Buy now, pay later loans expand financial inclusion: Fed report

Bloomberg

Consumer advocates are pushing for regulators to rein in the upstart buy now/pay later loan industry, but so far it's difficult to pinpoint the extent of harm from fintech lenders, reports the Federal Reserve Bank of New York. 

While financially vulnerable consumers are more prone to use BNPL loans from fintechs like Affirm, Afterpay and Klarna, the products' use spans a wide demographic and socioeconomic group. For some consumers these loans can help users smooth out debt payments at a lower cost than traditional loans, according to a a Tuesday blog post based on New York Fed research.

"More data and analysis are needed to investigate the extent to which BNPL borrowing may contribute to greater financial stress and affect overall financial well-being, especially over the course of the business cycle," the researchers wrote, drawing on survey data collected from a panel of 1,000 U.S. consumers in June 2023.

The findings come as the financial services industry awaits guidance from the Consumer Financial Protection Bureau around the rapidly evolving, mostly unregulated BNPL industry that began its boom in the U.S. during the pandemic. The CFPB opened a market inquiry into the industry nearly two years ago, and a year ago the agency produced a report highlighting its concerns. BNPL giant Affirm said in a recent regulatory filing that it anticipates some CFPB action soon.

At the least, observers suspect the CFPB may begin requiring BNPL lenders to report customers' activity to credit bureaus to protect consumers from overextending themselves and lenders from lack of visibility into individual borrowers' total loan exposure.

"The fact that many BNPL lenders do not currently furnish data to the major credit reporting agencies could contribute to such risks, as both BNPL lenders and other institutions will be unaware of a borrower's current liabilities when deciding to originate new loans," the New York Fed researchers wrote.

Apple introduced its Apple Pay Later online installment loans earlier this year, and differentiated its service by promising to report all borrowing activity to the major credit reporting bureaus. It's a trend one analyst believes will become necessary soon as real-time payments reshape many financial services products. Affirm earlier this year announced a partnership with FICO.

"When Apple got into the BNPL market, it set a new standard for credit-reporting which will probably cause other BNPL fintechs to follow suit," said Daniela Hawkins, a managing principal at Capco.

One challenge for credit reporting agencies is the fact that many BNPL "Pay in 4"-style installment loans are repaid in equal amounts over six weeks, much quicker than the lifecycle of a typical consumer or credit card loan, Hawkins noted.

"Credit reporting has always been slow, but with fintechs developing more and more products like BNPL loans based on real-time data and real-time payments, the credit bureaus will need to make the IT and infrastructure changes necessary to keep up," she said.

The New York Fed researchers said the survey data indicate BNPL use is higher among females, renters, individuals without a college degree, and those with decreasing income.

Sixty-four percent of respondents have been offered a BNPL loan, and 19% have used it as a payment method within the last year, according to the New York Fed's data. The vast majority of BNPL users have a bank account and 77% repay the loans in installments via a debit card. The remainder use a combination of funding methods.

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Sixty percent of respondents with credit scores above 760 have received a BNPL offer, compared to about 80% of those with credit scores below 620, according to the survey data. Lower-income consumers are less likely to have been offered a BNPL loan, but lower-income consumers who have been offered a BNPL loan are more likely to use one, the researchers wrote.

BNPL users are less likely to have saved money for emergencies, the data suggest. Sixty-eight percent of survey respondents said they would rely on savings in case of emergency, but only 42% of BNPL users have savings available to deal with a financial setback.

"The fact that a disproportionate share of BNPL users are already financially fragile raises questions about the resilience of BNPL lending and its performance following an adverse economic shock," the researchers concluded.