The European Securities and Markets Authority ("ESMA") has published its final guidelines on the remuneration requirements of the UCITS V directive, available here.
The key issue addressed by ESMA is the ability for smaller or less complex managers to disapply certain of the more onerous remuneration requirements (including the "Pay Out Process Rules") on the basis of the proportionality principle.
In its Consultation Paper, which we discuss here, ESMA had indicated that smaller or less complex firms should be permitted to rely on the proportionality principle, to disapply the "Pay Out Process Rules" (the rules requiring deferral of up to 60% of variable remuneration, the payment of 50% of variable remuneration in fund units and the operation of malus provisions).
In its final guidelines (the "UCITS V Guidelines"), ESMA has removed the specific statement which had been included in the consultation draft that it is permissible for smaller or less complex firms to disapply these Pay Out Process Rules. However, alongside the UCITS V Guidelines, ESMA has published a letter to the European Commission and European Parliament, in which ESMA states that, in its view, disapplication on the grounds of proportionality is permissible. Further, in light of the recent uncertainty in this area, ESMA has called for the European legislators to clarify that this is the case, possibly through amendments to the AIFMD and UCITS V directives.
1. The position under CRD IV and the EBA's view
In coming to its final UCITS V Guidelines, ESMA has been mindful of the fact that it is subject to a legislative requirement to cooperate with the European Banking Authority (the "EBA") in order to ensure consistency with the approach taken in respect of the remuneration requirements of CRD IV.
In respect of the position under CRD IV, the EBA originally proposed a reinterpretation of the proportionality principle which would have meant that all firms subject to CRD IV would have been required to apply the CRD IV rules in full (including the "bonus cap" and all of the Pay Out Process Rules).
However, the EBA amended this proposal to some degree in its final guidelines on the CRD IV remuneration provisions (the "CRD IV Guidelines", which we discussed in our briefing here).
Whilst the final CRD IV Guidelines state that all CRD IV firms must apply the bonus cap (a position which the PRA and FCA have stated they will decline to implement, justified as the guidelines apply on a "comply or explain" basis), the CRD IV Guidelines are silent on whether or not firms can rely on the proportionality principle to disapply the Pay Out Process Rules. In coming to this approach, the EBA recognised that regulators in Member States were of the view that disapplication of the Pay Out Process Rules is permissible. The EBA Guidelines therefore cater for this view, but against the backdrop of the EBA also proposing legislative amendments, which will (if implemented) define certain limited circumstances in which some degree of disapplication would be permissible.
2. ESMA's approach
Taking into account its obligation to cooperate with the EBA, ESMA has sought to tread a path between the approach taken in its consultation draft and under AIFMD (i.e. of clearly stating that disapplication of the Pay Out Process Rules is permissible) and the approach taken by the EBA as discussed above.
The final UCITS V Guidelines are therefore silent on whether or not it is permissible for firms to disapply the Pay Out Process Rules under UCITS V. However, at the same time, ESMA has published a letter to the European Commission and the European Parliament (available here). In the letter, ESMA explains that whilst the ESMA Guidelines are silent on this point, ESMA is clearly of the view that disapplication of the Pay Out Process Rules is permissible under both UCITS V and AIFMD.
ESMA goes on to recognise that there is uncertainty in this area, and therefore suggests that further clarity from the European legislators would be helpful for regulators and for affected firms, and that this could come in the form of amendments to the AIFMD and UCITS V directives to clarify that disapplication on the grounds of proportionality is permissible.
At the same time as issuing guidelines on UCITS V, ESMA is making amendments to its corresponding guidelines on the AIFMD remuneration provisions (the "AIFMD Guidelines"). However, whilst the AIFMD Guidelines are being clarified as to how they apply in a group context, ESMA has decided not to make any changes in respect of the proportionality principle, pending any response from the European legislators. Consequently, the AIFMD Guidelines continue to specifically state that it may be appropriate for some firms to disapply the Pay Out Process Rules under AIFMD.
4. Where does this leave us?
The result of the recent amendments to the CRD IV Guidelines published by the EBA, and the publication of these UCITS V Guidelines by ESMA, is that the status of the proportionality principle differs slightly under each of the three regimes:
Click here to view table.
5. What should firms subject to UCITS V now be doing?
UCITS management companies are required to implement a remuneration policy that is compliant with UCITS V by the start of their next performance period, and affected firms should already be considering how they will comply with this requirement.
For smaller and less complex firms, an important factor in this regard is the application of the proportionality principle. In the UK, now that ESMA's position has been finalised, it is expected that the FCA will publish specific guidance on when it may be appropriate for UCITS management companies to rely on the proportionality principle to disapply the Pay Out Process Rules. Smaller or less complex managers will need to review that guidance once published.
Separate to the need to implement an updated remuneration policy, UCITS V imposes new disclosure requirements related to remuneration. These requirements are now in force, and although transitional guidance has been issued by the FCA, firms may need to comply with these requirements before the start of their next performance period. Firms should now be planning their approach to these disclosure requirements, which are discussed in more detail in our briefing available here.