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Are you the CEO or founder of a fintech startup? Is your firm growing fast and facing quickly increasing volume of transactions? Are you considering using RegTech companies to process your high volume of transactions at a lower cost, higher speed, and at scale?
This article provides valuable insights into best practices for leveraging RegTech companies in 2024 and beyond.
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InnReg is a global regulatory compliance and operations consulting team serving financial services companies since 2013. If you need assistance with compliance or fintech regulations, click here.
What is RegTech?
RegTech, short for regulatory technology, refers to any advanced technology innovation that helps financial institutions manage, monitor, and maintain compliance with financial regulations.
Leveraging big data and machine-learning capabilities, RegTech companies offer solutions and suites of tools that support among others:
Regulatory Reporting
Risk Management
Identity Management
Transaction Monitoring
Document Management
Information Security
Data Analysis, etc.
When Does RegTech Work Best?
RegTech works best when applied in scenarios where regulatory compliance and risk management processes are complex, time-consuming, and prone to errors if carried out manually.
Using such solution is particularly effective when your fintech needs to process a high volume of transactions quickly and seamlessly without breaking the bank.
For example, imagine a firm with such great traction in the market that they must onboard new users at a rate of thousands per week. Further, their account validation process must comply with well-understood Know Your Customer (KYC) and Anti-Money Laundering (AML) regulations. This scenario is well-suited for engaging RegTech companies.
Deloitte RegTech Universe for RegTech Companies
Deloitte recently published a 2023 RegTech Universe Map, listing 527 RegTech companies along with the technologies and solutions they offer. The Deloitte RegTech Universe is comprised of the following five sections:
Regulatory Reporting
Risk Management
Identity Management & Control
Compliance; and
Transaction Monitoring.
We agree with Deloitte choosing to focus on these five particular areas, as our experience has proven that they are the five pillars of the RegTech industry.
In the RegTech Universe, compliance and identity management & control represent one of the largest and most mature segments, followed by regulatory reporting and risk management.
It’s not surprising that transaction monitoring in Deloitte’s RegTech Universe is represented by only 39 RegTechs, thus significantly falling behind the other focus areas.
Based on our experience, it’s because fintechs tend to build their own transaction monitoring systems to reduce the costs of integrating a third-party vendor.
Nevertheless, these in-house transaction monitoring systems are often root-based only and not very flexible. They often lack cutting-edge technology, such as machine learning and AI, which results in increased false positives and more manual processes.
Overall, we find Deloitte's RegTech Universe Map useful. However, it seems to focus mainly on more established service providers and lacks coverage of more niche startups and scale-ups within the RegTech ecosystem.
RegTech vs Total Fintech Investment Activity by VCs and PE
In 2022, global fintech investment witnessed a decline, with total investment reaching US$164.1 billion across 6,006 deals, down from the 2021 peak of US$238.9 billion.
However, despite the overall decrease attributed to changing market conditions, 2022 proved to be a standout year for regtech. It was the only fintech sector to defy the downward trend, with investments from US$11.8 billion in 2021 to an impressive US$18.6 billion in 2022, demonstrating remarkable resilience and solidifying its position as the true highlight of the fintech industry.
Moreover, when the number of regtech investment deals decreased from 357 to 315 (by 12%), the amount of investments per deal was significantly up.
How RegTech Benefits Fintech Startups
RegTech companies offer several significant benefits to fintech startups, helping them navigate complex regulatory landscapes, streamline compliance processes, and enhance their overall operations:
Cost-Efficiency
Time-Efficiency
Scalability
Real-time Regulatory Updates
Data Security and Privacy
Machine Learning and Artificial Intelligence (AI)
Here are all the specific ways RegTech benefits fintech startups:
1. Cost-Efficiency
RegTech automates compliance tasks, reducing the need for manual labor and associated costs, making it more affordable for startups to meet regulatory requirements.
2. Time-Efficiency
RegTech streamlines compliance processes and automates reporting, allowing startups to dedicate more time to core business activities and innovation rather than getting bogged down in paperwork.
3. Scalability
As fintech startups grow, their compliance requirements become more complex. RegTech solutions are scalable by easily adapting to increased compliance demands without major disruptions or added costs.
4. Real-time Regulatory Updates
RegTech platforms stay up-to-date with the latest regulatory changes and ensure fintechs remain compliant with evolving laws, reducing the risk of non-compliance penalties.
5. Data Security and Privacy
RegTech companies prioritize data security and privacy, protecting sensitive information from unauthorized access and potential breaches, crucial for fintechs handling customer financial data.
6. Machine Learning and Artificial Intelligence (AI)
Machine learning and AI can help automate compliance processes and improve data analytics and risk management.
Competitive Advantage: By adopting innovative RegTech solutions, fintechs gain a competitive edge by demonstrating their commitment to compliance, security, and efficiency.
Overall, RegTech empowers fintech startups to focus on their core competencies, accelerate growth, and establish themselves as reliable and compliant players in the financial services industry. By leveraging the benefits of RegTech, fintechs can streamline their operations, reduce risks, and position themselves for success in an ever-changing regulatory landscape.
What RegTech Can and Can’t Do
With all of the industry buzz around RegTech companies, it’s no surprise that our clients are curious about its potential and how it can support their compliance program. Some fintechs even ask whether RegTech can fully automate compliance workflows. Now more than ever, it’s imperative to understand the context around these questions and their related topics, like automation and AI in financial services.
What is the Role of RegTech in Risk Management?
RegTech companies are also playing a crucial role in risk management. These solutions can replace significant amounts of cumbersome human effort while helping fintech firms detect and mitigate risk earlier than human intelligence can. Intriguing elements of the risk management segment include:
Providers that monitor regulatory notices and changes,
Solutions that watch for emerging market risks, liquidity risks, portfolio risks, and similar internal or external threats, and
Solutions that help spot suspicious trading or fraud patterns.
The most compelling of RegTech tools also helps support scenario planning and stress testing.
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What Are the Risks Involved with RegTech?
While RegTech companies offer numerous benefits in risk management and compliance, there are also some limitations, such as:
1. Complexity of Regulations
The regulatory environment is constantly evolving and can be highly complex, with varying requirements across different jurisdictions and industries.
Developing solutions that can effectively address all these complexities can be challenging.
2. Lack of Standardization
Due to the diverse regulatory landscape, there is often a lack of standardization in reporting formats and compliance requirements.
Market-ready solutions may face difficulties in seamlessly integrating with various systems and formats.
3. Data Quality and Accessibility
RegTech relies heavily on data for analysis and decision-making.
Poor data quality or limited access to relevant data can undermine their effectiveness.
4. Human Interpretation
While RegTech companies leverage advanced technologies, there are instances where human judgment and interpretation are required, especially in nuanced compliance scenarios.
5. False Positives and Negatives
RegTech solutions may generate false positives (flagging activities as potential risks when they are not) or false negatives (failing to identify actual risks).
Striking the right balance is crucial to avoid excessive alerts or overlooking genuine threats.
6. Cybersecurity Risks
Because RegTech relies on digital infrastructure, there can be potential cybersecurity risks, including data breaches and unauthorized access.
For instance, most InnReg’s clients experience challenges with regulation that currently go beyond RegTech’s capabilities. Even with true AI, which can learn and adapt like a human, the more strategic aspects of the compliance world still require a level of nuance and human judgment. In the short term, few solutions have evolved beyond using foundational technologies such as distributed ledger/blockchain and simple machine learning.
Despite those risks, Regulatory Technology continues to evolve in 2023, addressing many of these challenges.
We’ve summarized the benefits and risks discussed above for you in the following Pros & Cons table.
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Pros & Cons of Using RegTech
While the pros and cons of using RegTech for fintechs may vary based on their unique requirements, the chosen RegTech solution, and the company's capacity to adopt and adapt to new technologies, a few fundamental factors that should be noted.
Pros of Using RegTech
Below is a list of pros of using RegTech for fintechs:
Cost-Efficiency
Time-Efficiency
Scalability & Adaptability to Increased Compliance Demands
Real-time Regulatory Updates
Data Security and Privacy prioritization
Automated Processes Supported by Machine Learning and AI
Cons of Using RegTech
Below is a list of cons of using RegTech for fintechs:
Complexity of Regulations
Lack of Standardization
Poor Data Quality
Required Human Interpretation
False Positives and Negatives
Cybersecurity Risks
Fintechs must thoroughly assess their needs against available offerings to make an informed decision.
How to Strike a Balance Between Compliance and Innovation
Despite the clear benefits RegTech offers fintech startups and other similar entities, regulatory strategies require complex decision-making and planning, especially for innovative business models. Such complexity reaches far beyond the scope of what automation can deliver today.
The need to find the right balance between compliance and innovation seems to be RegTech’s biggest challenge. As fintech startups focus on innovation to stay ahead of competition, they need to ensure that their policies and procedures comply with applicable regulations.
In light of the above, fintechs should not consider RegTech without first having a regulatory strategy in place. Regulatory Technology can serve as a high-value asset to identify likely sources of risk and appropriate mechanisms for responding to those risks. Still, it cannot replace the more nuanced aspects of compliance, such as:
The complex legal review by specialized legal counsel or crafting a strategic regulatory plan.
The ability to define compliance processes or manage approvals with government agencies such as the SEC and FINRA.
The ability to select the appropriate partners and vendors to provide the technologies that comprise a compliance stack and then negotiate terms with them.
What Lies Ahead for RegTech in 2024 and Beyond?
We’ve been following the RegTech companies closely for some time. It has experienced significant growth since the Covid-19 pandemic, with market size estimated to grow from USD 7.6 billion in 2021 to USD 19.5 billion by 2026.
In 2024 and beyond, we anticipate even more innovation in the industry as new technologies and trends emerge. Some of the main trends that we see are:
KYC & AML
Identity fraud doubled in crypto and banking in 2022, leading to significant consumer impacts and losses. The war in Ukraine has also significantly impacted the KYC & AML processes by moving many existing and potential customers into the scope of sanctions.
In 2023 and beyond, RegTech is expected to revolutionize customer identity and verification. New digital KYC solutions are expected to appear and help you screen your network more efficiently for connections to restricted individuals or organizations.
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Advanced Automation and AI
Regulatory Tech providers will likely continue to leverage AI and machine learning to automate compliance processes. This could include predictive analytics for risk assessment, fraud detection, and real-time monitoring of regulatory changes.
Cross-border Compliance
With businesses operating globally, there will be an increased focus on cross-border regulatory compliance. Available solutions might evolve to address the challenges of complying with multiple and often conflicting regulations in different jurisdictions.
Privacy and Data Protection
As data protection regulations become more stringent (such as GDPR and CCPA), RegTech will likely play a crucial role in helping businesses manage and protect customer data, ensuring compliance with privacy laws.
Cybersecurity Regulations
With the increasing frequency of cyberattacks and data breaches, Regulatory Tech could develop tools to help companies comply with cybersecurity regulations and frameworks, enhancing their resilience against threats.
Regulatory Sandboxes
New technologies might be adopted in regulatory sandboxes, where regulators and businesses collaborate to test and develop innovative compliance technologies in a controlled environment.
Regulatory Challenges in Emerging Technologies
RegTech companies could extend their focus to address regulatory challenges in emerging technologies such as blockchain, cryptocurrencies, and decentralized finance (DeFi).
What Are Examples of RegTech Companies?
The global market is highly fragmented, with most RegTech companies deploying various strategies and introducing innovative products and solutions. Here are examples of some of the most active RegTech companies in the field:
AML and risk detection solutions provider for blockchains. The company has a global reach, with customers spread across 60+ countries.
A global identity verification provider offering instant online identity proofing for over 5 billion people in 195+ countries.
A SaaS startup that helps its users with smart document management. The platform’s features include an online editor, a regulatory portal, AI-enabled content mapping, and more.
A regulatory knowledge platform that streamlines the most tedious and error-prone parts of compliance. By merging AI-driven technology with human expertise, Ascent helps financial institutions manage regulatory change and reduces risk.
A global platform that provides supplier management and payment verification solutions for businesses. PaymentWorks offers tools that streamline the supplier onboarding process, enhance communication between businesses and suppliers, and ensure compliance with regulations and security standards.
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2024 Context: A Powerful Yet Limited Instrument
Regulatory Techology is a powerful instrument to enhance the effectiveness of compliance processes while also supporting fintechs in their risk management efforts. Using it can optimize compliance costs, save time, and improve overall operational compliance.
In 2024 and beyond, RegTech providers are poised to continue leveraging AI and machine learning to automate compliance processes. This encompasses the potential use of predictive analytics for risk assessment, fraud detection, and real-time monitoring of regulatory changes.
However, fintechs should not ignore the risks involved with RegTech technologies. They must ensure sufficient oversight and control over compliance activities, in addition to implementing robust data security measures. There have certainly been significant leaps forward, but overall, RegTech remains several evolutionary steps away from supporting complex decision-making.
Have More Questions About RegTech?
Find Answers from Our Fintech Compliance Experts Here:
What is the difference between RegTech and FinTech?
RegTech and FinTech are distinct but related terms in financial services and technology.
RegTech, short for Regulatory Technology, refers to any advanced technology innovation that helps financial institutions manage, monitor, and maintain compliance with financial regulations.
Leveraging big data and machine-learning capabilities, RegTech companies offer solutions and suites of tools that support among others:
Regulatory Reporting
Risk Management
Identity Management
Transaction Monitoring
Document Management
Information Security
Data Analysis, etc.
FinTech, short for Financial Technology, on the other hand, broadly encompasses using technology to improve and innovate various financial services and processes. This can include payment systems, peer-to-peer lending, investment platforms, digital banking, digital lending and more.
What are the trends in RegTech?
The key trends driving RegTech adoption heading into 2024 are:
revolutionizing customer identity management,
leveraging AI and machine learning,
focus on cross-border regulatory compliance monitoring, and
testing innovative compliance products in controlled environments.
Is blockchain a RegTech?
Blockchain itself is not classified as RegTech, but it can be utilized as a component within certain RegTech solutions.
Blockchain, with its decentralized ledger capabilities, has the potential to contribute to RegTech solutions in a few ways:
Support Identity Verification;
Ensure Transaction Transparency;
Store and Run Smart Contracts; and
Maintain Data Integrity.
What are the basics of RegTech?
RegTech plays a crucial role in modernizing and improving regulatory compliance processes within the financial industry, using technology-driven solutions to enhance efficiency, accuracy, and risk management.
Some of the basics of RegTech are:
Innovation;
Automation;
Technology Integration;
Regulatory Compliance;
Data Management;
Risk Assessment;
Real-time Monitoring;
Cost and Time Efficiency;
Global Reach and Impact, etc.
Conclusion: A Final Dose of RegTech Realism
In conclusion, with the appropriate regulatory strategy, Regulatory Technology has the potential to aid fintechs in achieving their compliance goals and enhancing their overall operational effectiveness. Regulatory Technology can act as a helpful enabler of a firm’s overall compliance approach, but it is not a replacement for compliance strategy and planning.
How Can InnReg Help?
InnReg is a global regulatory compliance and operations consulting team serving financial services companies since 2013.
We are especially effective at launching and scaling fintechs with innovative compliance strategies and delivering cost-effective managed services, assisted by proprietary regtech solutions.
If you need help with compliance, reach out to our regulatory experts today:
Published on Jul 28, 2019
Last updated on Nov 20, 2023
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