Distributed Ledgers and Digital ID: A Logical Match for KYC?

Blockchain technology could be a missing link for secure customer verification and onboarding

Friday, November 18, 2022

By Jim Romeo

Identity verification and authentication are key to electronic commerce and the further digitalization of financial services and other businesses, and there are a host of available technology offerings for managing customer databases and all-important Know Your Customer (KYC) compliance.

However, regulatory and systems changes that are constantly being layered on top of these processes frustrate attempts to simplify and streamline them. To some technology providers and experts, solutions are readily apparent on the blockchain.

Blockchain, or distributed ledger technology (DLT), is popularly recognized as the underlying database – and a highly secure one – for bitcoin and other cryptocurrencies. But DLT’s recordkeeping, synchronization and immutability qualities also lend themselves to legal, supply chain and identity applications, including digital IDs and KYC.

Exploratory Examples

Agreement among experts and business leaders about the feasibility of blockchain-based customer identification has led to various discussions and explorations.

Early this year, digital-asset companies Circle Internet Financial and Coinbase Global, which are partners in the Centre Consortium and its U.S. Dollar Coin (USDC), introduced Verite. It is a credentials token or protocol that Circle CEO Jeremy Allaire told Protocol online is “designed to enable individuals to have self-sovereign control over their identity” while offering “very strong KYC assurances.”

Jeremy Allaire, Circle

A proof of concept of the open-source Verite was announced in October. A Circle web page had said more details would be revealed late this year, with credential issuance being explored for 2023.

Another example of potential progress by way of technology synergy is Nasdaq, which recently formed a Digital Assets business unit and is reorganizing around three divisions. One division, Anti-Financial Crime, includes Verafin, a fraud detection and anti-money laundering company acquired in 2021, alongside Nasdaq’s market and trade surveillance products.

“We will always provide crypto exchanges with tech capability, and we now have a suite of solutions in AML, fraud detection and surveillance that can also be used by traditional firms moving into the space,” Valerie Bannert-Thurner of the Nasdaq Market Technology business said in a Markets Media interview.

A video posted by JPMorgan Chase & Co.’s Onyx digital assets unit illustrates the “ability to store, view and share your digital assets that are bound to your digital identity, all in one place” for web3, metaverse and decentralized finance (DeFi) interactions.

Single Registration, Open Availability

Ricardo Amper, founder and CEO of ID systems company Incode Technologies, suggests that while KYC verification now largely takes place outside of blockchain, “a group of entities could reach an agreement on a standard to store KYC information – identity documents, addresses and other identity-proofing information – on a distributed ledger.”

Ricardo Amper, Incode

“This offers several benefits,” he says. “Individual institutions no longer need to store the KYC evidence themselves, since the information is always available on the distributed ledger. Persons who have already completed KYC checks for one institution may complete KYC checks for a second institution simply by referencing the distributed ledger. There is no need to regather and resubmit the evidence documents.”

Ahmed Drissi, Asia-Pacific AML lead at software and analytics company SAS, sees interest building in blockchain technology as a fully decentralized solution for financial services.

Beyond the cryptocurrency use case, “blockchain is being used across industries, including in payments, health care, trade finance and more,” Drissi points out, and the digital ID application is seen as especially promising in the financial sector. “Already, the EU is exploring decentralized digital identity through several associations and organizations, including the International Association for Trusted Blockchain Application (INATBA) and the EU Blockchain Observatory & Forum.”

“Identity is at the core of the digital economy,” Michael Ramsbacker, chief product officer of Trulioo, which supports ID and business verification on a global scale, said in a Finextra video interview at the Money20/20 conference. He sees identity and KYC as critical to the expansion of crypto use cases for regulated entities.

Response and Classification

“Proof of ownership and digital signatures in blockchain ensure that crypto users’ data remains unbreachable, which allows SaaS [software-as-a-service] providers to enhance online identity verification solutions and cybersecurity protocols,” says Patrick Kelly, head of sales for the Americas at Shufti Pro, a developer of artificial intelligence systems for KYC and AML applications.

“Today’s state-of-the-art online identity verification services are an ideal solution for every business providing digital services,” Kelly adds. “AI-backed ID verification services enable companies to determine the identities of customers before getting them onboard with 98.67% accuracy in less than a second.”

Joseph Bradley, Heirloom

Joseph Bradley, head of business development at web3 SaaS firm Heirloom, notes that because KYC is not directly connected to risk profiles, a customer is not automatically categorized from a risk tolerance perspective. “Either the customer is or isn’t who they said they are,” he says. “That said, KYC is used to identify and verify high-net-worth investors” as accredited and qualified, which serves as “a proxy for financial awareness and risk tolerance” and denotes suitability for more risky investments.

Bradley likens the use of blockchain for KYC to the classifications of drivers’ licenses: “If you want to drive a commercial vehicle, you cannot do that legally with a Class C license. You must go through another process to get a Class A . . . This is different from a KYC/AML process – all that is certified at the completion of KYC is that you are who you say you are and that, based on your home jurisdiction’s regulatory framework, the financial institution who is checking this information can legally offer you a certain product.”

“Nothing Is Bulletproof”

“In theory, a combination of cryptography (as distinct from cryptocurrency) and blockchain should improve identity verification processes,” says Jordan Strauss, managing director in Kroll’s Forensic Investigations and Intelligence practice. “Nothing is bulletproof, and at the end of the day, reducing the space between the identity verification tool and its user is important.

“Security would be paramount, which is always hard. Any vulnerabilities in the ‘last mile’ – the space between use of the identity verification and the user with whom it is associated – could create risk. For example, if a passport is a valid proof-of-identity document and it is stolen and used by someone with similar features, it may have been effective at satisfying an identity requirement, but not actually effective at proving identity.

“Finally,” Strauss concludes, “there will need to be some trusted collection of identity documents, even if distributed over many computers. Compromise of that collection would, of course, create risk.”

Leslie Bailey, LexisNexis Risk Solutions

Leslie Bailey, vice president, financial crime compliance at LexisNexis Risk Solutions, says that blockchain would allow a progressive approach to KYC, whereby customers could prove their identity in a protected way and still maintain control of their data, while improving KYC process efficiency.

“The ability to operationalize KYC data in a meaningful way is going to be key to success in this space,” Bailey says. “We are working in a dynamic environment that allows very little room for error. Regardless of the tools we use, we must be responsible in our approach to fulfilling regulatory requirements and sound business practices.”

“To solve data privacy and confidentiality challenges, self-sovereign identity could give individuals control over the information they use to prove who they are to services web sites,” says Drissi of SAS. “Ultimately, this approach to industry-wide identity verification would help boost efficiency, reduce redundancy and improve reliability, and thereby lower fraud risk.”

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