How to Play $1K: Powerful P2P Loans

Risks

The major P2P sites vow to screen borrowers. At Prosper.com, borrowers are ranked on credit-worthiness and listed with their credit grade. LendingClub.com and Zopa.com do not accept borrowers with any delinquencies on their credit histories that date back 12 months and they must have credit scores of at least 640 to participate. Usually, the higher the borrower's credit rating, the less chance of default . But, as a lender, if you're feeling lucky, you may want to go for riskier borrowers (think "subprime"), since you can expect higher rates of return.

That said, loans and their interest rate returns at Prosper and Lending Club are generally not insured or even guaranteed with default protection like a savings account would be at the local bank (up to $100,000 by the FDIC). The only sense of comfort is the knowledge that the P2P agent will report any missed payments or defaults to the credit agencies -- just like a credit card company reports delinquencies. The result: a stinky credit report that will hurt the borrower in the future.

The one added embarrassment for bad borrowers is the social shame of failing to hold up their end of the bargain. After all, failure to pay will be disclosed on the Internet. But that doesn't necessarily deter borrowers from bowing out of a deal. "The lender is taking on risk just like any other asset class ," says Larsen. "If the borrower defaults the risk is going to the lender."

At Zopa, though, its fixed-rate loans of up to $100,000 do have backing, since the site has partnered up with credit unions and is insured by the National Credit Union Administration .

P2P Lending: A Winning Strategy

As a result of the potential risks, it's extremely important and highly recommended by the P2P lending sites to scatter your money throughout numerous loans of various denominations. In other words, I'll be spreading my $1,000 to at least 10 different borrowers, with the goal of adding more money in the future and further diffusing my investments through more loans.

And If You're Feeling Charitable...

While there's no monetary return on investment through Kiva (kiva.org), the site works like a P2P lending portal that connects small business owners in generally impoverished countries with lenders, who act more on a philanthropic than financial desire -- since there's no interest...yet.

"We do desire...to offer a nominal interest rate to our lenders," says Kiva spokesperson Fiona Ramsey. For now though, Kiva is just a social cause -- and a great one at that.

Kiva vows to help fight poverty in developing countries where residents have little to no access to debt financing. Micro-financing channels like Kiva empower budding entrepreneurs across the world. "[Lenders] can actually see the person they are lending to. There's a personal connection," says Ramsey. Each loan at Kiva has a different term. On average, repayment to the lender is made in 12 months. The average loan is about $500.

Ways to Play $1K

How would you put a thousand bucks (or less) to smart use?

Please email me your suggestions at [e-mail].

To learn more from Torabi, don't miss "How to Play $1K: Sweet CDs" and "Open Book: How to Be 'So Money'." Plus, to research a range of banking vehicles, visit BankingMyWay.com.