Custodian

A custodian is an entity that stores and safeguards customer's securities and assets. Usually, custodial services are offered by banks or financial institutions. These banks are responsible for the security of clients’ physical possessions, money, equity, stocks, and other forms of financial assets.

The entity offering custodian services must send a quarterly statement to its clients. In addition, some institutions provide brokerage services—clients can buy or trade investments. Custodians record and track details about every single account.

Key Takeaways                                                               

• Banks or financial institutions offer custodian services and safeguard physical assets belonging to their clients.
• In addition to safekeeping, custodian duties include trading, processing, and servicing assets.
• Often clients require institutions to perform actions on their behalf—payments and investments. This is usually carried out in conjunction with a power of attorney.
• Banks hold financial securities and assets in the physical form. In contrast, a depository holds electronic versions of securities and provides transfer services. Banks safeguard assets but do not own them. Depositories, on the other hand, share both possession and ownership.

A custodian is a bank or financial institution responsible for safely keeping a tangible asset—for its customers and clients. Usually, it is an institution and not an individual. For example, an investment advisor usually arranges custodians to take care of the different assets owned by an individual (the individual here refers to the financial advisor's client).

Different custodians operate across different sectors of business and society. Therefore, it is important to identify each type—depending on the specific role. For example, a custodian of records refers to the finance department of a company. An individual might be put in charge of a school. Among various types, the most common example is an institution that safeguards physical assets. Similarly, an individual or institution might be appointed to manage real estate or a piece of land. This entity becomes the property custodian but does not hold any legal ownership.

These entities differ from depositories. In 2020, the Securities and Exchange Board of India (SEBI) announced that non-banking custodians would be allowed to manage gold exchange-traded funds (ETFs) and gold products. Once these custodian services were approved, nonbanking, banking and other facilitators started offering services in gold ETFs. However, financial advisors and investment advisors must follow the custody rule set by the Securities and Exchange Commission (SEC) to manage client funds.

For these services, clients must pay a fee to banks and financial institutions —depending on the size of the investment deposited. It also depends on the type of service, firm, and the nature of the custodial services offered. Sometimes, the fee is also referred to as ’safekeeping fees.’ These services can cost clients thousands of dollars every year.

In the US, finance custodians are regulated by the Office of the Comptroller of the Currency (OCC). Whereas in India, these regulations are monitored by SEBI. Custodial services hold every single IRA account belonging to investors. IRA stands for Individual Retirement Accounts, which are opened by individuals, helping them plan their retirement well.

Such services are offered by banks, financial agencies, or trusts (with approved authority). Therefore, depositories acting as custodians for the IRA is a common scenario. In addition, banks provide specific facilities to safeguard assets—stocks, bonds, gold, property papers, etc.

A bank custodian duties are comprised of three main responsibilities -

• Safekeeping of assets
• Processing of trade
• Servicing of assets

Depending on the size of assets, clients are classified into well-capitalized, important, or well-established categories. Institutional investors commonly avail custodial services. In addition, several asset management companies and investment managers offer safekeeping services for collective investment funds, private equity funds, wealth funds, public funds, etc.

A reasonable bank will keep the custody of assets demarcated. As a result, the assets will not be mentioned in the bank's balance sheet. This way, confusion between assets in custody and bank deposits or brokerage accounts can be avoided.

Banks differ from depositories. Depositories are managed and monitored by the Federal Reserve. As a result, depositories are subject to higher compliance standards, hefty capitalization requirements, and stricter codes of conduct.    

A custodian is a bank holding financial securities and assets in the physical form for safekeeping. In contrast, a depository holds electronic versions of securities and provides transfer services.

Banks hold assets like bonds, stocks, gold, etc., whereas a depository mainly deals with the possession of mutual funds, shares, and debentures.

Banks safeguard assets but do not own them. On the other hand, depositories share both possession and ownership (of securities).

Not every custodian is a depository, but every depository is a custodian. Custodial services offer the safekeeping of assets. In addition, a depository offers multiple services about financial assets and their transfer. For example, the Bank of New York is a custodian. Whereas NSDL and CDSL are renowned depositories.