Wealth Waves: The Truth About Buy Now, Pay Later

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Buy Now Pay Later Loans

Buy now, pay later (BNPL) loans are one of the hottest new trends in the world of financial technology, touted as a less risky alternative to credit cards. Using one of several major apps, you're only asked for a fraction of the price at the point of sale and the rest is paid off in a few biweekly installments. As long as you pay on time, there's no interest.

No interest? Oh, hold on Turbo, it might sound like a no-brainer, but any savvy spender knows you don't dive headfirst into a new financial tool without digging a little deeper. How do BNPL loans really work? What are the drawbacks and dangers, and what's in it for the companies that offer them?

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A Historical Perspective

Times were tough during the Great Depression and people weren't spending like they used to. So merchants came up with a new system called a layaway plan which allowed shoppers to put a deposit down on a purchase and pay the rest off in installments. When the balance is fully paid off, the merchandise is delivered.

Layaway plans were popular up until the 1980s when credit cards replaced them as the preferred way to buy things with money you don't have. But over the last four decades, many Americans have soured on credit cards, associating them with high-interest payments and lifelong debt spirals.

So it's no wonder that young people are starting to embrace Buy Now Pay Later loans as a kind of modern tech reboot of the layaway plan. Like layaway plans, they have a no-interest installment structure, but like credit cards, you receive the purchase immediately. You don't have to wait until the balance is paid off.

If you think this sounds like a good deal, you're not alone. Between 2019 and 2021, the total value of BNPL loans from the major lenders grew more than a thousand percent from around $2 billion to over $24 billion. The value of transactions financed this way quadrupled globally, hitting over $120 billion. More than 40% of Americans have used BNPL loans and they're especially popular with younger people, who make up about half the user base.

And they seem to like it. According to consumer reports, most users report being satisfied with the service and a survey by Associate Marketing Professor Anastasia Ghosh found that unlike credit cards, consumers felt virtually no guilt about using BNPL loans.

However

However, there are drawbacks to BNPL loans that consumer rights advocates are trying to sound the alarm on. These are extremely new financial inventions, which means they're largely unregulated. The Truth in Lending Act, which protects you from unfair or inaccurate credit practices, doesn't apply to Buy Now, Pay Later. They don't have the rewards programs or protections of credit cards, which means you might not be able to get a refund if your purchase is lost or damaged in transit.

And just because there's no interest doesn't mean there aren't penalties for late payments. Delinquency rates for BNPL loans have been steadily growing over the last few years, as have loans charged off as bad debt. When this happens, your credit rating takes a hit, but the reverse is not true. Most BNPL companies don't report on-time payments to the credit bureaus, which means they're not a viable way to build your credit history.

Also, one of BNPL'S most attractive features, its ease of use, is also a hazard. People are increasingly using them for everyday purchases like groceries, utility bills, and yes, sandwiches. This can lead to loan stacking where borrowers quickly lose track of multiple loans. People who use BNPL loans have seen a dramatic uptick in overdraft fees and because many have their BNPL accounts tied to their credit cards, they end up paying interest anyway.

Business Strategy

But to understand the true danger of BNPL loans, we need to look at the business strategy of the companies that offer them. These apps market themselves as friendly, cool, almost altruistic organizations just trying to help you live your best life, bro, but we savvy shoppers know that no corporation does anything unless there's something in it for them. Which begs the question, how does a lender that doesn't charge interest make money?

The answer is merchant fees. Retailers pay BNPL companies to finance their customers' loans and the fees are three to four times higher than those from credit card companies. Which begs another question, why are merchants willing to pay such exorbitant prices? Because BNPL companies are really, really good at getting customers to spend more money.

If you're surfing an online clothing store with a hundred bucks to spend, you might see a cute top that usually goes for 80 bucks, but you can have it right now for a deposit of just $20. Throw in a shawl, a hat, pair of boots and your $100 has financed a whole new outfit with about $300 in installments to pay off.

A recent economic study found that using BNPL loans increases one's spending habit by $60 a week, bloating the average American's retail budget by about 30%. Meanwhile, they're tracking your purchases and collecting your data to develop more effective ways to get you to spend more. As the director of the Consumer Financial Protection Bureau put it, these firms aren't just lenders, they're also advertisers and virtual mall operators.

Conclusion

We have a tendency to become entranced by new tech and think that apps with upbeat names and hip marketing are really changing the game for the better, but as we've seen before, some tech companies are not so much disrupting the industry as just muscling their way into it.

That's why some economists think that this Buy Now, Pay Later fad is just another loop in America's eternal credit cycle. It may seem like the shiny new thing, but it will quickly lose its luster if consumers keep overspending themselves into debt.