Use of Special Purpose Entities and Variable Interest Entities

A Special Purpose Entity (“SPE”) is an entity designed to fulfill a specific limited need of the company that organized it. SPEs are often used to facilitate transactions that involve securitizing financial assets or resecuritizing previously securitized financial assets. The objective of such transactions may include obtaining non-recourse financing, obtaining liquidity or refinancing the underlying financial assets on improved terms. Securitization involves transferring assets to a SPE to convert all or a portion of those assets into cash before they would have been realized in the normal course of business, through the SPE’s issuance of debt or equity instruments. Investors in an SPE usually have recourse only to the assets in the SPE and, depending on the overall structure of the transaction, may benefit from various forms of credit enhancement such as over-collateralization in the form of excess assets in the SPE, priority with respect to receipt of cash flows relative to holders of other debt or equity instruments issued by the SPE, or a line of credit or other form of liquidity agreement that is designed with the objective of ensuring that investors receive principal and/or interest cash flow on the investment in accordance with the terms of their investment agreement.

The Company has entered into several financing transactions that resulted in the Company consolidating as VIEs the SPEs that were created to facilitate the transactions. See Note 2(s) for a discussion of the accounting policies applied to the consolidation of VIEs and transfers of financial assets in connection with securitization and resecuritization transactions.

The Company has engaged in loan securitizations and MBS resecuritization transactions primarily for the purpose of obtaining improved overall financing terms as well as non-recourse financing on a portion of its residential whole loan and Non-Agency MBS portfolios. Notwithstanding the Company’s participation in these transactions, the risks facing the Company are largely unchanged as the Company remains economically exposed to the first loss position on the underlying assets transferred to the VIEs.

Loan Securitization Transactions

During the year ended December 31, 2017, the Company completed two loan securitization transactions. As a part of the transactions, the Company sold residential whole loans with an aggregate unpaid principal balance of $620.9 million (including $193.3 million of loans at carrying value and $296.5 million of loans at fair value) to two entities which the Company consolidates as VIEs. In connection with the transactions, third-party investors purchased $382.8 million face amount of senior and mezzanine bonds (“Senior Bonds”) with a weighted average fixed coupon of 3.12%. As a result of the transactions, the Company acquired $127.0 million face amount of rated and non-rated certificates issued by the securitization vehicle, and received $382.8 million in cash, excluding expenses, accrued interest, and underwriting fees.

The following table summarizes the key details of the loan securitization transactions the Company has been involved in to date:



(Dollars in Thousands)	December 2017				June 2017
Name of Trust (Consolidated as a VIE)	MFA 2017-NPL1, LLC				MFA 2017-RPL 1
Aggregate unpaid principal balance of residential whole loans sold	$	401,076			$	219,848
Face amount of Senior Bonds issued by the VIE and purchased by third-party investors	$	235,000			$	147,847
Outstanding amount of Senior Bonds at December 31, 2017	$	233,683			$	132,602
Weighted average fixed rate for Senior Bonds issued	3.35		%	(1)	2.753		%
Face amount of Senior Support Certificates received by the Company (2)	$	55,000			$	72,001
Cash received	$	235,000			$	147,845


(1)	The Senior Bond sold in connection with this securitization transaction contains a contractual coupon step-up feature whereby the coupon increases by 300 basis points at 36 months from issuance if the bond is not redeemed before such date.


(2)	Provides credit support to the Senior Bonds sold to third-party investors in the securitization transactions.

As of December 31, 2017, as a result of the transactions described above, securitized loans with a carrying value of approximately $183.2 million are included in “Residential whole loans, at carrying value,” securitized loans with a fair value of approximately $289.3 million are included in “Residential whole loans, at fair value,” and REO with a carrying value of approximately $5.5 million is included in “Other assets” on the Company’s consolidated balance sheets. As of December 31, 2017, the aggregate carrying value of Senior Bonds issued by consolidated VIEs was $363.9 million. These Senior Bonds are disclosed as “Securitized debt” and are included in Other liabilities on the Company’s consolidated balance sheets. The holders of the securitized debt have no recourse to the general credit of the Company, but the Company does have the obligation, under certain circumstances to repurchase assets from the VIE upon the breach of certain representations and warranties in relation to the residential whole loans sold to the VIE. In the absence of such a breach, the Company has no obligation to provide any other explicit or implicit support to any VIE.

Resecuritization Transactions

During the first quarter of 2017, the Company entered into a transaction to exchange the remaining beneficial interests issued by the WFMLT 2012-RR1 (the “Trust”) and held by the Company for the underlying securities that had previously been transferred to and held by the Trust. Following the completion of this transaction, the remaining beneficial interests were cancelled and the Trust was terminated.

For financial reporting purposes, the exchange transaction and termination of this financing structure did not result in any gain or loss to the Company as this resecuritization was accounted for as a financing transaction. However, for purposes of determining REIT taxable income, this resecuritization transaction was originally accounted for as a sale of the underlying securities to the Trust and acquisition of beneficial interests issued by the Trust. Because the fair value of the underlying securities received exceeded the Company’s tax basis in the remaining beneficial interests at the exchange date, the unwind of this resecuritization structure resulted in the Company recognizing taxable income currently estimated to be approximately $53.3 million or $0.13 per common share. In addition, the underlying securities originally transferred as part of this resecuritization are reported as Non-Agency MBS in the Company’s consolidated balance sheets at December 31, 2017 and interest income from the underlying securities from the date of exchange transaction through December 31, 2017 is reported as Interest income from Non-Agency MBS in the Company’s consolidated statements of operations.

As of December 31, 2017 the Company did not have any Non-Agency MBS that were resecuritized as described above. At December 31, 2016, the aggregate fair value of the Non-Agency MBS that were resecuritized as described above was $174.4 million. These assets were included in the Company’s consolidated balance sheets and disclosed as “Non-Agency MBS transferred to consolidated VIEs, at fair value.”

The Company concluded that the entities created to facilitate these MBS resecuritization and loan securitization transactions are VIEs. The Company then completed an analysis of whether each VIE created to facilitate the securitization and resecuritization transactions should be consolidated by the Company, based on consideration of its involvement in each VIE, including the design and purpose of the SPE, and whether its involvement reflected a controlling financial interest that resulted in the Company being deemed the primary beneficiary of each VIE. In determining whether the Company would be considered the primary beneficiary, the following factors were assessed:


•	Whether the Company has both the power to direct the activities that most significantly impact the economic performance of the VIE; and


•	Whether the Company has a right to receive benefits or absorb losses of the entity that could be potentially significant to the VIE.

Based on its evaluation of the factors discussed above, including its involvement in the purpose and design of the entity, the Company determined that it was required to consolidate each VIE created to facilitate these loan securitization and MBS resecuritization transactions.

Prior to the completion of the Company’s first MBS resecuritization transaction in October 2010, the Company had not transferred assets to VIEs or QSPEs and other than acquiring MBS issued by such entities, had no other involvement with VIEs or QSPEs.

Residential Whole Loans (including Residential Whole Loans transferred to consolidated VIEs)

Included on the Company’s consolidated balance sheets as of December 31, 2017 and 2016 are a total of $2.2 billion and $1.4 billion of residential whole loans, of which approximately $908.5 million and $590.5 million are reported at carrying value and $1.3 billion and $814.7 million are reported at fair value, respectively. The inclusion of these assets arises from the Company’s interest in certain trusts established to acquire the loans and entities established in connection with its loan securitization transactions. The Company has assessed that these entities are required to be consolidated. During 2017, 2016 and 2015, the Company recognized interest income from residential whole loans reported at carrying value of approximately $36.2 million, $23.9 million and $16.0 million, respectively. These amounts are included in Interest Income on the Company’s consolidated statements of operations. In addition, the Company recognized net gains on residential whole loans held at fair value during 2017, 2016 and 2015 of approximately $90.0 million, $62.6 million and $19.6 million, respectively. These amounts are included in Other Income, net on the Company’s consolidated statements of operations. (See Note 4)