Loans, Allowance for Loan Losses, and Credit Quality Indicators | NOTE 3 - LOANS, ALLOWANCE FOR LOAN LOSSES, AND CREDIT QUALITY INDICATORS Loans are stated at the amount of unpaid principal net of loan premiums or discounts for purchased loans, net of deferred loan origination fees, discounts associated with retained portions of loans sold, and an allowance for loan losses. Interest on loans is calculated using the simple-interest method on daily balances of the principal amount outstanding. Loan origination fees, net of origination costs and discounts, are amortized over the lives of the loans as adjustments to yield. Major classifications of period-end loans are as follows: March 31, % of Gross December 31, % of Gross 2016 Loans 2015 Loans Real estate loans Multi-family residential $ 66,419 4.64 % $ 66,445 4.73 % Residential 1-4 family 51,356 3.59 % 53,776 3.82 % Owner-occupied commercial 373,002 26.06 % 364,742 25.94 % Nonowner-occupied commercial 320,485 22.39 % 300,774 21.39 % Total permanent real estate loans 811,262 56.68 % 785,737 55.88 % Construction loans Multi-family residential 8,747 0.61 % 7,027 0.50 % Residential 1-4 family 29,261 2.04 % 30,856 2.19 % Commercial real estate 40,635 2.84 % 42,680 3.04 % Commercial bare land and acquisition & development 20,518 1.43 % 20,537 1.46 % Residential bare land and acquisition & development 6,562 0.46 % 7,268 0.52 % Total construction real estate loans 105,723 7.38 % 108,368 7.71 % Total real estate loans 916,985 64.06 % 894,105 63.59 % Commercial loans 505,845 35.35 % 501,976 35.70 % Consumer loans 2,948 0.21 % 3,351 0.24 % Other loans 5,525 0.39 % 6,580 0.47 % Gross loans 1,431,303 100.01 % 1,406,012 100.00 % Deferred loan origination fees (1,569 ) (1,530 ) 1,429,734 1,404,482 Allowance for loan losses (17,596 ) (17,301 ) Total loans, net of allowance for $ 1,412,138 $ 1,387,181 At March 31, 2016, outstanding loans to dental professionals totaled $350,940 and represented 24.52% of total outstanding loans compared to dental professional loans of $340,162 or 24.19% of total loans at December 31, 2015. Additional information about the Company’s dental portfolio can be found in Note 4. There are no other industry concentrations in excess of 10.00% of the total loan portfolio. However, as of March 31, 2016, 64.06% of the Company’s loan portfolio was collateralized by real estate and is, therefore, susceptible to changes in local market conditions. While appropriate action is taken to manage identified concentration risks, management believes that the loan portfolio is well diversified by geographic location and among industry groups. Purchased Credit Impaired Loans The following table represents the contractually required principal balance of purchased credit impaired loans and the carrying balance at March 31, 2016 and December 31, 2015: March 31, December 31, 2016 2015 Contractually required principal payments for purchase credit impaired loans $ 11,076 $ 11,528 Accretable yield (950 ) (1,070 ) Nonaccretable yield (378 ) (378 ) Balance of purchased credit impaired loans $ 9,748 $ 10,080 The following tables summarize the changes in the accretable yield for purchased credit impaired loans for the periods ended March 31, 2016 and 2015: Three months ended March 31, 2016 Century Capital Total Balance, beginning of period $ 40 $ 1,030 $ 1,070 Additions — — — Accretion to interest income (29 ) (91 ) (120 ) Balance, end of period $ 11 $ 939 $ 950 Three months ended March 31, 2015 Century Capital Total Balance, beginning of period $ 151 $ — $ 151 Additions — 1,569 1,569 Accretion to interest income (29 ) (79 ) (108 ) Balance, end of period $ 122 $ 1,490 $ 1,612 Allowance for Loan Losses The allowance for loan losses is established as an amount that management considers adequate to absorb possible losses on existing loans within the portfolio. The allowance consists of general, specific, and unallocated components. The general component is based upon all loans collectively evaluated for impairment. The specific component is based upon all loans individually evaluated for impairment. The unallocated component represents credit losses inherent in the loan portfolio that may not have been contemplated in the general risk factors or the specific allowance analysis. Loans are charged against the allowance when management believes the collection of principal and interest is unlikely. The Company performs regular credit reviews of the loan portfolio to determine the credit quality and adherence to underwriting standards. When loans are originated, they are assigned a risk rating that is reassessed periodically during the term of the loan through the credit review process. The Company’s internal risk rating methodology assigns risk ratings ranging from one to ten, where a higher rating represents higher risk. The ten-point risk rating categories are a primary factor in determining an appropriate amount for the allowance for loan losses. Estimated credit losses reflect consideration of all significant factors that affect the collectability of the loan portfolio. The historical loss rate for each group of loans with similar risk characteristics is determined based on the Company’s own loss experience in that group. Historical loss experience and recent trends in losses provides a reasonable starting point for analysis, however they do not by themselves form a sufficient basis to determine the appropriate level for the allowance for loan losses. Qualitative or environmental factors that are likely to cause estimated credit losses to differ from historical losses are also considered including but not limited to: • Changes in international, regional, and local economic and business conditions and developments that affect the collectability of the portfolio, including the condition of various market segments, • Changes in the nature and volume of the portfolio and in the terms of loans, • Changes in the volume and severity of past due loans, the volume of nonaccrual loans, and the volume and severity of adversely classified or graded loans, • Changes in the quality of the institution’s loan review system, • Changes in the value of underlying collateral for collateral-dependent loans, • The existence and effect of any concentrations of credit, and changes in the level of such concentrations, • The effect of other external factors such as competition and legal and regulatory requirements on the level of estimated credit losses in the institution’s existing portfolio, • Changes in lending policies and procedures, including changes in underwriting standards and collection, charge-off, and recovery practices not considered elsewhere in estimating credit losses, and • Changes in the current and future US political environment, including debt ceiling negotiations, government shutdown and healthcare reform that may affect national, regional and local economic conditions, taxation, or disruption of national or global financial markets. The adequacy of the allowance for loan losses and the reserve for unfunded commitments is determined using a consistent, systematic methodology and is monitored regularly based on management’s evaluation of numerous factors. For each portfolio segment, these factors include: • The quality of the current loan portfolio, • The trend in the migration of the loan portfolio’s risk ratings, • The velocity of migration of losses and potential losses, • Current economic conditions, • Loan concentrations, • Loan growth rates, • Past-due and nonperforming trends, • Evaluation of specific loss estimates for all significant problem loans, • Recovery experience, and • Peer comparison loss rates. A summary of the activity in the allowance for loan losses by major loan classification follows: For the three months ended March 31, 2016 Commercial Real Estate Construction Consumer Unallocated Total Beginning balance $ 6,349 $ 8,297 $ 1,258 $ 46 $ 1,351 $ 17,301 Charge-offs — — — — — — Recoveries 32 9 8 1 — 50 Provision (reclassification) (287 ) 447 (147 ) (4 ) 236 245 Ending balance $ 6,094 $ 8,753 $ 1,119 $ 43 $ 1,587 $ 17,596 For the three months ended March 31, 2015 Commercial Real Estate Construction Consumer Unallocated Total Beginning balance $ 5,733 $ 7,494 $ 1,077 $ 54 $ 1,279 $ 15,637 Charge-offs (32 ) (41 ) — — — (73 ) Recoveries 104 45 5 6 — 160 Provision (reclassification) (255 ) 39 (20 ) (8 ) 244 — Ending balance $ 5,550 $ 7,537 $ 1,062 $ 52 $ 1,523 $ 15,724 At March 31, 2016, the allowance for loan losses on dental loans was $3,884, compared to $4,187 at December 31, 2015, See Note 4 for additional information on the dental loan portfolio. The following table presents the allowance and recorded investment in loans by major loan classification at March 31, 2016 and December 31, 2015: Balances as of March 31, 2016 Commercial and Other Real Estate Construction Consumer Unallocated Total Ending allowance: collectively evaluated for impairment $ 6,040 $ 8,733 $ 1,090 $ 43 $ 1,587 $ 17,493 Ending allowance: individually evaluated for impairment 54 20 29 — — 103 Ending allowance: loans acquired with deteriorated credit quality — — — — — — Total ending allowance $ 6,094 $ 8,753 $ 1,119 $ 43 $ 1,587 $ 17,596 Ending loan balance: collectively evaluated for impairment $ 506,311 $ 799,171 $ 103,499 $ 2,948 $ — $ 1,411,929 Ending loan balance: individually evaluated for impairment 3,456 3,946 2,224 — — 9,626 Ending loan balance: loans acquired with deteriorated credit quality 1,603 8,145 — — — 9,748 Total ending loan balance $ 511,370 $ 811,262 $ 105,723 $ 2,948 $ — $ 1,431,303 Balances as of December 31, 2015 Commercial Real Estate Construction Consumer Unallocated Total Ending allowance: collectively evaluated for impairment $ 6,303 $ 8,267 $ 1,159 $ 46 $ 1,351 $ 17,126 Ending allowance: individually evaluated for impairment 46 30 99 — — 175 Ending allowance: loans acquired with deteriorated credit quality — — — — — — Total ending allowance $ 6,349 $ 8,297 $ 1,258 $ 46 $ 1,351 $ 17,301 Ending loan balance: collectively evaluated for impairment $ 504,261 $ 771,543 $ 107,977 $ 3,351 $ — $ 1,387,132 Ending loan balance: individually evaluated for impairment 2,627 5,782 391 — — 8,800 Ending loan balance: loans acquired with deteriorated credit quality 1,668 8,412 — — — 10,080 Total ending loan balance $ 508,556 $ 785,737 $ 108,368 $ 3,351 $ — $ 1,406,012 The March 31, 2016, ending allowance includes $103 in specific allowance for $9,626 of impaired loans ($6,765 net of government guarantees). At December 31, 2015, the Company had $8,800 of impaired loans ($7,527 net of government guarantees) with a specific allowance of $175 assigned. Management believes that the allowance for loan losses was adequate as of March 31, 2016. However, future loan losses may exceed the levels provided for in the allowance for loan losses and could possibly result in additional charges to the provision for loan losses. Credit Quality Indicators The Company uses the following loan grades, which are also often used by regulators when assessing the credit quality of a loan portfolio. Pass Special Mention Substandard Doubtful Management strives to consistently apply these definitions when allocating its loans by loan grade. The loan portfolio is continuously monitored for changes in credit quality and management takes appropriate action to update the loan risk ratings accordingly. Management has not changed the Company’s policy towards its use of credit quality indicators during the periods reported. The following tables present the Company’s loan portfolio information by loan type and credit grade at March 31, 2016 and December 31, 2015: Credit Quality Indicators As of March 31, 2016 Loan Grade Pass Special Mention Substandard Doubtful Totals Real estate loans Multi-family residential $ 66,184 $ — $ 235 $ — $ 66,419 Residential 1-4 family 46,881 — 4,475 — 51,356 Owner-occupied commercial 363,310 — 9,692 — 373,002 Nonowner-occupied commercial 316,356 — 4,129 — 320,485 Total real estate loans 792,731 — 18,531 — 811,262 Construction Multi-family residential 8,747 — — — 8,747 Residential 1-4 family 29,208 — 53 — 29,261 Commercial real estate 40,535 — 100 — 40,635 Commercial bare land and acquisition & development 20,490 — 28 — 20,518 Residential bare land and acquisition & development 4,274 — 2,288 — 6,562 Total construction loans 103,254 — 2,469 — 105,723 Commercial and other 498,057 — 13,313 — 511,370 Consumer 2,947 — 1 — 2,948 Totals $ 1,396,989 $ — $ 34,314 $ — $ 1,431,303 Percentage of portfolio 97.60 % 0.00 % 2.40 % 0.00 % 100.00 % Credit Quality Indicators As of December 31, 2015 Loan Grade Pass Special Mention Substandard Doubtful Totals Real estate loans Multi-family residential $ 66,208 $ — $ 237 $ — $ 66,445 Residential 1-4 family 49,077 — 4,699 — 53,776 Owner-occupied commercial 353,249 — 11,493 — 364,742 Nonowner-occupied commercial 296,528 — 4,246 — 300,774 Total real estate loans 765,062 — 20,675 — 785,737 Construction Multi-family residential 7,027 — — — 7,027 Residential 1-4 family 30,803 — 53 — 30,856 Commercial real estate 42,580 — 100 — 42,680 Commercial bare land and acquisition & development 20,265 — 272 — 20,537 Residential bare land and acquisition & development 4,969 — 2,299 — 7,268 Total construction loans 105,644 — 2,724 — 108,368 Commercial and other 494,267 — 14,289 — 508,556 Consumer 3,350 — 1 — 3,351 Totals $ 1,368,323 $ — $ 37,689 $ — $ 1,406,012 Percentage of portfolio 97.32 % 0.00 % 2.68 % 0.00 % 100.00 % At March 31, 2016 and December 31, 2015, the Company had $437, and $360, respectively, in unfunded commitments on its classified loans, which is included in the calculation of our classified asset ratio. Past Due and Nonaccrual Loans The Company uses the terms “past due” and “delinquent” interchangeably. Amortizing loans are considered past due or delinquent based upon the number of contractually required payments not made. Delinquency status for all contractually matured loans, commercial and commercial real estate loans with non-monthly amortization, and all other extensions of credit is determined based upon the number of calendar months past due. The following tables present an aging analysis of past due and nonaccrual loans at March 31, 2016 and December 31, 2015: Age Analysis of Loans Receivable As of March 31, 2016 30-59 Days Past Due 60-89 Days Past Due Greater Than 90 days Nonaccrual Total Past Total Current Total Loans Real estate loans Multi-family residential $ — $ — $ — $ — $ — $ 66,419 $ 66,419 Residential 1-4 family — — — 710 710 50,646 51,356 Owner-occupied commercial — — — 2,309 2,309 370,693 373,002 Nonowner-occupied commercial — — — 761 761 319,724 320,485 Total real estate loans — — — 3,780 3,780 807,482 811,262 Construction Multi-family residential — — — — — 8,747 8,747 Residential 1-4 family 193 — — 53 246 29,015 29,261 Commercial real estate — — — — — 40,635 40,635 Commercial bare land and acquisition & development — — — — — 20,518 20,518 Residential bare land and acquisition & development — 333 — — 333 6,229 6,562 Total construction loans 193 333 — 53 579 105,144 105,723 Commercial and other 505 — — 1,529 2,034 509,336 511,370 Consumer 3 — — — 3 2,945 2,948 Total $ 701 $ 333 $ — $ 5,362 $ 6,396 $ 1,424,907 $ 1,431,303 Percentage of portfolio 0.05 % 0.02 % 0.00 % 0.37 % 0.45 % 99.55 % 100.00 % Age Analysis of Loans Receivable As of December 31, 2015 30-59 Days 60-89 Days Greater Nonaccrual Total Past Due and Total Total Loans Real estate loans Multi-family residential $ — $ — $ — $ — $ — $ 66,445 $ 66,445 Residential 1-4 family — — — 733 733 53,043 53,776 Owner-occupied commercial — — — 2,369 2,369 362,373 364,742 Nonowner-occupied commercial — — — 790 790 299,984 300,774 Total real estate loans — — — 3,892 3,892 781,845 785,737 Construction Multi-family residential — — — — — 7,027 7,027 Residential 1-4 family 480 — — 53 533 30,323 30,856 Commercial real estate — — — — — 42,680 42,680 Commercial bare land and acquisition & development — — — — — 20,537 20,537 Residential bare land and acquisition & development — — — — — 7,268 7,268 Total construction loans 480 — — 53 533 107,835 108,368 Commercial and other — — — 1,564 1,564 506,992 508,556 Consumer 1 3 — — 4 3,347 3,351 Total $ 481 $ 3 $ — $ 5,509 $ 5,993 $ 1,400,019 $ 1,406,012 Percentage of portfolio 0.03 % 0.00 % 0.00 % 0.39 % 0.43 % 99.57 % 100.00 % Impaired Loans Regular credit reviews of the portfolio are performed to identify loans that are considered potentially impaired. Potentially impaired loans are referred to the Asset-Liability Committee (ALCO) for review and are included in the specific calculation of allowance for loan losses. A loan is considered impaired when, based on current information and events, the Company is unlikely to collect all principal and interest due according to the terms of the loan agreement. When the amount of the impairment represents a confirmed loss it is charged off against the allowance for loan losses. Impaired loans are often reported net of government guarantees to the extent that the guarantees are expected to be collected. Impaired loans generally include all loans classified as nonaccrual and troubled debt restructurings. Accrual of interest is discontinued on impaired loans when management believes that, after considering economic and business conditions and collection efforts, the borrower’s financial condition is such that collection of principal or interest is doubtful. Accrued, but uncollected interest is generally reversed when loans are placed on nonaccrual status. Interest income is subsequently recognized only to the extent cash payments are received satisfying all delinquent principal and interest amounts, and the prospects for future payments in accordance with the loan agreement appear relatively certain. In accordance with GAAP, payments received on nonaccrual loans are applied to the principal balance and no interest income is recognized. Interest income may be recognized on impaired loans that are not on nonaccrual status. The following tables display an analysis of the Company’s impaired loans at March 31, 2016, and December 31, 2015: Impaired Loan Analysis As of March 31, 2016 Recorded Recorded Total Unpaid Average Related Specific Allowance Valuation Real estate Multi-family residential $ — $ — $ — $ — $ — $ — Residential 1-4 family 363 306 669 897 672 5 Owner-occupied commercial 998 — 998 998 1,607 — Nonowner-occupied commercial 2,264 15 2,279 2,340 2,292 15 Total real estate loans 3,625 321 3,946 4,235 4,571 20 Construction Multi-family residential — — — — — — Residential 1-4 family 53 — 53 72 151 — Commercial real estate — — — — — — Commercial bare land and acquisition & development — — — — — — Residential bare land and acquisition & development 1,838 333 2,171 2,171 961 29 Total construction loans 1,891 333 2,224 2,243 1,112 29 Commercial and other 2,385 1,071 3,456 3,847 3,130 54 Consumer — — — — — — Total impaired loans $ 7,901 $ 1,725 $ 9,626 $ 10,325 $ 8,812 $ 103 Impaired Loan Analysis As of December 31, 2015 Recorded Recorded Total Unpaid Average Related Specific Allowance Valuation Real estate Multi-family residential $ — $ — $ — $ — $ — $ — Residential 1-4 family 374 308 682 911 766 5 Owner-occupied commercial 2,788 — 2,788 2,788 1,177 — Nonowner-occupied commercial 2,287 25 2,312 2,374 2,395 25 Total real estate loans 5,449 333 5,782 6,073 4,338 30 Construction Multi-family residential — — — — — — Residential 1-4 family 53 — 53 72 32 — Commercial real estate — — — — — — Commercial bare land and acquisition & development — — — — — — Residential bare land and acquisition & development — 338 338 338 347 99 Total construction loans 53 338 391 410 379 99 Commercial and other 2,091 536 2,627 3,018 2,404 46 Consumer — — — — — — Total impaired loans $ 7,593 $ 1,207 $ 8,800 $ 9,501 $ 7,121 $ 175 The impaired balances reported above are not adjusted for government guarantees of $2,861, and $1,273 at March 31, 2016 and December 31, 2015, respectively. The recorded investment in impaired loans, net of government guarantees, totaled $6,765, and $7,527 at March 31, 2016, and December 31, 2015, respectively. Troubled Debt Restructurings In the normal course of business, the Company may modify the terms of certain loans, attempting to protect as much of its investment as possible. Management evaluates the circumstances surrounding each modification to determine whether it is a troubled debt restructuring (“TDR”). TDRs exist when 1) the restructuring constitutes a concession, and 2) the debtor is experiencing financial difficulties. The following table displays the Company’s TDRs by class at March 31, 2016 and December 31, 2015: Troubled Debt Restructurings as of March 31, 2016 December 31, 2015 Number of Post-Modification Number of Post-Modification Real estate Multifamily residential — $ — — $ — Residential 1-4 family 6 669 6 682 Owner-occupied commercial 2 998 3 2,788 Non owner-occupied commercial 7 2,279 7 2,312 Total real estate loans 15 3,946 16 5,782 Construction Multifamily residential — — — — Residential 1-4 family — — — — Commercial real estate — — — — Commercial bare land and acquisition & development — — — — Residential bare land and acquisition & development 2 1,838 — — Total construction loans 2 1,838 — — Commercial and other 16 3,229 11 2,170 Consumer — — — — Total 33 $ 9,013 27 $ 7,952 The recorded investment in TDRs on nonaccrual status totaled $2,320, and $1,807 at March 31, 2016 and December 31, 2015, respectively. The Company’s policy is that loans placed on nonaccrual will typically remain on nonaccrual status until all principal and interest payments are brought current and the prospect for future payment in accordance with the loan agreement appears relatively certain. The Company’s policy generally refers to a minimum of six months of payment performance as sufficient to warrant a return to accrual status. For the three months ended March 31, 2016, the Company restructured $3,228 loans into troubled debt restructurings for which impairment was previously measured under the Company’s general loan loss allowance methodology. The types of modifications offered can generally be described in the following categories: Rate Modification - Term Modification - Interest-only Modification Combination Modification - Below is a table of the newly restructured loans identified in the three months ended March 31, 2016, and 2015. Troubled Debt Restructurings Identified During the Three Months ended March 31, 2016 Rate Term Interest-only Combination Real estate Multi-family residential $ — $ — $ — $ — Residential 1-4 family — — — — Owner-occupied commercial — — — — Nonowner-occupied commercial — — — — Total real estate loans — — — — Construction Multi-family residential — — — — Residential 1-4 family — — — — Commercial real estate — — — — Commercial bare land and acquisition & development — — — — Residential bare land and acquisition & development — — — 1,838 Total construction loans — — — 1,838 Commercial and other — — 397 701 Consumer — — — — Total $ — $ — $ 397 $ 2,539 There were no newly restructured loans identified in the three months ended March 31, 2015. Subsequent to a loan being classified as a TDR, a borrower may become unwilling or unable to abide by the terms of the modified agreement. In such cases of default, the Company takes appropriate action to recover principal and interest payments including the use of foreclosure proceedings. There were no TDRs that subsequently defaulted within the first twelve months of restructure during the periods ended March 31, 2016 and 2015. At March 31, 2016, and December 31, 2015, the Company had no commitments to lend additional funds on loans restructured as TDRs. |