P2P lending service providers have been in business in India since early 2014, but until last year, there was no regulation around it. Photo: iStock

Lessons for P2P lending in India

Though P2Ps are still new in India, regulations are more stringent than in China. But watch out for risks.

Peer-to-peer (P2P) lending platforms in China are shutting shop at a rapid pace. A P2P lending platform is a virtual marketplace where actual lenders meet actual borrowers. A Bloomberg report from July states that 4,500 P2P lending platforms in China have closed shop since 2013. The P2P lending industry in China has 50 million registered users and $192 billion of outstanding loans, according to the Bloomberg report. Other estimates put the size of outstanding loans through P2P lending platforms in China at $430 billion.

The crisis in China’s P2P lending market was a fallout of regulatory attempts to clean up the lending space of problems like high interest rates, misuse of funds and exaggerated return figures. Instead of complying with stricter regulations, some platforms chose to shut operations, which led to panic among investors who started placing withdrawal requests on other P2P lending platforms too, leading to further confusion.

But why are we talking about China? That’s because a P2P lending market is slowly developing in India too. However, investors, who become lenders in P2P lending, looking to make money through the interest they earn by loaning an amount need to be careful. Here is what is happening in the Indian P2P lending market and how it is different compared to the market in China.

P2P lending in India

P2P lending service providers have been in business in India since early 2014, but until last year, there was no regulation around it. In September 2017, RBI notified that these will be registered as non-banking financial companies (NBFCs) and came out with guidelines for P2P lending platforms a month later.

Though there are several websites claiming to be offering P2P lending services in India, RBI has published a list of five companies that have been registered as P2P lending NBFCs. Two more platforms got registered in July, though it has not been updated in the list yet. The list of NBFCs is updated every quarter.

The size of the Indian P2P lending market is around 200 crore, said Rajat Gandhi, founder and CEO of P2P platform Faircent, owned by Fairassets Technologies Pvt. Ltd, one of the first P2P lenders in India that got RBI registration.

Status of defaults

A part of the problem in China’s P2P lending businesses was high default rates. When the repayment of a loan, in the form of an EMI, is delayed beyond the scheduled date of repayment, it is considered a default on repayment. If the repayment gets due beyond 90 days, the loan account is classified as a non-performing asset (NPA). The lower the default rate or NPA, the better is the financial health of a lending portfolio. It’s advisable for investors to keep a check on the default rates of a platform.

While there is no standard industry-wide data available for P2P lenders in India yet, “P2P lenders that have got a licence from RBI need to put out their default numbers on their websites", said Bhavin Patel, founder and CEO of LenDenClub, a P2P lending platform. They are taking credit bureau memberships as well to run a credit profile check of borrowers, and to report back the performance of borrowers, he added.

Not everyone who registers as a borrower gets a loan. Of the 26,000 borrowers registered on LenDenClub, only about 3,500 got loans, Patel said. “At least one out of 10 people applying are defaulters on a bank’s loan. Such borrowers are not given a loan at all. But there are people who defaulted for a short time, which seemed unintentional, and then repaid the principal; then it is acceptable. They may get approved with limited exposure at higher rates," he added.

High return, high risk

In P2P lending, a lender’s potential return depends on the risk she is willing to take. Higher risk could mean higher default rates.

In some cases, even a person with a good credit background may not get a loan from a bank. For instance, a person may not get a loan if he becomes self-employed after quitting a good company, said Gandhi from Faircent. For such borrowers, default rates are comparable to that of a bank, that is under 2%, he said. But the rate of interest starts at 12% and goes up to 36% for high-risk borrowers. “The pricing is based on risk. So at 12%, the default rate is less than 2% but in the category borrowing at 36%, the default rate goes up to 9-10%," Gandhi said. Faircent’s portfolio has a default rate of 5.4%.

Lessons from China

The trend of default rates among Indian P2P lenders would clearly emerge only after a lending cycle post RBI regulations is complete, which may take about two more years. The current regulations allow these P2P NBFCs to lend for not more than 36 months.

However, the P2P lending industry as well as analysts are optimistic about the Indian market compared to developments in China. Mahesh Makhija, partner advisory, financial services, EY India, said regulations in China were not as stringent as what is already in place in India. “RBI has capped the exposure that any potential lender can take, which is 10 lakh. So the regulations are in place to allow the market to take some shape and over a period of time based on how things develop, RBI might loosen a few things," he said.

Also, there are differences in business models of P2P lenders in India and China, said Patel. In China, when a lender invests through a P2P platform, the investor would give the money to the platform, which later would get deployed to borrowers. In India, on the other hand, a platform does not take the money; the money goes directly from the lender to the borrower.

“So the P2P lending platform itself is isolated from the transaction. In China, when a platform took the money, they were also taking the onus of returning the money and in many cases guaranteeing a return as well. RBI has also curbed the problematic aspects like guaranteeing a return (to investors/lenders). This will eventually result in healthy competition as companies will not be able to miss-sell the product," Patel said.

What needs to be seen over the next few years is how the recovery processes evolve. At present, most P2P NBFCs are offering legal assistance to lenders on their platform in case of a repayment default. The company itself takes legal action against defaulting borrowers, and a fixed percentage of the recovered amount is charged as fee.