(Letterhead of Morrison Foerster LLP)
November 2, 2005
By Telefacsimile and Mail
Rebekah Moore
Staff Accountant
United States Securities and Exchange Commission
100 F Street, N.E.
Washington, D.C. 20549
Re: Redwood Mortgage Investors VIII
Form 10-K for the Fiscal Year Ended December 31, 2004
Form 10-Q for the Fiscal Quarter ended June 30, 2005
File No. 000-27816
Dear Ms. Moore:
On behalf of our client, Redwood Mortgage Investors VIII (the "Company") we
are responding to the comments of the Staff (the "Staff") of the Securities and
Exchange Commission (the "Commission") set forth in your letter of September 29,
2005. The following discussion and answers to your inquiries have been presented
in numbered paragraphs to conform to the numbered paragraphs in your letter. For
the convenience of the Staff, we have set forth the Staff's comments fully
identified in bold and italicized type immediately prior to each response.
Form 10-K for the year ended December 31, 2004
Consolidated Financial Statements
2. Summary of Significant Accounting Policies - page 36
Allowance for Loan Losses - page 37
1. Please tell us in detail the methodology you applied to determine the
amounts of each of the specific and general allowances for loan losses, and
describe how each methodology is consistent with the guidance in SFAS 5, and
SFAS 114/118.
RESPONSE:
Rebekah Moore
November 2, 2005
Page Two
As stated in the Summary of Significant Accounting Policies to our filings,
in the section entitled "Allowance for loan losses", we continually analyze our
loan portfolio for recoverability. We monitor delinquency reports, total loan
amounts by borrower, financial status of borrowers and guarantors, and the
condition and market information related to collateral. Because our loan
portfolio is comprised of a relatively small number of loans (i.e. 75 at
December 31, 2004) located primarily (76.36% at December 31, 2004) in six
counties of the San Francisco Bay Area, we can effectively monitor all of our
loans on a consistent basis.
Specific Portion of Allowance for Loan Losses
We are primarily a collateral-based lender. In accordance with SFAS 114, as
amended by SFAS 118 (and as stated in the Summary of Significant Accounting
Policies to our filings in the section entitled "Loans, secured by deeds of
trust"), if events and or changes in circumstances cause management to have
serious doubts about the collectibility of a loan's contractual payments, a loan
may be categorized as impaired. As required by SFAS 118, the term "contractual
payments" includes both the contractual interest payments and the contractual
principal payments.
When we identify that the collectibility of amounts due according to the
contractual terms of the loan agreement are in doubt (through our delinquency
reports, current knowledge of the borrower's financial strength, or other
factors), we evaluate the recoverability of the loan via analysis of the present
value of the expected future cash flows. To assist in determining expected
future cash flows, appraisals of the collateral on the loan are re-examined and
updated when considered necessary. If the present value of the expected future
cash flows (or the estimated fair value of the collateral if the loan is
collateral dependent), is less than the carrying amount of the loan we will
consider the loan impaired. In accordance with SFAS 114, as amended by SFAS 118,
such impaired loan's carrying value will be reduced to the present value of
future expected cash flows (or if collateral dependent, the estimated fair value
of collateral).
If upon reviewing a loan for potential impairment, the present value of the
estimated expected future cash flows (or the estimated fair value of the
collateral if the loan is collateral dependent) equals or exceeds the loan's
carrying value, the loan will typically not be considered impaired. However, we
may still determine that full collectibility on such loan is still in doubt and
include a specific provision in the allowance for loan losses for such loan.
This is determined after giving adequate consideration to the fair value of the
collateral, the borrower's or guarantor's present financial condition, current
or expected real estate value trends, and other general economic factors. In
accordance with SFAS No. 5, we will make such a provision when both of the
following conditions are met: 1)it is probable that a loan has been impaired as
of the financial statement date and 2) the amount of potential loss can be
reasonably estimated.
Rebekah Moore
November 2, 2005
Page Three
General Portion of Allowance for Loan Losses
As allowed by SFAS No. 5, in determining whether accrual is warranted for
collectibility of receivables, the two conditions required for accrual (as
detailed in the preceding paragraph) may be considered in relation to individual
receivables (as described above for specifically identified loans) or in
relation to groups of similar types of receivables. After we have identified all
specific loans for which an allowance for loan losses is warranted, we will
consider aggregate collectibility of the remainder of our loan portfolio. We
will analyze the remaining portfolio in terms of geographic concentrations and
collateral types. Note that our portfolio consists of predominantly
collateral-dependent loans, secured by residential and commercial property
located primarily in the San Francisco Bay Area.
Through close monitoring of historical loss statistics on the Registrant's
portfolio (12 years of data) and loss statistics on 8 other similar type
partnerships sponsored by the Registrant's general partner or affiliates (over
25 years of data), we have determined that it is probable that some amount of
loss has occurred in the loan portfolio even though the specific loans may not
be identified as of the financial statement date. Using historical loss
statistics and other available industry and economic data (i.e. foreclosure
statistics, commercial lease absorption statistics, property resale values and
trends, interest rate changes, unemployment patterns, etc.) , we can make
reasonable estimates of the amount of expected losses and make a provision for
loan losses based upon the general partners' best estimate of this expected
loss. This amount is included as a general reserve in our overall allowance for
loan losses.
2. Tell us how you account for loan restructurings and how that accounting
is consistent with the guidance in SFAS 18 and SFAS 114/118.
Our accounting for loan restructurings is consistent with the guidance of
SFAS 15 and SFAS114/118 (please note, your question referred to SFAS 18; we
assume you meant SFAS 15). The accounting treatment discussed herein relates to
loan restructurings that qualify as troubled debt restructurings in accordance
with SFAS 15, para. 2 - 7. This discussion does not apply to routine changes in
loan terms.
If the loan restructuring involves only a modification of terms, the
effects of the restructuring are accounted for prospectively from the time of
the restructuring agreement. In accordance with SFAS 114, no loss is recorded at
the time of restructuring unless it is probable that all amounts due according
to the contractual terms of the original loan agreement will not be collected
(i.e. the loan is considered impaired in accordance with SFAS 114). Impairment
of a restructured loan in a troubled debt restructuring is measured based on the
present value of expected future cash flows discounted at the loan's original
contractual interest rate. As a practical matter, impairment generally would be
measured based on the fair value of the collateral when repayment of the loan is
expected to be provided by the underlying collateral.
Rebekah Moore
November 2, 2005
Page Four
If loan restructuring involves the receipt of assets in partial
satisfaction of the loan receivable and a modification of terms of the remaining
loan receivable, the recorded investment in the loan receivable is first reduced
by the fair value less cost to sell of the assets received. The remaining loan
receivable balance is accounted for in accordance with SFAS 114 as discussed
above.
3. Provide us with all allowance for loan loss disclosures required by Item
IV of Guide 3.
RESPONSE:
At the staff's suggestion, we have reviewed the disclosure requirements of
Guide 3 relating to Statistical Disclosures by Bank Holding Companies. While the
Registrant's business is to make mortgage loans secured by real property it is
not engaged in a general lending business of the nature contemplated by a bank
holding company. For example, much of the disclosure requirements of Guide 3
concern such matters as portfolio and trading analysis of taxable and tax-exempt
securities, interest bearing deposits, federal funds and securities purchased
and repurchase agreements. None of these activities apply to the Registrant.
Therefore, the bulk of Guide 3 disclosure relating to diversification of broad
loan portfolios and the interest rate investment and trading sensitivities
attendant to a varied loan portfolio is simply not applicable.
While we do not believe that Guide 3 should be applicable, in our efforts
to provide appropriate, relevant and informative information regarding our
mortgage loan portfolio the Registrant has provided detailed disclosure
information in its Registration Statement and periodic Supplements. The
Management Discussion & Analysis Section, Prior Performance Summary and Tables,
the Investment Objectives and Criteria as well as the Consolidated Financial
Statements present detailed information concerning the diversification of the
Registrant's loan portfolio. Information is disclosed to prospective investors
with respect to how many, what type, and where the loans have been made.
Extensive disclosure regarding the portfolio's current default rates,
foreclosures and work out arrangements, construction and rehabilitation loans
are included. The Management Discussion and Analysis Section details the
concerns with respect to interest rates and the Bay Area economy as a whole and
how these factors could affect the real estate lending business. In addition,
the Management Discussion and Analysis Section has a separate section detailing
management's processes and the factors management considered in determining the
amount of additions to the allowance for loan losses.
Clearly the purpose of Guide 3 is to disclose to a prospective investor who
is contemplating an investment in a bank holding company or unregistered bank
with a varied portfolio including domestic and foreign loans information
concerning diversification, the relative risk and sensitivity of various
Rebekah Moore
November 2, 2005
Page Five
segments of the portfolio to interest rates as well as the overall health of the
portfolio. We respectfully submit that these statistical disclosures are simply
as a whole not applicable to the Registrant. However, appropriate and relevant
disclosures applicable to the scope and nature of the Registrant have been made.
Real Estate Held for Sale - page 37
4. Tell us how your accounting for foreclosed assets is consistent with the
guidance in paragraph 34 of SFAS 144.
RESPONSE:
The accounting for real estate held for sale follows the guidance found in
paragraph 34 of SFAS 144. As disclosed in our filings "real estate acquired
through foreclosure ... is stated at the lower of the recorded investment in the
loan, plus any senior indebtedness on the loan, or at the property's estimated
fair value, less estimated costs to sell." The recorded investment in the loan
is the carrying amount of the asset, which is originally established as its fair
value on the loan funding date. This carrying amount is then adjusted for
activity on the loan until the loan matures or the related collateral is
foreclosed upon. We do not depreciate real estate held for sale.
We periodically compare the carrying value of real estate to undiscounted
future cash flows, including net expected sales proceeds (i.e. its fair value)
to assess the recoverability of the recorded amounts. If the carrying value
exceeds future undiscounted cash flows, the asset is reduced to its estimated
fair value.
Form 10-Q for the Fiscal Quarter Ended June 30, 2005
Consolidated Statements of Income, page 3
5. Please tell us why you have both income and expense related to the
imputed interest on the formation loan.
RESPONSE:
In accordance with APB no. 21, we impute interest on the non-interest
bearing Formation Loan (a receivable to the Registrant). When adjusting the
carrying amount of the Formation Loan to its net present value based on the
applicable imputed interest rate, a corresponding offsetting asset is recorded
called "Discount on Formation Loan". This asset is amortized to expense over the
same period that the imputed interest income from the reduced Formation Loan is
being recognized. Thus, we have both income and expense related to the imputing
of interest on the Formation Loan.
Rebekah Moore
November 2, 2005
Page Six
Note that the entity that the Registrant has made the Formation Loan to is
Redwood Mortgage Corp. ("RMC"), a general partner of the Registrant. When RMC
recorded the loan from the Registrant on its books, it recognized the difference
between the face amount of the loan and the net present value on the loan (based
on the imputed interest rate) as a reduction of RMC's debt to the Registrant and
as a reduction to the asset RMC was acquiring with the borrowed funds. These
reductions are then amortized over the applicable term of the debt and useful
life of the acquired asset.
Rebekah Moore
November 2, 2005
Page Seven
The Registrant likewise adhered to APB No. 21 in accounting for the
Formation Loan to provide consistency in accounting between RMC's treatment and
the Registrant's treatment of this transaction. However, in the Registrant's
case, the transaction was simply the lending of money from one entity to another
on a non-interest bearing basis. From RMC's point of view, it is the borrowing
of funds on a non-interest basis used to acquire an asset.
Very truly yours,
/s/ Justin L. Bastian
- -----------------------
Justin L. Bastian
cc: Michael R. Burwell, Redwood Mortgage Investors VIII