UK: Bonus cap - PRA and FCA announce details of UK implementation

The proposed approach to the UK implementation of the cap on variable remuneration, being introduced by the amended capital requirements directive (CRD IV), has now been announced by each of the Prudential Regulation Authority and the Financial Conduct Authority.

The consultation documents give much more certainty as to which banks, building societies and investment firms will (and will not) be subject to the bonus cap. As expected, banks and building societies will generally have to apply the cap across their entire group. FCA prudentially regulated investment firms will, however, generally be permitted to disapply the bonus cap.

The consultations do not deal with how the bonus cap will apply in practice, so many of the key outstanding issues remain unresolved for those affected.

The cap is being implemented in the UK against the backdrop of the UK Government’s legal challenge against the bonus cap. As announced by the Treasury, the bonus cap will, however, be implemented in the UK pending the outcome of the legal challenge.

The PRA consultation is avilable here (section 8 on page 16) and the FCA consultation is available here (section 2 on page 10).

PRA regulated firms

The PRA consultation confirms that all PRA regulated firms in Proportionality Levels 1 and 2, as well as any banks and building societies in Proportionality Level 3, are required to implement the cap (as was expected).

Due to the way in which the PRA proposes to insert the bonus cap provision into the Remuneration Code, it appears that any PRA firms that are limited licence or limited activity firms within Proportionality Level 3 (ie. firms that previously fell into Proportionality Tier 4) would be able to disapply the bonus cap on proportionality grounds. However, given the nature of firms regulated by the PRA, this principle is likely to be of very limited effect. This is particularly the case as limited licence/limited activity firms within a wider banking group would (in the absence of individual guidance) be brought up to the same Proportionality Level as the parent bank, so would fall outside the scope of the proportionality guidance.

FCA regulated investment firms

The news is much better for investment firms subject to prudential regulation by the FCA, as the FCA guidance creates, in practice, a presumption that all FCA prudentially regulated investment firms will be able to disapply the bonus cap.

This presumption would not apply to any such investment firms that fell within Proportionality Levels 1 or 2, but the FCA in fact confirms that no FCA prudentially regulated firms fall into this category.

The FCA consultation does state that the FCA will reserve power to apply the bonus cap to the more significant investment firms, on the basis of individual guidance, and that the FCA may require firms to provide justification for their disapplication of the bonus cap.

Therefore, FCA prudentially regulated investment firms, and in particular the larger firms, should give thought to including this justification as part of their remuneration policy.

Outstanding issues

A number of significant issues as to how the bonus cap will apply in practice remain outstanding, including:

• the European Banking Authority consultation on the new concept of “Code Staff” who will be caught by the cap (our briefing on the EBA’s proposed definition is available here);
• the details of the permitted “discount rate” that can be applied to remuneration paid in the form of long-term deferred instruments; and
• guidance as to what can be considered fixed remuneration for the purposes of calculating the cap.

The consultation indicates that further guidance is unlikely before the EBA issues its final standards on Code Staff and the discount rate. These standards are only due to be published in 2014, and so it seems that firm details as to how the cap will apply will not be available before the start of the 2014 performance year – the first for which remuneration will be caught by the bonus cap.

UK legal challenge

The UK Government has launched a challenge in the Court of Justice of the European Union against the bonus cap, and our briefing on the UK Government’s legal challenge is available here. As the legal challenge may not be resolved before the 2015 remuneration round, when the cap will first affect bonuses, affected banks and building societies need to continue preparing their response to the cap, whilst including flexibility to cater for the various possible outcomes of the legal challenge.

 Article written by Paul Ellerman, Partner; Mark Ife, Partner; Matthew Emms, Senior Associate; Bradley Richardson, Senior Associate.