Immediate end of bankers' bonus cap announced
The Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA) have announced that the UK's banking bonus cap will be removed on 31 October 2023, far sooner than expected. While this will in principle allow UK banks to pay uncapped bonuses and other variable remuneration for 2023, the announcement may have come too late for banks to be able to (or want to) take advantage of this.
The UK was a reluctant convert to having a bonus cap for banking remuneration. However, following EU provisions which the UK was forced to adopt as one of the last EU-wide measures, UK banking rules required all banks to adopt a bonus cap for Material Risk Takers' (MRTs) remuneration from 2021 onwards.
The cap on MRT variable remuneration (bonuses, LTIPs and options and certain other awards) was set at 1 x fixed remuneration (or 2 x where shareholder approval was received). Much effort was spent increasing salaries and introducing role-based allowances, which counted as fixed pay, to be able to award variable remuneration to MRTs within the required ratio and so continue to offer appealing remuneration.
Last year, the Government proposed removing the cap and this was followed by the PRA and FCA issuing consultation documents supporting this. So, in this sense, the announcement of the removal of the cap is no surprise, but what has been surprising is that the cap is to fall away almost immediately. It was originally proposed that it would only apply for a bank's first performance year after the formal implementation of the proposals. With an expected Q4 implementation date, that meant that bonuses for 2024 performance payable in 2025 would be the first unrestricted pay. However, the cap will now fall away on 31 October and so any bonus paid after that date will now not be subject to the cap.
The announcement throws up a number of issues:
Issues for consideration
- First, and at its most basic, banks now have confirmation that the cap will be removed and so they can actually start making concrete proposals to take advantage of this. Fixed remuneration which had been increased – whether through role-based allowances or salary - to allow total remuneration to be paid in compliance with the cap can now be reduced.
- Many banks were making good progress towards addressing this for their 2024 remuneration payable in 2025. Whether they can or want to accelerate this and take advantage of the change for 2023 remuneration with so little time available is a question many will be now addressing. They will need to take into account the resources that will need to be marshalled to change things much quicker than expected – not least because implementing the change will for existing employees involve changing contracts and in many cases individually negotiated employee agreement. In the current environment, employees may prefer the protection of high fixed pay and low bonuses at least for another year. Our earlier client alert when the proposal was first announced sets these issues out in more detail. Quick implementation may simply not be possible.
- The removal of the cap does not mean that banks can pay unlimited variable remuneration. As in other areas of financial services, banks will still need to have a maximum ratio of variable remuneration to fixed pay. It is just that they can fix this themselves and it can vary within the bank's operations and from year to year. Banks will therefore now need to consider what this ratio will be, though experience in other areas shows that generous ratios can be set.
- The PRA and FCA have still not announced their response on another consultation in this area which has now closed and where a response is awaited – whether malus, clawback and buy-back provisions need not apply to smaller banks. Again, that was proposed to have a deferred implementation date, but in light of the immediate implementation of the bonus cap change, these other changes, if made, may also take effect imminently.
- The removal of the compulsory bonus cap has been welcomed by banks. It may give some competitive advantage to London over other European centres who will be bound by it unless and until EU law changes, and also level the playing field with other areas of financial services which had no similar cap. However, this was not the rule that was most complained about. The UK has requirements to defer receipt of variable remuneration and to subject variable remuneration to malus and clawback arrangements for longer than almost all other international banking centres. It is these rules that are often cited as the provisions that most deter people from working in this sector in London and lead to higher overall remuneration to compensate. While nothing has been said about withdrawing the deferral rules, the consultation response does point to an overall review of remuneration rules in due course which will no doubt see requests being made for these rules too to be reconsidered.