Klarna Wants a Seat at the Big Banks’ Table. The Price Is Full Regulatory Scrutiny.

Klarna is chasing the cheapest money in banking: customer deposits. Could a U.S. charter turn its BNPL empire into a full financial institution?

First off, what is causing the broader shift among fintech firms toward owning bank charters rather than relying on partner banks?

Jason Hardgrave, CEO of DR Bank: We’re seeing a convergence of two separate trends, with a much friendlier regulatory stance toward banks applying for a charter, and a generation of fintechs successes like Klarna starting to reach a level of scale that makes the cost of paying for a sponsor bank’s infrastructure seem less practical. This doesn’t represent an exodus away from the sponsor banking framework, as banking charters really only make sense for the most mature, well-resourced fintechs operating at considerable scale.

Michele Alt, Partner and Founder, Klaros Group: The Trump administration has moved the Biden administration’s needle on fintech formation from “hell no” to “hey, why not?” Fintechs are applying for bank charters because the regulators are open to new bank formation in a way we haven’t seen before. In the U.S., a bank license provides the keys to the financial kingdom. There’s also an expectation that the current favorable regulatory climate may change after the next presidential election, so the time is now to pursue a bank charter.

John Taylor Garner, Founder & CEO of Odynn: That Klarna is filing for a US banking license signifies that Buy Now Pay Later is no longer limited to being a checkout function. It is evolving to be a complete relationship with consumers. When a fintech is developing the product-market fit, then partnering with banks can be a viable method. However, when the fintech desires to have control over funding, compliance, underwriting, deposits, etc. then this structure limits the fintech’s ability to build out the full customer relationship.

Adam Neiberg, Global Banking Product Manager, SAS: The US market is littered with the tombstones of failed global FinTechs that tried to enter the US banking industry. However, Klarna is one FinTech that might be able to succeed as a full-fledged bank. It created the BNPL industry and comes to the market with favorable brand equity. Klarna is not just a banking FinTech trying to access the US market; they already are here providing a valuable service to a large client base. That opens many doors that other FinTechs could not.

What problem does a U.S. bank charter solve for Klarna that its current partner-bank model cannot?

John Taylor Garner, Founder & CEO of Odynn: The largest issue a U.S. bank charter addresses for Klarna is funding. If Klarna can leverage the funds available from deposits to originate consumer loans, rather than warehouse lines, capital markets, etc., then their profitability should be more sustainable. Lower cost funding (i.e. deposits) can significantly increase profitability compared to the same loan portfolio originated using higher cost funding methods.

Jason Hardgrave, CEO of DR Bank: Klarna currently runs its U.S. debit cards, wallets, and savings through WebBank. A charter will let it fund lending directly with insured deposits instead of warehouse lines or capital markets and avoid additional partner banking fees. However, there is a direct trade-off that is created by having insured deposits, as they now need to be compliant with new FDIC guidelines around the usage, size, and direction of the balance sheet and funding sources which could create another level of constraints.

Michele Alt, Partner and Founder, Klaros Group: For any fintech, a U.S. bank charter makes them master of their own fate — it’s about future-proofing the business. They have a direct relationship with their regulator and no longer have to go through a partner bank.

And if Klarna can fund loans with deposits, what parts of their model become more defensible?

Jason Hardgrave, CEO of DR Bank: Funding cost and stability, mainly. Deposits are cheaper and stickier than warehouse facilities or securitized funding, and less exposed to capital-markets cycles. However, to the customer, the rest of the product suite will not look significantly different compared to using the partner bank model today.

John Taylor Garner, Founder & CEO of Odynn: Using deposits to fund loans lowers Klarna’s cost of capital and lessens their reliance on partners’ banks and wholesale funding markets. That results in higher profit margins, provides more stability in times of volatile markets and allows Klarna to better manage both the loan process and overall customer experience. Companies within the BNPL space realize that the checkout loan was merely the first step in creating a larger business opportunity.

What are the biggest regulatory hurdles for a Utah industrial bank charter in Klarna’s case?

Jason Hardgrave, CEO of DR Bank: It’s a two-step approval, with state approval in Utah where it is applying, and separate U FDIC deposit insurance. Regulators will scrutinize capital adequacy, management and governance , asset quality, liquidity, cybersecurity, AML/BSA, and CRA compliance. In particular, Klarna will need to lay out a three-year plan for the regulator and will be expected to follow it.

Michele Alt, Partner and Founder, Klaros Group: For any ILC applicant, the biggest hurdle is regulatory approval by the FDIC. The current regulatory receptiveness to new bank formation is more nuanced for an ILC. An ILC is essentially a full-service, insured bank, but by law, its parent is not considered a bank holding company subject to oversight by the Federal Reserve. For that reason, traditional banks - whose parents are subject to such oversight - see ILCs as having an unfair competitive advantage. Many of those traditional banks are supervised by the FDIC, and the agency is sympathetic to those banks’ concerns.

What would consumers actually notice if Klarna became a U.S. bank?

John Taylor Garner, Founder & CEO of Odynn: From an end-user perspective, there may be little change immediately. The application may appear to remain similar. Over time however, users may begin to notice Klarna expanding into providing checking accounts, savings accounts, credit cards, long term installment loans, merchant financing, etc. This is what ultimately matters – Klarna is attempting to establish a bank-like relationship with its customers.

Michele Alt, Partner and Founder, Klaros Group: Consumers generally don’t understand — or care — what type of license their financial services provider holds. Consumers understand the importance of deposit insurance, but, understandably, would not appreciate the difference between it being provided directly or by a bank partner.

Adam Neiberg, Global Banking Product Manager, SAS: Customers probably won’t notice much difference on a day-to-day basis. Klarna will be able to offer FDIC insurance on its customer deposits. And Klarna will begin to cross sell products to its massive client base of 40+ million Americans.

So you think this signals that Klarna is moving toward offering credit cards, checking accounts, savings products, or merchant banking services?

Adam Neiberg, Global Banking Product Manager, SAS: Yes it does. Besides lowering its costs of funds, it helps them to become a full-fledged digital bank. Everyday retail products will be an extension of Klarna’s basic services.

If they further develop a merchant services business, small business deposits would be another natural avenue for growth. Klarna can begin to leverage its relationships with merchants and become a strategic financial partner.

Note that this path resembles that of Square, which started out processing micro and small business payments before moving up the food chain and going after retail consumers.

John Taylor Garner, Founder & CEO of Odynn: Yes! If Klarna is able to obtain a bank charter, they have all the building blocks necessary to expand their BNPL (Buy Now Pay Later) service to be a full service financial institution. I anticipate an expansion in products such as checking accounts, savings, credit cards and consumer lending. Also, I believe that Klarna will increase its ability to serve merchants by providing them with business finance options and other types of embedded banking services.