The FSA has confirmed that a large scale review into the handling of client money by general insurance intermediaries will be undertaken later this year. It reported that the review was prompted by a pilot study and the discovery that both retail and wholesale intermediaries were potentially putting consumers at risk by failing to comply with the rules on client money. The FSA gave examples of some of the common problems discovered, which were:

  • failures by firms to accurately perform a client money calculation;
  • failures to monitor money held by third parties;
  • failures to observe trust law in respect trust accounts; and
  • failures to inform clients of how their money was being handled.

In May 2006 the FSA published a Guide to Client Money for General Insurance Intermediaries setting out what is expected of firms in this respect and to provide some advice. The Guide was prompted by the research carried out by the FSA and the finding that many smaller firms were willing to comply with the rules but some did not fully understand them.

The Guide was produced to help authorised firms carrying on insurance mediation to understand how to hold client money in accordance with the relevant rules contained within chapter 5 of the Client Asset Sourcebook (CASS). It is not formal guidance and does not have the status of guidance contained in the Handbook and for avoidance of doubt the contents of which would take precedence.

One of the FSA’s statutory objectives is securing the appropriate degree of protection for consumers. The rules on client money are designed to protect consumers if a firm fails while it is holding client money. Principle 10 of the Principles for Businesses requires firms to arrange adequate protection for clients’ money when the firm is responsible for it. There are two main options for firms that hold client money; the first is often referred to as risk transfer and the second is segregation into trust accounts although a firm can adopt a combination of both.

The risk may be transferred from the firm to an insurer who by written agreement permits the firm to hold money as agent on its behalf. Premiums held by the firm are in its capacity as agent for the insurer, which means that the insurer bears the risk for any losses that may arise from the firm’s failure or misappropriation of the money. If however the firm receives and holds money not covered by the written risk transfer agreement it will need to be segregated and the firm will need permission from the FSA to hold client money in accordance with the rules.

The other option is for the firm to hold money in either a statutory client bank account or a nonstatutory trust client bank account. The main difference between the two is that a firm is not permitted to make advances of credit from the client money when acting as a trustee of a statutory trust account. If the firm wishes to provide credit to clients or insurers then it should operate a non-statutory trust client bank account.

A firm should never make credit advances to itself out of a client money trust account. The Guide highlights that clients should be kept informed as to how their money is being handled and therefore firms need to disclose this information and update the client as appropriate. It is understood that most firms choose to disclose the way they hold client money in their written terms of business.

Where a firm acts as principal for one or more appointed representatives it remains responsible and therefore must be able to account for the client money held by the appointed representatives or agents. If a shortfall in client money arises it will be for the principal firm to make sure that there is no loss to the client. Firms are required to have appropriate systems and controls in place to monitor appointed representatives and agents.

The 11 Principles for Businesses provide an overarching requirement for all regulated firms. The FSA’s approach to regulation is principles based although it refers to the detailed rules and guidance. As stated above Principle 10 refers to the adequate protection of clients’ assets and therefore failings in respect of the handling of client money by firms may well lead to enforcement action by the FSA.