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How Open Banking Can Benefit Small Businesses

Open Banking

It’s quite possible there will be significant incoming changes in the way customers and businesses participate in the banking ecosystem.

With the emergence of artificial intelligence (AI) in financial technology (FinTech), businesses can improve their financial management systems. Technological advancements make banking and completing financial transactions simpler, allowing business owners to focus on their other responsibilities and operations.

Open Banking Can Benefit Small Businesses

The concept of open banking may be foreign to the average consumer. But in the financial world, it is and will continue to be a trending topic. Both small business owners and leaders of large global corporations can benefit by adopting an open banking business strategy.

It’s crucial to stay on top of this growing trend to make educated financial decisions moving forward.

So, what is open banking? Although the term is fairly straightforward, the concept is nuanced and comes with its complexities. Exploring the ins and outs of open banking will create more opportunities for business owners to make smarter spending decisions and financial moves.

What is Open Banking?

Despite recent developments with open banking, the first open banking trials were performed back in the ‘80s. The German federal post office, also known as Bundespost, created a screen text bank service and ran a test with about 2,000 participants. Online transfers were simple, with parties able to click a few buttons and complete the transaction.

This new technology failed to take hold — but it’s now marked as the beginning of the open banking concept.

About a decade later, a self-service banking interface was introduced in 1998. It was referred to as the Home Banking Computer Interface (HBCI) and had the goal of creating a stronger connection between banks and customers.

In 2004, screen scraping, which is essentially accessing account information, was the development that followed HBCI. It was then possible for customers to grant service providers access to their banking information. From there, service providers completed the requested transactions.

At this point, European legislators came forward with the Payment Services Directive (PSD), which regulated this new form of payment. It was made law in 2007, and a revised version, commonly referred to as PSD2, was drafted in 2013.

This revised regulation helped clearly define the concept of open banking in Europe. There were three goals of this legislation:

  • Ensure customer protection
  • Promote innovation in open banking
  • Enhance the security of payment services

With regulation in place, more advancements could be made to further the use of open banking, not only in Europe but across the globe.

The Current State of Open Banking

PSD2 created a basis for other countries to refer to when it comes to electronic payment legislation. Banks in the U.K. are required to partner with authorized third-party providers (TPPs) to make the customer experience more efficient.

TPPs use Application Programming Interfaces (APIs) when providing service to their customers. APIs are advanced software that communicates data to and from the TPP, allowing them to complete transactions using a consumer’s banking information. APIs play a crucial role in the efficiency of open banking — without them, open banking would not be possible.

APIs are also contributors to the Internet of Things (IoT), making it a hot topic in the financial industry.

Finance management applications like Intuit Mint and Personal Capital are available to consumers widely now. These useful tools create a 360° picture of someone’s finances, allowing them to make educated spending decisions and easily manage their money. Multiple financial accounts can be accessed using these apps, which provides consumers with a holistic experience.

To the average consumer, open banking may seem confusing or too overwhelming to understand. It’s easier to understand open banking when put side-by-side with traditional banking processes.

Traditional Banking vs. Open Banking

Banks typically operate within a closed data model, where sensitive customer information is kept secure and private. The bank has sole ownership over the data and are in complete control. Banks manage the flow of money between their customers and businesses.

In general, the banking industry is made up of many different types of banks — like credit unions or commercial banks — and all banking activity is highly regulated. Governments exercise control over banks to ensure they follow the proper guidelines, and some countries have public or private agencies that also work to regulate their banks.

Think of the relationship between customers and traditional banks as a closed circle — customers make deposits, withdraw money, and access their accounts strictly through their institutions. Open banking operates differently, where customers are able to agree to terms and conditions with a third party to allow them access to their financial data.

There is some controversy over the two different ways of banking. Some feel that traditional banks are so ingrained in society that it’s not worth making such monumental shifts. Others feel that open banking leaves customers vulnerable to identity theft, hacking, and ultimately losing access to their finances.

Open Banking for Small Businesses

Any changes to an industry come with resistance, but one major benefit of open banking is the customer experience. Banks want to serve their customers well, and many believe that by opening up their models to work with TPPs, customers will notice positive improvements in the way they manage their finances.

It’s no secret that small and medium businesses (SMBs) require top-notch customer service, and that includes allowing customers to pay for products and services effortlessly.

When a small business owner manages their finances, here are some things they must do in order to stay afloat:

  • Track their business performance
  • Ensure there is enough cash to manage expenses
  • Make educated spending decisions
  • Keep detailed records
  • Simplify the tax payment process

Managing an SMB is no easy task, but having the right financial tools to achieve or maintain financial health is always a goal of a business owner. SMBs must be willing to adopt innovative technology to improve their return on investment (ROI) and keep customers happy.

It’s common for small businesses to use external services to manage their finances. Various financial services are available for SMBs, like accounting, consulting, and loan management.

Running an SMB requires more than just showing up and selling products to a customer. 

Understanding the difference between traditional and open banking helps SMB owners decide if open banking is the right choice for their business.

Benefits of Open Banking for SMBs

There are benefits for individual consumers and SMBs when they choose to utilize an open banking system. Individuals have greater access to the data they need, when they need it. Here are some of the benefits SMBs will reap if they choose to use open banking as opposed to traditional banking.

1. Easier Access to Loans

In 2019, big banks approved only 27.9% of small business loans. It’s less common nowadays for SMBs to receive the money they need to improve their operations and flourish. Through open banking, lenders are able to review an SMB’s books and determine their eligibility to receive loans.

Rather than submitting financial statements and other necessary documents manually, open banking allows lenders to find the data they need. This saves business owners and lending institutions both time and effort.

2. Simpler Business Processes

As mentioned earlier, it’s challenging to stay on top of SMB finances. Owners must focus on accounting, managing payroll, and auditing, to name a few examples. Open banking allows financial institutions that have access to an SMB’s financial data to manage these processes more easily.

When SMB owners delegate these responsibilities to an outside party, they can spend more time working with their employees, serving customers face-to-face, focusing on marketing efforts, and improving their products or services. It allows increased productivity in the areas that matter most.

3. Automation of Manual Tasks

In order to shift to digital automation of tasks, data needs to be accessible. When that data is available to financial service providers, integrated systems are able to work more efficiently.  Some business owners see automation as risky at first, but it’s considered a worthwhile investment because of the long-term cost-effectiveness.

The world is digitizing rapidly. To keep up with the changes, it’s crucial for SMBs to stay ahead of their competitors and consider using an open banking approach for their financial endeavors.

Privacy and Open Banking

Due to the sensitive nature of banking, it’s crucial that the security of consumer information is regarded with utmost importance. As financial institutions open up their accessibility, it’s no surprise that online security concerns are a topic of conversation. However, it’s worth noting that open banking does not increase consumer risk on its own.

Although leaked data is always concerning, it’s certainly in the realm of possibility for financial institutions and TPPs to find new ways to reduce the risk of cybersecurity breaches. Already, under PSD2, it’s required that all parties take measures to protect consumers so they can contribute to a thriving open banking ecosystem.

TPPs and banks alike must take appropriate measures to ensure their customers are protected from losing their assets. In addition, it’s essential to provide educational resources to consumers who are interested in participating in open banking. Transparency is key.

Managing Business Finances With Open Banking

The old saying goes, “If it ain’t broke, don’t fix it.” This may or may not ring true for the banking industry right now. However, think about the popularity of cryptocurrency and decentralized financial (DeFi) systems.

It’s slowly becoming a thing of the past that the only way to handle or transfer money is through one bank or the branches they maintain. Innovation in technology is allowing for seamless money transfers, secure online payments, and automation of business processes.

Although traditional banking methods are not entirely antiquated, disregarding the importance of FinTech would be a mistake.

Improving the customer experience by opening up access to data is at the heart of open banking, and it may be the way of banking in the future. Open banking may not totally replace traditional banking, but there’s a strong chance that these advancements will lead to a stronger, more connected banking system.


Devin Partida

Author at Due
Devin Partida grew up in the San Francisco Bay Area, where the booming tech and startup scene nurtured her curiosity. Always an avid writer in her younger years, Devin began covering the tech industry for ReHack in 2019, and has since become the young brand’s Editor-in-Chief. When she isn’t writing, Devin enjoys biking around the Golden Gate Bridge, eating hand-crafted ice creams and listening to true crime podcasts.

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