Blaw Week 5 Fintech Sandbox PDF

Preview

Summary

BTF3601 WEEK 5 NOTES...

Description

Week 5: Fintech (I): Sandbox & Data Protection

To Regulate or Not? A Hard Question in Post-GFC Era 

Shifting Attitudes Towards Innovation After the GFC 

GFC damaged banks profitability and increased compliance costs.



Large-scale professionals were made redundant.



Utilise new technologies to enhance efficiency (e.g., reducing transaction costs)



Provide new solutions to old problems



But GFC showed that innovation comes with risks (e.g., various securitized products like CDO). 







Paul Volcker: “found very little evidence that vast amounts of innovation in financial markets in recent years has had visible effect on the productivity of the economy.”

Balancing Act: 

Are these Fintech start-ups too small to care (or too large to ignore)?



How to promote innovation while protecting consumers and markets?

Policy Options? 

Doing Nothing (either permissive or restrictive towards Fintech depending on existing legal framework)



Cautious experimentation/case-by-case flexibility (e.g., no action letter, restricted licence)



Structured, transparent experimentation (e.g., sandbox—a safe place to test with less risk of non-compliance)

Other factors to consider in regulatory design 

Promoting innovation/competition vs. consumer protection & stability



Jurisdictional competition? 



Market/Fintech Friendly environment to attract investors.

Regulatory capture? 

Incumbent banking/financial market participants vs high-tech start-ups?

Hurdles to Overcome? 



Access to Capital 

Difficulties in attracting finance.



The lack of access to capital exacerbates the other two issues.

Organizational Competence 



Founders often have some experience, but may not fully meet the organizational competence standards

Speed to Market 

Time-consuming, expensive to take new service to market to demonstrate consumer interest and viability of new businesses for start-ups with limited resources.

Legal Hurdles- Licensing Requirements •

Financial Services

•

An Australian financial services (AFS) license is generally required; alternatively, providing financial services on behalf of an AFS licensee as a representative (recall: Week 4).

•

Financial Services: •

Provide financial product advice;

•

•

Deal in a financial product;

•

Make a market for a financial product;

•

Operate a registered managed investment scheme;

•

Provide a custodial/depository service;

•

Provide traditional trustee company services.

Consumer Credit •

An Australian credit license is generally required; alternatively, acting as a representative of a credit licensee.

•

Two broader categories of credit activities: •

Credit activities relating to the provision of a credit contract or consumer lease and securing obligation thereunder;

•

Credit services (e.g., assisting persons to enter into a credit contract)

#1- Existing Flexibility in the Law •

Exemptions available under law •

•

Acting on behalf of an existing license •

The licensee must hold a license that authorises it to engage in the conduct (e.g. financial services or credit activity) that you seek to undertake on its behalf; and

•

unless you are an employee, director or related body corporate of the licensee, the licensee must appoint you as its authorized representative

Products/Services that Do Not Require A License

•

e.g., a foreign exchange contract that settles immediately is not required under the Corps. Act; or noncash payment facility (max. balance is $1,000, max balance across all such products is $10M. See RG 185: Non-cash Payment Facilities).

#2- Fintech Licensing Exemption: Overview 





Legal Basis



Financial services: Corporations (Fintech Sandbox Australian Financial Services Licence Exemptions) Regulations 2020 (“AFSL Exemption Regulations”)



Credit activities: National Consumer Credit Protection (FinTech Sandbox Australian Credit Licence Exemption) Regulations 2020 (Regulations) (“ACL Exemption Regulations”)

Purpose 

To “create a ‘regulatory sandbox’ to encourage and support the design and delivery of new financial and credit services that will benefit consumers and businesses.”



To help business “overcome regulatory burdens and costs that may hinder businesses in developing innovative offering.”

Relying on the Fintech Licensing Exemption 

Those who meet the eligibility requirements are legally entitled to rely on this exemption for up to 24 months.



Must notify ASIC (in a prescribed form) before starting relying on this exemption and provide certain information



Key: must not suggest to consumers that your business/business model has been licensed, authorised or approved by the ASIC.

Notification 

Notifications [AFSL Exemptions Regulation, S 6 and 16]



An eligible person must notify ASIC of their intention to rely on the exemption to test a financial service and/or credit activity.



Once a notification is lodged with ASIC, a 30 day notification period will begin where ASIC can review the notification and could decide to prevent the person from using the exemption in certain circumstances.



The person’s exemption will start the day after the 30 day notification period ends.

Eligibility 

Financial Services [AFSL Exemptions Regulation, S 5] 





“Eligible person” can access to the exemption so long as this person is not o

Authorised by an AFSL to provide the financial services in relation to that kind of financial products;

o

An authorized representative of an AFSL holder for the provision of the financial service in relation to that kind of financial product;

o

An operator of a financial market or clearing and settlement facility;

o

A related body corporate of a person who is o

Authorised by an AFSL to provide the financial services in relation to that kind of financial products; or

o

An authorized representative of an AFSL holder for the provisions of the financial service in relation to that type of financial product.

Restrictions applicable to natural persons and foreign companies o

A natural person: must be Aus. citizen or PR in order to be eligible person.

o

A foreign company will only be an eligible person if it is registered under Div. 2 of Part 5B.2 of Corp Act.

Additional Restrictions on Eligibility [AFSL Exemptions Regulation, s 6, note 1; s 16 (1) (c)] 

A person will not be eligible to rely on the exemption to test a financial services in relation to a particular type of financial product, if they (or their related body corporations) have previously used the exemption to provide that before.



This restriction is to prevent testing of the same type of product numerous times. o

E.g., Company X previously completed a 24-month period of testing a digital advice model in relation to general insurance. It (and its related body corp) cannot rely on the exemption again to test financial advice in relation to general insurance products. But it is okay if Company X attempts to use the exemption to test a different digital platform by which it arranges for the issuance of superannuation products.

Duration of the Exemption 

How Long Can Be Tested? [AFSL Exemptions Regulation, s 7] 

For a maximum period if 24 months for each eligible financial services provided in relation to a particular kind of financial product. The exemption period commences the day after the 30 day notification period finishes.



The 24-month period is a fixed period that cannot be extended, paused or reset.



Previously, 12 months (under Regulatory Guide 257)



The time period applies for each exemption notification provided to ASIC. 

E.g., Company Y is already using the exemption for the dealing in general insurance products for six months; it then decides to notify ASIC that they now also wish to deal in life risk insurance product— which testing will finish six months after the exemption for dealing in general insurance products. In other words, the testing period is counted separately.

What Types of Financial Services Can be Provided? 

Eligible Financial Services [AFSL Exemptions Regulation, s 5] 

Providing financial product advice in relation to a particular kind of eligible financial product;



Applying for, or acquiring a particular kind of eligible financial product;



Issuing, varying, or disposing of a non-cash payment facility; 

Previously, issuing is not permitted under RG257.



Arranging for the issuing, varying, or disposing of a particular kind of eligible financial product; and



Providing a crowd-funding services.

Services in Relation to What (Eligible) Products? 

A person can rely on the exemption to provide financial services to retail clients relating to the following products [AFSL Exemptions Regulation, s 11] 

A deposit-taking facility issued by an ADI regulated by APRA;



A non-cash payment facility issued by an ADI regulated by APRA;



A general insurance product issued by a general issuer authorized by APRA (except for a consumer credit insurance product);



A life insurance product issued by an APRA regulated life insurer;



A superannuation product that is issued by an APRA-regulated superannuation fund;



An interest in a simple managed investment scheme;



A Commonwealth debenture, stock or bond;



A listed domestic or international security on an official list of a prescribed financial market or an approved foreign market; and



A security specified in a regulation made for the purposes of para. 738G(1)(c) of the Corp Act, if the person is providing crowd-funding services.

Exposure Limits 



Total Limit for Products for Each Retail Client [AFSL Exemptions Regulation, s 12] 

For a person to use the exemption, they must remain within the prescribed exposure limits for retail clients.



The exposure limits for retail clients apply on a per client per provider basis; it is to ensure that retail clients are not exposed to excessive levels of risks from Fintech businesses (without license).



Each retail client can commit to invest no more than $10,000 as a result of general financial products [AFSL Exemptions Regulation s 12(1) (a) (b)].



There is no individual cap for certain products under AFSL Exemptions Regulation s 12(2) (e.g., an eligible general insurance product; an eligible life insurance product; an eligible superannuation product, etc.) However, there is a $5 million aggregate client exposure limit still apply (see next slide).

Total Limit for All Services [AFSL Exemptions Regulation, s 13] 



A person relying on an exemption must not exceed the prescribed aggregate exposure limit across all clients and products. Under this aggregate client investment cap, all of the following amounts added together cannot exceed $5 m: 

All amounts committed by all clients in relation to all kinds of financial products the person provides financial services for;



All amounts of the gross premiums that all clients have committed to in relation to general insurance and life risk insurance products the person provides financial services for;



All amounts that all clients contribute to superannuation products the person provides financial services for;



All amounts of credit activity under the ACL Exemptions Regulation

Once a person reaches or exceeds the $5 m cap, they can no longer rely on the exemption to provide any further financial services.

Duration of the Exemption





Testing Can Be Ceased Earlier if…[AFSL Exemptions Regulation, Part 3] 

They breach any of the conditions in Part 3 of the AFSL Exemption Regulations (e.g., the exposure limits and types of financial products that exempt financial services can be provided in relation to);



ASIC determines that the eligible person can no longer rely on the exemption for reasons detailed in S 14 (e.g., it has resulted in significant detriment to one or more persons as retail clients, or wholesale clients: s. 14 (1) (d) ), or where the eligible person fails to comply with the best interests duty in providing the financial services; or



The eligible person determines that they wish to cease relying on the exemption before the end of 24 month testing period and that person notifies ASIC as per S 15.

Part 3, Div. 1, AFSL Exemptions Regulation lists circumstances where the exemption ceases automatically.

Other Conditions 

Several Other Conditions [AFSL Exemptions Regulation, Part 5, ss 17-24], e.g., 

S 17: Notifying all clients o



S18: Notifying retail clients o



Must provide the information prescribed in s 17 to all its clients before providing them with a financial service. The purpose of this is to inform clients that the financial service is provided under an AFSL exemption and ensure there is an appropriate level of disclosure.

This section prescribes additional information that must be disclosed to all retail clients before a person provides them with a financial service under the exemption

S20: Maintaining certain procedures, memberships and arrangements o

Establish and maintain an internal dispute resolution process;

o

Be an Australian Financial Complaints Authority (AFCA) scheme member (AFCA) scheme is a defined term in Chapter 7 of the Corporations Act) for the purposes of dealing with complaints against the provider made by retail clients

o

Establish and maintain adequate professional indemnity insurance for the purposes of providing compensation to retail clients.



S21: statements of advice; S 23: financial product disclosure



S24: “Make-good” order: o

ASIC may issue a make-good order to a provider if ASIC believes the provision of a financial service by a person relying on the exemption has resulted, or is likely to result, in significant detriment to retail or wholesale clients. If ASIC issues a make-good order, a person must comply with the order. The order may stipulate changes to the eligible financial service

#3- Individual Relief 



Apply for individual relief: 

testing products/services without a license and cannot rely on (1) the flexibility in the law or (2) Fintech Licensing Exemption;



To extend the testing period or vary the condition for the Fintech Licensing Exemption.

ASIC’s relief powers to exempt a person from a license requirement under the Corp. Act or the credit license under the National Credit Act:



RG 51: Applications for Relief



RG 167: Licensing- Discretionary Powers

Comparison: ASIC’s Approach and Others (e.g., UK)



UK Approach—the first in the world 

Regulator: Financial Conduct Authority (FCA)



It is required to apply for participation in the regulatory sandbox to get authorization in order to test 





Cf. Aus.: industry-wide exemption, notification.

General criteria for UK approach: 

Scope: Are you looking to deliver innovation that is either regulated business or supports regulated business in the UK financial services market?



Genuine Innovation: Is your innovation ground-breaking or a significantly different offering in the marketplace?



Consumer Benefit: Does the innovation offer a good prospect of identifiable benefit to consumers (either directly or via heightened competition)?



Need for a Sandbox: Do you have a genuine need to test the innovation in our sandbox? Applicants aren't required to need a sandbox tool to meet this criteria



Ready for Testing: Are you ready to test the innovation in the real market with real consumers?

Any authorization or registration will be restricted to allow firms to test only their ideas as agreed with us (terms/conditions are agreed individually)

Whose Box is Better? 



UK’s Standard Sandbox vs. AUS Industry-wide Exemption: e.g. –

Who can participate?

–

Prior approval or not? How to assess “innovation”?

–

Scalable or not? (e.g., FCA 2016 1st cohort: 24/69; 2nd cohort: 31/77)

–

Consumer protection?

But why only a handful of fintech start-ups used Aus’ sandbox, even though we are more flexible?

–

E.g., over 1,500 firms requested to enter UK sandbox

Privacy Concerns & Life Cycle of Handling of Data 

Typical privacy concerns, e.g. 

Who has the right to gather personal information?



Is it required to notify individuals and even obtain their consent before their personal information can be collected, processed, or disclosed to other parties or stored somewhere else?



Should there be any limits on the use of personal information, in particular, for reasons unrelated to that for which it originally collected (e.g., direct marketing of unrelated products or direct marketing by third parties?)



Should an individual be allowed to obtain access to, and correct, personal data which is held?

Data Protection in Australia: An Overview of the Framework 

Commonwealth 

The Privacy Act 1988 (Cth).



Australian Privacy Principles (APPs);



Other codes made under the Privacy Act, e.g., the Privacy (Credit Reporting) Code 2014.



Do Not Call Register Act 2006 (Cth).



The Spam Act 2003 (Cth).



ASIC e-Payment Code.



Heath Records Act...