Toggle SGML Header (+)


Section 1: 10-K (10-K)

Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
ý
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2017
OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number: 001-16577
392554794_flagstara13a09.jpg
(Exact name of registrant as specified in its charter)
Michigan
 
38-3150651
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
5151 Corporate Drive, Troy, Michigan
 
48098-2639
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code: (248) 312-2000
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
 
Name of each exchange on which registered
Common Stock, par value $0.01 per share
 
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes        No  ý
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.    Yes        No  ý
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.   o 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of "large accelerated filer," "accelerated filer," and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Large Accelerated Filer 
o
 
Accelerated Filer  
x 
 
Smaller Reporting Company  
o 
Non-Accelerated Filer  
o
 
Emerging growth company
o 
 
 
 
 
(Do not check if a smaller reporting company)   
 
  
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 7(a)(2)(B) of the Securities Act  ¨.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes        No  ý
The estimated aggregate market value of the voting common stock held by non-affiliates of the registrant, computed by reference to the closing sale price ($30.82 per share) as reported on the New York Stock Exchange on June 30, 2017, was approximately $665 million. The registrant does not have any non-voting common equity shares.
As of March 8, 2018, 57,363,798 shares of the registrant’s common stock, $0.01 par value, were issued and outstanding.

DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s Proxy Statement relating to the 2018 Annual Meeting of Stockholders are incorporated by reference into Part III of this Report on Form 10-K.




 
 
 
 
 
ITEM 1.
ITEM 1A.
ITEM 1B.
ITEM 2.
ITEM 3.
ITEM 4.
 
 
 
 
 
ITEM 5.
ITEM 6.
ITEM 7.
ITEM 7A.
ITEM 8.
ITEM 9.
ITEM 9A.
ITEM 9B.
 
 
 
 
 
ITEM 10.
ITEM 11.
ITEM 12.
ITEM 13.
ITEM 14.
 
 
 
 
 
ITEM 15.
ITEM 16.

2


GLOSSARY OF ABBREVIATIONS AND ACRONYMS

The following list of abbreviations and acronyms are provided as a tool for the reader and may be used throughout this Report, including the Consolidated Financial Statements and Notes:
Term
 
Definition
 
Term
 
Definition
AFS
 
Available for Sale
 
Home Equity
 
Second Mortgages, HELOANs, HELOCs
Agencies
 
Federal National Mortgage Association, Federal Home Loan Mortgage Corporation, and Government National Mortgage Association, Collectively
 
HOLA
 
Home Owners Loan Act
ALLL
 
Allowance for Loan & Lease Losses
 
HPI
 
Housing Price Index
AOCI
 
Accumulated Other Comprehensive Income (Loss)
 
H.R.1.
 
House of Representatives 1 - Tax Cuts and Jobs Act
ASU
 
Accounting Standards Update
 
HTM
 
Held-to-Maturity
Basel III
 
Basel Committee on Banking Supervision Third Basel Accord
 
LIBOR
 
London Interbank Offered Rate
BSA
 
Bank Secrecy Act
 
LHFI
 
Loans Held-for-Investment
C&I
 
Commercial and Industrial
 
LHFS
 
Loans Held-for-Sale
CAMELS
 
Capital, Asset Quality, Management, Earnings, Liquidity and Sensitivity
 
LTV
 
Loan-to-Value
CD
 
Certificates of Deposit
 
Management
 
Flagstar Bancorp’s Management
CDARS
 
Certificates of Deposit Account Registry Service
 
MBIA
 
MBIA Insurance Corporation
CET1
 
Common Equity Tier 1
 
MBS
 
Mortgage-Backed Securities
CFPB
 
Consumer Financial Protection Bureau
 
MD&A
 
Management's Discussion and Analysis
CLTV
 
Combined Loan to Value
 
MP Thrift
 
MP Thrift Investments, L.P.
Common Stock
 
Common Shares
 
MSR
 
Mortgage Servicing Rights
CRE
 
Commercial Real Estate
 
N/A
 
Not Applicable
DIF
 
Depositors Insurance Fund
 
NASDAQ
 
National Association of Securities Dealers Automated Quotations
DOJ
 
United States Department of Justice
 
NBV
 
Net Book Value
DTA
 
Deferred Tax Asset
 
NYSE
 
New York Stock Exchange
EVE
 
Economic Value of Equity
 
OCC
 
Office of the Comptroller of the Currency
ExLTIP
 
Executive Long-Term Incentive Program
 
OCI
 
Other Comprehensive Income (Loss)
FACT Act
 
Fair Credit Reporting Act and the Fair and Accurate Credit Transactions Act
 
OFHEO
 
Office of Federal Housing Enterprise Oversight
Fannie Mae/FNMA
 
Federal National Mortgage Association
 
OTS
 
Office of Thrift Supervision
FASB
 
Financial Accounting Standards Board
 
OTTI
 
Other-Than-Temporary-Impairment
FBC
 
Flagstar Bancorp
 
QTL
 
Qualified Thrift Lending
FDIC
 
Federal Deposit Insurance Corporation
 
Regulatory Agencies
 
Board of Governors of the Federal Reserve, Office of the Comptroller of the Currency, U.S. Department of the Treasury, Consumer Financial Protection Bureau, Federal Deposit Insurance Corporation, Securities and Exchange Commission
Federal Reserve
 
Board of Governors of the Federal Reserve System
 
RESPA
 
Real Estate Settlement Procedures Act
FHA
 
Federal Housing Administration
 
RMBS
 
Residential Mortgage-Backed Securities
FHLB
 
Federal Home Loan Bank
 
RWA
 
Risk Weighted Assets
FICO
 
Fair Isaac Corporation
 
SEC
 
Securities and Exchange Commission
FRB
 
Federal Reserve Bank
 
SFR
 
Single Family Residence
Freddie Mac/FHLMC
 
Federal Home Loan Mortgage Corporation
 
TARP
 
Troubled Asset Relief Program
FTE
 
Full Time Equivalent
 
TDR
 
Trouble Debt Restructuring
GAAP
 
Generally Accepted Accounting Principles
 
TILA
 
Truth in Lending Act
Ginnie Mae/GNMA
 
Government National Mortgage Association
 
UPB
 
Unpaid Principal Balance
GLBA
 
Gramm-Leach Bliley Act
 
U.S. Treasury
 
United States Department of Treasury
HELOAN
 
Home Equity Loans
 
VIE
 
Variable Interest Entities
HELOC
 
Home Equity Lines of Credit
 
XBRL
 
eXtensible Business Reporting Language
HFI
 
Held for Investment
 
 
 
 

3


FORWARD-LOOKING STATEMENTS

    
Certain statements in this Form 10-K, including but not limited to statements included within the Management’s Discussion and Analysis of Financial Condition and Results of Operations, are "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, as amended. In addition, Flagstar Bancorp, Inc. may make forward-looking statements in our other documents filed with or furnished to the SEC, and our management may make forward-looking statements orally to analysts, investors, representatives of the media, and others.

Generally, forward-looking statements are not based on historical facts but instead represent management’s beliefs regarding future events. Such statements may be identified by words such as believe, expect, anticipate, intend, plan, estimate, may increase, may fluctuate, and similar expressions or future or conditional verbs such as will, should, would, and could. Such statements are based on management’s current expectations and are subject to risks, uncertainties, and changes in circumstances. Actual results and capital and other financial conditions may differ materially from those included in these statements due to a variety of factors, including without limitation the precautionary statements included within each individual business’ discussion and analysis of our results of operations and the risk factors listed and described in Part I, Item 1A. Risk Factors.

Other than as required under United States securities laws, Flagstar Bancorp does not undertake to update the forward-looking statements to reflect the impact of circumstances or events that may arise after the date of the forward-looking statements.

    


4



PART I

ITEM 1.
BUSINESS

Where we say "we," "us," "our," the "Company," "Bancorp" or "Flagstar," we usually mean Flagstar Bancorp, Inc. However, in some cases, a reference to "we," "us," or "our," the "Company," or "Flagstar," will include our wholly-owned subsidiary Flagstar Bank, FSB (the "Bank"). See the Glossary of Abbreviations and Acronyms on page 3 for definitions used throughout this Form 10-K.    

Introduction

We are a leading savings and loan holding company founded in 1993. Our business is primarily conducted through our principal subsidiary, the Bank, a federally chartered stock savings bank founded in 1987. Based on our assets at December 31, 2017, we are one of the largest banks headquartered in Michigan, providing commercial, small business, and consumer banking services, and the 5th largest bank mortgage originator in the nation. At December 31, 2017, we had 3,525 full-time equivalent employees inclusive of account executives and loan officers. Our common stock is listed on the NYSE under the symbol "FBC." As of December 31, 2017, we are considered a controlled company for NYSE purposes, because approximately 62.1 percent of our common stock is owned by MP Thrift Investments, L.P., which is managed by MatlinPatterson, a global asset manager.

We have a unique, relationship-based business model which leverages our full-service bank’s capabilities with our national mortgage customer base to create and build enduring commercial relationships. Our banking network emphasizes the delivery of a complete set of banking and mortgage products and services. We distinguish ourselves by crafting specialized solutions for our customers, local delivery, high quality customer service and competitive product pricing. Our community bank growth model has focused on attracting seasoned bankers with larger bank lending experience who can attract their existing long-term customer relationships to Flagstar. At December 31, 2017, we operated 99 full service banking branches throughout Michigan's major markets where we offer a full set of banking products to consumer, commercial, and government customers.

We originate mortgages through a wholesale network of correspondents and brokers in all 50 states, as well as through our own loan officers from 89 retail locations in 29 states, representing the combined retail branches of Flagstar Bank, our direct-to-consumer lending team and the Opes Advisors mortgage division. The Bank has the opportunity to expand correspondent relationships by providing warehouse lending, mortgage servicing and other services. Servicing and subservicing of loans provides fee income and generates a stable long-term source of funding through company controlled deposits.

We believe our transformation into a strong commercial bank, our flexible mortgage servicing platform, and focus on service creates a significant competitive advantage in the markets in which we compete. The management team we have assembled is focused on developing substantial and attractive growth opportunities that generate profitable results from operations. We believe our lower risk profile and strong capital level position us to take advantage of opportunities to deliver attractive shareholder returns over the long term.

Operating Segments

Our operations are conducted through our three operating segments: Community Banking, Mortgage Originations and Mortgage Servicing. Additionally, our Other segment includes the remaining reported activities. For further information, see MD&A - Operating Segments and Note 23 - Segment Information.

Competition

We face substantial competition in attracting deposits and making loans. Our most direct competition for deposits has historically come from other savings banks, commercial banks and credit unions in our local market areas. Money market funds and full-service securities brokerage firms also compete with us for these funds and, in recent years, many financial institutions have competed for deposits through the Internet. We compete for deposits by offering competitive interest rates and a broad range of high quality customized banking services at a large number of convenient locations. From a lending perspective, there are many institutions including commercial banks, national mortgage lenders, local savings banks, credit unions, and commercial lenders offering mortgage loans, consumer loans, commercial loans and warehouse loans. With respect to those products that we offer, we compete by offering competitive interest rates, fees, and other loan terms through efficient and customized service.

5




Subsidiaries

At December 31, 2017, our corporate structure consisted of the Bank subsidiary and its wholly-owned subsidiaries along with our wholly-owned non-bank subsidiaries through which we conduct other non-material business or which are inactive. The Bank and its wholly owned subsidiaries comprised 99.7 percent of our total assets at December 31, 2017. For further information, see Note 1 - Description of Business, Basis of Presentation, and Summary of Significant Accounting Standards, Note 7 - Variable Interest Entities and Note 24 - Holding Company Only Financial Statements.

Regulation and Supervision

We are subject to regulation under state and federal laws. Regulatory reform and enhanced supervisory requirements have had and could continue to have an impact on how we conduct business. As a result, we continually assess the impact of regulatory changes and implement policies, processes and controls required to comply with new regulations.

As a result of scrutiny and regulation of the banking industry and consumer practices, we may face a greater number or wider scope of examinations, investigations, enforcement actions and litigation, thereby increasing our costs associated with responding to or defending such actions, as well as potentially resulting in costs associated with fines, penalties, settlements or judgments. Additional legislative or regulatory developments affecting our businesses, and any required changes resulting from these developments, could reduce our revenue, limit the products or services that we offer or increase the costs thereof, impose additional compliance costs, harm our reputation or otherwise adversely affect our businesses. Some of these laws may provide a private right of action allowing a consumer or class of consumers to seek to enforce these laws and regulations.

Both the OCC and the FDIC may take regulatory enforcement actions against any of their regulated institutions that do not operate in accordance with applicable regulations, policies and directives. Proceedings may be instituted against any banking institution, or any "institution-affiliated party," such as a director, officer, employee, agent or controlling person, who engages in unsafe and unsound practices, including violations of applicable laws and regulations. The OCC has authority under various circumstances to appoint a receiver or conservator for an insured institution that it regulates, to issue cease and desist orders, to obtain injunctions restraining or prohibiting unsafe or unsound practices, to revalue assets and to require the establishment of reserves. The FDIC has additional authority to terminate insurance of accounts, after notice and hearing, upon a finding that the insured institution is or has engaged in any unsafe or unsound practice that has not been corrected, is operating in an unsafe or unsound condition or has violated any applicable law, regulation, rule, or order of, or condition imposed by, the FDIC. In addition, the Federal Reserve and the CFPB may have the authority to take regulatory enforcement actions against us or the Bank.

Compliance obligations have exposed us, and will continue to expose us, to additional compliance risks and could divert management’s focus from our business operations. Furthermore, the combined effect of numerous rulemakings by multiple governmental agencies and regulators, and the potential conflicts or inconsistencies among such rules, present challenges and risks to our business and operations. Changes in applicable laws or regulations, and in their interpretation and application by regulatory agencies, cannot be predicted and may have a material effect on our business and results.

Consent Orders and Supervisory Agreements

Supervisory Agreement. On January 28, 2010, we became subject to a supervisory agreement with the Federal Reserve ("the Supervisory Agreement"), which will remain in effect until terminated, modified, or suspended in writing by the Federal Reserve. The failure to comply with the Supervisory Agreement could result in the initiation of further enforcement action by the Federal Reserve, including the imposition of further operating restrictions, and could result in additional enforcement actions against us. We have taken actions which we believe are appropriate to comply with, and intend to maintain compliance with, all of the requirements of the Supervisory Agreement. For further information and a complete description of all of the terms of the Supervisory Agreement, please refer to the copy of the Supervisory Agreement filed with the SEC as an exhibit to our 2016 Form 10-K for the year ended December 31, 2016.

Consent Order with CFPB. On September 29, 2014, the Bank entered into a Consent Order with the CFPB ("the Consent Order") which will remain in effect for five years unless extended by the CFPB. The Consent Order relates to alleged violations of federal consumer financial laws arising from the Bank’s residential first mortgage loan loss mitigation practices and default servicing operations dating back to 2011. Under the terms of the Consent Order, the Bank paid $28 million for borrower remediation and $10 million in civil money penalties. The settlement did not include an admission of wrongdoing on the part of the Bank or its employees, directors, officers, or agents. For further information and a complete description of all of

6



the terms of the Consent Order, please refer to the copy of the Consent Order filed with the SEC as an exhibit to our Current Report on Form 8-K filed on September 29, 2014.

Holding Company Regulation

The Company is a savings and loan holding company regulated by the Federal Reserve and the SEC.

Acquisition, Activities and Change in Control. We are a unitary savings and loan holding company, as defined by federal banking law, as is our controlling stockholder, MP Thrift. We may only conduct, or acquire control of companies engaged in, activities permissible for a savings and loan holding company pursuant to the relevant provisions of the Home Owners' Loan Act and relevant regulations. Without prior written approval of the Federal Reserve, neither we, nor MP Thrift may: (i) acquire control of another savings association or holding company thereof, or acquire all or substantially all of the assets thereof; or (ii) acquire or retain, with certain exceptions, more than 5 percent of the voting shares of a non-subsidiary savings association or a non-subsidiary savings and loan holding company. We are prohibited from acquiring control of a depository institution that is not federally insured or retaining control of a savings association subsidiary for more than one year after the date that such subsidiary becomes uninsured. Similarly, we may not be acquired by a bank holding company, a savings and loan holding company, or any company, unless the Federal Reserve approves such transaction. In addition, the GLBA generally restricts a company from acquiring us if that company is engaged directly or indirectly in activities that are not permissible for a savings and loan holding company or financial holding company.

Limitation on Capital Distributions. Under the Supervisory Agreement, we may not declare or pay any cash dividends or other capital distributions or purchase, repurchase, or redeem, or commit to purchase, repurchase, or redeem any equity stock without the prior written non-objection of the Federal Reserve. The Company does not currently pay dividends, or repurchase or redeem its equity.

Volcker Rule. The Dodd-Frank Act requires the federal financial regulatory agencies to adopt rules that prohibit banks and affiliates from engaging in proprietary trading and investing in and/or sponsoring certain "covered funds," including hedge funds and private equity funds. The statutory provision is commonly referred to as the "Volcker Rule." Pursuant to the requirements of the Volcker Rule, we have established a standard compliance program based on the size and complexity of our operations.
 
Basel III Capital Requirements. The Bank and Flagstar are currently subject to the regulatory capital framework and guidelines reached by Basel III as adopted by the OCC and Federal Reserve. The OCC and Federal Reserve have risk-based capital adequacy guidelines intended to measure capital adequacy with regard to a banking organization’s balance sheet, including off-balance sheet exposures such as unused portions of loan commitments, letters of credit, and recourse arrangements.

The Bank and Flagstar have been subject to the capital requirements of the Basel III rules since January 1, 2015. On October 27, 2017, the agencies published a proposed rule to simplify certain aspects of the capital rules, which includes proposed simplifications to the capital treatment for items covered by this final rule. The agencies expect that the capital treatment and transition provisions for items covered by Basel III rules will change once the simplification proposal is finalized and effective. On November 21, 2017, in preparation for forthcoming rules that would simplify regulatory capital requirements to reduce regulatory burden, federal banking regulators approved the extension of the existing transitional capital treatment for certain regulatory capital deductions and risk weights. For additional information, see Note 20 - Regulatory Capital.

Stress Testing Requirements. The Dodd-Frank Act issued by U.S. federal banking agencies, including the OCC and the Federal Reserve, require banking organizations, including savings associations and savings and loan holding companies, with total consolidated assets of more than $10 billion but less than $50 billion to conduct annual company-run stress tests, report the results to their primary federal regulator and the Federal Reserve and publish a summary of the results. Each Dodd-Frank Act Stress Test ("DFAST") must be conducted using certain scenarios (baseline, adverse and severely adverse), which the OCC and Federal Reserve will publish each year. Banking organizations are required to use the scenarios to calculate, for each quarter-end within a nine-quarter planning horizon, the impact of such scenarios on revenues, losses, loan loss reserves and regulatory capital levels and ratios, taking into account all relevant exposures and activities. The rules also require each banking organization to establish and maintain a system of controls, oversight and documentation, including policies and procedures, designed to ensure that the DFAST procedures used by the banking organization are effective in meeting the requirements of the rules.

7




Source of Strength. The Dodd-Frank Act codified the Federal Reserve’s "source of strength" doctrine and extended it to savings and loan holding companies. Under the Dodd-Frank Act, the prudential regulatory agencies are required to promulgate joint rules requiring bank holding companies and savings and loan holding companies to serve as a source of financial strength for any depository institution subsidiary by maintaining the ability to provide financial assistance to such insured depository institution in the event that it suffers financial distress.

Durbin Amendment. The Durbin Amendment to the Dodd-Frank Act altered the competitive structure of the debit card payment processing industry and limited debit card interchange fees for banks with over $10 billion in assets. The final rule establishes standards for assessing whether debit card interchange fees received by debit card issuers are reasonable and proportional to the costs incurred by issuers for electronic debit transactions. Under the final rule, the maximum permissible interchange fee that an issuer may receive for an electronic debit transaction will be the sum of 21 cents per transaction plus 5 basis points multiplied by the value of the transaction. The impact of this amendment was a reduction in fee revenue of approximately $4 million the year ended December 31, 2017.

Collins Amendment. The Collins Amendment to Dodd-Frank established minimum Tier 1 leverage and risk-based capital requirements for insured depository institutions, depository institution holding companies, and non-bank financial companies that are supervised by the Federal Reserve. The minimum Tier 1 leverage and risk-based capital requirements are determined by the minimum ratios established by the federal banking agencies that apply to insured depository institutions under the prompt corrective action regulations. The amendment states that certain hybrid securities, such as trust preferred securities, may be included in Tier 1 capital for bank holding companies that had total assets below $15 billion as of December 31, 2009. As we were below $15 billion in assets as of December 31, 2009, the trust preferred securities classified as long term debt on our balance sheet will be included as Tier 1 capital while they are outstanding, unless we complete an acquisition of a depository institution holding company. At our present size, with total assets of $16.9 billion at December 31, 2017, an acquisition with a depository holding company would cause our trust preferred securities totaling $247 million at December 31, 2017 to no longer be included in Tier 1 capital.

Banking Regulation

We must comply with a wide variety of banking, consumer protection and securities laws, regulations and supervisory expectations and are regulated by multiple regulators, including the Federal Reserve, the Office of the Comptroller of the Currency of the U.S. Department of the Treasury, the Consumer Financial Protection Bureau, and the Federal Deposit Insurance Corporation.

FDIC Insurance and Assessment. The FDIC insures the deposits of the Bank and such insurance is backed by the full faith and credit of the U.S. government through the DIF. The FDIC maintains the DIF by assessing each financial institution an insurance premium. The FDIC defined deposit insurance assessment base for an insured depository institution is equal to the average consolidated total assets during the assessment period, minus average tangible equity. All FDIC-insured financial institutions must pay an annual assessment based on asset size to provide funds for the payment of interest on bonds issued by the Financing Corporation ("FICO bonds"), a federal corporation chartered under the authority of the Federal Housing Finance Board.

Affiliate Transaction Restrictions. The Bank is subject to the affiliate and insider transaction rules applicable to member banks of the Federal Reserve as well as additional limitations imposed by the OCC. These provisions prohibit or limit the Bank from extending credit to, or entering into certain transactions with principal stockholders, directors and executive officers of the banking institution and certain of its affiliates. The Dodd-Frank Act imposed further restrictions on transactions with certain affiliates and extension of credit to executive officers, directors and principal stockholders.

Limitation on Capital Distributions. The OCC regulates all capital distributions made by the Bank, directly or indirectly, to the holding company, including dividend payments. As a subsidiary of a savings and loan holding company, the Bank must file a notice and receive approval from the OCC at least 30 days prior to each proposed capital distribution before declaring any dividends. Additionally, the Bank may not pay dividends to the Bancorp if, after paying those dividends, the Bank would fail to meet the required minimum levels under risk-based capital guidelines and the minimum leverage and tangible capital ratio requirements. Payment of dividends by the Bank also may be restricted at any time at the discretion of the OCC if it deems the payment to constitute an unsafe and unsound banking practice.

8




Loans to One Borrower. Under the Home Owners Loan Act ("HOLA"), savings associations are generally subject to the national bank limits on loans to one borrower in excess of 15 percent of Tier 1 and Tier 2 capital plus any portion of the allowance for loan losses not included in Tier 2 capital, which was $251 million as of December 31, 2017. For further information, see MD&A - Risk Management.

Consumer Protection Laws and Regulations

The Bank is subject to a number of federal consumer protection laws and regulations. These include, among others, the Truth in Lending Act, the Truth in Savings Act, the Equal Credit Opportunity Act, the Fair Housing Act, the Fair Credit Reporting Act, the Servicemembers Civil Relief Act, the Expedited Funds Availability Act, the Community Reinvestment Act, the Real Estate Settlement Procedures Act, electronic funds transfer laws, redlining laws, predatory lending laws, laws prohibiting unfair, deceptive or abusive acts or practices in connection with the offer, or sale of consumer financial products or services, and the GLBA regarding customer privacy and data security.

The Bank is subject to supervision by the CFPB, which has responsibility for enforcing federal consumer protection laws. The CFPB has broad and unique rulemaking authority to administer and carry out the provisions of the Dodd-Frank Act with respect to financial institutions that offer covered financial products and services to consumers, including prohibitions against unfair, deceptive or abusive practices in connection with any transaction with a consumer for a consumer financial product or service, or the offering of a consumer financial product or service including regulations related to the origination and servicing of residential mortgages. The CFPB has finalized significant rules and guidance that impact nearly every aspect of the life cycle of a residential mortgage and continues to revise these rules and propose new rules. The Bank is subject to the CFPB’s supervisory, examination and enforcement authority with respect to consumer protection laws and regulations. As a result, we could incur increased costs, potential litigation or be materially limited or restricted in our business, product offerings or services in the future.

As a result of bank regulator’s focus on consumer compliance, portions of our lending operations which most directly deal with consumers, including mortgage and consumer lending, may pose particular challenges. While we are not aware of any material compliance issues related to our mortgage and consumer lending practices, the focus of regulators may increase our compliance risks. Despite the supervision and oversight we exercise in these areas, failure to comply with these regulations could result in the Bank being liable for damages to individual borrowers or other imposed penalties.

Additionally, the Equal Credit Opportunity Act and the Fair Housing Act prohibit financial institutions from engaging in discriminatory lending practices. The Department of Justice, CFPB, and other agencies are responsible for enforcing these laws and regulations. Private parties may also have the ability to challenge an institution's performance under fair lending laws in class action litigation. A successful challenge to the Bank's performance under the fair lending laws and regulations could adversely impact the Bank's rating under the Community Reinvestment Act and result in a wide variety of sanctions or penalties or limit certain revenue channels.

Incentive Compensation

The U.S. bank regulatory agencies issued comprehensive guidance on incentive compensation policies intended to ensure that the incentive compensation policies of U.S. banks do not undermine safety and soundness by encouraging excessive risk-taking. The U.S. bank regulatory agencies review, as part of the regular, risk-focused examination process, the incentive compensation arrangements of U.S. banks that are not "large, complex banking organizations." These reviews are tailored to each bank based on the scope and complexity of the bank’s activities and the prevalence of incentive compensation arrangements.

Bank Secrecy Act and Anti-Money Laundering

The Bank is subject to the BSA and other anti-money laundering laws and regulations, including the USA PATRIOT Act. The BSA requires all financial institutions to, among other things, establish a risk-based system of internal controls reasonably designed to prevent money laundering and the financing of terrorism. The BSA includes various record keeping and reporting requirements such as cash transaction and suspicious activity reporting as well as due diligence requirements. The Bank is also required to comply with U.S. Treasury’s Office of Foreign Assets Control imposed economic sanctions that affect transactions with designated foreign countries, nationals, individuals, entities and others.

9




Additional Information

Our executive offices are located at 5151 Corporate Drive, Troy, Michigan 48098, and our telephone number is (248) 312-2000. Our stock is traded on the NYSE under the symbol "FBC."

We make our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act available free of charge on our website at www.flagstar.com, under "Investor Relations," as soon as reasonably practicable after we electronically file such material with the SEC. These reports are also available without charge on the SEC website at www.sec.gov.

ITEM 1A. RISK FACTORS

Our financial condition and results of operations may be adversely affected by various factors, many of which are beyond our control. In addition to the factors identified elsewhere in this Report, we believe the most significant risk factors affecting our business include those set forth below. The below description of risk factors is not exhaustive, and readers should not consider the description of such risk factors to be a complete set of all potential risks that could affect us.

Market, Interest Rate, Credit and Liquidity Risk

Economic and general market conditions may adversely affect our business.

Our business and results of operations are affected by economic and market conditions, political uncertainty and social conditions, factors impacting the level and volatility of short-term and long-term interest rates, inflation, home prices, unemployment and under-employment levels, bankruptcies, household income, consumer spending, fluctuations in both debt and equity capital markets and currencies, liquidity of the financial markets, the availability and cost of capital and credit, investor sentiment and confidence in the financial markets, and the sustainability of economic growth. Deterioration of any of these conditions could adversely affect our business segments, the level of credit risk we have assumed, our capital levels and liquidity, and our results of operations.

Domestic and international fiscal and monetary policy also affects our business. Central bank actions can affect the value of financial instruments and other assets, such as investment securities and MSRs, and their policies can affect our borrowers, potentially increasing the risk that they may fail to repay their loans. Changes in fiscal and monetary policies are beyond our control and difficult to predict but could have an adverse impact on our capital requirements and the costs of running our business.

Deterioration in the mortgage market may also reduce the number of new mortgages that we originate, increase the costs of servicing mortgages without a corresponding increase in servicing fees or adversely affect our ability to sell mortgage loans originated by us. Any such event could adversely affect our business, financial condition and results of operations.

Our mortgage origination business is subject to the cyclical and seasonal trends of the real estate market. Cyclicality in our industry could lead to periods of strong growth in the mortgage and real estate markets followed by periods of sharp declines and losses in such markets. Seasonal trends have historically reflected the general patterns of residential and commercial real estate sales, which typically peak in the spring and summer seasons. One of the primary influences on our mortgage business is the aggregate demand for mortgage loans in our market areas, which is affected by prevailing interest rates and the economic condition of those areas. If we are unable to respond to the cyclicality of our industry by appropriately adjusting our operations or relying on the strength of our other product offerings during cyclical downturns, our business, financial condition and results of operations could be adversely affected.

Changes in interest rates could adversely affect our financial condition and results of operations including our net interest margin, mortgage origination volume and mortgage related assets, and our investment portfolio.

Our results of operations and financial condition could be significantly affected by changes in interest rates. Our financial results depend substantially on net interest income, which is the difference between the interest income that we earn on interest-earning assets and the interest expense we pay on interest-bearing liabilities. While we have modeled rising interest rate scenarios and such scenarios result in an increase in our net interest income, our deposits and interest-bearing liabilities may reprice more quickly than modeled, resulting in a decrease in our net interest income. We seek to manage our balance sheet to be interest rate neutral. In response to changes in the interest rate environment, we make adjustments to match the duration of our assets with the duration of our liabilities.

10




In 2017, approximately 49 percent of our revenue was derived from the origination of residential mortgages and changes in interest rates may affect origination volume as the residential real estate mortgage lending business is sensitive to interest rates. Lower interest rates generally increase the volume of mortgage originations while higher interest rates generally cause that volume to decrease. Historically, mortgage origination volume and sales for the Bank and for other financial institutions have risen and fallen in response to these and other factors. An increase in interest rates would change these conditions and could have a material adverse effect on our operating results. During 2017, average 10 year U.S. Treasury rates, on which we base our pricing of our 30 year mortgages, were 2.33 percent, 49 basis points higher than average rates experienced throughout 2016. The sustained higher rates experienced throughout 2017 negatively impacted the mortgage market including loan origination volume and refinancing activity.

Changes in interest rates may affect the average life of our mortgage loans and mortgage related securities and, to a lesser extent, our commercial loans. Decreases in interest rates can trigger an increase in unscheduled prepayments of our loans and mortgage-related securities as borrowers refinance to reduce their own borrowing costs. Conversely, increases in interest rates may decrease loan refinance activity.

Changes in interest rates also affect the fair value of our LHFS, LHFI and investment securities. Generally, the value of our investment securities, which are predominantly fixed-rate, fluctuates inversely with changes in interest rates and decreases in the fair value have an adverse effect on our stockholders’ equity or our earnings.

Additionally, the fair value of our MSRs is highly sensitive to changes in interest rates and changes in market implied interest rate volatility. Decreases in interest rates can trigger an increase in actual repayments and market expectation for higher levels of repayments in the future which have a negative impact on MSR fair value. We utilize derivatives and other fair value assets to manage the impact of changes in the fair value of the MSRs. Our risk management strategies, which rely on assumptions or projections, may not adequately mitigate the impact of changes in interest rates, interest rate volatility or prepayment speeds, and as a result, the change in the fair value of MSRs may negatively impact earnings.

We may be unable to effectively manage our MSR concentration risk which could impact our Common Equity Tier 1 ratio (CET1) under Basel III.

As of December 31, 2017, we had $291 million in MSRs and a MSR to Common Equity Tier 1 Capital ratio of 24 percent. We produced, on average, approximately $73 million new MSRs per quarter in 2017. We manage our MSR concentration through sales of these assets and in 2017, we sold $361 million in MSRs. In addition, as of December 31, 2017, we had pending MSR sales of $98 million which closed during the first quarter of 2018. While our established plan to manage our MSR concentration incorporates our production volumes and required sales, no assurance can be given that we will be able to do so, or that we will be successful in selling these assets at their current fair value.

We are subject to rules relating to capital standards requirements, including requirements contemplated by the Dodd-Frank Act as well as certain standards initially adopted by the Basel Committee on Banking Supervision, which standards are commonly referred to as Basel III. Basel III established a qualifying criteria for regulatory capital, including limitations on the amount of DTAs and MSRs that may be held without triggering higher capital requirements. Basel III limits the amount of MSRs and DTAs to 10 percent of CET1, individually, and 15 percent of CET1, in the aggregate.

On October 27, 2017, the agencies issued a notice of proposed rulemaking (“NPR”) which would simplify certain aspects of the Basel III capital rules. The agencies expect that the capital treatment and transition provisions for items covered by this final rule will change once the simplification proposal is finalized and effective. Specifically, the proposal would increase the limit on MSRs to 25 percent of CET1 and eliminate the aggregate 15 percent CET1 deduction threshold for MSRs and temporary difference DTAs. In response to comments received from bankers and trade associations, the regulators may change these proposed rules prior to issuing them in their final form.

     In preparation for the NPR, the Basel III implementation phase-in has been halted for the treatment of MSRs and certain DTAs. The agencies issued a final rule that will maintain the capital rules’ 2017 transition provisions for several regulatory capital deductions and certain other requirements that are subject to multi-year phase-in schedules in the regulatory capital rules. Specifically, the final rule will maintain the capital rules’ 2017 transition provisions at 80 percent for the regulatory capital treatment of the following items: (i) MSRs, (ii) DTAs arising from temporary differences that could not be realized through net operating loss carrybacks, (iii) investments in the capital of unconsolidated financial institutions, and (iv) minority interests. As of December 31, 2017, we had $291 million on MSRs, $57 million in DTAs arising from temporary differences and no investments in unconsolidated financial institutions or minority interest. This final rule will maintain the

11



2017 transition provisions for certain items for non-advanced approach banks. For further information, see Note 20 - Regulatory Capital.

As of December 31, 2017, our ALLL was $140 million, covering 1.8 percent of total loans held-for-investment. Our estimate of the inherent losses is imperfect and based on management judgment.

Our allowance for loan and lease losses, which reflects our estimate of such losses inherent in the loan portfolio at December 31, 2017, may not be adequate to cover actual credit losses. If this allowance is insufficient, future provisions for credit losses could adversely affect our financial condition and results of operations. We attempt to limit the risk that borrowers will fail to repay loans by carefully underwriting our loans, but losses nevertheless occur in the ordinary course of business operations. Our ALLL is based on historical experience as well as our evaluation of the risks inherent in the loan portfolio at December 31, 2017. The determination of an appropriate level of loan loss allowance is a subjective process that requires significant management judgment, including estimates of loss and the loss emergence period, estimates and judgments about the collectability of our loan portfolio including but not limited to the creditworthiness of our borrowers and the value of real estate or other collateral backing the repayment of loans. New information regarding existing loans, identification of additional problem loans, failure of borrowers and guarantors to perform in accordance with the terms of their loans, and other factors, both within and outside of our control, may require an increase in the ALLL. Moreover, our regulators, as part of their supervisory function, periodically review our ALLL. Our regulators, who may have access to broader industry data than we do, may recommend or require us to increase the amount of our ALLL, based on their judgment, which may be different from that of our management. Any increase in our loan losses would have an adverse effect on our earnings and financial condition.

Concentration of loans held-for-investment in certain geographic locations and portfolios may increase risk.

Our residential mortgage loan portfolio is geographically concentrated in certain states, including California, Michigan, and Florida, which comprise approximately 58 percent in the aggregate of the portfolio. In addition, our commercial loan portfolio has a concentration of Michigan lending relationships. Approximately 48 percent of our CRE loans are collateralized by properties in Michigan and 29 percent of our C&I borrowers are located in Michigan. These concentrations have made, and will continue to make, our loan portfolio particularly susceptible to downturns in the local economies and the real estate and mortgage markets in these areas. Adverse conditions that are beyond our control may affect these areas, including unemployment, inflation, recession, natural disasters, declining property values, municipal bankruptcies and other factors which could increase default rates in our loan portfolio, reduce our ability to generate new loans and negatively affect our financial results.

In 2017, we continued to grow our commercial portfolio to $4.3 billion at December 31, 2017. CRE and C&I loans grew to $3.1 billion and comprised 41 percent of our total LHFI portfolio at December 31, 2017. As a part of that growth, our home builder finance program reached $601 million at December 31, 2017. The home builder lending portfolio contains secured and unsecured loans and our lending platform originates loans throughout the U.S. with main offices in Houston and Denver.

Commercial loans, including home builder loans, generally expose us to a greater risk of nonpayment and loss than residential real estate loans due to the more complex nature of underwriting. Such loans typically involve larger loan balances to single borrowers or groups of related borrowers compared to residential real estate loans. At December 31, 2017, our largest CRE and C&I borrowers had loans of $81 million UPB and $68 million UPB, respectively and our average commercial loan balance was $1.4 million. Secured loans, including residential and commercial real estate, may experience changes in the underlying collateral value due to adverse market conditions which could result in increased charge-offs in the event of a loan default.

At December 31, 2017, our committed amount of adjustable-rate warehouse lines of credit granted to other mortgage lenders was $2.8 billion, of which $1.1 billion was outstanding. There may be risks associated with the mortgage lenders that borrow from the Bank, including credit risk, inadequate underwriting, and potential external fraud. A default from one of our borrowers could result in a large loss. Additionally, adverse changes to industry competition, mortgage demand and the interest rate environment may have a negative impact on warehouse lending. Fluctuations in outstanding warehouse lines of credit, which are contingent on residential mortgage production, can impact the Bank’s liquidity and earnings. Failure to mitigate these risks could negatively impact our financial results.

12



 
Liquidity risk may affect our ability to meet obligations and impact our ability to grow our business.

We require substantial liquidity to repay our customers' deposits, fulfill loan demands, meet debt obligations as they come due, and fund our operations under both normal operating environments and unforeseen circumstances causing liquidity stress. Our access to liquidity could be impaired by our inability to access the capital markets or unforeseen outflows of deposits. Our access to external sources of financing, including deposits, as well as the cost of that financing, is dependent on various factors. A number of factors could make funding more difficult, more expensive or unavailable on any terms. These factors include, declining financial results and losses, material changes to operating margins, financial leverage on an absolute basis or relative to peers, changes within the organization, specific events that impact our financial condition or reputation, disruptions in the capital markets, specific events that adversely impact the financial services industry, counterparty availability, the corporate and regulatory structure, balance sheet and capital structure, geographic and business diversification, interest rate fluctuations, market share and competitive position, general economic conditions and the legal, regulatory, accounting and tax environments governing funding transactions. Many of these factors are beyond our control. A material deterioration in any one or a combination of these factors could result in a downgrade of our credit or servicer standing with counterparties or a decline in our reputation within the marketplace, and could result in higher cash outflows requiring additional access to liquidity, having a limited ability to borrow funds, maintain or increase deposits (including custodial deposits for our agency servicing portfolio) or to raise capital on commercially reasonable terms or at all.

Our ability to meet loan demand, accommodate outflows in deposits, take advantage of market opportunity, and execute on our plans to grow the balance sheet depends largely on our ability to secure funds on acceptable terms. Our primary sources of funds to meet our financing needs include deposits, including custodial accounts from our servicing portfolio, loan sales, public funds, and capital-raising activities. Our company controlled deposits are considered stable sources of funding. If we are unable to maintain and grow certain of these financing arrangements, are restricted from accessing certain funding sources by our regulators, are unable to arrange for new financing on terms, or if we default on any of the covenants imposed upon us by our borrowing facilities, then we may have to limit our growth, reduce the number of loans we are able to originate or take actions that could have other negative effects on our operations. A prolonged significant reduction in loan originations that occurs as a result could adversely impact our earnings and financial condition.
    
We are a holding company and are, therefore, dependent on the Bank for funding of obligations.

As a holding company with no significant assets other than the capital stock of the Bank and the cash on hand, our ability to make payments for certain services we purchase from the Bank and to service our debt, including interest payments on our senior notes and trust preferred securities depends upon available cash on hand and the receipt of dividends from the Bank. The holding company had cash and cash equivalents of $196 million at December 31, 2017or approximately 3.8 years of expense, which includes compensation and benefits, legal and professional expense and general and administrative expenses. These expenses for the holding company totaled $34 million for the year ended December 31, 2017. The declaration and payment of dividends by the Bank on all classes of its capital stock is subject to the discretion of the Bank's board of directors and to applicable regulatory and legal limitations. If the Bank does not make dividend payments to us, we may not be able to service our debt, which could have a material adverse effect on our financial condition and results of operations.

Regulatory Risk

The Holding Company remains subject to the restrictions and conditions of the Supervisory Agreement with the Federal Reserve. Failure to comply with the Supervisory Agreement could result in further enforcement action against us and limit our ability to execute on business plans.

The Supervisory Agreement requires that we take certain actions to address issues as specified in the agreement. The Supervisory Agreement is enforced by the Federal Reserve with respect to savings and loan holding companies. Under the terms of the agreement, we are required to submit a capital plan; receive written non-objection before declaring or paying any dividend or other capital distribution from the Holding Company, incurring or renewing any debt at the Holding Company and engaging in affiliate transactions (with limited exceptions); comply with applicable regulatory requirements before making certain severance and indemnification payments; and provide notice prior to changes in directors and certain executive officers or entering into, renewing, extending or revising compensation or benefits agreements of such directors or executive officers, with such changes being subject to Federal Reserve approval. While we believe that we have taken all action necessary to comply with the requirements of the Supervisory Agreement, failure to comply with the Supervisory Agreement in the time frames provided, or at all, could result in additional enforcement orders or penalties, which could include further restrictions on us, assessment of civil money penalties on us, as well as our directors, officers and other affiliated parties and removal of one or

13



more officers and/or directors. Any failure by us to comply with the terms of the Supervisory Agreement or additional actions by the Federal Reserve could adversely affect our business, financial condition and results of operations. Moreover, our competitors, particularly non-banks, may not be subject to similar actions, which could impact our ability to compete effectively. For further information, see Item 1. Business - Regulation and Supervision.

We are highly dependent on the Agencies to sell mortgage loans and any changes in these entities or their current roles could adversely affect our business, financial condition and results of operations.

During the year ended December 31, 2017, we sold approximately 57 percent of our mortgage loans to Fannie Mae and Freddie Mac. Fannie Mae and Freddie Mac remain in conservatorship and a path forward to emerge from conservatorship is unclear. These roles could be reduced, modified or eliminated and the nature of their guarantees could be limited or eliminated relative to historical measurements.

The elimination or modification of the traditional roles of Fannie Mae or Freddie Mac could significantly and adversely affect our business, financial condition and results of operations. Furthermore, any discontinuation of, or significant reduction in, the operation of these agencies, any significant adverse change in the level of activity of these agencies in the primary or secondary mortgage markets could materially and adversely affect our business, financial condition and results of operations.

Changes in the servicing, origination, or underwriting guidelines or criteria required by the Agencies could adversely affect our business, financial condition and results of operations.

We are required to follow specific guidelines or criteria that impact the way that we originate, underwrite, or service. Agency loans, including guidelines with respect to credit standards for mortgage loans, our staffing levels and other servicing practices, the servicing and ancillary fees that we may charge, our modification standards and procedures and the amount of non-reimbursable advances.

We cannot negotiate these terms with the Agencies and they are subject to change at any time. A significant change in these guidelines which decreases the fees we charge or requires us to expend additional resources in providing mortgage services could decrease our revenues or increase our costs, which would adversely affect our business, financial condition and results of operations.

In addition, changes in the nature or extent of the guarantees provided by Fannie Mae and Freddie Mac or the insurance provided by the FHA could also have broad adverse market implications. The fees that we are required to pay to the Agencies for these guarantees have changed significantly over time and any future increases in these fees would adversely affect our business, financial condition and results of operations.

We depend upon having FDIC insurance to raise deposit funding at reasonable rates. Increases in deposit insurance premiums and special FDIC assessments will adversely affect our earnings.

The Dodd-Frank Act required the FDIC to substantially revise its regulations for determining the amount of an institution's deposit insurance premiums. The FDIC has defined the deposit insurance assessment base for an insured depository institution as average consolidated total assets during the assessment period, minus average tangible equity. Our assessment rate is determined by use of a scorecard that combines our CAMELS ratings with certain other financial information. The FDIC may determine that we present a higher risk to the DIF than other banks due to various factors. These factors include significant risks relating to interest rates, loan portfolio and geographic concentration, concentration of high credit risk loans, increased loan losses, regulatory compliance (including under existing Supervisory Agreement), existing and future litigation and other factors. As a result, we could be subject to higher deposit insurance premiums and special assessments in the future that could adversely affect our earnings. The Bank’s deposit insurance premiums and special assessments in the future also may be higher than competing banks may be required to pay. For the years ended December 31, 2017, 2016 and 2015, our FDIC insurance expense premiums totaled $16 million, $11 million and $23 million, respectively.

14




Operational Risk

We may experience risks associated with the successful integration of mergers and acquisitions.

Related to the pending acquisition of eight Desert Community Bank branches, we may experience challenges related to the integration of their operations which may result in additional cost. This includes the transition of data, integration of product offerings and the standardization of business practices. Complications associated with this process could result in delays or an inability to close the transaction, additional cost, loss of customers, damage to our reputation or other operational risks.

A failure of our information technology systems, or those of our key third party vendors or service providers, could cause operational losses and damage our reputation.

Our businesses are increasingly dependent on our ability to process, record and monitor a large number of complex transactions and data. If our internal information technology systems fail, we may be unable to conduct business for a period of time, which may impact our financial results if that interruption is sustained. In addition, our reputation with our customers or business partners may suffer, which could have a further, long-term impact on our financial results.

Because we conduct part of our business over the Internet and outsource a significant number of our critical functions to third parties, our operations depend on our third-party service providers to maintain and operate their own technology systems. To the extent these third parties’ systems fail, we may be unable to conduct business or provide certain services, and we may face financial and reputational losses as a result.

We collect, store and transfer our customers’ personally identifiable information. Any cybersecurity attack or other compromise to the security of that information could adversely impact our business and financial condition.

Cybersecurity related attacks are attempted on an ongoing basis which pose a risk of data breaches relative to the processing of consumer transactions that contain customers’ personally identifiable information. As a part of conducting business, we receive, transmit and store a large volume of personally identifiable information and other user data either on our network or in the cloud.

Cybersecurity risks for banking institutions have increased significantly in recent years due to new technologies, the reliance on technology to conduct financial transactions and the increased sophistication of organized crime and hackers. A cybersecurity attack or information security breach could adversely impact our ability to conduct business due to the potential costs for remediation, protection and litigation and reputational damage with customers, business partners and investors.
There are myriad federal, state, local and international laws regarding privacy and the storing, sharing, use, disclosure and protection of personally identifiable information and user data. We have policies and processes in place that are intended to meet the requirements of those laws, including security systems to prevent unauthorized access to that information. Nevertheless, those processes and systems may be inadequate. Also, to the extent we rely upon third parties to handle personally identifiable data on our behalf, we may be responsible if such data is compromised or subject to a cybersecurity attack while in the custody and control of those third parties.
Privacy laws are continually evolving and many state and local jurisdictions have laws that differ from federal law or privacy policies, further some of those policies or laws may conflict. If we fail to comply with applicable privacy policies or federal, state, local or international laws and regulations or any compromise of security that results in the unauthorized release of personally identifiable information or other user data, those events could damage the reputation of our business, and discourage potential users from utilizing our products and services. In addition, we may have to bear the cost of mitigating identity theft concerns, and may be subject to fines or legal proceedings by governmental agencies or consumers. Any of these events could adversely affect our business and financial condition.


15



We may be terminated as a servicer or subservicer or incur costs, liabilities, fines and other sanctions if we fail to satisfy our servicing obligations, including our obligations with respect to mortgage loan foreclosure actions.

We act as servicer or subservicer for mortgage loans owned by third parties, which is approximately 9 percent of our revenue and results in approximately $1.5 billion of our average company controlled deposits. In such capacities for those loans, we have certain contractual obligations, including foreclosing on defaulted mortgage loans or, to the extent applicable, considering alternatives to foreclosure. If we commit a material breach of our obligations as servicer, we may be subject to termination if the breach is not cured within a specified period of time following notice, causing us to lose servicing income.

For certain investors and/or certain transactions, we may be contractually obligated to repurchase a mortgage loan or reimburse the investor for credit or other losses incurred on the loan as a remedy for servicing errors with respect to the loan. If we have increased repurchase obligations because of claims for which we did not satisfy our obligations, or increased loss severity on such repurchases, we may have a significant reduction to noninterest income or an increase to noninterest expense. We may incur significant costs if we are required to, or if we elect to, re-execute or re-file documents or take other action in our capacity as a servicer in connection with pending or completed foreclosures. We may incur litigation costs if the validity of a foreclosure action is challenged by a borrower. If a court were to overturn a foreclosure because of errors or deficiencies in the foreclosure process, we may have liability to the borrower and/or to any title insurer of the property sold in foreclosure if the required process was not followed. These costs and liabilities may not be legally or otherwise reimbursable to us.

We may be required to repurchase mortgage loans, pay fees or indemnify buyers against losses in some circumstances, which could harm liquidity, results of operations and financial condition.

When mortgage loans are sold by us, we make customary representations and warranties to purchasers, guarantors and insurers, including the Agencies, about the mortgage loans, and the manner in which they were originated. We have made, and will continue to make, such representations and warranties in connection with the sale of loans. Whole loan sale agreements require us to repurchase or substitute mortgage loans, or indemnify buyers against losses, in the event we breach these representations or warranties. In addition, we may be required to repurchase mortgage loans as a result of early payment default of the borrower or we may be required to pay fees. We also are subject to litigation relating to these representations and warranties and the costs of such litigation may be significant. With respect to loans that are originated through our broker or correspondent channels, the remedies we have available against the originating broker or correspondent, if any, may not be as broad as the remedies available to purchasers, guarantors and insurers of mortgage loans against us. We also face further risk that the originating broker or correspondent, if any, may not have the financial capacity to perform remedies that otherwise may be available. Therefore, if a purchaser, guarantor or insurer enforces its remedies against us, we may not be able to recover losses from the originating broker or correspondent. If repurchase and indemnity demands increase and such demands are valid claims, the liquidity, results of operations and financial condition may also be adversely affected.

Our representation and warranty reserve, which is based on an estimate of probable future losses, was $15 million at December 31, 2017. This may not be adequate to cover losses for loans that we have sold or securitized into the secondary market which we may be subsequently required to repurchase, pay fines or fees, or indemnify purchasers and insurers because of violations of customary representations and warranties. The repurchase demand pipeline was $3 million UPB at December 31, 2017.

Our regulators, as part of their supervisory function, periodically review our representation and warranty reserve for losses. Our regulators may recommend or require us to increase our reserve, based on their judgment, which may differ from that of our management. Any increase in our loan losses could have an adverse effect on our earnings and financial condition.

We utilize third party mortgage originators which subjects us to strategic, reputation, compliance and operational risk.

In 2017, approximately 90 percent of our residential first mortgage volume depended upon the use of third party mortgage originators, i.e. mortgage brokers and correspondent lenders, who are not our employees. These third parties originate mortgages and provide services to many different banks and other entities. Accordingly, they may have relationships with or loyalties to such banks and other parties that are different from those they have with or to us. Failure to maintain good relations with such third party mortgage originators could have a negative impact on our market share which would negatively impact our results of operations.

16




We rely on third party mortgage originators to originate and document the mortgage loans we purchase or originate. While we perform due diligence on the mortgage companies with whom we do business and review the loan files and loan documents we purchase to attempt to detect any irregularities or legal noncompliance, we have less control over these originators than employees of the Bank.

Due to regulatory scrutiny, our third party mortgage originators could choose or be required to either reduce the scope of their business or exit the mortgage origination business altogether. The TILA-RESPA Integrated Disclosure Rule issued by the CFPB establishes comprehensive mortgage disclosure requirements for lenders and settlement agents in connection with most closed-end consumer credit transactions secured by real property. The rule requires certain disclosures to be provided to consumers in connection with applying for and closing on a mortgage loan. The rule also mandates the use of specific disclosure forms, timing of communicating information to borrowers and certain record keeping requirements. The ongoing administrative burden and the system requirements associated with complying with these rules or potential changes to these rules could impact our mortgage volume and an increase in costs. In addition, these arrangements with third party mortgage originators and the fees payable by us to such third parties could be subject to regulatory scrutiny and restrictions in the future.

The Equal Credit Opportunity Act and the Fair Housing Act, prohibit discriminatory lending practices by lenders, including financial institutions. These regulations apply to lending operations which deal directly with consumer lending. Mortgage and consumer lending practices raise compliance risks resulting from the detailed and complex nature of mortgage and consumer lending laws regulations imposed by federal regulatory agencies, and the relatively independent and diverse operating channels in which loans are originated. As we originate loans through various channels, we, and our third party mortgage originators, are especially impacted by these laws and regulations and are required to implement appropriate policies and procedures to help ensure compliance with fair lending laws and regulations and to avoid lending practices that result in the disparate treatment of or disparate impact to borrowers across our various locations under multiple channels. Failure to comply with these laws and regulations, by us or our third party mortgage originators, could result in the Bank being liable for damages to individual borrowers or other imposed penalties.

General Risk Factors

MP Thrift, an entity managed and controlled by MatlinPatterson, owns 62.1 percent of our common stock and has significant influence over us, including control over decisions that require the approval of stockholders, whether or not such decisions are in the best interests of other stockholders.

MP Thrift owns a substantial majority of our outstanding common stock and as a result, has control over our decisions to enter into any corporate transaction and also the ability to prevent any transaction that requires the approval of our board of directors or the stockholders regardless of whether or not other members of our board of directors or stockholders believe that any such transactions are in their own best interests. So long as MP Thrift continues to hold a majority of our outstanding common stock, it will have the ability to control the vote in any election of directors and other matters being voted on, and continue to exert significant influence over us. Furthermore, MP Thrift may have interests that could diverge from the interests of other stockholders, and may use its control to make decisions that adversely affect the interest of other common stockholders and other holders of our debt or other equity instruments.

We are subject to various legal or regulatory investigations and proceedings.

At any given time, we are involved with a number of legal and regulatory investigations and proceedings as a part of the routine reviews conducted by regulators and other parties which may involve consumer protection, employment, tort, and numerous other laws and regulations. Proceedings or actions brought against us may result in judgments, settlements, fines, injunctions, business improvement orders, consent orders, supervisory agreements, restrictions on our business activities or other results adverse to us, which could materially and negatively affect our business. If such claims and other matters are not resolved in a manner favorable to us, they may result in significant financial liability and/or adversely affect the market perception of us and our products and services, as well as impact customer demand for those products and services. Some of the laws and regulations to which we are subject may provide a private right of action that a consumer or class of consumers may pursue to enforce these laws and regulations. We have been, and may be in the future, subject to stockholder derivative actions, which could seek significant damages or other relief. Any financial liability or reputational damage could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations. Claims asserted against us can be highly complicated and slow to develop, making the outcome of such proceedings difficult to predict or estimate early in the process. As a participant in the financial services industry, it is likely that we will be exposed to a high level of litigation and regulatory scrutiny and investigations relating to our business and operations.

17




Although we establish accruals for legal proceedings when information related to the loss contingencies represented by those matters indicates both that a loss is probable and that the amount of loss can be reasonably estimated, we do not have accruals for all legal proceedings where we face a risk of loss. Due to the inherent subjectivity of the assessments and unpredictability of the outcome of legal and regulatory proceedings, amounts accrued may not represent the ultimate loss to us from the legal and regulatory proceedings in question. As a result, our ultimate losses may be significantly higher than the amounts accrued for legal loss contingencies. For further information, see Note 21 - Legal Proceedings, Contingencies and Commitments.

Our assessment of the accounting impact of tax reform is subject to further clarification and guidance yet to be issued.

The Tax Cuts and Jobs Act was enacted into law on December 22, 2017 and as of December 31, 2017, we calculated its accounting impact based on the new legislation as written. Upon completion of our 2017 U.S. income tax return in 2018, we may identify additional remeasurement adjustments to our recorded deferred tax assets as further clarification and guidance is issued. We will continue to assess our provision for income taxes and deferred tax assets with new guidance but do not currently anticipate that significant revisions or adjustments will be necessary. Any required revisions will be made within the measurement period, defined by Staff Accounting Bulletin No. 118 as within one year of the enactment date.

Loss of certain personnel, including key members of the Corporation's management team, could adversely affect the Corporation.

We are and will continue to be dependent upon our management team and other key personnel. Losing the services of one or more key members of our management team or other key personnel could adversely affect our operations.

In addition, we are subject to regulations that allow us to make severance payments only in limited circumstances. Our named executive officers may be entitled to certain severance and change in control benefits. Although we follow certain leading practices with respect to executive compensation including eliminating supplemental executive retirement plans (SERPs) or other nonqualified plans for executives and avoiding severance payments for "cause" terminations or voluntary resignations, we may be subject to certain legal or regulatory risks associated with previous employment agreements or retirement plans which could impact our liabilities related to these matters and results of operations.

Other Risk Factors

The above description of risk factors is not exhaustive. Other risk factors are described elsewhere herein as well as in other reports and documents that we file with or furnish to the SEC. Other factors that could also cause results to differ from our expectations may not be described herein or in any such report or document. Each of these factors could by itself, or together with one or more other factors, adversely affect our business, results of operations and/or financial condition.

ITEM 1B. UNRESOLVED STAFF COMMENTS

None.

ITEM 2. PROPERTIES

Flagstar's headquarters is located in Troy, Michigan at 5151 Corporate Drive. We operate a regional office in Jackson, Michigan. We own both the headquarters and regional office buildings. At December 31, 2017, we operated 99 branches in Michigan, of which 75 were owned and 24 were leased. Our Michigan branches consist of 88 free-standing office buildings, one in-store banking center and 10 branches in buildings in which there are other tenants. We also have 89 retail mortgage locations that are primarily leased, as well as 4 wholesale lending offices and 5 commercial lending offices, located in 29 states.

ITEM 3. LEGAL PROCEEDINGS

From time to time, the Company is party to legal proceedings incident to its business. For further information, see Note 21 - Legal Proceedings, Contingencies and Commitments.

ITEM 4. MINE SAFETY DISCLOSURES
    
Not applicable.

18



PART II 
ITEM 5.
MARKET FOR THE REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

Our common stock trades on the NYSE under the trading symbol FBC. At December 31, 2017, there were 57,321,228 shares of our common stock outstanding held by 20,627 stockholders of record. The following table shows the high and low sale prices for our common stock during each calendar quarter during 2017 and 2016.
Quarter Ending
Highest Sale Price
 
Lowest Sale Price
December 31, 2017
$
38.48

 
$
34.82

September 30, 2017
35.48

 
29.89

June 30, 2017
31.36

 
27.59

March 31, 2017
29.10

 
25.42

December 31, 2016
$
29.08

 
$
26.35

September 30, 2016
28.09

 
24.40

June 30, 2016
24.47

 
20.68

March 31, 2016
23.13

 
17.49


Dividends

We have not paid dividends on our common stock since the fourth quarter 2007. The amount and nature of any dividends declared on our common stock in the future will be determined by our board of directors. We are generally prohibited from making any dividend payments on stock except pursuant to the prior non-objection of the Federal Reserve as set forth in the Supervisory Agreement. For additional information regarding dividends, see MD&A - Liquidity Risk and MD&A - Capital.

Sale of Unregistered Securities

We made no unregistered sales of our equity securities during the fiscal year ended December 31, 2017.

Issuer Purchases of Equity Securities

We made no purchases of equity securities during the fiscal year ended December 31, 2017.

Equity Compensation Plan Information

For information with respect to securities to be issued under our equity compensation plans, see Part III, Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters, which information is hereby incorporated by reference.


19



Performance Graph

CUMULATIVE TOTAL STOCKHOLDER RETURN
COMPARED WITH PERFORMANCE OF SELECTED INDICES
DECEMBER 31, 2012 THROUGH DECEMBER 31, 2017
392554794_chart-27b3631b49a25384adf.jpg
 
Flagstar Bancorp
 
Nasdaq Financial
 
Nasdaq Bank
 
S&P Small Cap 600
 
Russell 2000
December 31, 2012
100
 
100
 
100
 
100
 
100
December 31, 2013
101
 
138
 
139
 
140
 
137
December 31, 2014
81
 
142
 
143
 
146
 
142
December 31, 2015
119
 
146
 
152
 
141
 
134
December 31, 2016
139
 
180
 
206
 
176
 
160
December 31, 2017
193
 
203
 
213
 
196
 
181

20




ITEM 6. SELECTED FINANCIAL DATA
 
For the Years Ended December 31,
 
2017
 
2016
 
2015
 
2014
 
2013
 
(In millions, except share data and percentages)
Summary of Consolidated Statements of Operations
 
 
 
 
 
 
 
 
 
Net interest income
$
390

 
$
323

 
$
287

 
$
247

 
$
186

Provision (benefit) for loan losses
6

 
(8
)
 
(19
)
 
132

 
70

Noninterest income
470

 
487

 
470

 
372

 
653

Noninterest expense
643

 
560

 
536

 
590

 
918

Provision (benefit) for income taxes
148

 
87

 
82

 
(34
)
 
(416
)
Net income (loss)
63

 
171

 
158

 
(69
)
 
267

Preferred stock dividends/accretion

 

 

 
(1
)
 
(6
)
Net income (loss) from continuing operations
$
63

 
$
171

 
$
158

 
$
(70
)
 
$
261

Income (loss) per share:
 
 
 
 
 
 
 
Basic
$
1.11

 
$
2.71

 
$
2.27

 
$
(1.72
)
 
$
4.40

Diluted
$
1.09

 
$
2.66

 
$
2.24

 
$
(1.72
)
 
$
4.37

Weighted average shares outstanding:
 
 
 
 
 
 
 
 
 
Basic
57,093,868

 
56,569,307

 
56,426,977

 
56,246,528

 
56,063,282

Diluted
58,178,343

 
57,597,667

 
57,164,523

 
56,246,528

 
56,518,181


 
December 31,
 
2017
 
2016
 
2015
 
2014
 
2013
 
(In millions, except per share data and percentages)
Summary of Consolidated Statements of Financial Condition
 
 
 
 
 
 
 
 
 
Total assets
$
16,912

 
$
14,053

 
$
13,715

 
$
9,840

 
$
9,407

Loans receivable, net
12,165

 
9,465

 
9,226

 
6,523

 
6,637

Total deposits
8,934

 
8,800

 
7,935

 
7,069

 
6,140

Total short-term and long-term Federal Home Loan Bank advances
5,665

 
2,980

 
3,541

 
514

 
988

Long-term debt
494

 
493

 
247

 
331

 
353

Stockholders' equity (1)
1,399

 
1,336

 
1,529

 
1,373

 
1,426

Book value per common share
24.40

 
23.50

 
22.33

 
19.64

 
20.66

Tangible book value per share
24.04

 
23.50

 
22.33

 
19.64

 
20.66

Number of common shares outstanding
57,321,228

 
56,824,802

 
56,483,258

 
56,332,307

 
56,138,074

(1)
Includes preferred stock totaling $0 million, $0 million, $267 million, $267 million, and $266 million for the years ended December 31, 2017, 2016, 2015, 2014 and 2013, respectively.



21



 
At or For the Years Ended December 31,
 
2017
 
2016
 
2015
 
2014
 
2013
 
(In millions, except share data and percentages)
Average Balances:
 
 
 
 
 
 
 
 
 
Average interest-earning assets
$
14,130

 
$
12,164

 
$
10,436

 
$
8,440

 
$
10,882

Average interest paying liabilities
11,848

 
9,757

 
8,305

 
6,780

 
9,338

Average stockholders’ equity
1,433

 
1,464

 
1,486

 
1,406

 
1,239

Selected Ratios:
 
 
 
 
 
 
 
 
 
Interest rate spread
2.56
%
 
2.45
%
 
2.58
%
 
2.80
 %
 
1.50
%
Net interest margin
2.75
%
 
2.64
%
 
2.74
%
 
2.91
 %
 
1.72
%
Return (loss) on average assets
0.40
%
 
1.23
%
 
1.32
%
 
(0.71
)%
 
2.08
%
Return (loss) on average equity
4.41
%
 
11.69
%
 
10.63
%
 
(4.97
)%
 
21.09
%
Return (loss) on average common equity
4.4
%
 
13.0
%
 
10.5
%
 
(6.1
)%
 
26.8
%
Equity-to-assets ratio
8.27
%
 
9.50
%
 
11.14
%
 
13.95
 %
 
15.16
%
Common equity-to-assets ratio
8.27
%
 
9.50
%
 
9.20
%
 
11.24
 %
 
12.33
%
Equity/assets ratio (average for the period)
9.05
%
 
10.52
%
 
12.43
%
 
14.22
 %
 
9.87
%
Efficiency ratio
74.8
%
 
69.2
%
 
70.9
%
 
95.4
 %
 
109.4
%
Bancorp Tier 1 leverage (to adjusted avg. total assets) (1)(2)
8.51
%
 
8.88
%
 
11.51
%
 
N/A

 
N/A

Bank Tier 1 leverage (to adjusted avg. total assets)
9.04
%
 
10.52
%
 
11.79
%
 
12.43
 %
 
13.97
%
Effective tax provision rate (3)
70.1
%
 
33.7
%
 
34.2
%
 
32.9
 %
 
29.7
%
Selected Statistics:
 
 
 
 
 
 
 
 
 
Mortgage rate lock commitments (fallout-adjusted) (4)
$
32,527

 
$
29,372

 
$
25,511

 
$
24,007

 
$
31,590

Mortgage loans sold and securitized
$
32,493

 
$
32,033

 
$
26,307

 
$
24,407

 
$
39,075

Number of banking centers
99

 
99

 
99

 
107

 
111

Number of FTE employees
3,525

 
2,886

 
2,713

 
2,739

 
3,253

(1)
Applicable to Bancorp for the years ended December 31, 2017, 2016, and 2015.
(2)
Basel III transitional.
(3)
The year ended December 31, 2017 includes an $80 million one-time, non-cash charge to the provision for income taxes resulting from the revaluation of the Company's net deferred tax asset (DTA) at a lower statutory rate as a result of the Tax Cuts and Jobs Act.
(4)
Fallout adjusted refers to mortgage rate lock commitments which are adjusted by a percentage of mortgage loans in the pipeline that are not expected to close based on previous historical experience and the level of interest rates.

 






22



ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
 

23



The following is an analysis of our financial condition and results of operations. This should be read in conjunction with our Consolidated Financial Statements and related notes filed with this report in Part II, Item 8. Financial Statements and Supplementary Data.

Overview    

We are a leading savings and loan holding company founded in 1993. Our business is primarily conducted through our principal subsidiary, the Bank, a federally chartered stock savings bank founded in 1987. We provide a range of commercial, small business, and consumer banking services and we are the 5th largest mortgage originator in the nation. We distinguish ourselves by crafting specialized solutions for our customers, local delivery, high quality customer service and competitive product pricing. For additional details and information on each of our lines of business, see MD&A - Operating Segments and Note 23 - Segment Information.

Executive Overview

The year ended 2017 resulted in net income of $63 million, or $1.09 per diluted share, and adjusted net income of $143 million or $2.47 per diluted share, after adjusting for a non-cash charge of $80 million, or $1.37 per diluted share due to the revaluation of our net deferred tax asset under the new Tax Cuts and Jobs Act. The durability of our earnings was proven in 2017 as the continued growth of our community bank and mortgage servicing businesses, combined with the strength of our mortgage origination business, produced more predictable and consistent results. The transformation of the community bank into a strong commercial bank and our 2017 strategic mortgage acquisitions provide more levers to respond to market opportunities and maximize earnings.

The community bank added $1 billion of commercial real estate and commercial and industrial loans to the balance sheet. These higher yielding loans helped drive net interest income up 21 percent or $67 million for the full year 2017 compared to the full year 2016. Total deposits increased 2 percent to $8.9 billion and costs remained well managed in a rising interest rate environment. In addition, the pending acquisition of eight branches of Desert Community Bank, expected to close in the first quarter of 2018, will provide approximately $600 million in low cost deposits to fund loan growth and expand our banking footprint.

Mortgage originations totaled $34 billion, representing a 6 percent increase in closings, despite a softer origination market in 2017. Additionally, fallout adjusted locks increased 11 percent or $3 billion during the year. The two mortgage acquisitions occurring in 2017 strengthened our delegated correspondent and distributed retail channels, providing us more flexibility in responding to challenges in the mortgage market. Our two jumbo mortgage securitizations demonstrate our capability to execute mortgage loan sales through another market mechanism which will continue to allow us to respond more dynamically to market opportunities.

Our mortgage servicing business continued to gain scale and ended the year servicing over 442,000 accounts. During 2017, we had over $33 billion in MSR sales making us one of the largest sellers of MSRs in the country. Of those sales, we retained subservicing on 84 percent solidifying our national position as the 8th largest subservicer. This high retention rate validated the quality of our servicing platform.

Noninterest expense increased 15 percent to $643 million in 2017 as we made investments in future growth. We remain focused on improving efficiency through increasing revenues while maintaining cost discipline across the organization.

We ended the year with $16.9 billion in assets, up $2.9 billion, or 20 percent, from year end 2016. Our credit quality is solid with only $8 million in net charge-offs and sustained low levels of delinquencies in 2017. Our robust capital position remains a hallmark with Tier 1 leverage at 8.5 percent at December 31, 2017, well above the amount needed to be considered "well capitalized". The proposed simplification of the Basel III rules, if enacted as proposed, as well as the decrease in the corporate tax rate will accelerate capital formation to support further balance sheet growth and improve our capital flexibility. We believe we are well-positioned, supported by the capital and liquidity to prudently grow the Bank, to drive increased earnings and deliver greater shareholder value.

24



Earnings Performance

 
For the Years Ended December 31,
 
2017
 
2016
 
2015
 
(Dollars in millions)
Net interest income
$
390

 
$
323

 
$
287

Provision (benefit) for loan losses
6

 
(8
)
 
(19
)
Total noninterest income
470

 
487

 
470

Total noninterest expense
643

 
560

 
536

Provision for income taxes
148

 
87

 
82

Net income
$
63

 
$
171

 
$
158

Adjusted net income (1)
$
143

 
$
155

 
$
158

Income per share:
 
 
 
 
 
Basic
$1.11
 
$2.71
 
$2.27
Diluted
$1.09
 
$2.66
 
$2.24
Adjusted diluted (1)
$2.47
 
$2.38
 
$2.24
(1)
For further information, see MD&A - Use of Non-GAAP Financial Measures.
    
Full year 2017 net income was $63 million, or $1.09 per diluted share, as compared to full year 2016 net income of $171 million, or $2.66 per diluted share. The 2017 full year results included a charge of $80 million to the provision for income taxes, or $1.37 per diluted share, due to the revaluation of DTAs at a lower statutory rate resulting from the Tax Cuts and Jobs Act. Excluding this charge, the Company had adjusted 2017 net income of $143 million, or $2.47 per diluted share.

The $12 million decrease in adjusted net income for the year ended December 31, 2017 as compared to the year ended December 31, 2016, was primarily driven by higher expenses resulting from growth initiatives, including our 2017 acquisitions, as well as expenses related to increased mortgage volume. This was partially offset by a $67 million increase in net interest income due to interest earning asset growth of $2.0 billion led by higher average LHFS due to extending turn times and accumulation of loans in support of residential mortgage backed securitization and continued commercial lending growth. Our transition to a commercial bank resulted in a 57 percent increase in average commercial loans for the year ended December 31, 2017, compared to the year ended December 31, 2016.

Full year 2016 net income was $171 million, or $2.66 per diluted share, as compared to full year 2015 net income of $158 million, or $2.24 per diluted share. The 2016 full year results included a $24 million benefit related to a decrease in the fair value of the DOJ settlement liability. Excluding this benefit, the Company had adjusted 2016 net income of $155 million, or $2.38 per diluted share.

The $3 million decrease in adjusted net income for the year ended December 31, 2016 as compared to the year ended December 31, 2015, was primarily driven by higher performance driven expenses and a lower benefit for loan losses partially offset by a $36 million increase in net interest income. Net interest income increased as a result of growth in our interest earning assets as we executed on our strategic initiative to deploy capital and replace lower credit quality assets with higher quality residential and commercial loans. As a result of this initiative, we grew average interest earning assets by 17 percent from $10.4 billion during the year ended December 31, 2015 to $12.2 billion during the year ended December 31, 2016.

For a reconciliation and discussion of non-GAAP financial measures discussed above, see MD&A - Use of Non-GAAP Financial Measures. Additional details of each key driver have been further explained in Management’s discussion below.

25




Net Interest Income

The following table presents on a consolidated basis interest income from average assets and liabilities, expressed in dollars and yields:
 
For the Years Ended December 31,
 
2017
 
2016
 
2015
 
Average
Balance
Interest
Average
Yield/
Rate
 
Average
Balance
Interest
Average
Yield/
Rate
 
Average
Balance
Interest
Average
Yield/
Rate
 
(Dollars in millions)
Interest-Earning Assets
 
 
 
 
 
 
 
 
 
 
 
Loans held-for-sale
$
4,146

$
165

3.99
%
 
$
3,134

$
113

3.62
%
 
$
2,188

$
85

3.90
%
Loans held-for-investment
 
 
 
 
 
 
 
 
 
 
 
Residential first mortgage
2,549

85

3.35
%
 
2,328

74

3.16
%
 
2,562

85

3.33
%
Home Equity
471

24

5.06
%
 
475

24

5.17
%
 
491

27

5.40
%
Other
26

1

4.51
%
 
29

1

4.73
%
 
30

2

5.30
%
Total Consumer loans
3,046

110

3.62
%
 
2,832

99

3.52
%
 
3,083

114

3.68
%
Commercial Real Estate
1,579

68

4.25
%
 
1,004

35

3.46
%
 
678

22

3.21
%
Commercial and Industrial
981

47

4.73
%
 
631

27

4.22
%
 
438

17

3.86
%
Warehouse Lending
890

43

4.73
%
 
1,346

58

4.22
%
 
877

39

4.41
%
Total Commercial loans
3,450

158

4.51
%
 
2,981

120

3.97
%
 
1,993

78

3.88
%
Total loans held-for-investment (1)
6,496

268

4.09
%
 
5,813

219

3.75
%
 
5,076

192

3.76
%
Loans with government guarantees
290

13

4.30
%
 
435

16

3.59
%
 
633

18

2.86
%
Investment securities
3,121

80

2.57
%
 
2,653

68

2.56
%
 
2,305

59

2.55
%
Interest-bearing deposits
77

1

1.15
%
 
129

1

0.50
%
 
234

1

0.50
%
Total interest-earning assets
14,130

$
527

3.71
%
 
12,164

$
417

3.42
%
 
10,436

$
355

3.38
%
Other assets
1,716

 
 
 
1,743

 
 
 
1,520

 
 
Total assets
$
15,846

 
 
 
$
13,907

 
 
 
$
11,956

 
 
Interest-Bearing Liabilities
 
 
 
 
 
 
 
 
 
 
 
Retail deposits
 
 
 
 
 
 
 
 
 
 
 
Demand deposits
$
514

$
1

0.19
%
 
$
489

$
1

0.18
%
 
$
429

$
1

0.14
%
Savings deposits
3,829

29

0.76
%
 
3,751

29

0.78
%
 
3,693

30

0.82
%
Money market deposits
255

1

0.50
%
 
278

1

0.44
%
 
258

1

0.31
%
Certificate of deposits
1,187

14

1.18
%
 
990

10

1.05
%
 
787

6

0.77
%
Total retail deposits
5,785

45

0.78
%
 
5,508

41

0.76
%
 
5,167

38

0.73
%
Government deposits
 
 
 
 
 
 
 
 
 
 
 
Demand deposits
222

1

0.45
%
 
228

1

0.39
%
 
257

1

0.39
%
Savings deposits
406

3

0.68
%
 
442

2

0.52
%
 
405

2

0.52
%
Certificate of deposits
329

3

0.82
%
 
382

2

0.40
%
 
358

1

0.39
%
Total government deposits
957

7

0.67
%
 
1,052

5

0.45
%
 
1,020

4

0.44
%
Wholesale deposits and other
23


1.35
%
 


%
 


%
Total interest-bearing deposits
6,765

52

0.77
%
 
6,560

46

0.71
%
 
6,187

42

0.68
%
Short-term Federal Home Loan Bank advances and other
3,356

36

1.09
%
 
1,249

5

0.44
%
 
311

1

0.30
%
Long-term Federal Home Loan Bank advances
1,234

24

1.92
%
 
1,584

27

1.72
%
 
1,500

18

1.17
%
Other long-term debt
493

25

5.08
%
 
364

16

4.34
%
 
307

7

2.42
%
Total interest-bearing liabilities
11,848

137

1.15
%
 
9,757

94

0.97
%
 
8,305

68

0.82
%
Noninterest-bearing deposits (2)
2,142

 
 
 
2,202

 
 
 
1,690

 
 
Other liabilities
423

 
 
 
484

 
 
 
475

 
 
Stockholders’ equity
1,433

 
 
 
1,464

 
 
 
1,486

 
 
Total liabilities and stockholders' equity
$
15,846

 
 
 
$
13,907

 
 
 
$
11,956

 
 
Net interest-earning assets
$
2,282

 
 
 
$
2,407

 
 
 
$
2,131

 
 
Net interest income
 
$
390

 
 
 
$
323

 
 
 
$
287

 
Interest rate spread (3)
 
 
2.56
%
 
 
 
2.45
%
 
 
 
2.58
%
Net interest margin (4)
 
 
2.75
%
 
 
 
2.64
%
 
 
 
2.74
%
Ratio of average interest-earning assets to interest-bearing liabilities
 
 
119.3
%
 
 
 
124.7
%
 
 
 
125.7
%
(1)
Includes nonaccrual loans, for further information relating to nonaccrual loans, see Note 1 - Description of Business, Basis of Presentation, and Summary of Significant Accounting Policies.
(2)
Includes noninterest-bearing company controlled deposits that arise due to the servicing of loans for others.
(3)
Interest rate spread is the difference between rates of interest earned on interest-earning assets and rates of interest paid on interest-bearing liabilities.
(4)
Net interest margin is net interest income divided by average interest-earning assets.

26



Rate/Volume Analysis

The following tables present the dollar amount of changes in interest income and interest expense for the components of interest-earning assets and interest-bearing liabilities. The table distinguishes between the changes related to average outstanding balances (changes in volume while holding the initial rate constant) and the changes related to average interest rates (changes in average rates while holding the initial balance constant). The rate/volume variances are allocated to rate.
 
For the Years Ended December 31,
 
2017 Versus 2016 Increase
(Decrease) Due to:
 
2016 Versus 2015 Increase
(Decrease) Due to:
 
Rate
 
Volume
 
Total
 
Rate
 
Volume
 
Total
 
(Dollars in millions)
Interest-Earning Assets
 
 
 
 
 
 
 
 
 
 
 
Loans held-for-sale
$
15

 
$
37

 
$
52

 
$
(9
)
 
$
37

 
$
28

Loans held-for-investment
 
 
 
 
 
 
 
 
 
 
 
Residential first mortgage
5

 
6

 
11

 
(4
)
 
(7
)
 
(11
)
Home equity

 

 

 
(1
)
 
(2
)
 
(3
)
Other

 

 

 

 
(1
)
 
(1
)
Total Consumer loans
5

 
6

 
11

 
(5
)
 
(10
)
 
(15
)
Commercial Real Estate
13

 
20

 
33

 
3

 
10

 
13

Commercial and Industrial
5

 
15

 
20

 
2

 
8

 
10

Warehouse Lending
4

 
(19
)
 
(15
)
 
(2
)
 
21

 
19

Total Commercial loans
22

 
16

 
38

 
3

 
39

 
42

Total loans held-for-investment
27

 
22

 
49

 
(2
)
 
29

 
27

Loans with government guarantees
2

 
(5
)
 
(3
)
 
3

 
(5
)
 
(2
)
Investment securities

 
12

 
12

 
2

 
7

 
9

Total interest-earning assets
$
44

 
$
66

 
$
110

 
$
(6
)
 
$
68

 
$
62

Interest-Bearing Liabilities
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing deposits
3

 
3

 
6

 
(1
)
 
5

 
4

Short-term Federal Home Loan Bank advances and other
22

 
9

 
31

 
2

 
2

 
4

Long-term Federal Home Loan Bank advances
2

 
(5
)
 
(3
)
 
8

 
1

 
9

Other long-term debt
4

 
5

 
9

 
7

 
2

 
9

Total interest-bearing liabilities
31

 
12

 
43

 
16

 
10

 
26

Change in net interest income
$
13

 
$
54

 
$
67

 
$
(22
)
 
$
58

 
$
36


2017 Compared to 2016

Net interest income increased $67 million for the year ended December 31, 2017, compared to the same period in 2016. The increase was primarily driven by growth in average interest-earning assets of 16 percent, led by higher average LHFS balances and growth of our higher yielding commercial LHFI portfolios.

Our net interest margin for the year ended December 31, 2017 was 2.75 percent, as compared to 2.64 percent for the year ended December 31, 2016. The increase in net interest margin was driven by a higher average yield on interest earning assets due to the growth in our commercial loan portfolio. This was partially offset by an increase in interest expense resulting from a full year of interest on our long-term senior debt which was issued in July 2016.

Average interest-earnings assets increased $2.0 billion for the year ended December 31, 2017, compared to the same period in 2016. The increase was due to a $1.0 billion increase in LHFS due to extending turn times and accumulation of loans in support of residential mortgage backed securitization. The CRE and C&I portfolios increased $925 million, or 57 percent as we continue to focus our efforts on building a broad-based, higher yielding commercial loan portfolio as we execute on our transformation into a commercial bank.


27



Average interest-bearing liabilities increased $2.1 billion for the year ended December 31, 2017, compared to the full year in 2016, primarily due to an increase in FHLB advances used to fund balance sheet growth in excess of deposit growth. Average interest-bearing deposits increased $205 million, or 3 percent for the year ended December 31, 2017, compared to the same period in 2016, driven by higher average retail deposits, partially offset by lower average government deposits. Our costs remained well managed in a rising interest rate environment, despite a slight extension of duration due to a higher percentage of certificates of deposit.

2016 Compared to 2015

Net interest income increased $36 million for the year ended December 31, 2016, compared to the same period in 2015. The increase for the year was primarily driven by growth in average interest earning assets of 16 percent, partially offset by a decrease in the net interest margin driven by a competitive interest rate environment and issuance of 6.125 percent senior debt used to fund the TARP redemption.

Our net interest margin for the year ended December 31, 2016 was 2.64 percent, as compared to 2.74 percent for the year ended December 31, 2015. The decrease in net interest margin from 2015 was primarily driven by higher interest rates from longer term fixed rate debt taken to match-fund our longer duration asset growth, interest expense on senior debt issued to fund the TARP redemption and lower average interest rates on LHFS due to a more competitive interest rate environment. This decrease was partially offset by higher average yield on interest earning assets as we shifted from lower spread residential mortgage loans into higher spread commercial loans.

Average LHFS increased $946 million for the year ended December 31, 2016, compared to the same period in 2015, due to an increase in mortgage production resulting from a low interest rate market which drove increased refinance activity. Average LHFI increased $737 million for the year ended December 31, 2016, compared to the same period in 2015, primarily due to growth in warehouse and commercial loans where we have increased our market share and begun to grow our new product portfolios.

Provision (Benefit) for Loan Losses

2017 Compared to 2016

The provision for loan losses increased $14 million to $6 million for the year ended December 31, 2017, as compared to a benefit of $8 million for the year ended December 31, 2016. This increase is primarily due to loan growth of $1.6 billion in our commercial and consumer portfolios. The 2016 benefit resulted primarily from the sale of consumer loans with a UPB of $1.3 billion, of which $110 million were nonperforming.

2016 Compared to 2015

The provision for loan losses decreased $11 million for the year ended December 31, 2016, as compared to the year ended December 31, 2015. In 2016, the benefit resulted primarily from the sale of performing and nonperforming consumer loans with a UPB of $1.3 billion, of which $110 million were nonperforming, partially offset by commercial loan growth. In 2015, the provision (benefit) for loan losses included a net reduction in the allowance for loan losses relating to several loan sales, including a net reduction in the allowance relating to interest-only residential first mortgage loans, partially offset by an increase related to the growth in our LHFI portfolio.     

For further information, see MD&A - Credit Risk.


28



Noninterest Income

The following tables provide information on our noninterest income along with additional details related to our net gain on loan sales and activity that occurred within the period:
 
For the Years Ended December 31,
 
2017
 
2016
 
2015
 
(Dollars in millions)
Net gain on loan sales
$
268

 
$
316

 
$
288

Loan fees and charges
82

 
76

 
67

Deposit fees and charges
18

 
22

 
25

Loan administration income
21

 
18

 
26

Net (loss) return on mortgage servicing rights
22

 
(26
)
 
28

Representation and warranty benefit
13

 
19

 
19

Other noninterest income
46

 
62

 
17

Total noninterest income
$
470

 
$
487

 
$
470

 
For the Years Ended December 31,
 
2017
 
2016
 
2015
 
(Dollars in millions)
Mortgage rate lock commitments (fallout-adjusted) (1)
$
32,527

 
$
29,372

 
$
25,511

Net margin on mortgage rate lock commitments (fallout-adjusted) (1) (2)
0.82
%
 
1.02
%
 
1.13
%
Gain on loan sales + net return (loss) on the MSR (2)
$
290

 
$
290

 
$
316

Capitalized value of mortgage servicing rights
1.16
%
 
1.07
%
 
1.13
%
Mortgage loans sold and securitized
$
32,493

 
32,033

 
26,307

Net margin on loans sold and securitized
0.82
%
 
0.94
%
 
1.09
%
(1)
Fallout adjusted refers to mortgage rate lock commitments which are adjusted by a percentage of mortgage loans in the pipeline that are not expected to close based on previous historical experience and the level of interest rates.
(2)
Gain on sale margin is based on net gain on loan sales (excludes net gain on loan sales of $1 million, $15 million and zero from loans transferred from HFI for the years ended December 31, 2017, December 31, 2016 and December 31, 2015, respectively) to fallout-adjusted mortgage rate lock commitments.

2017 Compared to 2016

Total noninterest income was $470 million during the year ended December 31, 2017, which was a $17 million decrease from $487 million during the year ended December 31, 2016.

Net gain on loan sales decreased $48 million for the year ended December 31, 2017, compared to the same period in 2016. Market conditions impacted the net gain on loan sales margin which decreased 12 basis points with fallout adjusted lock yields decreasing 20 basis points to 0.82 percent. As a result of our 2017 mortgage acquisitions, the decrease in margin was partially offset by a 10.7 percent increase in fallout adjusted mortgage rate lock volume despite the 14 percent decline in the overall mortgage origination market experienced this year. In addition, the decrease in net gain on loan sales was partially attributable to extending turn times on sales of certain LHFS, when in our estimation extensions provide favorable economics, which shifts earnings from net gain on loan sales to net interest income as well as the sale of nonperforming LHFI that occurred in 2016 which resulted in a $14 million gain.

Total loan fees and charges increased $6 million, or 7.9 percent, for the year ended December 31, 2017, compared to the same period in 2016, primarily due to a corresponding 8.0 percent increase in loan originations.

Deposit fees and charges decreased $4 million for the year ended December 31, 2017, compared to the same period in 2016, primarily due to lower exchange fee income resulting from limitations set by the Durbin amendment, which became applicable to the Bank on July 1, 2016.

Loan administration income increased $3 million for the year ended December 31, 2017, compared to the same period in 2016. The increase was primarily driven by higher fee revenue due to an increase in the number of loans subserviced for others. This increased as a result of growth in our servicing business.


29



Net return on MSRs, including the impact of hedges, increased $48 million for the year ended December 31, 2017, compared to the same period in 2016. The increase was primarily driven by a more stable prepayment environment as a result of higher market interest rates, partially offset by a decrease in servicing fee income resulting from a lower MSR balance and higher transaction costs due to MSR sales that occurred in 2017.
 
Representation and warranty benefit decreased $6 million for the year ended December 31, 2017, compared to the same period in 2016. The decrease was primarily due to lower recoveries and a greater reduction of the reserve in 2016 compared to 2017. The reserve has continued to decrease as a result of sustained strong underwriting, low levels of repurchases and a low repurchase pipeline of $3 million UPB at December 31, 2017.

Other noninterest income decreased $16 million for the year ended December 31, 2017, compared to the same period in 2016. The decrease was primarily due to a $24 million reduction in the DOJ settlement liability that occurred in the third quarter of 2016. This decrease was partially offset by increased rental income attributable to growth in equipment financing, and higher investment, insurance, and commercial loan fee income.

2016 Compared to 2015

Total noninterest income increased $17 million during the year ended December 31, 2016 from the year ended December 31, 2015.

Net gain on loan sales increased $28 million for the year ended December 31, 2016, compared to the year ended December 31, 2015. The increase in gain on loan sales was primarily due to $3.9 million higher fallout-adjusted lock volume driven by an increase in refinance activity and a $14 million gain from the sale of performing LHFI. The increase was partially offset by lower loan sale margins driven by pricing competition.

Total loan fees and charges increased $9 million for the year ended December 31, 2016, compared to the year ended December 31, 2015, primarily due to higher mortgage loan closings.

Loan administration income decreased $8 million for the year December 31, 2016 to $18 million, compared to $26 million for the same period in 2015. The decrease was equally driven by lower fee revenue from loans subserviced for others and higher interest expense on average company controlled deposits which increased due primarily to higher refinance activity.

Our net loss on MSRs was $26 million for the year ended December 31, 2016, compared to a return of $28 million for the same period in 2015. The $54 million decrease was primarily due to a decline in fair value driven by higher prepayments, increased market implied interest rate volatility, and a $7 million charge related to MSR sales that closed during the year. These declines were partially offset by higher servicing fees and ancillary income received due to a higher average outstanding MSR balance carried throughout the year.
 
Other noninterest income increased $46 million for the year ended December 31, 2016, compared to the same period in 2015. The increase was primarily due to a $24 million benefit related to the reduction in the fair value of the DOJ settlement liability and an $11 million net improvement in fair value adjustments. Higher income earned on our bank owned life insurance and gains on the sale of AFS investment securities about equally drove the remaining improvement.


30



Noninterest Expense

The following table sets forth the components of our noninterest expense:
 
For the Years Ended December 31,
 
2017
 
2016
 
2015
 
(Dollars in millions)
Compensation and benefits
$
299

 
$
269

 
$
237

Occupancy and equipment
103

 
85

 
81

Commissions
72

 
55

 
39

Loan processing expense
57

 
55

 
52

Legal and professional expense
30

 
29

 
36

Other noninterest expense
82

 
67

 
91

Total noninterest expense
$
643

 
$
560

 
$
536

Efficiency ratio
74.8
%
 
69.2
%
 
70.9
%
Number of FTE
3,525

 
2,886

 
2,713


2017 Compared to 2016

Total noninterest expense increased $83 million during the year ended December 31, 2017 from the year ended December 31, 2016.

The $30 million increase in compensation and benefits expense for the year ended December 31, 2017, compared to the same period in 2016. This increase was driven by recent acquisitions and additions in our Community Banking segment to support growth in both our C&I and CRE portfolios. Our full-time equivalent employees increased by 22 percent from December 31, 2016 to a total of 3,525 full-time equivalent employees at December 31, 2017, of which 465 were Opes full-time equivalent employees.

The $18 million increase in occupancy and equipment expense for the year ended December 31, 2017, compared to the same period in 2016, was primarily due to a higher average depreciable asset base and increased utilization of vendor services to support the needs of our growing business.

Commission expense increased $17 million for the year ended December 31, 2017, compared to the same period in 2016, primarily due to higher loan originations and a shift in mix to delegated retail channels with higher commission rates resulting from our mortgage acquisitions.

Other noninterest expense increased $15 million for the year ended December 31, 2017, compared to the same period in 2016, primarily due to an increase in advertising expenses due to direct mail and brand awareness campaigns that were launched to drive deposit growth. The remaining increase is equally attributable to an increase in our FDIC assessment driven by growth in our commercial portfolios, higher business development costs related to acquisitions and an increase in charitable activities.

2016 Compared to 2015    

Total noninterest expense increased $24 million during the year ended December 31, 2016 from the year ended December 31, 2015.

The $32 million increase in compensation and benefits expense for the year ended December 31, 2016, compared to the same period in 2015, was primarily due to an increase in overall headcount in support of our new strategic initiatives along with an increase in performance-related compensation including the ExLTIP plan, for further information relating to ExLTIP plan, see Note 18 - Stock-Based Compensation. Our full-time equivalent employees increased overall by 173 from December 31, 2015 to a total of 2,886 full-time equivalent employees at December 31, 2016.

Commission expense increased $16 million for the year ended December 31, 2016, compared to the same period in 2015. Higher loan production and unfavorable product mix about equally drove a $9 million increase with the remaining increase being driven by our investment in new strategic initiatives.

31




Occupancy and equipment expense increased $4 million for the year ended December 31, 2016, compared to the same period in 2015, primarily due to an increase in maintenance costs related to software that was implemented in the fourth quarter 2015 along with a higher average depreciable asset base.
    
Legal and professional expense decreased $7 million for the year ended December 31, 2016 compared to the same period in 2015, primarily due to implementation of company-wide cost savings initiatives resulting in decreased utilization of third party service providers.
    
Other noninterest expense decreased $24 million for the year ended December 31, 2016, compared to the same period in 2015 primarily due to a decrease in federal insurance premium expenses driven by an improvement to our risk profile, combined with decreases in default servicing costs, foreclosure costs and an improvement in house prices, offset with higher litigation and regulatory related expenses that occurred in 2015.

Provision (Benefit) for Income Taxes

On December 22, 2017, the President of the United States signed into law H.R.1, originally known as the Tax Cuts and Jobs Act. The legislation includes various changes to the U.S. tax code which will have an impact on us, including, but not limited to, a reduction in the statutory corporation tax rate from a maximum rate of 35 percent to a flat rate of 21 percent effective January 1, 2018, repeal of the corporate alternative minimum tax (“AMT”), immediate expensing of capital investments, modifications to the provisions of future generated net operating losses, and additional limitations on the deductibility of performance-based compensation for named executive officers. We have analyzed and recorded the effects of the law’s impact in the financial statements for the period ended December 31, 2017.
  
2017 Compared to 2016

Our provision for income taxes for the year ended December 31, 2017 was $148 million, compared to a provision of $87 million for the year ended December 31, 2016. The increase in the provision for income taxes is primarily due to the charge to the provision for income taxes of approximately $80 million. This resulted from the revaluation of our DTAs as a result of the new tax legislation. Excluding this charge, the Company’s adjusted effective tax rate was 32.1 percent. This adjusted effective tax rate differs from the combined federal and state statutory rate primarily due to benefits from tax-exempt earnings and stock-based compensation.

2016 Compared to 2015    

Our provision for income taxes for the year ended December 31, 2016 was $87 million, compared to a provision of $82 million for the year ended December 31, 2015 and our effective tax provision rate decreased to 33.7 percent as compared to 34.2 percent for the same periods, respectively. The decrease in the effective tax rate is primarily due to the impact of the bank owned life insurance and state taxes in relation to pre-tax income.

For further information, see Note 19 - Income Taxes.


32



Fourth Quarter Results

The following table sets forth selected quarterly data:
 
Three Months Ended
 
December 31,
2017
 
September 30,
2017
 
December 31,
2016
 
(Unaudited)
 
(Unaudited)
 
(Unaudited)
 
(Dollars in millions)
Net interest income
$
107

 
$
103

 
$
87

Provision for loan losses
2

 
2

 
1

Total noninterest income
124

 
130

 
98

Total noninterest expense
178

 
171

 
142

Provision for income taxes
96

 
20

 
14

Net income
$
(45
)
 
$
40

 
$
28

Adjusted net income (1)
35

 
40

 
28

Income per share:
 
 
 
 
 
Basic
$
(0.79
)
 
$
0.71

 
$
0.50

Diluted
$
(0.79
)
 
$
0.70

 
$
0.49

Adjusted diluted (1)
$
0.60

 
$
0.70

 
$
0.49

Efficiency ratio
77.1
%
 
73.5
%
 
76.7
%
(1)
For further information, see MD&A - Use of Non-GAAP Financial Measures.

Fourth Quarter 2017 compared to Third Quarter 2017

Net loss for the three months ended December 31, 2017 was $45 million, or $0.79 per diluted share, as compared to a net gain of $40 million, or $0.70 per diluted share, for the three months ended September 30, 2017. The fourth quarter 2017 results included a one-time charge of $80 million to the provision for income taxes, or $1.37 per diluted share, due to the revaluation of our net deferred tax asset under the new Tax Cuts and Jobs Act. Excluding this charge, the Company had adjusted net income of $35 million, or $0.60 per diluted share, for the three months ended December 31, 2017

Adjusted net income decreased $5 million for the three months ended December 31, 2017 as compared to the three months ended September 31, 2017. The decrease was due to a $7 million increase in noninterest expense, primarily resulting from higher performance driven compensation and increased expenses to support the investment in our growth initiatives. In addition, noninterest income decreased $6 million, primarily due to a net loss on the MSRs based on a decrease in fair value and charges associated with a pending MSR sale. This decrease was offset by an increase in gain on loan sales, which experienced a 7 basis point increase in margins, due to favorable pricing experienced in the fourth quarter, offset by a modest 3 percent decline in fallout adjusted locks despite seasonal factors, reflecting the strength of our bulk and retail channels. These declines were partially offset by a $4 million increase in net interest income, driven by a 4 percent increase in average earning assets, led by continued growth in our commercial loan portfolio, which experienced an increase in average balances of $344 million, or 9 percent, for the fourth quarter 2017 as compared to the third quarter of 2017.

Fourth Quarter 2017 compared to Fourth Quarter 2016

Net loss for the three months ended December 31, 2017 was $45 million, or $0.79 per diluted share, as compared to a net gain of $28 million, or $0.49 per diluted share, for the three months ended December 31, 2016. The fourth quarter 2017 results included a one-time charge of $80 million to the provision for income taxes, or $1.37 per diluted share, due to the revaluation of our net deferred tax asset under the new Tax Cuts and Jobs Act. Excluding this charge, the Company had adjusted net income of $35 million, or $0.60 per diluted share, for the three months ended December 31, 2017.

Adjusted net income increased $7 million for the three months ended December 31, 2017 as compared to the three months ended December 31, 2016. The increase was driven by a $22 million increase in net gain on loan sales, primarily due to a 42 percent higher fallout adjusted lock volume as a result of our strategic acquisitions and investments made in 2017. In addition, net interest income increased $20 million, driven by a $2.6 billion, or 20 percent, increase in average earning assets, led by a $1.1 billion increase in the CRE and C&I portfolios. The increase in net interest income was further the result of a 9 basis point increase in net interest margin for the three months ended December 31, 2017, compared to the three months ended

33



December 31, 2016, primarily due to an increase in market rates, a higher yielding commercial loan portfolio, and continued deposit price discipline. These increases were partially offset by a $36 million increase in noninterest expense, driven by higher compensation and benefits due to increased headcount driven by the strategic acquisitions and investments in future revenue growth made in 2017.

Operating Segments

For detail on each segment's objectives, strategies, and priorities, please read this section in conjunction with Note 23 - Operating Segments, and other sections for a full understanding of our consolidated financial performance.

Community Banking

Our Community Banking segment services consumer, governmental and commercial customers. We also serve home builders, correspondents, and commercial customers in Michigan. We are focused on using capital and liquidity generated from the mortgage business to expand our community banking relationships and build net interest margin revenue and fee income.

Our commercial customers are from a diversified range of industries including financial, insurance, service, manufacturing, and distribution. We offer financial products to these customers for use in their normal business operations and financing of working capital needs, equipment purchases and other capital investments. Additionally, our commercial real estate division supports income producing real estate and residential properties. These loans are made to finance properties such as owner-occupied, retail, office, multi-family apartment buildings, industrial buildings, and residential developments which are repaid through cash flows related to the operation, sale, or refinance of the property.

Our Community Banking segment has seen continued growth throughout the year and our transformation into a community bank continues to be of importance to our overall business model. Our commercial loan portfolio has grown to $4.3 billion as of December 31, 2017, representing a 30.7 percent increase from December 31, 2016.

On November 13, 2017, we announced the signing of a definitive agreement to acquire eight Desert Community Bank branches in San Bernardino County, California, with approximately $600 million in deposits and $70 million in loans. The pending acquisition has received regulatory approval and is expected to close during the first quarter of 2018. This acquisition will provide us with low cost, stable deposits to fund balance sheet growth. Additionally, this acquisition will combine Desert Community Bank's successful deposit franchise with a significant Flagstar presence already on the West Coast, which includes our Opes Advisors division, warehouse lending and home builder finance activities.

Mortgage Originations

We are a leading national originator of residential first mortgage loans. Our Mortgage Origination segment originates, acquires and sells one-to-four family residential mortgage loans. We utilize multiple distribution channels to originate or acquire mortgage loans on a national scale. Our Mortgage Origination segment helps grow the servicing business which generates a stable, low cost funding source through company controlled deposits for the community bank. Additionally, the Mortgage Originations segment provides us with a large number of customer relationships which, along with our banking customer relationships, provide us an opportunity to prudently cross-sell a full line of consumer financial products which include mortgage refinancing, HELOC, and other consumer loans.

Correspondent. In the correspondent channels, an unaffiliated bank or mortgage company completes the loan paperwork and also funds the loan at closing. After the bank or mortgage company has funded the transaction, we purchase the loan at an agreed upon price. We perform a full review of each loan, whether purchased in bulk or not, purchasing only those loans that were originated in accordance with our underwriting guidelines. Correspondents apply to the Bank and may be approved for delegated underwriting authority. Delegated correspondents assume the risks associated with the underwriting of the loan and earn more on loans sold compared to non-delegated correspondents. Non-delegated correspondents earn commissions and administrative fees for closing and funding loans which are then underwritten by the Bank. We have active relationships with 479 delegated correspondents and 553 non-delegated correspondents servicing borrowers in all 50 states.

Broker. In a broker transaction, an unaffiliated mortgage broker completes several steps of the loan origination process including the loan paperwork, but the loans are underwritten by us on a loan-level basis to our underwriting standards and we fund and close the loan in the Bank's name, thereby becoming the lender of record. Currently, we have active broker relationships with 745 mortgage brokers servicing borrowers in all 50 states.

34



Retail. In our distributed retail channel, loans are originated through our nationwide network of stand-alone home loan centers. At December 31, 2017, we maintained 89 retail locations in 29 states representing the combined retail branches of Flagstar Bank and its Opes Advisors mortgage division. In a direct-to-consumer lending transaction, loans are originated through our direct-to-consumer team or from one of our two national call centers, both of which may leverage our existing customer relationships. When loans are originated on a retail basis, most aspects of the lending process are completed internally, including the origination documentation (inclusive of customer disclosures), as well as the funding of the transactions.
The following tables disclose residential first mortgage loan originations by channel, type and mix:
 
At December 31,
 
2017
 
2016
 
2015
 
2014
 
2013
 
(Dollars in millions)
Correspondent
$
25,769

 
$
24,488

 
$
20,543

 
$
18,052

 
$
25,885

Broker
5,025

 
5,890

 
7,335

 
5,339

 
9,612

Retail
3,614

 
2,039

 
1,490

 
1,194

 
1,980

Total
$
34,408

 
$
32,417

 
$
29,368

 
$
24,585

 
$
37,477

Purchase originations
$
19,357

 
$
13,672

 
$
13,696

 
$
14,654

 
$
12,840

Refinance originations
15,051

 
18,745

 
15,672

 
9,931

 
24,637

Total
$
34,408

 
$
32,417

 
$
29,368

 
$
24,585

 
$
37,477

Conventional
$
16,962

 
$
18,156

 
$
17,571

 
$
15,158

 
$
25,653

Government
8,635

 
7,859

 
6,385

 
6,134

 
8,825

Jumbo
8,811

 
6,402

 
5,412

 
3,293

 
2,999

Total
$
34,408

 
$
32,417

 
$
29,368

 
$
24,585

 
$
37,477


We continue to leverage technology to streamline the mortgage origination process, thereby bringing service and convenience to borrowers and correspondents. We also offer our customers web-based tools that facilitate the mortgage loan process through each of our production channels. We will continue to seek new ways to expand our relationships with borrowers and correspondents to provide the necessary capital and liquidity to grow the Community Bank and Mortgage Servicing segments.

The majority of our loan originations during the year ended December 31, 2017 were eligible for sale to the Agencies. In addition, during 2017, we closed on two securitizations of residential mortgage-backed securities (RMBS) totaling $1.0 billion, which were comprised of loans Flagstar originated through our retail, broker and correspondent channels with collateral consisting of high-quality 15 to 30 year, fully amortizing conforming and jumbo fixed rate loans. On February 23, 2018, we closed an additional RMBS securitization totaling $488 million, comprised of loans similar to those included in the securitizations that occurred during 2017. We have demonstrated our ability to execute securitizations in the market and expect to continue securitization activity throughout 2018. This is an important differentiator for our mortgage business by providing an additional means in which to sell our residential mortgage loans.

Mortgage Servicing

The Mortgage Servicing segment services and subservices mortgage loans for others through a scalable servicing platform on a fee for service basis and may also collect ancillary fees and earn income through the use of noninterest bearing escrows. The loans we service generate escrow deposits which provide a stable low cost funding source to the Bank. Revenue for those serviced and subserviced loans is earned on a contractual fee basis, with the fees varying based on our responsibilities and the status of the underlying loans. The Mortgage Servicing segment services residential mortgages for our LHFI portfolio in the Community Banking segment and our MSR portfolio in the Mortgage Originations segment for which it earns segment revenue via an intercompany service fee allocation.

35




The following table presents residential loans serviced and the number of accounts associated with those loans.
 
December 31, 2017
 
December 31, 2016
 
December 31, 2015
 
Unpaid Principal Balance (1)