By Debbie Dragon
A loan can come from all sorts of places: friends, family, or a home equity line if you’re lucky; credit card advances, a payday outlet or the pawn shop if you’re not. But have you considered asking a total stranger for money over the Internet?
Social lending sites are the latest, greatest way to borrow money. By putting people who need cash in direct contact with individuals willing to loan it and cutting out the bank, social lending offers several advantages. The biggest one is a lower interest rate, typically around 10 percent. By comparison, the average interest rate on personal bank loans is currently as high as 16 percent, according to Bankrate.com.
Social loans are not a panacea. The $25,000 cap most sites impose might not be enough to send your kid to college or pay for an addition to your house. And if your credit is really scraping bottom, you’ll have trouble getting a loan at some social lending sites. But others, such as newcomer Loanio.com, cater to poor risks, so you can overcome bad credit while still receiving a reasonable interest rate.
Need more reasons to rely on the kindness of strangers for your next loan? Here they are.
The loan application at a social lending site is simpler than a bank’s and asks for far less personal information. Take Prosper.com, for instance, the most popular mainstream P2P lending site with 820,000 members and $177,000,000 in loans. Creating a listing requires your name, social security number, birth date, driver’s license and state, and the amount you want to borrow. That’s it.
Banks typically also ask for home ownership information, bankruptcy history, mortgage, current bank accounts, list of assets, outstanding loans, employment history, and the list goes on.
True, the information that a P2P site does collect can be more widely viewed than what you give the bank. For instance, anyone who registers as a Prosper lender can peruse data on your current obligations and number of credit accounts. But viewing this data is how lenders decide whether to take a chance on you, and social lending sites do not reveal your actual credit bureau score, aka FICO.
Pimp your credit report
Every time you apply for a loan at the bank, your credit report takes an instant hit in the form of an inquiry. Having too many inquiries in a short period of time can lower your credit score.
A social lending site treats loan applications as (soft queries) that aren’t reported to credit bureaus. Your loan does not show up on your credit report until after it has been funded and you have accepted it as the borrower. This means you can apply for a social loan as many times as it takes to get one and not worry about multiple attempts lowering your credit score.
Social lending sites do report on-time payments as faithfully as banks do, which boosts your credit score over time. (On the flip side, late or missed payments will adversely affect your credit score, too.)
Tend to lag making payments? Social lending sites do charge late fees, but they’re not as high as a bank’s. Typically you’ll owe $15 or 5 percent of the unpaid installment amount – whichever is greater – if you’re 15 days late, and a $15 fee if your automatic bank draft fails altogether.
The big payoff: low interest rates
Why do social lending site loans offer such low interest rates? It’s simple, really.
The interest rate you pay a bank, payday loan outlet or credit card company is decided by several factors: the institution, the prime rate, or both, in combination with your personal credit history. Unfriendly market conditions combined with bad credit can result in paying up to three or four times as much as the amount borrowed. Not good.
By comparison, the interest rate received at a social lending site is usually set by you and your lenders – and most lenders are happy just to beat the 3 to 4 percent interest rate they’re getting at the bank.
The social lending sites with the best borrower rates are Fynanz and GreenNote for students, where the rate can drop as low as 3.5 percent. Got lots of friends and family members willing to take out low-interest CDs? Go to Zopa.com, where pals can donate part of their earnings to pay off your loan. At Zopa it’s actually possible to walk away from a loan owing less than what you borrowed.
Mainstream sites demand higher rates
You’ll pay higher interest rates at the mainstream social lending sites: Lending Club, Prosper and Loanio. But all the sites take credit scores into heavy consideration when deciding on the grade they will assign a loan, so good creds can go a long way toward lowering your rate.
Poor credit risks need not apply at all at the LendingClub. Your FICO score must be at least 640, your debt-to-income ratio less than 30 percent, and you must have no recent delinquencies. If you make the cut, the LendingClub assigns the interest rate starting at 7.88% – ranging up to a whopping 18.86 percent.
In its favor, the LendingClub’s loan origination fees are among the lowest – between .75% and 2% of the loan amount, depending on your credit grade. And if you happen to have a FICO score over 780 and a spotless credit history, go with the LendingClub because it will automatically assign an interest rate in the 7.8 percent to 8 percent range.
Prosper and Loanio friendlier to borrowers
Don’t have perfect credit? You’re better off trying Prosper.com or Loanio, both of which use auction systems that let lenders bid on loans. The greater number of lenders who bid, the lower your interest rate will be.
Anyone can post a profile at Prosper and request a loan. If your profile is compelling and you can convince enough friends and relatives to contribute, you might get your loan funded at a decent rate even with a less-than-stellar credit history. Highly rated borrowers have a shot at Prosper’s lowest average interest rate of just under 8 percent.
But newcomer Loanio is the most borrower friendly of the three mainstream social lending sites because of several ground-breaking new features. If you don’t qualify for a listing by yourself or just want to beef up your credentials, Loanio allows cosigners. Optional verification documents can also enhance your listing by guaranteeing your income, for instance.
Rather than canceling a loan request if it can’t be fully funded within the allotted two weeks, Loanio makes loan money available once you’ve reached a funding of 35 percent or more. Finally, Loanio gives you more time to pay off a loan four or five years compared to just three years for the others.
Loanio’s only drawback is its nonexistent track record; it launched October 1.
Happiness with Prosper
A New Yorker I happen to know intimately recently went the Prosper route. Her less-than-perfect credit score of 639 qualified her for a $2,500 loan from CitiFinancial at an interest rate of 25 percent. Yee-ouch.
At Prosper, she got the loan at 14 percent, a full 11 percent shaved off.
I am (I mean she is) one happy borrower.