Join other 4thWay HNW investors: harness your combined power for an even better deal.
Same loans, higher rates, more loans, risk guarantees. Join now for free!
What You Need To Know About P2P Bridging Lending To Contain The Risks
Each type of lending has its own particular unique sides and risks. One aspect of bridging lending is when a P2P lending company sets up a loan and then allows the borrower to repay that loan at the end by taking out another loan.
Most importantly, you need to understand when this new loan is not accompanied by a completely new purpose to it. In other words, a borrower is able to keep borrowing far beyond the original term, because the borrower is not yet ready to repay the loan in full.
When an existing loan is repaid by means of taking out another loan in this way, it's called refinancing.
Furthermore, you'll also need to know about loans being extended, which is related, but not quite the same.
And, finally, you need to be able to spot when these two mechanisms – refinances and extensions – are being used to hide issues and kick the can of bad debt down the road, building nasty problems for the future. Quality P2P lending companies will not be doing this.
A brief introduction to internal bridging loan refinances
The P2P lending company sets up a loan. At the end of the agreed loan term it allows the borrower to borrow again. Often, the borrower borrows more or less the same amount at the same or similar interest rates.
The fact that the borrower borrowed through the P2P lending company and then refinanced the loan through the same P2P company is what makes it an internal refinance. If the borrower had refinanced elsewhere, it would be external.
Similarly, if the borrower had initially borrowed elsewhere and then refinanced through a P2P lending platform you use, it wouldn't be an internal refinance. It would be an incoming refinance.
When a loan is internally refinanced, the borrower repays existing individual lenders. Lenders may then apply – or re-apply – through the P2P lending platform to lend to the same borrower. If lenders are using an automated lending account, the P2P lending company might auto-allocate a portion of your money to refinance the loan.
Internal bridging refinances for the same purpose
There's one more aspect of refinancing you need to understand if you want to be able to fully assess a P2P lending company that offers these investments. That's the purpose of continuing to borrow.
A bridging loan refinance can be merely a means for a borrower to keep borrowing for longer, without a change in purpose. Potentially, it's because they are still not quite ready to begin development work on an acquired property or because they have changed their minds about how to use it. Or they might actually be suffering some difficulties.
It's refinances of loans for the same purpose that are of particular interest to us with regards to assessing risk. Because it's these that disreputable P2P lending companies can most easily use to hide upcoming trouble…
Internal bridging refinances for different purposes
…Even so, I want to briefly describe other kinds of refinances, because I think it helps you to better understand the distinction.
If a borrower refinances for a different purpose, it is effectively a completely different loan. Borrowers do this because those new loans are more appropriate for the circumstances.
For example, a borrower might initially borrow to purchase land or property. This is a kind of bridging loan called an acquisition bridge. After getting planning permission, that borrower might then pay off that loan and borrow a higher sum to develop the property. This second loan is structured very differently and is called a development loan.
Finally, the developer might need additional time to sell the property after the development is completed, so the loan is shifted onto what's typically called a sales bridge or sales exit bridge.
Again, I have described these shifting refinances just to help clarify refinances for you in general. While this is also an aspect that you might look into, it's outside my scope today. From now on, I'm referring only to refinances with no obvious change in borrowing purpose.
An example of bridging lending refinances – Assetz Capital
Assetz Capital has internally refinanced 14 bridging loans. Almost all – 12 of them – are now repaid in full, showing healthy results. Two of those repaid loans had defaulted before being recovered in full.
Of the remaining two, one is live in good standing and the other is in recovery, seemingly with a chance of a loss. However, the maximum loss possible is worth less than 1% of the total lent in these 14 loans alone, which is very easily covered by lending interest rates and Assetz Capital reserve funds.
Other aspects of internal refinances that indicate normal, good health
There can be other indicators that internal refinances are in perfect order. None of them by themselves are sufficient to give these loans a clear bill of health. But what we're looking for are patterns or inconsistencies.
What proportion of bridging loans get refinanced?
Less than 10% of Assetz Capital's bridging loans were refinanced internally at some point, which is reassuringly low and well within expectations for these kinds of loans.
Despite collecting many years of data from many P2P lending companies, it's still not possible to quantify at what point the volume of internal refinances are too much. Personally, as a rule-of-thumb, I would consider that once this reaches around 25% then it's a possible warning indicator that might require further investigation. But I reserve the right to amend that rule without notice.
If the P2P lending company relies mostly on bridging loans, or it has a high amount of internal refinancing in other kinds of loans as well, I'd probably sit up and pay attention even at a lower level.
Are the refinanced loan amounts always roughly the same?
In six of Assetz Capital's 14 internally refinanced bridging loans, the new loan amount was very different to the initial amount. The refinanced loan was at least 40% larger or smaller than the original, and several hundred thousand pounds different.
We expect to see this with a proportion of the refinances. This variation in loan size is a possible indicator that its refinanced bridging loans are quite normal.
The changing sums indicate that many of the borrowers have more in mind than merely prolonging the debt at bridging loan interest rates – which aren't cheap. Instead, the purpose of the loan has probably changed to some extent, but just not as obviously as when the loan type changes.
Are refinances always taking place at or near the end of the agreed loan term?
We also noted with Assetz Capital that many of the loans refinance very early. Indeed, within a few months of the loan starting.
Seeing that is also reassuring to us. Experience shows it's when loans are invariably refinanced at the end for the same amount that there's more likely to be a problem.
Are loans being refinanced many times over?
Finally, we managed to identify just two bridging loans that had been internally refinanced more than once. One of those loans is in good standing and the other is fully repaid.
You don't want to see too many loans being refinanced many times over. It can happen, but then you want to see that there's already a history of those loans ultimately being repaid. And you want to know why this is occurring.
Otherwise, at a minimum, you should probably avoid taking part in bridging refinances through that P2P lending company.
A brief introduction to bridge extensions
Sometimes when a borrower requires funding to continue, the loan is not repaid and then made anew – as in a refinance. Instead, the existing loan is extended.
Indeed, in bridging it is often the norm rather than the exception that a loan is extended. It happens more than refinancing, although usually for shorter periods than a full refinance.
With bridging loan extensions in P2P, lenders continue to lend in the same loan, but for longer. The borrower doesn't repay the initial loan and offer the lender the option of re-lending.
With loan extensions, individual lenders in P2P usually aren't given a choice about it, although sometimes there's a vote as to whether the borrower can extend.
So lenders should certainly be prepared to lend for longer than they initially thought.
An example of bridging lending extensions – Kuflink
Kuflink* has approved 262 bridging loans, 79 of them have been extended at least once – with lenders continuing to earn interest of course.
That volume of extensions is absolutely fine; indeed, if there were a lot more extensions, it still wouldn't necessarily be a sign of trouble.
It's quite tricky to pick a point at which the volume of loans being extended actually indicates issues spiralling out of a P2P lending company's control. This is because it's a very normal part of bridging lending.
However, when we see higher numbers of extensions or even a very relaxed attitude to contractual end dates, we expect to see that more loans will turn to bad debts and need to be recovered. And we usually do.
In that case, you need to ensure the property security provides a lot of protection against losses. You also want to see that recovery practices kick in quickly and, ultimately, effectively. Plus, your interest rates and/or reserve funds should cover those risks.
Lenders have already been repaid in full on 60 out of Kuflink's 79 extended loans. 19 are still open. Nine of the open ones have had issues, mostly related to the pandemic. (Some of those problems are already cleared up.) The other ten appear to be in good standing.
So 10 bridge loans out of 262 have been extended, are not yet repaid in full and have suffered any level of issues. This headline result is highly reassuring.
Breaking extensions down further
There's more we do to analyse extensions. I'll continue with the Kuflink example.
Just one of the outstanding extended bridging loans was initially taken out more than two years ago. The vast majority of all loans – extended or not – taken out over two years ago have already repaid. This indicates that lenders might expect the same of the outstanding batch of extensions.
Extended loans have been extended 1-4 times, with the average being two times. This has understandably risen a little bit since the pandemic, as Kuflink has shown borrowers some forbearance while their property plans were delayed or put on hold.
The data is beginning to suggest that loans extended through Kuflink four times are at substantially greater risk of suffering some kinds of issues. Therefore, manual lenders could choose to try to sell loans that go on this far.
Kuflink doesn't extend other kinds of loans all that often, so in this case there is no need to consider the bigger picture. The amount of extensions there are reasonable and the results have been highly satisfactory for lenders. Yet, when investigating different P2P lending providers, you could take a look at extensions across the board to supplement your research.
Refinances and extensions together
I just want to point out that a P2P bridging lending company can – and probably will – offer both to borrowers. Refinances and extensions, that is.
I've already described refinances at Assetz Capital – but it also extends a lot.
The average Assetz Capital bridging loan lasts seven months longer than initially planned. This even applies to loans that are refinances. So, in total, it's many more months of extra borrowing through extensions at Assetz Capital, than it is through refinances.
Almost all the extended bridging loans at Assetz Capital have already been repaid in full, showing no problems here.
Bridging lending can-kicking – how to spot it
I've been describing what to look for in refinances and extensions. All those items can be indicative of high quality or of problems.
If what you find is indicative of problems, it can mean can-kicking is going on. The P2P lending company is unable to accept or reveal that it has a growing backlog of loans that it's not confident it can recover. Indeed, the chances of recovery decrease the longer it buries its head in the sand.
The more loans that are being refinanced, the greater number of times loans are typically extended, the fact that loans are continually being refinanced for exactly the same amount – possibly with the cumulative interest added to it, and they are always being refinanced at the very end of each loan: all those sorts of things are indicative.
More clues that can-kicking is happening
On top of that, if cans are being kicked, other things are likely happening at the same time. These provide lenders with more clues:
The P2P lending company might be denying have had any loans turn bad – or hardly any at all. But this would be strange if all the indicators I've mentioned above were happening. Loans with a lot of extending and refinancing and other signals are likely to be turning bad at a higher rate, so this needs to be acknowledged and dealt with.
The P2P lending company also quite possibly denies that any – or many – loans have even fallen late, without any contractual agreement of an extension. That would also be unusual in this kind of lending, especially if its refinancing and extending like crazy.
Alternatively, it could show a huge amount of loans have fallen officially late, but it isn't calling many of them bad debts yet.
The P2P lending company probably provides very little or very confusing statistics on its website – as in you can't interpret what it really means or it doesn't make sense – and it probably doesn't provide monthly data to 4thWay. (We explain how much information we get in our reviews, which you can read through our comparison tables.)
P2P lending platforms that have let people down have provided very little and unclear information. So, immediately, you have one simple way to strip out almost all of the possible bad performance that anyone has ever made in P2P lending. This has applied both in the UK, the US and continental Europe, so it surely applies in other countries and continents too. It is consistent.
This doesn't mean that all platforms that provide little information end up being bad investments, but you need to get the information to see if it is a good investment anyway. No-one should be chancing their luck.
All these have historically been substantial warning signs that should make you sit up very straight. Your attention will be required.
An example of can-kicking – FundingSecure
Bridging P2P lending website FundingSecure ticked a lot of those warning boxes before it closed in disgrace.
While there were a lot of numbers on its statistics page , they were hard to interpret and they didn't properly show results further in the past. Overall, they left a lot to be desired.
Even so, it was clear that loans were being rolled over many times over. Indeed, borrowers were allowed to internally refinance their loans simply by paying off the interest due; FundingSecure didn't thoroughly assess them again or require the borrower to show why they wanted to continue borrowing on the same high interest rates for even longer.
There was a pattern of increasing lateness. Yet FundingSecure was recognising hardly any loans as actually having turned bad and requiring rapid legal action.
All of that was clear even from the poor statistics it provided on its website.
That pattern ultimately was the biggest sign that existing lenders would be wise to stop lending altogether and not take part in refinances.
(Lenders who suffered losses at FundingSecure shouldn't be too hard on themselves. There was a major investor who became a late part-owner in FundingSecure by buying shares in it. This was about a year before it all collapsed. This investor had some pre-existing small experience in business and property, and yet he was also convinced that it was a strong P2P lending platform.)
FundingSecure also didn't provide detailed results on a monthly basis to 4thWay. Monthly submissions to us, and the to-and-fro in discussing the data, has been one of the strongest signals of excellent performance to date.
What about the risks of incoming refinances?
Incoming refinances are when a borrower has borrowed somewhere else and pays that debt off by getting a loan with one of your P2P lending companies of choice. (I'm sure your brain is exploding from these many definitions. Close your eyes for 30 seconds and then try that sentence again – slowly.)
4thWay hasn't yet seen the data to support that incoming refinances are any riskier than many other kinds of lending. However, up to this point, we have primarily got information on incoming refinances from the better P2P lending companies. We get detailed data from 10 different providers that do good quality bridging lending that includes incoming refinances.
Weaker platforms tend to provide too little information to us or the public to spot how well their incoming refinances are performing compared to other refinances.
Even so, you should expect to see a big mix of reasons why borrowers have taken out a bridging loan, which won't always be refinancing.
E.g. they might borrow to buy a property, for growing their businesses, to release equity, to pay business costs, to purchase another property, pay wedding costs, or all sorts of other reasons.
More lingo for you
There's no standardised terminology in the P2P lending industry.
If you're looking at data and information provided by a P2P lending company, it might call refinances “renewals”. It might simply tack the number 2 to the end of an existing loan to show it's the second loan for the same purpose to the borrower. Similarly, it might just add the word “new” or something similar. It might even call refinances “extensions” – to further confuse you.
Sometimes, it will specify the refinance is a “restructure”, which means that the borrower needed help either with lower rates or with more time to pay. This is technically a bad debt and it's how 4thWay treats it, but it should at least be one that the P2P lending company believes will now repay on the renegotiated terms.
Please do check out our 10 Core P2P Lending Guide pages, if you've not done so already.
Independent opinion: 4thWay will help you to identify your options and narrow down your choices. We suggest what you could do, but we won't tell you what to do or where to lend; the decision is yours. We are responsible for the accuracy and quality of the information we provide, but not for any decision you make based on it. The material is for general information and education purposes only.
We are not financial, legal or tax advisors, which means that we don't offer advice or recommendations based on your circumstances and goals.
The opinions expressed are those of the author(s) and not held by 4thWay. 4thWay is not regulated by ESMA or the FCA. All the specialists and researchers who conduct research and write articles for 4thWay are subject to 4thWay's Editorial Code of Practice. For more, please see 4thWay's terms and conditions.
*Commission, fees and impartial research: our service is free to you. 4thWay shows dozens of P2P lending accounts in our accurate comparison tables and we add new ones as they make it through our listing process. We receive compensation from Assetz Capital and Kuflink, and other P2P lending companies not mentioned above either when you click through from our website and open accounts with them, or to cover the costs of conducting our calculated stress tests and ratings assessments. We vigorously ensure that this doesn't affect our editorial independence. Read How we earn money fairly with your help.