On 27 December 2019, Bank Negara Malaysia (BNM) issued an exposure draft on the Licensing Framework for Digital Banks (Exposure Draft). According to BNM, up to five licences may be issued to applicants to establish digital banks that conduct either conventional or Islamic banking business in Malaysia.

BNM's move to promote the development of digital banks is in line with the direction taken by regulators in Singapore and Hong Kong, which have each issued similar licensing frameworks in the past two years.

What are digital banks

Digital banks (also known as virtual banks) primarily deliver banking services through digital channels such as the internet with minimal (if any) brick-and-mortar presence.

Usually operated by a mix of e-commerce firms, technology and telecommunications companies, fintech and financial institutions, digital banks typically target 'unbanked' or 'underserved' customer segments such as low-income individuals, early income millennials, start-ups and small SMEs.

BNM's proposed licensing framework

BNM has proposed to adopt a phased approach for the regulation of licensed digital banks.

Foundational Phase

The first phase (Foundational Phase) will last for a minimum of three years or up to a maximum of five years, during which, simplified regulatory requirements (including capital adequacy, liquidity stress testing and public disclosure) will apply.

During the Foundational Phase, a licensed digital bank is required to:

  • maintain a minimum amount of capital funds of RM100 million; and
  • ensure that its total assets do not exceed RM2 billion.

After three years from the commencement of its operations, a licensed digital bank may apply to BNM for the Foundational Phase to end, and for the limitation on total asset size to be uplifted.

Post-Foundational Phase

By the end of the fifth year from the commencement of their operation, all licensed digital banks will be required to comply with all equivalent regulatory requirements applicable to a licensed bank or licensed Islamic bank. A minimum amount of capital funds of RM300 million must be achieved, while the limitation on total asset size will no longer be applicable.

A licensed digital bank which fails to fulfil any such requirements by the end of the fifth year from the commencement of its operation may be subject to enforcement action, including a direction to implement its exit plan or a revocation of its licence.

Who may apply

Non-bank players may apply for a digital bank licence. However, BNM may require a shareholder who holds an aggregate interest in shares of 50% or more in a proposed licensed digital bank to organise all its financial and financial-related subsidiaries under a financial group, headed by a single apex entity, which should be either:

  • a licensed institution under the Financial Services Act 2013 (FSA) or the Islamic Financial Services Act 2013 (IFSA);
  • a financial holding company approved under the FSA or IFSA; or
  • a foreign institution regulated by a supervisory authority outside Malaysia which exercises functions corresponding to those of BNM under the FSA or IFSA.

Licensed banks and licensed Islamic banks may also apply for a digital bank licence separate from their current licensed entity should they wish to carry on digital banking business or Islamic digital banking business in a joint venture with other parties. However, this does not preclude licensed banks and licensed Islamic banks from digitalising their current business operations, as this remains within the scope of their existing banking licence.

While the Exposure Draft does not expressly rule out non-Malaysian parties from submitting an application, applications where the controlling equity interest in the proposed licensed digital bank resides with Malaysians will be given preference.

Am I eligible

In assessing the eligibility of applicants, BNM has proposed to consider the following criteria:

  • the character and integrity of the applicant;
  • the interests of depositors, participants, users or the public generally;
  • the feasibility of the plans of the applicant;
  • the financial resources of the applicant;
  • the business record and experience of the applicant;
  • whether the proposed licensed digital bank will be operated responsibly by persons with suitable competence and experience;
  • whether, given the nature, scale and activities of the corporate group of the applicant, the proposed licensed digital bank can be regulated effectively; and
  • the best interest of Malaysia.

To fulfil the "best interest of Malaysia" criterion, applicants are required to show a commitment in driving financial inclusion, including ensuring quality access and responsible usage of financial services, particularly to underserved and hard-to reach segments that may be unserved, which includes retail as well as micro, small and medium enterprises.

The suitability of the shareholders of the proposed licensed digital banks will also be assessed, having regard to the following criteria:

  • risk management and compliance capabilities;
  • application of transformative technology;
  • access to deep and robust customer analytics;
  • ability to continuously serve as a source of financial strength to the proposed licensed digital bank; and
  • with respect to licensed Islamic digital banks, the requisite Shariah expertise to effectively carry on Islamic digital banking business.

Application timeline

BNM has stated that it aims to finalise a Policy Document by the first half of 2020, with licence applications being open upon issuance of the Policy Document.

Comparison with Singapore and Hong Kong regime

Singapore Hong Kong Malaysia
License types Digital full bank licence and digital wholesale bank licence Virtual bank licence Digital bank licence
Number of licenses Up to 5 licences will be granted from 21 applications received 8 licences granted in 2019 from around 30 applications received Up to 5 licences will be granted
Applicants Targeted at non-bank players Both financial and non-financial firms allowed to own and operate a virtual bank.

Non-financial firms' ownership will be subject to certain additional conditions (such as control requirements)

 Open to non-bank players

Licensed banks and licensed Islamic banks may also apply, however, they do not require a digital bank licence to digitise their current operations

A separate licence should be sought if digital banking business is to be carried out as a joint venture with other parties
Incorporation Must be locally incorporated Must be locally incorporated Must be locally incorporated
Foreign ownership restrictions Must be controlled by Singaporeans No foreign ownership restrictions No express foreign ownership restrictions, but preference will be given to proposed digital banks controlled by Malaysians
Minimum paid up capital Full bank: SGD$15 million (RM46 million) initially and S$1.5 billion (RM4.6 billion) eventually

Wholesale bank: SGD$100 million (RM304 million)

 HK$300 million (RM158 million) Foundational Phase: RM100 million

Post-Foundational Phase: RM300 million
Customers Retail and non-retail segments are covered Primarily retail, but virtual banks can also provide services to other segments Both retail and non-retail segments covered, with focus being placed on unserved segments (including retail as well as micro, small and medium enterprises)
Phases Phased-in requirement No phased-in requirement Phased-in requirement
ATM access No access to ATMs or cash deposit machines, but will be able to offer cashback services through electronic funds transfer at point of sale (EFTPOS) terminals at retail merchants Will need to negotiate access with ATM operators May participate in the Shared ATM Network and any other cash-out services offered by PayNet
Physical presence Only allowed to operate one physical place of business Must have a physical presence in Hong Kong to provide customer services such as handling complaints and enquiries, and to verify the identity of customers Not allowed to establish any physical branches

Assistance

We have called on our financial services regulatory expertise, our deep understanding of the commercial drivers of IT procurement and outsourcing, our corporate structuring experience, and our broad geographical footprint through Malaysia, Singapore, Hong Kong, China and beyond to establish a team capable of delivering complete, accurate, and commercial advice in relation to assisting our clients obtain virtual banking licences and work towards a successful launch.
In Asia, our team has been advising several virtual bank licence holders on all aspects of the process, including:

  • applications to the regulator to obtain a virtual bank licence;
  • corporate structuring;
  • procurement of the IT infrastructure necessary to support the virtual bank; and
  • compliance with the regulations governing virtual banks (including in relation to financial services regulatory, data protection, information security and cloud computing arrangements etc).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.