Note 8 – Mortgage Servicing

Mortgage Servicing Rights – Amortization Method

The following table summarizes the activity in the carrying value of amortization method servicing assets for the three months ended March 31. Amortization of mortgage servicing rights is reported net of the amortization of any servicing liabilities and includes the amount of charges we recognized to increase servicing liability obligations, if any.



	2015			2014
Beginning balance	$	1,820,091		$	1,953,352
Fair value election - transfer to MSRs carried at fair value (1)	(787,142		)	—
Additions recognized in connection with business acquisitions	—			20,324
Additions recognized in connection with asset acquisitions	3,267			6,697
Additions recognized on the sale of mortgage loans	8,528			11,614
Sales (2)	(65,627		)	—
Servicing transfers and adjustments	—			(364		)
	979,117			1,991,623
Amortization	(38,494		)	(62,094		)
Impairment (3)	(17,769		)	—
Ending balance	$	922,854		$	1,929,529

Estimated fair value at end of period	$	1,064,134		$	2,774,910

(1)

Effective January 1, 2015, we elected fair value accounting for a newly-created class of non-Agency MSRs, which were previously accounted for using the amortization method. This irrevocable election applies to all subsequently acquired or originated servicing assets and liabilities that have characteristics consistent with this class. We recorded a cumulative-effect adjustment of $52.0 million (before deferred income taxes of $9.2 million) to retained earnings as of January 1, 2015 to reflect the excess of the fair value of these MSRs over their carrying amount. At December 31, 2014, the UPB of the non-Agency MSRs for which the fair value election was made was $195.3 billion.


(2)	On March 31, 2015, we closed on the sale of Agency MSRs on a portfolio consisting of 76,000 performing loans owned by Freddie Mac with a total UPB of $9.1 billion. We completed the transfer of the loan servicing on April 16, 2015.

(3)

We established a $17.8 million valuation allowance related to impairment on our government-insured MSRs, as the fair value for this stratum was less than its carrying value. This impairment was primarily due to the FHA reducing the mortgage insurance premium rate by 50 basis points during the quarter, which created a significantly lower interest rate for existing FHA borrowers and in turn, generated higher projected prepayment speed and shorter asset life inputs used to value these MSRs. The impairment charge is recognized in Servicing and origination expense in the unaudited Consolidated Statements of Operations.

Mortgage Servicing Rights—Fair Value Measurement Method

This portfolio comprises servicing rights for which we elected the fair value option and includes Agency residential mortgage loans for which we previously hedged the related market risks and a new class of non-Agency residential mortgage loans for which we elected fair value as of January 1, 2015.

The following table summarizes the activity related to fair value servicing assets for the three months ended March 31:



	2015									2014
	Agency			Non-Agency			Total
Beginning balance	$	93,901		$	—		$	93,901		$	116,029
Fair value election - transfer from MSRs carried at amortized cost	—			787,142			787,142			—
Cumulative effect of fair value election	—			52,015			52,015
Sales	—			(947		)	(947		)	—
Servicing transfers and adjustments	—			(1,139		)	(1,139		)	—
Changes in fair value (1):
Changes in valuation inputs or other assumptions	(6,110		)	—			(6,110		)	(3,155		)
Realization of expected future cash flows and other changes	(3,276		)	(23,789		)	(27,065		)	(2,048		)
Ending balance	$	84,515		$	813,282		$	897,797		$	110,826


(1)	Changes in fair value are recognized in Servicing and origination expense in the unaudited Consolidated Statements of Operations.

Because the mortgages underlying these MSRs permit the borrowers to prepay the loans, the value of the MSRs generally tends to diminish in periods of declining interest rates (as prepayments increase) and increase in periods of rising interest rates (as prepayments decrease). The following table summarizes the estimated change in the value of the MSRs that we carry at fair value as of March 31, 2015 given hypothetical instantaneous parallel shifts in the yield curve:



	Adverse change in fair value
	10%			20%
Weighted average prepayment speeds	$	(40,557	)	$	(101,371	)
Discount rate (option-adjusted spread)	$	(22,770	)	$	(44,842	)

The sensitivity analysis measures the potential impact on fair values based on hypothetical changes (increases and decreases) in interest rates.

Portfolio of Assets Serviced

The following table presents the composition of our primary servicing and subservicing portfolios by type of property serviced as measured by UPB. The servicing portfolio represents loans for which we own the MSRs while subservicing represents all other loans. The UPB of assets serviced for others are not included on our unaudited Consolidated Balance Sheets.



	Residential		Commercial		Total
UPB at March 31, 2015
Servicing (1)	$	337,125,187	$	—	$	337,125,187
Subservicing	45,088,815		161,887		45,250,702
	$	382,214,002	$	161,887	$	382,375,889
UPB at December 31, 2014
Servicing (1)	$	361,288,281	$	—	$	361,288,281
Subservicing	37,439,446		149,737		37,589,183
	$	398,727,727	$	149,737	$	398,877,464
UPB at March 31, 2014
Servicing (1)	$	391,701,237	$	—	$	391,701,237
Subservicing	57,869,359		318,507		58,187,866
	$	449,570,596	$	318,507	$	449,889,103


(1)	Includes primary servicing UPB of $156.3 billion, $160.8 billion and $170.8 billion at March 31, 2015, December 31, 2014 and March 31, 2014, respectively, for which the Rights to MSRs have been sold to HLSS.

Residential assets serviced includes foreclosed real estate. Residential assets serviced also includes small-balance commercial assets with a UPB of $2.1 billion, $2.3 billion and $2.5 billion at March 31, 2015, December 31, 2014 and March 31, 2014, respectively. Commercial assets consist of large-balance foreclosed real estate.

A significant portion of the servicing agreements for our non-Agency servicing portfolio contain provisions where we could be terminated as servicer without compensation upon the failure of the serviced loans to meet certain portfolio delinquency or cumulative loss thresholds or in the event we fail to maintain required servicer ratings, among other provisions. As a result of the economic downturn of recent years, the portfolio delinquency and/or cumulative loss threshold provisions have been breached by many private-label securitizations in our non-Agency servicing portfolio. Terminations as servicer as a result of a breach of any of these provisions have been minimal. In the event we are terminated as servicer and the Rights to MSRs were sold to HLSS, now owned by NRZ, we are obligated to compensate NRZ. As a result of the transfer of servicing to another party during the three months ended March 31, 2015 related to Rights to MSRs sold to HLSS, we were required to reimburse HLSS $2.2 million for a percentage of the purchase price for the related Rights to MSRs in accordance with our agreements.

Servicing Revenue

The following table presents the components of servicing and subservicing fees for the three months ended March 31:



	2015		2014
Loan servicing and subservicing fees:
Servicing	$	320,085	$	351,823
Subservicing	30,457		33,725
	350,542		385,548
Home Affordable Modification Program (HAMP) fees	35,176		36,699
Late charges	24,122		36,835
Loan collection fees	9,563		8,294
Custodial accounts (float earnings)	1,896		1,721
Other	25,242		21,362
	$	446,541	$	490,459

Float balances (balances in custodial accounts, which represent collections of principal and interest that we receive from borrowers, are held in escrow by an unaffiliated bank and are excluded from our balance sheet) amounted to $4.0 billion and $3.5 billion at March 31, 2015 and March 31, 2014, respectively.