Six different federal agencies have together proposed a new rule that, if enacted, would ban certain incentive-based compensation arrangements linked to risky financial behavior. The joint agency proposal was put forward by the Securities and Exchange Commission, the Office of the Comptroller of Currency, the Federal Deposit Insurance Corporation, the Federal Housing Finance Agency and the National Credit Union Administration.

Under the proposed rules, financial institutions would be barred from implementing incentive-based payment arrangements that provide excessive compensation or could lead to material financial loss. They would also need to disclose the structure of its incentive-based compensation arrangements in order to determine whether they fit either of the above two criteria. The rule would only apply to financial institutions with total assets of $1 billion or more. 

More specifically, the proposed regulations would allow incentive-based compensation arrangements for the covered institutions only if they appropriately balance risk and reward, are compatible with effective risk management and controls and are supported by effective governance. An arrangement would be considered to have appropriately balanced risk and reward if it includes financial and non-financial performance measures, is designed to allow non-financial performance measures to override financial performance measures when appropriate and is subjected to adjustment to reflect actual losses, inappropriate risks taken, compliance deficiencies and other measures or aspects of financial and non-financial performance. 

Board at covered institutions, meanwhile, would need to conduct oversight of their incentive-based compensation program for senior executive officers by approving aspects such as amount of awards and, at the time of vesting, payouts of such arrangements. They would also need to approve material exceptions or adjustments to these policies for senior executive officers, and conduct oversight of the policies. 

"There is evidence that flawed incentive-based compensation practices in the financial industry were one of many factors contributing to the financial crisis that began in 2007. Some compensation arrangements rewarded employees – including non-executive personnel like traders with large position limits, underwriters, and loan officers– for increasing an institution’s revenue or short-term profit without sufficient