For Fintech leaders, mastering compliance is not merely a choice; it's an imperative. Investing effort in this complex terrain paves the way for sustainable growth, trust, and legal integrity. And since technology has simplified complying with all the burgeoning regulations, acing the rules becomes less demanding a task.
In this article, I will explain the basics of FinTech compliance and why you need it as a tech leader. You will find insights on the U.S. and Canadian regulations, how they work, why you need SOC I and II to innovate, and how to boost your compliance with the leading RegTech solutions in the market.
What is compliance
FinTech compliance is the robust set of rules, standards, and guidelines that financial technology companies must adhere to ensure they operate within the boundaries of the law and maintain ethical business practices. Think of it as your company's rulebook – a comprehensive guide that provides instructions on everything from customer data protection to fair lending practices is up to par.
This rulebook should be written based on the legal and regulatory frameworks established by governmental authorities and industry-specific bodies. Covering a wide range of areas, compliance in FinTech includes data security, anti-money laundering (AML), know-your-customer (KYC) procedures, consumer protection, and more.
Why fintechs need regulations
Compliance helps make sure FinTech is a fair and safe place for companies to operate in and for their customers to enjoy the best services. It’s essential to ensure the industry's integrity, protect consumers, and maintain the stability of financial systems. Regulations provide a structured framework within which FinTech companies can innovate and conduct business while upholding high ethical standards and legal requirements. By staying compliant with relevant regulations, you achieve the following:
Regulations can be country- and state-specific, as well as global. For instance, The USA has the California Consumer Privacy Act, which is currently followed by similar acts from several other states. Globally, there are organizations like The Financial Action Task Force (FATF), an intergovernmental G7-initiated entity that develops policies to fight money laundering and curb terrorism financing.
Understanding SOC I and SOC II
In FinTech and the broader technology industries, SOC I ((Service Organization Control I) and SOC II are the must-adhere technology compliance standards. These two relate to the security and controls of service organizations. SOC I and SOC II help ensure that companies handling sensitive financial data or providing financial services follow best practices regarding security, availability, processing integrity, confidentiality, and privacy.
SOC I reports assess the internal controls that may impact the financial reporting of the customers of a service organization. The audits are performed per the Statement on Standards for Attestation Engagements (SSAE) 18 and focus on the accuracy of financial reporting.
An exemplary SOC I report includes information about the service organization's control environment, control objectives, control activities, and system description. The report also assesses the design and operating effectiveness of the controls.
Use cases: These reports are common for financial services providers such as fund administrators, payment processors, and other organizations that handle financial transactions for their clients.
Unlike SOC I, zooming in on accuracy, SOC II reports focus on controls related to security, availability, processing integrity, confidentiality, and privacy of a service organization's systems and services. SOC II audits are conducted according to the AT Section 101 of the AICPA (American Institute of Certified Public Accountants) standards.
A SOC II report includes the organization's control environment, control objectives, control activities, and details on how the controls address the security, availability, processing integrity, confidentiality, and privacy of customer data. It evaluates both the design and operating effectiveness of these controls.
Use cases: These reports are commonly associated with data centers, cloud service providers, and organizations that store and process sensitive customer data.
Service organizations that undergo SOC I and SOC II audits usually engage independent auditors to assess and report on the effectiveness of their internal controls. The resulting reports shed light for customers on the security and operational integrity of a service organization. Also, they help make informed decisions for other businesses about working with them. FinTech companies and financial institutions often request these reports to ensure that their service providers meet high standards for security and compliance.
Tech hints to keep up with regulations
A major FinTech trend of 2023, open banking is also a vital tool for financial services companies to bolster compliance with regulations.
This set of rules and practices will help you keep your systems and customers safe, thus shielding your reputation. Your cybersecurity strategy should include regular security assessments and techniques like encryption (you can find more here). It’s also helpful to keep track of threats, such as ransomware, and regularly update your defenses. Make sure your team gets proper training, too.
By monitoring systems manually, you risk slipping into human error and spending thousands, if not millions, on fines and legal fees. More importantly, your reputation will become stained. With the regulatory landscape growing more complex, your best bet is automated compliance monitoring solutions. Tools like Compliance.ai or Thomson Reuters Regulatory Intelligence continuously scan your systems to identify vulnerabilities and compliance violations to ensure your organization meets industry standards.
Creating a comprehensive compliance program is fundamental to effectively navigating the complex world of fintech regulation. Your program should combine clear and thoroughly documented compliance policies and a system for ongoing monitoring and reporting.
Tailoring your program to address the specific compliance requirements of your FinTech operations can be challenging, especially in ensuring this program aligns with the regulatory landscape. To simplify the task and achieve the best results, use highly customizable tools like ComplyAdvantage or VComply.
Implement robust data privacy practices such as getting explicit consent for data collection and processing, protecting sensitive information with encryption, and regularly auditing data-handling processes. Engage in reliable security measures to safeguard your data from hackers and build customer trust.
I recently did a separate article on data protection, where you’ll find data security best practices and solutions from top providers.
Having a detailed incident response plan is essential. Your company’s response to cyberattacks, policy violations, and other nuisances should be well described. Define the measures to soften the impact and recover your business after an emergency, designate roles, and set instructions for communication.
A well-thought response can minimize damage to your reputation, save customer trust, and ensure operational robustness. With a solid incident response plan, you’ll show your commitment and professionalism in handling challenging situations like data breaches. Tools like NICE Actimize or MetricStream can help you automate for effective incident response management in the financial sector.
Blockchain-powered immutable audit trails ensure compliance data and records are secure, transparent, and tamper-proof. Also, you can utilize smart contracts, which are self-executing contracts encoded in the blockchain. They can automate some KYC/AML processes and enforce compliance policies.
Solutions like Antier Solutions’s KYC solution or Factom’s Harmony platform for blockchain-based audit trail can help your company benefit from blockchain technology in FinTech.
Canadian vs. US regulations
Companies providing financial services on either side of the border must understand the regulations and sentiments of each country. While necessary to comply with the law, this understanding will also help you do the right thing to converse more clients. For instance, the rarity of banking failures in Canada coupled with the stronger regulatory framework results in customers there having a higher level of trust for banks than in the U.S. Americans, on the other hand, remember the financial crisis of 2008-09, which undermined their confidence in the American banking system.
The information below will help you navigate the many agencies regulating the products and services fintechs offer. Understanding how local regulatory environments differ will help underpin the following business decisions. For example:
For instance, there is currently no Canadian national federal securities legislation or national securities regulator; instead, each Canadian province and territory has its own securities laws and securities regulator. These may be more or less uniform, thanks to the collaborative effort of the Canadian Securities Administrators (CSA). However, watch out for the differences; they still may be significant.
Each country's regulatory landscape is nuanced, making expertise in one country beneficial when working with counterparts in another. Let’s take a closer look at regulations in the USA and Canada.
While funding activity has declined in the U.S. this year, the country remains the largest market for FinTech in the first half of 2023. Lots of innovation is happening in the U.S., but to stay on top, you need to comply. Navigating FinTech compliance and regulatory best practices in the United States demands attention to several key factors.
One of the first steps fintechs must take is registering with the Financial Conduct Authority (FCA). It’s a fundamental requirement for those operating in the UK. The FCA plays a pivotal role in regulating these businesses, ensuring their adherence to stringent financial rules and regulations. This oversight encompasses the enforcement of robust AML measures.
If your fintech involves securities trading or investments, you may need to register with the Securities and Exchange Commission (SEC) or state securities regulators.
The rule would require supervised nonbanks to register with the CFPB in case their contractual terms and conditions incorporate provisions aiming to limit certain consumer rights or to waive any constitutional, statutory, or common law legal protection, right, or defense.
Certain types of financial products you might offer may oblige you to comply with regulations of entities like:
Apart from registration, companies must establish well-crafted AML policies and procedures. These protocols should be meticulously designed to deter the illicit use of funds by criminal elements and potential terrorists. The specific requirements naturally fluctuate based on the business's size and nature. However, all firms must maintain dynamic, risk-based AML policies, subject to regular review and updates.
While its banking system enjoys high customer trust, Canada is also a FinTech-friendly hub. Like the U.S., the country boasts diverse financial technology enterprises spanning all growth stages and operating nationwide. FinTech regulation also involves multiple authorities, not a single regulatory body, depending on your business's services. Provincial and territorial securities administrators are taking the lead in Canada’s regulatory terrain.
Entities offering banking, consumer credit, insurance, or capital-raising services must comply with sector-specific rules. General business regulations like privacy laws, anti-money laundering, and consumer protection also apply. The Retail Payments Activities Act (RPAA) introduced a new retail payment regulatory framework, enabling the Bank of Canada to supervise payment service providers (PSPs). Companies entering regulated services should explore potential regulatory exemptions, with securities regulators often open to granting exemptions for fintech firms. Let’s take a closer look at the entities you’ll engage with if starting a FinTech business in Canada.
Final details
As the FinTech world marches into uncharted territories, the compass of compliance becomes your trusted guide. When harnessed correctly, it's the cornerstone of trust, innovation, and a flourishing future.
For further guidance and tailored solutions in compliant FinTech software development, ask us at INSART. We're here to navigate this complex landscape with you. Let’s get on a quick call to ensure your software development gets on well with regulations.