Risks of peer-to-business lending
Please read carefully. Peer-to-peer business lending carries inherent risks which lenders should be fully aware of…
rebuildingsociety.com does not understand your personal circumstances and does not offer advice. The only recommendation we make is that you take professional advice from an Independent Financial Advisor (IFA). Qualified IFAs have a specific permission to advise on P2P Finance Agreements.
We can offer non-personalised guidance. So before committing your hard-earned funds, please ensure that you fully understand the risks and consider how they may relate to your circumstances.
What is Peer 2 Business lending?
Peer-to-peer lending involves you lending your capital to businesses in return for a fixed rate of interest which you have agreed at the time of the lending commitment. Remember, you are lending to limited liability business and therefore your capital is at risk and ongoing interest payments are not guaranteed if the business defaults. For this reason rebuildingsociety.com always seeks to take security on from the Borrowers. Depending on the type of security provided, enforcing the security takes time and there can be no assurances as to the level of recovery.
With rebuildingsociety.com you are choosing businesses to lend to, based on a profile that includes financial information about the performance of the business. Businesses directly upload their data onto our platform. Whilst we endeavor to check and verify this information, it may contain inaccuracies. You should verify any information by reading and participating in the dialogue with the borrower on the ‘Discussion’ tab as this sometimes helps to close the gaps to questions raised by other other lenders, which are responded to by the borrower or their advisor.
Is there compensation scheme arrangements?
Unlike bank and building society deposits, your capital is not covered for compensation (in the event of a loss) by the Financial Services Compensation Scheme. However, since advising on the Innovative Finance ISA is a regulated activity, then if you feel you have been mis-advised or mis-sold an IF ISA product, you may raise a complaint to the Financial Ombudsman and may receive redress via the Financial Services Compensation Scheme.
Returns and Default rates
Any loan is exposed to default risk. This means that there is a risk that the borrower is unable to repay your capital and interest payments.
To help you understand the historical default rates on our platform, we have published historical returns and default rates on the stats page of our website. References on this historic information is not intended to be indicative of future rates, as past performance cannot guarantee future performance. You can find the historical return and default rates here.
Although the secondary market enables lenders to sell their loans, there is no guarantee that a lender may be able to sell the loan at all, or at a price which you believe to be fair value. The price you will receive, and the ability to sell the loan will depend on the demand at the time. Because repayments are made on an incumbency basis, you may lose some accrued interest, dependent on:
- the repayment date and
- the date and time at which the sale occurs and
- the timing of the repayment
For example, if the loan is purchased immediately before the repayment is processed, then the interest payment for the previous period is paid to the buyer.
Furthermore, if there is a problem or uncertainty relating to a loan it cannot be traded on the secondary market until the situation has been resolved satisfactorily.
The risk classification of a business may change during the term of a loan, this may make it easier or harder to sell a loan, depending on the level of demand.
We might die…
If rebuildingsociety.com were to stop trading it would present some risk to you in that the firm would no longer be administering borrower repayments back to your account. To mitigate this risk, we have put arrangements in place to protect your money including:
Holding uncommitted funds in a segregated client money trust account according to the rules of the Financial Conduct Authority.
An arrangement with another firm to take over the administration of the business loans you have made to ensure an orderly repayment to you of interest and capital to be credited to your account as normal for the remaining term. Funds held in the client money account would be collected and repaid by an insolvency practitioner. We call this a “Living Will” arrangement
You might die…
Depending on how long you plan to live for, you should give consideration to the length of the term of any loans you make. While we try to make it easy to divest through the secondary market, you may not always find a buyer, which may leave you invested for the full duration. Naturally your account would form part of your estate, but we would need a death certificate and to be contacted by a next of kin to process the account closure accordingly.
Small businesses are vulnerable and susceptible to unpredictable changes in circumstances. Many risks can be mitigated or managed by strong entrepreneurs, but there are some risks that can decimate a small business. We feel it’s important that you understand these. We’ve been amazed at the support, influence and compassion of the crowd that backs many of our businesses. Whilst it is encouraging to see the support of the crowd for our SMEs, make all decisions in full appreciation of external, loan specific and your personal risks.
A change in government can cause significant disruption to organisations that service the public sector. Even local government changes can mean supplier contract changes. Such policy changes can result in dramatic consequences for some businesses who rely on the public sector or generate most of their revenue directly from certain government policies. To mitigate this you may want to ask about the extent to which a business services the public sector, or are reliant on government policy considerations.
Remember the floods in Cornwall last year? or the floods in Hull before that? Remember the scenes when Sheffield was flooded? Climate change is something we live with every day, and it could wide out the business that you decide to lend to. In the absence of an insurance cover, such businesses have no hope of surviving and they will also struggle to pay your loan back.
Some businesses do really well from exploiting fads or fashion trends, however social tastes can change. Such businesses face demise when these trends fade.
Try to avoid investing in businesses you don’t understand. The latest and greatest innovations may be surpassed by competing technologies. It can be difficult staying ahead of an industry. Remember the Tech Bubble? When it burst, it dragged many businesses down with it. Don’t be over exposed to such businesses, and rather diversify your risks by investing in different sectors.
Leadership and ‘Key Person’ Risk
Many small businesses are led by one or two people, and the business is usually very dependent on such key persons within the business. If they fall under a limousine (or win a lottery and sail off to the Bahamas) then it unlikely there may be someone suitable to continue running the business. This means that your loan may remain unpaid because of the sudden demise of the business.
The recovery of the UK economy is vulnerable. A downturn in a given sector or geographic region may impact on the health of a business. There is an important extended risk to consider… if a key client or supplier of a borrower (or one of their key clients) is unable to pay a significant invoice, then it may impact on the borrower’s ability to repay you.
Changes in legislation can sometimes be disruptive. For example, until recently only law firms were able to sell legal services, however since lifting this restriction competition has increased and many legal firms have struggled.
If a business has been exploiting a legal loop-hole to gain advantage, then it may be short lived if the law changes.
If a patent proves to be difficult and expensive to defend then an infringement from a me-too or ‘copycat’ business could be detrimental.
Furthermore if a business has a case brought against it, then it is likely to be damaging to the business even if the outcome is successful, the energy and time cost is a distraction to entrepreneurs.
You do not need to have run a business to be able to successfully lend money in order to make a healthy return. Our aim is to educate you that there is some likelihood that at some point in the term of the loan, some businesses will struggle. They may fall into arrears or they may default. It is generally accepted that by having a diversified investment portfolio (i.e. no more than 5% of your invested capital with any one business), you will reduce this risk.
They key point is to factor in some losses into the overall returns you generate, and to regularly review the suitability of this form of investment, in accordance with your life and financial objectives.
If you make saving and investing a healthy part of your habits then you will prosper and become wealthy.