Fiduciary Deposit

A fiduciary deposit is a deposit that a bank places with another bank, usually abroad, in its own name but for the account and at the risk of its client. The client instructs the bank on the amount, currency, term and, typically, the type of borrowing bank; the bank acts as a fiduciary, or agent, carrying out the placement and collecting the interest, in return for a commission. If the borrowing bank fails, the loss falls on the client, not on the placing bank.

The arrangement is a long-standing feature of private banking in Switzerland, where it is known as a fiduciary investment, and in Luxembourg, where fiduciary contracts have their own legal framework. It differs from an ordinary time deposit, in which the client lends directly to its own bank and is exposed to that bank's credit risk. Fiduciary deposits are usually short-term placements in major currencies on the international money market.

Imagine asking a well-connected friend to lend your savings to a reliable business they know, in the friend's name, because the business only deals with people it knows. The friend signs the paperwork and passes you the interest, minus a small fee. But if the business goes bust, it is your money that is lost, not the friend's.

A fiduciary deposit works the same way. Your bank lends your money to another bank in its own name, but legally and economically the deposit is yours, and so is the risk.

1. Contract. The client signs a fiduciary agreement with its bank, often based on a standard form, giving the bank authority to place funds in its own name for the client's account and risk.
2. Placement. The bank places the funds as a call or term deposit with a third-party bank, typically a foreign bank, at money market rates.
3. Interest and maturity. At maturity, the bank collects principal and interest from the borrowing bank and credits the client, after deducting its commission.
4. Reporting. The client receives statements showing the placement, though the borrowing bank may see only the fiduciary bank as its counterparty.

As an illustration, a client might place 500,000 dollars for three months at a money market rate of 4 per cent a year. Gross interest is 500,000 × 0.04 × 0.25 = 5,000 dollars. If the bank's commission is 0.25 per cent a year, it takes 500,000 × 0.0025 × 0.25 = 312.50 dollars, and the client receives 4,687.50 dollars, subject to any tax.

Because the deposits are held for clients, the placing bank does not record them as its own assets and liabilities. They appear off its balance sheet as fiduciary business, in a way similar to off-balance-sheet items in other sectors.

• Credit risk. The client is exposed to the borrowing bank's ability to repay, a form of counterparty risk.
• Country and transfer risk. If the borrowing bank is abroad, government measures there could block repayment.
• No deposit protection. Because the deposit is not a claim on the client's own bank, it is generally not covered by that country's deposit protection scheme. In Switzerland, fiduciary investments are outside the scope of the depositor protection scheme for bank deposits.
• Currency risk. Placements in a foreign currency expose the client to exchange-rate movements.

In return, if the placing bank itself fails, fiduciary assets are generally not part of its estate and can be separated out for the client, which is a protection ordinary depositors do not have.

Fiduciary deposits grew in Switzerland partly because of tax. Interest on deposits with Swiss banks is subject to Swiss withholding tax, while interest from a fiduciary placement with a foreign bank, earned for the client's account, has traditionally fallen outside it. The business also tied Swiss private banks into the eurodollar and wider euromarket, as client funds were channelled to major international banks. Volumes declined in the 2010s, when very low and negative interest rates in the euro area and Switzerland left little return after commissions, and as automatic exchange of tax information reduced the attraction of offshore structures. Higher rates since 2022 have revived some interest.

In Switzerland, fiduciary business is carried out by banks under the supervision of FINMA, and the Swiss Bankers Association has issued model contracts for fiduciary investments. Banks must explain clearly to clients that they bear the risk and must select borrowing banks with care. In Luxembourg, a 2003 law on trusts and fiduciary contracts governs the relationship and confirms that fiduciary assets are kept separate from the fiduciary's own estate. Banks also apply know-your-customer and tax compliance checks, as fiduciary structures have in the past been used to obscure the real owner of funds.