Copyright 2011, Blake, Cassels & Graydon LLP
Originally published in Blakes Bulletin on Financial Services Regulatory, December 2011
In September 2010, as the federal government launched its statutorily mandated five-year review of the legislation governing banks and federally regulated insurers, trust and loan companies and credit union centrals, the Minister of Finance signalled that the review would not result in major policy change. With the tabling on November 23, 2011 of the Financial System Review Act (Bill S-5) – which is the bill to implement the review – it is clear that the government has been true to its word. Bill S-5 contains an assortment of housekeeping changes, wording updates and other tweaks, only a few of which (described below) will give rise to any meaningful consequences.
That this review does very little is no surprise, given several trends and other factors in the financial services industry:
- the existing scheme of regulation has contributed to Canada's avoidance of failures and bailouts during the financial crisis;
- in the current volatile environment, when the government wishes to make a change, it does so quickly instead of waiting for the five-year review;
- many regulatory initiatives flow from international efforts, which operate on their own timelines and which, to demonstrate Canada's leadership, the government tends to adopt at an early stage; and
- perhaps most importantly, the most significant recent regulatory changes are not found in the legislation, but rather in regulatory regulations or guidance.
On this last point, recent key changes would include: the adoption of Basel III for banks and other deposit-taking institutions; the move to IFRS (especially as that may ultimately play out for life insurers); guidance on executive compensation and disclosure; changes to the regulation of licensed foreign insurers in their dealings with Canadian insureds; and a host of interpretations and risk-management-oriented guidance.
Other key changes since the last review have included a number of new or changed consumer protection provisions.
Given these changes, and the government's belief that there was no good reason to revisit the architecture of the regulatory framework, the five-year review has yielded few noteworthy changes.
Expansion of "Consumer Provisions"
The Financial Consumer Agency of Canada (FCAC) regulates provisions of the legislation designated as "consumer provisions". Bill S-5 proposes amendments to the legislation that will expand the definition of "consumer provisions" and thereby extend the jurisdiction of the FCAC. These amendments include:
- Numerous amendments to provide for regulations addressing the time, place and form of required disclosures, in addition to the manner in which disclosure is to be made.
- Clarification that consumer disclosure rules applicable to financial institutions and their employees and representatives also apply to their agents and other intermediaries, which, in part, may be intended to address such issues as disclosure by intermediaries who sell deposits.
- A new provision of the Bank Act (section 576.2) will apply the consumer provisions to certain individuals and affiliates of an authorized foreign bank in circumstances where there is co-operation with the authorized foreign bank relating to the sale of products or services of the authorized foreign bank or certain of its affiliates in Canada. Bill S-5 does not provide any exception for existing businesses.
- Amendments to the similar affiliate provision applicable to banks (section 459.5) to extend it to arrangements with representatives, agents and other intermediaries of the bank or finance entity affiliate of the bank. Again, there is no exception for existing arrangements.
- Addition to "consumer provisions" of the electronic document requirements of the legislation as they apply to any requirement under another consumer provision.
The maximum administrative monetary penalty that can be levied by the FCAC is being increased to C$500,000 from C$200,000, a move the government is undertaking to harmonize that maximum amount with the maximum administrative monetary penalties that may be imposed by OSFI and FINTRAC.
Increased Equity Threshold
Bill S-5 amends the provisions of the Bank Act applicable specifically to banks and bank holding companies with equity of C$8-billion or more by increasing the equity threshold to C12-billion or more.
Bank Act Security
In two decisions rendered by the Supreme Court of Canada (SCC) in 2010, the SCC ruled that an unregistered and unperfected Personal Property Security Act (PPSA) security interest has priority over a subsequent valid Bank Act security interest. These decisions undermined the utility of the Bank Act security provisions. The proposed amendments to the Bank Act add an express priority rule which would subordinate a prior unperfected PPSA security interest to a subsequent valid Bank Act security interest unless, at the time the applicable bank acquired its Bank Act security interest, it had knowledge of such unperfected PPSA security interest.
New Restriction on Investments in Foreign Entities
Bill S-5 adds a new restriction on investments in foreign entities by providing that larger banks, bank holding companies, associations incorporated or formed under the Cooperative Credit Associations Act, companies governed by the Insurance Companies Act and companies governed by the Trust and Loan Companies Act will not be authorized, without the prior written approval of the Minister of Finance, to acquire control of an entity incorporated or formed, and regulated, otherwise than by or under Canadian federal or provincial laws and that is primarily engaged outside Canada in a business that, if carried on in Canada, would be the business of banking, the business of a co-operative credit society, the business of insurance, the business of providing fiduciary services or the business of dealing in securities if the size of the transaction (taken together with other security acquisitions completed within the prior 12 months) exceeds 10% of the institution's assets. Note that once the threshold is passed, the Ministerial approval requirement will apply to all such transactions – even very small ones – until enough transactions become stale-dated for the purposes of the rolling 12-month test period such that the threshold is no longer crossed. In practice, there should not be challenges in obtaining the necessary approval (other than for transformational acquisitions, which will very much be considered on a case-by-case basis), but the time to receive the approval will increase by perhaps a month from the current timing. When considering whether to grant the approval, the Minister will be allowed to take into account all matters that he or she considers relevant in the circumstances, including the stability and the best interests of the financial system in Canada.
Loss of Exemption for Foreign Banks or Entities Associated with Foreign Banks that are Subsidiaries of a Federal Financial Institution
Bill S-5 eliminates the blanket exemption from the Bank Act's gating rules for the Canadian investments and activities of foreign banks that are subsidiaries of a federal financial institution. In practice, this means that the non-Canadian banking subsidiaries of Canadian federal financial institutions will need to be very careful about how they interact with their Canadian customers in order to avoid being seen to carry on business in Canada, which will now be illegal. This can be expected to inconvenience Canadians who have banking relationships with, for example, US subsidiaries of Canadian banks. It is difficult to understand why such a change is included in the legislation.
Change to Accounting Principles
Bill S-5 provides the Superintendent of Financial Institutions with a discretionary power to specify the amount to use or the calculation or valuation to perform with respect to the financial statements of banks, bank holding companies, associations incorporated or formed under the Cooperative Credit Associations Act, companies governed by the Insurance Companies Act and companies governed by the Trust and Loan Companies Act when, as a result of a change to the applicable accounting principles, the Superintendent considers that any amount, calculation or valuation under the applicable legislation is not appropriate. In such a case, a notice of the specification shall be published in the Canada Gazette within 60 days after the day on which the specification takes effect. Such specification will cease to have effect on the day indicated in the notice, which may be no later than five years after the day on which the specification is made.
Once passed into law, most provisions of Bill S-5 will come into force on the day(s) fixed by order of the governor-in-council but the provisions dealing with federal co-operative banks will come into effect at the same time as other legislative provisions that were included in earlier legislation that has not yet been proclaimed into force. The deadline for the completion of the review of the financial institutions statutes has been fixed as April 20, 2012. Once Bill S-5 is passed, further changes will likely be made to the regulations as the bill adds more regulatory flexibility. We will have to wait until then to assess the full impact of Bill S-5.
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