Why fintechs are blocking transactions from other fintechs

When Jeff Csicsek recently tried to buy some stock on his trading app, Robinhood, he received an unexpected error message: “This account is currently not supported.”

That was a reference to his checking account at LendingClub Bank that he was going to use to pay for the share purchase.

“I felt frustrated,” said Csicsek, a Queens, New York, high school teacher. “I couldn’t understand why Robinhood would fail to support a perfectly legitimate, chartered U.S. bank.”

Csicsek says he plans to close his Robinhood account.

This is one example of a new problem that has emerged for some younger, digital-only banks: Some fintechs have begun blocking deposits and transfers from these companies over fraud concerns.

Robinhood users say the company is blocking their challenger bank accounts.
Adobe Stock

Robinhood is the latest fintech to create a banned-company list to stop fraud, and it's extensive, said Tommy Nicholas, CEO of Alloy, a software company that develops account-opening and identity-verification software and monitors transactions on clients’ behalf.

More established fintechs are blocking or flagging accounts at digital banks because these companies are growing fast and, the fintechs fear, may be letting too much fraud slip by, according to Nicholas and other experts interviewed for this story.

Robinhood does not block the transactions of specific challenger or other banks without cause, a company spokeswoman said Monday. It “prevents transfers from routing numbers that display a high pattern of return and fraud rates,” she said.

She described that as a “standard practice” whether the sources of concern are digital or traditional banks. “When Robinhood and other financial institutions take the step to prevent transfers from a particular routing number, it’s because the fraud problem originates at that institution,” the spokeswoman said.

LendingClub didn’t respond to requests for comment for this article.

Blocking of neobank transactions is widespread, said Shamir Karkal, co-founder and CEO of the payment technology company Sila Money.

“It’s happening across the board,” said Karkal, who was a co-founder of Simple and head of application programming interfaces at BBVA. “Typically you see a later-stage fintech like Robinhood blocking an earlier-stage fintech.”

Because fintechs block routing numbers, sometimes they are blocking all neobanks that use a common sponsor bank, Karkal said.

Also, because neobank accounts represent a relatively small part of the overall customer base for a company like Robinhood, it’s easier to block all accounts at a company if the move makes a big enough dent in fraud, Karkal said.

“We do transaction monitoring, and an unbelievable amount of the transaction-monitoring rules we see are: If this transaction comes from one of these fintechs” and some other condition applies, block the account, Nicholas said.

“It's becoming almost a best practice,” he said.

In some cases, neobanks’ debit cards are being flagged as higher risk, meaning when customers swipe the card, the transaction is treated with more suspicion, Nicholas said.

“Fintechs and neobanks underestimate what is needed for fraud management to run an operating business, period,” Mary Ann Miller, vice president of client experience at Prove, an identity-authentication company, said in a social media post on this topic.

The undercurrent to this is a massive increase in the level and sophistication of online fraud, “which is hitting everybody,” Karkal said. According to the security company OneSpan, 85% of financial institutions experienced fraud in the process of account opening in 2020.

The root of the problem, according to Nicholas, is that newer challenger banks are growing fast and have a higher mix of new accounts. For instance, Chime now has about 13 million users, a 30% increase over last year.

Such new accounts are far riskier than older ones, Nicholas said.

Established neobanks like Chime have sophisticated fraud-detection systems, Nicholas said. In some cases, they are far better at detecting and averting fraud than traditional banks, he said. But because the ratio of new accounts at challenger banks is so much higher, they’re going to have a higher proportion of fraud.

“We have never, ever seen purely digital new accounts opened at this rate,” Nicholas said.

A Chime spokeswoman touted the company’s anti-fraud efforts.

“When it comes to fraud, anyone in the payments business needs to properly invest in risk and compliance, which is why Chime has devoted 20% of its workforce to these critical functions,” she said. “Chime fraud rates on both Visa and ACH transactions are well below the thresholds imposed by those networks.”

For fintechs, it’s easier to write a rule blocking accounts from certain companies than it is to take a more nuanced approach to fraud detection, Nicholas said.

“A lot of institutions are saying, we wish we could do a more nuanced, customer-forward thing, but we're getting slammed,” Nicholas said. “So we’ve got to do something. It's pretty easy to write a little bit of code: If this bank, do not process. They're taking a very simple route to try to reduce fraud losses and fraud exposure in an environment where there's a lot of fraud going around.”

Challenger banks are still responsible for doing something about this problem, Nicholas said.

“If you're going to grow accounts at a fast rate, you're going to create a high degree of fraud pressure,” he said. “I don't think you can say well, when we were only opening a hundred accounts a month, one out of a hundred was fraudulent. And now that we're opening 10 million, one out of a hundred is fraudulent. We're just as good at fraud prevention. At some point it becomes an ecosystem problem that you have to own.”

Fintechs tend to get better at detecting fraud than their traditional bank counterparts quickly, otherwise they go out of business quickly, Nicholas said. That extra effort might involve becoming better at spotting fraud rings, in which groups of fraudsters try to defraud a company all at once. For another fintech, it might be setting better controls when accounts are still young and more suspect. Others might need to use better data sources and synthetic fraud prevention.

“I don’t think anyone totally knows what changed [in fraud over the past year] and what would you countermeasure against that,” Nicholas said. “But I think everyone is going through that thought process and I expect changes.”

For reprint and licensing requests for this article, click here.
Digital banking Bank technology
MORE FROM AMERICAN BANKER