The Financial Services Authority (FSA) has fined discretionary fund managers McInroy & Wood Limited (MWL) £15,050 for breaching the regulator's client money rules.
Firms are required to keep client money separate from the firm's money in segregated accounts with trust status.
A firm must have a trust letter from the bank holding its client money to ensure that in the event of the firm's insolvency client money is clearly identifiable, and is ring-fenced from the firm's own assets so it can be returned quickly.
East Lothian-based MWL failed to obtain a trust letter for 22 segregated off-shore retail client bank accounts, which contained an average balance of £666,000.
The error remained undetected by the firm for over four years, between May 2006 and August 2010, according to the FSA.
Richard Sutcliffe, head of the regulator's client assets unit, said: "McInroy & Wood's failure to check whether it had a trust letter in place for these 22 accounts exposed its clients to risk in the event of insolvency.
"There is no substitute for a trust letter as it confirms client money is ring-fenced from the firm's own assets, readily identifiable and aids the prompt return to clients."
The FSA has repeatedly emphasised the importance of ensuring that client money is adequately protected.
"Firms of all sizes must ensure client money is segregated and that this is acknowledged with a trust letter in accordance with FSA rules," Sutcliffe said.
MWL did not enter into insolvency, promptly rectified the failing and no clients suffered any losses as a consequence of the breach, the FSA said.
The FSA said the firm worked with the regulator in the course of its investigation and agreed to settle at an early stage. In doing so it qualified for a 30% discount on the financial penalty.
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