Regulators Repropose Ban on Risky Incentive-Based Compensation Arrangements

The Office of the Comptroller of the Currency, Federal Deposit Insurance Corporation, Federal Housing Finance Agency and National Credit Union Administration ("agencies") proposed a rule to prohibit incentive-based compensation arrangements that encourage risks by a covered institution.

The rule renews efforts on a rule first proposed in 2016 as part of the Dodd-Frank financial reform. (See related coverage.) By the proposed rule, the agencies would implement Dodd-Frank Section 956 ("Enhanced compensation structure reporting") to (i) prohibit incentive-based compensation arrangements at covered financial institutions that encourage inappropriate risks by providing excessive compensation or that could lead to material financial loss; and (ii) require those covered financial institutions to disclose information concerning incentive-based compensation arrangements to the appropriate Federal regulators.

The proposed rule would apply to any insured national bank, insured Federal savings association or insured Federal branch of a foreign bank:

• with average total consolidated assets equal to or greater than $50 billion;
• with average total consolidated assets less than $50 billion if that bank’s parent company controls at least one covered bank; or
• with average total consolidated assets less than $50 billion, if the OCC determines such bank's operations are highly complex or otherwise present a heightened risk.

The rule is not applicable to brokers, dealers, insurance providers, investment companies and investment advisers or any firms with less than $1 billion in average total consolidated assets.

Comments on the proposed rule are due 60 days after publication in the Federal Register.

Statements

• Acting Comptroller of the Currency Michael J. Hsu said that the "2016 NPR was the closest the six agencies have come to agreeing on a joint final rule; thus, it is a natural place to start." He said that interagency discussions "have highlighted modifications to the 2016 NPR that would help to fulfill [the] statutory mandate more effectively."
• FDIC Chair Martin J. Gruenberg said that the notice of proposed rulemaking addresses an important lesson from the Global Financial Crisis of 2008: poorly designed financial institution compensation programs can provide incentives for short-term risk taking that can jeopardize the safety and soundness of the institution. He warned: "when poor compensation practices involve the largest financial institutions, the negative impacts of inappropriate risk-taking can have broader consequences for the financial system."
• FDIC Vice Chair Travis Hill agreed with the general principle that compensation can play an important role in a bank’s culture and risk-taking, but argued that "compensation agreements play a crucial role in recruiting and retaining qualified staff, and are at the core of a well-functioning market economy."
• FHFA Director Sandra L. Thompson said that "robust risk management with respect to compensation practices is critical to promoting the safety and soundness of FHFA's regulated entities."
• CFPB Director Rohit Chopra recommended: (i) seeking feedback about the proposal's required delay in paying out a portion of an executive’s or employee’s bonus package, and whether it should pay out over a longer period of time; (ii) requiring firms to recover or lower bonuses; (iii) monitoring input to determine whether highly paid employees should be prohibited from acquiring hedges (along with firms as the proposal suggests) or other financial instruments; and (iv) expanding the prohibition on incentive compensation arrangements (based solely on revenue or volume metrics) to all compensation arrangements that are based on revenue or volume targets without regard to quality of performance or risk management considerations.

In addition, SIFMA weighed in, raising concerns about (i) re-proposing a "flawed eight-year-old rule without changes"; (ii) the failure to act jointly with, or seek input from, all other relevant regulatory bodies, as required, while also failing to take into account the dramatic changes that have occurred in the ensuing years; (iii) the proposed rule's wide-reaching consequences, including the potential undercutting of the U.S. financial services industry’s ability to recruit and retain talent in order to responsibly manage risk and operate the industry’s businesses.