By Legal Futures Associate Miller Insurance
Back in January, the SRA released its “Protecting the public: our consumer protection review”, which proposed fundamental changes to the account rules and circumstances for when law firms could hold client money. As part of Miller’s response to the consultation, we addressed points regarding the impact of such decisions on a firm’s professional indemnity insurance, which we share below.
Ensuring that customers are protected and reviewing the controls around client funds is always going to be beneficial. The question is whether restricting or prohibiting firms from holding client monies is the right solution for the right reasons.
Miller has reviewed and participated in several panel discussions around the SRA’s Consumer Protection Review. In particular, the considerations around points 4 & 5 in the Policy and Operational approaches to identifying and managing risks that include:
- restricting firms from holding client money
- new targeted controls around client accounts and client money
A number of discussions have included comment on the fact that professional indemnity insurance (PII) premiums would reduce if firms were to no longer hold client money. Whilst in essence this could reduce the risk and number of claims that insurers receive involving losses of client funds, we do not think this is the complete picture and the following points deserve consideration.
1. The impact of claims
Whilst there are certainly a number of claims relating to client monies, this is only a portion of claims received by insurers. A more thorough understanding on the actual values would be needed to ensure that removing these from the claims pool would in fact have a significant impact.
Having had discussions with several established insurers on this matter, they suggest that the impact of implementing Third Party Managed Accounts (TPMA) across the profession would have minimal impact on their risk considerations and possibly the overall claims (by number or value). Therefore, such a change would have no immediate impact on the insurance premiums charged.
2. Risk transfer
For firms using TPMA providers there is an element of risk transfer to these organisations. However, this is by no means certain and for insurers to consider reducing their premium rates to reflect this, they would need comfort that the pass-through of all risks associated with client monies to TPMA providers would be effective in practice.
Whilst any TPMA provider would need to carry its own PII, the cover afforded to these firms will not be as wide as the current MTC wording that the legal profession and its clients benefit from. While some may view that the cyber risk controls of a TPMA provider may exceed those of some law firms with a client account, and there may also be a degree of additional protection in terms of AML risks, the client may be less protected in the event that something does in fact go wrong.
If a TPMA provider’s insurance did not respond to a loss of client money and the TPMA provider’s insurers avoided the claim (which they could be entitled to do for a variety of reasons, (examples could include non-payment of the premium, misrepresentation or dishonesty, etc.) the client may not be protected unless they can claim directly against the law firm.
With the overarching purpose of the MTC wording being to protect the public (and with the MTC wording as it currently stands), it is our belief that the loss of client money in the event of a TPMA provider’s insurance failing would still be picked up under the law firm’s own PII policy.
Therefore, from a risk transfer perspective it is difficult to see significant benefit to the law firm’s insurers unless they are able to completely exclude any loss of client money from the policy coverage, which is unlikely to be acceptable from a public policy perspective as it would then leave the client completely unprotected.
In essence, while we believe that the use of TMPAs may reduce the number of fraud related claims to some degree, we (and a number of insurers) do not believe that this will make a material difference to firms’ insurance costs.
As the higher costs of operating a TPMA are also likely to be borne by clients, we do not perceive them to offer as clear a benefit as is being suggested.
3. MTC wording requirements
In accordance with the requirements of the MTC wording, Solicitors’ PI insurers are currently prohibited from adding exclusions to coverage. Unless the SRA amends the MTC wording to allow insurers to exclude loss of client money, they would still need to factor this element of risk into their rating considerations, regardless of any rights of subrogation against TPMA providers.
Other practical issues
In addition to the above, there are other practical issues for law firms should they not be able to hold client money.
- If firms are not physically in possession of funds, they may not be able or willing to give an undertaking, making the issue of undertakings more complex and a potential cause of claims.
- The limited number of TPMA providers currently available could lead to an accumulation of funds in one place and a greater number of people affected should something happen.
- Firms would need to undertake thorough due diligence when deciding on their TPMA provider and clear guidance for selection would be needed.
Perception of the legal sector
The SRA’s principles state that a Solicitor must act in a way that upholds public trust and confidence in the solicitors’ profession with independence, honesty and integrity. Restricting firms from holding client money appears to go against these fundamental principles and could be taken as a sign that law firms cannot be trusted to safeguard their client funds.
Conclusion
In summary, we believe that there are important factors for the SRA to consider before proceeding with any long-term decisions and new rules. We also feel it would be prudent for any communication regarding the reasons for firms not to hold client monies, not to declare that it would lead to significant reductions in PII premiums as this is not necessarily the case.
