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Treasury, OCC and FINRA Set the Stage for Fall Fintech Debate

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As the summer winds down, regulators are positioning themselves for more oversight of the financial technology (“fintech”) sector. On July 30, the U.S. Treasury Department released a national agenda on how it intends to regulate fintech companies, encourage innovation and harmonize federal efforts with state regulators. The Office of the Comptroller of the Currency (“OCC”) followed up the Treasury report with an announcement that it will begin to accept applications for special-purpose national bank charters for certain types of fintech companies. And on the same day as Treasury came out with its recommendations, FINRA issued a “Special Notice” seeking comment on fintech innovation in the broker-dealer industry. How are these developments going to impact the industry? Here’s a closer look.

TREASURY WEIGHS IN

In a new report designed to “facilitate U.S. firm innovation by streamlining and refining the regulatory environment,” the U.S. Treasury Department made over 80 recommendations to “enable U.S. firms to more rapidly adopt competitive technologies, safeguard consumer data, and operate with greater regulatory efficiency.” The report, titled “A Financial System That Creates Economic Opportunities: Nonbank Financials, Fintech, and Innovation,” contains recommendations that work together to form a comprehensive national framework for companies active in the fintech sector. The report was compiled to address recent trends and data on the financial services industry.

Here are a few of those statistics (From page 5 of the report):

  • More than 3,330 new technology-based firms serving the financial services industry were founded from 2010 to the third quarter of 2017, 40% of them are focused on banking and capital markets.
  • $22 billion has been raised to finance these firms in 2017, a thirteen-fold increase since 2010
  • Technology-based firms account for 36% of all U.S. personal loans, up from less than 1% in 2010.
  • Fintech services reach 80 million members, while consumer data aggregators serve more than 21 million customers.

In addition, the report highlights key trends that led to the Treasury recommendations, including:

  • the rapid growth of technology-enabled platforms to address banking challenges;
  • the combination of non-bank, stand-alone solution providers and new platforms that provide support for, or interconnectivity with, traditional financial institutions through partnerships, joint ventures or other means;
  • the entrance of large technology companies with access to large stores of consumer data into the financial services industry; and
  • the reaction to “technology-enabled competitors” by mature firms which have launched new platforms aimed at reclaiming market share.

TREASURY: CORE RECOMMENDATIONS

The core recommendations of the Treasury report include (i) supporting the issuance of special purpose national bank charters; (ii) enabling bank sponsorships and partnerships with third-party fintech companies; (iii) supporting the development of mechanisms to enable consumers to provide third parties with access to information; (iv) harmonizing federal and state fintech regulatory regimes; and (v) encouraging the development of a regulatory “sandbox” for financial innovation.

The Treasury report also makes specific recommendations on a host of important issues affecting fintech, including: the Payday Lending Rule (Treasury recommends that it should be rescinded); the retail payments system (Treasury says fix it and make it faster); data access (Treasury recommends governance reform, improve disclosures and regulate it); and wealth management and digital financial planning (Treasury recommends designate a single regulator or maybe a special SRO to oversee financial planners), to name a few. For additional detail, please note this additional Treasury-prepared fact sheet. The Treasury acknowledged the significance of digital currencies and blockchain, but opted to defer recommendations until other federal efforts in this area are complete.

OCC FOLLOWS SUIT

Coinciding with the publication of the Treasury report, the OCC announced that it would begin to accept applications for special-purpose national bank charters. OCC also issued guidelines in the form of a Licensing Manual Supplement: Considering Charter Applications from Financial Technology Companies, which “describes OCC policies and procedures used in the charter application process and…discusses the factors that the OCC considers in deciding whether to grant a charter.”

STATES ARE NOT ENTHUSIASTIC

In a section of the report titled “Aligning the Regulatory Framework to Promote Innovation,” Treasury identifies several approaches to provide “clarity and flexibility” for firms seeking to provide financial services. One is that state regulators harmonize “the existing patchwork of state licensing and oversight of nonbank financial services companies.” In this regard, Treasury supports establishing a “Fintech Industry Advisory Panel” to improve state regulation, align multi-supervisory processes and redesign the Nationwide Multistate Licensing System. Treasury also recommends that states work to coordinate financial service examinations for individual firms.

These recommendations come with a not-so-subtle warning. “Treasury recommends that if states are unable to achieve meaningful harmonization across their licensing and supervisory regimes within three years, Congress should act to encourage greater uniformity in rules governing lending and money transmission to be adopted, supervised, and enforced by state regulators.” (p. 70)

States are already expressing substantial discomfort with this approach as well as with Treasury’s support of federal special-purpose bank charters. Critics argue that: (i) states will lose state charter revenue to the federal government; (ii) states are better at regulating consumer-facing financial entities; and (iii) “because national charters preempt state regulations, national banks may not be held accountable to the same kinds of consumer protection laws that state banks are, like usury limits.” These and other objections will likely be litigated by state regulators upon the OCC’s acceptance of its first application.

FINRA ASKS FOR FEEDBACK

On July 30, FINRA issued a Special Notice asking market participants how it could best support fintech innovation while protecting investors. Specifically, FINRA requested comment on the provision of data aggregation services, supervisory processes concerning the use of artificial intelligence and the development of a taxonomy-based, machine-readable rulebook. Comments are due by October 12, 2018. The Special Notice is the latest effort by FINRA’s Innovation Outreach Initiative, which was set up in 2017 to enable FINRA to better track fintech developments.

CONCLUSION

The Treasury report, the OCC Policy Statement accepting fintech charter applications, early reaction by the states and FINRA’s request for comments provide a framework for the debate to come. All of these perspectives laud the potential for innovation and prioritize enabling it. The data and trends that were cited to support Treasury’s recommendations serve to highlight the importance of reducing encumbrances to fintech platforms in order to pass potential benefits through to consumers and investors. But there were few, if any, statistics or trends cited on the downside risk tradeoffs to consumers and investors. Headlines suggest that financial firms will bear the compliance and enforcement burdens that come from the uncertainty created by the regulatory regime to come. That said, the foundation has been laid for the fall debate over national regulation of fintech. Bates Group will keep you apprised of new developments.