NON-CONSOLIDATED VARIABLE INTEREST ENTITIES AND SERVICING ASSETS

6 Months Ended

Jun. 30, 2020

Transfers and Servicing [Abstract]

NON-CONSOLIDATED VARIABLE INTEREST ENTITIES AND SERVICING ASSETS

NOTE 15 – NON CONSOLIDATED VARIABLE INTEREST ENTITIES (“VIE”) AND SERVICING ASSETS

The Corporation transfers residential mortgage loans in sale or securitization transactions in which it has continuing involvement, including servicing responsibilities and guarantee arrangements. All such transfers have been accounted for as sales as required by applicable accounting guidance.

When evaluating the need to consolidate counterparties to which the Corporation has transferred assets, or with which the Corporation has entered into other transactions, the Corporation first determines if the counterparty is an entity for which a variable interest exists. If no scope exception is applicable and a variable interest exists, the Corporation then evaluates whether it is the primary beneficiary of the VIE and whether the entity should be consolidated or not.

Below is a summary of transactions with VIEs for which the Corporation has retained some level of continuing involvement:

Trust-Preferred Securities

In 2004, FBP Statutory Trust I, a financing trust that is wholly owned by the Corporation, sold to institutional investors $100 million of its variable-rate trust-preferred securities (“TRuPs”). FBP Statutory Trust I used the proceeds of the issuance, together with the proceeds of the purchase by the Corporation of $3.1 million of FBP Statutory Trust I variable-rate common securities, to purchase $103.1 million aggregate principal amount of the Corporation’s Junior Subordinated Deferrable Debentures. Also in 2004, FBP Statutory Trust II, a financing trust that is wholly owned by the Corporation, sold to institutional investors $125 million of its variable-rate TRuPs. FBP Statutory Trust II used the proceeds of the issuance, together with the proceeds of the purchase by the Corporation of $3.9 million of FBP Statutory Trust II variable-rate common securities, to purchase $128.9 million aggregate principal amount of the Corporation’s Junior Subordinated Deferrable Debentures. The debentures are presented in the Corporation’s consolidated statement of financial condition as other borrowings, net of related issuance costs. The variable-rate TRuPs are fully and unconditionally guaranteed by the Corporation. The Junior Subordinated Deferrable Debentures issued by the Corporation in April 2004 and September 2004 mature on June 17, 2034 and September 20, 2034, respectively; however, under certain circumstances, the maturity of Junior Subordinated Deferrable Debentures may be shortened (such shortening would result in a mandatory redemption of the variable-rate TRuPs).

The Collins Amendment to the Dodd-Frank Wall Street Reform and Consumer Protection Act eliminated certain TRuPs from Tier 1 Capital; however, these instruments may remain in Tier 2 capital until the instruments are redeemed or mature. Under the indentures, the Corporation has the right, from time to time, and without causing an event of default, to defer payments of interest on the Junior Subordinated Deferrable Debentures by extending the interest payment period at any time and from time to time during the term of the subordinated debentures for up to twenty consecutive quarterly periods. As of June 30, 2020, the Corporation was current on all interest payments due on its subordinated debt.

Private Label MBS

During 2004 and 2005, an unaffiliated party, referred to in this subsection as the seller, established a series of statutory trusts to effect the securitization of mortgage loans and the sale of trust certificates (“private label MBS”). The seller initially provided the servicing for a fee, which is senior to the obligations to pay private label MBS holders. The seller then entered into a sales agreement through which it sold and issued these private label MBS in favor of the Corporation’s banking subsidiary. Currently, the Bank is the sole owner of these private label MBS; the servicing of the underlying residential mortgages that generate the principal and interest cash flows is performed by another third party, which receives a servicing fee. These private label MBS are variable-rate securities indexed to 90-day LIBOR plus a spread. The principal payments from the underlying loans are remitted to a paying agent (servicer), who then remits interest to the Bank. Interest income is shared to a certain extent with the FDIC, which has an interest only strip (“IO”) tied to the cash flows of the underlying loans and is entitled to receive the excess of the interest income less a servicing fee over the variable rate income that the Bank earns on the securities. This IO is limited to the weighted-average coupon on the securities. The FDIC became the owner of the IO upon its intervention of the seller, a failed financial institution. No recourse agreement exists, and the Bank, as the sole holder of the securities, absorbs all risks from losses on non-accruing loans and repossessed collateral. As of June 30, 2020, the amortized cost and fair value of these private label MBS amounted to $14.8 million and $9.2 million, respectively, with a weighted average yield of 2.28%, which is included as part of the Corporation’s available-for-sale investment securities portfolio. As described on Note 5, – Investment Securities, above, the Corporation established a $1.3 million ACL on these private label MBS during 2020.

Investment in unconsolidated entity

On February 16, 2011, FirstBank sold an asset portfolio consisting of performing and nonaccrual construction, commercial mortgage and commercial and industrial loans with an aggregate book value of $269.3 million to CPG/GS, an entity organized under the laws of the Commonwealth of Puerto Rico and majority owned by PRLP Ventures LLC (“PRLP”), a company created by Goldman, Sachs & Co. and Caribbean Property Group. In connection with the sale, the Corporation received $88.5 million in cash and a 35% interest in CPG/GS, and made a loan in the amount of $136.1 million representing seller financing provided by FirstBank. The loan was refinanced and consolidated with other outstanding loans of CPG/GS in the second quarter of 2018 and was paid in full in October 2019. FirstBank’s equity interest in CPG/GS is accounted for under the equity method. FirstBank recorded a loss on its interest in CPG/GS in 2014 that reduced to zero the carrying amount of the Bank’s investment in CPG/GS. No negative investment needs to be reported as the Bank has no legal obligation or commitment to provide further financial support to this entity; thus, no further losses have been or will be recorded on this investment.

CPG/GS used cash proceeds on the aforementioned seller-financed loan to cover operating expenses and debt service payments, including those related to the loan that was paid off in October 2019. FirstBank will not receive any return on its equity interest until PRLP receives an aggregate amount equivalent to its initial investment and a priority return of at least 12%, which has not occurred, resulting in FirstBank’s interest in CPG/GS being subordinate to PRLP’s interest. CPG/GS will then begin to make payments pro rata to PRLP and FirstBank, 35% and 65%, respectively, until FirstBank has achieved a 12% return on its invested capital and the aggregate amount of distributions is equal to FirstBank’s capital contributions to CPG/GS.

The Bank has determined that CPG/GS is a VIE in which the Bank is not the primary beneficiary. In determining the primary beneficiary of CPG/GS, the Bank considered applicable guidance that requires the Bank to qualitatively assess the determination of the primary beneficiary (or consolidator) of CPG/GS based on whether it has both the power to direct the activities of CPG/GS that most significantly affect the entity’s economic performance and the obligation to absorb losses of, or the right to receive benefits from, CPG/GS that could potentially be significant to the VIE. The Bank determined that it does not have the power to direct the activities that most significantly impact the economic performance of CPG/GS as it does not have the right to manage or influence the loan portfolio, foreclosure proceedings, or the construction and sale of the property; therefore, the Bank concluded that it is not the primary beneficiary of CPG/GS.

Servicing Assets

The Corporation typically transfers first lien residential mortgage loans in conjunction with GNMA securitization transactions in which the loans are exchanged for cash or securities that are readily redeemed for cash proceeds and servicing rights. The securities issued through these transactions are guaranteed by GNMA and, under seller/servicer agreements, the Corporation is required to service the loans in accordance with the issuers’ servicing guidelines and standards. As of June 30, 2020, the Corporation serviced loans securitized through GNMA with a principal balance of $1.9 billion. Also, certain conventional conforming loans are sold to FNMA or FHLMC with servicing retained. The Corporation recognizes as separate assets the rights to service loans for others, whether those servicing assets are originated or purchased. Servicing assets are included as part of Other assets in the consolidated statements of financial condition.

The changes in servicing assets are shown below for the indicated periods:
	Quarter Ended				Six-Month Period Ended
	June 30,				June 30,
(In thousands)	2020		2019		2020		2019
Balance at beginning of period	$	26,484	$	27,431	$	26,762	$	27,428
Capitalization of servicing assets		666		1,001		1,570		1,869
Amortization		(1,205)		(1,166)		(2,214)		(1,976)
Temporary impairment recoveries (charges), net		95		-		(43)		(20)
Other (1)		-		(35)		(35)		(70)
Balance at end of period	$	26,040	$	27,231	$	26,040	$	27,231
(1) Amount represents adjustments related to the repurchase of loans serviced for others.

Impairment charges are recognized through a valuation allowance for each individual stratum of servicing assets. The valuation allowance is adjusted to reflect the amount, if any, by which the cost basis of the servicing asset for a given stratum of loans being serviced exceeds its fair value. Any fair value in excess of the cost basis of the servicing asset for a given stratum is not recognized.

Changes in the impairment allowance were as follows for the indicated periods:
	Quarter Ended				Six-Month Period Ended
	June 30,				June 30,
	2020		2019		2020		2019
(In thousands)
Balance at beginning of period	$	134	$	50	$	73	$	30
Temporary impairment charges		-		-		138		24
OTTI of servicing assets		-		-		(77)		-
Recoveries		(95)		-		(95)		(4)
Balance at end of period	$	39	$	50	$	39	$	50

The components of net servicing income, included as part of mortgage banking activities in the consolidated statements of income, are shown below for the indicated periods:
	Quarter Ended				Six-Month Period Ended
	June 30,				June 30,
	2020		2019		2020		2019
(In thousands)
Servicing fees	$	1,869	$	2,107	$	4,003	$	4,167
Late charges and prepayment penalties		108		157		258		311
Adjustment for loans repurchased		-		(35)		(35)		(70)
Other		-		-		-		(15)
Servicing income, gross		1,977		2,229		4,226		4,393
Amortization and impairment of servicing assets		(1,110)		(1,166)		(2,257)		(1,996)
Servicing income, net	$	867	$	1,063	$	1,969	$	2,397

The Corporation’s servicing assets are subject to prepayment and interest rate risks. Key economic assumptions used in determining the fair value at the time of sale of the related mortgages ranged as follows for the indicated periods:
	Maximum		Minimum
Six-Month Period Ended June 30, 2020:
Constant prepayment rate:
Government-guaranteed mortgage loans	6.3	%	6.2	%
Conventional conforming mortgage loans	7.0	%	6.9	%
Conventional non-conforming mortgage loans	9.2	%	8.7	%
Discount rate:
Government-guaranteed mortgage loans	12.0	%	12.0	%
Conventional conforming mortgage loans	10.0	%	10.0	%
Conventional non-conforming mortgage loans	14.3	%	14.1	%
Six-Month Period Ended June 30, 2019:
Constant prepayment rate:
Government-guaranteed mortgage loans	6.3	%	6.2	%
Conventional conforming mortgage loans	6.8	%	6.7	%
Conventional non-conforming mortgage loans	9.3	%	9.0	%
Discount rate:
Government-guaranteed mortgage loans	12.0	%	12.0	%
Conventional conforming mortgage loans	10.0	%	10.0	%
Conventional non-conforming mortgage loans	14.3	%	14.3	%

The weighted-averages of the key economic assumptions that the Corporation used in its valuation model and the sensitivity of the current fair value to immediate 10% and 20% adverse changes in those assumptions for mortgage loans as of June 30, 2020 and December 31, 2019 were as follows:

	June 30,			December 31,
(Dollars in thousands)	2020			2019
Carrying amount of servicing assets	$	26,040		$	26,762
Fair value	$	29,714		$	31,027
Weighted-average expected life (in years)		8.43			8.39
Constant prepayment rate (weighted-average annual rate)		6.60	%		6.45	%
Decrease in fair value due to 10% adverse change	$	677		$	748
Decrease in fair value due to 20% adverse change	$	1,327		$	1,464
Discount rate (weighted-average annual rate)		11.26	%		11.27	%
Decrease in fair value due to 10% adverse change	$	1,358		$	1,450
Decrease in fair value due to 20% adverse change	$	2,610		$	2,783

These sensitivities are hypothetical and should be used with caution. As the figures indicate, changes in fair value based on a 10% variation in assumptions generally cannot be extrapolated because the relationship between the change in assumption and the change in fair value may not be linear. Also, in this table, the effect of a variation in a particular assumption on the fair value of the servicing asset is calculated without changing any other assumption; in reality, changes in one factor may result in changes in another (for example, increases in market interest rates may result in lower prepayments), which may magnify or counteract the sensitivities.