Although lending has been around since the concept of money itself, the ability to lend money to strangers online only became popular since the mid-noughties.
A lot has changed since then. New P2P regulations have been implemented, technology has changed the way we interact with money and countries have been updating laws. When it comes to P2P lending, what does the world look like today?
In this post, we look at the current P2P regulations, how they vary from country to country, and what they mean for you, the investor.
P2P regulations in Europe
The first P2P lending platform appeared in the UK but is becoming more and more popular in Europe. In fact, in the past few years, P2P lending has been growing at a much faster rate in Europe rather than in the UK.
So much so, that the EU is in the process of creating a framework specifically for peer to peer lending, called the ECSP.
One of the main hurdles European P2P platforms face are the different licensing requirements across each country in the EU. Each new country costs platforms a lot in compliance and operations costs, which in turn can prevent growth. Finally new Regulation will introduce uniform rules for obtaining a P2P license in the Member States and will help to provide and receive such services in the Member States under passporting in EU.
In the UK, every P2P platform is regulated by the Financial Conduct Authority (FCA). This protects lenders from malpractice by the provider. However, it doesn’t protect you from losses or provider insolvency. Unlike banks or building societies, P2P lenders are not covered by the Financial Services Compensation Scheme.
Which licenses do P2P platforms hold?
When it comes to getting a P2P license, there are two main ones that platforms can obtain:
1. Crowdfunding license
On 7 October 2020, the European Parliament adopted a Regulation on European Crowdfunding Service Providers for Business (Regulation). The Regulation entered into force on 10 November 2020 and applies from 10 November 2021, opening much wider opportunities for crowdfunding service providers, investors, and project owners looking for alternative sources of financing.
Regulation creates common crowdfunding rules and the single licensing procedure in all European Union and European Economic Area (EU/EEA) helping crowd financing function more smoothly all across Europe.
The Regulation allows a crowdfunding service provider licensed in one Member State to provide cross-border services in other Member States. This will lead to easier access for investors from other EU countries, and will ensure lower operational and compliance costs for market players with a cross-border ambition.
Authorized crowdfunding service providers benefit from the ability to render their crowdfunding services on a cross-border basis within the EEA by applying for a European Passport. This will allow investors to invest on a pan-European basis through crowdfunding platforms. Similarly, project owners will benefit from their ability to seek capital from investors throughout the EEA.
The Regulation also recognizes business models that are relevant for the market. For example, the Regulation lays down specific requirements for providers to be able to automatically allocate funds to crowdfunding projects, as well as the possibility to organize secondary trading in securities on a crowdfunding platform.
Investor Protection Measures
- The new Regulation established stricter new rules on investor protection. For example, the measures include the following: Credit risk assessment what means that a platform determines the price of a crowdfunding offer. It is required to conduct a credit risk assessment of the project or project owner as well to publish such policies or procedures setting out how it conducts these assessments;
- Due diligence what means that platform are required to undertake at least ‘’minimum level’’ due diligence with respect to each crowdfunding project and its owners as well this includes as assessment of criminal records and infractions relating to commercial, insolvency, fraud and money laundering issues;
- Individual portfolio management of loans. It means if the platform is given a discretionary mandate by investor to allocate the funds by way of loan to a project, this must be done in accordance with certain parameters specified by the investors relating to interest rates, loan risk categories, maturity etc.
- Reflection period. Crowdfunding service providers shall inform their clients about the reflection period for non-sophisticated investors. Whenever a crowdfunding offer is made, the crowdfunding service provider shall provide that information in a prominent place of the medium, including on every mobile application and webpage where such an offer is made.
- Key Investment Information Sheet (KIIS):Platforms must provide investors with a KIIS for each crowdfunding project. While the project owner is responsible for drafting the KIIS, the platform and its intermediaries are required to distribute it. The KIIS must include detailed information regarding the project and project owner, features relating to the borrowing or capital raising, risk factors, investor rights, complaints and fees, and portfolio management of loans, all as specified in Annex I of the Regulation, as well as a risk warning and disclaimers.
- Appropriateness test. Platforms must carry out an appropriateness test to assess unsophisticated investors, which is required to be based on an investor’s experience, financial situation, basic understanding of the investment risks and a simulation of the investor’s ability to bear losses
Systems and controls requirements
In order to be eligible for that license, platforms need to:
- Have a complaint handling procedure
- Manage conflicts of interest
- Manage outsourcing
- Provide annual reporting to the regulator
- Hold insurance policy that covers the entire EU
2. Investment license
Instead of getting a license as a crowdfunding platform, platforms can also choose to get a brokerage license. With this license, these platforms are essentially regulated as selling financial instruments. Since these are riskier, platforms will be required to meet stricter requirements.
For example, the platforms will be required to hold minimum equity, a bigger compliance team and be able to offer monthly reporting to the regulator.
How this impacts the investor
As an investor, why should you care?
One of the main problems facing the P2P industry is that some platforms have turned out to be scams and have gone bankrupt. This has caused a lot of investors to lose money and negatively impact the P2P industry.
Licenses such as the ECSP are being put in place in order to make the industry more secure for investors. If a platform holds a license, then it means that as an investor, you can remain confident that you are using a compliant and secure platform.
How will the investing experience change?
As an investor, you will see stricter onboarding and KYC procedures. For example, once the new license for European Crowdfunding Service Providers is completely rolled out, all platforms that hold a license will be required to ask investors to complete a knowledge test to confirm they understand the risks of investing. Platforms will also not be able to change terms and conditions without the approval from the regulator, and your funds will be better protected.
In general, this kind of regulation is positive, since it helps decrease risk and encourage more investors to join the sector. It might also encourage your country to take a closer look at the P2P lending industry and create an investment vehicle that shelters your gains against taxes.
Having said that, more people joining the sector could mean a decrease in opportunities and possibly a lower rate of return.
As you can see, the P2P industry isn’t the wild west: there are P2P regulations in place, and they help businesses and individuals bypass the banks and have better access to finance.
And as an investor, it’s an asset class that offers a much higher return than the 0.01% we’re currently getting in our savings accounts. (for example, at Swaper, we offer 14% returns).
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