UK financial firms to further strengthen individual accountability, whistleblowing and remuneration rules

The Financial Conduct Authority (FCA) and Prudential Regulation Authority (PRA) have published a number of policy statements, consultation documents and guidance notes covering different aspects of the regulatory rules, six months after their introduction on 7 March 2016. These include final rules on regulatory references, which clarify the information that firms must now share with one another as part of the recruitment process for senior managers.

FCA chief executive Andrew Bailey said that firms had in general been "taking their responsibilities seriously and have broadly got the regime right". However, "culture change takes time and there is still more to do", he said.

"We have to keep a watchful eye on the progress firms are making," he said.

The FCA had seen "evidence of overlapping or unclear allocation of responsibilities" in firms' initial submissions, as well as some firms "sharing responsibility" for senior management functions amongst more junior staff, he added.

"This goes against the intent of the Senior Managers and Certification Regime and must be addressed," he said.

The SM&CRs form part of the UK government's programme of banking reform following the financial crisis of 2008. The SMR is designed to make it easier for the regulators to hold senior individuals within banks personally accountable for failings on their watch, and requires firms to assign responsibility for certain areas of the business to named senior individuals. The CR requires firms to assess the fitness and propriety of staff in certain roles.

The rules currently apply to banking staff, while a separate Senior Insurance Managers Regime (SIMR) applies at insurers. However, the SM&CRs will be extended to all regulated financial services firms, including asset management and investment firms, from 2018.

The regulators' final rules and guidance on regulatory references are designed to prevent the "recycling" of individuals with poor conduct records across regulated firms, according to the PRA. They will require banks and insurers to request a reference from all previous employers in the last six years for individuals applying for senior management functions, senior insurance management functions, controlled functions and roles in which misconduct could cause 'significant harm', including contingent workers or volunteers.

Firms will be required to take "reasonable steps" to seek references from all previous employers, irrespective of the firm type or its regulated status. It will be the responsibility of the firm to judge what constitutes reasonable steps in each case, for example where former employers are based overseas. The reference should contain "all relevant information" covering the six-year period leading to the date of the reference request, and details of any serious misconduct both within and outside of the six-year period.

The FCA has decided against providing additional guidance on 'all relevant information', despite requests to do so from firms. Firms will instead be expected to "apply judgement on a case-by-case basis: for example, taking account of existing Handbook guidance that refers to the number of upheld complaints", the FCA said. Previous employers will be subject to the general obligation that references be "clear, fair and accurate" and any other relevant legislation, and will not need to disclose information that has not been properly verified.

On remuneration, the regulators have confirmed that malus and clawback rules applicable to variable pay will apply even where a deferred bonus has been 'bought out' by a new employer, or where the employee has moved to a new firm before the clawback period ends. PRA rules allow firms to apply malus or clawback to individuals' bonuses in specified circumstances, for up to seven years in respect of malus and up to 10 years in respect of clawback for the most senior staff.

"The practice of 'buying out' bonus and long-term incentives lost from the old employer on recruitment to a new employer seems to have been one of the factors fuelling the growth of executive pay at quoted companies more generally," said executive remuneration expert Graeme Standen of Pinsent Masons, the law firm behind Out-Law.com. "That, of course, also undermines the effectiveness of malus and clawback as tools to better align pay with performance - something which the PRA now hopes to tackle with its new requirements."

"As a result, companies and governance and remuneration practitioners outside the financial sector will now be expecting calls to explore similar rules for other sectors. Many will say that this is unworkable - that, however, was a widespread response to the PRA's original consultation proposal of these new buy-out rules, which some thought ultimately would not be pursued. It seems certain that this idea will be at least explored by the government and by the BIS select committee over the coming months, as part of their planned consideration of corporate governance reforms," he said.

Other measures that the regulators are consulting on include extending the current conduct rules to all non-executive directors of banks and insurers; guidance for senior managers on their 'duty of responsibility'; and a new requirement for UK branches of overseas banks to tell their UK-based employees about the whistleblowing services offered by the FCA and the PRA. The FCA has also published a discussion paper about how those heading up the legal function in firms should be treated under the SM&CR, following concerns that the disclosure requirements imposed on senior managers by the regulators could erode legal professional privilege.