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Tightening of ‘buy now, pay later’ rules

Tightening of ‘buy now, pay later’ rules

Syndy Liew


Reading time: five minutes

What is buy now, pay later? 

In the past year, in addition to Apple Pay, Google Pay or typical credit/debit payment, when you’re shopping online retailers now offer an additional option of payment method known as ‘buy now, pay later’ (BNPL). Sometimes referred to as 'point of sale instalment loans', BNPL is becoming an increasingly popular payment option, especially when shopping online.

Companies that offer BNPL services, including Klarna or Afterpay, allow customers the flexibility to make online/in-store purchases and pay for them at a later date.

Generally, by opting for BNPL, the cost of purchase will be paid off in a series of interest-free instalments by certain due dates. Different companies may have varied repayment terms. Some payment providers may incur interests depending on the loan terms. A buy now, pay later financing agreement is typically easier to get approved for than other traditional credit options such as credit cards, as BNPL allows consumers to pay for things over time without interest charges. 

For a more comprehensive understanding of buy now, pay later services, read this Commercial Question by Shoosmiths.

Current BNPL market 

BNPL started becoming ubiquitous in e-commerce when consumers diverted to online shopping during the pandemic. Sweden’s Klarna became the trailblazer when its valuation shot up from $5.5 billion in August 2019 to $46 billion in June 2021 with more than 147 million users around the world. More recently, however, the BNPL operating model is facing challenges

As consumer spending power decreases due to rising living costs, this may not necessarily affect the number of users using BNPL, but may decrease the ability of users to maintain repayments. Furthermore, with increasing interest rates, BNPL lenders also face the threat of rising operating costs. With the main revenue streams coming from charging retailers transaction fees, Redburn (UK equity research house) estimated the gross profit of BNPL to be around 0.3 points (before operating costs). Given this situation, rising operating costs along with tighter regulations on the operators and increased competition from the likes of Apple and Revolut are likely to apply intense pressure on pure BNPL operators.

Concerns over BNPL model

There have been criticisms over the lack of transparency of BNPL operators regarding debt and hidden late fees. Combined with the lack of awareness of consumers regarding the consequences of default BNPL repayment plans, consumers may unknowingly accumulate debts for which they might not eventually be able to keep up repayments. 

Additionally, targeted advertising through data analytics by BNPL operators also raised concerns about misleading advertising which might entice consumers to take on debt that they may not be able to afford. 

Legislation and rules 

The UK’s financial regulator has moved to tighten rules around buy now, pay later lending. Nevertheless, it's likely that this may not take effect until early 2024.

But why are BNPL products not regulated in the first place? This is because they fall outside the scope of payment service and consumer credit rules. Many BNPL products currently sit outside of regulation because they are short term, interest free loans. Unlike a regulated credit agreement, this form of loan is exempted under Article 60F(2) Regulated Activities Order.

For applications of regulated credit agreements such as when you apply for a loan or a credit card, applicants would have to undergo a detailed credit worthiness assessment to make sure the loan is affordable for the consumers and that the consumers are making an informed choice when entering into that loan. 

Under new rules, providers of BNPL products will be required to carry out affordability checks on consumers and receive approval from the Financial Conduct Authority (FCA). Advertisements relating to BNPL services will also be subjected to greater scrutiny to ensure that the adverts are fair and not misleading. The aim of these new rules is to ensure consumers understand they are taking on debt and that providers are checking people’s ability to afford the loans they are taking on. 

For more commercial topics to keep up with, read 'Trending commercial issues to know about in 2022'.

Implications of tighter regulations

What are some of the implications as a result of the tightening of BNPL regulations? 

Knock-on impact for merchants

Firstly, it's interesting to consider the knock-on impact for merchants offering BNPL as a payment option on their websites. The government has stated that the upcoming rules will apply to businesses who partner with a third-party lender to provide credit, but what about online merchants who directly offer credit for the purchase of their own products? It was announced that the government will continue to gather further stakeholder feedback in making decisions on whether these rules should also apply to merchants. One consideration includes concerns over the cost of regulation such as shifting too much burden on smaller merchants. 

Greater compliance costs

Secondly, there have been discussions over the possibility of greater compliance costs to be met by BNPL operators which would then be shifted onto consumers. In addition to that, as more players enter the BNPL sphere, it could drive down merchant fees (fees incurred on the retailers when a consumer bought something using BNPL payment option), possibly forcing BNPL players to turn to other ways to pay for the overhead costs, including shifting the cost to consumers.

Brand protection

Thirdly, existing BNPL brands and companies who might be thinking on joining the BNPL sphere would need to start planning for operations as an FCA-authorised firm as part of their brand protection effortsGiven recent criticism over BNPL operations, staying ahead of the upcoming compliance obligations could give consumers the confidence to choose BNPL offerings.

Looking ahead

Tighter regulations could encourage bigger brands to start diversifying into BNPL to attract new customers if they haven't already jumped on the BNPL train. I would imagine that legal counsels will be involved in the entire lifecycle of BNPL product development regarding compliance with different regulations and consumer protection laws. Could we potentially see more innovation in the BNPL sphere? Alternatively, tighter regulations could trigger an opposite response where some brands may opt to stay out of the regulatory perimeter. Consumers may find the fees of BNPL products eventually becoming too high and look for alternative unregulated products.