Blockchain-Based KYC Model for Credit Allocation in Banking

Abstract

Know Your Customer (KYC) procedures play a crucial role in enhancing security and efficiency in financial
institutions. Conventional KYC processes rely on independent or centralized verification methods,
whereas blockchain technology provides a decentralized alternative. A blockchain-driven KYC framework
enhances transparency by enabling real-time validation and secure data sharing among authorized
stakeholders. The cryptographic nature of blockchain minimizes data breaches while eliminating
redundant paperwork. This study presents an Ethereum-based approach for managing financial records,
including credit limits, risk assessments, and collateral details, following loan approvals. The proposed
system enhances banking efficiency through a transparent and streamlined KYC framework. Additionally,
this study explores security risks such as Sybil attacks and suggests mitigation strategies.

Index Terms

Customer Authentication, Blockchain, Ethereum, Smart Contracts, Distributed Ledger Technology.

1. Introduction

Blockchain technology is a decentralized system that maintains distributed records across multiple
nodes, ensuring data transparency, security, and reliability. Each participant in the network stores an
identical copy of the data, preventing unauthorized alterations. The rise of Bitcoin, introduced in 2008
via a whitepaper authored under the pseudonym Satoshi Nakamoto, brought blockchain technology into
the spotlight. Bitcoin demonstrated how secure digital transactions could occur without relying on
intermediaries, effectively solving the issue of double-spending.

Over time, blockchain technology has progressed through different phases. Blockchain 1.0 was focused
on digital currency transactions, Blockchain 2.0 introduced financial applications such as smart contracts,
and Blockchain 3.0 expanded to industries beyond finance, including healthcare and government
services. In the financial sector, blockchain is utilized for various applications such as cryptocurrency
trading, payment processing, KYC verification, and digital asset management, including NFTs.

Traditional KYC methods require individual financial institutions to verify customer data independently,
leading to inefficiencies and duplication of efforts. Some organizations implement centralized systems to
facilitate information sharing; however, these structures raise concerns over data security, ownership,
and accessibility. A blockchain-based KYC model provides a decentralized solution, allowing real-time
access to verified customer information while reducing the reliance on intermediaries and lowering
operational expenses.

A blockchain-powered KYC framework improves efficiency by expediting verification times, reducing

fraud risks, and optimizing customer onboarding. This study introduces an Ethereum-based KYC model
that leverages smart contracts written in Solidity. Once a loan is granted, financial details such as credit
limits, risk factors, and collateral information are securely recorded on the blockchain. If a customer
applies for loans from multiple institutions, authorized financial entities can access the shared data
seamlessly. Since this system functions on a private blockchain, it mitigates risks such as Sybil attacks and
unauthorized data access.
The proposed model strengthens financial transparency, enhances collaboration between institutions,
and improves security in KYC processes through blockchain integration.

6. Result

This study evaluated both traditional and blockchain-based KYC models. While blockchain-based KYC
demonstrated advantages in terms of security and efficiency, traditional KYC remains stronger in
regulatory compliance. A comparative analysis is provided in Table 2.

One key advantage of blockchain-based KYC is the reduction in processing time. In traditional systems,
banks independently verify each transaction, leading to delays. In contrast, blockchain enables a one-
time verification that is securely stored and accessible to authorized institutions. Additionally, the Proof
of Stake (PoS) consensus mechanism plays a crucial role in preventing Sybil attacks by requiring
participants to commit a stake, thereby increasing the cost of generating fraudulent identities.

Blockchain technology enhances the speed and security of KYC verification while minimizing redundant
processes. The results suggest that integrating blockchain into financial systems can significantly improve
data integrity, security, and operational efficiency while ensuring compliance with evolving security
protocols.

7. Discussion

The KYC process is a fundamental aspect of banking operations, playing a crucial role in security and
regulatory compliance. Traditional KYC methods often present challenges, including inefficiencies and
security vulnerabilities. Each financial institution independently verifies customer data, leading to
redundant processes and delays.

A blockchain-based KYC model improves efficiency by offering a secure and decentralized solution.
Through blockchain technology, banks can conduct risk assessments more effectively, enabling real-time
data sharing between institutions instead of relying on batch processing at the end of each day. The
immutable nature of blockchain enhances fraud prevention, as data records cannot be altered or
tampered with.

Despite the benefits of blockchain-based KYC, regulatory challenges remain a significant barrier to
widespread adoption. Some governments and financial authorities are hesitant to embrace
decentralized systems due to compliance and oversight concerns. However, as financial institutions
recognize the reliability and efficiency of blockchain, its adoption in KYC processes is expected to
continue growing in the banking sector.

8. Conclusion

This study presents a blockchain-based KYC model that facilitates secure data sharing related to loan
allocations among financial institutions. By leveraging smart contracts written in Solidity on the
Ethereum network, this model ensures a seamless exchange of information while maintaining data
integrity. The implementation process includes deploying smart contracts, recording transactions, and
enabling real-time access to verified KYC data.

The proposed system enhances security through its private blockchain framework and PoS consensus
mechanism, mitigating risks such as Sybil attacks. The adoption of blockchain technology in KYC
processes addresses the inefficiencies of traditional banking methods by providing an immutable, shared
ledger that improves customer onboarding and risk management.

Although regulatory challenges persist, blockchain’s potential to revolutionize KYC procedures is evident.
As technology advances and regulations adapt, blockchain is poised to become a fundamental
component of financial compliance. The integration of blockchain in banking enhances transparency,
security, and efficiency, ultimately paving the way for a more robust financial ecosystem.

Additionally, as data security and efficient information sharing become increasingly important,
blockchain’s role in financial applications will continue to expand. Future applications may include
innovations such as tokenized Letters of Guarantee (LoGs) using NFTs, which prevent duplication and
counterfeiting, further strengthening security measures in the financial sector.