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The Green Sheet Online Edition

April 24, 2017 • Issue 17:04:02

Navigating regulatory, financial MSB hurdles

By Theodore F. Monroe
Attorney at Law

New fintech and emerging payments entrepreneurs continue to push the envelope to make payments safer, faster and easier for consumers. But many emerging payment companies hit the wall of government regulation before they ever get off the ground. Federal and state money-transmitter laws are perhaps the biggest obstacle.

Federal regulations define a money transmitter as any person or entity that "provides money transmission services, or any other person engaged in the transfer of funds." The term "money transmission services" means "the acceptance of currency, funds, or other value that substitutes for currency from one person and the transmission of currency, funds, or other value that substitutes for currency to another location or person by any means."

Daunting requirements

Federal law requires any person who qualifies as a money transmitter to be licensed by the Department of Treasury's Financial Crimes Enforcement Network as a money services business (MSB). Such businesses must also be separately licensed as a money transmitter in each state in which they do business.

Procuring the necessary licenses is onerous and expensive. The process often takes two or more years to complete at a cost of $1 million to $2 million. In addition to application and lawyer filing fees, licensing requires proof of minimum net worth (from $50,000 to $1 million), surety bonding, and fully elaborated anti-money laundering (AML) and know-your-client compliance programs, including a full-time AML compliance officer.

Moreover, it is a federal crime to do business as a money transmitter without having such licenses in place; state penalties for such conduct may range from $10,000 to $2 million. The licensing time frame and costs alone often sound a death knell for many startups. Yet there is hope.

A possible solution

One potential route is to become an authorized delegate (AD) of a properly licensed money transmitter MSB. In this scenario, the AD may generally use its own brand and board customers directly. However, the money must flow through the MSB's bank account, and the AD must clearly apprise customers that its services are being provided under the MSB's license.

The MSB is liable for the AD's activities and must perform transaction reporting, oversight and monitoring to comply with regulatory requirements. In return, the AD pays per transaction and monthly recurring fees to the MSB in consideration of its regulatory obligations and the associated risk.

This model does not work in all states. For example, the Texas Department of Banking issued a Supervisory Memorandum in October 2014, advising that Texas law prohibits a licensed MSB from appointing an AD to offer its own distinct line of money transmission products or services (as opposed to offering the license holder's product or service). Under its view, the license holder rather than the AD should have a contractual relationship with the customers and should derive revenue primarily from the transactions performed by the AD on its behalf rather than from fees paid by the AD.

Further scrutiny

Such arrangements are also subject to close scrutiny by regulators in other states to ensure that they do not constitute a rent-a-license relationship. This is particularly true where the AD is offering a product or service the license holder does not already provide, or where the license holder contracts to offer an entirely new service through the AD.

The AD model may also prove problematic in the state of Washington, which requires an AD to be physically located within the state unless the principal licensee obtains prior approval from the Division of Consumer Services to designate an AD physically located outside of the state.

Federally chartered banks are generally exempt from money transmitter licensing requirements and may designate agents to provide money transmitter services on their behalf. Thus, another potential avenue is partnering with a nationally chartered bank as the bank's agent to obtain an FBO (for benefit of) account relationship, where all funds are held at the bank for the benefit of the agent's customers. end of article

The information contained in this article is for educational purposes only. Please consult an attorney before relying upon it for your specific legal needs. Theodore F. Monroe is an Attorney whose practice focuses on the electronic payment and direct marketing industries. For more information about this article or any other matter, e-mail him at monroe@tfmlaw.com or call him at 213-233-2273.

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