Banking News

RBI’s resounding message to fintechs: Quick and easy but with KYC


On January 31, the Reserve Bank of India (RBI) ordered Paytm Payments Bank to stop offering basic banking services from February 29, mainly due to onboarding of customers and merchants without adequate KYC (know your customer) processes. Persistent non-compliance of regulations was the reason behind the stringent action by the RBI which had warned Paytm two years ago and had also engaged with it. In short, it wasn’t anything happening out of the blue. The RBI’ action has triggered debates over innovation in the fintech sector, the quantum of punishment to Paytm, the style of regulation and, of course, the KYC norms, which is the nub of the Paytm issue.

Paytm is not an isolated issue
Since the RBI has punished several other fintech entities for non-compliance, its action on Paytm seems to be a part of its long-drawn efforts to not let innovation run ahead, or afoul, of the regulation. The most important takeaway from the RBI’s action against Paytm Payments Bank is not about a particular company persistently not complying with regulations; it is the message to the fintech sector that it must become quick and easy with innovation but not without following the KYC process and other regulations.

In 2020, the RBI told HDFC Bank to temporarily stop all digital launches and sourcing of new credit card customers after the bank suffered its third big outage in the span of just two years. In October last year, the RBI banned Bank of Baroda from onboarding any new customers onto its ‘bob World’ mobile application after reports of the bank linking accounts to unregistered mobile numbers and signing up these numbers to the application. In November last year, the RBI directed Bajaj Finance Limited to stop the sanction and disbursal of loans under two of its lending products due to non-adherence to the digital lending guidelines.

The action against Paytm Payments Bank comes in this background of the regulator closely watching fintech enterprises, products and services. The latest regulatory action on the fintech sector is the RBI putting usage of cards for B2B payments on hold until further notice. The RBI said certain commercial payments were being routed through third-party intermediaries, which did not comply with its payment and customer identification rules.

ET has reported, based on information from sources, that more payment banks may face regulatory action as the Financial Intelligence Unit has detected about 50,000 accounts without know-your-customer (KYC) verification and potentially engaged in suspicious transactions and money laundering activities. About 30,000 of these are with payments banks other than Paytm Payments Bank and details have already been given to the RBI.

A sectoral challenge
Industry insiders and startup founders pointed out that the KYC (know your customer) issues around Paytm Payments Bank might not be unique to one company; many startups end up taking shortcuts to onboard customers quickly. The other related lapses could include non-reporting of suspicious transactions, not maintaining details of beneficial owners and registration of multiple users using a single income tax permanent account number. And once a company grows in size, managing risk and compliance becomes a big challenge.“It is all about prioritising and if you want to be in a fintech business then you cannot shy away from the prerequisites of the sector,” Sanket Nayak, cofounder of DigiO, an identity verification startup, has told ET Tech.Digital wallet providers have argued their business model does not support enhanced KYC compliance where costs spike with video and physical corroboration. There are also infrastructure challenges in onboarding customers in smaller towns.

This explains the preference shown to telcos in issuing mobile wallets because of their advantage in customer identification. Banks are another industry with an identifiable customer base. In both cases, the cost of providing digital wallets is subsidised by their core business of communication and lending. For others, the business has a long gestation with large upfront costs, including KYC, that have acted as an entry barrier. KYC requirements for payments banks were tailored accordingly. But they appear to be jeopardising system integrity.

The RBI would have weighed the compliance burden against the business model before ordering a freeze on Paytm’s deposit collection. The rest of the industry will have to demonstrate improved execution for it to be able to absorb Paytm’s customers, ET has argued recently. Since regulatory intent is guided less by customer protection and more by database vulnerability, the RBI will have to address the question whether digital transaction facilitation is best served by telecom and banking industries, or by a separate category of players.

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