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FAIR VALUE MEASUREMENTS

9 Months Ended

Sep. 30, 2020

NOTE 13 - FAIR VALUE MEASUREMENTS

Citizens measures or monitors many of its assets and liabilities on a fair value basis. Fair value is used on a recurring basis for assets and liabilities for which fair value is the required or elected measurement basis of accounting. Additionally, fair value is used on a nonrecurring basis to evaluate assets for impairment or for disclosure purposes. Nonrecurring fair value adjustments typically involve the application of lower of cost or market accounting or write-downs of individual assets. Citizens also applies the fair value measurement guidance to determine amounts reported for certain disclosures in this Note for assets and liabilities that are not required to be reported at fair value in the financial statements.

Fair Value Option

Citizens elected to account for residential mortgage LHFS and certain commercial and commercial real estate LHFS at fair value.



	September 30, 2020							December 31, 2019
(in millions)	Aggregate Fair Value		Aggregate Unpaid Principal		Aggregate Fair Value Greater (Less) Aggregate Unpaid Principal			Aggregate Fair Value		Aggregate Unpaid Principal		Aggregate Fair Value Greater (Less) Aggregate Unpaid Principal
Residential mortgage loans held for sale, at fair value		$3,425		$3,256		$169			$1,778		$1,727		$51
Commercial and commercial real estate loans held for sale, at fair value	162		172		(10		)	168		175		(7		)

For more information on the election of the fair value option for these assets see Note 19 in the Company’s 2019 Form 10-K.

The following table presents the changes in fair value for assets where the Company has elected the fair value option:



	Three Months Ended September 30,					Nine Months Ended September 30,
(in millions)	2020		2019			2020			2019		Affected Line Item in the Consolidated Statements of Operations
Residential mortgage loans held for sale, at fair value		$46		($4	)		$149			$5	Mortgage banking fees
Commercial and commercial real estate loans held for sale, at fair value	6		—			(2		)	4		Capital market fees

Recurring Fair Value Measurements

Citizens utilizes a variety of valuation techniques to measure its assets and liabilities at fair value on a recurring basis. For more information on the valuation techniques utilized to measure recurring fair value see Note 19 in the Company’s 2019 Form 10-K.

Asset-backed securities

The fair value of securities backed by education loans is estimated using observable inputs, including prices of similar securities that transact in the marketplace and current market assumptions related to yield, as well as unobservable inputs, including expected conditional default rates and prepayment speed estimates. Therefore, the

Company classifies these asset-backed securities in Level 3 of the fair value hierarchy given the use of unobservable inputs.

Forward commitments to sell to-be-announced mortgage securities

The fair value of TBAs is estimated using observable prices of similar loan pools that transact in the marketplace, as well as sector curves and benchmarking techniques. Therefore, the Company classifies TBAs in Level 2 of the fair value hierarchy given the observable market inputs.

The following table presents assets and liabilities measured at fair value, including gross derivative assets and liabilities on a recurring basis at September 30, 2020:



(in millions)	Total		Level 1		Level 2		Level 3
Debt securities available for sale:
Mortgage-backed securities		$22,056		$—		$22,056		$—
Asset-backed securities	813		—		—		813
State and political subdivisions	4		—		4		—
U.S. Treasury and other	11		11		—		—
Total debt securities available for sale	22,884		11		22,060		813
Loans held for sale, at fair value:
Residential loans held for sale	3,425		—		3,425		—
Commercial loans held for sale	162		—		162		—
Total loans held for sale, at fair value	3,587		—		3,587		—
Mortgage servicing rights	606		—		—		606
Derivative assets:
Interest rate contracts	1,765		—		1,765		—
Foreign exchange contracts	239		—		239		—
TBA contracts	7		—		7		—
Other contracts	275		—		66		209
Total derivative assets	2,286		—		2,077		209
Equity securities, at fair value:
Money market mutual fund investments	57		57		—		—
Total equity securities, at fair value	57		57		—		—
Total assets		$29,420		$68		$27,724		$1,628
Derivative liabilities:
Interest rate contracts		$217		$—		$217		$—
Foreign exchange contracts	189		—		189		—
TBA contracts	34		—		34		—
Other contracts	66		—		66		—
Total derivative liabilities	506		—		506		—
Total liabilities		$506		$—		$506		$—

The following table presents assets and liabilities measured at fair value, including gross derivative assets and liabilities on a recurring basis at December 31, 2019:



(in millions)	Total		Level 1		Level 2		Level 3
Debt securities available for sale:
Mortgage-backed securities		$20,537		$—		$20,537		$—
State and political subdivisions	5		—		5		—
U.S. Treasury and other	71		71		—		—
Total debt securities available for sale	20,613		71		20,542		—
Loans held for sale, at fair value:
Residential loans held for sale	1,778		—		1,778		—
Commercial loans held for sale	168		—		168		—
Total loans held for sale, at fair value	1,946		—		1,946		—
Mortgage servicing rights	642		—		—		642
Derivative assets:
Interest rate contracts	773		—		773		—
Foreign exchange contracts	174		—		174		—
Other contracts	37		—		18		19
Total derivative assets	984		—		965		19
Equity securities, at fair value:
Money market mutual fund investments	47		47		—		—
Total equity securities, at fair value	47		47		—		—
Total assets		$24,232		$118		$23,453		$661
Derivative liabilities:
Interest rate contracts		$133		$—		$133		$—
Foreign exchange contracts	166		—		166		—
Other contracts	23		—		23		—
Total derivative liabilities	322		—		322		—
Total liabilities		$322		$—		$322		$—

The following tables present a roll forward of the balance sheet amounts for assets measured at fair value on a recurring basis and classified as Level 3:



	Three Months Ended September 30, 2020								Nine Months Ended September 30, 2020
(in millions)	Mortgage Servicing Rights			Asset-Backed Securities		Other Derivative Contracts			Mortgage Servicing Rights			Asset-Backed Securities		Other Derivative Contracts
Beginning balance		$568			$—		$173			$642			$—		$19
Transfers upon election of fair value method	—			—		—			190			—		—
Beginning balance, adjusted	568			—		173			832			—		19
Purchases	—			813		—			—			813		—
Issuances	85			—		283			238			—		688
Settlements ⁽¹⁾	(55		)	—		(372		)	(141		)	—		(792		)
Changes in fair value during the period recognized in earnings ⁽²⁾	8			—		125			(323		)	—		294
Ending balance		$606			$813		$209			$606			$813		$209



	Three Months Ended September 30, 2019						Nine Months Ended September 30, 2019
(in millions)	Mortgage Servicing Rights			Other Derivative Contracts			Mortgage Servicing Rights			Other Derivative Contracts
Beginning balance		$531			$25			$600			$—
Issuances	78			61			170			104
Settlements ⁽¹⁾	(31		)	(64		)	(88		)	(107		)
Changes in fair value during the period recognized in earnings ⁽²⁾	(68		)	4			(172		)	11
Transfers from Level 2 to Level 3 ⁽³⁾	—			—			—			18
Ending balance		$510			$26			$510			$26

⁽¹⁾ Represents changes in value of the MSRs due to i) passage of time including the impact from both regularly scheduled loan principal payments and partial

paydowns, and ii) loans that paid off during the period.

⁽²⁾ Represents changes in value primarily driven by market conditions. These changes are recorded in mortgage banking fees in the Consolidated Statements of Operations.

⁽³⁾Reflects changes in the significance of unobservable inputs on derivative contracts associated with mortgage origination activities.

The following table presents quantitative information about the Company’s Level 3 assets, including the range and weighted-average of the significant unobservable inputs used to fair value these assets, as well as valuation techniques used.



	As of September 30, 2020
	Valuation Technique	Unobservable Input	Range (Weighted Average)
Mortgage servicing rights	Discounted Cash Flow	Constant prepayment rate	10.87-37.32% CPR (19.4% CPR)
Mortgage servicing rights	Discounted Cash Flow	Option adjusted spread	350-1,060 bps (608 bps)
Asset-Backed Securities	Discounted Cash Flow	Conditional prepayment rate	8.00%
Asset-Backed Securities	Discounted Cash Flow	Constant default rate	1.85%
Other derivative contracts	Internal Model	Pull through rate	11.72-100.00% (82.45%)
Other derivative contracts	Internal Model	MSR value	(26.73)-124.27 bps (81.38 bps)

Nonrecurring Fair Value Measurements

Fair value is also used on a nonrecurring basis to evaluate collateral-dependent loans for impairment or for disclosure purposes. For more information on the valuation techniques utilized to measure nonrecurring fair value see Note 19 in the Company’s 2019 Form 10-K.

The following table presents losses on assets measured at fair value on a nonrecurring basis and recorded in earnings:



	Three Months Ended September 30,						Nine Months Ended September 30,
(in millions)	2020			2019			2020			2019
Collateral-dependent loans		($21	)		($8	)		($65	)		($36	)

The following table presents assets measured at fair value on a nonrecurring basis:



	September 30, 2020								December 31, 2019
(in millions)	Total		Level 1		Level 2		Level 3		Total		Level 1		Level 2		Level 3
Collateral-dependent loans		$633		$—		$633		$—		$312		$—		$312		$—

The following table presents the estimated fair value for financial instruments not recorded at fair value in the unaudited interim Consolidated Financial Statements. The carrying amounts are recorded in the Consolidated Balance Sheets under the indicated captions:



	September 30, 2020
	Total				Level 1				Level 2				Level 3
(in millions)	Carrying Value		Estimated Fair Value		Carrying Value		Estimated Fair Value		Carrying Value		Estimated Fair Value		Carrying Value		Estimated Fair Value
Financial assets:
Securities held to maturity		$2,578		$2,709		$—		$—		$2,578		$2,709		$—		$—
Equity securities, at cost	605		605		—		—		597		597		8		8
Other loans held for sale	127		127		—		—		—		—		127		127
Loans and leases	124,071		125,498		—		—		633		633		123,438		124,865
Financial liabilities:
Deposits	142,921		143,004		—		—		142,921		143,004		—		—
Short-term borrowed funds	252		252		—		—		252		252		—		—
Long-term borrowed funds	9,109		9,568		—		—		9,109		9,568		—		—



	December 31, 2019
	Total				Level 1				Level 2				Level 3
(in millions)	Carrying Value		Estimated Fair Value		Carrying Value		Estimated Fair Value		Carrying Value		Estimated Fair Value		Carrying Value		Estimated Fair Value
Financial assets:
Securities held to maturity		$3,202		$3,242		$—		$—		$3,202		$3,242		$—		$—
Equity securities, at cost	807		807		—		—		807		807		—		—
Other loans held for sale	1,384		1,384		—		—		—		—		1,384		1,384
Loans and leases	119,088		119,792		—		—		312		312		118,776		119,480
Financial liabilities:
Deposits	125,313		125,340		—		—		125,313		125,340		—		—
Short-term borrowed funds	274		274		—		—		274		274		—		—
Long-term borrowed funds	14,047		14,228		—		—		14,047		14,228		—		—

- Definition

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

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