Bank Incentive Structures - November 2018 Findings from an FMA review of incentive structures in the banking industry

November 2018

Bank Incentive Structures
Findings from an FMA review of incentive structures
                           in the banking industry
Financial Markets Authority | Bank Incentive Structures

Bank Incentive Structures | Financial Markets Authority

Executive summary                                                                                                4
Purpose of this review                                                                                           4
What we found                                                                                                    4
Our expectations                                                                                                 5

Background to the review                                                                                         6
What are incentive structures?                                                                                   6
What are the risks to customers?                                                                                 6
Scope of review                                                                                                  7

What we found – incentive structures                                                                             8
Variable pay                                                                                                     8
Incentive scheme features that increase risk                                                                     9
Incentive scheme features that can increase or decrease risk                                                    10
Incentive scheme features that can decrease risk                                                                12
Mobile Mortgage Managers                                                                                        14
Changes to incentive schemes                                                                                    15

What we found – controls and oversight                                                                         16
Key controls                                                                                                    16
Factors affecting the effectiveness of controls                                                                 18
Board and senior management oversight                                                                           19

Next steps                                                                                                     20

Glossary                                                                                                       22

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Financial Markets Authority | Bank Incentive Structures

Executive summary
Purpose of this review                                                     1. Incentive schemes are highly sales focused.

How people are incentivised influences the way they                        Sales performance typically determines the majority
act, and tells them what behaviour is valued. In banks,                    of a salesperson’s variable pay. Incentive schemes
incentives linked to sales encourage staff to sell products                are structured to encourage high sales performance,
and tells them that a sale is a good outcome. This creates                 commonly incorporating minimum sales thresholds
a conflict of interest between the staff member and the                    and larger rewards for bigger sales. Manager incentives
customer, as it is not always in the customer’s interest to                are typically based on the sales performance of their
purchase a product. Banks need to manage this conflict                     salespeople, likely adding more pressure on staff to sell.
of interest to ensure their customers get good outcomes.                   This means that the risk of inappropriate sales practices
The purpose of this review was to understand and assess                    occurring is high. It is therefore unsurprising that we
the design of banks’ incentives schemes for salespeople,                   were told by some salespeople of inappropriate sales
and how related conflicts of interest are managed. To do                   practices taking place.
this we looked at:
                                                                           2. Controls appear to be ineffective at mitigating
•   incentive schemes for salespeople and their line                       conduct risks.
                                                                           Given incentive schemes are highly sales focused,
•   controls for managing the risks associated with                        controls to effectively manage the risk of inappropriate
    incentive schemes                                                      sales are crucial. We found that controls are often
•   board and management oversight of risks related to                     designed and conducted in a way that makes it unlikely
    incentives.                                                            they will be effective at identifying inappropriate sales.
This review was signalled in the Financial Market                          This means poor customer outcomes are likely to go
Authority’s (FMA) Annual Corporate Plan 2017/18, and                       undetected.
aligns with our strategic priorities of Sales and advice,
                                                                           3. Boards and senior management often seek
Conflicted conduct, and Governance and culture. This
                                                                           and receive little information on the risks of
review also complements the Bank Conduct and Culture                       inappropriate sales.
review1 of banks in New Zealand by the FMA and the
                                                                           While boards and senior management receive
Reserve Bank of New Zealand (RBNZ).
                                                                           information on the operation of incentive schemes
                                                                           themselves, some receive little information on the risk of
What we found                                                              inappropriate sales and how that risk is being managed.

Incentives of bank salespeople are highly sales
focused, meaning there is a high risk of inappropriate
sales practices occurring. Despite this, banks are not
adequately monitoring and controlling this risk.

1. The Bank Conduct and Culture review was published on 5 November 2018.

Bank Incentive Structures | Financial Markets Authority

4. Banks are making significant changes to their                                In March 2019 we will ask all banks how they will meet
incentive schemes.                                                              our expectations regarding incentives, and we will
Significant changes are being made to incentive                                 report on their responses. Any bank that does not, by
schemes across the banking industry. Incentive schemes                          that date, commit to removing incentives linked to
for salespeople are generally becoming less sales                               sales measures3 for salespeople and their managers will
focused, and some banks are entirely removing sales-                            be required to explain how they will strengthen their
based incentives for some salespeople and managers.                             controls sufficiently to address the risks of poor conduct
                                                                                that arise with such incentives.
                                                                                Many banks have acknowledged the need to make
Our expectations                                                                significant changes to their incentive schemes. Progress
The FMA expects banks to ensure they achieve                                    appears to be in a positive direction, with banks
consistently good outcomes for their customers2. This                           generally reducing the focus on sales performance.
includes designing and managing incentive schemes in                            However, none of the changes announced by banks to
a way that leads to good customer outcomes.                                     date go far enough to create a sustainable culture of
                                                                                good conduct. We also expect banks to manage the risks
   “Customers must be confident that their interests are being                  associated with these changes, as changes to incentives
   properly considered; that they are getting the right financial               may have unintended consequences. As banks develop
   products and services at a reasonable cost; and that they                    indicators of customer outcomes4, we expect they
   understand them”                                                             consider incorporating these into staff incentives.

   – A Guide to the FMA’s view of conduct, 2017                                 We expect to see improvements in board and senior
                                                                                management oversight of the risks associated with
It is for banks to determine the most appropriate way
                                                                                incentives. Boards and senior management should be
to design and control incentive structures in a way that
                                                                                more proactive at identifying and managing these risks.
sustains good customer outcomes. Removing incentives
                                                                                We also expect them to question whether a lack of issues
linked to sales measures is a significant step towards
                                                                                detected means issues do not exist, or issues are not
this goal. However, pressure to sell that senior managers
                                                                                being identified.
place on more junior managers and salespeople cannot
be underestimated, so the design of incentives for                              While this report and its expectations apply to banks,
senior and middle managers also needs to be carefully                           many of the issues are relevant to other types of financial
considered.                                                                     services firms. We recommend that all financial services
                                                                                firms consider this review, the issues raised, and how
We expect banks to revise their sales incentive structures
                                                                                they relate to their business.
for salespeople and through all layers of management.
We expect banks to implement changes to their
incentive schemes no later than the first performance
year beginning after 30 September 2019.

2. More detail on the conduct we expect is detailed in A Guide to the FMA’s view of conduct 2017
3. We define sales measures as measures that are achieved by retail customer sales or referrals, whether at an individual or a team level. This includes
sales/referrals numbers, sales value and asset or liability growth.
4. The FMA and RBNZ have stated this is expected of banks following the Bank Conduct and Culture review.

Financial Markets Authority | Bank Incentive Structures

Background to the review
What are incentive structures?                             therefore important that staff are clear on whether
                                                           they are providing advice (personalised or class) or
While variable pay is most commonly associated with
                                                           simply information about the product, so the customer
incentives, incentive structures also include fixed pay
                                                           understands its limitation. Nonetheless, whether
(salary), competitions, and performance management
                                                           providing information or advice, if salespeople are
(eg how staff are selected for promotions, and how staff
                                                           incentivised to prioritise selling products over meeting
are selected for performance improvement plans and,
                                                           the customer’s needs, potential risks include the
ultimately, termination of employment).
Incentive structures are a key part of an organisation’s
culture. They:
                                                           •   Sales of products or services that are unsuitable or
                                                               unnecessary for customers.
•   recognise and reward well-performing staff             •   Customers not being offered a cheaper alternative
•   indicate to staff what behaviours senior management        product or service that meets their needs.
    value and the goals they want to be achieved.          •   Sales where customers are provided with incomplete,
There is no ideal model for bank incentives. Different         unclear or misleading information.
banks have different strategies and cultures, and should   •   Failure to exercise due care when dealing with
design their incentive structures with those in mind.          vulnerable customers.
However, it is important for banks to ensure:              •   Insufficient assistance provided to existing customers
•   their incentive scheme is appropriate for their            when there is no prospect of a sale.
•   risks associated with their scheme are identified,
                                                               Types of harm that may occur
    monitored, and effectively managed.
In particular, we expect banks to design and manage            •   A customer switches their investment product
incentive schemes in a way that sustains good customer             to their bank, not understanding that the fees
outcomes.                                                          may be higher.
                                                               •   A customer who requests an increase to their
                                                                   credit card limit is instead encouraged to buy a
What are the risks to customers?                                   new credit card with a higher fee, despite it not
Where sales performance determines the incentives                  meeting their needs better than their current,
salespeople receive, the risk of potential harm to                 cheaper card.
customers can be significant.                                  •   A customer buys a new insurance policy, not
                                                                   understanding that they will be unable to claim
This risk stems from the fact the customers generally
                                                                   on it, as the salesperson did not explain the
have less understanding of bank products and services
                                                                   limitations of the product.
than bank staff. This ‘asymmetry’ leads to customers
relying on information provided by bank staff. It is

Bank Incentive Structures | Financial Markets Authority

Scope of review                                                                staff, small and medium sized enterprise (SME) business
                                                                               banking staff, and Mobile Mortgage Managers.
Nine banks were included in this review:
                                                                               We excluded Authorised Financial Advisers, Registered
•   ANZ Bank New Zealand Limited (ANZ)
                                                                               Financial Advisers, and specialist sales staff within
•   ASB Bank Limited (ASB)                                                     banks5. We also excluded staff who sell to wholesale
•   Bank of New Zealand (BNZ)                                                  customers. Our definition also excluded third parties
•   Heartland Bank Limited                                                     such as external brokers.

•   Kiwibank Limited (Kiwibank)                                                We defined managers as the managers and supervisors
•   Southland Building Society                                                 of salespeople.

•   The Co-operative Bank Limited                                              Products
•   TSB Bank Limited                                                           We included the incentives relating to all banking
•   Westpac New Zealand Limited (Westpac)                                      products that are within scope of the Financial Advisers
                                                                               Act 2008. This includes home loans, personal loans,
We asked all banks for information on:
                                                                               credit cards, term deposits, transactional accounts, life
•   incentive structures for salespeople and their                             insurance, general insurance and investments, including
    managers, including details of bonuses, commissions,                       KiwiSaver.
    competitions and prizes
•   how the risks associated with incentive structures are
                                                                               The review focused predominantly on the incentive
    managed and controlled
•   internal reporting to senior management and the
                                                                               structures and controls in place as at 21 May 2018. We
                                                                               recognise that some banks are in the process of making
    board about how risks associated with incentives are
                                                                               changes to their incentive structures and controls. While
                                                                               this report includes our high-level findings regarding
We met with 68 salespeople and 22 managers from                                these changes, we have not assessed them in detail, as
ANZ, ASB, BNZ, Westpac, and Kiwibank – the five largest                        information was limited at the time of our review.
banks based on number of customers – to understand
                                                                               Assessment criteria
their perspective of incentives, and talked to staff who
operate key controls in these banks. We also shared                            We assessed how incentives are designed and controlled
information with the Bank Conduct and Culture review.                          to mitigate the risk of inappropriate sales. We did not
                                                                               test whether customer harm is being caused as a result
Salespeople and their managers
                                                                               of the way incentives are designed and controlled.
We defined salespeople as staff who sell to New Zealand
                                                                               Our assessment has been informed by recent
retail customers, whether in person, on the phone or
                                                                               international work. This includes the Sedgwick review6
via online channels. This included Qualifying Financial
                                                                               in Australia and work by the UK’s Financial Conduct
Entity advisers, branch staff, contact centre staff, rural

5. While these staff were excluded from our definition of salespeople for the purposes of this review, our expectation that banks remove incentives
linked to sales measures applies to these staff.
6. Retail Banking Remuneration Review by Stephen Sedgwick in Australia.

Financial Markets Authority | Bank Incentive Structures

What we found – incentive structures
Overall, we found that salespeople’s incentives are          Variable pay
highly sales focused. Sales performance typically
determines the majority of a salesperson’s variable              Total variable pay for the 12 months ending 31
pay. Incentive schemes are structured to encourage               March 2018 for salespeople was $71 million across
high sales performance, and commonly incorporate                 the nine banks.
minimum sales thresholds and larger rewards for higher
sales volumes. Manager incentives are typically based on         The $71 million in variable pay represents 9% of
the sales performance of their salespeople, likely adding        total pay for salespeople across the nine banks
more pressure on staff to sell.                                  for the 12 months ending 31 March 2018. While
                                                                 the average annual variable pay of salespeople
Incentives that are highly sales focused means that the          is relatively modest at $6,180, some salespeople
risk of inappropriate sales practices occurring is high.         earn significantly more – the largest amount of
It is therefore unsurprising that we were told by some           variable pay earned by a salesperson in financial
salespeople of inappropriate sales practices taking place.       year (FY) 2016/2017 was $279,000. The average
Significant changes are being made to incentive                  amount of variable pay across each banks’ highest
schemes across the banking industry. Incentive schemes           variable-pay-earning salesperson was $104,000 in
are generally becoming less sales focused, and some              FY 2016/17.
banks are entirely removing sales measures for some
salespeople. However, none of the changes announced
to date go far enough to create a sustainable culture of     A higher proportion of variable pay within total pay
good conduct.                                                indicates a higher risk of inappropriate sales practices.
                                                             However, the actual risk is determined by the way
                                                             eligibility for, and size of, variable pay is calculated – not
                                                             just the dollar value.
                                                             We have split incentive scheme features into three
                                                             categories, based on their impact on sales behaviour:

                                                             •   Features that increase risk
                                                             •   Features that can increase or decrease risk
                                                                 (depending on how they are used)
                                                             •   Features that can decrease risk
                                                             In describing how certain features are used, we have
                                                             summarised the approach of banks rather than detailing
                                                             every aspect. This, in part, reflects the complexity of the
                                                             incentive schemes of many banks, with many operating
                                                             multiple incentive schemes with different features, eg for
                                                             different business units and different salesperson roles.

Bank Incentive Structures | Financial Markets Authority

                         Incentive scheme features           Accelerators and accelerator-type features
                         that increase risk                  These involve the rate of reward increasing as the
                                                             number or value of sales increases. Some banks have
                            These features reward
                                                             accelerator or accelerator-type features, although they
staff for selling, increasing the risk that they will use
                                                             were more commonly used in the incentives of Mobile
inappropriate practices to sell more. The impact of these
                                                             Mortgage Managers (see page 14 for more detail).
features can be heightened when used in combination.
                                                             Sales rewards that are not product-neutral
Sales measures
                                                             A number of banks vary the sales rewards depending on
This is when sales performance is a factor in determining
                                                             the product sold. This can bias a salesperson in favour
variable pay. All banks assess sales performance when
                                                             of a product that will earn them more, regardless of
determining variable pay. The risk of inappropriate sales
                                                             whether it is most suitable for the customer. However,
is increased when sales is the main, or only, factor in
                                                             the differences in reward can reflect the differences in
determining eligibility and amount of variable pay –
                                                             effort and time required to sell certain products – for
which was the case in most banks (once some minimum
                                                             example, it will normally take longer to sell a home loan
non-sales standards are met).
                                                             than a transactional bank account.
Some banks label sales as ‘customer needs met’, but
                                                             The risk of rewards that are not product-neutral
the definition of meeting the customer’s needs was the
                                                             increases further when substitutable products, such as
customer purchasing a product or service. Needs that
                                                             different types of credit card, have different sales reward
were not sales-related (eg addressing a query about an
existing product) were not included in the definition.
Sales gateways                                                                       Product
These are sales thresholds, such as a minimum number
of product sales, that staff must meet to be eligible for
                                                                            BASIC                PLATINUM
variable pay. Their use sets an expectation that a certain
level of sales must be achieved, creating pressure on
staff to sell. Sales gateways are used in the majority of
banks. A number of banks have multiple sales gateways,
where minimum sales of a number of different products                               Sales reward
need to be achieved. This increases the risk further, and
staff may become biased towards selling a particular
product to reach a particular product sales gateway.                        $                        $
Disproportionate reward from marginal sales (or
retrospective accelerator)                                   Rewards for products such as home loans, investments
                                                             and insurance are often based on the product value,
This is when one additional sale results in a significant
                                                             not the number of products sold. This means staff are
increase in variable pay. This feature is present in some
                                                             incentivised to encourage customers to borrow, invest,
banks, often combined with a sales gateway. At one
                                                             or insure more than they may want or need to.
bank, the difference between just missing the target and
achieving it is $2,000 per quarter.

Financial Markets Authority | Bank Incentive Structures

                              Incentive scheme features       Manager incentives
                              that can increase or            Incentives for managers based on the overall
                              decrease risk                   performance of their team can increase the pressure
                                                              managers put on staff. In all banks, performance
These features can increase or decrease risk, depending
                                                              measures of team leaders and branch managers are
on how they are designed.
                                                              based (to differing extents) on the culmination of those
Team or branch performance measures                           of their team members. This aligns the goals of sales
Some banks have team or branch measures. In some              staff and their managers. Whether this increases the
instances, the salesperson’s eligibility for an individual    risk of inappropriate sales depends on whether the
reward is tied to team performance. In others, the team       performance measures are sales-dominated or focus
and individual targets are separate. The use of team or       on non-sales aspects. In all banks the incentives of
branch measures can vary depending on the role of a           managers are based, in part, on the sales performance of
salesperson – for example, tellers who refer customers        staff. While managers’ performance measures often have
to other team members for sales are sometimes                 less weighting to sales performance than salespeople,
incentivised based on their branch’s sales performance,       they often make up a significant proportion. This is likely
while the person who completed the sale is incentivised       to add pressure on staff to sell.
based on their individual sales performance.                  Manager discretion
Designed appropriately, team targets can create               Some banks give managers discretion to rate a
an environment where collaboration that benefits              salesperson’s performance, with the rating tied to
customers is rewarded. Designed inappropriately, they         an incentive. One bank has an entirely discretionary
can create a culture where staff prioritise sales over good   variable pay incentive scheme, where each individual
customer outcomes.                                            had their own performance measures, and managers
For example, one bank identified that individual targets      assess performance against this to determine variable
resulted in some staff ‘hoarding’ referrals, rather than      payments. Manager discretion can enable a more
passing them to other less-busy salespeople, resulting        complete assessment of performance, particularly
in delays for customers. The bank is moving to team           for aspects that are difficult to measure (such as an
targets, to increase the incentive to collaborate in the      individual ‘going the extra mile’). However, if a manager’s
customers’ interests.                                         own incentives are based on the sales performance
                                                              of their staff, they may reward staff behaviour that
Where team or branch measures are used, we expect             increases the risk of inappropriate sales.
banks consider the culture they create and whether they
will help achieve good customer outcomes.                     We expect banks to take reasonable steps to ensure
                                                              manager discretion is exercised appropriately. This may
                                                              include providing guidance and training to managers, and
                                                              monitoring how discretion is being applied in practice.

Bank Incentive Structures | Financial Markets Authority

Competitions and performance management                            (whether in public or private) by a manager, coaching
                                                                   and feedback – all of which can create pressure on an
Competitions and performance management indicate to
                                                                   individual to sell. Some banks have sales leader boards,
staff what types of behaviours are valued by the bank. If
                                                                   which allow staff to compare their sales performance
those who win competitions and receive promotions do
                                                                   with peers, adding to a sales-focused culture and
so based on sales performance, staff are incentivised to
                                                                   creating pressure on staff to sell. Some banks have
focus on selling the most.
                                                                   removed leader boards, or are in the process of doing so.
All banks have competitions designed to reward staff
                                                                   We have not explored the less-formal aspect of
performance. Prizes awarded to individuals, teams or
                                                                   performance management in detail in this review given
branches can include monetary and non-monetary
                                                                   the difficulty of robustly assessing informal aspects.
rewards such as cash, travel vouchers, contributions to
                                                                   However, that does not mean they are unimportant or
team social activities, and additional annual leave.
                                                                   their impact on staff behaviour is insignificant.
                               Some competitions are based
          Salesperson          solely on sales performance, such
           of the year         as one bank’s ‘Salesperson of the
                               Year’ award, which had a $1,000
                               top prize. Other competitions,
                               such as one bank’s ‘Employee
                               of the Year’, are partly based on
                               sales, while others are entirely
 #1 Sales           $ 1,000
 One thousand dollars
                               non-sales based (eg rewards for
                        Bank   excellent customer feedback or
                               innovative problem-solving).
Performance management can also demonstrate
behaviours the bank does not want to see. Across all
the banks, 117 sales staff were entered into formal
performance improvement plans (PIPs) during the year
ending 31 March 2018. 45% of these instances were due,
at least in part, to poor sales performance.
While PIPs capture a formal aspect of performance
management, there are other less-formal aspects that
can be positive or negative – including praise or criticism

Financial Markets Authority | Bank Incentive Structures

                              Incentive scheme features            Clawbacks
                              that can decrease risk               A clawback is when pay already earned by a staff
                                                                   member is repaid to the bank (or deducted from future
                         These features reward non-sales
                                                                   payments) in certain circumstances, such as when the
performance, or limit the rewards that can be earned
                                                                   product is cancelled shortly after the sale. This can
based on sales performance.
                                                                   reduce the risk of salespeople selling products the
Risk and behaviour gateways                                        customer does not want.
These are minimum non-sales standards that staff must              Most banks with clawbacks explained they are used only
meet to be eligible for variable pay. The gateways have            in exceptional cases, such as where inappropriate sales
specific eligibility criteria, with staff typically assessed on:   practices had been identified. One bank used clawbacks
•    behaviour in line with the expected standards and             more frequently, clawing back pay for sales if the
                                                                   customer cancelled the products within a certain period
     bank values
•    compliance with internal policies and procedures (for
                                                                   after the sale.
     example, passing quality assurance checks)                    Deferrals
•    training and accreditation requirements.                      A deferral is when a portion of variable pay is withheld
Most banks use risk and behaviour gateways to ensure               from the staff member for a certain period, during
that staff with poor compliance and behaviours are                 which time the bank can cancel the payment in
not eligible for variable pay. This can send a powerful            certain circumstances. Deferrals allow more time
message about what is expected of staff and what                   for performance issues to be identified (eg through
behaviour is unacceptable, and is likely to be more                customer complaints).
effective at driving good behaviour than including a low           One bank has a deferral scheme where, if variable pay
weighting to compliance in a balanced scorecard.                   was 10% or more of fixed pay, a proportion of variable
If a gateway poses a realistic barrier and is an effective         pay is often deferred for a year. If the salesperson has any
deterrent, we expect that some staff should fail it. While         material compliance or conduct issues during that time,
the proportion of staff who failed risk and behaviour              or left the bank, they forfeit the payment.
gateways is often around 5-10%, for some banks it is               Decelerator
approximately 1% and in others above 20%.
                                                                   A decelerator is when the rate of reward or commission
Caps                                                               decreases as the number or value of sales increases. The
Caps to limit the amount salespeople can receive in                use of this feature was very limited.
variable pay can reduce the risk of inappropriate sales by         Non-sales measures
preventing unlimited rewards from being earned. Some
                                                                   The use of non-sales measures in determining incentives
banks use caps – whether based on a percentage of the
                                                                   can reduce the risk of inappropriate sales practices
salesperson’s fixed pay, or on a fixed dollar amount.
                                                                   by rewarding staff for performing well on measures
                                                                   other than sales. The majority of banks include non-

Bank Incentive Structures | Financial Markets Authority

sales measures in their incentive schemes, although            Example scorecard
they typically account for a lower weighting than sales
performance.                                                          Sales performance            Customer satisfaction
Non-sales measures typically include one or more of the                      25%                          25%
examples in the table below.                                                      Overall performance
Most banks use a scorecard, where different                                               100%
performance measures (both sales and non-sales) each
                                                                          Behaviours               Compliance
has their own weighting, which is used to calculate the
                                                                             25%                      25%
overall performance rating and variable pay.

                     Description and potential impact
 Customer           This rewards staff based on the feedback customers have given following an interaction.
                    This can mean that staff who prioritise helping customers to understand products will score highly,
                    and those with unduly aggressive sales tactics will likely score poorly.
 Productivity       This rewards staff based on productivity measures, such as call queue time in a contact centre.
                    These measures can incentivise good customer outcomes. For example, incentives that reward
                    salespeople for a short call queue time may help ensure customers do not wait too long for their
                    issue to be resolved.
                    However, banks should be aware of the potential unintended consequences of such measures.
                    For example, measures linked to call duration may incentivise staff to rush calls and inadequately
                    explain important information. This may be a particular issue for some vulnerable customers who
                    require explanations that are more thorough.
 Behaviours         This rewards staff based on how they demonstrate the values of the bank and exhibit appropriate
                    If the expected values and behaviours are consistent with good customer outcomes, this can mean
                    those who achieve good outcomes for their customers and behave appropriately are rewarded for
                    doing so.
 Compliance         This rewards staff for adherence to company policies. This may be based on the outcome of
                    compliance checks.
                    If the company’s policies are consistent with good customer outcomes, this can mean those who
                    achieve good outcomes for their customers and behave appropriately are rewarded for doing so.

Instead of a scorecard, some banks use a ‘modifier’ for        performance, but the final amount is increased or
some non-sales performance measures. For example,              decreased based on the individual’s performance in
variable pay may be initially calculated based on sales        compliance checks.

Financial Markets Authority | Bank Incentive Structures

Mobile Mortgage Managers
                                                                           Example of an accelerator
Mobile Mortgage Managers specialise in home loan
                                                                           A Mobile Mortgage Manager has a monthly sales
sales. They are typically subject to less direct oversight
                                                                           target based on the dollar value of their lending.
by colleagues or managers because they often conduct
                                                                           They earn variable pay based on a percentage of
sales at a customer’s home or workplace.
                                                                           the amount they lend, with the marginal rate they
We found that Mobile Mortgage Managers’ incentive                          earn increasing as they lend more as follows:
schemes are higher risk than those of non-specialist
sales staff. The reasons for this include:
                                                                           •   Below target – 0%

•    The potential amount of variable pay is significantly
                                                                           •   0 to 25% above target – 0.32%

     higher. For example, one Mobile Mortgage Manager                      •   25 to 50% above target – 0.35%
     earned $196,000 in variable pay alone in FY16/17.                     •   50 to 100% above target – 0.38%

•    Variable pay is primarily based on sales performance                  •   100% or more above target – 0.40%
     in most banks, with salespeople rewarded more for
     issuing larger loans (illustrated below).
                                                                       Features that reduce incentive-related risks are typically
                                                                       more prevalent for Mobile Mortgage Managers, which is
                       Home loan
                                                                       positive given the greater use of higher-risk features. For
                                                                       •   Some banks have caps limiting the maximum
                                                                           variable pay that can be earned over a certain period
                                                                           of time.
              $300,000                                    $1,000,000   •   Many banks use deferrals for Mobile Mortgage
                                                                           Managers, usually for a period of 12 months.
                                                                       •   Some banks have clawbacks for Mobile Mortgage
                       Sales reward                                        Managers, where commissions can be clawed back in
                                                                           certain circumstances, for example, if the loan is paid
     $1,200                                   $4,000
                                                                           back within six months.

•    Sales gateways are often used, where a minimum
     lending target must be met to be eligible for variable
•    Accelerators were common, where the percentage
     of variable pay increased along with the amount of

Bank Incentive Structures | Financial Markets Authority

Changes to incentive schemes
Most banks have acknowledged the need to make            Reducing the weighting of sales naturally involves an
significant changes to their incentive schemes, and      increase for non-sales measures, including behaviour,
have started this process. This appears to be due to a   customer satisfaction, and compliance with internal
number of factors, including:                            policies. Some banks are also using other features to

•   this review
                                                         reduce risk, such as greater use of risk and behaviour
                                                         gateways, and introducing or lowering caps for
•   the Bank Conduct and Culture review
                                                         Mobile Mortgage Managers.
•   the Sedgwick review and associated
                                                         Banks are also generally reducing the frequency
                                                         of variable pay, for example, reducing monthly or
•   the Australian Royal Commission
                                                         quarterly payments to six-monthly or annually.
•   overly complex incentive schemes.
                                                         While banks are at different stages of change, the
The changes appear to be in a positive direction, with
                                                         industry overall is at an early stage. For example,
banks generally reducing the weighting given to
                                                         some banks have announced they are introducing
sales measures in determining variable pay. In some
                                                         non-sales measures but have not yet decided what
instances, sales measures are being removed entirely
                                                         form they will take.
from some roles. However, even in these banks,
the removal of sales measures does not apply to all
salespeople, such as Mobile Mortgage Managers.

Financial Markets Authority | Bank Incentive Structures

What we found – controls and oversight
Controls are necessary to manage the risk of                   While these are important preventative measures, we
inappropriate sales due to sales incentives. We define         do not consider them sufficient to mitigate the risks
controls as documented processes and procedures that           associated with incentives based on sales performance.
mitigate specific risks. Controls should be tailored to        We expect banks to have controls to detect
the specific risks of the business, reflecting the incentive   inappropriate sales practices, tailored to the specific risks
structure, and the nature and scale of the business.           of the business.
Overall, controls often appear to be ineffective at            We identified examples of the following controls
mitigating the risk that sales incentives will lead to poor    designed to detect instances of inappropriate sales.
customer outcomes. The way controls are designed
                                                                                     1. Real time observations
makes them unlikely to be effective at identifying
                                                                                    All banks conduct observations of
inappropriate sales. Further, boards and senior
                                                                                    salespeople. This typically involves
management often seek and receive little information to
                                                                                    a manager or assistant manager
help them assess the risk of inappropriate sales.
                                                               observing and assessing a salesperson’s competence
We recognise that all controls have drawbacks and              in customer interactions, and knowledge of products
limitations. Just because a control is imperfect does          and processes, as well as ensuring all disclosures are
not mean it is of no value. Instead, we expect banks           provided to the customer. Managers provide feedback
to recognise the limitations and manage them                   to the salesperson afterwards.
appropriately. Banks should consider the following when
designing controls:                                                          2. Post-sale reviews

•    What the controls assess                                                 All banks undertake post-sale reviews,

•    The independence of those operating the controls
                                                                              which involve an assessment of records
                                                                              and documentation from the sale,
•    The ability of salespeople to manipulate the control
                                                                              including the salesperson’s notes about the
•    The sophistication of approach to determining which                      interaction. Reviews of contact centre sales
     sales or staff are subject to controls                    also typically include listening to the call recording.
                                                               Post-sale reviews can be process-based or outcomes-
Key controls                                                   based, or a combination of both.

There are a number of ways that banks can prevent staff        Process-based reviews include an assessment against
from selling inappropriately, including the following:         the steps required by the banks’ internal policies. For a
                                                               home loan this could involve checking the staff member
•    Greater use of incentive scheme features that can
                                                               obtained all required information. However, a limitation
     decrease risk (see page 12)
                                                               of process-based reviews is that, if the process is poorly
•    Employing staff with appropriate skills and               designed, a poor customer outcome could occur even if
     knowledge                                                 the correct process is followed.
•    Training and accreditation
•    Clear guidance and processes for sales
•    Maintaining a customer-focused culture

Bank Incentive Structures | Financial Markets Authority

Outcomes-based reviews typically consider whether the        under-emphasised drawbacks – and in the case of some
outcome of a customer interaction was positive. This         products such as insurance, it may take years for the
may include testing whether:                                 customer to realise the problem. Further, complaints and

•   the customer was treated fairly
                                                             poor customer satisfaction results are a ‘lag’ indicator,
                                                             meaning they typically identify poor customer outcomes
•   proposed products were appropriate and suitable for
                                                             that have already occurred.
    the customer
•   the customer understood the purchase they made.
                                                             Post-sales calls can overcome these limitations by using
                                                             questions that test the customer’s understanding of the
Outcomes-based reviews are more likely to identify           product they purchased. This can help to identify and
poor customer outcomes because they consider the             resolve potential negative outcomes before they occur
sale holistically, rather than just adherence to policies.   (eg by switching the customer to a suitable product).
While all banks conducted post-sale reviews, many are        However, while a small number of banks make post-
process-based.                                               sales calls for certain products, they typically focus on
                                                             welcoming customers and clarifying certain aspects of
                     3. Customer feedback
                                                             the sale.
                     Inappropriate sales practices
                     can be identified through formal                      4. Mystery shopping
                     complaints, or through channels               ?        Some banks use mystery shopping, which
                     such as customer satisfaction                          typically involves third-party providers
                     surveys or post-sale calls.                            posing as customers and reviewing their
Many banks stated that complaints monitoring is a                           interaction with branch staff. This is used
key control to help identify instances of inappropriate      to assess whether the correct disclosures were provided,
sales practices. We agree that customer feedback is a        and customer service elements such as friendliness,
valuable source of information about various aspects         professionalism and efficiency. Where it is used, it is
of a customer’s experience, including whether they           typically not designed to identify inappropriate sales
were pressured to purchase the product. However, as          behaviour.
identified in the Bank Conduct and Culture review, the
processes of some banks mean some complaints (such
as those that are resolved at the first point of contact)
are not always recorded as a complaint. This can result in
complaints going unrecorded.
In addition, some feedback methods, particularly
complaints and customer satisfaction, rely on the
customer knowing they may have purchased a product
that is not appropriate for them. They may not identify
situations where sales staff have over-sold benefits and

Financial Markets Authority | Bank Incentive Structures

Factors affecting the effectiveness of controls                                 sales interactions are not typically recorded as they are
                                                                                in call centres. For example, in the case of observations,
We identified four key factors that affected the
                                                                                branch staff could modify any usual deliberate
effectiveness of controls:
                                                                                inappropriate practices for the purposes of the
                                                                                observation. Similarly, for file reviews, salespeople could
1. What the controls assess
                                                                                record conversations inaccurately to help justify sales.
Many of the controls are not designed to assess the
                                                                                This was demonstrated by comments from staff that
appropriateness of a sale. They often address other
                                                                                file notes often do not sufficiently justify why a sale was
risks, such as manipulation of the sales system to record
                                                                                made but, when challenged, the salesperson explains
ineligible sales as eligible, poor customer experience,
                                                                                the justification was obtained but simply not recorded in
poor record-keeping, disclosure, credit risk7 and non-
                                                                                the notes.
compliance with internal policies. While these controls
may inadvertently identify poor customer outcomes,                              4. The sophistication of approach to determining
they are not designed to systematically control for the                         which sales are subject to controls
risk of poor customer outcomes.
                                                                                The approach to identifying which sales are reviewed
                                                                                is important. Random selection involves review of a set
2. The independence of those operating the controls
                                                                                number of files per salesperson over a given period.
Many key controls, such as observations and file reviews,                       Risk-based selection involves sales or staff that are
are operated by managers who are typically incentivised                         determined to be higher risk being reviewed more
for their staff to sell more. This means they are conflicted                    frequently.
during the observation or review and are unlikely to be
                                                                                A hybrid of the two approaches is likely to be the most
effective at identifying inappropriate sales practices.
                                                                                appropriate. This way, higher-risk sales are reviewed
Some salespeople told us the outcome of manager
                                                                                more frequently, but all staff know they may be reviewed
reviews is often feedback that they had not done
                                                                                at random. When determining higher-risk sales and staff,
enough to sell additional products to the customer.
                                                                                we expect banks to take account of the specific features
This indicates that the control can be used to add
                                                                                of their incentive schemes.
pressure on the individual to sell, rather than control for
inappropriate sales.                                                            Most banks use a hybrid approach, but typically the
                                                                                only risk factors that are systematically and consistently
The most effective controls are generally carried out by
                                                                                used are that top sellers undergo more checks and sales
competent, experienced and independent staff, thereby
                                                                                of particular products are checked more frequently.
eliminating conflict. Some banks mitigate this conflict by
                                                                                However, these factors were not necessarily the only
having independent staff review a sample of manager
                                                                                indicators of higher risk sales given the way the incentive
reviews (a ‘check the checkers’ approach).
                                                                                scheme was designed.
3. The ability of staff to manipulate the controls
Some controls are susceptible to manipulation and
therefore less effective, particularly in branches, where

7. Credit risk checks are primarily operated to manage the bank’s credit risk (ie the risk that the customer defaults on the loan), rather than to test the
appropriateness of the sale. While an unaffordable loan is also an inappropriate sale, we consider the definition of appropriateness to be wider than just
whether the loan is affordable. For example, whether the term of the loan is appropriate.

Bank Incentive Structures | Financial Markets Authority

 Other factors that may indicate a higher risk of
 inappropriate sales include the following:
                                                            Board and senior management oversight
 Staff or branches that sell a higher-than-normal           We requested information about reporting to and
 percentage of certain products, especially where those     discussions of the board and senior management
 products have a greater impact on variable pay             committees responsible for overseeing the risks
                                                            associated with incentives.
 Unusual combinations of products being sold to
 individual customers                                       We found that there is some reporting on the
                                                            risks and the outcome of controls that detect
 Staff who achieve or miss a sales gateway by a small
                                                            inappropriate sales practices, although this varied
                                                            between the banks and some receive very limited
 High levels of product cancellations or non-use by         information. This is of significant concern to us, as
 customers                                                  risks that are not identified cannot be effectively
                                                            mitigated and monitored.
 Customer use of a product that indicates they do not
 understand how it operates – for example, a savings        In some instances, reporting on performance of
 account that the customer uses as if it is a standard      controls related to inappropriate sales is provided
 transactional account, incurring high fees as a result     and monitored at a middle management level, and
                                                            banks stated material issues would be escalated
 Sales of products that are unusual given the customer’s
                                                            to the bank’s senior management and board on
                                                            an exceptions basis. However, we expect that
 Sales to vulnerable customers                              senior management and boards should not overly
                                                            rely on this. We expect they proactively request
 Complaints or poor customer feedback
                                                            information on the performance of controls, to give
 Unusual customer purchase patterns, such as multiple       them confidence about the effectiveness of the
 transactional accounts                                     bank’s control framework. We also expect them to
                                                            question whether a lack of issues detected means
                                                            the issues do not exist, or that they are not being
We believe that, if carried out with a sufficiently risk-
based approach, effective controls are likely to identify
inappropriate sales where incentives are based on sales     We did find evidence of boards and senior
performance. However, a number of banks told us             management receiving and discussing changes
that their controls had not identified any instances of     to incentive structures, such as those following
inappropriate sales in the last year.                       the Sedgwick review. It is positive that they are
                                                            engaged on the subject of incentives. However, we
Positively, some banks told us of their intention
                                                            expect them to also be engaged in the ongoing
to improve the way they identified potentially
                                                            oversight of risks associated with incentives,
inappropriate sales through improved analysis of,
                                                            in addition to changes to incentive schemes
for example, how customers use products they have

Financial Markets Authority | Bank Incentive Structures

Next steps
We will write to all banks included in this review stating
our expectations.
We expect banks to implement changes to their
incentive schemes no later than the first performance
year beginning after 30 September 2019. In March
2019 we will ask all banks how they will meet our
expectations regarding incentives, and we will report
on their responses. Any bank that does not, by that date,
commit to removing incentives linked to sales measures
for salespeople and their managers will be required
to explain how they will strengthen their controls
sufficiently to address the risks of poor conduct that
arise with such incentives.

Bank Incentive Structures | Financial Markets Authority

Bank Conduct and   Review by FMA and RBNZ to understand whether there are widespread conduct and culture
Culture review     issues present in New Zealand banks.

Salesperson        Individual who sells directly to customers. Includes: branch staff; phone staff; online help staff;
                   rural staff; Mobile Mortgage Managers; and Small and Medium Sized Enterprise (SME) business
                   banking representatives.
                   It does not include staff that sell to wholesale customers. Authorised Financial Advisers,
                   Registered Financial Advisers, and specialist sales staff within banks. It also excludes third
                   parties, such as external brokers.
Sales measure      A criteria based on sales performance against which an individual is assessed against, for
                   example, when determining their variable pay. Sales measures are measures that are achieved
                   by sales or referrals, whether at an individual or a team level. This includes sales/referrals
                   numbers, sales value, asset or liability growth.
Scorecard          Scorecards assess performance against a number of performance measures. Each measure
                   has its own weighting, which is used to calculate the overall performance rating and, in turn,
                   variable pay. Example:
                   •   25% based on sales performance
                   •   25% based on customer satisfaction
                   •   25% based on behaviours
                   •   25% based on compliance
Sedgwick review    Retail Banking Remuneration Review by Stephen Sedgwick in Australia.

Vulnerable         Someone who, due to their personal circumstances, is especially susceptible to harm, in
customer           particular when a firm is not acting with appropriate levels of care (based on definition from
                   “Customer Vulnerability” paper published by the UK Financial Conduct Authority, 2015).


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