Financial technology (i.e., fintech) refers to the use of technology and innovation to provide financial products and services. Advances in technology and the widespread use of the internet and mobile devices have helped fuel the growth in fintech products and services. However, fintech offers both benefits and challenges to consumers. Federal regulators also face challenges in overseeing fintech and protecting consumers.
- Fintech can help connect lenders and borrowers online. Some fintech lenders use alternative data to help determine borrowers' creditworthiness. For example, lenders may supplement traditional data (such as credit scores) with information about a borrower's college degree. Using alternative data could make loans available to more people but could also have unintended effects. Fintech lenders may not know how to use the data and still comply with fair lending laws. Additionally, fintech lenders lack clarity on regulatory requirements for certain types of fintech products.
- Blockchain combines several technologies to provide a tamper-resistant record of transactions between parties without a central authority, such as a bank. Although virtual currency (also known as “cryptocurrency”) is the best-known use, blockchain has other financial uses. For example, it could be used to facilitate lending and borrowing through decentralized finance or to automatically transfer digital assets on the blockchain if certain conditions are met. However, data privacy, energy consumption, and regulatory uncertainty are key concerns. Additionally, recent price crashes, bankruptcies, and fraud involving blockchain-related products and services, such as crypto assets, raised concerns about gaps in regulation and the risks consumers face.
How blockchain, a form of distributed ledger technology, acts as a means of payment for cryptocurrencies.
Examples of Virtual Currency Transactions that Can Produce Taxable Capital Gains
- Financial regulators and law enforcement agencies may find it difficult to detect money laundering and other crimes involving virtual currencies. For example, drug and human traffickers are increasingly using peer-to-peer mobile payment services to transfer funds between users, and kiosks—in convenience stores and elsewhere—to convert cash and virtual currencies. Such transactions can be difficult for law enforcement agencies to track. Additionally, the lack of an intermediary makes it difficult to protect consumers from the loss or theft of virtual currencies. There are also a number of issues with ensuring tax compliance with virtual currencies.
- Insurtech—i.e., the innovative use of technology by insurance companies—offers the potential to improve customer experiences and lower insurer costs. Some insurers have begun to use artificial intelligence to explore ways to reduce costs by automating information gathering and risk assessment. However, this could make it more challenging to ensure that factors like race are not being used in the models that determine premiums. Additionally, how insurers collect and use consumer data raises questions about data accuracy, privacy, and ownership. Further, some insurtech firms sell coverage in nontraditional insurance markets that receive less regulatory oversight of their policies and rates.
- Digital wealth management platforms use algorithms based on consumers' data and risk preferences to provide digital services, including investment and financial advice, directly to consumers. These platforms may offer consumers greater access to such services and at a lower cost, but they may not capture a customer’s full finances and goals. They also may not be able to answer clarifying questions like a traditional wealth manager.
- Bank regulators directly address the risks posed to their regulated institutions from third-party technology service providers, but the National Credit Union Administration (NCUA) lacks this authority. Cyber risks affecting a depository institution can arise from weaknesses in the security practices of third parties that process information or provide other IT services to the institution. Bank regulators routinely conduct examinations of service providers' information security. Authorizing NCUA to routinely conduct such examinations could help it better ensure that the service providers for credit unions also follow sound information security practices.
- The extent to which fintech firms are subject to federal oversight varies. For example, federal regulators may review some activities of fintech lenders or payment firms as part of overseeing risks arising from these firms' partnerships with banks. In other cases, state regulators primarily oversee fintech firms, such as insurtech firms, but federal regulators can take enforcement actions. This varied U.S. regulatory structure poses challenges to fintech firms. To help, regulators could act collaboratively to better ensure that consumers avoid financial harm and continue to benefit from these services.