Like the millennials and Gen Z it serves, the BNPL business is growing up and facing grown-up challenges – in the industry’s case, regulation and competition. It’s also becoming more and more like the credit card industry.
From Veronica IrwinContributor
TTwo decades after the launch of Klarna, and a decade after the beginnings of Affirm and Afterpay, the buy-now, pay-later business is facing some grown-up challenges, including tighter regulations and competition from major bank credit card issuers like JPMorgan Chase and Citibank that are beginning to gain a foothold in its turf.
With a buy-now-pay-later (BNPL) service, online shoppers choose at checkout to pay for an item in installments—in its simplest form, four convenient installments, sometimes with no interest or fees, thanks to subsidies from merchants. Originally, it was conceived as a way to boost sales to shoppers (and especially millennials) who were unwilling to pay the full price of an item up front and either didn’t have a credit card or didn’t want to run up the balance on their high-interest cards. Max Levchin, the CEO of San Francisco-based Affirm, even positioned himself and his company as an anti-credit card provider, disdaining the practices and fees of major banks that he felt turned off young consumers.
Both the new competition among banks and regulation appear to be part of a broader trend: BNPL products may increasingly feel more like credit cards to consumers than the simpler four-payment alternative that Swedish company Klarna and Australian company Afterpay initially touted.
On July 30, a Consumer Financial Protection Board “interpretive rule” went into effect that requires BNPL companies to follow some of the same regulations as credit card issuers. For example, that means they must investigate consumer disputes with merchants, refund money when shoppers return products or cancel services, and provide more information about interest rates.
At the start of the Covid-19 pandemic, online purchases boomed, and BNPL fintechs grew too, and they have continued to grow since then. Affirm estimates that $60 billion worth of BNPL loans were issued in the U.S. in 2022 for $1 trillion worth of e-commerce sales. According to the Federal Reserve’s 2023 U.S. Household Economic Well-Being Survey, 14% of adults had made BNPL purchases in the past 12 months, up from 12% in the 2022 survey. Younger people and those with low and middle incomes were more likely to report using BNPL.
But the market is changing, even as it grows. In recent years, rising interest rates and capital costs have forced BNPL fintechs to offer a wider range of products, including longer-term payment plans with stricter risk assessment and higher overall costs and more fee structures based on the annual percentage rate.
Meanwhile, some of America’s largest banks, notably Citi, Chase and US Bank, have launched new products designed to compete with the appeal of BNPL. These typically involve converting part of an existing credit card line into a separate payment plan, saving customers the hassle of applying for a new, separate line of credit from independent BNPL providers. This allows banks to rely on the large, sophisticated underwriting models they use for their credit cards, says Gerard Cassidy, managing director and banking analyst at RBC Capital Markets.
For consumers, the main benefit of these banking products is that they can pay for a large purchase separately over a longer period of time while continuing to use their credit card for everyday spending and earning rewards. In other words, credit card users can pay off their regular monthly bill in full, avoiding interest on routine purchases while financing the big item—all without sacrificing the convenience of a credit card. (According to the Fed’s 2023 survey, more than 60% of adults in households earning $100,000 or more and nearly 50% of those earning $50,000 to $100,000 had paid off their credit cards in full each month over the past year.)
Notably, the new banking products typically come with a flat monthly fee (or even no fee) for payments instead of a high interest rate, mimicking some of the things consumers value about fintech BNPLs.
All of this begs the question: if consumers increasingly view BNPL companies as credit card companies, with the option to similarly finance a large purchase using a credit card they already own, will they still use fintechs’ products?
In addition to their younger customer base, BNPL fintechs currently seem somewhat protected by another key difference: The banking programs are mostly offered after the fact, not at the point of sale, where customers would be more likely to use them. “The next evolution … is to allow banks to push their offers to merchants at checkout,” says Nandan Sheth, CEO of Atlanta-based fintech company Splitit. His company specializes in connecting BNPL issuers with merchants at wholesale, so issuers don’t have to individually sign up sellers to have their products available at checkout.
But banks have been slow to make their card-linked products available at checkout, missing the chance to catch customers the moment they realise they may not be able to pay for a purchase they have in mind in one go. Fintechs such as Affirm, Klarna and Afterpay, on the other hand, have been very successful in making their products available at checkout, which reflects a fundamental part of their business model: They charge merchants fees or interest that would otherwise be passed on to the consumer. Dan Dolev, a fintech analyst and managing director of Mizuho Securities, says this head start and the reputation fintechs have built could help them resist banks’ incursions into the BNPL market. “The brand means a lot,” he says.
Affirm, for example, charges merchants about 12.5 percent of the purchase price for its 0 percent long-term installment product and just over 5 percent for its 0 percent 4-payment product, according to its most recent earnings report. Citi also introduced at-the-point payment options with its “Citi Pay” product, separate from the “Flex Pay” installment credit it offers to existing cardholders after the fact. A Chase spokesperson declined to provide information on how the bank deals with merchants, but says it wants to “bring this solution directly to the point of sale and meet our customers where they shop,” acknowledging that factor is critical. An American Express spokesperson said its “Plan It” product is already easy enough to use because it’s built into the American Express card.
The banks don’t provide revenue numbers for the BNPL competitors in their earnings reports. A Chase spokesperson says “millions” of its customers have used the Chase Pay Over Time product, but declined to provide details on loan volume or revenue. Other banks declined to comment. RBC’s Cassidy says revenue is likely low right now because there was regulatory confusion before the CFPB’s decision, and banks typically like to test a product for several years in different interest rate environments before committing significant resources.
Several partnerships between e-commerce platforms, payments companies and banks are accelerating adoption. Amazon has partnered with Citi in April 2023 to allow customers to pay for Amazon purchases through Flex Pay, while Chase’s website says its Pay Over Time product will be available on Amazon “soon.” Delta has partnered with Amex to give customers the option to split the cost of flights into monthly Plan-It payments at the time of booking and settle them through an Amex card. In addition to Splitit, Fiserv’s Carat also markets card-linked bank BNPLs to merchants as checkout financing, paving the way for greater use of bank BNPLs.
But the results of Apple Pay’s experiment with BNPL are “clear evidence” that the fintechs have a valuable head start, says Mizuho Securities’ Dolev. Apple released its own fintech-like BNPL product, Apple Pay Later, for all Apple Pay customers last year. Then last June, the company stopped offering in-house installment loans and switched to a model where consumers can split a purchase through Apple Pay into four payments, using either Affirm or their existing Apple-linked credit or debit cards. “Apple basically capitulated and gave all of its volume to Affirm,” says Dolev. “It’s pretty amazing that Apple, with all of its power and all of its unlimited resources, hasn’t been able to figure this out.” (Apple did not respond to a request for comment.)
Although BNPL newbies have a head start on banks, they have failed (despite their pleas) to delay the new CFPB rule that subjects them to certain credit card regulations.
“It is baffling that the CFPB fails to acknowledge the fundamental differences between BNPL and credit cards in its guidance,” Klarna said in a blog post. In a letter to the CFPB, Affirm claimed the rules were “confusing” as they stand and called for a separate, BNPL-specific regulatory structure, despite a more friendly public statement thanking the CFPB for clarity. (Affirm built its business on longer-term financing before launching a pay-in-four BNPL product that accounted for just 14% of loan volume last quarter.) Letters from the Financial Technology Association and the American Fintech Council, two leading fintech industry groups whose members include Klarna and Affirm, respectively, each asked for an extension of the rule’s implementation deadline due to what they said were unclear and unfair requirements.
The rule “fundamentally redefines the (BNPL) product,” says Miranda Margowsky, director of communications for the Financial Technology Association. Not only is it difficult for BNPL companies to follow, it also creates an “inconsistent consumer experience” because they now receive separate and uncoordinated disclosures from each BNPL provider they use.
Michael Guerrero, a partner at law firm Ballard Spahr who has worked with several BNPL companies, agrees. “I don’t know if this gives the consumer a better way to compare rates on loans,” he says. BNPLs, he says, are “novel products that these rules weren’t even intended for.”
Despite their complaints about the new rules, BNPLs say they are ready to implement them and will not suffer any material harm. They have at least had a little time to prepare—the CFPB has been skeptically examining BNPL products since 2021 and announced the interpretive rule in May.
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