Peer-to-peer (P2P) lending is not currently not allowed in Canada but I think it should be. In this blog, I want to talk about what P2P lending is, why it’s not allowed in Canada, and lay out a case for why it should be allowed in Canada.
WHAT IS P2P LENDING
Let’s start with the basics — what is P2P lending?
Peer-to-peer lending is crowdsourced borrowing. An individual who needs money can go to a p2p site (like Prosper.com) and post their need for cash. Lenders can collectively lend money to the borrower. So if someone needs $1000, a group of lenders can each chip in a certain amount — anywhere from $25 up to the full amount — to lend money to the borrower. The borrower then pays back the full amount plus interest.
I need to make one clarification here: P2P lending (crowdsourced borrowing) is different from crowdfunding (like through Kickstarter). In very general terms, borrowing comes with an expectation to pay back while funding is more like a donation.
WHY IS P2P LENDING A GOOD THING?
People need different sources of money and not all money can come from banks or other “formal” lending institutions. This is why payday loan companies offer a valuable service (even though they are frequently disparaged by people who don’t use them)… because payday loan companies serve a clientele who cannot or don’t want to go do through a bank. The same with P2P lending.
- Why use a P2P lending service instead of a bank? Borrowers who use P2P services might be able to go through a bank, and they would likely get better interest rates if they do. But there might be reasons why they don’t want to go through a bank. Perhaps they don’t have the credit rating or don’t want to take the hit on their credit score. And P2P is certainly faster than a bank loan, and while they might be able to access just as much (or more) than a bank loan.
- Why use a P2P lending service instead of credit cards or payday loan services? A P2P lending service gives borrowers access to money at a rate that is frequently better than credit cards or payday loan companies, and at amounts potentially more than credit cards and payday loan companies will lend.
On the lending side, lenders minimize their risk (by only lending a smaller amount, say $50 or $100 at a time) but get a higher return than they often would with a mutual fund (especially in today’s stock market).
BUT AREN’T THERE RISKS?
I’m not naive enough to suggest that P2P lending is all roses and sunshine. On the borrowing side, it’s possible to get into debt too much with P2P lending (no different than credit card debt, I suppose), and the interest rates can be high-ish in some cases. And on the lending side, there are defaults, just as there would be for banks in more conventional loans.
But there are risks in everything we do (there’s even risks associated with doing nothing) and as P2P lending sites like Prosper.com get better and better, those risks decrease. (Plus, smart lenders decrease risks by spreading their lending across several loans instead of dumping it all into one loan).
Like any other investment, I’d rather have the option to choose to pursue the opportunity or not… instead of what I have now: It’s decided for me.
WHY CAN’T CANADIANS PARTICIPATE IN P2P LENDING?
When I first learned about Prosper.com a few years ago, I looked into signing up. No-go. Canadians cannot participate. I tried again recently and it’s still the same.
I haven’t found a lot of information on why this is the case but Wikipedia has a good and clear (yet simple) explanation, which I’m summarizing here: Giving someone money with the expectation of making a profit is a type of “security” (just like other investments are types of securities). Securities are highly regulated. (That’s a good thing). In the US, they are regulated by the SEC.
In Canada, things are different apparently. (I’m still learning this part, in spite of being a formerly licensed investment advisor and working for in the financial industry since 1999 — yeah, that’s embarrassing, although in my defense, most of my time has been spent focusing on the US financial industry!). In Canada, we don’t have a a federal securities regulator akin to the SEC. Rather, our Canadian Securities Administrators (CSAs) are provincial — each province has its own regulator. (Observation: Is it strange that a republic like the US has a federal regulator while a parliamentary democracy has provincial regulators? Maybe I’m the only one who thinks that is weird).
Okay, as I dug deeper into some research, I found one company that was granted a license to operate a online peer-to-peer lending platform (for accredited investors only). The Ontario Securities Commission ruling from September 8, 2009 is here. The company, CommunityLend, has actually been winding down their operations since February 2012 in order to pursue a consumer lending business. In their blog post about their wind-down, they wrote a very telling analysis of the state of P2P lending in Canada: “We observed that P2P Lending, as it needs to operate within the Canadian regulatory system today, has enough headwinds blowing against it that getting to a significant scale was going to be both expensive and difficult.” (View the CommunityLend blog post: Onwards and Upwards from February 23, 2012)
Sadly, the only apparent Canadian P2P lender, already hampered by the “accredited investor” requirement, has been shut down.
Our provincial regulators have not seen fit to agree that P2P lending is worthy of making it available for all Canadians. Therefore, no average investor can participate in P2P lending here in Canada.
Why is this?
Here are a few guesses, based on totally unresearched, anecdotal observations and experience:
- Canada is more risk-averse than the US. (Or, put slightly more positively, the US is more entrepreneurial than Canada).
- Allowing P2P lending in Canada requires the agreement of all CSAs, which I’m sure is no easy task.
- The potential for lost tax revenue from out-of-Canada P2P participation is likely a key factor in why Canadians can’t participate in a site like Prosper.com.
We can’t lay fault at only the regulator’s feet. As I tried to research peer-to-peer lending in Canada, I quite simply saw a gaping void in the information. There was some info when CommunityLend first got off the ground in 2008-ish but it’s been relatively quiet since. Even a site that attempted to document the microlending industry in Canada was active until about 2010. It seems like Canadian regulators don’t want P2P lending and Canadian investors don’t care.
The result is that borrowers must look to more conventional sources for loans while investors must look to more conventional sources for investing. Any informal pay-back-with-interest loans are done offline, face-to-face, and will still rob the government of their tax income.
A CASE FOR P2P LENDING IN CANADA
- P2P lending in Canada takes an unregulated activity that is already going on and makes it regulated, and therefore safer (because of disclaimer requirements and educational opportunities and licensing).
- P2P lending in Canada gives an option to borrowers who don’t want to use some of the conventional borrowing sources (i.e. bureaucratic banks or high-interest payday loan lenders).
- P2P lending in Canada gives an option to investors who are aren’t seeing adequate returns from the conventional stock market.
- P2P lending in Canada allows the country to catch up to other nations that have recognized the inevitability of social lending.
- P2P lending in Canada regulates an activity that could generate tax revenue for the government (in the same way that other interest-bearing investments generate tax revenue).
- P2P lending in Canada helps our economy by putting money into play.