Rise of point-of-sale loans may cause costly debt problems

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Over the past year, buy now, pay later schemes have risen to become the trendiest method of retail payments in the U.K.

By allowing consumers to purchase items in a series of installments, the schemes have become particularly popular with younger individuals wanting to buy products in the fashion, beauty, and fitness sectors. But this same demographic may be more prone to problem debt.

A Worldpay report released earlier this year found that buy now pay later (BNPL) is the fastest growing online payment method, with data showing that BNPL is growing twice as quickly as bank transfers, and three times as fast as digital wallets.

Most retailers choose to offer BNPL through a variety of dedicated fintech platforms, the most popular being Klarna, which has more than 5,000 merchant partners across the U.K. But while the consumer demand is clearly there — according to statistics supplied to PaymentsSource by Klarna, 7 million people in the U.K. bought products through Klarna’s BNPL services in 2019, twice as many as 2018, at a rate of an order every 1.3 seconds — there are growing concerns that they can contribute to problem debt.

In particular, the U.K. debt charity PayPlan found that 73% of 18-34 year olds they surveyed said that use of BNPL schemes has contributed toward a debt problem.

“BNPL services are increasingly being marketed to consumers as a source of convenience, a way of getting hold of the goods before needing to pay, and spreading the cost over installments rather than paying one lump sum,” said Sue Anderson, head of media at StepChange, another leading Debt Charity. “While there’s nothing intrinsically wrong with that, it’s important consumers recognize that these transactions are still a financial commitment.”

While the installments paid to schemes like Klarna are interest free, Anderson points out that BNPL schemes are actually far more restrictive than they may initially appear to consumers. Installments are paid through a continuous payment authority (CPA), set up on a debit or credit card, but CPAs are difficult to stop and can create problems with debt management.

Anderson explains that they take consumers out of control of when and whom to pay, making it more likely that the lender is paid, but potentially leaving the individual without the funds to prioritize their debts.

“Young people are especially vulnerable to problem debt,” she said. “They tend to have less secure incomes, are more likely to rent, and can often have higher living costs.”

BNPL providers say that the services are completely free if the payments are made on time, and their platforms have inbuilt customer protections which encourage responsible spending behaviors.

“Consumers can pay for items in four equal interest-free installments,” said Amanda Pires, vice president of communications for Australian BNPL giant Afterpay. Its subsidiary Clearpay launched in the U.K. in 2019, and by February 2020, more than 600,000 U.K. customers had used the services.

“Because Clearpay is not a loan, the debt can never be extended and if the consumer pays on time, they are not charged a single fee,” said Pires. “If the consumer does not pay on time for each purchase, they cannot use the service until full repayment is made, ensuring that no one falls into revolving debt. Clearpay’s business model is based on a per transaction fee paid by the retailer."

Afterpay has already had issues with regulators; in the U.S., it reached a settlement this month with the state of California, which argued that Afterpay had been operating without the license required under state lending law. Afterpay agreed to refund $905,000 in fees and pay more than $90,000 in administrative expenses under the settlement announced Monday.

Both Klarna and Afterpay/Clearpay 1ltimately report unsettled accounts to credit reference agencies, meaning that late payments will impact a consumer’s credit score. Unpaid debts are passed to debt collection agencies, although Klarna says it tries to take an individual’s situation into account.

“We have strict eligibility and affordability checks in place which every customer must pass ahead of each and every transaction being approved,” said Luke Griffiths, general manager at Klarna U.K. “We also have a dedicated team who work with customers identified as in financial distress to find a solution that is appropriate for them. If a customer does not pay on time, we reach out to them multiple times over a period of several months to ask for repayments. If the debt remains unpaid after several months, we may in some cases refer it to a debt collection agency. But no interest, additional fees or late payment charges ever apply, and this does not impact the customer's credit score.”

Last November, the U.K.’s Financial Conduct Authority introduced new regulations for online catalog stores such as Very and Jac-amo, which had previously been offering six or twelve month interest-free BNPL schemes. These were identified as resulting in problem debt because if consumers had not repaid the full amount within the defined period, interest of up to 45% could be charged on the original total.

Debt charities say that while schemes like Klarna and Clearpay are not as problematic, steps need to be taken to fully ensure that consumers are aware of the consequences of non-payment.

“In particular, where services are targeted at younger people, there needs to be real consideration as to whether the customer is aware of all the necessary information,” said Anderson. “BNPL providers must give clear, plain-English information for customers, and regulators need to keep a close eye on how well consumers understand the types of services they’re being offered at the online checkout, especially those that have the potential to see them build up debt. Where a product is targeted at younger people, this need is even more pressing.”

UPDATE: This story has been updated to clarify Klarna's position on late payments.

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