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17) Fair Value of Financial Instruments
 12 Months Ended
Dec. 31, 2017
Notes  
17) Fair Value of Financial Instruments

17)       Fair Value of Financial Instruments

 

GAAP defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants. GAAP also specifies a fair value hierarchy based upon the observability of inputs used in valuation techniques. Observable inputs (highest level) reflect market data obtained from independent sources, while unobservable inputs (lowest level) reflect internally developed market assumptions. Fair value measurements are classified under the following hierarchy:

                                                                                               

Level 1:  Financial assets and financial liabilities whose values are based on unadjusted quoted prices for identical assets or liabilities in an active market that the Company can access.

 

Level 2: Financial assets and financial liabilities whose values are based on the following:

a) Quoted prices for similar assets or liabilities in active markets;

b) Quoted prices for identical or similar assets or liabilities in non-active markets; or

c) Valuation models whose inputs are observable, directly or indirectly, for substantially the full term of the asset or liability.

 

Level 3:  Financial assets and financial liabilities whose values are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement. These inputs may reflect the Company’s estimates of the assumptions that market participants would use in valuing the financial assets and financial liabilities.

 

The Company utilizes a combination of third-party valuation service providers, brokers, and internal valuation models to determine fair value.

 

The following methods and assumptions were used by the Company in estimating the fair value disclosures related to significant financial instruments:

 

The items shown under Level 1 and Level 2 are valued as follows:

 

Securities Available for Sale and Held to Maturity: The fair values of investments in fixed maturity and equity securities along with methods used to estimate such values are disclosed in Note 2 of the Notes to Consolidated Financial Statements.

 

Restricted Assets: A portion of these assets include mutual funds, equity securities and fixed maturity securities that have quoted market prices that are used to determine fair value. Also included are cash and cash equivalents and participations in mortgage loans held for investment.

 

Cemetery Endowment Care Trust Investments:  A portion of these assets include equity securities and fixed maturity securities that have quoted market prices that are used to determine fair value. Also included are cash and cash equivalents, participations in mortgage loans held for investment and real estate.

 

Call and Put Options: The Company uses quoted market prices to value its call and put options.

 

Additionally, there were no transfers between Level 1 and Level 2 in the fair value hierarchy.

 

The items shown under Level 3 are valued as follows:

 

Loans Held for Sale, at Fair Value: The Company elected the fair value option for all loans held for sale originated after July 1, 2017. The fair value is based on quoted market prices, when available.  When a quoted market price is not readily available, the Company uses the market price from its last sale of similar assets.

 

Loan Commitments and Forward Sale Commitments: The Company’s mortgage segment enters into loan commitments with potential borrowers and forward sale commitments to sell loans to third-party investors. The Company also uses a hedging strategy for these transactions. A loan commitment binds the Company to lend funds to a qualified borrower at a specified interest rate and within a specified period of time, generally up to 30 days after issuance of the loan commitment. Loan commitments are defined to be derivatives under GAAP and are recognized at fair value on the consolidated balance sheets with changes in their fair values recorded in current earnings.

 

The Company estimates the fair value of a loan commitment based on the change in estimated fair value of the underlying mortgage loan, quoted MBS prices, estimates of the fair value of mortgage servicing rights, and an estimate of the probability that the mortgage loan will fund within the terms of the commitment. The change in fair value of the underlying mortgage loan is measured from the date the loan commitment is issued. Following issuance, the value of a mortgage loan commitment can be either positive or negative depending upon the change in value of the underlying mortgage loans. Fallout rates and other factors from the Company’s recent historical data are used to estimate the quantity and value of mortgage loans that will fund within the terms of the commitments.

 

Interest Rate Swaps: Management considers interest rate swap instruments to be an effective cash flow hedge against the variable interest rate on bank borrowings since the interest rate swap mirrors the term of the note payable and expires on the maturity date of the bank loan it hedges. Interest rate swaps are derivative financial instruments carried at their fair value, which is derived from a model that factors in current market assumptions about future interest rates.

 

Impaired Mortgage Loans Held for Investment: The Company believes that the fair value of these nonperforming loans will approximate the unpaid principal balance expected to be recovered based on the fair value of the underlying collateral.  For residential and commercial properties, the collateral value is estimated by obtaining an independent appraisal.  The appraisal typically considers area comparables and property condition as well as potential rental income that could be generated (particularly for commercial properties).  For residential construction loans, the collateral is typically incomplete, so fair value is estimated as the replacement cost using data from Marshall and Swift, a provider of building cost information to the real estate construction.

 

Real Estate Held for Investment: The Company believes that in an orderly market, fair value will approximate the replacement cost of a home and the rental income provides a cash flow stream for investment analysis. The Company believes the highest and best use of the properties are as income producing assets since it is the Company’s intent to hold the properties as rental properties, matching the income from the investment in rental properties with the funds required for future estimated policy claims.

 

It should be noted that for replacement cost, when determining the fair value of mortgage properties, the Company uses Marshall and Swift, a provider of building cost information to the real estate construction industry. For the investment analysis, the Company used market data based upon its real estate operation experience and projected the present value of the net rental income over seven years. The Company also considers area comparables and property condition when determining fair value.

 

In addition to this analysis performed by the Company, the Company depreciates Real Estate Held for Investment. This depreciation reduces the book value of these properties and lessens the exposure to the Company from further deterioration in real estate values.

 

Mortgage Servicing Rights: The Company initially recognizes MSRs at their estimated fair values derived from the net cash flows associated with the servicing contracts, where the Company assumes the obligation to service the loan in the sale transaction. The precise fair value of MSRs cannot be readily determined because MSRs are not actively traded in stand-alone markets. Considerable judgment is required to estimate the fair values of these assets and the exercise of such judgment can significantly affect the Company’s earnings.

 

The following table summarizes Level 1, 2 and 3 financial assets and financial liabilities measured at fair value on a recurring basis by their classification in the consolidated balance sheet at December 31, 2017.

 

 

Total

 

Quoted Prices in Active Markets for Identical Assets (Level 1)

 

Significant Observable Inputs (Level 2)

 

Significant Unobservable Inputs (Level 3)

Assets accounted for at fair value on a    recurring basis

Common stock

 $           6,037,855

 $          6,037,855

 $                 -

 $                         -

Total securities available for sale

 $           6,037,855

 

 $          6,037,855

 

 $                 -

 

 $                         -

Loans held for sale

          133,414,188

         133,414,188

Restricted assets (1)

                 809,958

                809,958

                    -

                            -

Cemetery perpetual care trust investments (1)

                 682,315

                682,315

                    -

                            -

Derivatives - loan commitments (2)

              2,032,782

                           -

                    -

             2,032,782

Total assets accounted for at fair value on a    recurring basis

 $           9,562,910

 $          7,530,128

 $                 -

 $          2,032,782

Liabilities accounted for at fair value on a    recurring basis

Derivatives - call options (3)

 $              (64,689)

 $             (64,689)

 $                 -

 $                         -

Derivatives - put options (3)

                 (20,568)

                (20,568)

                    -

                            -

Derivatives - loan commitments (3)

                 (36,193)

                           -

                    -

                (36,193)

Total liabilities accounted for at fair value    on a recurring basis

 $            (121,450)

 $             (85,257)

 $                 -

 $             (36,193)

                              

(1) Mutual funds and equity securities

(2) Included in other assets on the consolidated balance sheets

(3) Included in other liabilities and accrued expenses on the consolidated balance sheets

 

For Level 3 assets and liabilities measured at fair value on a recurring basis as of December 31, 2017, the significant unobservable inputs used in the fair value measurements were as follows:

 

Significant

Range of Inputs

Fair Value at

Valuation

Unobservable

Minimum

Maximum

Weighted

12/31/2017

Technique

Input(s)

Value

Value

Average

Loans held for sale

$ 133,414,188

Market approach

Investor contract pricing as a percentage of unpaid principal balance

100.0%

110.5%

102.8%

Derivatives - loan commitments (net)

    1,996,589

Market approach

Fall-out factor

1.0%

99.0%

19.0%

Initial-Value

N/A

N/A

N/A

Servicing

151 bps

382 bps

275 bps

 

Following is a summary of changes in the consolidated balance sheet line items measured using level 3 inputs:

 

 

 Net Derivatives Loan Commitments

Bank Loan Interest Rate Swaps

 Loans Held for Sale

Balance - December 31, 2016, as restated

 $           6,809,332

 $                (3,308)

 $                         -

Originations

      1,233,683,666

Sales

     (1,151,031,388)

Total gains (losses):

Included in earnings (1)

             (4,812,743)

                            -

           50,761,910

Included in other comprehensive income (2)

                             -

                    3,308

                            -

Balance - December 31, 2017

 $           1,996,589

 $                         -

 $      133,414,188

(1) As a component of mortgage fee income on the consolidated statements of earnings

(2) As a component of unrealized gains on derivative instruments on the consolidated statements of comprehensive income

 

The following tables summarize Level 1, 2 and 3 financial assets and financial liabilities measured at fair value on a nonrecurring basis by their classification in the consolidated balance sheet at December 31, 2017.

 

 

Total

 

Quoted Prices in Active Markets for Identical Assets (Level 1)

 

Significant Observable Inputs (Level 2)

 

Significant Unobservable Inputs (Level 3)

Assets accounted for at fair value on a    nonrecurring basis

Impaired mortgage loans held for investment

 $        1,363,440

 $                        -

 $                -

 $        1,363,440

Mortgage servicing rights additions

           6,085,352

                           -

                   -

           6,085,352

Impaired real estate held for investment

           8,500,000

                           -

                   -

           8,500,000

Impaired fixed maturity securities, held to maturity

              426,984

                           -

        426,984

                        -  

Total assets accounted for at fair value on    a nonrecurring basis

 $      16,375,776

 $                        -

 $     426,984

 $      15,948,792

 

The following table summarizes Level 1, 2 and 3 financial assets and financial liabilities measured at fair value on a recurring basis by their classification in the consolidated balance sheet at December 31, 2016.

 

 

Total

 

Quoted Prices in Active Markets for Identical Assets (Level 1)

 

Significant Observable Inputs (Level 2)

 

Significant Unobservable Inputs (Level 3)

Assets accounted for at fair value on a    recurring basis

Common stock

 $           9,911,256

 $          9,911,256

 $                 -

 $                         -

Total securities available for sale

 $           9,911,256

 $          9,911,256

 $                 -

 $                         -

Restricted assets (1)

 $              736,603

 $             736,603

 $                 -

 $                         -

Cemetery perpetual care trust investments (1)

                 698,202

                698,202

                    -

                            -

Derivatives - loan commitments (2)

              6,911,544

                           -

                    -

             6,911,544

Total assets accounted for at fair value on a    recurring basis

 $         18,257,605

 $        11,346,061

 $                 -

 $          6,911,544

Liabilities accounted for at fair value on a    recurring basis

Derivatives  - bank loan interest rate swaps (3)

 $                (3,308)

 $                 -

 $               (3,308)

- call options (4)

               (109,474)

              (109,474)

                    -

                            -

- put options (4)

                 (26,494)

                (26,494)

                    -

                            -

- loan commitments (4)

               (102,212)

                           -

                    -

              (102,212)

Total liabilities accounted for at fair value    on a recurring basis

 $            (241,488)

 $           (135,968)

 $                 -

 $           (105,520)

                             

(1) Mutual funds and equity securities

(2) Included in other assets on the consolidated balance sheets

(3) Included in bank and other loans payable on the consolidated balance sheets

(4) Included in other liabilities and accrued expenses on the consolidated balance sheets

 

Following is a summary of changes in the consolidated balance sheet line items measured using level 3 inputs:

 

 

 Net Derivatives Loan Commitments

Bank Loan Interest Rate Swaps

Balance - December 31, 2015, as restated

 $         7,671,495

 $       (13,947)

Total gains (losses):

Included in earnings (1)

             (862,163)

 -

Included in other comprehensive income (2)

                          -

            10,639

Balance - December 31, 2016, as restated

 $         6,809,332

 $         (3,308)

                         

(1) As a component of mortgage fee income on the consolidated statements of earnings

(2) As a component of unrealized gains on derivative instruments on the consolidated statements of comprehensive income

 

The following tables summarize Level 1, 2 and 3 financial assets and financial liabilities measured at fair value on a nonrecurring basis by their classification in the consolidated balance sheet at December 31, 2016.

 

 

Total

 

Quoted Prices in Active Markets for Identical Assets (Level 1)

 

Significant Observable Inputs (Level 2)

 

Significant Unobservable Inputs (Level 3)

Assets accounted for at fair value on a    nonrecurring basis

Impaired mortgage loans held for investment

 $        2,809,925

 $                        -

 $                -

 $        2,809,925

Mortgage servicing rights additions

           8,603,154

                           -

                   -

           8,603,154

Impaired real estate held for investment

           2,347,820

                           -

                   -

           2,347,820

Total assets accounted for at fair value on    a nonrecurring basis

 $      13,760,899

 $                        -

 $                -

 $      13,760,899

 

Fair Value of Financial Instruments Carried at Other Than Fair Value

 

ASC 825, Financial Instruments, requires disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate that value.

 

Management uses its best judgment in estimating the fair value of the Company’s financial instruments; however, there are inherent limitations in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates presented herein are not necessarily indicative of the amounts the Company could have realized in a sales transaction at December 31, 2017 and 2016.

 

The carrying values and estimated fair values for such financial instruments, and their corresponding placement in the fair value hierarchy, are summarized as follows as of December 31, 2017:

 

 

Carrying Value

 

Level 1

 

Level 2

 

Level 3

 

Total Estimated Fair Value

Assets

Fixed maturity securities, held to maturity

 $     228,397,623

 $                  -

 $   233,806,219

 $         7,692,190

 $     241,498,409

Mortgage loans held for investment

   Residential

          99,816,535

                     -

                         -

        106,050,169

        106,050,169

   Residential construction

          49,694,025

                     -

                         -

          49,694,025

          49,694,025

   Commercial

          54,700,325

                     -

                         -

          56,473,156

          56,473,156

Mortgage loans held for investment, net

 $     204,210,885

 $                  -

 $                      -

 $     212,217,350

 $     212,217,350

Policy loans

            6,531,352

                     -

                         -

            6,531,352

            6,531,352

Insurance assignments, net (1)

          35,455,098

                     -

                         -

          35,455,098

          35,455,098

Restricted assets (2)

            1,130,088

                     -

          1,152,324

                         -  

            1,152,324

Restricted assets (3)

            1,701,811

                     -

                         -

            1,796,910

            1,796,910

Cemetery perpetual care trust investments (2)

               943,211

                     -

             953,404

                         -  

               953,404

Cemetery perpetual care trust investments (3)

                   4,128

                     -

                         -

                   4,411

                   4,411

Mortgage servicing rights, net

          21,376,937

                     -

                         -

          27,427,174

          27,427,174

Liabilities

Bank and other loans payable

 $   (157,450,925)

 $                  -

 $                      -

 $   (157,450,925)

 $   (157,450,925)

Policyholder account balances (4)

        (47,867,037)

                     -

                         -

        (34,557,111)

        (34,557,111)

Future policy benefits - annuities (4)

        (99,474,392)

                     -

                         -

        (98,827,107)

        (98,827,107)

                               

(1) Included in other investments and policy loans on the consolidated balance sheets

(2) Fixed maturity securities held to maturity

(3) Participation in mortgage loans held for investment (commercial)

(4) Included in future policy benefits and unpaid claims on the consolidated balance sheets

 

The carrying values and estimated fair values for such financial instruments, and their corresponding placement in the fair value hierarchy, are summarized as follows as of December 31, 2016:

 

 

Carrying Value

 

Level 1

 

Level 2

 

Level 3

 

Total Estimated Fair Value

Assets

Fixed maturity securities, held to maturity

 $     184,979,644

 $                  -

 $   191,850,749

 $                        -

 $     191,850,749

Mortgage loans held for investment

  Residential

          57,096,961

                     -

                         -

          61,357,393

          61,357,393

  Residential construction

          40,700,003

                     -

                         -

          40,700,003

          40,700,003

  Commercial

          51,193,768

                     -

                         -

          53,299,800

          53,299,800

Mortgage loans held for investment, net

 $     148,990,732

 $                  -

 $                      -

 $     155,357,196

 $     155,357,196

Loans held for sale

        189,139,832

                     -

                         -

        192,289,854

        192,289,854

Policy loans

            6,694,148

                     -

                         -

            6,694,148

            6,694,148

Insurance assignments, net (1)

          32,477,246

                     -

                         -

          32,477,246

          32,477,246

Short-term investments

          27,560,040

                     -

                         -

          27,560,040

          27,560,040

Restricted assets (2)

               990,613

                     -

             991,528

                         -  

               991,528

Restricted assets (3)

            1,575,044

                     -

                         -

            1,651,539

            1,651,539

Cemetery perpetual care trust investments (2)

               885,729

                     -

             892,260

                         -  

               892,260

Cemetery perpetual care trust investments (3)

                   3,821

                     -

                         -

                   3,863

                   3,863

Mortgage servicing rights, net

          18,872,362

                     -

                         -

          25,496,832

          25,496,832

Liabilities

Bank and other loans payable

 $   (152,137,341)

 $                  -

 $                      -

 $   (152,137,341)

 $   (152,137,341)

Policyholder account balances (4)

        (49,421,125)

                     -

                         -

        (38,530,031)

        (38,530,031)

Future policy benefits - annuities (4)

        (99,385,662)

                     -

                         -

      (100,253,261)

      (100,253,261)

                               

(1) Included in other investments and policy loans on the consolidated balance sheets

(2) Fixed maturity securities held to maturity

(3) Participation in mortgage loans held for investment (commercial)

(4) Included in future policy benefits and unpaid claims on the consolidated balance sheets

 

The methods, assumptions and significant valuation techniques and inputs used to estimate the fair value of financial instruments are summarized as follows:

 

Fixed Maturity Securities, Held to Maturity: The fair values of fixed maturity securities are based on quoted market prices, when available. For fixed maturity securities not actively traded, fair values are estimated using values obtained from independent pricing services, or in the case of private placements, are estimated by discounting expected future cash flows using a current market value applicable to the coupon rate, credit and maturity of the investments.

 

Mortgage Loans Held for Investment: The estimated fair value of the Company’s mortgage loans held for investment is determined using various methods. The Company’s mortgage loans are grouped into three categories: Residential, Residential Construction and Commercial. When estimating the expected future cash flows, it is assumed that all loans will be held to maturity, and any loans that are non-performing are evaluated individually for impairment.

 

Residential – The estimated fair value of mortgage loans is determined through a combination of discounted cash flows (estimating expected future cash flows of interest payments and discounting them using current interest rates from single family mortgages) and considering pricing of similar loans that were sold or priced recently.

 

Residential Construction – These loans are primarily short in maturity accordingly, the estimated fair value is determined to be the carrying value.

 

Commercial – The estimated fair value is determined by estimating expected future cash flows of interest payments and discounting them using current interest rates for commercial mortgages.

 

Loans Held for Sale, at Amortized Cost: The fair value is based on quoted market prices, when available.  When a quoted market price is not readily available, the Company uses the market price from its last sale of similar assets.

 

Policy Loans: The carrying amounts reported in the accompanying consolidated balance sheet for these financial instruments approximate their fair values because they are fully collateralized by the cash surrender value of the underlying insurance policies.

 

Insurance Assignments, Net: These investments are short in maturity accordingly, the carrying amounts reported in the accompanying condensed consolidated balance sheet for these financial instruments approximate their fair values.

 

Short-Term Investments: The carrying amounts reported in the accompanying consolidated balance sheet for these financial instruments approximate their fair values due to their short-term nature.

 

Bank and Other Loans Payable: The carrying amounts reported in the accompanying consolidated balance sheet for these financial instruments approximate their fair values due to their relatively short-term maturities and variable interest rates.

 

Policyholder Account Balances and Future Policy Benefits-Annuities:  Future policy benefit reserves for interest-sensitive insurance products are computed under a retrospective deposit method and represent policy account balances before applicable surrender charges. Policy benefits and claims that are charged to expense include benefit claims incurred in the period in excess of related policy account balances. Interest crediting rates for interest-sensitive insurance products ranged from 1.5% to 6.5%. The fair values for these investment-type insurance contracts are estimated based on the present value of liability cash flows.

 

The fair values for the Company’s insurance contracts other than investment-type contracts are not required to be disclosed. However, the fair values of liabilities under all insurance contracts are taken into consideration in the Company’s overall management of interest rate risk, such that the Company’s exposure to changing interest rates is minimized through the matching of investment maturities with amounts due under insurance contracts.