The Financial Conduct Authority (“FCA”) and the Prudential Regulatory Authority (“PRA”) have each published a consultation on the implementation of the new Capital Requirements Directive (“CRD IV”) in the UK, which address implementation of the remuneration provisions.

CRD IV largely restates the remuneration provisions of the existing Capital Requirements Directive (“CRD III”), but with some material additions, including the bonus cap.

The key issues are:

  • no guidance is given on the implementation of the new bonus cap
  • some investment firms will now fall outside the scope of CRD IV, whilst other firms will become subject to the Remuneration Code for the first time
  • there will now be two CRD Remuneration Codes: one implementing CRD IV and another to maintain the status quo for firms that were subject to CRD III but fall outside CRD IV (plus a third code applying to firms subject to the AIFMD)
  • firms will be required to operate post-payment claw-back, rather than just pre-vesting malus, and claw-back/malus will have to be operated in respect of all variable remuneration, not just deferred variable remuneration
  • the new claw-back requirement may have to be applied by all firms
  • CRD IV firms will become directly subject to the European remuneration disclosure rules, in place of the UK rules, which include some new disclosures

The consultation documents are available here (FCA) and here (PRA). The FCA consultation is open until 30 September 2013 and the PRA consultation is open until 2 October 2013.

The bonus cap

The consultations do not address the implementation of the bonus cap in the UK, although the FCA consultation does state that the FCA is considering the use of proportionality in applying the cap. It seems that the FCA has two possible options as to how to implement the cap: it could decide not to implement the cap at all, and instead leave it to the PRA to implement the cap in respect of PRA (i.e. dual) regulated firms only. This would result in systemically important firms only being subject to the cap, but not the majority of investment firms. Alternatively, the FCA may apply the cap to investment firms, but if so we would currently expect the FCA to do so on a proportionate basis, such that some investment firms would be able to disapply the cap.

Some investment firms will not be subject to CRD IV

Some investment firms that are subject to the existing Remuneration Code will be outside the scope of CRD IV, and so will not be subject to the bonus cap.

The FCA could have taken the opportunity of taking these firms outside the scope of the Remuneration Code in its entirety. However, the FCA proposes to instead exercise its discretion to maintain the status quo for these firms, so that these firms will be subject to a Remuneration Code that is identical to the existing Remuneration Code (i.e. excluding the new CRD IV provisions).

Some firms will become subject to the Remuneration Code for the first time

Some firms that are currently “Exempt CAD firms”, and so currently not subject to the Remuneration Code at all, will (depending on their regulatory permissions) now become subject to the new Remuneration Code (as amended for CRD IV, and potentially including the bonus cap).

Restructuring of the Remuneration Code

To cater for the different regimes which the FCA has chosen to apply, the Remuneration Code will now be split into two:

  • SYSC 19A will be the CRD IV Remuneration Code, which will include the bonus cap, and will apply to banks, building societies and investment firms subject to CRD IV.
  • SYSC 19C will be a repetition of the existing Remuneration Code, excluding the CRD IV provisions (i.e. there will be no bonus cap), and will apply to those firms that are currently subject to the Remuneration Code but which fall outside CRD IV. Even though only certain limited licence firms will be subject to this Remuneration Code, and that those firms will generally be entitled to disapply the more onerous requirements, the FCA has not taken the opportunity of simplifying the code by removing those more onerous provisions (it could have done so given that these firms now fall outside the scope of the European provisions). Instead, the FCA proposes to maintain the content of the existing Remuneration Code in full, but then adopt stronger proportionality guidance (which in fact seems to envisage that some firms can disapply the remuneration requirements in their entirety).
  • For completeness, SYSC 19B will be the new, separate Remuneration Code for managers of Alternative Investment Funds under AIFMD.

Claw-back

The new Remuneration Code (as amended for CRD IV) includes a new requirement for firms to operate “claw-back” arrangements (rather than just malus arrangements as currently). Another new requirement is for the malus and claw-back provisions to apply to all variable remuneration, and not just deferred variable remuneration as currently.

The FCA and PRA refer to the changes they have made to the Remuneration Code as technical changes, that create “limited or no policy change”. This is the case for many of the changes, but possibly not for the introduction of claw-back and the extension of malus. The introduction of claw-back will pose a challenge for some firms, particularly if firms will be required to implement the provisions in respect of remuneration awarded from 1 January 2014 onwards.

A further issue is that the FCA has not updated its guidance on proportionality in respect of the new requirement to apply malus and claw-back to all variable remuneration. Previously, the malus requirement could be disapplied by some firms on the grounds of proportionality. If this is not to be the case going forward this will be a significant change for those firms.

Other changes to the Remuneration Code

There are various other updates being made to the (CRD IV) Remuneration Code.  These include a change to how the proportionality test applies to the requirement to establish a remuneration committee and changes to facilitate the use of capital instruments instead of shares as the “instruments” component of remuneration (the European Banking Authority has recently published its consultation on the requirements that such instruments must meet).

New disclosure regime

Firms subject to CRD IV will become directly subject to the European remuneration disclosure requirements, in place of the existing UK requirements. The content is largely the same, but there are some new disclosures required, including:

  • the ratio between fixed and variable remuneration set by the firm.  It will depend on how the bonus cap is implemented as to whether this will create an onerous disclosure requirement for any firms, given that firms subject to the cap will have a fixed ratio, and any firms that can disapply the cap may not be required to set a ratio at all; and
  • the number of individuals being remunerated €1million or more per financial year, broken down into pay bands of €500,000 for remuneration between €1million and €5million and into pay bands of €1million for remuneration of €5million and above.

There are also some changes to the way proportionality will operate in respect of the disclosure requirements.

Firms currently subject to CRD III but outside the scope of CRD IV will, as a result of the FCA choosing to maintain the status quo, continue to be subject to the existing UK disclosure requirements (set out in the BIPRU handbook).