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How Buy Now, Pay Later Loans Can Lower Your Credit Score

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You may have seen the option of paying for things like furniture or household items through things like Affirm, Klarna, or Afterpay. These options usually appear under the price of an item you’re looking to buy online and will have a note that reads: “Only $25 a month with Affirm” or “$40 this month with Afterpay”. These are Buy Now, Pay Later, or BNPL loans, and you should approach them with caution as they can hurt your credit in the long run.

See: Which is smarter: “Buy now, pay later” or credit cards?
Find: Affirm Personal Loans Review: No Hidden Fees, Potentially High APR

These loans work the same way as the old-fashioned layaway system. Instead of putting a lump sum on a credit card or paying something cash in full, you can spit out the cost of an item – or multiple items – with payments due every two weeks, or every month. , but in smaller amounts. These loans, also called point-of-sale loans, often offer a 0% interest rate for a given period.

Not all BNPL loan providers report to credit rating agencies, but the most popular ones do. Affirm, for example, reports to the credit bureaus, but not for all of their loans. CNBC reports that Affirm does not report loans that pay 0% interest for a three-month period or loans with zero interest rates and four payments every two weeks. In other words, if you are expected to be off their books soon, they are not interested in reporting you to the credit reporting agencies.

However, if you are unable to repay your Affirm loan or make late payments, a report will be filed as any other payment agency would for late payments. The caveat is that even if you repay this type of loan on time, your credit score could still take a hit.

“While the on-time payments record may boost your credit, you might see a hit to your score by using the [BNPL] service,” Leslie Tayne, founder and managing director of Tayne Law Group told CNBC. “Each purchase you make with a POS loan is considered a separate account on your credit report that is closed once you pay off the balance. Since these loans are short-term (usually six weeks), they can significantly reduce the average age of your credit history, especially if you are a regular borrower.

While Affirm is one of the most widely used, Klarna and Afterpay are also great loan providers that can be used as non-credit bureau alternatives. AfterPay does not perform any credit checks and Klarna performs what it calls a soft credit check.

Afterpay can be a good option for those with bad credit or anyone trying to build credit who needs to buy something with some financial leeway. Klarna, while also a good option, will notify Experian if you sign up for some of their longer loan options.

It’s important to remember with any of these loans that you need to maintain a meticulous payment history so you don’t have bigger problems down the line. While these programs can be helpful and convenient in a pinch, the best option is always to open a low-limit credit card and pay it off immediately so you can build lasting credit that can be used in the future.

BNPL loans should not be viewed as long-term sustainable payment plans for everyone, as they were created for those who don’t have credit in mind to begin with. It’s also important to note that the majority of these loans are taken out to purchase clothing and electronics – not necessarily daily necessities or emergency purchases.

See: “Buy now, pay later” backfired? One-Third of US Consumers Are Late on Payments
Find: Klarna review: Is it the right ‘Buy now, pay later’ platform for you?

Remember that these companies make money by betting that you will exceed the authorized limit for your loan, and will not only charge you high interest rates, but also report missteps to the credit bureaus.

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About the Author

Georgina Tzanetos is a former financial advisor who studied post-industrial capitalist structures at New York University. She has eight years of experience with concentrations in asset management, portfolio management, private banking and investment research. Georgina has written for Investopedia and WallStreetMojo.