If you’ve been shopping recently, you’ve likely been offered the Buy Now, Pay Later (BNPL) option – in other words, break your transaction down into installments. It may sound like a little extra time to pay when you’re on a tight budget, but this payment method may not be risk-free when it comes to your credit.
Have installment payment services really crazy. And credit card issuers are starting to offer their own versions. But not all BNPL programs work the same. Before signing up for one, make sure that you are not putting your credit score at risk.
Some of the top questions to clarify before signing up with BNPL include:
- Is your payment activity reported to the credit bureaus?
- Does the service have a hard or soft request when you apply?
- What happens in the event of late or missed payments?
Do BNPL services report to credit reporting agencies?
Because BNPL is an emerging field, there aren’t many definitive answers as to whether or not BNPL transactions are reported to the credit bureaus, says Ethan Dornhelm, vice president of Scores and Predictive Analytics at FICO.
“Consumers can inquire online or do a little research as to whether the respective issuer is currently reporting loans to Schufa,” says Dornhelm. “That at least shows them the immediate likelihood that their score and credit files could be affected by receiving the loan.”
The problem? “Nobody reads the fine print,” said Howard Dvorkin, CPA and chairman of Debt.com. “Either you check out at a terminal or on your computer or phone, and the screen is small and you won’t sit there reading this loan language.”
Nobody reads the fine print. Either you check out at a terminal or on your computer or phone and the screen is small.
– Howard DvorkinChairman, Debt.com
With 60% of consumers say they have used a BNPL serviceAs more of these services appear, it is important to understand how they work. Here’s a breakdown of how choosing BNPL could affect your credit score.
Do BNPL services use soft or hard query?
Many people use BNPL services as an alternative to credit cards and take no risk to their creditworthiness. Mary Rosado, a resident of Staten Island, NY, says she uses BNPL’s Afterpay and Klarna services all the time. “They don’t ask for your social security number, so I can’t see how they can get your credit report,” says Rosado. “I use them, to be honest, because I have bad credit and I can’t get credit cards.”
Rosado is right. The services she uses perform a gentle credit pull that doesn’t affect your credit score. “In a gentle credit check, we check the identity of a customer based on the information they provide and look at information from their credit report in order to understand their financial behavior and assess their creditworthiness,” explains a Klarna spokesman.
However, consumers should be aware that some BNPL services have a tough credit check. For example, Affirm offers a 0% APR option with four bi-weekly payments and no credit check, but its longer-term installment loans are based on a tough request. PayPal’s “Pay in 4” only uses a soft credit pull, but PayPal Credit does a full credit check.
Insight into the bank rate
A hard query won’t weigh down your score, but consumers should know that some BNPL services use a hard credit check.
It is important to understand these differences as you are presented with different payment options at checkout, as new credit account applications account for 10% of the FICO score calculation.
“Analysis of the millions of credit files that we use to create our FICO scores consistently shows that those with higher numbers of recently applied for and recently acquired accounts are at a slightly higher risk of forfeiture across the board,” says Dornhelm.
Of course, a single hard query won’t increase your score. “We generally say that a query will probably not affect the score by more than five points,” says Dornhelm. “But for a rare segment of the population that could have a significant impact.”
For example, if you apply for a mortgage or refinancing, you can qualify for a different interest rate bracket after just a few points.
The bigger problem is when you are taking out loans that use hard inquiries on a regular basis. “If they get in touch and you go and get five of these loans, it looks like you are desperate for loans,” says Dvorkin. “You have to be very careful.”
Do BNPL services report payment activity?
The next potential credit impact occurs when the BNPL service reports account activity to one of the credit reporting agencies. Again, some do and some don’t, and this can vary by loan product. For example, Affirm does not report any activity in its four biweekly payment offer, but longer-term loans are reported as installment loans.
Then there are some BNPL products like PayPal Credit that may offer revolving lines of credit instead of fixed loan payments, says Dornhelm. With revolving accounts, the amount of available credit you use (called credit utilization) also has a significant impact on your creditworthiness – it accounts for 30% of that.
For this reason, it is wise to find out if and how the BNPL service you are considering reports your activity. Since payment history is the single most important factor in the FICO calculation, which accounts for 35% of your score, consumers with thin credit files could even benefit from using these products to demonstrate positive payment history, says Dornhelm.
What if you miss a payment?
As for your balance, missed payments can be very damaging, but remember: not all BNPL programs report your activity. So if you miss a few payments and then make them up, your score may be intact.
“I was late this week so they just sent me a message saying, ‘No big deal, we’ll try again in a few days,'” says Rosado. “They don’t have my social security number so I’m not sure how my credit is going.”
Since her services do not report, she is right to be clear. But let’s assume someone is behind schedule with their remaining balance. As soon as a claim is sent to Debt Collection, the credit bureaus will be notified. Klarna does this after 82 to 90 days of default, while Affirm waits 120 days.
If the BNPL makes a report, once you miss a billing cycle it will likely appear as a negative item on your credit report and cause a drop in your score.
“When it comes to missing payments, the focus of the score is on how late the payment was missed and how much the payment was overdue,” says Dornhelm. “Therefore, missed payments are likely to have a significant impact on consumer ratings.”
Judgment on the Impact of BNPL Loans
BNPL offers could be helpful tools, especially for consumers who do not have access to other types of credit. When used carefully, and especially when there is no hard inquiry or reporting, they can offer some leeway in repaying with no credit loss.
Insight into the bank rate
When used carefully, especially when there is no hard inquiry or reporting, BNPL plans can offer repayment latitude with no credit loss.
“For me, BNPL is manageable as long as I don’t get carried away,” says Rosado, who usually tries to spend under $ 400 so that her payments don’t exceed $ 100 at a time.
Choosing BNPL options that do credit checks and report payment activity is a bit riskier in terms of creditworthiness, but as long as you use them frugally and pay on time, they can work in your favor.
Credit issues aside, it’s important that you don’t let BNPL offers trick you into spending too much. “If you can’t afford it, don’t buy it,” says Dvorkin. “Consumers are very optimistic and sometimes get into trouble themselves.” However, if you take advantage of a BNPL offer, he recommends automating your payments so you don’t stumble and forget to pay.
As with any credit product, your primary goal should be to keep debt down and pay off that debt on time, adds Dornhelm, “These behaviors, whether on a BNPL loan, credit card, or personal loan, are likely to get the FICO score of the consumer in the long term. “