Canadian Bank Regulator Sets Mortgage Leverage Limits Before Anticipated Rate Cuts

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In anticipation of potential rate reductions, Canada’s bank regulator is implementing new leverage restrictions. The Office of the Superintendent of Financial Institutions (OSFI) has instructed lenders to brace for a new loan to income (LTI) regulation. This new regulation will cap the mortgage portfolios of federally regulated financial institutions (FRFIs) at a multiple of the income used to service those loans. The authority asserts that these new restrictions aim to prevent an accumulation of hazardous leverage during periods of low interest rates.

Canadian mortgage lenders are gearing up for the introduction of new mortgage lending restrictions. In the near future, mortgage portfolios will be capped at 4.5 times the borrower’s income within a quarter. Only a minor portion will be permitted to surpass this limit, a measure intended to mitigate portfolio risk.

“The LTI measure we are implementing is a portfolio test that is designed to prevent the buildup of highly leveraged loans during low interest rate periods,” explained a spokesperson for OSFI.

Typically, a borrower is deemed “over-leveraged” when their loan surpasses 450% of their income. This definition caused some misunderstandings following the publication of the article “Canada’s Banking Regulator OSFI to Cap Mortgages to Highly Indebted Borrowers.”

However, it’s crucial to understand that OSFI’s mandate is to maintain a stable financial system, not to shield individuals from risk or dictate to FRFIs which clients pose too much risk. “This measure doesn’t apply to any one person,” clarifies OSFI.

“It applies to the institution’s portfolio of underwritten mortgages that originate that quarter and needs to be managed by the institutions.”

Institutions are merely being requested to manage their risk. Each risk assumed by the lender must be counterbalanced to prevent any disastrous concentration of vulnerability.

“This institution specific portfolio limit will not bind any one institution’s underwriting method, under the current rate environment. This approach allows institutions to continue competing in the same way they have been in the past on a relative basis.”

This new rule is among several being introduced to decrease public exposure to private debt. Since the global financial crisis, international regulators have collaborated to improve risk quantification. This has resulted in stricter lending, particularly for investors.

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