Canada: OSFI Releases New Framework to Modernize Financial Supervision

Published on Feb 28, 2024

On February 8, 2024, the Office of the Superintendent of Financial Institutions (OSFI) announced a new framework (the “Framework”) for supervising federally regulated financial institutions (FRFIs).

The Framework, which OSFI describes as its most significant update to its supervisory guidelines in 25 years, is expected to come into effect on April 4, 2024. Most notably, the Framework (i) expands the 4-point risk rating scale to an 8-point scale and therefore provides an earlier indication of changes in OSFI’s risk assessment of the FRFI, and (ii) includes more information for FRFIs about the drivers of their risk rating.

Tier Rating and Overall Risk Rating (ORR) Scale

The FRFI’s Tier Rating and ORR dictate the intensity of the supervisory oversight to which FRFI will be subjected.

Tier Rating

A FRFI’s Tier Rating takes into account its size and complexity, as well as OSFI’s view of the impact the FRFI’s failure may have on the financial system. The assigned Tier Rating guides the work OSFI conducts to identify risks.

The Tier Ratings are assigned on the following scale and are updated as material changes occur:

  • Tier 1 (High): Large and/or complex FRFIs with highest system impact;
  • Tier 2 (Medium-High): Large and/or complex FRFIs with significant system impact;
  • Tier 3 (Medium): Mid-size FRFIs with moderate system impact;
  • Tier 4 (Medium-Low): Smaller and/or less complex FRFIs with low system impact; and
  • Tier 5 (Low): Smallest, least complex FRFIs with very low system impact.

The Tier Rating then determines the granularity of OSFI’s risk assessment as follows: (i) for small FRFIs (Tier 5), OSFI assigns an ORR, which considers the Risk Categories, (ii) for larger FRFIs (Tiers 1 to 4), OSFI assigns ratings for each of the Risk Categories on the ORR scale described below, and (iii) for the largest FRFIs (Tiers 1 to 3), OSFI conducts a more detailed analysis of additional risks.

ORR Scale

The new 8-point ORR scale outlines the level of risk to the viability of the FRFI and reflects issues OSFI would like the FRFI to address. The ORR scale is integrated with the previous Intervention Stage Ratings, a 4-point risk rating scale which groups a FRFI into one of the following intervention stages:

  • Stage 0: No significant problems/normal activities;
  • Stage 1: Early warning;
  • Stage 2: Risk to financial viability or solvency;
  • Stage 3: Future financial viability in serious doubt; and
  • Stage 4: Non-viability/insolvency imminent.

The ORR scale then assigns a FRFI an ORR based upon its existing Intervention Stage Rating.

Intervention Stage 0 institutions will then be assigned one of the following four rating categories:

  • ORR 1: No significant issues identified;
  • ORR 2: The institution has low risk;
  • ORR 3: The institution has a moderate risk; and
  • ORR 4: Watchlist to make it clear that identified issues need prompt attention or the institution is likely to be subject to formal intervention.

For FRFIs with Intervention Stage Ratings 1-4, ORRs are assigned as follows:

  • ORR 5: Provides Stage 1 FRFIs with an early warning of issues that could impact viability. At this rating level, the impact to viability is not expected to occur within two years based on available information;
  • ORR 6: Stage 2 FRFIs that pose material safety and soundness concerns. While the threat to viability is not immediate, it could occur within two years;
  • ORR 7: Stage 3 FRFIs where future viability is in serious doubt. The FRFI has severe safety and soundness concerns that could affect viability within one year; and
  • ORR 8: Stage 4 FRFIs where, at this point, non-viability is assessed as imminent.

New Risk Categories

The Risk Categories used in determining a FRFI’s ORR are:

  • Business Risk: A forward-looking assessment of an institution’s business model sustainability.
  • Financial Resilience: The institution’s ability to withstand financial stress by considering its financial risk profile, capital, and liquidity.
  • Operational Resilience: Ability to deliver operations, including critical operations through disruption, is an outcome of effective operational risk management.
  • Risk Governance: Ability to identify, assess, and manage risks appropriately.

Additionally, OSFI noted that climate change risks are evolving and are relevant to all Risk Categories. Climate risks can influence the ORR analysis if OSFI determines such risks are significant in its assessment of the FRFI’s viability risk.

Looking Forward

The new Framework provides enhanced rating information and highlights OSFI’s supervisory priorities and expectations. It will allow OSFI to tailor its supervision of a FRFI based on the FRFI’s size and complexity which, as OSFI notes, will enable timelier interventions and reduce unnecessary burdens.

For further information concerning this new Framework, please contact any member of our Financial Services Regulatory Group.