Notes to Consolidated Financial Statements
Note 1 - Nature of Operations
The consolidated financial statements include the accounts of Quaint Oak Bancorp, Inc., a Pennsylvania chartered corporation (the “Company” or “Quaint Oak Bancorp”) and its wholly owned subsidiary, Quaint Oak Bank, a Pennsylvania chartered stock savings bank (the “Bank”), along with its wholly owned subsidiaries. At December 31, 2019, the Bank has five wholly-owned subsidiaries, Quaint Oak Mortgage, LLC, Quaint Oak Real Estate, LLC, Quaint Oak Abstract, LLC, QOB Properties, LLC, and Quaint Oak Insurance Agency, LLC, each a Pennsylvania limited liability company. The mortgage company offers mortgage banking in the Lehigh Valley, Delaware Valley and Philadelphia County regions of Pennsylvania. The real estate and abstract companies offer real estate sales and title abstract services, respectively, primarily in the Lehigh Valley region of Pennsylvania. These companies began operation in July 2009. In February, 2019, Quaint Oak Mortgage opened a mortgage banking office in Philadelphia, Pennsylvania. QOB Properties, LLC began operations in July 2012 and holds Bank properties acquired through a foreclosure proceeding or acceptance of a deed in lieu of foreclosure. Quaint Oak Insurance Agency, LLC began operations in August 2016 and provides a broad range of personal and commercial insurance coverage solutions. All significant intercompany balances and transactions have been eliminated.
The Bank is subject to regulation by the Pennsylvania Department of Banking and Securities and the Federal Deposit Insurance Corporation. Pursuant to the Bank’s election under Section 10(l) of the Home Owners’ Loan Act, the Company is a savings and loan holding company regulated by the Board of Governors of the Federal Reserve System. The market area served by the Bank is principally Bucks, Montgomery and Philadelphia Counties in Pennsylvania and the Lehigh Valley area in Pennsylvania. The Bank has two banking locations: the main office location in Southampton, Pennsylvania and a regional banking office in the Lehigh Valley area of Pennsylvania. The principal deposit products offered by the Bank are certificates of deposit, money market accounts, non-interest bearing checking accounts for businesses and consumers, and savings accounts. In February 2020, Quaint Oak Bank opened a retail banking office in Philadelphia, Pennsylvania. The principal loan products offered by the Bank are fixed and adjustable rate residential and commercial mortgages, construction loans, commercial business loans, home equity loans, and lines of credit.
Note 2 - Summary of Significant Accounting Policies
Use of Estimates
The preparation of the financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the reporting period. Actual results could differ from those estimates. The Company’s most significant estimates are the determination of the allowance for loan losses and valuation of deferred tax assets.
Significant Group Concentrations of Credit Risk
The Bank has a significant concentration of loans in Philadelphia County, Pennsylvania. The concentration of credit by type of loan is set forth in Note 7. Although the Bank has a diversified loan portfolio, its debtors’ ability to honor their contracts is influenced by the region’s economy. During the year ended December 31, 2019, one investor purchased a total of 44% of all loans sold by the Bank from its mortgage loans held for sale, and the sales to this investor accounted for approximately 40% of the gain on loans sold during the year.
Cash and Cash Equivalents
For purposes of reporting cash flows, cash and cash equivalents include non-interest earning and interest-earning demand deposits and money market accounts with various financial institutions, all of which mature within ninety days of acquisition.
Notes to Consolidated Financial Statements (Continued)
Note 2 - Summary of Significant Accounting Policies (Continued)
Investment Securities
Management determines the appropriate classification of debt securities at the time of purchase and reevaluates such designation as of each balance sheet date.
Securities classified as available for sale are those securities that the Company intends to hold for an indefinite period of time but not necessarily to maturity. Any decision to sell a security classified as available for sale would be based on various factors, including significant movement in interest rates, changes in maturity mix of the Company’s assets and liabilities, liquidity needs, regulatory capital requirements, and other similar factors. Securities available for sale are carried at fair value. Unrealized gains and losses are reported in other comprehensive income, net of related deferred tax effects. Realized gains and losses, determined on the basis of the cost of the specific securities sold, are included in earnings. Premiums and discounts are recognized in interest income using the interest method over the terms of the securities.
Securities classified as held to maturity are those debt securities the Company has both the intent and ability to hold to maturity regardless of the changes in market conditions, liquidity needs, or changes in general economic conditions. These securities are carried at cost adjusted for amortization of premium and accretion of discount, which are recognized in interest income using the interest method over the terms of the securities.
The Company follows the accounting guidance related to recognition and presentation of other-than-temporary impairment. This accounting guidance specifies that (a) if a company does not have the intent to sell a debt security prior to recovery and (b) it is more likely than not that it will not have to sell the debt security prior to recovery, the security would not be considered other-than-temporarily impaired unless there is a credit loss. When an entity does not intend to sell the security, and it is more likely than not the entity will not have to sell the security before recovery of its cost basis, it will recognize the credit component of an other-than-temporary impairment of a debt security in earnings and the remaining portion in other comprehensive income. For held-to-maturity debt securities, the amount of an other-than-temporary impairment recorded in other comprehensive income for the noncredit portion of a previous other-than-temporary impairment should be amortized prospectively over the remaining life of the security on the basis of the timing of future estimated cash flows of the security. The Company recognized no other-than-temporary impairment charges during the years ended December 31, 2019 and 2018.
Federal Home Loan Bank Stock
Federal law requires a member institution of the Federal Home Loan Bank (FHLB) system to hold restricted stock of its district Federal Home Loan Bank according to a predetermined formula. FHLB stock is carried at cost and evaluated for impairment. When evaluating FHLB stock for impairment, its value is determined based on the ultimate recoverability of the par value of the stock. We evaluate our holdings of FHLB stock for impairment each reporting period. No impairment charges were recognized on FHLB stock during the years ended December 31, 2019 and 2018.
Loans Receivable
Loans receivable that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are stated at their outstanding unpaid principal balances, net of an allowance for loan losses and any deferred fees. Interest income is accrued on the unpaid principal balance. Loan origination fees and costs are deferred and recognized as an adjustment of the yield (interest income) of the related loans. The Bank is generally amortizing these amounts over the contractual life of the loan.
Notes to Consolidated Financial Statements (Continued)
Note 2 - Summary of Significant Accounting Policies (Continued)
Loans Receivable (Continued)
The loans receivable portfolio is segmented into residential loans, commercial real estate loans, construction loans, commercial business, and consumer loans. The residential loan segment has two classes: one-to-four family residential owner occupied loans and one-to-four family residential non-owner occupied loans. The commercial real estate loan segment consists of the following classes: multi-family (five or more) residential, commercial real estate and commercial lines of credit. Construction loans are generally granted for the purpose of building a single residential home. Commercial business loans are loans to businesses primarily for purchase of business essential equipment. Business essential equipment is equipment necessary for a business to support or assist with the day-to-day operation or profitability of the business. The consumer loan segment consists of the following classes: home equity loans and other consumer loans. Included in the home equity class are home equity loans and home equity lines of credit. Included in the other consumer are loans secured by saving accounts.
The accrual of interest is generally discontinued when principal or interest has become 90 days past due unless the loan is in the process of collection and is either guaranteed or well secured. When a loan is placed on nonaccrual status, unpaid interest credited to income in the current year is reversed and unpaid interest accrued in prior years is charged against the allowance for loan losses. Interest received on nonaccrual loans generally is either applied against principal or reported as interest income, according to management’s judgment as to the collectability of principal. Generally, loans are restored to accrual status when the obligation is brought current, has performed in accordance with the contractual terms for a reasonable period of time and the ultimate collectability of the total contractual principal and interest is no longer in doubt.
Allowance for Loan Losses
The allowance for loan losses represents management’s estimate of losses inherent in the loan portfolio as of the balance sheet date and is recorded as a reduction to loans. The allowance for loan losses is increased by the provision for loan losses, and decreased by charge-offs, net of recoveries. Loans deemed to be uncollectible are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance. All, or part, of the principal balance of loans receivable are charged off to the allowance as soon as it is determined that the repayment of all, or part, of the principal balance is highly unlikely. Because all identified losses are immediately charged off, no portion of the allowance for loan losses is restricted to any individual loan or groups of loans, and the entire allowance is available to absorb any and all loan losses.
The allowance for loan losses is maintained at a level considered adequate to provide for losses that can be reasonably anticipated. Management performs a quarterly evaluation of the adequacy of the allowance. The allowance is based on the Company’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, composition of the loan portfolio, current economic conditions and other relevant factors. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant revision as more information becomes available.
The allowance consists of specific, general and unallocated components. The specific component relates to loans that are identified as impaired. For loans that are identified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers pools of loans by loan class. These pools of loans are evaluated for loss exposure based upon historical loss rates for each of these categories of loans, adjusted for qualitative factors. These significant factors may include changes in lending policies and procedures, changes in existing general economic and business conditions affecting our primary lending areas, credit quality trends, collateral value, loan volumes and concentrations, seasoning of the loan portfolio, recent loss experience in particular segments of the portfolio, duration of the current business cycle and bank regulatory examination results. The applied loss factors are re-evaluated quarterly to ensure their relevance in the current economic environment. Residential mortgage lending generally entails a lower risk of default than other types of lending. Consumer loans and commercial real estate loans generally involve more risk of collectability because of the type and nature of the collateral and, in certain cases, the absence of collateral. It is the Company’s policy to establish a specific reserve for loss on any delinquent loan when it determines that a loss is probable. An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.
Notes to Consolidated Financial Statements (Continued)
Note 2 - Summary of Significant Accounting Policies (Continued)
Allowance for Loan Losses (Continued)
A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not considered impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis by either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent. An allowance for loan losses is established for an impaired loan if its carrying value exceeds its estimated fair value. The estimated fair values of substantially all of the Company’s impaired loans are measured based on the estimated fair value of the loan’s collateral.
A loan is considered a troubled debt restructuring (“TDR”) if the Company, for economic or legal reasons related to a debtor’s financial difficulties, grants a concession to the debtor that it would not otherwise consider. Concessions granted under a TDR typically involve a temporary or permanent reduction in payments or interest rate or an extension of a loan’s stated maturity date at less than a current market rate of interest. Loans identified as TDRs are designated as impaired.
For loans secured by real estate, estimated fair values are determined primarily through third-party appraisals. When a real estate secured loan becomes impaired, a decision is made regarding whether an updated certified appraisal of the real estate is necessary. This decision is based on various considerations, including the age of the most recent appraisal, the loan-to-value ratio based on the original appraisal and the condition of the property. Appraised values are discounted to arrive at the estimated selling price of the collateral, which is considered to be the estimated fair value. The discounts also include estimated costs to sell the property.
The allowance calculation methodology includes further segregation of loan classes into risk rating categories. The borrower’s overall financial condition, repayment sources, guarantors and value of collateral, if appropriate, are evaluated annually for all loans (except one-to-four family residential owner-occupied loans) where the total amount outstanding to any borrower or group of borrowers exceeds $500,000, or when credit deficiencies arise, such as delinquent loan payments. Credit quality risk ratings include regulatory classifications of special mention, substandard, doubtful and loss. Loans criticized as special mention have potential weaknesses that deserve management’s close attention. If uncorrected, the potential weaknesses may result in deterioration of the repayment prospects. Loans classified substandard have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They include loans that are inadequately protected by the current sound net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans classified doubtful have all the weaknesses inherent in loans classified substandard with the added characteristic that collection or liquidation in full, on the basis of current conditions and facts, is highly improbable. Loans classified as a loss are considered uncollectible and are charged to the allowance for loan losses. Loans not classified are rated pass. In addition, Federal regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses and may require the Company to recognize additions to the allowance based on their judgments about information available to them at the time of their examination, which may not be currently available to management. Based on management’s comprehensive analysis of the loan portfolio, management believes the current level of the allowance for loan losses is adequate.
Notes to Consolidated Financial Statements (Continued)
Note 2 - Summary of Significant Accounting Policies (Continued)
Allowance for Loan Losses (Continued)
Loans Held for Sale
Loans originated by the Bank’s mortgage banking subsidiary, Quaint Oak Mortgage, LLC, are intended for sale in the secondary market and are carried at the lower of cost or fair value (LOCOM). Gains and losses on loan sales (sales proceeds minus carrying value) are recorded in noninterest income, and direct loan origination costs, commissions and fees are deferred at origination of the loan and are recognized in noninterest income upon sale of the loan. To a lesser extent, the Bank originates commercial business loans for the purchase of business essential equipment for sale primarily to other financial institutions.
Bank Owned Life Insurance (“BOLl”)
The Company purchases bank owned life insurance as a mechanism for funding various employee benefit costs. The Company is the beneficiary of these policies that insure the lives of certain officers of its subsidiaries. The Company has recognized the cash surrender value under the insurance policies as an asset in the Consolidated Balance Sheets. Changes in the cash surrender value are recorded in non-interest income in the Consolidated Statements of Income.
Premises and Equipment
Land is carried at cost. Premises and equipment are stated at cost less accumulated depreciation. Depreciation is computed on the straight-line method over the expected useful lives of the related assets that range from three to thirty-nine years. The costs of maintenance and repairs are expensed as incurred. Costs of major additions and improvements are capitalized.
Intangible Assets
Intangible assets on the consolidated balance sheets represent the acquisition by Quaint Oak Insurance Agency of the renewal rights to a book of business on August 1, 2016 at a total cost of $1.0 million. Based on a valuation, $515,000 of the purchase price was determined to be goodwill and $485,000 was determined to be related to the renewal rights to the book of business and deemed an other intangible asset. The renewal rights are being amortized over a ten year period based upon the annual retention rate of the book of business.
The Company will complete a goodwill and other intangible asset analysis at least on an annual basis or more often if events and circumstances indicate that there may be impairment.
Notes to Consolidated Financial Statements (Continued)
Note 2 - Summary of Significant Accounting Policies (Continued)
Other Real Estate Owned
Other real estate owned or foreclosed assets are comprised of property acquired through a foreclosure proceeding or acceptance of a deed in lieu of foreclosure and loans classified as in-substance foreclosures. A loan is classified as in-substance foreclosure when the Bank has taken possession of the collateral regardless of whether formal foreclosure proceedings take place. Other real estate properties are initially recorded at fair value, net of estimated selling costs at the date of foreclosure, establishing a new cost basis. After foreclosure, valuations are periodically performed by management and the real estate is carried at the lower of cost or fair value less estimated costs to sell. Net revenue and expenses from operations and additions to the valuation allowance are included in other expenses.
The Company had four properties in other real estate owned (OREO) totaling $1.8 million at December 31, 2019. The balance of these OREO properties amounted to $1.7 million at December 31, 2018.
Mortgage Servicing Rights
Included in other assets are mortgage servicing rights recognized as separate assets when mortgage loans are sold and the servicing rights are retained. These capitalized mortgage servicing rights are amortized into non-interest income in proportion to, and over the period of, the estimated future net servicing period of the underlying mortgage loans. Mortgage servicing rights totaled $128,000 and $87,000 at December 31, 2019 and 2018, respectively. During the year ended December 31, 2019 and 2018, approximately $13,000 and $10,000 in amortization was recognized, respectively.
Advertising Costs
The Company expenses all advertising costs as incurred. Advertising costs are included in non-interest expense on the Consolidated Statements of Income.
Transfers of Financial Assets
Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity or the ability to unilaterally cause the holder to return specific assets.
Income Taxes
Deferred income taxes are provided on the liability method whereby deferred tax assets are recognized for deductible temporary differences and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax basis. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.
Notes to Consolidated Financial Statements (Continued)
Note 2 - Summary of Significant Accounting Policies (Continued)
Income Taxes (Continued)
The Company follows guidance related to accounting for uncertainty in income taxes, which sets out a consistent framework to determine the appropriate level of tax reserves to maintain for uncertain tax positions. A tax position is recognized as a benefit only if it is more likely than not that the tax position would be sustained in a tax examination, with a tax examination presumed to occur. The amount recognized is the largest amount of tax benefit that has more than 50 percent likelihood of being realized upon examination. For tax positions not meeting the more likely than not test, no tax benefit is recorded. The Company had no material uncertain tax positions or accrued interest and penalties as of December 31, 2019 and 2018. The Company’s policy is to account for interest as a component of interest expense and penalties as components of other expense. The Company is no longer subject to examination by taxing authorities for the years before January 1, 2016.
Comprehensive Income (Loss)
Accounting principles generally accepted in the United States of America require that recognized revenue, expenses, gains and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available for sale securities, are reported as a separate component of the stockholders’ equity section of the balance sheet, such items, along with net income, are components of comprehensive income (loss).
Treasury Stock and Unallocated Common Stock
The acquisition of treasury stock by the Company, including unallocated stock held by certain benefit plans, is recorded under the cost method. At the date of subsequent reissue, treasury stock is reduced by the cost of such stock based on an average cost method with any excess proceeds credited to additional paid-in capital.
Share-Based Compensation
Stock compensation accounting guidance requires that the compensation cost relating to share-based payment transactions be recognized in financial statements. That cost is measured based on the grant date fair value of the equity or liability instruments issued. The stock compensation accounting guidance covers a wide range of share-based compensation arrangements including stock option and restricted share plans.
The stock compensation accounting guidance requires that compensation cost for all stock awards be calculated and recognized over the employees’ service period, generally defined as the vesting period. For awards with graded-vesting, compensation cost is recognized on a straight-line basis over the requisite service period for the entire award. A Black-Scholes model is used to estimate the fair value of stock options, while the closing price of the Company’s common stock on the grant date is used for restricted stock awards.
At December 31, 2019, the Company has outstanding equity awards under two share-based plans: the 2013 Stock Incentive Plan and the 2018 Stock Incentive Plan. Awards under these plans were made in May 2013 and 2018. These plans are more fully described in Note 14.
The Company also has an employee stock ownership plan (“ESOP”). This plan is more fully described in Note 14. As ESOP shares are committed to be released and allocated among participants, the Company recognizes compensation expense equal to the average market price of the shares over the period earned.
Notes to Consolidated Financial Statements (Continued)
Note 2 - Summary of Significant Accounting Policies (Continued)
Earnings Per Share
Amounts reported in earnings per share reflect earnings available to common stockholders for the period divided by the weighted average number of shares of common stock outstanding during the period, exclusive of unearned ESOP shares, unvested restricted stock (RRP) shares and treasury shares. Stock options and unvested restricted stock are regarded as potential common stock and are considered in the diluted earnings per share calculations to the extent they would have a dilutive effect if converted to common stock, computed using the “treasury stock” method.
Revenue from Contracts with Customers
The Company records revenue from contracts with customers in accordance with Accounting Standards Codification Topic 606, “Revenue from Contracts with Customers” (“Topic 606”). Under Topic 606, the Company must identify the contract with a customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and recognize revenue when (or as) the Company satisfies a performance obligation. In certain circumstances, noninterest income is reported net of associated expenses.
The Company’s primary sources of revenue are derived from interest and dividends earned on loans and investment securities, mortgage banking revenue, including gains on the sale of mortgage loans, income from bank-owned life insurance, and other financial instruments that are not within the scope of Topic 606. The main types of non-interest income within the scope of the standard are as follows:
Service Charges on Deposits: The Bank has contracts with its commercial checking deposit customers where fees are charged if the account balance falls below predetermined levels defined as compensating balances. These agreements can be cancelled at any time by either the Bank or the deposit customer. Revenue from these transactions is recognized on a monthly basis as the Bank has an unconditional right to the fee consideration. The Bank also has transaction fees related to specific transactions or activities resulting from customer request or activity that include overdraft fees, wire fees, and other transaction fees. All of these fees are attributable to specific performance obligations of the Bank where the revenue is recognized at a defined point in time, completion of the requested service/transaction.
Abstract Title Fees: The Bank provides abstract title services through its wholly owned subsidiary, Quaint Oak Abstract, LLC. Fees for these services are recognized as revenue immediately after the completion of the real estate settlement.
Real Estate Sales Commissions, Net: The Bank provides real estate sales services through its wholly owned subsidiary, Quaint Oak Real Estate, LLC. Commission income is earned for these services and recognized as revenue immediately after the completion of the real estate settlement.
Insurance Commissions: Insurance income generally consist of commissions from the sale of insurance policies and performance-based commissions from insurance companies. The Bank recognizes commission income from the sale of insurance policies when its wholly owned subsidiary, Quaint Oak Insurance Agency, LLC, acts as an agent between the insurance carrier and policyholder, arranging for the insurance carrier to provide policies to policyholders, and acts on behalf of the insurance carrier by providing customer service to the policyholder during the policy period. Commission income is recognized over time, using the output method of time elapsed, which corresponds with the underlying insurance policy period, for which the Bank is obligated to perform under contract with the insurance carrier. Commission income is variable, as it is comprised of a certain percentage of the underlying policy premium. The Bank estimates the variable consideration based upon the “most likely amount” method, and does not expect or anticipate a significant reversal of revenue in future periods, based upon historical experience. Payment is due from the insurance carrier for commission income once the insurance policy has been sold. The Bank has elected to apply a practical expedient related to capitalizable costs, which are the commissions paid to insurance producers, and will expense these commissions paid to insurance producers as incurred, as these costs are related to the commission income and would have been amortized within one year or less if they had been capitalized, the same period over which the commission income was earned. Performance-based commissions from insurance companies are recognized at a point in time, when received, and no contingencies remain.
Notes to Consolidated Financial Statements (Continued)
Note 2 - Summary of Significant Accounting Policies (Continued)
Revenue from Contracts with Customers (Continued)
Off-Balance Sheet Financial Instruments
In the ordinary course of business, the Bank has entered into off-balance sheet financial instruments consisting of commitments to extend credit. Such financial instruments are recorded in the consolidated balance sheet when they are funded.
Reclassifications
Certain items in the 2018 consolidated financial statements have been reclassified to conform to the presentation in the 2019 consolidated financial statements. Such reclassifications did not have a material impact on the overall consolidated financial statements.
Recently Adopted Accounting Pronouncements
In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). The standard requires lessees to recognize the assets and liabilities that arise from leases on the balance sheet. A lessee should recognize in the statement of financial position a liability to make lease payments (the lease liability) and a right-of-use asset representing its right to use the underlying asset for the lease term. A short-term lease is defined as one in which (a) the lease term is 12 months or less and (b) there is not an option to purchase the underlying asset that the lessee is reasonably certain to exercise. For short-term leases, lessees may elect to recognize lease payments over the lease term on a straight-line basis. For public business entities, the amendments in this Update are effective for fiscal years beginning after December 15, 2018, and interim periods within those years. The amendments should be applied at the beginning of the earliest period presented using a modified retrospective approach with earlier application permitted as of the beginning of an interim or annual reporting period. The Company adopted this standard Effective January 1, 2019 which resulted in the recording of a right of use (“ROU”) asset and associated lease liability of approximately $1.4 million. The ROU asset is included in other assets and the lease liability is included in other liabilities in the December 31, 2019 consolidated balance sheet.
Recent Accounting Pronouncements Not Yet Adopted
In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses: Measurement of Credit Losses on Financial Instruments, which changes the impairment model for most financial assets. This Update is intended to improve financial reporting by requiring timelier recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. The underlying premise of the Update is that financial assets measured at amortized cost should be presented at the net amount expected to be collected, through an allowance for credit losses that is deducted from the amortized cost basis. The allowance for credit losses should reflect management’s current estimate of credit losses that are expected to occur over the remaining life of a financial asset. The income statement will be effected for the measurement of credit losses for newly recognized financial assets, as well as the expected increases or decreases of expected credit losses that have taken place during the period. ASU 2016-13 is effective for annual and interim periods beginning after December 15, 2019, and early adoption is permitted for annual and interim periods beginning after December 15, 2018. With certain exceptions, transition to the new requirements will be through a cumulative effect adjustment to opening retained earnings as of the beginning of the first reporting period in which the guidance is adopted.
Notes to Consolidated Financial Statements (Continued)
Note 2 - Summary of Significant Accounting Policies (Continued)
Recent Accounting Pronouncements Not Yet Adopted (Continued)
In November 2019, the FASB issued ASU 2019-10, Financial Instruments – Credit Losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842). This Update defers the effective date of ASU 2016-13 for SEC filers that are eligible to be smaller reporting companies, non-SEC filers, and all other companies to fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. We expect to recognize a one-time cumulative effect adjustment to the allowance for loan losses as of the beginning of the first reporting period in which the new standard is effective, but cannot yet determine the magnitude of any such one-time adjustment or the overall impact of the new guidance on the consolidated financial statements.
In January 2017, the FASB issued ASU 2017-04, Simplifying the Test for Goodwill Impairment. To simplify the subsequent measurement of goodwill, the FASB eliminated Step 2 from the goodwill impairment test. In computing the implied fair value of goodwill under Step 2, an entity had to perform procedures to determine the fair value at the impairment testing date of its assets and liabilities (including unrecognized assets and liabilities) following the procedure that would be required in determining the fair value of assets acquired and liabilities assumed in a business combination. Instead, under the amendments in this Update, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. A public business entity that is a U.S. Securities and Exchange Commission (“SEC”) filer should adopt the amendments in this Update for its annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019. In November 2019, the FASB issued ASU 2019-10, Financial Instruments – Credit Losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842), which deferred the effective date for ASC 350, Intangibles – Goodwill and Other, for smaller reporting companies to fiscal years beginning after December 15, 2022, and interim periods within those fiscal years. This update is not expected to have a significant impact on the Company’s financial statements.
In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes the Disclosure Requirements for Fair Value Measurements. The Update removes the requirement to disclose the amount of and reasons for transfers between Level I and Level II of the fair value hierarchy; the policy for timing of transfers between levels; and the valuation processes for Level III fair value measurements. The Update requires disclosure of changes in unrealized gains and losses for the period included in other comprehensive income (loss) for recurring Level III fair value measurements held at the end of the reporting period and the range and weighted average of significant unobservable inputs used to develop Level III fair value measurements. This Update is effective for all entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. This Update is not expected to have a significant impact on the Company’s financial statements.
In May 2019, the FASB issued ASU 2019-05,
Financial Instruments – Credit Losses, Topic 326, which allows entities to irrevocably elect the fair value option for certain financial assets previously measured at amortized cost upon adoption of the new credit losses standard. To be eligible for the transition election, the existing financial asset must otherwise be both within the scope of the new credit losses standard and eligible for the applying the fair value option in ASC 825-10.3. The election must be applied on an instrument-by-instrument basis and is not available for either available-for-sale or held-to-maturity debt securities. For entities that elect the fair value option, the difference between the carrying amount and the fair value of the financial asset would be recognized through a cumulative-effect adjustment to opening retained earnings as of the date an entity adopted ASU 2016-13. Changes in fair value of that financial asset would subsequently be reported in current earnings. For entities that have not yet adopted ASU 2016-13, the effective dates and transition requirements are the same as those in ASU 2016-13. For entities that have adopted ASU 2016-13, ASU 2019-05 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted once ASU 2016-13 has been adopted. In November, 2019, the FASB issued ASU 2019-10,
Financial Instruments – Credit Losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842), which deferred the effective date for ASC 944
, Financial Services – Insurance, for public business entities that are SEC filers, except for smaller reporting companies, to fiscal years beginning after December 15, 2021, and interim periods within those fiscal years and for all other entities, including smaller reporting companies, to fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024. This Update is not expected to have a significant impact on the Company’s financial statements.
Notes to Consolidated Financial Statements (Continued)
Note 2 - Summary of Significant Accounting Policies (Continued)
Recent Accounting Pronouncements Not Yet Adopted (Continued)
In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740), to simplify the accounting for income taxes, change the accounting for certain tax transactions, and make minor improvements to the codification. This Update provides a policy election to not allocate consolidated income taxes when a member of a consolidated tax return is not subject to income tax and provides guidance to evaluate whether a step-up in tax basis of goodwill relates to a business combination in which book goodwill was recognized or a separate transaction. The Update also changes current guidance for making an intraperiod allocation, if there is a loss in continuing operations and gains outside of continuing operations; determining when a deferred tax liability is recognized after an investor in a foreign entity transitions to or from the equity method of accounting; accounting for tax law changes and year-to-date losses in interim periods; and determining how to apply the income tax guidance to franchise taxes that are partially based on income. For public business entities, the amendments in this Update are effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2020. For all other entities, the amendments are effective for fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. This Update is not expected to have a significant impact on the Company’s financial statements.
Note 3 – Earnings Per Share
Earnings per share (“EPS”) consists of two separate components, basic EPS and diluted EPS. Basic EPS is computed based on the weighted average number of shares of common stock outstanding for each period presented. Diluted EPS is calculated based on the weighted average number of shares of common stock outstanding plus dilutive common stock equivalents (“CSEs”). CSEs consist of shares that are assumed to have been purchased with the proceeds from the exercise of stock options, as well as unvested restricted stock (RRP) shares. Common stock equivalents which are considered antidilutive are not included for the purposes of this calculation. For the years ended December 31, 2019 and 2018, all unvested restricted stock program awards and outstanding stock options representing shares were dilutive.
Notes to Consolidated Financial Statements (Continued)
Note 3 – Earnings Per Share (Continued)
The following table sets forth the composition of the weighted average shares (denominator) used in the basic and dilutive earnings per share computations.
| | | For the Year Ended December 31, | |
| | | | | | | |
| Net Income | | $ | 2,477,000 | | | $ | 2,004,000 | |
| | | | | | | | | |
| Weighted average shares outstanding – basic | | | 1,956,612 | | | | 1,923,491 | |
| Effect of dilutive common stock equivalents | | | 48,826 | | | | 59,507 | |
| Adjusted weighted average shares outstanding – diluted | | | 2,005,438 | | | | 1,982,998 | |
| | | | | | | | | |
| Basic earnings per share | | $ | 1.27 | | | $ | 1.04 | |
| Diluted earnings per share | | $ | 1.24 | | | $ | 1.01 | |
Note 4 – Accumulated Other Comprehensive Income (Loss)
The following table presents the changes in accumulated other comprehensive income (loss) by component, net of tax, for the years ended December 31, 2019 and 2018 (in thousands):
| | | Unrealized Losses on Investment Securities Available for Sale (1) | |
| | | | | | | |
| Balance beginning of the year | | $ | (2 | ) | | $ | (15 | ) |
| | |
| Other comprehensive income before reclassifications | | | 19 | | | | 13 | |
| Amount reclassified from accumulated other comprehensive income (loss) | | | 3 | | | | -- | |
| Total other comprehensive income | | | 22 | | | | 13 | |
| | | | | | | | | |
| | $
| 20
| | | $
| (2
| )
|
________________________
(1) All amounts are net of tax. Amounts in parentheses indicate debits.
The following table presents significant amounts reclassified out of each component of accumulated other comprehensive loss for the years ended December 31, 2019 and 2018 (in thousands):
Details About Other Comprehensive Income | |
Amount Reclassified from Accumulated Other Comprehensive Income (Loss) (1) | |
Affected Line Item in the Statement of Income |
| | | For the Year Ended December 31, | | |
| | | | | | | | |
| Unrealized losses on investment securities available for sale | | $ | (4 | ) | | $ | -- | | Loss on sales of investment securities |
| | | | 1 | | | | -- | | Income taxes |
| | | $ | (3 | ) | | $ | -- | | |
___________________
| (1) | Amounts in parentheses indicate debits. |
Notes to Consolidated Financial Statements (Continued)
Note 5 – Investment in Interest-Earning Time Deposits
The investment in interest-earning time deposits as of December 31, 2019 and 2018, by contractual maturity, is shown below (in thousands):
| | | | | | | |
Due in one year or less | | $ | 2,026 | | | $ | 1,604 | |
Due after one year through five years | | | 8,146 | | | | 3,323 | |
| Total | | $ | 10,172 | | | $ | 4,927 | |
Note 6 – Investment Securities Available for Sale
The amortized cost, gross unrealized gains and losses, and fair value of investment securities available for sale at December 31, 2019 and 2018 are summarized below (in thousands):
| | | December 31, 2019 | |
| | | | | | | | | | | | | |
| Available for Sale: | | | | | | | | | | | | |
| Mortgage-backed securities: | | | | | | | | | | | | |
| Governmental National Mortgage Association securities | | $ | 5,841 | | | $ | 13 | | | $ | (1 | ) | | $ | 5,853 | |
| Federal National Mortgage Association securities | | | 258 | | | | 2 | | | | -- | | | | 260 | |
| Total mortgage-backed securities | | | 6,099 | | | | 15 | | | | (1 | ) | | | 6,113 | |
| Debt securities: | | | | | | | | | | | | | | | | |
| Corporate notes | | | 1,500 | | | | 10 | | | | -- | | | | 1,510 | |
| Total available-for-sale-securities | | $ | 7,599 | | | $ | 25 | | | $ | (1 | ) | | $ | 7,623 | |
| | | December 31, 2018 | |
| | | | | | | | | | | | | |
| Available for Sale: | | | | | | | | | | | | |
| Mortgage-backed securities: | | | | | | | | | | | | |
| Governmental National Mortgage Association securities | | $ | 4,844 | | | $ | 29 | | | $ | -- | | | $ | 4,873 | |
| Federal Home Loan Mortgage Corporation securities | | | 1,111 | | | | -- | | | | (29 | ) | | | 1,082 | |
| Federal National Mortgage Association securities | | | 367 | | | | -- | | | | -- | | | | 367 | |
| Total mortgage-backed securities | | | 6,322 | | | | 29 | | | | (29 | ) | | | 6,322 | |
| Debt securities: | | | | | | | | | | | | | | | | |
| U.S. government agency | | | 360 | | | | -- | | | | (2 | ) | | | 358 | |
| Total available-for-sale-securities | | $ | 6,682 | | | $ | 29 | | | $ | (31 | ) | | $ | 6,680 | |
The amortized cost and fair value of mortgage-backed and debt securities at December 31, 2019, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties (in thousands):
| | | | |
| | | | | | | |
Due after five through ten years | | $ | 1,500 | | | $ | 1,510 | |
Due after ten years | | | 6,099 | | | | 6,113 | |
| Total | | $ | 7,599 | | | $ | 7,623 | |
Notes to Consolidated Financial Statements (Continued)
Note 6 – Investment Securities Available for Sale (Continued)
The following tables show the Company’s gross unrealized losses and fair value, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position at December 31, 2019 and 2018 (in thousands):
| | | |
| | | | | | | | | | | | | |
| | Number of
Securities
| | | | | | | | | | | | | | | | | | | |
| Government National Mortgage Association securities | | | 4 | | | $ | 2,295 | | | $ | (1 | ) | | | -- | | | | -- | | | $ | 2,295 | | | $ | (1 | ) |
| | | | |
| | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | |
Federal Home Loan Mortgage Corporation mortgage- backed securities | | | 2 | | | | -- | | | | -- | | | $ | 1,082 | | | $ | (29 | ) | | $ | 1,082 | | | $ | (29 | ) |
| Debt securities, U.S. government agency | | | 1 | | | | -- | | | | -- | | | | 358 | | | | (2 | ) | | | 358 | | | | (2 | ) |
| Total | | | 3 | | | $ | -- | | | $ | -- | | | $ | 1,440 | | | $ | (31 | ) | | $ | 1,440 | | | $ | (31 | ) |
At December 31, 2019, there were four securities in an unrealized loss position that at such date had an aggregate depreciation of 0.05% from the Company’s amortized cost basis. Management believes that the estimated fair value of the securities disclosed above is primarily dependent on the movement of market interest rates. Management evaluated the length of time and the extent to which the fair value has been less than cost and the financial condition and near term prospects of the issuer, including any specific events which may influence the operations of the issuer. The Company has the ability and intent to hold the securities until the anticipated recovery of fair value occurs. Management does not believe any individual unrealized loss as of December 31, 2019 represents an other-than-temporary impairment. There were no impairment charges recognized during the year ended December 31, 2019 or 2018.
Notes to Consolidated Financial Statements (Continued)
Note 7 - Loans Receivable, Net and Allowance for Loan Losses
The composition of net loans receivable is as follows (in thousands):
| | | | | | | |
| Real estate loans: | | | | | | |
| One-to-four family residential: | | | | | | |
| Owner occupied | | $ | 6,298 | | | $ | 6,603 | |
| Non-owner occupied | | | 39,897 | | | | 47,361 | |
| Total one-to-four family residential | | | 46,195 | | | | 53,964 | |
| Multi-family (five or more) residential | | | 22,233 | | | | 23,967 | |
| Commercial real estate | | | 119,323 | | | | 103,819 | |
| Construction | | | 12,523 | | | | 9,998 | |
| Home equity | | | 3,726 | | | | 4,347 | |
| Total real estate loans | | | 204,000 | | | | 196,095 | |
| | | | | | | | | |
| Commercial business | | | 45,745 | | | | 23,616 | |
| Other consumer | | | 22 | | | | 19 | |
| Total Loans | | | 249,767 | | | | 219,730 | |
| | | | | | | | | |
| Deferred loan fees and costs | | | (844 | ) | | | (867 | ) |
| Allowance for loan losses | | | (2,231 | ) | | | (1,965 | ) |
| Net Loans | | $ | 246,692 | | | $ | 216,898 | |
The following tables present the classes of the loan portfolio summarized by the aggregate pass rating and the classified ratings of special mention, substandard and doubtful within the Company’s internal risk rating system as of December 31, 2019 and 2018 (in thousands):
| | | December 31, 2019 | |
| | | | | | | | | | | | | | | | |
| One-to-four family residential owner occupied | | $ | 6,126 | | | $ | -- | | | $ | 172 | | | $ | -- | | | $ | 6,298 | |
| One-to-four family residential non-owner occupied | | | 39,579 | | | | -- | | | | 318 | | | | -- | | | | 39,897 | |
| Multi-family residential | | | 22,233 | | | | -- | | | | -- | | | | -- | | | | 22,233 | |
| Commercial real estate | | | 118,233 | | | | 798 | | | | 292 | | | | -- | | | | 119,323 | |
| Construction | | | 12,523 | | | | -- | | | | -- | | | | -- | | | | 12,523 | |
| Home equity | | | 3,726 | | | | -- | | | | -- | | | | -- | | | | 3,726 | |
| Commercial business | | | 45,745 | | | | -- | | | | -- | | | | -- | | | | 45,745 | |
| Other consumer | | | 22 | | | | -- | | | | -- | | | | -- | | | | 22 | |
| Total | | $ | 248,187 | | | $ | 798 | | | $ | 782 | | | $ | -- | | | $ | 249,767 | |
Notes to Consolidated Financial Statements (Continued)
Note 7 - Loans Receivable, Net and Allowance for Loan Losses (Continued)
| | | December 31, 2018 | |
| | | | | | | | | | | | | | | | |
| One-to-four family residential owner occupied | | $ | 6,421 | | | $ | -- | | | $ | 182 | | | $ | -- | | | $ | 6,603 | |
| One-to-four family residential non-owner occupied | | | 46,534 | | | | -- | | | | 827 | | | | -- | | | | 47,361 | |
| Multi-family residential | | | 23,967 | | | | -- | | | | -- | | | | -- | | | | 23,967 | |
| Commercial real estate | | | 101,821 | | | | -- | | | | 1,998 | | | | -- | | | | 103,819 | |
| Construction | | | 9,998 | | | | -- | | | | -- | | | | -- | | | | 9,998 | |
| Home equity | | | 4,347 | | | | -- | | | | -- | | | | -- | | | | 4,347 | |
| Commercial business | | | 23,149 | | | | -- | | | | 467 | | | | -- | | | | 23,616 | |
| Other consumer | | | 19 | | | | -- | | | | -- | | | | -- | | | | 19 | |
| Total | | $ | 216,256 | | | $ | -- | | | $ | 3,474 | | | $ | -- | | | $ | 219,730 | |
The following table presents impaired loans by class, segregated by those for which a specific allowance was required and those for which a specific allowance was not necessary as of December 31, 2019 as well as the average recorded investment and related interest income for the year then ended (in thousands):
| | | December 31, 2019 | |
| | | | | | | | | | | | Average Recorded Investment | | | Interest Income Recognized | |
With no related allowance recorded:
| | | | | | | | | | | | | | | | | | | | |
| One-to-four family residential owner occupied | | $ | 172 | | | $ | 178 | | | $ | -- | | | $ | 178 | | | $ | -- | |
| One-to-four family residential non-owner occupied | | | 19 | | | | 19 | | | | -- | | | | 225 | | | | 13 | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial real estate | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Construction | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Home equity | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial business | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| | | | | | | | | | | | | | | | | | | | | |
| With an allowance recorded: | | | | | | | | | | | | | | | | | | | | |
| One-to-four family residential owner occupied | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | |
| One-to-four family residential non-owner occupied | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial real estate | | | 132 | | | | 132 | | | | 4 | | | | 133 | | | | 12 | |
| Construction | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Home equity | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial business | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| | | | | | | | | | | | | | | | | | | | | |
| Total: | | | | | | | | | | | | | | | | | | | | |
| One-to-four family residential owner occupied | | $ | 172 | | | | 178 | | | $ | -- | | | $ | 178 | | | $ | -- | |
| One-to-four family residential non-owner occupied | | | 19 | | | | 19 | | | | -- | | | | 225 | | | | 13 | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial real estate | | | 132 | | | | 132 | | | | 4 | | | | 133 | | | | 12 | |
| Construction | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Home equity | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial business | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Total | | $ | 323 | | | $ | 329 | | | $ | 4 | | | $ | 536 | | | $ | 25 | |
Notes to Consolidated Financial Statements (Continued)
Note 7 - Loans Receivable, Net and Allowance for Loan Losses (Continued)
The following table presents impaired loans by class, segregated by those for which a specific allowance was required and those for which a specific allowance was not necessary as of December 31, 2018 as well as the average recorded investment and related interest income for the year then ended (in thousands):
| | | December 31, 2018 | |
| | | | | | | | | | | | Average Recorded Investment | | | | |
With no related allowance recorded:
| | | | | | | | | | | | | | | | | | | | |
| One-to-four family residential owner occupied | | $ | 182 | | | $ | 185 | | | $ | -- | | | $ | 417 | | | $ | 23 | |
| One-to-four family residential non-owner occupied | | | 265 | | | | 265 | | | | -- | | | | 324 | | | | 17 | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial real estate | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Construction | | | -- | | | | -- | | | | -- | | | | 2,050 | | | | 37 | |
| Home equity | | | -- | | | | -- | | | | -- | | | | 44 | | | | 2 | |
| Commercial business | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| | | | | | | | | | | | | | | | | | | | | |
| With an allowance recorded: | | | | | | | | | | | | | | | | | | | | |
| One-to-four family residential owner occupied | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | |
| One-to-four family residential non-owner occupied | | | 68 | | | | 68 | | | | 50 | | | | 162 | | | | 4 | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial real estate | | | 133 | | | | 133 | | | | 5 | | | | 133 | | | | 10 | |
| Construction | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Home equity | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial business | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| | | | | | | | | | | | | | | | | | | | | |
| Total: | | | | | | | | | | | | | | | | | | | | |
| One-to-four family residential owner occupied | | $ | 182 | | | | 185 | | | $ | -- | | | $ | 417 | | | $ | 23 | |
| One-to-four family residential non-owner occupied | | | 333 | | | | 333 | | | | 50 | | | | 486 | | | | 21 | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial real estate | | | 133 | | | | 133 | | | | 5 | | | | 133 | | | | 10 | |
| Construction | | | -- | | | | -- | | | | -- | | | | 2,050 | | | | 37 | |
| Home equity | | | -- | | | | -- | | | | -- | | | | 44 | | | | 2 | |
| Commercial business | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Total | | $ | 648 | | | $ | 651 | | | $ | 55 | | | $ | 3,130 | | | $ | 93 | |
The loan portfolio also includes certain loans that have been modified in a troubled debt restructuring, where economic concessions have been granted to borrowers who have experienced or are expected to experience financial difficulties. These concessions typically result from loss mitigation activities and could include reductions in the interest rate, payment extensions, forbearance, or other actions. At December 31, 2019, the Company had two loans totaling $151,000 that were identified as troubled debt restructurings. One of these loans was performing in accordance with its modified terms and one was 31 days delinquent as of December 31, 2019. During the year ended December 31, 2019, no new loans were identified as TDRs. At December 31, 2018, the Company had two loans totaling $398,000 that were identified as troubled debt restructurings. Both of these loans were performing in accordance with their modified terms. If a TDR is placed on non-accrual it is not reverted back to accruing status until the borrower makes timely payments as contracted for at least six months and future collection under the revised terms is probable.
Notes to Consolidated Financial Statements (Continued)
Note 7 - Loans Receivable, Net and Allowance for Loan Losses (Continued)
The following tables present the Company’s TDR loans as of December 31, 2019 and 2018 (dollar amounts in thousands):
| | | December 31, 2019 | |
| | | | | | | | | | | | | | | | |
| One-to-four family residential owner occupied | | | -- | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | |
| One-to-four family residential non-owner occupied | | | 1 | | | | 19 | | | | -- | | | | 19 | | | | -- | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial real estate | | | 1 | | | | 132 | | | | -- | | | | 132 | | | | 4 | |
| Construction | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Home equity | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial business | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Total | | | 2 | | | $ | 151 | | | $ | -- | | | $ | 151 | | | $ | 4 | |
| | | | |
| | | | | | | | | | | | | | | | |
| One-to-four family residential owner occupied | | | -- | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | |
| One-to-four family residential non-owner occupied | | | 1 | | | | 265 | | | | -- | | | | 265 | | | | -- | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial real estate | | | 1 | | | | 133 | | | | -- | | | | 133 | | | | 5 | |
| Construction | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Home equity | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial business | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Total | | | 2 | | | $ | 398 | | | $ | -- | | | $ | 398 | | | $ | 5 | |
The contractual aging of the TDRs in the tables above as of December 31, 2019 and 2018 is as follows (in thousands):
| | | | |
| | | Accruing Past Due Less than 30 Days | | | | | | Greater | | | | | | | |
| One-to-four family residential owner occupied | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | |
| One-to-four family residential non-owner occupied | | | -- | | | | 19 | | | | -- | | | | -- | | | | 19 | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial real estate | | | 132 | | | | -- | | | | -- | | | | -- | | | | 132 | |
| Construction | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Home equity | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial business | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Total | | $ | 132 | | | $ | 19 | | | $ | -- | | | $ | -- | | | $ | 151 | |
Notes to Consolidated Financial Statements (Continued)
Note 7 - Loans Receivable, Net and Allowance for Loan Losses (Continued)
| | | | |
| | | Accruing Past Due Less than 30 Days | | | | | | Greater | | | | | | | |
| One-to-four family residential owner occupied | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | |
| One-to-four family residential non-owner occupied | | | 265 | | | | -- | | | | -- | | | | -- | | | | 265 | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial real estate | | | 133 | | | | -- | | | | -- | | | | -- | | | | 133 | |
| Construction | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Home equity | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Commercial business | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Total | | $ | 398 | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | 398 | |
Any reserve for an impaired TDR loan is based upon the present value of the future expected cash flows discounted at the loan’s original effective rate or upon the fair value of the collateral less costs to sell, if the loan is deemed collateral dependent. At December 31, 2019 there were no commitments to lend additional funds to debtors whose loan terms have been modified as TDRs.
The general practice of the Bank is to work with borrowers so that they are able to pay back their loan in full. If a borrower continues to be delinquent or cannot meet the terms of a TDR modification and the loan is determined to be uncollectible, the loan will be charged off.
Following is a summary, by loan portfolio class, of changes in the allowance for loan losses for the year ended December 31, 2019 and recorded investment in loans receivable based on impairment evaluation as of December 31, 2019 (in thousands):
| | | | |
| | | 1-4 Family Residential Owner Occupied | | | 1-4 Family Residential Non- Owner Occupied | | | Multi- Family | | | | | | | | | | | | Commercial Business and Other Consumer | | | | | | | |
| Allowance for loan losses: | |
| Beginning balance | | $ | 51 | | | $ | 435 | | | $ | 156 | | | $ | 839 | | | $ | 175 | | | $ | 21 | | | $ | 247 | | | $ | 41 | | | $ | 1,965 | |
| Charge-offs | | | -- | | | | (37 | ) | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | | | | (37 | ) |
| Recoveries | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Provision | | | 1 | | | | (47 | ) | | | (11 | ) | | | 15 | | | | 75 | | | | (2 | ) | | | 253 | | | | 19 | | | | 303 | |
| Ending balance | | $ | 52 | | | $ | 351 | | | $ | 145 | | | $ | 854 | | | $ | 250 | | | $ | 19 | | | $ | 500 | | | $ | 60 | | | $ | 2,231 | |
Ending balance evaluated for impairment:
| |
| Individually | | $ | -- | | | $ | -- | | | $ | -- | | | $ | 4 | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | 4 | |
| Collectively | | $ | 52 | | | $ | 351 | | | $ | 145 | | | $ | 850 | | | $ | 250 | | | $ | 19 | | | | 500 | | | $ | 60 | | | $ | 2,227 | |
Loans receivable: | | | | | | | |
| Ending balance | | $ | 6,298 | | | $ | 39,897 | | | $ | 22,233 | | | $ | 119,323 | | | $ | 12,523 | | | $ | 3,726 | | | $ | 45,767 | | | | | | | $ | 249,767 | |
Ending balance evaluated for impairment:
| |
| Individually | | $ | 172 | | | $ | 19 | | | $ | -- | | | $ | 132 | | | $ | -- | | | $ | -- | | | $ | -- | | | | | | | $ | 323 | |
| Collectively | | $ | 6,126 | | | $ | 39,878 | | | $ | 22,233 | | | $ | 119,191 | | | $ | 12,523 | | | $ | 3,726 | | | $ | 45,767 | | | | | | | $ | 249,444 | |
Notes to Consolidated Financial Statements (Continued)
Note 7 - Loans Receivable, Net and Allowance for Loan Losses (Continued)
The Bank allocated increased allowance for loan loss provisions to the commercial business loan portfolio class, the construction loan portfolio class, and the commercial real estate loan portfolio class for the year ended December 31, 2019, due primarily to increased balances in these portfolio classes. The Bank allocated decreased allowance for loan loss provisions to the 1-4 family non-owner occupied loan portfolio class for the year ended December 31, 2019, due primarily to a decrease in balances in this portfolio class.
Following is a summary, by loan portfolio class, of changes in the allowance for loan losses for the year ended December 31, 2018 and recorded investment in loans receivable based on impairment evaluation as of December 31, 2018 (in thousands):
| | | | |
| | | 1-4 Family Residential Owner Occupied | | | 1-4 Family Residential Non- Owner Occupied | | | Multi- Family | | | | | | | | | | | | Commercial Business and Other Consumer | | | | | | | |
| Allowance for loan losses: | |
| Beginning balance | | $ | 48 | | | $ | 540 | | | $ | 152 | | | $ | 687 | | | $ | 136 | | | $ | 27 | | | $ | 140 | | | $ | 82 | | | $ | 1,812 | |
| Charge-offs | | | -- | | | | (47 | ) | | | -- | | | | -- | | | | (215 | ) | | | -- | | | | -- | | | | -- | | | | (262 | ) |
| Recoveries | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | | | | -- | |
| Provision | | | 3 | | | | (58 | ) | | | 4 | | | | 152 | | | | 254 | | | | (6 | ) | | | 107 | | | | (41 | ) | | | 415 | |
| Ending balance | | $ | 51 | | | $ | 435 | | | $ | 156 | | | $ | 839 | | | $ | 175 | | | $ | 21 | | | $ | 247 | | | $ | 41 | | | $ | 1,965 | |
Ending balance evaluated for impairment:
| |
| Individually | | $ | -- | | | $ | 50 | | | $ | -- | | | $ | 5 | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | -- | | | $ | 55 | |
| Collectively | | $ | 51 | | | $ | 385 | | | $ | 156 | | | $ | 834 | | | $ | 175 | | | $ | 21 | | | | 247 | | | $ | 41 | | | $ | 1,910 | |
Loans receivable:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Ending balance | | $ | 6,603 | | | $ | 47,361 | | | $ | 23,967 | | | $ | 103,819 | | | $ | 9,998 | | | $ | 4,347 | | | $ | 23,635 | | | | | | | $ | 219,730 | |
Ending balance evaluated for impairment:
| |
| Individually | | $ | 182 | | | $ | 333 | | | $ | -- | | | $ | 133 | | | $ | -- | | | $ | -- | | | $ | -- | | | | | | | $ | 648 | |
| Collectively | | $ | 6,421 | | | $ | 47,028 | | | $ | 23,967 | | | $ | 103,686 | | | $ | 9,998 | | | $ | 4,347 | | | $ | 23,635 | | | | | | | $ | 219,082 | |
The Bank allocated increased allowance for loan loss provisions to the construction loan portfolio class for the year ended December 31, 2018, due primarily to charge-offs in this portfolio class. The Bank allocated increased allowance for loan loss provisions to the commercial real estate portfolio class for the year ended December 31, 2018, due primarily to increased balances and delinquencies in this portfolio class. The Bank allocated increased allowance for loan loss provisions to the commercial business portfolio class for the year ended December 31, 2018, due primarily to increased balances in this portfolio class. The Bank allocated decreased allowance for loan loss provisions to the 1-4 family non-owner occupied loan portfolio class for the year ended December 31, 2018, due primarily to a decrease in balances and changes in qualitative factors in this portfolio class.
Notes to Consolidated Financial Statements (Continued)
Note 7 - Loans Receivable, Net and Allowance for Loan Losses (Continued)
The following table presents non-accrual loans by classes of the loan portfolio as of December 31, 2019 and 2018 (in thousands):
| | | | | | | |
| One-to-four family residential owner occupied | | $ | 172 | | | $ | 182 | |
| One-to-four family residential non-owner occupied | | | -- | | | | 68 | |
| Multi-family residential | | | -- | | | | -- | |
| Commercial real estate | | | -- | | | | -- | |
| Construction | | | -- | | | | -- | |
| Home equity | | | -- | | | | -- | |
| Commercial business | | | -- | | | | -- | |
| Other consumer | | | -- | | | | -- | |
| Total | | $ | 172 | | | $ | 250 | |
Non-performing loans, which consist of non-accruing loans plus accruing loans 90 days or more past due, amounted to $362,000 and $1.2 million at December 31, 2019 and 2018, respectively. For the delinquent loans in our portfolio, we have considered our ability to collect the past due interest, as well as the principal balance of the loan, in order to determine whether specific loans should be placed on non-accrual status. In cases where our evaluations have determined that the principal and interest balances are collectible, we have continued to accrue interest.
For the years ended December 31, 2019 and 2018 there was no interest income recognized on non-accrual loans on a cash basis. Interest income foregone on non-accrual loans was approximately $10,000 and $16,000 for the years ended December 31, 2019 and 2018, respectively.
The performance and credit quality of the loan portfolio are also monitored by analyzing the age of the loans receivable as determined by the length of time a recorded payment is past due. The following tables present the classes of the loan portfolio summarized by the past due status as of December 31, 2019 and 2018 (in thousands):
| | | | |
| | | | | | | | | | | | | | | | | | Loans Receivable >
90 Days and Accruing | |
| | | | |
| One-to-four family residential owner occupied | | $ | 1,199 | | | $ | 172 | | | $ | 1,371 | | | $ | 4,927 | | | $ | 6,298 | | | $ | -- | |
| One-to-four family residential non-owner occupied | | | 1,069 | | | | -- | | | | 1,069 | | | | 38,828 | | | | 39,897 | | | | -- | |
| Multi-family residential | | | -- | | | | -- | | | | -- | | | | 22,233 | | | | 22,233 | | | | -- | |
| Commercial real estate | | | 986 | | | | 190 | | | | 1,176 | | | | 118,147 | | | | 119,323 | | | | 190 | |
| Construction | | | 1,120 | | | | -- | | | | 1,120 | | | | 11,403 | | | | 12,523 | | | | -- | |
| Home equity | | | -- | | | | -- | | | | -- | | | | 3,726 | | | | 3,726 | | | | -- | |
| Commercial business | | | 66 | | | | -- | | | | 66 | | | | 45,679 | | | | 45,745 | | | | -- | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | 22 | | | | 22 | | | | -- | |
| Total | | $ | 4,440 | | | $ | 362 | | | $ | 4,802 | | | $ | 244,965 | | | $ | 249,767 | | | $ | 190 | |
Notes to Consolidated Financial Statements (Continued)
Note 7 - Loans Receivable, Net and Allowance for Loan Losses (Continued)
| | | | |
| | | | | | | | | | | | | | | | | | Loans Receivable 90 Days or More Past Due and Accruing | |
| One-to-four family residential owner occupied | | $ | 1,096 | | | $ | 182 | | | $ | 1,278 | | | $ | 5,325 | | | $ | 6,603 | | | $ | -- | |
| One-to-four family residential non-owner occupied | | | 1,259 | | | | 68 | | | | 1,327 | | | | 46,034 | | | | 47,361 | | | | -- | |
| Multi-family residential | | | 371 | | | | -- | | | | 371 | | | | 23,596 | | | | 23,967 | | | | -- | |
| Commercial real estate | | | 2,070 | | | | 548 | | | | 2,618 | | | | 101,201 | | | | 103,819 | | | | 548 | |
| Construction | | | 2,231 | | | | -- | | | | 2,231 | | | | 7,767 | | | | 9,998 | | | | -- | |
| Home equity | | | 31 | | | | -- | | | | 31 | | | | 4,316 | | | | 4,347 | | | | -- | |
| Commercial business | | | 3 | | | | 380 | | | | 383 | | | | 23,233 | | | | 23,616 | | | | 380 | |
| Other consumer | | | -- | | | | -- | | | | -- | | | | 19 | | | | 19 | | | | -- | |
| Total | | $ | 7,061 | | | $ | 1,178 | | | $ | 8,239 | | | $ | 211,491 | | | $ | 219,730 | | | $ | 928 | |
Note 8 - Premises and Equipment
The components of premises and equipment at December 31, 2019 and 2018 are as follows (in thousands):
| | | | | | | |
| Land and land improvements | | $ | 292 | | | $ | 298 | |
| Buildings | | | 1,695 | | | | 1,456 | |
| Leasehold improvements | | | 441 | | | | 439 | |
| Furniture, fixtures and equipment | | | 1,444 | | | | 1,311 | |
| | | | 3,872 | | | | 3,504 | |
| Accumulated depreciation | | | (1,646 | ) | | | (1,446 | ) |
| Premises and equipment, net | | $ | 2,226 | | | $ | 2,058 | |
Depreciation expense for the years ended December 31, 2019 and 2018 amounted to approximately $200,000 and $202,000, respectively.
Note 9 – Goodwill and Other Intangible, Net
On August 1, 2016, Quaint Oak Insurance Agency, LLC began operations by acquiring the renewal rights to a book of business produced and serviced by an independent insurance agency located in New Britain, Pennsylvania, that provides a broad range of personal and commercial insurance coverage solutions. The Company paid $1.0 million for these rights. Based on a valuation, $515,000 of the purchase price was determined to be goodwill and $485,000 was determined to be related to the renewal rights to the book of business and deemed to be an other intangible asset. This other intangible asset is being amortized over a ten year period based upon the annual retention rate of the book of business. The balance of other intangible asset at December 31, 2019 was $319,000, net of accumulated amortization of $166,000. Amortization expense for the years ended December 31, 2019 and 2018 amounted to approximately $49,000 and $48,000, respectively.
Notes to Consolidated Financial Statements (Continued)
Note 9 – Goodwill and Other Intangible, Net (Continued)
Estimated amortization expense of other intangible for each of the next five years and thereafter is as follows (in thousands):
| 2020 | | $ | 49 | |
| 2021 | | | 49 | |
| 2022 | | | 49 | |
| 2023 | | | 49 | |
| 2024 | | | 49 | |
| Thereafter | | | 74 | |
| Total | | $ | 319 | |
Note 10 - Deposits
Deposits and the weighted average interest rate at December 31, 2019 and 2018 consist of the following (in thousands):
| | | | 2019
| | | 2018
| |
| | | | Amount | | | | Weighted
Average
Interest
Rate
| | | | Amount
| | | | Weighted Average
Interest
Rate
| |
| Non-interest bearing checking accounts | | $ | 15,775 | | | | -- | % | | $ | 17,542 | | | | -- | % |
| Passbook accounts | | | 5 | | | | 0.15 | | | | 192 | | | | 0.15 | |
| Savings accounts | | | 1,722 | | | | 0.20 | | | | 1,120 | | | | 0.20 | |
| Money market accounts | | | 25,504 | | | | 0.80 | | | | 26,841 | | | | 0.80 | |
| Certificate of deposit accounts | | | 184,452 | | | | 2.27 | | | | 166,216 | | | | 2.10 | |
| Total | | $ | 227,458 | | | | 1.87 | % | | $ | 211,911 | | | | 1.69 | % |
A summary of certificates of deposit by maturity at December 31, 2019 is as follows (in thousands):
| Years ending December 31: | | | |
| 2020 | | $ | 94,122 | |
| 2021 | | | 52,497 | |
| 2022 | | | 12,082 | |
| 2023 | | | 14,813 | |
| 2024 | | | 10,938 | |
| Total | | $ | 184,452 | |
The aggregate amount of certificates of deposit with a minimum denomination of $250,000 was $29.9 million and $25.7 million at December 31, 2019 and 2018, respectively.
Notes to Consolidated Financial Statements (Continued)
Note 11 - Borrowings
As of December 31, 2019, Quaint Oak Bank has a maximum borrowing capacity with the Federal Home Loan Bank of approximately $145.7 million. Quaint Oak Bank’s Federal Home Loan Bank advances outstanding were $36.3 million and $24.0 million at December 31, 2019 and 2018, respectively. As of December 31, 2019, Quaint Oak Bank has $892,000 in borrowing capacity with the Federal Reserve Bank of Philadelphia. There were no borrowings under this facility at December 31, 2019 and 2018.
Federal Home Loan Bank short-term borrowings and the weighted interest rate consist of the following at December 31, 2019 and 2018 (dollars in thousands):
| | | At or For the Year Ended December 31, | |
| | | | | | | |
| FHLB short-term borrowings: | | | | | | |
| Average balance outstanding | | $ | 5,585 | | | $ | 9,745 | |
| Maximum amount outstanding at any month-end during the period | | | 11,000 | | | | 10,000 | |
| Balance outstanding at end of period | | | 10,000 | | | | 9,000 | |
| Average interest rate during the period | | | 2.52 | % | | | 2.02 | % |
| Weighted average interest rate at end of period | | | 1.81 | % | | | 2.62 | % |
Federal Home Loan Bank long-term borrowings and the weighted interest rate consist of the following at December 31, 2019 and 2018 (in thousands):
| | | | December 31, 2019
| | | | December 31, 2018
| |
| | | | Amount
| | | | Weighted
Interest
Rate
| | | | Amount
| | | | Weighyed Interest
Rate
| |
| 2019 | | $ | -- | | | | -- | % | | $ | 3,000 | | | | 1.86 | % |
| 2020 | | | 2,000 | | | | 2.00 | | | | 2,000 | | | | 2.00 | |
| 2021 | | | 5,000 | | | | 2.20 | | | | 3,000 | | | | 2.05 | |
| 2022 | | | 7,171 | | | | 2.10 | | | | 3,000 | | | | 2.18 | |
| 2023 | | | 7,000 | | | | 2.16 | | | | 3,000 | | | | 2.33 | |
| 2024 | | | 5,100 | | | | 2.28 | | | | 1,000 | | | | -- | |
Total FHLB long-term debt | | $ | 26,271 | | | | 2.16 | % | | $ | 15,000 | | | | 2.12 | % |
Notes to Consolidated Financial Statements (Continued)
Note 12 – Subordinated Debt
On December 27, 2018, the Quaint Oak Bancorp, Inc. issued $8.0 million in subordinated notes. These notes have a maturity date of December 31, 2028, and bear interest at a fixed rate of 6.50%. The Company may, at its option, at any time on an interest payment date on or after December 31, 2023, redeem the notes, in whole or in part, at par plus accrued interest to the date of redemption.
The balance and unamortized issuance costs of subordinated debt at December 31, 2019 are as follows (in thousands):
| | | | | | Unamortized Debt Issuance Costs | | | | |
6.5% subordinated notes, due December 31, 2028 | | $ | 8,000 | | | $ | 135 | | | $ | 7,865 | |
| | | | | | | | | | | | | |
All subordinated notes are not subject to repayment at the option of the noteholders. These notes are all unsecured and rank junior in right of payment to the Company’s obligations to its general creditors.
Notes to Consolidated Financial Statements (Continued)
Note 13 - Income Taxes
The components of income tax expense for the years ended December 31, 2019 and 2018 are as follows (in thousands):
| | | 2019 | | | 2018 | |
| Federal: | | | | | | |
| Current | | $ | 724 | | | $ | 507 | |
| Deferred | | | (41 | ) | | | (26 | ) |
| Total federal | | | 683 | | | | 481 | |
| State, current | | | 267 | | | | 186 | |
| Total | | $ | 950 | | | $ | 667 | |
The following table presents the reconciliation between the reported income tax expense and the income tax expense which would be computed by applying the normal federal income tax rate of 21% to income before taxes for the years ended December 31, 2019 and 2018, respectively, as follows (in thousands):
| | | | 2019 | | | | 2018
| |
| | | | Amount | | | | Rate
| | | | Amount | | | | Rate | |
| Federal income tax at statutory rate | | $ | 719 | | | | 21.0 | % | | $ | 560 | | | | 21.0 | % |
| State tax, net of federal benefit | | | 211 | | | | 6.2 | | | | 151 | | | | 5.7 | |
| Stock compensation expense | | | 30 | | | | 0.9 | | | | (33 | ) | | | (1.2 | ) |
| Other | | | (10 | ) | | | (0.2 | ) | | | (11 | ) | | | (0.5 | ) |
Total | | $ | 950 | | | | 27.9 | % | | $ | 667 | | | | 25.0 | % |
The components of the net deferred tax asset at December 31, 2019 and 2018 are as follows (in thousands):
| | | 2019 | | | 2018 | |
| Deferred tax assets: | | | | | | |
| Allowance for loan losses | | $ | 468 | | | $ | 413 | |
| Stock-based compensation | | | 8 | | | | 7 | |
| Interest on non-accrual loans | | | 2 | | | | 2 | |
| Deferred loan fees | | | 177 | | | | 182 | |
| Organization cost | | | 1 | | | | 1 | |
| Total deferred tax assets | | | 656 | | | | 605 | |
| Deferred tax liabilities: | | | | | | |
| Bank premises and equipment | | | (100 | ) | | | (93 | ) |
| Unrealized gain on investment securities available for sale | | | (5 | ) | | | -- | |
| Intangible | | | (13 | ) | | | (9 | ) |
| Total deferred tax liabilities | | | (118 | ) | | | (102 | ) |
| | | | | | | | | |
| Net Deferred Tax Asset | | $ | 538 | | | $ | 503 | |
The net deferred tax asset at December 31, 2019 and 2018 of $538,000 and $503,000, respectively, is included in other assets. No valuation allowance was established at December 31, 2019 and 2018, in view of the Company’s tax strategies and anticipated future taxable income as evidenced by the Company’s earnings potential.
Notes to Consolidated Financial Statements (Continued)
Note 14 – Stock Compensation Plans
Employee Stock Ownership Plan
The Company maintains an Employee Stock Ownership Plan (ESOP) for the benefit of employees who meet the eligibility requirements of the plan. Using proceeds from a loan from the Company, the ESOP purchased 8%, or 222,180 shares of the Company’s then outstanding common stock in the open market during 2007. The Bank makes cash contributions to the ESOP on a quarterly basis sufficient to enable the ESOP to make the required loan payments to the Company. The loan bears an interest rate of 7.75% per annum, with principal and interest to be paid quarterly in equal installments over 15 years pursuant to the terms of the original note. The loan is secured by the unallocated shares of common stock held by the ESOP. As of December 31, 2019, there were seven quarterly payments remaining on the 2007 loan.
Shares of the Company’s common stock purchased by the ESOP are held in a suspense account and reported as unallocated common stock held by the ESOP in stockholders’ equity until released for allocation to participants. As the debt is repaid, shares are released from collateral and are allocated to each eligible participant based on the ratio of each such participant’s base compensation to the total base compensation of eligible plan participants. As the unearned shares are committed to be released and allocated among participants, the Company recognizes compensation expense equal to the average market value of the shares, and the shares become outstanding for earnings per share computations. During the years ended December 31, 2019 and 2018, the Company recognized $186,000 and $192,000 of ESOP expense, respectively.
The following table represents the components of the ESOP shares at December 31, 2019 and 2018:
| | | | | | | |
| Allocated shares | | | 180,959 | | | | 179,637 | |
| Unreleased shares | | | 25,249 | | | | 39,677 | |
| Total ESOP shares | | | 206,208 | | | | 219,314 | |
| | | | | | | | | |
| Fair value of unreleased shares (in thousands) | | $ | 372 | | | $ | 469 | |
Recognition and Retention and Stock Incentive Plans
In May 2008, the shareholders of Quaint Oak Bancorp approved the adoption of the 2008 Recognition and Retention Plan (the “RRP”) and Trust Agreement. In order to fund the RRP, the 2008 Recognition and Retention Plan Trust acquired 111,090 shares of the Company’s stock in the open market at an average price of $4.68 totaling $520,000. The RRP terminated on May 8, 2018 and as of December 31, 2019 there were no shares remaining in the RRP Trust. In May 2013, the shareholders of Quaint Oak Bancorp approved the adoption of the 2013 Stock Incentive Plan (the “2013 Stock Incentive Plan”). The 2013 Stock Incentive Plan approved by shareholders in May 2013 covered a total of 195,000 shares, of which 48,750, or 25%, may be restricted stock awards, for a balance of 146,250 stock options assuming all the restricted shares are awarded. In May 2018, the shareholders of Quaint Oak Bancorp approved the adoption of the 2018 Stock Incentive Plan (the “2018 Stock Incentive Plan”). The 2018 Stock Incentive Plan approved by shareholders in May 2018 covered a total of 155,000 shares, of which 38,750, or 25%, may be restricted stock awards, for a balance of 116,250 stock options assuming all the restricted shares are awarded.
Notes to Consolidated Financial Statements (Continued)
Note 14 – Stock Compensation Plans (Continued)
Recognition and Retention and Stock Incentive Plans (Continued)
As of December 31, 2019, a total of 38,887 share awards were unvested under the 2013 and 2018 Stock Incentive Plans and up to 11,750 share awards were available for future grant under the 2018 Stock Incentive Plan and none under the 2013 Stock Incentive Plan. The 2013 and 2018 Stock Incentive Plan share awards have vesting periods of five years.
A summary of the status of the shares awarded under the RRP and the 2013 and 2018 Stock Incentive Plans as of December 31, 2019 and 2018 and changes during the year ended December 31, 2019 and 2018 is as follows:
| | | | | | | |
| | | Number of | | | Weighted Average Grant Date Fair Value | | | Number of | | | Weighted Average Grant Date Fair Value | |
| Unvested at the beginning of the year | | | 48,608 | | | $ | 13.30 | | | | 10,061 | | | $ | 8.10 | |
| Granted | | | -- | | | | -- | | | | 48,608 | | | | 13.30 | |
| Vested | | | (9,721 | ) | | | 13.30 | | | | (9,661 | ) | | | 8.10 | |
| Forfeited | | | -- | | | | -- | | | | (400 | ) | | | 8.10 | |
| Unvested at the end of the year | | | 38,887 | | | $ | 13.30 | | | | 48,608 | | | $ | 13.30 | |
Compensation expense on the restricted stock awards is recognized ratably over the five year vesting period in an amount which is equal to the fair value of the common stock at the date of grant. During each of the years ended December 31, 2019 and 2018, the Company recognized $129,000 and $107,000 of compensation expense. A tax benefit of approximately $27,000 and $22,000 was recognized during the year ended December 31, 2019 and 2018, respectively. As of December 31, 2019, approximately $437,000 in additional compensation expense will be recognized over the remaining service period of approximately 3.4 years.
Stock Options
In May 2008, the shareholders of Quaint Oak Bancorp approved the adoption of the 2008 Stock Option Plan (the “Option Plan”). In May 2013, the shareholders of Quaint Oak Bancorp approved the adoption of the 2013 Stock Incentive Plan (the “2013 Stock Incentive Plan”). The Option Plan authorized the grant of stock options to officers, employees and directors of the Company to acquire 277,726 shares of common stock with an exercise price no less than the fair market value on the date of the grant. The Option Plan expired February 13, 2018, however, outstanding options granted in 2013 remain valid and existing for the remainder of their terms. The 2013 Stock Incentive Plan approved by shareholders in May 2013 covered a total of 195,000 shares, of which 48,750, or 25%, may be restricted stock awards, for a balance of 146,250 stock options assuming all the restricted shares are awarded. In May 2018, the shareholders of Quaint Oak Bancorp approved the adoption of the 2018 Stock Incentive Plan (the “2018 Stock Incentive Plan”). The 2018 Stock Incentive Plan approved by shareholders in May 2018 covered a total of 155,000 shares, of which 38,750, or 25%, may be restricted stock awards, for a balance of 116,250 stock options assuming all the restricted shares are awarded.
For grants in May 2008, the Compensation Committee of the Board of Directors determined to grant the stock options at an exercise price equal to $5.00 per share (split-adjusted) which is higher than the fair market value of the common stock on the grant date. All of the options granted in May 2008 were either exercised or expired in May 2018. All incentive stock options issued under the Option Plan and the Stock Incentive Plan are intended to comply with the requirements of Section 422 of the Internal Revenue Code.
Notes to Consolidated Financial Statements (Continued)
Note 14 – Stock Compensation Plans (Continued)
Stock Options (Continued)
As of December 31, 2019, a total of 256,336 grants of stock options were outstanding under the Option Plan and Stock Incentive Plan and 37,250 stock options were available for future grant under the Stock Incentive Plan and none under the Option Plan. Options will become vested and exercisable over a five year period and are generally exercisable for a period of ten years after the grant date.
A summary of option activity under the Company’s Option Plan and Stock Incentive Plan for the years ended December 31, 2019 and 2018 and changes during the years ended December 31, 2019 and 2018 is as follows:
| | | | | | | |
| | | | | | Weighted Average Exercise Price | | | Weighted Average Remaining Contractual Life (in years) | | | | | | Weighted Average Exercise Price | | | Weighted Average Remaining Contractual Life (in years) | |
| Outstanding at the beginning of the year | | | 279,836 | | | $ | 10.64 | | | | 6.8 | | | | 265,302 | | | $ | 6.74 | | | | 3.2 | |
| Granted | | | -- | | | | -- | | | | -- | | | | 136,636 | | | | 13.30 | | | | 9.4 | |
| Exercised | | | (23,500 | ) | | | 8.10 | | | | -- | | | | (106,844 | ) | | | 5.00 | | | | -- | |
| Forfeited | | | -- | | | | -- | | | | -- | | | | (15,258 | ) | | | 6.22 | | | | -- | |
| Outstanding at the end of the period | | | 256,336 | | | $ | 10.87 | | | | 6.0 | | | | 279,836 | | | $ | 10.64 | | | | 6.8 | |
| Exercisable at the end of the period | | | 147,027 | | | $ | 9.07 | | | | 4.8 | | | | 143,200 | | | $ | 8.10 | | | | 4.4 | |
The estimated fair value of the options granted in May 2018 was $1.75 per share. The fair value was estimated on the date of grant using the Black-Scholes option pricing model with the following assumptions:
| | Expected dividend yield
| 2.11% |
| | Risk-free interest rate | 2.96% |
| | Expected life of options
| 6.5 years |
| | Expected stock-price volatility
| 12.42% |
The dividend yield was calculated on the dividend amount and stock price existing at the grant date. The risk free interest rate used was based on the rates of United States Treasury securities with maturities equal to the expected lives of the options. Although the contractual term of the options granted is ten years, the expected term of the options is less. Management estimated the expected term of the stock options to be the average of the vesting period and the contractual term. The expected stock-price volatility was estimated by considering the Company’s own stock volatility. The actual future volatility may differ from our historical volatility.
At December 31, 2019, the aggregate intrinsic value of options outstanding was $994,000 and options exercisable was $836,000. At December 31, 2018, the aggregate intrinsic value of the options outstanding was $330,000 on and options exercisable was $533,000. The aggregate intrinsic value of a stock option represents the total pre-tax intrinsic value (the amount by which the current market value of the underlying stock exceeds the exercise price of the option) that would have been received by the option holder had all option holders exercised their options on December 31, 2019 and December 31, 2018. This amount changes based on changes in the market value of the Company’s common stock.
During the years ended December 31, 2019 and 2018, the Company recognized $44,000 and $41,000 of compensation expense, respectively. A tax benefit of approximately $2,000 and $1,000 was recognized during the years ended December 31, 2019 and 2018. As of December 31, 2019, approximately $149,000 in additional compensation expense will be recognized over the remaining service period of approximately 3.4 years.
Notes to Consolidated Financial Statements (Continued)
Note 15 - Transactions with Executive Officers and Directors
Certain directors and executive officers of the Company, their families and their affiliates are customers of the Bank. Any transactions with such parties, including loans and commitments, are in the ordinary course of business at normal terms, including interest rate and collateralization, prevailing at the time and do not represent more than normal risks of collectability. None of these individuals were indebted to the Company for loans at December 31, 2019 and 2018, respectively.
Note 16 - Financial Instruments with Off-Balance Sheet Risk
The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheet.
The Company’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments as it does for on-balance sheet instruments.
A summary of the Company’s financial instrument commitments at December 31, 2019 and 2018 is as follows (in thousands):
| | | | | | | |
| Commitments to originate loans | | $ | 10,184 | | | $ | 17,593 | |
| Unfunded commitments under lines of credit | | | 15,181 | | | | 14,569 | |
| Standby letters of credit | | | 38 | | | | 83 | |
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Since the commitments may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The Company evaluates each customer’s credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management’s credit evaluation. Collateral held varies, but includes principally residential and commercial real estate.
Note 17 - Leases
The Company leases its office at 501 Knowles Avenue in Southampton, Pennsylvania as well as other office facilities and equipment. Due to the adoption of ASU 2016-02, Leases (Topic 842), the Company completed a comprehensive review and analysis of all its property contracts. As a result of this review, it was determined that the Company leases three office locations under operating leases. Several assumptions and judgments were made when applying the requirements of Topic 842 to the Corporation’s existing lease commitments, including the allocation of consideration in the contracts between lease and nonlease components, determination of the lease term, and determination of the discount rate used in calculating the present value of the lease payments.
The Company has elected to account for the variable nonlease components, such as common area maintenance charges, utilities, real estate taxes, and insurance, separately from the lease component. Such variable nonlease components are reported in net occupancy expense on the Consolidated Statements of Income when paid. These variable nonlease components were excluded from the calculation of the present value of the remaining lease payments, therefore, they are not included in the right-of-use assets and lease liabilities reported on the Consolidated Balance Sheets. The lease cost associated with the operating leases for the year ending December 31, 2019 amounted to $139,000.
Notes to Consolidated Financial Statements (Continued)
Note 17 – Leases (Continued)
Certain of the Company’s leases contain options to renew the lease after the initial term. Management considers the Corporation’s historical pattern of exercising renewal options on leases and the positive performance of the leased locations, when determining whether it is reasonably certain that the leases will be renewed. If management concludes that there is reasonable certainty about the renewal option, it is included in the calculation of the remaining term of each applicable lease. The discount rate utilized in calculating the present value of the remaining lease payments for each lease was the Federal Home Loan Bank of Pittsburgh advance rate corresponding to the remaining maturity of the lease as of January 1, 2019. The following table presents the weighted-average remaining lease term and discount rate for the leases outstanding at December 31, 2019.
| | | Operating | |
| Weighted average remaining term (years) | | | 12.5 | |
| Weighted average discount rate | | | 3.06 | % |
The following table presents the undiscounted cash flows due related to operating leases as of December 31, 2019, along with a reconciliation to the discounted amount recorded on the Consolidated Balance Sheets:
| Undiscounted cash flows due (In thousands): | | Operating | |
| 2020 | | $ | 138 | |
| 2021 | | | 140 | |
| 2022 | | | 141 | |
| 2023 | | | 139 | |
| 2024 | | | 143 | |
| 2025 and thereafter | | | 934 | |
| Total undiscounted cash flows | | | 1,635 | |
| Discount on cash flows | | | (330 | ) |
| Total lease liabilities | | $ | 1,305 | |
Under Topic 842, the lessee can elect to not record on the Consolidated Balance Sheets a lease whose term is twelve months or less and does not include a purchase option that the lessee is reasonably certain to exercise. As of December 31, 2019, the Corporation had no leases that had a term of twelve months or less.
Rental expense under operating leases totaled approximately $187,000 in 2019 and $165,000 in 2018.
Quaint Oak Bancorp, Inc.
Notes to Consolidated Financial Statements (Continued)
Note 18 - Regulatory Matters
The Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk-weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth below) of total, Tier 1, and common equity Tier 1 capital (as defined in the regulations) to risk-weighted assets, and of Tier 1 capital to average assets. Management believes, as of December 31, 2019, that the Bank meets all capital adequacy requirements to which it is subject.
In July of 2013 the respective U.S. federal banking agencies issued final rules implementing Basel III and the Dodd-Frank Act capital requirements to be fully-phased in on a global basis on January 1, 2019. The new regulations established a new tangible common equity capital requirement, increase the minimum requirement for the current Tier 1 risk-weighted asset (“RWA”) ratio, phase out certain kinds of tangibles treated as capital and certain types of instruments and change the risk weightings of certain assets used to determine requirement capital ratios. Provisions of the Dodd-Frank Act generally require these capital rules to apply to bank holding companies and their subsidiaries. The new common equity Tier 1 capital component requires capital of the highest quality-predominantly composed of retained earnings and common stock instruments. For community banks, such as Quaint Oak Bank, a common equity Tier 1 capital ratio of 4.5% became effective on January 1, 2015. The new capital rules also increased the current minimum of Tier 1 capital ratio from 4.0% to 6.0% beginning on January 1, 2015. In addition, in order to make capital distributions and pay discretionary bonuses to executive officers without restriction, an institution must also maintain greater than 2.5% in common equity attributable to a capital conservation buffer to be phased in from January 1, 2016 until January 1, 2019. The new rules also increase the risk weights for several categories of assets, including an increase from 100% to 150% for certain acquisition, development and construction loans and more than 90-day past due exposures. The new capital rules maintain the general structure of the prompt corrective action rules, but incorporate the new common equity Tier 1 capital requirement and the increased Tier 1 RWA requirement into the prompt corrective action framework.
Bank holding companies are generally subject to statutory capital requirements, which were implemented by certain of the new capital regulations described above that became effective on January 1, 2015. However, the Small Banking Holding Company Policy Statement exempts certain small bank holding companies like the Company from those requirements provided that they meet certain conditions.
On December 27, 2018, Quaint Oak Bancorp, Inc. issued $8.0 million in subordinated notes (see Note 12) and infused $6.5 million to the Bank as Tier 1 capital. As of December 31, 2019 the Bank was well capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since December 31, 2019 that management believes have changed the Bank’s category. The Company’s ratios do not differ significantly from the Bank’s ratios presented below.
Notes to Consolidated Financial Statements (Continued)
Note 18 - Regulatory Matters (Continued)
The Bank’s actual capital amounts and ratios at December 31, 2019 and 2018 and the minimum amounts and ratios required for capital adequacy purposes and to be well capitalized under the prompt corrective action provisions are as follows (dollars in thousands):
| | | | |
For Capital Adequacy Purposes | | To be Well Capitalized
Under Prompt Corrective Action Provisions | |
| | | | | | | | | | | | | | |
| As of December 31, 2019: | | | | | | | | | | | | | |
| Total capital (to risk-weighted assets) | | $33,087 | | 14.41 | %
| ≥ $18,373 | | ≥8.00 | %
| ≥ $22,966 | | ≥10.00 | %
|
| Tier 1 capital (to risk-weighted assets) | | 30,829 | | 13.42 | | ≥ 13,780 | | ≥6.00 | | ≥ 18,373 | | ≥ 8.00 | |
| Common Equity Tier 1 capital (to risk-weighted assets) | | 30,829 | | 13.42 | | ≥ 10,335 | | ≥4.50 | | ≥ 14,928 | | ≥ 6.50 | |
| Tier 1 capital (to average assets) | | 30,829 | | 10.35 | | ≥ 11,915 | | ≥4.00 | | ≥ 14,894 | | ≥ 5.00 | |
| | | | |
For Capital Adequacy Purposes | | To be Well Capitalized
Under Prompt Corrective Action Provisions | |
| | | | | | | | | | | | | | |
| As of December 31, 2019: | | | | | | | | | | | | | |
| Total capital (to risk-weighted assets) | | $29,778 | | 15.49 | %
| ≥$15,378 | | ≥8.00 | %
| ≥ $19,233 | | ≥10.00 | %
|
| Tier 1 capital (to risk-weighted assets) | | 27,786 | | 14.45 | | ≥ 11,534 | | ≥6.00 | | ≥ 15,378 | | ≥ 8.00 | |
| Common Equity Tier 1 capital (to risk-weighted assets) | | 27,786 | | 14.45 | | ≥ 8,650 | | ≥4.50 | | ≥ 12,495 | | ≥ 6.50 | |
| Tier 1 capital (to average assets) | | 27,786 | | 10.92 | | ≥ 10,175 | | ≥4.00 | | ≥ 12,718 | | ≥ 5.00 | |
Under the Dodd-Frank Wall Street Reform and Consumer Protection Act the Board of Governors of the Federal Reserve System as the primary regulator for the Company is authorized to extend leverage capital requirements and risk based capital requirements applicable to depository institutions and bank holding companies to thrift holding companies. Legislation adopted in late 2014 generally exempts small savings and loan holding companies like Quaint Oak Bancorp from these capital requirements if certain conditions are met.
Banking regulations place certain restrictions on dividends paid by the Bank to the Company. The Company is dependent upon dividends from the Bank to provide funds for the payment of dividends to the Company’s shareholders, interest payments on the subordinated debt and other general corporate purposes. The Bank’s ability to pay cash dividends directly or indirectly to the Company is governed by federal law, regulations and related guidance. These include the requirement that the Bank must receive approval to declare a dividend if the total amount of all dividends, including the proposed dividend, declared by the Bank in any current year exceeds the total of the Bank’s net income for the current year to date, combined with its retained net income for the previous two years. The term “retained net income” as defined by federal regulations means the Bank’s net income for a specified period less the total amount of all dividends declared in that period.
Notes to Consolidated Financial Statements (Continued)
Note 18 - Regulatory Matters (Continued)
The Bank may not pay dividends to the Company if, after paying those dividends, it would fail to meet the required minimum levels under risk-based capital guidelines or if the bank regulators have notified the Bank that it is in need of more than normal supervision. Under the Federal Deposit Insurance Act, an insured depository institution such as the Bank is prohibited from making capital distributions, including the payment of dividends, if, after making such distribution, the institution would become “undercapitalized” (as such term is used in the Federal Deposit Insurance Act). Payment of dividends by the Bank also may be restricted at any time at the discretion of the appropriate regulator if it deems the payment to constitute an unsafe and unsound banking practice.
In 2019, the Bank did not pay cash dividends to the Company. In 2018, the Bank paid a total of $750,000 in cash dividends to the Company. At December 31, 2019, the Bank’s retained net income for the years ended December 31, 2019 and 2018 less the dividends declared and paid during those periods, totaled $4.3 million.
Note 19 – Fair Value Measurements and Fair Values of Financial Instruments
Fair value estimates are based on quoted market prices, if available, quoted market prices of similar assets or liabilities, or the present value of expected future cash flows and other valuation techniques. These valuations are significantly affected by discount rates, cash flow assumptions, and risk assumptions used. Therefore, fair values estimates may not be substantiated by comparison to independent markets and are not intended to reflect the proceeds that may be realizable in an immediate settlement of the instruments.
Fair value is determined at one point in time and is not representative of future value. These amounts do not reflect the total value of a going concern organization. Management does not have the intention to dispose of a significant portion of its assets and liabilities and therefore, the unrealized gains or losses should not be interpreted as a forecast of future earnings and cash flows.
The following disclosures show the hierarchal disclosure framework associated with the level of pricing observations utilized in measuring assets and liabilities at fair value. The three broad levels of pricing are as follows:
| Level I: | Quoted prices are available in active markets for identical assets or liabilities as of the reported date. |
| Level II: | Pricing inputs are other than the quoted prices in active markets, which are either directly or indirectly observable as of the reported date. The nature of these assets and liabilities includes items for which quoted prices are available but traded less frequently and items that are fair-valued using other financial instruments, the parameters of which can be directly observed. |
| Level III: | Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable. |
This hierarchy requires the use of observable market data when available.
The methods of determining the fair value of assets and liabilities presented in this note are consistent with our methodologies disclosed in Note 18 of the Company’s 2018 Form 10-K, as the fair value of loans, excluding previously presented impaired loans measured at fair value on a non-recurring basis, is estimated using discounted cash flow analyses. The discount rates used to determine fair value use interest rate spreads that reflect factors such as liquidity, credit and non-performance risk. Loans are considered a Level 3 classification.
The following is a discussion of assets and liabilities measured at fair value on a recurring and non-recurring basis and valuation techniques applied:
Notes to Consolidated Financial Statements (Continued)
Note 19 – Fair Value Measurements and Fair Values of Financial Instruments (Continued)
Investment Securities Available For Sale: The fair value of securities available for sale are determined by obtaining quoted market prices on nationally recognized securities exchanges (Level 1), or matrix pricing (Level 2), which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted market prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted prices.
We may be required from time to time to measure certain assets at fair value on a nonrecurring basis in accordance with U.S. GAAP. These adjustments to fair value usually result from application of lower-of-cost-or-market accounting or write-downs of individual assets.
Impaired Loans: Impaired loans are carried at the lower of cost or the fair value of the collateral for collateral-dependent loans less estimated costs to sell. Collateral is primarily in the form of real estate. The use of independent appraisals, discounted cash flow models and management’s best judgment are significant inputs in arriving at the fair value measure of the underlying collateral and impaired loans are therefore classified within Level 3 of the fair value hierarchy.
Other Real Estate Owned: Other real estate owned is carried at the lower of the investment in the real estate or the fair value of the real estate less estimated selling costs. The use of independent appraisals and management’s best judgment are significant inputs in arriving at the fair value measure of the underlying collateral and therefore other real estate owned is classified within Level 3 of the fair value hierarchy.
The table below sets forth the financial assets and liabilities that were accounted for on a recurring and nonrecurring basis by level within the fair value hierarchy as of December 31, 2019 (in thousands):
| | | | |
| | | Fair Value Measurements Using: | |
| | | | | | Quoted Prices in Active Markets for Identical
Assets (Level 1) | | | Significant Other Observable Inputs (Level 2) | | | Unobservable Inputs (Level 3) | |
| Recurring fair value measurements: | | | |
| Investment securities available for sale | | | |
| Governmental National Mortgage Association mortgage-backed securities | | $ | 5,853 | | | $ | -- | | | $ | 5,853 | | | $ | -- | |
| Federal National Mortgage Association mortgage-backed securities | | | 260 | | | | -- | | | | 260 | | | | -- | |
| Corporate notes | | | 1,510 | | | | -- | | | | 1,510 | | | | -- | |
| Total investment securities available for sale | | $ | 7,623 | | | $ | -- | | | $ | 7,623 | | | $ | -- | |
| Total recurring fair value measurements | | $ | 7,623 | | | $ | -- | | | $ | 7,623 | | | $ | -- | |
| | | | |
| Nonrecurring fair value measurements | | | |
| Impaired loans | | $ | 319 | | | $ | -- | | | $ | -- | | | $ | 319 | |
| Other Real Estate Owned | | | 1,824 | | | | -- | | | | -- | | | | 1,824 | |
| Total nonrecurring fair value measurements | | $ | 2,143 | | | $ | -- | | | $ | -- | | | $ | 2,143 | |
Notes to Consolidated Financial Statements (Continued)
Note 19 – Fair Value Measurements and Fair Values of Financial Instruments (Continued)
The table below sets forth the financial assets and liabilities that were accounted for on a recurring and nonrecurring basis by level within the fair value hierarchy as of December 31, 2018 (in thousands):
| | | | |
| | | Fair Value Measurements Using: | |
| | | | | | Quoted Prices in Active Markets for Identical Assets (Level 1) | | | Significant Other Observable Inputs (Level 2) | | | Unobservable Inputs (Level 3) | |
| Recurring fair value measurements: | | | |
| Investment securities available for sale | | | |
| Governmental National Mortgage Association mortgage-backed securities | | $ | 4,873 | | | $ | -- | | | $ | 4,873 | | | $ | -- | |
| Federal Home Loan Mortgage Corporation mortgage-backed securities | | | 1,082 | | | | -- | | | | 1,082 | | | | -- | |
| Federal National Mortgage Association mortgage-backed securities | | | 367 | | | | -- | | | | 367 | | | | -- | |
| U.S. government agency | | | 358 | | | | -- | | | | 358 | | | | -- | |
| Total investment securities available for sale | | $ | 6,680 | | | $ | -- | | | $ | 6,680 | | | $ | -- | |
| Total recurring fair value measurements | | $ | 6,680 | | | $ | -- | | | $ | 6,680 | | | $ | -- | |
| | | | |
| Nonrecurring fair value measurements | | | |
| Impaired loans | | $ | 593 | | | $ | -- | | | $ | -- | | | $ | 593 | |
| Other Real Estate Owned | | | 1,650 | | | $ | -- | | | $ | -- | | | | 1,650 | |
| Total nonrecurring fair value measurements | | $ | 2,243 | | | $ | -- | | | $ | -- | | | $ | 2,243 | |
The following table presents additional quantitative information about assets measured at fair value on a nonrecurring basis and for which the Company has used Level 3 inputs to determine fair value as of December 31, 2019 and 2018 (dollars in thousands):
| | | December 31, 2019 | |
| | | Quantitative Information About Level 3 Fair Value Measurements
| |
| | | | | | | | | | |
| Impaired loans | | $ | 319 | | Appraisal of collateral (1) | | Appraisal adjustments (2) | | | 0%-3% (1 | %) |
| | | | | | | | | | | | |
| Other real estate owned | | $ | 1,824 | | Appraisal of collateral (1) | | Appraisal adjustments (2) | | | 0%-12% (12 | %) |
Notes to Consolidated Financial Statements (Continued)
Note 19 – Fair Value Measurements and Fair Values of Financial Instruments (Continued)
| | | December 31, 2018 | |
| | | Quantitative Information About Level 3 Fair Value Measurements
| |
| | | | | | | | | | |
| Impaired loans | | $ | 648 | | Appraisal of collateral (1) | | Appraisal adjustments (2) | | | 0%-73% (8 | %) |
| | | | | | | | | | | | |
| Other real estate owned | | $ | 1,650 | | Appraisal of collateral (1) | | Appraisal adjustments (2) | | | 0%-12% (12 | %) |
_______________
| (1) | Fair value is generally determined through independent appraisals of the underlying collateral, which generally include various Level 3 inputs which are identifiable. |
| (2) | Appraisals may be adjusted by management for qualitative factors such as economic conditions and estimated liquidation expenses. The range and weighted average of liquidation expenses and other appraisal adjustments are presented as a percentage of the appraisal. |
The estimated fair values of the Company’s financial instruments that are not required to be measured or reported at fair value were as follows at December 31, 2019 and 2018 (in thousands):
| | | | | | | | | Fair Value Measurements at | |
| | | | | | | | | | |
| | | | | | | | | Quoted Prices in Active Markets for Identical Assets (Level 1) | | | Significant Other Observable Inputs (Level 2) | | |
Unobservable Inputs (Level 3) | |
| Financial Assets | | | | | | | | | |
| Investment in interest-earning time deposits | | $ | 10,172 | | | $ | 10,536 | | | $ | -- | | | $ | -- | | | $ | 10,536 | |
| Loans held for sale | | | 8,928 | | | | 9,205 | | | | -- | | | | 9,205 | | | | -- | |
| Loans receivable, net | | | 246,692 | | | | 250,550 | | | | -- | | | | -- | | | | 250,550 | |
| | | | | | | | | | | | | | | | | | | | | |
| Financial Liabilities | | | | | | | | | | | | | | | | | | | | |
| Deposits | | | 227,458 | | | | 230,521 | | | | 43,006 | | | | -- | | | | 187,515 | |
| FHLB long-term borrowings | | | 26,271 | | | | 26,292 | | | | -- | | | | -- | | | | 26,292 | |
| Subordinated debt | | | 7,865 | | | | 8,146 | | | | -- | | | | -- | | | | 8,146 | |
Notes to Consolidated Financial Statements (Continued)
Note 19 – Fair Value Measurements and Fair Values of Financial Instruments (Continued)
| | | | | | | | | Fair Value Measurements at | |
| | | | | | | | | | |
| | | | | | | | | Quoted Prices in Active Markets for Identical
Assets (Level 1) | | | Significant Other Observable Inputs (Level 2) | | |
Unobservable Inputs (Level 3) | |
| Financial Assets | | | | | | | | | |
| Investment in interest-earning time deposits | | $ | 4,927 | | | $ | 4,927 | | | $ | -- | | | $ | -- | | | $ | 4,927 | |
| Loans held for sale | | | 5,103 | | | | 5,254 | | | | -- | | | | 5,254 | | | | -- | |
| Loans receivable, net | | | 216,898 | | | | 214,351 | | | | -- | | | | -- | | | | 214,351 | |
| | | | | | | | | | | | | | | | | | | | | |
| Financial Liabilities | | | | | | | | | | | | | | | | | | | | |
| Deposits | | | 211,911 | | | | 212,320 | | | | 45,695 | | | | -- | | | | 166,625 | |
| FHLB long-term borrowings | | | 15,000 | | | | 14,973 | | | | -- | | | | -- | | | | 14,973 | |
| Subordinated debt | | | 7,831 | | | | 7,831 | | | | -- | | | | -- | | | | 7,831 | |
For cash and cash equivalents, accrued interest receivable, investment in FHLB stock, bank-owned life insurance, FHLB short-term borrowings, accrued interest payable, and advances from borrowers for taxes and insurance, the carrying value is a reasonable estimate of the fair value and are considered Level 1 measurements.
Notes to Consolidated Financial Statements (Continued)
Note 20 – Operating Segments
The Company’s operations currently consist of two reportable operating segments: Banking and Mortgage Banking. The Company offers different products and services through its two segments. The accounting policies of the segments are generally the same as those of the consolidated company.
The Banking Segment generates its revenues primarily from its lending, deposit gathering and fee business activities. The profitability of this segment’s operations depends primarily on its net interest income after provision for credit losses, which is the difference between interest earned on interest earning assets and interest paid on interest bearing liabilities less provision for credit losses. The provision for credit losses is almost entirely dependent on changes in the Banking Segment’s loan portfolio and management’s assessment of the collectability of the loan portfolio as well as prevailing economic and market conditions. The profitability of this segment’s operations also depends on the generation of non-interest income which includes fees and commissions generated by Quaint Oak Bank and its wholly-owned subsidiaries, Quaint Oak Real Estate, LLC, Quaint Oak Abstract, LLC, and Quaint Oak Insurance Agency, LLC which are included in the Banking Segment for segment reporting purposes. The Banking Segment is also subject to an extensive system of laws and regulations that are intended primarily for the protection of depositors and other customers, federal deposit insurance funds and the banking system as a whole. These laws and regulations govern such areas as capital, permissible activities, allowance for loan and lease losses, loans and investments, and rates of interest that can be charged on loans. For segment reporting purposes, Quaint Oak Bancorp, Inc. is included as part of the Company’s Banking segment.
The Mortgage Banking Segment originates residential mortgage loans which are sold into the secondary market along with the loans’ servicing rights. The profitability of this segment’s operations depends primarily on the gains realized from the sale of loans and processing fees. The Mortgage Banking Segment is also subject to an extensive system of laws and regulations that are intended primarily for the protection of consumers.
Notes to Consolidated Financial Statements (Continued)
Note 20 – Operating Segments (Continued)
The following table present summary financial information for the reportable segments (in thousands):
| | | As of or for the Year Ended December 31, | |
| | | | | | | |
| | | Quaint Oak Bank(1) | | | Quaint Oak Mortgage | | | Consolidated | | | Quaint Oak Bank(1) | | | Quaint Oak Mortgage | | | Consolidated | |
| Net Interest Income | | $ | 8,845 | | | $ | (160 | ) | | $ | 8,685 | | | $ | 8,360 | | | $ | (55 | ) | | $ | 8,305 | |
| Provision for Loan Losses | | | 303 | | | | -- | | | | 303 | | | | 415 | | | | -- | | | | 415 | |
| Net Interest Income after Provision for Loan Losses | | | 8,542 | | | | (160 | ) | | | 8,382 | | | | 7,945 | | | | (55 | ) | | | 7,890 | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Non-Interest Income | | | | | | | | | | | | | | | | | | | | | | | | |
| Mortgage banking and title abstract fees | | | 649 | | | | 503 | | | | 1,152 | | | | 518 | | | | 308 | | | | 826 | |
| Real estate sales commissions, net | | | 180 | | | | -- | | | | 180 | | | | 192 | | | | -- | | | | 192 | |
| Insurance commissions | | | 419 | | | | -- | | | | 419 | | | | 430 | | | | -- | | | | 430 | |
| Other fees and services charges | | | 68 | | | | -- | | | | 68 | | | | 131 | | | | -- | | | | 131 | |
| Income from bank-owned life insurance | | | 80 | | | | -- | | | | 80 | | | | 80 | | | | -- | | | | 80 | |
| Net gain on loans held for sale | | | 1 | | | | 3,013 | | | | 3,014 | | | | 5 | | | | 2,115 | | | | 2,120 | |
| Gain on the sale of SBA loans | | | 265 | | | | -- | | | | 265 | | | | 105 | | | | -- | | | | 105 | |
| Loss on sale of investment securities available for sale | | | (4 | ) | | | -- | | | | (4 | ) | | | -- | | | | -- | | | | -- | |
| (Loss) gain on sales and write-downs of other real estate owned | | | (221 | ) | | | -- | | | | (221 | ) | | | 63 | | | | -- | | | | 63 | |
| Total Non-Interest Income | | | 1,437 | | | | 3,516 | | | | 4,953 | | | | 1,524 | | | | 2,423 | | | | 3,947 | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Non-Interest Expense | | | | | | | | | | | | | | | | | | | | | | | | |
| Salaries and employee benefits | | | 5,768 | | | | 1,179 | | | | 6,947 | | | | 5,237 | | | | 1,170 | | | | 6,407 | |
| Directors’ fees and expenses | | | 223 | | | | -- | | | | 223 | | | | 208 | | | | -- | | | | 208 | |
| Occupancy and equipment | | | 478 | | | | 214 | | | | 692 | | | | 441 | | | | 160 | | | | 601 | |
| Data processing | | | 366 | | | | 142 | | | | 508 | | | | 279 | | | | 119 | | | | 398 | |
| Professional fees | | | 357 | | | | 59 | | | | 416 | | | | 329 | | | | 36 | | | | 365 | |
| FDIC deposit insurance assessment | | | 15 | | | | -- | | | | 15 | | | | 186 | | | | -- | | | | 186 | |
| Other real estate owned expenses | | | 22 | | | | -- | | | | 22 | | | | 20 | | | | -- | | | | 20 | |
| Advertising | | | 140 | | | | 55 | | | | 195 | | | | 183 | | | | 34 | | | | 217 | |
| Amortization of other intangible | | | 49 | | | | -- | | | | 49 | | | | 48 | | | | -- | | | | 48 | |
| Other | | | 780 | | | | 61 | | | | 841 | | | | 657 | | | | 59 | | | | 716 | |
| Total Non-Interest Expense | | | 8,198 | | | | 1,710 | | | | 9,908 | | | | 7,588 | | | | 1,578 | | | | 9,166 | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Pretax Segment Profit | | $ | 1,781 | | | $ | 1,646 | | | $ | 3,427 | | | $ | 1,881 | | | $ | 790 | | | $ | 2,671 | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Segment Assets | | $ | 286,986 | | | $ | 15,554 | | | $ | 302,540 | | | $ | 261,490 | | | $ | 9,914 | | | $ | 271,404 | |
(1) | Includes Quaint Oak Bancorp, Inc. and the Bank’s Subsidiaries, Quaint Oak Real Estate, Quaint Oak Abstract, Quaint Oak Insurance Agency, and QOB Properties. |
Notes to Consolidated Financial Statements (Continued)
Note 21 – Subsequent Events
Subsequent events are events or transactions that occur after the balance sheet date but before financial statements are issued. Recognized subsequent events are events or transactions that provide additional evidence about conditions that existed at the date of the balance sheet, including estimates inherent in the process of preparing financial statements. Nonrecognized subsequent events are events that provide evidence about conditions that did not exist at the date of the balance sheet but arose after that date. Management has reviewed all events occurring through the date the financial statements were available to be issued and determined the following subsequent events required disclosure:
The 2019 novel coronavirus (or "COVID-19" ) has adversely affected, and may continue to adversely affect economic activity globally, nationally and locally. Following the COVID-19 outbreak in December 2019 and January 2020, market interest rates have declined significantly, with the I0-year Treasury bond falling below 1.00% on March 3, 2020 for the first time. Such events also may adversely affect business and consumer confidence, generally, and the Company and its customers, and their respective suppliers, vendors and processors may be adversely affected. On March 3, 2020, the Federal Open Market Committee reduced the target federal funds rate by 50 basis points to 1.00% to 1.25%. This rate was further reduced to 0% to 0.25% on March 16, 2020. These reductions in interest rates and other effects of the COVID-19 outbreak may adversely affect the Company's financial condition and results of operations.
Notes to Consolidated Financial Statements (Continued)
Note 22 – Quaint Oak Bancorp, Inc. (Parent Company Only)
Condensed financial statements of Quaint Oak Bancorp, Inc. are as follows (in thousands):
Balance Sheets
| | | December 31, | |
| | | 2019 | | | 2018 | |
Assets | | | | | | |
| Cash and cash equivalents | | $ | 669 | | | $ | 1,596 | |
| Investment in Quaint Oak Bank | | | 31,512 | | | | 28,454 | |
| Premises and equipment, net | | | 1,559 | | | | 1,588 | |
| Other assets | | | 32 | | | | 29 | |
| Total Assets | | $ | 33,772 | | | $ | 31,667 | |
| | | | | | | | | |
Liabilities and Stockholders’ Equity | | | | | | | | |
| Subordinated debt | | $ | 7,865 | | | $ | 7,831 | |
| Stockholders’ equity | | | 25,907 | | | | 23,836 | |
| Total Liabilities and Stockholders’ Equity | | $ | 33,772 | | | $ | 31,667 | |
Statements of Income
| | | For the Year Ended December 31, | |
| | | 2019 | | | 2018 | |
Income | | | | | | |
| Dividends from subsidiary | | $ | -- | | | $ | 750 | |
| Interest income | | | 20 | | | | -- | |
| Rental income | | | 199 | | | | 151 | |
| Total Income | | | 219 | | | | 901 | |
| | | | | | | | | |
Expenses | | | | | | | | |
| Occupancy and equipment expense | | | 120 | | | | 116 | |
| Interest on subordinated debt | | | 519 | | | | 7 | |
| Other expenses | | | 161 | | | | 116 | |
| Total Expenses | | | 800 | | | | 239 | |
| | | | | | | | | |
| Net (Loss) Income Before Income Taxes | | | (581 | ) | | | 662 | |
Equity in Undistributed Net Income of Subsidiary | | | 2,936 | | | | 1,324 | |
Income Tax Benefit | | | 122 | | | | 18 | |
| Net Income | | $ | 2,477 | | | $ | 2,004 | |
| | | | | | | | | |
Comprehensive Income | | $ | 2,499 | | | $ | 2,017 | |
Notes to Consolidated Financial Statements (Continued)
Note 22 – Quaint Oak Bancorp, Inc. (Parent Company Only) (Continued)
Statements of Cash Flows
| | | For the Year Ended December 31, | |
| | | 2019 | | | 2018 | |
| | | | | | | |
| Operating Activities | | | | | | |
| Net income | | $ | 2,477 | | | $ | 2,004 | |
| Adjustments to reconcile net income to net cash (used in) provided by operating activities: | | | | | | | | |
| Undistributed net income in subsidiary | | | (2,936 | ) | | | (1,324 | ) |
| Depreciation expense | | | 53 | | | | 44 | |
| Amortization of subordinated debt issuance costs | | | 34 | | | | -- | |
| Stock-based compensation expense | | | 359 | | | | 340 | |
| Increase in other assets | | | (2 | ) | | | (84 | ) |
| Decrease in other liabilities | | | -- | | | | (11 | ) |
| Net cash provided by operating activities | | | (15 | ) | | | 969 | |
| | | | | | | | | |
| Investing Activities | | | | | | | | |
| Investment in subsidiary | | | -- | | | | (6,500 | ) |
| Purchase of property and equipment | | | (125 | ) | | | (209 | ) |
| Net cash used in investing activities | | | (125 | ) | | | (6,709 | ) |
| | | | | | | | | |
| Financing Activities | | | | | | | | |
| Net proceeds from the issuance of subordinated debt | | | -- | | | | 7,831 | |
| Dividends paid | | | (676 | ) | | | (511 | ) |
| Purchase of treasury stock | | | (339 | ) | | | (793 | ) |
| Proceeds from the reissuance of treasury stock | | | 38 | | | | 64 | |
| Proceeds from the exercise of stock options | | | 190 | | | | 534 | |
| Net cash (used in) provided by financing activities | | | (787 | ) | | | 7,125 | |
| | | | | | | | | |
| Net (Decrease) Increase in Cash and Cash Equivalents | | | (927 | ) | | | 1,385 | |
| Cash and Cash Equivalents-Beginning of Year | | | 1,596 | | | | 211 | |
| Cash and Cash Equivalents-End of Year | | $ | 669 | | | $ | 1,596 | |
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