Alternative Lending is a type of service that provides short-term and medium-term funding to various borrowers and this service differs from the traditional banking lending system. There are various non-financial institutions that provide various types of loans according to the need of the borrower. Nowadays if you start any new business or if you already have an existing business, you need funds for your working capital management, for leasing any assets or property, or a variety of reasons. Most of the conventional lenders either don’t offer the financing you need or won’t approve you for a loan. So in this case, alternative lending serves as the best alternative to the businesses to keep their activities ongoing. The organization or institution that provides these services are called Alternative Lender.
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Alternative lending increased exponentially in the decade following the first peer-to-peer online loans underwritten in the United Kingdom in 2005 and the United States in 2006. Alternative lending companies were introduced to support small and medium-sized enterprises because banks tend to finance large businesses. In order to promote increased lending volumes, alternative lending networks have changed their funding structures from the initial peer-to-peer format to institutional purchasers acting as the predominant lending buyers, buying loan portfolios in bulk.
How does Alternative Lending service work?
Mostly all the organizations that provide this type of service work online. Mainly the borrowers take this loan to meet their funding shortage in their organization. Thus when any borrower wants to take a loan and any investor wants to invest their fund, an alternative lender brings both the parties to the same platform through electronically enabled models and determined the credit risk, loan pricing, terms and condition, and amount offered to the borrower.
When borrowers settle for the loan offers, the investors have two option to purchase the loans post- supplying, either by choosing loans that they want to buy or by taking a pro-rate allocations method for the loans to meet pre-specified criteria in respect to loan kind, size, duration, credit risk, etc. The service provider charges fees (loan origination fees) from the borrowers in lending loans to them.
After this, the alternative lender asks the borrower’s banks to formally originate the loans that they underwrite and also to check whether these underwritten loans and servicing procedures have complied with applicable laws or not. Then and only then they accept the deal and provide the funds to the borrower.
Services offered by Alternative Lenders:
Short term loans: Short terms loans are the loans that have to be paid back within a year. This type of loan is more likely used by companies and businesses, but many traditional banks do not offer this loan to small newly started firms. So in this case, alternative lending works best for such companies. These loans are mainly used to cover the company’s working capital management.
Invoice financing: Most of the companies today run on a credit sale. In order to increase their sale, they use the credit sales method. Because of this approach, they may sometimes run out of cash for a particular period of time. In this case, they can get additional funds on the basis of the invoice generated for sale.
Line of Credit: This a type of loan on which a fixed amount of money is extended to the borrower. Whatever amount of money the borrower will extend he has to pay a particular interest on the same.
Merchant Cash Advances: In this type of service the lender gives a particular amount of money to the borrower to continue his future transaction of sale by paying the advance payment. This amount is issued on the basis of its past receipts of trading.
Equipment Financing: As the name suggests this type of service is mainly used by the borrower to purchase particular equipment for the company. Many small-scale firms cannot have extra money to buy certain equipment’s so they use this service to purchase it.
Microloans: Under microloans, the alternative lender provides a loan of amount 50,000 also. For many small scale firm, this service work as a boon as they can cover their working capital and also the interest amount is less and no collateral required. They are a reliable source of funds for businesses that have never borrowed from a bank.
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Pros of Alternative Lending:
- Alternative Lending provides a very small amount of loan to the borrower which the traditional banking institutions do not provide.
- The rate of rejection for the loan is less compared to the traditional banking institutions.
- If any firm is in urgent need of the fund then alternative lending is the best option for that firm.
- Alternative Lenders provide flexibility in the loan process, amount, time, interest, etc, are can be flexible according to the amount of loan.
- Alternative lending provides multiple services to the borrower to select the type of loan according to his requirement.
Cons of Alternative Lending:
- It possible that sometimes this lender may charge a higher interest rate from you according to the type of loan you select. In this case, banking institutions charge the same amount of interest as suggested by RBI.
- For investors, the risk of working with such an institution is that as they are new in the market chances are there that they can go out of business if some issues happen. So, to overcome this it an advisable that you should work with a well-settled and reputed firm in the market.
- There are some fees that are not disclosed before taking a loan. Many of the lenders charge such fees to provide a loan as per the borrower’s request.
- Loans and credit requirements vary between intermediary lending institutions. Often, some kind of collateral or personal guarantee is required to obtain a loan from a business owner.
While having such limitation of Alternative Lending the bright side of this service is that if you are in any need for the argent fund in your business to grab a short-term profitable deal then this service work best for business. Alternative loans provide possible advantages to borrowers and investors alike. However, the business owner must carry out research and make an informed decision after considering the options. Funding can provide notable opportunities for expansion, as long as the decision is made wisely.
Author: Charmi Mehta
About the Author: Charmi Mehta is currently pursuing an MBA with a specialization in Finance from the Department of Business Administration, Bhavnagar. Charmi is very much interested to work with data and its analysis and she is also fascinated by the financial market.