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Digital Lending

[University of Michigan Law School]


- Overview

Banks have historically handled most consumer and small business lending because they have the resources to assess a borrower's creditworthiness, and the regulatory approval to fund loans. However, this model has some key inefficiencies – interest rates are not individualized, the costs of underwriting loans are high, loan decisions can take months, and small businesses in particular have been shut out of the process. This has left room for the growth of online lending marketplaces – dubbed peer-to-peer (P2P) lenders – that leverage the Internet to give both borrowers and investors a better deal. 

Digital lending is characterized by a focus on making cheaper loans available through completely digital means. It also focuses on automating the entire processing of this low cost asset. Alternative lending is a collective term used to describe the broad range of loan options available to both consumers and business owners outside of a traditional bank loan. Alternative lending models such as Peer-to-Peer (P2P) lending and Business-to-Business (B2B) lending make cheap loans available to an audience that is either cash strapped or traditionally deemed credit-invisible. The FinTechs may have uncovered a new segment and created a new ecosystem but banks are still key for the entire lending cycle to thrive and grow.


- P2P Lending

P2P lending is a new method of debt financing that allows people to borrow and lend money without a financial institution. Harnessing technology and big data, P2P platforms connect borrowers to investors faster and cheaper than any bank. P2P lenders solve the banking model's inefficiencies by developing online marketplaces that use complex algorithms to match borrowers with investors according to each party's specifications.

As consumers and businesses have moved more activities online, they have created an unprecedented amount of data. Online lenders have leveraged this data to make underwriting decisions, creating computer programs that can automate loan originations without the need for a customer to ever set foot in branch. These programs can use traditional underwriting criteria—such as debt to income or cash flow analysis—or less traditional metrics such as the number of visitors to a company’s website. 

Peer-to-peer (P2P) lending platforms offer loan opportunities outside of traditional lending institutions. P2P platforms leverage metrics such as credit scores and social media activity to link borrowers and lenders at favorable interest rates. Platforms have lower regulatory burdens because they are merely acting as intermediaries between borrower, lender, and partner bank, and thus can keep fees and rates low. 

P2P borrowers are often individuals seeking to refinance debt at reasonable rates or small businesses that have trouble getting low-value loans from traditional institutions. Lenders are typically individuals seeking a higher rate of return than can be garnered from other interest-bearing accounts.


- B2B Lending

B2B lending is similar to P2P lending but aimed for businesses. It enables SMEs (Small and Medium-sized Enterprises) to receive the necessary funding for growth directly from a set of online investors (both individual and institutional). The advantage of this model is that it allows businesses to cut the intermediaries like banks with complex and time-consuming paperwork time. In addition, just like P2P lending for individuals, B2B lending offers competitive rates and terms of financing along with transparency and ease of use.

The main advantage with B2B lending is flexibility. Businesses can pick a term, maturity date, and prepayment requirements. You’re able to shop around and compare your options against the market rate, providing more value than the banks.




[More to come ...]


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