Fintech Revolution, P2P Lending & Problems with Current Fintech Platforms
Fintech Revolution
Financial technology (better known as Fintech) is used to describe new tech that seeks to improve and automate the delivery and use of financial services and products. ​​​At its core, fintech is utilized to help companies, business owners, and consumers better manage their financial operations, processes, and lives by utilizing specialized software and algorithms that are used on computers and, increasingly, smartphones or tablet. Fintech, the word, is a combination of "financial” and “technology."
When fintech emerged in the 21st century, the term was initially applied to the technology employed at the back-end systems of established financial institutions. ​Since then, however, there has been a shift to more consumer-oriented services and therefore a more consumer-oriented definition. Fintech now includes different sectors and industries such as education, retail banking, fundraising and non-profit, and investment management, to name a few.
Fintech is bridging the gap between what traditional banks offer and what the modern consumer has grown to expect. The industry has experienced massive growth. In fact, according to The Business Research Company, the global fintech market was valued at about $127.66 billion in 2018 and is expected to grow to $309.98 billion at an annual growth rate of nearly 25% through 2022.
Emergence of P2P with FinTech
P2P lending enables individuals and companies to lend and borrow money by connecting lenders with borrowers directly through an online peer-to-peer lending platform instead of using a traditional bank as an intermediary. From an investor perspective, it is, however, also possible to invest on platforms that collaborates with loan originators, which blurs the direct relationship between lender and borrower (more on these platforms in the section “P2P Lending Business Model 2: Peer-to-Peer Lending with Loan Originators”).
Until recently, if you needed a loan, the only real option was to talk to a bank or similar financial institution. But today, you can tap alternative sources of funding, including a peer-to-peer (P2P) loan, whereby individuals lend money to other individuals using a website as an intermediary. P2P lending, sometimes called social lending, crowd lending or even crowdfunding, also offers investors an alternative way to obtain a return on their money.
P2P websites bring lenders and borrowers together. If you want to borrow money, you can either submit your requirements directly to one of the many P2P sites or use a peer-to-peer loan comparison website, which will search the market to get you the best deal.
Your loan application will be assessed in the same way as an application to a traditional bank. The P2P loan platform will use a credit reference agency to trawl through publicly available information such as the electoral register and will analyse your financial history to establish your credit rating, or the risk involved in lending to you. If your application is accepted, it will then match you with other individuals willing to offer you a peer-to-peer loan.
If you’re interested in investing, in other words, becoming a lender, you can open an account on the P2P website and transfer across the money you want to invest. You may be able to choose the return you’re seeking and split your money across many borrowers, reducing the risk that a loan might not be repaid. Some sites even allow you to bid on loans.
Each platform will operate differently though and offer different levels of protection to investors so it’s important to do your research to find the right option for you.
Generally speaking, the safer the investment is perceived to be, the lower the rate of return on offer for investors.
Borrower, Lenders, and 3rd Parties
Parties involved in the transaction includes individuals as borrowers, lenders include Banks (Private and Nationalized) and 3rd parties includes Fintech platforms (P2P etc).
Advantages for the borrower
P2P sites can offer more attractive interest rates than banks & building societies particularly if you have a good credit score. Some sites may offer peer-to-peer loans to people with lower credit ratings.
They may also be willing to lend smaller sums than banks or building societies, which often have a minimum loan amount.
Some platforms allow you to pay off your P2P loan early without penalties if you no longer need the loan.
As the process is online, it tends to be quick and convenient. You can borrow money for a wide variety of purposes, including for business reasons.
Advantages for the lender/investor
It may be possible to access a much higher rate of return than is currently available from other investments, such as deposit accounts or bonds.
You can choose the level of risk you’re prepared to accept in terms of the profile of the borrowers you lend money to.
Some sites have contingency funds to protect lenders if borrowers’ default.
You can receive income from P2P lending tax free if you invest via an Innovative Finance Individual Savings Account (IFISA).
Disadvantages for the lender
Loans you make are not covered by the Financial Services Compensation Scheme. So, if a borrower is unable to repay their loan, you will suffer a financial loss.
If you want to get your money back during a loan agreement, you are likely to have to find another lender to take on the loan. The platform can normally arrange this for you, but the process may not always be as quick and involves fees.
Returns may also be lower than expected if the borrower repays a P2P loan early.
Disadvantages for the borrower
You may have to pay additional fees on top of the interest rate charged for the loan.
You may have to pay a higher interest rate than that charged by traditional lenders if you have a poor credit rating. You may not even get a peer-to-peer loan if your financial profile is very poor.
If you run into difficulties in repaying the loan, you might not receive the same protection as you would when borrowing through a traditional lender. A P2P website may, for example, pass on the bad debt to a debt collection agency, which could ultimately take you to court.
Fintech is considered the future of banking and financial institutions, which is why it’s not surprising that the top 50 fintech companies in Europe have raised over $16.8B (€14.3B) in venture capital funding and are valued, collectively, at over $92B (€78B).
Traditional banks have evolved drastically in the way they function thanks to new-age technologies including machine learning, AI, and analytics. Banks have also begun to acquire fintech start-ups to add to their services. In addition, fintech start-up accelerator programs are gaining popularity, some of which are managed by banks including ING and JPMorgan.
As mentioned even though there are 100’s of Fintech companies trying to use the technology and the competition is intense, but none could precisely execute the solution because Fintech companies are centralized, loans are with higher interest rates, loans only for reputed colleges or courses, neither the benefits are passed on to the students or who borrow loan for education or the lenders, requires high collateral, requires guarantors, limited opportunities for individuals and small business lenders, risks of defaulters etc.
Problems with Traditional & Current Fintech
Even though Fintech & P2P provide options for borrowing for educational loans and alternative finance against the traditional providers but still for borrower the hurdles which they need to cross at every stage to successfully secure an educational loan remains the same.
Approved list of colleges and courses: - First major challenge that students face, whether they study in the country or abroad. Lenders generally rely on the ranking of college/institute to judge their loan application. At times student find it difficult to secure loans because the institution or college doesn’t fall on the list of approved schools or courses. Finding suitable education loans for vocational and upskilling courses is always a challenge for many students. In the case of these vocational and short-term courses, students find financing options only if the institute has tied up with a lender whether it’s reputed Bank or a FinTech company.
Future Employment Prospectus: - Another major setback is that most lenders banks and Fintech companies look over future employment and potential future earning as a factor to evaluate loan applications.
Need for a collateral, a co-applicant, and a guarantor for higher loans: - In most cases the final decision of Lenders generally relies on the student’s ability to pledge collateral documents, a co-applicant, credit worthiness of the applicant or co-applicant (good credit score), and a guarantor for higher loans and for studying abroad insurance is also mandatory.
No standard measure & Higher Interest Rates: - Students usually settle on a lender or a product without exploring and comparing them, which might result in a loan with a higher interest rate or processing fee. As every loan product is structured differently with no standard measure across products to calculate the total cost that a student will bear. Another factor that impacts students is the unawareness of varied loan products. As there is no standardization in the loan products and process, it also impacts the decision taken on the application. Higher interest rates put a lot of pressure on students and may affect their repayment capacity.
Insufficient Loan Amounts: - Students applying for loans often complain that lenders are not sanctioning the required amount, or the sanctioned amount is insufficient to cover other expenses. When giving education loans, lenders face a high possibility of defaults so to lower the risk, lenders often sanction the amount that they deem reasonable in given circumstances.
Process is opaque and lengthy: - Students and families borrowing educational loan face multiple roadblocks in the entire loan application process from start to finish. There are several document submissions & formalities that delay the decision.
Highly Riskier for Both Parties: -Education loans involve high risk for both lenders and borrowers. Student loans are full of uncertainty than any other loans because repayment of education loans is highly dependent on the likelihood of students completing the course and securing a job. If students don’t finish the course or get a job on time, lenders may face loan default while students get bad remarks on their credit profile.
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