Should You Invest Via P2P Lending? (2024)

Understanding P2P Lending

P2P lending involves websites or marketplaces that connect borrowers directly to lenders. A lender opens an account and deposits money as investments in loans to borrowers. The borrower applies for a loan by registering and providing financial and personal documents.

The platform where the borrower and the lender connect can perform functions as follows:

• Assess risk and vet borrowers.
• Register and vet lenders.
• Facilitate listing of loans, funding, and disbursem*nts program, including signing a legally binding loan agreement between lender and borrower.
• Carry out transactions via a third party (in this case, the P2P lending platform) that will have custody of the bond, deed, documents, and trusteeship, known as an escrow account.
• The platform collects repayments from borrowers.
• Recover the loan wherever required on behalf of the lender.

How P2P lending differs from traditional banks

• P2P lenders have tech-based processes based on analytics and data-driven models, which help them cut overhead costs, which many traditional banks need help to offer or are only adapting to in India.
  
• These platforms can pass on the benefits to the end consumer, allowing lenders to earn higher returns. At the same time, borrowers can borrow money at lower interest rates than traditional banks.
  
• The platforms do not keep a margin from the monthly installments or transactions between the lender and the borrower. Instead, they charge a fee for both services provided.

Is P2P Lending Safe?

P2P lending is a way of unlocking individual credit supply blocked in low-yield investments and shifting it to an asset class that could help you earn higher returns like that of a bank.

For borrowers, P2P loans are similar to taking a loan from a bank and repaying it periodically. For investors, it is essential to know the process of applying to a marketplace, choosing the desired amount and investment period, and clearly understanding the terms and conditions before investing.

Owing to the transparency a fully digitized ecosystem provides, it has become easier for new-age investors to experiment with making returns via P2P lending. While the returns are expected to be high, so are the risks.

How Does P2P Lending Work?

Peer-to-peer (P2P) lending is a type of debt financing in which individuals and businesses in need of credit are directly connected with their peers willing to lend from their surplus funds via a marketplace.

This form of lending allows individual investors to earn returns similar to a bank’s and has emerged as an alternative to traditional bank lending. IndiaStack’s main five features for P2P lending include digital processes via:

• Aadhaar: A unique biometric-based identification number used for verification of lenders and borrowers.
  
• eKYC: A digital way to verify your income sources.
  
• UPI: An interface that transfers money from one account to another.
  
• DigiLocker: A platform that helps a central database to store documents digitally.
  
• eSign: A tool that allows users to sign electronically using Aadhaar.

How Is P2P Lending Regulated In India?

The penetration of mobile and the internet has made P2P lending possible in India– hence a need for regulation. The Reserve Bank of India (RBI) issued a master direction—Non-Banking Financial Company—Peer to Peer Lending Platform (Reserve Bank) Directions, 2017—that assists P2P lending companies regarding guidelines, laws and regulations, approval processes, etc.

The large population of professionals and small and micro business owners are the main benefactors of P2P lending. This is because it has been difficult for this populace to provide thorough verification documents. Hence, they haven’t been able to access organized credit provided by banks and other financial institutions.

The RBI has found it challenging to determine the number of P2P lending companies operating in the country. Many fraudulent activities are still prevalent in the P2P lending space, which adds to the fear of possible cybercrimes, such as phishing, unauthorized money transfers, and imposter scams.

Hence, lenders and borrowers should practice caution before making the decision. Similarly, P2P lending platforms must obtain the NBFC-P2P license and registration from the RBI to administer their program.

How Much Can You Earn through P2P Lending

In P2P Lending, investors or lenders profit from the equated monthly installments (EMIs) paid by borrowers, which include both the principal and interest amounts. The interest rate investors earn depends mainly on the borrower’s credit profile, personal or business consumption, company growth stage, and market capitalization, among other factors (mentioned above).

Moreover, lenders control their diverse portfolios of investments across different interest rates, sectors, occupations, cities, purposes, and personal or business loan types—spreading their risk via small-ticket investments across loans and products.

P2P lending platforms reduce the time lenders need to evaluate the creditworthiness of individuals and small businesses. They use credit evaluation mechanisms built upon data and tech-driven algorithms to discover borrowers’ ability to repay loans.

Remember, lenders and borrowers pay various fees to the P2P platform. Borrowers’ fees include origination fees charged as a percentage of the total loan amount calculated according to their risk profile. On the other hand, lenders pay administration fees for using the platform and other services.

Which Companies do P2P lending?

Some of India’s popular digital P2P lending platforms support borrowing and lending programs.

Fair Cent

• Interest rate (Borrower): 12% to 28% per annum
• Loan amount: Up to INR 10 lakh
• Repayment tenure: 6 to 36 months
• Processing Fee: 6% to 8%
• Returns (Lender): 12% to 14% per annum

LenDen Club

• Interest rate (Borrower): 18% to 28% per annum
• Loan amount: INR 1 lakh to INR 50 lakh
• Repayment tenure: 1 to 36 months
• Processing Fee: 1% to 6%
• Returns (Lender): Up to 10% per annum

Lendbox

• Interest rate (Borrower): 11.49% to 36% per annum
• Loan amount: INR 5,000 to INR 5 lakh
• Repayment tenure: 6 to 36 months
• Processing Fee: INR 500
• Returns (Lender): Up to 14% per annum

RupeeCircle

• Interest rate (Borrower): 18% to 36% per annum
• Loan amount: Up to INR 5 lakh
• Repayment tenure: Up to 36 months
• Processing Fee: 5.5%
• Returns (Lender): Up to 30% per annum

Finzy

• Interest rate (Borrower): 10.99% to 27.99% per annum
• Loan amount: Up to INR 5 lakh
• Repayment tenure: Up to 36 months
• Processing Fee: Nil
• Returns (Lender): 7.99% to 27.99% per annum

Financial details of P2P lending platforms mentioned above are accurate as of June 25, 2024.

Taxation On Returns From P2P Lending

The interest earned from P2P lending is subject to taxation under the Income Tax Act 1961. The interest amount is taxed as per the lender’s tax bracket. For instance, if your income is in the 20% tax bracket, the same percentage is deducted from your P2P earnings.

Taxation on P2P lending has a significant impact on your final returns. For example, you invested INR 5 lakh in P2P lending and earned 10% or INR 50,000. If your taxable income falls under the 20% tax bracket, you will pay INR 10,000 (20% of INR 50,000) in taxes.
On the other hand, borrowers taking a P2P loan would be treated as a business loan, and the interest paid to the lender is subject to deduction under the Income Tax Act 1961.

Should You Invest In P2P Lending?

With fast-paced digitization, investors in India have been considering alternative investment options besides traditional savings and fixed deposits, real estate investment, and gold to diversify their portfolios aimed at making high and stable returns. Here are some of the reasons why lenders are considering investing in P2P lending formats:

• Low entry cost: You do not need huge investments to start building your P2P lending portfolio. The entry-level price is low, and a new investor can begin with as little as INR 50,000 to INR 1 lakh and slowly increase their portfolio size.
  
• Regular monthly income: Investors usually begin making returns early on, sometimes from the very consecutive month of investment. The lender receives repayments with part principal and interest as monthly installments once the loan is taken and starts getting paid for.
  
• Low volatility: Returns from P2P lending depend on the portfolio a lender builds. Unlike other market-linked investments, such as mutual funds and systematic investment plans, where the returns depend on the stock market’s performance, P2P lending returns are determined when lending to a borrower.
  
• Ease of investment: P2P lending is a digital-first process. This means that the process is managed digitally, from narrowing down on borrowers who meet your criteria and signing legal agreements with borrowers to receiving repayments. All transactions are through an escrow account under a third-party trusteeship, and the platform via which you conduct the P2P lending activity manages and updates your portfolio’s performance in real-time.
  
• Higher control over investment: The most significant risk in P2P lending is default. However, unlike risks associated with other market-linked investments, lenders can mitigate this risk to have higher control over their assets.
  
• Risk mitigation by the P2P platform: The platform enforces checks in place, such as comprehensive borrower selection to ensure that only the most genuine loans are listed, ensuring legal agreement between both parties, collecting security cheques from borrowers, enabling a strategic collection and recovery mechanism, restricting funding by a single lender to an individual borrower, among others.
  

• Risk mitigation by investor: The lender can control his investment by creating a diversified portfolio with investments across different interest rates, cities, genders, purposes, and loan types and spreading their risk via small-ticket investments across loans and products.

Frequently Asked Questions (FAQs)