European Union: PSD2: Strong Customer Authentication - A Political Football?

Last Updated: 30 August 2017
Article by Arun Srivastava and Richard Powell

Strong Customer Authentication (SCA) has become a political football passing between the European Banking Authority and the European Commission. The EBA's Opinion issued on 29 June objects to amendments that the Commission intends to make to the EBA's final draft Regulatory Technical Standards on SCA and Common and Secure Communication (the RTS). This back and forth between the EBA and the Commission is unusual, though it is part of a trend that has seen the EBA become more assertive. While the implementation date of 13 January 2018 for the recast Payment Services Directive (PSD2) is fast approaching, in contrast the expected date for the RTS to take effect is slipping further away.

The Football Pitch

The RTS have been subject to much controversy, criticism from various industry sectors and much lobbying and representations.

There are two main areas in dispute:

  • the use of SCA to authenticate electronic payment transactions. In response to growing concerns about cyber crime and fraud, PSD2 seeks to enhance the security around the making of online payments mandating the use of SCA. Payment Service Providers (PSPs) are unhappy believing that SCA will make it more difficult for customers to authenticate payments while reducing the ability of firms to use technologies such as Risk Based Authentication to counter fraud; and
  • the interface through which the new payment initiation (PISPs) and account information services providers (AISPs) will access customer accounts. These firms have voiced concerns that if banks and other account providers can require access through a "dedicated interface" too much power may be placed in their hands, for instance, the interface may be inferior to that used by customers.

The EBA has pushed back on the Commission's amendments made this spring to the draft RTS publishing an Opinion objecting to various aspects. The outstanding issues are these: (1) the need for a statutory audit of the application of security measures when a firm applies the transaction risk analysis exemption to SCA (i.e. who polices the exemption); (2) the scope of the Commission's new exemption for corporate payments; (3) whether fraud reporting should be just to national authorities or also to the EBA - over which the EBA has some concerns as it lacks direct supervisory powers over PSPs; and (4) the requirement for banks and other account providers to make user-facing interfaces available to AISPs and PISPs where the dedicated interface is unavailable or performing inadequately.

What is SCA?

There has been tremendous growth in online payments over recent years accompanied by an increasing level of fraud and loss. According to Payments UK, 2016 saw 1.3 billion payments made via remote (online or mobile) banking and which were transmitted via the Faster Payments Service or cleared in-house. Figures published by Financial Fraud Action UK show that online fraud against UK retailers amounted to approximately GBP 189.4 million in 2016, an increase of 20% compared to 2015.

PSD2 is supposed to facilitate innovation and enhance customer convenience. This does have to be weighed against security concerns. The text of the Directive requires the application of SCA where a payer accesses its payment account online, initiates a payment transaction or carries out any action through a "remote channel" which may imply the risk of fraud. Moreover, "remote" online payment transactions (i.e., payments over the internet and smartphone) will be subject to further steps and will have to "dynamically link" the transaction to a specific amount and to a specific payee. Where a PSP fails to use SCA, the customer will not bear any financial loss unless they have acted fraudulently.

To this end, SCA must be used which is a means of authentication based on the use of two or more of the following elements:

  • Knowledge - something only the user knows (e.g., a password or PIN);
  • Possession - something only the user holds (e.g., a card or a token);
  • Inherence - something only the issuer is (e.g., a finger print or voice recognition).

How the exemptions to SCA should be interpreted (and applied) has been in the dispute between PSPs and the EBA (the latter taking a more restrictive and cautious approach) along with now the Commission. The EBA has been criticised consistently for failing to get the balance right between innovation and convenience on the one hand and security on the other. The EBA interprets PSD2 as only permitting a risk based approach as an exemption to SCA, leaving it, perhaps, as the captive of the text of a Directive that has long since been overtaken by technology. Adopted in 2015, it was the developed considerably before then.

In the face of industry pressure, the EBA accepted in February this year that firms could apply risk based authentication and that SCA would not be mandatory in all cases. It also raised the threshold for exemptions for remote payment transactions from EUR 10 to EUR 30. These steps addressed some of the major concerns raised by the industry.

The extent to which a transaction is exempted from SCA risk based authentication is based on a PSP's overall fraud rate for the specific payment instrument, which must meet predefined "reference fraud rate[s]" to provide incentives to strengthen the protection of customers. The EBA wants PSPs to monitor both their fraud rates and the performance of the transaction-risk analysis method employed. This method would be independently assessed by qualified auditors. PSPs would need to report any change related to the use of the exemption to the national supervisors. After the first 18 months there will be a review to ensure that the calibration of the exemption is sufficiently conservative. The Commission would like the audit and verification of the methodology, risk model and report risk rates to be performed by statutory auditors to ensure objectivity. It is presumably concerned that, without strict independent control, the exemption could be abused. This is likely to lead to higher compliance costs for PSPs using this exemption.

The Commission has also created an exemption to SCA for certain corporate payment processes which use dedicated processes and protocols (e.g., involving business-to-business and machine-to-machine payment transactions) and therefore enjoy high levels of security. The EBA in its Opinion has raised numerous objections and proposed subjecting it to similar conditions as the transaction risk analysis exemption.

Dedicated interfaces - Second Class Access?

The EBA must develop the requirements for common and secure open standards of communication between account providers, PISPs and AISPs that are necessary for them to operate. A mandatory "dedicated interface" could allow account providers to impede or limit "direct access" to a customer's account by these new service providers. This would run contrary to the overriding principles of PSD2 which are to open up competition and innovation. In response, the EBA insists that neither PSD2, nor its mandate to develop technical standards, specify the nature of access or whether it should be direct access - merely the principles governing access. A further related bone of contention with PISPs and AISPs is the EBA's insistence that "screen scraping" as a means of access should be prohibited once the RTS apply.

The Commission, however, has backed third party service providers in stipulating that account providers must allow access via their customer user interface, as a contingency measure, whenever a dedicated interface is unavailable or not working adequately. This represents a significant win for PISPs and AISPs who feared second class access.

In contrast to almost everything else, the EBA does agree with the Commission's deletion of the standard that communication messages are compliant with ISO 20022. The EBA accepts that to achieve technological neutrality and despite risks to harmonisation, this approach may be preferable.

The Next Round

With PSD2 coming into force on 13 January 2018, it is essential that the RTS are finalised as soon as possible (although the RTS will not apply until 18 months after their adoption, i.e. early 2019). The spat between the EBA and the Commission reassuringly demonstrates that the Commission is not a mere rubber stamp. However, the current uncertainty does not permit the sector to prepare properly for the forthcoming Big Bang in the payments industry.

What next? The EBA's work on the RTS has concluded. The Commission must now make the final decision on the text, although the European Council and European Parliament have a scrutiny right. This might lead to further delay in the process. In the UK, the Government has announced its intention to lay implementing regulations before Parliament prior to the summer recess.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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