KYC and Customer Due Diligence
Before a financial firm opens an account for anyone, it has to verify who they actually are and where their money comes from — the process is called Know Your Customer, and it's the front line of the fight against money laundering.
Anyone can walk up to a bank or brokerage and ask to open an account, and the firm has to decide: is this person who they claim to be, and is there anything about them that should make the firm cautious about what money might flow through that account? Know Your Customer (KYC) is the formal process that answers this — it's a regulatory requirement, not just good business sense, and firms that skip it face serious enforcement action.
At its most basic, KYC means verifying identity: government ID, proof of address, and for a business entity, verifying who actually owns and controls it (its "beneficial owners"), since shell companies are a classic tool for hiding who's really behind an account. Beyond identity, firms build a risk profile of the customer — what's their expected activity, where does their money come from, are they a politically exposed person (a government official or their close family, who face extra scrutiny because of the elevated bribery and corruption risk), and does their country of residence or business carry elevated money-laundering risk.
Customer due diligence is the umbrella term for this ongoing process, and it isn't a one-time check at account opening. Enhanced due diligence kicks in for higher-risk customers — larger scrutiny, more frequent review, sometimes senior management sign-off before the account is even approved. And due diligence continues after onboarding: a customer whose transaction patterns suddenly look nothing like what they described when opening the account (a "quiet" retail account suddenly moving large sums internationally, for instance) should trigger a fresh look, not just be waved through because the account passed its initial check years ago.
KYC exists because the alternative — anonymous, unverified accounts — is exactly the infrastructure money launderers and sanctioned actors need. A bank that fails to properly know its customers becomes, whether it intends to or not, the entry point that lets illicit money into the legitimate financial system.
KYC requires financial firms to verify a customer's identity, understand their expected activity, and assess their money-laundering risk before and throughout the relationship — not just at account opening. Higher-risk customers require enhanced due diligence, and a customer's actual behavior is expected to be continuously compared against what due diligence originally established.
Further reading
- FATF, International Standards on Combating Money Laundering