In recent years, 'Buy Now, Pay Later' (BNPL) services have surged in popularity, offering consumers a convenient way to split their purchases into manageable installments. However, this convenience comes with a significant caveat: the impact of BNPL loans on credit scores remains largely opaque. This article delves into why BNPL is still a credit-score blind spot and what it means for consumers and lenders alike.
The Rise of BNPL Services
BNPL services like Affirm, Klarna, and Afterpay have revolutionized the way consumers shop, allowing them to pay for items over time without the immediate financial burden. According to a 2021 CB Insights report, the BNPL industry is expected to grow 10 to 15 times its current size by 2025. This growth is driven by the allure of interest-free installments and the ease of use at checkout, both online and in-store.
Credit Reporting and BNPL
One of the critical issues with BNPL services is their inconsistent reporting to credit bureaus. As noted by Rod Griffin, senior director of consumer education and advocacy at Experian, "A missed payment on a 'buy now, pay later' loan can be documented on your credit report for up to seven years and will negatively influence your credit score". However, not all BNPL providers report to credit bureaus, and those that do, like Affirm, may only report certain types of loans.
For instance, Affirm reports loans to Experian but excludes those with 0% APR and four bi-weekly payments or three-month payment terms with 0% APR. This selective reporting means that a significant portion of BNPL activity remains invisible to credit scoring models, creating a blind spot in assessing a consumer's creditworthiness.
Impact on Credit Scores
The five factors that make up a FICO score include payment history, amounts owed, length of credit history, new credit, and credit mix. BNPL loans can affect these factors in various ways. For example, the short-term nature of most BNPL plans can lower the average age of a consumer's credit history, potentially impacting their score negatively .
Moreover, missed payments on BNPL loans can lead to late fees and collections, which are detrimental to credit scores. As Mary Rosado, a frequent BNPL user, points out, "They don't ask for your Social Security number, so I can't see how they can pull your credit report". This lack of rigorous credit checks can lead to over-borrowing and financial strain, especially for those with limited credit histories.
The Role of Major Players
Apple's recent decision to report BNPL data to Experian marks a significant shift towards greater transparency. This move could benefit consumers by providing a more comprehensive view of their credit risk to lenders. Ethan Dornhelm, FICO's vice president of scores and predictive analytics, mentioned that they are actively analyzing BNPL data to determine its potential impact on credit scores .
However, the short-term nature of BNPL loans and the demographic skew towards younger, lower-income users pose challenges. A Bank of America Institute study found that these users might struggle to repay their loans on time, negatively impacting their credit scores .
Future Implications
As BNPL services continue to integrate with credit reporting systems, the landscape of consumer credit scoring is set to evolve. The inclusion of BNPL data could help build credit profiles for those with limited histories, provided they manage their payments responsibly. However, the potential risks of over-borrowing and missed payments cannot be overlooked.
While BNPL services offer a convenient financing option, their impact on credit scores remains a complex issue. Greater transparency and consistent reporting are essential to ensure that both consumers and lenders have a clear understanding of financial health. As the industry grows, it is crucial for consumers to stay informed and manage their BNPL usage wisely.
