Savers can’t seem to catch a break. You’d be forgiven for failing to notice, but we are supposed to be in the middle of peak ISA (individual savings account) season, a time when providers are usually boosting their rates to attract any unused ISA allowances before the start of a new tax year. The stark reality is that next to nothing is going so if the banks are going to continue to ignore savers, should they be turning to alternatives such as peer-to-peer (P2P) lending?
What is going on with ISAs?
Back in December 2012, there were 73 new ISAs on the market, either as entirely new products or new issues of existing fixed rates, but last month there were only 24, according to Moneyfacts.co.uk. January is looking bleak too with only 27 new launches so far and unless the next week sees a frenzied flurry of activity, it won’t even be in the same ballpark as the 91 new launches seen last year.
Sylvia Waycot, editor at Moneyfacts.co.uk, says: “ISA season is the equivalent of Christmas for savers, with lots of competitive rates, fanfares and razzmatazz, but so far this year it is turning out to be a bit of a lame duck. Savers are crying out for good rates, and ISAs should satisfy that need, but it looks as if the banks and building societies still don’t need our money”.
As long as savers are getting nothing from the banks, innovative alternatives such as P2P lending become increasingly attractive.
What is P2P lending?
P2P platforms bring savers and borrowers together so that they can bypass the banks and lend to each other instead. So, the saver becomes the lender and gets their return from the loan rate charged to the borrower. Zopa has been around the longest and is now in its ninth year after launching in 2005. Lenders are being offered the Zopa Rate Promise of average returns of 5 per cent over five years and 4.1 per cent over three years for loans made by 3 February. Ratesetter is another big name and current market rates are 3 per cent over one year, 4 per cent over three and 5.7 per cent over five years. The projected returns from both companies are calculated after fees (1 per cent at Zopa and 10 per cent of the interest at RateSetter) and bad debt, but before tax.
You can see why savers are desperate for more options when you compare these returns to average rates on cash ISAs; ranging from a paltry 1.26 per cent on easy-access ISAs and only reaching 2.75 per cent if you lock your money away for five years. Funding Circle – which is currently advertising average net returns of 5.7 per cent – starts from the same principle as Zopa and Ratesetter but lends your money to small businesses instead. You can read through each loan proposal and decide which businesses you wish to lend to yourself, or use the Autobid tool to automatically spread your money over many businesses.
Countless newcomers include Funding Knight and rebuildingsociety.com, two more peer-to-business lenders, Funding Secure, which lets borrowers use their assets as security, and Assetz Capital, which secures loans on property.
What are the risks?
By far the biggest concern is that unlike normal savings, P2P lending is not covered by the Government-backed Financial Services Compensation Scheme (FSCS) which protects the first £85,000 if an institution goes bust. There haven’t been any major problems as yet, but the industry is still in its infancy and the unknown always carries risk so if a P2P site goes under, it could take all your money with it.
There are a few practical issues to consider too. Firstly, access to your money can be a problem and you may either have to leave your money tied up or pay an interest penalty and transfer fee if you need to get it back quickly.
The interest earned through a P2P lender is also subject to income tax. You pay tax on anything you earn before bad debt is taken into consideration. You’ll get an annual statement which has to be declared through a self-assessment tax return.
Which is better, ISAs or P2P?
Realistically, few people will delve into P2P without having already made use of cash ISAs, not least because there is an automatic tax saving with the latter. ISAs have proven to be hugely popular and with the cash element of the allowance set to rise to £5,880 from April, they are an attractively straightforward way to shelter some of your savings from the taxman.
Yet even with the tax saving taken into account, it’s difficult to ignore the fact that rates are unappealing and many savers will be happy to take on more risk for a better return. For anyone looking to diversify, P2P can play a valuable role as part of a balanced portfolio, although the additional risks should make any saver think twice before committing large sums of cash.
The good news is that the bigger platforms have introduced their own safety measures. The Zopa Safeguard and RateSetter Provision Fund have both been set up to compensate for bad debt.
RateSetter director Ian Cruickshank says: “RateSetter is unique in that we are the only major P2P platform where no lender has ever lost a penny – because of the Provision Fund. When compared with ISAs our products can be viewed as riskier because there is no FSCS cover, but that is why you get a more competitive rate.”
With so many new P2P lenders cropping up all the time, news that the Financial Conduct Authority will regulate the P2P sector from April 2014 is another important step and will provide a welcome boost to the existing voluntary trade body, the P2P Finance Association.
Things are also moving in a positive direction tax-wise with rumours that P2P-lending products could soon become eligible for inclusion in an ISA which should prove a huge boost to the industry.
Ian Gurney from consumer P2P website P2Pmoney.co.uk says: “There are a large and growing number of companies operating in this space and this is going to continue in 2014 with regulation coming into place in April. Each company will operate a slightly different lending model, so the choice for new lenders can be wide.”