The future of fintechs: Risk and regulatory compliance

Fintechs and banks: Blurring the lines

Historically, the mantra of the fintech industry has been: “We are not financial institutions.” Unconstrained by many regulatory requirements that are applicable to banks and other financial institutions, fintechs pride themselves on creating deep customer connections, navigating market trends agilely, and creating disruption for traditional competitors.

But recent regulatory and industry developments suggest the future of fintech will see a potential blurring of the lines:

• Some fintechs are considering or pursuing bank charters, enabling them to compete more broadly and to avoid having to address disparate regulatory requirements across individual states where they conduct business.
• Banks are courting—and, in some cases, are already working with—fintechs to leverage their disruptive capabilities and meet the demands of tech-savvy consumers.

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Fintech risk: So many ways to err

Though diverse in their origins and fact patterns, recent regulatory actions (see Figure 1) specific to fintechs share several traits:

• They involve fintechs—in some cases, household names, and in others, less-known upstarts. 
• They’re all recent and illustrative of the regulatory action being taken today, the oldest being initiated in 2015. 
• They highlight regulatory, operational, and reputational risks that, in many respects, threaten the safety and soundness of a bank or other financial institution.

In addition, the number of actions addressing customer treatment suggest that consumers expect regulatory protection associated with fintech products and services that are bank-like, yet are delivered though non-traditional channels that focus on ease and pace of access.

Illustrative recent regulatory actions involving fintechs

Click on the image for enlarged version

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Rising regulatory voices

In 2016, the Office of the Comptroller of the Currency (OCC) published a paper on its “vision for responsible innovation in the federal banking system.” This initiative opened the door for fintechs to continue their pursuit of growth by working collaboratively with regulators to develop solutions specific to the regulation of their product offerings.

On July 19, 2017, speaking before the Exchequer Club in Washington, DC, Keith Noreika, acting Comptroller of the Currency, expressed strong support for the responsible innovation initiative. He characterized the proposal to grant special purpose national bank charters to fintech companies as “a good idea that deserves the thorough analysis and the careful consideration [OCC is] giving it.”

Coincidently, six days after the acting comptroller’s remarks, Varo Money, a mobile-only fintech company, filed an application with the OCC for a full national bank charter and a complementary application with the Federal Deposit Insurance Corporation (FDIC) for deposit insurance.

Varo became the second fintech company to seek FDIC insurance, following Social Finance Inc. (SoFi), which filed an application with the FDIC in June to establish a Utah-chartered industrial loan corporation (ILC). SoFi’s ILC application reignited a longstanding debate about the efficacy of this type of bank charter, and the FDIC’s decision on granting new ILC charters could have major implications for the fintech industry.

Other authorities are also addressing fintech-related regulatory concerns. In June, the Financial Stability Board (FSB) published a report on the financial stability implications of fintech firms. Although the report concludes that there are “currently no compelling financial stability risks from emerging fintech innovations,” it identifies 10 supervisory and regulatory issues that “merit authorities’ attention.”

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The future of fintech

Regardless of the approach fintech companies take to regulated markets—whether becoming a chartered institution or remaining as they are—they can increase their potential for success by having solid risk management controls in place. Given increasing regulatory attention and the need to have controls that enable them to both know and treat customers well, a compliant company may well be more attractive to the public.

That differentiation could open doors to market share and revenue growth. It might also give a level of comfort to a variety of stakeholders, including:

• The consumers the company interacts with
• The company’s board and management
• Analysts (both rating agencies and equity) who value the transparency and risk management practices of companies
• Regulatory organizations that might take interest in the company

To read the full report on the future of fintechs, download Fintechs and regulatory compliance: The landscape is rapidly changing.

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