The Prudential Regulation Authority (PRA) has published a consultation paper on Solvency II: Remuneration requirements (CP13/16). CP13/16 seeks feedback on a draft supervisory statement which sets out the PRA’s expectations in relation to Article 275 of the Commission Delegated regulation (EU) 2015/35 (Solvency II Regulation). In particular the draft Supervisory Statement seeks to clarify Solvency II remuneration obligations in relation to the identification of staff whose professional activities have a material impact on the undertaking’s risk profile (article 275 (1)(d) of the Solvency II Regulation) and in relation to deferral of any variable remuneration component (article 275 (2)(c)).

The draft Supervisory Statement has been produced in response to a review undertaken by the PRA in relation to the remuneration policies and practices of insurers which found that there was concern among firms about the lack of clarity around the identification of risk takers and significant discrepancies in the variable remuneration thresholds to which deferrals might apply, and the proportion of deferral applied.

The consultation on the draft supervisory statement closes on 2 June 2016.

The draft Supervisory Statement covers the following:

  • Remuneration policies within a group

The PRA expects all Solvency II firms to comply with Solvency II remuneration requirements and with EIOPA’s Guidance on systems of governance. Solvency II firms must ensure that risk management and internal control systems are applied consistently across the Solvency II group. There should not be significant deviations between what applies to the Solvency II entities and other entities in the group. As confirmed by the EIOPA guidelines there should be a remuneration policy in place across the whole group. The group remuneration policy should be in line with the group’s risk management strategies to ensure that Solvency II requirements are uniformly complied with. It does not follow that the same remuneration policy should apply to every group entity but the PRA does not expect to see significant deviations between the policies applied to Solvency II firms and other entities in the group.

Solvency II staff

The Solvency II Regulation applies specific arrangements to certain individuals in a firm. These individuals are:

“The administrative, management or supervisory body, persons who effectively run the undertaking or have other key functions and other categories of staff whose professional activities have a material impact on the undertaking’s risk profile”.

The PRA expects the following individuals to be subject to the remuneration requirements:

  • Board members;
  • Executive Committee members;
  • Senior Insurance Manager Function holders (SIMFs) and FCA Significant Influence Functions (SIFs);
  • Key Function Holders; and
  • Material risk takers.

The PRA expects Solvency II firms to be able to demonstrate that employees carrying out activities which have a material impact on the risk profile of the firm to have been identified as material risk takers (MRTs). The draft Supervisory Statement sets out the requirements and considerations firms should apply to identify MRTs. These include individuals able to take material risks (taking into consideration the types and severities of risk to which the firm is exposed) and individuals able to influence material risk-taking (for example individuals with responsibility for monitoring adherence to the risk appetite or members of committees with responsibility for oversight of risk-taking activities).

The PRA expects firms to engage with them in identifying MRTs. A record should be kept of the assessment and final list of staff identified for each performance year.

Deferral of variable remuneration

The Solvency II regulation requires firms to defer a “substantial” portion of the variable remuneration component for a period of not less than three years. The deferral period, whether three years or longer, should be aligned with the nature of the business, risks and activities of the employees in question.

The draft Supervisor Statement states that the variable remuneration component should be read as the aggregate amount awarded in a given performance year from bonus plans, Long Term Incentive Plans (LTIPs) and/or any other variable remuneration plans in which the individual participates. The PRA states that a minimum of 40 per cent deferral represents a substantial portion to be deferred over three years and that such a deferral will have a proportionate impact on firms.

Deferral of variable remuneration allows firms to apply downwards adjustments including malus prior to the award vesting. Firms should ensure that they are able to apply malus during the three year deferral period required.

Performance measurement

The Solvency II Regulation requires that the total amount of variable remuneration be based on a combination of an assessment of the individual’s performance and the performance of the business unit and overall result of the firm or group to which the firm belongs. Performance should also be based on both financial and non-financial criteria. The PRA states that to encourage positive behaviours incentive plans should incorporate non-financial criteria, particular at the individual assessment level. This should include the extent to which the employee adheres to the firm’s risk management and compliance with regulatory obligations.

Individual performance assessments for bonus or LTIP awards should be based on a balanced scorecard comprising both financial and non-financial criteria. Termination payments should not reward failure and should be fair and proportionate to prior performance.

The PRA have proposed that the Supervisory Statement apply only to category 1 and 2 firms as applying some certain requirements to smaller insurers might have a disproportionate cost to such firms. Category 1 and 2 firms will include insurers with the greatest capacity to cause disruption to the interests of a substantial number of policyholders.

View: PRA seeks to clarify compliance with Solvency II remuneration requirements