Tech companies’ and banks’ tussle over the future of finance may be getting a bit more intense.
Technology companies are moving into retail banking by offering financial products under their name. In almost every case, though, there is a partner bank behind the tech firm.
Often that takes the form of a bank providing insured deposit accounts to the partner arrangement. That may be one thing that emerges from the discussions between Citigroup and Alphabet’s Google, for example. It is also how fintech firms such as Betterment or Social Finance can offer deposit insurance for their offerings without being banks themselves.
What exactly that means for the partner bank is complicated, however. Yes, it is a way for a bank to gather deposits and earn more fees. But not all deposits are created equal. The most economic form of deposits for a bank are “core” deposits. These are deposits that regulators believe will mostly stick with a bank even in times of crisis. Brokered deposits, meanwhile, are considered a bigger flight risk. These are customer deposits that come into the bank via some third party and could leave en masse via that same party.
At times pejoratively known as “hot money,” brokered deposits are more expensive for banks to hold. Banks must keep more of their assets highly liquid if they have brokered deposits and they typically must pay higher deposit-insurance premiums to the FDIC.
How a deposit’s status is determined isn’t always cut-and-dried under the law, says John Popeo, a principal at the Gallatin Group who consults with banks. It often involves discussions with an examiner to convince them that a deposit relationship through an intermediary—say, a wealth manager that sweeps customer assets into a deposit account, or a prepaid account such as a digital wallet used to make mobile payments—functions like a core deposit.
As more of these fintech partnerships emerge, investors in both tech firms and banks will need to ask a lot of questions: Will the deposits be considered brokered? If they are, does that mean the tech company basically controls the relationship with the customer? Or, if they aren’t brokered, does the bank then pay more to the tech firm to bring in such stable funding?
Some of the most intense competition might not be between banks and technology companies but among banks for who gets these deposits. Several smaller and regional banks have been partners to tech firms. Apple works with Green Dot’s bank for Apple Cash, for example.
Often, tech companies have been able to get better deals with smaller banks, said Mr. Popeo, though it also depends on that bank’s own funding, liquidity and regulatory situation. But Citigroup’s discussions with Google show that big banks see a role here, too.
Last week, Federal Deposit Insurance Corp. Chairman Jelena McWilliams said that the agency now aims to modernize the classification of brokered deposits to account for changes in technology and how many consumers use tech to get access to banking, including the rise of “third-party fintech apps.”
One of the FDIC’s goals is to clarify that existing partnerships that constitute a direct relationship won’t result in a brokered deposit. Another is to narrow the definition of who is a broker to exclude entities that aren’t primarily in deposit-moving business; tech companies have argued that should exclude them.
Many banks would benefit from having more deposits counted as core, but the change could also shift some of the balance of power to tech partners. Instead of delivering costly deposits that must thread definitional needs, partnerships might become an even bigger channel for cheap, low-cost deposits. A more liberal definition also could help smaller banks because big banks’ ability to bear the higher costs of brokered deposits would be less of an advantage.
Tech firms might never be able to offer banking services directly. Changing the brokered-deposit rules could be the next best thing.
Write to Telis Demos at telis.demos@wsj.com
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