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Podcast 314: Kevin Olsen, Payments Professor

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The payments space was really the first sector within fintech to really get going. And while the payments pioneers like PayPal, Square, and Marqeta (all more than a decade old) have brought us tremendous innovations there is a new wave of developments that will be reshaping the payments industry.

Our next guest on the Fintech One-on-One podcast is Kevin Olsen, also known as the Payments Professor. His day job is as the SVP of Payments Solutions at VSoft but I wanted to get him on the show to give us a Payments 101-type session so we can learn how the payments system works and what new developments we should be paying attention to.

In this podcast you will learn:

  • How Kevin first got involved in payments.
  • What VSoft does and Kevin’s role there.
  • How he became the Payments Professor.
  • The mechanics of how an ACH works.
  • How the FedNow system will work.
  • How fintechs are able to offer early access to paychecks.
  • Why Kevin thinks QR codes are going to get real traction soon.
  • What is means to access to the Fed Payments System.
  • What needs to change for digital wallets to become mainstream.
  • Kevin’s thoughts on crypto and DeFi and their impact on payments.
  • The advantages that a CDBC has for use in payments.
  • His thoughts on Stripe, Square and Marqeta.
  • The payments trends Kevin is most focused on.

You can subscribe to the Fintech One on One Podcast via Apple Podcasts or Spotify. To listen to this podcast episode there is an audio player directly above or you can download the MP3 file here.

Download a PDF of the Transcription or Read it Below

Welcome to the Fintech One-on-One Podcast, Episode No. 314. This is your host, Peter Renton, Chairman and Co-Founder of LendIt Fintech.

(music)    

Peter Renton: Today on the show, I am delighted to welcome Kevin Olsen, he is the Senior Vice-President of Payments Solutions at VSoft, but he’s more commonly known as The Payments Professor. He provides education to bankers and fintech companies and pretty much anyone on payments, particularly when it comes to digital payments, so this is what we’re going to be talking about today. 

It’s sort of a Payments 101-type class in a way which I know that many of the listeners, myself I’m included with this, is we come from a lending background, we don’t necessarily have as much knowledge on the payment side so I wanted to get Kevin on to really help us learn some of the basics, some of the things that we probably should all know, but don’t, and how the payment system works. We cover ACH, FedNow, we talk about QR codes, we talk about access to the Fed Payment System, talk about digital wallets and much more. It was a fascinating episode, hope you enjoy the show.

Welcome to the podcast, Kevin!

Kevin Olsen: Thank you, glad to be here.

Peter: Great to have you. So, why don’t we get started by giving the listeners a little bit of background about yourself. I know you’re known as The Payments Professor, but let’s go back before that and tell us a little bit about the arc of your career.

Kevin: The arc of my career, it’s actually interesting because I recently got asked, how does one get into payments and I tell them, it’s truly on accident. Not many people I know go, I want to go and get in electronic payments, in fact, a lot of people don’t even know what it is. 

I got into electronic payments because a couple of decades ago, I was teaching IT, I was teaching how to be like a Windows Systems Administrator, how to build computers, all that kind of good stuff and I had a student that was visually impaired, I mean, he could not see anything. But I worked with him at this technical college and taught him how to be able to work in computer networks, even taught him to how to hand-build computers and, you know, states do what states do and they decided, since you have so much success in the program, we’re going to just cut your funding (Peter laughs). 

Wait, I’m out of a job suddenly, right, and well, the local newspaper caught wind of this because, you know, the newspaper here is the government does something like that, it’s front page-type news. Okay, it was really page six in a tiny little corner, but they put an article out about it and then the next day, this gentleman shows up at my door at the class and he goes, you’re going to work for me. I’m like, who are you and what am I going to be doing because I do need a job. 

It turns out that he owned a software company that created electronic payments or what we know as ACH or Remote Deposit Capture software and he said, if you’ve been able to work with these kids, you’ve been able to teach them how to build and do computers when they can’t even see it then we’ve got some financial institutions that really need your help. Suddenly, I’m in the banking industry.

Peter: Right, interesting, interesting. So, yes, if you can teach blind people…. the metaphor is obviously there, but bankers are sometimes blind to the changes of fintech. Maybe before we dig in, I do want to make….we’ve got a lot of stuff I want to cover today, but let’s just talk a little bit about VSoft, what your role is there and how it interfaces with The Payments Professor.

Kevin: Okay, let’s start off. VSoft is actually a global payments company, we are based out of India and out of the US, but we have presences in multiple countries and we work in the electronics payments world. We provide a lot of check clearing services and it’s interesting too because a lot of, if you have bankers and credit unions listening in, they’re probably using our services and they don’t know it. I compare it to like Intel Inside, you know, you buy a Dell computer, well, it has Intel inside and you may not know that unless you look at the sticker, right, and we do a lot of the backend things when it comes to check processing, but we also do a lot of things when it comes to the electronic processing. 

The fact that we’ve moving now on VSoft is towards faster payments, towards core systems that are able to move in real-time and what I do at VSoft is I am the strategic visionary, is one way to be able to put it. I am the Company Spokesperson, I’m the one that goes out there and serves on the regulatory boards. You really want to know excitement, you have not lived until you serve on a Electronic Payments Regulatory Board and somebody’s argued the word and versus but for two hours. (Peter laughs). It’s amazing stuff. 

But, I get to be out there serving on these boards, I get to be out there seeing what’s happening as far as where is the industry going, where did the rules, the regulations, sometimes even the politics say the industry is going. And then I come back and I convey that information to our developers, to our software team and this is what we need to build for in the future, this is where we need to be able to make adjustments for, this is what the public is clamoring for. And it is my job to be able to be in that way a “payments whisperer” that I can go through the regulations, I can go to what’s happening in the industry and then I can come and explain it to the software guys because I guess some of that goes back to where I started off in the IT world.

Peter: Right, right, got it, got it. So, how’d you become The Payments Professor?

Kevin: Okay. Becoming The Payments Professor is a really great story. As I got into electronic banking, I ended up getting a job working for what’s called a Payment Association. Their job is just to be able to influence the rules and regulations, it worked kind of like a congressman in electronic payments because they are territorial, they are regional and I worked for an organization that was mainly out of Virginia and Texas and Florida and North Carolina and I would, you know, do all the national stuff, learning the rules and regulations and then I come back at the state level and I would teach it to everybody. 

I would also teach them how to be able to get prepared for a lot of the electronic payments certification programs we have like there’s a program called the AAP, there’s a program called the APRP and another one called the NCP. For people working in the banking industry who want to advance their careers, they need to have that, in fact, our auditors look for those things too and I was teaching those things and people are like, you’re so good at teaching these. You know, I said, “payments whisperer” before, there are people who said, you are the “ACH whisperer,” you’re able to take this stuff and you make it make sense. You know, if you’ve seen any of the YouTube videos, you know, that’s my gift because I can take the complicated stuff in and kick it out in ways that make sense. 

Then I met Mr. Veeraghanta at VSoft and we’re talking and he goes, you need to put this on YouTube and I went, what? He goes, you need to help people, you just help people in a way that makes them understand, I want you to be The Payments Professor and I went, what? (laughs) Again, I’ve already been wearing the bow tie so, you know, the bow tie was already there and he and I together, we had this vision and he said, let’s do this, let’s go ahead and let’s make electronic payments easier to understand. That’s one of the things I strive for, I call it “edutainment.” Electronic banking can be so boring, to have to read the rules, I mean, it can bring you down, but why not bring some excitement into it, why not bring some entertainment into it, why not make it easier for people and I mean everybody, people who are processing payments and people who are receiving payments to understand what happens. 

The questions I get a lot are simple things like, how do we endorse a check or the scary one is my money got stolen, what do I do now and I have just tried to really find ways to answer and provide solutions and understanding and information to the world is what it’s become through the YouTube channel, to VSoft on what it means to work in electronic payments and how it works.

Peter: Right, right, okay. So, let’s get right into today’s lesson, shall we? This is for my interest as well as the interest of the listeners here. We are going to go through a whole bunch of just payments topics so we can become clear. So, we’ve already talked about ACH a couple of times, I want to understand from start to finish what happens during an ACH payment. I mean, you go in, you log into some website, you put in your bank details and you say you want to pay by ACH, yes, and away you go, what happens then?

Kevin: Alright. Well, Peter, get your notepad out because there’s a professor, I’m going to have to give a quiz, just so you know. So, let’s start off, I’ve got a feeling you like to get money, right. Would you be okay with receiving some money?

Peter: Of course.

Kevin: In fact, that’s what you do, you receive money, you receive funds and we’re going to work in the world of credit. So, any of the experts out there listening go on, hey, wait, there’s debits too. Yes, in ACH we have credits and debits and there is a little difference in how they flow, I’m going to stick with the credit for today and, Peter, I’m going to say, you want to be able to get your payroll and you want to get it through what we call direct deposit. You want to have your money on payday in your account when you wake up and you don’t have to do anything, right, isn’t that a nice thing to have. 

How does that happen? The way that happens is you’re going to be the Receiver, that’s your technical term, we’re going to call you the Receiver, you’re going to receive the funds. For that to happen, you first have to go to your company that you work for and we’re going to call them the Originator. There were the payment instructions or the payment itself is going to originate from and you’re going to sign up for the direct deposit, you’re going to provide them with your bank or credit union routing number and account information. Now, that could be easily done with a voided check or you can find that information off your website or off your app, you give them that information. Now, payment has not entered the banking world yet, this is between you as the employee, the Receiver and that business, the Originator. 

Now, the Originator, they’re going to have a relationship with a bank or credit union which we call the ODFI, the Originating Depository Financial Institution, they’re going to take your payroll information along with all your co-workers and they’re going to put it into a file and in that file will be all the payroll transactions for the company and that Originator sends it on to the ODFI. Now, at ODFI, they’re going to do some risk controls, they’re going to make sure the money is there so that you’re going to get paid and the money can be collected and they’re going to make sure that, you know, there’s nothing funny going on, somebody’s not trying to embezzle money even. Once they’ve done all their risk controls, they’re going to take that file and they’re going to forward it on to the Federal Reserve Bank, now we refer to the Federal Reserve Bank as the ACH Operator. 

You know, when I think of the classic operator here, you know, how can I help you, you know, in directing the calls for where they need to go. Well, the ACH Operator, the Federal Reserve, they’re going to direct the payment to where it needs to go. What the Federal Reserve Bank does, ACH Operator, they collect these files all day long, they collect them from every bank and credit union who’s sending ACH throughout the day. As they collect them, they pull them apart and then it makes singular files for the individual banks and credit unions. So, let’s say you’re at Bank ABC, when that files comes from your company that you work for through the ODFI and the Federal Reserve Bank receives it, they pull Peter’s Bank ABC payment as well as any other Bank ABC payment that’s coming through because what is happening is we call that batch, store and forward processing system. 

They’re going to batch together all the payments that go to Bank ABC, they’re going to store them until certain times, until certain windows throughout the day and then they’re going to forward it on to the RDFI, that is the Receiving Depository Financial Institution. In the Receiving Depository Financial Institution, they are the bank or the credit union where the Receiver, you, has your account so that they can then post your money to your account and it’s all magic, just happens over, well, hours to days, depending on the situation.

Peter: Let’s talk about that. So, there are many countries in the world that have instant payments. I’m from Australia and we’ve had it in Australia I think for a couple of decades now and you talked about that VSoft working on instant payments, but the FedNow is …….obviously, the Federal Reserve now has been working on that now for a couple of years, they said it’s coming, it’s coming in 2023 or 2024, how will FedNow change that process you just mentioned?

Kevin: First, I want to say, I’m known for saying a lot of times, I’ve got my own little quotes that people know me by and one of them is “there’s a place for every payment, every payment has its place.” And if we even go back to that process to how that payment flowed, the process is actually the same for every payment channel. We may have different names for the people involved occasionally like sender versus receiver, stuff like that, but the process is still going to be the same, person, financial institution, middleman, which you know is going to be an operator of some sort, receiving financial institution receiver, that type of process is always there. What determines how long it takes is the channel we choose to go like checks, they can take a long time, ACH is a little bit faster.

Every payment system has its pluses and minuses for how we do that. When we look at FedNow and FedNow is going to be a gamechanger, there’s no doubt about it, when it becomes available in 2023. It will be under the basis of doing only credits, there will not be any debits and will be a credit only push system. And because of how it will work to where only I can send money out of my account and I can only push credits, nobody can debit my account and we will have what we call Settlement. 

Settlement is a process that gets confusing a lot of times for non-banking people. Settlement is where money actually moves, see we have happened a lot of times is we don’t have money move, we have the appearance of money moving, we have payment instructions moving, but people don’t realize that money hasn’t really moved until what we have call Settlement. Even in ACH, that Settlement piece, it doesn’t take place all the time, all throughout the day like what will happen at FedNow. 

So, FedNow won’t batch and store things, FedNow is going to be….I want to send Peter money, I hit the button right now, bang, your phone is going to pop up, hey, Peter, the Payments Professor just sent you money. Settlement for that between your bank and my credit union or my bank takes place immediately, within 20 seconds, actually all of that will take place, but it will be a one-off payment instead of being batched toward and forward and that’s going to be the big difference. Instead of batching and storing things together, we’ll have one-off payments that will take place instantaneously, 24/7, 365 too. ACH doesn’t work that way.

Peter: Right.

Kevin: ACH is only when a bank is open or a credit union is open, what we call a banking day.

Peter: I totally get that. That’s what people say that, you know, we ought to send money on a Saturday and it’ll actually be in your account on a Saturday, you don’t have to wait till Monday which is great. So then, I want to go back to your payroll example. You’ve probably seen some of the fintech companies that have been advertising, you can get your pay two days early and I actually have my pay deposited into a fintech company and I do get my pay two days early. What happens there, how can they do it and others don’t, what is the secret to getting it two days early?

Kevin: Well, it does depend on how they are doing it and I say it does depend on how they’re doing it because there’s a couple of different ways it can be done. First of all, there is some risk in what they’re doing and they are willing to accept that risk and they’re accepting the risk that that Settlement piece I talked about may never take place. That final Settlement, they never take place and they’ll be the ones left holding the proverbial bag and not have the money because whoever account they put it into took off with it. 

Well ACH, because it is such a reliable system, it’s actually probably one of the most reliable payment channels we have out there, is reliable for how it works. When we send credit transactions through ACH, you have the ability to send them two days in advance. If that payroll takes place on Friday, it’s typically sent on Wednesday, if not Thursday for it to arrive on Friday and this is great because it does give us security and safety. If something goes wrong, we can fix it, we can pull it back, we can make adjustments, okay, and because they do send it that early and you can’t send it more than two days though, but because they do send it early, a lot of times the banks and credit unions, they are saying in their core systems, hey, the money is here, but it’s not dated to be what we call effective. There’s an actual field called Effective Date in an ACH. It’s not dated to be effective until Friday, so here, it’s Wednesday, I see your transaction, but it’s not effective till Friday. 

So, because I don’t want to put myself in a risk situation, I’m not going to put it in your account and I don’t have to, in fact by rule or regulation, I don’t have to put it in your account and tell that effective date which is on Friday. Now, these fintechs and some of these other banks or credit unions that are doing this, they’re saying, I see this or some of them are just going, I have a history of receiving this on your behalf and I believe because you got good credit, I believe you’re going to continue to get it. So, I’m just going to go ahead and post it to your account, based off on what I believe the amount’s going to be, hoping it will show up or in the case of this one I’m describing, they’re seeing it and just say, I’m just going to go ahead and put it in your account. So, they are taking a risk by basically giving you a short term unsecured loan and making those funds available to you when they do that.

Peter: Got it, got it, okay. I want to switch gears a little bit and want to talk about mobile payments. You know, I’ve spent a lot of time in China over the last few years and, you know, they have Alipay, WeChat, everything is done on a mobile phone. You can go buy a banana from a vendor and you can pay by mobile phone, you can even give money to the homeless, they have a little QR code there. So, everything is done with QR codes and starting to see it a little bit in this country, would love to get your take on the future of QR codes as a payment method. Where do you think….if it’s going to take off, where will that happen?

Kevin: Well, I believe it’s about to happen. I’ll give you two main reasons why I believe it’s going to happen. The first one is my 11-year old, he can do it, okay, if he can do it we’re golden. In fact, he taught me how to do it a little bit, I have to confess. I live in Tampa and during the pandemic, I took my 70-year old mother and my 11-year old son out to eat and we go to eat and one of the first things we come across is a QR code for the menu, not the payment yet, but the menu, right. And, I’m telling my Mom, Mom, we’re going to have to get you a QR code reader so that you’re able to get these menus and even eventually do the payments for these meals and stuff when I’m not with you. 

And she’s like, oh, I don’t need that, I don’t want to get that, it’s going to be hard, it’s going to be difficult. In fact, that’s what we call a friction point right there, it’s a friction point making it hard. Well, my 11-year old son goes, Dad, you don’t need to download anything. I’m like, Son, I’m The Payments Professor, you need to download a QR code. He goes, no, Dad, your camera will do it and he pulls out his phone, yes, he has his own phone, he pulls out his phone and he is able to instantaneously pull up and read this QR code. He showed me one of the key factors, friction has been removed. I don’t have to have a special app, I don’t have to have a special reader and the story does progress where we did actually make the payment with the QR code. Not every restaurant is doing that, but some are doing it and it was a small merchant. Small merchants starting to get it is a huge indicator. 

The second thing that tells me this is going to happen was just last week. I’m a creature of habit, I typically go to the same gas station because I work on a fuel rewards program, I like being able to save up and get, you know, $20 to 30 cents off a gallon every, you know, 50th fill, it seems like and I went to one that was just more convenient because I was in a rush. I’m at this gas pump and I look up and there’s all these QR codes right in the corner, right beside where it tells me how much money I’m spending and how much gas is going in and I look closer at these QR codes and they are payment QR codes. All I had to do was be able to…as soon as it was done pumping, hold out my phone with the app that my 11-year old…he knows it’s out there, the adoption, the friction’s been removed, I don’t have to go in, I don’t have to touch anything, I just pull out my phone and I can now scan that QR code at the pump. 

Now, at the pump is what’s key here too. At the pump has been a huge litmus test for the world of payments. I hate to say it, but it’s really where most fraud gets tested, is at the pump. You’ve heard of skimmers, people skimming and taking your data from cards, that usually happens at the pump because you can hide, you’re not going to be seen, you’re able to get away real quick, but now, to be able to see that the QR codes are showing up there right where I am able to make my checkout, that means they’re coming and I know that they’re coming because more people are starting to expect them. 

VSoft, we’ve had a product in India, like you experienced over in Asia, we’ve had our product in India that’s been available for a few years that any merchant can just post a QR code, you just scan it and your payment goes through. The US has just been slow on that adoption, but I really believe because the friction is being removed and because of the ease of use at the pump or at every location is coming, we will definitely see a rise in the adoption of QR payments.

Peter: Okay. My next question is around access to the Federal Payment System because this is something that I read about quite a bit and, apparently, every bank has access, has a Federal Reserve account. Like you just said, they kind of have access to the payment system, but fintechs don’t, some of them have been arguing that they should. What does it actually mean to have access to the Federal Payment System?

Kevin: That one’s actually a pretty loaded question on how to go about it. I’m going to take it from the point of view of a Federal Reserve bank account, let’s look at it that way.

Peter: Okay.

Kevin: You actually have a Federal Reserve bank account and there’s having an account and having access to one, big difference between the two. To have a Federal Reserve bank account, you must be a financial institution, you must have a true real deal routing number and that’s not just something you can buy off a shelf at Walmart. You’ve got to go through a secure process to be an established financial institution to be able to then set up and have an account at the Fed. So, no routing number, no account at the Fed, but access to that account is different. Access to that account can be because like VSoft, we have Fed line access, we have the ability for being able to have direct connections or things like FedNow, when it becomes available and ACH products, check products, that type of stuff. 

Some, not all, but some of the fintechs have that type of access too and they have it because they have relationships. Like in our case, we work at corporate credit unions and what we call bankers’ banks which are banks and credit unions for banks and credit unions, it’s a whole another level and layer there, and they allow us to be able to make use of their accounts and allows us then to be able to have those connections. So, not every fintech is going to have that type of relationship and established connection, but there are some that are out there that definitely do.

Peter: I want to talk about digital wallets because this may be part of the QR code conversation or not, but we’ve seen obviously a big increase in the pandemic of digital wallets. You know, I use mine, Apple Pay, a lot more than I used to. They’re gaining traction, but still haven’t really broken out where everyone’s using it. What needs to change, do you think, for digital wallets to really become mainstream?

Kevin: It’s back to that friction. It’s the mass adoption capability, it’s when you can use anywhere, anytime and that’s why we see a lot of success with debit cards. Debit cards are accepted pretty much everywhere you go and it can go credit or debit so it’s got options that are there whereas you go back to your digital wallet, you mentioned even Apple Pay. Apple Pay is usable in a lot of places, but definitely not everywhere and it’s because of that….what happens with the end-user experience and, I’m one of those that’s done this, is I got used to using it or I’ve had funds on my Apple account that I’ve gotten as gift cards or stuff like that and I want to go use it and I need to find a place to be able to spend this money. 

It’s only, you know, used in special locations and it’s not a mass adoption so when I hit those, again, it’s a friction point in payments as we refer to it as. When I hit that friction point, suddenly that, yey, I’ve got a digital wallet, oh, I’ve got a digital wallet, how am I going to do this and where can I actually use it. So, I believe a QR code helps solve for this even though in my gas station example there were four different ones, you have to scan the one appropriate to your digital wallet app to be able to use it. But I do believe we are getting closer to that plus you got to be able to go set that up and in some cases, depending on the cards themselves, it can be a task or a challenge. You know, you need a millennial close by to be able to help get everything set up.

Peter: (laughs) Yes, indeed, or a GenZ, okay. So, I want to talk about crypto and DeFi, Decentralized Finance and I also want to talk about Central Bank digital currencies, but first, let’s touch on crypto because a lot of…..you read some of the evangelists here and they basically say that crypto is taking over banking, it’s going to be like in the next decade or two, everything will be done on a decentralized platform. What are your thoughts on crypto and DeFi, particularly when it comes to payments?

Kevin: Oh, I definitely believe it’s coming. Again, I’m one of those that stand on the side and I try to watch what’s happening and a great personal example I can give you is my two sons, I have a 28-year old and I have an 11-year old. My 28-year old was a kid, he would get checks from Grandma and then he would go, Dad, what am I supposed to do with this, okay. So, he will come to the bank with Dad and Dad would turn it magically into cash for him and he was happy. 

My 11-year old, he gets cash from Grandma and he’s like, Dad, what am I supposed to do with this, I don’t want this. (Peter laughs) It’s like, Dad, I want Roblox, he wants a digital currency usage that is in a specific use case too. You know the Roblox video game that’s out there, that’s where he prefers to have his funds, his equity, I guess you can even call it, so he does not want to have the cash, he wants to be in a totally digital world, he doesn’t understand why you even carry it around, he thinks it’s weird, you know. And I even once gave him a $50 bill just so he could it and he’s like, what do you want, why, why, just put it in my account somewhere. 

We are seeing more and more people realizing that the tangibility, the physical money, it’s getting to be a dated concept. You know, certain generations, you have to be able to touch and feel it, our rules and regulations even still say, you’ve got to be able to touch and feel it, but we’re starting to see that they don’t really have to able to touch and feel it. Maybe we can have currencies for specific use cases and they can meet those specific use cases quite well like in the case of Roblox. You can look how much money that company is making through the use of using their own internal-type currency, it’s not actual true cryptocurrency, I want to stress that, but it’s their own internal-type currency, it’s quite effective for their uses. 

I’m starting to see more and more in the world of cryptocurrency too, you’ve heard of Bitcoin. I was blessed I got into Bitcoin not early enough, but a little bit early and has been good to me. I can’t tell you how many people along that journey are like, why would you do that, it’s the tulips, you know, it’s like the tulips in the Netherlands years ago, it’s just going to disappear and it looked like it did. Don’t get me wrong, it looked like it did a couple of times, but then it’s one of those things that, well, wait a minute, it would slowly build momentum. There are definitely people who think it’s never going to happen, but there are just enough of people that think it is, that are causing it to happen and personal opinion, it’s the older outdated thinking that says it’s not going to happen, it’s the people who are afraid of the change, it’s the people who are just holding on to the old ways that are saying it’s not going to happen. 

Whereas, the younger generation, they are more forward thinkers, they’re seeing these use cases, they’re implementing these use cases, they are the ones that are causing more of a rise in the crypto-type and electronic currencies, even the digital wallets, and they are forcing it to happen. So, I do believe it is the payments of the future and we are seeing like the OCC, they came out with an interpretive letter earlier this year, I think it was 1173/1174, not sure of the letter number, but they talked about this, what we call Stablecoins. 

And they even said, hey, financial institutions, you can start working with these things, Stablecoin, that is, however, in doing so, you’ve got to start looking at the risk. That’s a huge indicator for what’s going to happen in the industry when they start getting recognized by a governing body, like in this case the Office of the Comptroller of the Currency, the OCC, who oversees the top tier financial institutions and they say, you can do it, but this is what we want you to look at when you’re doing that. That is one of our earliest indicators of it’s coming in the banking world, we just need things like the FDIC, the NCUA to get onboard as well. 

Peter: Right. What about Central Bank digital currencies, I mean, the Federal Reserve is looking at it, we actually have a session. By the time this is published, it’ll be in the past, but we have a session coming up with someone from the Fed talking about it, but I’m curious about how ……I mean, it’s still not so clear how it’s going to work yet, but we’ve talked about the Federal Reserve and its role in the payments system, what do you think would happen if we end up with the Central Bank digital currency?

Kevin: Well, again, a lot of it is going to come down to point of view. It is another one that I do believe it’s going to happen. My number one indicator why it’s going to happen is because everybody says it’s not, it’s not, you will never need it, you will never do it. You know, I’ve heard that with blockchain, I’ve heard that with cryptocurrency, I’m hearing it currently with CBDC, however, it’s happening in other places around the world and it does have definite use cases, that’s the other thing. You can have money dedicated for specific instances, you have such amazing trackability with it too. 

The other thing is we have worries in the electronic banking world, one of our biggest risk is, it comes with what we call OFAC, Office of Foreign Asset Control. We don’t want to be funding or processing, delivering money that is going to drag cartels, that’s going to terrorism, that’s going to weapons of mass destruction or human trafficking, anything of that nature so there is so much scrutiny over where payments and how payments are flowing in that realm that CBDC helps to eliminate. 

Now, full disclosure, cryptocurrency is not as traceable in that case, that’s one of its biggest concerns, is it’s harder to have some of those risk monitoring apply whereas at CBDC, because it’s internal within the system itself, is easier to be able to monitor, it’s easier to be able to control and trace and it takes away a lot of the anonymity that you have like with cash, it’s really hard to trace cash unless it goes to the banking system. Cryptocurrency has got some traceability issues too, but CBDC, no doubt, it can be traced and it can be monitored, it can be watched and it can be predicted even.

Peter: Okay. We’re running out of time, but a couple of more things I want to get to. I want to hit you with some of the big names in payments and I’d love to kind of get your perspective on it. So, just quickly, let’s start with Stripe, what’s your perspective on Stripe?

Kevin: Stripe did the ability, they removed the friction. I have to say, full disclosure, I use Stripe so, you know, I’m going to be a fan of them. On The Payments Professor website, I got all these courses and all my payments are processed through Stripe. When I first started it, I was not happy, I’m going to tell it to you because I didn’t really have many choices with the website I was using and how it was set up, they’re like, hey, you have to use Stripe, okay. 

Well, I still have some concerns because it can be a little pricey, in my opinion, and I would like to actually be able to go directly to a bank just because of my history and what I know, might be able to get a better deal, but at the same time, Stripe has given me incredible convenience. Stripe is also out there and anybody who’s a small business owner probably knows about Stripe, your consumers out there, they may not, they may be clueless and that’s fine, but it is out there and it is one of the biggest, easiest options that if you’re in an online environment to be able to hook up and start using.

Peter: Right, right, okay. Square?

Kevin: Square is about the same way. Square, you know, came to popularity about 15 years ago when they created the card reading dongle that you could put on a smartphone. I remember getting one of those as soon as I could and it made it to where you now have the adoption of card scanning anywhere you want to be able to go to. That’s one of their big things, is they went out and they took over, I felt like that sector of the industry so that you could be let’s say at a flea market and you could be a merchant of one and you could have the ability for scanning those cards. 

Again, though, a lot like Stripe, it does come with a price. You are typically paying a little higher price than what you would pay with a financial institution and, in fact, that’s where…let’s circle back around to your QR codes, if we circle back around to your QR codes, I believe Stripe’s starting to do this and Square too are having QR-related products. 

I know, VSoft, we have a product called Pigeon where we’re going QR-based too to fill those same issues to where you have the payment, like for example, at a flea market. Imagine you’re somebody there selling something, when you sell, let’s say it’s a guitar, a $1000 nice guitar, you want to make sure you get that money as you watch that guitar leaving you, right, because you’re never going to see it again if you don’t. 

And so, that’s one of the things Square did, is with the dongle you can go ahead and get the card information and process the payment. With our product, Pigeon, we do the same thing, we’ll give you a QR code that right there you can have it pop up and you can do the RTP or the FedNow push payment that takes place in seconds, definite settlement and know it’s there and know that you got your money. And so, those are big things that they are offering and what’s out there and made available.

Peter: So, just a follow up on that. Is that operational now, the Pigeon product, where you can use a QR code for instant settlement?

Kevin: It is, but it is only usable, at this point in time, through RTP and only through a couple of our corporate credit unions that we’re working with.

Peter: Okay.

Kevin: We are also working on getting it out for mass use and mass adoption and because of the pandemic some of that slowed some of that down and it’s been slowly but surely being put out there for everybody.

Peter: Okay. Another company I want to get your feedback on, Marqeta?

Kevin: That’s more of the B2B space is what they’re doing. There’s a great article I read on them today that, you know, they’re using purchasing cards so they do have some physical cards out there, but what they have done is they recognize that the purchasing card is not going away yet or the physical card is not going away. So, they made a big announcement about using recycled cards and they are, you know, going to be more plastic-earth friendly in using their recycled cards. 

But, the B2B aspect is an area that a lot of people don’t realize that so many payments are going through. For example, look at a restaurant, when you look at a restaurant and you go through their menu, almost every single item on their menu came from another merchant. So, if they’ve got milk, that’s coming from the dairy farm, they’ve got, you know, tomatoes, that’s coming from a local farmer and the carrots could be coming from a different farmer. If they’ve got the plates that you’re using, that’s coming from another merchant, the tablecloth, that’s coming from another merchant, the table you’re actually sitting at, that’s coming from another merchant, the cleaning supplies to clean the restaurant, another merchant, I can go on and on and on. 

And so, the world of B2B payments, especially in the case of like a restaurant to be able to keep up with the supply of everything they need for that restaurant for your dining experience to take place, it’s off the charts. People don’t realize that it’s not only them processing the payment for you to come in and eat, it’s not only processing the payroll for the people that work there, but it’s paying all these other businesses that they’ve got to be able to work with too and that’s a huge area, the B2B payments.

Peter: Right, okay. So, last question before we wrap, when you’re looking out into the future what are the payments trends that you’re most focused on?

Kevin: Well, okay. One of the ones that….and I serve on a group called the Payments Innovation Alliance, we have a group called Conversational Payments. We get together and we talk about vocal payments, yes, it’s great to be able to pull up and use my phone, but have you used your watch for anything, have you used like some of the smart rings that they have, what about it being just your voice, talking to….I can’t say her name, it starts with an A and ends with an A and it’s got a LEX in the middle, if I say it she’s going to come on and ask me what I want at the moment (Peter laughs). 

But, if I talk to her and have her do payments for me or the other one does SIR, I, and I said that wrong on purpose too, if you talk to her, you know, the phone devices, we’re seeing that trend starting to move forward of vocal payments. Why stop and have to touch something, why stop and have to actually open up the app if I can just say, hey, so and so, can you pay so and so for this, can you send this money to this person or what’s my bank account balance or oh no, I forgot to pay the insurance, send my insurance payment over to my insurance company right now. 

I believe that’s where we’re going, that it’s going to be even easier, it’s going to be vocal because your vocal print is so unique to you and you can have passwords with it now the thing’s in there. Now, the flip side of that is, you know, the privacy aspect, you don’t want to be on downtown Times Square and be like, hey, so and so, send the money to so and so and here’s the passcode out loud, but there are things that we have to work around it.

Peter: Okay, we’ll have to leave it there, Kevin, really fascinating conversation today. Thank you so much for coming on the show.

Kevin: Absolutely, thank you, Peter.

Peter: Okay, see you.

In many ways, it was payments that really led the fintech revolution with PayPal, you know, 20 plus years ago and now, Square has been around, as Kevin said, for many years and you can see that for a mature vertical within fintech there’s a lot of changes happening and there’s going to be even more happening over the rest of this decade. So, it was good to get, I think, some fundamentals nailed down here. I learned a lot in this episode, I hope you did as well.

On that note I will sign off, I very much appreciate you listening and I’ll catch you next time. Bye.

(music)


Peter Renton is the chairman and co-founder of LendIt Fintech, the world’s first and largest digital media and events company focused on fintech.

LendIt Fintech conducts three conferences a year for the leading fintech markets of the USA, Europe, and Latin America. LendIt also provides cutting-edge content all year long via audio, video, and written channels.

Peter has been writing about fintech since 2010 and he is the author and creator of the Fintech One-on-One Podcast, the first and longest-running fintech interview series.

Peter has been interviewed by the Wall Street Journal, Bloomberg, The New York Times, CNBC, CNN, Fortune, NPR, Fox Business News, the Financial Times, and dozens of other publications.


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Source: https://www.lendacademy.com/podcast-314-kevin-olsen-payments-professor/

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Top 10 Fintech News Stories for the Week Ending October 23, 2021

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This week was all about funding rounds. Fintech raised billions of dollars from investors this week with N26 and FTX leading the way. Plaid is making waves in payments, we now have a bitcoin futures ETF and Facebook launched its digital crypto wallet. Here are what I consider to be the top ten fintech news stories of the past week.

Plaid Pushes Into Payments Business After Scuttled Visa Deal from The Wall Street Journal – Plaid is teaming up with a bunch of big names in payments such as Square, Stripe and Marqeta to create a “pay with bank account option” at checkout, going head to head with Visa and Mastercard.

SEC-approved Bitcoin futures ETF goes live from LendIt Fintech News – After years of trying, a bitcoin futures ETF finally launched this week. The Proshares Bitcoin Strategy ETF (Ticker BITO) is not a true bitcoin ETF, it is focused on bitcoin futures, butit was celebrated widely by the crypto community.

Facebook selects Coinbase as custody partner for its Novi cryptocurrency wallet from Markets Insider – Facebook launched Novi, its digital crypto wallet, this week and selected Coinbase as the custody partner. It also selected Paxos (USDP) as the stablecoin for transactions.

PayPal is in late-stage talks to acquire Pinterest from CNBC – Pinterest was not on my fintech M&A bingo card (it clearly should have been) but PayPal is in advanced talks to buy the social media company as it bets on the future of social commerce.

Two Crypto-Lending Firms Ordered Shut by New York’s James from Bloomberg – This may have been the strangest story of the week, not because the New York Attorney General sent cease and desist letters to two crypto companies, but because it got at least one of the companies wrong (Nexo does not operate in New York). There is real mystery as to who they were actually trying to target here.

FTX raises $420 million in funding round with backing from 69 investors including Tiger Global, Ribbit Capital from The Block – The crypto exchange FTX (formerly Blockfolio), the one with the ads starring Tom Brady and his wife, has raised another staggering amount of money making it more than $1.3 billion in equity funding closed in the last four months.

Challenger bank N26 raises $900 million at $9 billion valuation from TechCrunch – It seemed to me that N26 was falling behind a little after they withdrew from the UK and have failed to get much traction in the US but this funding round will help put them back on track. The CEO said their focus is now squarely on Europe as they look to go public in “3 to 4 years”.

Brex just signed a term sheet for $300M at a $12.3B valuation from TechCrunch – Brex has signed a term sheets for a big new funding round at a higher valuation, just six months after closing a round at a $7.4 billion valuation.

Fanatics Digital Collectibles Firm Candy Valued at $1.5 Billion from Bloomberg – Let’s not forget NFTs in this week’s funding frenzy. Candy Digital, a collectibles marketplace for NFTs, was just formed in June and is now a unicorn (is that a record?). The $100 million investment was led by Softbank and Insight Partners and included the likes of Peyton Manning on the cap table.

Fixed-income titan Pimco is starting to embrace cryptocurrencies, CIO says from CNBC – The world’s largest fixed income asset manager has waded into crypto with some of Pimco’s hedge funds already trading in digital assets and will gradually invest more.

Every Thursday the LendIt Fintech News team and a special guest discuss the news of the week live on LendIt TV, YouTube, LinkedIn, and Twitter. We have now made the show available in podcast format – just click on the audio player below.

The post Top 10 Fintech News Stories for the Week Ending October 23, 2021 appeared first on LendIt Fintech News.

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Source: https://www.lendacademy.com/top-10-fintech-news-stories-for-the-week-ending-october-23-2021/

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Top 10 Fintech News Stories for the Week Ending October 23, 2021

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This week was all about funding rounds. Fintech raised billions of dollars from investors this week with N26 and FTX leading the way. Plaid is making waves in payments, we now have a bitcoin futures ETF and Facebook launched its digital crypto wallet. Here are what I consider to be the top ten fintech news stories of the past week.

Plaid Pushes Into Payments Business After Scuttled Visa Deal from The Wall Street Journal – Plaid is teaming up with a bunch of big names in payments such as Square, Stripe and Marqeta to create a “pay with bank account option” at checkout, going head to head with Visa and Mastercard.

SEC-approved Bitcoin futures ETF goes live from LendIt Fintech News – After years of trying, a bitcoin futures ETF finally launched this week. The Proshares Bitcoin Strategy ETF (Ticker BITO) is not a true bitcoin ETF, it is focused on bitcoin futures, butit was celebrated widely by the crypto community.

Facebook selects Coinbase as custody partner for its Novi cryptocurrency wallet from Markets Insider – Facebook launched Novi, its digital crypto wallet, this week and selected Coinbase as the custody partner. It also selected Paxos (USDP) as the stablecoin for transactions.

PayPal is in late-stage talks to acquire Pinterest from CNBC – Pinterest was not on my fintech M&A bingo card (it clearly should have been) but PayPal is in advanced talks to buy the social media company as it bets on the future of social commerce.

Two Crypto-Lending Firms Ordered Shut by New York’s James from Bloomberg – This may have been the strangest story of the week, not because the New York Attorney General sent cease and desist letters to two crypto companies, but because it got at least one of the companies wrong (Nexo does not operate in New York). There is real mystery as to who they were actually trying to target here.

FTX raises $420 million in funding round with backing from 69 investors including Tiger Global, Ribbit Capital from The Block – The crypto exchange FTX (formerly Blockfolio), the one with the ads starring Tom Brady and his wife, has raised another staggering amount of money making it more than $1.3 billion in equity funding closed in the last four months.

Challenger bank N26 raises $900 million at $9 billion valuation from TechCrunch – It seemed to me that N26 was falling behind a little after they withdrew from the UK and have failed to get much traction in the US but this funding round will help put them back on track. The CEO said their focus is now squarely on Europe as they look to go public in “3 to 4 years”.

Brex just signed a term sheet for $300M at a $12.3B valuation from TechCrunch – Brex has signed a term sheets for a big new funding round at a higher valuation, just six months after closing a round at a $7.4 billion valuation.

Fanatics Digital Collectibles Firm Candy Valued at $1.5 Billion from Bloomberg – Let’s not forget NFTs in this week’s funding frenzy. Candy Digital, a collectibles marketplace for NFTs, was just formed in June and is now a unicorn (is that a record?). The $100 million investment was led by Softbank and Insight Partners and included the likes of Peyton Manning on the cap table.

Fixed-income titan Pimco is starting to embrace cryptocurrencies, CIO says from CNBC – The world’s largest fixed income asset manager has waded into crypto with some of Pimco’s hedge funds already trading in digital assets and will gradually invest more.

Every Thursday the LendIt Fintech News team and a special guest discuss the news of the week live on LendIt TV, YouTube, LinkedIn, and Twitter. We have now made the show available in podcast format – just click on the audio player below.

The post Top 10 Fintech News Stories for the Week Ending October 23, 2021 appeared first on LendIt Fintech News.

PlatoAi. Web3 Reimagined. Data Intelligence Amplified.
Click here to access.

Source: https://www.lendacademy.com/top-10-fintech-news-stories-for-the-week-ending-october-23-2021/

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Podcast 321: Michele Alt of Klaros Group

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Until recently virtually no fintech companies were interested in a bank charter. It was just back in 2016 that SoFi ran a Superbowl ad with the “Don’t Bank. SoFi” tagline. Now, they are looking to become a bank. Square and LendingClub have joined SoFi as approved banks (via different routes) and there are many applications that are still pending. So, I thought it was time to talk bank charters on the podcast.

Our next guest on the Fintech One-on-One podcast is Michele Alt, a co-founder and partner at Klaros Group. We spend a lot of time discussing the various options for fintech companies and we delve into some of the unique ways fintech companies are pursuing bank charters today.

In this podcast you will learn:

  • The impetus behind the founding of Klaros Group.
  • Why fintech companies want a bank charter.
  • The two main categories of bank charters.
  • The five types of exempt bank charters.
  • Why many fintech companies lean towards the ILC charter.
  • The advantages a national bank charter provides.
  • The main stumbling block for fintechs with the Bank Holding Company Act.
  • The interesting avenue that Figure has taken (more on Figure’s charter application here).
  • Why the fintech charter and any other national special purpose charters are dead.
  • How the states have taken the lead when it comes to chartering fintechs.
  • Why Varo’s application has not made it easier for other fintechs.
  • What is behind the frequent application withdrawals by fintech companies.
  • What Michele would do if she was running the OCC right now.

You can subscribe to the Fintech One on One Podcast via Apple Podcasts or Spotify. To listen to this podcast episode there is an audio player directly above or you can download the MP3 file here.

Download a PDF of the Transcription or Read it Below

Welcome to the Fintech One-on-One Podcast, Episode No. 321. This is your host, Peter Renton, Chairman and Co-Founder of LendIt Fintech.

(music)

Today’s episode is brought to you by LendIt Fintech LatAm, the region’s leading fintech event. It’s happening both online and in-person in Miami on Dec. 7th and 8th. Latin America is still the hottest region for fintech in the world and LendIt Fintech LatAm features the leading players in the region. So, join the LatAm fintech community this year where you will meet the people who matter, learn from the experts and get business done. In-person and virtual tickets are available at lendit.com/latam.

Peter Renton: Today on the show, I’m delighted to welcome Michele Alt, she is a Co-Founder and Partner at Klaros Group. I wanted to get Michele on the show because we’re going to be digging deep into bank regulation here, bank charters, fintech charters, the whole nine yards. I learned a great deal in this episode and I’m sure you will too so make sure you stick around all the way to the end. 

We cover the nuances of different types of bank charters, why fintechs go for one charter over another, we talk about some of the unique things that are happening like what Figure is doing, talk about the Wyoming State Special Charter they have there. We talk about Varo’s charter and we also cover some of the things that Brian Brooks talked about last year when he was head of the OCC and Michele also talks about what she would do if she was head of the OCC. It really was a fascinating episode, hope you enjoy the show.

Welcome to the podcast, Michele!

Michele Alt: Well, thank you, Peter, it’s delightful to be back talking to you.

Peter: Yes, indeed. So, let’s get started by giving the listeners a little bit of background about yourself. I know you spent many years as a bank regulator, but why don’t you give us some of the highlights of your career to date.

Michele: Be happy to. I am a Co-Founder of the Klaros Group and a Managing Director of Klaros Advisors. I am a lawyer by training and inclination, I must admit. I spent more than 20 years in various policy and legal roles at the OCC focusing on national bank powers, preemption, inter-agency regulation, licensing and Dodd-Frank. After leaving the OCC, I cut my teeth in the consulting world helping a range of banks with various risk and strategy matters, ultimately, focusing on bank chartering and fintech before leaving to co-found Klaros.

Peter: Right. So, tell us a little bit about that. What was the impetus behind the founding of Klaros Group?

Michele: Well, my partners and I believed that there was a need for a consulting firm focused on the future of financial services. We observed that legacy consulting firms were too tethered to the legacy financial services industry and not really attuned to the business models and technologies that increasingly define financial services in the US and around the globe. So, we set out to build a firm that combined deep experience in the management of financial services businesses, deep regulatory expertise and deep understanding of the capital markets and investment landscape.

Peter: Okay, interesting, interesting. So, I want to dive right in and just talk about bank charters. We’re going to spend a bit of time on this, not the entire interview, but it’s really interesting watching the space over the last several years where, you know, there was initially a real push for a fintech charter and we’re going to talk about that in a little bit, but then in recent times, fintechs are really going after a full bank charter. So, why do you think fintechs, you know, want this bank charter?

Michele: Well, you know, when my fintech clients come to me… they’re typically late stage, they’re worried they’re outgrowing the bank partnership they grew up with. Their options, at that point, are to figure out how to optimize that bank partnership, become a bank, acquire a bank or sell themselves. I work with my clients to figure out which of those options work for them and then help them execute on their decision. 

For the fintech clients who decide they want a bank charter, the reason they do is very simple. A bank charter provides direct access to the payment system, low cost stable funding in the form of insured deposits and in certain instances preemption of state laws so it’s a pretty good deal. Fintechs also…they want to reduce the complexity of their businesses, increase their efficiency and reach more consumers and for some fintechs the bank charter is the way to do that.

Peter: Right. So, let’s maybe talk about the different types of bank charters, I know there are several. Maybe you could kind of just give us a little bit of an overview of the different types of charters that are available.

Michele: Since you don’t want this podcast to be 45 minutes of bank charters, I will try to be brief because it could really be a long discussion, Peter. So, let me rate the charter types into two very broad categories. First Category are those that subject the bank’s parent company to the Bank Holding Company Act, that’s Category One. Category Two is those that don’t.

Peter: (laughs) Okay. So, all charters fit into one of those categories, Id’ say.

Michele: Almost all, almost all, yeah.

Peter: Okay.

Michele: So, on the non-exempt bank charters, so we have two basic types, FDIC-insured national banks , those are OCC-regulated, they’re members of the Federal Reserve and they can engage in a full range of banking services and then there are State Fed member and non-member banks. They are state-regulated and they can also engage in a full range of bank services. So, really on the non-exempt bank charters there are two basic types, national and state and they are full service banks. When we get into the exempt bank charters it gets more complicated and fintechs are typically interested in exempt charters. They are interested in those exempt charters so that the fintechs will not be subject to federal oversight and they can continue to engage within the broader corporate group and activities that may not be permissible for the bank holding company. 

Broadly speaking, there are five types of exempt charters. Let’s start with the one that is always the most popular is number one, ILCs, industrial loan companies or industrial banks, depending on the state statute, they’re the same thing, ILCs and industrial banks are the same thing. They’re offered in about six states, they are state-regulated, they can pretty much do what a full service bank can do with certain limited exceptions that you can work around. They are FDIC-insured, they are very controversial and we’ll get more into that in a minute. 

Number two on the hit parade is the national trust bank, those are OCC-regulated, they can only engage in activities permitted by state laws for state trust banks so they derive their powers from state law. Generally, that means no lending. So, a national trust charter is a very old type of charter, but the OCC recently conditionally approved national charters for several crypto companies which is, of course, a controversial use of that charter and we’ll get more into that in a minute too. 

Number three in the exempt charters are state trust companies, those are state-regulated, basically the same as national trust banks. Now, some states like New York are for trust charters for crypto companies, specifically. 

Number four would be the uninsured national bank, we’re going to talk about that in a minute when we talk about the Figure Bank application. 

And then, finally, Number Five is the Wyoming Special Purpose Depository Institution which is a SPDI, that is primarily a bank that accepts deposits and provides digital asset custody services and is prohibited from lending. A SPDI that is not FDIC-insured does not qualify as a bank under the Bank Holding Company Act so we’ll talk about those in a minute too. And then I would just say that there are some other states that are getting into the Wyoming SPDI game like Nebraska and Illinois and I think that’s a space to watch.

Peter: Interesting.

Michele: (laughs) So, those are the exempt and non exempt 

Peter: Well, you’ve given us a lot to dig into there. Maybe you can talk about the different….like you said, the ILC charter is one that many fintechs are going after and Square has been approved for theirs, but there are then others that are doing the, I don’t know what officially the charter is called, but Varo got this, they were the first.

Michele: That’s a national bank charter.

Peter: That’s just a national bank charter and so they are non-exempt, right.

Michele: That’s correct.

Peter: Yes. So, they have to adhere to all of the Bank Holding Company Act rules. Is the main reason that a fintech would go for an ILC rather than what Varo did, a national bank charter, is it because of some of those rules really aren’t very suitable for fintech companies. Maybe you can talk about that.

Michele: So, ILCs, pretty much every fintech client who comes across the transit for me ask me first about ILCs, they always want an ILC, right, and an ILC is a good gig if you can get it. (both laugh) You get pretty much all of the benefits of a full service bank without the Bank Holding Company oversight, but as I mentioned, they are controversial. Banking industry advocates argue that ILCs are a loophole to the Bank Holding Company Act sort of. Personally, I like this oversight and they argued that loophole should be closed. I would say that that has a receptive body ends of the FDIC, I think that the shift at the FDIC Board recently makes the prospect for new ILCs perhaps a bit dimmer and there haven’t been very many ILCs in the first place. 

There was a moratorium post-financial crisis and then you mentioned Square and now that has two ILCs that got approved for something. I don’t know how many more we’re going to see make it, make it across the finish line, but the other thing to come caution about ILCs is that the FDIC also has proposed a rule that would effectively impose Bank Holding Company Act-like requirements on the parent of an ILC. So, that might lessen the interest in these charters a little bit.

Peter: I mean, if a new fintech were not a new fintech but a new client of yours, potential client, comes to you and says, we’re interested in ILCs, do you advise them because there’s going to be risk involved because as you said, the FDIC Board has changed its make up, they’re not going to approve any more ILCs. So, you could go down that path and not have any luck, do you advise your clients now to sort of go to the national bank charter-type like what Varo did or what do you say?

Michele: Well, not in the first instance. What I do when a client comes and says, I want an ILC, usually, my first question is why, even though I know the why is because they don’t want a Bank Holding Company Act application to their business. But then, I dig a little bit deeper, right, so what is it that you’re concerned about, what is it that you think having an ILC will help you avoid, what are you trying to do. I’m not saying that Bank Holding Company Act application is not a big deal, it is a big deal, but being a bank of any kind is a big deal. 

So, what we do is we just work through the options with these clients and one of the main criterion that I apply is likelihood of approval and that depends not just on charter type, but what is the business at issue, etc. If you read the Nelnet and Square approvals there’s some insights on what the FDIC might be receptive to so it’s really not something I can say, you know, thumbs up, thumbs down about, it depends on the business itself. That said, fintechs should certainly consider national bank charters a la Varo, right. 

There are some really important benefits to a national bank charter for fintechs. Absent a national bank charter to operate nationwide, a fintech company must rely on a complex patchwork of licenses, attempt to comply with conflicting state rules, sometimes conflicting state rules and submit to perhaps a dozen different examinations by state agencies each year, it’s a hassle, right. A national bank charter, by contrast, is a single charter administered by a single regulator pursuant to a comprehensive set of rules. 

So, obtaining a national bank charter will allow a fintech to offer a cohesive set of products and services nationwide, focus it’s compliance efforts on the requirements of a single regulator, reduce its legal and regulatory costs, complexity and risk and offer its customers the security and safety of dealing with a federally-regulated and supervised national bank. That’s great, but it’s a big lift.

Peter: So, what is it about the Bank Holding Company Act that really is a stumbling block, is that something like a number of investors? I think I’ve read, what is the main stumbling block?

Michele: You know, there are often issues about ownership with fintechs. Quite often, they have, you know, very concentrated ownership and that doesn’t always align with the Bank Holding Company Act requirements. Ownership is an issue and often comes down to just are the FTVs, right, that are going to be conducted within the broader corporate group. For many fintechs, it’s no big deal, you know, they are primarily conducting activities that are bank permissible or financial in nature, but sometimes, I’ve had clients that, and I’m not going to name any, it’s no unusual for a fintech to have a brilliant visionary founder/CEO, right. 

Sometimes, they want to get into some pretty interesting (Peter laughs) areas that are just going to be non-starters before the banking regulators. And so, what I often see when we’re talking about when I said, you know, the potential applicant comes to me and says, I want an ILC, I don’t want a bank holding company and I say, okay, how come. In fact, a lot of times, what they’re doing is completely permissible within a bank holding company structure, but they don’t want to be constrained in case something really interesting comes up that they’d like to do.

Peter: Right, that makes sense. So, speaking of visionary founders, I want to talk about Figure and obviously Mike Cagney’s company. We had a session on this a few months back with the general counsel and yourself discussing this in detail and I’ll link to that in the show notes, but when I sort of heard about what Figure was doing I didn’t even know this path existed so maybe you can explain it and why someone would want to go down this sort of path that is not well trodden.

Michele: That’s true, it’s not well trodden. It’s very simple though in concept and here it is. Figure Bank would not take retail deposits, therefore, it would not be FDIC-insured, therefore, it would not be a bank for purposes of the Bank Holding Company Act and, therefore, the holding company will not be a bank holding company subject to that supervision. Very simple in concept, right. 

Deposits, the rest of that stuff does not flow. The thing that’s important to remember when we’re talking about this because a lot of people would say, what do you mean a bank that doesn’t take deposits, right, it doesn’t take insured deposits, I want to stress, insured retail deposits. There is ample historical precedent for this charter, keep this in mind, because the National Bank Act dates to post-civil war, time of Lincoln…….

Peter: Right.

Michele: …..which preceded the Federal Deposit Insurance Act by many decades, right. All of the national banks, originally, were not FDIC-insured. So, lawyers can do what they do and, you know, split hairs and get in the arguments, but that is the crux of it. The National Bank Act is not conditioned or premised on the idea that the banks would be FDIC-insured because when it was written federal deposit insurance didn’t exist. That said, there isn’t a lot of examples of banks currently that are uninsured in the way that Figure is attempting. That decision is pending with the OCC so we will see.

Peter: Right, right, interesting. So then, does this still mean that the fintech charter is dead. I mean, you were at the OCC I think with the genesis of this with Tom Curry, it all sort of came out then. What is the status and your opinion of the fintech charter?

Michele: Yeah. Everything that we’ve been talking about does not lead to the conclusion that the fintech charter is dead, but indeed, the fintech charter is dead, in my opinion. The OCC and I really commend Tom Curry on this, in 2016 recognized that the traditional national banks subject to the Bank Holding Company Act just doesn’t work for many fintechs seeking to innovate within the financial services space. Unfortunately, though, I think that the OCC got out of over it’s skis with the fintech charter in 2016 and didn’t have the buy-in of the other banking agencies or the trade groups and without that, I just don’t think that charter could succeed.

Peter: I mean, we’ve certainly seen a lot of traditional banks, trade organizations, you know, particularly the state, competent state board….supervisors, for example, have come out and they tried to sue to the OCC that there was no charter that had been issued so it was trying out, but I’d love you to weigh-in on this sort of conflict between the state bank supervisers and the fintech companies that want a federal charter-type thing. What do you say to them and what….fintech companies, by definition, are online-based, it knows no state boundaries typically so how do you kind of approach that argument.

Michele: This is a toughie. The debate and the dual banking system, state versus Fed, I am not going to say it’s as old as Adam and Eve, but it’s old (Peter laughs) and I’m not going to be able to solve that problem on this podcast. But, I think what we see, with respect to the idea of the fintech charter, are really good intentions on both sides, right. We see, as I said, the OCC seeking to foster innovation, right, in the national banking system and do so in a way that accommodates fintech business models, that’s great, right. 

On the state side, we see similarly good intentions, right, but what the CSBS typically points out is state regulators often are the incubators for innovation, we’ll get to that, the SPDI is a good example of that and that they are primarily focused on consumers in their states and know their needs very well, right, and are concerned about what might appear to be a work around some of the regulatory burdens that their state banks are faced with. Their state banks are not getting a pass on the BHCA.

Peter: Right, right, got it. So, before we move on, I want to just go back to revisit the Special Purpose Charter which is what the fintech charter was because we had Brian Brooks who had a short but quite active time as acting head of the OCC late last year and early this year, I mean, he was really vocal about how we should have special purpose charters. He talked about the fintech charter, he talked about the payments charter, what are your thoughts on those sort of narrowly-defined charters.

Michele: Well, I also commend Brian Brooks on his desire to foster innovation in the national banking system, but I think the current regulatory environment just isn’t conducive to new types of charters. With the caveat and in a minute we’ll talk about the possible StableCoin issuer charter that’s very intriguing, but leaving that aside, I think it’s also important to remember, there’s a lot you can do within the existing national bank charter, for example, or some of the state charters. 

So, within the existing national charter as we see, you’re not demonstrated by the Figure application, you can accommodate some very innovative business models and, as I said, there are a number of the SPDIs and the trust charters that we recently conditionally approved for some crypto companies show that within very, very old legal frameworks, innovation is possible.

Peter: Well, can we touch on that then now like the Wyoming Charter which….you know, they’ve granted the charter to at least two crypto companies, Avanti Bank and Kraken, can you describe what is unique about what Wyoming has done.

Michele: First let me say, I think that the Wyoming SPDI and other similar efforts afoot show that the states are going to eat the Fed’s lunch, right. (both laugh) As the winds are blowing cold on crypto in DC right now, there is more and more interest in developing these state charters. I’m getting more questions about it and I don’t see the state regulators, you know, comparing crypto to credit default swaps, right, they are very much signaling that they are open for business and receptive to new applications. 

So, I promise this will be my last commendation at the podcast, but Albert Portner in Wyoming has really provided a very interesting option allowing SPDIs to accept all types of deposits, including demand deposits from consumers which may be an on-ramp to crypto and other digital assets like in the Kraken Bank model. So, I think there’s much to be explored there and with, as I said, similar state efforts.

Peter: You keep saying SPDIs, I haven’t heard that term before, would you explain that.

Michele: Oh, I’m sorry. It’s Special Purpose Deposit Institution.

Peter: I’ve heard that, I just didn’t think that was how it was said.

Michele: (laughs) Are we talking about Speedy Gonzalez here?

Peter: Right, right, okay, great. So, let’s go back to Varo because…I believe you worked on that as well, but that was a long process and they got it over the line. It’s always hard to be first, but do you think that the fact what Varo has done has paved the way for an easier time for fintechs to go down that route now?

Michele: I don’t think it’s ever going to be easy (Peter laughs). You know, I just, a moment ago, promised that was going to be my last commendation and I know I’m doing a lot of commending on this, but my hat is off to Colin Walsh and his team including his general counsel, Marina Gracias. A De Novo National Bank application is not for the faint of heart. Varo applied for and received approval for a national bank charter then it had to apply for FDIC insurance which got approved, then they had to apply for status as a bank holding company, right, that is a lot of work. 

So, in response to your question, do they make it easier for other fintechs? No, they provide a model which is very important, they provide an example that the lift is large, but it’s not impossible. But, any applicant for a bank charter should prepare for a very lengthy chartering or perhaps change of bank control application if they go the acquisition route and if they succeed, a very high degree of regulatory complexity and scrutiny, right.

Peter: So, should it take three years, is that what people should expect which I think is roughly what it was for Varo.

Michele: I don’t think it should take (Peter laughs) three years, I don’t think the process is going to be fast. One important difference I think in the current environment, and we’re seeing and Michael Soo has made an important point of this which is we’re seeing a greater emphasis on inter-agency coordination in reviewing these applications. I think that one thing that’s kind of unfortunate is, speaking of the OCC, the OCC and the FDIC have slightly different application processes, but they use the same application. So, I think in Varo’s case and there were good reasons why it did a serial set of applications that I described, first National Bank and FDIC and the Fed, you can apply for the bank charter and the FDIC insurance at the same time which may reduce the overall processing time.

Peter: So, I’ve seen a lot of fintech companies over the years, let’s say some, they apply and then they withdraw the application. Why do they do that, is that just inexperience or is there some reason behind this apply/withdraw kind of process?

Michele: Nobody should ever apply thinking they may withdraw. Withdrawals happen for a variety of reasons. One reason though is that the agency has determined that the application will not succeed, either it’s not complete as presented or raises fundamental concerns on the part of the regulator. Common concerns with fintech applications are lack of profitability at the parent level or uncomfortable with banking and commerce. Those are two things that give regulators quite a bit of heartburn. The profitability issue, it’s a real rub. 

Fintechs often focus on growth over profitability, at least in their initial phases, and that is not an approach that the regulators are particularly comfortable with, right. Pursuant to Dodd-Frank, the parent company of a bank is required to serve as a source of financial and managerial strength to the subsidiary bank so if the parent is not profitable, that raises concerns about its ability to serve as a source of strength. These are issues that can tank an application or at least cause it to be withdrawn and resubmitted. I always tell my clients, we’re not going to go forward if there is any risk of withdrawal.

Peter: Obviously, profitability isn’t a deal breaker because Varo has not been profitable and they were approved so what’s the rub there?

Michele: I do believe Varo is intending to be profitable within the de novo period and that is, in fact, a hard requirement of the regulators.

Peter: Okay.

Michele: They don’t expect profitability out of the gate, but they do expect a bank to achieve it within three years.

Peter: Got you. So, final question, I want to sort of do a little fantasy game here like let’s say the current OCC pick is rejected and President Biden puts your name forward, you are confirmed by the Senate and you’re running the OCC, what changes are you going to make? I’m particularly interested in things that would make it better for fintech companies.

Michele: If in this fantasy I were leading the agency, I would make changes that would help consumers and help banks and fintechs by leveling the field on which they compete. I’m deeply concerned that a significant portion of Americans receive their financial services outside the regulated banking system. 

The fundamental purpose of bank regulation is to protect consumers and without visibility into what’s called the “shadow banking system,” the banking regulators really can’t protect these consumers. Unfortunately, I think that recent statements from Washington are reflective of a profound reluctance to allow fintechs into the regulatory fold and keeping fintechs out of that fold means that the banking regulators will not have to address the risk of certain innovative business models.

Peter: Right.

Michele: And it will mollify banking industry advocates worried about competition from fintechs and, therefore, opposed to chartering them, but it won’t keep consumers from seeking alternatives to banks and, therefore, really won’t keep the fintechs from eating the banks’ lunches. (laughs) There’s a lot of lunch-eating going on in this podcast right now, maybe I’m hungry. In other words, there’s a consumer demand for services provided by fintechs, that’s clear, right. 

Fintechs are going to meet that demand and unless chartered, fintechs will be able to do so free of the costly regulatory burden imposed on their bank competitors and that’s a fact. In my opinion, the best way to ensure consumer protection and healthy competition among financial services providers is to require fintechs offering banking services to consumers to apply for bank charters and submit to the rigorous oversight to which banks are subject.

Peter: Okay, interesting, simple and probably not what every fintech wants to hear, but it’s a great point to end on. It’s been really insightful, Michele, I’ve learned a lot today, I hope the listeners have as well. Thank you so much for coming on the show.

Michele: It’s my pleasure, thank you, Peter.

Peter: Okay, see you.

Michele: Bye.

Peter: You know, Michele and I were chatting after we stopped recording just now and we figured, it’s almost amusing in some ways how some of the banks and the bank trade associations how they have approached fintechs, in general. On the one hand, they say, well, it’s not fair because fintechs have a lighter lift when it comes to regulation, on the other hand, it says, we don’t want them to become regulated. So you can’t sort of have it both ways. 

The reality is it’s inevitable that the major players in fintech are all going to become fully regulated banks, there may be one or two exceptions, but the vast majority, if you want to be a really national scale fintech company and you really do want to have some kind of bank charter and that’s what we’re starting to see. I think, long term, it’s inevitable that we are going to see most of the major fintech companies with charters.

Anyway on that note, I will sign off. I very much appreciate your listening and I’ll catch you next time. Bye.

(music)

Today’s episode was brought to you by LendIt Fintech LatAm, the region’s leading fintech event. It’s happening both online and in-person in Miami on Dec. 7th and 8th. Latin America is still the hottest region for fintech in the world and LendIt Fintech LatAm features the leading players in the region. So, join the LatAm fintech community this year where you will meet the people who matter, learn from the experts and get business done. In-person and virtual tickets are available at lendit.com/latam

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Podcast 321: Michele Alt of Klaros Group

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Until recently virtually no fintech companies were interested in a bank charter. It was just back in 2016 that SoFi ran a Superbowl ad with the “Don’t Bank. SoFi” tagline. Now, they are looking to become a bank. Square and LendingClub have joined SoFi as approved banks (via different routes) and there are many applications that are still pending. So, I thought it was time to talk bank charters on the podcast.

Our next guest on the Fintech One-on-One podcast is Michele Alt, a co-founder and partner at Klaros Group. We spend a lot of time discussing the various options for fintech companies and we delve into some of the unique ways fintech companies are pursuing bank charters today.

In this podcast you will learn:

  • The impetus behind the founding of Klaros Group.
  • Why fintech companies want a bank charter.
  • The two main categories of bank charters.
  • The five types of exempt bank charters.
  • Why many fintech companies lean towards the ILC charter.
  • The advantages a national bank charter provides.
  • The main stumbling block for fintechs with the Bank Holding Company Act.
  • The interesting avenue that Figure has taken (more on Figure’s charter application here).
  • Why the fintech charter and any other national special purpose charters are dead.
  • How the states have taken the lead when it comes to chartering fintechs.
  • Why Varo’s application has not made it easier for other fintechs.
  • What is behind the frequent application withdrawals by fintech companies.
  • What Michele would do if she was running the OCC right now.

You can subscribe to the Fintech One on One Podcast via Apple Podcasts or Spotify. To listen to this podcast episode there is an audio player directly above or you can download the MP3 file here.

Download a PDF of the Transcription or Read it Below

Welcome to the Fintech One-on-One Podcast, Episode No. 321. This is your host, Peter Renton, Chairman and Co-Founder of LendIt Fintech.

(music)

Today’s episode is brought to you by LendIt Fintech LatAm, the region’s leading fintech event. It’s happening both online and in-person in Miami on Dec. 7th and 8th. Latin America is still the hottest region for fintech in the world and LendIt Fintech LatAm features the leading players in the region. So, join the LatAm fintech community this year where you will meet the people who matter, learn from the experts and get business done. In-person and virtual tickets are available at lendit.com/latam.

Peter Renton: Today on the show, I’m delighted to welcome Michele Alt, she is a Co-Founder and Partner at Klaros Group. I wanted to get Michele on the show because we’re going to be digging deep into bank regulation here, bank charters, fintech charters, the whole nine yards. I learned a great deal in this episode and I’m sure you will too so make sure you stick around all the way to the end. 

We cover the nuances of different types of bank charters, why fintechs go for one charter over another, we talk about some of the unique things that are happening like what Figure is doing, talk about the Wyoming State Special Charter they have there. We talk about Varo’s charter and we also cover some of the things that Brian Brooks talked about last year when he was head of the OCC and Michele also talks about what she would do if she was head of the OCC. It really was a fascinating episode, hope you enjoy the show.

Welcome to the podcast, Michele!

Michele Alt: Well, thank you, Peter, it’s delightful to be back talking to you.

Peter: Yes, indeed. So, let’s get started by giving the listeners a little bit of background about yourself. I know you spent many years as a bank regulator, but why don’t you give us some of the highlights of your career to date.

Michele: Be happy to. I am a Co-Founder of the Klaros Group and a Managing Director of Klaros Advisors. I am a lawyer by training and inclination, I must admit. I spent more than 20 years in various policy and legal roles at the OCC focusing on national bank powers, preemption, inter-agency regulation, licensing and Dodd-Frank. After leaving the OCC, I cut my teeth in the consulting world helping a range of banks with various risk and strategy matters, ultimately, focusing on bank chartering and fintech before leaving to co-found Klaros.

Peter: Right. So, tell us a little bit about that. What was the impetus behind the founding of Klaros Group?

Michele: Well, my partners and I believed that there was a need for a consulting firm focused on the future of financial services. We observed that legacy consulting firms were too tethered to the legacy financial services industry and not really attuned to the business models and technologies that increasingly define financial services in the US and around the globe. So, we set out to build a firm that combined deep experience in the management of financial services businesses, deep regulatory expertise and deep understanding of the capital markets and investment landscape.

Peter: Okay, interesting, interesting. So, I want to dive right in and just talk about bank charters. We’re going to spend a bit of time on this, not the entire interview, but it’s really interesting watching the space over the last several years where, you know, there was initially a real push for a fintech charter and we’re going to talk about that in a little bit, but then in recent times, fintechs are really going after a full bank charter. So, why do you think fintechs, you know, want this bank charter?

Michele: Well, you know, when my fintech clients come to me… they’re typically late stage, they’re worried they’re outgrowing the bank partnership they grew up with. Their options, at that point, are to figure out how to optimize that bank partnership, become a bank, acquire a bank or sell themselves. I work with my clients to figure out which of those options work for them and then help them execute on their decision. 

For the fintech clients who decide they want a bank charter, the reason they do is very simple. A bank charter provides direct access to the payment system, low cost stable funding in the form of insured deposits and in certain instances preemption of state laws so it’s a pretty good deal. Fintechs also…they want to reduce the complexity of their businesses, increase their efficiency and reach more consumers and for some fintechs the bank charter is the way to do that.

Peter: Right. So, let’s maybe talk about the different types of bank charters, I know there are several. Maybe you could kind of just give us a little bit of an overview of the different types of charters that are available.

Michele: Since you don’t want this podcast to be 45 minutes of bank charters, I will try to be brief because it could really be a long discussion, Peter. So, let me rate the charter types into two very broad categories. First Category are those that subject the bank’s parent company to the Bank Holding Company Act, that’s Category One. Category Two is those that don’t.

Peter: (laughs) Okay. So, all charters fit into one of those categories, Id’ say.

Michele: Almost all, almost all, yeah.

Peter: Okay.

Michele: So, on the non-exempt bank charters, so we have two basic types, FDIC-insured national banks , those are OCC-regulated, they’re members of the Federal Reserve and they can engage in a full range of banking services and then there are State Fed member and non-member banks. They are state-regulated and they can also engage in a full range of bank services. So, really on the non-exempt bank charters there are two basic types, national and state and they are full service banks. When we get into the exempt bank charters it gets more complicated and fintechs are typically interested in exempt charters. They are interested in those exempt charters so that the fintechs will not be subject to federal oversight and they can continue to engage within the broader corporate group and activities that may not be permissible for the bank holding company. 

Broadly speaking, there are five types of exempt charters. Let’s start with the one that is always the most popular is number one, ILCs, industrial loan companies or industrial banks, depending on the state statute, they’re the same thing, ILCs and industrial banks are the same thing. They’re offered in about six states, they are state-regulated, they can pretty much do what a full service bank can do with certain limited exceptions that you can work around. They are FDIC-insured, they are very controversial and we’ll get more into that in a minute. 

Number two on the hit parade is the national trust bank, those are OCC-regulated, they can only engage in activities permitted by state laws for state trust banks so they derive their powers from state law. Generally, that means no lending. So, a national trust charter is a very old type of charter, but the OCC recently conditionally approved national charters for several crypto companies which is, of course, a controversial use of that charter and we’ll get more into that in a minute too. 

Number three in the exempt charters are state trust companies, those are state-regulated, basically the same as national trust banks. Now, some states like New York are for trust charters for crypto companies, specifically. 

Number four would be the uninsured national bank, we’re going to talk about that in a minute when we talk about the Figure Bank application. 

And then, finally, Number Five is the Wyoming Special Purpose Depository Institution which is a SPDI, that is primarily a bank that accepts deposits and provides digital asset custody services and is prohibited from lending. A SPDI that is not FDIC-insured does not qualify as a bank under the Bank Holding Company Act so we’ll talk about those in a minute too. And then I would just say that there are some other states that are getting into the Wyoming SPDI game like Nebraska and Illinois and I think that’s a space to watch.

Peter: Interesting.

Michele: (laughs) So, those are the exempt and non exempt 

Peter: Well, you’ve given us a lot to dig into there. Maybe you can talk about the different….like you said, the ILC charter is one that many fintechs are going after and Square has been approved for theirs, but there are then others that are doing the, I don’t know what officially the charter is called, but Varo got this, they were the first.

Michele: That’s a national bank charter.

Peter: That’s just a national bank charter and so they are non-exempt, right.

Michele: That’s correct.

Peter: Yes. So, they have to adhere to all of the Bank Holding Company Act rules. Is the main reason that a fintech would go for an ILC rather than what Varo did, a national bank charter, is it because of some of those rules really aren’t very suitable for fintech companies. Maybe you can talk about that.

Michele: So, ILCs, pretty much every fintech client who comes across the transit for me ask me first about ILCs, they always want an ILC, right, and an ILC is a good gig if you can get it. (both laugh) You get pretty much all of the benefits of a full service bank without the Bank Holding Company oversight, but as I mentioned, they are controversial. Banking industry advocates argue that ILCs are a loophole to the Bank Holding Company Act sort of. Personally, I like this oversight and they argued that loophole should be closed. I would say that that has a receptive body ends of the FDIC, I think that the shift at the FDIC Board recently makes the prospect for new ILCs perhaps a bit dimmer and there haven’t been very many ILCs in the first place. 

There was a moratorium post-financial crisis and then you mentioned Square and now that has two ILCs that got approved for something. I don’t know how many more we’re going to see make it, make it across the finish line, but the other thing to come caution about ILCs is that the FDIC also has proposed a rule that would effectively impose Bank Holding Company Act-like requirements on the parent of an ILC. So, that might lessen the interest in these charters a little bit.

Peter: I mean, if a new fintech were not a new fintech but a new client of yours, potential client, comes to you and says, we’re interested in ILCs, do you advise them because there’s going to be risk involved because as you said, the FDIC Board has changed its make up, they’re not going to approve any more ILCs. So, you could go down that path and not have any luck, do you advise your clients now to sort of go to the national bank charter-type like what Varo did or what do you say?

Michele: Well, not in the first instance. What I do when a client comes and says, I want an ILC, usually, my first question is why, even though I know the why is because they don’t want a Bank Holding Company Act application to their business. But then, I dig a little bit deeper, right, so what is it that you’re concerned about, what is it that you think having an ILC will help you avoid, what are you trying to do. I’m not saying that Bank Holding Company Act application is not a big deal, it is a big deal, but being a bank of any kind is a big deal. 

So, what we do is we just work through the options with these clients and one of the main criterion that I apply is likelihood of approval and that depends not just on charter type, but what is the business at issue, etc. If you read the Nelnet and Square approvals there’s some insights on what the FDIC might be receptive to so it’s really not something I can say, you know, thumbs up, thumbs down about, it depends on the business itself. That said, fintechs should certainly consider national bank charters a la Varo, right. 

There are some really important benefits to a national bank charter for fintechs. Absent a national bank charter to operate nationwide, a fintech company must rely on a complex patchwork of licenses, attempt to comply with conflicting state rules, sometimes conflicting state rules and submit to perhaps a dozen different examinations by state agencies each year, it’s a hassle, right. A national bank charter, by contrast, is a single charter administered by a single regulator pursuant to a comprehensive set of rules. 

So, obtaining a national bank charter will allow a fintech to offer a cohesive set of products and services nationwide, focus it’s compliance efforts on the requirements of a single regulator, reduce its legal and regulatory costs, complexity and risk and offer its customers the security and safety of dealing with a federally-regulated and supervised national bank. That’s great, but it’s a big lift.

Peter: So, what is it about the Bank Holding Company Act that really is a stumbling block, is that something like a number of investors? I think I’ve read, what is the main stumbling block?

Michele: You know, there are often issues about ownership with fintechs. Quite often, they have, you know, very concentrated ownership and that doesn’t always align with the Bank Holding Company Act requirements. Ownership is an issue and often comes down to just are the FTVs, right, that are going to be conducted within the broader corporate group. For many fintechs, it’s no big deal, you know, they are primarily conducting activities that are bank permissible or financial in nature, but sometimes, I’ve had clients that, and I’m not going to name any, it’s no unusual for a fintech to have a brilliant visionary founder/CEO, right. 

Sometimes, they want to get into some pretty interesting (Peter laughs) areas that are just going to be non-starters before the banking regulators. And so, what I often see when we’re talking about when I said, you know, the potential applicant comes to me and says, I want an ILC, I don’t want a bank holding company and I say, okay, how come. In fact, a lot of times, what they’re doing is completely permissible within a bank holding company structure, but they don’t want to be constrained in case something really interesting comes up that they’d like to do.

Peter: Right, that makes sense. So, speaking of visionary founders, I want to talk about Figure and obviously Mike Cagney’s company. We had a session on this a few months back with the general counsel and yourself discussing this in detail and I’ll link to that in the show notes, but when I sort of heard about what Figure was doing I didn’t even know this path existed so maybe you can explain it and why someone would want to go down this sort of path that is not well trodden.

Michele: That’s true, it’s not well trodden. It’s very simple though in concept and here it is. Figure Bank would not take retail deposits, therefore, it would not be FDIC-insured, therefore, it would not be a bank for purposes of the Bank Holding Company Act and, therefore, the holding company will not be a bank holding company subject to that supervision. Very simple in concept, right. 

Deposits, the rest of that stuff does not flow. The thing that’s important to remember when we’re talking about this because a lot of people would say, what do you mean a bank that doesn’t take deposits, right, it doesn’t take insured deposits, I want to stress, insured retail deposits. There is ample historical precedent for this charter, keep this in mind, because the National Bank Act dates to post-civil war, time of Lincoln…….

Peter: Right.

Michele: …..which preceded the Federal Deposit Insurance Act by many decades, right. All of the national banks, originally, were not FDIC-insured. So, lawyers can do what they do and, you know, split hairs and get in the arguments, but that is the crux of it. The National Bank Act is not conditioned or premised on the idea that the banks would be FDIC-insured because when it was written federal deposit insurance didn’t exist. That said, there isn’t a lot of examples of banks currently that are uninsured in the way that Figure is attempting. That decision is pending with the OCC so we will see.

Peter: Right, right, interesting. So then, does this still mean that the fintech charter is dead. I mean, you were at the OCC I think with the genesis of this with Tom Curry, it all sort of came out then. What is the status and your opinion of the fintech charter?

Michele: Yeah. Everything that we’ve been talking about does not lead to the conclusion that the fintech charter is dead, but indeed, the fintech charter is dead, in my opinion. The OCC and I really commend Tom Curry on this, in 2016 recognized that the traditional national banks subject to the Bank Holding Company Act just doesn’t work for many fintechs seeking to innovate within the financial services space. Unfortunately, though, I think that the OCC got out of over it’s skis with the fintech charter in 2016 and didn’t have the buy-in of the other banking agencies or the trade groups and without that, I just don’t think that charter could succeed.

Peter: I mean, we’ve certainly seen a lot of traditional banks, trade organizations, you know, particularly the state, competent state board….supervisors, for example, have come out and they tried to sue to the OCC that there was no charter that had been issued so it was trying out, but I’d love you to weigh-in on this sort of conflict between the state bank supervisers and the fintech companies that want a federal charter-type thing. What do you say to them and what….fintech companies, by definition, are online-based, it knows no state boundaries typically so how do you kind of approach that argument.

Michele: This is a toughie. The debate and the dual banking system, state versus Fed, I am not going to say it’s as old as Adam and Eve, but it’s old (Peter laughs) and I’m not going to be able to solve that problem on this podcast. But, I think what we see, with respect to the idea of the fintech charter, are really good intentions on both sides, right. We see, as I said, the OCC seeking to foster innovation, right, in the national banking system and do so in a way that accommodates fintech business models, that’s great, right. 

On the state side, we see similarly good intentions, right, but what the CSBS typically points out is state regulators often are the incubators for innovation, we’ll get to that, the SPDI is a good example of that and that they are primarily focused on consumers in their states and know their needs very well, right, and are concerned about what might appear to be a work around some of the regulatory burdens that their state banks are faced with. Their state banks are not getting a pass on the BHCA.

Peter: Right, right, got it. So, before we move on, I want to just go back to revisit the Special Purpose Charter which is what the fintech charter was because we had Brian Brooks who had a short but quite active time as acting head of the OCC late last year and early this year, I mean, he was really vocal about how we should have special purpose charters. He talked about the fintech charter, he talked about the payments charter, what are your thoughts on those sort of narrowly-defined charters.

Michele: Well, I also commend Brian Brooks on his desire to foster innovation in the national banking system, but I think the current regulatory environment just isn’t conducive to new types of charters. With the caveat and in a minute we’ll talk about the possible StableCoin issuer charter that’s very intriguing, but leaving that aside, I think it’s also important to remember, there’s a lot you can do within the existing national bank charter, for example, or some of the state charters. 

So, within the existing national charter as we see, you’re not demonstrated by the Figure application, you can accommodate some very innovative business models and, as I said, there are a number of the SPDIs and the trust charters that we recently conditionally approved for some crypto companies show that within very, very old legal frameworks, innovation is possible.

Peter: Well, can we touch on that then now like the Wyoming Charter which….you know, they’ve granted the charter to at least two crypto companies, Avanti Bank and Kraken, can you describe what is unique about what Wyoming has done.

Michele: First let me say, I think that the Wyoming SPDI and other similar efforts afoot show that the states are going to eat the Fed’s lunch, right. (both laugh) As the winds are blowing cold on crypto in DC right now, there is more and more interest in developing these state charters. I’m getting more questions about it and I don’t see the state regulators, you know, comparing crypto to credit default swaps, right, they are very much signaling that they are open for business and receptive to new applications. 

So, I promise this will be my last commendation at the podcast, but Albert Portner in Wyoming has really provided a very interesting option allowing SPDIs to accept all types of deposits, including demand deposits from consumers which may be an on-ramp to crypto and other digital assets like in the Kraken Bank model. So, I think there’s much to be explored there and with, as I said, similar state efforts.

Peter: You keep saying SPDIs, I haven’t heard that term before, would you explain that.

Michele: Oh, I’m sorry. It’s Special Purpose Deposit Institution.

Peter: I’ve heard that, I just didn’t think that was how it was said.

Michele: (laughs) Are we talking about Speedy Gonzalez here?

Peter: Right, right, okay, great. So, let’s go back to Varo because…I believe you worked on that as well, but that was a long process and they got it over the line. It’s always hard to be first, but do you think that the fact what Varo has done has paved the way for an easier time for fintechs to go down that route now?

Michele: I don’t think it’s ever going to be easy (Peter laughs). You know, I just, a moment ago, promised that was going to be my last commendation and I know I’m doing a lot of commending on this, but my hat is off to Colin Walsh and his team including his general counsel, Marina Gracias. A De Novo National Bank application is not for the faint of heart. Varo applied for and received approval for a national bank charter then it had to apply for FDIC insurance which got approved, then they had to apply for status as a bank holding company, right, that is a lot of work. 

So, in response to your question, do they make it easier for other fintechs? No, they provide a model which is very important, they provide an example that the lift is large, but it’s not impossible. But, any applicant for a bank charter should prepare for a very lengthy chartering or perhaps change of bank control application if they go the acquisition route and if they succeed, a very high degree of regulatory complexity and scrutiny, right.

Peter: So, should it take three years, is that what people should expect which I think is roughly what it was for Varo.

Michele: I don’t think it should take (Peter laughs) three years, I don’t think the process is going to be fast. One important difference I think in the current environment, and we’re seeing and Michael Soo has made an important point of this which is we’re seeing a greater emphasis on inter-agency coordination in reviewing these applications. I think that one thing that’s kind of unfortunate is, speaking of the OCC, the OCC and the FDIC have slightly different application processes, but they use the same application. So, I think in Varo’s case and there were good reasons why it did a serial set of applications that I described, first National Bank and FDIC and the Fed, you can apply for the bank charter and the FDIC insurance at the same time which may reduce the overall processing time.

Peter: So, I’ve seen a lot of fintech companies over the years, let’s say some, they apply and then they withdraw the application. Why do they do that, is that just inexperience or is there some reason behind this apply/withdraw kind of process?

Michele: Nobody should ever apply thinking they may withdraw. Withdrawals happen for a variety of reasons. One reason though is that the agency has determined that the application will not succeed, either it’s not complete as presented or raises fundamental concerns on the part of the regulator. Common concerns with fintech applications are lack of profitability at the parent level or uncomfortable with banking and commerce. Those are two things that give regulators quite a bit of heartburn. The profitability issue, it’s a real rub. 

Fintechs often focus on growth over profitability, at least in their initial phases, and that is not an approach that the regulators are particularly comfortable with, right. Pursuant to Dodd-Frank, the parent company of a bank is required to serve as a source of financial and managerial strength to the subsidiary bank so if the parent is not profitable, that raises concerns about its ability to serve as a source of strength. These are issues that can tank an application or at least cause it to be withdrawn and resubmitted. I always tell my clients, we’re not going to go forward if there is any risk of withdrawal.

Peter: Obviously, profitability isn’t a deal breaker because Varo has not been profitable and they were approved so what’s the rub there?

Michele: I do believe Varo is intending to be profitable within the de novo period and that is, in fact, a hard requirement of the regulators.

Peter: Okay.

Michele: They don’t expect profitability out of the gate, but they do expect a bank to achieve it within three years.

Peter: Got you. So, final question, I want to sort of do a little fantasy game here like let’s say the current OCC pick is rejected and President Biden puts your name forward, you are confirmed by the Senate and you’re running the OCC, what changes are you going to make? I’m particularly interested in things that would make it better for fintech companies.

Michele: If in this fantasy I were leading the agency, I would make changes that would help consumers and help banks and fintechs by leveling the field on which they compete. I’m deeply concerned that a significant portion of Americans receive their financial services outside the regulated banking system. 

The fundamental purpose of bank regulation is to protect consumers and without visibility into what’s called the “shadow banking system,” the banking regulators really can’t protect these consumers. Unfortunately, I think that recent statements from Washington are reflective of a profound reluctance to allow fintechs into the regulatory fold and keeping fintechs out of that fold means that the banking regulators will not have to address the risk of certain innovative business models.

Peter: Right.

Michele: And it will mollify banking industry advocates worried about competition from fintechs and, therefore, opposed to chartering them, but it won’t keep consumers from seeking alternatives to banks and, therefore, really won’t keep the fintechs from eating the banks’ lunches. (laughs) There’s a lot of lunch-eating going on in this podcast right now, maybe I’m hungry. In other words, there’s a consumer demand for services provided by fintechs, that’s clear, right. 

Fintechs are going to meet that demand and unless chartered, fintechs will be able to do so free of the costly regulatory burden imposed on their bank competitors and that’s a fact. In my opinion, the best way to ensure consumer protection and healthy competition among financial services providers is to require fintechs offering banking services to consumers to apply for bank charters and submit to the rigorous oversight to which banks are subject.

Peter: Okay, interesting, simple and probably not what every fintech wants to hear, but it’s a great point to end on. It’s been really insightful, Michele, I’ve learned a lot today, I hope the listeners have as well. Thank you so much for coming on the show.

Michele: It’s my pleasure, thank you, Peter.

Peter: Okay, see you.

Michele: Bye.

Peter: You know, Michele and I were chatting after we stopped recording just now and we figured, it’s almost amusing in some ways how some of the banks and the bank trade associations how they have approached fintechs, in general. On the one hand, they say, well, it’s not fair because fintechs have a lighter lift when it comes to regulation, on the other hand, it says, we don’t want them to become regulated. So you can’t sort of have it both ways. 

The reality is it’s inevitable that the major players in fintech are all going to become fully regulated banks, there may be one or two exceptions, but the vast majority, if you want to be a really national scale fintech company and you really do want to have some kind of bank charter and that’s what we’re starting to see. I think, long term, it’s inevitable that we are going to see most of the major fintech companies with charters.

Anyway on that note, I will sign off. I very much appreciate your listening and I’ll catch you next time. Bye.

(music)

Today’s episode was brought to you by LendIt Fintech LatAm, the region’s leading fintech event. It’s happening both online and in-person in Miami on Dec. 7th and 8th. Latin America is still the hottest region for fintech in the world and LendIt Fintech LatAm features the leading players in the region. So, join the LatAm fintech community this year where you will meet the people who matter, learn from the experts and get business done. In-person and virtual tickets are available at lendit.com/latam

The post Podcast 321: Michele Alt of Klaros Group appeared first on LendIt Fintech News.

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