The banking industry is undergoing massive digital disruption. Within this disruption, digital-only banks (“digital banks”) have received significant attention in recent years thanks to the outbreak of the COVID-19 pandemic since the same has revealed that digital solutions have become a necessity rather than a preference.
However, the legal status of digital banks (or neo banks, or challenger banks) is still in limbo at the legal side in many countries since the existing regulations have been prepared with the aim to regulate conventional banking.
Turkey, which already has a successful background and know-how in the digital part of banking, has recently taken a big step to overcome this ambiguity. For this purpose, The Regulation on the Operating Principles of Digital Banks and Service Model Banking (“Regulation”), drafted by the Banking Regulation and Supervision Agency (“BRSA”), has been published. The same has entered into force on 1 January 2022.
The Regulation sets out rules for obtaining a Digital Bank license in Turkey and other operational and financial requirements that a Digital Bank must comply with.
For the sake of clarity, one should keep in mind that the terms “Neo-Bank” or “Challenger Bank” have no legal status under Turkish Law. Thus, the only term that corresponds to the worldwide known “branchless bans” is “digital bank” for the time being in Turkey.
The critical topics of the Regulation can be summarized as follows:
How is the Digital Bank Defined?
The section titled ‘Objectives’ of the Regulation emphasizes that Digital Banks are “branchless banks that serve only through distribution channels used for electronic banking services.”
Furthermore, in the section titled ‘Definitions’ of the Regulation, the term ‘digital bank’ is defined as “a credit institution that provides banking services through distribution channels used for electronic banking services instead of physical branches.”
Considering the attribution to the “credit institution”, it is crucial to note that deposit and participation banks fall under the definition, whereas development and investment banks do not.
Over What Channels Will Digital Banks Serve?
Based on the definition available in the Regulation, we can conclude that digital banks -that will render banking services with no branches- may serve their customers via the following channels, where customers are allowed to perform remote banking transactions or give instructions to the bank for the performance thereof.
- internet banking,
- mobile banking,
- telephone banking,
- open banking channels and also
- any electronic distribution channels (such as ATMs and kiosk devices).
The Requirement for Minimum Paid-in Capital is Set as 1 Billion Turkish Lira
The minimum paid-up capital amount required for a digital bank to obtain an operating license has been set at TRY 1,000,000,000 (one billion Turkish Liras). The BRSA is authorized to increase the said amount.
Services that Digital Banks May Offer; and Restrictions
The Regulation stipulates that a digital bank can carry out any activities that a credit institution can perform, depending on whether it is a deposit or participation bank as the main rule.
The activities of a digital bank are restricted in terms of specific topics set out in the Regulation. We may group these activities under the following headings.
- Restriction as to Customer Profiles: Credit customers of digital banks may only consist of financial consumers and small and medium enterprises (“SMEs”). However, if an SME grows out of SME size after the digital bank has started serving, the serving digital bank is allowed to provide only foreign currency loans to that business until the same falls back into the size limits of the SMEs.
- Exceptions to Activity Restrictions: It is stipulated that it would not be contrary to the above-mentioned “Restriction as to Customer Profiles” for a digital bank to carry out transactions that are listed as loans in Article 48 of the Banking Law by operating in interbank markets or money and capital markets, or to extend loans to other banks, or to provide foreign currency loans to businesses with a size above an SME.
- Ban on the Manner of Organizing and Physical Branches: Except for general directorates and service units affiliated to these general directorates, it is forbidden for a digital bank to establish an organization under any name such as correspondent units, agencies, representation offices, or open physical branches, or to provide safe deposit box, custodial transaction, and custody services, except for those that will be carried out in the digital environment. However, there are some exceptions to the ban on the presence of physical branches. In this context, there are no legal obstacles to the digital banks to establish physical offices to handle customer complaints unless they are used as a branch office, to receive services from support service organizations, including marketing services, in a way to communicate face-to-face with the customers or to complete any transactions that started in distribution channels of electronic banking services but could not be completed in these channels due to the actual impossibilities and could not be carried out from physical access points, by communicating face-to-face with the customer through the digital bank’s own personnel or the personnel of the institutions from which it receives support services. In fact, digital banks are required to set up at least one physical office to handle customer complaints.
- Restriction as to Lending: Although the BRSA authorizes digital banks to grant credits, this activity is subject to specific requirements. Accordingly, the aggregate sum of unsecured cash consumer loans that digital banks can grant to a customer (excluding expenditures and cash withdrawals effected via credit cards, and overdraft accounts) must not exceed four times the monthly average net income amount of the relevant customer, which is declared and confirmed by digital banks, or Ten Thousand Turkish Liras if the bank cannot determine the customer’s average monthly net income.
Elimination of the Restrictions Subject to the Capital Requirements being Fulfilled
As mentioned above, the minimum paid-in capital requirement stipulated for obtaining a digital bank license has been set at TRY 1,000,000,000 (one billion Turkish Liras) in the Regulation.
If a digital bank increases its minimum paid-in capital to TRY 2,500,000,000 (two billion five hundred million Turkish Liras) during or after the process of obtaining an operating license, it shall have the right to request the removal of the restrictions on activities, which will be mentioned below, by applying the BRSA. The BRSA has the authority to remove such restrictions altogether or gradually within the transition plan framework that it deems appropriate. From such arrangement laid down in the Regulation, it is understood that capital is not the only requirement of the BRSA to remove the activity restrictions. The approval of the BRSA is also needed in this regard.
The Legislation That Digital Banks Shall Be Subject To
Digital Banks are obliged to comply with the provisions of the Regulation, in addition to all the provisions of the legislation that the credit institutions are obliged to comply with while performing their relevant activities, i.e., Banking Law.
The Commitment of Digital Banks Regarding Service Continuity
The commitment that the BRSA has already verbally requested from banks regarding continuity of service is explicitly regulated for digital banks.
In this respect, digital banks are obliged to announce the committed continuity percentage values based on each distribution channel for the electronic banking services they offer in a way that will appear on the home page of their websites.
In addition, it is stipulated that the continuity percentage committed for the internet banking and mobile banking distribution channels of digital banks must not be lower than 99.8%.
Opportunity to render cash withdrawal or top-up services to prepaid payment instruments through workplaces
The Regulation stipulates that the digital banks may provide cash withdrawal or top-up services (for prepaid payment instruments) to their customers through merchants that hold an agreement with them for the acquiring debit, credit, and prepaid cards.
Establishment of Digital Banks; Operating Permits
While regulating the terms and conditions regarding the establishment and operating license of digital banks, the BRSA stipulates that the obligations and conditions laid down in the Regulation will be considered in addition to the arrangements laid down in the Regulation on Deals of Banks Subject to Permission and Indirect Shareholding (“RDBSP”), which regulates the establishment and operating permits of banks.
In this respect, it is possible to assume that the establishment of digital banks bears some additional requirements specific to the nature of the activity in question and the normal bank establishment process.
The Companies Offering Technology, Electronic Commerce and Telecommunication Services Has Been Subject to Specific Rule for Establishing a Digital Bank
Pursuant to the Regulation, in case the controlling shareholders of a company applying for a digital bank license are legal entities that provide technology, electronic commerce, or telecommunication services, the BRSA has reserved the authority to lay the followings as conditions;
- the controlling shareholder legal entities or the real and legal persons controlling these legal entities shall be resident in Turkey, and
- they must execute an information exchange agreement with the Risk Center in order to share the risk data they hold regarding the indebtedness and financial power of residents in Turkey.
It should be underlined that the above conditions are not compulsory; namely, the BRSA may request the fulfillment of these conditions at its discretion during the license application.
However, the provision requires not only the controlling shareholder legal entities, but also the real and legal entities holding the control of the controlling partner legal entities to be resident in Turkey.
In this sense, it can be concluded that the provision is very broad in scope and that the BRSA reserves the right to choose between foreign and domestic investors within the framework of the policies that will be shaped over time.
Our opinion is that the main aim of the BRSA for reserving the above authority is to have a legislation ground for striking out a balance between the FinTech and TechFin players -which has been a debate in the EU in recent years- in the market once needed.
Requirements regarding Business Plans and Information Systems Stands Out Compared to Other Requirements
Considering the nature of digital banking, the Regulation emphasizes the competencies regarding business plans and information systems in various provisions.
The BRSA requires that the personnel specified as the top-level manager in charge of information systems should be appointed at least at the level of assistant general manager and that at least one of the board members of the digital bank should have at least ten years of professional experience in the field of information systems management.
Besides, the BRSA requires the inclusion of the following items in the course of the establishment of, and obtaining an operation permit for, a digital bank, unlike a normal, i.e., non-digital-only bank establishment process:
- Products and services and marketing strategies aiming to foster financial inclusiveness,
- A market size and market gap analysis supported by numerical data regarding the market formed by the target audience.
- The pricing policy for the next five years, the estimated number of customers planned to be acquired, and financial projections that predict when the investment will reach the breakeven point.
On the other hand, the BRSA requires much additional information, from transaction security to identity verification, on the information systems side, in addition to its activity program document.
Transformation of Current Banks to Digital Banks
The Regulation stipulates that no separate license application is needed, whereas permission from the BRSA is required, in case a bank having an operating license currently,
- intends to provide services wholly or partially through distribution channels used for electronic banking services, or
- intends to provide services as the same legal entity with a different brand name, wholly or partially through distribution channels used for electronic banking services.
Status of Payment Institutions and Electronic Money Institutions
Although some conveniences had been provided in the draft version of the Regulation if a payment institution or electronic money institution intends to obtain an operating license to act as a digital bank, it is noteworthy that this arrangement has been removed from the formal version of the Regulation. Therefore, the Regulation does not define a specific exception for these institutions.
We believe that digital banks can be seen as the solid output of the transformation of the banking sector within itself. These banks bridge the gap between the services that traditional banks offer and customers’ evolving expectations in the digital age.
Considering that Turkish banks are already offering their products or services via digital channels and have a reputation for it, we can conclude that some local players in the Turkish banking sector are already ready for digital banking.
On the other hand, some of the global players would inevitably be launching digital banks in Turkey too, in our opinion, considering the population and technology-literacy level of the young generation in Turkey.
Authors: Gökhan Yüksel, Yaşar K. Canpolat