The Financial Conduct Authority (FCA) consulted last year on making changes to the client money rules which prevent firms placing client money in bank accounts with unbreakable terms of longer than 30 days (30-Day Rule). Following feedback from the industry the FCA has relaxed its rules such that, from 22 January 2018, firms may in certain circumstances deposit a proportion of client money in an unbreakable deposit of up to 95 days (95-Day Unbreakable Deposits). In this briefing we explore the impact of the change and what steps a firm looking to apply the relaxed rule must take.
One of the FCA's operational objectives is consumer protection and the rules in the FCA's client money rules (CASS Rules) aim to achieve this objective by setting out the minimum standards a firm is expected to meet when the firm receives or holds money for or on behalf of a client in connection with the firm's investment business.
The CASS Rules impose strict requirements on how client money must be organised and segregated from the firm's own money and the matters the firm must consider when depositing client money in a bank account. In particular, the CASS Rules specify the type of institution that a firm can place client money with and additionally, if the third party is not a central bank, the CASS Rules require the firm to carry out initial and ongoing assessments of the third party it has selected.
In developing the CASS Rules the FCA focused on measures that facilitated a swift return of client money in various scenarios. For example, by stipulating that a firm could only deposit client money into an account which either:
- allowed the firm to withdraw the client money promptly and in any event within one business day of the request to do so; or
- was an unbreakable deposit account with a fixed term or maximum notice period of 30 days.
This rule was designed to enable a firm to withdraw client funds promptly in the event that, for example, a periodic review identified a concern.
However, placing funds in what is essentially an instant access account has a significant cost implication for the bank accepting the deposit as rules relating to liquidity coverage ratios require banks to have in place highly liquid assets to cover 100% of their potential net cash outflow over 30 days. The impact of this was that banks were, in some cases, refusing to accept client money deposits and the FCA was concerned that this could be detrimental to consumers, for example if a bank refused to accept an ISA subscription. The FCA consulted on extending the 30-Day Rule and the findings have prompted the FCA to change the CASS rules.
2. What is the new position?
The new CASS rules (effective as of 22 January 2018) allow a firm, subject to satisfying certain conditions, to deposit an appropriate proportion of client money in unbreakable deposits with of term of between 31 and 95 days, referred to as a 95-Day Unbreakable Deposit in this briefing. There is no obligation to take advantage of the new rule and a firm can continue to place funds in instant access accounts and accounts that are fixed for 30 days. However, should the firm decide to place client money in a fixed deposit for up to 95 days it will have to meet certain requirements before it can place the money in such an account.
3. What are the advantages and risks associated with 95-Day Unbreakable Deposits?
Allowing firms to access a more extensive range of deposit accounts provides a potential to improve returns for clients and also encourages a wider range of institutions to accept client money. Another advantage is that this in turn ought to reduce the concentration risk associated with pooling client money with relatively few institutions.
Balanced against this is the risk that in a default situation the process of returning money to clients may be delayed. For example, in an insolvency situation, all client money held by the firm, including money in designated client accounts, is pooled and then shared pro rata among the eligible clients or transferred to another service provider. If some of the client money making up the total client money pool is "locked" into 95-Day Unbreakable Deposits the process of establishing the amount of client money available for transfer will be held up for a period of time. To address this concern the FCA has specified conditions that must be met before a firm can use a 95-Day Unbreakable Deposit.
4. What conditions must be met?
If a firm wants to make use of the relaxed CASS Rules and place client money in 95-Day Unbreakable Deposits then the firm must:
- have a written policy that sets out the:
- maximum proportion of client money that would be appropriate to deposit in 95-Day Unbreakable Deposits; and
- measures the firm will take to manage the risk of not being able to access the client money when required;
- take appropriate measures to manage the risk of not being able to access the client money when it needs to (ie implement the written policy described above);
- before depositing client money in a 95-Day Unbreakable Deposit, provide each client with a written explanation of the risks that arise as a result of the longer notice period for withdrawal of their money; and
- if it is a CASS medium or large firm, include unbreakable deposits of more than 30 days in their monthly Client Money and Assets Return (CMAR) via the FCA's online reporting system.
If a firm is using 95-Day Unbreakable Deposits it must provide all new clients with a written explanation of the risks of doing so before it receives or holds their money.
5. What can your firm do now?
Firms do not have to change the way in which they deposit client money and can continue to apply the 30-Day Rule. However, if a firm is keen to extend the range of deposits into which it can potentially place client money the firm should assess the merits of using 95-Day Unbreakable Deposits. If the firm concludes that it would be appropriate to use 95-Day Unbreakable Deposits then the firm should:
- assess what it considers would be the appropriate maximum proportion of client money to place in 95-Day Unbreakable Deposits, taking into account the need to manage the risk of being unable to access client money;
- update its written policies setting out:
- the maximum proportion of client money the firm has identified as being appropriate to place in a 95-Day Unbreakable Deposit;
- the rationale for this assessment; and
- the steps the firm will take to manage the risk of being unable to access client money when required;
- timetable regular reviews of the written policy, so that the policy can be amended and updated as necessary;
- provide existing clients with a clear, written explanation of the risk that arises as a result of the longer notice period when their money is placed in 95-Day Unbreakable Deposits;
- for new clients, update its terms and conditions to include a risk warning explaining the risk that arises as a result of the longer notice period when their money is placed in 95-Day Unbreakable Deposits;
- update its CASS resolution pack so that an insolvency practitioner will be able to identify immediately if 95-Day Unbreakable Deposits have been used; and
- include 95-Day Unbreakable Deposits in the firm's CMAR report, where applicable.
The change in the CASS Rules is a positive example of the FCA engaging with industry to understand the possibly unintended consequences of the introduction of the 30-Day Rule. This change will hopefully benefit both firms and their clients, by widening the pool of deposit takers firms can use and allowing firms to access slightly longer term deposits which offer better rates of interest which will in turn allow firms to offer better interest rates to their clients.
If you require further information on anything covered in this briefing please contact Katy Ruddell or your usual contact at the firm on 020 3375 7000. Further information can also be found on the Compliance & Regulatory page on our website.
This publication is a general summary of the law. It should not replace legal advice tailored to your specific circumstances.
© Farrer & Co LLP, February 2018