Freddie Mac 2009 Annual Report Download - page 224

or the loan’s fair value at the date of purchase and are subsequently carried at amortized cost. The initial investment includes
the unpaid principal balance, accrued interest, and a proportional amount of the recognized guarantee obligation and reserve
for guarantee losses recognized for the PC pool from which the loan was purchased. The proportion of the guarantee
obligation is calculated based on the relative percentage of the unpaid principal balance of the loan to the unpaid principal
balance of the entire pool. The proportion of the reserve for guarantee losses is calculated based on the relative percentage of
the unpaid principal balance of the loan to the unpaid principal balance of the loans in the respective reserving category for
the loan (i.e., book year and delinquency status). We record realized losses on loans purchased when, upon purchase, the fair
value is less than the acquisition cost of the loan. Gains related to non-accrual loans with deteriorated credit quality acquired
from PC pools, which are either repaid in full or are collected in whole or in part when a loan goes to foreclosure are
reported in recoveries on loans impaired upon purchase. For impaired loans where the borrower has made required payments
that return to current status, the basis adjustments are recognized as interest income over time, as periodic payments are
received. Gains resulting from the prepayment of currently performing loans with deteriorated credit quality acquired from
PC pools are also reported in mortgage loan interest income.
Investments in Securities
Investments in securities consist primarily of mortgage-related securities. We classify securities as “available-for-sale”
or “trading.” On January 1, 2008, we elected the fair value option for certain available-for-sale mortgage-related securities,
including investments in securities that (a) can contractually be prepaid or otherwise settled in such a way that we may not
recover substantially all of our recorded investment or (b) are not of high credit quality at the acquisition date, which are
identified as within the scope of the accounting standards for investments in beneficial interests in securitized financial
assets. Subsequent to our election, these securities were classified as trading securities. See “Recently Adopted Accounting
Standards” for further information. We currently have not classified any securities as “held-to-maturity” although we may
elect to do so in the future. Securities classified as available-for-sale are reported at fair value with changes in fair value
included in AOCI, net of taxes, or gains (losses) on investments. Securities classified as trading are reported at fair value
with changes in fair value included in gains (losses) on investments. See “NOTE 18: FAIR VALUE DISCLOSURES” for
more information on how we determine the fair value of securities.
We record forward purchases and sales of securities that are specifically exempt from the requirements of derivatives
and hedging accounting, on a trade date basis. Securities underlying forward purchases and sales contracts that are not
exempt from the requirements of derivatives and hedging accounting are recorded on the contractual settlement date with a
corresponding commitment recorded on the trade date.
In connection with transfers of financial assets that qualify as sales under the accounting standards for transfer and
servicing of financial assets, we may retain individual securities not transferred to third parties upon the completion of a
securitization transaction. These securities may be backed by mortgage loans purchased from our customers or PCs and
Structured Securities. The new Structured Securities we acquire in these transactions are classified as available-for-sale or
trading. Our PCs and Structured Securities are considered guaranteed investments. Therefore, the fair values of these
securities reflect that they are considered to be of high credit quality and the securities are not subject to credit-related
impairments. They are subject to the credit risk associated with the underlying mortgage loan collateral. Therefore, our
exposure to credit losses on the loans underlying our retained securitization interests is recorded within our reserve for
guarantee losses on PCs. See “Allowance for Loan Losses and Reserve for Guarantee Losses” above for additional
information.
For most of our investments in securities, interest income is recognized using the retrospective effective interest method.
Deferred items, including premiums, discounts and other basis adjustments, are amortized into interest income over the
estimated lives of the securities. We use actual prepayment experience and estimates of future prepayments to determine the
constant yield needed to apply the effective interest method. We recalculate the constant effective yield based on changes in
estimated prepayments as a result of changes in interest rates and other factors. When the constant effective yield changes,
an adjustment to interest income is made for the amount of amortization that would have been recorded if the new effective
yield had been applied since the mortgage assets were acquired.
For certain securities investments, interest income is recognized using the prospective effective interest method. We
specifically apply this accounting to beneficial interests in securitized financial assets that (a) can contractually be prepaid or
otherwise settled in such a way that we may not recover substantially all of our recorded investment, (b) are not of high
credit quality at the acquisition date, or (c) have been determined to be other-than-temporarily impaired. We recognize as
interest income (over the life of these securities) the excess of all estimated cash flows attributable to these interests over
their book value using the effective yield method. We update our estimates of expected cash flows periodically and recognize
changes in calculated effective yield on a prospective basis.
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