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What Is Peer-to-Peer Lending?

Understanding P2P Lending

History of Peer-to-Peer (P2P) Lending

Special Beacons

Peer-to-Peer Lending Q&As

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What is Peer-toPeer (P2P) Loans? The definition and the way it operates

By Julia Kagan

Updated December 20, 2022

Written by Thomas J. Catalano

Fact checked by Amanda Bellucco-Chatham.

What is Peer-to-Peer (P2P) Loans?

Peer-to peer (P2P) lending enables individuals to obtain loans directly from others eliminating banks as a middleman. Websites that support P2P lending have significantly increased their adoption as a different method of financing.

P2P lending can also be referred to as «social lending» or «crowd lending.» It has only been available since however, the list of rivals already includes Prosper, Lending Club, Upstart, and StreetShares.

The most important takeaways

Peer to peer (P2P) borrowing is type of technology in finance that allows individuals to loan or take cash from another without going through banks.

P2P lending sites connect borrowers directly to investors. The site sets the rates and conditions, and allows the transactions.

P2P lenders are investors who wish to receive more money from their savings in cash that they would receive from a bank savings account or certificate of deposit.

P2P borrowers seek an alternative to traditional banks, or the possibility of a lower interest.

The default rates for P2P loans are significantly higher than the default rates for traditional finance.

Understanding Peer-to-Peer Lending

P2P loan websites link borrowers with lenders. Each site sets rates and conditions and enables the transaction. The majority of websites offer a broad variety of interest rates dependent on the creditworthiness of the applicant.

An investor creates an account on the site and deposits a sum of money to be dispersed in loans. The loan applicant creates an financial profile which has been assigned risk class that determines the interest rate the applicant will pay. The loan applicant is able to review offers and choose to accept one. (Some applicants break up their requests into chunks and then accept several offers.) The money transfer and monthly installments are managed by the platform. The process can be completely automated, or lenders and customers can decide to haggle.

Certain websites specialize in specific kinds of borrowers. StreetShares for instance is designed for small businesses.1 Furthermore, Lending Club has a «Patient Solutions» category that connects the doctors that offer financing options with potential patients.2

History of Peer-to-Peer (P2P) Lending

In the beginning the P2P credit system was viewed as providing credit access to those who were rejected by conventional institutions or a way for consolidating student loan debt at lower interest rates.

In recent years, however, P2P lending sites have extended their reach. The majority of them target customers who wish to settle credit card debt at low interest rates. The home improvement loans as well as auto finance are also offered at P2P lending sites.

Rates for those who have good credit scores are typically less than similar bank rates, while rates for those with poor credit histories could be higher. LendingTree.com is an example. It listed personal loan rates of 5.99% to 35.99 percent as of December. 15 2022.3 Peerform posted loan rates at a range of 5.99 percent up to 29.99%.4 The average interest rate for credit cards was 19.59 percent as of December. 14th, 2022 according to CreditCards.com.5

For lenders, P2P lending is a way to generate interest income from their funds at rates higher than those offered by conventional saving accounts, or certificates of deposits (CDs).

Some P2P sites permit lenders to begin with a that has a balance of just $25.

Special Takes into Account

Individuals who want to lend money through a P2P lending site need to consider the possibility that their borrowers could default on their loans like conventional banks do. Studies into P2P lenders has indicated that defaults are much more frequent than the defaults faced by banks that are traditional, often exceeding 10%.6

The Index of the S&P/Experian Composite index for defaults for all kinds of loans for U.S. borrowers has fallen from about 1.55% to 0.59% over the ten years before November of 2022.7

Any consumer or investor looking at a P2P lending website must also look into the fees for transactions. Every site makes money differently, but fees and commissions may be paid to the lender, the borrower, or both. Like banks, the sites may charge loan origination charges, late fees and bounced-payment charges.

Is peer-to-peer lending (P2P) safe?

Peer-to-peer lending can be more risky than a savings account or certificates of deposit however the interest rates are often much higher. This is due to the fact that those investing in peer to peer lending website assume the majority of the risk. This is normally taken on by banks and different financial institutions.

How big is Peer-to-Peer (P2P) credit?

The global peer-to-peer lending market was worth $83.79 billion as of 2021 according to figures from Precedence Research. The market is expected to be $705.81 billion in 2030.8

How can you invest in peer-to-peer lending?

The simplest way to invest in peer-to-peer lending is to open an account on a P2P lending website and start lending money to the borrowers. The majority of these sites let the lender choose the characteristics of their borrowers which means they can pick between high risk/high return or less risky returns. Additionally, many P2P lending websites are public companies, so one can also invest in them by buying their shares.

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