“Buy now, pay later” loans are everywhere. Experts say beware.

Mastercard on Tuesday said it will start offering installment loans known as “buy now, pay later” products amid strong consumer demand during the pandemic. But such offers can carry risks, such as hidden fees and a lack of consumer protections, that might not be immediately apparent to borrowers, experts warn.

Mastercard said its buy-now-pay-later” (BNPL) program will let consumers take out interest-free loans that will be split in four equal installments, with the money taken from either debit, credit or prepaid cards. The financial services giant said the program will allow banks, lenders, financial technology companies and other firms to offer the loans, which can be provided while making an online purchase. 

BNPL products experienced high-double-digit growth during the COVID-19 crisis, outpacing rival types of unsecured loans such as credit card debt, as more Americans flocked to ecommerce during the pandemic, according to McKinsey. Demand for the loans is expected to continue to exceed other types of consumer lending, with the consulting firm projecting compound annual growth for the products of as much as 20% through 2023. 

Many consumers have embraced BNPL as a way to buy a product without interest in several installments, while the loans are also approved during the purchase process. More than 4 in 10 Americans have used a BNPL product, according to Credit Karma.

“Many consumers are drawn to the instant gratification, easy access and predictable installments,” noted Ted Rossman, senior industry analyst at CreditCards.com. “The line between credit cards and buy now pay later is getting increasingly blurry. For example, Mastercard’s new offering works with digital wallets and on retailers’ websites.”

Sellers like BNPL loans because they can encourage consumers to open their wallet. Mastercard said that for merchants such loans can increase average sales by 45% and reduce “cart abandonment” by 35%. 

Other financial giants such as American Express, Citigroup and JPMorgan Chase also offer BNPL loans. And so-called fintech businesses such as Affirm and Afterpay, which are used by thousands of retailers, including Walmart and Target, are credited with pioneering the product. 

Fraud protection

Mastercard said its BNPL product will differentiate itself from rival offers by offering some credit card protections, such as “zero liability fraud protection” and the ability to challenge charges that consumers don’t recognize. 

Such risks are among the reasons that financial advocates warn that consumers need to understand the loans before signing on the dotted line. Returning an item bought using a BNPL loan can be complicated and frustrating, an issue that the Consumer Financial Protection Bureau (CFPB) highlighted in a July blog post.

For instance, some consumers who returned products to merchants have reported difficulties in getting the loans discharged, according to Consumer Reports.

Risks to credit scores, fees

When BNPL loans work smoothly, such as when consumers have no problems with the products they bought and they make their payments on time, they can be convenient, experts say. 

But it’s not uncommon for consumers to run into trouble. Of the 4 in 10 Americans who have used a BNPL loan, almost 40% have missed at least one payment — and many of those reported a hit to their credit scores, according to Credit Karma. 

Typically, BNPL companies run a “soft” credit check on potential borrowers, which don’t impact credit scores. But missing a payment can prompt some BNPL lenders to report the late payment to the credit bureaus, which can hurt a consumer’s credit score, the personal finance site found. 

Some BNPL products also carry fees and interest that might not be apparent without reading the fine print. Most BNPL lenders charge late fees, the CFPB cautioned. That’s why consumers should take time to understand the lender’s terms and conditions before agreeing to a loan, the agency said.