Web sparks person-to-person lending around the world

Every morning, as soon as Diane Reese wakes up in her Saratoga, Calif., home, her first steps lead to the family computer. She can't wait to find out whether her 782 debtors are making their payments on time.

For Ms. Reese, an IBM engineer, the revenue stream from loans she's made at 0 percent interest through www.kiva.org isn't as important as what the payments represent. They mean her hand-picked business partners – a barber in Uganda, a fish saleswoman in Vietnam, a school principal in Kenya – are lifting themselves out of poverty.

"We're peers now," Reese says. "I'm investing in their small enterprises.... I'm not being the beneficent Santa Claus or something. I'm a partner with people who are working to improve things. It's a very satisfying way to invest money."

As Christmas arrives with a seasonal reminder to look out for the less fortunate, investors are finding a growing range of options for helping without a handout. Thanks to creative intermediaries and new avenues on the Internet, they're lending to specific individuals or operations that tug at their heartstrings. And they're usually getting their money back, sometimes with a respectable interest rate.

For would-be lenders with a social agenda, options are proliferating at a rapid clip. In February, Prosper (www.prosper.com) debuted with a claim to be America's "first people-to-people lending marketplace." In May, LendingClub launched a direct lending site (www.lendingclub.com) that uses a social-networking database to link lenders with suitable borrowers on the basis of a lender's preferences and risk tolerance. Next year, Kiva plans to begin paying nominal interest to its lenders, who are often drawn to the nonprofit's borrower network of entrepreneurs in developing countries.

These emergent opportunities differ in a few important ways from conventional investments that aim to be socially responsible (SR). These focus primarily on debt, not equity, so investors get paid back in lieu of acquiring a stake in a company. Also, companies involved here are usually private enterprises, not publicly traded firms such as those held in the portfolios of SR mutual funds. And instead of selecting a prepackaged basket of socially screened investments, investors are largely setting their own ethical criteria and picking investments accordingly.

As organizations compete for lenders' cash, some are trying to offer enhanced security as well as meaningful investments.

Consider for instance Zopa, a for-profit firm that's been pairing lenders with borrowers in Britain since 2005 and launched its service in the United States earlier this month.

Here's how it works: Someone with at least $500 to invest browses Zopa's website (http://us.zopa.com) and picks at least one individual or company to help. Maybe it's Sage, a Mill Valley, Calif., husband-and-wife tutoring company that this month has been touting its goal to expand and serve underprivileged students. The CD buyer can opt either for the 5.1 percent interest rate or a lower rate of his or her choosing, which would in turn reduce Sage's monthly payment. The lower the rate, the lower Sage's payment and the more cash they have for their mission-based enterprise. And even if they default, the CD owner still reaps the agreed-upon return. Zopa guarantees its CDs because the borrower has already taken out a loan from a partner credit union, which bears the risk of default.

Zopa hopes the channel will strike a chord with affinity investors, such as religious individuals who'd like to support the efforts of similar-minded individuals.

That would be fine with Ben Wheeler, a Christian comedian who's taken out a loan for $10,000 to lease space for a new Christian comedy club in San Jose, Calif. Mr. Wheeler, (who goes by the handle "Pharaoh" on the site) says he used Zopa not so much because he needed help with his payments but because the online platform would give his mission-driven project more exposure than it would have otherwise.

"It allows people to notice what I'm doing," Wheeler says. "It's a way for me to determine if we can expand on this beyond San Jose."

Personalized lending has taken off in recent years as the phenomenon of microfinance has grown in scope and stature. With microfinance, a funding organization typically teams up with local partners in developing nations to capitalize tiny businesses, often with just a few or no employees.

Growth in social-network lending

The sector exploded between 2004 and 2006 as foreign capital inflows tripled to $4 billion, according to the Consultative Group to Assist the Poor (CGAP), a Washington, D.C., consortium of agencies. Just as microfinance was proving that small-scale lending can attract socially minded retail investors, others were pioneering alternatives in a similar vein.

In some cases, age-old investment ideas are getting a makeover. For example, people routinely ask friends and relatives for a loan, but would-be lenders often worry they might lose cash, or an otherwise good relationship, or both.

Sensing an opportunity here, Virgin Money in October acquired CircleLending, a six-year-old manager of loans among friends and families. It plans to add more types of loans next year.

For conscience-driven investors, this close-to-home investment option can be the most effective way to help someone in need, according to Virgin Money CEO Asheesh Advani. In these arrangements, he says, terms of the agreement can be whatever the two parties want them to be, and that allows for the kind of assistance that people value in real-life situations.

"If you want to help people, you should provide them with flexibility to do very simple things – like have grace periods, miss payments now and then, and take the mortgage with them when they move," Mr. Advani says. Banks and person-to-person loan brokerages, he notes, "would never allow you to do that."

Today's emerging opportunities come with a range of risks. Anyone who lends an uncle $20,000 through Virgin Money, for example, courts the prospect that he'll stop making payments altogether. In such case, the niece or nephew may need to call on a collection agency (supplied by Virgin Money) to pursue the matter.

Prospective lenders who aren't comfortable with these Web-based vehicles can still reap returns while lending to little-known businesses that reflect the lenders' values. RSF Social Finance, for instance, is until Dec. 31 offering a 4 percent return through its portfolio of funds. Borrowers are private companies that pass a series of social screens. It lends, for instance, to a carpetmaker in New York that's certified as not using child labor and also to a pioneer in the organic floral industry in San Rafael, Calif. Investors gain no equity in these companies since they're merely issuing loans through the fund.

For accredited investors, defined as those who earn more than $200,000 per year or have a net worth in excess of $1 million (excluding primary residence), the range of options is even wider. One example: Root Capital based in Cambridge, Mass., uses investors' capital to support sustainable agriculture ventures in Africa and Latin America. The firm boasts a 99.5 percent repayment rate.

Deep pockets aren't required

But deep pockets aren't a prerequisite for making a difference in creative ways. Reese, the Kiva lender, makes most of her loans in $25 amounts. She seeks out business people in Iraq and Afghanistan, countries where she says ordinary lives "are completely changed in part because of our military." She doesn't lend to sellers of cosmetics or dog meat in any country. And she's getting paid back: Only two of her 782 debtors had fallen behind on payments as of mid-December. Most likely, she says, she'll reinvest through Kiva as the loans get paid off.

"These people," she says of Kiva borrowers, "need the money more than we do."