[Update: It looks rumors of Lending Club’s death was premature. It was actually my best investment last year. You can sign up at Lending Club.]

I, like many other Lending Club members, received a distressing e-mail a couple of days ago (Lending Club Reviewed). I waited until now to sort out how I feel about things. Here are the highlights that I found interesting:

Lending Club has started a process to register, with the appropriate securities authorities, promissory notes that may be offered and sold to lenders through our site in the future. Until we complete the registration process, we will not accept new lender registrations or allow new commitments from existing lenders… The borrowing side of our site will remain generally unaffected by this registration process; borrowers can continue to apply for loans and new loans posted after April 7, 2008, will be funded and held only by Lending Club… Until the registration process is completed, the company will undergo a quiet period and will not be able to respond to press and other inquiries about Lending Club or the registration process during that time.

In other words, they are shutting down the peer-lending service. They either are not willing to or unable to explain in more detail how long this may go for. The part about Lending Club fulfilling all borrow loans themselves is concerning. What happens if people don’t pay them back, will the company go out of business? Will they have to fill every borrower’s request that comes to their door? If not, how do they choose who to fund?

The biggest question is, “How long will everyone be in limbo?” Tech Crunch suggests that they might need to obtain a broker-dealer license from the SEC that would legitimize its operations. If this is the case, it might be quite a few months. You don’t just get a broker-dealer license from the Dollar Menu. There are regulations on top of regulations.

I am incredibly disappointed by this news. I ran a contest less than two weeks ago and gave away Lending Club memberships with $50 just for signing up. I will be pulling my money out as fast as possible. It makes no sense to leave it there since you can’t lend it and it earns no interest.

I have been worked for a number of start-up companies and they had one thing in common – they are extremely fragile. A high percentage of new companies fail. Often times they do everything right and the market conditions or something else just isn’t right. In this case it looks like Lending Club has the right market conditions, but something internally just isn’t right. I’ve talked to a few other Lending Club members – smart members who probably could have helped Lending Club avoid this problem in the first place – and they said they are gone and never coming back. They feel their trust has been violated. With each day that Lending Club can’t or doesn’t say anything to justify this inactivity, the more trust is lost. I might be blowing this out of proportion, but I’d rather err to the side of being conservative until I have reason to believe otherwise.

Note: I don’t believe this affects Prosper.com. The lenders do have promissory notes from the borrowers. Furthermore, Prosper has filed with the SEC for a loan resale marketplace, which tells me they are cooperating with the SEC’s requirements.