This page updated regularly deals with securitization developments in Canada. If you have any news or development to contribute to this, please write to me.
- Canada’s securitisation market and market overview, Simon Fitzpatrick, Susan Kennedy, Marc J MacMullin and David Rounthwaite, McCarthy Tétrault LLP
- Asset backed securitisation in Canada by by Andrew Harrison of Borden & Elliot and John J Tobin of Borden & Elliot. http://www.worldlegalforum.co.uk/canada/articles/19991201916.html
- Office of the Superintendent of Financial Institutions, Government of Canada
Update on September, 2013
This page was comprehensively revised by Nidhi Bothra
Volumes of securitization
With regard to private label securitization, ABS and ABCP securities, both are prevalent in the market. In Canada, private label securitization was at its peak of C$177.6 billion in 2007 and came down to C$ 94 billion in November, 2012 . Currently, the total amount outstanding in the Canadian securitization market was C$ 93.9 billion as at January 2012. 
Securitization markets in Canada were not immune to the global contraction of liquidity and with early signs of US sub-prime crisis the pace of the securitization market in Canada slowed down too. Several reforms were brought in. The Canadian markets were quick to bring about the changes in accounting, taxation and regulatory issues. Canada was quick to introduce covered bonds as well in the wake of the 2007 crisis. The first covered bond was issued in 2007 and Canada also has a covered bond regulation enforced already.
Canadian regulators have been constantly looking at making regulatory changes to securitization market and it is believed that the securitization market got destabilized in Canada owing to lack of transparency and disclosures. In an effort to bring about market discipline and reduce the taxpayers exposure to the housing sector, in 2013 budget, the Government of Canada announced that there would be limited use of portfolio insurance and prohibited use of government-backed insured mortgages as collateral in securitization vehicles that were not sponsored by CMHC.
With regard to the ABCP programs, Bank of Canada introduced transparency requirements and minimum quality standards for ABCP accepted as collateral in its liquidity facilities, increased transparency on the part of bank sponsors, and enhanced transparency and disclosure measures for both ABCP and term ABS introduced by credit-rating agencies.
Canada has also implemented Basel III capital rules at the start of 2013. As had become evident in the 2007 crisis, inadequate liquidity management could result in severe problems for banks Basel III provides the liquidity framework to mitigate the liquidity risk. The need for liquidity risk management as revealed by the financial crisis made several countries implement the Basel III rules.
The Canadians follow their accounting standard named “Accounting Guideline AcG-12, Transfers of Receivables”, which is based on FASB Statement 140. Apart from this there is another accounting standard called AcG-15, which deals with the concept of the variable Entity Interest (VIE). According to this rule, any entity that has a variable interest in any other entity would be obliged to disclose whether it is the sole beneficiary of such VIE. Further, if the entity is the sole beneficiary of the VIE, the latter would have to be consolidated with the former.
Canada is to move to International Financial Reporting Standards, however the current proposed changes to IAS 39 with regard to off-balance sheet treatment of securitization suggests that none of the securitization transactions in Canada will qualify, this coupled with other issues may make securitization unviable.
Legal issues: Post 2007 crisis
Post the 2007 crisis, several cases emerged of irregularities in mortgages and litigations being initiated against borrowers. The most prominent of the cases was that of Bank of Montreal (BMO), in April 2010 , suing several hundreds of people of Alberta over alleged mortgage fraud involving C$120 million and the bank claiming C$ 30 million of losses.
The alleged fraud case exposed the lapse in controls in the banking system and weak underwriting standards. BMO mortgage fraud was termed to the largest mortgage fraud, a sophisticated mortgage scam in Canadian history. In 2013 the case was being settled out of court.
- Amended Statement of Claim, dated April 14, 2010
Update on 17 June, 2009
This page was comprehensively revised by Nidhi Bothra
Securitization in Canada started in mid 1980s. There are two words that well define the developments of the securitization market in Canada – growth and change. The ABS market has grown from a modest $8billion in 1998 to $129.7 billion by the beginning of 2009. Securitisation markets in Canada were not immune to the global contraction of liquidity and with early signs of US sub-prime crisis the pace of the securitization market in Canada slowed down. Several reforms were brought in. The Canadian markets were quick to bring about the changes in accounting, taxation and regulatory issues. The first covered bond was also issued in 2007.
Capital tax – Securitisation enabled corporations to sell their assets to a trust and reducing their capital tax liability and repaying their corresponding debts. As trusts were not subject to capital tax, trusts were the preferred forms of SPVs in securitization deals.
Withholding tax – The Canadian federal government imposed a withholding tax (25%, although typically reduced under applicable tax conventions to 10%) on interest paid by a Canadian resident to a non-resident of Canada. From January, 2008 the withholding tax on cross border interest payments was eliminated. This had a two fold implication, 1) more asset classes could be transferred to non-Canadian SPVs and 2) securities issued by the SPVs could be offered to non-residents. Federal capital taxes and most provincial capital taxes have been eliminated. This would provide major business opportunities for foreign institutional investors in the Canadian cross-border securitization market.
The question of true sale and consolidation of the assets of the SPV with that of the originator has been a concern in most securitization transaction. In 2005 the Ontario Court of Appeal, in one of the cases of Metropolitan Toronto Police widows and orphans fund v. Telus Communications Inc. upheld the trial judge’s decision and agreed that the sale of assets by BC Tel to the SPV constituted a true sale rather than a borrowing. In the case of Telus Communication, formerly known as BC Tel several issues with regard to ‘true sale’ were discussed and are as follows:
- At any given point of time it should be possible to recognize the assets sold
- The asset purchase price should be determinable
- While carrying out the documentation of sale, the intention of sale should be clear from the conduct and communication and the parties for the transaction to qualify as a true sale.
- There must be transfer of ownership risk and risk of non-payment of the assets must be passed to the purchaser
- The absence of the right of the purchaser to retain the surplus from the collection of sale of securitized assets does not mean that the transaction will not be a true sale
- The seller cannot redeem the assets from the purchaser, that is if the seller can ask the purchaser at any point of time to return the assets on payment of consideration or ascertainable amount would tantamount to borrowings and not true sale.
- Appointment of the seller as the servicer of the securitized assets would not be inconsistent with the true sale characteristics of a transaction.
Update on 22 March 2001
The outstanding volume in Canada as on 31.12.2000 was 8 times of what it was 5 years ago – see news report here.
Update added on 19th Dec., 2000:
An article by Martin Fingerhut in International Financial Law Review Nov. 2000/ Corporate Finance April 2001 says that securitization in Canada continues to experience significant growth. According to the author, Outstanding asset-backed commercial paper grew from C$41 billion ($27.2 billion) at the end of 1998 to C$53 billion at the end of 1999 – and represented almost half of all non-government Canadian short-term debt. Outstanding term asset-backed securities (ABS) grew from C$8 billion to CS 13 billion, a record-breaking increase. All in all, Canadian ABS has increased at an annual rate of 56% since October 1997. As to NHA mortgage-backed securities (MBS), 1999 saw an all time record of C$13 billion in new issuance, up 42% over the previous year. Outstanding MBS volume at year-end totalled C$28 billion, up from C$20 billion at the end of 1998. The main players in Canadian securitization markets are banks and trust companies.
The author also deals with the legal issue of true sale in Canada and contends that while US courts have a tendency and precedent for recharacterization, Canadian courts are not so inclined to do so, even where the originator retains significant risks on the assets. The author sites a recent Canadian Supreme Court ruling in Shell Canada case where the highest court directed lower courts not to recharacterise transactions transactions simply because they were entered into for the purpose of minimizing taxes, or because the same economic result could have been achieved by structuring the transaction differently.
State of the Market:
Canadian financial markets are quick to capture US financial innovations. However, securitisation had a slow start in Canada primarily due to the absence, for a long time, of agencies comparable to the GNMA for promoting the secondary market in mortgages. Today, Canada is counted among world’s active securitization markets.
Following the US example, Canada formed a crown corporation called Canada Mortgage and Housing Corporation, essentially on the lines of Fannie Mae. This corporation is engaged in acquiring and securitising housing mortgages.
In 1997, volumes in securitised assets were measured at $ 16 billion, which was about double of the volume in the preceding year. Car leases and property mortgages were common applications.
The data of outstanding volumes till end-1999 is summed up as under:
|End-1996||C$ 13 billion|
|End-1997||C$ 27 billion|
|End-1998||C$ 49 billion|
|End-1999||C$ 67 billion|
Source: Data published by Dominion Bond Rating service
Market in 2000 and outlook for future
Fitch IBCA has commented on the Canadian securitization market in its Global Securitization Quarterly, issue of April 2001. The agency says that though Canada is predominantly an ABCP-dominated market, the term issuance in year 2000 outpaced ABCP.
Fitch also issued a special report in March 2001, titled 2001 Canadian Securitization — State of the Market. The report says that “Fitch expects to see continued growth within asset classes already securitized, with particularly high growth rates expected in CMBS. …Other asset classes with potential for growth include collateralized debt obligations (CDOs) and whole business transactions.
Accounting issues in Canada
The Canadian accounting standard on securitization transactions was issued on March 1 and is available now to those who subscribe to the service that provides updates to the CICA Handbook – Accounting through the internet or CD-ROM.
The standard, entitled “Accounting Guideline AcG-12, Transfers of Receivables”, has been copied from the portions of FASB Statement 140 that are relevant to securitization transactions. Its primary objective has been to harmonize Canadian and U.S. practice (while recognizing that the nature of the transactions may differ somewhat between Canada and the U.S. for tax and other reasons). The standard has effectively the same scope as FAS 140 (e.g., it does not cover securitizations of non-financial assets) and almost the same effective date and transitional provisions. AcG-12 permits companies to apply the standard from April 1 but also permits them to delay adoption until July 1.
The following is an extract from http://www.acsbcanada.org/: “The Guideline will replace the guidance in EIC-9, Transfers of Receivables, and EIC-54, Transfers of Receivables – Definition of Recourse.
The Accounting Guideline has been developed in co-operation with the OSFI, which will be reviewing its requirements for financial institutions undertaking such transactions. The AcSB’s staff developed the Guideline with the assistance of a Consultative Group. An Invitation to Comment on a draft of the Guideline was made available for comment by interested parties in 1999.
Certain transaction structures currently used in Canada to effect securitizations will not satisfy the requirements for sale treatment in the Guideline. Some structures allow a transferor to retain effective control over specific transferred assets through a right to reclaim them. For example, certain types of “removal of accounts” provisions give a transferor an unconditional right to reclaim specific accounts from a pool of transferred assets, or a right to reclaim specified accounts on the occurrence of an event that may be triggered by the transferor (e.g., termination of a credit card affinity relationship program). Some other types of removal of accounts provisions do not preclude sale accounting. A number of transactions involve transfers into special purpose entities (SPEs), but such transfers may fail to satisfy one of the Guideline’s conditions for sale treatment – a requirement that the transferee be free to sell or pledge the transferred assets. That condition is modified in the case of SPEs that are “qualifying” SPEs (QSPEs) acting only as a vehicle for holding the interests of investors in the securitized assets. A QSPE must satisfy several restrictive criteria. A SPE fails those criteria when, amongst other things, it: – originates receivables, rather than acquiring them; or – acquires non-financial assets other than in the course of collecting receivables (e.g., through foreclosure of a mortgage).
A disqualifying asset acquisition may occur in, for example, a sale/sale-leaseback transaction in which a SPE acquires a beneficial interest in non-financial leased assets. The Guideline does not provide any exception for non-financial assets held by a SPE momentarily as part of a related series of steps on inception of a securitization arrangement. It also does not permit a QSPE to hold rights to unguaranteed residual values under a lease.
Enterprises planning to transfer assets in securitization transactions following the effective date of the Guideline should review the new criteria for sale treatment and the transitional requirements carefully. Pending issuance of the Guideline, reference may be made to the relevant portions of FASB Statement No. 140.
The Guideline will apply to transfers after June 30, 2001, although application will be permitted for transfers after March 31, 2001. Retroactive application will not be permitted, but certain transfers under existing securitization agreements will continue to be accounted for in accordance with current accounting policies (“grandfathered”) after the effective date of the Guideline.
A transfer of receivables after the effective date of the Guideline in accordance with a commitment made to transferees (or, in the case of a QSPE, to beneficial interest holders) before that date will be grandfathered. As a result, in the case of securitization structures existing prior to the effective date of the Guideline: transfers that increase the balance in a structure will not be grandfathered unless specifically committed to prior to the effective date; and transfers contractually required to maintain the balance in a QSPE revolving structure that is periodically refinanced through the issuance of new securities to investors (e.g., most commercial paper structures) will be grandfathered only up to the first refinancing following the effective date. In the latter circumstances, the refinancing of an existing structure does not affect the transferor’s accounting for past transfers into that structure but would preclude grandfathering for subsequent transfers because the commitment to the new beneficial interest holders arises when they acquire their interest. The refinancing of a SPE that is not a QSPE does not affect the accounting for any transfer into that SPE.
For more on accounting for securitisation, see our site here.