Earn Above Average Returns with Lending Club

by Kevin on February 23, 2009

I’ll be the first to admit that I was extremely skeptical of Lending Club and Prosper back in the day. These are two giants of the peer-to-peer lending industry.

Peer-to-peer lending is where a large group of people each lend a small amount of money to someone and hope to be paid back. The group essentially acts as a bank for the person.

Why You Might Use Peer-to-Peer Lending

So why would someone skip going to the bank and go straight to a group of strangers? I thought bankers were professionals. (I did too until the credit crisis!)

Here are a few reasons you might want to consider social lending.

You are Interested in Earning High Investment Returns

Let me say up front that this isn’t a risk-free return. You’ve got to stop and think here. “Hmmm, if the real banks won’t lend them money…”

But, earning a high return even after defaults, can be done. Invest wisely in specific loans and watch the money and interest roll in.

After the market crashed last year (and well let’s be honest, has continued to crash this year), some individuals are looking for an alternative to stocks and bonds. And since you will be lending money to prime borrowers (rather than subprime), and stated interest rates up go up to 19.37%… why not give it a shot?

You Can’t Get a Loan Through Traditional Means

For one reason or another your banker friends aren’t willing to extend any funds to you. Your debt-to-income might be too high. You may have bad credit. You don’t have a down payment. The reasons a bank won’t work with you could be numerous. Unfortunately, most of them aren’t very good signs of your credit worthiness. Either way they aren’t interested in helping you out right now.

You Can Get a Lower Rate with Peer-to-Peer Lending

Let’s say you have three maxed out credit cards. Each credit card is charging you between 18-25%. You are unable to make much progress of paying down your debt with a rate that high.

Social lending may be the lifeboat that gets you off your sinking credit ship. Applying and receiving an honest loan, even for a portion of the debt, would result in lower monthly costs for you. If you landed a loan that would knock out all three credit cards, and it was a rate of 12%, you’re still coming out far ahead. Sure you still have debt to pay, but your interest costs are a lot lower. That means more of your payment is going to principle than when you were paying the credit card companies.

You Have a Distinct Interest in Social Lending

You may just be a social lending nut and want to try this new idea out. I’ve read of people with great credit taking out a loan, turning around, and reinvesting that loan in other loans with interest rates higher than the funding loan. This type of arbitrage is very risky in my eyes, but if you pulled it off without any defaults you would end up with a decent return.

My Experience with Lending Club

I opened up a Lending Club account last year after a little prodding from one of the founders. I put $50 into the account and watched for what I considered high quality loans. I wasn’t interested in poor credit situations with high interest rates. I figured I would get burned on that deal long before getting my money back. No thanks.

Instead I waited and found two loans. Coincidentally they are both at 9.76%. I put $25 into each loan and waited for the community to fund the rest of the loan.

Thankfully neither of my loans has missed a payment. As of today I’ve received $14.62 in principle and $3.56 in interest. There is still quite a ways to go to get the rest of my money back — the payments I receive equate to $1.60 per month — but it is positive momentum.

Take Economic Conditions into Consideration

If you haven’t noticed yet, let me fill you in: we’re in a bad economy right now. There are a lot of people losing their homes to foreclosure, a lot of people on unemployment, and a lot of people about to be laid off. There isn’t a lot of rosy economic news out there.

Should you take this information into consideration when you consider peer-to-peer lending? Absolutely. And we’ll talk about that tomorrow.

But for now, go check out Lending Club and let me know what you think. Would you ever consider loaning your money to complete strangers?

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Weekly Wrap Up February 20-28 | Personal Finance Firewall
March 1, 2009 at 8:52 pm


D. Smith February 23, 2009 at 12:24 pm

what are the legal aspects of this type of lending? I know people borrow $$ everyday with no intentions of paying it back, but what actions can you personally take against someone who doesn’t pay back the loan? or is it a situation where it just hurts their credit and you are stuck with a loss?

Kevin February 23, 2009 at 1:02 pm

@D.Smith: It’s just like any other lending situation. If the person defaults on the loan, the loan gets sent to collections and you hope to make pennies on the dollar from it. The person gets a huge ding on their credit as well.

It seems risky, and it is. But they are pitching the fact that it’s about community — one person recommending another. “Yea, I work with D.Smith and he’s a good guy, I can confirm his details” etc.

I would still stick to the higher quality credit areas though — the 9-10% loans. Much further from that and the writing/details inside the loan are not up to par and just make me nervous.

Russell Fascenda February 23, 2009 at 5:44 pm

I’ve been a prosper lender for about 18 months and earn about 10% on my loans overall. I’ve been fortunate to have very few late payments or defaulted loans. Some have paid off early.

Even though you select which loans to fund, there is a bank in the middle to handle the legalities of loan agreements and interest payments. You don’t have any personal recourse with the borrowers in fact there is legal protection in both directions to isolate each from legal actions.

Some of the largest lenders have awful default rates, check out http://www.lendingstats.com for a wealth of statistics on prosper.com lenders.

Personal Finance Firewall February 23, 2009 at 10:49 pm

I think this is a great idea. I mean most people will lend money to a friend and not charge any interest. This is a way for a large group of people to micro lend to a person and get a nice interest rate back. Its great. I signed up for Lending Club about a month ago and have yet to fund the account. I have some other investments in the hopper and am waiting for a nice slump in activity so I can focus on deciding my funding amount, picking a prime loan and diving in. Never jump into anything too fast, but I think this is a great program.

Kevin February 25, 2009 at 8:57 am

@Russell: What percentage of your investment portfolio do you have in loans? Are you putting a significant amount of money in?

@Personal Finance Firewall: I’d be interested to hear how that turns out for you. I’m still skeptical of people getting on and just trying to steal money from people and not pay it back, or getting into hard times and being unable to pay it back.

Russell Fascenda February 25, 2009 at 11:33 am

Firewall + Kevin: I originally got involved in prosper as an alternative to lending money to my friend; the advantage of prosper was, it was more formal, I would earn interest, other people would partipate in the loan (although I provided the bulk of it), and it contributed to my friend building a credit history.

Kevin: While waiting for my friend to sign up and get approved, I ended up making about $4,000 in small loans to others. Initially I did it manually, reading the listings. Later I learned about their automated portfolio system, where you can define the criteria for loans and it bids for you. I don’t really prefer that way, I’d rather have the personal touch, but both types of loans have worked out for me.

While the listings are created by the borrower, for loans that are fully-funded (bids reach the requested amount) prosper verifies all the financial data before granting the loan.

Cathy April 14, 2009 at 2:13 pm

I’ve been using Lending Club for over a year. It’s great – I am really pleased with it. I’ve earned a steady 11% interest on my notes, and have had no defaults.

Cathy April 14, 2009 at 2:21 pm

Let me say up front that this isn’t a risk-free return. You’ve got to stop and think here. “Hmmm, if the real banks won’t lend them money…”

Lending Club only accepts applications from people with prime credit scores, 680+. Just because you have a credit score of 800 doesn’t guarantee you’ll get the best rating – they take into account many variables like debt to income ratios. Their acceptance rate is only 1 applications in 6. Many of these people are looking for loans on LC not because the banks won’t approve them, but they can get a much better rate through LC. Many others are looking to consolidate or get a lower rate on existing loans.

Kevin April 19, 2009 at 12:09 pm

@Cathy: Nonetheless any time you lend money it isn’t risk-free. I haven’t had a late payment or default on my two loans either and I’m earning 9%. Still.. you can get into some real trouble by just chasing high returns, no matter if it is the stock market or Lending Club or…

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