“Buy now, pay later” loans could soon play a bigger role in credit scores

“Buy now, pay later” online loans are attracting attention from regulators and the credit industry as consumers increasingly turn to them, and they could soon play a bigger role in credit scores .

Loans from fintech companies including Affirm, Afterpay and Klarna offer an updated version of layaway plans, once a common option for shoppers to pay for big-ticket items in installments. The new deals, widely available online or through mobile apps, are typically used for small purchases, such as shoes, clothing and concert tickets, and allow the shopper to get the items immediately.

Buyers typically register at checkout and can be approved quickly, with a quick credit check. They then pay for the purchase in four or fewer installments over several weeks. Borrowers generally don’t pay interest like they would with traditional credit cards, but some lenders may charge fees for late payments.

Deferred repayment loans are attractive because they give people the option to pay over time, but without any interest. According to a recent report by Fitch Ratings, they’re most popular with millennials and Gen Z consumers — people around the age of 40 or younger. They also attract people who may have lower credit scores or limited credit histories, making it harder to qualify for traditional loans and credit cards at affordable rates.

Right now, many of these small, short-term loans aren’t consistently reported to the credit bureaus, so borrowers aren’t building up a formal credit history using them.

But as lending becomes more mainstream, that’s changing. The major credit bureaus are working to include more pay later loans in consumer credit reports. Equifax, for example, said last month that it had created formal standards for reporting loans and plans to start adding them to its consumer credit records in late February.

Who does the follow-up

Experian said it already includes pay-later credit data, including short-term loans, in its credit reports and is working to add more. TransUnion is “on track” to include this data, said Liz Pagel, senior vice president and head of consumer lending at the credit reporting firm.

All of this means that buyers’ deferral history can increasingly influence their credit scores — those three-digit numbers that summarize your credit report and determine whether you qualify for a traditional loan or a credit card. credit and what interest rate you will get. To pay.

Equifax says that’s a good thing because on-time payment reports from lenders can help buyers build a credit history. “We’ve focused on being able to report, so that consumers benefit,” said Mark Luber, product manager for US information solutions at Equifax.

According to Equifax, a study of anonymous subsequent payment data found that a majority of buyers were helped by having an account with on-time payments on their credit file, with an average increase in FICO credit score of 13 stitches. People with poor credit histories, who may not qualify for traditional loans, experienced an average FICO score increase of 21 points when deferred payments were added to their records. (The average base FICO score is 716; generally, scores of 670 or higher are considered good).

It could help consumers who repay their loans on time by helping them build a positive credit profile, said Lauren Saunders, associate director of the National Consumer Law Center. But, as with traditional loans and credit cards, paying late could tarnish their reports.

“The jury is still out on that,” Saunders said.

As it stands, missing an installment payment or not paying at all can already hurt a buyer’s credit. If a consumer doesn’t pay, some companies may cut off access to new loans or send the account to a collection agency, and it could show up on credit reports.

Francis Creighton, president and CEO of the Consumer Data Industry Association, a trade group for the credit reporting industry, said it was important that pay-later loans be reflected in credit reports. so that lenders can get a true picture of a loan applicant’s overall credit profile. . But because the loans are structured differently than traditional loans, he said, the credit bureaus had to work through “technical” issues first to add them. “We have to make sure we get it right,” he said.

At the same time, the Federal Consumer Financial Protection Bureau has tightened controls on companies paying later. In mid-December, the bureau opened an investigation, asking five companies to provide details of their business practices by March 1. The bureau, citing the “explosive growth” in earnings later during the pandemic and during the holiday shopping season, said it wanted to better understand the potential benefits and risks to consumers. The agency also expressed concern about how companies use the data they collect from customers.

The potential disadvantages

The agency noted that if consumers use the loans for multiple purchases, they may struggle to keep up with payments. “Because of the ease of obtaining these loans,” the agency said, “consumers may end up spending more than expected.”

Installment payments are usually automatically deducted from debit cards, so shoppers may be charged overdraft fees if they don’t have enough money in their accounts to cover the payments. If buyers pay installments with a credit card, they may accrue additional debt and interest charges on their card if they do not pay their installment balance in full.

Also, according to the consumer protection agency, deferred repayment loans come with fewer protections than traditional credit cards, such as the right to dispute a charge if a product is faulty.

Members of Congress, as well as consumer groups, have called for greater oversight of businesses, noting that because installment loans don’t use traditional credit checks, it’s unclear whether borrowers have the ability to repay multiple loans.

BNPL FAQs

Here are some questions and answers about “buy now, pay later” credit:

What should I consider before using deferred repayment loans?

Saunders said consumers should be confident that they will be able to make the required installments within the required time frame. With traditional credit cards, customers have a consistent payment schedule and a statement summarizing all charges, but someone with multiple loans to pay later may have to juggle multiple due dates.

“They definitely want to make sure they keep track of their payments,” she said.

FICO spokesman Greg Jawski said that regardless of the type of credit, the advice for building a strong credit score is the same: keep “your debt levels low and pay your debt on time.”

How do I know if a business is reporting installment loans to credit bureaus?

Many companies do not yet report repayments of short-term and deferred loans to the offices. But companies usually disclose these details in their privacy policies or terms and conditions, so this is a good place to look. Companies can also include sample agreements on their websites.

Do credit cards offer free installment plans?

Some credit cards offer 0% interest for specific periods, but you usually need stellar credit to get it.

Some traditional cards, including American Express, now offer flexible payment plans, in response to startups paying later. There may be a fee to set up the payment plan, but you won’t have to pass a new credit check if you already have the card.

Dwight E. Schulz