The Consumer Financial Protection Bureau (“CFPB”) is grappling with determining the most effective means of regulating the buy now pay later industry. BNPL allows a consumer to obtain a product or services immediately at the time of purchase and to make installment payments on the purchase over time. BNPL has many similar characteristics to the consumer credit card industry, but is not currently burdened by the disclosure requirements, data harvesting limitations, and other regulations governing the credit card industry. In this alert, we address the pros and cons of BNPL and how the CFPB may regulate this surging industry in the coming years.
What You Need to Know:
- The Consumer Financial Protection Bureau (“CFPB”) is the primary federal regulator of the consumer lending industry.
- In recent years, the CFPB has observed a surge of consumer buy now pay later (“BNPL”) loans, where a consumer obtains a product or service immediately at the time of purchase and makes installment payments on the purchase over time.
- Currently, and unlike other consumer lending industries such as credit cards and mortgages, there are no federal regulations directly governing the BNPL industry, and the CFPB is considering steps to regulate this novel industry.
Growth of Buy Now Pay Later
In recent years, consumers have diverted a significant portion of their debt-originated spending away from traditional credit cards and toward buy now pay later (“BNPL”) loan products. With a traditional credit card purchase, a consumer swipes their credit card, their credit provider pays the retailer in full for the purchase, and the consumer pays the credit provider back over time, with interest in the event repayment is untimely. BNPL, which serves as a substitute for a traditional credit card, often takes the form of interest-free credit that allows a consumer to fully purchase the product using the BNPL provider’s credit and then pay back the BNPL loan provider over a short series of installment payments. Effectively, BNPL is a reinvention of layaway, but where the consumer obtains the purchased product or service immediately, rather than after all installment payments are made.
BNPL offers consumers the opportunity to obtain a product at the time of purchase and pay the balance over time, often interest free, and oftentimes without the burdens of a credit check, the threat of reporting late payments to the credit bureaus, or other strings that a credit card purchase can attach. Further, and though many BNPL loan providers charge an average late fee of $7 per missed payment on an average purchase price of $135, some BNPL providers do not charge late fees at all. These benefits, in conjunction with the simple and straightforward pay-back model, have attracted many debt-wary consumers to flock toward BNPL.
This attraction has driven immense growth in the BNPL industry in recent years. Between 2019 and 2021, the annual loan volume of BNPL purchases has grown from $2 billion to $24.2 billion, and the number of BNPL loans originated has grown 970 percent, from 16.8 million to 180 million annually during that same time frame. Consumer Financial Protection Bureau: Buy Now Pay Later: Market trends and consumer impacts, pgs. 3-4 (Sept. 2022), available here. The industry has also expanded beyond its original focus in apparel and beauty, as consumers are now using BNPL products to pay for items such as pet care, gas, groceries, and travel. At this time, the five major BNPL lenders in the U.S. are Affirm, Afterpay, Klarna, PayPal, and Zip (formerly Quadpay in the U.S.). According to the Consumer Financial Protection Bureau (“CFPB”), the federal agency responsible for ensuring consumer protection in the financial industry, other key data points on the BNPL industry include:
- Loan approval rates have risen to 73% in 2021, up from 69% in 2020;
- Late fees are rising as well, up from 7.8% in 2020 to 10.5% in 2021;
- Consumers returned 13.7% of at least some portion of products purchased through BNPL in 2021, up from 12.2% in 2020; and
- Lenders’ profit margins are shrinking, as margins in 2021 were 1.01% of the total amount of loan originated, down from 1.27% in 2020.
Id. at pg. 9.
BNPL Risks and CFBP Interest and Monitoring
Though BNPL may seem like a zero-risk credit option for consumers, the CFPB has identified several growing concerns in this burgeoning loan industry. First, and unlike traditional credit products, consumers that opt for a BNPL loan may not receive the same protections and disclosures afforded to those who utilize a traditional credit card or mortgage. Namely, the CFPB has identified “a lack of standardized cost-of-credit disclosures, minimal dispute resolution rights, a forced opt-in to autopay, and companies that assess multiple late fees on the same missed payment” as potential pitfalls of a BNPL loan. Second, BNPL presents data harvesting risks that may threaten consumers’ privacy and purchase autonomy. Specifically, as many BNPL loan providers shift toward funding consumer purchases through digital apps, they gain the ability to gather and organize consumer data, and to sell that data to other users or create personalized profiles on consumer behavior and patterns. Third, and because the BNPL model allows and encourages consumers to make more and more purchases without requiring the lenders to report to a central credit agency (as is the case with credit cards), consumers run the risk of overspending and leaving the BNPL lender without recourse in the event of default.
To analyze and assess these and other risks associated with BNPL, the CFPB conducted a market monitoring inquiry in December 2021, and a request for comment in January 2022.
CFPB and State Regulation Efforts
In light of the risks associated with the BNPL model, BNPL lenders are currently subject to some federal and state regulation. The CFPB, for instance, has general enforcement authority over BNPL lenders because they fit within the purview of a credit provider. States impose regulations as well, but regulations and enforcement mechanisms differ dramatically from state-to-state. Indeed, while some states subject BNPL lenders to the same regulation and oversight as other consumer credit providers, other states are far more lenient and only require licensing or registration where the BNPL lender imposes interest or financing charges on the purchase. Nevertheless, there are currently no uniform state or federal guidelines for BNPL industry participants.
In order to address the BNPL risks, particularly those described above concerning loan term disclosure, data harvesting, and consumer debt accumulation, the CFPB is looking to tighten BNPL regulations. These regulations will likely closely resemble those applicable to the disclosure and reporting requirements currently imposed on the credit card industry. This may include imposition of loan amount and/or number limitations, centralized loan reporting requirements, standardized loan term disclosure forms, limitations on data harvesting and sale, among other restrictions and regulations at the federal level.
Commentary from CFPB Director Rohit Chopra as recent as September 15, 2022, confirms this potential path forward. Mr. Chopra stated that “If buy-now, pay-later lenders incorporate the protections and protocols that we observe in other financial products, this would go a long way to ensure there is healthy competition where consumers have a baseline level of protections.” Of course, this route has been subject to both praise and criticism, in that some believe these protections are long overdue, while others contend that consumers should be able to make their own purchasing decisions without government oversight.
The Consumer Financial Services practice at Saul Ewing will continue to monitor these and other related developments in the BNPL industry. In the interim, those with questions or seeking guidance should consult with a Saul Ewing attorney.