The so-called “buy now, pay later” (BNPL) industry is taking the United States by storm. The number of Americans who have used the lending model, popular in Australia, has grown 300% every year since 2018, according to Bloomberg.
BNPL companies like Afterpay, Klarna and Affirm say the model is financially inclusive for people who cannot access traditional forms of credit.
But consumer advocates argue the model is under-regulated and poses risks to consumers.
“It’s actually a way for consumers to rack up a lot of debt in a short time, without knowing it,” said Elyse Hicks, consumer policy adviser at Americans for Financial Reform.
If the sector continues to grow, it could plunge a generation of young Americans into a debt trap.
BNPL splits purchases into several interest-free payments and is often used by consumers who are not creditworthy
The rise of the BNPL in the United States
Although different companies in the industry may differ slightly, BNPL services allow a consumer to pay for an item or service in four interest-free installments over a period of time, usually two weeks. Already ubiquitous online, the BNPL is also beginning to be introduced in stores.
While BNPL began to gain momentum pre-COVID-19, a pandemic-related shift in consumer spending towards e-commerce and retail goods fueled growth in the sector. According to a study by the IT services and consulting firm Accenture commissioned by Afterpay, BNPL purchases have increased by 230% since the beginning of 2020.
Usage estimates vary, but similar studies indicate that between one-third and one-half of Americans have used BNPL services. The sector has penetrated younger populations more than any other.
Several technology and financial services companies are also jumping on the bandwagon. In June, Apple became the latest major player to announce its own BNPL service.
Buy (more) now, (can’t) pay later
For consumers, companies like Klarna and Affirm often market their interest-free, installment loan services as a release from the credit card industry and other predatory lenders.
But users, especially the youngest, are already getting into debt. The reasons are both psychological and regulatory.
Consumer advocates point out that consumers’ ability to buy products in incremental payments seems to entice people to buy more — and more than they can afford.
Consumers interpret split payments as more affordable and therefore tend to abandon their carts less and buy more frequently. Indeed, this is why merchants are willing to pay 2% to 8% fees to BNPL agents, which is more than what credit card companies charge.
According to Hicks, the promise of affordability of BNPL services is illusory. “It costs consumers a lot more money than just using their credit card,” she told DW.
Many users miss payments and regret their purchases. According to Credit Karma, nearly 40% of BNPL users report missing at least one payment.
BNPL services generally do not charge interest like credit cards, but they do charge fees or other penalties when users miss a payment. Late payments can even lead to overdraft fees on a buyer’s bank account.
Young people seem the most sensitive
Private financial and investment advisory firm Motley Fool found that almost 50% of young people using BNPL have made a late payment or incurred a late fee – the most of any age group.
Unlike credit cards, it can be difficult to track exactly what is owed. If users take out multiple BNPL loans at once, they can quickly get into trouble.
In general, many consumers seem confused by BNPL. A survey found that around a third of BNPL users do not fully understand the service.
Chemareea Biggs is one person who fell into debt trap after accumulating BNPL loans. After losing several jobs during the pandemic, she was unable to repay Affirm’s “paid in four” loan for plane tickets, setting off a spiral of debt.
She told Bloomberg that after she missed a payment, the situation deteriorated.
Younger generations in the United States are already struggling with record amounts of debt
Same service, different regulations
Part of the reason consumer debt pitfalls are even possible is that BNPL services are mostly unregulated.
Consumers have many protections from traditional lenders, like credit card companies, under the Truth in Lending Act (TILA). But BNPL lenders can bypass TILA because the law only covers loans that are split into five or more payments. BNPL stops at a fraction of four payments.
Hicks told DW that “a lot of businesses that buy now and pay later don’t want that to be considered a loan. Because if it’s considered a loan or a line of credit, that’s one regulations.”
Bypassing TILA means BNPL companies have less legal responsibility to ensure users can repay the loan. Some services may do light credit checks for big ticket items, but for the most part, loans are granted with no questions asked.
While specific BNPL services may ban users until their debt is paid, such consumers are not barred from taking out loans from other BNPL companies.
BNPL companies showcase the ease with which consumers can use their products as financial inclusion for those excluded from traditional credit.
Critics argue BNPL services should be regulated like credit cards
Act like credit cards, treat like credit cards
But according to a study by US consumer credit reporting agency TransUnion, BNPL users actually tend to have more credit cards, retail cards, installment loans or other credit than the “general credit labor force”.
Meanwhile, another study found that almost a fifth of BNPL customers only used the service after they maxed out their credit card.
Taylor Roberson, federal policy adviser at the Center for Responsible Lending consumer advocacy group, told DW: “One of the most positive aspects of the product has to do with the ability for consumers who pay on time to have this payment history recorded positively on their credit reports, and that may be where the benefits end.
Roberson explained that currently consumers are not rewarded by credit rating agencies for paying BNPL loans on time, in part because these lenders are not required to report their data like other lenders.
But even when BNPL companies choose to report their data, users may find that their credit score is affected if they miss a payment.
Roberson and other consumer advocates believe one solution is for BNPL to be regulated by TILA and overseen by the Consumer Financial Protection Bureau (CFPB). Indeed, the CFPB opened an investigation into the industry late last year, and its findings should inform consumer groups in the future.
“They are basically credit cards in terms of what the laws and regulations say, so we think they should be regulated as such,” Roberson concluded.
Edited by: Uwe Hessler