P2P is an abbreviation for Peer to Peer Lending. It can be defined as a practice of lending money to individuals or businesses through online services that match lenders with borrowers.
Generally, these P2P Lending companies operate online. The overhead cost for these companies are generally low and the services provided by them are cheap as compared to Traditional Financial Institutions. These P2P companies are profitable for both the lender and the borrower because lenders can earn higher returns and borrowers can borrow at lower interest rates.
Peer to Peer Lending can be defined as a method of debt financing that enables the individual to borrow and lend money without the use of an official financial institution as an intermediary. Peer to Peer lending removes the middleman from the process.
P2P Lending is also known as social lending or crowdlending. All P2P Lending will be regulated by Reserve Bank of India. As per the Gazette of India notification P2P will be included in the NBFC Category and will be regulated by Reserve Bank of India.
Forms of P2P Lending:
- Crowd Lending i.e. they are the unsecured personal loans they are generally offered to individual, company or charity.
- Student Loans.
- Commercial and Real Estate Loans.
- Secured Business Loans.
Characteristics of Peer to Peer Lending:
- Transactions take place online.
- Generally, it is conducted for profit.
- No necessary common bond or prior relationship of lenders and borrowers.
- Lenders may choose which borrowers to invest in.
- Loans may be secured or unsecured.
- Loans are securities that can be transferred to others either for debt collection or profit.
Most peer-to-peer intermediaries provide the following services:
- Online investment platform to enable borrowers to attract lenders and investors to identify and purchase loans that meet their investment criteria.
- Development of credit models for loan approvals and pricing.
- Verifying borrower identity, bank account, employment, and income.
- Performing borrower credit checks and filtering out the unqualified borrowers.
- Processing payments from borrowers and forwarding those payments to the lenders who invested in the loan.
- Servicing loans, providing customer service to borrowers and attempting to collect payments from borrowers who are delinquent or in default.
- Legal compliance and reporting.
- Finding new lenders and borrowers (marketing).
Advantage and Criticism of P2P Lending:
Interest Rates:
One of the biggest advantages of P2P Lending is borrowers are offered lower interest rates as compared to a traditional bank. The lenders are also getting higher returns as compared to other investments. The interest rates offered by P2P platforms may differ from each other.
Credit Risk:
Peer to Peer lending also attracts borrowers who, because of their credit status or the lack thereof, are unqualified for traditional bank loans. Because past behavior is indicative of future performance and low credit scores correlate with the high likelihood of default, Peer to Peer intermediaries has started to decline a large number of applicants and charge higher interest rates from riskier borrowers that are approved.
Risk Factor:
P2P Lending Firms holds the lender’s money before giving it out to the borrower which creates a risk factor.
