On 2 July 2021, the European Banking Authority (EBA) published the final report on its guidelines on sound remuneration policies (EBA/GL/2015/22) under the CRD IV Directive (2013/36/EU). The revision reflects amendments introduced by the CRD V Directive ((EU) 2019/878).
The revised guidelines will apply from 31 December 2021 and will repeal the earlier version of the guidelines, published on 21 December 2015 and applicable from 1 January 2017. The 2021 guidelines will apply to competent authorities across the EU, as well as to institutions on an individual, consolidated and sub-consolidated basis (with some exceptions for financial institutions that are subject to a specific remuneration regime).
Since the EBA guidelines are addressed to competent authorities of EU member states, they do not expressly cover the UK post-Brexit. However, we expect that the FCA and PRA will have an eye on them, since they build on the CRD V Directive that the UK has implemented and it will be important for the UK to satisfy FSB and G20 promises to maintain international standards regarding regulation of remuneration in the financial services sector. We therefore anticipate that the PRA and FCA will confirm their approach to the guidelines later in the year.
We have highlighted the most notable differences between the original and the revised guidelines below.
The principle of equal pay for male and female workers is laid down in Article 157 of the Treaty on the Functioning of the European Union. The EBA now expects institutions to apply this principle across all aspects of their remuneration policies. The new guidelines require institutions to implement a gender-neutral remuneration policy, such that staff, regardless of their gender, are equally remunerated for equal work or work of equal value. In addition, employment conditions that have an impact on the pay per unit of measurement or time rate should be gender-neutral in the sense that there should be no differentiation between staff based on gender.
In order to monitor that gender-neutral remuneration policies are applied, the EBA expects institutions to document the value of all staff positions and determine which positions are considered to have equal value. This might be done, for example, by implementing a job classification system which is based on the same criteria for all genders. The EBA acknowledges in the guidelines that it is much easier to ensure that remuneration policies are applied in a gender-neutral way in circumstances where the remuneration of staff is subject to collective bargaining. Monitoring gender-neutrality where there are individually agreed contracts will be more complex, and may require more sophisticated systems. If the FCA implements similar guidance in the UK this point is likely to arise because collective bargaining is extremely unusual in the UK.
In addition to ensuring that institutions’ remuneration policies and practices are gender-neutral, the updated guidelines expect the central and independent internal review of those policies and practices (which must be completed at least annually) to also include an analysis of whether the remuneration policy is gender-neutral, including a new requirement for institutions to monitor the development of the gender pay gap on a country-by-country basis for different categories of staff, and to explain and take action where there are material differences in the average pay of males and females.
Retention bonuses and severance payments
The sections on retention bonuses and severance payments have been revised in the guidelines based on previous experience of cases where such elements have been used by institutions to circumvent remuneration requirements.
When granting retention bonuses, institutions must now document for each beneficiary the event or justification that made it necessary to award a retention bonus, define the retention conditions and applicable performance conditions and specify a retention period and a long-stop date. The updated guidelines provide a list of factors to take into account when considering whether the award of a retention bonus is appropriate, including the reasons why the retention of that staff member is crucial for the organisation and whether the amount of retention bonus is necessary and proportionate. The guidelines place quite a bit more rigour around the rationale and documentation processes which firms will need to closely consider when looking at whether retention bonuses are permitted.
On severance pay, the EBA has narrowed the circumstances in which payments may be considered severance payments, moving from a seemingly non-exhaustive list to an exhaustive list. In particular, payments made to settle a potential or actual labour dispute were previously considered severance payments, whereas under the new 2021 guidelines those payments must be made to settle an actual labour dispute that could otherwise realistically lead to an action in front of a court. References to “potential” labour disputes and payments made to “avoid a decision” by a court have been removed. Further, the EBA has made clear that discretionary pension benefits are not severance payments, even if the employee decides to retire early. The circumstances in which severance payments should not be taken into account for the purpose of the calculation of the fixed : variable pay ratio and the application of deferral and pay out in instruments have also been altered in the new guidelines, with more emphasis now placed on the appropriateness and reasons for payment. Under the 2021 guidelines, severance payments will only fall outside the pay ratio and deferral rules where they:
(a) are mandated under national labour law (such as statutory redundancy payments) or following the decision of a court; or
(i) are calculated through an appropriate pre-defined generic formula contained in a remuneration policy; or
(ii) correspond to an additional amount due in respect of a non-compete clause which is paid out for a future non-compete period and is capped at the amount of fixed remuneration that would have been paid had the individual remained employed, where the institution is able to demonstrate the reasons and appropriateness of amount of the severance payment. As before, the existence of a non-compete clause in an employment contract does not necessarily mean that the amount paid in respect of it falls outside of the ratio calculation; the settlement figure must be expressly stated to compensate for the non-compete clause; or
(c) do not fulfil conditions (a) or (b) above but the firm has demonstrated to the competent authority the reasons and appropriateness of the amount of severance.
Remuneration provisions in a group context
The revised guidelines also provide details on the application of the requirements in a group context. Institutions must apply the remuneration requirements at group, parent and subsidiary level, including within subsidiaries that are not themselves subject to the CRD, unless they are themselves subject to specific remuneration requirements on an individual basis (such as firms subject to the Investment Firms Directive, the Undertakings for Collective Investment in Transferable Securities Directive, and the Alternative Investment Fund Managers Directive). For these firms, the specific requirements will prevail. However, it should be noted that the remuneration provisions may still apply to individual staff members of such subsidiaries where those staff members’ professional activities have a material impact on the institution’s individual or the group’s risk profile.
When applying the requirements on a consolidated basis, the remuneration requirements applicable in the member state where the consolidating institution is located apply, including to identified staff that have a material impact on the group’s risk profile, even if the implementation of the requirements set out in the CRD is stricter. Likewise, subsidiaries subject to the CRD must comply for their staff with the applicable requirements under national law, even if they are stricter than the requirements on a consolidated basis.
Application of waivers
The EBA has provided further direction on the application of waivers: (a) based on institutions’ total assets (below a threshold set by the member state in national law of up to EUR 15 billion); and (b) for staff with a low variable remuneration (of EUR 50,000 or below, when it does not represent more than one-third of the staff member’s total annual remuneration). These waivers apply to the requirements to pay out in instruments and the deferral of variable remuneration, and are intended to make the requirements more proportionate, acknowledging that they are too burdensome and costly for smaller institutions and lower level staff. It should be noted that member states do have some flexibility in the implementation of such waivers in relation to individual institutions.
In addition to the changes set out above, there are a number of smaller amendments to the guidelines, including:
- Deferral periods. The required minimum deferral periods have been amended from three to five years in the 2015 guidelines to four to five years in the updated guidelines. The EBA recognises the importance of deferral schedules to ensuring risk alignment effects in a remuneration package, and this amendment reflects that.
- Share-linked instruments for listed institutions. In order to reduce the costs for the application of the requirement for listed institutions to pay out remuneration in shares, the new guidelines have also introduced the possibility of listed institutions using share-linked instruments as part of their remuneration packages.
- ESG objectives. The revised guidelines now require an institution’s remuneration policy to be consistent with, amongst other factors, environmental, social and governance (ESG) risk-related objectives. ESG objectives were not referenced at all in the 2015 guidelines, so this represents a significant shift in business long-term objective-setting over the past six years.
- Remuneration committee composition. There has been a slight relaxation in the guidelines on remuneration committee composition. The revised guidelines now require that for global systemically important institutions (G-SIIs) and other systemically important institutions (O-SIIs), the remuneration committee includes a majority of members who are independent and be chaired by an independent member. For other significant institutions, remuneration committees should include a “sufficient” number of independent members, but there is no requirement for the chair to be independent (subject to local law and any requirements from competent authorities).
Firms will need to prepare to comply with the guidelines by 31 December 2021. Additionally, the EBA will follow up on institutions’ practices with a report which is due to be published within the next two years. In the meantime, institutions should review the revised guidelines (particularly noting changes from the 2015 version), determine whether they fall within their scope and identify any required changes to their current arrangements in anticipation of the 31 December 2021 implementation date.