Last year, the world of fintech startups — a star of the venture capital heyday of 2021 — began to unravel as VC funding became tight. As we move into mid-2024, large parts of the industry today are pure chaos, especially the banking-as-a-service sector that, ironically, experts last year told us was the bright spot.
The bankruptcy of banking-as-a-service (BaaS) fintech Synapse is, perhaps, the most dramatic thing happening right now. While it’s certainly not the only bad news, it shows just how treacherous things are for the often interdependent world of fintech when a key player is in trouble.
Synapse’s problems hurt and destroyed a bunch of other startups and affected consumers across the country.
To recap: San Francisco-based Synapse operated a service that allowed others (mainly fintechs) to integrate banking services into their offerings. For example, a software provider specializing in payroll for 1099 heavy contractor businesses used Synapse to provide an instant payment capability. others used it to offer specialized credit/debit cards. He provided such services as an intermediary between banking partner Evolve Bank & Trust and banking startup Mercury.
Synapse has raised a total of just over $50 million in venture capital over its lifetime, including a $33 million Series B raise in 2019 led by Angela Strange of Andreessen Horowitz. The startup wobbled in 2023 with layoffs and filed for Chapter 11 in April of this year, hoping to sell its assets in a $9.7 million sale to another fintech, TabaPay. But TabaPay walked. It’s not entirely clear why. Synapse put a lot of the blame on Evolve, as well as Mercury, both of whom threw up their hands and told TechCrunch they were not responsible. Once he responded, Synapse CEO and co-founder Sankaet Pathak no longer responded to our requests for comment.
But the result is that Synapse is now close to being forced into full Chapter 7 liquidation, and many other fintechs and their customers are paying the price for Synapse’s demise.
For example, Synapse’s client banking startup, Copper, had to abruptly discontinue its bank deposit accounts and debit cards on May 13 as a result of Synapse’s difficulties. This leaves an unknown number of consumers, mostly families, without access to the funds they had deposited in trust in Copper accounts.
For its part, Copper says it is still operating and has another product, the financial education app Earn, that is unaffected and doing well. However, it is now working to pivot its business towards a white-label family banking product in partnership with other, as-yet-unnamed, larger US banks that it hopes to launch later this year.
Funds in crypto app Juno were also affected by the Synapse collapse, CNBC reported. A Maryland teacher named Chris Buckler said in a May 21 filing that he has been denied access to his funds held by Juno because of problems related to Synapse’s bankruptcy.
“I’m getting more and more desperate and I don’t know where to turn,” Baker reportedly wrote CNBC. “I have almost $38,000 tied up as a result of transaction processing being stopped. That money took years to save up.”
Meanwhile, Mainvest, a fintech lender to restaurant businesses, is in fact closing as a result of chaos in the Synapse. An unknown number of workers there are losing their jobs. On its website, the company said: “Unfortunately, after exploring all available alternatives, a combination of internal and external factors has led us to the difficult decision to cease Mainvest’s operations and dissolve the company.”
Based on Synapse’s records, as many as 100 fintechs and 10 million end customers could have been affected by the company’s collapse, industry watcher and Fintech Business Weekly writer Jason Mikula estimated in a statement to TechCrunch.
“But that may underestimate the total damage,” he added, “since some of these customers are doing things like running payroll for small businesses.”
The long-term negative and severe impact of what happened at Synapse will be significant “across all fintech services, especially consumer-facing services,” Mikula told TechCrunch.
“While regulators do not have direct jurisdiction over middleware providers, which include companies such as Unit, Synctera and Treasury Prime, can they exert their power on their banking partners,” Mikula added. “I expected increased attention to ongoing due diligence around the financial health of these kinds of middleware vendors, none of whom are profitable, and an increased focus on business continuity and operational resilience for banks engaged in BaaS operating models.”
Maybe not all BaaS companies should be brought together. That’s what Peter Hazlehurst, founder and CEO of another BaaS startup Synctera, is quick to point out.
“There are mature companies with legitimate use cases that are served by companies like ours and Unit, but the damage caused by some of the consequences you’re talking about is just now rearing its ugly head,” he told TechCrunch. “Unfortunately, the problems many people are facing today were created on the platforms several years ago and have gotten worse over time, not being seen until the last minute when everything crashes at the same time.”
Hazlehurst says some classic Silicon Valley mistakes were made by early players: people with computer engineering skills wanted to “disrupt” the old and stodgy banking system without fully understanding that system.
“When I left Uber and founded Synctera, it became very clear to me that the early players in the ‘BaaS’ space built their platforms as quick fixes to capitalize on a neo/challenger banking ‘trend’ without really knowing how to run programs and the risks involved,” said Peter Hazlehurst.
“Banking and finance of any kind is serious business. It requires both skill and wisdom to build and run. Regulatory bodies are there to protect consumers from bad outcomes like this for a reason,” he adds.
And he says that in those tumultuous early days, bank partners – who should have known better – did not act as a backstop when choosing fintech partners. “Working with these players seemed like a really exciting opportunity to ‘evolve’ their business and they trusted blindly.”
To be fair, BaaS players, and the neobanks that rely on them, aren’t the only ones in trouble. We are constantly seeing news about how banks are being scrutinized for their relationships with BaaS providers and fintechs. For example, the FDIC was “concerned” that Choice Bank “had opened accounts in legally risky countries” on behalf of digital banking startup Mercury, according to a report by The information. Officials reportedly criticized Choice for allowing Mercury customers overseas to “open thousands of accounts using questionable methods to prove they had a US presence.”
Kruze Consulting’s Healy Jones believes Synapse’s status will not be “an issue” for the startup community moving forward. But he believes regulatory clarity is needed to protect consumers.
The FDIC needs to “explain in some clear language what is and isn’t covered by FDIC insurance to a new bank that uses a third-party bank on the backend,” he said. “This will help keep the neo-banking sector calm,” he said.
As Gartner analyst Agustin Rubini told TechCrunch, “Synapse’s case underscores the need for fintech companies to maintain high standards of operation and compliance. As middleware providers, they must ensure accurate financial record keeping and transparent operations.”
From my perspective, as someone who has covered the ups and downs of fintech for years, I don’t think all BaaS players are doomed. But I think this situation, combined with all the increased scrutiny, could make banks (traditional and fintech alike) reluctant to work with a BaaS player, opting instead to build direct bank relationships like Copper hopes to do.
The banking system is highly regulated and highly complex, and when Silicon Valley players get it wrong, it’s everyday people who get hurt.
The rush to raise capital in 2020 and 2021 has seen many fintechs move quickly in part in an effort to satisfy hungry investors looking for growth at any cost. Unfortunately, fintech is an area where companies can’t move fast enough to take shortcuts, especially those that avoid compliance. The end result, as we can see in the case of Synapse, can be disastrous.
With funding already down in the fintech sector, it is highly likely that Synapse’s collapse will affect future fintech fundraising prospects, especially for banking-as-a-service companies. Fears of another collapse are real, and let’s face it, well-founded.
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