Consumer Education: Impact of Buy Now Pay Later on Credit

In the age of online shopping, satisfying the need for instant gratification has never been easier. Thus, it’s no surprise that Buy Now Pay Later (BNPL) plans have exploded in popularity in recent years. As of March 2024, 30% of consumers have used BNPL plans. These convenient point-of-sale loans allow shoppers to spread the cost of their purchases over several interest-free payments.  

While BNPL plans offer quick and easy financing, they have some unexpected credit score implications. In this article, we’ll explain how BNPL plans work and examine their impact on consumers’ credit scores. We’ll also provide some tips for using BNPL plans responsibly.

What Are Buy Now Pay Later Plans?

Put simply, BNPL plans are short-term installment loans provided by third-party lenders. Shoppers can sign up for BNPL plans in person or on retailers’ websites and finance their purchases on the spot. 

Most BNPL plans allow consumers to split up their purchases into four installments. The first payment is due right away. You can think of it as a “down payment” on the BNPL loan. 

The next three payments are due in set intervals (typically, every two weeks). These payments are automatically charged to the debit or credit card provided upon checkout, so it’s important to make sure it has sufficient funds.

How Do BNPL Lenders Make Money?

Since BNPL providers don’t charge interest, you may be wondering how they stay in business. These companies earn money using the following strategies:

• Charging retailers a small percentage on the purchases they finance – BNPL loans often encourage shoppers to complete more purchases and to buy more expensive items than they would otherwise. Due to the resulting revenue boost, many retailers are willing to pay BNPL providers a small fee for their services.

• Charging late fees to consumers who fail to make their payments on time – As with credit cards, BNPL loans’ interest-free grace period doesn’t last forever. Late payments can incur interest fees as high as 30%. According to a 2023 LendingTree survey, 40% of BNPL loan users made at least one late payment.

How Do BNPL Plans Impact Credit Scores?

Caught up in the thrill of a shopping spree, many consumers sign up for BNPL plans without thinking about their credit scores, leading them to damage them unknowingly.

With that in mind, let’s answer some frequently asked questions about BNPL plans and their impact on credit scores:

Do BNPL Lenders Report to the Credit Bureaus?

Many credit card and loan providers reliably report to the credit bureaus (Experian, Equifax, and TransUnion) every month. BNPL lenders, on the other hand, may or may not report to the credit bureaus.

Here’s a rundown of the credit reporting practices for the most popular BNPL lenders, as of 2024:

1. Affirm reports to Experian and may include the other credit bureaus in the near future
2. After Pay doesn’t report to the credit bureaus
3. Apple Pay Later reports to Experian
4. Klarna only reports late payments to the credit bureaus
5. PayPal Pay in 4 doesn’t report to the credit bureaus
6. Sezzle reports to all three credit bureaus if you opt for their optional Sezzle Up upgrade
7. Zip doesn’t report to the credit bureaus

Do BNPL Providers Check Your Credit?

When you apply for a new credit card or loan, you may notice that your credit score goes down by a few points. This credit score dip is due to the hard credit check your lender performs during your formal credit application. 

Unlike credit cards or personal loans, BNPL lenders don’t conduct hard credit checks before extending their financing. Some may use soft credit checks (which don’t impact your credit score), while others don’t look at your credit reports at all. 

How Do BNPL Plans Impact Your Length Of Credit History?

While signing up for a BNPL plan won’t produce a hard inquiry on your credit reports, many consumers still notice an immediate drop in their credit scores. The reason? BNPL loans can shorten your average length of credit history considerably. 

Length of credit history looks at the amount of time your open credit accounts have been active. It’s worth 15% of your FICO credit score. A long length of credit history shows that you have ample experience managing your credit accounts and keeping them in good standing. 

While many consumers keep their credit card accounts open for many years, BNPL loans are often paid off within a few weeks. Thus, they can shorten your length of credit history dramatically, harming this component of your credit score. 

To make matters worse, many consumers use BNPL loans regularly, exacerbating the damage to their length of credit history. Just take a look at this review from an Affirm user:

“Each loan, no matter how large or small, will count as a separate account on your Experian credit report. I used Affirm about 15 times, to take advantage of their 0% financing offers. Surprise! Experian’s average account age calculation on my credit file dropped from 11 years to about 2 years. This negatively impacts your credit score. Beware.”

How Do BNPL Plans Impact Payment History?

Your payment history looks at how consistently you make your credit payments on time. It’s worth 35% of your FICO credit score. Timely payments can bolster your credit score, while late payments and collection accounts can drag it down. On-time BNPL payments will only improve your payment history if your lender reports to the credit bureaus. 

However, late payments are another story. After all, any of the BNPL lenders can sell your unpaid debt to collection agencies. When this takes place, the collection agency will decide whether or not it wants to report your missed payments to the credit bureaus. Late payments and collection accounts can remain on your credit reports for up to seven years. 

Can BNPL Plans Help Build Your Credit? 

Consumers with poor credit or thin credit files may have trouble qualifying for conventional loans and credit cards. As a result, they may look to BNPL loans as a means of growing their credit. 

BNPL loans can help some borrowers build credit, though it depends on their length of credit history and number of credit accounts. According to an Equifax study, BNPL users saw an average FICO score increase of 13 points, while those with thin or young credit files enjoyed an average increase of 21 points. 

How to Use BNPL Plans Responsibly

As you can see, BNPL plans can have a positive, negative, or neutral impact on your credit score, depending on your credit history, payment practices, and BNPL provider’s terms and conditions.

With that in mind, here are some tips for using BNPL plans responsibly:

• Read your BNPL provider’s terms and conditions – Before you finalize your purchase using a BNPL loan, carefully review its terms and conditions, including your BNPL lenders’ credit reporting practices, payment due dates, and late fees.

• Select your BNPL provider strategically – Depending on your goals, some BNPL lenders may be better than others. For example, if you have a thin credit file, choosing a BNPL lender that reports to the credit bureaus may be beneficial. On the other hand, if you have a long length of credit history, you may want to avoid BNPL lenders that report to the credit bureaus to preserve your high score. 
• Consider opening a credit card instead – While BNPL loans are easy to obtain, they’re not necessarily the best way to finance your purchases. A credit card with a 0% APR introductory period can provide you with interest-free financing with a much longer repayment window—typically, 12 to 21 months. Better yet, these credit cards can help you earn rewards and other perks as you shop.
• Be aware of your consumer protections – BNPL loans don’t enjoy the same consumer protections as credit cards. For example, if you end up returning your BNPL purchase or discover it was a scam, you may not be able to obtain a refund from your BNPL provider.

• Only use a BNPL plan if you can confidently pay it off in time – While the majority of BNPL users intend to make all four payments on time, only 49% say they’re “very confident” they can do so. Since late payments can come with costly fees, you should only use BNPL loans when you can reliably make your payments on time.

• Don’t let BNPL loans derail your budget – Like credit cards, BNPL loans can tempt some consumers to spend beyond their means. In fact, the majority of BNPL loans finance discretionary purchases, such as clothing, shoes, and accessories (46%), home decor, furniture, and appliances (34%), technology devices (27%), beauty products (26%), and toys (13%). Rather than using BNPL loans for these types of purchases, try to save up their full purchase price before you buy. 

Get Educated About Credit With Certified Credit

While BNPL plans can provide financial flexibility in the short term, their long-term credit score implications aren’t so cut and dry. Before using one of these plans, you should carefully weigh their pros and cons.

For more credit education, check out the Certified Credit blog. There, we explore a wide variety of credit-related topics, including:

• Most Common Errors on Mortgage Credit Reports & How to Fix Them
• Consumer Credit Score vs. Mortgage Credit Score: What’s the Difference?
• Credit Scores 101: Tri-Merge Credit Reports, Alternative Data, Rescores, & More

 

Are you a mortgage lender? Feel free to share our educational resources with your applicants! And if you want to learn about our leading solutions for mortgage lenders, schedule a credit consultation with our team today.