TD Bank 2014 Annual Report Download - page 133

TD BANK GROUP ANNUAL REPORT 2014 FINANCIAL RESULTS 131
Acquired Credit-Impaired Loans
ACI loans are identified as impaired at acquisition based on specific risk
characteristics of the loans, including past due status, performance
history and recent borrower credit scores.
ACI loans are accounted for based on the present value of expected
cash flows as opposed to their contractual cash flows. The Bank
determines the fair value of these loans at the acquisition date by
discounting expected cash flows at a discount rate that reflects factors
a market participant would use when determining fair value including
management assumptions relating to default rates, loss severities, the
amount and timing of prepayments, and other factors that are reflec-
tive
of current market conditions. With respect to certain individually
significant ACI loans, accounting is applied individually at the loan
level. The remaining ACI loans are aggregated provided that they are
acquired in the same fiscal quarter and have common risk characteristics.
Aggregated loans are accounted for as a single asset with aggregated
cash flows and a single composite interest rate.
Subsequent to acquisition, the Bank regularly reassesses and updates
its cash flow estimates for changes to assumptions relating to default
rates, loss severities, the amount and timing of prepayments, and
other factors that are reflective of current market conditions. Probable
decreases in expected cash flows trigger the recognition of additional
impairment, which is measured based on the present value of the
revised expected cash flows discounted at the loan’s EIR as compared
to the carrying value of the loan. Impairment is recorded through the
provision for credit losses.
Probable and significant increases in expected cash flows would first
reverse any previously taken impairment with any remaining increase
recognized in income immediately as interest income. In addition, for
fixed-rate ACI loans the timing of expected cash flows may increase
or decrease which may result in adjustments through interest income
to the carrying value in order to maintain the inception yield of the
ACI loan.
If the timing and/or amounts of expected cash flows on ACI
loans were determined not to be reasonably estimable, no interest
is recognized.
Federal Deposit Insurance Corporation Covered Loans
Loans subject to loss share agreements with the Federal Deposit
Insurance Corporation (FDIC) are considered FDIC covered loans.
The amounts expected to be reimbursed by the FDIC are considered
separately as indemnification assets and are initially measured at fair
value. If losses on the portfolio are greater than amounts expected
at the acquisition date, an impairment loss is taken by establishing an
allowance for credit losses, which is determined on a gross basis,
exclusive of any adjustments to the indemnification assets.
Indemnification assets are subsequently adjusted for any changes in
estimates related to the overall collectability of the underlying loan
portfolio. Any additional impairment of the underlying loan portfolio
generally results in an increase of the indemnification asset through
the provision for credit losses. Alternatively, decreases in the expecta-
tion of losses of the underlying loan portfolio generally results in a
decrease of the indemnification asset through net interest income (or
through the provision for credit losses if impairment was previously
taken). The indemnification asset is drawn down as payments are
received from the FDIC pertaining to the loss share agreements.
FDIC covered loans are recorded in Loans on the Consolidated
Balance Sheet. The indemnification assets are recorded in Other assets
on the Consolidated Balance Sheet.
At the end of each loss share period, the Bank may be required to
make a payment to the FDIC if actual losses incurred are less than the
intrinsic loss estimate as defined in the loss share agreements. The
payment is determined as 20% of the excess between the intrinsic loss
estimate and actual covered losses determined in accordance with the
loss sharing agreement, net of specified servicing costs. The fair value
of the estimated payment is included in part of the indemnification
asset at the date of acquisition. Subsequent changes to the estimated
payment are considered in determining the adjustment to the indemni-
fication asset as described above.
A loan is written off against the related allowance for credit losses
when there is no realistic prospect of recovery. Non-retail loans are
generally written off when all reasonable collection efforts have been
exhausted, such as when a loan is sold, when all security has been
realized, or when all security has been resolved with the receiver or
bankruptcy court. Non-real estate secured retail loans are generally
written off when contractual payments are 180 days past due, or
when a loan is sold. Real-estate secured retail loans are generally
written off when the security is realized.
Counterparty-Specific Allowance
Individually significant loans, such as the Bank’s medium-sized business
and government loans and debt securities classified as loans, are
assessed for impairment at the counterparty-specific level. The impair-
ment assessment is based on the counterparty’s credit ratings, overall
financial condition, and where applicable, the realizable value of the
collateral. Collateral is reviewed at least annually and when conditions
arise indicating an earlier review is necessary. An allowance, if applica-
ble, is measured as the difference between the carrying amount of the
loan and the estimated recoverable amount. The estimated recoverable
amount is the present value of the estimated future cash flows,
discounted using the loan’s original EIR.
Collectively Assessed Allowance for Individually Insignificant
Impaired Loans
Individually insignificant impaired loans, such as the Bank’s personal
and small business loans and credit cards, are collectively assessed for
impairment. Allowances are calculated using a formula that incorporates
recent loss experience, historical default rates which are delinquency
levels in interest or principal payments that indicate impairment, other
applicable currently observable data, and the type of collateral pledged.
Collectively Assessed Allowance for Incurred but Not Identified
Credit Losses
If there is no objective evidence of impairment for an individual loan,
whether significant or not, the loan is included in a group of assets
with similar credit risk characteristics and collectively assessed for
impairment for losses incurred but not identified. This allowance is
referred to as the allowance for incurred but not identified credit
losses. The level of the allowance for each group depends upon an
assessment of business and economic conditions, historical loss
experience, loan portfolio composition, and other relevant indicators.
Historical loss experience is adjusted based on current observable data
to reflect the effects of current conditions. The allowance for incurred
but not identified credit losses is calculated using credit risk models
that consider probability of default (loss frequency), loss given credit
default (loss severity), and exposure at default. For purposes of
measuring the collectively assessed allowance for incurred but not
identified credit losses, default is defined as delinquency levels in
interest or principal payments that would indicate impairment.
Acquired Loans
Acquired loans are initially measured at fair value which considers
incurred and expected future credit losses estimated at the acquisition
date and also reflects adjustments based on the acquired loan’s
interest rate in comparison to the current market rates. As a result,
no allowance for credit losses is recorded on the date of acquisition.
When loans are acquired with evidence of incurred credit loss where
it is probable at the purchase date that the Bank will be unable to
collect all contractually required principal and interest payments, they
are generally considered to be acquired credit-impaired (ACI) loans.
Acquired performing loans are subsequently accounted for at amor-
tized cost based on their contractual cash flows and any acquisition
related discount or premium is considered to be an adjustment to the
loan yield and is recognized in interest income using the EIRM over the
term of the loan, or the expected life of the loan for acquired loans
with revolving terms. Credit related discounts relating to incurred
losses for acquired loans are not accreted. Acquired loans are subject
to impairment assessments under the Bank’s credit loss framework
similar to the Bank’s originated loan portfolio.