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From Banking and Finance Law Daily, August 27, 2013

FSB releases progress report on compensation practices

By John M. Pachkowski, J.D.

The Financial Stability Board has released its second progress report on the implementation of the FSB Principles for Sound Compensation Practices and their Implementation Standards (P&S) by FSB jurisdictions. The report was prepared by the FSB Compensation Monitoring Contact Group and focuses on remaining gaps and impediments to full implementation of the P&S and describes some of the key challenges and evolving practices in this area.

The Principles for Sound Compensation Practices and their Implementation Standards were developed in 2009 following the global financial crisis and requires compensation practices in the financial industry to align employees' incentives with the long-term profitability of the firm. The Principles call for effective governance of compensation, and for compensation to be adjusted for all types of risk, to be symmetric with risk outcomes, and to be sensitive to the time horizon of risks. The Principles are intended to apply to all significant financial institutions but are especially critical for large, systemically important firms. The Implementation Standards set out detailed, specific proposals on compensation governance, structure, and disclosure to strengthen adherence to the FSB Principles for Sound Compensation Practices.

Effective implementation. The progress report found that all FSB member jurisdictions, except Argentina and Indonesia, have now completed the implementation of the FSB Principles and Standards (P&S) in their national regulation or supervisory guidance. The focus now is on effective supervision and oversight of implementation of these rules by relevant firms.

The report also found that the disclosure of compensation practices has improved which can be attributed to enhanced disclosure requirements such as those required by Pillar III of the Basel II/III framework.

To allay “some level playing field concerns with regard to jurisdictions that may not have fully implemented the P&S or that do not supervise their firms adequately for this purpose,” the report noted that national authorities have yet to see any real evidence that the implementation of the P&S has been impeded or diminished the ability of supervised institutions to recruit and retain talent. Also, the FSB noted that the Bilateral Complaint Handling Process, which the FSB initiated for the purposes of addressing level playing field concerns, has not so far been activated by firms in FSB member jurisdictions.

U.S. initiatives. In the United States, the bank regulatory agencies have issued a proposed rulemaking to implement section 956 of the Dodd-Frank Act which requires regulations that would prohibit incentive-based compensation arrangements that encourage inappropriate risk taking by banks and savings associations.

Prior to the Dodd-Frank Act proposed rulemaking, the agencies issued an interagency guidance, in 2010, that was intended to ensure that incentive compensation arrangements at financial organizations take into account risk and are consistent with safe and sound practices. The guidance applies not only to top-level managers, but also to other employees who have the ability to materially affect the risk profile of an organization, either individually or as part of a group. Subsequently, the Federal Reserve Board issued a report finding that large banking organizations had made “significant progress” in altering their employee compensation schemes to better balance risk with safety and soundness, but that many firms still had more to do in order to reach full compliance. The report was based on a multi-disciplinary, horizontal review of incentive compensation practices at 25 large, complex banking organizations to “help fill out” the Fed’s understanding of the range of incentive compensation practices across firms and categories of employees within the large banking organizations; and more importantly to guide each organization in implementing the interagency guidance.

Finally, under the Emergency Economic Stabilization Act of 2008, banks receiving assistance under the Treasury Department’s Troubled Asset Relief Program were required by Treasury regulations to make significant changes to the structure of compensation payable to their top earners. In addition to these requirements, the Treasury’s regulations imposed additional restrictions on compensation at firms that have received “exceptional” assistance. For those firms, the compensation of the 100 most highly compensated employees, and all executive officers, were be approved by the Office of the Special Master.

IndustryNews: BankingOperations DirectorsOfficersEmployers DoddFrankAct FederalReserveSystem FinancialStability

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