by Ken Sweet | Associated Press
Americans have become fond of “buy now, pay later” services, but the “pay later” part is becoming increasingly difficult for some borrowers.
Buy now, pay later loans allow users to pay in installments for items such as new sneakers, electronics or luxury goods. Companies like Affirm, Afterpay, Klarna, and PayPal have built popular financial products around these short-term loans, especially for young borrowers who fear never-ending credit card debt.
Now, as industry shelves customers, defaults escalate. Inflation squeezes consumers and makes it harder to pay off debt. Some borrowers do not budget properly, especially when persuaded to take out more than one loan, while others may have had credit exposures in the beginning.
“You have an industry with higher subprime borrowers in a market that hasn’t been tested effectively (this kind of economy) and you have some sort of toxic concern,” said Michael Taiano, an analyst. Fitch Ratings, which produced a report in July highlighting some of the industry concerns.
The most popular type of buy now pay later loans allow four payments over six weeks – one payment at the time of purchase and three payments that borrowers usually try to sync with their payment period. Longer term loans are also available for larger purchases. Most short-term loans have no interest. Companies that charge interest can clearly state how much a borrower will pay in financial expenses.
Given these characteristics, consumer advocates and financial advisors initially viewed buy now, later payment plans as a potentially healthier form of consumer debt when used correctly. The biggest concern was late fees, which can act as a hefty financing fee on a small purchase if the borrower delays a payment. Fees can be as high as $34 plus interest. But now, as defaults increase and companies become more aggressive in marketing their products, advocates need additional regulation.
The industry is growing rapidly, according to a report released Thursday by the Consumer Financial Protection Bureau. Americans borrowed roughly $24.2 billion in 2021 in buy now, pay later programs, up from just $2 billion in 2019. This industry-wide figure is only expected to increase further. Klarna’s customers purchased $41 billion worth of products worldwide in the first six months of the year, up 21% from a year ago. PayPal, buy now, paid for subsequent transactions in the second quarter, processing more than $4.9 billion, more than three times a year ago.
Jasmine Francis, 29, a tech analyst based in Charlotte, North Carolina, said she first used the buy now pay later service in 2018 to purchase clothes from fast fashion brand Forever21.
“I just remember having a car,” he said. “At first, I thought ‘Something has to come back’ and then I saw Afterpay at the checkout – you don’t pay for it right now, but you get it right now. I was hearing music.”
It is unclear how well customers use buy now, pay later loans. Fitch found that defaults on these services rose sharply in the 12 months ended March 31, while credit card defaults remained flat. And, according to the CFPB, an increasing percentage of the industry’s loans are debited—or loans deemed too dubious to be collected. The industry’s charge-off rate was 2.39% in 2021; this figure is probably higher given the economic turmoil this year. In 2020, this figure was 1.83%.
“This upward trend in crime continues,” CFPB director Rohit Chopra said in a phone interview with reporters.
Credit reporting firm TransUnion found that buy now, pay later, borrowers use the product as much as their credit cards, piling debt on top of additional debt. A survey published this week by Morning Consult found that buy-now, pay- later customers use the service for routine purchases like groceries and gas, a type of behavior that rings alarm bells among financial advisors. The CFPB report also found a small but growing number of Americans who also use these products for routine purchases.
“These buy now, pay later plans can have a cascading effect over a person’s entire financial life if they are not adequately budgeted,” said Andre Jean-Pierre, a former Morgan Stanley wealth advisor who now runs his own financial planning firm. It’s about helping black Americans save and budget enough.
Another concern among advisors and consumer advocates, as well as Washington lawmakers and regulators, is the ease with which consumers layer these installment loans.
Speaking at a Senate Banking Committee session on new financial products on Tuesday, Senator Sherrod Brown, D-Ohio, highlighted the benefits of plans that allow consumers to pay in installments. But he also criticized the way the industry supported the plans.
“Ads encourage consumers to use these plans for multiple purchases at multiple online stores – increasing debt they cannot repay,” Brown said.
Short-term loans are potentially problematic as they are not reported in a consumer’s credit profile at Transunion and Experian. Plus, the buy-now-pay-later industry’s customers are distorting the young—meaning they have little credit history. Hypothetically, a borrower can take out several short-term loans through multiple purchases now, then make payments to companies — a practice known as “credit stacking” — and they never show up on a credit report. Budgeting can be tricky if someone puts a lot of items on their buy now, pay later plan.
“It’s a blind spot for the industry,” said Taiano of Fitch.
In a statement, the pay-now industrial-trade group pushed back its definition that its products could leave borrowers with too much debt.
“With zero-to-low interest rates, flexible payment terms and transparent terms and conditions, BNPL helps consumers manage their cash flows responsibly and live healthier financial lives,” said Penny Lee, CEO of the Financial Technology Association.
Meanwhile, pay-it-now service providers see rising defaults as a natural consequence of growth, but also an indication that inflation is hitting the Americans who use these services the most.
“We’ve seen some stress among those with the lowest credit scores, and they’re starting to have a hard time,” said Max Levchin, founder and CEO of Affirm, one of the largest now buyout companies.
He added that Affirm has taken a more conservative approach to lending.
Take it now, the payment started later in the USA after the Great Recession. Analysts said the product has not been extensively tested during a time of major financial distress, unlike mortgages or credit cards or auto loans.
Despite these concerns, the consensus is that buy now, pay later companies are here to stay. Affirm, Klarna, Afterpay, PayPal and others owned by Block Inc. are now widely involved in Internet commerce.
Also, the growth of the industry is attracting more players. Tech giant Apple announced Apple Pay Later earlier this summer, where users can shop on four payment plans for six weeks.
Desiree Moore, 35, of Georgia, said: “I usually schedule my purchases using PayPal with ‘Pay at 4’ so that the deadlines for purchases coincide with my payout dates, because the deadlines are biweekly.
Moore said she tries to use buy now pay later plans to cover purchases that aren’t in her usual monthly budget, so she tries not to take money for her children’s needs. It’s increasingly using plans where inflation has made items more expensive, and can keep up with payments so far.
Technical analyst Francis said it’s now common for friends to pay for travel on installment loans to avoid completely emptying their bank accounts in an emergency.
“If I get home from vacation and I have two flats and I spend all that money on plane tickets, that’s $400 you don’t have right now,” he said. “Most people don’t have savings. Just enough for flat tires. ”
Cora Lewis, AP Personal Finance Correspondent, contributed to this report from New York.