Did you know that Mortgage Investment Corporations date back to the end of the Second World War? The Canadian government wanted to make credit available for investment in the Canadian housing market by promoting private financing through the residential real estate market.
More than 30 years ago, our friend and colleague Gord Wintrup from Bayfield Mortgage Professionals suggested we create a Mortgage Investment Corporation (MIC). At the time, neither of us really knew what was involved, but we were intrigued by the special tax treatment that these Canadian investments received under the Income Tax Act so we persevered and created one of the first MICs in British Columbia’s Fraser Valley.
MICs were relatively unknown in British Columbia until the 1980s, but, over time and with an increase in private lending, the number of MICs has grown. Although this alternative fixed-income mortgage investment is a more familiar term today, rest assured, there are strict requirements for structuring an investment corporation and the accompanying mandatory rules for lending are just as daunting.
Today shares in MICs are designated under the Income Tax Act as suitable investments for Registered Retirement Savings Plan (RRSP), Registered Retirement Income Fund (RRIF), Registered Education Savings Plan (RESP), and Tax Free Savings Account (TFSA).
Part One: Examining Private Mortgage Funds
If you’re thinking about investing in a MIC, the key question for investors should be:
Is the purchase of shares in a MIC (whether private or public) a suitable investment for my plans whether I’m thinking long-term or medium-term investment?
Since the business of advising investors is not within the scope of practicing law, we approached Caleb Ng of Arise Capital Management to weigh in on three specific questions:
Question 1: When and for whom is a MIC a suitable investment?
Similar to banks, MICs are generally set up for the sole purpose for mortgage lending. There are a wide range of MICs, (over 300+ in Canada, to be exact) each with unique characteristics suitable for all types of investors yielding investment returns ranging from 6-10%.
Unlike public shares where shares trade freely on a stock exchange, to invest in most MIC’s you buy private shares from the corporation. Subsequently, your money is used by the corporation to create mortgages for people, or institutions, looking for alternative lending sources – usually borrowers who do not fit the restrictive criteria of banks. The MIC manager creates and services the loans for a management fee. As a shareholder, your profit comes from interest charged on the loan.
It has been in this law firm’s experience that MICs owned by clients of the firm are well managed by professional mortgage brokers or licensed real estate professionals. The historical average rate of return for all of our long-standing MIC clients has exceeded 9%. (This rate is a net yield, after payment of all expenses of operating the MIC.)
Question 2: In your view Caleb, what is the risk factor of a MIC?
MIC’s exist on a continuum from risky to very safe. In determining where a specific MIC falls, I consider five factors:
- Firstly, examine how much of the portfolio is commercial versus residential with residential being safer because of larger demand. If the portfolio contains commercial, it is prudent to understand what type of the commercial loan it is for there are many variations.
- Secondly, how much of the portfolio is “loan to value”? In other words, what percentage of properties are backed by loans? The portfolio average should not be higher than 70% loans against property value.
- Thirdly, look for the majority of mortgages to be backed by first mortgages or “first claims”. Preferably, you do not want many secondary mortgages in the portfolio.
- Fourthly, where are the geographical locations of the loans? MICs investing heavily in Alberta would be less safe than, for example, British Columbia’s Lower Mainland.
- Lastly, how much leverage does the fund have? For example: How much has the fund borrowed from the bank to fund the mortgages? Leverage of less than 10% is attractive. MIC investing is as safe as you make it, and the majority of MICs are quality investments.
MICs that are clients of our law firm are thoroughly regulated by the Superintendent of Insurance for BC. This body is a provincial regulatory group supervising mortgage brokers and real estate services. Larger MICs, including most of our MIC clients, comply with and are regulated by the BC Securities Commission.
In addition to government regulation, most MICS have their financial reports audited by independent auditors (CPAs) and their mortgage security documents prepared by a law firm with an understanding of land matters. In most cases, MICs borrow funds from chartered banks to increase the capitalization of the MIC and it’s return on capital. In turn, the internal auditors of the lender bank audit the inventory of mortgages held by the MIC.
Question 3: Caleb, do you recommend MIC shares for your clients?
Banks have conditioned us to believe that a low-digit return is the price of safety. This is simply untrue, but good for the banks. In a low-interest rate environment, where interest rates have no room to go but up, quality MICs are, arguably, better for your investment portfolio than most fixed income/bond products from a yield and risk perspective. Better yet, the stock market’s daily fluctuations do not affect the value of privately-held MICs.
MICs have been around since 1973, but many people have never heard about them because MICs are not made available through the usual channels such as banks, brokerages, or most financial planners. This is one of those times it is good to be in the know, as it helps with finding deals and better returns.
Part Two: The Structure of MICs
A MIC is not a standard corporation. Its shares provide for a flow of net income to the shareholders. Every MIC requires a minimum of 20 shareholders and all income must be paid by dividend or cash to each shareholder holding equity shares in the MIC. Most MICS have diverse shareholders including shareholders investing through registered plans such as RRSP, individuals investing personally, or corporate shareholders.
From our experience in business and land law, we have seen MIC shareholders receive an above comparable rate of return if the MIC is professionally managed and consists of a pool of mortgages secured, for the most part, by first and second mortgages that are registered against residential properties located in secure markets. MICs with mortgages located in the urban areas of BC, Alberta, and Ontario have proven to be the most secure.
Part Three: Adding Mortgage Funds to Your Investment Portfolio
So back to the original question which lawyers and mortgage brokers do not answer: Is an investment in the shares of a MIC a suitable investment for investors? Caleb made an excellent list of criteria to evaluate when determining whether a MIC is a safe investment. There is no doubt that MICs are a lesser known type of investment, and that they must adhere to strict audit and reporting regulations to make them a transparent vehicle to invest in mortgages and real estate.
We suggest that our readers conduct their own due diligence as all MICs are not created equal. Look at the geographical locations of the loans and consider how much of the portfolio is commercial versus residential. The success of a MIC is directly tied to how professionally it is run.
About Caleb Ng
Caleb Ng, a Chartered Financial Analyst and Financial Advisor, handles securities aspects for clients. He is licensed and regulated in both Canada and the U.S., and works closely with clients to translate their personal needs into a strategy for their cross-border accounts.
About Arise Capital Management
Arise Capital Management of Raymond James Ltd. provides cross-border investment counsel for corporations and individuals.
For more information or to contact Caleb, visit this link or phone 778.388.9740.
For a consultation meeting with our MIC team, call 604.546.6345 or email email@example.com.
For more information, visit our Mortgage Investment Corporation page here.