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Lend direct and net 6 per cent

Is peer-to-peer lending what income-hungry investors have been waiting for - or a risky and tax-inefficient venture?
March 6, 2012

Lending money to strangers might not seem the most sound way of securing an investment return. But, with banks unwilling to lend or borrow, the peer-to-peer lending space is growing rapidly. These companies claim it is a win-win situation: borrowers get a low-cost loan, while lenders get a better rate on their savings. But what are the caveats?

The peer-to-peer finance market consists of companies that allow people to lend and borrow money directly with each other, setting their own interest rates. It also closes the gap between what savers earn and what creditworthy borrowers lend, drastically reducing the banks' traditional wide margin in the middle, as one peer-to-peer lender puts it: "There is still a middleman – but we are a much 'thinner' middleman."

One of the better known players in the market is Zopa, founded in 2005 by veterans from online bank Egg and previously discussed in the Investors Chronicle (see Lending money to strangers). A web-based service offering, Zopa matches retail lenders to retail borrowers. Borrowers are then rated according to their credit quality and are lent money either by one individual or, normally, a diversified pool of lenders. All money is lent in £10 packets – so a loan of £500 (a sensible minimum to achieve diversification across lots of borrowers) will be spread across 50 different borrowers to lower the impact of an individual borrower defaulting.

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