Know your Customer (KYC)
The Know Your Customer (KYC) principle - also called Customer Due Diligence
or CDD - prescribes that a financial institution has to know its customer well before they are accepted as a customer. Before someone can open an account, purchase an investment product or take out a mortgage or loan, he or she must be identified and screened: who is this person, of what country is he a tax resident, can he pose a risk, what are the intentions with regard to the financial product to be purchased?
Following various legislation including the Common Reporting Standard (CRS) and the Foreign Account Tax Compliance Act (FATCA), it has become mandatory for financial institutions to follow KYC (Know Your Customer)
norms while on-boarding any new customers. It is a one-time mandatory process. Specifically financial institutions like banks, mutual funds, insurance companies, NBFCs (Non Banking Financial Companies) are required to obtain information about the identity and address of their customers. This helps to ensure that their services are not used for unscrupulous activities like terror funding, corruption, bribery etc. Money laundering transactions can be tracked and traced conveniently.
Parties involved in KYC process
- The Customer / Investor
An investor is also a customer. When he approaches a financial institution to open an account, he is asked to carry out his KYC before opening the account. He needs to submit his KYC documents which includes his identity and address proof. Valid documents for identity and address proof are: passport, driving license, identity cards issued by government / statutory / professional bodies etc. If the address is missing in any of above documents, current utility bills like electricity, water, gas, telephone bills are accepted as valid address proof. The investor has to fill the KYC application form in full and submit it along with relevant documents to the financial institution. If the investor is non-individual (like a business), a separate set of form and documents are required.
- The Financial Institution
This is the interested party to obtain and preserve KYC information during the currency of relationship with the customer. Many Financial Institutions use the professional services of authorised KYC performing firms as it is not the core activity of their organisation. Only few Financial Institutions perform in-house KYC of their customers.
- A KYC processing firm
These are professional firms exclusively carrying out KYC processing for their clients (mainly financial institutions). The customer submits an KYC Application Form along with relevant identity and address proof documents. These firms do the due diligence of the information furnished in the application form and validate it with relevant proofs submitted with the form. Most of these activities are computerized validation checks. After all checks and validations, the KYC record is created in a centralized location. The records are stored securely by a central agency (see below). Successful records are shared with the Financial Institution for their consumption. If the information provided in the application form fails in the validation process, the discrepancy is reported back to the customer for his further action and rectification.
- A Central KYC Registry
This is a statutory organisation who is responsible to adopt and preserve KYC digital records securely at some central, secured location. They are made available for consumption of financial institutions whenever required. With the help of centralised storage and consumption modules, customers are not required to perform their KYC with every new clients as the stored records are shared per requirement.
The KYC Process
Below chart gives a fair idea of the KYC process and how it is performed.
An investor who want to become a customer of an organisation submits his KYC form along with relevant documents to a Financial Institution who passes it on to KYC Processing agency. After validating the information like name and address from submitted documents and the identity issuing organisations, a KYC record is created and shared with a Central KYC Registry for secured storage aimed at financial institutions to use it.
There are increasingly more convenient and faster ways devised to perform the process electronically which include identity verification using AI (artificial intelligence), machine learning and biometrics to further automate the verification process.