Unregulated Canadian mortgage lenders see market share surge: memo

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Ottawa is monitoring the growth of unregulated mortgages in Canada as non-bank lenders see their market share surge amid frothy housing conditions in Toronto and Vancouver.

According to a redacted government briefing note to Finance Minister Bill Morneau and released under the Access to Information Act, unregulated mortgage lenders – such as firms that do not take deposits – now control about 15 per cent of mortgage originations in Canada following rapid growth in recent years.

The document attributed the growth to low-cost business models, the rising popularity of brokers and access to securitization from Canada Mortgage and Housing Corp. (CMHC), the Crown agency that backstops most insured mortgages. As well, new regulations have raised the qualification thresholds for insured mortgages from banks, encouraging some consumers to look elsewhere for financing to buy a home.

The government memo estimated that about 90 per cent of the business of unregulated lenders is subject to federal mortgage rules, which include meeting the strict underwriting standards set by CMHC and the Office of the Superintendent of Financial Institutions, Canada's banking regulator.

However, the memo warned against complacency. The federal government and various regulators are looking for ways to cool the housing market without skewering an important source of economic activity.

"On balance, unregulated lenders do not appear to pose systemic concerns at this time and are enhancing competition in the mortgage market," states the Finance Canada memo dated Nov. 20, 2015. "However, this segment is growing rapidly and is being monitored."

Though eight months old, the memo underlines the importance of the housing market to the federal government as overheated conditions in Vancouver and Toronto, where house prices have been rising 10 per cent to 20 per cent year-over-year, raise concerns about the economic impact of a downturn.

The International Monetary Fund has weighed in on the issue, noting in June that the impact of a severe housing downturn "could be considerable and potentially limit the room for fiscal stimulus down the road."

Regulators have responded to calls for changes by introducing higher minimum down payments on expensive properties and raising fees for lenders that use CMHC's securitization programs.

But with the housing market showing no signs of cooling, additional restrictions are on the table. The same memo that suggested Ottawa is looking at the growth of unregulated lenders also raised the prospect of forcing lenders to shoulder more risk – likely by introducing a deductible on mortgage insurance provided by CMHC and its private-sector competitors.

The government memo obtained by the Globe and Mail did not quantify the growth of unregulated players in recent years.

In a research note on the topic last year, Benjamin Tal, an economist at CIBC World Markets, noted that strict regulations facing major lenders has restricted their ability to lend to high-risk borrowers. This creates a vacuum in the market, and may transfer risk from regulated players to unregulated players, he suggested.

In a note released this week, Mr. Tal delved into Ontario's housing market specifically, noting that private subprime lending in the province has risen to more than 6 per cent of total mortgage originations from about 4.5 per cent in 2012. For more established alternative lenders, the number is 4 per cent.

"This indicates that alternative/non-conforming mortgage lending in Canada, while not even close to what can be seen in the U.S. in the post-crisis era, is hardly trivial," Mr. Tal said.