Social lending offers frustrated savers chance to see cash grow

And the situation is unlikely to improve, with little chance of a rate rise over the coming months. But that’s no reason to give up the search for decent savings deals – you can find cash returns of 8 per cent if you’re willing to look beyond the high street.

The only conventional accounts outstripping inflation require savers to lock their money away for at least three years. The average easy-access savings account pays just 1.23 per cent on a £1,000 balance, with hundreds paying just 0.1 per cent or less.

Frustrated savers are increasingly turning instead to riskier assets, with some misled by banks into taking out investment products wholly unsuited to them.

But a growing number of people are joining a social lending revolution that has allowed savers and borrowers to miss out the middle man – banks and building societies – and lend to and borrow from each other instead.

Social (or peer-to-peer) lending lets savers set the interest rate at which they want to lend, how much they lend, the required return and the risk they are happy with taking.

In return, they are paid interest significantly higher than from the typical savings account. Meanwhile, those seeking loans are offered more attractive terms than are typically available from mainstream lenders, provided they are accepted.

The providers – which include market leader Zopa, Funding Circle, Yes-Secure and RateSetter – flourished in the wake of the banking crisis as consumers sought alternatives to the high street.

Martin Campbell, spokesman for Zopa, said a need for inflation-beating returns is the main reason people are turning to social lending.

“This is slightly different from the past when derisory rates from all bank savings accounts was a more common driver,” he said. “They still say banks are paying lousy rates, but it is becoming more about beating inflation as the fundamental reason, and the appeal is being able to do so at a level of risk barely above cash savings, as our default rate remains less than 1 per cent.”

Zopa now has more than 600,000 members and accounts for 2 per cent of the UK loan market. And the profile of the average user is beginning to change, according to Campbell. “Over the last year and a half, there is evidence that our lenders are becoming increasingly ‘mainstream’ – not just the keen, pro-active early adopters that came to us first,” he said.

The level of return on offer to savers is dictated largely by the risk level of the typical person you choose to lend to. The rate of return at Zopa currently averages 8.2 per cent – four times the average rate on the high street – but it can hit double figures at the high-risk end of the lending pool.

The average at RateSetter is 7.9 per cent on its three-year fixed deal, or 3.8 per cent if you opt for the variable easy-access version.

Over at Fundingcircle.com – which differs in that you lend to businesses rather than individuals – the average return is just over 8 per cent. It offers terms of one or three years, and savers receive a fixed rate of return each month.

One barrier to further growth of the market is the perception that it’s risky. The sites aren’t regulated by the Financial Services Authority, meaning savers aren’t covered by the Financial Services Compensation Scheme (FSCS), which guarantees deposits up to £85,000 per person, per institution.

Fears over the security of deposits were not eased when one social lender, Quakle, went bust last year. Speculation had been growing for some time that its ambitious business model, which promised returns of up to 25 per cent but had looser qualifying criteria than its rivals, would prove short-lived.

However, the figures suggest the risk posed to lenders is successfully managed. Less than 1 per cent of Zopa borrowers have missed payments, giving it a lower-risk loan book than any bank.

All three sites have strict criteria which mean many borrower applications are rejected. RateSetter, for instance, claims that no more than one in six is accepted.

Both RateSetter and Zopa spread lender money across a number of borrowers. Loans of £500 or more at Zopa are distributed among a minimum of 50 people, all of whom have a designated risk rating.

RateSetter also has what it calls a “provision fund”, a ring-fenced pot of money that grows with each loan matched.

Funding Circle seeks to address concerns over the risk of lending to small companies (which may seem especially risky in the current economic climate) by spreading loans across different businesses and requiring at least two years of audited accounts from all borrowers.

The three biggest operators – Zopa, Funding Circle and RateSetter – adhere to a voluntary code established by the Peer-to-Peer Finance Association. It requires the firms to have a minimum amount of capital, a system that segregates member funds, secure IT systems, fair complaints handling and to have taken certain credit assessment and anti-fraud measures.

Sylvia Waycot, spokeswoman at Moneyfacts, said: “The peer-to-peer lending sites counteract risk concerns by spreading any money across many borrowers so the likelihood of losing all your money is greatly reduced, which is fine as long as people are comfortable with this. Others may prefer the traditional security offered by the FSCS.”

Even the best easy-access accounts fail to protect savers from inflation, but a handful of bank and building society deals come close.

Several fixed rate bonds with five-year terms pay 5 per cent or more, including Clydesdale Bank’s at 5.16 per cent gross.

The rates paid by long-term savings accounts are at their highest level since last summer, according to Moneyfacts. The average fixed-year fixed rate bond now pays 4.14 per cent.

Other options include regular savings accounts, which generally last only a year and require a minimum amount to be paid in each month. The current top rate is offered by Norwich & Peterborough Building Society, at 5 per cent.

Tax-free cash Isa deals have improved, with Santander’s Super Flexible account paying 4 per cent, and several others offering just above 3 per cent.