The Reserve Bank of India has laid down guidelines for compensation of executives at private and foreign banks aimed at preventing greed from destabilising the institution, with provisions to clawback pay if transactions fail years after origination.

The guidelines based on the recommendations of the International Financial Stability Board do not prescribe any quantitative limit on absolute pay, but deal with the structure of pay which in the past favoured excessive risk-taking. It has banned guaranteed bonus, and risk management staff will have more of fixed component than the rest.

These norms include capping the variable component of the compensation at 70% of the fixed pay in a year. "The compensation practices, especially of large financial institutions, were one of the important factors which contributed to the recent global financial crisis," RBI said in a statement.

"Employees were too often rewarded for increasing the short-term profit without adequate recognition of the risks and long-term consequences that their activities posed to the organisations." Banks are permitted to exclude the Employees Stock Option Plan from variable pay. The variable pay would have to be deferred over a period of three years.

Compensation payable under deferral arrangements should vest no faster than on a pro-rata basis. In the event of negative contributions, bank board would also have the option to clawback this deferred compensation. "Within this ceiling, at higher levels of responsibility the proportion of variable pay should be higher. The variable pay could be in cash, or stock-linked instruments or mix of both," it said.

The RBI has also asked bank boards to ensure that any deterioration in the financial performance should lead to a contraction in the total amount of variable remuneration paid. Banks will now be permitted to offer joining bonus only in case of new hires and will be limited to first year.

They will not be allowed to grant severance pay other than accrued benefits like gratuity and pension, except in cases where it is mandatory by any statute.

Meanwhile, foreign banks operating in India will be required to submit a declaration to RBI annually from their head offices to the effect that their compensation structure in India, including that of CEO's, is in conformity with the FSB principles and standards.

"Reserve Bank of India would take this into account in case of approval to CEOs' compensation," said the central bank. (Economic Times)