“Buy now, pay later” plans can increase consumer and credit card debt


An Afterpay logo is displayed on a smartphone.

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“Buy now, pay later” options are becoming increasingly popular, but analysts warn of the risk of default in the face of a lack of credit checks and “opaque” debt reporting.

Not being able to review consumer credit history could result in lenders underestimating borrowers’ debts when evaluating new loan applications, they said. There is also a risk that consumers will use more credit card debt to meet their “buy now, pay later” (BNPL) obligations, analysts warned.

BNPL providers typically work with retailers – both online and in stores – to enable consumers to pay in installments, with perks such as no late fees and often high credit limits.

Such payment options are becoming increasingly popular with younger consumers, especially when shopping online, and in recent years more and more companies have started offering the service.

These companies don’t do credit checks on these people … during a downturn, they may be the first to buy now and not pay later.

Stephen Biggar

Director of Financial Institutions Research, Argus Research

Default risks

In a recent report, Fitch Ratings said reporting on the sector’s debt trends was “opaque”. Many of these providers do not report the use of such services to credit agencies, according to the rating provider.

“As a result, BNPL debts are often not visible in the credit file and borrowers could try to obtain BNPL credits from multiple providers,” Fitch analysts write. “Lenders (including non-BNPL) may underestimate a borrower’s level of debt when taking on new debt.”

Stephen Biggar, Director of Financial Institutions Research at Argus Research, warned that defaults were “one of the main risks”.

“These companies don’t do credit checks on these people,” he told CNBC’s Squawk Box Asia last week. “During a downturn, they may be the first to buy now and not pay later.”

This is how “buy now, pay later” works

Traditionally, installment payments have been offered in shops for decades. However, in the past, this was typically the case for large-volume items such as furniture, electronics, and home appliances, which cost thousands of dollars.

The latest buy now, pay later plans span a segment between credit cards and installment payments. Focused on younger and more tech-savvy users, they are offered for online purchases that can range from $ 10 to $ 20 or up to thousands of dollars.

One of the most popular providers is the US-based pay-over-time company Affirm. The maximum amount that can be taken out with Affirm for a single payment plan is $ 17,500.

Many of these financial technology apps offer sweets that credit cards and traditional installment payments don’t – sometimes they include no late fees, low or no interest rates, high credit limits, and no required credit checks. The conditions vary depending on the provider.

On the flip side, the cost of borrowing can skyrocket if consumers don’t read the terms carefully.

There are some potential pitfalls in the fine print: additional fees like additional fees for rescheduling payments, and some providers charge high late fees.

Analysts also warn of the propensity for impulse purchases given the simplicity of the application process and the lower cost of credit compared to credit cards.

The use of such payment options skyrocketed during the pandemic as online shopping increased, Fitch said.

In the US, these short-term rate-related loans increased 215% year over year in the first two months of this year, according to Adobe Analytics. The data showed that consumers using such services place orders that are 18% larger compared to the same period in 2020.

The volume of e-commerce payments made through BNPL in the US rose to $ 19 billion last year – more than double the $ 9.5 billion spent in 2019, Fitch said, citing estimates from the Payment company Worldpay.

BNPL users cannot afford the regular repayments and may turn to credit cards or other forms of high-yield debt to help repay BNPL debt.

The providers that have appeared in this segment include Affirm, Quadpay and Klarna.

More established financial firms have also jumped on the bandwagon: PayPal, Mastercard, American Express, Citi, and JP Morgan Chase all offer similar credit products, while Apple reportedly plans to offer such a service as well.

Credit card debt could skyrocket

Fitch warned that such debts could “buy now, pay later” and even spill over to credit card debt.

“BNPL users cannot afford the regular repayments and can turn to credit cards or other forms of high-yield debt to repay BNPL debt,” it said.

US household debt rose by the highest dollar in 14 years in the second quarter, according to the Federal Reserve. While this was mainly due to a surge in the housing market, credit card balances also grew $ 17 billion from the first quarter to a total of $ 787 billion.

According to Fitch, findings from the Australian Securities and Investment Commission in November showed that 15% of Australian consumers using such pay-later programs had to take out an additional loan the previous year in order to pay off their BNPL plan on time.

In the United Kingdom, Fitch quoted a major UK bank that reported that of their 660,000+ customers who paid their BNPL providers, 10% had exceeded their overdraft limit in the same month.

Argus Research’s Biggar told CNBC that Square’s transaction losses “rose significantly” in the past quarter.

According to Square’s 2019 annual report, transaction and credit losses for the year ended December 31, 2019 increased 44% year over year.

Speaking of the risks of consumers missing out on payments, he said, “This is definitely a problem as we look to the next possible downturn … these loans have to be covered by something.”

In comparison, credit cards have “security features” built in, including cutting off access to the card, he pointed out.

– CNBC’s Jeff Cox contributed to this report.