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Buy Now, Pay Later: could these four little words represent a ticking financial time bomb? It’s a type of credit that – until very recently – was unregulated, yet the Buy Now Pay Later option is routinely offered at the online checkout by trusted high street retailers, from M&S to Halfords. Whether it’s a coat or a cleanser, it’s almost guaranteed that you can buy it now and pay for it later – if you decide to keep it, that is.

Buy Now Pay Later (BNPL) typically allows you to purchase items online and only pay for what you keep at a later date. This is handy when you may end up returning online purchases, like clothes that don’t fit. No wonder that the sector’s value quadrupled in 2020 to £2.7bn, with five million more people signing up for these deals since the Covid-19 pandemic hit. Social media is also ablaze with posts from young shoppers who have delayed the final bill to another day.

Yet not all of them were comfortable with the experience, with many saying it was causing them to spend too money or get into unnecessary debt. Giulia Meloni, 25, who moved to London from Italy five years ago, bought a laptop in March last year and ticked the BNPL box. But she didn’t understand how it worked.

Giulia thought everything was fine with her BNPL purchase...until she heard from a debt collection agency

“I was convinced that my bank details were already linked to the account and I paid very little attention to it. I should have checked my account more but I thought everything was fine. In April, I received a letter saying that my account was closed and handed to a debt collection agency.”

Giulia contacted her lender twice, who advised her to repay the money directly into the company’s account. She now says: “Hopefully people will realise the problem behind Buy Now Pay Later. There should be some sort of regulations because this is really dangerous.”

When used correctly, BNPL can be handy and helpful. But you need to understand how it works.

How does Buy Now Pay Later work?

Klarna is the only major BNPL provider which won’t slap a penalty on you for missing your payment and won’t take a first instalment upfront. Instead, you can return an item in 14-30 days, depending on the retailer, and opt to pay the full bill for what you keep over 30 days or three months.

At the other big three firms, Clearpay, Laybuy and PayPal, you spread the cost of your shopping in four to six equal weekly or fortnightly instalments, starting with the date of purchase. If you miss a payment, you’ll be charged late repayment fees starting at an unwanted £6 and potentially hitting a nasty £36.

If your BNPL balance remains unpaid, you’ll typically have 15 days to settle up. Otherwise, you’ll be referred to a debt collection agency, who have the right to contact you and even show up on your doorstep until you pay back what you owe. Be aware that BNPL firms mainly make their money from merchant fees paid by retailers. That’s because every customer persuaded to make a purchase through BNPL ultimately boosts the retailer’s bottom

Another factor that needs to be considered is how using BNPL may affect your credit score.

Buy Now Pay Later and your credit score

Apart from Clearpay, BNPL firms run soft credit checks on their main services. A soft credit is simply a way to check the basic details you’ve provided are correct and is not the same as a hard credit check, which shows up on your credit score. But, bear in mind, some longer-term services offered by BNPL firms do come with hard credit checks.

Your credit score matters because it’s used by lenders to weigh up whether you’re a reliable borrower and influences the kind of deals you can access on mortgages, credit cards and loans. Too many hard credit checks in a short space of time and missing payments can all negatively affect your credit score.

A weaker credit score could mean lenders will turn you down or make you pay more to borrow in future. The MoneyHelper offers some helpful pointers on how you can check your credit score Link opens in a new window.

How Buy Now Pay Later is changing

So far BNPL has been unregulated. That means you can’t complain to the Financial Ombudsman if you believe you’ve been treated unfairly. You also don’t have the ‘Section 75’ protection you have when buying with a credit card, a useful perk Which? helpfully explains here. Link opens in a new window

But the Financial Conduct Authority is about to bring BNPL into its consumer credit regime. It will require firms to run an affordability check before signing up any shopper and be more compassionate to vulnerable consumers who fall behind on payments. It’s too soon to say whether this might mean hard credit checks, but it will certainly make BNPL harder to use.

Martin Lewis, founder of MoneySavingExpert, says: “Regulation isn’t about killing the industry, it’s about putting controls on product design and marketing, to ensure that over-borrowing doesn’t ruin lives, and that consumers are treated fairly.” Check out MSE’s very useful guide on BNPL Link opens in a new window.

Martin Lewis: on a mission to make sure customers are treated fairly

When used correctly, BNPL can be handy and helpful. But you need to understand how it works.

Is Buy Now Pay Later a good idea?

BNPL certainly makes online shopping easier and more affordable pre-payday, and if used correctly, it can be better than using an expensive overdraft or credit card.

It’s also an option if you like to buy clothes but aren’t sure they will fit, as BNPL allows you to avoid waiting for refunds. But you need to set spending limits and always guard against buying more stuff than you really need.

You also ideally need to have a stable income or at least know you will pay back the money on time, in full to protect your credit rating. You also need to be organised and remember when the repayments are due: create your own reminders just to be safe. You also need to understand the small print (particularly what kind of credit score checks may be carried out) and keep up to date with any changes.

Finally, if you are going to miss a payment, you need to let your lender know straightaway, as you may be able to come to an agreement. All in all, tread carefully – otherwise, that must-have jacket may eventually come at a huge price to your credit rating.

Before making financial decisions always do research, or talk to a financial adviser. Views are those of our mentors and customers and do not constitute financial advice.

Iona Bain Independent Money Mentor