On 2 July 2021, the Financial Conduct Authority (‘FCA’) published  its “Dear CEO Letter” covering key issues identified during reviews of general insurance intermediaries’ client money arrangements and continuing expectations regarding the adequate safeguarding of client money. The FCA has been reviewing general insurance intermediaries’ client money arrangements as a result of findings raised in the financial resilience surveys; these reviews identified common shortcomings that the regulator believes may indicate more widespread non-compliance within the industry.

The FCA expects firms to take immediate action by reviewing the issues highlighted in this letter and where the deficiencies are common with their own processes and controls, implement remediation plans to establish and maintain arrangements to ensure client money is adequately safeguarded. The regulator makes it clear that it takes failing to comply with the Principles for Business and the client money rules seriously and will use its powers to act where necessary, to enforce its standards.  The letter highlights imposing asset restrictions or prohibiting a firm from carrying out specified regulated activities to prevent customer harm. Where misconduct is identified, actions taken by the regulator have and will continue to include fines on firms and/or prohibition orders on directors with client money arrangement responsibilities whom have failed to adequately exercise due skill, care and diligence in managing those arrangements.

There is an expectation that the contents of this letter are discussed at Board or equivalent governing body level and the existence of this letter be flagged with the firm’s CASS auditors. Firms can expect that their auditor may focus on the key issues that have been raised in this letter as part of the next CASS audit.

Below are the key areas raised within the letter:

Client money calculation

The letter highlights widespread failings within the industry to conduct adequate client money calculations, with over half of the firms assessed not having such calculations aligned to the regulator’s rules and expectations.

The FCA is aware that calculations may not follow the examples they provide in their “Client Money Guide”, but all calculations should contain the required information and be compliant with the CASS rules (5.5.65R - CASS 5.5.68R) including being performed at least every 25 business days (CASS 5.5.63R). The FCA has also highlighted that to ensure the accuracy of records, larger firms would generally need to perform the calculation more frequently.

The FCA has re-iterated the need to use ‘close of business’ balances, derived from internal records, and the subsequent removal/rectification of any surplus or shortfall calculated by close of business of the day of the calculation. The common shortcoming identified here appears to be timeframes not being adhered to, and the subsequent failure to rectify any shortfall or surplus in the client money bank account.

Appropriate withdrawal of commission

As per CASS 5.5.63(1)(b)R, the value of commission due and payable to the firm or interest earned on the bank account (the client money surplus) should be withdrawn on the day of the client money calculation. The FCA expects that firms only draw down commission after the client money calculation is performed and a surplus has been identified. The firm should never withdraw commission from client money prior to completing a client money calculation.

Where firms wish to withdraw surplus client money more frequently, they are able to perform a client money calculation more frequently than every 25 business days.

Client money bank accounts and acknowledgement letters

There are a series of findings relating to bank accounts and acknowledgement letters:

  • All client money accounts should include the term ‘client bank account’ in the title;
  • An acknowledgement letter should be in place for every client bank account the firm operates;
  • The wording of the letter must comply with CASS 5.5.49R;
  • The firm must acknowledge that all money in the account is held as trustee (or as agent in Scotland) and the bank is not entitled to combine the account or use money in the account to exercise any right of set-off or counterclaim with other;
  • The letter must acknowledge that the title of the client bank account sufficiently distinguishes it from the firm’s other accounts account, and is in the form requested by the firm; and
  • The bank account should continue to be included in your client money calculations, even if the account balance is zero, until it is closed.

The FCA has also made a series of recommendations including closing accounts no longer in use and conducting periodic reviews of client bank accounts operated by the firm following observations that a number of acknowledgement letters with incorrect details are several years old.

Segregation of client money

The FCA has highlighted CASS 5.5.9R and CASS 5.5.10R and the key exclusions where the firm can hold money other than client money in their client bank account. These key exclusions are:

  • The minimum sum to keep the account open;
  • A mixed remittance in line with CASS 5.5.16R;
  • Interest not yet withdrawn by the firm; and
  • Any additional amount in the firm’s client bank account held in accordance with a firm’s Board-approved written prudent segregation policy.

The FCA considers it “best practice” to ensure that bank charges are levied against a business account but do note where this is not possible, firms should ensure that a prudent segregation policy is in place and followed to prevent a shortfall of client money from arising when such bank charges are levied.

Co-mingling risk transfer money with client money

Risk transfer monies – the FCA expects that risk transfer money held in a client money account is subject to the client money rules. Where there is no valid risk transfer agreement in place, the client funds received should also be subject to the client money rules.

Co-mingling – where firms hold money as agent of an insurer and some or all risk transfer money is co-mingled with client money, an insurer’s agreement must be in place. If some (or none) of a firm’s risk transfer money is co-mingled with client money, the firm should also operate an insurer trust account to hold risk transfer money.

Risk transfer agreement register – the FCA considers it “best practice” to maintain a register that lists all the firm’s risk transfer agreements where risk transfer money is held. The register should specify:

  • when the firm is acting as agent of the insurer;
  • when commission can be drawn down;
  • whether each agreement allows for co-mingling; and
  • if so, whether the insurer has subordinated its interest in the co-mingled funds to the  interest of the firm’s other clients.

Withdrawal of commission and mixed remittance payments – the FCA also expects that the entire sum for any mixed remittance payments under CASS 5.5.16R must be received into the firm’s client bank account. Where the firm has received the premium from the client (or from a third party premium finance provider on the client's behalf) and where it is consistent with the firm's terms of business which it maintains with the relevant client and the insurance undertaking to whom the premium will become payable, it may draw down commission from the client bank account.

Client money audit

The FCA expects that if a firm operates a non-statutory client money account, or has held over £30,000 in a statutory client money account at any point during the client money audit period, it should arrange a client money audit. The FCA expects firms to conduct their own due diligence prior to appointing any external auditors, to ensure that they have the appropriate experience and expertise to perform such a review.

Where any material issues or concerns with client money arrangements are identified, the FCA expects firms to notify them without delay.

Concluding Thoughts

We continue to observe the regulator reiterate the importance of key fundamental principles of client money segregation and adequate protection. Whilst the previous client money and asset “Dear CEO letters” published in 2020 highlighted a concern that COVID-19 may have adversely affected adequate protection, this letter goes further in confirming that the FCA has observed wider common shortcomings of CASS compliance for insurance intermediaries, that may have pre-dated COVID. This extends to concerns over the misuse of client money, which the FCA highlights may be a financial crime, representing a lack of integrity in the individuals responsible.

Firms can expect the continuation of the FCA’s assessment over client money arrangements, in line with its supervisory strategies for general insurance intermediaries. Whilst it remains to be seen to what extent this will result in enforcement action actually being taken, the regulator holds back no punches in reminding firms of its ability and propensity to do so when deemed necessary.

The FCA have made clear that senior management should have appropriate oversight of their firm’s client money arrangements and that a firm cannot outsource its responsibility for compliance, and is responsible at all times for the protection of its customer’s client assets. However, if after reviewing the content of this letter, the client money rules and the referenced materials, they feel additional support is required to fully understand the client money requirements applicable to the firm, they note that external advice may useful to ensure the appropriate framework is put in place to safeguard customer assets.

What is clear is that this letter is yet another indication, following a preceding twelve months including four previous CASS ‘Dear CEO Letters’ and the largest CASS related fine in five years, that CASS remains a distinct high priority on the FCA’s agenda and that this is not likely to change.