Debt in Disguise: Unmasking the Risks of 'Buy Now, Pay Later'

In recent years, the "Buy Now, Pay Later" (BNPL) business model has spread rapidly, also in Germany. Companies like Klarna with over 90 million global active users (2021) have brought this model to the market and changed the way we shop online. While the benefits of this model seem enticing at first glance, there are also numerous risks that should be of concern, especially for young, financially inexperienced people.

The BNPL model offers customers the opportunity to make their purchases immediately and split the cost over several instalments. This is often done without interest or additional fees, as long as the payments are made on time. At first glance, this may sound like a convenient and easy solution to afford things that you might not otherwise be able to buy immediately. But is it really as simple and harmless as it seems?

Risk 1: Debt

The most obvious disadvantage of the BNPL model is the risk of getting into debt. Young people who are just starting to make their own financial decisions can easily fall into the trap of spending more than they can actually afford. The ability to defer payments creates a deceptive sense of security that can lead to overestimating one's financial limits and ending up with a mountain of debt.

The psychological mechanisms behind this risk should not be underestimated. The BNPL model often causes the actual cost of purchases to fade into the background, as the focus on the smaller instalments gives the impression that one is spending less. This perception can reduce the sense of financial responsibility and increase the willingness to spend more money on goods and services than is actually within one's budget.

Another danger is that young people who use the BNPL model become accustomed to this concept and see it as the standard method for their purchases. This can lead to them finding themselves in a vicious circle of debt, where new purchases are always financed through instalments while old debts still need to be paid off. In such cases, it becomes difficult to keep track of one's finances and to react to possible problems in time.

Risk 2: Negative impact on credit score

Many young people are not aware that their financial decisions can have a long-term impact on their credit score. Late payments or defaults can cause their credit score to deteriorate, which can make it more difficult to access credit or rent a flat in the future.

Credit score is an important metric used by lending institutions, banks and landlords to assess a person's creditworthiness. A poor credit score can result in loan applications being rejected, loans only being granted on less favourable terms, or landlords renting out a flat to other prospective tenants. Therefore, it is crucial to protect one's credit score as much as possible.

In connection with the BNPL model, payment delays or defaults on instalments can lead to negative entries in Schufa (= private German credit agency) or other credit agencies. These entries usually remain for several years and can impair creditworthiness in the long term.

Risk 3: Insufficient financial education

Another problem is that many young people are not sufficiently informed about financial topics. The BNPL model often gives the impression that one can easily control one's financial situation without having to worry about interest rates or fees. This illusion leads to young people not learning the importance of handling money responsibly and planning their spending.

The lack of financial education can lead to young people struggling to manage their financial resources effectively and pursue long-term financial goals. This may mean, for example, that they do not know how to budget, how to reduce debt or how to save and invest for the future.

Risk 4: Encouraging impulsive buying behaviour.

The ability to buy now and pay later encourages impulsive buying behaviour, especially among young people who are vulnerable to the lure of online shopping and marketing strategies. This can lead to overconsumption and an unhealthy relationship with money and material goods.

Impulsive buying behaviour occurs when people make spontaneous decisions involving financial commitments without careful consideration. This behaviour can be reinforced by various factors, such as sales promotions, limited-time offers or personalised advertising targeted to consumers' interests and preferences.

The BNPL model can further encourage this impulsive buying behaviour by making the process of buying seemingly more painless and less risky. The ability to make purchases immediately and defer payment may lead people to think less about the actual costs and long-term financial implications.

Risk 5: High fees and charges for late payment.

Another risk that particularly affects young and financially inexperienced people is the high fees and costs that can be incurred if bills are not paid on time. Although many BNPL providers advertise that their services are interest and fee free, provided payments are made on time, the reality is often different for late payments.

If one fails to pay the instalments on time, high fees and even interest can quickly accrue, turning the originally interest-free financing into a costly debt trap. These additional costs can be a huge financial burden, especially for young people who may not yet have a steady income.

Overall,

the "buy now, pay later" business model carries significant risks for young, financially inexperienced people. It is important that we recognise these risks and act accordingly to promote financial stability and education for our younger generation.

Here are some actions that can help minimise the negative impact of this model

1. Promote financial education: Educational institutions such as schools should integrate financial education into their curricula to help young people make informed decisions about their finances and avoid debt. This can be achieved by introducing specific courses or lessons on topics such as budgeting or debt management. In addition, schools could offer workshops, lectures and information sessions on financial topics to raise awareness of financial responsibility and responsible money management.
2. Responsible use of BNPL services: It is the responsibility of consumers to be aware of the conditions and possible consequences of BNPL services. It is important to keep an eye on one's expenses and only use this option when it makes financial sense. Consumers should first check whether they actually need the instalments or whether they should instead save and make a purchase later. In addition, they should ensure that they can make the instalment payments on time to avoid additional fees and negative impact on the credit score.
3. Industry regulation: Regulators should introduce stricter rules for BNPL providers to ensure that they act responsibly and that consumers are sufficiently informed about the risks. This could include, for example, stricter transparency requirements to ensure that BNPL providers provide clear and understandable information about fees, interest rates and possible consequences for late payments. In addition, regulators could introduce mandatory credit checks for BNPL customers to reduce the risk of over-indebtedness. Finally, regulators could also promote cooperation with educational institutions and consumer protection organisations to raise awareness of the risks and responsibilities associated with BNPL services.

While the 'buy now, pay later' business model can be tempting and convenient, it also carries significant risks for young, financially inexperienced people. By promoting financial literacy, making the use of BNPL services responsible and regulating the industry, we can help raise a financially healthy and responsible generation.

Further interesting scientific sources on this matter:

Norvilitis, J. M., Szablicki, P. B., & Wilson, S. D. (2003). Factors influencing levels of credit-card debt in college students. Journal of Applied Social Psychology, 33(5), 935-947.

Lusardi, A., & Mitchell, O. S. (2014). The economic importance of financial literacy: Theory and evidence. Journal of Economic Literature, 52(1), 5-44

Consumer Financial Protection Bureau (2022). Buy Now, Pay Later: Market trends and consumer impacts

Xiao, S. H., & Nicholson, M. (2013). A multidisciplinary cognitive behavioural framework of impulse buying: A systematic review of the literature. International Journal of Management Reviews, 15(3), 333-356.