How the new client money rules affect your firm - Grant … · How the new client money rules...

How the new client money rules affect your firmHigh quality professional advice and expert insight in client moneyFebruary 2015

In June 2014 the Financial Conduct Authority (FCA) issued Policy Statement 14/09 which announced a wide range of changes including but not limited to:• custody assets reconciliations• delivery versus payment

exclusion • recordkeeping and

reconciliations• acknowledgement of trust

letters.

We summarise each key topic within the document on pages 5 and 6 and then discuss each in further detail describing the impact to firms from page 6 onwards. This material is extracted and summarised from the policy statement and set out in logical groupings for ease of reference.

When the new rules will applyThe changes set out in the Policy Statement apply in stages. Some rule changes are already in effect as of July and December 2014 (the latter mainly for new business which firms conduct). The remaining changes come into effect from 1 June 2015 for existing business relationships.

Firms should be aware that in certain sections of the handbook, the rules were renumbered in December 2014 and there will be further renumbering in June 2015. This may entail the firm undertaking new mappings of the rules to ensure that they keep track of the relevant rules in a given timeframe.

What action you need to takeThe changes set out in the Policy Statement affect a wide variety of firms across the financial services industry, excluding insurers. The rules concerning acknowledgement of trust letters, due diligence, unclaimed assets and transfers of business could affect most firms regardless of industry sector. Other rules regarding the alternative approach, use of buffers, delivery versus payment exclusion, and custody reconciliations will apply to some firms but not others.

In an important change the CASS 7 Annex 1 has been replaced with a new chapter 7.16. Firms should carefully study the clarifications which the FCA have issued in respect of how firms should calculate the client money requirement, for example

the amount of money the firm should appropriate and segregate as client money to cover an unresolved shortfall.

Firms should assess for themselves which rule changes will impact their business. We would expect that firms will now have in place programmes to assess, design and then implement the changes which they consider are necessary to comply with the revised rulebook.

We consider that the impacts require firms, amongst other things, to revisit their terms of business, client disclosures, client money and assets policies and even the functioning of technology tools which calculate segregation amounts and provide MI. Client asset governing bodies need to ensure that arrangements have been put in place to provide assurance that their firm is on track to implement required changes in the prescribed timeframe.

Finally firms should take note of the fact that the FCA require auditor assurances in respect of a number of internal systems and controls as a result of these new regulations.

Overview of the proposed changes to the CASS rules in Policy Statement 14/09.

Introduction

HOW THE NEW CLIENT MONEY RULES WILL AFFECT YOUR FIRM 3

Our servicesGrant Thornton’s CASS specialist team has extensive experience working with clients across the investment management, investment banking, wealth management, brokerage, custody, and platform sectors.

Our detailed knowledge of the operational complexities at firms and their administrators, combined with our close working relationship with the FCA means that we bring practical as well as technically robust assessments to each of the firms with whom we perform CASS work.

We have set out below some of the ways in which Grant Thornton can support your firm as you implement the changes required by PS 14/9:• we can help your firm undertake structured

reviews to determine whether the firm is compliant with the new rules set out in this publication

• we can bring to you practical and insightful advice relating to the required changes to operational systems and controls

• we can design and deliver remediation plans• we understand the FCA’s expectations around

good governance and can provide you and your CF10a with support to build, enhance or redesign current governance structures and supporting MI in light of the changes necessary from the PS

• we regularly provide training and awareness workshops to firms ranging from one-to-one in depth discussions to group workshops to high level executive sessions covering key CASS principles.

If you would like to discuss how we can help you in more detail please get in touch.

How we can help you prepare for the new rules

Paul GarbuttPartnerT +44 (0)20 7728 2884 E [email protected]

Paul StaplesSenior ManagerT +44 (0)117 305 7799E [email protected]

Chris GollandSenior ManagerT +44 (0)20 7383 5100 E [email protected]

Owen LeathemManagerT +44 (0)20 7865 2297 E [email protected]

Rukaiya RashidManagerT +44 (0)20 7383 5100E [email protected]

4 HOW THE NEW CLIENT MONEY RULES WILL AFFECT YOUR FIRM

EXECUTIVE SUMMARY

Executive summary

Policy topic Summary of changes Effective date

CASS 6 – Custody Assets Reconciliations

• Internal custody reconciliation – choice of methods introduced – at least monthly

• Physical asset reconciliation

• External custody reconciliation

• Determining frequencies for custody record checks and reconciliations

• Handling discrepancies and shortfalls in custody assets

• Recordkeeping, record checks and reconciliations

1 June 2015

May comply before this date

CASS 6 – Other • Registration of custody assets

• Written custody agreements

1 June 2015

(1 Dec 2014 new business)

CASS 6 and 7 – Delivery Versus Payment Exclusion

• Transactions through a commercial settlement system. Exemption from client money rules until third business day. Introduce written agreement with clients

• Regulated collective investment schemes (‘CIS’). Window reduced to one day for authorised fund managers. Introduce written agreement with clients

1 June 2015 (1 Dec 2014 new business)

1 June 2015

CASS 6 and 7 – Unclaimed Money and Assets

• There is now more clarity and prescription associated with ‘gone aways’

• Prescribed steps taken to contact client

• De minimis amounts

• Onus on firm to check legal position – requires unconditional undertaking

• Paid to charity – not to the firm

• Six years since last movement

• All associated costs to be borne by firm

1 Dec 2014

CASS 7 – Banking Exemption

• Operation of the Banking Exemption – notifications to clients 1 Dec 2014

CASS 7 – Trustee firms • Application 1 July 2014

CASS 7 – Transfers of Business

• Transfer clauses

• Post transfer notifications

1 Dec 2014

1 Dec 2014


Policy topic Summary of changes Effective date

CASS 7 – Immediate Segregation

• Interaction with the EMIR for firms that are members of ‘CCPs’ – clearing arrangement mandatory prudent segregation amount

• Interaction with the DvP window for transactions in settlement systems

• Prudent Segregation

1 June 2015

CASS 7 – Physical Receipts and Allocation of Client Money

• Paying physical receipts into a client bank account

• Cleared funds

• Allocation of client money receipts

1 June 2015

CASS 7 – Alternative Approach

• Firms’ use of the alternative approach

• Auditor assurances

• Obtaining revised auditor reports

• Intra-day adjustments

1 June 2015

(1 Dec 2014 new business)

CASS 7 – Recordkeeping and Reconciliations

• External client money reconciliations

• Internal client money reconciliations

• Non-standard methods of internal client money reconciliation

• Standard methods of internal client money reconciliation

1 June 2015

CASS 7 – Acknowledgement Letters

• Acknowledgment letters and template letters

• Overseas counterparties

• Removal of 20-business day ‘grace period’

• Authorised central counterparties (CCP)

• Recordkeeping and periodic reviews

• Establishing signatory authority/electronic signatures

• Overnight money market deposits

1 June 2015 for repapering existing letters

Templates must be in place for accounts opened after 30 November 2014

CASS 7 – Client Bank Accounts

• Diversification

• Due diligence

1 June 2015

CASS 7 – Money Held by Third Parties

• Client money held by third parties

• Client money relating to custody assets of custodians

1 Dec 2014

1 June 2015

CASS 7 – Other Issues • Interest

• Money ceasing to be client money

• Unbreakable client money term deposits

• Commodity Futures Trading Commission Part 30 Exemption Order

1 July 2014

CASS 8 • Non-written mandates 1 June 2015

CASS 9 • Regular reporting to clients (on client assets)

• Information to clients on client assets protection arrangements

1 Dec 2014

1 June 2015

CASS 7, 7A Multiple Client Money Pools

• Operational complexity and litigation risk

• Operating multiple client money pools – Diversification

• Operating multiple client money pools – Sub-pool disclosure document

• Operation of ‘immediate segregation’ in the context of sub-pools

1 July 2014


CHANGES RELEVANT TO CASS 6Custody assets reconciliations

Internal custody reconciliation 7

Physical asset reconciliation 8

External custody reconciliation 9

Determining frequencies for custody record checks and reconciliations 10

Handling discrepancies and shortfalls in custody assets 11

Custody asset recordkeeping, record checks and reconciliations 12

Custody rules (CASS 6)

(Deadline 1 June 2015)

Current rules • Investment firms are required to maintain records of custody assets in a manner which ensures their accuracy, and that they correspond with the custody assets they hold.

• Internal and external reconciliations should be carried out as often as necessary and as soon as practicable after the date of the reconciliation.

• Any discrepancies identified through the reconciliation process must be corrected promptly.

• Firms must also correct and make good any shortfall in custody assets where there are reasonable grounds for concluding that the firm is responsible for the shortfall.

FCA’s reason for change

• FCA has observed frequent occurrences of firms having poor record-keeping practices, and inadequate systems and controls to ensure the accuracy of records.

• FCA also consider that many firms do not understand their requirements in respect of custody asset recordkeeping, record checks and reconciliations.

• FCA are aware that firms using integrated systems to keep their custody records may not be able to carry out internal custody reconciliations, as it is not possible to extract two independent records from such a system. Consequently these firms will be required to carry out an internal custody record check.

Rule change within PS14/09

• All firms must perform internal custody record checks as regularly as necessary, but at least monthly, to ensure that their records of safe custody assets correspond with their obligations to clients for holding safe custody assets.

• Internal custody record checks must be carried out by one of two methods:

1) Internal custody reconciliation method: a comparison on a particular date between two separately maintained records (which need not be independent of one another) to ensure that the firm’s records of its safe custody assets correspond with its obligations to clients to hold safe custody assets:

a) a ‘client-specific safe custody asset record’; and

b) an ‘aggregate safe custody asset record’; OR

2) Internal system evaluation method: a process to evaluate:

(a) the completeness and accuracy of the firm’s internal records and accounts of custody assets held for clients – including whether sufficient information is being recorded by the firm to enable it to identify a client-specific safe custody asset record, and readily determine the total of all custody assets held for clients; and

(b) whether the firm’s systems and controls correctly identify and resolve all discrepancies in its internal records and accounts of custody assets it holds for its clients (including identification of any negative balances, ‘test’ data or ‘balancing’ entries, IT processing or journal entry errors).

Impact • All firms, regardless of type and business model, will be permitted to undertake their internal custody record checks by way of the internal system evaluation method.

• Firms will be permitted to undertake these processes without first seeking a confirmation or any other report from an independent auditor. The processes will be reviewed by the auditor in the annual client assets report.

• Firms will need to review their processes and procedures to ensure that they will be able to comply with the new regulations.

Custody assets reconciliationsINTERNAL CUSTODY RECONCILIATION













All firms that physically hold custody assets must undertake a physical asset reconciliation as often as necessary, but at least every six months. This comprises a comparison between a firm’s internal records and a count of the actual physical safe custody assets it holds for its clients, performed by one of two methods:

• ‘total count method’ – the count being of all physical custody assets held by the firm on a particular date; and

• ‘rolling stock method’ – the count of all physical custody assets held by the firm being undertaken in more than one stage, with each stage referring to a count of a line of stock or group of stock lines (eg all the securities held in connection with a particular business line being counted at the same time).

• Before using the rolling stock method, firms must document their reasons for concluding that they have systems and controls in place that will effectively mitigate the risk of its records being manipulated (eg ‘teeming and lading’).

• Firms will be permitted to use either of the physical count methods without first obtaining a written report on the adequacy of the proposed method from an independent auditor. However, review of the method used will be a requirement of the annual auditor’s client assets report.

Impact • Firms will need to ensure that they have systems and procedures which enable them to fulfil the physical count requirements.

• Firms carrying out the ‘rolling stock method’ will need to ensure that they have appropriate documentation in place setting out why they consider their systems and controls are adequate. Fees for the annual auditor’s client assets report can also be expected to increase due to the extra time requirement.

Custody assets reconciliationsPHYSICAL ASSET RECONCILIATION













• The changes comprise a number of clarifications as to how external custody reconciliations should be carried out.

• The reconciliations must be performed as regularly as necessary, but at least monthly.

• They must be carried out between the firm’s internal records and those provided by the relevant third party – being the entity with whom the firm deposits custody assets; or with whom it registers custody assets (as the case may be – for instance operators of collective investment schemes).

• The third party’s records for the purpose of carrying out the external custody reconciliation may comprise any appropriate information (including statements or other confirmations).

• Where firms hold physical custody records such as paper share certificates, they are not required to undertake external custody reconciliations in respect of the relevant assets. However, firms would be expected to carry out periodic ‘spot checks’ on whether title to an appropriate sample of custody assets they hold is registered in accordance with the CASS rules.

Impact • Firms should ensure that they are carrying out external reconciliations as required, and at least monthly.

• Firms which physically hold custody assets should establish procedures for carrying out periodic ‘spot checks’ on whether title to an appropriate sample of physical custody assets has been registered correctly.

Custody assets reconciliationsEXTERNAL CUSTODY RECONCILIATION













• At least annually, firms must review the frequency of their custody record checks, physical asset reconciliations and external custody reconciliations (unless they are undertaken on a daily basis).

• FCA has indicated that, as best practice, it would expect firms to carry out daily external reconciliations if they hold assets electronically with a central securities depository and the third party is able to provide information on the firm’s holdings on a daily basis.

• Currently CASS 6.5.9 states that ‘whenever possible’ reconciliations should be carried out by a person who is independent of the production or maintenance of the records being reconciled. The Policy Statement extends this to those responsible for checking the reconciliations as well.

Impact • Firms carrying out custody records, physical asset reconciliations and external custody reconciliations less frequently than daily must introduce procedures to review and document why the frequency they choose is appropriate.

• Firms holding assets electronically with a central securities depository should consider whether they should carry out daily reconciliations (if the relevant information about holdings can be provided by the third party).

• Firms will need to consider the practical impact of the extension of the independence criteria to those who check reconciliations and how this will be implemented.

Custody assets reconciliationsDETERMINING APPROPRIATE FREQUENCIES FOR CUSTODY RECORD CHECKS AND RECONCILIATIONS













• Where a reconciliation has highlighted a shortfall in the safe custody assets held by the firm caused by a discrepancy, the firm must resolve the discrepancy immediately.

• If it is unable to do so, it must ensure client protection by segregating an equivalent amount of the firm’s own assets/client money, so that this is held in such a way that it will be realised for clients’ benefit if the firm fails.

• If another person is responsible for the shortfall (or it is caused by timing differences between the firm’s and a third party’s accounting systems), the firm does not have to make good the deficit but may do so. Firms should take steps to resolve any such shortfalls as soon as possible.

• In certain circumstances firms may also need to consider whether to inform affected clients of the shortfall (for instance if the firm is informed by a third party of the loss of a custody asset).

Impact • Firms will need to ensure that their policies and procedures meet the requirements to make good shortfalls.

• They should also check their own client money permissions and then ensure that any amounts they transfer for this purpose would only be available for clients’ benefit in the event of the firm’s failure, and are clearly recorded.

• Firms which normally operate under the ‘banking exemption’ or use title transfer collateral arrangements for monies received or held on behalf of clients will need to ensure that they have appropriate systems and controls in in place to hold client money in compliance with the client money rules.

• If a firm in these circumstances wishes to use its own money to cover shortfalls in custody assets, then it may need to repaper its agreements or other documentation with the client concerned to ensure that money may be held for the client’s benefit as client money.

• Where a firm segregates its own money as client money to cover a custody shortfall, it will need to revisit the valuation each day to ensure it is still segregating the correct amount to cover the shortfall – such assets will then form part of the custody assets included in the firm’s next internal custody record check.

Custody assets reconciliationsHANDLING DISCREPANCIES AND SHORTFALLS IN CUSTODY ASSETS




Current rules • Existing systems and controls requirements require firms to document their policies and procedures for their custody reconciliations.






• Policy documents should set out the frequencies the firm will follow for its custody reconciliations and the rationale for these frequencies. They should also set out the procedures for the resolution of reconciliation discrepancies and the firm’s procedures for escalating breaches and related issues to the firm’s board and to the FCA where appropriate (this would include any materiality policies a firm adopts).

• Firms will be required to make and retain copies of each custody record check and/or reconciliation undertaken, each review conducted of these arrangements and their policy and procedures for complying with these requirements, including those around recordkeeping and reconciliations.

• Where a firm will be unable to comply with a specified requirement or where the firm materially fails to comply with a rule (ie there is a breach of the rule), a notification must be made to FCA.

• A materiality threshold applies to actual breaches, meaning not all breaches need to be notified to the FCA. What is material will depend on the circumstances and firms will need to consider this on a case-by-case basis.

Impact • The requirement to establish and maintain written policies and procedures for some firms may need a significant resource commitment.

• The FCA did not provide additional guidance on whether or not a breach is material. Firms will need to consider the factors they will take into account when assessing whether a breach is considered ‘material’ enough to warrant disclosure to FCA.

Custody asset recordkeeping, record checks and reconciliations


CHANGES RELEVANT TO CASS 6

Physical share certificates 13

Registration of custody assets 13

Written custody agreements 14


(Effective from 1 July 2014)

Current rules • Firms which safeguard and administer assets must comply with the relevant safeguarding and administering rules.

• They require appropriate permissions, and must comply with the custody rules as required.


• No change – merely a clarification, because some firms had questioned whether paper share certificates fall within the definition of designated investments or MiFID financial instruments (as legal title is recorded on the company register or in CREST).


• As the loss or destruction of share certificates could harm the client in certain circumstances, even though it might not automatically create a loss of title to shares, FCA reiterate that firms which are safekeeping physical share certificates do fall within the scope of the ‘safeguarding’.

Impact • As a result, where a firm is also administering an asset for which it is holding a physical share certificate (eg processing corporate actions), it requires the appropriate permissions and must comply with the custody rules in respect of those assets.



Current rules • In certain circumstances, a firm may currently register or record legal title to its own applicable assets in the same name as that in which legal title to a client’s safe custody asset is registered.


• This poses the risk that when a firm fails, the client’s safe custody assets may not be easily identifiable as separate from a firm’s assets.


• Firms may record their own assets in the same name as any custody asset for no longer than is reasonably necessary:

A) where doing so arises incidentally to the investment business the firm carries on for the account of a client, or to other steps taken by the firm to comply with the custody rules. For example:

• correcting dealing or transaction errors that relate to client positions;

• processing or allocating assets for bulk deals;

• maintaining a small balance of the firm’s own assets (eg as a float to cover custody breaks);

• allowing clients to trade in fractional shares or units and when processing corporate actions;

• making good a shortfall in custody assets with a firm’s own assets.

B) where doing so arises only as a result of the law or market practice of a jurisdiction outside the UK.

Impact • Firms should maintain documentation to demonstrate that they have considered each of the options available to them for the registration of their own applicable assets.

• Firms may not use the exceptions for any longer than is reasonably necessary and must also consider whether there are any means of avoiding using the exceptions.

• When placing assets in overseas jurisdictions, firms will continue to be obliged to disclose these circumstances in specific situations to certain clients.

Physical share certificates

Registration of custody assets



(Deadline 1 June 2015 for existing business)(Deadline 1 Dec 2014 for new business)

Current rules • There is no explicit requirement for investment firms to have written documentation in place to show the terms on which they place client assets with third parties (whether they are ‘depositing’ them in the course of acting as their clients’ custodian, or by arranging custody of them on their clients’ behalf).


• The failure to adequately document the terms upon which assets are held creates uncertainty as to how assets should be treated in the event of a firm’s insolvency and may lead to disputes over the responsibilities and obligations of the different parties involved.


• FCA are introducing an explicit requirement for firms to have written agreements in place whenever they place custody assets with a third party – irrespective of whether that third party is an affiliate of the firm.

• Written agreements must:

1) set out the binding terms of the arrangement between the firm and the relevant third party;

2) be in force for the duration of that arrangement; and

3) clearly set out the custody service(s) that the third party is contracted to provide.

• Alternatively, the investment firm and the custodian could exchange their standard terms of business, or other documentation, as evidence of the terms on which the custodian services are provided.

Impact • Firms will have to undertake a review of their terms of business agreements and establish whether these meet the revised requirements.

• If changes are required, a repapering exercise will be required with the custody service providers.

• If firms rely on standard terms of business or other documentation for this purpose, they must ensure that these meet all the requirements of PS14/09. Care must also be taken to ensure clarity as to which document takes precedence if there is a conflict.

• Any changes to documentation will need to be reflected by firms in their CASS resolution packs.

Written custody agreements


Title transfer collateral arrangements 15

CHANGES RELEVANT TO CASS 6 & 7

Changes relevant to both CASS 6 and 7

(Deadline 1 June 2015 for repapering existing business and adjusting processes)(Deadline 1 Dec 2014 for new business)

Current rules • Under the rules, a firm may stop treating money as client money if the money was transferred to the firm to secure or otherwise cover present or future, actual or contingent or prospective obligations.

• The FCA restricted the use of TTCA for retail clients of Contract For Difference (CFD) and spread betting products following supervisory work which showed that for certain businesses the use of TTCA was not appropriate for retail clients and was not generally in the clients’ best interests.


• FCA wishes to reduce the potential for disputes over the status of assets or monies held under TTCA when a firm enters insolvency proceedings.

• FCA is also aware of disputes arising over the status of assets when a firm is approaching insolvency and clients wish to move assets from TTCA so that they are protected.

• In this context, FCA has particular concerns regarding protections for retail customers.


• Written agreements must be in place for each TTCA and must include the following:

– client’s agreement to the terms of the TTCA;

– any terms under which ownership of the client’s assets may transfer back from the firm to the client; and

– any terms and process to be followed for the termination of the TTCA or the overall agreement through which it was arranged.

• The requirement to have written agreements for TTCA can be fulfilled though the use of market standard documentation (for instance in connection with securities lending activities).

• A set process must be followed by firms if a client ask for assets held under TTCA to be given CASS protections. This must include documenting the client’s request and the firm’s response, including when the protection becomes effective.

• If the effective date of protection is not specified, it is assumed to be within one business day of the firm’s agreement to the request.

• Firms are not obliged to agree to the client’s request to give protection to assets held under TTCA.

• FCA recognises that the termination of TTCA could give rise to a (potentially lengthy) renegotiation of a client’s overall contractual relationship with the firm.

Impact • If firms do not already have written arrangements in place in respect of TTCA, then these will need to be drafted, with legal input.

• Firms must also establish processes and procedures for responding to any requests from clients to move their assets out of TTCA so that they are protected.

• Firms are reminded that communications in this regard must be clear, fair and not misleading.

Title transfer collateral arrangements (‘TTCA’)WRITTEN AGREEMENTS AND PROCEDURE FOR SWITCHING


CHANGES RELEVANT TO CASS 6 & 7Delivery versus payment exclusion

Transactions through a commercial settlement system 17

Regulated collective investment schemes (‘CIS’) 18


(Deadline 1 June 2015 for existing business)(Effective 1 December 2014 for new business)

Current rules • DvP window: Both the custody rules (CASS 6) and client money rules (CASS 7) currently allow firms to disapply the rules during the course of a ‘delivery versus payment’ transaction through a commercial settlement system if certain conditions are met.


• FCA has observed some firms stretching the use of the DvP window – leading to money and assets being held for significant periods of time during which client money and custody assets protections are not available.


• Client’s purchase – the DvP window will start from the date of the client’s payment and then close at the earlier of: – the date the relevant delivery versus payment transaction settles, or– the close of business on the third business day following the date the client fulfils its payment

obligation to the firm. • Where delivery of the asset to the client has not occurred by the close of business on the third business

day, the firm will need to treat the money as client money until such time as the delivery by the firm to the client does occur.

• Client’s sale – the DvP window will start from the date the client fulfils its delivery obligation to the firm and then close at the earlier of:– the date the relevant delivery versus payment transaction settles, or – the third business day following the date the client fulfils its delivery obligation to the firm.

• Where payment to the client has not occurred by the close of business on the third business day because the transaction has not yet settled, the firm will need to treat the asset as a custody asset until such time as payment by the firm to the client occurs.

• Client agreement – each client’s agreement must be obtained to holding its assets or monies within the DvP window.

• Until a DvP transaction in respect of a client’s sale settles, a firm may, if its regulatory permissions allow, segregate its own money as client money, at an amount equivalent to the value at which that client’s custody asset is reasonably expected to settle.

• The firm must first confirm that the relevant client for whom the firm would otherwise be holding the custody asset is entitled to protection under the client money rules.

• The firm will need to ensure it incorporates this money into its internal and external client money reconciliations, and keeps appropriate records of such transactions.

Impact • Firms using commercial settlement systems will need to check that settlement timescales fall within the prescribed timescales.

• Firms will need to review the likely funding requirement if timescales fall outside the revised rules. Funding lines will need to be put in place or settlement arrangements modified.

• Firms will need to ensure they have procedures for:– identifying transactions which fall outside the window and protecting these amounts, and– promptly segregating amounts which settle before the window closes.

• Firms will need to ensure that agreements with clients include the client’s agreement to the use of the DvP window – this may require amendment to their existing terms of business agreements and a repapering exercise with their customer base.

• Some firms may incur additional costs associated with the extra staff time required to prepare and update records of cash amounts which have been segregated to protect the value of unsettled custody assets.

Delivery vs payment (DvP) exclusionTRANSACTIONS THROUGH A COMMERCIAL SETTLEMENT SYSTEM


20 Allocated but unclaimed client money

21 Unclaimed custody assets



Current rules • The current rules permit managers of regulated collective investment schemes (CIS) to make use of the DvP window for the purpose of settling a transaction in relation to units in a regulated collective investment scheme – meaning that settlement amounts are not protected by CASS rules during this window.


• If a firm fails some clients could become unsecured creditors.

• There have been differing interpretations of the DvP window including the length of time that redemption proceeds are subject to the window.

• The rules currently exclude any cheques issued to clients for redemption proceeds from the normal requirement to protect the money until the cheque has cleared.


Authorised Fund Managers (‘AFM’) will be allowed a ‘one day window’ during which the DvP exclusion may apply. This will operate as follows:

1) When a firm receives money that would otherwise be client money from a client in relation to the issue of units in a regulated collective investment scheme, if this has not been passed on to the trustee/depository by the close of business on the business day following receipt, the AFM must segregate it and treat it in accordance with the client money rules; and

2) When a firm receives money that would otherwise be client money in the course of redeeming units in a regulated collective investment scheme, if this has not been passed on to the unit holder/client by the close of business on the business day following receipt, the AFM must segregate it and treat it in accordance with the client money rules.

• Where a firm makes a payment of redemption proceeds to a client by cheque, the cheque should be issued from a client bank account.

• The rules require firms to evidence each client’s agreement in writing to the firm’s use of the DvP CIS window. This could appear in the standard terms of business, and must be retained for the duration of the time that the firm makes use of the exemption for that client.

• AFMs will not be required to protect the value of redemption proceeds as client money, before they have received that money.

Impact • Firms will have a one day window following receipt of money from clients (although the window will ‘close’ on T+1 irrespective of unit price determination). This is a significant change given the current T+3 window.

• Some firms will have less liquidity following these changes, and will need to assess how this will be financed.

• Firms should consider carrying out analysis on when and where client money is held; mapping payment flows; and reviewing fund and investor documentation to ensure that they have clients’ agreement to such use of the DvP CIS window.

• AFMs will not have to apply the immediate segregation requirements so will not have to receive all client money directly into client bank accounts.

Delivery vs payment (DvP) exclusionREGULATED COLLECTIVE INVESTMENT SCHEMES (CIS)


Allocated but unclaimed client money 19

Unclaimed custody assets 20

CHANGES RELEVANT TO CASS 6 & 7Unclaimed money and assets


(Rule changes effective from 1 December 2014)

Previous rules • CASS 7.2.19 R allowed a firm to cease to treat as client money any unclaimed client money balances allocated to an individual client when those balances were unclaimed and the firm was not able to return the money to the client.

• The firm could do this if it could prove that it had taken reasonable steps which included:

– entering into a written agreement, in which the client consented to the firm releasing balances from client bank accounts

– making attempts to trace the client concerned and to return the relevant balance

– ensuring that there had been no transactions on the account (other than charges or interest) for at least six years.


• It was unclear what should happen to money once it ceased to be client money. This resulted in some firms writing such amounts back to their balance sheet.

• This was in conflict with general principles of trust law, which state that a trustee should not benefit financially from his position as trustee.


• Firms may pay away unclaimed client assets (to charity only), having checked that this would be consistent with the arrangements they have put in place with their clients, and that this would be permitted by law.

• A number of changes are being made to the actions which a firm may take as ‘reasonable steps’ to contact a client before paying away unclaimed client assets:

– firms will be expected to attempt to communicate with the client three times in writing (by email or letter) or by telephone using the most recent contact details, allowing at least 28 days between each communication

– firms may use media advertisements to seek the current contact details for, or attempt to communicate with, a ‘gone-away’ client

– any other available means may also be used to seek contact details (including internal records, public records, mortality records and tracing agents).

• Firms will not be expected to continue to attempt to contact clients having received confirmation that contact details are inaccurate.

• When unclaimed client assets are paid away to charity, a firm (or its affiliate) is required to unconditionally undertake to make good any subsequent valid claim from a client and to retain the requisite records indefinitely.

• Any costs incurred by the firm in attempting to contact clients, or insuring against future valid claims in respect of amounts paid away, must be paid from the firm’s own funds.

• For de-minimis amounts up to £25 for retail clients and £100 for professional clients, an abbreviated procedure can be followed whereby the balance may be paid away 28 days after the firm has attempted to contact the client at least once using the most up-to-date contact details.

Impact • Firms should review and amend their procedures and policies for paying away unclaimed client money to ensure that these are consistent with the new rules.

• Firms which do decide to pay away unclaimed client money should consider whether to insure against future valid claims being made from their own funds.

• However, firms are not obliged to pay away unclaimed client money balances and can choose to maintain them indefinitely.

• Firms may need to re-visit customer documentation and agreements in light of the outcome of their impact assessments.

Allocated but unclaimed client money



(Effective 1 December 2014)

Previous rules • There were no provisions in the custody rules (CASS 6) to deal with unclaimed custody assets.


• Without a mechanism in the rules to allow firms to deal with unclaimed custody assets, firms had limited choice in resolving the holdings of unclaimed custody assets.


• Firms may pay unclaimed custody assets to charity in specie or liquidate those assets and pay the proceeds to charity.

• This procedure will not be available for an unclaimed custody asset until at least 12 years since the firm last received instructions concerning any custody assets from or on behalf of the client.

• Firms should follow the same ‘reasonable steps’ set out above in respect of unclaimed client money balances, but should not wait to the end of this 12 year period to ensure they are holding up-to-date contact details for their clients.

• Firms must also ensure that paying away custody assets in this way would be consistent with the arrangements under which it holds such assets, and would be permitted by law.

Impact • Firms should review and amend their procedures and policies for paying away unclaimed custody assets to ensure that these are consistent with the new rules.

• There are no abbreviated procedures for smaller de-minimis custody balances.

Unclaimed custody assets


Banking exemption 21

Allocation of monies received while operating 22 under the banking exemption

CHANGES RELEVANT TO CASS 7Banking exemption

Client money rules (CASS 7)


Current rules • This exemption allows firms with permission to accept deposits (banks) to hold money as a deposit.


• Firms are uncertain as to how they should be holding money under the banking exemption and in what circumstances the money would cease to be held in this way.

• Firms were incorrectly depositing this money in the firm’s own name with third party banks. Firms have used the banking exemption to transfer money to third parties in situations which amounted to them ceasing to use the exemption.


• The provision to clients of updated terms of business to reflect the circumstances (if any) in which money would cease to be treated within the banking exemption and be treated as client money is sufficient for the purposes of meeting FCA’s requirement for notifications to clients when operating under the banking exemption.

• If, having assessed their situation, firms do not believe there are any circumstances in which they will cease to treat money within the banking exemption, they do not need to specifically address this point in their terms of business.

• When using the banking exemption firms will be obliged to make the requisite notifications to clients. However, although failure to do so will mean that the firm is in breach of the rules, it should not of itself affect the status of the money.

• If a firm chooses to use the banking exemption for some of its business and it also holds client money as trustee in accordance with the client money rules in relation to other business for that client, the firm will be required to make both notifications to the relevant clients.

Impact • Firms should ensure that they have assessed their own activities to determine whether they do fall outside the banking exemption.

• Firms with complex product and business-lines should conduct assessments to determine that they are operating the exemption correctly.

• It may be necessary to clarify and re-issue terms of business to clients.

• This proposal does not impose a requirement on firms to renegotiate their terms of business with clients.

• The final rules require firms to be more transparent in their terms of business about how they treat the money they receive from clients, but FCA are not expecting these firms to change their business models.

Banking exemption




Current rules • Previously the rules did not discuss this scenario.


• Seeking to clarify the situation and standardise practices within the industry, the FCA proposed guidance specifying the timeframe within which firms must allocate receipts of client money to the relevant clients.


• Where a firm using the banking exemption receives money which, but for the exemption, would otherwise be held as client money, FCA have amended the guidance to say that they would expect firms to allocate these receipts of money promptly and no later than ten business days following receipt.

• The final rules do not specify the way a firm should treat sums of money that it fails to allocate within the time set out in the guidance.

Impact • FCA expects firms to operate systems which enable them to meet this timeframe.

• Where a firm acts as banker to its clients under the banking exemption, failure to allocate the money to clients promptly should not of itself affect the status of how the money is held.

Allocation of monies received while operating under the banking exemption


Trustee firms 23

Trustee firms – acknowledgement letters 24

CHANGES RELEVANT TO CASS 7Trustee firms



Current rules • A firm that acted as a trustee firm when it conducted designated investment business, which was not MiFID business, was required to apply only some of the client money rules.


• FCA had encountered confusion as to whether the client money distribution rules applied to client money held by a trustee firm.

• The client money rules apply to all client money held by a firm, whereas the trustee may think it prudent to hold all money relating to a specific trust separately from all other trust or firm money. The client money rules currently do not facilitate this.


• Client money distribution rules do not apply to trustee firm client money, but still apply to any non-trustee firm client money held by a firm other than in its capacity as a trustee.

• The final rules still allow trustee firms the ability to opt in to complying with all the requirements relating to the following:

a) segregation of client money

b) client money records

c) accounts and reconciliations

d) the acknowledgment letter requirements

e) client money held by a third party.

• When firms hold both trustee firm client money and non-trustee firm client money, these ‘pots’ of client money must be segregated from each other and the relevant rules must be applied to each ‘pot’ separately.

• The rules allow trustee firms to elect to apply the relevant CASS provisions separately to each trust of which they are the trustee firm.

Impact • These changes should provide trustee firms with improved clarity to enable them to treat client money appropriately under the client money rules, or under trust legislation.

• When designing systems and controls, firms must take into account that client money distribution rules only apply in relation to non-trustee client money held by the firm and any other applicable legislation.

Trustee firms




Current rules • Trustee firms were not required to obtain trust acknowledge-ment letters from institutions with whom they held client money.


• In response to CP 13/05, FCA received queries from a few trustee firms which had already obtained acknowledgement letters, asking whether they would consequently be required to put new acknowledgement letters in place.


• Trustee firms are able to choose to comply with the requirements for acknowledgment letters, but if they do so they must comply with the new rules in full.

Impact • If trustee firms that already have acknowledgement letters in place do not elect to comply with the new rules, they should consider whether they need to take steps to ensure it is clear to the FCA what rules they have chosen to comply with going forward (ie they have not opted in).

Trustee firmsACKNOWLEDGEMENT LETTERS


Transfer clauses 25

Post transfer notifications 26

CHANGES RELEVANT TO CASS 7Transfer of business


(Effective from 1 December 2014)

Previous rules • When a firm transferred client money to a third party in the course of a transfer of business, the firm had to first obtain each client’s consent to the transfer at at the time of the transfer.


• Timing issues arose with obtaining consent to the transfer of client money and the process rarely resulted in all clients responding to a request for consent.


• The final rules do not restrict the type of transferee that client money can be transferred to.

• There are three ‘ways’ in which a firm may transfer client money to a third party in the context of a transfer of business and in doing so that money will cease to be client money for the firm making the transfer:

1) it may obtain client consent at the time of the transfer;

2) it may include in its client agreement a clause which allows the firm to transfer the client’s money to a third party in the future should the situation arise (where the conditions in the rules are met, including notification requirements); or

3) if the client holds less than or equal to a de minimis amount of client money per client (£25 for retail clients and £100 for other clients), neither form of consent is required (but such clients must be notified within seven days of the transfer taking place).

• Firms may choose whether they include a transfer clause within their written client agreements.

• If firms wish to ensure that the option to transfer client money under such a transfer clause is available to them in the future, they can repaper their client agreements with the appropriate wording.

• If at the time of transfer firms do not have such clauses in their client agreements, they are required to obtain the consent of their clients at the time of the transfer and/or apply the ‘de minimis’ provisions to the extent possible.

• Firms should have regard to legal obligations to clients including requirements under the Unfair Terms Regulations.

• In choosing to insert a transfer clause into client agreements, firms are required to commit:

A) to transferring the sums to another firm that will hold those sums under the client money rules

or

B) to exercising all due skill, care and diligence in assessing whether the person to whom the client money is being transferred will apply adequate measures to protect the sums being transferred.

Impact • Firms involved in business transfers should take into account the revised transfer of business clauses in their project plans.

• Consideration should be given to inserting a clause in standard terms and conditions if firms are re-papering these.

Transfer of businessTRANSFER CLAUSES




Previous rules • When a firm transferred client money to a third party in the course of a transfer of business, the firm had to first obtain each client’s consent to the transfer at at the time of the transfer.


• To provide clarity regarding the timing of notifications to clients after a business transfer has taken place.


• The transferring firm must ensure that the following notifications are made to clients no later than seven days after the transfer has taken place:

– how the money will be held by the transferee firm;

– the relevant applicable compensation scheme;

– and the option for a client to have transferred sums returned as soon as possible.

• Clients may be notified prior to the transfer taking place.

• The transferring firm has the obligation to ensure that the notifications are made.

Impact • Firms involved in business transfers should take into account the revised transfer of business clauses in their project plans.

• Consideration should be given to inserting a clause in standard terms and conditions if firms are re-papering these.

Transfer of businessPOST TRANSFER NOTIFICATIONS


Immediate segregation 27

Immediate segregation – Interaction with the European Market 28 Infrastructure Regulations (EMIR) for firms that are members of ‘CCPs’

Immediate segregation – Interaction with the DvP window 29 for transactions in commercial settlement systems

Prudent segregation of client money 30

CHANGES RELEVANT TO CASS 7Immediate segregation



Current rules • Unless they use the alternative approach, firms receiving any client money must segregate it promptly into client money bank accounts.


• A delay in prompt segregation could result in client money being treated by an Insolvency Practitioner as the firm’s own money, and hence a shortfall in the client money available to be distributed.


• The Policy Statement clarifies that, unless the firm uses the alternative approach, all client money must be received directly into a client bank account, and may not be received via the firm’s own accounts.

• Firms should ensure that clients and any third parties make transfers of any money which will be client money directly into the firm’s client bank accounts.

• Where firms cannot obtain acknowledgement letters from banks (which may include overseas banks), any receipt of client money into such a bank account would be in breach of the rules.

Impact • Firms adopting the normal approach which currently receive client money into their own bank accounts, must request payment into client bank accounts only.

• Firms must set up procedures whereby client monies received into firm accounts are returned, with a request for payment to the appropriate client bank account.

• This may involve the communication of amended settlement instructions.

• Firms may continue to make payments from their own accounts to client bank accounts in respect of any sum which is due and payable to the client from the firm.

Immediate segregation







• Some respondents to the Consultation Paper commented that firms that are also clearing members of CCPs may be required by CCPs to make and receive single payments due to both the firm and client segregated accounts at the CCP into a single bank account. This will be used to make payments from the firm to the CCP in respect of margin covering all the firm’s accounts (including client segregated accounts), as well as to receive payments from the CCP to the firm.


• Firms must use ‘reasonable endeavours’ to ensure that their arrangements with CCPs enable them to make and receive payments relating to the firm’s business into and out of the firm’s bank accounts; and those relating to client payments into or out of client bank accounts.

• If this segregation cannot be achieved, ‘mixed’ amounts must be paid into or out of the firm’s bank accounts. This is to minimise the risk of client money being used to cover margin calls on proprietary accounts at the CCP.

• The client money element of the mixed payments received into the house account must be paid into a client bank account promptly and in any event by the close of business of the next business day following receipt.

• Firms will be required to maintain a prudent segregation of client money (which FCA are calling a ‘clearing arrangement mandatory prudent segregation amount’ (‘CAMPSA’) in their client bank accounts. This is to address the risk that on any given day insufficient client money is held in client bank accounts as a result of the client money element of the mixed payment being received into, and held for a period in, the firm account.

• Firms will be required to create and maintain a ‘clearing arrangement mandatory prudent segregation record’.

• Firms will be required to review the CAMPSA amount that they hold at least quarterly, and will have a period of ten business days to carry out each review and complete any adjustments to the CAMPSA in the client bank account.

Impact • Clearing member firms will need to review and amend their procedures accordingly.

• This should include arrangements in respect of the requirement to maintain and review the CAMPSA which will require appropriate documentation and need to be reflected in CASS resolution packs.

Immediate segregationINTERACTION WITH THE EUROPEAN MARKET INFRASTRUCTURE REGULATION FOR FIRMS THAT ARE MEMBERS OF RECOGNISED CENTRAL COUNTERPARTIES (‘CCPs’)







• Some respondents to the Consultation Paper commented that firms that are also clearing members of CCPs may be required by CCPs to make and receive single payments due to both the firm and client segregated accounts at the CCP into a single bank account. This will be used to make payments from the firm to the CCP in respect of margin covering all the firm’s accounts (including client segregated accounts), as well as to receive payments from the CCP to the firm.

• It was noted by respondents to the Consultation Paper that, given the way that some commercial settlement systems operate, firms may need to receive settlement proceeds into their own account prior to making payments to clients or making payments into client bank accounts.


• FCA acknowledge that this is how some commercial settlement systems operate. As a result, the final rules clarify that client money received in settlement of a client’s sale that a firm carries out through a commercial settlement system using the DvP window must be segregated into a client bank account promptly, and in any event by the close of business on the business day following its receipt.

Impact • Firms using commercial settlement systems and using the DVP window will need to ensure that their systems and procedures enable the segregation requirements to be carried out within these timeframes.

Immediate segregationINTERACTION WITH THE DVP WINDOW FOR TRANSACTIONS IN COMMERCIAL SETTLEMENT SYSTEMS




Current rules • Firms are required to transfer out promptly any money paid into a client money account which was not client money, unless it was a minimum sum required to keep the account open.

• Firms are allowed to pay their own money into the account if it is prudent to do so, such monies becoming client money thereafter (often referred to as ‘buffers’).


• Differing practices within industry indicate that firms currently are uncertain as to when prudent over-segregation is permitted.

• There is a risk that a liquidator could seek to reclaim ‘buffer’ amounts from client money bank accounts and that corporate and client monies are considered to be ‘mixed’.


• The rules confirm that firms may transfer their own funds into a client money bank account and keep it there in order to prevent a shortfall occurring – such amounts becoming client money and being referred to as ‘prudent over-segregation’.

• Firms must have a written policy to set out why they consider the use of prudent over-segregation is a reasonable means of addressing each risk and the method that the firm used to calculate the amount segregated to address each risk.

• Firms must maintain a ‘prudent segregation record’ relating to segregation payments made into a client bank account and amounts withdrawn when no longer necessary under the relevant rules. The document should record:

– amounts of payments and withdrawals,

– why such payments or withdrawals were made,

– that each payment or withdrawal was made in accordance with the policy and the relevant client money rules, and

– the total amount of client money segregated pursuant to the rules.

• This record must be retained for a period of five years after the firm ceases to prudently segregate

• Due to the variety of risks that firms may wish to address using this rule, it is for firms to determine the best way of calculating the prudent segregation amount in relation to each risk.

• Firms may prudently segregate for an ad hoc risk not covered by the policy at that time, but must create or amend the policy as soon as practicable to reflect this.

• Prudent over-segregation balances are to be included in firms’ client money reconciliations.

• Prudent over-segregation should not be used by firms as a substitute for accurate and timely record keeping in accordance with other requirements in the client money rules.

Impact • Firms will need to undertake analysis and make a written record of the risks which are to be mitigated through ‘prudent over-segregation.’

• Firms which use, or wish to use ‘prudent over- segregation’ in client money bank accounts must establish a formal policy, and a process for maintaining a ‘prudent segregation record’,

• The ‘prudent segregation record’ must be kept for five years from the date the firm ceases to prudently over segregate.

Prudent segregation of client money


Paying physical receipts into a client bank account 31

Cleared funds 32

Allocation of client money receipts 33

CHANGES RELEVANT TO CASS 7Physical receipts and allocation

of client money



Current rules • CASS 7.4.1 – 7.4.2 requires a firm which receives any client money to pay it promptly into a client money bank account.


• Differing practices within the industry may leave clients with different levels of protection over their money when received by firms.

• There is a risk that cheques (which are themselves client money), may not be held securely by a firm before being banked.

• Various risks around client money not being allocated to clients in a timely manner and the firm’s records not showing clients’ true entitlement have been identified.


• Firms receiving client money in the form of cash, cheque, or other physical means must bank it into a client money bank account (or the firm’s own account if operating under the alternative rules) promptly, and no later than one business day after receipt.

• If a firm is unable to meet the requirement to pay client money received in this format into a client bank account no later than the business day after receipt because of regulatory or other restrictions (such as the Money Laundering Regulations), it must record the receipt in its books, hold it in a secure location and deposit it as soon as possible.

• If a firm receives a post-dated cheque, it must keep it in a secure location, record its receipt in its books and records, and the cheque must be deposited in a client bank account by no later than the date on the cheque (if that is a business day or, if not, the next business day after the date on the cheque).

Impact • Firms need to ensure that they have a secure location such as a safe for holding client money awaiting banking.

• Firms must introduce a control and reconciliation procedure in respect of receipts held prior to banking.

• Any such control will need to be documented in the procedure manual.

Physical receipts and allocation of client moneyPAYING PHYSICAL RECEIPTS INTO A CLIENT BANK ACCOUNT




Current rules • Although the FCA have indicated disapproval of this practice, the rules do not specifically prohibit trading on uncleared cheques.


• FCA has seen evidence of some firms trading on receipt of cheques (before they have cleared), and have concerns that this practice can lead to one client’s money inappropriately cross-funding other clients’ trades; and the risk of a potential shortfall in client money if a cheque is dishonoured after a deal has been placed.


• The final rules set out explicit guidance that states that a firm should ensure its organisational arrangements are ‘adequate to minimise the risk’ that client money may be used on behalf of a client whose money has yet to be received by the firm.

• The final rules also reiterate that the statutory trust does not permit a firm to use client money to advance credit to the firm’s clients, to itself, or to any other person

• The rules do not prohibit firms using their own money to fund clients’ trades (for example, before receiving funds from clients).

• Firms which receive post-dated cheques may return them to clients, or keep them in a secure location. If kept, the cheques must be recorded in the firm’s records, and deposited in a client bank account on the date of the cheque (or the next business day, if the cheque date isn’t a business day).

Impact • Firms should ensure that their systems and procedures ensure that:

– client money received from a client has cleared, before trades are carried out in respect of the sums received

– client money received from a sale has cleared before any payment is made to the client.

• They must also ensure that they have appropriate procedures and controls in place if they choose to transfer the firm’s own money into the client bank account in order to fund deals relating to clients whose funds have not yet cleared.

• Although firms may be able to make use of the prudent segregation rules in this context, this would require considerable care to ensure that these rules were not breached.

• Firms will need to review their procedures for post-dated cheques in light of the explicit rules relating to them.

Physical receipts and allocation of client moneyCLEARED FUNDS




Current rules • Firms are required to allocate client money to individual clients promptly, and no later than 10 business days after notification of receipt.

• If mixed remittances of client and firm money are received, these should be paid into the client bank account; with the non-client element transferred out within one business day.


• Firms may receive money which they know is client money, but are unable to identify which client(s) it relates to. (For instance an HMRC refund covering a large number of clients invested in the same product).

• Lack of clarification within the industry has led to differing practices, resulting in different levels of protection being offered to clients.

• FCA also has concerns about risks arising when client money is not allocated to clients promptly, meaning their true entitlements may not be reflected in the firm’s records.


• Firms will be required to allocate client money receipts promptly, and within ten business days of receipt.

• They must record this money as ‘unallocated client money’ while working to allocate the payment.

• Where a firm is unable to identify money it receives as client money or its own money, it must treat this as ‘unidentified client money’ while taking all necessary steps to determine its status.

• Firms should segregate the amount reasonably believed to represent client money as client money, while working to allocate the payment.

• If firms cannot identify whether money received is client money or the firms’, they should consider whether it should be returned to the payer.

Impact • Firms will need to review and adjust their allocation and reconciliation procedures if necessary.

• Firms will need to consider the circumstances under which unidentified money is returned to the sender, and update their procedures accordingly.

Physical receipts and allocation of client moneyALLOCATION OF CLIENT MONEY RECEIPTS


Firms’ use of the alternative approach 35

Auditor assurances 36

Obtaining revised auditor reports 36

Calculation and maintenance of a mandatory prudent segregation amount 37

Intra-day adjustments 38

CHANGES RELEVANT TO CASS 7Alternative approach


(Effective from 1 December 2014).(Exception – New rules do not apply to a firm operating the alternative approach on the 30 November 2014 until 1 June 2015)

Previous rules • The alternative approach allowed client money to be received into and paid out of the firm’s own bank accounts, rather than client money bank accounts

• The alternative approach was designed for a firm that operated in a multi-product and multi-currency environment for whom adopting the normal approach would lead to greater risks.


• FCA had concerns that receipts of client money into the firm’s own accounts may be held there overly long, if not promptly recognised as client money. Intra-day or timing risk was demonstrated by the failure of LBIE.

• FCA considered that there had been inappropriate use of the alternative approach by some firms (such as those firms operating only in the UK and firms trading in derivatives, exposing clients to risks associated with the alternative approach inappropriately).

• FCA found firms not taking adequate steps to mitigate the risks to unidentified credits in firm accounts, as well as intra-day risk.


• From 1 December 2014, firms already using the alternative approach and any firms wishing to use it in the future must establish and document their reasons for using the alternative approach when applying it to any business line.

• A firm is required to review at least annually the appropriateness of its reasons for continuing to operate the alternative approach for each business line.

• If, having conducted a review, a firm considers that it is no longer appropriate to use the alternative method for a particular business line, it must cease using this method within six months at the most.

• Smaller firms may be able to justify using the alternative approach however the FCA would not generally expect this.

Impact • Firms using, or planning to use, the alternative approach, must document why they consider this to be appropriate for each business line they use it for.

• They must also introduce procedures to ensure that this review is revisited at least annually for each business line.

• FCA have not defined what constitutes a ‘business line’, so firms must also devise and document their own definitions.

Alternative approachFIRMS’ USE OF THE ALTERNATIVE APPROACH



(Effective 1 December 2014 for firms starting to use the alternative approach from this date)(Deadline 1 June 2015 for firms already using the alternative approach)

Previous rules • A firm using an alternative method of internal client money reconciliation first had to send a written confirmation to the FCA from its auditor that the firm has in place systems and controls which were adequate to enable it to use this method effectively.


• FCA is trying to ensure that use of the alternative approach is restricted to those firms it is appropriate for, in order to reduce risk.


• From 1 December 2014, firms which propose to start using the alternative approach for a business line must first obtain an auditor’s report in the form of a reasonable assurance engagement.

• From 1 June 2015 this revised report must also be obtained by firms already using the alternative approach.

• Within the report, the auditor must give an opinion as to whether

– the firm’s systems and controls are adequately designed to enable the firm to use the alternative approach effectively; and

– the firm’s proposed method of calculating and maintaining the ‘cash buffer’ is adequately designed to enable the firm to comply with the rules relating to the cash buffer.

Impact • Firms using and proposing to use the alternative approach need to liaise with their auditors to ensure that they obtain the required report before the relevant deadline.



Previous rules • A firm using an alternative method of internal client money reconciliation first had to send a written confirmation to the FCA from its auditor that the firm has in place systems and controls which were adequate to enable it to use this method effectively.


• FCA intend to protect against the risk that if a firm were to alter the way it uses the alternative approach, the assurance from the auditor that the firm’s systems and controls and its Mandatory Prudent Segregation Amount (MPSA) proposal were suitable to comply with the relevant rules would no longer be valid and so client money could be at risk.


• A firm must not materially change how it calculates and maintains its MPSA unless it has first obtained a revised auditor’s report in accordance with the rules.

Impact • Firms need to adapt their procedures to ensure that this requirement is not overlooked.

• They also need to define what would be considered a ‘material’ change in this context.

Alternative approachAUDITOR ASSURANCES

Alternative approachOBTAINING REVISED AUDITOR REPORTS




Current rules • The MPSA is a new rule.


• FCA wanted to address the following two risks:

– the intra-day risk of client money being held in a firm’s own account; and

– the risk of the firm failing to identify for a period of time that money received into its own account is in fact client money (‘unidentified credits’).


• Firms using the alternative approach for a particular business line will be required to calculate and maintain an MPSA for the next three months, taking into account:

– the client money requirement, the daily adjustment payments that the firm makes into, or removes from, its client bank account: and

– the unidentified credits over at least the previous three months as shown in its internal client money records.

• Firms must also take into account:

– the expected impact of any particular events,

– the seasonal nature of a business line,

– the daily adjustment payments that the firm makes into its client bank account, and

– the estimated unidentified credits over the forthcoming three months.

• Firms will be required to review the MPSA that they hold at least quarterly, and if necessary pay in or withdraw any additional amounts of their own money into the client bank account as appropriate, if an amended MPSA value is determined through this review.

• Firms will have a period of ten business days to carry out each review and complete any adjustments to the MPSA in the client bank account.

• Firms using the alternative approach will be required to create and maintain an ‘alternative approach record’:

– this will record the dates on which the firm determines its MPSA amount;

– the dates and amounts of payments into and withdrawals from client bank accounts to adjust the MPSA, and

– the fact that the payment or withdrawal was made in accordance with the MPSA rules.

Impact • Firms using the alternative approach will need to establish and maintain policies and procedures for calculating and reviewing their MPSA.

• They will also need to introduce and keep updated an ‘alternative approach record’.

Alternative approachCALCULATION AND MAINTENANCE OF A MANDATORY PRUDENT SEGREGATION AMOUNT (‘MPSA’)




Current rules • The MPSA is a new rule.


• FCA consulted on whether firms using the alternative approach should be permitted to adjust the balance of client money held in client bank accounts before completing a client money reconciliation.


• Whilst carrying out their internal client money reconciliations (on T0) firms may increase or decrease the balance held in client bank accounts, but only if they reasonably expect that the client money requirement for the previous business day (T-1) will increase above the client money resource currently (at T0) held in the client bank accounts, or reduce below it.

• Firms may only determine that such transfers may be required on the basis of their internal client money reconciliation calculations, whilst in the process of carrying these out (relating to T-1).

• In such situations where firms determine that it is appropriate to withdraw money from the client bank account balance, they are required to act prudently and manage the risk of not having segregated sufficient client money resource to reflect their actual client money requirement.

• If a firm chooses to make intra-day transfers under this rule, the transfers must be linked to the internal client money reconciliation calculation that it is in the process of carrying out.

Impact • These provisions may be helpful for firms that maintain client bank accounts in a number of different time zones, when adjustments may be required to balance in different time zones and with different cut off times in those zones.

• If these provisions are followed, they will require a clear process and documentation.

Alternative approachINTRA-DAY ADJUSTMENTS


Client money recordkeeping and reconciliations – overview 39

External client money reconciliations 40

Internal client money reconciliations 41

Non-standard method of internal client money reconciliation 42

Standard methods of internal client money reconciliation 43

Recordkeeping and notifications 44

CHANGES RELEVANT TO CASS 7Recordkeeping and reconciliations


(Until 1 June 2015, Firms may use either Annex 1 G or new CASS 7.16)

Current rules • CASS 7.6 and CASS 7 Annex 1 set out the detailed requirements and guidance which govern how firms reconcile their client money.

• Internal reconciliation is the means by which a firm compares its record of the amount of client money it holds according to its transaction accounts, with its records of the amount of client money it actually holds.

• External reconciliation is the means by which a firm compares the amount of client money it holds according to its own record of client money bank accounts, with the balance information provided by the entity with whom the client money is held.

• Under the alternative approach, certain firms may pay client money into and out of firm bank accounts, and must check on a daily basis that the client money held at the end of the previous day was at least equal to the amount required.

• Under the normal approach, a firm must pay all client money into a client bank account, and on a daily basis check that the amount segregated at the end of the day is at least equal to the amount required at the end of the previous business day.


• FCA have frequently identified instances of poor recordkeeping practices, and firms with inadequate systems and controls in place to ensure the accuracy of their records.

• They have also identified many cases of firms failing to understand the current requirements around client money recordkeeping and reconciliations, including how frequently reconciliations should be carried out.

Overview • The internal client money reconciliation may use:

EITHER

– Standard methods of internal client money reconciliation – the methods of reconciliation set out in the client money rules, which require a firm to calculate its client money requirement by one of two possible methods:

i) Individual client balance (available to all firms): requires a firm to calculate its client money requirement by reference to how much the firm should be holding in total for each of its individual clients with a positive balance in respect of non-margined transactions, margined transactions and certain other matters; or

ii) Net negative add-back (only available to CASS 7 asset management firms and CASS loan-based crowd-funding firms, and only when the firm does not engage in any margined transactions for clients): requires a firm to calculate its client money requirement by reference to the balances in each client bank account, adding any individual client’s net position in a specific client bank account that is negative and certain other matters;

OR

– Non-standard methods of internal client money reconciliation – these are methods of reconciliation that do not meet the requirements placed on firms undertaking one of the standard methods of internal client money reconciliation.

Impact • Firms will need to check that the frequency and method of reconciliation they use meet the new rule requirements, as set out in the detailed slides which follow.

Client money recordkeeping and reconciliationsOVERVIEW










• Firms are observed failing to carry out robust reconciliations (both internal and external). There is no consensus as to the frequency or methods of reconciliation.

• Recordkeeping and reconciliation will take on even greater importance in the light of new client money distribution proposals.


• Firms will be required to undertake external client money reconciliations whenever necessary but on at least a monthly basis.

• Firms should determine the frequency of reconciliations in light of the frequency, number and value of transactions which occur; and the risks which client money is exposed to. The reconciliation frequency should be reviewed at least annually if daily reconciliations are not performed.

• Firms which undertake transactions on a daily basis should normally conduct an external reconciliation on a daily basis.

• Firms are also required to promptly investigate and take all reasonable steps to correct any discrepancy identified through the external client money reconciliation.

• Firms may do this by segregating an amount of client money or approved collateral based on whichever record indicates a greater amount should be held by the firm.

• Firms must also take steps to avoid a reoccurrence of the discrepancy.

Impact • Firms should review the frequency of their external client money reconciliations and ensure that this is appropriate.

• If reconciliations are not performed daily, a procedure should be introduced to ensure that the appropriateness of the actual frequency is reviewed at least annually.

• Firms should ensure that their procedures for investigating, making good and correcting shortfall discrepancies are sufficiently robust.

Client money recordkeeping and reconciliationsEXTERNAL CLIENT MONEY RECONCILIATIONS










• Firms are observed failing to carry out robust reconciliations (both internal and external). There is no consensus as to the frequency or methods of reconciliation.

• Recordkeeping and reconciliation will take on even greater importance in the light of new client money distribution proposals.


• Firms will be required to perform an internal client money reconciliation on at least a daily basis (regardless of what method is used).

• Firms operating the normal approach to client money segregation should not rely on their internal reconciliation to achieve compliance with the client money segregation requirements.

• When operating the normal approach, the internal reconciliation should be used as an internal control to verify or otherwise determine whether the amount of client money that firms have segregated meets their obligations to clients under the rules.

• Firms are required to use the values contained in their internal records and ledgers: they should not use values obtained directly from an external/third party’s records.

Impact • Firms which do not carry out internal reconciliations on a daily basis must amend their procedures.

• Firms should ensure that their reconciliation procedures comply with the new requirements.

Client money recordkeeping and reconciliationsINTERNAL CLIENT MONEY RECONCILIATIONS



(Effective 1 December 2014. However, firms operating a non-standard method of internal client money reconciliation as of 30 November 2014 have until 1 June 2015)

Previous rules • Previously firms were obliged to document whether they used the standard or non-standard method of internal client money reconciliation.

• Where a non-standard method was used, firms had to carry out an assessment of whether this provided the same specified outcome in comparison with one of the standard methods.

• They also had to obtain a report from an independent auditor before implementing a non-standard method, to confirm that the proposed method would comply with the CASS 7 rules.


• FCA have identified a wide divergence in views among firms as to what constitutes good practice for reconciliations, including methods of reconciliation appropriate for their business.


• The firm should consider whether the method used achieves the same specified outcome as one of the standard methods.

• FCA are requiring firms to obtain an auditor’s report which covers the firm’s proposed use of a non-standard method before the firm makes use of that method.

• Any material changes to a firm’s non-standard method of internal client money reconciliation will oblige it to carry out a new assessment and obtain and provide a new auditor’s report to the FCA before implementing the change.

• Materiality in this context should be determined by the firm on a case by case basis, taking into account factors such as the firm’s business model and how the non-standard method is operated.

Impact • Firms using a non-standard reconciliation method should ensure that this meets the new assessment requirements and that the way it operates is clearly documented.

• They should also update their processes and procedures to ensure that consideration is given to the materiality of any proposed change to the methodology, to determine whether a reassessment of its impact and an auditor’s report are required.

Client money recordkeeping and reconciliationsNON-STANDARD METHOD OF INTERNAL CLIENT MONEY RECONCILIATION




Current rules • This method was introduced in the FSA Handbook in 2002 to accommodate firms whose ‘internal ledger systems and business practices were designed on a bank account by bank account, not client by client, basis’.


• FCA consider that firms using the ‘negative add-back method’ without any additional controls run the risk of not having sufficient records to demonstrate how much money they are required to hold for an individual client at any given moment.

• FCA also consider that this method of reconciliation is only suited to certain types of firm and business.


• FCA have created a new defined term ‘CASS 7 asset management firm’ to define which firms are permitted to use the net negative add-back method as a standard method of internal client money reconciliation.

• FCA are prohibiting an investment firm from using the net negative add-back method when:

– that firm undertakes derivatives business for clients (ie margined transactions); or

– where that firm is neither an asset management firm nor a loan-based crowd-funding firm.

Impact • Firms using or considering using the net negative add-back method should ensure that they are allowed to do so.

• Those firms which do use this method should be aware that FCA have stated that they may consult on the introduction of a blanket prohibition on the use of net negative add-back.

Standard methods of internal client money reconciliationRESTRICTIONS ON THE USE OF THE NET NEGATIVE ADD-BACK METHOD



(From 1 June 2015)

Current rules • Firms must conduct reconciliations between their internal and externally held records as regularly as necessary, and as soon as reasonably practicable after the date to which the reconciliation relates.


• FCA has expressed concerns about poor recordkeeping practices and firms having inadequate systems and controls to ensure the accuracy of their records. They also consider that many firms do not understand the current requirements for client money recordkeeping and reconciliations.


• Every firm must maintain its records in a way that allows the firm at any time to be able to promptly determine the total amount of client money it should be holding for each client.

• ‘Promptly’ means no later than two business days.

• Some firms will have up to two business days to accurately determine the total amount of client money which should be held for each client.

• This rule will not require a firm to determine the total amount of client money it is holding for each client on an on-going basis, rather it will only require that the firm ensure it has the ability to do so within the requisite timeframe.

• Not all breaches need to be notified to FCA specifically; although FCA expects all breaches to be reported in a firm’s annual client assets report. Materiality is to be decided on a case by case basis.

Impact • Firms should review their current practices and procedures, and amend them as required, to ensure that they will comply with the new regulations.

• Firms should also establish guidelines and criteria to be assessed when considering whether a breach is sufficiently material to warrant reporting to FCA.

Recordkeeping and notifications


Acknowledgment letters and template letters 45

Acknowledgment letters and template letters – overseas counterparties 46

Removal of 20-business day ‘grace period’ 46

Authorised central counterparties (CCP) 47

Recordkeeping and periodic reviews 47

Establishing signatory authority/electronic signatures 48

Overnight money market deposits 48

CHANGES RELEVANT TO CASS 7Acknowledgement letters


(Deadline 1 June 2015 for repapering existing letters)(Templates must be used for accounts opened after 30 November 2014, and the ‘grace period’ of 20 business days for obtaining letters for new accounts is no longer permitted after 30 November 2014 – see below.)

Current rules • Firms are required to obtain written acknowledgements from banks with whom they have client money bank accounts to confirm that monies held in these accounts are held by the firm as trustee, and may not be used by the bank to offset any sum owed to it by the firm.

• The bank’s acknowledgement must also confirm that the title of the account sufficiently distinguishes it from any other account containing money belonging to the firm.


• FCA has observed widespread mistakes and poor practices across the industry in respect of acknowledgement of trust letters.

• It wants to ensure that client money placed with third parties is appropriately segregated and that the trust status of the accounts cannot be challenged in an insolvency situation.


• Firms will be required to use standard templates and follow a set process for completing and exchanging acknowledgment letters.

• Template letters will need to be drafted on firm letterhead and the firm will not be allowed to alter any of the fixed text within the letter.

• The responsibility for carrying out this process will remain with the firm subject to the client money rules, and also applies to overseas banks with whom client money is held.

• Firms will need to include at least one unique identifier per account.

• All client bank accounts and client transaction accounts will need to include the term ‘client’ in their title and certain types of client bank accounts will need additional terms.

• Accounts need to be identified in the body of the letter as opposed to a separate annex.

• Firms should not be granting a right or security interest to a counterparty with whom they deposit or place client money which would otherwise be prohibited under the terms of the template acknowledgment letter.

Impact • Firms must use ‘reasonable endeavours’ to ensure that the signatory of each letter is authorised to sign on behalf of the bank or institution.

• Firms must use the new templates for any client money bank accounts opened after 30 November 2014.

• They will also need to repaper their existing acknowledgement letters by 1 June 2015 so that they have letters in the required format covering all their client money bank accounts.

• Letters must be kept from the date sent until five years after the date that the last client money account it refers to is closed.

• Letters will need to be updated to reflect any subsequent changes, including changes to the parties’ names or addresses.

Acknowledgment letters and template letters



(Deadline 1 June 2015 for repapering existing letters)(Templates must be used for accounts opened after 30 November 2014, and the ‘grace period’ of 20 business days for obtaining letters for new accounts is no longer permitted after 30 November 2014 – see below.)

Current rules • Firms are required to obtain written acknowledgements from banks with whom they have client money bank accounts to confirm that monies held in these accounts are held by the firm as trustee, and may not be used by the bank to offset any sum owed to it by the firm.

• The bank’s acknowledgement must also confirm that the title of the account sufficiently distinguishes it from any other account containing money belonging to the firm.


• FCA wish to clarify that there is no distinction between the requirement to obtain an acknowledgement letter for client bank accounts operated overseas and those operated in the UK – on the basis that client money should be afforded the same level of protection wherever it is held.


• Template acknowledgment letters will allow firms to agree a governing law and choice of competent jurisdiction which are not restricted or exclusive to a jurisdiction within the UK.

Impact • Firms should take care that, when choosing the law of a particular jurisdiction (outside of the UK) to govern the letter, this choice will not alter the meaning of the fixed text within the template letter.

• Firms should start contacting overseas banks with whom they hold client money as soon as possible to discuss the repapering requirements, to ensure that letters are obtained within the prescribed timeframes.


(from 1 December 2014)

Previous rules • Firms could use client money bank accounts for a ‘grace period’ of 20 business days from the date of requesting the bank to issue the acknowledgement letter. If this was not received within this timescale, all client money had to be withdrawn and deposited in a client money bank account with another bank as soon as possible.


• The regulator does not see why client money should be less well protected just because it is held within a newly opened account.


• All firms are prohibited from depositing client money into a new client bank account or allowing a third party to hold client money on a client transaction account until the firm has obtained a duly countersigned acknowledgment letter.

Impact • Firms should update their client money bank account opening procedures, and allow extra time in project plans when they introduce new products or services in respect of which new client money bank accounts are required.

Acknowledgment letters and template lettersOVERSEAS COUNTERPARTIES

Acknowledgment lettersREMOVAL OF 20 BUSINESS DAY ‘GRACE PERIOD’



(Effective 1 December 2014 for new accounts opened after this date; and 1 June 2015 for existing accounts.)

Current rules • There is a two-way acknowledgement letter process.


• FCA wishes to simplify the process and considers that the protections which would otherwise be safeguarded through a two-way acknowledgment letter process are achieved directly by the requirements placed on CCPs under EMIR.


• A specific acknowledgement template gives the CCP the option of countersigning and returning the acknowledgement letter, however this is not a requirement.

• Firms will be able to use a client transaction account with that CCP at any time after providing the CCP with the relevant acknowledgment letter, whether or not the CCP has countersigned and returned the letter to the firm.

Impact • Although the CCP does not have to acknowledge receipt of the letter, firms must ensure that these letters continue to be issued when required to maintain compliance.



Current rules • Firms must obtain and hold acknowledgement letters for all their client money bank accounts.


• FCA consider that an acknowledgment letter must be current in order to maintain certainty over the status conferred on the relevant accounts and the obligations incurred by each party; and that currency will reduce the scope for disputes and better protect client money in the event of a firm’s failure.


• Firms must review their acknowledgement letters annually and promptly arrange for a replacement acknowledgement letter whenever they become aware of an inaccuracy, or an account is transferred to a new entity (for instance if there is a merger or sale of the business).

• Acknowledgement letters must be kept for a minimum of five years after closure of the accounts to which they relate.

Impact • Firms must introduce procedures to ensure that acknowledgement letters are reviewed for currency every 12 months; and replaced when necessary.

• Record-keeping requirements must also be updated.

Acknowledgment lettersAUTHORISED CENTRAL COUNTERPARTIES (CCP)

Acknowledgment lettersRECORDKEEPING AND PERIODIC REVIEWS



(Deadline 1 June 2015 when repapering existing accounts: from 1 December 2014 for new accounts.)

Current rules • The are no specific rules regarding electronic signatures on acknowledgement letters.


• FCA have provided this clarification because they often receive queries from firms asking whether electronic signatures are acceptable.


• The revised guidance rules clarify that an acknowledgement letter will not be invalid just because it has been signed electronically.

• Firms need to consider whether, in their specific circumstances, and taking into account the governing law and relevant jurisdiction applying to the letter, an electronic signature on an acknowledgment letter could be relied upon as evidence in a relevant legal proceeding (for example, if the firm needed to take action to enforce the terms of the letter).

Impact • Firms need to take this guidance into account when considering the validity of acknowledgment letters which have been signed electronically.


(Deadline 1 June 2015 when repapering existing accounts: from 1 December 2014 for new accounts.)

Current rules • The are no specific rules regarding acknowledgement letters in respect of client money deposited in overnight market deposits; other than the requirement to ensure that it is appropriately identified as client money.


• FCA wishes to ensure that all client money, however it is held, is adequately protected.


• Firms will be required to ensure they have an acknowledgment letter in place to cover any client money placed into an overnight money market deposit before that deposit is made.

• A firm may complete and execute an acknowledgment letter with a bank before it places client money into overnight money market deposits by setting out in the body of the letter:

1) the title and other account information for the client bank account from which the deposits will be placed; and

2) how the firm will notify the bank that the money market deposit being placed with it consists of client money (eg by inclusion of the words ‘client money deposit’ in its instructions to the bank).

Impact • Firms will need to have the required template acknowledgement letters in place with a bank before placing client money in overnight money market deposits.

Acknowledgment lettersESTABLISHING SIGNATORY AUTHORITY/ELECTRONIC SIGNATURES

Acknowledgment lettersOVERNIGHT MONEY MARKET DEPOSITS


Diversification 49

Due diligence 50

CHANGES RELEVANT TO CASS 7Client bank accounts



Current rules • The rules place firms under an obligation to ensure that a maximum of 20% of the client money held is deposited with intra-group institutions (the ‘20% limit’).

• The rules also require firms to consider the need for diversification when selecting, appointing and reviewing institutions used to hold client money.


• FCA has concerns that client money is at increased risk if firms do not diversify client money holdings across a sufficient range of third party banks.

• The principle of the 20% limit remains unchanged, but has been fine-tuned.


• In the context of the 20% limit on intra-group deposits, FCA have amended the definition of a relevant group entity so that it no longer refers to a qualifying money market fund (‘QMMF’) or an entity operating or managing a QMMF. This is because a firm cannot deposit client money with either of these in the way that it would with a bank; and where a firm purchases units in a QMMF, these are usually held for particular clients under the custody rules.

• Firms will be required to periodically assess whether it is appropriate to diversify (or further diversify) the third parties with which they deposit some or all of their client money balances. Firms should give consideration to:

– whether it would be appropriate to deposit client money in client bank accounts opened at a number of third parties;

– whether it would be appropriate limit the amount of client held with third parties who are in the same group as each other;

– whether risks arising from their business models create any need for diversification;

– their obligations to arrange adequate protection for clients’ assets;

– the outcome of the due diligence they are required to carry out on banks; and

– the market conditions at the time of the assessment.

• Firms are required to retain a record of this assessment for a period of five years.

Impact • The main impact is the requirement to record the periodic reassessment of whether it would be appropriate to diversify (or further diversify) the third parties with which client money balances are held for a minimum of five years.

Client bank accountsDIVERSIFICATION




Current rules • Firms must carry out a periodic review (the frequency of which is determined by the firm) of the institutions chosen to hold client money. This includes a consideration of diversification risks (see above), capitalisation and credit ratings of the institutions used, and the relative amount of client money placed.


• The regulator is concerned that firms are not carrying out sufficient due diligence on the banks they use for holding client money.


• The rules set out some factors firms might consider in determining how often to undertake periodic reviews under this rule, including the amount and proportion of their client money held at that particular institution and the market conditions in the jurisdiction in which the bank is based.

• The matters identified for a firm to consider are only considered to be examples, and each of these matters need only be considered where appropriate.

• When a firm carries out due diligence it is also required to take into account ‘any legal requirements’ relating to the holding of client money that might adversely affect clients’ rights’. FCA expect this to include the insolvency approach or regulatory framework of the jurisdiction of the bank in question.

• Firms must consider the wider ‘credit-worthiness’ of a bank rather than restricting their assessments in this regard to credit ratings.

Impact • The changes will require firms to enhance their due diligence assessments, ensuring that these are kept up to date and appropriately documented.

• Due diligence requirements may be particularly challenging and require an individual approach according to the legal framework of overseas institutions.

Due diligence


Client money held by third parties 51

Client money relating to custody assets of custodians 52

CHANGES RELEVANT TO CASS 7Money held by third parties



Previous rules • Firms could transfer money to a third party while retaining a fiduciary responsibility over the money.

• They could also transfer client money to a third party which also had a direct contractual relationship with the client. In this case the money would no longer be client money as far as the firm was concerned, and the third party would hold that money directly for the client in accordance with the third party’s relationship with the client.


• Situations could have arisen if the money was placed with the third party directly, where there could have been confusion as to the client money responsibilities that the firm had to the client, and the third party to the client.


• The rules clarify that client money held under these provisions must only be for transactions that are likely to occur and for which that other person needs the client money to carry out the transaction, or in relation to transactions which have recently settled so that the other person has recently received client money as settlement proceeds.

• Firms may allow another person to hold client money for both contingent liability investments and non-margined transactions for a client.

• Firms continue to be required to include sums of client money that they allow another person to hold in a client transaction account when undertaking an internal client money reconciliation.

• Firms should be using the values contained in their internal records and ledgers to determine the balances of client money they have allowed a third party to hold in a client transaction account.

• Firms are not required to obtain balance information from the relevant third parties on either an intra-day or on a live basis in order to carry out an internal client money reconciliation.

Impact • Firms should check their procedures in respect of sums transferred to third parties to ensure that they are in compliance with these clarifications.

Money held by third parties




Current rules • Investment firms which hold safe custody assets may deposit these assets with third parties such as custodians.

• Asset servicing events or stock lending activity may give rise to client money.


• FCA propose that firms that hold custody assets and deposit these with third parties must recognise any money derived from these assets as client money (where appropriate).

• The money should therefore be held in a client bank account in the name of the firm.


• If a firm has deposited custody assets with a third party under the custody rules and money arises in connection with those assets, the firm should treat that money as client money unless otherwise agreed.

• The firm must ensure that the third party either deposits the money in a client bank account of the firm or records it in a client transaction account for the benefit of its clients.

• Where the third party custodian is also a bank, the firm may arrange for the client money to be held in a client bank account (from the perspective of the firm rather than the third party custodian), at the third party custodian itself.

• Where the third party custodian is not a bank, the firm may arrange for the third party custodian to deposit the money in a client bank account (at a third party bank) or in a client transaction account.

• If firms are using the banking exemption they must have systems and controls to ensure they recognise this money as being held under the banking exemption, or if held by a third party, as client money.

Impact • Firms which deposit safe custody assets with third parties must ensure that they comply with the revised rules in respect of client money arising from those custody assets.

Client money relating to custody assets of custodians


Interest 53

Money ceasing to be client money 53

Unbreakable client money term deposits 54

Commodity Futures Trading Commission Part 30 Exemption Order 54

CHANGES RELEVANT TO CASS 7Other issues



Previous rules • Firms were allowed to pay all interest earned on client money balances to clients, unless they had agreed otherwise in writing.

• Firms could agree to pay some, all, or none of the interest earned on client money balances to clients.


• There was some confusion about when interest should be segregated by firms and treated as client money. This led to a risk that retail clients may not receive interest they are entitled to.


• Firms continue to be able to contractually agree how much interest on client money they pay to clients; and where they are not going to pay all the interest earned to clients, clients must be notified of this in writing.

• Wherever interest is paid to a client it should be segregated in accordance with client money segregation requirements, or when contractually agreed with clients.

• FCA commented that this new rule does not have the effect of prohibiting firms from agreeing the frequency they will pay interest within their client agreements.

Impact • Firms need to check that their current practice in respect of interest earned on client money balances has been notified to all clients and then take any required corrective action.



Previous rules • CASS 7.2.15 (Discharge of fiduciary duty) set out circumstances whereby client money ceased to be client money – including when it was paid to the client, an authorised representative of the client, or to a third party with specific consent from the client.


• FCA had seen an emerging risk of transfers of client money being made into bank accounts set up in the names of clients for administrative purposes, without the knowledge or consent of the clients involved.


• Money ceases to be client money if it is paid into a bank account of the client (ie an account not also in the name of the firm), without the need to obtain the client’s instruction or specific consent to each payment.

• However, if firms make payments into a client’s bank account that has been opened without the client’s consent, that money continues to be client money.

• Money ceases to be client money where a firm pays that money to a third party under an obligation that arises from an enactment relevant to the business they are conducting for that client.

Impact • FCA recognises that these rules are different from the HMRC rules for transfers of ISAs to alternative providers, imposing additional requirements to obtain consent/instruction from clients.

• While FCA acknowledge that firms have an additional burden when complying with both sets of regulations, it considers that they are designed for different purposes.

Interest

Money ceasing to be client money




Current rules • Previously, CASS rules did not make reference to the use of term deposits for client money, or impose any maximum terms for them.


• FCA had concerns that if a firm which placed client money in unbreakable term deposits failed, there could be significant delays in returning money to clients.

• FCA was also concerned that if a firm considered that a bank was no longer suitable as an institution for holding client money; it would not be able to take action to move it immediately.


• From 1 July 2014 firms may only place client money in any new unbreakable term deposits for unbreakable terms of up to a maximum period of 30 days.

• Firms may place client money term deposits for periods which are for longer than 30 days, provided any penalties for breaking the terms are payable by the firm.

Impact • Reduction in interest earned by clients or firms (depending on the contractual position) on client money balances.

• There may be circumstances whereby certain firms could place individual term deposits in the client’s name, rather than the firm’s, so that CASS 8 rather than CASS 7 would apply, thus allowing longer-term unbreakable deposits to be used.



Previous rules • CASS 7.4 and CASS 7 Annex 1 both contained guidance reminding firms of how the Part 30 Exemption Order and LME Bond Arrangements were relevant to the holding of money belonging to US clients and how these arrangements should likely interact with the requirements elsewhere in the client money rules.


• FCA wished to ensure consistency between its guidance and the terms of the Part 30 Exemption Order and the operation of the LME Bond arrangements.


• In relation to business conducted under a Part 30 Exemption Order firms must not:– make use of the opt-out arrangements in CASS 7.1.7C G to CASS 7.1.7G G; or– conduct business to which the client money rules do not apply because of the exemption for CRD credit

institutions and approved banks in CASS 7.1.8 R to CASS 7.1.11A R;– enter into any arrangement relating to the transfer of full ownership of the client’s money to the firm for

the purposes set out in in CASS 7.2.3 R (1);• The impact of these changes include the requirement to obtain a binding letter of credit in a pre-specified

format to be issued which covers the ‘secured amount’ (as defined under section 30.7 of the General Regulations under the US.

Impact • Those firms affected need to review the revised guidance.

Unbreakable client money term deposits

Commodity futures trading commission Part 30 exemption order

Non-written mandates 55


Mandates (CASS 8)


Current rules • There are no specific rules about non-written mandates.


• FCA recognises that a mandate can be in written or non-written format.

• It wishes to ensure that, as the information therein gives the firm the ability to control a client’s assets or liabilities, there are sufficient controls around the recording and use of this data.


• Specific information about each non-written mandate and any client instructions as to how the mandate is to be applied, will need to be recorded in the firm’s list of mandates.

• The firm will need to establish systems and controls to ensure that all such information is captured and used in accordance with the client’s instructions. This should include details of any amendments, including effective dates.

• The firm’s list of mandates must be kept up to date by the firm and mandates retained for a minimum of one year after they end, subject to a minimum of five years if held in relation to MiFID business.

Impact • Firms will need to ensure that they have appropriate controls over record-keeping and application of non-written mandates.

Non-written mandates


Regular reporting to clients (on client assets) 57

Information to clients on client assets protection arrangements 58

Application of CASS 9 58


Client reporting and information (CASS 9)


Current rules • COBS rules require a firm that holds client designated investments or client money to send the client a statement at least once a year.

• Additional requirements are imposed on firms that manage investments to periodically report to their clients between once a month to once every six months depending on specific circumstances (COBS 16.3).

• CASS 9.2 requires prime brokerage firms to report to their clients on a daily basis on the total value of safe custody assets and total amount of client money, along with the cash value of other specific items.


• FCA consider that clients of all types have failed to understand the protections available for client assets under the client assets rules, and the impact contractual terms may have on these protections.


• The underlying obligation being placed on firms is to honour client requests for information on their holdings of client assets.

• This includes requests for ad-hoc or more frequent statements and requests for copies of previously provided statements (in the latter case, firms being obliged to provide the copy to the client within one week).

• However, in both cases, firms will be allowed to charge a client the firm’s reasonable costs in meeting the request.

• It must be clear from the information provided to clients whether assets or monies are, or are not, protected under custody or client money rules.

• Any such reports provided to clients must be in a ‘durable medium’ which includes paper statements as well as email and certain types of website.

Impact • Firms should ensure that they will have systems and procedures in place to enable them to fulfil the new requirements. If appropriate, these should include a policy setting out the circumstances under which they will charge their costs for meeting ad-hoc requests from clients for additional reports, and how these will be calculated.

Regular reporting to clients (on client assets)



(Deadline 1 June 2015 for existing business)(Effective from 1 Dec 2014 for new business)

Current rules • COBS 6.1.7R requires a firm that holds client designated investments or client money to provide its (mostly retail) clients with specific information about how the firm holds those designated investments and monies, and how certain arrangements might give rise to specific risks for those client designated investments and/or client monies.

• CASS 9.3 requires that every prime brokerage agreement that gives a firm a right to use safe custody assets for its own account must include a disclosure annex, containing a summary of the key provisions permitting the use of safe custody assets and a statement of the key risks to those assets.


• Recent experience with firm failures has demonstrated that clients of all types are often unaware of the arrangements in place for the protection of their assets.

• If a greater level of information is available to clients, it is also considered less likely that queries or disputes may arise.


• All investment firms subject to FCA’s custody rules or client money rules will be required to provide all clients with all of the information concerning safeguarding client assets that they are required to provide to clients before the provision of investment services under the requirements in COBS.

• This will be irrespective of client type (ie not just retail clients) and asset type (eg not just designated investments, but any custody asset a firm may hold that is subject to the custody rules).

Impact • Investment firms which do not currently provide this information to all their clients will need to amend their client documentation procedures, and budget for any additional costs which will arise.


(From 1 June 2015)

Current rules • Most of the client information and reporting requirements in relation to client assets are covered in COBS.• One key exception is the disclosure and reporting requirements specific to prime brokerage firms in CASS 9.


• FCA consider that clients of all types have failed to understand the protections available to client assets under the client assets rules and the impact contractual terms may have on these protections.


• New requirements in CASS 9 will only apply to those prime brokerage firms holding custody assets under the custody rules or client money under the client money rules.

• These requirements will not apply for any client money that an insurance intermediary may hold under the client money rules for insurance mediation activity, or a debt management firm may hold under the debt management client money chapter.

• Firms that have passported into the UK under MiFID will not be subject to these new requirements.

Impact • Prime brokerage firms should be aware of this exception when considering their compliance with reporting requirements under the new rules.

Information to clients on client assets protection arrangements

Application of CASS 9 (for prime brokerage firms)

Operational complexity and litigation risk 59

Diversification 60

Operation of ‘immediate segregation’ in the context of sub-pools 61

Sub-pool disclosure document 62

MULTIPLE CLIENT MONEY POOLS

Multiple client money pools

(Optional from 1 July 2014)

Previous rules • In general, client money is treated as part of a single pool in the event of the insolvency of an investment firm.

• Designated accounts were an exception to this.


• FCA consulted on permitting firms to operate discrete ‘pools’ of client money, so that if a firm fails, each pool of client money would be distributed separately from any other pool of client money and only to those clients beneficially entitled to share in that pool.

• Any shortfall of client money would affect each pool individually and would not be shared across all clients of the firm.


• The operation of one or more sub-pools is optional for clearing member firms.

• The rules set out the conditions that must be met for a client to be a beneficiary of a sub-pool.

• Given the feedback received regarding the operational complexities of operating a sub-pool, FCA are not extending their scope to other contexts, but remain focused on permitting them only for clearing members operating net margined omnibus client accounts (‘OCA’) at EMIR-authorised or recognised central counterparties (‘CCPs’).

• For a sub-pool relating to a net margined OCA, all the clients with positions being cleared through the relevant OCA need to have consented to their client money being held in that sub-pool.

Impact • The impact of this change is restricted to those firms which are clearing members of EMIR-authorised or recognised central counterparties (‘CCPs’).

• Firms which choose to operate such pools must ensure that they meet all the internal controls, segregation, record and reconciliation keeping requirements set out in the rules.

• A firm’s annual CASS audit will also include confirmation of compliance with the client money sub-pool rules.

• The records that a firm maintains in relation to a sub-pool must be included in its CASS Resolution Pack.

Operating multiple client money poolsOPERATIONAL COMPLEXITY AND LITIGATION RISK




Previous rules • The Policy Statement introduced a requirement that firms must periodically assess whether it is appropriate to diversify their client money holdings (see ‘Client Bank accounts – Diversification’ above). This is in addition to the existing requirement not to place more than 20% of the client money they hold with an intra-group bank).


• Respondents to Consultation Paper 13/05 asked for clarification on how the client money rules relating to diversification should apply to sub-pools and noted that the operation of a sub-pool would be less complex if firms were permitted to dis-apply the diversification requirements to sub-pools.


• Diversification requirements apply separately to each sub-pool that a firm operates.

Impact • Firms must have appropriate systems and controls to ensure compliance with these rules.

Operating multiple client money poolsDIVERSIFICATION




Current rules • All client money is treated as part of a single pool in the event of the insolvency of an investment firm.


• This is a ‘carve out’ from the requirement to receive client money directly into client money bank accounts (see ‘Immediate segregation’ above).

• FCA considers that permitting firms to create multiple client money sub-pools in relation to investment business has the following advantages:

– client money shortfalls are restricted to particular sub-pools, meaning that all clients of a firm do not share all losses;

– faster distribution of client money in an insolvency situation: for instance from a particular sub-pool where there are no contentious issues in relation to that sub-pool.


• Firms may use a house bank account to make and receive these payments and to receive client money directly into client money bank accounts.

• If a firm is operating a sub-pool and the client money margin relevant to the omnibus client accounts (OCA) is being channelled through a house bank account, the firm is required to ensure that the client money element of the payment for client positions in the net margined OCA, is transferred directly into a client bank account relating to that sub-pool promptly, and in any event no later than the next business day after receipt in accordance with the relevant rules.

• The sub-pool client money should not first be transferred from the house account into a general pool client bank account before being moved into a sub-pool client bank account.

• FCA require notification of not less than two months from a firm wishing to operate a sub-pool.

Impact • Costs associated with this proposal relating to recordkeeping, system and process changes.

Operating multiple client money poolsOPERATION OF ‘IMMEDIATE SEGREGATION’ IN THE CONTEXT OF SUB-POOLS




Current rules • Not applicable, so no existing disclosure document requirement.


• The purpose of the disclosure document is to ensure that clients are made aware of the risks of putting their money in a particular sub-pool, including the risk that other clients share in that sub-pool.


• The rules set out certain provisions that must be included in the sub-pool disclosure document (such as a statement confirming the client’s agreement to holding assets within the sub-pool); but the template sub-pool disclosure document included in the final rules is for guidance, and it is open to firms to include additional information that is relevant to the operation of the sub-pool.

• A copy of the document signed by the client must be obtained before placing the client’s funds into a sub-pool.

Impact • Firms operating sub-pools need to consider the format of their disclosure documents in order to meet the disclosures required in the rules, and any additional information according to their own circumstances.

• Documentation procedures may need updating.

Operating multiple client money poolsSUB-POOL DISCLOSURE DOCUMENT


Grant Thornton

Grant Thornton is one of the largest providers of professional services to the UK financial services industry, including the insurance market (life and non-life), investment management and banking and securities sectors. Our commitment to the industry ensures that our multidisciplinary client services teams consist of highly specialised professionals with extensive financial services experience. We combine technical expertise and market understanding with an appetite to work with you to achieve your ambitions.

How we can helpWhether it’s a complicated challenge, an unforeseen crisis or just a straightforward technicality, businesses can rely on our team for high quality, and reliable guidance for complete peace of mind. We have multi-disciplinary, partner-led teams with a diverse blend of experience, including ex-financial directors, chief operating officers, corporate development directors and chief actuaries principally based on a single floor of our Finsbury Square office in London. Locating our people together enables us to quickly involve the right mix of expertise to provide complete solutions for our clients. It also benefits effective communication and collaboration resulting in joined-up service delivery.

Our areas of service• Audit and assurance

• Business consulting and systems

• Regulation and compliance

• Taxation and remuneration

• Internal audit, risk and technology services

• Actuarial services

• Risk and capital management

• Transaction and restructuring

Industry focus

V24774

© 2015 Grant Thornton UK LLP. All rights reserved.

‘Grant Thornton’ refers to the brand under which the Grant Thornton member firms provide assurance, tax and advisory services to their clients and/or refers to one or more member firms, as the context requires.

Grant Thornton UK LLP is a member firm of Grant Thornton International Ltd (GTIL).GTIL and the member firms are not a worldwide partnership. GTIL and each member firm is a separate legal entity. Services are delivered by the member firms. GTIL does not provide services to clients. GTIL and its member firms are not agents of, and do not obligate, one another and are not liable for oneanother’s acts or omissions.

This publication has been prepared only as a guide. No responsibility can be accepted by us for loss occasioned to any person acting or refraining fromacting as a result of any material in this publication.

grant-thornton.co.uk

How the new client money rules affect your firm - Grant … · How the new client money rules...

Documents

Transcript of How the new client money rules affect your firm - Grant … · How the new client money rules...