Lender Due Diligence | P2P Lending, Peer to Peer Lending, People to People Lending

Those that have followed my posts know that I lend money for a bank for a living (an underwriter). I’ve stated also in previous posts that I believe the variance in default rates at banks (i.e. the expected default rates) and at prosper (which are much higher) is due to the fact that the lenders here are simply not as sophisticated as bank underwriters, therefore the default rate is higher mostly because people are getting funded here that would not get funded at a bank. I don’t believe it’s because “borrowers don’t take prosper seriously” or because the collections is sub-par (I think it is sub-par but it’s a small factor overall).

Most also know my posts are long, so if you have attention deficit disorder I recommend you go to a thread about “lending to cute girls” or “why is this an AA?”.

That stated, I hope this doesn’t come across as patronizing, that’s not my intent. My intent is to try to give lenders that want to learn some ideas on how to look at an application beyond the credit score to see if it makes sense.

Debt ratio. Prosper calculates debt ratio as total debts, including the prosper loan, but excluding housing (mortgage or rent) divided into gross monthly income. So, they exclude housing, and that’s normally everyone’s biggest payment? Note that debt ratio only includes credit bureau debt, it does not include ongoing monthly obligations not associated with debt, such as cable, cell phone, car insurance, etc.

So what is the applicant’s true debt ratio, as a bank would calculate it? Well, this takes a little work, but it can be done.

Let’s take this posting:

https://www.prosper.com/lend/listing.aspx?referrer=RateLadder_com&listingID=169957

To get his true debt ratio, like the banks do, you first need to get his gross monthly income. He gives his net income as $4,933. To get gross income (pre-tax), you could estimate it by multiplying it by around 1.2x, or around $5900 (this is an estimate, it all depends on deductions). You can simply divide his monthly mortgage or rent into his monthly income, and add that percent to his prosper debt ratio. His monthly housing is $1200, divided by the $5900 we calculated, and housing is 20%. Add that to his Prosper debt ratio (39%) and his debt ratio is 59%. For unsecured lending, most banks will not go over 50% debt ratio, and would strongly prefer people be under 40%.

Let’s see if his stated budget makes sense. His prosper debt ratio is 39%, meaning the prosper loan plus non-mortgage debt is around $2300 a month (.39 x $5900). Look at his budget, he shows car expenses $198 and credit cards and other loans as $240, or a total debtload of $438. The prosper payment is around $717. (here’s a free calculator for payments, http://www.vlender.com/cgi-bin/calc/simple.cgi). So, he can account for $1155 of debt service in his budget plus prosper payment but we know it’s around $2300. Something doesn’t add up here, we’re $1145 short. That’s a red flag. Note you wouldn’t expect it to work out perfectly, but you want it to be reasonably close. Note also that does not mean this person is lying, he may have debt on his bureau that he does not consider to be his, for example he may have cosigned for a kid’s car that the kid pays, or he may have business debt paid by the business showing on his personal bureau. But as a lender, you assume the worst, that it is his debt.

Here’s a loan someone was whining on another thread that first payment defaulted.

https://www.prosper.com/lend/listing.aspx?referrer=RateLadder_com&listingID=140191

His stated monthly income is $2000 net, so x 1.2 is 2400 gross. His prosper debt ratio is 56%. His shows a $700 housing expense, or 29%, plus the 56% prosper is 85% debt ratio. Yuck! Another way to look at it is he states $1190 montly expenses (which includes only $50 for food and entertainment). The prosper payment is $1034. That’s $2,224 monthly obligations. He states his monthly net income as $2,000. Wonder why he defaulted? Also note that he states his income will be increasing later. A loan decision is made at a moment in time, like a snapshot. You should not consider future events, it has to make sense TODAY. No wonder this person defaulted.

Here’s one I like:

https://www.prosper.com/lend/listing.aspx?referrer=RateLadder_com&listingID=170595

Monthly net income is 3800, x 1.2 is $4560 gross. Housing $650 is 14%, plus prosper debt ratio of 21% is total debt ratio 35%. She’s in Georgia so the low housing cost is possible. Note the purpose is consolidation so if she does consolidate it will be lower than 35%. The 21% prosper debt ratio should show $957 debt. The prosper payment is $172, so we should see $785 in other payments. She shows $571 in ($271 car and $300 credit cards) so we’re $214 off. She lists a few hundred of debts she’s consolidating, so it all makes sense to me.

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