Many of our clients have been asking us about Peer to Peer lending, and what we think of the investment proposition, and it is an investment area which we have been monitoring for some time.
What is Peer to Peer Lending?
Peer to Peer lending is a form of borrowing/lending between individuals or companies, without the need of a bank, building society or private equity firm. Typically used when an individual or company wants to borrow money for their next big idea and they are unable or unwilling to go down the traditional banking route for financing.
The Peer to Peer website acts as a dating website for borrowing or lending money. It is the conduit between the borrower and a lender, where they can find each other and decide if they are right for each other.
There is one key point that must be remembered at all times:
• There’s no guarantee your money will be returned
Unlike Building Societies or Bank Deposits which have FSCS protection (Deposits up to £75,000 per person per banking license) Peer to Peer lending is not covered. This means, that if the individual or company doesn’t succeed in their enterprise, you could lose all of your money.
However, there are many benefits to the investor:
• The rates you are offered will most likely be higher than that from a traditional bank deposit.
• You are in control of who you lend to; you can decide whether you like the investment proposition and you can watch their idea grow
• Cutting out the middleman (the bank) can reduce the fees you pay
• You can lend money at smaller amounts
• The Financial Conduct Authority has regulated Peer to Peer lending, which means that the companies have to be clear and upfront about the risks involved and from April 2017, the providers will have to have a cash buffer of £50,000 should they run into difficulties
• Some providers offer their own contingency fund built up from customers fees, which are used if a borrower defaults on their loan
• You may be able to take your money out, some providers offer a function to allow you to sell your loan to another individual, if you need access to your capital
• As I stated above, you are not covered under the Financial Services Compensation Scheme and you could lose all of your investment
• You may have to lock up your money for some period of time, and without the option to sell the loan, you may not get access to your capital
• Some Peer to Peer lenders charge fees, which reduce the headline rate of interest you can achieve
• You may have to wait for your money to be invested whilst your money is matched to an investment, during which time you will earn no interest.
• You will need to declare any interest received from an investment via a Self-Assessment Tax Return, however these investments will soon be allowed to be held in an ISA (and therefore be tax free)
The Gould Financial Planning Investment Committee View:
In principle we find the proposition of Peer to Peer lending appealing, however we have a number of concerns;
• We are looking for this to operate in the ‘low risk’ asset class, yet the regulation of this market is unclear.
• There is no FSCS protection.
• The loan book may not be pooled so you could, in theory, end up lending £20,000 to somebody to fund an extension to their home which just seems risky in the extreme.
• Whilst there can be a contingency fund, we do not feel that this should be the selling point of the investment. The investment should stack up in its own right and the contingency fund should be the safety net.
We will continue to monitor the market as we feel it could play a part as it develops further, and we are specifically looking for the following:
• If there are any Peer to Peer providers with a pooled loan book, thereby minimising some of the risk that your investment is placed into one higher risk strategy
• If there are any independent Peer to Peer comparison sites, this would allow us to compare these companies, like we would with other investments.
• It would be appealing to us if a major name, such as Prudential or Standard Life were to offer a pooled fund. Whilst we would anticipate that the returns would be lower, we do believe that a higher level of due diligence would be available and the reputational risk of failure would provide us with a level of reassurance
We are currently monitoring some Investment Trusts which appear to be operating on a pooled basis, and we would be happy with these investments if they are diverse enough for what we are looking for, and if their track record (at least three years) stacks up, we may consider these investments in the future.