Open Banking: how can it benefit the borrower/lender relationship?
What is Open Banking?
Open Banking was set up by the Competition & Markets Authority (CMA) on behalf of the UK Government. It is designed to improve competition and innovation in financial services, to drive better outcomes for consumers and businesses.
Since January 2018, the big nine banks (CMA9) - Allied Irish Bank, Bank of Ireland, Barclays, Danske Bank, HSBC (HSBC, First Direct, M&S), Lloyds Banking Group (Lloyds, Halifax, Bank of Scotland), Nationwide, Natwest Group (Natwest, RBS, Ulster Bank) and Santander – have been required to give regulated third parties secure access to their customers’ current account information, provided that customers have given their consent.
What are its uses?
- To share information:
Account Information Service Providers (AISPs) provide third parties, such as lenders or financial account aggregators, with read-only access to bank statements. There is no ability to interact, it is like sending a PDF copy of your bank statement but in a digital format. - To initiate payments:
Payment Initiation Service Providers (PISPs) allow third parties such as online retailers to initiate payments through your bank. If you have shopped at an online retailer that allows you to store your credit/debit card for future purchases rather than entering them each time you buy from that website, you have experienced the benefit of Open Banking.
As a consumer, it could help you consolidate your bank accounts into one platform or speed up your mortgage application process. As a business, it could help you to manage your cash more effectively or to secure additional funding.
Who oversees it?
Enforcement rests with the CMA while protection for consumers is the responsibility of the FCA for account information and payment initiation services (under the PSD2) and the Information Commissioner’s Office for data.
The Open Banking Implementation Entity (OBIE), set up by the CMA, is responsible for the delivery of Open Banking in the UK and provides a framework of standards and systems.
How is information shared?
The account holder must give their explicit consent to any exchange. The information is then shared with the regulated third party through an application programming interface (API) framework, which prioritises customer protection.
How can it benefit the borrower/lender relationship?
If you have taken out a business or personal loan from the bank where you have a current account, then your transactional behaviour has been used as part of the decision-making process. Open Banking simply provides lenders like ThinCats, which do not hold the main current account of the business, that same visibility.
With Covid-19 causing heightened uncertainty around future cashflows, this enhanced transparency helps improve the efficiency, accuracy and flexibility of the lending process to ensure borrowers get the best funding solution for their needs, both now and in the future.
Responsive to borrowers’ needs
Having real-time account information allows lenders to see where funding solutions are working well or where a small change could make a big difference. A key value-add of Open Banking is that you can accurately categorise and group the transaction data, for example, transactions to the same supplier or supplier type. This provides a good foundation for lenders to refine their credit analysis and provide a more dynamic service to their customers.
It also enables lenders to identify potential problems earlier so that they can work with the borrower to resolve them, facilitating early conversations about when payment holidays or additional funding might be needed.
From a practical perspective, the technology reduces the borrower’s monthly reporting burden. Instead of manually collating data packs every month, lenders can gather information automatically.
More accurate assessment of credit risk and pricing
For a lender such as ThinCats, which funds a large number of cashflow-backed loans, having access to the movements of a borrower’s current account provides valuable data to support more informed credit decisions and to set covenants that are aligned with the borrower’s business cycle.For example: how exposed is a borrower to a particular customer or supplier? Is there any seasonality to its revenue?
The great advantage of Open Banking for cashflow lending is that we can analyse the data in multiple ways, which is simply not possible using physical current account statements.
ThinCats is a market leader in analysing data relating to mid-sized SMEs having built our own data models - PRISM - specifically for this sector. A proprietary approach was necessary because we felt existing SME credit models underestimated the credit quality of growing mid-sized businesses because they included data from millions of smaller sized, less creditworthy businesses.
Our PRISM credit model currently contains about two billion data points on mid-sized SMEs, including 14 years of monthly data from Experian on all UK companies in the £0.5-£40m assets range. This data allows us to build a powerful credit score, which is fundamental to our loan pricing. The drawback is that data such as companies’ accounts may only be filed up to nine months after the year-end (extended to 12 months in the current climate) so can be out of date.
Likewise, smaller companies are not required to file full profit and loss accounts, limiting the quality of our overall data. With Open Banking, we can access real-time current account data and combine it with vast amounts of historical data through PRISM.
Not only does Open Banking give us a real-time view of a business’ revenue, but we can also test the accuracy of cashflow predictions made at the time of the funding. Over time, this will improve the accuracy of our credit model and enable a quicker assessment of our credit appetite and pricing.
How secure is Open Banking?
The security of users’ financial data has been at the heart of Open Banking since day one. Every provider that uses Open Banking to offer products and services must:
- be regulated by the FCA
- use trusted and secure API technology to transfer the data
- adhere to the Open Banking standards.
Previously borrowers may have handed over login details or scanned paper bank statements, which would then be manually re-entered into the lender’s underwriting systems. With Open Banking, customers do not need to share their banking login with anyone but their bank.
Most importantly, the account holder must give their explicit consent for any data exchange to occur. Open Banking is designed to allow you to exercise your rights over your data simply and securely. You choose which providers you allow access to your information and for a set timeframe (it is a legal requirement that consent only lasts for 90 days).
How will it work for ThinCats’ borrowers?
Given the significant benefits that Open Banking brings to both the initial funding and ongoing monitoring processes, we are asking that all new borrowers consent to their banks providing Open Banking access to ThinCats. This consent is a requirement of any new funding and will be requested when Indicative Terms are issued.
Following the successful completion of a three-month trial with two potential API providers, we have announced our partnership with Salt Edge as our third-party Account Information Service Provider for Open Banking. According to feedback from customers, Salt Edge provided a smoother and quicker user experience, especially in terms of authentication. Most clients found it straightforward, with the initial set-up process taking just five minutes.
For more information on the Open Banking framework please visit: https://www.openbanking.org.uk/
