What Is Buy Now, Pay Later (BNPL) and How It Works?
When customers wanted to buy something on credit they used to have two main options. One is using their credit card and the other one is with layaway programs where you can reserve an item at stores, pay for it in installments then receive what's been bought when the whole price is paid.
Today, credit cards still have a solid footprint - 80% of people in the United States has at least one in their wallet. However, the days of layaway plans are over. The new generation of consumers is looking for quicker and smarter ways to pay in store and online. This is how a new payment method called “Buy now, pay later” (BNPL) emerged to address the needs of the Millennial and Gen Z consumers.
Chances are you've seen the "Buy Now, Pay Later" option before when shopping online and may have even used it yourself. But what exactly is this payment method and how does it work? In this blog post, we'll take a look at what BNPL is, how it works, and some of the pros and cons to using this type of financing.
What is Buy now, Pay later (BNPL)?
Buy Now, Pay Later (BNPL) is a type of financing that allows customers to make purchases and then pay for them over time. This can be done in installments or all at once. BNPL providers usually offer promotional periods with 0% interest, which means you can finance your purchase without accruing any additional fees. After the promotional period ends, any remaining balance will be subject to interest rates that can vary depending on the provider.
How does Buy now, Pay later (BNPL) work?
Here is how the BNPL process works for both consumers and retailers.
- As a customer, you are able to shop your favorite online stores and select merchandise as normal. You will be prompted for payment once the checkout process begins. Then you initiate the BNPL process as you would any other ecommerce transaction.
- The retailer’s chosen BNPL vendor presents the payment option at the checkout. During checkout, the customer will have the option to purchase using BNPL, along with other payment options like credit or debit cards.
- Then the BNPL vendor runs a soft credit check on the customer. When the customer opts to purchase their items using BNPL, they enter some personal details with the BNPL vendor. They are used by the BNPL provider to immediately run a soft credit check on the customer to get assurance that they will eventually pay back their loan based on their credit history. This type of credit check does not get reported to the credit bureaus, so it will not ruin your credit scores like a full credit check might.
- The BNPL vendor usually charges a fee to the retailer. The BNPL vendor will take a percentage of the retail transaction, and this is billed directly to the retailer. The fee gets deducted from the sum the BNPL vendor remits to the merchant. This is similar to the arrangements that traditional credit card companies have with retailers.
- The customer pays off the balance over time. Customers who pay off their balance in a short period of time will enjoy interest-free payments from BNPL vendors. However, if customers need more time to pay down the bill they'll be offered different payment plans with differing interest rates. Just like credit cards!
4 key benefits of BNPL for customers
As a consumer, you enjoy several potential benefits when using a BNPL service.
- If you don't have a credit card, BNPL can be your equalizer. A significant minority of customers (about 20%) do not have a credit card, and the majority (55%) of those with a credit card have maxed out at least one card. The BNPL service offers many of the same benefits as a credit card but for smaller, individual purchases.
- Easier to manage finances - Since you're only making small payments over time, it can be easier to stay on top of your finances and not get overwhelmed by large credit card bills.
- No interest fees during promotional periods - As long as you pay off your balance within the promotional period, you won't have to pay any additional interest fees.
- Soft credit checks have no impact on your credit score. Most BNPL vendors run soft credit checks on their clients to affirm their eligibility for a loan. Unlike a hard credit check, this will not ruin your credit score. On the other hand, if you are late in your payments to your BNPL vendor, this does get reported to credit bureaus, much like when you’re late on credit card payments.
Klarna
Klarna is a Swedish company founded in 2005 with 85 million customers and partnerships across hundreds of thousands merchants worldwide. Depending upon the type of borrowing you do, Klarna may run a soft credit check or a hard credit check. Rather than set strict borrowing limits, Klarna uses a proprietary credit risk metric it calls “Purchase Power”. Its official website describes Purchase Power as “an estimated amount based on factors such as your payment history with Klarna and your outstanding balance.” If you have good credit and a solid payment history, you may be eligible for larger point-of-sale loans from Klarna than from most other BNPL vendors.
Final thoughts
Retailers regard Buy now, Pay later services favorably because they’ve been shown to boost overall sales volume. As a retailer considering a BNPL option, you will have to balance two considerations. One is the fees that BNPL vendors charge on each purchase. The other is the increased shopping carts of customers who use a BNPL service.
Most BNPL vendors do not publicly disclose their merchant fees, but they typically range between 2% and 8% of a customer’s purchase amount. This puts them in the realm of major credit card companies. As such, it may be no more expensive for a merchant to accept a BNPL service than to accept credit cards. And much like with credit cards, a BNPL service can inspire customers to spend more.
As a Klarna partner, Catalystpay can help e-commerce brands to integrate Klarna Payments to their webshops for an increased coversion, smooth shopping experience and responsible payments.
Eligible businesses can learn more about enabling Klarna for their customers here.