LEGAL CHALLENGES IN REGULATING CORPORATE GOVERNANCE IN THE FINTECH SECTOR

ABSTRACT

There was a time where customers were standing in an extensive queue just to know their balance in the bank accounts. There was an era when people used to lend and borrow money through the assistance of money postal services. Now the traditional methods have gradually depleted. The credit goes to the Fintech Sector. The regulation of corporate governance in the fintech sector strikes a delicate lining between using the technology to revolutionize how the world uses money in the digital era and mitigation of traditional methods.

The protection of consumer’s private information is also a paramount consideration in fintech sector and cybersecurity. The cyber threats have been increasing at an alarming rate. Ransomware and cyber-attacks on IT firm Kaseya, the Colonial Pipeline, AXA threaten businesses every day. FinTech’s are vulnerable, and protecting peoples’ data is imperative to maintaining trust.^[1]

FinTech is the combination of the words financial and technology. It is the technology that helps consumers or financial institutions to deliver financial services in enhanced ways than was traditionally available. This sector helps the consumer in reshaping their lives with online assistance. Africa Tech Venture Capital (VC) report released by Partech Africa revealed that in 2022, the African tech ecosystem increased US$ 6.5 billion in funding, with a growth of 8% as compared to previous year. The recent global crisis involving operators like FTX has raised stakeholder interest in the affairs of fintech companies, demanding transparency and good governance practices to ensure the sustainability of firms in the industry.^[2]

KEYWORDS

Fintech Sector, Corporate Governance, Cryptocurrency, Insurance, Digital Banking

INTRODUCTION

The financial technology (fintech) seeks to improve financial services. It is utilized to help companies, business owners, and consumers better manage their financial operations, processes, and lives. Fintech covers different sectors and industries like education, retail banking, fundraising , and investment management, to name a few. Fintech means the integration of technology by providing financial services companies to improve their use and delivery to consumers. It expands financial inclusion and uses technology to cut down on the operational costs. Examples of fintech applications can be peer-to-peer (P2P) lending apps, investment escapement apps and crypto apps, among others.^[3]

Fintech aims at the development and use of cryptocurrencies, like for example Bitcoin. It delves into innovation in how people transact in trade, from the invention of digital money to double-entry bookkeeping. Some examples where the readers can relate on daily basis include transferring money from your debit account to your checking account, sending money to a friend, or managing investments through an online broker. According to Ernst and Young, Ey’s 2019 Global FinTech Adoption Index, two-thirds of consumers utilize two or more fintech services.^[4]

This article revolves around the mechanism of the fintech sector in corporate governance. Corporate Governance is the means set of rules and regulations, policies and strategies that are useful to regulate the behaviour of a system, an authority or a large number of people. It is the system of rules, practices and processes by which a company is directed and controlled. The corporate governance fosters in balancing the interest of a company’s stakeholders, senior management, shareholders, suppliers customers, lenders, the community and the government.^[5]This article help the readers to understand the intricacies of in-depth knowledge on how FinTech sector impacts the corporate governance.

OVERVIEW

FinTech unbundles financial services into individual offerings technology that allows fintech companies to be more efficient and lower costs associated with each transaction. For instance, the mobile stock trading app Robinhood does not charge any fees for trades,

and peer-to-peer (P2P) lending sites like Lending Club, Prosper Marketplace and OnDeck promise to reduce rates for loans to broad market forces.^[6] Business loan providers like Lendio, Accion, Kabbage, Funding Circle and so forth offer startup and well-noted businesses to secure working capital.

In India, the Financial Stability Board of the Bureau of Indian Standards (BIS) defined it as “technologically enabled financial innovation that may result in new business models, applications, processes, or products with an associated material effect on financial markets and institutions and the provision of financial services.” In other words, this sector helps the financial firms with cutting-edge technology to create, and automate the supply of banking and finance. It can potentially improve productivity and save costs while promoting financial inclusivity by changing the way consumers perceive financial services. Transaction processing and settlements, asset management, deposit lending and capital generating, market liquidity, risk mitigation and data analytics are some of the major areas the sector is concentrating upon.^[7]

IMPORTANCE

First and foremost reason for fintech to be considered as important is due to advancement of technologies. Predictive behavioral analytics, and data-driven marketing, will influence financial decisions. It is a keen adapter of automated customer service technology, utilising chatbots and Artificial Intelligence to help customers with minimum staffing costs.

Secondly, from the mid-2010s, fintech has advanced, with startups receiving venture funding and incumbent financial firms either taking up new ventures or building their own fintech offerings. The startups go through significant changes like thinking, processes, decision making in corporate structure.

Thirdly, there are four categories of users for fintech; Business-to-business (B2B) for banks

Business-to-consumer (B2C) for small businesses, Clients of B2B banks, Consumers. A business owner or startup requires bank to secure financing or startup capital. If they accept credit card payments, they should establish a relationship with a credit provider and install infrastructure, such as a landline-connected card reader.

Furthermore, When comparing fintech and traditional banking, fintech companies provide top-notch services at a minimal price. The reason is there are no physical branches. They avoid spending money on labour costs. Some fintech apps are also making the traditional bank obsolete because an individual can easily do many operations from a smartphone.

Lastly, the sector can boost the business growth and expand organisation in several ways. It helps in managing resources efficiently and explore effective ways to utilize financial accounting information. Fintech is a boon for financial institutions that are often required to maintain high operational efficiency across multiple industries.^[8]

TYPES

Digital Transfer: Tapping into peer-to-peer lending, lets users lend loan through P2P lending for business ventures without the interference of a traditional financial institution. These kinds of innovations means the usage of advanced analytics across digital platforms. In the growing field of credit reporting, Credit Karma serves as an example of a FinTech which provides service in exchange to advertise loans and credit cards tailored to its customers.
Cryptocurrency & Blockchain: Cryptocurrency exchanges connect users in buying or selling cryptocurrencies such as bitcoin. Blockchain solutions reduce fraud by keeping provenance data on the blockchain. For instance, Ethereum, introduced smart contracts, enabling developers to build decentralized applications and issue new digital tokens via initial coin offerings. It has paradigm shift in finance, empowering people with greater control over their assets and enhance innovation in fintech sector.
Insurance: Insurtech is the usage of technology that is designed to maximize savings and gain efficiency from the insurance industry models. They redefine the insurance customer experience by innovating underwriting, claims processing and immediate activation. FinTech companies are starting to partner with traditional insurance companies to expand their coverage.
Trading: Trading has improved with the improvement of the FinTech sector. Information from big data is often unstructured without the assistance of AI technologies. Using natural language processing, technologies can sift through complex datasets into simpler form. Now, traders can now run large amounts of data through algorithms and also identify trends and risks.
Banking as a Service: FinTech’s are able to offer a financial institution’s products and services. FinTech pays a fee to a financial institution to utilize their platform, banking Licence, regulatory expertise, and services related to lending, payments, mobile bank accounts, fraud management, debit cards and so on.^[9]

LEGAL FRAMEWORK

Regulatory Landscape in India: In India, the regulatory framework for fintech is currently fragmented into rules or norms that govern all fintech services. The primary regulatory agencies overseeing this sector in India include Reserve Bank of India (RBI), Securities and Exchange Board of India (SEBI), Insurance Regulatory and Development Authority of India (IRDAI), Ministry of Electronics and Information Technology (MEITY) and Ministry of Corporate Affairs (MCA).
Provisions under IRDAI: Its regulatory sandbox framework aim at promoting innovation to safeguard the rights and benefits of policyholders.^[10]

The Insurance Regulatory and Development Authority of India (Registration of Corporate Agents) Regulations, 2015: Corporate agents act as between insurance companies and potential policyholders as intermediaries. This regulation provides a framework with respect to the ownership and control, registration, record keeping and operations of corporate agents operating in the insurance businesses.
The Insurance Web Aggregator Regulations, 2017: This regulation was introduced to monitor web aggregators acting as insurance intermediaries. These intermediaries operate websites that offer users a platform to compare prices and access information about products from different insurance companies.
The Insurance Regulatory and Development Authority of India (Insurance Brokers) Regulations, 2018: Insurance brokers who facilitate the buying and selling of insurance products between the parties. These regulations safeguard the policyholder’s interest by ensuring that insurance brokers are registered and licensed. Further, it monitors online sales, distance marketing and telemarketing and highlights rules and regulations to be followed upon non-compliance.

Provisions under SEBI: SEBI has established various regulations to control the conduct of stock brokers and investment advisers. It sets a criterion for eligibility, registration requirements and compliance-based as obligations to ensure that the market participants adhere to the necessary standards of competence and ethical conduct. It plays a vital role in regulating the issuance of security receipts within India in order to safeguard the interests of investors foster the growth of the securitization market.^[11]
The National Payments Corporation of India (NPCI) Regulations: It is responsible for managing several payment systems in India, like RuPay card payment network, the Unified Payment Interface (UPI) and payment aggregators. The operation and functioning of these payment systems ensure their efficiency in facilitating transactions.^[12]
The Information Technology Act, 2000: IT Act,2000 regulates FinTech businesses. In accordance with Section 43A^[13]of the Act, businesses are liable for damages if they fail to take reasonable precautions to protect the sensitive personal data of customers. Section 72A^[14]establishes penalties for breach of a valid contract. Maintenance of personal data about their customers is very important to FinTech firms. It is important to adhere to the data security laws in order to avoid legal difficulties.
The Consumer Protection Act, 2019: As per Section 2(47)(ix) of the Act^[15], “disclosure of consumer’s personal information given in confidence, unless required by law or in the public interest,” is an unfair trade practice. It prohibits the disclosure of a consumer’s personal data without the prior authorization and permission.

LEGAL CHALLENGES IN CORPORATE GOVERNANCE

Data Privacy and Security: They are paramount for companies dealing with a user’s contact number, date of birth, bank account details, and other important data about the consumers. On the other hand, unfair, deceptive, malpractice or abusive acts are solid grounds for companies to follow privacy rules. To quote and example, Cesar Cerrudo, CRO of Strike, exposed the company for unsafe security approach regarding password changes and sensitive data management.
Emerging Technologies: As new technologies emerge, regulators are aiming to standardize AI usage and protect users from misuse. They also offer services to customers about their credit scores, forecast investment trends and improve the customer experience with chatbots and behaviour analysis. But these implementations arise ethical concerns and introduce new risks. It is also a threat in matters of data privacy concerns, lack of Artificial Intelligence regulatory frameworks ,cybersecurity concerns among many more.
A recent survey revealed that 78% of companies polled use third-party AI tools, and these vendors are responsible for 55% of AI failures in businesses.^[16]
Cybercrimes and Financial Threats: Cybersecurity leads to financial operations and user information at risk. Other cyberattacks include phishing, fraudulent emails and messages and Distributed Denial of Service (DDoS) attacks, which crash servers to name a few among others. Revolut’s case is one of the examples of how cybersecurity can deeply affect a company’s finances. Revolut experienced a growth rate of 700% YoY based on incremental customers acquired through partnership channels, with more than 6,000 active partners.
Know Your Customer (KYC) Compliance: KYC requirements include document verification and customer identification. Money launderers try to submit incomplete or false personal information and pretend to have the anonymity of online transactions provided by fintech products and services. They comply with local and global regulations regarding customer privacy to avoid penalties and legal challenges.
Crypto Regulation: As per Financial Times, due to shortcomings in customer checks crypto and digital payments companies paid $5.8 billion in fines in 2023.^[17] For navigating the complex regulatory system, fintech’s must strike delicate balance in innovation with regulatory compliance and monitor government websites, subscribe to alerts or newsletters and also hire legal counsel. ^[18]

CONCLUSION

The principal regulatory tools that apply to Non-Bank Financial Institutions [NBFCs] and the Reserve Bank of India Act, 1934 are guidelines for enforcement of fintech sectors. Fintech sectors are governed through both directly and indirectly mechanism that are connected to NBFC and RBI as well. The organisation must fulfil a number of standards in order to receive Licence from the RBI. In India, many digital lenders who have received NBFC approval. For Example, Bajaj Finance, Muthoot Financial hfc among other prominent lenders have been approved by NBFC.

The use of contemporary innovation to deliver financial services has been widely proliferated as financial inclusion. Though FinTech industry faces obstacles from confusing laws, consumer distrust, the company management has to maintain good records in corporate governance. Digital Personal Data Protection Bill, 2022 serves as the prominent legislation for the sector.

The board of directors plays a vital role in alleviating agency problems. Fintech governance structure faces challenges like: over-boarded directors, lack of anti-misconduct policy, CEO duality, and the malpractices in audit committee. Organization for Economic Co-operation and Development (OECD) provides a guideline for corporate governance, suggesting that anti-misconduct policy for better governance. ^[19]These existence of challenges postulates as indicators of weak governance. The supervisory structure of Fintech firms hinder the audit firms to deduct financial misstatement. It shows that the Fintech firms have embedded weak governance, which will expropriate the shareholders’ right in the listed firms’ collaboration.

Fintech is a revolution in the financial services industries. The banking models with advanced technologies and innovative ideas help companies to manage money better and save time.

REFERENCES

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^[1] Govenda,https://www.govenda.com/blog/fintech-and-corporate-governance# [last visited on 20 April,2024]

^[2]PartechAfricaReporthttps://partechpartners.com/africa-reports/2022-africa-tech-venture-capital-report [last visited on 20 April,2024]

^[3]JuliaKagan,https://www.investopedia.com/terms/f/fintech.asp#:~:text=Fintech%20refers%20to%20the%20integration, [last visited on 20 April,2024]

^[4] EY. “Global FinTech Adoption Index 2019.”Page 6

^[5]JamesChen,CorporateGovernance,https://www.investopedia.com/terms/c/corporategovernance.asp#:~:text=Corporate%20governance%20is%20the%20structure,company’s%20operations%20and%20ultimate%20profitability [last visited on 20April,2024]

^[6] Robinhood,https://robinhood.com/us/en/support/articles/trading-fees-on-robinhood/ [last visited on 20 April,2024]

^[7]PratikKarmarkar,https://blog.ipleaders.in/overview-of-laws-applicable-to-fintech-companies-in-india/#:last visited on 20 April,2024]

^[8] Jaydeep Patadiya, https://radixweb.com/blog/what-is-fintech [last visited on 20 April,2024]

^[9]RonBarasch,https://www.yodlee.com/fintech/what-is-fintech#:~:text=In%20the%20growing%20field%20of,specific%20needs%20of%20its%20customers [last visited on 20 April,2024]

^[10] Insurance Regulatory and Development Authority of India (Regulatory Sandbox) Regulations, 2019

^[11] The SEBI (Stock Brokers) Regulation,1992,Act of Parliament [1992],India; and SEBI (Investment Advisers) Regulations, 2013,Act of Parliament [2013], India

^[12]CorridaLegal,https://www.corridalegal.com/publications/fintech-laws-in-india-understanding-the-regulatory-regime/ [last visited on 20 April,2024]

^[13] The Information Technology Act,2000,§43A,Act of Parliament[2000],India

^[14] The Information Technology Act,2000,§72A,Act of Parliament[2000],India

^[15] The Consumer Protection Act,2019,§2,section 47, sub-section (ix),Act of Parliament [2019],India

^[16]MariaDiaz,Zdnethttps://www.zdnet.com/article/third-party-ai-tools-are-responsible-for-55-of-ai-failures-in-business/ [last visited on 20 April,2024]

^[17]Laura Noonanand Alan Smith https://www.ft.com/content/f2a8c1e4-30f2-49c7-939b-73e0d1a22033 [last visited on 20 April,2024]

^[18] Wil Hamory,https://foundershield.com/blog/top-7-fintech-legal-issues/ [last visited on 20 April,2024]

^[19]KhakanNajaf,Alice Chinand Rabia Najaf https://www.researchgate.net/publication/349242672_Conceptualising_the_Corporate_Governance_Issues_of_Fintech_Firms# [last visited on 20 April,2024]

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