Implementing the Remuneration Code for Investment Firms – How to get it right

Implementing the Remuneration Code for Investment Firms – How to get it right

Welcome to our second article in our series of thematic publications focusing on the Investment Firms Prudential Regime (IFPR). In this article, marking the one-year anniversary of the IFPR going live, we share our views on the new remuneration code brought about by the new regime and provide insights into the key considerations firms need to have in implementing the new code.

Get a better understanding of key aspects of IFPR implementation, focusing on the following themes: ICARA, Remuneration, IFPR Implementation, Wind down planning and Public Disclosures.

What has changed?

The Investment Firms Prudential Regime (IFPR) represents a significant change in the prudential rules and requirements applicable to investment firms with MIFID permissions (‘MIFIDPRU Investment firms’ such as asset and wealth managers, commodity and other securities brokerages). The new requirements are enshrined mainly in the MIFIDPRU Sourcebook (“MIFIDPRU”), which forms a new chapter in the Financial Conduct Authority’s (“FCA”) Handbook, as well as in other sections of the Handbook covering governance, systems and controls and reporting requirements.

As a result, previous exempt-CAD, BIPRU and IFPRU firms have, over the past 12 - 24 months, had to implement operational changes to establish the systems and controls needed to ensure compliance with these new requirements.

One of the areas in which IFPR establishes new requirements is remuneration policies and practices. The FCA have introduced a new MIFIDPRU Remuneration Code (the “Code”), which will apply to performance periods beginning after 1 January 2022.  

It should be noted that the Code presents more of an evolution than a revolution of the remuneration rules. So, whilst it is true that it is ‘out with the old BIPRU and IFPRU remuneration codes and in with the new’, firms previously complying with the now repealed BIPRU and IFPRU codes, will likely find many familiar provisions in the Code.

For those firms, such as the previously exempt-CAD firms, that had no specific remuneration rules to comply with prior to the implementation of IFPR, the Code represents a step-change in regulatory requirements.  

Why were Remuneration Codes introduced?

Before diving into the detailed requirements of the Code, it is worth disembarking briefly to consider why Remuneration codes were introduced in the first place.

History is littered with examples of individuals and groups of individuals not acting in the best interest of their clients or posing a threat to the integrity of the markets while seeking to optimise financial rewards for themselves.

Remuneration codes have sought to reduce the risk of inappropriate incentivisation by better aligning reward structures with risk taking and supporting the regulator’s objectives of consumer protection and market integrity. Predominantly, alignment is sought through designing variable remuneration schemes in such manner as to be aligned with the long-term interests of the firm and its clients. The codes did this by requiring firms to consider safeguards such as malus and clawback, deferrals, retentions and payments in shares or other share-linked instruments in the award of variable remuneration.

Who is in scope of the new rules?

The Code applies to all MIFIDPRU investment firms, which, amongst others, includes Collective Portfolio Management Investment firms (CPMIs). CPMIs are subject to the AIFM and/or UCITS remuneration codes which means that these firms would be in scope of multiple remuneration codes. Where multiple codes apply, and a conflict exists, the FCA requires firms to comply with the more stringent provision, though this is expected to be rare in practice given the similarity in the nature of the provisions.  

Overview of the MIFIDPRU Remuneration Code

A key feature of the Code is the ‘baked in’ proportionality principle with a tiered application of remuneration provisions as shown in the image below. The requirements are incremental in nature such that all non-SNIs are in scope of the basic requirements and the standard requirements whilst the largest non-SNIs are in scope of all three requirements.


MIFIDPRU code explained


*SNIs are firms meeting the characteristics as set out in MIFIDPRU 1.2.1 which include having average AUM of less than £1.2billion, not holding client money or safeguarding and administering client assets, not having permission to deal on own account, having on-and off-balance sheet assets of less than £100m, having total annual gross revenues of less than £30m. 
** These are firms with the following characteristics: the value of their on-balance sheet assets and off-balance sheet items over the preceding 4‑year period is a rolling average of more than £300m, or the exposure value of their on-balance sheet assets and off-balance sheet items over the preceding 4‑year period is a rolling average of more than £100m (but less than £300m), and the exposure value of their trading book business is greater than £150m, and/or derivatives business is greater than £100m.

What are the requirements of each of these tiers?

Apply to all in-scope firms and all staff 

Remuneration Policy: Firms are required to establish, implement, and maintain remuneration policies and procedures. These must promote sound and effective risk management; and be proportionate to the size, internal organisation and nature of the firm’s activities. 

Unlike previous remuneration codes, the Code expressly requires that the remuneration policy is gender neutral.

Governance and Oversight: Firms are required to ensure that their management body acting in its role of overseeing and monitoring management decision-making, adopts and periodically reviews the firm’s remuneration policy. As with the previous codes, the Code requires that the remuneration of employees in control functions (e.g. risk and compliance), is directly overseen by the Remuneration Committee or Board (where a Remuneration Committee does not exist). 

Fixed and Variable Remuneration: The Code requires that the remuneration policy makes a clear distinction between the criteria used for setting fixed and variable remuneration respectively. Most firms in scope of the previous remuneration codes already included some detail on these two different remuneration components in their policies. However, the degree to which these arrangements have been adequately documented, has varied significantly between firms. Therefore, for some firms, the policies will require a significant upgrade.

Firms are also required to ensure that the fixed and variable components of remuneration are appropriately balanced. The Code does not specify what appropriate balance means; therefore, some judgment will be required in determining the right balance for different categories of employees. In doing this, firms may consider ratios of peer firms, or other unique considerations about their specific business model and any associated inherent risks in that model.     

Restrictions on Variable Remuneration: While not new to the Code (was also part of the IFPRU/BIPRU codes), a key requirement of the Code, is that firms must ensure that variable remuneration does not affect their ability to maintain a sound capital base. In other words, variable remuneration cannot be awarded, paid out or allowed to vest, if it would endanger the prudential soundness of the firm. 

Assessment of Performance: The Code requires firms to consider both financial and non-financial criteria in assessing individuals’ performance when determining how much variable remuneration to award an individual. Firms are also expected to consider giving equal weight to both set of criteria.

Applies to non-SNIs and Material Risk Takers (MRTs) only

The Standard Requirements apply to MRTs only. An MRT is a staff member at a non-SNI firm whose professional activities have a material impact on the risk profile of the firm or of the assets that the firm manages. MRTs will include board members, members of the senior management team, persons with managerial responsibility for the activities of the compliance, risk or internal audit functions, etc. Predecessor codes included quantitative thresholds, however the Code only includes qualitative measures. This means there may be changes to the population of MRTs from the previous universe of remuneration code staff.

For this category of employees, the following provisions apply: 

Ratio of variable to fixed remuneration: Non-SNIs are required to set an appropriate ratio of the components (variable and fixed) of total remuneration. Different ratios may be set for different categories of MRTs and may change from one performance period to another. The maximum ratio should reflect the highest amount of variable remuneration that can be awarded to the category of MRTs in the most positive performance scenario. There is therefore no ‘cap’ on variable pay as such, but firms should be prepared to clearly justify the ratios they have set as well as the rationale for differences between different categories of MRTs. 

Independent Review of Remuneration Policy: The Code also includes a new provision for non-SNIs  to conduct, at least annually, a central and independent internal review to establish whether the remuneration policy framework and procedures of the firm have been complied with.  

Assessment of Performance: For firms in scope, the rules go further than the performance assessment requirement under the basic requirements tier, requiring these firms to assess not just the performance of the individual, but also that of the business unit concerned as well as the firm as a whole. Importantly, the assessment must be based on a multi-year framework that takes into account the business cycle of the firm and its business risks. 

Risk adjustment: Another key provision in the code is that firms must, when measuring performance for the purposes of determining the variable remuneration pool, consider current and future risks, as well as the cost of capital and liquidity. This provision also existed under the old BIPRU/IFPRU codes.  

Performance adjustment: Firms are required to ensure that any variable remuneration, including any deferred portion, is paid or vests only if it is sustainable in the context the financial situation of the firm and its overall performance. Consequently, these firms are required to ensure that all of the total variable remuneration is subject: to in-year adjustments; malus (optional as only applicable if deferral mechanisms are used); or clawback arrangements¹. 

Firms are also expected to set specific criteria for the application of malus and/or clawback; and ensure that the criteria for the application of malus and/or clawback cover situations where the MRT participated in or was responsible for conduct which resulted in significant losses to the firm; and/or failed to meet appropriate standards of fitness and propriety. 

Firms are required to set minimum malus (if deferral used) and/or clawback periods as part of its remuneration policies. Clawback periods should span at least the combined length of any deferral and retention periods with three years an appropriate starting point. For former BIPRU firms, this is new as there were no clawback provisions under the old BIPRU code.  

Non-performance related variable remuneration: It is important to note that the Code includes new provisions on non-standard types of variable remuneration such as: guaranteed variable remuneration (for example, golden handshakes or sign-on bonuses); retention awards,buy-out awards; and severance. Specifically, the Code requires that these are consistent with the other rules on variable remuneration such as pertaining to ratio of variable to fixed pay, and aligned to the risk-reward objectives of the rules. 

[1] Malus refers to the reduction or cancellation of deferred incentive awards that have not yet vested, whilst clawback refers to the recouping of awards already vested.

Applies to largest non-SNIs only and individuals within those firms with remuneration exceeding particular thresholds

These requirements only apply to the largest firms and to individuals whose annual variable pay exceeds £167,000 or it exceeds one-third of total annual remuneration. 

Shares, Instruments and Alternative Arrangements: In the same way as was the case in predecessor codes, the largest non-SNIs must ensure that at least 50% of the variable remuneration paid, in a given performance period, comprises any of shares, share-linked instruments, or non-cash instruments reflecting portfolios managed. Instruments in the parent entity of the firm will only be eligible if their value moves in line with the value of an equivalent ownership interest in the MIFIDPRU investment firm. 

Firms may apply for a modification to apply alternative arrangements if they are unable to issue eligible instruments and the alternative arrangements proposed are consistent with the FCA’s objectives. 

Retention policy: Firms must apply a minimum retention period for eligible instruments awarded to employees. This is to preserve the alignment of interests of employees with the longer term interests of the firm and its clients. It is expected that the length of the retention period should consider the length of deferral periods, the firm’s business cycle and time taken for risks of employee performance to crystallise. This provision is also consistent with similar rules in the previous codes. 

Deferral: There are no significant changes to the deferral requirements under the Code. At least 40% of variable remuneration (60% for variable remuneration exceeding £500,000 or particularly high amount when assessed as a component of total remuneration) should be deferred for at least 3 years. These amounts must vest no quicker than on a pro rata basis. The requirement that at least 50% of the deferred variable remuneration should consist of instruments described above remains. 

Discretionary pension benefits: Firms are expected to hold, for a period of 5 years, any discretionary pension benefits awarded to an individual who leaves the firm before retirement age. If the individual has reached retirement age, then such benefits must be subject to a 5-year retention period. 

What should firms be thinking about?

As firms start to finalise arrangements for determining variable remuneration awards, the following considerations are pertinent?

  • MRT Identification: The Code includes new criteria for the identification of MRTs. Whilst it is likely that individuals previously identified as ‘remuneration code staff’ will remain MRTs under the Code, certain groups of staff previously excluded under the old codes may be included under the new criteria and vice versa. It will be imperative to carefully go through a process of confirming who is in and who is out of scope to ensure remuneration arrangements are appropriate and any changes can be communicated to individuals affected.
  • Remuneration Policy: Remuneration policies will need a refresh to incorporate the new provisions. Areas of judgment such as the risk adjustment approach used; retention and clawback periods; performance criteria employed; and maximum ratios of variable to fixed remuneration will need to be established and signed off by the Boards. This is an area where we have identified often limited documentation around the policies established and the justification for them.
  • Board training: In order to ensure directors are familiar with the Code and in particular areas of change, it may be necessary to carry out targeted Board level training for Directors generally and the members of the remuneration committee (if one is constituted).
  • Annual independent internal review: With the requirement that non-SNIs establish an annual cycle of independent internal reviews of compliance with the Code, it is necessary to establish the scope of such a review and also decide who should carry these out to give the Board comfort about its compliance with the Code. 
  • Reporting and public disclosures: The Code brings about new reporting and public disclosure requirements to support the regulator’s and wider market’s view of the remuneration arrangements at firms. Firms will need to ensure the internal communication and reporting mechanisms are updated to allow for timely and accurate reporting and disclosures.

The Code presents an evolution of remuneration rules. Proactively engaging with senior management and affected employees early will help ensure a smooth transition to the new code.

How we can help

We have a dedicated team of regulatory specialists and prudential experts helping firms with their ICARA and overall IFPR implementation. To find out how we can help you on your journey to overcome challenges and avoid any pitfalls get in touch today with Mads Hannibal, Giovanni Giro or Osita Egbubine.


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