Shoppers may be gaining too much ‘phantom debt’

Economists worry ‘buy now, pay later’ loans could put some consumers at risk

“Buy now, pay later” loans have helped fuel a record-setting holiday shopping season. Economists worry they could also be masking and exacerbating cracks in Americans’ financial well-being.

The loans, which allow consumers to pay for purchases in installments, often interest-free, have soared in popularity because of high prices and interest rates. Retailers have used them to attract customers and to get people to spend more.

But such loans may be encouraging younger and lower-income Americans to take on too much debt, according to consumer groups and some lawmakers.

“The more I dig into it, the more concerned I am,” said Tim Quinlan, a Wells Fargo economist who recently published a report that described pay-later loans as “phantom debt.”

Estimates of the size of this market vary widely.

Quinlan thinks that spending through pay-later options was $46 billion this year.

That is relatively small when compared with the more than $3 trillion that Americans put on their credit cards last year.

But such loans — offered by companies like Klarna, Affirm, Afterpay and PayPal — have climbed fast. This growth comes at a moment when the finances of some Americans are starting to show early signs of strain.

People in their 20s and 30s are by far the biggest users of pay-later loans, according to the Federal Reserve Bank of New York. That could be both a sign of financial problems — they may be using pay-later loans after maxing out credit cards — and a cause of it by encouraging excessive spending.

Pay-later companies say their products are better for borrowers than credit cards or payday loans. They say that by offering shorter loans, they can better assess borrowers’ ability to repay.

“We’re able to identify and extend credit to consumers who have the ability and willingness to repay above that of revolving credit accounts,” said Michael Linford, chief financial officer of Affirm, which offers pay-later loans.

Financial advisers who work with lowincome Americans say more clients are using pay-later loans.

Barbara Martinez, a financial counselor in Chicago, said many of her clients used cash advances to cover pay-later loans. When paychecks arrive, they don’t have enough to cover bills, forcing them to turn to more pay-later loans.

“It is not that the product is bad,” she added, but “it can get out of control really fast and cause a lot of damage.”

In its most recent quarter, 2.4% of Affirm loans were delinquent by 30 days or longer, down from 2.7% a year earlier. Those numbers exclude its four-payment loans.

The service makes the most sense for certain purchases, like buying an expensive sweater that will last many years, Klarna CEO Sebastian Siemiatkowski said. He said that pay later probably make less sense for frequent purchases like groceries, although Klarna and other companies do make their loans available at some grocery stores.