Fifth Third Bank 2010 Annual Report Download - page 123

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Fifth Third Bancorp 121
Fair Value Measurements Using Total Losses
($ in millions) Level 1 Level 2 Level 3 Total
Year Ended
December 31, 2009
Commercial nonaccrual loans held for sale $60 - 163 $223 ($56)
Residential mortgage loans held for sale - - 55 55 (2)
Commercial and industrial loans 64 - 243 307 (217)
Commercial mortgage loans 37 - 303 340 (136)
Commercial construction loans 40 - 199 239 (150)
Commercial leases - - 1 1 (2)
MSRs - - 699 699 (24)
OREO property - - 461 461 (131)
Investment in FTPS Holding, LLC - 524 - 524 -
Total $201 524 2,124 $2,849 ($718)
During 2010, the Bancorp transferred $650 million of commercial
loans from the portfolio to loans held for sale. Of the loans that
were transferred to held for sale, $112 million were fair valued
based on executable bids and, therefore, classified within Level 1
of the valuation hierarchy. The remaining $538 million were fair
valued based on discounted cash flow models incorporating
appraisals of the underlying collateral, as well as assumptions
about investor return requirements and amounts and timing of
expected cash flows and, therefore, classified within Level 3 of
the valuation hierarchy. In addition, existing loans held for sale of
$240 million were further adjusted, $8 million of which were
based on executable bids and therefore classified within Level 1
of the valuation hierarchy, and the remaining $232 million based
on appraisals of the underlying collateral value and, therefore,
classified within Level 3 of the valuation hierarchy.
During 2010, and 2009, the Bancorp recorded nonrecurring
impairment adjustments to certain commercial and industrial,
commercial mortgage and commercial construction loans held for
investment. Such amounts are generally based on the fair value of
the underlying collateral supporting the loan and were classified
within Level 3 of the valuation hierarchy. During 2009, certain
amounts were based on bids for the loans in active markets and,
therefore, classified within Level 1 of the valuation hierarchy. In
cases where the carrying value exceeds the fair value, an
impairment loss is recognized.
During 2010, the Bancorp recorded nonrecurring
adjustments to certain residential mortgage loans. The fair value
of these loans was based on the underlying collateral values and,
therefore, classified within Level 3 of the valuation hierarchy.
During 2010, the Bancorp recorded nonrecurring
adjustments to certain other consumer loans. As indicated in
Note 12, the Bancorp provides funding to certain entities
sponsored by third parties to finance consumer loans originated
by third parties. During 2010, one of these entities agreed to
transfer ownership of its underlying consumer loans to the
Bancorp, and these loans are now classified as held for
investment. Upon transfer, the Bancorp was required to measure
and record the loans at fair value, which was determined using a
DCF model, which are classified within Level 2 of the valuation
hierarchy, and in some cases, the value of the underlying
collateral, which are classified within Level 3 of the valuation
hierarchy.
During 2010 and 2009, the Bancorp recognized temporary
impairments in certain classes of the MSR portfolio in which the
carrying value was adjusted to fair value as of December 31, 2010
and 2009. MSRs do not trade in an active, open market with
readily observable prices. While sales of MSRs do occur, the
precise terms and conditions typically are not readily available.
Accordingly, the Bancorp estimates the fair value of MSRs using
discounted cash flow models with certain unobservable inputs,
primarily prepayment speed assumptions, resulting in a
classification within Level 3 of the valuation hierarchy. Refer to
Note 13 for further information on the Bancorp’s MSRs.
During 2010 and 2009, the Bancorp recorded nonrecurring
adjustments to certain commercial and residential real estate
properties classified as OREO and measured at the lower of
carrying amount or fair value, less costs to sell. Such fair value
amounts are generally based on appraisals of the property values,
resulting in a classification within Level 3 of the valuation
hierarchy. In cases where the carrying amount exceeds the fair
value, less costs to sell, an impairment loss is recognized. The
previous table reflects the fair value measurements of the
properties before deducting the estimated costs to sell.
During 2009, the Bancorp purchased residential mortgage
loans with a principal balance of $57 million. The Bancorp
subsequently recorded nonrecurring impairment adjustments
totaling $2 million during 2009. Such amounts are generally based
on the fair value of the underlying collateral supporting the loan
and, therefore, classified within Level 3 of the valuation hierarchy.
On June 30, 2009, the Bancorp recorded an investment in
FTPS Holdings, LLC related to its retained noncontrolling
interest from the Processing Business Sale. The investment’s fair
value was based on the Bancorp’s proportional share of the
LLC’s equity capital and was measured using observable data
directly from the sales transaction with Advent International.
Therefore, this investment was classified within Level 2 of the
valuation hierarchy. In subsequent periods, the investment in
FTPS Holdings, LLC has been recorded under the equity method
of accounting.
Fair Value Option
The Bancorp has elected to measure residential mortgage loans held
for sale under the fair value option as allowed under U.S. GAAP.
Management’s intent to sell residential mortgage loans classified as
held for sale may change over time due to such factors as changes in
the overall liquidity in markets or changes in characteristics specific to
certain loans held for sale. Consequently, these loans may be
reclassified to loans held for investment and maintained in the
Bancorp’s loan portfolio. In such cases, the loans will continue to be
measured at fair value. Residential loans with fair values of $26
million and $29 million, respectively, were transferred to the
Bancorp’s portfolio during 2010 and 2009. Losses related to fair
value adjustments on these loans were immaterial to the Bancorp for
the year ended December 31, 2010, compared to $2 million of losses
during 2009.
Fair value changes included in earnings for instruments for
which the fair value option was elected included losses of $191
million and $162 million, respectively during 2010 and 2009. These
losses are reported as mortgage banking net revenue in the
Consolidated Statements of Income.
Valuation adjustments related to instrument-specific credit risk
for residential mortgage loans measured at fair value negatively
impacted the fair value of these loans by $5 million and $3 million,
respectively, during 2010 and 2009. Interest on residential mortgage
loans measured at fair value is accrued as it is earned using the
effective interest method and is reported as interest income in the
Consolidated Statements of Income.