Banks told to improve mortgage practices
Verify income, regulator warns
Canada’s top banking regulator is stepping up expectations for banks when it comes to mortgage lending.
The Office of the Superintendent of Financial Institutions issued a four-page letter to financial institutions Thursday spelling out the regulator’s expectation for mortgage lending practices — including income verification.
“OSFI is aware of incidents where financial institutions have encountered misrepresentation of income and/or employment,” said the letter signed by Superintendent Jeremy Rudin, which warned that borrowers who rely on income from sources outside of Canada “pose a particular challenge for income verification.”
The letter told the lenders to conduct thorough borrower due diligence in such cases.
“Income that cannot be verified by reliable well-documented sources should be treated cautiously when assessing the ability of a borrower to service debt obligations,” OSFI told the banks.
Home Capital Group Inc., one of Canada’s largest alternative lenders, cut ties with 45 mortgage brokers last year after a tip led to an internal probe that revealed falsification of income information had occurred.
The tightening of supervisory expectations by OSFI comes at a time of rapid house price increases in some areas and a prolonged period of exceptionally low interest rates.
“The risks are getting larger,” Rudin said. “OSFI wants to see sound mortgage underwriting procedures in place that adapt to the ever-changing circumstances in this area.”
The regulator told all mortgage lenders they should not rely on collateral values as a replacement for income verification, especially in areas of Canada where house prices have been rising rapidly.
“Persistently low interest rates, record levels of household indebtedness, and rapid increases in house prices in certain areas of Canada (such as Greater Vancouver and Toronto), could generate significant loan losses if economic conditions deteriorate,” the regulator warned, adding that financial institutions can sustain losses both through the inability of borrowers to meet their debt obligations, and through declining values of the real estate properties pledged as collateral in mortgage loans.
OSFI had already moved to increase the amount of capital Canada’s biggest banks have to hold against certain mortgages to keep up with the rapid rise of house prices and highly leveraged buyers in some markets. The new rules are to come into effect in November.
A spokesperson for federal finance minister Bill Morneau said OSFI’s actions are “consistent with the minister’s own actions to address pockets of risk in Canada’s housing market.”
Daniel Lauzon, Morneau’s director of communications, said new measures came into effect this week, including amendments that clarify how government-backed insured mortgages can be securitized.
In the letter to financial institutions Thursday, Rudin said banks should not assess a borrower’s ability to service debt based on current “exceptionally low” interest rates, and warned them not to become lax in processes such as income verification if a mortgage meets the regulators loan-to-value caps.
“The 65 per cent LTV (loan to value) threshold used in OSFI Guideline B-20 should not be used as a demarcation point below which sound underwriting practices and borrower due diligence do not apply,” the regulator warned.
Jason Mercer, lead author of the Moody’s report, said OSFI’s letter Thursday signals that the regulator is “intensifying ” its examination of residential mortgage underwriting.
“It’ll force the banks to maintain or enhance existing residential mortgage underwriting controls amid growing concerns of increasing household debt and elevated housing prices,” Mercer said.