Wells Fargo 2012 Annual Report Download - page 137

the aggregation of each funded grade pool. These historic loss
factors are also used to estimate losses for unfunded credit
commitments. In the development of our statistically derived
loan grade loss factors, we observe historical losses over a
relevant period for each loan grade. These loss estimates are
adjusted as appropriate based on additional analysis of long-
term average loss experience compared to previously forecasted
losses, external loss data or other risks identified from current
economic conditions and credit quality trends.
The allowance also includes an amount for the estimated
impairment on nonaccrual commercial loans and commercial
loans modified in a TDR, whether on accrual or nonaccrual
status.
CONSUMER PORTFOLIO SEGMENT ACL METHODOLOGY For
consumer loans, not identified as a TDR, we determine the
allowance predominantly on a collective basis utilizing
forecasted losses to represent our best estimate of inherent loss.
We pool loans, generally by product types with similar risk
characteristics, such as residential real estate mortgages and
credit cards. As appropriate and to achieve greater accuracy, we
may further stratify selected portfolios by sub-product,
origination channel, vintage, loss type, geographic location and
other predictive characteristics. Models designed for each pool
are utilized to develop the loss estimates. We use assumptions
for these pools in our forecast models, such as historic
delinquency and default, loss severity, home price trends,
unemployment trends, and other key economic variables that
may influence the frequency and severity of losses in the pool.
In determining the appropriate allowance attributable to our
residential mortgage portfolio, we take into consideration
portfolios determined to be at elevated risk, such as junior lien
mortgages behind delinquent first lien mortgages and junior lien
lines of credit subject to near term significant payment increases.
We incorporate the default rates and high severity of loss for
these higher risk portfolios including the impact of our
established loan modification programs. When modifications
occur or are probable to occur, our allowance considers the
impact of these modifications, taking into consideration the
associated credit cost, including re-defaults of modified loans
and projected loss severity. Accordingly, the loss content
associated with the effects of existing and probable loan
modifications and higher risk portfolios has been captured in our
allowance methodology.
We separately estimate impairment for consumer loans that
have been modified in a TDR (including trial modifications),
whether on accrual or nonaccrual status.
OTHER ACL MATTERS The allowance for credit losses for both
portfolio segments includes an amount for imprecision or
uncertainty that may change from period to period. This amount
represents management’s judgment of risks inherent in the
processes and assumptions used in establishing the allowance.
This imprecision considers economic environmental factors,
modeling assumptions and performance, process risk, and other
subjective factors, including industry trends and risk
assessments for our commitments to regulatory and government
agencies regarding settlements of mortgage foreclosure-related
matters.
Securitizations and Beneficial Interests
In certain asset securitization transactions that meet the
applicable criteria to be accounted for as a sale, assets are sold to
an entity referred to as an SPE, which then issues beneficial
interests in the form of senior and subordinated interests
collateralized by the assets. In some cases, we may retain
beneficial interests issued by the entity. Additionally, from time
to time, we may also re-securitize certain assets in a new
securitization transaction.
The assets and liabilities transferred to an SPE are excluded
from our consolidated balance sheet if the transfer qualifies as a
sale and we are not required to consolidate the SPE.
For transfers of financial assets recorded as sales, we
recognize and initially measure at fair value all assets obtained
(including beneficial interests) and liabilities incurred. We
record a gain or loss in noninterest income for the difference
between the carrying amount and the fair value of the assets
sold. Fair values are based on quoted market prices, quoted
market prices for similar assets, or if market prices are not
available, then the fair value is estimated using discounted cash
flow analyses with assumptions for credit losses, prepayments
and discount rates that are corroborated by and verified against
market observable data, where possible. Retained interests from
securitizations with off-balance sheet entities, including SPEs
and VIEs where we are not the primary beneficiary, are classified
as available for sale securities, trading account assets or loans,
and are accounted for as described herein.
Mortgage Servicing Rights (MSRs)
We recognize the rights to service mortgage loans for others, or
MSRs, as assets whether we purchase the MSRs or the MSRs
result from a sale or securitization of loans we originate (asset
transfers). We initially record all of our MSRs at fair value.
Subsequently, residential loan MSRs are carried at fair value. All
of our MSRs related to our commercial mortgage loans are
subsequently measured at LOCOM.
We base the fair value of MSRs on the present value of
estimated future net servicing income cash flows. We estimate
future net servicing income cash flows with assumptions that
market participants would use to estimate fair value, including
estimates of prepayment speeds (which are influenced by
changes in mortgage interest rates and borrower behavior,
including estimates for borrower default), discount rates, cost to
service (including delinquency and foreclosure costs), escrow
account earnings, contractual servicing fee income, ancillary
income and late fees. Our valuation approach is validated by our
internal valuation model validation group and our valuation
estimates are periodically benchmarked to third party appraisals
on a quarterly basis.
Changes in the fair value of MSRs occur primarily due to the
collection/realization of expected cash flows, as well as changes
in valuation inputs and assumptions. For MSRs carried at fair
value, changes in fair value are reported in noninterest income in
the period in which the change occurs. MSRs subsequently
measured at LOCOM are amortized in proportion to, and over
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