[Federal Register Volume 76, Number 72 (Thursday, April 14, 2011)]
[Proposed Rules]
[Pages 21170-21219]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-7937]
[[Page 21169]]
Vol. 76
Thursday,
No. 72
April 14, 2011
Part III
Department of the Treasury
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Office of the Comptroller of the Currency
12 CFR Part 42
Federal Reserve System
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12 CFR Part 236
Federal Deposit Insurance Corporation
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12 CFR Part 272
Department of the Treasury
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Office of Thrift Supervision
12 CFR Part 563h
National Credit Union Administration
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12 CFR Parts 741 and 751
Securities and Exchange Commission
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17 CFR Part 248
Federal Housing Finance Agency
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12 CFR Part 1232
Incentive-Based Compensation Arrangements; Proposed Rule
Federal Register / Vol. 76, No. 72 / Thursday, April 14, 2011 /
Proposed Rules
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DEPARTMENT OF THE TREASURY
Office of the Comptroller of the Currency
12 CFR Part 42
[Docket No. OCC-2011-0001]
RIN 1557-AD39
FEDERAL RESERVE SYSTEM
12 CFR Part 236
[Docket No. R-1410]
RIN 7100-AD69
FEDERAL DEPOSIT INSURANCE CORPORATION
12 CFR Part 372
RIN 3064-AD56
DEPARTMENT OF THE TREASURY
Office of Thrift Supervision
12 CFR Part 563h
[Docket No. OTS-2011-0004]
RIN 1550-AC49
NATIONAL CREDIT UNION ADMINISTRATION
12 CFR Parts 741 and 751
RIN 3133-AD88
SECURITIES AND EXCHANGE COMMISSION
17 CFR Part 248
[Release No. 34-64140; File no. S7-12-11]
RIN 3235-AL06
FEDERAL HOUSING FINANCE AGENCY
12 CFR Part 1232
RIN 2590-AA42
Incentive-Based Compensation Arrangements
AGENCY: Office of the Comptroller of the Currency, Treasury (OCC);
Board of Governors of the Federal Reserve System (Board); Federal
Deposit Insurance Corporation (FDIC); Office of Thrift Supervision,
Treasury (OTS); National Credit Union Administration (NCUA); U.S.
Securities and Exchange Commission (SEC); and Federal Housing Finance
Agency (FHFA).
ACTION: Proposed Rule.
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SUMMARY: The OCC, Board, FDIC, OTS, NCUA, SEC, and FHFA (the Agencies)
are proposing rules to implement section 956 of the Dodd-Frank Wall
Street Reform and Consumer Protection Act. The proposed rule would
require the reporting of incentive-based compensation arrangements by a
covered financial institution and prohibit incentive-based compensation
arrangements at a covered financial institution that provide excessive
compensation or that could expose the institution to inappropriate
risks that could lead to material financial loss.
DATES: Comments must be received by May 31, 2011.
ADDRESSES: Although the Agencies will jointly review all the comments
submitted, it would facilitate review of the comments if interested
parties send comments to the Agency that is the appropriate Federal
regulator, as defined in section 956(e) of the Dodd-Frank Act for the
type of covered financial institution addressed in the comments.
Commenters are encouraged to use the title ``Incentive-based
Compensation Arrangements'' to facilitate the organization and
distribution of comments among the Agencies. Interested parties are
invited to submit written comments to:
Office of the Comptroller of the Currency: Because paper mail in
the Washington, DC area and at the OCC is subject to delay, commenters
are encouraged to submit comments by the Federal eRulemaking Portal or
e-mail, if possible. Please use the title ``Incentive-based
Compensation Arrangements'' to facilitate the organization and
distribution of the comments. You may submit comments by any of the
following methods:
Federal eRulemaking Portal--Regulations.gov: Go to http://www.regulations.gov. Select ``Document Type'' of ``Proposed Rule'', and
in ``Enter Keyword or ID Box'', enter Docket ID ``OCC-2011-0001'', and
click ``Search.'' On ``View By Relevance'' tab at bottom of screen, in
the ``Agency'' column, locate the proposed rule for OCC, in the
``Action'' column, click on ``Submit a Comment'' or ``Open Docket
Folder'' to submit or view public comments and to view supporting and
related materials for this proposed rule.
Click on the ``Help'' tab on the Regulations.gov home page
to get information on using Regulations.gov, including instructions for
submitting or viewing public comments, viewing other supporting and
related materials, and viewing the docket after the close of the
comment period.
E-mail: [email protected].
Mail: Office of the Comptroller of the Currency, 250 E
Street, SW., Mail Stop 2-3, Washington, DC 20219.
Fax: (202) 874-5274.
Hand Delivery/Courier: 250 E Street, SW., Mail Stop 2-3,
Washington, DC 20219.
Instructions: You must include ``OCC'' as the agency name and
``Docket ID OCC-2011-0001'' in your comment. In general, OCC will enter
all comments received into the docket and publish them on the
Regulations.gov Web site without change, including any business or
personal information that you provide such as name and address
information, e-mail addresses, or phone numbers. Comments received,
including attachments and other supporting materials, are part of the
public record and subject to public disclosure. Do not enclose any
information in your comment or supporting materials that you consider
confidential or inappropriate for public disclosure.
You may review comments and other related materials that pertain to
this proposed rule by any of the following methods:
Viewing Comments Electronically: Go to http://www.regulations.gov. Select ``Document Type'' of ``Public Submission,''
in ``Enter Keyword or ID Box,'' enter Docket ID ``OCC-2011-0001'', and
click ``Search.'' Comments will be listed under ``View By Relevance''
tab at bottom of screen. If comments from more than one agency are
listed, the ``Agency'' column will indicate which comments were
received by the OCC.
Viewing Comments Personally: You may personally inspect
and photocopy comments at the OCC, 250 E Street, SW., Washington, DC.
For security reasons, the OCC requires that visitors make an
appointment to inspect comments. You may do so by calling (202) 874-
4700. Upon arrival, visitors will be required to present valid
government-issued photo identification and to submit to security
screening in order to inspect and photocopy comments.
Docket: You may also view or request available background
documents and project summaries using the methods described above.
Board of Governors of the Federal Reserve System: You may submit
comments, identified by Docket No. R-1410 and RIN No. 7100-AD69, by any
of the following methods:
Agency Web Site: http://www.federalreserve.gov. Follow the
instructions for submitting comments at http://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm.
[[Page 21171]]
Federal eRulemaking Portal:http://www.regulations.gov.
Follow the instructions for submitting comments.
E-mail: [email protected]. Include the
docket number and RIN number in the subject line of the message.
Fax: (202) 452-3819 or (202) 452-3102.
Mail: Address to Jennifer J. Johnson, Secretary, Board of
Governors of the Federal Reserve System, 20th Street and Constitution
Avenue, NW., Washington, DC 20551.
All public comments will be made available on the Board's Web site
at http://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm as
submitted, unless modified for technical reasons. Accordingly, comments
will not be edited to remove any identifying or contact information.
Public comments may also be viewed electronically or in paper in Room
MP-500 of the Board's Martin Building (20th and C Streets, NW.) between
9 a.m. and 5 p.m. on weekdays.
Federal Deposit Insurance Corporation: You may submit comments,
identified by RIN number, by any of the following methods:
Agency Web Site: http://www.FDIC.gov/regulations/laws/federal/propose.html. Follow instructions for submitting comments on
the Agency Web Site.
E-mail: [email protected]. Include the RIN number on the
subject line of the message.
Mail: Robert E. Feldman, Executive Secretary, Attention:
Comments, Federal Deposit Insurance Corporation, 550 17th Street, NW.,
Washington, DC 20429.
Hand Delivery: Comments may be hand delivered to the guard
station at the rear of the 550 17th Street Building (located on F
Street) on business days between 7 a.m. and 5 p.m.
Instructions: All comments received must include the agency name
and RIN for this rulemaking and will be posted without change to http:/
/www.fdic.gov/regulations/laws/Federal/propose.html, including any
personal information provided.
Office of Thrift Supervision: You may submit comments, identified
by OTS-2011-0004, by any of the following methods:
Federal eRulemaking Portal--Regulations.gov: Go to http://www.regulations.gov and follow the directions.
E-mail: [email protected]. Please include OTS-
2011-0004 in the subject line of the message and include your name and
telephone number in the message.
Mail: Regulation Comments, Chief Counsel's Office, Office
of Thrift Supervision, 1700 G Street, NW., Washington, DC 20552,
Attention: OTS-2011-0004.
Facsimile: (202) 906-6518.
Hand Delivery/Courier: Guard's Desk, East Lobby Entrance,
1700 G Street, NW., from 9 a.m. to 4 p.m. on business days, Attention:
Regulation Comments, Chief Counsel's Office, Attention: OTS-2011-0004.
Instructions: All submissions received must include the
agency name and docket number for this rulemaking. All comments
received will be entered into the docket and posted on Regulations.gov
without change, including any personal information provided. Comments,
including attachments and other supporting materials received, are part
of the public record and subject to public disclosure. Do not enclose
any information in your comment or supporting materials that you
consider confidential or inappropriate for public disclosure.
Viewing Comments On-Site: You may inspect comments at the
Public Reading Room, 1700 G Street, NW., by appointment. To make an
appointment for access, call (202) 906-5922, send an e-mail to
public.info@ots.treas.gov">public.info@ots.treas.gov, or send a facsimile transmission to (202)
906-6518. (Prior notice identifying the materials you will be
requesting will assist us in serving you.) We schedule appointments on
business days between 10 a.m. and 4 p.m. In most cases, appointments
will be available the next business day following the date we receive a
request.
National Credit Union Administration: You may submit comments by
any of the following methods (please send comments by one method only):
Federal eRulemaking Portal: http://www.regulations.gov. Follow the
instructions for submitting comments.
Agency Web site: http://www.ncua.gov/Resources/RegulationsOpinionsLaws/ProposedRegulations.aspx. Follow the
instructions for submitting comments.
E-mail: Address to [email protected]. Include ``[Your
name] Comments on ``Notice of Proposed Rulemaking for Incentive-based
Compensation Arrangements'' in the e-mail subject line.
Fax: (703) 518-6319. Use the subject line described above
for e-mail.
Mail: Address to Mary Rupp, Secretary of the Board,
National Credit Union Administration, 1775 Duke Street, Alexandria,
Virginia 22314-3428.
Hand Delivery/Courier: Same as mail address.
Public Inspection: All public comments are available on
the agency's Web site at http://www.ncua.gov/Resources/RegulationsOpinionsLaws/ProposedRegulations.aspx as submitted, except
when not possible for technical reasons. Public comments will not be
edited to remove any identifying or contact information. Paper copies
of comments may be inspected in NCUA's law library at 1775 Duke Street,
Alexandria, Virginia 22314, by appointment weekdays between 9 a.m. and
3 p.m. To make an appointment, call (703) 518-6546 or send an e-mail to
[email protected].
Securities and Exchange Commission: You may submit comments by the
following method:
Electronic Comments
Use the Commission's Internet comment form (http://www.sec.gov/rules/exorders.shtml); or
Send an e-mail to [email protected] Please include
File Number S7-12-11 on the subject line; or
Use the Federal eRulemaking Portal (http://www.regulations.gov). Follow the instructions for submitting comments.
Paper Comments
Send paper comments in triplicate to Elizabeth M. Murphy,
Secretary, Securities and Exchange Commission, 100 F Street, NE.,
Washington, DC 20549.
All submissions should refer to File Number S7-12-11. This file number
should be included on the subject line if e-mail is used. To help us
process and review your comments more efficiently, please use only one
method. The Commission will post all comments on the Commission's
Internet Web site (http://www.sec.gov/rules/proposed.shtml). Comments
are also available for Web site viewing and printing in the
Commission's Public Reference Room, 100 F St., NE., Washington, DC
20549 on official business days between the hours of 10 a.m. and 3 p.m.
All comments received will be posted without change; the Commission
does not edit personal identifying information from submissions. You
should submit only information that you wish to make available
publicly.
Federal Housing Finance Agency: You may submit your written
comments on the proposed rulemaking, identified by RIN number 2590-
AA42, by any of the following methods:
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E-mail: Comments to Alfred M. Pollard, General Counsel,
may be sent by e-mail at [email protected]. Please include ``RIN
2590-AA42'' in the subject line of the message.
Federal eRulemaking Portal: http://www.regulations.gov.
Follow the instructions for submitting comments. If you submit your
comment to the Federal eRulemaking Portal, please also send it by e-
mail to FHFA at [email protected] to ensure timely receipt by the
Agency. Please include ``RIN 2590-AA42'' in the subject line of the
message.
U.S. Mail, United Parcel Service, Federal Express, or
Other Mail Service: The mailing address for comments is: Alfred M.
Pollard, General Counsel, Attention: Comments/RIN 2590-AA42, Federal
Housing Finance Agency, Fourth Floor, 1700 G Street, NW., Washington,
DC 20552.
Hand Delivery/Courier: The hand delivery address is:
Alfred M. Pollard, General Counsel, Attention: Comments/RIN 2590-AA42,
Federal Housing Finance Agency, Fourth Floor, 1700 G Street, NW.,
Washington, DC 20552. A hand-delivered package should be logged at the
Guard Desk, First Floor, on business days between 9 a.m. and 5 p.m.
All comments received by the deadline will be posted for public
inspection on the FHFA Web site at http://www.fhfa.gov. Copies of all
comments timely received will be available for public inspection and
copying at the address above on government-business days between the
hours of 10 a.m. and 3 p.m. To make an appointment to inspect comments
please call the Office of General Counsel at (202) 414-6924.
FOR FURTHER INFORMATION CONTACT:
OCC: Michele Meyer, Assistant Director, and Patrick Tierney, Counsel,
Legislative and Regulatory Activities, (202) 874-5090, and Karen
Kwilosz, Director, Operational Risk Policy, (202) 874-5350, Office of
the Comptroller of the Currency, 250 E Street, SW., Washington, DC
20219.
Board: Michael Waldron, Counsel, (202) 452-2798, or Amanda Allexon,
Counsel, (202) 452-3818, Legal Division; William F. Treacy, Advisor,
(202) 452-3859, or Meg Donovan, Supervisory Financial Analyst, (202)
452-7542, Division of Banking Supervision and Regulation; Board of
Governors of the Federal Reserve System, 20th and C Streets, NW.,
Washington, DC 20551.
FDIC: Steven D. Fritts, Associate Director, Risk Management Policy
Branch, DSC, (202) 898-3723; Melinda West, Chief, Policy & Program
Development, DSC, (202) 898-7221, George Parkerson, Senior Policy
Analyst, (202) 898-3648; Rose Kushmeider, Senior Financial Economist,
(202) 898-3861; Daniel Lonergan, Counsel, (202) 898-6791, Rodney Ray,
Counsel, (202) 898-3556, Federal Deposit Insurance Corporation, 550
17th Street, NW., Washington, DC 20429.
OTS: Mary Jo Johnson, Senior Project Manager, Examination Programs,
(202) 906-5739, Richard Bennett, Senior Compliance Counsel, Regulations
and Legislation Division, (202) 906-7409; Robyn Dennis, Director,
Examination Programs, (202) 906-5751; James Caton, Managing Director,
Economic and Industry Analysis, (202) 906-5680, Office of Thrift
Supervision, 1700 G Street, NW., Washington, DC 20552.
NCUA: Regina Metz, Staff Attorney, Office of General Counsel, (703)
518-6561; or Vickie Apperson, Program Officer, Office of Examination &
Insurance, (703) 518-6385, National Credit Union Administration, 1775
Duke Street, Alexandria, Virginia 22314.
SEC: Raymond A. Lombardo, Branch Chief, Division of Trading & Markets,
(202) 551-5755; Timothy C. Fox, Special Counsel, Division of Trading &
Markets, (202) 551-5687; Nadya B. Roytblat, Assistant Chief Counsel,
Division of Investment Management, (202) 551-6823; or Jennifer R.
Porter, Attorney-Advisor, Division of Investment Management, (202) 551-
6787, United States Securities and Exchange Commission, 100 F Street
NE., Washington, DC 20549.
FHFA: Alfred M. Pollard, General Counsel, (202) 414-3788 or Patrick J.
Lawler, Associate Director and Chief Economist (202) 414-3746, Federal
Housing Finance Agency, Fourth Floor, 1700 G Street NW., Washington, DC
20552. The telephone number of the Telecommunications Device for the
Deaf is (800) 877-8339.
SUPPLEMENTARY INFORMATION:
I. Background
Dodd-Frank Act
The Dodd-Frank Wall Street Reform and Consumer Protection Act (the
``Dodd-Frank Act'' or the ``Act'') (Pub. L. 111-203, section 956, 124
Stat. 1376, 2011-2018 (2010)), which was signed into law on July 21,
2010, requires the Agencies to jointly prescribe regulations or
guidelines with respect to incentive-based compensation practices at
covered financial institutions. Specifically, section 956 of the Dodd-
Frank Act (codified at 12 U.S.C. 5641) requires that the Agencies
prohibit incentive-based payment arrangements, or any feature of any
such arrangement, at a covered financial institution that the Agencies
determine encourages inappropriate risks by a financial institution by
providing excessive compensation or that could lead to material
financial loss. Under the Act, a covered financial institution also
must disclose to its appropriate Federal regulator the structure of its
incentive-based compensation arrangements sufficient to determine
whether the structure provides ``excessive compensation, fees, or
benefits'' or ``could lead to material financial loss'' to the
institution. The Dodd-Frank Act does not require a covered financial
institution to report the actual compensation of particular individuals
as part of this requirement.
The Act defines ``covered financial institution'' to include any of
the following types of institutions that have $1 billion or more in
assets: (A) A depository institution or depository institution holding
company, as such terms are defined in section 3 of the Federal Deposit
Insurance Act (``FDIA'') (12 U.S.C. 1813); (B) a broker-dealer
registered under section 15 of the Securities Exchange Act of 1934 (15
U.S.C. 78o); (C) a credit union, as described in section
19(b)(1)(A)(iv) of the Federal Reserve Act; (D) an investment adviser,
as such term is defined in section 202(a)(11) of the Investment
Advisers Act of 1940 (15 U.S.C. 80b-2(a)(11)); (E) the Federal National
Mortgage Association (Fannie Mae); (F) the Federal Home Loan Mortgage
Corporation (Freddie Mac); and (G) any other financial institution that
the appropriate Federal regulators, jointly, by rule, determine should
be treated as a covered financial institution for these purposes.
The Act also requires the Agencies to ensure that any standards
adopted with regard to excessive compensation under section 956 of the
Act are comparable to the compensation-related safety and soundness
standards applicable to insured depository institutions under section
39 of the FDIA (12 U.S.C. 1831p- 1(c)),\1\ and to take the compensation
standards described in section 39 of the FDIA into consideration in
establishing
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compensation standards under section 956 of the Act.
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\1\ The Federal banking agencies each have adopted guidelines
implementing the compensation-related and other safety and soundness
standards in section 39 of the FDIA. See 12 CFR part 30, Appendix A
(OCC); 12 CFR part 208, Appendix D-1 (Board); 12 CFR part 364,
Appendix A (FDIC); 12 CFR part 570, Appendix A (OTS).
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Compensation arrangements are critical tools in the successful
management of financial institutions. These arrangements serve several
important objectives, including attracting and retaining skilled staff,
promoting better organizational and individual employee performance,
and providing retirement security to employees.
At the same time, improperly structured compensation arrangements
can provide executives and employees with incentives to take imprudent
risks that are not consistent with the long-term health of the
organization. The Agencies believe that flawed incentive compensation
practices in the financial industry were one of many factors
contributing to the financial crisis that began in 2007.
Shareholders and, for a credit union, members of a covered
financial institution have an interest in aligning the interests of
managers and other employees of the institution with its long-term
health. Aligning the interests of shareholders or members and
employees, however, is not always sufficient to protect the safety and
soundness of an organization, deter excessive compensation, or deter
behavior that could lead to material financial loss at the
organization. Managers and employees of a covered financial institution
may be willing to tolerate a degree of risk that is inconsistent with
broader public policy goals. In addition, particularly at larger
institutions, shareholders or members may have difficulty effectively
monitoring and controlling the incentive-based compensation
arrangements throughout the institution that may materially affect the
institution's risk profile, even with increased disclosure provisions.
As a result, supervision and regulation of incentive compensation, as
with other aspects of financial oversight, can play an important role
in helping ensure that incentive compensation practices at covered
financial institutions do not threaten their safety and soundness, are
not excessive, or do not lead to material financial loss.
II. Overview of the Proposed Rule
The Agencies have elected to propose rules, rather than guidelines,
in order to establish general requirements applicable to the incentive-
based compensation arrangements of all covered financial institutions
(``Proposed Rule''). The Proposed Rule would supplement existing rules,
guidance, and ongoing supervisory efforts of the Agencies.
The Proposed Rule has the following components:
The Proposed Rule would prohibit incentive-based
compensation arrangements at a covered financial institution that
encourage executive officers, employees, directors, or principal
shareholders (``covered persons'') to expose the institution to
inappropriate risks by providing the covered person excessive
compensation. As described further below, consistent with the directive
of section 956, the Agencies propose to use standards comparable to
those developed under section 39 of the FDIA for purposes of
determining whether incentive-based compensation is ``excessive'' in a
particular case.
The Proposed Rule would prohibit a covered financial
institution from establishing or maintaining any incentive-based
compensation arrangements for covered persons that encourage
inappropriate risks by the covered financial institution that could
lead to material financial loss. The Agencies propose to adopt
standards for determining whether an incentive-based compensation
arrangement may encourage inappropriate risk-taking that are consistent
with the key principles established for incentive compensation in the
Interagency Guidance on Sound Incentive Compensation Policies
(``Banking Agency Guidance'') adopted by the Federal banking
agencies.\2\ The Proposed Rule would also require deferral of a portion
of incentive-based compensation for executive officers of larger
covered financial institutions. The Proposed Rule would also require
that, at larger covered financial institutions, the board of directors
or a committee of such a board identify those covered persons (other
than executive officers) that have the ability to expose the
institution to possible losses that are substantial in relation to the
institution's size, capital, or overall risk tolerance. The Proposed
Rule would require that the board of directors, or a committee thereof,
of the institution approve the incentive-based compensation arrangement
for such individuals, and maintain documentation of such approval. The
term ``larger covered financial institution'' for the Federal banking
agencies and the SEC means those covered financial institutions with
total consolidated assets of $50 billion or more. For the NCUA, all
credit unions with total consolidated assets of $10 billion or more are
larger covered financial institutions. For the FHFA, all Federal Home
Loan Banks with total consolidated assets of $1 billion or more are
larger covered financial institutions.
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\2\ Guidance on Sound Incentive Compensation Policies, 75 FR
36395 (June 25, 2010), adopted by the Federal banking agencies,
meaning the OCC, Board, FDIC, and OTS.
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In connection with these restrictions, the Proposed Rule
would require covered financial institutions to maintain policies and
procedures appropriate to their size, complexity, and use of incentive-
based compensation to help ensure compliance with these requirements
and prohibitions.
The Proposed Rule also would require covered financial
institutions to provide certain information to their appropriate
Federal regulator(s) concerning their incentive-based compensation
arrangements for covered persons.
The Proposed Rule would supplement existing rules and guidance
adopted by the Agencies regarding compensation and incentive-based
compensation.\3\ These include the Banking Agency Guidance, the
Standards for Safety and Soundness adopted by the Federal banking
agencies,\4\ the compensation-related disclosure requirements adopted
by the SEC for public companies,\5\ the rules and guidance adopted by
the FHFA for regulatory oversight of the executive compensation
practices of its regulated entities \6\ and the compensation rules
adopted by the NCUA for institutions under its supervision.\7\ Each
Agency may issue
[[Page 21174]]
supplemental guidance specific to their regulated entities, including
guidance as necessary to clarify the regulatory requirements proposed
in this rulemaking. Covered financial institutions supervised by the
Federal banking agencies should continue to consult the Banking Agency
Guidance for additional information on how to balance risk and
financial rewards.
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\3\ See, e.g., Banking Agency Guidance, supra note 2.
\4\ 60 FR 35674 (July 10, 1995), as amended at 61 FR 43948 (Aug.
27, 1996).
\5\ See, e.g., Item 402(s) of Regulation S-K, 17 CFR 229.402(s),
adopted in Securities Act Release No. 9089 (Dec. 16, 2009), 74 FR
68334 (Dec. 23, 2009).
\6\ 12 CFR 1770.1 (b) (1) requires the FHFA Director to prohibit
the excessive compensation of executive officers. Section 1770.4
provides specific details as to the categories of information that
are required to be submitted to the FHFA pertaining to the
prohibition of excessive compensation (Sept. 12, 2001). FHFA's
examination guidance (PG-06-002), ``Examination for Compensation
Practices,'' sets forth the disclosure requirements pertaining to
the compensation and benefits programs of Fannie Mae and Freddie Mac
(together, the Enterprises) (Nov. 8, 2006). In carrying out its
corporate governance requirements, the FHFA is guided by the
provisions set forth in 12 CFR 1710.13. FHFA's Advisory Bulletin
(2009-AB-02), ``Principles for Executive Compensation at the Federal
Home Loan Banks and the Office of Finance,'' provides guidance to
the Home Loan Banks on reporting requirements (Oct. 27, 2009).
FHFA's proposed rule on executive compensation, 74 FR 26989 (June 5,
2009), includes incentive compensation in its prohibition on
excessive compensation. For the FHFA, the regulated entities are,
collectively: the Enterprises, the Federal Home Loan Banks, and the
Office of Finance.
\7\ See, e.g., 12 U.S.C. 1761a; 12 CFR 701.2 & 12 CFR part 701
App. A, Art. VII. Sec. 8; 12 CFR 701.21(c)(8)(i); 12 CFR 701.23(g)
(1); 12 CFR 701.33; 12 CFR 702.203 & 702.204; 12 CFR 703.17; 12 CFR
704.19 & 704.20; 12 CFR part 708a; 12 CFR 712.8; 12 CFR 721.7; 12
CFR part 750; and NCUA Examiners Guide Ch. 7 at http://www.ncua.gov/GenInfo/GuidesManuals/examiners_guide/chapters/Chapter07.pdf.
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The Agencies propose to make the terms of the Proposed Rule, if
adopted, effective six months after publication of the final rule in
the Federal Register, with annual reports due within 90 days of the end
of each covered financial institution's fiscal year. The Agencies
request specific comment on whether these dates will provide sufficient
time for covered financial institutions to comply with the rule and, if
not, why. Commenters are also asked to address whether the Agencies
should designate different compliance dates for different types of
covered financial institutions, or consider designating different
compliance dates for different parts of the Proposed Rule (e.g.,
disclosure, prohibition, and policies and procedures).
A detailed description of the Proposed Rule with a request for
comments is set forth below. Although this is a joint-interagency
rulemaking, each Agency will codify its version of the rule in its
specified portion of the Code of Federal Regulations in order to
accommodate differences between regulated entities as well as other
applicable statutory and regulatory requirements. Any significant
differences between the Proposed Rules issued by individual agencies
are noted below.\8\
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\8\ Since the Agencies' proposed rules use consistent section
numbering, relevant sections are cited, for example, as ``Sec. --
--.1.''
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III. Section-By-Section Description of the Proposed Rule
Sec. ----.1 Authority. Section ----.1 provides that this rule is
issued pursuant to section 956 of the Dodd-Frank Wall Street Reform and
Consumer Protection Act (Pub. L. 111-203). Certain Agencies also have
listed their general rulemaking authority in their respective authority
citations.
Sec. ----.2 Scope and Purpose. Section ----.2 provides that this
rule applies to a covered financial institution that has total
consolidated assets of $1 billion or more that offers incentive-based
compensation arrangements to covered persons. This section also notes
that this rule would in no way limit the authority of any Agency under
other provisions of applicable law and regulations.
Sec. ----.3 Definitions. Section ----.3 defines the various terms
used in the Proposed Rule. If a term is defined in section 956 of the
Dodd-Frank Act, the Proposed Rule generally incorporates that
definition.\9\
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\9\ These definitions are proposed for purposes of administering
Section 956 and are not intended to affect the interpretation or
construction of the same or similar terms for purposes of any other
statute or regulation administered by the Agencies.
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Compensation. The Proposed Rule defines ``compensation'' to mean
all direct and indirect payments, fees or benefits, both cash and non-
cash, awarded to, granted to, or earned by or for the benefit of, any
covered person in exchange for services rendered to the covered
financial institution, including, but not limited to, payments or
benefits pursuant to an employment contract, compensation or benefit
agreement, fee arrangement, perquisite, stock option plan,
postemployment benefit, or other compensatory arrangement. For credit
unions, the definition of compensation specifically excludes
reimbursement for reasonable and proper costs incurred by covered
persons in carrying out official credit union business; provision of
reasonable health, accident and related types of personal insurance
protection; and indemnification. This is consistent with NCUA's
regulations at 12 CFR 701.33. The Agencies seek comment on this
proposed definition.
Covered Financial Institution. As noted above, only ``covered
financial institutions'' that have total consolidated assets of $1
billion or more would be subject to the Proposed Rule. Under the
Proposed Rule, a ``covered financial institution'' would include:
In the case of the OCC, a national bank and Federal branch
and agency of a foreign bank;
In the case of the Board, a state member bank; a bank
holding company; a state-licensed uninsured branch or agency of a
foreign bank; and the U.S. operations of a foreign bank with more than
$1 billion of U.S. assets that is treated as a bank holding company
pursuant to section 8(a) of the International Banking Act of 1978 (12
U.S.C. 3106(a)). A covered financial institution includes the
subsidiaries of the institution;
In the case of the FDIC, a state nonmember bank and an
insured U.S. branch of a foreign bank;
In the case of the OTS, a savings association as defined
in 12 U.S.C. 1813(b) and a savings and loan holding company as defined
in 12 U.S.C. 1467a(a). (A covered financial institution also includes
an operating subsidiary of a Federal savings association as defined in
12 CFR 559.2.) The Board, OCC, and FDIC will assume supervisory and
rulemaking responsibility for these entities on the transfer date
provided in Title III of the Dodd-Frank Act. These agencies expect to
adopt, or incorporate, as appropriate, any final rule adopted by OTS as
part of this rulemaking for relevant covered financial institutions
that come under their respective supervisory authority after the
transfer date;
In the case of the NCUA, a credit union, as described in
section 19(b)(1)(A)(iv) of the Federal Reserve Act, meaning an insured
credit union as defined under 12 U.S.C. 1752(7) or credit union
eligible to make application to become an insured credit union under 12
U.S.C. 1781. Instead of the term ``covered financial institution'', the
NCUA uses the term ``credit union'' throughout its proposed rule;
In the case of the SEC, a broker-dealer registered under
section 15 of the Securities Exchange Act of 1934, 15 U.S.C. 78o; and
an investment adviser, as such term is defined in section 202(a)(11) of
the Investment Advisers Act of 1940, 15 U.S.C. 80b-2(a)(11); \10\
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\10\ By its terms, the definition of ``covered financial
institution'' in section 956 includes any firm that meets the
definition of ``investment adviser'' under the Investment Advisers
Act of 1940 (``Investment Advisers Act''), regardless of whether the
firm is registered as an investment adviser under that Act. Banks
and bank holding companies are generally excluded from the
definition of ``investment adviser'' under section 202(a)(11) of the
Investment Advisers Act.
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The FHFA, because it proposes to extend the requirements
of the rule to the Federal Home Loan Bank System's Office of
Finance,\11\ which is not a financial institution, is not proposing to
use the term ``covered financial institution,'' but rather the term
``covered entity,'' defined to mean Fannie Mae, Freddie Mac, the
Federal Home Loan Banks, and the Office of Finance.
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\11\ The Office of Finance is a joint agency of the twelve
Federal Home Loan Banks and is described and regulated in the FHFA's
rules at 12 CFR part 1273.
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As indicated in the above listing, the Agencies propose to expand
the definition of a covered financial institution beyond those
specifically identified in section 956, as authorized by section
956(e)(2)(G) of the Dodd-Frank Act. Consistent with the principle of
national treatment and equality of competitive opportunity, the
Agencies propose to include as covered financial institutions the
uninsured branches and
[[Page 21175]]
agencies of a foreign bank, as well as the other U.S. operations of
foreign banking organizations that are treated as bank holding
companies pursuant to section 8(a) of the International Banking Act of
1978. These offices and operations currently are subject to the Banking
Agency Guidance, and are subject to section 8 of the FDIA, which
prohibits institutions from engaging in unsafe or unsound practices to
the same extent as insured depository institutions and bank holding
companies.\12\
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\12\ See 12 U.S.C. 1813(c)(3) and 1818(b)(4).
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The Agencies also propose including the Federal Home Loan Banks
because they pose similar risks and should be subject to the same
regulatory regime. FHFA also proposes to subject the Office of Finance
to the Proposed Rule, using authority other than section 956.\13\
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\13\ The Office of Finance is an agent of the Federal Home Loan
Banks in issuing the hundreds of billions of dollars' worth of
Federal Home Loan Bank System obligations that are outstanding at
any time. It is not a financial institution, but because of its
critical role in the mortgage finance system, it is proposed to be
made subject to the provisions of the Proposed Rule that apply to
financial institutions with assets of over $50 billion. Because it
is not a financial institution and hence not within the scope of
section 956, FHFA bases its authority over the Office of Finance for
this purpose not on section 956 but on the Federal Housing
Enterprises Financial Safety and Soundness Act, which in section
1311(b)(2) (12 U.S.C. 4511(b)(2)) grants FHFA general regulatory
authority over the Office of Finance.
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Commenters are specifically asked to address whether there are
there other types of financial institutions, such as a credit union
service organization (``CUSO''), that the Agencies should treat as a
covered financial institution to better promote the purpose of section
956 and competitive equity. Currently no CUSOs wholly owned by a
federally insured credit union have total consolidated assets of $1
billion or more.
Covered Person. Only incentive-based compensation paid to ``covered
persons'' would be subject to the requirements of this Proposed Rule. A
``covered person'' would be any executive officer, employee, director,
or principal shareholder of a covered financial institution. No
specific categories of employees are excluded from the scope of the
Proposed Rule, although it is the underlying purpose of this rulemaking
to address those incentive-based compensation arrangements for covered
persons or groups of covered persons that encourage inappropriate risk
because they provide excessive compensation or pose a risk of material
financial loss to a covered financial institution. Accordingly, as will
be discussed later in this SUPPLEMENTARY INFORMATION section, certain
prohibitions in the Proposed Rule apply only to a subset of covered
persons. As a result, the proposal contains separate definitions of
director, executive officer, and principal shareholder. For Federal
credit unions, only one director, if any, may be considered a covered
person since, under the Federal Credit Union Act section 112 (12 U.S.C.
1761a) and NCUA's regulations at 12 CFR 701.33, only one director may
be compensated as an officer of the board.
Director and Board of Directors. The Proposed Rule defines
``director'' of a covered financial institution as a member of the
board of directors of the covered financial institution or of a board
or committee performing a similar function to a board of directors. For
NCUA's proposed rule, the director is always a member of the credit
union's board of directors so the definition is omitted. The Proposed
Rule also defines ``board of directors'' as the governing body of any
covered financial institution performing functions similar to a board
of directors. For a foreign banking organization, ``board of
directors'' refers to the relevant senior management or oversight body
for the firm's U.S. branch, agency or operations, consistent with the
foreign banking organization's overall corporate and management
structure. The Agencies seek comment on these proposed definitions.
Executive Officer. As discussed in more detail later in this
Supplementary Information, the Proposed Rule would apply certain
restrictions to the incentive-based compensation of ``executive
officers'' of larger covered financial institutions.\14\ The Proposed
Rule defines ``executive officer'' of a covered financial institution
as a person who holds the title or performs the function (regardless of
title, salary or compensation) of one or more of the following
positions: President, chief executive officer, executive chairman,
chief operating officer, chief financial officer, chief investment
officer, chief legal officer, chief lending officer, chief risk
officer, or head of a major business line.\15\
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\14\ As discussed previously, the term ``larger covered
financial institution'' for the Federal banking agencies and the SEC
means those covered financial institutions with total consolidated
assets of $50 billion or more. For the NCUA, all credit unions with
total consolidated assets of $10 billion or more are larger covered
financial institutions. For the FHFA, Fannie Mae, Freddie Mac, and
all of the Federal Home Loan Banks with total consolidated assets of
$1 billion or more are larger covered financial institutions. In
addition, the FHFA proposes to make the same requirements applicable
to the Office of Finance.
\15\ For the FHFA, the Safety and Soundness Act of 1992, as
reflected in 12 CFR 1770.3 (g)-(1), defines the term Executive
Officer to mean, for Fannie Mae and Freddie Mac: The Chairman of the
Board of Directors, chief executive officer, chief financial
officer, chief operating officer, president, vice chairman, any
executive vice president, and any individual who performs functions
similar to such positions whether or not the individual has an
official title; and any senior vice president or other individual
with similar responsibilities, without regard to title: (A) Who is
in charge of a principal business unit, division or function, or (B)
who reports directly to the chairman of the board of directors, vice
chairman, president or chief operating officer. The Proposed Rule
adopts a modified version of the definitions for Fannie Mae and
Freddie Mac, and a definition for the Federal Home Loan Banks and
for the Office of Finance that the FHFA has determined is
appropriate for them.
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The Agencies seek comment on whether the types of
positions identified in this proposed definition are appropriate,
whether additional positions should be included, or if certain
positions should be removed.
Should the Agencies define ``head of a major business
line?''
Incentive-based Compensation. Consistent with section 956 of the
Dodd-Frank Act, the Proposed Rule would apply only to incentive-based
compensation arrangements. The Proposed Rule defines ``incentive-based
compensation'' to mean any variable compensation that serves as an
incentive for performance. The definition is broad and principles-based
to address the objectives of section 956 in a manner that provides for
flexibility as forms of compensation evolve. The form of payment,
whether it is cash, an equity award, or other property, does not affect
whether compensation meets the definition of ``incentive-based
compensation.''
There are types of compensation that would not fall within the
scope of this definition. Generally, compensation that is awarded
solely for, and the payment of which is solely tied to, continued
employment (e.g., salary) would not be considered incentive-based
compensation. Similarly, a compensation arrangement that provides
rewards solely for activities or behaviors that do not involve risk-
taking (for example, payments solely for achieving or maintaining a
professional certification or higher level of educational achievement)
would not be considered incentive-based compensation under the
proposal. In addition, the Agencies do not envision that this
definition would include compensation arrangements that are determined
based solely on the covered person's level of fixed compensation and do
not vary based on one or more performance metrics (e.g., employer
contributions to a 401(k) retirement savings plan computed based on a
fixed percentage of an employee's salary). The
[[Page 21176]]
proposed definition also would not include dividends paid and
appreciation realized on stock or other equity instruments that are
owned outright by a covered person. However, stock or other equity
instruments awarded to a covered person under a contract, arrangement,
plan, or benefit would not be considered owned outright while subject
to any vesting or deferral arrangement (irrespective of whether such
deferral is mandatory).
The Agencies request comment generally on this proposed definition.
Comment is also requested on the following questions:
Is the definition of incentive-based compensation
sufficiently broad to include all types of compensation that should be
covered under the rule?
Are there any particular forms of compensation that should
be specifically designated as incentive-based compensation?
Are there any other forms of compensation that the
Agencies should clarify are not incentive-based compensation?
Principal Shareholder. Under the Proposed Rule, a ``principal
shareholder'' means an individual that directly or indirectly, or
acting through or in concert with one or more persons, owns, controls,
or has the power to vote 10 percent or more of any class of voting
securities of a covered financial institution.\16\ The Agencies request
comment on this proposed definition. The NCUA's proposed rule does not
include this definition since credit unions are not-for-profit
financial cooperatives with member owners.
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\16\ The 10 percent threshold used in the definition of
``principal shareholder'' is also used in a number of bank
regulatory contexts. See e.g., 12 CFR 215.2(m), 12 CFR 225.2(n)(2),
12 CFR 225.41(c)(2).
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Total Consolidated Assets. As provided in section 956, the Proposed
Rule would apply to all covered financial institutions that have total
consolidated assets of $1 billion or more. Additional requirements
would apply to certain larger covered financial institutions. With the
exception of the FHFA, the Agencies have specified how total
consolidated assets should be calculated in their agency specific rule
text.
OCC: Total consolidated assets means (i) for a national
bank, calculating the average of the total assets reported in the
bank's four most recent Consolidated Reports of Condition and Income
(``Call Report'') and (ii) for a Federal branch and agency, calculating
the average of the total assets reported in the Federal branch or
agency's four most recent Reports of Assets and Liabilities of U.S.
Branches and Agencies of Foreign Banks--FFIEC 002.
Board: For a state member bank, total consolidated assets
as determined based on the average of the bank's four most recent
Consolidated Reports of Condition and Income (``Call Report''); for a
bank holding company, total consolidated assets as determined based on
the average of the company's four most recent Consolidated Financial
Statements for Bank Holding Companies (``FR Y-9C''); for a state-
licensed uninsured branch or agency of a foreign bank, total
consolidated assets as determined based on the average of the branch or
agency's four most recent Reports of Assets and Liabilities of U.S.
Branches and Agencies of Foreign Banks--FFIEC 002; and for the U.S.
operations of a foreign bank, total consolidated U.S. assets as
determined by the Board.
FDIC: For state nonmember banks, asset size would be
determined by calculating the average of the total assets reported in
the institution's four most recent Call Reports. For insured U.S.
branches of foreign banks, asset size will be determined by calculating
the average of the total assets reported in the branch's four most
recent Reports of Assets and Liabilities of U.S. Branches and Agencies
of Foreign Banks.
OTS: For covered financial institutions regulated by the
OTS, asset size will be determined by calculating the average of total
assets reported in the institution's four most recent Thrift Financial
Reports.
NCUA: For credit unions, asset size will be determined by
calculating the average of the total assets reported in the credit
union's four most recent 5300 Call Reports.
SEC: For brokers or dealers registered with the SEC, asset
size would be determined by the total consolidated assets reported in
the firm's most recent year-end audited Consolidated Statement of
Financial Condition filed pursuant to Rule 17a-5 under the Securities
Exchange Act of 1934. For investment advisers, asset size would be
determined by the adviser's total assets shown on the balance sheet for
the adviser's most recent fiscal year end. The proposed method of
calculation for investment advisers is consistent with the SEC's recent
proposal that each investment adviser filing Form ADV Part 1A indicate
whether the adviser had $1 billion or more in ``assets,'' defined as
the total assets shown on the balance sheet for the adviser's most
recent fiscal year end.\17\ In connection with that proposal, the SEC
requested comment on the reporting requirement and the proposed method
that advisers would use to determine the amount of their assets (i.e.,
total assets as shown on the adviser's balance sheet). Commenters are
asked to provide additional comments on the proposed method of
determining asset size for investment advisers, and specifically to
address whether the determination of total assets should be further
tailored for certain types of advisers, such as advisers to hedge funds
or private equity funds, and if so, why and in what manner.
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\17\ See Rules Implementing Amendments to the Investment
Advisers Act of 1940, Investment Advisers Release No. 3110, nn. 194-
196 and related text (Nov. 19, 2010) 75 FR 77052 (Dec. 10, 2010).
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FHFA: The FHFA is not including a definition of total
consolidated assets in its proposed rule because it is proposing to
make all requirements of the rule applicable to all the entities it
regulates without regard to asset size.\18\
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\18\ Fannie Mae, Freddie Mac, and the Federal Home Loan Banks
are all far larger than the $1 billion asset threshold in section
956, while the FHFA is basing its regulatory authority over the
Office of Finance on a different statute. And, for policy reasons,
the FHFA is proposing not to distinguish ``larger'' entities from
others for purposes of this rule.
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The Agencies believe that by generally establishing a rolling
average for asset size (with the exception of the SEC and the FHFA),
the frequency that an institution may fall in or out of covered
financial institution status would be minimized. If a covered financial
institution has fewer than four reports, the institution must average
total assets from its existing reports for purposes of determining
total consolidated assets. If a covered financial institution has a mix
of two or more different types of reports covering the relevant period,
those should be averaged for purposes of determining asset size (e.g.,
an institution with two Call Reports and two Thrift Financial Reports
as its four most recent reports would have its total assets from all
four reports averaged).
Should all of the Agencies use a uniform method to determine
whether an institution has $1 billion or more in assets? If so, what
would commenters suggest as such a uniform method? If different
calculations are required for each type of institution, should any of
the Agencies define total consolidated assets differently than the
proposed calculations described above?
Sec. ----.4 Required Reports. Section 956(a)(1) of the Dodd-Frank
Act requires that a covered financial institution submit an annual
report to its
[[Page 21177]]
appropriate Federal regulator disclosing the structure of its
incentive-based compensation arrangements that is sufficient to
determine whether the incentive-based compensation structure provides
covered persons with excessive compensation, fees, or benefits, or
could lead to material financial loss to the covered financial
institution. In order to fulfill this requirement, the Proposed Rule
would establish the general rule that a covered financial institution
must submit a report annually to its appropriate regulator or
supervisor in a format specified by its appropriate Federal regulator
that describes the structure of the covered financial institution's
incentive-based compensation arrangements for covered persons. The
report must contain:
(1) A clear narrative description of the components of the covered
financial institution's incentive-based compensation arrangements
applicable to covered persons and specifying the types of covered
persons to which they apply;
(2) A succinct description of the covered financial institution's
policies and procedures governing its incentive-based compensation
arrangements for covered persons;
(3) For larger covered financial institutions, a succinct
description of any specific incentive compensation policies and
procedures for the institution's executive officers, and other covered
persons who the board, or a committee thereof determines under Sec. --
--.5(b)(3)(ii) of the Proposed Rule individually have the ability to
expose the institution to possible losses that are substantial in
relation to the institution's size, capital, or overall risk tolerance;
(4) Any material changes to the covered financial institution's
incentive-based compensation arrangements and policies and procedures
made since the covered financial institution's last report was
submitted; and
(5) The specific reasons why the covered financial institution
believes the structure of its incentive-based compensation plan does
not encourage inappropriate risks by the covered financial institution
by providing covered persons with excessive compensation or incentive-
based compensation that could lead to material financial loss to the
covered financial institution.
In developing the proposed reporting provisions, the Agencies have
taken into account that substantially all the covered financial
institutions are already supervised and/or subject to examination by
one or more of the Agencies. Accordingly, in the Proposed Rule, the
Agencies have tailored the annual reporting requirement to the types of
information that would most efficiently assist the relevant Agency in
determining whether there are any areas of potential concern with
respect to the structure of the covered financial institution's
incentive-based compensation arrangements. Generally, each Agency has
reporting, examination and enforcement authority for substantially all
of the covered financial institutions under its respective jurisdiction
that the Agency may use if the information provided under section 956
were to indicate that the structure of a covered financial
institution's incentive-based compensation arrangements may provide
excessive compensation or encourage inappropriate risk-taking.\19\ In
this way, the Proposed Rule seeks to achieve the objective of section
956 in a manner that limits unnecessary reporting burden on covered
financial institutions and leverages the existing supervisory framework
for institutions.
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\19\ NCUA would likely consult with the appropriate state
regulator in cases involving a state-chartered credit union.
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The Agencies note that they have intentionally chosen phrases like
``clear narrative description'' and ``succinct description'' to
describe the disclosures being sought. The Agencies also note that the
use of the word ``specific'' in the Proposed Rule is designed to elicit
statements that are direct and meaningful explanations of why a covered
financial institution believes its incentive-based compensation plan
properly addresses the ``excessive compensation'' and ``material
financial loss'' components of section 956. These provisions are
designed to help ensure that covered financial institutions will
provide the Agencies with a streamlined set of materials that will help
the Agencies promptly and effectively identify and address any areas of
concern, rather than with voluminous materials that may obfuscate the
actual structure and likely effects of an institution's incentive-based
compensation arrangements. Further, in light of the nature of the
information that will be provided to the Agencies under Sec. ----.4 of
the Proposed Rule, and the purposes for which the Agencies are
requiring the information, the Agencies generally will maintain the
confidentiality of the information submitted to the Agencies, and the
information will be nonpublic, to the extent permitted by law.\20\ The
nature of the reported information likely will be sensitive for a
variety of reasons, including competitive reasons.
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\20\ The Freedom of Information Act (``FOIA'') provides at least
two pertinent exemptions under which the Agencies have authority to
withhold certain information. FOIA Exemption 4 provides an exemption
for ``trade secrets and commercial or financial information obtained
from a person and privileged or confidential.'' 5 U.S.C. 552(b)(4).
FOIA Exemption 8 provides an exemption for matters that are
``contained in or related to examination, operating, or condition
reports prepared by, on behalf of, or for the use of an agency
responsible for the regulation or supervision of financial
institutions.'' 5 U.S.C. 552(b)(8).
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The volume and detail of information provided annually by a covered
financial institution should be commensurate with the size and
complexity of the institution, as well as the scope and nature of its
incentive-based compensation arrangements. As such, the Agencies expect
that the volume and detail of information provided by a large, complex
institution that uses incentive-based arrangements to a significant
degree would be substantially greater than that submitted by a smaller
institution that has only a few incentive-based compensation
arrangements or arrangements that affect only a limited number of
covered persons.
The Agencies request comment on all aspects of the reporting
provisions in the Proposed Rule. Specifically, the Agencies request
comment on the following:
Does the Proposed Rule fulfill the requirement to obtain
meaningful and useful descriptions of incentive-based compensation
arrangements for supervisory and compliance purposes?
Does the Proposed Rule impose a reasonable burden and
minimize the potential for voluminous boilerplate disclosure?
Is the language in the Proposed Rule sufficiently clear in
describing the kinds of information the Agencies intend to solicit from
covered financial institutions?
Are there simpler and less burdensome methods of reporting
to the Agencies that would still be sufficiently robust to help the
Agencies assess whether the institution's compensation arrangements
appropriately balance risk and financial rewards? For example, would
setting up an electronic means of filing the required disclosure lessen
the burden on covered financial institutions, and are there specific
factors the Agencies should consider in developing such a disclosure
mechanism?
Are there any additional types of information that the
Agencies should solicit in order to more accurately assess whether
incentive-based compensation
[[Page 21178]]
arrangements are consistent with the objectives of section 956?
Should the Agencies consider modifying the Proposed Rule
to require covered financial institutions to update their incentive-
based compensation disclosure--between annual disclosure cycles--if any
material changes to their respective incentive-based compensation plans
occur?
Sec. ----.5 Prohibitions. Section ----.5 of the Proposed Rule
would implement section 956(b) of the Dodd-Frank Act by prohibiting a
covered financial institution from having incentive-based compensation
arrangements that may encourage inappropriate risks (a) by providing
excessive compensation or (b) that could lead to material financial
loss to the covered financial institution. Consistent with section
956(c), the Proposed Rule also would establish standards for
determining whether an incentive-based compensation arrangement
violates these prohibitions.
Excessive Compensation. The Proposed Rule would establish a general
rule that a covered financial institution must not establish or
maintain any type of incentive-based compensation arrangement, or any
feature of any such arrangement, that encourages inappropriate risks by
the covered financial institution by providing a covered person with
excessive compensation. As noted previously, section 956 requires the
Agencies to ensure that any compensation standards established under
section 956 are comparable to those established under section 39 of the
FDIA. In light of this directive, the Proposed Rule includes standards
for determining whether an incentive-based compensation arrangement
provides excessive compensation that are comparable to, and based on,
the standards established under section 39 of the FDIA. Specifically,
under the Proposed Rule, incentive-based compensation for a covered
person would be considered excessive when amounts paid are unreasonable
or disproportionate to, among other things, the amount, nature,
quality, and scope of services performed by the covered person. In
making such a determination, the Agencies will consider:
(1) The combined value of all cash and non-cash benefits provided
to the covered person;
(2) The compensation history of the covered person and other
individuals with comparable expertise at the covered financial
institution;
(3) The financial condition of the covered financial institution;
(4) Comparable compensation practices at comparable institutions,
based upon such factors as asset size, geographic location, and the
complexity of the institution's operations and assets;
(5) For postemployment benefits, the projected total cost and
benefit to the covered financial institution;
(6) Any connection between the individual and any fraudulent act or
omission, breach of trust or fiduciary duty, or insider abuse with
regard to the covered financial institution; and
(7) Any other factors the Agency determines to be relevant.
The Agencies request comment on these standards, including comment
on the appropriate factors to consider when evaluating comparable
compensation practices at comparable institutions. Should additional
factors be included, such as the nature of the operations at the
comparable institutions?
Inappropriate Risks that May Lead to Material Financial Loss.
Section 956(b)(2) of the Act requires the Agencies to adopt regulations
or guidelines that prohibit any type of incentive-based payment
arrangement, or any feature of any such arrangement, that the Agencies
determine encourages inappropriate risks by a covered financial
institution that could lead to material financial loss to the covered
institution. Section 39 of the FDIA does not include standards for
determining whether compensation arrangements may encourage
inappropriate risks that could lead to material financial loss.
Accordingly the Agencies have considered the language and purpose of
section 956, existing supervisory guidance that addresses incentive-
based compensation arrangements that may encourage excessive risk-
taking,\21\ the Principles for Sound Compensation Practices and the
related Implementation Standards adopted by the Financial Stability
Board,\22\ and other relevant material in considering how to implement
this aspect of section 956.
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\21\ See, e.g., Banking Agency Guidance.
\22\ Financial Stability Board, FSF Principles for Sound
Compensation Practices, Basel, Switzerland (April 2009); Financial
Stability Board, FSB Principles for Sound Compensation Practices:
Implementation Standards, Basel, Switzerland (September 2009).
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As an initial matter, the Agencies note that section 956 is focused
on incentive-based compensation arrangements that could lead to
material financial loss to a covered financial institution.
Accordingly, this prohibition would apply only to those incentive-based
compensation arrangements for individual covered persons, or groups of
covered persons, whose activities may expose the covered financial
institution to material financial loss. Such covered persons include:
Executive officers and other covered persons who are
responsible for oversight of the covered financial institution's firm-
wide activities or material business lines;
Other individual covered persons, including non-executive
employees, whose activities may expose the covered financial
institution to material financial loss (e.g., traders with large
position limits relative to the covered financial institution's overall
risk tolerance); and
Groups of covered persons who are subject to the same or
similar incentive-based compensation arrangements and who, in the
aggregate, could expose the covered financial institution to material
financial loss, even if no individual covered person in the group could
expose the covered financial institution to material financial loss
(e.g., loan officers who, as a group, originate loans that account for
a material amount of the covered financial institution's credit risk).
To implement section 956(b)(2) of the Act, Sec. ----.5(b)(1) of
the Proposed Rule would prohibit a covered financial institution from
establishing or maintaining any type of incentive compensation
arrangement, or any feature of any such arrangement, for these covered
persons or groups of covered persons, that could lead to material
financial loss to the covered financial institution. Section --
--.5(b)(2) of the Proposed Rule provides that an incentive-based
compensation arrangement established or maintained by a covered
financial institution for one or more covered persons does not comply
with Sec. ----.5(b)(1) unless it:
Balances risk and financial rewards, for example by using
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods;
Is compatible with effective controls and risk management;
and
Is supported by strong corporate governance.
These three standards are consistent with the principles for sound
compensation practices in the Banking Agency Guidance.
The following describes these proposed standards in greater detail.
In order to help ensure that the incentive-based compensation
arrangements of covered financial institutions are consistent with
their standards, Sec. ----.6 of the Proposed Rule would require that
covered financial institutions establish and maintain policies and
procedures related to these standards.
[[Page 21179]]
Balance of Risk and Financial Rewards
Incentive-based compensation arrangements typically attempt to
encourage actions that result in greater revenue or profit for the
covered financial institution. However, short-run revenue or profit can
often diverge sharply from actual long-run profit because risk outcomes
may become clear only over time. Activities that carry higher risk
typically yield higher short-term revenue, and a covered person who is
given incentives to increase short-term revenue or profit, without
regard to risk, will naturally be attracted to opportunities to expose
the institution to more risk.\23\
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\23\ See Banking Agency Guidance at 36407.
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Accordingly, to be consistent with section 956, incentive-based
compensation arrangements at a covered financial institution should
balance risk and financial rewards in a manner that does not provide
covered persons with incentives to take inappropriate risks that could
lead to material financial loss at the covered financial institution.
The Agencies would deem an incentive-based compensation arrangement to
be balanced when the amounts paid to a covered person appropriately
take into account the risks, as well as the financial benefits, from
the covered person's activities and the impact of those activities on
the covered financial institution.
In assessing whether incentive-based compensation arrangements are
balanced, the Agencies will consider the full range of risks associated
with a covered person's activities, as well as the time horizon over
which those risks may be realized. The activities of a covered person
may create a wide range of risks for a covered financial institution,
including credit, market, liquidity, operational, legal, compliance,
and reputational risks. Some of these risks may be realized in the
short term, while others may become apparent only over the long term.
The Proposed Rule identifies four methods that currently are often
used to make compensation more sensitive to risk. These methods are:
Risk Adjustment of Awards: Under this method of making a covered
person's incentive-based compensation appropriately risk-sensitive, the
amount of the person's incentive-based compensation award is adjusted
based on measures that take into account the risk the covered person's
activities pose to the covered financial institution. Such measures may
be quantitative, or the size of a risk adjustment may be set based on
managerial judgment, subject to appropriate oversight.
Deferral of Payment: Under this method, the actual payout of an
award to a covered person is delayed significantly beyond the end of
the performance period, and the amounts paid are adjusted for actual
losses to the covered financial institution or other aspects of
performance that become clear only during the deferral period. Deferred
payouts may be altered according to risk outcomes either formulaically
or based on managerial judgment, though extensive use of judgment might
make it more difficult to execute deferral arrangements in a
sufficiently predictable fashion to influence the risk-taking behavior
of a covered person. To be most effective in ensuring balance, the
deferral period should be sufficiently long to allow for the
realization of a substantial portion of the risks from the covered
person's activities, and the measures of loss should be clearly
explained to covered persons and closely tied to their activities
during the relevant performance period.
Longer Performance Periods: Under this method of making incentive-
based compensation risk sensitive, the time period covered by the
performance measures used in determining a covered person's award is
extended (for example, from one year to two years). Longer performance
periods and deferral of payment are related in that both methods allow
awards or payments to be made after some or all risk outcomes
associated with a covered person's activities are realized or better
known.
Reduced Sensitivity to Short-Term Performance: A covered financial
institution using this method reduces the rate at which awards increase
as a covered person achieves higher levels of the relevant performance
measure(s) used in the person's incentive-based compensation
arrangement. Rather than offsetting risk-taking incentives associated
with the use of short-term performance measures, this method reduces
the magnitude of such incentives.
The Agencies recognize that these methods for achieving balance are
not exclusive, and additional methods or variations of these approaches
may exist or be developed.\24\ Methods and practices for making
compensation sensitive to risk-taking are likely to evolve during the
next few years. Moreover, each method has its own advantages and
disadvantages that may differ depending upon the situation in which
they are used. For example, where reliable risk measures exist, risk
adjustment of awards may be more effective than deferral of payment in
reducing incentives for inappropriate risk-taking. This is because risk
adjustment potentially can take account of the full range and time
horizon of risks, rather than just those risk outcomes that occur or
become evident during the deferral period. On the other hand, deferral
of payment may be more effective than risk adjustment in mitigating
incentives to take hard-to-measure risks (such as the risks of new
activities or products, or certain risks such as reputational or
operational risk that may be difficult to measure with respect to
particular activities), especially if such risks are likely to be
realized during the deferral period. In some cases, two or more methods
may be needed in combination for an incentive-based compensation
arrangement to be balanced. The greater the potential incentives that
an arrangement creates for a covered person to increase the risks borne
by the covered financial institution, the stronger the effect should be
of the methods applied to achieve balance.\25\
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\24\ See Banking Agency Guidance at 36407.
\25\ See Banking Agency Guidance at 36409.
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Compatibility With Effective Controls and Risk Management
A covered financial institution's risk management processes and
internal controls should reinforce and support the development and
maintenance of balanced incentive-based compensation arrangements.\26\
In particular, under this proposed standard, the Agencies would expect
a covered financial institution to have strong controls governing its
processes for designing, implementing and monitoring incentive-based
compensation arrangements, and for ensuring that risk-management
personnel have an appropriate role in the institution's processes for
designing incentive-based compensation arrangements, monitoring their
use, and assessing whether they achieve balance. Covered financial
institutions should have appropriate controls to ensure that their
processes for achieving balanced compensation arrangements are followed
and to maintain the integrity of their risk management and other
functions. Such controls are important because covered persons may seek
to evade or weaken an institution's processes to achieve balanced
incentive-based compensation arrangements in order to increase their
own compensation. For example, in order to increase his or her own
incentive
[[Page 21180]]
compensation, a covered person may seek to influence inappropriately
the risk measures, information, or judgments used to balance the
covered person's compensation. These activities can have additional
damaging effects on the institution's financial health if they result
in the weakening of the information or processes that the institution
uses for other risk management, internal control, or financial
purposes.\27\
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\26\ See Banking Agency Guidance at 36410-11.
\27\ See Banking Agency Guidance at 36411.
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Strong Corporate Governance
Strong and effective corporate governance is critical to the
establishment and maintenance of sound compensation practices.\28\ The
board of directors of a covered financial institution, or committee
thereof, should actively oversee incentive-based compensation
arrangements and is ultimately responsible for ensuring that the
covered financial institution's incentive compensation arrangements are
appropriately balanced. Accordingly, the board of directors, or a
committee thereof, should actively oversee the development and
operation of a covered financial institution's incentive-based
compensation systems and related control processes. For example, the
board of directors, or a committee thereof, should review and approve
the overall goals and purposes of the covered financial institution's
incentive-based compensation system and ensure its consistency with the
institution's overall risk tolerance. In addition, the board of
directors, or committee thereof, should receive data and analysis to
assess whether the overall design, as well as the performance, of the
institution's incentive compensation arrangements are consistent with
section 956.
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\28\ See Banking Agency Guidance at 36412.
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The Agencies request comment on all aspects of Sec. ----.5 of the
Proposed Rule. The Agencies also request comment on whether there are
additional factors that should be considered in evaluating whether
compensation is excessive or could lead to material financial loss and
whether the Proposed Rule should include additional details about each
of these standards.
Larger Covered Financial Institutions
Deferral Arrangements Required for Executive Officers
Paragraph (b)(3) of Sec. ----.5 of the Proposed Rule would
establish a deferral requirement for larger covered financial
institutions (i.e., generally those with $50 billion or more in total
consolidated assets).\29\ At these larger covered financial
institutions, at least 50 percent of the incentive-based compensation
of an ``executive officer'' (as previously defined), would have to be
deferred over a period of at least three years. The Proposed Rule also
would require that deferred amounts paid be adjusted for actual losses
of the covered financial institution or other measures or aspects of
performance that are realized or become better known during the
deferral period.
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\29\ As noted above, the FHFA is proposing to adopt this
requirement for all the entities it regulates--Fannie Mae, Freddie
Mac, the twelve Federal Home Loan Banks, and the Office of Finance,
without regard to asset size, except for covered entities in
conservatorship, receivership, or bridge status. FHFA, as
conservator of Fannie Mae and Freddie Mac, requires that one-third
of incentive pay for named executive officers be deferred over a
two-year period. This deferred pay is based on corporate and
individual performance. In addition, deferred pay is paid to Senior
Vice Presidents and above in quarterly installments in the year
following the performance year. One-half of this one-year deferral
of payments is based on the Board of Directors' determination of
corporate performance. As a result, more than one-half of the annual
incentive-based compensation is deferred for senior executives.
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The Agencies believe that incentive-based compensation arrangements
for executive officers at larger covered financial institutions are
likely to be better balanced if they involve the deferral of a
substantial portion of the executives' incentive compensation over a
multi-year period in a way that reduces the amount received in the
event of poor performance. The decisions of executive officers have a
significant impact on the entire organization and often involve
substantial strategic or other risks that are difficult to measure and
model--particularly at larger covered financial institutions--and
therefore difficult to address adequately by ex ante risk adjustments.
Requiring deferral for executive officers is consistent with
international standards \30\ that establish the expectation that large
interconnected firms require the deferral of a substantial portion of
incentive-based compensation (identified as 40 to 60 percent of the
incentive award, or more) for certain employees for a fixed period of
time not less than three years and that incentives be correctly aligned
with the nature of the business, its risks, and the activities of the
employees in question. Because the risks of strategic and other high-
level decisions of executive officers may not be apparent or become
better known for many years, the Proposed Rule would require that the
deferral arrangement for executive officers at these larger covered
financial institutions extend for at least three years. Larger covered
financial institutions tend to have more diverse business operations,
which can make it more difficult to immediately recognize and assess
risks for the organization as a whole. Furthermore, in enacting the
Dodd-Frank Act, Congress recognized that larger organizations may pose
a greater risk to the financial system by requiring the creation of
enhanced prudential standards for certain bank holding companies with
total consolidated assets greater than $50 billion.\31\
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\30\ See supra note 22.
\31\ 12 U.S.C. 5635.
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The Proposed Rule recognizes that requiring deferral for this
discrete group of individuals at larger covered institutions, where ex
ante risk adjustment measures are less likely to be effective in and of
themselves, is likely to be a useful balancing tool that allows a
period of time for risks not previously discerned or quantifiable to
ultimately materialize, and concurrently provides for adjustment of
unreleased (or ``unvested'') deferral payments on the basis of observed
consequences and actual performance as opposed to only predicted
results.
If a covered financial institution is required to use deferral, the
Proposed Rule provides it with flexibility in administering its
specific deferral program. A covered financial institution may decide
to release (or allow vesting of) the full deferred amount in a lump-sum
only at the conclusion of the deferral period; alternatively, the
institution may release the deferred amounts (or allow vesting) in
equal increments, pro rata, for each year of the deferral period.
However, in no event may the release or vesting of amounts required to
be deferred under Sec. ----.5(b)(3) of the Proposed Rule be faster
than a pro rata equal-annual-increments distribution. For instance, an
institution required to apply a three-year deferral to a $150,000
deferral amount could release a maximum of $50,000 each year or could
withhold the entire sum for the entire period and distribute it as a
lump-sum at the conclusion of the three-year period. The institution
could also employ an alternate distribution that is less rapid than a
pro-rata equal-annual-increments schedule, such as releasing no amount
after the first year, releasing a maximum of $100,000 the second year,
and then $50,000 for the third year.
Specific comment is solicited on all aspects of the scope, and
specific requirements, of this proposed deferral requirement. In
particular, commenters
[[Page 21181]]
are asked to address whether it is appropriate to mandate deferral for
executive officers at larger covered financial institutions to promote
the alignment of employees' incentives with the risk undertaken by such
employees. For example, comment is solicited on whether deferral is
generally an appropriate method for achieving balanced incentive
compensation arrangements for each type of executive officer at these
institutions or whether there are alternative or more effective ways to
achieve such balance. Commenters are also asked to address the possible
impact that the required minimum deferral provisions for senior
executives may have on larger covered financial institutions and
whether the proposed or different deferral requirements should apply to
senior executives at institutions other than larger covered financial
institutions. For example, would it be prudent to mandate deferred
incentive-based compensation for certain types of covered financial
institutions but not require such deferral for other institutions
(e.g., investment advisers) based on the business, risks inherent to
that business, or other relevant factors? Are there additional
considerations, such as tax or accounting considerations, that may
affect the ability of larger covered financial institutions to comply
with the proposed deferral requirement or that the Agencies should
consider in designing this provision in the rule? Comment is also
sought on whether the mandatory deferral provisions of the rule should
apply to a differently defined group of individuals at larger covered
financial institutions, such as the institution's top 25 earners of
incentive-based compensation? Commenters also are asked to address
whether the three-year and 50 percent of incentive-based compensation
minimums are appropriate? Should the minimum required deferral period
be extended to, for example, five years?
Special Review and Approval Requirement for Other Designated
Individuals
Other individuals at a larger covered financial institution, beyond
the institution's executive officers may have the ability to expose the
institution to possible losses that are substantial in relation to the
institution's size, capital, or overall risk tolerance. In order to
help ensure that the incentive compensation arrangements for these
individuals are appropriately balanced, and do not encourage the
individual to expose the institution to risks that could pose a risk of
material financial loss to the covered financial institution, the
Proposed Rule would require that, at a larger covered financial
institution, the board of directors, or a committee thereof, identify
those covered persons (other than executive officers) that individually
have the ability to expose the institution to possible losses that are
substantial in relation to the institution's size, capital, or overall
risk tolerance.\32\ The proposal notes that these covered persons may
include, for example, traders with large position limits relative to
the institution's overall risk tolerance and other individuals that
have the authority to place at risk a substantial part of the capital
of the covered financial institution. In addition, the Proposed Rule
would require that the board of directors, or a committee thereof, of
the institution approve the incentive-based compensation arrangement
for such individuals, and maintain documentation of such approval.
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\32\ In addition to the compensation-deferral requirement
described above, the FHFA proposes to apply this requirement to all
of the entities it regulates without regard to asset size.
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Under the proposal, the board of directors, or committee thereof,
of a larger covered financial institution may not approve the
incentive-based compensation arrangement for an individual identified
by the board of directors, or committee thereof, unless the board (or
committee) determines that the arrangement, including the method of
paying compensation under the arrangement, effectively balances the
financial rewards to the covered person and the range and time horizon
of risks associated with the covered person's activities, employing
appropriate methods for ensuring risk sensitivity. The proposal
recognizes that the methods used to balance the rewards and risks of
the individual's activities may include deferral of payments, risk
adjustment of awards, reduced sensitivity to short-term performance, or
longer performance periods, or other appropriate methods. However, the
board of directors, or committee thereof, must determine that the
method(s) used effectively balance the financial rewards to the covered
person and the range and time horizons of the risks associated with the
covered person's activities. In performing its duties in this regard,
the board, or committee thereof, must evaluate the overall
effectiveness of the balancing methods used in the identified covered
person's incentive compensation arrangements in reducing incentives for
inappropriate risk taking by the identified covered person, as well as
the ability of the methods used to make payments sensitive to the full
range of risks presented by that covered person's activities, including
those risks that may be difficult to predict, measure, or model.
The Agencies request comment on these proposed additional
identification, review, and approval requirements for larger covered
financial institutions with respect to individuals that have the
ability to expose the institution to possible losses that are
substantial in relation to the institution's size, capital, or overall
risk tolerance. Is the proposed special treatment of these covered
persons necessary or appropriate, or is their incentive compensation
adequately addressed by the prohibitions applicable to all other
covered persons (other than executive officers at larger covered
financial institutions) under the proposal? Is it sufficient that, as
under the proposal, such covered persons are not subject to mandatory
deferral but instead are separately identified by the institution's
board and the board is required to approve the incentive-based
compensation arrangement for the covered person after ensuring it is
balanced and sensitive to risk? Should further guidance be provided as
to the meaning of the phrase ``substantial in relation to the
institution's size, capital, or overall risk tolerance''?
Sec. ----.6 Policies and Procedures. As noted above, the Agencies
believe that the incentive-based compensation practices of covered
financial institutions should be supported by policies and procedures,
appropriate to the size and complexity of the covered financial
institution, to foster transparency of each covered financial
institution's incentive-based compensation practices and to promote
compliance and accountability regarding the practices that the Agencies
propose to prohibit. Accordingly, the Proposed Rule would require
covered financial institutions to have policies and procedures
governing the award of incentive-based compensation as a way to help
ensure the full implementation of the prohibitions in the Proposed
Rule.
The Agencies believe that the policies and procedures developed by
each covered financial institution in this area should be appropriately
tailored to balance risk and reward for an institution of its size,
complexity, and business activity, as well as the scope and nature of
the covered financial institution's incentive-based compensation
arrangements. Therefore, the policies and procedures of smaller covered
financial institutions with less
[[Page 21182]]
complex incentive-based compensation programs would be expected to be
less extensive than those of larger covered financial institutions with
relatively complex programs and business activities. The Agencies note,
however, that no categories of covered financial institutions using
incentive-based compensation would be systematically or completely
exempt from developing, maintaining, and documenting their incentive-
based compensation policies and procedures.
As noted above, the prohibition on incentive-based compensation
arrangements that could lead to material financial loss would affect
only those arrangements for covered persons that, either individually
or as a group, may expose the institution to material financial loss.
Accordingly, the policies and procedures of an institution related to
this prohibition should be focused on these covered persons. Depending
on the facts and circumstances of the individual covered financial
institution, certain jobs and classes of jobs may not have the ability
to expose the organization to material financial loss and, as a result,
incentive-based compensation arrangements for these covered persons
within these job classes may be outside the scope of these
restrictions. Examples of jobs and classes of jobs that may be unlikely
to expose the institution to material risk include tellers,
bookkeepers, couriers, or data processing personnel.
Paragraph (b)(1) of Sec. ----.6 of the Proposed Rule would require
that the policies and procedures, at a minimum, be designed to address
the Sec. ----.4 reporting requirements and the Sec. ----.5
prohibitions.\33\ Requiring such policies and procedures of covered
financial institutions that award incentive-based compensation would
promote compliance with the prohibitions in practice.
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\33\ In addition, for U.S. operations of foreign banking
organizations (``FBOs''), the organization's policies, including
management, review, and approval requirements for its U.S.
operations, should be coordinated with the FBO's group-wide policies
developed in accordance with the rules of the FBO's home country
supervisor. The policies of the FBO's U.S. operations should also be
consistent with the FBO's overall corporate and management
structure, as well as its framework for risk-management and internal
controls.
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In order to help ensure that the risks inherent in a covered
person's actions are appropriately captured, the Agencies believe that
risk-management, risk-oversight, and internal-control personnel should
be involved in all phases of the process for designing incentive-based
compensation arrangements. Risk-management and risk-oversight personnel
also should have responsibility for ongoing assessment of incentive-
based compensation policies to help to ensure that the covered
financial institution's processes remain up-to-date and effective
relative to its incentive compensation practices. The ongoing
involvement of such personnel in the evaluation of incentive-based
compensation arrangements also helps to ensure that risks are properly
understood and evaluated as such risks change over time in light of a
continuously changing business environment. Accordingly, paragraph
(b)(2) of Sec. ----.6 of the Proposed Rule would make such a
requirement part of the covered financial institution's policies and
procedures governing incentive-based compensation.
Paragraph (b)(3) of Sec. ----.6 would require that a covered
financial institution's policies and procedures provide for the
monitoring by a group or person independent of the covered person,
where practicable in light of the institution's size and complexity, of
incentive-based compensation awards and payments, risks taken, and
actual risk outcomes to determine whether incentive-based compensation
payments are reduced to reflect adverse risk outcomes or high levels of
risk taken. To be considered independent under the Proposed Rule, the
group or person at the covered financial institution monitoring or
assessing incentive-based compensation awards must have a separate
reporting line to senior management from the covered person who is
creating the risks so as to help ensure that the analysis of risk is
unbiased. Given the dynamic nature of risk management, the Proposed
Rule also provides for incentive-based compensation awards to be
monitored in light of risks taken and outcomes to determine whether
incentive-based payments should be modified. The Agencies contemplate
that the procedures relating to the adjustment of deferred amounts
would be used by covered financial institutions required to defer a
portion of their incentive-based compensation under Sec. ----.6 of
this Rule to augment their compliance with the deferral obligation.
Paragraph (b)(4) of Sec. ----.6 would require a covered financial
institution to develop and maintain policies and procedures designed to
ensure that the covered financial institution's board of directors, or
a committee thereof, receive data and analysis from management and
other sources sufficient to allow it to assess whether the overall
design and performance of the firm's incentive-based compensation
arrangements are consistent with section 956 of the Act. As with other
provisions of the Proposed Rule, the scope and nature of the data and
analysis should be appropriate to the size and complexity of the
covered financial institution and its use of incentive-based
compensation. The Agencies expect that the board of directors, or
committee thereof, would take into consideration the firm's overall
risk management policies and procedures and the requirements of section
956(b) of the Act when assessing compliance with the Act.
Paragraph (b)(5) of Sec. ----.6 of the Proposed Rule would specify
that the policies and procedures of a covered financial institution
must provide that the institution maintains sufficient documentation of
the institution's processes for establishing, implementing, modifying,
and monitoring incentive-based compensation arrangements sufficient to
enable the institution's appropriate Federal regulator to determine the
covered financial institution's compliance with section 956 of the Act
and the Proposed Rule. Given that the determinations to be made
regarding incentive-based compensation are fact-specific, the Agencies
believe that effective documentation of the covered financial
institution's policies, procedures and actions related to incentive-
based compensation is essential both to help promote the risk-based
discipline that section 956 of the Act seeks to foster with respect to
covered financial institutions and to facilitate meaningful oversight
and examination. In this context, the Agencies would expect the
documentation maintained by a covered financial institution under the
Proposed Rule to include, but not be limited to, the following:
(1) A copy of the covered financial institution's incentive-based
compensation arrangement(s) or plan(s);
(2) The names and titles of individuals covered by such
arrangement(s) or plan(s);
(3) A record of the incentive-based compensation awards made under
the arrangement(s) or plan(s); and
(4) Records reflecting the persons or units involved in the
approval and ongoing monitoring of the arrangement(s) or plan(s).
Paragraph (b)(6) of Sec. ----.6 of the Proposed Rule would provide
that, where a covered financial institution uses deferral in connection
with an incentive-based compensation arrangement, the institution's
policies and procedures provide for deferral of any such payments in
amounts and for periods of time appropriate to the duties
[[Page 21183]]
and responsibilities of the covered financial institution's covered
persons, the risks associated with those duties and responsibilities,
and the size and complexity of the covered financial institution.\34\
Further, proposed paragraph (b)(6) would require that any such deferred
amounts paid be adjusted for actual losses or other measures or aspects
of performance that are realized or become better known during the
deferral period. The Agencies believe that risk-management personnel at
the covered financial institution would play a substantial role in
identifying and evaluating risks that become better known with the
passage of time. The Agencies contemplate that the procedures relating
to the adjustment of deferred amounts would be used by covered
financial institutions required to defer a portion of their incentive-
based compensation under Sec. ----.5 of the Proposed Rule to
facilitate their compliance with the deferral obligation.
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\34\ The Proposed Rule would require deferral for at least three
years of at least 50 percent of the incentive-based compensation for
executive officers of larger covered financial institutions
(generally those with $50 billion or more in total consolidated
assets). Most covered financial institutions with total consolidated
assets under $50 billion would be required to adopt procedures
applicable to deferred compensation only when the firm elects to use
deferral in its incentive-based compensation program.
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Given the importance of incentive-based compensation arrangements
to a covered financial institution's safety and soundness, paragraph
(b)(7) of Sec. ----.6 would require the policies and procedures to
subject any incentive-based compensation arrangement or component
thereof to a corporate governance framework that provides for ongoing
oversight by the board of directors or a committee of the board of
directors. As discussed above, covered financial institutions should
have strong and effective corporate governance to help ensure sound
compensation practices, including active and effective oversight by the
board of directors. The Agencies believe that the board of directors or
a committee thereof is ultimately responsible for a covered
institution's incentive-based compensation arrangements, which should
appropriately balance risk and rewards. Therefore, the board or its
committee should engage in regular oversight of the covered financial
institution's incentive-based compensation arrangements.
The Agencies are aware that covered persons at certain covered
financial institutions who have been awarded equity as part of a
deferred incentive-based compensation arrangement may wish to use
personal hedging strategies as a way to lock in value for equity
compensation that is vested over time. The Agencies are concerned that
undertaking such hedging strategies during deferral periods could
diminish the alignment between risk and financial rewards that may be
achieved through these types of deferral arrangements. The Agencies
have not included policies and procedures regarding such personal
hedging strategies in the Proposed Rule, but the Agencies are concerned
that, to the extent personal hedging strategies may be widespread, such
practices would serve to diminish the effectiveness of a covered
financial institution's policies and procedures. Thus, the Agencies are
considering whether a covered financial institution's policies and
procedures should be required to specifically include limits on
personal hedging strategies. To assist in the evaluation of such a
provision, in addition to requesting comment on all aspects of Sec. --
--.6 of the Proposed Rule, the Agencies are requesting commenters to
describe the extent to which covered financial institutions prohibit
such practices among their covered persons today. Would prohibiting the
use of financial derivatives, insurance contracts or other similar
mechanisms to hedge against the market risk of equity-based incentive-
based compensation be an effective means to help to ensure that
incentive-based compensation arrangements remain aligned with the risk
assumed by covered persons? Are there other factors the Agencies should
take into account when considering if, or how, to address personal
hedging activity by covered persons?
Sec. ----.7 Evasion. Section ----.7 of the Proposed Rule would
prohibit a covered financial institution from evading the restrictions
of the rule by doing any act or thing indirectly, or through or by any
other person, that would be unlawful for the covered institution to do
directly under the Proposed Rule. This anti-evasion provision is
designed to prevent covered financial institutions from, for example,
making substantial numbers of its covered persons independent
contractors for the purpose of evading this subpart. The Agencies do
not intend, however, to disrupt bona fide independent contractor
relationships of covered financial institutions. Comments are invited
on whether greater specificity is required in identifying possible
evasion tactics, and on all aspects of Sec. ----.7.
IV. Request for Comments
The Agencies encourage comment on any aspect of this proposal and
especially on those issues specifically noted in this preamble.
Solicitation of Comments on Use of Plain Language
Section 722 of the Gramm-Leach-Bliley Act, Public Law 106-102, sec.
722, 113 Stat. 1338, 1471 (Nov. 12, 1999), requires the Federal banking
agencies to use plain language in all proposed and final rules
published after January 1, 2000. The Federal banking agencies invite
your comments on how to make this proposal easier to understand. For
example:
Have we organized the material to suit your needs? If not,
how could this material be better organized?
Are the requirements in the proposed regulation clearly
stated? If not, how could the regulation be more clearly stated?
Does the proposed regulation contain language or jargon
that is not clear? If so, which language requires clarification?
Would a different format (grouping and order of sections,
use of headings, paragraphing) make the regulation easier to
understand? If so, what changes to the format would make the regulation
easier to understand?
What else could we do to make the regulation easier to
understand?
NCUA Agency Regulatory Goal
NCUA's goal is to promulgate clear and understandable regulations
that impose minimal regulatory burden. We request your comments on
whether the proposed rule is understandable and minimally intrusive if
implemented as proposed.
V. Regulatory Analysis
A. Regulatory Flexibility Act
OCC: Pursuant to section 605(b) of the Regulatory Flexibility Act,
5 U.S.C. 605(b) (RFA), the regulatory flexibility analysis otherwise
required under section 603 of the RFA is not required if the agency
certifies that the proposed rule will not, if promulgated, have a
significant economic impact on a substantial number of small entities
(defined for purposes of the RFA to include banks and Federal branches
and agencies with assets less than or equal to $175 million) and
publishes its certification and a short, explanatory statement in the
Federal Register along with its proposed rule.
Consistent with section 956(f) of the Dodd-Frank Act, the OCC's
proposed rule only would apply to national banks and Federal branches
and agencies that have total consolidated assets of $1 billion or more.
The Proposed Rule
[[Page 21184]]
would not apply to any small national banks and Federal branches and
agencies, as defined by the RFA. Therefore, the OCC certifies that the
Proposed Rule would not, if promulgated, have a significant economic
impact on a substantial number of small entities.
Board: The Board has considered the potential impact of the
Proposed Rule on small banking organizations in accordance with the
Regulatory Flexibility Act (5 U.S.C. 603(b)). As discussed in the
SUPPLEMENTARY INFORMATION above, section 956 of the Dodd-Frank Act
(codified at 12 U.S.C. 5641) requires that the Agencies prohibit any
incentive-based payment arrangement, or any feature of any such
arrangement, at a covered financial institution that the Agencies
determine encourages inappropriate risks by a financial institution by
providing excessive compensation or that could lead to material
financial loss. In addition, under the Act a covered financial
institution also must disclose to its appropriate Federal regulator the
structure of its incentive-based compensation arrangements. The Board
and the other Agencies have issued the Proposed Rule in response to
these requirements of the Dodd-Frank Act.
The Proposed Rule would apply to ``covered financial institutions''
as defined in section 956 of the Dodd-Frank Act. Covered financial
institutions as so defined include specifically listed types of
institutions, as well as other institutions added by the Agencies
acting jointly by rule. In every case, however, covered financial
institutions must have at least $1 billion in total consolidated assets
pursuant to section 956(f). Thus the Proposed Rule is not expected to
apply to any small banking organizations (defined as banking
organizations with $175 million or less in total assets). See 13 CFR
121.201.
The Proposed Rule would implement section 956(a) of the Dodd-Frank
act by requiring a covered financial institution to submit a report
annually to its appropriate regulator or supervisor in a format
specified by its appropriate Federal regulator that describes the
structure of the covered financial institution's incentive-based
compensation arrangements for covered persons. The volume and detail of
information provided annually by a covered financial institution should
be commensurate with the size and complexity of the institution, as
well as the scope and nature of its incentive-based compensation
arrangements. As such, the Board expects that the volume and detail of
information provided by a large, complex institution that uses
incentive-based arrangements to a significant degree would be
substantially greater than that submitted by a smaller institution that
has only a few incentive-based compensation arrangements or
arrangements that affect only a limited number of covered persons.
The Proposed Rule would implement section 956(b) of the Dodd-Frank
Act by prohibiting a covered financial institution from having
incentive-based compensation arrangements that may encourage
inappropriate risks (i) by providing excessive compensation or (ii)
that could lead to material financial loss. The Proposed Rule would
establish standards for determining whether an incentive-based
compensation arrangement violates these prohibitions. These standards
would include deferral and other requirements for certain covered
persons at covered financial institutions with total consolidated
assets of more than $50 billion. Consistent with section 956(c), the
standards adopted under section 956 are comparable to the compensation-
related safety and soundness standards applicable to insured depository
institutions under section 39 of the FDIA. The Proposed Rule also would
supplement existing guidance adopted by the Board and the other Federal
banking agencies regarding incentive-based compensation (i.e., the
Banking Agency Guidance, as defined in the ``Supplementary
Information'' above).
The Proposed Rule would require covered financial institutions to
have policies and procedures governing the award of incentive-based
compensation as a way to help ensure the full implementation of the
prohibitions in the Proposed Rule. The Board believes that the policies
and procedures developed by each covered financial institution in this
area should be appropriately tailored to balance risk and reward for an
institution of its size, complexity, and business activity, as well as
the scope and nature of the covered financial institution's incentive-
based compensation arrangements. Therefore, the policies and procedures
of smaller covered financial institutions with less complex incentive-
based compensation programs would be expected to be less extensive than
those of larger covered financial institutions with relatively complex
programs and business activities.
As noted above, because the Proposed Rule applies to institutions
that have more than $1 billion in total consolidated assets, if adopted
in final form it is not expected to apply to any small banking
organizations for purposes of the Regulatory Flexibility Act. In light
of the foregoing, the Board does not believe that the Proposed Rule, if
adopted in final form, would have a significant economic impact on a
substantial number of small entities supervised by the Board. The Board
specifically seeks comment on whether the Proposed Rule would impose
undue burdens on, or have unintended consequences for, small
organizations and whether there are ways such potential burdens or
consequences could be addressed in a manner consistent with section 956
of the Dodd-Frank Act.
FDIC: In accordance with the Regulatory Flexibility Act, 5 U.S.C.
601-612 (RFA), an agency must publish an initial regulatory flexibility
analysis with its Proposed Rule, unless the agency certifies that the
rule will not have a significant economic impact on a substantial
number of small entities. For purposes of the RFA, small entities are
defined to include banks with less than $175 million in assets.
Consistent with section 956 of the Dodd-Frank Act, the FDIC's
Proposed Rule would only apply to a State nonmember bank and an insured
U.S. branch of a foreign bank that has total consolidated assets of $1
billion or more and offers incentive compensation. The Proposed Rule
would not apply to any small banks as defined by the RFA. Thus, the
FDIC certifies that the Proposed Rule, if promulgated, would not have a
significant economic impact on a substantial number of small entities.
OTS: Pursuant to section 605(b) of the Regulatory Flexibility Act,
5 U.S.C. 605(b) (RFA), the regulatory flexibility analysis otherwise
required under section 603 of the RFA is not required if the agency
certifies that the proposed rule, if promulgated, will not have a
significant economic impact on a substantial number of small entities
and publishes its certification and a short, explanatory statement in
the Federal Register along with its proposed rule. OTS certifies that
the Proposed Rule would not have a significant impact on a substantial
number of small entities. The Small Business Administration has defined
``small entities'' for banking purposes as a bank or savings
association with $175 million or less in assets. 13 CFR 121.201. Since
OTS's Proposed Rule only applies to savings associations and savings
and loan holding companies with $1 billion or more of assets, it will
not apply to any small entities.
FHFA: The Regulatory Flexibility Act (5 U.S.C. 601 et seq.)
requires that a rule that has a significant economic impact
[[Page 21185]]
on a substantial number of small entities, small businesses, or small
organizations must include an initial regulatory flexibility analysis
describing the rule's impact on small entities. Such an analysis need
not be undertaken if the agency has certified that the rule will not
have a significant economic impact on a substantial number of small
entities. 5 U.S.C. 605(b). FHFA has considered the impact of the final
rule under the Regulatory Flexibility Act. FHFA certifies that the
final rule is not likely to have a significant economic impact on a
substantial number of small business entities because the rule is
applicable only to FHFA's covered entities, which are not small
entities for purposes of the Regulatory Flexibility Act.
NCUA: In accordance with the Regulatory Flexibility Act, 5 U.S.C.
601-612 (RFA), NCUA must publish an initial regulatory flexibility
analysis with its proposed rule, unless NCUA certifies that the
proposed rule would not have a significant economic impact on a
substantial number of small entities, meaning those credit unions under
$10 million in assets. NCUA Interpretive Ruling and Policy Statement
03-2, 68 FR 31949 (May 29, 2003). The Dodd-Frank Act section 956 and
the NCUA's proposed rule only apply to credit unions of $1 billion in
assets or more. Accordingly, NCUA certifies that the proposed rule
would not have a significant economic impact on a substantial number of
small entities since the credit unions covered under NCUA's proposed
rule are not small entities for RFA purposes.
SEC: The Commission has prepared the following Initial Regulatory
Flexibility Analysis (IRFA), in accordance with the provisions of the
Regulatory Flexibility Act \35\ regarding proposed Sections 248.201
through 248.207. The Commission encourages comments with respect to any
aspect of this IRFA, including comments with respect to the number of
small entities that may be affected by the proposed rules. Comments
should specify the costs of compliance with the proposed rules and
suggest alternatives that would accomplish the goals of the rules.
Comments will be considered in determining whether a Final Regulatory
Flexibility Analysis is required and will be placed in the same public
file as comments on the proposed rules. Comments should be submitted to
the Commission at the addresses previously indicated.
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\35\ 5 U.S.C. 603.
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1. Small Entities Subject to the Rule
As described in more detail above, the proposed rules would
implement section 956 of the Dodd-Frank Act, codified as 12 U.S.C.
5641. For purposes of Commission rulemaking in connection with the RFA,
a small entity includes a broker-dealer: (i) With total capital (net
worth plus subordinated liabilities) of less than $500,000 on the date
in the prior fiscal year as of which its audited financial statements
were prepared pursuant to Rule 17a-5(d) under the Exchange Act, and
(ii) is not affiliated with any person (other than a natural person)
that is not a small business or small organization as defined in this
section.\36\ Commission rules further provide that, for the purposes of
the Investment Advisers Act of 1940, an investment adviser generally is
a small entity if it: (i) Has assets under management having a total
value of less than $25 million; (ii) did not have total assets of $5
million or more on the last day of its most recent fiscal year; and
(iii) does not control, is not controlled by, and is not under common
control with another investment adviser that has assets under
management of $25 million or more, or any person (other than a natural
person) that had $5 million or more on the last day of its most recent
fiscal year (``small adviser'').\37\
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\36\ 17 CFR 240.0-10(c). See 17 CFR 240.17a-5(d).
\37\ Rule 0-7(a). 17 CFR 275.0-7(a).
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Section 956 of the Dodd-Frank Act requires regulators, including
the Commission, to jointly promulgate rules that apply to covered
financial institutions with assets of at least $1 billion. The
Commission believes that broker-dealers and investment advisers that
would be subject to the proposed rule would either have $1 billion in
assets or be affiliated with a firm that is characterized by at least
$1 billion in assets. Therefore, the Commission preliminarily believes
that there should not be any small broker-dealers or investment
advisers impacted by this proposed rule.
2. Duplicative, Overlapping, or Conflicting Federal Rules
The Commission believes that there are no Federal rules that
duplicate, overlap, or conflict with the proposed rules.
3. Significant Alternatives
Pursuant to section 3(c) of the RFA,\38\ the Commission must
consider certain types of alternatives, including (1) The establishment
of differing compliance or reporting requirements or timetables that
take into account the resources available to small entities, (2) the
clarification, consolidation, or simplification of compliance and
reporting requirements under the rule for small entities, (3) the use
of performance rather than design standards, and (4) an exemption from
coverage of the rule, or any part of the rule, for small entities.
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\38\ 5 U.S.C. 603(c).
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The Commission does not believe it is necessary or appropriate to
establish different compliance or reporting requirements or timetables;
clarify, consolidate, or simplify compliance and reporting requirements
under the rule for small entities; or summarily exempt small entities
from coverage of the rule, or any part of the rule because the proposed
rule will not apply to any small entities.
4. Request for Comments
The Commission encourages the submission of comments to any aspect
of this portion of the IRFA. In particular, comments are encouraged on
whether any small entities would be subject to the terms of the
proposed rule. Comments should specify costs of compliance with the
proposed rules and suggest alternatives that would accomplish the
objective of the proposed rules.
B. Paperwork Reduction Act
Request for Comment on Proposed Information Collection
In accordance with section 3512 of the Paperwork Reduction Act
(PRA) of 1995 (44 U.S.C. 3501-3521), agencies may not conduct or
sponsor, and a respondent is not required to respond to, an information
collection unless it displays a currently valid Office of Management
and Budget (OMB) control number. The information collection
requirements contained in this joint notice have been submitted by the
FDIC, OCC, OTS, NCUA, and SEC to OMB for review and approval under
section 3506 of the PRA and Sec. 1320.11 of OMB's implementing
regulations (5 CFR 1320). For the FHFA, the proposed rule does not
contain any information collected from Fannie Mae, Freddie Mac and the
Federal Home Loan Banks, including the Office of Finance, that requires
the approval of OMB under the Paperwork Reduction Act (44 U.S.C. 3501
et seq.). The Board reviewed the proposed rule under the authority
delegated to the Board by OMB. The proposed rule contains requirements
subject to the PRA. The reporting requirements are found in Sec. --
--.4 and the recordkeeping requirements are found in
[[Page 21186]]
Sec. Sec. ----.5(b)(3)(ii)(B), ----.6(a), and ----.6(b)(5).
Comments are invited on:
(a) Whether the collection of information is necessary for the
proper performance of the agencies' functions, including whether the
information has practical utility;
(b) The accuracy of the estimate of the burden of the information
collection, including the validity of the methodology and assumptions
used;
(c) Ways to enhance the quality, utility, and clarity of the
information to be collected;
(d) Ways to minimize the burden of information collection on
respondents, including through the use of automated collection
techniques or other forms of information technology; and
(e) Estimates of capital or startup costs and costs of operation,
maintenance, and purchase of services to provide information.
All comments will become a matter of public record. Comments should
be addressed to:
FDIC: You may submit written comments, identified by the RIN, by
any of the following methods:
Agency Web Site: http://www.fdic.gov/regulations/laws/
federal/propose.html. Follow the instructions for submitting comments
on the FDIC Web site.
Federal eRulemaking Portal: http://www.regulations.gov.
Follow the instructions for submitting comments.
E-mail: [email protected]. Include RIN 3064-AD56 on the
subject line of the message.
Mail: Robert E. Feldman, Executive Secretary, Attention:
Comments, FDIC, 550 17th Street, NW., Washington, DC 20429.
Hand Delivery/Courier: Comments may be hand delivered to
the guard station at the rear of the 550 17th Street Building (located
on F Street) on business days between 7 a.m. and 5 p.m.
Public Inspection: All comments received will be posted without
change to http://www.fdic.gov/regulations/laws/federal/propose.html
including any personal information provided. Comments may be inspected
at the FDIC Public Information Center, Room E-1002, 3501 Fairfax Drive,
Arlington, VA 22226, between 9 a.m. and 5 p.m. on business days.
OCC: You should direct all written comments to: Communications
Division, Office of the Comptroller of the Currency, Public Information
Room, Mailstop 2-3, Attention: 1557-NEW, 250 E Street, SW., Washington,
DC 20219. In addition, comments may be sent by fax to 202-874-5274, or
by electronic mail to [email protected]. You may personally
inspect and photocopy comments at the OCC, 250 E Street, SW.,
Washington, DC 20219. For security reasons, the OCC requires that
visitors make an appointment to inspect comments. You may do so by
calling 202-874-4700. Upon arrival, visitors will be required to
present valid government-issued photo identification and submit to
security screening in order to inspect and photocopy comments.
OTS: Information Collection Comments, Chief Counsel's Office,
Office of Thrift Supervision, 1700 G Street, NW., Washington, DC 20552;
send a facsimile transmission to 202-906-6518; or send an e-mail to
[email protected]. OTS will post comments and the
related index on the OTS Internet site at http://www.ots.treas.gov. In
addition, interested persons may inspect the comments at the Public
Reading Room, 1700 G Street, NW., by appointment. To make an
appointment, call 202-906-5922, send an e-mail to
public.info@ots.treas.gov">public.info@ots.treas.gov, or send a facsimile transmission to 202-906-
7755.
NCUA: You may submit comments by any of the following methods
(Please send comments by one method only):
Federal eRulemaking Portal: http://www.regulations.gov.
Follow the instructions for submitting comments.
Agency Web site: http://www.ncua.gov/RegulationsOpinionsLaws/proposedregs/proposedregs.html. Follow the
instructions for submitting comments.
E-mail: Address to [email protected]. Include ``[Your
name] Comments on Notice of Proposed Rulemaking Incentive-based
Compensation Arrangements'' in the e-mail subject line.
Fax: 703-518-6319. Use the subject line described above
for e-mail.
Mail: Address to David Chow, Deputy Chief Information
Officer, National Credit Union Administration, 1775 Duke Street,
Alexandria, VA 22314-3428.
Hand Delivery/Courier: Same as mail address.
Additionally, you should send a copy of your comments to the OMB
Desk Officer for the NCUA, by mail to U.S. Office of Management and
Budget, 725 17th Street, NW., 10235, Washington, DC 20503, or by fax to
202-395-6974. The Paperwork Reduction Act requires OMB to make a
decision concerning the collection of information contained in the
proposed regulation between 30 and 60 days after publication of this
document in the Federal Register. Therefore, a comment to OMB is best
assured of having its full effect if OMB receives it within 30 days of
publication. This does not affect the deadline for the public to
comment to the NCUA on the proposed regulation.
SEC: Comments should be directed to the Office of Management and
Budget, Attention: Desk Officer for the Securities and Exchange
Commission, Office of Information and Regulatory Affairs, Room 10102,
New Executive Office Building, Washington, DC 20503, and commenters
also should send a copy of their comments to Elizabeth M. Murphy,
Secretary, Securities and Exchange Commission, 100 F Street, NE.,
Washington, DC 20549-1090, and refer to File No. S7-12-11. We will post
all public comments we receive without change, including any personal
information you provide, such as your name and address, on the SEC Web
site at http://www.sec.gov. Requests for materials submitted to OMB by
the Commission with regard to this collection of information should be
in writing, refer to File No. S7-12-11, and be submitted to the
Securities and Exchange Commission, Office of Investor Education and
Advocacy, 100 F Street, NE., Washington, DC 20549-0213. OMB is required
to make a decision concerning the collection of information between 30
and 60 days after publication of this release in the Federal Register.
A comment to OMB is best assured of having full effect if OMB receives
it within 30 days after publication of this release.
Board: You may submit comments, identified by Docket No. R-1410, by
any of the following methods:
Agency Web site: http://www.federalreserve.gov. Follow the
instructions for submitting comments on the http://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm.
Federal eRulemaking Portal: http://www.regulations.gov.
Follow the instructions for submitting comments.
E-mail: [email protected]. Include docket
number in the subject line of the message.
FAX: 202-452-3819 or 202-452-3102.
Mail: Jennifer J. Johnson, Secretary, Board of Governors
of the Federal Reserve System, 20th Street and Constitution Avenue,
NW., Washington, DC 20551.
All public comments are available from the Board's Web site at
http://www.federalreserve.gov/generalinfo/foia/ProposedRegs.cfm as
submitted, unless modified for technical reasons. Accordingly, your
comments will not be
[[Page 21187]]
edited to remove any identifying or contact information. Public
comments may also be viewed electronically or in paper in Room MP-500
of the Board's Martin Building (20th and C Streets, NW.) between 9 a.m.
and 5 p.m. on weekdays.
Proposed Information Collection
Title of Information Collection: Reporting and Recordkeeping
Requirements Associated with Incentive-based Compensation Arrangements.
Frequency of Response: Annual.
Affected Public: Businesses or other for-profit.
Respondents:
FDIC: State nonmember banks or an insured U.S. branch of a foreign
bank that has total consolidated assets of $1 billion or more.
OCC: National banks and Federal branches and agencies of foreign
banks with $1 billion or more in total assets.
OTS: Savings associations and savings and loan holding companies
with $1 billion or more in total assets.
NCUA: Credit unions with $1 billion or more in total assets.
SEC: Broker-dealers registered under section 15 of the Securities
Exchange Act of 1934 \39\ with $1 billion or more in total assets and
investment advisers, as such term is defined in section 202(a)(11) of
the Investment Advisers Act of 1940, with $1 billion or more in total
assets \40\ (collectively ``covered BDs and IAs'').
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\39\ 15 U.S.C. 78o.
\40\ 15 U.S.C. 80b-2(a)(11). By its terms, the definition of
``covered financial institution'' in Section 956 includes any firm
that meets the definition of ``investment adviser'' under the
Investment Advisers Act of 1940 (``Investment Advisers Act''),
regardless of whether the firm is registered as an investment
adviser under the Act. Banks and bank holding companies are
generally excluded from the definition of ``investment adviser''
under section 202(a)(11) of the Investment Advisers Act.
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Board: State member banks, bank holding companies, and state-
licensed uninsured branches and agencies of foreign banks with more
than $1 billion in total assets, and the U.S. operations of foreign
banking organizations with $1 billion or more in U.S. assets.
Abstract: Section 956 of the Dodd-Frank Act requires that the
agencies prohibit incentive-based payment arrangements at a covered
financial institution that encourage inappropriate risks by a financial
institution by providing excessive compensation or that could lead to
material financial loss. Under the Dodd-Frank Act, a covered financial
institution also must disclose to its appropriate Federal regulator the
structure of its incentive-based compensation arrangements sufficient
to determine whether the structure provides ``excessive compensation,
fees, or benefits'' or ``could lead to material financial loss'' to the
institution. The Dodd-Frank Act does not require a covered financial
institution to disclose compensation of individuals as part of this
requirement.
Section ----.4(a) would require covered financial institutions that
have total consolidated assets of $1 billion or more to submit a report
annually to the Agency that describes the structure of the covered
financial institution's incentive-based compensation arrangements for
covered persons and that is sufficient to allow an assessment of
whether the structure or features of those arrangements provide or are
likely to provide covered persons with excessive compensation, fees, or
benefits to covered persons or could lead to material financial loss to
the institution. Section ----.4(b) would require the following minimum
standards:
(1) A clear narrative description of the components of the covered
financial institution's incentive-based compensation arrangements
applicable to covered persons;
(2) A succinct description of the covered financial institution's
policies and procedures governing its incentive-based compensation
arrangements;
(3) If the covered financial institution has total consolidated
assets of $50 billion or more,\39\ an additional succinct description
of incentive-based compensation policies and procedures specific to the
covered financial institution's:
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\39\ For credit unions, $10 billion or more.
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(i) Executive officers; and
(ii) Other covered persons who the board of directors, or a
committee thereof, of the institution has identified and determined
under Sec. ------.5(b)(3)(ii) of this part individually have the
ability to expose the institution to possible losses that are
substantial in relation to the institution's size, capital, or overall
risk tolerance;
(4) Any material changes to the covered financial institution's
incentive-based compensation arrangements and policies and procedures
made since the covered financial institution's last report submitted
under paragraph (a)(1) of this section; and
(5) The specific reasons why the covered financial institution
believes the structure of its incentive-based compensation plan: (i)
Does not provide covered persons incentives to engage in behavior that
is likely to cause the covered financial institution to suffer material
financial loss; and (ii) does not provide covered persons with
excessive compensation.
Section ----.5(b)(3)(ii)(B) would require the board of directors of
covered financial institutions that have total consolidated assets of
$50 billion or more to approve and document the identification of those
covered persons that individually have the ability to expose the
institution to possible losses that are substantial in relation to the
institution's size, capital, or overall risk tolerance.
Section ----.6(b)(5) would ensure that documentation of the
institution's processes for establishing, implementing, modifying, and
monitoring incentive-based compensation arrangements is maintained that
is sufficient to enable the Agency to determine the institution's
compliance with 12 U.S.C. 5641.
Estimated Burden:
FDIC
Number of respondents: 301 (12 institutions with total consolidated
assets of $50 billion or more and 289 institutions with total
consolidated assets between $1 billion and $50 billion; 4,466
institutions with total consolidated assets below $1 billion are
exempt).
Burden per respondent for initial set up: 180 hours for
institutions with $50 billion or more in total assets (80 hours for
reporting requirements and 100 hours for recordkeeping requirements)
and 70 hours for institutions between $1 billion and $50 billion in
total assets (30 hours for reporting requirements and 40 hours for
recordkeeping requirements).
Burden per respondent for ongoing compliance: 70 hours for
institutions with $50 billion or more in total assets (40 hours for
reporting requirements and 30 hours for recordkeeping requirements) and
25 hours for institutions between $1 billion and $50 billion in total
assets (15 hours for reporting requirements and 10 hours for
recordkeeping requirements).
Total FDIC annual burden: 30,455 hours (22,390 hours for initial
set-up and 8,065 hours for ongoing compliance).
OCC
Number of respondents: 158 (18 institutions with total consolidated
assets of $50 billion or more and 140 institutions with total
consolidated assets between $1 billion and $50 billion; 1,215
institutions and 67 trust companies with total consolidated assets
below $1 billion are exempt).
[[Page 21188]]
Burden per respondent for initial set up: 180 hours for
institutions with $50 billion or more in total assets (80 hours for
reporting requirements and 100 hours for recordkeeping requirements)
and 70 hours for institutions between $1 billion and $50 billion in
total assets (30 hours for reporting requirements and 40 hours for
recordkeeping requirements).
Burden per respondent for ongoing compliance: 70 hours for
institutions with $50 billion or more in total assets (40 hours for
reporting requirements and 30 hours for recordkeeping requirements) and
25 hours for institutions between $1 billion and $50 billion in total
assets (15 hours for reporting requirements and 10 hours for
recordkeeping requirements).
Total OCC annual burden: 17,800 hours (13,040 hours for initial
set-up and 4,760 hours for ongoing compliance).
OTS
Number of respondents: 163 (17 institutions with total consolidated
assets of $50 billion or more and 146 institutions with total
consolidated assets between $1 billion and $50 billion.
Burden per respondent for initial set up: 180 hours for
institutions with $50 billion or more in total assets (80 hours for
reporting requirements and 100 hours for recordkeeping requirements)
and 70 hours for institutions between $1 billion and $50 billion in
total assets (30 hours for reporting requirements and 40 hours for
recordkeeping requirements).
Burden per respondent for ongoing compliance: 70 hours for
institutions with $50 billion or more in total assets (40 hours for
reporting requirements and 30 hours for recordkeeping requirements) and
25 hours for institutions between $1 billion and $50 billion in total
assets (15 hours for reporting requirements and 10 hours for
recordkeeping requirements).
Total OTS annual burden: 18,120 hours (13,280 hours for initial
set-up and 4,840 hours for ongoing compliance).
NCUA
Number of respondents: 184 (6 institutions with total consolidated
assets of $10 billion or more and 178 institutions with total
consolidated assets between $1 billion and $10 billion).
Burden per respondent for initial set up: 180 hours for
institutions with $10 billion or more in total assets (80 hours for
reporting requirements and 100 hours for recordkeeping requirements)
and 70 hours for institutions between $1 billion and $10 billion in
total assets (30 hours for reporting requirements and 40 hours for
recordkeeping requirements).
Burden per respondent for ongoing compliance: 70 hours for
institutions with $10 billion or more in total assets (40 hours for
reporting requirements and 30 hours for recordkeeping requirements) and
25 hours for institutions between $1 billion and $10 billion in total
assets (15 hours for reporting requirements and 10 hours for
recordkeeping requirements).
Total NCUA annual burden: 18,410 hours (13,540 hours for initial
set-up and 4,870 hours for ongoing compliance).
SEC
Number of respondents: The proposed rule would establish additional
reporting and recordkeeping burdens for broker-dealers that are covered
financial institutions (``covered BDs and IAs'') with assets of at
least $50 billion, as compared to covered BDs and IAs with assets
between $1 billion and $50 billion. The Commission estimates that
approximately 200 respondents (approximately 130 broker-dealers and
approximately 70 investment advisers) would be affected generally by
the proposed rules, and that approximately 30 of the 200 respondents
would be affected by proposed Sec. Sec. 248.204(c)(3) and
248.205(b)(3)(ii)(B).\40\
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\40\ Each Federal regulator has proposed how to calculate a
firm's ``total consolidated assets''. For broker-dealers, the
determination of whether the broker-dealer had $1 billion in assets
would be made by reference to the broker-dealer's year-end audited
consolidated statement of financial condition filed with the
Commission pursuant to Rule 17a-5. For investment advisers, asset
size would be determined by the adviser's total assets shown on the
balance sheet for the adviser's most recent fiscal year end. Data
from the SEC's Office of Risk, Strategy and Financial Innovation
indicates that there are 132 registered broker-dealers with assets
of $1 billion or more and 18 broker-dealers with assets of at least
$50 billion. Most investment advisers currently do not report to the
Commission the amount of their own assets, so the Commission is
unable to determine how many have $1 billion or more in assets and
$50 billion or more in total consolidated assets. See Form ADV, Part
1A, Item 12. The Commission estimates that advisers with assets
under management of $100 billion or more would have total
consolidated assets of $1 billion or more. Based on data from the
Investment Adviser Registration Depository (``IARD''), the SEC's
Division of Investment Management estimates that 68 registered
advisers with assets under management of at least $100 billion would
have assets of $1 billion or more, and 7 registered advisers with
assets under management of at least $500 billion would have total
consolidated assets of at least $50 billion. The Commission has
rounded these numbers to 70 and 10 for purposes of its analysis.
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(A) Proposed Section 248.204 (Required Reports)
The Commission, jointly with the other Agencies, proposes that
covered BDs and IAs be required to describe the structure of the firms'
incentive-based compensation arrangements for covered persons in a
manner that is sufficient to allow an assessment of whether the
structure or features of those arrangements provide or are likely to
provide covered persons with excessive compensation, fees, or benefits
to covered persons or could lead to material financial loss to the
firm. Proposed Sec. 248.204(c)(1) would require a narrative
description of the components of the incentive-based compensation
arrangements applicable to covered persons, specifying the types of
covered persons to which they apply. Proposed Sec. 248.204(c)(2) would
require that covered BDs and IAs provide a succinct description of
their incentive-based compensation policies and procedures. Proposed
Sec. 248.204(c)(3) would require that covered BDs and IAs with total
consolidated assets of $50 billion or more provide the Commission with
a succinct description of incentive-based compensation policies and
procedures applicable to executive officers and other covered persons
whom the board of directors, or a committee thereof, has identified as
having the ability to expose the institution to possible losses that
are substantial in relation to the firm's size, capital, or overall
risk tolerance. Proposed Sec. 248.204(c)(4) would require covered BDs
and IAs to describe the material changes to the firm's incentive based
compensation arrangements. Proposed Sec. 248.204(c)(5) would require
each covered BD and IA to describe the specific reasons why it believes
the structure of its incentive-based compensation does not encourage
inappropriate risks by the covered financial institution by providing
covered persons with excessive compensation or incentive-based
compensation that could lead to material financial loss to the covered
financial institution.
Based on the initial and ongoing burden the Commission estimated in
connection with the adoption of the executive compensation reporting
requirements for public companies filing Form 10-Ks under the Exchange
Act (i.e. Item 402 of Regulation S-K), the Commission estimates that
the burden for the covered BD and IA respondents imposed by the
proposed reporting requirements would be 100 hours.\41\ Since the
proposed rule does
[[Page 21189]]
not provide for different reporting requirements for smaller covered
BDs and IAs with assets between $1 billion and $50 billion and for
larger firms with assets of at least $50 billion, the Commission has
not estimated separate reporting burdens for larger covered BDs and
IAs. Therefore, the Commission estimates a collective reporting burden
of 20,000 hours for covered BDs and IAs.\42\
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\41\ The Commission estimated that public company respondents
would incur approximately 95 hours of annual burden in connection
with the adoption of Item 402 of Regulation S-K. See Securities Act
of 1933 Release No. 8432A and Securities Exchange Act Release No.
54302A.(August 29, 2006), 71 FR 53158, 53217 (September 8, 2006)
(S7-03-06). The Commission is rounding this number up to 100 for the
instant proposed rule estimate.
\42\ 200 covered BDs and IAs x 100 hours = 20,000 hours.
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(B) Documentation of Determining Designated Persons (Section
248.205(b)(3)(ii)(B))
For covered BDs and IAs with assets of at least $50 billion,
proposed Sec. 248.205(b)(3)(ii)(B) would require a firm's board of
directors, or a committee thereof, to identify those covered persons
(other than executive officers) that individually have the ability to
expose the institution to possible losses that are substantial in
relation to the institution's size, capital, or overall risk tolerance.
These covered persons may include, for example, traders with large
position limits relative to the institution's overall risk tolerance
and other individuals that have the authority to place at risk a
substantial part of the capital of the covered financial institution.
The Agencies propose that the compensation decisions applicable to such
persons must be approved by the firm's board of directors or a
committee of the board and that the covered BD or IA document the
compensation decisions made by the board or its committee.
The Commission estimates that each covered BD and IA with assets of
at least $50 billion would incur 20 hours of burden initially to comply
with the proposed recordkeeping requirements associated with the
proposed rule and 10 hours of burden on an ongoing basis. Therefore,
the Commission estimates an initial collective recordkeeping burden in
connection with the documentation requirement provided in Sec.
248.205(b)(3)(ii)(B) is 600 hours for covered BDs and IAs with assets
of at least $50 billion.\43\ The Commission estimates the ongoing
collective recordkeeping burden in connection with this requirement to
be 300 hours for covered BDs and IAs with assets of at least $50
billion.\44\
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\43\ 30 covered BDs and IAs with assets of at least $50 billion
x 20 hours = 600 hours.
\44\ 30 covered BDs and IAs with assets of at least $50 billion
x 10 hours = 300 hours.
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(C) Required Policies and Procedures
Proposed Sec. 248.206(a) would require covered financial
institutions to adopt and maintain policies and procedures reasonably
designed to ensure and monitor compliance with 12 U.S.C. 5641,
commensurate with the size and complexity of the organization and the
scope and nature of its use of incentive-based compensation. As
described in further detail above, proposed Sec. 248.206(b) would
require that the policies and procedures, at a minimum, are consistent
with the disclosure requirements and prohibitions in other parts of the
proposed rule, ensure that risk management or oversight personnel have
a role in designing and assessing incentive-based compensation
arrangements, provide for independent monitoring of the incentive-based
compensation awards, risks taken and actual outcomes, require that a
covered financial institution's board receive data and analysis from
management and other sources sufficient to enable the board to assess
whether the incentive-based compensation arrangements are consistent
with 12 U.S.C. 5641, and require sufficient documentation of the
covered financial institution's incentive-based compensation
arrangements to enable the Commission to determine the covered BDs or
IAs compliance with 12 U.S.C. 5641. In addition, the proposal would
require that the covered BDs' and IAs' policies and procedures include
certain features when a firm uses deferral in connection with an
incentive-based compensation arrangement, and that the policies and
procedures subject incentive-based compensation arrangements to a
corporate governance framework.
Many covered BDs and IAs are already conforming to the incentive-
based compensation standards reflected in the Guidance because they are
affiliated with banking organizations supervised by the FRB, OCC, OTS
or FDIC that have already altered their incentive-based compensation
arrangements and policies and procedures following the publication of
the Guidance. The Guidance applies to all banking organizations
supervised by the FRB, OCC, OTS or FDIC, including national banks,
State member banks, State nonmember banks, savings associations, U.S.
bank holding companies, savings and loan holding companies, the U.S.
operations of foreign banks with a branch, agency or commercial lending
company in the United States, and Edge and agreement corporations
(collectively ``banking organizations'').\45\ Based upon information
filed with the Commission and the staff's discussions with a number of
BDs and its review of the public filings of covered BDs, IAs and
certain parent companies, the Commission believes that covered BDs and
IAs affiliated with banking organizations (``covered bank BDs and
IAs'') have already altered their incentive-based compensation policies
and procedures and corresponding arrangements in conjunction with their
affiliated banking organizations that are subject to the Guidance.
Based on public filings with the Commission, the SEC estimates that
there are approximately 25 covered bank BDs and IAs with total
consolidated assets of at least $50 billion and approximately 85
covered bank BDs and IAs with total consolidated assets between $1
billion and $50 billion.\46\ Therefore, covered bank BDs and IAs should
bear significantly less burden than those covered BDs and IAs not
already subject to the Guidance (``covered non-bank BDs and IAs'') to
develop and maintain policies and procedures as required in the
proposed rules. The Commission requests comment on its estimated number
of covered bank BDs and IAs.
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\45\ See Guidance 75 FR at 36398.
\46\ The Commission estimates that there are approximately 20
covered bank BDs with assets of at least $50 billion and 35 covered
bank BDs with assets between $1 billion and $50 billion. The
Commission bases the estimates for covered bank BDs upon data
submitted to the Commission in FOCUS reports (i.e. Form X-17A-5 Part
II). The Commission estimates that there are approximately 5 covered
bank IAs with assets of at least $50 billion and 50 covered bank IAs
with assets between $1 billion and $50 billion. The estimates for
covered bank IAs are based upon data submitted to the Commission in
Form ADV (i.e. Form ADV Part 1A, Items 6.A.(6) and 7.A.(5)).
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The Commission believes that the covered bank BDs and IAs would
incur approximately the same recordkeeping burden as the banking
organizations. Based on the initial estimates of recordkeeping burden
provided by FRB, OCC, FDIC and OTS for proposed Sec. 248.206, the
Commission estimates an initial recordkeeping burden of 80 hours for
each covered bank BD and IA with $50 billion or more in total
consolidated assets and 40 hours of initial recordkeeping burden for
each covered bank BD and IA with total consolidated assets between $1
billion and $50 billion. Based on the ongoing estimates of
recordkeeping burden provided by FRB, OCC, FDIC and OTS, the Commission
believes that each covered bank BD and IA respondent with total
consolidated assets of at least $50 billion would incur approximately
30 hours of ongoing recordkeeping burden
[[Page 21190]]
and each covered bank BD and IA respondent with total consolidated
assets between $1 billion and $50 billion would incur approximately 10
hours of recordkeeping burden on an ongoing basis.
For covered non-bank BDs and IAs, the Commission estimates a
significantly higher burden, namely the amount of burden that the
banking agencies originally estimated in the Guidance (480 hours of
initial burden, rounded up to 500 in the instant proposal and 40 hours
of ongoing burden) \47\ in addition to the amounts that the FRB, OTS,
FDIC and OCC estimated in connection with the instant proposed rule.
The Commission estimates that there are approximately 75 covered non-
bank BDs with assets between $1 billion and $50 billion, 10 covered
non-bank IAs with assets between $1 billion and $50 billion and 5
covered non-bank IAs with assets of at least $50 billion.\48\
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\47\ See Guidance, 75 FR at 36403.
\48\ The Commission estimates that there are approximately 75
covered non-bank BDs with assets between $1 billion and $50 billion
. The Commission estimates that there are approximately 5 covered
non-bank IAs with assets of at least $50 billion and 10 covered non-
bank IAs with assets between $1 billion and $50 billion. The
Commission bases these estimates upon data submitted to the
Commission in FOCUS reports (i.e. Form X-17A-5 Part II) and in Form
ADV (i.e. Form ADV Part 1A, Items 6.A.(6) and 7.A.(5)). See supra
note 46. It is difficult to determine whether any unregistered
advisers are non-bank IAs that are not subject to the Guidance.
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Therefore, for covered non-bank BDs and IAs, the Commission
estimates an initial recordkeeping burden estimate of 580 hours \49\
for covered BDs and IAs with $50 billion or more in total consolidated
assets and 540 hours \50\ of recordkeeping burden for covered BDs and
IAs with total consolidated assets between $1 billion and $50 billion.
The Commission estimates that covered non-bank BD and IA respondents
with total consolidated assets of at least $50 billion would incur
approximately 70 hours \51\ of ongoing recordkeeping burden while those
covered non-Bank BDs and IAs with total consolidated assets between $1
billion and $50 billion would incur approximately 50 hours \52\ of
ongoing recordkeeping burden.
Total SEC initial and annual recordkeeping and reporting burdens
(from proposed Section 248.205(b)(iii)(2)(B) and proposed Section
248.206):
----------------------------------------------------------------------------------------------------------------
Covered bank Covered bank Covered non- Covered non-
BDs and IAs BDs and IAs bank BDs and bank BDs and IAs
($50B +) ($1B-$50B) IAs ($50B +) ($1B-$50B)
(hours) (hours) (hours) (hours)
----------------------------------------------------------------------------------------------------------------
Initial Reporting............................. \53\ 2,500 \54\ 8,500 \55\ 500 \56\ 8,500
Initial Recordkeeping......................... \57\ 2,500 \58\ 3,400 \59\ 3,000 \60\ 46,000
Ongoing Reporting............................. \61\ 2,500 \62\ 8,500 \63\ 500 \64\ 8,500
Ongoing Recordkeeping......................... \65\ 1,000 \66\ 1,000 \67\ 400 \68\ 4,300
----------------------------------------------------------------------------------------------------------------
D. External Costs
The Commission also believes that the proposed rules would likely
generate external costs to the covered BDs and IAs, particularly at the
stage of preparing the initial reports required by Sec. 248.204 and
initially developing and implementing the policies and procedures in
compliance with Sec. 248.206. Covered BDs and IAs may elect to hire
various types of professionals, including attorneys, benefits
consultants, and accountants. The Commission estimates that the covered
BDs and IAs would hire professionals to prepare the necessary reports
and develop and maintain the necessary policies and procedures at
approximately the same hourly level as the covered BDs and IAs assume
internally (e.g. covered bank BDs and IAs with at least $50 billion in
assets would collectively use approximately the equivalent of 2,500
hours worth of professionals' time to prepare the required reports, in
addition to the covered bank BDs' and IAs' internal burden to prepare
them).
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\49\ 500 hours (from Guidance) + 80 hours (from the estimate
provided by the Fed, OCC, FDIC and OTS in instant proposed rule) =
580 hours.
\50\ 500 hours (from Guidance) + 40 hours (from the estimate
provided by the Fed, OCC, FDIC and OTS in instant proposed rule) =
540 hours.
\51\ 40 hours (from Guidance) + 30 hours (from the estimate
provided by the Fed, OCC, FDIC and OTS in instant proposed rule) =
70 hours.
\52\ 40 hours (from Guidance) + 10 hours (from the estimate
provided by the Fed, OCC, FDIC and OTS in instant proposed rule) =
50 hours.
\53\ (20 covered bank BDs with assets of at least $50B + 5
covered bank IAs with assets of at least $50B) x 100 hours = 2,500
hours.
\54\ (35 covered bank BDs with assets between $1B and $50B + 50
covered bank IAs with assets between $1B and $50B) x 100 hours =
8,500 hours.
\55\ 5 covered non-bank IAs with assets of at least $50B x 100
hours = 500 hours.
\56\ (75 covered non-bank BDs with assets between $1B and $50B +
10 covered non-bank IAs with assets between $1B and $50B) x 100
hours = 8,500 hours.
\57\ (20 covered bank BDs with assets of at least $50B + 5
covered bank IAs with assets of at least $50B) x 80 hours + ((20
covered bank BDs + 5 covered bank IAs) x 20 hours in connection with
proposed Section 248.205(b)(3)(ii)(B)) = 2,500 hours.
\58\ (35 covered bank BDs with assets between $1B and $50B + 50
covered bank IAs with assets between $1B and $50B) x 40 hours =
3,400 hours.
\59\ 5 covered non-bank IAs with assets of at least $50B x 580
hours + ((5 covered non-bank IAs with assets of at least $50B) x 20
hours in connection with proposed Section 248.205(b)(3)(ii)(B)) =
3,000 hours.
\60\ (75 covered non-bank BDs with assets between $1B and $50B +
10 covered non-bank IAs with assets between $1B and $50B) x 540
hours = 45,900 hours.
\61\ (20 covered bank BDs with assets of at least $50B + 5
covered bank IAs with assets of at least $50B) x 100 hours = 2,500
hours.
\62\ (35 covered bank BDs with assets between $1B and $50B + 50
covered bank IAs with assets between $1B and $50B) x 100 hours =
8,500 hours.
\63\ 5 covered non-bank IAs with assets of at least $50B x 100
hours = 500 hours.
\64\ (75 covered non-bank BDs with assets between $1B and $50B +
10 covered non-bank IAs with assets between $1B and $50B) x 100
hours = 8,500 hours.
\65\ (20 covered bank BDs with assets of at least $50B + 5
covered bank IAs with assets of at least $50B) x 30 hours + ((20
covered bank BDs + 5 covered bank IAs) x 10 hours in connection with
proposed Section 248.205(b)(3)(ii)(B)) = 900 hours.
\66\ (35 covered bank BDs with assets between $1B and $50B + 50
covered bank IAs with assets between $1B and $50B) x 10 hours = 850
hours.
\67\ 5 covered non-bank IAs with assets of at least $50B x 70
hours + ((5 covered non-bank IAs with assets of at least $50B) x 10
hours in connection with proposed Section 248.205(b)(3)(ii)(B)) =
400 hours.
\68\ (75 covered non-bank BDs with assets between $1B and $50B +
10 covered non-bank IAs with assets between $1B and $50B) x 50 hours
= 4,250 hours.
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The Commission believes that there would be approximately an equal
balance of attorneys,\69\ benefits
[[Page 21191]]
consultants,\70\ actuaries \71\ and accountants \72\ that are hired at
each covered BD or IA. The chart below summarizes the external costs
that the Commission estimates covered BDs and IAs would assume
collectively in connection with the proposed rule. The Commission
requests comments on these external cost estimates, including the
hourly rate that the Commission estimates for external attorneys,
benefits consultants, actuaries and accountants.
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\69\ An outside attorney's salary range is estimated at $400 an
hour based on industry sources. See Securities Exchange Act Release
No. 62174 (May 26, 2010) at note 510, 75 FR 32556 (June 8, 2010)
(S7-15-09). The Commission requests comment on this estimate.
\70\ An outside management consultant's salary range (national
averages) is available from http://www.payscale.com. Using their
data from the 75th percentile, adjusting it for an 1800-hour work
year, and multiplying by the 5.35 factor which normally is used to
include benefits but here is used as an approximation to offset the
fact that New York salaries are typically higher than the rest of
the country, the result is $596 per hour (rounded to $600). The
Commission requests comment on this estimate.
\71\ An outside actuary's salary range (national averages) is
available from http://www.payscale.com. Using their data from the
75th percentile, adjusting it for an 1800-hour work year, and
multiplying by the 5.35 factor which normally is used to include
benefits but here is used as an approximation to offset the fact
that New York salaries are typically higher than the rest of the
country, the result is $330 per hour. The Commission requests
comment on this estimate.
\72\ An outside accountant's salary range is available from the
U.S. Bureau of Labor Statistics, Occupational Employment Statistics
Web site. Using their data for median salaries from New York State,
which has the highest rates in the country, and multiplying by the
5.35 factor which is used to include benefits, the result is $250
per hour. The Commission requests comment on this estimate.
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Total SEC estimated external recordkeeping costs:
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\73\ 2,500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $987,500.
\74\ 8,500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $3,357,500.
\75\ 500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25% x
$330/hour) + (25% x $250/hour)] = $197,500.
\76\ 8,500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $3,357,500.
\77\ 2,500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $987,500.
\78\ 3,400 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $1,343,000.
\79\ 3,000 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $1,185,000.
\80\ 46,000 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $18,170,000.
\81\ 2,500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $987,500.
\82\ 8,500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $3,357,500.
\83\ 500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25% x
$330/hour) + (25% x $250/hour)] = $197,500.
\84\ 8,500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $3,357,500.
\85\ 1,000 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $395,000.
\86\ 1,000 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $395,000.
\87\ 400 hours x [(25% x $400/hour) + (25% x $600/hour) + (25% x
$330/hour) + (25% x $250/hour)] = $158,000.
\88\ 4,300 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $1,698,500.
----------------------------------------------------------------------------------------------------------------
Covered bank Covered bank Covered non- Covered non-
BDs and IAs BDs and IAs bank BDs and bank BDs and
($50B +) ($1B-$50B) IAs ($50B +) IAs ($1B-$50B)
(million) (million) (million) (million)
----------------------------------------------------------------------------------------------------------------
Initial Reporting............................. \73\ $1 \74\ $3.4 \75\ $200,000 \76\ $3.4
Initial Recordkeeping......................... \77\ 1 \78\ 1.3 \79\ 1.2 \80\ 18
Ongoing Reporting............................. \81\ 1 \82\ 3.4 \83\ 200,000 \84\ 3.4
Ongoing Recordkeeping......................... \85\ 400,000 \86\ 400,000 \87\ 150,000 \88\ 1.7
----------------------------------------------------------------------------------------------------------------
Board
Number of respondents: 664 (59 institutions with total consolidated
assets of $50 billion or more and 605 institutions with total
consolidated assets between $1 billion and $50 billion).
Burden per respondent for initial set up: 180 hours for
institutions with $50 billion or more in total consolidated assets (80
hours for reporting requirements and 100 hours for recordkeeping
requirements) and 70 hours for institutions between $1 billion and $50
billion in total consolidated assets (30 hours for reporting
requirements and 40 hours for recordkeeping requirements).
Burden per respondent for ongoing compliance: 70 hours for
institutions with $50 billion or more in total consolidated assets (40
hours for reporting requirements and 30 hours for recordkeeping
requirements) and 25 hours for institutions between $1 billion and $50
billion in total consolidated assets (15 hours for reporting
requirements and 10 hours for recordkeeping requirements).
Total Board annual burden: 72,225 hours (52,970 hours for initial
set-up and 19,255 hours for ongoing compliance).
C. OTS Executive Orders 12866 and 13563 Determination
Executive Order 13563, ``Improving Regulation and Regulatory
Review,'' affirms and supplements Executive Order 12866, ``Regulatory
Planning and Review,'' which requires Federal agencies to prepare a
regulatory impact analysis for agency actions that are found to be
``significant regulatory actions.'' Significant regulatory action means
any regulatory action that is likely to result in a rule that may:
(1) Have an annual effect on the economy of $100 million or more or
adversely affect in a material way the economy, a sector of the
economy, productivity, competition, jobs, the environment, public
health or safety, or State, local, or tribal governments or
communities;
(2) Create a serious inconsistency or otherwise interfere with an
action taken or planned by another agency;
(3) Materially alter the budgetary impact of entitlements, grants,
user fees, or loan programs or the rights and obligations of recipients
thereof; or
(4) Raise novel legal or policy issues arising out of legal
mandates, the President's priorities, or the principles set forth in
the Executive order.\89\
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\89\ See 58 FR 51735 (Oct. 4, 1993), as amended.
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Based on its initial assessment, OTS anticipates that the proposed
rule (if the final rule is the same as the proposed rule) would not be
economically significant. Nonetheless, OTS solicits comment on the
economic impact.
OTS does not anticipate that the proposal would create a serious
inconsistency or otherwise interfere with an action taken or planned by
another agency. OTS's proposal is essentially the same as the proposal
of every other Federal agency regulating the financial services
industry. Thus, rather than creating any inconsistency, by being part
of this joint interagency proposal, OTS's portion adds to the
consistency of regulations on incentive-based compensation that will
encompass the financial services industry.
[[Page 21192]]
OTS does not anticipate that the proposal would materially alter
the budgetary impact of entitlements, grants, user fees, or loan
programs or the rights and obligations of recipients thereof. The
proposal does not have any provisions related to those subjects.
The Office of Management and Budget's Office of Information and
Regulatory Affairs has designated this proposed rule to be a
significant regulatory action that is likely to result in a rule that
may raise novel legal or policy issues arising out of legal mandates,
the President's priorities, or the principles set forth in Executive
Orders 12866 and 13563. OTS notes that the proposal does raise some
similar issues as were raised by the Banking Agency Guidance issued
June 25, 2010, and the 1995 Federal banking agency guidelines
implementing the compensation-related and other safety and soundness
standards in section 39 of the FDIA (codified at 12 CFR pt. 570, App.
A).
Need for Regulatory Action
The proposed rule is required by section 956 of the Dodd-Frank Act.
Thus, the proposal is needed to fulfill the statutory mandate that OTS
and the other agencies participating in this joint rulemaking prescribe
regulations or guidelines that:
1. Prohibit incentive-based payment arrangements, or any feature of
any such arrangement, at a covered financial institution that the
Agencies determine encourage inappropriate risks by a financial
institution by providing excessive compensation or that could lead to a
material financial loss.
2. Require covered financial institutions to disclose to its
appropriate Federal regulator the structure of its incentive-based
compensation arrangements sufficient to determine whether the structure
provides ``excessive compensation, fees, or benefits'' or ``could lead
to material financial loss'' to the institution.
3. Are comparable to the existing compensation-related safety and
soundness standards applicable to insured depository institutions under
section 39 of the FDIA (12 U.S.C. 1831p-1(c)) (12 CFR pt. 570, App. A
for OTS).
The legislative history of the Dodd-Frank Act describes the reasons
Congress believed section 956 of the Dodd-Frank Act was needed.\90\
Further information and analysis is contained in the Final Report of
the Financial Crisis Inquiry Commission.\91\ OTS's portion of the
proposed rule is intended to enhance the regulatory oversight of
incentive compensation schemes at larger OTS-regulated savings
associations and savings and loan holding companies so as to help
ensure that compensation at such institutions is neither excessive in
itself nor encourages excessive risk taking.
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\90\ See H.R. Rep. 111-236, Corporate and Financial Institution
Compensation Fairness Act of 2009, at 6 (2009). For additional
legislative history, see Compensation Structure and Systemic Risk:
Hearing Before the H. Comm. on Financial Services, 111th Cong.
(2009).
\91\ Final Report of the National Commission on the Causes of
the Financial and Economic Crisis in the United States, January
2011, available at http://c0182732.cdn1.cloudfiles.rackspacecloud.com/fcic_final_report_full.pdf. The report contains discussion of financial sector
executive compensation practices, including on pages 61-65.
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Scope of Proposed Rule
Section 956 of the Dodd-Frank Act defines ``covered financial
institutions'' to include depository institutions and depository
institution holding companies, as defined in section 3 of the FDIA,
with assets of $1 billion or more. OTS's portion of the proposed rule
applies to savings associations and savings and loan holding companies
with $1 billion or more in total consolidated assets that have
incentive-based compensation programs.
With regard to savings associations, as of December 31, 2010, OTS
supervised 731 savings associations with a combined total of $932
billion in assets. The largest savings association had assets of $88
billion. Only three other savings associations had assets greater than
$50 billion. The smallest savings association had assets of $3.5
million. Of the 731 savings associations, 103 have more than a $1
billion each in total assets and thus are covered by the proposed rule
(assuming they all have incentive-based compensation programs). Those
103 savings associations represent 85% of all thrift industry assets
($793 billion of the total $932 billion). To put this in context,
however, the latest available data on commercial banks (dated September
30, 2010) show 508 commercial banks with assets of $1 billion or more,
but with combined total assets of $11 trillion, more than eleven times
the amount of assets compared to OTS supervised savings associations of
$1 billion or more.
With regard to savings and loan holding companies, as of December
31, 2010, OTS supervised 102 savings and loan holding companies.
Savings and loan holding companies are companies that own or control
one or more savings associations. Excluding 42 shell holding companies
that do not have incentive-based compensation programs, there are 60
savings and loan holding companies with aggregate consolidated assets
of $3.1 trillion dollars that are covered by the proposed rule
(assuming they all have incentive-based compensation programs).
Individually, these companies have consolidated assets ranging from $1
billion to over $750 billion, and vary in complexity as well as size.
They conduct a wide range of activities beyond those conducted by the
saving association(s) they control. These range from activities closely
related to banking, such as insurance and securities brokerage, to
activities conducted by large, multinational corporations, such as
retailing and manufacturing.
Therefore, altogether, OTS's portion of the proposed rule would
affect a maximum of 163 OTS-supervised institutions (103 savings
associations and 60 savings and loan holding companies).
OTS further notes that the Board, OCC, and FDIC will assume
supervisory and rulemaking responsibility for entities currently
supervised and regulated by OTS on the transfer date provided in Title
III of the Dodd-Frank Act. That date is expected to be July 21, 2011.
These agencies expect to adopt, or incorporate, as appropriate, any
final rule adopted by OTS as part of this rulemaking for relevant
covered financial institutions that come under their respective
supervisory authority after the transfer date.
Types of Impact of Proposed Rule
OTS reviewed existing practices at a subset of these 163
institutions to determine how much the rule would add to the current
cost of administering incentive-based compensation programs. A covered
financial institution would have to:
1. Submit an annual report to OTS describing the structure of its
incentive-based compensation program in sufficient detail for OTS to
determine whether the program provides excessive compensation or
compensation that could lead to material loss to the institution. The
annual report would have to include an analysis of the characteristics
of the incentive-based compensation program that prevent excessive
compensation and/or mitigate risk of material financial loss.
2. Review and, if necessary, redesign its incentive-based
compensation system to ensure it has the elements necessary to
adequately manage the risks arising from incentive-based compensation.
The rule would contain a list of the minimum elements to be included in
the policies and procedures.
[[Page 21193]]
3. Conduct ongoing monitoring and, as appropriate, auditing of the
incentive-based compensation program to ensure that it does, in fact,
allocate incentive-based compensation in a way that is not excessive
and does not encourage inappropriate risks.
In estimating the implementation costs to covered financial
institutions, OTS assumed that costs would generally fall in four
areas:
1. Initially reviewing incentive-based compensation programs to
determine whether program modifications are needed;
2. Modifying incentive-based compensation programs, where needed;
3. Ongoing monitoring of incentive-based compensation programs to
ensure continued compliance; and
4. Preparing and submitting required annual reports on the programs
to OTS.
Almost all of the covered financial institutions have incentive-
based compensation programs. Each covered financial institution,
therefore, would need to perform an initial review to determine whether
modifications would be needed. This initial review would also include
the analysis necessary to prepare the first report to OTS.
Those institutions needing modifications would have to expend
further resources to design and implement compliant systems that fit
the institution's business strategy and internal structure. The
complexity and length of this process would vary depending on the size
of the institution, the scope of the institution's incentive-based
compensation program, and the extent of necessary modifications.
The rule's burden would be minimized by granting covered financial
institutions the latitude to employ a variety of means to mitigate the
risks posed by their current incentive-based compensation programs.
While institutions would have to develop policies and procedures that
provide clear expectations, institutions could choose the incentive-
based compensation risk balancing measures that best address their
employees and their risks.\92\
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\92\ The Federal Banking Agency Guidance presents and discusses
these measures.
---------------------------------------------------------------------------
OTS's provisional assessment is that most covered financial
institutions would have to make minimal changes to their systems
covering:
1. Compensation to executives;
2. The oversight exercised by the board and compensation committee;
3. The scope of risk management; and
4. The role of internal audit.
Some of the key restrictions in the proposed rule are restrictions
that covered financial institutions are already observing. Section
563h.5(a) would provide that a covered financial institution must not
establish or maintain any type of incentive-based compensation
arrangement, or any feature of any such arrangement, that encourages
inappropriate risks by the covered financial institution by providing a
covered person with excessive compensation. Section 563h.5(b) would
provide that a covered financial institution must not establish or
maintain any type of incentive-based compensation arrangement, or any
feature of any such arrangement, that encourages inappropriate risks by
the covered financial institution, by providing incentive-based
compensation to covered persons, either individually or as part of a
group of persons who are subject to the same or similar incentive-based
compensation arrangements, that could lead to material financial loss
to the covered financial institution.
OTS and the other Federal banking regulators have long required
depository institutions to conform their compensation practices to
principles of safety and soundness.\93\ Since 1995, OTS and the other
Federal banking regulators have specifically prohibited depository
institutions from paying compensation, fees, and benefits that are
excessive or that could lead to material financial loss to the
institutions.\94\ Since 1995, OTS and the other Federal banking
regulators have also specified that compensation that could lead to
material financial loss to an institution is prohibited as an unsafe
and unsound practice.\95\ The standards specified in Sec. 563h.5(a)(2)
for determining whether an incentive-based compensation arrangement
provides excessive compensation are taken directly from the existing
1995 guidelines.\96\
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\93\ See section 39(c) of FDIA, 12 U.S.C. 1831p-1(c).
\94\ See 12 CFR part 570, App. A, paragraph II.I.
\95\ See 12 CFR part 570, App. A, paragraph III.B.
\96\ See 12 CFR part 570, App. A, paragraph III.A.
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Since June 25, 2010, OTS and the other Federal banking regulators
have maintained guidance designed to help ensure that incentive-based
compensation policies at banking organizations do not encourage
imprudent risk-taking and are consistent with the safety and soundness
of the organization, including guidance on methods such as deferral
that make compensation more sensitive to risk. The requirements
specified in Sec. 563h.5(b)(2) for avoiding incentive-based
compensation arrangements that could lead to material financial loss
are taken directly from the guidance.\97\ Most covered financial
institutions, therefore, already have the listed elements in place.
Further, a recent report of the Basel Committee on Banking Supervision
(BCBS) noted that most larger institutions already use management
accounting to map company performance to business units, and largely
employ risk-adjusted return to capital and other economic efficiency
measures to assess performance when making incentive-based compensation
allocation decisions.\98\
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\97\ 75 FR at 36405.
\98\ BCBS Consultative paper: Range of Methodologies for Risk
and Performance Alignment of Remuneration, available at http://www.bis.org/publ/bcbs178.pdf.
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Even the reporting requirements of Sec. 563h.4 of the proposed
rule would not be completely new for many institutions. Publicly listed
institutions already disclose their incentive-based compensation
systems.\99\
---------------------------------------------------------------------------
\99\ SEC regulation 17 CFR 229.402(a)(2) requires listed
companies to disclose all elements of the compensation provided to
``named executive officers'' and ``directors.''
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As a group, covered financial institutions are likely to make more
significant changes to incentive-based compensation programs for non-
executive employees and, to some degree, principal shareholders. While
institutions have in place most of the internal policies and procedures
necessary to run an incentive-based compensation program for these two
groups, modifications would likely be necessary to ensure full
compliance.
Larger institutions, defined as having total consolidated assets of
$50 billion or more, would have to defer at least 50 percent of the
annual incentive-based compensation of executive officers for at least
three years. These institutions would also apply special review and
approval requirements for the incentive-based compensation arrangements
for material risk takers. Among OTS-supervised institutions, 13 holding
companies and 4 thrifts would be subject to this requirement. These 17
institutions would likely need to make changes to their compensation
programs, as it appears that none of them currently defers the required
percentage of incentive-based compensation for the required amount of
time.
Finally, institutions have an ongoing requirement to prepare annual
reports and administer their incentive-based compensation program in
compliance with the rule. The administration of the program would
include calculating the amount of compensation subject to risk-based
adjustment (e.g., deferral),
[[Page 21194]]
calculating the performance metrics upon which incentive compensation
are based, ensuring that independent review of compensation awards is
conducted, and assessing the effectiveness of risk-based adjustments to
incentive-based compensation payouts. As previously mentioned,
institutions generally take these actions to comply with existing
safety and soundness regulations and guidance.
To assist the public in understanding how OTS's proposed rule (12
CFR part 563h) compares with Federal Banking Agency Guidelines from
1995 (12 CFR part 570, App. A), and the Federal Banking Agency Guidance
from 2010 (75 FR 36395), OTS provides the following summary in bullet
form:
1. Applicability
Proposed Rule--Applies to those savings associations and
savings and loan holding companies that have total consolidated assets
of $1 billion or more and offer incentive-based compensation
arrangements to covered persons (Sec. Sec. 563h.2 and 563h.3).
1995 Guidelines--Applies to all savings associations (]
I.i).
2010 Guidance--Applies to all savings associations (p.
36405 n.2).
2. Reports
Proposed Rule--Requires annual reports to OTS describing
the structure of incentive-based compensation arrangements; sets
minimum standards for the reports. (Sec. 563h.4)
1995 Guidelines--No comparable provision.
2010 Guidance--No comparable provision.
3. Excessive compensation
Proposed Rule--Prohibits establishing or maintaining any
type of incentive-based compensation arrangement, or any feature of any
such arrangement, for covered persons that encourages inappropriate
risks by providing excessive compensation (Sec. 563h.5(a)(1)). Sets a
standard that an incentive-based compensation arrangement provides
excessive compensation when amounts paid are unreasonable or
disproportionate to the services performed, taking into consideration
seven factors listed in the proposed rule (Sec. 563h.5(a)(2)).
1995 Guidelines--Prohibits excessive compensation as an
unsafe and unsound practice. Sets a standard that compensation is
excessive when amounts paid are unreasonable or disproportionate to the
services performed by taking into consideration seven factors listed in
the guidelines. Covers the same categories of persons and lists the
same seven factors as the proposed rule. (] III.A)
2010 Guidance--No comparable provision.
4. Material financial loss
Generally; Requirements for all covered financial institutions
Proposed Rule--Prohibits establishing or maintaining any
type of incentive-based compensation arrangement, or any feature of any
such arrangement, that encourages inappropriate risks by the covered
financial institution, by providing incentive-based compensation to
covered persons, either individually or as part of a group of persons
who are subject to the same or similar incentive-based compensation
arrangements, that could lead to material financial loss to the covered
financial institution (Sec. 563h.5(b)(1)). Specifies that an
incentive-based compensation arrangement established or maintained by a
covered financial institution for one or more covered persons must meet
three criteria listed in the proposed rule (Sec. 563h.5(b)(2)).
1995 Guidelines--Prohibits compensation that could lead to
material financial loss as an unsafe and unsound practice (] III.B).
2010 Guidance--Provides that incentive compensation
arrangements, to be consistent with safety and soundness, should meet
three criteria (p. 36405). The criteria listed are the same as in the
proposed rule.
Specific requirements for covered financial institutions with $50
billion or more in total consolidated assets; Deferral required for
executive officers
Proposed Rule--Specifies that at least 50% of the
incentive-based compensation for an executive officer at an institution
with total consolidated assets of $50 billion or more must be deferred
over a period of no less than three years, with the release of deferred
amounts to occur no faster than on a pro rata basis, and with the
adjustment of the deferred amount to reflect actual losses or other
measures or aspects of performance that are realized or become better
known during the deferral period (Sec. 563h.5(b)(3)(i)).
1995 Guidelines--No comparable provision.
2010 Guidance--No comparable provision.
Specific requirements for covered financial institutions with $50
billion or more in total consolidated assets; additional requirement
for covered persons presenting particular loss exposure
Proposed Rule--Contains special procedures and
restrictions on the incentive-based compensation of covered persons
(other than executive officers) who the institution's board identifies
as having the ability to expose the institution to possible losses that
are substantial in relation to the institution's size, capital, or
overall risk tolerance (Sec. 563h.5(b)(3)(ii)).
1995 Guidelines--No comparable provision.
2010 Guidance--No comparable provision.
5. Policies and procedures
Proposed Rule--Sets minimum standards for policies and
procedures on incentive compensation (Sec. 563h.6).
1995 Guidelines--No comparable provision.
2010 Guidance--No comparable provision. But see discussion
of other policy and procedure requirements (pp. 36403-05).
6. Evasions
Proposed Rule--Anti-evasion provision prohibits, doing
indirectly or through or by any other person, any act or thing that
would be unlawful to do directly (Sec. 563h.7).
1995 Guidelines--No comparable provision.
2010 Guidance--No comparable provision.
Assessment of Impact of Proposed Rule
OTS believes that an institution would spend several hundred person
hours conducting an initial review of its incentive-based compensation
program and making any necessary modifications. All institutions of $1
billion in total consolidated assets or more would have to conduct the
review, and most institutions would have to make some modification to
their incentive-based compensation programs.
OTS estimates that smaller institutions (those with less than $50
billion in assets) would spend, at most, eight weeks (320 person hours)
to perform the initial steps necessary to comply. Among the covered
financial institutions, 146 fall into this category. Using $150 as an
estimate of hourly cost,\100\ the total cost to the smaller
institutions as a group would be $7 million ($150 x 320 hours x 146
institutions). At larger institutions, these modifications would be
more extensive because of the number of individuals involved and the
amount the institution would have to expand and/or adjust risk
sensitivity measures. The larger institutions may require as much as
twice the time as smaller institutions to implement the rule, for an
estimated cost of $1.6 million ($150 x 640 hours x 17 institutions).
The total initial
[[Page 21195]]
implementation costs, therefore, should come to approximately $8.6
million.
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\100\ OTS estimates that legal and administrative expenses would
average, at most, $150 per hour.
---------------------------------------------------------------------------
The subsequent ongoing costs associated with monitoring and
managing incentive-based compensation programs, once established, are
unlikely to be significantly greater than the costs associated with the
administration of current incentive-based programs. OTS, therefore,
believes that the ongoing annual costs of the rule would not exceed
$100 million. As previously discussed, institutions already have in
place most of the mechanisms necessary to implement the rule's
requirements. Once the institution makes adjustments indicated by its
initial analysis, these mechanisms would continue to function as they
do now.
Any ongoing costs in addition to those already incurred would be
for:
1. Production of an annual report;
2. Administration of incentive-based compensation for a broader
range of employees;
3. Administration of a more complex deferral scheme at some
institutions; and
4. More sophisticated risk sensitivity mechanisms.
With respect to item 1, OTS believes that the costs of the annual
report would be minimal. Reports after the first submitted would only
need to document significant changes to the incentive-based
compensation program. Human resource departments maintain descriptions
of their incentive-based compensation programs for internal
administrative purposes; these descriptions could serve as the basis
for regulatory reporting.
With respect to items 2, 3, and 4, OTS anticipates that
institutions would use some additional human resources and risk
management expertise to administer the programs. For the 17 larger
institutions, OTS estimates that the cost of these additional resources
would be about $24,000 per institution annually. For the 146 smaller
institutions, the additional resources would entail additional
personnel and other expenses of less than $12,000 per institution per
year.\101\ Therefore, OTS estimates the annual cost to be about $2.2
million (17 larger institutions x $24,000 = $0.4 million; 146 smaller
institutions x $12,000 = $1.8 million).
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\101\ OTS estimates that for institutions with assets between $1
billion and $50 billion, the costs of managing the additional
elements of the program would entail some personnel and Information
Technology (IT) support. As institutions already have personnel
management software systems in place, either in house or contracted
out, the incremental costs of IT support would be negligible.
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In summary, OTS estimates the costs to the institutions of
implementing the rule as proposed as follow:
First year: $8.6 million + $2.2 million = $10.8 million.
Second and subsequent years: $2.2 million.
Beyond the costs of implementation, OTS assumes that the broader
economic impact of the rule would be negligible. The overall level of
compensation, as set by the forces of supply and demand in the labor
market, is unlikely to change. Any variations in compensation levels
that may occur would be minimal and, given the small number of covered
financial institutions, have no effect on overall demand in the
economy.
If the rule has its desired effect, institutions will take a more
measured approach in their assessment of risk and return. As a result,
the amount of lending in some excessively risky business areas may be
reduced, which in turn may have an economic impact on the areas served
by the 163 OTS-supervised covered financial institutions. Incentive-
based compensation programs that appropriately balance risk and reward
will entail reductions only of economic activity that is unsound and
which, ultimately, entails more cost than benefit to the economy as a
whole. Any reduction in inappropriately risky lending brought about by
the rule, therefore, would be a benefit of the rule.
The recent crisis in financial markets demonstrated the significant
costs that can arise from financial instability; the purpose of the
rule is to enhance the financial stability of the financial sector by
diminishing incentives for inappropriate risk taking. Because the
benefits of financial stability are largely intangible, OTS made no
attempt to quantify them here.
Conclusion
OTS's preliminary estimates of the annualized cost of this rule to
the 163 OTS-supervised covered financial institutions as a group would
be substantially less than $100 million. Moreover, the overall annual
economic impact would not be significant. OTS seeks comment on this
economic impact assessment.
D. OCC Unfunded Mandates Reform Act of 1995 Determination
Section 202 of the Unfunded Mandates Reform Act of 1995 (2 U.S.C.
1532), requires the OCC to prepare a budgetary impact statement before
promulgating a rule that includes a Federal mandate that may result in
the expenditure by State, local, and tribal governments, in the
aggregate, or by the private sector, of $100 million or more in any one
year (adjusted annually for inflation). OCC has determined that this
proposed rule will not result in expenditures by State, local, and
tribal governments, or the private sector, of $100 million or more in
any one year. Accordingly, OCC has not prepared a budgetary impact
statement.
E. OTS Unfunded Mandates Reform Act of 1995 Determination
Section 202 of the Unfunded Mandates Reform Act of 1995, Public Law
104-4 (Unfunded Mandates Act) requires that an agency prepare a
budgetary impact statement before promulgating a rule that includes a
Federal mandate that may result in expenditure by State, local, and
tribal governments, in the aggregate, or by the private sector, of $100
million or more (adjusted annually for inflation) in any one year. (The
inflation adjusted threshold for 2011 is $142 million or more.) If a
budgetary impact statement is required, section 205 of the Unfunded
Mandates Act also requires an agency to identify and consider a
reasonable number of regulatory alternatives before promulgating a
rule.
OTS has determined that this proposed rule will not result in
expenditures by State, local, and tribal governments, or the private
sector, in excess of the threshold. Accordingly, OTS has not prepared a
budgetary impact statement.
F. NCUA Executive Order 13132 Determination
Executive Order 13132 encourages independent regulatory agencies to
consider the impact of their actions on state and local interests. In
adherence to fundamental federalism principles, the NCUA, an
independent regulatory agency as defined in 44 U.S.C. 3502(5)
voluntarily complies with the Executive Order. The Proposed Rule
applies to credit unions with $1 billion in assets and over and would
not have substantial direct effects on the states, on the connection
between the national government and the states, or on the distribution
of power and responsibilities among the various levels of government.
The NCUA has determined that the Proposed Rule does not constitute a
policy that has federalism implications for purposes of the Executive
Order.
G. NCUA and FDIC: The Treasury and General Government Appropriations
Act, 1999--Assessment of Federal Regulations and Policies on Families
The NCUA and FDIC have determined that this Proposed Rule would not
affect family well-being within the meaning of section 654 of the
Treasury and General Government Appropriations Act, 1999,
[[Page 21196]]
Public Law 105-277, 112 Stat. 2681 (1998).
H. SEC Economic Analysis
Economic Analysis
As discussed above, 12 U.S.C. 5641 requires the Commission, jointly
with other appropriate Federal regulators, to prescribe regulations or
guidelines to require covered financial institutions to disclose
information about their incentive-based compensation arrangements
sufficient for the Agencies to determine whether their compensation
structure provides an executive officer, employee, director or
principal shareholder with excessive compensation, fees or benefits or
could lead to material financial loss to the firm.\102\ 12 U.S.C. 5641
also requires the Agencies to prescribe joint regulations or guidelines
that prohibit any type of incentive-based compensation arrangements
that the Agencies determine encourages inappropriate risks by covered
financial institutions by providing excessive compensation to officers,
employees, directors, or principal shareholders (``covered persons'')
or that could lead to material financial loss to the covered financial
institution.\103\
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\102\ 12 U.S.C. 5641(a).
\103\ 12 U.S.C. 5641(b).
---------------------------------------------------------------------------
The Agencies have determined that it is appropriate to propose
rules, instead of guidelines, as permitted under 12 U.S.C. 5641. The
Commission believes that broker-dealers and investment advisers would
benefit from the greater predictability afforded by rules. Such greater
predictability would facilitate broker-dealers' and investment
advisers' ability to design compliance policies and procedures. The
rule being proposed by the Agencies consists of a reporting section, a
prohibition section, and a policies and procedures section. The
reporting section requires enhanced reporting of incentive-based
compensation arrangements for covered persons by a covered financial
institution to such institution's appropriate Federal regulator. The
prohibition section forbids incentive-based compensation arrangements
that encourage covered persons to expose the institution to
inappropriate risks by providing the covered person excessive
compensation and prohibits incentive-based compensation arrangements
that encourage covered persons to expose the covered financial
institutions to inappropriate risks that could lead to a material
financial loss. The policies and procedures section requires that the
covered financial institutions maintain policies and procedures to
ensure compliance with these requirements and prohibitions. The
Commission is sensitive to the costs and benefits imposed on broker-
dealers registered with the Commission under section 15 of the
Securities Exchange Act (``registered broker-dealers'') and investment
advisers, as defined in section 202(a)(11) of the Investment Advisers
Act of 1940 (``investment advisers''). The discussion below focuses on
the costs and benefits applicable to registered broker-dealers and
investment advisers that meet the definition of ``covered financial
institution'' under the proposed rule (collectively ``covered BDs and
IAs''). The discussion addresses the decisions made jointly by the
Agencies to fulfill the mandates of the Dodd-Frank Act within the
Agencies' permitted discretion, rather than the costs and benefits of
the mandates of the Dodd-Frank-Act itself. However, to the extent that
the Commission's discretion is exercised to realize the benefits
intended by the Dodd-Frank Act or to impose the costs associated with
the Dodd-Frank Act, the two types of benefits and costs are not
entirely separable. Therefore, the Paperwork Reduction Act (``PRA'')
hourly burden estimates made in accordance with the requirements of the
PRA, and their corresponding dollar cost estimates, are included in the
calculations below.
A. Report of Incentive-Based Compensation Arrangements
In order to fulfill the requirement imposed by 12 U.S.C. 5641(a)
relating to the disclosure of incentive-based compensation
arrangements, the proposal would require a covered financial
institution to submit a report annually to, and in the format directed
by, its regulator, that describes the structure of the covered
financial institution's incentive-based compensation arrangements for
covered persons. Similar to the policies and procedures requirements
under the proposed rule, the annual report would be commensurate with
the size and complexity of the organization, as well as the scope and
nature of its use of incentive-based compensation arrangements. As
such, institutions with no incentive-based compensation arrangements or
arrangements that affect only a few covered persons, would need to
submit only limited information. The report would be required to
contain:
A clear narrative description of the components of the
covered financial institution's incentive-based compensation
arrangements applicable to covered persons, specifying the categories
of covered persons to which they apply;
A succinct description of the covered financial
institution's policies and procedures governing its incentive-based
compensation arrangements;
For covered financial institutions with total consolidated
assets of at least $50 billion, an additional succinct description of
incentive-based compensation policies and procedures specific to the
covered financial institution's executive officers and other covered
persons who the institution's board of directors (or a committee of the
board) has identified and determined have the ability to expose the
institution to possible losses that are substantial in relation to the
institution's size, capital, or overall risk tolerance;
A description of any material changes to the covered
financial institution's incentive-based compensation arrangements and
policies and procedures made since the covered financial institution's
last report submitted this section; and
The specific reasons the covered financial institution
believes the structure of its incentive-based compensation arrangements
does not provide covered persons incentives to engage in behavior that
is likely to cause the covered financial institution to suffer a
material financial loss and does not provide covered persons with
excessive compensation.
1. Benefits
The Commission believes that the information that would be required
to be reported to the Commission under proposed Sec. 248.205 would
assist Commission examiners to determine whether covered BDs and IAs
are fulfilling the requirements of section 956 of the Dodd-Frank Act.
The report is designed to elicit pointed, succinct explanations about
issues that would likely be of high interest to an examiner, such as a
clear narrative description of the firm's incentive-based compensation
plan, a succinct description of the firm's incentive-based compensation
policies and procedures and any changes thereto, and reasons that the
compensation structure will not encourage behavior that violates the
principles of 12 U.S.C. 5641. The Commission anticipates that examiners
would find these descriptions a useful starting point in an examination
to make a risk-assessment as to which areas of a firm's incentive-based
compensation arrangements merit further examination. Persons within
covered BDs and IAs responsible for determining compensation levels, as
well as persons receiving incentive-based compensation
[[Page 21197]]
would be able to review the incentive-based compensation policies,
which should promote the balance of the incentive-based compensation
process at covered BDs and IAs. The Commission also believes that the
reporting of incentive-based compensation information would foster a
climate of accountability at covered BDs and IAs by raising the profile
of incentive-based compensation at firms, and thereby improving the
care with which the firms design their incentive-based compensation
programs. By including persons who individually have the ability to
expose a firm with total consolidated assets of at least $50 billion to
possible losses that are substantial in relation to the firm's size,
capital, or overall risk tolerance as persons whose compensation should
be subject to the requirements of the statute (designated risk takers),
the proposed rule should encourage executives to consider more
carefully those compensation arrangements that could potentially lead
to activities that could expose the covered institution to significant
risks. Properly incentivizing designated risk takers could limit the
risk exposure of covered financial institutions.
The reporting provisions of the proposed rule are designed to
elicit qualitative statements from the covered financial institution,
including covered BDs and IAs, regarding, among other things, the
specific reasons the covered financial institution believes the
structure of its incentive-based compensation plan does not provide
covered persons incentives to engage in behavior that is likely to
cause the covered financial institution to suffer a material financial
loss and does not provide covered persons with excessive compensation.
The proposed rule is designed to elicit a meaningful discussion of the
firm's incentive-based compensation arrangements. In all cases, covered
BDs and IAs should report to the Commission the comprehensive
descriptions relating to each of the required disclosures described
below.
2. Costs
The Commission is aware that requiring companies to file reports on
the structure of their incentive-based compensation arrangements could
impose costs on covered financial institutions. For example, by
requiring covered financial institutions to report the information in
the proposed rule, it is possible that this could serve as a
disincentive for covered financial institutions to re-visit or
otherwise revise their incentive-based compensation plans, because
doing so would create additional regulatory burdens for the covered
financial institution. Further, while the Commission intends to keep
the reported information confidential to the full extent it is
permitted to do so under the Freedom of Information Act (``FOIA''), the
Commission understands that firms may nonetheless have concerns about
potential disclosure of information that could be competitively
sensitive, as incentive-based compensation plans and arrangements are.
The Commission believes that not including information regarding the
individual compensation levels of covered persons may mitigate some
confidentiality concerns. Accordingly, the Commission is aware of these
potential costs and seeks comment on them generally, as well as on any
specific methods that could be used to minimize these costs and
concerns.
The Commission is also aware that the proposed rule would generate
compliance-related costs associated with, among other things,
collecting the necessary information and preparing the reports, as well
as hiring outside professionals, such as attorneys, compensation or
benefits consultants, accountants and/or actuaries. In the charts
below, the Commission estimates the internal and external costs
associated with the proposed reporting requirements. In order to arrive
at the internal cost estimates, the Commission multiplied the hourly
burden estimates provided in the PRA Section by the estimated hourly
rate for a securities attorney.\104\ The Commission is using the same
external cost estimates for the reporting requirement that it used in
the PRA Section of this proposed rule. The Commission seeks comment on
all these cost estimates.
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\104\ The Commission estimates $354 per hour for a securities
attorney, based on SIFMA's Management & Professional Earnings in the
Securities Industry 2010, modified by Commission staff to account
for an 1800-hour work-year and multiplied by 5.35 to account for
bonuses, firm size, employee benefits and overhead.
Internal Costs
--------------------------------------------------------------------------------------------------------------------------------------------------------
Covered bank BDs and IAs Covered bank BDs and IAs Covered non-bank BDs and IAs Covered non-bank BDs and IAs
($50B +) ($1B-$50B) ($50B +) ($1B-$50B)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Initial Reporting............... $900,000 \105\.............. $3 million \106\............ $175,000 \107\.............. $3 million.\108\
Ongoing Reporting............... 900,000 \109\............... 3 million \110\............. 175,000 \111\............... 3 million.\112\
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[[Page 21198]]
External Costs
--------------------------------------------------------------------------------------------------------------------------------------------------------
Covered bank BDs and IAs Covered bank BDs and IAs Covered non-bank BDs and IAs Covered non-bank BDs and IAs
($50B +) ($1B-$50B) ($50B +) ($1B-$50B)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Initial Reporting............... $1 million \113\............ $3.4 million \114\.......... $200,000 \115\.............. $3.4 million.\116\
Ongoing Reporting............... 1 million \117\............. 3.4 million \118\........... 200,000 \119\............... 3.4 million.\120\
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B. Prohibition on Certain Incentive-Based Compensation Arrangements
---------------------------------------------------------------------------
\105\ 2,500 hours x $354/hour = $885,000.
\106\ 8,500 hours x $354/hour = $3,009,000.
\107\ 500 hours x $354 = $177,000.
\108\ 8,500 hours x $354/hour = $3,009,000.
\109\ 2,500 hours x $354/hour = $885,000.
\110\ 8,500 hours x $354/hour = $3,009,000.
\111\ 500 hours x $354 = $177,000.
\112\ 8,500 hours x $354/hour = $3,009,000.
\113\ 2,500 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $987,500.
\114\ 8,500 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $3,357,500.
\115\ 500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $197,500.
\116\ 8,500 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $3,357,500.
\117\ 2,500 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $987,500.
\118\ 8,500 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $3,357,500.
\119\ 500 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $197,500.
\120\ 8,500 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $3,357,500.
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The proposed rule states that a covered financial institution may
not establish or maintain any incentive-based compensation arrangement,
or any feature of any such arrangement, that encourages a covered
person to expose the institution to inappropriate risks by providing
that person with excessive compensation. Under the proposed rule,
compensation would be considered excessive when amounts paid are
unreasonable or disproportionate to the services performed by a covered
person. In determining whether incentive-based compensation is
unreasonable or disproportionate to the services performed, the covered
BDs and IAs would consider those factors set forth in the section 39(c)
of the FDIA.\121\
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\121\ Under Section 248.205(a)(2) of the proposed rule, an
incentive-based compensation arrangement provides excessive
compensation when amounts paid are unreasonable or disproportionate
to the services performed by a covered person, taking into
consideration:
(i) The combined value of all cash and non-cash benefits
provided to the covered person;
(ii) The compensation history of the covered person and other
individuals with comparable expertise at the covered financial
institution;
(iii) The financial condition of the covered financial
institution;
(iv) Comparable compensation practices at comparable
institutions, based upon such factors as asset size, geographic
location, and the complexity of the institution's operations and
assets;
(v) For postemployment benefits, the projected total cost and
benefit to the covered financial institution;
(vi) Any connection between the individual and any fraudulent
act or omission, breach of trust or fiduciary duty, or insider abuse
with regard to the covered financial institution; and
(vii) Any other factors the Commission determines to be
relevant.
\122\ See Guidance on Sound Incentive Compensation Policies, 75
FR 36395 (June 25, 2010) (jointly adopted by the OCC, the FRB, the
FDIC and OTS).
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To address the prohibition against arrangements that potentially
encourage inappropriate risks that could lead to a material financial
loss at the covered financial institution, the Agencies propose to deem
incentive-based compensation arrangements for all covered persons to
encourage inappropriate risks that could lead to material financial
loss at the institution unless the arrangement or feature: (i) Balances
risk and financial results, for example, by using deferral of payments,
risk adjustment of awards, longer performance periods, or reduced
sensitivity to short-term performance; (ii) is compatible with
effective controls and risk management; and (iii) is supported by
strong oversight by a covered BD's or IA's board of directors. These
principles are substantially identical to the principles published in
the Guidance.\122\
The proposed rule would require additional measures for certain
covered persons working for covered financial institutions with total
consolidated assets of $50 billion or more. For executive officers and
heads of major business lines of such firms, at least 50% of their
incentive-based compensation would be required to be deferred on a pro-
rata basis over a period of at least three years. Such executive
officers' and business line heads' deferred incentive-based
compensation would be required to be adjusted downward to reflect
actual losses or other measures or aspects of performance that are
realized or become better known during the deferral period (the ``look-
back'').
The Agencies also propose for a covered financial institution with
$50 billion or more in assets that for certain classes of covered
person whose activities, by their nature, expose the covered financial
institution to a risk of significant loss (designated risk takers),
that such firm's board of directors, or a committee thereof, perform
individual review of each such person's incentive-based compensation
against certain factors and that each such person's incentive-based
compensation be approved by the board of directors, or committee
thereof.
1. Benefits
The Commission believes that the proposed prohibitions related to
the incentive-based compensation arrangements would help ensure that
covered financial institutions avoid incentive-based compensation
arrangements that would threaten the safety and soundness of the
covered financial institution or otherwise have serious adverse effects
on economic conditions or financial stability of covered BDs and IAs.
In order to address the adverse effects that incentive-based
compensation arrangements may have on covered financial institutions'
financial condition, the proposed rules would mandate the application
of the principles described in the Guidance (provide incentives that
appropriately balance risk and reward, compatibility with effective
controls and risk-management, and the support of strong corporate
governance) to all covered financial institutions, including covered
BDs and IAs. The Commission believes that applying these principles to
covered BDs and IAs should promote sound incentive-based compensation
practices and discourage incentive-based compensation arrangements that
contributed to the recent financial crisis.
The proposed elements defining when an incentive-based compensation
arrangement provides excessive compensation or could result in a
material financial loss would benefit covered financial institutions by
identifying specific factors to determine whether certain arrangements
are prohibited. Abiding by the standards reflected in section 39(c) of
the FDIA
[[Page 21199]]
and the principles described in the Guidance, which already apply to
banking institutions, should help to promote the safety and soundness
of the covered BD or IA and by extension protect investors and promote
the public interest. The proposed rule also should give firms the
discretion to reward the most productive employees because the
definition of ``excessive compensation'' should be sufficiently broad
so as to permit covered financial institutions the flexibility to
reward productive employees.
Moreover, by not prescribing mandatory deferral for covered BDs and
IAs with assets under $50 billion, but rather by requiring non-specific
standards for these arrangements (i.e., that they balance risk and
return, are compatible with effective controls and risk management,
etc.), the proposed rule would provide smaller covered BDs and IAs with
significant flexibility to tailor their compensation packages to their
covered persons. The proposed rule would permit covered BDs and IAs
with assets below $50 billion to determine their respective incentive-
based compensation arrangements within the parameters of meeting
certain goals (i.e., that the payments balance risk and return, are
compatible with effective risk controls and risk management) set forth
in the proposed rule.
The Commission believes that the proposed rule should curb
excessive risk taking, which should lead to more effective capital
allocation. The rule should discourage compensation incentives that
encouraged capital flow into investments that were unprofitable on the
whole. Hereafter, the flow of capital into less risky investments
should result in capital being put to more effective use. More
efficient capital allocation, in turn, should improve the quality of
the firms' financial services and products, as firms employ capital to
its most productive use. Since higher quality service and products are
ordinarily associated with increased competition, it is possible that
competition among covered BDs and IAs would be more robust.
By requiring that the incentive-based compensation arrangements of
covered BDs and IAs with more than $50 billion in total assets defer at
least 50% of the compensation of covered executives and chiefs of major
business lines for at least three years, and requiring firms to adjust
any amount deferred to reflect actual losses or other measures of
performance that are realized or become better known only during the
deferral period, the proposed rule should help align the interests of
those covered persons with the greatest ability to influence the risk
profile of the covered financial institution with the interests of the
covered financial institution. The deferral requirement for executive
officers and chiefs of major business lines at the largest covered
financial institutions reflects the previously acknowledged benefit for
deferral of certain high-level employees whose activities present
broad, and potentially lengthy, risk exposure to an institution, and
whose activities do not lend themselves as easily to risk
quantification and assessment through ex ante or other predictive risk
adjustment measures. Requiring deferral for this discrete group of
individuals at particularly large institutions, where up-front or ex
ante risk adjustment measures are less likely to be effective, is a
useful risk adjustment tool. It permits time for risks not previously
discerned or quantifiable to ultimately materialize and permits
adjustment of unreleased deferral payments on the basis of observed
consequences as opposed to mere predicted results. The Commission
believes that the heightened standards for the largest covered BDs and
IAs is particularly appropriate because decisions made at the largest
covered BDs and IAs can greatly impact the fair and orderly operation
of the financial markets. These deferral restrictions should weaken the
incentive for executive officers and chiefs of major business lines to
make decisions that create short term gain at the expense of increased
long term risk. The Commission also expects that by example, an express
deferral requirement for executive officers and heads of major business
lines would have a broader beneficial impact on the structure of
compensation used throughout a company.\123\ The required look-back
mechanism included in the proposed rule is a means by which the covered
financial institution may reduce previously awarded compensation over
the deferred period of time. Thus, the required look-back adds to the
power of deferring compensation in that previously awarded compensation
may actually not be awarded if the firm finds that such compensation
does not reflect actual losses or other measures better realized during
the deferral period.
---------------------------------------------------------------------------
\123\ Certain recent studies provide empirical evidence
consistent with deferred compensation helping reduce the probability
of corporate default. See e.g. Wei and Yermack (2010). In one study,
the authors conclude that bank CEOs with large amounts of inside
debt in the form of pensions and deferred compensation exposed their
firms to less risk and obtained greater performance during the
recent financial crisis. (http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1519252).
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As with the deferral requirement and the look-back mechanism, the
Commission preliminarily believes that these provisions of the proposed
rule relating to designated risk takers would help to strengthen board
oversight of covered persons' incentive-based compensation. The
Commission believes that promoting strong corporate governance
oversight of a covered BD's or IA's incentive-based compensation
arrangements would promote sound practices and foster a high quality
process regarding incentive-based compensation decisions at a covered
financial institution. Moreover, the additional oversight of designated
risk takers' incentive-based compensation should help to provide proper
incentives to these persons and thus limit the risk exposure of covered
BDs and IAs. In addition, requiring the board of directors, or a
committee of the board, to identify designated risk takers other than
executive officers and to approve their incentive-based compensation
should help to improve the board's understanding of the risk profile of
certain firm activities or divisions that have the ability to expose
the institution to possible substantial losses. It would also encourage
the board to spend more time considering the compensation arrangements
of important employees who are not executives but who have the ability
to materially impact the risk profile of the firm. The proposed rule
also provides covered financial institutions the flexibility to
determine who the relevant potential excessive risk takers are.
2. Costs
a. All Covered BDs and IAs
The Commission also anticipates that the proposed rule may entail
certain costs. For example, in a case where a firm elects to defer an
excessive portion of covered persons' compensation, such deferral may
reduce effort expended by covered persons and the willingness of
covered persons to take even measured risks. The Commission understands
that it is necessary for covered financial institutions to take a
certain amount of risk in order to operate their businesses.
Accordingly, the Commission desires to carefully balance the need for
covered financial institutions to take risk against the possibility
that if the wrong regulatory balance is struck, covered persons may
have the incentive to actually take less risk than is optimal in order
to ensure that, on a personal level, the covered employee has
sufficient cash flow. In the event that employees
[[Page 21200]]
are induced to take less than optimal risk, then there might be a
negative effect on the efficiency of capital allocation. The Commission
preliminarily believes that the proposed rule strikes an appropriate
balance in this regard but requests comment generally on this issue.
Based on its experience in the area, staff conversations with
covered BDs and filings by publicly-traded covered BDs, IAs and certain
parent companies, the Commission believes that the elements of the
prohibition applicable to all covered BDs and IAs related to excessive
compensation and material financial loss to the firms already generally
represent the practices of many covered BDs and IAs. Therefore, the
Commission believes that covered BDs and IAs generally already consider
factors consistent with those referenced in section 39(c) of the FDIA
and the principles in the Guidance in designing and administering their
incentive-based compensation programs. Nonetheless, the Commission
recognizes that some covered BDs and IAs may not conform to incentive-
based compensation standards consistent with section 39(c) of the FDIA
and the principles in the Guidance.
In addition, the Commission acknowledges the possibility that the
proposed rules may reduce the incentive for certain covered persons to
switch jobs because would-be new employers that are covered financial
institutions would be bound to offer such covered persons compensation
packages that comply with the proposed rules. If a lack of turnover
results, it might adversely impact competitiveness among firms, but it
may also promote institutional stability within firms. The Commission
believes the proposed rule strikes an appropriate balance in this
regard, but requests comment generally on this issue.
The Commission seeks comment on whether the proposed prohibitions
applicable to covered BDs and IAs (which include only those broker-
dealers and investment advisers with assets of more than $1 billion)
may disadvantage covered financial institutions as compared to
financial institutions not covered under the proposed rules because
covered financial institutions would be required to assume costs in
designing, implementing, monitoring and maintaining a regulatory
program reasonably designed to address the requirements of the proposed
rules, whereas broker-dealers and investment advisers with total
consolidated assets less than $1 billion would not be subject to such
costs. The Commission also seeks comment on whether it is possible that
covered BDs and IAs would have more difficulty recruiting qualified
individuals to work for their firms if such individuals fear that added
scrutiny of their incentive-based compensation may lead to lower
aggregate pay.
b. Covered BDs and IAs With Assets of $50 Billion or More
In addition to the costs imposed upon all covered BDs and IAs,
described above, the proposed rule would impose additional costs on
firms with assets of $50 billion or more. The Commission anticipates
that it is possible that covered BDs and IAs with assets of $50 billion
or more may have to pay more in base salary to compensate their
executive officers and heads of a major business line for the
uncertainty associated with the ultimate receipt of deferred
compensation. However, it is also possible that increases in salaries
would be offset by decreases in deferred incentive-based compensation.
The Commission requests comment on whether covered BDs and IAs should
expect to incur the cost of increased salaries that may result from the
implementation of required deferred compensation and look-back policies
for certain covered persons.
As stated above, the Commission also recognizes that the firms with
assets of at least $50 billion may have more difficulty recruiting
individuals for those positions than a firm not subject to the deferral
requirement. In addition, such firms may have difficulty recruiting
individuals who object to having their compensation specifically
approved and monitored by the covered BD's or IA's board of directors
or committee thereof. To the extent that this adversely affects the
quality of employees that firms of that size are able to attract, it
may negatively affect the business of larger covered financial
institutions.
To the extent that the proposal relies on an assumption that a
covered person understands the risks inherent in a particular business
decision but chooses to disregard them because the covered person would
not bear the costs associated with those risks being realized, the
proposal may not be effective at promoting a more accurate or realistic
assessment of a business decision as to which neither the executive
officer nor the covered financial institution grasps the inherent risk.
To the extent, however, that the proposal relies on an assumption that
covered persons do not always fully understand the risks inherent in
particular business decisions and have had inadequate incentives to
ensure that they comprehend these risks, the proposal would be more
effective. It is not clear what, if any, other regulatory steps could
be taken to promote a better comprehension of risk, and mandatory
deferral as provided in the proposed rule would at least provide some
required measure of risk adjustment in cases where such risks are
understood by executive officers at large covered financial
institutions. If, however, the risks that covered persons take are very
long term (i.e., beyond 5 years), the proposed compensation deferral
might not prove to be effective at deferring covered persons' taking on
inappropriate risk for the firm.
As stated above, the Commission also believes there would be
compliance-related costs associated with the proposed rule. Based upon
experience of the Commission staff, the Commission understands that
although mandatory deferral of a significant percentage of firms'
incentive-based compensation to executive officers and chiefs of major
business lines is the existing practice among many covered BDs and IAs,
it would represent a new practice for some firms. Even for firms with
existing deferral practices, there would be costs to conform their
deferral practices to the requirements of proposed Sec. 248.205(b)(3).
For example, based on staff's discussions with the industry, its review
of information in public filings, and its experience in the area, the
Commission believes that the practice of adjusting deferred amounts of
compensation to reflect actual losses or other measures that are
realized or become known during the deferral period (administering a
look-back) exists in comparatively fewer firms than does the practice
of deferral itself. The Commission also believes that many firms may
provide deferral or vesting periods of less than the three years under
the proposed rule. The Commission believes, based upon its experience
and the filings submitted by publicly-traded covered BDs, IAs and
certain public companies, that some, but not all boards or board
committees of covered BDs and IAs with assets of at least $50 billion
already have a role in approving the compensation for highly-paid
individuals, including most people that would be defined as designated
risk takers under the proposed rule. Accordingly, the Commission
anticipates that covered BDs and IAs would experience costs in
implementing the deferral, look-back and designated risk takers
components of the requirements for firms with assets of $50 billion or
more.
[[Page 21201]]
The requirement under proposed Sec. 248.205(b)(3)(ii)(B) to
require the board of directors (or committee of the board) of covered
financial institutions that have total consolidated assets of $50
billion or more to approve and document the identification of those
covered persons that individually have the ability to expose the
institution to possible losses that are substantial in relation to the
institution's size, capital, or overall risk tolerance would create new
burden for such larger covered financial institutions. Based on staff
experience and conversations with larger covered BDs and the filings
submitted by publicly-traded covered IAs and certain parent companies,
the Commission does not believe that the boards of larger covered BDs
and IAs generally identify and approve the compensation of such
designated risk takers.
The Commission believes that the most significant ongoing cost that
covered BDs and IAs would assume to comply with proposed Sec.
248.205(b)(3)(ii)(B) is the cost of having appropriate senior personnel
administer the deferred compensation, look-back and designated risk
takers provisions. As with all matters related to incentive-based
compensation, covered BDs and IAs would be required to administer their
incentive-based compensation arrangements in a manner that is
compatible with effective controls and risk management and is supported
by strong corporate governance, including active and effective
oversight by the covered financial institution's board of directors.
The Commission anticipates that firms would use an appropriate mix of
senior risk management personnel along with the firms' board of
directors, or committee thereof, to administer the identification of
designated risk takers and approval of their compensation, as required
under the proposed rule.
Larger covered financial institutions with total consolidated
assets of at least $50 billion may experience a disadvantage relative
to smaller financial institutions on account of the proposed required
deferral for executive officers and board-level review of the
incentive-based compensation of designated risk takers. In addition to
the added costs that such larger financial institutions would incur to
implement the deferral and board-level review of designated risk
takers' compensation, the Commission believes that some executive
officers may have disincentives from working for a covered financial
institution whereby their compensation would be required to be deferred
or in firms where their incentive-based compensation is subject to
board-level scrutiny.
In order to help the Commission better understand all the costs
associated with this aspect of the proposed rule, the Commission
requests comment on them generally. The Commission is also soliciting
comment on the following specific issues:
Do commenters believe that requiring a minimum deferral
period of three years for at least 50% of the compensation for
executive officers and chiefs of major business lines at large covered
financial institutions would place such financial institutions at an
unjustified disadvantage in the hiring of and retaining qualified
personnel as compared to smaller covered financial institutions? If
commenters believe that this is the case, what would commenters do to
modify the proposed rule while reasonably ensuring that there is useful
and meaningful risk adjustment of incentive-based compensation for
executives at large covered financial institutions? Do commenters
believe that requiring a different minimum deferral period or minimum
deferred percentage would promote better incentive-based compensation
practices? Should the required minimum deferral provisions be extended
to smaller covered financial institutions?
Do commenters believe that there is a substantial risk
that covered financial institutions would reconfigure their operations,
structure, or assets in such a manner so as to circumvent being
classified as a large covered financial institution?
Do commenters believe that mandating deferral as a risk
adjustment tool for executive officers at large covered financial
institutions would inhibit the development of other potentially more
effective risk adjustment tools? Are there other risk adjustment tools
that are more effective than deferral, and why are those tools more
effective?
C. Required Policies and Procedures and Documentation of the
Compensation of Certain Covered Persons
The proposal would require covered financial institutions to adopt
policies and procedures reasonably designed to ensure and monitor
compliance with 12 U.S.C. 5641 commensurate with the size and
complexity of the organization and the scope and nature of its use of
incentive-based compensation. As described in further detail above, the
proposed rule would require that the policies and procedures, at a
minimum, be consistent with the disclosure requirements and
prohibitions in other parts of the proposed rule, ensure that risk
management or oversight personnel have a role in designing and
assessing incentive-based compensation arrangements, provide for
independent monitoring of the incentive-based compensation awards,
risks taken and actual outcomes, require that a covered financial
institution's board receive data and an analysis to enable the board to
assess whether the incentive-based compensation arrangements are
consistent with 12 U.S.C. 5641, and require sufficient documentation of
the covered financial institution's incentive-based compensation
arrangements to enable the Commission to determine the covered BDs' or
IAs' compliance with 12 U.S.C. 5641. In addition, the proposal would
require that the covered BDs' and IAs' policies and procedures include
certain features for when a firm uses deferral in connection with an
incentive-based compensation arrangement, and that the policies and
procedures subject incentive-based compensation arrangements to an
appropriate corporate governance framework.
In addition, for covered BDs and IAs with assets of at least $50
billion, proposed Sec. 248.205(b)(3)(ii)(B) would require a firm's
board of directors, or a committee thereof, to identify those covered
persons (other than executive officers) that individually have the
ability to expose the institution to possible losses that are
substantial in relation to the institution's size, capital, or overall
risk tolerance. These covered persons may include, for example, traders
with large position limits relative to the institution's overall risk
tolerance and other individuals that have the authority to place at
risk a substantial part of the capital of the covered financial
institution. The Agencies propose that the compensation decisions
applicable to such persons must be approved by the firm's board of
directors or a committee of the board and that the covered BD or IA
document the compensation decisions made by the board or its committee.
1. Benefits
The Commission believes that requiring covered financial
institutions to adopt and enforce the policies and procedures described
above would foster the Agencies' understanding of the covered financial
institutions' incentive-based compensation practices and would promote
compliance and accountability regarding the practices that the Agencies
propose to prohibit. The rule is designed to ensure that covered BDs
and IAs establish adequate
[[Page 21202]]
procedures and controls to ensure compliance with 12 U.S.C 5641. The
Commission preliminarily believes that the policies and procedures
section of the proposed rule would help to ensure that boards receive
data to monitor incentive-based compensation arrangements. Further, the
Commission believes that, at a minimum, the proposed rule should help
to ensure that incentive-based compensation arrangements would be
designed with more careful consideration of its effects on risk. The
Commission also believes that the proposed rule would provide greater
board of director and risk management/risk oversight personnel
supervision of incentive-based compensation arrangements and practices
at the covered financial institution because boards would receive data
and analysis from management to support a finding that the incentive-
based compensation arrangements are consistent with 12 U.S.C. 5641.
Moreover, risk-management/risk-oversight personnel would help to design
and assess the effectiveness of the covered BD's or IA's incentive-
based compensation arrangement. The Commission believes that these
provisions of the proposed rule would help to strengthen the
supervision of covered persons' incentive-based compensation
arrangements by the board of directors. The proposed rule would help
increase the importance of the compensation-setting function at covered
financial institutions, including covered BDs and IAs. The Commission
preliminarily believes that this increased internal importance would
result in a higher quality process regarding incentive-based
compensation decisions at a covered financial institution. For example,
the proposed rule would help to ensure that information is received by
the relevant decision makers and other persons acting in an internal
supervisory role within the covered financial institution. This
development should strengthen the supervision of the board with respect
to incentive-based compensation arrangements.
The recordkeeping requirement in proposed in Sec. 248.206(b)(5)
should ensure that Commission staff members are able to properly
examine covered BDs' and IAs' incentive-based compensation practices in
the context of an examination. The proposal also would require that a
covered BD or IA have policies and procedures that provide that
compensation payments are reduced to reflect adverse risk outcomes or
high levels of risk taken. This should help ensure that the
compensation contracts are accurately followed and diminish the adverse
effect of deferred compensation that proves to be unwarranted once the
risks associated with the covered person's activities are realized over
time.
2. Costs
As described more fully in the PRA Section, the Commission believes
that covered individual bank BDs and IAs would be subject to
significantly less initial and ongoing costs than non-bank BDs and IAs
because bank BDs and IAs are already subject to the Guidance. The
Commission is also aware that the proposed rule would generate
compliance-related costs associated with, among other things,
collecting the necessary information and preparing the reports, as well
as hiring outside professionals, such as attorneys, compensation or
benefits consultants, accountants and/or actuaries. In the chart below,
the Commission estimates the internal costs associated with the
proposed recordkeeping requirements. In order to arrive at these
internal cost estimates, the Commission multiplied the hourly burden
estimates provided in the PRA Section by the estimated hourly rate for
a securities attorney.\124\ The Commission is using the same external
cost estimates for the recordkeeping requirement that it used in the
PRA Section of this proposed rule. The Commission seeks comment on all
these cost estimates.
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\124\ The Commission estimates $354 per hour for a securities
attorney, based on SIFMA's Management & Professional Earnings in the
Securities Industry 2010, modified by Commission staff to account
for an 1800-hour work-year and multiplied by 5.35 to account for
bonuses, firm size, employee benefits and overhead.
Total Internal Recordkeeping Cost
--------------------------------------------------------------------------------------------------------------------------------------------------------
Covered bank BDs and IAs Covered bank BDs and IAs Covered non-bank BDs and IAs Covered non-bank BDs and IAs
($50B +) ($1B-$50B) ($50B +) ($1B-$50B)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Initial Recordkeeping........... $900,000 \125\.............. $1.2 million \126\.......... $1.1 million \127\.......... $16 million.\128\
Ongoing Recordkeeping........... $400,000 \129\.............. $400,000 \130\.............. $150,000 \131\.............. $1.5 million.\132\
--------------------------------------------------------------------------------------------------------------------------------------------------------
Total External Recordkeeping Cost
--------------------------------------------------------------------------------------------------------------------------------------------------------
Covered bank BDs and IAs Covered bank BDs and IAs Covered non-bank BDs and IAs Covered non-bank BDs and IAs
($50B +) ($1B-$50B) ($50B +) ($1B-$50B)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Initial Recordkeeping........... $1 million \133\............ $1.3 million \134\.......... $1.2 million \135\.......... $18 million.\136\
Ongoing Recordkeeping........... $400,000 \137\.............. $400,000 \138\.............. $250,000 \139\.............. $1.7 million.\140\
--------------------------------------------------------------------------------------------------------------------------------------------------------
Solicitation of Comment
---------------------------------------------------------------------------
\125\ 2,500 hours x $354 = $885,000.
\126\ 3,400 hours x $354 = $1,203,600.
\127\ 3,000 hours x $354 = $1,062,000.
\128\ 46,000 hours x $354 = $16,284,000.
\129\ 1,000 hours x $354 = $354,000.
\130\ 1,000 hours x $354 = $354,000.
\131\ 400 hours x $354 = $141,600.
\132\ 4,300 hours x $354 = $1,522,200.
\133\ 2,500 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $987,500.
\134\ 3,400 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $1,343,000.
\135\ 3,000 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $1,185,000.
\136\ 46,000 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $18,170,000.
\137\ 1,000 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $395,000.
\138\ 1,000 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $395,000.
\139\ 600 hours x [(25% x $400/hour) + (25% x $600/hour) + (25%
x $330/hour) + (25% x $250/hour)] = $237,000.
\140\ 4,300 hours x [(25% x $400/hour) + (25% x $600/hour) +
(25% x $330/hour) + (25% x $250/hour)] = $1,698,500.
---------------------------------------------------------------------------
In enacting this section of the Dodd-Frank Act, Congress has made
the
[[Page 21203]]
judgment that regulation entailing potential burdens and impacts of the
type discussed below is justified so as to prevent covered financial
institutions from utilizing incentive-based compensation arrangements
that could threaten the health of financial institutions or have
serious effects on economic conditions or financial stability.\141\ The
Commission generally solicits comment on all the costs, benefits, and
analyses set forth in this economic analysis. The Commission also
specifically requests comment on the following issues:
---------------------------------------------------------------------------
\141\ See Joint Explanatory Statement of the committee of
Conference Accompanying H.R. 4173, H.R. Rep. No. 111-517, at 873.
---------------------------------------------------------------------------
The Commission requests comments on the anticipated impact
of the proposal on the competitiveness of covered financial
institutions as compared to broker-dealers and investment advisers that
do not meet the definition of covered financial institution as well as
the impact of the proposal on the competitiveness of covered BDs and
IAs with assets of at least $50 billion as compared to covered BDs and
IAs with assets between $1 billion and $50 billion.
Could the proposed rule be modified so as to implement the
mandate of 12 U.S.C. 5641 in a manner that improves the efficiency of
covered financial institution and imposes less of a burden on
competition? If so, what specific changes would commenters suggest?
Would the impact be improved with a different deferral threshold
(currently 50% of incentive-based compensation) or deferral period
(currently no faster than pro rata over 3 years)? Is there a better way
to design or apply the ``look-back'' period?
The Commission solicits public comment on the degree to
which commenters believe that the proposal would encourage covered
employees to take optimal risk and/or discourage covered employees from
taking inappropriate levels of risk. If commenters believe the proposal
would lead to covered employees undertaking less than optimal risk
(e.g., make decisions that are too conservative for the firm), then
please elaborate why that is the case.
If commenters believe a different approach is warranted,
do commenters believe that a different approach would be equally
effective at helping to ensure, particularly at large covered financial
institutions, that incentive-based compensation arrangements do not
result in excessive compensation or a material financial loss to the
covered financial institution? What alternative would commenters
propose and why do commenters believe that it would be as effective, or
more effective?
Does the proposed rule promote greater internal discipline
and controls by covered financial institutions with respect to
incentive-based compensation arrangements? Similarly, does the proposed
rule help to promote that discipline upon a greater number of persons
at the covered financial institution, including not only the executive
officers (or comparable persons) at a covered financial institution,
but also those persons whose activities subject the covered financial
institution to significant risk?
I. SEC Consideration of Impact on the Economy
For purposes of the Small Business Regulatory Enforcement Fairness
Act of 1996, or ``SBREFA,'' \142\ the Commission must advise OMB
whether a proposed regulation constitutes a major rule. Under SBREFA, a
rule is ``major'' if it has resulted in, or is likely to result in:
---------------------------------------------------------------------------
\142\ Pub. L. 104-121, Title II, 110 Stat. 857 (1996) (codified
in various sections of 5 U.S.C., 15 U.S.C. and as a note to 5 U.S.C.
601).
---------------------------------------------------------------------------
An annual effect on the economy of $100 million or more
a major increase in costs or prices for consumers or
individual industries; or
a significant adverse effect on competition, investment,
or innovation.
If a rule is ``major,'' its effectiveness will generally be delayed for
60 days pending Congressional review. The Commission requests comment
on the potential impact of each of the proposed rules and rule
amendments on the economy on an annual basis, on the costs or prices
for consumers or individual industries, and on competition, investment,
or innovation. Commenters are requested to provide empirical data and
other factual support for their views to the extent possible.
List of Subjects
12 CFR Part 42
Compensation, Banks, Banking, National banks, Reporting and
recordkeeping requirements.
12 CFR Part 236
Compensation, Banks, Bank Holding Companies, Reporting and
recordkeeping requirements.
12 CFR Part 372
Banks, Banking, Compensation, Foreign Banking.
12 CFR Part 563h
Compensation, Holding companies, Reporting and recordkeeping
requirements, Savings associations.
12 CFR Parts 741 and 751
Compensation, Credit Unions, Reporting and recording requirements.
12 CFR Part 1232
Administrative practice and procedure, Banks, Compensation,
Confidential business information, Government-sponsored enterprises,
Reporting and recordkeeping requirements.
17 CFR Part 248
Incentive-based Compensation Arrangements, Reporting and
recordkeeping requirements; Securities.
Department of the Treasury
Office of the Comptroller of the Currency
12 CFR Chapter I
Authority and Issuance
For the reasons set forth in the joint preamble, the OCC proposes
to amend 12 CFR Chapter I of the Code of Federal Regulations as
follows:
1. Add part 42 to read as follows:
PART 42--INCENTIVE-BASED COMPENSATION ARRANGEMENTS
Sec.
42.1 Authority.
42.2 Scope and purpose.
42.3 Definitions.
42.4 Required reports to regulators.
42.5 Prohibitions.
42.6 Policies and procedures.
42.7 Evasion.
Authority: 12 U.S.C. 1 et seq. 1, 93a, and 5641.
Sec. 42.1 Authority.
This part is issued pursuant to section 956 of the Dodd-Frank Wall
Street Reform and Consumer Protection Act (12 U.S.C. 5641).
Sec. 42.2 Scope and purpose.
This part applies to a covered financial institution that has total
consolidated assets of $1 billion or more and offers incentive-based
compensation arrangements to covered persons. Nothing in this part in
any way limits the authority of the OCC under other provisions of
applicable law and regulations.
[[Page 21204]]
Sec. 42.3 Definitions.
For purposes of this part, the following definitions apply unless
otherwise specified:
(a) Board of directors means the governing body of any covered
financial institution performing functions similar to a board of
directors. For Federal branches and agencies, ``board of directors''
means parent foreign bank senior management.
(b) Compensation means all direct and indirect payments, fees or
benefits, both cash and non-cash, awarded to, granted to, or earned by
or for the benefit of, any covered person in exchange for services
rendered to the covered financial institution, including, but not
limited to, payments or benefits pursuant to an employment contract,
compensation or benefit agreement, fee arrangement, perquisite, stock
option plan, postemployment benefit, or other compensatory arrangement.
(c) Covered financial institution means a national bank or a
Federal branch or agency of a foreign bank that has total consolidated
assets of $1 billion or more.
(d) Covered person means any executive officer, employee, director,
or principal shareholder of a covered financial institution.
(e) Director of a covered financial institution means a member of
the board of directors of the covered financial institution, or of a
board or committee performing a similar function to a board of
directors.
(f) Executive officer of a covered financial institution means a
person who holds the title or, without regard to title, salary, or
compensation, performs the function of one or more of the following
positions: president, chief executive officer, executive chairman,
chief operating officer, chief financial officer, chief investment
officer, chief legal officer, chief lending officer, chief risk
officer, or head of a major business line.
(g) Incentive-based compensation means any variable compensation
that serves as an incentive for performance.
(h) Principal shareholder means an individual who directly or
indirectly, or acting through or in concert with one or more persons,
owns, controls, or has the power to vote 10 percent or more of any
class of voting securities of a covered financial institution.
(i) Total consolidated assets means:
(1) For a national bank, calculating the average of the total
assets reported in the bank's four most recent Consolidated Reports of
Condition and Income (``Call Report''); and
(2) For a Federal branch and agency, calculating the average of the
total assets reported in the Federal branch or agency's four most
recent Reports of Assets and Liabilities of U.S. Branches and Agencies
of Foreign Banks--FFIEC 002.
Sec. 42.4 Required reports to regulators.
(a) In general. A covered financial institution must submit a
report annually to, and in the format directed by, the OCC, that
describes the structure of the covered financial institution's
incentive-based compensation arrangements for covered persons and that
is sufficient to allow an assessment of whether the structure or
features of those arrangements provide or are likely to provide covered
persons with excessive compensation, fees, or benefits to covered
persons or could lead to material financial loss to the covered
financial institution.
(b) Individual compensation. A covered financial institution is not
required to report the actual compensation of particular covered
persons as part of the report required by paragraph (a) of this
section.
(c) Minimum standards. The information submitted by the covered
financial institution pursuant to paragraph (a) of this section must
include the following:
(1) A clear narrative description of the components of the covered
financial institution's incentive-based compensation arrangements
applicable to covered persons and specifying the types of covered
persons to which they apply;
(2) A succinct description of the covered financial institution's
policies and procedures governing its incentive-based compensation
arrangements for covered persons;
(3) If the covered financial institution has total consolidated
assets of $50 billion or more, an additional succinct description of
incentive-based compensation policies and procedures specific to the
covered financial institution's:
(i) Executive officers; and
(ii) Other covered persons who the board of directors, or a
committee thereof, of the covered financial institution has identified
and determined under Sec. 42.5(b)(3)(ii) of this part individually
have the ability to expose the covered financial institution to
possible losses that are substantial in relation to the institution's
size, capital, or overall risk tolerance;
(4) Any material changes to the covered financial institution's
incentive-based compensation arrangements and policies and procedures
made since the covered financial institution's last report submitted
under paragraph (a) of this section; and
(5) The specific reasons why the covered financial institution
believes the structure of its incentive-based compensation plan does
not encourage inappropriate risks by the covered financial institution
by providing covered persons with:
(i) Excessive compensation; or
(ii) Incentive-based compensation that could lead to a material
financial loss to the covered financial institution.
Sec. 42.5 Prohibitions.
(a) Excessive compensation prohibition. (1) In general. A covered
financial institution must not establish or maintain any type of
incentive-based compensation arrangement, or any feature of any such
arrangement, that encourages inappropriate risks by the covered
financial institution by providing a covered person with excessive
compensation.
(2) Standards. An incentive-based compensation arrangement provides
excessive compensation when amounts paid are unreasonable or
disproportionate to the services performed by a covered person, taking
into consideration:
(i) The combined value of all cash and non-cash benefits provided
to the covered person;
(ii) The compensation history of the covered person and other
individuals with comparable expertise at the covered financial
institution;
(iii) The financial condition of the covered financial institution;
(iv) Comparable compensation practices at comparable institutions,
based upon such factors as asset size, geographic location, and the
complexity of the covered financial institution's operations and
assets;
(v) For postemployment benefits, the projected total cost and
benefit to the covered financial institution;
(vi) Any connection between the individual and any fraudulent act
or omission, breach of trust or fiduciary duty, or insider abuse with
regard to the covered financial institution; and
(vii) Any other factors the OCC determines to be relevant.
(b) Material financial loss prohibition. (1) Generally. A covered
financial institution must not establish or maintain any type of
incentive-based compensation arrangement, or any feature of any such
arrangement, that encourages inappropriate risks by the covered
financial institution, by providing incentive-based compensation to
covered persons, either individually or as part of a group of persons
who are subject to the same or
[[Page 21205]]
similar incentive-based compensation arrangements, that could lead to
material financial loss to the covered financial institution.
(2) Requirements for all covered financial institutions. An
incentive-based compensation arrangement established or maintained by a
covered financial institution for one or more covered persons does not
comply with paragraph (b)(1) of this section unless it:
(i) Balances risk and financial rewards, for example by using
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods;
(ii) Is compatible with effective controls and risk management; and
(iii) Is supported by strong corporate governance, including active
and effective oversight by the covered financial institution's board of
directors or a committee thereof.
(3) Specific requirements for covered financial institutions with
$50 billion or more in total consolidated assets. (i) Deferral required
for executive officers. As part of appropriately balancing risk and
financial rewards pursuant to paragraph (b)(2)(i) of this section, any
incentive-based compensation arrangement for any executive officer
established or maintained by a covered financial institution that has
total consolidated assets of $50 billion or more must provide for:
(A) At least 50 percent of the annual incentive-based compensation
of the executive officer to be deferred over a period of no less than
three years, with the release of deferred amounts to occur no faster
than on a pro rata basis; and
(B) The adjustment of the amount required to be deferred under
paragraph (b)(3)(i)(A) of this section to reflect actual losses or
other measures or aspects of performance that are realized or become
better known during the deferral period.
(ii) Additional requirement for covered persons presenting
particular loss exposure. As part of appropriately balancing risk and
financial rewards pursuant to paragraph (b)(2)(i) of this section, if a
covered financial institution has total consolidated assets of $50
billion or more--
(A) The board of directors, or a committee thereof, of the covered
financial institution shall identify those covered persons (other than
executive officers) who individually have the ability to expose the
institution to possible losses that are substantial in relation to the
institution's size, capital, or overall risk tolerance. These covered
persons may include, for example, traders with large position limits
relative to the institution's overall risk tolerance and other
individuals who have the authority to place at risk a substantial part
of the capital of the covered financial institution;
(B) The incentive-based compensation arrangement for any covered
person identified pursuant to paragraph (b)(3)(ii)(A) of this section
must be approved by the board of directors, or a committee thereof, of
the covered financial institution and such approval must be documented;
(C) The board of directors, or committee thereof, may not approve
the incentive-based compensation arrangement for any covered person
identified pursuant to paragraph (b)(3)(ii)(A) of this section unless
the board or committee determines that the arrangement, including the
method of paying compensation under the arrangement, effectively
balances the financial rewards to the covered person and the range and
time horizon of risks associated with the covered person's activities,
employing appropriate methods for ensuring risk sensitivity such as
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods; and
(D) In fulfilling its duties under paragraph (b)(3)(ii)(C) of this
section, the board of directors or committee thereof must evaluate the
overall effectiveness of the balancing methods used in the identified
covered person's incentive-based compensation arrangements in reducing
incentives for inappropriate risk taking by the identified covered
person considering the methods' suitability for balancing the full
range of risks presented by that covered person's activities, and the
methods' ability to make payments sensitive to all the risks arising
from the covered person's activities, including those that may be
difficult to predict, measure or model.
Sec. 42.6 Policies and procedures.
(a) In general. Any incentive-based compensation arrangement, or
any feature of any such arrangement, is prohibited under Sec. 42.5 of
this part, unless adopted pursuant to policies and procedures developed
and maintained by each covered financial institution and approved by
its board of directors, or a committee thereof, reasonably designed to
ensure and monitor compliance with the requirements set forth in 12
U.S.C. 5641 and this part and commensurate with the size and complexity
of the organization, as well as the scope and nature of its use of
incentive-based compensation.
(b) Standards. The policies and procedures must, at a minimum:
(1) Be consistent with the reporting requirements in Sec. 42.4 of
this part and prohibitions in Sec. 42.5 of this part;
(2) Ensure that risk-management, risk-oversight, and internal
control personnel have an appropriate role in the covered financial
institution's processes for designing incentive-based compensation
arrangements and for assessing their effectiveness in restraining
inappropriate risk-taking;
(3) Provide for the monitoring by a group or person independent of
the covered person, where practicable in light of the covered financial
institution's size and complexity, of incentive-based compensation
awards and payments, risks taken, and actual risk outcomes to determine
whether incentive-based compensation payments for covered persons, or
groups of covered persons, are reduced to reflect adverse risk outcomes
or high levels of risk taken;
(4) Provide for the covered financial institution's board of
directors, or committee thereof, to receive data and analysis from
management and other sources sufficient to allow the board, or
committee thereof, to assess whether the overall design and performance
of the institution's incentive-based compensation arrangements are
consistent with 12 U.S.C. 5641;
(5) Ensure that documentation of the covered financial
institution's processes for establishing, implementing, modifying, and
monitoring incentive-based compensation arrangements is maintained that
is sufficient to enable the OCC to determine the institution's
compliance with 12 U.S.C. 5641 and this part;
(6) Consistent with Sec. 42.5(b)(3) of this part, where deferral
is used in connection with an incentive-based compensation arrangement,
provide for deferral of incentive-based compensation awards in amounts
and for periods of time appropriate to the duties and responsibilities
of the covered financial institution's covered persons, the risks
associated with those duties and responsibilities, and the size and
complexity of the covered financial institution and provide that the
deferral amounts paid are adjusted to reflect actual losses or other
measures or aspects of performance that are realized or become better
known during the deferral period; and
(7) Subject any incentive-based compensation arrangement to a
corporate governance framework that provides for ongoing oversight by
the board of directors or a committee thereof, including the approval
by the
[[Page 21206]]
board of directors or a committee thereof of incentive-based
compensation to executive officers.
Sec. 42.7 Evasion.
A covered financial institution is prohibited, for the purpose of
evading the restrictions of this part, from doing indirectly or through
or by any other person, any act or thing that it would be unlawful for
such covered financial institution to do directly under this part.
Federal Reserve Board
12 CFR Chapter II
Authority and Issuance
For the reasons set forth in the joint preamble, the Board proposes
to amend 12 CFR Chapter II as follows:
2. Add new part 236 to read as follows:
PART 236--Incentive-Based Compensation Arrangements (Regulation JJ)
Sec.
236.1 Authority.
236.2 Scope and purpose.
236.3 Definitions.
236.4 Required reports to regulators.
236.5 Prohibitions.
236.6 Policies and procedures.
236.7 Evasion.
Authority: 12 U.S.C. 24, 321-338a, 1818, 1844(b), 3108 and
5641.
Sec. 236.1 Authority.
This part is issued pursuant to section 956 of the Dodd-Frank Wall
Street Reform and Consumer Protection Act (12 U.S.C. 5641).
Sec. 236.2 Scope and purpose.
This part applies to a covered financial institution that has total
consolidated assets of $1 billion or more and offers incentive-based
compensation arrangements to covered persons. Nothing in this part in
any way limits the authority of the Board under other provisions of
applicable law and regulations.
Sec. 236.3 Definitions.
For purposes of this part, the following definitions apply unless
otherwise specified:
(a) Board of directors means the governing body of any covered
financial institution performing functions similar to a board of
directors. For a foreign banking organization, ``board of directors''
refers to the relevant oversight body for the firm's U.S. branch,
agency or operations, consistent with the foreign banking
organization's overall corporate and management structure.
(b) Compensation means all direct and indirect payments, fees or
benefits, both cash and non-cash, awarded to, granted to, or earned by
or for the benefit of, any covered person in exchange for services
rendered to the covered financial institution, including, but not
limited to, payments or benefits pursuant to an employment contract,
compensation or benefit agreement, fee arrangement, perquisite, stock
option plan, postemployment benefit, or other compensatory arrangement.
(c) Covered financial institution (1) In general. The term
``covered financial institution'' means:
(i) A state member bank, as defined in 12 CFR 208.2(g), that has
total consolidated assets of $1 billion or more;
(ii) A bank holding company, as defined in 12 CFR 225.2(c), that
has total consolidated assets of $1 billion or more;
(iii) A state-licensed uninsured branch or agency of a foreign
bank, as such terms are defined in section 3 of the Federal Deposit
Insurance Act (12 USC 1813), that has total consolidated assets of $1
billion or more; and
(iv) The U.S. operations of a foreign bank that is treated as a
bank holding company pursuant to section 8(a) of the International
Banking Act of 1978 (12 USC 3106(a)) that has total consolidated U.S.
assets of $1 billion or more.
(2) Scope of term. A covered financial institution includes the
subsidiaries of the institution.
(d) Covered person means any executive officer, employee, director,
or principal shareholder of a covered financial institution.
(e) Director of a covered financial institution means a member of
the board of directors of the covered financial institution, or of a
board or committee performing a similar function to a board of
directors.
(f) Executive officer of a covered financial institution means a
person who holds the title or, without regard to title, salary, or
compensation, performs the function of one or more of the following
positions: president, chief executive officer, executive chairman,
chief operating officer, chief financial officer, chief investment
officer, chief legal officer, chief lending officer, chief risk
officer, or head of a major business line.
(g) Incentive-based compensation means any variable compensation
that serves as an incentive for performance.
(h) Principal shareholder means an individual who directly or
indirectly, or acting through or in concert with one or more persons,
owns, controls, or has the power to vote 10 percent or more of any
class of voting securities of a covered financial institution.
(i) Total consolidated assets means:
(1) For a state member bank, total consolidated assets as
determined based on the average of the bank's four most recent
Consolidated Reports of Condition and Income (``Call Report'');
(2) For a bank holding company, total consolidated assets as
determined based on the average of the company's four most recent
Consolidated Financial Statements for Bank Holding Companies (``FR Y-
9C'');
(3) For a state-licensed uninsured branch or agency of a foreign
bank, total consolidated assets as determined based on the average of
the branch or agency's four most recent Call Reports; and
(4) For the U.S. operations of a foreign bank total consolidated
U.S. assets as determined by the Board.
Sec. 236.4 Required reports to regulators.
(a) In general. A covered financial institution must submit a
report annually to, and in the format directed by, the Board, that
describes the structure of the covered financial institution's
incentive-based compensation arrangements for covered persons and that
is sufficient to allow an assessment of whether the structure or
features of those arrangements provide or are likely to provide covered
persons with excessive compensation, fees, or benefits to covered
persons or could lead to material financial loss to the covered
financial institution.
(b) Individual compensation. A covered financial institution is not
required to report the actual compensation of particular covered
persons as part of the report required by paragraph (a) of this
section.
(c) Minimum standards. The information submitted by the covered
financial institution pursuant to paragraph (a) of this section must
include the following:
(1) A clear narrative description of the components of the covered
financial institution's incentive-based compensation arrangements
applicable to covered persons and specifying the types of covered
persons to which they apply;
(2) A succinct description of the covered financial institution's
policies and procedures governing its incentive-based compensation
arrangements for covered persons;
(3) If the covered financial institution has total consolidated
assets of $50 billion or more, an additional succinct description of
incentive-based compensation policies and procedures specific to the
covered financial institution's:
(i) Executive officers; and
[[Page 21207]]
(ii) Other covered persons who the board of directors, or a
committee thereof, of the covered financial institution has identified
and determined under Sec. 236.5(b)(3)(ii) of this part individually
have the ability to expose the covered financial institution to
possible losses that are substantial in relation to the institution's
size, capital, or overall risk tolerance;
(4) Any material changes to the covered financial institution's
incentive-based compensation arrangements and policies and procedures
made since the covered financial institution's last report submitted
under paragraph (a) of this section; and
(5) The specific reasons why the covered financial institution
believes the structure of its incentive-based compensation plan does
not encourage inappropriate risks by the covered financial institution
by providing covered persons with:
(i) Excessive compensation; or
(ii) Incentive-based compensation that could lead to a material
financial loss to the covered financial institution.
Sec. 236.5 Prohibitions.
(a) Excessive compensation prohibition. (1) In general. A covered
financial institution must not establish or maintain any type of
incentive-based compensation arrangement, or any feature of any such
arrangement, that encourages inappropriate risks by the covered
financial institution by providing a covered person with excessive
compensation.
(2) Standards. An incentive-based compensation arrangement provides
excessive compensation when amounts paid are unreasonable or
disproportionate to the services performed by a covered person, taking
into consideration:
(i) The combined value of all cash and non-cash benefits provided
to the covered person;
(ii) The compensation history of the covered person and other
individuals with comparable expertise at the covered financial
institution;
(iii) The financial condition of the covered financial institution;
(iv) Comparable compensation practices at comparable institutions,
based upon such factors as asset size, geographic location, and the
complexity of the covered financial institution's operations and
assets;
(v) For postemployment benefits, the projected total cost and
benefit to the covered financial institution;
(vi) Any connection between the individual and any fraudulent act
or omission, breach of trust or fiduciary duty, or insider abuse with
regard to the covered financial institution; and
(vii) Any other factors the Board determines to be relevant.
(b) Material financial loss prohibition. (1) Generally. A covered
financial institution must not establish or maintain any type of
incentive-based compensation arrangement, or any feature of any such
arrangement, that encourages inappropriate risks by the covered
financial institution, by providing incentive-based compensation to
covered persons, either individually or as part of a group of persons
who are subject to the same or similar incentive-based compensation
arrangements, that could lead to material financial loss to the covered
financial institution.
(2) Requirements for all covered financial institutions. An
incentive-based compensation arrangement established or maintained by a
covered financial institution for one or more covered persons does not
comply with paragraph (b)(1) of this section unless it:
(i) Balances risk and financial rewards, for example by using
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods;
(ii) Is compatible with effective controls and risk management; and
(iii) Is supported by strong corporate governance, including active
and effective oversight by the covered financial institution's board of
directors or a committee thereof.
(3) Specific requirements for covered financial institutions with
$50 billion or more in total consolidated assets. (i) Deferral required
for executive officers. As part of appropriately balancing risk and
financial rewards pursuant to paragraph (b)(2)(i) of this section, any
incentive-based compensation arrangement for any executive officer
established or maintained by a covered financial institution that has
total consolidated assets of $50 billion or more must provide for:
(A) At least 50 percent of the annual incentive-based compensation
of the executive officer to be deferred over a period of no less than
three years, with the release of deferred amounts to occur no faster
than on a pro rata basis; and
(B) The adjustment of the amount required to be deferred under
paragraph (b)(3)(i)(A) of this section to reflect actual losses or
other measures or aspects of performance that are realized or become
better known during the deferral period.
(ii) Additional requirement for covered persons presenting
particular loss exposure. As part of appropriately balancing risk and
financial rewards pursuant to paragraph (b)(2)(i) of this section, if a
covered financial institution has total consolidated assets of $50
billion or more--
(A) The board of directors, or a committee thereof, of the covered
financial institution shall identify those covered persons (other than
executive officers) who individually have the ability to expose the
institution to possible losses that are substantial in relation to the
institution's size, capital, or overall risk tolerance. These covered
persons may include, for example, traders with large position limits
relative to the institution's overall risk tolerance and other
individuals who have the authority to place at risk a substantial part
of the capital of the covered financial institution;
(B) The incentive-based compensation arrangement for any covered
person identified pursuant to paragraph (b)(3)(ii)(A) of this section
must be approved by the board of directors, or a committee thereof, of
the covered financial institution and such approval must be documented;
(C) The board of directors, or committee thereof, may not approve
the incentive-based compensation arrangement for any covered person
identified pursuant to paragraph (b)(3)(ii)(A) of this section unless
the board or committee determines that the arrangement, including the
method of paying compensation under the arrangement, effectively
balances the financial rewards to the covered person and the range and
time horizon of risks associated with the covered person's activities,
employing appropriate methods for ensuring risk sensitivity such as
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods; and
(D) In fulfilling its duties under paragraph (b)(3)(ii)(C) of this
section, the board of directors or committee thereof must evaluate the
overall effectiveness of the balancing methods used in the identified
covered person's incentive-based compensation arrangements in reducing
incentives for inappropriate risk taking by the identified covered
person considering the methods' suitability for balancing the full
range of risks presented by that covered person's activities, and the
methods' ability to make payments sensitive to all the risks arising
from the covered person's activities, including those that may be
difficult to predict, measure or model.
[[Page 21208]]
Sec. 236.6 Policies and procedures.
(a) In general. Any incentive-based compensation arrangement, or
any feature of any such arrangement, is prohibited under Sec. 236.5 of
this part, unless adopted pursuant to policies and procedures developed
and maintained by each covered financial institution and approved by
its board of directors, or a committee thereof, reasonably designed to
ensure and monitor compliance with the requirements set forth in 12
U.S.C. 5641 and this part and commensurate with the size and complexity
of the organization, as well as the scope and nature of its use of
incentive-based compensation.
(b) Standards. The policies and procedures must, at a minimum:
(1) Be consistent with the reporting requirements in Sec. 236.4 of
this part and prohibitions in Sec. 236.5 of this part;
(2) Ensure that risk-management, risk-oversight, and internal
control personnel have an appropriate role in the covered financial
institution's processes for designing incentive-based compensation
arrangements and for assessing their effectiveness in restraining
inappropriate risk-taking;
(3) Provide for the monitoring by a group or person independent of
the covered person, where practicable in light of the covered financial
institution's size and complexity, of incentive-based compensation
awards and payments, risks taken, and actual risk outcomes to determine
whether incentive compensation payments for covered persons, or groups
of covered persons, are reduced to reflect adverse risk outcomes or
high levels of risk taken;
(4) Provide for the covered financial institution's board of
directors, or committee thereof, to receive data and analysis from
management and other sources sufficient to allow the board, or
committee thereof, to assess whether the overall design and performance
of the institution's incentive-based compensation arrangements are
consistent with 12 U.S.C. 5641;
(5) Ensure that documentation of the covered financial
institution's processes for establishing, implementing, modifying, and
monitoring incentive-based compensation arrangements is maintained that
is sufficient to enable the Board to determine the institution's
compliance with 12 U.S.C. 5641 and this part;
(6) Consistent with Sec. 236.5(b)(3) of this part, where deferral
is used in connection with an incentive-based compensation arrangement,
provide for deferral of incentive-based compensation awards in amounts
and for periods of time appropriate to the duties and responsibilities
of the covered financial institution's covered persons, the risks
associated with those duties and responsibilities, and the size and
complexity of the covered financial institution and provide that the
deferral amounts paid are adjusted to reflect actual losses or other
measures or aspects of performance that are realized or become better
known during the deferral period; and
(7) Subject any incentive-based compensation arrangement to a
corporate governance framework that provides for ongoing oversight by
the board of directors or a committee thereof, including the approval
by the board of directors or a committee thereof of incentive-based
compensation to executive officers.
Sec. 236.7 Evasion.
A covered financial institution is prohibited, for the purpose of
evading the restrictions of this part, from doing indirectly or through
or by any other person, any act or thing that it would be unlawful for
such covered financial institution to do directly under this part.
Federal Deposit Insurance Corporation
12 CFR CHAPTER III
Authority and Issuance
For the reasons set forth in the preamble, the Federal Deposit
Insurance Corporation proposes to amend chapter III of title 12 of the
Code of Federal Regulations as follows:
3. Add new part 372 to read as follows:
PART 372--INCENTIVE-BASED COMPENSATION ARRANGEMENTS
Sec.
372.1 Authority.
372.2 Scope and purpose.
372.3 Definitions.
372.4 Required reports to regulators.
372.5 Prohibitions.
372.6 Policies and procedures.
372.7 Evasion.
Authority: 12 U.S.C. 1819 Tenth, 12 U.S.C. 5641.
Sec. 372.1 Authority.
This part is issued pursuant to section 956 of the Dodd-Frank Wall
Street Reform and Consumer Protection Act (12 U.S.C. 5641).
Sec. 372.2 Scope and purpose.
This part applies to a covered financial institution that has total
consolidated assets of $1 billion or more and offers incentive-based
compensation arrangements to covered persons. Nothing in this part in
any way limits the authority of the Corporation under other provisions
of applicable law and regulations.
Sec. 372.3 Definitions.
For purposes of this part, the following definitions apply unless
otherwise specified:
(a) Board of directors means the governing body of any covered
financial institution performing functions similar to a board of
directors. For an insured U.S. branch of a foreign bank, ``board of
directors'' means the senior management of its parent foreign bank.
(b) Compensation means all direct and indirect payments, fees or
benefits, both cash and non-cash, awarded to, granted to, or earned by
or for the benefit of, any covered person in exchange for services
rendered to the covered financial institution, including, but not
limited to, payments or benefits pursuant to an employment contract,
compensation or benefit agreement, fee arrangement, perquisite, stock
option plan, postemployment benefit, or other compensatory arrangement.
(c) Covered financial institution means a state nonmember bank and
an insured U.S. branch of a foreign bank that has total consolidated
assets of $1 billion or more.
(d) Covered person means any executive officer, employee, director,
or principal shareholder of a covered financial institution.
(e) Director of a covered financial institution means a member of
the board of directors of the covered financial institution, or of a
board or committee performing a similar function to a board of
directors.
(f) Executive officer of a covered financial institution means a
person who holds the title or, without regard to title, salary, or
compensation, performs the function of one or more of the following
positions: President, chief executive officer, executive chairman,
chief operating officer, chief financial officer, chief investment
officer, chief legal officer, chief lending officer, chief risk
officer, or head of a major business line.
(g) Incentive-based compensation means any variable compensation
that serves as an incentive for performance.
(h) Principal shareholder means an individual who directly or
indirectly, or acting through or in concert with one or more persons,
owns, controls, or has the power to vote 10 percent or more of any
class of voting securities of a covered financial institution.
(i) Total consolidated assets means:
(1) For a state nonmember bank, the average of the total assets
reported in the bank's four most recent
[[Page 21209]]
Consolidated Reports of Condition and Income; and
(2) For an insured U.S. branch of a foreign bank, the average of
the total assets reported in the branch's four most recent Reports of
Assets and Liabilities of U.S. Branches and Agencies of Foreign Banks.
Sec. 372.4 Required reports to regulators.
(a) In general. A covered financial institution must submit a
report annually to, and in the format directed by, the Corporation,
that describes the structure of the covered financial institution's
incentive-based compensation arrangements for covered persons and that
is sufficient to allow an assessment of whether the structure or
features of those arrangements provide or are likely to provide covered
persons with excessive compensation, fees, or benefits to covered
persons or could lead to material financial loss to the covered
financial institution.
(b) Individual compensation. A covered financial institution is not
required to report the actual compensation of particular covered
persons as part of the report required by paragraph (a) of this
section.
(c) Minimum standards. The information submitted by the covered
financial institution pursuant to paragraph (a) of this section must
include the following:
(1) A clear narrative description of the components of the covered
financial institution's incentive-based compensation arrangements
applicable to covered persons and specifying the types of covered
persons to which they apply;
(2) A succinct description of the covered financial institution's
policies and procedures governing its incentive-based compensation
arrangements for covered persons;
(3) If the covered financial institution has total consolidated
assets of $50 billion or more, an additional succinct description of
incentive-based compensation policies and procedures specific to the
covered financial institution's:
(i) Executive officers; and
(ii) Other covered persons who the board of directors, or a
committee thereof, of the covered financial institution has identified
and determined under Sec. 372.5(b)(3)(ii) of this part individually
have the ability to expose the covered financial institution to
possible losses that are substantial in relation to the institution's
size, capital, or overall risk tolerance;
(4) Any material changes to the covered financial institution's
incentive-based compensation arrangements and policies and procedures
made since the covered financial institution's last report submitted
under paragraph (a) of this section; and
(5) The specific reasons why the covered financial institution
believes the structure of its incentive-based compensation plan does
not encourage inappropriate risks by the covered financial institution
by providing covered persons with:
(i) Excessive compensation; or
(ii) Incentive-based compensation that could lead to a material
financial loss to the covered financial institution.
Sec. 372.5 Prohibitions.
(a) Excessive compensation prohibition. (1) In general. A covered
financial institution must not establish or maintain any type of
incentive-based compensation arrangement, or any feature of any such
arrangement, that encourages inappropriate risks by the covered
financial institution by providing a covered person with excessive
compensation.
(2) Standards. An incentive-based compensation arrangement provides
excessive compensation when amounts paid are unreasonable or
disproportionate to the services performed by a covered person, taking
into consideration:
(i) The combined value of all cash and non-cash benefits provided
to the covered person;
(ii) The compensation history of the covered person and other
individuals with comparable expertise at the covered financial
institution;
(iii) The financial condition of the covered financial institution;
(iv) Comparable compensation practices at comparable institutions,
based upon such factors as asset size, geographic location, and the
complexity of the covered financial institution's operations and
assets;
(v) For postemployment benefits, the projected total cost and
benefit to the covered financial institution;
(vi) Any connection between the individual and any fraudulent act
or omission, breach of trust or fiduciary duty, or insider abuse with
regard to the covered financial institution; and
(vii) Any other factors the Corporation determines to be relevant.
(b) Material financial loss prohibition. (1) Generally. A covered
financial institution must not establish or maintain any type of
incentive-based compensation arrangement, or any feature of any such
arrangement, that encourages inappropriate risks by the covered
financial institution, by providing incentive-based compensation to
covered persons, either individually or as part of a group of persons
who are subject to the same or similar incentive-based compensation
arrangements, that could lead to material financial loss to the covered
financial institution.
(2) Requirements for all covered financial institutions. An
incentive-based compensation arrangement established or maintained by a
covered financial institution for one or more covered persons does not
comply with paragraph (b)(1) of this section unless it:
(i) Balances risk and financial rewards, for example by using
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods;
(ii) Is compatible with effective controls and risk management; and
(iii) Is supported by strong corporate governance, including active
and effective oversight by the covered financial institution's board of
directors or a committee thereof.
(3) Specific requirements for covered financial institutions with
$50 billion or more in total consolidated assets. (i) Deferral required
for executive officers. As part of appropriately balancing risk and
financial rewards pursuant to paragraph (b)(2)(i) of this section, any
incentive-based compensation arrangement for any executive officer
established or maintained by a covered financial institution that has
total consolidated assets of $50 billion or more must provide for:
(A) At least 50 percent of the annual incentive-based compensation
of the executive officer to be deferred over a period of no less than
three years, with the release of deferred amounts to occur no faster
than on a pro rata basis; and
(B) The adjustment of the amount required to be deferred under
paragraph (b)(3)(i)(A) of this section to reflect actual losses or
other measures or aspects of performance that are realized or become
better known during the deferral period.
(ii) Additional requirement for covered persons presenting
particular loss exposure. As part of appropriately balancing risk and
financial rewards pursuant to paragraph (b)(2)(i) of this section, if a
covered financial institution has total consolidated assets of $50
billion or more--
(A) The board of directors, or a committee thereof, of the covered
financial institution shall identify those covered persons (other than
executive officers) who individually have the ability to expose the
institution to possible losses that are substantial in relation to the
institution's size, capital, or overall risk tolerance. These covered
[[Page 21210]]
persons may include, for example, traders with large position limits
relative to the institution's overall risk tolerance and other
individuals who have the authority to place at risk a substantial part
of the capital of the covered financial institution;
(B) The incentive-based compensation arrangement for any covered
person identified pursuant to paragraph (b)(3)(ii)(A) of this section
must be approved by the board of directors, or a committee thereof, of
the covered financial institution and such approval must be documented;
(C) The board of directors, or committee thereof, may not approve
the incentive-based compensation arrangement for any covered person
identified pursuant to paragraph (b)(3)(ii)(A) of this section unless
the board or committee determines that the arrangement, including the
method of paying compensation under the arrangement, effectively
balances the financial rewards to the covered person and the range and
time horizon of risks associated with the covered person's activities,
employing appropriate methods for ensuring risk sensitivity such as
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods; and
(D) In fulfilling its duties under paragraph (b)(3)(ii)(C) of this
section, the board of directors or committee thereof must evaluate the
overall effectiveness of the balancing methods used in the identified
covered person's incentive compensation arrangements in reducing
incentives for inappropriate risk taking by the identified covered
person considering the methods' suitability for balancing the full
range of risks presented by that covered person's activities, and the
methods' ability to make payments sensitive to all the risks arising
from the covered person's activities, including those that may be
difficult to predict, measure or model.
Sec. 372.6 Policies and procedures.
(a) In general. Any incentive-based compensation arrangement, or
any feature of any such arrangement, is prohibited under Sec. 372.5 of
this part, unless adopted pursuant to policies and procedures developed
and maintained by each covered financial institution and approved by
its board of directors, or a committee thereof, reasonably designed to
ensure and monitor compliance with the requirements set forth in 12
U.S.C. 5641 and this part and commensurate with the size and complexity
of the organization, as well as the scope and nature of its use of
incentive-based compensation.
(b) Standards. The policies and procedures must, at a minimum:
(1) Be consistent with the reporting requirements in Sec. 372.4 of
this part and prohibitions in Sec. 372.5 of this part;
(2) Ensure that risk-management, risk-oversight, and internal
control personnel have an appropriate role in the covered financial
institution's processes for designing incentive-based compensation
arrangements and for assessing their effectiveness in restraining
inappropriate risk-taking;
(3) Provide for the monitoring by a group or person independent of
the covered person, where practicable in light of the covered financial
institution's size and complexity, of incentive-based compensation
awards and payments, risks taken, and actual risk outcomes to determine
whether incentive compensation payments for covered persons, or groups
of covered persons, are reduced to reflect adverse risk outcomes or
high levels of risk taken;
(4) Provide for the covered financial institution's board of
directors, or committee thereof, to receive data and analysis from
management and other sources sufficient to allow the board, or
committee thereof, to assess whether the overall design and performance
of the covered financial institution's incentive-based compensation
arrangements are consistent with 12 U.S.C. 5641;
(5) Ensure that documentation of the covered financial
institution's processes for establishing, implementing, modifying, and
monitoring incentive-based compensation arrangements is maintained that
is sufficient to enable the Corporation to determine the institution's
compliance with 12 U.S.C. 5641 and this part;
(6) Consistent with Sec. 372.5(b)(3) of this part, where deferral
is used in connection with an incentive-based compensation arrangement,
provide for deferral of incentive-based compensation awards in amounts
and for periods of time appropriate to the duties and responsibilities
of the covered financial institution's covered persons, the risks
associated with those duties and responsibilities, and the size and
complexity of the covered financial institution and provide that the
deferral amounts paid are adjusted to reflect actual losses or other
measures or aspects of performance that are realized or become better
known during the deferral period; and
(7) Subject any incentive-based compensation arrangement to a
corporate governance framework that provides for ongoing oversight by
the board of directors or a committee thereof, including the approval
by the board of directors or a committee thereof of incentive-based
compensation to executive officers.
Sec. 372.7 Evasion.
A covered financial institution is prohibited, for the purpose of
evading the restrictions of this part, from doing indirectly or through
or by any other person, any act or thing that it would be unlawful for
such covered financial institution to do directly under this part.
Department of the Treasury
12 CFR Chapter V
For the reasons set forth in the joint preamble, the Office of
Thrift Supervision proposes to amend chapter V of title 12 of the Code
of Federal Regulations as follows:
4. Add part 563h to read as follows:
PART 563h--INCENTIVE-BASED COMPENSATION ARRANGEMENTS
Sec.
563h.1 Authority.
563h.2 Scope and purpose.
563h.3 Definitions.
563h.4 Required reports to regulators.
563h.5 Prohibitions.
563h.6 Policies and procedures.
563h.7 Evasion.
Authority: 12 U.S.C. 1462a, 1463, 1464, 1467a, and 5641.
Sec. 563h.1 Authority.
This part is issued pursuant to section 956 of the Dodd-Frank Wall
Street Reform and Consumer Protection Act (12 U.S.C. 5641).
Sec. 563h.2 Scope and purpose.
This part applies to a covered financial institution that has total
consolidated assets of $1 billion or more and offers incentive-based
compensation arrangements to covered persons. Nothing in this part in
any way limits the authority of the OTS under other provisions of
applicable law and regulations.
Sec. 563h.3 Definitions.
For purposes of this part, the following definitions apply unless
otherwise specified:
(a) Board of directors means the governing body of any covered
financial institution performing functions similar to a board of
directors.
(b) Compensation means all direct and indirect payments, fees or
benefits, both cash and non-cash, awarded to, granted to, or earned by
or for the benefit of, any covered person in exchange for services
rendered to the covered financial institution, including, but not
limited to, payments or benefits pursuant to an employment contract,
[[Page 21211]]
compensation or benefit agreement, fee arrangement, perquisite, stock
option plan, postemployment benefit, or other compensatory arrangement.
(c) Covered financial institution means a savings association as
defined in 12 U.S.C. 1813(b) and a savings and loan holding company as
defined in 12 U.S.C. 1467a(a), that has total consolidated assets of $1
billion or more.
(d) Covered person means any executive officer, employee, director,
or principal shareholder of a covered financial institution.
(e) Director of a covered financial institution means a member of
the board of directors of the covered financial institution, or of a
board or committee performing a similar function to a board of
directors.
(f) Executive officer of a covered financial institution means a
person who holds the title or, without regard to title, salary, or
compensation, performs the function of one or more of the following
positions: president, chief executive officer, executive chairman,
chief operating officer, chief financial officer, chief investment
officer, chief legal officer, chief lending officer, chief risk
officer, or head of a major business line.
(g) Incentive-based compensation means any variable compensation
that serves as an incentive for performance.
(h) Principal shareholder means an individual who directly or
indirectly, or acting through or in concert with one or more persons,
owns, controls, or has the power to vote 10 percent or more of any
class of voting securities of a covered financial institution.
(i) Total consolidated assets means total consolidated assets
determined based on the average of the covered financial institution's
four most recent Thrift Financial Reports.
Sec. 563h.4 Required reports to regulators.
(a) In general. A covered financial institution must submit a
report annually to, and in the format directed by, the OTS, that
describes the structure of the covered financial institution's
incentive-based compensation arrangements for covered persons and that
is sufficient to allow an assessment of whether the structure or
features of those arrangements provide or are likely to provide covered
persons with excessive compensation, fees, or benefits to covered
persons or could lead to material financial loss to the covered
financial institution.
(b) Individual compensation. A covered financial institution is not
required to report the actual compensation of particular covered
persons as part of the report required by paragraph (a) of this
section.
(c) Minimum standards. The information submitted by the covered
financial institution pursuant to paragraph (a) of this section must
include the following:
(1) A clear narrative description of the components of the covered
financial institution's incentive-based compensation arrangements
applicable to covered persons and specifying the types of covered
persons to which they apply;
(2) A succinct description of the covered financial institution's
policies and procedures governing its incentive-based compensation
arrangements for covered persons;
(3) If the covered financial institution has total consolidated
assets of $50 billion or more, an additional succinct description of
incentive-based compensation policies and procedures specific to the
covered financial institution's:
(i) Executive officers; and
(ii) Other covered persons who the board of directors, or a
committee thereof, of the covered financial institution has identified
and determined under Sec. 563h.5(b)(3)(ii) of this part individually
have the ability to expose the covered financial institution to
possible losses that are substantial in relation to the institution's
size, capital, or overall risk tolerance;
(4) Any material changes to the covered financial institution's
incentive-based compensation arrangements and policies and procedures
made since the covered financial institution's last report submitted
under paragraph (a) of this section; and
(5) The specific reasons why the covered financial institution
believes the structure of its incentive-based compensation plan does
not encourage inappropriate risks by the covered financial institution
by providing covered persons with:
(i) Excessive compensation; or
(ii) Incentive-based compensation that could lead to material
financial loss to the covered financial institution.
Sec. 563h.5 Prohibitions.
(a) Excessive compensation prohibition. (1) In general. A covered
financial institution must not establish or maintain any type of
incentive-based compensation arrangement, or any feature of any such
arrangement, that encourages inappropriate risks by the covered
financial institution by providing a covered person with excessive
compensation.
(2) Standards. An incentive-based compensation arrangement provides
excessive compensation when amounts paid are unreasonable or
disproportionate to the services performed by a covered person, taking
into consideration:
(i) The combined value of all cash and non-cash benefits provided
to the covered person;
(ii) The compensation history of the covered person and other
individuals with comparable expertise at the covered financial
institution;
(iii) The financial condition of the covered financial institution;
(iv) Comparable compensation practices at comparable institutions,
based upon such factors as asset size, geographic location, and the
complexity of the covered financial institution's operations and
assets;
(v) For postemployment benefits, the projected total cost and
benefit to the covered financial institution;
(vi) Any connection between the individual and any fraudulent act
or omission, breach of trust or fiduciary duty, or insider abuse with
regard to the covered financial institution; and
(vii) Any other factors the OTS determines to be relevant.
(b) Material financial loss prohibition. (1) Generally. A covered
financial institution must not establish or maintain any type of
incentive-based compensation arrangement, or any feature of any such
arrangement, that encourages inappropriate risks by the covered
financial institution, by providing incentive-based compensation to
covered persons, either individually or as part of a group of persons
who are subject to the same or similar incentive-based compensation
arrangements, that could lead to material financial loss to the covered
financial institution.
(2) Requirements for all covered financial institutions. An
incentive-based compensation arrangement established or maintained by a
covered financial institution for one or more covered persons does not
comply with paragraph (b)(1) of this section unless it:
(i) Balances risk and financial rewards, for example by using
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods;
(ii) Is compatible with effective controls and risk management; and
(iii) Is supported by strong corporate governance, including active
and effective oversight by the covered financial institution's board of
directors or a committee thereof.
(3) Specific requirements for covered financial institutions with
$50 billion or more in total consolidated assets. (i)
[[Page 21212]]
Deferral required for executive officers. As part of appropriately
balancing risk and financial rewards pursuant to paragraph (b)(2)(i) of
this section, any incentive-based compensation arrangement for any
executive officer established or maintained by a covered financial
institution that has total consolidated assets of $50 billion or more
must provide for:
(A) At least 50 percent of the annual incentive-based compensation
of the executive officer to be deferred over a period of no less than
three years, with the release of deferred amounts to occur no faster
than on a pro rata basis; and
(B) The adjustment of the amount required to be deferred under
paragraph (b)(3)(i)(A) of this section to reflect actual losses or
other measures or aspects of performance that are realized or become
better known during the deferral period.
(ii) Additional requirement for covered persons presenting
particular loss exposure. As part of appropriately balancing risk and
financial rewards pursuant to paragraph (b)(2)(i) of this section, if a
covered financial institution has total consolidated assets of $50
billion or more--
(A) The board of directors, or a committee thereof, of the covered
financial institution shall identify those covered persons (other than
executive officers) who individually have the ability to expose the
institution to possible losses that are substantial in relation to the
institution's size, capital, or overall risk tolerance. These covered
persons may include, for example, traders with large position limits
relative to the institution's overall risk tolerance and other
individuals who have the authority to place at risk a substantial part
of the capital of the covered financial institution;
(B) The incentive-based compensation arrangement for any covered
person identified pursuant to paragraph (b)(3)(ii)(A) of this section
must be approved by the board of directors, or a committee thereof, of
the covered financial institution and such approval must be documented;
(C) The board of directors, or committee thereof, may not approve
the incentive-based compensation arrangement for any covered person
identified pursuant to paragraph (b)(3)(ii)(A) of this section unless
the board or committee determines that the arrangement, including the
method of paying compensation under the arrangement, effectively
balances the financial rewards to the covered person and the range and
time horizon of risks associated with the covered person's activities,
employing appropriate methods for ensuring risk sensitivity such as
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods; and
(D) In fulfilling its duties under paragraph (b)(3)(ii)(C) of this
section, the board of directors, or committee thereof, must evaluate
the overall effectiveness of the balancing methods used in the
identified covered person's incentive-based compensation arrangements
in reducing incentives for inappropriate risk taking by the identified
covered person considering the methods' suitability for balancing the
full range of risks presented by that covered person's activities, and
the methods' ability to make payments sensitive to all the risks
arising from the covered person's activities, including those that may
be difficult to predict, measure, or model.
Sec. 563h.6 Policies and procedures.
(a) In general. Any incentive-based compensation arrangement, or
any feature of any such arrangement, is prohibited under Sec. 563h.5
of this part, unless adopted pursuant to policies and procedures
developed and maintained by each covered financial institution and
approved by its board of directors, or a committee thereof, reasonably
designed to ensure and monitor compliance with the requirements set
forth in 12 U.S.C. 5641 and this part and commensurate with the size
and complexity of the organization, as well as the scope and nature of
its use of incentive-based compensation.
(b) Standards. The policies and procedures must, at a minimum:
(1) Be consistent with the reporting requirements in Sec. 563h.4
of this part and prohibitions in Sec. 563h.5 of this part;
(2) Ensure that risk-management, risk-oversight, and internal
control personnel have an appropriate role in the covered financial
institution's processes for designing incentive-based compensation
arrangements and for assessing their effectiveness in restraining
inappropriate risk-taking;
(3) Provide for the monitoring by a group or person independent of
the covered person, where practicable in light of the covered financial
institution's size and complexity, of incentive-based compensation
awards and payments, risks taken, and actual risk outcomes to determine
whether incentive compensation payments for covered persons, or groups
of covered persons, are reduced to reflect adverse risk outcomes or
high levels of risk taken;
(4) Provide for the covered financial institution's board of
directors, or committee thereof, to receive data and analysis from
management and other sources sufficient to allow the board, or
committee thereof, to assess whether the overall design and performance
of the institution's incentive-based compensation arrangements are
consistent with 12 U.S.C. 5641;
(5) Ensure that documentation of the covered financial
institution's processes for establishing, implementing, modifying, and
monitoring incentive-based compensation arrangements is maintained that
is sufficient to enable the OTS to determine the institution's
compliance with 12 U.S.C. 5641 and this part;
(6) Consistent with Sec. 563h.5(b)(3) of this part, where deferral
is used in connection with an incentive-based compensation arrangement,
provide for deferral of incentive-based compensation awards in amounts
and for periods of time appropriate to the duties and responsibilities
of the covered financial institution's covered persons, the risks
associated with those duties and responsibilities, and the size and
complexity of the covered financial institution and provide that the
deferral amounts paid are adjusted to reflect actual losses or other
measures or aspects of performance that are realized or become better
known during the deferral period; and
(7) Subject any incentive-based compensation arrangement to a
corporate governance framework that provides for ongoing oversight by
the board of directors or a committee thereof, including the approval
by the board of directors or a committee thereof of incentive-based
compensation to executive officers.
Sec. 563h.7 Evasion.
A covered financial institution is prohibited, for the purpose of
evading the restrictions of this part, from doing indirectly or through
or by any other person, any act or thing that it would be unlawful for
such covered financial institution to do directly under this part.
National Credit Union Administration
12 CFR Chapter VII
Authority and Issuance
For the reasons stated in the preamble, the National Credit Union
Administration proposes to amend chapter VII of title 12 of the Code of
Federal Regulations as follows:
PART 741--REQUIREMENTS FOR INSURANCE
5. The authority citation for part 741 continues to read as
follows:
[[Page 21213]]
Authority: 12 U.S.C. 1757, 1766, 1781-1790, and 1790d.
6. Add a new Sec. 741.225 to read as follows:
Sec. 741.225 Incentive-based compensation arrangements.
Any credit union which is insured pursuant to Title II of the Act
must adhere to the requirements stated in part 751 of this chapter.
7. Add a new part 751 to subchapter A to read as follows:
Part 751 Incentive-Based Compensation Arrangements
Sec.
751.1 Authority.
751.2 Scope and purpose.
751.3 Definitions.
751.4 Required reports to regulators.
751.5 Prohibitions.
751.6 Policies and procedures.
751.7 Evasion.
Authority: 12 U.S.C. 1751 et seq. and 5641.
Sec. 751.1 Authority.
This part is issued pursuant to section 956 of the Dodd-Frank Wall
Street Reform and Consumer Protection Act (12 U.S.C. 5641).
Sec. 751.2 Scope and purpose.
This part applies to any federally insured credit union, or credit
union eligible to make application to become an insured credit union
under 12 U.S.C. 1781, with total consolidated assets of $1 billion or
more, and offers incentive-based compensation arrangements to covered
persons. Nothing in this part in any way limits the authority of the
NCUA under other provisions of applicable law and regulations.
Sec. 751.3 Definitions.
For purposes of this part, the following definitions apply unless
otherwise specified:
(a) Board of directors means the governing body of any credit
union.
(b) Compensation means all direct and indirect payments, fees or
benefits, both cash and non-cash, awarded to, granted to, or earned by
or for the benefit of, any covered person in exchange for services
rendered to the credit union, including, but not limited to, payments
or benefits pursuant to an employment contract, compensation or benefit
agreement, fee arrangement, perquisite, post-employment benefit, or
other compensatory arrangement. Consistent with Sec. 701.33 of this
chapter, the term compensation specifically excludes reimbursement for
reasonable and proper costs incurred by covered persons in carrying out
official credit union business; provision of reasonable health,
accident and related types of personal insurance protection; and
indemnification.
(c) [Reserved]
(d) Covered person means any executive officer, employee, or
director of a credit union.
(e) [Reserved]
(f) Executive officer of a credit union means a person who holds
the title or, without regard to title, salary, or compensation,
performs the function of one or more of the following positions:
president, chief executive officer, executive chairman, chief operating
officer, chief financial officer, chief investment officer, chief legal
officer, chief lending officer, chief risk officer, or head of a major
business line.
(g) Incentive-based compensation means any variable compensation
that serves as an incentive for performance.
(h) [Reserved]
(i) Total consolidated assets means calculating the average of the
total assets reported in the credit union's four most recent 5300 Call
Reports.
Sec. 751.4 Required reports to regulators.
(a) In general. A credit union must submit a report annually to,
and in the format directed by, the NCUA, that describes the structure
of the credit union's incentive-based compensation arrangements for
covered persons and that is sufficient to allow an assessment of
whether the structure or features of those arrangements provide or are
likely to provide covered persons with excessive compensation, fees, or
benefits to covered persons or could lead to material financial loss to
the credit union.
(b) Individual compensation. A credit union is not required to
report the actual compensation of particular covered persons as part of
the report required by paragraph (a) of this section.
(c) Minimum standards. The information submitted by the credit
union pursuant to paragraph (a) of this section must include the
following:
(1) A clear narrative description of the components of the credit
union's incentive-based compensation arrangements applicable to covered
persons and specifying the types of covered persons to which they
apply;
(2) A succinct description of the credit union's policies and
procedures governing its incentive-based compensation arrangements for
covered persons;
(3) If the credit union has total consolidated assets of $10
billion or more, an additional succinct description of incentive-based
compensation policies and procedures specific to the credit union's:
(i) Executive officers; and
(ii) Other covered persons who the board of directors, or a
committee thereof, of the credit union has identified and determined
under Sec. 751.5(b)(3)(ii) of this part individually have the ability
to expose the credit union to possible losses that are substantial in
relation to the credit union's size, capital, or overall risk
tolerance;
(4) Any material changes to the credit union's incentive-based
compensation arrangements and policies and procedures made since the
credit union's last report submitted under paragraph (a) of this
section; and
(5) The specific reasons why the credit union believes the
structure of its incentive-based compensation plan does not encourage
inappropriate risks by the credit union by providing covered persons
with:
(i) Excessive compensation; or
(ii) Incentive-based compensation that could lead to material
financial loss to the credit union.
Sec. 751.5 Prohibitions.
(a) Excessive compensation prohibition. (1) In general. A credit
union must not establish or maintain any type of incentive-based
compensation arrangement, or any feature of any such arrangement, that
encourages inappropriate risks by the credit union by providing a
covered person with excessive compensation.
(2) Standards. An incentive-based compensation arrangement provides
excessive compensation when amounts paid are unreasonable or
disproportionate to the services performed by a covered person, taking
into consideration:
(i) The combined value of all cash and non-cash benefits provided
to the covered person;
(ii) The compensation history of the covered person and other
individuals with comparable expertise at the credit union;
(iii) The financial condition of the credit union;
(iv) Comparable compensation practices at comparable institutions,
based upon such factors as asset size, geographic location, and the
complexity of the credit union's operations and assets;
(v) For postemployment benefits, the projected total cost and
benefit to the credit union;
(vi) Any connection between the individual and any fraudulent act
or omission, breach of trust or fiduciary duty, or insider abuse with
regard to the credit union; and
(vii) Any other factors the NCUA determines to be relevant.
[[Page 21214]]
(b) Material financial loss prohibition. (1) Generally. A credit
union must not establish or maintain any type of incentive-based
compensation arrangement, or any feature of any such arrangement, that
encourages inappropriate risks by the credit union, by providing
incentive-based compensation to covered persons, either individually or
as part of a group of persons who are subject to the same or similar
incentive-based compensation arrangements, that could lead to material
financial loss to the credit union.
(2) Requirements for all credit unions. An incentive-based
compensation arrangement established or maintained by a credit union
for one or more covered persons does not comply with paragraph (b)(1)
of this section unless it:
(i) Balances risk and financial rewards, for example by using
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods;
(ii) Is compatible with effective controls and risk management; and
(iii) Is supported by strong corporate governance, including active
and effective oversight by the credit union's board of directors or a
committee thereof.
(3) Specific requirements for credit unions with $10 billion or
more in total consolidated assets.
(i) Deferral required for executive officers. As part of
appropriately balancing risk and financial rewards pursuant to
paragraph (b)(2)(i) of this section, any incentive-based compensation
arrangement for any executive officer, established or maintained by a
credit union that has total consolidated assets of $10 billion or more,
must provide for:
(A) At least 50 percent of the annual incentive-based compensation
of the executive officer to be deferred over a period of no less than
three years, with the release of deferred amounts to occur no faster
than on a pro rata basis; and
(B) The adjustment of the amount required to be deferred under
paragraph (b)(3)(i)(A) of this section to reflect actual losses or
other measures or aspects of performance that are realized or become
better known during the deferral period.
(ii) Additional requirement for covered persons presenting
particular loss exposure. As part of appropriately balancing risk and
financial rewards pursuant to paragraph (b)(2)(i) of this section, if a
credit union has total consolidated assets of $10 billion or more--
(A) The board of directors, or a committee thereof, of the credit
union shall identify those covered persons (other than executive
officers) who individually have the ability to expose the credit union
to possible losses that are substantial in relation to the credit
union's size, capital, or overall risk tolerance. These covered persons
may include, for example, individuals who have the authority to place
at risk a substantial part of the credit union's capital;
(B) The incentive-based compensation arrangement for any covered
person identified pursuant to paragraph (b)(3)(ii)(A) of this section
must be approved by the board of directors, or a committee thereof, of
the credit union and such approval must be documented;
(C) The board of directors, or committee thereof, may not approve
the incentive-based compensation arrangement for any covered person
identified pursuant to paragraph (b)(3)(ii)(A) of this section unless
the board or committee determines that the arrangement, including the
method of paying compensation under the arrangement, effectively
balances the financial rewards to the covered person and the range and
time horizon of risks associated with the covered person's activities,
employing appropriate methods for ensuring risk sensitivity, such as
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods; and
(D) In fulfilling its duties under paragraph (b)(3)(ii)(C) of this
section, the board of directors, or committee thereof, must evaluate
the overall effectiveness of the balancing methods used in the
identified covered person's incentive-based compensation arrangements
in reducing incentives for inappropriate risk taking by the identified
covered person considering the methods' suitability for balancing the
full range of risks presented by that covered person's activities, and
the methods' ability to make payments sensitive to all the risks
arising from the covered person's activities, including those that may
be difficult to predict, measure, or model.
Sec. 751.6 Policies and procedures.
(a) In general. Any incentive-based compensation arrangement, or
any feature of any such arrangement, is prohibited under Sec. 751.5 of
this part, unless adopted pursuant to policies and procedures developed
and maintained by each credit union and approved by its board of
directors, or a committee thereof, reasonably designed to ensure and
monitor compliance with the requirements set forth in 12 U.S.C. 5641
and this part and commensurate with the size and complexity of the
credit union, as well as the scope and nature of its use of incentive-
based compensation.
(b) Standards. The policies and procedures must, at a minimum:
(1) Be consistent with the reporting requirements in Sec. 751.4 of
this part and prohibitions in Sec. 751.5 of this part;
(2) Ensure that risk-management, risk-oversight, and internal
control personnel have an appropriate role in the credit union's
processes for designing incentive-based compensation arrangements and
for assessing their effectiveness in restraining inappropriate risk-
taking;
(3) Provide for the monitoring by a group or person independent of
the covered person, where practicable in light of the credit union's
size and complexity, of incentive-based compensation awards and
payments, risks taken, and actual risk outcomes to determine whether
incentive compensation payments for covered persons, or groups of
covered persons, are reduced to reflect adverse risk outcomes or high
levels of risk taken;
(4) Provide for the credit union's board of directors, or committee
thereof, to receive data and analysis from management and other sources
sufficient to allow the board, or committee thereof, to assess whether
the overall design and performance of the credit union's incentive-
based compensation arrangements are consistent with 12 U.S.C. 5641;
(5) Ensure that documentation of the credit union's processes for
establishing, implementing, modifying, and monitoring incentive-based
compensation arrangements is maintained that is sufficient to enable
the NCUA to determine the credit union's compliance with 12 U.S.C. 5641
and this part;
(6) Consistent with Sec. 751.5(b)(3) of this part, where deferral
is used in connection with an incentive-based compensation arrangement,
provide for deferral of incentive-based compensation awards in amounts
and for periods of time appropriate to the duties and responsibilities
of the credit union's covered persons, the risks associated with those
duties and responsibilities, and the size and complexity of the credit
union, and provide that the deferral amounts paid are adjusted to
reflect actual losses or other measures or aspects of performance that
are realized or become better known during the deferral period; and
[[Page 21215]]
(7) Subject any incentive-based compensation arrangement to a
corporate governance framework that provides for ongoing oversight by
the board of directors or a committee thereof, including the approval
by the board of directors or a committee thereof of incentive-based
compensation to executive officers.
Sec. 751.7 Evasion.
A credit union is prohibited, for the purpose of evading the
restrictions of this part, from doing indirectly or through or by any
other person, any act or thing that it would be unlawful for such
credit union to do directly under this part.
Securities and Exchange Commission
Authority and Issuance
For the reasons set forth in the preamble, the Commission proposes
to amend Title 17, Chapter II of the Code of Federal Regulations as
follows:
PART 248--REGULATION S-P, REGULATION S-AM, AND INCENTIVE-BASED
COMPENSATION ARRANGEMENTS
8. The authority citation for part 248 is revised to read as
follows:
Authority: 15 U.S.C. 78q, 78q-1, 78w, 78mm, 80a-30, 80a-37, 80b-
4, 80b-11, 1681s-3 and note, 1681w(a)(1), 6801-6809, and 6825, and
12 U.S.C. 5641.
9. Add a new subpart C (consisting of Sec. Sec. 248.201 through
Sec. 248.207) to read as follows:
Subpart C--Incentive-based Compensation Arrangements
Sec.
248.201 Authority.
248.202 Scope and purpose.
248.203 Definitions.
248.204 Required reports to the Commission.
248.205 Prohibitions.
248.206 Policies and procedures.
248.207 Evasion.
Subpart C--Incentive-based Compensation Arrangements
Sec. 248.201 Authority.
This subpart is issued pursuant to section 956 of the Dodd-Frank
Wall Street Reform and Consumer Protection Act (12 U.S.C. 5641).
Sec. 248.202 Scope and purpose.
This subpart applies to a covered financial institution that has
total consolidated assets of $1 billion or more and offers incentive-
based compensation arrangements to covered persons. Nothing in this
subpart in any way limits the authority of the Commission under other
provisions of applicable law and regulations.
Sec. 248.203 Definitions.
For purposes of this subpart, the following definitions apply
unless otherwise specified:
(a) Board of directors means the governing body of any covered
financial institution performing functions similar to a board of
directors.
(b) Compensation means all direct and indirect payments, fees or
benefits, both cash and non-cash, awarded to, granted to, or earned by
or for the benefit of, any covered person in exchange for services
rendered to the covered financial institution, including, but not
limited to, payments or benefits pursuant to an employment contract,
compensation or benefit agreement, fee arrangement, perquisite, stock
option plan, postemployment benefit, or other compensatory arrangement.
(c) Covered financial institution means: a broker or dealer
registered under Section 15 of the Securities Exchange Act of 1934 (15
U.S.C. 78o) and an investment adviser as such term is defined in
section 202(a)(11) of the Investment Advisers Act of 1940 (15 U.S.C.
80b-2(a)(11)) that has total consolidated assets of $1 billion or more.
(d) Covered person means any executive officer, employee, director,
or principal shareholder of a covered financial institution.
(e) Director of a covered financial institution means a member of
the board of directors of the covered financial institution, or of a
board or committee performing a similar function to a board of
directors.
(f) Executive officer of a covered financial institution means a
person who holds the title or, without regard to title, salary, or
compensation, performs the function of one or more of the following
positions: president, chief executive officer, executive chairman,
chief operating officer, chief financial officer, chief investment
officer, chief legal officer, chief lending officer, chief risk
officer, or head of a major business line.
(g) Incentive-based compensation means any variable compensation
that serves as an incentive for performance.
(h) Principal shareholder means an individual who directly or
indirectly, or acting through or in concert with one or more persons,
owns, controls, or has the power to vote 10 percent or more of any
class of voting securities of a covered financial institution.
(i) Total consolidated assets means:
(1) For a broker or dealer registered under Section 15 of the
Securities Exchange Act of 1934 (15 U.S.C. 78o) total assets reported
in the firm's most recent year-end audited Consolidated Statement of
Financial Condition filed pursuant to Rule 17a-5 under the Securities
Exchange Act of 1934; and
(2) For an investment adviser, as such term is defined in section
202(a)(11) of the Investment Advisers Act of 1940 (15 U.S.C. 80b-
2(a)(11)) the adviser's total assets shown on the balance sheet for the
adviser's most recent fiscal year end.
Sec. 248.204 Required reports to the Commission.
(a) In general. A covered financial institution must submit a
report annually to, and in the format directed by, the Commission, that
describes the structure of the covered financial institution's
incentive-based compensation arrangements for covered persons and that
is sufficient to allow an assessment of whether the structure or
features of those arrangements provide or are likely to provide covered
persons with excessive compensation, fees, or benefits to covered
persons or could lead to material financial loss to the covered
financial institution.
(b) Individual compensation. A covered financial institution is not
required to report the actual compensation of particular covered
persons as part of the report required by paragraph (a) of this
section.
(c) Minimum standards. The information submitted by the covered
financial institution pursuant to paragraph (a) of this section must
include the following:
(1) A clear narrative description of the components of the covered
financial institution's incentive-based compensation arrangements
applicable to covered persons and specifying the types of covered
persons to which they apply;
(2) A succinct description of the covered financial institution's
policies and procedures governing its incentive-based compensation
arrangements for covered persons;
(3) If the covered financial institution has total consolidated
assets of $50 billion or more, an additional succinct description of
incentive-based compensation policies and procedures specific to the
covered financial institution's:
(i) Executive officers; and
(ii) Other covered persons who the board of directors, or a
committee thereof, of the covered financial institution has identified
and determined under Sec. 248.205(b)(3)(ii) of subpart C of this part
individually have the ability to expose the covered financial
institution to possible losses
[[Page 21216]]
that are substantial in relation to the covered financial institution's
size, capital, or overall risk tolerance;
(4) Any material changes to the covered financial institution's
incentive-based compensation arrangements and policies and procedures
made since the covered financial institution's last report submitted
under paragraph (a) of this section; and
(5) The specific reasons why the covered financial institution
believes the structure of its incentive-based compensation plan does
not encourage inappropriate risks by the covered financial institution
by providing covered persons with:
(i) Excessive compensation; or
(ii) Incentive-based compensation that could lead to a material
financial loss to the covered financial institution.
Sec. 248.205 Prohibitions.
(a) Excessive compensation prohibition.
(1) In general. A covered financial institution must not establish
or maintain any type of incentive-based compensation arrangement, or
any feature of any such arrangement, that encourages inappropriate
risks by the covered financial institution by providing a covered
person with excessive compensation.
(2) Standards. An incentive-based compensation arrangement provides
excessive compensation when amounts paid are unreasonable or
disproportionate to the services performed by a covered person, taking
into consideration:
(i) The combined value of all cash and non-cash benefits provided
to the covered person;
(ii) The compensation history of the covered person and other
individuals with comparable expertise at the covered financial
institution;
(iii) The financial condition of the covered financial institution;
(iv) Comparable compensation practices at comparable covered
financial institutions, based upon such factors as asset size,
geographic location, and the complexity of the covered financial
institution's operations and assets;
(v) For postemployment benefits, the projected total cost and
benefit to the covered financial institution;
(vi) Any connection between the individual and any fraudulent act
or omission, breach of trust or fiduciary duty, or insider abuse with
regard to the covered financial institution; and
(vii) Any other factors the Commission determines to be relevant.
(b) Material financial loss prohibition. (1) Generally. A covered
financial institution must not establish or maintain any type of
incentive-based compensation arrangement, or any feature of any such
arrangement, that encourages inappropriate risks by the covered
financial institution, by providing incentive-based compensation to
covered persons, either individually or as part of a group of persons
who are subject to the same or similar incentive-based compensation
arrangements, that could lead to material financial loss to the covered
financial institution.
(2) Requirements for all covered financial institutions. An
incentive-based compensation arrangement established or maintained by a
covered financial institution for one or more covered persons does not
comply with paragraph (b)(1) of this section unless it:
(i) Balances risk and financial rewards, for example by using
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods;
(ii) Is compatible with effective controls and risk management; and
(iii) Is supported by strong corporate governance, including active
and effective oversight by the covered financial institution's board of
directors or a committee thereof.
(3) Specific requirements for covered financial institutions with
$50 billion or more in total consolidated assets.
(i) Deferral required for executive officers. As part of
appropriately balancing risk and financial rewards pursuant to
paragraph (b)(2)(i) of this section, any incentive-based compensation
arrangement for any executive officer established or maintained by a
covered financial institution that has total consolidated assets of $50
billion or more must provide for:
(A) At least 50 percent of the annual incentive-based compensation
of the executive officer to be deferred over a period of no less than
three years, with the release of deferred amounts to occur no faster
than on a pro rata basis; and
(B) The adjustment of the amount required to be deferred under
paragraph (b)(3)(i)(A) of this section to reflect actual losses or
other measures or aspects of performance that are realized or become
better known during the deferral period.
(ii) Additional requirement for covered persons presenting
particular loss exposure. As part of appropriately balancing risk and
financial rewards pursuant to paragraph (b)(2)(i) of this section, if a
covered financial institution has total consolidated assets of $50
billion or more--
(A) The board of directors, or a committee thereof, of the covered
financial institution shall identify those covered persons (other than
executive officers) who individually have the ability to expose the
covered financial institution to possible losses that are substantial
in relation to the covered financial institution's size, capital, or
overall risk tolerance. These covered persons may include, for example,
traders with large position limits relative to the covered financial
institution's overall risk tolerance and other individuals who have the
authority to place at risk a substantial part of the capital of the
covered financial institution;
(B) The incentive-based compensation arrangement for any covered
person identified pursuant to paragraph (b)(3)(ii)(A) of this section
must be approved by the board of directors, or a committee thereof, of
the covered financial institution and such approval must be documented;
(C) The board of directors, or committee thereof, may not approve
the incentive-based compensation arrangement for any covered person
identified pursuant to paragraph (b)(3)(ii)(A) of this section unless
the board or committee determines that the arrangement, including the
method of paying compensation under the arrangement, effectively
balances the financial rewards to the covered person and the range and
time horizon of risks associated with the covered person's activities,
employing appropriate methods for ensuring risk sensitivity such as
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods; and
(D) In fulfilling its duties under paragraph (b)(3)(ii)(C) of this
section, the board of directors or committee thereof must evaluate the
overall effectiveness of the balancing methods used in the identified
covered person's incentive-based compensation arrangements in reducing
incentives for inappropriate risk taking by the identified covered
person considering the methods' suitability for balancing the full
range of risks presented by that covered person's activities, and the
methods' ability to make payments sensitive to all the risks arising
from the covered person's activities, including those that may be
difficult to predict, measure or model.
Sec. 248.206 Policies and procedures.
(a) In general. Any incentive-based compensation arrangement, or
any feature of any such arrangement, is prohibited under Sec. 248.205
of this
[[Page 21217]]
subpart, unless adopted pursuant to policies and procedures developed
and maintained by each covered financial institution and approved by
its board of directors, or a committee thereof, reasonably designed to
ensure and monitor compliance with the requirements set forth in 12
U.S.C. 5641 and subpart C of this part and commensurate with the size
and complexity of the organization, as well as the scope and nature of
its use of incentive-based compensation.
(b) Standards. The policies and procedures must, at a minimum:
(1) Be consistent with the reporting requirements in Sec. 248.204
of subpart C of this part and prohibitions in Sec. 248.205 of subpart
C of this part;
(2) Ensure that risk-management, risk-oversight, and internal
control personnel have an appropriate role in the covered financial
institution's processes for designing incentive-based compensation
arrangements and for assessing their effectiveness in restraining
inappropriate risk-taking;
(3) Provide for the monitoring by a group or person independent of
the covered person, where practicable in light of the covered financial
institution's size and complexity, of incentive-based compensation
awards and payments, risks taken, and actual risk outcomes to determine
whether incentive-based compensation payments for covered persons, or
groups of covered persons, are reduced to reflect adverse risk outcomes
or high levels of risk taken;
(4) Provide for the covered financial institution's board of
directors, or committee thereof, to receive data and analysis from
management and other sources sufficient to allow the board, or
committee thereof, to assess whether the overall design and performance
of the covered financial institution's incentive-based compensation
arrangements are consistent with 12 U.S.C. 5641;
(5) Ensure that documentation of the covered financial
institution's processes for establishing, implementing, modifying, and
monitoring incentive-based compensation arrangements is maintained that
is sufficient to enable the Commission to determine the covered
financial institution's compliance with 12 U.S.C. 5641 and subpart C of
this part;
(6) Consistent with Sec. 248.205(b)(3) of subpart C, where
deferral is used in connection with an incentive-based compensation
arrangement, provide for deferral of incentive-based compensation
awards in amounts and for periods of time appropriate to the duties and
responsibilities of the covered financial institution's covered
persons, the risks associated with those duties and responsibilities,
and the size and complexity of the covered financial institution and
provide that the deferral amounts paid are adjusted to reflect actual
losses or other measures or aspects of performance that are realized or
become better known during the deferral period; and
(7) Subject any incentive-based compensation arrangement to a
corporate governance framework that provides for ongoing oversight by
the board of directors or a committee thereof, including the approval
by the board of directors or a committee thereof of incentive-based
compensation to executive officers.
Sec. 248.207 Evasion.
A covered financial institution is prohibited, for the purpose of
evading the restrictions of this subpart, from doing indirectly or
through or by any other person, any act or thing that it would be
unlawful for such covered financial institution to do directly under
this subpart.
Federal Housing Finance Agency
Authority and Issuance
Accordingly, for the reasons stated in the preamble, under the
authority of 12 U.S.C. 4526 and 5641, FHFA proposes to amend Chapter
XII of title 12 of the Code of Federal Regulations as follows:
10. Add part 1232 to read as follows:
PART 1232--INCENTIVE-BASED COMPENSATION AGREEMENTS
Sec.
1232.1 Authority.
1232.2 Scope and purpose.
1232.3 Definitions.
1232.4 Required reports to regulators.
1232.5 Prohibitions.
1232.6 Policies and procedures.
1232.7 Evasion.
Authority: 12 U.S.C. 4511(b), 4513, 4514, 4526, and 5641.
Sec. 1232.1 Authority.
This part is issued pursuant to section 956 of the Dodd-Frank Wall
Street Reform and Consumer Protection Act (12 U.S.C. 5641), and, with
respect to the Office of Finance, under section 1311(b)(2) of the
Federal Housing Enterprises Financial Safety and Soundness Act (12
U.S.C. 4511(b)(2)).
Sec. 1232.2 Scope and purpose.
This part applies to a covered entity that offers incentive-based
compensation arrangements to covered persons. Nothing in this part in
any way limits the authority of the Federal Housing Finance Agency
under other provisions of applicable law and regulations.
Sec. 1232.3 Definitions.
For purposes of this part, the following definitions apply unless
otherwise specified:
Board of directors means the governing body of any covered entity
performing functions similar to a board of directors.
Compensation means all direct and indirect payments, fees or
benefits, both cash and non-cash, awarded to, granted to, or earned by
or for the benefit of, any covered person in exchange for services
rendered to the covered entity, including, but not limited to, payments
or benefits pursuant to an employment contract, compensation or benefit
agreement, fee arrangement, perquisite, stock option plan,
postemployment benefit, or other compensatory arrangement.
Covered entity means the Federal National Mortgage Association
(Fannie Mae); the Federal Home Loan Mortgage Corporation (Freddie Mac);
any Federal Home Loan Bank (Bank); and the Federal Home Loan Bank
System's Office of Finance.
Covered person means any executive officer, employee, director, or
principal shareholder of a covered entity.
Director of a covered entity means a member of the board of
directors of the covered entity, or of a board or committee performing
a similar function to a board of directors.
Executive officer of a covered entity means:
(1) With respect to Fannie Mae or Freddie Mac:
(i) The chairman of the board of directors, chief executive
officer, chief financial officer, chief operating officer, president,
vice chairman, any executive vice president, any senior vice president
in charge of a principal business unit, division, or function and any
individual who performs functions similar to such positions whether or
not the individual has an official title; and
(ii) Any other officer as identified by the Director.
(2) With respect to a Bank:
(i) The president, the chief financial officer, and the three other
most highly compensated officers; and
(ii) Any other officer as identified by the Director.
(3) With respect to the Office of Finance:
(i) The chief executive officer, chief financial officer, and chief
operating officer; and
(ii) Any other officer identified by the Director.
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Incentive-based compensation means any variable compensation that
serves as an incentive for performance.
Principal shareholder means an individual who directly or
indirectly, or acting through or in concert with one or more persons,
owns, controls, or has the power to vote 10 percent or more of any
class of voting securities of a covered entity.
Sec. 1232.4 Required reports to regulators.
(a) In general. A covered entity must submit a report annually to,
and in the format directed by, the Federal Housing Finance Agency that
describes the structure of the covered entity's incentive-based
compensation arrangements for covered persons and that is sufficient to
allow an assessment of whether the structure or features of those
arrangements provide or are likely to provide covered persons with
excessive compensation, fees, or benefits to covered persons or could
lead to material financial loss to the covered entity.
(b) Individual compensation. A covered entity is not required to
report the actual compensation of particular covered persons as part of
the report required by paragraph (a) of this section.
(c) Minimum standards. The information submitted by the covered
entity pursuant to paragraph (a) of this section must include the
following:
(1) A clear narrative description of the components of the covered
entity's incentive-based compensation arrangements applicable to
covered persons specifying the types of covered persons to which they
apply;
(2) A succinct description of the covered entity's policies and
procedures governing its incentive-based compensation arrangements for
covered persons;
(3) A succinct description of incentive-based compensation policies
and procedures specific to the covered entity's:
(i) Executive officers; and
(ii) Other covered persons who the board of directors, or a
committee thereof, of the entity has identified and determined under
Sec. 1232.5(b)(3)(ii) of this part individually have the ability to
expose the entity to possible losses that are substantial in relation
to the entity's size, capital, or overall risk tolerance;
(4) Any material changes to the covered entity's incentive-based
compensation arrangements and policies and procedures made since the
covered entity's last report submitted under paragraph (a) of this
section; and
(5) The specific reasons why the covered entity believes the
structure of its incentive-based compensation plan does not encourage
inappropriate risks by the covered entity by providing covered persons
with:
(i) Excessive compensation; or
(ii) Incentive-based compensation that could lead to material
financial loss to the covered entity.
Sec. 1232.5 Prohibitions.
(a) Excessive compensation prohibition. (1) In general. A covered
entity must not establish or maintain any type of incentive-based
compensation arrangement, or any feature of any such arrangement, that
encourages inappropriate risks by the covered entity by providing a
covered person with excessive compensation.
(2) Standards. An incentive-based compensation arrangement provides
excessive compensation when amounts paid are unreasonable or
disproportionate to the services performed by a covered person, taking
into consideration:
(i) The combined value of all cash and non-cash benefits provided
to the covered person;
(ii) The compensation history of the covered person and other
individuals with comparable expertise at the covered entity;
(iii) The financial condition of the covered entity;
(iv) Comparable compensation practices at comparable institutions,
based upon such factors as asset size, geographic location, and the
complexity of the institution's operations and assets;
(v) For postemployment benefits, the projected total cost and
benefit to the covered entity;
(vi) Any connection between the individual and any fraudulent act
or omission, breach of trust or fiduciary duty, or insider abuse with
regard to the covered entity; and
(vii) Any other factors that the Federal Housing Finance Agency
determines to be relevant.
(b) Material financial loss prohibition. (1) Generally. A covered
entity must not establish or maintain any type of incentive-based
compensation arrangement, or any feature of any such arrangement, that
encourages inappropriate risks by the covered entity, by providing
incentive-based compensation to covered persons, either individually,
or as part of a group of persons who are subject to the same or similar
incentive-based compensation arrangements, that could lead to material
financial loss to the covered entity.
(2) Requirements for all incentive-based compensation arrangements.
An incentive-based compensation arrangement established or maintained
by a covered entity for one or more covered persons does not comply
with paragraph (b)(1) of this section unless it:
(i) Balances risk and financial rewards, for example by using
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods;
(ii) Is compatible with effective controls and risk management; and
(iii) Is supported by strong corporate governance, including active
and effective oversight by the covered entity's board of directors, or
a committee thereof.
(3) Requirements for executive officers and covered persons
presenting particular loss exposure.
(i) Deferral required for executive officers. As part of
appropriately balancing risk and financial rewards pursuant to
paragraph (b)(2)(i) of this section, any incentive-based compensation
arrangement for any executive officer established or maintained by a
covered entity (except for covered entities in conservatorship or
receivership, and limited-life regulated entities) must provide for:
(A) At least 50 percent of the annual incentive-based compensation
of the executive officer to be deferred over a period of no less than
three years, with the release of deferred amounts to occur no faster
than on a pro rata basis; and
(B) The adjustment of the amount required to be deferred under
paragraph (b)(3)(i)(A) of this section to reflect actual losses or
other measures or aspects of performance that are realized or become
better known during the deferral period.
(ii) Additional requirement for covered persons presenting
particular loss exposure. As part of appropriately balancing risk and
financial rewards pursuant to paragraph (b)(2)(i) of this section:
(A) The board of directors, or a committee thereof, of the covered
entity shall identify those covered persons (other than executive
officers) who individually have the ability to expose the entity to
possible losses that are substantial in relation to the entity's size,
capital, or overall risk tolerance. These covered persons may include,
for example, traders with large position limits relative to the
entity's overall risk tolerance and other individuals who have the
authority to place at risk a substantial part of the capital of the
covered entity;
(B) The incentive-based compensation arrangement for any covered
person identified pursuant to paragraph (b)(3)(ii)(A) of this section
must be
[[Page 21219]]
approved by the board of directors, or a committee thereof, of the
covered entity and such approval must be documented;
(C) The board of directors, or a committee thereof, may not approve
the incentive-based compensation arrangement for any covered person
identified pursuant to paragraph (b)(3)(ii)(A) of this section unless
the board or committee determines that the arrangement, including the
method of paying compensation under the arrangement, effectively
balances the financial rewards to the covered person and the range and
time horizon of risks associated with the covered person's activities,
employing appropriate methods for ensuring risk sensitivity such as
deferral of payments, risk adjustment of awards, reduced sensitivity to
short-term performance, or longer performance periods; and
(D) In fulfilling its duties under paragraph (b)(3)(ii)(C) of this
section, the board of directors, or a committee thereof, must evaluate
the overall effectiveness of the balancing methods used in the
identified covered person's incentive compensation arrangements in
reducing incentives for inappropriate risk taking by the identified
covered person considering the methods' suitability for balancing the
full range of risks presented by that covered person's activities, and
the methods' ability to make payments sensitive to all the risks
arising from the covered person's activities, including those that may
be difficult to predict, measure or model.
Sec. 1232.6 Policies and procedures.
(a) In general. Any incentive-based compensation arrangement, or
any feature of any such arrangement, is prohibited under Sec. 1232.5
of this part, unless adopted pursuant to policies and procedures
developed and maintained by each covered entity and approved by its
board of directors, or a committee thereof, reasonably designed to
ensure and monitor compliance with the requirements set forth in 12
U.S.C. 5641 and this part and commensurate with the size and complexity
of the organization, as well as the scope and nature of its use of
incentive-based compensation.
(b) Standards. The policies and procedures must, at a minimum:
(1) Be consistent with the reporting requirements in Sec. 1232.4
of this part and prohibitions in Sec. 1232.5 of this part;
(2) Ensure that risk-management, risk-oversight, and internal
control personnel have an appropriate role in the covered entity's
processes for designing incentive-based compensation arrangements and
for assessing their effectiveness in restraining inappropriate risk-
taking;
(3) Provide for the monitoring by a group or person independent of
the covered person, where practicable in light of the covered entity's
size and complexity, of incentive-based compensation awards and
payments, risks taken, and actual risk outcomes to determine whether
incentive compensation payments for covered persons, or groups of
covered persons, are reduced to reflect adverse risk outcomes or high
levels of risk taken;
(4) Provide for the covered entity's board of directors, or
committee thereof, to receive data and analysis from management and
other sources sufficient to allow the board, or committee thereof, to
assess whether the overall design and performance of the entity's
incentive-based compensation arrangements are consistent with 12 U.S.C.
5641;
(5) Ensure that documentation of the entity's processes for
establishing, implementing, modifying, and monitoring incentive-based
compensation arrangements is maintained that is sufficient to enable
the Federal Housing Finance Agency to determine the entity's compliance
with 12 U.S.C. 5641 and this part;
(6) Consistent with Sec. 1232.5(b)(3) of this part, where deferral
is used in connection with an incentive-based compensation arrangement,
provide for deferral of incentive-based compensation awards in amounts
and for periods of time appropriate to the duties and responsibilities
of the covered entity's covered persons, the risks associated with
those duties and responsibilities, and the size and complexity of the
covered entity and provide that the deferral amounts paid are adjusted
to reflect actual losses or other measures or aspects of performance
that are realized or become better known during the deferral period;
and
(7) Subject any incentive-based compensation arrangement to a
corporate governance framework that provides for ongoing oversight by
the board of directors, or a committee thereof, including the approval
by the board of directors, or a committee thereof, of incentive-based
compensation to executive officers.
Sec. 1232.7 Evasion.
A covered entity is prohibited, for the purpose of evading the
restrictions of this part, from doing indirectly or through or by any
other person, any act or thing that it would be unlawful for such
covered entity to do directly under this part.
Dated:
John Walsh,
Acting Comptroller of the Currency.
By order of the Board of Governors of the Federal Reserve
System, March 30, 2011.
Jennifer J. Johnson,
Secretary of the Board.
Dated at Washington, DC, this 7th day of February 2011.
Federal Deposit Insurance Corporation.
Robert E. Feldman,
Executive Secretary.
Dated: February 18, 2011.
By the Office of Thrift Supervision,
John E. Bowman,
Acting Director.
By the National Credit Union Administration Board on February
17, 2011.
Mary F. Rupp,
Secretary of the Board.
By the Securities and Exchange Commission.
Dated: March 29, 2011.
Elizabeth M. Murphy,
Secretary.
Edward J. Demarco,
Acting Director, Federal Housing Finance Agency.
[FR Doc. 2011-7937 Filed 4-13-11; 8:45 am]
BILLING CODE 6741-01-P; 7535-01-P; 8070-01-P