Peer-to-peer lending (P2P) has long been deemed by many professionals in the conventional investment industry as too risky for retail investors.
And yet, this technology driven form of lending has surged in popularity over the past decade, which is largely a result of the sector offering a decent return where other asset classes have struggled.
According to research from AltFi published last month, the UK P2P lending market has outperformed more than 90 per cent of UK funds investing in bond and direct property over the past three years.
But while potential returns from P2P lending look attractive, is it a good place to invest for your pension?
Before the pension freedoms were introduced in 2015, savers had to buy an annuity, which pays a fixed sum of money throughout retirement.
“Historically, planning for retirement was relatively simple,” says Michael Lynn, chief executive at P2P lender Relendex. Now people have more choice, they are turning away from the traditional annuity, which Lynn says is because savers have been bitten by traditional pension schemes, and are being badly let down by off-the-shelf products.
Throw into the mix the concerns about an end to the equity bull market, and it’s not really surprising that people are looking to alternative sectors like P2P and crowdfunding to provide extra income in retirement and see their savings grow above inflation. In fact, Crowd for Angels says more than 20 per cent of its investors use the platform to save for pension growth.
And indeed, Relendex’s Lynn says that looking outside the box has become a “necessity” for retirement savings to flourish. He even argues that P2P investments need not be risky, provided the loans are secured against assets and the lender platform is regulated by the Financial Conduct Authority.
The government’s launch of the Innovative Finance Isa in 2016 has also given people more faith in the sector, offering savers a tax-free wrapper for alternative investments.
Of course, if you’re investing through the Innovative Finance Isa, this should act as a supplement to your retirement income, rather than a replacement for a pension.
Whether you’re saving for retirement or not, it’s never a good idea to invest in one asset class. But there’s certainly something to be said for allocating a small portion of your pension savings to authorised P2P lending firms.
As Folk2Folk chief executive Giles Cross puts it: “Returns from the right P2P platform can be a great way of bolstering retirement income, and should be considered as part of a balanced portfolio of investments.”
As well as the Isa, you can also invest in P2P loans through a DIY-style pension wrapper, such as a self-invested personal pension scheme (Sipp).
One of the benefits of the pension wrapper over the Isa is that you can invest through several different P2P lending sites, rather than just one, which in turn spreads some of the risk.
However, also bear in mind that most Sipp operators will only have a limited number of P2P providers to choose from – if any at all.
The chief executive of Goji, Jake Wombwell-Povey, warns that investing in debt products through Sipps is difficult. One problem is that some platforms don’t have the processes in place to make sure that money invested through a Sipp is not lent to a connected party.
“HMRC levies a tax charge against the Sipp trustee for breaking the rules; this means that Sipp administrators are understandably risk-averse to ensure that they don’t incur those charges – and this manifests in restricted investment lists.”
Wombwell-Povey also points out that Sipp managers need more regulatory capital if they allow investors to hold P2P loans and crowd bonds, which ultimately means higher costs for investors.
“All of these well-intentioned challenges have essentially relegated these investments into the ‘too difficult’ bucket for many of the less innovative Sipp managers, or into the ‘too expensive’ bucket for other investors, despite soaring popularity among retail investors.”
So if you’re looking to tap this market through a Sipp, look at the range of P2P providers available, and weigh up whether you think the extra costs are worth it.
Risk and reward
The proposition of each P2P lender varies so drastically and there are huge differences in the level of risk. This means there is no simple answer to whether the sector is suitable for your pension.
Just like any investment, it’s important to do your research when choosing where to allocate your money: make sure you understand the proposition, and are comfortable with the risks. Also find out the default rate, and whether the firm has a provision fund to compensate investors for poorly performing loans.
Richard Gill from Crowd for Angels says it’s important to know when you’ll receive income. “Some products, such as those offered by P2P providers, make consistent payments into your account as the loans are paid back. Others, like crowd bonds, may make monthly, quarterly, or semi-annual interest payments.”
Ultimately there’s a strong argument for allocating some of your pension savings into the P2P market, but make sure you understand what you’re signing up for.