8. Fair Value

Fair Value Measurement

We use the following classification of financial instruments pursuant to the fair value hierarchy methodologies for assets measured at fair value:

§	Level 1 – inputs to the valuation are quoted prices in an active market for identical assets.

§	Level 2 – inputs to the valuation include quoted prices for similar assets in active markets utilizing a third-party pricing service to determine fair value.

§	Level 3 – valuation is based on significant inputs that are unobservable in the market and our own estimates of assumptions that we believe market participants would use in pricing the asset.

Financial instruments are broken down in the tables that follow by recurring or nonrecurring measurement status. Recurring assets are initially measured at fair value and are required to be remeasured at fair value in the financial statements at each reporting date. Assets measured on a nonrecurring basis are assets that, as a result of an event or circumstance, were required to be remeasured at fair value after initial recognition in the financial statements at some time during the reporting period.

The following table presents the assets that were remeasured at fair value on a recurring basis during the nine months ended January 31, 2013 and 2012 and the unrealized gains on those remeasurements:


										(dollars in 000s)
		Total		Level 1		Level 2		Level 3		Gain

January 31, 2013:
Mortgage-backed securities	$	391,786	$	-	$	391,786	$	-	$	5,045
Municipal bonds		5,527		-		5,527		-		335
	$	397,313	$	-	$	397,313	$	-	$	5,380

As a percentage of total assets		10.1%		- %		10.1%		- %

January 31, 2012:
Mortgage-backed securities	$	306,475	$	-	$	306,475	$	-	$	2,956
Municipal bonds		7,712		-		7,712		-		451
	$	314,187	$	-	$	314,187	$	-	$	3,407

As a percentage of total assets		6.5%		- %		6.5%		- %

These AFS securities are carried at fair value on a recurring basis. These include certain agency and agency-sponsored mortgage-backed securities and municipal bonds. Quoted market prices are not available for these securities. As a result, we use a third-party pricing service to determine fair value and classify the securities as Level 2. The service’s pricing model is based on market data and utilizes available trade, bid and other market information for similar securities. The fair values provided by third-party pricing service are reviewed and validated by management of HRB Bank. There were no transfers of AFS securities between hierarchy levels during the nine months ended January 31, 2013 and 2012.

The following table presents the assets that were remeasured at fair value on a non-recurring basis during the nine months ended January 31, 2013 and 2012 and the realized losses on those remeasurements:


										(dollars in 000s)
		Total		Level 1		Level 2		Level 3		Loss

January 31, 2013:
REO	$	14,683	$	-	$	-	$	14,683	$	(350)
Impaired mortgage loans held for investment		87,949		-		-		87,949		(8,509)
	$	102,632	$	-	$	-	$	102,632	$	(8,859)

As a percentage of total assets		2.6%		- %		- %		2.6%

January 31, 2012:
REO		16,883		-		-		16,883		(772)
Impaired mortgage loans held for investment		103,509		-		-		103,509		(6,986)
	$	120,392	$	-	$	-	$	120,392	$	(7,758)

As a percentage of total assets		2.5%		- %		- %		2.5%

The following methods were used to estimate the fair value of each class of financial instrument above:

Real estate owned – REO includes foreclosed properties securing mortgage loans. Foreclosed assets are recorded at estimated fair value, generally based on independent market prices or appraised values of the collateral, less costs to sell upon foreclosure. The assets are remeasured quarterly based on independent appraisals or broker price opinions. Subsequent holding period gains and losses arising from the sale of REO are reported when realized. Because our REO is valued based on significant inputs that are unobservable in the market and our own estimates of assumptions that we believe market participants would use in pricing the asset, these assets are classified as Level 3.

Impaired mortgage loans held for investment – The fair value of impaired mortgage loans held for investment is generally based on the net present value of discounted cash flows for TDR loans or the appraised value of the underlying collateral for all other loans. Impaired and TDR loans are required to be evaluated at least annually, based on HRB Bank’s Loan Policy. Impaired loans are typically remeasured every nine months, while TDRs are evaluated quarterly. These loans are classified as Level 3.

We have established various controls and procedures to ensure that the unobservable inputs used in the fair value measurement of these instruments are appropriate. Appraisals are obtained from certified appraisers and reviewed internally by HRB Bank’s asset management group. The inputs and assumptions used in our discounted cash flow model for TDRs are reviewed and approved by HRB Bank’s management team each time the balances are remeasured. Significant changes in fair value from the previous measurement are presented to HRB Bank management for approval. There were no changes to the unobservable inputs used in determining the fair values of our Level 3 financial assets.

The following table presents the quantitative information about our Level 3 fair value measurements:


										(dollars in 000s)
		Fair Value at	Valuation		Range
		January 31, 2013	Technique	Unobservable Input	(Weighted Average)

REO	$	13,852	Third party pricing	Cost to list/sell	5%	-	50%	(	6%	)
				Loss severity	0%	-	100%	(	52%	)

Impaired mortgage loans held for investment – non TDRs	$	87,926	Collateral-based	Cost to list/sell	0%	-	45%	(	7%	)
				Time to sell (months)			24	(	24	)
				Collateral depreciation	(24%)	-	100%	(	45%	)
				Loss severity	0%	-	100%	(	58%	)

Impaired mortgage loans held for investment – TDRs	$	54,282	Discounted cash flow	Aged default performance	30%	-	50%	(	41%	)
				Loss severity	0%	-	21%	(	4%	)

Estimated Fair Value of Financial Instruments

The carrying amounts and estimated fair values of our financial instruments are as follows:


									(in 000s)
As of		January 31, 2013				April 30, 2012
		Carrying		Estimated		Carrying		Estimated	Fair Value
		Amount		Fair Value		Amount		Fair Value	Hierarchy

Assets:
Cash and cash equivalents	$	418,385	$	418,385	$	1,944,334	$	1,944,334	Level 1
Cash and cash equivalents – restricted		37,958		37,958		48,100		48,100	Level 1
Receivables, net – short-term		949,160		949,160		193,858		193,858	Level 1
Mortgage loans held for investment, net		357,887		217,019		406,201		248,535	Level 3
Investments in available-for- sale securities		397,313		397,313		372,352		372,352	Level 2
Receivables, net – long-term		158,228		158,228		127,468		127,468	Level 1 & 3
Note receivable (including interest)		59,213		67,048		55,444		55,444	Level 3

Liabilities:
Deposits		1,041,942		1,042,282		833,047		831,251	Level 1 & 3
Long-term debt		906,725		946,793		1,040,549		1,077,223	Level 3

Fair value estimates, methods and assumptions are set forth below. The fair value was not estimated for assets and liabilities that are not considered financial instruments.

§	Cash and cash equivalents, including restricted – Fair value approximates the carrying amount.

§	Receivables - short-term – For short-term balances, the carrying values reported in the balance sheet approximate fair market value due to the relative short-term nature of the respective instruments.

§	Mortgage loans held for investment, net – The fair value of mortgage loans held for investment is determined using market pricing sources based on projected future cash flows of each individual asset, and loan characteristics including channel and performance characteristics.

§	Investments in available-for-sale securities – We use a third-party pricing service to determine fair value. The service’s pricing model is based on market data and utilizes available trade, bid and other market information for similar securities.

Receivables - long-term – The carrying values for the long-term portion of loans to franchisees approximate fair market value due to the variable interest rates (Level 1). Long-term EA receivables are carried at net realizable value which approximates fair value (Level 3). Net realizable value is determined based on historical collection rates. Credit card balances bear interest at a rate similar to available market rates and have been outstanding for less than three months, therefore carrying value approximates fair market value (Level 1).

§	Note receivable – The fair value of the long-term note receivable from McGladrey & Pullen LLP (M&P) assumes no prepayment and is determined using market pricing sources for similar instruments based on projected future cash flows.

Deposits – The fair value of deposits with no stated maturity such as non-interest-bearing demand deposits, checking, money market and savings accounts is equal to the amount payable on demand (Level 1). The fair value of IRAs and other time deposits is estimated by discounting the future cash flows using the rates currently offered by HRB Bank for products with similar remaining maturities (Level 3).

§	Long-term debt – The fair value of borrowings is based on rates currently available to us for obligations with similar terms and maturities, including current market yields on our Senior Notes.