Buy Now, Pay Later (BNPL) programs are nothing new, but the resurgence of installment-based programs in the early 2020s has generated interest not seen since the Great Depression. With retailers and third-party vendors alike getting into the BNPL business, it’s worth thinking through the ways these programs can benefit consumers, as well as the risks for consumers’ financial well-being.
First, a little history.
Back in the Great Depression era of the 1930s through the 1980s, “Layaway” or “Lay-by” programs were rolled out to help consumers purchase items that they couldn’t afford upfront. By splitting the cost of an item into several installments, plus interest, a retailer would commit to hold onto the item (“lay” the item “away” in storage) until full payment was received, at which time the consumer would receive their item. The rise of credit cards in the late 20th century made many layaway programs obsolete, as consumers could purchase the item upfront on credit, take the item home with them that day, and then contend with paying back the credit card debt at a later time.
Credit cards are essentially “buy now, pay later” programs. In exchange for purchasing the item upfront, consumers are expected to pay off their debt within a month, or face very high interest rates (often in the double digits) on any remaining balance carried over to the next month.
Modern BNPL programs seek to couple the installment-based behavioral design of layaway programs with the immediate item ownership that credit cards have provided. For consumers who could benefit from these items more immediately (e.g. a fridge), BNPL is a significant boon: payments are spaced out across more time than a traditional credit card, and those payments may be interest-free, infinitely better than credit card debt growing at 20%+ per month. Additionally, if these programs report payments to credit bureaus, then consistent on-time payments offer a way for people to build credit, which is especially important for those who otherwise would be stuck in a catch-22 that prevents them from building credit via a credit card.
However, retail isn’t allowing BNPL solutions solely out of selfless reasons, nor would startups be so interested in the opportunity if there wasn’t huge market potential. The “secret” to BNPL is that it incentivizes people to commit to purchasing something and purchasing it now, since they are told they can pay for it later. Because of the “pay later” aspect, people are also more likely to commit to purchasing something expensive than they otherwise would not have (or could not have) paid for. Additionally, programs that don’t charge interest on spread-out payments may charge late fees if full payment is not met by a certain date (which, depending on the fee, could be as exorbitant as credit card interest).
In behavioral economics, the pattern that BNPL exploits is known as time inconsistency — far overvaluing the present versus the future. In a C+R Research study conducted in 2020 using Amazon Mechanical Turk, close to 60% of BNPL users regretted making a purchase because it was too expensive, and roughly 50% of users report likely missing a payment within the next 12 months. While a comparison to credit card or cash-only users could provide better context on these numbers, the percentages are quite high. If half of users do end up missing a payment within a year, that could end up hurting their ability to get credit in the future: the double-edged sword of BNPL programs reporting payments to credit bureaus.
Regardless of the pros and cons, Buy Now, Pay Later programs are here, and they’re quickly gaining traction. If you choose to use a program, the general rule to reel in risky credit card purchases also applies: when in doubt, if you can’t pay for the item in cash right now, then you can’t afford it.