Desperate times call for desperate measures. With the days of "100 percent financing" long gone and many lenders requiring at least 10 percent down for a home purchase, cash-strapped homebuyers are looking for down-payment money through a method that recently came into vogue — online peer-to-peer lending.
If you haven’t heard of peer-to-peer (p2p) lending, it’s a concept that’s been around for at least a few decades: “regular people” form a group to invest and loan their money to other “regular people.” For instance, if you wanted $15,000 to build a new kitchen or deck — home improvement is a more common reason to use these loans, rather than trying to use the money as leverage to buy a home — you might have 15 or even 50 members ponying up the funds that make up all of that fifteen grand. And as you pay back what you owe every month, plus interest, those regular people who lent you money will make themselves a profit. Everybody’s happy.
Prosper.com is the best known of these groups, but other companies include Lending Club, which is quickly becoming the leader in the p2p industry, and there are other established organizations like Peer-to-Peer and Peer Lending Network.
Still, landing a loan through a p2p network is getting increasingly difficult as the economy works itself out. As of this writing, Prosper.com is revamping how it issues loans and has temporarily halted its lending. Even if a p2p will give you money, you may not be able to use it for a new house. Here are some thorny issues to consider:
Issue 1: Will Your Mortgage Company Accept It?
Your mortgage company generally wants to know that you were able to save up the money for a down payment, which means that most loan applications will turn up their noses if your down payment came from unsecured funds, which is what a loan from a peer-to-peer lending network would be, observes Richard Ryan, owner of Primacy Mortgage in Atlanta. Ryan says that the Federal Housing Administration allows money to come from one type of unsecured fund — a gift from a family member — but otherwise, for most mortgage applications, an unsecured loan from a p2p group is a no-no.
“If the borrower is willing to make false statements on the 1003 (standard mortgage loan application), then it is feasible that it would work,” says Ryan, who emphatically adds that he isn’t endorsing the idea. “One of the questions on the 1003 is, 'Is any part of the down payment borrowed?' So the borrower would need to be willing to lie outright.”
Of course, you may get lucky and find an application that does accept unsecured funds, or you may want to consider something radical and simply tell the truth. In rare cases, especially if you have strong credit and a well-paying job, you may be able to work out an agreement with a mortgage company, especially if you’ve already borrowed money for a potential down payment, and those funds are just sitting in your bank account. After all, mortgage companies want to make money. But they want the assurance that you’re a good credit risk.
Issue 2: Will Your Credit Score Make The Cut?
If you do go to a peer-to-peer lending network, even though regular people and non-professional investors are giving you money, the bar for getting a loan is arguably just as stringent as the banks. If that’s the case, what’s the advantage to even trying a p2p outfit? They frequently have lower interest rates.
According to Renaud Laplanche, CEO of LendingClub.com, an applicant has a pretty decent chance of getting a loan if they have a minimum credit score of 640, and some other factors fall into place. If you’re part of a two-income family, your stock rises. If your debt isn’t outrageous and you’re paying your bills on time, that helps, too, obviously. If you have a massive amount of financial debt, and it could all come crashing down on you due to one misstep, or if you have a bankruptcy in your recent past, you might as well learn to appreciate where you currently live: you’re not going anywhere, at least not with peer-to-peer lending.
“The process is pretty straightforward,” says Laplanche. “Come to the site, fill out an application in five or 10 minutes, and you get a response from us immediately, telling you if you’ve been approved or denied.” If you’re approved (the maximum amount they’ll give anyone is $25,000), you fill in a description for a loan and explain to your potential lenders what you intend to use the money for. Be stingy on details, and it may take a little longer to get a loan. Impress the crowd and show off your personality a bit or explain your situation in-depth, and Lapanche says that lenders tend to naturally offer a loan quicker.
Issue 3: Do You Have Family Members Who Can Help?
Of course, if your credit score is anemic, and if your mortgage company will not accept a down payment from a p2p network but will take a family member, you could ask a very understanding relative with good credit to take out a loan and then give or lend you the money. It’s not a good option, but unfortunately, in many instances, that’s probably the most direct route to get money from a p2p and into your new home.
But considering how the economy came to crumble — from borrowing first and struggling to pay for it later — all potential homeowners should probably consider the benefits of saving up for a down payment without a lot of the stagecraft. “My mantra is that the borrower needs to do their due diligence just as much as the lender,” says Hugh Bromma, CEO of the Entrust Group and someone who has overseen peer-to-peer lending since the 1970s. “The borrower has to ask, 'What is the purpose of my borrowing, and how am I going to pay for it?'"
And sometimes the answer, of course, is that it’s smarter to stay put.
Geoff Williams is a freelance journalist, author and personal finance blogger at AOL’s WalletPop.com.