Reduce fraud with digital identity verification for lending

Identity verification is critical to reducing loan fraud. The potential friction it represents, however, can cause applicants to abandon their application. Learn how to use it against the most common types of loan fraud while increasing real applications.

January 24, 2023

Tom Sullivan Pic
Tom Sullivan

Tom is a fintech industry writer who creates whitepapers and articles for Plaid. His work has been featured in publications like Forbes, Fortune, and Inc. He's passionate about the freedom that the union between financial services and technology can create.

The lending industry is fraught with scams where fraudsters attempt to borrow money under a false identity—with no intention of paying the money back. In Q1-Q3 of 2022 alone, there were over 580,000 identity thefts that involved credit card fraud, loan or lease fraud, and bank fraud. 

Because of this high volume of fraud attempts, identity verification is a necessary part of the loan approval process. It ensures that lenders subject to Know-Your-Customer (KYC) requirements meet their obligations while also helping fight fraud. But some identity verification methods work better than others for combating fraud and converting prospects into applicants. 

In this article, we’ll discuss how lenders can leverage identity verification to mitigate fraud—all while speeding up the applicant experience.

How does identity verification in lending work?

In lending, the identity verification process ensures loan applicants are who they say. This can help lenders, where applicable, complete their KYC process, but it also helps lenders reduce the risk of identity theft, money laundering, and other types of fraud. 

During an identity verification process, lenders review information provided by the applicant such as name, address, date of birth, and identification numbers, and verify the information through documentary (reviewing an ID) or non-documentary (database searches) means. 

Digital ID verification systems can speed up this process and provide additional fraud-fighting services. These include tools like facial recognition to compare an applicant’s facial features against those of their photo ID.

The most common identity verification scams that impact lenders

In Q1-Q3 of 2022, there were over 864,000 identity thefts reported to the Federal Trade Commission (FTC). Among them, two of the top three types were in the credit and lending space (see below). 

Some of the most common forms of identity verification scams facing lenders include synthetic identity fraud and presentation attacks. 

Synthetic identity theft

Synthetic identity theft consists of bad actors creating false identities through the use of both real and fake information. Phishing scams, data breaches, and other leaks have led to the creation of massive databases of personally identifiable information (PII) on the dark web. Scammers can take pieces of this information—such as a social security number, address, or date of birth—and combine them with made-up data to create a fake identity. They then use this information to apply for a loan—often successfully passing the lender’s identity verification check and gaining access to funds.

It’s estimated that financial institutions lose $6-$20B per year to synthetic identity fraud. Moreover, synthetic identities resulting from application fraud are considered the number one threat by fraud executives for the near future. 

To mitigate this risk, lenders can take steps to ensure synthetic fraud is caught at the identity verification check stage. This might include implementing tools such as selfie verification and AI/ML-based behavioral analytics to better detect partially fake identities. 

Presentation attacks

Presentation attacks consist of bad actors attempting to access loans through the use of another person’s physical characteristics or biometrics. The most common methods involve printed photos and fake fingerprints, which fraudsters combine to create a ‘spoof’ during the loan application process. If a lender’s identity verification tools lack the sophistication to catch these impersonations,  fraudsters can gain access to funds. 

Lenders can protect against presentation attacks in three ways:

  • By checking identities across authoritative data sources such as bank and phone records.

  • By using a variety of government-issued identity documents for identity verification in combination with technology that can distinguish between real documents and printouts.

  • By using liveness tools such as video selfies and facial mapping technology that detects pixel changes, deep fakes, masks, and other tricks used in presentation attacks. 

→ Need to fight loan fraud while managing KYC obligations? Plaid Identity Verification helps customers to meet their KYC requirements, reduces fraud, and is the lowest-friction ID verification experience available.

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Why collecting the minimum information isn’t always enough

Bad actors are able to stay on top of these requirements and develop workarounds using stolen identity information (such as the aforementioned synthetic identity fraud). 

At a minimum, lenders should verify an applicant’s name, address, ID number, and date of birth. Unfortunately, breached and hacked data containing this information is likely available for millions of people on the dark web, meaning this isn’t always enough. That’s why the additional measures examined above (such as live selfie verification) should be considered best practices for lenders looking to combat fraud in a meaningful way. 

Plaid IDV’s live selfie verification tool uses 3D facial landmark analysis and facial comparison to verify a user’s selfies against their ID document.

Additionally, lenders can mitigate fraud risk by making digital asset and income verification a part of the loan application process. This not only helps qualify borrowers but also confirms the borrower’s account information matches their application and verifies their income and assets from direct source data. 

→ Need a better way to verify borrowers’ income and assets? Plaid’s lending APIs connect directly with borrowers’ financial accounts to enable more informed decisions, faster. 

Digital identity verification: a way for lenders to reduce drag on their business

While necessary to prevent fraud, identity verification can potentially add friction to the application process. Slow, manual ID verification processes that require human intervention to check IDs against government databases create a pause in the loan application flow. In turn, this can cause some applicants to give up or look for other options in the interim. 

Digital identity verification processes should thoroughly vet loan applicants with multiple methods, but they should do so quickly. Plaid Identity Verification, for example, lets companies confirm customer identities in 200 countries via authoritative data sources, identity documents, and selfie verification—all in seconds. This represents the lowest-friction identity verification option and can improve onboarding conversion rates by 10-20%. 

In lending, identity verification boosts the bottom line

Using a digital identity verification process provides multiple benefits to lenders. It defends against fraud, helps lenders speed up their approval times, and can even help convert more prospective borrowers into applicants. This can mean a significant increase to a lender’s bottom line—and a smart way to get ahead.

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