The busiest days of the holiday shopping season may be over, but some young consumers have yet to pay their dues to the likes of Klarna and Afterpay.
The wildly popular buy now, pay later services were the go-to payment option of about one in five holiday shoppers — 22% of which were Gen Zers, according to NerdWallet. Of the Gen Z respondents who've used BNPL, 43% said they missed at least one BNPL payment this past year compared to just 31% of millennials, an October report from Piplsay shows.
BNPL lets consumers pay for big-ticket items in smaller amounts per month, typically interest-free, an attractive option for younger shoppers who may not have the cash to pay everything all at once, experts said.
"Buy now, pay later makes the purchase seem smaller," said Joel Rampoldt, a managing director at AlixPartners. "It enables you to get today what you couldn't necessarily afford today."
It isn't unusual for consumers to be filled with holiday fear rather than cheer due to end-of-year debt. In fact, almost 30% of consumers haven't paid off their balance from the 2020 holiday season, NerdWallet's survey indicates. Another survey from credit card brand Discover in November found that 44% of Gen Zers expected to spend more during the holiday compared to 33% of Millennials.
For consumers, but especially for Gen Zers, BNPL has provided an alternative to credit cards' high-interest rates during the busiest shopping season of the year, attracting the attention of retailers who have increasingly adopted this payment option.
"Gen Z are kids of the Great Recession of 2008. They grew up watching their parents either losing a home or losing a job or worrying that this could happen to them, and they internalize that as a message that you have to secure your financial future."
Founder of Gen Z Planet and Author of "Gen Z 360: Preparing for the Inevitable Change in Culture, Work, and Commerce"
Target announced in early October that it is offering shoppers installment payment options through Sezzle and Affirm. Merchants at Wix now have the ability to offer Pay in 4 and Pay in 3 options at checkout via Klarna. Amazon, in late August, agreed to work with Affirm to offer its shoppers installment plans.
"From the retailer's perspective, they want to do anything to close that sale right now while the shopper is on the app, while the shopper is on the site," Rampoldt said. "A lot of sales get missed at that point. There's a lot of items sitting in shopping carts out there that never got transacted, and buy now, pay later is a way of lowering the barrier … to that final step of clicking 'purchase.'"
The attractive option for both young consumers and retailers led to a boom in funding in the payments space. Funding for BNPL firms in 2020 increased 42% from 2019, with a record $1.5 billion raised. Klarna alone raised $1 billion in an equity funding round in March, then raised $639 million in June.
"It's big now because Gen Z really likes it and for reasons that we may never fully understand," Rampoldt said. "I think it's a case of the right segment arriving at this time."
Though Gen Z is far from the only demographic enamored by the qualities of BNPL, their widespread use of the service suggests their view on discretionary spending and the kind of consumer they might evolve into in the future.
The buy now, pay later format checks off three of Gen Z's common traits: their negative perception of credit cards, their desire to get trendy items and their impulse to get those items immediately while they're cool, Rampoldt said.
But young consumers falling into debt spells trouble, said Hana Ben-Shabat, founder of Gen Z Planet and author of "Gen Z 360: Preparing for the Inevitable Change in Culture, Work, and Commerce." It's contrary to the frugal mindset that research thought young consumers would have, she said.
"I think it can be disastrous, to be perfectly honest with you, because ... it is not in line with everything we got to know about Gen Z so far," she said. "Gen Z are kids of the Great Recession of 2008. They grew up watching their parents either losing a home or losing a job or worrying that this could happen to them, and they internalize that as a message that you have to secure your financial future."
Between Black Friday and Cyber Monday, 11% more Gen Z consumers used BNPL compared to last year, according to Afterpay.
So what made Gen Zers switch up? A study from StitcherAds points to social media. The study shows that 57% of Gen Z respondents said they've purchased an item on social media that featured a BNPL option.
Look up #Klarna, #Afterpay or #Affirm on TikTok. Beneath the hashtags are several videos of teens dancing and lip syncing to viral sounds with the balance they owe to these BNPL services (sometimes worth thousands of dollars) in the backdrop. On the short-form video-sharing platform, the three hashtags each have over 45 million views.
In many of these videos, Ben-Shabat said, "you can actually sense the tension that they have between their core belief that you have to be very careful financially, and the actual behavior of being tempted by these services."
Among shoppers who've used BNPL services, 42% said they used the option to finance home and furniture goods, 30% for electronics and 24% for apparel, according to a September report from Credit Karma. Nearly half of the respondents (44%) said they used BNPL services to get an item they needed.
In the same StitcherAds survey, 59% of Gen Zers said Instagram is the social media platform that influences their purchasing behaviors the most, followed closely by TikTok at 57%, then Facebook (36%) and Twitter (29%).
"If you scroll through Instagram, and you see a Lululemon ad, and you really want to buy that item but you wouldn't be able to afford it, seeing a buy now, pay later service offering to split that item into four no-interest payments might make you look twice," said Annie Millerbernd, personal loans writer at NerdWallet. "That's kind of one big pitfall of buy now, pay later is if you're not careful, it can encourage overspending."
An unregulated addiction
Of those who've utilized a BNPL option, 34% have missed one payment or more, according to Credit Karma's survey. A majority (72%) of survey respondents who have fallen behind on their BNPL payments think that their credit score took a hit as a result.
One of the biggest pitfalls of BNPL services is that they push consumers to purchase products they otherwise wouldn't, Millerbernd said. This, critics said, is a flawed part of the industry's business model. Additionally, because the service is relatively new in the U.S., the industry remains largely unregulated.
"Not having a regulatory agency watch out for you means that you, as the consumer, have to watch out for yourself," Millerbernd said. "You have to do your research into what the terms are for the buy now, pay later company because no two are the same, and things like understanding how returns work, how credit reporting works, how interest works, that's all on you and nobody is really setting up guardrails around how that can work."
Most (65%) consumers who've used BNPL have taken advantage of the service to pay for items worth $500 or less on average, according to Credit Karma. It is most common among Gen Zers to use BNPL for low-cost purchases, half of which used the service for transactions worth $100 or less.
|An overview of the average purchase price through buy now, pay later services by generation
|$0 - $30
|$31 - $50
|$51 - 100
|$101 - $250
|$251 - $500
|$501 - $1,000
|$1,001 - $1,500
|$1,501 - $3,000
Source: Credit Karma
There may be long-term consequences to the buy now, pay later trend that could impede young consumers from getting their first car or house due to bad credit, Millerbernd said.
Because of BNPL's lack of oversight, it's easy for service providers to underestimate the level of debt consumers are in when underwriting new debt, an August report from Fitch Ratings indicates.
If this sounds similar to how previous generations suffered the consequences of credit cards, critics see the similarities too.
"As we saw with credit cards being pushed on college campuses, this can saddle young people with debt, starting their journey to adulthood with damaged credit and potential for life-long negative financial consequences," said Marisabel Torres, director of California policy at the Center for Responsible Lending, in a testimony before the House Financial Services Committee's Task Force on Financial Technology.
Financial Technology Association CEO Penny Lee responded to the claim by saying 97% of BNPL users didn't acquire late fees.
Along with Gen Z, retailers are hooked
The way the model works now, retailers have little to no risk if they offer BNPL services, experts agreed. In most cases, the provider pays merchants after transactions are initiated while the provider collects the payment from shoppers. The payments provider typically charges retailers a fee per purchase (Sezzle, for instance, charges retailers 6% plus 30 cents for every transaction).
Klarna users can apply its BNPL services at 60,000 retail stores such as Macy's, Sephora and H&M in the U.S., a company spokesperson told sister publication Payments Dive in June. Affirm, on the other hand, has over 29,000 retailers that use its service.
Bryan Cano, senior director of media strategy at StitcherAds, has seen a rise in brands advertising BNPL options on social media where teens spend a lot of their time — and for good reason.
"Social media platforms have done a fantastic job at finding and showing users the right product to the right person at the right time," Cano said. "Brands are seeing increased conversion rates, average order values, and even click-through rates where we are grabbing the attention of consumers that would have skipped the ad otherwise without that messaging."
"Not having a regulatory agency watch out for you means that you, as the consumer, have to watch out for yourself."
Personal Loans Writer at NerdWallet
The math can be quite attractive to retailers who want to bring up their conversion rate. Klarna's retail partners have a 30% increase in conversion rate and a 41% increase in order value, the fintech says on its website. Meanwhile, Affirm said its merchants reported an 85% higher average order value in comparison to other methods of payment in 2019.
"A brand grows by driving more new customers than they are losing every year. And in order for brands to keep up with growth, they absolutely have to go for new demographics," Cano said. "The younger demographic, they lean in to buy now, pay later options. So the brands that don't offer that are probably going to lose out on a lot of sales and will likely lose market share to competitors such as Amazon."
Despite the risks involved, consumers' appetite for the flexible payment option continues to grow. Consumer spending through the BNPL market is projected to nearly quadruple, increasing 274%, between 2021 and 2026, according to a June report from Juniper Research. As it gains momentum without federal oversight, however, experts said it may continue to garner scrutiny.
"The retailer paying a transaction fee to the BNPL provider can make an awful lot of sense for them if it gets them those marginal purchases. But at the end of the day, you're still talking about consumers taking on more debt," AlixPartners' Rampoldt said. "Even though it's typically very small chunks of debt ... it's giving more leverage to consumers, particularly young consumers, and I think we just have to be very careful about how that plays out over time."