Collaborative Customer Due Diligence: New Ways Forward

Blog Series

The days when customer due diligence (CDD) was carried out separately by individual financial services providers (FSPs) appear to be numbered. From India to Australia, FSPs, financial regulators and financial intelligence units (FIUs) are experimenting with more collaborative approaches to CDD, such as so-called know-your-customer (KYC) utilities. This new wave of collaborative approaches is marked by greater information sharing and has potential to improve the effectiveness of CDD while reducing costs, especially when it comes to reaching low-income clients. But will these approaches enable higher levels of financial inclusion? This will depend on the quality of supportive rules and regulations, thoughtful use of new technologies and, of course, the will to collaborate.

Women in India apply for a bank loan to start a business.
Women in India apply for a bank loan to start a business. Photo: Aswin Antony, 2017 CGAP Photo Contest

Potential to lower costs, increase effectiveness of CDD

CDD involves identifying a client and verifying the client’s identity by checking his or her identity documentation or data and, where appropriate, conducting background and beneficial ownership checks. Clients are then profiled and their transactions are monitored to identify discrepancies that may trigger a suspicious transaction report to be filed with the country’s FIU. Because FSPs do not share this information with each other, these processes are repeated each time a customer wants to open a new account at a different FSP. Each FSP considers the profile of the client in isolation, based on the limited facts at their disposal, and each must separately ensure that the client’s information is up to date.

These CDD processes — duplicated again and again across providers — are so expensive that some FSPs decide that it is not worth the cost to serve low-income customers. These customers are potentially less profitable, and in many cases, it is harder and more expensive to verify their identities. If FSPs are willing to provide services, CDD processes can still create a terrible and slow customer experience. Worse still, these processes have not proven to be effective enough at combatting financial crime. For instance, there is no indication that money laundering levels have subsided, despite significant global investment in anti-money laundering efforts since 1990.

Emerging technologies like biometrics, artificial intelligence and distributed ledger technology are providing opportunities for greater information sharing and a more collaborative, risk-based approach to CDD that lowers costs while potentially increasing effectiveness. For example, biometrics can allow FSPs to authenticate a customer’s identity details by matching their biometric scan against a central database, while artificial intelligence may provide new ways to flag suspicious transitions across multiple institutions. (We’ve discussed some of these trends in greater detail in “The Biometric Balancing Act in Digital Finance” and “6 Things You May Not Know About Biometrics.”) Public and private sector actors are leveraging these technologies to develop a range of approaches to pooling resources and sharing customer information that assist with carrying out the full spectrum of CDD obligations.

An array of promising CCDD approaches

Collaborative CDD (CCDD) approaches that seek to address the shortcomings of the current CDD processes are evolving in different ways around the world. In some cases, the public sector is driving change by creating a public utility that FSPs can use to identify clients and verify their identities on an ongoing basis — two critical elements of CDD. India’s eKYC service is the most well-known example. These public sector-led approaches are particularly powerful if the government, as in India, allows FSPs to use the database to verify a customer’s identity, and then confidently rely on the results for regulatory compliance.

In other cases, the private sector is leading the way. On one end of the spectrum, Thomson Reuters is charging banks and other FSPs to access KYC as a Service, a centralized database where banks can share and access KYC information on corporate clients, ensuring that these clients do not have to submit their KYC information separately to each bank. On the other end, FinTechs are piloting new ways to conduct CDD on customers who have little to no identity documentation, such as forcibly displaced persons, potentially creating self-sovereign IDs (a new category of ID that promises to work across borders, allows individuals to prove their identity based on alternative sources of data and provides customers with more control over who access their data).

Finally, there are examples of public-private cooperation, where law enforcement, financial supervisors and FSPs are creating new venues for sharing information on suspicious transactions and individuals. Australia has created the most extensive and ambitious partnership to date, the Fintel Alliance, which co-locates dedicated personnel from many of its 17 founding members, including Australia’s FIU (AUSTRAC), several large financial institutions and national and state law enforcement. This operations hub is complemented by an innovation hub, where partners test new technology solutions for collaborating on financial intelligence.

What is the future of CCDD?

Despite all these new models and approaches, CCDD remains challenging. Several questions need to be explored further to ensure CCDD reaches its full potential to facilitate financial inclusion.

  1. How can current information-sharing rules be improved to support CCDD? Various laws and regulations — such as customer-banker confidentiality, public-sector secrecy, data protection laws and AML/CFT laws — aim to address valid policy objectives, but they also set up information-sharing barriers. These legal rules are often accompanied by measures such as corporate policies, guidelines and standard operating procedures designed to operationalize legal and regulatory obligations that result in additional barriers. As argued in a previous blog post, “Customer Due Diligence and Data Protection: Striking a Balance,” a new information-sharing framework could facilitate responsible CCDD, lower the compliance costs and increase the effectiveness of AML/CFT measures.
  2. Will CCDD approaches that support the inclusion of some result in the exclusion of others? Some customers may struggle to meet new technology-driven identification requirements. Some smaller FSPs may be excluded because many CCDD approaches have high upfront costs for FSPs. New technologies, such as biometrics and artificial intelligence, require upfront investment in hardware and software. It remains to be seen how this will impact businesses that are too small or too different to afford or merit access to CCDD approaches. CCDD approaches that reduce costs, such as India’s eKYC, could support a more dynamic market place. However, for-a-fee models may shut out smaller players, limit competition and end up raising prices.
  3. What will be the actual practical impact on AML/CFT and financial inclusion? While many FSPs are experimenting with biometrics, artificial intelligence and distributed ledger technology, the impact of these technologies has not been well documented. Research is needed to understand their ability to help combat financial crime, their cost implications and their impact on the customer experience, especially for low-income clients and those excluded from existing financial products.

While there is good reason to be optimistic about the potential of CCDD to lower compliance costs and facilitate financial inclusion, these and other important questions remain. It will be vital to monitor developments and consider the emerging answers as public and private actors determine which CCDD approaches to adopt, expand and replicate.

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