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MEMORANDUM ON THE FINTECH BILL

MEMORANDUM ON THE FINTECH BILL

memorandum1

I. INTRODUCTION

From mid-year of 2016 and throughout the entire first semester of this year, the Mexican financial authorities -lead by the Ministry of the Treasury and Public Credit- have prepared a new law and accessory legislation intended to govern the incorporation, operation, functioning and registration of companies whose purpose be the provision of financial services through innovative means that reach a vast amount of people (the “Fintech Companies”).

Although a lot has been said in several forums and media about the soon enactment of said law, a bill is still currently in circulation for the main participants in the sector, such as Fintech Companies in operation and banks may comment and make observations.

We are aware that governing the new participants in the financial sector has not been an easy task, yet financial authorities have appreciably advanced in the modeling of the law that will govern the market in both general and specific terms. Wherefore, Mexico is to become part of a still select group of countries who have governed one of the most complex matters in constant transformation that exist nowadays.

The law firm Bello, Gallardo, Bonequi y Garcia, S.C. (“BGBG”) has worked close to the Mexican financial authorities and to important participants in the Fintech area with the purpose of sharing its best opinions and ideas for the creation of a balanced and a competitive law for all participants in the sector.

Consequently, we would like to share with you this first memorandum, so that you have access to an overview of the future Fintech Law (the “Law”). As mentioned above, said Law is still a bill; therefore, the general and/or specific terms of it will undergo a transformation until the official enactment of the Law.

II BACKGROUND

Nowadays, Fintech Companies have become important around the globe, for they have given financial services users new benefits that were unavailable through traditional financial institutions. Broadly speaking, Fintech Companies have (i) fostered financial inclusion; (ii) decreased the cost for services; (iii) given rise to competition within the sector; (iv) innovated the use of services; etc.

There are between 1500 and 2000 Fintech Companies worldwide. Those Fintech Companies manage assets amounting over US $800 Billion, and have generated over US $100 Billion. Worldwide investments in those companies has remarkably increased each year.

England, the USA, France, China, India, and Australia are currently the biggest Fintech markets. Most such markets have an effective legislation that governs Fintech Companies’ transactions and daily activities.

In Mexico, there are over 150 Fintech Companies in operation. Those Fintech Companies offer the following services.

• Payments
• Online Loans
• Business Financial Advisory
• Crowdfunding
• Debt Crowdfunding
• Price Comparison
• Virtual Assets
• Insurance
• Financial Literacy and Savings
• Personal Finance
• Credit Score
• Wealth Advisory
• Trading

There are over 500 thousand Fintech Companies’ active users in Mexico. The Fintech market is exponentially growing in our country and attracting more and more users.

III PROPOSAL OF PROVISIONS IN MEXICO

Financial authorities have created and spreaded a regulatory policy that is based on governing principles to be abided by Fintech Companies. Those principles are, namely: (i) financial deepening and inclusion; (ii) consumer protection; (iii) financial stability; (iv) competition fostering; and (v) anti-money laundering.

Based on the preceding governing principles, financial authorities have worked to regulate what they deem to be the most demanded services among consumers, and in which watching they are most interested. Those services are namely:

A. Crowdfunding Institutions (Crowdfunding)

The Bill has defined Crowdfunding as follows:

“Solely entities authorized by the National Banking and Securities Commission (CNBV, for its initials in Spanish language) may conduct – further to the consent of the Committee and as crowdfunding institutions- activities intended to connect investors with applicants, so that investors finance applicants by means of any of the Transactions referenced in the article below. Said Transactions are usually and professionally conducted by means of interfaces, web pages, or any other electronic or digital means of communication.”

“Clients of crowdfunding institutions shall be referred to as investors and applicants. Investors are deemed individuals or legal entities who contribute any resources to applicants, who, in turn, are deemed individuals or legal entities who requested those resources through the relevant crowdfunding institution.”

Crowdfunding has been one of the most innovative forms of financing to be created to this date for project financing. By means of crowdfunding, investors have been able to choose between several participation schemes, such as capital, debt or co-ownership financing. In Mexico, crowdfunding companies have over 30 thousand users, and manage resources that add up to 300 million pesos, approximately.

Crowdfunding regulations intend to ensure greater transparency for investors, to prevent frauds, and to prevent unlawful resources from operating in the market. Therefore, in general, Crowdfunding companies will have to fulfill the following obligations:

• Crowdfunding companies must establish a project selection policy and criteria, and inform investors or potential investors of the risks of investing in any given project, and of its payment performance. For which purpose, CNBV will issue general provisions.

• Crowdfunding companies must use at least one credit risk rating company.

• Crowdfunding companies must establish criteria for investors to be able to withdraw their investments without any constraints should any changes in the agreed terms and conditions happen.

• Crowdfunding companies must not guarantee any yields or profits for any performed investments.

• Crowdfunding companies must allow projects to be financed by two or more crowdfunding companies.

• Credit institutions, credit unions, regulated multiple-purpose financial corporations, financial cooperative associations, communal corporations, and savings and loan cooperative corporations are forbidden from investing in any projects through a crowdfunding company.

Furthermore, the Bill sets forth a list of activities that may be performed or not by crowdfunding companies.

Ultimately, companies taking care of the business models they implement with investors at large is important in order to avoid fund raising issues.

B. E-Payment Institutions (E-Payment)

The e-payment sector is one of the sectors to have developed the most in Mexico. It currently has more than 200 thousand users, and manages resources amounting just about 11 million pesos.

Companies who render those services are in charge of issuing, managing, and accounting for electronically-registered balances. That is to say, those balances may be used to make payments or wire transfers through interfaces, web pages, or any other electronic or digital means of communication.

Among the particular issues -established under Law for this type of companies- that we deem important are the following:

• Those companies will have to maintain one or more electronic-payment fund accounts per Client.

• Said companies may act as money transferors pursuant to the provisions of the General Law on Ancillary Credit Organizations and Activities.

• Those type of companies may, moreover, grant credits in overdraft, subject to the conditions of Law.

• They may also issue, trade, or manage payment instruments.

• They may, furthermore, pay to their clients interests or any other monetary yield or benefit for the balance their clients accrue.

The Law contemplates a list of activities or services that will result in an E-Payment Institution not being deemed as such; for that reason, E-Payment Institutions must be incorporated within certain parameters and characteristics encompassed in Law, so that they may operate in the market as such.

Virtual-Asset Management Institutions (Virtual Assets)

Financial authorities have engaged in the task of regulating one of the most controversial and discussed areas globally. Said area corresponds to the transaction and exchange of cryptocurrencies, also known as Virtual Assets in terms of the Law.

Said platforms are used by users in order to exchange a legal tender, such as the Mexican peso for a digital unit considered a Virtual Asset in terms of the Law. The creation and transaction of any such Virtual Assets is based on cryptography. Importantly, even though those digital units are not deemed a legal tender in Mexico, they may be used as an exchange or value-storage means.

It is calculated that in Mexico there are approximately 23 thousand users of Virtual Assets, who execute operations that add up to more than 400 million pesos each year.

Companies that manage virtual assets may (i) bring together third parties, in order to facilitate the purchase, sale, or any other form of alienation of virtual assets; (ii) purchase, sale, or alienate virtual assets on their own behalf or on behalf of their clients; and (iii) receive virtual assets in order to make transfers or payments. In other words, those companies are entitled to act as brokers of virtual assets.

The Bank of Mexico will be in charge of defining the new conditions and limitations of transactions that may be executed with virtual assets by issuing general provisions from the enactment of the Law.

The essence of the Law is that people who execute transactions through Virtual-Asset Management Institutions be aware of the risks they take when they execute transactions with virtual assets. Thus, Virtual-Asset Management Institutions must simply and clearly spread the following information through the media they use to render their services:

• The fact that virtual assets are not a legal tender in Mexico, hence, they are not supported by the Federal Government.

• The instability degree to which the virtual asset is subject.

• The technological, cybernetic, and fraud risks to which their users are subject.

• The impossibility of transactions reversion after their execution.

IV. LAW OVERVIEW

One of the priorities financial authorities have expressed throughout the preparation of this Law is the need for market formalization and for certitude provision to investors, so that they are sure they are investing their resources in reliable companies that are supervised with the aim of promoting the market and maintaining the same circumstances of the rest of the participants in the financial sector.

Accordingly, in addition to the specific obligations with which each Fintech Company performing the activities mentioned above will have to comply, those companies will have to meet a series of requirements to be able to operate and provide their services to the general public. Likewise, corporations or limited liability companies that have been incorporated or that will be incorporated and whose corporate by laws encompass (i) the usual or professional performance of any activities provided for under the Law and analyzed in this memorandum; (ii) the fact that the corporate domicile is located within Mexico; and (iii) that the relevant company or corporation has the minimum equity required by financial authorities in the general provisions will have to request authorization to operate in the market, for them to be able to perform their activities. Moreover, they must have a minimum operating capital, which might vary depending on the type of activities they perform and on the kind of risks they run.

A committee integrated by two members of Bank of Mexico, two members of the Ministry of the Treasury and Public Credit, and two members of the CNBV will be in charge of awarding authorizations to applicants. All the decisions made by the committee must be reached by majority of votes casted by the members of the committee who have attended the same. In addition, all decisions of the committee must count with a vote in favor of at least one representative of each institution comprised in the committee.

Companies and corporations that are interested in obtaining an authorization to operate must provide the corresponding financial authorities with relevant information on their organizational structure and operation before their clients. Among the list established in the Law, the most relevant information that has to be provided is:

• Corporate by-laws that meet the requirements of the Law and powers of attorney duly notarized corresponding to the legal representative that files the request for authorization.

• The Corporation or company’s business plan.

• Policies concerning operative risk control and informatics security in the technological infrastructure.

• Policies for the spreading of risks and responsibilities derived from transactions executed by the corporation or company. Those policies will have to be clear and simple.

• Security measures to preserve the integrity of information. Those measures must include a policy for information confidentiality, availability, and integrity; and for cybernetic fraud prevention.

• Operational processes for their clients control and identification. Those processes must set forth precise and consistent criteria for client assessment and selection.

• A policy for solving conflict of interest and for preventing frauds and transactions performed with unlawful resources.

• Accession agreement templates by means of which those companies or corporations intend to document the transactions they perform with their clients, in compliance with the provisions of the National Commission for the Protection and Defense of Financial Service Users.

• A list of and information about people who directly or otherwise participate or intend to participate in the equity of the company or corporation requesting the authorization. Said list must include the amount underwritten by each such people, as well as an explanation on the source of the funds with which equity is underwritten.

• A list of and information about the sole administrator or the members of the board of directors, in order to verify they have a satisfactory probity, a satisfactory credit history and a satisfactory business record.

The preceding list is applicable to all Fintech Companies that intend to be authorized, despite their activities in which they will engage. Nevertheless, stating that additional requirements that will have to be met and established under Law exist for each particular activity is important.

A. Fintech Companies Operation

There is a chapter related to the Operation of this type of companies in the Law. Said chapter provides for a series of obligations that must be fulfilled. The most important obligations are:

• Both the CNBV and the Bank of Mexico shall be in charge of establishing limits to the resources companies may keep on behalf of their clients, or to the resources clients may use by means of those companies.

• Companies shall receive and deliver resources through the financial system, unless the CNBV authorizes cash receipt or delivery.

• The Law also sets forth that financial entities may invest in the equity of companies, insofar as the former obtain an authorization to do so, from the corresponding financial authorities.

• Financial entities shall prepare financial statements, which, in turn, shall be examined by an independent external auditor. Said auditor shall comply with the requirements established for auditors by the CNBV and by the Ministry of the Treasury and Public Credit (SHCP, for its initials in Spanish language).

• Corporations may hire third parties to provide services required for them to operate. The CNBV and the Bank of Mexico will establish the services that will require their prior authorization before hiring those services.

• Companies shall maintain a net equity that may never be minor than the amount resulting from the addition of capital requirements per risk type. Minimum operating capitals shall be established in the provisions issued by financial authorities.

• The CNBV shall determine the cases in which companies must have a board of directors and an auditing committee, in view of the number of transactions of clients a given company has, and depending on the business model, brokered assets, or net equity of that company.

B. Innovative Enterprises (Regulatory Sandbox)

The Law provides for a legal concept that originated in England, and which has been adopted in other parts of the world. Such a legal concept is known as the Regulatory Sandbox.

As mentioned in the beginning of this memorandum, the Law intends to regulate technologies that have facilitated accessibility to financial services, and that brake traditional schemes, and whose main component is innovation. Consequently and because authorities are aware of the intention of the Law, they want to leave the door open for new players to enter the market with technological solutions different from the ones described above.

Therefore, all companies that intend to enter the market and to abide by the Law will have to obtain a temporary authorization from the financial authorities. Said authorization will be either granted or denied at the discretion of financial authorities. The effectiveness term of the authorization will depend on the nature of the services the relevant company intends to provide, but it must never be longer than two years.

Throughout the temporary term the company intending to operate in the market has been given, said company must process a final authorization, for said company to be able to continue providing its services in the usual manner.

It is important that once this type of companies get temporary authorization, they prepare and deliver the financial authorities with reports in the periodicity and within the terms so indicated, in order to inform them about (i) the number of transactions performed during the term; (ii) the number of clients; (iii) any risk situations that had arose during the term; and (iv) any information the financial authorities have required them to provide.

C. Administrative Penalties

As set forth in legislation applicable to other financial institutions, the regulation related to penalties is decidedly strict and vast; that is to say, an extensive catalog of both administrative and criminal penalties is comprised, which catalog must be considered by all participants in the sector.

D. Temporary Provisions

The law incorporates a number of temporary provisions that set down the terms during which financial authorities will have to enact accessory legislation to supplement the Law, which accessory legislation will have to be observed by all Fintech Companies. In addition, within temporary provisions, it is set forth that all Fintech Companies performing any of the activities governed under the Law will have a maximum six-month term from the enforcement of general provisions issued by the CNBV to request relevant authorization. While Fintech Companies get CNBV’s authorization, said companies will have to publish on their web pages that authorization required for them to conduct such an activity is being processed, and that their activities are not supervised by Mexican authorities.

In the event the authorization mentioned above be not requested, Fintech Companies must refrain from performing activities and may only perform activities aiming at concluding or transferring transactions governed under Law; in which case they must so notify their clients.

V. Contact Information

To receive more information in connection to the subject matter of this memorandum, please contact any of the following members of BGBG:

Miguel Gallardo Guerra
mgallardo@bgbg.mx

Juan Carlos Tejado Bárcena
jtejado@bgbg.mx

David Durán Molina
dduran@bgbg.mx