Every bank stores information on its clients. On the one hand, personal data helps to calculate the client’s creditworthiness and thus significantly reduces the risk of potential insolvency. On a more global level, the wise use of personal data may help with detecting and preventing criminal behaviors around the world — such as the financing of terrorism or corruption.
Global efforts to prevent the financing of terrorism and money laundering are remarkably expensive for financial institutions — over $25 billion is spent each year on financial crime risk management in the banking sector, according to current estimates. A large percentage of the cost is dedicated to Know Your Customer (KYC) procedure — the backbone of risk management in banking.
Today, we will talk about what exactly KYC is and how it works today. We’ll address the bottlenecks associated with the process and talk about ways to increase the KYC efficiency and cut costs. Let’s dive right into it!
KYC (or KYC check) is the mandatory process of verifying the identity, suitability, and risks involved with establishing and maintaining a business relationship with a client. Banks, export creditors, insurers, and other financial institutions conduct KYC when opening a new account and periodically over time. In simple words, KYC is aimed at verification that the bank’s clients are genuinely who they claim to be.
The four key elements of KYC are customer acceptance policy, monitoring of transactions, risk management, and customer identification procedures. The latter includes ID card and biometric verification, face verification, and document verification (e.g. utility bills — to prove the address).
KYC processes are not optional — banks must comply with the regulations to limit fraud. If a financial institution fails to comply with KYC requirements, heavy penalties can be applied. Europe, the United States, the Middle East, and the Asia Pacific have paid a cumulated $26 billion in fines for non-compliance with KYC and anti-money laundering (AML) in the past 10 years. Add to this the reputational damage — and the size of the issue becomes enormous.
Although KYC processes are of critical importance to financial institutions, they are for the most part extremely inefficient — with labor-intensive and time-consuming processes, high risk of error, and duplication of effort between banks. According to recent estimates, almost 80% of the KYC effort is dedicated to the gathering and processing of client information, and only about 20% to monitoring and assessing data for critical and actionable insights. KYC processes are incredibly inefficient on the client-side as well. Customers undergo repetitive questioning from different banks and long processing times — KYC requests delay transactions, taking about 30-50 days to complete to a satisfactory level.
Despite the obvious issues, it’s not all doom and gloom with KYC processes — there are certainly ways of facilitating them. The first and most obvious solution is to drive efficiency by speeding up the procedure. With this in mind, many financial institutions turn to AI and cognitive tech to automate the KYC procedure.
While centralized solutions may help with the alleviation of some of the KYC issues, they do not solve the problem fundamentally. Luckily, there is a different path — the one opened up by decentralized technologies. Blockchain, although best known as the foundation for Bitcoin and other cryptocurrencies, could be an elegant comprehensive solution to major KYC bottlenecks.
Firstly, the use of blockchain technology can reduce operational inefficiencies by allowing for fast digital process flow and the ability to share customer data. It can both speed up customer onboarding and reduce corresponding KYC and regulatory compliance costs. Secondly, Blockchain will ensure the immutability and transparency of the information due to its decentralized architecture. And last but not least, it will enable up-to-date customer data. Information on each transaction will be put into the shared distributed ledger as soon as the transaction is made, so multiple participating institutions can rely on the same relevant data.
KYC is done as a precaution against money laundering, corruption or bribery, and other illegal activities. However, although being an essential component of financial institutions’ operations, KYC today is largely inefficient and extremely expensive.
One solution to some of the issues associated with KYC is automation. Surely, it will facilitate the whole process but, unfortunately, it cannot tackle all the major bottlenecks. Another solution is making KYC data decentralized by employing the blockchain technology. At Idealogic, we are blockchain pioneers and enthusiasts, and we truly believe that it could be of great use to the modern financial system — especially as a foundation of a viable KYC utility.