For new ventures and businesses seeking an injection of capital to expand operations and reach their growth ambitions, traditional loans are not always the most suitable option to get the required funding. Peer-to-peer lending is an increasingly popular source of finance that businesses are exploring.

We outline what it’s all about, how it works and the pros and cons to weigh up when considering its suitability for your business.   

What is peer-to-peer lending?

Peer-to-peer (P2P) lending is a form of debt financing that allows individuals and businesses to borrow and lend money without the use of an intermediary, such as a bank. This type of alternative business funding offers several advantages over traditional bank loans.

Businesses can use peer-to-peer platforms to help fund projects at often more attractive rates than the high street lenders. These platforms also promise fast and simple applications and seamless transactions

Which parties are typically involved in peer-to-peer lending?

The main parties involved in this form of financing are the borrower, lender, the marketplace for peer-to-peer lending and loan servicers. The platforms are also regulated, ensuring that lending rules are adhered to and consumers are protected. Plus, they are often integrated with credit reference agencies (CRAs) to provide credit scores and help lenders understand risk levels.

How does peer-to-peer finance work?

Peer-to-peer providers connect borrowers directly with investors and lenders. Each platform or website offers different interest rates that work in tandem with the borrower’s credit score.

In a typical peer-to-peer lending transaction, the borrower and lender connect through an online marketplace that acts as a matchmaker. The borrower and lender agree on terms for repayment or interest-only payments. Peer-to-peer loan sizes tend to be similar to small business loan sizes, ranging from £5,000 and £500,000.

Most peer-to-peer platforms offer services for both sides to ensure transactions are agreeable. This includes security features that enable borrowers to match safely with lenders, identity verification processes, credit checks and marketing tools to help identify new opportunities.

Typical lending flow

• Lenders/investors – they open a lender account and deposit a sum of money as an individual loan, which (on some peer-to-peer platforms) can be divided into smaller chunks for safer investing across multiple offers.
• Borrowers – the P2P lending platform assigns the borrower a risk category, which then dictates how much interest they must pay on the loan.

Sometimes the lender and potential borrowers can haggle and negotiate, while on certain platforms, the process is fully automated.

Peer-to-peer lending pros and cons

Below, we’ve outlined the main pros and cons of peer-to-peer lending to help you better understand the benefits and drawbacks of using this source of funding:

Advantages of peer-to-peer lending

• Speed – you don’t have to apply for a loan (in the traditional sense) and wait for approval, giving you access to funds quickly and easily.
• Flexibility – repayment terms are usually more flexible than traditional loans, including selecting your preferred repayment dates and having the option to overpay and settle your loan early.
• Rates – borrowers typically enjoy low rates using P2P lending, while lenders can generate a higher return on investment, as they enjoy a greater share of interest payments.

Disadvantages of peer-to-peer lending

• Fees – while interest fees are typically lower than traditional loans, there are platform fees to consider (although higher borrowing amounts can mitigate these costs).
• No guarantee of an investor match – you’re relying on there being a suitable match between lenders and borrowers.
• Approval rate/focus on creditworthiness – you may struggle to find lenders willing to provide the required funds if you have a poorer credit history.

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What risks are associated with peer-to-peer lending?

As with any loan or finance offering, there are risks to consider. The main risks of using peer-to-peer lending include the potential for users to default on repayments (affecting lenders and harming borrower credit ratings), and relying on platforms to remain operational and secure.

Luckily, all peer-to-peer lending platforms in the UK are regulated by the Financial Conduct Authority (FCA). Also, most platforms have strict vetting procedures in place for both borrowers and lenders. For borrowers, this provides added protection, and for lenders, the platforms enable them to spread their risk across different loans. This means that if one loan goes into default, there’ll be less impact on their finances.

What should I consider before applying for funding through a peer-to-peer lender?

As a business seeking funding, it’s important to conduct extensive research and weigh the pros and cons. Consider the following factors before selecting peer-to-peer lending companies and platforms:

• Lending rate: Ensure that your selected platform offers suitable rates for the amount of money that you’d like to borrow.
• Your credit history: Consider your financial track record and credit rating, as this will influence the amount of money that lenders are willing to offer – learn how to build your business credit score.
• Company history: Lending platforms will consider how long your business has been trading as part of the match-making and evaluation process.
• Business size: Small businesses are typically offered lower amounts and higher rates due to the increased lender risk.
• Fees/charges: Factor in all fees, including platform service charges, arrangement fees and interest rates when judging cost-effectiveness and total cost of borrowing.

Peer-to-peer lending platform comparison: selecting the best P2P solutions

The following table outlines some of the top peer-to-peer lending platforms, their key features and the suitability considerations.

What’s the difference between peer-to-peer lending and crowdfunding?

Peer-to-peer lending and crowdfunding are both alternative methods for businesses or individuals to gain funding, which involve connecting investors and lenders to projects and businesses. However, they differ in structure. P2P lending is debt financing, while crowdfunding is typically equity financing, where investors provide funds in exchange for rewards, a stake in the business or a percentage of future profits.

Also, with crowdfunding, there’s a risk that the investor may lose their original investment if the project fails. Peer-to-peer lending is less risky for investors as it offers more reliable returns.

What are the alternatives to peer-to-peer lending?

Here are some of the most common alternatives to peer-to-peer lending companies when seeking fast and flexible funding:

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• Angel investors: high-net-worth individuals who invest their money into early-stage businesses in exchange for equity and industry connections.
• Venture capital: firms looking to invest in new or fast–growing companies that provide capital in exchange for a stake, level of control and/or percentage of future profits.
• Crowdfunding: platforms on which to share your project, venture or funding needs to gain backing of multiple investors and provide promises of rewards, benefits or profits upon future success.  
• Government-backed loans and grants: opportunities for eligible companies to access funds at discount rates, where the government offers a guarantee or, in some cases, where the funds don’t need to be repaid.
• Merchant cash advances: revenue-based funding that aligns with performance, where capital is repaid as a percentage of monthly card sales.
• Business loans: various secured or unsecured loan options from banks and traditional lenders, or private and digital lenders like iwoca, which offer faster access to funds and greater flexibility of use.

With an iwoca Flexi-Loan, you can borrow £1,000 to £1 million for a few days, weeks or months (up to 60 months). Online applications are quick and easy, without the usual reams of paperwork, and approvals are made within 24 hours.

Successful applicants can expect funds to be available within hours of approval, and you only incur interest on the funds you draw down. Also, there’s no charge for repaying the loan early. 

See how easy it is to apply for a flexible business loan with iwoca and use our loan calculator to gauge your likely repayments.