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Loss and Loss Adjustment Expense Reserves | 3 Months Ended
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Mar. 31, 2020
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Loss and Loss Adjustment Expense Reserves | Note 5: Loss and Loss Adjustment Expense Reserves U.S. Public Finance Insurance U.S. public finance insured transactions consist of municipal bonds, including tax-exempt and taxable indebtedness of U.S. political subdivisions, as well as utilities, airports, health care institutions, higher educational facilities, student loan issuers, housing authorities and other similar agencies and obligations issued by private entities that finance projects that serve a substantial public purpose. The Company estimates future losses by using probability-weighted cash flow scenarios that are customized to each insured transaction. Future loss estimates consider debt service due for each insured transaction, which includes par outstanding and interest due, as well as recoveries for such payments, if any. Gross par outstanding for capital appreciation bonds represents the par amount at the time of issuance of the insurance policy. Certain state and local governments and territory obligors that National insures are under financial and budgetary stress. In addition, the COVID-19 pandemic may present additional but unknown credit risks to National’s insured portfolio. Puerto Rico had been experiencing significant fiscal stress and constrained liquidity, and in response, the U.S. Congress passed PROMESA. In formulating loss reserves, the Company considers the following: environmental and political impacts; litigation; ongoing discussions with creditors; timing and amount of debt service payments and future recoveries; existing proposed restructuring plans or agreements; and deviations from these proposals in its probability-weighted scenarios. In September of 2019, National agreed to join the RSA with PREPA, other monoline insurers, a group of uninsured PREPA bondholders, Puerto Rico, and the Oversight Board. Refer to “Note 1: Business Developments and Risk and Uncertainties”, for further information on COVID-19 and the Company’s Puerto Rico exposures. Recoveries on Puerto Rico Losses For recoveries on paid Puerto Rico losses, the estimates include assumptions related to the following: economic conditions and trends; political developments; the Company’s ability to enforce contractual rights through litigation and otherwise; discussions with other creditors and the obligors, any existing proposals; and the remediation strategy for an insured obligation that has defaulted or is expected for default. International and Structured Finance Insurance The international and structured finance insurance segment’s case basis reserves and insurance loss recoveries recorded in accordance with GAAP do not include estimates for a policy insuring a credit derivative or on financial guarantee VIEs that are eliminated in consolidation. The policy insuring a credit derivative contract is accounted for as a derivative and is carried at fair value in the Company’s consolidated financial statements under GAAP. The fair value of the insured credit derivative contract is influenced by a variety of market and transaction-specific factors that may be unrelated to potential future claim payments under the Company’s insurance policy. Refer to “Note 8: Derivative Instruments” for a further discussion of the Company’s use of derivatives and their impact on the Company’s consolidated financial statements. In addition, the COVID-19 may present additional but unknown credit risks to MBIA Corp.’s insured portfolio. Refer to “Note 1: Business Developments and Risk and Uncertainties”, for further information on COVID-19. RMBS Case Basis Reserves (Financial Guarantees) The Company’s RMBS reserves and recoveries relate to financial guarantee insurance policies, excluding those on consolidated VIEs. The Company’s first-lien RMBS case basis reserves primarily relate to RMBS backed by alternative A-paper and subprime mortgage loans. The Company’s second-lien RMBS case basis reserves relate to RMBS backed by home equity lines of credit and closed-end second mortgages. The Company calculated RMBS case basis reserves as of March 31, 2020 for both first and second-lien RMBS transactions using a process called the Roll Rate Methodology (“Roll Rate Methodology”). The Roll Rate Methodology is a multi-step process using databases of loan level information, proprietary internal cash flow models, and commercially available models to estimate potential losses and recoveries on insured bonds. Roll Rate is defined as the probability that current loans become delinquent and subsequently default and loans in the delinquent pipeline are charged-off or liquidated. The loss reserve estimates are based on a probability-weighted average of three scenarios of loan losses. Additional data used for both second and first-liens include historic averages of deal specific voluntary prepayment rates, forward projections of the LIBOR interest rates, and historic averages of deal-specific loss severities. In addition, for second-lien RMBS backed by home equity lines of credit, the Company assumes a constant basis spread between Prime and LIBOR interest rates. In calculating ultimate cumulative losses for RMBS, the Company estimates the amount of second-lien loans that are expected to be charged-off (deemed uncollectible by servicers of the transactions) and, for first-lien RMBS, the Company estimates the amount of loans that are expected to be liquidated in the future through foreclosure or short sale. The time to liquidation for a defaulted loan is specific to the loan’s delinquency bucket. For all RMBS transactions, cash flow models consider allocations and other structural aspects and claims against MBIA Corp.’s insurance policy consistent with such policy’s terms and conditions. The estimated net claims from the procedure above are then discounted using a risk-free rate to a net present value reflecting MBIA’s general obligation to pay claims over time and not on an accelerated basis. The Company monitors RMBS portfolio performance on a monthly basis against projected performance, reviewing delinquencies, roll rates, and prepayment rates (including voluntary and involuntary). However, loan performance remains difficult to predict and losses may exceed expectations. In the event of a material deviation in actual performance from projected performance, the Company would increase or decrease the case basis reserves accordingly and re-evaluate its assumptions. RMBS Recoveries The Company primarily records two types of recoveries related to insured RMBS exposures: excess spread that is generated from the trust structures in the insured transactions; and second-lien “put-back” claims related to those mortgage loans whose inclusion in an insured securitization failed to comply with representations and warranties (“ineligible loans”). Excess Spread Excess spread within insured RMBS securitizations is the difference between interest inflows on mortgage loan collateral and interest outflows on the insured RMBS notes. The aggregate amount of excess spread depends on the future loss trends, which include future delinquency trends, average time to charge-off/liquidate delinquent loans, the future spread between Prime and the LIBOR interest rates, and borrower refinancing behavior (which may be affected by changes in the interest rate environment) that results in voluntary prepayments. Excess spread also includes subsequent recoveries on previously charged-off loans associated with insured second-lien RMBS securitizations. Second-lien Put-Back Claims Related to Ineligible Loans The Company has settled the majority of its put-back claims relating to the inclusion of ineligible loans in securitizations it insured. Only its claims against Credit Suisse remain outstanding. Credit Suisse has challenged the Company’s assessment of the ineligibility of individual mortgage loans and a trial concerning the dispute was held in July and August of 2019. While the Company’s settlement amounts on its prior put-back claims have been consistent with the put-back recoveries that had been included in the Company’s financial statements at the times preceding the settlements, there can be no assurance that the Company will prevail in its litigation against Credit Suisse. However, based on the Company’s assessment of the strength of its contractual put-back rights against Credit Suisse, as well as on its prior settlements with other sellers/servicers and success of other monolines’ put-back settlements, the Company believes it will prevail in enforcing its contractual rights and that it is entitled to collect the full amount of its incurred losses plus contractual interest due. The Company consolidates the RMBS securitization originated by Credit Suisse as a VIE and, therefore, eliminates its estimate of recoveries from its insurance accounting and reflects such recoveries in its accounting for the loan repurchase commitments asset of the VIE using a measurement process similar to that used for insurance accounting. The uncertainty remaining with respect to the ultimate outcome of the litigation with Credit Suisse is contemplated in the probability-weighted scenario based-modeling the Company uses. The Credit Suisse recovery scenarios are based on certain probabilities of ultimate resolution of the dispute with Credit Suisse and the fair values are determined using discounted cash flow models. The Company continues to consider relevant facts and circumstances in developing its assumptions on expected cash inflows, probability of potential recoveries (including the timing and outcome of the litigation) and recovery period. While the Company believes it will be successful in realizing its recoveries from its put-back contract claims against Credit Suisse, the ultimate amount recovered may be materially different from that recorded by the Company given the inherent uncertainty of the manner of resolving the claims (i.e., litigation and/or negotiated out-of-court settlement) and the assumptions used in the required estimation process for accounting purposes which are based, in part, on judgments and other information that are not easily corroborated by historical data or other relevant benchmarks. Refer to “Note 13: Commitments and Contingencies” for further information about the Company’s litigation with Credit Suisse. CDO Reserves and Recoveries The Company also has loss and loss adjustment expense (“LAE”) reserves on certain transactions within its CDO portfolio, primarily its multi-sector CDO asset class that was insured in the form of financial guarantee policies. MBIA’s insured multi-sector CDOs are transactions that include a variety of collateral ranging from corporate bonds to structured finance assets (which includes, but are not limited to, RMBS-related collateral, multi-sector and corporate CDOs). The Company’s process for estimating reserves and credit impairments on these policies is determined as the present value of the probability-weighted potential future losses, net of estimated recoveries, across multiple scenarios. The Company considers several factors when developing the range of potential outcomes and their impact on MBIA. A range of loss scenarios is considered under different default and severity rates for each transaction’s collateral. Additionally, each transaction is evaluated for its commutation potential. Zohar Recoveries MBIA Corp. is seeking to recover the payments it made (plus interest and expenses) with respect to Zohar I and Zohar II. In March of 2018, the then-director of Zohar I and Zohar II placed those funds into voluntary bankruptcy proceedings in federal bankruptcy court in the District of Delaware (the “Zohar Funds Bankruptcy Cases”). In May of 2018, MBIA and certain parties to the Zohar Funds Bankruptcy Cases agreed to a stay of litigation and a process, among other things (the “Zohar Bankruptcy Settlement”) by which the debtor funds, through an independent director and a chief restructuring officer, would work with the original sponsor of the funds to monetize the Zohar Assets and repay creditors, including MBIA Corp. While the stay of litigation provided for in the Zohar Bankruptcy Settlement has expired, the court ruled on September 27, 2019 that the monetization process will continue, which ruling has been appealed though not stayed. While MBIA Corp. anticipates that the primary source of the recoveries will come from the monetization of the Zohar Assets, significant uncertainty remains with respect to realizable value. For example, on October 17, 2019, one of the portfolio companies, Dura Automotive Systems, LLC, and certain of its affiliates, filed for bankruptcy protection in federal bankruptcy court in the Middle District of Tennessee (the “Dura Bankruptcy Cases”). Effective November 8, 2019, the Dura Bankruptcy Cases were transferred to the District of Delaware. The Zohar debtors have substantial debt and equity interests in the Dura debtors, and any recovery on those interests is not expected to be material. In late March of 2020, the original sponsor of the Zohar Funds resigned from her role as director and manager of all the portfolio companies, except for Dura, which companies have debt and equity that comprise, in part, the Zohar Assets. New directors and managers are presently being put in place at these portfolio companies, although the Zohar Sponsor may continue to serve in some capacity at select portfolio companies until a replacement is put in place, and the monetization process remains in progress. There can be no assurance, however, that the recent coronavirus outbreak will not cause the monetization of the Zohar Assets to be delayed or impacted. Salvage and subrogation recoveries related to Zohar I and Zohar II are reported within “Insurance loss recoverable” on the Company’s consolidated balance sheet. The Company’s estimate of the insurance loss recoverable for Zohar I and Zohar II includes probability-weighted scenarios of the ultimate monetized recovery from the Zohar Assets. Notwithstanding the procedures agreed to in the Zohar Bankruptcy Settlement and confirmed by the court, there can be no assurance that the monetization of the Zohar Assets will yield amounts sufficient to permit MBIA Corp. to recover a substantial portion of the payments it made on Zohar I and Zohar II. Failure to recover such payments could impede MBIA Corp.’s ability to make payments when due on other policies. MBIA Corp. believes that if the NYSDFS concludes at any time that MBIA Insurance Corporation will not be able to pay its policyholder claims, the NYSDFS would likely put MBIA Insurance Corporation into a rehabilitation or liquidation proceeding under Article 74 of the NYIL and/or take such other actions as the NYSDFS may deem necessary to protect the interests of MBIA Insurance Corporation’s policyholders. The determination to commence such a proceeding or take other such actions is within the exclusive control of the NYSDFS. Summary of Loss and LAE Reserves and Recoveries The Company’s loss and LAE reserves and recoveries before consolidated VIE eliminations, along with amounts that were eliminated as a result of consolidating VIEs for the international and structured finance insurance segment, which are included in the Company’s consolidated balance sheets as of March 31, 2020 and December 31, 2019 are presented in the following table:
|  | As of March 31, 2020 |  | As of December 31, 2019
In millions |  | Balance Sheet Line Item |  | Balance Sheet Line Item
|  | Insurance loss recoverable |  | Loss and LAE reserves (2) |  | Insurance loss recoverable |  | Loss and LAE reserves (2) |
U.S. Public Finance Insurance |  | $ | 954 |  |  | $ | 451 |  |  | $ | 911 |  |  | $ | 432 |
International and Structured Finance Insurance: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Before VIE eliminations (1) |  |  | 1,181 |  |  |  | 799 |  |  |  | 1,286 |  |  |  | 749 |
VIE eliminations (1) |  |  | (528 | ) |  |  | (284 | ) |  |  | (503 | ) |  |  | (280 | )
Total international and structured finance insurance |  |  | 653 |  |  |  | 515 |  |  |  | 783 |  |  |  | 469 |
Total |  | $ | 1,607 |  |  | $ | 966 |  |  | $ | 1,694 |  |  | $ | 901 |
(1) - | Includes loan repurchase commitments of $506 million and $486 million as of March 31, 2020 and December 31, 2019, respectively.
(2) - | Amounts are net of expected recoveries.
Changes in Loss and LAE Reserves The following table presents changes in the Company’s loss and LAE reserves for the three months ended March 31, 2020. Changes in loss reserves attributable to the accretion of the claim liability discount, changes in discount rates, changes in amount and timing of estimated claim payments and estimated recoveries on such claims, changes in assumptions and changes in LAE reserves are recorded in “Losses and loss adjustment” expenses in the Company’s consolidated statements of operations. As of March 31, 2020, the weighted average risk-free rate used to discount the Company’s loss reserves (claim liability) was 0.73%. LAE reserves are generally expected to be settled within a one-year period and are not discounted. As of March 31, 2020 and December 31, 2019 the Company’s gross loss and LAE reserves included $35 million and $34 million, respectively, related to LAE.
In millions |  |  | Changes in Loss and LAE Reserves for the Three Months Ended March 31, 2020 |  |  |  |
Gross Loss and LAE Reserves as of December 31, 2019 (1) |  |  | Loss Payments |  |  | Accretion of Claim Liability Discount |  |  | Changes in Discount Rates |  |  | Changes in Assumptions |  |  | Changes in Unearned Premium Revenue |  |  | Other |  |  | Gross Loss and LAE Reserves as of March 31, 2020 (1) |
$ | 901 |  |  | $ | (68 | ) |  | $ | 4 |  |  | $ | (98 | ) |  | $ | 222 |  |  | $ | 6 |  |  |  | (1 | ) |  | $ | 966 |
(1) - | Amounts are net of expected recoveries of unpaid claims.
The increase in the Company’s loss reserves for the three months ended March 31, 2020, primarily related to increases in insured first-lien RMBS transactions due to the decline in risk-free rates during the quarter used to present value loss reserves and an increase in expected payments on certain Puerto Rico exposures. This was partially offset by a decrease in reserves due a decline in risk-free rates used to present value loss reserves and actual payments made on certain Puerto Rico exposures. Changes in Insurance Loss Recoverable Insurance loss recoverable represents the Company’s estimate of recoveries on paid claims and LAE. The Company recognizes potential recoveries on paid claims based on the probability-weighted net cash inflows present valued at applicable risk-free rates as of the measurement date. The following table presents changes in the Company’s insurance loss recoverable for the three months ended March 31, 2020. Changes in insurance loss recoverable attributable to the accretion of the discount on the recoverable, changes in discount rates, changes in amount and timing of estimated collections, changes in assumptions and changes in LAE recoveries are recorded in “Losses and loss adjustment” expenses in the Company’s consolidated statements of operations.
|  |  |  |  | Changes in Insurance Loss Recoverable |  |  |  |
|  |  |  |  | for the Three Months Ended March 31, 2020 |  |  |  |
In millions |  | Gross Reserve as of December 31, 2019 |  |  | Collections for Cases |  |  | Accretion of Recoveries |  |  | Changes in Discount Rates |  |  | Changes in Assumptions (1) |  |  | Other (2) |  |  | Gross Reserve as of March 31, 2020 |
Insurance loss recoverable |  | $ | 1,694 |  |  | $ | (8 | ) |  | $ | 7 |  |  | $ | 157 |  |  | $ | (241 | ) |  | $ | (2 | ) |  | $ | 1,607 |
(1) - | Includes amounts related to paid claims and LAE that are expected to be recovered in the future.
(2) - | Primarily changes in amount and timing of collections.
The decrease in the Company’s insurance loss recoverable reflected in the preceding table was primarily due to a decline in expected recoveries on CDOs partially offset by increases in insurance loss recoverables on certain Puerto Rico exposures and RMBS transactions due to a decline in risk-free rates during the three months ended March 31, 2020. Loss and LAE Activity For the three months ended March 31, 2020, loss and LAE incurred primarily related to a decrease in expected salvage collections related to CDOs as well as declines in the risk-free rates during the quarter which increased the present value of the loss reserves, primarily related to first-lien RMBS transactions. For the three months ended March 31, 2019, the benefit to losses and LAE primarily related to an increase in expected recoveries on Puerto Rico exposures partially offset by incurred losses related to first-lien RMBS transactions. Costs associated with remediating insured obligations assigned to the Company’s surveillance categories are recorded as LAE and are included in “Losses and loss adjustment” expenses on the Company’s consolidated statements of operations. For the three months ended March 31, 2020 and 2019, gross LAE related to remediating insured obligations were $9 million and $1 million, respectively. Surveillance Categories The following table provides information about the financial guarantees and related claim liability included in each of MBIA’s surveillance categories as of March 31, 2020:
|  | Surveillance Categories |
$ in millions |  | Caution List Low |  |  | Caution List Medium |  |  | Caution List High |  |  | Classified List |  |  | Total |
Number of policies |  |  | 42 |  |  |  | 18 |  |  |  | - |  |  |  | 219 |  |  |  | 279 |
Number of issues (1) |  |  | 12 |  |  |  | 5 |  |  |  | - |  |  |  | 99 |  |  |  | 116 |
Remaining weighted average contract period (in years) |  |  | 6.6 |  |  |  | 7.1 |  |  |  | - |  |  |  | 7.7 |  |  |  | 7.4 |
Gross insured contractual payments outstanding: (2) |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Principal |  | $ | 1,192 |  |  | $ | 224 |  |  | $ | - |  |  | $ | 3,736 |  |  | $ | 5,152 |
Interest |  |  | 1,914 |  |  |  | 99 |  |  |  | - |  |  |  | 1,566 |  |  |  | 3,579 |
Total |  | $ | 3,106 |  |  | $ | 323 |  |  | $ | - |  |  | $ | 5,302 |  |  | $ | 8,731 |
Gross Claim Liability (3) |  | $ | - |  |  | $ | - |  |  | $ | - |  |  | $ | 1,068 |  |  | $ | 1,068 |
Less: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Gross Potential Recoveries (4) |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 1,781 |  |  |  | 1,781 |
Discount, net (5) |  |  | - |  |  |  | - |  |  |  | - |  |  |  | (91 | ) |  |  | (91 | )
Net claim liability (recoverable) |  | $ | - |  |  | $ | - |  |  | $ | - |  |  | $ | (622 | ) |  | $ | (622 | )
Unearned premium revenue |  | $ | 6 |  |  | $ | 3 |  |  | $ | - |  |  | $ | 38 |  |  | $ | 47 |
Reinsurance recoverable on paid and unpaid losses (6) |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  | $ | 13 |
(1) - | An “issue” represents the aggregate of financial guarantee policies that share the same revenue source for purposes of making debt service payments on the insured debt.
(2) - | Represents contractual principal and interest payments due by the issuer of the obligations insured by MBIA.
(3) - | The gross claim liability with respect to Puerto Rico exposures are net of expected recoveries for policies in a net payable position.
(4) - | Gross potential recoveries with respect to certain Puerto Rico exposures are net of the claim liability for policies in a net recoverable position.
(5) - | Represents discount related to Gross Claim Liability and Gross Potential Recoveries.
(6) - | Included in “Other assets” on the Company’s consolidated balance sheets.
The following table provides information about the financial guarantees and related claim liability included in each of MBIA’s surveillance categories as of December 31, 2019:
|  | Surveillance Categories |
$ in millions |  | Caution List Low |  |  | Caution List Medium |  |  | Caution List High |  |  | Classified List |  |  | Total |
Number of policies |  |  | 45 |  |  |  | 19 |  |  |  | - |  |  |  | 212 |  |  |  | 276 |
Number of issues (1) |  |  | 13 |  |  |  | 5 |  |  |  | - |  |  |  | 94 |  |  |  | 112 |
Remaining weighted average contract period (in years) |  |  | 7.3 |  |  |  | 7.2 |  |  |  | - |  |  |  | 7.9 |  |  |  | 7.7 |
Gross insured contractual payments outstanding: (2) |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Principal |  | $ | 1,546 |  |  | $ | 248 |  |  | $ | - |  |  | $ | 3,794 |  |  | $ | 5,588 |
Interest |  |  | 2,107 |  |  |  | 110 |  |  |  | - |  |  |  | 1,668 |  |  |  | 3,885 |
Total |  | $ | 3,653 |  |  | $ | 358 |  |  | $ | - |  |  | $ | 5,462 |  |  | $ | 9,473 |
Gross Claim Liability (3) |  | $ | - |  |  | $ | - |  |  | $ | - |  |  | $ | 965 |  |  | $ | 965 |
Less: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Gross Potential Recoveries (4) |  |  | - |  |  |  | - |  |  |  | - |  |  |  | 2,184 |  |  |  | 2,184 |
Discount, net (5) |  |  | - |  |  |  | - |  |  |  | - |  |  |  | (453 | ) |  |  | (453 | )
Net claim liability (recoverable) |  | $ | - |  |  | $ | - |  |  | $ | - |  |  | $ | (766 | ) |  | $ | (766 | )
Unearned premium revenue |  | $ | 6 |  |  | $ | 3 |  |  | $ | - |  |  | $ | 39 |  |  | $ | 48 |
Reinsurance recoverable on paid and unpaid losses (6) |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  | $ | 19 |
(1) - | An “issue” represents the aggregate of financial guarantee policies that share the same revenue source for purposes of making debt service payments on the insured debt.
(2) - | Represents contractual principal and interest payments due by the issuer of the obligations insured by MBIA.
(3) - | The gross claim liability with respect to Puerto Rico exposures are net of expected recoveries for policies in a net payable position.
(4) - | Gross potential recoveries with respect to certain Puerto Rico exposures are net of the claim liability for policies in a net recoverable position.
(5) - | Represents discount related to Gross Claim Liability and Gross Potential Recoveries.
(6) - | Included in “Other assets” on the Company’s consolidated balance sheets.

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- Definition The entire disclosure for liabilities related to future policy benefits and unpaid claims and claim adjustments. + References Reference 1: http://www.xbrl.org/2003/role/disclosureRef -Publisher FASB -Name Accounting Standards Codification -Topic 944 -SubTopic 40 -URI http://asc.fasb.org/subtopic&trid=2560295 + Details
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