EX-13 9 f54129exv13.htm EX-13 exv13
 

      
         
    Financial Review
 
       
34   Overview
 
       
37   Earnings Performance
 
       
47   Balance Sheet Analysis
 
       
50   Off-Balance Sheet Arrangements
 
       
54   Risk Management
 
       
71   Capital Management
 
       
73   Critical Accounting Policies
 
       
79   Current Accounting
    Developments
 
       
80   Forward-Looking Statements
 
       
81   Risk Factors
 
       
    Controls and Procedures
 
       
88   Disclosure Controls and
    Procedures
 
       
88   Internal Control over Financial
    Reporting
 
       
88   Management’s Report on Internal
    Control over Financial Reporting
 
       
89   Report of Independent Registered
    Public Accounting Firm
 
       
    Financial Statements
 
       
90   Consolidated Statement of Income
 
       
91   Consolidated Balance Sheet
 
       
92   Consolidated Statement of
Changes in Equity and
Comprehensive Income
 
       
96   Consolidated Statement of
    Cash Flows
 
       
    Notes to Financial Statements
             
97
    1     Summary of Significant
 
          Accounting Policies
 
           
109
    2     Business Combinations
             
111
    3     Cash, Loan and Dividend Restrictions
 
           
111
    4     Federal Funds Sold, Securities
Purchased under Resale Agreements
and Other Short-Term Investments
 
           
112
    5     Securities Available for Sale
 
           
119
    6     Loans and Allowance for Credit Losses
 
           
123
    7     Premises, Equipment, Lease
 
          Commitments and Other Assets
 
           
124
    8     Securitizations and Variable
 
          Interest Entities
 
           
134
    9     Mortgage Banking Activities
 
           
136
    10     Intangible Assets
 
           
137
    11     Deposits
 
           
137
    12     Short-Term Borrowings
 
           
138
    13     Long-Term Debt
 
           
141
    14     Guarantees and Legal Actions
 
           
146
    15     Derivatives
 
           
151
    16     Fair Values of Assets and Liabilities
 
           
161
    17     Preferred Stock
 
           
163
    18     Common Stock and Stock Plans
 
           
167
    19     Employee Benefits and Other Expenses
 
           
174
    20     Income Taxes
 
           
176
    21     Earnings Per Common Share
 
           
177
    22     Other Comprehensive Income
 
           
178
    23     Operating Segments
 
           
180
    24     Condensed Consolidating Financial
 
          Statements
 
           
184
    25     Regulatory and Agency Capital
 
          Requirements
         
186   Report of Independent Registered
    Public Accounting Firm
 
       
187   Quarterly Financial Data
 
       
188   Glossary of Acronyms
 
       
189   Codification Cross Reference


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Table of Contents

This Annual Report, including the Financial Review and the Financial Statements and related Notes, has 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 forward-looking statements due to several factors. Some of these factors are described in the Financial Review and in the Financial Statements and related Notes. For a discussion of other factors, refer to the “Risk Factors” section in this Report. A Glossary of Acronyms for terms used throughout this Report and a Codification Cross Reference for cross references from accounting standards under the recently adopted Financial Accounting Standards Board (FASB) Accounting Standards Codification (Codification) to pre-Codification accounting standards can be found at the end of this Report.
Financial Review
Overview
 

Wells Fargo & Company is a $1.2 trillion diversified financial services company providing banking, insurance, trust and investments, mortgage banking, investment banking, retail banking, brokerage and consumer finance through banking stores, the internet and other distribution channels to individuals, businesses and institutions in all 50 states, the District of Columbia (D.C.) and in other countries. We ranked fourth in assets and second in the market value of our common stock among our peers at December 31, 2009. When we refer to “Wells Fargo,” “the Company,” “we,” “our” or “us” in this Report, we mean Wells Fargo & Company and Subsidiaries (consolidated). When we refer to the “Parent,” we mean Wells Fargo & Company. When we refer to “legacy Wells Fargo,” we mean Wells Fargo excluding Wachovia Corporation (Wachovia).
     Our vision is to satisfy all our customers’ financial needs, help them succeed financially, be recognized as the premier financial services company in our markets and be one of America’s great companies. Our primary strategy to achieve this vision is to increase the number of products our customers buy from us and to give them all of the financial products that fulfill their needs. Our cross-sell strategy, diversified business model and the breadth of our geographic reach facilitate growth in both strong and weak economic cycles, as we can grow by expanding the number of products our current customers have with us, gain new customers in our extended markets, and increase market share in many businesses. We continued to earn more of our customers’ business in 2009 in both our retail and commercial banking businesses and in our equally customer-centric securities brokerage and investment banking businesses.
     On December 31, 2008, Wells Fargo acquired Wachovia. Because the acquisition was completed at the end of 2008, Wachovia’s results are included in the income statement, average balances and related financial information beginning in 2009. Wachovia’s assets and liabilities are included, at fair value, in the consolidated balance sheet beginning on December 31, 2008, but not in 2008 averages.
     On January 1, 2009, we adopted new FASB guidance on noncontrolling interests on a retrospective basis for disclosure and, accordingly, prior period information reflects the adoption. The guidance requires that noncontrolling interests be reported as a component of total equity. In addition, our consolidated income statement must disclose amounts attributable to both Wells Fargo interests and the noncontrolling interests.
     We generated record revenue and built capital at a record rate in 2009 despite elevated credit costs. Wells Fargo net income was a record $12.3 billion in 2009, with net income applicable to common stock of $8.0 billion. Diluted earnings per common share were $1.75. In fourth quarter 2009, we fully repaid the U.S. Treasury’s $25 billion Troubled Asset Relief Program (TARP) Capital Purchase Program (CPP) preferred stock investment, including related preferred dividends, which reduced 2009 diluted earnings per share by $0.76 per share. Pre-tax pre-provision profit (PTPP) was $39.7 billion in 2009, which covered more than 2.1 times annual net charge-offs. PTPP is total revenue less noninterest expense. Management believes that PTPP is a useful financial measure because it enables investors and others to assess the Company’s ability to generate capital to cover credit losses through a credit cycle.
     Our cross-sell at legacy Wells Fargo set records for the 11th consecutive year with a record of 5.95 Wells Fargo products for retail banking households. Our goal is eight products per customer, which is approximately half of our estimate of potential demand. One of every four of our legacy Wells Fargo retail banking households has eight or more products and our average middle-market commercial banking customer has almost eight products. Wachovia retail bank households had an average of 4.65 Wachovia products. We believe there is potentially significant opportunity for growth as we increase the Wachovia retail bank household cross-sell. For legacy Wells Fargo, our average middle-market commercial banking customer reached an average of 7.8 products and an average of 6.4 products for Wholesale Banking customers. Business banking cross-sell offers another potential opportunity for growth, with a record cross-sell of 3.77 products at legacy Wells Fargo.
     Wells Fargo remained one of the largest providers of credit to the U.S. economy. We continued to lend to credit-worthy customers and, during 2009, made $711 billion in new loan commitments to consumer, small business and commercial customers, including $420 billion of residential mortgage originations. We are an industry leader in loan modifications for homeowners. As of December 31, 2009, nearly half a million Wells Fargo mortgage customers were in active trial or had completed loan modifications started in the prior 12 months. We have helped reduce mortgage payments for 1.7 million homeowners through refinancing.


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     Our core deposits grew 5% from December 31, 2008, even though $109 billion in higher-priced Wachovia certificates of deposit (CDs) matured. Average core deposits funded 93% of total average loans in 2009, up from 82% in 2008. Checking and savings deposits grew 21% to $679.9 billion at December 31, 2009, from $563.4 billion a year ago as we continued to gain new customers and deepen our relationships with existing customers.
     As we have stated in the past, to consistently grow over the long term, successful companies must invest in their core businesses and maintain strong balance sheets. In 2009, we opened 70 retail banking stores for a retail network total of 6,629 stores. We converted 19 Wachovia Banking stores in Colorado to the Wells Fargo platform, as part of the Wachovia integration, with the conversion of our remaining overlapping markets scheduled to occur in 2010.
     The Wachovia integration remains on track and on schedule, with business and revenue synergies exceeding our expectations at the time the merger was announced. Cross-sell revenues are being realized. We are on track to realize annual run-rate savings of $5 billion upon completion of the Wachovia integration in 2011, with over 50% of this annual run rate already achieved in 2009. We currently expect cumulative merger integration costs of approximately $5 billion, down from our $7.9 billion estimate at the time of merger. The revised estimate reflects lower owned real estate write-downs and lower employee-related expenses than anticipated at the time of the merger. In 2009, we spent a total of $1.9 billion in
merger expenses, $1.0 billion through goodwill under purchase accounting and $895 million expensed through earnings.
     We continued taking actions to further strengthen our balance sheet, including building credit reserves by $3.5 billion during the year to $25.0 billion at December 31, 2009, reducing previously identified non-strategic and liquidating loan portfolios by $18.9 billion to $104.9 billion, and reducing the value of our debt and equity investment portfolios through $1.7 billion of other-than-temporary impairment (OTTI) write-downs. We significantly built capital in 2009 and in the last 15 months since announcing our merger with Wachovia, driven by record retained earnings and other sources of internal capital generation, as well as three common stock offerings totaling over $33 billion, including the $12.2 billion offering in fourth quarter 2009, which allowed us to repay in full the U.S. Treasury’s TARP preferred stock investment. We substantially increased the size of the Company with the Wachovia merger, and experienced cyclically elevated credit costs; however, our capital ratios at December 31, 2009, were higher than they were prior to the Wachovia acquisition, even after redeeming the TARP preferred stock in full and purchasing Prudential Financial Inc.’s noncontrolling interest in our retail securities brokerage joint venture. Tier 1 common equity increased to $65.5 billion, 6.46% of risk-weighted assets. The Tier 1 capital ratio increased to 9.25% and Tier 1 leverage ratio declined to 7.87%. See the “Capital Management” section in this Report for more information regarding Tier 1 common equity.


Table 1: Six-Year Summary of Selected Financial Data
 
                                                                 
                                                    % Change     Five-year  
(in millions, except                                                   2009/     compound  
per share amounts)   2009     2008     2007     2006     2005     2004     2008     growth rate  
   
 
Income statement
                                                               
Net interest income
  $ 46,324       25,143       20,974       19,951       18,504       17,150       84 %     22  
Noninterest income
    42,362       16,734       18,546       15,817       14,591       12,930       153       27  
                   
 
Revenue
    88,686       41,877       39,520       35,768       33,095       30,080       112       24  
Provision for credit losses
    21,668       15,979       4,939       2,204       2,383       1,717       36       66  
Noninterest expense
    49,020       22,598       22,746       20,767       18,943       17,504       117       23  
Net income before noncontrolling interests
    12,667       2,698       8,265       8,567       7,892       7,104       369       12  
Less: Net income from noncontrolling interests
    392       43       208       147       221       90       812       34  
                   
 
Wells Fargo net income
    12,275       2,655       8,057       8,420       7,671       7,014       362       12  
Earnings per common share
    1.76       0.70       2.41       2.50       2.27       2.07       151       (3 )
Diluted earnings per common share
    1.75       0.70       2.38       2.47       2.25       2.05       150       (3 )
Dividends declared per common share
    0.49       1.30       1.18       1.08       1.00       0.93       (62 )     (12 )
   
 
Balance sheet (at year end)
                                                               
Securities available for sale
  $ 172,710       151,569       72,951       42,629       41,834       33,717       14 %     39  
Loans
    782,770       864,830       382,195       319,116       310,837       287,586       (9 )     22  
Allowance for loan losses
    24,516       21,013       5,307       3,764       3,871       3,762       17       45  
Goodwill
    24,812       22,627       13,106       11,275       10,787       10,681       10       18  
Assets
    1,243,646       1,309,639       575,442       481,996       481,741       427,849       (5 )     24  
Core deposits (1)
    780,737       745,432       311,731       288,068       253,341       229,703       5       28  
Long-term debt
    203,861       267,158       99,393       87,145       79,668       73,580       (24 )     23  
Wells Fargo stockholders’ equity
    111,786       99,084       47,628       45,814       40,660       37,866       13       24  
Noncontrolling interests
    2,573       3,232       286       254       239       247       (20 )     60  
Total equity
    114,359       102,316       47,914       46,068       40,899       38,113       12       25  
 
                                                               
   
(1)   Core deposits are noninterest-bearing deposits, interest-bearing checking, savings certificates, market rate and other savings, and certain foreign deposits (Eurodollar sweep balances).

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Table 2: Ratios and Per Common Share Data
 
                         
    Year ended December 31,  
    2009     2008     2007  
   
 
Profitability ratios
                       
Wells Fargo net income to
average assets (ROA)
    0.97 %     0.44       1.55  
Net income to average assets
    1.00       0.45       1.59  
Wells Fargo net income applicable to common stock to average Wells Fargo common stockholders’ equity (ROE)
    9.88       4.79       17.12  
Net income to average total equity
    10.75       5.02       17.46  
Efficiency ratio (1)
    55.3       54.0       57.6  
Capital ratios
                       
At year end:
                       
Wells Fargo common stockholders’ equity to assets
    8.34       5.21       8.28  
Total equity to assets
    9.20       7.81       8.33  
Risk-based capital (2)
                       
Tier 1 capital
    9.25       7.84       7.59  
Total capital
    13.26       11.83       10.68  
Tier 1 leverage (2)(3)
    7.87       14.52       6.83  
Tier 1 common equity (4)
    6.46       3.13       6.56  
Average balances:
                       
Average Wells Fargo common stockholders’ equity to average assets
    6.41       8.18       9.04  
Average total equity to average assets
    9.34       8.89       9.09  
Per common share data
                       
Dividend payout (5)
    27.9       185.4       49.0  
Book value
  $ 20.03       16.15       14.45  
Market price (6)
                       
High
    31.53       44.68       37.99  
Low
    7.80       19.89       29.29  
Year end
    26.99       29.48       30.19  
 
                       
   
(1)   The efficiency ratio is noninterest expense divided by total revenue (net interest income and noninterest income).
 
(2)   See Note 25 (Regulatory and Agency Capital Requirements) to Financial Statements in this Report for additional information.
 
(3)   Due to the Wachovia acquisition that closed on December 31, 2008, the Tier 1 leverage ratio, which considers period-end Tier 1 capital and quarterly averages in the computation of the ratio, does not reflect average assets of Wachovia for the full period ended December 31, 2008.
 
(4)   See the “Capital Management” section in this Report for additional information.
 
(5)   Dividends declared per common share as a percentage of earnings per common share.
 
(6)   Based on daily prices reported on the New York Stock Exchange Composite Transaction Reporting System.
     We saw signs of stability emerging in our credit portfolio, as the rate of growth in credit losses slowed during 2009. While losses remained elevated as expected, a more favorable economic outlook and improved credit statistics in several portfolios further increase our confidence that our credit cycle is turning, provided economic conditions do not deteriorate. In the commercial portfolios, we saw some signs that credit quality may be improving, as the pace of commercial and commercial real estate (CRE) nonaccrual growth slowed toward the end of 2009, reflecting our historically strong underwriting and the purchase accounting adjustments taken on the Wachovia portfolio at the time of the merger. We expect credit losses to remain elevated in the near term, but, assuming no further economic deterioration, current projections show credit losses peaking in the first half of 2010 in our consumer portfolios and later in 2010 in our commercial and CRE portfolios. Based on the portfolio performance data we saw in fourth quarter 2009, and assuming the same economic outlook, we are tracking somewhat better than these expectations.
     We believe it is important to maintain a well controlled operating environment as we complete the integration of the Wachovia businesses and grow the combined company. We manage our credit risk by setting what we believe are sound credit policies for underwriting new business, while monitoring and reviewing the performance of our loan portfolio. We manage the interest rate and market risks inherent in our asset and liability balances within established ranges, while ensuring adequate liquidity and funding. We maintain strong capital levels to facilitate future growth.
WACHOVIA MERGER On December 31, 2008, Wells Fargo acquired Wachovia, one of the nation’s largest diversified financial services companies. Wachovia’s assets and liabilities were included in the December 31, 2008, consolidated balance sheet at their respective fair values on the acquisition date. Because the acquisition was completed on December 31, 2008, Wachovia’s results of operations were not included in our 2008 income statement. Beginning in 2009, our consolidated results and associated financial information, as well as our consolidated average balances, include Wachovia. The Wachovia acquisition was material to us, and the inclusion of results from Wachovia’s businesses in our 2009 financial statements is a material factor in the changes in our results compared with prior year periods.
     Because the transaction closed on the last day of the 2008 annual reporting period, certain fair value purchase accounting adjustments were based on preliminary data as of an interim period with estimates through year end. We have validated and, where necessary, refined our December 31, 2008, fair value estimates and other purchase accounting adjustments. The impact of these refinements was recorded as an adjustment to goodwill in 2009. Based on the purchase price of $23.1 billion and the $12.2 billion fair value of net assets acquired, inclusive of final refinements identified during 2009, the transaction resulted in goodwill of $10.9 billion.
     The more significant fair value adjustments in our purchase accounting for the Wachovia acquisition were to loans. As of December 31, 2008, certain of the loans acquired from Wachovia had evidence of credit deterioration since origination, and it was probable that we would not collect all contractually required principal and interest payments. Such loans identified at the time of the acquisition were accounted for using the measurement provisions for purchased credit-impaired (PCI) loans, which are contained in the Receivables topic (FASB Accounting Standards Codification (ASC) 310) of the Codification. PCI loans were recorded at fair value at the date of acquisition, and any related allowance for loan losses was not permitted to be carried over.
     PCI loans were written down to an amount estimated to be collectible. Accordingly, such loans are not classified as nonaccrual, even though they may be contractually past due, because we expect to fully collect the new carrying values of such loans (that is, the new cost basis arising out of our purchase accounting). PCI loans are also not included in the disclosure of loans 90 days or more past due and still accruing interest even though a portion of them are 90 days or more contractually past due.


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     As a result of PCI loan accounting, certain credit-related ratios of the Company, including the growth rate in nonperforming assets (NPAs) since December 31, 2008, may not be directly comparable with periods prior to the merger or with credit-related ratios of other financial institutions. In particular:
  Wachovia’s high risk loans were written down pursuant to PCI accounting at the time of merger. Therefore, the allowance for credit losses is lower than otherwise would have been required without PCI loan accounting; and
  Because we virtually eliminated Wachovia’s nonaccrual loans at December 31, 2008, quarterly growth in our nonaccrual loans during 2009 was higher than it would have been without PCI loan accounting. Similarly, our net charge-offs rate was lower than it otherwise would have been.
     For further detail on the merger see the “Balance Sheet Analysis – Loan Portfolio” section and Note 2 (Business Combinations) to Financial Statements in this Report.


Earnings Performance
 

The earnings performance in 2009 was impacted by the acquisition of Wachovia on December 31, 2008, which significantly increased both asset size and the earnings potential of the Company. Net income for 2009 was $12.3 billion ($1.75 diluted per share) with $8.0 billion applicable to common stock, compared with net income of $2.7 billion ($0.70 diluted per share) with $2.4 billion applicable to common stock for 2008. Our 2009 earnings were influenced by factors including:
  a low mortgage rate environment combined with synergies from the addition of complementary Wachovia business lines, which resulted in a more even split in revenue between net interest income and noninterest income, primarily mortgage banking and trust and investment fees;
 
  the integration of Wachovia, which increased our expenses to align staffing models with those of Wells Fargo in our service and product distribution channels, as well as to align or enhance our various systems, business line support and other infrastructures;
 
  consumer and commercial borrower financial distress, which increased credit losses and foreclosed asset preservation costs, as well as increased staffing expenses to manage loan modification programs, loan collection, and various other loss mitigation activities; and
 
  significant distress in the financial services industry, which caused, among other items, increased Federal Deposit Insurance Corporation (FDIC) and other deposit assessments.
     Revenue, the sum of net interest income and noninterest income, grew to $88.7 billion in 2009 from $41.9 billion in 2008, primarily due to the acquisition of Wachovia. In 2009, net interest income of $46.3 billion represented 52% of revenue, compared with $25.1 billion (60%) in 2008. Noninterest income of $42.4 billion in 2009 represented 48% of revenue, up from $16.7 billion (40%) in 2008. The increase in noninterest income as a percentage of revenue was due to a higher percentage of trust and investment fees (11% in 2009, up from 7% in 2008) with the addition of Wells Fargo Advisors (formerly Wachovia Securities) retail brokerage business, legacy Wachovia wealth management and retirement, and reinsurance businesses, and to very strong mortgage banking results (14% in 2009, up from 6% in 2008, predominantly from legacy Wells Fargo).
     Noninterest expense as a percentage of revenue was 55% in 2009 and 54% in 2008, with amortization of core deposits (3% of revenue in 2009 and less than 1% in 2008) and additional
FDIC and other deposit assessments (2% of revenue in 2009 and less than 1% in 2008) in 2009 driving the slightly weaker ratio. Noninterest expense for 2009 also included $895 million of Wachovia merger-related integration expense.
     Table 3 presents the components of revenue and noninterest expense as a percentage of revenue for year-over-year results, comparing the combined Wells Fargo and Wachovia results for 2009 with legacy Wells Fargo results for 2008.
Net Interest Income
Net interest income is the interest earned on debt securities, loans (including yield-related loan fees) and other interest-earning assets minus the interest paid for deposits, short-term borrowings and long-term debt. The net interest margin is the average yield on earning assets minus the average interest rate paid for deposits and our other sources of funding. Net interest income and the net interest margin are presented on a taxable-equivalent basis in Table 5 to consistently reflect income from taxable and tax-exempt loans and securities based on a 35% federal statutory tax rate.
     Net interest income on a taxable-equivalent basis increased to $47.0 billion in 2009, from $25.4 billion in 2008, and the net interest margin was 4.28% in 2009, down 55 basis points from 4.83% in 2008. These changes are primarily due to the impact of acquiring Wachovia. Although the addition of Wachovia increased earning assets and net interest income, it decreased the net interest margin since Wachovia’s net interest margin was much lower than that of legacy Wells Fargo.
     Table 4 presents the components of earning assets and funding sources as a percentage of earning assets to provide a more meaningful analysis of year-over-year average balances, comparing the combined Wells Fargo and Wachovia balances for 2009 with legacy Wells Fargo balances for 2008.
     The mix of earning assets and their yields are important drivers of net interest income. During 2009, there were slight shifts in our earning asset mix from loans to more liquid assets. Due to weaker loan demand in 2009 and the impact of liquidating certain loan portfolios, average loans for 2009 decreased to 75% of average earning assets from 76% for 2008, average mortgage-backed securities (MBS) dropped to 12% in 2009, from 13% in 2008, and average short-term investments and trading account assets increased to 2% in 2009 from 1% a year ago.


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     Average interest-bearing core deposits increased to 58% of average earning assets for 2009, from 51% for 2008, and average short-term borrowings decreased to 5% of average earning assets, from 13% for 2008. Core deposits are a low-cost source of funding and thus an important contributor to growth in net interest income and the net interest margin. Core deposits include noninterest-bearing deposits, interest-bearing checking, savings certificates, market rate and other savings, and certain foreign deposits (Eurodollar sweep balances). Average core deposits rose to $762.5 billion in 2009 from $325.2 billion in 2008 and funded 93% and 82% of average loans, respectively. About 87% of our core deposits are now in checking and savings deposits, one of the highest percentages
in the industry. Total average retail core deposits, which exclude Wholesale Banking core deposits and retail mortgage escrow deposits, grew to $588.1 billion for 2009 from $234.1 billion a year ago. Average mortgage escrow deposits were $28.3 billion for 2009, compared with $21.0 billion a year ago. Average savings certificates increased to $140.2 billion in 2009 from $39.5 billion a year ago and average checking and savings deposits increased to $622.4 billion in 2009 from $285.7 billion a year ago. Total average interest-bearing deposits increased to $635.9 billion in 2009 from $266.1 billion a year ago.
Table 5 presents the individual components of net interest income and the net interest margin.


Table 3: Net Interest Income, Noninterest Income and Noninterest Expense as a Percentage of Revenue
                                 
   
 
    Year ended December 31,  
            % of             % of  
(in millions, except per share amounts)   2009     revenue     2008     revenue  
   
 
Interest income
                               
Trading assets
  $ 944       1 %   $ 189       %
Securities available for sale
    11,941       13       5,577       13  
Mortgages held for sale
    1,930       2       1,573       4  
Loans held for sale
    183             48        
Loans
    41,659       47       27,651       66  
Other interest income
    336             181        
                         
 
Total interest income
    56,993       64       35,219       84  
                         
 
Interest expense
                               
Deposits
    3,774       4       4,521       11  
Short-term borrowings
    231             1,478       4  
Long-term debt
    5,786       7       3,789       9  
Other interest expense
    172                    
                         
 
Total interest expense
    9,963       11       9,788       23  
                         
 
Net interest income (on a taxable-equivalent basis)
    47,030       53       25,431       61  
                         
 
Taxable-equivalent adjustment
    (706 )     (1 )     (288 )     (1 )
                         
 
Net interest income
    46,324       52       25,143       60  
Noninterest income
                               
Service charges on deposit accounts
    5,741       6       3,190       8  
Trust and investment fees
    9,735       11       2,924       7  
Card fees
    3,683       4       2,336       6  
Other fees
    3,804       4       2,097       5  
Mortgage banking
    12,028       14       2,525       6  
Insurance
    2,126       2       1,830       4  
Net gains from trading activities
    2,674       3       275       1  
Net gains (losses) on debt securities available for sale
    (127 )           1,037       2  
Net gains (losses) from equity investments
    185             (757 )     (2 )
Operating leases
    685       1       427       1  
Other
    1,828       2       850       2  
                         
 
Total noninterest income
    42,362       48       16,734       40  
                         
 
Noninterest expense
                               
Salaries
    13,757       16       8,260       20  
Commission and incentive compensation
    8,021       9       2,676       6  
Employee benefits
    4,689       5       2,004       5  
Equipment
    2,506       3       1,357       3  
Net occupancy
    3,127       4       1,619       4  
Core deposit and other intangibles
    2,577       3       186        
FDIC and other deposit assessments
    1,849       2       120        
Other (1)
    12,494       14       6,376       15  
                         
 
Total noninterest expense
    49,020       55       22,598       54  
                         
 
Revenue
  $ 88,686               41,877          
                         
 
                               
   
(1)   See Table 8 – Noninterest Expense in this Report for additional detail.

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Table 4: Average Earning Assets and Funding Sources as a Percentage of Average Earning Assets
                                 
   
 
    Year ended December 31,  
    2009     2008  
            % of             % of  
    Average     earning     Average     earning  
(in millions)   balance     assets     balance     assets  
   
 
Earning assets
                               
Federal funds sold, securities purchased under resale agreements and other short-term investments
  $ 26,869       2 %   $ 5,293       1 %
Trading assets
    21,092       2       4,971       1  
Debt securities available for sale:
                               
Securities of U.S. Treasury and federal agencies
    2,480             1,083        
Securities of U.S. states and political subdivisions
    12,702       1       6,918       1  
Mortgage-backed securities:
                               
Federal agencies
    87,197       8       44,777       9  
Residential and commercial
    41,618       4       20,749       4  
                         
 
Total mortgage-backed securities
    128,815       12       65,526       13  
Other debt securities (1)
    32,011       3       12,818       2  
                         
 
Total debt securities available for sale (1)
    176,008       16       86,345       16  
Mortgages held for sale (2)
    37,416       3       25,656       5  
Loans held for sale (2)
    6,293       1       837        
Loans:
                               
Commercial and commercial real estate:
                               
Commercial
    180,924       16       98,620       19  
Real estate mortgage
    104,197       10       41,659       8  
Real estate construction
    32,961       3       19,453       4  
Lease financing
    14,751       1       7,141       1  
                         
 
Total commercial and commercial real estate
    332,833       30       166,873       32  
                         
 
Consumer:
                               
Real estate 1-4 family first mortgage
    238,359       22       75,116       14  
Real estate 1-4 family junior lien mortgage
    106,957       10       75,375       14  
Credit card
    23,357       2       19,601       4  
Other revolving credit and installment
    90,666       8       54,368       10  
                         
 
Total consumer
    459,339       42       224,460       43  
                         
 
Foreign
    30,661       3       7,127       1  
                         
 
Total loans (2)
    822,833       75       398,460       76  
Other
    6,113       1       1,920        
                         
 
Total earning assets
  $ 1,096,624       100 %   $ 523,482       100 %
                         
 
Funding sources
                               
Deposits:
                               
Interest-bearing checking
  $ 70,179       6 %   $ 5,650       1 %
Market rate and other savings
    351,892       32       166,691       32  
Savings certificates
    140,197       13       39,481       8  
Other time deposits
    20,459       2       6,656       1  
Deposits in foreign offices
    53,166       5       47,578       9  
                         
 
Total interest-bearing deposits
    635,893       58       266,056       51  
Short-term borrowings
    51,972       5       65,826       13  
Long-term debt
    231,801       21       102,283       20  
Other liabilities
    4,904                    
                         
 
Total interest-bearing liabilities
    924,570       84       434,165       83  
Portion of noninterest-bearing funding sources
    172,054       16       89,317       17  
                         
 
Total funding sources
  $ 1,096,624       100 %   $ 523,482       100 %
                         
 
Noninterest-earning assets
                               
Cash and due from banks
  $ 19,218               11,175          
Goodwill
    23,997               13,353          
Other
    122,515               56,386          
                         
 
Total noninterest-earning assets
  $ 165,730               80,914          
                         
 
Noninterest-bearing funding sources
                               
Deposits
  $ 171,712               87,820          
Other liabilities
    48,193               28,658          
Total equity
    117,879               53,753          
Noninterest-bearing funding sources used to fund earning assets
    (172,054 )             (89,317 )        
                         
 
Net noninterest-bearing funding sources
  $ 165,730               80,914          
                         
 
Total assets
  $ 1,262,354               604,396          
                         
 
 
                               
   
(1)   Includes certain preferred securities.
 
(2)   Nonaccrual loans are included in their respective loan categories.

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Table 5: Average Balances, Yields and Rates Paid (Taxable-Equivalent Basis) (1)(2)(3)
 
                                                         
    2009     2008        
                    Interest                     Interest        
    Average     Yields/     income/     Average     Yields/     income/        
(in millions)   balance     rates     expense     balance     rates     expense        
 
 
Earning assets
                                                       
Federal funds sold, securities purchased under resale agreements and other short-term investments
  $ 26,869       0.56 %   $ 150       5,293       1.71 %   $ 90          
Trading assets
    21,092       4.48       944       4,971       3.80       189          
Debt securities available for sale (4):
                                                       
Securities of U.S. Treasury and federal agencies
    2,480       2.83       69       1,083       3.84       41          
Securities of U.S. states and political subdivisions
    12,702       6.42       840       6,918       6.83       501          
Mortgage-backed securities:
                                                       
Federal agencies
    87,197       5.45       4,591       44,777       5.97       2,623          
Residential and commercial
    41,618       9.09       4,150       20,749       6.04       1,412          
                                             
 
Total mortgage-backed securities
    128,815       6.73       8,741       65,526       5.99       4,035          
Other debt securities (5)
    32,011       7.16       2,291       12,818       7.17       1,000          
                                             
 
Total debt securities available for sale (5)
    176,008       6.73       11,941       86,345       6.22       5,577          
Mortgages held for sale (6)
    37,416       5.16       1,930       25,656       6.13       1,573          
Loans held for sale (6)
    6,293       2.90       183       837       5.69       48          
Loans:
                                                       
Commercial and commercial real estate:
                                                       
Commercial
    180,924       4.22       7,643       98,620       6.12       6,034          
Real estate mortgage
    104,197       3.44       3,585       41,659       5.80       2,416          
Real estate construction
    32,961       2.94       970       19,453       5.08       988          
Lease financing
    14,751       9.32       1,375       7,141       5.62       401          
                                             
 
Total commercial and commercial real estate
    332,833       4.08       13,573       166,873       5.90       9,839          
                                             
 
Consumer:
                                                       
Real estate 1-4 family first mortgage
    238,359       5.45       12,992       75,116       6.67       5,008          
Real estate 1-4 family junior lien mortgage
    106,957       4.76       5,089       75,375       6.55       4,934          
Credit card
    23,357       12.16       2,841       19,601       12.13       2,378          
Other revolving credit and installment
    90,666       6.56       5,952       54,368       8.72       4,744          
                                             
 
Total consumer
    459,339       5.85       26,874       224,460       7.60       17,064          
                                             
 
Foreign
    30,661       3.95       1,212       7,127       10.50       748          
                                             
 
Total loans (6)
    822,833       5.06       41,659       398,460       6.94       27,651          
Other
    6,113       3.05       186       1,920       4.73       91          
                                             
 
Total earning assets
  $ 1,096,624       5.19 %   $ 56,993       523,482       6.69 %   $ 35,219          
                                             
 
Funding sources
                                                       
Deposits:
                                                       
Interest-bearing checking
  $ 70,179       0.14 %   $ 100       5,650       1.12 %   $ 64          
Market rate and other savings
    351,892       0.39       1,375       166,691       1.32       2,195          
Savings certificates
    140,197       1.24       1,738       39,481       3.08       1,215          
Other time deposits
    20,459       2.03       415       6,656       2.83       187          
Deposits in foreign offices
    53,166       0.27       146       47,578       1.81       860          
                                             
 
Total interest-bearing deposits
    635,893       0.59       3,774       266,056       1.70       4,521          
Short-term borrowings
    51,972       0.44       231       65,826       2.25       1,478          
Long-term debt
    231,801       2.50       5,786       102,283       3.70       3,789          
Other liabilities
    4,904       3.50       172                            
                                             
 
Total interest-bearing liabilities
    924,570       1.08       9,963       434,165       2.25       9,788          
Portion of noninterest-bearing funding sources
    172,054                   89,317                      
                                             
 
Total funding sources
  $ 1,096,624       0.91       9,963       523,482       1.86       9,788          
                                             
 
Net interest margin and net interest income on a taxable-equivalent basis (7)
            4.28 %   $ 47,030               4.83 %   $ 25,431          
                                     
 
 
                                                       
Noninterest-earning assets
                                                       
Cash and due from banks
  $ 19,218                       11,175                          
Goodwill
    23,997                       13,353                          
Other (8)
    122,515                       56,386                          
                                                 
 
Total noninterest-earning assets
  $ 165,730                       80,914                          
                                                 
 
Noninterest-bearing funding sources
                                                       
Deposits
  $ 171,712                       87,820                          
Other liabilities
    48,193                       28,658                          
Total equity
    117,879                       53,753                          
Noninterest-bearing funding sources used to fund earning assets
    (172,054 )                     (89,317 )                        
                                                 
 
Net noninterest-bearing funding sources
  $ 165,730                       80,914                          
                                                 
 
Total assets
  $ 1,262,354                       604,396                          
                                                 
 
                                                       
 
(1)   Because the Wachovia acquisition was completed at the end of 2008, Wachovia’s assets and liabilities are included in average balances, and Wachovia’s results are reflected in interest income/expense beginning in 2009.
 
(2)   Our average prime rate was 3.25%, 5.09%, 8.05%, 7.96% and 6.19% for 2009, 2008, 2007, 2006 and 2005, respectively. The average three-month London Interbank Offered Rate (LIBOR) was 0.69%, 2.93%, 5.30%, 5.20% and 3.56% for the same years, respectively.
 
(3)   Interest rates and amounts include the effects of hedge and risk management activities associated with the respective asset and liability categories.
 
(4)   Yields are based on amortized cost balances computed on a settlement date basis.

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    2007     2006     2005  
                    Interest                     Interest                     Interest  
    Average     Yields/     income/     Average     Yields/     income/     Average     Yields/     income/  
    balance     rates     expense     balance     rates     expense     balance     rates     expense  
   
 
 
                                                                       


 
  $ 4,468       4.99 %   $ 223       5,515       4.80 %   $ 265       5,448       3.01 %   $ 164  
 
    4,291       4.37       188       4,958       4.95       245       5,411       3.52       190  
 
                                                                       

 
    848       4.26       36       875       4.36       39       997       3.81       38  

 
    4,740       7.37       342       3,192       7.98       245       3,395       8.27       266  
 
                                                                       
 
    38,592       6.10       2,328       36,691       6.04       2,206       19,768       6.02       1,162  
 
    6,548       6.12       399       6,640       6.57       430       5,128       5.60       283  
 
                                                           
 
 
    45,140       6.10       2,727       43,331       6.12       2,636       24,896       5.94       1,445  
 
    6,295       7.52       477       6,204       7.10       439       3,846       7.10       266  
 
                                                           
 

 
    57,023       6.34       3,582       53,602       6.31       3,359       33,134       6.24       2,015  
 
    33,066       6.50       2,150       42,855       6.41       2,746       38,986       5.67       2,213  
 
    896       7.76       70       630       7.40       47       2,857       5.10       146  
 
                                                                       
 
                                                                       
 
    77,965       8.17       6,367       65,720       8.13       5,340       58,434       6.76       3,951  
 
    32,722       7.38       2,414       29,344       7.32       2,148       29,098       6.31       1,836  
 
    16,934       7.80       1,321       14,810       7.94       1,175       11,086       6.67       740  
 
    5,921       5.84       346       5,437       5.72       311       5,226       5.91       309  
 
                                                           
 

 
    133,542       7.82       10,448       115,311       7.78       8,974       103,844       6.58       6,836  
 
                                                           
 
                                                                       
 
    61,527       7.25       4,463       57,509       7.27       4,182       78,170       6.42       5,016  

 
    72,075       8.12       5,851       64,255       7.98       5,126       55,616       6.61       3,679  
 
    15,874       13.58       2,155       12,571       13.29       1,670       10,663       12.33       1,315  
 
    54,436       9.71       5,285       50,922       9.60       4,889       43,102       8.80       3,794  
 
                                                           
 
 
    203,912       8.71       17,754       185,257       8.57       15,867       187,551       7.36       13,804  
 
                                                           
 
 
    7,321       11.68       855       6,343       12.39       786       4,711       13.49       636  
 
                                                           
 
 
    344,775       8.43       29,057       306,911       8.35       25,627       296,106       7.19       21,276  
 
    1,402       5.07       71       1,357       4.97       68       1,581       4.34       68  
 
                                                           
 
 
  $ 445,921       7.93 %   $ 35,341       415,828       7.79 %   $ 32,357       383,523       6.81 %   $ 26,072  
 
                                                           
 
 
                                                                       
 
                                                                       
 
  $ 5,057       3.16 %   $ 160       4,302       2.86 %   $ 123       3,607       1.43 %   $ 51  
 
    147,939       2.78       4,105       134,248       2.40       3,225       129,291       1.45       1,874  
 
    40,484       4.38       1,773       32,355       3.91       1,266       22,638       2.90       656  
 
    8,937       4.87       435       32,168       4.99       1,607       27,676       3.29       910  
 
    36,761       4.57       1,679       20,724       4.60       953       11,432       3.12       357  
 
                                                           
 
 
    239,178       3.41       8,152       223,797       3.21       7,174       194,644       1.98       3,848  
 
    25,854       4.81       1,245       21,471       4.62       992       24,074       3.09       744  
 
    93,193       5.18       4,824       84,035       4.91       4,124       79,137       3.62       2,866  
 
                                                     
 
                                                           
 
 
    358,225       3.97       14,221       329,303       3.73       12,290       297,855       2.50       7,458  
 
    87,696                   86,525                   85,668              

 
                                                           
 
 
  $ 445,921       3.19       14,221       415,828       2.96       12,290       383,523       1.95       7,458  
 
                                                           
 

 
            4.74 %   $ 21,120               4.83 %   $ 20,067               4.86 %   $ 18,614  
                                           
 
                                                                       
 
                                                                       
 
  $ 11,806                       12,466                       13,173                  
 
    11,957                       11,114                       10,705                  
 
    51,068                       46,615                       38,389                  
 
                                                                 
 

 
  $ 74,831                       70,195                       62,267                  
 
                                                                 
 
 
                                                                       
 
  $ 88,907                       89,117                       87,218                  
 
    26,287                       24,221                       21,316                  
 
    47,333                       43,382                       39,401                  

 
    (87,696 )                     (86,525 )                     (85,668 )                
 
                                                                 
 

 
  $ 74,831                       70,195                       62,267                  
 
                                                                 
 
 
  $ 520,752                       486,023                       445,790                  
 
                                                                 
 
 
                                                                       
   
(5)   Includes certain preferred securities.
 
(6)   Nonaccrual loans and related income are included in their respective loan categories.
 
(7)   Includes taxable-equivalent adjustments primarily related to tax-exempt income on certain loans and securities. The federal statutory tax rate was 35% for the periods presented.
 
(8)   See Note 7 (Premises, Equipment, Lease Commitments and Other Assets) to Financial Statements in this Report for detail of balances of other noninterest-earning assets at December 31, 2009 and 2008.

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     Table 6 allocates the changes in net interest income on a taxable-equivalent basis to changes in either average balances or average rates for both interest-earning assets and interest-bearing liabilities. Because of the numerous simultaneous volume and rate changes during any period, it is not possible
to precisely allocate such changes between volume and rate. For this table, changes that are not solely due to either volume or rate are allocated to these categories in proportion to the percentage changes in average volume and average rate.


Table 6: Analysis of Changes in Net Interest Income
 
                                                 
    Year ended December 31,  
    2009 over 2008     2008 over 2007  
(in millions)   Volume     Rate     Total     Volume     Rate     Total  
   
Increase (decrease) in net interest income:
                                               
Federal funds sold, securities purchased under resale agreements and other short-term investments
  $ 156       (96 )     60       35       (168 )     (133 )
Trading assets
    715       40       755       26       (25 )     1  
Debt securities available for sale:
                                               
Securities of U.S. Treasury and federal agencies
    41       (13 )     28       9       (4 )     5  
Securities of U.S. states and political subdivisions
    369       (30 )     339       181       (22 )     159  
Mortgage-backed securities:
                                               
Federal agencies
    2,229       (261 )     1,968       349       (54 )     295  
Residential and commercial
    1,823       915       2,738       1,017       (4 )     1,013  
         
Total mortgage-backed securities
    4,052       654       4,706       1,366       (58 )     1,308  
Other debt securities
    1,292       (1 )     1,291       543       (20 )     523  
         
Total debt securities available for sale
    5,754       610       6,364       2,099       (104 )     1,995  
Mortgages held for sale
    635       (278 )     357       (460 )     (117 )     (577 )
Loans held for sale
    169       (34 )     135       (4 )     (18 )     (22 )
Loans:
                                               
Commercial and commercial real estate:
                                               
Commercial
    3,904       (2,295 )     1,609       1,471       (1,804 )     (333 )
Real estate mortgage
    2,467       (1,298 )     1,169       581       (579 )     2  
Real estate construction
    507       (525 )     (18 )     176       (509 )     (333 )
Lease financing
    602       372       974       69       (14 )     55  
         
Total commercial and commercial real estate
    7,480       (3,746 )     3,734       2,297       (2,906 )     (609 )
         
Consumer:
                                               
Real estate 1-4 family first mortgage
    9,055       (1,071 )     7,984       924       (379 )     545  
Real estate 1-4 family junior lien mortgage
    1,727       (1,572 )     155       258       (1,175 )     (917 )
Credit card
    457       6       463       470       (247 )     223  
Other revolving credit and installment
    2,594       (1,386 )     1,208       (7 )     (534 )     (541 )
         
Total consumer
    13,833       (4,023 )     9,810       1,645       (2,335 )     (690 )
         
Foreign
    1,176       (712 )     464       (22 )     (85 )     (107 )
         
Total loans
    22,489       (8,481 )     14,008       3,920       (5,326 )     (1,406 )
         
Other
    137       (42 )     95       25       (5 )     20  
         
Total increase (decrease) in interest income
    30,055       (8,281 )     21,774       5,641       (5,763 )     (122 )
         
Increase (decrease) in interest expense:
                                               
Deposits:
                                               
Interest-bearing checking
    136       (100 )     36       17       (113 )     (96 )
Market rate and other savings
    1,396       (2,216 )     (820 )     469       (2,379 )     (1,910 )
Savings certificates
    1,601       (1,078 )     523       (43 )     (515 )     (558 )
Other time deposits
    294       (66 )     228       (94 )     (154 )     (248 )
Deposits in foreign offices
    91       (805 )     (714 )     396       (1,215 )     (819 )
         
Total interest-bearing deposits
    3,518       (4,265 )     (747 )     745       (4,376 )     (3,631 )
Short-term borrowings
    (259 )     (988 )     (1,247 )     1,158       (925 )     233  
Long-term debt
    3,544       (1,547 )     1,997       439       (1,474 )     (1,035 )
Other liabilities
    172             172                    
         
Total increase (decrease) in interest expense
    6,975       (6,800 )     175       2,342       (6,775 )     (4,433 )
         
Increase (decrease) in net interest income on a taxable-equivalent basis
  $ 23,080       (1,481 )     21,599       3,299       1,012       4,311  
         
Noninterest Income
Noninterest income represented 48% of revenue for 2009 compared with 40% for 2008. The increase from 2008 was primarily due to strong trust and investment fee income, aided primarily by the Wachovia acquisition. Also, mortgage
banking income increased significantly during 2009 driven by the low rate environment, strong loan origination volume and strong market-related valuation changes, net of economic hedge results.


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Table 7: Noninterest Income
 
                         
    Year ended December 31,  
(in millions)   2009     2008     2007  
   
Service charges on deposit accounts
  $ 5,741       3,190       3,050  
Trust and investment fees:
                       
Trust, investment and IRA fees
    3,588       2,161       2,305  
Commissions and all other fees
    6,147       763       844  
   
Total trust and investment fees
    9,735       2,924       3,149  
   
Card fees
    3,683       2,336       2,136  
Other fees:
                       
Cash network fees
    231       188       193  
Charges and fees on loans
    1,801       1,037       1,011  
All other fees
    1,772       872       1,088  
   
Total other fees
    3,804       2,097       2,292  
   
Mortgage banking:
                       
Servicing income, net
    5,557       979       1,511  
Net gains on mortgage loan origination/sales activities
    6,152       1,183       1,289  
All other
    319       363       333  
   
Total mortgage banking
    12,028       2,525       3,133  
   
Insurance
    2,126       1,830       1,530  
Net gains from trading activities
    2,674       275       544  
Net gains (losses) on debt securities available for sale
    (127 )     1,037       209  
Net gains (losses) from equity investments
    185       (757 )     864  
Operating leases
    685       427       703  
All other
    1,828       850       936  
   
Total
  $ 42,362       16,734       18,546  
   
     The Federal Reserve Board (FRB) announced regulatory changes to debit card and ATM overdraft practices in fourth quarter 2009. In third quarter 2009, we had also announced policy changes that will help customers limit overdraft and returned item fees. We currently estimate that the combination of these changes will reduce our 2010 fee revenue by approximately $500 million (after tax). The actual impact could vary due to a variety of factors including changes in customer behavior. There is no assurance that the actual impact on our 2010 fee revenue from pending changes to our overdraft practices will not materially vary from our estimate.
     We earn trust, investment and IRA (Individual Retirement Account) fees from managing and administering assets, including mutual funds, corporate trust, personal trust, employee benefit trust and agency assets. At December 31, 2009, these assets totaled $1.9 trillion, up 19% from $1.6 trillion (including $510 billion from Wachovia) at December 31, 2008. Trust, investment and IRA fees are primarily based on a tiered scale relative to the market value of the assets under management or administration. The fees increased to $3.6 billion in 2009 from $2.2 billion a year ago.
     We receive commissions and other fees for providing services to full-service and discount brokerage customers. These fees increased to $6.1 billion in 2009 from $763 million a year ago, primarily due to Wachovia. These fees include transactional commissions, which are based on the number of transactions executed at the customer’s direction, and asset-based fees, which are based on the market value of the customer’s assets. Client assets totaled $1.1 trillion at December 31, 2009, up from $970 billion (including $859 billion from Wachovia) a year ago. Commissions and other fees also include fees from investment banking activities including equity and bond underwriting.
     Card fees increased 58% to $3.7 billion in 2009 from $2.3 billion in 2008, predominantly due to additional card fees from the Wachovia portfolio. Recent legislative and regulatory changes limit our ability to increase interest rates and assess certain fees on card accounts. We currently estimate that these changes will reduce our 2010 fee revenue by approximately $235 million (after tax) before accounting for potential offsets in performance, the economy, revenue mitigation impacts and other factors. The actual impact could vary due to a variety of factors, and there is no assurance that the actual impact on our 2010 fee revenue from these changes will not materially vary from our estimate.
     Mortgage banking noninterest income was $12.0 billion in 2009, compared with $2.5 billion a year ago. In addition to servicing fees, net servicing income includes both changes in the fair value of mortgage servicing rights (MSRs) during the period as well as changes in the value of derivatives (economic hedges) used to hedge the MSRs. Net servicing income for 2009 included a $5.3 billion net MSRs valuation gain that was recorded to earnings ($1.5 billion decrease in the fair value of the MSRs offset by a $6.8 billion hedge gain) and for 2008 included a $242 million net MSRs valuation loss ($3.3 billion decrease in the fair value of MSRs offset by a $3.1 billion hedge gain). See the “Risk Management – Mortgage Banking Interest Rate and Market Risk” section of this Report for a detailed discussion of our MSRs risks and hedging approach. Our portfolio of loans serviced for others was $1.88 trillion at December 31, 2009, and $1.86 trillion (including $379 billion acquired from Wachovia) at December 31, 2008. At December 31, 2009, the ratio of MSRs to related loans serviced for others was 0.91%.
     Net gains on mortgage loan origination/sales activities of $6.2 billion for 2009 were up from $1.2 billion a year ago, due to strong business performance during the year as the low interest-rate environment produced higher levels of refinance activity. Residential real estate originations were $420 billion in 2009, compared with $230 billion a year ago. The 1-4 family first mortgage unclosed pipeline was $57 billion at December 31, 2009, and $71 billion at December 31, 2008. For additional detail, see the “Risk Management – Mortgage Banking Interest Rate and Market Risk” section and Note 1 (Summary of Significant Accounting Policies), Note 9 (Mortgage Banking Activities) and Note 16 (Fair Values of Assets and Liabilities) to Financial Statements in this Report.
     Net gains on mortgage loan origination/sales activities include the cost of any additions to the mortgage repurchase reserve as well as adjustments of loans in the warehouse/pipeline for changes in market conditions that affect their value. Mortgage loans are repurchased based on standard representations and warranties and early payment default clauses in mortgage sale contracts. Additions to the mortgage repurchase reserve that were charged against net gains on mortgage loan origination/sales activities during 2009 totaled $927 million ($399 million for 2008), of which $302 million ($165 million for 2008) was related to our estimate of loss content associated with loan sales during the year and $625 million ($234 million for 2008) was for subsequent increases in estimated losses, primarily due to


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increased delinquencies and heightened investor repurchase demands on prior years loan sales within the current environment. To the extent that economic conditions and the housing market do not recover or future investor repurchase demand and appeals success rates differ from past experience, we could continue to have increased demands and increased loss severity on repurchases, causing future additions to the repurchase reserve. For additional information about mortgage loan repurchases, see the “Risk Management – Credit Risk Management Process – Reserve for Mortgage Loan Repurchase Losses” section in this Report. Net write-downs for mortgage loans while they were in the warehouse/pipeline totaled $164 million during 2009 and $584 million during 2008, due to the deterioration in the overall credit market and related secondary market liquidity challenges. Similar losses on the warehouse/pipeline could be possible in the future if housing market values do not recover.
     Income from trading activities was $2.7 billion in 2009, up from $275 million a year ago. This increase was driven by $1.8 billion in investment banking activities in our fixed income, financial products, equities and municipal businesses in large part due to Wachovia’s investment banking business. The majority of the remaining 2009 trading gains were driven by various hedging activities of interest rate and credit exposures using cash and derivative trading instruments.
     Net losses on debt securities available for sale were $127 million in 2009, compared with net gains of $1.0 billion a year ago. Net gains from equity investments were $185 million in 2009, compared with net losses of $757 million in 2008, which included a $334 million gain from our ownership interest in Visa, which completed its initial public offering in March 2008. Net gains and losses on debt and equity securities totaled $58 million, after OTTI write-downs of $1.7 billion, in 2009 and $280 million, after OTTI write-downs of $2.0 billion, in 2008. The 2008 OTTI write-downs included $646 million for securities of Fannie Mae, Freddie Mac and Lehman Brothers.
Noninterest Expense
The increase in noninterest expense to $49.0 billion in 2009 from a year ago was predominantly due to the acquisition of Wachovia, increased staffing and other costs related to problem loan modifications and workouts, special deposit assessments and operating losses. The acquisition of Wachovia resulted in an expanded geographic platform and capabilities in businesses such as retail brokerage, asset management and investment banking. As part of our integration investment to enhance both the short- and long-term benefits to our customers, we added sales and service team members to align Wachovia’s banking stores and other distribution channels with Wells Fargo’s model. Commission and incentive compensation expense increased proportionately more than salaries due to higher 2009 revenues generated by businesses with revenue-based compensation, including the retail securities brokerage business acquired from Wachovia and our mortgage business.
Table 8: Noninterest Expense
 
                         
    Year ended December 31,  
(in millions)   2009     2008     2007  
   
Salaries
  $ 13,757       8,260       7,762  
Commission and incentive compensation
    8,021       2,676       3,284  
Employee benefits
    4,689       2,004       2,322  
Equipment
    2,506       1,357       1,294  
Net occupancy
    3,127       1,619       1,545  
Core deposit and other intangibles
    2,577       186       158  
FDIC and other deposit assessments
    1,849       120       34  
Outside professional services
    1,982       847       899  
Contract services
    1,088       407       448  
Foreclosed assets
    1,071       414       256  
Outside data processing
    1,027       480       482  
Postage, stationery and supplies
    933       556       565  
Operating losses
    875       142       437  
Insurance
    845       725       416  
Telecommunications
    610       321       321  
Travel and entertainment
    575       447       474  
Advertising and promotion
    572       378       412  
Operating leases
    227       389       561  
All other
    2,689       1,270       1,076  
   
Total
  $ 49,020       22,598       22,746  
   
     Noninterest expense included $895 million of Wachovia merger-related integration expense for 2009. Employee benefit expense in 2009 reflected actions related to freezing the Wells Fargo and Wachovia Cash Balance pension plans, which lowered pension cost by approximately $500 million for 2009, and reflected $150 million of additional expense for a 401(k) profit sharing contribution to all eligible team members. See Note 19 (Employee Benefits and Other Expenses) to Financial Statements in this Report for additional information. Salaries and employee benefits also reflected increased staffing levels to handle the higher volume of mortgage loan modifications, which continued to increase throughout 2009, driven by both federal and our own proprietary loan modification programs to help customers stay in their homes. FDIC and other deposit assessments, which included additional assessments related to the FDIC Transaction Account Guarantee Program in 2009, were $1.8 billion in 2009, including a mid-year 2009 FDIC special assessment of $565 million. See the “Risk Management – Liquidity and Funding” section in this Report for additional information. Operating losses included a $261 million reserve for an auction rate securities (ARS) settlement. See Note 8 (Securitizations and Variable Interest Entities) to Financial Statements in this Report for more information.
Income Tax Expense
Our effective income tax rate was 30.3% in 2009, up from 18.5% in 2008. The increase is primarily attributable to higher pre-tax earnings and increased tax expense (with a comparable increase in interest income) associated with purchase accounting for leveraged leases, partially offset by higher levels of tax exempt income, tax credits and the impact of changes in our liability for uncertain tax positions. We recognized a net tax benefit of approximately $150 million and $200 million during the fourth quarter and year-ended December 31, 2009, respectively, primarily related to changes in our uncertain tax positions, due to federal and state income tax settlements.


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     Effective January 1, 2009, we adopted new accounting guidance that changed the way noncontrolling interests are presented in the income statement such that the consolidated income statement includes amounts from both Wells Fargo interests and the noncontrolling interests. As a result, our effective tax rate is calculated by dividing income tax expense by income before income tax expense less the net income from noncontrolling interests.
Operating Segment Results
We define our operating segments by product and customer. As a result of the combination of Wells Fargo and Wachovia, in 2009 management realigned our business segments into three lines of business: Community Banking; Wholesale Banking; and Wealth, Brokerage and Retirement. Our management accounting process measures the performance of the operating segments based on our management structure and
is not necessarily comparable with similar information for other financial services companies. We revised prior period information to reflect the 2009 realignment of our operating segments; however, because the acquisition was completed on December 31, 2008, Wachovia’s results are not included in the income statement or in average balances for periods prior to 2009. The Wachovia acquisition was material to us, and the inclusion of results from Wachovia’s businesses in our 2009 financial statements is a material factor in the changes in our results compared with prior year results. The significant matters affecting our financial results for 2009 have been discussed previously. Table 9 and the following discussion present our results by operating segment. For a more complete description of our operating segments, including additional financial information and the underlying management accounting process, see Note 23 (Operating Segments) to Financial Statements in this Report.


Table 9: Operating Segment Results – Highlights
 
                                                 
                                    Wealth, Brokerage  
    Community Banking     Wholesale Banking     and Retirement  
(in billions)   2009     2008     2009     2008     2009     2008  
   
Revenue
  $ 59.0       33.0       20.3       8.2       11.5       2.7  
Net income
    8.6       2.1       3.9       1.4       1.0       0.2  
   
Average loans
    538.0       285.6       255.4       112.3       45.7       15.2  
Average core deposits
    533.0       252.8       146.6       69.6       114.3       23.1  
   
Community Banking offers a complete line of diversified financial products and services for consumers and small businesses including investment, insurance and trust services in 39 states and D.C., and mortgage and home equity loans in all 50 states and D.C. Wachovia added expanded product capability as well as expanded channels to better serve our customers. Community Banking includes Wells Fargo Financial.
     Revenue growth for 2009 was driven primarily by significant growth in mortgage originations ($420 billion in 2009 compared with $230 billion in prior year) and strong mortgage servicing hedge results (primarily due to hedge carry income arising from the low short-term interest rates) as well as continued success in the cross-sell of Wells Fargo products. Double-digit growth in legacy Wells Fargo core deposits and the ability to retain approximately 60% of Wachovia’s matured higher-cost CDs portfolio in lower-rate CDs and liquid deposits at lower than expected yields also contributed to the growth, mitigated by lower loan interest rates. Noninterest expense increased from 2008 due to the addition of Wachovia, increases in FDIC and other deposit assessments, and credit related expenses, including the addition of resources to handle a higher volume of mortgage loan modifications. To benefit our customers we continued to invest in adding sales and service team members in regional banking as we aligned Wachovia banking stores with the Wells Fargo model. The increases in noninterest expense were mitigated by continued revenue growth and expense management as we stayed on track to meet our merger synergy goals.
Wholesale Banking provides financial solutions to businesses across the United States with annual sales generally in excess of $10 million and to financial institutions globally. Products include middle market banking, corporate banking, CRE, treasury management, asset-based lending, insurance brokerage, foreign exchange, correspondent banking, trade services, specialized lending, equipment finance, corporate trust, investment banking, capital markets, and asset management. Wachovia added expanded product capabilities across the segment, including investment banking, mergers and acquisitions, equity trading, equity structured products, fixed-income sales and trading, and equity and fixed-income research.
     Wholesale Banking earned net income of $3.9 billion and revenue of $20.3 billion in 2009. Results were driven by the performance of our many diverse businesses, such as commercial banking, corporate banking, asset-based lending, asset management, investment banking and international. With over 750 offices nationwide and globally, plus expanded product and distribution capabilities, Wholesale Banking saw gains in 2009 in the number of new middle market companies we lent money to and in the positive experiences those companies had with our bank. Revenue performance also benefited from the recovery of the capital markets. We saw the effect of customers deleveraging, accessing capital markets and delaying investment decisions as loan balances declined throughout the year; however, we continued to originate loans at improved spreads and terms. The provision for loan losses was $3.6 billion, including $1.2 billion of additional provision to build reserves for the wholesale portfolio.


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     Key merger achievements included the conversion of Wachovia offices to the commercial banking model, revenue synergies through our government banking and global financial institutions and trade services businesses and enhancement of our investment banking business across the franchise by combining the best of the two companies’ advisory, financing and securities distribution capabilities.
Wealth, Brokerage and Retirement provides a full range of financial advisory services to clients. Wealth Management provides affluent and high-net-worth clients with a complete range of wealth management solutions including financial planning, private banking, credit, investment management, trust and estate services, business succession planning and charitable services along with bank-based brokerage services through Wells Fargo Advisors and Wells Fargo Investments, LLC. Family Wealth provides family-office services to ultra-high-net-worth clients and is one of the largest multi-family financial office practices in the United States. Retail Brokerage’s financial advisors serve customers’ advisory, brokerage and financial needs as part of one of the largest full-service brokerage firms in the United States. Retirement provides retirement services for individual investors and is a national leader in 401(k) and pension record keeping. The addition of Wachovia in first quarter 2009 added the following businesses to this operating segment: Wells Fargo Advisors (retail brokerage), wealth management, including its family wealth business, and retirement and reinsurance business.
     Wealth, Brokerage and Retirement earned net income of $1.0 billion in 2009. Revenue of $11.5 billion included a mix of brokerage commissions, asset-based fees and net interest income. The equity market recovery helped drive growth in fee income. Deposit balances grew 33% during the year. Net interest income growth was dampened by the exceptionally low short-term interest rate environment. Expenses increased from the prior year due to the addition of Wachovia and the loss reserve for the ARS legal settlement. Expense growth was mitigated by the realization of merger synergies during the year. The wealth, brokerage and retirement businesses have solidified partnerships throughout Wells Fargo, working with Community Banking and Wholesale Banking to provide financial solutions for clients.
Earnings Performance – Comparison of 2008 with 2007
Wells Fargo net income in 2008 was $2.7 billion ($0.70 per common share), compared with $8.1 billion ($2.38 per common share) in 2007. Results for 2008 included the impact of our $8.1 billion (pre tax) credit reserve build, $2.0 billion (pre tax) of OTTI and $124 million (pre tax) of merger-related expenses. Results for 2007 included the impact of our $1.4 billion (pre tax) credit reserve build and $203 million (pre tax) of Visa litigation expenses. Despite the challenging environment in 2008, we achieved both top line revenue growth and positive operating leverage (revenue growth of 6%; expense decline of 1%).
     Revenue, the sum of net interest income and noninterest income, grew 6% to $41.9 billion in 2008 from $39.5 billion in 2007. The breadth and depth of our business model resulted in very strong and balanced growth in loans, deposits and fee-based products. We achieved positive operating leverage (revenue growth of 6%; expense decline of 1%), the best among large bank peers. Wells Fargo net income for 2008 of $2.7 billion included an $8.1 billion (pre tax) credit reserve build, $2.0 billion (pre tax) of OTTI and $124 million (pre tax) of merger-related expenses. Diluted earnings per share of $0.70 for 2008 included credit reserve build ($1.51 per share) and OTTI ($0.37 per share). Industry-leading annual results included the highest growth in pre-tax pre-provision earnings (up 15%), highest net interest margin (4.83%), return on average common stockholders’ equity (ROE), return on average total assets (ROA) and highest total shareholder return among large bank peers (up 2%).
     Net interest income on a taxable-equivalent basis was $25.4 billion in 2008, up from $21.1 billion in 2007, reflecting strong loan growth, disciplined deposit pricing and lower market funding costs. Average earning assets grew 17% from 2007. Our net interest margin was 4.83% for 2008, up from 4.74% in 2007, primarily due to the benefit of lower funding costs as market rates declined.
     Noninterest income decreased 10% to $16.7 billion in 2008 from $18.5 billion in 2007. Card fees were up 9% from 2007, due to continued growth in new accounts and higher credit and debit card transaction volume. Insurance revenue was up 20%, due to customer growth, higher crop insurance revenue and the fourth quarter 2007 acquisition of ABD Insurance. However, trust and investment fees decreased 7% and other fees decreased 9%, due to depressed market conditions. Operating lease income decreased 39% from 2007, due to continued softening in the auto market, reflecting tightened credit standards. Noninterest income included $280 million in net gains on debt and equity securities, including $2.0 billion of OTTI write-downs.
     Noninterest expense was $22.6 billion in 2008, down 1% from $22.7 billion in 2007. We continued to invest in new stores and additional sales and service-related team members. Operating lease expense decreased 31% to $389 million in 2008 from $561 million in 2007, as we stopped originating new indirect auto leases in third quarter 2008. Insurance expense increased to $725 million in 2008 from $416 million in 2007 due to the fourth quarter 2007 acquisition of ABD Insurance, additional insurance reserves at our captive mortgage reinsurance operation as well as higher commissions on increased sales volume.


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Balance Sheet Analysis
 

During 2009, we continued to grow core deposits even though loan demand remained soft. Deposits increased $42.6 billion in 2009 from a year ago, with $35.3 billion of the increase in core deposits. Growth in deposits was due to the increase in the U.S. money supply, a preference on the part of consumers and businesses to maintain liquidity, and the Company’s successful efforts to attract and retain deposits from new and existing customers. Loans decreased $82.1 billion from a year ago, before considering the impact of the $3.5 billion increase in the allowance for loan losses. Commercial loan demand was soft during 2009 as businesses reduced investing in inventory, plant and equipment. Likewise, retail customer borrowing declined as consumers limited their spending. Excess deposits were therefore invested in liquid assets, particularly in the latter half of 2009. Our rate mix of core deposits improved with noninterest-bearing, interest-bearing checking, and market rate and other lower cost savings deposits increasing to 83% of total core deposits at December 31, 2009, from 71% a year ago.
     See the following sections for more discussion and details about the major components of our balance sheet. Capital is discussed in the “Capital Management” section of this Report.
Securities Available for Sale
Securities available for sale consist of both debt and marketable equity securities. We hold debt securities available for sale primarily for liquidity, interest rate risk management and long-term yield enhancement. Accordingly, this portfolio consists primarily of very liquid, high-quality federal agency debt and privately issued MBS. We held $167.1 billion of debt securities available for sale, with net unrealized gains of $4.8 billion, at December 31, 2009, compared with $145.4 billion, with net unrealized losses of $9.8 billion a year ago. We also held $5.6 billion of marketable equity securities available for sale, with net unrealized gains of $843 million, at December 31, 2009, compared with $6.1 billion, with net unrealized losses of $160 million a year ago. The total net unrealized gains on securities available for sale were $5.6 billion at December 31, 2009, up from net unrealized losses of $9.9 billion at December 31, 2008, due to general decline in long-term yields and narrowing of credit spreads. With the application of purchase accounting at December 31, 2008, for the Wachovia portfolio, the net unrealized losses in cumulative other comprehensive income (OCI), a component of common equity, related entirely to the legacy Wells Fargo portfolio at that date.
     We analyze securities for OTTI on a quarterly basis, or more often if a potential loss-triggering event occurs. Of the $1.7 billion OTTI write-downs in 2009, $1.0 billion related to debt securities and $655 million to equity securities. For a discussion of our OTTI accounting policies and underlying considerations and analysis see Note 1 (Summary of Significant Accounting Policies – Accounting Standards Adopted in 2009 – FASB ASC 320-10 and – Securities) and Note 5 (Securities Available for Sale) to Financial Statements in this Report.
     At December 31, 2009, we had approximately $8 billion of investments in securities, primarily municipal bonds, which are guaranteed against loss by bond insurers. These securities are almost exclusively investment grade and were generally underwritten in accordance with our own investment standards prior to the determination to purchase, without relying on the bond insurer’s guarantee in making the investment decision. These securities will continue to be monitored as part of our on-going impairment analysis of our securities available for sale, but are expected to perform, even if the rating agencies reduce the credit rating of the bond insurers.
     The weighted-average expected maturity of debt securities available for sale was 5.6 years at December 31, 2009. Since 73% of this portfolio is MBS, the expected remaining maturity may differ from contractual maturity because borrowers generally have the right to prepay obligations before the underlying mortgages mature. The estimated effect of a 200 basis point increase or decrease in interest rates on the fair value and the expected remaining maturity of the MBS available for sale are shown in Table 10.
Table 10: Mortgage-Backed Securities
 
                         
            Net     Expected  
    Fair     unrealized     remaining  
(in billions)   value     gain (loss)     maturity  
   
At December 31, 2009
  $ 122.4       2.5       4.0  
At December 31, 2009,
assuming a 200 basis point:
                       
Increase in interest rates
    113.0       (6.9 )     5.4  
Decrease in interest rates
    128.8       8.9       2.6  
   
     See Note 5 (Securities Available for Sale) to Financial Statements in this Report for securities available for sale by security type.


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Loan Portfolio
Loans decreased during 2009 for nearly all loan types as loan demand softened in response to economic conditions.
Table 11 provides detail by loan product, and by PCI and all other loans.


Table 11: Loan Portfolios
   
                                                 
    December 31,  
    2009     2008  
            All                     All        
    PCI     other             PCI     other        
(in millions)   loans     loans     Total     loans(1)     loans     Total  
   
Commercial and commercial real estate:
                                               
Commercial
  $ 1,911       156,441       158,352       4,580       197,889       202,469  
Real estate mortgage
    5,631       99,167       104,798       7,762       95,346       103,108  
Real estate construction
    3,713       25,994       29,707       4,503       30,173       34,676  
Lease financing
          14,210       14,210             15,829       15,829  
         
Total commercial and commercial real estate
    11,255       295,812       307,067       16,845       339,237       356,082  
         
Consumer:
                                               
Real estate 1-4 family first mortgage
    38,386       191,150       229,536       39,214       208,680       247,894  
Real estate 1-4 family junior lien mortgage
    331       103,377       103,708       728       109,436       110,164  
Credit card
          24,003       24,003             23,555       23,555  
Other revolving credit and installment
          89,058       89,058       151       93,102       93,253  
         
Total consumer
    38,717       407,588       446,305       40,093       434,773       474,866  
         
Foreign
    1,733       27,665       29,398       1,859       32,023       33,882  
         
Total loans
  $ 51,705       731,065       782,770       58,797       806,033       864,830  
   
(1) In 2009, we refined certain of our preliminary purchase accounting adjustments based on additional information as of December 31, 2008. These refinements resulted in increasing the PCI loans carrying value at December 31, 2008, to $59.2 billion. The table above has not been updated as of December 31, 2008, to reflect these refinements.
     A discussion of average loan balances and a comparative detail of average loan balances is included in Table 5 under “Earnings Performance – Net Interest Income” earlier in this Report; year-end balances and other loan related information are in Note 6 (Loans and Allowance for Credit Losses) to Financial Statements in this Report.
     During 2009, we further refined our preliminary purchase accounting adjustments related to loans from the Wachovia acquisition. These refinements, which increased the December 31, 2008, balance of PCI loans to $59.2 billion, were based on additional information as of December 31, 2008, that became available after the merger date, as permitted under purchase accounting.
     The most significant refinements for the PCI loans were as follows:
  Net increase to the unpaid principal balance of $2.3 billion based on additional loans considered in the scope of PCI loans, consisting of a $1.9 billion decrease in commercial, CRE, and foreign loans and a $4.2 billion increase in consumer loans ($2.7 billion of which related to Pick-a-Pay loans).
  Net increase to the nonaccretable difference of $3.7 billion, due to the addition of more loans and further refinement of the loss estimates. The net increase was created by a $299 million increase in commercial, CRE, and foreign loans and a $3.4 billion increase in consumer loans ($2.2 billion of which related to Pick-a-Pay loans).
 
  Net increase to the accretable yield of a $1.8 billion interest rate mark premium, primarily for consumer loans.
     The nonaccretable difference was established in purchase accounting for PCI loans to absorb losses expected at that time on those loans. Amounts absorbed by the nonaccretable difference do not affect the income statement or the allowance for credit losses. Table 12 provides an analysis of 2009 changes in the nonaccretable difference related to principal that is not expected to be collected.


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Table 12: Changes in Nonaccretable Difference for PCI Loans
   
                                 
    Commercial,                      
    CRE and             Other        
(in millions)   foreign     Pick-a-Pay     consumer     Total  
   
Balance at December 31, 2008, with refinements
  $ (10,410 )     (26,485 )     (4,069 )     (40,964 )
Release of nonaccretable difference due to:
                               
Loans resolved by payment in full (1)
    330                   330  
Loans resolved by sales to third parties (2)
    86             85       171  
Loans with improving cash flows reclassified to accretable yield (3)
    138       27       276       441  
Use of nonaccretable difference due to:
                               
Losses from loan resolutions and write-downs (4)
    4,853       10,218       2,086       17,157  
   
Balance at December 31, 2009
  $ (5,003 )     (16,240 )     (1,622 )     (22,865 )
   
(1) Release of the nonaccretable difference for payments in full increases interest income in the period of payment. Pick-a-Pay and other consumer PCI loans do not reflect nonaccretable difference releases due to accounting for those loans on a pooled basis.
(2) Release of the nonaccretable difference as a result of sales to third parties increases noninterest income in the period of the sale.
(3) Reclassification of nonaccretable difference for probable and significant increased cash flow estimates to the accretable yield will result in increasing income and thus the rate of return over the remaining life of the PCI loan or pool of loans.
(4) Write-downs to net realizable value of PCI loans are charged to the nonaccretable difference when severe delinquency (normally 180 days) or other indications of severe borrower financial stress exist that indicate there will be a loss upon final resolution of the loan.
     For further detail on PCI loans, see Note 1 (Summary of Significant Accounting Policies – Loans) and Note 6 (Loans and Allowance for Credit Losses) to Financial Statements in this Report.
     Table 13 shows contractual loan maturities for selected loan categories and sensitivities of those loans to changes in interest rates.


Table 13: Maturities for Selected Loan Categories
   
                                                                 
    December 31,  
    2009     2008  
            After                             After              
    Within     one year     After             Within     one year     After        
    one     through     five             one     through     five        
(in millions)   year     five years     years     Total     year     five years     years     Total  
   
Selected loan maturities:
                                                               
Commercial
  $ 44,919       91,951       21,482       158,352       59,246       109,764       33,459       202,469  
Real estate mortgage
    29,982       44,312       30,504       104,798       23,880       45,565       33,663       103,108  
Real estate construction
    18,719       10,055       933       29,707       19,270       13,942       1,464       34,676  
Foreign
    21,266       5,715       2,417       29,398       23,605       7,288       2,989       33,882  
         
Total selected loans
  $ 114,886       152,033       55,336       322,255       126,001       176,559       71,575       374,135  
         
Distribution of loans due after one year to changes in interest rates:
                                                               
Loans at fixed interest rates
          $ 26,373       18,921                       24,766       23,628          
Loans at floating/variable interest rates
            125,660       36,415                       151,793       47,947          
         
Total selected loans
          $ 152,033       55,336                       176,559       71,575          
   

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Deposits
Deposits totaled $824.0 billion at December 31, 2009, compared with $781.4 billion at December 31, 2008. Table 14 provides additional detail. Comparative detail of average deposit balances is provided in Table 5 under “Earnings Performance – Net Interest Income” earlier in this Report.
Total core deposits were $780.7 billion at December 31, 2009, up $35.3 billion from $745.4 billion at December 31, 2008. High-rate CDs of $109 billion at Wachovia matured in 2009 and were replaced by $62 billion in checking, savings or lower-cost CDs. We continued to gain new deposit customers and deepen our relationships with existing customers.


Table 14: Deposits
   
                                         
    December 31,        
            % of             % of        
            total             total     %  
(in millions)   2009     deposits     2008     deposits     Change  
   
Noninterest-bearing
  $ 181,356       22 %   $ 150,837       19 %     20  
Interest-bearing checking
    63,225       8       72,828       10       (13 )
Market rate and other savings
    402,448       49       306,255       39       31  
Savings certificates
    100,857       12       182,043       23       (45 )
Foreign deposits (1)
    32,851       4       33,469       4       (2 )
                 
Core deposits
    780,737       95       745,432       95       5  
Other time deposits
    16,142       2       28,498       4       (43 )
Other foreign deposits
    27,139       3       7,472       1       263  
                 
Total deposits
  $ 824,018       100 %   $ 781,402       100 %     5  
   
(1) Reflects Eurodollar sweep balances included in core deposits.
Off-Balance Sheet Arrangements
 
In the ordinary course of business, we engage in financial transactions that are not recorded in the balance sheet, or may be recorded in the balance sheet in amounts that are different from the full contract or notional amount of the transaction. These transactions are designed to (1) meet the financial needs of customers, (2) manage our credit, market or liquidity risks, (3) diversify our funding sources, and/or (4) optimize capital. These are described below as off-balance sheet transactions with unconsolidated entities, and guarantees and certain contingent arrangements. Beginning in 2010, the accounting rules for off-balance sheet transactions with unconsolidated entities changed. We discuss the impact of those changes in this section and in the “Current Accounting Developments” section in this Report.
Off-Balance Sheet Transactions with Unconsolidated Entities
In the normal course of business, we enter into various types of on- and off-balance sheet transactions with special purpose entities (SPEs), which are corporations, trusts or partnerships that are established for a limited purpose. Historically, the majority of SPEs were formed in connection with securitization transactions. For more information on securitizations, including sales proceeds and cash flows from securitizations, see Note 8 (Securitizations and Variable Interest Entities) to Financial Statements in this Report.
     Table 15 presents our significant continuing involvement with qualifying special purpose entities (QSPEs) and unconsolidated variable interest entities (VIEs) as of December 31, 2009 and 2008.
     Table 15 does not include SPEs and unconsolidated VIEs where our only involvement is in the form of (1) investments in trading securities, (2) investments in securities available for sale or loans issued by entities sponsored by third parties, (3) derivative counterparty for certain derivatives such as interest rate swaps or cross currency swaps that have customary terms or (4) administrative or trustee services. Also not included are investments accounted for in accordance with the American Institute of Certified Public Accountants (AICPA) Investment Company Audit Guide, investments accounted for under the cost method and investments accounted for under the equity method.
     In Table 15, “Total entity assets” represents the total assets of unconsolidated SPEs. “Carrying value” is the amount in our consolidated balance sheet related to our involvement with the unconsolidated SPEs. “Maximum exposure to loss” from our involvement with off-balance sheet entities, which is a required disclosure under generally accepted accounting principles (GAAP), is determined as the carrying value of our involvement with off-balance sheet (unconsolidated) VIEs plus the remaining undrawn liquidity and lending commitments, the notional amount of net written derivative contracts, and generally the notional amount of, or stressed loss estimate for, other commitments and guarantees. It represents estimated loss that would be incurred under severe, hypothetical circumstances, for which we believe the possibility is extremely remote, such as where the value of our interests and any associated collateral declines to zero, without any consideration of recovery or offset from any economic hedges. Accordingly, this required disclosure is not an indication of expected loss.


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Table 15: Qualifying Special Purpose Entities and Unconsolidated Variable Interest Entities
   
                                                 
    December 31,  
    2009     2008  
    Total             Maximum     Total             Maximum  
    entity     Carrying     exposure     entity     Carrying     exposure  
(in millions)   assets     value     to loss     assets     value     to loss  
   
QSPEs
                                               
Residential mortgage loan securitizations (1):
                                               
Conforming and GNMA (2)
  $ 1,150,515       18,926       24,362       1,008,824       21,496       24,619  
Other/nonconforming
    251,850       13,222       13,469       313,447       9,483       9,909  
Commercial mortgage securitizations (1)
    345,561       4,945       5,222       320,299       2,894       2,894  
Auto loan securitizations
    2,285       158       158       4,133       115       115  
Student loan securitizations
    2,637       173       173       2,765       133       133  
Other
    8,391       61       135       11,877       71       1,576  
         
Total QSPEs
  $ 1,761,239       37,485       43,519       1,661,345       34,192       39,246  
         
Unconsolidated VIEs
                                               
Collateralized debt obligations (1)
  $ 55,899       14,734       16,607       54,294       15,133       20,443  
Wachovia administered ABCP (3) conduit
    5,160             5,263       10,767             15,824  
Asset-based finance structures
    17,467       9,867       11,227       11,614       9,096       9,482  
Tax credit structures
    27,537       4,006       4,663       22,882       3,850       4,926  
Collateralized loan obligations
    23,830       3,666       4,239       23,339       3,326       3,881  
Investment funds
    84,642       1,702       2,920       105,808       3,543       3,690  
Credit-linked note structures
    1,755       1,025       1,754       12,993       1,522       2,303  
Money market funds (4)
                      13,307       10       51  
Other
    8,470       2,981       5,048       1,832       3,806       4,699  
         
Total unconsolidated VIEs
  $ 224,760       37,981       51,721       256,836       40,286       65,299  
   
(1) Certain December 31, 2008, balances have been revised to reflect additionally identified residential mortgage QSPEs and collateralized debt obligation VIEs, as well as to reflect removal of commercial mortgage asset transfers that were subsequently determined not to be transfers to QSPEs.
(2) Conforming residential mortgage loan securitizations are those that are guaranteed by government-sponsored entities (GSEs), including Government National Mortgage Association (GNMA). We have concluded that conforming mortgages are not subject to consolidation under Accounting Standards Update (ASU) 2009-16 (FAS 166) and ASU 2009-17 (FAS 167). See the “Current Accounting Developments” section in this Report for our estimate of the nonconforming mortgages that may potentially be consolidated under this guidance. The maximum exposure to loss as of December 31, 2008, has been revised to conform with the year-end 2009 basis of determination.
(3) Asset-backed commercial paper.
(4) Includes only those money market mutual funds to which the Company had outstanding contractual support agreements in place. The December 31, 2008, balance has been revised to exclude certain funds because the support arrangements had lapsed or settled and we were not obligated to support such funds.
     The FASB issued new guidance for accounting for off-balance sheet transactions with QSPEs and VIEs effective January 1, 2010, that replaces the current consolidation model for VIEs. For further information and the impact of the application of this guidance, see the “Current Accounting Developments” section in this Report.
     Table 16 presents our involvement with QSPEs and unconsolidated VIEs as of December 31, 2009, segregated between those entities we sponsored or to which we transferred assets and those sponsored by third parties. Additionally, we have further segregated the QSPEs and unconsolidated VIEs over which we have power in accordance with the consolidated accounting guidance in ASU 2009-17 (FAS 167) and those we do not.
     We consider sponsorship to include transactions with QSPEs and unconsolidated VIEs where we solely or materially participated in the initial design or structuring of the entity or the marketing of the transaction to investors. If we sold assets, typically securities or loans, to a QSPE or unconsolidated VIE we are considered the transferor. Third party transactions are those transactions where we have ongoing involvement, but did not sponsor or transfer assets to a QSPE or unconsolidated VIE.
     We expect to consolidate the VIEs or former QSPEs where we have power, regardless of whether or not we transferred assets to or sponsored the VIE or QSPE. Based upon the transfers accounting guidance in ASU 2009-16 (FAS 166) and the consolidated accounting guidance in ASU 2009-17 (FAS 167) regarding the nature and type of continuing involvement that could potentially be significant and our related assessment of whether or not we have power, it may be necessary to make changes in our future disclosures. See additional detail regarding the expected impact to the Company’s balance sheet in the “Current Accounting Developments” section of this Report.


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Table 16: Qualifying Special Purpose Entities and Unconsolidated Variable Interest Entities Total Entity Assets by Type of Involvement
 
                                                         
    December 31, 2009  
    Wells Fargo as sponsor or transferor     Third party sponsor        
    Without     With             Without     With              
(in millions)   power     power     Subtotal     power     power     Subtotal     Total  
   
QSPEs
                                                       
Residential mortgage loan securitizations:
                                                       
Conforming and GNMA (1)
  $ 1,012,312             1,012,312       138,203             138,203       1,150,515  
Other/nonconforming
    91,789       19,721       111,510       138,262       2,078       140,340       251,850  
Commercial mortgage securitizations
    199,847             199,847       145,714             145,714       345,561  
Other
    10,946       2,367       13,313                         13,313  
   
Total QSPEs
  $ 1,314,894       22,088       1,336,982       422,179       2,078       424,257       1,761,239  
   
Unconsolidated VIEs
                                                       
Collateralized debt obligations
  $ 48,350             48,350       7,549             7,549       55,899  
Wachovia administered ABCP conduit
          5,160       5,160                         5,160  
Asset-based lending structures
    2,121             2,121       15,346             15,346       17,467  
Tax credit structures
    27,533       4       27,537                         27,537  
Collateralized loan obligations
    23,830             23,830                         23,830  
Investment funds (2)
    22,479             22,479       62,163             62,163       84,642  
Other
    10,225             10,225                         10,225  
   
Total unconsolidated VIEs
  $ 134,538       5,164       139,702       85,058             85,058       224,760  
   
(1)   We have concluded that conforming mortgages are not subject to consolidation under ASU 2009-16 (FAS 166) and ASU 2009-17 (FAS 167). See the “Current Accounting Developments” section in this Report for our estimate of the nonconforming mortgages that may potentially be consolidated under this guidance.
(2)   Includes investment funds that are subject to deferral from application of ASU 2009-17 (FAS 167).
Guarantees and Certain Contingent Arrangements
Guarantees are contracts that contingently require us to make payments to a guaranteed party based on an event or a change in an underlying asset, liability, rate or index. Guarantees are generally in the form of standby letters of credit, securities lending and other indemnifications, liquidity agreements, written put options, recourse obligations, residual
value guarantees and contingent consideration. Table 17 presents the carrying value, maximum exposure to loss on our guarantees and the amount with a higher risk of performance.
     For more information on guarantees and certain contingent arrangements, see Note 14 (Guarantees and Legal Actions) to Financial Statements in this Report.


Table 17: Guarantees and Certain Contingent Arrangements
 
                                                 
    December 31,  
    2009     2008  
            Maximum     Non-             Maximum     Non-  
    Carrying     exposure     investment     Carrying     exposure     investment  
(in millions)   value     to loss     grade     value     to loss     grade  
   
Standby letters of credit
  $ 148       49,997       21,112       130       47,191       17,293  
Securities lending and other indemnifications
    51       20,002       2,512             30,120       1,907  
Liquidity agreements (1)
    66       7,744             30       17,602        
Written put options (1)(2)
    803       8,392       3,674       1,376       10,182       5,314  
Loans sold with recourse
    96       5,049       2,400       53       6,126       2,038  
Residual value guarantees
    8       197                   1,121        
Contingent consideration
    11       145       102       11       187        
Other guarantees
          55       2             38        
         
Total guarantees
  $ 1,183       91,581       29,802       1,600       112,567       26,552  
   
(1)   Certain of these agreements included in this table are related to off-balance sheet entities and, accordingly, are also disclosed in Note 8 (Securitizations and Variable Interest Entities) to Financial Statements in this Report.
(2)   Written put options, which are in the form of derivatives, are also included in the derivative disclosures in Note 15 (Derivatives) to Financial Statements in this Report.

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Contractual Obligations
In addition to the contractual commitments and arrangements previously described, which, depending on the nature of the obligation, may or may not require use of our resources, we enter into other contractual obligations in the ordinary course of business, including debt issuances for the funding of operations and leases for premises and equipment.
     Table 18 summarizes these contractual obligations as of December 31, 2009, excluding obligations for short-term borrowing arrangements and pension and postretirement benefit plans. More information on those obligations is in Note 12 (Short-Term Borrowings) and Note 19 (Employee Benefits and Other Expenses) to Financial Statements in this Report.


Table 18: Contractual Obligations
 
                                                         
    Note(s) to                                      
    Financial     Less than     1-3     3-5     More than     Indeterminate        
(in millions)   Statements     1 year     years     years     5 years     maturity (1)   Total  
   
Contractual payments by period:
                                                       
Deposits
    11     $ 126,061       30,303       17,579       3,006       647,069       824,018  
Long-term debt (2)
    7,13       40,495       64,726       30,779       67,861             203,861  
Operating leases
    7       1,217       2,055       1,588       3,503             8,363  
Unrecognized tax obligations
    20       49                         2,253       2,302  
Purchase obligations (3)
            400       364       56       6             826  
   
Total contractual obligations
          $ 168,222       97,448       50,002       74,376       649,322       1,039,370  
   
(1)   Includes interest-bearing and noninterest-bearing checking, and market rate and other savings accounts.
(2)   Includes obligations under capital leases of $77 million.
(3)   Represents agreements to purchase goods or services.
     We are subject to the income tax laws of the U.S., its states and municipalities, and those of the foreign jurisdictions in which we operate. We have various unrecognized tax obligations related to these operations that may require future cash tax payments to various taxing authorities. Because of their uncertain nature, the expected timing and amounts of these payments generally are not reasonably estimable or determinable. We attempt to estimate the amount payable in the next 12 months based on the status of our tax examinations and settlement discussions. See Note 20 (Income Taxes) to Financial Statements in this Report for more information.
     We enter into derivatives, which create contractual obligations, as part of our interest rate risk management process for our customers or for other trading activities. See the “Risk Management – Asset/Liability and Market Risk Management” section and Note 15 (Derivatives) to Financial Statements in this Report for more information.
Transactions with Related Parties
The Related Party Disclosures topic of the Codification requires disclosure of material related party transactions, other than compensation arrangements, expense allowances and other similar items in the ordinary course of business. We had no related party transactions required to be reported for the years ended December 31, 2009, 2008 and 2007.


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Risk Management
 

Credit Risk Management Process
Our credit risk management process is governed centrally, but provides for decentralized management and accountability by our lines of business. Our overall credit process includes comprehensive credit policies, judgmental or statistical credit underwriting, frequent and detailed risk measurement and modeling, extensive credit training programs, and a continual loan review and audit process. In addition, regulatory examiners review and perform detailed tests of our credit underwriting, loan administration and allowance processes.
     We continually evaluate and modify our credit policies to address unacceptable levels of risk as they are identified. Accordingly, from time to time, we designate certain portfolios and loan products as non-strategic or high risk to limit or cease their continued origination and to specially monitor their loss potential. As an example, during the current weak economic cycle we have significantly tightened bank-selected reduced documentation requirements as a precautionary measure and to substantially reduce third party originations due to the negative loss trends experienced in these channels.
     A key to our credit risk management is utilizing a well controlled underwriting process, which we believe is appropriate for the needs of our customers as well as investors who purchase the loans or securities collateralized by the loans. We only approve applications and make loans if we believe the customer has the ability to repay the loan or line of credit according to all its terms. Our underwriting of loans collateralized by residential real property utilizes appraisals or automated valuation models (AVMs) to support property values. AVMs are computer-based tools used to estimate the market value of homes. AVMs are a lower-cost alternative to appraisals and support valuations of large numbers of properties in a short period of time. AVMs estimate property values based on processing large volumes of market data including market comparables and price trends for local market areas. The primary risk associated with the use of AVMs is that the value of an individual property may vary significantly from the average for the market area. We have processes to periodically validate AVMs and specific risk management guidelines addressing the circumstances when AVMs may be used. Generally, AVMs are only used in underwriting to support property values on loan originations where the loan amount is under $250,000. For underwriting residential property loans of $250,000 or more we require property visitation appraisals by qualified independent appraisers.
     Measuring and monitoring our credit risk is an ongoing process that tracks delinquencies, collateral values, economic trends by geographic areas, loan-level risk grading for certain portfolios (typically commercial) and other indications of risk to loss. Our credit risk monitoring process is designed to enable early identification of developing risk to loss and to support our determination of an adequate allowance for loan losses. During the current economic cycle our monitoring and
resolution efforts have focused on loan portfolios exhibiting the highest levels of risk including mortgage loans supported by real estate (both consumer and commercial), junior lien, commercial, credit card and subprime portfolios. The following analysis reviews each of these loan portfolios and their relevant concentrations and credit quality performance metrics in greater detail.
     Table 19 identifies our non-strategic and liquidating consumer portfolios as of December 31, 2009 and 2008.
Table 19: Non-Strategic and Liquidating Consumer Portfolios
 
                 
    Outstanding balance  
    December 31,  
(in billions)   2009     2008  
   
Pick-a-Pay mortgage
  $ 85.2       95.3  
Liquidating home equity
    8.4       10.3  
Legacy Wells Fargo Financial indirect auto
    11.3       18.2  
   
Total non-strategic and liquidating
consumer portfolios
  $ 104.9       123.8  
   
COMMERCIAL REAL ESTATE (CRE) The CRE portfolio consists of both real estate mortgages and construction loans. The combined loans outstanding totaled $134.5 billion at December 31, 2009, which represented 17% of total loans. Construction loans totaled $29.7 billion at December 31, 2009, or 4% of total loans. Permanent CRE loans totaled $104.8 billion at December 31, 2009, or 13% of total loans. The portfolio is diversified both geographically and by product type. The largest geographic concentrations are found in California and Florida, which represented 22% and 11% of the total CRE portfolio, respectively. By product type, the largest concentrations are office buildings and industrial/warehouse, which represented 23% and 11% of the portfolio, respectively.
     At legacy Wells Fargo our underwriting of CRE loans has been focused primarily on cash flows and creditworthiness, not solely collateral valuations. Our legacy Wells Fargo management team is overseeing and managing the CRE loans acquired from Wachovia. At merger closing, we determined that $19.3 billion of Wachovia CRE loans needed to be accounted for as PCI loans and we recorded an impairment write-down of $7.0 billion in our purchase accounting, which represented a 37% write-down of the PCI loans included in the Wachovia CRE loan portfolio. To identify and manage newly emerging problem CRE loans we employ a high level of surveillance and regular customer interaction to understand and manage the risks associated with these assets, including regular loan reviews and appraisal updates. As issues are identified, management is engaged and dedicated workout groups are in place to manage problem assets. At year-end 2009 the remaining balance of PCI CRE loans totaled $9.3 billion. This balance reflects the refinement of the impairment analysis and reduction from loan resolutions and write-downs.


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     Table 20 summarizes CRE loans by state and product type with the related nonaccrual totals. At December 31, 2009, the highest concentration of non-PCI CRE loans by state was $27.8 billion in California, about double the next largest state concentration, and the related nonaccrual loans totaled about $2.0 billion, or 7.2%. Office buildings, at $28.7 billion of non-PCI
loans, were the largest property type concentration, nearly double the next largest, and the related nonaccrual loans totaled $1.1 billion, or 3.7%. Of CRE mortgage loans (excluding construction loans), 43% related to owner-occupied properties at December 31, 2009. In aggregate, nonaccrual loans totaled 5.6% of the non-PCI outstanding balance at December 31, 2009.


Table 20: CRE Loans by State and Property Type
 
                                                         
  December 31, 2009  
  Real estate mortgage     Real estate construction     Total     % of  
  Nonaccrual     Outstanding     Nonaccrual     Outstanding     Nonaccrual     Outstanding     total  
(in millions)   loans     balance  (1)   loans     balance  (1)   loans     balance  (1)   loans  
   
By state:
                                                       
PCI loans:
                                                       
Florida
  $       1,022             722             1,744       * %
California
          1,116             150             1,266       *  
North Carolina
          283             485             768       *  
Georgia
          385             364             749       *  
Virginia
          396             303             699       *  
Other
          2,429             1,689             4,118  (2)     1  
   
Total PCI loans
  $       5,631             3,713             9,344       1 %
   
All other loans:
                                                       
California
  $ 1,141       23,214       865       4,549       2,006       27,763       4
Florida
    626       10,999       311       2,127       937       13,126       2  
Texas
    231       6,643       250       2,509       481       9,152       1  
North Carolina
    205       5,468       135       1,594       340       7,062       1  
Georgia
    225       4,364       109       952       334       5,316       1  
Virginia
    65       3,499       105       1,555       170       5,054       1  
New York
    54       3,860       48       1,187       102       5,047       1  
Arizona
    187       3,958       171       1,045       358       5,003       1  
New Jersey
    66       3,028       23       644       89       3,672       *  
Colorado
    78       2,248       110       879       188       3,127       *  
Other
    1,106       31,886       898       8,953       2,004       40,839  (3)     5  
   
Total all other loans
  $ 3,984       99,167       3,025       25,994       7,009       125,161       16 %
   
Total
  $ 3,984       104,798       3,025       29,707       7,009       134,505       17 %
   
By property:
                                                       
PCI loans:
                                                       
Apartments
  $       1,141             969             2,110       * %
Office buildings
          1,650             192             1,842       *  
1-4 family land
          531             815             1,346       *  
1-4 family structure
          154             635             789       *  
Land (excluding 1-4 family)
          553             206             759       *  
Other
          1,602             896             2,498       *  
   
Total PCI loans
  $       5,631             3,713             9,344       1 %
   
All other loans:
                                                       
Office buildings
  $ 904       25,542       171       3,151       1,075       28,693       4
Industrial/warehouse
    527       13,925       17       999       544       14,924       2  
Real estate – other
    564       13,791       88       877       652       14,668       2  
Apartments
    259       7,670       262       4,570       521       12,240       2  
Retail (excluding shopping center)
    620       10,788       85       996       705       11,784       2  
Land (excluding 1-4 family)
    148       2,941       639       6,264       787       9,205       1  
Shopping center
    172       6,070       242       2,240       414       8,310       1  
Hotel/motel
    208       5,214       123       1,162       331       6,376       1  
1-4 family land
    164       718       677       2,670       841       3,388       *  
1-4 family structure
    90       1,191       659       2,073       749       3,264       *  
Other
    328       11,317       62       992       390       12,309       2  
   
Total all other loans
  $ 3,984       99,167       3,025       25,994       7,009       125,161  (4)     16 %
   
Total
  $ 3,984       104,798       3,025       29,707       7,009       134,505       17 %
   
*   Less than 1%.
(1)   For PCI loans amounts represent carrying value.
(2)   Includes 38 states; no state had loans in excess of $605 million at December 31, 2009.
(3)   Includes 40 states; no state had loans in excess of $3.0 billion at December 31, 2009.
(4)   Includes $46.6 billion of loans to owner-occupants where 51% or more of the property is used in the conduct of their business.

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COMMERCIAL LOANS AND LEASE FINANCING For purposes of portfolio risk management, we aggregate commercial loans and lease financing according to market segmentation and standard industry codes. Table 21 summarizes commercial loans and lease financing by industry with the related nonaccrual totals. This portfolio has experienced less credit deterioration than our CRE portfolio as evidenced by its lower nonaccrual rate of 2.6% compared with 5.2% for the CRE portfolios. We believe this portfolio is well underwritten and is diverse in its risk with relatively even concentrations across several industries.
Table 21: Commercial Loans and Lease Financing by Industry
 
                         
    December 31, 2009  
                    % of  
  Nonaccrual     Outstanding     total  
(in millions)   loans     balance  (1)   loans  
   
PCI loans:
                       
Real estate investment trust
  $       351       * %
Media
          314       *  
Investors
          140       *  
Residential construction
          122       *  
Insurance
          118       *  
Leisure
          110       *  
Other
          756  (2)     *  
   
Total PCI loans
  $       1,911       * %
   
All other loans:
                       
Financial institutions
  $ 496       11,111       1
Oil and gas
    202       8,464       1  
Healthcare
    88       8,397       1  
Cyclical retailers
    77       8,316       1  
Industrial equipment
    71       8,188       1  
Food and beverage
    119       7,524       1  
Real estate – other
    99       6,722       1  
Business services
    167       6,570       1  
Transportation
    31       6,469       1  
Public administration
    17       5,785       1  
Technology
    15       5,752       1  
Utilities
    72       5,489       1  
Other
    3,114       81,864  (3)     10  
   
Total all other loans
  $ 4,568       170,651       22 %
   
Total
  $ 4,568       172,562       22 %
   
*   Less than 1%.
(1)   For PCI loans amounts represent carrying value.
(2)   No other single category had loans in excess of $87 million.
(3)   No other single category had loans in excess of $5.3 billion. The next largest categories included investors, hotel/restaurant, media, securities firms, non-residential construction, leisure, trucking, dairy, gaming and contractors.
REAL ESTATE 1-4 FAMILY FIRST MORTGAGE LOANS As part of the Wachovia acquisition, we acquired residential first and home equity loans that are very similar to the Wells Fargo core originated portfolio. We also acquired the Pick-a-Pay portfolio, which is composed primarily of option payment adjustable-rate mortgage and fixed-rate mortgage products. Under purchase accounting for the Wachovia acquisition, we made purchase accounting adjustments to the Pick-a-Pay loans considered to be impaired under accounting guidance for PCI loans. See the “Risk Management – Pick-a-Pay Portfolio” section in this Report for additional detail.
     The concentrations of real estate 1-4 family mortgage loans by state are presented in Table 22. Our real estate 1-4 family mortgage loans to borrowers in the state of California represented approximately 14% of total loans at both December 31, 2009 and 2008, mostly within the larger metropolitan areas, with no single area consisting of more than 3% of total loans. Of this amount, 3% of total loans were PCI loans from Wachovia. Changes in real estate values and underlying economic or market conditions for these areas are monitored continuously within the credit risk management process. Beginning in 2007, the residential real estate markets began to experience significant declines in property values and several markets in California, specifically in Southern California and the Central Valley, experienced declines that turned out to be more significant than the national decline.
     Some of our real estate 1-4 family mortgage loans, including first mortgage and home equity products, include an interest-only feature as part of the loan terms. At December 31, 2009, these loans were approximately 15% of total loans, compared with 11% at the end of 2008. Most of these loans are considered to be prime or near prime. We have manageable adjustable-rate mortgage (ARM) reset risk across our Wells Fargo originated and owned mortgage loan portfolios.
Table 22: Real Estate 1-4 Family Mortgage Loans by State
 
                                 
    December 31, 2009  
    Real estate     Real estate     Total real        
    1-4 family     1-4 family     estate 1-4%     % of  
    first     junior lien     family     total  
(in millions)   mortgage     mortgage     mortgage     loans  
   
PCI loans:
                               
California
  $ 25,265       82       25,347       3 %
Florida
    4,288       67       4,355       1  
New Jersey
    1,196       34       1,230       *  
Other (1)
    7,637       148       7,785       1  
   
Total PCI loans
  $ 38,386       331       38,717       5 %
   
All other loans:
                               
California
  $ 52,229       29,731       81,960       11 %
Florida
    19,284       9,210       28,494       4  
New Jersey
    9,230       6,801       16,031       2  
Virginia
    5,915       4,995       10,910       1  
New York
    6,769       4,071       10,840       1  
Pennsylvania
    6,396       4,343       10,739       1  
North Carolina
    6,464       4,043       10,507       1  
Georgia
    5,003       3,816       8,819       1  
Texas
    6,900       1,769       8,669       1  
Other (2)
    72,960       34,598       107,558       14  
   
Total all other loans
  $ 191,150       103,377       294,527       37 %
   
Total
  $ 229,536       103,708       333,244       42 %
   
*   Less than 1%.
(1)   Consists of 47 states; no state had loans in excess of $975 million.
(2)   Consists of 41 states; no state had loans in excess of $7.8 billion. Includes $15.2 billion in GNMA pool buyouts.


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     The deterioration in specific segments of the Home Equity portfolios required a targeted approach to managing these assets. In fourth quarter 2007, a liquidating portfolio was identified, consisting of home equity loans generated through the wholesale channel not behind a Wells Fargo first mortgage, and home equity loans acquired through correspondents. The liquidating portion of the Home Equity portfolio was $8.4 billion at December 31, 2009, compared with $10.3 billion a year ago. The loans in this liquidating portfolio represent about 1% of total loans outstanding at December 31, 2009, and contain some of the highest risk in our $123.8 billion Home Equity portfolios, with a loss rate of 11.17% compared with
3.28% for the core portfolio. The loans in the liquidating portfolio are largely concentrated in geographic markets that have experienced the most abrupt and steepest declines in housing prices. The core portfolio was $115.4 billion at December 31, 2009, of which 97% was originated through the retail channel and approximately 17% of the outstanding balance was in a first lien position. Table 23 includes the credit attributes of these two portfolios. California loans represent the largest state concentration in each of these portfolios and have experienced among the highest early-term delinquency and loss rates.


Table 23: Home Equity Portfolios (1)
 
                                                 
                    % of loans                
                    two payments                
    Outstanding balance     or more past due     Loss rate  
    December 31,     December 31,     December 31,  
(in millions)   2009     2008     2009     2008     2009     2008  
   
Core portfolio (2)
                                               
California
  $ 30,264       31,544       4.12 %     2.95       5.42       2.93  
Florida
    12,038       11,781       5.48       3.36       4.73       2.79  
New Jersey
    8,379       7,888       2.50       1.41       1.30       0.66  
Virginia
    5,855       5,688       1.91       1.50       1.06       1.08  
Pennsylvania
    5,051       5,043       2.03       1.10       1.49       0.38  
Other
    53,811       56,415       2.85       1.97       2.44       1.14  
                                   
Total
    115,398       118,359       3.35       2.27       3.28       1.70  
                                   
Liquidating portfolio
                                               
California
    3,205       4,008       8.78       6.69       16.74       9.26  
Florida
    408       513       9.45       8.41       16.90       11.24  
Arizona
    193       244       10.46       7.40       18.57       8.58  
Texas
    154       191       1.94       1.27       2.56       1.56  
Minnesota
    108       127       4.15       3.79       7.58       5.74  
Other
    4,361       5,226       5.06       3.28       6.46       3.40  
                                   
Total
    8,429       10,309       6.74       4.93       11.17       6.18  
                                   
Total core and liquidating portfolios
  $ 123,827       128,668       3.58       2.48       3.88       2.10  
                                   
 
                                               
   
(1)   Consists of real estate 1-4 family junior lien mortgages and lines of credit secured by real estate from all groups, excluding PCI loans.
 
(2)   Includes equity lines of credit and closed-end second liens associated with the Pick-a-Pay portfolio totaling $1.8 billion at December 31, 2009, and $2.1 billion at December 31, 2008.

PICK-A-PAY PORTFOLIO Our Pick-a-Pay portfolio, which we acquired in the Wachovia merger, had an unpaid principal balance of $103.7 billion and a carrying value of $85.2 billion at December 31, 2009. This portfolio includes loans that offer payment options (Pick-a-Pay option payment loans), loans that were originated without the option payment feature and loans that no longer offer the option feature as a result of our modification efforts since the acquisition. At December 31, 2009, the unpaid principal balance of Pick-a-Pay option payment loans totaled $73.1 billion, or 70% of the total Pick-a-Pay portfolio, down significantly from $101.3 billion, or 86%, at December 31, 2008, primarily due to loan modifications, paid-in full loans and net charge-offs. The Pick-a-Pay portfolio is a liquidating portfolio as Wachovia ceased originating new Pick-a-Pay loans in 2008. Equity lines of credit and closed-end second liens associated with Pick-a-Pay loans are reported in the Home Equity core portfolio.
     PCI loans in the Pick-a-Pay portfolio had an unpaid principal balance of $55.1 billion and a carrying value of $37.0 billion at December 31, 2009. The carrying value of the PCI loans is net of purchase accounting write-downs to reflect their fair value at acquisition. Upon acquisition, we recorded a $22.4 billion write-down in purchase accounting on Pick-a-Pay loans that were impaired. Losses to date on this portfolio are reasonably in line with management’s original expectations. Our most recent life-of-loan loss projections show an improvement driven in part by extensive and currently successful modification efforts as well as improving delinquency roll rate trends and further stabilization in the housing market.
     Pick-a-Pay option payment loans may be adjustable or fixed rate. They are home mortgages on which the customer has the option each month to select from among four payment options: (1) a minimum payment as described below, (2) an interest-only payment, (3) a fully amortizing 15-year payment, or (4) a fully amortizing 30-year payment.


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     The minimum monthly payment for substantially all of our Pick-a-Pay loans is reset annually. The new minimum monthly payment amount usually cannot increase by more than 7.5% of the then-existing principal and interest payment amount. The minimum payment may not be sufficient to pay the monthly interest due and in those situations a loan on which the customer has made a minimum payment is subject to “negative amortization,” where unpaid interest is added to the principal balance of the loan. The amount of interest that has been added to a loan balance is referred to as “deferred interest.” Total deferred interest of $3.7 billion at December 31, 2009, was down from $4.3 billion at December 31, 2008, due to loan modification efforts as well as falling interest rates resulting in the minimum payment option covering the interest and some principal on many loans. At December 31, 2009, approximately 47% of customers choosing the minimum payment option did not defer interest.
     Deferral of interest on a Pick-a-Pay loan may continue as long as the loan balance remains below a pre-defined principal cap, which is based on the percentage that the current loan balance represents to the original loan balance. Loans with an original loan-to-value (LTV) ratio equal to or below 85% have a cap of 125% of the original loan balance, and these loans represent substantially all the Pick-a-Pay portfolio. Loans with an original LTV ratio above 85% have a cap of 110% of the original loan balance. Most of the Pick-a-Pay loans on which there is a deferred interest balance re-amortize (the monthly payment amount is reset or “recast”) on the earlier of the date when the loan balance reaches its principal cap, or the 10-year anniversary of the loan. There exists a small population of Pick-a-Pay loans for which recast occurs at the
five-year anniversary. After a recast, the customers’ new payment terms are reset to the amount necessary to repay the balance over the remainder of the original loan term.
     Due to the terms of the Pick-a-Pay portfolio, there is little recast risk over the next three years. Based on assumptions of a flat rate environment, if all eligible customers elect the minimum payment option 100% of the time and no balances prepay, we would expect the following balances of loans to recast based on reaching the principal cap: $2 million in 2010, $1 million in 2011 and $4 million in 2012. In 2009, the amount of loans recast based on reaching the principal cap was $1 million. In addition, we would expect the following balances of loans to start fully amortizing due to reaching their recast anniversary date and also having a payment change at the recast date greater than the annual 7.5% reset: $44 million in 2010, $52 million in 2011 and $58 million in 2012. In 2009, the amount of loans reaching their recast anniversary date and also having a payment change over the annual 7.5% reset was $25 million.
     Table 24 reflects the geographic distribution of the Pick-a-Pay portfolio broken out between PCI loans and all other loans. In stressed housing markets with declining home prices and increasing delinquencies, the LTV ratio is a useful metric in predicting future real estate 1-4 family first mortgage loan performance, including potential charge-offs. Because PCI loans were initially recorded at fair value written down for expected credit losses, the ratio of the carrying value to the current collateral value for acquired loans with credit impairment will be lower as compared with the LTV based on the unpaid principal. For informational purposes, we have included both ratios in the following table.


Table 24: Pick-a-Pay Portfolio
 
                                                         
    December 31, 2009  
    PCI loans                   All other loans  
                            Ratio of                    
                            carrying                    
    Unpaid     Current             value to     Unpaid     Current        
    principal     LTV     Carrying     current     principal     LTV     Carrying  
(in millions)   balance     ratio  (1)   value  (2)   value     balance     ratio  (1)   value  (2)
   
California
  $ 37,341       141 %   $ 25,022       94 %   $ 23,795       93 %   $ 23,626  
Florida
    5,751       139       3,199       77       5,046       104       4,942  
New Jersey
    1,646       101       1,269       77       2,914       82       2,912  
Texas
    442       82       399       74       1,967       66       1,973  
Arizona
    1,410       143       712       72       1,124       101       1,106  
Other states
    8,506       110       6,428       82       13,716       86       13,650  
                                             
Total Pick-a-Pay loans
  $ 55,096             $ 37,029             $ 48,562             $ 48,209  
                                             
 
                                                       
   
(1)   The current LTV ratio is calculated as the unpaid principal balance plus the unpaid principal balance of any equity lines of credit that share common collateral divided by the collateral value. Collateral values are 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.
 
(2)   Carrying value, which does not reflect the allowance for loan losses, includes purchase accounting adjustments, which, for PCI loans, are the nonaccretable difference and the accretable yield, and for all other loans, an adjustment to mark the loans to a market yield at date of merger less any subsequent charge-offs.

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     To maximize return and allow flexibility for customers to avoid foreclosure, we have in place several loss mitigation strategies for our Pick-a-Pay loan portfolio. We contact customers who are experiencing difficulty and may in certain cases modify the terms of a loan based on a customer’s documented income and other circumstances. We also are actively modifying the Pick-a-Pay portfolio. Because of the write-down of the PCI loans in purchase accounting, which have been aggregated in pools, our post merger modifications to PCI Pick-a-Pay loans have not resulted in any modification-related provision for credit losses. To the extent we modify loans not in the PCI Pick-a-Pay portfolio, we establish an impairment reserve in accordance with the applicable accounting requirements for loan restructurings.
     We also have taken steps to work with customers to refinance or restructure their Pick-a-Pay loans into other loan products. For customers at risk, we offer combinations of term extensions of up to 40 years (from 30 years), interest rate reductions, to charge no interest on a portion of the principal for some period of time and, in geographies with substantial property value declines, we will even offer permanent principal reductions. In 2009, we completed over 52,000 Pick-a-Pay loan modifications. The majority of the loan modifications were concentrated in our PCI Pick-a-Pay loan portfolio. Approximately 31% of the PCI portfolio was modified in 2009. Nearly 70,000 modification offers were proactively sent to customers during 2009. As part of the modification process, the loans are re-underwritten, income is documented and the negative amortization feature is eliminated. Most of the modifications result in material payment reduction to the customer. We continually reassess our loss mitigation strategies and may adopt additional or different strategies in the future. In fourth quarter 2009, the U.S. Treasury Department’s Home Affordable Modification Program (HAMP) was rolled out to the customers in this portfolio. As of December 31, 2009, over 45,000 HAMP applications were being reviewed by our loan servicing department. We believe a key factor to successful loss mitigation is tailoring the revised loan payment to the customer’s sustainable income.
CREDIT CARDS Our credit card portfolio, a portion of which is included in the Wells Fargo Financial discussion below, totaled $24.0 billion at December 31, 2009, which represents only 3% of our total outstanding loans and is smaller than the credit card portfolios of each of our large bank peers. Delinquencies of 30 days or more were 5.5% of credit card outstandings at December 31, 2009, up from 5.0% a year ago. Net charge-offs were 10.8% for 2009, up from 7.2% in 2008, reflecting high bankruptcy filings and the current economic environment. We have tightened underwriting criteria and imposed credit line management changes to minimize balance transfers and line increases.
WELLS FARGO FINANCIAL Wells Fargo Financial’s portfolio consists of real estate loans, substantially all of which are secured debt consolidation loans, and both prime and non-prime auto secured loans, unsecured loans and credit cards.
     Wells Fargo Financial had $25.8 billion and $29.1 billion in real estate secured loans at December 31, 2009 and 2008, respectively. Of this portfolio, $1.6 billion and $1.8 billion, respectively, was considered prime based on secondary market standards and has been priced to the customer accordingly. The remaining portfolio is non-prime but has been originated with standards to reduce credit risk. These loans were originated through our retail channel with documented income, LTV limits based on credit quality and property characteristics, and risk-based pricing. In addition, the loans were originated without teaser rates, interest-only or negative amortization features. Credit losses in the portfolio have increased in the current economic environment compared with historical levels, but performance remained similar to prime portfolios in the industry with overall loss rates of 3.13% in 2009 on the entire portfolio. At December 31, 2009, $8.4 billion of the portfolio was originated with customer FICO scores below 620, but these loans have further restrictions on LTV and debt-to-income ratios intended to limit the credit risk.
     Wells Fargo Financial also had $16.5 billion and $23.6 billion in auto secured loans and leases at December 31, 2009 and 2008, respectively, of which $4.4 billion and $6.3 billion, respectively, were originated with customer FICO scores below 620. Loss rates in this portfolio in 2009 were 5.12% for FICO scores of 620 and above, and 7.00% for FICO scores below 620. These loans were priced based on relative risk. Of this portfolio, $11.3 billion represented loans and leases originated through its indirect auto business, a channel Wells Fargo Financial ceased using near the end of 2008.
     Wells Fargo Financial had $8.1 billion and $8.4 billion in unsecured loans and credit card receivables at December 31, 2009 and 2008, respectively, of which $1.0 billion and $1.3 billion, respectively, was originated with customer FICO scores below 620. Net loss rates in this portfolio were 13.35% in 2009 for FICO scores of 620 and above, and 19.78% for FICO scores below 620. Wells Fargo Financial has been actively tightening credit policies and managing credit lines to reduce exposure given current economic conditions.
NONACCRUAL LOANS AND OTHER NONPERFORMING ASSETS
Table 25 shows the five-year trend for nonaccrual loans and other NPAs. We generally place loans on nonaccrual status when:
  the full and timely collection of interest or principal becomes uncertain;
 
  they are 90 days (120 days with respect to real estate 1-4 family first and junior lien mortgages and auto loans) past due for interest or principal (unless both well-secured and in the process of collection); or
 
  part of the principal balance has been charged off and no restructuring has occurred.
     Note 1 (Summary of Significant Accounting Policies –Loans) to Financial Statements in this Report describes our accounting policy for nonaccrual loans.


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Table 25: Nonaccrual Loans and Other Nonperforming Assets
 
                                         
    December 31,  
(in millions)   2009     2008     2007     2006     2005  
   
Nonaccrual loans:
                                       
Commercial and commercial real estate:
                                       
Commercial
  $ 4,397       1,253       432       331       286  
Real estate mortgage
    3,984       594       128       105       165  
Real estate construction
    3,025       989       293       78       31  
Lease financing
    171       92       45       29       45  
   
Total commercial and commercial real estate
    11,577       2,928       898       543       527  
   
Consumer:
                                       
Real estate 1-4 family first mortgage
    10,100       2,648       1,272       688       471  
Real estate 1-4 family junior lien mortgage
    2,263       894       280       212       144  
Other revolving credit and installment
    332       273       184       180       171  
   
Total consumer
    12,695       3,815       1,736       1,080       786  
   
Foreign
    146       57       45       43       25  
   
Total nonaccrual loans (1)(2)(3)
    24,418       6,800       2,679       1,666       1,338  
   
As a percentage of total loans
    3.12 %     0.79       0.70       0.52       0.43  
Foreclosed assets:
                                       
GNMA loans (4)
  $ 960       667       535       322        
Other
    2,199       1,526       649       423       191  
Real estate and other nonaccrual investments (5)
    62       16       5       5       2  
   
Total nonaccrual loans and other nonperforming assets
  $ 27,639       9,009       3,868       2,416       1,531  
   
As a percentage of total loans
    3.53 %     1.04       1.01       0.76       0.49  
   
 
(1)   Includes nonaccrual mortgages held for sale and loans held for sale in their respective loan categories.
(2)   Excludes loans acquired from Wachovia that are accounted for as PCI loans.
(3)   Includes $9.5 billion and $3.6 billion at December 31, 2009, and December 31, 2008, respectively, of loans classified as impaired. See Note 6 (Loans and Allowance for Credit Losses) to Financial Statements in this Report for further information on impaired loans.
(4)   Consistent with regulatory reporting requirements, foreclosed real estate securing Government National Mortgage Association (GNMA) loans is classified as nonperforming. Both principal and interest for GNMA loans secured by the foreclosed real estate are collectible because the GNMA loans are insured by the Federal Housing Administration (FHA) or guaranteed by the Department of Veterans Affairs (VA).
(5)   Includes real estate investments (contingent interest loans accounted for as investments) that would be classified as nonaccrual if these assets were recorded as loans, and nonaccrual debt securities.

     Total NPAs were $27.6 billion (3.53% of total loans) at December 31, 2009, and included $24.4 billion of nonaccrual loans and $3.2 billion of foreclosed assets, real estate, and other nonaccrual investments. Nonaccrual loans increased $17.6 billion from December 31, 2008. The rate of nonaccrual growth in 2009 was somewhat increased by the effect of purchase accounting applicable to substantially all of Wachovia’s nonaccrual loans as PCI loans at year-end 2008. This purchase accounting resulted in reclassifying all but $97 million of Wachovia’s nonaccruing loans to accruing status, virtually eliminating all nonaccrual loans as of our merger date, and limiting comparability of this metric and related credit ratios with prior periods and our peers. Typically, changes to nonaccrual loans period-over-period represent inflows for loans that reach a specified past due status, offset by reductions for loans that are charged off, sold, transferred to foreclosed properties, or are no longer classified as nonaccrual because they return to accrual status. During 2009, because of purchase accounting, the rate of growth in nonaccrual loans was higher than it would have been without PCI loan accounting. The impact of purchase accounting on our credit data should diminish over time. In addition, we have also increased loan modifications and restructurings to assist homeowners and other borrowers in the current difficult economic cycle.
This increase is expected to result in elevated nonaccrual loan levels for longer periods because consumer nonaccrual loans that have been modified remain in nonaccrual status until a borrower has made six consecutive contractual payments, inclusive of consecutive payments made prior to the modification. For a consumer accruing loan that has been modified, if the borrower has demonstrated performance under the previous terms and shows the capacity to continue to perform under the restructured terms, the loan will remain in accruing status. Otherwise, the loan will be placed in a nonaccrual status until the borrower has made six consecutive contractual payments.
     As explained in more detail below, we believe the loss exposure expected in our NPAs is mitigated by three factors. First, 96% of our nonaccrual loans are secured. Second, losses have already been recognized on 36% of total nonaccrual loans. Third, there is a segment of nonaccrual loans for which specific impairment reserves have been established in the allowance, while the remaining NPAs are covered by general reserves. We are seeing signs of stability in our credit portfolio, as growth in credit losses slowed during 2009. While losses are expected to remain elevated, a more favorable economic outlook and improved credit statistics in several portfolios further increase our confidence that our credit cycle is turning, provided economic conditions do not deteriorate further.


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     Commercial and CRE nonaccrual loans amounted to $11.6 billion at December 31, 2009, compared with $2.9 billion at December 31, 2008. Of the $11.6 billion total commercial and CRE nonaccrual loans at December 31, 2009:
  $7.4 billion have had $1.0 billion of loan impairments recorded for expected life-of-loan losses in accordance with impairment accounting standards;
 
  the remaining $4.2 billion have reserves as part of the allowance for loan losses;
 
  $10.7 billion (93%) are secured, of which $7.0 billion (61%) are secured by real estate, and the remainder secured by other assets such as receivables, inventory and equipment;
  over one-third of these nonaccrual loans are paying interest that is being applied to principal; and
 
  31% have been written down by approximately 52%.
     Consumer nonaccrual loans (including nonaccrual troubled debt restructurings (TDRs)) amounted to $12.7 billion at December 31, 2009, compared with $3.8 billion at December 31, 2008. The $8.9 billion increase in nonaccrual consumer loans from December 31, 2008, represented an increase of $7.5 billion in 1-4 family first mortgage loans and an increase of $1.4 billion in 1-4 family junior liens. In addition, there were accruing consumer TDRs of $6.2 billion at December 31, 2009. Of the $18.9 billion of consumer nonaccrual loans and accruing TDRs:
  $6.1 billion have had charge-offs totaling $2.6 billion; consumer loans secured by real estate are charged-off to the appraised value, less cost to sell, of the underlying collateral when these loans reach 180 days delinquent;
 
  $8.3 billion have $1.8 billion in life-of-loan TDR loss impairment reserves in addition to any charge-offs; and
 
  the remaining $10.6 billion have reserves as part of the allowance for loan losses.
     Of the $12.7 billion of consumer nonaccrual loans:
  $12.6 billion (99%) are secured, substantially all by real estate; and
 
  21% have a combined LTV ratio of 80% or below.
     NPAs at December 31, 2009, included $960 million of loans that are FHA insured or VA guaranteed, which have little to no loss content, and $2.2 billion of foreclosed assets, which have been written down to the value of the underlying collateral. Foreclosed assets included $852 million that resulted from PCI loans.
     Table 26 summarizes NPAs for each of the four quarters of 2009. It shows a trend of declining increase in NPAs after the first quarter of 2009.


Table 26: Nonaccrual Loans and Other Nonperforming Assets During 2009
 
                                                                 
    December 31, 2009     September 30, 2009     June 30, 2009     March 31, 2009  
            As a             As a             As a             As a  
            % of             % of             % of             % of  
            total             total             total             total  
($ in millions)   Balances     loans     Balances     loans     Balances     loans     Balances     loans  
   
Commercial and commercial real estate:
                                                               
Commercial
  $ 4,397       2.78 %   $ 4,540       2.68 %   $ 2,910       1.60 %   $ 1,696       0.88 %
Real estate mortgage
    3,984       3.80       2,856       2.76       2,343       2.26       1,324       1.26  
Real estate construction
    3,025       10.18       2,711       8.55       2,210       6.65       1,371       4.04  
Lease financing
    171       1.20       157       1.11       130       0.89       114       0.77  
                                                     
Total commercial and commercial real estate
    11,577       3.77       10,264       3.22       7,593       2.28       4,505       1.30  
Consumer:
                                                               
Real estate 1-4 family first mortgage
    10,100       4.40       8,132       3.50       6,000       2.53       4,218       1.74  
Real estate 1-4 family junior lien mortgage
    2,263       2.18       1,985       1.90       1,652       1.54       1,418       1.29  
Other revolving credit and installment
    332       0.37       344       0.38       327       0.36       300       0.33  
                                                     
Total consumer
    12,695       2.84       10,461       2.32       7,979       1.74       5,936       1.27  
Foreign
    146       0.50       144       0.48       226       0.75       75       0.24  
                                                     
Total nonaccrual loans
    24,418       3.12       20,869       2.61       15,798       1.92       10,516       1.25  
                                                     
Foreclosed assets:
                                                               
GNMA loans
    960               840               932               768          
All other
    2,199               1,687               1,592               1,294          
                                                     
Total foreclosed assets
    3,159               2,527               2,524               2,062          
                                                     
Real estate and other nonaccrual investments
    62               55               20               34          
                                                     
Total nonaccrual loans and other nonperforming assets
  $ 27,639       3.53 %   $ 23,451       2.93 %   $ 18,342       2.23 %   $ 12,612       1.50 %
                                                     
Change from prior quarter
  $ 4,188               5,109               5,730               3,603          
   

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     While commercial and CRE nonaccrual loans were up in 2009, the dollar amount of the increase declined between quarters and the rate of growth slowed considerably throughout the year. Commercial and CRE nonaccrual loans increased $8.6 billion, or 295%, from December 31, 2008. Similarly, the growth rate in consumer nonaccrual loans also slowed in 2009. Wells Fargo’s consumer nonaccrual loans increased $8.9 billion, or 233%, from December 31, 2008. Wachovia’s Pick-a-Pay portfolio represents the largest portion of consumer nonaccrual loans and was up $3.3 billion in 2009.
     Total consumer TDRs amounted to $8.3 billion at December 31, 2009, compared with $1.6 billion at December 31, 2008. Of the TDRs, $2.1 billion at December 31, 2009, and $409 million at December 31, 2008, were classified as nonaccrual. Consumer loans that enter into a TDR before they reach nonaccrual status (normally 120 days past due) remain in accrual status as long as they continue to perform according to the terms of the TDR. We strive to identify troubled loans and work with the customer to modify to more affordable terms before their loan reaches nonaccrual status. Accordingly, during 2009 most consumer loans were in accrual status at the time of TDR and therefore most of our consumer TDR loans are in accrual status at the end of the year. We establish an impairment reserve when a loan is restructured in a TDR.
     At December 31, 2008, total nonaccrual loans were $6.8 billion (0.79% of total loans) up from $2.7 billion (0.70%) at December 31, 2007. A significant portion of the $4.1 billion increase in nonaccrual loans was in the real estate 1-4 family first mortgage portfolio, including $742 million in Wells Fargo Financial real estate and $424 million in Wells Fargo Home Mortgage, and was due to the national rise in mortgage default rates. Total NPAs were $9.0 billion (1.04% of total loans) at December 31, 2008, compared with $3.9 billion (1.01%) at December 31, 2007. Total NPAs at December 31, 2008, excluded $20.0 billion of PCI loans that were previously reflected as nonperforming by Wachovia.
     We expect NPAs to continue to grow, in part reflecting our efforts to modify more real estate loans to reduce foreclosures and keep customers in their homes. We remain focused on proactively identifying problem credits, moving them to non-performing status and recording the loss content in a timely manner. We have increased and will continue to increase staffing in our workout and collection organizations to ensure these troubled borrowers receive the attention and help they need. See the “Risk Management — Allowance for Credit Losses” section in this Report for additional discussion. The performance of any one loan can be affected by external factors, such as economic or market conditions, or factors affecting a particular borrower.
     If interest due on the book balances of all nonaccrual loans (including loans that were, but are no longer on nonaccrual at year end) had been accrued under the original terms, approximately $815 million of interest would have been recorded as income in 2009, compared with $71 million recorded as interest income.
     At December 31, 2009, substantially all of our foreclosed assets of $3.2 billion have been in the portfolio one year or less.
LOANS 90 DAYS OR MORE PAST DUE AND STILL ACCRUING
Loans included in this category are 90 days or more past due as to interest or principal and still accruing, because they are (1) well-secured and in the process of collection or (2) real estate 1-4 family first mortgage loans or consumer loans exempt under regulatory rules from being classified as nonaccrual. PCI loans are excluded from the disclosure of loans 90 days or more past due and still accruing interest. Even though certain of them are 90 days or more contractually past due, they are considered to be accruing because the interest income on these loans relates to the establishment of an accretable yield under the accounting for PCI loans and not to contractual interest payments.
     Loans 90 days or more past due and still accruing totaled $22.2 billion, $11.8 billion, $6.4 billion, $5.1 billion and $3.6 billion at December 31, 2009, 2008, 2007, 2006 and 2005, respectively. The total included $15.3 billion, $8.2 billion, $4.8 billion, $3.9 billion and $2.9 billion for the same dates, respectively, in advances pursuant to our servicing agreements to GNMA mortgage pools and similar loans whose repayments are insured by the FHA or guaranteed by the VA.
     Table 27 reflects loans 90 days or more past due and still accruing excluding the insured/guaranteed GNMA and similar loans.
 
Table 27:   Loans 90 Days or More Past Due and Still Accruing (Excluding Insured/Guaranteed GNMA and Similar Loans)
 
                                         
      December 31,  
(in millions)   2009     2008     2007     2006     2005  
   
Commercial and commercial real estate:
                                       
Commercial
  $ 590       218       32       15       18  
Real estate mortgage
    1,183       88       10       3       13  
Real estate construction
    740       232       24       3       9  
   
Total commercial and commercial real estate
    2,513       538       66       21       40  
   
Consumer:
                                       
Real estate
                                       
1-4 family first mortgage (1)
    1,623       883       286       154       103  
Real estate
                                       
1-4 family junior lien mortgage
    515       457       201       63       50  
Credit card
    795       687       402       262       159  
Other revolving credit and installment
    1,333       1,047       552       616       290  
   
Total consumer
    4,266       3,074       1,441       1,095       602  
   
Foreign
    73       34       52       44       41  
   
Total
  $ 6,852       3,646       1,559       1,160       683  
   
(1)   Includes mortgage loans held for sale 90 days or more past due and still accruing.


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NET CHARGE-OFFS Table 28 presents net charge-offs for the four quarters and full year of 2009.
Table 28: Net Charge-offs
 
                                                                                 
    Year ended     Quarter ended  
    December 31, 2009     December 31, 2009     September 30, 2009     June 30, 2009     March 31, 2009  
            As a             As a             As a             As a             As a  
    Net loan     % of     Net loan     % of     Net loan     % of     Net loan     % of     Net loan     % of  
    charge-     average     charge-     average     charge-     average     charge-     average     charge-     average  
($ in millions)   offs     loans     offs     loans  (1)   offs     loans  (1)   offs     loans  (1)   offs     loans  (1)
   
Commercial and commercial real estate:
                                                                               
Commercial
  $ 3,111       1.72 %   $ 927       2.24 %   $ 924       2.09 %   $ 704       1.51 %   $ 556       1.15 %
Real estate mortgage
    725       0.70       349       1.32       209       0.80       146       0.56       21       0.08  
Real estate construction
    959       2.91       375       4.82       249       3.01       232       2.76       103       1.21  
Lease financing
    209       1.42       49       1.37       82       2.26       61       1.68       17       0.43  
                                                                   
Total commercial and commercial real estate
    5,004       1.50       1,700       2.15       1,464       1.78       1,143       1.35       697       0.80  
Consumer:
                                                                               
Real estate 1-4 family first mortgage
    3,133       1.31       1,018       1.74       966       1.63       758       1.26       391       0.65  
Real estate 1-4 family junior lien mortgage
    4,638       4.34       1,329       5.09       1,291       4.85       1,171       4.33       847       3.12  
Credit card
    2,528       10.82       634       10.61       648       10.96       664       11.59       582       10.13  
Other revolving credit and installment
    2,668       2.94       686       3.06       682       3.00       604       2.66       696       3.05  
                                                                   
Total consumer
    12,967       2.82       3,667       3.24       3,587       3.13       3,197       2.77       2,516       2.16  
Foreign
    197       0.64       46       0.62       60       0.79       46       0.61       45       0.56  
                                                                   
Total
  $ 18,168       2.21 %   $ 5,413       2.71 %   $ 5,111       2.50 %   $ 4,386       2.11 %   $ 3,258       1.54 %
                                                                   
   
 
(1)   Annualized
     Net charge-offs in 2009 were $18.2 billion (2.21% of average total loans outstanding) compared with $7.8 billion (1.97%) in 2008. The year over year increase in net charge-offs is significantly impacted by the merger as the 2008 totals reflect only Wells Fargo loss results. Approximately half of the increase in net charge-offs from 2008 came from deterioration in the non-PCI Wachovia portfolio; charge-offs from these portfolios took two to three quarters to emerge as a result of purchase accounting at the end of 2008. The increases in losses during the year were anticipated given the economic conditions in the marketplace affecting our customers. The pace of loss increases decelerated quarter to quarter throughout the year as the loss levels in several portfolios have seen some level of stabilization. While increases in losses were distributed across the portfolio, the majority of the increase was concentrated in commercial, CRE and consumer real estate. The increases in the commercial and CRE portfolios were influenced by the impact on those businesses providing consumer cyclical goods and services or those related to the residential real estate industry. For the consumer real estate portfolios, continued property value disruption combined with rising unemployment affected loss levels.
     Net charge-offs in the 1-4 family first mortgage portfolio totaled $3.1 billion in 2009. Our relatively high-quality 1-4 family first mortgage portfolio continued to reflect relatively low loss rates, although until housing prices fully stabilize, these credit losses will continue to remain elevated. Credit card charge-offs increased $1.1 billion to $2.5 billion in 2009. We continued to see increases in delinquency and loss levels in the consumer unsecured loan portfolios as a result of higher unemployment.
     Net charge-offs in the real estate 1-4 family junior lien portfolio were $4.6 billion in 2009. The rise in unemployment levels is also increasing the frequency of loss. More information about the Home Equity portfolio is available in Table 23 in this Report and related discussion.
     Commercial and CRE net charge-offs were $5.0 billion in 2009 compared with $1.8 billion a year ago. Wholesale credit results continued to deteriorate. Commercial lending requests slowed during 2009 as borrowers continued to reduce their receivable and inventory levels to conserve cash.
     In 2008, net charge-offs were $7.8 billion (1.97% of average total loans), up $4.3 billion from $3.5 billion (1.03%) in 2007. Commercial and CRE net charge-offs increased $1.3 billion in 2008 from 2007, of which $379 million was from loans originated through our Business Direct channel. Business Direct consists primarily of unsecured lines of credit to small firms and sole proprietors that tend to perform in a manner similar to credit cards. Total wholesale net charge-offs (excluding Business Direct) were $967 million (0.11% of average loans). The remaining balance of commercial and CRE loans (real estate mortgage, real estate construction and lease financing) experienced some deterioration from 2007 with loss levels increasing, reflecting the credit environment in 2008.
     Home Equity net charge-offs were $2.2 billion (2.59% of average Home Equity loans) in 2008, compared with $595 million (0.73%) in 2007. Since our loss experience through third party channels was significantly worse than other retail channels, in 2007 we segregated these indirect loans into a liquidating portfolio. We also experienced increased net charge-offs in our unsecured consumer portfolios, such as credit cards and lines of credit, in part due to growth and in part due to increased economic stress in households.


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     Wells Fargo Financial auto portfolio net charge-offs for 2008 were $1.2 billion (4.50% of average auto loans), compared with $1.0 billion (3.45%) in 2007. While we continued to reduce the size of this portfolio and limited additional growth, the economic environment adversely affected portfolio results. We remained focused on our loss mitigation strategies; however, credit performance deteriorated as a result of increased unemployment and depressed used car values, resulting in higher than expected losses for 2008.
ALLOWANCE FOR CREDIT LOSSES The allowance for credit losses, which consists of the allowance for loan losses and the reserve for unfunded credit commitments, is management’s estimate of credit losses inherent in the loan portfolio at the balance sheet date and excludes PCI loans which have a nonaccretable difference to absorb losses and loans carried at fair value. The detail of the changes in the allowance for credit losses, including charge-offs and recoveries by loan category, is in Note 6 (Loans and Allowance for Credit Losses) to Financial Statements in this Report.
     We employ a disciplined process and methodology to establish our allowance for loan 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 loss factors. The process involves difficult, subjective, and complex judgments. In addition, we review several credit ratio trends, such as the ratio of the allowance for loan losses to nonaccrual loans and the ratio of the allowance for loan losses to net charge-offs. These trends are not determinative of the adequacy of the allowance as we use several analytical tools in determining the adequacy of the allowance.
     For individually graded (typically commercial) portfolios, we generally use loan-level credit quality ratings, which are based on borrower information and strength of collateral, combined with historically based grade specific loss factors. The allowance for individually rated nonaccruing commercial loans with an outstanding exposure of $5 million or greater is determined through an individual impairment analysis. For statistically evaluated portfolios (typically consumer), we generally leverage models which use credit-related characteristics such as credit rating scores, delinquency migration rates, vintages, and portfolio concentrations to estimate loss content. Additionally, the allowance for consumer TDRs is based on the risk characteristics of the modified loans and the resultant estimated cash flows discounted at the pre-modification effective yield of the loan. While the allowance is determined using product and business segment estimates, it is available to absorb losses in the entire loan portfolio.
     At December 31, 2009, the allowance for loan losses totaled $24.5 billion (3.13% of total loans), compared with $21.0 billion (2.43%), at December 31, 2008. The allowance for credit losses was $25.0 billion (3.20% of total loans) at December 31, 2009, and $21.7 billion (2.51%) at December 31, 2008. The allowance
for credit losses included $333 million related to PCI loans acquired from Wachovia. Loans acquired from Wachovia are included in total loans net of related purchase accounting write-downs. The reserve for unfunded credit commitments was $515 million at December 31, 2009, and $698 million at December 31, 2008. In addition to the allowance for credit losses there was $22.9 billion of nonaccretable difference at December 31, 2009, to absorb losses for PCI loans.
     The ratio of the allowance for credit losses to total nonaccrual loans was 103% and 319% at December 31, 2009 and 2008, respectively. The decrease in this ratio reflects some deterioration in the underlying loan portfolio. However, the trend in the ratio is also profoundly affected by the impact of purchase accounting eliminating virtually all legacy Wachovia nonaccrual loans at December 31, 2008. In general, this ratio 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. Over half of nonaccrual loans were home mortgages, auto and other consumer loans at December 31, 2009.
     The ratio of the allowance for loan losses to annual net charge-offs was 135%, 268% and 150% at December 31, 2009, 2008 and 2007, respectively. The decline in this ratio from 2008 is largely due to the fact that only legacy Wells Fargo losses were included in 2008, but the allowance anticipated emerging losses from the combined portfolios. The allowance as of December 31, 2008, anticipated the increased charge-offs that occurred over 2009, while the allowance for December 31, 2009, anticipates inherent losses that will be recognized as charge-offs in future periods. When anticipated charge-offs are projected to decline from current levels, this ratio will shrink. As more of the portfolio experiences charge-offs, charge-off levels continue to increase and the remaining portfolio is anticipated to consist of higher quality vintage loans subjected to tightened underwriting standards administered during the downturn in the credit cycle. As charge-off levels peak, we anticipate coverage levels will shrink until charge-off levels return to more normalized levels. This ratio may fluctuate significantly from period to period due to many factors, including general economic conditions, customer credit strength and the marketability of collateral. The allowance for loan losses reflects management’s estimate of credit losses inherent in the loan portfolio based on loss emergence periods of the respective loans, underlying economic and market conditions, among other factors. See the “Critical Accounting Policies – Allowance for Credit Losses” section in this Report for additional information. The allowance for loan losses at December 31, 2008, also includes the allowance acquired from the Wachovia acquisition (except for PCI loans), while 2008 net charge-offs do not include activity related to Wachovia.
     The provision for credit losses totaled $21.7 billion in 2009, $16.0 billion in 2008 and $4.9 billion in 2007. In 2009, the provision of $21.7 billion included a credit reserve build of $3.5 billion, which was primarily driven by three factors: (1) deterioration in economic conditions that increased the projected losses in our commercial portfolios, (2) additional reserves associated with loan modification programs


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designed to keep qualifying borrowers in their homes, and (3) the establishment of additional reserves for PCI loans.
     In 2008, the provision of $16.0 billion included a credit reserve build of $8.1 billion in excess of net charge-offs, which included $3.9 billion to conform loss emergence coverage periods to the most conservative of each company within FFIEC guidelines. The remainder of the reserve build was attributable to higher projected loss rates across the majority of the consumer credit businesses, and some credit deterioration and growth in the wholesale portfolios.
     In 2007, the provision of $4.9 billion included a credit reserve build of $1.4 billion in excess of net charge-offs, which was our estimate of the increase in incurred losses in our loan portfolio at year-end 2007, primarily related to the Home Equity portfolio.
     Table 29 presents the allocation of the allowance for credit losses by type of loans. The $3.3 billion increase in the allowance for credit losses from year-end 2008 to year-end 2009 largely reflects continued stress in both the commercial and residential real estate sectors, and includes reserve builds reflecting the significant increase in modified residential real
estate loans that result in TDRs. In determining the appropriate allowance attributable to our residential real estate portfolios, the loss rates used in our analysis include the impacts of our established loan modification programs. When modifications occur or are probable to occur, our allowance reflects the impact of these modifications, taking into consideration the associated credit cost, including re-defaults of modified loans and projected loss severity. The loss content associated with existing and probable loan modifications has been considered in our allowance reserving methodology.
     Changes in the allowance reflect changes in statistically derived loss estimates, historical loss experience, current trends in borrower risk and/or general economic activity on portfolio performance, and management’s estimate for imprecision and uncertainty. Effective December 31, 2006, the entire allowance was assigned to individual portfolio types to better reflect our view of risk in these portfolios. The allowance for credit losses includes a combination of baseline loss estimates and a range of imprecision or uncertainty specific to each portfolio segment previously categorized as unallocated in prior years.


Table 29: Allocation of the Allowance for Credit Losses (ACL)
 
                                                                                 
    December 31,  
    2009     2008     2007     2006     2005  
            Loans             Loans             Loans             Loans             Loans  
            as %             as %             as %             as %             as %  
            of total             of total             of total             of total             of total  
(in millions)   ACL     loans     ACL     loans     ACL     loans     ACL     loans     ACL     loans  
   
Commercial and commercial real estate:
                                                                               
Commercial
  $ 4,175       20 %   $ 4,129       23 %   $ 1,137       24 %   $ 1,051       22 %   $ 926       20 %
Real estate mortgage
    2,577       13       1,011       12       288       9       225       9       253       9  
Real estate construction
    1,063       4       1,023       4       156       5       109       5       115       4  
Lease financing
    181       2       135       2       51       2       40       2       51       2  
                           
Total commercial and commercial real estate
    7,996       39       6,298       41       1,632       40       1,425       38       1,345       35  
                           
Consumer:
                                                                               
Real estate 1-4 family first mortgage
    6,407       29       4,938       28       415       19       186       17       229       25  
Real estate 1-4 family junior lien mortgage
    5,311       13       4,496       13       1,329       20       168       21       118       19  
Credit card
    2,745       3       2,463       3       834       5       606       5       508       4  
Other revolving credit and installment
    2,266       12       3,251       11       1,164       14       1,434       17       1,060       15  
                           
Total consumer
    16,729       57       15,148       55       3,742       58       2,394       60       1,915       63  
                           
Foreign
    306       4       265       4       144       2       145       2       149       2  
                           
Total allocated
    25,031       100 %     21,711       100 %     5,518       100 %     3,964       100 %     3,409       100 %
                                                                   
Unallocated component of allowance
                                                            648          
                                                                   
Total
  $ 25,031             $ 21,711             $ 5,518             $ 3,964             $ 4,057          
                                                                   
 
                                                                               
   
     We believe the allowance for credit losses of $25.0 billion was adequate to cover credit losses inherent in the loan portfolio, including unfunded credit commitments, at December 31, 2009. The allowance for credit losses is subject to change and considers existing factors at the time, 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 environment, it is
possible that unanticipated economic deterioration would create incremental credit losses not anticipated as of the balance sheet date. Our process for determining the adequacy of the allowance for credit losses is discussed in the “Critical Accounting Policies – Allowance for Credit Losses” section and Note 6 (Loans and Allowance for Credit Losses) to Financial Statements in this Report.


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RESERVE FOR MORTGAGE LOAN REPURCHASE LOSSES We sell mortgage loans to various parties, including government-sponsored entities (GSEs), under contractual provisions that include various representations and warranties which typically cover ownership of the loan, compliance with loan criteria set forth in the applicable agreement, validity of the lien securing the loan, absence of delinquent taxes or liens against the property securing the loan, and similar matters. We may be required to repurchase the mortgage loans with identified defects, indemnify the investor or insurer, or reimburse the investor for credit loss incurred on the loan (collectively “repurchase”) in the event of a material breach of such contractual representations or warranties. On occasion, we may negotiate global settlements in order to resolve a pipeline of demands in lieu of repurchasing the loans. We manage the risk associated with potential repurchases or other forms of settlement through our underwriting and quality assurance practices and by servicing mortgage loans to meet investor and secondary market standards.
     We establish mortgage repurchase reserves related to various representations and warranties that reflect management’s estimate of losses based on a combination of factors. Such factors incorporate estimated levels of defects based on internal quality assurance sampling, default expectations, historical investor repurchase demand and appeals success rates (where the investor rescinds the demand based on a cure of the defect or acknowledges that the loan satisfies the investor’s applicable representations and warranties), reimbursement by correspondent and other third party originators, and projected loss severity. We establish a reserve at the time loans are sold and continually update our reserve estimate during their life. Although investors may demand repurchase at any time, the majority of repurchase demands occurs in the first 24 to 36 months following origination of the mortgage loan and can vary by investor. Currently, repurchase demands primarily relate to 2006 through 2008 vintages.
     During 2009 we experienced elevated levels of repurchase activity measured by number of loans, investor repurchase demands and our level of repurchases. These trends accelerated in the fourth quarter. We repurchased or otherwise settled mortgage loans with balances of $1.3 billion in 2009, compared with $426 million in 2008. We incurred losses on repurchase activity of $514 million in 2009, compared with $251 million in 2008. Our reserve for repurchases, included in “Accrued expenses and other liabilities” in our consolidated financial statements, was $1.0 billion at December 31, 2009, and $589 million at December 31, 2008. To the extent that repurchased loans are nonperforming, the loans are classified as nonaccrual. Nonperforming loans included $275 million of repurchased loans at December 31, 2009, and $193 million at December 31, 2008.
     Approximately three-fourths of our repurchases were government agency conforming loans from Freddie Mac and Fannie Mae. The increase in repurchase and settlement activity during 2009 primarily related to weaker economic conditions as investors, predominantly GSEs, made increased demands associated with higher levels of defaulted loans. Our appeals success rate improved from 2008 to 2009 reflecting our enhanced and more timely loss mitigation efforts.
However, the annual loss increased year over year due to higher volumes. The appeals success rate is one indicator of our future repurchase losses and may also be affected by factors such as the quality of repurchase demands, the mix of reasons for the demands, and investor repurchase demand strategies.
     To the extent that economic conditions and the housing market do not recover or future investor repurchase demand and appeals success rates differ from past experience, we could continue to have increased demands and increased loss severity on repurchases, causing future additions to the repurchase reserve. However, some of the underwriting standards that were permitted by the GSEs for conforming loans in the 2006 through 2008 vintages, which significantly contributed to recent levels of repurchase demands, were tightened starting in mid to late 2008. Accordingly, we do not expect a similar level of repurchase requests from the 2009 and prospective vintages, absent deterioration in economic conditions.
Asset/Liability Management
Asset/liability management involves the evaluation, monitoring and management of interest rate risk, market risk, liquidity and funding. The Corporate Asset/Liability Management Committee (Corporate ALCO) — which oversees these risks and reports periodically to the Finance Committee of the Board of Directors — consists of senior financial and business executives. Each of our principal business groups has its own asset/liability management committee and process linked to the Corporate ALCO process.
INTEREST RATE RISK Interest rate risk, which potentially can have a significant earnings impact, is an integral part of being a financial intermediary. We are subject to interest rate risk because:
  assets and liabilities may mature or reprice at different times (for example, if assets reprice faster than liabilities and interest rates are generally falling, earnings will initially decline);
 
  assets and liabilities may reprice at the same time but by different amounts (for example, when the general level of interest rates is falling, we may reduce rates paid on checking and savings deposit accounts by an amount that is less than the general decline in market interest rates);
 
  short-term and long-term market interest rates may change by different amounts (for example, the shape of the yield curve may affect new loan yields and funding costs differently); or
 
  the remaining maturity of various assets or liabilities may shorten or lengthen as interest rates change (for example, if long-term mortgage interest rates decline sharply, MBS held in the securities available-for-sale portfolio may prepay significantly earlier than anticipated, which could reduce portfolio income).
     Interest rates may also have a direct or indirect effect on loan demand, credit losses, mortgage origination volume, the fair value of MSRs and other financial instruments, the value of the pension liability and other items affecting earnings.


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     We assess interest rate risk by comparing our most likely earnings plan with various earnings simulations using many interest rate scenarios that differ in the direction of interest rate changes, the degree of change over time, the speed of change and the projected shape of the yield curve. For example, as of December 31, 2009, our most recent simulation indicated estimated earnings at risk of approximately 5% of our most likely earnings plan over the next 12 months using a scenario in which the federal funds rate rises to 4.25% and the 10-year Constant Maturity Treasury bond yield rises to 5.50%. Simulation estimates depend on, and will change with, the size and mix of our actual and projected balance sheet at the time of each simulation. Due to timing differences between the quarterly valuation of MSRs and the eventual impact of interest rates on mortgage banking volumes, earnings at risk in any particular quarter could be higher than the average earnings at risk over the 12-month simulation period, depending on the path of interest rates and on our hedging strategies for MSRs. See the “Risk Management – Mortgage Banking Interest Rate and Market Risk” section in this Report for more information.
     We use exchange-traded and over-the-counter (OTC) interest rate derivatives to hedge our interest rate exposures. The notional or contractual amount, credit risk amount and estimated net fair value of these derivatives as of December 31, 2009 and 2008, are presented in Note 15 (Derivatives) to Financial Statements in this Report. We use derivatives for asset/liability management in three main ways:
  to convert a major portion of our long-term fixed-rate debt, which we issue to finance the Company, from fixed-rate payments to floating-rate payments by entering into receive-fixed swaps;
 
  to convert the cash flows from selected asset and/or liability instruments/portfolios from fixed-rate payments to floating-rate payments or vice versa; and
 
  to hedge our mortgage origination pipeline, funded mortgage loans and MSRs using interest rate swaps, swaptions, futures, forwards and options.
MORTGAGE BANKING INTEREST RATE AND MARKET RISK We originate, fund and service mortgage loans, which subjects us to various risks, including credit, liquidity and interest rate risks. Based on market conditions and other factors, we reduce credit and liquidity risks by selling or securitizing some or all of the long-term fixed-rate mortgage loans we originate and most of the ARMs we originate. On the other hand, we may hold originated ARMs and fixed-rate mortgage loans in our loan portfolio as an investment for our growing base of core deposits. We determine whether the loans will be held for investment or held for sale at the time of commitment. We may subsequently change our intent to hold loans for investment and sell some or all of our ARMs or fixed-rate mortgages as part of our corporate asset/liability management. We may also acquire and add to our securities available for sale a portion of the securities issued at the time we securitize mortgages held for sale (MHFS).
     Notwithstanding the continued downturn in the housing sector, and the continued lack of liquidity in the nonconforming secondary markets, our mortgage banking revenue growth
continued to be positive, reflecting the complementary origination and servicing strengths of the business. The secondary market for agency-conforming mortgages functioned well during the year.
     Interest rate and market risk can be substantial in the mortgage business. Changes in interest rates may potentially reduce total origination and servicing fees, the value of our residential MSRs measured at fair value, the value of MHFS and the associated income and loss reflected in mortgage banking noninterest income, the income and expense associated with instruments (economic hedges) used to hedge changes in the fair value of MSRs and MHFS, and the value of derivative loan commitments (interest rate “locks”) extended to mortgage applicants.
     Interest rates affect the amount and timing of origination and servicing fees because consumer demand for new mortgages and the level of refinancing activity are sensitive to changes in mortgage interest rates. Typically, a decline in mortgage interest rates will lead to an increase in mortgage originations and fees and may also lead to an increase in servicing fee income, depending on the level of new loans added to the servicing portfolio and prepayments. Given the time it takes for consumer behavior to fully react to interest rate changes, as well as the time required for processing a new application, providing the commitment, and securitizing and selling the loan, interest rate changes will affect origination and servicing fees with a lag. The amount and timing of the impact on origination and servicing fees will depend on the magnitude, speed and duration of the change in interest rates.
     We elected to measure MHFS at fair value prospectively for new prime MHFS originations for which an active secondary market and readily available market prices existed to reliably support fair value pricing models used for these loans. At December 31, 2008, we measured at fair value similar MHFS acquired from Wachovia. Loan origination fees on these loans are recorded when earned, and related direct loan origination costs and fees are recognized when incurred. We also elected to measure at fair value certain of our other interests held related to residential loan sales and securitizations. We believe that the election for new prime MHFS and other interests held, which are now hedged with free-standing derivatives (economic hedges) along with our MSRs, reduces certain timing differences and better matches changes in the value of these assets with changes in the value of derivatives used as economic hedges for these assets. During 2008 and 2009, in response to continued secondary market illiquidity, we continued to originate certain prime non-agency loans to be held for investment for the foreseeable future rather than to be held for sale.
     We initially measure and carry our residential MSRs at fair value, which represent substantially all of our MSRs. Under this method, the MSRs are recorded at fair value at the time we sell or securitize the related mortgage loans. The carrying value of MSRs reflects changes in fair value at the end of each quarter and changes are included in net servicing income, a component of mortgage banking noninterest income. If the fair value of the MSRs increases, income is recognized; if the fair value of the MSRs decreases, a loss is recognized.


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We use a dynamic and sophisticated model to estimate the fair value of our MSRs and periodically benchmark our estimates to independent appraisals. The valuation of MSRs can be highly subjective and involve complex judgments by management about matters that are inherently unpredictable. Changes in interest rates influence a variety of significant assumptions included in the periodic valuation of MSRs, including prepayment speeds, expected returns and potential risks on the servicing asset portfolio, the value of escrow balances and other servicing valuation elements.
     A decline in interest rates generally increases the propensity for refinancing, reduces the expected duration of the servicing portfolio and therefore reduces the estimated fair value of MSRs. This reduction in fair value causes a charge to income, net of any gains on free-standing derivatives (economic hedges) used to hedge MSRs. We may choose not to fully hedge all of the potential decline in the value of our MSRs resulting from a decline in interest rates because the potential increase in origination/servicing fees in that scenario provides a partial “natural business hedge.” An increase in interest rates generally reduces the propensity for refinancing, extends the expected duration of the servicing portfolio and therefore increases the estimated fair value of the MSRs. However, an increase in interest rates can also reduce mortgage loan demand and therefore reduce origination income. In 2009, a $1.5 billion decrease in the fair value of our MSRs and $6.8 billion of gains on free-standing derivatives used to hedge the MSRs resulted in a net gain of $5.3 billion. This net gain was largely due to hedge-carry income reflecting the current low short-term interest rate environment.
     The price risk associated with our MSRs is economically hedged with a combination of highly liquid interest rate forward instruments including mortgage forward contracts, interest rate swaps and interest rate options. All of the instruments comprising the hedge are marked to market daily. Because the hedging instruments are traded in highly liquid markets, their prices are readily observable and are fully reflected in each quarter’s mark to market. Quarterly MSR hedging results include a combination of directional gain or loss due to market changes as well as any carry income generated. If the economic hedge is effective, its overall directional hedge gain or loss will offset the change in the valuation of the underlying MSR asset. Consistent with our longstanding approach to hedging interest rate risk in the mortgage business, the size of the hedge and the particular combination of forward hedging instruments at any point in time is designed to reduce the volatility of the mortgage business’s earnings over various time frames within a range of mortgage interest rates. Since market factors, the composition of the mortgage servicing portfolio and the relationship between the origination and servicing sides of our mortgage business change continually, the types of instruments used in our hedging are reviewed daily and rebalanced based on our evaluation of current market factors and the interest rate risk inherent in our MSRs portfolio. Throughout 2009, our economic hedging strategy generally used forward mortgage purchase contracts that were effective at offsetting the impact of interest rates on the value of the MSR asset.
     Mortgage forward contracts are designed to pass the full economics of the underlying reference mortgage securities to the holder of the contract including both the directional gain or loss from the forward delivery of the reference securities and the corresponding carry income. Carry income represents the contract’s price accretion from the forward delivery price to the current spot price including both the yield earned on the reference securities and the market implied cost of financing during the period. The actual amount of carry income earned on the hedge each quarter will depend on the amount of the underlying asset that is hedged and the particular instruments comprising the hedge. The level of carry income is driven by the slope of the yield curve and other market driven supply and demand factors impacting the specific reference securities. A steep yield curve generally produces higher carry income
while a flat or inverted yield curve can result in lower or potentially negative carry income. The level of carry income is also impacted by the type of instrument used. In general, mortgage forward contracts tend to produce higher carry income than interest rate swap contracts. Carry income is recognized over the life of the mortgage forward as a component of the contract’s mark to market gain or loss. We expect hedge carry income to remain strong as long as the yield curve remains at historically steep levels and, in particular, as long as market implied financing costs remain low.
     During fourth quarter 2009, mortgage interest rates increased, resulting in a valuation increase in the MSRs asset due to slower prepayment speed assumptions and the corresponding extension of the expected life of the MSRs asset, and a directional valuation decline on the hedge position due to the decrease in the price of the mortgage securities underlying the mortgage forward purchase contract. However, because the increase in mortgage rates during that quarter was relatively small, and the yield on our mortgage forward purchase contracts was relatively high compared with implied financing costs, the carry income component of the hedge valuation change exceeded the directional loss embedded in that valuation and as a result, the total hedge result was positive even though the value of the underlying MSR asset increased in the quarter.
     Hedging the various sources of interest rate risk in mortgage banking is a complex process that requires sophisticated modeling and constant monitoring. While we attempt to balance these various aspects of the mortgage business, there are several potential risks to earnings:
  MSRs valuation changes associated with interest rate changes are recorded in earnings immediately within the accounting period in which those interest rate changes occur, whereas the impact of those same changes in interest rates on origination and servicing fees occur with a lag and over time. Thus, the mortgage business could be protected from adverse changes in interest rates over a period of time on a cumulative basis but still display large variations in income from one accounting period to the next.
 
  The degree to which the “natural business hedge” offsets changes in MSRs valuations is imperfect, varies at different points in the interest rate cycle, and depends not just on the direction of interest rates but on the pattern of quarterly interest rate changes.
 
  Origination volumes, the valuation of MSRs and hedging results and associated costs are also affected by many factors. Such factors include the mix of new business between ARMs and fixed-rate mortgages, the relationship between short-term and long-term interest rates, the degree of volatility in interest rates, the relationship between mortgage interest rates and other interest rate markets, and other interest rate factors. Many of these factors are hard to predict and we may not be able to directly or perfectly hedge their effect.
 
  While our hedging activities are designed to balance our mortgage banking interest rate risks, the financial instruments we use may not perfectly correlate with the values and income being hedged. For example, the change in the value of ARMs production held for sale from changes in mortgage interest rates may or may not


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    be fully offset by Treasury and LIBOR index-based financial instruments used as economic hedges for such ARMs. Additionally, the hedge-carry income we earn on our economic hedges for the MSRs may not continue if the spread between short-term and long-term rates decreases.
     The total carrying value of our residential and commercial MSRs was $17.1 billion at December 31, 2009, and $16.2 billion at December 31, 2008. The weighted-average note rate on the owned servicing portfolio was 5.66% at December 31, 2009, and 5.92% at December 31, 2008. Our total MSRs were 0.91% of mortgage loans serviced for others at December 31, 2009, compared with 0.87% at December 31, 2008.
     As part of our mortgage banking activities, we enter into commitments to fund residential mortgage loans at specified times in the future. A mortgage loan commitment is an interest rate lock that binds us to lend funds to a potential borrower at a specified interest rate and within a specified period of time, generally up to 60 days after inception of the rate lock. These loan commitments are derivative loan commitments if the loans that will result from the exercise of the commitments will be held for sale. These derivative loan commitments are recognized at fair value in the balance sheet with changes in their fair values recorded as part of mortgage banking noninterest income. The fair value of these commitments include, at inception and during the life of the loan commitment, the expected net future cash flows related to the associated servicing of the loan as part of the fair value measurement of derivative loan commitments. Changes subsequent to inception are based on changes in fair value of the underlying loan resulting from the exercise of the commitment and changes in the probability that the loan will not fund within the terms of the commitment, referred to as a fall-out factor. The value of the underlying loan commitment is affected primarily by changes in interest rates and the passage of time.
     Outstanding derivative loan commitments expose us to the risk that the price of the mortgage loans underlying the commitments might decline due to increases in mortgage interest rates from inception of the rate lock to the funding of the loan. To minimize this risk, we utilize forwards and options, Eurodollar futures, and options, and Treasury futures, forwards and options contracts as economic hedges against the potential decreases in the values of the loans. We expect that these derivative financial instruments will experience changes in fair value that will either fully or partially offset the changes in fair value of the derivative loan commitments. However, changes in investor demand, such as concerns about credit risk, can also cause changes in the spread relationships between underlying loan value and the derivative financial instruments that cannot be hedged.
MARKET RISK – TRADING ACTIVITIES From a market risk perspective, our net income is exposed to changes in interest rates, credit spreads, foreign exchange rates, equity and commodity prices and their implied volatilities. The primary purpose of our trading businesses is to accommodate customers in the management of their market price risks. Also, we take positions based on market expectations or to benefit from price differences between financial instruments and markets,
subject to risk limits established and monitored by Corporate ALCO. All securities, foreign exchange transactions, commodity transactions and derivatives used in our trading businesses are carried at fair value. The Institutional Risk Committee establishes and monitors counterparty risk limits. The credit risk amount and estimated net fair value of all customer accommodation derivatives at December 31, 2009 and 2008, are included in Note 15 (Derivatives) to Financial Statements in this Report. Open, “at risk” positions for all trading businesses are monitored by Corporate ALCO.
     The standardized approach for monitoring and reporting market risk for the trading activities consists of value-at-risk (VaR) metrics complemented with factor analysis and stress testing. VaR measures the worst expected loss over a given time interval and within a given confidence interval. We measure and report daily VaR at a 99% confidence interval based on actual changes in rates and prices over the past 250 trading days. The analysis captures all financial instruments that are considered trading positions. The average one-day VaR throughout 2009 was $62 million, with a lower bound of $25 million and an upper bound of $130 million. The average VaR for fourth quarter 2009 was $45 million with the decline from the annual average primarily reflecting risk-reduction strategies.
MARKET RISK – EQUITY MARKETS We are directly and indirectly affected by changes in the equity markets. We make and manage direct equity investments in start-up businesses, emerging growth companies, management buy-outs, acquisitions and corporate recapitalizations. We also invest in non-affiliated funds that make similar private equity investments. These private equity investments are made within capital allocations approved by management and the Board of Directors (Board). The Board’s policy is to review business developments, key risks and historical returns for the private equity investment portfolio at least annually. Management reviews the valuations of these investments at least quarterly and assesses them for possible OTTI. For nonmarketable investments, the analysis is based on facts and circumstances of each individual investment and the expectations for that investment’s cash flows and capital needs, the viability of its business model and our exit strategy. Nonmarketable investments included private equity investments of $3.8 billion and $3.0 billion accounted for under the cost method at December 31, 2009 and 2008, respectively, and $5.1 billion and $6.4 billion, respectively, accounted for under the equity method. Private equity investments are subject to OTTI. Principal investments totaled $1.4 billion and $1.3 billion at December 31, 2009 and 2008, respectively. Principal investments are carried at fair value with net unrealized gains and losses reported in noninterest income.
     As part of our business to support our customers, we trade public equities, listed/OTC equity derivatives and convertible bonds. We have risk mandates that govern these activities. We also have marketable equity securities in the securities available-for-sale portfolio, including securities relating to our venture capital activities. We manage these investments within capital risk limits approved by management and the Board and monitored by Corporate ALCO. Gains and losses on


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these securities are recognized in net income when realized and periodically include OTTI charges. The fair value and cost of marketable equity securities was $5.6 billion and $4.7 billion at December 31, 2009, and $6.1 billion and $6.3 billion, respectively, at December 31, 2008.
     Changes in equity market prices may also indirectly affect our net income by affecting (1) the value of third party assets under management and, hence, fee income, (2) particular borrowers, whose ability to repay principal and/or interest may be affected by the stock market, or (3) brokerage activity, related commission income and other business activities. Each business line monitors and manages these indirect risks.
LIQUIDITY AND FUNDING The objective of effective liquidity management is to ensure that we can meet customer loan requests, customer deposit maturities/withdrawals and other cash commitments efficiently under both normal operating conditions and under unpredictable circumstances of industry or market stress. To achieve this objective, Corporate ALCO 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. We set these guidelines for both the consolidated balance sheet and for the Parent to ensure that the Parent is a source of strength for its regulated, deposit-taking banking subsidiaries.
     Debt securities in the securities available-for-sale portfolio provide asset liquidity, in addition to the immediately liquid resources of cash and due from banks and federal funds sold, securities purchased under resale agreements and other short-term investments. The weighted-average expected remaining maturity of the debt securities within this portfolio was 5.6 years at December 31, 2009. Of the $162.3 billion (cost basis) of debt securities in this portfolio at December 31, 2009, $48.1 billion (30%) is expected to mature or be prepaid in 2010 and an additional $25.1 billion (15%) in 2011. Asset liquidity is further enhanced by our ability to sell or securitize loans in secondary markets and to pledge loans to access secured borrowing facilities through the Federal Home Loan Banks, the FRB, or the U.S. Treasury. In 2009, we sold mortgage loans of $394 billion. The amount of mortgage loans and other
consumer loans available to be sold, securitized or pledged was approximately $240 billion at December 31, 2009.
     Core customer deposits have historically provided a sizeable source of relatively stable and low-cost funds. Average core deposits funded 60.4% and 53.8% of average total assets in 2009 and 2008, respectively.
     Additional funding is provided by long-term debt (including trust preferred securities), other foreign deposits, and short-term borrowings (federal funds purchased, securities sold under repurchase agreements, commercial paper and other short-term borrowings). Long-term debt averaged $231.8 billion in 2009 and $102.3 billion in 2008. Short-term borrowings averaged $52.0 billion in 2009 and $65.8 billion in 2008. We reduced short-term borrowings due to the continued liquidation of previously identified non-strategic and liquidating loan portfolios, soft loan demand and strong deposit growth.
     We anticipate making capital expenditures of approximately $1.1 billion in 2010 for our stores, relocation and remodeling of our facilities, and routine replacement of furniture, equipment and servers. We fund expenditures from various sources, including cash flows from operations and borrowings.
     Liquidity is also available through our ability to raise funds in a variety of domestic and international money and capital markets. We access capital markets for long-term funding through issuances of registered debt securities, private placements and asset-backed secured funding. Investors in the long-term capital markets generally will consider, among other factors, a company’s debt rating in making investment decisions. Wells Fargo Bank, N.A. is rated “Aa2,” by Moody’s Investors Service, and “AA,” by Standard & Poor’s (S&P) Rating Services. Rating agencies base their ratings on many quantitative and qualitative factors, including capital adequacy, liquidity, asset quality, business mix, and level and quality of earnings. Material changes in these factors could result in a different debt rating; however, a change in debt rating would not cause us to violate any of our debt covenants.
     Table 30 provides the credit ratings of the Company, Wells Fargo Bank, N.A. and Wachovia Bank, N.A. as of February 26, 2010.


Table 30: Credit Ratings
 
                                                         
    Wells Fargo & Company     Wells Fargo Bank, N.A.     Wachovia Bank, N.A.  
    Senior     Subordinated     Commercial     Long-term     Short-term     Long-term     Short-term  
    debt     debt     paper     deposits     borrowings     deposits     borrowings  
   
Moody’s
    A1      A2     P-1     Aa2        P-1     Aa2        P-1  
S&P
  AA-     A +     A-1 +   AA         A-1 +   AA         A-1 +
Fitch, Inc.
  AA-     A +     F1 +   AA         F1 +   AA         F1 +
DBRS
  AA    AA *     R-1 **   AA***     R-1 ***   AA***     R-1 ***
   
 
*low ** middle *** high

     Wells Fargo participated in the FDIC’s Temporary Liquidity Guarantee Program (TLGP) during 2009. The TLGP had two components: the Debt Guarantee Program, which provided a temporary guarantee of newly issued senior unsecured debt issued by eligible entities; and the Transaction Account Guarantee Program, which provided a temporary unlimited
guarantee of funds in noninterest bearing transaction accounts at FDIC insured institutions. The Debt Guarantee Program expired on October 31, 2009, and Wells Fargo opted out of the temporary unlimited guarantee of funds effective December 31, 2009.


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Parent. Under SEC rules, the Parent is classified as a “well-known seasoned issuer,” which allows it to file a registration statement that does not have a limit on issuance capacity. “Well-known seasoned issuers” generally include those companies with a public float of common equity of at least $700 million or those companies that have issued at least $1 billion in aggregate principal amount of non-convertible securities, other than common equity, in the last three years. In June 2009, the Parent filed a registration statement with the SEC for the issuance of senior and subordinated notes, preferred stock and other securities. This registration statement replaces a registration statement for the issuance of similar securities that expired in June 2009. The Parent’s ability to issue debt and other securities under this registration statement is limited by the debt issuance authority granted by the Board. The Parent is currently authorized by the Board to issue $60 billion in outstanding short-term debt and $170 billion in outstanding long-term debt.
     At December 31, 2009, the Parent had outstanding short-term and long-term debt under these authorities of $10.2 billion and $119.5 billion, respectively. During 2009, the Parent issued a total of $3.5 billion in registered senior notes guaranteed by the FDIC under the TLGP and an additional $2.0 billion in non-guaranteed registered senior notes. Effective August 2009, the Parent established an SEC registered $25 billion medium-term note program (MTN), under which it may issue senior and subordinated debt securities. In December 2009, the Parent established a $25 billion European medium-term note programme (EMTN), under which it may issue senior and subordinated debt securities. In addition, the Parent has an A$5.0 billion Australian medium-term note programme (AMTN), under which it may issue senior and subordinated debt securities. The EMTN and AMTN securities are not registered with the SEC and may not be offered in the United States without applicable exemptions from registration. The Parent has $23.0 billion, $25.0 billion and A$1.75 billion available for issuance under the MTN, EMTN and AMTN, respectively. The proceeds from securities issued in 2009 were used for general corporate purposes, and we expect that the proceeds from securities issued in the future will also be used for general corporate purposes. The Parent also issues commercial paper from time to time, subject to its short-term debt limit.
Wells Fargo Bank, N.A. Wells Fargo Bank, N.A. is authorized by its board of directors to issue $100 billion in outstanding short-term debt and $50 billion in outstanding long-term debt. In December 2007, Wells Fargo Bank, N.A. established a $100 billion bank note program under which, subject to any other debt outstanding under the limits described above, it may issue $50 billion in outstanding short-term senior notes and $50 billion in long-term senior or subordinated notes. During 2009, Wells Fargo Bank, N.A. issued $14.5 billion in short-term notes. At December 31, 2009, Wells Fargo Bank, N.A. had remaining issuance capacity on the bank note program of $50 billion in short-term senior notes and $50 billion in long-term senior or subordinated notes. Securities are issued under this program as private placements in accordance with Office of the Comptroller of the Currency (OCC) regulations.
Wells Fargo Financial. In February 2008, Wells Fargo Financial Canada Corporation (WFFCC), an indirect wholly-owned Canadian subsidiary of the Parent, qualified with the Canadian provincial securities commissions CAD$7.0 billion in medium-term notes for distribution from time to time in Canada. At December 31, 2009, CAD$5.5 billion remained available for future issuance. In January 2010, WFFCC filed a new short form base shelf prospectus, replacing the February 2008 base shelf prospectus and qualifying a total of CAD$7.0 billion of issuance authority. All medium-term notes issued by WFFCC are unconditionally guaranteed by the Parent.
FEDERAL HOME LOAN BANK MEMBERSHIP We are a member of the Federal Home Loan Banks based in Atlanta, Dallas, Des Moines and San Francisco (collectively, the FHLBs). Each member of each of the FHLBs is required to maintain a minimum investment in capital stock of the applicable FHLB. The board of directors of each FHLB can increase the minimum investment requirements in the event it has concluded that additional capital is required to allow it to meet its own regulatory capital requirements. Any increase in the minimum investment requirements outside of specified ranges requires the approval of the Federal Housing Finance Board. Because the extent of any obligation to increase our investment in any of the FHLBs depends entirely upon the occurrence of a future event, potential future payments to the FHLBs are not determinable.


Capital Management
 
We have an active program for managing stockholders’ equity and regulatory capital and we maintain a comprehensive process for assessing the Company’s overall capital adequacy. We generate capital internally primarily through the retention of earnings net of dividends, and through the issuance of common stock to certain benefit plans. Our objective is to maintain capital levels at the Company and its bank subsidiaries above the regulatory “well-capitalized” thresholds by an amount commensurate with our risk profile. Our potential sources of stockholders’ equity include retained earnings and issuances
of common and preferred stock. Retained earnings increased $5.0 billion from December 31, 2008, predominantly from Wells Fargo net income of $12.3 billion, less common and preferred dividends and accretion of $6.4 billion. On March 6, 2009, the Board reduced the common stock dividend to $0.05 to retain current period earnings and build common equity. During 2009, we issued approximately 958 million shares, with net proceeds of $22.0 billion of common stock, including 882 million shares ($20.5 billion) in two common stock offerings and 76 million shares from time to time during the period


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under various employee benefit (including our employee stock option plan) and director plans, as well as under our dividend reinvestment and direct stock purchase programs.
     In October 2008, we issued to the Treasury Department under its CPP 25,000 shares of our Fixed Rate Cumulative Perpetual Preferred Stock, Series D without par value, having a liquidation amount per share equal to $1,000,000, for a total price of $25 billion. We paid cumulative dividends on the preferred securities at a rate of 5% per year. The preferred securities are generally non-voting. As part of its purchase of the preferred securities, the Treasury Department also received a warrant to purchase 110,261,688 shares of our common stock at an initial per share exercise price of $34.01, subject to customary anti-dilution provisions. The warrant expires 10 years from the issuance date. Both the preferred securities and warrant were treated as Tier 1 capital.
     Wells Fargo was a participant in the FRB’s Supervisory Capital Assessment Program (SCAP) in 2009. On May 7, 2009, the FRB confirmed that under its adverse stress test scenario the Company’s Tier 1 capital exceeded the minimum level required for well-capitalized institutions. In conjunction with the stress test, the Company agreed with the FRB to generate a $13.7 billion regulatory capital buffer by November 9, 2009. To fulfill this requirement, on May 13, 2009, we issued 392 million shares of common stock in an offering to the public valued at $8.6 billion. The Company exceeded the $13.7 billion capital buffer requirement by $6.0 billion through the common stock offering, strong revenue performance, realization of deferred tax assets and other internally generated sources, including core deposit intangible amortization.
     On December 23, 2009, we redeemed all of the Series D preferred stock and repaid the Treasury Department the entire $25 billion investment, plus accrued dividends, pursuant to terms approved by the U.S. banking regulators and the U.S. Treasury. As a precondition to redeeming the preferred stock, we issued 490 million shares in an offering to the public valued at $12.2 billion on December 18, 2009. The Treasury Department continues to hold the warrant issued in conjunction with the Series D preferred stock in October 2008.
     In total, we issued $20.8 billion (gross proceeds) in public common stock offerings in 2009, and $33 billion since October 2008 when we announced our plans to acquire Wachovia.
     From time to time the Board authorizes the Company to repurchase shares of our common stock. Although we announce when the Board authorizes share repurchases, we typically do not give any public notice before we repurchase our shares. Various factors determine the amount and timing of our share repurchases, including our capital requirements, the number of shares we expect to issue for acquisitions and employee benefit plans, market conditions (including the trading price of our stock), and regulatory and legal considerations. The FRB published clarifying supervisory guidance in first quarter 2009, SR 09-4 Applying Supervisory Guidance and Regulations on the Payment of Dividends, Stock Redemptions, and Stock Repurchases at Bank Holding Companies, pertaining to the FRB’s criteria, assessment and approval process for reductions in capital. As with all 19 participants in the SCAP, under this supervisory letter, before repurchasing our com-
mon shares, the Parent must consult with the Federal Reserve staff and demonstrate that its actions are consistent with the existing supervisory guidance, including demonstrating that its internal capital assessment process is consistent with the complexity of its activities and risk profile. In 2008, the Board authorized the repurchase of up to 25 million additional shares of our outstanding common stock. During 2009, we repurchased 8 million shares of our common stock, all from our employee benefit plans. At December 31, 2009, the total remaining common stock repurchase authority was approximately 6 million shares.
     Historically, our policy has been to repurchase shares under the “safe harbor” conditions of Rule 10b-18 of the Securities Exchange Act of 1934 including a limitation on the daily volume of repurchases. Rule 10b-18 imposes an additional daily volume limitation on share repurchases during a pending merger or acquisition in which shares of our stock will constitute some or all of the consideration. Our management may determine that during a pending stock merger or acquisition when the safe harbor would otherwise be available, it is in our best interest to repurchase shares in excess of this additional daily volume limitation. In such cases, we intend to repurchase shares in compliance with the other conditions of the safe harbor, including the standing daily volume limitation that applies whether or not there is a pending stock merger or acquisition.
     The Company and each of our subsidiary banks are subject to various regulatory capital adequacy requirements administered by the FRB and the OCC. Risk-based capital (RBC) guidelines establish a risk-adjusted ratio relating capital to different categories of assets and off-balance sheet exposures. At December 31, 2009, the Company and each of our subsidiary banks were “well capitalized” under applicable regulatory capital adequacy guidelines. See Note 25 (Regulatory and Agency Capital Requirements) to Financial Statements in this Report for additional information.
     Current regulatory RBC rules are based primarily on broad credit-risk considerations and limited market related risks, but do not take into account other types of risk a financial company may be exposed to. Our capital adequacy assessment process contemplates a wide range of risks that the Company is exposed to and also takes into consideration our performance under a variety of economic conditions, as well as regulatory expectations and guidance, rating agency viewpoints and the view of capital market participants.
     At December 31, 2009, stockholders’ equity and Tier 1 common equity levels were higher than prior to the Wachovia acquisition. During 2009, as regulators and the market focused on the composition of regulatory capital, the Tier 1 common equity ratio gained significant prominence as a metric of capital strength. There is no mandated minimum or “well capitalized” standard for Tier 1 common equity; instead the RBC rules state voting common stockholders’ equity should be the dominant element within Tier 1 common equity. Tier 1 common equity was $65.5 billion at December 31, 2009, or 6.46% of risk-weighted assets, an increase of $31.1 billion from a year ago. Table 31 provides the details of the Tier 1 common equity calculation.


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PRUDENTIAL JOINT VENTURE As described in the “Contractual Obligations” section in our 2008 Form 10-K, during 2009 we owned a controlling interest in a retail securities brokerage joint venture, which Wachovia entered into with Prudential Financial, Inc. (Prudential) in 2003. See also Note 1 (Summary of Significant Accounting Policies – Accounting Standards Adopted in 2009) to Financial Statements in this Report for additional information. In 2009, Prudential’s noncontrolling interest was 23% of the joint venture. On December 31, 2009, we purchased Prudential’s noncontrolling interest for $4.5 billion in cash. We now own 100% of the retail securities brokerage business.
Table 31: Tier 1 Common Equity (1)
 
                         
            December 31,  
(in billions)           2009     2008  
   
Total equity
          $ 114.4       102.3  
Less: Noncontrolling interests
            (2.6 )     (3.2 )
   
Total Wells Fargo stockholders’ equity
            111.8       99.1  
   
Less: Preferred equity
            (8.1 )     (30.8 )
Goodwill and intangible assets (other than MSRs)
            (37.7 )     (38.1 )
Applicable deferred tax assets
            5.3       5.6  
Deferred tax asset limitation
            (1.0 )     (6.0 )
MSRs over specified limitations
            (1.6 )     (1.5 )
Cumulative other comprehensive income
            (3.0 )     6.9  
Other
            (0.2 )     (0.8 )
   
Tier 1 common equity
    (A)     $ 65.5       34.4  
   
Total risk-weighted assets (2)
    (B)     $ 1,013.6       1,101.3  
   
Tier 1 common equity to total
risk-weighted assets
    (A)/ (B)     6.46 %     3.13  
   
(1)   Tier 1 common equity is a non-GAAP financial measure that is used by investors, analysts and bank regulatory agencies, including the Federal Reserve in the SCAP, to assess the capital position of financial services companies. Tier 1 common equity includes total Wells Fargo stockholders’ equity, less preferred equity, goodwill and intangible assets (excluding MSRs), net of related deferred taxes, adjusted for specified Tier 1 regulatory capital limitations covering deferred taxes, MSRs, and cumulative other comprehensive income. Management reviews Tier 1 common equity along with other measures of capital as part of its financial analyses and has included this non-GAAP financial information, and the corresponding reconciliation to total equity, because of current interest in such information on the part of market participants.
(2)   Under the regulatory guidelines for risk-based capital, on-balance sheet assets and credit equivalent amounts of derivatives and off-balance sheet items are assigned to one of several broad risk categories according to the obligor or, if relevant, the guarantor or the nature of any collateral. The aggregate dollar amount in each risk category is then multiplied by the risk weight associated with that category. The resulting weighted values from each of the risk categories are aggregated for determining total risk-weighted assets.


Critical Accounting Policies
 

Our significant accounting policies (see Note 1 (Summary of Significant Accounting Policies) to Financial Statements in this Report) 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. Six of these policies are critical because they require 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. These policies govern:
  the allowance for credit losses;
 
  purchased credit-impaired (PCI) loans;
 
  the valuation of residential mortgage servicing rights (MSRs);
 
  the fair valuation of financial instruments;
 
  pension accounting; and
 
  income taxes.
     Management has reviewed and approved these critical accounting policies and has discussed these policies with the Audit and Examination Committee of the Company’s Board.
Allowance for Credit Losses
The allowance for credit losses, which consists of the allowance for loan losses and the reserve for unfunded credit commitments, reflects management’s judgment of probable credit losses inherent in the portfolio and unfunded lending commitments at the balance sheet date.
     We use a disciplined process and methodology to establish our allowance for credit each quarter. While our methodology attributes portions of the allowance to specific portfolios as part of our analytical process, the entire allowance for credit losses is available to absorb credit losses in the total loan portfolio. Additionally, while the allowance is built by portfolio, it is allocated by loan type for external reporting purposes.
     To determine the total allowance for loan losses, we estimate the reserves needed for each component of the portfolio, including loans analyzed individually and loans analyzed on a pooled basis.
     The allowance for loan losses consists of amounts applicable to: (i) the consumer portfolio; (ii) the commercial, CRE and lease financing portfolio (including reserve for unfunded credit commitments); and (iii) the PCI portfolio.


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     To determine the consumer portfolio component of the allowance, loans are pooled by portfolio and losses are modeled using historical experience, quantitative and other mathematical techniques over the loss emergence period. Each business group exercises significant judgment in the determination of the model type and/or segmentation method that fits the credit risk characteristics of its portfolio. We use both internally developed and vendor supplied models in this process. We often use roll rate/net flow models for near-term loss projections, and vintage-based models, behavior score models, and time series/statistical trend models for longer-term projections. Management must use judgment in establishing additional input metrics for the modeling processes, such as portfolio segmentation by sub-product, origination channel, vintage, loss type, geographic, loan to collateral value, FICO score, and other predictive characteristics.
     The models we use to determine the allowance are independently validated and reviewed to ensure that their theoretical foundation, assumptions, data integrity, computational processes, reporting practices, and end-user controls are appropriate and properly documented.
     We estimate consumer credit losses under multiple economic scenarios to establish a range of potential outcomes. Management applies judgment to develop its own view of loss probability within that range, using external and internal parameters with the objective of establishing an allowance for the losses inherent within these portfolios as of the reporting date.
     In addition to the allowance for the pooled consumer portfolios, we develop a separate allowance for loans that are identified as impaired through a TDR. These loans are excluded from pooled loss forecasts and a separate reserve is provided under the accounting guidance for loan impairment.
     We estimate the component of the allowance for loan losses for the non-impaired commercial and CRE portfolios through the application of loss factors to loans grouped by their individual credit risk rating specialists. These ratings reflect the estimated default probability and quality of underlying collateral. The loss factors used are statistically derived through the observation of losses incurred for loans within each credit risk rating over a specified period of time. In addition, we apply a loan equivalent factor, which is also statistically derived, to unfunded loan commitments and letters of credit by credit risk grade to determine the reserve for unfunded credit commitments. As appropriate, we adjust or supplement these allowance factors and estimates to reflect other risks that may be identified from current conditions and developments in selected portfolios.
     The commercial component of the allowance also includes an amount for the estimated impairment in nonaccrual commercial and CRE loans with a credit exposure of $5 million or greater. Commercial and CRE loans whose terms have been modified in a TDR are also individually analyzed for estimated impairment.
     PCI loans may require an allowance subsequent to their acquisition. This allowance requirement generally results from decreases in expected cash flows.
     Reflected in all of the components of the allowance for credit losses, including the reserve for unfunded commit-
ments, is an amount for imprecision or uncertainty, which represents management’s judgment of risks inherent in the processes and assumptions used in establishing the allowance. This imprecision considers economic environmental factors, modeling assumptions and performance, process risk, and other subjective factors. No single statistic or measurement determines the adequacy of the allowance for credit losses.
     Changes in the allowance for credit losses and the related provision expense can materially affect net income. The establishment of the allowance for credit losses relies on a consistent quarterly process that requires multiple layers of management review and judgment and responds to changes in economic conditions, customer behavior, and collateral value, among other influences. From time to time, events or economic factors may affect the loan portfolio, causing management to provide additional amounts to or release balances from the allowance for credit losses.
     Our allowance for loan losses is sensitive to risk ratings assigned to individually rated loans and economic assumptions and delinquency trends driving statistically modeled reserves. Individual loan risk ratings are evaluated based on each situation by experienced senior credit officers. Forecasted losses are modeled using economic scenarios ranging from strong recovery to slow recovery.
     Assuming a one risk grade downgrade throughout our individually rated portfolio, a slow recovery (adverse) economic scenario for modeled losses and incremental deterioration in our PCI cash flows could imply an additional reserve requirement of approximately $10 billion.
     Assuming a one risk grade upgrade throughout our individually rated portfolio and a strong recovery economic scenario for modeled losses could imply a reduced reserve requirement of approximately $3.3 billion.
     These sensitivity analyses provided are hypothetical scenarios and are not considered probable. They do not represent management’s view of inherent losses in the portfolio as of the balance sheet date. Because significant judgment is used, it is possible that others performing similar analyses could reach different conclusions.
     See the “Risk Management – Credit Risk Management Process” section and Note 6 (Loans and Allowance for Credit Losses) to Financial Statements in this Report for further discussion of our allowance.
Purchased Credit-Impaired (PCI) Loans
Loans purchased with evidence of credit deterioration since origination and for which it is probable that all contractually required payments will not be collected are considered to be credit impaired. PCI loans represent loans acquired from Wachovia that were deemed to be credit impaired. Evidence of credit quality deterioration as of the purchase date may include statistics such as past due and nonaccrual status, recent borrower credit scores and recent LTV percentages. PCI loans are initially measured at fair value, which includes estimated future credit losses expected to be incurred over the life of the loan. Accordingly, the associated allowance for credit losses related to these loans is not carried over at the acquisition date. We estimated the cash flows expected to be


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collected at acquisition using our internal credit risk, interest rate risk and prepayment risk models, which incorporate our best estimate of current key assumptions, such as property values, default rates, loss severity and prepayment speeds.
     Under the accounting guidance for PCI loans, the excess of cash flows expected to be collected over the estimated fair value is referred to as the accretable yield and is recognized in interest income over the remaining life of the loan, or pool of loans, in situations where there is a reasonable expectation about the timing and amount of cash flows expected to be collected. The difference between the contractually required payments and the cash flows expected to be collected at acquisition, considering the impact of prepayments, is referred to as the nonaccretable difference.
     In addition, subsequent to acquisition, we are required to periodically evaluate our estimate of cash flows expected to be collected. These evaluations, performed quarterly, require the continued usage of key assumptions and estimates, similar to the initial estimate of fair value. Given the current economic environment, we must apply judgment to develop our estimates of cash flows for PCI loans given the impact of home price and property value changes, changing loss severities and prepayment speeds. Decreases in the expected cash flows will generally result in a charge to the provision for credit losses resulting in an increase to the allowance for loan losses. Increases in the expected cash flows will generally result in an increase in interest income over the remaining life of the loan, or pool of loans. Disposals of loans, which may include sales of loans to third parties, receipt of payments in full or part by the borrower, and foreclosure of the collateral, result in removal of the loan from the PCI loan portfolio at its carrying amount. The amount of cash flows expected to be collected and, accordingly, the adequacy of the allowance for loan loss due to certain decreases in expected cash flow, is particularly sensitive to changes in loan credit quality. The sensitivity of the overall allowance for loan losses, including PCI loans, to a one risk downgrade is presented in the preceding section, “Critical Accounting Policies – Allowance for Credit Losses.”
     We aggregated loans acquired in the same fiscal quarter into one or more pools, provided that the loans have common risk characteristics. A pool is then accounted for as a single asset with a single composite interest rate and an aggregate expectation of cash flows. We aggregated all of the consumer loans and commercial and CRE loans with balances of $3 million or less into pools with common risk characteristics. We accounted for commercial and CRE loans with balances in excess of $3 million individually.
     PCI loans that were classified as nonperforming loans by Wachovia are no longer classified as nonperforming because, at acquisition, we believe we will fully collect the new carrying value of these loans. It is important to note that judgment is required to classify PCI loans as performing, and is dependent on having a reasonable expectation about the timing and amount of cash flows expected to be collected, even if the loan is contractually past due.
     See the “Risk Management – Credit Risk Management Process” section and Note 6 (Loans and Allowance for Credit Losses) to Financial Statements in this Report for further discussion of PCI loans.
Valuation of Residential Mortgage Servicing Rights
We recognize as assets the rights to service mortgage loans for others, or mortgage servicing rights (MSRs), whether we purchase the servicing rights, or the servicing rights result from the sale or securitization of loans we originate (asset transfers). We also acquire MSRs under co-issuer agreements that provide for us to service loans that are originated and securitized by third-party correspondents. We initially measure and carry our MSRs related to residential mortgage loans (residential MSRs) using the fair value measurement method, under which purchased MSRs and MSRs from asset transfers are capitalized and carried at fair value.
     At the end of each quarter, we determine the fair value of MSRs using a valuation model that calculates the present value of estimated future net servicing income. The model incorporates assumptions that market participants use in estimating future net servicing income, including estimates of prepayment speeds (including housing price volatility), discount rate, default rates, cost to service (including delinquency and foreclosure costs), escrow account earnings, contractual servicing fee income, ancillary income and late fees. The valuation of MSRs is discussed further in this section and in Note 1 (Summary of Significant Accounting Policies), Note 8 (Securitizations and Variable Interest Entities), Note 9 (Mortgage Banking Activities) and Note 16 (Fair Values of Assets and Liabilities) to Financial Statements in this Report.
     To reduce the sensitivity of earnings to interest rate and market value fluctuations, we may use securities available for sale and free-standing derivatives (economic hedges) to hedge the risk of changes in the fair value of MSRs, with the resulting gains or losses reflected in income. Changes in the fair value of the MSRs from changing mortgage interest rates are generally offset by gains or losses in the fair value of the derivatives depending on the amount of MSRs we hedge and the particular instruments used to hedge the MSRs. We may choose not to fully hedge MSRs, partly because origination volume tends to act as a “natural hedge.” For example, as interest rates decline, servicing values generally decrease and fees from origination volume tend to increase. Conversely, as interest rates increase, the fair value of the MSRs generally increases, while fees from origination volume tend to decline. See the “Risk Management – Mortgage Banking Interest Rate and Market Risk” section in this Report for discussion of the timing of the effect of changes in mortgage interest rates.
     Net servicing income, a component of mortgage banking noninterest income, includes the changes from period to period in fair value of both our residential MSRs and the free-standing derivatives (economic hedges) used to hedge our residential MSRs. Changes in the fair value of residential MSRs from period to period result from (1) changes in the valuation model inputs or assumptions (principally reflecting changes in discount rates and prepayment speed assumptions, mostly due to changes in interest rates) and (2) other changes, representing changes due to collection/realization of expected cash flows.


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     We use a dynamic and sophisticated model to estimate the value of our MSRs. The model is validated by an independent internal model validation group operating in accordance with Company policies. Senior management reviews all significant assumptions quarterly. Mortgage loan prepayment speed—a key assumption in the model—is the annual rate at which borrowers are forecasted to repay their mortgage loan principal. The discount rate used to determine the present value of estimated future net servicing income—another key assumption in the model—is the required rate of return investors in the market would expect for an asset with similar risk. To determine the discount rate, we consider the risk premium for uncertainties from servicing operations (e.g., possible changes in future servicing costs, ancillary income and earnings on escrow accounts). Both assumptions can, and generally will, change quarterly as market conditions and interest rates change. For example, an increase in either the prepayment speed or discount rate assumption results in a decrease in the fair value of the MSRs, while a decrease in either assumption would result in an increase in the fair value of the MSRs. In recent years, there have been significant market-driven fluctuations in loan prepayment speeds and the discount rate. These fluctuations can be rapid and may be significant in the future. Therefore, estimating prepayment speeds within a range that market participants would use in determining the fair value of MSRs requires significant management judgment.
     These key economic assumptions and the sensitivity of the fair value of MSRs to an immediate adverse change in those assumptions are shown in Note 8 (Securitizations and Variable Interest Entities) to Financial Statements in this Report.
Fair Valuation of Financial Instruments
We use fair value measurements to record fair value adjustments to certain financial instruments and to determine fair value disclosures. Trading assets, securities available for sale, derivatives, prime residential MHFS, certain commercial loans held for sale (LHFS), principal investments and securities sold but not yet purchased (short sale liabilities) are recorded at fair value on a recurring basis. Additionally, from time to time, we may be required to record at fair value other assets on a nonrecurring basis, such as certain MHFS and LHFS, loans held for investment and certain other assets. These nonrecurring fair value adjustments typically involve application of lower-of-cost-or-market accounting or write-downs of individual assets. Further, we include in the Notes to Financial Statements in this Report, information about the extent to which fair value is used to measure assets and liabilities, the valuation methodologies used and its effect on earnings. Additionally, for financial instruments not recorded at fair value we disclose the estimate of their fair value.
     Fair value represents the price that would be received to sell the financial asset or paid to transfer the financial liability in an orderly transaction between market participants at the measurement date.
     The accounting provisions for fair value measurements include a three-level hierarchy for disclosure of assets and liabilities recorded at fair value. The classification of assets
and liabilities within the hierarchy is based on whether the inputs to the valuation methodology used for measurement are observable or unobservable. Observable inputs reflect market-derived or market-based information obtained from independent sources, while unobservable inputs reflect our estimates about market data.
  Level 1 – Valuation is based upon quoted prices for identical instruments traded in active markets. Level 1 instruments include securities traded on active exchange markets, such as the New York Stock Exchange, as well as U.S. Treasury and other U.S. government securities that are traded by dealers or brokers in active OTC markets.
 
  Level 2 – Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques, such as matrix pricing, for which all significant assumptions are observable in the market. Level 2 instruments include securities traded in functioning dealer or broker markets, plain-vanilla interest rate derivatives and MHFS that are valued based on prices for other mortgage whole loans with similar characteristics.
 
  Level 3 – Valuation is generated primarily from model-based techniques that use significant assumptions not observable in the market. These unobservable assumptions reflect our own estimates of assumptions market participants would use in pricing the asset or liability. Valuation techniques include use of option pricing models, discounted cash flow models and similar techniques.
     When developing fair value measurements, we maximize the use of observable inputs and minimize the use of unobservable inputs. When available, we use quoted prices in active markets to measure fair value. If quoted prices in active markets are not available, fair value measurement is based upon models that use primarily market-based or independently sourced market parameters, including interest rate yield curves, prepayment speeds, option volatilities and currency rates. However, in certain cases, when market observable inputs for model-based valuation techniques may not be readily available, we are required to make judgments about assumptions market participants would use in estimating the fair value of the financial instrument.
     The degree of management judgment involved in determining the fair value of a financial instrument is dependent upon the availability of quoted prices in active markets or observable market parameters. For financial instruments with quoted market prices or observable market parameters in active markets, there is minimal subjectivity involved in measuring fair value. When quoted prices and observable data in active markets are not fully available, management judgment is necessary to estimate fair value. Changes in the market conditions, such as reduced liquidity in the capital markets or changes in secondary market activities, may reduce the availability and reliability of quoted prices or observable data used to determine fair value. When significant adjustments are required to price quotes or inputs, it may be appropriate to utilize an estimate based primarily on unobservable inputs. When an active market for a financial instrument does not


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exist, the use of management estimates that incorporate current market participant expectations of future cash flows, adjusted for an appropriate risk premium, is acceptable.
     In connection with the first quarter 2009 adoption of the new fair value measurement guidance included in FASB ASC 820, Fair Value Measurements and Disclosures, we developed policies and procedures to determine when markets for our financial assets and liabilities are inactive if the level and volume of activity has declined significantly relative to normal conditions. If markets are determined to be inactive, it may be appropriate to adjust price quotes received. The methodology we use to adjust the quotes generally involves weighting the price quotes and results of internal pricing techniques, such as the net present value of future expected cash flows (with observable inputs, where available) discounted at a rate of return market participants require to arrive at the fair value. The more active and orderly markets for particular security classes are determined to be, the more weighting we assign to price quotes. The less active and orderly markets are determined to be, the less weighting we assign to price quotes.
     We may use independent pricing services and brokers to obtain fair values based on quoted prices. We determine the most appropriate and relevant pricing service for each security class and generally obtain one quoted price for each security. For certain securities, we may use internal traders to obtain quoted prices. Quoted prices are subject to our internal price verification procedures. We validate prices received using a variety of methods, including, but not limited to, comparison to pricing services, corroboration of pricing by reference to other independent market data such as secondary broker quotes and relevant benchmark indices, and review of pricing by Company personnel familiar with market liquidity and other market-related conditions. We believe the determination of fair value for our securities is consistent with the accounting guidance on fair value measurements.
     Significant judgment may be required to determine whether certain assets measured at fair value are included in Level 2 or Level 3. When making this judgment, we consider all available information, including observable market data, indications of market liquidity and orderliness, and our understanding of the valuation techniques and significant inputs used. For securities in inactive markets, we use a predetermined percentage to evaluate the impact of fair value adjustments derived from weighting both external and internal indications of value to determine if the instrument is classified as Level 2 or Level 3. Otherwise, the classification of Level 2 or Level 3 is based upon the specific facts and circumstances of each instrument or instrument category and judgments are made regarding the significance of the Level 3 inputs to the instruments’ fair value measurement in its entirety. If Level 3 inputs are considered significant, the instrument is classified as Level 3.
     Our financial assets valued using Level 3 measurements consisted of certain asset-backed securities, including those collateralized by auto leases or loans and cash reserves, private collateralized mortgage obligations (CMOs), collateralized debt obligations (CDOs), collateralized loan obligations
(CLOs), auction-rate securities, certain derivative contracts such as credit default swaps related to CMO, CDO and CLO exposures and certain MHFS and MSRs.
     Approximately 22% of total assets ($277.4 billion) at December 31, 2009, and 19% of total assets ($247.5 billion) at December 31, 2008, consisted of financial instruments recorded at fair value on a recurring basis. The fair value of assets measured using significant Level 3 inputs (before derivative netting adjustments) represented approximately 19% of these financial instruments (4% of total assets) at December 31, 2009, and approximately 22% (4% of total assets) at December 31, 2008. The fair value of the remaining assets was measured using valuation methodologies involving market-based or market-derived information, collectively Level 1 and 2 measurements.
     Approximately 2% of total liabilities ($22.8 billion) at December 31, 2009, and 2% ($18.8 billion) at December 31, 2008, consisted of financial instruments recorded at fair value on a recurring basis. The fair value of liabilities measured using Level 3 inputs (before derivative netting adjustments) was $7.9 billion and $9.3 billion at December 31, 2009 and 2008, respectively.
     See Note 16 (Fair Values of Assets and Liabilities) to Financial Statements in this Report for a complete discussion on our use of fair valuation of financial instruments, our related measurement techniques and its impact to our financial statements.
Pension Accounting
We account for our defined benefit pension plans using an actuarial model. The funded status of our pension and postretirement benefit plans is recognized in our balance sheet. In 2008, we began measuring our plan assets and benefit obligations using a year-end measurement date.
     On April 28, 2009, the Board approved amendments to freeze the benefits earned under the Wells Fargo qualified and supplemental Cash Balance Plans and the Wachovia Corporation Pension Plan, and to merge the Pension Plan into the qualified Cash Balance Plan. These actions became effective on July 1, 2009.
     We use four key variables to calculate our annual pension cost: size and characteristics of the employee population, actuarial assumptions, expected long-term rate of return on plan assets, and discount rate. We describe below the effect of each of these variables on our pension expense.
SIZE AND CHARACTERISTICS OF THE EMPLOYEE POPULATION
Pension expense is directly related to the number of employees covered by the plans, and other factors including salary, age and years of employment. As of July 1, 2009, pension expense will no longer be dependent on salaries earned and service cost will no longer be recognized for the plans that were frozen in 2009. In 2009, pension expense for the qualified and unqualified Cash Balance plans was about $317 million, which includes one-time curtailment gains of $59 million resulting from the freezing of these plans. In 2010, pension expense for these plans is estimated to be a credit of approximately $44 million; the decrease in pension expense in 2010 is primarily due to no longer incurring service cost.


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ACTUARIAL ASSUMPTIONS To estimate the projected benefit obligation, actuarial assumptions are required about factors such as the rates of mortality, turnover, retirement, disability and compensation increases for our participant population. These demographic assumptions are reviewed periodically. In general, the range of assumptions is narrow. The compensation increase assumption does not apply to the plans that were frozen in 2009.
EXPECTED LONG-TERM RATE OF RETURN ON PLAN ASSETS We determine the expected return on plan assets each year based on the composition of assets and the expected long-term rate of return on that portfolio. The expected long-term rate of return assumption is a long-term assumption and is not anticipated to change significantly from year to year.
     To determine if the expected rate of return is reasonable, we consider such factors as (1) long-term historical return experience for major asset class categories (for example, large cap and small cap domestic equities, international equities and domestic fixed income), and (2) forward-looking return expectations for these major asset classes. Our expected rate of return for 2010 is 8.25%, a decrease from 8.75%, the expected rate of return for 2009 and 2008. The decrease reflects our decision to de-emphasize the use of the Tactical Asset Allocation model. Differences in each year, if any, between expected and actual returns are included in our net actuarial gain or loss amount, which is recognized in OCI. We generally amortize any net actuarial gain or loss in excess of a 5% corridor (as defined in accounting guidance for retirement benefits) in net periodic pension expense calculations over our estimated average remaining participation period of 13 years. See Note 19 (Employee Benefits and Other Expenses) to Financial Statements in this Report for information on funding, changes in the pension benefit obligation, and plan assets (including the investment categories, asset allocation and the fair value).
     If we were to assume a 1% increase/decrease in the expected long-term rate of return, holding the discount rate and other actuarial assumptions constant, 2010 pension expense would decrease/increase by approximately $91 million.
DISCOUNT RATE We use a discount rate to determine the present value of our future benefit obligations. The discount rate reflects the current rates available on long-term high-quality fixed-income debt instruments, and is reset annually on the measurement date. To determine the discount rate, we review, with our independent actuary, spot interest rate yield curves based upon yields from a broad population of high-quality bonds, adjusted to match the timing and amounts of the Cash Balance Plan’s expected benefit payments. We used a discount rate of 5.75% in 2009 and 6.75% in 2008.
     If we were to assume a 1% increase in the discount rate, and keep the expected long-term rate of return and other actuarial assumptions constant, 2010 pension expense would decrease by approximately $33 million. If we were to assume a 1% decrease in the discount rate, and keep other assumptions
constant, 2010 pension expense would increase by approximately $36 million. The decrease in pension expense due to a 1% increase in discount rate differs slightly from the increase in pension expense due to a 1% decrease in discount rate due to the impact of the 5% gain/loss corridor.
Income Taxes
We are subject to the income tax laws of the U.S., its states and municipalities and those of the foreign jurisdictions in which we operate. Our income tax expense consists of two components: current and deferred. Current income tax expense approximates taxes to be paid or refunded for the current period and includes income tax expense related to our uncertain tax positions. We determine deferred income taxes using the balance sheet method. Under this method, the net deferred tax asset or liability is based on the tax effects of the differences between the book and tax bases of assets and liabilities, and recognized enacted changes in tax rates and laws in the period in which they occur. Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are recognized subject to management’s judgment that realization is “more likely than not.” Uncertain tax positions that meet the more likely than not recognition threshold are measured to determine the amount of benefit to recognize. An uncertain tax position is measured at the largest amount of benefit that management believes has a greater than 50% likelihood of realization upon settlement. Foreign taxes paid are generally applied as credits to reduce federal income taxes payable. We account for interest and penalties as a component of income tax expense.
     The income tax laws of the jurisdictions in which we operate are complex and subject to different interpretations by the taxpayer and the relevant government taxing authorities. In establishing a provision for income tax expense, we must make judgments and interpretations about the application of these inherently complex tax laws. We must also make estimates about when in the future certain items will affect taxable income in the various tax jurisdictions by the government taxing authorities, both domestic and foreign. Our interpretations may be subjected to review during examination by taxing authorities and disputes may arise over the respective tax positions. We attempt to resolve these disputes during the tax examination and audit process and ultimately through the court systems when applicable.
     We monitor relevant tax authorities and revise our estimate of accrued income taxes due to changes in income tax laws and their interpretation by the courts and regulatory authorities on a quarterly basis. Revisions of our estimate of accrued income taxes also may result from our own income tax planning and from the resolution of income tax controversies. Such revisions in our estimates may be material to our operating results for any given quarter.
     See Note 20 (Income Taxes) to Financial Statements in this Report for a further description of our provision for income taxes and related income tax assets and liabilities.


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Current Accounting Developments
 

The following accounting pronouncements were issued by the FASB, but are not yet effective:
  ASU 2010-6, Improving Disclosures about Fair Value Measurements;
 
  ASU 2009-16, Accounting for Transfers of Financial Assets (FAS 166, Accounting for Transfers of Financial Assets – an amendment of FASB Statement No. 140); and
 
  ASU 2009-17, Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities (FAS 167, Amendments to FASB Interpretation No. 46(R)).
     Information about these pronouncements is further described in more detail below.
ASU 2010-6 changes the disclosure requirements for fair value measurements. Companies are now required to disclose significant transfers in and out of Levels 1 and 2 of the fair value hierarchy, whereas existing rules only require the disclosure of transfers in and out of Level 3. Additionally, in the rollforward of Level 3 activity, companies should present information on purchases, sales, issuances, and settlements on a gross basis rather than on a net basis as is currently allowed. The Update also clarifies that fair value measurement disclosures should be presented for each class of assets and liabilities. A class is typically a subset of a line item in the statement of financial position. Companies should also provide information about the valuation techniques and inputs used to measure fair value for both recurring and nonrecurring instruments classified as either Level 2 or Level 3. ASU 2010-6 is effective for us in first quarter 2010 with prospective application, except for the new requirement related to the Level 3 rollforward. Gross presentation in the Level 3 rollforward is effective for us in first quarter 2011 with prospective application. Our adoption of the Update will not affect our consolidated financial results since it amends only the disclosure requirements for fair value measurements.
ASU 2009-16 (FAS 166) modifies certain guidance contained in FASB ASC 860, Transfers and Servicing. This pronouncement eliminates the concept of QSPEs and provides additional criteria transferors must use to evaluate transfers of financial assets. To determine if a transfer is to be accounted for as a sale, the transferor must assess whether it and all of the entities included in its consolidated financial statements have surrendered control of the assets. A transferor must consider all arrangements or agreements made or contemplated at the time of transfer before reaching a conclusion on whether control has been relinquished. The new guidance addresses situations in which a portion of a financial asset is transferred. In such instances the transfer can only be accounted for as a sale when the transferred portion is considered to be a participating interest. The Update also requires that any assets or liabilities retained from a transfer accounted for as a sale be initially recognized at fair value. This pronouncement is effective for us as of January 1, 2010, with adoption applied prospectively for transfers that occur on and after the effective date.
ASU 2009-17 (FAS 167) amends several key consolidation provisions related to VIEs, which are included in FASB ASC 810, Consolidation. First, the scope of the new guidance includes entities that are currently designated as QSPEs. Second, companies are to use a different approach to identify the VIEs for which they are deemed to be the primary beneficiary and are required to consolidate. Under existing rules, the primary beneficiary is the entity that absorbs the majority of a VIE’s losses and receives the majority of the VIE’s returns. The new guidance identifies a VIE’s primary beneficiary as the entity that has the power to direct the VIE’s significant activities, and has an obligation to absorb losses or the right to receive benefits that could be potentially significant to the VIE. Third, companies will be required to continually reassess whether they are the primary beneficiary of a VIE. Existing rules only require companies to reconsider primary beneficiary conclusions when certain triggering events have occurred. The Update is effective for us as of January 1, 2010, and applies to all existing QSPEs and VIEs, and VIEs created after the effective date.
     We have performed an analysis of these accounting pronouncements with respect to QSPE and VIE structures currently applicable to us. Application of these new accounting pronouncements will result in the January 1, 2010, consolidation of certain QSPEs and VIEs that were not included in our consolidated financial statements at December 31, 2009. Tables 32 and 33 present the estimated impacts to our financial statements of those newly consolidated QSPEs and VIE structures.
     Implementation of ASU 2009-17 (FAS 167) has been deferred for certain investment funds and accordingly, will not be consolidated under ASU 2009-17 (FAS 167).
 
Table 32:   Estimated Impact of Initial 2010 Application of ASU 2009-16 (FAS 166) and ASU 2009-17 (FAS 167) by Structure Type
 
                         
  Incremental     Incremental     Retained  
(in billions, except   GAAP     risk-weighted     earnings  
retained earnings in millions)   assets     assets     impact (2)
   
Residential mortgage loans – nonconforming (1)
  $ 13       5       240  
Commercial paper conduit
    5       3       (4 )
Other
    2       2       27  
   
Total
  $ 20       10       263  
   
 
(1)   Represents certain of our residential mortgage loans that are not guaranteed by GSEs (“nonconforming”).
(2)   Represents cumulative effect (after tax) of adopting ASU 2009-17 (FAS 167) recorded to retained earnings on January 1, 2010.


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Table 33:   Estimated Impact of Initial 2010 Application of ASU 2009-16 (FAS 166) and ASU 2009-17 (FAS 167) by Balance Sheet Classification
 
                         
(in billions)   Assets     Liabilities     Equity  
   
Net increase (decrease)
                       
Trading assets
  $ 0.1              
Securities available for sale
    (7.2 )            
Loans, net(1)
    26.3              
Short-term borrowings
          5.2        
Long-term debt
          13.8        
Other
    0.4       0.1        
Cumulative other comprehensive income
                0.2  
Retained earnings
                0.3  
   
Total
  $ 19.6       19.1       0.5  
   
(1)   Includes $1.3 billion of nonaccrual loans, substantially all of which are real estate 1-4 family first mortgage loans.
     We have refined our estimate disclosed in our third quarter 2009 Form 10-Q due largely to the sale of residential MBS and the proposed amendment to ASU 2009-17 (FAS 167), which defers application to certain investment funds. The cumulative effect of adopting these statements will be recorded as an adjustment to retained earnings on January 1, 2010.


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,” “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 the Company; expectations for consumer and commercial credit losses, life-of-loan losses, and the sufficiency of our credit loss allowance to cover future credit losses; the merger integration of the Company and Wachovia, including expense savings, merger costs and revenue synergies; the expected outcome and impact of legal, regulatory and legislative developments; and the Company’s plans, objectives and strategies.
     Forward-looking statements are based on 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 you, 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:
  the effect of political and economic conditions and geopolitical events;
 
  economic conditions that affect the general economy, housing prices, the job market, consumer confidence and spending habits;
 
  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 availability and cost of both credit and capital as well as the credit ratings assigned to our debt instruments;
 
  investor sentiment and confidence in the financial markets;
 
  our reputation;
 
  the impact of current, pending and future legislation, regulation and legal actions;
 
  changes in accounting standards, rules and interpretations;
 
  mergers and acquisitions, and our ability to integrate them;
 
  various monetary and fiscal policies and regulations of the U.S. and foreign governments; and
 
  the other factors described in “Risk Factors” below.
     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.


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Risk Factors
 

An investment in the Company 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. We discuss below and elsewhere in this Report, as well as in other documents we file with the SEC, risk factors that could adversely affect our financial results and condition and the value of, and return on, an investment in the Company. We refer you to the Financial Review section and Financial Statements (and related Notes) in this Report for more information about credit, interest rate, market and litigation risks and to the “Regulation and Supervision” section of our 2009 Form 10-K for more information about legislative and regulatory risks. Any factor described below or elsewhere in this Report or in our 2009 Form 10-K could by itself, or together with other factors, adversely affect our financial results and condition. Refer to our quarterly reports on Form 10-Q filed with the SEC in 2010 for material changes to the discussion of risk factors. There are factors not discussed below or elsewhere in this Report that could adversely affect our financial results and condition.
RISKS RELATING TO CURRENT ECONOMIC AND MARKET CONDITIONS
Our financial results and condition may be adversely affected if home prices continue to fall or unemployment continues to increase. Significant declines in home prices over the last two years and recent increases in unemployment have resulted in higher loan charge-offs and increases in our allowance for credit losses and related provision expense. The economic environment and related conditions will directly affect credit performance. For example, if home prices continue to fall or unemployment continues to rise we would expect to incur higher than normal charge-offs and provision expense from increases in our allowance for credit losses. These conditions may adversely affect not only consumer loan performance but also commercial and CRE loans, especially those business borrowers that rely on the health of industries or properties that may experience deteriorating economic conditions.
Current financial and credit market conditions may persist or worsen, making it more difficult to access capital markets on favorable terms. Financial and credit markets may continue to experience unprecedented disruption and volatility. These conditions may continue or even worsen, affecting our ability to access capital markets on favorable terms. We may raise additional capital through the issuance of common stock, which could dilute existing stockholders, or further reduce or even eliminate our common stock dividend to preserve capital or in order to raise additional capital.
Bank regulators may require higher capital levels, limiting our ability to pay common stock dividends or repurchase our common stock. On December 23, 2009, we repaid the U.S. Treasury’s investment in us under the TARP CPP program. While we are no longer a participant in the TARP CPP program, federal banking regulators continue to monitor the capital position of banks and bank holding companies. Although not currently anticipated, our regulators may require us to raise additional capital or otherwise restrict how we utilize our capital, including common stock dividends and stock repurchases. Issuing additional common stock may dilute existing stockholders.
     In addition, the U.S. Treasury continues to hold a warrant to purchase approximately 110.3 million shares of our common stock at $34.01 per share. If the warrant is exercised, the ownership of existing stockholders may be diluted.
Compensation restrictions could adversely affect our ability to recruit and retain key employees. Following repayment of the U.S. Treasury’s TARP CPP investment in December 2009, we are no longer subject to the compensation restrictions applicable to participants in the TARP CPP program. However, legislators and regulators may impose compensation restrictions on financial institutions, which could adversely affect our ability to compete for executive talent.
We may be required to repurchase mortgage loans or reimburse investors as a result of breaches in contractual representations and warranties. We sell mortgage loans to various parties, including GSEs, under contractual provisions that include various representations and warranties which typically cover ownership of the loan, compliance with loan criteria set forth in the applicable agreement, validity of the lien securing the loan, absence of delinquent taxes or liens against the property securing the loan, and similar matters. We may be required to repurchase the mortgage loans with identified defects, indemnify the investor or insurer, or reimburse the investor for credit loss incurred on the loan (collectively, “repurchase obligations”) in the event of a material breach of such contractual representations or warranties. In addition, we may negotiate global settlements in order to resolve repurchase obligations in lieu of repurchasing loans. If economic conditions and the housing market do not recover or future investor repurchase demand and our success at appealing repurchase requests differ from past experience, we could continue to have increased repurchase obligations and increased loss severity on repurchases, requiring material additions to the repurchase reserve.
For more information, refer to the “Risk Management – Reserve for Mortgage Loan Repurchase Losses” section in this Report.
Legislative and regulatory proposals may restrict or limit our ability to engage in our current businesses or in businesses that we desire to enter into. Many legislative and regulatory proposals directed at the financial services industry are being proposed or are pending in the U.S. Congress to address perceived weaknesses in the financial system and regulatory oversight thereof that may have contributed to the financial disruption over the last two years and to provide additional protection for consumers and investors. These proposals, if adopted, may restrict our ability to compete in our current businesses or restrict our ability to enter into new businesses that we otherwise may desire to enter into. In addition, the proposals may limit our revenues in businesses, impose fees or taxes on us, restrict compensation we may pay to key employees, restrict acquisition opportunities, and/or intensify the regulatory supervision of us and the financial services industry. These proposals, if adopted, may have a material adverse effect on our business operations, income, and/or competitive position.


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Bankruptcy laws may be changed to allow mortgage “cram-downs,” or court-ordered modifications to our mortgage loans including the reduction of principal balances. Under current bankruptcy laws, courts cannot force a modification of mortgage and home equity loans secured by primary residences. In response to the current financial crisis, legislation has been proposed to allow mortgage loan “cram-downs,” which would empower courts to modify the terms of mortgage and home equity loans including a reduction in the principal amount to reflect lower underlying property values. This could result in writing down the balance of our mortgage and home equity loans to reflect their lower loan values. There is also risk that home equity loans in a second lien position (i.e., behind a mortgage) could experience significantly higher losses to the extent they become unsecured as a result of a cram-down. The availability of principal reductions or other modifications to mortgage loan terms could make bankruptcy a more attractive option for troubled borrowers, leading to increased bankruptcy filings and accelerated defaults.
RISKS RELATING TO THE WACHOVIA MERGER
Our financial results and condition could be adversely affected if we fail to realize the expected benefits of the Wachovia merger or it takes longer than expected to realize those benefits. The merger with Wachovia Corporation requires the integration of the businesses of Wachovia and Wells Fargo. The integration process may result in the loss of key employees, the disruption of ongoing businesses and the loss of customers and their business and deposits. It may also divert management attention and resources from other operations and limit the Company’s ability to pursue other acquisitions. There is no assurance that we will realize the cost savings and other financial benefits of the merger when and in the amounts expected.
We may incur losses on loans, securities and other acquired assets of Wachovia that are materially greater than reflected in our preliminary fair value adjustments. We accounted for the Wachovia merger under the purchase method of accounting, recording the acquired assets and liabilities of Wachovia at fair value based on preliminary purchase accounting adjustments. Under purchase accounting, we had until one year after the merger date to finalize the fair value adjustments, meaning we could adjust the preliminary fair value estimates of Wachovia’s assets and liabilities based on new or updated information that provided a better estimate of the fair value at merger date.
     We recorded at fair value all PCI loans acquired in the merger based on the present value of their expected cash flows. We estimated cash flows using internal credit, interest rate and prepayment risk models using assumptions about matters that are inherently uncertain. We may not realize the estimated cash flows or fair value of these loans. In addition, although the difference between the pre-merger carrying value of the credit-impaired loans and their expected cash flows – the “nonaccretable difference” – is available to absorb future charge-offs, we may be required to increase our allowance for credit losses and related provision expense because of subsequent additional credit deterioration in these loans.
     For more information, refer to the “Overview” and “Critical Accounting Policies – Purchased Credit-Impaired Loans” sections in this Report.
GENERAL RISKS RELATING TO OUR BUSINESS
Higher charge-offs and worsening credit conditions could require us to increase our allowance for credit losses through a charge to earnings. When we loan money or commit to loan money we incur credit risk, or the risk of losses if our borrowers do not repay their loans. We reserve for credit losses by establishing an allowance through a charge to earnings. The amount of this allowance is based on our assessment of credit losses inherent in our loan portfolio (including unfunded credit commitments). The process for determining the amount of the allowance is critical to our financial results and condition. It requires difficult, subjective and complex judgments about the future, including forecasts of economic or market conditions that might impair the ability of our borrowers to repay their loans.
     We might underestimate the credit losses inherent in our loan portfolio and have credit losses in excess of the amount reserved. We might increase the allowance because of changing economic conditions, including falling home prices and higher unemployment, or other factors such as changes in borrower behavior. As an example, borrowers may be less likely to continue making payments on their real estate-secured loans if the value of the real estate is less than what they owe, even if they are still financially able to make the payments.
     While we believe that our allowance for credit losses was adequate at December 31, 2009, there is no assurance that it will be sufficient to cover future credit losses, especially if housing and employment conditions worsen. We may be required to build reserves in 2010, thus reducing earnings.
     For more information, refer to the “Risk Management – Credit Risk Management Process” and “Critical Accounting Policies –Allowance for Credit Losses” sections in this Report.
We may have more credit risk and higher credit losses to the extent our loans are concentrated by loan type, industry segment, borrower type, or location of the borrower or collateral. Our credit risk and credit losses can increase if our loans are concentrated to borrowers engaged in the same or similar activities or to borrowers who as a group may be uniquely or disproportionately affected by economic or market conditions. We experienced the effect of concentration risk in 2008 and 2009 when we incurred greater than expected losses in our Home Equity loan portfolio due to a housing slowdown and greater than expected deterioration in residential real estate values in many markets, including the Central Valley California market and several Southern California metropolitan statistical areas. As California is our largest banking state in terms of loans and deposits, continued deterioration in real estate values and underlying economic conditions in those markets or elsewhere in California could result in materially higher credit losses. As a result of the Wachovia merger, we have increased our exposure to California, as well as to Arizona and Florida, two states that have also suffered significant declines in home values. Continued deterioration in housing conditions and real estate values in these states and generally across the country could result in materially higher credit losses.
     For more information, refer to the “Risk Management – Credit Risk Management Process” section and Note 6 (Loans and Allowance for Credit Losses) to Financial Statements in this Report.


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Loss of customer deposits and market illiquidity could increase our funding costs. We rely on bank deposits to be a low cost and stable source of funding for the loans we make. We compete with banks and other financial services companies for deposits. If our competitors raise the rates they pay on deposits our funding costs may increase, either because we raise our rates to avoid losing deposits or because we lose deposits and must rely on more expensive sources of funding. Higher funding costs reduce our net interest margin and net interest income. As discussed above, the integration of Wells Fargo and Wachovia may result in the loss of customer deposits.
     We sell most of the mortgage loans we originate in order to reduce our credit risk and provide funding for additional loans. We rely on Fannie Mae and Freddie Mac to purchase loans that meet their conforming loan requirements and on other capital markets investors to purchase loans that do not meet those requirements—referred to as “nonconforming” loans. Since 2007, investor demand for nonconforming loans has fallen sharply, increasing credit spreads and reducing the liquidity for those loans. In response to the reduced liquidity in the capital markets, we may retain more nonconforming loans. When we retain a loan not only do we keep the credit risk of the loan but we also do not receive any sale proceeds that could be used to generate new loans. Continued lack of liquidity could limit our ability to fund—and thus originate—new mortgage loans, reducing the fees we earn from originating and servicing loans. In addition, we cannot assure that Fannie Mae and Freddie Mac will not materially limit their purchases of conforming loans due to capital constraints or change their criteria for conforming loans (e.g., maximum loan amount or borrower eligibility).
Changes in interest rates could reduce our net interest income and earnings. Our net interest income is the interest we earn on loans, debt securities and other assets we hold less the interest we pay on our deposits, long-term and short-term debt, and other liabilities. Net interest income is a measure of both our net interest margin—the difference between the yield we earn on our assets and the interest rate we pay for deposits and our other sources of funding—and the amount of earning assets we hold. Changes in either our net interest margin or the amount of earning assets we hold could affect our net interest income and our earnings. Changes in interest rates can affect our net interest margin. Although the yield we earn on our assets and our funding costs tend to move in the same direction in response to changes in interest rates, one can rise or fall faster than the other, causing our net interest margin to expand or contract. Our liabilities tend to be shorter in duration than our assets, so they may adjust faster in response to changes in interest rates. When interest rates rise, our funding costs may rise faster than the yield we earn on our assets, causing our net interest margin to contract until the yield catches up.
     The amount and type of earning assets we hold can affect our yield and net interest margin. We hold earning assets in the form of loans and investment securities, among other assets. If current economic conditions persist, we may continue to see lower demand for loans by credit worthy customers, reducing our yield. In addition, we may invest in lower yielding investment securities for a variety of reasons, including in anticipation that interest rates are likely to increase.
     Changes in the slope of the “yield curve”–or the spread between short-term and long-term interest rates—could also reduce our net interest margin. Normally, the yield curve is upward sloping, meaning short-term rates are lower than long-term rates. Because our liabilities tend to be shorter in duration
than our assets, when the yield curve flattens or even inverts, our net interest margin could decrease as our cost of funds increases relative to the yield we can earn on our assets.
     The interest we earn on our loans may be tied to U.S.-denominated interest rates such as the federal funds rate while the interest we pay on our debt may be based on international rates such as LIBOR. If the federal funds rate were to fall without a corresponding decrease in LIBOR, we might earn less on our loans without any offsetting decrease in our funding costs. This could lower our net interest margin and our net interest income.
     We assess our interest rate risk by estimating the effect on our earnings under various scenarios that differ based on assumptions about the direction, magnitude and speed of interest rate changes and the slope of the yield curve. We hedge some of that interest rate risk with interest rate derivatives. We also rely on the “natural hedge” that our mortgage loan originations and servicing rights can provide.
     We do not hedge all of our interest rate risk. There is always the risk that changes in interest rates could reduce our net interest income and our earnings in material amounts, especially if actual conditions turn out to be materially different than what we assumed. For example, if interest rates rise or fall faster than we assumed or the slope of the yield curve changes, we may incur significant losses on debt securities we hold as investments. To reduce our interest rate risk, we may rebalance our investment and loan portfolios, refinance our debt and take other strategic actions. We may incur losses when we take such actions.
     For more information, refer to the “Risk Management – Asset/ Liability Management – Interest Rate Risk” section in this Report.
Changes in interest rates could also reduce the value of our mortgage servicing rights and mortgages held for sale, reducing our earnings. We have a sizeable portfolio of mortgage servicing rights. A mortgage servicing right (MSR) is the right to service a mortgage loan—collect principal, interest and escrow amounts—for a fee. We acquire MSRs when we keep the servicing rights after we sell or securitize the loans we have originated or when we purchase the servicing rights to mortgage loans originated by other lenders. We initially measure and carry our residential MSRs using the fair value measurement method. Fair value is the present value of estimated future net servicing income, calculated based on a number of variables, including assumptions about the likelihood of prepayment by borrowers.
     Changes in interest rates can affect prepayment assumptions and thus fair value. When interest rates fall, borrowers are usually more likely to prepay their mortgage loans by refinancing them at a lower rate. As the likelihood of prepayment increases, the fair value of our MSRs can decrease. Each quarter we evaluate the fair value of our MSRs, and any decrease in fair value reduces earnings in the period in which the decrease occurs.
     We measure at fair value new prime MHFS for which an active secondary market and readily available market prices exist. We also measure at fair value certain other interests we hold related to residential loan sales and securitizations. Similar to other interest-bearing securities, the value of these MHFS and other interests may be negatively affected by changes in interest rates. For example, if market interest rates increase relative to the yield on these MHFS and other interests, their fair value may fall. We may not hedge this risk, and even if we do hedge the risk with derivatives and other instruments we may still incur significant losses from changes in the value of these MHFS and other interests or from changes in the value of the hedging instruments.


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     For more information, refer to the “Risk Management – Asset/ Liability Management – Mortgage Banking Interest Rate and Market Risk” and “Critical Accounting Policies” sections in this Report.
Our mortgage banking revenue can be volatile from quarter to quarter. We earn revenue from fees we receive for originating mortgage loans and for servicing mortgage loans. When rates rise, the demand for mortgage loans usually tends to fall, reducing the revenue we receive from loan originations. Under the same conditions, revenue from our MSRs can increase through increases in fair value. When rates fall, mortgage originations usually tend to increase and the value of our MSRs usually tends to decline, also with some offsetting revenue effect. Even though they can act as a “natural hedge,” the hedge is not perfect, either in amount or timing. For example, the negative effect on revenue from a decrease in the fair value of residential MSRs is generally immediate, but any offsetting revenue benefit from more originations and the MSRs relating to the new loans would generally accrue over time. It is also possible that, because of the recession and deteriorating housing market, even if interest rates were to fall, mortgage originations may also fall or any increase in mortgage originations may not be enough to offset the decrease in the MSRs value caused by the lower rates.
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