Public perception in the UK is that the global economic crisis was, at least partly, as a result of bankers receiving large bonuses incentivising them to take high risks.  Against this background and to achieve this curb on excessive bonuses the European Parliament has approved new measures.  Initially these new rules will apply at parent company and subsidiary levels to EU banks (including their employees based outside the EU) and non-EU banks operating in the EU. 

 

The outline of the new measures are as follows:

 

  • The basic bonus to salary ratio will be 1:1.  In other words annual bonuses must not exceed annual salaries.

 

  • This ratio can rise to 2:1 with permission of specified percentages of shareholders.

 

  • There will be the option available for banks/institutions to apply a discounted rate to a maximum of 25% of the bonus payments (to incentivise deferral of bonuses) provided they take the form of long-term instruments and are deferred for more than five years.  The discounted rate would be set by the European Banking Authority (‘EBA’).  Guidelines are to be published by 31 March 2014.  If this deferral is agreed to when calculating the cap, the 25% portion can be calculated at the discounted rate.  This will in effect raise the overall cap.

 

For most institutions which operate a system where bonuses are paid in the first quarter following the end of a performance year, the proposals will affect the bonuses awarded in the first quarter of 2015 in respect of the 2014 performance year.

 

A draft consultation paper has been produced by the EBA to consider the identification of staff to whom the regulatory requirements for the payment of variable remuneration will apply. The proposals set out would extend the new regulations beyond the current definition of Code Staff within the UK to include employees’ whose total remuneration in absolute terms is more than EUR 500,000 and those whose bonus exceeds 75 % of the fixed component of remuneration and EUR 75,000.  There is an opt out that, if staff are identified under the criteria based on the payment bracket or variable remuneration only, institutions will be able to exclude staff from the group of identified staff if they can demonstrate that the staff member has in fact no material impact on the institutions’ risk profile.

 

To circumvent these restraints it is anticipated that some institutions may resort to increasing base salaries. This has led critics to point out that an increase in fixed pay will actually restrict the employer’s ability to seek to clawback pay and will limit the flexibility to cut pay where necessary (for example, in a downturn).  The introduction of these new rules may result in a review of remuneration packages to create new flexible components to make up for the reduction in bonus entitlement, for example, by increasing the use of “allowances”. Alternatively, there may be scope for  the use of possible new classes of shares for employees with very low initial values (but the potential for significant growth) which would therefore not result in the bonus exceeding the 2:1 ratio.  It is yet to be seen whether any of these mitigating approaches will work in practice and much will depend on the detail of the legislative text, guidance from the EBA and implementing rules from local regulators.

 

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