More than 6 million Australians have used the ‘buy now, pay later’ loan services offered by Afterpay, Zip and more than a dozen other companies.

Buy now, pay later offers a simple and convenient alternative to credit card services. You can register almost immediately and have your loan approved. One reason for this is that buy now, pay later companies are not regulated by the same consumer protection rules that apply to other lenders.

But now the Australian government is about to change that – at least in part, in response to concerns that the unregulated sector will push more people into debt.

“BNPL looks like credit, it behaves like credit, it bears the risks of credit,” said federal assistant treasurer Stephen Jones said this week.

The government will bring the industry into line with other credit products by amending the National Consumer Credit Protection Act to include buy now, pay later companies, and define buy now, pay later companies as lenders.

This means this for you and the sector.

What is buy now, pay later service?

Let’s first summarize what makes companies buy now, pay later, different from other forms of credit.

The crucial difference is that companies that buy now pay later do not charge interest National Consumer Credit Protection Act defines a credit service. Instead of buy now, pay later companies charge retailers a commission on transactions and charge customers for late payments if they don’t pay back on time. Some also charge monthly billing fees.

This has made it possible for lenders to buy now, pay later to list their products as “interest-free” and circumvent the legal requirements of the federal credit law.

One is the requirement to conduct a credit check, which assesses a customer’s financial history and capacity before borrowing money, although some companies buy now, pay later, companies are already doing this voluntarily. This is why financial regulators such as the Australian Securities and Investments Commission warned of the risk of buy now, pay later products that contribute to financial stress and
hardship.

More credit check

The changes to the Credit Act require all buy now, pay later providers to have an Australian credit license, just like other lendersand to improve their dispute resolution, hardship, product disclosure and marketing practices.

Most importantly, it imposes credit checking requirements.

The comprehensive credit reporting framework currently requires lenders, such as banks, to report on consumer loan history, amortizations, delinquencies and defaults. This data is used by providers when assessing a person’s affordability and eligibility for credit.

Afterpay and others have argued that they don’t need this credit reporting system because they use their own algorithmic checks. The problem is that no one knows what data they use or how they make decisions.

While the credit reporting system isn’t perfect, it’s better to have all providers work with the same data set than for individual companies to create their own rules.

Credit service providers, buy now, pay later, will have full access to this data, which covers consumers’ repayment and hardship histories for other credit products, such as loans and credit cards.

This means that when you apply for a buy now, pay later loan, the process may take longer, with a higher chance of rejection if you have a history of late or delinquent loan or credit card repayments.

However, unlike banks, the provider is not necessarily required to report your information into the credit reporting system. This is because the government does not consider them as risky as payday loans or consumer leases.

So a Buy Now, Pay Later provider does not know your history with other Buy Now, Pay Later providers. This means you could theoretically continue to have multiple services, which is a known cause of debt stress.

Spending limits and rate caps

The new regulations set a maximum compensation for late or missed payments.

At the moment, Afterpay, Zip, Humm and others have very different approaches to how they charge, making it difficult for customers to compare and judge. While the appeal of “no interest” may seem appealing, these late fees can add up to a hugely effective rate.

For example, research from Curtin University shows arrears of more than ten bi-weekly payments on a small purchase results in an effective annual interest rate of 28.25% for Afterpay, 29.32% for Zip and 177.44% for Humm’s “Big Things” loans. These annualized rates are higher than most credit cards.

The new cap should help bring fees in line with comparable charges for other credit products.

Another amendment to the Credit Act means that your credit limit can no longer be increased unless you explicitly request it. Currently, services like Zip and Afterpay start new users with a low credit limit and automatically increase it based on a good payment history.

This may mean that providers buy now, pay later, will offer users greater credit limits upfront, much like credit cards. This can be risky for some customers, but it also carries a higher risk for buy now, pay later services.

What this means for the industry

Better consumer protection is likely to lead to lower revenues for buy now, pay later providers.

Restricting the ability to automatically increase credit limits means that businesses must buy now, pay later, either offer higher starting limits and accept higher default risks, or suffer from lower transaction totals overall.

The cap on fees and charges is likely to generate less revenue. Stricter credit checks may result in fewer new customers.

Bringing all providers into the regulated system enables more transparency about how credit decisions are made and creates a more level playing field between credit providers.

The government will now work with industry and consumer groups to refine the details. The new laws are expected to be submitted to parliament later this year.

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