FSA Consults On Remuneration Code

by Robin Pilgrim, LawAndTax-News.com, London

04 August 2010

The UK Financial Services Authority (FSA) has announced plans to update its Remuneration Code to take on board remuneration rules required by the European Union’s Capital Requirements Directive (CRD 3) and the Financial Services Act 2010 (FS Act).

The FSA’s current Code applies to the largest banks, building societies and broker dealers. However, CRD3 will bring over 2,500 firms within the scope of the Code. These include all banks and building societies, asset managers, hedge fund managers and collective investment firms, as well as some firms that engage in corporate finance, venture capital, the provision of financial advice and stockbrokers.

The existing Code requires that firms apply ‘remuneration policies, practices and procedures that are consistent with and promote effective risk management’. Although the Code is broadly consistent with CRD3 provisions and the FS Act, the FSA is required to make some changes to ensure full alignment.

For example, the Code will be strengthened in the following ways:

Scope of the Code - as the scope of the Code is expanded, the FSA is committed to applying a proportional approach to implementation and will ensure that ‘institutions shall comply with the principles in a way and to the extent that is appropriate to their size, internal organisation and the nature, the scope and the complexity of their activities’.

Application - the FSA is consulting on the group of employees to which the Code applies. These will include senior management and anyone whose professional activities could have a material impact on a firm’s risk profile. The consultation paper sets out examples of the key positions in firms that the FSA believes should be subject to the Code.

Deferral - at least 40% of a bonus must be deferred over a period of at least three years for all those employees. At least 60% must be deferred when the bonus is more than GBP500,000 (USD785,000).

Proportion in shares – at least 50% of any variable remuneration components must be made in shares, share-linked instruments or other equivalent non-cash instruments of the firm. These shares will need to be subject to a minimum retention policy.

Guarantees - firms must not offer guaranteed bonuses of more than one year. Guarantees may only be given in exceptional circumstances to new hires for the first year of service.

Strengthening of capital base - firms must ensure that their total variable remuneration does not limit the ability to strengthen their capital base. Total variable remuneration must be significantly reduced in circumstances where the firm produces a subdued or negative financial performance.

Voiding provisions - a new rule will be introduced which defines instances where breaches of the code may render a contract void and/or require recovery of payments made.

Severance payments - should reflect performance over time and failure must not be rewarded.

Pensions - CRD3 states that enhanced discretionary pension benefits should be held for five years in the form of shares or share-like instruments.

Whilst the FSA has said that it will take time to assess the full impact of the Code in contributing to effective risk management, all firms within scope that have paid bonuses since January 1, 2010 have adhered to the FSA’s Code. The FSA has also seen stronger and more independent remuneration committees, and a greater recognition of the need to consider risk when setting remuneration policies and signing off bonus policies.

The consultation period closes on October 8, 2010. The FSA intends to issue a policy statement in November 2010 with rules effective from January 1, 2011.

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