Pros and Cons of Social Lending

Social lending (also known as “peer-to-peer” or “person-to-person” lending) is a way for those who want to borrow or lend money, without having to go through the normal systems like traditional banks.

Requesting a loan for school expenses, starting a business and buying a car aren’t always easy for people with bad credit or no credit at all. Social lending has started to really help people who need financial assistance. On the websites where the borrower gets to tell their story and why they need the loan, the lender can become involved with the borrower in a more personable way than a bank or credit card company would, and hopefully after reading a touching story they would be more prone to try and help out the person with their financial needs.

One of the first and perhaps better known social lending websites is prosper.com. Prosper uses an auction model which provides an “open and transparent” way to either get a personal loan or to invest in other people’s personal loans. Prosper allows their users to request loans between $1,000 and $25,000. They have it setup so that the borrower can set the maximum rate which they are willing to pay for the loan, and they also get to tell their own story about why they are requesting the loan. Prosper doesn’t provide their services for free though, they make their money by collecting a one time fee on the loans from borrowers and then also receive a 1% per annum loan servicing fee from the lenders.

Being able to set your own rates for the loan is probably the best thing about social lending. Some loans and credit cards have such absurd rates that you’d end up paying for that pizza you ordered in college long after you graduated. Setting your interest rate low and having it not moved up is a great thing.

Another positive thing is the community of borrowers and lenders on these websites. Sharing your experiences and being able to truly benefit from the loan you received helps fulfill not just your life, but also the lender’s because they can see just how much it has helped you and made your life better. After you paid off your loan and are doing well, you can even then start being a lender and making profit.

The biggest downside of these social lending websites is the risk factor. However, most people who play in the stock market are well aware of the potential of losing in their investment, so you should be advised on this beforehand as well. If you are a lender at Prosper and the borrower defaults on their loan with you, you will lose the amount invested in the loan. Depending on the size of the loan, that can be quite a bit of money. Make sure before loaning out the money that you fully understand the borrower’s situation, risks, etc – and never loan more money than you would be afraid to fully lose in the long run.