Banks are increasingly underscoring the importance of working directly with their financial technology partners, rather than relying heavily on outside program managers when implementing banking-as-a-service.
The rise of banking-as-a-service (BaaS) has produced a group of fintech vendors, such as Treasury Prime Inc., Unit Finance Inc. and Synapse Financial Technologies Inc., to help banks and fintechs set up partnerships. They typically act as the middleware, assisting both sides on technology implementation and program management.
Regulators appear to be examining banks' reliance on those middleware vendors when providing BaaS and expect them to actively engage in their fintech partnerships as opposed to letting the middleware vendors take over critical duties, especially compliance.
Supervised by the Federal Deposit Insurance Corp., Amesbury, Mass.-based BankProv has noticed increased scrutiny, gauging whether it is taking ownership of actively managing those partnerships in its most recent exam, said Joseph Mancini, executive vice president and COO at BankProv.
"Some of the recommendations that came out from our recent exam were very specific to what's coming down the line in BaaS," Mancini said in an interview. "They want the bank to manage, versus [using] the middleware model."
The FDIC's emphasis on banks being the main managers could have broader implications, prompting some banks to adjust their pricing models with fintech partners, or change the allocation of resources in the back office, Mancini said. For instance, banks would ideally have the in-house resources to monitor the activities of fintech partners and conduct know-your-customer procedures on every client, he noted.
"For banks that are in the BaaS space today that haven't gone through an exam in a while, they are going to be in a shell shock for what's coming there," Mancini said.
BankProv, which works with Treasury Prime to manage fintech partnerships, did not get the impression that regulators discourage banks to work with middleware vendors, Mancini said. No matter what tools banks want to use, the goal is to work diligently to keep third-party risks under control.
Rogersville, Tenn.-based Thread Bank is following the approach of engaging with its fintech partners directly even though it works with Unit Finance to help manage those programs, said John Bearden, chief banking officer at Thread Bank.
"When we got started with them, our approach from day one was we're going out in the relationship with the fintech," Bearden said in an interview.
Thread Bank supports fintechs to offer depository and payments services to their end customers, primarily small businesses. The bank started focusing on the BaaS model after a group of investors recapitalized the Tennessee-chartered bank in May 2021.
Still, Unit's technology is valuable to Thread Bank since it enhances the bank's capabilities in areas like account ledgering, Bearden said. Unit also provides Thread Bank access to compliance tools to either use them on its own or find third-party service providers.
With Unit's "frontline diligence," Thread Bank is in fact doubling up on some of the compliance work to ensure sufficient transaction and fraud monitoring, Bearden said.
"For us, it's kind of a tri-party relationship between the fintech, bank and unit. It's a little bit different than some of the other BaaS relationships that I've seen in the marketplace," Bearden said.
Thread Bank took the direct approach because it saw some of the early movers run into regulatory challenges for only operating in the background and having little knowledge of how their fintech partners work on the front end, Bearden said.
Multiple bank regulators have stressed throughout 2022 that they are increasing the attention on banks' third-party risks, with more banks stepping into BaaS and seeking deposit and fee growth from fintech partnerships.
In particular, banks are expected to have independent oversight on transactions taking place via its fintech partnerships in order to meet anti-money laundering and know-your-customer requirements, said Synapse co-founder and CEO Sankaet Pathak. Founded in 2014, Synapse now works with seven banks and over 100 fintechs, enabling fintechs to launch banking products.
Banks are also expected to take more accountability in marketing and communications with the end consumers, to make sure the disclosures correctly describe the nature of the banking products, Pathak said.
"The thing that this cycle of exam is doing at the banks is that it's standardizing what third-party oversight really needs to look like," Pathak said.