The Directive needs to be implemented by the end of the year, but many aspects are still unclear like the remuneration rules. An overview of the CRD V remuneration practices and how it is going to change the existing framework.
Last year, the European Union published the finalized fifth Capital Requirements Directive or short CRD V (EU Directive 2019/878) in the Official Journal. The latest chapter in the CRD story brings amendments to its predecessor regarding exempted entities, financial holding companies, mixed financial holding companies, supervisory measures and powers, capital conservation measures and remuneration. It is the way bankers get paid that is now determined in the different member states of the Union. The CRD V entered into force twenty days after its publication in the Journal, but unlike regulations that apply directly, directive set out the necessary measures that the EU members states are to adopt and publish to transpose it into national law and in the case of the CRD V this had to be done by 28 December 2020 (with a few exceptions though).
The salaries of finance professionals have long been a controversial subject. In particular in light of the Global Financial Crisis showed a distortion between remuneration, responsibility and accountability on a large scale. Executive pay arrangements contributed to excessive risk-taking during the run-up to the financial crisis in 2007/2008 and regulators set out to fix a broken system. Still, in a report on high earners in EU banks the European Banking Authority (EBA) saw a significant increase year-on-year.
In that sense, the amendments introduced by the CRD V are only the latest attempt to set up a structure that rewards bankers appropriately for doing a good job. To do this, the Directive foresees a number of changes to the existing framework:
- In order to uniformly implement the principle of proportionality, a total balance sheet limit of five billion euros is specified for the classification as an important institution. Accordingly, financial institutions whose total assets have generally been less than five billion euros in the past four years can refrain from applying the special risk taker requirements for variable remuneration. However, under certain conditions, the member states can raise this value up to 15 billion euros.
- Public development banks are excluded from the scope of the Capital Requirements Regulation and are therefore automatically exempt from the individual requirements regarding severance payments or the disclosure of remuneration information.
- The remuneration regulations and practices have to be gender-neutral.
- In order or to strengthen the adequacy of the remuneration policy as part of risk management systems, it becomes a principle of good corporate governance.
A substantial portion, i.e. at least 40 %, of the variable remuneration component is deferred over a period of at least four to five years. It must be correctly aligned with the nature of the business, its risks and the activities of the staff member concerned. For members of the management body and senior management of institutions that are significant in terms of their size, internal organisation and the nature, scope and complexity of their activities, the deferral period has to be at least five years.
Especially with regard to the last aspect, the European Banking Authority (EBA) was mandated to produce new technical regulatory standards. The EBA and its predecessor organization the CEBS have published and updated Guidelines on Remuneration Policies and Practices and the EBA will review and update those Guidelines in light of the requirements laid down in the revised CRD. To that end, it has run a public consultation on its draft Regulatory Technical Standards (RTS) on the criteria to identify all categories of staff whose professional activities have a material impact on the institutions’ risk profile, i.e. the so-called risk takers. The aim of these standards is to define and harmonise the criteria for the identification of such staff and to ensure a consistent approach across the EU and the consultation closed in February. The EBA is now working on finalizing its draft regulatory standards on the basis of the feedback received and aims to submit it to the European Commission by the end of the month.
At the same time, national legislators and regulatory institutions work on the implementation acts. For example, the German Federal Ministry of Finance just closed a public consultation regarding its draft Law to reduce risks and strengthen proportionality in the banking sector. Naturally, considering the regulatory uncertainties of the final rules – amplified by the current Coronavirus crisis and its impact on daily lives – make it a challenging exercise to produce coherent rules on a national and EU level.
One such aspect is the CRD V rule to set the limit to categorise large institutions at 5 billion euros over the four-year period immediately preceding the current financial year. This would result in a substantial increase of systemically important institutions with accompanying requirements on internal governance and control and there already has been significant pushback in the industry.
However, this together with the entire framework remains work in progress and more clarity could come once the final RTS are out, though it looks like many aspects will only be determined towards the very end of the transposition period.