Back to General Resources

Modernizing Financial Services Through Innovation and Competition

House Committee on Financial Services
Subcommittee on Digital Assets, Financial Technology, and Inclusion
Modernizing Financial Services Through Innovation and Competition
Wednesday, October 25, 2023

Topline

  • Republicans cited the benefits of bank and Fintech partnerships and cautioned against the chilling effects of overregulation on innovation.
  • Democrats warned of the risks surrounding Buy Now Pay Later and Earned Wage Access products.

Witnesses

  • Jodie Kelley, Chief Executive Officer, Electronic Transactions Association
  • Ram Palaniappan, Founder & Chief Executive Officer, EarnIn
  • Dr. Jimmie H. Lenz, Director, Master of Engineering in FinTech & the Master of Engineering in Cybersecurity and Irene and Frank Salerno Visiting Professor of Financial Economics, Duke University; Principal for Advanced Research & Financial Services, Frontier Foundry
  • Parris Sanz, Executive Vice President, General Counsel, and Head of Policy & Government Relations, WebBank
  • Mitria Spotser, Vice President and Director of Federal Policy, Center for Responsible Lending

Opening Statements
Subcommittee Chair French Hill (R-Ark.)
In his opening statement, Hill cited the Fintech ecosystem’s evolution from disruption to collaboration, explaining that Fintech products can deliver products and services that consumers want and may find beneficial. He noted that Fintech has the potential to drive greater innovation in financial services and deliver more customer-centric experiences, citing earned wage access (EWA) products, which allow people to access their wages as they earn them, providing flexibility and liquidity. Hill said consumers recognize how these innovations are improving their lives and called for a balance between consumer protection and innovation. He concluded that the benefits Fintech products provide far exceed any risks they may pose.

Subcommittee Ranking Member Stephen Lynch (D-Mass.)
In his opening statement, Lynch blasted Republicans for their inability to elect a Speaker, explaining that it feels inappropriate and tone-deaf to go about business as usual. He emphasized that Congress should not divert any energy or attention away from getting a Speaker, explaining that the bills attached to the hearing go nowhere without a Speaker. Lynch said technology has the potential to lower costs and improve accessibility for those disenfranchised from the traditional financial services sector. He warned that some of these technologies are simply repackaged versions of traditional finance, packaged in a way to evade laws under the guise of innovation. He explained that not all Fintech and Buy Now, Pay Later (BNPL) products are equal; some are making deliberate efforts to reach the unbanked, while others are not. Lynch concluded by questioning whether these products are truly innovative as industry claims, or just redesigned to evade regulation.

Testimony
Jodie Kelley, Chief Executive Officer, Electronic Transactions Association
In her testimony, Kelley explained that BNPL allows consumers to purchase an item without paying the full price upfront, adding that these products serve all consumers by providing an interest-free option to purchase the items they need when they need them. She said these payment options also help small businesses thrive and discussed how new technology helps merchants receive funds quicker and access much-needed capital. Kelley noted the payments and Fintech industries are already subject to a comprehensive legal and regulatory framework, which has been supplemented through robust self-regulatory efforts, including security standards. She concluded by encouraging policymakers to advance policies that are technology-neutral, principles-based, and allow for industry-led standards.

Ram Palaniappan, Founder & Chief Executive Officer, EarnIn
In his testimony, Palaniappan discussed how EWA allows workers to access the money they’ve already earned without waiting for payday. He noted two million people use his product, including over 100 Congressional staffers. Palaniappan said by accessing their wages when they need them, his customers are avoiding over $1 billion in overdraft fees each year. He explained that if we want more financial inclusion, we need new financial products. Palaniappan discussed why EWA does not fit well into existing regulatory frameworks, noting that the CFPB exempted EWA from the Payday Rule; though, the Biden Treasury Department has said that On-Demand Pay Arrangements, a common term for EWA, should not be considered loans for tax purposes. He agreed and called for EWA to have its own regulatory framework and thanked Rep. Steil for his discussion draft.

Dr. Jimmie H. Lenz, Director, Master of Engineering in FinTech & the Master of Engineering in Cybersecurity and Irene and Frank Salerno Visiting Professor of Financial Economics, Duke University; Principal for Advanced Research & Financial Services, Frontier Foundry
In his testimony, Lenz noted that economists have illustrated that industry incumbents (in this case, established financial services companies) not only prefer but also have pursued, regulation to deliberately protect themselves from competition by new entrants. He explained that although innovations have increased consumer access to financial services and markets and innovations have changed the way that financial institutions interact with the retail public, few of these innovations were pioneered by the incumbent institutions. Lenz warned that had the United States enacted a regulatory regime that was less accepting of innovation, it may have quashed the new entrants into financial services, potentially resulting in a decreased competitive environment and harming the United States’ position as the undisputed global leader in financial services.

Parris Sanz, Executive Vice President, General Counsel, and Head of Policy & Government Relations, WebBank
In his testimony, Sanz discussed how Bank and Fintech partnerships can unlock the greatest strengths of each participant. He explained that Fintech companies develop amazing technology platforms that deliver minimal friction, state-of-the-art customer experiences, serving customers on their mobile phones and online, which is where they want to transact and added that these are technology platforms that banks often struggle to develop on their own. He said that a bank partnership with a Fintech company should be grounded in three fundamental pillars: due diligence and risk assessments, contract structuring and review, and ongoing supervision and oversight. Sanz warned that state and federal lawmakers should be wary of attacking bank partnerships in this emerging area and asked Congress to support efforts to create greater legal certainty regarding the treatment of loans originated by banks. He concluded by cautioning Congress against adopting a one-size-fits-all approach to regulating BNPL and EWA products or conflating them with traditional credit products.

Mitria Spotser, Vice President and Director of Federal Policy, Center for Responsible Lending
In her testimony, Spotser explained that the goal of innovation should be to expand access by competing on price. She noted that some of the regulatory exceptions requested by other witnesses do not compete on price. She focused on the lack of annual percentage rate (APR) calculations disclosing the true cost of credit, noting some Fintech companies charge 100% to 160% APR on consumer credit financing despite usury caps set by voters and legislators. These Fintech companies partner with a small number of out-of-state banks to offer “rent-a-bank” loans that evade state usury limits.

Spotser said the other witnesses are asking for their products not to be held accountable for the same disclosure obligations as other financial institutions, including credit unions and community banks. She emphasized that BNPL and EWA look and function like credit, capital, and loans, and should be regulated as consumer credit products. Spotser told members that the financial institutions in their districts are all required to meet the same credit disclosure obligations under the Truth in Lending Act (TILA) and the Credit Card Accountability Responsibility and Disclosure (CARD) Act, which these financial institutions testifying claim should not apply to their Fintech products. [1] She warned that their argument is inherently anti-competitive and emphasized that BNPL and EWA need to compete on price, just like the rest of the financial institutions in this country.

Question & Answer
Bank-Fintech Partnerships
Hill asked Sanz to reflect on the recent uptick in collaboration between banks and Fintech companies.

Sanz said banks have realized that if you can’t beat them, join them. Hill asked whether these partnerships have helped banks reach out to more customers and expand product availability to people with little or no credit history since traditional banks don’t have access to the same data. Sanz said they have.

Rep. Warren Davidson (R-Ohio) asked how the legal uncertainty concerning whether bank-originated loans will remain enforceable on their original terms after they are sold to non-bank entities is impacting consumers and markets. Sanz said legal uncertainty is being created in states like Illinois, New Mexico, and Maine, which are passing laws that create a standard for determining who is a loan originator. For instance, if a non-bank partnership has the predominant economic interest in a bank-originated loan, then the non-bank itself is the lender. He explained these laws kill the market and are completely inconsistent.

Rep. Erin Houchin (R-Ind.) asked Sanz why a bank-Fintech partnership is critical to offering types of products like small business loans. Sanz noted his bank has entered various partnerships that take advantage of transactional data. He explained this data is especially important after COVID-19, as credit scores are a lagging indicator.

Rep. Wiley Nickel (D-N.C.) asked about the differences between responsible bank partnerships and predatory lending practices, and how to differentiate between the two when crafting laws and regulations. Sanz explained that predatory products are wholistically problematic in terms of their repayment rates, fee harvesting, and repeat usage, which indicates it is not healthy reborrowing.

Rep. Mike Flood (R-Nebr.) asked why banks are partnering with Fintech firms. Sanz explained that combining knowledgeable Fintech companies with a bank unlocks the best in each of those participants.  Flood asked Sanz about the potential benefits that bank-Fintech partnerships can provide to community banks and their customers. Sanz said the benefits are available to all banks, but noted that in the current environment, banks will need to invest substantial resources to take advantage of those benefits. Lenz agreed that a highly regulated environment makes it difficult for community banks to adopt Fintech products.

Interagency Guidance on Third-Party Relationships
Hill asked Sanz’s opinion on the recent Third-Party Risk Management guidelines published by the federal bank regulatory agencies. Sanz said he generally agrees with the sentiments expressed by Governor Bowman but warned the guidance is a one-size-fits-all recipe that does not provide tailored regulations for smaller institutions.

Flood asked if the recent Interagency Guidance on Third-Party Relationship Risk Management has a chilling effect on community banks’ ability to offer Fintech products to their customers. Lenz said the guidance will have a chilling on banks across the board. He explained that innovation does not come from banks, providing as an example Square, which did not come from a bank but has afforded millions of small businesses the opportunity that they would only have if they were large.

Buy Now Pay Later & Earned Wage Access Products
Lynch cited a worrisome spike in delinquency rates with BNPL products and asked Spotser to discuss the trap that young people using those products might fall into. Spotser explained BNPL products are marketed as being free, so individuals are not fully aware of service fees or late fees, which leads to delinquency. She said she hopes the CFPB will issue guidance on this, as it’s imperative that the full cost of credit be disclosed to consumers when shopping for credit products. Lynch asked Spotser which standards she would like to see applied to the BNPL space. Spotser said she’d like them to abide by existing laws, specifically the TILA and the CARD Act.

Casten cautioned that one of the draft bills on the hearing agenda would exempt the EWA industry from TILA statutory requirements.

Houchin said EWA products can help consumers pay bills on time and avoid overdraft fees. She asked Palaniappan to describe the additional benefits that come with giving consumers access, and how products offered by EarnIn allow consumers to manage their finances in a way that meets their own needs. Palaniappan cited the non-financial benefits of EarnIn, explaining it allows people to go to the dentist when their toothaches, instead of having to wait until payday. He emphasized that people’s lives are being held back by being locked into a pay cycle.

Nickel asked Palaniappan to explain the regulatory structure for EWA products. Palaniappan said states have passed laws with frameworks and explained that although the CFPB exempted EWA from the Payday Rule, there are other things EWA products are subject to, including the Gramm–Leach–Bliley Act, Unfair or Deceptive Acts or Practices (UDAP), and the California Consumer Privacy Act (CCPA). Nickel asked about the need for new legislation for EWA products. Palaniappan said it would provide clarity, and said the industry wants protections in the law so consumers can access these products with confidence.

Rep. Al Green (D-Texas) asked Spotser if TILA applies to loans with at least five installment payments. Spotser said yes. Green explained that EWA and BNPL companies intentionally structure their loans to have only four payments, so they don’t have to engage in the debate over whether the TILA applies. Green also noted that Black, Hispanic, and female consumers are significantly more likely to use BNPL products.

Rep. Bryan Steil (R-Wisc.) lamented the disconnect between work and reward and called for an immediate work-reward connection. He explained that the EWA tools from his discussion draft address this disconnect and emphasized that it’s essential the Committee look at his EWA discussion draft to give stability to EWA companies and break through the burden people feel from the disconnect between work and reward.

Regulatory Environment
Houchin said we need to ensure that the U.S. regulatory environment helps people access these financial services products. Nickel said it’s Congress’ responsibility to foster an environment where Fintechs can thrive, creating jobs and expanding access to affordable financial services.

Rep. William Timmons (R-S.C.) asked Kelley if federal regulators should continue working with market participants to ensure they create pragmatic guardrails around bank-Fintech partnerships instead of pursuing regulation enforcement due to the fear of potential harm. Kelley said yes, emphasizing that the guardrails put in place must be appropriate to foster innovation.

Timmons noted the CFPB recently issued a Notice of Proposed Rulemaking further defining Section 1033 of Dodd-Frank.[2] He asked about the lessons we can learn from rules similar to 1033 in other jurisdictions like Europe, and if the CFPB correctly implemented these lessons in their NPR. Kelley welcomed movement on the open banking front.[3] Timmons asked Lenz why a federal regulatory sandbox is the solution to foster the development of new financial products and services. Lenz explained that over a dozen states have sandboxes, which creates the need for a federal one to allow for innovation across the country.

Rep. John Rose (R-Tenn.) asked if there is a risk that the U.S. could overregulate emerging Fintech companies and put the United States’ position as a global leader in the financial services industry at peril. Lenz said overregulation will always be problematic and explained that regulation must incentivize innovation. Rose asked if overregulation could cause Fintech companies to relocate abroad to friendlier jurisdictions. Kelley and Sanz both said yes, with Sanz expressing concern over the current “intense” regulatory environment in the U.S.

 

For more information on this meeting, please click here.
For an archive of past SIFMA hearing coverage, please click here.

[1] “BNPL loans subject to the same appropriate and helpful credit reporting practices that apply to credit cards, including fee disclosures, ability-to-repay requirements, reasonable and proportional penalty fees, chargeback protections, dispute rights, and standard statement requirements.” Testimony of Mitria W. Spotser, H. Comm. Fin. Serv. (Oct. 10, 2023).

[2] “Section 1033 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (P.L. 111-203) provides consumers with a right of access to their financial information.” Open Banking, Data Sharing, and the CFPB’s 1033 Rulemaking, Cong. Res. Serv. (Sept. 9, 2021).

[3] “Open banking refers to the practice of giving financial services firms access to customer banking and other financial data to facilitate the development of new types of products and services for consumers.” Open Banking, Data Sharing, and the CFPB’s 1033 Rulemaking, Cong. Res. Serv. (Sept. 9, 2021).