SEBI proposes reform in pool accounts usage to protect mutual fund investors

Sebi said instances have come to light where client’s funds and securities were diverted by trading or clearing member towards margin obligations.

With an aim to protect mutual fund investors against misuse of their investments, markets regulator Sebi has proposed to discontinue usage of pool accounts by all platforms in transaction of such schemes.
Sebi said instances have come to light where client’s funds and securities were diverted by trading or clearing member towards margin obligations or settlement obligations of itself or for some third party or for raising loan against shares on its own account.

Noting the scope of misuse of investments when mutual fund transactions were executed through intermediaries like stock brokers and clearing members and digital platforms provided by mutual fund distributors (MFDs) and investment advisors (IAs), Sebi said asset management companies (AMCs) lose the sight of the source of funds as they receive the funds from pool or escrow accounts.

In order to address these challenges and to promote a secure investing environment in MF, Sebi has “proposed that pooling of funds or units by stock brokers, MFDs, IAs and other platforms may be discontinued for mutual fund transactions”.

The move comes in the aftermath of Karvy Stock Broking episode, wherein the broker allegedly misused clients’ securities to the tune of over Rs 2,000 crore. Under the proposed framework, the exchanges are required to facilitate a more direct interface between clients and the clearing corporation, bypassing intermediaries.

“For transactions on exchange platforms through stock broker(s), exchanges shall put necessary system in place to ensure that pay-in is directly received by recognised clearing corporation from investor’s bank account and pay-out is directly made to investor’s bank account from recognised clearing corporation’s account,” as per the discussion paper issued on Monday.

In the same manner, for subscription and redemption, units are directly credited into and debited from the investor account respectively, the regulator suggested. For transactions outside exchange platforms, Sebi has suggested that AMC at its end shall put necessary system in place to ensure both subscription and redemption (funds transferred and units transacted between investor and AMC) take place without use of pooling through escrow or nodal account etc.

The regulator has also sought suggestions for improving ease of transaction in MF units through non-pool accounts, which is presently available through pool accounts. The Securities and Exchange Board of India (Sebi) has sought suggestions on these proposals by January 13 and final norms will be put in place after taking into account views of all the stakeholders.

In case of brokers, Sebi said that investors who purchase and redeem MF units through stock brokers and clearing members, the units and funds flow through brokers’ or clearing members’ pool account.
“Units and funds move in an aggregate manner from broker’s account to registrar and transfer agents’ or asset management companies’ accounts. In such case once pooling happens at an intermediary level, the traceability of funds and investor details is lost to AMCs/ RTA,” it added.

In case investors who purchase and redeem MF units in demat form through brokers and clearing members, fund house is discharged of its obligation of payment or credit of units, if such payment or the units have been credited to the broker/clearing members. Therefore, the actual payment of funds to investors or credit of units in investors’ account is beyond the purview of AMC.

With regard to digital platforms provided by MF distributors, Sebi noted that AMCs lose the sight of the source of funds as they receive the funds from pool or escrow accounts. MF distributors are not expected to handle clients’ funds and securities.

In physical applications, distributors are not allowed to take cheques or payment instruments from clients in their names. Instead, clients are required to give cheques or payment instruments which are in favour of AMCs. Further, investment advisors are also envisaged to provide non-binding advisory services to their clients. Routing of funds or units through them may lead to potential misuse of funds or units.