Decoding the FCA's Safeguarding reforms: Practical steps for payments and E-money firms

Decoding the FCA's safeguarding reforms: Practical steps for payments and E-money firms

January 3 2025

by Payments Intelligence

What is this article about?

The FCA’s proposed safeguarding reforms for payments and e-money firms, aiming to enhance consumer protection and operational compliance.

Why is it important?

The reforms ensure robust safeguarding practices, bolster consumer trust, and address risks like fund shortfalls during insolvency.

What’s next?

Firms must invest in compliance, adapt workflows, and advocate for fair regulations.

The Financial Conduct Authority (FCA) recently outlined significant changes to the safeguarding regime for payments and e-money firms in its consultation paper CP24/20. These reforms aim to enhance consumer protection, ensure the robustness of safeguarding practices, and align with evolving market conditions.

While the interim rules codify existing expectations with some enhancements, the proposed end-state rules introduce substantial shifts that could reshape the operational landscape for firms operating in this sector.

Central to these changes are new statutory trust requirements, more prescriptive record-keeping, reconciliation standards, and the mandate for external safeguarding audits. While these measures seek to address key risks, such as fund shortfalls during insolvency and delays in fund distributions, they also bring increased regulatory burdens and operational complexities. Industry stakeholders, including The Payments Association, have raised concerns about the proportionality, cost implications, and potential unintended consequences of these reforms.

Voices from the industry

"The more voices that are heard—supporting the proposals or not—the more the FCA will likely take that feedback on board. This is, after all, one of the purposes of such consultations (unless you’re a total cynic): essentially, ''This is what we propose; what do you think?' Across payments, many business models are impacted in different ways and to different extents, e.g. remittance, acquiring, and e-money. A lone voice may have credence, but the weight of numbers saying the same thing is more likely to impact"

"The reforms aim to protect customers of electronic money institutions and payment institutions by ensuring these firms maintain robust processes and controls to identify relevant funds and safeguard them against the risk of insolvency. Specifically, there are concerns about whether the benefits of additional reporting, record-keeping, and audit requirements outweigh the costs and whether the proposal for firms to receive relevant funds directly into a designated safeguarding account is operationally feasible in all cases. This has led some within the payments sector to suggest that a regulatory compensation scheme—such as the UK Financial Services Compensation Scheme, which applies to banks—could provide better customer protection in practice while reducing overall compliance costs. However, the requirement to receive relevant funds directly into a safeguarding account presents operational challenges for some firms"

"The obligation to receive relevant funds immediately into safeguarding accounts is both an operational challenge for firms and a challenge to their business model. This requirement may be especially problematic for firms that are part of international corporate groups with multiple regulated entities and those handling cross-border payments in multiple currencies across multiple time zones. Additionally, the proposals may create greater uncertainty for administrators, increasing administration costs by requiring them to seek directions from the courts. Given that the end state rules depend on amendments to the PSRs and EMRs and are under ongoing review, the FCA should consult again on all rules after the PESAR interim report in September 2025"

Key changes and the implications

The reforms are split into two phases: interim rules, which formalise and enhance existing safeguarding practices, and end-state rules, which introduce statutory trusts and stricter operational requirements.

1) Interim safeguarding rules:

Codification of existing expectations: The interim rules aim to formalise current safeguarding practices, providing clearer guidance on record-keeping and reconciliation requirements.

Enhanced record-keeping standards: Firms must maintain robust internal and external records, with clear distinctions between the two, to ensure proper tracking and safeguarding of relevant funds.

Introduction of resolution packs: These packs must include essential documents and information that would facilitate swift action during insolvency, reducing delays in fund distribution to customers.

Safeguarding audits: Firms are required to arrange safeguarding audits to assess compliance with the rules. The FCA encourages the use of qualified auditors with specific safeguarding expertise.

2) End-state safeguarding rules:

Statutory trust implementation: Relevant funds will be held under a statutory trust, providing additional legal protection for customers in the event of a firm’s insolvency. However, this introduces new complexities, including increased legal obligations and potential delays in fund distribution.

Immediate safeguarding of funds: Firms must ensure that customer funds are directly deposited into safeguarding accounts upon receipt. This eliminates delays but may require significant changes to operational workflows.

More prescriptive segregation requirements: Detailed rules specify how firms should segregate customer funds, with strict limits on the use of operational accounts and reliance on intra-day transfers.

Broader use of insurance policies: Firms are allowed to use insurance policies and comparable guarantees for safeguarding, but they must adhere to specific guidelines to manage associated risks.

Increased reporting obligations: Monthly safeguarding returns to the FCA will be mandatory, providing the regulator with granular oversight of firms’ safeguarding practices.

A dive into the implications

The proposed safeguarding reforms present both opportunities and challenges for payments and e-money firms. On the one hand, these changes aim to bolster consumer trust by ensuring funds are adequately protected and available in cases of insolvency. Enhanced transparency through detailed record-keeping and regular reporting, for example, can also improve market confidence and reduce regulatory interventions.

However, the reforms also impose significant operational and financial burdens. The immediate safeguarding of funds could strain liquidity for smaller firms, requiring adjustments to workflows and potentially increasing reliance on credit facilities. Statutory trusts, while beneficial for legal clarity, may prolong insolvency proceedings and introduce additional legal complexities, especially for cross-border operations. Stricter segregation requirements could limit operational flexibility, affecting firms offering diverse payment solutions, particularly those operating in international markets.

For firms to navigate these challenges effectively, strategic investments in technology, compliance expertise, and stakeholder engagement will be crucial. These measures will not only facilitate compliance but also position firms as leaders in safeguarding standards within the industry.

Potential challenges

While the reforms offer a range of opportunities for firms, they also present a wide range of challenges, many of which stem from increased compliance costs, legal complexities, and operational constraints. Smaller firms, for example, are likely to bear the brunt of financial pressures introduced by the reforms with hiked compliance costs that come with implementation of new safeguarding workflows, engaging with auditors and fulfilling enhanced reporting requirements.

In addition to this, there could be issues around the legal uncertainties related to statuatory trust requirements, the ambiguities around how funds are treated across jurisdictions for example. Similarly, the the interaction of statutory trust rules with existing fiduciary duties, consumer protections, and insolvency laws could create conflicts, potentially delaying fund distributions and increasing legal costs.

In regards to operational flexibility, the reforms could pull up issues where the immediate safeguarding of funds comes into concern. These rigidities could significantly affect firms’ cash flow and liquidity management. Firms operating in multiple currencies or across differing time zones may face trouble in ensuring funds are instantly deposited into safeguarding accounts. This inflexibility could hinder their ability to offer competitive, innovative solutions, such as multi-currency wallets or cross-border payment services.

Firms with international clients face additional challenges in meeting safeguarding requirements. Jurisdictional differences in banking and regulatory practices can complicate compliance efforts, making reconciling safeguarding obligations across borders difficult. This complexity risks creating an uneven playing field, where UK firms are at a competitive disadvantage compared to their global counterparts operating under less restrictive regimes.

The requirement for monthly safeguarding returns and more frequent audits place an additional administrative load on firms. For many of the smaller entities, this could necessitate hiring additional compliance staff or investing in automated systems.

Strategic recommendations for firms

In order to navigate these challenges with the greatest efficiency, firms will need to follow a set of recommendations. The first being to engage with the regulatory process. Firms should actively participate in ongoing consultations and stay informed about developments related to the safeguarding reforms. Collaborating with industry groups like The Payments Association can also provide valuable insights and amplify the industry’s voice.

While this can be done in the background, another recommendation is to thoroughly review current safeguarding practises; conducting audits of existing measures will help to identify gaps relative to the new requirements. This will include evaluating record-keeping systems, reconciliation processes, and fund segregation practices. It is advised to ensure that the audit process aligns with both interim and end-state rules to minimise disruptions.

Able firms should consider investing in advanced technology and expertise to enhance compliance capabilities. Automation will help to streamline reporting and reconciliation tasks, reducing the risk of human error. In addition, preparing for operational adjustments to ensure immediate safeguarding of funds will play an important role. This may involve renegotiating terms with banking partners, adjusting fund management strategies, and securing additional credit lines if and where necessary.

Transparent communication with customers and partners about safeguarding practices can enhance trust and confidence. Demonstrating this level of proactive compliance efforts can serve as a competitive advantage. Meanwhile, preparing for potential insolvency scenarios by building robust resolution packs and ensuring readiness for statutory trust implementation. These measures will safeguard both customer funds and firms’ reputations.

Opportunities in compliance

The reforms, while challenging, also present significant opportunities for firms to strengthen their market position and customer trust. For example, implementing robust safeguarding measures will inspire consumer confidence, ensuring that funds are protected, even in worst-case insolvency scenarios, and will lead to stronger customer retention and acquisition, particularly in a competitive market where trust is paramount. Payment service providers (PSPs) and e-money firms that demonstrate proactive compliance and robust safeguarding protocols position themselves as reliable and stable partners.

The demand for streamlined compliance processes encourages investment in technological solutions; automated systems for reconciliation, record-keeping, and reporting reduce manual errors and free resources for innovation. These reforms encourage the adoption of transparent and structured operational practises, which in turn ensures compliance but also gives firms the ability to weather financial and operational risks, fostering sustainable growth.

Call for strategic action

To successfully navigate the FCA’s safeguarding reforms and ensure a balanced approach to compliance, firms must act collectively and strategically. Advocacy and alignment with broader regulatory frameworks will be critical.

Advocating for proportional regulations: Payments and e-money firms should work collectively through industry bodies and associations, such as The Payments Association, to lobby for proportional and practical regulatory measures. This can help ensure smaller firms are not disproportionately burdened, preventing unnecessary market exits and maintaining diversity in the payments ecosystem.

Aligning with HM Treasury’s Strategic Framework: Firms should closely monitor and align with HM Treasury’s overarching strategies, such as the National Payments Vision. This alignment ensures that firms’ compliance efforts contribute to meeting FCA requirements and the broader goals of innovation, competitiveness, and inclusivity in the UK’s payments landscape.

These strategic actions will not only help firms adapt to the immediate challenges of compliance but also contribute to shaping a regulatory environment that balances robust consumer protection with sustainable industry growth.