Guidelines on the applicable notional discount rate for variable remuneration (EBA/GL/2014/01)

This document contains guidelines issued pursuant to Article 16 of Regulation (EU) No 1093/2010 of the European Parliament and of the Council of 24 November 2010 establishing a European Supervisory Authority (European Banking Authority), amending Decision No 716/2009/EC and repealing Commission Decision 2009/78/EC (‘the EBA Regulation’). In accordance with Article 16(3) of the EBA Regulation, competent authorities and financial institutions must make every effort to comply with the guidelines.

Guidelines set out the EBA’s view of appropriate supervisory practices within the European System of Financial Supervision or of how Union law should be applied in a particular area. The EBA therefore expects all competent authorities and financial institutions to whom guidelines are addressed to comply with guidelines. Competent authorities to whom guidelines apply should comply by incorporating them into their supervisory practices as appropriate (e.g. by amending their legal framework or their supervisory processes), including where guidelines are directed primarily at institutions.

According to Article 16(3) of the EBA Regulation, competent authorities must notify the EBA as to whether they comply or intend to comply with these guidelines, or otherwise with reasons for non-compliance, by 27.05.2014. In the absence of any notification by this deadline, competent authorities will be considered by the EBA to be non-compliant. Notifications should be sent by submitting the form provided at Section 5 to compliance@eba.europa.eu with the reference ‘EBA/GL/2014/01’. Notifications should be submitted by persons with appropriate authority to report compliance on behalf of their competent authorities.

Notifications will be published on the EBA website, in line with Article 16(3).

Title I - Subject matter and definitions

Title II - Requirements concerning the discount rate for variable remuneration

22. The guidelines apply from [1 June 2014] and apply for the purpose of calculating the ratio between the variable and the fixed component of total remuneration awarded for performance and services from the year 2014 onwards.

Calculation of the discounted part of variable remuneration (‘dvr’) for the purpose of calculating the ratio between the variable and fixed component of remuneration:

( )

Where: dvr = discounted variable remuneration; vr = variable remuneration subject to the discount (max 25% of total variable remuneration provided it is paid in instruments that are deferred for at least five years); i = inflation rate in percentage; g = interest rate for government bonds EU average in percentage; id = incentive factor for use of long-term deferral in percentage; n = number of years in the vesting period.

The total variable remuneration is the sum of the discounted part of variable remuneration and the non-discounted part of variable remuneration.

Assume for this example that the Member State in question has allowed institutions to apply a discount rate to a maximum of 25% of total variable remuneration. Assume also that the institution's shareholders have not approved a higher maximum ratio than the one provided for in Directive 2013/36/EU.

The institution would like to award a staff member total remuneration of EUR 285 000, of which EUR 135 000 is to be fixed remuneration and a potential amount of EUR 150 000 is to be variable remuneration. The staff member in question is identified staff and we are considering remuneration awarded for the performance year 2014. The ratio of variable/fixed remuneration based on nominal amounts would in this case be above the admissible 1:1 ratio. However, after application of the discount rate to the portion of variable remuneration paid in instruments deferred for a period of at least five years, the ratio is compatible with Article 94(1)(g) of Directive 2013/36/EU as shown below.

The structure of the variable remuneration would in this example be as follows:

•  EUR 20 000 of the variable remuneration would be paid in instruments deferred for five years;
•  EUR 10 000 would be paid in instruments deferred for six years;
•  the remainder of the total variable remuneration would be paid up-front, not in instruments or would be deferred for a shorter period of time than five years.

Directive 2013/36/EU requires that at least 40% of the variable remuneration is deferred over a period which is not less than three to five years. In the case of a particular high variable remuneration component at least 60% needs to be deferred. At least 50% of the variable remuneration has to be paid in instruments. All these ratios apply to the amounts of variable remuneration awarded to the individual staff member before the discount rate is applied.

In this example, no pro rata vesting is considered. The amounts of EUR 20 000 and EUR 10 000 paid in instruments vest in full after five and six years, respectively.

Based on variable remuneration of EUR 150 000, a maximum amount of EUR 37 500 could have been discounted (which represents 25% of the total variable remuneration of EUR 150 000), if it were to be paid in instruments deferred for more than five years. However, in this example, only EUR 30 000 fulfil both these conditions and only these amounts can be discounted.

Assume that in a Member State, the institution would like to award a staff member (identified as having a material impact on the institution’s risk profile) who receives EUR 135 000 as fixed remuneration, an amount of EUR 150 000 as variable remuneration. The same assumptions regarding the Member State's transposition of Directive 2013/36/EU (maximum 25%), shareholders' approval for ratio higher than 1:1 (none) and performance year (2014) apply as under example 1. The structure of the variable remuneration is as follows:

•  60% of the total variable remuneration, i.e. EUR 90 000, would be deferred for six years and would vest pro rata over this period,
•  EUR 37 500 of the above variable remuneration deferred for a six year period would be paid in instruments. This implies that every year, an amount of EUR 6 250 paid in instruments would vest.

In this example, pro rata vesting is considered. The discount rate can be applied to a maximum of 25% of the total variable remuneration, provided it is paid in instruments deferred for a period of at least five years.

Figure 1: Schematic overview of deferral arrangements and the application of the discount rate to variable remuneration paid in instruments deferred for six years and with pro rata vesting.

The following example is based on a given amount of fixed remuneration of EUR 100 000 and shows how to calculate the maximum possible amount of variable remuneration which could be awarded if 25% of the variable remuneration is paid in instruments that are deferred for five years, assuming that the full amount vests at the end of the deferral period. The inflation rate and interest rate for government bonds provided under example 1 are used. The same assumptions regarding Member State's transposition of Directive 2013/36/EU (25%), shareholders' approval for ratio higher than 1:1 (none) and performance year (2014) apply as under example 1. If lower rates are prescribed by the Member State, the formula needs to be amended accordingly by replacing 0.25 with the lower percentage.

In this example, the total variable remuneration that can be paid is up to a maximum of 100% of the fixed components of remuneration and the maximum variable remuneration that can be discounted is 25% provided it is paid in instruments that are deferred for at least five years.

Hence, we can write the following equation:

( ) ( )

fr = fixed remuneration tvr = total variable remuneration i = inflation rate; g = interest rate for government bonds EU average; id = incentive factor for use of long-term deferral; n = length of the vesting period.

By replacing the corresponding amounts considered in this example for each variable in the equation above, we obtain:

( )

fr = 100 000 i = 2%, factor for inflation g = 2.73% factor for government bond interest rate id = 10% , factor for five year deferral, n = 5, length of vesting period.

Solving the previous equation for tvr, we obtain:

For the above example, the maximum variable remuneration which can be paid if 25% of the variable remuneration is discounted is EUR 114 186.10.