Exploding Debt Risk: 6 Hidden Dangers of ‘Buy Now, Pay Later’ Apps & Avoidance Tips

Apps that let you “buy now, pay later” are becoming a favorite method for financing purchases.

Companies such as Affirm, AfterPay, and Klarna provide a service where you can split the cost of everyday items — whether it’s athletic footwear or groceries — into multiple installment payments.

A typical arrangement is the pay-in-four plan. You pay an initial down payment, often about 25%, and then set up automatic payments using a credit or debit card for the remaining three installments, typically spaced two weeks apart.

This might appear to be a better option than credit cards, as these plans do not accrue interest.

It sounds appealing, doesn’t it? That’s exactly the intention.

However, it’s crucial to understand that buy now, pay later services are not just free cash. They are short-term loans, and their business model has raised concerns among regulators and consumer protection groups.

“BNPL does not serve as the financial lifeline it claims to be for consumers struggling to stay afloat,” stated Ed Mierzwinski, senior director of the federal consumer program at U.S. PIRG, a consumer advocacy organization. “It’s merely a lure to encourage more spending.”

Bear in mind these seven risks associated with buy now, pay later services and some tips on how to avoid falling into a debt trap.

Easy Ways to Finance Your Purchases

If you’ve ever used BNPL apps for essential purchases or even indulged in a luxury item, you know how easy it is to become reliant on them. Whether you’re looking to pay off these purchases or avoid using BNPL services altogether, here are some of our preferred methods to quickly earn money to help pay for your expenses.

7 Risks of Buy Now, Pay Later

While it might be tempting to postpone payment for a purchase, be aware of these dangers associated with using BNPL services.

1. Buy Now, Pay Later Doesn’t Help Your Credit — And Might Harm It

Applying for a buy now, pay later plan doesn’t directly impact your credit score, as these companies don’t perform a hard credit check.

However, there are other ways BNPL can affect your credit.

Most BNPL services don’t report your payment history to the three main credit bureaus — TransUnion, Equifax, and Experian. Thus, even timely payments won’t help improve or establish your credit score.

The existing framework for credit reporting isn’t well-suited to the short-term, revolving credit lines provided by BNPL services. Credit bureaus and BNPL companies are still trying to find a way to integrate these systems effectively.

Reporting all data under the existing system might actually damage consumer credit scores, despite on-time payments, because each BNPL agreement is treated as a new line of credit, which can shorten the average credit history length, according to Summer Red, an accredited financial counselor and education manager at the Association for Financial Counseling & Planning Education.

However, missed payments can negatively affect your credit. Defaulting on payments can lead to your debt being passed on to a collection agency and reported to a credit bureau, which would damage your credit score.

2. Risk of Overextending Financially

Since BNPL providers do not regularly report to credit bureaus, traditional lenders may not have a complete picture of your debt. This could lead to approvals for more credit than you can financially manage, according to Red.

For instance, if you’re applying for a car loan or a new credit card, the lender won’t see your existing $1,000 in BNPL obligations due next month. You might end up with a large car payment while still managing your BNPL debts.

Additionally, because these companies only perform soft credit checks, one BNPL provider won’t know how much you’ve borrowed from others. This lack of visibility can result in loan stacking — taking out new loans with other BNPL services while still paying off previous ones.

Consumers who manage four or more BNPL accounts simultaneously are twice as likely to miss a payment, as found in a November 2022 Consumer Reports survey.

“Managing multiple individual bills can make it easy to overlook a payment,” Red explained.

3. Potential for Late Fees

Each BNPL provider has its own policies regarding late payments. Some, like Affirm and PayPal’s Pay in 4, may not charge late fees, while others do. Afterpay, for instance, can charge up to 25% of the original order amount, capped at $68, and Zip charges $7.

The prevalence of late fees is increasing, as noted in a September 2022 report by the Consumer Financial Protection Bureau, which found that 10.5% of BNPL users were charged at least one late fee in 2021, up from 7.8% in 2020.

4. Increased Likelihood of Bank Overdrafts

The majority of BNPL users in 2021 linked a debit card to automatically pay their loans, the CFPB notes. If you’re not careful, overdraft fees, which average around $30, can add up quickly.

All major BNPL companies try multiple times to process payments that fail, sometimes attempting up to eight times for a single installment. This could result in numerous overdraft fees from your bank if there are insufficient funds in your account when the BNPL provider attempts to collect.

5. Encouragement to Overspend

The nature of BNPL services inherently encourages more frequent and higher spending, often making it dangerously simple to exceed your budget.

“It’s so easy to think, ‘It’s just another small payment,'” noted Kate Mielitz, an accredited financial counselor and former special programs manager at AFCPE. “However, these small amounts quickly accumulate into significant sums.”

According to a March 2022 report by the Financial Health Network, nearly one-third of BNPL users admitted to spending more than they would have without the option. Additionally, 45% of users in a Consumer Reports survey said they wouldn’t have been able to afford their purchases without BNPL.

“BNPL simplifies impulse buying, which can quickly lead to spending beyond your means,” Red remarked.

6. Direct Marketing to Consumers by BNPL Companies

BNPL providers have long been integrating their payment options at online checkout points. Now, they’re also reaching out to consumers through apps and direct marketing.

“In the app-driven model, BNPL lenders primarily act as marketing platforms, pushing customers to retailers through referral clicks,” according to the CFPB’s September 2022 report.

These companies also gather your data, which they use to tailor product features and marketing strategies directly to your buying habits.

Even when you’re trying to stick to a budget, these tactics make it challenging to save money, according to Mierzwinski’s response to the CFPB report.

4 Tips to Avoid Falling into a Buy Now, Pay Later Debt Trap

While BNPL services can help distribute the cost of significant purchases over time, they also make it easy to buy on impulse.

Here are some strategies to help you manage your BNPL commitments:

1. Limit yourself to one BNPL loan at a time. Managing multiple loans from different lenders increases the risk of missed payments, late fees, and potential bank overdrafts.
2. Keep track of your payment dates. BNPL providers may not always notify you before withdrawing funds. Recording due dates or setting reminders can help ensure your account has enough funds to cover upcoming payments.
3. Request to change your payment due date if needed. Some providers, like Klarna and Afterpay, allow you to adjust your payment schedule, giving you extra time to secure the necessary funds before you fall behind.
4. Evaluate your purchase decisions. Determine if what you’re considering is a necessity or a luxury. If you can’t afford to buy the item outright, postponing payment might not make it more affordable in the long run.