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The global digital payments market has constantly been growing at an exponential rate. With a current market size of $5,872 billion, it is expected to reach $9,073 billion by 2025. As per reports, countries such as India, China, South Korea, Thailand, and the UK generated most of the real-time payment transactions in 2021.
This growth has brought with it a lot of challenges, including money laundering, terrorism financing, and loan default fraud, which require stringent measures to curtail. One measure that has been highly effective in mitigating risks is Know Your Customer (KYC).
KYC is a process by which any financial institution, fintech company, and other organisations verify the identity of their users and assess their potential risks for money laundering and other financial crimes. The process helps in ensuring these organizations are adhering to Anti-Money Laundering (AML) and Combating the Financing of Terrorism (CFT) guidelines.
In India, the RBI has made KYC an integral part of the onboarding process for new clients and has set guidelines for AML and CFT compliance. Financial institutions and other fintech organizations have already made KYC the first step of onboarding with user identity documents like PAN and Aadhaar card, the main identifier to verify identity.
The implementation of a proper KYC process has numerous benefits for organizations:
- It helps mitigate the risks associated with AML and CFT, ensuring that the organization is in compliance with the regulatory requirements set by the RBI. This helps to build trust and credibility with regulators, customers, and stakeholders.
- A robust KYC process helps reduce the cases of loan default fraud by validating the identity of the borrower and assessing their credit worthiness. This, in turn, helps reduce the risk of loan losses and protects the organization’s financial interests.
- A well-designed KYC process can enhance user onboarding experience by reducing the time and effort required for customers to complete the process.
Additionally, a proper digital KYC solution can streamline the process of user onboarding, making it faster and more efficient. This definitely impacts the overall costs associated with manual KYC processes and improves the overall customer experience.
Union Budget 2023: Key Highlights on KYC and Data Security
A number of announcements were made that are particularly relevant for businesses and their KYC processes.
Risk-based KYC
The Union Budget 2023-2024, recently proposed to simplify the KYC process from the current “one size fits all” to a “risk-based” approach. At present, specific guidance from the regulators or the government in relation to this “risk-based approach” to be implemented is yet to be issued.
In addition to this, the Union Budget also stated that the financial sector regulators (namely the Reserve Bank of India, the Securities and Exchange Board of India, the Pension Fund and Regulatory Authority of India, and the Insurance and Regulatory Development Authority of India) will be encouraged to have a KYC system fully amenable to meet the needs of digital India.
The Financial Action Task Force in its Report on Risk-Based Approach for the Banking Sector (2007) delineated the objective behind adopting a risk-based anti-money laundering mechanism to mean “to align the resources in accordance with the priorities so that the greatest risks receive the highest attention.” Current AML regulations in India, such as the Prevention of Money Laundering Act and Rules, the RBI’s Master Direction – Know Your Customer (KYC) Direction, 2016, RBI/DBR/2015-16/18, dated February 25, 2016, etc., do lay emphasis on a taking a risk-based approach, such as prescribing enhanced due diligence (EDD) requirements for higher-risk merchants. Additionally, over the years, RBI has been engaged in the exercise of simplifying the KYC process, which includes welcome steps like allowing regulated entities to carry out offline verification for Aadhaar, video-based customer identification, and introducing the entity template for C-KYC for the purposes of remote onboarding of customers.
It will have to be seen what form the risk-based KYC will take. Some steps like the PAN as a common business identifier and entity KYC via Digi Lockler ( as discussed below) announced in the Budget are also promising in particular for easing business KYC. Apart from this, steps like permitting wider API-based document verification can help reduce compliance burdens and meet the needs of digitizing the verification of individuals and business identities. Alternatives are to take steps to integrate the KYC process with the RBI’s Account Aggregator framework, allowing KYC identifiers like PAN, GSTN, CIN etc. together with the KYC data like business names, addresses, beneficial owner details can be shared as form of financial information with other FIUs.
Business KYC on Digi-Locker
Further, the Union Budget has announced that the documents available via Digi Locker for individuals will be expanded to enable more innovative fintech services. Additionally, an Entity DigiLocker will be set up for use by MSMEs, large business,es and charitable trusts, thus bringing ease to business KYC as well. This will be towards storing and sharing documents online securely, whenever needed, with various authorities, regulators, banks, and other business entities. These are welcome steps to ease digital access and sharing of business documents as well via Digi Locker.
PAN as Common Business Identifier
Additionally, the Union Budget, to bring ease of doing business in the country, also allowed the Permanent Account Number (PAN) as the common business identifier for all digital systems of specified government agencies. This will be similar to the role Aadhaar plays as a common identifier for individuals. The advantage of having PAN as the common business identifier results in doing away with repeated document submission or difficulties in accessing data across regulatory and other databases across various submissions and other compliance requirements. In fact, the RBI Report of the Expert Committee on Micro, Small and Medium Enterprises, dated June 25, 2019, (the U.K. Sinha Committee Report) had recommended PAN to be recognized as a unique identifier for micro, small and medium enterprises, suggesting that the Central Board of Direct Taxes be recognized as the nodal institution for its implementation.
Currently, businesses are required to obtain multiple identifiers, as required under different laws applicable, including the PAN, TAN, CIN, GST, professional tax, and labor registrations. These identifiers are required to be submitted to multiple government and private institutions to obtain business approvals. Considering that PAN already contains most of the business-related information of the business entity and accordingly will reduce duplicity of submission of information for obtaining government approvals and compliance burden. It is further expected that the development will help reduce the time taken to verify the information and grant approvals by government agencies by at least half.
The U.K. Sinha Committee Report had penned down a roadmap for the implementation of PAN as the common business identifier, which can be utilized to supplement the Union Budget announcement:
Step 1: Enable PAN as the national unique enterprise ID and allow seamless usage of the PAN ID system across all government departments and ministries for common usage.
Step 2: To amend necessary regulations to separate PAN for individuals and enterprises and mandate PAN for all categories of entities.
Step 3: To link individual PAN to enterprise PAN which, in turn, can be linked to their individual Aadhaar.
Step 4: To allow single-step issuance of PAN at the time of registration of the entity.
Step 5: To enable PAN-based e-verification and e-KYC.
In conclusion, the benefits of KYC are numerous and crucial for organizations in the financial services industry. A proper KYC process helps mitigate the risks associated with AML and CFT and reduces instances of loan default fraud. Additionally, a well-designed KYC process can enhance the user onboarding experience and improve customer satisfaction. The RBI’s guidelines for AML and CFT compliance make it imperative for organisations to implement a robust KYC process.
