Buy now pay later included on credit reports, impact on real estate financing

Buy now Pay Later loans are a million-dollar industry and yet until now these loans were invisible to lenders.  This is all changing as Equifax is now adding buy now pay later payments to credit scores.  What does this mean for your score?  How will these loans impact real estate financing?

What is Buy now Pay Later?

Millions of shoppers now use a buy now, pay later, or BNPL, service to finance their purchases. BNPL plans, also known as point-of-sale loans, let shoppers pay for their items over a period of instalments.

The concept isn’t new. Installment plans have been around for years, known as “layaway” in the U.S. These agreements let people spread the cost of items over a certain amount of time. BNPL is similar in that consumers get the product upfront and pay for it in incremental amounts, often interest-free.

Buyers can opt to use a BNPL service when checking out online with just a few clicks. They typically pay the first instalment then and get invoiced the remaining sum during a period of three to four months.

One of the main criticisms of BNPL is that it could encourage shoppers to spend more than they can afford. Pay-later plans are particularly popular with millennial and Gen Z shoppers. Which?, a consumer advocacy group in the U.K., says it conducted an investigation which found that almost a quarter of BNPL users spent more than they initially intended to because the service was available.

Equifax adding buy now pay later to credit reports

Payments on buy now, pay later (BNPL) loans will be added to credit reports in the coming year. That’s good news for some good consumers, but others should be careful.  The loans, which typically allow customers to pay for purchases in four equal installments rather than all at once, have exploded in popularity over the past few years, and are expected to keep growing. Equifax, one of the three main U.S. credit bureaus, announced earlier this month that it will begin recording these installment plans on reports in early 2022.

Currently, some BNPL companies do report some loan information to certain credit bureaus. Affirm, for example, reports some loans to Experian. But Equifax will add BNPL information for the first time. The bureau says this will give lenders “a fuller picture of people’s financial commitments, like how much they owe on these plans,”

Look for  Transunion and  Experian to follow suit shortly as lenders will demand this information to get a complete pictures of borrowers default risk.

How will buy now pay later impact your credit score?

Remember the three largest drivers of credit score are: on time payments, credit utilization, and depth.  There is a fourth factor that lenders also weigh, type of credit.  As buy now pay later is included on credit reports millions of consumers will be impacted.  Unfortunately, the overwhelming majority of borrowers will see scores reduced for three reasons:

1. Credit utilization: these short-term loans will be included in your credit report and show a higher utilization rate
2. Depth: these loans are short term that will be open and closed frequently/quickly, this will impact the depth of your credit history with short term lending
3. Red flag for lenders: BNPL is a modern twist of layaway combined with payday lending.  This is a red flag on the spending habits of the borrower and is seen as a high risk for lenders.

Why is the move by Equifax so important for Real Estate Lenders?

Adding BNPL loans to credit scores will help lenders get a fuller picture of prospective borrowers.  Unfortunately, BNPL loans highlight risky habits that could ultimately lead to future default on a loan like a mortgage.  The overwhelming majority of lenders will not look fondly on these loans showing up on a prospective borrower’s credit report as it demonstrates a lack of cash management/budgeting skills.

Summary

The financial industry is innovating considerably faster than the credit bureaus. Experian is a little late to the game by just now adding buy now pay later loans.  Once these loans are included on credit reports, look for lenders to not look highly on borrowers using this type of short-term credit to finance small purchases.  If you utilize these loans, real estate lenders will now factor these payments in your debt-to-income ratios, and many will likely shy away from borrowers with habits that require these loans which could substantially limit future real estate purchases.

On a similar note, the Wall Street Journal did a great article on how to prepare for for Buy now Pay later purchases showing up on your credit report.  If you utilize these short-term loans it is a must read.

Additional reading/resources:

1. Equifax is adding buy now, pay later payments to credit reports (cnbc.com)
2. How to Prepare for Buy-Now-Pay-Later Purchases Showing Up on Credit Reports – WSJ

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Written by Glen Weinberg, COO/ VP Fairview Commercial Lending.  Glen has been published as an expert in hard money lending, real estate valuation, financing, and various other real estate topics in Bloomberg, Businessweek ,the Colorado Real Estate Journal, National Association of Realtors Magazine,  The Real Deal real estate news, the CO Biz Magazine, The Denver Post, The Scotsman mortgage broker guide, Mortgage Professional America and various other national publications.

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