JP Morgan Chase 2009 Annual Report Download - page 206

Notes to consolidated financial statements
JPMorgan Chase & Co./2009 Annual Report 204
on the amount of interest income recognized in the Firm’s Consolidated Statements
of Income since that date.
(b) Other changes in expected cash flows include the net impact of changes in esti-
mated prepayments and reclassifications to the nonaccretable difference.
On a quarterly basis, the Firm updates the amount of loan principal
and interest cash flows expected to be collected, incorporating
assumptions regarding default rates, loss severities, the amounts
and timing of prepayments and other factors that are reflective of
current market conditions. Probable decreases in expected loan
principal cash flows trigger the recognition of impairment, which is
then measured as the present value of the expected principal loss
plus any related foregone interest cash flows discounted at the
pool’s effective interest rate. Impairments that occur after the
acquisition date are recognized through the provision and allow-
ance for loan losses. Probable and significant increases in expected
principal cash flows would first reverse any previously recorded
allowance for loan losses; any remaining increases are recognized
prospectively as interest income. The impacts of (i) prepayments, (ii)
changes in variable interest rates, and (iii) any other changes in the
timing of expected cash flows are recognized prospectively as
adjustments to interest income. Disposals of loans, which may
include sales of loans, receipt of payments in full by the borrower,
or foreclosure, result in removal of the loan from the purchased
credit-impaired portfolio.
If the timing and/or amounts of expected cash flows on these
purchased credit-impaired loans were determined not to be rea-
sonably estimable, no interest would be accreted and the loans
would be reported as nonperforming loans; however, since the
timing and amounts of expected cash flows for these purchased
credit-impaired loans are reasonably estimable, interest is being
accreted and the loans are being reported as performing loans.
Charge-offs are not recorded on purchased credit-impaired loans
until actual losses exceed the estimated losses that were recorded
as purchase accounting adjustments at acquisition date. To date,
no charge-offs have been recorded for these loans.
Purchased credit-impaired loans acquired in the Washington Mu-
tual transaction are reported in loans on the Firm’s Consolidated
Balance Sheets. In 2009, an allowance for loan losses of $1.6
billion was recorded for the prime mortgage and option ARM pools
of loans. The net aggregate carrying amount of the pools that have
an allowance for loan losses was $47.2 billion at December 31,
2009. This allowance for loan losses is reported as a reduction of
the carrying amount of the loans in the table below.
The table below provides additional information about these pur-
chased credit-impaired consumer loans.
December 31, (in millions) 2009 2008
Outstanding balance(a) $ 103,369 $ 118,180
Carrying amount 79,664 88,813
(a) Represents the sum of contractual principal, interest and fees earned at the
reporting date.
Purchased credit-impaired loans are also being modified under the
MHA programs and the Firm’s other loss mitigation programs. For
these loans, the impact of the modification is incorporated into the
Firm’s quarterly assessment of whether a probable and/or signifi-
cant change in estimated future cash flows has occurred, and the
loans continue to be accounted for as and reported as purchased
credit-impaired loans.
Foreclosed property
The Firm acquires property from borrowers through loan restructur-
ings, workouts, and foreclosures, which is recorded in other assets
on the Consolidated Balance Sheets. Property acquired may include
real property (e.g., land, buildings, and fixtures) and commercial
and personal property (e.g., aircraft, railcars, and ships). Acquired
property is valued at fair value less costs to sell at acquisition. Each
quarter the fair value of the acquired property is reviewed and
adjusted, if necessary. Any adjustments to fair value in the first 90
days are charged to the allowance for loan losses and thereafter
adjustments are charged/credited to noninterest revenue–other.
Operating expense, such as real estate taxes and maintenance, are
charged to other expense.
Note 14 – Allowance for credit losses
The allowance for loan losses includes an asset-specific component,
a formula-based component and a component related to purchased
credit-impaired loans.
The asset-specific component relates to loans considered to be
impaired, which includes any loans that have been modified in a
troubled debt restructuring as well as risk-rated loans that have
been placed on nonaccrual status. An asset-specific allowance for
impaired loans is established when the loan’s discounted cash
flows (or, when available, the loan’s observable market price) is
lower than the recorded investment in the loan. To compute the
asset-specific component of the allowance, larger loans are
evaluated individually, while smaller loans are evaluated as pools
using historical loss experience for the respective class of assets.
Risk-rated loans (primarily wholesale loans) are pooled by risk
rating, while scored loans (i.e., consumer loans) are pooled by
product type.
The Firm generally measures the asset-specific allowance as the
difference between the recorded investment in the loan and the
present value of the cash flows expected to be collected, dis-
counted at the loan’s original effective interest rate. Subsequent
changes in measured impairment due to the impact of discounting
are reported as an adjustment to the provision for loan losses, not
as an adjustment to interest income. An asset-specific allowance
for an impaired loan with an observable market price is measured
as the difference between the recorded investment in the loan and
the loan’s fair value.
Certain impaired loans that are determined to be collateral-
dependent are charged-off to the fair value of the collateral less
costs to sell. When collateral-dependent commercial real-estate
loans are determined to be impaired, updated appraisals are typi-
cally obtained and updated every six to twelve months. The Firm
also considers both borrower- and market-specific factors, which