Insights from the 2024 American Fintech Council Policy Summit

Recent AFC Policy Summit breakout sessions focused on critical issues: the FDIC’s proposed changes to the brokered deposit rule and the compliance oversight required in bank-fintech partnerships. These discussions underscore the evolving regulatory environment and its implications for financial institutions and fintechs alike.

Brokered Deposit Proposed Rule

The FDIC’s proposed amendments to the brokered deposit rule aim to eliminate key exemptions from the definition of a “deposit broker.” These changes will affect the cost and placement of fintech-gathered deposits for insured depository institutions. Under current regulations, only well-capitalized institutions are permitted to accept brokered deposits without prior FDIC approval.

• Increased Costs for Banks The proposed 21-basis-point surcharge on the FDIC insurance premium for brokered deposits raises the cost for banks that rely on marketplace providers to gather deposits. In a low-interest-rate environment, this added expense may render fintech-driven deposit-gathering partnerships economically unsustainable for some depository institutions.
• Regulatory Intent and Market Impacts If adopted as final, the proposed rule is expected to slow the growth of marketplace deposit providers. This slowdown would give the FDIC more time to assess and address potential risks these arrangements may introduce to the banking system and the deposit insurance fund.
• Potential Legal Challenges Given the current legal environment, where courts are not obligated to defer to a regulatory agency’s implementation of ambiguous laws, the enforcement of a final rule could face delays due to litigation. Industry observers anticipate that such challenges might postpone the rule’s adoption and impact.

FDIC Requires Daily Reconciliation of Custodial Accounts

To comply with FDIC requirements for pass-through insurance coverage, banks and fintechs must establish the exact amounts owed to each beneficial owner of a custodial account. The FDIC mandates daily custodial account balance reconciliation to ensure accurate tracking of these balances.

Without demonstrable proof that a depository institution can provide the account balances for all beneficial owners, deposits will only be insured up to the $250,000 limit for a single account. This requirement reinforces the need for precise and efficient record-keeping systems, particularly for middleware providers facilitating these custodial accounts.

Evidence of Compliance is Paramount

Bank regulatory agencies now routinely request evidence of monitoring and testing to ensure operational controls are effectively preventing noncompliance. Financial institutions are expected to meet the following requirements:

1. Identify Applicable Laws: Institutions must clearly understand the laws and rules governing their business operations.
2. Implement Effective Controls: Systems and processes must be designed to comply with applicable regulations.
3. Monitor and Test Controls: Regular monitoring and testing are essential to confirm that controls are functioning as intended.

Failure to meet these requirements could lead to significant consequences, including:

• Regulatory criticism;
• Restrictions on existing programs;
• Prohibition of new initiatives; or
• Placement under supervisory orders to address deficiencies.

This heightened scrutiny makes it clear that financial institutions and their fintech partners must prioritize compliance at every level.

Third-Party Oversight: The New Competitive Advantage

As federal bank regulatory agencies and the CFPB intensify their oversight, the ability to demonstrate effective third-party management has become a competitive differentiator. Banks and fintechs that can successfully manage and document their third-party relationships will be better positioned to navigate regulatory challenges and maintain market credibility.

Bank Enhancements

To meet the rising expectations of federal banking and consumer protection agencies, banks must invest in their compliance infrastructure. Key priorities include:

• Building In-House Expertise: Establishing dedicated teams to oversee third-party programs effectively.
• Enhancing Internal Processes: Developing robust systems for monitoring, testing, and reporting compliance activities.
• Engaging with Fintech Partners: Strengthening partnerships by aligning on compliance obligations and risk management practices.

Banks that proactively address these areas will not only ensure regulatory compliance but also position themselves as leaders in an increasingly competitive landscape.

Fintech Enhancements

Fintechs, too, must take steps to maintain stable and productive partnerships with banks. To meet regulatory expectations and build trust, fintechs should:

• Identify and Manage Risks: Clearly define and control compliance and operational risks associated with their activities.
• Demonstrate Compliance: Provide proof of compliance through monitoring results, testing data, and independent audits.

By addressing these priorities, fintechs can position themselves as reliable partners, strengthening their relationships with banks and fostering long-term success.

Guidelines for Risk Management

The Interagency Guidance on Third-Party Relationships: Risk Management (Federal Register, Vol. 88, No. 111, p. 37920, June 9, 2023) outlines best practices for managing third-party relationships. These principles provide a framework for assessing and mitigating risks associated with fintech partnerships, emphasizing sound governance, robust controls, and continuous monitoring. Institutions that follow these guidelines will have a clear advantage over competitors that fail to meet regulatory expectations.

The discussions at the AFC Policy Summit highlighted a clear and urgent theme: the need for financial institutions and fintechs to invest in the people, processes, and systems necessary for effective compliance management.

Banks and fintechs that can demonstrate robust oversight and compliance capabilities will not only avoid regulatory pitfalls but also gain a distinct competitive advantage. By embracing these challenges, the industry can foster innovation while maintaining the stability and integrity of the financial system.