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PRA review of the SMCR: how has it been working?

  • United Kingdom
  • Employment law
  • Financial services

18-12-2020

The Senior Managers and Certification Regime (SMCR) was first implemented for banks and Solvency II insurers in 2016 and thereafter rolled out across most financial institutions, becoming the lodestone for individual accountability and good conduct in financial services. The SMCR has driven forward wholesale changes in the way individuals have carried out their functions and in how firms have assessed their key individuals. Good conduct and healthy cultures have come to the fore.

The PRA has now carried out a useful evaluation of how the regime has been working in practice and what areas could be refined and improved. The good news is that around 95% of firms surveyed said that the SMCR was having a positive effect on behaviour. 97% of firms reported integrating the SMCR in their business as usual practices in ways that went beyond simple regulatory compliance. So far so good, but there are always things to be learned and the PRA wishes to embed the regime and ensure that where there are gaps, these are plugged, either by way of further guidance or regulation.

What did the PRA review cover?

The review examined each component of the SMCR: the senior managers regime, the certification regime, the conduct rules and regulatory references. The PRA only reviewed dual-regulated firms and to this extent it shared experiences with the FCA but it did not look at FCA solo-regulated firms for which it has no supervisory responsibility. However, the review findings will be of interest to these firms, which will be grappling with the same issues and problems.

There are no proposals to amend the Rulebook or guidance but the review does include nine high-level follow-up actions and recommendations.

Holding individuals to account

Firms reported that the SMCR is having a material effect on behaviours, although the PRA noted that there is more that can be done to embed the regime.

Conduct notifications

The PRA notes that conduct notifications are being used only to a limited extent. In the 4.5 years leading up to October 2020, the PRA received 16 conduct notifications in respect of senior managers and 104 conduct notifications in respect of certified persons. The PRA recommends that the scope for clarifying expectations related to misconduct reporting in notifications and regulatory references should be examined. The PRA notes that there have been instances of enforcement action involving individual accountability and misconduct since the PRA was established.

Regulatory references

85% of firms either mostly or always considered the regulatory references they received to be of sufficient quality to inform their assessment of an individual’s suitability. There was some variation between banks and insurers, with around a quarter of banks noting that regulatory references were always of sufficient quality, while the comparable figure for insurers was only 15%. One issue that was apparent was nervousness about hiring individuals with adverse comment on their reference and a corresponding sensitivity on the part of employees to such comments. The PRA considered that there is a case for it to liaise with external stakeholders to determine if there is a danger that regulatory references could be used in ways that are unnecessarily punitive.

Senior manager approvals

The PRA also noted that it has not rejected any applications for senior manager approval since the commencement of the regime. This suggests that the checks being made by firms are sufficiently thorough.

Link between remuneration and SMR

The PRA noted that executive pay is being adjusted in response to adverse events and new PRA rules on remuneration. Firms surveyed report that SMCR responsibilities are considered in remuneration arrangements although qualitative feedback suggests the responsibilities of senior managers are generally reflected in objectives and appraisals as part of a balanced scorecard, rather than a one-for one link between SMR responsibilities and variable pay. The review refers to Sam Woods 2018 Mansion House speech: We are going to ask more pointedly and regularly than before: how is the pay of that senior manager who is tasked with delivering a major supervisory priority going to be affected by their success or failure in that task?

‘Myth busting’ and clarifying expectations

Recruitment and diversity

The review largely reports constructive engagement with the SMCR but there remain some misconceptions. Some stakeholders felt that there were challenges in recruiting from certain areas outside regulated financial services, such as information technology and digital services. This was in part due to high demand for these skills. Further, the SMCR is less familiar to those working in other sectors. Whilst the regulatory responsibilities are ‘tangible’ they are judged against the standard of having taken reasonable steps.

Some of those surveyed voiced concern that greater emphasis on senior manager accountability might discourage candidates from outside the UK-regulated sector from applying for a senior manager role with implications for the skills and diversity of firms’ senior management. Some were concerned that firms might be tempted to adopt a ‘safe’ approach to meeting SMCR requirements by replacing one senior manager with another from a similar background. The PRA is at pains to dispel any misconceptions. When deciding whether senior individuals are fit and proper, a firm must be satisfied that they meet the standards of honesty, integrity and reputation; competence and capability; and financial soundness. However this does not require simple ‘replication’ in terms of the individual’s personal characteristics. When the PRA wrote to chairs of UK banks and insurers in March 2020 regarding board diversity, it noted that in satisfying themselves that their firm had met the PRA’s requirements, they should consider the extent to which diversity policy was embedded in recruitment and succession planning for the board.

Usability of time-limited and conditional approvals

The PRA notes that since 2016 there have been only 24 time-limited approvals across banks and insurers and no conditional approvals. These two potentially flexible tools are therefore underused. There is merit in exploring how they might be applied more widely. One factor that appears to discourage the willingness of applicants to take on time-limited and conditional roles is the requirement that such approvals are published in the form of a decision notice (unless publication is judged unfair to the firm or the candidate, or prejudicial to the PRA’s objectives). As this approach is set out in FSMA, any amendment of this specific requirement would need to be discussed with HM Treasury.

Other findings

  • Half the firms surveyed reported an increase in risk aversion, particularly in smaller firms. However, many consider the SMCR to have enhanced decision- making by increasing the focus on responsibilities. Some firms noted that the increased risk aversion stems in part from the lack of clarity on expectations around documentation.
  • The majority of firms report linking Statements of Responsibility to objectives for SMFs and variable remuneration decisions, albeit indirectly through the remuneration scorecards
  • The majority of firms reported that the fitness and propriety process had supported higher professional standards.
  • Regulatory references were commonly viewed as a helpful tool for improving conduct, but they were also seen as one of the most operationally difficult parts of the approval process. Nonetheless, 85% of firms either considered regulatory references they received to be either mostly or always of sufficient quality to inform their assessment of an individual’s fitness and propriety.
  • There were some calls for further guidance in a number of areas to improve the regime’s implementation across industry, including on sharing general good practice, reasonable steps, regulatory references, thresholds for conduct rule reporting, and how to apply the different parts of the regime to those outside of the UK.

Evaluation of the Senior Managers and Certification Regime