Alternative payment methods offer value for the UK retail sector

Traditionally, unless a retailer had an agreement with a merchant acquirer – which, in turn, was linked to a card scheme such as Visa or Amex – then the retailer would only be able to accept cash payments from shoppers. Those days are long gone, and the overwhelming majority of retailers now accept payment by card. 

While card payments are reassuringly familiar for shoppers, accepting a card payment can be costly for retailers. The UK Payment Systems Regulator is taking steps to address the issue and improve the card-acquiring market, and recently held a consultation on how to make the market work better for retailers. 

However, there are ways that retailers can obtain better-value card acceptance services. New payment technologies are allowing retailers to bypass the merchant acquirers and find other ways to accept payments from shoppers. What then are the pros and cons of two of the most common alternative payment methods: buy now, pay later (BNPL) and open banking?

Buy now, pay later

In recent years, an increasing number of retailers have redesigned their checkout pages so that, in addition to choosing whether to pay by credit card, debit card or a pre-paid offering, the shopper can opt to pay over a series of instalments. These BNPL options are a credit product and will involve the shopper repaying a debt to a lender over a period of time.

Some BNPL products are already regulated and subject to Financial Conduct Authority (FCA) controls. However, in recent years there has been a rise in the use of unregulated BNPL products. These unregulated products are controversial, but have proved popular, particularly among younger generations. They can help shoppers spread the cost of purchases over a few months; retailers usually see an increase in basket size and have no exposure to the credit risk; and (unlike other credit products) lenders' fees are mostly paid by the retailer and not by the shopper, so this can be a lucrative and low-risk market for lenders. 

Consumer groups and the FCA have been worried by the rise in unregulated BNPL products.

• Often shoppers have not realised that this is credit and quite a different way of paying for their shopping. 
• Not everyone is using unregulated BNPL products as part of sensible budgeting; there are fears these products are stoking impulse buying. 
• Although the individual items purchased might be relatively low value, the cumulative effect of buying several products this way can quickly mount up and become unaffordable. 

These concerns were flagged in the Woolard Review, which recommended that the FCA step in and regulate more of the BNPL arena in order to protect consumers better.

HM Treasury has finished consulting on what steps it should take and is expected to publish its proposals soon. It looks likely that more (but not all) BNPL products will soon be regulated, so that the lenders will need to be authorised (if they are not already), and dealings between lenders and shoppers will be closely controlled. However, it is not yet clear how any new regulations will bite on retailers: will they need to become authorised agents (called "appointed representatives") of the lenders in order to include BNPL offerings on their websites? Will a special regime be devised for them? 

Open banking

Financial technology has become a huge mobiliser of change in transactional environments. As financial technology has developed, so too have the payments options available to shoppers and retailers alike. This change has been particularly evident with the introduction of open banking. 

Regulatory changes in 2017 paved the way for open banking by allowing new categories of regulated providers to access bank or e-money accounts held by their customers at other financial institutions; those regulated providers are able to offer financial services to their customers even if the customer banks elsewhere. 

For retailers, the alternative payment offerings of payment initiation service providers (PISPs) are likely to spark interest. PISPs can initiate payments directly from their customer's bank or e-money accounts at other financial institutions so long as they have that customer’s consent to do so. In the retail context, this means that a shopper can use a PISP's services to make a payment to a retailer (via the PISP) direct from the shopper's bank or e-money account without needing to use a debit or credit card.

There are clearly a few advantages for retailers to routing payments this way:

• PISPs can offer a low cost solution for both retailers and shoppers compared with card payments, which involve various layers of fees for retailers.
• PISPs provide shoppers with a possibility to shop online even if they do not possess payment cards, so opening up accessibility.
• Retailers generally receive payments quicker via a PISP, thereby improving cash flow. The payments are made directly into the retailer's bank account without the need to go through the international card schemes, so there is a much shorter settlement process.
• Arguably, payments made via a PISP are more secure, as shoppers do not pass their credentials to the retailer or to its payment gateway and processor.

However, there are some challenges around using PISPs for payment: 

• Unlike payments made by credit or debit cards, where a shopper makes a payment using a PISP, the shopper will not have any chargeback or section 75 refund rights. This can leave the shopper out of pocket if there is a problem with the goods or services acquired from the retailer, particularly if the retailer has become insolvent in the intervening period.
• Many PISPs have business models that target retailers (who are the payees in transaction). However, their contractual relationship is actually with the shopper and it is to the shopper (the payer in the transaction) that a PISP owes all its regulatory duties. Retailers need to bear this misalignment in mind when considering marketing materials from PISPs.

In any event, the use of open banking products as an alternative to card payments is very much on the rise in the UK. By the end of 2021, 26.6 million open banking payments had been made, which was an increase of more than 500% in 12 months, according to industry organisation the Open Banking Implementation Entity.

Osborne Clarke comment

The pandemic has demonstrated that shoppers are willing to adopt new practices and technologies in order to continue purchasing goods and services. Retailers need not be afraid to take a similar approach so that they receive a seamless and cost-effective payment experience. 

Innovative providers are bringing new technologies and products to the market, and this is also forcing incumbents to up their game. Whether by shopping around for better-value card acceptance services that more closely suit their requirements or exploring alternative payment methods that bypass card payment rails entirely, retailers can benefit from new fintech offerings and obtain improved online and in-store payments provision.