Know your customer (KYC)

Definition

“Know your customer” (KYC) is a regulatory and due diligence process that financial institutions and businesses use to verify the identity of their customers.

What is know your customer?

The primary purpose of KYC is to prevent money laundering, fraud, terrorist financing, and other illegal activities by ensuring that individuals or entities engaging in financial transactions are who they claim to be.

Key components of the KYC process typically include:

1. Customer identification: Gathering and verifying the identity information of customers, such as their name, date of birth, address, and government-issued identification (e.g., passport, driver’s license, or national ID card).

2. Risk assessment: Assessing the risk associated with each customer based on various factors, including their location, type of business, and the nature of their financial transactions. Higher-risk customers may require more stringent scrutiny.

3. Ongoing monitoring: Continuously monitoring customer transactions for any suspicious or unusual activity that may indicate illegal behaviour. This helps in detecting and reporting potentially illicit activities to relevant authorities.

4. Customer due diligence (CDD): Conducting thorough background checks and verifying the source of funds for high-risk customers, particularly in cases involving large financial transactions.

5. Compliance with regulations: Ensuring that the KYC process complies with local and international regulations and standards, which vary from one jurisdiction to another. Regulatory bodies often set guidelines for KYC procedures to combat financial crimes.

6. Record-keeping: Maintaining detailed records of customer information, transactions, and KYC documentation. These records are often subject to regulatory audits.

Financial institutions, including banks, investment firms, and money service businesses, are legally obligated to implement KYC procedures as part of their anti-money laundering (AML) and counter-terrorist financing (CTF) efforts. Additionally, businesses in other industries, such as real estate and fintech, may also adopt KYC practices to mitigate risks associated with their customers.

The KYC process not only helps prevent illicit activities but also contributes to the integrity and transparency of financial systems by ensuring that individuals and entities engaged in financial transactions are legitimate and reputable.

Example of know your customer

Sarah, a prospective customer, walks into a local bank branch to open a new account. She expresses interest in various banking services, including a savings account and a credit card. The bank representative informs Sarah about the KYC requirements. Sarah is asked to provide certain documents to verify her identity, address, and financial information.

Sarah submits the required documents to the bank. The bank’s KYC team carefully reviews and verifies the information provided. This process helps ensure that Sarah is who she claims to be and that the bank complies with regulatory requirements.

Once the KYC process is completed, and Sarah’s information is verified, the bank approves the account opening. Sarah is provided with the necessary account details, and her relationship with the bank officially begins.

In this example, the KYC process is applied to establish and maintain a banking relationship with a new customer, ensuring compliance with regulatory standards and minimising the risk of financial crimes.