Heightened Regulatory Obligations are Price of Success for Expanding Neobanks

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By John Howell Sale Executive - Regulatory Services
November 9th 2023 | 4 minute read

Death and taxes may be inevitable. But so too, increasingly, is regulation – as successful neobanks are discovering.

Neobanks are progressively branching into any financial service area where they can disrupt and compete with their user-friendly digital features, personalised services and competitive rates. That includes providing easy access to everything from deposit taking, loans, transfers and payments to currency exchange, stock trading, crypto trading and crypto custody.

Neobanks are diverse. But of the hundreds of institutions that could be categorised as such, a common thread is emerging from our conversations: lack of compliance preparedness. While the focus (understandably) is on creating successful business models and expanding the business, dealing with the extra regulatory obligations that accompany success tends to be an afterthought.

The amazing reach of today’s technology means an app can be used in any region in the world with a little language and cultural adaptation. Once the sales messages and marketing campaigns are honed, and operating resources allocated, new worlds of opportunity open up.

Having won the business though – be it expanding into a different jurisdiction, working with a new client type or diversifying the service offering – firms may find themselves drawn into fresh regulatory environments that trigger a different subset of compliance responsibilities. At which point there’s a nasty realisation of how complex the regulations will be to support.

Tackling tougher AML rules

One common challenge we see neobanks face when moving into new markets is how to comply with the various shades of anti-money laundering (AML)/know your customer (KYC) requirements in different jurisdictions.

Supporting UK or US AML/KYC rules for a limited client base may be just about feasible with SharePoint, spreadsheets and occasional scans via World-Check. Serving clients from multiple jurisdictions demands more structured, robust procedures that can deliver proper control at every stage of the customer lifecycle.

That takes an infrastructure able to verify customers’ identities at onboarding, provide ongoing account due diligence, monitor transactions for suspicious activities in real time, and report any unusual transactions to regulatory authorities – and do it all efficiently and at scale.

FATCA/CRS reporting tax neobank infrastructures

Similar complications occur when a neobank lands a US client who is based in the UK or Europe, or a ‘global citizen’ living in multiple international locations, with the exposure that brings to cross-border FATCA and Common Reporting Standard tax reporting rules.

Prospects we’ve spoken to have found themselves subject to FATCA reporting that they weren’t anticipating having to address, and have resorted to manually compiling the reports, with poor results. Others have been unaware of their FATCA responsibilities and now find themselves with a backlog they have to make good.

These reporting obligations impose a heavy operational cost on in-scope institutions. And the fines for any reporting failings can be penal. Yet many neobanks lack the systems, processes or expertise needed to comply.

Determining clients’ nationality, residency and tax status during onboarding eases downstream workflows, minimises the remediation burden and saves clients paying unnecessary withholding taxes. Advanced investor and beneficial owner screening capabilities able to capture and track complex, multi-level ownership structures to identify and verify underlying customer and beneficial ownership identities are key here.

Reports then need to be submitted in the right XML schema and with the account reference identifiers required by the competent authorities. Validating and converting source data into an XML format ready for submission to the various regulatory portals, and keeping pace with the ever-changing FATCA and CRS standards, is complex and time consuming. Having systems that can generate reports in Automatic Exchange of Information (AEOI) filing-ready state will alleviate the risk of non-compliance, while removing the need for and expense of employing conversion tools or third-party reporting services.

Firms may also need a workflow solution to monitor processes, manage and exchange data, and track correspondence from different countries. Perhaps the neobank has established a back-office team in India and a front-office one in Europe. A workflow system can help manage all the communications between the two and make collaboration easier.

Compliance proliferation

And there are a whole host of other regulatory requirements that may come into play – from disparate consumer protection measures around fair lending practices and fee disclosures to national cybersecurity rules and data privacy laws, such as the EU’s General Data Protection Regulation (GDPR).

While expanding operations, especially across borders, adds often unforeseen levels of regulatory complexity, neobanks have no room for error. Customer acquisition, retention and profitability are intimately linked to trust and credibility. Customers want to know they made the right decision in using the neobank service. And that depends on robust yet friction-less operating procedures and regulatory compliance.

Deep Pool is the #1 investor servicing and compliance solutions supplier, providing cutting-edge software and consulting services to the world’s leading fund administrators and asset managers. Our flexible solution suite, developed by an experienced team of accountants, business analysts and software engineers, supports offshore and onshore hedge funds, partnerships, private equity vehicles, retail funds and regulated financial firms. Deep Pool is a global organisation with offices in Dublin, Ireland, the United States, the Cayman Islands and Slovakia. For more information, visit: www.deep-pool.com.

John Howell
John has over 20 years’ experience in the Fund Administration industry prior to joining Deep Pool as Sales Executive, regulatory solutions. Previously John held senior Business Development and Relationship management roles with BNY Mellon and Citco in the Alternative Investment Services space. John is a Chartered Banker with the Irish institute of Bankers and holds an MBA from the University of Wales.