The global fintech market was valued at about $227 billion in 2023 and is expected to grow to over $917 billion by 2032. As financial technology evolves, businesses and customers are interacting with financial services in different ways. Two business models that embody this shift are embedded finance and banking-as-a-service (BaaS). Embedded finance is expected to reach $7 trillion in total financial transactions by 2026 in the US alone.

Embedded finance and BaaS eliminate the need for intermediaries in traditional financial institutions. They’re redefining how people interact with money and which types of businesses are involved in those interactions. However, embedded finance and BaaS models differ in their methods, technical implementation, and target markets. Below, we’ll discuss their technical differentiators and explain how businesses are using the models to create an extensive range of financial services for customers and other businesses.

What’s in this article?

• What is embedded finance?
  
• What is banking-as-a-service (BaaS)?
  
• Embedded finance vs. banking-as-a-service
  

What is embedded finance?

Embedded finance is the integration of financial services technology into platforms outside the financial sector. Through application programming interfaces (APIs), these platforms can offer services such as payments, loans, or insurance, making financial transactions part of the customer experience.

What is banking-as-a-service (BaaS)?

Banking-as-a-service (BaaS) is a model in which financial institutions provide access to their core banking functions through APIs. This enables third-party businesses to build their own financial products without needing to become banks. APIs allow these businesses to create and deploy a wide range of services, including payments, account management, and more complex functions such as lending and risk assessment. BaaS is driving a shift toward more modular and customizable banking experiences, directly affecting how financial services are delivered and consumed.

Embedded finance vs. banking-as-a-service

Embedded finance and BaaS models have accelerated the disruption of traditional financial systems while operating in distinctly different ways. Both rely on APIs to offer services, but their objectives, target audiences, and overall impact on financial transactions diverge. Here’s an overview of the differences and similarities between the two.

Embedded finance

Embedded finance injects financial services into platforms that focus on different activities. Whether it’s retail, travel booking, or social media, embedded finance allows these platforms to add banking features such as payments, loans, or insurance. This integration enables the platform’s customers to complete financial transactions without leaving the familiar platform they’re already using. For example, a ride-sharing app can offer its customers a loan for a trip, which is directly debited from an account linked within the same app.

Banking-as-a-service

BaaS provides the building blocks for financial services by offering businesses a menu of modular financial features via APIs. Think of it as banking à la carte, where a third party can choose which banking features to integrate into its platform. This is especially advantageous for fintech startups that want to launch quickly without establishing a full-fledged banking infrastructure. For instance, a fintech business could use BaaS to offer its customers the ability to create accounts, transfer money, and invest in the stock market, all through APIs provided by a partner bank.

Regulatory considerations

The two business models handle regulatory considerations in different ways. Businesses implementing embedded finance often partner with financial institutions to share compliance responsibilities because the primary platform usually lacks expertise in financial regulations. BaaS, however, usually involves a more direct relationship between the fintech business and its customers because the business functions like a bank to some degree. As a result, businesses offering BaaS are subject to more regulatory oversight, licensing requirements, reporting obligations, and requirements for in-house compliance officers.

Data and analytics

Embedded finance and BaaS offer different types of data for analysis. Embedded finance typically yields customer behavior insights for a specific activity or sector, such as retail or transportation. Businesses can use this data to refine financial product offerings within that context. BaaS yields more general financial data given its focus on standalone financial services. This data can be incredibly valuable, but it lacks the context-specific insights that embedded finance can offer.

Target markets

Both models attempt to fill gaps in current market offerings, but each is fine-tuned for different customer needs and preferences. Here’s a brief overview of what types of customers each model primarily targets:

Embedded finance

• General customers: Any person who engages with a customer-focused platform can be grouped into this category, especially those who value a one-stop-shop experience for diverse needs.
  
• Gig workers: With on-the-fly payment solutions embedded in their work platforms, these workers represent another significant customer group.
  
• Small-business owners: The needs of small-business owners, particularly those who operate online shops and need integrated payment or lending solutions, can be met with embedded finance.
  

Banking-as-a-service

• Fintech enthusiasts: BaaS often appeals to early adopters who are quick to try new financial products such as challenger banks and robo-advisors.
  
• Small and medium-sized enterprises: Businesses that want modular financial solutions without committing to a single banking entity can be a good fit for BaaS.
  
• Underbanked populations: BaaS can offer easier entry requirements and be more accessible to underbanked populations than traditional financial services.
  

Embedded finance models mostly target a broad customer base, with a strong focus on convenience and feature-rich experiences. BaaS has a more specialized target audience, including those who are dissatisfied with traditional banking options, require modular solutions, or are underrepresented in traditional financial systems.

Embedded finance extends the functionality of nonfinancial platforms to include financial services, while BaaS enables businesses to quickly offer standalone financial services. Both have important roles to play in the future of finance and are actively shaping how services are delivered, who delivers these services, and how customers interact with their financial lives.