Friday, June 09, 2006

Be aware of how much group rewards/leader fees cost over 3 years!

This is intended as a supplement to "Everything You Ever Wanted to Know about Group Rewards, But Were Afraid to Ask -- The Long Version."

First off, "group rewards" are better termed "leader fees." Even in a 100% shared group, all that happens is that a borrower doesn't get penalized with respect to the rate at which he or she can list his or her loan -- there is simply no automatic numerical advantage or bonus at all for being a member of such a group. The borrower doesn't get hurt, that's all.

However, it is true that certain groups offer valuable services that less directly, but still significantly, help borrowers. Membership (or sometimes, vetted membership) in such groups can increase lender confidence in the borrower, and may lower the final rate that a loan closes at (if lenders bid the rate down), or drive an unfunded loan to become fully funded.

Do note that the lower your credit grade, the larger the group bonus needs to be to offset the "leader fees" that are taken from your listing.

Pretend that you are an E borrower living in chicago who is a member of a 0% shared group.

Your state rate cap is 9% (because you live in Illinois), your leader takes 5% annual interest on your loan, and as a result, lenders viewing you loan see you as offering only 3.75%.

9% - 0.25% -5% = 3.75%
max Illinois rate - 0.25% chunk in case you sign up for bank drafts - 5% leader fees = divine intervention necessitating loan.

Here is a chart showing the amount of interest you will be paying to your group leader every year, depending on your credit grade and your leader's shared reward levels:

And, an overly simplistic, back of the envelope (aka, makes the math/finance nerd side of me want to tear out my hair) approximation of how much "rewards" cost borrowers:

Let us assume a $5,000 loan over 5 years (assuming that an E or HR borrower lists at 25%, in a 0% shared group, which means that 5% is going to the group leader and 20% to the lenders):

I use Prosper's loan calculator:

Total payments over 3 years for a $5000 loan at 25% rate:

Total payments over 3 years for a $5000 loan at 20% rate:

Amount you've paid to your group leader:
$7,156.77 - $6,689.42

According to the loan calculator, 50% rewards mean.

Total payments over 3 years for a $5000 loan at 22.5% rate:

Amount you've paid to through 50% shared group leader:
$7,156.77 - $6,920.88

My advice? There are no groups out there that I know of that are worth the pain of 0% and 25% shared levels. And, unless your leader adds value, there's no reason to sign up for anything but 100% shared groups (or as I like to call them, 0% leader fee groups -- like mine :) )

[rant on]
Prosper currently describes group rewards in such a confusing fashion (for instance, choosing to term these taxes on borrowers and lenders "group rewards," rather than "leader fees"), that most of the new borrowers I've spoken to have no idea how much group fees cost them, or that they cost anything at all. This must be fixed![rant off]

We now return you to your regularly scheduled programming.

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