11. Servicing of Residential Loans

The Company provides servicing for credit-sensitive consumer loans including residential mortgages, manufactured housing and consumer installment loans, and reverse mortgage loans for third parties, as well as for loans recognized on the consolidated balance sheets. The Company also services loans originated and purchased by the Company and sold with servicing rights retained. The Company’s total servicing portfolio consists of accounts serviced for others for which servicing rights have been capitalized, accounts sub-serviced for others, as well as loans held for investment, loans held for sale and real estate owned held for sale recognized on the consolidated balance sheets. In connection with recent acquisitions, the Company capitalized the servicing rights associated with servicing and sub-servicing agreements in existence at the dates of acquisition.

Provided below is a summary of the Company’s total servicing portfolio (dollars in thousands):


	June 30, 2013				December 31, 2012
	Number of Accounts		Unpaid Principal Balance		Number of Accounts		Unpaid Principal Balance
Third-party investors ⁽¹⁾
Capitalized servicing rights		1,319,063	$	140,566,180		415,617	$	23,469,620
Capitalized sub-servicing ⁽²⁾		266,852		14,832,510		289,417		16,333,529
Sub-servicing		263,066		44,628,217		240,226		42,310,373

Total third-party servicing portfolio		1,848,981		200,026,907		945,260		82,113,522
On-balance sheet
Residential loans and real estate owned		111,289		11,199,455		93,721		7,980,667

Total on-balance sheet serviced assets		111,289		11,199,455		93,721		7,980,667

Total servicing portfolio		1,960,270	$	211,226,362		1,038,981	$	90,094,189

(1)	Includes real estate owned serviced for third parties.

(2)	Consists of sub-servicing contracts held by Green Tree and RMS at their respective dates of the acquisition.

The Company’s geographic diversification of its third-party servicing portfolio, based on outstanding unpaid principal balance, is as follows (dollars in thousands):


	June 30, 2013							December 31, 2012
	Number of Accounts		Unpaid Principal Balance		Percentage of Total			Number of Accounts		Unpaid Principal Balance		Percentage of Total
California		204,981	$	34,764,523		17.4	%		81,547	$	16,073,080		19.6	%
Florida		169,573		20,802,584		10.4	%		91,318		10,476,321		12.8	%
Texas		144,367		10,435,713		5.2	%		86,406		3,621,528		4.4	%
Other < 5%		1,330,060		134,024,087		67.0	%		685,989		51,942,593		63.2	%

Total		1,848,981	$	200,026,907		100.0	%		945,260	$	82,113,522		100.0	%

Net Servicing Revenue and Fees

The Company services residential mortgage loans including reverse mortgage loans, manufactured housing and consumer installment loans for itself and third parties. The Company earns servicing income from its third-party servicing portfolio. The following table presents the components of net servicing revenue and fees, which includes revenues earned by the Servicing, Asset Receivables Management and Reverse Mortgage segments (in thousands):


	For the Three Months Ended June 30,						For the Six Months Ended June 30,
	2013			2012			2013			2012
Servicing fees	$	143,473		$	69,068		$	263,345		$	139,603
Incentive and performance fees		37,282			23,705			67,607			46,721
Ancillary and other fees ⁽¹⁾		22,683			9,108			41,894			18,205

Servicing revenue and fees		203,438			101,881			372,846			204,529
Amortization of servicing rights		(11,209	)		(13,211	)		(22,533	)		(26,126	)
Change in fair value of servicing rights		65,077			—			44,002			—

Net servicing revenue and fees	$	257,306		$	88,670		$	394,315		$	178,403

(1)	Includes late fees of $9.7 million and $3.4 million for the three months ended June 30, 2013 and 2012, respectively, and $17.0 million and $6.8 million for the six months ended June 30, 2013 and 2012, respectively.

Servicing Rights

Servicing rights are represented by three classes, which consist of a risk-managed loan class, a forward loan class and a reverse loan class. These classes are based on the availability of market inputs used in determining the fair values of servicing rights and the Company’s planned risk management strategy associated with the servicing rights. At initial recognition, the fair value of the servicing right is established using assumptions consistent with those used to establish the fair value of existing servicing rights. Subsequent to initial capitalization, servicing rights are accounted for using either the fair value method or the amortization method based on the servicing class. Servicing rights accounted for at amortized cost consist of the forward loan class and the reverse loan class. Servicing rights accounted for at fair value consist of the risk-managed loan class.

Servicing Rights at Amortized Cost

The amortization of servicing rights is recorded in net servicing revenue and fees in the consolidated statements of comprehensive income. The following tables summarize the activity in the carrying value of servicing rights accounted for at amortized cost by class (in thousands):


	For the Three Months Ended June 30,
	2013									2012
	Forward Loans			Reverse Loans			Total			Forward Loans
Balance at beginning of period	$	190,336		$	14,706		$	205,042		$	237,414
Purchases		—			—			—			—
Amortization		(10,334	)		(875	)		(11,209	)		(13,211	)
Impairment		—			—			—			—

Balance at end of period	$	180,002		$	13,831		$	193,833		$	224,203


	For the Six Months Ended June 30,
	2013									2012
	Forward Loans			Reverse Loans			Total			Forward Loans
Balance at beginning of period	$	200,742		$	15,588		$	216,330		$	250,329
Purchases		—			36			36			—
Amortization		(20,740	)		(1,793	)		(22,533	)		(26,126	)
Impairment		—			—			—			—

Balance at end of period	$	180,002		$	13,831		$	193,833		$	224,203

Servicing rights accounted for at amortized cost are evaluated for impairment by strata based on their estimated fair values. The risk characteristics used to stratify servicing rights for purposes of measuring impairment are the type of loan products, which consist of manufactured housing loans, first lien residential mortgages and second lien residential mortgages for the forward loan class and reverse mortgages for the reverse loan class. At June 30, 2013, the fair value of servicing rights for the forward loan class and the reverse loan class was $203.7 million and $14.2 million, respectively. At December 31, 2012 the fair value of servicing rights for the forward loan class and the reverse loan class was $229.9 million and $15.7 million, respectively. Fair value was estimated using the present value of projected cash flows over the estimated period of net servicing income. The estimation of fair value requires significant judgment and uses key economic inputs and assumptions, which are provided in the table below (dollars in thousands):


	June 30, 2013
	Forward Loans			Reverse Loans
Servicing rights at amortized cost	$	180,002		$	13,831
Inputs and assumptions:
Weighted-average remaining life in years		5.2			3.1
Weighted-average stated customer interest rate on underlying collateral		7.78	%		3.19	%
Weighted-average discount rate		11.67	%		18.00	%
Conditional prepayment rate		7.31	%			⁽¹⁾
Conditional default rate		4.54	%			⁽¹⁾
Conditional repayment rate			⁽¹⁾		24.90	%

(1)	Assumption is not significant to valuation.

The valuation of servicing rights is affected by the underlying assumptions including discount rate and prepayments of principal and defaults or repayment rates. Should the actual performance and timing differ materially from the Company’s projected assumptions, the estimate of fair value of the servicing rights could be materially different.

Servicing Rights at Fair Value

The change in fair value of servicing rights is recorded in net servicing revenue and fees in the consolidated statements of comprehensive income. The following table summarizes the activity in servicing rights accounted for at fair value (in thousands):


	For the Three Months Ended June 30, 2013			For the Six Months Ended June 30, 2013
Balance at beginning of period	$	759,683		$	26,382
Servicing rights capitalized in connection with the acquisition of ResCap net assets		—			242,604
Purchases ⁽¹⁾		19,885			530,367
Servicing rights capitalized upon transfers of loans		36,305			37,595
Changes in fair value due to:
Realization of expected cash flows		(28,590	)		(48,786	)
Changes in valuation inputs or other assumptions		93,667			92,788

Balance at end of period	$	880,950		$	880,950

(1)	Purchases of servicing rights for the six months ended June 30, 2013 include $495.7 million in servicing rights related to the BOA asset purchase.

The fair value of servicing rights accounted for at fair value was estimated using the present value of projected cash flows over the estimated period of net servicing income. The estimation of fair value requires significant judgment and uses key economic inputs and assumptions, which are provided in the table below (dollars in thousands):


	June 30, 2013
Servicing rights at fair value	$	880,950
Inputs and assumptions:
Weighted-average remaining life in years		5.4
Weighted-average stated customer interest rate on underlying collateral		5.04	%
Weighted-average discount rate		9.37	%
Conditional prepayment rate		9.31	%
Conditional default rate		4.02	%

The valuation of servicing rights is affected by the underlying assumptions including prepayments of principal, defaults and discount rate. Should the actual performance and timing differ materially from the Company’s projected assumptions, the estimate of fair value of the servicing rights could be materially different.

The following table summarizes the hypothetical effect on the fair value of servicing rights carried at fair value using adverse changes of 10% and 20% to the weighted-average of certain significant assumptions used in valuing these assets (dollars in thousands):


	June 30, 2013
	Actual			Decline in fair value due to
	Actual			10% adverse change			20% adverse change
Weighted-average discount rate		9.37	%	$	(34,385	)	$	(66,431	)
Conditional prepayment rate		9.31	%		(45,753	)		(88,032	)
Conditional default rate		4.02	%		(11,523	)		(22,676	)

The sensitivity calculations above are hypothetical and should not be considered to be predictive of future performance. Changes in fair value based on adverse changes in assumptions generally cannot be extrapolated because the relationship of the change in assumption to the change in fair value may not be linear. Also, the effect of an adverse variation in a particular assumption on the fair value of the servicing rights is calculated without changing any other assumption, while in reality changes in one factor may result in changes in another, which may either magnify or counteract the effect of the change.

Fair Value of Originated Servicing Rights

For loans sold with servicing retained, the Company used the following inputs and assumptions to determine the fair value of servicing rights at the date of transfer. These servicing rights are included in servicing rights capitalized upon transfers of loans in the table presented above that summarizes the activity in servicing rights accounted for at fair value.


	For the Three Months Ended June 30, 2013	For the Six Months Ended June 30, 2013
Weighted-average life in years	7.2 - 9.6	6.1 - 9.6
Weighted-average stated customer interest rate on underlying collateral	3.85% - 4.20%	3.85% - 4.20%
Weighted-average discount rates	9.50% - 10.40%	9.50% - 12.30%
Conditional prepayment rates	3.00% - 5.10%	3.00% - 8.10%
Conditional default rates	0.50% - 2.00%	0.50% - 2.00%