The Interest Act sets out mandatory mortgage pre-payment terms that lenders must include in all mortgages of more than five years, except for those granted to corporations and joint stock companies. Corporations and joint stock companies negotiate pre-payment terms (if any) directly with their lender. Other business entities have asked the Government of Canada to include them in the category of borrowers that negotiate pre-payment terms on their own, as some lenders may be reluctant to provide long-term mortgages to businesses because of mandatory defined pre-payment terms. The 2008 Budget Implementation Act amended the Interest Act to permit the Government to exempt prescribed business entities from application of the mandatory pre-payment provisions. Before proceeding, the Government wishes to consult broadly on which business entities prefer to negotiate pre-payment privileges on their own.
Under the Interest Act, all mortgages (other than those for a corporation or joint stock company) of a term longer than five years must provide the right to pre-pay the full amount of the mortgage after five years subject to a penalty of three months of interest. These pre-payment terms are intended to protect individuals in their dealings with lenders and were originally devised for the benefit of farmers and homeowners in the late 1800s. Corporations and joint stock companies can more easily negotiate their own mortgage terms and obtain less favourable pre-payment privileges in exchange for a lower interest rate if they choose to do so.
Some business and commercial entities, not structured as corporations, have had difficulties in accessing long-term mortgage financing because the pre-payment terms for their mortgages are prescribed by the Interest Act. Some mortgage lenders may not be willing to provide significant long-term funding with a mandatory mortgage pre-payment penalty limited to three months of interest. Furthermore, the courts have ruled that, given the current legislative wording, mandatory pre-payment terms cannot be negotiated by the borrower and must be included in all long-term mortgages.
As modern commerce and finance have evolved, negotiating the pre-payment terms is important for businesses securing long-term loans to match the lifespan of the asset. In practice, some but not all commercial enterprises may be able to restructure their affairs in order to qualify for long-term mortgages without mandatory pre-payment privileges.
The Government is proposing to modernize the Interest Act by broadening the list of entities that can negotiate their own pre-payment privileges. This will allow all business entities to have equal opportunities in accessing long-term funding.
3. Interest Act Amendments
Prior to the 2008 amendments, section 10(1) of the Interest Act provided pre-payment rights to mortgagors of real property for terms greater than five years. Subsection 10(2) described the exemptions from those pre-payment rights and included corporations.
The 2008 Budget Implementation Act amended subsection 10(2) to exempt business entities, debentures, and mortgages prescribed by regulation, in addition to corporations and joint stock companies, from the mandatory pre-payment privileges. The proposed regulations will list the exempt business entities. The 2008 Budget Implementation Act also added section 10(3)(a), which provides the Government with the necessary regulation-making authority, and subsection 10(3)(b), which will limit the application of the new provisions to mortgages entered into after the new regulations come into force.
4. Regulatory Proposal
The Government is seeking input on which kinds of commercial entities it should add to the list of businesses that negotiate their own mortgage pre-payment terms, while ensuring that the mandatory pre-payment privileges remain in place for individuals and non-business interests.
Corporations and joint stock companies are already exempt pursuant to section 10(2)(a) of the Interest Act. The Government proposes to add under section 10(2)(b):
The Government intends to retain the original policy objective of giving all commercial entities the right to negotiate pre-payment terms. Adding partnerships and trusts that are settled in whole or in part for business or commercial purposes should accomplish this objective.
Partnerships (including registered, unregistered and limited liability partnerships) exist for the purpose of conducting business and generating business income.
Trusts, however, can be settled to carry out a wide range of purposes including personal, charitable and educational affairs, as well as for business or commercial purposes. In order to limit the exemption to commercial and business entities, only trusts that are settled for business or commercial purposes should be included.
Other business arrangements (such as funds, sole proprietorships, joint ventures, co-ownerships, unincorporated associations, franchises and strategic alliances) are not legal persons and, as such, are not able to enter into a mortgage contract.
6. Consultation Questions
The Government of Canada welcomes comments from Canadians on issues raised in this consultation paper. In particular, the Government is interested in hearing Canadians’ views on the following issues:
7. Contact Information
The Department of Finance invites all Canadians to comment on these proposals. Comments should be received by October 15, 2010. They can be sent to:
Financial Sector Policy Branch
Department of Finance
15th Floor, East Tower
140 O’Connor Street
Ottawa, Canada K1A 0G5