Five things you need to know about launching Fintech products in the US | Goodwin
With more fintechs looking to expand their business internationally, it can be daunting to navigate varying regulations across national borders. This article focuses on regulations in the United States. For those also focused on expanding to the UK, we have an article covering regulatory aspects to consider, which you can find here.
International fintech companies and startups offering technology-enabled payments, lending and financial products are looking to bring their services to new markets, including the US. Launching financial products and services in the United States requires careful consideration of federal laws and regulations in all 50 states and US territories, as well as rules of industry self-regulatory organizations. Here are five important considerations you need to know and plan before entering the US payment, deposit or lending market.
Payment services and lending-related businesses are regulated under both federal law and a myriad of state and local laws. A particularly difficult barrier to entry is the fact that federal law and the laws of all 50 states (plus certain territories and municipalities) require businesses to register or obtain a license to conduct certain payment and lending-related activities in each jurisdiction in which they do so. business. These laws also have additional compliance requirements, which vary by state, and can present challenges in adopting a nationwide approach.
For payment-related companies, while variations exist between states, a money transmitter license is generally required if the company either (1) receives and transfers funds to another person or location or (2) sells payment instruments or stored value. Money transmitters may also be required to comply with requirements to segregate and secure customer funds, generate accounts and reports and maintain sufficient liquid funds to meet customer obligations. Under the federal Bank Secrecy Act (BSA), money transmitters are required to register with the Financial Crimes Enforcement Network (FinCEN) and implement a risk-based compliance program to protect the US payment system from being used for money laundering or other criminal activities.
Consumer and commercial lenders, as well as loan brokers and debt collectors, may be subject to a variety of state and federal lending regulations. These laws prescribe specific disclosure requirements and reporting obligations. The federal Truth in Lending Act and Equal Credit Opportunity Act focus on transparency in consumer credit transactions and fair access to credit products by requiring consistent financial terms disclosure and prohibiting discrimination based on the applicant’s protected characteristics. State lending statutes focus on protecting state residents from predatory lending practices by requiring lender licenses and limiting the amount of interest and fees a lender can charge. Some states only regulate consumer loans, while others regulate both consumer loans and commercial lending.
The license application processes are similar across the board, but companies generally have to wait for a regulator’s approval of the application before they can start in that jurisdiction. The timing varies between states, from a few weeks to 12 months. When a company is licensed as a money transmitter or lender, it will be subject to supervision and examination by the licensing states. Because there is no uniformity among state laws, a state-by-state analysis to determine the extent to which the licensing and substantive requirements apply to a fintech company’s specific activities is always an important first step before entering the US market .
To reduce their obligations to obtain a license in each state, fintech companies often find it beneficial to partner with a bank or other company that is already authorized and able to offer the regulated financial service the fintech company wants to offer its customers. In this partnership arrangement, the regulated business is carried out by the bank while the fintech company provides the customer interface, acting as a service provider to the bank. Chartered banks in the United States are generally permitted to perform wire transfers and to make loans without government licenses. A bank is also permitted to charge the highest interest rate available in the state in which it is located on credit it extends to borrowers resident in any state, without regard to the interest and fee restrictions in the borrowers’ states that would otherwise apply to the non-states. -bank fintech companies. See Goodwin Fintech Flash: Interest Export FAQs.
Under the banking partnership structure, it is the bank, not the fintech company, that delivers the regulated business. However, as a service provider to the bank, the fintech company is subject to supervision and audit by the bank and the bank’s regulatory supervision. While banking partnerships can significantly reduce fintech companies’ licensing and compliance obligations, the parties may still need plenty of time to negotiate a partnership agreement and decide how they will meet their remaining compliance obligations. Fintech companies wishing to offer financial products and services through a banking partnership should engage experienced advisors to identify the appropriate banking partners and guide the negotiation process. See Goodwin Fintech Flash: Fintech-Bank Lending Partnerships: 8 Key Issues.
In the US, typically only banks are eligible to be members of the Visa and Mastercard networks. And only members of a network can issue credit or debit cards on that network. As such, fintech companies wishing to engage in card business in the US must partner with a member bank to issue fintech-branded cards.
In the payment processing business, only an acquiring bank that is a member of the network can settle the revenue from card transactions on behalf of card-accepting merchants. Although a fintech company may offer services to card issuers, acquiring banks and merchants to facilitate these transactions, funds processed through the relevant card network must initially be acquired and settled by the acquiring bank. Similar considerations exist for processing transactions through the Automated Clearing House (ACH) and other real-time payment and wire transfer systems.
Although a fintech company must rely on a bank to access the payment networks, fintech companies can still manage many aspects of the process, such as designing and managing card programs, acting as a payment facilitator or marketplace, providing customer interfaces and communications, and transferring of funds from the acquiring bank to merchants (provided the fintech company has the necessary money transmitter licenses).
Funds deposited in a US bank that is a member of the Federal Deposit Insurance Corporation (FDIC) are insured up to the coverage limit, which is currently set at $250,000 per depositor, per insured bank, for each account ownership category. Deposits in a bank in excess of this coverage limit are subject to loss in the event of bank failure.
In March 2023, Silicon Valley Bank in California and Signature Bank in New York, which served a technology clientele, were shut down by their respective state banking regulators and entered into FDIC receivership. The FDIC announced it would step in to protect depositors from losses in these two cases, but the FDIC is not required to do so in the future, and the series of events highlighted the risks fintech companies should plan for when establishing banking relationships. For example, bank disruptions may cause uncertainty and delays in certain payment processing services, loss of uninsured deposits and prepaid card balances and inability to accept payments from customers. Having relationships with more than one bank and participating in a deposit “sweep” program, where deposits will be swept to other FDIC-insured banks to maximize returns and FDIC insurance, can help reduce these risks.
Regulation of cryptocurrency activities in the United States is constantly changing and tightening. The issuance, exchange, and custody of cryptocurrency are all subject to regulatory scrutiny by multiple regulators, including the Securities and Exchange Commission (SEC), FinCEN, and various state and local financial services regulators, among others. Cryptocurrency may be regulated as a security by the SEC. FinCEN has also taken the position that certain cryptocurrency activities are money transmission, subject to the BSA. Likewise, many states have taken the same position as FinCEN and required cryptocurrency companies to obtain money transmitter licenses. A growing number of states have introduced cryptocurrency-specific regulations, such as the New York Virtual Currency Regulation, which will require a cryptocurrency service provider to obtain multiple “bit licenses” and comply with additional laws. That said, whether a fintech company engaged in cryptocurrency activities should be licensed in any state depends on whether the business model encompasses one or more of the licensed activities under relevant laws and regulations. The proposed business activity and flow of funds should be carefully reviewed and analyzed to make that decision.
Federal and state banking regulators have increasingly scrutinized banks’ relationships with cryptocurrency companies. As a result, cryptocurrency companies may find it more difficult to open bank accounts and enter into partnership agreements with banks. On January 2, 2023, the US federal banking agencies issued a joint statement discussing cryptocurrency risks to US banking organizations. This statement was interpreted by many as a strong warning to the banks that their activities involving cryptocurrency will be scrutinized by the bank’s regulator and that new lines of business involving cryptocurrency activities may face major hurdles for approval by the regulator. Following the fallout of Silicon Valley Bank and Signature Bank, banks may further distance themselves from cryptocurrency businesses, which are believed to be volatile and more likely than traditional firms to have frequent and large withdrawals.
Therefore, under the current regulatory environment, establishing a banking relationship may require a little more patience and flexibility.
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