Misbehaving Bankers Face Six-Year Bonus Clawbacks, BOE Says

Banks operating in the U.K. should amend employee contracts so they can recoup bonus payments from workers who exceed their risk limits or break financial-conduct rules, the Bank of England said.

The central bank’s proposed rules on bonus clawbacks would allow lenders to retrieve bonuses for up to six years after they’re paid, starting Jan. 1, 2015, the Prudential Regulation Authority, a unit of the BOE, said in a statement today.

“We won’t allow remuneration schemes to exist that encourage behavior likely to jeopardize financial stability,” PRA Chief Executive Officer Andrew Bailey said. “We have an objective to ensure the safety and soundness of the firms we regulate.”

The rules are part of measures by global regulators aimed at hitting bankers’ wallets if their risk-taking leads to large losses at a lender. The European Union published plans today to require debt used in employee bonus payments to convert into shares or be written down when a bank gets into difficulties.

Banks in the EU are required to pay half of bonuses to senior staff and employees defined as “risk-takers” in instruments other than cash in order to link the awards to the lender’s long-term performance. The EU has also banned bonuses more than twice fixed salaries.

Libor Scandal

The U.K. prefers clawing back compensation over imposing caps on bonuses, which Bailey has said will lead to higher salaries. Royal Bank of Scotland Group Plc last year recouped about 302 million pounds ($504 million) by cutting its bonus pool and reclaiming deferred compensation to help meet the 381 million-pound cost of fines in the scandal over manipulation of the London Interbank Offered Rate, or Libor.

The BOE rules would also apply to employees who knew about misconduct at their bank and failed to report it, and to decision-makers at business units that suffer a “material downturn” in their financial performance, the BOE said.

The BOE measures were backed today by British lawmaker Andrew Tyrie, chairman of the House of Commons Treasury Committee.

Banker-pay practices are “fundamentally flawed,” said Tyrie, who led an inquiry into practices in the banking industry following the Libor scandal.

“Many bank employees continue to receive performance-related rewards long before it is clear that they have been fully earned,” he said in a statement. “Clawback of vested bonuses can help drive up standards. It can also help ensure that those responsible do not keep rewards for failure.”

Clawback Rules

The BOE plans were also welcomed by Arlene McCarthy, a British lawmaker in the European Parliament who steered the adoption of a 2010 EU law setting out deferral and clawback rules.

“Safety first is vital to protecting financial stability,” McCarthy said in an e-mail. “These new rules however do nothing to break the culture of big bonus payouts even if a bank is failing or going through a ’material downturn,’ so if a cap is not the answer maybe the Bank of England can come up with a better solution.”

Stefan Martin, an employment lawyer at Mayer Brown International LLP in London, said the measures “may not require a huge change of direction for the banks,” which have already altered their practices.

Still, “there will be many practical difficulties in enforcing such provisions,” he said in an e-mail. These challenges include the tax treatment of money that recouped and how to tackle employees that resist clawbacks, he said.

Plummeting Performance

The EU proposals published today also seek to ensure that recipients of bonuses face consequences if the bank’s performance nosedives.

Under the EU Commission plans published today, bonds and other debt-like instruments issued to bankers as part of their bonus packages would have to converted to shares or be written down if a bank’s core capital breaches 7 percent of its assets adjusted for risk.

Core capital is a measure of a bank’s ability to take losses. It encompasses retained earnings, ordinary shares and other instruments issued by lenders and that can take a financial hit.

The EU proposals also include safeguards aimed at preventing staff that receive securities from getting better terms than other investors

The measures follow guidance published last month by the European Banking Authority.

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