Electronic money has become an established component of the European payments market, supported by the development of digital wallets, payment accounts and electronic payment services. In Lithuania, electronic money institutions (EMIs) are licensed and supervised by the Bank of Lithuania under the Lithuanian Law on Electronic Money and Electronic Money Institutions and applicable EU legislation. In the United Kingdom, electronic money institutions are regulated by the Financial Conduct Authority (FCA), rather than the former Financial Services Authority (FSA), which ceased operating in 2013. Despite increasing uptake, there is evidence that many of these clients may not know that they are using electronic money, and they clearly do not understand the difference between e-money and deposits: and between the e-money institution and the Bank as a whole with respect to the protection they enjoy in the event of the issuer’s insolvency.
Since, as far as we know, this topic remains under-researched, we have decided to write this article explaining how deposits differ from electronic money from a client’s point of view as to how banks and VMEs “use” and “protect” the money first, their protection in case of insolvency of these firms, and where they keep their accounts. It can be argued that the difference between electronic money and deposits is almost entirely limited to comparing the “e-money institution versus the Bank” in terms of their balance sheets.
Where does e-money come from
Emissions generally refer to the creation of an obligation (such as debt) in the issuer’s balance sheet. The company that issues corporate bonds registers the debt in its balance sheet; similarly, when you and I borrow from the bank to buy a house, we have – whether we know this or not – mortgage obligations, debt to the bank for the next 20-30 years. All financial instruments are issued by an entity, and this is no different for deposits and electronic money.
The issue of deposits (sometimes referred to as “taking over”) as an activity is tightly regulated mainly by credit institutions. Under EU banking legislation, accepting deposits or other repayable funds from the public is a regulated activity generally reserved for authorised credit institutions, subject to specific statutory exceptions. Banks may accept deposits and use those funds in accordance with applicable prudential requirements. Electronic money institutions, by contrast, issue electronically stored monetary value in exchange for funds received from customers. Funds received in exchange for electronic money do not constitute bank deposits and are subject to a separate regulatory safeguarding framework.
In the case of e-money issuance, the type of entities that engage in this activity is broader than that of deposits. E-money issuers include:
- Electronic Money Institutions
- Credit institutions (e.g., banks)
- Post office giro institutions (a.k.a. “postal banks”, like the Post Office in the UK)
- Central banks and public authorities when not acting in their capacity as a monetary authority or other public authority
- In other words, as of today, e-money co-exists with sight deposits on the liability side of credit institutions’ balance sheets. In some cases, entities that may have started out as Electronic Money Institutions are eventually granted the deposit-taking license, thus, becoming part of the MFI sector.
The difference
In order to understand the difference between these two financial instruments and understand the theme of Electronic Money Institution vs Bank, it is necessary first to dispel a widespread misconception about the nature of the current account. According to a survey conducted in Austria in 2020, 68 per cent of the 2,000 respondents believed that money and bank deposits were provided with gold. Another survey of 2,000 British people in 2009 found that 74 per cent of respondents considered themselves the rightful owners of money in their current account.
These two beliefs are probably false. It is a well-established fact in the legal scholarship that bank deposits are actually loans to banks. The word ‘deposit’ can be misleading in this regard, for it connotes safe-keeping, custody, bailment, or trust. On the contrary, the deposit contract is commonly worded so that the bank does not hold deposited funds in custody for the depositor; the funds are not earmarked or segregated. Rather, the bank is allowed to commingle (mix) the funds with its own (which become its property) and to use them in whatever way they may think best on the condition that they will repay the equivalent amount of funds to the depositor.
Therefore, depositors who deposit their money with a bank are no longer the legal owners of this money. Instead, they are just one of the general creditors to whom the bank owes money. The funds you hold in an account with a credit institution are a debt of that institution to you. It promises to repay you, and that promise is what we as a society consider ‘money’!
Electronic money represents electronically stored monetary value constituting a claim on the issuer, issued upon receipt of funds and accepted by persons other than the issuer. Unlike a bank deposit, electronic money is not a conventional loan or deposit provided by the customer to the institution. Electronic money institutions must issue electronic money at par value and redeem it at par value upon the holder’s request, subject to applicable statutory and contractual conditions. Although electronic money and bank deposits may both be used to make payments, they are legally distinct financial products subject to different prudential and customer protection requirements.
Another important aspect is that deposits and electronic money are different, and this is related to the way credit institutions and electronic money institutions are allowed to balance sheets.
A key distinction between banks and electronic money institutions concerns their permitted activities and the regulatory treatment of customer funds. Banks may accept deposits and use those funds for lending and other authorised banking activities, subject to capital, liquidity and prudential requirements. Electronic money institutions cannot accept deposits from the public and must safeguard funds received in exchange for electronic money or for the provision of payment services. Safeguarding may be achieved through segregation of customer funds in eligible accounts, investment in qualifying secure and liquid low-risk assets, or an eligible insurance policy or comparable guarantee, in accordance with Lithuanian legislation. Electronic money institutions must not use funds received in exchange for electronic money to finance their own lending or other business activities. Such funds must be safeguarded in accordance with statutory requirements. However, licensed EMIs may provide payment services and grant certain forms of credit directly related to payment transactions, provided that the applicable legal conditions are satisfied. Any permitted credit must be financed from the institution’s own funds or other eligible resources, rather than funds received from customers in exchange for electronic money.
Electronic money institutions must safeguard the full amount of relevant customer funds in accordance with the Lithuanian Law on Electronic Money and Electronic Money Institutions. The safeguarding requirement applies to funds received in exchange for electronic money and other funds covered by the applicable payment services legislation. Permitted safeguarding methods include holding funds in separate accounts with eligible credit institutions or central banks, investing in qualifying secure and liquid low-risk assets, or obtaining an eligible insurance policy or comparable guarantee. The selected arrangements must ensure compliance with applicable safeguarding and reconciliation requirements. Safeguarding is not equivalent to deposit insurance and does not guarantee that customers will recover their funds immediately in every insolvency scenario.
Unlike e-money institutions, the funds that a credit institution owes to its depositors (who, as mentioned, are creditors) are largely secured by illiquid loans and less liquid assets. If everyone decided to ask their banks to give back their money, the banks would not have been able to keep the promise had it not been for emergency assistance from the central bank (lending to the central bank reserves or storing cash on generous terms and quantities).
Electronic money institutions are required to maintain safeguarding arrangements covering the relevant customer funds and to redeem electronic money at par value in accordance with applicable legislation. However, safeguarding does not guarantee that an EMI can immediately satisfy every simultaneous withdrawal or redemption request under all circumstances. Operational disruptions, liquidity constraints, the failure of a safeguarding institution, reconciliation deficiencies or insolvency proceedings may affect the timing and availability of customer funds. EMIs must maintain effective risk management, operational resilience and safeguarding controls to mitigate these risks.
Things become a bit complicated here, since where do Electronic Money Institutions hold the funds (their asset)? You guessed it: typically with credit institutions (banks), who – as mentioned – do not keep the exact corresponding amount in equally liquid funds (say with the central bank). There is some controversy surrounding the issue of whether a customer would lose the money they hold in e-wallets if the bank where the Electronic Money Institution holds its safeguarded funds would go bust (i.e., to become insolvent).
One of the most important differences between a bank and an electronic money institution is the protection available to customers if the institution becomes insolvent. In Lithuania, eligible deposits held with participating credit institutions are generally protected by the statutory deposit guarantee scheme up to EUR 100,000 per depositor per credit institution, subject to applicable exceptions and additional protection for certain temporary high balances. Electronic money balances held with an EMI are not covered by the ordinary deposit guarantee scheme. Instead, EMIs must safeguard customer funds through the mechanisms prescribed by law. In the event of EMI insolvency, the return of safeguarded funds depends on the applicable legal arrangements, the effectiveness of safeguarding and the relevant insolvency procedures.
To sum up
The main differences between the two financial instruments, which seem almost indistinguishable to the public, can be found on the balance sheet of the enterprises that issue them. That is, the question boils down to a comparison between the Electronic Money Institution and the Bank.
The fundamental differences between banks and electronic money institutions concern their regulatory authorisation, permitted activities, treatment of customer funds and insolvency protection mechanisms. Banks may accept deposits, grant credit and perform other authorised banking activities, subject to prudential capital and liquidity requirements. Electronic money institutions may issue electronic money and provide authorised payment services but cannot accept deposits as banks do. EMIs must safeguard relevant customer funds through legally permitted arrangements, while eligible bank deposits are protected by the applicable deposit guarantee scheme. In Lithuania, a full EMI licence generally requires minimum initial capital of EUR 350,000, compared with EUR 5 million for a conventional bank and EUR 1 million for a specialised bank. These capital requirements are separate from ongoing prudential obligations.
Specialists of Company in Lithuania UAB will be glad to assist you in getting a EMI license in Lithuania. The assistance includes making the list of necessary documents, help in developing procedural rules of the company, translation of documents into Lithuanian and support throughout the licensing process.
