7.13.39 - CASS Provision

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CASS Anatomy™

7.13.39: Pursuant to the client money segregation requirements, a firm that is operating the normal approach and is liable to pay money to a client must promptly, and in any event no later than one business day after the money is due and payable, pay the money:
(1) to, or to the order of, the client; or
(2) into a client bank account.


IMPORTANT: CASS changed quite a bit after MiFID II. This resource therefore may well be out of date, even if it was accurate once, which it might not have been. This is an article about the FCA’s custody and client money rules — client assets — and is fondly known by its chapter in the FCA SourcebookTable of Contents | 1 | 1A | 3 | 5 | 6 (custody rules) | 7 (client money rules) | 7A | 8 | 9 (PBDA) | 10

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What are we to make of CASS 7.13.39? Does it apply the client money rules to principal obligations? The JC has heard it argued that CASS 7.13.39 obliges a firm who happens to provide client money protection[1] in any part of its business, to pay into the client money pool any amount it is liable to pay any client in every part of its business (i.e., whether or not it otherwise benefits from client money protection). The argument goes that if the rule were limited to client money obligations, it would not “bite” on anything since, when operating the “normal approach”, affected client money is transferred directly to a third party bank anyway, and the firm itself would never be “liable” under the rule at all.

If this is right, it would mean:

  • The client money rules are limited to “agency” arrangements and (except where this rule applies) do not apply to firm’s principal obligations under designated investments. If a firm’s principal obligations were already generally subject to the client money rules, there would be no need for CASS 7.13.39 at all. This, by the way, seems certainly right. But not only this: also:
  • for firms operating the “normal approach” only,[2] CASS 7.13.39 significantly widens the general application of CASS client money to all of the firm’s principal obligations. Thus, by choosing to offer client money protection for a small part of its designated investment business, the firm would be obliged to offer client money protection for all its principal obligations under cash-settled designated investment business. Seems, like a weird conclusion to draw, especially by sticking it in an obscure paragraph in the middle of nowhere.
  • OTOH, a firm only offering the “alternative approach”, or not offering client money protection at all, would not suffer under this rule for any of its designated investment business. Like, arbitrary, man.

A better view is that this rule must be intended only to apply to those of a firm’s principal liabilities under designated investments in connection with which the firm holds client money. It is just not true that this rule does not “bite” on anything: clearly it affects the firm’s direct liabilities under the related designated investments themselves. There are two circumstances where this might arise:

  • Designated investments margined with client money: A liability to a client under a designated investment that is collateralised with a cash which is held as client money – for example, an exchange traded derivative the initial margin for which is held as client money under the normal approach. Here the value of the position and the initial margin held by the firm are closely connected: Client provides the firm initial margin on its futures position. the firm holds that initial margin as client money. If the position appreciates, the firm is principally liable to pay the client that positive performance. Under CASS 7.13.39, firm must pay amounts it receives from exchanges or intermediate brokers directly to the corresponding client, or deposit it into the money pool.
  • Income on safe custody assets: Where a non-bank firm receives a distribution on a safe custody asset it holds on behalf of a client. This cash would be due to the client, and firm would have no entitlement to it. Since the firm was holding the cash, the client would have unsecured exposure to the firm for that amount. Were it not for the connection with designated investment business, these would be “deposits” requiring deposit-taking (i.e. banking) permission under the RAO.

Limiting the ambit of CASS 7.13.39 only to designated investments in connection with which the firm actually is operating the normal approach explains the otherwise anomalous position of a permitted deposit-taking firm which ought to be entitled to the banker’s exemption. In this case, and for these specific designated investments, the firm has elected to offer client money protection, even though it is not obliged to. By doing so it has contracted out of its right to rely on the banker’s exemption. It therefore must, for these specific designated investments, pay connected principal liabilities into the client money pool when they come due.

See also

References

  1. Note — using the “normal approach”.
  2. I.e., those paying client money to a third party bank network. That is, most client money providers.