On Tuesday, the Board of Directors of FDIC (FDIC) approved, by a 3-to-2 vote, a proposed rulemaking regarding whether and what criteria to consider in adjusting its risk-based deposit insurance assessment system to account for the risks posed by certain employee compensation programs. The Board rejected a proposal to defer this rulemaking until after the Federal Reserve acts on its pending rulemaking proposal regarding incentive compensation practices.

Currently, Section 7 of the Federal Deposit Insurance Act (FDIA) sets forth the risk-based assessment authorities underlying the FDIC’s deposit insurance system. The FDIC is required, under Section 7 of the FDIA, to establish factors that it determines are relevant in assessing the probability that the Deposit Insurance Fund (DIF) will incur a loss from the failure of an insured depositary institution. In setting the risk-based assessments, the FDIC’s Board of Directors must consider the operating expenses and income of the DIF, the projected effects of payment of assessments on the capital and earnings of the insured depositary institutions and certain statutory risk factors. The Board may also incorporate additional risk factors.

While the proposed rule would not limit amounts that employees of an insured depositary institution could be compensated, the risk-based deposit insurance rates would be adjusted to compensate the DIF for the risks of certain compensation programs. The FDIC seeks to establish certain criteria to correctly price and assess the risks posed by certain compensation programs. These criteria would be organized to provide either a “meets” or “does not meet” metric. The FDIC’s goals in promulgating the proposed rule are:

  • To adjust the FDIC’s risk-based assessment rates to adequately compensate the DIF for the risks posed by certain compensation programs;
  • To use the FDIC’s risk-based assessment rates to provide incentives for insured institutions and their holding companies and affiliates to adopt compensation programs that align employees’ interests with those of the depositary institution’s other stakeholders, including the FDIC; and
  • To promote the use of compensation programs that reward employees for focusing on risk management.

The FDIC noted several features of a compensation program that would meet its goals:

  • A significant portion of compensation for employees whose business activities can present significant risk to the institution (including senior management) and who also receive a portion of their compensation according to formulas on meeting performance goals consist of restricted, non-discounted stock that become available over a number of years.
  • Significant awards of company stock only vest over a multi-year period and are subject to a look-back mechanism designed to account for the outcome of risks assumed in earlier periods.
  • The compensation program is administered by a committee of the Board composed of independent directors with input from independent compensation professionals.

On January 14, 2009, the FDIC provided a letter to all FDIC-insured institutions describing the proposed rulemaking and soliciting comment on it after the meeting. Rep. Barney Frank (D-MA), Chairman of the House Financial Services Committee, also issued a press release calling for a hearing on compensation practices of financial and non-financial firms in wake of the passage of the Wall Street Reform and Consumer Protection Act. The hearing is scheduled for Friday, January 22.