HR Block 2006 Annual Report Download - page 125

The key assumptions we used to estimate the cash flows and values At April 30, 2006, the sensitivities of the current fair value of residual
of our residual interests and MSRs at April 30 are as follows: interests and MSRs to 10% and 20% adverse changes in the above key
assumptions are presented in the following table. These sensitivities are
April 30, 2006 2005
hypothetical and should be used with caution. As the figures indicate,
Estimated credit losses – residual interests 3.07% 3.03%
changes in fair value based on a 10% variation in assumptions generally
Discount rate – residual interests 21.98% 21.01%
cannot be extrapolated because the relationship of the change in
Discount rate – MSRs 18.00% 12.80%
assumption to the change in fair value may not be linear. Also in this
Variable returns to third-party beneficial LIBOR forward curve at
table, the effect of a variation of a particular assumption on the fair
interest holders valuation date
value of the retained interest is calculated without changing any other
We originate both adjustable and fixed rate mortgage loans. A key assumptions; in reality, changes in one factor may result in changes in
assumption used to estimate the cash flows and values of the residual another, which might magnify or counteract the sensitivities.
interests is average annualized prepayment speeds. Prepayment speeds
(in 000s)
include voluntary prepayments, involuntary prepayments and scheduled
Residential Mortgage Loans
principal payments. Prepayment rate assumptions are as follows:
Available-for-sale Beneficial interest
Residuals in Trusts MSRs
Months Outstanding Without
Prior to Carrying amount/fair
Prepayment Penalty
Penalty value of residuals $ 159,058 $ 188,014 $ 272,472
Expiration Zero – 3 Remaining Life Weighted average life
Adjustable rate mortgage loans: (in years) 1.9 1.9 1.3
With prepayment penalties 31% 72% 39% $ impact on fair value:
Without prepayment penalties 35% 52% 35% Prepayments (including
Fixed rate mortgage loans: defaults):
With prepayment penalties 30% 48% 38% Adverse 10% $ 4,330 $ (11,656) $ (39,163)
Adverse 20% 13,924 (17,892) (65,779)
For fixed rate mortgages without prepayment penalties, we use an
Credit losses:
average prepayment rate of 32% over the life of the loans. Prepayment
Adverse 10% $ (46,560) $ (6,399) Not applicable
rate is projected based on actual paydown including voluntary,
Adverse 20% (75,445) (12,796) Not applicable
involuntary and scheduled principal payments.
Discount rate:
Expected static pool credit losses are as follows:
Adverse 10% $ (5,657) $ (5,972) $ (4,368)
Adverse 20% (10,948) (11,687) (8,607)
Mortgage Loans Securitized in
2006 2005 2004 2003 2002 Prior Variable interest rates:
As of: Adverse 10% $ (4,143) $ (53,757) Not applicable
April 30, 2006 3.05% 2.48% 2.18% 2.13% 2.69% 4.75% Adverse 20% (8,590) (107,183) Not applicable
April 30, 2005 – 2.83% 2.30% 2.08% 2.53% 4.52%
Increases in prepayment rates related to available-for-sale residuals
April 30, 2004 – – 3.92% 4.35% 3.58% 4.46%
can generate a positive impact to fair value when reductions in
Static pool credit losses are calculated by summing the actual and estimated credit losses and prepayment penalties exceed the adverse
projected future credit losses and dividing them by the original balance impact to accretion from accelerating the life of the available-for-sale
of each pool of assets. residual interest.
H&R BLOCK 2006 Form 10K
55