Microlending: Investment or Charity?

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by Advice Chaser
by Advice Chaser

As we’ve discussed in recent articles, money now is much more valuable than money in the future. That’s nowhere more true than with the very poor. Many people living in poverty would love to become entrepreneurs, but don’t have the basic seed money to get started. Enter microlending: tiny loans to help those who need it most.

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Investment in Developing Nations

Much of the microlending that Americans participate in benefits individuals in developing nations. Since the cost of goods is lower there, a small loan can purchase a sewing machine, farming equipment, or a vehicle. All of these things can help a small entrepreneur go into business, bettering their own situation and possibly even hiring others.

The downside, as with all international charity, is that it can be hard to track exactly where your money goes, or if it’s having the effect intended. The largest charitable microlending platform, Kiva, has come under fire for somewhat misleading marketing. While the website will show individual pictures and stories, your donation doesn’t go to the individual you choose, but into a larger pool. The pictures and stories exist only to give donors a personal feel. That said, this allows them to approve loans more quickly, when the money is needed.

Another disadvantage is that you don’t usually receive interest on these loans. The platform may or may not charge interest to loan recipients, but with many platforms the donor receives none. You may also lose money if the loan recipients default. This makes this type of microlending pure charity, not part of your investment portfolio.

Consider a microloan a donation of the time value of your money. Unlike a proper investment, your money earns you nothing. But entrepreneurs in developing nations can use the time value of your money to become financially independent. With microlending, the same money can help multiple people. But always research charities to find out which do the most good.

Domestic Microlending

Aspiring entrepreneurs live here in the US as well, of course. The size of a domestic microloan is often larger than loans sought overseas. The Small Business Administration considers loans under $50,000 microloans.

To assist domestic borrowers, you can join a peer-to-peer lending platform such as Upstart or Prosper. This allows you to choose a loan recipient and lend them money directly. The platform will rate different borrowers, based on the expected risk of the loan, and set interest rates accordingly. 

Since peer-to-peer lending comes with interest, you can expect returns this way. Do remember, however, that lending comes with a certain amount of risk. Investing in several different borrowers can help you spread that risk out.

How to Obtain a Microloan

What if you want to borrow, not lend? A microloan could help you start a business or scale up an existing tiny company.

As a prospective borrower in the US, you have more options than peer-to-peer loans. You can apply for a microloan through the Small Business Administration, a credit union, or a bank.

If these options don’t accept your application, peer-to-peer microlending can help. Remember that, as with all other loans, a better credit score will get you better terms. Having a detailed, appealing business plan also helps. If you don’t seem like a good risk, or your business plan doesn’t seem solid to potential lenders, you may not get a loan at all.

Ask Your Financial Advisor About Microlending

When considering microlending, you need to be clear about your goals. Do you primarily want to diversify your portfolio? Or is this mainly about helping those in the most need get on their feet? Once you know what you want out of the process, talk to a financial advisor about how to incorporate microlending into your budget. Contact us today to reach a skilled advisor and get started.

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