A glitch in the new Mortgage Brokerages, Lenders and Administrators Act could be a “time bomb” for some of the biggest lenders on Bay St., warns a Toronto lawyer in the field.
“There’s a sector of the business community doing, or thinking about doing, mortgage loans that are technically illegal,” says Jeffrey Lem, a partner at Davies Ward Phillips & Vineberg LLP, who sounded the alarm during a recent interview with Law Times.
The new act, which came into effect this past summer, is designed to control the brokering of mortgages, and puts in place registration and licensing requirements on those who engage in this type of work. But, Lem says, in his opinion the act is “a little bit too broad.”
He says that now the lenders themselves are required to be licensed, and while there are exemptions for entities such as financial institutions, there are a host of lenders who don’t fit into that category as defined in the exemption.
“You have a whole class of these large institutional lenders who lend mortgages but aren’t financial institutions,” explains Lem, including large pension funds, private equity funds, and those that regularly make investments, including in security and real estate.
“The problem now is, I doubt if they’re licensed, and the question is, is what they are doing technically illegal?
“Unfortunately, as I read it, the act seems to catch more than what we traditionally think of as ‘mortgage brokers.’ If a person or entity is ‘dealing in mortgages,’ ‘trading in mortgages,’ ‘carrying on a mortgage lending business,’ or ‘administering mortgages,’ then such person must have a ‘broker’s licence,’ or some valid exemption,” says Lem.
“Mortgage lending in turn is defined as lending ‘money in Ontario on the security of real property.’ This would appear to catch all secured lending transactions in which real property security is granted - arguably even if the real property is not actually located in Ontario so long as the loan was booked here,” says Lem.
“There does not seem to be an exemption in the act or the regulations for commercial transactions or transactions above a certain size.
“Financial institutions, in turn, are exempted from the requirement to be licensed, but ‘financial institutions’ seems tightly limited to banks, authorized foreign banks - within the meaning of s. 2 of the Bank Act (Canada) - credit unions, insurers, loan and trust corporations, and retail associations, as defined under the Cooperative Credit Associations Act,” he says.
Lem sees the problem being that it doesn’t appear that private equity funds or pension fund clients, for example, or like lenders, “even though they are sophisticated and huge, are exempted and would therefore be caught by the requirement to obtain a licence.”
Lem admits “some lawyers would say there’s no such thing as technically illegal, but frankly, technically they are illegal under this new act.
“It just came into effect in July so there haven’t been a lot of loans out there that are illegal,” he says noting that currently there isn’t “a lot of lending going on.”
Lem notes that “Steven Pearlstein, of Minden Gross, one of the first practitioners to recognize this potential problem, made a presentation to the province on behalf of the Ontario Bar Association before the act was passed,” warning that many of the “large pension funds would get swept up as the exemption doesn’t cover them.”
He says there appeared to be more concern about “the consumer protection angle. Why broaden the exemptions, I think was the [government’s] attitude.”
Lem has a solution: “What they should do is introduce exemptions for either large transactions like a threshold.
“Anything above $5 million is not consumer protection. This legislation is designed to protect widows and orphans from unscrupulous brokers. People borrowing or lending more than $5 million are not vulnerable,
He says this “would have been a real problem” but due to the economic crisis “nobody is lending.” However Lem notes, it will eventually be an issue and the large firms are taking notice. “It affects Bay St. more than Main St. [yet] ironically it’s legislation designed for a Main St. audience.”
Lem adds that the $64 billion question is: “What happens to the mortgage; does that become
“We’re not sure what happens to the mortgages,” he says. “Most of us think the mortgage is probably still okay, but whoever made the loan gets the fine.”
Lem thinks that once the credit crisis passes “what will happen is a lot of the larger lenders will say, ‘We’re not doing that deal in Canada.’ And the Canadian ones will register, muttering about red tape but do it because they do business in Canada.
The Canadians will probably comply; it’s all the offshore guys who do two or three big deals in Canada a year who will say ‘it’s too much hassle for this deal.’”
He says “hassle” is the real problem. “It costs money to get the licence and you have to appoint somebody to go and get it. And it can’t be a lackey; [but] you can’t get the senior cats to sit down and get the licence.”
Lem says it’s not clear that the situation was different under the old Mortgage Brokers Act, but “it seems as though lawyers have just become sensitized to the issue after the passage of the new replacement legislation.
This is a key point. While it is ‘new’ in that Bay St. lawyers are only now getting worried about the issue, it very likely has been there for some time as a potential time bomb.”
So, Lem says he’s “sounding the alarm that when things get better [in the economy] we’ve got to get this fixed otherwise we have to warn our clients that there is this problem. I don’t think the government intended this consequence. It’s easily fixable, but can you catch their attention long enough? I can do it in one sentence.”