UK's PRA extends deposit protection to e-money and authorised payment institutions-safeguarded funds

The Prudential Regulation Authority (PRA) published a policy statement (PS2/23) on 31 March containing final rules amending the depositor protection (DP) part of the PRA Rulebook that will impact electronic money institutions (EMIs), authorised payment institutions (APIs), small payment institutions and credit unions.

The effect of the amendments in PRA23/1, which came into force on 12 March, are that the Financial Services Compensation Scheme(FSCS) depositor protection regime will now cover FSCS‑eligible customers of EMIs, APIs, small payment institutions and credit unions (in respect of e-money) should the bank holding those firms’ safeguarded funds fail. 

In particular, the DP rules will no longer prevent EMI and API deposits from being an "eligible deposit" for the purposes of compensation, but will allow the FSCS to look through and compensate end customers of those EMIs and APIs (subject to customers satisfying the usual FSCS eligibility conditions for compensation and subject to the maximum limit of compensation of £85,000 per customer). 

What this means for EMIs and APIs

Unlike under the prior position, if the UK bank where an EMI or API holds its safeguarded funds fails, the FSCS will now pay compensation for the amounts of safeguarded funds it holds that represents end-customer funds, if those end customers would be eligible for FSCS compensation if they held their monies directly in a UK bank.

This will mean that the failure of the bank will be less likely to result in the EMI or  API failing too, as the FSCS compensation (which ideally will be paid within three months) will reduce the amount of customer transactions the EMI or API will have to cover from its own funds, pending claiming payment of its safeguarded funds from the appointed IP of the failed bank (which may well take a significant period of time and may be reduced by the costs of the IP and challenges by other creditors of the bank).

What does this mean for end customers?

With the FSCS compensation making it less likely their EMI or API will fail, end customers will less likely experience a significant delay in accessing their funds and ultimately lose their funds.

The rules have also been amended to provide that, if despite the FSCS compensation, the EMI or API also subsequently fails, then FSCS compensation can be paid to the end customers (subject always to the maximum limit of compensation of £85,000 per end customer).   

What the amendments do not cover, however, is a situation where the EMI or API itself fails, but the bank does not. The implemented rules do not cover e-money more generally.

The implemented rules also do not cover situations were EMIs or  APIs choose to safeguard customers' e-money using either the investment method or the insurance or guarantee method.

Neither do the implemented rules cover situations where customer funds are safeguarded by an EMI or API in a non-PRA-authorised credit institution, such as an overseas bank.

What does this mean for UK banks?

The implemented rules will increase the FSCS levies that UK banks will have to pay as those levies will now be based not only on eligible deposits, but also on deposits which are safeguarded funds. UK banks will have to report safeguarding accounts held by them to the FSCS. 

Osborne Clarke comment

The amendments to the DP Rules are a positive move to protect underlying customers of EMIs and APIs – and the EMIs and APIs themselves.

Some would say, however, that they do not go far enough, as they do not provide equivalent protection for e-money that is provided for cash deposits with UK banks.  And this is in circumstances where customers may not necessarily know whether their "bank" is a bank in the traditional sense (where money is held as protected deposits) or an alternative payment institution, such as an e-money issuer (where money is held in safeguarded funds subject to the more limited FSCS protection regime).

The PRA has raised this feedback with the Financial Conduct Authority as it does not have the power to impose disclosure obligations on EMIs and APIs. We will wait to hear whether the FCA will, for example, consider updating its "Payment Services and Electronic Money Approach Document" to provide updated guidance to EMIs and APIs on their disclosure requirements to their customers in relation to the nature and extent of FSCS protection. 
There are also some issues with the amended rules where confusion could arise which may lead to potential consumer impact.

Where a customer holds a deposit with a bank and the same customer's EMI and API holds their safeguarded e-money with the same bank. In the event that the bank fails, the maximum compensation payable to the customer may be the aggregate of their deposit(s) and their safeguarded e-money, up to £85,000, rather than £85,000 for their bank deposit and £85,000 for their e-money; 

Where an EMI and API holds safeguarded funds with more than one bank, in the event that one of the banks fails, but not the other, it is unclear which bank will be considered to be the "depositor" for which end-customers funds for the purposes of the rules; and  

And where a UK-based EMI customer is unaware that their EMI or API safeguards their e-money with an overseas bank where there will be no protection provided by FSCS.