Mortgage Investment Corporations in Ontario and Income Tax Act (MICs)
In the early 1970s, the government of Canada believed a housing crisis was looming. In 1973, they created MICS as a part of the Residential Mortgage Financing Act to encourage private lending and make investments in residential mortgages and real estate more accessible to smaller investors.
What is a Mortgage Investment Corporation?
A Mortgage Investment Corporation (MIC) is an investing and lending company specializing in mortgage lending in Canada. MICs manage a pool of secured mortgages that can be residential and/or commercial, depending on the MIC. Investors purchase shares of the MIC and are paid monthly, quarterly, or yearly returns.
MICs are similar to real estate investment trusts (REITs), allowing investors to invest in the real estate market without directly holding an interest in the property. However, unlike REITs, MICs invest primarily in mortgages rather than physical real estate assets.
MICs are typically set up as private corporations and are governed by the federal Income Tax Act and provincial securities legislation. In Ontario, they must be registered with the Ontario Securities Commission and comply with strict disclosure, governance, and reporting regulations.
What makes MICs a good alternative to banks?
MICs benefit borrowers, particularly those who may not qualify for traditional bank loans, for example, have a lower credit score or may not have a steady income. This allows borrowers to access capital that they may not be able to obtain through traditional lending channels and get left behind otherwise. As a result, MICs typically charge higher interest rates than banks but lower than private loans.
Unlike banks, which are federal institutions, the structure of MICs allows them to be provincially regulated. This means that they fall outside the often burdensome lending guidelines that banks must adhere to. However, it’s important to note that although MICs fall outside of some federal guidelines, they are well-regulated by federal and provincial legislation.
Without having to abide by the same federal policies as the banks, mortgage investment corporations or alternative mortgage lenders can offer greater flexibility when it comes to loan terms. This flexibility means they can cater to the individual needs of the borrower with tailor-made loans and terms.
Regardless of what the loan is for, whether you’re applying for a first-time-buyer mortgage or a home renovation loan, the chances are your loan will be approved faster through a MIC or a private mortgage lender. Banking institutions’ borrowers are subject to stress tests and an extensive qualification process; often, loan approval can take months. However, MICs can structure plans and approve loans in as little as two weeks.
Why did MICs form?
Initially, the government of Canada created MICs to increase mortgage funds to finance the construction of new homes by accessing the accumulated wealth of the “small investor,” RRSPs, and pension funds. In addition, Parliament intended for MICs to help small investors overcome the following hurdles:
- Not being able to invest in residential mortgages because these investments could not be divided into smaller pieces and sold to a number of small investors. A MIC would permit small investors to invest an amount that represented a fraction of a mortgage.
- Not having enough money to invest in a diversified mortgage portfolio. A MIC could hold a diversified portfolio of mortgages, enabling the small investor to invest in a piece of each mortgage.
- Not having access to mortgage experts to pick the mortgage investments and manage the portfolio. A MIC would have professional management that costs less than the management overhead of a conventional mortgage lender.
- The lack of liquidity in mortgage investments. A MIC would hold a portion of its portfolio in cash, permitting a small investor to liquidate as required.
- The double tax of a corporation. A MIC would not pay corporate income tax. Instead, the taxable income would flow through to the shareholder. It was thought that the lack of corporate income tax would make the MIC so attractive to RRSPs and pension funds that an additional $500 million in mortgage funds would make its way to the market annually.
Rules and Regulations of a Mortgage Investment Corporation (MIC)
Although created as part of the Residential Mortgage Financing Act, the MIC is governed in accordance with the Income Tax Act (ITA). The following is a summary of the rules for MICs, as per section 130.1 of the ITA:
- A MIC has to be a Canadian corporation.
- A Mortgage Investment Corporation must have at least 20 shareholders.
- A MIC is generally widely held. No shareholder may hold more than 25% of the MIC’s total capital.
- At least 50% of a MIC’s assets must be comprised of residential mortgages and/or cash and insured deposits at Canada Deposit Insurance Corporation member financial institutions.
- A MIC may invest up to 25% of its assets directly in real estate but may not develop land or engage in construction. This ceiling on real estate holdings does not include real estate acquired as a result of mortgage default.
- A MIC is a flow-through investment vehicle and distributes 100% of its net income to its shareholders.
- All MIC investments must be in Canada, but a MIC may accept investment capital from outside of Canada.
- A MIC is a tax-exempt corporation.
- Dividends received with respect to directly held shares, not held within RRSPs or RRIFs, are taxed as interest income in the shareholder’s hands. Dividends may be received in the form of cash or additional shares.
- MIC shares are qualified RRSP and RRIF investments.
- A MIC may distribute income dividends, typically interest from mortgages and revenue from property holdings, as well as capital gain dividends, typically from the disposition of its real estate investments.
- A MIC’s annual financial statements must be audited.
- A MIC may employ financial leverage by using debt to fund assets partially.
The Income Tax Act requires Mortgage Investment Corporations to distribute 100% of their income to shareholders as dividends. Due to this distribution requirement, a mortgage investment corporation is not taxed. Investors are then required to pay taxes based on “interest income.” On the other hand, investors can purchase MIC shares through a self-directed registered retirement savings plan or a self-directed registered retirement income fund, allowing them to defer tax until the funds are ultimately withdrawn.