A key banking regulator has published draft licensing standards that could fundamentally change how financial technology companies operate and are supervised in the United States. The new standards come in the final weeks of Comptroller Thomas J. Curry's term in office.
On March 15, 2017, the Office of the Comptroller of the Currency (OCC) published a draft supplement to its licensing manual that explains how financial technology companies may seek special purpose national bank (SPNB or fintech) charters. The move has been eagerly anticipated by fintech companies and traditional banks alike, and already has provoked strong reaction from lawmakers, regulators and industry members.
In issuing the draft, the OCC determined that fintech charters would serve the public interest by (1) establishing a framework of uniform standards and supervision for fintech companies, (2) supporting the dual banking system by offering fintech companies the option of federal or state regulation, and (3) promoting growth, modernization, competition and inclusion in the American financial system. Following a brief overview of the draft, we discuss its significance to the fintech industry and summarize reaction to the proposed licensing standards and challenges facing their adoption.
The Draft Licensing Manual Supplement
The draft licensing manual supplement explains how the OCC will apply existing licensing standards and requirements to fintech companies applying for an SPNB charter. In a companion summary, the OCC explains that SPNB charter-holders will be held to the same operational standards and subject to the same oversight as federally-chartered traditional banks. For example, fintech companies holding SPNB charters must satisfy minimum leverage and risk-based capital requirements that apply to all national banks. They will not, however, be subject to regulation by the Federal Deposit Insurance Corporation, because banks that accept deposits are not eligible for SPNB charters under the current draft. Recognizing that many fintech companies operate differently than traditional banks and therefore pose different risks to the banking system, the OCC may also impose special conditions on these companies during the application process.
These risks and any special conditions would be determined through a multistage review described in the supplement. The process begins when a fintech company submits an overview of its charter proposal to the OCC. The overview must discuss the company's business plan, including a risk assessment, description of internal controls and financial management, and summary of novel policy and legal issues raised by the company's proposal. Notably, the OCC will not approve proposals from companies whose activities commingle banking and commercial services. Although the Community Reinvestment Act applies only to depository institutions, to promote the goal of financial inclusion, the OCC also will require many fintech companies to develop and implement a "financial inclusion plan" to serve populations that are traditionally underserved by the financial industry.
Should the OCC conditionally approve an SPNB charter, the fintech company becomes subject to the regulatory requirements set forth in the approval while the company organizes and progresses toward final approval. Upon final approval, the fintech company receives its SPNB charter and may begin operating as a national association.
If adopted, fintech charters could profoundly alter how financial technology companies do business in the United States. At present, fintech companies are subject to the regulation, oversight and licensure requirements of every state in which they do business. This poses considerable administrative and compliance challenges, particular for small companies that serve customers in multiple states. A national bank charter would preempt most state-level bank regulation, enabling coast-to-coast operation after a single application and subject to a single regulator's oversight. This could encourage existing fintech companies to grow their service areas and new companies to enter the marketplace, potentially expanding the reach of financial services available to consumers and small businesses.
Fintech companies' simplified access to a national market could pose competitive challenges for existing holders of national charters, particularly traditional banks already serving consumers and small businesses. Because fintech companies often have lower operating expenses, direct competition could force established industry players to offer new services or reduce the price of existing services for retail and commercial customers. Similarly, national banks that partner with fintech companies to make loans (an arrangement sometimes known as "Rent-a Charter") would face challenges as their competitive advantage—the limited availability of national bank charters—is eroded.
By preempting most state banking laws, fintech companies that hold SPNB charters would operate largely free of state oversight. While these companies would become subject to federal banking law, to the extent that state rules are more stringent than federal regulation, customers in those states would no longer benefit from those rules. This possibility has opened the OCC's proposal to criticism described below.
The extent to which these effects would be felt in the industry remains unclear. The licensing supplement only outlines the process the OCC proposes to follow. It remains to be seen whether the final rules will render SPNB charters desirable or even viable for fintech companies. If the chartering process is too burdensome, or the attendant obligations too onerous, companies may continue to avail themselves of the existing state-by-state regulatory process. Of course, if few companies ultimately opt to obtain fintech charters, their implications for the industry would be modest.
The Path Ahead
The OCC is accepting comments on its draft licensing supplement until April 14 (comments may be submitted to firstname.lastname@example.org). Of note, Thomas J. Curry's term as Comptroller ends on April 9, though he may remain in the position until a successor is confirmed (the President has yet to make a nomination for the position). In the meantime, reaction to the OCC's march toward fintech charters has been swift and strong.
Earlier this month, 30 members of the House Financial Services Committee urged the OCC to take a more deliberate approach and allow the incoming Comptroller to participate in the process. Other elected officials, including Senators Sherrod Brown and Jeff Merkley, have questioned whether the OCC even has legal authority to grant fintech charters. The Conference of State Bank Supervisors, a trade group of state banking regulators, expressed concern that the new charter "preempts existing state consumer protections" and "exposes taxpayers to the risk of inevitable fintech failures."
Reaction from fintech entrepreneurs has been generally supportive, but others in the industry have been more muted in their praise. Brian Knight, a fintech policy analyst, noted that the OCC's proposal has positive aspects, but described it as "too vague" and potentially creating a "needlessly burdensome process that will hamper the very innovative firms that can best utilize this type of regulatory reform."
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Judging from immediate reactions to the OCC's proposal, we expect it will face a long and difficult road to final adoption. The OCC is likely to receive numerous comments between now and April 14. In the meantime, trade groups and other organizations that represent members of the financial services industry will likely make their views more widely known. Ultimately, Congress may intervene.
Nonetheless, adoption of special purpose national bank charters for financial technology companies could profoundly reshape this emerging industry and transform the delivery of financial services to consumers and small businesses. We urge members of the financial services industry to monitor this process closely and consider taking steps now to take advantage of (or protect their businesses against) the availability of fintech charters.