What is Open Banking?

What Is Open Banking?

Open banking is a system that allows third-party financial service providers to access bank account information and initiate payments directly from a customer's bank account -- with the customer's explicit consent. Instead of relying on card networks to move money, open banking creates a direct connection between the payer's bank and the recipient.

In the UK, open banking was introduced in 2018 following the Competition and Markets Authority's investigation into retail banking. The nine largest UK banks were required to open up their data through standardised APIs (Application Programming Interfaces), allowing authorised third parties to build services on top of bank infrastructure.

How Open Banking Works

The process follows a simple flow:

• A customer chooses to pay via their bank account (rather than by card)
• They are redirected to their bank's secure authentication environment
• They verify their identity using their existing banking credentials -- typically through their banking app
• They confirm the payment details and approve the transaction
• The bank initiates the payment directly to the merchant's account

No card details are shared at any point. The customer authenticates directly with their own bank, and the payment moves as a bank-to-bank transfer rather than passing through the card networks.

The Role of PSD2

Open banking in the UK and Europe is underpinned by the Payment Services Directive 2 (PSD2), which created two new types of regulated payment providers:

• Account Information Service Providers (AISPs): Authorised to access account data (with consent) to provide services like financial dashboards and credit scoring
• Payment Initiation Service Providers (PISPs): Authorised to initiate payments directly from a customer's bank account

Both must be regulated by the Financial Conduct Authority (FCA) in the UK or equivalent regulators elsewhere in Europe. This regulatory framework ensures that third-party access to bank data is secure, transparent, and controlled by the account holder.

Benefits of Open Banking Payments

Lower Costs

Open banking payments bypass the card networks entirely, which means no interchange fees, no scheme fees, and no payment gateway charges. For merchants, this can represent significant savings compared to card-based transactions, particularly for higher-value payments.

Faster Settlement

Payments made through open banking typically settle within seconds via the UK's Faster Payments network, compared to the 1-3 business day settlement cycle common with card payments. This improves cash flow and reduces reconciliation complexity.

Reduced Fraud Risk

Because the customer authenticates directly with their bank using Strong Customer Authentication (SCA), open banking payments have significantly lower fraud rates than card payments. There are no card details to steal, and the authentication is handled by the customer's own bank.

No Chargebacks

Open banking payments are irrevocable once authorised. Unlike card payments, there is no chargeback mechanism, which eliminates a major source of dispute costs and friendly fraud for merchants.

Limitations and Considerations

Open banking is not without challenges:

• Customer familiarity: Many consumers are still unfamiliar with open banking and may be hesitant to grant access to their bank account, even though the process is secure and regulated
• No recurring payments (until VRP): Traditional open banking requires the customer to authenticate each individual payment. Variable Recurring Payments (VRP) are being introduced to address this, but adoption is still in early stages
• Limited refund process: Because there is no chargeback mechanism, refunds must be handled directly between merchant and customer, which can be slower than card-based refund processes
• Coverage: Not all banks support open banking equally. While the nine largest UK banks are mandated to participate, smaller banks and building societies may have limited support

Open Banking and Telephone Payments

Open banking is primarily designed for digital channels where the customer can interact with their banking app or website. This makes it well-suited to online checkout and pay-by-link scenarios, where customers can authenticate on their own device.

For telephone payments, open banking can be integrated through payment links sent during or after a phone call. The agent generates a secure link, sends it to the customer via SMS or email, and the customer completes the payment using their banking app at their convenience. This combines the personal touch of a phone conversation with the security and cost benefits of bank-to-bank payment.

As open banking matures, it is becoming an increasingly important alternative to card payments -- particularly for businesses looking to reduce processing costs, improve settlement times, and offer customers more payment choices.

The Future of Open Banking

Open banking is evolving rapidly. Variable Recurring Payments will extend open banking to subscriptions and regular payments, removing one of the biggest current limitations. The FCA is also working on expanding the framework beyond the original nine banks, aiming for broader participation across the financial sector.

In the longer term, open banking lays the groundwork for "open finance" -- the idea that the same data-sharing principles could extend to savings, mortgages, pensions, and insurance. For businesses, this means more payment options, better financial data, and a more competitive marketplace for financial services. Staying informed about open banking developments is worthwhile for any business that wants to offer modern, cost-effective payment options to its customers.