SFC introduces new procedures for verifying clients’ identities

The Securities and Futures Commission of Hong Kong (“SFC”) published a circular to intermediaries (“the Circular”) on 12 July 2018 which clarifies alternative procedures available to intermediaries to verify individual clients’ identities when onboarding clients online. This follows significant industry initiatives that will develop digital identification and electronic “know your client” (“KYC”) identification.

The Circular complements the Financial Services Development Council’s (“FSDC”) proposals to revise Hong Kong’s regulatory environment to facilitate online customer onboarding (without the need for customers to be physically present), and supplements the body of law which sets out the KYC requirements and account opening procedures applicable to intermediaries, including:

  • the Anti-Money Laundering and Counter-Terrorist Financing Ordinance (Cap. 615 of the Laws of Hong Kong) (“AMLO”);
  • the SFC’s Guideline on Anti-Money Laundering and Counter-Terrorist Financing (“SFC AML Guideline”);
  • paragraph 5.1 of the Code of Conduct for Persons Licensed by or Registered with the Securities and Futures Commission (“Code of Conduct”);
  • the SFC’s circular on client identity verification in account opening process dated 24 October 2016 (“SFC 2016 Circular”).

The SFC AML Guideline is undergoing a significant re-write (see the SFC’s announcement dated 5 July 2018), and paragraph 5.1 of the Code of Conduct is also under review.

The new procedures appear to be interim measures introduced in response to feedback from the industry, to provide more flexibility pending a revision of paragraph 5.1 of the Code of Conduct. They are intended to improve the customer experience when opening an account whilst addressing the risks involved in onboarding clients online. The Circular is a step in the further promotion of Hong Kong as an Asian financial technology ("FinTech") hub.

Recent regulatory and industry developments in virtual onboarding

There have been various government and regulatory initiatives which aim to streamline banking and financial supervisory practices, and facilitate the application of FinTech. For example:

  1. The SFC acknowledged in the SFC 2016 Circular that various tech-driven approaches may be used by SFC licensed corporations to conduct client identity verification in non-face-to-face situations.
  2. The Hong Kong Monetary Authority (“HKMA”) published its consultation conclusions on the revised Guideline on Authorisation of Virtual Banks on 30 May 2018 after 3 months of market consultation. The HKMA noted in its virtual bank consultation conclusions that one of the three work streams under its Banking Made Easy initiative is to identify and streamline supervisory requirements relating to remote or digital onboarding of customers. (See KWM’s client alert on “Virtual Banking in Hong Kong and China (updated)” published in June 2018").
  3. In the recent FSDC Paper No.35[1], the FSDC’s key recommendation is for the current Hong Kong regulatory environment to facilitate non-face-to-face customer onboarding, and the introduction of an electronic identification system and a Hong Kong KYC utility to address the client identification and verification requirements applicable to financial institutions.

Recap of the existing requirements for non-face-to-face client onboarding

AMLO
  • The AMLO requires an intermediary to take additional measures to compensate for any risks associated with customers not physically present for identification purpose
SFC AML Guideline
  • The SFC AML Guideline requires an intermediary to carry out at least one of the following measures:
    • further verifying the identity based on information not previously used for verification
    • taking supplementary measures to verify information obtained by the intermediary
    • ensuring the first payment into customer's account is from a named account with another bank
Paragraph 5.1 of the Code of Conduct
  • Paragraph 5.1 of the Code of Conduct requires an intermediary to “take all reasonable steps to establish the true and full identity of each of its clients
  • Client's identity may be verified by any of the following means:
    • certification by a professional person or any other licensed person
    • certification services under the Electronic Transaction Ordinance ("ETO")
    • other procedural steps, as elaborated further below ("Procedural Steps")
SFC 2016 Circular
  • The SFC acknowledged that certain additional approaches may be used in non-face-to-face situations, including:
    • reliance on overseas certification authorities which have attained mutual recognition status under the Mutual Recognition of Electronic Signature Certificates Issued by Hong Kong and Guangdong
    • reliance on a government-maintained national citizen identity database
  • The SFC also clarified that:
    • any affiliate performing client identity verification for account opening should be a regulated financial institution
    • use of biometrics such as fingerprint, face or voice recognition should be limited to ongoing client authentication rather than in the initial onboarding process

The Procedural Steps prescribed under paragraph 5.1 of the Code of Conduct are as follows:

  • The new client sends to the intermediary a signed physical copy of the client agreement together with a copy of the client’s identity document
  • The intermediary should obtain and encash a cheque (amount not less than HK$10,000 and bearing the client’s name) issued by the new client and drawn on the client’s account with a Hong Kong bank
  • The signature on the cheque issued by the client and the signature on the client agreement must be the same
  • The client is informed of this account opening procedure and the conditions imposed, in particular the condition that the new account will not be activated until the cheque is cleared
  • Proper records are kept by the intermediary to demonstrate that the client identification procedures have been followed satisfactorily

The new procedures under the Circular

The Circular introduces new alternative procedures (“New Procedural Steps”) to verify clients’ identities in an online setting. The New Procedural Steps supplement paragraph 5.1 of the Code of Conduct.

The key changes introduced under the New Procedural Steps are:

Requirements Key changes

1. Client sends the client agreement and identity document copy to the intermediary

Client agreement can now be signed electronically

Instead of requiring a “signed physical copy” of the client agreement, an intermediary can now obtain a client agreement which is signed by a client by way of an electronic signature that complies with the ETO.

2. Client deposits not less than HK$10,000 from a Hong Kong bank account

The HK$10,000 initial deposit can now be made by way of bank transfer

Instead of obtaining a cheque bearing the client’s name drawn on the client’s bank account, an intermediary can now accept the deposit by way of a bank transfer from the client’s bank account (“Designated Bank Account”) in Hong Kong to the intermediary’s bank account.

This removes the need to double-check the signature on the cheque against the client agreement, and allows the intermediary to open a new account more quickly (without the need to wait until the cheque is cleared).

3. Intermediary informs the client of the account opening procedure and conditions imposed

This requirement is no longer applicable

Under the New Procedural Steps, the intermediary is no longer required to inform the client of this account opening procedure or the conditions imposed.

4. Intermediary conducts all future deposits and withdrawals through the Designated Bank Account(s) only

This is a new requirement

Under the New Procedural Steps, all future deposits and withdrawals for the client’s trading account must be conducted through the Designated Bank Account(s) only.

5. Intermediary maintains proper records of account opening process

SFC clarifies that such records should be readily accessible for compliance checking and audit purposes

Implications for intermediaries

The New Procedural Steps allow intermediaries to streamline and accelerate their existing account opening processes, improve customer experience and cut costs by reducing cumbersome administrative procedures (such as double-checking signatures on cheques and waiting until a cheque is cleared before activating a new account).

To ensure full regulatory compliance, intermediaries should ensure they:

  • update their internal policies and procedures to reflect the adoption of the New Procedural Steps;
  • keep clear and complete records of the account opening process in respect of each new client, and ensure they are readily accessible by regulators; and
  • maintain clear documentary evidence of compliance with all relevant anti-money laundering laws and regulations.

Conclusion

The Circular indicates a flexible regulatory approach by the SFC and provides clarity on its expectations for account opening with a customer who is not present. We welcome the SFC’s response to market feedback, which reflects the Hong Kong Government’s further promotion of Hong Kong as a ‘world-class smart city’.

Several initiatives are underway which will further enhance Hong Kong’s place as a leading financial centre (the development of the Greater Bay Area being one example). With the forthcoming re-write of the SFC AML Guideline and review of paragraph 5.1 of the Code of Conduct, intermediaries should closely monitor the developments in this area and be ready to revise their policies and procedures to take advantage of these technology-driven changes.