Fannie Mae 2008 Annual Report Download - page 96

Initial
Purchase
of Loan
from Trust
(a)
Subsequent
Foreclosure
(b)
Sale of
Foreclosed
Property
(c)
Cumulative
Earnings
Impact
Accounting Impact of Assumptions
Consolidated Balance Sheet:
Assets:
Mortgage loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 70 $(70) $ —
Acquired property, net. . . . . . . . . . . . . . . . . . . . . . . . . . . . — 80 (80)
Liabilities:
Reserve for guaranty losses—beginning balance
(1)
........ $— $— $—
Plus: Provision for credit losses attributable to SOP 03-3 fair
value losses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
Less: Charge-offs related to initial purchase discount on
SOP 03-3 loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (30) — —
Plus: Recoveries . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . — — —
Reserve for guaranty losses—ending balance
(1)
.......... $— $— $—
Consolidated Statement of Operations:
Provision for credit losses attributable to SOP 03-3 fair value
losses. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $(30) $ — $ — $(30)
Foreclosed property income (expense) . . . . . . . . . . . . . . . . . — 10 5 15
Net pre-tax income (loss) effect . . . . . . . . . . . . . . . . . . . $(30) $ 10 $ 5 $(15)
(1)
The adjustment to the “Provision for credit losses” is presented for illustrative purposes only. We actually determine
our “Reserve for guaranty losses” by aggregating homogeneous loans into pools based on similar underlying risk
characteristics in accordance with SFAS 5. Accordingly, we do not have a specific reserve or provision attributable to
each delinquent loan purchased from an MBS trust.
As indicated in the example above, we would record the loan at the estimated fair value of $70 and record an
SOP 03-3 fair value loss of $30 as a charge-off to the reserve for guaranty losses when we acquire the
delinquent loan from the MBS trust. We record a provision for credit losses each period to adjust the reserve
for guaranty losses to reflect the probable credit losses incurred on loans remaining in MBS trusts. Assuming
all other things were equal, the SFAS 5 reserve for guaranty losses is reduced at period end because the
purchased loan is no longer included in the population for which the SFAS 5 reserve is determined. Therefore,
if the charge-off for the SOP 03-3 fair value loss is greater than the decrease in the reserve caused by
removing the loan from the population subject to SFAS 5, an incremental loss will be recognized through the
provision for credit losses in the period the loan is purchased. We would record the REO property acquired
through foreclosure at the appraised fair value, net of estimated selling costs, of $80. Although we recorded an
initial SOP 03-3 fair value loss of $30, the actual credit-related expense we experience on this loan would be
$15, which represents the difference between the amount we paid for the loan and the amount we received
from the sale of the acquired REO property, net of selling costs.
As described above, if a loan subject to SOP 03-3 “cures,” which means it returns to accrual status, pays off
or is resolved through modification, long-term forbearance or a repayment plan, the SOP 03-3 fair value loss
would be recovered over the life of the loan as a component of net interest income through an adjustment of
the effective yield or upon full pay off of the loan. Conversely, if a loan remains in an MBS trust, we would
continue to provide for incurred losses in our “Reserve for guaranty losses.”
Our estimate of the fair value of delinquent loans purchased from MBS trusts is based upon an assessment of
what a market participant would pay for the loan at the date of acquisition. Prior to July 2007, we estimated
the initial fair value of these loans using internal prepayment, interest rate and credit risk models that
incorporated market-based inputs of certain key factors, such as default rates, loss severity and prepayment
speeds. Beginning in July 2007, the mortgage markets experienced a number of significant events, including a
dramatic widening of credit spreads for mortgage securities backed by higher risk loans, a large number of
credit downgrades of higher risk mortgage-related securities, and a severe reduction in market liquidity for
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