Neo-banks (online or digital-only banks) are fintech firms that operate entirely online without traditional branches. They use technology platforms to offer bank-like services, such as accounts, cards, and payments, often targeting tech-savvy and underserved segments. Unlike conventional banks, neo-banks in India do not have full banking licences.
Instead, they partner with RBI-licensed banks or NBFCs to deliver banking services. The neo-bank handles customer-facing apps and services, while a regulated bank holds customer deposits and ensures compliance. For example, RazorpayX, Jupiter, Fi Money, and Open have launched corporate business accounts through tie-ups with established banks.
This “banking-as-a-service” model lets neo-banks offer current/savings accounts, UPI payments, credit cards, expense management and more – all digitally.
Neo-banks are digital-only
They offer all services through mobile/web apps, without any branch network. They typically charge low or no fees, instead earning through interchange or subscription fees. In contrast, traditional banks have physical branches, legacy IT systems, and full regulatory oversight. India does not yet recognize standalone neo-banks as banks, so neo-banks cannot take deposits on their own or lend without a partner. In practice, each neo-bank partners with one or more licensed banks (or sometimes RBI-regulated NBFCs) to hold accounts and process transactions. For example, the neobank Niyo deposits user funds at its partner bank (IDFC First Bank or State Bank of Mauritius in one case). The neo-bank’s app then provides value-added services (like multi-currency wallets or API integrations) on top of the partner’s basic account.
In some jurisdictions, the term “digital bank” refers to a branchless subsidiary of an established bank, whereas a neobank is a pure fintech startup (often in partnership). Both focus on customer convenience: instant account opening, seamless UPI/IMPS transfers, digital KYC, real-time expense tracking, and often built-in accounting or invoicing tools. These innovations can be especially helpful for small and medium enterprises (SMEs). For instance, many Indian neobanks offer automated GST-compliant invoicing and integration with accounting software – features aimed squarely at business customers. In short, neo-banks package traditional bank services with modern fintech UX, but they rely on partners to provide the actual banking “plumbing” (deposits, settlements) under RBI’s rules.
Corporate Accounts via Banking Partnerships
Because neo-banks lack licences, they use partnership models to offer corporate and business accounts. Under this model, the neo-bank acts as a technology front-end and marketing channel, while a licensed bank maintains the actual account. For example, Open (one of India’s largest neo-banks) offers its business banking platform by partnering with Yes Bank and Deutsche Bank. Similarly, RazorpayX (by payment firm Razorpay) offers current accounts and payroll cards in partnership with licensed banks. In these setups, the partner bank holds the customer’s funds and is legally responsible for KYC, AML, and deposits. The neo-bank integrates with the bank via APIs, enabling features like UPI, bulk payouts, virtual cards, and transaction data analytics.
This arrangement is often described as “banking-as-a-service”. The neo-bank’s technology allows fast account opening (often with Aadhaar e-KYC), instant UPI onboarding, automated expense management, and integration with payroll or accounting systems. The partner bank benefits too, by accessing new customer segments and leveraging the neo-bank’s platform. All core banking functions – deposits, withdrawals, credit decisions – remain under the partner bank’s regulatory licence. In effect, customers see a slick app (the neo-bank), but their money is on deposit at the partner bank. Deposit insurance (up to ₹5 lakh per depositor) still applies via the partner bank. In case of disputes or failures, the bank is ultimately liable. This structure is key to how neo-banks can legally offer business banking services without a direct RBI licence.
Regulatory Limitations and Customer Protection
The Reserve Bank of India (RBI) does not license neo-banks as banks. Section 22 of the Banking Regulation Act requires an RBI licence to conduct banking business, and neo-banks are classified as third-party tech providers under outsourcing guidelines. In practice, this means neo-banks cannot do any banking activity on their own – they can only provide technology services to a licensed bank. RBI’s outsourcing guidelines require partner banks to maintain strict contracts and oversight of these tech providers. The rules prohibit banks from outsourcing all core functions, so in many cases the partner bank may still handle tasks like customer onboarding, loan decisions or risk management (with the neo-bank providing the digital interface).
Because neo-banks sit outside the traditional regulatory perimeter, direct RBI oversight is limited. Neo-banks are not directly subject to banking prudential norms or RBI’s cybersecurity regime. As Fortune India reports, neo-banks operating via partner licences are “not directly monitored by the RBI”, which creates potential gaps in supervision. For example, RBI requires banks to have a physical customer support presence and an integrated grievance redressal mechanism. Neo-banks must rely on partners to provide these customer protections. RBI guidelines even emphasize that digital banking entities should ensure some physical outreach for grievance redressal. In short, consumers of neo-bank services rely on the partner bank’s compliance.
A key regulatory focus is data protection and localization. RBI mandates that all payment data and financial records be stored within India. Many neo-banks are startups with global parent companies and initially stored data on foreign servers. Under RBI norms, the partner bank is responsible for ensuring the neo-bank keeps all sensitive financial data local. Likewise, all entities must follow India’s cyber security and data laws (IT Act, forthcoming Digital Personal Data Protection Act, etc.). But without direct regulation, enforcement can be uneven.
These limitations have practical implications for businesses using neo-banks. Customer deposit protection follows the partner’s rules (e.g. DICGC insurance, RBI audits of the bank). If the partner bank faces penalties or tightens compliance, neo-bank services can be disrupted. (For instance, when RBI imposed restrictions on Mauritius’s State Bank of Mauritius in 2023, Niyo’s forex product – run on that bank – was abruptly suspended. In general, clients should be aware that any RBI action affecting the partner bank can affect their neo-bank account, even though they might not be direct customers of that bank.
Compliance Risks for Business Clients
Businesses using neo-banking accounts face several compliance considerations:
- Data Security & Privacy: Neo-banks handle a lot of sensitive data (KYC info, invoices, payment histories). Under the IT Act and upcoming privacy laws, firms are liable for protecting personal data. Neo-banks must implement robust encryption, access controls, and comply with localization. However, Fortune India notes that privacy regulation for neo-banks is still evolving. Business customers should confirm that their neo-bank partner follows all norms (two-factor authentication for logins, encrypted storage, etc.) and be cautious about sharing data.
- KYC/AML Compliance: Even though onboarding is digital, banks still require full KYC. Neo-banks generally use Aadhaar-based e-KYC or Video KYC (via UIDAI) to satisfy RBI norms. Businesses should ensure that their neo-bank properly collects and retains KYC documents, just as a bank would. Any shortcomings in KYC could expose the customer to regulatory scrutiny or freeze their accounts.
- Payment Integration (UPI and APIs): Neo-banks enable payments via UPI, IMPS/NEFT, and cards, typically through the partner bank or by acting as a Payment Aggregator. Firms should check that their business account is UPI-enabled (some neo-bank SME accounts offer UPI IDs) and compliant with NPCI rules. If the neo-bank uses an external PPI or aggregator licence for wallets/cards, the business needs to ensure those setups meet RBI’s payments regulations. Any delays or issues in reconciliation or settlement (e.g. UPI settlements taking slightly longer via a neo-bank stack) should be anticipated.
- Grievance Redressal: RBI’s Integrated Ombudsman Scheme covers regulated entities (banks/NBFCs). Since neo-banks are unregulated, customers must lodge complaints through the partner bank’s grievance process. Fortune India emphasizes that RBI’s digital banking guidelines stress having a physical grievance redressal point. Businesses should identify the neo-bank’s escalation matrix and RBI nodal officer (often listed on the app). If an issue is not resolved, they can appeal to the bank’s nodal officer or the RBI Ombudsman as applicable.
- Financial Reporting & Audit: Neo-bank platforms often generate digital statements and analytics. Businesses must ensure these records meet accounting and audit standards (statutory reports, GST filings, etc.). The neo-bank should provide exports of transaction data that can integrate with accounting software. Because neo-banks may offer innovative features (like automated bookkeeping or tax reminders), users should verify their accuracy. Ultimately, businesses are responsible for tax compliance and record-keeping regardless of the banking channel.
- Regulatory Change Risk: RBI and government policies (on digital lending, cybersecurity, data protection, etc.) are evolving. Neo-banks usually update their systems rapidly, but customers should stay informed. For example, RBI’s new guidelines for digital lending platforms (launched 2023–2024) could indirectly affect any credit features a neo-bank provides (like overdrafts or pay-later). Business users should ensure that any credit or lending they receive via a neo-bank is compliant with RBI’s policies.
The RBI Sandbox for Neo-Banking Innovation
To foster fintech innovation, RBI has established a Regulatory Sandbox – a controlled environment where new financial products (including digital banking models) can be tested under limited regulatory relaxations. Under RBI’s “On-Tap” sandbox, fintech startups (including neo-banks) can apply to pilot new services with close supervisory oversight. This allows them to trial features like novel credit scoring, cross-border payments, or alternative onboarding before full launch. For instance, RBI’s FAQs note that sandbox tests can involve multiple regulators (banking, securities, insurance) to support hybrid products.
So far, RBI has invited applicants for theme-neutral cohorts, including digital banking ideas. The IBA notes that India has given neo-banks a “relaxed environment” in sandbox mode to develop products. Neo-banks have already used RBI sandbox slots for things like tokenized lending (e.g. the IBDIC MSME tool) and advanced KYC. While full digital bank licensing is not yet available, the sandbox allows neo-banks to collaborate with partner banks on pilot projects. Neo-bank founders should consider applying to RBI’s sandbox or its newer FinTech Repository/Finquery initiatives to test innovative services responsibly.
Known Regulatory Warnings and Actions
There have been few public enforcement actions directly against neo-banks themselves, since they aren’t banks. However, RBI has repeatedly cautioned that only licensed entities should touch customer deposits and loans. RBI officials have explicitly warned against corporates or fintechs bypassing licensing requirements. RBI has also cracked down on illegal online lending and unregulated money-movement apps, setting a general tone that neo-banks must stay within the partner-bank model.
One illustrative case involved Niyo, a neo-bank that offered forex and overseas debit cards. When RBI placed restrictions on the State Bank of Mauritius (Niyo’s international partner) in 2023, Niyo’s currency product stopped abruptly. Users were stranded because the neo-bank had no direct license or backup arrangements. This incident highlighted that neo-banks have no independent regulatory safety net – they rely entirely on their partners’ compliance.
RBI has also issued cybersecurity and payments advisories that impact neo-banks. For example, RBI’s strict norms on incident reporting and data encryption apply technically to all payment system participants. Neo-banks must ensure that in any security breach, the partner bank is immediately notified and RBI guidelines (like 6-hour breach reporting) are followed. There have been no widely reported fines on neo-banks as such, but partner banks and NBFCs have been penalized for outsourcing violations. These cases serve as a warning that any regulatory lapses can be traced back to the collaboration model, potentially affecting both bank and neo-bank.
Best Practices for Compliance and Reliability
To navigate this evolving landscape, both neo-banks and their corporate clients should adopt prudent measures:
- For Neo-bank providers: Build a robust compliance framework from day one. Sign formal outsourcing contracts as per RBI’s guidelines, maintain thorough audit trails, and subject yourself to the partner bank’s security and AML standards. Invest in strong IT infrastructure, data encryption, and regular security audits – RBI emphasizes encryption, multi-factor authentication and breach controls for fintechs. Establish a clear grievance-redressal and escalation system, including RBI nodal officers, akin to a bank’s Customer Service/Grievance departments. Ensure all financial data is stored in India and comply with the Digital Personal Data Protection Act. Engage experienced legal and compliance experts to monitor RBI and NPCI regulations constantly. In short, treat the neo-bank as if it were regulated in-house: have boards, risk committees, and documented policies for KYC, cybersecurity, and operations.
- For Business Customers: Due diligence is key. Before onboarding with a neo-bank, verify the bank partner’s identity and licence (this is usually disclosed in the app’s fine print or FAQs). Confirm that your deposits will be in a Scheduled Bank (so they are covered by DICGC insurance). Ask how your data is handled – where it is stored and protected. Make sure you have access to customer support and know the escalation chain (including RBI Ombudsman procedures for your partner bank). Maintain your own bookkeeping: download transaction statements and reconcile them with your accounting records. If you use UPI, note that transactions clear through the partner bank or PSP, so plan your reconciliations accordingly. Keep abreast of new rules (for example, RBI’s recent digital lending directions if you borrow from the neo-bank). Finally, have a fallback banking option: many businesses maintain at least one traditional bank account for high-value or uncommon transactions.
By following these practices, fintech founders can demonstrate to regulators that neo-banking is safe and customer-centric, and businesses can use neo-bank accounts with confidence. In sum, neo-banks are bringing banking to modern enterprises with agility and innovation. But both providers and users must work within India’s existing legal framework, keeping risk management and compliance at the core. As the RBI refines its sandbox pilots and considers new digital banking licences, today’s disciplined neo-banks and informed business clients will be best positioned to harness the digital banking wave.
