Big Six impaired loans nearly triple, but remain manageable: Morningstar DBRS

Impaired loans at Canada’s Big Six banks have nearly tripled from their 2022 lows, although Morningstar DBRS says overall asset quality remains solid and the increase is not yet cause for significant concern.

Gross impaired loans reached $37.5 billion in the second quarter of 2026, up from $13.2 billion in the third quarter of 2022. Their share of total loans has risen every quarter since late 2022 and now stands at 0.85%.

Provisions for credit losses on impaired loans also rose from $1.1 billion in early 2022 to $4.8 billion in early 2025 and have remained elevated.

The deterioration has been concentrated largely in unsecured consumer lending and commercial loans across several sectors, Morningstar DBRS said. Mortgage delinquencies have also increased, although they remain “relatively low” given the banks’ focus on prime borrowers.

The agency linked the broader shift in credit conditions partly to the unwinding of an “atypically benign credit environment” in 2021, when government support, near-zero interest rates, falling unemployment, accumulated household savings and strong corporate earnings led the banks to release $5.6 billion in provisions previously set aside for performing loans.

Those conditions began to reverse in 2022 as inflation surged, interest rates rose, pandemic support ended and household savings declined.

“This period marked the beginning of the normalization, and ultimately the deterioration of the credit environment that persists today,” the report said.

Lower interest rates compared with their 2023 and 2024 peaks are now providing some relief, according to Morningstar DBRS. However, the agency said mortgage renewals and other loan repricing have left Canadians with greater financial burdens, while elevated food, energy and housing costs continue to strain budgets.

Housing and trade risks bear watching

Housing will be an important factor in whether credit deterioration begins to level off, the report said, given that residential real estate-secured lending accounts for between 77% and 85% of the banks’ consumer loan books. Their retail portfolios collectively represent almost 60% of total lending.

Declining home prices could increase provisions against performing loans by reducing homeowners’ equity and leaving them with “less cushion” if their income comes under stress, the agency said. Lower property values could also reduce recoveries on impaired loans.

Morningstar DBRS noted that home-price declines in Ontario and British Columbia are moderating, while tighter inventory in Ontario suggests prices could firm further.

“The recent breakdown in bilateral trade talks between Canada and the U.S. makes a broader Canada-U.S.-Mexico deal more difficult to achieve,” said Tim O’Brien, managing director of North American financial institution ratings at Morningstar DBRS.

O’Brien said the breakdown raises questions about how additional tariffs will affect Canadian businesses, how effective government support will be and whether unemployment can continue its recent decline.

“Developments among these and other forces will indicate whether better days are ahead for the Banks’ asset quality,” he added.

The banks held $36 billion in allowances for credit losses in the second quarter, equal to 0.80% of gross loans. Morningstar DBRS said reserves remain satisfactory and have been broadly stable over the past year.

The agency said “there is no cause for significant concern at this stage,” citing the banks’ strong liquidity, funding and capital positions. A rise above 1% would warrant closer attention, but would not necessarily signal a significant deterioration in credit conditions, it added.