Know Your Customer or KYC is a mandatory part of onboarding a new customer for financial firms, including brokerages. The process basically involves verifying the identity of the customer through specific identification documents, as required by the regulator of the country in which the customer is being onboarded. So, when a new client wishes to open a trading account with your brokerage, they will need to provide government-approved identity proof before they can operate the account. Today, brokerages can choose a third-party service provider to complete their KYC obligations effortlessly. But before you look for such a provider, here’s what you need to know and KYC in the brokerage business.
KYC is an important step for brokers since it allows regulatory bodies across the world to protect all stakeholders in the financial industry, including traders and brokerage firms. This is why, apart from the initial KYC at the time of onboarding, some jurisdictions might require renewing of KYC information from time to time to ensure updated records.
By following appropriate KYC policies, brokerages can reduce risk to their business through information such as the customer’s financial ability to invest in the market, their contact information and even financial portfolio. This helps build trust and avoid customers who might be involved in illegal activities. It can also help you serve customers better. Also, KYC is crucial for the customer’s protection, while ensuring a smooth and seamless experience with the broker. Now that KYC can be completed online, the process has become quick and effortless for both brokerages and customers.
While the documentation required and steps in the process might differ across countries, the basics remain the same. The aim is to verify the customer’s identity, suitability for investment and other due diligence. To verify the customer’s identity, information such as the customer’s full name, date of birth, home address, government identification number, tax number, income, investment preferences and investment experience is required.
Once all documents are submitted by the customer, due diligence is done by the brokerage to ensure that the risk of fraud or any other type of illegal activity is low. Usually, basic Customer Due Diligence is considered sufficient. However, in cases where the risk is perceived as higher, Enhanced Due Diligence, which includes checks on customer location, occupation, transaction history, etc., can be conducted.
Some jurisdictions require ongoing monitoring of KYC details to check for any unusual activities that could indicate a rise in the risk associated with the customer.
While both Know Your Customer and Anti-Money Laundering (AML) tend to have the same requirements, KYC is basically a part of the larger AML process. The need for AML has been established by regulatory bodies worldwide to minimise, if not prevent, money laundering, financial crime and fraud. So, KYC helps in fulfilling part of the AML requirements by verifying the identity and financial history of the customer. The Financial Action Task Force (FATF) is an intergovernmental body that sets the global standards for AML. However, specific AML requirements differ from one country to another, which makes it important for brokerages to check the requirements to remain compliant.
With the rising participation of retail investors in the financial markets and the easy availability of online trading, regulators have been working to strengthen their AML/KYC frameworks. For brokers to ensure KYC compliance, some of the key regulators are:
The European Security and Market Authority (ESMA): The ESMA is responsible for regulating the financial markets across all EU member countries to protect online trading platforms against the risk of fraud and financial crime. The Markets in Financial Instruments Directive II (MiFID II), enforced in January 2018, is the current framework that brokers offering their services in the EU need to comply with.
The Financial Conduct Authority (FCA): This is the financial watchdog of the UK, responsible for preventing financial crimes, such as terrorist financing and money laundering. The Money Laundering and Terrorist Financing Amendment of 2019 has put forth stringent guidelines to combat fraud and financial crime.
The Securities and Exchange Commission (SEC) and Financial Industry Regulatory Authority (FINRA): Brokerages offering online trading in the USA need to comply with these regulatory bodies. Some of the major regulations in America include the Sarbanes-Oxley Act of 2002 and the Dodd-Frank Act, which focus on corporate responsibility and investor protection. The FINRA is responsible for monitoring businesses and individuals to prevent financial crime.
If you’re looking to start a brokerage, the easiest way to ensure compliant AML/KYC for brokers is to choose the right KYC service provider. This will free up your time and resources, which can then be used to grow your business. But before you start looking for a service provider, check the volume of onboarding you expect to undertake on a daily or weekly basis, the size of your compliance department and the level of automation vs. manual review you seek.
In addition, the KYC provider should be able to help you with enhancing the onboarding experience for customers, reducing the risk of transactional or onboarding fraud, decreasing KYC costs and the need for manual intervention, and ensuring compliance. Remember that while KYC procedures might be sophisticated, financial criminals are equally advanced in the technology they use. So, the service provider should be able to offer you features that assure the highest standards of security.
Some of the specific features you can check for include:
The most important aspect of all is to check whether the customer onboarding process is enhanced, so that your conversion rate improves, without compromising on security. If you are thinking of expanding your business to new jurisdictions, learn more about different regions’ regulations before getting your license.