The Financial Services Authority has announced that it would take enforcement action against building societies, large banks and broker dealers who fail to follow its new remuneration code which is due to come into effect in January 2010.

Following its concerns that the current bonus regime contributed to excessive risk taking in the banking sector, the FSA wants pay and bonuses to be more closely linked to the profitability of financial institutions. The new code makes clear that financial institutions should not enter into contracts with employees which provide guaranteed bonuses for more than a year. The FSA also wants two-thirds of bonus value paid to senior employees, to be spread over three years.

The businesses will have to send a statement of their remuneration policy to the FSA by the end of October. This will have to be approved by the businesses’ remuneration committees and will provide the basis on which the FSA can check compliance with the code.

The FSA has said that non-compliant business will face enforcement action or be forced to hold additional capital resources if they follow risky business policies.

This new code should achieve two objectives. Firstly, Directors must ensure that the total value of bonuses distributed to employees is consistent with good risk management and sustainability. Secondly, individual compensation schemes must provide the appropriate incentives.

To action their new policies, the FSA has added eight principles to their rule book. These are designed to ensure that all financial institutions fully understand how the FSA will assess their compliance.

These eight new principles are consistent with the recommendations of the Financial Stability Board and with the measures being considered by other countries in the EU and Switzerland.