Insufficient assets put insurance brokers at risk, warns regulator

Maintaining adequate financial resources means being able to demonstrate that the firm has enough assets of sufficient quality to ensure it could survive adverse events or, if it fails, that it could wind up its business in an orderly way.

The requirement is one of the minimum 'threshold' conditions that have to be satisfied for a firm to become FSA-authorised. It is also one of the fundamental principles underpinning the FSA's Handbook.
 
Early in 2010, the regulator wrote to all insurance broker firms asking them to review whether they were meeting this threshold and to make good any deficit. But in a newsletter to small wholesale insurance intermediaries published on 11th January the FSA  identifies a number of continuing concerns that have caused it to "increase its focus" on firms' financial resources.

These include a significant number of firms within groups relying on inter-company balances to support their capital requirements which, when called upon, cannot be repaid. In other cases, the FSA found firms had granted fixed or floating charges over their assets as security for third party funding.

All this is against the background of a challenging economic environment which has increased the cost of borrowing and reduced revenue, particularly for small and medium sized businesses.

The newsletter says firms should carry out an assessment – including stress and scenario testing – to determine the level of resources they need to meet the threshold requirement. Firms are also reminded that the FSA expects larger firms to carry out this exercise twice a year and smaller firms annually.

Client money

Another area of concern highlighted by the newsletter is the way in which firms handle client money.

Principle 10 of the FSA's principles for business states that a firm must provide adequate protection for its clients’ money and assets when it is responsible for them.

Detailed rules in the Client Assets sourcebook (CASS) section of the FSA Handbook provide that firms that hold money on clients' behalf must do so on trust and keep it separate from their own money in segregated bank accounts. They also need to maintain accurate and up to date records of what belongs to whom.

The rules are intended to protect client money from creditors if the firm becomes insolvent. Any failure to set up these arrangements properly could mean clients will face long delays in getting their money and may not recover anything at all.

But in its January newsletter, the FSA says many firms still have inadequate client money controls, despite being reminded of their obligations in a "Dear CEO" letter a year ago in January 2010.

Speaking last December at a client asset briefing event Matt Shaw of the FSA's Client Assets Specialist Supervision Team reported that 80% of the firms visited by the FSA failed to meet the requirements for holding client money.
Most firms were simply insufficiently aware of the CASS rules and had failed to allocate enough resources to making sure they complied with them. In other cases, there were gaps in the documentation, such as undated and unsigned letters, or no letters at all, and incomplete or inaccurate records.

"We understand that nobody likes to think that their firm may one day enter insolvency proceedings – it is akin to planning your own funeral," said Shaw. "But in discharging our statutory objectives, we need to ensure that should this event occur, clients’ money and assets are segregated in accordance with our rules and Principle 10."