Handling of Client Securities by Trading and Clearing Members — What's Prohibited

SEBI has prescribed strict norms for handling client securities by Trading Members (TMs) and Clearing Members (CMs), including prohibitions on pledging client securities with banks and NBFCs. The framework ensures that client securities are protected from misuse and are handled in a transparent manner. This article explains the treatment of unpaid securities, the timelines for disposal, and the monitoring mechanisms.

The Regulatory Basis

SEBI issued a circular on November 11, 2022, regarding the handling of client's securities by Trading Members (TM)/Clearing Members (CM) to protect clients' funds and securities and to ensure that the Stock Broker segregates securities or money of the client or clients and does not use the securities or money of a client or clients for self or for any other client.

What's Prohibited

1. Title Transfer Collateral Arrangements

Transfer of securities to the demat account of the TM / CM for margin purposes (i.e. title transfer collateral arrangements) is prohibited. Instead, clients must pledge securities through the margin pledge mechanism.

2. Pledging Client Securities with Banks/NBFCs

Trading members have been barred from pledging to banks and NBFCs the securities of clients lying in certain accounts even with their authorisation. This prohibition applies to securities lying in:

• Client unpaid securities account.
• Client securities margin pledge account.
• Client securities under margin funding account.

Treatment of Unpaid Securities

What Are Unpaid Securities?

Unpaid securities are securities that have not been paid for in full by the clients.

Process for Handling Unpaid Securities

1. Transfer to Client Unpaid Securities Account. A separate client account titled – "client unpaid securities account" shall be opened by the TM/CM. Unpaid securities shall be transferred to such "client unpaid securities account" from the pool account of the concerned TM/CM.

2. Auto-Pledge Creation. With regard to the unpaid securities, such securities shall be transferred to the respective client's Demat account followed by the creation of an auto-pledge with the reason "unpaid", in favor of a separate account titled – "client unpaid securities pledgee account", which shall be opened by TM/CM.

3. Communication to Client. After creating the pledge, a communication (email / SMS) shall be sent by TM/CM informing the client about their funds' obligation and the right of TM/CM to sell such securities in event of failure by the client to fulfill their obligation.

4. Release of Pledge on Payment. If the client fulfills its funds obligation within five trading days after the pay-out, TM/CM shall release the pledge so that the securities are available to the client as a free balance.

5. Disposal on Non-Payment. If the client does not fulfill its funds obligation, TM/CM shall dispose of such unpaid securities in the market within five trading days after the pay-out. TM/CM, before disposing of the securities, shall give an intimation via email / SMS to the client, one trading day before such sale.

Timelines

• Transfer to client demat account: Within one working day of the pay-out.
• Payment obligation fulfillment: Within five trading days after the pay-out.
• Disposal of unpaid securities: Within five trading days after the pay-out.
• Intimation before sale: One trading day before such sale.

Monitoring Mechanism

SEBI asked exchanges and clearing corporations and depositories to put in place a monitoring mechanism with respect to handling of clients' securities. The monitoring mechanism includes:

1. Handling of Unpaid Clients' Securities

Matching of transfer of securities with the securities obligation as obtained from the clearing corporation with respect to:

• Securities transferred from the client unpaid securities account to the pool account.
• Securities transferred from the client unpaid securities account to the concerned client account.
• Securities transferred from the pool account to the concerned client account.

2. Prohibition on Pledging/Transferring

Securities lying with TM/CM in client unpaid securities account shall not be permitted to be pledged/transferred to Banks/NBFCs for raising funds by TM/CM.

How We Help

At Anuj Desai & Associates, we help trading and clearing members implement the client securities handling framework, establish the required accounts, and ensure compliance with SEBI's prohibitions and monitoring requirements. If you need assistance with client securities compliance, reach out to our regulatory compliance desk.