Banks should hand out sharply lower staff bonuses this year as part of an overhaul of pay practices designed to protect investor returns as profits and share prices across the sector tumble, the Association of British Insurers' said.

It is our members' view that it can no longer be business as usual for this remuneration round, ABI director general Otto Thoresen wrote in a letter to the country's top banks Monday.

They expect to see significantly lower bonus pools and individual awards given the current market circumstances.

The ABI, whose members own about a fifth of Britain's publicly traded shares, believes some of the cash channelled by banks into employees' pay packets should be diverted into shareholder dividends to preserve investor returns, Thoresen said.

Insurers are also concerned that banks might fund higher regulatory capital requirements by trimming payouts to shareholders, he added.

Analysts already expect British banking bonuses to fall by nearly 40 percent this year, reflecting a slump in revenues as the euro zone sovereign debt crisis weighs on stock and bond markets.

British banks, seen as vulnerable to the euro zone crisis, have been among the worst stock market performers this year, with the FTSE All Share Banks index shedding a quarter of its value against a 5.7 percent drop for the FTSE 100.

(Reporting by Myles Neligan; Editing by Hans-Juergen Peters)