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Buy now pay later: Impact of proposed regulation on providers and e-commerce businesses

Buy Now Pay Later (BNPL) is a fast-growing payment method in the UK. Research has shown that consumers who use BNPL are more likely to be in financial difficulty and as such, the Financial Conduct Authority (FCA) is seeking to protect consumers (particularly those that are vulnerable) by ensuring that contract terms are fair, consumers are given sufficient information and that they have adequate protections that would be expected from other loan agreements.

Whilst the FCA does not have regulatory oversight over unregulated Buy Now Pay Later (BNPL) products, the Government has proposed that many of these should be subject to regulation. The Government consultation on the proposed draft legislation closed on 11 April 2023, but the response has not yet been published. The timeline for the legislation to be laid before parliament has not been confirmed.

As the Government moves towards bringing BNPL products within the regulatory perimeter, it’s crucial for businesses to stay ahead of the curve. Our financial regulation lawyers are ready to guide you through the process of considering whether you need to apply for FCA authorisation.

What is buy now pay later credit?

BNPL refers to interest-free instalment credit which allows consumers to purchase products without having to pay the full amount up front. The purchases are financed by a third party BNPL provider, and the typically receives payment instantly. BNPL credit allows the consumer to split the cost of the purchases into regular payments over a period not exceeding 12 months. BNPL services are frequently used by e-commerce businesses to encourage larger purchases and reach new customers. Firms providing these agreements do not need to be authorised by the FCA or comply with the Consumer Credit Act 1974 (CCA) because the agreements are currently covered by an exemption, making such activity unregulated.

How does BNPL work for BNPL providers?

In general terms, the consumer places an order and selects BNPL at the checkout. BNPL providers like Zilch and Klarna may perform a soft credit check that does not affect the consumer’s credit rating. The business delivers the items (whether goods or services or both) to the buyer and the BNPL provider pays the seller. The consumer pays the BNPL provider for the purchase in instalments. No fees are charged to consumers who pay their bills on time. Consumers who do not pay their bills on time may face a late fee, subject to the terms of each agreement for unregulated BNPL credit. If the consumer defaults their debt may be transferred to a debt collection company.

Which BNPL products are regulated?

Unsecured consumer credit (i.e. a cash loan or other ‘financial accommodation’) is regulated under the CCA and the Financial Services and Markets Act 2000 (FSMA). Firms offering or investing in regulated credit agreements must be:

  • Authorised by the FCA and comply with the relevant rules and regulatory obligations;
  • Able to rely on an exclusion;
  • Or be exempt.

For more information, see our article on consumer credit authorisation.   

Which BNPL loans are unregulated?

There is an interest-free credit exemption that applies to BNPL where:

  • The agreement is a borrower-lender-supplier agreement for a fixed sum;
  • Payments are to be made within 12 months;
  • No more than 12 payments are to be made; and
  • No interest or other significant charges apply (interest charges may arise for missing payments)

What may future regulation look like?

The Government has proposed that regulation of BNPL should be proportionate to the risks such agreements present whilst also providing adequate consumer protection. The proposed scope of any new BNPL regulation is that it should be limited to agreements offered by third-party lenders. The Government considered regulating all BNPL agreements provided by businesses online or at a distance, but decided against making the scope so broad on the basis it would potentially capture the types of agreements where there is little if any evidence of there being a substantive risk of consumer detriment.

The proposed new regulatory regime includes the following:

  • Small agreements – As BNPL is frequently used for agreements below £50, the CCA would be amended to specify that newly regulated agreements which do not exceed £50 are not small agreements. This would mean that the CCA would apply to new BNPL agreements of any value.
  • Pre-contractual disclosure – The pre-contractual disclosure requirements under the CCA would be disapplied to BNPL credit agreements. A proportionate FCA rules-based regime would be introduced instead. If the BNPL provider failed to comply with FCA rules, then the FCA could take action under its existing toolkit, the consumer could complain to the Financial Ombudsman Service or claim damages under FMSA if they suffer loss as a result of the breach of FCA rules.
  • Advertising and promotion – The advertising and promotion of newly regulated agreements would fall within the financial promotions regime. If you are unauthorised, you would be required to obtain approval from an authorised person (which could be your lending partner) for the promotion of agreements.
  • Credit broking – Businesses offering newly regulated agreements to consumers as a payment option, would be exempt from such activity being regulated credit broking.
  • Financial Ombudsman Service – Consumers could complain to the Financial Ombudsman Service (FOS) for issues relating to lenders under newly regulated agreements.

What to consider ahead of the proposed regulation

If the Government proceeds as it has proposed, then third-party BNPL providers who are not currently authorised will need to be directly authorised by the FCA to enter into regulated credit agreements as lenders, as well as to exercise, or have the right to exercise, the lender’s rights and duties under a regulated credit agreement.

A temporary permissions regime (TPR) is proposed during the transition period to enable firms to continue to operate until they could transfer to the new regulatory regime and seek full FCA authorisation. Firms in the TPR would be deemed authorised by the FCA and permitted to undertake the regulated activities relating to newly regulated BNPL agreements in compliance with the FCA rules. You would be able to use the TPR where:

  • You have engaged in an activity that will become a regulated activity prior to the day the regulation would commence;
  • You have registered for the temporary permissions regime prior to the day the regulation would commence; and
  • You have paid a non-refundable registration fee.

If you fail to register for the TPR by any deadline set by the FCA, then you would not be able to continue with the newly regulated activity from the day the regulation would commence.

Other things you should consider if the Government proceeds as it proposes include:

  • Post contractual notices – The provision on post contractual notices in the CCA would apply to BNPL agreements. This means that you would be required to send notices to consumers of sums in arrears. There is a prescriptive form and content for the notices as well as timing for when they should be sent.
  • Financial Ombudsman Service – You would need to familiarise yourself with the FOS’ framework as it could have fundamental business model implications. You would also need to ensure that your complaints policies and procedures reflect the consumer’s right to complain.
  • Credit reporting – BNPL providers would be required to provide clear, consistent, and timely credit reporting of newly regulated agreement across the three main credit reference agencies. This reporting would assist lenders when assessing whether to lend to the consumer, so it would be important that you put in place adequate systems in place order to collate and extract that data which would need to be reported in a timely manner.
  • New systems and processes – You would need to consider whether you need to develop new systems to assess customer affordability and credit risk. The FCA would consult on what form creditworthiness assessments will take.

How would the proposed regulations affect businesses?

As a business selling goods and services to consumers, the wider legal and regulatory framework would still be relevant such as consumer protection, financial promotion restrictions and anti-money laundering. It is important you are aware of how any new BNPL regulations would impact your business. For example, what processes do you have in place to ensure that you are treating customers fairly when offering this product?

What other legal obligations would you need to consider?

If the Government proceeds as it has proposed, then you should review the regulations that sit alongside the new BNPL regime. These include the financial promotions regime, as well as the Consumer Duty, which deals with amongst other things, consumer credit, and the consumer’s ability to understand the potential risks of products into which they are entering.

As you start to prepare for the proposed new BNPL regime you should keep an eye on the FCA’s website to stay abreast of the changes that are being implemented and seek legal guidance where necessary.

About our expert

John Pauley

John Pauley

Financial Services Partner
John is a specialist solicitor with extensive expertise in financial services regulation. He advises financial institutions, services providers, and merchants on regulated activities including payments, e-money, consumer credit, data protection, anti-money laundering, and gambling operations.

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