MORTGAGE BANKING

Loans Sold

For the year ended December 31, 2019, 2018 and 2017, the Company sold $271.8 million, $205.9 million and $218.6 million, respectively, of residential mortgage loans on the secondary market, which resulted in a net gain on sale of loans (net of costs, including direct and indirect origination costs) of $6.4 million, $5.5 million, and $6.3 million, respectively.

Loans Held for Sale

At December 31, 2019 and 2018, the Company had identified and designated loans with an unpaid principal balance of $11.9 million and $4.3 million, respectively, as held for sale. The Company has elected the fair value option of accounting for its loans designated as held for sale, and, at December 31, 2019 and 2018, the unrealized (loss) gain recorded was ($61,000) and $89,000, respectively. The unrealized gain or loss on its loans held for sale portfolio was driven by changes in market interest rates and not due to deteriorated credit quality as this risk is mitigated by the short duration between the time of loan closing and transfer of the financial assets to the secondary market investor. Included within the Company's mortgage banking income, net on the consolidated statements of income for the year ended December 31, 2019, 2018 and 2017 was the change in unrealized (losses) gains on loans held for sale of ($150,000), $52,000 and $326,000, respectively.

The Company mitigates its interest rate exposure on its loans designated as held for sale through forward delivery commitments with certain approved secondary market investors at the onset of the mortgage origination process, typically on a "best-efforts" basis. For the year ended December 31, 2019, 2018 and 2017, net unrealized gains (losses) from the change in fair value on its forward delivery commitments were $282,000, ($127,000), and ($136,000), respectively. Refer to Note 12 for further discussion of the Company's forward delivery commitments.

Servicing Assets

At December 31, 2019 and 2018, the Company's unpaid principal balances on its servicing assets were $227.8 million and $235.4 million, respectively.

For the year ended December 31, 2019, 2018 and 2017, the Company recorded servicing fee income for its servicing assets of $898,000, $949,000 and $1.0 million, respectively, and was presented in mortgage banking income, net on the consolidated statements of income.

The Company's servicing assets, net of a valuation allowance, at December 31, 2019 and 2018 was $877,000 and $831,000, respectively. Servicing assets, net of a valuation allowance, are presented in other assets on the consolidated statements of condition.

The Company obtains third party valuations of its servicing assets portfolio quarterly. The servicing assets valuation is based on loan level data stratified by note rate of the underlying loans to determine its amortization and fair value. A discounted cash flow model is used to value each servicing asset strata and it incorporates current market assumption commonly used by buyers of these types of mortgage production in U.S. servicing markets. The calculated valuation using the discounted cash flow method is then compared to recent servicing trades on portfolios with similar characteristics in the U.S. The valuation model utilizes a variety of assumptions, the most significant of which are loan prepayment assumptions and the discount rate used to discount future cash flows. At December 31, 2019 and 2018, the prepayment assumption used within the valuation model was 14.4% and 11.5%, respectively, and the discount rate was 11.2% and 11.1%. The estimated effect of a 10% and 20% increase to the prepayment assumption at December 31, 2019 was a decrease of $65,000 and $126,000, respectively, while a 100 and 200 basis point increase to the discount rate assumption was a decrease of $47,000 and $90,000. Other assumptions include, but are not limited to, delinquency rates, foreclosure rates, and loan servicing cost.

The following summarizes servicing assets capitalized and amortized, along with the activity in the related valuation allowance as of and for the periods indicated:



	As Of and For The Year Ended December 31,
(In thousands)	2019			2018			2017
Servicing Assets:
Balance at beginning of year	$	831		$	1,025		$	1,210
Capitalized servicing right fees upon sale⁽¹⁾	263			—			22
Amortization charged against mortgage servicing fee income⁽²⁾	(216		)	(200		)	(430		)
Valuation adjustment	(1		)	6			223
Balance at end of year	$	877		$	831		$	1,025
Valuation Allowance:
Balance at beginning of year	$	(1	)	$	(7	)	$	(230	)
(Increase) decrease in impairment reserve	(1		)	6			223
Balance at end of year	$	(2	)	$	(1	)	$	(7	)
Fair value, beginning of year	$	1,677		$	1,766		$	1,701
Fair value, end of year	$	1,496		$	1,677		$	1,766


(1)	Associated income was reported within mortgage banking income, net on the consolidated statements of income.


(2)	Associated amortization expense was reported within mortgage banking income, net on the consolidated statements of income.

Servicer and Sub-Servicer Net Worth and Liquidity Requirements

The Bank, as a servicer and sub-servicer of loans, must maintain certain net worth and liquidity requirements for certain secondary market investors, including HUD, FNMA and FHLMC.

The Bank is required to maintain a minimum net worth of $1.0 million plus 1.0% of total FHA loans exceeding $25.0 million ("minimum net worth required") and maintain liquid assets equal to at least 20.0% of its minimum net worth required.

The Bank is required to maintain a minimum net worth of $2.5 million plus 25 basis points of the unpaid principal balance of serviced loans and must meet the minimum regulatory capital requirement to be classified as "well capitalized" by both FNMA and FHLMC.

Should the Bank fail to maintain the net worth and liquidity requirements above, the secondary market investor may take remedial action and the Company may lose the right to service the loans, which may result in an impairment of its servicing assets and/or loss of revenue but would not materially affect the Company's consolidated financial statements.

At December 31, 2019 and 2018, the Bank met all of the aforementioned minimum net worth, regulatory capital, and liquidity requirements. Refer to Note 14 for further details of the Company and Bank's regulatory capital requirements at December 31, 2019 and 2018.