Mortgage Servicing Rights
 9 Months Ended
Sep. 30, 2016
Transfers and Servicing [Abstract]  
Mortgage Servicing Rights
Mortgage Servicing Rights

We have investments in mortgage servicing rights ("MSRs") that result from the sale of loans to the secondary market for which we retain the servicing. The primary risk associated with MSRs is the potential reduction in fair value as a result of higher than anticipated prepayments due to loan refinancing prompted, in part, by declining interest rates or government intervention. Conversely, these assets generally increase in value in a rising interest rate environment to the extent that prepayments are slower than anticipated. We utilize derivatives as economic hedges to offset changes in the fair value of the MSRs resulting from the actual or anticipated changes in prepayments stemming from changing interest rate environments. There is also a risk of valuation decline due to higher than expected increases in default rates, which we do not believe can be effectively managed using derivatives. See Note 8 of the Notes to the Consolidated Financial Statements, herein, for further information regarding the derivative instruments utilized to manage our MSR risks.

Changes in the carrying value of residential first mortgage MSRs, accounted for at fair value, were as follows:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(Dollars in millions)
Balance at beginning of period
$
301

 
$
317

 
$
296

 
$
258

Additions from loans sold with servicing retained
51

 
74

 
173

 
220

Reductions from sales
(17
)
 
(73
)
 
(41
)
 
(144
)
Changes in fair value due to (1)
 
 
 
 
 
 
 
Decrease in MSR due to pay-offs, pay-downs and run-off
(19
)
 
(9
)
 
(45
)
 
(34
)
 Changes in estimates of fair value (2)
(14
)
 
(15
)
 
(81
)
 
(6
)
Fair value of MSRs at end of period
$
302

 
$
294

 
$
302

 
$
294

(1)
Changes in fair value are included within net (loss) return on mortgage servicing rights on the Consolidated Statements of Operations.
(2)
Represents estimated MSR value change resulting primarily from market-driven changes.

The following table summarizes the hypothetical effect on the fair value of servicing rights carried at fair value using adverse changes of 10 percent and 20 percent to the weighted average of certain significant assumptions used in valuing these assets:
 
September 30, 2016
 
December 31, 2015
 
 
 
Fair value impact due to
 
 
 
Fair value impact due to
 
Actual
 
10% adverse change
 
20% adverse change
 
Actual
 
10% adverse change
 
20% adverse change
 
 
 
(Dollars in millions)
Option adjusted spread
9.20
%
 
$
295

 
$
288

 
8.24
%
 
$
287

 
$
279

Constant prepayment rate
15.68
%
 
290

 
280

 
12.63
%
 
285

 
275

Weighted average cost to service per loan
$
70.75

 
299

 
295

 
$
71.86

 
292

 
288



The sensitivity calculations above are hypothetical and should not be considered to be predictive of future performance. Changes in fair value based on adverse changes in assumptions generally cannot be extrapolated because the relationship of the change in assumption to the change in fair value may not be linear. To isolate the effect of the specified change, the fair value shock analysis is consistent with the identified adverse change, while holding all other assumptions constant. In practice, a change in one assumption generally impacts other assumptions, which may either magnify or counteract the effect of the change.

See Note 17 of the Notes to the Consolidated Financial Statements, herein, for further fair value disclosures relating to mortgage servicing rights.

Contractual servicing and subservicing fees. Contractual servicing and subservicing fees, including late fees and other ancillary income are presented below. Contractual servicing fees are included within net (loss) return on mortgage servicing rights on the Consolidated Statements of Operations. Contractual subservicing fees including late fees and other ancillary income are included within loan administration income on the Consolidated Statements of Operations. Subservicing fee income is recorded for fees earned, net of third party subservicing costs, for loans subserviced.

The following table summarizes income and fees associated with contractual servicing rights:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(Dollars in millions)
Income on mortgage servicing rights
 
 
 
 
 
 
 
Servicing fees, ancillary income and late fees (1)
$
22

 
$
18

 
$
60

 
$
52

Changes in fair value (2)
(33
)
 
(24
)
 
(126
)
 
(38
)
Gain on MSR derivatives (3)
(1
)
 
15

 
44

 
10

Net transaction costs
1

 
3

 
1

 
(5
)
Total (loss) return, included in net return on mortgage servicing rights
$
(11
)
 
$
12

 
$
(21
)
 
$
19

(1)
Servicing fees are recorded on the accrual basis. Ancillary income and late fees are recorded on a cash basis.
(2)
Includes a $2 million gain related to the sale of MSRs during the nine months ended September 30, 2015.
(3)
Changes in the derivatives utilized as economic hedges to offset changes in fair value of the MSRs.

The following table summarizes income and fees associated with our mortgage loans subserviced:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(Dollars in millions)
Income on mortgage loans subserviced
 
 
 
 
 
 
 
Subservicing fees, ancillary income and late fees (1)
$
7

 
$
8

 
$
21

 
$
24

Other servicing charges
(3
)
 
—

 
(7
)
 
(5
)
Total income, included in loan administration
$
4

 
$
8

 
$
14

 
$
19

(1)
Servicing fees are recorded on the accrual basis. Ancillary income and late fees are recorded on cash basis.