Getting to Understand the Regulatory Landscape for Fintech Players
The term “Fintech” symbolizes innovation, agility, and optimization. Unlike traditional financial services that use technology to deliver efficient services, Fintech industry puts technology at the heart of financial services. Since Fintech companies operate more like a technology company than like a traditional financial services firms, they are not subject to the same regulatory framework applied to banks, insurance, and investment management companies. The regulators are primarily responsible for safeguarding the interests of consumers and protecting the economy from any systemic risks. As the volume of fintech business has started increasing, especially, in the area of lending and payment, regulators have started identifying the risks in this area and employing different ways to control this industry so it would not affect their agility. At the same time, there is an increased collaboration between traditional industry and fintech firms to meet regulatory requirements in a more innovative way.
How Banks are Partnering with Fintech Companies to Improve Regulatory Compliance?
A number of global agencies are regulating financial services industry today. Prudential regulators like OCC, FRB, and FDIC primarily focus on safety and soundness of an institution as well as a financial system. The requirements of these regulators are complex and it is difficult for a fintech provider to spend budget to meet these burdensome requirements. One of the key requirements of a regulator like OCC is related to financial inclusion, also known as CRA. This requires banks to examine their activities in localities consisting of low-income groups. Some leading banks have also begun partnering with Fintech firms such as Lending Club and Prosper who are primarily marketplace lenders. This helps banks to reach a wider group of low and medium income groups and improve their CRA score as desired by OCC. This is helping banks as they do not have to open branches in an area with limited business potential for the sake of regulation.
Marketplace lenders provide a small loan that is less than $250K and are primarily active in the segments such as small loan and personal loan. These and other fintech players who deal with money transmission are also subject to state and federal regulations for dealing with money-transfer. They do not have the capacity to apply the licenses with every agency. Therefore, they need partnership with banks to avoid time- consuming licensing process of federal and state government.
What US Authorities are doing on Fintech Regulations?
There are various regulatory authorities in US, each looking into specific aspects of economy and consumer segments. Each authority is evaluating the impact in its area and coming up with control mechanisms. Recently, OCC has created “Offices of Innovation” to help fintech companies discuss their products and service prior to launch. Through this office, it wants to assess potential consumer risks and help fintech companies understand the laws that may be applicable to their products and services. Another authority FDIC, which insured depository institutions in US, has released third-party lending guidelines that incentivize institutions for partnering with marketplace lenders. The objective of the guideline is to enable them to reach wider customer segments and meet the obligations of CRA.
Similarly, Securities and Exchange Commission (SEC), that regulates capital markets in US and safeguards investors’ interests, has started including marketplace lenders for mortgage securitization. SEC has also established a working group to investigate new technologies such as Blockchain. Consumer Finance Protection Bureau (CFPB) that regulates non-banking financial institutions such as wallets and pre-paid cards, launched an initiative, which encourages “consumer-friendly innovation markets for consumer financial products and services.” It has come up with a “no action letter” policy where fintech firms can just submit a letter stating their products and services with the understanding of compliance requirements.
US government is also proposing an act known as Financial Services Innovation Act. As part of this act, the government will create a financial services innovation office (FSIO) within various federal and state regulators. This will help fintech firms to avoid cumbersome compliance process and retain their core DNA. They can just file a petition with the relevant agency and provide an alternate compliance strategy for their products and services. This strategy will show that they would serve the public interests, increase access to financial products and services, promotes consumer protections and would not present a systemic risk to financial systems. If the strategy is approved, then the agency would waive certain regulatory requirements enforced by federal and state regulators.
Fintech Sandbox Approach
The primary financial market regulator in UK, the Financial Conduct Authority (FCA), has authorized a “Fintech sandbox” that allows companies to provide new fintech solutions to limited consumers before requiring to go through regulatory compliance processes. The same sandbox approach has been adopted by other countries like Singapore and Hong Kong. This helps the firms to experiment new products without bothering about the gruesome regulatory need.
Regulators are doing their job to enable an innovative environment while protecting the financial system. As the core business model of the financial service industry is being rebuilt around technology, the compliance environment will be very different than what is there today. An increased collaboration between transitional industry, fintech industry and the regulators will help in smooth transition to a new business model.