The Electronic Money Regulations 2011 (“EMR”) and the Payment Services Regulations 2017 (“PSR”) clearly intend that e-money institutions should keep client money separate and safe, but the Regulations do not expressly state that the money is subject to a trust. Whether a trust nonetheless arises and, if so, at what point, is something on which the courts have not yet reached a settled view. It is an important point for both legal practitioners and their regulated clients to consider because it dictates how client money should be treated to avoid regulatory scrutiny and possible intervention, and how client money is treated in the event of insolvency. Furthermore, it raises important questions about whether, as a regulator, the FCA has done enough to protect client money.
In Re Supercapital Ltd [2020] EWHC 1685 (Ch), Deputy ICC Judge Agnello held (albeit without the benefit of adversarial argument) that a statutory trust arose in respect of funds subject to the PSR.
In Allied Wallet Ltd [2022] EWHC 402 (Ch), ICC Judge Burton held that although the wording of the provisions of the EMR themselves (in particular regulations 2(1), 20(3), 23, 24, 39, 40 to 43, and 72) “viewed in isolation … create a persuasive argument” that the customer’s rights are contractual not proprietary in nature, nonetheless it was clear from the recitals of the EU Directives on which the Regulations were based that customers were intended to have proprietary rights. The restriction on e-money institutions using the client money in their own business was, it was held, sufficient to satisfy the “essential characteristic” of a trust: see Lehman Brothers International (Europe) (in administration) v CRC Credit Fund Ltd [2012] 1 BCLC 487, per Lord Collins §189.
ICC Judge Burton went on to hold that the statutory trust arose on receipt of customers’ funds, and therefore before the e-money institution took any steps to segregate or otherwise safeguard the funds (or failed to take any such steps).
Quite apart from the provisions in the EMR which ICC Judge Burton was compelled to describe as “drafting infelicities” because they contradicted her preferred solution, she was correct in her observation that “The Regulations appear to have been drafted with limited consideration to the very serious and complicated consequences that would be likely to flow from a failure to safeguard monies.”
ICC Judge Burton’s judgment was still-born. Before an order could be drawn giving effect to her reasoning, David Halpern QC, sitting as a Deputy High Court judge, handed down his judgment in Re ipagoo LLP (in administration) [2021] EWHC 2163 (Ch). He concluded that no statutory trust arose under the EMR. Bound by the decision of a high court judge, ICC Judge Burton simply recorded that the order she was bound to make had to align with an analysis with which she disagreed.
The FCA’s appeal against David Halpern QC’s decision was heard by the Court of Appeal on 9-10 February 2022. Delivering its judgment on 9 March 2022 [2022] EWCA Civ 302, the Court of Appeal held that no statutory trust arises over the funds of customers held by an e-money institution. Regulations 20 to 24 create a priority pool, so that client money is paid in priority to other creditors if an e-money institution becomes insolvent, but that they did not otherwise create a trust or give the customers any proprietary rights.
The EMR and the PSR are becoming increasingly important, as use of alternative ways of paying and payment services providers continue to grow in popularity. Many of the difficulties in their application arise because the EMR and the PSR are a simple “copy-out” of the EU Directives on which they are based. The terms they use are not a natural fit for English private law in general or English insolvency law in particular. Other problems arise because they have not kept pace with new developments in criminal activity (the PSR do not deal with authorised push payment fraud, for example) or in the explosion of crypto-currencies. Until there is a wholesale review of their operation, litigation in courts about their interpretation is likely to continue. Arguably the FCA has not done enough in the past to protect client money, and it may now be expected to be more pro-active.. The FCA has a number of draconian powers at its disposal, and for anyone in the regulated space or considering entering the regulated space, careful consideration should be given to how the safeguarding requirements can be met, and how it can be demonstrated that they are being met on an ongoing basis.
David McIlroy was instructed by David Pack of Devonshires to represent Allied Wallet Ltd at an earlier stage in the Allied Wallet proceedings.
