Buy Now, Pay Later

Do you remember layaways? I sure do. When I was a child, during the holiday season, my mom would take my brother and me down to the local Sears store on Friday evenings and make her layaway payment. My brother and I really had no idea that she was pre-paying—sort of on an installment plan—the bounty we would find under our tree on Christmas morning!

But that’s how layaways worked. You made an initial down payment on your items, then paid them off in installments, with (hopefully) full payment made before Santa came down the chimney!

One of the precursors to layaways was the Singer Sewing Machines’ “dollar down, dollar a week,” concept, created back in the 19^th century. But layaways really hit their stride during the Great Depression of the 1930s—a time when jobs were scarce, and many families were having tough times financially. From the 1930s until the 1970s, layaway programs were plentiful. Almost all department stores had them, but with the availability of mass-market credit cards in the 1980s, most layaway plans were scrapped.

However, there are still a few to be had. For more information about layaways, please see: RetailMeNot, The Krazy Coupon Lady, More with Less Today, and swagbucks.

There are most likely more stores out there with layaway plans, especially some of your local retailers, so if you are interested in such a program, just ask!

Credit Cards Were the Near-Demise of the Layaway Industry
As I mentioned, layaway programs mostly petered out, replaced by credit cards in the 1980s. And boy, have we used them! According to ValuePenguin, Americans have some 506 million credit card accounts, with total balances of $807 billion. For an average family, that amounts to $6,270 in credit card debt.

Here’s how it breaks down by age:

Source: Federal Reserve Survey of Consumer Finances

As you can see, credit cards are used by every generation. The upside is they make it easy to purchase something that you may not have the cash for, but that’s also the downside. They can make those purchases too easy. And if you keep balances on your cards, the interest really adds up. According to the Federal Reserve, the average rate on cards today is a whopping 15.9%!

Fortunately, as pictured in the following graph, credit card delinquencies have fallen greatly since the pandemic began, which is helping the country’s overall debt picture.

Credit cards have long been used for everyday purchases, as well as for large items that you may find on sale—such as appliances and furniture. In fact, their use is so ubiquitous that fundera reports that:

• 80% of us prefer card payments over cash
• 76% of consumers have at least one credit card
• Only 10% of consumers make all of their purchases with cash

And while young folks do use credit cards, they generally don’t like them. And there’s a good reason for that. Credit card companies decided to market to college students decades ago, giving them easy credit, which caused a lot of problems, as you might imagine. The CARD (Credit Card Accountability, Responsibility, and Disclosure) Act of 2009 made the rules more stringent, and that helped to keep students from accumulating as much debt as they could have under the old rules. But a lot of damage was done.

Additionally, the younger generation has fewer assets, less wealth, and generally, lower earnings than some of us older folks. And their $1.73 trillion in student debt doesn’t help brighten their financial pictures.

So, it should come as no surprise that delinquencies for younger folks are the highest of all age categories. According to CNBC, delinquencies by age are:

• 18 to 29: 9.36%
• 30 to 39: 6.05%
• 40 to 49: 5.64%
• 50 to 59: 4.79%
• 60 to 69: 4.34%
• 70+: 4.26%

So, credit cards have begun falling out of favor with our youth. But those ever-creative marketers have found a new way to run up debt, and it is becoming increasingly attractive to the younger generation, especially for making small impulse purchases like clothes and fast food. And because the concept is delivered through new apps, it’s particularly attractive to the younger generation.

The Concept: Buy Now, Pay Later
What, you ask, is that not what we’ve been doing with credit cards for more than 40 years? The answer is, sure, but this strategy comes with some twists, and it’s so popular that not only are the old stalwart retailers like Walmart joining in, but so are the credit card companies!

It all started around 2014, with Affirm, who began initially working with popular direct-to-consumer brands like Casper and Burrow. But “Buy Now, Pay Later” (BNPL) really took off in 2017 when Walmart jumped on the bandwagon.

While Walmart, a purveyor of layaways for years and the world’s largest retailer, no longer offers a layaway program, it has eagerly replaced it with the BNPL strategy. You may remember that Walmart was one of the first retailers to adopt radio frequency identification (RFID) technology for tracking its inventory—back in 2003. And although Walmart is a $520 billion in worldwide sales behemoth, the company continues to stay on target with leading technology and is rapidly adopting this new better-than-updated version of layaway.

You see, Walmart got a little miffed at Synchrony Financial—its store card issuer—and the biggest provider of store branded credit cards in the country. The retailer thought Synchrony’s credit card approvals weren’t being issued to enough shoppers, and it was dampening Walmart’s sales. So, the time was right when BNPL company Affirm approached Walmart, saying, in essence, “We can approve people who can’t get approved for merchant’s store cards and for credit cards in general.”

The result: Walmart dropped Synchrony, went to Capital One for its store cards, and began working with Affirm on BNPL in 2019.

Once Walmart dove in, the floodgates opened.

Both Macy’s and Bed, Bath and Beyond offer BNPL. So do Adidas, Best Buy, Neiman Marcus, Nike, Poshmark, Pottery Barn, Purple, Reverb, Saks Fifth Avenue, Target, The RealReal, ThredUP, and thousands of other retailers. And the leisure business has also joined, with both Delta Vacations and Expedia hotels and vacation packages in the BNPL business.

You can think of BNPL as a combination of layaway and an installment loan. But unlike layaway, where you can’t take your merchandise home until it’s fully paid for, with BNPL, you get your items right away—instant gratification!

It’s a point-of-sale concept, wherein the customer—at the register—gets several options for paying: cash, credit card, store card, or BNPL. The BPNL service allows you to buy it now and pay it back over a certain number of installments. Three, four, and six seem to be the most popular options right now.

The concept is growing like mad for a lot of reasons as detailed below:

Avoiding Credit Card Interest. Yes, you read that correctly. At the point of sale, you can choose the BNPL option that best suits your circumstances in terms of number of payments you wish to make. If you make those payments as agreed, in most cases, you won’t be charged interest (except for Shopper Interest Loans; more on that later), or the interest charges may kick in later in your installment plan. But beware—if you are late, you are going to be hit with a hefty fee, sometimes as much as 25% of the cost of the item you purchased under the plan. This option gives buyers some of the features of an installment loan, but with shorter terms, and without the interest.

Making Purchases That Might Not Fit Into Your Budget. Hmm. Maybe we should think about this one. If it doesn’t fit into your budget, why are you buying it? OK, I realize we all buy things we shouldn’t, and I also know that emergencies happen—you have to buy parts for an air conditioner or car that breaks down, unexpected medical bills, a new roof, etc. Essentially, BNPL can be used for many purchases.

To Borrow Money Without a Credit Check. The average credit score in America is 711. But not everyone has such a good score. In fact, for folks in their 20’s, the average credit score is 662, the lowest of all age categories. And that score may prevent you from getting a credit card or, if you do, lead to a much higher than normal interest rate.

I Don’t Like to Use Credit Cards. It’s hard to believe, but 20% of Americans don’t own a credit card, according to the Federal Reserve. And of those who do have credit cards, some are never, or very infrequently, used. In fact, Generation Z (born 1997-2012) uses them the least, whereas Gen X (born 1965-1980), uses them the most.

As the above chart shows, there are a few other reasons why people are latching on to the BNPL concept. The big advantage of these plans is the ability to pay over time. And the icing on the cake for the young folks: most BNPL plans are available via apps on their phones.

Consumers are finding lots of products to finance through BPNL, according to the BPNL Market Intelligence Report, including:

• Electronics: 48%
• Clothing and fashion items: 41%
• Furniture or appliances: 39%
• Household essentials: 33%
• Groceries: 24%
• Books, movies, music, or games: 23%
• Other: 9%

How BNPL Works
Now, you may ask, if there is no interest charged, how can that possibly be profitable? Also, if the providers are essentially lending to folks who may have sketchy credit, isn’t that pretty risky?

Let’s explore both of those questions.

In most BNPL transactions, customers go to the register, and pay with cash, credit or store card, but now they have this new option—third-party BNPL providers. The BNPL provider does a quick credit check—a soft pull, as used in background checks and by credit card issuers who send you those promo letters. It generally doesn’t affect your credit score. Once you’ve completed your purchase, the provider pays the merchant in full. And you pay the provider back via the number of installments you have selected.

There are some variations in this model. Some providers will bill you for repayment in full after a set period of time, and some credit card issuers may offer you BNPL plans with a set repayment schedule and a lower interest rate than the credit card itself.

Here’s how it works for the merchant: 1) If the customer chooses the installment option, the merchant is charged a transaction fee, usually between 2% and 8%. The merchants may also have to pay a small per-transaction fee. That’s called a Merchant transaction fee loan; and 2) Shopper interest loans are point of sale loans, where the consumer is offered an on-the-spot loan by a third party. You—the customer—are charged interest; you pay over time, like with a regular loan, but the merchant isn’t charged anything by the provider.

Those merchant transaction fee loans look pretty steep, compared to the average credit card merchant fees, which range between 1.5% and 2.9%. However, the providers and merchants report that the increase in business—especially for folks that can’t pay in cash or with credit cards—is worth it, increasing the average order value 40% to 85%. And with the holidays right around the corner, merchants are very anxious to boost their sales. In fact, The Motley Fool says that the average American will spend $1,463 this year on holiday shopping—a 5% increase from 2020. And last year, some 57% of holiday purchases were put on credit cards.

There is a third type of BNPL: one offered by credit card companies. This versions differs slightly from third-party point-of-sale financing. For one thing, the plans aren’t offered when you’re making the purchase. But they will appear as an option on qualifying purchases on your credit card statement. And these plans do carry a monthly payment fee, added into your installment plan. But for some consumers, this may make sense; you don’t have to make a decision when you are hurrying to make a purchase. Also, you may reap some extra rewards if you have that type of credit card.

So far, it’s the big banks that have entered the fray. American Express has launched a “Pay it, Plan it” feature and Chase introduced a “My Chase Plan.” And Citi has “Flex Pay,” which allows you to take a Citi credit card purchase and pay it off over time, with fixed payments and a fixed APR. Also, its Citi Flex Loan option allows you to take out a loan against your card’s credit line.

Capital One is getting ready to test its own BNPL option. And both Wells Fargo and Bank of America are considering adding installment plans on their credit cards.

The big players like Mastercard (MA) and Visa (V) are also competing. Mastercard just expanded its list of retailers with its Mastercard Installments, to include companies like American Airlines. And Visa is working on BNPL capabilities that it’s making available to banks that issue Visa cards.

And, of course, some merchants such as Amazon, with its Amazon Pay Later program, have their own in-house BNPL plans.

The Disadvantages of BNPL
I’ve talked about why consumers are flocking to BNPL programs. So, now, let’s talk about the downside.

Fraud. Hacking, of course, and stealing login info from e-commerce sites is a big threat. And if you are using the installment plan, you may not be paying as close attention to your statements as you would with a regular credit card. That could lead to some hefty non-approved merchandise being purchased under your credentials. Fortunately, the providers generally take the liability, keeping the merchants in the clear. But if you don’t report unauthorized usage in a timely manner, you may get stuck with the bill!

Economic Downturns, which can cause job losses and reduce payback ability.

Long-Term Questions of Financial Sustainability. Face it, this is pretty new stuff, so as good as the economists are, they can’t really predict the long-term financial strength of some of the BNPL providers. What happens if the provider goes out of business? That creates a situation ripe for someone else to buy its receivables, and drastically change your payback terms. Also, competition from the big credit card companies will do two things: 1) run some BNPL companies out of business; or 2) create some M&A activity in the space (which would be good for investors!). Already, there is a bit of M&A action, as payments company Square announced plans to pay $29 billion for Afterpay, an Australian fintech firm that provides BNPL services.

Rising Fees. This goes along with the financial sustainability question. If the going gets tough, you’re likely to see interest appear on the purchases and/or higher fees.

An Easy Way to Let Your Debt Get Out of Hand. In my real estate business, folks aren’t as concerned about the prices of houses and interest rates available as they are knowing the amount of their monthly payments. The installment loan business has also thrived under this philosophy. So, I can see how it might be easy to stack those BNPL purchases, one on top of the other. Then, before you know it, you’ve created a pile of debt that you may not be able to manage. In fact, in a recent study, Credit Karma found that 38% of people who used BNPL services had missed a payment, and of that group, 72% said their credit score had decreased.

BNPL Plans Do Not Help You Build Your Credit. They can hurt your credit (see above), but do nothing to help you build it.

Beware of Fees. Some plans include fixed fees that are added to your monthly payments. They may not look like much, but over time, those fees can cost you a lot more than you think.

Future Regulations. Right now, there’s not much regulation, due to the small loans, zero interest, and fast paybacks inherent in BNPL. But regulators in Great Britain are now considering regulating the industry, and you know the U.S. won’t be far behind. If the regulations are onerous, you can expect a shakeup in the industry.

A Booming Business
A Bank of America survey of 1,124 BNPL users found that 47% of respondents had used BNPL eight or more times in the last 12 months, while 54% of respondents plan to use it eight or more times in the next 12 months. The transaction size for 56% of the survey respondents was less than $200.

One frightening statistic: some 24% of respondents said they began using BNPL because they had maxed out their credit cards. Oops!

Bank of America estimates that the BNPL app industry will grow by 10 to 15 times by 2025, processing some $650 billion to $1 trillion in transactions. Part of that growth is, of course, with new providers coming into the space, but BofA also expects the product categories to grow beyond apparel, beauty, and electronics, and for the international market to greatly expand.

As I mentioned, the young folks love it! The average user of BNPL services is in their 30s. It’s interesting to note that the report showed that the average amount spent was around $200 to $500 (as compared to $5,000 to $6,000 spent on a credit card). But that may have more to do with the small maximum limit per customer, such as the $600 max for PayPal and $1,500 max for Afterpay, rather than any restraint on spending.

The Major BNPL Players
The company with the largest number of users in the U.S. is Klarna, followed by Afterpay and Affirm. Sezzle has the largest number of merchants, followed by Afterpay and Affirm. Let’s take a look at a few of these companies.

Klarna is a Swedish company, founded in 2005. It has two million monthly active app users. As of last November, the company reported it had 11 million active customers, a 106% year-over-year increase. Its users are in 17 countries, and it has more than 200,000 merchants, including H&M, Etsy, GameStop and Macy’s, on board. The company offers a few interest-free “Pay in 4” options to buy now and pay later, and some purchases are on the “Pay in 30” plan, which comes with an APR. Be aware, if you miss a payment, you may be hit with a deferred interest charge at a 19.99% rate!

Australian company Afterpay (APT.AX) was founded in 2015. As of June 2021, the company had 100,000 of the world’s favorite retailers and more than 16.2 million customers. Some of its merchants include eBay, Urban Outfitters, and Kylie Cosmetics.

It offers an installment product: four equal installments every two weeks. In November, Afterpay announced that its monthly sales—just in the U.S.—surpassed $1 billion. As I said earlier, Afterpay is being acquired by Square.

Affirm (AFRM) was founded in 2014 by PayPal co-founder Max Levchin. The company went public in January of this year. It has more than 5.6 million consumers. Its merchants number more than 6,000 in the U.S. and include Walmart, Pottery Barn, Peloton, Oscar de la Renta, Audi, and Expedia. At checkout, the company offers 0% interest or a 12-month installment at an interest rate of 10%-30%. Ouch!

Sezzle (SEZNL) was founded in 2016 and operates in North America. The company has some 24,800 merchants and, in November, crossed 2 million active customers. It also offers one pay-in-four installment product, over a six-week period.

PayPal Credit used to be called Bill Me Later. It offers installment plans on purchases of $99 or more, with no interest if paid in full within six months. This is actually a line of credit issued via Synchrony Bank. Know that your credit report will be run, and your credit score could be affected. And if you don’t pay your balance in full, you won’t enjoy the 23.99% deferred interest rate on the entire amount of your purchases.

Zip offers a pay-in-four installment plan, spread out over six weeks. Zip doesn’t charge any interest or fees if you make your payments in full and on time.

Zilch, a London-based BNPL, is a little different. The company offers customers the ability to pay for purchases by splitting their transaction into four interest-free payments over a six-week period with any retailer that accepts Mastercard.

Now you have it—another way to pay for your holiday purchases. It may or may not work for you, but if you choose to use buy now, pay later options, make sure you read the fine print!

Happy Holidays to you and your family.