We’ve all been there. You’re ordering a pack of socks online, and just when you’re about to check out, Klarna, or another buy now pay later service pops up and offers to split your $16 purchase into four payments of $4. And you won’t have to pay a cent more. While you probably thought the idea of breaking up such a small purchase was silly, it may have caused you to wonder… Will buy now pay later wreck your finances, or can it be used in a beneficial way?
Is Buy Now, Pay Later a Bad Idea?
Buy now pay later has become much more popular over the past few years. So it’s no surprise that 1 in 5 consumers have used it to make a purchase. With BNPL companies popping up all over the place, ones like Affirm, Afterpay, Klarna and Zip, and credit card issuers creating their own versions, it’s important to stay vigilant when evaluating whether or not you should pay these services any mind.
If you’ve listened to the pod, you might know that we at How To Money don’t recommend using buy now pay later. Not because it’s inherently evil, but because most people use it in a harmful way.
According to a study done by the Federal Reserve Bank of New York, households with “fragile finances” (meaning they have lower credit scores or have missed debt payments in the past) are significantly more likely to use buy now pay later. They use these services to cover frequent, small purchases as opposed to the larger purchases financed by more financially “stable” households.
Even worse, when asked about why they like to use BNPL, they are more likely to mention using it to make purchases they do not currently have the money for. That’s not good!
Still, buy now pay later, like a credit card, is just a financial tool. How you use it will determine whether or not it will benefit or hurt your finances. In this post, we’re going to break down the pros and cons of using BNPL. This will help you make an informed decision as to whether or not you want to include them in your personal finance arsenal.
What is Buy Now Pay Later?
Buy now, pay later programs allow buyers to break up a purchase into smaller payments over time. Usually, these installments are split into four payments, paid out bi-weekly over the course of 8 weeks. You can think of it as a micro-loan.
These lending products typically charge no interest or financing fees, making it an appealing option to many consumers. However if you miss a payment, some of these companies charge hefty late fees. Most often, their services are offered at checkout on retail websites, and in many cases you can even use BNPL at physical store locations. These days you can pay for a new sweater, an airline ticket, and even your groceries with BNPL.
The Pros and Cons of Buy Now Pay Later
Is Buy Now, Pay Later a Bad Idea? Here are all the benefits and drawbacks to consider before pulling the trigger on BNPL services.
The Benefits of Buy Now Pay Later:
Although we heavily discourage them, buy now pay later programs aren’t entirely horrible. Here are a few perks that many consumers find appealing…
1. The ability to split up payments
One of the benefits of buy now pay later is that it allows you to split up a larger purchase into smaller payments that can be made over time. While we do not recommend financing something you don’t already have the money for, there can be reasons why you might want to do this to optimize your cash flow if you do have the money for that purchase set aside.
For example, if you already have the money to pay off your purchase in a high yield savings account, you might choose to split up your payments using BNPL to keep more of that cash in your account earning interest. Or, you might choose to split up your payments so that you have more free cash to invest each month.
As long as you already have the money set aside for your purchase, and you don’t touch it until that item is paid off, we don’t see any major problems with splitting up larger payments.
2. Financing at 0%
Many buy now pay later services offer 0% financing. This can be beneficial to folks who need to make a purchase they cannot afford. If you absolutely need to buy something and you cannot pay it off by the time your credit card statement is due, choosing a 0% financing option can prevent you from paying interest on a purchase as long as you pay those installments on time.
That being said, having an emergency fund should be your go-to strategy for dealing with unexpected expenses. Financing should always be a last report, even if it’s a 0% interest loan.
3. No credit check required
If you have poor credit, your past credit mistakes won’t affect your ability to use buy now pay later services. That’s because most of these BNPL services do not perform a hard check on your credit. So it won’t negatively impact your score when you apply. It is one of the few interest free loan options available for those with poor credit. So, if you have trouble getting a credit card, you may choose to use BNPL for that 0% interest rate.
Again, we must add a warning here… If you have poor credit, you should avoid ALL types of loans or financing programs if possible. Sneaky credit programs and using credit cards is likely what caused your credit issues in the first place. BNPL is akin to playing with fire when your credit score is low.
4. Can help you maintain lower credit utilization
Some folks who use buy now pay later like to use it to keep their credit utilization low. Credit utilization makes up a huge portion of your credit score, around 30%. Aiming to keep this number low is important in maintaining good credit health.
The Downsides of Buy Now Pay Later
Buy now pay later has a plethora of negatives that we want you to fully consider before deciding to use it.
1. Missing out on credit card perks
One of the biggest downsides of using buy now pay later is that you miss out on the awesome perks and protections that come with using credit cards.
Like buy now pay later, credit cards are a tool that can help or hurt your finances depending on how you use them. But, if you can follow the golden rules of plastic, we believe credit cards come with far more benefits. You just need to pay off your card balance, in full, each month. Using credit cards comes with some seriously great perks that can enhance your lifestyle in ways that BNPL just can’t.
For example, you can earn incredible cash back or travel rewards, and they are given to you completely tax free. Credit card welcome offers can yield you anywhere from ~$300-1200 in value after you meet a minimum spend. Plus, with every purchase, you’ll earn points or miles which you can redeem for cash back or travel rewards.
Check out some of our best credit cards lists to learn about the top cards we recommend:
- Top Travel Credit Cards Offers
- Best Airline Rewards Credit Cards
- Best Hotel Credit Cards
- HTM Credit Card Search Tool
2. Misconceptions about building credit
There’s a BIG misconception that buy now pay later programs help you build up your credit score. But this is simply not the case. Because these services are never really reported to any of the big credit bureaus. That’s unless you fail to pay, of course!
While in the future, credit bureaus are planning to begin factoring BNPL into credit scores, this has not yet happened. In the meantime, you would be much better off using these tips to rebuild your credit score.
3. Late Fees/Collections
While using buy now pay later at checkout may not hurt your credit score, if you miss a number of payments, your debt could be sent to collections. This will absolutely cause meaningful harm to your score. If you use BNPL, it’s crucial to stay organized and to not miss payments. Otherwise you’ll be subject to nasty late fees and potential credit score drops.
4. BNPL encourages overconsumption
If you have a lot of self control, it’s absolutely possible to use BNPL without slipping into bad spending habits. However, the act of breaking up purchases into smaller amounts certainly makes it easier to buy more stuff. In fact, retailers often pay BNPL companies fees that are much higher than credit card companies typically charge. This is because retailers know you are more likely to spend more money using BNPL than you would with a credit or debit card, so they are more willing to cough up that extra dough.
Sure, breaking up a $50 purchase into four payments of $12.50 may seem more manageable. But when you use these services regularly, it’s easy to say yes to other purchases that might have given you pause before you had the option to split that payment up. Tiny amounts like $12.50 every two weeks seems tiny… But if you buy 10 of these little things it adds up to $125 every two weeks. Your BNPL spending can add up, fast, and you end up getting stuck paying for items you bought weeks ago that you may not even want anymore.
5. Easy to get disorganized
If you use BNPL for multiple small purchases, it’s super easy to lose track and forget where all those purchases are from. As previously discussed, missing BNPL payments can result in late fees, and your debt can end up in collections.
If you think you’re likely to stay organized, think again. 42% of American BNPL users have incurred at least one late fee. That’s nearly half of all buyers! Even if you try to stay organized, there’s always the chance you could forget about one of your installments.
6. Some services do perform hard credit checks
While most buy now pay later services perform only a soft check on your credit, some do perform a hard credit check.
For example, Affirm offers longer term installments, and these do pull a hard check on your credit. If you do this multiple times unknowingly, it could have a serious impact on your credit score. Too many inquiries in a short period of time makes it look like you desperately need credit – a big red flag to lenders.
Not every BNPL program is created equally. Do your research and never assume terms without reading them thoroughly.
7. Returns are more complicated
If you aren’t happy with a purchase you made on your debit or credit card, getting your money back is simple. You can easily process the return as you usually would through the website of the company you purchased from. Or, if for some reason the company does not refund you, you can always dispute the charge with your credit card, thanks to the additional protections!
However, getting your money back with BNPL can be a bit trickier. When you make a buy now pay later return, the company that provided the goods will refund your money to the BNPL lender, not you. The lender will then process the refund and credit your account. However, it’s important to note that some BNPLs require you to continue making your payments on that item until they finish processing your return request, which according to Experian, can take up to 50 business days! So, if you decide you cannot afford your BNPL commitments, returning it may not necessarily mean you won’t be on the hook for those upcoming payments.
How to Use Buy Now Pay Later Responsibly
As you can see, the cons outweigh the pros when it comes to BNPL programs. Our general recommendation is to STAY AWAY from BNPL offers, and just stick with using plain old credit cards for your purchases (\paying them off in full each month, of course).
But if you’re absolutely set on trying BNPL, here are a few tips to stick to…
Do not use BNPL for regular expenses
We highly recommend folks avoid using buy now pay later programs to purchase regular expenses. Things like groceries, food delivery, or other recurring expenses should be paid with credit cards or cash. Sure, it may seem like a good idea to pay $50 right now for your groceries instead of $200, but what happens when you need more food next week? Things can get out of hand quickly.
Using BNPL for recurring expenses is a surefire way to let it spiral out of control. Before you know it, those combined bi-weekly payments will be just as much, if not more than that original purchase price.
Instead, focus on working to reduce those recurring expenses, by using these tips to completely slash your grocery bill, or trying a “no eating out challenge.”
Consider other payment methods first
BNPL should never be your default payment choice. Always consider the other payment alternatives first. For example, if you have a sweet rewards credit card, it probably makes sense to use that instead so that you can earn points or miles on your purchase. Or, you can use a debit card to avoid taking on debt of any kind.
Consider your other debt obligations
Before piling on more debt, always think about your existing loans and payments. You don’t want to end up in a situation where you take on too much debt, and as a result are unable to make the monthly installments.
When in doubt, it can be a good idea to calculate your debt to income ratio. To find this number, simply add up all of your monthly debt payments, then divide it by your monthly gross income. As a general rule of thumb, you want to aim to keep your debt to income ratio below 35%, so if you’re approaching this number, BNPL may not be the best idea for your finances.
Always have the money on hand
Do not use BNPL to make a purchase you do not already have the money for. We cannot emphasize this enough!
You might think you’ll have the money coming in next week, or next month, but it is not guaranteed. Layoffs happen, hours get cut, and emergency expenses pop up. Depending on tomorrow’s income for today’s purchases is never a smart move. Instead, you should shoot to get a month ahead on your finances.
Make payments on time, every time
Some buy now pay later services charge hefty late fees, so it’s important to stay on top of your payments. For example, Klarna charges a late fee of up to $7, and Afterpay charges up to an $8 fee if a single payment is late by more than 10 days.
If you’re worried about missing payments, consider adding reminders on your calendar app so that you never miss a payment. Or, consider signing up for autopay so that the payment is automatically deducted from your bank account. Just make sure you have enough money in your bank account to avoid overdraft fees.
Read the return policy
Before using a buy now pay later service, make sure you read their return policy. Should you need to make a return, you want to know what to expect. As we mentioned before, returns often are more complicated that they would be had you purchased the item outright, and you may be on the line to make payments until your return is fully processed.
Avoid overspending
Buy now pay later is designed to get you to spend more. So you’ll need to develop some very strong mindful spending habits before using it. Whenever you shop online, make a list of exactly what you need to buy, and try not to add anything additional to the cart. Don’t let the temptation of breaking up your payments trick you into spending more than you otherwise would have.
The Bottom Line:
While using buy now pay later can be done in a responsible way, we recommend avoiding it. The temptation to overspend, as well as the hidden late fees and nebulous return policies make this a particularly dangerous financial tool.
Instead, focus on saving up enough to own your purchases outright at the point of sale, and take advantage of life improving credit card benefits.
Related Posts:
