[Pratishtha Shrivastava is a 3rd Year B.A.,LL.B student at Institute of Law, Nirma University]
In a recent development, the Reserve Bank of India (RBI) proposed draft directions for the regulation of payment aggregators (PAs), specifically those handling physical point-of-sale (PoS) services. A PA is a third-party service provider that lets consumers pay retailers. Some significant PAs in India are GooglePay, Amazon Pay, Paytm, Cashfree, Razorpay, and Paytm. The directives point towards a strategic shift towards direct regulation of PA-P activities, as was outlined in the “Statement on Developmental and Regulatory Policies” issued in September 2022. The focus of these new directives is to enhance transparency, security, and governance in the flourishing sphere of digital transactions by reconstructing the operations and structure of PA entities.
The aim of this post is to analyze the new directions and examine them from the perspective of merchants. Firstly, it delves into the intricacies of the proposed regulations and the amendments to the existing direction. Secondly, it explores the impact on small and medium merchants. Thirdly, it critically analyzes the possible implications of the draft directions on various stakeholders and the possible rationale behind them. And finally, it provides some recommendations that would help in resolving the concerns discussed throughout the post.
Overview of the New Directions
In the draft directions (ii), amendments to the existing directions on PAs, the RBI has divided the PAs into two distinct categories:
(i) Online Payment Aggregators (PA-O): Such PAs primarily facilitate e-commerce transactions, excluding payments made upon the delivery of goods. Transactions facilitated by these would include online shopping and online ticket booking.
(ii) Physical Point of Sale Payment Aggregators (PA-P): Such PAs primarily facilitate face-to-face payments and cater to merchants who carry out their operations in physical locations like retail shops and restaurants. PA-P are subjected to KYC requirements, due diligence of merchants, and proper management of escrow accounts.
The first draft directive particularly relates to bank and non-bank entities providing physical PoS services. Banks providing PA-P services as part of their regular services do not need to seek authorization from the RBI. However, non-bank entities providing PoS services are required to seek authorization from the RBI within 60 days of the issuance of this circular. Further, existing non-bank PA-Os will need to seek approval from the RBI’s Department of Payment and Settlement within 60 days if they want to continue providing the services alongside their online activities. Moreover, non-bank entities providing PoS services are required to maintain a net worth of Rs. 15 crore at the time of application, increasing to Rs. 25 crore by March 31, 2028. If the entities fail to meet these thresholds, they will have to wind up their operations.
Additionally, the draft directions propose to define the categories of small and medium merchants. Small merchants are physical merchants who primarily conduct face-to-face transactions with an annual turnover of less than Rs. five lakh, for instance small retail shops, street vendors, and local service providers. On the other hand, medium merchants operate both physical and online channels with an annual turnover ranging from Rs. five lakh to Rs. forty lakh. These include medium-sized retail stores, restaurants with online ordering facilities, and local service providers with an online presence.
Furthermore, one notable update pertains to escrow accounts wherein the same accounts will be allowed to be utilized for both online and physical point-of-sale activities, including funds from delivery versus payment transactions. Moreover, the new directives implement stricter KYC compliances, mandating due diligence procedures for onboarding merchants, including contact point verification (CPV) and verification of Officially Valid Documents (OVDs). PAs have to maintain a check on merchant transactions, make sure that company standards are followed, and list the identities of the merchant and PA on payment systems. It is also important to follow wire transfer regulations, register with the Financial Intelligence Unit-India (FIU-IND), and use the right agent engagement frameworks. Additionally, starting on August 1, 2025, only card issuers and networks will retain card data for in-person transactions, indicating stricter data security protocols.
Impact on Small and Medium Merchants
Merchants play an important role in the digital payments ecosystem, serving as the bridge between consumers and PAs. They facilitate transactions and enable consumers to access goods and services conveniently. The impact on merchants is crucial because they represent the frontline of commerce, particularly small and medium-sized businesses that form the backbone of the economy.
Small Merchants
The updated KYC compliance requirements, including CPV and verification of bank accounts, will pose challenges for small merchants. These additional verification processes would be burdensome, particularly for merchants with limited resources and infrastructure. Some experts opine that the removal of the clause allowing PAs to settle merchant payments with accounts other than that of the merchant will have implications for small merchants operating on smaller marketplaces. Small marketplaces will face challenges in facilitating payment settlements, as merchants will now be required to open escrow accounts to receive funds from PAs. This restriction would result in an increase in the administrative burden and operational costs for small merchants and marketplaces alike.
Medium Merchants
Medium merchants will have to ensure increased due diligence requirements, including CPV and OVDs of both the proprietor and the business. Compliance with KYC regulations requires additional documentation and verification processes, potentially increasing administrative burdens for medium merchants. Medium merchants will be subject to ongoing monitoring of transaction activity by PAs to assess risk and ensure compliance with regulatory standards. This implementation of risk-based limits for merchants will affect their transaction volumes and capabilities. The revised guidelines allow for the use of escrow accounts for both online and physical point-of-sale activities. Medium merchants will need to adjust their financial operations to accommodate these new account management procedures. Additionally, the prohibition of debit transactions to accounts other than the merchant’s account introduces constraints on the flexibility that medium merchants had in managing funds, thereby impacting their cash flow management strategies.
An Analysis of the Draft Directions
The draft directions aim to enhance transparency, security, and accountability within the digital payments ecosystem, thereby promoting trust among consumers and merchants alike. Standardized KYC compliances and due diligence procedures are expected to mitigate risks associated with fraudulent activities and enhance the overall integrity of transactions. However, it is imperative to consider the concerns discussed above regarding stringent requirements, particularly regarding KYC compliances and limitations on settlement options, which would disproportionately burden smaller merchants, hindering their ability to operate efficiently and accept online payments.
The recent crackdown on companies like Paytm Payments Bank for alleged KYC violations indicates a heightened focus on compliance and risk mitigation by regulatory authorities such as the RBI. Some stakeholders have suggested that the introduction of new directions for PAs is driven by a concerted effort to address existing risks and bolster regulatory oversight in the payments sector. By implementing stricter KYC requirements and due diligence procedures, the RBI aims to mitigate risks associated with money laundering and other illicit activities. Additionally, the introduction of these draft norms may serve to weed out non-compliant players and promote consolidation within the sector. This consolidation is likely to lead to a more regulated and stable payment landscape, with only financially robust and compliant entities remaining operational.
Suggestions
The draft directions proposed by the RBI are a pivotal step towards reinforcing regulatory oversight and instilling greater accountability within the thriving digital payments ecosystem in India. Although aimed at enhancing transparency and security, these regulations introduce a set of challenges, particularly for small and medium merchants grappling with stringent KYC requirements and constraints on payment settlement options. However, amidst these challenges lie opportunities for innovation and adaptation. By navigating these regulatory changes adeptly, merchants can not only safeguard their operations but also foster trust and credibility among their customer base. Moreover, the push towards consolidation within the sector would pave the way for a more robust and resilient payments landscape, characterized by heightened consumer protection and sustainable growth.
As stakeholders navigate the complexities of these directives, collaboration between regulators, industry players, and merchants will be essential in ensuring a smooth transition toward a more secure and efficient digital payments environment. Conducting outreach programs and training sessions to educate various stakeholders, especially small merchants and consumers, about the regulatory requirements and assisting them in understanding and fulfilling their compliance obligations can empower merchants to navigate the regulatory landscape more effectively. Further, employing technology solutions such as digital KYC verification tools, automated compliance management systems, and user-friendly payment platforms tailored for small merchants can streamline compliance processes and reduce administrative overhead. Therefore, by implementing such strategies, policymakers, regulators, and industry stakeholders can work together to address the concerns of various stakeholders and foster inclusivity, innovation, and growth within the digital payments ecosystem.
