How CDIC would protect Deposits if Home Capital goes bankrupt

Canada has not seen a bank failure since Security Home Mortgage Corporation, a Calgary-based company, went bankrupt in 1996, putting $42 million in bank deposits at risk.

Two decades later we have another mortgage company, Home Capital Group, teetering on the brink of bankruptcy. Deposits at Home Capital were expected to fall to $192 million this week, down 90 per cent from the roughly $2 billion it held at the end of March. To stay afloat the embattled company took out a $2 billion lifeline (at a punitive interest rate) and suspended its dividend.

It truly is a run on the bank, and clients of Home Capital, which includes subsidiaries Home Trust and Oaken Financial, are concerned about their deposits. Should they be? Perhaps not. Home Trust is a member of Canada Deposit Insurance Corporation (CDIC), which handled the Security Home Mortgage Corporation collapse in 1996 and restored client deposits within three weeks.

But clients aren’t taking any chances. As Rob Carrick pointed out on Twitter, even GIC deposits are being redeemed early:

✔ @rcarrick Am surprised at the number of people who say they’re considering paying a penalty to redeem CDIC-protected GICs from alt banks, trusts etc.

Readers of this blog have also voiced their concern over money tied up at Home Trust, with one reader writing to us by email:

“My mom currently holds some GIC’s with Home Trust (Home Capital). Given their current financial situation we are wondering if it would be prudent to redeem them early. We are aware that they are CDIC insured; however no one has been able to advise us that if the worst case scenario happens to Home Capital would the GIC funds be tied up until CDIC sorts things out.”

We want our readers to make informed decisions about their money. With all the hysteria surrounding Home Capital and its viability, I reached out to CDIC and asked how their coverage works and what is protected in the event of a bank failure. Here’s what they had to say:

The Canada Deposit Insurance Corporation (CDIC) is the federal Crown corporation that protects the savings of Canadians in the event their bank fails. If you have eligible deposits held in Canadian dollars at a CDIC member institution, you are automatically protected. Some 80 financial institutions across Canada are members of the CDIC, including banks, federally regulated credit unions, as well as loan and trust companies and associations governed by the Cooperative Credit Associations Act that take deposits.

How CDIC works

CDIC automatically protects eligible deposits to a maximum of $100,000, including principal and interest, in each of seven deposit categories such as RRSPs, TFSAs, joint and trust accounts. Joint accounts are treated as one account, rather than separately for each depositor. Trusts are the opposite, where each beneficiary is eligible for up to $100,000 separately, provided certain disclosure rules are met. Eligible deposits include savings and chequing accounts and term deposits like GICs with a term to maturity of five years or less.

What’s not protected

But some things are not protected. What’s not covered includes securities and investments, like foreign currency or U.S. dollar accounts, stocks and bonds, mutual funds, and term deposits longer than five years.

How CDIC protects deposits if a bank fails

CDIC has a number of tools to assist or resolve a failing member institution. Which tool is used would depend on the circumstances of a particular situation. The size and complexity of the bank, its franchise value, as well as the current availability of any private sector buyer or other options, would be key considerations in deciding which tool to use.

The tools that CDIC could use include:

Liquidation and reimbursement of insured deposits

In certain cases, a failed bank is closed and insured deposits are reimbursed to depositors. The assets of the failed bank are distributed to the bank’s depositors and other creditors through a court-supervised liquidation process.

In liquidation, the failed bank ceases to operate, all contracts are terminated and its critical financial services are no longer available, including access to accounts. CDIC automatically and rapidly reimburses insured deposits up to $100,000 (including interest) per insurance category. Depositors do not have to file a claim.

• CDIC would aim to reimburse chequing and savings accounts, joint accounts and mortgage tax accounts within three business days.
• Deposits in valid trusts are protected to $100,000 per beneficiary. CDIC would contact broker-trustees to inform them of its process to reimburse insured deposits. CDIC would remit payment to broker-trustees within seven business days of receiving wire transfer/payment information. Payment would be based on CDIC calculations and deposit information at the failed institution.
• CDIC would hold registered deposits in RRSPs, RRIFs and TFSAs while it works with the Canada Revenue Agency to ensure they remain tax-sheltered. CDIC would contact these depositors directly to inform them of next steps.

This is a tool that would likely only be used in the case of small to medium-size banks, not domestic systemically important banks (D-SIBs).

Forced sale

When a buyer exists, CDIC can take control of a failing bank for a short period of time to complete its sale, merger or restructuring. The sale would ensure that critical banking operations continue and insured deposits are protected. With the approval of the government, a forced sale would be used when shareholder consent of the transaction is not expected or the time to obtain consent would take too long.

Bridge bank

A bridge bank is a tool that is available when an institution fails and there is no buyer or private-sector solution on the horizon. It is meant to “bridge” the gap between when an institution fails and when a buyer or private-sector solution can be found. CDIC can use this tool to transfer all or part of the failing bank’s business to a bridge bank, which is temporarily owned by CDIC.

Similar to a forced sale, the transfer would ensure that critical banking operations continue and insured deposits are protected. As owner, CDIC would likely appoint to the bridge bank a new board of directors and chief executive officer to handle the restructuring and to stabilize the bank. Once stable, the bridge bank would be sold to the private sector.

Financial assistance

CDIC can provide financial assistance to its members, including loans, guarantees, deposits, or loss-sharing agreements or by acquiring shares. CDIC can provide this assistance on a stand-alone basis, to assist in a private transaction, or in combination with any of its other resolution tools.

Bail-in framework

In 2016, Parliament introduced a bail-in regime to Canada’s bank resolution toolkit. Bail-in is an important tool that would allow CDIC, as the resolution authority for Canada’s D-SIBs, to ensure failing institutions remain open for Canadians, which helps protect our economy.

Bail-in allows authorities to recapitalize a large Canadian bank by converting certain long-term debt to common shares while the institution remains open and operating. In the unlikely event of a failure, this would ensure losses are covered by the bank’s shareholders and certain investors, not taxpayers or depositors.

50 years of deposit protection

Since its creation by Parliament in 1967, CDIC has handled 43 failures, affecting more than 2 million depositors. No one has lost a single dollar under CDIC protection.

In addition to running the Boomer & Echo website, Robb Engen is a fee-only financial planner. This article originally ran on his site on May 8th and is republished here with his permission.