BEAR to FAR - far reaching

BEAR to FAR – far reaching

By February 3, 2020News, Royal Commission

The Hayne Royal Commission made a number of recommendations relating to extending the Banking Executive Accountability Regime (BEAR), which has been in place since 1 July 2018.

The Financial Accountability Regime (FAR) will further extend the responsibility and accountability framework across all APRA regulated entities. Like the BEAR, the FAR is intended to increase transparency and accountability and improve risk culture and governance for both prudential and conduct purposes.


Feedback on Treasury’s Proposals paper with respect to the extension of BEAR is due 14 February 2020. The Government intends to consult on and introduce legislation by the end of 2020 to implement the model.


The acronym FAR – the Financial Accountability Regime, is apt as the obligations on insurers and most of their senior executives will be far reaching. Like the BEAR, the FAR will impose obligations regarding:


We cover each of these areas in turn:

Accountability 

  • Like the BEAR, accountability obligations sit with both the entity and accountable persons
  • The entity and accountable person will need to:
    • Act with honesty and integrity, and with due skill, care and diligence
    • Deal with ASIC and APRA in an open, constructive and cooperative way - though this will not displace legal professional privilege
    • Take reasonable steps to prevent matters from arising that would adversely affect the prudential standing or prudential reputation of the entity
  • The entity will also need to take reasonable steps to ensure that its accountable persons and significant or substantial subsidiaries meets their obligations
  • A new obligation under the FAR for accountable persons is to take reasonable steps…to ensure that the entity complies with its licensing obligations.

Key Personnel

Like the BEAR, the FAR requires an entity to ensure accountable persons cover all aspects of its operations (as well of subsidiaries). An entity will also need to ensure that none of its accountable persons are prohibited under the FAR and that it complies with APRA and ASIC directions to reallocate responsibilities.

Accountability maps and statements

The FAR classifies entities as either Core Compliance or Enhanced Compliance entities. General Insurers and Private Health Insurers, with total assets over $2b ($4b for Life), are Enhanced, meaning that compliance obligations will be greater, for example, submitting accountability maps and statements.

The Treasury paper makes reference to industry feedback regarding the BEAR, that the development, submission and updating of accountability maps and statements poses a significant compliance burden on smaller entities, for presumably little benefit. To that end, APRA and ASIC will have the ability to reclassify entities (from Core to Enhanced) where it is of the view that governance and accountability of that entity will be strengthened by developing and submitting these maps and statements.


What are accountability maps and statements?

  • An accountability map must show lines of reporting and responsibility within the entity
  • An accountability statement details the areas of responsibility over which each accountable person has effective management or control.

The Treasury paper states that joint regulatory guidance material will be issued regarding how these are to be completed.

Notification

Similar to the BEAR, the FAR requires entities to notify APRA or ASIC of all instances of:

  1. A person ceasing to be an accountable person
  2. Any breaches of accountability obligation (by entity or accountable person) or key personnel obligations (by entity)
  3. Dismissal or suspension of accountable person for non-compliance
  4. Reduction of the variable remuneration of an accountable person due to non-compliance.

It should be noted that a “reasonable steps” qualification applies except for an accountable person’s obligations to act with honesty and integrity, and to deal with the regulators in an open way, so that if an entity or accountable person took reasonable steps, as per the corporations law and caselaw, this can act as a defence under the FAR.

Deferred remuneration

  • All FAR entities will have to defer 40% of the variable remuneration for accountable persons for a minimum of 4 years (if the amount deferred is greater than $50,000). Variable remuneration is “conditional on the achievement of pre-determined objectives”, both short term (STIs) and long term (LTIs). By way of example, say senior executive is on a $1m package, 40% fixed and 60% variable. Of the variable component ($600,000), 40% ($240,000) will have to be deferred for four years.
  • If an accountable person breaches their FAR obligations, the entity must have policies that allow for a reduction in variable remuneration.

These provisions ostensibly duplicate requirements contained in draft CPS 511, which was subject to consultation in late 2019.

On one view, the stipulations regarding deferral are an unnecessary fetter on the free market. After all, shouldn’t the focus be on having the “right” mix of objectives and KPIs upon which variable remuneration is based as opposed to setting an arbitrary deferral percentage and period? Of course, APRA has cited the case studies in the Hayne Royal Commission as well as international “best practice” to argue for a longer deferral period.


So what do we think of the FAR proposal put forward by Treasury?


Our key take-outs and concerns include:

  • Arguably, the FAR takes the BEAR provisions further. While providing some compliance relief for small entities, the compliance burden overall goes up. BEAR was introduced in mid-2018 – has there been sufficient time to measure any improvements in standards of conduct versus the additional costs imposed by the regime?
  • ASIC and APRA will jointly administer FAR, so it will be important that this joint responsibility is carried out in an efficient and structured way – we note that both regulators are already conducting joint supervisory meetings with financial services entities but we are cognisant of the risks of duplication and wastage, which could undermine the effectiveness of joint administration.
  • The Treasury proposal appears to articulate a blanket, big stick approach, especially when combined with the regulators’ newly adopted “why not litigate” (with the inherent risks and uncertainty of litigation). We think an alternative model could be crafted – using a tiered and targeted risk-based approach so that the focus is on entities and individuals with a poor track record or substandard governance framework.
  • Interestingly, the lengthy role list in the Appendix, if adopted as a template, could impose organisation structures that won’t always make sense. It presupposes a view of business based on single reporting lines, vertical responsibility sets and individual accountability, which isn’t always the case. It seems to go against the spirit of “principles based regulation”.
  • The deferred remuneration obligations will almost certainly lead to a change in the way that financial services entities pay their senior executive, which could see a swing away from variable to fixed remuneration. Some will argue that this is a good thing – our view is that incentives (in the form of variable remuneration) is a powerful force, which can lead to “good” as well as “poor” conduct – it is more about getting the measures right and the behaviour follows.
  • Finally, the regime of penalties and sanctions is significant. Insurers will need to be aware of the stronger penalty framework at an entity and individual level, which includes civil penalties. Importantly, like the BEAR, entities will be prohibited from indemnifying or paying the cost of insuring accountable persons against the consequences of breaching the FAR – although executives can still insure against the financial loss arising as a result of a civil penalty against them.
  • APRA will have the power to veto senior executives and directors where it is of the opinion that they are not suitable. This “non-objections power” to veto the appointment or reappointment of directors and senior executives is supposed to complement APRA’s existing removal and disqualification powers.

Raising the bar on Board and Executive Accountability


What is clear from the proposal is that General, PHI and Life insurers will need to apply absolute rigour to defining roles, responsibilities and accountabilities for senior executive and Boards. Accountability maps and statements will go some of the way; critically, insurers will need to review policies including remuneration, incentives and conduct policies and articulate the consequences for breaches. They must build this into standards regarding Governance, “Fit & Proper”, Remuneration etc. rather than having it outside them or over the top of them.


Submissions

Feedback on Treasury’s Proposals paper with respect to the extension of BEAR is due 14 February 2020. The Government intends to consult on and introduce legislation by the end of 2020 to implement the model.


Read our ongoing Regulatory Compass Blog here.

To discuss the above or should you have any queries contact us: 

Raj Kanhai

Ph +61 2 8252 3332
Mobile +61 409 918 804
raj.kanhai@finity.com.au