The average American held $7,104 in personal loan debt in the fourth quarter of 2021, with an average delinquency rate of just three percent. What’s this say about the state of lending in America? 🤔 This means most Americans are in need of extra capital, make good use of it when they have it, and are oftentimes able to repay their debts on time.
Loans allow people to pay for things like emergencies, home improvement projects, medical bills, and more—a few of the top reasons we take out personal loans are common across the board. Today, technology can enable strangers to borrow money from other people, a process known as peer-to-peer lending (or p2p lending). 🤝🏽
There are ways to borrow money from strangers safely. We’ll break down the difference between a legit vs. unsafe loan, explain your rights as a borrower, and instruct you on how to prepare for any loan application.
Here’s what legitimate peer-to-peer loans look like
In a perfect loan agreement, the involved parties use a secure platform, develop a clear and fair contract, maintain transparency, and pay back what’s owed with minimal obstacles.
Take this example of someone borrowing money from a stranger:
Sonja wants to generate wealth for her family. For her, that means buying a home so she can build equity. 🏡 Real estate is likely to increase in value over time, so she feels comfortable borrowing money to help her purchase a new apartment instead of continuing to rent from a landlord.
Sonja uses nearly all of her own savings for the down payment to get a mortgage that she can afford with her monthly budget. Her offer is accepted, and she finally achieves her goal of securing a home for her family. 🎉
There’s just one problem: move-in is next month, and her place is completely unfurnished! After putting all of her savings and personal credit towards the home, she has few options left to pay for moving costs other than maxing out her credit cards, which she knows have high interest. 😣
Sonja decides to borrow $4500 from a stranger using a peer-to-peer loan platform. She wants to avoid getting a personal line of credit from a bank or applying for a new card at a credit union to protect her credit score. 📈
An individual investor funds her loan at an agreed-upon interest rate and the two sign an official loan agreement stating repayment and other terms. Over time, Sonja ultimately repays her loan while also repaying her mortgage. 🧾
Red flags to look out for when borrowing money from strangers
Borrowing money from strangers can look like the examples above—but not every lender (or lending platform) has your best interest at heart. That’s why you’ll want to know the top red flags from potential lenders. 🚩🚩
- A sense of urgency: This is a common theme among scams. In the case of someone borrowing money from a stranger, it may look like a lender feigning urgency to coax you into a predatory or fraudulent loan.
- Wild claims & far-off promises: If a lender makes wild claims, like promising to forgive half the loan amount if you pay early, take that with caution.
- Extremely low or high-interest rates: The interest rate should be above the Applicable Federal Rates (AFR) minimum for family loans, AND below the state maximum interest rate (aka usury laws).
- Unclear or unfair contract terms: Fair lending laws and regulations in the US exist to protect borrowers like you. One such law is clearly stating interest rate and compounding frequency. You may also be protected from unfair prepayment penalties. If they include an uncommon disclaimer or other out-of-the-ordinary terms, it may be worth looking at more deeply.
- Biased credit score requirements: If you have a troubled credit history, you still deserve a quality loan. While many companies in the financial services sector charge high-interest rates for low credit scores, some peer-to-peer platforms, like Pigeon, do not depend on financial history. Lenders take the lead on giving their friends and family competitive interest rates, with usury laws and AFR minimums in mind, avoiding the historically discriminatory nature of credit scores. 💯
- Being shady: Is the lender or lending platform being transparent and honest? They should be forthcoming with information and answer any questions you may have.
- Borrowing money on behalf of others: If you are borrowing money on behalf of others, say as a power of attorney, keep these tips in mind as the situation gets even more complex when mixing strangers with friends and family
Know your rights about interest rates and more
Let’s look deeper at your rights as a borrower. This is super important going into a loan agreement with a stranger—even if you’re using a trustworthy platform.
The Truth in Lending Act requires all lenders to be transparent to borrowers about interest rates, including if the interest rate changes during the loan term. Think about how your credit card company discloses interest rates for late payments. That clarity is crucial for all types of loans.
You also have a right to know about any one-time fees (also called origination fees).
Lenders must provide information about different loan options and their differences, when applicable.
A lender cannot use the threat of foreclosure to force a borrower to provide additional collateral (like a car or house that the lender would repossess if you couldn’t pay back the loan). In the same vein, lenders can’t speed up the repayment dates unfairly. 🙅🏾♀️
Preparing for your loan: A Checklist
☑️ Know your options. Understand the different types of loans, how interest rates impact your ability to repay, and how you may be able to negotiate a more favorable agreement for yourself.
☑️ Determine your debt-to-income ratio, aka how much you earn vs. how much you owe each month. This helps you figure out your cash flow, which tells you how much money you can afford on monthly payments. Use this free online tool to calculate your debt-to-income ratio.
☑️ Prepare financially for loan origination fees and any other fees associated with your loan.
☑️ Know your credit score. Even if you’re using a borrowing solution that doesn’t utilize credit scores, you can empower yourself by knowing where you stand according to legacy financial standards. You can find your credit score by following USA.gov instructions on obtaining your free annual credit report.
When looking for lenders, avoid the red flags we covered that indicate an unsavory borrowing situation. Know your rights, and prepare for the process by having a clear picture of your financial situation.
At the end of the day, borrowing money from people on the Internet can be a safe endeavor—as long as you do it right. 🐣 Learn more about borrowing on Pigeon by checking out our .
Want to read more related content? Check out some more of our awesome educational pieces below: