Over the past few years, the short-term financing solution Buy Now Pay Later (“BNPL”) has gained prominence around the world. Unlike credit cards, the BNPL offers consumers transparent credit and repayment in simple installments, without interest and without additional costs. According to the Worldpay Global Payment Report 2021, BNPL accounted for 2% of all global e-commerce transactions and is expected to double to 4% by 2024.
European countries were the first to adopt this new financing solution, with Sweden (23%), Germany (19%) and Norway (15%) having the highest market share. India is also rapidly catching up with more mature markets with domestic e-commerce transactions through BNPL at 3% in 2020. In fact, over the past few years, the Indian BNPL market has been booming due to strong millennial and GenZ adoption. . RazorPay, an Indian fintech platform, reported an increase of more than 600% in its BNPL offers.
BNPL offers consumers several benefits, including consumption smoothing, budgeting assistance, and a fast, convenient, and transparent credit option as an alternative to traditional credit at checkout. Merchants are attracted to the value proposition of improved sales, increased conversion, and improved cash flow. However, while BNPL solutions offer significant benefits to stakeholders, they also present some challenges.
One of the biggest challenges for BNPL players is regulation. Currently, BNPL is at a nascent stage compared to other payment methods in the world. Unlike credit cards, there is no independent regulation, meaning there are no standards for disclosure of fees, amounts owed, credit reports and payments. This has raised concerns about customer protection and ethical business practices. Therefore, regulators around the world are deliberating and examining the potential of this new credit solution, amid apprehensions about excessive and unregulated lending, and lack of credit reporting.
Last year, the RBI clarified its stance on BNPL, recommending that it be categorized as on-balance sheet lending (“BSL”), which should only be permitted to banks and non-bank financial corporations (NBFCs). ) and classifying it as a credit product. While some FinTech companies offer BNPL as a credit option, to ensure a proper credit report, some of them offer BNPL as a payment option/product for enhanced customer engagement and seamless user experience. Although they position it as a potential replacement for credit cards, but not as a “credit product”, it allows them to not report transactions to the credit bureaus, under the pretext that they do not fall under the definition credit”. Many FinTechs thus take the exposure on their balance sheet and treat them as deferred payments. According to these companies, since no interest is charged to the consumer, they are not required to book the loan on an NBFC or report it to a credit bureau. No regulations are therefore applicable to them.
This practice creates a gap when evaluating a client for other loans, resulting in asymmetric information, sometimes resulting in over-indebtedness of the client, by other potential lenders. As a result, customers take out more loans and fall into the debt trap. From the perspective of BNPL’s suppliers, this is important because a FinTech company could offer credit to someone who has a bad credit history. Also, when the customer stops paying, the RBI code of conduct for collections should be followed. However, companies that don’t treat it as a credit product may not follow the code of conduct, leading to some customers being harassed by companies, all due to lack of oversight. Therefore, the RBI emphasizes the need for regulatory control over BNPL companies. He recommends eliminating the regulatory arbitrage enjoyed by BNPL companies, by not sharing information about transactions, customer payment behavior and credit profile with the credit bureau.
The regulations, if enacted, will increase the operational costs of BNPL’s service providers. Businesses will need to complete a full-fledged KYC process as well as credit bureau reporting. They are also required to set up a self-regulatory organization (“SRO”) as a nodal agency to verify transactions and reimbursement. These changes are expected to bring transparency and accountability to businesses, as well as customer-focused guidelines for better interaction and exchange between lender and borrower. The recommendations reflect a cautious approach to endorsing the current self-regulatory system, particularly given the rapid growth of the BNPL sector.
Globally, several countries are also taking significant steps to bring sweeping changes to the BNPL market, including a fair regulatory framework. In February 2021, the Financial Conduct Authority (“FCA”) of the United Kingdom justified the urgency to bring regulations, establishing the procedure of engagement between consumers and suppliers of BNPL. Businesses will need to seek permission from the FCA to extend their services. In the United States, regulators have taken steps to regulate the BNPL market. The Consumer Financial Protection Bureau (“CFPB”) asked several BNPL companies in the United States to submit information about their organization on three metrics – debt accumulation, regulatory arbitrage and data collection – in order to assess all risks and benefits of the services they offer. In 2020, Sweden changed its Payment Services Act under which merchants are required to offer a list of payment options and methods to customers when making online payments. The rationale is to prevent customers from favoring installment payment options that can put them in debt.
These developments will pave the way for organized legal frameworks that should enable the BNPL industry to operate more efficiently, with less risk and more accountability to agencies and clients. As awareness of BNPL increases, more innovations are expected to disrupt the space with a large customer base to satisfy. Few other challenges faced by BNPL service providers include:
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High default rate: Without any KYC or credit checks, which sometimes increases the risk of consumers not paying credit, excessive and unregulated lending often results in extending credit to the over-indebted consumer, who does not has no intention of refund. In India, according to the media, BNPL’s precise default rates are not available in the public domain. However, the estimated default rate hovers around 15-20%. Australian Securities & Investments Commission (“ASIC”), says 21% of clients have missed at least one payment to BNPL suppliers.
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Competition from incumbent banks: Some players in the BNPL market are being forced to close their businesses or merge with banks, due to fierce competition from large established banks and low profit margins in their initial phase of business.
The author is AVP, Benori Knowledge
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