You may have heard about peer to peer lending but don’t know how it exactly works. If you are looking for a guide to make money, this guide could be the right option for you. P2p lending platforms match individuals looking to lend money to those who want to borrow money. These platforms make money by charging investors and borrowers fees to facilitate the transactions. These platforms eliminate the conventional financial institutions and banks from the process and claim that it helps investors in earning higher returns while borrowers pay less interest compared to traditional loans.
Now let’s take a closer look at how p2p lending works for investors, how much money you can make from it, and the risks associated with it.
How Does P2p Lending Work For Investors?
With interest rates having been low for years, investors have been looking for alternative investment options that can help them make high returns on investments. As a result, the number of p2p platforms and people using them has increased rapidly.
If you want to invest money in power to peer loans, you have to make an account on a p2p platform and transfer the amount you want to invest. There are a number of platforms in the market, so you must do research and shop around to find the right one. Before investing money, you have to decide the following things:
- How much money you want to invest – p2p platforms set the minimum amount that you can invest, so keep that in mind.
- For how long you are comfortable locking your money as you can invest for three months to five years.
- How much interest rate do you want to make. Always keep in mind the higher the interest rate, the more will be the chances of losing money.
All the p2p platforms allow you to spread your money across multiple borrowers. It helps in reducing the risk of losing money due to borrowers’ default. You can also make tax free interest by investing in p2p loans through innovative finance ISA (IFISA).
How Much Can You Earn?
The interest you can earn depends on the time at which you are ready to lock your money. Typically, you can earn between 2% to 6%, and it also varies from platform to platform. You can earn high returns if you invest your money for a long time and also if you are ready to take more risks. The interest rate on p2p loans is higher than the conventional savings account and investment.
The interest rate depends on the creditworthiness of the borrower. The lower the credit score of the borrowers, the more interest they have to pay. Therefore, if you are ready to take a risk and invest in high-risk individuals or businesses, you can receive more competitive interest rates.
In contrast, if you want to invest in a safe manner and lend to borrowers who are less likely to default, the interest will be lower.
Always keep in mind that the interest rate you see on p2p platforms is not guaranteed; it is targeted or projected, which means you will actually earn less. If you invest for a long time, you can enjoy the benefit of compounding interest and reinvesting can help you make 10% more interest.
Risks Of P2p Lending
If you are thinking of investing in peer to peer lending, it is essential to understand that you are investing your money, so there are chances of losing some or all of it. In other words, you should not look at p2p lending like a conventional saving account.
Along with numerous benefits for investors peer to peer investing has some risks that you should be aware of:
No Protection From Government
When you put your money in the UK savings accounts, it will be covered by the Financial Services Compensation Scheme (FSCS). However, it will not provide protection when you invest money in peer to peer loans. It means if a borrower defaults, you can lose all of your money.
Most p2p platforms have contingency funds to provide protection against borrower defaults. But it is of no use if multiple borrowers default simultaneously. In addition, these schemes vary from platform to platform, and it is vital for you to carefully understand the terms and conditions.
P2p Lending Platform Could Go Bust
If a peer to peer platform goes out of business, it may result in losing all the money you have invested so far. This is because now all the p2p platforms in the UK are regulated by the Financial Conduct Authority (FCA). According to the FCA rules, platforms have to keep investors’ amounts in ring-fenced accounts. It may provide you with some peace of mind, but it will not eliminate all the risks.
You May Not Withdraw Money Early
When you invest your money in p2p loans for a fixed period, you may find that some platforms do not allow you to withdraw the money earlier, while others charge fees for doing so. However, some platforms have a secondary market where you can sell your loans to another lender and withdraw your funds. But it can take a long time to find a lender who wants to purchase these loans. Moreover, it means that you must have sufficient money in your instant access account so that you can use it to cover your emergency expenses.
Conclusion
If you understand the risks and take appropriate measures to mitigate them, you can make steady and significant returns from peer to peer lending UK. Of course, it helps you in making higher returns compared to traditional savings accounts and investments. But you should never invest more than what you can not afford to lose. After the FCA regulations, this investment has become more protected than before. You should always create a diversified portfolio to get the maximum out of your money and minimise risks. Any money that you earn through p2p lending is taxable except that you invest through IFISA. You can invest in p2p loans through this ISA to earn returns in a tax-free wrapper. Understand all the processes and invest wisely to make the best out of your money.