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The Regulatory Regime for Digital Payment Business in India

calendar10 Jul, 2023
timeReading Time: 12 Minutes
Digital Payment Business

India has witnessed significant progress in digital payments in the recent past. Apart from credit/debit card transactions, digital payments encompass various payment methods that can be made through mobile phones, computers, point-of-sale devices, and other channels. While the digital payments market in India is rapidly growing, it has various risks, including cyber and operational risks. Therefore, the regulatory regime for digital payment Business in India significantly ensures that transactions are secure, efficient, and transparent.

Page Contents

What is the Digital Payment Business in India?

The Digital Payment Business in India is an emerging sector that has witnessed tremendous growth in the last few years. The surge in digitization and the increasing adoption of smartphones and digital platforms have propelled the growth of digital payments in India. With a community of more than 1.4 billion residents, India presents a lucrative opportunity for digital payment companies to tap into a vast market of potential customers.

The adoption of digital payments has been aided by different kinds of initiatives undertaken by the government of India, such as demonetization in 2016 and the launch of the Unified Payment Interface (UPI) in 2016. The UPI has been a game-changer in the digital payment industry, allowing users to transfer money instantly between bank accounts using a mobile number or a Virtual Payment Address (VPA).

The Digital Payment Business in India encompasses several payment modes, such as mobile wallets, payment banks, UPI, cards, and net banking. Mobile wallets such as Paytm, PhonePe, and Google Pay have become popular in India, with people using them to pay bills, book tickets, and make online purchases. Payment banks, such as Airtel Payments Bank and Paytm Payments Bank, provide banking services, including deposits, withdrawals, and money transfers.

Significant players, such as Paytm, PhonePe, and Google Pay, dominate the digital payment industry in India. Paytm, founded in 2010, is the market leader in the mobile wallet space, with over 450 million registered users. PhonePe, launched in 2016, has over 280 million registered users and has snowballed to become the second-largest player in the market. Google Pay, launched in 2018, has over 100 million monthly active users in India.

The Digital Payment Business in India has seen a surge in the number of transactions in recent years, with the volume of digital transactions increasing by over 40% in 2019-20. While the COVID-19 pandemic had initially led to a dip in digital payment transactions, the adoption of digital payment modes has seen an uptick since then, with people increasingly using them to make payments and avoid physical contact.

The growth in the Digital Payment Business in India has attracted several domestic and international players to the industry. Companies like Amazon and WhatsApp have entered the Indian market with their digital payment offerings, Amazon Pay and WhatsApp Pay. The entry of these players is expected to intensify competition in the market, resulting in better services and offerings.

While the Digital Payment Business in India presents a significant opportunity for growth, some challenges need to be addressed. One critical challenge is increasing the adoption of digital payments among the unbanked population in rural areas. There is also a need for increased security and reliability of digital payment platforms to build trust among users.

Overall, the Digital Payments Business in India is a dynamic and rapidly growing sector that presents a significant opportunity for both existing and new players in the market. With initiatives by the government and the increasing adoption of digitization, the industry is poised for continued growth in the future.

What is the Regulatory Regime?

The regulatory regime refers to the system of laws, rules, and guidelines established by government bodies to ensure compliance and accountability in various industries and activities. These regulations protect consumers, promote fair competition, and maintain safety standards while promoting economic growth and development. The regulatory regime covers various industries, from finance and healthcare to energy and transportation. This system involves creating and enforcing rules by The Food & Drug Administration & The Securities and Exchange Commission, and various regulatory agencies. One of the regulatory regime’s goals is to balance interests between the business community and the public.

What is the Regulatory Regime for Digital Payment Business in India?

In India, the digital payment area has witnessed incredible growth over the last few years, driven by the government’s support in promoting digital transactions as an alternative to cash transactions. The increase in digital transactions has led to an increase in the regulatory regime for digital payment businesses in India. This regime aims to govern and regulate the electronic payment space and ensure it aligns with the government’s vision of a cashless economy.

The Reserve Bank of India is India’s primary governing body for digital payments. It regulates India’s payment and settlement systems, including the digital payment industry. The Reserve Bank of India can regulate and supervise all payment systems by the Payment and Settlement Systems Act. The act sets out the regulatory framework for the payment and settlement systems and provides guidelines for licensing and regulating payment system operators.

The regulatory regime for digital payment businesses in India is based on four pillars – Licensing, security and risk management, data confidentiality, and customer protection.

Licensing

Companies must obtain a license from the RBI under the Act Payment and Settlement Systems to operate as a digital payment business in India. The licensing process includes evaluating the company’s business plan, technology infrastructure, and compliance with regulatory requirements. The license is credible for three years and can be renewed if approved.

Security and Risk Management

Security is a critical aspect of digital payments, given the sensitive essence of the data involved. The RBI has issued guidelines for digital payment businesses concerning security measures. Digital payment businesses must implement robust security measures to ensure customer data is assured and protected. It includes data encryption, firewalls, multi-factor authentication, and regular security audits.

Risk management is also an essential aspect of the regulatory regime for digital payment businesses in India. The RBI enforces guidelines to ensure digital payment businesses have appropriate risk management policies and processes to manage risks such as fraud, operational failures, and cyber-attacks.

Data Confidentiality

Data confidentiality is critical to digital payment because customer data is sensitive and can be exploited if leaked. The RBI has issued guidelines for digital payment businesses concerning data privacy and confidentiality. Digital payment businesses must ensure that customer data is stored, collected, and used in compliance with the applicable laws and regulations. They should guarantee sufficient processes to protect customer data against unauthorized access, misuse, and breach.

Customer Protection

Customer protection is an essential element of India’s digital payment regulatory regime. The RBI has issued guidelines to ensure digital payment businesses provide adequate customer service and grievance redressal mechanisms. They should ensure that they have systems in place to address the complaints and grievances of their customers efficiently. Digital payment businesses must also ensure that they follow fair practices concerning pricing, transaction fees, and other charges.

Legal Aspects of the Regulatory Regime for Digital Payment Businesses in India

The regulatory regime for digital payment businesses in India is governed by various regulatory bodies, such as the RBI, the Securities & Exchange Board of India, and the  MeitY, elaborated as the Ministry of Electronics and Information Technology. These regulatory bodies have formulated regulations and guidelines that digital payment businesses must adhere to.

The Reserve Bank of India (RBI)

The Reserve Bank of India (RBI) primarily regulates digital payment businesses in India. It regulates the payment and settlement systems under the Reserve Bank of India Act, enforced in 1934, and the Payment & Settlement Systems Act, enforced in 2007. The RBI has so far issued several guidelines and regulations related to digital payments, including:

Payment and Settlement System Act, 2007

This act provides for the regulation and supervision of payment systems in India. It also empowers the RBI to ensure the safety and efficiency of payment systems.

Payment System Vision 2021

This vision document outlines the RBI’s objectives and strategies for developing and regulating India’s payment and settlement systems.

Guidelines for Electronic Payment Transactions

This guideline provides essential principles for the conduct of electronic payment transactions in India. It contains provisions related to security, risk management, and customer protection.

Guidelines for Interoperability among Prepaid Payment Instruments

This guideline provides interoperability of prepaid payment instruments (PPIs) issued by different issuers. It aims to increase the usage of PPIs and promote financial inclusion.

Guidelines for Payment Gateways and Payment Aggregators

This guideline provides for regulating and supervising Payment Gateway and Payment Aggregators. It mandates their registration with the RBI and adopting certain risk management practices.

SEBI

Apart from the RBI, SEBI also plays a role in regulating digital payment businesses in India. SEBI regulates mobile wallets and other payment businesses such as Payment System Operators (PSOs) and Payment Banks. The guidelines for PSOs and Payment Banks are designed to assure the safety and efficiency of payment systems, enhance competition, and promote financial inclusion.

The Ministry of Electronics and Information Technology

The Ministry of Electronics & Information Technology (MeitY) is another regulatory body that oversees digital payment businesses in India. It has introduced several initiatives to create a conducive environment for the growth and regulation of the digital payments market in India. Some of these initiatives include:

Digital India Programme

The Digital India Programme aims to change India into an electronically empowered society and knowledge economy. It promotes the use of digital infrastructure to deliver various services to citizens.

Digital Payments Mission

The Digital Payments Mission aims to increase the adoption of digital payments in India. It seeks to improve digital payment systems’ ease of access, convenience, and security.

Overall, the regulatory regime for digital payment businesses in India aims to promote the growth and development of the industry while ensuring the safety, security, and efficiency of payment systems. The rules and guidelines issued by the regulatory bodies require digital payment businesses to adhere to specific standards and procedures related to security, risk management, and customer protection. With the increasing adoption of digital payments in India, the regulatory regime is likely to evolve further.

Acts/ Provisions in Nutshell

  Act/ProvisionDescription
Payment and Settlement Systems Act, 2007The act provides for the regulation and supervision of payment systems in India. It also aims to promote the safety and efficiency of payment systems and facilitate the orderly development of the infrastructure.
Reserve Bank of India (RBI) CircularsRBI has issued various circulars related to digital payment businesses, such as guidelines for prepaid payment instruments, electronic wallets, card-based transactions, and mobile banking. These circulars establish the regulatory framework for digital payment businesses in India.
Prevention of Money Laundering Act, 2002The act aims to prevent money laundering and terrorism financing. Digital payment businesses in India must comply with this act’s provisions, which mandate customer due diligence and reporting suspicious transactions to the authorities.
Information Technology Act, 2000The act gives the legal framework for electronic transactions in India. It also lays down guidelines for protecting critical information infrastructure and data privacy. Digital payment businesses in India must comply with this act’s provisions.
Goods and Services Tax (GST) Act, 2017The act mandates the payment of GST on digital transactions. Digital payment businesses in India must comply with the GST provisions and file regular returns with the tax authorities.

What are the Payments Regulations: Understanding the Global State of Play

The payments industry has significantly transformed in recent years with the rise of innovative technologies and changing consumer preferences. From mobile payments to e-wallets, the payments ecosystem has expanded beyond traditional payment methods. As a result, regulatory authorities across the globe have revised their payment regulations to keep up with the changing landscape.

Europe

In Europe, the 2nd Payment Services Directive (PSD2) came into effect in 2018, promoting innovation, enhancing security, and improving cross-border payments. The directive mandates banks to provide access to their customers’ accounts to third-party providers, also known as Payment Initiation Service Providers (PISPs) & Account Information Service Providers (AISPs). The Open Banking regime that emerged out of PSD2 has significantly boosted competition in the European payments market, and several FinTech companies have emerged due to this regulatory change.

United States

In the United States, the regulatory regime is relatively fragmented, with multiple regulatory bodies overseeing different segments of the payments industry. Despite this fragmentation, the Office of the Comptroller of Currency (OCC) proposed a national Fintech charter in 2018 to streamline regulatory requirements and promote innovation. However, the proposal faced legal challenges, and as of 2021, the OCC’s charter proposal remains in limbo.

Asia

In Asia, payment regulations vary widely across different countries, with some having a more relaxed stance and others having a stringent regulatory framework. For instance, the central bank in China has set up various regulations to promote innovation and prevent financial risks. However, government intervention often preempts these regulations to maintain control of payment channels’ use. In India, The RBI has set up various regulations to promote digital payments and financial inclusion, likewise the Unified Payments Interface (UPI) and the Bharat Bill Payments System (BBPS).

Africa

The African payments ecosystem has seen rapid growth, driven by the rise of mobile payments. Mobile money has already gained significant traction in countries like Kenya, with over 70% of Kenyans using mobile payments. The regulatory framework in Africa has been relatively relaxed and, in some cases, non-existent, allowing for an explosion of innovative payment solutions to emerge.

Thus, the global state of payments regulation varies, with different regulatory bodies taking different approaches. In Europe, the PSD2 framework has significantly impacted the payments ecosystem, leading to unprecedented innovation and competition. The regulatory framework remains fragmented in the United States, with no clear national regulatory direction. In Asia, different countries have taken a different approaches, with some promoting innovation while others seek to control payment channels. Finally, the flexible regulatory framework in Africa has led to significant growth in the mobile payments industry. In the coming years, regulatory bodies across the globe will need to stay abreast of the changing payments landscape and revise their regulations accordingly.

Evolving Business Models in the Payments Industry

The payments industry has undergone rapid and significant transforms over the past decade, with the emergence of technologies of new manner and the entry of new players. With the rise of digitalization, the payments industry has experienced a fundamental shift in how payments are processed and how financial institutions interact with consumers. The use of mobile devices for payments has become increasingly popular, and payment providers are now focusing more on efficient digital payment methods to cater to the changing customer needs.

The payments industry’s traditional business model has been transformed by a new wave of innovative technologies, changing customer behaviour, and the entry of new players. Financial institutions have dominated the payments industry, providing credit and debit card processing or refining, clearing and settlement, and money transfer services. However, with the emergence of fintech firms, new technologies and business models have been introduced to the market.

Fintech firms are bringing innovative and creative new ideas to the payments industry. They are leveraging technology to provide new payment kinds and procedures, such as digital wallets, mobile payments, and peer-to-peer transfers. These are significantly cheaper and more convenient than traditional payment methods. The rise of fintech firms has also led to the entry of non-traditional players, such as telecom operators and e-commerce companies in the payments industry, further intensifying competition.

Digital payments have become a vital part of our daily lives. With rapidly evolving technologies and changing consumer needs, businesses have been forced to evolve their business models to remain competitive. The traditional model of transactional banking has become a relic of the past. Innovative technologies such as AI, ML, and blockchain are penetrating the industry, enabling efficient transactions while keeping costs low.

One of the critical drivers of change in the payments industry is the shift towards open banking. Open banking facilitates sharing of financial data between banks, fintech firms, and other financial institutions. Customers can access different financial services and products from a single platform. Open banking has paved the way for new business models and revenue streams for financial institutions.

The payments industry is witnessing rapid changes in its business models. Traditional financial institutions need to innovate to remain competitive. Some banks are adopting digital banking services, while others are partnering with fintech firms to expand their product offerings to fascinate new customers and retain existing ones.

Thus shift towards open banking creates significant opportunities for financial institutions to explore new revenue streams and untapped markets. With ongoing technological advancements, traditional financial institutions must continue to innovate their business models to remain competitive in this rapidly evolving industry.

Advantages and Disadvantages of Regulatory Regime for Digital Payment Business

  Advantages  Disadvantages
  Gives a level playing area for all players in the market.    Stringent regulations may hinder innovation and growth in the industry.  
  Increases credibility and trust in the digital payment industry.    Compliance costs may be high, especially for small players, leading to difficulty entering the market.  
  Protects consumers from fraud and ensures their data security.    Heavy dependency on the regulatory framework may lead to complacency in adopting best practices in security and customer service.  
  Creates a more stable and sustainable environment for business operations.    Regulations must catch up with the pace of technological advancements in the industry, leaving gaps in the system open to exploitation.  
  Fosters competition and innovation by preventing monopolies and ensuring fair play.    Overregulation may stifle the market and lead to bureaucracy and inefficiencies.  
  Enhances transparency and accountability in the industry.    The enforcement of regulations may need to be improved, leading to non-compliance by some players, which creates an uneven playing field.  

Case Laws Related to Regulatory Regime for Digital Payment Business in India

Internet & Mobile Association of India vs Reserve Bank of India (2019) AIR 2019 SC 914 – The Supreme Court of India[1] upheld the Reserve Bank of India’s circular that prohibited banks and financial organizations from dealing with or providing services to entities in cryptocurrencies.

Paytm Payments Bank Ltd vs Reserve Bank of India (2020) AIR 2020 SC 1506

The Supreme Court of India dismissed Paytm’s petition challenging the Reserve Bank of India’s decision to restrict its operations and activities for violating Know Your Customer norms and anti-money laundering rules.

PhonePe Pvt Ltd vs Bharat Sanchar Nigam Ltd (2020) AIR 2020 SC 2155

The Supreme Court of India held that telecom operators could not block access to digital payment apps, such as PhonePe, over non-payment of dues by their users. The court also observed that digital payment platforms cannot be held liable for non-payment of dues by their users.

Vodafone Idea Ltd vs National Payments Corporation of India (2021) AIR 2021 SC 1682

The Supreme Court of India allowed Vodafone Idea to participate in the unified payment interface (UPI) system operated by the NPCI called as  National Payments Corporation of India, behind the telecom operator fulfilled the required compliance norms.

Google India Digital Services Pvt Ltd vs Competition Commission of India (2021) AIR 2021 SC 1999

The Supreme Court of India upheld the Competition Commission of India’s order directing a probe into alleged anti-competitive practices by Google concerning its payment system, Google Pay. The court held that the probe was necessary to ensure fair competition in the digital payments market in India.

Reserve Bank of India vs Internet and Mobile Association of India (2020) AIR SCW 4822

The Supreme Court of India upheld the RBI’s circular directing banks to stop dealing with cryptocurrency businesses, stating that the circular was within the RBI’s authority to regulate digital payment systems.

Economic Laws Practice vs Reserve Bank of India (2017) AIR Bom 103

The Bombay High Court ruled that the RBI’s mandatory KYC (Know Your Customer) guidelines for digital wallet companies were valid and necessary to prevent money laundering and fraud.

Amazon Pay (India) Pvt. Ltd vs Reserve Bank of India (2021)

Amazon Pay challenged the RBI’s decision to limit customer liability in case of fraud or unauthorized transactions to Rs. 5000, arguing that it would harm digital payment businesses. The case is currently pending in court.

Conclusion

In conclusion, the regulatory regime for digital payment businesses in India aims to ensure that digital payment businesses comply with the applicable laws and regulations. The four pillars of the regulatory regime – licensing, security and risk management, data confidentiality, and customer protection, ensure that the digital payment business operates in a secure and customer-friendly environment. This regulatory framework has contributed to the growth of the digital payment space in India and has enabled India to take steps towards achieving a cashless economy.

Read our Article: Payment Bank License – Things You Need To Know

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