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WHERE DOES BUY NOW, PAY LATER FIT IN THE FUTURE OF BANKING?

Where Does Buy Now, Pay Later Fit in the Future of Banking?

February 21, 2023

Consumer demand for Buy Now, Pay Later (BNPL), the consumer credit tool that allows people to split retail transactions into smaller, often interest-free payments over time, continues to surge, even outpacing credit card payment growth. 

More than 900 million people worldwide will use BNPL by 2027, compared to 360 million in 2022, according to Juniper Research. That’s more than 150% growth in just five years. 

Other industry data reinforces this growth. According to PYMNTs (as of February 2022):

  • 50 million consumers say they have used BNPL options in the last 12 months 

  • Almost two-thirds of BNPL users have increased their BNPL use over the last year, and

  • 52% of consumers have at least some interest in using BNPL in the next 12 months.

So far, the space has been dominated by non-financial brands, who have won market share by offering BNPL via merchants, driving new sales for retailers rather than supporting consumers. This model has attracted regulatory attention from the Consumer Financial Protection Bureau (CFPB) around responsible lending practices because these providers offer the service based on very limited customer data, potentially putting both the provider and the consumer at higher risk. 

As the CFPB probes non-banks’ practices with respect to underwriting, credit bureau reporting, data privacy and disclosures, financial institutions should welcome the rigor that this regulatory focus will bring to the BNPL space as a whole.  

In fact, financial brands have a market opportunity to take a more informed approach to BNPL and serve customers better. Let’s look at why banks and other financial institutions are best suited to offer BNPL, and what they need to do to deliver better long-term benefits to consumers and their own organization.

Why financial institutions are better positioned to offer BNPL.

Many consumers want to keep doing business with their existing financial institution. Trust is a big factor in any financial services decision, and many financial institutions enjoy a great deal of trust among existing customers. That trust translates into customer loyalty, and interest in new products. In fact, 78 percent of consumers surveyed by The Financial Brand say they would use Buy Now, Pay Later financing options from banks where they already have account relationships.

What’s-Driving-SMB-Demand-for-Embedded-Finance Galileo-
What’s-Driving-SMB-Demand-for-Embedded-Finance Galileo-

Banks are uniquely positioned to build on that trust, by using the data they already have to provide customers with timelier and more responsible BNPL offers. What do we mean by responsible offers? Using the broad set of customer insights they already have, banks have better visibility into the risk profile of each customer, and thus can make more informed BNPL offers. 

By looking at a more complete view of each customer’s financial picture, financial institutions can make BNPL offers that enable customers to extend their resources in a way that supports their financial journey rather than driving up debt and risk for the bank or the consumer. 

Financial institutions can even share this view with customers or offer consumers the option to input their other outstanding BNPL payments into their banking app, to give them a comprehensive view of their current payment obligations (both from BNPL offers and other sources).

This type of responsible lending is really a market imperative. Why? Because responsible lending allows banks to successfully compete, driving new, profitable growth and customer retention, by supporting – rather than detracting from – financial wellness.  

Financial institutions are already well-versed in offering credit, which means they can more effectively assess risk, make timely offers, navigate regulatory reporting requirements and manage these loans in ways that are far more customer-centric, promoting consumers’ financial growth and freedom.

Banks are already bound by regulatory and legal requirements to steer clear of predatory or potentially harmful consumer offers, and they are already fully capable of (and, of course, required to) comply with federal credit bureau reporting requirements that demonstrate both on time payments and missed or late payments.

By contrast, most non-bank BNPL providers have been providing incomplete, if any, information to the nationwide consumer reporting companies (NCRCs). Providing only negative information to credit bureaus (such as late payments or non-payments), is detrimental to BNPL users, as payment history accounts for 35% of a consumer’s credit score – and thus demonstrating on-time payments is by far the biggest factor in improving scores and, in turn, increasing access to affordable credit. It’s therefore imperative that BNPL providers report this positive data in support of consumer financial health.

What’s-Driving-SMB-Demand-for-Embedded-Finance Galileo--1
What’s-Driving-SMB-Demand-for-Embedded-Finance Galileo--1

Responsible lending is a market imperative to drive profitable growth.

But to be a leader in responsible lending and capitalize on these advantages, banks and other FIs must act now. The competitive pressure is on, as non-bank BNPL providers aggressively market to new BNPL users to expand the customer connection and squeeze banks out of the relationship all together.

What do financial institutions need to build their BNPL business case?

While banks can do right by consumers when offering BNPL, all financial institutions still need a viable economic model when considering a potential new service.

BNPL is a way to remain at the forefront of consumers’ minds and drive incremental revenue without a major technology or capital investment. And banks already can point to a trove of data and insights to demonstrate that BNPL isn’t just for younger customers or those who lack the creditworthiness to use traditional credit products. In fact, industry data shows that consumer interest in BNPL extends across generations and earnings levels. 

Plus, programs like Mastercard’s single-use virtual cards grant more interchange revenue at popular merchants than traditional debit and credit products. This potential revenue improvement further supports the business case. 

Given this wide-ranging appeal, banks should be looking at their own customer base and considering how BNPL can help them retain and engage customers in every financial segment. 

The opportunity to increase products per customer, retain more customers of all types, and explore interchange rate improvements makes for a compelling business case for financial institutions weighing whether to get into the BNPL game.

Why banks and other financial institutions have been slow to join the BNPL market.

If banks are so well positioned to offer BNPL, the business case is there, and there’s a sense of urgency in the marketplace, what’s the hold up? Why don’t banks and other financial institutions already own a huge share of today’s fast-growing BNPL market? 

There are two major reasons.

1. Risk and compliance concerns

Not surprisingly, risk-averse banks sat on the sidelines during early market adoption, watching to see if concerns about the BNPL use case would play out–not unlike the early days of Venmo and PayPal before Zelle came along. Early perceptions about demand, and risk – specifically around who is using BNPL and for what purpose – undoubtedly drove some concern. 

Many financial wellness advocates shared these concerns about the ability for consumers to overextend themselves by taking out too many BNPL loans in short succession, and in doing so, hinder their ability to manage their overall credit obligations. 

However, consumer use of BNPL is rapidly changing as more consumers take advantage of the benefits of BNPL to better manage their finances.

According to a September 2022 report from the Consumer Financial Protection Bureau (CFPB), “The financial and operational benefits over legacy credit products are real and sizeable…” and include ease of access and use and financial benefits such as a simple repayment process, no interest and, in some cases, no late fees.  

The financial and operational benefits of BNPL over legacy credit products are real and sizeable.
The financial and operational benefits of BNPL over legacy credit products are real and sizeable.

What’s more, the CFPB points out that “the industry mix of BNPL usage is diversifying. Apparel and beauty merchants, who had combined to account for 80.1 percent of originations in 2019, only accounted for 58.6 percent in 2021.” At the same time, they report BNPL usage for “necessity” purchases (such as gas, groceries, and utilities) has continued to rise, up 434% from 2020 to 2021, and up a whopping 1207% from 2019 to 2020. 

This presents a big opportunity for banks to take the lead as a better provider of BNPL – again using a more comprehensive picture of each consumer’s financial health to make responsible offers of credit that support customers’ long-term financial goals. Banks who embrace this point of view see that BNPL is not only a must-have for customer retention and engagement, it’s also a prime opportunity to support consumers’ financial journeys while also driving profitable growth.

2. Lack of access to point of sale

Even before e-commerce took off, US banks and financial institutions had largely moved away from the physical point of sale (POS) terminal space. Third-party vendors (with a few notable exceptions) have owned the POS space for some time. 

This holds true in today’s online world too: banks and other financial institutions continue to stay out of the fray, allowing third parties to own the checkout experience. Today’s top non-financial BNPL providers capitalized on this opportunity, inserting themselves into merchants’ websites and taking on the heavy lift of building a whole new tech stack that enabled themselves as a payment option on e-commerce websites, right next to the major payments networks like Visa and Mastercard.

For banks, the solution to this hurdle lies in taking a different approach to distributing BNPL offers.

The digital banking core: the heart of the banking future.

While it’s easier today with APIs to get back into the ecommerce space, financial institutions still have big roadblocks to get back into the flow and have their own button and checkout with thousands – or millions – of merchants. So instead, most will go a different route: direct to consumer. 

Adding BNPL capabilities to their digital banking core, financial institutions can pre-qualify their own customers, using their existing, and very robust, lending infrastructure to proactively provide timely, relevant offers to consumers who are already in an FI’s banking ecosystem. 

But banks and credit unions that lack the necessary technical infrastructure and modern banking core may face significant challenges in building a BNPL solution in-house. Such FIs don’t have the time, resources, or expertise to build this product capability from scratch, and the prospect of a total core replacement – referred to as a “big bang” –  is rarely realistic.

Enter the progressive, or iterative, core replacement to a newer generation digital core, like Cyberbank.

The side-by-side iterative process is a cost-effective and efficient way to start moving a legacy banking infrastructure to a new core in small pieces. In this way, each new piece can deliver business value, and is far superior to other strategies that could take years to build, but bring zero additive business value during that time. The clear value of this process is that it keeps the momentum going while the financial institution continues to service customers and add new value over time. 

What’s more, deploying a progressive core replacement as a SaaS model significantly reduces total cost of ownership, and relies on your financial technology platform partner to deploy on the financial institution’s behalf, in the cloud.

Banks can then choose to keep their old core for deposits and add new capabilities – like BNPL or other lending products – on the digital core. Alternatively, they can launch BNPL on Cyber Banking and leave the old core untouched. This gives the financial institution the opportunity to use BNPL (or another new offering) to test the new digital core, and then start moving other capabilities to the new core when the financial institution is ready.

No matter what options a financial institution chooses, it’s time to get to market faster with bank-grade compliant systems and technology, and an expert integration team that can anticipate and address common pitfalls from configuration to compliance to implementation. 

For financial institutions operating on a legacy core, this enables them to offer an integrated customer-centric BNPL experience – among other innovative, customer-centric services – without a major technology project or expense, using software built for banks, by bankers.

Galileo BNPL drives financial health, access and creates a new revenue pipeline.  

Galileo created a better BNPL experience that allows financial institutions to make more valuable loan offers to their customers directly from their existing bank systems. Financial institutions of all sizes have access to the customizable solution, offering them easy entry into the in-demand BNPL market and enabling greater spending power for their customers.

At the same time, Galileo Buy Now, Pay Later takes a more measured approach by incorporating a customer approval or application process into the purchase flow. As opposed to non-bank BNPL companies that may benefit from impulse purchasing, this allows the customer to be more thoughtful about each purchase decision, rather than getting caught up in an e-commerce flow that is focused on the benefit to the retailer or merchant, rather than the customer.

Together with the financial institution, the Galileo BNPL offering can determine if a user is credit-worthy much better than other models, because the customer accepting the offer has some banking history with the financial institution offering the loan.  This factor can protect both consumers from being overextended, and financial institutions from offering too many loans outside of their risk tolerance.

Galileo Buy Now, Pay Later leverages network payment rails to integrate BNPL services into a financial institution’s existing products using Galileo’s Program API. There is no merchant network required, and by default, the Mastercard-issued single-use virtual card issued can be used anywhere Mastercard is accepted unless a merchant has opted out.  

Financial institutions have total control over underwriting, with the ability to make underwriting decisions based on customer knowledge and risk tolerance, rather than relying on external BNPL providers. The rich customer data that banks and other financial institutions have on hand enables responsible lending in ways that non-financial brands cannot begin to deliver.

This is a considerable advantage that enables financial institutions to make stronger and safer underwriting decisions, including how much credit to extend, the number of installments, and other loan details. 

For example, a bank could limit customers to one BNPL loan at a time or offer loan terms based on their deep knowledge of each customer’s financial health. They can also choose whether or not to factor in existing credit score data. Compared to many of today’s popular BNPL services, this is an essential advantage for financial institutions. Learn more from Galileo’s Chief Product Offer, David Feuer about why Galileo’s Buy Now, Pay Later solution is different—and better. 

How Galileo Buy Now, Pay Later works:

Being competitive requires innovating at speed and building adaptable products and services that can scale. Many companies are solving various pieces of the equation, but to design the future of financial infrastructure, banks and fintechs need to be able to access all the building blocks that enable their vision, including financial products fraud mitigation, program management, APIs, managed services and a digital banking core.

To enable Galileo Buy Now, Pay Later, financial institutions simply connect to the Galileo platform via API and choose the BNPL offering that fits their needs. Galileo’s platform provides financial institutions the ability to offer an on-demand BNPL solution to customers and features two key products in its complete BNPL offering:

Single-use virtual cards 

Galileo provides instant issuance and provisioning of a virtual card powered by the Mastercard Installments program. Transaction processing ensures single use of the virtual card. For these cards, Galileo makes it easy by delivering a robust suite of services including: 

  • Card transaction reporting — Posted transactions are reported daily via RDF.

  • Real-time events reporting — Galileo reports posted and pending card transactions in real-time via the Events API.

  • Authorization controls — Financial institutions may participate in authorization decisions via the Auth API.

Loan Management System

Banks and other financial institutions can create loans with payment schedules to be repaid in installments. With the Galileo loan management platform, banks can access repayment schedules, perform disbursements to virtual cards, assess fees and interest, process payments, and create charge offs. A rare capability for processors, this platform gives banks and fintechs the flexibility of loan configuration options, while enabling them to focus more on the customer experience.

Leveraging the full Galileo ecosystem

Financial institutions always have the option of offering Galileo’s BNPL solution in conjunction with their deposit accounts serviced by Galileo, which simplifies payments and disbursement and makes overall program execution more seamless.

Benefits for consumers

As discussed, offering a more responsible BNPL solution means better underwriting; banks and other financial institutions can make better decisions that benefit both the bank and the consumer, because financial institutions know their customer best, and certainly better than third-party BNPL providers. 

In addition, customers enjoy a seamless bank-offered experience with the banking partner they already know. Financial institutions can deliver a customer-centric user experience and choose from real-time personalized offers, displayed right in the bank’s or fintech’s mobile application. If the consumer accepts the loan offer, a single-use virtual card will be added to their mobile wallet, and then can be presented in-store or online at any retailer where Mastercard is accepted (again, unless a merchant has opted out). The single-use virtual card can be offered as a standalone solution if the financial institution already has loan servicing capabilities.

Galileo Buy Now, Pay Later gives bank customers additional options to pay over time without turning to a credit card with high interest rates. Financial institutions offer options that make sense and fit into each consumer’s day-to-day lifestyle.

It’s time for financial institutions to enable BNPL.

From banks to credit unions and neobanks, financial institutions should ride the wave of demand for consumer-friendly BNPL solutions, or risk being swept away from their most valuable customers. And because financial institutions are better suited to offer credit products like BNPL in a responsible, valuable way, they have a unique opportunity to influence not only the market, but the financial health of millions of consumers.

As more Americans are looking for flexible financing solutions, Galileo created a better BNPL experience that allows banks and fintechs to make more valuable loan offers to their customers directly from their existing bank systems...
David Feuer
Chief Product Officer, Galileo

“As more Americans are looking for flexible financing solutions, Galileo created a better BNPL experience that allows banks and fintechs to make more valuable loan offers to their customers directly from their existing bank systems,” said David Feuer, Chief Product Officer at Galileo in a recent interview. “For our clients who are already part of the Galileo ecosystem with checking and savings accounts, offering Buy Now, Pay Later makes it even more seamless for program managers to execute both payments and disbursements.” 

Learn more about how to offer Galileo Buy, Now Pay Later and watch the webinar:

Galileo Financial Technologies, LLC is a technology company, not a bank. Galileo partners with many issuing banks to provide banking services in North and South America.

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