The Pros and Cons of Installment Payment Apps

Here's how installment payment apps like Klarna and Afterpay can help and hurt your family budget.

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If you're among those who frequently shops online for family needs, it's probably not a newsflash that "buy now, pay later" (BNPL) options are becoming increasingly common at checkout. Names like Klarna, Affirm, Sezzle, and Afterpay, which might have been unknown to many as recently as two years ago, are popping up on nearly every e-commerce website these days.

BNPL companies, which offer short-term financing (sometimes dubbed point-of-sale installment loans), allow consumers to make purchases and pay for them at a later date. In many cases, the financing is even offered interest-free. All of which can be very tempting if your family is operating on a tight budget, or you happen to be short of cash when a major need arises.

But not so fast. While "buy now, pay later" can seem like a wonderful solution in a pinch, this approach to making daily purchases can also have downsides for your family budget. Here's a closer look at how these apps work—and what to avoid.

What are installment payment apps?

"Buy now, pay later" is a type of financing that's proliferated in just the past few years. Forbes reported that among Gen Z, BNPL usage increased six-fold between 2019 and 2021 rising from 6 percent to 35 percent. Millennials are also taking advantage of these emerging payment options—their usage doubled during the same two-year study period, to reach 41 percent.

This burgeoning popularity has translated into consumers making almost $100 billion in retail purchases using BNPL options in 2021, which is a giant jump from just $24 billion in 2020.

But what, exactly, are installment payment apps?

"Buy now, pay later is a type of financing that allows consumers to split the cost of a purchase into installments," says Mike Rittler, head of retail card services at TD Bank.

Typically, BNPL apps allow consumers to make four equal payments over a period of weeks or months, though various providers have various repayment terms, adds Rittller. In addition, these apps typically have low interest rates or don't charge interest at all if consumers make on-time payments.

Is there any credit impact when using installment payment apps?

Thus far, the "buy now, pay later" approach to making purchases appears to be having very little impact on the consumer's credit score—either positively or negatively, say industry analysts.

"Many people are drawn to 'buy now, pay later' because these lenders aren't typically as selective about credit quality," explains Ted Rossman, senior industry analyst for Bankrate. "But to date, most buy now pay later plans won't help you build credit, either. So, you're not getting any closer to that ultimate goal of having a high credit score."

One exception to this rule, says Rossman, is Affirm, which reports some of its longer-term repayment plans to Experian. However, the landscape is about to change when it comes to the lack of credit implications—or benefits—when using BNPL.

"Credit reporting is about to become much more widespread in the 'buy now, pay later' space, as Equifax has announced plans to incorporate a much wider variety of buy now pay later plans into its credit reports this quarter," continues Rossman. "It's still unclear exactly how this will work. For instance, the industry needs to figure out how to treat things like credit utilization and age of accounts. If these nuances are not properly addressed, there could be unintended consequences for consumers."

Are installment payment apps safe?

For the most part, BNPL apps are very safe in terms of protecting your family's financial information and other personal data and details. But that doesn't mean it's been entirely smooth sailing with this form of payment.

"There have been some complaints about returns and other disputes," explains Rossman. "For example, sometimes people return an item, but the 'buy now, pay later' company still wants its cut. This is the kind of thing that can get confusing when an intermediary is involved."

The biggest risk of "buy now, pay later"? It's more likely to be simply overspending—either through a lack of financial discipline on the consumer's part or lack of thorough underwriting on the lender's part. The Consumer Financial Protection Bureau recently announced that it's taking a deeper look at these potentially concerning issues, says Rossman.

How can BNPL apps help families make ends meet?

For families on a tight budget, BNPL can be an attractive solution—one that doesn't incur interest or require a stellar credit score.

"'Buy now, pay later' companies give people the ability to finance a purchase that they may not be able to pay off right away, but potentially at a lower interest rate and over a shorter term than a credit card," explains Rossman. Or at the very least, you know exactly how much you owe for exactly how long. That predictability and light at the end of the tunnel is key."

This type of financing, which was once mostly aimed at young consumers who did not have a lot of free cash or a solid credit score, has since expanded to attract a more diverse group of buyers, including those who are more affluent and are using "buy now, pay later" to make pricey purchases.

"They're using 'buy now, pay later' for things like Peloton bikes, paying potentially around $50 per month for up to 43 months with no interest from Affirm," explains Rossman.

At the same time, the BNPL space has also grown to attract an increasing number of family shoppers, many of whom are spreading out the cost of items needed for children or significant life expenses.

"'Buy now, pay later' can help families deal with big, one-time expenses," says Annie Millerbernd, personal loans expert at NerdWallet. "It works best when you're using it on one large purchase, when splitting the expense would take some stress off of your budget. If it's time to buy new school clothes or you're planning a family camping trip, breaking up one big shopping spree into smaller, interest-free payments can make it much more manageable."

That said, it's important that shoppers—families or otherwise—evaluate each purchase and payment plan as part of their overall budget, rather than in a vacuum, adds Rittler, of TD Bank. If not managed properly, these loans can easily add up, and soon your family budget is entirely out of whack or you're in over your head.

"For example, a shopper may decide they can afford a $100 payment every two weeks in order to purchase a desired item," says Rittler. "But if they make that assumption three times on a shopping trip, they're now looking at $300 bi-weekly, which may pull $600 from their monthly budget."

What are the overall pros and cons of installment payment apps?

As mentioned by the financial experts throughout this article, the most significant potential drawback of BNPL usage is that it can easily encourage spending well beyond your family budget.

Additional drawbacks include a lack of strong buyer protection for things like returns, dispute resolution, purchase protection, and extended warranties, says Rossman. "Credit cards are superior in those regards, plus credit cards have much more appealing rewards programs," Rossman notes. "Most 'buy now, pay later' plans do not offer rewards."

The biggest benefits when taking advantage of BNPL are the ability to spread purchases out over a predictable payback cycle and being able to immediately buy what you need. And if your credit score is less than ideal, BNPL offers more lenient lending standards than most credit cards.

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