Digital Identity in Financial Services: Avoiding Fraud in 2024

Once upon a time, customer identification was a simple if tedious process for financial institutions.

Verifying a customer’s identity could easily be accomplished via in-person interactions with the customer or online password authorizations. However, new advancements in digital banking capabilities have re-invented what the identity verification process looks like in financial services.

In today’s highly tech-oriented financial industry, financial institutions must consider several new complexities brought about by digital identity verification.

As banking becomes more digital, financial institutions are slowly but surely updating their approach to customer identification to accommodate new methods for accessing financial services virtually.

Exadel offers a wide range of financial services solutions that enable financial service providers to create a robust approach to digital identity verification. Our digital banking experts help to streamline and optimize your organization’s internal processes to be highly secure and informed by diverse data sources.

Plus, Exadel can help you connect to open finance ecosystems that give your team greater access to relevant information about your customers and their financial behaviors.

Find out what digital identification in financial services is and how to combat fraud.

What is Digital Identity Verification?

Digital identity refers to the digital verification credentials assigned to a specific customer that allow them to interact with digital banking services.

Unlike traditional identity verification, digital identity in financial services enables new forms of verification beyond government-issued IDs, such as biometrics and device-specific verification.

In 2019, McKinsey reported that nearly one billion people around the globe lacked a legally recognized form of identification, such as a government-issued ID, causing many of these individuals to be denied access to key financial services. At the time, McKinsey’s research suggested that the implementation of digital identity solutions could create value worth up to 13% of GDP by 2030.

A more recent 2022 McKinsey report classifies digital identity as a “digital-trust technology,” that “characterizes and distinguishes an individual identity” in digital spaces. This report highlights many key benefits of digital identification to both financial institutions and customers, such as:

1. Digital Identity Theft

Digital identity theft is the fraudulent use of digital financial credentials that allow criminals to access online banking and financial accounts belonging to victims.

In a digital identity theft scenario, a cybercriminal must obtain key pieces of sensitive information that allow them to pass through digital identity verification processes undetected. Once this is accomplished, the fraudster can then manually alter account settings to disable multi-factor authentication and change verification methods to permanently lock a user out of their account.

One 2022 research report from Vanson Bourne — a global technology market research company — found that 80% of financial service organizations have experienced data breaches related to weak authentication processes. Additional key findings from this report include:

• The average cost of authentication-related cyber breaches is more than $2M
• 89% of financial services organizations believe passwordless authentication is a necessity
• 90% of financial services organizations agree passwordless authentication offers cost benefits

Although implementing digital identity processes within an organization’s authentication model can help to prevent identity theft, it all comes down to whether or not customers are actually leveraging the more secure digital identity verification tools available to them.

As mentioned, for a cybercriminal to carry out digital identity theft, they first need access to the relevant user credentials. If a customer were to opt out of key protections like multi-factor authentication, these credentials become much easier to access, putting the customer’s account at a much higher risk despite having the added advantage of a digital identity in financial services.

2. Synthetic Identity Theft

While digital identity theft involves the misuse of a victim’s financial credentials, synthetic identity theft refers to the creation of an entirely false digital identity that is optimized to not appear suspicious.

Synthetic identity theft can be particularly challenging due to how the synthetic identity is created.

The synthetic identity theft process often involves using a stolen national ID number, such as a social security number (SSN) in the U.S., rather than stolen account credentials. With this ID number in hand, fraudsters can make up a new name, mailing address, and other falsified personal information to create a totally new digital identity in financial services.

In a 2021 impact report surveying 46 North American fraud executives, 70% of respondents either strongly agreed (32%) or somewhat agreed (38%) that synthetic identities present a bigger overall challenge and threat than traditional identity theft.

Unfortunately, national ID numbers are not always the easiest to monitor without the right government-backed controls and regulations in place. As a result, cybercriminals can select ID numbers that are linked to less active individuals and get away with using a synthetic digital identity for long periods.

One NBC report from 2010 even revealed that nearly one in seven SSN holders have two or more names attached to their SSN records, proving that these ID number systems are far from perfect.

For example, fraudsters can often exploit SSNs that have not yet been tied to any credit bureaus, allowing them to create an entire fraudulent credit history based on false personal information. Additionally, fraudsters are becoming more adept at fooling Know Your Customer (KYC) protocols.

This makes it extremely important for financial institutions to have a clear digital identity strategy in place that allows them to recognize synthetic identities.

Establishing such a strategy requires the use of more sophisticated identity verification technologies that can pull and compare information from a much broader range of sources. Moreover, financial institutions must employ the right mix of technologies that are designed specifically to detect anomalies and inconsistencies associated with synthetic identities.

According to a 2022 Thomas Reuters report on synthetic identity fraud, the key is to employ a system that can compare broad data points to differentiate a real person’s digital identity from a synthetic identity by establishing a baseline for a person’s behaviors. The report further states:

The Potential Impact of Web3 on Digital Identity Verification in Financial Services

Over recent years, more and more emphasis has been placed on the development and implementation of Web3 — a concept for a new iteration of the internet based on decentralized blockchain technology.

To give a quick overview of Web3, Web3 is — at its core — the application of decentralized technologies like blockchain in traditionally centralized processes.

For example, blockchain uses distributed ledger technology to create immutable histories linked to specific digital identities. Web3 also enables customers to take a more active role in their financial activities, as blockchain products and applications typically provide users with governance privileges.

Together, distributed ledgers and user governance make it significantly harder for a fraudster to leverage a digital identity in banking without authorization from the users themselves.

However, Web3 has met many roadblocks along the way, despite having many supporters within the financial industry. There has been some progress in terms of implementing Web3 concepts to improve digital identity protections, such as the EU’s proposed European Digital Identity Wallet that would enable EU citizens to store their digital identity credentials within a government-backed mobile application.

Although the European Digital Identity Wallet represents a promising future, we still have a long way to go in terms of aligning decentralized blockchain technologies with centralized financial regulations.

Meet the Challenge of Digital Identity in Financial Services

Digital identity is the future of financial services.

Financial technologies are only becoming more advanced and complex. While digital identities in financial services offer many advantages to financial service providers that can enhance the customer experience and maximize operational efficiency, they also come with an increased risk of fraudulent activity.

To meet and overcome this challenge, financial service providers need a trustworthy digital infrastructure and expert support to optimize the digital identity verification processes they have in place.

Contact the Exadel team today to find out how we can improve your approach to digital identities in financial services.