Guide to Client Money - Branko

1 Guide to Client Money February 2006. Guide to Client Money The FSA's Client Money rules are extremely complex and there is evidence that brokers are misunderstanding some of the issues involved. The FSA have already undertaken a thematic review in the wholesale markets sector and the findings were not good they are now working on the retail sector and have made mention of this in their February 2006. sector briefing. The FSA's Client Money rules can be found in Chapter 5 of the Client Assets sourcebook (CASS). This Guide (written in conjunction with BIBA) attempts to explain some of these issues in simple terms. As an intermediary, any monies received from customers are held by you either as agent of your customer, or as agent of the insurer.

2 In the absence of a written agreement from the insurer to the contrary, the monies you collect from your customers are received as agent of the customer. Monies that you hold as agent of your customer are defined by FSA as Client Money and subject to the FSA's Client Money rules. In this instance, the customer is exposed to the risk of the monies not reaching the insurer. Risk transfer occurs where the insurer confirms in his TOBA (or agency agreement) that you act as agent of the insurer for the handling of premiums. Where you have this written confirmation, the risk of the monies not reaching the insurer transfers from the customer to the insurer, the risk transfers. From the customer perspective, the Money is then deemed to have reached the insurer.

3 Where you hold Money under risk transfer, the CASS rules require you to disclose this fact to your customer (you can do this via your Terms of Business - TOBA). In our experience, most insurers in the UK market have granted risk transfer to most intermediaries. Where the insurer has granted risk transfer in their TOBA, they will go on to set out how they want their Money banked. Most insurers are allowing most intermediaries to co-mingle the risk transferred Money the intermediary holds as the insurer's agent, with Client Money that the intermediary holds as agent of his customer, Client Money . ALL monies that are co-mingled must be held in accordance with FSA's Client Money rules. The CASS rules do not apply to monies held solely under risk transfer as this is insurer (and not Client ) Money and the statutory/non statutory accounts are designed to hold (and keep secure) Client monies only (or where monies are co-mingled).

4 Insurer Money alone cannot be held in these accounts. This may be an issue as many brokers may hold only monies held under risk transfer arrangements, they may hold no Client monies at all. The FSA are unlikely to prescribe how insurer monies should be handled. Branko Ltd effective FSA compliance solutions Guide to Client Money February 2006. BIBA continues to discuss with the ABI the banking arrangements for monies that are exclusively subject to risk transfer and once a solution has been established, BIBA will let members know. Where an insurer permits an intermediary to co-mingle, the insurer must state in their TOBA that they subordinate their interests to the rights of your customers, so in the event that your business fails, the insurer agrees to take his place in the queue of creditors behind your customers.

5 So what do the FSA Client Money rules require intermediaries to do with Client Money and co-mingled Money ? Don't forget that any Client Money held amongst risk transfer Money makes the whole account subject to CASS rules (and not just the Client Money bit'). The CASS rules state that the intermediary must withdraw commission within 25. business days of the commission becoming due. Commission becomes due in line with insurer's instructions in their TOBA. Most insurers are stating that commission becomes due when the intermediary receives the cleared premium (rather than when the account is paid). The CASS rules do not permit the withdrawal of commission prior to receipt of the cleared premium. In cases where a part payment is received, only the commission element of that part payment can be withdrawn at that stage.

6 Commissions can only be taken on cleared payments. Cheques must clear before commissions can be taken. The CASS rules specify two types of bank account into which Client Money and co- mingled Money can be placed, there must be both types of Money to operate these accounts. The first type of account is a statutory trust. This account is simply created by an exchange of letters with your bank, using the template letters provided in the Branko Ltd DIY Compliance Manual. The rules governing the use of a statutory trust account do not permit a firm to use Client Money balances to provide credit for clients , you cannot settle the customer's item on the insurer's account until the customer has paid you, unless you use your own funds. Where a firm operates a statutory trust, returns of premium cannot be refunded to customers from this account until the item appears on the insurer's account or if in credit, until payment arrives from the insurer.

7 The second type of account is a non-statutory trust. This account is created by the same exchange of letters with your bank and in addition you need to execute a trust deed. The wording for the trust deed and the execution instructions can be found in the DIY. Compliance Manual. Remember - both the letter and the deed is needed. The rules governing the use of a non-statutory trust account do permit a firm to use Client Money balances to provide credit to clients (but not to provide credit to the firm itself you can't take your commissions until payments clear and that also includes direct debit arrangements from insurers and third party credit providers). Such uses include Branko Ltd effective FSA compliance solutions Guide to Client Money February 2006.

8 Payment to insurers early when funds may be awaited from clients or third party credit providers and refunds to clients where the refund has yet to appear on the account. Where a firm operates a non-statutory trust, the CASS rules require that the firm adequately explains and obtains the customer's informed consent to the holding of Client Money in such an account. Again this can be done via your TOBA. Firms that operate a non-statutory trust are required to have adequate resources and appropriate systems and controls. These include: 1. a minimum capital resources requirement of 50,000 if retail customer Client Money is being held in the account ( 10,000 if it is only commercial Client Money ) if 5% of the firm's income from regulated activities exceeds these figures then it is that figure that is the minimum capital resource requirement).

9 2. the appointment of a Client Money manager;. 3. having and maintaining systems and controls to ensure the firm can monitor and manage its Client Money transactions and the resulting credit risk; and 4. obtaining written confirmation from your auditor that the systems and controls are adequate (with the first confirmation to be in place no later than 53 weeks post authorisation, no later than 21 January 2006). The CASS rules require that the Client Money account be reconciled at least every 25. business days. If you do not do this you must tell the FSA. Where an intermediary passes Client Money to another firm who themselves do not have risk transfer, the rules require that the first intermediary continues to account for their liability until the other firm provide confirmation that the Money has reached the insurer (and this will be evidenced in your Client Money resource calculation).

10 If the firm you pass Client Money to has risk transfer then the obligation stops as soon as the Money reaches that party. BIBA has issued a protocol for monies at third parties. In respect of bank account interest that you might earn on Client Money you hold, the rules require you to obtain the informed consent of your retail customer if the interest is likely to exceed 20 per transaction. This can be done via your TOBA. You are not allowed to invest statutory trust monies at all but non statutory trust monies can be invested per the designated investments definition within the FSA Glossary. Overnight and terms deposits must also be designated as Client Money and all Client monies must be held under a trust arrangement. Client Account Audits Yet another complex area!