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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”)

This discussion contains forward-looking statements that are based upon management’s current expectations and are subject to significant uncertainties and changes in circumstances. Please review “Part I—Item 1. Business—Forward-Looking Statements” for more information on the forward-looking statements in this 2020 Annual Report on Form 10-K (“this Report”). All statements that address operating performance, events or developments that we expect or anticipate will occur in the future, including those relating to operating results and the Cybersecurity Incident described in “Part I—Item 1.—Business—Overview—Cybersecurity Incident” and “Note 18—Commitments, Contingencies, Guarantees and Others” as well as the potential impacts of the COVID-19 pandemic described in “Part I—Item 1.—Business—Overview—Coronavirus Disease 2019 (COVID-19) Pandemic” are forward-looking statements. Our actual results may differ materially from those included in these forward-looking statements due to a variety of factors including, but not limited to, those described in “Part I—Item 1A. Risk Factors” in this Report. Unless otherwise specified, references to notes to our consolidated financial statements refer to the notes to our consolidated financial statements as of December 31, 2020 included in this Report.

Management monitors a variety of key indicators to evaluate our business results and financial condition. The following MD&A is intended to provide the reader with an understanding of our results of operations, financial condition and liquidity by focusing on changes from year to year in certain key measures used by management to evaluate performance, such as profitability, growth and credit quality metrics. MD&A is provided as a supplement to, and should be read in conjunction with, our audited consolidated financial statements as of and for the year ended December 31, 2020 and accompanying notes. MD&A is organized in the following sections:

• Executive Summary and Business Outlook • Capital Management

• Consolidated Results of Operations • Risk Management

• Consolidated Balance Sheets Analysis • Credit Risk Profile

• Off-Balance Sheet Arrangements • Liquidity Risk Profile

• Business Segment Financial Performance • Market Risk Profile

• Critical Accounting Policies and Estimates • Supplemental Tables

• Accounting Changes and Developments • Glossary and Acronyms

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EXECUTIVE SUMMARY AND BUSINESS OUTLOOK

Financial Highlights

We reported net income of $2.7 billion ($5.18 per diluted common share) on total net revenue of $28.5 billion for 2020. In comparison, we reported net income of $5.5 billion ($11.05 per diluted common share) on total net revenue of $28.6 billion for 2019, and net income of $6.0 billion ($11.82 per diluted common share) on total net revenue of $28.1 billion for 2018.

Our common equity Tier 1 capital ratio as calculated under the Basel III Standardized Approach was 13.7% and 12.2% as of December 31, 2020 and 2019, respectively. See “MD&A—Capital Management” for additional information.

On June 27, 2019, we announced that our Board of Directors authorized the repurchase of up to $2.2 billion of shares of our common stock (“2019 Stock Repurchase Program”) beginning in the third quarter of 2019 through the end of the second quarter of 2020. During the first quarter of 2020, we repurchased approximately $312 million of shares of our common stock under the 2019 Stock Repurchase Program before suspending further repurchases on March 13, 2020 in response to the COVID-19 pandemic through the program's expiration at the end of the second quarter of 2020. On January 25, 2021, our Board of Directors authorized the repurchase of up to $7.5 billion of shares of our common stock. See “MD&A—Capital Management—Dividend Policy and Stock Purchases” for additional information.

Below are additional highlights of our performance in 2020. These highlights are based on a comparison between the results of 2020 and 2019, except as otherwise noted. The changes in our financial condition and credit performance are generally based on our financial condition and credit performance as of December 31, 2020 compared to December 31, 2019. We provide a more detailed discussion of our financial performance in the sections following this “Executive Summary and Business Outlook.”

Discussions of our performance in 2018 and comparisons between 2019 and 2018 can be found in “Part II—Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”)” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2019.

Total Company Performance

•Earnings: Our net income decreased by $2.8 billion to $2.7 billion in 2020 compared to 2019 primarily driven by:

◦higher provision for credit losses driven by allowance builds in the first and second quarters of 2020 due to expectations of economic worsening as a result of the COVID-19 pandemic;

◦lower net interest income due to lower yields on average earning assets and lower outstanding balances in Domestic Card, as well as higher interest-bearing deposit balances, partially offset by the lower interest rate paid on interest-bearing liabilities; and

◦higher operating expenses driven by an increase in salaries and associate benefits due to continued investment in technology and legal reserve builds.

These drivers were partially offset by:

◦lower marketing expense driven by our decision to decrease marketing spend due to the economic environment created by the COVID-19 pandemic

◦higher non-interest income due to an unrealized valuation gain of $535 million on our equity investment in Snowflake Inc.

•Loans Held for Investment:

◦Period-end loans held for investment decreased by $14.2 billion to $251.6 billion as of December 31, 2020 from December 31, 2019 primarily due to a decline in purchase volume and higher payment rates in Domestic Card driven by the customer response to the COVID-19 pandemic and our decision to decrease marketing spend due to the economic environment, partially offset by growth in our auto and commercial loan portfolios.

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◦Average loans held for investment increased by $5.9 billion to $253.3 billion in 2020 compared to 2019 primarily driven by growth in our auto and commercial loan portfolios and the Walmart portfolio acquired during the fourth quarter of 2019, partially offset by a decline in purchase volume and higher payments in Domestic Card.

•Net Charge-Off and Delinquency Metrics: Our net charge-off rate decreased by 47 basis points to 2.06% in 2020 compared to 2019, primarily driven by strong credit performance in Domestic Card due to consumer payment behavior and the related impacts from government stimulus and the impact of short-term payment extensions offered to affected auto borrowers in response to the COVID-19 pandemic.

Our 30+ day delinquency rate decreased by 113 basis points to 2.61% as of December 31, 2020 from December 31, 2019 driven by strong credit performance in Domestic Card due to consumer payment behavior and the related impact from government stimulus, and short-term payment extensions offered to affected auto borrowers in response to the COVID-19 pandemic.

•Allowance for Credit Losses: Our allowance for credit losses increased by $8.4 billion to $15.6 billion, and our allowance coverage ratio increased by 348 basis points to 6.19% as of December 31, 2020 from December 31, 2019, driven by the allowance builds in the first and second quarters of 2020 from expectations of economic worsening as a result of the COVID-19 pandemic as well as the adoption of the CECL standard in the first quarter of 2020.

Business Outlook

We discuss in this Report our expectations as of the time this Report was filed regarding our total company performance and the performance of our business segments based on market conditions, the regulatory environment and our business strategies. The statements contained in this Report are based on our current expectations regarding our outlook for our financial results and business strategies. Our expectations take into account, and should be read in conjunction with, our expectations regarding economic trends and analysis of our business as discussed in “Part I—Item 1. Business” and “Part II—Item 7. MD&A” in this Report. Certain statements are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from those in our forward-looking statements. Except as otherwise disclosed, forward-looking statements do not reflect:

•any change in current dividend or repurchase strategies;

•the effect of any acquisitions, divestitures or similar transactions that have not been previously disclosed;

•any changes in laws, regulations or regulatory interpretations, in each case after the date as of which such statements are made; or

•the potential impact on our business, operations and reputation from, and expenses and uncertainties associated with, the Cybersecurity Incident, other than the incremental costs related to the incident we expect to incur in 2021 which will be separately reported as an adjusting item as it relates to the Company’s financial results.

The extent to which the COVID-19 pandemic ultimately impacts our business, results of operations, and financial condition will depend on future developments that are still uncertain and cannot be predicted, including the scope and duration of the COVID-19 pandemic and actions taken by governmental authorities and other third parties in response to the COVID-19 pandemic.

See “MD&A—Forward-Looking Statements” in this Report for more information on the forward-looking statements and “Part I—Item 1A. Risk Factors” in this Report for factors that could materially influence our results.

Business Segment Expectations

We expect that the Auto 30+ day delinquency rate and net charge-off rate will increase as used car auction prices decrease from elevated levels and the temporary favorable impact of our COVID-19 customer assistance program diminishes.

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CONSOLIDATED RESULTS OF OPERATIONS

The section below provides a comparative discussion of our consolidated financial performance for 2020 and 2019. We provide a discussion of our business segment results in the following section, “MD&A—Business Segment Financial Performance.” This section should be read together with our “MD&A—Executive Summary and Business Outlook,” where we discuss trends and other factors that we expect will affect our future results of operations.

Net Interest Income

Net interest income represents the difference between interest income, including certain fees, earned on our interest-earning assets and the interest expense incurred on our interest-bearing liabilities. Our interest-earning assets include loans, investment securities and other interest-earning assets, while our interest-bearing liabilities include interest-bearing deposits, securitized debt obligations, senior and subordinated notes, other borrowings and other interest-bearing liabilities. Generally, we include in interest income any past due fees on loans that we deem collectible. Our net interest margin, based on our consolidated results, represents the difference between the yield on our interest-earning assets and the cost of our interest-bearing liabilities, including the notional impact of non-interest-bearing funding. We expect net interest income and our net interest margin to fluctuate based on changes in interest rates and changes in the amount and composition of our interest-earning assets and interest-bearing liabilities.

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Table 1 below presents the average outstanding balance, interest income earned, interest expense incurred and average yield for 2020, 2019 and 2018 for each major category of our interest-earning assets and interest-bearing liabilities. Nonperforming loans are included in the average loan balances below.

Table 1: Average Balances, Net Interest Income and Net Interest Margin

Year Ended December 31,

Assets:

Interest-earning assets:

Loans:(1)

Liabilities and stockholders’ equity:

Interest-bearing liabilities:

Impact of non-interest-bearing funding 0.18 0.30 0.26

__________

(1)Past due fees included in interest income totaled approximately $1.3 billion for 2020 and $1.7 billion for 2019 and 2018.

(2)Some of our commercial loans generate tax-exempt income. Accordingly, we present our Commercial Banking interest income and yields on a taxable-equivalent basis, calculated using the federal statutory rate (21% for all periods presented) and state taxes where applicable, with offsetting reductions to the Other category. Taxable-equivalent adjustments included in the interest income and yield computations for our commercial loans totaled approximately $81 million for 2020 and $82 million for 2019 and 2018, with corresponding reductions to the Other category.

(3)Interest income/expense of Other represents the impact of hedge accounting on our loan portfolios and the offsetting reduction of the taxable-equivalent adjustments of our commercial loans as described above.

** Not meaningful.

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Net interest income decreased by $427 million to $22.9 billion in 2020 compared to 2019 primarily driven by lower yields on average earning assets and lower outstanding balances in Domestic Card, as well as higher interest-bearing deposit balances, partially offset by the lower interest rate paid on interest-bearing liabilities.

Net interest margin decreased by 77 basis points to 6.06% in 2020 compared to 2019 primarily driven by a shift in our asset mix with cash balances representing a greater proportion of total average interest-earning assets, and lower interest rates received on interest-earning assets, partially offset by the lower interest rate paid on interest-bearing deposits.

Table 2 displays the change in our net interest income between periods and the extent to which the variance is attributable to:

•changes in the volume of our interest-earning assets and interest-bearing liabilities; or

•changes in the interest rates related to these assets and liabilities.

Table 2: Rate/Volume Analysis of Net Interest Income(1)

(Dollars in millions) Total Variance Volume Rate Total Variance Volume Rate

Interest income:

Loans:

Cash equivalents and other interest-earning assets (158) 56 (214) 3 28 (25)

Interest expense:

Other borrowings and liabilities (27) (9) (18) (11) (14) 3

__________

(1)We calculate the change in interest income and interest expense separately for each item. The portion of interest income or interest expense attributable to both volume and rate is allocated proportionately when the calculation results in a positive value. When the portion of interest income or interest expense attributable to both volume and rate results in a negative value, the total amount is allocated to volume or rate, depending on which amount is positive.

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Non-Interest Income

Table 3 displays the components of non-interest income for 2020, 2019 and 2018.

Table 3: Non-Interest Income

Year Ended December 31,

Service charges and other customer-related fees 1,243 1,330 1,585

Net securities gains (losses) 25 26 (209)

Other non-interest income:(1)

Treasury and other investment income 701 193 49

________

(1)Includes gains of $45 million, $61 million and losses of $15 million on deferred compensation plan investments in 2020, 2019 and 2018,respectively.

Non-interest income increased by $357 million to $5.6 billion in 2020 compared to 2019 primarily driven by a gain of $535 million on our equity investment in Snowflake Inc., partially offset by lower net interchange fees from a decline in purchase volume.

Provision for Credit Losses

Our provision for credit losses in each period is driven by changes to the allowance for credit losses including the impact of net charge-offs and changes to the reserve for unfunded lending commitments. Beginning in the first quarter of 2020, our allowance for credit losses and reserve for unfunded lending commitments are measured under the CECL standard. We recorded a provision for credit losses of $10.3 billion, $6.2 billion and $5.9 billion in 2020, 2019 and 2018,respectively. The provision for credit losses as a percentage of net interest income was 44.8%, 26.7% and 25.6% in 2020, 2019 and 2018, respectively.

Our provision for credit losses increased by $4.0 billion to $10.3 billion in 2020 compared to 2019 primarily driven by allowance builds in the first and second quarters of 2020 due to expectations of economic worsening as a result of the COVID-19 pandemic.

We provide additional information on the provision for credit losses and changes in the allowance for credit losses within “MD&A—Credit Risk Profile” and “Note 4—Allowance for Credit Losses and Reserve for Unfunded Lending Commitments.” For information on the allowance methodology for each of our loan categories, see “Note 1—Summary of Significant Accounting Policies.”

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Non-Interest Expense

Table 4 displays the components of non-interest expense for 2020, 2019 and 2018.

Table 4: Non-Interest Expense

Year Ended December 31,

Other non-interest expense:

Bankcard, regulatory and other fee assessments 267 362 490

_________

(1)Includes expenses of $45 million, $61 million and a benefit of $15 million related to our deferred compensation plan in 2020, 2019, and 2018, respectively. These amounts have corresponding offsets in other non-interest income.

(2)Includes legal reserve builds of $313 million and net Cybersecurity Incident expenses of $27 million in 2020.

Non-interest expense decreased by $427 million to $15.1 billion in 2020 compared to 2019 primarily driven by lower marketing expense, partly offset by increases in salaries and associate benefits due to continued investment in technology.

Income Taxes

We recorded income tax provisions of $486 million (15.2% effective income tax rate), $1.3 billion (19.5% effective income tax rate) and $1.3 billion (17.7% effective income tax rate) in 2020, 2019 and 2018, respectively. Our effective tax rate on income from continuing operations varies between periods due, in part, to the impact of changes in pre-tax income and changes in tax credits, tax-exempt income and non-deductible expenses relative to our pre-tax earnings.

We recorded discrete tax benefits of $22 million in 2020, $19 million in 2019 and $318 million in 2018 primarily driven by a benefit of $284 million related to a tax methodology change on rewards costs.

The decrease in our effective tax rate in 2020 compared to 2019 was primarily due to a decrease in our pre-tax earnings and the proportional impact of credits from tax advantaged investments.

We provide additional information on items affecting our income taxes and effective tax rate in “Note 15—Income Taxes.”

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CONSOLIDATED BALANCE SHEETS ANALYSIS

Total assets increased by $31.2 billion to $421.6 billion as of December 31, 2020 from December 31, 2019 primarily driven by an increase in our cash balances from deposit growth due to increased consumer savings aided by the impact of government stimulus as well as growth in our investment securities portfolio due to our elevated cash position, partially offset by a decline in loan balances.

Total liabilities increased by $29.0 billion to $361.4 billion as of December 31, 2020 from December 31, 2019 primarily driven by deposit growth from increased consumer savings aided by the impact of government stimulus.

Stockholders’ equity increased by $2.2 billion to $60.2 billion as of December 31, 2020 from December 31, 2019 primarily due to our net income of $2.7 billion and changes in accumulated other comprehensive income of $2.3 billion from investment valuation gains, partially offset by the cumulative effect from the adoption of the CECL standard and dividend payments to our stockholders.

The following is a discussion of material changes in the major components of our assets and liabilities during 2020. Period-end balance sheet amounts may vary from average balance sheet amounts due to liquidity and balance sheet management activities that are intended to support the adequacy of capital while managing our liquidity requirements, our customers and our market risk exposure in accordance with our risk appetite.

Investment Securities

Our investment securities portfolio consists of the following: U.S. government-sponsored enterprise or agency (“Agency”) and non-agency residential mortgage-backed securities (“RMBS”), Agency commercial mortgage-backed securities (“CMBS”), U.S. Treasury securities and other securities. Agency securities include Government National Mortgage Association (“Ginnie Mae”) guaranteed securities, Federal National Mortgage Association (“Fannie Mae”) and Federal Home Loan Mortgage Corporation (“Freddie Mac”) issued securities. The carrying value of our investments in Agency and U.S. Treasury securities represented 96% of our total investment securities portfolio, as of both December 31, 2020 and 2019.

The fair value of our available for sale securities portfolio increased by $21.2 billion to $100.4 billion as of December 31, 2020 from December 31, 2019, primarily driven by net purchases. See “Note 2—Investment Securities” for more information.

Table 5 presents the amortized cost and fair value for the major security types in our available for sale securities portfolio as of December 31, 2020, 2019 and 2018.

Table 5: Investment Securities

December 31,

Investment securities available for sale:

RMBS:

__________

(1)Includes $1.8 billion, $117 million and $260 million of asset-backed securities as of December 31, 2020, 2019 and 2018, respectively. The remaining amount is primarily comprised of supranational bonds and foreign government bonds.

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Loans Held for Investment

Total loans held for investment consist of both unsecuritized loans and loans held in our consolidated trusts. Table 6 summarizes the carrying value of our loans held for investment by portfolio segment, the allowance for credit losses and net loan balance as of December 31, 2020 and 2019.

Table 6: Loans Held for Investment

(Dollars in millions) Loans Allowance Net Loans Loans Allowance Net Loans

Loans held for investment decreased by $14.2 billion to $251.6 billion as of December 31, 2020 from December 31, 2019 primarily due to a decline in purchase volume and higher payment rates in Domestic Card driven by the customer response to the COVID-19 pandemic and our decision to decrease marketing spend due to the economic environment, partially offset by growth in our auto and commercial loan portfolios.

We provide additional information on the composition of our loan portfolio and credit quality below in “MD&A—Credit Risk Profile,” “MD&A—Consolidated Results of Operations” and “Note 3—Loans.”

Funding Sources

Our primary source of funding comes from deposits, as they are a stable and relatively low cost source of funding. In addition to deposits, we raise funding through the issuance of senior and subordinated notes, securitized debt obligations, federal funds purchased, securities loaned or sold under agreements to repurchase, and Federal Home Loan Banks (“FHLB”) advances secured by certain portions of our loan and securities portfolios.

Table 7 provides the composition of our primary sources of funding as of December 31, 2020 and 2019.

Table 7: Funding Sources Composition

(Dollars in millions) Amount % of Total Amount % of Total

Deposits:

__________

(1)Includes brokered deposits of $15.0 billion and $16.7 billion as of December 31, 2020 and 2019, respectively.

Total deposits increased by $42.7 billion to $305.4 billion as of December 31, 2020 from December 31, 2019 primarily driven by deposit growth from increased consumer savings aided by the impact of government stimulus.

Securitized debt obligations decreased by $5.4 billion to $12.4 billion as of December 31, 2020 from December 31, 2019 primarily driven by net maturities in our credit card securitization program.

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Other debt decreased by $9.8 billion to $28.1 billion as of December 31, 2020 from December 31, 2019 primarily driven by maturities of our short-term FHLB advances and the repurchase of a portion of our senior unsecured debt.

We provide additional information on our funding sources in “MD&A—Liquidity Risk Profile” and “Note 8—Deposits and Borrowings.”

Deferred Tax Assets and Liabilities

Deferred tax assets and liabilities represent decreases or increases in taxes expected to be paid in the future because of future reversals of temporary differences between the financial reporting and tax bases of assets and liabilities, as well as from net operating loss and tax credit carryforwards. Deferred tax assets are recognized subject to management’s judgment that these future deductions are more likely than not to be realized. We evaluate the recoverability of these future tax deductions by assessing the adequacy of expected taxable income from all sources, including taxable income in carryback years, reversal of taxable temporary differences, forecasted operating earnings and available tax planning strategies. These sources of income rely heavily on estimates. We use our historical experience and our short and long-range business forecasts to provide insight.

Deferred tax assets, net of deferred tax liabilities and valuation allowances, were approximately $3.3 billion as of December 31, 2020, an increase of $1.6 billion from December 31, 2019. The increase in our net deferred tax assets was primarily driven by the increase in the allowance for credit losses due to expectations of economic worsening as a result of the COVID-19 pandemic as well as the adoption of the CECL standard in the first quarter of 2020.

We recorded valuation allowances of $296 million and $223 million as of December 31, 2020 and 2019, respectively. If changes in circumstances lead us to change our judgment about our ability to realize deferred tax assets in future years, we will adjust our valuation allowances in the period that our change in judgment occurs and record a corresponding increase or charge to income.

We provide additional information on income taxes in “MD&A—Consolidated Results of Operations” and “Note 15—Income Taxes.”

OFF-BALANCE SHEET ARRANGEMENTS

In the ordinary course of business, we engage in certain activities that are not reflected on our consolidated balance sheets, generally referred to as off-balance sheet arrangements. These activities typically involve transactions with unconsolidated variable interest entities (“VIEs”) as well as other arrangements, such as letters of credit, loan commitments and guarantees, to meet the financing needs of our customers and support their ongoing operations. We provide additional information regarding these types of activities in “Note 5—Variable Interest Entities and Securitizations” and “Note 18—Commitments, Contingencies, Guarantees and Others.”

BUSINESS SEGMENT FINANCIAL PERFORMANCE

Our principal operations are organized for management reporting purposes into three major business segments, which are defined primarily based on the products and services provided or the types of customer served: Credit Card, Consumer Banking and Commercial Banking. The operations of acquired businesses have been integrated into or managed as a part of our existing business segments. Certain activities are not part of a segment, such as management of our corporate investment portfolio, asset/liability management by our centralized Corporate Treasury group and calculation of our residual tax expense or benefit to arrive at the consolidated effective tax rate that is not assessed to our primary business segments, are included in the Other category.

The results of our individual businesses, which we report on a continuing operations basis, reflect the manner in which management evaluates performance and makes decisions about funding our operations and allocating resources. We may periodically change our business segments or reclassify business segment results based on modifications to our management reporting methodologies and changes in organizational alignment. Our business segment results are intended to reflect each segment as if it were a stand-alone business. We use an internal management and reporting process to derive our business segment results. Our internal management and reporting process employs various allocation methodologies, including funds transfer pricing, to assign certain balance sheet assets, deposits and other liabilities and their related revenue and expenses directly or indirectly attributable to each business segment. Total interest income and non-interest income are directly attributable to the segment in which they are reported. The net interest income of each segment reflects the results of our funds

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transfer pricing process, which is primarily based on a matched funding concept that takes into consideration market interest rates. Our funds transfer pricing process provides a funds credit for sources of funds, such as deposits generated by our Consumer Banking and Commercial Banking businesses, and a charge for the use of funds by each segment. The allocation process is unique to each business segment and acquired business. We regularly assess the assumptions, methodologies and reporting classifications used for segment reporting, which may result in the implementation of refinements or changes in future periods.

We refer to the business segment results derived from our internal management accounting and reporting process as our “managed” presentation, which differs in some cases from our reported results prepared based on U.S. GAAP. There is no comprehensive authoritative body of guidance for management accounting equivalent to U.S. GAAP; therefore, the managed presentation of our business segment results may not be comparable to similar information provided by other financial services companies. In addition, our individual business segment results should not be used as a substitute for comparable results determined in accordance with U.S. GAAP.

We summarize our business segment results for the years ended December 31, 2020, 2019 and 2018 and provide a comparative discussion of these results for 2020 and 2019, as well as changes in our financial condition and credit performance metrics as of December 31, 2020 compared to December 31, 2019. We provide a reconciliation of our total business segment results to our reported consolidated results in “Note 17—Business Segments and Revenue from Contracts with Customers.”

Business Segment Financial Performance

Table 8 summarizes our business segment results, which we report based on revenue and income (loss) from continuing operations, for the years ended December 31, 2020, 2019 and 2018. We provide information on the allocation methodologies used to derive our business segment results in “Note 17—Business Segments and Revenue from Contracts with Customers.”

Table 8: Business Segment Results

Year Ended December 31,

__________

(1)Total net revenue consists of net interest income and non-interest income.

(2)Net income (loss) for our business segments and the Other category is based on income (loss) from continuing operations, net of tax.

(3)Some of our commercial investments generate tax-exempt income, tax credits or other tax benefits. Accordingly, we present our Commercial Banking revenue and yields on a taxable-equivalent basis, calculated using the federal statutory tax rate of (21% for all periods presented) and state taxes where applicable, with offsetting reductions to the Other category.

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Credit Card Business

The primary sources of revenue for our Credit Card business are net interest income, net interchange income and fees collected from customers. Expenses primarily consist of the provision for credit losses, operating costs and marketing expenses.

Our Credit Card business generated net income from continuing operations of $1.4 billion, $3.1 billion and $3.2 billion in 2020, 2019 and 2018, respectively.

Table 9 summarizes the financial results of our Credit Card business and displays selected key metrics for the periods indicated.

Table 9: Credit Card Business Results

Year Ended December 31, Change

Selected income statement data:

Income from continuing operations before income taxes 1,781 4,086 4,161 (56) (2)

Income from continuing operations, net of tax $ 1,361 $ 3,127 $ 3,191 (56) (2)

Selected performance metrics:

Selected period-end data:

30+ day performing delinquency rate 2.44 % 3.89 % (145) bps

Nonperforming loan rate(6) 0.02 0.02 —

__________

(1)We recognize finance charges and fee income on open-ended loans in accordance with the contractual provisions of the credit arrangements and charge-off uncollectible amounts. Total net revenue was reduced by $1.1 billion in 2020 for finance charges and fees charged-off as uncollectible and by $1.4 billion and $1.3 billion in 2019 and 2018, respectively, for the estimated uncollectible amount of billed finance charges and fees and related losses.

(2)Period-end loans held for investment and average loans held for investment include billed finance charges and fees. Concurrent with our adoption of the CECL standard in the first quarter of 2020, we reclassified our finance charge and fee reserve to our allowance for credit losses, with a corresponding increase to credit card loans held for investment.

(3)Average yield is calculated based on interest income for the period divided by average loans during the period and does not include any allocations, such as funds transfer pricing.

(4)Total net revenue margin is calculated based on total net revenue for the period divided by average loans during the period.

(5)We reclassified $2.1 billion in partnership loans to held for sale as of September 30, 2020.

(6)Within our credit card loan portfolio, only certain loans in our international card businesses are classified as nonperforming. See “MD&A—Nonperforming Loans and Other Nonperforming Assets” for additional information.

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Key factors affecting the results of our Credit Card business for 2020 compared to 2019, and changes in financial condition and credit performance between December 31, 2020 and December 31, 2019 include the following:

•Net Interest Income: Net interest income decreased by $685 million to $13.8 billion in 2020 primarily driven by lower average loan balances from customer behavior in response to the COVID-19 pandemic and lower margins, partially offset by an increase in average loan balances from the Walmart portfolio acquired during the fourth quarter of 2019.

•Non-Interest Income: Non-interest income decreased by $65 million to $3.8 billion in 2020 primarily driven by lower net interchange fees from a decline in purchase volume, partially offset by higher revenues from card partnership arrangements.

•Provision for Credit Losses: Provision for credit losses increased by $2.3 billion to $7.3 billion in 2020 driven by allowance builds in the first and second quarters of 2020 due to expectations of economic worsening as a result of the COVID-19 pandemic.

•Non-Interest Expense: Non-interest expense decreased by $780 million to $8.5 billion in 2020 primarily driven by our decision to decrease marketing spend due to the economic environment created by the COVID-19 pandemic.

•Loans Held for Investment: Period-end loans held for investment decreased by $21.3 billion to $107.0 billion as of December 31, 2020 from December 31, 2019, and average loans held for investment decreased by $4.1 billion to $110.1 billion in 2020 compared to 2019 primarily due to a decline in purchase volume and higher payments in response to the COVID-19 pandemic, as well as the transfer of a $2.1 billion partnership loan portfolio to held for sale in the third quarter of 2020. The decline in average balances was partially offset by the impact of the Walmart portfolio acquired during the fourth quarter of 2019.

•Net Charge-Off and Delinquency Metrics: The net charge-off rate decreased by 63 basis points to 3.88% in 2020 compared to 2019 primarily driven by strong credit performance in Domestic Card due to consumer payment behavior and the impact of the government stimulus.

The 30+ day delinquency rate decreased by 146 basis points to 2.45% as of December 31, 2020 from December 31, 2019 due to lower delinquency inventories in our domestic credit card loan portfolio primarily driven by consumer payment behavior and the impact of government stimulus, partially offset by lower outstanding balances.

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Domestic Card Business

The Domestic Card business generated net income from continuing operations of $1.2 billion in 2020 and $3.0 billion in both 2019 and 2018. In 2020, 2019 and 2018, the Domestic Card business accounted for greater than 90% of total net revenue of our Credit Card business.

Table 9.1 summarizes the financial results for Domestic Card business and displays selected key metrics for the periods indicated.

Table 9.1: Domestic Card Business Results

Year Ended December 31, Change

Selected income statement data:

Income from continuing operations before income taxes 1,578 3,970 3,891 (60) 2

Income from continuing operations, net of tax $ 1,204 $ 3,045 $ 2,984 (60) 2

Selected performance metrics:

Selected period-end data:

30+ day performing delinquency rate 2.42 % 3.93 % (151) bps

__________

(2)Total net revenue was reduced by $434 million, $471 million and $278 million in 2020, 2019 and 2018, respectively, due to the amortization of loan origination bounties. As of December 31, 2020, approximately $45 million of deferred bounty payments remained to be amortized as an offset to revenue in future periods.

(3)Period-end loans held for investment and average loans held for investment include billed finance charges and fees. Concurrent with our adoption of the CECL standard in the first quarter of 2020, we reclassified our finance charge and fee reserve to our allowance for credit losses, with a corresponding increase to credit card loans held for investment.

(4)Average yield is calculated based on interest income for the period divided by average loans during the period and does not include any allocations, such as funds transfer pricing.

(5)Total net revenue margin is calculated based on total net revenue for the period divided by average loans during the period.

(6)We reclassified $2.1 billion in partnership loans to held for sale as of September 30, 2020.

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Because our Domestic Card business accounts for the substantial majority of our Credit Card business, the key factors driving the results are similar to the key factors affecting our total Credit Card business. Net Income for our Domestic Card business decreased in 2020 compared to 2019 primarily driven by:

•higher provision for credit losses due to allowance builds in the first and second quarters of 2020 due to expectations of economic worsening as a result of the COVID-19 pandemic;

•lower net interest income due to lower average outstanding balances and lower margins; and

•lower non-interest income due to lower net interchange fees from a decline in purchase volume, partially offset by higher revenues from card partnership arrangements,

•partially offset by lower non-interest expense from our decision to decrease marketing spend due to the economic environment created by the COVID-19 pandemic.

Consumer Banking Business

The primary sources of revenue for our Consumer Banking business are net interest income from loans and deposits as well as service charges and customer-related fees. Expenses primarily consist of the provision for credit losses, operating costs and marketing expenses.

Our Consumer Banking business generated net income from continuing operations of $1.4 billion in 2020 and $1.8 billion in both 2019 and 2018.

Table 10 summarizes the financial results of our Consumer Banking business and displays selected key metrics for the periods indicated.

Table 10: Consumer Banking Business Results

Year Ended December 31, Change

Selected income statement data:

Income from continuing operations before income taxes 1,792 2,346 2,347 (24) —

Income from continuing operations, net of tax $ 1,367 $ 1,799 $ 1,800 (24) —

Selected performance metrics:

Average loans held for investment:

Home loan(1) — — 6,266 — **

Average yield on loans held for investment(2) 8.37 % 8.37 % 7.54 % — 83 bps

Average deposits interest rate 0.76 % 1.24 % 0.95 % (48) bps 29 bps

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Selected period-end data:

Loans held for investment:

30+ day performing delinquency rate 4.62 % 6.63 % (201) bps

Allowance coverage ratio 3.94 % 1.65 % 229 bps

__________

(1)In 2018, wesold all of our consumer home loan portfolio and the related servicing. The impact of this sale is reflected in the Other category.

(2)Average yield is calculated based on interest income for the period divided by average loans during the period and does not include any allocations, such as funds transfer pricing.

(3)Nonperforming assets primarily consist of nonperforming loans and repossessed assets. The total nonperforming asset rate is calculated based on total nonperforming assets divided by the combined period-end total loans held for investment and repossessed assets.

** Not meaningful.

Key factors affecting the results of our Consumer Banking business for 2020 compared to 2019, and changes in financial condition and credit performance between December 31, 2020 and December 31, 2019 include the following:

•Net Interest Income: Net interest income increased by $506 million to $7.2 billion in 2020 primarily driven by growth in our auto loan portfolio.

•Non-Interest Income: Non-interest income decreased by $177 million to $466 million in 2020 primarily driven by lower service charges and fees on deposit accounts as a result of the COVID-19 pandemic.

•Provision for Credit Losses: Provision for credit losses increased by $815 million to $1.8 billion in 2020 driven by allowance builds in the first and second quarters of 2020 due to expectations of economic worsening as a result of the COVID-19 pandemic.

•Non-Interest Expense: Non-interest expense increased by $68 million to $4.2 billion in 2020 primarily driven by growth in our auto loan portfolio.

•Loans Held for Investment: Period-end loans held for investment increased by $5.8 billion to $68.9 billion as of December 31, 2020 from December 31, 2019, and average loans held for investment increased by $5.6 billion to $66.3 billion in 2020 compared to 2019 primarily due to growth in our auto loan portfolio.

•Deposits: Period-end deposits increased by $36.7 billion to $249.8 billion as of December 31, 2020 from December 31, 2019 primarily driven by deposit growth from increased consumer savings aided by the impact of government stimulus.

•Net Charge-Off and Delinquency Metrics: The net charge-off rate decreased by 69 basis points to 0.87% in 2020 compared to 2019 primarily driven by the impact of short-term payment extensions offered to affected auto borrowers in response to the COVID-19 pandemic.

The 30+ day delinquency rate decreased by 234 basis points to 5.00% as of December 31, 2020 from December 31, 2019 driven by lower auto delinquency inventories resulting from the short-term payment extensions offered to affected auto borrowers in response to the COVID-19 pandemic.

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Commercial Banking Business

The primary sources of revenue for our Commercial Banking business are net interest income from loans and deposits and non-interest income earned from products and services provided to our clients such as capital markets and treasury management. Because our Commercial Banking business has loans and investments that generate tax-exempt income, tax credits or other tax benefits, we present the revenues on a taxable-equivalent basis. Expenses primarily consist of the provision for credit losses and operating costs.

Our Commercial Banking business generated net income from continuing operations of $65 million, $621 million and $806 million in 2020, 2019 and 2018, respectively.

Table 11 summarizes the financial results of our Commercial Banking business and displays selected key metrics for the periods indicated.

Table 11: Commercial Banking Business Results

Year Ended December 31, Change

Selected income statement data:

Income from continuing operations before income taxes 84 809 1,051 (90) (23)

Income from continuing operations, net of tax $ 65 $ 621 $ 806 (90) (23)

Selected performance metrics:

Average loans held for investment:

Small-ticket commercial real estate — 69 371 ** (81)

Average deposits interest rate 0.40 % 1.18 % 0.72 % (78) bps 46 bps

Selected period-end data:

Loans held for investment:

Commercial and multifamily real estate $ 30,681 $ 30,245 1 %

Nonperforming loan rate 0.86 % 0.60 % 26 bps

Allowance coverage ratio 2.19 % 1.04 % 115 bps

__________

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(1)Some of our commercial investments generate tax-exempt income, tax credits or other tax benefits. Accordingly, we present our Commercial Banking revenue and yields on a taxable-equivalent basis, calculated using the federal statutory tax rate of (21% for all periods presented) and state taxes where applicable, with offsetting reductions to the Other category.

(2)The provision for losses on unfunded lending commitments is included in the provision for credit losses in our consolidated statements of income and the related reserve is included in other liabilities on our consolidated balance sheets. Our reserve for unfunded lending commitments totaled $195 million, $130 million and $118 million as of December 31, 2020, 2019 and 2018, respectively.

(3)Average yield is calculated based on interest income for the period divided by average loans during the period and does not include any allocations, such as funds transfer pricing.

(4)Nonperforming assets consist of nonperforming loans and other foreclosed assets. The total nonperforming asset rate is calculated based on total nonperforming assets divided by the combined period-end total loans held for investment and other foreclosed assets.

** Not meaningful.

Key factors affecting the results of our Commercial Banking business for 2020 compared to 2019, and changes in financial condition and credit performance between December 31, 2020 and December 31, 2019 include the following:

•Net Interest Income: Net interest income increased by $65 million to $2.0 billion in 2020 as higher average loans and deposits were partially offset by slightly lower margins.

•Non-Interest Income: Non-interest income increased by $92 million to $923 million in 2020 primarily driven by higher revenue from our agency and capital markets businesses.

•Provision for Credit Losses: Provision for credit losses increased by $875 million to $1.2 billion in 2020 driven by allowance builds in the first and second quarters of 2020 due to expectations of economic worsening as a result of the COVID-19 pandemic as well as credit deterioration in our energy loan portfolio primarily in the first quarter of 2020.

•Non-Interest Expense: Non-interest expense remained substantially flat at $1.7 billion in 2020.

•Loans Held for Investment: Period-end loans held for investment increased by $1.3 billion to $75.8 billion as of December 31, 2020 from December 31, 2019, and average loans held for investment increased by $4.4 billion to $77.0 billion in 2020 compared to 2019 driven by growth across our commercial loan portfolio.

•Deposits: Period-end deposits increased by $7.5 billion to $39.6 billion as of December 31, 2020 from December 31, 2019 primarily driven by elevated client liquidity.

•Net Charge-Off and Nonperforming Metrics: The net charge-off rate increased by 27 basis points to 0.49% in 2020 primarily driven by elevated charge-offs in our energy loan portfolio.

The nonperforming loan rate increased by 26 basis points to 0.86% as of December 31, 2020 from December 31, 2019 driven by credit downgrades in industries that are impacted by the COVID-19 pandemic.

Other Category

Other includes unallocated amounts related to our centralized Corporate Treasury group activities, such as management of our corporate investment securities portfolio, asset/liability management and certain capital management activities. Other also includes:

•unallocated corporate revenue and expenses that do not directly support the operations of the business segments or for which the business segments are not considered financially accountable in evaluating their performance, such as certain restructuring charges;

•offsets related to certain line-item reclassifications;

•residual tax expense or benefit to arrive at the consolidated effective tax rate that is not assessed to our primary business segments; and

•foreign exchange-rate fluctuations on foreign currency-denominated balances.

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Table 12 summarizes the financial results of our Other category for the periods indicated.

Table 12: Other Category Results

Year Ended December 31, Change

Selected income statement data:

Non-interest income (loss) 398 (109) 274 ** **

Provision (benefit) for credit losses 3 — (49) ** **

Loss from continuing operations before income taxes (454) (367) (241) 24 52

Income (loss) from continuing operations, net of tax $ (76) $ (14) $ 228 ** **

__________

(2)Includes legal reserve builds of $313 million and net Cybersecurity Incident expenses of $27 million in 2020.

** Not meaningful.

Net loss from continuing operations was $76 million and $14 million in 2020 and 2019, respectively, primarily driven by lower net interest income due to the decline in market interest rates and funding demands by our segments and increased non-interest expense resulting from legal reserve builds, partially offset by a gain of $535 million on our equity investment in Snowflake Inc.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The preparation of financial statements in accordance with U.S. GAAP requires management to make a number of judgments, estimates and assumptions that affect the amount of assets, liabilities, income and expenses on the consolidated financial statements. Understanding our accounting policies and the extent to which we use management judgment and estimates in applying these policies is integral to understanding our financial statements. We provide a summary of our significant accounting policies under “Note 1—Summary of Significant Accounting Policies”.

We have identified the following accounting estimates as critical because they require significant judgments and assumptions about highly complex and inherently uncertain matters and the use of reasonably different estimates and assumptions could have a material impact on our results of operations or financial condition. Our critical accounting policies and estimates are as follows:

•Loan loss reserves

•Asset impairment

•Fair value of financial instruments

•Customer rewards reserve

We evaluate our critical accounting estimates and judgments on an ongoing basis and update them as necessary, based on changing conditions.

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Loan Loss Reserves

In the first quarter of 2020, we adopted the CECL standard and updated our critical accounting policy and estimate for loan loss reserves. We maintain an allowance for credit losses that represents management’s current estimate of expected credit losses inherent in our credit card, consumer banking and commercial banking loans held for investment portfolios as of each balance sheet date. We also separately reserve for unfunded lending commitments that are not unconditionally cancellable. For all such loans and unfunded lending commitments, our estimate of expected credit losses includes a reasonable and supportable forecast period of one year and then reverts over a one-year period to historical losses at each relevant loss component of the estimate. We build our allowance for credit losses and reserve for unfunded lending commitments through the provision for credit losses, which is driven by charge-offs, changes in the allowance for credit losses and changes in the reserve for unfunded lending commitments. The allowance for credit losses was $15.6 billion as of December 31, 2020, compared to $7.2 billion as of December 31, 2019. In periods prior to 2020, the allowance for loan and lease losses represented management’s estimate of incurred loan and lease losses as fully described in “Note 1—Summary of Significant Accounting Policies” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2019.

We have an established process, using analytical tools and management judgment, to determine our allowance for credit losses. Establishing the allowance on a quarterly basis involves evaluating many factors including, but not limited to, historical loss and recovery experience, recent trends in delinquencies and charge-offs, risk ratings, the impact of bankruptcy filings, the value of collateral underlying secured loans, account seasoning, changes in our credit evaluation, underwriting and collection management policies, seasonality, credit bureau scores, current general economic conditions, our reasonable and supportable forecasts of future economic conditions, changes in the legal and regulatory environment and uncertainties in forecasting and modeling techniques used in estimating our allowance for credit losses. Key factors that have a significant impact on our allowance for credit losses include assumptions about employment levels, home prices and the valuation of commercial properties, automobiles and other collateral.

We have a governance framework intended to ensure that our estimate of the allowance for credit losses is appropriate. Our governance framework provides for oversight of methods, models, qualitative adjustments, process controls and results. At least quarterly, representatives from the Finance and Risk Management organizations review and assess our allowance methodologies, key assumptions and the appropriateness of the allowance for credit losses.

Groups independent of our estimation functions participate in the review and validation process. Tasks performed by these groups include periodic review of the rationale for and quantification of inputs requiring judgment as well as adjustments to results.

We have a model policy, established by an independent Model Risk Office, which governs the validation of models and related supporting documentation to ensure the appropriate use of models for estimating credit losses. The Model Risk Office validates all models and requires ongoing monitoring of their performance.

In addition to the allowance for credit losses, on a quarterly basis, we review and assess our estimate of expected losses related to unfunded lending commitments that are not unconditionally cancellable. The factors impacting our assessment generally align with those considered in our evaluation of the allowance for credit losses for the Commercial Banking business. Changes to the reserve for losses on unfunded lending commitments are recorded through the provision for credit losses in the consolidated statements of income and to other liabilities on the consolidated balance sheets.

Although we examine a variety of externally available data, as well as our internal loan performance data, to determine our allowance for credit losses and reserve for unfunded lending commitments, our estimation process is subject to risks and uncertainties, including a reliance on historical loss and trend information that may not be representative of current conditions and indicative of future performance as well as economic forecasts that may not align with actual future economic conditions. Accordingly, our actual credit loss experience may not be in line with our expectations. We provide additional information on the methodologies and key assumptions used in determining our allowance for credit losses for each of our loan portfolio segments in “Note 1—Summary of Significant Accounting Policies.” We provide information on the components of our allowance, disaggregated by impairment methodology, and changes in our allowance in “Note 4—Allowance for Credit Losses and Reserve for Unfunded Lending Commitments.”

Finance Charge and Fee Reserves

Finance charges and fees on credit card loans are recorded in revenue when earned. Billed finance charges and fees on credit card loans are included in loans held for investment while unbilled finance charges and fees are included in interest receivable.

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We continue to accrue finance charges and fees on credit card loans until the account is charged off. We estimate the uncollectible portion of finance charges and fees in our finance charge and fee reserve. Billed finance charges and fees that are ultimately charged-off as uncollectible are reflected as a reduction to revenue.

Concurrent with our adoption of the CECL standard in the first quarter of 2020, we reclassified our finance charge and fee reserve of $462 million to our allowance for credit losses, with a corresponding increase to credit card loans held for investment. We review and assess the appropriateness of our finance charge and fee reserve on a quarterly basis. Our methodology for estimating the uncollectible portion of finance charges and fees is consistent with the methodology we use to estimate the allowance for credit losses on the principal portion of our credit card loan receivables.

Asset Impairment

In addition to our loan portfolio, we review other assets for impairment on a regular basis in accordance with applicable accounting guidance. This process requires significant management judgment and involves various estimates and assumptions.

Goodwill

Goodwill represents the excess of the fair value of the consideration transferred, plus the fair value of any non-controlling interests in the acquiree, over the fair value of the net assets acquired and liabilities assumed as of the acquisition date.

Goodwill totaled $14.7 billion as of both December 31, 2020 and 2019. We did not recognize any goodwill impairment in 2020 and 2019. See “Note 6—Goodwill and Intangible Assets” for additional information.

We perform our goodwill impairment test annually on October 1 at a reporting unit level. We are also required to test goodwill for impairment whenever events or circumstances indicate it is more-likely-than-not that an impairment may have occurred. We have four reporting units: Credit Card, Auto Finance, Other Consumer Banking and Commercial Banking.

In the first quarter of 2020, we adopted Accounting Standards Update (“ASU”) No. 2017-04, Intangibles—Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. Under the new guidance, an impairment of a reporting unit’s goodwill is determined based on the amount by which the reporting unit’s carrying value exceeds its fair value, limited to the amount of goodwill allocated to the reporting unit.

For the purpose of our goodwill impairment testing, we calculate the carrying amount of a reporting unit using an allocated capital approach based on each reporting unit’s specific regulatory capital requirements, economic capital requirements and underlying risks. The carrying amount for a reporting unit is the sum of its respective capital requirements, goodwill and intangibles balances. Consolidated stockholder’s equity in excess of the sum of all reporting unit’s capital requirements that is not identified for future capital needs, such as dividends, share buybacks or other strategic initiatives, is allocated to the reporting units and the Other category and assumed distributed to equity holders in future periods.

Determining the fair value of a reporting unit is a subjective process that requires the use of estimates and the exercise of significant judgment. We calculate the fair value of our reporting units using a discounted cash flow (“DCF”) calculation, a form of the income approach. This DCF calculation uses projected cash flows based on each reporting unit’s internal forecast and the perpetuity growth method to calculate terminal values. Our DCF calculation requires management to make estimates about future loan, deposit and revenue growth, as well as credit losses and capital rates. These cash flows and terminal values are then discounted using discount rates based on our external cost of capital with adjustments for the risk inherent in each reporting unit. Discount rates used for our reporting units ranged from 8.1% to 14.3%, and we applied a terminal year long-term growth rate of 3.97% to all reporting units. The reasonableness of our DCF calculation is assessed by reference to a market-based approach using comparable market multiples and recent market transactions where available. The results of the 2020 annual impairment test for the reporting units indicated that the estimated fair values of the Commercial Banking, Credit Card, Auto Finance, and Other Consumer Banking reporting units exceeded their carrying amounts by between 11% and 273%.

Assumptions used in estimating the fair value of a reporting unit are judgmental and inherently uncertain. A change in the economic conditions of a reporting unit, such as declines in business performance from industry or macroeconomic trends or from changes in our strategy, adverse impacts to loan or deposit growth trends, decreases in revenue, increases in expenses, increases in credit losses, increases in capital requirements, deterioration of market conditions, declines in long-term growth expectations, adverse impacts of regulatory or legislative changes or increases in the estimated cost of capital, including if these conditions are merely forecasted to occur in future periods, could cause the estimated fair values of our reporting units to decline in the future, and increase the risk of a goodwill impairment in a future period.

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Fair Value

Fair value, also referred to as an exit price, is defined as the price that would be received for an asset or paid to transfer a liability in an orderly transaction between market participants on the measurement date. The fair value accounting guidance provides a three-level fair value hierarchy for classifying financial instruments. This hierarchy is based on the markets in which the assets or liabilities trade and whether the inputs to the valuation techniques used to measure fair value are observable or unobservable. The fair value measurement of a financial asset or liability is assigned a level based on the lowest level of any input that is significant to the fair value measurement in its entirety. The three levels of the fair value hierarchy are described below:

Level 1: Valuation is based on quoted prices (unadjusted) in active markets for identical assets or liabilities.

Level 2: Valuation is based on observable market-based inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3: Valuation is generated from techniques that use significant assumptions not observable in the market. Valuation techniques include pricing models, discounted cash flow methodologies or similar techniques.

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. When quoted prices and observable data in active markets are not fully available, management judgment is necessary to estimate fair value. Changes in 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.

We have 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. When significant adjustments are required to price quotes or inputs, it may be appropriate to utilize an estimate based primarily on unobservable inputs.

Significant judgment may be required to determine whether certain financial instruments measured at fair value are classified as Level 2 or Level 3. In making this determination, we consider all available information that market participants use to measure the fair value of the financial instrument, including observable market data, indications of market liquidity and orderliness, and our understanding of the valuation techniques and significant inputs used. Based upon the specific facts and circumstances of each instrument or instrument category, 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. The process for determining fair value using unobservable inputs is generally more subjective and involves a high degree of management judgment and assumptions. We discuss changes in the valuation inputs and assumptions used in determining the fair value of our financial instruments, including the extent to which we have relied on significant unobservable inputs to estimate fair value and our process for corroborating these inputs, in “Note 16—Fair Value Measurement.”

We have a governance framework and a number of key controls that are intended to ensure that our fair value measurements are appropriate and reliable. Our governance framework provides for independent oversight and segregation of duties. Our control processes include review and approval of new transaction types, price verification, and review of valuation judgments, methods, models, process controls and results.

Groups independent of our trading and investing functions participate in the review and validation process. Tasks performed by these groups include periodic verification of fair value measurements to determine if assigned fair values are reasonable, including comparing prices from vendor pricing services to other available market information.

Our Fair Value Committee (“FVC”), which includes representation from business areas, Risk Management and Finance, provides guidance and oversight to ensure an appropriate valuation control environment. The FVC regularly reviews and approves our fair valuations to ensure that our valuation practices are consistent with industry standards and adhere to regulatory and accounting guidance.

We have a model policy, established by an independent Model Risk Office, which governs the validation of models and related supporting documentation to ensure the appropriate use of models for pricing and fair value measurements. The Model Risk Office validates all models and requires ongoing monitoring of their performance.

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The fair value governance process is set up in a manner that allows the Chairperson of the FVC to escalate valuation disputes that cannot be resolved by the FVC to a more senior committee called the Valuations Advisory Committee (“VAC”) for resolution. The VAC is chaired by the Chief Financial Officer and includes other members of senior management. The VAC convenes to review escalated valuation disputes. There were no disputes for the years ended December 31, 2020 and 2019.

Customer Rewards Reserve

We offer products, primarily credit cards, which include programs that allow members to earn rewards based on account activity that can be redeemed for cash (primarily in the form of statement credits), gift cards, travel, or covering eligible charges. The amount of rewards that a customer earns varies based on the terms and conditions of the rewards program and product. The majority of our rewards do not expire and there is no limit on the amount of rewards an eligible card member can earn. Customer rewards costs, which we generally record as an offset to interchange income, are driven by various factors such as card member purchase volume, the terms and conditions of the rewards program and rewards redemption cost. We establish a customer rewards reserve that reflects management’s judgment regarding rewards earned that are expected to be redeemed and the estimated redemption cost.

We use financial models to estimate ultimate redemption rates of rewards earned to date by current card members based on historical redemption trends, current enrollee redemption behavior, card product type, year of program enrollment, enrollment tenure and card spend levels. Our current assumption is that the vast majority of all rewards earned will eventually be redeemed. We use the weighted-average redemption cost during the previous twelve months, adjusted as appropriate for recent changes in redemption costs, including changes related to the mix of rewards redeemed, to estimate future redemption costs. We continually evaluate our reserve and assumptions based on developments in redemption patterns, changes to the terms and conditions of the rewards program and other factors. We recognized customer rewards expense of $4.9 billion in both 2020 and2019and $4.4 billion in 2018. Our customer rewards reserve, which is included in other liabilities on our consolidated balance sheets, totaled $5.4 billion and $4.7 billion as of December 31, 2020 and 2019, respectively.

ACCOUNTING CHANGES AND DEVELOPMENTS

Accounting Standards Issued but Not Adopted as of December 31, 2020

Standard Guidance Adoption Timing and Financial Statement Impacts

See “Note 1—Summary of Significant Accounting Policies” for information on the accounting standards we adopted in 2020.

CAPITAL MANAGEMENT

The level and composition of our capital are determined by multiple factors, including our consolidated regulatory capital requirements and internal risk-based capital assessments such as internal stress testing and economic capital. The level and composition of our capital may also be influenced by rating agency guidelines, subsidiary capital requirements, business environment, conditions in the financial markets and assessments of potential future losses due to adverse changes in our business and market environments.

Capital Standards and Prompt Corrective Action

The Company and the Banks are subject to the Basel III Capital Rules established by the Federal Reserve and the OCC respectively. The Basel III Capital Rules implement certain capital and liquidity requirements published by the Basel Committee, along with certain Dodd-Frank Act and other capital provisions. Moreover, the Banks, as insured depository institutions, are subject to PCA capital regulations.

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Basel III and United States Capital Rules

Under the Basel III Capital Rules, we must maintain a minimum CET1 capital ratio of 4.5%, a Tier 1 capital ratio of 6.0%, and a Total capital ratio of 8.0%, in each case in relation to risk-weighted assets. In addition, we must maintain a minimum leverage ratio of 4.0% and a minimum supplementary leverage ratio of 3.0%. We are also subject to the capital conservation buffer and countercyclical capital buffer requirements, as described below.

In July 2019, the Federal Banking Agencies issued the Capital Simplification Rule, which finalized certain changes to the Basel III Capital Rules for institutions not subject to the Basel III Advanced Approaches. These changes, effective January 1, 2020, generally raised the threshold above which a covered institution such as the Company must deduct certain assets from its CET1 capital, including certain deferred tax assets, mortgage servicing assets, and investments in unconsolidated financial institutions.

In October 2019, the Federal Banking Agencies finalized the Tailoring Rules, which amended the Basel III Capital Rules to provide for tailored application of certain capital requirements across different categories of banking institutions. These categories are determined primarily by an institution’s asset size, with adjustments to a more stringent category possible if the institution exceeds certain risk-based thresholds. As a BHC with total consolidated assets of at least $250 billion that does not exceed any of the applicable risk-based thresholds, we are a Category III institution under the Tailoring Rules. Therefore, effective January 1, 2020, we are no longer subject to the Basel III “Advanced Approaches” framework and certain associated capital requirements, such as the requirement to include certain elements of AOCI in our regulatory capital. We remain subject to the countercyclical capital buffer requirement (which is currently set at 0%) and supplementary leverage ratio requirement, which were previously required only for Basel III Advanced Approaches institutions. Effective as of the first quarter of 2020, we excluded certain elements of AOCI from our regulatory capital as permitted by the Tailoring Rules. The Tailoring Rules and Capital Simplification Rule have, taken together, decreased our capital requirements.

G-SIBs that are based in the U.S. are subject to an additional CET1 capital requirement known as the G-SIB Surcharge. We are not a G-SIB based on the most recent available data and thus we are not subject to a G-SIB Surcharge.

Stress Capital Buffer Rule

The Basel III Capital Rules require banking institutions to maintain a capital conservation buffer, composed of CET1 capital, above the regulatory minimum ratios. The capital conservation buffer for BHCs was previously fixed at 2.5%. In March 2020, the Federal Reserve issued a final rule to implement the stress capital buffer requirement. The stress capital buffer requirement is institution-specific and replaces the fixed 2.5% capital conservation buffer for BHCs.

Pursuant to the Stress Capital Buffer Rule, the Federal Reserve will use the results of its supervisory stress test to determine the size of a BHC’s stress capital buffer requirement. In particular, a BHC’s stress capital buffer requirement will equal, subject to a floor of 2.5%, the sum of (i) the difference between the BHC’s starting CET1 capital ratio and its lowest projected CET1 capital ratio under the severely adverse scenario of the Federal Reserve’s supervisory stress test plus (ii) the ratio of the BHC’s projected four quarters of common stock dividends (for the fourth to seventh quarters of the planning horizon) to the projected risk-weighted assets for the quarter in which the BHC’s projected CET1 capital ratio reaches its minimum under the supervisory stress test.

Under the Stress Capital Buffer Rule framework, the Company’s new “standardized approach capital conservation buffer” includes its stress capital buffer requirement (which will be recalibrated every year based on the Company’s supervisory stress test results), any G-SIB surcharge (which is not applicable to us) and the countercyclical capital buffer requirement (which is currently set at 0%). Any determination to increase the countercyclical capital buffer generally would be effective twelve months after the announcement of such an increase, unless the Federal Banking Agencies set an earlier effective date.

The Company’s stress capital buffer requirement is 5.6% for the period from October 1, 2020 through September 30, 2021, at which point a revised stress capital buffer requirement will be applicable to the Company based on the Company’s 2021 stress testing results. Therefore, the Company’s minimum capital requirements plus the standardized approach capital conservation buffer for CET1 capital, Tier 1 capital and total capital ratios under the stress capital buffer framework are 10.1%, 11.6% and 13.6%, respectively, for the period from October 1, 2020 through September 30, 2021.

The Stress Capital Buffer Rule does not apply to the Banks. The capital conservation buffer for the Banks continues to be fixed at 2.5%. Accordingly, each Bank’s minimum capital requirements plus its capital conservation buffer for CET1 capital, Tier 1 capital and total capital ratios remain at 7.0%, 8.5% and 10.5% respectively.

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If we fail to maintain our capital ratios above the minimum capital requirements plus the applicable buffer requirements, we will face increasingly strict automatic limitations on capital distributions and discretionary bonus payments to certain executive officers.

As of December 31, 2020 and 2019, respectively, each of the Company and the Banks exceeded the minimum capital requirements and the buffer requirements applicable to them, and each of the Banks was “well capitalized” under PCA requirements.

Market Risk Rule

The Market Risk Rule requires institutions subject to the rule to adjust their risk-based capital ratios to reflect the market risk in their trading portfolios. As of December 31, 2020, the Company and CONA are subject to the Market Risk Rule. See “MD&A—Market Risk Profile” below for additional information.

CECL Transition Rule

As part of their response to the COVID-19 pandemic, the Federal Banking Agencies adopted the 2020 CECL Transition Rule which provides banking institutions an optional five-year transition period to phase in the impact of the CECL standard on their regulatory capital.

Pursuant to the 2020 CECL Transition Rule, a banking institution may elect to delay the estimated impact of adopting CECL on its regulatory capital through December 31, 2021 and then phase in the estimated cumulative impact from January 1, 2022 through December 31, 2024. For the “day 2” ongoing impact of CECL during the initial two years, the Federal Banking Agencies use a uniform “scaling factor” of 25% as an approximation of the increase in the allowance under the CECL standard compared to the prior incurred loss methodology. Accordingly, from January 1, 2020 through December 31, 2021, electing banking institutions are permitted to add back to their regulatory capital an amount equal to the sum of the after-tax “day 1” CECL adoption impact and 25% of the increase in the allowance since the adoption of the CECL standard. Beginning January 1, 2022 through December 31, 2024, the after-tax “day 1” CECL adoption impact and the cumulative “day 2” ongoing impact will be phased in to regulatory capital at 25% per year. The following table summarizes the capital impact delay and phase in period on our regulatory capital from years 2020 to 2025.

Capital Impact Delayed Phase In Period

We adopted the CECL standard (for accounting purposes) as of January 1, 2020, and made the 2020 CECL Transition Election (for regulatory capital purposes) in the first quarter of 2020. Therefore, the applicable amounts presented in this Report reflect such election.

Temporary Exclusions for Supplementary Leverage Ratio

In addition, in April 2020, as part of the response to the COVID-19 pandemic, the Federal Reserve issued an interim final rule that temporarily excludes U.S. Treasury securities and deposits at Federal Reserve Banks from the calculation of the supplementary leverage ratio for BHCs. These exclusions became effective on April 1, 2020, and will remain in effect through March 31, 2021.

Subsequently, in May 2020, the Federal Banking Agencies issued an interim final rule that provides an option for depository institutions to make similar exclusions to the calculation of the supplementary leverage ratio. If a depository institution elects to make such exclusions, it must request prior approval from its primary federal banking regulator before making capital distributions, such as paying dividends to its parent company, for as long as the exclusions are in effect. Neither CONA nor COBNA elected to make such exclusions.

For the description of the regulatory capital rules we are subject to, see “Part I—Item 1. Business—Supervision and Regulation.”

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Table 13 provides a comparison of our regulatory capital ratios under the Basel III Standardized Approach, the regulatory minimum capital adequacy ratios and the PCA well-capitalized level for each ratio, where applicable, as of December 31, 2020 and 2019.

Table 13: Capital Ratios Under Basel III(1)

Capital One Financial Corp:

Common equity Tier 1 capital(2) 13.7 % 4.5 % N/A 12.2 % 4.5 % N/A

COBNA:

CONA:

Supplementary leverage(6) 6.9 3.0 N/A 8.2 3.0 N/A

__________

(1)Capital requirements that are not applicable are denoted by “N/A.”

(2)Common equity Tier 1 capital ratio is a regulatory capital measure calculated based on common equity Tier 1 capital divided by risk-weighted assets.

(3)Tier 1 capital ratio is a regulatory capital measure calculated based on Tier 1 capital divided by risk-weighted assets.

(4)Total capital ratio is a regulatory capital measure calculated based on total capital divided by risk-weighted assets.

(5)Tier 1 leverage ratio is a regulatory capital measure calculated based on Tier 1 capital divided by adjusted average assets.

(6)Supplementary leverage ratio is a regulatory capital measure calculated based on Tier 1 capital divided by total leverage exposure.

(7)Supplementary leverage ratio for the Company as of December 31, 2020 excludes U.S. Treasury securities and deposits with the Federal Reserve Banks pursuant to an interim final rule issued by the Federal Reserve, see “Part I—Item 1. Business—Supervision and Regulation” for more information.

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Table 14 presents regulatory capital under the Basel III Standardized Approach and regulatory capital metrics as of December 31, 2020 and 2019.

Table 14: Regulatory Risk-Based Capital Components and Regulatory Capital Metrics

Regulatory Capital Under Basel III Standardized Approach

Adjustments:

Goodwill, net of related deferred tax liabilities (14,448) (14,465)

Intangible assets, net of related deferred tax liabilities (86) (170)

Qualifying allowance for credit losses 3,820 3,956

Regulatory Capital Metrics

__________

(1)In the first quarter of 2020, we elected to exclude from our regulatory capital ratios certain components of AOCI as permitted under the Tailoring Rules. As such, we revised our presentation herein to only include those components of AOCI that impact our regulatory capital ratios.

Capital Planning and Regulatory Stress Testing

On June 25, 2020, the Federal Reserve released the stress testing results for the 2020 CCAR cycle, including additional sensitivity analyses conducted due to the COVID-19 pandemic, and notified all participating BHCs, including us, of their stress capital buffer requirements. In light of the COVID-19 pandemic, the Federal Reserve required all participating BHCs, including us, to update and resubmit their capital plans in the fourth quarter of 2020, and to preserve capital by suspending share repurchases and capping common stock dividend payments for the third and fourth quarters of 2020 to the lower of (i) the amount paid in the second quarter of 2020 and (ii) an amount equal to the average net income earned across the four preceding calendar quarters. Scheduled payments on additional Tier 1 and Tier 2 capital instruments, such as preferred stock and subordinated debt, were not similarly restricted.

We conducted a second round of stress tests and submitted our updated capital plan to the Federal Reserve on November 2, 2020. On December 18, 2020, the Federal Reserve released the results of its second round of supervisory stress tests. The Federal Reserve did not recalculate our stress capital buffer requirement at this time but reserved its ability to do so until March 31, 2021. Finally, the Federal Reserve extended the capital distribution restrictions for all participating BHCs through at least the first quarter of 2021 with certain modifications. In particular, for the first quarter of 2021, participating BHCs may resume share repurchases but the aggregate amount of common stock dividend payments and share repurchases shall not exceed an amount equal to the average net income earned across the four preceding calendar quarters. In addition, common stock dividend payments for the first quarter of 2021 continue to be capped at the amount paid in the second quarter of 2020.

We suspended our 2019 Stock Repurchase Program on March 13, 2020, in response to the COVID-19 pandemic through the program’s expiration at the end of the second quarter of 2020. As described above, for the third and fourth quarters of 2020, we were restricted from engaging in share repurchases. On January 25, 2021, our Board of Directors authorized the repurchase of up to $7.5 billion of shares of our common stock.

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We distributed dividends of $0.40 per share on our common stock in the first and second quarters of 2020. Consistent with the Federal Reserve’s capital distribution restrictions described above, we reduced our quarterly dividend on our common stock from $0.40 per share to $0.10 per share for the third quarter of 2020. For the fourth quarter of 2020, while our third quarter results would have permitted us to increase our common stock dividend pursuant to the Federal Reserve’s limitations described above, we maintained our quarterly dividend at $0.10 per share as the process surrounding our resubmitted capital plan had not been completed at that time.

On February 4, 2021, our Board of Directors approved returning our quarterly common stock dividend to $0.40 per share for the first quarter of 2021.

For the description of the regulatory capital planning rules we are subject to, see “Part I—Item 1. Business—Supervision and Regulation.”

Equity Offerings and Transactions

On January 31, 2020, we issued 50,000,000 depositary shares, each representing a 1/40th interest in a share of Fixed Rate Non-Cumulative Perpetual Preferred Stock, Series J, $0.01 par value, with a liquidation preference of $25 per depositary share (“Series J Preferred Stock”). The net proceeds of the offering of Series J Preferred Stock were approximately $1.2 billion after deducting underwriting commissions and offering expenses. Dividends on the Series J Preferred Stock are payable quarterly in arrears at a rate of 4.80% per annum.

On March 2, 2020, we redeemed all outstanding shares of our Fixed Rate 6.00% Non-Cumulative Perpetual Preferred Stock Series B. The redemption resulted in the recognition of deferred issuance costs, which reduced our net income available to common shareholders by $22 million for the year ended December 31, 2020.

On September 17, 2020, we issued 5,000,000 depositary shares, each representing a 1/40th interest in a share of Fixed Rate Non-Cumulative Perpetual Preferred Stock, Series K, $0.01 par value, with a liquidation preference of $25 per depositary share (“Series K Preferred Stock”). The net proceeds of the offering of Series K Preferred Stock were approximately $122 million after deducting underwriting commissions and offering expenses. Dividends on the Series K Preferred Stock are payable quarterly in arrears at a rate of 4.625% per annum.

On December 1, 2020, we redeemed all outstanding shares of our Fixed Rate 6.20% Non-Cumulative Perpetual Preferred Stock Series F. The redemption resulted in the recognition of deferred issuance costs, which reduced our net income available to common shareholders by $17 million for the year ended December 31, 2020.

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Dividend Policy and Stock Purchases

For the year ended December 31, 2020, we declared and paid common stock dividends of $463 million, or $1.00 per share, and preferred stock dividends of $280 million. The following table summarizes the dividends paid per share on our various preferred stock series in each quarter of 2020.

Table 15: Preferred Stock Dividends Paid Per Share

Series Description Issuance Date Per Annum Dividend Rate Dividend Frequency 2020

__________

(1)On March 2, 2020, we redeemed all outstanding shares of our preferred stock Series B.

(2)On December 1, 2020, we redeemed all outstanding shares of our preferred stock Series F.

The declaration and payment of dividends to our stockholders, as well as the amount thereof, are subject to the discretion of our Board of Directors and depend upon our results of operations, financial condition, capital levels, cash requirements, future prospects, regulatory requirements and other factors deemed relevant by the Board of Directors. As a BHC, our ability to pay dividends is largely dependent upon the receipt of dividends or other payments from our subsidiaries. The Banks are subject to regulatory restrictions that limit their ability to transfer funds to our BHC. As of December 31, 2020, funds available for dividend payments from COBNA and CONA were $4.0 billion and $1.8 billion, respectively. There can be no assurance that we will declare and pay any dividends to stockholders.

Consistent with our 2019 Stock Repurchase Program which was announced on June 27, 2019, our Board of Directors authorized the repurchase of up to $2.2 billion of shares of common stock beginning in the third quarter of 2019 through the end of the second quarter of 2020. During the first quarter of 2020, we repurchased approximately $312 million of shares of our common stock under the 2019 Stock Repurchase Program before suspending further repurchases on March 13, 2020 in response to the COVID-19 pandemic through the program's expiration at the end of the second quarter of 2020. As noted above, for the third and fourth quarters of 2020, the Federal Reserve required all participating banking organizations, including us, to suspend share repurchases as a measure of capital preservation. On January 25, 2021, our Board of Directors authorized the repurchase of up to $7.5 billion of shares of our common stock.

The timing and exact amount of any future common stock repurchases will depend on various factors, including regulatory approval, market conditions, opportunities for growth, our capital position and the amount of retained earnings. Our stock repurchase program does not include specific price targets, may be executed through open market purchases or privately negotiated transactions, including utilizing Rule 10b5-1 programs, and may be suspended at any time. For additional information on dividends and stock repurchases, see “MD&A—Capital Management—Capital Planning and Regulatory Stress Testing” and “Part I—Item 1. Business—Supervision and Regulation—Dividends, Stock Repurchases and Transfers of Funds”.

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RISK MANAGEMENT

Risk Management Framework

Our Risk Management Framework (the “Framework”) sets consistent expectations for risk management across the Company. It also sets expectations for our “Three Lines of Defense” model, which defines the roles, responsibilities and accountabilities for taking and managing risk across the Company. Accountability for overseeing an effective Framework resides with our Board of Directors either directly or through its committees.

The “First Line of Defense” consists of any line of business or function that is accountable for risk taking and is responsible for: (i) engaging in activities designed to generate revenue or reduce expenses; (ii) providing operational support or servicing to any business function for the delivery of products or services to customers; or (iii) providing technology services in direct support of first line business areas. Each line of business or first line function must manage the risks associated with their activities, including identifying, assessing, measuring, monitoring, controlling and reporting the risks within its business activities, consistent with the risk framework. The “Second Line of Defense” consists of two types of functions: Independent Risk Management (“IRM”) and Support Functions. IRM oversees risk-taking activities and assesses risks and issues independent from the first line of defense. Support Functions are centers of specialized expertise (e.g., Human Resources, Accounting, Legal) that provide support services to the Company. The “Third Line of Defense” is comprised of the Internal Audit and Credit Review functions. The third line provides independent and objective assurance to senior management and to the Board of Directors that the first and second lines of defense have systems and governance processes which are well-designed and working as intended, and that the Framework is appropriate for our size, complexity and risk profile.

Our Framework consists of the following nine elements:

Governance and Accountability

Strategy and Risk Alignment

Capital and Liquidity Management (including Stress Testing)

Risk Data and Enabling Technology

Culture and Talent Management

Governance and Accountability

Governance and accountability sets the foundation for the methods for governing risk taking and the interactions within and among our three lines of defense.

We established a risk governance structure and accountabilities to effectively and consistently oversee the management of risks across the Company. Our Board of Directors, Chief Executive Officer and management establish the tone at the top regarding the culture of the Company, including management of risk. Management reinforces expectations at the various levels of the organization.

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Strategy and Risk Alignment

Our strategy is informed by and aligned with risk appetite, from development to execution. The Chief Executive Officer develops the strategy with input from the first, second, and third lines of defense, as well as the Board of Directors. The strategic planning process should consider relevant changes to the Company’s overall risk profile.

Our Board of Directors approves a Risk Appetite Statement for the Company to set forth the high-level principles that govern risk taking at the Company. The Risk Appetite Statement defines the Board of Directors’ tolerance for certain risk outcomes at an enterprise level and enables senior management to manage and report within these boundaries. This Risk Appetite Statement is also supported by risk category specific risk appetite statements as well as metrics and, where appropriate, Board Limits and Board Notification Thresholds.

Risk Identification

The first line of defense and certain Support Functions shall identify new and emerging risks across the relevant risk categories associated with their business activities and objectives, in consultation with IRM. Risk identification also must be informed by major changes in infrastructure or organization, introduction of new products and services, acquisitions of businesses, or substantial changes in the internal or external environment.

IRM and certain Support Functions, where appropriate, provide effective challenge in the risk identification process. IRM is also responsible for identifying our material aggregate risks on an ongoing basis.

Assessment, Measurement and Response

Management shall assess risks associated with our activities. Risks identified should be assessed to understand the severity of each risk and likelihood of occurrence under both normal and stressful conditions. Risk severity is measured through modeling and other quantitative estimation approaches, as well as qualitative approaches, based on management judgment. As part of the risk assessment process, the first and second lines of defense also evaluate the effectiveness of the existing control environment and mitigation strategies.

Management shall determine the appropriate risk response. Risks may be mitigated, accepted, transferred, or avoided. Actions taken to respond to the risk include implementing new controls, enhancing existing controls, developing additional mitigation strategies to reduce the impact of the risk, and/or monitoring the risk.

Monitoring and Testing

Management periodically monitors risks to evaluate and measure how the risk is affecting our strategy and business objectives, in alignment with management’s risk appetite, including established concentration risk limits. The scope and frequency of monitoring activities depend on the results of relevant risk assessments, as well as specific business risk operations and activities.

The first line of defense is required to evaluate the effectiveness of risk management practices and controls through testing and other activities. IRM and Support Functions, as appropriate, assess the first line of defense’s evaluation of risk management, which may include conducting effective challenge, performing independent monitoring, or conducting risk or control validations. The third line of defense provides independent assurance for first and second line risk management practices and controls.

Aggregation, Reporting and Escalation

Risk aggregation supports strategic decision making and risk management practices through collectively reporting risks across different levels of the Company and providing a comprehensive view of performance against risk appetite. Capital One’s risk aggregation processes are designed to aggregate risk information from lower levels of the business hierarchy to high levels and to aggregate risk information to determine material risk themes.

Material risks, new or emerging risks, aggregate risks, risk appetite metrics and other measures across all risk categories are reported to the appropriate governance forum no less than quarterly. Material risks are reported to the Board of Directors and senior management committees no less than quarterly.

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Capital and Liquidity Management (including Stress Testing)

Our capital management processes are linked to our risk management practices, including the enterprise-wide identification, assessment and measurement of risks to ensure that all relevant risks are incorporated in the assessment of the Company's capital adequacy. We use identified risks to inform key aspects of the Company’s capital planning, including the development of stress scenarios, the assessment of the adequacy of post-stress capital levels, and the appropriateness of potential capital actions considering the Company’s capital objectives. We quantify capital needs through stress testing, regulatory capital, economic capital and assessments of market considerations. In assessing our capital adequacy, we identify how and where our material risks are accounted for within the capital planning process. Monitoring and escalation processes exist for key capital thresholds and metrics to continuously monitor capital adequacy.

Capital One identifies and manages funding and liquidity risks that could affect its earnings, balance sheet strength and investor confidence. The Company also manages its liquidity position to satisfy regulatory requirements. The Company implements its liquidity management philosophy through the Liquidity Adequacy Framework ("Liquidity Framework"). The Liquidity Framework enables Capital One to meet its liquidity goal of maintaining a fortified balance sheet that is resilient to uncertainties that may arise because of systemic or idiosyncratic liquidity events.

Risk Data and Enabling Technology

Risk data and technology provides the basis for risk reporting and is used in decision making and to monitor and review changes to our risk profile. There is a core Governance, Risk Management and Compliance system which is used as the system of record for risks, controls, issues and events for our risk categories and supports the analysis, aggregation and reporting capabilities across the categories.

Culture and Talent Management

The Framework must be supported with the right culture, talent and skills to enable effective risk management across the Company.

Every associate at the Company is responsible for risk management; however, associates with specific risk management skills and expertise within the first, second and third lines of defense are critical to executing appropriate risk management across the enterprise.

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Risk Categories

We apply our Framework to protect the Company from the major categories of risk that we are exposed to through our business activities. Our seven major categories of risk are:

Major Categories of Risk

We provide an overview of how we manage our seven major categories of risk below.

Compliance Risk Management

We recognize that compliance requirements for financial institutions are increasingly complex and that there are heightened expectations from our regulators and our customers. In response, we continuously evaluate the regulatory environment and proactively adjust our compliance program to fully address these expectations.

Our Compliance Management Program establishes expectations for determining compliance requirements, assessing the risk of new product offerings, creating appropriate controls and training to address requirements, monitoring for control performance and independently testing for adherence to compliance requirements. The program also establishes regular compliance reporting to senior business leaders, the executive committee and the Board of Directors.

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The Chief Compliance Officer is responsible for establishing and overseeing our Compliance Management Program. Business areas incorporate compliance requirements and controls into their business policies, standards, processes and procedures. They regularly monitor and report on the efficacy of their compliance controls and our Corporate Compliance team periodically independently tests to validate the effectiveness of business controls.

Credit Risk Management

We recognize that we are exposed to cyclical changes in credit quality. Consequently, we try to ensure our credit portfolio is resilient to economic downturns. Our most important tool in this endeavor is sound underwriting. In unsecured consumer loan underwriting, we generally assume that loans will be subject to an environment in which losses are higher than those prevailing at the time of underwriting. In commercial underwriting, we generally require strong cash flow, collateral, covenants, structural enhancements, or and guarantees. In addition to sound underwriting, we continually monitor our portfolio and take steps to collect or work out distressed loans.

The Chief Risk Officer, in conjunction with the Consumer and Commercial Chief Credit Officers, is responsible for establishing credit risk policies and procedures, including underwriting and hold guidelines and credit approval authority, and monitoring credit exposure and performance of our lending related transactions. Our Consumer and Commercial Chief Credit Officers are responsible for evaluating the risk implications of credit strategy and the oversight of credit for both the existing portfolio and any new credit investments. They also have formal approval authority for various types and levels of credit decisions, including individual commercial loan transactions. Division Presidents within each segment are responsible for managing the credit risk within their divisions and maintaining processes to control credit risk and comply with credit policies and guidelines. In addition, the Chief Risk Officer establishes policies, delegates approval authority and monitors performance for non-loan credit exposure entered into with financial counterparties or through the purchase of credit sensitive securities in our investment portfolio.

Our credit policies establish standards in five areas: customer selection, underwriting, monitoring, remediation and portfolio management. The standards in each area provide a framework comprising specific objectives and control processes. These standards are supported by detailed policies and procedures for each component of the credit process. Starting with customer selection, our goal is to generally provide credit on terms that generate above hurdle returns. We use a number of quantitative and qualitative factors to manage credit risk, including setting credit risk limits and guidelines for each of our lines of business. We monitor performance relative to these guidelines and report results and any required mitigating actions to appropriate senior management committees and our Board of Directors.

Liquidity Risk Management

We manage liquidity risk by applying our Liquidity Framework. The Liquidity Framework uses internal and regulatory stress testing and the evaluation of other balance sheet metrics to confirm that we maintain a fortified balance sheet that is resilient to uncertainties that may arise as a consequence of systemic, idiosyncratic, or combined liquidity events. We continuously monitor market and economic conditions to evaluate emerging stress conditions and to develop appropriate action plans in accordance with our Contingency Funding Plan and our Recovery Plan, which include the Company’s policies, procedures and action plans for managing liquidity stress events. The Liquidity Framework enables us to manage our liquidity risk in accordance with regulatory requirements.

Additionally, the Liquidity Framework establishes governing principles that apply to the management of liquidity risk. We use these principles to monitor, measure and report liquidity risk; to develop funding and investment strategies that enable us to maintain an adequate level of liquidity to support our businesses and satisfy regulatory requirements; and to protect us from a broad range of liquidity events should they arise.

The Chief Risk Officer, in conjunction with the Chief Market and Liquidity Risk Officer, is responsible for the establishment of liquidity risk management policies and standards for governance and monitoring of liquidity risk at a corporate level. We assess liquidity strength by evaluating several different balance sheet metrics under severe stress scenarios to ensure we can withstand significant funding degradation through idiosyncratic, systemic, and combined liquidity stress scenarios. Management reports liquidity metrics to appropriate senior management committees and our Board of Directors no less than quarterly.

We seek to mitigate liquidity risk strategically and tactically. From a strategic perspective, we have acquired and built deposit gathering businesses and actively monitor our funding concentration. From a tactical perspective, we have accumulated a sizable liquidity reserve comprised of cash and cash equivalents, high-quality, unencumbered securities and committed

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collateralized credit lines. We also continue to maintain access to secured and unsecured debt markets through regular issuance. This combination of stable and diversified funding sources and our stockpile of liquidity reserves enable us to maintain confidence in our liquidity position.

Market Risk Management

The Chief Financial Officer and the Chief Risk Officer are responsible for the establishment of market risk management policies and standards for the governance and monitoring of market risk at a corporate level. Market risk is inherent from the financial instruments associated with our business operations and activities including loans, deposits, securities, short-term borrowings, long-term debt and derivatives. We manage market risk exposure, which is principally driven by balance sheet interest rate risk, centrally and establish quantitative risk limits to monitor and control our exposure.

We recognize that interest rate and foreign exchange risk is present in our business due to the nature of our assets and liabilities. Banks typically manage the trade-off between near-term earnings volatility and market value volatility by targeting moderate levels of each. In addition to using industry accepted techniques to analyze and measure interest rate and foreign exchange risk, we perform sensitivity analyses to identify our risk exposures under a broad range of scenarios. Investment securities and derivatives are the main levers for the management of interest rate risk. In addition, we also use derivatives to manage our foreign exchange risk.

The market risk positions for the Company and each of the Banks are calculated separately and in aggregate, and analyzed against pre-established limits. Results are reported to the Asset Liability Committee monthly and to the Risk Committee of the Board of Directors no less than quarterly. Management is authorized to utilize financial instruments as outlined in our policy to actively manage market risk exposure.

Operational Risk Management

We recognize the criticality of managing operational risk on both a strategic and day-to-day basis and that there are heightened expectations from our regulators and our customers. We have implemented appropriate operational risk management policies, standards, processes and controls to enable the delivery of high quality and consistent customer experiences and to achieve business objectives in a controlled manner.

The Chief Operational Risk Officer is responsible for establishing and overseeing our Operational Risk Management Program. In accordance with Basel III requirements, the program establishes practices for assessing the operational risk profile and executing key control processes for operational risks. These risks include topics such as internal and external fraud, cyber and technology risk, data management, model risk, third party management and business continuity. Operational Risk Management enforces these practices and delivers reporting of operational risk results to senior business leaders, the executive committee and the Board of Directors.

Reputation Risk Management

We recognize that reputation risk is of particular concern for financial institutions and, increasingly, technology companies, in the current environment. Areas of concern have expanded to include company policies, practices and values and, with the growing use of social and digital platforms, public corporations face a new level of scrutiny and channels for activism and advocacy. The heightened expectations of internal and external stakeholders have made corporate culture, values and conduct pressure points for individuals and advocates voicing concerns or seeking change. We manage both strategic and tactical reputation issues and build our relationships with government officials, media, community and consumer advocates, customers and other constituencies to help strengthen the reputations of both our Company and industry. Our actions include implementing pro-customer practices in our business and serving low to moderate income communities in our market area consistent with a quality bank and an innovative technology leader. The Executive Vice President of External Affairs is responsible for managing our overall reputation risk program. Day-to-day activities are controlled by the frameworks set forth in our Reputation Risk Management Policy and other risk management policies.

Strategic Risk Management

We monitor external market and industry developments to identify potential areas of strategic opportunity or risk. These items provide input for development of the Company’s strategy led by the Chief Executive Officer and other senior executives. Through the ongoing development and vetting of the corporate strategy, the Chief Risk Officer identifies and assesses risks associated with the strategy across all risk categories and monitors them throughout the year.

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CREDIT RISK PROFILE

Our loan portfolio accounts for the substantial majority of our credit risk exposure. Our lending activities are governed under our credit policy and are subject to independent review and approval. Below we provide information about the composition of our loan portfolio, key concentrations and credit performance metrics.

We also engage in certain non-lending activities that may give rise to ongoing credit and counterparty settlement risk, including purchasing securities for our investment securities portfolio, entering into derivative transactions to manage our market risk exposure and to accommodate customers, extending short-term advances on syndication activity including bridge financing transactions we have underwritten, depositing certain operational cash balances in other financial institutions, executing certain foreign exchange transactions and extending customer overdrafts. We provide additional information related to our investment securities portfolio under “MD&A—Consolidated Balance Sheets Analysis—Investment Securities” and credit risk related to derivative transactions in “Note 9—Derivative Instruments and Hedging Activities.”

Primary Loan Products

We provide a variety of lending products. Our primary loan products include credit cards, auto loans and commercial lending products. We sold all of our consumer home loan portfolio and the related servicing during 2018.

•Credit cards: We originate both prime and subprime credit cards through a variety of channels. Our credit cards generally have variable interest rates. Credit card accounts are primarily underwritten using an automated underwriting system based on predictive models that we have developed. The underwriting criteria, which are customized for individual products and marketing programs, are established based on an analysis of the net present value of expected revenues, expenses and losses, subject to further analysis using a variety of stress conditions. Underwriting decisions are generally based on credit bureau information, including payment history, debt burden and credit scores, such as FICO scores, and on other factors, such as applicant income. We maintain a credit card securitization program and selectively sell charged-off credit card loans.

•Auto: We originate both prime and subprime auto loans through a network of auto dealers and direct marketing. Our auto loans generally have fixed interest rates and loan terms of 75 months or less, but can go up to 84 months. Loan size limits are customized by program and are generally less than $75,000. Similar to credit card accounts, the underwriting criteria are customized for individual products and marketing programs and based on analysis of net present value of expected revenues, expenses and losses, and are subject to maintaining resilience under a variety of stress conditions. Underwriting decisions are generally based on an applicant’s income, estimated net disposable income, and credit bureau information including FICO scores, along with collateral characteristics such as loan-to-value (“LTV”) ratio. We maintain an auto securitization program.

•Commercial: We offer a range of commercial lending products, including loans secured by commercial real estate and loans to middle market commercial and industrial companies. Our commercial loans may have a fixed or variable interest rate; however, the majority of our commercial loans have variable rates. Our underwriting standards require an analysis of the borrower’s financial condition and prospects, as well as an assessment of the industry in which the borrower operates. Where relevant, we evaluate and appraise underlying collateral and guarantees. We maintain underwriting guidelines and limits for major types of borrowers and loan products that specify, where applicable, guidelines for debt service coverage, leverage, LTV ratio and standard covenants and conditions. We assign a risk rating and establish a monitoring schedule for loans based on the risk profile of the borrower, industry segment, source of repayment, the underlying collateral and guarantees, if any, and current market conditions. Although we generally retain the commercial loans we underwrite, we may syndicate positions for risk mitigation purposes, including bridge financing transactions we have underwritten. In addition, we originate and service multifamily commercial real estate loans which are sold to government-sponsored enterprises.

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Portfolio Composition and Maturity Profile of Loans Held for Investment

Our loan portfolio consists of loans held for investment, including loans held in our consolidated trusts, and loans held for sale. The information presented in this section excludes loans held for sale, which totaled $2.7 billion and $400 million as of December 31, 2020 and 2019, respectively. Concurrent with our adoption of the CECL standard in the first quarter of 2020, we reclassified our finance charge and fee reserve to our allowance for credit losses, with a corresponding increase to credit card loans held for investment.

Table 16 presents the composition of our portfolio of loans held for investment by portfolio segment as of December 31, 2020 and 2019.

Table 16: Portfolio Composition of Loans Held for Investment

(Dollars in millions) Loans % of Total Loans % of Total

Credit Card:

Consumer Banking:

Commercial Banking:(1)

__________

(1)Includes PPP loans of $919 million and $238 million in our retail and commercial loan portfolios, respectively, as of December 31, 2020. See “MD&A—Credit Risk Profile—COVID-19 Customer Assistance Programs and Loan Modifications” for more information.

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Table 17 presents the maturities of our loans held for investment portfolio as of December 31, 2020.

Table 17: Loan Maturity Schedule

(Dollars in millions) Due Up to1 Year > 1 Yearto 5 Years > 5 Years Total

Fixed rate:

Variable rate:

__________

(1)Due to the revolving nature of credit card loans, we report the majority of our variable-rate credit card loans as due in one year or less. We report fixed-rate credit card loans with introductory rates that expire after a certain period of time as due in one year or less. We assume that the rest of our remaining fixed-rate credit card loans will mature within one to three years.

Geographic Composition

We market our credit card products throughout the United States, Canada and the United Kingdom. Our credit card loan portfolio is geographically diversified due to our product and marketing approach. The table below presents the geographic profile of our credit card loan portfolio as of December 31, 2020 and 2019.

Table 18: Credit Card Portfolio by Geographic Region

(Dollars in millions) Amount % of Total Amount % of Total

Domestic credit card:

International card businesses:

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Our auto loan portfolio is geographically diversified in the United States due to our product and marketing approach. Retail banking includes small business loans and other consumer lending products originated through our branch network. The table below presents the geographic profile of our auto loan and retail banking portfolios as of December 31, 2020 and 2019.

Table 19: Consumer Banking Portfolio by Geographic Region

(Dollars in millions) Amount % of Total Amount % of Total

Auto:

Retail banking:

We originate commercial loans in most regions of the United States. The table below presents the geographic profile of our commercial loan portfolio by segment as of December 31, 2020 and 2019.

Table 20: Commercial Banking Portfolio by Geographic Region

COF US Equity

COF · 10-K · period ended 2020-12-31

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”)

COF US Equity☆

COF · 10-K · period ended 2020-12-31

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”)

COF US Equity