Prior to advancing any loan funds to a borrower, we calculate the loan interest that the borrower will need to pay on the loan for the whole term of the loan. When we advance your loan funds to a borrower, the loan interest is "rolled up” and separated from the total amount of funds sent to the borrower. This interest amount is set aside by Lendy to be paid to investors in monthly instalments and is not sent to the borrower.
A simple way of thinking about this is that the borrower pays the interest for the whole term of the loan on the first day of the loan rather than the borrower paying interest at monthly intervals. The interest is retained and held by Lendy on trust for borrowers and then paid out to lenders holding loan parts in that particular loan on a monthly basis.
Another way of thinking of this is that the monthly interest payments are a return of the lender’s own capital. Collecting interest for the whole of the loan term on the first day of the loan is standard procedure in the bridging loan market and is a function of the product offered by Lendy to borrowers (because the assets we lend against are not always income producing which would otherwise give rise to cashflow being generated from the property which would, in turn, enable the borrower to service their interest payments throughout the term of the loan).
Collecting and retaining the loan interest on day one of the loan also enables Lendy to be certain that loan interest can be paid to lenders on a monthly basis, on time, throughout the term of the loan, and saves the platform administration time in collecting interest at monthly intervals.
The vast majority of our loans are dealt with in this way, as this is our general operating model. If interest was not to be retained from the initial advance of the loan, and accordingly the borrower was obliged to service monthly interest payments throughout the term of the loan, then we would specify this in the loan particulars.
Example: A borrower enters into a 12 month loan of £100,000. If the interest rate payable to Lenders is 1% per month, we would deduct £12,000 from the total loan advance on account of the retained interest from the aggregate of the lenders’ loan advances. At monthly stages, we then distribute £1,000 in interest to those lenders who have loan parts in that loan.
This achieves the same effect as if the borrower paid their interest charges on a monthly basis, but with the certainty that for the term of the loan, interest payments cannot be missed by the borrower if they run into payment difficulties during the loan term.
Interest payment risks
The risk of lenders not receiving loan interest however increases once the loan nears its expiry (in the event that the term of the loan runs past its expiry where the borrower is unable to service their interest payments). Equally, payment of monthly interest is not an indication that the borrower will be in a position to repay the capital amount of the loan on the expiry of the loan term. As such, it is important to note that purchasing loan parts on the secondary market that are nearing expiry, or have expired, carries additional credit risk.