By our guest writer, personal finance journalist, Harriet Meyer
By slotting a portion of your savings in peer to peer you are putting your faith in a booming finance sector, but how safe is your money?
P2P sites match people with money to lend, to businesses or individuals that need to borrow, with both benefiting from attractive rates.
This sounds great in theory, but as a relatively new form of finance P2P can be risky. Although some platforms in the blossoming sector benefit from an increasing number of safeguards with a package of measures.
Since April this year, P2P lending has been regulated by watchdog the Financial Conduct Authority.
So if a platform isn’t fit for purpose, it won’t get through the vetting process. However, lenders don’t have the safeguard of the Financial Services Compensation Scheme that protects savings up to £85,000 in banks and building societies and credit unions.
Instead, each P2P platform uses its own alternative methods aiming to reduce risk, such as putting reserve funds in place to cover any sums lost through defaults on loans.
Crowdstacker, for example, only offers opportunities to established businesses that have passed its own set of requirements. This way, it avoids risky smaller start-ups that are more likely to default. Businesses will need a stellar track record to apply for loans through the site, so Crowdstacker has more confidence that they can provide solid profits to investors.
Other platforms have taken steps such as creating ‘slush’ funds that should, in theory, cover any losses incurred on lending opportunities that they offer.
Similarly, good quality P2P lenders typically rigorously credit-check individual borrowers, turning those who are considered too high risk away. Meanwhile, members of the Peer-to-Peer Finance Association are subject to extra rules, for example, any advertised returns must be the rate of interest after tax, defaults and charges.
If the worst were to happen and a P2P lender went bust, a third party would be appointed to take on the existing loans to ensure borrowers continue to repay as normal.
P2P could be considered a less volatile experience than investing in the stock market. Lenders with diversified portfolios can benefit from bad debt relief, enabling them to offset losses from loans in default against interest from those successfully repaid.
Like any investment, there are risks involved – but if you’ve done your homework, it could be worth dipping a toe in P2P in pursuit of profit as part of a balanced portfolio.
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