Cyprus Securities and Exchange Commission has issued Circular No. 418 on the enhancement of procedures regarding safeguarding of client funds.  Due to the importance of the Circular, we have prepared the below points for your consideration and further actions to be taken when it comes to procedures in relation to the safeguarding of client funds:

  1. Requirement for holding separate clients’ accounts

a. CIF must promptly place clients’ funds into one or more accounts opened with any of the following entities:

  • central bank
  • credit institution as defined in article 2(1) of the Business of Credit Institutions Law
  • bank authorised in a third country
  • qualifying money market fund

b. Clients’ account sufficiently distinguishes that account from any account used to hold funds belonging to the CIF (i.e. denoted as clients’ accounts)

c. In case the applicable law of the jurisdiction in which the clients’ funds are held prevent them from complying with obligation to have (clients’ accounts identified separately from any accounts used to hold funds belonging to the CIF:

  • CIFs must notify that entity of par. 6(1) of the Directive, with whom the clients’ account is opened, that they are obliged to keep clients’ funds separate from their own funds. This communication should be kept in the CIFs’ records and be available for review by CySEC.
  • CIFs must demonstrate to CySEC that they had no other alternative but to conduct such business, given the risk to clients’ funds in the event of the entity’s insolvency.
  • CIFs must demonstrate to CySEC that they have done everything in their powers to obtain separately titled accounts, including using another third party.

Note: If a CIF cannot demonstrate to CySEC that it has fully applied the abovementioned requirements, then CySEC may request from the CIF to segregate an equivalent amount of its own funds in a separately titled account in another jurisdiction where the CIF can comply with the requirement of par. 4(1)(e) of Directive.

  1. Use of Payment Service Providers (PSPs) and Electronic Funds Institutions (EMIs)

a. CIFs may maintain merchant accounts with PSPs and EMIs

b. CIFs must, at all times, ensure that clients’ funds are transferred to clients’ accounts immediately after the clearing/settlement of the payment transactions.

c. Where it is the CIF’s policy, upon accepting a deposit through electronic means and before the clearing of the funds, to credit its client trading account with the corresponding amount in order for the client to trade with immediate effect, the CIF must ensure that the corresponding amount is transferred before trading, unless part 6 below applies, from its own funds to client account held by the CIF. These funds are considered as clients’ funds and are subject to the corresponding regulatory requirements.

d. A CIF can act as described above only if it is licensed to provide the ancillary service of granting credits or loans to an investor to allow him to carry out a transaction in one or more financial instruments, where the firm granting the credit or loan is involved in the transaction.

e. For rolling reserve or fix deposit with PSP/EMI: CIF must ensure that the funds equal to rolling reserves or fix deposits, are transferred from the CIF’s own funds in the clients account held by the CIF

f. Merchant accounts must be used only and exclusively by CIFs(not by connected or third  persons and/or the clients of those persons etc.)

g. The CIF must exercise all due skill, care and diligence in the selection, appointment and periodic review of the PSP/EMI with whom merchant accounts are maintained.

h. The Company may be considered that they have taken every possible measures and introduced adequate organisational arrangements to protect their clients’ funds only if they maintain a merchant account with PSP/EMI which are licensed/regulated by a competent authority of a Member State or of a third country, which it is considered that it imposes equivalent arrangements to those of the European Union.

i. CIFs are requested to post on their websites a list with the names of the PSP/EMI they cooperate, as well as the competent authority/country that supervise them.

  1. Due diligence and diversification of institutions holding clients’ funds

a. CIF shall exercise all due skill, care and diligence in the selection, appointment and periodic review of the credit institutions and banks authorised in a third country

b. CIF shall take into consideration the need for diversification of these funds as part of the required due diligence i.e. place funds in more than one bank

c. CIFs are expected on a regular basis (and no less than once in each financial year) to perform due diligence procedures of the above institutions where clients’ funds are placed

d. For the selection and period review of the institutions, the CIF shall consider the below:

  • the capital of the bank;
  • the amount of client funds placed, as a proportion of the bank’s capital and deposits;
  • the credit rating of the bank (if available); and
  • to the extent that the information is available, the level of risk in the investment and loan activities undertaken by the bank and its affiliated companies
  1. Depositing clients’ funds with a bank or qualifying money market fund of the same group as the CIF

a. CIF must limit the funds that are deposited with any such group entity or combination of any such group entities so that the funds do not exceed 20% of all such funds

b. CIF may not comply with this limit where it is able to demonstrate that, in view of the nature, scale and complexity of its business, and also the safety offered by the third parties referred to in above, and including in any case the small balance of client funds that the CIF holds, the requirement under the par. 6(3) of the Directive is not proportionate.

c. The CIF should periodically review the assessment i.e. at least once a year

d. CySEC considers small balance:

  • €3.000.000
  • 50% of the total clients’ funds held by the CIF

e. Where above threshold stated above is exceeded, the CIF shall take immediate action to reduce the balance with bank or money market fund of the same group as the CIF within the allowable limit.

  1. Use of Title Transfer Collateral Arrangements (“TTCAs”)

CIFs are not entitled to:

a. transfer funds belonging to retail clients to a third party(section 17(10) of Law 87(I)/2017

b. transfer funds belonging to non-retail clients, without taking into account the factors provided for in par. 8(1) of Directive DI87-01

  1. Maintaining a ‘buffer’ in clients’ bank accounts

a. CIFs may decide to maintain a ‘buffer’ of own funds into clients’ bank accounts

b. It is up to the CIF to decide the amount of the ‘buffer’ that will be maintained and these funds are considered as clients’ funds and are subject to the regulatory requirements

c. When a CIF decides to maintain a ‘buffer’ per point 25 above, the CIF must establish a written policy that is approved by its board of directors

  1. Single officer for the safeguarding of client financial instruments and funds

a. CIF should appoint a single officer of sufficient skill and authority with specific responsibility for matters relating to the CIF’s compliance with its obligations regarding the safeguarding of client financial instruments and funds.

b. The single officer should possess sufficient skills and authority in order to discharge duties effectively and without impediment, including the duty to report to the CIF’s senior management

c. The single officer is expected to verify the accuracy and completeness of the clients’ money reconciliation that is included in CySEC’s QST-CIF Form (ie. Reconciliation Tab)

d. CIFs need to complete and keep up to date the details of their single officer for the safeguarding of client financial instruments and funds in CySEC’s portal

  1. Reconciliation of clients’ funds

a. The CIF must conduct on a regular basis reconciliations between its internal accounts and records and those of any third parties by whom those assets are held

b. When a CIF undertakes transactions for its clients on a daily basis, reconciliations of clients’ funds will be contacted on each business day on the records of the CIF as at the close of business of the previous business day

c. Reconciliations are performed between:

  • Clients’ bank accounts or any other third party holding clients’ funds (as per CIF records) Vs bank statements or any other third party statements.
  • Client bank accounts or any other third party holding clients’ funds (as per CIF records) Vs clients’ equity (as per CIF records).

d. Equity includes deposits/withdrawals, credits, realised and unrealised profits/losses and represents the actual funds owed to each client.

e. It is expected that reconciling items should only arise due to timing differences and cleared within a few days

f. The internal auditor and the compliance officer of a CIF during their annual work plan are expected to review the procedures maintained by a CIF for the safeguarding of its clients’ assets and report to the Board any deficiencies

  1. Other matters

a. CIFs must ensure that there are at least two persons with combined signatory powers for banks/credit institutions

b. the following persons cannot be appointed as signatories:

  • the persons involved in the preparation of clients’ reconciliations and
  • the shareholders of the CIF if they do not have executive duties within the CIF.

c. CIF may consider appointing a Chief Executive Officer or the Chief Financial Officer or the Head of the Accounting Department or an Executive Director

d. clients’ accounts with credit institutions/banks can only be used by the CIF for its clients and not for the clients of the group that the CIF belongs to

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