If you need funding for your small business, peer-to-peer loans are an alternative to bank loans or other types of financing. While these loans are often associated with personal lending, some are offered to businesses.
A peer-to-peer loan can provide flexibility and convenience to help you cover day-to-day expenses or invest in your business for growth. Here is what you need to know about peer-to-peer, or P2P, lending and whether it could work for your business.
What Is Peer-to-Peer Lending?
With a typical small-business loan, you are borrowing money from a lender such as a bank, credit union or financing company that offers business loans. Individuals and institutions such as investment banks fund P2P loans. The loans are completed through a P2P lending platform, which acts as a middleman between borrower and lender.
[Read: Best Small Business Loans.]
The advantage for the investor is that the money you borrow must be repaid with interest. Depending on the rate, your loan could give the person or people funding it a better return on investment than other options.
The benefit to you as the business owner is that you can borrow without going through a bank. And P2P loans can help meet many of the same funding needs as traditional business loans, such as:
-- Paying startup costs
-- Buying inventory or supplies
-- Covering training or hiring costs
-- Renovating or expanding facilities
-- Funding a marketing campaign
Always check with lenders about restrictions on how P2P loans can be used.
How Do P2P Business Loans Work?
The process for getting a P2P business loan is almost the same as a P2P personal loan.
-- You register for an account with the P2P lending platform.
-- The lending platform or marketplace reviews your credit and business financials to determine your creditworthiness.
-- The platform assigns you a credit rating, which determines interest rates and loans you qualify for.
-- You can then apply for loans through the platform, based on the amount of money you need and how it will be used.
-- Investors review your loan request and credit rating to decide if they want to fund your loan and, if so, how much to fund.
Once your loan is fully funded, the P2P platform releases the money to you, typically through an electronic deposit to your bank account. You then pay back the money, with interest, through the platform.
This type of loan usually doesn't require collateral as security. That's helpful if you don't have significant business assets or if you don't want to pledge business assets. But keep in mind that you'll likely have to sign a personal guarantee for a P2P business loan. This guarantee means you are personally responsible for repaying the debt, even if the loan is in your business's name.
Some lenders may also ask for a Uniform Commercial Code lien when you borrow above a certain amount. A UCC lien gives a lender the ability to use any of your business assets to repay a loan if you default.
[Read: Best Unsecured Business Loans.]
What Are P2P Loan Terms for Small Businesses?
Every P2P platform operates differently when it comes to loan terms, fees, interest rates and borrowing limits. This table shows the range of terms you may find:
|P2P Loan Terms|
|Loan Amounts||$2,000 to $2 million|
|Repayment Terms||Six months to 10 years|
|APR||4.99% to 39.99%|
|Origination Fees||0% to 8%|
Researching P2P loan platforms can help you choose a loan that best fits your business needs and budget.
How Do You Qualify for a P2P Business Loan?
Minimum qualifications for a P2P business loan vary. Some may require a minimum credit score of 600 and at least one year in business. Others may raise the bar a little higher and expect a score of 620 or better and at least two years in business.
The P2P lending platform will determine whether you qualify by reviewing information you share when you apply for the loan. Most platforms ask for the same general information, such as:
-- Business and personal credit scores
-- Time in business
-- Average annual revenue
-- Tax returns for the last two years
-- Business and personal banking statements
-- Business financial documents, such as your balance sheet, cash flow statement and earnings statement
You may also need to disclose any outstanding loans that aren't listed on your credit reports.
What Are the Benefits of Using P2P Loans to Fund a Business?
P2P loans tend to be more accessible than business loans from a bank or credit union. If you've struggled to get business financing from other sources because of poor credit, a P2P loan could open up the door to funding.
"Generally, there is much less concern with personal creditworthiness and more emphasis on the financials of the particular project," says Robert Pellegrini, president of PK Boston Law and advisor to small businesses using P2P lending. "Likewise, there are generally much fewer documents to sign at the closing table."
From start to finish, the P2P loan process is much quicker and easier than the traditional method, Pellegrini adds. Setting up your profile and applying through a lending platform can take just a few minutes.
The entire underwriting process could take one to two weeks. And once your loan is funded, you could get the money in just a few business days.
What Are the Drawbacks of P2P Loans for Businesses?
A P2P loan may be easier to qualify for compared with a traditional business loan, but you may end up at a disadvantage with the interest rate. If you have poor or bad credit, you might be looking at a much higher rate to borrow money.
Then you'd have to weigh the convenience of the loan against the cost. If you can't get a loan elsewhere and the cost is worthwhile for your business, then a higher rate may be an acceptable trade-off.
While not necessarily a drawback, the novelty of P2P loans is another reason to be skeptical of this type of business borrowing.
"P2P lending is still relatively young, so it's not as well-regulated as other forms of lending," says Chloe Gawrych, senior writer and business expert at Business.org, which researches, reviews and recommends software and services for small businesses. "That means there's more risk for both borrowers and investors."
The risk to investors is that the businesses they lend to won't pay back what they borrow. On the borrower side, read the terms of the loan agreement carefully. Look for penalty rates or fees that may be buried in the fine print. You'll want to know about them before signing off on a loan.
How Can You Evaluate Peer-to-Peer Lending Options?
If you think that a P2P loan could be a good fit for your business, evaluate the loan the same way you would any other product. As you compare loans, look at your:
-- Estimated payment. Before agreeing to any P2P business loan, review your business's financials to make sure you can repay it. The loan you choose should help you achieve your goals without putting undue strain on your cash flow.
-- Interest rates. Check the APR ranges different lenders offer to estimate how much a loan might cost. Also, ask whether the rates are fixed or variable because that can affect your monthly payment.
-- Fees. Get a rundown of the fees you will pay to list your loan on the platform, plus any ongoing or one-time fees you'll be charged. Check to see whether the lender charges a loan origination fee or prepayment penalty.
-- Loan amounts. Review loan minimums and maximums so you know whether your desired loan amount falls within what's available.
-- Repayment terms. Compare how long different lenders give you to repay a P2P loan.
-- Minimum credit and financial qualifications. Checking the minimum requirements for approval can help you avoid applying for loans you won't qualify for.
-- Collateral and personal guarantee requirements. Consider whether you'll need to offer collateral or a personal guarantee to get a loan.
"As with any situation where someone is shopping around for a loan, borrowers should be looking at all of the terms to determine whether taking the loan would be a good decision," Pellegrini says.