If you have opened a bank account, you must have filled up long detailed identity information along with copies of official valid documents - citizenship, passport, and utility bills. This process employed by financial institutions is called Know Your Customer or simply KYC. KYC helps in verifying the identity of customers along with detecting and preventing criminal behaviors to combat money laundering and terrorist financing. The KYC process involves collecting, tracking and storing huge amounts of customer data - proof of identity and address. By first verifying customers' identities, banks are able to accurately pinpoint suspicious activities.
Strict KYC laws were introduced in the US as part of the Patriot Act. The Patriot Act was passed after the 9/11 terrorist attack to provide a variety of means to deter terrorist behavior in the future. The KYC process became mandatory for financial institutions globally. Nepal Rastra Bank (NRB), like the rest of the world, followed the lead and created the Nepalese Money Laundering Prevention Act 2008. The guidelines issued by NRB require all banks to put in place a comprehensive KYC standard.
Despite its importance, the KYC process at many financial institutions is inefficient with tedious documentation, duplication of effort, and risk of error, which is costly, time-consuming, and could negatively impact customer experience. There's a big opportunity and need to manage KYC processes efficiently. That's where blockchain comes in. KYC verification using blockchain has the potential to be faster, easier, safer, and more efficient than traditional verification procedures.
A blockchain, as the name implies, is a distributed copy of the database or a ledger in a network where information stored in the ledger is made up of blocks and linked together in a chain. Each block is connected to all the blocks before and after it - in a series of records. The records on a blockchain are stored securely through a cryptographic hash function. Each member in the blockchain network owns a full copy of the ledger. This makes it difficult to alter a record in blockchain because a hacker would need to decipher the block containing that record in the blockchain as well as all the copies of distributed ledgers in the network to avoid detection of manipulation. This makes blockchain technology basically tamper-proof, hence, unchangeable and permanent. This way everyone has access to a shared single source of truth and can always trust the blockchain.
By having an unalterable source of information on the blockchain, financial institutions can reduce risk, cost and time for KYC process. Another key value that blockchain technology fulfills is it helps in maintaining customer privacy by allowing the customer (individual or corporate) to choose with whom they want to share information and for what purpose, without needing financial institutions to be involved in the middle-providing a streamlined way for them to gain swift and secure access to clean and up-to-date customer data. Blockchain databases have an inbuilt immutably that makes the data that they contain far more trustworthy.
Here's an example of how financial institutions can implement blockchain to streamline their KYC process. New customers requiring KYC updates or submits documents to financial institutions or online partner systems. The trusted validator i.e. banks or auditors verifies the information and encrypts the attestations to the blockchain. The main caveat is that the authenticity of data depends on the integrity of 'Trusted Parties' to ensure the data is valid. Other financial institutions that needs to perform due diligence of the customer can request the information required. The customer can share only required validated information with the requesting entity.1
The benefits of using KYC in a blockchain -
Quality customer information. Any changes in information on blockchain can be monitored by network members - reducing the chances of fraud and misuse.
Faster customer onboarding time and cost reduction. Financial institutions can trust the information in blockchain without taking extra time and effort to verify it. Blockchain can remove hassle during due diligence.
Privacy. Customers will have control over their personal data and can share only the information required by the financial institutions.
Leading financial institutions have started working on proofs-of-concept of KYC using blockchain. In India, State Bank of India with consortium of 37 banks have started exploring, building and implementing blockchain solutions in 2017. Similarly, IBM has started and successfully implemented its blockchain proof-of-concept in collaboration with Deutsche Bank and HSBC. Civic is a secured identity platform that supports reusable KYC. It is high time that Nepali financial institutions start exploring the potential of blockchain to make a faster and secure KYC experience for customers.