Debanking in Canada: why large banks avoid direct fintech exposure

Large Canadian financial institutions are increasingly reluctant to maintain direct exposure to financial technology (Fintech) companies. This posture stems primarily from three core vulnerabilities:

• 01Fiduciary Risk: The legal exposure and liability stemming from safeguarding client funds held within payment service provider accounts.
• 02Third-Party Risk: The operational dependencies and compliance uncertainties introduced by non-bank intermediaries.
• 03Operational Risk: The challenges associated with managing modern fintech flows across legacy banking infrastructures.

Because legacy banking systems require years to fully digitise and implement adequate controls, managing these risks in real time remains a formidable challenge.

Divergent Drivers: United States vs. Canada

While fintech debanking in the United States is largely driven by regulatory enforcement actions, the phenomenon in Canada is primarily structural and economic.

Although both jurisdictions arrive at the same outcome, debanked fintech entities, they do so through different mechanisms. Understanding this distinction is critical when framing solutions tailored to the Canadian financial ecosystem.

Economic Incentives and Market Structure in Canada

In Canada, economic realities naturally compel banks toward debanking. The “Big Six” banks control approximately 90% of domestic banking assets within a highly protected oligopoly, deriving stable revenue from established retail and commercial franchises.

Unlike U.S. community banks, which enter Banking-as-a-Service (BaaS) arrangements to gain critical deposits and fee income, Canadian banks do not require fintech programme revenue to sustain their business models.

Consequently, debanking in Canada is far more impactful and difficult to recover from, as there is no long tail of smaller community institutions available to absorb displaced fintechs. When one major Canadian institution exits a market segment, it removes roughly a fifth of available capacity, signalling heightened risk to the remaining banks.

For major Canadian banks, the marginal income generated by servicing a payment service provider (PSP) is negligible relative to their total franchise value. Conversely, the tail risk, such as an Anti-Money Laundering (AML) compliance failure or a ledger discrepancy, endangers the bank's broader reputation and balance sheet.

When the financial upside is immaterial and the downside risk includes significant regulatory penalties and adverse public exposure, opting out becomes the rational decision. While the U.S. features a competitive sponsor-bank market constrained by regulation, Canada never developed such a market because the economic imperative was never present.

Fintechs as Competitors Rather Than Clients

A crucial aspect often overlooked in market analyses is that Canadian banks view fintechs primarily as competitors rather than potential clients. In contrast to U.S. sponsor banks that monetise non-competing fintech partners, Canadian institutions own the payment infrastructure governance (such as Payments Canada membership and Interac) and maintain dominant consumer relationships.

Emerging PSPs and wealth management platforms directly threaten traditional bank deposits and interchange revenue. From the banks' perspective, providing settlement accounts to these entities is equivalent to enabling their direct competitors. This protective posture also explains the industry's cautious approach toward the implementation of the Real-Time Rail (RTR) payment system and open banking frameworks across the country.

Impact of the Retail Payment Activities Act (RPAA)

While the Bank of Canada's registration regime under the Retail Payment Activities Act (RPAA) was intended to legitimise PSPs, it has intensified risk visibility for financial institutions in the short term.

Regulatory oversight has highlighted the vulnerabilities inherent in pooled deposit structures. Canadian banks holding PSP safeguarding accounts recognise that underlying account balances may contain undetected shortfalls, leaving the institution exposed to legal claims and regulatory scrutiny regarding account oversight.

Key takeaways regarding the post-RPAA landscape include:

• 01Illuminated Exposure: Regulatory registration does not transfer risk to the governing authority; instead, it highlights risks that ultimately remain with the bank.
• 02Uncompensated Liability: Institutions carry significant fiduciary-adjacent exposure without adequate financial compensation.
• 03Structural Mismatch: RPAA safeguarding mandates force PSPs to maintain end-user funds in trust accounts at banks, placing operational and reputational risks on institutions that only earn standard deposit spreads.

Under current Canadian law, banks are provided neither a specialised fee framework to charge for this risk nor a clear fiduciary defence, turning these services into unpriced accommodations.

How Unpriced Accommodations Drive Debanking

When financial institutions provide valuable services involving significant risk without a corresponding revenue line, they respond by restricting availability or terminating relationships altogether.

When a bank holds a PSP safeguarding account, it provides multiple critical services:

1. Services Provided by the Bank

The bank supplies the regulatory container required for RPAA compliance, bears operational and reputational proximity to potential failures, accepts monitoring duties over complex accounts, and absorbs flighty deposit balances that strain liquidity metrics.

2. Compensation Received by the Bank

In return, the bank receives only basic Net Interest Margin (NIM) on deposit balances and routine account fees. The transaction is priced as a simple deposit product, ignoring the underlying legal and regulatory host risks.

This disparity creates an unpriced accommodation where institutions absorb risks that their fee structures do not cover. The resulting behaviour across the market follows a predictable pattern:

• 01Priced Services: When risks are properly priced, banks actively manage capacity, establish risk limits, and compete for market share.
• 02Unpriced Services: Lacking financial compensation for taking on additional risk, banks resort to rationing, refusal, and account closure.

Consequently, PSP banking access in Canada remains tightly constrained and prone to sudden termination. Every incremental PSP account adds operational exposure without generating offsetting revenue, making debanking a rational response when institutions choose to end unpriced accommodations.

The Structural Solution: Fiduciary Intermediaries

Simply increasing bank fees is an insufficient remedy because financial institutions cannot accurately price risks originating from unverified third-party ledgers. Because the risk resides within the PSP's internal accounting, banks lack the visibility required to measure and underwrite it effectively.

Addressing this market inefficiency requires introducing a dedicated trust or fiduciary entity between the fintech and the clearing bank. This structural shift achieves two main objectives:

• 01Explicit Pricing of Risk: Safeguarding, accounting, and monitoring responsibilities transition into explicit fee lines managed directly by the trust entity.
• 02Risk Isolation for Banks: Unmeasurable exposure is removed from the bank's balance sheet. The bank receives verified deposits from a regulated fiduciary with full accounting and oversight already performed.

By aligning compensation with specific operational functions, banks can return to providing core liquidity and balance sheet services, products they are equipped to price and manage with confidence.