Fireside Chat: Who and What are Regulators Eyeing Next in BaaS?
This week, our fireside chat focused on how regulators’ are shifting their view of banking as a service (BaaS). CEO and co-founder Peter Piatetsky was joined by BaaS and fintech experts Nirvana Patel, Head of Fintech Risk at MVB Bank, who provided insights from the banking perspective, and Gentry Davies, CEO and founder of Crew, a neobank for families, who offered the fintech point of view. Nirvana, Gentry and Peter talked about:
Managing Bank-Fintech Relationships
Sponsor Banks are Responsible for Risks in Fintechs
Sponsor banks are expected to address specific risks in their fintech partnerships. Banks need to consider both day-to-day management risks and potential worst-case scenarios when partnering with FinTechs. This includes assessing strategic alignment and having contingency plans in place.
Partner Vetting
The selection process for bank-fintech partnerships should be thorough and reciprocal. Both banks and fintechs should carefully vet potential partners, considering factors like reputation, technical capabilities, and alignment on roles and responsibilities. In-person meetings and information exchange capabilities are important. Even when a BaaS middleware provider is used, it’s advisable for fintechs and sponsor banks to have a direct line of communication.
Regulator Focus: Enable Innovation and Risk-Based Compliance
Regulators’ Acknowledge Fintechs
The latest OCC guidance specifically addresses banks’ relationships with fintechs, moving on from the “third parties” umbrella term used liberally in previous guidance. This indicates regulators are paying close attention to current events and evolving their approach.
Educate the Regulators
Tri-party meetings involving banks, fintechs and regulators can be an effective way to educate regulators about risk management practices in BaaS relationships. Fintechs can also participate in regulatory discussions, such as responding to inter-agency RFIs, to inform regulators about their business models and practices, helping shape smarter policies and regulations in the future.
Enforcement Not All Bad?
Regulators are supportive of the BaaS space overall, despite recent enforcement actions. The lack of monetary penalties in some recent consent orders may indicate regulators want the sector to mature and improve, rather than be eliminated. They recognize BaaS as important for maintaining competition in the financial sector.
Additionally, the inclusion of remedial action like lookbacks instead of fines in some recent consent orders reinforce regulators attempts to guide the market to risk-based compliance.
High-Risk Practices
In spite of regulator support for an evolving industry, there are financial services and operational structures that are inherently higher risk and will result in greater regulatory scrutiny. This includes:
Pooled Accounts
Pooled accounts present significant regulatory concerns in BaaS arrangements. Regulators are particularly focused on who maintains the ledger and source of truth for pooled accounts, especially when multiple programs use a single pooled account. Banks need to be able to account for all funds at any given time.
Payment and Wire Transfer Apps
Payment and wire transfer apps may face increased scrutiny due to transaction volume and customer retention issues. These types of FinTechs often have higher transaction volumes with less ongoing customer due diligence, potentially creating more risk.
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