(on-balance sheet) verses securitizations treated as a sale
The hypothetical example below is provided for informational purposes only to assist the reader in understanding the accounting treatment of securitizations structured as financings and sales and are not a projection of our future performance, financial position or cash flows. The hypotheticals are based upon (i) assumptions that, while presented with numerical specificity, are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control, (ii) assumptions with respect to future business decisions that are subject to change, and (iii) assumptions that, while not probable, were made for the purpose of simplifying the hypotheticals. The purpose of these hypotheticals is to provide a simplified illustration of the accounting treatment of securitizations structured as financings and as sales. They are not intended to represent historical or expected securitizations or the impact of such securitizations on our historical or future performance, financial position or cash flows, which will necessarily vary from those presented in the hypotheticals and such variations are likely to be material. No representation is being made that the results of the hypotheticals will be achieved.
The accounting treatment of intercompany sales and securitizations can be complex. In the following exercise, we hope to provide some clarity on the subject. At the conclusion of this exercise, a couple of very important points should be clear. Net cash flow and net income always equal. However, timing differences arise due to GAAP accounting standards. Also, income will be split between the TRS and REIT differently, depending on the structure of securitization (sale or financing) used for accounting purposes. The following assumptions are used to drive this exercise:
• Mortgage originations of $1 billion per month
• Cost of Production (COP) of 2%
• COP is split evenly between costs expensed in the period of origination and deferred costs (mortgage loan premium)
• Coupon of 8.00% and lender’s borrowing cost of 5.00% throughout this example • All costs and fees outside of the mortgage origination process are assumed to be zero • All interest rate hedging is done with swaps and the yield curve is flat • Mortgage loans are financed at par prior to securitization • No taxes or transactions costs
• All mortgage production is securitized
• Loans are assumed to be originated evenly throughout the month • All REIT tests are ignored
In figure 1, we present a hypothetical TRS balance sheet and income statement for a two-month period (origination phase) leading up to sale of the originated mortgage collateral.
Taxable REIT Subsidiary (TRS)
Balance Sheet ($ in 000's)
Mortgage loans held for sale
Mortgage loan premium
Total Liabilities & Equity
Taxable REIT Subsidiary (TRS)
Income Statement ($ in 000's)
Net interest income
Gain on sale of loans
Gains on derivative instruments
General & admin. expenses
At 12/31/XX the TRS has $100 million in cash, which equals total assets and equity. In each of the following two months, $1 billion in loans are originated, at a cost of $20 million (2% COP divided evenly between G&A and deferred origination costs) per month. Total interest income of $5 million is equal to the 300 basis point spread between the coupon and financing costs on the average loan balance during the period.