In 2023, fraud losses jumped to $10 billion, up more than 14%. One way to fight fraud and money laundering is by stopping anonymous accounts and keeping an eye on suspicious activity. Financial companies do this with KYC, where they learn about their customers and track risks.
Despite the fact that the programs designed to deal with KYC regulations are products of different organizations, banks, credit unions, and Fortune 500 financial institutions still need to follow the regulations in complex ways to verify clients without fail, a process referred to as KYC.
Compliance with KYC is the most important part for many businesses in different industries. Not complying with KYC can result in fines and is likely to increase the risk of fraud and mistrust.
What is KYC?
“Know Your Customer” is the full form of KYC. It is a due diligence process that financial companies use to make sure that customer identity is true and to evaluate their risk. This practice helps regulate and prevent terrorism financing, money laundering, and several common fraud schemes. Banks can also better spot suspicious activities by confirming a customer’s identity and reasons when opening an account and watching their transactions.
For KYC, customers should provide their identity and address proof, such as an ID card, facial recognition, biometric verification, and/or document verification like a passport, a driver’s license, or a utility bill.
KYC is an important practice to check clients’ risk and see if they meet the requirements for a financial institution to offer services. It’s also legally required to follow Anti-Money Laundering (AML) laws. Financial institutions have to make sure their customers aren’t breaking any laws while using their services.
Why is KYC important in banking?
Three reasons make KYC verification in banking essential:
- Monetary protection: KYC provides strong protection against various financial crimes, such as money laundering, identity theft, financing of terrorism, etc. Banks can detect suspicious activity and prevent fraud by verifying the identities of their customers and their financial transactions.
- Mandatory law: KYC is not only a recommended practice; it is required by law in many places. Banks that violate regulations may face steep fines and harm to their reputation.
- Establishing trust: KYC helps customers and banks have greater trust in one another. If customers know that their bank is dedicated to security and enforcing regulations, they will feel more secure in their banking relationship.
Who needs KYC processes?
Any financial institution that works with clients to open and maintain financial accounts must have KYC. Standard KYC requirements procedures usually apply when a business onboards a new client or when a current client purchases a regulated product.
The following financial institutions must adhere to KYC requirements protocols:
- Banks
- Credit Unions
- Companies that manage wealth and brokers-dealers
- Applications for finance technology, or fintech apps, vary depending on the activities they engage in.
- Lending platforms and private lenders
KYC regulations are becoming increasingly important for nearly every institution that handles financial transactions, including almost all businesses. To prevent fraud, banks must adhere to KYC regulations; however, they also transfer these obligations to businesses with which they transact.
What leads to the need for KYC re-verification?
Organizations may need to reverify customers with an updated KYC requirements process for specific activities. KYC re-verification triggers can include:
- Abnormal behavior in transactions
- Fresh details or modifications for the client
- The client’s occupation has changed
- Modifications to a client’s business model
- Participant additions to an account
A bank may identify risk factors such as frequent wire transfers, international transactions, and interactions with off-shore financial centers through initial due diligence and ongoing monitoring. After that, a “high-risk” account is watched over more closely, and the user may occasionally be questioned about transactions or other KYC-related details.
What are the Components of KYC in Banking?
Bank-specific KYC processes and procedures differ, but three basic elements are typical:
1. Customer Identification Program
The first step is obtaining and verifying customer data, such as name, date of birth, address, and passports or driver’s licenses. Identity verification ensures that the person or business customer is who they claim to be.
2. Customer Due Diligence (CDD)
CDD assesses a customer’s risk by looking at their transaction history, source of funds, and occupation. This guarantees that the client is not engaged in any illicit activities. Banks may categorize CDD as:
- Simplified Due Diligence (SDD): A streamlined procedure for low-risk clients who are not likely to participate in money laundering or terrorism financing.
- Enhanced Due Diligence: To detect and lessen financial crimes such as money laundering and terrorism financing, enhanced due diligence (EDD) is a more comprehensive process that investigates high-risk clients.
3. Ongoing Monitoring
Banks must monitor customer identity verification accounts and transactions for unusual or suspicious activity to comply with regulations and identify risks. Legally speaking, banks must alert authorities if an investigation reveals questionable or unlawful activity.
AML and KYC: How Do They Differ?
Businesses and banks use KYC (Know Your Customer) and AML (Anti-Money Laundering) as related but different methods to stop financial crime. Here are the main differences between KYC and AML:
| Aspect | AML | KYC |
|---|---|---|
| Purpose | To find and prevent money laundering or financing for terrorism. | To establish and check customer identities and keep an eye on their financial behavior. |
| Process | They develop customer checks so as to evaluate money laundering possibilities and detect suspicious transactions while being strictly compliant with the regulations. | Collecting and checking customers’ information, such as their name, address, date of birth, and company papers. |
| Features | Assessing risks, providing reports, continuous monitoring, training, and examining internal policies, procedures, and controls. | Customer identification and verification, customer due diligence, getting management approvals, and using dual controls. |
What is KYC Automation in the Banking Sector?
Banks must stay on top of KYC regulations in an environment where regulations always change to avoid penalties and heavy fines. However, given that conventional KYC procedures are infamous for being time-consuming, costly, and prone to errors, how can the bank achieve this success? In addition, manual processes cause banks to onboard new customers much more slowly.
Adopting KYC verification automation is imperative to surmount these challenges and expedite, optimize, and minimize business risk associated with KYC operations. KYC automation reduces manual data entry and human intervention while streamlining and optimizing the KYC workflow with state-of-the-art software. The most obvious advantages of KYC automation are:
- Increased effectiveness of operations
- Labor expenses for manual data entry and verification are lower
- Reduced possibility of human error
- More thorough and uniform risk evaluations
- Expedited the onboarding of customers
- Increased total competitiveness in the ever-changing banking sector
What documents are needed for KYC?
To meet the KYC verification requirements, you have to provide the following documents:
- Proof of Identity
- Address
- ID card verification
- Face verification
- Biometric Verification
- Document verification such as passport, driver’s license, etc.
How Costly is KYC for Businesses?
In 2023, financial institutions spent about $58 billion on AML-KYC compliance technology and operations. On top of that, skipping the KYC process can cause big cost increases.
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