Handling client cash

To increase the speed of return of client money on firm failure, the FCA proposes introducing a client money distribution regime that permits an initial distribution of client money on the basis of a firm’s records.

* A two-stage client money distribution process would be introduced: (1) the formation and distribution of an ‘initial’ client money pool (CMP1); and (2) the formation and distribution of a ‘residual’ client money pool (CMP2).

* A process for transferring the whole client money pool, which may operate in parallel with the preparation stages of the distribution process, would be introduced.

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* The failure of an investment firm would trigger a primary pooling event. On the occurrence of a primary pooling event, the firm (or its insolvency practioner) will be required to notionally pool all the money held in client bank accounts or client transaction accounts of the failed firm forming the initial client money pool (known as client money pool one). The firm (or its insolenveny firm) would be required to repeat the firm’s reconciliation calculation – in accordance with the firm’s existing methodology (whether or not it is fully compliant with the Client Assets sourcebook rules) – as at primary pooling event to effectively update the firm’s records to the point of the firm’s failure.

* The firm would then use those updated records to determine each client’s entitlement to client money pool one. The new rules would then require (making it a term of the statutory trust) the firm to distribute on the basis of these recorded entitlements. Clients not appearing in the firm’s updated records as having an entitlement would not be eligible for a distribution from client money pool one (even though they would have been under the current regime). Under this proposal, the FCA stated it would expect that within a couple of weeks of a primary pooling event there will be a prompt interim distribution of client money entitlements from client money pool one.

* A second, residual client money pool (CMP2) constituting any client money not in client bank accounts or client transaction accounts (for example, ‘identifiable’ client money in house accounts) and any surplus client money from client money pool one would also be formed. The firm would be required to establish a claims process to allow clients who believe they should have had a claim on the client money held by the firm to establish an entitlement to CMP2. The firm must then distribute CMP2 rateably on the basis of the agreed client entitlements. There could be situations where CMP2 may not arise – namely where all client entitlements have been met by CMP1 or where there is no identifiable client money in house accounts of surplus from CMP1.

* In certain circumstances a firm may not be able to follow the distribution process set out in the stages above. If the firm cannot repeat the firm’s reconciliation calculation due to systems failure, or there is a difference of more than 10 per cent between the amount the firm should have been holding according to its last reconciliation and the amount it had actually segregated in client bank accounts immediately prior to the occurrence of the PPE, or the firm cannot reasonably determine the eligible clients’ entitlements to CMP1 as described in stage 1, the insolvency firm will be required to form a single, notional combined CMP made up of all the client money from CMP1 and CMP2. The firm would then be required to perform a client money reconciliation.