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Tuesday, June 11, 2024

AML/CFT: Becoming KYC compliant for Investment in MF - Evolution & Crux

 KYC is an acronym for "Know Your Customer" and is a term used for Customer Identification Process as a part of Account Opening process with any financial entity. KYC establishes an investor’s identity & address through relevant supporting documents such as prescribed photo id (e.g., PAN card) and address proof and In-Person Verification (IPV).

KYC compliance is mandatory under the Prevention of Money Laundering Act, 2002 and Rules framed there under, read with the SEBI Master Circular on Anti Money Laundering (AML) Standards/ Combating the Financing of Terrorism (CFT) /Obligations of Securities Market Intermediaries Securities Market Intermediaries.

You cannot invest in a mutual fund without completing your KYC process. KYC for mutual funds can be done online through the KYC Registration Agency (KRA ) website or a mutual fund investment portal. Once your KYC verification is successful, you can invest through any mutual fund investment platform with the same KYC identification.

The online KYC process for mutual fund investing takes around four to five days to be completed, whereas the offline KYC process can take around a week.

You can login to any KRA online and begin your KYC process by entering your PAN and Aadhaar details. You can change your KYC for mutual funds in India offline and online. It can be done through KRA, the office of Asset Management Company(AMC)  or that of  Registrar and Transfer Agent.

Investors can verify their KYC status through any KRA website. If any modifications are required, they can submit re-KYC through their intermediary’s or mutual fund’s website, which are integrated with the KRAs.

KRAs send communications to intermediaries and investors, updating them on KYC status and any changes to the KYC records. This communication process ensures that investors are kept informed and can take necessary action if needed.

 

KYC Registration Agency (KRAs)




KYC Registration Agencies are central to the seamless operation of financial services, providing a robust framework for KYC data storage and verification. They play a key role in enhancing financial security while ensuring ease of services for investors and intermediaries.

 The SEBI circular dated April 06, 2022  on KYC Registration Agency (KRA), SEBI introduced some changes. These changes intended to make the KYC process investor friendly and maintain its uniformity across all SEBI-regulated intermediaries viz. Mutual Funds, Portfolio Managers, Depository Participants, Stock Brokers, Venture Capital Funds, Collective Investment Schemes, etc. 

The circular requires the KRAs (SEBI KYC Registration Agencies) to verify the KYC records of clients within two days of the document being received. 

During the process of validation, KRAs will validate details of Aadhaar through Unique Identification Authority of India (UIDAI) authentication, PAN using the Income Tax database, and mobile number and e-mail ID using one-time password validation. This is applicable only in cases where the mobile number and e-mail ID provided by the client are not seeded with Aadhaar.

Post verification, the KRAs must assign and inform the client about a unique client identifier called the ‘KRA Identifier’. The client may use the KRA Identifier for opening of an account with any other intermediary, without repeating the KYC process. 

The SEBI KYC Process:

 

  • Verification of Proof of Identity and Address (POI & POA)

-Aadhaar document submission (Aadhaar is verified through UIDAIs authentication/verification mechanism)

-PAN card submission (PAN is verified online using the Income Tax Database)

  • Consent from the investor
  • E-sign/ wet signature/ digital signature/ cropping signature
  • Mobile & Email verification (Mobile and email are verified through One Time Password (OTP) or other verifiable mechanisms)
  • Bank account verification (Bank account details are verified by Penny Drop mechanism or any other mechanism using API of the Bank)
  • VIPV (Video In Person Verification)

-Activity Log with credentials of the person performing VIPV 

-Investor (Client) in VIPV should be recognisable and in a live environment

-Random question by the VIVP and response from the investor

-Photograph of the customer to be matched with the one on IDs

-Geo-tagging to ensure the customer is in India

SEBI registered intermediary may implement their application (App) for conducting online KYC of investors. The RI (Regulated Intermediary) shall ensure that the process is a seamless, real-time, secured, end-to-end encrypted audiovisual interaction with the customer and that the quality of the communication is adequate to allow identification of the customer beyond doubt. 

The RI shall use a ‘liveliness check’ to prevent spoofing and other fraudulent manipulations. It shall, before rolling out and periodically, conduct software and security audits and validation of its App. The RI may have additional safety and security features other than as prescribed above.

SEBI’s master circular on KYCnorms 13 Oct 2023


1.      All Sebi-registered intermediaries will use the same KYC form and supporting documents. 

The account opening form for clients will be divided into two parts. The Part I of the AOF will be the KYC form which will capture the basic details of the client. 

And part II of the form will obtain the additional information specific to the area of activity of the intermediary as considered appropriate by them. The master circular, however, deals with the provisions of Part I of KYC form. 

2.      To identify every participant in the securities market with their respective PAN thereby ensuring sound audit trail of all the transactions, PAN will be the unique identification number for all participants transacting in the securities market, regardless of the amount. 

And the registered intermediaries will verify the PAN of their clients online at the income tax website without insisting on the original or copy of the PAN card. 

3.      There are a few exemptions to PAN requirements including for the SIP of mutual funds up to ₹50,000 per year.

 

The name in the KYC form will match the name as mentioned in the proof of  identity submitted.

The documents that will be accepted as proof of identity include passport, driving licence, aadhaar number, voter's ID card, letter issued by the NPR and any other document as notified  by the Central Government in consultation with the regulator. 

4.   A document shall be deemed to be an officially valid document even if there is a change in the name subsequent to its issuance provided it is supported by a Marriage Certificate  issued by the State  Government or a gazette notification, indicating such change of name.

5.  There is a requirement of additional documents for non—individuals i.e., legal entities such as trust, partnership firm, HUF, registered society, among others. 

6.   The registered intermediaries shall  upload  the details  of  mobile number and email address on the KRA system.

7.  The in-person verification carried out by one Sebi registered intermediary can be relied upon by another intermediary.

8.  The e-KYC service launched by UIDAI will be accepted as a valid process for KYC verification.

 

SEBI  requested in October 2023 that all investors in mutual funds link their PAN to Aadhaar by March 31, 2024. It said that the KYC process would stop and investment operations would stop if there was a connection failure. A bank passbook or account statement might potentially be used as address verification for KYC.

The regulator asked KYC registration companies to use PAN, name, address, email addresses, and cellphone numbers to confirm the KYC of owners of mutual fund units. Cross-referencing investor information based on PAN and Aadhar cards with government databases, such as Income Tax (IT), was the aim. Investors that used different papers had problems with validation and had to resubmit their KYC.

SEBI had made it mandatory for all mutual fund investors link their PAN with Aadhaar to complete the KYC process by March 31, 2024. If PAN and Aadhaar were not linked, the KYC process would be put on hold, preventing any investment activity including systematic investment plans (SIPs) or lump sum purchases.


Consequences of not Linking Aadhar & PAN

 

If you fail to do pan card Aadhar card link within the due date, you may have to face the below-mentioned consequences:

1.      PAN becomes inoperative

If an individual does not link PAN to Aadhaar within the due date, his/her PAN will become inoperative. Once PAN becomes inoperative, it will not be possible to furnish, intimate, or quote the PAN number anywhere. This may further result in:

 

·         Higher tax rate applied for income tax purposes

·         Higher TDS collection 

·         Inability to file income tax returns, which can further attract interest, penalty and even prosecution as a result of not furnishing details of income generated

·         Penalty for not quoting PAN during certain financial transactions

 

2.      PAN-Aadhaar interchangeability is not allowed

If Aadhaar is linked to an individual’s PAN, the Income-tax act allows the interchangeability of both. This means a person can quote either Aadhaar or PAN where needed. However, if these are not linked, the interchangeability of these numbers will not be permitted.

Additionally, since PAN will become inoperative in the case of non-linking to Aadhaar, an individual will not be able to quote Aadhaar in lieu of PAN or vice versa.

3.      Penalty under Section 234H

 

·         In case an individual fails to link Aadhaar to PAN by the due date, he/she will be held liable for charges of up to Rs. 1,000 for while requesting for linking of PAN with Aadhaar.

·         A penalty of Rs. 10,000 will be applicable for non-filing of returns of income. 

 

Linking PAN and Aadhaar.

In a revised circular issued on May 14, 2024, the capital markets regulator SEBI has done away with the requirement of checking PAN and Aadhaar link.

In the revised circular under the risk management framework, SEBI  has mandated KYC registration agency (KRA) websites to verify three attributes of records of all clients within two days of receiving information — PAN, Name and Address, doing away with the need to check PAN and Aadhaar linkage

Earlier if PAN and Aadhaar were not linked, your KYC would be on hold. Now, if Aadhaar and PAN are not linked and if you do Aadhaar-based KYC, then you will get ‘KYC-Registered’ status. However, for getting ‘KYC-Validated’ status, PAN and Aadhaar still needs to be linked

Investors require a “KYC-validated” status, which is only possible after linking PAN with Aadhaar, for unconstrained transactions across all fund houses. A KYC-registered status allows investors to only transact with the fund houses they already have investments with


To identify every participant in the securities market with their respective PAN thereby ensuring sound audit trail of all the transactions, PAN will be the unique identification number for all participants transacting in the securities market, regardless of the amount. 

And the registered intermediaries will verify the PAN of their clients online at the income tax website without insisting on the original or copy of the PAN card. 

There are a few exemptions to PAN requirements including for the SIP of mutual funds up to ₹50,000 per year. 

The three shades of KYC

Registered or Verified

Validated

Hold

Transact with that particular Intermediary only

Transact with any Intermediary in the market

Deficiency in documents submitted

 

PAN–MF Folio Name Mismatch

Effective April 30, 2024, your name on a mutual fund application must match your income-tax permanent account number. But only fresh folios will be impacted.

In a move to harmonise how your name appears across official records (the spelling, order, initials), the Securities and Exchange Board of India's KYC rules mandate that your name must be uniform. As a result, if you are investing in a mutual fund folio for the first time, your name and date of birth must be identical to the name on your PAN, and by extension, on your income-tax records.

 

Earlier, after you submitted an MF application, your fund house’s Registrar and Transfer Agent (RTA) used to send your name and date of birth to Protean (the erstwhile NSDL database) or UTITSL, the two government-sponsored agencies in charge of issuing PAN cards.

These agencies would then revert to your fund house (RTA, to be precise) with your name as per Income-Tax Department records, name as per PAN card, PAN valid status, PAN-Aadhaar status and a few more details.

Your RTA used to then match the reverted details with the name on your application. A match used to be drawn using fuzzy logic. For instance, if you had written SK Raja on your MF application, and your PAN has you as Suresh Kumar Raja, it was considered a match and your investment was approved. If you had written your name as Mohd. Irfan in the MF application, and your name as per the Income-Tax department was Mohammed Irfan, it was considered a match. Under this fuzzy logic, at least 60-70 percent of the name had to match.

That’ll change. From now on, the two PAN agencies will not revert with details of your name to your RTA. They will just get back with a ‘Y’ or ‘N’ (yes or no) indicating whether your name as per your MF folio matches your income-tax records. If your name doesn’t match, then your application will be rejected.

New vs existing folios

Existing investors will not be impacted. That is because validation of your name (folio and income-tax records) is a one-time exercise. For existing investors, your MF (through its RTA) would have already done the validation (using the fuzzy logic outlined above). Any subsequent investments in the same folio will not require name validation.

However, if you are investing afresh in a brand-new folio, then your mutual fund will run a name validation.

But there’s a twist. Since the RTA does the check, the validation will be good for all mutual funds that it supports. Assume, for instance, that you have invested in Fund House A, which is serviced by CAMS, one of the two largest RTAs in the Indian mutual funds industry. If you wish to invest in Fund House B, and are doing so for the first time, your name validation will hold if Fund House B is also serviced by CAMS. Hence, your name as per your folio doesn’t need to match exactly with the income-tax record.

But if you were to invest in Fund House C, which is serviced by another RTA, say K-Fintech, and you have never invested in any fund house that K-Fintech services, than you will be subjected to name validation. In such a case, you should ensure that your name matches your PAN.

EFFECTIVE FROM APRIL 30, 2024, YOUR NAME AS PER MUTUAL FUND APPLICATION MUST MATCH INCOME –TAX RECORDS(PAN)

NAME AS PER MF APPLICATION

NAME AS PER INCOME-TAX DEPT/PAN Card

How it will be considered after April 29, 2024

Suresh Metha

SURESH METHA

Matched

Mark Anthony

MARK ANTHONY

Matched

SK Raja

SUPER KRISHNA RAJA

Not Matched

XYZ Industries Pvt. Ltd

XYZ Industries Private Limited

Not Matched

R K Singh (HUF)

R K Singh HUF

Not Matched

Mohd. Irfan

Mohammed Irfan

Not Matched

ABC & Co

ABC AND CO

Not Matched

Kumar Babu

BABU KUMAR

Not Matched

Srinivasan Kumar Kannan

Kannan Srinivasan K

Not Matched

Kumar S Shah

Kumarbhai S Shah

Not Matched

Source: FAQ on PAN validation by CAMS

 

Your name in your MF application must match with that on your income-tax records

Happy Investing




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