Credit Cards

The Problem with Affirm Loans

Affirm's promise of providing an alternative, improved payment method to credit cards has raised the eyebrows of many personal finance experts.

Affirm, an online payment platform, has skyrocketed in popularity recently – drawing $275 million from venture capital investors. The company operates by allowing users to take out loans when checking out from select partnered online vendors. In this way, Affirm has been marketing itself as a better alternative payment method to credit cards by being more transparent, easier, and quicker to use. This promise has raised the eyebrows of many personal finance experts.

Affirm caters to the worst behavior of credit card users – namely, carrying balances. Giving a person the ability to sign up for a 3, 6, or 12-month payment plan isn’t fixing anything about the dangers of credit card misuse. Just because users are aware of the APR they will pay on a purchase, or have a set payment plan put before them, doesn’t mean they should be taking out loans or relying on credit in the first place.

For small purchases, credit should always be thought of as a tool, not a lifeline. Treating it as the latter will ultimately only lead to sinking in debt and a sea of interest charges. Effectively, consumers should aim to only make purchases on a credit card when they know they can pay it off in full at the end of the month – no ifs, ands, or buts. Financing purchases of jewelry, makeup, or longboards is ill-advised.

This image shows a cross-section of products available through Affirm

Affirm is mainly targeting millennials, and is hoping to fill the void which was left by the age group’s mistrust of credit cards. Recent studies have shown that 40% of young adults say they have no interest in using a credit card – a mentality that has been, in part, explained by the effects of growing up during the recent recession. What makes Affirm a potentially dangerous product is the fact that it gives consumers immediate ability to finance purchases they shouldn’t take out loans for in the first place. Just like a credit card, using Affirm gives the ability to make a purchase on a whim - even if your budget doesn’t allow for it.

If you choose to make a purchase using Affirm, your interest may end up being significantly worse than using a credit card – almost certainly if you choose a 12-month payment plan. Below we graphed the difference between the amounts of interest you would pay on an $850 Casper mattress. The example given makes monthly payments of $78.74 for 12 months. For the purposes of the comparison, we applied the average credit card APR of 15%.

This graph shows the interest paid over a period of twelve months for an $850 purchase between an Affirm product and a credit card

The data for the above figures was taken directly from the example product purchase on Affirm’s website. It translates to an APR of approximately 20.28%. This is the ‘middle point’ interest you can pay using the platform. Your APR with Affirm can vary between 10% and 30%. Most credit cards will not charge you an APR of 30%, unless you miss payments and the ‘Penalty APR’ kicks in.

According to the company, the average loan amount an Affirm user takes on is $400, and the majority of their clients choose to finance their purchase for 9 months. This does not bode well for the wallets of their user base. If Affirm consumers are taking on close to a year-long payment plan to cover the cost of small purchases, they are almost certainly paying a great deal of interest on their purchases. We do not think this is a better situation for these consumers than paying for that same purchase using a credit card. While there are no early repayment costs, users will still be on the hook to pay all the interest up until the day they pay off their loan. This also occurs at an unfavorable APR, which would have been better had they elected a shorter financing term.

Max Levchin, Affirm’s founder, is on record as saying he hopes one day the platform will grow to offer loans on auto purchases and mortgages. These are much more reasonable investments, since many consumers simply don’t have the capital to purchase things like a home or a car in full, thus needing a loan.

It is not surprising the company was able to attract investors. The model is highly profitable, since its targets people who can’t afford a purchase, and will go as far as getting a loan to finance it. While consumers are fully aware of the price they will pay for this behavior, they may not realize the bad behavior that Affirm is reinforcing.

Joe Resendiz

Joe Resendiz is a former investment banking analyst for Goldman Sachs, where he covered public sector and infrastructure financing. During his time on Wall Street, Joe worked closely with the debt capital markets team, which allowed him to gain unique insights into the credit market. Joe is currently a research analyst who covers credit cards and the payments industry. He earned a bachelor’s degree from the University of Texas at Austin, where he majored in finance.

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Example of how we calculate the rewards rates: When redeemed for travel through Ultimate Rewards, Chase Sapphire Preferred points are worth $0.0125 each. The card awards 2 points on travel and dining and 1 point on everything else. Therefore, we say the card has a 2.5% rewards rate on dining and travel (2 x $0.0125) and a 1.25% rewards rate on everything else (1 x $0.0125).

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