There’s been a shift in recent years that’s greatly expanded consumers’ access to financial services. With the emergence of financial APIs, consumers can quickly, easily, and safely share their financial data with a greater number of financial providers whose products and services can meet their needs.
Financial APIs have enabled the rise of financial technology—also known as fintech—opening the door for thousands of new financial apps and services that have changed the way millions of people interact with their finances.
In fact, 88% of US consumers reported using fintech in 2021, confirming the mass adoption of what was once considered fringe. All of these new financial possibilities and experiences wouldn’t exist without financial APIs.
In this article, we’ll cover what financial APIs are, how they work, why companies should use them, and the future they’re creating.
What does API stand for?
API stands for application programming interface. APIs connect and share data between disparate software systems, allowing otherwise siloed data to be used across applications.
For example, if your business has software for tracking invoices and separate software for shipping products, an API could connect the two systems. That way, you can see what invoices have been paid from within the shipping software, then decide when to ship goods based on that information.
Of course, there is more to APIs than connecting disparate systems. The data needs to be useful and readable to a user.
Consider travel websites like Hotwire, Expedia, and Kayak. When you enter your search parameters, the site uses its API connections to a wide variety of hotels, airlines, and car rental companies to aggregate the most useful information based on your search and connects you for booking. The site is not only connecting disparate data but making it readable and useful to you in real time.
What is a financial API?
In the financial world, there are different kinds of APIs. Brokerage APIs are used to gather data on the stock and cryptocurrency markets to help investors gain insights and make faster, better-informed trading decisions. Examples include Yahoo Finance API and Alpha Vantage.
Another kind of financial API, often referred to as “banking APIs” or “open banking APIs” helps people connect their bank accounts to financial services. These financial APIs open up a new realm of financial access by enabling new apps and services to be built using safe and secure connections to financial account data.
Examples of financial services built with financial APIs include a peer-to-peer lending marketplace, a used-car payments platform, and an industry-leading rewards platform—the possibilities are endless.
For this article, we’ll focus on APIs that connect financial accounts to financial apps and services.
What are the 3 types of financial APIs?
Within the financial services and banking industries, there are three common types of financial APIs.
Also known as private APIs, internal APIs are used inside of organizations (in this case, a financial institution) to improve efficiency, develop products, and more safely manage data. These APIs promote internal collaboration, save money through automation, and facilitate safe data exchange between internal groups.
Partner APIs create a data connection between two organizations. These APIs often serve as the connection between a third-party partner and a bank. Usually, the third party helps the bank create a new product or service, such as a personal financial management tool or a faster way to process loan applications. Examples of third-party partners include Jack Henry and Q2.
Partner APIs benefit banks by creating better services for their customers, and benefit third parties by enabling them to create products and services with secure financial data from banks.
Unlike partner APIs, open APIs make financial data available to multiple third-party service providers, rather than just one. By enabling banking customers to safely share information such as their account and routing numbers, balances, and transactions history, open APIs enable the creation of helpful financial apps and services.
With open APIs, security and privacy are top concerns for third parties, banks, and consumers. That’s why Plaid only shares consumers’ data with their permission and employs security practices that meet or exceed industry standards.
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How do financial APIs work?
With financial APIs, banks build dedicated endpoints to enable third-party institutions—such as app developers or data networks—to access consumer-permissioned data. When they do this, they give restricted access in order to keep customer data secure and ensure that it’s accessed only with their customers’ permission. These data connections allow third parties to carry out functions such as account balance checks, transaction history lookups, account and routing number verification, and more.
With open financial APIs, there is typically a data network involved that acts as an “API connector” between fintech apps and financial institutions. Because the data network connects with all financial institutions, the fintech app doesn’t have to. Instead, they leverage the data network as a single integration to allow customers to connect accounts from nearly any financial institution to do things like create a budget, buy a car, or fund a trading account.
An open financial API that allows someone to connect their bank account to fund a trading app like Robinhood works like this:
1. A financial institution establishes dedicated API endpoints for third parties to call to obtain specific types of information with consumers’ permission. This allows the data network to integrate with that API so that it can access user-permissioned financial account data such as account numbers, balances, transactions history, or other data.
2. Developers from the trading app integrate it with the data network’s open API. This gives them the ability to allow customers to link accounts through any financial institution that’s also connected with the data network.
3. When one of the trading app’s customers wants to connect their existing financial account to fund their account on the app, the data network will authenticate the customer by prompting them to enter their existing account’s username and password. If the login is successful, the data network will create an “API token” between themselves and the financial institution that replaces the credentials so they don’t have to be stored, therefore reducing risk. This token allows for an ongoing connection between the financial account and data network, which can access the data to share with the trading app.
4. Once an API token has been created between the financial institution and the data network to establish a new customer’s credentials, the data network creates another token. The trading app will use this new token to make “API calls” to the data network. When these API calls are made, the data network uses the bank API to fetch financial data to perform an action that the customer requests, such as funding the trading app or withdrawing funds from the app to their bank account.
Why use financial APIs?
Beyond creating innovative financial services and gaining access to large markets, reasons to use financial APIs include:
Safe access to user-permissioned data
Financial APIs provide a safe way to create financial apps and services based on different types of available financial account data, such as account and routing numbers, account balances, transactions data, investment holdings, and others.
When a business uses a Plaid API to connect this type of data to financial services, they can be sure that the user has given permission for the data to be accessed and security practices that meet or exceed industry standards are protecting their users’ financial information.
Fast, efficient, and cost-effective financial access
Compared to traditional financial services that typically require customers or employees to comb through files in disparate data systems, financial APIs provide the same services in a more efficient and cost-effective way.
For example, a customer applying for a loan may need to provide bank statements, their income history, and financial information to qualify. With a financial API, the customer can share that information programmatically, directly from their account. This saves both the customer and the lender time and money.
This cost-effective way of sharing financial information helps both banks and fintechs tailor financial services to their customers’ unique needs. Financial APIs expedite services that once took significant time and money to provide, making them more cost-efficient, and user-friendly.
Future-proofing financial services
New fintechs are constantly entering the market. As of 2021, there were 79 fintech unicorns (companies with an over $1B valuation). Most of these companies are built atop of financial APIs and are striving to improve the technology. This means that future investment in financial APIs from these emerging companies is likely to grow.
Traditional banks are also increasingly relying on APIs to power new apps and services; and many are partnering with API-based fintechs to do so. Over 91% of banks expect to partner with fintech companies to increase their speed-to-market and ability to serve their customers. To achieve this, banks and the fintech companies they partner with will use financial APIs.
Due to the growth of APIs across the financial sector, future investment will continue in the technology. Those building services with API technology are working with something set to improve over time.
How does Plaid support open financial APIs?
Over 5,500 fintech apps are integrated with Plaid APIs. To help make it easier for financial institutions to grant their customers access to these apps—and to give them greater control over their financial data—we’ve created Core Exchange.
Core Exchange is a no-cost, Financial Data Exchange (FDX) compliant API specification—a scaled-down version of the API standard that’s easy to implement. Core Exchange only includes the data fields necessary to power the majority of popular fintech apps (Plaid’s customers). It also includes a detailed implementation guide (under 15 pages) and a validation tool.
Core Exchange offers interoperable APIs that work not just with Plaid-powered apps, but with other fintech apps as well. It works like a bridge between financial institutions and the API-powered fintech ecosystem. Plaid supports data partners throughout their implementation, which can be completed in six to eight weeks.
The consumer-first world of financial APIs
In the past, people’s choices on where to go for financial services were limited. Now, they have limitless choices through a financial ecosystem built on APIs.
People can seamlessly switch between mobile banking, personalized budgeting tools, and investment and trading platforms that are all connected to their financial accounts through financial APIs. The thousands of new financial tools that emerged from this API revolution have filled many gaps in people’s financial needs and have created new ways for financial freedom to be achieved.
The new world of API-based financial services is a connected financial ecosystem. People no longer have all their accounts, investments, loans, and financial tools through one institution, but through a connected web of services and platforms (which are easily connected to their main financial account through APIs). Consumers can now expect more from their financial products and services, thanks to the potential that financial APIs create.