🗳️ ELECTION 2024: THE MSE LEADERS' DEBATE Got a burning question you want us to ask the party leaders ahead of the general election? Submit your suggestions via this form or post them on our dedicated Forum board where you can see and upvote other users' questions. Please note that the Forum's rules on avoiding general political discussion still apply across all boards.
The Innovative Finance ISA Mega-Thread
Options
Nick0101
Posts: 15 Forumite
The Innovative Finance ISA has been introduced today to allow individuals to earn tax-free interest on peer-to-peer (P2P) lending activities. The “IFISA” will sit alongside the existing Cash ISA and Stocks & Shares ISAs and will share the same annual ISA limit (£15,240 for the 2016/17 tax year rising to £20,000 from April 2017).
Whilst the sector has seen explosive growth in volumes in recent years, the P2P sector itself began just over a decade ago with a company named Zopa, which focussed on individual consumer lending. The market has since mushroomed to include a range of platforms offering not just consumer loans but also property lending and a range of SME business financing options - with over £5 billion lent out in the UK alone so far.
I have personally been investing in P2P since 2013 and wanted to share key information about P2P lending, the new ISA and some of my personal experience as a lender so far. This is not advice, so if you are considering investing then please make a personal decision / seek professional advice.
What is Peer-to-Peer lending?
To put it simply, P2P lending allows borrowers to raise finance from the “crowd” by pairing pools of borrowers with pools of lenders. For example, a business seeking a loan of £100,000 could very well be funded by 10,000 smaller “loan parts” of £10 each - funded from 10,000 individual lenders. As the loan is repaid, each individual is paid interest plus their original £10.
By allowing individuals to lend small amounts to a large number of borrowers, lenders are (to an extent) able to spread their risk through diversification (albeit within P2P as a lending class) across potentially dozens, if not hundreds of businesses. The implication is that should any single business find itself unable to meet their repayment obligations, the overall “dent” in the portfolio is limited.
This is not the case with all platforms however - some require “manual” loan bidding which (in my experience) can make it quite difficult to spread the risk across a large number of loans - because so much depends on the loan offerings available at that particular time.
P2P lending and the mechanics of the incoming IFISA are summarised well in this video
https://www.youtube.com/watch?v=pYVu4TG7TWQ (Credit innovativefinanceisa.org.uk)
Risk considerations
While cash in the bank is generally protected by the Financial Services Compensation Scheme (up to £75k where the bank or building society is FCA-authorised), funds invested into P2P lending are not currently protected by this scheme and capital is therefore at risk in its entirety.
This form of investing carries various risks but the two most obvious risks to the lender are arguably;
Credit risk (i.e. risk of borrower default)
While this risk can be reduced to a certain extent by spreading the lending portfolio across a large number of borrowers, should a number of borrowers default on their loans at the same time then lenders would potentially stand to lose a significant proportion of their investment. As I mentioned above, some platforms operate a manual bidding process for loans, making it difficult at times to fully diversify across a large quantity of borrowers.
Platform risk
P2P lending is fully regulated by the Financial Conduct Authority (FCA), however, as has been seen, the underlying platform itself may fail. It is important to consider the legitimacy and integrity of the platforms that you are looking to invest in, though this is perhaps easier said than done. Should a platform go out of business, funds are unlikely to be fully recovered, although the FCA regulations have arguably reduced the risk of total loss (slightly) vs the position we were in when I started as a P2P lender 3 years ago.
Peer-to-Peer lending platforms
The world of P2P lending is not homogenous. Each platform (and there are many, though not all will be running the ISA from today) differs in a number of ways - some of which have been outlined below;
Credit checking and borrower risk assessment
Platforms will use different models for credit checking and risk assessing those looking to borrow money. Going further the risk “bandings” each platform applies to its applicant businesses are not necessarily comparable to any other platform’s risk banding. For example, a borrower categorised as “A+” on one platform might not correlate to a borrower categorised as “Low risk” or “Band 1” on another platform. Or would it? - there is no way of knowing.
Arguably, an influx of platform liquidity (as a result of this new ISA) could very well prompt certain platforms to relax their risk standards - if only to ensure that they are actually able to deploy all of the funds they have available. I’m not sure I fully subscribe to this, but it is an argument I have come across repeatedly online and in some of the financial press.
Lending process
The process of lending also varies between platforms. While some platforms have an “auto bid” facility that automatically deploys available funds to appropriate borrowers, others will require that the lender manually selects those that they wish to lend to.
Secondary markets
Some platforms offer the ability to sell each individual loan part on an internal “secondary market” - often in £10 increments. Should you wish to withdraw your funds before the loan term finishes, you may therefore be able to effectively sell off part or all of the loan to other lenders.
The problem here is that whilst great on paper, secondary markets require not just a willing seller but also a willing buyer - and you may have to take a discount on your original sum in order to “cash out” early.
Without a secondary market however, you will probably find that your funds are effectively tied up until the loan term finishes (which could be as long as 5 years - or longer in the case of property loans).
Interest rates and term loans
Different platforms will offer their own set of loan terms and interest rates to those wishing to lend. Typically speaking, the longer the loan term, the better the interest rate offered (assuming all things equal). Some platforms will not ever refer to loan terms, as they will have secondary markets which allow lenders to in a sense “come and go” as they please (though this is not always as easy as it sounds - see above).
Fees
P2P platforms are of course profit-oriented businesses and you can therefore expect fees. Some platforms only charge fees to the borrower, whilst others charge fees to both borrower and lender. Some fees are explicit, others are wound-into the rates offered. You may also find that there are fees for using a secondary market (i.e. selling out early) or that there is an annual fee and/or deposit fee. Again, the fee structure is unique to each platforms and it is worth considering when looking at overall return on investment projections - some platforms quote returns including fees and bad debts, others do not - so they are not always directly comparable!
A note on Reserve Funds
While there is no FSCS protection for lenders, some platforms offer an internal Reserve Fund which aims to protect the lender from borrower default. RateSetter currently offer one such fund and has so far been able to guarantee all loan repayments - however, they make it clear that past results are no guarantee of future performance. This is of course the case with a Reserve Fund - remember, they are non-statutory and there are no guarantees.
At the time of writing, RateSetter are offering lower interest rates to lenders than Funding Circle. However, Funding Circle does not currently offer a reserve fund, meaning that were a lender to default on its loan, then those lent funds would be lost. FC’s advertised interest rates account for an “expected default rate” (currently 2-3%), however this is not guaranteed and the risk is that more companies default than expected - bringing in actual returns which could potentially be much lower than advertised.
In my case, I opted to run with Funding Circle simply because on balance I felt it suited by risk tolerance. These decisions will of course be extremely personal to your individual circumstances, so I welcome your thoughts and look forward to reading the discussion!
Whilst the sector has seen explosive growth in volumes in recent years, the P2P sector itself began just over a decade ago with a company named Zopa, which focussed on individual consumer lending. The market has since mushroomed to include a range of platforms offering not just consumer loans but also property lending and a range of SME business financing options - with over £5 billion lent out in the UK alone so far.
I have personally been investing in P2P since 2013 and wanted to share key information about P2P lending, the new ISA and some of my personal experience as a lender so far. This is not advice, so if you are considering investing then please make a personal decision / seek professional advice.
What is Peer-to-Peer lending?
To put it simply, P2P lending allows borrowers to raise finance from the “crowd” by pairing pools of borrowers with pools of lenders. For example, a business seeking a loan of £100,000 could very well be funded by 10,000 smaller “loan parts” of £10 each - funded from 10,000 individual lenders. As the loan is repaid, each individual is paid interest plus their original £10.
By allowing individuals to lend small amounts to a large number of borrowers, lenders are (to an extent) able to spread their risk through diversification (albeit within P2P as a lending class) across potentially dozens, if not hundreds of businesses. The implication is that should any single business find itself unable to meet their repayment obligations, the overall “dent” in the portfolio is limited.
This is not the case with all platforms however - some require “manual” loan bidding which (in my experience) can make it quite difficult to spread the risk across a large number of loans - because so much depends on the loan offerings available at that particular time.
P2P lending and the mechanics of the incoming IFISA are summarised well in this video
https://www.youtube.com/watch?v=pYVu4TG7TWQ (Credit innovativefinanceisa.org.uk)
Risk considerations
While cash in the bank is generally protected by the Financial Services Compensation Scheme (up to £75k where the bank or building society is FCA-authorised), funds invested into P2P lending are not currently protected by this scheme and capital is therefore at risk in its entirety.
This form of investing carries various risks but the two most obvious risks to the lender are arguably;
Credit risk (i.e. risk of borrower default)
While this risk can be reduced to a certain extent by spreading the lending portfolio across a large number of borrowers, should a number of borrowers default on their loans at the same time then lenders would potentially stand to lose a significant proportion of their investment. As I mentioned above, some platforms operate a manual bidding process for loans, making it difficult at times to fully diversify across a large quantity of borrowers.
Platform risk
P2P lending is fully regulated by the Financial Conduct Authority (FCA), however, as has been seen, the underlying platform itself may fail. It is important to consider the legitimacy and integrity of the platforms that you are looking to invest in, though this is perhaps easier said than done. Should a platform go out of business, funds are unlikely to be fully recovered, although the FCA regulations have arguably reduced the risk of total loss (slightly) vs the position we were in when I started as a P2P lender 3 years ago.
Peer-to-Peer lending platforms
The world of P2P lending is not homogenous. Each platform (and there are many, though not all will be running the ISA from today) differs in a number of ways - some of which have been outlined below;
Credit checking and borrower risk assessment
Platforms will use different models for credit checking and risk assessing those looking to borrow money. Going further the risk “bandings” each platform applies to its applicant businesses are not necessarily comparable to any other platform’s risk banding. For example, a borrower categorised as “A+” on one platform might not correlate to a borrower categorised as “Low risk” or “Band 1” on another platform. Or would it? - there is no way of knowing.
Arguably, an influx of platform liquidity (as a result of this new ISA) could very well prompt certain platforms to relax their risk standards - if only to ensure that they are actually able to deploy all of the funds they have available. I’m not sure I fully subscribe to this, but it is an argument I have come across repeatedly online and in some of the financial press.
Lending process
The process of lending also varies between platforms. While some platforms have an “auto bid” facility that automatically deploys available funds to appropriate borrowers, others will require that the lender manually selects those that they wish to lend to.
Secondary markets
Some platforms offer the ability to sell each individual loan part on an internal “secondary market” - often in £10 increments. Should you wish to withdraw your funds before the loan term finishes, you may therefore be able to effectively sell off part or all of the loan to other lenders.
The problem here is that whilst great on paper, secondary markets require not just a willing seller but also a willing buyer - and you may have to take a discount on your original sum in order to “cash out” early.
Without a secondary market however, you will probably find that your funds are effectively tied up until the loan term finishes (which could be as long as 5 years - or longer in the case of property loans).
Interest rates and term loans
Different platforms will offer their own set of loan terms and interest rates to those wishing to lend. Typically speaking, the longer the loan term, the better the interest rate offered (assuming all things equal). Some platforms will not ever refer to loan terms, as they will have secondary markets which allow lenders to in a sense “come and go” as they please (though this is not always as easy as it sounds - see above).
Fees
P2P platforms are of course profit-oriented businesses and you can therefore expect fees. Some platforms only charge fees to the borrower, whilst others charge fees to both borrower and lender. Some fees are explicit, others are wound-into the rates offered. You may also find that there are fees for using a secondary market (i.e. selling out early) or that there is an annual fee and/or deposit fee. Again, the fee structure is unique to each platforms and it is worth considering when looking at overall return on investment projections - some platforms quote returns including fees and bad debts, others do not - so they are not always directly comparable!
A note on Reserve Funds
While there is no FSCS protection for lenders, some platforms offer an internal Reserve Fund which aims to protect the lender from borrower default. RateSetter currently offer one such fund and has so far been able to guarantee all loan repayments - however, they make it clear that past results are no guarantee of future performance. This is of course the case with a Reserve Fund - remember, they are non-statutory and there are no guarantees.
At the time of writing, RateSetter are offering lower interest rates to lenders than Funding Circle. However, Funding Circle does not currently offer a reserve fund, meaning that were a lender to default on its loan, then those lent funds would be lost. FC’s advertised interest rates account for an “expected default rate” (currently 2-3%), however this is not guaranteed and the risk is that more companies default than expected - bringing in actual returns which could potentially be much lower than advertised.
In my case, I opted to run with Funding Circle simply because on balance I felt it suited by risk tolerance. These decisions will of course be extremely personal to your individual circumstances, so I welcome your thoughts and look forward to reading the discussion!
0
Comments
-
very good explanation of P2P and how it works, i would also add that spreading your risk across platforms as well as individual loans helps to mitigate against platform loss, most people are likely to get a high % of their money returned but they may have to wait for it if a platform fails.
i use Saving Stream @12% return, Money Thing @12 approx and Assetz Capital, AC is more complicated in that it has separate accounts inside the main account, so you can use a Quick Access Account @4.25%, they have 2 managed accounts @7% and a manual loan investment account with a varying % options , i am also a member of Ablerate but as yet i have not dipped my toe in but will be soon i hope, i believe all of the above plan to offer IFISA's once they have full FCA approval.0 -
A few questions:
- Who is going to offer IFISAs? Highstreet banks? Or the P2P platforms themselves?
- If the latter, will we have to open one IFISA for each platform, or will we be able to include P2P contributions across all platforms in one IFISA? In either case, how will that work?
- Given that an IFISA doesn't provide FSCS cover, is there any benefit to investors whose interest doesn't take them out of their personal savings allowance?: )0 -
This is true but it doesn't sit comfortably with the fact that you will only be able to hold one Iffy ISA.very good explanation of P2P and how it works, i would also add that spreading your risk across platforms as well as individual loans helps to mitigate against platform loss,0 -
Flobberchops wrote: »A few questions:
- Who is going to offer IFISAs? Highstreet banks? Or the P2P platforms themselves?
- If the latter, will we have to open one IFISA for each platform, or will we be able to include P2P contributions across all platforms in one IFISA? In either case, how will that work?
- Given that an IFISA doesn't provide FSCS cover, is there any benefit to investors whose interest doesn't take them out of their personal savings allowance?
To answer those very good questions in order:
- P2P platforms themselves will offer the ISA. However, a number of platforms have not had the 'green light' from the FCA including RateSetter and Funding Circle, but they are likely to be authorised in the coming weeks.
- As it stands, one ISA can only be opened with one platform each tax year. Meaning you could open an ISA with RateSetter in 2016/17 and a separate ISA with Funding Circle in 2017/18. This is of course subject to change.
- The PSA makes the IFISA less appealing. However it does not detract from the historical performance of peer to peer lending in general, and that interest rates of 5%+ with flexible withdrawal terms are achievable. It is the risk that comes with this increased rate that requires consideration.
I started out using Funding Circle with a very small amount, familiarised myself with the platform and as I have grown more comfortable my investment has increased. Purely a personal experience, but starting small was a good option for someone relatively cautious like myself.0 -
very good explanation of P2P and how it works, i would also add that spreading your risk across platforms as well as individual loans helps to mitigate against platform loss
Can I
a) put £15k into one IFISA and
b) transfer a £15k previous year's cash ISA into another IFISA?illegitimi non carborundum0 -
Read somewhere, think the p2p independent forum, that hl were rumoured to be setting up an ifisa.
Given the sensible advice here to diversify investments then using an ifisa is difficult if it is only the one platform offering it.
I'm just starting in the p2p journey as its a useful diversifier. I've currently just hit £1k in rate setter for the sign up bonus primarily, and am looking at Savingstream, Moneything and possibly Ablrate.
My interest for the year is likely to exceed the psa limit so p2p within an ifisa would be useful for me but £15k on one platform just seems too risky for me at least initially so I'll start unwrapped and see what options arise later this year.0 -
I thought the HL FIFSA approach was that they would put your money into whichever P2Ps you wanted.
Zopa and Ratesetter both say they will offer IFISA once they are approved.illegitimi non carborundum0 -
Can I
a) put £15k into one IFISA and
b) transfer a £15k previous year's cash ISA into another IFISA?
I believe that is valid under the rules. Also to split your old money among several IFISAs. But any particular P2P platform may choose not to accept transfers (as is the case with some cash ISA providers, for example). They might do so initially to prevent a flood of money, for example.0 -
They said they wouldaccept existing cash and stocks & shares ISAs from previous years as well, but perhaps in a controlled volume as we cannot flood the platform with too much cash at once.illegitimi non carborundum0
-
I thought the HL FIFSA approach was that they would put your money into whichever P2Ps you wanted.
Zopa and Ratesetter both say they will offer IFISA once they are approved.
Yes, that's the point, if you open an ifisa with Zopa then presumably you can't then put a couple of grand in that, the same with rate setter, funding circle etc
I don't want to punt £15k on one platform even if there is a spread of actual loans.0
This discussion has been closed.
Categories
- All Categories
- 8 Election 2024: The MSE Leaders' Debate
- 343.9K Banking & Borrowing
- 250.3K Reduce Debt & Boost Income
- 450K Spending & Discounts
- 236K Work, Benefits & Business
- 609.2K Mortgages, Homes & Bills
- 173.4K Life & Family
- 248.6K Travel & Transport
- 1.5M Hobbies & Leisure
- 15.9K Discuss & Feedback
- 15.1K Coronavirus Support Boards