Is Robin Hood alive and well? Clawbacks and bonuses

WynLewis

Have you ever wished that you could require an employee to pay back a cash bonus or give back an award of shares or some other form of variable remuneration (let’s call all of these a “bonus award” for the purposes of this blog) when things haven’t worked out as well as your organisation had hoped, or if turnover or profits are down, or if staff have misbehaved or underperformed?

Alternatively, have you ever breathed a sigh of relief when you saw your bonus award actually sitting in your bank account, rather than in the “vested, but not yet received” column of your mental bank account, and knew that it was now yours to use in all the ways you had promised yourself?

Your wish (as an employer) is increasingly likely to be granted or imposed; but your concern (as an employee) about whether you can go ahead and deal with your bonus award without worrying about having to pay it back is not just a nightmare, but is increasingly likely to become a fact.

This dilemma is, of course, the problem child of different parents. Those parents include the need for financial prudence and the curbing of risk-taking and short-termism since the 2007/08 global financial services crisis; the taking into public ownership of banks that still remunerate their staff at a level that most UK employees only dream of; and the bursting of the house price bubble and its effect on unemployment, inflation and economic failure, etc. Their child is the “Reward for Failure” backlash.

This has, meanwhile, manifested itself in various Remuneration Codes, which require major financial institutions to have remuneration policies that promote effective risk management by enabling a bonus award to be paid or to vest only if it is justified by reference to corporate and individual performance; and that an unpaid or unvested bonus award can be reduced in advance. These are called “malus” arrangements and are likely to be expanded with effect from 1 October 2014.

But further changes in the way in which bonus awards are payable are likely from 2015 onwards for companies that are regulated by the Prudential Regulation Authority (the spin-off from the Financial Services Authority that now supervises the day-to-day way in which banks, building societies, credit unions and insurers etc do business). These changes will supplement malus arrangements with clawback arrangements that (if the PRA’s proposals from March 2014 are implemented) should be in place with effect from 1 January 2015 in relation to all bonus awards that are made after that date, as well as to bonus awards that have been made before that date, but haven’t yet vested. Any clawback arrangements should also be able to “bite” on up to 6 years’ worth of bonus awards. The PRA’s consultation closed in May 2014, so any required changes are likely to be confirmed soon.

The big difference, of course, is that a malus arrangement can adjust a bonus award before it is paid or awarded, whereas a clawback arrangement can do so after it has been paid or awarded. Hence the nightmare: if I have to return the money, must I also return the Porsche that I bought with it?

All of this may be all well and good as a matter of principle. But what’s the legal and HR position? What do you (as an employer) need to do; and what you need your employees to do?

For regulated employers, particularly if you are in the financial services sector, you might expect things to be fairly simple:

  • Many employment contracts will already have a provision that enables a change to terms and conditions to be made;
  • Even if there is no such provision, the fact that the change is required by the PRA as a regulator should trump anything else;
  • Anyone who resigns and claims that a change amounts to a constructive unfair dismissal would probably lose, because “illegality” is a potentially fair reason to dismiss, and not implementing the change might be illegal, so the change will be required in order to avoid this; and
  • A contractual provision that permits a change to be made should also trump any claim that non payment of a bonus award amounted to an unlawful deduction.

So rich bankers probably won’t have much traction, even if they are contractually in the right. Even then, it’s doubtful that their concerns would attract much sympathy.

But the position may be more tricky for employers in different industry sectors, for which there will be no regulator’s requirement to make any changes, so not all of the bullet points above will apply.

Of course the “drip feed” effect of regulated companies on unregulated companies (many of which will, in any event, be quoted companies, or private companies whose shareholders are themselves regulated companies or high-end private equity houses that will already be subject to malus and clawback or, if not, want to “do the right thing”) is well documented and is likely to result in similar changes to their own terms and conditions of employment. The same effect is likely in relation to large players in the non-profit sector (who are regarded as holding on trust the charitable funds they collect from the public and the grants they dispense on behalf of Government). For these reasons, the clawback clause may become a general feature of all employment contracts for senior executives.

There are, however, at least five problems for HR professionals:

  • Any change to terms and conditions will normally require consent, especially if it relates to such a fundamental term as remuneration. This is a standard technical requirement of any variation to any contract, whether or not it’s a contract of employment. In this context, why should executives, like turkeys voting for Christmas, agree to these changes? If they won’t agree, then, unless an employer is willing to risk that a valued employee may not care about still having a job, there would have to be a notice of dismissal with a contemporaneous offer of re-engagement (on new “claw-back-the-bonus award” terms) to make the change effective, or (which would be ironic and partially self-defeating) a bonus payment as consideration for agreeing to the change

  • It’s difficult to recover money that has already been paid (unless it is set off against bonus awards that might have been payable in future years – which is itself a speculative exercise) because in most cases it will either have been spent or committed elsewhere (will there be an expectation that employers will have to sue their employees if they don’t repay what is due?)
  • There could be significant tax and NIC consequences that would have to be worked through (does the repayment obligation refer to the net amount received, or to the gross amount?);
  • Whether a clawback that’s triggered when someone leaves and goes to a competitor could be regarded as a draconian penalty clause or a trade restriction, and be unenforceable anyway;
  • How badly will imposing these changes affect employee relations, given that bonus awards are sensitive and there will be suspicion about whether employers are acting in good faith, requiring some careful strategy and communications.

You’ll see that all of this has the potential to become messy. So, employers, think carefully – and do take some advice – before doing anything you might regret later.