Beyond Traditional Transactions: Embracing the SEPA Instant Payments Era

It is widely recognised that regulation often serves as the catalyst for market adoption. The European Commission's (EC) 2020 EU Retail Payments Strategy emphasised the need for an EU-wide instant payments scheme, with the goal of making instant payments the new standard as one of the strategy's foundational components. However, the scheme has so far experienced a slow rollout and lower-than-expected adoption rates. 

For many credit institutions, payments are now perceived as a commodity. Contemporary back-office systems are typically designed for batch transaction processing, which cannot accommodate the real-time capabilities of instant payments. Managing this change is costly, and with an increasing number of mandatory adjustments on the horizon, not everyone is prepared to undertake such a transformation exercise. This has resulted in an uneven playing field, with some institutions charging for instant payments as a 'special service' for their entire customer base or a portion of it, in an attempt to recoup some of the service costs.

Simultaneously, the expectation of speed and instant delivery is now prevalent in our society. In the early days of Amazon, the wonder was that your order arrived at your doorstep within a week; nowadays, we become frustrated if a delivery is an hour late. In the financial world, consumers expect their money to move instantly, without having to pay extra for the privilege.

It comes as no surprise that the EC's statistics reveal that communities not charging extra for SEPA Instant have a higher adoption rate than those that do. We have also seen from examples like the UK's 'Faster Payments', a first-generation real-time payments system, that regulatory mandates are truly the only definitive way to ensure full adoption. Although the regulation only mandates credit institutions, other financial institutions have been somewhat ahead of the curve for SEPA Instant and are likely to follow the regulation to maintain their market share. Mandating the adoption of SEPA Instant will affect not only existing SEPA Instant providers, but also those taking the first steps to offer instant payments as a new service.

In the SEPA Area, most, if not all, larger credit institutions already support SEPA Instant in some capacity. Even as existing members of the scheme, these institutions will need to adjust their processes and back-office systems. They will have to perform sanction screening swiftly, and plan for potential 'overlays' or value-added services to compensate for any short-term loss of fees. The mandate effectively commoditises instant payments, making it difficult to extract value from the service alone.

For those who have not yet embraced instant payments, they face the same back-office challenges mentioned earlier, plus the need to accommodate a pre-funded system in their net or gross settlement-based treasury processes. They may also consider how they wish to participate: does their customer base warrant direct participation, or are there other ways to fulfil the mandate's requirements more appropriately? This could involve the classic indirect setup or a more unique model like Direct Non-settling Participation (DNSP), a technical setup also provided by Form3.

As with many other financial advances, technology-focused regulated financial institutions and neo banks have been at the forefront. With the incoming changes in SEPA Instant, they will now see fast followers and a levelling playing field. Speed will no longer be the distinguishing factor for these early adopters, and value-added services such as request-to-pay, instant cross-border payments, and fraud tools will drive future customer adoption.

The necessity of performing daily screening on account lists and IBAN name checks poses a few questions. Screening accounts rather than transactions works well in theory, especially with instant schemes, as it reduces the impact on processing speed. However, it requires absolute trust in all parties, ensuring that the screening done is of equal quality throughout the entire payment flow. It is likely that, for now, both screening on account lists and on transactions will need to occur. While some providers can offer this service and screen at acceptable speeds and quality, not all providers can do so. Innovation in this area is a key focus for all and is likely to be where we see the most significant changes.

In the SEPA area, the use of Request to Pay has been debated for quite some time without much success. In markets like the UK (and some local initiatives in the EU), Confirmation of Payee has been implemented, only really gaining traction recently after being mandated. Although these solutions help combat fraud to some extent, we still see other types of fraud on the rise in mature markets. Authorised Push Payment (APP) fraud is just one example, and even though CoP helps, fraudsters continue to find new ways to stay ahead. It will be intriguing to see how the discussion in the SEPA area evolves; will we adopt a European CoP or implement R2P? Will we consider the lessons learned from those markets that are ahead of us?

In my opinion, some level of standardisation is essential, but it would be best to allow enough flexibility for providers to innovate and find optimal solutions to this issue. Imposing strict mandates may only limit innovation and negatively impact user experience.

Existing SEPA Instant providers should view the new regulation as an opportunity to review their back-office capabilities and drive efficiency. In my opinion, such analysis will likely lead to more outsourcing of commoditised processes. Those wanting to handle the payments themselves are looking at a substantial overhaul. Legacy on-premises infrastructure and multi-layered back-office processes are ill-equipped to handle increased SEPA Instant volumes at speed or scale over time. Transitioning to a cloud-native infrastructure, in our view, is crucial and will play a significant role in significantly reducing the cost and risk of any transformation programme.

The EC ECON committee has appointed a rapporteur, and the feedback period closed on 5th December 2022. The proposed regulation is currently with the Council and is undergoing discussions within its preparatory bodies. Although the finalisation date remains unknown, things appear to be progressing quickly. Once the regulation is passed, financial institutions will have six months to be ready to receive SEPA Instant payments, and another six months to send SEPA Instant payments. This timeline likely brings us to the end of 2024 at the earliest for both implementations. Banks and PSPs should assess the impact on profits and strategy, considering the increased competition and effects on price. Therefore, banks should not delay in mapping out their capacities. This is even more pressing given the tight compliance timelines and the amount of work required in some EU markets.

Depending on the market and segment you serve, you will want to stay ahead of the curve by acting early. The expectation surrounding instant payments among consumers and businesses will undoubtedly grow and be expected to be fully available with little to no extra costs.

Minimising the number of integration points should be considered; in many cases, routing and cost optimisations can be achieved by processing through a regional clearing rather than integrating with multiple local clearings, despite the difference in transaction costs.

We also recommend that you explore solutions that allow you to reuse your back office as much as possible and use the available time to focus on existing pain points, such as the challenges associated with continuous liquidity management for a pre-funded system and executing payment validations at higher speeds.

The mandating of SEPA Instant will ensure uptake across the market and make Instant the new normal. The regulation has far-reaching implications and the changes outlined will impact both existing SEPA Instant providers and newcomers alike. With the shift to instant payments comes the need for instant screening, which is an area where we are likely to see the most initial change and innovation. When planning your SEPA Instant strategy, consider outsourcing and minimising integration points for processing payments, as these may be the keys to efficiency and risk reduction. With constant change and significant technical debt accumulating, payments are evolving beyond recognition. Considering new solutions, whether it be in system access or a cloud infrastructure strategy, must be part of the continuous improvement mindset needed for success.

If done correctly, and the market can build trust and solve the new type of screening in one of the most complex payments markets out there, SEPA could become an example of what the next generation of instant payments could look like.