Know Your Customer. The process followed by businesses and banks in order to verify the identity of their clients either before or during the time they do business with them. The purpose of these regulations is to prevent money laundering by criminal elements through financial services or regular businesses. They also help businesses better understand their customers and the way they deal with their finances.
KYC is usually split into four sections:
- Customer acceptance policies
- Customer identification procedures
- Transaction monitoring
- Risk management
By identifying suspect actors in the early stages of a relationship, these policies try to minimize the risk of fraud and illegal money use. Following these strict regulations require major expenses on the part of banks and some businesses. Only major organizations can afford such an expense. Such a situation has led to consolidation in the financial markets. Bigger banks have incorporated many smaller ones. As much as 10% of their personnel work in compliance activities.
The drawbacks of KYC
This has also reduced the willingness of banks to work with low-income or in many developing countries. As a result of KYC, Anti Money Laundering (AML) and other regulations, billions of people in the world cannot use any type of bank service.
Customers also feel that information requests are sometimes intrusive and onerous. It gets particularly inconvenient for those who don’t have a fixed address in one country. For example, retirees who move around or citizens who temporarily live abroad. They will find it increasingly difficult and expensive to open and maintain a bank account.
Digital nomadic individuals, who travel the world for business, sometimes cannot hold an account. They are not able to show a fixed address, utility bills or debt documentation. Therefore they increasingly resort to bitcoin or other cryptocurrencies. But you do need to comply with KYC when enrolling in most cryptocurrency exchanges and convert dollars or euro in crypto.
The USA is the main source of these regulations which have also been enacted as protection against terrorism. Yet every country has its own implementation and versions. In such a way, it becomes, even more, complicated to operate internationally.
Who needs to comply
The definition of customer in the KYC framework is wide-ranging.
- Any person or business entity which has a bank account or a business account
- A person who has an account that is being maintained on her behalf
- Beneficiaries of transactions performed by professional intermediaries like crypto exchanges, stockbrokers, attorneys, title companies and so forth.
- Anyone connected with a major transaction which could be a risk to the bank.
More definitions are possible at a local level.
KYC impacts the ability to open/maintain accounts and transfer money. It reduces the ability to do business if you are small. Compliance costs are substantial. Yet the complexity is such that banks still violate KYC rules occasionally, and sometimes intentionally.