Private lenders, punitive policy

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The showdown over tax changes for mortgage investors took place in Ottawa, writes Vernon Clement Jones, but the casualties may ultimately be spread across the broker channel

The broker channel certainly came, it certainly saw, but didn’t quite manage to conquer parts of a controversial bill wending its way across Parliament Hill and threatening to cramp its funding style.

“With Bill C – 13, it’s like the government is salmon fishing and has caught all of us – legitimate MICs and any players out there gaming the system – all in one net,” says Alan Cross, president of the Vancouver-based First Circle Financial, one of an increasing number of Mortgage Investment Corporations. “As a result there is going to be less capital available for private lending in the broker channel.”

Broker associations – along with their MIC counterparts, including the one Cross founded for B.C. MIC managers – are voicing the same concerns about legislation set to transform growing part of the business. A private lender from Alberta, in fact, took those concerns to Ottawa in November, asking a finance committee to amend its amendments in order to protect that industry.

While the government billed C-13 as a way of closing tax loopholes around investment corporations, among other key areas, the broker channel has baulked at the ways it intends to do it.

Chief among the bill’s amendments was the decision to move MICs to a “prohibited investment” list in terms of RRSP and RRIF tax exemptions. In practical terms, it means that members of a family – or related individuals – lose that tax advantage if their collective ownership of any class of shares in a MIC or syndicate is more than 10 per cent, argue industry critics. That ceiling used to be set at 25 per cent. The definition of “related individuals” has also been altered, and will now extend to any blood, marital or adoptive relative and not just a spouse or minor child.

All told, that represents a sea-change for many small- and medium-sized MICs that have their roots in family members getting together, pooling their retirement savings and lending it out in the form of mortgages.

Those companies have now burst free of those humble beginnings, drawing investors well outside family circles. But in the case of Cross’s First Circle – as it is with so many other MICs – those familial ties still exist.

It means Cross and his own extended family will likely have to assess their collective ownership and cut back to meet the new, more-stringent standards, he says. The government is allowing a ten-year phase-in period before the full weight of taxation comes on to their shoulders.

“MICs have been around for years and have been a reliable investment vehicle, and one that I and my family have used to plan our retirement,” Cross told CMP. “With this bill, the government, instead of weeding out those abusing the system, have decided to take a broad-sweeping approach that penalizes all of us.”

Those penalties will ultimately get pushed out to brokers and their clients, increasingly turning to the alternative sphere to short-term lending as mortgage rules make it harder to gain a foothold in the A realm.

“The big concern for mortgage brokers is the ability to have financial options available to them and their clients,” Dean Koeller, immediate-past president of the Alberta Mortgage Brokers Association, says. “We have a list of 70 MICs across the country that are supporting us in calling for changes to this legislation.

“Some have suggested that they will close down due to an inability to meet the new ownership levels, others will have to divest a significant portion of their investments to provide shareholders with the equity to pay tax penalties. Others will not be able to grow due to related party issues or ownership issues or tax penalties being imposed.”

Koeller’s brother, Dale – VP of private lender Calvert Home Mortgage – was that private lender sent as an envoy to Ottawa in November. Both AMBA and MBABC, along with several MICs, signed off on his speaking points.

The underwriter addressed a finance standing committee on the proposed changes to the country’s federal tax regime as part of the government’s Bill C-13.

“It is important to note that the impact of these rules changes will have a varying effect from company to company,” says Dean Koeller, also Calvert’s CFO. But “either way, if MICs have less capital resources or are not operating at all, this will reduce the financial resources that brokers will have available to assist their clients with their financial needs.”

Those arguments ultimately failed to persuade both the finance committee and the House of Commons both of which signed off on the bill before bundling it up and sending it along to the Senate.

The Koellers and the coalition surrounding them also shifted their lobby efforts to that appointed body. Still, in the final analysis, says Dean, they may have to lump the changes today in hopes of influencing and, in fact, encouraging future amendments tomorrow.

Cross is moving now to figure out what if anything he and related First Circle investors can do to comply with the new restrictions and still protect nest eggs covered by Canada’s RRSP/RRIF program.

“In short, we are at a loss to understand why the Department of Finance has lumped in MICs with engineered tax avoidance schemes,” he says. “We must point out that the framework for MICs was created by Act of Parliament in 1972, and underwent a full review in 1998.”

Those investment vehicles are still in a state of regulatory flux, taking on changes that insiders had hoped would shield it the government’s tightening up of the tax code.

While there are some concerns Federal Instrument NI 31-103 needlessly duplicates oversight of private lenders, its new investment rules, imposing tighter registration requirements for investment fund managers, actually raise the bar for MICs and syndicates.

Greater transparency should also increase investor confidence in MICs, which continue to grow in B.C., Alberta and Ontario, and the additional licensing and registration standards will likely lend the relatively new sector greater legitimacy.

That may be the case, but with Bill C-13, Ottawa was more focused on beefing up its tax coffers now instead of waiting for RRSPs and RRIFs to reach maturity.

“They want that money now,” says Cross.

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