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KYC: Definition and importance for your company in 2023

You’ve probably heard of KYC, the abbreviation for Know Your Customer. But what exactly does that mean? For banks and financial institutions, this is a legal obligation that must be complied with. This process enables them to identify their customers and ensure that their services are not used for illegal purposes. According to a World Bank study (2019), KYC is a fundamental means of combating fraud and money laundering. It is one of the main instruments of the LCB-FT, or “Fight against money laundering and the financing of terrorism”. Banks and financial institutions that fail to comply with regulatory requirements risk penalties of up to €5 million. In 2020, banks and monetary institutions around the world were fined around €20 billion for failing to comply with know-your-customer rules. KYC is therefore an essential element for banks and financial institutions. But what are its main advantages? How can this procedure help your company comply with regulations? Finally, how can artificial intelligence technologies help you improve your processes and build a relationship of trust with your customers?

Definition of KYC (Know Your Customer)

What is KYC?

KYC (Know YourCustomer) is the name given to the process used to verify the identity of a company’s customers. Often associated with banking regulations, it is widely used by companies of all sizes to ensure the probity and integrity of their customers in order to comply with anti-corruption laws. KYC is also a key tool for preventingidentity theft, tax fraud, money laundering and the financing of terrorism.

This process typically involves data collection and analysis, list verification (such as of politically exposed persons), behavior and transaction analysis, and other methods of verifying customer identity and history. Companies use KYC to protect themselves and their customers from the risks associated with criminal activity.

The different types of KYC

There are 3 types of KYC, which can be classified according to the purpose of the audit:

Documentary: the aim is to check the supporting documents provided by the customer to ensure that they are authentic and up to date. This can include identification, tax returns and account statements.
Data: This involves verifying the personal information provided by the customer to ensure that it is accurate and up-to-date. This may include details such as name, address, telephone number and e-mail address.
Background: As the name suggests, this involves checking his or her background to ensure that he or she is not involved in any illegal practices or practices likely to harm the company’s interests.

What’s more, more and more financial institutions are using technologies such as OCR (Optical Character Recognition), RPA (Robotic Process Automation), or AI (Artificial Intelligence) to improve their KYC security controls. Implementing these solutions means that the information and documentary evidence provided by consumers can be verified more quickly and efficiently, speeding up the process. What’s more, some companies have implemented automated systems to reduce overall risk.

What are the differences between KYC, KYB and KYT?

While these three processes are very similar, their functionality is different. So let’s take a closer look at what they have to offer.

KYB (Know Your Business) definition

KYB enables you to identify businesses and suppliers and monitor their activities. It is mainly used to verify that the latter are legitimate commercial entities, and that they comply with the laws and regulations governing their field of activity, before establishing an economic or contractual relationship with them. This is known as“due diligence” or “legal audit”. The aim is to understand the real situation of the company or person concerned, and to ascertain with certainty that they have not committed or are not committing any offences, nor do they intend to do so. Due diligence is used in B2B trade, acquisitions and mergers.

KYT (Know Your Transaction) definition

KYT enables companies to monitor their transactions and detect fraud and money-laundering. It is widely used by banks and other monetary institutions.

Differences between KYC, KYB and KYT

While the primary aim of the 3 is to help companies comply with rules and legislation to combat the financing of terrorism, money laundering and tax fraud, the purpose and intent of the identification procedure are different. KYC is mainly used to identify a company’s customers, KYB is mainly used to verify the identity of companies and suppliers, and KYT is mainly used to monitor money movements.

In addition, the 3 are governed by different authorities. KYC is governed by European and French legislation, KYB by the OCR (Office of the Comptroller of the Currency) and KYT by the RPA (Responsible Payment Authority).

Finally, KYC, KYB and KYT are all based on different technologies. The first is generally based on customer identification technologies (CID), such as OCR, RPA KYB is based on data management technologies such as data analysis and, finally, the KYT is generally based on money transaction monitoring technologies such as risk analysis.

Why is KYC important in finance?

KYC: a legal obligation for banks and financial institutions

KYC is a process that enables banks and other financial institutions to verify and authenticate the identity of the people with whom they come into contact. Also known as Due Diligence, this is a legal obligation, but also a valuable tool for reducing the risk of fraud. KYC is defined by the French Monetary and Financial Code, which requires financial institutions to equip themselves with the necessary tools to collect and verify customers’ personal identifying information. To do this, financial institutions need to obtain information such as name, address, telephone number, date of birth and ID number. They must also verify their accuracy using technologies such as OCR (Optical Character Recognition) and AI (Artificial Intelligence). KYC may also include additional procedures such as inspection of customer-provided credentials and banking and employment history. Once correctly identified, financial institutions can assess whether they want to establish or maintain a business relationship with them.

Penalties for non-compliance with KYC rules

Monetary institutions must comply with all applicable laws and regulations. Failure to comply with these rules may result in sanctions, including fines and imprisonment. In France, failure to comply with KYC regulations can result in fines of up to 5 million euros and prison sentences of up to 5 years. Finance companies are also required to report any suspicious activity to the competent authority. Failure to do so may also result in fines and imprisonment. For example, in France, failure to comply with reporting obligations can result in fines of up to €1 million and prison sentences of up to 3 years.

The benefits of KYC in the fight against money laundering

KYC is an essential tool for LCB-FT compliance, enabling financial institutions to better understand their customers and detect illicit transactions more quickly. It is also particularly useful for managing the risks associated with new technologies (deepface, deepvoice…). It enables finance companies to better control their actions and ensure that they comply with AML (Anti Money Laundering) regulations. Finally, it is also a valuable tool for protecting customers’ personal data and ensuring their confidentiality. For example, a banking group or company can use it to check that customers are who they say they are, and to ensure that their personal information is not stolen or misused.

KYC-related legal obligations

When is KYC required?

It is required when a customer initiates a business relationship with a company or group. This obligation also arises when the latter wishes to carry out major money transfers such as international bank transfers or currency movements. What’s more, some companies may be required to implement it if they suspect fraudulent or illicit activity.

Who does KYC concern?

It applies to all individuals and companies who interact with financial institutions, including individuals, large groups, financial institutions and government bodies. In some cases, it may also apply to non-financial entities, such as real estate companies, law firms and service companies.

Sectors affected by KYC rules

The main sectors affected by this measure are banking and financial services, insurance, foreign exchange, payment services, credit cards and online transactions. Professional establishments providing these services must ensure that their customers are correctly identified, and that they provide the necessary documents to confirm their identity.

What are the legal constraints for these organizations?

The organizations concerned are required to comply with the KYC standards in force in their country, and to take steps to ensure that their customers are properly identified and their data verified. Indeed, the 4th European Directive, transposed into the Monetary and Financial Code (CMF) by the Order of December 1, 2016, requires in particular:

Identifying and checking the identity of customers and their beneficial owners
The implementation of vigilance measures right from the start of the business relationship between the two parties

This directive also reinforces the previous ones, to keep pace with market developments and technological advances in the fight against fraud.

Sectors concerned by KYC must also implement systems to monitor the activities of their consumers in order to detect potential risk.

In Europe, it must ensure that its identification processes comply with the various legislation in force. This involves collecting and keeping identification files and personal information on customers, so that they can be identified and verified. It can also use technologies such as optical character recognition (OCR) and artificial intelligence to automate its processes.

In addition, companies need to ensure that their procedures are kept up to date with legislative and regulatory changes. They must also introduce policies and procedures to ensure compliance with the rules and prevent any form of violation. Finally, professional institutions must clearly communicate their KYC policies to their customers, and ensure that they understand their obligations and responsibilities.

What are the steps involved in KYC?

Step 1: Data collection

The first step is to gather information about the customer. These can include identity documents such as ID cards or passports, as well as proof of residence and bank statements. It’s also important to know the type of professional relationship you have with your customers and the nature of your business activity. This information can be gathered through questionnaires, interviews or automated systems such as Optical Character Recognition (OCR) and Robotic Process Automation (RPA).

Step 2: Checking information

Once collected, you need to check them. This means comparing the personal information provided by the customer with that contained in available public and private databases. For example, you can check whether a customer’s name and address match those on their NIC. You can also check whether he or she is on any sanctions or blacklists, or whether his or her name appears on any public registers. Data control can be carried out manually or automatically with data analysis tools using Artificial Intelligence technologies. Whether it is done in person (KYC) or remotely (eKYC), this stage is known as Customer Due Diligence (CDD).

Step 3: Risk analysis

Once you’ve collected and verified the data, you need to analyze the risks associated with business, contractual or commercial relationships. This means determining whether the latter is likely to be involved in illegal activity, such as tax fraud. To do this, you need to examine the nature of the relationship, the customer profile and the type of business activity. You will also need to take into account country-specific factors, such as local laws and regulations, and industry-specific factors, such as compliance standards. Once you’ve identified the potential risks, you need to decide whether or not you want to maintain the business relationship.

KYC is a complex and time-consuming process. However, by implementing appropriate procedures, a bank can improve its compliance and protect its business relationships. In France and Europe, this measure is mandatory for companies subject to AML (Anti Money Laundering) regulations. So, by implementing an effective customer identification strategy and complying with compliance standards, they can protect their collaborations and reduce the risk of fraud.

What documents does KYC require?

Documents required for individuals (KYC)

For private customers, the files and documents required vary from country to country. In most cases, account holders must provide proof of identity and residence. This may include a national or foreign identity document (CNI), passport, residence permit, driving license or any other document recognized by law. Additional proof may be requested to certify the source of funds or for other reasons.

Documents required for companies (KYB)

As part of a KYB process, a company or group may be required to provide additional files. These typically include copies of articles of association, registration certificates, tax certificates, tax return forms, commercial contracts and financial statements. These companies can also provide additional information on their owners, directors and principal shareholders.

How should documents be supplied?

KYC can be carried out in person (in a branch, for example) or online. The latter is known as eKYC. Depending on the process chosen, the format can be paper or digital. To check data accuracy, professional establishments use technologies such as Optical Character Recognition (OCR) and Robotic Process Automation (RPA). These digital tools can analyze and extract precise information, regardless of the format used. OCR technology can also be used to convert paper proofs into digital format, facilitating data processing.

The advantages and disadvantages of KYC

The benefits of KYC

Here are some of its advantages:

It enables us to comply with legal requirements in terms of customer knowledge.
It enables companies to better understand their customers and build a relationship of trust.
It offers greater security for monetary transactions.
It helps prevent the risk of LCB-FT non-compliance.
It enables companies to collect customer data and use it to improve their services.
It can be carried out using technologies such as OCR, RPA and AI, simplifying and accelerating the process.

The disadvantages of KYC

Here are some of its main weaknesses:

It can be costly and time-consuming to implement.
It can be difficult for some companies to collect the necessary data and supporting documents.
It can make the user experience (UX) long and tedious, and thus become a source of frustration for their users, as they have to provide numerous proofs.

How can you maximize its benefits and minimize its drawbacks?

To make the most of the KYC procedure and minimize its drawbacks, it’s important to adopt a strategic approach. Here are a few tips to optimize it:

Use technological tools to automate and accelerate the process.
Make sure your employees are well trained.
Keep a record of the data and files collected, to facilitate subsequent checks.
Take account of local and international regulations, particularly those relating to LCB-FT.
Communicate clearly with your customers to explain the process.

KYC and customer onboarding

Customer onboarding is the first step in the KYC process. Used in a wide range of fields, including finance and real estate, its digitization has made it possible to verify the identity and supporting documents of prospective customers more quickly, while guaranteeing a smoother user experience. Indeed, Artificial Intelligence (AI) technologies have enabled companies, for example, to automate the KYC procedures required to open a bank account or rent an apartment, by checking users’ identities and the authenticity of their supporting documents more easily and quickly. Thanks to these technologies, they can now carry out in-depth, real-time analysis of documents such as identity cards, passports and driving licenses. Finally, these AI technologies can detect different types of fraud, guaranteeing better compliance with various regulatory requirements

KYC and regulatory compliance

KYC is a fundamental process for ensuring that financial institutions comply with anti-money laundering and combating the financing of terrorism (LCB-FT) regulations. In this context, it is an essential tool for identifying and authenticating customers, as well as monitoring their monetary exchanges. For the purposes of regulatory compliance, companies need to ensure its robustness in the fight against fraud. For example, archiving with probative value is an effective solution for preventing fraudulent practices. This involves recording and storing documentary evidence and information for control and proof purposes. What’s more, companies can also implement fraud detection solutions based on artificial intelligence and algorithms that can quickly and efficiently analyze customer data. In short, regulatory compliance is essential in the fight against fraud. What other tools can be used to strengthen KYC?