Open Banking: Everything You Need to Know in 2020

Chapter 1

open banking guide

What is Open Banking?

The future of banking isn’t quite here yet, but it is on its way.

If you’ve been a bit underwhelmed by the arrival of Open Banking, you’re not alone. Research released in March found that two thirds of UK consumers don’t even know what it is

And yet this great heavyweight hope was talked up as a mighty assassin, ready to knock traditional financial services into shape. It hasn’t really happened like that.

Or at least, it hasn’t yet.

The consensus is that, once it finds its feet, Open Banking is still likely to deliver the banking revolution its advocates predict. This report explains what it is, and why it is likely to succeed, even if the publicity hasn’t quite hit home yet. Read this, and you’ll be ready.  

What is Open Banking?

So what is this revolution in the making? The prosaic answer is that it is the UK version of a piece of European legislation known as the second Payment Services Directive, or PSD2

A more interesting answer is that Open Banking makes the big banks open up customer data to third parties via application programming interfaces (APIs). APIs let organisations securely share digital information.

That’s a big deal because big banks collect huge amounts of data on what individuals and businesses do with money. Traditionally, they haven’t done much with it, because:

We all banked with big banks anyway. Why change a winning formula?

But Open Banking gives this data to authorised third parties if we want them to have it. It sets them free to innovate.

That opens the way for a new generation of financial products that use this data to create more personalised, intelligent and responsive financial propositions. Tools that could help us save and budget more efficiently. Tools that might predict our future financial circumstances intelligently. Today, there’s a world of new financial technology businesses working on ideas just like that.

Why now?

It’s all thanks to governmental pressure. The nine largest banks in the UK hold 80% of all current accounts. Only 3% of customers ever switch banks, even when better deals are available. The Competition and Markets Authority (CMA) wants to encourage more competition, and make banks work harder to retain customers. They want to make it easier for customers – consumers and businesses – to shop around for overdrafts, loans, credit cards and mortgages. 

This process has also been helped by better technology. We mentioned APIs earlier. APIs are the technology that lets banks securely share customer information with third party providers (TPPs). Put simply, an API allows TPPs to access data or services in a controlled environment. In the case of Open Banking, APIs let TPPs access authorised customer data from a financial organisation without compromising its systems or other sensitive information; and all under standards laid down by European and country government regulations – which should give consumers extra confidence.

Chapter 2

Open Banking for business

Where can you find Open Banking services for business? The UK’s nine high street banks are required to support Open Banking, while two challenger banks – Monzo and Starling – have developed their own APIs. In addition, research for Open Banking Ltd found that 84% of financial services companies are investing in Open Banking products and services

Services for business

The era of Open Banking has only just begun. Nevertheless, several business services are now available. 

  1. Actionable insight, all in one place. Open Banking services open up information and make it more available and useful. Services have already emerged that give SMEs detailed insight into the state of their finances by presenting data from several bank accounts in one place. 
  2. Easy integration, of everything. Do you want to integrate your back office systems and business bank accounts? Do you want to reduce payment processing times and make your ERP system more secure? There’s an Open Banking service for that. 
  3. Consolidation and expansion. Using a single integration, you can create seamless payment experiences that adapt to multiple payment types and customer journeys. Expand into new markets with a couple of clicks. 

How does it work? Two potential use cases

Open Banking in action – late payments

Research by the Federation of Small Businesses reveals that late payments are responsible for the closure of 50,000 businesses every year, at a cost to the UK economy of at least £2.5 billion. 

Open Banking can’t force reluctant payers to pay up on time, but it can reduce the number of late payments caused by oversight and administrative error, as many are. It can also help to mitigate the effects of late payments on your business.

Open banking has a real opportunity to enable products and services that improve SME financial management, and therefore their resilience when cashflow becomes tight.

Mark Chidley, Independent SME Representative to the Open Banking Implementation Entity

How does it work? Open Banking services might examine banking data to identify likely late payers, automate payment reminders, inform business owners of the likely consequences of a missed payment and give a single view on current and future cash flow. They might suggest relevant products to cover shortfalls caused by late payments.  

Trustworthiness scores for companies would give SMEs the information they need to calculate risk. This would tackle the problem at source, with habitual late payers seeing their reputations damaged, and supplier options dwindle.

Open Banking in action – expense management

Financial transaction data is powerful. It gives insight into how you spend money and how you might spend it more wisely. Before Open Banking, banks were the sole custodians of that data but legacy processes and mindsets meant they couldn’t or wouldn’t do much with it. Open Banking lets TPPs mine that data and turn it into useful insights for your business.  

Soldo is a smart expense management solution combining prepaid company credit cards with a sophisticated management platform. With Open Banking, business customers might authorise Soldo to analyse banking data and suggest better spending options. 

Soldo already analyses data based on transactions routed through a Soldo account. Open Banking can allow it to mine data based on transactions routed through any account. Armed with that information, financial managers can better identify savings across the spectrum of business spending. 

Open Banking also opens up the potential for companies like Soldo to manage payments so they are made at optimum times, helping to ensure a healthy flow of money into and out of your business while avoiding financial penalties.

The effect on banks

Open Banking is a quiet revolution that banks ignore at their peril. By removing barriers to competitors, Open Banking is likely to create a thriving digital ecosystem of financial services, with TPPs bringing a wealth of new products and services to market. There are currently around 135 providers authorised to offer Open Banking services to consumers and SMEs, with many more on the way.  

Take business loans as an example. A specialist provider of small business loans now has all the information it needs to provide bespoke offers that target specific business needs, potentially besting incumbent banks on both price and service.

Chapter 3

Can I trust Open Banking?

If anything is holding the promise of Open Banking back, it’s trust. A KPMG study found that, at the end of 2018, only one in seven SMEs were prepared to give a third party access to their financial data.  

The very concept of ‘open’ banking sends shivers down the spine of many Finance Directors. In an age of rampant cybercrime, isn’t the unnecessary back and forth of sensitive financial data the last thing we need?

In reality, Open Banking is likely to be at least as secure as current banking protocols. Here’s what you need to know.

Two types of transaction

There are two types of Open Banking transaction:

  1. Interrogation. An Account Information Service Provider (AISP) is authorised to retrieve your account data from banks or other financial institutions, interrogating it to offer (for example) better financial management tools or faster, easier loan applications.
  2. Payment initiation. A Payment Initiation Service Provider (PISP) is authorised to initiate payments into or out of your bank account. 

You may, therefore, choose to restrict your Open Banking authority to interrogation activities if you’re worried about payment initiations.

Security in Open Banking

Whether AISP or PISP, regulations around Open Banking are tough. Third parties requiring access to banking data are strictly regulated. They have to ask your permission to access data, and they must make it easy for you to revoke consent.

APIs ensure that third party providers never see customer log-ins (you simply log in as normal to your online bank account), and only receive the specific information they have permission to see.

Together, PSD2 and the General Data Protection Regulation (GDPR) help ensure that data is moved and stored in accordance with advanced security protocols.

The six principles underpinning security and trust (P.13) in Open Banking are:

  1. Customers never have to share log-ins with anyone other than their bank.
  2. Open Banking is always opt-in, and never opt-out.
  3. Customers must give explicit consent. TPPs must lay out exactly what the requested data will be used for.
  4. Consent must be as easy to revoke as it is to give.
  5. All TPPs must be authorised by the Financial Conduct Authority (FCA) and only then can register on the Open Banking directory.
  6. There is a redress mechanism. A dispute management system has to be in place, and customers also have the right to complain to the Financial Ombudsman Service.  

The big picture is that regulators have thrown their weight behind a more open and competitive banking system. Security standards reflect those ambitions.

The impact of Brexit

Brexit is unlikely to affect Open Banking, whatever shape it eventually takes. Open Banking is the UK’s response to European PSD2 legislation, but the UK is committed to Open Banking anyway. In fact, the UK’s Open Banking structures are a model for similar schemes around Europe. Open Banking is here to stay, regardless of Brexit. 

Chapter 4

An Open Banking stack for business

KPMG research reveals that 24% of SMEs would pay to make and receive payments more easily and quickly, while 25% would pay or switch provider for a service which offers a single view of all business finance accounts, loans and savings. The good news is that Open Banking services like these are already available, and others are on the way. Here are the categories of service most likely to be disrupted by Open Banking.

Financial management

Financial management software that automates functions like raising invoices, tracking payments and reconciling credit and debit transactions for SMEs is not new, but Open Banking makes it more comprehensive. Previously, SMEs had to share their data via screen scraping, which means handing over account log-in information to third parties – a hassle, and a security risk.

Today, accountancy software providers like Xero and Intuit can use Open Banking APIs to extend their bank feed coverage, in turn letting SMEs monitor business cashflow in real time. Data flows smoothly and seamlessly from bank accounts to accounting software, freeing up employee time for more creative tasks.

In fact, if you’ve signed up for HMRC’s “Making Tax Digital” services, there’s every chance you’re already using an Open Banking interface.

SME lending

In 2018 a Treasury Select Committee report concluded that the SME lending market suffered from a lack of competition, and suggested Open Banking as a potential solution.

The problem was that the SME lending process was glacially slow and prone to error. The complexity of the process discouraged most businesses from looking beyond their own bank, discouraging competition.

Open Banking allows SMEs to share relevant financial information with third party lenders or brokers quickly and easily, creating more competition and potentially driving down the cost of business loans. A number of lenders, like GrowthStreet and iwoca, are already using Open Banking to speed up the small business loan decision-making process.

E-Commerce payments

E-commerce payments cost SMEs significant amounts in payment processing fees. This eats into SME profits, and also represents a security risk for customers who must supply card details to every new merchant they purchase from online. 

Open Banking lets merchants handle a wide range of payment types cheaply, potentially saving them £1.7 billion in card processing fees every year, while not requiring them to store customer card details. It also lets e-commerce businesses move into new markets with a lower barrier to entry. CashFlows and Adyen are among the TPPs beginning to offer Open Banking payment services to SMEs. 

Identity verification

Companies that offer financial services know-how fraught and expensive identity checks can be. Customers usually have to send information like passports and old bills through the post – if they don’t give up first.

Open Banking lets affordability checks happen rapidly and without the need for paperwork, while bank account data also acts as evidence towards Know Your Customer (KYC) and anti-fraud checks. At the moment this is being packaged as a consumer service, but the benefits for many types of business are clear. The IDCo is one company currently offering these services. 

Chapter 5

Open Banking tomorrow

The discrepancy between what businesses – and especially SMEs – want from banks and what they actually get can hardly be overstated. While one report finds that bank lending to SMEs has fallen by 3% since 2015, despite the rapid growth of the sector, another reveals that 47% of would-be small business borrowers have been put off applying for lending by their bank. Survey after survey suggests SMEs are dissatisfied with uncompetitive fees, outdated processes and poor service.

Open Banking can help close this gap, by lowering barriers to competitors and providing TPPs with the data they need to offer better products to a wider range of business customers. Open Banking is already unlocking the next wave of innovative fintechs, who are busy creating better tools for financial management, e-commerce payments and small business lending.

With that in mind, what might the future hold for business financial services in the age of Open Banking?

The fintech app store

In the near future, financial digital ecosystems in the mould of Facebook or Amazon are likely to emerge. The rapid growth of the tech giants has been achieved by letting third party developers build functionality on top of their infrastructure, and banks are already experimenting with a similar approach. For example, challenger bank Starling’s public API lets developers access customer data and build useful tools – like spending analytics platforms – on top.

Better account aggregation

Fintechs are already starting to offer account aggregation services, where individuals and businesses can see all their accounts together in one place. That service is likely to be enriched. In the consumer space, banks are partnering with student loan companies to present a more complete picture of an individual’s debt without the necessity of switching between apps or websites. The same principle could be used to aggregate the full range of business debts.

Financial advice

Is there a better deal out there for your utility bills, company car leasing, office rental or anything else? In the not-too-distant-future, Open Banking might let specialised financial advisors analyse your banking activity to find more cost-effective solutions in a wide range of areas. Other businesses will analyse your banking data to find the best loans, recommend alternative funding strategies, or advise on better expense management.

A wealth of options

Achieving critical mass will be key to the success of Open Banking and some commentators believe that may happen first in the SME market. Many small businesses consider themselves poorly served by traditional financial services, a sentiment that may help them overcome fears over data security. An EY report states:

“It is quite possible that Open Banking will get its first big boost from the small business segment, which is looking to eliminate manual processes, access working capital, and work more efficiently across borders.”

With SMEs on board, Open Banking innovations will proliferate. Fintech startups, like new players in other digital ecosystems, will be able to focus on bringing brilliant new ideas to market, using existing infrastructures for the heavy back-end lifting. The result should be a wealth of new options and ultimately better business banking.