The risks and cons of using Buy Now Pay Later companies.
Buy Now Pay Later, commonly referred to as BNPL, can provide a convenient, attractive way to shop/buy for what you want now and pay for it later. However there are some risks to using this type of payment option, as noted below. Find some of the downsides as well as cons to using Buy Now Pay Later when you shop.
While versions of BNPL programs have been around in various forms for some time, there are more companies and apps offering this type of service now. Consumers can instantly purchase goods with installment payments. Buy Now Pay Later is a little different than credit cards as there are rarely credit checks done by the company offering the service, which can be risky. As it can lead to shoppers taking on more debt than they realize, which can lead to fees, interest being charged, and other downsides.
The federal Consumer Financial Protection Bureau reports more than one half of Americans have used a BNPL service. Many of them use Buy Now Pay Later for more expensive items, such as electronics, jewelry, beauty products and similar goods. However almost anything can be paid for using a Buy Now Pay Later app, even including groceries or gasoline..
Today, virtually every major retailer offers some form of BNPL financing for both large and small purchases. Online and physical stores offers the payment option including Amazon, Target, Macy's, and Walmart. This is also often called a pay later service, as the shopper gets the items now and pays later, over time. Some retailers, such as Amazon's program, applies to most purchases of more than $50.
The most common BNPL plan is a "Pay-in-4" model that allows to you pay 25% of the purchase price at checkout then pay off the balance with three more interest-free payments spaced two weeks apart. Payments can usually be made by check or you can set up automatic payments from your bank account, credit card, or debit card.
Most programs don't charge interest or fees when payments are made on time, which is of course a pro of using Buy Now Pay Later when shopping. For a responsible consumer with the ability to pay off a purchase in six weeks, BNPL services may be a desirable way to make large purchases.
However, BNPL companies and the apps have risks and drawbacks. The list is extensive but includes late fees, negative impacts on credit reports, high interest in some cases, and pay later services can encourage consumers to make impulsive purchases that accumulate additional debt a buyer really can't afford.
The most popular BNPL programs are offered by financial technology companies such as Affirm, Paypal, Square (Block), Klarna, Venmo, Cash App, and Zip/Sezzle. All can be used for online shopping, and some are available for in-store purchases. For online shoppers, a BNPL option will typically appear on the checkout screen. BNPL services can also be accessed using that program's app on a smartphone or tablet and then navigating within the app to partner stores.
Buy Now Pay Later apps and the financial risks with them
Each BNPL company operates slightly differently, but there are cons and potential risks to all of them. Some offer additional plans besides Pay-in-4, such as installment loans. Some companies charge late fees for missed payments and report late payments to credit bureaus, while others do neither.
Afterpay partners with more than 20,000 companies. It does not interact with credit bureaus and uses the popular Pay-in-4 model. Klarna offers three options, including a Pay-in-30 model allowing buyers to pay the balance within 30 days of purchase, a monthly financing option, and the standard Pay-in-4 plan. The monthly financing option may charge up to 25% interest.
Zip's BNPL program is available anywhere Visa is accepted and uses the Pay-in-4 model. Paypal utilizes the Pay-in-4 model but does not charge late fees or interest. Paypal's program can only be used for online purchases, and its Purchase Protection Plan applies to BNPL transactions. Buyers may qualify for a refund from Paypal if the purchased item is lost or is different from the online description.
Affirm partners with more than 30,000 retailers (including Amazon) and does not impose late fees, but may charge interest on the purchase price of up to 30% depending on the retailer. Interest accrues only on the purchase price and is not compounded regularly as is the practice with credit cards. Affirm offers longer payment periods than most programs. Items can be paid off over three, six, or 12 months. Items priced above $800 may qualify for longer payoff periods.
For example, Affirm is also used by Walmart and Target. A 75" Sony TV priced at $998 can be purchased from Walmart using Affirm. The interest rate is about 20% and payments will be just under $93 for 12 months. A 55" Samsung TV priced at $410 can be purchased at Target using Affirm's program with an interest rate of 20% and payments of $141 for 3 months, $72 for 6 months, or $38 for 12 months.
BNPL providers typically only do a soft credit check if they do a credit check at all, so your credit score is usually not negatively affected, or at least not until you miss a payment. This makes BNPL an attractive source of financing for people with bad credit or little credit history.
Drawbacks and potential administrative risks of BNPL pay later services
Since the most popular BNPL services require 4 payments, many plans are not covered by the federal Truth in Lending Act. This can lead to more potential risk in the form of reduced regulation from the government. The Lending Act only applies for purchases which require five installment payments before the act's provisions are triggered.
Missing a payment can incur penalties in the form of late fees, interest, and restricted use of that BNPL program in the future. Several studies show that over 25% of the people who use a BNPL service became delinquent in payments, and the number of defaults has been growing. While BNPL plans have become very popular with younger shoppers, research shows the same group is also the most likely to miss payments.
It can be hard to keep up with the repayment schedule. If you allow yourself to go crazy buying lots of stuff at different stores on BNPL, you might have a hard time making sure that your account is properly funded, and your cash flow is adequate, to make all the payments at the right times.
Klarna charges a late fee of up to $7 for a missed payment. Afterpay charges up to $8 if payment is not received within 10 days of the due date. Zip adds a $1 convenience fee per payment and a late fee of up to $10 for missed payments. Merchants pay BNPL service providers a fee to use their service, but late fees also generate a substantial amount of income for some BNPL companies.
Missing a payment may result in other negative financial consequences. If you set up automatic payments from your bank account, and the account lacks sufficient funds on the day payment is due, you may have to pay a bank overdraft fee of about $35 as well as a BNPL late fee.
Another con is that BNPL financing is more likely to hurt your credit score than improve it. Responsible and regular use of a credit card can help to build a credit score and improve your ability to obtain financing for big-ticket items like vehicle loans and mortgages. Unlike credit cards, on-time BNPL payments are generally not reported to credit bureaus, so the responsible use of BNPL does not improve your credit score.
For years, BNPL lenders didn't report to the credit bureaus. Now, they have begun to do it -- meaning that timely payments can help your credit history. When you miss a payment on your BNPL purchase, however, it is reported to the credit agencies as well, resulting in a drop in your credit score. Many consumers making late payments do report such a credit score drop. This can make it hard for you to apply for a car loan or something similar one day. If you completely default on a purchase, the lender can report you to a debt collection agency.
However, failing to make Buy Now Pay Later payments on time may negatively affect your credit score. Some companies report persons in default to the credit bureaus. Failing to make payments as scheduled may also result in a referral to a collection bureau.
You may buy things that aren't necessary. People pay by the BNPL method because it makes things look cheap. This, in turn, makes them spend more on goods or say impulsively buy more clothes and cosmetics than they would otherwise ever dare to. The BNPL payment method can help you if you really need something important; if you use it to make purchases that aren't really meaningful, however, you will end up with less money for essentials.
BNPL plans can encourage impulse buying, purchase of non-essential items, and overspending. The apps are simple to download and use for shopping and even gamify the experiences, which are all risky. For example, if you're working with a $100 budget, you might choose to buy a $100 item using Buy Now Pay Later and get it for $25. That leaves you $75 to spend, making it attractive to buy three more $100 items and make 25% down payments.
When you choose a BNPL payment method, the weekly installments often seem small enough that you don't see why you would ever need to worry about being able to afford them. Many people, however, are so happy with this frictionless way of shopping that they buy too much, too quickly, without thinking about how all those installments add up to a lot of money each week.
Buying four items for the price of one may feel good on the day of purchase, but not so great two weeks later when another $100 must be paid. If your budget cannot cover that extra $100 every two weeks, you'll just end up deeper in debt and will likely incur fees that reduce the benefit of using BNPL financing.
Some surveys, such as from Lending Tree, revealed that 2/3 of the consumers using BNPL services said they spent more using the plans than they would have spent had they been required to pay the full price when they made their purchases. For many consumers, a Buy Now Pay Later app makes things seem cheaper since they are not paying the full price upfront, but, in reality, they are just being drawn further into debt.
Missing payments may also prevent the future use of BNPL financing. Many companies, such as Klarna, restrict the use of its services for persons who have missed a payment to prevent them from accumulating more debt. Affirm notes that users who have a history of late payments may have trouble getting future installment loans using their app.
BNPL companies don't usually offer the same amount of rewards, sign-up bonuses, or cashback programs that are commonly available with credit cards. Or the incentives and rebates are much lower. Many credit cards offer purchase protection plans for damaged or lost items while BNPL programs, other than PayPal, typically don't provide that benefit.
Returns can come with friction. Often, when you need to return an item that you've paid for with the BNPL method, it isn't as simple as it is with a credit card. You don't just return the item and have the retailer and the credit card company sort it all out. Often, you need to call the lender (buy now pay later company) and ask them to freeze the payment schedule.
Then the BNPL company needs to to back to the original retailer and work out the details with that store - the process takes time. While returns may become smoother in the future, they can be somewhat problematic with the current system.
You don't get purchase protections using a Buy Now Pay Later app. Credit cards give you purchase protections if you have a dispute, such as about poor-quality merchandise. The return/refund/dispute process (when using a credit card) is often instantaneous. With BNPL payment methods, however, you give up these protections, as well as the cashback and other rewards that come with credit card use.
Finally, be aware that BNPL purchases can be very difficult to return. In addition to the retailer's own return policy, you will also have to meet the conditions of the BNPL lender. Those terms tend to be more stringent as BNPLs exist in an emerging "grey area" of the law in which little existing regulation applies directly to them. The retailer's return process may not line up with the BNPL return process in a way that allows you to provide necessary documentation or take the required steps, or you may be disqualified if you get anything out of order.
Minimizing the risks
There are several ways to reduce the risk of missing payments and incurring fees. Before you buy using a pay later service, determine if you'll have the financial resources (namely future income) to cover the remaining payments as they come due. Keep in mind other monthly bills you need to pay as well. Review the terms of the BNPL program before using it. Are late payments reported to a credit bureau? How much are fees for missed payments?
- Automate your payments. Most consumers are used to making credit card payments once a month. Short-term BNPL purchases requiring payments every 2 weeks can lead to confusion, especially if multiple BNPL services are used at the same time. To avoid that, schedule automatic payments from your bank or credit card. Set up reminders on your smartphone or computer.
- Pay off the full BNPL balance ahead of time. There is usually no penalty for early payment.
- If you're offered multiple BNPL options at checkout, it's usually wisest to choose one with 0% interest as long as you can make the payments when due. It is risky to use more than app company or app to shop with.
- To reduce the temptation to overspend, wait for 24 hours after you put items in your online shopping cart. Review your cart the next day to determine if you need the items or were just excited about the possibility of getting more for what appeared to be less.
- Avoid BNPL services for travel-related purchases. If your travel plans change, you may encounter difficulties obtaining a refund. Check return policies for any purchase. While a merchant might allow returns, you may need to provide proof to the BNPL service that the return has been accepted and processed. Until the service accepts the proof, you may still be held responsible to make the scheduled balance payments or incur penalties for missed payments.
If used wisely and sporadically, BNPL financing can be an effective way to purchase items, particularly for consumers with poor or little credit history. The appeal of 0% interest and only needing to pay 25% of the item's price for immediate purchase is undeniable. So there are some pros to using Buy Now Pay Later shopping apps that allow you to pay the bill later over time.
However, the risks of overspending, incurring an unmanageable amount of debt or fees and damaging your creditworthiness, are also very real when using a pay later service Taking a realistic view of your budget and understanding the specific details of the BNPL plan you are considering is essential for making wise and practical shopping decisions.
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