4 takeaways from Alloy’s 2024 ‘State of Embedded Finance’ Report

Alloy’s Sara Seguin weighs in on how (and why) partnerships between sponsor banks and fintechs are evolving amid increased regulatory pressures.

Sponsor banks partner with non-financial and fintech companies to offer innovative embedded finance products. These products are exceedingly lucrative for banks, but they also present critical compliance and risk challenges — especially as the FDIC continues to ramp up regulatory scrutiny.

For our 2024 report on the State of Embedded Finance, Alloy surveyed 51 decision-makers at top sponsor banks across the US. We surfaced a wealth of data detailing the compliance obstacles banks are facing with their fintech partnerships and what they’re doing to overcome them.

The full report is definitely worth a read. But, to get you started, I’ve summarized some of the key findings below.

1. Embedded finance partnerships generate significant revenue for sponsor banks, but they also come at a cost.

First, let’s set the scene. Our survey found that more than half of sponsor banks’ revenue (51.3%) and deposit income (51.4%) comes from embedded finance partnerships.

However, most sponsor banks (88%) also believe that recent regulatory measures have made embedded finance partnerships more difficult (and more costly) to manage. In all, 75% of surveyed banks reported losing at least $100,000 to compliance violations and regulatory fees this year, with 6% losing $1 million or more.

These findings underscore how sponsor banks cannot afford for their embedded finance partnerships — or their compliance programs — to fail. It’s significant, then, that banks are taking steps to review how these partnerships are operating and to rethink their approach to risk and control, per our findings below.

2. Sponsor banks want more flexibility when it comes to their fintech partnerships, but that means getting more hands-on with compliance.

Our survey revealed that a vast majority (92%) of sponsor banks see a need for more adaptable partnerships when it comes to embedded finance.

In fact, banks are increasingly opting to contract directly with their fintech partners rather than using banking-as-a-service (BaaS) platforms as middlemen. This allows them to take a more agile approach to risk management by assessing the risk of each partnership individually and building a tailored compliance model to match — instead of trying to manage all partnerships under one inflexible framework. 

For example, banks might choose to take greater control over risk management for partnerships involving high-risk products, while granting more autonomy to fintechs working in less risky areas. 

Greater flexibility also allows for technology to be implemented more effectively, empowering fintechs to use different fraud and compliance screening tools to align with their different business offerings and target demographics.

At the same time, however, embracing flexibility means banks must develop and maintain their own balanced compliance models, adding to their operational burdens.

3. The difficulty of maintaining compliance is causing sponsor banks to question the future of their embedded finance programs.

Ultimately, 80% of sponsor banks find it hard to meet compliance requirements when managing embedded finance partnerships, with 29% likely to stop participating in such programs altogether.

Some of the top challenges they cite include the inability to control or audit fintech partners’ policy controls, the complexity of maintaining consistent compliance standards across multiple jurisdictions, and a lack of relevant information — including limited access to regulatory training and educational resources.

Exacerbating these compliance challenges are differing core objectives. Fintechs are primarily driven by rapid innovation and a frictionless user experience. And, while many banks share these goals, they typically must weigh them against the ongoing pressures of transformation and risk.

That’s why it’s so important for banks and fintechs to have access to comprehensive compliance solutions that are built specifically for embedded finance relationships and can meet precise needs on both sides of a partnership.

4. Sponsor banks are investing in compliance technology and other solutions to keep their embedded finance programs viable.

In the wake of heightened regulatory scrutiny, nearly all surveyed banks (96%) want continued oversight over their fintech partners’ compliance programs, including CIP, AML, and KYC/KYB. But they’re also paying attention to the leading factors fintechs consider when choosing a sponsor bank — like scalability, a seamless user experience, and competitive pricing.

In response, banks are taking action to balance these competing priorities and set their embedded finance partnership programs up for success.

Many banks’ first move is investing in new compliance technologies like Alloy. These technologies allow banks to manage their entire embedded finance compliance program, apply customized policy controls, and meet their fintech partners’ unique needs—by supporting rapid innovation, scalable growth, and a seamless user experience—without compromising on risk.

The bottom line

The fundamentals of compliance and risk are changing fast for sponsor banks and their embedded finance partnerships, and banks are looking at emerging technologies to keep them up to speed.

If you’re looking for more data and insights into these dynamics, you can download Alloy’s full State of Embedded Finance report — or reach out to our team to discuss the findings.