Charities and internal investigations
Most of us would be somewhat miffed if our employer tried to make us pay back the bonus we were awarded 7 years ago. However, this week, the Bank of England (BoE) announced the publication of two joint consultation papers from the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA) that aim to do just that. Although in many ways yesterday’s proposals are a watered down version of the plans outlined by the BoE earlier this year, they mean that the UK faces some of the toughest rules in the world in relation to the clawing back of bankers’ bonuses.
In addition, the proposals could well conflict with employment laws in numerous jurisdictions where UK banks operate (including Germany, France, Mexico and Brazil). Some of the recommendations have even been labelled as contrary to “the principle of natural justice”.
The proposals are clearly a response to the glut of negative stories in the press concerning misbehaviour in the financial services industry, each treated with ever-increasing public outcry. This week alone, Lloyds was fined $370 million (£219 million) for rigging benchmark lending rates. Nevertheless, the severity of the proposals may come as a shock to those working in the financial services industry (and indeed the lawyers advising them).
In terms of remuneration, the proposals will:
The difficulty with applying retrospective action
When the BoE announced the previous proposals earlier this year, there was widespread concern in relation to the plans being implemented retrospectively. Employment lawyers were perplexed as to the feasibility of retrospectively amending the employment contracts of thousands of employees and the British Bankers’ Association (BBA) said that retrospective implementation would be “a convoluted process”.
The regulatory bodies have clearly taken a pragmatic approach and the retrospective element of the proposals has now been dropped. Therefore, any bonuses already awarded are “safe” under the new proposals. The current proposals should come into effect from January 2015.
In what circumstances could clawback occur?
Earlier this year, the BoE’s recommendations included a provision which would have enabled punitive action to be taken against employees where there was a “severe downturn in financial performance”. The proposals announced yesterday do not go as far as this, and the clawback provisions will now apply to vested bonuses if there is “reasonable evidence of employee misbehaviour or material error” or if “the firm or the relevant business unit suffers a material failure of risk management”.
It is certainly arguable that the proposals announced yesterday still exceed the remit afforded to the PRA by Parliamentary Commission on Banking Standards (The Commission), which recommended that “in the most egregious cases of misconduct, recovery of vested remuneration may be justified...”
Commenting on the issue a few months ago, the BBA found that to impose provisions like these on an employee where there is only “reasonable evidence” would cut across the principle of natural justice. Considering the consequences for employees caught under the provisions of the new regime, this is arguably not a high enough burden of proof, and employment lawyers will be watching developments closely.
The proposals announced yesterday herald the replacement of the “Approved Persons’” regime with a “Senior Manager” regime. Employees who perform activities which may pose a potential risk of significant harm will also be subject to an additional “Certification” regime. A new criminal offence will apply to senior managers who are involved in taking a decision by the firm, when he or she is aware that the decision may cause the failure of the institution. Prosecution could result if the decision does cause the firm to fail and if the senior manager’s conduct fell far below what could reasonably be expected of a person in that position.
Separate provision is also made for the presumption of senior management responsibility in regulatory cases. Those with a senior management function would be held responsible for the institution’s regulatory breaches, which occurred within their area of responsibility, if they are unable to demonstrate that they took such steps as they could reasonably have been expected to take to avoid the breach.
How does this leave the UK in relation to the rest of the world?
The UK will now have one of, if not the, most stringent financial regulatory regimes in the world. Many other countries have implemented changes to tighten regulation but these are not as far reaching. For example, the US initiated clawbacks with the Sarbanes-Oxley Act, but this deals specifically with accounting fraud.
Clawback provisions have been introduced across Europe, including in Ireland, Denmark and the Netherlands, but these are mostly on hold.
Where does this leave City employers and employees?
One can understand that the intention is to protect against “excessive risk-taking” and “short-termism” in the City but questions remain about the practical application of the proposals. If enacted, clawback in the terms discussed would be legally possible, but in reality, the practical capability of enforcing a clawback would be dependent on the courts’ keenness to enforce clawback clauses in employment contracts.
As the BBA pointed out earlier this year, the courts may consider such clauses as unenforceable because they could be perceived to be penalty clauses or a restraint of trade. From an employment law perspective, this raises a myriad of questions. How would employers monitor performance in a way that ensures clawback provisions only kick in when reasonable? How will employers take action against an employee who refused to pay back a bonus that has already been paid out to them? How will employers seek clawback from employees who have moved abroad (in numerous jurisdictions, the recovery of paid bonuses would likely be almost impossible under domestic employment law)? How will the courts decide what constitutes “reasonable evidence” in a way which demonstrates clarity and consistency? For employees in the City, and their employment lawyers, there are interesting times ahead.
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