How it works

What is peer-to-peer (P2P) lending?

P2P lending is the practice of lending money to unrelated individuals, "peers", without going through a traditional financial intermediary such as a bank or other traditional financial institutions. Significant cost saving can be achieved by virtue of removing the middleman associated with a typical loan transaction (brokers etc.) is removed. This benefits both lenders, which are able to receive a higher rate on their money than keeping it in a bank account, and borrowers, that are able to raise financing quicker and cheaper than using traditional lenders.

This graphic provides a simplified overview of how P2P lending works:

  1. Lenders lend money to eligible borrowers
  2. Borrowers pay principal and monthly interest to lenders
  3. The lending platform charges borrowers to cover the platform's cost:
    • Borrowers pay an arrangement fee
    • A servicing fee is deducted from monthly interest payments

Are P2P lending platforms regulated?

Yes, P2P lending platforms are since 1 April 2014 regulated by the Financial Conduct Authority (FCA).

P2P lending platforms are required to have the following procedures and arrangements in place:

  • In the event that the platform fails, arrangements are in place to continue to return available funds and administer existing loans. This means that if a platform does fail, all of your existing loans will be unaffected and you will continue to receive repayments. Any available funds will also be returned to you.

  • Hold capital reserves to help mitigate any business and financial risks.

  • Must have a complaints procedure in place. You can find ours here. If necessary, investors will be able to escalate their complaints to the Financial Ombudsman Service.

  • Guidelines on the information that a P2P lending platform should provide to investors. These include:

    • Information on the average returns (after fees and bad debt) from the last few years;
    • Expected bad debt rates going forward;
    • If the loans are secured, what form the security takes;
    • An explanation of the criteria that the borrower must meet to be eligible for a loan.

Secured vs unsecured P2P lending

Unsecured P2P lending is when a loan is issued and supported only by the borrower's creditworthiness, rather than by a type of collateral such as property. If a borrower defaults, the lender has no collateral to fall back on to get his money back. Hence the word “unsecured”.

Secured P2P lending is when a loan is issued and is backed by collateral such as property . This means that if a borrower defaults, the lender will be able to claim the collateral that the borrower has provided.

Unsecured P2P lending has dominated P2P lending in the UK, as the first P2P lending platforms were mainly providing unsecured personal loans. However, we believe that this is likely to change given the inherited risks with unsecured P2P lending provided the reasons below.

The industry has not yet experienced any significant challenges such as a notable economic downturn which affects borrower ability to pay their debts. When such a challenge presents itself, and it most likely will, secured lenders are likely to withstand such downturn better than unsecured lenders, as secured lenders have collateral to fall back on whilst unsecured lenders do not.

Some P2P lending platforms are trying to mitigate unsecured lending risks by putting in place contingency funds. A contingency fund is essentially a fund which builds up a cash buffer and which lenders pay into through lending fees. These funds are meant to compensate lenders if borrowers can’t pay. There are some merits to this approach, as it offers some sort of protection for lenders. However, it could be argued that such an approach is not entirely fair. All lenders have to carry the costs to support such funds, as lenders that never use the fund still have to pay into it. This opens up the potential risk of some lenders only lending to high-risk loans, knowing that they will be compensated from the provision fund when a borrower defaults. Indeed, it creates a situation where more prudent lenders have to, whether they like it or not, bail-out less prudent lenders.

We at LandlordInvest believe that it is of utmost importance that we offer both borrowers and lenders the best protection possible if something goes wrong, including factors such as the shape of the economy. After all, our business depends on that borrowers are able to pay their debts, regardless of what might happen and lenders are able to get their interest and principal. As such, we have chosen to only include secured loans on our lending platform.


What are the risks with secured P2P lending?

The main risks with secured P2P lending are:

  1. Borrower default

  2. Platform insolvency

  3. Property market risk, and

  4. Real estate risk

  5. Illiquid instrument

Borrower default is the biggest risk and happens when a borrower does not repay his/her loan. This means that your capital is at risk.

Unlike most other P2P lending platforms, we only participate in secured lending which means that the total value of the loan is always secured against property. If the borrower does not repay their loan then we can sell the property to cover any shortfall. We only lend to borrowers who have good quality properties that we believe could be sold easily. However, please keep in mind that whilst the investment is backed by property, the value of the security depends on the value of the underlying property.

If a loan goes into default we will contact you to make you aware that your borrower is in default and explain the next steps of the enforcement process that we will manage on your behalf.

Platform insolvency is the risk that the company operating the lending platform goes out of business.

We have taken a number of steps to ensure that in the unlikely event of our insolvency, you would have full protection and all your loans would be serviced until maturity. These include;

  1. All customer money that is not on loan is held in a segregated client money trust account with either Royal Bank of Scotland or Santander Bank.
  2. We have created a segregated reserves account which can only be used to service loans going forward if our company was to fail and become insolvent.
  3. The security provided by a borrower in favour of the loan is held by an independent security trustee for the benefit of our lenders.

We have made arrangements with a back-up servicing provider to take over the administration of our loans in the case of us no longer trading. The back-up servicer will manage the day to day operations of LandlordInvest to ensure that the platform can continue service existing customers and that all borrower payments of interest and capital are credited to lenders account as usual.

Property market risk means that the borrowers' ability to pay interest and repay their loans could be affected if there was a downturn in the UK property market. We have established procedures to protect our lenders against this risk. These include a minimum rental income coverage, maximum LTV cap and other measures.

Interest rate risk means that general interest rates might rise above the interest rates that you are earning from your loans. We are mitigating this risk by only including loans with a short-term duration on our platform.


How we assess borrowers

Our credit rating methodology has been developed according to the principle of three Cs: Capacity, Character and Collateral. This approach is commonly used in mortgage underwriting to assess risk. The following table displays the three Cs and the variables we consider when assessing a borrower.

Definition Key variable Weight
Capacity
(affordability test)
(affordability test) The amount that a borrower can carry, i.e. total monthly expenses (payment on current debt/s, housing payments, credit cards payments, car payments etc.) divided by total monthly income (salary, self- employment, net rental income) minus The aim is to estimate the total debt service ratio (TDSR) prior and after debt (for which the loan is sought). TDSR 25%
Character Based on credit report variables: past credit history, time at present address etc. and time at employment. Credit report 60%
Collateral Loan to value ratio of the property to which financing is sought. Value is estimated by an independent valuer. LTV 15%

Character is the most important variable when we assess a borrower, based on a borrower’s credit report which we obtain from a credit referencing agency. It is followed by Capacity, which is an assessment of a borrower’s ability to afford a loan. We also assess the security provided by a borrower, Collateral.

After each of the Cs has been assessed, we assign a rating based on a 5 point rating scale, where 5 is the best and 1 worst.

Capacity scoring

TDSR Rating
Up to 39% 5
40-49% 4
50-59% 3
60-69% 2
70% and higher 1

Character scoring

Credit report score Rating
5 5
4 4
3 3
2 2
1 1

Collateral

Collateral - LTV Rating
Up to 55% 5
56-60% 4
61-65% 3
66-70% 2
71% and higher 1

Sum of ratings for each C, adjusted for their respective weight is what finally sets the borrower’s credit rating:

Credit score Definition Segment Credit rating
5 Very good Super prime A
4.1-4.9 Good Prime B
3.1-3.9 Fairly good Near Prime C
2.1-2.9 Poor Sub Prime D
Up to 2.0 Very Bad Sub Prime E

Financial Services Compensation Scheme (FSCS)

Your investment through us is not protected by the Financial Services Compensation Scheme and therefore your capital is at risk. Any uninvested funds in your LandlordInvest account are however protected as the funds are held in a segregated client account with a FSCS eligible bank.


What is buy-to-let?

Buy-to-let means purchasing a property to rent it out.

Buy-to-let investor makes their money from either rental yields or capital appreciation.

Rental yield is the amount of money that a landlord receives after collecting rent payments from the property’s tenants minus all expenses associated with the property including, mortgage payments, insurance etc.

Capital appreciation is the value that a landlord receives when he is able to sell the property at a higher price than what he paid for the property.

The main reason to why many investors are attracted to buy-to-let investing is that it offers a steady and relatively predicable cash flows. As detailed below, it is also a lucrative asset class and not as volatile as stock markets.

There are also downside to buy-to-let investing. It can be time consuming, landlords have to deal with difficult tenants, void periods etc.


Buy-to-let market and investing

Buy-to-let means purchasing a property to rent it out.

Buy-to-let investing is one of UK’s largest asset classes, estimated at around £1.3 trillion, and also one of the most controversial. It is not difficult to see that appeal with buy-to-let investing as research shows that it is the best performing asset class among other major asset classes including stocks and bonds. It is also much less volatile than any major asset class.

There are many reasons to why buy-to-let investing is widely popular and successful. UK has and is experiencing a big undersupply of properties. That is, UK’s population growth is bigger than the amount of property being developed. This has been going on for decades and it looks as that, unless something dramatically happens on a top-level, the trend will continue and buy-to-let investors will continue enjoy good profits.

A key variable behind the returns that buy-to-let investors have been enjoying is the use of leverage. Most buy-to-let investor borrow money when they buy a buy-to-let property. By doing so, they are also magnifying their returns. However, leverage is a double edged sword and returns can swiftly swing the other direction if the property market experience a prolonged and significant downturn.

According to statistics from the Council of Mortgage Lenders, buy-to-let lending is currently around £25 billion per year and growing steadily. Many believe that there is still room for growth as current lending volumes are still only slightly more than half of what they used to be before 2008.


What is a bridging loan?

A bridging loan is a short-term loan, typically taken out for a period of up to 3 years pending the arrangement of longer-term financing.

Bridging loans are considered to be more risky than other types of financing and therefore have higher interest rates to compensate for the risk.

Bridging loans are widely used in property transactions and are also commonly used by buy-to-let investors.


The bridging loan market

UK bridge loan lending is currently stands at approx. £2.2 billion, an annual increase of 30% since 2011, far outpacing traditional mortgage lending.

Average bridge loan size stands at approx. £475,000 (approx. £300,000 in 2011) with monthly interest rates of 1.14%.

The main driver behind the industry’s impressive growth rate over the last few years have been traditional lenders unwillingness to lend and low interest rates.


Disclaimer

LandlordInvest does not provide advice and nothing on this page should be construed as investment or tax advice. The information which appears in this page is for general information purposes only and does not constitute specific advice.

Connect with us