The benefits and risks when using buy now, pay later for holiday shopping: Credit experts

Shoppers fill a Target Store on a Black Friday in Chicago.

John Gress | Corbis Historical | Getty Images

“Buy now, pay later” has become a popular payment tool among young consumers, replacing standard bank credit cards. And this year, the largest retailers are adapting to the trendy payment option for the holiday shopping season. But it comes with a warning: defaults on “BNPL” payments have been rising and experts worry BNPL can be a recipe for overspending.   

More than half of all consumers plan to use BNPL in the next year, and that’s good news for merchants. Shoppers tend to spend more per purchase when they use BNPL, according to McKinsey.  

The spending option is being offered for purchases large and small.

In September, Amazon struck a deal with Affirm that would allow consumers to split purchases of $50 or more into smaller monthly payments, a trend that Dan Dolev, Mizuho analyst, told CNBC’s “TechCheck” is growing. “The big trends we are looking at is the move toward lower ticket items,” Dolev said. “And we are seeing that in the Amazon deal with Affirm.”  

Everyday spending items, like a pair of shoes, is a BNPL space retailers want to accommodate, according to Dolev, because of the frequency and low risk of the purchases. “You aren’t going to go bankrupt on a pair of shoes.” 

Fintechs Square and Paypal bought into the BNPL space recently too.

Macy’s, Amazon and Walmart are among the biggest retailers that have begun offering “buy now, pay later” payment options. In October, Target announced it would adapt to BNPL ahead of the holiday shopping season to make shopping “more flexible and personalized to guests’ needs, right in time for the holiday season,” the company said in a statement. 

Target said its partnership with BNPL firms Sezzle and Affirm will let consumers pay at a pace that best suits them. “It’s a handy option during the busy holiday season and all year long,” the company said.  

Sezzle will break each small purchase, like festive party supplies or holiday PJs, into four interest-free payments over six weeks. The retailer also suggests consumers pay off big ticket items like electronics or new furniture sets with Affirm because of its longer payment period options. 

Holiday retail sales have inclined steadily over the last decade. In 2000, holiday retail spending totaled to $400 billion. Comparably, and despite being in the peak of a global pandemic, 2020 holiday sales reached near-$800 billion, according to the National Retail Federation, which is predicting the sales will set a new record again this year.

In 2021, consumer spending is up, the economy is reopening, and consumers are ready to shop for the holidays.  

1 in 3 Americans expect to take on debt this holiday shopping season, according to an October Credit Karma survey. But no matter how people plan to purchase their holiday items, consumers should be mindful of their spending, and any interest or late fees that may be part of credit card or BNPL models. 

The booming financial tool offers consumers installment options on instant purchases.

Whether the purchase is through a BNPL service or a credit card, “consumers should fully understand the transaction,” said a spokesperson for Affirm. 

“People tend to lose their minds financially speaking, right around Black Friday,” said John Ulzheimer, a credit expert. “So, when you combine a higher delinquency rate with more debt, which is what happens at the end of the year, because of holiday shopping activities, you are combining two things that are pretty dangerous.” 

BNPL draws consumers in with its zero-interest financing, but to guarantee no interest and no fees, consumers must meet certain terms, such as making payments on time and in full. 

Klarna, a fintech company based out of Sweden, makes money by charging retailers to offer BNPL to clients. But if a scheduled payment is past-due, a late fee of up to $7 — capped at a maximum of 25% of the past-due amount — is issued to the consumer.  

Affirm has no late fees, but charges interest to consumers, though it only approves customers for the amount they’re looking to purchase on their terms, which they can choose to pay off over three, six, or 12 months, and they are only charged interest on the principle amount (no compounding of interest over time as is common with credit cards when not paid off in full.) Affirm does note that making late payments can affect a consumer’s ability to get future loans.  

In a Credit Karma survey released in September, 44% of respondents said they had used BNPL services, and 34% had fallen behind on one or more of those payments. Further, more than half of the young consumers included in the survey said they have missed at least one BNPL payment: “25% of millennials have missed one payment, while 30% of Gen Z respondents have missed two,” according to the survey. 

Klarna says less than 1% of its users never pay off what they owe. Similarly, Affirm’s delinquencies of 30+ days were about 1% for the year, according to the Affirm spokesperson. A Klarna spokesperson said that if shoppers miss a payment, the company restricts the use of its services so they can’t accumulate debt.

Regulation of BNPL is increasing in countries including the U.K. and that has led firms like Klarna to become more strict with lending requirements.

Historically, young consumers begin building credit in their early twenties by paying off credit cards and bills in their name. Credit cards report to credit agencies and paying those down in time translates to good credit for the consumer. That credit becomes important for consumers when applying for loans or mortgages. But not all BNPL transactions are reported to credit agencies, a factor which Ulzheimer said can seriously dent the value of the financial approach. Affirm, for example, does not report shorter-term, interest-free loans. Its interest rates range from 0% to 30%.

Ted Rossman, senior industry analyst at Bankrate.com says if the consumer is responsible and if BNPL works in their budget it could be a useful tool, but in the end just like credit cards it can also be a slippery slope. “If you overspend, pay late and rely too much on it, [buy now pay later] could be bad.” 

He says consumers should think of it as “more of a steppingstone.”

“This could be used kind of selectively, but I wouldn’t put all my eggs in this basket long term because then you’re missing out on other benefits.”