Embedded finance is financial services on the customer’s terms, from anywhere and at any time. They no longer need to visit their bank to get access to their money. In some cases, embedded finance (and more specifically embedded banking) eliminates the traditional
bank entirely. Some companies are stepping in to provide banking and financial services, even if financial services do not traditionally fall under their umbrella. So what is embedded finance, and how does it work?
What Is Embedded Finance?
Embedded finance, also called embedded banking, refers to the seamless joining of traditional financial services, such as payment processing, with another service. It is the integration of a financial service into a non-financial app or website. When a customer
pays for a ride-share at the end of the ride directly in the ride-share company’s app, they are using embedded banking. They do not need to fumble with cash or hand their payment card to the driver. In fact, they don’t even need to say a word to the driver
at all. They can simply exit the vehicle and finish up the transaction on their phone.
How Embedded Finance Works
The simplest way to describe how embedded finance works is to say that it integrates a financial service into a non-financial program. Traditionally, financial services fall into one of three categories:
- The transfer of value in space: This category includes payment processing and traditional bank products such as savings and checking accounts.
- The transfer of value in time: This category includes investments as well as loans and other forms of financing.
- Managing risk: This category includes insurance and other products that provide some layer of protection against risks.
Each of the three categories can be integrated into a non-financial program, delivered over a network. What sets embedded finance apart from other types of integration, such as vertical integration, is that it allows for a cross-industry integration. For
example, a vertically integrated company often owns its own supply chain or manufactures its products and sells them through branded retail outlets.
Embedded banking is different. It works by integrating a financial services company into the product offering of a non-financial services company. Digital wallets are an example. To use a digital wallet, a person stores their payment card information in
the app. The credit or debit cards are issued by a traditional bank. From there, a user can use the app to make purchases at brick-and-mortar stores or to make seamless purchases online or in the app store. They can also send money to other users of the app
without having to type in their bank account or credit card information each time.
Digital wallets like Apple Pay and its competitor, Google Pay, are two examples of banking disruptors in the transfer of value in space category. There are more examples in the transfer of value in time and managing risk categories:
- Buy now, pay later (BNPL) programs: If you have done any online shopping recently, you might have noticed that many stores have begun to offer the option of buying today and paying over time. Buy now, pay later programs are an example of
embedded financing in the transfer of value in time category. When a shopper chooses a BNPL option instead of using their credit or debit card, they seamlessly take out a loan to cover the cost of their purchase. Some BNPL programs do not require a credit
check, and consumers can choose to use the program instantly when they check out. Each program has its own distinct features, such as dividing the purchase price into four even payments, or letting shoppers choose the length of the loan.
- Integrated banking services: Other financial services providers can branch out into more traditional banking services. For example, when Credit Karma launched, it provided people with access to their credit scores, for free, in exchange
for pitching them products and services. The website has now embraced embedded banking and launched its own savings account. The savings account feature integrates seamlessly with the rest of Credit Karma, allowing a person to monitor their credit health while
saving for the future, using the same log-in.
- QR code purchases: WeChat is a text messaging app that is popular in China. In addition to allowing users to communicate with each other easily, the app has introduced seamless payment features. One of those features allows users to scan
a QR code to pay for a product or service automatically. In the U.S., the mobile payment service Venmo has a similar feature, allowing people to scan a QR code to find other users and send payments quickly.
- Rideshare insurance: People who drive for rideshare companies need additional insurance beyond their personal auto coverage during the times when they are actively driving for the company. To help bridge that gap, Uber offers insurance
coverage that provides varying levels of protection while a person is driving for them. The coverage is different based on whether a driver currently has a passenger or is on en-route to pick up someone.
Embedded Finance Benefits
Embedded banking offers benefits to traditional financial services companies, fintechs, and consumers who use the products. One notable benefit is the creation of a seamless experience. The less friction there is during a transaction, the more likely the
consumer is to complete it. For example, shoppers occasionally abandon their carts when they are shopping online because they have not saved their payment information, and their credit or debit card might be in a wallet in another room. If the payment information
is available through the app, or if they can choose an option such as BNPL, they are more likely to follow through with the purchase.
Embedded Finance Opportunities
Beyond the futurist banking services already available today, numerous opportunities exist for companies interested in embedded banking.
Several factors are driving the growth of embedded finance, such as:
- A change in consumer behavior: People shop differently today than they did a few years ago. Many people make purchases online and through non-traditional platforms, such as social media. Embedded payment programs can streamline and ease this shift from
in-person, brick-and-mortar shopping to digital shopping.
- An embrace of banking disruptors: A few years ago, it would have seemed strange to open a bank account with an e-commerce company or to use an app for every financial transaction. These days, banking disruptors or neobanks have become the norm for some
- A sharing mindset: Although there is still the risk of data breaches and security concerns, people seem more willing to share their personal information, including bank account and financial information, with third-parties.
As embedded banking presents a growth opportunity, some industries seem particularly well-suited for it:
- Agriculture: Agriculture will need to grow and expand over the next few decades to provide enough food for everyone on the planet. Embedded finance programs that manage or minimize risk for farmers and agricultural companies can provide an opportunity for
growth and a better understanding of what is needed to feed the world.
- Education: Student debt levels are high in the U.S. and around the world, with many leaving undergraduate degree programs deep in debt. Futurist banking for student loans could take into account a student’s income potential when they finish a degree program,
helping them avoid borrowing more than they can comfortably afford to repay.
- Health: In the U.S. in particular, healthcare coverage and costs are a perennial concern. There is an opportunity for embedded financial services in the private health insurance market, as well as in the area of preventive medicine. Transparent pricing
and multiple payment options can encourage people to get the help they need, and diagnosing and treating conditions early can save consumers and the healthcare industry a considerable amount of money.
- Real estate: Real estate offers several opportunities for embedded fintech. There are new ways of thinking about homeowners insurance, creating a seamless, more affordable experience for people who own property. There is also opportunity for disruption
in the mortgage market with embedded lending.
- Transportation: The way people get around is going to change in the coming years, particularly as driverless cars move from being the stuff of futuristic movies to the stuff of everyday life. There will be opportunities for embedded financial services such
as car insurance programs that adjust their premiums based on a driver’s measured and tracked habits or based on whether a real person is behind the wheel or not. Embedded fintech can also create a seamless auto financing experience at the dealership.
- Urban planning: What does the city of the future look like? Seamless and friction-free, ideally. Embedded finance can make banking easier for consumers by centralizing their financial details. Embedded systems in banking can also make it easier for municipal
governments to collect taxes and issue and collect fines or tickets.
Is Embedded Banking the Future?
Embedded banking is likely to be the future of banking and finance. More and more fintech companies and traditional banks themselves are embracing it. There are several reasons why embedded finance is here to stay and will evolve and grow over time.
1. Embedded Banking Solves Problems
Embedded finance helps companies solve problems easily. For example, Uber partnered with a debit card company to offer its drivers prepaid cards. The partnership made it easier for Uber to pay drivers frequently and without high fees. It also allowed people
who were unbanked or without access to a traditional bank account to get instant payments from the company, without the need for paper checks or visiting a check-cashing business.
2. Embedded Banking Is Sticky
Traditionally, banks had an advantage when it came to upselling to their customers. To use a bank’s services, people typically needed to visit a branch in person. Once there, they could learn more about loans and other products the bank offered. As online
and mobile banking has become more commonplace, traditional banks are losing some of that stickiness. Instead, it’s transferred to fintech companies. A company that has access to a consumer’s financial information, such as their credit history or bank account
details, can recommend appropriate products to them, increasing the likelihood of a successful upsell.
3. Embedded Banking Makes Financial Sense
For many fintechs, embedded banking makes good financial sense and creates new financial opportunities. For example, Square got its start as a payment processor, offering smaller businesses an affordable way to accept credit cards.
It soon evolved into a point-of-sale company, customer relationship manager, and inventory management services provider. Introducing multiple revenue streams allowed the company to grow and thrive. Since it no longer has to depend on transaction fees as
its sole source of revenue, it has been able to branch out into other areas, such as business lending.
4. Embedded Banking Can Bridge Gaps
In the future, embedded banking can bridge gaps or fill in areas where there is consumer need. A savvy fintech company can analyze consumer behavior and use patterns to find opportunities. It can then move into those openings, providing people with the tools
they need to succeed financially.
5. Embedded Banking Is All About Context
The future of the financial services industry is likely to be more holistic than the present model, which could mean that context will matter more than anything. Part of the embedded banking experience in the future might involve having people examine their
reasons for making a financial decision or providing them with a clear idea of what will happen if they make one choice instead of another.
For example, an embedded credit card might in the future tap into a person’s credit history to get a sense of their spending habits and overall debt levels. From there, it might recommend using the card or not for specific purchases. The system would help
consumers maintain or improve their credit; this would be a step up from the current system of punishing users who get in over their heads when it comes to debt and credit.
Embedded Finance Challenges
Although embedded finance is likely to have a bright future ahead of it, there are some challenges and concerns that remain. One potential issue is a lack of widespread adoption by traditional banks. Financial service companies that wish to stay relevant
and keep their edge are encouraged to find ways to reduce friction in the consumer experience and embrace embedded technology as much as possible.