Wallets: Powering new-age payments (#49)
New regulations, smoother KYCs, and a shift of credit-line products to prepaid instruments underline the popularity
Welcome to the 49th issue of Unit Economics. For today’s write-up, I share thoughts on the growing prominence of the prepaid payment instruments in the industry. Dive in!
The public perception of a prepaid payment instrument (PPI), or a wallet, is different from its common fintech industry parlance.
For consumers, the understanding of a PPI is restricted to a form of digital wallet that requires an informed pre-loading from your bank account, and that can only be accessed through your mobile. This is what the likes of Paytm, Ola, and Amazon have popularised rather successfully.
For those more immersed in the industry, that mobile-based digital wallet only forms a subset of prepaid instruments. Instead, the definition of PPIs is broader and encompasses any “instruments that facilitate purchase of goods and services, financial services, remittance facilities, etc., against the value stored therein”. This definition does away with the consumer-assumed restrictions (1) of allowing funding of the wallet only through personal balances and (2) of depending on a mobile app for all transactions.
To understand the scope of PPIs better, it makes sense to go one step further and look at the forms in which they exist today.
Closed-system PPIs: These PPIs are issued by an entity for facilitating the purchase of goods and services from that entity only, and do not permit cash withdrawal. A common use case for such PPIs is gift cards, issued popularly by Amazon, Flipkart, Sodexo, and the likes. These are often not reloadable, and are used mostly for one-time purchases.
Small-PPIs: These PPIs can be issued after completing the minimum-KYC of the PPI holder (OTP validation and a KYC valid document check) and have strict limitations on monthly and yearly loadings of INR 10,000, and INR 1,20,000 respectively. While these do allow loading / reloading through multiple payment sources, funds transfer for personal use and cash withdrawal from such PPIs is not allowed.
Full-KYC PPIs: These PPIs can be used for the purchase of goods and services, funds transfer, or cash withdrawal – but mandate an elaborate customer due diligence as per the KYC Directions. Once issued, these PPIs do not have any limits prescribed for monthly credits or debits (although outstanding at any point is limited to INR 2 Lakhs) and are reloadable by regulation.
PPIs for Mass Transit Systems (PPI-MTS): These refer to PPIs issued specifically by the Mass Transit System operators, and restrict usage to any activities within the transit premises only – including for automated fare collection, purchases at merchant outlets, etc. The regulations limit the maximum outstanding for the cards to INR 3,000 and do away with any additional factor of authentication for transactions. So anytime you are tapping your card at the Metro or for Bus, you are likely using a mass-transit PPI. The likes of NPCI, and Paytm have innovated in the PPI-MTS segment by introducing cards that can be used at multiple transit systems at once.
Digital wallets, gift cards, and transit cards cover a spectrum of use cases from high utility to luxury purchases, and form factors that range from in-app wallets to physical cards. These cards can run over a closed transit or merchant network, or across millions of POS machines through card networks. No other form of payment method offers this range of diversity.
But you would notice that this is not new. These PPIs have existed for well over a decade. We also know that they have struggled for mindshare in the post-UPI world.
Then, what has changed?
Some of us may have been puzzled by the acquisitions & investments from CRED, DMI finance in relatively unusual entities (Hipbar, Oxymoney). We now know that these were made popularly to get business access to PPI licenses.
But why is the stock of PPI licenses up? Over the last couple of years, the developments across regulations, technology, and business models have all been positive for the PPIs. Let me elaborate on how this may have happened.
Interoperability with UPI and Card networks
Last year, RBI introduced a host of changes to the PPI Master Directions, popularly (1) increasing the limit for outstanding wallet balance from INR 1 lakh to INR 2 lakh, (2) allowing cash withdrawals from full-KYC non-bank wallets, and (3) making interoperability mandatory for all full-KYCed PPIs.
The increase in outstanding limit in-effect doubles the per-transaction limit for a wallet-based transaction. This directly widens the P2P or B2B use cases for wallets, as the two use cases traditionally see transactions of higher ticket size. The second guideline further empowers the non-banking entities to make their PPI offerings, especially prepaid cards, act like Debit / ATM cards – strengthening the value proposition of these products and matching them with those offered by banks. Although the withdrawal limits stay quite restrictive on the prepaid cards.
Lastly, the interoperability mandate provides a large promise to PPIs by allowing the wallets to be used in conjunction with other payment systems, especially UPI. In simpler terms, interoperability of the systems would allow you to scan a QR, and pay through a wallet as you would through your bank account over the UPI network – allowing the balances in your virtual wallets to be used across the existing 25 Mn+ merchant network.
For a PPI issuer, this would no-doubt improve engagement on the full-KYC PPIs they issue. But importantly, this would also allow them to earn higher income through the interchange. The interchange would be a direct benefit for the PPI issuers when compared to the no-MDR for TPAP/PSPs that primarily depend on bank-linked transfers over UPI. Although there is still a lack of clarity on what this interchange would end up being, this source of revenue is likely a big cause for interest in PPI licenses.
The interoperability of payment systems, once in action (likely to take three more months), would be a big win for both PPI and UPI networks, as this would expand the user-base for merchants, and offer flexibility in sending money for consumers.
Lower friction in KYC
The optimism for PPIs is also drawn from the improvements in technology and regulations for performing the KYC of users.
The ecosystem, today, allows regulated entities (REs) to perform liveness checks as part of customer identification procedure (CIP) natively on friendly app screens, and in real-time through third-party SDKs. Multiple vendors in the ecosystem have built sophisticated AI/ML models for performing these checks accurately – providing confidence to the regulators to accept such checks as valid.
Further, the live agent interaction over a Video Call for full-KYC has evolved into a relatively simpler plug-and-play solution that a RE or fintech may to issue a full-KYC compliant PPI. However, the agent hiring and the auditor checks continue to remain manual and time-consuming processes.
Lastly, the Master Directions on KYC have introduced clauses to make the KYC process more seamless by allowing REs to leverage the previously completed KYC of the user through either a RE-to-RE agreement with another regulated entity or by leveraging the documents uploaded on the central KYC registry (CERSAI) through C-KYC. Both processes do away the requirement for the user to upload new KYC documents through file upload or Aadhar XML sharing.
Credit moving to Wallets
The third trend, and one that nudged me to write on the topic, is a migration towards PPIs for issuing credit-line products. While the graphs would separate UPI, BNPL, and wallets as payment methods for the layman, in reality - PPIs are increasingly acting as a layer below other popular payment methods and operating in parallel.
Uni and Slice, for example, appear as credit cards to most, but instead are prepaid cards that issue a virtual wallet at the backend on completing a user’s KYC – and it is these individual virtual wallet accounts where the approved user-level credit balance is held for authorising any transactions over the Visa network.
The amount, pooled across users, may be kept within a bank account but the difference, as you would notice, versus the regular debit or credit cards is that these virtual wallets are not necessarily linked to an actual bank account or issued by a bank.
To add to why the trend offers more promise, the RBI last year further mandated that to allow a credit line to be used over the UPI network, the credit must be backed with a virtual wallet, and thus – a PPI is required to act as a Payment Service Provider (PSP) for allowing credit-over-UPI.
Over the next few years, as the industry continues to roll out such credit-backed cards and UPI products over PPIs – the onus and the promise on those closely working in the space becomes high.
What can we expect next for PPIs?
To wrap up with a few thoughts on the subject, here are some hypotheses on PPIs for the next couple of years:
The interchange is expected to be rationalized and regulated soon for PPIs, especially for transactions over UPI and cards. This will likely have a large influence on the competition that the PPI issuer market would see, and on whether MDR on UPI is rolled back for direct-bank transfers. A healthy interchange on UPI payments over PPI would make the case strong for fintech companies and banks to push the usage of PPIs when interoperable.
The market for PPI issuers and their tech service providers is presently dominated by a small set of teams, and the quality of technology of these issuers would not – I believe – scare many entrants. This makes the segment ripe for the entry of bold new teams that can offer high-quality APIs and agility in client engagements. However, the headstart for the few PPI issuers today is a moat for them due to the compliance lead time that goes into reaching this stage. Some new entrants may then resort or buy instead of build, and for good reasons.
The technology for KYC services is expected to further mature over time, which would reduce friction in full-KYC PPI issuance. Importantly, the higher coverage of C-KYCs and the increase in RE-to-RE sharing agreements is already happening at good speed across the industry, and would soon become the standard for onboardings.
The credit-line products over PPIs would continue as the PPI model allows greater flexibility in the fund-flow and business models for the fintech, introducing the possibility of offering more differentiated product. Further, the time to go-to-market is lower for prepaid cards than for the usual debit or credit cards – which, as most of the points above, pushes the decision in favour of PPIs for those that want to move quickly and early.
Due to these, and a few other, reasons – there should be little doubt on why the industry is bullish on the PPIs. Over the next few years, as the competition for issuers heightens – the fintech players with bigger pockets would want to own a license of their own, as has happened for the NBFCs. And at the end of the intense cycle, there are likely to be a handful of winners among the PPI license holders and this might very-well define how some other industries in fintech, especially lending, may shape up.
If you have any views or feedback to share on the topic, feel free to add a response below or to share your thoughts with me over Linkedin. In case you feel your friends or family would be interested in reading about payments, feel free to share the blog with them as well. See you in a couple of weeks!
Amazing work. Thanks for this!
Any insights into how credit risk is managed by Uni or Slice? And If they are PPIs, do they need to be funded first before use?