SEC, Prudential Regulators Joint Proposed Rule: Incentive-Based Compensation Arrangements

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Dodd-Frank Timeline, Incentive-Based Compensation Arrangements, SEC
Proposal Date Re-proposed Rule Comment Deadline
April 14, 2011 May 6, 2016 July 22, 2016

On May 6, 2016, a joint group of regulators, including the Securities and Exchange Commission, Office of the Comptroller of the Currency, Federal Deposit Insurance Corporation, National Credit Union Administration and Federal Housing Finance Agency, published a joint proposed rule and request for comment on incentive-based compensation arrangements for covered financial institutions. This rule is a revision to a rule first proposed in 2011. The deadline for public comment is July 22, 2016.


There is evidence that flawed incentive-based compensation practices in the financial industry were one of many factors contributing to the financial crisis that began in 2007. Some compensation arrangements rewarded employees – including non-executive personnel like traders with large position limits, underwriters, and loan officers – for increasing an institution’s revenue or short-term profit without sufficient recognition of the risks the employees’ activities posed to the institutions, and therefore potentially to the broader financial system.

In 2010, the Dodd-Frank Act included section 956, which required certain agencies to set rules on incentive-based compensation arrangements for any "cevered financial institution."

In 2011, the joint Prudential Regulators, along with the Securities and Exchange Commission, approved proposed rules on incentive-based compensation arrangements, per the requirement of Section 956.<ref>SEC Proposes Rules on Disclosure of Incentive-Based Compensation Arrangements at Financial Institutions. SEC. Retrieved on March 2, 2011.</ref> Final rules were added to the Federal Register on April 14, 2011. Among the proposed rules:

  • Incentive-based compensation annual reports would be required of qualifying institutions.
  • Excessive compensation encouraging inappropriate risk-taking on the part of executives and/or resulting in losses by the institution would be prohibited.
  • Compliance policies and procedures regarding incentive-based compensation would be created and enforced.

Since the 2011 Proposed Rule was published, incentive-based compensation practices have evolved in the financial services industry. The Board, the OCC, and the FDIC have gained experience in applying guidance on incentive-based compensation, FHFA has gained supervisory experience in applying compensation-related rules8 adopted under the authority of the Safety and Soundness Act, and foreign jurisdictions have adopted incentive-based compensation remuneration codes, regulations, and guidance. In light of these developments and the comments received on the 2011 Proposed Rule, the Agencies are publishing a new proposed rule to implement section 956.

Highlights of the Rule[edit]

Scope and Initial Applicability: Similar to the 2011 Proposed Rule, the proposed rule would apply to any covered institution with average total consolidated assets greater than or equal to $1 billion that offers incentive-based compensation to covered persons.

Applicability: Although the 2011 Proposed Rule contained specific requirements for covered financial institutions with at least $50 billion in total consolidated assets, the proposed rule creates an additional category, with more rigorous requirements, of institutions with at least $250 billion in average total consolidated assets.

Requirements and Prohibitions Applicable to All Covered Institutions: Similar to the 2011 Proposed Rule, the proposed rule would prohibit all covered institutions from establishing or maintaining incentive-based compensation arrangements that encourage inappropriate risk by providing covered persons with excessive compensation, fees, or benefits or that could lead to material financial loss to the covered institution. The board of directors of covered institutions will be required certain oversight procedures such as approval of compensation arrangements for senior executives. Records must be maintained for seven years.

Deferral, Forfeiture and Downward Adjustment, and Clawback Requirements: The proposed rule would require incentive-based compensation arrangements that appropriately balance risk and reward. For larger institutions, the proposed rule would require that incentive-based compensation arrangements for certain covered persons include deferral of payments, risk of downward adjustment and forfeiture, and clawback to appropriately balance risk and reward.

Additional Prohibitions: The proposed rule contains a number of additional prohibitions for larger institutions that were not included in the 2011 Proposed Rule. These prohibitions would apply to:

  • Hedging;
  • Maximum incentive-based compensation opportunity (also referred to as leverage);
  • Relative performance measures; and
  • Volume-driven incentive-based compensation.

Risk Management and Controls: The proposed rule’s risk management and controls requirements for large covered institutions are generally more extensive than the requirements contained in the 2011 Proposed Rule, including:

  • a risk management framework for incentive-based compensation programs that is independent of any lines of business;
  • an independent compliance program that provides for internal controls, testing, monitoring, and training with written policies and procedures; and
  • commensurate with the size and complexity of the covered institution’s operations.

Governance: Unlike the 2011 Proposed Rule, the proposed rule would require each Level 1 or Level 2 covered institution to establish a compensation committee composed solely of directors who are not senior executive officers to assist the board of directors in carrying out its responsibilities under the proposed rule. The rule also includes a list of required policies and procedures for all larger institutions.

Additional Documents: 2016 Proposed Rule; Initially Proposed Rule (2011)[edit]



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