Segregated Accounts

For most people using an independent foreign exchange broker to move money from one currency to another, security of funds is a major consideration when selecting which broker to use. Over the last few years an army of "currency specialists" have joined the market, usually offering better exchange rates that the banks. However, with that reward comes extra risk. Recent press comment has highlighted widespread confusion over the status of segregated accounts, and when client money is and is not protected. In this article TorFX, a leading UK currency broker (www.torfx.com) explains how the process works and what you should be asking before opening an account.

Segregation:

Most brokers use segregated accounts. A "segregated" account is an account that has been designated by the bank as being a separate client account. Clients place funds in a client account prior to making a foreign exchange trade. Money will also be held in the segregated account once the currency exchange is complete and the funds are ready to send back to the client or their specified beneficiary. If a broker gets into financial difficulty and ceases trading, any money held in segregated accounts should be protected and ring fenced from any trade creditors. More important than the account designation however, is how the accounts have been run, and whether the client monies are properly reconciled and therefore separately identifiable from company funds and also individually. Does your broker reconcile client funds daily?

Regulation:

HMRC have been the regulator for the Money Transmission and Bureau de Change markets for some years. However, the regulation is entirely concerned with anti money laundering and not with client money protection. The FSA are now stepping in to regulate general "conduct of business" matters, adding a new layer of scrutiny to both companies and owners/directors. All new companies have the obligation to be FSA authorised by November 1st 2009, but some more established companies who have been trading for longer benefit from a transition period and only need to seek authorisation for April 2011. The benefits of FSA authorisation mainly focus around the "fit and proper" tests conducted on directors and owners of these companies. The "conduct of business" rules apply to all money transmitters from November 1st whether they qualify for the transitional period or not. That means that from November 1st, customers are able to take complaints to the Financial Ombudsman Service whether the company is regulated or not.

When is Client Money not Client Money?

Whether or not the broker is FSA regulated, clients need to be clear about when their money is protected and when it is not. For example, the FSA client money rules only cover "designated investment business", and specifically do not cover the settlement of spot of forward foreign exchange transactions, which are not regulated activities. That means that when your broker is paying their counterparty (a bank or another broker) for your currency, your money won't be segregated during this process. Technically, the customer is therefore exposed to the counterparty. It also means that while customers have access to the Ombudsman Service under the new rules, they are not covered by the Financial Services Compensation Scheme for the foreign exchange aspect of their transaction. Who will your broker be using as their counterparty when settling your trade?

Jon Beddell, managing director of TorFX says, "we welcome the FSA's involvement in the industry, because being authorised means that the owners and directors of these business have been vetted. However, brokers need to be careful when communicating their client money arrangements to customers. Brokers like TorFX have always maintained segregated client accounts, reconciled daily to ensure that customer money is clearly identifiable. The FSA require that brokers "safeguard" funds, but crucially the client money rules do not cover the settlement process, whether you are FSA regulated or not. As long as your broker is holding money in segregated accounts, and operating those accounts properly, there should not be any problems. This is the same process solicitors use to hold their clients money." Ask your broker for confirmation from their bankers that the account you are sending money to is segregated.

Financial Stability:

With brokers completing to capture market share, customers find it difficult to establish which companies can offer them the security they need. There can be no guarantees, FSA regulated or not, but by asking the right questions, consumers can at least be clear about how their broker operates, and the level of risk they are taking. It is always worth checking the financial strength of the company, and they should always be happy to send you a copy of their latest accounts. Check that they have significant "shareholders funds", and that the accounts are audited.

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