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Buy Now Pay Later: A Financial Solution or Trap?

Updated: Jan 20, 2022

The option to shop online using Buy Now Pay Later products has provided many shoppers with flexibility. They can make their desired purchases now, whilst spreading the cost over weeks or months. It is straightforward to sign up and there are no fees if repayments are made, so why does the Financial Conduct Authority have concerns?

Is there any Harm to Buying on Credit?

The use of Buy Now Pay Later (BNPL) sites including Klarna, Clear Pay, Laybuy and Zilch has tripled over the pandemic. As consumers shift to online shopping, the option to spread the cost of purchases has been welcomed by millions of shoppers. It is estimated that 30% of 20-30-year-olds have used these sites to make purchases.

These products are designed for small purchases and spending limits are set for each consumer. Signing up is simple, with no detailed credit checks or questions about an individual’s finances, the process is quick. It is no wonder that this offers an easy way to get what you need and want.

Buying on credit is nothing new. Most people regularly pay for items on a credit card without it being seen as a financial trap, so why are concerns being raised about BNPL?

FCA Review in Buy Now Pay Later

In 2019, the Financial Conduct Authority commissioned the Woolard Review into Buy Now Pay Later sites. For the majority of consumers, they are a viable option that can help them with money management. They provide a new way of accessing credit which is moving the monopoly away from banks.

However, the review found that a tenth of all applicants were already in financial arrears. These financially vulnerable customers have already reached the limits on credit cards and overdrafts. They don’t have the means to repay.

The lack of credit checks and affordability assessments is one of the appeals of these sites, but these measures are used on other credit products to protect consumers from escalating debt.

What’s more, there is no shared record about the sites that individuals are signed up to. There may be a spending limit, yet it is possible to access hundreds of pounds of credit across multiple sites. This makes it even harder to keep on top of repayments.

The FCA wants the Government to bring BNPL firms in line with other credit lenders. That is, for the sites to be regulated and for credit checks and affordability assessments to be conducted at the application stage. They recommend that the law be adapted to fit how these sites are used and ensure they are fair for consumers and providers.

“As the market innovates and changes, regulators and legislators need to respond quickly and decisively to protect consumers by facilitating credit where it is beneficial and clamping down on it when it does harm. The FCA agrees that there is a strong and pressing case to bring buy-now pay-later business into regulation.”

Charles Randell, FCA Chair

Debt management agencies agree that there is currently a lack of information and protection for customers using BNPL for online shopping. They see that easy access to credit encourages people to spend beyond their means, without necessarily having a repayment plan. For those who are struggling with money management, it seems like a quick win, but the long-term implications push people into further debt.

How do Buy Now Pay Later Sites Make Money?

If every customer was able to access interest-free credit and avoid fees by making repayments on time, how do these sites make money? The answer is that they charge retailers a fee. The reason retailers are willing to pay is because the sites promise to significantly increase purchases and order values.

They have data to support these claims and that is because it isn’t just the BNPL sites that aren’t asking affordability questions. Consumers themselves are less likely to question purchases or abandon carts when they have an easy way to pay. Shoppers are not holding back because they don’t have the money in the bank. It’s little wonder that the British Retail Consortium is in favour of this payment option.

What Happens if you Don’t Make the Repayments?

A Panorama programme on Buy Now Pay Later revealed that 43% of shoppers using BNPL sites had missed at least one payment. Whilst some sites offer repayment holidays to get shoppers through a tricky week or month, these are limited.

Missed payments result in late payment fees and then suspension from the site. The repayment and fees can stack up, especially if the consumer has accounts on multiple sites. If repayments aren’t made, debt collection agencies are engaged to claim back the money owed. This can push people into greater financial vulnerability.

Unpaid debts do affect your credit rating, so even when repayments are made, it can impact the individual’s ability to access mortgages and other credit in the future. This information is not made clear at the application stage.

Alternatives to Buy Now Pay Later

There is nothing wrong with spreading the cost of payments if you know you have the means to repay on time. However, if you are already financially vulnerable, these sites are likely to escalate, rather than resolve the problem.

A better option would be to approach a local credit union. These not for profit, community initiatives operate across the UK. They provide affordable loans and support with financial planning. This could help individuals to take back control of spending and saving.

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