SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2018

Commission file number 1-36768

Wells Fargo Real Estate Investment Corporation

(Exact name of registrant as specified in its charter)



Delaware		56-1986428
(State of incorporation)		(I.R.S. Employer Identification No.)

90 South 7th Street

Minneapolis, Minnesota 55402

(Address of principal executive offices)

(Zip Code)

(855) 825-1437

(Registrant’s telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report)

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 þ		No o

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).



Yes þ		No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company' in Rule 12b-2 of the Exchange Act.



	Large accelerated filer o		Accelerated filer o

	Non-accelerated filer þ		Smaller reporting company o
			Emerging growth company o

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 13(a) of the Exchange Act. o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).



Yes o		No þ

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

As of October 29, 2018, there were 34,058,028 shares of the registrant’s common stock outstanding.

FORM 10-Q

CROSS-REFERENCE INDEX



PART I	Financial Information

Item 1.	Financial Statements			Page
	Statement of Income			24
	Balance Sheet			25
	Statement of Changes in Equity			26
	Statement of Cash Flows			27
	Notes to Financial Statements
	1	—	Summary of Significant Accounting Policies	28
	2	—	Loans and Allowance for Credit Losses	29
	3	—	Fair Values of Assets and Liabilities	41
	4	—	Common and Preferred Stock	42
	5	—	Transactions with Related Parties	43

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations (Financial Review)
	Summary Financial Data			2
	Overview			3
	Earnings Performance			5
	Balance Sheet Analysis			8
	Risk Management			9
	Critical Accounting Policy			21
	Current Accounting Developments			21
	Forward-Looking Statements			22
	Risk Factors			22

Item 3.	Quantitative and Qualitative Disclosures About Market Risk			19

Item 4.	Controls and Procedures			23

PART II	Other Information

Item 1.	Legal Proceedings			45

Item 1A.	Risk Factors			45

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds			45

Item 6.	Exhibits			46

Signature				47

PART I - FINANCIAL INFORMATION

FINANCIAL REVIEW



Summary Financial Data
							% Change
	Quarter ended						September 30, 2018 from				Nine months ended
($ in thousands, except per share data)	Sep 30, 2018			Jun 30, 2018		Sep 30, 2017	Jun 30, 2018		Sep 30, 2017		Sep 30, 2018			Sep 30, 2017	% Change
For the period
Net income	$	301,123		307,303		326,540	(2	)%	(8	)	$	927,458		903,737	3	%
Net income applicable to common stock	296,726			302,906		322,143	(2	)	(8	)	914,267			890,546	3
Diluted earnings per common share	8.71			8.89		9.46	(2	)	(8	)	26.84			26.15	3
Profitability ratios
Return on average assets	3.59		%	3.57		3.87	1		(7	)	3.60		%	3.62	(1	)
Return on average stockholders’ equity	3.68			3.79		3.99	(3	)	(8	)	3.82			3.73	2
Average stockholders’ equity to average assets	97.42			94.28		96.78	3		1		94.35			97.28	(3	)
Common dividend payout ratio (1)	96.10			97.41		99.37	(1	)	(3	)	98.99			100.50	(2	)
Dividend coverage ratio (2)	7,064			7,208		6,837	(2	)	3		7,064			6,837	3
Total revenue	$	330,025		333,504		345,155	(1	)	(4	)	$	1,007,049		1,004,061	—
Average loans	33,024,229			34,234,880		33,243,173	(4	)	(1	)	34,186,792			31,802,058	7
Average assets	33,288,067			34,499,277		33,516,352	(4	)	(1	)	34,443,845			33,338,443	3
Net interest margin	3.99		%	3.90		3.96	2		1		3.90		%	3.87	1
Net loan charge-offs (recoveries)	$	(119	)	(786	)	1,156	(85	)	NM		$	(1,411	)	5,331	NM
As a percentage of average total loans (annualized)	—		%	(0.01	)	0.01	(100	)	(100	)	(0.01		)%	0.02	NM
At period end
Loans	$	32,510,311		33,599,587		32,697,065	(3	)	(1	)	$	32,510,311		32,697,065	(1	)
Allowance for loan losses	104,556			112,381		129,116	(7	)	(19	)	104,556			129,116	(19	)
As a percentage of total loans	0.32		%	0.33		0.39	(3	)	(18	)	0.32		%	0.39	(18	)
Assets	$	32,589,234		33,747,152		32,738,812	(3	)	—		$	32,589,234		32,738,812	—
Total stockholders’ equity	32,399,530			32,387,804		32,389,730	—		—		32,399,530			32,389,730	—
Total nonaccrual loans and foreclosed assets	182,513			190,136		200,896	(4	)	(9	)	182,513			200,896	(9	)
As a percentage of total loans	0.56		%	0.57		0.61	(2	)	(8	)	0.56		%	0.61	(8	)
Loans 90 days or more past due and still accruing (3)	$	6,118		2,641		6,174	132		(1	)	$	6,118		6,174	(1	)

NM - Not meaningful


(1)	Dividends declared per common share as a percentage of earnings per common share.

(2)

The dividend coverage ratio is considered a non-GAAP financial measure. Management believes the dividend coverage ratio is a useful financial measure because the certificate of designation for the Series A preferred stock limits, among other matters, our ability to pay dividends on our common stock or make any payment of interest or principal on our line of credit with Wells Fargo Bank, National Association, if the dividend coverage ratio for the four prior fiscal quarters is less than 150%. The dividend coverage ratio is expressed as a percentage and calculated by dividing the four prior fiscal quarters' GAAP net income, excluding gains (or losses) from sales of property (consistent with the National Association of Real Estate Investment Trusts definition of “funds from operations”), by the amount that would be required to pay annual dividends on the Series A and Series B preferred stock.


(3)	The carrying value of purchased credit-impaired (PCI) loans contractually 90 days or more past due is excluded. These PCI loans are considered to be accruing because they continue to earn interest from accretable yield, independent of performance in accordance with their contractual terms.

This Quarterly Report, including the Financial Review and the Financial Statements and related Notes, contains forward-looking statements, which may include forecasts of our financial results and condition, expectations for our operations and business, and our assumptions for those forecasts and expectations. Do not unduly rely on forward-looking statements. Actual results may differ materially from our forecasts and expectations due to several factors. Factors that could cause our results to differ materially from our forward looking statements are described in this Report, including in the “Forward-Looking Statements” section, and the “Risk Factors” section in our Annual Report on Form 10-K for the year ended December 31, 2017 ( 2017 Form 10-K).

When we refer to “WFREIC,” the “Company,” “we,” “our,” and “us” in this Report, we mean Wells Fargo Real Estate Investment Corporation, and where relevant, Wells Fargo Bank, National Association, acting on our behalf; the “Bank” refers to Wells Fargo Bank, National Association; and “Wells Fargo” refers to Wells Fargo & Company.

Financial Review

OVERVIEW

The Company is engaged in acquiring, holding and managing domestic mortgage assets and other authorized investments that generate net income for distribution to our shareholders. We are classified as a real estate investment trust (REIT) for federal income tax purposes and are an indirect subsidiary of Wells Fargo and the Bank.

As of September 30, 2018, we had $32.6 billion in assets, consisting substantially of real estate loan participation interests (loans). Our interests in mortgage and other assets have been acquired from the Bank pursuant to loan participation and servicing and assignment agreements among the Bank, certain of its subsidiaries and us. The Bank originated the loans, purchased them from other financial institutions or acquired them as part of the acquisition of other financial institutions. Substantially all of our loans are serviced by the Bank.

REIT Tax Status

For the tax year ended December 31, 2017, we complied with the relevant provisions of the Internal Revenue Code of 1986, as amended (the Code) to be taxed as a REIT. These provisions for qualifying as a REIT for federal income tax purposes are complex, involving many requirements, including among others, distributing at least 90% of our REIT taxable income to shareholders and satisfying certain asset, income and stock ownership tests. To the extent we meet those provisions, we will not be subject to federal income tax on net income. We continue to monitor each of these complex tests. We believe that we continue to satisfy each of these requirements and therefore continue to qualify as a REIT.

In the event we do not continue to qualify as a REIT, earnings and cash provided by operating activities available for distribution to shareholders would be reduced by the amount of any applicable income tax obligation. Given the level of earning assets, we currently expect there would be sufficient earnings and ample cash to pay preferred dividends. The preferred and common dividends we pay as a REIT are ordinary investment income not eligible for the dividends-received deduction for corporate shareholders or for the favorable qualified dividend tax rate applicable to non-corporate taxpayers, however non-corporate shareholders may be able to deduct 20% of the preferred and common dividends as a deduction for qualified business income under the Tax Cuts and Jobs Act. If we were not a REIT, preferred and common dividends we pay generally would qualify for the dividends received deduction for corporate shareholders and the favorable qualified dividend tax rate applicable to non-corporate taxpayers.

Financial Performance

We earned net income and net income applicable to common stock of $301.1 million and $296.7 million, respectively, in third quarter 2018, or $8.71 diluted earnings per common share, compared with $326.5 million and $322.1 million, respectively, in third quarter 2017, or $9.46 diluted earnings per common share. For the first nine months of 2018, net income and net income applicable to common stock were $927.5 million and $914.3 million, respectively, or $26.84 diluted earnings per common share, compared with $903.7 million and $890.5 million, respectively, for the same period a year ago, or $26.15 diluted earnings per common share. The decrease in net income in the third quarter of 2018 was due to lower pledge fees, a lower reversal of provision for credit losses and an increase in noninterest expense. The increase in net income for the first nine months of 2018 was attributable to an increase in net interest income and reversal of provision for credit losses, partially offset by a decrease in pledge fees and an increase in noninterest expense.

Loans

Total loans were $32.5 billion at September 30, 2018, compared with $35.9 billion at December 31, 2017. Net loans represented 99% of assets at both September 30, 2018 and December 31, 2017.

Credit quality, as measured by net charge-offs, nonaccrual loans and delinquencies, remained strong during third quarter 2018. Net recoveries were $119 thousand and $1.4 million in the third quarter and first nine months of 2018, compared with net charge-offs of $1.2 million and $5.3 million in the third quarter and first nine months of 2017. These results reflect the benefit of continued improvement in the housing market driving favorable performance in our residential real estate portfolio. Nonaccrual loans were $179.9 million at September 30, 2018, compared with $197.4 million at December 31, 2017. Loans 90 days or more past due and still accruing were $6.1 million at September 30, 2018, compared with $12.9 million at December 31, 2017. Delinquencies remain a small percentage of our loan balances.

Reversal of provision for credit losses was $6.8 million and $22.9 million in the third quarter and first nine months of 2018, compared with reversal of provision for credit losses of $11.5 million and provision for credit losses of $14.7 million for the same periods in 2017. The reversal of provision was lower in the third quarter of 2018 compared with a year ago due to a decrease in allowance release as continued portfolio improvement stabilizes. The reversal of provision in the first nine months of 2018 compared to the provision a year ago reflected continued improvement in the housing market driving favorable performance in our residential real estate portfolio. Future allowance levels will be based on a variety of factors, including loan portfolio composition, size and performance, and the general economic environment, including housing market conditions.

Capital Distributions

Dividends declared to holders of our Series A preferred stock totaled $4.4 million and $13.1 million in the third quarter and first nine months, respectively, of both 2018 and 2017. Dividends declared to holders of our Series B preferred stock totaled $14 thousand and $42 thousand in the third quarter and first nine months, respectively, of both 2018 and 2017.

Dividends declared to the holders of our common stock totaled $285.0 million and $905.0 million for the third quarter and first nine months of 2018, respectively, compared with $320.0 million and $895.0 million for the same periods in 2017.

Earnings Performance

Net Income

We earned net income of $301.1 million and $326.5 million in third quarter 2018 and 2017, respectively. For the first nine months of 2018, net income was $927.5 million, compared with $903.7 million for the same period a year ago. The decrease in net income in the third quarter of 2018 was due to lower pledge fee income, a lower reversal of provision for credit losses, and an increase in noninterest expense. The increase in net income for the first nine months of 2018 was attributable to an increase in net interest income and reversal of provision for credit losses, partially offset by a decrease in pledge fees and an increase in noninterest expense.

Net Interest Income

Net interest income is the interest earned on loans and cash and cash equivalents less the interest paid on our Bank line of credit. Net interest income was $329.9 million and $1.0 billion in the third quarter and first nine months of 2018, respectively, compared with $329.6 million and $959.8 million for the same periods a year ago. Third quarter 2018 reflected an increase in commercial loan yield, offset by a decrease in real estate 1-4 family mortgage loan yield compared with a year ago. The increase in net interest income in the first nine months of 2018 was attributable to an increase in interest income resulting from a higher average loan balance and higher yield, partially offset by an increase in interest expense.

Net interest margin is the average yield on interest-earning assets minus the average interest paid for funding. Interest-earning assets predominantly consist of loans. Net interest margin was 3.99% and 3.90% in the third quarter and first nine months of 2018, respectively, compared with 3.96% and 3.87% for the same periods a year ago. Interest income in the third quarter and first nine months of 2018 included net accretion of adjustments on loans of $5.0 million and $14.3 million, respectively, compared with $4.1 million and $10.4 million a year ago. Loan paydowns and payoffs annualized represented 12.9% of average loan balances for both the third quarter and first nine months of 2018, respectively, compared with 13.3% and 13.4% during the same periods a year ago.

Interest income in any one period can be affected by a variety of factors, including mix and size of the earning asset portfolio. See the “Risk Management - Asset/Liability Management - Interest Rate Risk” section in this Report for more information on interest rates and interest income.

The Company has a $5.0 billion line of credit with the Bank. Average borrowings for third quarter 2018 and 2017 were $757.5 million and $968.3 million, respectively, at weighted average interest rates of 2.41% and 1.30%, respectively. Average borrowings for the first nine months of 2018 and 2017 were $1.9 billion and $352.0 million, respectively, at weighted average interest rates of 2.16% and 1.30%, respectively. Effective October 2017, the rate of interest on the line of credit was changed from the average federal funds rate plus 12.5 basis points (0.125%) to the three-month London Interbank Offered Rate (LIBOR) plus 4.4 basis points (0.044%).

Table 1 presents the components of interest-earning assets and interest-bearing liabilities and related average yields to provide an analysis of year-over-year changes that influenced net interest income.

Table 1: Interest Income



	Quarter ended September 30,
					2018						2017
(in thousands)	Average balance		Interest income/expense		Yields/rates		Average balance		Interest income/expense		Yields/rates
Earning assets
Commercial loans	$	2,763,794	29,401		4.22	%	$	3,554,112	30,397		3.39	%
Real estate 1-4 family mortgage loans	30,260,435		305,072		4.03		29,689,061		302,349		4.07
Interest-bearing deposits	2,243		12		2.07		474		2		1.17
Total interest-earning assets	$	33,026,472	334,485		4.04		$	33,243,647	332,748		4.00
Funding sources
Line of credit with Bank	$	757,455	4,604		2.41		$	968,313	3,173		1.30
Total interest-bearing liabilities	$	757,455	4,604		2.41		$	968,313	3,173		1.30
Net interest margin and net interest income			$	329,881	3.99	%			$	329,575	3.96	%
	Nine months ended September 30,
					2018						2017
(in thousands)	Average balance		Interest income/expense		Yields/rates		Average balance		Interest income/expense		Yields/rates
Earning assets
Commercial loans	$	3,008,863	90,250		4.01	%	$	3,717,154	85,726		3.08	%
Real estate 1-4 family mortgage loans	31,177,929		941,094		4.03		28,084,905		869,005		4.13
Interest-bearing deposits	756		12		2.07		1,313,619		8,498		0.86
Total interest-earning assets	$	34,187,548	1,031,356		4.02		$	33,115,678	963,229		3.88
Funding sources
Line of credit with Bank	$	1,907,366	30,866		2.16		$	352,017	3,423		1.30
Total interest-bearing liabilities	$	1,907,366	30,866		2.16		$	352,017	3,423		1.30
Net interest margin and net interest income			$	1,000,490	3.90	%			$	959,806	3.87	%

Provision for Credit Losses

Reversal of provision for credit losses was $6.8 million and $22.9 million in the third quarter and first nine months of 2018, respectively, compared with reversal of provision for credit losses of $11.5 million and provision for credit losses of $14.7 million for the same periods a year ago. The reversal of provision was lower in the third quarter of 2018 compared with a year ago due to a decrease in allowance release as continued portfolio improvement stabilizes. The reversal of provision in the first nine months of 2018 compared to the provision a year ago reflected continued improvement in the housing market driving favorable performance in our residential real estate portfolio. See the “Balance Sheet Analysis” and "Risk Management – Allowance for Credit Losses” sections in this Report for additional information on the allowance for credit losses.

Noninterest Income

Noninterest income was $144 thousand and $6.6 million in the third quarter and first nine months of 2018, respectively, compared with $15.6 million and $44.3 million for the same periods a year ago. The decrease in the third quarter and first nine months of 2018 was attributable to a decrease in pledge fees, a result of having no loans pledged during second and third quarter 2018.

The certificate of designation for the Series A preferred stock limits our ability to pledge our loans to an aggregate amount not exceeding 80% of our total assets at any time as collateral on behalf of the Bank for the Bank’s access to secured borrowing facilities through the Federal Home Loan Banks or the discount window of Federal Reserve Banks. However, the Bank's borrowings will differ from loan balances pledged. In exchange for the pledge of our loan assets, the Bank pays us a fee that is consistent with market terms. We did not earn pledge fees in third quarter 2018. Pledge fees were $6.0 million in the first nine months of 2018. Pledge fees were $15.9 million and $44.3 million in the third quarter and first nine months of 2017, respectively.

See Note 5 (Transactions With Related Parties) to Financial Statements in this Report for more details.

Noninterest Expense

Noninterest expense was $35.7 million and $102.5 million in the third quarter and first nine months of 2018, respectively, compared with $30.2 million and $85.7 million for the same periods a year ago. Noninterest expense predominantly consists of loan servicing costs, management fees, and foreclosed assets expense.

The loans in our portfolio are predominantly serviced by the Bank pursuant to the terms of participation and servicing and assignment agreements. In limited instances, the Bank has delegated servicing responsibility to third parties that are not affiliated with us or the Bank. Depending on the loan type, the monthly servicing fee charges are based in part on (a) outstanding principal balances, (b) a flat fee per month, or (c) a total loan commitment amount. Loan servicing costs were $20.6 million for both the third quarter of 2018 and 2017. Loan servicing costs were $63.8 million in the first nine months of 2018, respectively, compared with $58.6 million for the same period a year ago. The increase in the first nine months of 2018 was attributable to a higher average loan balance.

Management fees represent reimbursements made to the Bank for general overhead expenses, including allocations of technology support and a combination of finance and accounting, risk management and other general overhead expenses incurred on our behalf. Management fees include direct and indirect expense allocations. Indirect expenses are allocated based on ratios that use our proportion of expense activity drivers. The expense activity drivers and ratios may change from time to time. Management fees were $11.0 million and $29.0 million in the third quarter and first nine months of 2018, compared with $6.4 million and $19.2 million for the same periods a year ago.

Foreclosed assets expense was $4.0 million and $9.2 million in the third quarter and first nine months of 2018, respectively, compared with $2.7 million and $7.1 million for the same periods a year ago. Substantially all of our foreclosed assets consist of residential 1-4 family real estate assets.

See Note 5 (Transactions With Related Parties) to Financial Statements in this Report for more details.

Balance Sheet Analysis

Total Assets

Our assets predominantly consist of commercial and consumer loans, although we have the authority to hold assets other than loans. Total assets were $32.6 billion at September 30, 2018, and $35.9 billion at December 31, 2017.

Loans

Loans were $32.5 billion at September 30, 2018, and $35.9 billion at December 31, 2017. We did not acquire loans in the third quarter and first nine months of 2018. We did not acquire loans in the third quarter of 2017. In the first nine months of 2017, we acquired $4.7 billion of consumer loans from the Bank at their estimated fair value. At September 30, 2018 and December 31, 2017, consumer loans represented 92% and 91% of loans, respectively, and commercial loans represented the remaining balance of our loan portfolio.

Allowance for Loan Losses

The allowance for loan losses, which decreased $24.8 million to $104.6 million at September 30, 2018, from $129.4 million at December 31, 2017, reflected continued improvement in the housing market driving favorable performance in our residential real estate portfolio.

At September 30, 2018, the allowance for loan losses included $82.5 million for consumer loans and $22.1 million for commercial loans; however, the entire allowance is available to absorb credit losses inherent in the total loan portfolio. The total allowance reflects management’s estimate of credit losses inherent in the loan portfolio at the balance sheet date. See the “Risk Management – Credit Risk Management – Allowance for Credit Losses” section in this Report for a description of how management estimates the allowance for loan losses and the allowance for unfunded credit commitments.

Accounts Receivable—Affiliates, Net

Accounts receivable from or payable to the Bank or its affiliates result from intercompany transactions in the normal course of business related to loan paydowns and payoffs, interest receipts, servicing costs, management fees and other transactions with the Bank or its affiliates.

Line of Credit with Bank

We draw upon our $5.0 billion line of credit with the Bank to finance loan acquisitions. At September 30, 2018 and December 31, 2017, we had $182.2 million and $3.6 billion outstanding, respectively.

Retained Earnings (Deficit)

We expect to distribute annually an aggregate amount of dividends with respect to outstanding capital stock equal to approximately 100% of our REIT taxable income for federal income tax purposes before dividends paid deduction. Because our net income determined under GAAP may vary from the determination of REIT taxable income, due to recognition differences for items such as loan losses and purchase accounting adjustments, periodic distributions may exceed our GAAP net income.

The retained deficit included within our balance sheet results from cumulative distributions that have exceeded GAAP net income, predominantly due to the impact on REIT taxable income of purchase accounting adjustments attributable to the Company during the years 2009 through 2013, from the 2008 acquisition of Wachovia Corporation by Wells Fargo.

For further information on the differences between taxable income before dividends paid deduction reported on our income tax returns and net income as reported in our statement of income, see the “Balance Sheet Analysis” section in our 2017 Form 10-K.

Risk Management

Our board of directors has overall responsibility for overseeing the Company’s risk management structure. This oversight is accomplished through the Audit Committee of the Board of Directors and a management-level committee that reviews the allowance for credit losses and is supplemented by certain elements of Wells Fargo’s risk management framework. For more information about how we manage these risks, see the “Risk Management” section in our 2017 Form 10-K. The discussion that follows provides an update regarding these risks.

Credit Risk Management Our assets consist predominantly of loans, and their related credit risk is among the most significant risks we manage. We define credit risk as the risk to earnings associated with a borrower or counterparty default (failure to meet obligations in accordance with agreed upon terms).

Table 2 represents loans by segment and class of financing receivable and the weighted average maturity for those loans calculated using contractual maturity dates.

Table 2: Total Loans Outstanding by Portfolio Segment and Class of Financing Receivable and Weighted Average Contractual Maturity



	Loans outstanding			Weighted average maturity in years
(in thousands)	Sep 30, 2018		Dec 31, 2017	Sep 30, 2018	Dec 31, 2017
Total commercial	$	2,639,772	3,325,939	3.1	3.2
Consumer:
Real estate 1-4 family first mortgage	29,162,590		31,683,651	24.5	25.1
Real estate 1-4 family junior lien mortgage	707,949		855,586	15.1	15.4
Total consumer	29,870,539		32,539,237	24.2	24.8
Total loans	$	32,510,311	35,865,176	22.5	22.8

The discussion that follows provides analysis of the risk elements of our various loan portfolios and our credit risk management and measurement practices. See Note 2 (Loans and Allowance for Credit Losses) to Financial Statements in this Report for more analysis and credit metric information.

In order to maintain our REIT status, the composition of our loan portfolio is highly concentrated in real estate.

We continually evaluate our credit policies and modify as necessary. Measuring and monitoring our credit risk is an ongoing process that tracks delinquencies, collateral values, FICO scores, economic trends by geographic areas, loan-level risk grading for certain portfolios (typically commercial) and other indications of credit risk. Our credit risk monitoring process is designed to enable early identification of developing risk and to support our determination of an appropriate allowance for credit losses.

LOAN PORTFOLIO BY GEOGRAPHY Table 3 is a summary of the geographical distribution of our loan portfolio for the top five states by loans outstanding.

Table 3: Loan Portfolio by Geography



	September 30, 2018
(in thousands)	Commercial		Real estate 1-4 family first mortgage	Real estate 1-4 family junior lien mortgage	Total	% of total loans
California	$	1,241,468	8,183,514	7,810	9,432,792	29	%
New York	9,332		3,079,324	44,425	3,133,081	10
Washington	133,048		2,004,212	937	2,138,197	7
Virginia	50,844		1,706,072	72,453	1,829,369	6
Texas	71,030		1,165,982	8,720	1,245,732	4
All other states	1,134,050		13,023,486	573,604	14,731,140	44
Total loans	$	2,639,772	29,162,590	707,949	32,510,311	100	%

COMMERCIAL AND INDUSTRIAL LOANS (C&I) C&I loans were less than 1% of total loans at September 30, 2018. Our credit risk management process for this portfolio focuses on a

customer's ability to repay the loan through their cash flows. All of the loans in our C&I portfolio were unsecured at September 30, 2018.

COMMERCIAL SECURED BY REAL ESTATE (CSRE) The CSRE portfolio consists of both mortgage loans and construction loans, where loans are secured by real estate. Table 4 summarizes CSRE loans by state and property type. To identify and manage newly emerging problem CSRE loans, we employ a high level of monitoring and regular customer interaction to understand and manage the risks associated with these loans,

including regular loan reviews and appraisal updates. We consider the creditworthiness of the customers and collateral valuations when selecting CSRE loans for acquisition. In future periods, we expect to consider acquisitions of CSRE loans in addition to other REIT qualifying assets such as real estate 1-4 family mortgage loans.

Table 4: CSRE Loans by State and Property Type



	September 30, 2018
(in thousands)	Total CSRE loans		% of total CSRE loans
By state:
California	$	1,241,468	47	%
Florida	201,411		8
Utah	155,733		6
Oregon	145,900		6
Washington	133,048		5
All other states	738,519		28
Total loans	$	2,616,079	100	%
By property type:
Office buildings	$	639,648	24	%
Shopping centers	516,226		20
Warehouses	394,413		15
Retail establishments (restaurants, stores)	332,973		13
5 + multifamily residences	332,918		13
Mini-storage	110,369		4
Commercial/industrial (non-residential)	91,625		4
Manufacturing plants	63,847		2
Motels/hotels	59,075		2
Research and development	45,106		2
Other	29,879		1
Total loans	$	2,616,079	100	%

REAL ESTATE 1-4 FAMILY MORTGAGE LOANS The concentrations of real estate 1-4 family mortgage loans by state and the related loan-to-value (LTV) ratio for real estate 1-4 family first mortgage and combined loan-to-value (CLTV) ratio for real estate 1-4 family junior lien mortgage loans are presented in combination in Table 5. CLTV means the ratio of the total loan balance of first and junior mortgages to property collateral value. We monitor changes in real estate values and underlying economic or market conditions for all geographic areas of our real estate 1-4 family mortgage portfolio as part of our credit risk management process. Our underwriting and periodic review of loans secured by residential real estate collateral includes appraisals or estimates from automated valuation models (AVMs) to support property values. Additional information about AVMs and our policy for their use can be

found in Note 2 (Loans and Allowance for Credit Losses) to Financial Statements in this Report and the “Risk Management - Credit Risk Management - Real Estate 1-4 Family Mortgage Loans” section in our 2017 Form 10-K.

We modify real estate 1-4 family mortgage loans to assist homeowners and other borrowers experiencing financial difficulties. For more information on our modification programs, see the “Risk Management – Credit Risk Management – Real Estate 1-4 Family Mortgage Loans” section in our 2017 Form 10-K.

The credit performance associated with our real estate 1-4 family mortgage portfolio remained strong in third quarter 2018, as measured through net charge-offs, nonaccrual loans and delinquencies.

Table 5: Real Estate 1-4 Family Mortgage Loans LTV/CLTV by State



	September 30, 2018
(in thousands)	Real estate 1-4 family mortgage		Current LTV\CLTV ratio (1)
California	$	8,191,324	44	%
New York	3,123,749		58
Washington	2,005,149		49
Virginia	1,778,525		61
Texas	1,174,702		56
All other states	13,597,090		59
Total loans	$	29,870,539	54


(1)	Collateral values are generally determined using AVMs and are updated quarterly. AVMs are computer-based tools used to estimate market values of homes based on processing large volumes of market data including market comparables and price trends for local market areas.

REAL ESTATE 1-4 FAMILY FIRST MORTGAGE LOANS Net charge-offs (recoveries) (annualized) as a percentage of average loans improved to (0.02)% in both the third quarter and first nine months of 2018, compared with less than 0.01% and 0.01% for the same periods a year ago. Nonaccrual loans were

$142.0 million at September 30, 2018, compared with $150.4 million at December 31, 2017.

Table 6 summarizes delinquency and loss rates by state for our real estate 1-4 family first mortgage portfolio.

Table 6: Real Estate 1-4 Family First Mortgage Portfolio Performance



	Outstanding balance			% of loans 30 days or more past due			Loss (recovery) rate (annualized) quarter ended
(in thousands)	Sep 30, 2018		Dec 31, 2017	Sep 30, 2018		Dec 31, 2017	Sep 30, 2018		Jun 30, 2018		Mar 31, 2018		Dec 31, 2017		Sep 30, 2017
California	$	8,183,327	8,852,383	0.11	%	0.15	—		—		—		—		—
New York	3,078,782		3,268,458	0.57		0.45	0.06		0.02		—		0.02		0.01
Washington	2,004,212		2,149,416	0.11		0.03	(0.01	)	—		(0.01	)	—		(0.01	)
Virginia	1,705,190		1,818,445	0.40		0.51	(0.02	)	(0.02	)	(0.02	)	0.01		0.02
Texas	1,165,947		1,289,611	0.17		0.44	(0.01	)	—		0.02		(0.01	)	0.01
All other states	13,017,527		14,296,320	0.86		0.90	(0.04	)	(0.05	)	(0.03	)	0.01		—
Total	29,154,985		31,674,633	0.51		0.54	(0.02	)	(0.02	)	(0.01	)	0.01		—
PCI	7,605		9,018
Total first mortgages	$	29,162,590	31,683,651

REAL ESTATE 1-4 FAMILY JUNIOR LIEN MORTGAGE LOANS Our junior lien portfolio includes real estate 1-4 family junior lien mortgage loans secured by real estate. Predominantly all of our junior lien loans are amortizing payment loans with fixed interest rates and repayment periods between 5 to 30 years. Junior lien loans with balloon payments at the end of the repayment term represent less than 1% of our junior lien loans. We frequently monitor the credit performance of our junior lien mortgage portfolio for trends and factors that influence the

frequency and severity of loss. Net charge-offs (annualized) as a percentage of average loans were 0.58% and 0.41% in the third quarter and first nine months of 2018 compared with 0.40% and 0.33% for the same periods a year ago. Nonaccrual loans were $35.9 million at September 30, 2018, compared with $44.7 million at December 31, 2017.

Table 7 summarizes delinquency and loss rates by state for our junior lien portfolio.

Table 7: Real Estate 1-4 Family Junior Lien Portfolio Performance



	Outstanding balance			% of loans 30 days or more past due			Loss (recovery) rate (annualized) quarter ended
(in thousands)	Sep 30, 2018		Dec 31, 2017	Sep 30, 2018		Dec 31, 2017	Sep 30, 2018		Jun 30, 2018		Mar 31, 2018		Dec 31, 2017		Sep 30, 2017
New Jersey	$	155,073	183,405	3.66	%	5.42	1.43		2.31		0.73		(0.18	)	1.06
Pennsylvania	111,007		133,313	4.65		5.29	0.92		0.43		(0.67	)	0.21		0.86
Florida	92,171		112,437	3.37		2.65	(0.14	)	(0.08	)	(1.31	)	(0.51	)	(0.56	)
Virginia	72,453		88,017	2.85		5.22	0.41		(1.30	)	2.59		(0.86	)	1.26
Georgia	48,804		60,259	2.16		2.70	0.16		(0.07	)	(0.78	)	(1.41	)	(1.96	)
All other states	228,441		278,155	5.19		4.73	0.27		(0.14	)	0.63		(0.55	)	0.38
Total	707,949		855,586	4.08		4.60	0.58		0.37		0.29		(0.44	)	0.40
PCI	—		—
Total junior lien mortgages	$	707,949	855,586

NONPERFORMING ASSETS (NONACCRUAL LOANS AND FORECLOSED ASSETS) Table 8 summarizes nonperforming assets (NPAs) for each of the last five quarters. We generally place loans on nonaccrual status when:


•	the full and timely collection of interest or principal becomes uncertain (generally based on an assessment of the borrower's financial condition and the adequacy of collateral, if any);


•	they are 120 days with respect to real estate 1-4 family first and junior lien mortgages (90 days with respect to commercial) past due for interest

or principal, unless both well-secured and in the process of collection;


•	part of the principal balance has been charged off;


•	for junior lien mortgages, we have evidence that the related first lien mortgage may be 120 days past due or in the process of foreclosure regardless of the junior lien delinquency status; or


•	consumer real estate loans receive notification of bankruptcy, regardless of their delinquency status.

Table 8: Nonperforming Assets (Nonaccrual Loans and Foreclosed Assets)



(in thousands)	Sep 30, 2018			Jun 30, 2018	Mar 31, 2018	Dec 31, 2017	Sep 30, 2017
Nonaccrual loans:
Total commercial	$	2,016		2,506	2,519	2,306	3,325
Consumer:
Real estate 1-4 family first mortgage	141,953			147,574	152,510	150,381	152,861
Real estate 1-4 family junior lien mortgage	35,948			37,553	42,161	44,703	42,237
Total consumer	177,901			185,127	194,671	195,084	195,098
Total nonaccrual loans (1)	179,917			187,633	197,190	197,390	198,423
Foreclosed assets	2,596			2,503	2,259	2,377	2,473
Total nonperforming assets	$	182,513		190,136	199,449	199,767	200,896
As a percentage of total loans	0.56		%	0.57	0.57	0.56	0.61


(1)	Excludes PCI loans because they continue to earn interest income from accretable yield, independent of performance in accordance with their contractual terms.

Total NPAs were $182.5 million (0.56% of total loans) at September 30, 2018, and included $179.9 million of nonaccrual loans. Total NPAs were $199.8 million (0.56% of total loans) at December 31, 2017, and included $197.4 million of nonaccrual loans.

Typically, changes to nonaccrual loans period-over-period represent inflows for loans that are placed on nonaccrual status

in accordance with our policy, offset by reductions for loans that are paid down, charged off while on nonaccrual status, sold, transferred to foreclosed properties, or are no longer classified as nonaccrual as a result of continued performance and an improvement in the borrower’s financial condition and loan repayment capabilities. Table 9 provides an analysis of the changes in nonaccrual loans.

Table 9: Analysis of Changes in Nonaccrual Loans



	Quarter ended
(in thousands)	Sep 30, 2018			Jun 30, 2018		Mar 31, 2018		Dec 31, 2017		Sep 30, 2017
Commercial:
Balance, beginning of period	$	2,506		2,519		2,306		3,325		3,144
Inflows	—			241		252		140		214
Outflows	(490		)	(254	)	(39	)	(1,159	)	(33	)
Balance, end of period	2,016			2,506		2,519		2,306		3,325
Consumer:
Balance, beginning of period	185,127			194,671		195,084		195,098		200,470
Inflows	19,111			23,551		32,155		36,586		31,201
Outflows:
Returned to accruing	(12,164		)	(14,291	)	(15,190	)	(18,388	)	(17,063	)
Foreclosures	(3,278		)	(2,326	)	(4,899	)	(2,596	)	(2,286	)
Charge-offs	(2,538		)	(2,277	)	(3,396	)	(4,680	)	(3,508	)
Payment, sales and other	(8,357		)	(14,201	)	(9,083	)	(10,936	)	(13,716	)
Total outflows	(26,337		)	(33,095	)	(32,568	)	(36,600	)	(36,573	)
Balance, end of period	177,901			185,127		194,671		195,084		195,098
Total nonaccrual loans (excluding PCI)	$	179,917		187,633		197,190		197,390		198,423

TROUBLED DEBT RESTRUCTURINGS (TDRs) The recorded investment of loans modified in TDRs is provided in Table 10. The allowance for loan losses for TDRs was $45.9 million and $56.8 million at September 30, 2018 and December 31, 2017, respectively. See Note 2 (Loans and Allowance for Credit Losses) to Financial Statements in this Report for more information. Those loans discharged in bankruptcy and reported as TDRs have been written down to net realizable collateral value. In those situations where principal is forgiven, the entire amount of such principal forgiveness is immediately charged off to the extent not done so prior to the modification. When we delay the timing on the repayment of a portion of principal (principal forbearance), we charge off the amount of forbearance if that amount is not considered fully collectible.

For more information on our nonaccrual policies when a restructuring is involved, see the “Risk Management – Credit Risk Management – Troubled Debt Restructurings (TDRs)” section of our 2017 Form 10-K.

Table 11 provides an analysis of the changes in TDRs. Loans modified more than once are reported as TDR inflows only in the period they are first modified. Other than resolutions such as foreclosures, we may remove loans from TDR classification, but only if they have been refinanced or restructured at market terms and qualify as a new loan.

Table 10: Troubled Debt Restructurings (TDRs)



(in thousands)	Sep 30, 2018		Jun 30, 2018	Mar 31, 2018	Dec 31, 2017	Sep 30, 2017
Total commercial TDRs	$	2,509	3,124	3,152	2,992	3,035
Consumer:
Real estate 1-4 family first mortgage	289,563		294,171	305,212	309,678	316,831
Real estate 1-4 family junior lien mortgage	78,802		81,578	86,659	89,560	91,534
Trial modifications	5,044		5,980	5,557	7,498	8,799
Total consumer TDRs	373,409		381,729	397,428	406,736	417,164
Total TDRs	$	375,918	384,853	400,580	409,728	420,199
TDRs on nonaccrual status	$	113,893	115,672	118,659	116,885	119,122
TDRs on accrual status	262,025		269,181	281,921	292,843	301,077
Total TDRs	$	375,918	384,853	400,580	409,728	420,199

Table 11: Analysis of Changes in TDRs



	Quarter ended
(in thousands)	Sep 30, 2018			Jun 30, 2018		Mar 31, 2018		Dec 31, 2017		Sep 30, 2017
Commercial:
Balance, beginning of period	$	3,124		3,152		2,992		3,035		3,078
Inflows (1)	350			—		203		—		—
Outflows (2)	(965		)	(28	)	(43	)	(43	)	(43	)
Balance, end of period	2,509			3,124		3,152		2,992		3,035
Consumer:
Balance, beginning of period	381,729			397,428		406,736		417,164		429,390
Inflows (1)	5,872			6,476		7,520		6,187		5,539
Outflows:
Charge-offs	(249		)	(388	)	(380	)	(269	)	(995	)
Foreclosures	(1,298		)	(2,734	)	(825	)	(640	)	(657	)
Payments, sales and other (2)	(11,710		)	(19,476	)	(13,682	)	(14,405	)	(14,747	)
Net change in trial modifications (3)	(935		)	423		(1,941	)	(1,301	)	(1,366	)
Balance, end of period	373,409			381,729		397,428		406,736		417,164
Total TDRs	$	375,918		384,853		400,580		409,728		420,199


(1)	Inflows include loans that modify, even if they resolve, within the period as well as advances on loans that modified in a prior period.


(2)	Other outflows include normal amortization/accretion of loan basis adjustments. No loans were removed from TDR classification in the quarters ended September 30, June 30 and March 31, 2018, and December 31 and September 30, 2017, as a result of being refinanced or restructured at market terms and qualifying as new loans.


(3)	Net change in trial modifications includes: inflows of new TDRs entering the trial payment period, net of outflows for modifications that either (i) successfully perform and enter into a permanent modification, or (ii) did not successfully perform according to the terms of the trial period plan and are subsequently charged-off, foreclosed upon or otherwise resolved.

LOANS 90 DAYS OR MORE PAST DUE AND STILL ACCRUING Certain loans 90 days or more past due as to interest or principal are still accruing, because they are (1) well-secured and in the process of collection or (2) real estate 1-4 family mortgage loans exempt under regulatory rules from being classified as nonaccrual until later delinquency, usually 120 days past due.

Loans 90 days or more past due and still accruing were less than 1% of loans at both September 30, 2018 and December 31, 2017.

Table 12 reflects non-PCI loans 90 days or more past due and still accruing.

Table 12: Loans 90 Days or More Past Due and Still Accruing (1)



(in thousands)	Sep 30, 2018		Jun 30, 2018	Mar 31, 2018	Dec 31, 2017	Sep 30, 2017
Total commercial	$	—	—	2,854	990	991
Consumer:
Real estate 1-4 family first mortgage	4,640		2,321	3,999	9,001	3,685
Real estate 1-4 family junior lien mortgage	1,478		320	1,419	2,914	1,498
Total consumer	6,118		2,641	5,418	11,915	5,183
Total past due (excluding PCI)	$	6,118	2,641	8,272	12,905	6,174

(1)

PCI loans of $422 thousand, $504 thousand, $529 thousand, $699 thousand and $853 thousand at September 30, June 30 and March 31,2018, and December 31 and September 30, 2017, respectively, are excluded from this disclosure even though they are 90 days or more contractually past due. These PCI loans are considered to be accruing because they continue to earn interest from accretable yield, independent of performance in accordance with their contractual terms.

NET CHARGE-OFFS Table 13 presents net charge-offs for third quarter 2018 and the previous four quarters. Substantially all net charge-offs (recoveries) were in consumer real estate. Net charge-offs were in a net recovery position of $119 thousand in

third quarter 2018, compared with net charge-offs of $1.2 million in third quarter 2017, respectively.

Table 13: Net Charge-offs (Recoveries)



						Quarter ended
	Sep 30, 2018					Jun 30, 2018					Mar 31, 2018					Dec 31, 2017					Sep 30, 2017
(in thousands)	Net loan charge- offs			% of avg. loans (1)		Net loan charge- offs			% of avg. loans (1)		Net loan charge- offs			% of avg. loans (1)		Net loan charge- offs			% of avg. loans (1)		Net loan charge- offs			% of avg. loans (1)
Total commercial	$	(12	)	—	%	$	(13	)	—	%	$	(15	)	—	%	$	(396	)	(0.05	)%	$	(59	)	(0.01	)%
Consumer:
Real estate 1-4 family first mortgage	(1,171		)	(0.02	)	(1,505		)	(0.02	)	(1,092		)	(0.01	)	(1,417		)	(0.02	)	276			—
Real estate 1-4 family junior lien mortgage	1,064			0.58		732			0.37		601			0.29		(978		)	(0.44	)	939			0.40
Total consumer	(107		)	—		(773		)	(0.01	)	(491		)	(0.01	)	(2,395		)	(0.03	)	1,215			0.02
Total	$	(119	)	—	%	$	(786	)	(0.01	)%	$	(506	)	(0.01	)%	$	(2,791	)	(0.03	)%	$	1,156		0.01	%


(1)	Quarterly net charge-offs (recoveries) as a percentage of average loans are annualized.

ALLOWANCE FOR CREDIT LOSSES The allowance for credit losses, which consists of the allowance for loan losses and the allowance for unfunded credit commitments, is management’s estimate of credit losses inherent in the loan portfolio and unfunded credit commitments at the balance sheet date, excluding loans carried at fair value. The detail of the changes in the allowance for credit losses by portfolio segment (including charge-offs and recoveries by loan class) is in Note 2 (Loans and Allowance for Credit Losses) to Financial Statements in this Report.

We apply a disciplined process and methodology to establish our allowance for credit losses each quarter. This process takes into consideration many factors, including historical and forecasted loss trends, loan-level credit quality ratings and loan grade-specific characteristics. The process involves subjective and complex judgments. In addition, we review a variety of credit metrics and trends. These credit metrics and trends, however, do not solely determine the amount of the allowance as we use several analytical tools. Our estimation approach for the commercial portfolio reflects the estimated probability of default in accordance with the borrower's financial strength, and the severity of loss in the event of default, considering the quality of any underlying collateral. Probability of default and severity at the time of default are statistically derived through historical observations of defaults and losses after default within each credit risk rating. Our estimation approach for the consumer portfolio uses forecasted losses that represent our best estimate of inherent loss based on historical experience, quantitative and other mathematical techniques.

The ratio of the allowance for credit losses to total nonaccrual loans may fluctuate significantly from period to

period due to such factors as the mix of loan types in the portfolio, borrower credit strength and the value and marketability of collateral. Substantially all of our nonaccrual loans were real estate 1-4 family first and junior lien mortgage loans at September 30, 2018.

The allowance for loan losses which decreased $24.8 million to $104.6 million at September 30, 2018, from $129.4 million at December 31, 2017, reflected continued improvement in the housing market driving favorable performance in our residential real estate portfolio.

We believe the allowance for credit losses of $106.2 million at September 30, 2018, was appropriate to cover credit losses inherent in the loan portfolio, including unfunded credit commitments, at that date. The allowance for credit losses is subject to change and reflects existing factors as of the date of determination, including economic or market conditions and ongoing internal and external examination processes. Due to the sensitivity of the allowance for credit losses to changes in the economic and business environment, it is possible that we will incur incremental credit losses not anticipated as of the balance sheet date. Future allowance levels will be based on a variety of factors, including loan growth, portfolio performance and general economic conditions. Our process for determining the allowance for credit losses is discussed in the “Critical Accounting Policy” section and Note 1 (Summary of Significant Accounting Policies) to Financial Statements in this Report and in our 2017 Form 10-K.

Table 14 presents an analysis of the allowance for credit losses.

Table 14: Allocation of the Allowance for Credit Losses (ACL)



	Quarter ended
	Sep 30, 2018				Jun 30, 2018				Mar 31, 2018				Dec 31, 2017				Sep 30, 2017
(in thousands)	ACL		Loans as % of total loans		ACL		Loans as % of total loans		ACL		Loans as % of total loans		ACL		Loans as % of total loans		ACL		Loans as % of total loans
Total commercial	$	23,722	8	%	$	25,856	9	%	$	27,020	9	%	$	28,085	9	%	$	26,577	11	%
Consumer:
Real estate 1-4 family first mortgage	59,026		90		61,702		89		67,780		89		71,341		88		72,941		86
Real estate 1-4 family junior lien mortgage	23,454		2		26,178		2		29,266		2		31,235		3		30,905		3
Total consumer	82,480		92		87,880		91		97,046		91		102,576		91		103,846		89
Total	$	106,202	100	%	$	113,736	100	%	$	124,066	100	%	$	130,661	100	%	$	130,423	100	%




	Quarter ended
(in thousands)	Sep 30, 2018			Jun 30, 2018	Mar 31, 2018	Dec 31, 2017	Sep 30, 2017
Components:
Allowance for loan losses	$	104,556		112,381	122,863	129,360	129,116
Allowance for unfunded credit commitments	1,646			1,355	1,203	1,301	1,307
Allowance for credit losses	$	106,202		113,736	124,066	130,661	130,423
Allowance for loan losses as a percentage of total loans	0.32		%	0.33	0.35	0.36	0.39
Allowance for loan losses as a percentage of annualized net charge-offs	NM			NM	NM	NM	NM
Allowance for credit losses as a percentage of total loans	0.33			0.34	0.36	0.36	0.40
Allowance for credit losses as a percentage of total nonaccrual loans	59.03			60.62	62.92	66.19	65.73

NM – Not meaningful

Asset/Liability Management

Asset/liability management involves the evaluation, monitoring and management of interest rate risk, market risk and liquidity and funding.

INTEREST RATE RISK Interest rate risk is the sensitivity of earnings to changes in interest rates. At September 30, 2018, 12% of our loans had variable interest rates. In a declining rate environment, we may experience a reduction in interest income on our loan portfolio and a corresponding decrease in funds available to be distributed to our shareholders. The reduction in interest income may result from downward adjustment of the indices upon which the interest rates on loans are based and from prepayments of loans with fixed interest rates, resulting in reinvestment of the proceeds in lower yielding assets. To manage interest rate risk, we monitor loan paydown rates, portfolio composition, and the rate sensitivity of loans acquired. Our loan acquisition process attempts to balance desirable yields with the quality of loans acquired.

At September 30, 2018, approximately 88% of our loans had fixed interest rates. Such loans increase our interest rate risk. Our methods for evaluating interest rate risk include an analysis of interest-rate sensitivity “gap,” which is defined as the difference between interest-earning assets and interest-bearing liabilities maturing or repricing within a given time period. A gap is considered positive when the amount of interest rate-sensitive assets exceeds the amount of interest rate-sensitive liabilities. A gap is considered negative when the amount of interest rate-sensitive liabilities exceeds the amount of interest rate-sensitive assets. Our interest rate-sensitive liabilities are generally limited to our line of credit with the Bank.

During a period of rising interest rates, a negative gap would tend to adversely affect net interest income, while a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would tend to result in an increase in net interest income, while a positive gap would tend to adversely affect net interest income. Because different types of assets and liabilities with the same or similar maturities may react differently to changes in overall market rates or conditions, changes in interest rates may affect net interest income positively or negatively even if an institution is perfectly matched in each maturity category.

At September 30, 2018, 12% of our assets had variable interest rates, and could be expected to reprice with changes in interest rates. At September 30, 2018, our liabilities were 1% of our assets. This positive gap between our assets and liabilities indicates that an increase in interest rates would result in an increase in net interest income and a decrease in interest rates would result in a decrease in net interest income.

LIQUIDITY AND FUNDING The objective of effective liquidity management is to ensure that we can meet customer loan requests and other cash commitments efficiently under both normal operating conditions and under unpredictable circumstances of industry or market stress. To achieve this objective, Wells Fargo’s Corporate Asset/Liability Management Committee establishes and monitors liquidity guidelines that require sufficient asset-based liquidity to cover potential funding requirements and to avoid over-dependence on volatile, less reliable funding markets.

Proceeds received from paydowns of loans are typically sufficient to fund existing lending commitments. Depending upon the timing of the loan acquisitions, we may draw on our $5.0 billion revolving line of credit we have with the Bank as a short-term liquidity source. At September 30, 2018 there was $182.2 million outstanding on our Bank line of credit. The rate of interest is three-month LIBOR plus 4.4 basis points (0.044%).

Our primary liquidity needs are to pay operating expenses, fund our lending commitments, acquire loans to replace existing loans that mature or repay, and pay dividends. The retained deficit included within our balance sheet results from cumulative distributions that have exceeded GAAP net income, predominantly due to the impact on REIT taxable income of purchase accounting adjustments attributable to the Company during the years 2009 through 2013, from the 2008 acquisition of Wachovia Corporation by Wells Fargo. The excess dividend distributions were funded by using cash provided by investing (generally principal payments received on our loans) and financing activities (generally draws on our Bank line of credit). As the remaining purchase accounting adjustments are not expected to cause a significant variance between GAAP net income and REIT taxable income in future years, operating expenses and dividends are expected to be funded through cash generated by operations or paid-in capital. Funding commitments and the acquisition of loans are intended to be funded with the proceeds obtained from repayment of principal balances by individual borrowers and our line of credit with the Bank.

On September 8, 2016, Wells Fargo reached agreements with the Consumer Financial Protection Bureau (CFPB), the Office of the Comptroller of the Currency (OCC), and the Office of the Los Angeles City Attorney, regarding allegations that some of its retail customers received products and services they did not request. On February 2, 2018, Wells Fargo entered into a consent order with the Board of Governors of the Federal Reserve System (FRB) related to governance oversight and compliance and operational risk management that imposes an asset cap on Wells Fargo until plans to enhance governance oversight and compliance and operational risk management are approved and implemented to the satisfaction of the FRB. On April 20, 2018 Wells Fargo reached agreement on consent orders issued by the CFPB and OCC to resolve matters regarding the compliance risk management program and past practices involving certain automobile collateral protection insurance policies and certain mortgage interest rate lock extensions. On August 1, 2018, Wells Fargo announced an agreement with the U.S. Department of Justice regarding the resolution of claims related to certain 2005-2007 residential mortgage-backed securities activities. Negative publicity or public opinion resulting from the settlements, consent orders, and related matters and other instances where the Bank’s customers may have experienced financial harm as well as from the resolution of other regulatory matters, litigation, or legal actions by Wells Fargo and the Bank may increase the risk of reputational harm to the business of Wells Fargo and the Bank, including the Bank’s ability to originate loans at the same volumes as we have historically acquired. If in future periods we do not reinvest loan paydowns at sufficient levels, management may request our board of directors to consider a return of capital to the holders of our common stock. Annually, we expect to distribute an aggregate amount of outstanding capital stock dividends equal to approximately 100% of our REIT taxable income for federal tax purposes. Such distributions may exceed net income determined under GAAP.

To the extent that we determine that additional funding is necessary or advisable, we could issue additional common or preferred stock, subject to Board of Directors approval, raise funds through debt financings, or a combination of these methods. Retention of operating cash flows does not represent a significant source of funding because any cash flow retention must be consistent with the provisions of the Investment Company Act and the Code, which requires the distribution by a REIT of at least 90% of its REIT taxable income, excluding capital gains, and must take into account taxes that would be imposed on undistributed income.

The certificate of designation for the Series A preferred stock contains a covenant in which we agree not to incur indebtedness for borrowed money, including any guarantees of indebtedness (which does not include any pledges of our assets on behalf of the Bank or our other affiliates), without the consent of the holders of two-thirds of the Series A preferred stock, voting as a separate class, provided that, we may incur indebtedness in an aggregate amount not exceeding 20% of our stockholders’ equity.

Critical Accounting Policy

Our significant accounting policies (see Note 1 (Summary of Significant Accounting Policies) to Financial Statements in our 2017 Form 10-K) are fundamental to understanding our results of operations and financial condition because they require that we use estimates and assumptions that may affect the value of our assets or liabilities and financial results. We have identified the accounting policy covering allowance for credit losses as critical because it requires management to make difficult,

subjective and complex judgments about matters that are inherently uncertain and because it is likely that materially different amounts would be reported under different conditions or using different assumptions.

Management and the audit committee of the board of directors have reviewed and approved this critical accounting policy. This policy is described in the "Critical Accounting Policy" section in our 2017 Form 10-K.

Current Accounting Developments

Table 15 provides accounting pronouncements applicable to us that have been issued by the FASB but are not yet effective.

Table 15: Current Accounting Developments - Issued Standards



Standard	Description	Effective date and financial statement impact
Accounting Standards Update (ASU or Update) ASU 2018-13 – Fair Value Measurement (Topic 820): Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement	The Update provides for guidance to eliminate and modify current fair value disclosures, as well as add new fair value disclosures.	The guidance is effective in first quarter 2020. The eliminated, modified and new fair value disclosures can all be adopted individually. Subject to completion of our assessment, we are not expecting this Update to have a material impact on our financial statements.
ASU 2016-13 – Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments	The Update changes the accounting for credit losses on loans by requiring a current expected credit loss (CECL) approach to determine the allowance for credit losses. CECL requires loss estimates for the remaining estimated life of the financial asset using historical experience, current conditions, and reasonable and supportable forecasts. Also, the Update eliminates the existing guidance for purchased credit-impaired (PCI) loans, but requires an allowance for purchased financial assets with more than insignificant deterioration since origination.	The guidance is effective in first quarter 2020 with a cumulative-effect adjustment to retained earnings as of the beginning of the year of adoption. While early adoption is permitted beginning in first quarter 2019, we do not expect to elect that option. We are evaluating the impact of the Update on our financial statements, including the development and implementation of models to estimate losses. We expect the Update will result in an increase in the allowance for credit losses given the change to estimated losses over the contractual life adjusted for expected prepayments with an expected material impact from longer duration portfolios. The amount of the increase will be impacted by the portfolio composition and quality at the adoption date as well as economic conditions and forecasts at that time.

Forward-Looking Statements

This Report contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by words such as “anticipates,” “intends,” “plans,” “seeks,” “believes,” “estimates,” “expects,” “target,” “projects,” “outlook,” “forecast,” “will,” “may,” “could,” “should,” “can” and similar references to future periods. Examples of forward-looking statements include, but are not limited to, statements we make about: future results of WFREIC; expectations for consumer and commercial credit performance and the appropriateness of our allowance for credit losses; our expectations regarding net interest income; expectations regarding loan acquisitions and paydowns; future capital expenditures; future dividends and other capital distributions; the expected outcome and impact of legal, regulatory and legislative developments, as well as our expectations regarding compliance therewith; the outcome of contingencies, such as legal proceedings; and our plans, objectives and strategies.

Forward-looking statements are not based on historical facts but instead represent our current expectations and assumptions regarding our business, the economy and other future conditions. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict. Our actual results may differ materially from those contemplated by the forward-looking statements. We caution, therefore, against relying on any of these forward-looking statements. They are neither statements of historical fact nor guarantees or assurances of future performance. While there is no assurance that any list of risks and uncertainties or risk factors is complete, important factors that could cause actual results to differ materially from those in the forward-looking statements include the following, without limitation:


•	economic conditions that affect the general economy, housing prices, the job market, consumer confidence and spending habits, including our borrowers’ prepayment and repayment of our loans (including the impact of the Tax Cuts & Jobs Act);


•	losses related to natural disasters, including from damage or loss to our collateral for loans in our consumer and commercial loan portfolios and from the impact on the ability of our borrowers to repay their loans;


•	the effect of the interest rate environment or changes in interest rates on our net interest income;


•	the level and volatility of the capital markets, interest rates, currency values and other market indices that affect the value of our assets and liabilities;


•	the effect of political conditions and geopolitical events;


•	adverse developments in the availability of desirable investment opportunities, whether they are due to competition, regulation or otherwise;


•	the extent of loan modification efforts, as well as the effects of regulatory requirements or guidance regarding loan modifications;


•	the availability and cost of both credit and capital;


•	investor sentiment and confidence in the financial markets;


•	our reputation and the reputation of Wells Fargo and the Bank, including negative effects from the Bank's retail banking sales practices matter and other instances where the Bank’s customers may have experienced financial harm and negative effects from the resolution of regulatory matters, litigation, or other legal actions by Wells Fargo and the Bank;


•	financial services reform and the impact of other current, pending and future legislation, regulation and legal actions applicable to us, the Bank or Wells Fargo, including the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) and related regulations;


•	changes in accounting standards, rules and interpretations;


•	various monetary and fiscal policies and regulations of the U.S. and foreign governments;


•	a failure in or breach of our, the Bank’s or Wells Fargo’s operational or security systems or infrastructure, or those of third party vendors and other security providers, including as a result of cyber attacks; and


•	the other factors described in “Risk Factors” in the 2017 Form 10-K.

In addition to the above factors, we also caution that our allowance for credit losses currently may not be appropriate to cover future credit losses, especially if housing prices decline, unemployment worsens, or general economic conditions deteriorate. Increases in loan charge-offs or in the allowance for credit losses and related provision expense could materially adversely affect our financial results and condition.

Any forward-looking statement made by us in this Report speaks only as of the date on which it is made. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. We undertake no obligation to publicly update any forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be required by law.

Risk Factors

An investment in Wells Fargo Real Estate Investment Corporation involves risk, including the possibility that the value of the investment could fall substantially and that dividends or other distributions on the investment could be reduced or eliminated. For a discussion of risk factors that could adversely affect our financial results and condition and the value of, and return on, an investment in WFREIC, refer to the “Risk Factors” section in our 2017 Form 10-K.

Controls and Procedures



Disclosure Controls and Procedures

The Company's management evaluated the effectiveness, as of September 30, 2018, of our disclosure controls and procedures. The Company's chief executive officer and chief financial officer participated in the evaluation. Based on this evaluation, the chief executive officer and chief financial officer concluded that our disclosure controls and procedures were effective as of September 30, 2018.



Internal Control Over Financial Reporting

Internal control over financial reporting is defined in Rule 13a-15(f) promulgated under the Securities Exchange Act of 1934 as a process designed by, or under the supervision of, the Company’s principal executive and principal financial officers and effected by the Company’s board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles (GAAP) and includes those policies and procedures that:


•	pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of assets of the Company;


•	provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and


•	provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. No change occurred during third quarter 2018 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

Financial Statements



Wells Fargo Real Estate Investment Corporation
Statement of Income (Unaudited)
	Quarter ended September 30,					Nine months ended September 30,
(in thousands, except per share amounts)	2018			2017		2018		2017
Interest income	$	334,485		332,748		1,031,356		963,229
Interest expense	4,604			3,173		30,866		3,423
Net interest income	329,881			329,575		1,000,490		959,806
Provision (reversal of provision) for credit losses	(6,824		)	(11,537	)	(22,890	)	14,664
Net interest income after provision for credit losses	336,705			341,112		1,023,380		945,142
Noninterest income
Pledge fees	—			15,864		6,037		44,338
Other	144			(284	)	522		(83	)
Total noninterest income	144			15,580		6,559		44,255
Noninterest expense
Loan servicing costs	20,561			20,614		63,843		58,602
Management fees	10,977			6,384		28,987		19,155
Foreclosed assets	3,993			2,713		9,167		7,124
Other	195			441		484		779
Total noninterest expense	35,726			30,152		102,481		85,660
Net income	301,123			326,540		927,458		903,737
Comprehensive income	301,123			326,540		927,458		903,737
Dividends on preferred stock	4,397			4,397		13,191		13,191
Net income applicable to common stock	$	296,726		322,143		914,267		890,546
Per common share information
Earnings per common share	$	8.71		9.46		26.84		26.15
Diluted earnings per common share	8.71			9.46		26.84		26.15
Average common shares outstanding	34,058			34,058		34,058		34,058
Diluted average common shares outstanding	34,058			34,058		34,058		34,058

The accompanying notes are an integral part of these statements.



Wells Fargo Real Estate Investment Corporation
Balance Sheet
(in thousands, except shares)	Sep 30, 2018			Dec 31, 2017
Assets	(Unaudited)
Cash and cash equivalents	$	—		—
Loans	32,510,311			35,865,176
Allowance for loan losses	(104,556		)	(129,360	)
Net loans	32,405,755			35,735,816
Accounts receivable - affiliates, net	94,146			113,755
Other assets	89,333			96,028
Total assets	$	32,589,234		35,945,599
Liabilities
Line of credit with Bank	$	182,207		3,551,426
Other liabilities	7,497			3,910
Total liabilities	189,704			3,555,336
Stockholders’ Equity
Preferred stock	110			110
Common stock – $0.01 par value, authorized 100,000,000 shares; issued and outstanding 34,058,028 shares	341			341
Additional paid-in capital	32,550,660			32,550,660
Retained earnings (deficit)	(151,581		)	(160,848	)
Total stockholders’ equity	32,399,530			32,390,263
Total liabilities and stockholders’ equity	$	32,589,234		35,945,599

The accompanying notes are an integral part of these statements.



Wells Fargo Real Estate Investment Corporation
Statement of Changes in Stockholders’ Equity (Unaudited)
Quarter ended September 30,
(in thousands, except per share data)	Preferred stock		Common stock	Additional paid-in capital	Retained earnings (deficit)		Total stockholders’ equity
Balance, June 30, 2018	$	110	341	32,550,660	(163,307	)	32,387,804
Net income	—		—	—	301,123		301,123
Cash dividends
Series A preferred stock at $0.40 per share	—		—	—	(4,383	)	(4,383	)
Series B preferred stock at $21.25 per share	—		—	—	(14	)	(14	)
Common stock at $8.37 per share	—		—	—	(285,000	)	(285,000	)
Balance, September 30, 2018	$	110	341	32,550,660	(151,581	)	32,399,530
Balance, June 30, 2017	$	110	341	32,550,660	(163,524	)	32,387,587
Net income	—		—	—	326,540		326,540
Cash dividends
Series A preferred stock at $0.40 per share	—		—	—	(4,383	)	(4,383	)
Series B preferred stock at $21.25 per share	—		—	—	(14	)	(14	)
Common stock at $9.40 per share	—		—	—	(320,000	)	(320,000	)
Balance, September 30, 2017	$	110	341	32,550,660	(161,381	)	32,389,730

Nine months ended September 30,
(in thousands, except per share data)	Preferred stock		Common stock	Additional paid-in capital	Retained earnings (deficit)		Total stockholders’ equity
Balance, December 31, 2017	$	110	341	32,550,660	(160,848	)	32,390,263
Net income	—		—	—	927,458		927,458
Cash dividends
Series A preferred stock at $1.20 per share	—		—	—	(13,149	)	(13,149	)
Series B preferred stock at $63.75 per share	—		—	—	(42	)	(42	)
Common stock at $26.57 per share	—		—	—	(905,000	)	(905,000	)
Balance, September 30, 2018	$	110	341	32,550,660	(151,581	)	32,399,530
Balance, December 31, 2016	$	110	341	32,550,660	(156,927	)	32,394,184
Net income	—		—	—	903,737		903,737
Cash dividends
Series A preferred stock at $1.20 per share	—		—	—	(13,149	)	(13,149	)
Series B preferred stock at $63.75 per share	—		—	—	(42	)	(42	)
Common stock at $26.28 per share	—		—	—	(895,000	)	(895,000	)
Balance, September 30, 2017	$	110	341	32,550,660	(161,381	)	32,389,730

The accompanying notes are an integral part of these statements.



Wells Fargo Real Estate Investment Corporation
Statement of Cash Flows (Unaudited)
	Nine months ended September 30,
(in thousands)	2018			2017
Cash flows from operating activities:
Net income	$	927,458		903,737
Adjustments to reconcile net income to net cash provided by operating activities:
Net accretion of adjustments on loans	(14,275		)	(10,392	)
Provision (reversal of provision) for credit losses	(22,890		)	14,664
Other operating activities, net	30,581			(162	)
Net cash provided by operating activities	920,874			907,847
Cash flows from investing activities:
Increase (decrease) in cash realized from
Loans:
Acquisitions	—			(4,707,964	)
Proceeds from payments and sales	3,362,139			3,391,498
Net cash provided (used) by investing activities	3,362,139			(1,316,466	)
Cash flows from financing activities:
Increase (decrease) in cash realized from
Draws on line of credit with Bank	844,478			1,885,152
Repayments of line of credit with Bank	(4,213,697		)	(1,544,088	)
Cash dividends paid	(913,794		)	(903,794	)
Net cash used by financing activities	(4,283,013		)	(562,730	)
Net change in cash and cash equivalents	—			(971,349	)
Cash and cash equivalents at beginning of period	—			971,349
Cash and cash equivalents at end of period	$	—		—
Supplemental cash flow disclosures:
Change in noncash items:
Transfers from loans to foreclosed assets	$	10,448		9,124
Preferred dividends payable	4,397			4,397
Cash paid for interest	32,036			2,981

The accompanying notes are an integral part of these statements.

Note 1: Summary of Significant Accounting Policies

Wells Fargo Real Estate Investment Corporation (the Company, we, our or us) is an indirect subsidiary of both Wells Fargo & Company (Wells Fargo) and Wells Fargo Bank, National Association (the Bank). The Company, a Delaware corporation, has operated as a real estate investment trust (REIT) since its formation in 1996.

The accounting and reporting policies of the Company are in accordance with U.S. generally accepted accounting principles (GAAP). For discussion of our significant accounting policies, see Note 1 (Summary of Significant Accounting Policies) in our Annual Report on Form 10-K for the year ended December 31, 2017 (2017 Form 10-K). There were no material changes to these policies in third quarter 2018. The preparation of the financial statements in accordance with GAAP requires management to make estimates based on assumptions about future economic and market conditions that affect the reported amounts of assets and liabilities at the date of the financial statements and income and expenses during the reporting period and the related disclosures. Although our estimates contemplate current conditions and how we expect them to change in the future, it is reasonably possible that actual future conditions could be significantly different than anticipated in those estimates, which could materially affect our results of operations and financial condition. Management has made significant estimates related to the allowance for credit losses (Note 2 (Loans and Allowance for Credit Losses)). Actual results could differ from those estimates.

These unaudited interim financial statements reflect all adjustments that are, in the opinion of management, necessary for a fair statement of the results for the periods presented. These adjustments are of a normal recurring nature, unless otherwise disclosed in this Form 10-Q. The results of operations in the interim financial statements do not necessarily indicate the results that may be expected for the full year. The interim financial information should be read in conjunction with our 2017 Form 10-K.

Accounting Standards Adopted in 2018

In first quarter 2018, we adopted the following new accounting guidance:


•	Accounting Standards Update (ASU or Update) 2016-15 – Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments.


•	ASU 2014-09 – Revenue from Contracts With Customers (Topic 606) and subsequent related Updates.


•	ASU 2016-01 – Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities

ASU 2016-15 addresses eight specific cash flow issues with the objective of reducing the existing diversity in practice for reporting in the Statement of Cash Flows. The Update is effective for us in first quarter 2018 with retrospective application. We do not have any of the activities included in the ASU and there is no impact on our financial statements.

ASU 2014-09 modifies the guidance used to recognize revenue from contracts with customers for transfers of goods or services and transfers of nonfinancial assets, unless those contracts are within the scope of other guidance. Our revenue is from net interest income on financial assets and pledge fees, which are both excluded from the scope of the guidance. Accordingly, there is no impact on our financial statements.

ASU 2016-01 changes the accounting for certain equity securities to record at fair value with unrealized gains or losses reflected in earnings, as well as improve the disclosures of equity securities and the fair value of financial instruments. We do not have equity securities. Accordingly, the impact to our financial statements is limited to our disclosure of the fair value of financial instruments. The valuation methodologies for estimating the fair value of financial instruments that are recorded at amortized cost, including loans, has been changed to conform with an exit price notion.

Subsequent Events

We have evaluated the effects of events that have occurred subsequent to September 30, 2018. There were no material subsequent events requiring adjustment to the financial statements or disclosure in the Notes to Financial Statements.

Note 2: Loans and Allowance for Credit Losses

The Company acquires loans originated or purchased by the Bank. In order to maintain our status as a REIT, the composition of the loans is highly concentrated in real estate. Underlying loans are concentrated primarily in California, New York, Washington, Virginia and Texas. These markets include approximately 56% of our total loan balance at September 30, 2018.

The following table presents total loans outstanding by portfolio segment and class of financing receivable. Total reductions and additions for unamortized premiums, discounts and other adjustments were less than 1% of outstanding balances at September 30, 2018 and December 31, 2017.



(in thousands)	Sep 30, 2018		Dec 31, 2017
Total commercial	$	2,639,772	3,325,939
Consumer:
Real estate 1-4 family first mortgage	29,162,590		31,683,651
Real estate 1-4 family junior lien mortgage	707,949		855,586
Total consumer	29,870,539		32,539,237
Total loans	$	32,510,311	35,865,176

The following table summarizes the proceeds paid or received from the Bank for acquisitions and sales of loans, respectively.



	2018							2017
(in thousands)	Commercial			Consumer		Total		Commercial	Consumer		Total
Quarter ended September 30,
Loan acquisitions	$	—		—		—		—	—		—
Loan sales	(20,677		)	—		(20,677	)	—	(43,641	)	(43,641	)
Nine months ended September 30,
Loan acquisitions	$	—		—		—		—	4,707,964		4,707,964
Loan sales	(20,677		)	(5,775	)	(26,452	)	—	(100,670	)	(100,670	)

Commitments to Lend

The contract or notional amount of commercial loan commitments to extend credit was $567.6 million at September 30, 2018 and $507.8 million at December 31, 2017.

Pledged Loans

See Note 5 (Transactions With Related Parties) for additional details on our agreement with the Bank to pledge loans.

Allowance for Credit Losses

The following table presents the allowance for credit losses, which consists of the allowance for loan losses and the allowance for unfunded credit commitments.



	Quarter ended September 30,					Nine months ended September 30,
(in thousands)	2018			2017		2018			2017
Balance, beginning of period	$	113,736		144,447		$	130,661		125,029
Provision (reversal of provision) for credit losses	(6,824		)	(11,537	)	(22,890		)	14,664
Interest income on certain impaired loans (1)	(829		)	(1,331	)	(2,980		)	(3,939	)
Loan charge-offs:
Total commercial	—			—		—			(11	)
Consumer:
Real estate 1-4 family first mortgage	(1,461		)	(2,320	)	(4,215		)	(8,120	)
Real estate 1-4 family junior lien mortgage	(2,576		)	(3,299	)	(7,567		)	(11,266	)
Total consumer	(4,037		)	(5,619	)	(11,782		)	(19,386	)
Total loan charge-offs	(4,037		)	(5,619	)	(11,782		)	(19,397	)
Loan recoveries:
Total commercial	12			59		40			88
Consumer:
Real estate 1-4 family first mortgage	2,632

Wells Fargo Real Estate Investment Corp. 10-Q