Peer-to-Peer (P2P) Lending: A Complete Guide

Peer-to-peer lending is the latest innovation in finance, promising investors high returns. But is it worth the risk?

Peer-to-peer lending, or P2P lending, has emerged as a popular alternative to traditional finance methods, offering higher returns for investors and easier access to credit for borrowers. But like any financial product, it carries both risks and rewards. In this article, we’ll examine the ins and outs of P2P lending and help you decide whether it’s a viable option for you, whether you are looking to invest or borrow money.

What is peer-to-peer lending?

Peer-to-peer lending is an innovative financial model that connects individuals who want to lend money with those who need to borrow. Unlike traditional banks, P2P lending platforms serve as intermediaries that facilitate loans directly between individuals.

On many websites, the money that you deposit for peer-to-peer investing is automatically distributed among multiple borrowers. However, on other peer-to-peer lending platforms, you have the option of choosing who you want to lend your money to. (P2P Loan) Peer-to-peer loan interest rates are often greater than those offered by regular savings accounts.

How does peer-to-peer lending function?

Peer-to-peer lending has a simple mechanism. All the operations are completed on a mobile application or website. The following steps outline the general process:

• A prospective borrower fills out an online registration form on the p2p lending platform to apply for a loan.
• The platform evaluates the application and evaluates the applicant's risk as well as credit rating. A suitable interest rate is then applied to the applicant.
• When the registration is authorised, investors on the P2P lending platform provide the applicant with the available options based on his credit rating and allocated interest rates.
• The candidate should consider the various possibilities and select one.
• The candidate is accountable for paying interest regularly and returning the principal amount when the loan matures.

Benefits of P2P Lending
 

There are several advantages to participating in P2P lending, both for borrowers and investors:

• When compared to other types of investments, P2P lending offers investors higher returns.
• Peer-to-peer lending is a more approachable source of revenue for some borrowers than traditional loans from banking institutions. It could be due to the borrower's poor credit score.
• Because there is more competition among lenders and there are fewer origination fees, P2P loans normally have lower interest rates.

Risks Associated with P2P Lending 
 

Peer-to-peer lending does, however, have a few drawbacks, such as:

• Peer-to-peer lending carries a significant risk of default. Many individuals who seek P2P loans have poor credit scores, which prevent them from obtaining a traditional bank loan. As a result, investors must be aware of this risk when investing in a borrower.
• There is no insurance or government security in place.  If a borrower defaults, the government does not offer insurance to the lenders.
• Some authorities prohibit peer-to-peer lending or impose investment requirements on enterprises that provide such facilities.
   

How Is P2P Lending Regulated In India?

Regulation by Reserve Bank of India (RBI)

The Reserve Bank of India (RBI) is the primary regulatory authority overseeing P2P lending platforms. It ensures that these platforms operate under established guidelines to protect both borrowers and lenders, maintain financial stability, and enhance trust in the P2P lending ecosystem.

Regulatory Guidelines for P2P Platforms

RBI has laid down specific guidelines for the functioning of P2P lending platforms, including requirements related to financial stability, such as maintaining a minimum net owned fund, and imposing caps on the amount an individual can lend or borrow.

Operational Guidelines

The operational framework requires that P2P lending platforms function strictly as intermediaries, facilitating the connection between borrowers and lenders without holding any deposits.

KYC and Credit Assessment

To mitigate risks, P2P lending platforms are mandated to adhere to KYC (Know Your Customer) norms, verifying the identities of all lenders and borrowers. In addition, platforms must conduct thorough credit assessments and share relevant information to help lenders make informed decisions.

P2P Lending vs. Traditional Loans
 

While P2P lending can be an attractive alternative to traditional loans, it’s not always the best option. For instance, if you’re looking for a loan with security and regulatory oversight, a bank loan might be a better choice. Unlike P2P loans, bank loans are often insured and come with consumer protections.

P2P loans are like instant personal loans but without much authorisation. It is best to get a loan from a conventional bank if you need money. IDFC FIRST Bank gives instant personal loans with the major benefits of a P2P loan, but with added security. You can also check you EMI amount with IDFC FIRST Bank’s personal loan EMI calculator. Simply enter your loan amount requirement, period for which you want. The fact that you can get personal loans online proves that bank loans are on equal footing with P2P loans.

Disclaimer

The contents of this article/infographic/picture/video are meant solely for information purposes. The contents are generic in nature and for informational purposes only. It is not a substitute for specific advice in your own circumstances. The information is subject to updation, completion, revision, verification and amendment and the same may change materially. The information is not intended for distribution or use by any person in any jurisdiction where such distribution or use would be contrary to law or regulation or would subject IDFC FIRST Bank or its affiliates to any licensing or registration requirements. IDFC FIRST Bank shall not be responsible for any direct/indirect loss or liability incurred by the reader for taking any financial decisions based on the contents and information mentioned. Please consult your financial advisor before making any financial decision.