SOME CREDIT ARRANGEMENTS MAY RUN AFOUL OF SECTION 8 OF THE CANADA INTEREST ACT
Edward D. (Ned) Brown
Pitblado LLP
Winnipeg, Manitoba
April, 2012
Readers of this paper may have also read the writer's recent commentary concerning certain problems which can arise for lenders in connection with the utilization of "all obligations" real property mortgages. That is, mortgages which, by their terms, state that they secure all present and future obligations of all types of the mortgagor(s), limited from time to time to the maximum principal or face amount stated in the mortgage.
A reader of that earlier commentary pointed out a further problem which lenders may encounter. A mortgage will often secure the obligations (among other obligations) of the mortgagor under his/her credit card facility. Typically, such mortgage will charge the mortgagor's from time to time existing equity in his/her residential property. By having the mortgage secure (among other obligations), the mortgagor's credit card debt, the mortgagor will (usually) get the benefit of a reduced interest rate on such debt.
The problem results from the following:
1. Most credit card arrangements specify that on and following default by the card holder, the interest rate applicable to the debt will increase, sometimes by as much as 5% or 6% per annum; and
2. Section 8 of the Interest Act (Canada) (the "Act") provides, in effect, that a creditor whose debtor's indebtedness is secured by a mortgage on real property is not to charge the debtor interest (or other amounts) which has the effect of increasing the rate of interest to anything higher than the rate which was applicable prior to default. It appears that if this rule is breached, then the mortgagee is not legally entitled to collect any interest after default.
As long as the card holder's debt is not secured by real estate, Section 8 of the Act is not engaged. But by the card holder's mortgage stipulating that it secures all debt of the card holder from time to time existing, this - arguably - means (at the very least) that the mortgage cannot legally secure the card holder's obligation to pay interest in excess of the pre-default rate of interest.
Would it be possible for a lender to minimize this problem by having the card holder agreement specify that when and to the extent that the mortgage secures credit card debt, then the mortgage will only secure post-default interest (referable to the credit card debt) at the credit card agreement pre-default rate? The answer is probably "yes", provided that the language providing for such "severance" (in the credit card agreement) is clear and unequivocal and provided that a Court called upon to consider the matter is willing to effect severance. But even if the Section 8 Interest Act problem is eliminated in this manner, the credit card issuer will be somewhat frustrated in its original intention - to provide a lower interest rate in exchange for real property mortgage security, but with the "usual" credit card arrangement in place whereby the card holder pays a higher - often substantially higher - interest rate after default.
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