The Federal Financial Supervisory Authority requires adjustment of salary structures at banks and savings banks

Consequences and risks for bank managers

A new salary regulation for banks is intended to better control the compensation systems at German financial institutions.

The intention of the financial supervisory authority, BaFin (Federal Financial Supervisory Authority), is to make it more difficult to abuse compensation systems. In practice, this is an opportunity for banks and savings banks to win back some of the trust that they have lost and become more transparent. The regulations are intended to secure the stability of banking institutions, and thereby also ensure the stability of financial markets.

BaFin will likely amend the Institutional Compensation Ordinance (IVV), which was first enacted in 2010, once again in March of 2017. Banks can start preparing for this change now by amending employment contracts that may be affected. This represents a challenge for risk management and for compliance as a whole, if banks intend to implement the specifications quickly and without the risk of liability.

The IVV regulates the responsibilities of bank management, such as designing employee compensation systems fairly and determining risk bearers within the institution. The administrative and supervisory bodies within the bank hold these responsibilities.

The intended purpose of the upcoming amendment is to make decisions related to compensation even more transparent and clear, both internally and externally.

Past practices surrounding compensation decisions were sometimes questionable, leading to a significant loss in trust in banks and associated compliance risks.

Now, the obligation to identify risk bearers as stipulated in the IVV is being expanded to all institutions, no matter whether these are seen as significant or not.

Requirements surrounding risk adjustment through referrals, malus arrangements, and clawback mechanisms, in particular, are stated more concretely. In the future, all compensation components will have to be divided into the categories of “fixed” and “variable.” This ends the former practice of deducting benefits granted throughout the institution and employers’ contributions to social security from compensation schemes.

Now, position-specific bonuses may only qualify as fixed compensation under certain narrow stipulations.

Severance pay and documentation

Conditions for severance payments are being tightened, and the requirements for documentation of the basic features of compensation systems are being expanded. In the future, institutions will have to disclose the total amount of all compensation, divided by business area, as well as the makeup and duties of the salary supervisory committee. Documentation must be divided into fixed and variable compensation, and must indicate the number of beneficiaries of variable compensation.

Documentation is one of the most significant “side effects” of compliance, and is often thought of – incorrectly – as a chore. In reality, it serves to protect workers and decision-makers within institutions, allowing them to prove that they have acted correctly.
In the future, identifying risk bearers will be a central area of responsibility for management. These individuals should be identified on at least an annual basis, with documentation. Mid-year analyses may also be necessary when new employees are hired, or when employees are shifted within the company. If this process is not completed, or completed incorrectly, this may create liability risks for the institution.

Bonus repayment obligations for infractions

A new regulation within the IVV deals with repayment obligations for bonus payments (called clawbacks). This issue is not only a matter of discussion for banks. Companies are also asking themselves whether it is appropriate to pay out bonuses to their officials in the face of poor earnings. Institutions falling under the IVV will initially be able to set their own regulations for clawbacks. According to the IVV, a repayment obligation will be mandatory if a risk bearer has made a significant contribution to weak or negative company earnings. This also includes cases of fraud and other instances of malicious behavior or gross negligence leading to significant losses by the institution. Here too there are significant risks.

Implementation problems

There is now increased pressure for institutions to act and implement these mechanisms in practice. In terms of contract law, however, this well-meaning attempt may have very few consequence. The original standard of review for clawback provisions is the GTC specifications governed by civil law or individual contracts with officials, and not the operational imperatives imposed on the institution under public law by the IVV. Risk management must be reviewed, and compliance requirements must be adapted.

Conclusion and recommended actions:

A well-intentioned approach for better compliance, transparency, and justice, must be quickly implemented and adapted in order to ensure the compensation system also fulfills all compliance requirements! These new IVV requirements must be implemented in the risk management system and/or compliance management system of the credit institution.

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Tags: #Compliance, #Vergütungssystem

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