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Earn 5% on your savings guaranteed
How does a guaranteed 5% return on your savings sound? And, no, it doesn't involve the stock market or any kind of complex investment. Instead, it involves you lending your money to other people who want to take out a loan via a middleman.
This is known as peer-to-peer lending. And one of the biggest middlemen out there, Zopa, is offering the first guaranteed return from a peer-to-peer company, albeit with a few risks to consider.
How peer-to-peer works
Peer-to-peer platforms like Zopa act as financial matchmakers.
They link savers willing to lend money directly with borrowers in need of credit, cutting out banks and building societies to offer each side a better deal.
These mutually beneficial relationships have become popular over the last few years as an alternative to traditional banks, where lending has dried up and savings rates have nosedived. Zopa has facilitated over £447 million of lending since 2005.
However, investments made through peer-to-peer platforms like Zopa aren’t covered by the Financial Services Compensation Scheme, which guarantees up to £85,000 worth of deposits with any one institution.
So peer-to-peer investments aren't protected in the same way as a traditional savings account should the company go under.
There is also the issue of bad debt, for example if a borrower can't pay back their loan. Most of the established peer-to-peer companies have funds in place to cover this.
Zopa, for example, has what it calls a Safeguard facility. The pot for this currently stands at over £2 million and can be used to give investors their money back plus any interest owed after bad debt.
Zopa says it keeps its default rate low by only lending to creditworthy people and breaking up investments into smaller chunks. Historical bad debt since 2010 stands at 0.21%, which it says is less than some banks.
Zopa's Rate Promise
Zopa is calling its new guarantee its Rate Promise.
It's offering an average 5% return for up to five years, or 4.1% for up to three years, on any monies investors lend between now and 3rd February.
Zopa’s 1% Annual Lender Fee is already factored into these rates. However, bear in mind you will have to pay Income Tax on your interest.
However, for lenders that invested before August 2008, the Rate Promise will guarantee a higher return of 5.5% over five years or 4.6% over three, as they are only subject to a 0.5% fee. Meanwhile, so-called founding lenders, who joined the platform early, pay no fee so will be guaranteed 6% over five years or 5.1% over three.
[Top savings and borrowing rates… but there’s a catch]
How the Rate Promise works
Investments can start from as little as £10.
Zopa will lend out your money on your behalf during an offer period in small chunks to different borrowers at varying rates.
Some will be lent above the promised rate, some will be lent at the some rate and some will be below.
However, the Rate Promise ensures that all the money lent within the offer period (between now and 3rd February) earns an average of 5% (or 5.5% or 6% depending on your status) over the lifetime of the loans.
For a peer-to-peer platform that’s a pretty bold promise, as rates are normally variable and track the daily ups and downs across the market.
Zopa intends to guarantee the Rate Promise by reviewing the average return each month for the eligible loans in the preceding months. If the average return is found to be lower than the promotional return of 5% (or 5.5% or 6%), Zopa will offer up part of the applicable Annual Lender Fee to cover the shortfall.
If the Annual Lender Fee doesn’t cover the shortfall between the average return and the promised promotional rate Zopa will step in to credit the difference out of its own funds.
So the Rate Promise works almost like a fixed rate bond, but with added flexibility as investors can sell on their loans (subject to a 1% fee) to get their money back through Zopa’s Rapid Return Facility.
However, there are is a major difference to be aware of when using peer-to-peer platforms over a bank or building society.
[Compare returns from peer-to-peer companies]
How Zopa’s deal compares
With peer-to-peer investments returns aren’t normally guaranteed and there is a risk you could lose some money.
But Zopa seems to be working around both these caveats, with its new Rate Promise and its established Safeguard fund. With these features it’s easier to compare Zopa's new deal with those on offer from traditional banks and building societies.
Of these, at the moment FirstSave and United Bank UK offer the top five-year fixed savings rate rate at 3.25%. In terms of high street names, Virgin Money has the best rate on offer at 3%.
For tax-free savings, Virgin Money also offers the highest-paying cash ISA with its five-year fixed rate deal of 3%. Skipton Building Society also offers the same rate.
However, another peer-to-peer platform – RateSetter – has a better rate of 5.7% on offer over a five-year term at the moment. That said it doesn’t carry the same rate guarantee as Zopa, though it also has something called a Provision Fund to protect investors from bad debt.
The only high street cash account which matches the 5% Zopa return right now is a current account.
The Nationwide FlexDirect account pays 5% in-credit interest, but it only applies to balances of up to £2,500 and is only paid for the first year. The account offers easy access, but you need to pay in £1,000 a month to qualify for the interest.
A longer-term, flexible option is the Santander 123 account, which pays 3% on balances of between £3,000 and £20,000. You do, however, have to pay in at least £500 a month and set up two direct debits from the account. And there's a monthly account fee of £2, although you can pay for this by earning cashback on some of your direct debit payments.
Alternatively, Bank of Scotland's Classic Account with Vantage, Lloyds Bank's Classic Account with Vantage and TSB's Classic Account with Enhance all pay 3% on balances of between £3,000 and £5,000 so long as you pay in £1,000 a month. You can have up to three of each account too.
