By cutting out the banks, P2P lenders aim to speed up and reduce the costs of borrowing and boost returns to lenders. They typically target small businesses, who are underserved by traditional lenders and often charged an extortionate interest rate on credit card debt. The P2P industry has benefited from the anti-bank sentiment - stirred up by a slew of government bailouts and years of rock-bottom interest rates that have turned investors off traditional savings accounts. And the model carries distinct advantages: providers avoid the costs of a traditional bank branch network and aren't liable if borrowers default on loans.
The rise of P2P lending is part of a broader shift away from traditional banking. For instance, millions of individuals and small businesses have turned to fundraising sites such as KickStarter and Indiegogo, where individual projects can net over $10m, or smaller platforms such as GoFundMe and RocketHub. Even Parliament has lent its support to the P2P trend, as it believes it may help address a lack of competition in the banking sector. It plans to allow lenders to offset any losses from loans against taxes on other P2P income starting from April 2016. It also intends to review financial regulation that prevents institutional P2P lending, but on the other hand it may introduce withholding tax on all P2P income in the future.
Nonetheless, P2P lending isn't a major threat to conventional banking just yet; the American consumer credit market alone is worth $3 trillion. Moreover, industry leader Lending Club arranged about 56,600 loans totalling $791m in the first quarter of 2014, compared with the $47bn in consumer loans JPMorgan Chase made over the same period. P2P lenders have also benefited from cherry-picking the least risky borrowers, but may have to widen their nets to maintain their current growth rates. Even so, banks have been surprisingly lackadaisical in mounting a response: Santander actively refers small loan-seeking UK companies to P2P lender Funding Circle when it reaches capacity. That may reflect the incumbents' faith in their enormous databases of customers' financial histories, well-known brands and decades of experience.
Still, early signs are promising: Lending Club has extended over $6bn in loans through its platform and nearly tripled its revenue to $98m last year. It takes around a 5 per cent cut from each loan by charging fees to both lenders and borrowers, and plans to eventually expand into other credit products such as student loans and mortgages. Its popularity is partly explained by an average interest rate of about 14 per cent, compared with an average of 16 per cent among credit card companies. Yet it has been discerning in its selection of loan applicants, allowing only 10 to 20 per cent to use its marketplace. OnDeck, meanwhile, only asks lenders to fund a tenth of its loans; it primarily relies on debt facilities and selling debt-backed securities.