As banks and commercial lenders have begun to tighten the requirements needed to obtain financing, many small business owners have been turning to peer-to-peer lending. Peer-to-peer, or P2P, lending is basically the name given to a form of financing that occurs directly between individuals or “peers” without the involvement of a traditional financial institution.
Much of the success of P2P lending is a result of the social networking power and infrastructure of the Internet. Numerous sites have been recently launched that create a marketplace where borrowers and lenders can come together. Even among friends and family, everything is carried out formally and professionally. Many sites provide identification and verification services as well as an assessment of the credit risks. Clear, precise documentation covers the loan’s terms and conditions as well as the repayment schedule and tax payments as determined by both parties.
Once funding has been completed, many peer-to-peer lending institutions provide loan administration throughout the duration of the loan. This includes monitoring repayment. If 30 days go by without a payment, the loan is immediately sent to a collection agency.
These days there are two main types of P2P lending. The first is the “online marketplace” where borrowers post their loan requests and are connected with various lenders who “bid” on the chance to finance the loan. The other variation is the “family and friend model.” Here acquaintances come together to borrow and lend money in a formal and secure way.
To see if peer-to-peer lending is right for your small business, here are some of its pros and cons:
Lenders bid on your loan request which keeps interest rates low
Fewer requirements means more chances of receiving financing
You get a chance to tell your story
Loans from family and friends are formalized
Most sites have a funding cap around $25,000
Defaulting on P2P payments will still tarnish your credit rating
When borrowing from friends and family, you still risk straining the relationship if payments aren’t made.