Quarterly report pursuant to Section 13 or 15(d)

INVESTMENTS IN MORTGAGE SERVICING RIGHTS AND MORTGAGE SERVICING RIGHTS FINANCING RECEIVABLE

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INVESTMENTS IN MORTGAGE SERVICING RIGHTS AND MORTGAGE SERVICING RIGHTS FINANCING RECEIVABLE
6 Months Ended
Jun. 30, 2017
Equity Method Investments and Joint Ventures [Abstract]  
INVESTMENTS IN MORTGAGE SERVICING RIGHTS AND MORTGAGE SERVICING RIGHTS FINANCING RECEIVABLE
INVESTMENTS IN MORTGAGE SERVICING RIGHTS AND MORTGAGE SERVICING RIGHTS FINANCING RECEIVABLE

Mortgage Servicing Rights

In 2016, a subsidiary of New Residential, New Residential Mortgage LLC (“NRM”), became a licensed mortgage servicer. NRM is presently licensed or otherwise eligible to hold MSRs in all states within the United States and the District of Columbia. Additionally, NRM has received approval from the Federal Housing Administration (“FHA”) to hold MSRs associated with FHA-insured mortgage loans, from the Federal National Mortgage Association (“Fannie Mae”) to hold MSRs associated with loans owned by Fannie Mae, and from the Federal Home Loan Mortgage Corporation (“Freddie Mac”) to hold MSRs associated with loans owned by Freddie Mac. Fannie Mae and Freddie Mac are collectively referred to as the Government Sponsored Enterprises (“GSEs”). As an approved Fannie Mae Servicer, Freddie Mac Servicer and FHA-approved mortgagee, NRM is required to conduct aspects of its operations in accordance with applicable policies and guidelines published by FHA, Fannie Mae and Freddie Mac in order to maintain those approvals. As of June 30, 2017, NRM is in compliance with such policies and guidelines, as well as with other ongoing requirements applicable to mortgage loan servicers under applicable state and federal laws. NRM engages third party licensed mortgage servicers as subservicers to perform the operational servicing duties in connection with the MSRs it acquires, in exchange for a subservicing fee which is recorded as “Subservicing expense” on New Residential’s Condensed Consolidated Statements of Income. As of June 30, 2017, these subservicers include Ditech, Nationstar, Citi, Flagstar, and PHH, which subservice 37.2%, 21.4%, 33.2%, 1.5%, and 6.7% of the underlying UPB of the related mortgages, respectively (includes both Mortgage Servicing Rights and Mortgage Servicing Rights Financing Receivable).

New Residential has entered into recapture agreements with respect to each of its MSR investments subserviced by Ditech (defined below) and Nationstar. Under the recapture agreements, New Residential is generally entitled to the MSRs on any initial or subsequent refinancing by Ditech or Nationstar of a loan in the original portfolios.

Walter Flows MSRs

On August 8, 2016, NRM entered into a flow and bulk agreement for the purchase and sale of mortgage servicing rights (the “Walter Purchase Agreement”) with Ditech Financial LLC (“Ditech”), a subsidiary of Walter Investment Management Corp. During the six months ended June 30, 2017, pursuant to the Walter Purchase Agreement, NRM purchased Walter Flow MSRs with respect to certain Fannie Mae residential mortgage loans with a total UPB of $5.0 billion for a purchase price of approximately $40.4 million. Ditech will subservice the related residential mortgage loans.

Citi Transaction

On January 27, 2017, NRM entered into an agreement with CitiMortgage, Inc. (“Citi”) to purchase the MSRs and related Servicer Advances (the “Citi Purchase Agreement”) with respect to a pool of seasoned Fannie Mae and Freddie Mac residential mortgage loans with approximately $92.5 billion in total UPB for a purchase price of approximately $906.0 million, with a purchase price holdback of approximately $45.3 million. The purchase of the MSRs settled in March 2017, with the purchase of the related advances to follow at the time of the operational servicing transfers from Citi to Nationstar.

United Shore Transaction

On January 31, 2017, NRM entered into an agreement with United Shore Financial Services, LLC (“United Shore”) to purchase the MSRs and related Servicer Advances with respect to a pool of existing Fannie Mae and Freddie Mac residential mortgage loans with approximately $9.8 billion in total UPB for a purchase price of approximately $94.8 million, with a purchase price holdback of approximately $9.5 million. The purchase settled in February 2017, and subservicing transferred to Nationstar during March and April 2017.

RCS Transaction

On February 17, 2017, NRM entered into an agreement with Residential Credit Solutions, Inc. (“RCS”) to purchase the MSRs and related Servicer Advances with respect to a pool of existing Fannie Mae and Freddie Mac residential mortgage loans with approximately $5.2 billion in total UPB for a purchase price of approximately $48.6 million and $1.3 million, respectively, with a purchase price holdback of approximately $4.9 million. The purchase included multiple settlement dates in February and March 2017. Ditech subservices the related residential mortgage loans.

Subservicing Agreements

On January 27, 2017, NRM entered into agreements pursuant to which Nationstar will subservice certain MSR portfolios on behalf of NRM, subject to GSE and other regulatory approvals. In March 2017 and April 2017, subservicing duties for a portion of the residential mortgage loans related to the FirstKey Transaction and Citi Transaction, respectively, were transferred to Nationstar from FirstKey and Citi, respectively. On May 16, 2017, NRM entered into a subservicing agreement with Flagstar Bank, FSB (“Flagstar”). Flagstar was the predecessor subservicer of the remaining portion of the residential mortgage loans related to the FirstKey Transaction. The subservicing duties transferred to Flagstar in May 2017. As of June 30, 2017, subservicing for $24.1 billion UPB related to the Citi Transaction has transferred to Nationstar.

New Residential records its investments in MSRs at fair value at acquisition and has elected to subsequently measure at fair value pursuant to the fair value measurement method.

Servicing revenue, net recognized by New Residential related to its investments in MSRs was comprised of the following:
 
Three Months Ended June 30, 2017
 
Six Months Ended 
 June 30, 2017
Servicing fee revenue
$
120,432

 
$
185,901

Ancillary and other fees
24,982

 
27,170

Servicing fee revenue and fees
145,414

 
213,071

Amortization of servicing rights
(64,305
)
 
(90,601
)
Change in valuation inputs and assumptions
89,742

 
88,983

Servicing revenue, net
$
170,851

 
$
211,453



The following table presents activity related to the carrying value of New Residential’s investments in MSRs:
Balance as of December 31, 2016
 
$
659,483

Purchases
 
1,091,478

Amortization of servicing rights(A)
 
(90,601
)
Change in valuation inputs and assumptions
 
88,983

Balance as of June 30, 2017
 
$
1,749,343


(A)
Based on the ratio of the current UPB of the underlying residential mortgage loans relative to the original UPB of the underlying residential mortgage loans.

The following is a summary of New Residential’s investments in MSRs as of June 30, 2017:
 
UPB of Underlying Mortgages
 
Weighted Average Life (Years)(A)
 
Amortized Cost Basis
 
Carrying Value(B)
Agency
$
180,887,054

 
6.9
 
$
1,556,681

 
$
1,749,343

Non-Agency
67,944

 
7.0
 

 

Total
$
180,954,998

 
6.9
 
$
1,556,681

 
$
1,749,343


(A)
Weighted Average Life represents the weighted average expected timing of the receipt of expected cash flows for this investment.
(B)
Carrying Value represents fair value. As of June 30, 2017, a weighted average discount rate of 10.5% was used to value New Residential’s investments in MSRs.

Mortgage Servicing Rights Financing Receivable

PHH Transaction

On December 28, 2016, NRM entered into an agreement with PHH Mortgage Corporation and its subsidiaries (“PHH”) to purchase the MSRs and related Servicer Advances with respect to approximately $61.1 billion in total UPB of seasoned Agency and private-label residential mortgage loans for a purchase price of approximately $509.9 million and $221.9 million, respectively. $13.2 billion of UPB closed in the second quarter of 2017, and the remainder is expected to close beginning in the third quarter of 2017, subject to GSE and other regulatory approvals, various consents and approvals from third-parties, and other customary closing conditions. Concurrently with the purchase agreement, NRM entered into a subservicing agreement with PHH, pursuant to which PHH Mortgage, a wholly owned subsidiary of PHH, subservices the residential mortgage loans underlying the MSRs acquired by NRM for an initial term of three years, subject to certain conditions. New Residential has entered into a recapture agreement with respect to each of its MSR investments subserviced by PHH. Under the recapture agreement, New Residential is generally entitled to the MSRs on any initial or subsequent refinancing by PHH of a loan in the original portfolio.

As a result of the length of the initial term of the related subservicing agreement between NRM and PHH, although the MSRs were legally sold, solely for accounting purposes New Residential determined that substantially all of the risks and rewards inherent in owning the MSRs had not been transferred to NRM, and that the purchase agreement would not be treated as a sale under GAAP. Therefore, rather than recording an investment in MSRs, New Residential has recorded an investment in mortgage servicing rights financing receivable. Income from this investment is recorded as interest income, and New Residential has elected to measure the investment at fair value, with changes in fair value flowing through Change in fair value of investments in mortgage servicing rights financing receivable in the Condensed Consolidated Statements of Income.

Interest income from investments in mortgage servicing rights financing receivable was comprised of the following:
 
Three Months Ended June 30, 2017
 
Six Months Ended 
 June 30, 2017
Servicing fee revenue
$
2,675

 
$
2,675

Ancillary and other fees
75

 
75

Less: subservicing expense
(294
)
 
(294
)
Interest income, investments in mortgage servicing rights financing receivable
$
2,456

 
$
2,456


Change in fair value of investments in mortgage servicing rights financing receivable was comprised of the following:
 
Three Months Ended June 30, 2017
 
Six Months Ended 
 June 30, 2017
Amortization of servicing rights
$
(1,127
)
 
$
(1,127
)
Change in valuation inputs and assumptions
6,723

 
6,723

Change in fair value of investments in mortgage servicing rights financing receivable
$
5,596

 
$
5,596



The following table presents activity related to the carrying value of New Residential’s investments in mortgage servicing rights financing receivable:
Balance as of December 31, 2016
 
$

Investments made
 
112,887

Amortization of servicing rights(A)
 
(1,127
)
Change in valuation inputs and assumptions
 
6,723

Balance as of June 30, 2017
 
$
118,483


(A)
Based on the ratio of the current UPB of the underlying residential mortgage loans relative to the original UPB of the underlying residential mortgage loans.

The following is a summary of New Residential’s investments in mortgage servicing rights financing receivable as of June 30, 2017:
 
UPB of Underlying Mortgages
 
Weighted Average Life (Years)(A)
 
Amortized Cost Basis
 
Carrying Value(B)
Agency
$
13,070,096

 
6.3
 
$
111,760

 
$
118,483


(A)
Weighted Average Life represents the weighted average expected timing of the receipt of expected cash flows for this investment.
(B)
Carrying Value represents fair value. As of June 30, 2017, a weighted average discount rate of 11.0% was used to value New Residential’s investments in mortgage servicing rights financing receivable.

The table below summarizes the geographic distribution of the underlying residential mortgage loans of the investments in MSRs and mortgage servicing rights financing receivable:
 
 
Percentage of Total Outstanding Unpaid Principal Amount
State Concentration
 
June 30, 2017
 
December 31, 2016
California
 
20.7
%
 
20.5
%
Texas
 
6.0
%
 
6.3
%
New York
 
5.9
%
 
2.8
%
Florida
 
5.8
%
 
7.3
%
New Jersey
 
4.7
%
 
4.5
%
Illinois
 
4.3
%
 
4.1
%
Massachusetts
 
4.0
%
 
4.1
%
Michigan
 
3.9
%
 
3.1
%
Pennsylvania
 
3.1
%
 
2.9
%
Georgia
 
3.0
%
 
2.7
%
Other U.S.
 
38.6
%
 
41.7
%
 
 
100.0
%
 
100.0
%


Geographic concentrations of investments expose New Residential to the risk of economic downturns within the relevant states. Any such downturn in a state where New Residential holds significant investments could affect the underlying borrower’s ability to make mortgage payments and therefore could have a meaningful, negative impact on the MSRs.

In addition to receiving cash flows from the MSRs, NRM as servicer has the obligation to fund future Servicer Advances on the underlying pool of mortgages (Note 14). These Servicer Advances are recorded when advanced and are included in Other Assets.

See Note 11 regarding the financing of MSRs.