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Person-to-person lending online gathers steam

Colin Nash, 35, was struggling with $12,000 in credit card debt late last year. Meanwhile, Michael Fisher, 24, was looking for a new investment. So, Fisher loaned Nash $200.
Business of Life
Since joining about a year ago, Michael Fisher has loaned out about $15,000. The returns so far are beating most of his other investments, he said.Marcus R. Donner / AP
/ Source: The Associated Press

Colin Nash, 35, was struggling with $12,000 in credit card debt late last year. Meanwhile, Michael Fisher, 24, was looking for a new investment. So, Fisher loaned Nash $200.

The two men, however, had never met.

Nash and Fisher are members of, the U.S. leader in a growing trend known as peer-to-peer lending, which facilitates loans between complete strangers.

Social lending has been around since the days when needy families turned to the richest man in town, but the Web is breathing new life into the practice. Loans on Prosper and Facebook’s LendingClub have risen to $100 million this year from $27 million in 2006, according to Online Banking Report. By 2010, the report forecasts $1 billion in peer-to-peer loan originations.

“I’m sure banks are watching it,” said Jim Bruene, the report’s author., a social lending site founded in Britain in March 2005, plans to launch in the U.S. the week of Dec. 3, according to a company spokeswoman.

The idea behind the sites is that borrowers can find better rates than traditional banks offer, while lenders can earn higher returns than from a savings account or other investment.

Borrowers on Prosper post how much money they need — up to $25,000 — the purpose of the loan and what interest rate they can afford. Lenders bid on the loans of their choice, typically funding only partial amounts and diversifying their risk among dozens or hundreds of loans.

Most loan requests are for debt consolidation, followed by small business and entrepreneurial purposes. The average loan amount totals just under $7,000. Prosper claims it has facilitated $98 million in loans since launching in February 2006.

Prosper’s added appeal, however, goes beyond the bottom line. Photos and personal narratives accompany borrowers’ requests: A father who needs $25,000 to equip a house and car for his son, who has recently begun using a wheelchair. A young couple seeking $5,000 for their wedding, who plead, “Please help us get married!” A group of young men in Montana who want $1,000 to purchase a professional wrestling ring.

The opportunities for social connection appeal to users, said Prosper co-founder and CEO Chris Larsen. Borrowers can appeal to lenders to look past a couple of late payments or spotty credit history, while lenders enjoy the satisfaction of seeing their money help someone in need.

“When you’re dealing with people, it’s ’I want to do well but I also want to feel good about how I’m doing well,”’ said Larsen, who formerly served as CEO and co-founder of financial services company E-LOAN.

But the numbers matter. Each Prosper borrower is assigned a grade based on their credit score to help lenders evaluate their risk and the site verifies borrowers’ identities. The average rate of return for lenders is 9.28 percent, with lower-grade loans earning 10.45 percent, according to Prosper.

Prosper makes its money by charging a 1 percent or 2 percent closing fee, based on the borrower’s credit grade, and lenders pay an annual loan servicing fee of 0.5 percent to 1 percent. It also collects fees for late payments on behalf of lenders and reports to credit bureaus. After 30 days, a collections agency is assigned to delinquent loans.

“This is not a free lunch,” said Greg McBride, senior financial analyst with “You have to keep up with these payments just as you would with any other financial obligation.”

Prosper’s default rate hovers at about 2.7 percent, Larsen said, but that figure is expected to rise as more loans mature.

According to a July 2007 Deutsche Bank report, about 5 percent of all Prosper loans originated more than 6 months ago have defaulted, while payments are late on nearly 10 percent of all loans.

Prosper user Mike Kost, who has loaned out about $5,000 on the site so far, said he’s observed an uptick in the number of borrowers missing payments, one reason he limits his loan bids to the minimum $50.

“The risk is not a problem,” said Kost, who writes a blog about Prosper. “It’s when you don’t get paid to take that risk that it’s a problem.”

Larsen has used Prosper to lend his housekeeper $25,000 to pay off high interest-rate loans and credit cards. People who know each other are turning to another social lending option.

The market for so-called “friends-and-family” loans is dominated in the U.S. by Virgin Money USA, formerly a Waltham, Mass.-based venture called CircleLending. The company, which recently sold a majority stake to British billionaire Richard Branson, formalizes loans between family and friends.

Virgin Money, which does not limit loan amounts, has more than $200 million in loans, said president and CEO Asheesh Advani.

“People are more self-directed with their money, and looking for more options outside of, ’I’m going to walk down the street and borrow money from my bank branch,” he said.

For Prosper borrower Colin Nash, loans made it possible for his wife to leave her coffee shop job to care for their children, including a second boy born in mid-November. He managed to shave several points off the rates on his credit cards, one of which had reached 24 percent, he said.

“You can’t walk into a bank and say, ’Come on man, I’m one guy and I don’t want my wife to have to work,”’ Nash said.

Software design engineer Michael Fisher said his decision to lend Nash $400 — $200 for Nash’s $12,000 loan late last year and another $200 for a second $8,000 loan in October — was based on both numbers and shared experience. Fisher leads a group on Prosper of about 70 employees of Microsoft Corp., including Nash. It is one of thousands of affiliations on the site based on everything from hobbies to religion.

( is a joint venture of Microsoft and NBC Universal News.)

Since joining Prosper about a year ago, Fisher has loaned out about $15,000. He now has 272 active loans, only a handful of which have defaulted. The returns so far are beating most of his other investments, he said.

“It’s just more fun to invest in Prosper, than to, say, invest in stocks,” Fisher said. “You’re closer to real people.”

But it’s the borrowers who are crucial to the future success of peer-to-peer lending, according to Bruene of the Online Banking Report.

“As soon as you put $10,000 out there to 10 people and eight — or even one — doesn’t pay you back, would you want to do it again?” he said.