Certainly, the reality of individuals lending to businesses isn’t new, but the concept of peer-to-peer lending in the form most think of it today is truly a product of the digital age. The internet makes it possible for investors of all kinds to discover businesses they believe merit financing; peer-to-peer lending platforms therefore are now able to stand alongside investors, advances and business loans as viable financing options.

Find out more about peer-to-peer lending and how it stacks up against the traditional business loan so you’ll know when it might be the right choice for your business.

What is Peer-to-Peer Lending?

Modern peer-to-peer lending platforms (sometimes abbreviated as P2P lending) allow borrowers to gain access to working capital from individuals or organizations without going through banks and other institutionalized lenders. While you might be familiar with the overall concept, some of these unique peer-to-peer lending traits might be new to you:

  • P2P lending is often (but not always) done on a not-for-profit basis
  • Individual lenders participating in the program can sometimes (but not always) choose which business or businesses will receive their funds
  • Transactions (applying, receiving and repaying funds) occur online
  • Some platforms facilitate the transfer or sale of peer-to-peer loans to others
  • Peer-to-peer lending is synonymous with crowdlending (not to be confused with crowdfunding)
  • P2P platforms sometimes (but not always) allow lenders to compete, driving down the cost of financing

Peer-to-peer lending truly has roots in personal, rather than purely professional, relationships. In its early days, it heavily relied on social networks to identify and connect both borrowers and lenders.

Pros and Cons of Peer to Peer Lending vs. Business Loans

Flexibility: Advantage, Peer-to-Peer Lending

Business loans are typically granted with restrictions on how funds can be used. This means that business loan funds can only be used for single purpose or purchase. While it’s possible that a peer-to-peer loan might come with limited-use restrictions, it is more likely that business owners will be entrusted with financing that can be used at their discretion. In addition, P2P business financing comes in a variety of forms, which can include loans (secured and unsecured), payroll loans, commercial real estate loans, leasing and factoring.

Fees: Advantage, Business Loans

With the disclaimer that the fee or interest rate of a peer-to-peer loan could range from fairly low (around 5 percent, or even less) to as high as 30 percent, the interest rate associated with a bank loan is likely going to be less than most P2P lending platforms. The advantage may shift if the lending platform allows potential lenders to compete for the loan, driving the rate down.

When comparing the real cost of financing for P2P and other online loans to bank loans, estimating the full amount of repayment less the original loan amount is always going to be the best way to determine which product truly offers the most financial advantage for your business.

Application: Advantage, Neither – or Both

This, too, is offered with the caveat that “it depends.” For instance, a P2P platform may delve deeply into a business or business owner’s background if it only lends to borrowers who meet certain criteria. A P2P platform may also require borrowers to meet the same type of criteria banks consider, such as credit score, banking history, business plan, financial reports and so on.

Time-to-Funding: Advantage, Neither – or Both

If the application process is easier and borrowers have fewer requirements to meet, it stands to reason that time to funding after an application has been submitted would be shorter for P2P platform loans than bank loans. This advantage could shift, however, for platforms where borrowers must complete a rigorous application and screening process or in the case where a business must wait until an individual investor decides their project or company merits funding.

If your company has an intriguing backstory, provides a unique and meaningful give-back or owners fit specific criteria (such as woman-owned, minority-owned or some other unique qualifier) it could have an advantage in the realm of peer-to-peer financing. Applying for peer-to-peer lending can be a gamble, since it depends on subjective (requiring individual interest or approval) as well as any objective criteria being met; however, the payoff in the form of low-cost, flexible financing could be well-worth the risk.