16.MORTGAGE BANKING ACTIVITIES

Mortgage Banking activities primarily include residential mortgage originations and servicing.

Activity for mortgage loans held for sale was as follows:


Years Ended December 31, (in thousands)	2017		2016		2015

Balance, beginning of period	$	11,662	$	4,083	$	6,388
Origination of mortgage loans held for sale		160,091		216,812		160,989
Transferred from held for investment to held for sale		—		71,201		—
Proceeds from the sale of mortgage loans held for sale		(169,969)		(287,090)		(167,209)
Net gain on sale of mortgage loans held for sale		3,977		6,656		3,915
Balance, end of period	$	5,761	$	11,662	$	4,083

Mortgage loans serviced for others are not reported as assets. The Bank serviced loans for others, primarily FHLMC, totaling $969 million and $971 million at December 31, 2017 and 2016. Servicing loans for others generally consists of collecting mortgage payments, maintaining escrow accounts, disbursing payments to investors and processing foreclosures. Custodial escrow account balances maintained in connection with serviced loans were approximately $9 million and $7 million at December 31, 2017 and 2016.

The following table presents the components of Mortgage Banking income:


Years Ended December 31, (in thousands)	2017		2016		2015

Net gain realized on sale of mortgage loans held for sale	$	4,180	$	5,478	$	3,882
Net gain realized on sale of mortgage loans transferred from held for investment to held for sale		—		1,129		—
Net change in fair value recognized on loans held for sale		(1)		4		(33)
Net change in fair value recognized on rate lock loan commitments		11		(8)		57
Net change in fair value recognized on forward contracts		(213)		53		9
Net gain recognized		3,977		6,656		3,915

Loan servicing income		2,169		1,983		1,896
Amortization of mortgage servicing rights		(1,504)		(1,757)		(1,400)
Net servicing income recognized		665		226		496
Total Mortgage Banking income	$	4,642	$	6,882	$	4,411

Activity for capitalized mortgage servicing rights was as follows:




Years Ended December 31, (in thousands)	2017		2016		2015

Balance, beginning of period	$	5,180	$	4,912	$	4,813
Additions		1,368		2,025		1,499
Amortized to expense		(1,504)		(1,757)		(1,400)
Balance, end of period	$	5,044	$	5,180	$	4,912

There was no balance or activity in the valuation allowance for capitalized mortgage servicing rights for the years ended December 31, 2017, 2016 and 2015.

Other information relating to mortgage servicing rights follows:


December 31, (dollars in thousands)	2017			2016

Fair value of mortgage servicing rights portfolio	$	7,984		$	7,478
Monthly weighted average prepayment rate of unpaid principal balance*		200	%		158	%
Discount rate		10.00	%		13	%
Weighted average default rate		3.75	%		1.50	%
Weighted average life in years		5.49			6.75

* Rates are applied to individual tranches with similar characteristics.

Estimated future amortization expense of the MSR portfolio (net of any applicable impairment charge) follows; however, actual amortization expense will be impacted by loan payoffs and changes in estimated lives that occur during each respective year:


Year	(in thousands)

2018	$	1,034
2019		1,005
2020		970
2021		901
2022		591
2023		529
2024		14
Total	$	5,044

Mortgage Banking derivatives used in the ordinary course of business primarily consist of mandatory forward sales contracts and interest rate lock loan commitments. Mandatory forward contracts represent future commitments to deliver loans at a specified price and date and are used to manage interest rate risk on loan commitments and mortgage loans held for sale. Interest rate lock loan commitments represent commitments to fund loans at a specific rate. These derivatives involve underlying items, such as interest rates, and are designed to transfer risk. Substantially all of these instruments expire within 90 days from the date of issuance. Notional amounts are amounts on which calculations and payments are based, but which do not represent credit exposure, as credit exposure is limited to the amounts required to be received or paid.

Mandatory forward contracts also contain an element of risk in that the counterparties may be unable to meet the terms of such agreements. In the event the counterparties fail to deliver commitments or are unable to fulfill their obligations, the Bank could potentially incur significant additional costs by replacing the positions at then current market rates. The Bank manages its risk of exposure by limiting counterparties to those banks and institutions deemed appropriate by management and the Board of Directors. The Bank does not expect any counterparty to default on their obligations and therefore, the Bank does not expect to incur any cost related to counterparty default.

The Bank is exposed to interest rate risk on loans held for sale and rate lock loan commitments. As market interest rates fluctuate, the fair value of mortgage loans held for sale and rate lock commitments will decline or increase. To offset this interest rate risk the Bank enters into derivatives, such as mandatory forward contracts to sell loans. The fair value of these mandatory forward contracts will fluctuate as market interest rates fluctuate, and the change in the value of these instruments is expected to largely, though not entirely, offset the change in fair value of loans held for sale and rate lock commitments. The objective of this activity is to minimize the exposure to losses on rate loan lock commitments and loans held for sale due to market interest rate fluctuations. The net effect of derivatives on earnings will depend on risk management activities and a variety of other factors, including: market interest rate volatility; the amount of rate lock commitments that close; the ability to fill the forward contracts before expiration; and the time period required to close and sell loans.

The following table includes the notional amounts and fair values of mortgage loans held for sale and mortgage banking derivatives as of the period ends presented:


	2017				2016
	Notional				Notional
December 31, (in thousands)	Amount		Fair Value		Amount		Fair Value

Included in Mortgage loans held for sale:
Mortgage loans held for sale, at fair value	$	5,668	$	5,761	$	11,568	$	11,662

Included in other assets:
Rate lock loan commitments	$	14,696	$	310	$	19,521	$	299
Mandatory forward contracts		—		—		25,618		204

Included in other liabilities:
Mandatory forward contracts	$	17,159	$	9	$	—	$	—