Banking As A Service (BaaS): The Transformation from Financial Institution to Digital Organization

In the era of digital banking, a customer’s financial data extends far beyond a bank’s proprietary servers. Customers can automatically deposit a portion of each transaction into an investment fund. They can feed their transactions through an app for tips on improving spending habits. Banking as a service (BaaS) and open banking are transforming the relationship between a financial institution and the data it stewards. 

Traditionally, banks would keep customer data close to the vest. After all, paired with knowledgeable tellers and convenient ATM locations, keeping data proprietary was a ‘must’ in order to maintain a competitive advantage over other legacy banks. Banks essentially held a monopoly on customer data and dictated how and when they could move their money.

The battering ram at the data door was the looming evolution of customer preferences: a growing affinity for convenience and all things digital. In a world that’s constantly ‘on’, customers want real-time access to their banking details and technology bigwigs are champing at the bit. Many have the capital and the power to step into the financial realm and play the role of a major bank. Branchless, digital-only banking apps are luring modern customers, so how can traditional banks compete? By liberating customer data, banks can share their infrastructure to serve as the primary connection with customers. Instead of hoarding data as a competitive advantage, banks leverage data to become a service provider to other businesses and brands. How? Through two popular opportunities: open banking and BaaS.

What is the difference between open banking and banking-as-a-service (BaaS)?

To meet the new digital demand, banks have to strategically shift their relationship with customer financial data. Open banking is a financial framework that untethered customer data from a centralized silo. It’s a practice where banks grant a third-party brand or business secure access to their ecosystem. While similar, open banking and BaaS differ in a major way: specifically in what a third party receives access to. 

Open banking refers to a brand accessing a bank’s data like transaction types or account balances. Examples of open banking include:

• Bookkeeping services aggregate transaction history from several accounts into a single dashboard.
• Mortgage lenders and car retailers provide personalized quotes based on a customer’s financial history.
• Credit scoring firms tabulate scores by reading through a customer’s credit card and payment data.

Some patrons of open banking are also able to initiate transactions via a customer’s account. One example is a round-up or spare change investment app. A user grants authority for the app to transfer an agreed-upon amount into a specialized savings account, typically the difference between a spent amount and the nearest dollar. 

BaaS takes things a step further by granting a brand access to a bank’s core functionality such as credit card or loan provider. The third-party brand can offer a customer benefit, while the bank does the heavy financial lifting like underwriting and financing. Examples of BaaS platforms include: 

• Financial technology (FinTech) leaders build licensed ‘neobanks.’ These branchless banking apps provide unique customer interfaces and experiences while tapping into a larger institution’s infrastructure. 
• Rideshare services partner with a bank to offer vehicle loans to new drivers. 
• Modern financing apps can partner with e-commerce shops to offer split payments on purchases.
• Software development firms link with e-commerce platforms to offer near real-time refunds for product returns. 
• Airlines or retailers offer branded (or “white-labeled”) credit cards where customers can rack up frequent flier points through every purchase.

Behind-the-scenes, and in many instances invisible to the customer, transactions flow through the bank’s back-end technology. Brands need access to financial functions and can now use technology to tap into a bank’s service offering. 

How did the technology behind BaaS evolve? 

A bank’s core offering has transformed significantly over the recent decades. Traditional customer lures revolved around convenient branch locations and A-plus teller interactions, but the digital evolution upended traditional models. 

Brick-and-mortar financial institutions become more than a place to meet with a banking professional, but the neighborhood ATM location. Suddenly, customers could perform the majority of their transactions without stepping foot inside. 

A bank’s ‘front door’ continued to evolve, moving further and further away from headquarters. Now, modern customers can access the full fleet of banking services without ever leaving their homes, as the world has shifted to internet and mobile app usage. 

Application programming interfaces—more commonly known as APIs—are the bits and bytes that make this journey to digital possible. APIs help two applications from different vendors securely exchange information. They perform thousands of automated banking tasks, activating an entire chain of internal functions to a single mouse click or screen tap. APIs trigger tasks like reporting, data entry, Know-Your-Customer checks, and invoice processing without human involvement. APIs serve as the secure key to a bank’s data and functions. Granted the right access, authorized businesses and brands can securely view a customer’s financial history, crunch the numbers, and provide a personalized service like a tailored quote on a loan or vehicle purchase. 

We encounter APIs in action each and every day: it’s how a local restaurant is able to display a Google Map on their website to pinpoint their location. Retailers like Alibaba or Amazon use API connections with shipping carriers to inform you when your package arrives. It’s also how e-commerce sites communicate with AliPay, ApplePay, or Klarna to offer those payment options to their shoppers. 

Both modern open banking and BaaS are products of the API revolution, introducing safe and secure ways for financial institutions to integrate with non-banking brands. 

How banks can use BaaS to position themselves in the digital marketplace

Some banks look at BaaS as a threat, but tech-savvy institutions are taking full advantage of the trend. Think of it from the perspective of a non-banking e-commerce brand. Taking on the responsibility of becoming their own bank is not only a huge financial undertaking, but a regulatory nightmare. Code has replaced the immense capital needed to take on these innovative initiatives. Banks simply need to make it easy for businesses and brands to take part. 

For many businesses, customer journeys grind to a halt because of a money-related issue. Instead of a lack of funds interrupting their experience or purchase, BaaS helps brands create smoother customer interactions, and in turn, convert more prospects into paying customers. By offering their financial functions as a service to brands in need, banks can serve a critical need in the booming e-commerce industry.

Thinking outside of the box: The future of BaaS in the banking landscape 

The demand for digital experiences is only intensifying. Accelerating your digital transformation and banking automation initiatives are must-haves to meet the needs of these new revenue models. In many countries, the trend of open banking is no longer just a customer preference, but a regulatory requirement. As customers continue to flock to companies that make digital their top priority, how easy you make it for brands to access banking data will grow in importance. 

Beyond Banking

Some analysts predict banks will follow the same trend of ‘service consolidation’ experienced by other industries. Just as Amazon is now your grocer, librarian, and personal stylist, banks will undergo the same evolution. By partnering with other industries, banks will become part of a highly desirable ‘mega-offering.’ Insurance providers, business bookkeeping services, and other financial verticals could merge their customer bases into a one-stop shop. By becoming part of this growing ecosystem of user behaviors, banks will gain unparalleled insight into their customer base.

Prepare for IoT Integration

Many banks are already looking into the more distant future. With the rise of IoT (Internet of Things), traditionally analog devices will start to log online. Cars and refrigerators, for example, will have a digital heartbeat. One bank has already forged a partnership with a leading smart car manufacturer to transform vehicles into modern wallets. In the future, the car itself will be the ‘account holder’ and autonomously pay for fuel, tolls, and other expenditures. 

These coming trends may sound fantastically futuristic, but BaaS sets the foundation for their arrival. Keeping data close to the vest is no longer an option, banks must embrace its democratization and offer financial services in new and exciting avenues. Once banks start to consider themselves as a ‘service provider’ to all kinds of brands and businesses, the only limitation on revenue opportunities is one’s imagination.