Digital intelligence: Next steps for the FinTech charter

More questions than answers

Initial interest in the so-called FinTech charter will be a decent leading indicator for how non-bank financial firms plan to operate within the financial system. While each applicant’s individual situation is different and many questions with licensing options remain, a few open items such as access to the Fedwire or further OCC-FDIC alignment on licensing procedures could make the FinTech charter more overtly compelling.

Since the Treasury FinTech Report was released in late July 2018, we have received many questions from the market. We address some of the more pressing issues below.

If a company pursues a FinTech national bank charter through the OCC (also known as the FinTech charter), is there relief from state usury and other state banking laws and regulations?

Companies that are approved for a FinTech charter will have relief from individual state usury laws—a single regulator versus multiple individual state licenses and regulators is a clear benefit for companies with national operations. Similar to an industrial loan company (ILC) or a national bank charter, the usury ceiling determined by the state of incorporation will be able to be exported nationally. For companies that pursue this path, it could encourage offering additional products such as the issuance of credit and various types of loan and mortgage products, potentially resulting in increased revenue. While reducing the need to continuously monitor multiple sets of state laws is a benefit with a national charter, technically there are still specific consumer finance state laws a company will need to adhere to even with a national charter.

For companies that desire deposit taking capabilities, could the FinTech charter ease the process to eventually pursue an ILC or national bank charter?

For companies that are contemplating the FinTech charter as a stepping stone to a broader license, the OCC application would provide familiarization with the compliance, capital, and liquidity requirements, as well as with the exhaustive process that includes items such as submission of a long-term business plan and the vetting of investors. Still, taking the route toward the FinTech charter is not explicitly a stepping stone to a depository license.

Since no ILCs have been issued since 2008, it is unlikely that the ILC charter would be “easier” to obtain from a regulatory process standpoint if a FinTech charter has already been issued. Market participants have pointed to comments made by FDIC chair Jelena McWilliams that “if it meets the ILC standards as currently set up by the FDIC, I believe there should be no obstacles in the application program.”¹ It is not likely that a previously approved charter would “rubber stamp” future processes, but this has yet to be tested.

Is there validity to the speculation that the OCC and FDIC could work together to align their licensing procedures rather than the current two-stage process?

We do not dismiss the possibility that the OCC and FDIC could further align their process for national charter applicants. For companies that pursue a national bank charter, the OCC requires FDIC deposit insurance which is a separate regulatory approval. It is recommended that the applicant simultaneously submit the same interagency application to both the OCC and FDIC to facilitate information sharing and reduce the application burden. However, this does not ensure synchronized feedback, approval, or action.

For example, the OCC could decide on conditional approval and as such, would specify conditions that are necessary prior to final approval. This could occur prior to action from the FDIC or vice versa. Should applicants simultaneously file interagency applications, the action—whether a returned application with revisions, conditional approval, or other—could be better coordinated as opposed to different timing for separate decisions by both agencies.

We note the above applies to a national bank charter whereas the FinTech charter stipulates a company can operate without FDIC deposit insurance as the applicant company would not take deposits. Should the OCC and FDIC more closely align final action for a national bank charter, this could make the national charter more compelling than an ILC for deposit seeking applicants.

For companies that have already secured state money transmitter licenses, what additional benefit will the FinTech charter provide and could there be a requirement to secure the FinTech charter in addition to state-level licenses at some point?

It remains unclear how the OCC’s FinTech charter may interact with the status afforded to those with state-issued money transmitter licenses and there is no indication that there may be a requirement to secure a FinTech charter license in the future. Money transmitter licenses are commonly used by foreign companies when entering the US market and the FinTech charter will not limit this access. This would also align with one of three primary strategic objectives set by the OCC in its latest annual report to “ensure a vibrant and diverse federal banking system.”² Inclusion of foreign entities helps to achieve this goal, as some of the digital-first banks and FinTech players serving US consumers today are based overseas and the FinTech charter should not inhibit this.

A key advantage of a FinTech charter may be the ability to move beyond money transmissions into other services such as loan origination. This has been a common evolutionary theme across financial services, with many FinTechs expanding their product portfolios beyond an initial core product. Digital payment services were at the forefront of the FinTech movement and expansion into core banking products appears to be a natural progression for organizations that have specialized in the transmission of funds.

Will the FinTech charter grant access to the Fedwire and will the Federal Reserve allow a non-bank holding company to be a member?

Access to the Fedwire (formerly known as the Federal Reserve Wire Network) was not addressed in the Treasury’s July 2018 report. It is unlikely that the Fed will grant universal broad access to the Fedwire (or Federal Reserve Discount Window) for FinTech chartered companies. However, the Fed has suggested in subsequent comments by the OCC that it would consider access to the Fedwire on a case-by-case basis.

Should the Fed allow this access, it would provide a meaningful benefit to pursue a FinTech charter and provide clear differentiation from the alternative state-by-state licensing. This may be particularly advantageous to smaller and regional financial institutions that may seek to leverage FinTechs through partnerships to augment current offerings.

What are the considerations for a company’s growth plans in pursuing a special purpose bank charter versus state-by-state licensing?

State-by-state licensing will continue to be a faster path into local markets, resulting in near term attractiveness. A company that pursues this approach could see its growth potential influenced by the operational and compliance challenges in adhering to 50-plus regulators versus a single regulator. Further, individual state requirements such as physical location determinations and origination fee restrictions are considerations that could influence the extent and pace of regional versus national scale. However, individual states, in contrast to the OCC, do not require a multi-year business plan. This streamlines the state application process when compared to the special purpose national bank charter application.

With a FinTech or national charter, an applicant will need to consider the feedback and requirements that come with the submission of a multi-year business plan. There is a possibility that the OCC will consider the growth and reinvestment assumptions in each applicant’s plan and may suggest modifications for conditional approval, which could limit growth objectives.

Will the OCC FinTech charter permit companies to offer negotiated withdrawal accounts (NOW) or different types of vehicles to hold funds that are not true deposit accounts?

Deposits are explicitly excluded from the FinTech charter. The inability to take deposits limits product development dependent on leveraging deposits. However, the pursuit of such a charter is not necessarily the focus of every FinTech company that has entered the payments or banking space to date, and they may pursue other funding vehicles, including some established through partnerships with deposit-taking entities.

How might the recent lawsuits by the New York Department of Financial Services (NYDFS) and the Conference of State Bank Supervisors (CSBS) against the FinTech charter affect applications and decisions made by FinTechs?

The recent renewed litigation by the NYDFS and the CSBS were expected given previous activity by the organizations—both aim to prevent the OCC from proceeding with the FinTech charter.

At a minimum, the protracted legal proceedings will create uncertainty for potential applicants and delay the timeline before companies pursue this option. We can not speculate on the outcome of these suits, but other states may bring similar claims, adding to the friction. Given the desire for regulatory modernization and renewed demand for charter options, it is possible alternative ILC or national bank charters could see heightened interest due to the OCC legal proceedings.

If Congress or other regulators solve the “valid when made” doctrine (aka Madden) or the role of the bank as the “true lender,” will it shift the benefits of a FinTech or national bank charter?

Solving these disputed points could encourage further entrance into the marketplace lending sector and other routes to offer additional credit products. Further, clarity by Congress and other regulators should reduce the potential for litigation regarding usury statutes. As such, additional incumbent banks may move to to partner with marketplace lenders as investor demand for securitized originations increases, thus providing funding flexibility.

Additionally, a FinTech or national charter could improve the overall stability for marketplace or non-bank lenders. In a tighter credit and funding environment (as experienced by the marketplace lending space in 2016) the significance of a national charter could ease the funding channel constraints due to the required capital and regulatory oversight. Balance sheets that are in a stronger capital position regardless of market condition could add stability to investor interest/demand and provide a greater on-balance sheet backstop to fund lending activities, which could ease overall business volatility for select lenders.

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^{1 https://www.banking.senate.gov/hearings/2018/01/23/nomination-hearing}

^{2 https://www.occ.gov/annual-report/download-the-full-report/2017-annual-report.pdf}