A bank teller recently tried to sign me up for a money market account. He offered me an interest rate of 0.6 percent — the going rate for such investments. I had to stifle a laugh. That low-interest earning account, while secure, doesn't keep up with the cost of living.

I have a different plan to use my spare cash to generate some real income; peer-to-peer lending (P2P). Think of it as social lending. Sites like Prosper and LendingClub allow individual investors to pool funds that add up to personal loans for qualified, smaller borrowers. Get started with as little as $25.

Lenders can choose to chip in on loans that pay 6 percent to 30 percent APR and direct what the money will be used for. Borrowers must specify whether the loans are intended for debt consolidation, business expansion, home improvements or other uses. The interest rate rises with the risk and other factors like the borrower's credit rating, debt-to-income ratio and payment history.

This practice bypasses the big banks and allows individuals to directly aid others. P2P lending also offers borrowers lower interest rates than banks or credit unions. Loans are also funded quickly. Part of the advantage is lower overhead costs because P2P doesn't require a brick-and-mortar store front.

Here's how it works:

  • The borrower completes an online application.
  • The P2P loan site evaluates the borrower's risk via credit records, expenses, etc. To qualify, the borrower must have a FICO score of at least 660 and a good credit history. There are other requirements.
  • A "loan" is created and displayed on the website for potential lenders.
  • Qualified lenders bid on a percentage of the loan, up to its entirety.
  • The borrower may accept or reject the terms.
  • The borrower is given the money. A small processing fee is included.
  • The borrower makes regular payments until the loan is repaid with interest. About 1 percent goes to the P2P site. Lenders receive monthly payments until the full amount is repaid.
  • Be aware that there are also income requirements for lenders, which vary by state. Investigate each site thoroughly and measure your own ability to risk funds before lending. Some borrowers default.

To date, I have invested $3,000 in seven loans. I've earned 9.6 percent interest, on average, on loans spanning 36 to 60 months. My real earnings? About $75. Not one borrower defaulted.

This has been a guest post by Halina from Madison, WI.
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