Buy now-pay later providers reacted to a federal report about their practices by agreeing to keep up discussions with regulators, but also pushed back politely in some cases and more aggressively in others.

The Financial Technology Association, an industry trade group formed in March 2021 following the rise of fintechs like BNPL providers, underscored in a statement that the Consumer Financial Protection Bureau report showed the growing appeal of that financing to consumers.

Indeed, the 83-page report documented a near ten-fold increase in consumer use of BNPL loans. The five biggest BNPL providers studied by the agency extended 180 million of the loans to consumers last year for $24 billion in financing, up from 16.8 million loans in 2019 worth $2 billion, the agency said. The providers covered by the report were the Swedish company Klarna, San Francisco-based Affirm, Block-owned Afterpay, digital payment pioneer PayPal, and the Australian company Zip.

Still, the overall thrust of the CFPB’s report was that the industry is in need of more regulation, given its growing popularity, and in light of buy now-pay later services providing loans, even if they’re interest-free. Much of the debate on BNPL has revolved around whether it constitutes credit. While some federal and state laws do apply to BNPL, a central question raised has been whether more of the laws covering other credit products should apply too.

“I’ve asked our (CFPB) staff to identify potential interpretive guidance or rules to issue with the goal of ensuring that Buy Now, Pay Later firms adhere to many of the baseline protections that Congress has already established for credit cards,” CFPB Director Rohit Chopra said in remarks accompanying the release of the report.

Like some House Democrats, Chopra is concerned about certain fees imposed on consumers by BNPL providers and about mounting debt for consumers who may load up on financing from multiple credit providers. Part of the issue is that BNPL providers are often catering to low-income consumers, including those left out of the established credit reporting systems, and now that may mean their debt isn’t tracked as closely. 

Sen. Sherrod Brown (D-OH), who chairs the U.S. Senate Committee on Banking, Housing, and Urban Affairs and convened a hearing on BNPL and other fintech services on Tuesday, commended Chopra for taking action.

“Financial products that are well-designed, transparent, and regulated can help workers pay off an unexpected car repair, or help with the grocery bill, or cover a medical expense,” Brown said in a Thursday statement. “But too often these new products aren’t well designed, they’re rarely transparent about fees and risks, and they’re not well-regulated – leading to more and more debt that workers can’t repay.”

Offering an alternative to cards

Nonetheless, the industry took the report’s data on surging BNPL adoption as a vote of confidence in the offerings. With BNPL, consumers are typically able to buy a product with a down-payment as long as they agree to make several more interest-free payments to complete the purchase within about four to eight weeks.

“The fact is that consumers are choosing Buy Now Pay Later as a competitive alternative to high-interest credit products that trap them in cycles of debt,” the FTA’s CEO, Penny Lee, said in a press release on Thursday. “We look forward to continuing working with regulators like the CFPB to advance positive consumer outcomes.” 

The FTA’s members include Afterpay parent Block, Klarna, PayPal and Zip as well as other fintechs such as corporate expense software firm Brex, digital card company Marqeta, and the money transfer business Wise. 

“We’re pleased the CFPB recognized the value BNPL gives to consumers, including access to credit, ease of use, and lower costs, particularly going into challenging economic times,” Sydney-based Zip said in a separate statement provided by a spokesperson for the company. “The CFPB’s observations seem to be on balance, reasonable, and fair." The company declined further comment.

Nonetheless, Stockholm-based Klarna balked at the suggestion that its services should be policed the same way that credit card services are, noting BNPL’s market share is smaller and fees charged are lower.

“As a licensed European bank, Klarna is committed to financial wellbeing and protecting consumers through industry innovation and proportionate regulation,” Klarna said in its statement provided by a spokesperson. “Low-cost, low-risk, no-interest products like BNPL should not fundamentally be regulated in the same fashion as high-cost credit products which rely on consumer fees and revolving debt.”

Fees cause concern

The regulator didn’t differentiate between the five players’ business models by name, but acknowledged there are differences, including when it comes to fees charged to consumers.

“In aggregate across the five lenders surveyed, the share of borrowers charged at least one late fee increased from 7.9 percent in 2020 to 10.5 percent 2021, but significant variations emerged between the lenders,” the report said. “In 2021, that metric for each of the five lenders was 0 percent, 5.8 percent, 9.5 percent, 13.6 percent, and 29.7 percent. That divergence continues when observing the share of 2021 company revenues derived from consumers (late fees and other fees): 0 percent, 2.1 percent, 7.2 percent, 7.8 percent, and 52.8 percent.”

San Francisco-based Affirm took exception to some of the agency’s criticism of late fees, noting that it doesn’t charge any for its “pay-in-four,” biweekly payment services. The company is led by CEO Max Levchin, who also was a co-founder at PayPal. (Separately, it also offers monthly financing with different terms and no late fees, but that offering wasn’t the subject of the report, a spokesperson for the company said.)

“Our top priority is empowering consumers by providing a safe, honest, and responsible way to pay over time with no late or hidden fees,” the company said in a statement. “This includes underwriting every transaction before extending credit, giving consumers control over their privacy choices, and providing consistent and transparent disclosures at checkout.”   

BNPL’s growth may be challenged

Despite BNPL’s growth, it has captured only an estimated 3% share of U.S. e-commerce sales, equaling about $2.6 billion last year (total e-commerce sales of $858 billion were about 13% of total retail sales of $6.6 trillion), according to a July report from the credit ratings agency Fitch Ratings. 

“Though not a surprise, the CFPB’s report portends more intense regulatory scrutiny at a time when Buy-Now-Pay-Later faces increasing headwinds in the form of rising funding costs, weaker credit performance, and heightened competition,” Fitch Senior Director Mike Taiano, who follows the BNPL providers’ card-issuing bank rivals, said in an email commenting on the CFPB’s report.

In his earlier report, Taiano noted that the recently deteriorating U.S. economic environment, including higher inflation and interest rates plus a decline in government stimulus payments to consumers, could change the dynamics for BNPL firms.

“BNPL platforms are likely to face increased challenges from growing competition, higher funding costs and credit deterioration,” Fitch said in its report. “BNPL customers tend to be near the prime and subprime cohorts, segments likely to be most impacted by multi-decade high inflation.”

Taiano also noted that Fitch “expects credit losses to rise for consumer lenders broadly, including BNPL providers, as the benefit from pandemic-related government stimulus wanes and unemployment rises as the Fed significantly tightens monetary policy to tame inflation.”

Those economic headwinds will increase financial challenges for BNPL companies, many of which are still struggling to post profits, as U.S. competition from peers and more established credit providers rises.