Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

PULTEGROUP, INC.

CONSOLIDATED BALANCE SHEETS

December 31, 2018 and 2017

($000’s omitted, except per share data)

	2018				2017
ASSETS
Cash and equivalents	$	1,110,088			$	272,683
Restricted cash	23,612				33,485
Total cash, cash equivalents, and restricted cash	1,133,700				306,168
House and land inventory	7,253,353				7,147,130
Land held for sale	36,849				68,384
Residential mortgage loans available-for-sale	461,354				570,600
Investments in unconsolidated entities	54,590				62,957
Other assets	830,359				745,123
Intangible assets	127,192				140,992
Deferred tax assets, net	275,579				645,295
	$	10,172,976			$	9,686,649
LIABILITIES AND SHAREHOLDERS’ EQUITY
Liabilities:
Accounts payable, including book overdrafts of $54,381 and $72,800 in 2018 and 2017, respectively	$	352,029			$	393,815
Customer deposits	254,624				250,779
Accrued and other liabilities	1,360,483				1,356,333
Income tax liabilities	11,580				86,925
Financial Services debt	348,412				437,804
Notes payable	3,028,066				3,006,967
Total liabilities	5,355,194				5,532,623
Shareholders’ equity:
Preferred shares, $0.01 par value; 25,000,000 shares authorized, none issued	$	—			$	—
Common shares, $0.01 par value; 500,000,000 shares authorized, 277,109,507 and 286,752,436 shares issued and outstanding at December 31, 2018 and 2017, respectively	2,771				2,868
Additional paid-in capital	3,201,427				3,171,542
Accumulated other comprehensive loss	(345		)		(445		)
Retained earnings	1,613,929				980,061
Total shareholders’ equity	4,817,782				4,154,026
	$	10,172,976			$	9,686,649

See Notes to Consolidated Financial Statements.

PULTEGROUP, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

For the years ended December 31, 2018**,** 2017**, and** 2016

(000’s omitted, except per share data)

	2018				2017				2016
Revenues:
Homebuilding
Home sale revenues	$	9,818,445			$	8,323,984			$	7,451,315
Land sale and other revenues	164,504				61,542				44,089
	9,982,949				8,385,526				7,495,404
Financial Services	205,382				192,160				181,126
Total revenues	10,188,331				8,577,686				7,676,530
Homebuilding Cost of Revenues:
Home sale cost of revenues	(7,540,937		)		(6,461,152		)		(5,587,974		)
Land sale cost of revenues	(126,560		)		(134,449		)		(32,115		)
	(7,667,497		)		(6,595,601		)		(5,620,089		)
Financial Services expenses	(147,422		)		(119,289		)		(108,573		)
Selling, general, and administrative expenses	(1,012,023		)		(891,581		)		(957,150		)
Other expense, net	(13,849		)		(32,387		)		(56,868		)
Income before income taxes	1,347,540				938,828				933,850
Income tax expense	(325,517		)		(491,607		)		(331,147		)
Net income	$	1,022,023			$	447,221			$	602,703
Net income per share:
Basic	$	3.56			$	1.45			$	1.76
Diluted	$	3.55			$	1.44			$	1.75
Cash dividends declared	$	0.38			$	0.36			$	0.36
Number of shares used in calculation:
Basic	283,578				305,089				339,747
Effect of dilutive securities	1,287				1,725				2,376
Diluted	284,865				306,814				342,123

See Notes to Consolidated Financial Statements.

PULTEGROUP, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

For the years ended December 31, 2018**,** 2017**, and** 2016

($000’s omitted)

	2018				2017				2016
Net income	$	1,022,023			$	447,221			$	602,703
Other comprehensive income, net of tax:
Change in value of derivatives	100				81				83
Other comprehensive income	100				81				83
Comprehensive income	$	1,022,123			$	447,302			$	602,786

See Notes to Consolidated Financial Statements.

PULTEGROUP, INC.

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

For the years ended December 31, 2018**,** 2017**, and** 2016

(000’s omitted)

	Common Shares							Additional Paid-in Capital				Accumulated Other Comprehensive Income (Loss)				Retained Earnings				Total
Shares			$
Shareholders' Equity, December 31, 2015	349,149			$	3,491			$	3,093,802			$	(609	)		$	1,662,641			$	4,759,325
Stock option exercises	498			5				5,840				—				—				5,845
Share issuances, net of cancellations	530			5				8,851				—				—				8,856
Dividends declared	—			—				—				—				(122,240		)		(122,240		)
Share repurchases	(31,087	)		(310		)		—				—				(602,896		)		(603,206		)
Share-based compensation	—			—				18,626				—				—				18,626
Excess tax benefits (deficiencies) from share-based compensation	—			—				(10,629		)		—				—				(10,629		)
Net income	—			—				—				—				602,703				602,703
Other comprehensive income	—			—				—				83				—				83
Shareholders' Equity, December 31, 2016	319,090			$	3,191			$	3,116,490			$	(526	)		$	1,540,208			$	4,659,363
Cumulative effect of accounting change (see Note 1)	—			—				(406		)		—				18,644				18,238
Stock option exercises	2,352			24				27,696				—				—				27,720
Share issuances, net of cancellations	730			10				3,555				—				—				3,565
Dividends declared	—			—				—				—				(110,046		)		(110,046		)
Share repurchases	(35,420	)		(357		)		—				—				(915,966		)		(916,323		)
Share-based compensation	—			—				24,207				—				—				24,207
Excess tax benefits (deficiencies) from share-based compensation	—			—				—				—				—				—
Net income	—			—				—				—				447,221				447,221
Other comprehensive income	—			—				—				81				—				81
Shareholders' Equity, December 31, 2017	286,752			$	2,868			$	3,171,542			$	(445	)		$	980,061			$	4,154,026
Cumulative effect of accounting change (see Note 1)	—			—				—				—				22,411				22,411
Stock option exercises	605			6				6,549				—				—				6,555
Share issuances, net of cancellations	935			9				3,475				—				—				3,484
Dividends declared	—			—				—				—				(108,489		)		(108,489		)
Share repurchases	(11,182	)		(112		)		(284		)		—				(302,077		)		(302,473		)
Share-based compensation	—			—				20,145				—				—				20,145
Net income	—			—				—				—				1,022,023				1,022,023
Other comprehensive income	—			—				—				100				—				100
Shareholders' Equity, December 31, 2018	277,110			$	2,771			$	3,201,427			$	(345	)		$	1,613,929			$	4,817,782

See Notes to Consolidated Financial Statements.

PULTEGROUP, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the years ended December 31, 2018**,** 2017**, and** 2016

($000’s omitted)

	2018				2017				2016
Cash flows from operating activities:
Net income	$	1,022,023			$	447,221			$	602,703
Adjustments to reconcile net income to net cash from operating activities:
Deferred income tax expense	362,777				422,307				334,787
Land-related charges	99,446				191,913				19,357
Depreciation and amortization	49,429				50,998				54,007
Share-based compensation expense	28,290				33,683				22,228
Loss on debt retirements	—				—				657
Other, net	(3,612		)		(1,789		)		1,614
Increase (decrease) in cash due to:
Inventories	(50,362		)		(569,030		)		(897,092		)
Residential mortgage loans available-for-sale	107,330				(33,009		)		(99,527		)
Other assets	(64,174		)		55,099				(45,721		)
Accounts payable, accrued and other liabilities	(101,403		)		65,684				75,257
Net cash provided by operating activities	1,449,744				663,077				68,270
Cash flows from investing activities:
Capital expenditures	(59,039		)		(32,051		)		(39,295		)
Investment in unconsolidated subsidiaries	(1,000		)		(23,037		)		(14,539		)
Cash used for business acquisition	—				—				(430,458		)
Other investing activities, net	18,097				4,846				13,100
Net cash used in investing activities	(41,942		)		(50,242		)		(471,192		)
Cash flows from financing activities:
Proceeds from debt, net of issuance costs	(8,164		)		—				1,995,937
Repayments of debt	(82,775		)		(134,747		)		(986,919		)
Borrowings under revolving credit facility	1,566,000				2,720,000				619,000
Repayments under revolving credit facility	(1,566,000		)		(2,720,000		)		(619,000		)
Financial Services borrowings (repayments), net	(89,393		)		106,183				63,744
Stock option exercises	6,555				27,720				5,845
Share repurchases	(302,473		)		(916,323		)		(603,206		)
Dividends paid	(104,020		)		(112,748		)		(124,666		)
Net cash provided by (used in) financing activities	(580,270		)		(1,029,915		)		350,735
Net increase (decrease)	827,532				(417,080		)		(52,187		)
Cash, cash equivalents, and restricted cash at beginning of period	306,168				723,248				775,435
Cash, cash equivalents, and restricted cash at end of period	$	1,133,700			$	306,168			$	723,248
Supplemental Cash Flow Information:
Interest paid (capitalized), net	$	557			$	(942	)		$	(26,538	)
Income taxes paid, net	$	89,204			$	14,875			$	2,743

See Notes to Consolidated Financial Statements.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. Summary of significant accounting policies

Basis of presentation

PulteGroup, Inc. is one of the largest homebuilders in the U.S., and our common shares trade on the New York Stock Exchange under the ticker symbol “PHM”. Unless the context otherwise requires, the terms "PulteGroup", the "Company", "we", "us", and "our" used herein refer to PulteGroup, Inc. and its subsidiaries. While our subsidiaries engage primarily in the homebuilding business, we also have mortgage banking operations, conducted principally through Pulte Mortgage LLC (“Pulte Mortgage”), and title and insurance brokerage operations.

The consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles and include the accounts of PulteGroup, Inc. and all of its direct and indirect subsidiaries and variable interest entities in which PulteGroup, Inc. is deemed to be the primary beneficiary. All significant intercompany accounts, transactions, and balances have been eliminated in consolidation.

Business acquisitions

We acquired substantially all of the assets of JW Homes ("Wieland") in January 2016, for $430.5 million in cash and the assumption of certain payables related to such assets. The acquired net assets were located in Atlanta, Charleston, Charlotte, Nashville, and Raleigh, and included approximately 7,000 lots, including 375 homes in inventory, and control of approximately 1,300 lots through land option contracts. We also assumed a sales order backlog of 317 homes. The acquired net assets were recorded at their estimated fair values and resulted in goodwill of $40.4 million and separately identifiable intangible assets of $18.0 million comprised of the John Wieland Homes and Neighborhoods tradename, which is being amortized over a 20-year life. The acquisition of these assets was not material to our results of operations or financial condition.

Use of estimates

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

Reclassifications

Effective with our first quarter 2018 reporting, we reclassified customer deposit income from other expense, net to land sale and other revenues. All prior period amounts have been reclassified to conform to the current presentation.

Subsequent events

We evaluated subsequent events up until the time the financial statements were filed with the Securities and Exchange Commission ("SEC").

Cash and equivalents

Cash and equivalents include institutional money market investments and time deposits with a maturity of three months or less when acquired. Cash and equivalents at December 31, 2018 and 2017 also included $40.9 million and $80.3 million, respectively, of cash from home closings held in escrow for our benefit, typically for less than five days, which are considered deposits in-transit.

Restricted cash

We maintain certain cash balances that are restricted as to their use, including customer deposits on home sales that are temporarily restricted by regulatory requirements until title transfers to the homebuyer. Total cash, cash equivalents, and restricted cash includes restricted cash balances of $23.6 million and $33.5 million at December 31, 2018 and 2017, respectively.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Investments in unconsolidated entities

We have investments in a number of unconsolidated entities, including joint ventures, with independent third parties. The equity method of accounting is used for unconsolidated entities over which we have significant influence; generally this represents ownership interests of at least 20% and not more than 50%. Under the equity method of accounting, we recognize our proportionate share of the earnings and losses of these entities. Certain of these entities sell land to us. We defer the recognition of profits from such activities until the time we ultimately sell the related land.

We evaluate our investments in unconsolidated entities for recoverability in accordance with Accounting Standards Codification (“ASC”) 323, “Investments – Equity Method and Joint Ventures” (“ASC 323”). If we determine that a loss in the value of the investment is other than temporary, we write down the investment to its estimated fair value. Any such losses are recorded to equity in (earnings) loss of unconsolidated entities, which is reflected in other expense, net. Due to uncertainties in the estimation process and the significant volatility in demand for new housing, actual results could differ significantly from such estimates. See Note 4.

Intangible assets

Goodwill, which represents the cost of acquired businesses in excess of the fair value of the net assets of such businesses at the acquisition date, was recorded as the result of the Wieland acquisition and totaled $40.4 million at December 31, 2018 and 2017. We assess goodwill for impairment annually in the fourth quarter and if events or changes in circumstances indicate the carrying amount may not be recoverable.

Intangible assets also include tradenames acquired in connection with the 2016 acquisition of Wieland, the 2009 acquisition of Centex, and the 2001 acquisition of Del Webb, all of which are being amortized over 20-year lives. The acquired cost and accumulated amortization of our tradenames were $277.0 million and $190.2 million, respectively, at December 31, 2018, and $277.0 million and $176.4 million, respectively, at December 31, 2017. Amortization expense totaled $13.8 million in 2018, 2017, and 2016, respectively, and is expected to be $13.8 million in 2019, $13.8 million in 2020, $10.4 million in 2021, and $5.7 million in 2022. The ultimate realization of these assets is dependent upon the future cash flows and benefits that we expect to generate from their use. We assess tradenames for impairment if events or changes in circumstances indicate the carrying amount may not be recoverable.

Property and equipment, net, and depreciation

Property and equipment are recorded at cost. Maintenance and repair costs are expensed as incurred. Depreciation is computed by the straight-line method based upon estimated useful lives as follows: office furniture and equipment - 3 to 10 years; leasehold improvements - life of the lease; software and hardware - 3 to 5 years; model park improvements and furnishings - 1 to 5 years. Property and equipment are included in other assets and totaled $92.9 million net of accumulated depreciation of $209.3 million at December 31, 2018 and $70.7 million net of accumulated depreciation of $206.5 million at December 31, 2017. Depreciation expense totaled $35.6 million, $37.2 million, and $40.2 million in 2018, 2017, and 2016, respectively.

Advertising costs

Advertising costs are expensed to selling, general, and administrative expense as incurred and totaled $51.0 million, $45.0 million, and $50.7 million, in 2018, 2017, and 2016, respectively.

Employee benefits

We maintain a defined contribution retirement plan that covers substantially all of our employees. Company contributions to the plan totaled $17.9 million, $15.7 million, and $14.6 million in 2018, 2017, and 2016, respectively.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Other expense, net

Other expense, net consists of the following ($000’s omitted):

	2018				2017				2016
Write-offs of deposits and pre-acquisition costs (Note 2)	$	(16,992	)		$	(11,367	)		$	(17,157	)
Lease exit and related costs (a)	(240		)		(1,729		)		(11,643		)
Amortization of intangible assets (Note 1)	(13,800		)		(13,800		)		(13,800		)
Interest expense	(618		)		(503		)		(686		)
Interest income	7,593				2,537				3,236
Equity in earnings (loss) of unconsolidated entities (Note 4) (b)	2,690				(1,985		)		8,337
Miscellaneous, net (c)	7,518				(5,540		)		(25,155		)
Total other expense, net	$	(13,849	)		$	(32,387	)		$	(56,868	)

(a)	Lease exit and related costs resulted from actions taken to reduce overheads and the substantial completion of our corporate headquarters relocation from Michigan to Georgia, which began in 2013.

(b)	Includes an $8.0 million impairment of an investment in an unconsolidated entity in 2017 (see Note 2).

(c)	Miscellaneous, net includes a charge of $15.0 million in 2016 related to the settlement of a disputed land transaction (see Note 11).

Earnings per share

Basic earnings per share is computed by dividing income available to common shareholders (the “Numerator”) by the weighted-average number of common shares, adjusted for unvested shares, (the “Denominator”) for the period. Computing diluted earnings per share is similar to computing basic earnings per share, except that the Denominator is increased to include the dilutive effects of stock options, unvested restricted shares, unvested restricted share units, and other potentially dilutive instruments. Any stock options that have an exercise price greater than the average market price of our common shares are considered anti-dilutive and excluded from the diluted earnings per share calculation. Our earnings per share excluded 1.8 million potentially dilutive instruments in 2016. Anti-dilutive shares were immaterial in 2018 and 2017.

In accordance with ASC 260 "Earnings Per Share" ("ASC 260"), the two-class method determines earnings per share for each class of common share and participating securities according to an earnings allocation formula that adjusts the Numerator for dividends or dividend equivalents and participation rights in undistributed earnings. Unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents are participating securities and, therefore, are included in computing earnings per share pursuant to the two-class method. Our outstanding restricted share awards, restricted share units, and deferred shares are considered participating securities. The following table presents the earnings per common share (000's omitted, except per share data):

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

	December 31, 2018				December 31, 2017				December 31, 2016
Numerator:
Net income	$	1,022,023			$	447,221			$	602,703
Less: earnings distributed to participating securities	(1,208		)		(1,192		)		(1,100		)
Less: undistributed earnings allocated to participating securities	(9,984		)		(3,380		)		(3,622		)
Numerator for basic earnings per share	$	1,010,831			$	442,649			$	597,981
Add back: undistributed earnings allocated to participating securities	9,984				3,380				3,622
Less: undistributed earnings reallocated to participating securities	(9,939		)		(3,361		)		(3,602		)
Numerator for diluted earnings per share	$	1,010,876			$	442,668			$	598,001
Denominator:
Basic shares outstanding	283,578				305,089				339,747
Effect of dilutive securities	1,287				1,725				2,376
Diluted shares outstanding	284,865				306,814				342,123
Earnings per share:
Basic	$	3.56			$	1.45			$	1.76
Diluted	$	3.55			$	1.44			$	1.75

Share-based compensation

We measure compensation cost for restricted shares and restricted share units at fair value on the grant date. Fair value is determined based on the quoted price of our common shares on the grant date. We recognize compensation expense for restricted shares and restricted share units, the majority of which cliff vest at the end of three years, ratably over the vesting period. For share-based awards containing performance conditions, we recognize compensation expense ratably over the vesting period when it is probable that the stated performance targets will be achieved and record cumulative adjustments in the period in which estimates change. Compensation expense related to our share-based awards is included in selling, general, and administrative expense, except for a small portion recognized in Financial Services expenses. See Note 7.

Income taxes

The provision for income taxes is calculated using the asset and liability method, under which deferred tax assets and liabilities are recognized by identifying the temporary differences arising from the different treatment of items for tax and accounting purposes. In assessing the realizability of deferred tax assets, we consider whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is primarily dependent upon the generation of future taxable income. In determining the future tax consequences of events that have been recognized in the financial statements or tax returns, judgment is required. Differences between the anticipated and actual outcomes of these future tax consequences could have a material impact on our consolidated results of operations or financial position.

Unrecognized tax benefits represent the difference between tax positions taken or expected to be taken in a tax return and the benefits recognized for financial statement purposes. We follow the provisions of ASC 740 which prescribes a minimum recognition threshold a tax position is required to meet before being recognized in the financial statements. Significant judgment is required to evaluate uncertain tax positions. Our evaluations of tax positions consider a variety of factors, including relevant facts and circumstances, applicable tax law, correspondence with taxing authorities, and effective settlements of audit issues. Changes in the recognition or measurement of uncertain tax positions could result in material increases or decreases in income tax expense (benefit) in the period in which the change is made. Interest and penalties related to unrecognized tax benefits are recognized as a component of income tax expense (benefit). See Note 8.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Revenue recognition

Home sale revenues - Home sale revenues and related profit are generally recognized when title to and possession of the home are transferred to the buyer at the home closing date. Our performance obligation to deliver the agreed-upon home is generally satisfied in less than one year from the original contract date. Home sale contract assets consist of cash from home closings held in escrow for our benefit, typically for less than five days, which are considered deposits in-transit and classified as cash. Contract liabilities include customer deposit liabilities related to sold but undelivered homes, which totaled $254.6 million and $250.8 million at December 31, 2018 and 2017, respectively. Substantially all of our home sales are scheduled to close and be recorded to revenue within one year from the date of receiving a customer deposit.

Land sale revenues - We periodically elect to sell parcels of land to third parties in the event such assets no longer fit into our strategic operating plans or are zoned for commercial or other development. Land sales are generally outright sales of specified land parcels with cash consideration due on the closing date, which is generally when performance obligations are satisfied. During 2018, we closed on a number of land sale transactions that generated gains totaling $31.4 million, as the proceeds from the sales exceeded the cost basis of the land. Substantially all performance obligations related to these transactions were satisfied at closing.

Financial services revenues - Loan origination fees, commitment fees, and certain direct loan origination costs are recognized as incurred. Expected gains and losses from the sale of residential mortgage loans and their related servicing rights are included in the measurement of written loan commitments that are accounted for at fair value through Financial Services revenues at the time of commitment. Subsequent changes in the fair value of these loans are reflected in Financial Services revenues as they occur. Interest income is accrued from the date a mortgage loan is originated until the loan is sold. Mortgage servicing fees represent fees earned for servicing loans for various investors. Servicing fees are based on a contractual percentage of the outstanding principal balance and are credited to income when related mortgage payments are received or the sub-servicing fees are earned.

Revenues associated with our title operations are recognized as closing services are rendered and title insurance policies are issued, both of which generally occur as each home is closed. Insurance brokerage commissions relate to commissions on home and other insurance policies placed with third party carriers through various agency channels. Our performance obligations for policy renewal commissions are considered satisfied upon issuance of the initial policy, and related contract assets for estimated future renewal commissions are included in other assets and totaled $30.8 million at December 31, 2018. Contract assets totaling $27.7 million were recognized on January 1, 2018, in conjunction with the adoption of Accounting Standards Codification ("ASC") 606, "Revenue from Contracts with Customers" ("ASC 606"). Refer to "New accounting pronouncements" within Note 1 for further discussion.

Sales incentives

When sales incentives involve a discount on the selling price of the home, we record the discount as a reduction of revenue at the time of house closing. If the sales incentive requires us to provide a free product or service to the customer, the cost of the free product or service is recorded as cost of revenues at the time of house closing. This includes the cost related to optional upgrades and seller-paid financing costs, closing costs, homeowners’ association fees, or merchandise.

Inventory and cost of revenues

Inventory is stated at cost unless the carrying value is determined to not be recoverable, in which case the affected inventory is written down to fair value. Cost includes land acquisition, land development, and home construction costs, including interest, real estate taxes, and certain direct and indirect overhead costs related to development and construction. For those communities for which construction and development activities have been idled, applicable interest and real estate taxes are expensed as incurred. Land acquisition and development costs are allocated to individual lots using an average lot cost determined based on the total expected land acquisition and development costs and the total expected home closings for the community. The specific identification method is used to accumulate home construction costs.

We capitalize interest cost into homebuilding inventories. Each layer of capitalized interest is amortized over a period that approximates the average life of communities under development. Interest expense is allocated over the period based on the timing of home closings.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Cost of revenues includes the construction cost, average lot cost, estimated warranty costs, and closing costs applicable to the home. Sales commissions are classified within selling, general, and administrative expenses. The construction cost of the home includes amounts paid through the closing date of the home, plus an accrual for costs incurred but not yet paid. Total community land acquisition and development costs are based on an analysis of budgeted costs compared with actual costs incurred to date and estimates to complete. The development cycles for our communities range from under one year to in excess of ten years for certain master planned communities. Adjustments to estimated total land acquisition and development costs for the community affect the amounts costed for the community’s remaining lots.

We test inventory for impairment when events and circumstances indicate that the undiscounted cash flows estimated to be generated by the community may be less than its carrying amount. Such indicators include gross margins or sales paces significantly below expectations, construction costs or land development costs significantly in excess of budgeted amounts, significant delays or changes in the planned development or strategy for the community, and other known qualitative factors. Communities that demonstrate potential impairment indicators are tested for impairment by comparing the expected undiscounted cash flows for the community to its carrying value. For those communities whose carrying values exceed the expected undiscounted cash flows, we estimate the fair value of the community, and impairment charges are recorded if the fair value of the community's inventory is less than its carrying value. See Note 2.

Land held for sale

We periodically elect to sell parcels of land to third parties in the event such assets no longer fit into our strategic operating plans or are zoned for commercial or other development. Land held for sale is recorded at the lower of cost or fair value less costs to sell. In determining the value of land held for sale, we consider recent offers received, prices for land in recent comparable sales transactions, and other factors. We record net realizable value adjustments for land held for sale within Homebuilding land sale cost of revenues. See Note 2.

Land option agreements

We enter into land option agreements in order to procure land for the construction of homes in the future. Pursuant to these land option agreements, we generally provide a deposit to the seller as consideration for the right to purchase land at different times in the future, usually at predetermined prices. Such contracts enable us to defer acquiring portions of properties owned by third parties or unconsolidated entities until we have determined whether and when to exercise our option, which may serve to reduce our financial risks associated with long-term land holdings. Option deposits and pre-acquisition costs (such as environmental testing, surveys, engineering, and entitlement costs) are capitalized if the costs are directly identifiable with the land under option, the costs would be capitalized if we owned the land, and acquisition of the property is probable. Such costs are reflected in other assets and are reclassified to inventory upon taking title to the land. We write off deposits and pre-acquisition costs when it becomes probable that we will not go forward with the project or recover the capitalized costs. Such decisions take into consideration changes in local market conditions, the timing of required land purchases, the availability and best use of necessary incremental capital, and other factors. We record any such write-offs of deposits and pre-acquisition costs within other expense, net. See Note 2.

If an entity holding the land under option is a variable interest entity (“VIE”), our deposit represents a variable interest in that entity. No VIEs required consolidation at either December 31, 2018 or 2017 because we determined that we were not the primary beneficiary. Our maximum exposure to loss related to these VIEs is generally limited to our deposits and pre-acquisition costs under the applicable land option agreements. The following provides a summary of our interests in land option agreements ($000’s omitted):

	December 31, 2018								December 31, 2017
	Deposits and Pre-acquisition Costs				Remaining Purchase Price				Deposits and Pre-acquisition Costs				Remaining Purchase Price
Land options with VIEs	$	90,717			$	1,079,507			$	78,889			$	977,480
Other land options	127,851				1,522,903				129,098				1,485,099
	$	218,568			$	2,602,410			$	207,987			$	2,462,579

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Allowance for warranties

Home purchasers are provided with a limited warranty against certain building defects, including a one-year comprehensive limited warranty and coverage for certain other aspects of the home's construction and operating systems for periods of up to 10 years. We estimate the costs to be incurred under these warranties and record a liability in the amount of such costs at the time revenue is recognized (see Note 11).

Self-insured risks

We maintain, and require the majority of our subcontractors to maintain, general liability insurance coverage, including coverage for certain construction defects. We also maintain builders' risk, property, errors and omissions, workers compensation, and other business insurance coverage. These insurance policies protect us against a portion of the risk of loss from claims, subject to certain self-insured per occurrence and aggregate retentions, deductibles, and available policy limits. However, we retain a significant portion of the overall risk for such claims. We reserve for these costs on an undiscounted basis at the time revenue is recognized for each home closing and evaluate the recorded liabilities based on actuarial analyses of our historical claims, which include estimates of claims incurred but not yet reported. Adjustments to estimated reserves are recorded in the period in which the change in estimate occurs. In certain instances, we have the ability to recover a portion of our costs under various insurance policies or from our subcontractors or other third parties. Estimates of such amounts are recorded when recovery is considered probable. See Note 11.

Residential mortgage loans available-for-sale

Substantially all of the loans originated by us and their related servicing rights are sold in the secondary mortgage market within a short period of time after origination, generally within 30 days. In accordance with ASC 825, “Financial Instruments” (“ASC 825”), we use the fair value option to record residential mortgage loans available-for-sale. Election of the fair value option for these loans allows a better offset of the changes in fair values of the loans and the derivative instruments used to economically hedge them without having to apply complex hedge accounting provisions. We do not designate any derivative instruments as hedges or apply the hedge accounting provisions of ASC 815, “Derivatives and Hedging.” See Note 11 for discussion of the risks retained related to mortgage loan originations.

Expected gains and losses from the sale of residential mortgage loans and their related servicing rights are included in the measurement of written loan commitments that are accounted for at fair value through Financial Services revenues at the time of commitment. Subsequent changes in the fair value of these loans are reflected in Financial Services revenues as they occur. At December 31, 2018 and 2017, residential mortgage loans available-for-sale had an aggregate fair value of $461.4 million and $570.6 million, respectively, and an aggregate outstanding principal balance of $444.2 million and $553.5 million, respectively. The net gain (loss) resulting from changes in fair value of these loans totaled $0.7 million and $(2.2) million for the years ended December 31, 2018 and 2017, respectively. These changes in fair value were substantially offset by changes in fair value of the corresponding hedging instruments. Net gains from the sale of mortgages during 2018, 2017, and 2016 were $111.3 million, $110.9 million, and $109.6 million, respectively, and have been included in Financial Services revenues.

Mortgage servicing rights

We sell the servicing rights for the loans we originate through fixed price servicing sales contracts to reduce the risks and costs inherent in servicing loans. This strategy results in owning the servicing rights for only a short period of time. The servicing sales contracts provide for the reimbursement of payments made by the purchaser if loans prepay within specified periods of time, generally within 90 to 120 days after sale. We establish reserves for this exposure at the time the sale is recorded. Such reserves were immaterial at December 31, 2018 and 2017.

Loans held for investment

We maintain a portfolio of loans that either have been repurchased from investors or were not saleable upon closing. We have the intent and ability to hold these loans for the foreseeable future or until maturity or payoff. These loans are reviewed annually for impairment, or when recoverability becomes doubtful. Loans held for investment are included in other assets and totaled $8.9 million and $11.2 million at December 31, 2018 and 2017, respectively.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Interest income on mortgage loans

Interest income on mortgage loans is recorded in Financial Services revenues, accrued from the date a mortgage loan is originated until the loan is sold, and totaled $11.3 million, $9.5 million, and $8.0 million in 2018, 2017, and 2016, respectively. Loans are placed on non-accrual status once they become greater than 90 days past due their contractual terms. Subsequent payments received are applied according to the contractual terms of the loan. Mortgage discounts are not amortized as interest income due to the short period the loans are held until sale to third party investors.

Derivative instruments and hedging activities

We are party to interest rate lock commitments ("IRLCs") with customers resulting from our mortgage origination operations. At December 31, 2018 and 2017, we had aggregate IRLCs of $285.0 million and $210.9 million, respectively, which were originated at interest rates prevailing at the date of commitment. Since we can terminate a loan commitment if the borrower does not comply with the terms of the contract, and some loan commitments may expire without being drawn upon, these commitments do not necessarily represent future cash requirements. We evaluate the creditworthiness of these transactions through our normal credit policies.

We hedge our exposure to interest rate market risk relating to residential mortgage loans available-for-sale and IRLCs using forward contracts on mortgage-backed securities, which are commitments to either purchase or sell a specified financial instrument at a specified future date for a specified price, and whole loan investor commitments, which are obligations of an investor to buy loans at a specified price within a specified time period. Forward contracts on mortgage-backed securities are the predominant derivative financial instruments we use to minimize market risk during the period from the time we extend an interest rate lock to a loan applicant until the time the loan is sold to an investor. At December 31, 2018 and 2017, we had unexpired forward contracts of $511.0 million and $522.0 million, respectively, and whole loan investor commitments of $187.8 million and $203.1 million, respectively. Changes in the fair value of IRLCs and other derivative financial instruments are recognized in Financial Services revenues, and the fair values are reflected in other assets or other liabilities, as applicable.

There are no credit-risk-related contingent features within our derivative agreements, and counterparty risk is considered minimal. Gains and losses on IRLCs are substantially offset by corresponding gains or losses on forward contracts on mortgage-backed securities and whole loan investor commitments. We are generally not exposed to variability in cash flows of derivative instruments for more than approximately 60 days.

The fair values of derivative instruments and their location in the Consolidated Balance Sheets are summarized below ($000’s omitted):

	December 31, 2018								December 31, 2017
	Other Assets				Other Liabilities				Other Assets				Other Liabilities
Interest rate lock commitments	$	9,196			$	161			$	5,990			$	407
Forward contracts	315				7,229				432				817
Whole loan commitments	393				1,111				794				941
	$	9,904			$	8,501			$	7,216			$	2,165

New accounting pronouncements

On January 1, 2018, we adopted ASC 606, which is a comprehensive new revenue recognition model that requires revenue to be recognized in a manner to depict the transfer of goods or services and satisfaction of performance obligations to a customer at an amount that reflects the consideration expected to be received in exchange for those goods or services. We applied the modified retrospective method to contracts that were not completed as of January 1, 2018. Results for reporting periods beginning after January 1, 2018 are presented under ASC 606, while prior period amounts are not adjusted and continue to be reported under the previous accounting standards. We recorded a net increase to opening retained earnings of $22.4 million, net of tax, as of January 1, 2018, due to the cumulative impact of adopting ASC 606, with the impact primarily related to the recognition of contract assets for insurance brokerage commission renewals. There was not a material impact to revenues as a result of applying ASC 606 in 2018, and there have not been significant changes to our business processes, systems, or internal controls as a result of implementing the standard.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

On January 1, 2018, we adopted Accounting Standards Update ("ASU") No. 2016-15, "Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments" ("ASU 2016-15"), on a retrospective basis. ASU 2016-15 addresses several specific cash flow issues. The adoption of ASU 2016-15 had no effect on our financial statements.

ASC 842, "Leases", becomes effective for us for interim and annual periods beginning January 1, 2019. The standard requires that lease assets and liabilities be recognized on the balance sheet and that key information about leasing arrangements be disclosed. Upon adoption, we expect to recognize additional lease assets and liabilities of approximately $80 million to reflect the present value of remaining lease payments under existing leasing arrangements. While the recognition of such lease assets and liabilities will impact our consolidated balance sheet, we do not expect a material impact on our consolidated statements of operations or cash flows. We also do not expect significant changes to our business processes, systems, or internal controls as a result of implementing the standard. We have elected to apply the modified retrospective transition approach, so financial information will not be updated for periods prior to January 1, 2019.

In June 2016, the Financial Accounting Standards Board ("FASB") issued ASU No. 2016-13, "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments", which changes the impairment model for most financial assets and certain other instruments from an "incurred loss" approach to a new "expected credit loss" methodology. The standard is effective for us for annual and interim periods beginning January 1, 2020, with early adoption permitted, and requires full retrospective application on adoption. We are currently evaluating the impact the standard will have on our financial statements.

In January 2017, the FASB issued ASU No. 2017-04, "Intangibles - Goodwill and Other (Topic 350): Simplifying the Accounting for Goodwill Impairment." ("ASU 2017-04"), which removes the requirement to perform a hypothetical purchase price allocation to measure goodwill impairment. A goodwill impairment will now be the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. ASU 2017-04 is effective for us for annual and interim periods beginning January 1, 2020, with early adoption permitted, and applied prospectively. We do not expect ASU 2017-04 to have a material impact on our financial statements.

2. Inventory and land held for sale

Major components of inventory at December 31, 2018 and 2017 were ($000’s omitted):

	2018				2017
Homes under construction	$	2,630,158			$	2,421,405
Land under development	4,129,225				4,135,814
Raw land	493,970				589,911
	$	7,253,353			$	7,147,130

In all periods presented, we capitalized all Homebuilding interest costs into inventory because the level of our active inventory exceeded our debt levels. Activity related to interest capitalized into inventory is as follows ($000’s omitted):

	Years Ended December 31,
	2018				2017				2016
Interest in inventory, beginning of period	$	226,611			$	186,097			$	149,498
Interest capitalized	172,809				181,719				160,506
Interest expensed	(171,925		)		(141,205		)		(123,907		)
Interest in inventory, end of period	$	227,495			$	226,611			$	186,097

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Land-related charges

We recorded the following land-related charges ($000's omitted):

	Statement of Operations Classification		2018				2017				2016
Net realizable value adjustments ("NRV") - land held for sale	Land sale cost of revenues		$	11,489			$	83,576			$	1,105
Land impairments	Home sale cost of revenues		70,965				88,952				1,074
Impairments of unconsolidated entities	Other expense, net		—				8,017				—
Write-offs of deposits and pre-acquisition costs	Other expense, net		16,992				11,367				17,157
Total land-related charges			$	99,446			$	191,912			$	19,336

Land-related charges have not been a significant broad-based issue since the U.S. housing recovery began in 2012. However, we experienced changes to facts and circumstances related to specific individual communities in 2018 and 2017 that elevated such charges.

As explained in Note 1, we periodically elect to sell parcels of land to third parties in the event such assets no longer fit into our strategic operating plans or are zoned for commercial or other development. The NRVs in 2017 were primarily the result of a plan we announced in May 2017 to sell select non-core and underutilized land parcels following a strategic review of our land portfolio. As part of that review, we determined that we would sell certain inactive land parcels, representing approximately 17 communities and 4,600 lots. These land parcels were located in diverse geographic areas and no longer fit into our strategic plans. The land parcels identified for sale included: land requiring significant additional development spend that would not yield suitable returns; land in excess of near-term need; and land entitled for certain product types inconsistent with our primary offerings. As a consequence of the change in strategy with respect to the future use of these land parcels, we recorded NRVs totaling $81.0 million in the three months ended June 30, 2017, related to inventory with a pre-NRV carrying value of $151.0 million. An additional $2.6 million of NRVs were recorded throughout 2017 as the result of adjustments to the aforementioned valuations as the sale process progressed or related to other land parcels we chose to sell. The estimated fair values of these inactive land parcels that were held for sale were generally based on comparisons to market comparable transactions, letters of intent, active negotiations with market participants, or similar market-based information supplemented in certain instances by estimated future net cash flows discounted for inherent risk associated with each underlying asset. The majority of these parcels were sold to third parties in either 2017 or 2018; such transactions are classified as land sale revenues.

Land impairments relate to communities that are either active or that we intend to eventually open and build out. On a quarterly basis, we review each of our land positions for potential indicators of impairment and perform detailed impairment calculations for communities that display indicators of potential impairment.

•

In 2018, we received an unfavorable determination related to one of our communities that had been idle while pursuing entitlements for over 10 years. This unfavorable determination caused a significant reduction in the number of lots and necessitated certain changes to the expected product offering and land development that, combined with rising costs and a softening in demand in the applicable local market, resulted in an impairment of $59.2 million. Impairments for all other communities in 2018 totaled $11.8 million.

•	In 2017, our impairments resulted from:

–	As part of the May 2017 strategic review, we decided to accelerate the monetization of two communities through a combination of changing the product offerings and lowering the sales prices within the communities. This decision resulted in land impairments of $31.5 million in the three months ended June 30, 2017.

–

Separately, we recorded an impairment charge of $53.0 million related to one large project. This impairment resulted from increases in our estimates for future land development and house construction costs combined with lower pricing and slower sales paces for this project, which is located in an area where competitive conditions limit our ability to offset our cost increases through higher sales prices. Impairments for all other communities in 2017 totaled $4.5 million.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

We determine the fair value of a community's inventory using a combination of discounted cash flow models and market comparable transactions, where available. These estimated cash flows are significantly impacted by estimates related to expected average selling prices, expected sales paces, expected land development and construction timelines, and anticipated land development, construction, and overhead costs. The assumptions used in the cash flow models are specific to each community and typically do not assume improvements in market conditions in the near term. The discount rate used in determining each community's fair value depends on the stage of development of the community and other specific factors that increase or decrease the inherent risks associated with the community's cash flow streams. Accordingly, determining the fair value of a community's inventory involves a number of variables, many of which are interrelated. The table below summarizes certain quantitative unobservable inputs utilized in determining the fair value of impaired communities ($000's omitted):

	Communities Impaired			Fair Value of Communities Impaired, Net of Impairment Charges				Impairment Charges				Average Selling Price		Quarterly Sales Pace (homes)		Discount Rate
2018	8			$	24,062			$	70,965			$287 to $586		2 to 11		12% to 22%
2017	9			19,252				88,952				$207 to $818		1 to 11		12% to 25%
2016	2			8,920				1,074				$109 to $563		3 to 5		12	%

Our evaluations for impairments are based on our best estimates of the future cash flows for our communities. Due to uncertainties in the estimation process, the significant volatility in demand for new housing, the long life cycles of certain of our communities, and potential changes in our strategy related to certain communities, actual results could differ significantly from such estimates.

Land held for sale

Land held for sale at December 31, 2018 and 2017 was as follows ($000’s omitted):

	2018				2017
Land held for sale, gross	$	40,037			$	142,070
Net realizable value reserves	(3,188		)		(73,686		)
Land held for sale, net	$	36,849			$	68,384

3. Segment information

Our Homebuilding operations are engaged in the acquisition and development of land primarily for residential purposes within the U.S. and the construction of housing on such land. Home sale revenues for detached and attached homes were $8.2 billion and $1.6 billion in 2018, $7.3 billion and $1.1 billion in 2017, and $6.5 billion and $1.0 billion in 2016, respectively. For reporting purposes, our Homebuilding operations are aggregated into six reportable segments:

Northeast:		Connecticut, Maryland, Massachusetts, New Jersey, New York, Pennsylvania, Virginia
Southeast:		Georgia, North Carolina, South Carolina, Tennessee
Florida:		Florida
Midwest:		Illinois, Indiana, Kentucky, Michigan, Minnesota, Ohio
Texas:		Texas
West:		Arizona, California, Nevada, New Mexico, Washington

We also have a reportable segment for our Financial Services operations, which consist principally of mortgage banking, title, and insurance brokerage operations. The Financial Services segment operates generally in the same markets as the Homebuilding segments. Evaluation of segment performance is generally based on income before income taxes. Each reportable segment generally follows the same accounting policies described in Note 1.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

	Operating Data by Segment ($000’s omitted) Years Ended December 31,
	2018				2017				2016
Revenues:
Northeast	$	839,700			$	693,877			$	699,718
Southeast	1,746,161				1,564,116				1,492,502
Florida	1,944,170				1,494,389				1,285,890
Midwest	1,497,389				1,450,192				1,235,198
Texas	1,301,004				1,168,755				1,035,428
West	2,654,525				2,014,197				1,746,668
	9,982,949				8,385,526				7,495,404
Financial Services	205,382				192,160				181,126
Consolidated revenues	$	10,188,331			$	8,577,686			$	7,676,530
Income before income taxes (a)****:
Northeast (b)	$	29,629			$	21,190			$	81,991
Southeast	202,639				122,532				145,011
Florida (c)	289,418				208,825				205,049
Midwest	179,568				178,231				120,159
Texas	193,946				182,862				152,355
West (d)	511,828				229,504				225,771
Other homebuilding (e)	(118,224		)		(77,812		)		(69,570		)
	1,288,804				865,332				860,766
Financial Services	58,736				73,496				73,084
Consolidated income before income taxes	$	1,347,540			$	938,828			$	933,850

(a)	Includes certain land-related charges (see the following table and Note 2).

(b)	Northeast includes a charge of $15.0 million in 2016 related to the settlement of a disputed land transaction (see Note 11).

(c)	Florida includes a warranty charge of $12.4 million in 2017 related to a closed-out community (see Note 11).

(d)	West includes gains of $26.4 million in 2018 related to two land sale transactions in California.

(e)

Other homebuilding includes the amortization of intangible assets, amortization of capitalized interest, and other items not allocated to the operating segments. Also includes: write-off of $29.6 million of insurance receivables associated with the resolution of certain insurance matters in 2017 (see Note 11); general liability insurance reserve reversals of $35.9 million*,* $97.8 million*, and* $57.1 million in 2018*,* 2017 and 2016*, respectively (see* Note 11); and costs associated with the relocation of our corporate headquarters totaling $8.3 million in 2016*.*

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

	Operating Data by Segment ($000's omitted) Years Ended December 31,
	2018				2017				2016
Land-related charges:*
Northeast	$	74,488			$	51,362			$	2,079
Southeast	8,140				55,689				3,089
Florida	1,166				9,702				715
Midwest	7,361				8,917				3,383
Texas	1,204				2,521				515
West	5,159				56,995				8,960
Other homebuilding	1,928				6,726				595
	$	99,446			$	191,912			$	19,336

***	Land-related charges include land impairments, net realizable value adjustments for land held for sale, and write-offs of deposits and pre-acquisition costs for land option contracts we elected not to pursue. Other homebuilding consists primarily of write-offs of capitalized interest related to such land-related charges. See Note 2 for additional discussion of these charges.

	Operating Data by Segment ($000's omitted) Years Ended December 31,
	2018				2017				2016
Depreciation and amortization:
Northeast	$	2,093			$	2,392			$	2,133
Southeast	5,231				5,117				5,350
Florida	4,893				4,883				4,955
Midwest	4,271				4,449				5,099
Texas	3,082				3,301				3,673
West	6,758				5,828				6,739
Other homebuilding (a)	18,908				21,326				22,467
	45,236				47,296				50,416
Financial Services	4,193				3,702				3,591
	$	49,429			$	50,998			$	54,007

(a)	Other homebuilding includes amortization of intangible assets.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

	Operating Data by Segment
	($000's omitted)
	December 31, 2018
	Homes Under Construction				Land Under Development				Raw Land				Total Inventory				Total Assets
Northeast	$	268,900			$	291,467			$	52,245			$	612,612			$	704,515
Southeast	443,140				676,087				90,332				1,209,559				1,347,427
Florida	467,625				892,669				85,321				1,445,615				1,601,906
Midwest	314,442				433,056				29,908				777,406				849,596
Texas	284,405				427,124				98,415				809,944				881,629
West	805,709				1,131,841				118,579				2,056,129				2,208,092
Other homebuilding (a)	45,937				276,981				19,170				342,088				2,006,825
	2,630,158				4,129,225				493,970				7,253,353				9,599,990
Financial Services													—				572,986
	$	2,630,158			$	4,129,225			$	493,970			$	7,253,353			$	10,172,976
	December 31, 2017
	Homes Under Construction				Land Under Development				Raw Land				Total Inventory				Total Assets
Northeast	$	234,413			$	327,599			$	73,574			$	635,586			$	791,511
Southeast	433,411				613,626				121,238				1,168,275				1,287,992
Florida	359,651				876,856				109,069				1,345,576				1,481,837
Midwest	299,896				476,694				28,482				805,072				877,282
Texas	251,613				435,018				87,392				774,023				859,847
West	798,706				1,137,940				147,493				2,084,139				2,271,328
Other homebuilding (a)	43,715				268,081				22,663				334,459				1,469,234
	2,421,405				4,135,814				589,911				7,147,130				9,039,031
Financial Services	—				—				—				—				647,618
	$	2,421,405			$	4,135,814			$	589,911			$	7,147,130			$	9,686,649
	December 31, 2016
	Homes Under Construction				Land Under Development				Raw Land				Total Inventory				Total Assets
Northeast	$	175,253			$	375,899			$	135,447			$	686,599			$	798,369
Southeast (a)	354,047				650,805				148,793				1,153,645				1,243,188
Florida	309,525				683,376				183,168				1,176,069				1,330,847
Midwest	256,649				474,287				50,302				781,238				851,457
Texas	219,606				413,312				74,750				707,668				793,917
West	580,082				1,226,190				159,387				1,965,659				2,200,058
Other homebuilding (a)	26,097				248,240				25,440				299,777				2,351,082
	1,921,259				4,072,109				777,287				6,770,655				9,568,918
Financial Services	—				—				—				—				609,282
	$	1,921,259			$	4,072,109			$	777,287			$	6,770,655			$	10,178,200

(a)	Other homebuilding primarily includes cash and equivalents, capitalized interest, intangibles, deferred tax assets, and other corporate items that are not allocated to the operating segments.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

4. Investments in unconsolidated entities

We participate in a number of joint ventures with independent third parties. These joint ventures generally purchase, develop, and sell land, including selling land to us for use in our homebuilding operations. A summary of our joint ventures is presented below ($000’s omitted):

	December 31,
	2018				2017
Investments in joint ventures with limited recourse debt	$	31,551			$	37,063
Investments in joint ventures with debt non-recourse to PulteGroup	3,471				3,567
Investments in other active joint ventures	19,568				22,327
Total investments in unconsolidated entities	$	54,590			$	62,957
Total joint venture debt	$	42,948			$	59,544
PulteGroup proportionate share of joint venture debt:
Joint venture debt with limited recourse guaranties	$	21,059			$	28,157
Joint venture debt non-recourse to PulteGroup	217				700
PulteGroup's total proportionate share of joint venture debt	$	21,276			$	28,857

In 2018, 2017, and 2016, we recognized earnings (losses) from unconsolidated joint ventures of $2.7 million, $(2.0) million, and $8.3 million, respectively. We received distributions from our unconsolidated joint ventures of $12.1 million, $9.4 million, and $10.9 million, in 2018, 2017, and 2016, respectively. We made capital contributions of $1.0 million , $23.0 million and 14.5 million in 2018, 2017, and 2016, respectively.

At December 31, 2018, aggregate outstanding debt of unconsolidated joint ventures was $42.9 million, of which $42.1 million was related to one joint venture in which we have a 50% interest. In connection with this loan, we and our joint venture partner provided customary limited recourse guaranties in which our maximum financial loss exposure is limited to our pro rata share of the debt outstanding. The limited guaranties include, but are not limited to: (i) completion of certain aspects of the project; (ii) an environmental indemnity provided to the lender; and (iii) an indemnification of the lender from certain "bad boy acts" of the joint venture.

The timing of cash flows related to a joint venture and any related financing agreements varies by agreement. If additional capital contributions are required and approved by the joint venture, we would need to contribute our pro rata portion of those capital needs in order to not dilute our ownership in the joint ventures. While future capital contributions may be required, we believe the total amount of such contributions will be limited. Our maximum financial exposure related to joint ventures is unlikely to exceed the combined investment and limited recourse guaranty totals.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

5. Debt

Our notes payable are summarized as follows ($000’s omitted):

	December 31,
	2018				2017
4.250% unsecured senior notes due March 2021 (a)	$	700,000			$	700,000
5.500% unsecured senior notes due March 2026 (a)	700,000				700,000
5.000% unsecured senior notes due January 2027 (a)	600,000				600,000
7.875% unsecured senior notes due June 2032 (a)	300,000				300,000
6.375% unsecured senior notes due May 2033 (a)	400,000				400,000
6.000% unsecured senior notes due February 2035 (a)	300,000				300,000
Net premiums, discounts, and issuance costs (b)	(13,247		)		(13,057		)
Total senior notes	$	2,986,753			$	2,986,943
Other notes payable	41,313				20,024
Notes payable	$	3,028,066			$	3,006,967
Estimated fair value	$	2,899,143			$	3,263,774

(a)	Redeemable prior to maturity; guaranteed on a senior basis by certain wholly-owned subsidiaries.

(b)	The carrying value of senior notes reflects the impact of premiums, discounts, and issuance costs that are amortized to interest cost over the respective terms of the senior notes.

The indentures governing the senior notes impose certain restrictions on the incurrence of additional debt along with other limitations. At December 31, 2018, we were in compliance with all of the covenants and requirements under the senior notes. Refer to Note 12 for supplemental consolidating financial information of the Company.

In February 2016, we issued $1.0 billion of unsecured senior notes, consisting of $300.0 million of 4.25% senior notes due March 1, 2021, and $700.0 million of 5.50% senior notes due March 1, 2026. The net proceeds from this senior notes issuance were used to fund the retirement of $465.2 million of our senior notes that matured in May 2016, with the remaining net proceeds used for general corporate purposes. In July 2016, we issued an additional $1.0 billion of unsecured senior notes, consisting of an additional $400.0 million of the 4.25% senior notes due March 1, 2021, and $600.0 million of 5.00% senior notes due January 15, 2027. The net proceeds from the July senior notes issuance were used for general corporate purposes and to pay down approximately $500.0 million of outstanding debt, including the remainder of a then existing term loan facility. The senior notes issued in 2016 are unsecured obligations, and rank equally in right of payment with the existing and future senior unsecured indebtedness of the Company and each of the guarantors, respectively. The notes are redeemable at our option at any time up to the date of maturity.

We retired outstanding debt totaling $82.8 million, $134.7 million, and $986.9 million during 2018, 2017, and 2016, respectively. Certain debt retirements occurred prior to the stated maturity dates and resulted in losses totaling $0.7 million in 2016. Losses on debt repurchase transactions include the write-off of unamortized discounts, premiums, and transaction fees related to the repurchased debt and are reflected in other expense, net.

Other notes payable include non-recourse and limited recourse collateralized notes with third parties that totaled $41.3 million and $20.0 million at December 31, 2018 and 2017, respectively. These notes have maturities ranging up to three years, are secured by the applicable land positions to which they relate, and have no recourse to any other assets. The stated interest rates on these notes range up to 7.57%.

Revolving credit facility

In June 2018, we entered into the Second Amended and Restated Credit Agreement ("Revolving Credit Facility") which replaced the Company's previous credit agreement. The Revolving Credit Facility contains substantially similar terms to the previous credit agreement and extended the maturity date from June 2019 to June 2023. The Revolving Credit Facility has a maximum borrowing capacity of $1.0 billion and contains an uncommitted accordion feature that could increase the capacity to $1.5 billion, subject to certain conditions and availability of additional bank commitments. The Revolving Credit Facility also

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

provides for the issuance of letters of credit that reduce the available borrowing capacity under the Revolving Credit Facility, with a sublimit of $500.0 million at December 31, 2018. The interest rate on borrowings under the Revolving Credit Facility may be based on either the London Interbank Offered Rate ("LIBOR") or a base rate plus an applicable margin, as defined therein. In the event that LIBOR is no longer widely available, the agreement contemplates transitioning to an alternative widely available market rate agreeable between the parties. We had no borrowings outstanding and $239.4 million and $235.5 million of letters of credit issued under the Revolving Credit Facility at December 31, 2018 and 2017, respectively.

The Revolving Credit Facility contains financial covenants that require us to maintain a minimum Tangible Net Worth, a minimum Interest Coverage Ratio, and a maximum Debt-to-Capitalization Ratio (as each term is defined in the Revolving Credit Facility). As of December 31, 2018, we were in compliance with all covenants. Outstanding balances under the Revolving Credit Facility are guaranteed by certain of our wholly-owned subsidiaries. Our available and unused borrowings under the Revolving Credit Facility, net of outstanding letters of credit, amounted to $760.6 million and $764.5 million as of December 31, 2018 and 2017, respectively.

Pulte Mortgage

Pulte Mortgage maintains a master repurchase agreement with third party lenders. In August 2018, Pulte Mortgage entered into an amended and restated repurchase agreement (the “Repurchase Agreement”) that extended the maturity date to August 2019. The maximum aggregate commitment was $520.0 million during the seasonally high borrowing period from December 26, 2018 through January 14, 2019. Through maturity, the maximum aggregate commitment ranges from $240.0 million to $400.0 million. The purpose of the changes in capacity during the term of the agreement is to lower associated fees during seasonally lower volume periods of mortgage origination activity. Borrowings under the Repurchase Agreement are secured by residential mortgage loans available-for-sale. The Repurchase Agreement contains various affirmative and negative covenants applicable to Pulte Mortgage, including quantitative thresholds related to net worth, net income, and liquidity. Pulte Mortgage had $348.4 million and $437.8 million outstanding under the Repurchase Agreement at December 31, 2018, and 2017, respectively, and was in compliance with its covenants and requirements as of such dates.

The following is aggregate borrowing information for our mortgage operations ($000’s omitted):

	December 31,
	2018				2017
Available credit lines	$	520,000			$	475,000
Unused credit lines	$	171,588			$	37,196
Weighted-average interest rate	4.27		%		3.55		%

6. Shareholders’ equity

Our declared quarterly cash dividends totaled $108.5 million, $110.0 million, and $122.2 million in 2018, 2017, and 2016, respectively. Under a share repurchase program authorized by our Board of Directors, we repurchased 10.9 million, 35.4 million, and 30.9 million shares in 2018, 2017, and 2016, respectively, for a total of $294.6 million, $910.3 million, and $600.0 million in 2018, 2017, and 2016, respectively. At December 31, 2018, we had remaining authorization to repurchase $299.9 million of common shares.

Under our stock-based compensation plans, we accept shares as payment under certain conditions related to stock option exercises and vesting of restricted shares and share units, generally related to the payment of tax obligations. During 2018, 2017, and 2016, employees surrendered shares valued at $7.9 million, $6.0 million, and $3.2 million, respectively, under these plans. Such share transactions are excluded from the above noted share repurchase authorization.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

7. Stock compensation plans

We maintain a stock award plan for both employees and non-employee directors. The plan provides for the grant of a variety of equity awards, including options (generally non-qualified options), restricted shares, restricted share units ("RSUs"), and performance shares to key employees (as determined by the Compensation and Management Development Committee of the Board of Directors) for periods not to exceed ten years. Non-employee directors are awarded an annual distribution of common shares. Options granted to employees generally vest incrementally over four years and are generally exercisable for ten years from the vest date. Shares issued upon the exercise of a stock option are from newly issued shares. RSUs represent the right to receive an equal number of common shares and are converted into common shares upon distribution. Restricted shares and RSUs generally cliff vest after three years. Both restricted share and RSU holders receive cash dividends during the vesting period. Performance shares vest upon attainment of the stated performance targets and minimum service requirements and are converted into common shares upon distribution. As of December 31, 2018, there were 24.4 million shares that remained available for grant under the plan. Our stock compensation expense for the three years ended December 31, 2018, is presented below ($000's omitted):

	2018				2017				2016
Stock options	$	—			$	—			$	—
Restricted shares (including RSUs and performance shares)	20,145				24,207				18,626
Long-term incentive plans	8,145				9,476				3,602
	$	28,290			$	33,683			$	22,228

Stock options

A summary of stock option activity for the three years ended December 31, 2018, is presented below (000’s omitted, except per share data):

	2018								2017								2016
	Shares				Weighted- Average Per Share Exercise Price				Shares				Weighted- Average Per Share Exercise Price				Shares				Weighted- Average Per Share Exercise Price
Outstanding, beginning of year	1,168				$	11			3,623				$	12			6,040				$	19
Granted	—				—				—				—				—				—
Exercised	(605		)		11				(2,353		)		12				(498		)		12
Forfeited	—				—				(102		)		28				(1,919		)		34
Outstanding, end of year	563				$	12			1,168				$	11			3,623				$	12
Options exercisable at year end	563				$	12			1,168				$	11			3,623				$	12
Weighted-average per share fair value of options granted during the year	$	—							$	—							$	—

The following table summarizes information about our options outstanding at December 31, 2018:

	Options Outstanding									Options Exercisable
	Number Outstanding (000's omitted)			Weighted- Average Remaining Contract Life (in years)		Weighted- Average Per Share Exercise Price				Number Exercisable (000's omitted)			Weighted- Average Per Share Exercise Price
$0.01 to $10.00	71			2.1		$	8			71			$	8
$10.01 to $20.00	492			0.8		12				492			12
	563			1.2		$	12			563			$	12

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

We did not issue any stock options during 2018, 2017, or 2016. As a result, there is no unrecognized compensation cost related to stock option awards at December 31, 2018. The intrinsic value of a stock option is the amount by which the market value of the underlying stock exceeds the exercise price of the option. The aggregate intrinsic value of stock options that were exercised during 2018, 2017, and 2016 was $11.7 million, $31.1 million, and $4.5 million, respectively. As of December 31, 2018, options outstanding, all of which were exercisable, had an intrinsic value of $8.1 million.

Restricted shares (including RSUs and performance shares)

A summary of restricted share activity, including RSUs and performance shares, for the three years ended December 31, 2018, is presented below (000’s omitted, except per share data):

	2018							2017							2016
	Shares			Weighted- Average Per Share Grant Date Fair Value				Shares			Weighted- Average Per Share Grant Date Fair Value				Shares			Weighted- Average Per Share Grant Date Fair Value
Outstanding, beginning of year	3,271			$	19			2,974			$	19			2,576			$	18
Granted	833			31				1,251			21				1,853			17
Distributed	(786	)		22				(775	)		19				(546	)		20
Forfeited	(244	)		22				(179	)		19				(909	)		12
Outstanding, end of year	3,074			$	23			3,271			$	19			2,974			$	19
Vested, end of year	129			$	21			152			$	17			123			$	15

During 2018, 2017, and 2016, the total fair value of shares vested during the year was $17.1 million, $15.0 million, and $11.0 million, respectively. Unamortized compensation cost related to restricted share awards was $19.0 million at December 31, 2018. These costs will be expensed over a weighted-average period of approximately 2 years. Additionally, there were 129,115 RSUs outstanding at December 31, 2018, that had vested but had not yet been paid out because the payout date had been deferred by the holders.

Long-term incentive plans

We maintain long-term incentive plans for senior management and other employees that provide awards based on the achievement of stated performance targets over three-year periods. Awards are stated in dollars but are settled in common shares based on the stock price at the end of the performance period. If the share price falls below a floor of $5.00 per share at the end of the performance period or we do not have a sufficient number of shares available under our stock incentive plans at the time of settlement, then a portion of each award will be paid in cash. We adjust the liabilities and recognize the expense associated with the awards based on the probability of achieving the stated performance targets at each reporting period. Liabilities for these awards totaled $17.0 million and $14.0 million at December 31, 2018 and 2017, respectively.

8. Income taxes

On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “Tax Act”). The Tax Act makes broad and complex changes to the U.S. tax code, including, but not limited to, the following that impact us: (1) reducing the U.S. federal corporate income tax rate from 35 percent to 21 percent; (2) eliminating the corporate alternative minimum tax; (3) creating a new limitation on deductible interest expense; (4) repealing the domestic production activities deduction; (5) limiting the deductibility of certain executive compensation; and (6) limiting certain other deductions.

The SEC staff issued Staff Accounting Bulletin No. 118 (“SAB 118”), which provides guidance on accounting for the tax effects of the Tax Act. SAB 118 provides for a measurement period that should not extend beyond one year from the Tax Act enactment date for companies to complete the accounting relating to the Tax Act under ASC 740. In accordance with SAB 118, a company must reflect the income tax effects of those aspects of the Tax Act for which the accounting under ASC 740 is complete. To the extent that a company’s accounting for certain income tax effects of the Tax Act is incomplete but it is able to determine a reasonable estimate, it must record a provisional estimate in its financial statements. If a company cannot

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

determine a provisional estimate to be included in its financial statements, it should continue to apply ASC 740 on the basis of the provisions of the tax laws that were in effect immediately before the enactment of the Tax Act.

As the result of our initial analysis of the impact of the Tax Act, we recorded a provisional amount of net tax expense of $172.1 million in 2017 related to the remeasurement of our deferred tax balances and other effects. We completed our accounting for the income tax effects of the Tax Act in 2018, and no material adjustments were required to the provisional amounts initially recorded.

Components of current and deferred income tax expense (benefit) are as follows ($000’s omitted):

	2018				2017				2016
Current expense (benefit)
Federal	$	(44,462	)		$	81,101			$	9,464
State and other	7,202				(11,801		)		(13,104		)
	$	(37,260	)		$	69,300			$	(3,640	)
Deferred expense (benefit)
Federal	$	271,544			$	444,695			$	312,288
State and other	91,233				(22,388		)		22,499
	$	362,777			$	422,307			$	334,787
Income tax expense (benefit)	$	325,517			$	491,607			$	331,147

The following table reconciles the statutory federal income tax rate to the effective income tax rate:

	2018			2017			2016
Income taxes at federal statutory rate	21.0	%		35.0	%		35.0	%
State and local income taxes, net of federal tax	4.0			3.1			3.3
Tax accounting method change	(2.5	)		—			—
Changes in tax laws, including the Tax Act	1.0			18.3			0.5
Deferred tax asset valuation allowance	0.9			(1.1	)		(2.2	)
Tax contingencies	0.1			(1.0	)		(1.3	)
Other	(0.3	)		(1.9	)		0.2
Effective rate	24.2	%		52.4	%		35.5	%

The 2018 effective tax rate differs from the federal statutory rate primarily due to state income tax expense on current year earnings, tax benefits due to Internal Revenue Service (IRS) acceptance of a tax accounting method change applicable to the 2017 tax year, valuation allowances relating to projected utilization of certain state net operating loss carryforwards, and state tax law changes. The acceptance of the tax accounting method change provided a deferral of profit and acceleration of certain costs associated with home sales, which resulted in a favorable adjustment in 2018 due to the tax rate reduction in the Tax Act. The 2017 effective tax rate differs from the federal statutory rate primarily due to the impacts of the Tax Act, state income tax expense on current year earnings, the favorable resolution of certain state income tax matters, the domestic production activities deduction, and state tax law changes. The 2016 effective tax rate differs from the federal statutory rate primarily due to state income taxes, the reversal of a portion of our valuation allowance related to a legal entity restructuring, the favorable resolution of certain state income tax matters, the impact on our net deferred tax assets due to changes in business operations and state tax laws, and recognition of energy efficient home credits.

As a result of the adoption of ASU No. 2016-09, excess tax benefits related to equity compensation are recorded as a component of income tax expense, pursuant to which we recorded a cumulative-effect adjustment to increase retained earnings and deferred tax assets as of January 1, 2017 by $18.6 million for previously unrecognized excess tax benefits.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Deferred tax assets and liabilities reflect temporary differences arising from the different treatment of items for tax and accounting purposes. Components of our net deferred tax asset are as follows ($000’s omitted):

	At December 31,
	2018				2017
Deferred tax assets:
Accrued insurance	$	117,682			$	117,133
Inventory valuation reserves	132,495				202,791
Other reserves	60,585				78,271
NOL carryforwards:
Federal	27,122				41,282
State	228,959				248,224
Alternative minimum tax credit carryforwards	2,546				54,965
Energy and other credit carryforwards	5,146				41,763
	574,535				784,429
Deferred tax liabilities:
Capitalized items, including real estate basis differences, deducted for tax, net	(1,038		)		(17,895		)
Deferral of profit on home sales	(188,628		)		(34,769		)
Intangibles	(16,701		)		(17,860		)
	(206,367		)		(70,524		)
Valuation allowance	(92,589		)		(68,610		)
Net deferred tax asset	$	275,579			$	645,295

Our federal NOL carryforward deferred tax asset of $27.1 million expires, if unused, between 2031 and 2032. We also have state NOLs in various jurisdictions which may generally be carried forward up to 20 years, depending on the jurisdiction. Our NOL carryforward deferred tax assets will expire if unused at various dates as follows: $32.6 million from 2019 to 2023 and $196.4 million from 2024 and thereafter.

We evaluate our deferred tax assets each period to determine if a valuation allowance is required based on whether it is "more likely than not" that some portion of the deferred tax assets would not be realized. The ultimate realization of these deferred tax assets is dependent upon the generation of sufficient taxable income during future periods. We conduct our evaluation by considering all available positive and negative evidence. This evaluation considers, among other factors, historical operating results, forecasts of future profitability, the duration of statutory carryforward periods, and the outlooks for the U.S. housing industry and broader economy.

Our ability to use certain of Centex’s federal losses and credits is limited by Section 382 of the Internal Revenue Code. We do not believe that this limitation will prevent us from utilizing these Centex losses and credits. We do believe that full utilization of certain state NOL carryforwards will be limited due to Section 382.

The accounting for deferred taxes is based upon estimates of future results. Differences between estimated and actual results could result in changes in the valuation of our deferred tax assets that could have a material impact on our consolidated results of operations or financial position. Changes in existing tax laws could also affect actual tax results and the realization of deferred tax assets over time.

Unrecognized tax benefits represent the difference between tax positions taken or expected to be taken in a tax return and the benefits recognized for financial statement purposes. We had $30.6 million and $48.6 million of gross unrecognized tax benefits at December 31, 2018 and 2017, respectively. If recognized, $19.7 million and $23.4 million, respectively, of these amounts would impact our effective tax rate. Additionally, we had accrued interest and penalties of $5.8 million and $4.9 million at December 31, 2018 and 2017, respectively.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

It is reasonably possible within the next twelve months that our gross unrecognized tax benefits may decrease by up to $16.6 million, excluding interest and penalties, primarily due to potential settlements. A reconciliation of the change in the unrecognized tax benefits is as follows ($000’s omitted):

	2018				2017				2016
Unrecognized tax benefits, beginning of period	$	48,604			$	21,502			$	38,992
Increases related to tax positions taken during a prior period	5,389				20,555				224
Decreases related to tax positions taken during a prior period	(31,850		)		(9,665		)		(13,218		)
Increases related to tax positions taken during the current period	8,411				18,895				114
Decreases related to settlements with taxing authorities	—				—				(707		)
Reductions as a result of a lapse of the applicable statute of limitations	—				(2,683		)		(3,903		)
Unrecognized tax benefits, end of period	$	30,554			$	48,604			$	21,502

We continue to participate in the Compliance Assurance Process (“CAP”) with the IRS as an alternative to the traditional IRS examination process. As a result of our participation in CAP, federal tax years 2016 and prior are closed. Tax year 2017 is expected to close by the second quarter of 2019. We are also currently under examination by various state taxing jurisdictions and anticipate finalizing certain of the examinations within the next twelve months. The outcome of these examinations is not yet determinable. The statute of limitations for our major tax jurisdictions remains open for examination for tax years 2005 to 2018.

9. Fair value disclosures

ASC 820, “Fair Value Measurements and Disclosures,” provides a framework for measuring fair value in generally accepted accounting principles and establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The fair value hierarchy can be summarized as follows:

Level 1		Fair value determined based on quoted prices in active markets for identical assets or liabilities.
Level 2		Fair value determined using significant observable inputs, generally either quoted prices in active markets for similar assets or liabilities or quoted prices in markets that are not active.
Level 3		Fair value determined using significant unobservable inputs, such as pricing models, discounted cash flows, or similar techniques

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Our assets and liabilities measured or disclosed at fair value are summarized below ($000’s omitted):

Financial Instrument		Fair Value Hierarchy		Fair Value
December 31, 2018				December 31, 2017
Measured at fair value on a recurring basis:
Residential mortgage loans available-for-sale		Level 2		$	461,354			$	570,600
Interest rate lock commitments		Level 2		9,035				5,583
Forward contracts		Level 2		(6,914		)		(385		)
Whole loan commitments		Level 2		(718		)		(147		)
Measured at fair value on a non-recurring basis:
House and land inventory		Level 3		$	18,253			$	11,045
Land held for sale		Level 2		17,813				8,600
Disclosed at fair value:
Cash and equivalents (including restricted cash)		Level 1		$	1,133,700			$	306,168
Financial Services debt		Level 2		348,412				437,804
Other notes payable		Level 2		41,313				20,024
Senior notes payable		Level 2		2,857,830				3,243,750

Fair values for agency residential mortgage loans available-for-sale are determined based on quoted market prices for comparable instruments. Fair values for non-agency residential mortgage loans available-for-sale are determined based on purchase commitments from whole loan investors and other relevant market information available to management. Fair values for interest rate lock commitments, including the value of servicing rights, and forward contracts on mortgage-backed securities are valued based on market prices for similar instruments. Fair values for whole loan commitments are based on market prices for similar instruments from the specific whole loan investor.

Certain assets are required to be recorded at fair value on a non-recurring basis when events and circumstances indicate that the carrying value may not be recoverable. The non-recurring fair value included in the above table represent only those assets whose carrying values were adjusted to fair value as of the respective balance sheet dates. See Note 1 for a more detailed discussion of the valuation methods used for inventory.

The carrying amounts of cash and equivalents, Financial Services debt, Other notes payable and the Revolving Credit Facility approximate their fair values due to their short-term nature and floating interest rate terms. The fair values of the Senior notes payable are based on quoted market prices, when available. If quoted market prices are not available, fair values are based on quoted market prices of similar issues. The carrying value of the senior notes payable was $3.0 billion at both December 31, 2018 and 2017.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

10. Other assets and accrued and other liabilities

Other assets are presented below ($000’s omitted):

	December 31,
	2018				2017
Accounts and notes receivable:
Insurance receivables (Note 11)	$	152,987			$	213,407
Notes receivable	13,850				16,768
Other receivables	122,469				76,309
	289,306				306,484
Prepaid expenses	131,523				116,912
Deposits and pre-acquisition costs (Note 1)	218,568				207,987
Property and equipment, net (Note 1)	92,935				70,706
Income taxes receivable	58,090				6,964
Other	39,937				36,070
	$	830,359			$	745,123

We record receivables from various parties in the normal course of business, including amounts due from insurance companies (see Note 11) and municipalities. In certain instances, we may accept consideration for land sales or other transactions in the form of a note receivable.

Accrued and other liabilities are presented below ($000’s omitted):

	December 31,
	2018				2017
Self-insurance liabilities (Note 11)	$	737,013			$	758,812
Compensation-related liabilities	161,068				134,008
Warranty liabilities (Note 11)	79,154				72,709
Accrued interest	52,521				50,620
Loan origination liabilities (Note 11)	50,282				34,641
Other	280,445				305,543
	$	1,360,483			$	1,356,333

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

11. Commitments and contingencies

Leases

We lease certain property and equipment under non-cancelable operating leases. The future minimum lease payments required under operating leases that have initial or remaining non-cancelable terms in excess of one year as of December 31, 2018, are as follows ($000’s omitted):

Years Ending December 31,
2019	$	24,806
2020	19,407
2021	16,146
2022	14,469
2023	12,800
Thereafter	25,868
Total minimum lease payments	$	113,496

Net rental expense for 2018, 2017, and 2016 was $33.6 million, $30.8 million, and $33.0 million, respectively. Certain leases contain renewal or purchase options and generally provide that we pay for insurance, taxes, and maintenance.

Loan origination liabilities

Our mortgage operations may be responsible for losses associated with mortgage loans originated and sold to investors in the event of errors or omissions relating to representations and warranties made by us that the loans met certain requirements, including representations as to underwriting standards, the existence of primary mortgage insurance, and the validity of certain borrower representations in connection with the loan. If a loan is determined to be faulty, we either indemnify the investor for potential future losses, repurchase the loan from the investor, or reimburse the investor's actual losses.

CTX Mortgage Company, LLC ("CTX Mortgage") was the mortgage subsidiary of Centex and ceased originating loans in December 2009. In the matter Lehman Brothers Holdings, Inc. ("Lehman") in the U.S. Bankruptcy Court in the Southern District of New York, Lehman has initiated an adversary proceeding against CTX Mortgage seeking indemnity for loans sold to it by CTX Mortgage prior to 2009. This claim is part of a broader action by Lehman in U.S. Bankruptcy Court against more than 100 mortgage originators and brokers. On August 13, 2018, the court denied a motion to dismiss filed by CTX Mortgage and other defendants, and on December 17, 2018, Lehman filed an amended adversary complaint against CTX Mortgage. Lehman's complaint alleges claims for indemnifiable losses of up to $261 million due from CTX Mortgage. We believe that CTX Mortgage has meritorious defenses and CTX Mortgage will continue to vigorously defend itself in this matter. We have recorded a liability for an amount that we consider to be the best estimate within a range of potential losses.

In addition, both CTX Mortgage and Pulte Mortgage sold certain loans originated prior to 2009 to financial institutions for inclusion in residential mortgage-backed securities or other securitizations issued by such financial institutions. In connection with such sales, CTX Mortgage and Pulte Mortgage have been put on notice of potential direct and / or third-party claims for indemnification arising out of litigation relating to certain of these residential mortgage-backed securities or other securitizations. Neither CTX Mortgage nor Pulte Mortgage is named as a defendant in these actions. We cannot yet quantify CTX Mortgage's or Pulte Mortgage's potential liability as a result of these indemnification obligations. We do not believe, however, that these matters will have a material adverse impact on the results of operations, financial position, or cash flows of the Company.

Estimating the required liability for these potential losses requires a significant level of management judgment. During 2018, we increased our loan origination liabilities by $16.1 million based on settlements or probable settlements of a number of claims related to loans originated by CTX Mortgage prior to 2009. Reserves provided (released) are reflected in Financial Services expenses. Changes in these liabilities were as follows ($000's omitted):

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

	2018				2017				2016
Liabilities, beginning of period	$	34,641			$	35,114			$	46,381
Reserves provided (released), net	16,130				(50		)		506
Payments	(489		)		(423		)		(11,773		)
Liabilities, end of period	$	50,282			$	34,641			$	35,114

Given the unsettled litigation, changes in values of underlying collateral over time, unpredictable factors inherent in litigation, and other uncertainties regarding the ultimate resolution of these claims, actual costs could differ from our current estimates.

Community development and other special district obligations

A community development district or similar development authority (“CDD”) is a unit of local government created under various state statutes that utilizes the proceeds from the sale of bonds to finance the construction or acquisition of infrastructure assets of a development. A portion of the liability associated with the bonds, including principal and interest, is assigned to each parcel of land within the development. This debt is typically paid by subsequent special assessments levied by the CDD on the landowners. Generally, we are only responsible for paying the special assessments for the period during which we are the landowner of the applicable parcels.

Letters of credit and surety bonds

In the normal course of business, we post letters of credit and surety bonds pursuant to certain performance-related obligations, as security for certain land option agreements, and under various insurance programs. The majority of these letters of credit and surety bonds are in support of our land development and construction obligations to various municipalities, other government agencies, and utility companies related to the construction of roads, sewers, and other infrastructure. We had outstanding letters of credit and surety bonds totaling $239.4 million and $1.3 billion, respectively, at December 31, 2018, and $235.5 million and $1.2 billion, respectively, at December 31, 2017. In the event any such letter of credit or surety bonds is drawn, we would be obligated to reimburse the issuer of the letter of credit or surety bond. We do not believe that a material amount, if any, of the letters of credit or surety bonds will be drawn. Our surety bonds generally do not have stated expiration dates; rather we are released from the surety bonds as the underlying contractual performance is completed. Because significant construction and development work has been performed related to the applicable projects but has not yet received final acceptance by the respective counterparties, the aggregate amount of surety bonds outstanding is in excess of the projected cost of the remaining work to be performed.

Litigation and regulatory matters

We are involved in various litigation and legal claims in the normal course of our business operations, including actions brought on behalf of various classes of claimants. We are also subject to a variety of local, state, and federal laws and regulations related to land development activities, house construction standards, sales practices, mortgage lending operations, employment practices, and protection of the environment. As a result, we are subject to periodic examination or inquiry by various governmental agencies that administer these laws and regulations.

We establish liabilities for legal claims and regulatory matters when such matters are both probable of occurring and any potential loss is reasonably estimable. We accrue for such matters based on the facts and circumstances specific to each matter and revise these estimates as the matters evolve. In such cases, there may exist an exposure to loss in excess of any amounts currently accrued. In view of the inherent difficulty of predicting the outcome of these legal and regulatory matters, we generally cannot predict the ultimate resolution of the pending matters, the related timing, or the eventual loss. While the outcome of such contingencies cannot be predicted with certainty, we do not believe that the resolution of such matters will have a material adverse impact on our results of operations, financial position, or cash flows. However, to the extent the liability arising from the ultimate resolution of any matter exceeds the estimates reflected in the recorded reserves relating to such matter, we could incur additional charges that could be significant. During 2016, we settled a contract dispute related to a land transaction that we terminated over ten years ago in response to a collapse in housing demand. As a result of the settlement, we recorded a charge of $15.0 million, which is reflected in other expense, net.

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Allowance for warranties

Home purchasers are provided with a limited warranty against certain building defects, including a one-year comprehensive limited warranty and coverage for certain other aspects of the home’s construction and operating systems for periods of up to (and in limited instances exceeding) 10 years. We estimate the costs to be incurred under these warranties and record liabilities in the amount of such costs at the time product revenue is recognized. Factors that affect our warranty liabilities include the number of homes sold, historical and anticipated rates of warranty claims, and the projected cost of claims. We periodically assess the adequacy of the warranty liabilities for each geographic market in which we operate and adjust the amounts as necessary. Actual warranty costs in the future could differ from the current estimates.

Changes to warranty liabilities were as follows ($000’s omitted):

	2018				2017				2016
Warranty liabilities, beginning of period	$	72,709			$	66,134			$	61,179
Reserves provided	65,567				50,014				67,169
Payments	(64,525		)		(58,780		)		(55,892		)
Other adjustments (a)	5,403				15,341				(6,322		)
Warranty liabilities, end of period	$	79,154			$	72,709			$	66,134

(a)	Includes a charge of $12.4 million in 2017 related to estimated costs to complete repairs in a closed-out community in Florida.

Self-insured risks

We maintain, and require our subcontractors to maintain, general liability insurance coverage. We also maintain builders' risk, property, errors and omissions, workers compensation, and other business insurance coverage. These insurance policies protect us against a portion of the risk of loss from claims. However, we retain a significant portion of the overall risk for such claims either through policies issued by our captive insurance subsidiaries or through our own self-insured per occurrence and aggregate retentions, deductibles, and claims in excess of available insurance policy limits.

Our general liability insurance includes coverage for certain construction defects. While construction defect claims can relate to a variety of circumstances, the majority of our claims relate to alleged problems with siding, windows, roofing, and foundations. The availability of general liability insurance for the homebuilding industry and its subcontractors has become increasingly limited, and the insurance policies available require companies to maintain significant per occurrence and aggregate retention levels. In certain instances, we may offer our subcontractors the opportunity to purchase insurance through one of our captive insurance subsidiaries or participate in a project-specific insurance program provided by us. Policies issued by the captive insurance subsidiaries represent self-insurance of these risks by us. This self-insured exposure is limited by reinsurance policies that we purchase. General liability coverage for the homebuilding industry is complex, and our coverage varies from policy year to policy year. Our insurance coverage requires a per occurrence deductible up to an overall aggregate retention level. Beginning with the first dollar, amounts paid to satisfy insured claims apply to our per occurrence and aggregate retention obligations. Any amounts incurred in excess of the occurrence or aggregate retention levels are covered by insurance up to our purchased coverage levels. Our insurance policies, including the captive insurance subsidiaries' reinsurance policies, are maintained with highly-rated underwriters for whom we believe counterparty default risk is not significant.

At any point in time, we are managing over 1,000 individual claims related to general liability, property, errors and omission, workers compensation, and other business insurance coverage. We reserve for costs associated with such claims (including expected claims management expenses) on an undiscounted basis at the time revenue is recognized for each home closing and evaluate the recorded liabilities based on actuarial analyses of our historical claims. The actuarial analyses calculate estimates of the ultimate net cost of all unpaid losses, including estimates for incurred but not reported losses ("IBNR"). IBNR represents losses related to claims incurred but not yet reported plus development on reported claims.

Our recorded reserves for all such claims totaled $737.0 million and $758.8 million at December 31, 2018 and 2017, respectively, the vast majority of which relate to general liability claims. The recorded reserves include loss estimates related to both (i) existing claims and related claim expenses and (ii) IBNR and related claim expenses. Liabilities related to IBNR and related claim expenses represented approximately 65% of the total general liability reserves at December 31, 2018 and 2017. The actuarial analyses that determine the IBNR portion of reserves consider a variety of factors, including the frequency and

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

severity of losses, which are based on our historical claims experience supplemented by industry data. The actuarial analyses of the reserves also consider historical third party recovery rates and claims management expenses.

Housing market conditions have been volatile across most of our markets over the past fifteen years, and we believe such conditions can affect the frequency and cost of construction defect claims. Additionally, IBNR estimates comprise the majority of our liability and are subject to a high degree of uncertainty due to a variety of factors, including changes in claims reporting and resolution patterns, third party recoveries, insurance industry practices, the regulatory environment, and legal precedent. State regulations vary, but construction defect claims are reported and resolved over an extended period often exceeding ten years. Changes in the frequency and timing of reported claims and estimates of specific claim values can impact the underlying inputs and trends utilized in the actuarial analyses, which could have a material impact on the recorded reserves. Additionally, the amount of insurance coverage available for each policy period also impacts our recorded reserves. Because of the inherent uncertainty in estimating future losses and the timing of such losses related to these claims, actual costs could differ significantly from estimated costs.

Adjustments to reserves are recorded in the period in which the change in estimate occurs. During 2018, 2017, and 2016, we reduced reserves, primarily general liability reserves, by $35.9 million, $97.8 million, and $57.1 million respectively, as a result of changes in estimates resulting from actual claim experience observed being less than anticipated in previous actuarial projections. The changes in actuarial estimates were driven by changes in actual claims experience that, in turn, impacted actuarial estimates for potential future claims. These changes in actuarial estimates did not involve any changes in actuarial methodology but did impact the development of estimates for future periods, which resulted in adjustments to the IBNR portion of our recorded liabilities. Costs associated with our insurance programs are classified within selling, general, and administrative expenses.

Changes in these liabilities were as follows ($000's omitted):

	2018				2017				2016
Balance, beginning of period	$	758,812			$	831,058			$	924,563
Reserves provided	93,156				98,176				97,916
Adjustments to previously recorded reserves (a)	(35,873		)		(97,789		)		(57,132		)
Payments, net (a)	(79,082		)		(72,633		)		(134,289		)
Balance, end of period	$	737,013			$	758,812			$	831,058

(a)	Includes net changes in amounts expected to be recovered from our insurance carriers, which are recorded to other assets (see below).

In certain instances, we have the ability to recover a portion of our costs under various insurance policies or from subcontractors or other third parties. Estimates of such amounts are recorded when recovery is considered probable. As reflected in Note 10, our receivables from insurance carriers totaled $153.0 million and $213.4 million at December 31, 2018 and 2017, respectively. The insurance receivables relate to costs incurred or to be incurred to perform corrective repairs, settle claims with customers, and other costs related to the continued progression of both known and anticipated future construction defect claims that we believe to be insured related to previously closed homes. Given the complexity inherent with resolving construction defect claims in the homebuilding industry as described above, there generally exists a significant lag between our payment of claims and our reimbursements from applicable insurance carriers. In addition, disputes between homebuilders and carriers over coverage positions relating to construction defect claims are common. Resolution of claims with carriers involves the exchange of significant amounts of information and frequently involves legal action.

The majority of the decrease in our insurance receivables during 2018 resulted from cash received from our insurance carriers. However, in 2017, we recorded write-offs of $29.6 million associated with the resolution of various matters and are currently the plaintiff in an arbitration proceeding with one of our insurance carriers in regard to $25.0 million of recorded insurance receivables relating to the applicability of coverage to such costs under its policy. We believe collection of our recorded insurance receivables is probable based on the legal merits of our positions after review by legal counsel, the high credit ratings of our carriers, and our long history of collecting significant amounts of insurance reimbursements under similar insurance policies related to similar claims. While the outcomes of these matters cannot be predicted with certainty, we do not

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

believe that the resolution of such matters will have a material adverse impact on our results of operations, financial position, or cash flows.

12. Supplemental Guarantor information

All of our senior notes are guaranteed jointly and severally on a senior basis by certain of our wholly-owned Homebuilding subsidiaries and certain other wholly-owned subsidiaries (collectively, the “Guarantors”). Such guaranties are full and unconditional. Our subsidiaries comprising the Financial Services segment along with certain other subsidiaries (collectively, the "Non-Guarantor Subsidiaries") do not guarantee the senior notes. In accordance with Rule 3-10 of Regulation S-X, supplemental consolidating financial information of the Company, including such information for the Guarantors, is presented below. Investments in subsidiaries are presented using the equity method of accounting.

CONSOLIDATING BALANCE SHEET

DECEMBER 31, 2018

($000’s omitted)

	Unconsolidated												Eliminating Entries				Consolidated PulteGroup, Inc.
	PulteGroup, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries
ASSETS
Cash and equivalents	$	—			$	906,961			$	203,127			$	—			$	1,110,088
Restricted cash	—				22,406				1,206				—				23,612
Total cash, cash equivalents, and restricted cash	—				929,367				204,333				—				1,133,700
House and land inventory	—				7,157,665				95,688				—				7,253,353
Land held for sale	—				36,849				—				—				36,849
Residential mortgage loans available- for-sale	—				—				461,354				—				461,354
Investments in unconsolidated entities	—				54,045				545				—				54,590
Other assets	66,154				579,452				184,753				—				830,359
Intangible assets	—				127,192				—				—				127,192
Deferred tax assets, net	282,874				—				(7,295		)		—				275,579
Investments in subsidiaries and intercompany accounts, net	7,557,245				500,138				8,231,342				(16,288,725		)		—
	$	7,906,273			$	9,384,708			$	9,170,720			$	(16,288,725	)		$	10,172,976
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Accounts payable, customer deposits, accrued and other liabilities	$	90,158			$	1,598,265			$	278,713			$	—			$	1,967,136
Income tax liabilities	11,580				—				—				—				11,580
Financial Services debt	—				—				348,412				—				348,412
Notes payable	2,986,753				40,776				537				—				3,028,066
Total liabilities	3,088,491				1,639,041				627,662				—				5,355,194
Total shareholders’ equity	4,817,782				7,745,667				8,543,058				(16,288,725		)		4,817,782
	$	7,906,273			$	9,384,708			$	9,170,720			$	(16,288,725	)		$	10,172,976

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

CONSOLIDATING BALANCE SHEET

DECEMBER 31, 2017

($000’s omitted)

	Unconsolidated												Eliminating Entries				Consolidated PulteGroup, Inc.
	PulteGroup, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries
ASSETS
Cash and equivalents	$	—			$	125,462			$	147,221			$	—			$	272,683
Restricted cash	—				32,339				1,146				—				33,485
Total cash, cash equivalents, and restricted cash	—				157,801				148,367				—				306,168
House and land inventory	—				7,053,087				94,043				—				7,147,130
Land held for sale	—				68,384				—				—				68,384
Residential mortgage loans available- for-sale	—				—				570,600				—				570,600
Investments in unconsolidated entities	—				62,415				542				—				62,957
Other assets	9,417				592,045				143,661				—				745,123
Intangible assets	—				140,992				—				—				140,992
Deferred tax assets, net	646,227				—				(932		)		—				645,295
Investments in subsidiaries and intercompany accounts, net	6,661,638				284,983				7,300,127				(14,246,748		)		—
	$	7,317,282			$	8,359,707			$	8,256,408			$	(14,246,748	)		$	9,686,649
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Accounts payable, customer deposits, accrued and other liabilities	$	89,388			$	1,636,913			$	274,626			$	—			$	2,000,927
Income tax liabilities	86,925				—				—				—				86,925
Financial Services debt	—				—				437,804				—				437,804
Notes payable	2,986,943				16,911				3,113				—				3,006,967
Total liabilities	3,163,256				1,653,824				715,543				—				5,532,623
Total shareholders’ equity	4,154,026				6,705,883				7,540,865				(14,246,748		)		4,154,026
	$	7,317,282			$	8,359,707			$	8,256,408			$	(14,246,748	)		$	9,686,649

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

CONSOLIDATING STATEMENT OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

For the year ended December 31, 2018

($000’s omitted)

	Unconsolidated																Consolidated PulteGroup, Inc.
	PulteGroup, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminating Entries
Revenues:
Homebuilding
Home sale revenues	$	—			$	9,694,703			$	123,742			$	—			$	9,818,445
Land sale and other revenues	—				162,012				2,492				—				164,504
	—				9,856,715				126,234				—				9,982,949
Financial Services	—				—				205,382				—				205,382
	—				9,856,715				331,616				—				10,188,331
Homebuilding Cost of Revenues:
Home sale cost of revenues	—				(7,449,343		)		(91,594		)		—				(7,540,937		)
Land sale cost of revenues	—				(125,016		)		(1,544		)		—				(126,560		)
	—				(7,574,359		)		(93,138		)		—				(7,667,497		)
Financial Services expenses	—				(563		)		(146,859		)		—				(147,422		)
Selling, general, and administrative expenses	—				(974,858		)		(37,165		)		—				(1,012,023		)
Other expense, net	(580		)		(53,765		)		40,496				—				(13,849		)
Intercompany interest	(7,835		)		—				7,835				—				—
Income (loss) before income taxes and equity in income (loss) of subsidiaries	(8,415		)		1,253,170				102,785				—				1,347,540
Income tax (expense) benefit	2,104				(304,218		)		(23,403		)		—				(325,517		)
Income (loss) before equity in income (loss) of subsidiaries	(6,311		)		948,952				79,382				—				1,022,023
Equity in income (loss) of subsidiaries	1,028,334				73,097				782,948				(1,884,379		)		—
Net income (loss)	1,022,023				1,022,049				862,330				(1,884,379		)		1,022,023
Other comprehensive income (loss)	100				—				—				—				100
Comprehensive income (loss)	$	1,022,123			$	1,022,049			$	862,330			$	(1,884,379	)		$	1,022,123

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

CONSOLIDATING STATEMENT OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

For the year ended December 31, 2017

($000’s omitted)

	Unconsolidated																Consolidated PulteGroup, Inc.
	PulteGroup, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminating Entries
Revenues:
Homebuilding
Home sale revenues	$	—			$	8,229,392			$	94,592			$	—			$	8,323,984
Land sale and other revenues	—				57,711				3,831				—				61,542
	—				8,287,103				98,423				—				8,385,526
Financial Services	—				—				192,160				—				192,160
	—				8,287,103				290,583				—				8,577,686
Homebuilding Cost of Revenues:
Home sale cost of revenues	—				(6,385,167		)		(75,985		)		—				(6,461,152		)
Land sale cost of revenues	—				(131,363		)		(3,086		)		—				(134,449		)
	—				(6,516,530		)		(79,071		)		—				(6,595,601		)
Financial Services expenses	—				(527		)		(118,762		)		—				(119,289		)
Selling, general, and administrative expenses	—				(785,266		)		(106,315		)		—				(891,581		)
Other expense, net	(482		)		(63,050		)		31,145				—				(32,387		)
Intercompany interest	(2,485		)		—				2,485				—				—
Income (loss) before income taxes and equity in income (loss) of subsidiaries	(2,967		)		921,730				20,065				—				938,828
Income tax (expense) benefit	1,127				(483,435		)		(9,299		)		—				(491,607		)
Income (loss) before equity in income (loss) of subsidiaries	(1,840		)		438,295				10,766				—				447,221
Equity in income (loss) of subsidiaries	449,061				58,559				226,864				(734,484		)		—
Net income (loss)	447,221				496,854				237,630				(734,484		)		447,221
Other comprehensive income (loss)	81				—				—				—				81
Comprehensive income (loss)	$	447,302			$	496,854			$	237,630			$	(734,484	)		$	447,302

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

CONSOLIDATING STATEMENT OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

For the year ended December 31, 2016

($000’s omitted)

	Unconsolidated												Eliminating Entries				Consolidated PulteGroup, Inc.
	PulteGroup, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries
Revenues:
Homebuilding
Home sale revenues	$	—			$	7,427,757			$	23,558			$	—			$	7,451,315
Land sale and other revenues	—				41,642				2,447				—				44,089
	—				7,469,399				26,005				—				7,495,404
Financial Services	—				—				181,126				—				181,126
	—				7,469,399				207,131				—				7,676,530
Homebuilding Cost of Revenues:
Home sale cost of revenues	—				(5,566,653		)		(21,321		)		—				(5,587,974		)
Land sale cost of revenues	—				(30,156		)		(1,959		)		—				(32,115		)
	—				(5,596,809		)		(23,280		)		—				(5,620,089		)
Financial Services expenses	—				(533		)		(108,040		)		—				(108,573		)
Selling, general, and administrative expenses	—				(907,748		)		(49,402		)		—				(957,150		)
Other expense, net	(1,321		)		(77,389		)		21,842				—				(56,868		)
Intercompany interest	(1,980		)		—				1,980				—				—
Income (loss) before income taxes and equity in income (loss) of subsidiaries	(3,301		)		886,920				50,231				—				933,850
Income tax (expense) benefit	1,254				(312,486		)		(19,915		)		—				(331,147		)
Income (loss) before equity in income (loss) of subsidiaries	(2,047		)		574,434				30,316				—				602,703
Equity in income (loss) of subsidiaries	604,750				58,078				457,716				(1,120,544		)		—
Net income (loss)	602,703				632,512				488,032				(1,120,544		)		602,703
Other comprehensive income (loss)	83				—				—				—				83
Comprehensive income (loss)	$	602,786			$	632,512			$	488,032			$	(1,120,544	)		$	602,786

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

CONSOLIDATING STATEMENT OF CASH FLOWS

For the year ended December 31, 2018

($000’s omitted)

	Unconsolidated																Consolidated PulteGroup, Inc.
	PulteGroup, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminating Entries
Net cash provided by (used in) operating activities	$	494,518			$	791,350			$	163,876			$	—			$	1,449,744
Cash flows from investing activities:
Capital expenditures	—				(51,147		)		(7,892		)		—				(59,039		)
Investment in unconsolidated subsidiaries	—				(1,000		)		—				—				(1,000		)
Other investing activities, net	—				11,300				6,797				—				18,097
Net cash provided by (used in) investing activities	—				(40,847		)		(1,095		)		—				(41,942		)
Cash flows from financing activities:
Proceeds from debt, net of issuance costs	(8,164		)		—				—				—				(8,164		)
Repayments of debt	—				(81,758		)		(1,017		)		—				(82,775		)
Borrowings under revolving credit facility	1,566,000				—				—				—				1,566,000
Repayments under revolving credit facility	(1,566,000		)		—				—				—				(1,566,000		)
Financial Services borrowings (repayments), net	—				—				(89,393		)		—				(89,393		)
Stock option exercises	6,555				—				—				—				6,555
Share repurchases	(302,473		)		—				—				—				(302,473		)
Dividends paid	(104,020		)		—				—				—				(104,020		)
Intercompany activities, net	(86,416		)		102,821				(16,405		)		—				—
Net cash provided by (used in) financing activities	(494,518		)		21,063				(106,815		)		—				(580,270		)
Net increase (decrease)	—				771,566				55,966				—				827,532
Cash, cash equivalents, and restricted cash at beginning of year	—				157,801				148,367				—				306,168
Cash, cash equivalents, and restricted cash at end of year	$	—			$	929,367			$	204,333			$	—			$	1,133,700

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

CONSOLIDATING STATEMENT OF CASH FLOWS

For the year ended December 31, 2017

($000’s omitted)

	Unconsolidated																Consolidated PulteGroup, Inc.
	PulteGroup, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminating Entries
Net cash provided by (used in) operating activities	$	309,757			$	328,163			$	25,157			$	—			$	663,077
Cash flows from investing activities:
Capital expenditures	—				(25,432		)		(6,619		)		—				(32,051		)
Investment in unconsolidated subsidiaries	—				(23,037		)		—				—				(23,037		)
Other investing activities, net	—				5,778				(932		)		—				4,846
Net cash provided by (used in) investing activities	—				(42,691		)		(7,551		)		—				(50,242		)
Cash flows from financing activities:
Proceeds from debt, net of issuance costs	—				—				—				—				—
Repayments of debt	(123,000		)		(10,301		)		(1,446		)		—				(134,747		)
Borrowings under revolving credit facility	2,720,000				—				—				—				2,720,000
Repayments under revolving credit facility	(2,720,000		)		—				—				—				(2,720,000		)
Financial Services borrowings (repayments), net	—				—				106,183				—				106,183
Stock option exercises	27,720				—				—				—				27,720
Share repurchases	(916,323		)		—				—				—				(916,323		)
Dividends paid	(112,748		)		—				—				—				(112,748		)
Intercompany activities, net	814,594				(728,555		)		(86,039		)		—				—
Net cash provided by (used in) financing activities	(309,757		)		(738,856		)		18,698				—				(1,029,915		)
Net increase (decrease)	—				(453,384		)		36,304				—				(417,080		)
Cash, cash equivalents, and restricted cash at beginning of year	—				611,185				112,063				—				723,248
Cash, cash equivalents, and restricted cash at end of year	$	—			$	157,801			$	148,367			$	—			$	306,168

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

CONSOLIDATING STATEMENT OF CASH FLOWS

For the year ended December 31, 2016

($000’s omitted)

	Unconsolidated																Consolidated PulteGroup, Inc.
	PulteGroup, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminating Entries
Net cash provided by (used in) operating activities	$	256,722			$	(102,054	)		$	(86,398	)		$	—			$	68,270
Cash flows from investing activities:
Capital expenditures	—				(36,297		)		(2,998		)		—				(39,295		)
Investment in unconsolidated subsidiaries	—				(14,539		)		—				—				(14,539		)
Cash used for business acquisitions	—				(430,458		)		—				—				(430,458		)
Other investing activities, net	—				11,189				1,911				—				13,100
Net cash provided by (used in) investing activities	—				(470,105		)		(1,087		)		—				(471,192		)
Cash flows from financing activities:
Financial Services borrowings (repayments)	—				—				63,744				—				63,744
Proceeds from debt, net of issuance costs	1,991,937				4,000				—				—				1,995,937
Repayments of debt	(965,245		)		(21,235		)		(439		)		—				(986,919		)
Borrowings under revolving credit facility	619,000				—				—				—				619,000
Repayments under revolving credit facility	(619,000		)		—				—				—				(619,000		)
Stock option exercises	5,845				—				—				—				5,845
Share repurchases	(603,206		)		—				—				—				(603,206		)
Dividends paid	(124,666		)		—				—				—				(124,666		)
Intercompany activities, net	(561,387		)		541,703				19,684				—				—
Net cash provided by (used in) financing activities	(256,722		)		524,468				82,989				—				350,735
Net increase (decrease)	—				(47,691		)		(4,496		)		—				(52,187		)
Cash, cash equivalents, and restricted cash at beginning of year	—				658,876				116,559				—				775,435
Cash, cash equivalents, and restricted cash at end of year	$	—			$	611,185			$	112,063			$	—			$	723,248

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

13. Quarterly results (unaudited)

UNAUDITED QUARTERLY INFORMATION

(000’s omitted, except per share data)

	1st Quarter				2nd Quarter				3rd Quarter				4th Quarter				Total (a)
2018
Homebuilding:
Revenues	$	1,924,155			$	2,516,958			$	2,597,746			$	2,944,091			$	9,982,949
Cost of revenues (b)	(1,471,488		)		(1,900,316		)		(1,976,220		)		(2,319,473		)		(7,667,497		)
Income before income taxes (c)	210,358				388,453				365,055				324,938				1,288,804
Financial Services:
Revenues	$	45,938			$	52,764			$	51,620			$	55,059			$	205,382
Income before income taxes (d)	13,833				20,717				19,633				4,553				58,736
Consolidated results:
Revenues	$	1,970,093			$	2,569,722			$	2,649,366			$	2,999,150			$	10,188,331
Income before income taxes	224,191				409,170				384,688				329,491				1,347,540
Income tax expense	(53,440		)		(85,081		)		(95,153		)		(91,842		)		(325,517		)
Net income	$	170,751			$	324,089			$	289,535			$	237,649			$	1,022,023
Net income per share:
Basic	$	0.59			$	1.12			$	1.01			$	0.84			$	3.56
Diluted	$	0.59			$	1.12			$	1.01			$	0.84			$	3.55
Number of shares used in calculation:
Basic	286,683				285,276				283,489				278,964				283,578
Effect of dilutive securities	1,343				1,378				1,183				1,248				1,287
Diluted	288,026				286,654				284,672				280,212				284,865

(a)	Due to rounding, the sum of quarterly results may not equal the total for the year. Additionally, quarterly and year-to-date computations of per share amounts are made independently.

(b)	Cost of revenues includes land inventory impairments of $66.9 million and net realizable value adjustments on land held for sale of $9.0 million in the 4th Quarter. See Note 2 for a more complete discussion of land-related charges for the full year.

(c)	Homebuilding income before income taxes includes an insurance reserve reversal of $37.9 million in the 2nd Quarter (see Note 11) and write-offs of pre-acquisition costs of $9.6 million in the 4th Quarter (See Note 2).

(d)	Financial Services income before income taxes includes a charge related to loan origination liabilities of $16.2 million in the 4th Quarter (see Note 11).

PULTEGROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

UNAUDITED QUARTERLY INFORMATION

(000’s omitted, except per share data)

	1st Quarter				2nd Quarter				3rd Quarter				4th Quarter				Total (a)
2017
Homebuilding:
Revenues	$	1,588,111			$	1,974,584			$	2,084,106			$	2,738,724			$	8,385,526
Cost of revenues (b)	(1,220,906		)		(1,637,536		)		(1,589,728		)		(2,147,431		)		(6,595,601		)
Income before income taxes (c)	125,762				103,599				250,463				385,508				865,332
Financial Services:
Revenues	$	41,767			$	47,275			$	46,952			$	56,166			$	192,160
Income before income taxes	13,503				18,948				17,786				23,259				73,496
Consolidated results:
Revenues	$	1,629,878			$	2,021,859			$	2,131,058			$	2,794,890			$	8,577,686
Income before income taxes	139,265				122,547				268,249				408,767				938,828
Income tax expense	(47,747		)		(21,798		)		(90,710		)		(331,352		)		(491,607		)
Net income	$	91,518			$	100,749			$	177,539			$	77,415			$	447,221
Net income per share:
Basic	$	0.29			$	0.32			$	0.59			$	0.26			$	1.45
Diluted	$	0.28			$	0.32			$	0.58			$	0.26			$	1.44
Number of shares used in calculation:
Basic	317,756				312,315				298,538				292,174				305,089
Effect of dilutive securities	2,329				1,565				1,690				1,318				1,725
Diluted	320,085				313,880				300,228				293,492				306,814

(a)	Due to rounding, the sum of quarterly results may not equal the total for the year. Additionally, quarterly and year-to-date computations of per share amounts are made independently.

(b)	Cost of revenues includes land inventory impairments of $31.5 million and $57.5 million in the 2nd and 4th Quarters, respectively (see Note 2); net realizable value adjustments on land held for sale of $81.0 million in the 2nd Quarter (see Note 2); and a warranty charge of $12.4 million related to a closed-out community in the 2nd Quarter (see Note 11).

(c)

Homebuilding income before income taxes includes an $8.0 million impairment of an investment in an unconsolidated entity in the 2nd Quarter (see Note 2); write-offs of insurance receivables of $15.0 million*,* $5.3 million*, and* $9.3 million for the 1st, 3rd, and 4th Quarters, respectively (see Note 11); and insurance reserve reversals of $19.8 million and $75.3 million in the 2nd and 4th Quarters, respectively (see Note 11).

Report of Independent Registered Public Accounting Firm

The Board of Directors and Shareholders of PulteGroup, Inc.

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of PulteGroup, Inc. (the Company) as of December 31, 2018 and 2017, and the related consolidated statements of operations, comprehensive income, shareholders’ equity and cash flows for each of the three years in the period ended December 31, 2018, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2018 and 2017, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2018, in conformity with U.S. generally accepted accounting principles.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 Framework) and our report dated January 31, 2019 expressed an unqualified opinion thereon.

Basis for Opinion

These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

/s/ Ernst & Young LLP

We have served as the Company’s auditor since 1973.

Atlanta, Georgia

January 31, 2019