Commercial Loans

We invest in commercial loans that we historically originated or acquired. In February 2016, we ceased originating commercial loans and in June 2016, we engaged a broker to sell our commercial loan portfolio. As a result, we reclassified most of our loans from held-for-investment to held-for-sale. As discussed further below, during the second half of 2016, we sold all but one of our commercial loans. The following table summarizes the classifications and carrying value of commercial loans at December 31, 2016 and December 31, 2015.

Table 7.1 – Classifications and Carrying Value of Commercial Loans



(In Thousands)	December 31, 2016		December 31, 2015
Held-for-sale
At fair value	$	—	$	39,141
At lower of cost or fair value	2,700		—
Held-for-investment
At fair value	—		67,657
At amortized cost	—		295,849
Total Commercial Loans	$	2,700	$	402,647

Of the held-for-investment commercial loans at amortized cost shown above at December 31, 2016 and December 31, 2015, zero and $166 million, respectively, were financed through the Commercial Securitization entity, and zero and $135 million, respectively, were pledged as collateral under short-term borrowing arrangements.

Commercial Loans Held-for-Sale

At Fair Value

In June 2016, we transferred commercial mezzanine loans with an unpaid principal balance of $67 million and a carrying value of $70 million from held-for-investment at fair value to held-for-sale at fair value. During the third quarter of 2016, we sold and derecognized all of our remaining commercial loans held-for-sale at fair value. At December 31, 2015, commercial loans held-for-sale at fair value included four senior commercial mortgage loans with an aggregate outstanding principal balance of $39 million and an aggregate fair value of $39 million.

During the years ended December 31, 2016 and 2015, we originated $38 million and $618 million (principal balance), respectively, of senior commercial loans for which we elected the fair value option and sold $76 million and $741 million (principal balance), respectively, of loans to third parties. During the years ended December 31, 2016 and 2015, we recorded net market valuation gains of $0.4 million and $10 million, respectively, on senior commercial mortgage loans for which we elected the fair value option through Mortgage banking activities, net on our consolidated statements of income.

At Lower of Cost or Fair Value

Commercial loans held-for-sale at the lower of cost or fair value primarily include mezzanine loans that are secured by a borrower’s ownership interest in a single purpose entity that owns commercial property. At December 31, 2016, we held one commercial loan at the lower of cost or fair value with $3 million in outstanding principal balance, a carrying value of $3 million, and an estimated net fair value of $3 million.

In June 2016, we transferred loans with an unpaid principal balance of $237 million and a carrying value of $233 million from held-for-investment at amortized cost to held-for-sale at the lower of cost or fair value, resulting from our decision to sell these loans. As we determined that the fair value of these loans was greater than their carrying value, we recorded the loans at their then current amortized cost, eliminating $4 million of net purchase discount and establishing a valuation adjustment of $4 million.

During the third quarter of 2016, we entered into an agreement with a third party to sell most of our remaining commercial mezzanine loans and, as of December 31, 2016, had completed the sale of loans with a principal balance of $218 million, for which we recorded gains of $5 million through Realized gains, net on our consolidated statements of income. At December 31, 2016, we held one loan with a carrying value of $3 million. During the third quarter of 2016, this loan experienced a technical default and we recorded a valuation adjustment of $0.3 million through Investment fair value changes, net on our consolidated statements of income. During the fourth quarter of 2016, this loan's default was cured through a forbearance. In addition, during 2016, $16 million of lower of cost or fair value loans prepaid, resulting in yield maintenance fees of $2 million.

Commercial Loans Held-for-Investment

At Fair Value

Commercial loans held-for-investment at fair value included senior mortgage loans for which we elected the fair value option and split into senior A-notes and junior B-notes. Although the A-notes for each of the loans were sold, the transfers did not qualify for sale accounting treatment and we treated the sales as secured borrowings. We carried the A-notes and associated secured commercial borrowings at the same fair values and the periodic valuation adjustments associated with these assets and liabilities offset through Investment fair value changes, net on our consolidated statements of income. As discussed above, in June 2016, we transferred all of our then outstanding commercial loans held-for-investment at fair value to held-for-sale at fair value.

At Amortized Cost

Commercial loans held-for-investment primarily included mezzanine loans secured by a borrower’s ownership interest in a single purpose entity that owns commercial property. As described above, in June 2016, we transferred most of our held-for-investment loans to held-for-sale. The following table provides additional information for our commercial loans held-for-investment at amortized cost at December 31, 2016 and December 31, 2015.

Table 7.2 – Carrying Value for Commercial Loans Held-for-Investment at Amortized Cost



(In Thousands)	December 31, 2016		December 31, 2015
Principal balance	$	—	$	307,047
Unamortized discount, net	—		(4,096		)
Recorded investment	—		302,951
Allowance for loan losses	—		(7,102		)
Carrying Value	$	—	$	295,849

At December 31, 2016 and December 31, 2015, we held zero and 59, respectively, commercial loans held-for-investment at amortized cost. During the years ended December 31, 2016 and 2015, we originated or acquired zero and $22 million, respectively, of commercial loans held-for-investment at amortized cost. During the years ended December 31, 2016 and December 31, 2015, we received repayments of $70 million and $57 million, respectively, and in connection with certain loan prepayments, we received $5 million and $4 million, respectively, of yield maintenance fees.

Allowance for Loan Losses on Commercial Loans

For commercial loans classified as held-for-investment, we established and maintained an allowance for loan losses. The allowance included a component for loans collectively evaluated for impairment and a component for loans individually evaluated for impairment.

During the second quarter of 2016, we transferred most of our held-for-investment loans to held-for-sale and recorded a reversal of provision for loan losses. This was based on our determination that the fair market value of these loans was higher than their amortized cost basis. As such, no valuation adjustment for the held-for-sale loans was charged against the allowance for loan losses during that quarter and the previously outstanding allowance associated with these loans was eliminated and a reversal of provision for loan losses was recorded in the second quarter of 2016.

During the third quarter of 2016, our remaining commercial loans held-for-investment were repaid in full and, as result, we reversed our remaining provision for loan losses. The following table presents the principal balance of commercial loans held-for-investment by risk category.

Table 7.3 – Principal Balance of Commercial Loans Held-for-Investment by Risk Category



(In Thousands)	December 31, 2016		December 31, 2015
Pass	$	—	$	272,768
Watch list	—		34,279
Workout	—		—
Total Commercial Loans Held-for-Investment	$	—	$	307,047

The following table summarizes the activity in the allowance for commercial loan losses for the years ended December 31, 2016, 2015, and 2014.

Table 7.4 – Activity in the Allowance for Commercial Loan Losses



	Years Ended December 31,
(In Thousands)	2016			2015			2014
Balance at beginning of period	$	7,102		$	7,457		$	7,373
Charge-offs, net	—			—			—
(Reversal of) provision for loan losses	(7,102		)	(355		)	84
Balance at End of Period	$	—		$	7,102		$	7,457

At December 31, 2016, we had no outstanding loans and at December 31, 2015, all of our commercial loans collectively evaluated for impairment were current. The following table summarizes the balances for loans collectively evaluated for impairment at December 31, 2016 and December 31, 2015.

Table 7.5 – Loans Collectively Evaluated for Impairment Review



(In Thousands)	December 31, 2016		December 31, 2015
Principal balance	$	—	$	307,047
Recorded investment	—		302,951
Related allowance	—		7,102

Commercial Loans Individually Evaluated for Impairment

We did not have any loans individually evaluated for impairment for either of the years ended December 31, 2016 or 2015.