KYC & CDD: Boosting Compliance & Elevating Due Diligence

What is KYC?

KYC is a subset of Anti-Money Laundering (AML) requirements. In order to fight fraud and money laundering, it is important that financial institutions verify whether their customers are real, legal, and law-abiding citizens. This is done by adhering to the KYC requirements.

KYC stands for “Know Your Customer” or “Know Your Client”. It is an identity verification process, designed to obtain, verify, and monitor customer data. Financial institutions, like banks, are required by law to fulfill KYC requirements, i.e., to gather information about their customers and check their credentials before entering into a business relationship with them.

KYC requires the completions of the following three stages:

Facial verification
Document verification
Address verification

There are five main components of the KYC process:

Customer Identification Program (CIP)
Customer Due Diligence (CDD)
Enhanced Due Diligence (EDD) / Continuous monitoring
Record-Keeping
Reporting

What is Due Diligence?

Due Diligence can be divided into two stages: Customer Due Diligence (CDD) and Enhanced Due Diligence (EDD). Both play a vital role in the KYC process.

Customer Due Diligence (CDD) is the second step in the KYC process. During this step, more customer data is gathered to help a business evaluate their potential client. By increasing the amount of information available, CDD determines what the potential risk factor is for onboarding a customer.

The duration of this step depends on the customer’s risk factor. Higher-risk customers require more enhanced checks. By collecting and evaluating the client’s information, CDD allows financial institutions to make the right choice.

After a customer passes the initial check, their activity and status will continue to be monitored so that companies can be informed the moment a client poses a risk to the interests of the company. This continuous monitoring is called “Enhanced Due Diligence” (EDD).

Customer identity: This includes validating their identity, as well as finding out additional information such as their company address, their individual executives, etc.
Customer activities: Is the customer engaging in known illegal or high-risk activities?
Customer risk profile: What is the likelihood that the customer enters into risky or illegal transactions?
Financial markets: In which markets does the customer trade?
Other entities: What other businesses is the customer involved in?

Importance of CDD

CDD is a crucial step for a company to “know their customer”. By fulfilling the KYC requirements, financial institutions do their part in actively preventing fraudulent activities in the financial sector.

In the rare case that a customer does commit an act of financial crime, the company can easily assist law-enforcement to catch these criminals. Financial institutions must also provide proof that they themselves were not involved in the illegal activities and that they went through the required CDD process. This is important, since companies that do not apply with KYC regulations are subject to hefty fines.