How Joining the Credit Circle Can Help Your Finances
Borrowing money can be expensive and surprisingly difficult, especially for small loans that you may need for emergencies and unexpected expenses. Personal loans through banks and other lenders can be expensive—interest rates are currently around 12% for these types of loans, and they often come with other costs such as application fees and origination fees ; the latter can reach 10% of the loan cost.
People with bad credit often resort to bad ideas like payday loans or credit card cash advances , which are prohibitively expensive and often difficult to repay. And even people with good credit can have a hard time getting credit these days— even getting a loan is getting harder . Whether you’re struggling with bad credit or simply want cheaper access to small loans, you should definitely consider an alternative: lending circles.
Credit circles
A lending circle is an old idea and a simple concept: a group of people agree to contribute a certain amount of money to a pool on a regular basis (usually monthly). One participant receives the total pooled amount once per period (usually annually) in the form of a loan with a simple repayment schedule (say 24 months). This is a simple form of peer-to-peer lending.
For example, Louis DeNicola wrote on the Experian blog about his experience with lending. The one he joined had 12 members and he contributed $200 a month to the fund. When it was his turn, he received a loan of $2,400 with a repayment term of 12 months.
Lending circles can be informal—you can start one now, with as many people as you want (friends, family, or anyone else)—or more formal through an organization. And if you ever need a small loan to cover big expenses or get through tough times (even if you have a good credit history), there are plenty of reasons to consider starting or joining one.
Advantages of the credit circle
A lending circle can offer several potential benefits:
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Interest-free loans. Lending Circles are interest-free and generally do not charge any fees (however, some organizations that arrange Lending Circles do charge a fee, so be sure to research potential partners). You pay a monthly fee, receive the pool when it’s your turn, and pay it back. Lending circles are usually the cheapest option for small loans.
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Creates credit. Credit circles can potentially improve your credit score if they are formalized as credit agreements and administered through an organization that reports to the credit bureaus. In this case, they are considered installment loans and can improve your credit structure , and repayments will help improve your overall score, plus there are no hard credit checks that can ruin your score. However, if your credit circle is informal, it will not have any impact on your credit score.
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Acts as a savings plan. If you’re struggling to save money, the social pressure of joining a lending circle may encourage you to make contributions every month, and when you get a lump sum, you can put it into your savings account.
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Guaranteed payment. Most lending circles randomize the order in which members receive the pooled money, but you know you’ll get to your turn eventually. Many circles allow members to swap seats or submit hardship requests to skip the line, so you can increase your payout in the event of an emergency.
Risks
However, credit circles are not without some disadvantages and risks:
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Money in advance. Lending circles require you to pay first and often have strict membership requirements. If you need money immediately, they are not suitable.
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Based on trust. Informal lending circles operate on the basis of trust and social connections, which means they can fail if one or more members fail to fulfill their commitment to contribute. This also means that there is always the possibility that someone will get lucky and simply walk away with the money, and the laws governing such arrangements may be unclear .
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No interest. The money you invest in a lending circle does not earn interest; Depending on your situation, putting this money in a savings account may be the best solution.
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Inflexible. The amount of loan you receive, the schedule for receiving it and the terms of repayment are usually fixed in the lending circle. While you can move up the schedule, if you have an emergency, you won’t be able to, meaning you won’t be able to access funds when you need them.
Search for credit circles
If you think you could benefit from being part of a lending circle, you can create your own by simply contacting trusted individuals and taking action. Most lending circles have between six and 12 members, and the amount each member contributes each month, the lending schedule, and the repayment terms are up to you. Some lending circles require down payments of as little as $5-$10 per month, while others may require you to put down thousands of dollars each month. You don’t need any formal documents, although you can of course create simple contracts if you like.
If you want something more formal, you can look into lending circles run by Mission Asset Fund (MAF), a San Francisco-based nonprofit that helps low-income families get credit. MAF offers lending clubs nationwide and has an online search tool to help you find your nearest center and apply for membership. Their credit ratings also report to the three major credit bureaus (Experian, TransUnion and Equifax).