Freddie Mac 2004 Annual Report Download - page 63

these sales.) Consequently, the size of our guarantee obligation subject to this accounting was larger in 2004
and 2003 as compared with 2002. Compensation for this obligation is received in the form of upfront fees
(credit and buy-down fees) and contractual guarantee fees received over time. Credit and buy-down fees
received prior to 2003 were included in Other liabilities on our consolidated balance sheets and amortized into
income as a component of Management and guarantee fee income. In 2003, we began amortizing these items
and the initial recorded value of our guarantee obligation into Income on ""Guarantee obligation for
Participation CertiÑcates'' based on actual payment experience on the underlying mortgage loans, which we
refer to as the Declining Unpaid Principal Balance Method. Prior to 2003, we marked our guarantee obligation
to fair value at the end of each period.
Table 22 summarizes the income for the years ended December 31, 2004 and 2003 on guarantee
obligation. In 2002, we accounted for the guarantee obligation at fair value. See ""Table 23 Ì Attribution of
Change Ì Guarantee Obligation for 2002'' for an attribution of the changes in fair value of the guarantee
obligation in 2002.
Table 22 Ì Income on Guarantee Obligation for 2004 and 2003
Year Ended Year Ended
December 31, 2004 December 31, 2003
(dollars in millions)
Amortization income related to:
Credit and buy-down fees received ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 128 $ 57
Initial fair value of contractual guarantee fees(1) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ 604 868
Income on ""Guarantee obligation for Participation CertiÑcates'' ÏÏÏÏÏ $ 732 $ 925
Guarantee obligation for Participation CertiÑcates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $4,065 $2,904
Liquidation rate for outstanding PCs and Structured Securities(2) ÏÏÏÏ 29% 63%
(1) The initial fair value of contractual guarantee fees is the equivalent of our Guarantee asset for Participation CertiÑcates, at fair value.
(2) Related to outstanding PCs and Structured Securities (including other PCs and Structured Securities held in our Cash and
investments portfolio).
Income on ""Guarantee obligation for Participation CertiÑcates'' totaled $732 million, $925 million and
$592 million in 2004, 2003 and 2002, respectively.
In 2004, our Guarantee obligation for Participation CertiÑcates on our consolidated balance sheets
increased, but our Income on ""Guarantee obligation for Participation CertiÑcates'' decreased from $925 mil-
lion to $732 million because liquidations slowed during 2004 compared to 2003. The full-year annualized
liquidation rate for our Outstanding PCs and Structured Securities was 29 percent in 2004 as compared to
63 percent in 2003, which resulted in lower amortization under the Declining Unpaid Principal Balance
Method in 2004 compared to 2003.
Amortization of credit fees and buy downs increased $71 million during 2004 due to increased balances
and a full year of amortization. See ""Table 24 Ì Quarterly and Annual Income on Guarantee Obligation for
2004 and 2003'' for more information. In 2003, an increase in the balance of guarantee obligation, combined
with a 63 percent annualized liquidation rate on outstanding PCs and Structured Securities, resulted in
$925 million of income recognized on the amortization of our guarantee obligation.
Prior to January 1, 2003, we marked our guarantee obligation to fair value through earnings and, after
that date, we began amortizing the initial balance of such guarantee obligations through Income on
""Guarantee obligation for Participation CertiÑcates'' based on the Declining Unpaid Principal Balance
Method. Accordingly, the 2002 Income on ""Guarantee obligation for Participation CertiÑcates'' must be
analyzed separately (see ""Table 23 Ì Attribution of Change Ì Guarantee Obligation for 2002'').
Table 23 summarizes the attribution of changes in the fair value of the guarantee obligation for 2002. The
guarantee obligation for 2002 was established at its initial fair value, which is determined by estimating the
amount and timing of cash Öows related to the guarantee obligation. Factors in determining the fair value of
the guarantee obligation include expectations about house price appreciation, interest rates, default rates, loan
prepayment rates and other economic factors that inÖuence expected credit losses and expected income
Freddie Mac
51