Mortgage Servicing Assets

9 Months Ended

Sep. 30, 2020

8. Mortgage Servicing Assets

We originate and periodically sell commercial and residential mortgage loans but continue to service those loans for the buyers. We also may purchase the right to service commercial mortgage loans for other lenders. We record a servicing asset if we purchase or retain the right to service loans in exchange for servicing fees that exceed the going market servicing rate and are considered more than adequate compensation for servicing. Additional information pertaining to the accounting for mortgage and other servicing assets is included in Note 1 (“Summary of Significant Accounting Policies”) under the heading “Servicing Assets” beginning on page 106 of our 2019 Form 10-K.

Commercial

Changes in the carrying amount of commercial mortgage servicing assets are summarized as follows:


	Three months ended September 30,				Nine months ended September 30,
in millions	2020		2019		2020		2019
Balance at beginning of period	$	565	$	509	$	539	$	502
Servicing retained from loan sales	30		30		107		71
Purchases	6		10		24		33
Amortization	(29)		(29)		(88)		(86)
Temporary impairments	(6)		(2)		(16)		(2)
Balance at end of period	$	566	$	518	$	566	$	518
Fair value at end of period	$	685	$	681	$	685	$	681

The fair value of commercial mortgage servicing assets is determined by calculating the present value of future cash flows associated with servicing the loans. This calculation uses a number of assumptions that are based on current market conditions. The range and weighted average of the significant unobservable inputs used to determine the fair value of our commercial mortgage servicing assets at September 30, 2020, and September 30, 2019, along with the valuation techniques, are shown in the following table:


dollars in millions		September 30, 2020	September 30, 2019
Valuation Technique	Significant Unobservable Input	Range (Weighted Average)

Discounted cash flow	Expected defaults	1.00 - 2.00% (1.17%)	1.00 - 2.00% (1.13%)
	Residual cash flows discount rate	7.72 - 10.66% (9.30%)	7.00 - 11.50% (9.30%)
	Escrow earn rate	0.92 - 1.16% (1.05%)	1.46 - 2.36% (2.02%)

	Loan assumption rate	0.00 - 1.78% (1.39%)	0.01 - 3.37% (1.38%)

If these economic assumptions change or prove incorrect, the fair value of commercial mortgage servicing assets may also change. Expected credit losses, escrow earning rates, and discount rates are critical to the valuation of commercial mortgage servicing assets. Estimates of these assumptions are based on how a market participant would view the respective rates, and reflect historical data associated with the commercial mortgage loans, industry trends, and other considerations. Actual rates may differ from those estimated due to changes in a variety of economic factors. A decrease in the value assigned to the escrow earning rates would cause a decrease in the fair value of our commercial mortgage servicing assets. An increase in the assumed default rates of commercial mortgage loans or an increase in the assigned discount rates would cause a decrease in the fair value of our commercial mortgage servicing assets. Prepayment activity on commercial serviced loans does not significantly affect the valuation of our commercial mortgage servicing assets. Unlike residential mortgages, commercial mortgages experience significantly lower prepayments due to certain contractual restrictions affecting the borrower’s ability to prepay the mortgage.

The amortization of commercial servicing assets is determined in proportion to, and over the period of, the estimated net servicing income. The amortization of commercial servicing assets for each period, as shown in the table at the beginning of this note, is recorded as a reduction to contractual fee income. The contractual fee income from servicing commercial mortgage loans totaled $154 million for the nine-month period ended September 30, 2020, and $147 million for the nine-month period ended September 30, 2019. This fee income was offset by $88 million of amortization for the nine-month period ended September 30, 2020, and $86 million for the nine-month period ended September 30, 2019. Both the contractual fee income and the amortization are recorded, net, in “commercial mortgage servicing fees” on the income statement.

Residential

Changes in the carrying amount of residential mortgage servicing assets are summarized as follows:


	Three months ended September 30,				Nine months ended September 30,
in millions	2020		2019		2020		2019
Balance at beginning of period	$	46	$	39	$	46	$	37
Servicing retained from loan sales	12		5		25		9
Purchases	—		—		—		—
Amortization	(4)		(3)		(9)		(5)
Temporary (impairments) recoveries	(1)		—		(9)		—
Balance at end of period	$	53	$	41	$	53	$	41
Fair value at end of period	$	54	$	43	$	54	$	43

The fair value of mortgage servicing assets is determined by calculating the present value of future cash flows associated with servicing the loans. This calculation uses a number of assumptions that are based on current market conditions. The range and weighted-average of the significant unobservable inputs used to fair value our mortgage servicing assets at September 30, 2020, and September 30, 2019, along with the valuation techniques, are shown in the following table:


		September 30, 2020	September 30, 2019
Valuation Technique	Significant Unobservable Input	Range (Weighted Average)

Discounted cash flow	Prepayment speed	12.35% - 53.36% (16.89%)	12.06 - 62.96% (14.53%)
	Discount rate	7.51-8.80% (7.57%)	7.50 - 10.00% (7.53%)
	Servicing cost	$62.00 - $5,125 ($81.67)	$62 - $4,375 ($67.67)

If these economic assumptions change or prove incorrect, the fair value of residential mortgage servicing assets may also change. Prepayment speed, discount rates, and servicing cost are critical to the valuation of servicing assets. Estimates of these assumptions are based on how a market participant would view the respective rates, and reflect historical data associated with the loans, industry trends, and other considerations. Actual rates may differ from those estimated due to changes in a variety of economic factors. An increase in the prepayment speed, assigned discount rates, and servicing cost assumptions would also cause a negative impact on the fair value of our residential mortgage servicing assets.

The amortization of residential servicing assets is determined in proportion to, and over the period of, the estimated net residential servicing income. The amortization of servicing assets for September 30, 2020, as shown in the table above, is recorded as a reduction to contractual fee income. The contractual fee income from servicing residential mortgage loans totaled $24 million for the nine-month period ended September 30, 2020, and $15 million for the nine-month period ended September 30, 2019. This fee income was offset by $9 million of amortization for the nine-month period ended September 30, 2020, and $5 million for the nine-month period ended September 30, 2019. Both the contractual fee income and the amortization are recorded, net, in “consumer mortgage income” on the income statement.