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P2P lending refers to Peer-to-Peer lending or crowd-lending. It is a new form of lending money for individuals and business’ through online services that make a match of Lenders with Borrowers. Companies provide favourable service compared with other traditional financial institutions. This means the Lenders are able to earn higher returns as compared to the savings and investment products offered by banks while Borrowers can borrow money at lower interest rates.
In some cases, large amounts are lent to businesses. Secured loans can be offered by using luxury assets such as vintage cars, fine art, jewellery, watches, buildings, aircraft, and other business assets as collateral. Some other forms of peer-to-peer lending are student loans, commercial, real estate loans, payday loans, as well as secured business loans, leasing and factoring.
The interest rates are managed by the Lenders who compete for the lowest rate on the reverse auction model. It can also be fixed by Borrower’s credit by the intermediary company on the basis of an analysis. The Lender’s investment in the form of loan is not normally protected by any government guarantee. Some of the other models include P2P lending company which maintains a separate, ring-fenced fund. The lending intermediaries are for-profit businesses; they generate revenue by collecting a one-time fee on funded loans from Borrowers and by assessing a loan servicing fee to investors.
Investment and borrowing can be done by the P2P platform and the interest accrued on the loan may be a reward. One can invest in a single loan or spread investment across multiple loans. One can decide to contribute only a portion of the full amount required for the loan. The interest rates charge depends on the Borrower’s profile and credit history. The people with a good credit score may be eligible for bank loans. With P2P loans, Borrowers’ don’t have to jump through these hoops, making the disbursal of the loans faster. That’s why peer to peer loans have gained popularity.
There are various P2P platforms in the marketplace for money lending activities. Individuals can lend money to others where the Lender and the Borrowers are matched for a common purpose by using their online services. Lenders can go through various profiles of the people in search of money. They offer an amount to individuals or businesses which they find more suitable and apt.
The loans can be available in banks and non-banking finance companies (NBFC) sources for those who cater to the P2P platform. In India, the banks follow mediocre credit assessment policies which are majorly for Borrowers’. Generally, all the major borrowers’ lie in between these extremes. Most of Indians can borrow on P2P platforms.
After creating and registering the Lender’s account on a platform, it will show a list of the entire Borrowers’. The basic information of the Borrower is checked, like their credit score, the purpose of the loan, tenure the loan, history of loan and delay in repayment etc. This gives a clear picture of Borrower’s trustworthiness. A higher rate of interest can be charged from Borrowers’ with low credit score. One cannot get the same from interest from low-risk Borrowers with a good credit score. Thus, one needs to understand that with the higher rate of interest comes along with greater default risk.
Investment should be made with at least half of money in medium risk loans. Then, investment should be made on at least 30% in low-risk loans. In this case, we put the least amount of money at risk and still get a good rate of interest. It can be the right balance between risk and reward. After putting all money into one basket, it automatically increases the chance of losing all the capitals.
One can always start investing in a small amount. After checking the finances and figure, one should start an investment with that amount on the platform. After determining as to how to choose the Borrowers’ and diversify the money, returns can be observed and thus investment can be done.
P2P lending started in the year 2014 as an unregulated space. Later on, the RBI issued guidelines which were required to be followed by these platforms, ultimately allowing them to be registered as Non-Banking Financial Companies or NBFCs on September 2017. One should check the platform whether it is registered with the RBI and compliant with the regulations.
After investing safely and doing everything according to the process. Even after that, the Borrower defaults. Various new techniques are used to provide water-tight protection. Auto-debits are used to withdraw the EMI from Borrower’s account. A regular follow up reminder calls and messages come up till the Borrower doesn’t pay. If the Borrowers still refuses to pay, the security cheques are used to cover the repayment, it will be followed up with some legal action.
The platform will also have a collection agency that can take over the recovery process of the loan. The Lender will get updates about all the steps taken for loan recovery.
Condition – RBI requires NBFCs to update all credit agencies about the loan repayments so that the default on a registered platform will negatively affect the Borrower’s credit score.
As per the requirements, we can choose the starting time for P2P lending. The RBI has issued a notification for compulsory registering all the P2P lending platforms as Non-banking financial companies (NBFCs) RBI has also published a set of rules and guidelines for P2P lending platforms.
Build refers to building diversified investment portfolios for over a period of time. This means that investors should be made in small loan amounts spreading across a large number of Borrowers. This will allow some relaxity to absorb any sudden shock arriving from someone defaulting loan.
It is advised to invest the money instead of keeping it unused. Idle money does not generate any revenue and has an array of asset classes to choose from. P2P lending is delivering higher and stable returns as compared to stocks and MFs. It should be considered as part of the investment portfolio.
All Borrowers are listed on various risk buckets ranging from low to high-risk dependency on the basis of their credit evaluation by the under-writing algorithm. Low risk will ensure that money is borrowed faster but will ideally come with a much lower return on investment than a high-risk loan. P2P lending as an investment but it is not a safe option like Bank FD’s. They carry a high degree of risk but they also reward investors with high monthly returns.
As far as Platforms are concerned, there are a lot of P2P platforms that have mushroomed in India in the last 2–3 years. I will suggest you to thoroughly read and review the platform before joining.
There are a list of some genuine platforms in operation, which are:
The risk of Default by the Borrowers is the major risk involved in the peer to peer lending. The safety of the investment on a peer to peer lending platform depends on the following major factors –
After Investor has chosen of which Borrowers’ to fund, depending on his/her risk appetite, it is important to diversify the investments to minimize the risk of defaults.
As per recent Research and Analysis Report released, it shows net returns after reducing loss in a lucrative range of 18% to 20%.
The loan also gives a thorough view of all the risk elements. Average, high-risk portfolios will offer a gross return of 22.7% and a net return of 18.7 % after taking a loss return of 4% after consideration.
In the peer-to-peer lending, tenures are already defined easily as per the borrowers and lenders. The tenure for the loan may extend from 6 months up to 3 years.
Investors can earn monthly returns in the form of principal repayment and interest. This gives a huge opportunity offered by P2P lending overstocks, MFs, SIPs, etc. Such investments have a minimum lock-in period (for up to 3 years) while in P2P lending returns comes every month which can be invested again to generate more compounding returns.
An investor may invest in various instruments like MFs, SIPs, stocks and invest in P2P lending which diversifies his/her market-linked investment portfolio. Diversification in the loan segment can be achieved by investing across borrower profiles – demographics, risk-grades, geographies and professions.