What is Peer to Peer Lending?
Story of the SETH :
1980-90: Hindi and south films: There was always this bad SETH, generally a rich merchant who would lend the person money at high interest in exchange for his property papers. For some reason, drought, famine or flood. The family would not be able to pay the money. So the Seth would just take the land instead.
Enter our Hero(AB Sr / Rajni / Chiranjeevi generally), he would kick the Seth, fight his people kill his armed guard and take back in the property which was ideally Seth’s property now. For doing what’s right SETH becomes a villain. A hero who fought illegally snatching the property is idolised.
What Seth does: give money on interest against mortgage is called Money Lending.
The bank does exactly that but legally with Govt. stamp. They lend money against collateral(Property Papers) and take an interest. Banks, Seth or other smaller chit funds were the only sources of Loan taking in India.
2014, Faircent enters. India’s 1st Peer to Peer Lending Platform. P2P platform (Peer to Peer lending platform or P2P websites will henceforth be called platform) made the entire process of borrowing and lending online. Instead of bank lending money, now we small investors could all act as SETH and lend money to borrowers.
How Does P2P Borrowing Works:
A Simplified version of it would be :
Borrower: Loan Dedo
Platform: Check eligibility. If ok aja.
Borrower: Mujhe chahiye itna sarra pesa.
Platform : ok itna interest lagega.
Borrowers: Jada nahi hai. Loot rahe oh . Ok, chalega.
Lenders : Humare pass bahut pesa hai.
Borrowers: Hume bhi dedo malik.
Multiple Lenders: Yeh lo pese. Aau time se lotta dena.
Platforms: Yeh Lo contract. Sign it. We are intermediary.
Borrowers: Returns money.
Lenders: Gets Principal + Interest.
Platform: Takes margin from Interest.
From borrowers point of view :
Platforms removed a lot of paperwork involved. And instead screened people on a variety of things including Credit Rating, your social media, business or job, whether you rented house or owned. They evaluated you for things bank stays away from.
India has a credit system. They went way beyond. Making for it easy for many to enter borrowing without the paperwork.
From Investors Point of View :
They gave an opportunity for small investors to start lending. You could do so with a small amount. For Example, you can start investing with 25,000 as min in Faircent. And even Rs.1000 in Lendenclub.
You create a lending profile with the lending(Faircent, Lendenclub,Finzy) platform. Pay them a small amount and supply documents (i.e bank details, id, address verification, pan etc) for processing and creating an account. The platform creates an Escrow account (more of it next para). They don’t need much for a lending profile. As you are investing, it’s not a risk, unlike borrowing.
Now, each platform will create an ESCROW account (an Intermediary account) where your investment is kept. i.e. Platform cannot access your money. This is as per RBI rules. Its an Escrow Account because the platform should not run away with the money. The platform cannot use your money unless you give permission to.
You recharge your account with money. It’s kept in an escrow account till you decide to assign it to borrowers.
Ideally, You choose a profile. Assign all your amount. The borrows take it. Pays back. And you get high interest. That’s the Ideal world. But borrowers screw up. They don’t payback. It affects their cibil but either they don’t care or in trouble that cibil score doesn’t seem important.
Ok, So RBI has limited the exposure of a Lender to a Borrower. It’s 20% of the total amount a borrower wants to borrow. So you can avert high exposure to defaulting borrower.
There are few basic rules that is recommended by P2P platforms :
- Diversify your lending to many followers
This is partially mandated by RBI so to avert risk exposure. But platforms recommend only minimum investment in each borrower. In the case of LendenClub: Rs: 500. Why it is recommended and why it is important is, because a certain percentage of borrowers will default. some in 1st EMI and some in last. But a small per cent will default. How it works for you suppose you have invested Rs. 10000 at 500 per person VS Rs.10000 at 2000 Per person. In case 1 if 2 people in 20 defaults and in Case 2 if 1 person in 5 defaults. in 1st case the amount effected is much lesser than say case 2 . The graph explains the scenario. Do note if the % of default remains the same than the effect on revenue remains the same. Also, there is another point of Risk against different credit profile.
Diversify against different risk profile :
to earn more it is advisable to split loans to a different Risk category. Generally, the risk is high with higher returns and low with lower returns. Split you’re investing based on your aptitude but my personal experience says do not give too much exposure to a high-risk category. Prefer average and low category risk profile but split between them.
Higher Returns works only on reinvesting.
Below graph shows how a profile would fare if money is reinvested. Suppose a principal is made for 1 year. If 1 person reinvests his principal + interest every month vs another who just reinvest his principal after loan duration is over. Loan Duration for the example is 3 months.
1st Person: Principal: 3000: 20 % returns after 1 Year: 3778.
2nd Person: Principal: 3000: 20% returns after 1 Year: 3600.
Over the period, the interest in interest adds up big.
Invest for Long term :
Investing only works magic in long term. And with reinvesting the interest.
For example: At 15% YOY interest on the principal of Rs: 1,00,000. 10 years total compounded amount would be :
Rs : 4,44,021.32. That is almost 4.44 times if you keep reinvesting regularly the interest earned along with the principal.
Starting the Peer to Peer Lending – Investing journey :
Go to The Website and click on the register as the lender.
Lendenclub Registration Page:
Faircent Registration Page :
i2i Funding Registration Page :
Now once you are done with registration. Add money to Escrow account. This can be done using normal banking transfer or UPI or IMPS. Once the fund reflects.
Time to LEND:
- Many Platform have
Automatic Investment Option
which lets you select the type of profile you would like to invest in. It also reinvests your money to customers.
- Generally, I prefer manual selection but if you don’t want to manually choose than auto investing and fewer risk categories are fine.
Few Points on how to Select Good profile for Manual Investing :
- CREDIT SCORE: Most important. But in investing platform, you don’t find high credit score customer. So invest in 650-750 kinda customer. Anything less is high risk.
- 1st Check the difference in salary and interest he is paying. Suppose borrower is earning 25000 but is paying an interest of 20000. And is asking for a loan of 20000 for 6 months. Would roughly be 3500 a month. If he chooses to pay his loan back he will have nothing left for self spend. This is a big Red FLAG. The difference between salary and existing interest + new interest should be sufficient to have some money at hand. Else customer is likely to default.
- If he is existing borrower of the platform. If yes how many loans. And has he paid back? Many platforms tell you if he has defaulted. If he is paying his loan back. He is likely to pay his new loan back, but he is addicted to a debt trap.
- A number of existing loans that he has taken and paying currently. Shows if he regularly pays his loan. Also, age of loans and how long is he paying it.
- AGE of borrower: if young and 1st loan. Avoid. If young but has existing loan paid. Than consider. The idea is he should know what Credit Score is. A young person likely won’t.
- House Owned Or Rent: Owned house people have 1 less thing to pay for. But also check if they have a loan against the house. They are basically renting their house from the bank. If they are staying in the ancestral property (Mother Father Property), Young people especially than they are at a more comfortable place financially.
- Female tend to be smarter and payback loans better than Males. This is not supporting or opposing Feminism but just a verifiable stat.
- The Place s/he works. You can google his company and get an idea of how the company is doing. Govt Jobs better.
Sample 1 :
MALE: is Young, But working with Govt. . Salary is 17000, the existing loan is 8000, Still has some spare. is an existing borrower.
VERDICT: Might LEND.
FEMALE: Young, Working with the hospital, Good salary – 68000, Total ongoing loan: 13000 ish. Has a lot to spare. Is existing Borrower.
Verdict: Definitely Lend
Sample 3 :
FEMALE: Single, Not very young, Working with good company, Salary: 25k, Probably call centre. Is existing borrower. But has a very high previous loan. at 21000. Way too high.
Verdict: Definitely REJECTED. Too Risky.
Sample 4 :
MALE: young, Shopper Stop employee. 15k but has only 5k Loan, Can payback. is existing borrower but has a low credit score.
Verdict: Can Lend. Still Safer side. as the home is owned. Loans are less.
These are a few points that will help in deciding whether the borrower is credit Worthy.
REMEMBER DON’T CHASE INTEREST , CHASE WORTHY BORROWERS . MONEY WILL FLOW.
Always Upgrade your list on what criteria you should look for and keep improving.
FEW Other Q&A :
- What is Return Expectation?
Don’t target a particular return but target good borrowers and good platforms. Returns are generally 18-24 % or high. but with default. 15% should be ideal. Anything up is a bonus. Always work on how to find a good borrower.
- How Risky is Peer to Peer Lending/Investing?
Remember SETHS around India have managed to live their life just on interest earned post lending. Peer to Peer Investing is about as risky as direct investing in Shares. But is easier to understand. Difficult to master. It does not fluctuate with the market. But fluctuates with overall sentiments in the country. During Covid, the defaults of some platforms touched 20% or More. But generally, it is around 5 % on well-managed Platform. Expect default and don’t get emotional. Be on it for a Long run. I would Rate it MEDIUM RISKY.
- Liquidity in Peer to Peer Investing?
P2P investing only offers Partial Liquidity and emergency fund might not be available as and when required. Only invest the portion of money you could do away for a year. Invest so that you can buy a house say in future through the interest earned. Plan Long Term.
- Should Lending be Part of Portfolio?
Of course. It’ll be stupid if it’s not part of. Remember Seths live their life based on lending. But don’t make a big exposure early in your portfolio but it should be a sizable investment. Between 15% -20% exposure to it looks good in the long run.
- Minimum and Maximum allowed? The Minimum is set at Rs. 25000 but Lendenclub and few others let you start at Rs.1000. It’s a great way to start testing waters. Max for and an individual can be up to 10 Lakhs but RBI has set a Max Limit of 50 Lakhs. You Need a proof that you are worth as much for a platform to increase your Limit. This is done to decrease overexposure and also to keep a check on hawala money and black money being invested.
As Kids we love the hero, as adults we understand the SETH. Be the SETH