Canada

Canadian Bank Regulator Confirms Investor Mortgage Reduction Coming Next Year

Canadian real estate investors are about to face higher hurdles to enter the market. The Office of the Superintendent of Financial Institutions (OSFI), Canada’s bank regulator, confirmed new rules being rolled out in Q2 2023. The rules are a part of international Basel III guidelines, designed to reduce risk in the system. One critical change for real estate will be raising the risk weight for investor mortgages. This will reduce their leverage, which OSFI cites as a key response to housing risk. It’s still early, but here’s what we could dig up.

The Basel Trilogy and Global Financial Risk Reduction

The Basel reforms are a global set of measures for prudential bank regulation. They were developed by the Basel Committee On Banking Supervision (BCBS). The BCBS is a 45-country group hosted by the Bank of International Settlements (BIS). The BIS is often called, “the central bank for central banks.” It’s also jokingly called the “final boss” by Bitcoin investors.

We know, it’s a lot of banking jargon and acronyms, but what they do is straightforward. Their job is creating non-partisan risk reduction standards for the global financial system. Since the world’s financial system is now interdependent, problems spill across borders. They stepped up their game after a housing bubble in the US caused a global financial crisis (GFC).   

The Basel Accords are a trilogy of policy where the common goals were set. The original happened before many of you were born (1988), but Basel II and III occur after the 2007-2008 GFC. No, circle back. GFC doesn’t stand for Gesus F*cking Christ, we just explained it’s the Global Financial Crisis. We’re also worried about your spelling skills.

The Second Accord primarily addressed minimum capital adequacy requirements. In other words, how much financial institutions had on hand compared to what they lend. Basel III was held in 2010, and mostly just improves the recognition of risk.

A good chunk of BASEL III reforms have already been implemented. Increasing Common Equity Tier 1 (CET) to 4.5% of risk-weighted assets (RWAs) from 2% in BASEL II, is one example. It happened in 2015 and almost no one heard a sound. The measures have been gradually introduced to create as little noise as possible. Though real estate investors might make some noise with the next update.

Basel III Will Land In Q2 2023, and It Will Lower Investor Mortgage Leverage

Basel III will increase the capital requirements for investor mortgages. “as part of the domestic implementation of the Basel III reform package in banks’ fiscal Q2-2023, we are increasing the risk weights, and thus capital required, for investor mortgages compared to the risk weights for owner-occupied properties,” said OSFI this morning. 

That only tells us a reduction in leverage by Q2 2023 is coming, but not how much. OSFI said they’ll get back to us with what that means for down payments soon. We’ll update as soon as they do, but in the meantime we can get an idea of what we’re in for, from Basel III guidelines. 

New standardized credit risk assigns a 30% risk weight to residential real estate. Next year income producing properties with a loan-to-value between 60% and 80% will have a risk weight of 45%. A bank will assume 50% more risk weight for an investor mortgage than an owner occupied home. i.e. owner-occupied mortgages with 20% down have similar risk to investor mortgages with 30% down.

There’s no direct translation of how that’s mitigated. They could want 10 points more for a mortgage, or they can offset risk in various other ways. Raising the risk premium on interest or lending less would be two methods to deal with it. None of those are particularly great for investors, now between 25% and 30% of home sales in Canada. It will slow demand though, which is probably needed. 

Raising the downpayment is already occurring in other countries like New Zealand. Last year the country increased the minimum downpayment for investors to 40% of the value. Mortgage Professionals Canada (MPC) recently suggested a similar arrangement for Canada. Yup! The organization that represents mortgage brokers suggested it as just a cooling measure. Not even a Basel III mitigation. Though MPC once accused me of personally being a deficit risk, so they’re hit or miss on their takes.

The Federal Government has yet to address the issue, probably since most don’t know it’s coming. That means we don’t know if they’ll help reduce the leverage for political points or it’ll come from the banks. One thing’s for sure though — it’s coming next year.

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  • Ron Bruce 1 month ago

    Rules are being rolled out in Q2 2023. It sounds warm and fuzzy, but Q2 2023 in the Real Estate world is a long time away in developing another scheme to minimise the impact. Let’s not forget that Real Estate prices increase at 10 X income.

    • Kevin Logan 1 month ago

      Q2 2023 for banks is Q1 2023 for people, 8 months. In those 8 months mortgages rates are expected to climb to the highest level in decades.

  • Mike 1 month ago

    Data is showing investers are softening alittle.But lets fix that with some more FOMO.Better invest now before it more expensive.Why don’t they shut the F up and stop with the BIS.

    • Trader Jim 1 month ago

      That’s not what that says. It says your leverage yield is going down, and since Canada doesn’t have 30 year mortgages, that’s almost certainly a loss in value.

    • RM 1 month ago

      Huh? Did we read the same article?

  • DasHip 1 month ago

    Is it just me.. or.. is the current federal government (Trudeau) not overstaffed, spending like a drunken 20-year-old royal on a binge, and yet, still doesn’t know its head from its a$$?

    • DasHip 1 month ago

      .. I actually used to work for them under lean, Harper years too.. kinda glad I got out when I did… But missed the gravy-train, I suppose, and all the incompetence hires hired along with that…

  • Concerned for Renters 1 month ago

    So the net of these changes for investment properties indicates to me that rent will be even higher for new properties. These doesn’t seem to contribute anything to the affordable housing concerns throughout the larger cities in Canada.

  • Darren Stone 1 month ago

    There is no risk. Housing prices never go down.

  • JellyScrubber 1 month ago

    How do these regulations impact the banks and their technology teams? Is there something specific they have to do to enhance what they report or capture I terms of mortgage data, etc?

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