In recent years, domestic payments have experienced a complete transformation, and overseas transactions have started to follow suit.

Historically, cross-border payments faced a number of barriers, including lengthy and uncertain transfer times, a dearth of cost transparency, and exorbitant transfer and conversion rates. Before reaching their destination, payments had to go through numerous institutions, leading to delays and incurring fees.

To control liquidity, react to customer queries, and examine anomalies, financial institutions were forced to allocate a significant portion of staff and assets. This is where fintech can offer innovative, customer-centric offerings in the cross-border payments sector.

Why is Cross-Border Payment an Important Fintech Use Case?

Fintechs are turning their focus to the cross-border payments sector for several reasons:

1. Banks are typically slow in processing cross-border transactions, opening a new market opportunity for fintech

The typical processing time for a cross-border money transfer is between two and five days, which is tardy when compared to nearly instantaneous domestic transfers. Depending on the payer’s and payee’s institutions, the transfer of funds from one country to another may pass through multiple intermediaries in various third-party nations.

A lack of standardization and automation in banking networks and payment systems is a contributor to these lengthy processing times. If institutions on both ends are not participants of a cross-border payment system, like CHIPS (Clearing House Interbank Payments System), the path of an international transfer can seem to be extremely convoluted.

For instance, imagine a US-based company transfers funds to a South Korean firm via a non-CHIPS member bank. The bank must request another bank to transfer funds via CHIPS to an authorized correspondent bank in the United States.

Consequently, several cross-border remittances need several days to process, giving fintech a clear opportunity to step in and differentiate themselves.

2. Traditional cross-border payments can be costly and cut into international business transactions

Due to a wide range of factors, international transaction fees may get quite expensive. However, the primary reason is the same as for slow transaction speed: an elevated number of intermediaries associated with a money transfer. Each and every associate bank charges for its services.

Other considerations encompass regulatory and compliance fees and currency conversion costs. Since the overall cost of a transaction is an important factor for both organizations and consumers when selecting a provider of payment services, banking institutions that don’t offer affordable rates risk losing customers to competitors.

This is an incredible opportunity for fintech since they are well-positioned to offer a cost advantage to their users.

3. Banks cannot provide modern customers with the transparency and visibility they have come to expect in the digital era

Frequently, the payer and payee can’t track the status of an international payment online. An abundance of intermediaries and a lack of standardization makes it increasingly difficult to reach the right entity in the event of a payment halt or investigation. This is accompanied by a lack of transparency surrounding all fees and deductions.

Almost every business that engages in international payments has, at least once, encountered unanticipated fees that dramatically rise (or drop) during the course of an international payment. Such unpredictability isn’t beneficial for company performance and has an immediate impact on profits.

The inability to track the transactions has a negative impact on cash flow and the health of the organization, especially in the case of small to mid-sized businesses. Fintechs that can offer these features can gain a significant market advantage over its larger, less-digitally-enabled competitors.

4. Regulatory compliance around cross-border payments is a complex and evolving space

The financial sector is among the most strictly regulated by authorities globally. For instance, payment service providers in the United States must adhere to the following regulations: Know Your Customer (KYC), Basel III, The Patriot Act, Sarbanes-Oxley, Federal Financial Institutions Examination Council (FFIEC), and PCI DSS.

Given that cross-border payments have to conform to rules established by both the creditor and the recipient’s nation-states, the challenges are compounded: banks have to constantly track changes in regulation in each country to which they send funds and alter their policies accordingly. Consequently, several organizations decide either to not offer remittances abroad at all or to severely restrict them.

Fintechs, on the other hand, have the data capabilities needed for stringent regulatory compliance and easier audits. They are well-positioned to demonstrate compliance through auto-generated reported and digitally assisted workflows.

5. Cultural expectations differ across countries, and traditional banks have been slow to adapt

People and cultural concerns additionally create challenges for international remittances. The customer experience varies from country to country; for instance, face-to-face interactions may be considered essential in one region but not as much in another.

Therefore, operators functioning in this sector must take into account the cultural differences of the nations in which they operate and offer solutions accordingly. Numerous fintechs have attempted to improve their consumer experience by providing products and services in various languages and expanding their draw in multilingual countries.

This is something that banks have struggled with, due to their long legacies of operation and entrenched operational culture that’s almost always wedded to a specific region or country.

How Can Fintechs Transform Cross-Border Payments?

Fintechs leverage technology to create low-cost international payment solutions for people, startups, and larger enterprises. They can revolutionize the cross-border payments system with improved customer service, worldwide coverage, adaptable and responsive payment options, reduced transaction fees, and shorter transaction timeframes.

Transfers can be managed by fintech firms using two primary models:

• Cross-border payment tracks work independently of traditional financial networks
• Technology solutions that enable customers’ access to legacy bank lines

In the second case, a fintech corporation has a global network of accounts. It maintains local currency balances with a treasury division in charge of managing these local accounts.

The consumer starts a transaction in the local currency at the neighborhood fintech office. The details of the transaction are transmitted to the financial institution in country B, which sends the agreed-upon quantity of funds in the currency of the country to the domestic account of the beneficiary.

Essentially, each international transaction consists of two domestic transactions. Multiple times per month, accounts and offices are settled to optimize the exchange rate. The transfer fees range between 0.25 and 1% of the transaction amount, based on the destination.

A second method is to set up faster payment channels. The user’s account or registered identity, like the Unified Payment Interface (UPI), will be used to finance the transactions. These apply proxy identifiers like cell phone numbers to expedite cross-border payments using new channels.

Some fintechs are trying out distributed ledger technology (DLT) for international remittances. Before transferring funds, this model verifies transactions with DLT (i.e., the blockchain network). This model has gained success with clients who send smaller sums of money, notably small- and medium-sized enterprises.

Action Points for Fintech Companies

To capitalize on this opportunity, financial technology or fintech companies need to:

• Build unified experiences with a connected user experience: Regardless of the variety of correspondent banks or other parties involved in the value chain of custody, fintech must prioritize convergence. Organizations that can offer their customers a unified payment experience will enjoy a competitive advantage.
• Secure KYC and transaction monitoring: Harnessing AI and ML advancements is another arena for fintechs eager to minimize friction. This will help validate transaction data swiftly, make decisions more easily, and use the information to manage the compliance burden.
• Offer real-time FX rates and smart routing: Offering transparent real-time rates will aid fintech companies in gaining consumer trust and distinguishing themselves from traditional financial organizations. They must also reduce the number of payment pathway touchpoints to minimize intermediary fees.

In the future, central bank digital currencies (CBDCs) can play an important role in the growth of fintech in the cross-border solution space.

Traditional payment networks are not highly interconnected. Due to the disparities in laws, regulations, and processes across various legislations, cross-border remittances are plagued with challenges. CBDCs can address this issue with initial coordination between diverse national CBDC designs.

In partnership with NZIA Ltd. and Zynesis Pte. Ltd., the Central Bank of The Bahamas launched the world’s first CBDC, Sand Dollar, in October 2020. In addition to China, South Korea, and Sweden, 14 other countries have launched exploratory programs.

Interestingly, this is also a big opportunity for fintech companies to work hand in hand with traditional banks and governments to boost cross-border payment capabilities at scale.

Wrapping Up

In 2022, the volume of global international money transfers is projected to exceed $156 trillion. Conventional financial institutions are losing a substantial share of the market to fintech, and several banks are sitting up and taking notice. They have begun constructing new cross-border payment platforms and mobile apps, revaluing FX or transfer costs, and partnering with fintech companies to improve their services.

Overall, the future looks bright for international payment customers, both via fintech competition and competition.