Fannie Mae 2004 Annual Report Download - page 262

to the acquired assets for the value of these derivatives as of their settlement date. These cost basis adjustments
are amortized into interest income over the life of the acquired assets. The impact of this amortization is
reflected in the “Amortization of Cost Basis Adjustments” section below.
We incorrectly classified mortgage loan and security commitments as cash flow hedges. The primary reasons
we did not qualify for hedge accounting treatment were the lack of assessment of the effectiveness of the
hedging relationship and the failure to adequately identify and document the forecasted transactions. As
discussed above, under cash flow hedge accounting, we deferred unrealized gains or losses on derivatives in
AOCI in the consolidated balance sheets. The impact of correcting this error resulted in the recognition of
derivatives at fair value in the consolidated balance sheets, with changes in the fair value of these derivatives
recognized in the consolidated statements of income. This error impacted previously reported results and
varied substantially from period to period based on volume, prevailing interest rates and the market price of
the underlying collateral.
As part of the adoption of SFAS 149 in 2003,we incorrectly recorded a SFAS 149 transition adjustment that
was not required because the commitments for which the transition adjustment was recorded should previously
have been accounted for as derivatives under SFAS 133 or as securities under Emerging Issues Task Force
(“EITF”) Issue No. 96-11, Accounting for Forward Contracts and Purchased Options to Acquire Securities
Covered by FASB Statement No. 115 (“EITF 96-11”). We also incorrectly recorded as derivatives certain
multifamily mortgage loan commitments that did not qualify as derivatives. The transition adjustment
originally recorded was an after-tax charge of $185 million in the consolidated statement of income for the
year ended December 31, 2003 as a “Cumulative effect of change in accounting principle.” The impact of
correcting these errors resulted in the removal of the fair value adjustments related to multifamily loan
commitments and the reversal of the entire transition adjustment in the consolidated statement of income for
the year ended December 31, 2003.
Prior to July 1, 2003, the effective date of SFAS 149, we did not account for certain qualifying security
purchase commitments in the consolidated balance sheets pursuant to EITF 96-11, which resulted in a
misstatement of “Investments in securities” and AOCI in the consolidated balance sheets and related
“Investment losses, net” in the consolidated statements of income associated with these commitments. The
impact of correcting this error resulted in the recognition of these commitments as either “trading” or
“available-for-sale” (“AFS”) securities, and the recognition of changes in the fair value of the securities in
“Investment losses, net” in the consolidated statements of income for trading securities or in AOCI in the
consolidated balance sheets for AFS securities.
We incorrectly valued mortgage loan and security commitments that we recorded as derivatives by utilizing
inconsistent or inaccurate pricing. We corrected this error by revaluing mortgage loan and security
commitment derivatives. The impact of correcting this error resulted in changes in unrealized gains or losses
associated with these commitments in the consolidated statements of income and corresponding changes in
derivatives at fair value in the consolidated balance sheets.
Investments in Securities
We identified the accounting errors described below related to our investments in securities that resulted in a
pre-tax decrease in net income of $332 million and $715 million for the years ended December 31, 2003 and
2002, respectively.
Classification and Valuation of Securities
We identified three errors associated with the classification and valuation of securities. The most significant
error was that we incorrectly classified securities at acquisition as “held-to-maturity” (“HTM”) that we did not
intend to hold to maturity, which resulted in not recognizing changes in the fair value of these securities in
AOCI or earnings. As a result of our review of acquired securities, we derecognized all previously recorded
HTM securities recorded at amortized cost and recognized at fair value $419.5 billion and $69.5 billion of
AFS and trading securities, respectively, in 2003. Our holding of investments in trading securities is a
F-11
FANNIE MAE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)