Canada's financial sector fought a losing battle to stop the national banking regulator from restricting the amount that homeowners can borrow on a home equity line of credit, documents obtained by The Globe and Mail show.
Several members of the industry argued not only that borrowers with good credit would be hurt by the new rules, but also that the regulator's crackdown could prompt banks to issue riskier kinds of loans – such as unsecured lines of credit – to keep their customers.
The dispute is at the centre of Ottawa's efforts to rein in consumer debt levels and to reduce the risks to the financial system posed by record mortgage debt levels. The documents, which include responses from industry players such as lenders and mortgage brokers to the new mortgage underwriting rules that the regulator proposed this spring, show that the sector is not convinced the regulator has got it right when it comes to curbing the risks.
And, while banks will be forced to abide by these new rules by the end of this month, provincial regulators aren't imposing the same rules on credit unions.
The issue has been contentious because such loans have been a booming product for lenders over the past decade. But with mortgage-related debts ballooning and both the housing market and broader economy still facing a number of risks, policy makers have been seeking to reduce these debts and encourage Canadians to keep more equity in their homes.
Finance Minister Jim Flaherty took steps to rein in the growth of home equity lines of credit early last year, saying that the government would no longer guarantee mortgage insurance on them. Prior to that, such lines of credit and mortgage refinancings surged to $64-billion in 2010 from $8-billion in 2001.
This March, the Office of the Superintendent of Financial Institutions (OSFI) proposed tightening up its standards as part of new mortgage underwriting guidelines.
It announced the final changes in June. While OSFI asked federally-regulated banks to comply with the changes immediately if possible, they are required to do so by the end of their fiscal year. For the big banks that's the last day of this month.
The new rule caps the amount that any individual homeowner can borrow on a home equity line of credit at 65 per cent of their home's value.
Documents obtained by The Globe and Mail through an Access to Information request to the regulator detail a number of responses that OSFI received from banking and real estate players after the rule was proposed.
As an alternative to the cap, industry players proposed that banks should be allowed to give home equity lines of credit exceeding 65 per cent loan-to-value to good borrowers, as long as banks restricted the exposure in their overall portfolios to no more than 65 per cent of the total value of homes backing the loans in those portfolios.
OSFI's cap could cause banks to "find alternative options that would be more costly for consumers and more risky for the bank," one submission stated.
"Applying a risk-based approach to individual accounts and portfolio management would be more prudent as it would focus attention on the higher-risk aspects of the portfolio while limiting the negative impact on lower-risk borrowers," another said.
But OSFI disagreed.
"Applying on a portfolio basis could be challenging, and would create the wrong incentives for branch-level employees," an internal note by the regulator stated. "A 65 per cent limit on individual clients is clear and compliance can be monitored by the [bank]."
The new rules could give credit unions an advantage.
Andy Poprawa, the chief executive officer of the Deposit Insurance Corporation of Ontario, which oversees credit unions in that province, said in an interview that he does not intend to impose the 65 per cent loan-to-value cap on home equity lines of credit, since credit unions typically operate outside of heated real estate markets, such as the Greater Toronto Area.
"Our credit unions would mostly be operating in the non-GTA markets – smaller communities, towns," he said. "And there the real estate market is a little bit different, it's not as overheated as the GTA, especially the condo market. So we don't have the same level of concern that OSFI would have with respect to the large banks."
British Columbia's Financial Institutions Commission has asked credit unions in that province for information about how their portfolios and practices compare to OSFI's guidelines, and is still considering whether to impose tighter conditions. But provincial regulators emphasized that credit unions tend to be cautious and to know their clients well.
"Sure we're all concerned if there's a downturn what's going to happen, but the loan-to-value ratios that our guys have traditionally used are pretty conservative," Mr. Poprawa said.