Lawyers have claimed that the plan to lift the cap on bankers’ bonuses next week could come with ‘inevitable legal risks’ and practical challenges for HR.
The Financial Conduct Authority and the Prudential Regulation Authority announced that the removal of the cap – first announced by then chancellor Kwasi Kwarteng during last year’s disastrous ‘mini budget’ – would begin from 31 October.
The cap imposes limits on the ratio between fixed remuneration elements such as salary and variable components such as bonuses. This has meant that banks have resorted to increasing base salaries as they could not adjust bonuses based on senior executives’ performance, according to the FCA and PRA.
They claim that removing the cap will allow companies “the freedom to restructure their pay over time” and “align remuneration with prudent risk-taking” as well as increase labour mobility. They also point out that a bonus cap is not routinely imposed in other major banking centres outside the EU.
The Institute for Economic Affairs said the move was “common sense” and would give banks more flexibility to respond to different financial conditions. IEA fellow Julian Jessop said: “Its removal will further strengthen the competitiveness of the UK financial sector and increase tax revenues, so it is not just bankers who will benefit.”
But lawyers have claimed the cap removal could have unintended consequences for employers in the sector, and the TUC described the decision as “obscene”.
Dean Fuller, partner at employment law specialists Fox & Partners, said HR teams would face a “legal and practical challenge”.
“You can’t unilaterally change such an important part of an employment contract without risking employment disputes along the way,” he said.
“Banks will likely have to introduce higher bonuses slowly, through new hires, a gradual roll out of new policies or with those “star performers” who are doing so well they feel they have nothing to lose by freezing their basic salary in exchange for a bigger bonus potential.
“Bigger bonuses also bring the potential for more bitter and hard-fought legal disputes.”
Fuller added that since the cap on bonuses was introduced in 2014, employees could have a greater chance of successfully winning a tribunal because they could show their bonus was unfairly low, or that they had been singled out.
“The legal ‘discretion’ that banks had in setting bonuses has started to be eroded over the years,” he added.
“A dispute over a bonus where the banker feels they have been discriminated against on the grounds of gender, race, religion or sexual orientation is a bombshell both legally and reputationally. Bigger variable bonuses means more potential for disputes. That’s inevitable.”
“Banks will have to be extremely careful over how they allocate bonuses. The formula they use and how this is applied in individual cases have to stand up to scrutiny; the record-keeping of the process needs to be meticulous. All of that would be uncovered during the disclosure process of any ensuing litigation.”
Bradley Richardson, partner in Linklaters’ employment and incentives practice, added that banks would still need to set a maximum ratio between fixed pay and bonuses; the decision just means that there is more flexibility on where this ratio is set.
The UK’s rules on remuneration in the banking sector remain some of the most stringent in the world.” – Bradley Richardson, Linklaters
He said: “The bonus cap was always the headline grabbing part of the remuneration rules applicable to banks in the UK – but it’s key that it was only ever one part of the puzzle.
“The UK’s rules on remuneration in the banking sector remain some of the most stringent in the world – in particular for senior staff UK banks are required to defer bonuses, and have bonuses subject to repayment through clawback provisions, over longer periods than anywhere else in the world.
“The regulators highlight that removing the bonus cap brings the UK into line with the rest of the world other than the EU. The bonus cap which applies under the remuneration rules applied in the EU will, however, continue to apply – including for staff working in London but who are regulated under the EU rules.”
Jessop at the IEA pointed out that there are other regulatory mechanisms in place to prevent excessive risk-taking behaviour, such as the FCA’s Senior Managers Regime and deferred bonus schemes, which allow companies to claw back excessive payments at a later date.
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