Fifth Third Bank 2012 Annual Report Download - page 92

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
90 Fifth Third Bancorp
agreement specifies a rate equal to or greater than the rate the
Bancorp was willing to accept at the time of the restructuring for a
new loan with comparable risk and the loan is not impaired based
on the terms specified by the restructuring agreement. Refer to the
ALLL section for discussion regarding the Bancorp’s methodology
for identifying impaired loans and determination of the need for a
loss accrual.
Loans Held for Sale
Loans held for sale primarily represent conforming fixed rate
residential mortgage loans originated or acquired with the intent to
sell in the secondary market and commercial loans and other
consumer loans that management has an active plan to sell. Loans
held for sale may be carried at the lower of cost or fair value, or
carried at fair value where the Bancorp has elected the fair value
option of accounting under U.S. GAAP. The Bancorp has elected to
measure residential mortgage loans originated as held for sale under
the fair value option. For loans in which the Bancorp has not
elected the fair value option, the lower of cost or fair value is
determined at the individual loan level.
The fair value of residential mortgage loans held for sale is
estimated based upon mortgage-backed securities prices and spreads
to those prices or, for certain ARM loans, discounted cash flow
models that may incorporate the anticipated portfolio composition,
credit spreads of asset-backed securities with similar collateral, and
market conditions. The anticipated portfolio composition includes
the effects of interest rate spreads and discount rates due to loan
characteristics such as the state in which the loan was originated, the
loan amount and the ARM margin. These fair value marks are
recorded as a component of noninterest income in mortgage
banking net revenue. The Bancorp generally has commitments to
sell residential mortgage loans held for sale in the secondary market.
Gains or losses on sales are recognized in mortgage banking net
revenue upon delivery.
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,
thereafter, reported within the Bancorp’s residential mortgage class
of portfolio loans and leases. In such cases, the residential mortgage
loans will continue to be measured at fair value, which is based on
mortgage-backed securities prices, interest rate risk and an internally
developed credit component.
Loans held for sale are placed on nonaccrual status consistent
with the Bancorp’s nonaccrual policy for portfolio loans and leases.
Other Real Estate Owned
OREO, which is included in other assets, represents property
acquired through foreclosure or other proceedings and is carried at
the lower of cost or fair value, less costs to sell. All OREO property
is periodically evaluated for impairment and decreases in carrying
value are recognized as reductions in other noninterest income in
the Consolidated Statements of Income.
ALLL
The Bancorp disaggregates its portfolio loans and leases into
portfolio segments for purposes of determining the ALLL. The
Bancorp’s portfolio segments include commercial, residential
mortgage, and consumer. The Bancorp further disaggregates its
portfolio segments into classes for purposes of monitoring and
assessing credit quality based on certain risk characteristics. Classes
within the commercial portfolio segment include commercial and
industrial, commercial mortgage owner-occupied, commercial
mortgage nonowner-occupied, commercial construction, and
commercial leasing. The residential mortgage portfolio segment is
also considered a class. Classes within the consumer portfolio
segment include home equity, automobile, credit card, and other
consumer loans and leases. For an analysis of the Bancorp’s ALLL
by portfolio segment and credit quality information by class, see
Note 6.
The Bancorp maintains the ALLL to absorb probable loan and
lease losses inherent in its portfolio segments. The ALLL is
maintained at a level the Bancorp considers to be adequate and is
based on ongoing quarterly assessments and evaluations of the
collectability and historical loss experience of loans and leases.
Credit losses are charged and recoveries are credited to the ALLL.
Provisions for loan and lease losses are based on the Bancorp’s
review of the historical credit loss experience and such factors that,
in management’s judgment, deserve consideration under existing
economic conditions in estimating probable credit losses. The
Bancorp’s strategy for credit risk management includes a
combination of conservative exposure limits significantly below
legal lending limits and conservative underwriting, documentation
and collections standards. The strategy also emphasizes
diversification on a geographic, industry and customer level, regular
credit examinations and quarterly management reviews of large
credit exposures and loans experiencing deterioration of credit
quality.
The Bancorp’s methodology for determining the ALLL is
based on historical loss rates, current credit grades, specific
allocation on loans modified in a TDR and impaired commercial
credits above specified thresholds and other qualitative adjustments.
Allowances on individual commercial loans, TDRs and historical
loss rates are reviewed quarterly and adjusted as necessary based on
changing borrower and/or collateral conditions and actual
collection and charge-off experience. An unallocated allowance is
maintained to recognize the imprecision in estimating and
measuring losses when evaluating allowances for individual loans or
pools of loans.
Larger commercial loans included within aggregate borrower
relationship balances exceeding $1 million that exhibit probable or
observed credit weaknesses, as well as loans that have been
modified in a TDR, are subject to individual review for impairment.
The Bancorp considers the current value of collateral, credit quality
of any guarantees, the guarantor’s liquidity and willingness to
cooperate, the loan structure, and other factors when evaluating
whether an individual loan is impaired. Other factors may include
the industry and geographic region of the borrower, size and
financial condition of the borrower, cash flow and leverage of the
borrower, and the Bancorp’s evaluation of the borrower’s
management. When individual loans are impaired, allowances are
determined based on management’s estimate of the borrower’s
ability to repay the loan given the availability of collateral and other
sources of cash flow, as well as an evaluation of legal options
available to the Bancorp. Allowances for impaired loans are
measured based on the present value of expected future cash flows
discounted at the loan’s effective interest rate, fair value of the
underlying collateral or readily observable secondary market values.
The Bancorp evaluates the collectability of both principal and
interest when assessing the need for a loss accrual.
Historical credit loss rates are applied to commercial loans that
are not impaired or are impaired, but smaller than the established
threshold of $1 million and thus not subject to specific allowance
allocations. The loss rates are derived from a migration analysis,
which tracks the historical net charge-off experience sustained on
loans according to their internal risk grade. The risk grading system
utilized for allowance analysis purposes encompasses ten categories.
Homogenous loans and leases in the residential mortgage and
consumer portfolio segments are not individually risk graded.
Rather, standard credit scoring systems and delinquency monitoring
are used to assess credit risks, and allowances are established based