The Hidden Dangers of Buy Now, Pay Later Financing

The Promise of Convenience

Buy now, pay later financing has become a popular option for consumers, with many merchants offering this service to their customers. The promise of convenience and no direct cost to the consumer is enticing, but financial experts warn that it’s not risk-free. The option can lead to overspending, and consumers may not be fully thinking through the decision, and the implications of what they’re agreeing to. “The temptation is very great to overspend,” said insolvency trustee Doug Hoyes. With the option popping up during online checkout, or being offered by a cashier, consumers are also not necessarily fully thinking through the decision, and the implications of what they’re agreeing to.

Risks of Overspending

While the vast majority of buyers pay off those debts—which tend to run in the hundreds of dollars rather than the thousands—there’s also a rising push to have the data shared with credit-reporting agencies, creating new areas of risk. The data can be used to calculate credit scores, and a lower score can have negative consequences for consumers. “For the vast majority of people, you are taking on debt without really realizing it,” said Hoyes. “You’re not making a conscious decision that yes, I will borrow that money. And that’s dangerous, obviously.”

BNPL Payments and Credit Scores

Just last week in the U.S., reporting giant FICO said it was launching its first credit scores that incorporate BNPL data. And in April, Affirm said it would start sharing data with TransUnion in the U.S., with a goal to do so in Canada as well. “We believe that reporting to credit agencies supports responsible lending and promotes positive credit outcomes,” said spokesman Brian Levin of Affirm. In Canada, Equifax said its credit reports have started to include data from some BNPL lenders, which may be used in the calculation of credit scores. TransUnion said it’s still in the development stage of figuring out how to integrate BNPL data, including creating a separate section on credit reports to reflect the unique nature of these products.

BNPL Companies Raising Concerns

While work progresses to add BNPL to credit reporting, some providers have raised concerns. Klarna said in March last year that it wasn’t sharing BNPL data with U.S. credit-reporting agencies because it doesn’t fit in well with other types of loans. The company, which confirmed it doesn’t share data with Canadian agencies either, said adding BNPL to existing credit-reporting models could leave consumers worse off. “As there is little clarity on the potential long-term impacts to the consumer, we believe this approach is too risky,” it said. Other providers, like AfterPay, also say they don’t provide any data to credit-reporting agencies. Sezzle said sharing data with ratings agencies is an option for those who choose its Sezzle Up program to built their credit.

The Impact on Providers

The strain of cheap loans is starting to show for some providers. Klarna‘s most recent quarterly results showed a 17% increase in consumer credit losses, and its overall losses doubled, raising concerns it could be the start of wider industry trouble. But the company’s credit loss rate was still only 0.54%, showing the vast majority of borrowers are still repaying their debts.

Consumer Caution

To avoid a pile of unexpected bills, Hoyes said the key is to think ahead. “There’s nothing wrong with using a credit card or buy now, pay later or a car loan or a mortgage or anything like that.” It’s when you don’t have a plan, when it becomes an impulse purchase when you’re standing at the store, that’s when you can get into a bit of trouble.

Some providers, like Affirm and AfterPay, will halt any further purchases if a consumer falls behind on payments, while others like Klarna do the same, but could also charge a small late fee and send unpaid debts to collection agencies.
Most providers are also increasingly offering longer-term loans, with rates ranging anywhere from zero interest into the 30% range.
Some are also striking partnerships for bigger-ticket items like exercise equipment and flights, making for a potentially risky transition to higher debt loads.

Conclusion

The hidden dangers of buy now, pay later financing are real. While the promise of convenience and no direct cost to the consumer is enticing, it’s not risk-free. Consumers must be cautious and think ahead to avoid overspending and unexpected bills. By understanding the risks and benefits of buy now, pay later financing, consumers can make informed decisions and avoid the pitfalls of this popular financing option.