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Regulatory sandboxes seem to be the preferred solutions for regulators to deal with FinTech and other start up companies. But is this relief the fulfillment of dreams for FinTechs?
In Switzerland, sandbox models allow FinTechs to engage in activities which are subject to license requirements, but these are waived within specific parameters. Restrictions apply regarding the amount and duration of funds held. It becomes evident that these parameters try to promote activities which are usually subject to a banking license, which is the most comprehensive and ultimate one to obtain. It seems therefore logical to provide some relief in this regard.
But, and there it’s getting crucial, the regulatory status of the FinTech itself is just one side of the story. The others are due diligence duties, interaction with existing players, international regulations and finally marketing.
First: due diligence duties
In most jurisdictions, even without being subject to a license on an institutional level, at least Anti-Money-Laundering (AML) standards need to be applied when engaging in a business which involves financial intermediation. This requires an analysis and understanding of the business model regarding applicable AML Laws and the duties resulting thereof.
In the end this will regularly lead to the implementation of KYC and AML procedures, audits, and some sort of supervision, either prudential or indirect.
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Second: interaction with existing players
Second, interaction with existing players. Whether it is paying salaries, issuing invoices, applying for a credit card, at some point there will be an interaction of the FinTech with traditional banks or other market participants subject to financial regulations. As these players are subject to the full range of applicable financial regulations, they are understandably afraid of onboarding FinTechs which are operating under none or limited supervision.
This will lead to the disturbing situation that, despite getting relief from the regulator, the existing players will not interact with the FinTech. Even if this is understandable to some extent, it is also a splendid excuse of established players to stop FinTechs from entering the market.
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Third: international regulations
Even if countries decide to provide some relief on a regulatory basis, the international regulations are usually still applicable. This will lead, for example in Switzerland, to the absurd situation, that a FinTech which is not subject to banking regulations due to the Sandbox, could still be subject to FATCA and the Automatic Exchange of Information (AEoI).
This hurdle is also playing together with the point above, as all banks will need to get a clarification from the FinTech regarding the applicable status under FATCA and AEoI. Especially when engaging in cross border activities, due to the non-harmonized sandbox rules, a careful evaluation of regulatory duties is inevitable.
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Fourth and last: marketing reasons.
While it may not be the first thought about regulatory sandboxes, it is still worth discussing it. If a FinTech is operating within the regulatory sandbox it is obliged to inform the clients that the FinTech is not supervised by the financial market authority and the deposits are not subject to the deposit protection. As this information is mandatory before engaging with the client it will create uncertainty and confusion on the clients’ site.
In conclusion, it can be stated that the sandbox is easing the life of FinTechs enormously. But on a closer look this is only the first step and does not relief the FinTech from carefully analyze the business model in depth regarding the financial regulations in place.
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