What is Know Your Customer (KYC) & How Does it Work?

Fraud isn’t just something that happens to “other companies.” According to PwC’s Global Economic Crime and Fraud Survey, 39% of businesses said external parties, including customers, were responsible for the fraud they faced in the last two years. Even more shocking? 13% of companies hit by fraud lost over $50 million.

The truth is, most of your customers are honest. But it only takes a few bad actors to cause big trouble. That’s where KYC (Know Your Customer) comes in. KYC helps you check who you’re doing business with, so you can spot potential risks before they become real problems.

In this guide, we’ll break down what KYC is, how it works in different industries, what verification methods are available, and answer some of the most common KYC questions. By the end, you’ll know exactly how to protect your business and stay compliant.

What is KYC?

KYC (Know Your Customer) is a mandatory customer due diligence (CDD) process that companies use to verify the identity of their customers and check if they pose any risk. Simply put: KYC helps make sure customers are who they say they are.

The main goal of KYC is to prevent money laundering, terrorism financing, and other illegal activities. It also helps businesses assess risk and meet legal requirements.

KYC applies to many industries, but it’s especially important for banks, financial services, insurance companies, and real estate businesses – all sectors where the risk of fraud is high.

Here’s a simple example: A bank must verify a customer’s identity before opening an account and continue to monitor their activity over time to comply with Anti-Money Laundering (AML) and KYC regulations.

To meet KYC requirements, customers are usually asked to provide:

• Proof of identity (passport, ID card, driver’s license)
• Proof of address (utility bill, bank statement, or payslip)

So why go through this process? The next section explains why KYC is essential for protecting your business.

Why Is KYC So Important for Businesses?

Do you really know your customers? Are you sure they are who they say they are, and that they won’t pose a risk to your business? If you’re not 100% confident, it’s time to think seriously about KYC.

KYC helps organizations verify customer identities and reduce the risk of fraud. It makes it extremely difficult for people with fake or stolen identities to get through your onboarding process.

But it’s not just about protection. Many industries are required by law to follow KYC and Anti-Money Laundering (AML) regulations. Failing to comply can result in heavy fines and penalties. While banks and financial institutions are legally required to carry out KYC, any business that faces the risk of fraud, such as identity theft or money laundering, should strongly consider it.

At the core of KYC are two key elements:

• Customer Due Diligence (CDD) – verifying customer identity and assessing risk
• Customer Identification Program (CIP) – collecting and confirming customer information

Together, these processes help organizations detect and prevent fraud before it causes serious harm.

Next, let’s explore how KYC looks in different industries. We’ll focus on three major areas, but keep in mind that many others also rely on KYC to protect their business.

How KYC Works in Different Industries

As previously mentioned, KYC is essential in many industries. Each industry experiences different risks, which translates into different regulations and measures needed to take action.

Below, we will discuss what KYC looks like and which requirements apply in three different examples:

KYC for the Financial Industry

KYC for banking is highly relevant and has to be conducted thoroughly. For the financial industry, KYC is no longer an option but is required by law. A bank or other financial institution has to verify the identity of customers; otherwise, heavy fines or other penalties can be imposed.

Therefore, a bank must have a Customer Identification Program (CIP) in place in which data is collected, identified, and verified.  

On top of that, financial institutions must conduct Customer Due Diligence (CDD) procedures to continuously monitor customers, collect identity information to create customer risk profiles, and cross-check this information with databases that entail information about politically exposed persons or sanctions. 

Only with these processes in place, banks and other financial institutions are compliant with KYC & AML regulations.

KYC for Business

Every business that is onboarding customers should conduct KYC checks. This is not only to protect your business against fraud but also to protect your customers.

For example, car rental businesses that offer a reservation system online need to ensure that people are over 18 and have a driver’s license. To avoid fines and other penalties for renting out a car to unauthorized people, these businesses should fulfill Know Your Customer requirements and, e.g., verify the age and driving license categories in the onboarding process.

But what if you were to onboard customers that aren’t individuals but companies? In this case, you would perform so-called KYB (Know Your Business) checks. KYB is seen as an extension of KYC since it was introduced much later after the initial KYC regulations. While both procedures involve checks to verify identities, the main difference between the two is that KYC applies to individuals, while KYB applies to businesses.

KYC for Crypto

Cryptocurrency has been increasing in popularity over the last few years. This and the growing risk of terrorist financing and money laundering are the reasons why crypto platforms are now regulated as financial institutions. As we previously learned, all financial institutions need to comply with KYC & AML regulations and therefore integrate processes accordingly.

KYC for crypto platforms is mainly used to identify and confirm users’ and customers’ personal information to verify age, identity, and address. The main goal is to determine the probability of customers posing money laundering risks.

This has been causing frustrations for customers of crypto platforms, as the original idea of crypto exchange was to trade anonymously. Yet, regulators are pressuring crypto firms to introduce KYC measures to have more control over customers and cryptocurrency transactions. 

While all three example industries have the same main goal in mind (identifying & verifying a customer’s identity), every industry still uses KYC regulations for a slightly different purpose. Let’s now have a look at how the KYC regulations differ for different regions.

Global KYC Regulations

KYC regulations don’t only differ per industry, but also per region or country. To keep the blog readable, we focus on three different regions: the European Union, the United Kingdom, and the United States.

In the European Union

Over thirty years, the EU has developed a solid framework for preventing money laundering and terrorism financing. The EU rules are far-reaching and go beyond international standards. Therefore, the European Commission wrote an action plan for a comprehensive Union policy on preventing money laundering and terrorism financing to achieve more harmonious, cohesive, and powerful Anti Money Laundering (AML) regulations.

Additionally, in 2016, Europe passed three AML directives (4AMLD, 5AMLD, and 6AMLD) that expand the scope of KYC requirements to new sectors.

This increases the need for enhanced Customer Due Diligence (CDD), as the process includes the collection, verification, and record-keeping of Personal Identifiable Information (PII). On top, customers need to be screened against sanctions and politically exposed persons (PEP) lists to assess the risk of each customer.

The information above clearly shows that EU regulations are quite strict and solid. Understandably, we are not able to provide every single rule that applies. Please conduct industry-specific research yourself to prevent fines and other penalties.

In the United Kingdom

Even though the UK has robust AML and KYC laws and regulations in place, the regulations are not overly specified. Instead, they function more like guidelines rather than hard requirements. Those guidelines are divided into five parts of identity checking and are published in the Good Practice Guide provided by the UK government. These five parts are:

• Acquiring evidence of the claimed identity
• Checking if the evidence is valid
• Checking if the claimed identity has existed over time
• Checking whether the claimed identity is at high risk of identity fraud
• Determining whether the identity belongs to the person claiming it

Interestingly, not all steps need to be performed at once, as the risk level of a customer determines which checks need to be executed. On top of that, according to the 2017 updated AML regulations, there are three specific requirements that need to be fulfilled:

• Identify the customer
• Verify the customer’s identity
• Assess the purpose and intent of business relationships and occasional transactions

If you find yourself in the UK, please conduct your own research on KYC and AML regulations on top of our article, as it is impossible for us to cover all the regulations necessary for your specific industry.

In the United States

In the US, the U.S. Financial Crimes Enforcement Network (FinCEN) is the authority for KYC regulations. They set regulations with the goal in mind of preventing illegal activities such as fraud and money laundering. In general, in the US, there are three layers of KYC requirements:

• Customer Identification Program (CIP) → The CIP requires customers to provide their full name, date of birth, address, and social security number. This applies no matter the customer risk profile. 
• Customer Due Diligence (CDD) → The US law requires all financial institutions to conduct CDD procedures while onboarding new customers. CDD is a series of background checks and screenings of customers to assess their risk profile and identify their identity. 
• Enhanced Due Diligence (EDD) → EDD is needed to gather additional information. This comes into play when customers pose a higher risk of terrorist financing, infiltration, or money laundering. 

As previously mentioned, please do additional research that is more specific to your industry and country. Next, we want to talk about setting up your KYC process and which different KYC verification methods are available.

How to Set Up an Effective KYC Process

Setting up your KYC process depends on several factors, such as the country your business is located in and which kind of solution you require. To set up your KYC process, you can follow these steps:

1. Understand the Regulations

Check the KYC and AML requirements for your country and industry. Regulations can vary a lot between banking, crypto, insurance, and other sectors.

2. Assess Your Risks

What types of fraud are most likely in your business? Consider identity theft, document fraud, money laundering, or account takeovers.

3. Determine Your Process Scale

Do you onboard 5 customers a day, or 5,000? Your process should be able to scale with your business growth.

4. Decide Between Manual and Automated KYC

Smaller businesses with a low customer volume may manage with manual checks. Larger companies usually need automated KYC (E-KYC) to keep up with demand and improve accuracy.

5. Choose the Right Verification Methods

Select the tools you need based on your risks:

• Identity document checks
• Selfie or biometric verification
• Proof of address checks
• Liveness detection

6. Find a Reliable KYC Partner

If you go the automated route, work with a trusted KYC provider who offers everything you need. Look for options that integrate smoothly with your onboarding system.

7. Set Up & Test

Document your process, train your team, and test before going live.

Once your system is running, keep in mind that KYC isn’t a “set it and forget it” process. You’ll need to review, update, and improve your KYC procedures regularly to stay compliant.

KYC Verification Methods

There are two ways to verify customer identities: the traditional manual process and the modern automated (E-KYC) process. Each has its place, depending on your business size, customer volume, and resources.

Manual KYC Verification

Manual KYC has been the standard for many organizations, especially banks and financial institutions, for decades.

How it works:

• Customers visit your office in person or send copies of their documents
• Customer Due Diligence (CDD) officers manually review and verify each document
• Officers confirm whether the documents are genuine and meet compliance requirements

Pros:

• Affordable and practical for companies with fewer than 40 customers onboarding per day
• Direct human oversight and decision-making

Cons:

• Extremely time-consuming for both staff and customers
• Can take days or even weeks to complete
• Higher risk of human error
• Increasingly difficult to detect fraudulent or manipulated documents (with the rise of Photoshop and other editing tools)
• Hard to scale as your customer base grows

As customer numbers increase, manual processes quickly become a bottleneck and a security risk.

Automated KYC with E-KYC

For businesses handling large volumes of customers or wanting to improve accuracy and speed, E-KYC is the future.

How it works:

• Customers upload documents through an online portal or mobile app
• AI-powered software automatically verifies identity and runs fraud checks
• Results are delivered in minutes, without human delay

Pros:

• Fast and scalable onboarding, even for high volumes
• Higher fraud detection rates with advanced image recognition and biometric matching
• Available 24/7 across all locations
• Compliance updates and regulatory changes can be applied instantly
• Seamlessly integrates via APIs with your internal systems
• Greatly improves the customer experience (remote onboarding, no office visits)

Cons:

• Higher upfront cost compared to manual KYC
• Requires proper setup and continuous system monitoring

Once customer data has been collected in the digital onboarding process, it continuously needs to be updated, cleaned, and periodically reviewed.

This process is an extension of the KYC process and is known as KYC remediation. How often the KYC remediation process is conducted largely depends on the regulations in effect in your industry and the risk profile of your customer.

Different Automated KYC Techniques

If you are planning to use KYC software, one of the main things to think about is the verification methods you want to use. The paragraphs below discuss the various options.

1. Selfie Verification

Remote onboarding is growing fast, and selfie verification helps verify identities securely: no office visit required.

How it works:

• The customer uploads a photo of their ID document
• Then they take a real-time selfie using their smartphone
• The selfie verification software compares the facial features on both images to confirm a match

Pros:

• Fraud protection → Hard to fake, as it checks unique facial biometrics
• KYC compliance → Helps meet AML and GDPR standards
• Speed → Instant verification, 24/7, worldwide

This method adds an extra layer of security and makes onboarding faster and smoother for customers.

2. Liveness Checks

Selfie verification can be taken a step further with a liveness check. This ensures the person in front of the camera is physically present, not using a photo or video of someone else.

How it works:

• The customer follows movement instructions (e.g., blink, turn head)
• The software detects whether the face is truly “live” and not a spoof
• Each session is randomized to prevent hacking or spoofing attempts

Pros:

• Maximum protection against identity fraud
• Fully compliant with KYC regulations
• Improves trust and security during onboarding

3. Automated Document Verification

Verifying customer documents manually can be slow and error-prone. Intelligent Document Processing (IDP) software can check documents automatically, including IDs, passports, residence permits, and driver’s licenses.

How it works:

• Customers upload photos of official documents
• The software checks document authenticity, looks for tampering or edits, and verifies key details
• Sensitive data can be masked to protect privacy

A newer addition to document verification is NFC (Near Field Communication) scanning. This technology reads data from the RFID chip in passports and biometric ID cards, offering unbeatable accuracy. Since data on the chip cannot be altered, NFC greatly reduces fraud risk.

Pros:

• Speeds up verification dramatically
• Detects document forgery better than the human eye
• Adds an extra layer of data security

4. Proof of Address Verification

Many regulations require not only identity verification but also proof of address.
Manually checking documents like utility bills or bank statements takes time, but not with automated tools.

How it works:

• Software extracts the address from the uploaded document
• It cross-checks this data against official databases
• It instantly flags any mismatches or signs of document fraud

Pros:

• Fast, seamless experience for customers
• Reduces human error
• Strengthens AML and KYC compliance

Does this sound like something you need for your onboarding? We have good news: with Klippa, you can enhance your onboarding process and become KYC compliant! What that looks like will be explained in the next paragraphs.

Automate Your KYC Processes with Klippa

Automating KYC processes has become a must for businesses to stay compliant and competitive, with the ability to scale their operations.

For that, Klippa offers the IDP solution, Klippa DocHorizon, to simplify your onboarding and compliance checks. With DocHorizon, manual processing of IDs and proof of address documents is history as the scanning, extracting, and verifying of those KYC documents is fully automated.

On top of our IDP solution, we offer an automated identity verification solution that allows you to use selfie identity verification with a liveness check. Real-time user feedback ensures that the customer experience is smooth, and the verification process can be done accurately.

Next to that, you can add as many security layers as you need. Here is a list, to name a few:

• Selfie Identity Verification
• Liveness Check
• ID document verification
• NFC ID verification
• Proof of address verification
• Age verification

Do you also want to increase security in your onboarding process and comply with the latest KYC regulations while providing a remote onboarding experience?

By implementing Klippa’s solution into your systems, this is possible. Just book a free online demo below, or contact one of our experts for more information.

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