LONDON (Reuters) - British banks must rewrite contracts for senior staff to comply with new European Union rules banning top-up "allowances" that breach a cap on bonuses, the Bank of England (BoE) has said.
Banks have been giving key staff allowances on a monthly or quarterly basis to bump up their basic pay and soften the impact of the curb on bonuses - which can be no more than fixed pay or twice that amount with shareholder approval.
Last October the EU's banking watchdog, the European Banking Authority (EBA), said the bulk of allowances being paid to thousands of bankers, mostly in the UK, breached the EU bonus cap law as they were discretionary payments.
BoE Deputy Governor Andrew Bailey has told banks they have to change their pay contracts to comply with EBA rules.
"Many of them don't need to rip them up. They need to amend the terms," Bailey told the Reuters Financial Regulation Summit.
"The effect is to make the allowances more fixed and the scope to withdraw them is that much more limited," he added.
Bailey, who heads the BoE's supervisory arm, the Prudential Regulation Authority, said the EBA's guidance came too late to apply it to pay and bonuses awarded for 2014, but will apply for 2015.
He reiterated his opposition to the bonus cap on the grounds that it causes fixed pay to go up, making it harder for regulators to claw back pay when misconduct is uncovered.
"It's a bad policy and it's got the wrong incentives," said Bailey, who marks 30 years at the BoE this month.
Britain failed to stop the bonus law being passed and withdrew a legal challenge in the EU's courts.
Banks last week criticized the EBA rules for not being "proportionate" and too inflexible by forcing lenders to defer portions of even very modest bonuses over several years, creating an administrative headache.
But the EBA said it was not possible under the EU law to grant waivers on deferrals.
Bailey said Britain has been applying bank remuneration rules more lightly on smaller firms but it was unclear how this could continue under EBA's new rules.
"I don't want to change from what we are doing and what we are doing is applying proportionality. It's still a very live issue," Bailey told the summit, held at the Reuters office in London.
Bailey said the banking sector was "substantially more robust" since the BoE's stress test of lenders last year but misconduct still casts a shadow over the sector.
Several of Britain's banks have been fined for alleged manipulation of interest rate benchmarks and currency markets.
Banks have also set aside more than 24 billion pounds ($38 billion) in compensation for mis-selling loan insurance, known as PPI, and ratings agency Standard & Poor's said that could rise by another 5 billion pounds.
The Financial Conduct Authority is considering whether to set a cut off point for claims and Bailey said there was a need to find some way of finishing the process.
"The thing about PPI is the process for dealing with it has not been designed with an end point. Eventually there has to be. There must be a point where you say enough is enough, but that isn't easy," he said.
Bailey said he assumed there would be a "fair degree of continuity" in regulatory policy since the centre-right Conservative Party was returned to government last week.
"My overwhelming desire is to see greater stability in the institutional structure of regulation. We need it to be stable," Bailey said.
Reporting by Huw Jones; Editing by Elaine Hardcastle