The peer-to-peer finance industry has announced it lent out more than twice as much money in 2013 as it did the previous year.
The industry is continuing to grow as savers look for ways to improve the return they can get on their money at a time when savings interest rates remain at rock bottom.
Cumulative lending at the end of the last three months of 2013 hit £843m compared to just £381m at the end of 2012, according to a report published by the Peer-to-Peer Finance Association (P2PFA), the self-appointed industry body.
By the end of 2013 there were more than 86,000 active lenders as well as 3,700 business borrowers and 70,000 consumer borrowers, the report added.
The news was welcomed by the P2PFA's chair Christine Farnish who said 2014 would be a significant year for the industry as it would pass the £1bn mark of total money lent and would become formally regulated by the Financial Conduct Authority from April.
Peer-to-peer lending - how does it work?
Savers who are willing to lend are matched to borrowers, who could be individuals or small businesses, throughpeer-to-peer lending websites.
Borrowers can get rates as low as about 5% on a five-year loan, rivaling the cheapest available on the conventional market.
However, high rates for savers come with added risk, as peer-to-peer sites aren't covered by the Financial Services Compensation Scheme (FSCS), which means you might struggle to get your money back if a site goes bust.
Peer-to-peer sites – what to watch out for
Peer-to-peer lending connects savers directly to someone who wants to borrow, so the most immediate risk to a lender's capital is if a borrower fails to repay what’s been lent.
Borrowers are credit checked, but there is a risk that they might not repay, and generally the risk rises as the potential returns get higher.
Different sites manage risk in different ways so read our guide to find out more about how the main peer-to-peer lending sites work.
There are a few other things you need to watch out for if using peer-to-peer lending sites:
- Sites often charge lenders an annual fee, either as a percentage of their total investment or of the amount of interest earned.
- You need to factor in the potential for borrowers to default on a loan.
- You must pay income tax on the growth you make, not the net amount you earn after bad debts and fees. So if you earned 6% in income, but ended up with only 4% after bad debts, you’d still have to pay income tax on the 6%.
- Peer-to-peer sites you lend through will send an annual statement of interest earned, which you’ll need to declare through your self-assessment tax return.
Peer-to peer lending - the verdict
Which? members' experiences of peer-to-peer lending overall have been positive so far, but peer-to-peer lending is riskier than traditional savings accounts.
So if you're thinking about investing your money in a peer-to-peer finance site you should do your homework, spread the risk and only use them as part of wider investment portfolio.