The Impact of Buy Now, Pay Later on Credit Scores
With Christmas and the season of gifting upon us, many people may be considering “Buy now , Pay later”(BNPL) schemes such as those offered by Klarna, Clearpay and PayPal, and In the rapidly evolving landscape of consumer finance, these services have gained immense popularity. Offering consumers the flexibility to make purchases without an immediate financial burden, BNPL has revolutionized the way people shop. While the convenience is undeniable, it's crucial for consumers to understand how these services can influence their credit scores.
Credit agencies and your credit score
There are three main credit reference agencies in the UK: Experian, Equifax and TransUnion. And they each compile a report that paints a picture of how well you manage credit. This is summarised by a single number, which is your credit score. Your credit score is very important: it decides whether you can take out a mobile phone contract, it shapes the amount of interest you pay on your credit card, and it can make or break your property purchase when you apply for a mortgage.
There are a number of ways that BNPL services may affect your credit score:
1. Credit Checks:
When you sign up for a BNPL service, some providers may conduct a soft credit inquiry. Soft inquiries have no impact on your credit score. However, some providers such as PayPal perform a hard credit check when you open a credit account with them and it could result in a slight, temporary decrease in your score. It's essential to be aware of the type of credit check conducted during the application process.
2. Payment Behaviour:
BNPL services may report your payment activity to credit bureaus. Timely payments can positively contribute to your credit score, showcasing responsible credit management. On the flip side, late payments or defaults may have adverse effects on your credit score. It's crucial to adhere to the payment schedule and terms outlined by the BNPL provider and always pay on time to maintain a positive credit history.
3. Credit Utilization:
Some BNPL arrangements function similarly to revolving credit accounts, where users are assigned a credit limit. The amount of credit you use in relation to your limit, known as credit utilization, is a key factor in your credit score. Keeping your credit utilization low by not maxing out your limit can positively influence your credit score.
4. Overall Credit Mix:
Your credit score considers the variety of credit accounts you have, such as credit cards, loans, and instalment accounts. BNPL can contribute to a diverse credit mix, potentially benefiting your credit score. However, moderation is key, as excessive reliance on such services might raise concerns about your overall financial health.
So whilst you may be tempted to make purchases using BNPL don’t let these schemes persuade you to spend more than you can afford. Research suggests that over half of users felt that these schemes contributed to increased levels of personal debt.
Whilst BNPL can offer unparalleled convenience, you should be mindful of the potential impact on credit scores. Responsible usage, timely payments, and an understanding of the terms and reporting practices of the specific BNPL provider are essential.
Remember – if you hoping to take out a new mortgage or renew an existing mortgage, a good credit score is vital. A lender needs to be confident that you can afford the mortgage and that you will pay on time; every time.
As with any financial tool, informed decision-making is crucial to ensure that the advantages of BNPL do not come at the cost of a healthy credit profile. By staying informed and managing BNPL responsibly, you can leverage these services without compromising your creditworthiness.
Your home or property may be repossessed if you do not keep up repayments on your mortgage.