Emoney institutions (EMIs) are increasingly being used by individuals and businesses to perform activities previously provided by banks, such as paying suppliers, receiving salaries, and paying for goods and services. Most assume that funds held in an EMI are covered by the same depositor compensation schemes that apply to deposits held with a bank, where eligible deposits of up to £85,000 in the UK and €100,000 in the EU are guaranteed should the bank fail.

EMIs are not covered by depositor compensations schemes. Instead, they are subject to ‘safeguarding’ requirements that define how an EMI must protect customer funds, and aim at ensuring that, if the EMI fails, customer funds will be protected and eventually returned to the end customer.

The issue, however, is that funds belonging to customers will only be returned if the institution has actually complied with safeguarding requirements and, in some jurisdictions, if such funds have not been used to pay third parties such as receivers or liquidators who may have a prior ranking claim at law on a company’s assets in the event of failure. In the UK, for example a receiver (the person who’s appointed to manage the closure of a failed company) would be paid before customers receive their funds. This means that if the EMIs capital and cash balances are not sufficient to pay the receiver, then such shortfall would be borne by customers.

This is why it is extremely important to only use trusted EMIs and those that are supervised by reputable regulators who have a proven track record of dealing with failed institutions swiftly, fairly, reasonably, and in a manner that ensures that failed institutions are not saddled with excessive costs that could end up being borne by customers. The MFSA in Malta does not particularly have a good reputation in this regard. When dealing with a failed bank in 2018, the MFSA appointed one of the Big Four by direct order as a so called “competent person” to manage the bank’s affairs, which resulted in a bill of over €10 million and a winding up process that is still ongoing almost 3 years after the bank was made to cease its operations. A portion of the bill will be recouped from some frozen customer accounts, but it remains to be seen how the MFSA will approach settling any unpaid amounts. This will definitely serve as an interesting precedent for bank customers and customers of other firms that hold a MFSA license.

So what ‘safeguarding’ requirements are EMIs subject to?

In the UK, EMIs are required to immediately segregate customer funds from its own and that of other customers and, when held at the end of the business day following the day on which they were received, place them in an account with an authorised credit institution or in low risk liquid assets held by an authorised custodian. Alternatively, the EMI may arrange for customer funds to be covered by an insurance policy or by a comparable guarantee from a UK or EEA authorised insurer, bank or building society.

How to know what ‘safeguarding’ requirements are being applied by an EMI?

This information should be provided in the EMI’s terms and conditions, which should be available on the company’s website. The level of detail is left to the institution in question, meaning some EMIs may provide general information that adds little value to the customer.

In fact the Financial Conduct Authority (FCA) in the UK was particularly concerned that customers of EMIs did not fully appreciate the risks of holding funds at an emoney firm, and on 18 May 2021, wrote to authorised firms highlighting the FCA’s concern that many e-money firms compare their services to traditional bank accounts or hold themselves out as an alternative in their financial promotions, but do not adequately disclose the differences in protections between e-money accounts and bank accounts. In particular, they do not make it clear that Financial Services Compensation Scheme (FSCS) protection does not apply. The FCA directed all authorised EMIs to remind customers of how their money is protected through safeguarding and that FSCS protection does not apply with respect to funds held with EMIs, which must be done by the end of June 2021.

How to tell if your EMI is reputable?

There are no clear rules as to how to assess the reputability of an EMI, but the answer to the following questions may provide a useful indication.

• Is the emoney firm licensed, and, if so, by which regulator? Not all licenses are of equal value in terms of consumer protection.

• Is the emoney firm audited and if so does its auditor look into the firm’s compliance with its safeguarding obligations? In the UK, EMIs are expected to arrange specific annual audits by an auditor, another independent external firm or consultant to look into their compliance with the safeguarding requirements under the Electronic Money Regulations 2011.

• Are there previous examples of how the relevant regulator dealt with a failed institution in the past and how long did it take for customers of the failed EMI to receive their funds?

• What other creditors have a preferential claim over the assets of the EMI and possibly customer funds in the jurisdiction where the EMI is authorised?

• Has the EMI been subject to any regulatory action in the past? Adverse media should also be analysed.

• Is the EMI profitable and its business model sustainable? Most jurisdictions require public disclosure of the annual reports of EMIs (together with those of any other company), although often these are not very easy to find and most EMIs don't even bother to publish their annual reports on their website.

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