The lure of easy credit has been making waves in the sea of retail and now online purchasing as well. Apps that offer to let you break the price of your purchases up into payments are appearing on websites and at point-of-service checkouts all over the country. The hook is that you do not have to pay interest with short-term payments. But, are they a good deal for you, or does it make more sense to stick with a credit card?
The Three “Rules” for Sound Finances
Rule One is always “living within your means.” This can be a sticking point for anyone. Our incomes, our expenses and our needs are not always on synchronous cycles. It is common to find that we have a large expense or bill that is due just before we get paid. Frustrating! However, if you budget for the income you have, you can make it work. Credit cards are the most common means that we use to make purchases or to pay a bill when we will have the required money soon or over time.
Rule Two is “keeping your credit score as sound as possible (or building it up).” The credit bureaus have an astonishing amount of influence over your financial life. It can determine whether you get approved for an auto loan, can rent an apartment, and even if you are qualified for some jobs. In general, keeping your credit rating high makes your life smoother. The simplest way to do that is to be careful with each payment and loan and be very aware of your debt-to-income ratio.
Rule Three is “make today serve tomorrow.” The purchases you make today must be the right ones for tomorrow. The credit you secure today must have a positive effect on tomorrow. And the best way to make that work is to be sure that your credit use aligns with your future financial goals.
How to Apply the Rule for Sound Finances to the Question of BNPL vs. Credit Cards
All credit comes with a certain level of risk. When one assumes a debt, there is a risk that it cannot be repaid. Retailers, whether bricks-and-mortar or online, benefit when they encourage you to spend more than you have. No cash today? They take credit cards. No card, or maxed out? They have a point-of-sale purchase plan available. Retailers exist to make sales. However, before you ever get to the checkout, you can be more than just a consumer. You can be a personal financial strategist by making sure you can ultimately afford the purchase no matter which payment method you use.
Using Rule One, you begin by asking how much you can afford. Are you using credit because you just do not have enough income to cover your expenses? Or are you using credit to bridge over to the income that will pay off the debt? The answer to that question can make all the difference. Credit cards spread out the entire purchase price over an extended period, whereas BNPL loans are usually much shorter in term, often breaking a purchase into four payments, with the first payment required at the time of purchase. Subsequent payments are typically only weeks apart.
Just like credit cards, one of the biggest temptations is to take more than one BNPL loan. It seems so reasonable to take on several smaller payments, but it all eventually adds up. Is the total payment amount within your means? Would your income really support a loan, or loans, of that payment? The object of credit is to make paying for your purchases easier, but in the end, you are responsible for knowing your limits—and for paying it all back.
Debts Add Up
Whether it is multiple credit cards or loans, you need to be able to track the impact debts are having on your financial wellbeing. That is why InTouch offers many financial calculators, including loan payment and debt payoff calculators.
Looking at Rule Two, credit card companies report your payment history to the credit bureaus and pull your credit history when you apply. If a lot of scores are pulled over a brief period of time or even in a year, you credit score will be affected. Some BNPL companies do not pull scores or report to the bureaus, so there may be no immediate effect on your score for taking the short-term loan or for making on-time payments. However, if missing payments results in collections, then the information is almost always reported to the credit bureaus.
One helpful ratio that financial institutions and individuals use to gauge whether they can take on more debt is the debt-to-income ratio. If you take the time to make a thumbnail calculation of how much you owe versus how much you earn, the percentage may offer you a quick insight into how much of your income is going towards paying off your debt and interest. Knowing what your current financial situation is, as it relates to your immediate spending, gives you a great starting point for deciding about taking on new debt.
Finally, as Rule Three points out, today’s financial activity should be a way to make tomorrow better financially. What that means for BNPL versus credit cards is that you should take a longer perspective for deciding what your method of financing purchases will do for you.
There are benefits to each option for a longer term: credit cards can offer lower minimum monthly payments with options to pay balances off sooner, while BNPL is short-term and predictable but with higher payments as a result. Regardless, each option also exposes you to long-term risks. In the case of an income shortfall, only making those minimum payments on a credit card will result in paying more interest overall, whereas missing a BNPL payment risks stacking up service fees. Therefore, to avoid a potential hit to your credit rating, it is essential that you read the disclosures of BNPL to ensure that you understand the possibility for service fees, interest, and delinquent payment fees, the same way you would read a credit card agreement. Since BNPL payment dates are often set when you make the purchase, you should take a minute to make sure that your paycheck will be deposited before each of the future payments is due. While credit card companies may be amenable to changing payment dates, BNPL are far less flexible.
Ultimately, your financial situation and your goals are the best determiner of whether you are better off using longer- or shorter-term loans for purchases or whether saving up is your best bet. If you’re looking into different financing options to make debt more manageable, InTouch Credit Union offers assistance with budgeting and personal financial management.
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