As Regulators Close in, Experts Start to Fill in a ‘Legal Gray Space’ for BNPL

Despite predictions that buy now, pay later loans will account for $680 billion in transactions by 2025, or about 12% of all e-commerce sales, the industry remains on a potential slippery slope when it comes to consumer protections, says a paper issued Monday by the Mossavar-Rahmani Center for Business and Government at The Harvard Kennedy School.

BNPL providers operate in a “legal gray space,” the paper says, due to weak regulatory oversight. This includes a lack of standards for the disclosure of fees, payments, data collection, and credit that can potentially harm consumers that make use of the loans. Subprime borrowers, who account for two-thirds of BNPL borrowers, are especially at risk, the paper argues. At the same time, the lack of oversight make it difficult to properly evaluate the risks of such matters as significant subprime borrowing and the total consumer debt burden.

“While there are many good actors and the industry offers access and convenience for consumers, it is naturally engaging in what we call ‘regulatory arbitrage’ which has allowed it to generally avoid the kind of oversight required of credit card companies, banks, and other traditional lenders,” Marshall Lux, the paper’s principal author and a fellow at the Kennedy School, says in a prepared statement. “This, combined with the fact that the BNPL industry has yet to experience a full credit cycle, is a potential source of future problems for both consumers and lenders.”

While BNPL lenders have taken steps to protect consumers, such as providing voluntary credit-bureau reporting and fee disclosure at the point of sale, there is much more they can do to protect the most financially vulnerable consumers and create value for them, while also increasing value for merchants and the financial system, The Kennedy School paper says.

The paper lists these steps: Mandatory fees and rights disclosure at point-of-sale, which can help consumers understand the real cost of BNPL financing and make clear that BNPL products lack the consumer protections of similar products, like credit cards; credit-bureau reporting standards, which  can help BNPL permanently improve consumer access to finance while increasing accountability for both consumers and lenders; data privacy standards, which can protect consumers from potentially exploitative use of data as some BNPL companies struggle to generate profit through monetization of new consumer data.

Additional recommendations include services and/or charge dispute-settlement procedures, which can help eliminate a large volume of current BNPL consumer complaints and provide a more even playing field for credit cards and BNPL products; and stress testing and stress scenarios, which can help improve understanding of the potential impact of an economic shock.

The Kennedy School is not the first entity to express concerns that BNPL lenders are flirting with credit overreach. In December, the Consumer Financial Protection Bureau issued a letter to five BNPL lenders demanding data about their respective operations.

“BNPL’s real innovation has been at the point of sale, where the convenience and ease of financing purchases has accelerated online merchant sales and made credit available to those who might otherwise be excluded,” says Lux, citing a 2021 RBC Capital Markets report suggesting that online BNPL increases conversion rates 20% to 30% and lifts average ticket sales by 30% to 50%.

“There is lot about this that is positive, but better oversight should lead to a more sustainable business model for the BNPL industry and an improved experience for all concerned,” Lux says.