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Why it pays to start P2P lending sooner rather than later

Are members of the younger generation the real victims of the financial crisis?

This view is becoming increasingly common, and new research from the Institute for Fiscal Studies appears to back it up.

Young people will be less wealthy at every stage of their lives

The IFS has found that today’s young people are likely to be less wealthy than previous generations at every stage of their lives – largely because the rate at which they are acquiring pension and property wealth is slower.

There are a number of factors at play here, but the post-credit crunch recession and resulting increase in youth unemployment has played a big role. At the same time, average wages stagnated in the years following 2008 while rising house prices continue to push the property ladder even further out of reach for many young adults.

Pension provision no longer a guarantee

The financial crisis has also meant that company pension provision has become less generous – final-salary schemes, which a large proportion of the baby-boomer generation have benefited from, are now practically extinct in the private sector.

The IFS’s findings with regard to how younger people see pensions are particularly worrying: its report shows that a quarter of those aged between 25 and 34 do not expect to receive any state pension when they retire, while 44% take the same view of private pension provision.

Time to start saving

The only way members of this generation can improve their lot, the IFS says, is by increasing the rate at which they accumulate wealth. And here it’s worth bearing in mind the one thing that today’s under-30s do have in their favour: time.

While most young people may not have a lot of cash to spare at the moment, any money they can put aside – even if it’s just £20 or £30 a month – will have a long time to grow and benefit from the magical effects of compound interest. This means that every £1 saved at age 25 is far more valuable than a £1 saved 10 or 20 years later.

The power of compound interest

Take the example of lending money directly to individual borrowers via Zopa’s peer-to-peer (P2P) platform. At the moment, the expected annualised returns after bad debts is 5%. If you were to start lending £50 a month at the age of 25, you would have built up capital of over £75,000 by the time you came to retire at age 65. On the other hand, if you waited until you were 35 to start lending at the same rate, you would have under £42,000 when you reached 65.

Yes, the 25-year-old would have had to find £6,000 more to lend – but because their money had had much longer to grow, with interest being paid on their interest as well as their capital, the eventual returns would be so much larger. That’s the power of compound interest through re-lending. To make such loans even more attractive, from next April, P2P lending will become tax-free up to £15,240 through a new kind of ISA – the Innovative Finance ISA – so these returns will not be eaten into by income tax.

Take financial control sooner rather than later

The current situation may not seem particularly fair to most young people. But by taking control of your finances early on this generation of young people can address this financial imbalance – and, as these calculations show, the sooner they can do so, the better off financially they will be in later life.

Learn more about lending through Zopa and growing your money here.

With P2P lending your capital is at risk.