This is how it works. Anyone signing up to be a peer to peer lender may do so and may make minimum investments of as little as $25 per loan. There are hundreds of loans to choose from. Choosing a loan means that the investor has a "security interest" in that loan. The nature of this interest is addressed in Prosper and The Lending Club's prospectus, a disclosure document that they must make available as a matter of law.
Prosper loans and Lending Club loans start when the company qualifies potential borrowers for loans. The first thing the companies look for is a credit score of at least for a 640 ("Good"). Prosper tends to be "looser" than Lending Club.
Potential borrowers then go through a bank-like qualification process, which satisfies the requirements of the internet bank that these companies use to manage the loans. Borrowers stack up based on their income and ability to repay a loan.
For the investor, there is one serious consideration to pay in mind. Prosper loans and Lending Company loans come with fairly high fees charged to the borrower. This is important to the investor, because it means that the borrowers may be paying more for a Prosper loan or a Lending Club loan than they would through a regular bank.
Lending Club fees and Prosper fees may be up to 5% of the loan amount. This can make the effective rate of the borrower's loan quite a bit higher than the "face rate" of the loan. (And it is the face rate, not the higher actual rate that determines what the investor is paid.) The point to get from this fact is that borrowers may have turned to Prosper and Lending Club because they cannot get cheaper loans elsewhere. This means that Prosper investing and Lending Club investing comes with some intrinsic risk along with the potentially attractive rewards.
Investors are the "peers" in the "peer to peer" lending cycle, because they are usually individuals as are the borrowers. With that in mind, investors in Prosper lending or The Lending Club lending should proceed cautiously and with the advice of a professional.
When one decides to accept that risk, investors review a financial summary of the borrowers' history. Borrowers may and often do answer questions. Raw financial data, such as credit score, other debts, and income, along with the borrowers' "stories," can be and should be weighed in the process of deciding which loan to invest in.
Prosper and The Lending Club make choosing easy by offering pooled loan investments. This gives investors a break from picking and choosing, rather investing in large groups of loans with various levels of payoff. For most investors, this will be the easiest and potentially least risky way to invest.
Borrowers pay every month, and investors get principal and accrued interest paid every month. Everything is automatic, and run by the web bank. Note that standard amortization calls for early payments including far more interest than later payments. The more the loans is paid down, the greater the percentage of principal in every payment.