OCC Fintech Charter: Considerations for Banks

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fintech-4-12-17.pngThe Office of the Comptroller of the Currency (OCC) recently announced it would move forward with a plan to grant special purpose national bank charters to qualifying financial technology companies. The OCC has solicited comments on the proposal, which it will evaluate to determine whether to formally adopt the process for granting fintech charters. If adopted, companies granted such a charter would become national banks regulated by the OCC, with the attendant regulatory obligations and oversight, and would no longer need to partner with traditional banks to take advantage of preemption of certain state laws. As noted by the OCC Chief Counsel Amy Friend, the first charter may be granted in the first half of 2017.

General Requirements
Under the proposed rule, for a company to qualify for a fintech charter, it must have the appropriate corporate structure, engage solely in bank-permissible activities and adhere to certain regulatory requirements.

Generally, national bank charters subject their holders to specific standards and federal oversight such that the firm can conduct business nationally. Because the proposed fintech charter would be granted under the National Bank Act (NBA), fintech companies would need to adhere to the statute’s governance requirements. For example, a fintech firm chartered by the OCC would need to have a minimum of five board members.

In addition, fintech charter holders only would be permitted to engage in activities authorized by OCC regulations and associated interpretations. These activities can include, among others, lending money, issuing debit cards and facilitating payments, but also investment advisory services and certain brokerage activities. If a given activity is not clearly permitted by the OCC, the firm could seek permission from the OCC, which grants approval of new activities on a case-by-case basis. Beyond OCC regulations, the new charter would impose other laws on a chartered fintech firm, such as the Bank Secrecy Act and related anti-money laundering laws, as well as certain enhanced prudential standards under the Dodd-Frank Act if applicable.

Moreover, a fintech charter holder will be required to meet various supervisory requirements, including that it maintain a business plan documenting its activities, such as with respect to financial inclusion; have a governance structure that reflects the expertise, financial acumen and risk management necessary in light of the proposed business lines; effectively manage compliance risks, such as consumer protection and anti-money laundering; and address potential recovery and resolution. In addition, a fintech firm would need to maintain capital and liquidity commensurate with the risk and complexity of the proposed businesses, including any off-balance sheet activities.

Despite the many requirements the OCC is likely to impose when granting a fintech charter, fintech-chartered companies would have the advantage of no longer being required to register with or become licensed in each state where they conduct business. As enjoyed by national banks, the fintech charter generally would give a company the benefit of preemption under the NBA. Among other features, this would allow the exportation of interest rates from a bank’s home state to other states regardless of the home state’s usury restrictions.

Various stakeholders have reacted to the proposal with differing views. For example, the New York Department of Financial Services submitted a comment letter opposing the proposal and arguing that state regulators are the best equipped to regulate the fintech industry. Others in the industry have voiced their support.

Considerations for Existing Banks
Banks may see fewer partnerships with fintech companies as a result of the fintech charter because NBA preemption means that fintech firms no longer need a bank to obtain the advantage of state law preemption.

The fintech charter holders would not have a material competitive advantage with respect to banks because they are subject to the full panoply of OCC regulation and supervision.

Banks may consider seeking their own fintech charter, perhaps through an affiliate, if particular business lines might benefit or if they are currently chartered in one or only a few states in order to expand their national presence.

Proposed Fintech Charter Could Sprout Waves of U.S. Digital Banks

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I’ve been critical of the U.S. regulators for some time, as the complex mixture of different state, national and federal licensing boards makes it difficult for fintech innovations to break through. This is pretty obvious when you think that there is not a single new digital bank launched in the U.S., when there are dozens across Europe. There, you have N26, Solaris and Fidor in Germany; Knab and Bunq in the Netherlands; and a whole range of new startups in the U.K. including Atom, Starling, Monzo, Loot and Tide. Can you name a new U.S. digital bank?

Well, you may well be naming a few quite soon. Recognizing the innovation in the EU and U.K., the Office of the Comptroller of the Currency (OCC) has announced that it will support fintech innovations from neobanks to special banks, and creating breakthrough possibilities for firms in digital currencies like bitcoin. This is pretty radical, and overrides a lot of the barriers to breaking into U.S. banking today if approved, as the idea is currently under consultation.

The idea is that fintech startups could get licensed by the OCC under the National Bank Act and given a special purpose national bank charter. This is a license used by several firms already, including some trust and credit card banks, and would allow fintech firms to operate nationally without all the overhead of dealing with state regulations. That is a serious breakthrough for American markets and fintech companies if implemented, as one of the reason that you don’t have national neobanks startups in the U.S. is the complex spaghetti of regulations and authorities you have to deal with to get started.

Financial Innovation Now (FIN)—a public policy coalition of Amazon, Apple, Google, Intuit and PayPal—has been one of the key groups applying pressure to the OCC for these reforms. Back in the summer, the consortia produced a fascinating report on the complexity of U.S. financial regulations. As cited by these internet giants, compliance requirements constitute a significant market barrier, particularly for new entrants, and can serve to protect incumbent providers from new competition. Obviously, companies like Amazon and their brethren are listened to and the OCC has responded. Equally, FIN has been calling on the new administration to focus on fintech. At the end of November, the group called on President-elect Trump to embrace technology’s potential to make financial services better for American consumers and small businesses in a letter.

A key paragraph in that letter stated:

Technology and the internet are changing the way consumers and small businesses manage money, access capital, and grow commerce. Financial regulators around the world are paying close attention to this transformation and actively working to adopt policies that attract investment and create jobs in these new services, ultimately benefiting their own consumers and businesses. While America’s financial regulators and Congress have recognized this potential on a bipartisan basis, more leadership and federal coordination is necessary.

What FIN is getting at in this letter is that some markets—Germany, Britain and Singapore in particular—are a hotbed of financial innovation through technology. Does the U.S. want to fall behind? I don’t think so, and Amazon, Apple, Google, Intuit and PayPal are on the campaign trail to make sure it doesn’t. With the OCC and, hopefully, an open ear from a new president, it will be fascinating to see just how radical 2017 will be.