Core Banking Architecture Explained: A Comprehensive Guide

Core banking architecture is the backbone of a bank's operations, handling critical functions such as account management, transaction processing, and customer data storage.

It's a complex system that requires careful planning and implementation to ensure efficiency and security.

The core banking architecture typically consists of multiple layers, including the presentation layer, business logic layer, and data storage layer.

Each layer plays a vital role in ensuring the smooth operation of the banking system.

In a typical core banking architecture, the presentation layer handles user interactions, such as online banking and mobile banking applications.

The business logic layer, on the other hand, manages the core banking functions, such as account opening, loan processing, and transaction management.

The data storage layer securely stores customer data and banking transactions.

A well-designed core banking architecture is essential for a bank's success, as it enables efficient and secure banking operations.

Retail banks serve retail customers and are characterized by a high share of loans on the balance sheet and high reliance on stable funding sources including deposits. Customer deposits are about two-thirds of the overall liabilities of the average bank in this group.

Retail banks provide financial products to individual and small business customers. They offer a range of deposit-taking products, including checking, savings, and money market accounts, as well as certificates of deposit (CDs).

Deposits are a liability to the bank, as they must make deposited funds available to customers on demand. Banks may offer modest interest rates on deposit products to encourage customers to maintain long-term funds in their accounts.

Loans are an asset to the bank, as they can borrow deposits to lend funds at higher interest rates than they are paying out on deposits. Banks earn net interest income on loans, which is defined as interest earned on loans less interest paid on deposits.

Retail banks have four primary revenue sources: interest, investment, interchange, and fee revenue. Interest revenue is earned through lending, while investment income is generated through balance sheet management activity.

Interchange revenue is earned through transaction activity, such as debit or credit card transactions. Banks also charge fees on certain products and services, including account maintenance, overdraft, and ATM withdrawal fees.

There are three types of retail banks in the United States based on asset size: community, regional, and large/national. Here are some key characteristics of each type of retail bank:

Legacy systems, such as those built on mainframe computers and traditional databases, are the backbone of many longstanding financial institutions. These older systems are often characterised by their rigidity, offering limited flexibility and scalability to adapt to the rapidly changing banking environment.

The high costs of maintaining these systems are due to their complexity and the dwindling availability of skilled professionals familiar with such technology. Mainframe reliance on COBOL, a programming language first introduced in 1959, creates a significant engineering resource problem as the language is no longer taught widely by computer science programs.

Legacy cores built on mainframes and servers may require middle layer technology to be compatible with more modern, API-driven modular components provided by fintechs. This can pose significant challenges for banks looking to modernize their tech stack.

A McKinsey report states that the cost of integrating legacy systems with modern technologies can be prohibitively costly, exceeding $50 million for a medium-sized bank and up to $400 million for larger banks.

Legacy core banking systems have been the backbone of many financial institutions for decades. They're typically built on mainframe computers and traditional databases, which have limited flexibility and scalability.

These systems are often rigid and inflexible, making it difficult for banks to adapt to the rapidly changing banking environment. Maintaining them incurs high costs due to their complexity.

The Gartner definition describes a core as "a back-end system that processes daily banking transactions and posts updates to accounts and other financial records." This includes deposit, loan, and credit processing capabilities, with interfaces to general ledger systems and reporting tools.

Celent research notes that cores serve as the bookkeeping tool for all accounts that reside at the bank and the money movement or transactions within them. This is essentially a technological replacement for a written bank general ledger.

Legacy cores rely on the underlying account information to support additional products and reporting. Add-ons must be compatible with the core to ensure seamless integration.

The US core banking market is highly concentrated, with Finastra, FIS, Fiserv, and Jack Henry holding 95% of core banking market share as recently as 2017.

Legacy cores built on mainframes and servers may require middle layer technology to be compatible with more modern, API-driven modular components provided by fintechs. This can create additional complexity and maintenance costs.

Here are some of the limitations of legacy systems:

The mainframe hybrid model is a game-changer for banks looking to modernize their legacy systems. By integrating core systems with a hybrid cloud architecture, banks can capitalize on the best of both worlds.

Mainframes are still a reliable and secure option, but they can also be optimized and modernized to take advantage of cloud scalability and innovation possibilities. This approach allows banks to modernize step-by-step, by adding and combining cloud-native features.

Brent Ellis, a Senior Analyst at Forrester, shares insights on the current state and future of mainframes, stating that they "aren't dying". In fact, mainframes are being modernized and optimized, rather than fully replaced.

By adopting a mainframe hybrid model, banks can place themselves in a best-of-both-worlds situation, with the reliability and security of mainframes, and the scalability and innovation possibilities of the cloud.

Here are the benefits of a mainframe hybrid model:

A modern core banking infrastructure is designed to be modular and adaptive, with a focus on providing a unified customer view. This means that customer data flows in real-time, streaming across applications and unified into one view to power hyper-personalized experiences and contextualized banking.

The modern core has embedded data analytics capabilities that improve customer engagement and risk management. Machine learning can help with loan loss mitigation, transaction limits, customer lifetime value, and other use cases.

A generic design is key to building truly innovative products, with computational abstraction enabling banks to develop one-pattern code that can be deployed for multiple products.

The modern core should support a range of database management systems, both enterprise and open source. This flexibility is essential for banks to adapt to changing business models and stay ahead in a fast-paced and competitive environment.

Here are the key characteristics of a customer-oriented design:

Core banking systems need to be designed with the customer in mind to provide a seamless experience. This means having a unified customer view, where all customer data is stored and managed in real-time, streaming across applications and unified into one view.

A unified customer view is essential for hyper-personalized experiences and contextualized banking. Unlike legacy systems where data is siloed, modern core banking systems should be designed to flow customer data in real-time.

The modern core banking system is built with a data analytics-driven mindset, improving customer engagement and risk management. Machine learning can help with loan loss mitigation, transaction limits, customer lifetime value, and other use cases.

The key characteristics of a customer-oriented design include:

A generic design allows banks to develop one-pattern code and deploy it for multiple products, such as lending, investing, and spending. This gives them the ability to superimpose business models and create truly innovative products.

The modern core banking system should be designed to be modular and atomic, with a unified customer view and a data analytics-driven mindset. This will enable banks to provide a seamless customer experience and stay competitive in the market.

To issue cards, a financial services entity must acquire a Principal membership from a specific card scheme, such as Mastercard or Visa, granting them the authority to issue cards directly.

This membership allows them to manage the entire lifecycle of a card, from issuance and activation to expiration and renewal, ensuring seamless and secure card operations.

Alternatively, they can act as an agent for an official card issuer or an IBAN sponsor, such as Decta or Wallester, in which case the core banking system integrates with the card issuer to provide card issuance.

Regulatory compliance and security are crucial aspects of core banking systems. Financial institutions have strengthened their cybersecurity frameworks to safeguard sensitive customer information.

The GDPR in Europe and global AML/KYC regulations are just a few examples of the stringent standards that banks must meet. These regulations emphasize the importance of data protection and security.

Existing frameworks like PSD2 are being built upon by forthcoming regulations such as PSD3 and amendments to the Payment Services Regulations (PSR). These updates require financial institutions to innovate in data protection and API management.

Core banking systems have evolved to integrate automated reporting and audit capabilities, ensuring ongoing compliance with changing regulatory requirements. This enables real-time monitoring and reporting of transactions.

Automated regulatory processes not only enhance operational efficiency but also reduce the likelihood of human error, ensuring accuracy and consistency in regulatory reporting.

Our customers rely on Oracle Core Banking Software to enhance business coverage and provide capital and resources to the financially underserved and unbanked.

This software helps financial institutions reach a wider customer base, making it possible for people without access to traditional banking services to participate in the economy.

By leveraging Oracle Core Banking Software, financial institutions can break down barriers and provide essential financial services to those who need them most.

Our customers are experiencing the benefits of Oracle Core Banking Software in a big way. They're able to enhance business coverage, which is especially important for reaching the financially underserved and unbanked populations.

Providing capital and resources to these groups is a key aspect of their business strategy. This allows them to offer financial services to people who might not have had access to them otherwise.

Customer Onboarding is a crucial step in building a strong relationship with new clients. It manages the registration and management of new clients and the setup of their accounts.

Collecting and verifying customer information is a key part of the onboarding process. This ensures compliance with regulatory requirements such as Know Your Customer (KYC) and Anti-Money Laundering (AML).

Automated workflows and seamless integration with external verification services significantly reduce manual effort. This minimizes errors and accelerates account activation.

A smooth onboarding experience is essential for customer satisfaction. It sets the stage for a positive ongoing relationship with the financial institution.

Expanding into new territories can be a game-changer for financial institutions looking to improve customer experience.

Customising banking services to align with local regulations, languages, and cultural preferences is crucial for success in new regions. This means adapting to unique local needs and tailoring services accordingly.

Compliance with local financial regulations and reporting requirements is essential to avoid any potential issues. It's like following the rules of the road when driving in a new country - you need to know the local laws to avoid getting lost or fined.

Partnerships with local institutions can also help financial institutions navigate new territories more effectively. By working with local experts, you can gain valuable insights and build trust with local customers.

Modern core banking systems can be adapted to meet different territories' regulatory and operational requirements, making it easier to enter new markets. This flexibility is key to delivering a seamless customer experience across different regions.

Running a more efficient system is crucial for any financial institution. A cloud-ready, microservices-rich architecture can help achieve this goal by unifying operations from front-to-back and accelerating connections.

According to Cap Gemini's 2024 World Retail Banking Report, 70% of chief experience officers (CXOs) surveyed plan to increase investment in digital transformation by up to 10%, with enhancing data management capabilities and modernizing legacy systems taking precedence.

To modernize legacy systems, banks can consider re-platforming to an upgraded platform, refactoring the codebase to a more modern language, augmenting with a parallel core, or replacing the existing core with a cloud-native or SaaS solution.

By adopting a cloud-native SaaS model, banks can enjoy significantly lower total cost of ownership, scalability, increased processing power, and lower operational costs.

Here are some key benefits of a cloud-native SaaS model:

In addition, a hybrid mainframe model can also be used to modernize legacy systems by integrating core systems with a hybrid cloud architecture, allowing banks to capitalize on mainframe reliability and security while also benefiting from cloud scalability and innovation possibilities.

Modern banking models are shifting towards a more flexible and scalable approach, known as the coreless model, which decouples from centralized and monolithic systems.

This composable approach follows the MACH architecture: microservices, API-first, cloud-native, and headless. It allows financial institutions to offer distributed services that are flexible, reliable, and secure.

According to Cap Gemini's 2024 World Retail Banking Report, 70% of chief experience officers plan to increase investment in digital transformation by up to 10%, with enhancing data management capabilities and modernizing legacy systems taking precedence.

Some key modern banking models include:

These models require a cultural shift that trickles down from the C-suite across the entire bank, and financial institutions can better adapt to market changes, innovate rapidly, and deliver superior customer service by adopting modern core banking systems.

The SaaS model is a cost-effective approach that allows banks to use services on demand, minimizing the use of cumbersome legacy platforms. By leveraging the expertise of experienced partners, banks can integrate more easily with other players in the financial services industry and offer pioneering products and services that delight customers.

This subscription- and cloud-based approach helps banks move away from the hardware infrastructure of traditional software. A third-party company operates SaaS platforms, rather than the bank's data center. The service provider manages and delivers core banking services over the Internet, and the bank accesses them via a web browser.

The SaaS model offers banks a number of advantages, including significantly lower total cost of ownership (TCO), scalability, and increased processing power. It also provides lower operational costs, seamless integration between APIs and back-end systems, and enhanced flexibility and agility.

Here are some of the benefits of the SaaS model:

Modern banking models are evolving to meet the changing needs of customers and the industry. Mainframes are still relevant in today's banking landscape.

Mainframes offer reliability and security, making them a valuable asset for banks. By integrating core systems with a hybrid cloud architecture, banks can capitalize on the best of both worlds.

Cloud scalability and innovation possibilities are key benefits of hybrid cloud architecture. This allows banks to modernize their mainframe landscape incrementally, without fully replacing legacy systems.

Coreless banking is a composable approach that follows the MACH architecture: microservices, API-first, cloud-native, and headless. This allows FIs to decouple from centralized and monolithic systems.

Coreless banking offers distributed services that are flexible, reliable, and secure. This is a significant departure from traditional core banking systems.

Mainframes aren't a thing of the past, as Brent Ellis, Senior Analyst at Forrester, emphasizes. They're being modernized step-by-step, by adding and combining cloud-native features.

Core banking systems can be categorized based on various criteria, such as architecture, deployment method, and technology. Here are the primary types:

Modern banking models are all about innovation and modernization. According to Cap Gemini's 2024 World Retail Banking Report, 70% of chief experience officers (CXOs) plan to increase investment in digital transformation by up to 10%.

Modern core banking systems are designed with cutting-edge architectures, offering flexibility, scalability, and ease of integration. These systems provide significant benefits, including an improved user experience and robust support for digital and mobile banking.

To modernize core banking systems, banks can consider several options, including re-platforming, refactoring, augmenting, or replacing the existing core with a cloud-native or SaaS solution. Deloitte suggests these modernization options, each with its own advantages and challenges.

Banks should ask themselves several questions when reviewing their options, such as: "Is our core system inhibiting operations?" "Has the market changed?" "Do we need to upgrade our core to meet evolving needs?" "How can we future-proof ourselves?" These questions can help guide the modernization process.

Modern core banking systems offer a range of benefits, including improved user experience, digital and mobile banking capabilities, and flexibility. By adopting modern core banking systems, financial institutions can better adapt to market changes, innovate rapidly, and deliver superior customer service.

Some of the key features of modern core banking systems include:

These features enable financial institutions to accelerate innovation-led growth, improve customer engagement, and deliver personalized services.