Buy-now-pay-later (BNPL) shopping schemes have become popular in recent years and it’s easy to see why.
An ease of access and the opportunity to buy and try items ahead of payday has led Klarna to become one of Europe's largest banks, providing payment solutions for 85 million consumers across more than 200,000 merchants including Topshop, Asos, Gymshark and JD Sports.
With a soft credit check carried out upon application, we investigate whether Klarna and similar services such as Clearpay and Paypal Credit could affect your chances of getting a first time buyer mortgage in the future.
Who are Klarna?
Klarna, also known as Klarna Bank AB, is a bank based in Sweden that allows customers to spread the cost of their online purchases either through it’s app or directly through retailers.
Klarna, which counts Snoop Dogg among its investors, handles a million transactions a day and claims a 68% increase in average order value.
Since their UK launch in 2015, Klarna has exponentially changed the shopping habits of thousands of consumers online and with the majority of Klarna users being either Gen Zers or Millennials, there is a concern that the easy process could encourage them to take on dangerous and unaffordable levels of debt.
In 2019 a report from the Resolution Foundation, found that real hourly pay for 18-29 year olds in the UK fell 9.2% between 2009 and 2014 – but the pressure to maintain an Instagrammable appearance and click on highly targeted ads from services like Klarna, has arguably, never been so high.
Perhaps that’s why a Compare the Market survey of 2,096 people found that one in five say that using buy-now-pay-later schemes like Klarna, has negatively impacted their credit score.
How does Klarna work?
Klarna allows approved customers to buy items under the agreement that they’ll either return them unworn, pay for them within 30 days or “slice it” which is a traditional-style financing option with interest rates similar to some credit cards.
If the customer opts to pay for their goods within 30 days or over 3 equal payments, there is no added interest or fees.
However, if a customer is unable to pay and they exceed the interest-free time limit, that’s when problems can occur and interest can accumulate. As a last solution, the account could be passed to a debt collection agency which can negatively impact a credit score for 6 years.
Worryingly, that same Compare the Market study of 2,096 people found that of that group, two fifths were unaware BNPL schemes could impact their credit score.
However, Klarna has previously commented that ‘less than 0.5% of Klarna UK customers have had their credit score impacted as a consequence of missing payments.’
In response to complaints from former young customers who have since defaulted on their payments and had to face bailiffs, Luke Griffiths, general manager of Klarna UK, recently stated in a 2020 interview with The Evening Standard that,
“When a payment becomes overdue we send multiple reminder emails and after a period of several months engage a debt collection agency to help us ensure that the payment is made. We try at all times throughout this process to act with empathy.”
How does Klarna Financing work?
Klarna Financing, previously referred to as “Klarna Slice It” allows customers to spread their payments over an extended period of time, so instead of paying the balance within 30 days, they can opt for a regulated credit product or payment plan of 6-36 months.
Klarna allows its customers to complete what they call a, “Simple, 4-step credit application with top-of-mind information.”
The service informs it’s customers that they’ll know whether they have been approved for financing instantly and once approved, they can shop and complete their order right away.
During this swift process, customers are informed of an annual interest rate and with a click and credit check, 80% of applicants will then go on to make a purchase.
Furthermore, once the initial credit check has been approved, no further checks are taken out for future purchases, arguably making it even easier for young people to slip into more debt, without understanding or thinking about how it could affect them later down the line when they want to buy or even rent a house.
Where can I see my klarna credit limit?
Once a customer has signed their Klarna account agreement, they’re sent an email which lets them know how much credit they’re eligible for. The amount that any given person will be approved for will vary heavily depending on their financial situation but here are some factors that can affect the amount you’re approved for and whether you’re approved at all:
Your annual income
Your debt-to-income ratio
The amount of credit applications you’ve made in the past (making multiple applications for credit within a short time frame can make some lenders question whether you’re a sensible borrower or not.)
Your credit score
The time spent at your current address
Whether you’re registered on the electoral
Klarna also states that:
“To give us the best chance of accepting you for Instalments or Financing, you should:
Ensure your billing address is accurate and up to date (this should be where your utility bills, financial accounts, and vote is registered)
Use your full name
Getting items shipped to your billing address for your first order will increase your chances of acceptance”
Can ClearPay and similar services affect my credit score?
Clearpay allows their customers to split the cost into four fortnightly payments but unlike Klarna, they do charge fees for late payment.
If customers do not pay on time and break the terms of their financial agreement, their account can too, be referred to credit reference agencies, affecting a credit score.
Why is it important to have a good credit score?
Whenever you apply for credit such as a loan, credit card, car finance or a mortgage, the lenders you apply to will look at your credit score to access whether you’re a good borrower or not.
If a lender looks at your credit report and sees that you have previously defaulted or made late payments, they might determine that you have bad credit and therefore the likelihood of you doing it again is high.
Depending on their criteria, one lender could reject your application completely while another may agree to approve but under terms that are less favourable and with a higher interest rate.
Why would a high interest rate on a loan be bad?
Depending on the circumstances, a higher interest rate could make the cost of borrowing more expensive, so ideally you want to borrow from lenders and banks that offer lower interest rates.
For example, if you were to secure an interest rate of 3.5% for your repayment mortgage and you borrowed £200,000 over 25 years, the cost of your loan (including capital and interest) would be £300,477.
However, if you were to take out a repayment mortgage with an interest rate of 5%, the cost of your loan (including capital and interest) would be £350,882.
Therefore, with a difference of £50,405, it pays to be a trustworthy borrower with a good track record of repaying as agreed.
How can I avoid damaging my credit score with Klarna and BNPL schemes?
As reported in Which, more than two million shoppers have damaged their credit scores by using ‘buy-now-pay-later’ schemes such as Klarna, Clearpay and Laybuy.
Here’s how you can avoid negatively impacting your credit report.
Only borrow what you can comfortably afford to repay
Keep track of the retailers you have signed up to BNPL schemes with
Don’t set Klarna Financing as your default method of payment and only use it when you are certain that you can repay it in full and on time
Return items that you don’t wish to keep promptly
Set reminders on your phone two days before you are due to make your repayment
If you find yourself struggling to repay your debt, call or email the company. It’s always best to deal with it head on and resolve it either with an affordable payment plan or by freezing the account.
BNPL schemes challenged by UK MP
In July, 2020, Stella Creasy, the Labour MP for Walthamstow wrote to the financial conduct authority in a bid to challenge Klarna’s influential social media marketing which often involves the use of influencers including Anna Vakili and Olivia Buckland.
“With lending up over 20 per cent on platforms like Klarna no wonder they can afford to pay so many influencers to promote their company — but whether on Instagram, TikTok or Facebook, glossy pictures and videos can’t hide the problems with the small print which claims ‘no fees’ are involved. It’s little wonder many users are now coming forward to report getting into difficulties.
The FCA has announced payment freezes but we need to stop younger customers getting into problems in the first place — that’s why I’m calling on them and the Advertising Standards Authority to urgently investigate how these companies market their products and the information they give consumers who think these are risk-free ways of spending.”
Knowing the facts about credit scores and mortgages
Understanding how different types of finance can affect your ability to get approved for a mortgage can help you avoid making mistakes in your early teens and twenties that could affect your finances later down the line.
If used sensibly and within the agreed terms and conditions, BNPL schemes can arguably be useful and help to build your credit score, however, missing payments and multiple applications of credit with different lenders and schemes can damage it.
Our article, “Tips on how to get onto the property ladder” is a great read if you want to learn more about bad credit and the factors that can help or hinder your future mortgage application, or alternatively, use our online chat to ask our advisors any questions, in confidence and for free.