Shoppers in recent years have embraced “buy now, pay later” loans as an easy, interest-free way to purchase everything from sweaters to concert tickets.
The loans typically are not reported on consumers’ credit reports, however, or reflected in their credit scores. That has stoked concerns that users might be taking on an outsize amount of debt that is invisible to both lenders and financial regulators.
So in February, when Apple announced it would start reporting loans made through its Apple Pay Later program to Experian, one of the three major U.S. credit bureaus, it looked like a watershed moment for the fast-growing “buy now, pay later” category.
But none of the other major pay-later providers have followed Apple’s lead. And while credit bureaus and lenders say they are interested in finding a way to work together, the gulf between the two sides remains wide — so much so that some pay-later firms are exploring creating an alternative credit bureau to handle their loans.
“I haven’t seen really meaningful progress,” said David Sykes, chief commercial officer of Klarna, one of the largest pay-later firms.
“Buy now, pay later” loans allow consumers to pay for purchases over time, often in four installments over six weeks, interest free. They surged in popularity during the pandemic, when they helped fuel an online-shopping boom. The rapid growth has continued: The retail industry attributed its record-setting holiday sales in part to the popularity of pay-later products.
But economists at Wells Fargo warned last year that “phantom debt” from pay-later loans “could create substantial problems for the consumer and the broader economy.”
The credit bureaus argue that incorporating pay-later loans into the reporting system would benefit consumers, who could build credit by repaying the loans on time, and lenders, who would gain fuller insight into consumers’ borrowing.
The pay-later providers agree — in theory. But they worry that reporting the loans would end up hurting their customers. Existing scoring models penalize borrowers who take out many loans in a short period. That could be a problem for the pay-later industry because, unlike credit card purchases, each pay-later transaction is treated as a loan.
Some consumer advocates share that concern.
“The credit reporting system is a system that assumes monthly payments, it assumes longer-term loans, and it just isn’t really cut out to handle ‘buy now, pay later,’” said Chi Chi Wu, senior attorney at the National Consumer Law Center. “It’s a square-peg, round-hole kind of thing.”
The consumer reporting industry in the United States has evolved over the decades to become a complex web of independent and sometimes competing players. Financial institutions — banks, mortgage brokers, auto lenders and others — report information on loans to three major credit bureaus: Equifax, Experian and TransUnion. Those bureaus compile the data and provide it to lenders and consumers, and also to companies like FICO and VantageScore, which use it to produce credit scores.
The major credit bureaus say they addressed the pay-later industry’s concerns more than two years ago when they created a category for the loans. That should allow FICO and VantageScore to adjust their models to account for those loans’ unique characteristics — and ultimately to incorporate them into credit scores without penalizing users. (For now, the loans would be included on consumers’ credit reports but not visible to lenders or incorporated into scoring models.)
“It’s been a long road, but I think that we are finally hitting a turning point in the momentum toward getting the data reported,” said Liz Pagel, a senior vice president at TransUnion who oversees the company’s consumer lending business.
The pay-later industry, however, argues that the credit-reporting system still isn’t ready. For one thing, the credit bureaus primarily receive data from lenders monthly, whereas pay-later loans are typically paid biweekly. (All three major credit bureaus said that while monthly reporting was the default, lenders could report more frequently if they wish.)
“It’s just not fit-for-purpose yet,” Mr. Sykes of Klarna said. “And we haven’t seen anything from the bureaus that suggest it’s about to be.”
Klarna reports loans to TransUnion and Experian in Britain, where the system works somewhat differently. A rival, Affirm, reports some longer-term loans to Experian in the United States and says it hopes to report shorter-term loans “eventually.”
Other major pay-later providers, like Afterpay, PayPal and Zip, said their concerns with the credit reporting system’s handling of pay-later loans had not been resolved.
“Our members continue to say it’s still inadequate,” said Penny Lee, president of the Financial Technology Association, which represents many of the largest pay-later companies.
That argument took a hit in February, however, when Apple announced that it would begin reporting loans made through its “Apple Pay Later” product — essentially a copy of the pay-in-four loans offered by Klarna, Afterpay and similar firms — to Experian.
Apple declined to comment, but in an earlier news release said that while the loans would not immediately be incorporated into credit scores, it saw the move as a step toward “providing users with the opportunity to further build their credit.”
Silvio Tavares, chief executive of VantageScore, said in an interview that Apple’s announcement showed the credit-reporting system’s ability to handle pay-later loans.
“It’s tough to be more sophisticated than Apple,” he said.
Far from joining Apple, however, pay-later providers appear to be exploring a system outside the traditional credit reporting infrastructure. Last year, two former industry executives founded Qlarifi, a data-aggregation platform specifically for pay-later loans. (Mr. Sykes of Klarna is an investor.)
Alex Naughton, who left Klarna last year to help found Qlarifi and is now its chief executive, portrays the company as a nimble, more tech-savvy credit-reporting approach. It will be able to collect and share data in real time rather than monthly, the standard for the major credit bureaus.
“I don’t think the existing infrastructure is able to adapt as quickly,” he said.
The lenders and the credit agencies agree that pay-later loans are unlikely to remain outside the credit scoring system forever. But it is unclear what will break the logjam. Ultimately, industry experts said, it will probably boil down to one of two things: Either regulators will force pay-later firms to start reporting or market forces will.
“Either it’s going to be a market shift or it’s going to be a regulatory shift,” said Shane Foster, a lawyer at Greenberg Traurig who specializes in financial regulation.
Regulatory action seems unlikely soon, at least at the federal level. The Consumer Financial Protection Bureau has hinted that it would like to see pay-later loans incorporated into the credit reporting system. But while the agency oversees the credit reporting industry — enforcing policies to ensure that the data is accurate and that consumer rights are protected — it hasn’t tried to require private companies to provide data to the bureaus.
Several states, including California, have taken action to regulate the pay-later industry, and others, including New York, are considering doing so. But those efforts wouldn’t immediately require the loans to be reported to credit bureaus.
Banks and other traditional lenders report to the credit bureaus because the data is helpful in lending decisions and because it provides a stick to encourage borrowers to repay: If they don’t, their credit scores will suffer.
Pay-later providers may not feel much pressure to begin reporting because their business is growing and most consumers are making their payments, said Ted Rossman, senior industry analyst at Bankrate. But if the economy slows and more consumers start falling behind on payments, lenders might decide they need to join the credit reporting system to judge borrowers’ reliability.
“Delinquencies are pretty low, the job market’s been solid, so maybe that’s not created the same urgency,” he said. “‘Buy now, pay later’ has yet to have its real delinquency reckoning. People keep warning about it. Maybe that will ultimately be what spurs change here.”