KYC or Know Your Customer standard stands for the mandatory verification of the client's data, usually by financial institutions in order to protect them against fraud, corruption, money laundering, and terrorist financing. Generally, the KYC verification allows financial institutions to check if customers really are who they say they are.
It doesn't matter if businesses sell goods or services, real, or digital assets – financial security is one of the highest priorities in the performance of any commercial organisation. In the world of fintech, all tools that take part in payment processing include strict security measures.
The KYC verification includes selection procedures for who can become a client, identification (passport data, biometric data), and transaction tracking and analysis.
As part of the KYC procedure, financial institutions – banks, stock exchanges, bookmakers, etc., use the documents confirming the client's identity. This can be, for instance, a valid identity card, utility bill with home address, insurance number, etc.
Analytical systems usually do not rely on historical data for all transactions but the actions of a particular client, determining its typical behaviour and actions. If a system detects a transaction that does not fit into the client's typical behaviour pattern, it signals the need for verification. Thus, KYC analysis solves the problem of separating all client's transactions into normal and suspicious ones.
Typically, customers' data is collected when opening a customer account in order to verify its accuracy. In case of receiving false data, all the following checks, for instance, the AML compliance program will lose their functionality. The requested data varies in different regions and organisations, but here are the possible examples:
Companies strongly convince users that by following the KYC rule, they will be able to protect customers from fraud. And themselves - from regulators' fines.
KYC software operates on the principle of collecting information and compiling a database. It helps companies to manage the identity verification process by allowing them to automatically identify high-risk customers while reducing the chance of human error and false responses.
The KYC represents a multi-stage operation that collects and analyses customers' personal information. In order to verify this data, financial institutions send the information to a variety of independent third-party reviewers. These organisations compare it with official databases to confirm that the information is correct and matches in all aspects. During the KYC procedure, they also compare information about the person under verification with global databases of criminals.
KYC compliance procedures vary depending on the nature of each business. The main stages of the process lay in data collection and verification. It also includes due diligence and ongoing user monitoring.
1. Customer Identification Program (CIP).
This is the most straightforward part of the KYC procedure. It consists of the usual collection and verification of customer information. As a rule, banks perform it at the time of registration. Cryptocurrency exchanges and other institutions whose requirements are not as strict start the procedure after registration. This part of the procedure helps to detect possible identity theft and stop crimes. The CIP is recommended by FATF and is required by many jurisdictions in the world.
2. Customer Due Diligence (CDD).
After the verification, companies may also verify the client's background for risk assessment. If a client has been involved in financial scams or an investigation, this will be revealed during the KYC background check process. As a rule, low-risk customers do not need to undergo strict Customer Due diligence, but high-risk entities do. Those with high volumes of transactions are also subject to strict CDD checks.
3. Constant monitoring.
Another benefit of the KYC procedure is the ability to constantly monitor the customer's or entity's financial health and risk tolerance. Continuous monitoring ensures that verification data is up-to-date and allows the system to analyse suspicious transactions carefully. According to the US government, the procedure enables tracking transactions to countries involved in terrorism. Depending on the outcome of the investigation, the exchange may suspend the account and report the issue to regulatory and law enforcement agencies.
Ensuring effective KYC procedures are in place at account opening helps deter money launderers and other financial criminals from becoming active in your services. The customer information obtained at onboarding also improves the monitoring process, as it provides insight into the account and the expected use of funds.