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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
________________________________ 
FORM 10-Q
________________________________ 
☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: June 30, 2020
OR
☐ Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the transition period from _____ to _____

Commission file number: 001-35424
________________________________ 
HOMESTREET, INC.
(a Washington Corporation )
91-0186600
________________________________ 

601 Union Street, Suite 2000
Seattle, Washington 98101
(Address of principal executive offices)

Telephone Number - Area Code (206) 623-3050

Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock
HMST
Nasdaq Global Select Market


Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes  ☒   No  ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company" and "emerging growth company" in Rule 12b-2 of the Exchange Act:


 
Large Accelerated Filer
 
☐
Accelerated Filer
 
☒

 
 
 
 
 
 
Non-accelerated Filer
 
☐
Smaller Reporting Company
 
☐
 
 
 
 
 
 
Emerging growth Company
 
☐
 
 
 
 
 
 
 
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
 
☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐
 No ☒

The number of outstanding shares of the registrant's common stock as of August 6, 2020 was 22,707,451
 




PART I – FINANCIAL INFORMATION
 
 
 
ITEM 1
FINANCIAL STATEMENTS
 
 
 
ITEM 2
ITEM 3
ITEM 4
 
ITEM 1
ITEM 1A
ITEM 2
ITEM 3
ITEM 4
ITEM 5
ITEM 6

Unless we state otherwise or the content otherwise requires, references in this Form 10-Q to "HomeStreet," "we," "our," "us" or the "Company" refer collectively to HomeStreet, Inc., a Washington corporation, HomeStreet Bank ("Bank"), HomeStreet Capital Corporation ("HomeStreet Capital") and other direct and indirect subsidiaries of HomeStreet, Inc.


2

PART I
ITEM 1 FINANCIAL STATEMENTS


HOMESTREET, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)
 
June 30,
2020
 
December 31,
2019
 
 
 
 
 
 
 
(Unaudited)
 
 
ASSETS
 
 
 
 
Cash and cash equivalents
 
$
65,918

 
$
57,880

Investment securities
 
1,171,821

 
943,150

Loans held for sale ("LHFS")
 
303,546

 
208,177

Loans held for investment ("LHFI") (net of allowance for credit losses of $65,000 and $41,772)
 
5,367,278

 
5,072,784

Mortgage servicing rights
 
78,386

 
97,603

Premises and equipment, net
 
72,356

 
76,973

Other real estate owned ("OREO")
 
735

 
1,393

Goodwill and other intangibles assets
 
33,563

 
34,252

Other assets
 
257,515

 
291,595

Assets of discontinued operations
 
—

 
28,628

Total assets
 
$
7,351,118

 
$
6,812,435

LIABILITIES AND SHAREHOLDERS' EQUITY
 
 
 
 
Liabilities:
 
 
 
 
Deposits
 
$
5,656,321

 
$
5,339,959

Borrowings
 
713,590

 
471,590

Long-term debt
 
125,744

 
125,650

Accounts payable and other liabilities
 
160,814

 
192,910

Liabilities of discontinued operations
 
—

 
2,603

Total liabilities
 
6,656,469

 
6,132,712

Commitments and contingencies (Note 8)
 

 

Shareholders' equity:
 
 
 
 
Common stock, no par value, authorized 160,000,000 shares, issued and outstanding, 23,007,400 shares and 23,890,855 shares
 
290,871

 
300,729

Retained earnings
 
375,268

 
374,673

Accumulated other comprehensive income
 
28,510

 
4,321

Total shareholders' equity
 
694,649

 
679,723

Total liabilities and shareholders' equity
 
$
7,351,118

 
$
6,812,435


See accompanying notes to consolidated financial statements

3

HOMESTREET, INC. AND SUBSIDIARIES
CONSOLIDATED INCOME STATEMENTS
(Unaudited)
 
Three Months Ended June 30,
 
Six Months Ended June 30,
(in thousands, except share and per share data)
2020
 
2019
 
2020
 
2019
Interest income:
 
 
 
 
 
 
 
Loans
$
55,728

 
$
67,015

 
$
114,737

 
$
129,934

Investment securities
5,999

 
4,884

 
10,386

 
10,448

Cash, Fed Funds and other
75

 
180

 
428

 
380

Total interest income
61,802

 
72,079

 
125,551

 
140,762

Interest expense:
 
 
 
 
 
 
 
Deposits
8,175

 
16,940

 
22,958

 
31,252

Borrowings
2,131

 
5,952

 
5,663

 
12,766

Total interest expense
10,306

 
22,892

 
28,621

 
44,018

Net interest income
51,496

 
49,187

 
96,930

 
96,744

Provision for credit losses
6,469

 
—

 
20,469

 
1,500

Net interest income after provision for credit losses
45,027

 
49,187

 
76,461

 
95,244

Noninterest income:
 
 
 
 
 
 
 
Net gain on loan origination and sale activities
30,027

 
12,178

 
52,568

 
14,785

Loan servicing income
2,402

 
2,822

 
8,503

 
3,923

Deposit fees
1,566

 
2,024

 
3,456

 
3,769

Other
2,607

 
2,805

 
4,705

 
5,444

Total noninterest income
36,602

 
19,829

 
69,232

 
27,921

Noninterest expense:
 
 
 
 
 
 
 
Compensation and benefits
34,427

 
34,795

 
66,859

 
60,593

Information services
7,405

 
7,852

 
14,929

 
15,828

Occupancy
7,959

 
6,960

 
14,728

 
12,940

General, administrative and other
7,861

 
9,225

 
16,320

 
17,317

Total noninterest expense
57,652

 
58,832

 
112,836

 
106,678

Income from continuing operations before income taxes
23,977

 
10,184

 
32,857

 
16,487

Income tax expense continuing operations
5,073

 
1,292

 
6,814

 
2,537

Income from continuing operations
18,904

 
8,892

 
26,043

 
13,950

Loss from discontinued operations before income taxes
—

 
(16,678
)
 
—

 
(25,118
)
Income tax benefit discontinued operations
—

 
(2,198
)
 
—

 
(3,865
)
Loss from discontinued operations
—

 
(14,480
)
 
—

 
(21,253
)
Net income (loss)
$
18,904

 
$
(5,588
)
 
$
26,043

 
$
(7,303
)
Net income (loss) per share
 
 
 
 
 
 
 
Basic:
 
 
 
 
 
 
 
Income from continuing operations
$
0.81

 
$
0.32

 
$
1.11

 
$
0.51

Loss from discontinued operations
—

 
(0.54
)
 
—

 
(0.79
)
Total
$
0.81

 
$
(0.22
)
 
$
1.11

 
$
(0.28
)
 
 
 
 
 
 
 
 
Diluted:
 
 
 
 
 
 
 
  Income from continuing operations
$
0.81

 
$
0.32

 
$
1.10

 
$
0.51

Loss from discontinued operations
—

 
(0.54
)
 
—

 
(0.79
)
Total
$
0.81

 
$
(0.22
)
 
$
1.10

 
$
(0.28
)
Weighted average shares outstanding:
 
 
 
 
 
 
 
Basic
23,330,494

 
26,619,216

 
23,509,712

 
26,820,361

Diluted
23,479,845

 
26,802,130

 
23,670,063

 
26,993,653



See accompanying notes to consolidated financial statements

4

HOMESTREET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
(in thousands)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
 
 
Net income (loss)
$
18,904

 
$
(5,588
)
 
$
26,043

 
$
(7,303
)
 
Other comprehensive income (loss):
 
 
 
 
 
 
 
 
Unrealized gain (loss) investment securities available for sale ("AFS")
13,866

 
12,873

 
30,950

 
25,344

 
Reclassification for net (gains) losses included in income
(219
)
 
(137
)
 
(331
)
 
110

 
Other comprehensive income before tax
13,647

 
12,736

 
30,619

 
25,454

 
Income tax impact of:
 
 
 
 
 
 
 
 
Unrealized gain (loss) investment securities AFS
2,912

 
2,703

 
6,499

 
5,205

 
Reclassification for net (gains) losses included in income
(46
)
 
(29
)
 
(69
)
 
23

 
Total
2,866

 
2,674

 
6,430

 
5,228

 
Other comprehensive income
10,781

 
10,062

 
24,189

 
20,226

 
Total comprehensive income
$
29,685

 
$
4,474

 
$
50,232

 
$
12,923

 

See accompanying notes to consolidated financial statements.

5

HOMESTREET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(Unaudited)
 
(in thousands, except share data)
Number
of shares
 
Common stock
 
Retained
earnings
 
Accumulated
other
comprehensive
income (loss)
 
Total temporary equity
 
Total Permanent equity
 
 
 
 
 
 
 
 
 
 
 
 
For the three months ended June 30, 2019
 
 
 
 
 
 
 
 
 
 
Balance, March 31, 2019
27,038,257

 
$
342,560

 
$
411,826

 
$
(7,355
)
 
$
—

 
$
747,031

Net loss
—

 
—

 
(5,588
)
 
—

 
—

 
(5,588
)
Common stock issued
10,507

 
19

 
—

 
—

 
—

 
19

Share-based compensation expense
—

 
712

 
—

 
—

 
—

 
712

Other comprehensive income
—

 
—

 
—

 
10,062

 
—

 
10,062

Common stock repurchased
(963,600
)
 
(12,199
)
 
(16,127
)
 
—

 
—

 
(28,326
)
Reclassification to temporary equity
—

 
(21,876
)
 
(30,859
)
 
—

 
52,735

 
(52,735
)
Balance, June 30, 2019
26,085,164

 
$
309,216

 
$
359,252

 
$
2,707

 
$
52,735

 
$
671,175

 
 
 
 
 
 
 
 
 
 
 


For the six months ended June 30, 2019
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2018
26,995,348

 
$
342,950

 
$
412,009

 
$
(15,439
)
 
$
—

 
$
739,520

Net loss
—

 
—

 
(7,303
)
 
—

 
—

 
(7,303
)
Common stock issued
53,416

 
81

 
—

 
—

 
—

 
81

Share-based compensation expense
—

 
260

 
—

 
—

 
—

 
260

Cumulative effect of adoption of new accounting standards
—

 
—

 
1,532

 
(2,080
)
 
—

 
(548
)
Other comprehensive income
—

 
—

 
—

 
20,226

 
—

 
20,226

Common stock repurchased
(963,600
)
 
(12,199
)
 
(16,127
)
 
—

 
—

 
(28,326
)
Reclassification to temporary equity
—

 
(21,876
)
 
(30,859
)
 
—

 
52,735

 
(52,735
)
Balance, June 30, 2019
26,085,164

 
$
309,216

 
$
359,252

 
$
2,707

 
$
52,735

 
$
671,175

 
 
 
 
 
 
 
 
 
 
 
 
For the three months ended June 30, 2020
 
 
 
 
 
 
 
 
 
 
Balance, March 31, 2020
23,376,793

 
$
294,302

 
$
365,283

 
$
17,729

 
$
—

 
677,314

Net income
—

 
—

 
18,904

 
—

 
—

 
18,904

Dividends declared on common stock
—

 
—

 
(3,532
)
 
—

 
—

 
(3,532
)
Common stock issued
32,190

 
234

 
—

 
—

 
—

 
234

Share-based compensation expense
—

 
642

 
—

 
—

 
—

 
642

Other comprehensive income
—

 
—

 
—

 
10,781

 
—

 
10,781

Common stock repurchased
(401,583
)
 
(4,307
)
 
(5,387
)
 
—

 
—

 
(9,694
)
Balance, June 30, 2020
23,007,400

 
$
290,871

 
$
375,268

 
$
28,510

 
$
—

 
$
694,649

 
 
 
 
 
 
 
 
 
 
 
 
For the six months ended June 30, 2020
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2019
23,890,855

 
$
300,729

 
$
374,673

 
$
4,321

 
$
—

 
$
679,723

Net income
—

 
—

 
26,043

 
—

 
—

 
26,043

Dividends declared on common stock
—

 
—

 
(7,106
)
 
—

 
—

 
(7,106
)
Common stock issued
121,697

 
898

 
—

 
—

 
—

 
898

Share-based compensation expense
—

 
1,068

 
—

 
—

 
—

 
1,068

Cumulative effect of adoption of new accounting standards
—

 
—

 
(3,740
)
 
—

 
—

 
(3,740
)
Other comprehensive income
—

 
—

 
—

 
24,189

 
—

 
24,189

Common stock repurchased
(1,005,152
)
 
(11,824
)
 
(14,602
)
 
—

 
—

 
(26,426
)
Balance, June 30, 2020
23,007,400

 
$
290,871

 
$
375,268

 
$
28,510

 
$
—

 
$
694,649


See accompanying notes to consolidated financial statements

6

HOMESTREET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)

 
 
Six Months Ended June 30,
(in thousands)
2020
 
2019
 
 
 
 
CASH FLOWS FROM OPERATING ACTIVITIES:
 
 
 
Net income (loss)
$
26,043

 
$
(7,303
)
Adjustments to reconcile net income to net cash used in operating activities:
 
 
 
Depreciation, amortization and accretion
19,779

 
19,862

Provision for credit losses
20,469

 
1,500

Net fair value adjustment and gain on sale of LHFS
(32,701
)
 
(58,383
)
Gain on sale of mortgage servicing rights
—

 
(6,206
)
Origination of mortgage servicing rights
(9,978
)
 
(18,631
)
Change in fair value of mortgage servicing rights
26,678

 
24,971

Net (gain) loss on sale of investment securities
(331
)
 
110

Net gain on sale of loans originated as held for investment
(1,864
)
 
(3,640
)
Loss on lease abandonment and exit costs
2,617

 
17,519

Change in deferred income taxes
(8,188
)
 
(39,832
)
Share-based compensation expense
1,184

 
341

Origination of LHFS
(983,212
)
 
(2,539,081
)
Proceeds from sale of loans originated as held for sale
820,312

 
2,496,484

Changes in operating assets and liabilities:
 
 
 
(Increase) decrease in other assets
(19,691
)
 
8,245

Increase (decrease) in accounts payable and other liabilities
(6,431
)
 
(4,188
)
Net cash used in operating activities
(145,314
)
 
(108,232
)
 
 
 
 
CASH FLOWS FROM INVESTING ACTIVITIES:
 
 
 
Purchase of investment securities
(335,037
)
 
(24,148
)
Proceeds from sale of investment securities
55,615

 
119,412

Principal payments on investment securities
77,845

 
51,722

Proceeds from sale of OREO
650

 
744

Proceeds from sale of loans originated as held for investment
244,723

 
339,026

Purchase of loans
(20,124
)
 
—

Proceeds from sale of mortgage servicing rights
—

 
1,109

Net cash provided by disposal of discontinued operations
2,758

 
168,298

Net increase in LHFI
(403,373
)
 
(484,010
)
Purchase of premises and equipment
(1,145
)
 
(1,160
)
Net cash used for acquisitions
—

 
(47,389
)
Net cash (used in) provided by investing activities
(378,088
)
 
123,604


7

 
Six Months Ended June 30,
(in thousands)
2020
 
2019
 
 
 
 
CASH FLOWS FROM FINANCING ACTIVITIES:
 
 
 
Increase in deposits
316,301

 
597,574

Net increase (decrease) in borrowings (short-term), net
242,000

 
(518,000
)
Repayment of borrowings
—

 
(46,000
)
Repayment of lease principal
(724
)
 
(1,053
)
Purchases of Federal Home Loan Bank stock
(90,913
)
 
(92,206
)
Proceeds from sale Federal Home Loan Bank stock
97,646

 
113,655

Repurchase of common stock
(26,001
)
 
(28,326
)
Proceeds from stock issuance, net
237

 
—

Dividends paid on common stock
(7,106
)
 
—

Net cash provided by financing activities
531,440

 
25,644

Net increase in cash and cash equivalents
8,038

 
41,016

Cash and cash equivalents beginning of period
57,880

 
58,586

Cash and cash equivalents end of period
$
65,918


$
99,602

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
 
 
 
Cash paid during the period for:
 
 
 
Interest
$
29,532

 
$
48,407

Federal and state income taxes
516

 
11,310

Non-cash activities:
 
 
 
Decrease in lease liabilities and lease assets
38,754

 
—

LHFI foreclosed and transferred to OREO
—

 
915

Loans transferred from held for investment to held for sale
120,691

 
357,552

Loans transferred from held for sale to held for investment
4,340

 
4,723

Ginnie Mae loans (derecognized) recognized with the right to repurchase, net
12,341

 
(28,149
)
Receivable from sale of mortgage servicing rights
—

 
18,315

Acquisition:
 
 
 
Assets acquired
—

 
114,725

Liabilities assumed
—

 
74,942

Goodwill
—

 
7,606


See accompanying notes to consolidated financial statements

8

HomeStreet, Inc. and Subsidiaries
Notes to Interim Consolidated Financial Statements (Unaudited)

NOTE 1–SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

HomeStreet, Inc. and its wholly owned subsidiaries (the "Company") is a diversified financial services company serving customers primarily on the West Coast of the United States, including Hawaii. The Company is principally engaged in commercial banking, mortgage banking and consumer/retail banking activities. The Company's consolidated financial statements include the accounts of HomeStreet, Inc. and its wholly owned subsidiaries, HomeStreet Capital Corporation, HomeStreet Statutory Trusts and HomeStreet Bank (the "Bank") and the Bank's subsidiaries, HomeStreet Reinsurance, Ltd., Continental Escrow Company, HomeStreet Foundation, HS Properties, Inc., HS Evergreen Corporate Center LLC, Union Street Holdings LLC, HS Cascadia Holdings LLC and YNB Real Estate LLC. HomeStreet Bank was formed in 1986 and is a state-chartered commercial bank.

The Company's accounting and financial reporting policies conform with accounting principles generally accepted in the United States of America ("GAAP"). Inter-company balances and transactions have been eliminated in consolidation. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the financial statements and revenues and expenses during the reporting periods and related disclosures. We have reclassified certain amounts in our consolidated financial statements for prior periods to conform with our current presentation.

These unaudited interim financial statements reflect all adjustments that are, in the opinion of management, necessary for a fair statement of the results of the periods presented. These adjustments are of a normal recurring nature, unless otherwise disclosed in this Quarterly Report on Form 10-Q. The results of operations in the interim financial statements do not necessarily indicate the results that may be expected for the full year. The interim financial information should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2019, filed with the Securities and Exchange Commission ("2019 Annual Report on Form 10-K").

Risks and Uncertainties

The worldwide spread of coronavirus (“COVID-19”) has created significant uncertainty in the global, national, regional and local economies. There have been no comparable recent events that provide guidance to the effects of the spread of COVID-19 as a global pandemic may have, and, as a result, the near-term, short-term and ultimate impacts of COVID-19 and the extent to which COVID-19 impacts the Company’s business, results of operations and financial condition will depend on future developments, which are highly uncertain and difficult to predict.

Lease Accounting
We incurred impairment charges related to the closure of certain offices of $1.6 million and $1.3 million for the three months ended June 30, 2020 and 2019, respectively and $1.8 million and $3.8 million for the six months ended June 30, 2020 and 2019, respectively.
In light of changes to our strategic plan since 2018, we assessed our lease renewal assumptions in the second quarter of 2020 and determined it is not reasonably certain these lease renewal options will be exercised. This change in assumptions led to a $39 million reduction in both our right of use lease assets and lease liabilities in the second quarter of 2020.

Share Repurchase Program

At the beginning of 2020, the Company had in place a share repurchase program under which the Company could purchase up to $8.1 million of its common stock. During the first quarter of 2020, the Board authorized the repurchase of an additional $25 million of the Company’s common stock. During the first six months of 2020, the Company repurchased 977,073 shares of its common stock at an average price of $26.20 per share. On July 23, 2020 the Board authorized an additional $25 million share repurchase program, subject to regulatory approval, or nonobjection.

Goodwill

Goodwill is not amortized but is reviewed for potential impairment at the reporting unit level. Management analyzes its goodwill for impairment on an annual basis on June 30 and as of June 30, 2020 the Company concluded that there was no impairment of goodwill.

9


Recent Accounting Developments

In December 2019, the Financial Accounting Standards Board ("FASB") issued ASU No 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes” (“ASU 2019-12”). ASU 2019-12 removes certain exceptions to the general principles in Topic 740 in Generally Accepted Accounting Principles. ASU 2019-12 is effective for public entities for fiscal years beginning after December 15, 2020, with early adoption permitted. The Company does not expect ASU 2019-12 to have a material effect on the Company’s current financial position, results of operations or financial statement disclosures.

On January 1, 2020, the Company adopted ASU 2016-13 Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which replaces the incurred loss methodology ("ALLL") with an expected loss methodology that is referred to as the current expected credit losses ("CECL") methodology. The measurement of the expected credit losses under the CECL methodology is applicable to financial assets measured at amortized cost, including loan receivables and held-to-maturity debt securities. It also applies to off-balance sheet credit exposures such as loan commitments. In addition, ASC 326 made changes to the accounting for credit losses for available-for-sale ("AFS") debt securities.
The Company adopted CECL using the modified retrospective method for all financial assets measured at amortized cost and off-balance sheet ("OBS") credit exposure. Results for reporting periods beginning after January 1, 2020 are presented under ASC 326 while prior period amounts continue to be reported in accordance with previously applicable GAAP. The Company recorded a decrease of $3.7 million to the beginning balance of retained earnings on January 1, 2020 for the cumulative effect of adopting this guidance.
The Company adopted ASU 2016-13 using the prospective transition approach for debt securities for which other-than-temporary impairment had been recognized prior to January 1, 2020. As a result, the amortized cost basis remains the same before and after the effective date of this guidance.
The following table illustrates the impact of the adoption of CECL on January 1, 2020.

10

(in thousands)
 
As reported under ASC 450-20
 
Impact of ASC 326 adoption
 
As reported under ASC 326
Assets (1)
 
 
 
 
 
 
LHFI
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
Single family
 
$
6,450

 
$
468

 
$
6,918

Home equity and other
 
6,233

 
4,635

 
10,868

Total
 
12,683

 
5,103

 
17,786

Commercial real estate loans
 
 
 
 
 
 
Non-owner occupied commercial real estate
 
7,245

 
(3,392
)
 
3,853

Multifamily
 
7,015

 
(2,977
)
 
4,038

Construction/land development
 
 
 
 
 
 
Multifamily construction
 
2,848

 
693

 
3,541

Commercial real estate construction
 
624

 
(115
)
 
509

Single family construction
 
3,800

 
4,280

 
8,080

Single family construction to permanent
 
1,003

 
200

 
1,203

Total
 
22,535

 
(1,311
)
 
21,224

Commercial and industrial loans
 
 
 
 
 
 
Owner occupied commercial real estate
 
3,639

 
(2,459
)
 
1,180

Commercial business
 
2,915

 
510

 
3,425

Total
 
6,554

 
(1,949
)
 
4,605

Total allowance for credit losses
 
41,772

 
1,843

 
43,615

 
 
 
 
 
 
 
Liabilities
 
 
 
 
 
 
Allowance for credit losses on unfunded loan commitments
 
1,065

 
1,897

 
2,962

Total
 
$
42,837

 
$
3,740

 
$
46,577

 
 
 
 
 
 
 
(1) There was no impact from the adoption of this standard for either held to maturity ("HTM") or AFS investment securities.

The following accounting policies have been updated to reflect the adoption of CECL.

Allowance for Credit Losses for LHFI
The allowance for credit losses ("ACL") for LHFI is a valuation account that is deducted from the loans amortized cost basis to present the net amount expected to be collected on the loans. Loan balances are charged off against the allowance when management believes the non-collectability of a loan balance is confirmed. Expected recoveries may not exceed the aggregate of amounts previously charged-off and expected to be charged-off. The ACL for LHFI, as reported in our consolidated balance sheets, is adjusted by a provision for credit losses and reduced by the charge-offs of loan amounts, net of recoveries.
Management estimates the ACL balance using relevant available information from internal and external sources relating to past events, current conditions and reasonable and supportable forecasts. Historical credit loss experience provides the basis for the estimation of expected credit losses. Adjustments to historical loss information are made for differences in current loan-specific risk characteristics such as differences in underwriting standards, portfolio mix or delinquency levels or other relevant factors.
The credit loss estimation process involves procedures to appropriately consider the unique characteristics of its two loan portfolio segments, the consumer loan portfolio segment and the commercial loan portfolio segment. These two segments are further disaggregated into loan pools, the level at which credit risk is monitored. When computing allowance levels, credit loss assumptions are estimated using a model that categorizes loan pools based on loss history, delinquency status and other credit trends and risk characteristics, including current conditions and reasonable and supportable forecasts about the future. Determining the appropriateness of the ACL is complex and requires judgment by management about the effect of matters that are inherently uncertain. In future periods, evaluations of the overall loan portfolio, based on the factors and forecasts then prevailing, may result in material changes in the ACL and provision for credit losses in those future periods.

11

Credit Loss Measurement
The allowance level is influenced by current conditions related to loan volumes, loan asset quality ratings ("AQR") migration or delinquency status, historic loss experience and other conditions influencing loss expectations, such as reasonable and supportable forecasts of economic conditions. The methodology for estimating the amount of expected credit losses has two basic components: first, a pooled component for estimated expected credit losses for pools of loans that share similar risk characteristics and second an asset-specific component involving individual loans that do not share risk characteristics with other loans and the measurement of expected credit losses for such individual loans.
Loans that Share Similar Risk Characteristics with Other Loans
In estimating the component of the ACL, for loans that share similar risk characteristics with other loans, loans are segregated into loan pools based on similar risk characteristics, like product types or areas of risk concentration.
The Company's ACL model methodology is to build a reserve rate using historical life of loan default rates combined with assessments of current loan portfolio information and forecasted economic environment and business cycle information. The model uses statistical analysis to determine the life of loan default rates for the quantitative component and analyzes qualitative factors (Q-Factors) that assess the current loan portfolio conditions and forecasted economic environment. Below is the general overview our ACL model.
Historical Loss Rate
The Company chose to analyze loan data from a full economic cycle, to the extent that data was available, to calculate life of loan loss rates. Based on the current economic environment and available loan level data, it was determined the Loss Horizon Period (LHP) should begin prior to the economic recession that began in 2007. The Company plans to monitor and review the LHP on an annual basis to determine appropriate time frames to be included based on economic indicators.
Under CECL, the Company groups pools of loans by similar risk characteristics. Using these pools, sub-pools are established at a more granular level incorporating delinquency status and original FICO or original LTV (for consumer loans) and risk ratings (for commercial loans). Using the pool and sub-pool structure, cohorts are established historically on a quarterly basis containing the population in these sets as of that point in time. After the establishment of these cohorts, the loans within the cohorts are then tracked from that point forward to establish long-term Probability of Default ("PD") at the sub-pool level and Loss Given Default ("LGD") for the pool level. These historical cohorts and their PD/LGD outcomes are then averaged together to establish expected PDs and LGDs for each sub-pool.

Once historical cohorts are established, the loans in the cohort are tracked moving forward for default events. The Company has defined default events as the first dollar of loss. If a loan in the cohort has experienced a default event over the LHP then the balance of the loan at the time of cohort establishment becomes part of the numerator of the PD calculation. The Loss Given Probability of Default ("LGPD") or Expected Loss ("EL") is the weighted average PD for each sub-pool cohort times the average LGD for each pool. The output from the model then is a series of EL rates for each loan sub-pool, which are applied to the related outstanding balances for each loan sub-pool to determine the ACL reserve based on historical loss rates.
Q-Factors
The Q-Factors adjust the expected historic loss rates for current and forecasted conditions that are not provided for in the historical loss information. The Company has established a methodology for adjusting historical expected loss rates based on these more recent or forecasted changes. The Q-Factor methodology is based on a blend of quantitative analysis and management judgment and reviewed on a quarterly basis.
Each of the thirteen factors in the FASB standard were analyzed for common risk characteristics and grouped into seven consolidated Q-Factors as listed below.

12

Qualitative Factor
Financial Instruments - Credit Losses
Portfolio Credit Quality
The borrower's financial condition, credit rating, credit score, asset quality, or business prospects
The borrower's ability to make scheduled interest or principal payments
The volume and severity of past due financial assets and the volume and severity of adversely classified or rated financial assets
Remaining Payments
The remaining payment terms of the financial assets
The remaining time to maturity and the timing and extent of prepayments on the financial assets
Volume & Nature
The nature and volume of the entity's financial assets
Collateral Values
The value of underlying collateral on financial assets in which the collateral-dependent practical expedient has not been utilized
Economic
The environmental factors of a borrower and the areas in which the entity's credit is concentrated, such as: Changes and expected changes in national, regional and local economic and business conditions and developments in which the entity operates, including the condition and expected condition of various market segments
Credit Culture
The entity's lending policies and procedures, including changes in lending strategies, underwriting standards, collection, write-off and recovery practices, as well as knowledge of the borrower's operations or the borrower's standing in the community
The quality of the entity's credit review system
The experience, ability and depth of the entity's management, lending staff, and other relevant staff
Business Environment
The environmental factors of a borrower and the areas in which the entity's credit is concentrated, such as: Regulatory, legal, or technological environment to which the entity has exposure
The environmental factors of a borrower and the areas in which the entity's credit is concentrated, such as: Changes and expected changes in the general market condition of either the geographical area or the industry to which the entity has exposure


An eighth Q-Factor, Management Overlay, has been created to allow the Bank to adjust specific pools when conditions exist that were not contemplated in the model design that warrant an adjustment. The economic downturn caused by the COVID-19 pandemic and resulting accounting treatment of forbearances is an example of such a condition.
The Company has chosen two years as the forecast period based on management judgment and has determined that reasonable and supportable forecasts should be made for two of the Q-Factors: Economic and Collateral values.
Management has assigned weightings for each qualitative factor as well as individual metrics within each qualitative factor as to the relative importance of that factor or metric specific to each portfolio type. The Q-Factors above are evaluated using a seven-point scale ranging from significant improvement to significant deterioration.
The CECL Q-Factor methodology bounds the Q-Factor adjustments by a minimum and maximum range, based on the Bank’s own historical expected loss rates for each respective pool. The rating of the Q-Factor on the seven-point scale, along with the allocated weight, determines the final expected loss adjustment. The model is constructed so that the total of the Q-Factor adjustments plus the current expected loss rate cannot exceed the maximum or minimum two-year loss rate for that pool, which is aligned with the Bank's chosen forecast period. Loss rates beyond two years are not adjusted in the Q-Factor process and the model reverts to the historical mean loss rates. Management Overlays are not bounded by the historical maximums.
Quarterly, loan data is gathered to update the portfolio metrics analyzed in the Q-Factor model. The model is updated with current data and applicable forecasts, then the results are reviewed by management. After consensus is reached on all Q-Factor ratings, the results are input into the Q-Factor model and applied to the pooled loans which are reviewed to determine the adequacy of the reserve.

13

Additional details describing the model by portfolio segment are below:
Consumer Loan Portfolio
The consumer loan portfolio segment is comprised of the single family and home equity loan classes, which are underwritten after evaluating a borrower's capacity, credit and collateral. Other consumer loans are grouped with home equity loans. Capacity refers to a borrower's ability to make payments on the loan. Several factors are considered when assessing a borrower's capacity, including the borrower's employment, income, current debt, assets and level of equity in the property. Credit refers to how well a borrower manages current and prior debts as documented by a credit report that provides credit scores and current and past information about the borrower's credit history. Collateral refers to the type and use of property, occupancy and market value. Property appraisals are obtained to assist in evaluating collateral. Loan-to-property value and debt-to-income ratios, loan amount and lien position are considered in assessing whether to originate a loan. These borrowers are particularly susceptible to downturns in economic trends such as conditions that negatively affect housing prices, demand for housing and levels of unemployment.
Consumer Loan Portfolio Segment Estimated Loss Rate Model
Under CECL, the Bank utilizes pools of loans that are grouped by similar risk characteristics: Single Family and Home Equity Loans which includes Consumer loans. Sub-Pools are established at a more granular level for the calculation of PDs, incorporating delinquency status, original FICO and original LTV.
Consumer portfolio cohorts are established by grouping each ACL sub-pool at a point in time. Once historical cohorts are established, the loans in the cohort are tracked moving forward for default events.

The Q-Factors adjust the expected historic loss rates for current and forecasted conditions that are not provided for in the historical loss information. For Single Family loans all Q-Factors noted above are evaluated. For the Home Equity and Consumer loans, collateral values are not evaluated as the Bank has determined the FICO score trends are a more relevant predictor of default than current collateral value for those types of loans. These factors are evaluated based on current conditions and forecasts (as applicable), using a seven-point scale ranging from significant improvement to significant deterioration.
Commercial Loan Portfolio
The commercial loan portfolio segment is comprised of the non-owner occupied commercial real estate, multifamily, construction and land development, owner occupied commercial real estate and commercial business loan classes, whose underwriting standards consider the factors described for single family and home equity loan classes as well as others when assessing the borrower's and associated guarantors or other related party’s financial position. These other factors include assessing liquidity, net worth, leverage, other outstanding indebtedness of the borrower, the quality and reliability of cash expected to flow through the borrower (including the outflow to other lenders) and prior known experiences with the borrower.
This information is used to assess financial capacity, profitability and experience. Ultimate repayment of these loans is sensitive to interest rate changes, general economic conditions, liquidity and availability of long-term financing.
Commercial Loan Portfolio Segment Loss Rate Model
The Bank maintained loan classes above but has subdivided the construction and land development, which includes lot, land and acquisition and development loans, into the following ACL reporting pools to more accurately group risk characteristics: Multifamily, Commercial Real Estate, Single Family and Single Family construction to permanent. ACL sub-pools are established at a more granular level for the calculation of PDs, utilizing risk rating.
As outlined in the Bank’s policies, commercial loans pools are non-homogenous and are regularly assessed for credit quality. For purposes of CECL, loans are sub-pooled according to the following AQR Ratings:

•
1-6: These loans meet the definition of “Pass" assets. They are well protected by the current net worth and paying capacity of the obligor (or guarantors, if any) or by the fair value, less costs to acquire and sell in a timely manner, of any underlying collateral. The Bank further uses the available AQR ratings for components of the sub-pools.
•
7: These loans meet the regulatory definition of “Special Mention.” They contain potential weaknesses, that if uncorrected may result in deterioration of the likelihood of repayment or in the Bank’s credit position.
•
8: These loans meet the regulatory definition of “Substandard”. They are inadequately protected by the current sound worth and paying capacity of the borrower or of the collateral pledged, if any. They have well-defined weaknesses and have unsatisfactory characteristics causing unacceptable levels of risk.


14

Commercial segment cohorts are established by grouping each ACL sub-pool at a point in time. Once historical cohorts are established, the loans in the cohort are tracked moving forward for default events. The Q-Factors adjust the expected historic loss rates for current and forecasted conditions that are not provided for in the historical loss information. All the Q-Factors noted above are evaluated for Commercial portfolio loans except for Commercial Business and Owner Occupied Commercial Real Estate ("CRE") loans which exclude the collateral values Q-Factor. The Company has determined that these loans are primarily underwritten by evaluating the cash flow of the business and not the underlying collateral. Factors above are evaluated based on current conditions and forecasts (as applicable), using a seven-point scale ranging from significant improvement to significant deterioration.
Loans That Do Not Share Risk Characteristics with Other Loans
For a loan that does not share risk characteristics with other loans, expected credit loss is measured on net realizable value that is the difference between the discounted value of the expected future cash flows, based on the original effective interest rate and the amortized cost basis of the loan. For these loans, we recognize expected credit loss equal to the amount by which the net realizable value of the loan is less than the amortized cost basis of the loan (which is net of previous charge-offs and deferred loan fees and costs), except when the loan is collateral dependent, which is when the borrower is experiencing financial difficulty and repayment is expected to be provided substantially through the operation or sale of the collateral. In these cases, expected credit loss is measured as the difference between the amortized cost basis of the loan and the fair value of the collateral. The fair value of the collateral is adjusted for the estimated costs to sell if repayment or satisfaction of a loan is dependent on the sale (rather than only on the operation) of the collateral.
The starting point for determining the fair value of collateral is through obtaining external appraisals. Generally, collateral values for collateral dependent loans are updated every twelve months, either from external third parties or in-house certified appraisers. A third-party appraisal is required at least annually for substandard loans and OREO. Third party appraisals are obtained from a pre-approved list of independent, third party, local appraisal firms. Approval and addition to the list is based on experience, reputation, character, consistency and knowledge of the respective real estate market. Generally, appraisals are internally reviewed by the appraisal services group to ensure the quality of the appraisal and the expertise and independence of the appraiser. For performing consumer segment loans secured by real estate that are classified as collateral dependent, the Bank determines the fair value estimates quarterly using automated valuation services. Once the expected loss amount is determined, an allowance is recorded equal to the calculated expected credit loss and included in the ACL. If the calculated expected loss is determined to be permanent or not recoverable, the expected credit loss will be charged off. Factors considered by management in determining if the expected credit loss is permanent or not recoverable include whether management judges the loan to be uncollectible, repayment is deemed to be protracted beyond reasonable time frames, or the loss becomes evident owing to the borrower's lack of assets or, for single family loans, the loan is 180 days or more past due unless both well-secured and in the process of collection.
Allowance for Credit Losses for Off-Balance Sheet Credit Exposures
The Bank estimates expected credit losses over the contractual period in which the Bank is exposed to risk via a contractual obligation to extend credit, unless that obligation is unconditionally cancellable by the Bank. Reserves are required for off-balance-sheet credit exposures that are not unconditionally cancellable. The allowance for credit losses on unfunded loan commitments is based on an estimate of unfunded commitment utilization over the life of the loan, applying the EL to the estimated utilization balance as of the reporting period. As these estimated credit loss calculations are similar to the funded LHFI they share similar risks plus the additional risk from estimating commitment utilization.
Allowance for Credit Losses for Other Financial Instruments
The Company evaluates available-for-sale securities in an unrealized loss position, using a qualitative approach, at the end of each quarter to determine whether the decline in value is temporary or permanent. An unrealized loss exists when the fair value of an individual lot is less than its amortized cost basis. When qualitative factors indicate that a credit loss may exist, the Company compares the present value of cash flows expected to be collected from the security with the amortized cost basis of the security. The Company recognizes an ACL measured as the difference between the present value of expected cash flows and the amortized cost basis of the security, limited by the amount that the security’s fair value is less than its amortized cost basis. The Company does not believe any of these securities that were in an unrealized loss position at June 30, 2020 represent a credit loss impairment.

The Company carries a limited amount of HTM debt securities. Utilizing the CECL approach, the Company determined that the expected credit loss on this portfolio was immaterial, and therefore, an ACL for investment securities was not recorded as of June 30, 2020.


15


NOTE 2–DISCONTINUED OPERATIONS:

On March 29, 2019, the Company successfully closed and settled two sales of the rights to service $14.3 billion in total unpaid principal balance of single family mortgage loans serviced for Federal National Mortgage Association ("Fannie Mae"), Federal Home Loan Mortgage Corporation ("Freddie Mac") and Government National Mortgage Association ("Ginnie Mae"), representing 71% of HomeStreet's total single family mortgage loans serviced for others portfolio as of December 31, 2018. The sales resulted in a $2.0 million and $1.3 million pre-tax loss from discontinued operations for the three and six months ended June 30, 2019, respectively. The Company finalized the servicing transfer for these loans in 2019 and subserviced these loans through the transfer dates. These loans are excluded from the Company's mortgage servicing rights portfolio at June 30, 2019.
On March 31, 2019, based on mortgage market conditions and the operating environment, the Board adopted a Resolution of Exit or Disposal of Home Loan Center ("HLC") Based Mortgage Banking Operations to sell or abandon the assets and related personnel associated with those operations. The assets that were sold or abandoned largely represented the Company's former Mortgage Banking segment, the activities of which related to originating, servicing, underwriting, funding and selling single family residential mortgage loans.

The Company determined that the above actions constituted commitment to a plan of exit or disposal of certain long-lived assets (through sale or abandonment) and termination of employees. Further, the Company determined that the shift from a large-scale HLC based originator and servicer to a branch-focused product offering represented a strategic shift. As a result, the HLC-related mortgage banking operations are reported separately from the continuing operations as discontinued operations. In addition, the former Mortgage Banking operating segment and reporting unit were eliminated. This has resulted in a recast of the financial statements in 2019.

On April 4, 2019 the Company entered into a definitive agreement related to the sale of the HLC based mortgage origination business assets and transfer of personnel to Homebridge Financial Services, Inc. ("Homebridge").

On June 24, 2019 the Company completed the sale with Homebridge. This sale included assets related to 47 stand-alone HLCs, sublease or lease assignments of the related offices and the transfer of certain related mortgage personnel. These HLCs, along with certain other mortgage banking related assets and liabilities that were to be sold or abandoned within one year, are classified as discontinued operations in 2019 in the accompanying consolidated financial statements. HLCs that were not subleased or assigned were closed during the second quarter of 2019 and none remain. Certain components of the Company's former Mortgage Banking segment, including MSRs on certain mortgage loans that were not part of the sales and right-of-use assets and lease liabilities where we did not obtain full landlord release were classified as continuing operations based on the Company's intent.

At the end of the second quarter 2019, the Company also entered into a non-binding letter of interest to sell its ownership interest in WMS LLC at which time related operations also met the criteria to be classified as discontinued operations for periods presented. The sales transaction was closed in November 2019, resulting in an immaterial loss on disposal.

These discontinued operations activities, including the exit or disposal of the former mortgage banking segment, were concluded by December 31, 2019. Consequently, we ceased discontinued operations accounting effective January 1, 2020.


16

The following table summarizes the calculation of the net loss on disposal of discontinued operations.

(in thousands)
Three Months Ended June 30, 2019
 
Six Months Ended June 30, 2019
Proceeds from asset sales
$
3,461

 
$
186,612

Book value of asset sales
4,038

 
180,982

(Loss) gain on assets sold
(577
)
 
5,630

Transaction costs
2,759

 
9,177

Compensation expense related to the transactions
2,675

 
3,792

Facility and IT related costs
4,785

 
15,681

Total costs
10,219

 
28,650

Net loss on disposal
$
(10,796
)
 
$
(23,020
)


The carrying amount of major classes of assets and liabilities related to discontinued operations consisted of the following.
(in thousands)
December 31, 2019
Assets of discontinued operations
 
LHFS, at fair value
$
26,123

Other assets
2,505

Total
$
28,628

Liabilities of discontinued operations
 
Accounts payable and other liabilities
$
2,603


Income Statement of Discontinued Operations
(in thousands)
Three Months Ended June 30, 2019
 
Six Months Ended June 30, 2019
Net interest income
$
2,617

 
$
4,762

Noninterest income
23,458

 
62,727

Noninterest expense
42,753

 
92,607

Loss before income taxes
(16,678
)
 
(25,118
)
Income tax benefit
(2,198
)
 
(3,865
)
Loss from discontinued operations
$
(14,480
)
 
$
(21,253
)


Cash Flows for Discontinued Operations
(in thousands)
Six Months Ended June 30, 2019
Net cash used in operating activities
$
(55,257
)
Net cash provided by investing activities
169,407





17

NOTE 3–INVESTMENT SECURITIES:

The following table sets forth certain information regarding the amortized cost basis and fair values of our investment securities AFS and HTM.
 
 
At June 30, 2020
(in thousands)
Amortized
cost
 
Gross
unrealized
gains
 
Gross
unrealized
losses
 
Fair
value
 
 
 
 
 
 
 
 
AFS
 
 
 
 
 
 
 
Mortgage backed securities ("MBS"):
 
 
 
 
 
 
 
Residential
$
68,227

 
$
1,539

 
$
(185
)
 
$
69,581

Commercial
44,616

 
2,180

 
—

 
46,796

Collateralized mortgage obligations ("CMOs"):
 
 
 
 
 
 
 
Residential
287,112

 
7,687

 
(96
)
 
294,703

Commercial
162,584

 
3,542

 
(638
)
 
165,488

   Municipal bonds
545,512

 
22,460

 
(807
)
 
567,165

   Corporate debt securities
9,701

 
398

 
(3
)
 
10,096

   U.S. Treasury securities
1,297

 
8

 
—

 
1,305

   Agency debentures
12,362

 
7

 
(4
)
 
12,365

Total
$
1,131,411

 
$
37,821

 
$
(1,733
)
 
$
1,167,499

 
 
 
 
 
 
 
 
HTM
 
 
 
 
 
 
 
   Municipal bonds
$
4,322

 
$
220

 
$
—

 
$
4,542



 
At December 31, 2019
(in thousands)
Amortized
cost
 
Gross
unrealized
gains
 
Gross
unrealized
losses
 
Fair
value
 
 
 
 
 
 
 
 
AVAILABLE FOR SALE
 
 
 
 
 
 
 
MBS:
 
 
 
 
 
 
 
Residential
$
93,283

 
$
120

 
$
(1,708
)
 
$
91,695

Commercial
37,972

 
411

 
(358
)
 
38,025

CMOs:
 
 
 
 
 
 
 
Residential
292,370

 
935

 
(1,687
)
 
291,618

Commercial
156,693

 
684

 
(1,223
)
 
156,154

   Municipal bonds
333,303

 
8,997

 
(982
)
 
341,318

   Corporate debt securities
18,391

 
313

 
(43
)
 
18,661

   U.S. Treasury securities
1,296

 
11

 
—

 
1,307

Total
$
933,308

 
$
11,471

 
$
(6,001
)
 
$
938,778

 
 
 
 
 
 
 
 
HELD TO MATURITY 
 
 
 
 
 
 
 
   Municipal bonds
$
4,372

 
$
129

 
$
—

 
$
4,501




Mortgage-backed securities ("MBS") and collateralized mortgage obligations ("CMO") represent securities issued by government sponsored enterprises ("GSEs"). Most of the MBS and CMO securities in our investment portfolio are guaranteed by Fannie Mae, Ginnie Mae or Freddie Mac. Municipal bonds are comprised of general obligation bonds (i.e., backed by the general credit of the issuer) and revenue bonds (i.e., backed by either collateral or revenues from the specific project being financed) issued by various municipal corporations. As of June 30, 2020 and December 31, 2019, all securities held, including

18

municipal bonds and corporate debt securities, were rated investment grade, based upon external ratings where available and, where not available, based upon internal ratings which correspond to ratings as defined by Standard and Poor's Rating Services ("S&P") or Moody's Investors Services ("Moody's"). As of June 30, 2020 and December 31, 2019, substantially all securities held had ratings available by external ratings agencies.

Investment securities AFS that were in an unrealized loss position are presented in the following tables based on the length of time the individual securities have been in an unrealized loss position.

 
At June 30, 2020
 
Less than 12 months
 
12 months or more
 
Total
(in thousands)
Gross
unrealized
losses
 
Fair
value
 
Gross
unrealized
losses
 
Fair
value
 
Gross
unrealized
losses
 
Fair
value
 
 
 
 
 
 
 
 
 
 
 
 
MBS:
 
 
 
 
 
 
 
 
 
 
 
Residential
$
—

 
$
—

 
$
(185
)
 
$
2,610

 
$
(185
)
 
$
2,610

CMOs:
 
 
 
 
 
 
 
 
 
 
 
Residential
(92
)
 
14,315

 
(4
)
 
4,296

 
(96
)
 
18,611

Commercial
(68
)
 
3,466

 
(570
)
 
29,582

 
(638
)
 
33,048

Municipal bonds
(377
)
 
42,042

 
(430
)
 
25,309

 
(807
)
 
67,351

Corporate debt securities
(3
)
 
365

 
—

 
—

 
(3
)
 
365

Agency debentures
(4
)
 
7,353

 
—

 
—

 
(4
)
 
7,353

Total
$
(544
)
 
$
67,541

 
$
(1,189
)
 
$
61,797

 
$
(1,733
)
 
$
129,338



 
At December 31, 2019
 
Less than 12 months
 
12 months or more
 
Total
(in thousands)
Gross
unrealized
losses
 
Fair
value
 
Gross
unrealized
losses
 
Fair
value
 
Gross
unrealized
losses
 
Fair
value
 
 
 
 
 
 
 
 
 
 
 
 
MBS:
 
 
 
 
 
 
 
 
 
 
 
Residential
$
(409
)
 
$
18,440

 
$
(1,299
)
 
$
68,362

 
$
(1,708
)
 
$
86,802

Commercial
(352
)
 
21,494

 
(6
)
 
2,483

 
(358
)
 
23,977

CMOs:
 
 
 
 
 
 
 
 
 
 
 
Residential
(965
)
 
171,708

 
(722
)
 
29,264

 
(1,687
)
 
200,972

Commercial
(680
)
 
67,160

 
(543
)
 
41,605

 
(1,223
)
 
108,765

Municipal bonds
(334
)
 
39,127

 
(648
)
 
45,869

 
(982
)
 
84,996

Corporate debt securities
(5
)
 
3,689

 
(38
)
 
1,743

 
(43
)
 
5,432

Total
$
(2,745
)
 
$
321,618

 
$
(3,256
)
 
$
189,326

 
$
(6,001
)
 
$
510,944




There were no HTM in an unrealized loss position at June 30, 2020 or December 31, 2019.

The Company has evaluated investment securities AFS that are in an unrealized loss position and has determined that the decline in value is temporary and is related to the change in market interest rates since purchase. The decline in value is not related to the occurrence of any issuer-specific or industry-specific credit event. In addition, as of June 30, 2020 and December 31, 2019, the Company had not made a decision to sell any of its debt securities held, nor did the Company consider it more likely than not that it would be required to sell such securities before recovery of their amortized cost basis.


19

The following tables present the fair value of investment securities AFS and HTM by contractual maturity along with the associated contractual yield for the periods indicated below. The weighted-average yield is computed using the contractual coupon of each security weighted based on the fair value of each security and does not include adjustments to a tax equivalent basis.

 
At June 30, 2020
 
Within one year
 
After one year
through five years
 
After five years
through ten years
 
After
ten years
 
Total
(dollars in thousands)
Fair
Value
 
Weighted
Average
Yield
 
Fair
Value
 
Weighted
Average
Yield
 
Fair
Value
 
Weighted
Average
Yield
 
Fair
Value
 
Weighted
Average
Yield
 
Fair
Value
 
Weighted
Average
Yield
AFS
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   Municipal bonds
3,999

 
2.71
%
 
9,772

 
3.72
%
 
50,479

 
3.31
%
 
502,915

 
3.34
%
 
567,165

 
3.34
%
   Corporate debt securities
364

 
4.23
%
 
7,044

 
3.67
%
 
2,604

 
4.00
%
 
84

 
6.04
%
 
10,096

 
3.80
%
   U.S. Treasury securities
1,305

 
2.82
%
 
—

 
—
%
 
—

 
—
%
 
—

 
—
%
 
1,305

 
2.82
%
   Agency debentures
—

 
—
%
 
—

 
—
%
 
—

 
—
%
 
12,365

 
1.85
%
 
12,365

 
1.85
%
Total
$
5,668

 
2.83
%
 
$
16,816

 
3.70
%
 
$
53,083

 
3.34
%
 
$
515,364

 
3.30
%
 
$
590,931

 
3.31
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
HTM
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   Municipal bonds
$
—

 
—
%
 
$
1,787

 
2.93
%
 
$
2,755

 
2.15
%
 
$
—

 
—
%
 
$
4,542

 
2.46
%
 

 
At December 31, 2019
 
Within one year
 
After one year
through five years
 
After five years
through ten years
 
After
ten years
 
Total
(dollars in thousands)
Fair
Value
 
Weighted
Average
Yield
 
Fair
Value
 
Weighted
Average
Yield
 
Fair
Value
 
Weighted
Average
Yield
 
Fair
Value
 
Weighted
Average
Yield
 
Fair
Value
 
Weighted
Average
Yield
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
AFS
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   Municipal bonds
5,337

 
3.41
%
 
555

 
3.90
%
 
13,000

 
3.01
%
 
322,426

 
3.61
%
 
341,318

 
3.59
%
   Corporate debt securities
1,007

 
3.40
%
 
7,544

 
3.64
%
 
10,022

 
3.70
%
 
88

 
6.10
%
 
18,661

 
3.67
%
   U.S. Treasury securities
1,307

 
2.82
%
 
—

 
—
%
 
—

 
—
%
 
—

 
—
%
 
1,307

 
2.82
%
Total
$
7,651

 
3.31
%
 
$
8,099

 
3.66
%
 
$
23,022

 
3.31
%
 
$
322,514

 
3.62
%
 
$
361,286

 
3.59
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
HTM
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   Municipal bonds
—

 
—
%
 
1,787

 
2.90
%
 
2,714

 
2.09
%
 
—

 
—
%
 
4,501

 
2.41
%

MBS and CMOs are excluded from the tables above because such securities are not due at a single maturity date. The weighted average yield of MBS as of June 30, 2020 and December 31, 2019 was 2.21% and 2.20%, respectively. The weighted average yield of CMOs as of June 30, 2020 and December 31, 2019 was 1.93% and 2.38%, respectively.

The net realized gains realized from the sale of investment securities AFS were $0.2 million and $0.3 million for the quarter and six months ended June 30, 2020, respectively, and $0.1 million for the quarter ended June 30, 2019. The net realized loss from the sale of investment securities AFS was $0.1 million for the six months ended June 30, 2019. Proceeds from the sale of investment securities were $22 million and $24 million for the quarters ended June 30, 2020 and 2019, respectively.



20

The following table summarizes the carrying value of securities pledged as collateral to secure borrowings, public deposits and other purposes as permitted or required by law:

(in thousands)
At June 30,
2020
 
At December 31,
2019
 
 
 
 
Washington and California to secure public deposits
$
168,032

 
$
200,571

Other securities pledged
2,041

 
4,332

Total securities pledged as collateral
$
170,073

 
$
204,903




The Company assesses the creditworthiness of the counterparties that hold the pledged collateral and has determined that these arrangements have minimal risk.

Tax-exempt interest income on securities totaling $2.8 million and $2.5 million for the three months ended June 30, 2020 and 2019, respectively and $5.1 million and $5.3 million for the six months ended June 30, 2020 and 2019, respectively, was recognized.

NOTE 4-LOANS AND CREDIT QUALITY:
As a result of the adoption of CECL on January 1, 2020, there is a lack of comparability in both the reserves and provisions for credit losses for the periods presented. Results for reporting periods beginning after January 1, 2020 are presented using the CECL methodology, while comparative period information continues to be reported in accordance with the incurred loss methodology in effect for prior periods.

The Company's LHFI is divided into two portfolio segments, consumer loans and commercial loans. Within each portfolio segment, the Company monitors and assesses credit risk based on the risk characteristics of each of the following loan classes: single family and home equity and other loans within the consumer loan portfolio segment and non-owner occupied commercial real estate, multifamily, construction and land development, owner occupied commercial real estate and commercial business loans within the commercial loan portfolio segment.
LHFI consist of the following.
(in thousands)
At June 30,
2020
 
December 31, 2019(2)
 
 
 
 
 
 
Consumer loans
 
 
 
 
Single family (1)
$
983,166

 
$
1,072,706

 
Home equity and other
484,757

 
553,376

 
Total
1,467,923

 
1,626,082

 
Commercial real estate loans
 
 

 
Non-owner occupied commercial real estate
867,967

 
895,546

 
Multifamily
1,306,079

 
999,140

 
Construction/land development
630,066

 
701,762

 
Total
2,804,112

 
2,596,448

 
Commercial and industrial loans
 
 
 
 
Owner occupied commercial real estate
462,903

 
477,316

 
Commercial business
697,340

 
414,710

 
Total
1,160,243

 
892,026

 
                  Total LHFI
5,432,278

 
5,114,556

 
ACL
(65,000
)
 
(41,772
)
 
Total LHFI less ACL
$
5,367,278

 
$
5,072,784

 

(1)
Includes $5.8 million and $3.5 million at June 30, 2020 and December 31, 2019, respectively, of loans where a fair value option election was made at the time of origination and, therefore, are carried at fair value with changes recognized in the consolidated income statements.

21

(2)
Net deferred loans fees and costs of $24.5 million are now included within the carrying amounts of the loan balances as of December 31, 2019, in order to conform to the current period presentation.


Loans in the amount of $1.6 billion and $2.0 billion at June 30, 2020 and December 31, 2019, respectively, were pledged to secure borrowings from the Federal Home Loan Bank ("FHLB") as part of our liquidity management strategy. Additionally, loans totaling $552 million and $491 million at June 30, 2020 and December 31, 2019, respectively, were pledged to secure borrowings from the Federal Reserve Bank.

Credit Risk Concentrations

Concentrations of credit risk arise when a number of customers are engaged in similar business activities or activities in the same geographic region, or when they have similar economic features that would cause their ability to meet contractual obligations to be similarly affected by changes in economic conditions.

LHFI are primarily secured by real estate located in the Pacific Northwest, California and Hawaii. At June 30, 2020, the Company had one concentration representing 10% or more of the total portfolio by state and property type for the loan class of multifamily in the state of California, which represented 16.4% of the total portfolio. At December 31, 2019, we had concentrations representing 10% or more of the total portfolio by state and property type for the loan classes of single family in Washington and multifamily in California, which represented 10.7% and 12.2% of the total portfolio, respectively.

Credit Quality
Management considers the level of allowance of credit losses to be appropriate to cover credit losses expected over the life of the loans for the LHFI portfolio as of June 30, 2020. The cumulative loss rate used as the basis for the estimate of credit losses is comprised of the Bank’s historical loss experience and eight qualitative factors for current and forecasted periods.
During the six months ended June 30, 2020 the historical expected loss rates decreased from January 1, 2020 implementation due to minimal losses and our stable portfolio credit composition. During the six months ended June 30, 2020, the Qualitative Factors increased significantly due to the forecasted impacts of the COVID-19 pandemic. As of June 30, 2020, the Bank expects that the markets in which it operates will have deterioration in collateral values and economic outlook over the two-year forecast period, with negative risk factors peaking in the first year and modestly improving in the second year.
In addition to the ACL for LHFI, the Company maintains a separate allowance for credit losses on unfunded loan commitments which is included in accounts payable and other liabilities on our consolidated balance sheets. The allowance for credit losses on unfunded commitments was $2.1 million and $1.1 million at June 30, 2020 and December 31, 2019, respectively.
The Bank has elected to exclude accrued interest receivable from the evaluation of the ACL. Accrued interest on LHFI was $20.1 million at June 30, 2020 and was reported in other assets in the consolidated balance sheets.

Activity in the ACL was as follows.
 
Three Months Ended June 30,
 
Six Months Ended June 30,
(in thousands)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
Beginning balance
$
58,299

 
$
43,176

 
$
41,772

 
$
41,470

Provision for credit losses
6,705

 
(14
)
 
21,360

 
1,569

Recoveries, net of (charge-offs)
(4
)
 
92

 
25

 
215

Impact of ASC 326 adoption 
—

 
—

 
1,843

 
—

Ending balance
$
65,000

 
$
43,254

 
$
65,000

 
$
43,254




22

Activity in the ACL by loan portfolio and loan sub-class was as follows.

 
Three Months Ended June 30, 2020
(in thousands)
Beginning balance
 
Charge-offs
 
Recoveries
 
Provision (Reversal)
 
Ending
balance
 
 
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
 
 
Single family
$
8,587

 
$
—

 
$
1

 
$
(518
)
 
$
8,070

Home equity and other
12,408

 
(88
)
 
59

 
(1,253
)
 
11,126

            Total
20,995

 
(88
)
 
60

 
(1,771
)
 
19,196

Commercial real estate loans
 
 
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
9,021

 
—

 
—

 
(1,696
)
 
7,325

Multifamily
4,265

 
—

 
—

 
1,122

 
5,387

Construction/land development


 
 
 
 
 
 
 


Multifamily construction
3,218

 
—

 
—

 
593

 
3,811

Commercial real estate construction
382

 
—

 
—

 
58

 
440

Single family construction
6,585

 
—

 
—

 
(716
)
 
5,869

Single family construction to permanent
1,512

 
—

 
—

 
3

 
1,515

     Total
24,983

 
—

 
—

 
(636
)
 
24,347

Commercial and industrial loans
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
4,160

 
—

 
—

 
1,481

 
5,641

Commercial business
8,161

 
—

 
24

 
7,631

 
15,816

     Total
12,321

 
—

 
24

 
9,112

 
21,457

Total ACL
$
58,299

 
$
(88
)
 
$
84

 
$
6,705

 
$
65,000

 
 
 
 
 
 
 
 
 
 

 
Three Months Ended June 30, 2019
(in thousands)
Beginning
balance
 
Charge-offs
 
Recoveries
 
Provision (Reversal)
 
Ending
balance
 
 
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
 
 
Single family
$
8,190

 
$
—

 
$
57

 
$
(707
)
 
$
7,540

Home equity and other
6,945

 
(95
)
 
80

 
(146
)
 
6,784

            Total
15,135

 
(95
)
 
137

 
(853
)
 
14,324

Commercial real estate loans
 
 
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
6,172

 
—

 
—

 
(23
)
 
6,149

Multifamily
6,360

 
—

 
—

 
687

 
7,047

Construction/land development
9,185

 
—

 
43

 
(57
)
 
9,171

     Total
21,717

 
—

 
43

 
607

 
22,367

Commercial and industrial loans
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
3,302

 
—

 
—

 
157

 
3,459

Commercial business
3,022

 
—

 
7

 
75

 
3,104

     Total
6,324

 
—

 
7

 
232

 
6,563

Total ACL
$
43,176

 
$
(95
)
 
$
187

 
$
(14
)
 
$
43,254



23

    
 
Six Months Ended June 30, 2020
 
(in thousands)
Prior to adoption of ASC 326
 
Impact of ASC 326 adoption
 
Charge-offs
 
Recoveries
 
Provision (Reversal)
 
Ending
balance
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
 
 
 
 
 
Single family
$
6,450

 
$
468

 
$
—

 
$
54

 
$
1,098

 
$
8,070

 
Home equity and other
6,233

 
4,635

 
(305
)
 
208

 
355

 
11,126

 
     Total
12,683

 
5,103

 
(305
)
 
262

 
1,453

 
19,196

 
Commercial real estate loans
 
 
 
 
 
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
7,245

 
(3,392
)
 
—

 
—

 
3,472

 
7,325

 
Multifamily
7,015

 
(2,977
)
 
—

 
—

 
1,349

 
5,387

 
Construction/land development
 
 
 
 
 
 
 
 
 
 


 
Multifamily construction
2,848

 
693

 
—

 
—

 
270

 
3,811

 
Commercial real estate construction
624

 
(115
)
 
—

 
—

 
(69
)
 
440

 
Single family construction
3,800

 
4,280

 
—

 
163

 
(2,374
)
 
5,869

 
Single family construction to permanent
1,003

 
200

 
—

 
—

 
312

 
1,515

 
     Total
22,535


(1,311
)
 
—


163


2,960

 
24,347

 
Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 


 
Owner occupied commercial real estate
3,639

 
(2,459
)
 
—

 
—

 
4,461

 
5,641

 
Commercial business
2,915

 
510

 
(143
)
 
48

 
12,486

 
15,816

 
     Total
6,554

 
(1,949
)
 
(143
)
 
48

 
16,947

 
21,457

 
Total ACL
$
41,772

 
$
1,843

 
$
(448
)
 
$
473

 
$
21,360

 
$
65,000

 


 
Six Months Ended June 30, 2019
 
(in thousands)
Beginning
balance
 
Charge-offs
 
Recoveries
 
Provision (Reversal)
 
Ending
balance
 
Consumer loans
 
 
 
 
 
 
 
 
 
 
Single family
$
8,217

 
$
—

 
$
142

 
$
(819
)
 
$
7,540

 
Home equity and other
6,850

 
(141
)
 
153

 
(78
)
 
6,784

 
     Total
15,067

 
(141
)
 
295

 
(897
)
 
14,324

 
Commercial real estate loans
 
 
 
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
5,495

 
—

 
—

 
654

 
6,149

 
Multifamily
5,754

 
—

 
—

 
1,293

 
7,047

 
Construction/land development
9,001

 
—

 
47

 
123

 
9,171

 
     Total
20,250


—


47


2,070


22,367

 
Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
3,278

 
—

 
—

 
181

 
3,459

 
Commercial business
2,875

 
—

 
14

 
215

 
3,104

 
     Total
6,153

 
—

 
14

 
396

 
6,563

 
Total ACL
$
41,470

 
$
(141
)
 
$
356

 
$
1,569

 
$
43,254

 


Credit Quality Indicators
Management regularly reviews loans in the portfolio to assess credit quality indicators and to determine appropriate loan classification and grading in accordance with applicable bank regulations. The Company's risk rating methodology assigns risk ratings ranging from 1 to 10, where a higher rating represents higher risk. The risk rating of 9 is not used.

24

Per the Company's policies, most commercial loans pools are non-homogenous and are regularly assessed for credit quality. The rating categories can be generally described by the following groupings for non-homogeneous loans:
•
1-6: These loans meet the definition of “Pass" assets. They are well protected by the current net worth and paying capacity of the obligor (or guarantors, if any) or by the fair value, less costs to acquire and sell in a timely manner, of any underlying collateral.
•
7: These loans meet the regulatory definition of “Special Mention.” They contain potential weaknesses, that if uncorrected may result in deterioration of the likelihood of repayment or in the Bank’s credit position.
•
8: These loans meet the regulatory definition of “Substandard”. They are inadequately protected by the current sound worth and paying capacity of the borrower or of the collateral pledged, if any. They have well-defined weaknesses and have unsatisfactory characteristics causing unacceptable levels of risk.
•
10: A loan, or the portion of a loan determined to meet the regulatory definition of “Loss.” The amounts classified as loss have been charged-off.


The risk rating categories can be generally described by the following groupings for homogeneous loans:
•
1-6: These loans meet the definition of “Pass" assets. A homogenous “Pass” loan is typically risk rated based on payment performance.
•
7: These loans meet the regulatory definition of “Special Mention.” A homogeneous special mention loan, risk rated 7, is less than 90 days past due from the required payment date at month-end.
•
8: These loans meet the regulatory definition of “Substandard”. A homogeneous substandard loan, risk rated 8, is 90 days or more past due from the required payment date at month-end.
•
10: These loans meet the regulatory definition of “Loss”. A closed-end homogeneous loan not secured by real estate is risk rated 10 when past due 120 cumulative days or more from the contractual due date. Closed-end homogenous loans secured by real estate and all open-end homogenous loans are risk rated 10 when past due 180 cumulative days or more from the contractual due date. These loans, or the portion of these loans classified as loss, are generally charged-off in the month in which the applicable past due period elapses.

Small balance commercial loans are generally considered homogenous unless 30 days or more past due or modified in a troubled debt restructuring that was an interest rate concession or payment modification with a significant balloon and the concession period has not been completed. The risk rating classification for such loans are based on the non-homogenous definitions noted above.

Residential, home equity and consumer loans modified in a troubled debt restructuring are considered homogeneous unless the modification was an interest rate concession or payment modification with a significant balloon and the concession modification period has not been completed. The risk rating classification for such loans are based on the non-homogeneous definitions noted above.


25

The following table presents a vintage analysis of the consumer portfolio segment by loan sub-class and delinquency status.
 
 
At June 30, 2020
(in thousands)
 
2020
 
2019
 
2018
 
2017
 
2016
 
2015 and prior
 
Revolving
 
Revolving-term
 
Total
CONSUMER PORTFOLIO
 
 
 
 
 
 
 
 
 
 
 
 
Single family
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Current
 
$
71,161

 
$
96,155

 
$
206,234

 
$
219,252

 
$
82,049

 
$
302,394

 
$
—

 
$
—

 
$
977,245

Past due:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
30-59 days
 
—

 
280

 
—

 
241

 
—

 
454

 
—

 
—

 
975

60-89 days
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

90+ days
 
—

 
1,088

 
154

 
959

 
—

 
2,745

 
—

 
—

 
4,946

Total (1)
 
71,161

 
97,523

 
206,388

 
220,452

 
82,049

 
305,593

 
—

 
—

 
983,166

Home equity and other
 
 
 
 
 
 
 
 
 
 
 
 
Current
 
1,106

 
2,780

 
1,980

 
2,183

 
787

 
7,637

 
453,623

 
9,763

 
479,859

Past due:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
30-59 days
 
2

 
7

 
—

 
—

 
—

 
—

 
150

 
9

 
168

60-89 days
 
—

 
4

 
3

 
2

 
275

 
—

 
519

 
34

 
837

90+ days
 
—

 
23

 
10

 
—

 
—

 
35

 
1,531

 
15

 
1,614

Total
 
1,108

 
2,814

 
1,993

 
2,185

 
1,062

 
7,672

 
455,823

 
9,821

 
482,478

Total consumer portfolio
 
$
72,269

 
$
100,337

 
$
208,381

 
$
222,637

 
$
83,111

 
$
313,265

 
$
455,823

 
$
9,821

 
$
1,465,644


(1)
Includes $5.8 million at June 30, 2020 of loans where a fair value option election was made at the time of origination and, therefore, are carried at fair value with changes recognized in the consolidated income statements.


The following table presents a vintage analysis of the commercial portfolio segment by loan sub-class, risk rating and delinquency status.
 
 
At June 30, 2020
(in thousands)
 
2020
 
2019
 
2018
 
2017
 
2016
 
2015 and prior
 
Revolving
 
Revolving-term
 
Total
COMMERCIAL PORTFOLIO
 
 
 
 
 
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
1-6 Pass
 
$
39,773

 
$
191,421

 
$
166,749

 
$
147,466

 
$
155,889

 
$
155,826

 
$
9,687

 
$
1,156

 
$
867,967

7- Special Mention
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

8 - Substandard
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Total
 
39,773

 
191,421

 
166,749

 
147,466

 
155,889

 
155,826

 
9,687

 
1,156

 
867,967

Multifamily
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
1-6 Pass
 
467,102

 
396,612

 
79,348

 
73,186

 
179,180

 
102,682

 
7,969

 
—

 
1,306,079

7- Special Mention
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

8 - Substandard
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Total
 
467,102

 
396,612

 
79,348

 
73,186

 
179,180

 
102,682

 
7,969

 
—

 
1,306,079

Multifamily construction
 
 
 
 
 
 
 
 
 
 
 
 
1-6 Pass
 
1,118

 
12,400

 
111,452

 
11,906

 
—

 
—

 
—

 
—

 
136,876

7- Special Mention
 
—

 
—

 
—

 
—

 
23,323

 
—

 
—

 
—

 
23,323

8 - Substandard
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Total
 
1,118

 
12,400

 
111,452

 
11,906

 
23,323

 
—

 
—

 
—

 
160,199



26

 
 
At June 30, 2020
(in thousands)
 
2020
 
2019
 
2018
 
2017
 
2016
 
2015 and prior
 
Revolving
 
Revolving-term
 
Total
Commercial real estate construction
 
 
 
 
 
 
 
 
 
 
 
 
1-6 Pass
 
3,964

 
—

 
2,172

 
46,994

 
—

 
636

 
—

 
—

 
53,766

7- Special Mention
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

8 - Substandard
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Total
 
3,964

 
—

 
2,172

 
46,994

 
—

 
636

 
—

 
—

 
53,766

Single family construction
 
 
 
 
 
 
 
 
 
 
 
 
1-6 Pass
 
61,773

 
79,917

 
41,803

 
359

 
468

 
676

 
70,788

 
—

 
255,784

7- Special Mention
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

8 - Substandard
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Total
 
61,773

 
79,917

 
41,803

 
359

 
468

 
676

 
70,788

 
—

 
255,784

Single family construction to permanent
 
 
 
 
 
 
 
 
 
 
 
 
Current
 
19,171

 
107,660

 
31,935

 
3,830

 
—

 
—

 
—

 
—

 
162,596

Past due:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
30-59 days
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

60-89 days
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

90+ days
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Total
 
19,171

 
107,660

 
31,935

 
3,830

 
—

 
—

 
—

 
—

 
162,596

Owner occupied commercial real estate
 
 
 
 
 
 
 
 
 
 
 
 
1-6 Pass
 
16,514

 
80,198

 
53,687

 
89,007

 
124,101

 
61,629

 
—

 
8,131

 
433,267

7- Special Mention
 
—

 
—

 
12,269

 
10,947

 
—

 
—

 
2

 
227

 
23,445

8 - Substandard
 
—

 
97

 
1,111

 
2,750

 
678

 
1,235

 
—

 
320

 
6,191

Total
 
16,514

 
80,295

 
67,067

 
102,704

 
124,779

 
62,864

 
2

 
8,678

 
462,903

Commercial business
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
1-6 Pass
 
331,795

 
85,711

 
63,543

 
44,862

 
21,818

 
19,912

 
108,952

 
5,002

 
681,595

7- Special Mention
 
—

 
—

 
—

 
66

 
—

 
120

 
2,032

 
183

 
2,401

8 - Substandard
 
—

 
715

 
8,068

 
453

 
1,789

 
1,580

 
645

 
94

 
13,344

Total
 
331,795

 
86,426

 
71,611

 
45,381

 
23,607

 
21,612

 
111,629

 
5,279

 
697,340

Total commercial portfolio
 
$
941,210

 
$
954,731

 
$
572,137

 
$
431,826

 
$
507,246

 
$
344,296

 
$
200,075

 
$
15,113

 
$
3,966,634

Total LHFI
 
$
1,013,479

 
$
1,055,068

 
$
780,518

 
$
654,463

 
$
590,357

 
$
657,561

 
$
655,898

 
$
24,934

 
$
5,432,278




The following tables presents a vintage analysis of year to date charge-offs and year to date recoveries of the consumer portfolio and commercial portfolio segment by loan sub-class.

27

 
 
At June 30, 2020
(in thousands)
 
2020
 
2019
 
2018
 
2017
 
2016
 
2015 and prior
 
Revolving
 
Revolving-term
 
Total
CONSUMER PORTFOLIO
 
 
 
 
 
 
 
 
 
 
 
 
Single family
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Charge-offs
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Recoveries
 
—

 
—

 
—

 
—

 
—

 
54

 
—

 
—

 
54

Net
 
—

 
—

 
—

 
—

 
—

 
54

 
—

 
—

 
54

Home equity and other
 
 
 
 
 
 
 
 
 
 
 
 
Charge-offs
 
—

 
(57
)
 
(23
)
 
(1
)
 
—

 
—

 
(224
)
 
—

 
(305
)
Recoveries
 
—

 
—

 
3

 
2

 
6

 
72

 
125

 
—

 
208

Net
 
—

 
(57
)
 
(20
)
 
1

 
6

 
72

 
(99
)
 
—

 
(97
)
Consumer Portfolio
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Charge-offs
 
—

 
(57
)
 
(23
)
 
(1
)
 
—

 
—

 
(224
)
 
—

 
(305
)
Recoveries
 
—

 
—

 
3

 
2

 
6

 
126

 
125

 
—

 
262

Total net
 
$
—

 
$
(57
)
 
$
(20
)
 
$
1

 
$
6

 
$
126

 
$
(99
)
 
$
—

 
$
(43
)

 
 
At June 30, 2020
(in thousands)
 
2020
 
2019
 
2018
 
2017
 
2016
 
2015 and prior
 
Revolving
 
Revolving-term
 
Total
COMMERCIAL PORTFOLIO
 
 
 
 
 
 
 
 
 
 
 
 
Single family construction
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Charge-offs
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Recoveries
 
—

 
—

 
—

 
—

 
—

 
163

 
—

 
—

 
163

Net
 
—

 
—

 
—

 
—

 
—

 
163

 
—

 
—

 
163

Commercial business
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Charge-offs
 
—

 
—

 
—

 
(41
)
 
(102
)
 
—

 
—

 
—

 
(143
)
Recoveries
 
—

 
—

 
—

 
—

 
—

 
48

 
—

 
—

 
48

Net
 
—

 
—

 
—

 
(41
)
 
(102
)
 
48

 
—

 
—

 
(95
)
Commercial portfolio
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Charge-offs
 
—

 
—

 
—

 
(41
)
 
(102
)
 
—

 
—

 
—

 
(143
)
Recoveries
 
—

 
—

 
—

 
—

 
—

 
211

 
—

 
—

 
211

Total net
 
$
—

 
$
—

 
$
—

 
$
(41
)
 
$
(102
)
 
$
211

 
$
—

 
$
—

 
$
68

All loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Charge-offs
 
—

 
(57
)
 
(23
)
 
(42
)
 
(102
)
 
—

 
(224
)
 
—

 
(448
)
Recoveries
 
—

 
—

 
3

 
2

 
6

 
337

 
125

 
—

 
473

Total net
 
$
—

 
$
(57
)
 
$
(20
)
 
$
(40
)
 
$
(96
)
 
$
337

 
$
(99
)
 
$
—

 
$
25



Collateral Dependent Loans
A loan is collateral dependent when the borrower is experiencing financial difficulty and repayment is expected to be provided substantially through the operation or sale of the collateral. In these cases, expected credit loss is measured as the difference between the amortized cost basis of the loan and the fair value of the collateral. The fair value of the collateral is adjusted for the estimated costs to sell if repayment or satisfaction of a loan is dependent on the sale (rather than only on the operation) of the collateral.
The following table presents the amortized cost basis of collateral-dependent loans by loan sub-class and collateral type. All collateral dependent loans are reviewed quarterly and loan amounts are charged down to fair value of the collateral, less costs

28

to sell if the loss is confirmed and the expected repayment is from the sale of the collateral. If the expected repayment of the loan is from the operation of the collateral, then the cost of sale is not deducted from the fair value of the collateral.
 
 
At June 30, 2020
(in thousands)
 
Land
 
1-4 Family
 
Multifamily
 
Non-residential real estate
 
Other non-real estate
 
Total
Consumer loans
 
 
 
 
 
 
 
 
 
 
 
 
Single family 
 
$
—

 
$
812

 
$
—

 
$
—

 
$
—

 
$
812

Home equity loans and other
 
—

 
—

 
—

 
—

 
—

 
—

   Total
 
—

 
812

 
—

 
—

 
—

 
812

Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
 
1,789

 
—

 
—

 
4,305

 
—

 
6,094

Commercial business
 
1,787

 
715

 
—

 
230

 
7,786

 
10,518

   Total
 
3,576

 
715

 
—

 
4,535

 
7,786

 
16,612

  Total collateral-dependent loans
 
$
3,576

 
$
1,527

 
$
—

 
$
4,535

 
$
7,786

 
$
17,424



Nonaccrual and Past Due Loans
Loans are placed on nonaccrual status when the full and timely collection of principal and interest is doubtful, generally when the loan becomes 90 days or more past due for principal or interest payment or if part of the principal balance has been charged off. Loans whose repayments are insured by the Federal Housing Administration ("FHA") or guaranteed by the Veterans Administration ("VA") are generally maintained on accrual status even if 90 days or more past due.

The following table presents nonaccrual status for loans in compliance with ASC 326-20-50-16.
 
At June 30, 2020
 
At December 31, 2019
(in thousands)
Nonaccrual
 
Nonaccrual with no related ACL
 
90 days or
more past
due and
accruing
 
Nonaccrual
 
Nonaccrual with no related ACL
 
90 days or
more past
due and
accruing
 
 
 
 
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
 
 
 
 
Single family
$
5,174

 
$
1,040

 
$
18,589

 
$
5,364

 
$
1,652

 
$
19,702

Home equity and other
1,614

 
—

 
—

 
1,160

 
9

 
—

Total
6,788

 
1,040

 
18,589

 
6,524

 
1,661

 
19,702

Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
6,071

 
6,071

 
—

 
2,891

 
2,892

 
—

        Commercial business
9,048

 
8,479

 
—

 
3,446

 
2,954

 
—

Total
15,119

 
14,550

 
—

 
6,337

 
5,846

 
—

Total nonaccrual loans
$
21,907

 
$
15,590

 
$
18,589

 
$
12,861

 
$
7,507

 
$
19,702





29

The following tables present an aging analysis of past due loans by loan portfolio segment and loan sub-class.
 
At June 30, 2020
 
 
Past Due and Still Accruing
 
 
 
 
 
 
 
 
 
(in thousands)
30-59 days

 
60-89 days

 
90 days or
more

 
Nonaccrual
 
Total past
due and nonaccrual (4)
 
Current
 
Total
loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Single family
$
4,173

 
$
2,621

 
$
18,589

 
$
5,174

 
$
30,557

 
$
952,609

(1) 
$
983,166

(2) 
Home equity and other
169

 
837

 
—

 
1,614

 
2,620

 
479,858

 
482,478

 
Total
4,342

 
3,458

 
18,589

 
6,788

 
33,177

 
1,432,467

 
1,465,644

 
Commercial real estate loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
—

 
—

 
—

 
—

 
—

 
867,967

 
867,967

 
Multifamily
—

 
—

 
—

 
—

 
—

 
1,306,079

 
1,306,079

 
Construction/land development
 
 
 
 
 
 
 
 


 
 
 

 
Multifamily construction
—

 
—

 
—

 
—

 
—

 
160,199

 
160,199

 
Commercial real estate construction
—

 
—

 
—

 
—

 
—

 
53,766

 
53,766

 
Single family construction
—

 
—

 
—

 
—

 
—

 
255,784

 
255,784

 
Single family construction to permanent
—

 
—

 
—

 
—

 
—

 
162,596

 
162,596

 
Total
—

 
—

 
—

 
—

 
—

 
2,806,391

 
2,806,391

 
Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
—

 
—

 
—

 
6,071

 
6,071

 
456,832

 
462,903

 
Commercial business
643

 
2,005

 
—

 
9,048

 
11,696

 
685,644

 
697,340

 
Total
643

 
2,005

 
—

 
15,119

 
17,767

 
1,142,476

 
1,160,243

 
Total loans
$
4,985

 
$
5,463

 
$
18,589

 
$
21,907

 
$
50,944

 
$
5,381,334

 
$
5,432,278

 


30

 
At December 31, 2019
 
 
Past Due and Still Accruing
 
 
 
 
 
 
 
 
 
(in thousands)
30-59 days

 
60-89 days

 
90 days or
more

 
Nonaccrual
 
Total past
due and nonaccrual(4)
 
Current
 
Total
loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Single family
$
5,694

 
$
4,261

 
$
19,702

 
$
5,364

 
$
35,021

 
$
1,037,685

(1) 
$
1,072,706

(2) 
Home equity and other
837

 
372

 
—

 
1,160

 
2,369

 
551,007

 
553,376

 
Total
6,531

 
4,633

 
19,702

 
6,524

 
37,390

 
1,588,692

 
1,626,082

 
Commercial real estate loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
—

 
—

 
—

 
—

 
—

 
895,546

 
895,546

 
Multifamily
—

 
—

 
—

 
—

 
—

 
999,140

 
999,140

 
Construction and land development
—

 
—

 
—

 
—

 
—

 
701,762

 
701,762

 
Total commercial real estate loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total
—

 
—

 
—

 
—

 
—

 
2,596,448

 
2,596,448

 
Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
—

 
—

 
—

 
2,891

 
2,891

 
474,425

 
477,316

 
Commercial business
44

 
—

 
—

 
3,446

 
3,490

 
411,220

 
414,710

 
Total
44

 
—

 
—

 
6,337

 
6,381

 
885,645

 
892,026

 
Total loans
$
6,575

 
$
4,633

 
$
19,702

 
$
12,861

 
$
43,771

 
$
5,070,785

 
$
5,114,556

(3) 

(1)
Includes $5.8 million and $3.5 million of loans at June 30, 2020 and December 31, 2019, respectively, where a fair value option election was made at the time of origination and, therefore, are carried at fair value with changes recognized in our consolidated income statements.
(2)
FHA-insured and VA-guaranteed single family loans that are 90 days or more past due are maintained on accrual status if they are determined to have little to no risk of loss.
(3)
Net deferred loans fees and costs of $24.5 million were included within the carrying amounts of the loan balances as of December 31, 2019, in order to conform with the current period presentation.
(4)
Includes loans whose repayments are insured by the FHA or guaranteed by the VA or SBA of $25.6 million and $28.4 million at June 30, 2020 and December 31, 2019, respectively.



31

The following tables present information about troubled debt restructuring ("TDR") activity during the periods indicated.


 
 
Three Months Ended June 30, 2020
 
Six Months Ended June 30, 2020
 
(dollars in thousands)
 
Number of loan
modifications
 
Recorded
investment
 
Related charge-
offs
 
Number of loan
modifications
 
Recorded
investment
 
Related charge-
offs
 
Consumer loans
 
 
 
 
 
 
 
 
 
 
 
 
 
Single family
 
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate reduction
 
4

 
$
1,023

 
$
—

 
15

 
$
3,236

 
$
—

 
Payment restructure
 
6

 
1,202

 
—

 
9

 
1,656

 
—

 
Total
 
10

 
2,225

 
—

 
24

 
4,892

 
—

 
Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
 
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
 
Payment restructure
 
—

 
—

 
—

 
1

 
678

 
—

 
Commercial business
 
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
 
Payment restructure
 
—

 
—

 
—

 
1

 
1,125

 
—

 
Total commercial and industrial
 
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
 
Payment restructure
 
—

 
—

 
—

 
2

 
1,803

 
—

 
Total
 
—

 
—

 
—

 
2

 
1,803

 
—

 
Total loans
 
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate reduction
 
4

 
1,023

 
—

 
15

 
3,236


—

 
Payment restructure
 
6

 
1,202

 
—

 
11

 
3,459


—

 
Total
 
10

 
$
2,225

 
$
—

 
26

 
$
6,695

 
$
—

 

32


 
 
Three Months Ended June 30, 2019
 
Six Months Ended June 30, 2019
(dollars in thousands)
 
Number of loan
modifications
 
Recorded
investment
 
Related charge-
offs
 
Number of loan
modifications
 
Recorded
investment
 
Related charge-
offs
 
 
 
 
 
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
 
 
 
 
 
Single family
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate reduction
 
2

 
$
82

 
$
—

 
7

 
$
1,274

 
$
—

Payment restructure
 
42

 
8,723

 
—

 
90

 
18,484

 
—

Home equity and other
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
Payment restructure
 
1

 
116

 
—

 
1

 
116

 
—

Total consumer
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate reduction
 
2

 
82

 
—

 
7

 
1,274

 
—

Payment restructure
 
43

 
8,839

 
—

 
91

 
18,600

 
—

Total
 
45

 
8,921

 
—

 
98

 
19,874

 
—

Commercial real estate loans
 
 
 
 
 
 
 
 
 
 
 
 
Construction and land development
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
Payment restructure
 
—

 
—

 
—

 
1

 
4,675

 
—

Total commercial real estate
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
Payment restructure
 
—

 
—

 
—

 
1

 
4,675

 
—

Total
 
—

 
—

 
—

 
1

 
4,675

 
—

Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
Payment restructure
 
—

 
—

 
—

 
1

 
5,840

 
—

Commercial business
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
Payment restructure
 
1

 
259

 
—

 
1

 
259

 
—

Total commercial and industrial
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
Payment restructure
 
1

 
259

 
—

 
2

 
6,099

 
—

Total
 
1

 
259

 
—

 
2

 
6,099

 
—

Total loans
 
 
 
 
 
 
 
 
 
 
 
 
Concession type:
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate reduction
 
2

 
82

 
—

 
7

 
1,274

 
—

Payment restructure
 
44

 
9,098

 
—

 
94


29,374

 
—

Total
 
46

 
$
9,180

 
$
—

 
101

 
$
30,648

 
$
—




The CARES Act provides temporary relief from the accounting and disclosure requirements for TDRs for certain loan modifications that are the result of a hardship that is related, either directly or indirectly, to the COVID-19 pandemic. In addition, interagency guidance issued by federal banking regulators and endorsed by the FASB staff has indicated that borrowers who receive relief are not experiencing financial difficulty if they meet the following qualifying criteria:

•
The modification is in response to the National Emergency related to the COVID pandemic;

33

•
The borrower was current at the time the modification program was implemented; and
•
The modification is short-term

We have elected to apply temporary relief under Section 4013 of the CARES Act to certain eligible short-term modifications and will not treat qualifying loan modifications as TDRs for accounting or disclosure purposes. Additionally, eligible short-term loan modifications subject to the practical expedient in the interagency guidance will not be treated as TDRs for accounting or disclosure purposes if they qualify. 

As of June 30, 2020, excluding any SBA guaranteed loans for which the government is making payments as provided for under the CARES Act, or single family loans that are guaranteed by FHA or VA, the Company had granted forbearances on
572 loans with outstanding balances of $350 million.

The Bank will exercise judgment in determining the risk rating for impacted borrowers and will not automatically adversely classify credits that are affected by COVID-19. The Bank also will not designate loans with deferrals granted due to COVID-19 as past due because of the deferral. Due to the short-term nature of the forbearance and other relief programs we are offering as a result of the COVID-19 pandemic, we expect that borrowers granted relief under these programs will generally not be reported as nonaccrual.

The following table presents loans that were modified as TDRs within the previous 12 months and subsequently re-defaulted during the three and six months ended June 30, 2020 and 2019, respectively. A TDR loan is considered re-defaulted when it becomes doubtful that the objectives of the modifications will be met, generally when a consumer loan TDR becomes 60 days or more past due on principal or interest payments or when a commercial loan TDR becomes 90 days or more past due on principal or interest payments.
 
Three Months Ended June 30,
 
2020
 
2019
(dollars in thousands)
Number of loan relationships that re-defaulted
 
Recorded
investment
 
Number of loan relationships that re-defaulted
 
Recorded
investment
 
 
 
 
 
 
 
 
Consumer loans - single family
4

 
$
918

 
1

 
$
171


 
Six Months Ended June 30,
 
2020
 
2019
(dollars in thousands)
Number of loan relationships that re-defaulted
 
Recorded
investment
 
Number of loan relationships that re-defaulted
 
Recorded
investment
 
 
 
 
 
 
 
 
Consumer loans - single family
10

 
$
2,199

 
6

 
$
1,230




34

This section reports results prior to the January 1, 2020 adoption of ASC 326 and is presented in accordance with previously applicable GAAP.
The following table summarizes designated loan grades by loan portfolio segment and loan class.
 
At December 31, 2019
(in thousands)
Pass
 
Special mention
 
Substandard
 
Total
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
Single family
$
1,056,166

(1) 
$
8,802

 
$
5,364

 
$
1,070,332

Home equity and other
531,102

 
664

 
1,160

 
532,926

Total
1,587,268

 
9,466

 
6,524

 
1,603,258

Commercial real estate loans
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
894,896

 
—

 
—

 
894,896

Multifamily
996,498

 
—

 
—

 
996,498

Construction/land development
681,445

 
20,954

 
—

 
702,399

Total
2,572,839

 
20,954

 
—

 
2,593,793

Commercial and industrial loans
 
 
 
 
 
 
 
Owner occupied commercial real estate
460,319

 
12,709

 
5,144

 
478,172

Commercial business
402,060

 
9,405

 
3,415

 
414,880

Total
862,379

 
22,114

 
8,559

 
893,052

Total LHFI
$
5,022,486

 
$
52,534

 
$
15,083

 
$
5,090,103

(1)
Includes $3.5 million of loans where a fair value option election was made at the time of origination and, therefore, are carried at fair value with changes recognized in the consolidated income statements.

As of December 31, 2019, none of the Company's loans were rated Loss.


35

The following tables disaggregate our ACL and recorded investment in loans by impairment methodology.
 
At December 31, 2019
(in thousands)
Allowance:
collectively
evaluated for
impairment
 
Allowance:
individually
evaluated for
impairment
 
Total
 
Loans:
collectively
evaluated for
impairment
 
Loans:
individually
evaluated for
impairment
 
Total
 
 
 
 
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
 
 
 
 
Single family
$
6,333

 
$
117

 
$
6,450

 
$
1,005,386

 
$
61,503

 
$
1,066,889

Home equity and other
6,815

 
28

 
6,843

 
532,038

 
863

 
532,901

            Total
13,148

 
145

 
13,293

 
1,537,424

 
62,366

 
1,599,790

Commercial real estate loans
 
 
 
 
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
7,249

 
—

 
7,249

 
894,896

 
—

 
894,896

Multifamily
7,015

 
—

 
7,015

 
996,498

 
—

 
996,498

Construction/land development
8,679

 
—

 
8,679

 
702,399

 
—

 
702,399

     Total
22,943

 
—

 
22,943

 
2,593,793

 
—

 
2,593,793

Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
3,640

 
—

 
3,640

 
475,281

 
2,891

 
478,172

Commercial business
2,953

 
8

 
2,961

 
411,386

 
3,494

 
414,880

     Total
6,593

 
8

 
6,601

 
886,667

 
6,385

 
893,052

Total loans evaluated for impairment
42,684

 
153

 
42,837

 
5,017,884

 
68,751

 
5,086,635

Loans carried at fair value (1)
—

 
—

 
—

 
—

 
—

 
3,468

Total LHFI
$
42,684

 
$
153

 
$
42,837

 
$
5,017,884

 
$
68,751

 
$
5,090,103

(1)
Comprised of single family loans where a fair value option election was made at the time of origination and, therefore, are carried at fair value with changes recognized in the consolidated income statements.



36

The following tables present impaired loans by loan portfolio segment and loan class.
 
At December 31, 2019
(in thousands)
Recorded
investment (1)
 
Unpaid
principal
balance (2)
 
Related
allowance
 
 
 
 
 
 
With no related allowance recorded:
 
 
 
 
 
Consumer loans
 
 
 
 
 
Single family(3)
$
60,009

 
$
60,448

 
$
—

Home equity and other
472

 
472

 
—

                     Total
60,481

 
60,920

 
—

Commercial and industrial loans
 
 
 
 
 
Owner occupied commercial real estate
2,891

 
3,013

 
—

Commercial business
2,954

 
3,267

 
—

             Total
5,845

 
6,280

 
—

Total
$
66,326

 
$
67,200

 
$
—

With an allowance recorded:
 
 
 
 
 
Consumer loans
 
 
 
 
 
Single family
$
1,494

 
$
1,494

 
$
117

Home equity and other
391

 
391

 
28

                     Total
1,885

 
1,885

 
145

Commercial and industrial loans
 
 
 
 
 
Commercial business
540

 
919

 
8

Total
540

 
919

 
8

Total
$
2,425

 
$
2,804

 
$
153

Combined:
 
 
 
 
 
Consumer loans
 
 
 
 
 
Single family (3)
$
61,503

 
$
61,942

 
$
117

Home equity and other
863

 
863

 
28

Total
62,366

 
62,805

 
145

Commercial and industrial loans
 
 
 
 
 
Owner occupied commercial real estate
2,891

 
3,013

 
—

Commercial business
3,494

 
4,186

 
8

Total
6,385

 
7,199

 
8

Total impaired loans
$
68,751

 
$
70,004

 
$
153

 
(1)
Includes partial charge-offs and nonaccrual interest paid and purchase discounts and premiums.
(2)
Unpaid principal balance does not include partial charge-offs, purchase discounts and premiums or nonaccrual interest paid. Related allowance is calculated on net book balances not unpaid principal balances.
(3)
Includes $59.8 million in single family performing TDRs.


37

The following tables provide the average recorded investment and interest income recognized on impaired loans by portfolio segment and class.

 
 
Three Months Ended June 30, 2019
 
 
 
 
 
(in thousands)
 
Average Recorded Investment
 
Interest Income Recognized
Consumer loans
 
 
 
 
Single family
 
$
69,664

 
$
720

Home equity and other
 
1,086

 
14

Total
 
70,750

 
734

Commercial real estate loans
 
 
 
 
Non-owner occupied commercial real estate
 
6

 
—

Multifamily
 
486

 
7

Construction/land development
 
2,338

 
—

             Total
 
2,830

 
7

Commercial and industrial loans
 
 
 
 
Owner occupied commercial real estate
 
4,112

 
19

Commercial business
 
1,679

 
9

Total
 
5,791

 
28

Total impaired loans
 
$
79,371

 
$
769

    
 
 
Six Months Ended June 30, 2019
 
 
 
 
 
(in thousands)
 
Average Recorded Investment
 
Interest Income Recognized
Consumer loans
 
 
 
 
Single family
 
$
68,968

 
$
1,426

Home equity and other
 
1,136

 
32

Total
 
70,104

 
1,458

Commercial real estate loans
 
 
 
 
Non-owner occupied commercial real estate
 
4

 
—

Multifamily
 
488

 
14

Construction/land development
 
1,800

 
—

Total

2,292


14

Commercial and industrial loans
 
 
 
 
Owner occupied commercial real estate
 
3,148

 
112

Commercial business
 
1,731

 
20

Total
 
4,879

 
132

Total impaired loans
 
$
77,275

 
$
1,604












38

NOTE 5–DEPOSITS:

Deposit balances, including stated rates, were as follows.
 
(in thousands)
At June 30,
2020
 
Weighted Average Rate
 
At December 31,
2019
 
Weighted Average Rate
 
 
 
 
 
 
 
 
Noninterest-bearing demand deposits
$
1,316,764

 
—
%
 
$
907,918

 
—
%
Interest-bearing demand deposits
484,869

 
0.20
%
 
373,832

 
0.38
%
Savings
246,817

 
0.07
%
 
219,182

 
0.21
%
Money market
2,471,388

 
0.35
%
 
2,224,494

 
1.25
%
Certificates of deposit
1,136,483

 
1.69
%
 
1,614,533

 
2.24
%
     Total
$
5,656,321

 
0.51
%
 
$
5,339,959

 
1.23
%



Certificates of deposit outstanding mature as follows.
 
(in thousands)
At June 30,
2020
 
 
Within one year
$
972,161

One to two years
102,972

Two to three years
39,231

Three to four years
12,824

Four to five years
9,295

Total
$
1,136,483



The aggregate amount of certificate of deposits in denominations of more than $250 thousand at June 30, 2020 and December 31, 2019 were $138 million and $223 million, respectively. There were $136 million and $266 million of brokered deposits at June 30, 2020 and December 31, 2019, respectively.


NOTE 6–DERIVATIVES AND HEDGING ACTIVITIES:

To reduce the risk of significant interest rate fluctuations on the value of certain assets and liabilities, such as certain mortgage LHFS or MSRs, the Company utilizes derivatives, such as forward sale commitments, futures, option contracts, interest rate swaps and interest rate swaptions as risk management instruments in its hedging strategy. Derivative transactions are measured in terms of notional amount, which is not recorded in the consolidated balance sheets. The notional amount is generally not exchanged and is used as the basis for interest and other contractual payments.

Derivatives are reported at their respective fair values in the other assets or accounts payable and other liabilities line items on the consolidated balance sheets, with changes in fair value reflected in current period earnings.

As permitted under U.S. GAAP, the Company nets derivative assets and liabilities when a legally enforceable master netting agreement exists between the Company and the derivative counterparty, which are documented under industry standard master agreements and credit support annexes. The Company's master netting agreements provide that following an uncured payment default or other event of default, the non-defaulting party may promptly terminate all transactions between the parties and determine a net amount due to be paid to, or by, the defaulting party.

The collateral used under the Company's master netting agreements is typically cash, but securities may be used under agreements with certain counterparties. Receivables related to cash collateral that has been paid to counterparties is included in other assets. Payables related to cash collateral that has been received from counterparties is included in accounts payable and other liabilities. Interest is owed on amounts received from counterparties and we earn interest on cash paid to counterparties. Any securities pledged to counterparties as collateral remain on the consolidated balance sheets. At June 30, 2020 the Company had liabilities of $8.6 million in cash collateral received from counterparties and receivables of $17.1 million in cash collateral paid to counterparties. At December 31, 2019 the cash collateral received from counterparties was $15.2 million with $2.9 million in cash collateral paid to counterparties under derivative transactions.

In addition, the Company periodically enters into certain commercial loan interest rate swap agreements in order to provide commercial loan customers the ability to convert from variable to fixed interest rates. Under these agreements, the Company enters into a variable-rate loan agreement with a customer in addition to a swap agreement. This swap agreement effectively converts the customer’s variable rate loan into a fixed rate. The Company then enters into a corresponding swap agreement with a third-party in order to offset its exposure on the variable and fixed components of the customer loan agreement. The interest rate swap agreements with the customers and third parties are marked to market in earnings. The notional amount of open interest rate swap agreements at June 30, 2020 and December 31, 2019 were $191 million and $144 million, respectively. Mark-to-market losses recorded to other noninterest income in our consolidated income statements were $0.2 million and $0.7 million for the three and six months ended June 30, 2020, respectively, and less than $0.1 million and $0.1 million for the three and six months ended June 30, 2019, respectively.

For further information on the policies that govern derivative and hedging activities, see Note 1, Summary of Significant Accounting Policies, and Note 12, Derivatives and Hedging Activities, within our 2019 Annual Report on Form 10-K.


39

The notional amounts and fair values for derivatives consist of the following.
 
 
At June 30, 2020
 
Notional amount
 
Fair value derivatives
(in thousands)
 
 
Asset
 
Liability
 
 
 
 
 
 
Forward sale commitments
$
919,167

 
$
978

 
$
(3,765
)
Interest rate lock commitments
464,049

 
17,967

 
—

Interest rate swaps
605,113

 
32,838

 
(26,395
)
Eurodollar futures
646,000

 
—

 
(4
)
Total derivatives before netting
$
2,634,329

 
51,783

 
(30,164
)
Netting adjustment/Cash collateral (1)
 
 
(17,980
)
 
26,499

Carrying value on consolidated balance sheet
 
 
$
33,803

 
$
(3,665
)


 
At December 31, 2019
 
Notional amount
 
Fair value derivatives
(in thousands)
 
 
Asset
 
Liability
 
 
 
 
 
 
Forward sale commitments
$
651,838

 
$
830

 
$
(492
)
Interest rate lock commitments
124,379

 
2,281

 
(58
)
Interest rate swaps
688,516

 
27,097

 
(10,889
)
Eurodollar futures
2,232,000

 
3

 
—

Total derivatives before netting
$
3,696,733

 
30,211

 
(11,439
)
Netting adjustment/Cash collateral (1)
 
 
(21,414
)
 
9,101

Carrying value on consolidated balance sheet(2)
 
 
$
8,797

 
$
(2,338
)

(1)
Includes net cash collateral paid of $8.5 million and net cash collateral received of $12.3 million at June 30, 2020 and December 31, 2019, respectively.
(2)
Includes both continuing and discontinued operations.

The following tables present gross and net information about derivative instruments.
 
At June 30, 2020
(in thousands)
Gross fair value
 
Netting adjustments/ Cash collateral (1)
 
Carrying value
 
Securities not offset in consolidated balance sheet (disclosure-only netting)
 
Net amount
 
 
 
 
 
 
 
 
 
 
Derivative assets
$
51,783

 
$
(17,980
)
 
$
33,803

 
$
—

 
$
33,803

Derivative liabilities
(30,164
)
 
26,499

 
(3,665
)
 
—

 
(3,665
)

 
At December 31, 2019
(in thousands)
Gross fair value
 
Netting adjustments/ Cash collateral (1)
 
Carrying value
 
Securities not offset in consolidated balance sheet (disclosure-only netting)
 
Net amount
 
 
 
 
 
 
 
 
 
 
Derivative assets
$
30,211

 
$
(21,414
)
 
$
8,797

 
$
—

 
$
8,797

Derivative liabilities
(11,439
)
 
9,101

 
(2,338
)
 
—

 
(2,338
)


(1)
Includes net cash collateral paid of $8.5 million and net cash collateral received of $12.3 million at June 30, 2020 and December 31, 2019, respectively.

40

The following table presents the net gain (loss) recognized on derivatives, including economic hedge derivatives, within the respective line items in the consolidated income statements for the periods indicated.

 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
(in thousands)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
 
 
Recognized in noninterest income:
 
 
 
 
 
 
 
 
Net gain (loss) on loan origination and sale activities (1)
$
(747
)
 
$
(11,245
)
 
$
4,393

 
$
(11,099
)
 
Loan servicing income (2)
2,318

 
7,194

 
22,239

 
10,877

 
Other (3)
(222
)
 
25

 
(716
)
 
34

 
Total
$
1,349

 
$
(4,026
)
(4 
) 
$
25,916

 
$
(188
)
(4 
) 
 

(1)
Comprised of interest rate lock commitments ("IRLCs") and forward contracts used as an economic hedge of IRLCs and single family LHFS.
(2)
Comprised of interest rate swaps, interest rate swaptions, futures and forward contracts used as an economic hedge of single family MSRs.
(3)
Comprised of interest rate swaps used as an economic hedge of LHFI.
(4)
Includes both continuing and discontinued operations.


NOTE 7–MORTGAGE BANKING OPERATIONS:

Loans held for sale consisted of the following.
 
(in thousands)
At June 30,
2020
 
At December 31,
2019
 
 
 
 
Single family
$
284,865

 
$
105,458

Commercial real estate, multi-family and SBA
18,681

 
128,841

Amounts attributed to discontinued operations
—

 
(26,122
)
Total LHFS
$
303,546

 
$
208,177



LHFS are valued at fair value, primarily single family loans, or at lower of cost or market, primarily commercial real estate loans transferred from held for investment.


Loans sold consisted of the following for the periods indicated: 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
(in thousands)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
Single family (1)
$
397,150

 
$
1,454,064

 
$
707,003

 
$
2,458,913

Commercial real estate, multi-family and SBA
48,622

 
151,662

 
331,079

 
315,733

Total loans sold (2)
$
445,772

 
$
1,605,726

 
$
1,038,082

 
$
2,774,646



(1)    2019 amounts include both continuing and discontinued operations.
(2) Includes loans originated as held for investment.


41

Gain on loan origination and sale activities, including the effects of derivative risk management instruments, consisted of the following.
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
(in thousands)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
Single family
$
28,288

 
$
33,549

 
$
46,119

 
$
68,984

Commercial real estate, multi-family and SBA
1,739

 
2,826

 
6,449

 
5,486

Amounts attributed to discontinued operations
—

 
(24,197
)
 
—

 
(59,685
)
Gain on loan origination and sale activities
$
30,027

 
$
12,178

 
$
52,568

 
$
14,785




The Company's portfolio of loans serviced for others is primarily comprised of loans held in U.S. government and agency MBS issued by Fannie Mae, Freddie Mac and Ginnie Mae. Loans serviced for others are not included in the consolidated balance sheets as they are not assets of the Company.

The composition of loans serviced for others that contribute to loan servicing income is presented below at the unpaid principal balance.
(in thousands)
At June 30,
2020
 
At December 31,
2019
 
 
 
 
Single family
$
6,294,226

 
$
7,023,441

Commercial real estate, multi-family and SBA
1,678,906

 
1,618,876

Total loans serviced for others
$
7,973,132

 
$
8,642,317




The Company has made representations and warranties that the loans sold meet certain requirements. The Company may be required to repurchase mortgage loans or indemnify loan purchasers due to defects in the origination process of the loan, such as documentation errors, underwriting errors and judgments, appraisal errors, early payment defaults and fraud. For further information on the Company's mortgage repurchase liability, see Note 8, Commitments, Guarantees and Contingencies, of this Quarterly Report on Form 10-Q.

The following is a summary of changes in the Company's liability for estimated mortgage repurchase losses.

 
Three Months Ended June 30,
 
Six Months Ended June 30,
(in thousands)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
Balance, beginning of period
$
2,482

 
$
3,256

 
$
2,871

 
$
3,120

Additions, net of adjustments (1)
(211
)
 
251

 
(527
)
 
504

Realized losses (2)
(188
)
 
(270
)
 
(261
)
 
(387
)
Balance, end of period
$
2,083

 
$
3,237

 
$
2,083

 
$
3,237

 
(1)
Includes additions for new loan sales and changes in estimated probable future repurchase losses on previously sold loans.
(2)
Includes principal losses and accrued interest on repurchased loans, "make-whole" settlements, settlements with claimants and certain related expenses.

The Company has agreements with certain investors to advance scheduled principal and interest amounts on delinquent loans. Advances are also made to fund the foreclosure and collection costs of delinquent loans prior to the recovery of reimbursable amounts from investors or borrowers. Advances of $3.8 million and $2.5 million were recorded in other assets as of June 30, 2020 and December 31, 2019, respectively.

When the Company has the unilateral right to repurchase Ginnie Mae pool loans it has previously sold (generally loans that are more than 90 days past due), the Company records the loan on its consolidated balance sheet as LHFI. At June 30, 2020 and December 31, 2019, delinquent or defaulted mortgage loans currently in Ginnie Mae pools that the Company has recognized on its consolidated balance sheets totaled $21.7 million and $9.4 million, respectively, with a corresponding offsetting amount recorded within accounts payable and other liabilities on the consolidated balance sheets.

42


Revenue from mortgage servicing, including the effects of derivative risk management instruments, consisted of the following.
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
(in thousands)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
Servicing income, net:
 
 
 
 
 
 
 
Servicing fees and other
$
7,860

 
$
6,713

 
$
15,853

 
$
24,161

Amortization of single family MSRs(1)
(4,351
)
 
(3,422
)
 
(7,845
)
 
(12,405
)
Amortization of multifamily and SBA MSRs
(1,259
)
 
(1,104
)
 
(2,734
)
 
(2,487
)
Total
2,250

 
2,187

 
5,274

 
9,269

Risk management, single family MSRs:
 
 
 
 
 
 
 
Changes in fair value of MSRs due to assumptions (2)(3)
(2,166
)
 
(9,414
)
 
(19,010
)
 
(14,692
)
Net gain from derivative hedging
2,318

 
7,194

 
22,239

 
10,877

Total
152

 
(2,220
)
 
3,229

 
(3,815
)
Amounts attributed to discontinued operations
—

 
2,855

 
—

 
(1,531
)
Loan servicing income
$
2,402

 
$
2,822

 
$
8,503

 
$
3,923

 
(1)
Represents changes due to collection/realization of expected cash flows and curtailments.
(2)
Principally reflects changes in market inputs, which include current market interest rates and prepayment model updates, both of which affect future prepayment speeds and cash flow projections.
(3)
Includes pre-tax loss of $2.0 million and $1.3 million resulting from the sales of single family MSRs during the three and six months ended June 30, 2019, respectively.

All MSRs are initially measured and recorded at fair value at the time loans are sold. Single family MSRs are subsequently carried at fair value with changes in fair value reflected in earnings in the periods in which the changes occur, while multifamily and SBA MSRs are subsequently carried at the lower of amortized cost or fair value.

The fair value of MSRs is determined based on the price that would be received to sell the MSRs in an orderly transaction between market participants at the measurement date. The Company determines fair value using a valuation model that calculates the net present value of estimated future cash flows. Estimates of future cash flows include contractual servicing fees, ancillary income and costs of servicing, the timing of which are impacted by assumptions, primarily expected prepayment speeds and discount rates, which relate to the underlying performance of the loans.

The initial fair value measurement of MSRs is adjusted up or down depending on whether the underlying loan pool interest rate is at a premium, discount or par. Key economic assumptions used in measuring the initial fair value of capitalized single family MSRs were as follows.
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
(rates per annum) (1)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
Constant prepayment rate ("CPR") (2)
12.64
%
 
18.03
%
 
13.76
%
 
18.81
%
Discount rate (3)
7.88
%
 
9.41
%
 
7.86
%
 
9.55
%

(1)
Weighted average rates during the period for sales of loans with similar characteristics.
(2)
Represents the expected lifetime average.
(3)
Discount rate is based on market observations.


43

Key economic assumptions and the sensitivity of the current fair value for single family MSRs to immediate adverse changes in those assumptions were as follows.
(dollars in thousands)
At June 30, 2020
 
 
Fair value of single family MSR
$
47,804

Expected weighted-average life (in years)
3.61

Constant prepayment rate (1)
17.73
%
Impact on fair value of 25 basis points adverse change in interest rates
$
(3,455
)
Impact on fair value of 50 basis points adverse change in interest rates
$
(6,487
)
Discount rate
8.10
%
Impact on fair value of 100 basis points increase
$
(1,541
)
Impact on fair value of 200 basis points increase
$
(2,983
)
 
(1)
Represents the expected lifetime average.

These sensitivities are hypothetical and subject to key assumptions of the underlying valuation model. As the table above demonstrates, the Company's methodology for estimating the fair value of MSRs is highly sensitive to changes in key assumptions. For example, actual prepayment experience may differ and any difference may have a material effect on MSR fair value. Changes in fair value resulting from changes in assumptions generally cannot be extrapolated because the relationship of the change in assumption to the change in fair value may not be linear. Also, in this table, the effect of a variation in a particular assumption on the fair value of the MSRs is calculated without changing any other assumption; in reality, changes in one factor may be associated with changes in another (for example, decreases in market interest rates may provide an incentive to refinance; however, this may also indicate a slowing economy and an increase in the unemployment rate, which reduces the number of borrowers who qualify for refinancing), which may magnify or counteract the sensitivities. Thus, any measurement of MSR fair value is limited by the conditions existing and assumptions made as of a particular point in time. Those assumptions may not be appropriate if they are applied to a different point in time.

In March 2019, the Company successfully closed and settled two sales of the rights to service an aggregate of $14.3 billion in total unpaid principal balance of single family mortgage loans serviced for Fannie Mae, Ginnie Mae and Freddie Mac. These sales resulted in a $2.0 million and $1.3 million pre-tax loss from discontinued operations for the three and six months ended June 30, 2019.

The changes in single family MSRs measured at fair value are as follows.
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
(in thousands)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
 
 
Beginning balance
$
49,933

 
$
68,250

 
$
68,109

 
$
252,168

 
Additions and amortization:
 
 
 
 
 
 
 
 
Originations
4,211

 
10,184

 
6,373

 
17,471

 
Sales
—

 
—

 
—

 
(176,944
)
 
Amortization (1)
(4,351
)
 
(3,422
)
 
(7,845
)
 
(12,405
)
 
Net additions and amortization
(140
)
 
6,762

 
(1,472
)
 
(171,878
)
 
Changes in fair value assumptions (2)
(1,989
)
 
(7,289
)
 
(18,833
)
 
(12,567
)
 
Ending balance
$
47,804

 
$
67,723

 
$
47,804

 
$
67,723

 
 
(1)
Represents changes due to collection/realization of expected cash flows and curtailments.
(2)
Principally reflects changes in model assumptions, including prepayment sped assumptions, which are primarily reflected by changes in mortgage interest rates.

MSRs resulting from the sale of multifamily loans are recorded at fair value and subsequently carried at the lower of amortized cost or fair value. Multifamily MSRs are amortized in proportion to, and over, the estimated period the net servicing income will be collected.

The changes in multifamily MSRs measured at the lower of amortized cost or fair value were as follows.
 

44

 
Three Months Ended June 30,
 
Six Months Ended June 30,
(in thousands)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
Beginning balance
$
30,120

 
$
27,692

 
$
29,494

 
$
28,328

Origination
1,648

 
530

 
3,605

 
1,160

Amortization
(1,185
)
 
(995
)
 
(2,516
)
 
(2,261
)
Ending balance
$
30,583

 
$
27,227

 
$
30,583

 
$
27,227



At June 30, 2020, the expected weighted-average remaining life of the Company's multifamily MSRs was 7.08 years. Projected amortization expense for the gross carrying value of multifamily MSRs is estimated as follows.
 
(in thousands)
At June 30, 2020
 
 
Remainder of 2020
$
2,232

2021
4,382

2022
4,167

2023
3,955

2024
3,699

2025
3,363

2026 and thereafter
8,785

Total
$
30,583





45

NOTE 8–COMMITMENTS, GUARANTEES AND CONTINGENCIES:

Commitments

Commitments to extend credit are agreements to lend to customers in accordance with predetermined contractual provisions. These commitments may be for specific periods or contain termination clauses and may require the payment of a fee by the borrower. The total amount of unused commitments does not necessarily represent future credit exposure or cash requirements in that commitments may expire without being drawn upon.

The Company makes certain unfunded loan commitments as part of its lending activities that have not been recognized in the Company's financial statements. These include commitments to extend credit made as part of the Company's lending activities on loans the Company intends to hold in its held for investment portfolio. In the ordinary course of business, the Company extends secured and unsecured open-end loans to meet the financing needs of its customers.

These commitments include the following.
(in thousands)
At June 30,
2020
 
At December 31,
2019
 
 
 
 
Unused consumer portfolio lines
$
454,252

 
$
485,143

Commercial portfolio lines (1)
675,545

 
722,242

Commitments to fund loans
22,259

 
52,762

Total
$
1,152,056

 
$
1,260,147


(1) Within the commercial portfolio, undistributed construction loan proceeds, where the Company has an obligation to advance funds for construction progress payments, were $388 million and $435 million at June 30, 2020 and December 31, 2019, respectively.


The Company is in certain agreements to invest in qualifying small businesses and small enterprises, as well as low income housing tax credit partnerships and a tax-exempt bond partnership that have not been recognized in the Company's financial statements. At June 30, 2020 and December 31, 2019, we had $23.4 million and $23.5 million, respectively, of future commitments to invest in these enterprises.

Guarantees

In the ordinary course of business, the Company sells and services loans through the Fannie Mae Multifamily DUS® program and shares in the risk of loss with Fannie Mae under the terms of the DUS® contracts (pari passu loss sharing agreement). Under such agreements, the Company and Fannie Mae share losses on a pro rata basis, where the Company is responsible for losses incurred up to one-third of principal balance on each loan and with two-thirds of the loss covered by Fannie Mae. For loans that have been sold through this program, a liability is recorded for this loss sharing arrangement under the accounting guidance for guarantees. As of June 30, 2020 and December 31, 2019, the total unpaid principal balance of loans sold under this program was $1.6 billion and $1.5 billion, respectively. The Company's reserve liability related to this arrangement totaled $3.1 million and $2.8 million at June 30, 2020 and December 31, 2019, respectively. There were no actual losses incurred under this arrangement during the three and six months ended June 30, 2020 and 2019.

Mortgage Repurchase Liability

In the ordinary course of business, the Company sells residential mortgage loans to GSEs and other entities. In addition, the Company pools FHA-insured and VA-guaranteed mortgage loans into Ginnie Mae Securities guaranteed mortgage-backed securities. The Company has made representations and warranties that the loans sold meet certain requirements. The Company may be required to repurchase mortgage loans or indemnify loan purchasers due to defects in the origination process of the loan, such as documentation errors, underwriting errors and judgments, early payment defaults and fraud.

These obligations expose the Company to mark-to-market and credit losses on the repurchased mortgage loans after accounting for any mortgage insurance that we may receive. Generally, the maximum amount of future payments the Company would be required to make for breaches of these representations and warranties would be equal to the unpaid principal balance of such loans that are deemed to have defects that were sold to purchasers plus, in certain circumstances, accrued and unpaid interest on such loans and certain expenses.


46

The Company does not typically receive repurchase requests from the FHA or VA. As an originator of FHA-insured or VA-guaranteed loans, the Company is responsible for obtaining the insurance with FHA or the guarantee with the VA. If loans are later found not to meet the requirements of FHA or VA, through required internal quality control reviews or through agency audits, the Company may be required to indemnify FHA or VA against losses. The loans remain in Ginnie Mae pools unless and until they are repurchased by the Company. In general, once an FHA or VA loan becomes 90 days past due, the Company repurchases the FHA or VA residential mortgage loan to minimize the cost of interest advances on the loan. If the loan is cured through borrower efforts or through loss mitigation activities, the loan may be resold into another Ginnie Mae pool. The Company's mortgage repurchase liability incorporates probable losses associated with such indemnification.

The total unpaid principal balance of loans sold on a servicing-retained basis that were subject to the terms and conditions of these representations and warranties totaled $6.4 billion and $7.1 billion as of June 30, 2020 and December 31, 2019, respectively. At June 30, 2020 and December 31, 2019, the Company had recorded a mortgage repurchase liability for loans sold on a servicing-retained and servicing-released basis, included in accounts payable and other liabilities on the consolidated balance sheet, of $2.1 million and $2.9 million, respectively.

Contingencies

In the normal course of business, the Company may have various legal claims and other similar contingent matters outstanding for which a loss may be realized. For these claims, the Company establishes a liability for contingent losses when it is probable that a loss has been incurred and the amount of loss can be reasonably estimated. For claims determined to be reasonably possible but not probable of resulting in a loss, there may be a range of possible losses in excess of the established liability.


NOTE 9–FAIR VALUE MEASUREMENT:

For a further discussion of fair value measurements, including information regarding the Company's valuation methodologies and the fair value hierarchy, see Note 19, Fair Value Measurement within our 2019 Annual Report on Form 10-K.

Valuation Processes
The Company has various processes and controls in place to ensure that fair value measurements are reasonably estimated. The Finance Committee of the Board provides oversight and approves the Company's Asset/Liability Management Policy ("ALMP"). The Company's ALMP governs, among other things, the application and control of the valuation models used to measure fair value. On a quarterly basis, the Company's Asset/Liability Management Committee ("ALCO") and the Finance Committee of the Board review significant modeling variables used to measure the fair value of the Company's financial instruments, including the significant inputs used in the valuation of single family MSRs. Additionally, ALCO periodically obtains an independent review of the MSR valuation process and procedures, including a review of the model architecture and the valuation assumptions. The Company obtains an MSR valuation from an independent valuation firm monthly to assist with the validation of the fair value estimate and the reasonableness of the assumptions used in measuring fair value.

The Company's real estate valuations are overseen by the Company's appraisal department, which is independent of the Company's lending and credit administration functions. The appraisal department maintains the Company's appraisal policy and recommends changes to the policy subject to approval by the Company's Loan Committee and the Credit Committee of the Board. The Company's appraisals are prepared by independent third-party appraisers and the Company's internal appraisers. Single family appraisals are generally reviewed by the Company's single family loan underwriters. Single family appraisals with unusual, higher risk or complex characteristics, as well as commercial real estate appraisals, are reviewed by the Company's appraisal department.

We obtain pricing from third party service providers for determining the fair value of a substantial portion of our investment securities AFS. We have processes in place to evaluate such third party pricing services to ensure information obtained and valuation techniques used are appropriate. For fair value measurements obtained from third party services, we monitor and review the results to ensure the values are reasonable and in line with market experience for similar classes of securities. While the inputs used by the pricing vendor in determining fair value are not provided and therefore unavailable for our review, we do perform certain procedures to validate the values received, including comparisons to other sources of valuation (if available), comparisons to other independent market data and a variance analysis of prices by Company personnel that are not responsible for the performance of the investment securities.


47

Estimation of Fair Value
Fair value is based on quoted market prices, when available. In cases where a quoted price for an asset or liability is not available, the Company uses valuation models to estimate fair value. These models incorporate inputs such as forward yield curves, loan prepayment assumptions, expected loss assumptions, market volatilities and pricing spreads utilizing market-based inputs where readily available. The Company believes its valuation methods are appropriate and consistent with those that would be used by other market participants. However, imprecision in estimating unobservable inputs and other factors may result in these fair value measurements not reflecting the amount realized in an actual sale or transfer of the asset or liability in a current market exchange.
The following table summarizes the fair value measurement methodologies, including significant inputs and assumptions and classification of the Company's assets and liabilities.
Asset/Liability class
  
Valuation methodology, inputs and assumptions
  
Classification
Investment securities
 
 
 
 
Investment securities AFS
  
Observable market prices of identical or similar securities are used where available.
 

  
Level 2 recurring fair value measurement.
 
 
If market prices are not readily available, value is based on discounted cash flows using the following significant inputs:
 
•      Expected prepayment speeds 
•      Estimated credit losses 
•      Market liquidity adjustments
 
Level 3 recurring fair value measurement.
LHFS
  
 
  
 
Single family loans, excluding loans transferred from held for investment
  
Fair value is based on observable market data, including:
 
•       Quoted market prices, where available 
•       Dealer quotes for similar loans 
•       Forward sale commitments
  
Level 2 recurring fair value measurement.
 
 
When not derived from observable market inputs, fair value is based on discounted cash flows, which considers the following inputs:
•       Benchmark yield curve  
•       Estimated discount spread to the benchmark yield curve 
•       Expected prepayment speeds
 
Estimated fair value classified as Level 3.
Mortgage servicing rights
  
 
  
 
Single family MSRs
  
For information on how the Company measures the fair value of its single family MSRs, including key economic assumptions and the sensitivity of fair value to changes in those assumptions, see Note 7, Mortgage Banking Operations.
  
Level 3 recurring fair value measurement.
Derivatives
  
 
  
 
Eurodollar futures
 
Fair value is based on closing exchange prices.
 
Level 1 recurring fair value measurement.
Interest rate swaps
Interest rate swaptions
Forward sale commitments
 
Fair value is based on quoted prices for identical or similar instruments, when available.
 
When quoted prices are not available, fair value is based on internally developed modeling techniques, which require the use of multiple observable market inputs including:
 
•       Forward interest rates 
•       Interest rate volatilities
 
Level 2 recurring fair value measurement.
Interest rate lock commitments
 
The fair value considers several factors including:

•       Fair value of the underlying loan based on quoted prices in the secondary market, when available. 
•       Value of servicing
•       Fall-out factor
 
Level 3 recurring fair value measurement.

 




48

The following table presents the levels of the fair value hierarchy for the Company's assets and liabilities measured at fair value on a recurring basis.
 
(in thousands)
Fair Value at June 30, 2020
 
Level 1
 
Level 2
 
Level 3
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
Investment securities AFS
 
 
 
 
 
 
 
Mortgage backed securities:
 
 
 
 
 
 
 
Residential
$
69,581

 
$
—

 
$
66,805

 
$
2,776

Commercial
46,796

 
—

 
46,796

 
—

Collateralized mortgage obligations:
 
 
 
 
 
 
 
Residential
294,703

 
—

 
294,703

 
—

Commercial
165,488

 
—

 
165,488

 
—

Municipal bonds
567,165

 
—

 
567,165

 
—

Corporate debt securities
10,096

 
—

 
10,012

 
84

U.S. Treasury securities
1,305

 
—

 
1,305

 
—

Agency debentures
12,365

 
—

 
12,365

 
—

Single family LHFS
284,865

 
—

 
284,865

 
—

Single family LHFI
5,847

 
—

 
—

 
5,847

Single family mortgage servicing rights
47,804

 
—

 
—

 
47,804

Derivatives
 
 
 
 
 
 
 
Forward sale commitments
978

 
—

 
978

 
—

Interest rate lock commitments
17,967

 
—

 
—

 
17,967

Interest rate swaps
32,838

 
—

 
32,838

 
—

Total assets
$
1,557,798

 
$
—

 
$
1,483,320

 
$
74,478

Liabilities:
 
 
 
 
 
 
 
Derivatives
 
 
 
 
 
 
 
Eurodollar futures
$
4

 


 
$
4

 
$
—

Forward sale commitments
3,765

 
—

 
3,765

 
—

Interest rate swaps
26,395

 
—

 
26,395

 
—

Total liabilities
$
30,164

 
$
—

 
$
30,164

 
$
—




49

(in thousands)
Fair Value at December 31, 2019
 
Level 1
 
Level 2
 
Level 3
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
Investment securities AFS
 
 
 
 
 
 
 
Mortgage backed securities:
 
 
 
 
 
 
 
Residential
$
91,695

 
$
—

 
$
89,831

 
$
1,864

Commercial
38,025

 
—

 
38,025

 
—

Collateralized mortgage obligations:
 
 
 
 
 
 
 
Residential
291,618

 
—

 
291,618

 
—

Commercial
156,154

 
—

 
156,154

 
—

Municipal bonds
341,318

 
—

 
341,318

 
—

Corporate debt securities
18,661

 
—

 
18,573

 
88

U.S. Treasury securities
1,307

 
—

 
1,307

 
—

Single family LHFS (1)
105,458

 
—

 
105,458

 
—

Single family LHFI
3,468

 
—

 
—

 
3,468

Single family mortgage servicing rights
68,109

 
—

 
—

 
68,109

Derivatives
 
 
 
 
 
 
 
Eurodollar futures
3

 
3

 
—

 
—

Forward sale commitments
830

 
—

 
830

 
—

Interest rate lock commitments
2,281

 
—

 
—

 
2,281

Interest rate swaps
27,097

 
—

 
27,097

 
—

Total assets
$
1,146,024

 
$
3

 
$
1,070,211

 
$
75,810

Liabilities:
 
 
 
 
 
 
 
Derivatives
 
 
 
 
 
 
 
Forward sale commitments
$
492

 
$
—

 
$
492

 
$
—

Interest rate lock commitments
58

 
—

 
—

 
58

Interest rate swaps
10,889

 
—

 
10,889

 
—

Total liabilities
$
11,439

 
$
—

 
$
11,381

 
$
58



(1) Includes both continuing and discontinued operations.

There were no transfers between levels of the fair value hierarchy during the three and six months ended June 30, 2020 and 2019.

Level 3 Recurring Fair Value Measurements

The Company's Level 3 recurring fair value measurements consist of investment securities AFS, single family MSRs, single family LHFI where fair value option was elected, certain single family LHFS and interest rate locks and purchase loan commitments, which are accounted for as derivatives. For information regarding fair value changes and activity for single family MSRs during the three and six months ended June 30, 2020 and 2019, see Note 7, Mortgage Banking Operations of this Quarterly Report on Form 10-Q.

The fair value of IRLCs considers several factors, including the fair value in the secondary market of the underlying loan resulting from the exercise of the commitment, the expected net future cash flows related to the associated servicing of the loan (referred to as the value of servicing) and the probability that the commitment will not be converted into a funded loan (referred to as a fall-out factor). The fair value of IRLCs on LHFS, while based on interest rates observable in the market, is highly dependent on the ultimate closing of the loans. The significance of the fall-out factor to the fair value measurement of an individual IRLC is generally highest at the time that the rate lock is initiated and declines as closing procedures are performed and the underlying loan gets closer to funding. The fall-out factor applied is based on historical experience. The value of servicing is impacted by a variety of factors, including prepayment assumptions, discount rates, delinquency rates, contractually specified servicing fees, servicing costs and underlying portfolio characteristics. Because these inputs are not observable in market trades, the fall-out factor and value of servicing are considered to be level 3 inputs. The fair value of IRLCs decreases in value upon an increase in the fall-out factor and increases in value upon an increase in the value of servicing. Changes in the fall-out factor and value of servicing do not increase or decrease based on movements in other significant unobservable inputs.

50


The Company recognizes unrealized gains and losses from the time that an IRLC is initiated until the gain or loss is realized at the time the loan closes, which generally occurs within 30-90 days. For IRLCs that fall out, any unrealized gain or loss is reversed, which generally occurs at the end of the commitment period. The gains and losses recognized on IRLC derivatives generally correlates to volume of single family interest rate lock commitments made during the reporting period (after adjusting for estimated fallout) while the amount of unrealized gains and losses realized at settlement generally correlates to the volume of single family closed loans during the reporting period.

The Company uses the discounted cash flow model to estimate the fair value of certain loans that have been transferred from held for sale to held for investment and single family LHFS when the fair value of the loans is not derived using observable market inputs. The key assumption in the valuation model is the implied spread to benchmark interest rate curve. The implied spread is not directly observable in the market and is derived from third party pricing which is based on market information from comparable loan pools. The fair value estimate of these certain single family loans that have been transferred from held for sale to held for investment and these certain single family LHFS are sensitive to changes in the benchmark interest rate which might result in a significantly higher or lower fair value measurement.

The Company transferred certain loans from held for sale to held for investment. These loans were originated as held for sale loans where the Company had elected fair value option. The Company determined these loans to be level 3 recurring assets as the valuation technique included a significant unobservable input. The total amount of held for investment loans where fair value option election was made was $5.8 million and $3.5 million at June 30, 2020 and December 31, 2019, respectively.

The following information presents significant Level 3 unobservable inputs used to measure fair value of certain investment securities AFS.

(dollars in thousands)
At June 30, 2020
Fair Value
 
Valuation
Technique
 
Significant Unobservable
Input
 
Low
 
High
 
Weighted Average
 
 
 
 
 
 
 
 
 
 
 
 
Investment securities AFS
$
2,861

 
Income approach
 
Implied spread to benchmark interest rate curve
 
2.00%
 
2.00%
 
2.00%

(dollars in thousands)
At December 31, 2019
Fair Value
 
Valuation
Technique
 
Significant Unobservable
Input
 
Low
 
High
 
Weighted Average
 
 
 
 
 
 
 
 
 
 
 
 
Investment securities AFS
$
1,952

 
Income approach
 
Implied spread to benchmark interest rate curve
 
2.00%
 
2.00%
 
2.00%


The following information presents significant Level 3 unobservable inputs used to measure fair value of single family LHFI where fair value option was elected.

(dollars in thousands)
At June 30, 2020
Fair Value
 
Valuation
Technique
 
Significant Unobservable
Input
 
Low
 
High
 
Weighted Average
 
 
 
 
 
 
 
 
 
 
 
 
LHFI, fair value option
$
5,847

 
Income approach
 
Implied spread to benchmark interest rate curve
 
1.43%
 
2.06%
 
1.75%

(dollars in thousands)
At December 31, 2019
Fair Value
 
Valuation
Technique
 
Significant Unobservable
Input
 
Low
 
High
 
Weighted Average
 
 
 
 
 
 
 
 
 
 
 
 
LHFI, fair value option
$
3,468

 
Income approach
 
Implied spread to benchmark interest rate curve
 
4.56%
 
6.87%
 
5.63%


51


The following information presents significant Level 3 unobservable inputs used to measure fair value of certain single family LHFS where fair value option was elected. We had no LHFS with fair value option that were subject to Level 3 fair value due to a significant unobservable input at June 30, 2020 and December 31, 2019.

The following information presents significant Level 3 unobservable inputs used to measure fair value of interest rate lock and purchase loan commitments.

(dollars in thousands)
At June 30, 2020
Fair Value
 
Valuation
Technique
 
Significant Unobservable
Input
 
Low
 
High
 
Weighted Average
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate lock commitments
$
17,967

 
Income approach
 
Fall-out factor
 
1.48%
 
48.93%
 
18.82%
 
 
 
 
 
Value of servicing
 
0.35%
 
2.20%
 
1.28%

(dollars in thousands)
At December 31, 2019
Fair Value
 
Valuation
Technique
 
Significant Unobservable
Input
 
Low
 
High
 
Weighted Average
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate lock commitments
$
2,223

 
Income approach
 
Fall-out factor
 
—%
 
59.69%
 
12.20%
 
 
 
 
 
Value of servicing
 
0.55%
 
1.77%
 
1.14%



The following table present fair value changes and activity for Level 3 investment securities AFS.

 
 
Three Months Ended June 30, 2020
 
 
Beginning balance
 
Additions
 
Transfers
 
Payoffs/Sales
 
Change in mark to market
 
Ending balance
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Investment securities AFS
 
$
2,885

 
$
—

 
$
—

 
$
(48
)
 
$
24

 
$
2,861


 
 
Three Months Ended June 30, 2019
 
 
Beginning balance
 
Additions
 
Transfers
 
Payoffs/Sales
 
Change in mark to market
 
Ending balance
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Investment securities AFS
 
$
1,937

 
$
—

 
$
—

 
$
(40
)
 
84

 
$
1,981






52


 
 
Six Months Ended June 30, 2020
 
 
Beginning balance
 
Additions
 
Transfers
 
Payoffs/Sales
 
Change in mark to market
 
Ending balance
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Investment securities AFS
 
$
1,952

 
$
985

 
$
—

 
$
(339
)
 
$
263

 
$
2,861


 
 
Six Months Ended June 30, 2019
 
 
Beginning balance
 
Additions
 
Transfers
 
Payoffs/Sales
 
Change in mark to market
 
Ending balance
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Investment securities AFS
 
$
—

 
$
—

 
$
2,379

 
$
(80
)
 
$
(318
)
 
$
1,981


The following tables present fair value changes and activity for Level 3 LHFS and LHFI.
 
 
Three Months Ended June 30, 2020
 
 
Beginning balance
 
Additions
 
Transfers
 
Payoffs/Sales
 
Change in mark to market
 
Ending balance
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
LHFI
 
$
4,926

 
$
1,667

 
$
—

 
$
(536
)
 
$
(210
)
 
$
5,847


 
 
Three Months Ended June 30, 2019
 
 
Beginning balance
 
Additions
 
Transfers
 
Payoffs/Sales
 
Change in mark to market
 
Ending balance
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
LHFS
 
$
4,525

 
$
781

 
$
—

 
$
(909
)
 
$
30

 
$
4,427

LHFI
 
4,830

 
274

 
—

 
(603
)
 
(26
)
 
4,475

 
Six Months Ended June 30, 2020
(in thousands)
Beginning balance
 
Additions
 
Transfers
 
Payoffs/Sales
 
Change in mark to market
 
Ending balance
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
LHFI
$
3,468

 
$
3,346

 
$
—

 
$
(783
)
 
$
(184
)
 
$
5,847

 
Six Months Ended June 30, 2019
 
Beginning balance
 
Additions
 
Transfers
 
Payoffs/Sales
 
Change in mark to market
 
Ending balance
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
LHFS
$
2,691

 
$
2,667

 
$
—

 
$
(909
)
 
$
(22
)
 
$
4,427

LHFI
4,057

 
999

 
—

 
(606
)
 
25

 
4,475





53

The following table presents fair value changes and activity for Level 3 interest rate lock and purchase loan commitments.
 
Three Months Ended June 30,
 
Six Months Ended June 30,
(in thousands)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
Beginning balance, net
$
13,502

 
$
14,056

 
$
2,223

 
$
10,284

Total realized/unrealized gains
12,266

 
13,747

 
28,028

 
33,412

Settlements
(7,801
)
 
(19,179
)
 
(12,284
)
 
(35,072
)
Ending balance, net
$
17,967

 
$
8,624

 
$
17,967

 
$
8,624



Nonrecurring Fair Value Measurements

Certain assets held by the Company are not included in the tables above, but are measured at fair value on a quarterly basis. These assets include certain LHFI and OREO that are carried at the lower of cost or fair value of the underlying collateral, less the estimated cost to sell. The estimated fair values of real estate collateral are generally based on internal evaluations and appraisals of such collateral, which use the market approach and income approach methodologies.

The fair value of commercial properties are generally based on third-party appraisals that consider recent sales of comparable properties, including their income-generating characteristics, adjusted (generally based on unobservable inputs) to reflect the general assumptions that a market participant would make when analyzing the property for purchase. The Company uses a fair value of collateral technique to apply adjustments to the appraisal value of certain commercial LHFI that are collateralized by real estate.

The Company uses a fair value of collateral technique to apply adjustments to the stated value of certain commercial LHFI that are not collateralized by real estate. During the three and six months ended June 30, 2020 and 2019, the Company did not apply any adjustments to the appraisal value of OREO.

Residential properties are generally based on unadjusted third-party appraisals. Factors considered in determining the fair value include geographic sales trends, the value of comparable surrounding properties as well as the condition of the property.

These commercial and residential appraisal adjustments include management assumptions that are based on the type of collateral dependent loan and may increase or decrease an appraised value. Management adjustments vary significantly depending on the location, physical characteristics and income producing potential of each individual property. The quality and volume of market information available at the time of the appraisal can vary from period-to-period and cause significant changes to the nature and magnitude of the unobservable inputs used. Given these variations, changes in these unobservable inputs are generally not a reliable indicator for how fair value will increase or decrease from period to period.

The following tables present assets that had changes in their recorded fair value during the three and six months ended June 30, 2020 and 2019 and assets held at the end of the respective reporting period.

 
At or for the Three Months Ended June 30, 2020
(in thousands)
Fair Value of Assets Held at June 30, 2020
 
Level 1
 
Level 2
 
Level 3
 
Total Gains (Losses)
 
 
 
 
 
 
 
 
 
 
LHFI (1)
$
1,027

 
$
—

 
$
—

 
$
1,027

 
$
(437
)

 
At or for the Three Months Ended June 30, 2019
(in thousands)
Fair Value of Assets Held at June 30, 2019
 
Level 1
 
Level 2
 
Level 3
 
Total Gains (Losses)
 
 
 
 
 
 
 
 
 
 
LHFI (1)
$
348

 
$
—

 
$
—

 
$
348

 
$
(4
)



54

 
At or for the Six Months Ended June 30, 2020
(in thousands)
Fair Value of Assets Held at June 30, 2020
 
Level 1
 
Level 2
 
Level 3
 
Total Gains (Losses)
 
 
 
 
 
 
 
 
 
 
LHFI (1)
$
1,027

 
$
—

 
$
—

 
$
1,027

 
$
(567
)
 
At or for the Six Months Ended June 30, 2019
(in thousands)
Fair Value of Assets Held at June 30, 2019
 
Level 1
 
Level 2
 
Level 3
 
Total Gains (Losses)
 
 
 
 
 
 
 
 
 
 
LHFI (1)
$
348

 
$
—

 
$
—

 
$
348

 
$
(4
)


(1) Represents the carrying value of loans for which adjustments are based on the fair value of the collateral.

Fair Value of Financial Instruments

The following presents the carrying value, estimated fair value and the levels of the fair value hierarchy for the Company's financial instruments other than assets and liabilities measured at fair value on a recurring basis.
 
 
At June 30, 2020
(in thousands)
Carrying
Value
 
Fair
Value
 
Level 1
 
Level 2
 
Level 3
 
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
$
65,918

 
$
65,918

 
$
65,918

 
$
—

 
$
—

Investment securities held to maturity
4,322

 
4,542

 
—

 
4,542

 
—

LHFI
5,361,431

 
5,625,875

 
—

 
—

 
5,625,875

LHFS – multifamily and other
18,681

 
18,681

 
—

 
18,681

 
—

Mortgage servicing rights – multifamily
30,583

 
32,873

 
—

 
—

 
32,873

Federal Home Loan Bank stock
15,666

 
15,666

 
—

 
15,666

 
—

Liabilities:
 
 
 
 
 
 
 
 
 
Certificates of deposit
$
1,136,483

 
$
1,147,209

 
$
—

 
$
1,147,209

 
$
—

Borrowings
713,590

 
715,349

 
 
 
715,349

 
 
Long-term debt
125,744

 
112,552

 
—

 
112,552

 
—





55

 
At December 31, 2019
(in thousands)
Carrying
Value
 
Fair
Value
 
Level 1
 
Level 2
 
Level 3
 
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
$
57,880

 
$
57,880

 
$
57,880

 
$
—

 
$
—

Investment securities HTM
4,372

 
4,501

 
—

 
4,501

 
—

LHFI
5,069,316

 
5,139,078

 
—

 
—

 
5,139,078

LHFS – multifamily and other
128,841

 
130,720

 
—

 
130,720

 
—

Mortgage servicing rights – multifamily
29,494

 
32,738

 
—

 
—

 
32,738

Federal Home Loan Bank stock
22,399

 
22,399

 
—

 
22,399

 
—

Liabilities:
 
 
 
 
 
 
 
 
 
Certificates of deposit
$
1,614,533

 
$
1,622,879

 
$
—

 
$
1,622,879

 
$
—

Federal Home Loan Bank advances
346,590

 
347,949

 
—

 
347,949

 
—

Federal funds purchased and securities sold under agreements to repurchase
125,000

 
125,101

 
125,101

 
—

 
—

Long-term debt
125,650

 
115,011

 
—

 
115,011

 
—



NOTE 10–EARNINGS PER SHARE:

The following table summarizes the calculation of earnings per share.
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
(in thousands, except share and per share data)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
EPS numerator:
 
 
 
 
 
 
 
Income from continuing operations
$
18,904

 
$
8,892

 
$
26,043

 
$
13,950

Undistributed dividends and earnings for share repurchase
—

 
(343
)
 
—

 
(330
)
Income from continuing operations available to common shareholders
18,904

 
8,549

 
26,043

 
13,620

Income (loss) from discontinued operations
—

 
(14,480
)
 
—

 
(21,253
)
Net income (loss) available to common shareholders
$
18,904

 
$
(5,931
)
 
$
26,043

 
$
(7,633
)
EPS denominator:
 
 
 
 
 
 
 
Weighted average shares: (1)
 
 
 
 
 
 
 
Basic weighted-average number of common shares outstanding
23,330,494

 
26,619,216

 
23,509,712

 
26,820,361

Dilutive effect of outstanding common stock equivalents (2)
149,351

 
182,914

 
160,351

 
173,292

Diluted weighted-average number of common stock outstanding
23,479,845

 
26,802,130

 
23,670,063

 
26,993,653

Net income (loss) per share
 
 
 
 
 
 
 
Basic:
 
 
 
 
 
 
 
Income from continuing operations
$
0.81

 
$
0.32

 
$
1.11

 
$
0.51

Income (loss) from discontinued operations
—

 
(0.54
)
 
—

 
(0.79
)
Total
$
0.81

 
$
(0.22
)
 
$
1.11

 
$
(0.28
)
Diluted:
 
 
 
 
 
 
 
Income from continuing operations
$
0.81

 
$
0.32

 
$
1.10

 
$
0.51

Income (loss) from discontinued operations
—

 
(0.54
)
 
—

 
(0.79
)
Total
$
0.81

 
$
(0.22
)
 
$
1.10

 
$
(0.28
)
 
(1)
On July 11, 2019, we repurchased $1.7 million of our common shares from a large shareholder group, which would have increased diluted earnings per share.
(2)
Excluded from the computation of diluted earnings per share (due to their antidilutive effect) for the three and six months ended June 30, 2020 and 2019 were certain stock options and unvested restricted stock issued to key senior management personnel and directors of the Company. The aggregate number of common stock equivalents related to such options and unvested restricted stock units, which could potentially be dilutive in future periods, was 2,365 at June 30, 2020 and 83 at June 30, 2019.



56

NOTE 11–RESTRUCTURING:

In 2019, we took steps to restructure our corporate operations in order to improve productivity and reduce total corporate expenses in light of a substantial reduction in the size and complexity of our Company and a lower growth plan going forward. Throughout 2019, we began executing this restructuring plan which included:

•
Simplifying the organizational structure by reducing management levels and management redundancy
•
Consolidating similar functions currently residing in multiple organizations
•
Renegotiating, where possible, our technology contracts
•
Identifying and eliminating redundant or unnecessary systems and services
•
Rationalizing staffing appropriate to recognize the significant changes in work volumes and company direction
•
Eliminating excess occupancy costs consistent with reduced personnel

The costs incurred include severance, retention, facility related charges and consulting fees. These restructuring activities and related costs have continued into 2020.

Also in 2019, in connection with the Board of Directors approved plan of exit or disposal of our stand-alone home loan-center based mortgage origination business and related mortgage servicing, the Company restructured certain aspects of its infrastructure and back office operations, which resulted in certain indirect severance and other employee related costs and impairment charges related to certain facilities and information systems.

Restructuring charges primarily consist of facility-related costs and severance costs and are included in the occupancy and the compensation and benefits costs line items on our consolidated income statements in the applicable periods.

The following tables summarize the restructuring charges recognized during the three and six months ended June 30, 2020 and 2019 and the Company's net remaining liability balance at June 30, 2020.


57

 
 
As of or for the quarter ended June 30,
 
 
2020
 
2019
 
 
Facility-related costs
 
Personnel-related costs
 
Other costs
 
Total
 
Facility-related costs
 
Personnel- related costs
 
Other costs
 
Total
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning balance
 
$
1,240

 
$
292

 
$
125

 
$
1,657

 
$
1,407

 
$
—

 
$
128

 
$
1,535

Transfers-In
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Restructuring charges
 
1,867

 
(12
)
 
298

 
2,153

 
290

 
1,000

 
19

 
1,309

Costs paid or otherwise settled
 
(1,412
)
 
(109
)
 
(337
)
 
(1,858
)
 
(274
)
 
(438
)
 
(125
)
 
(837
)
Ending balance
 
$
1,695

 
$
171

 
$
86

 
$
1,952

 
$
1,423

 
$
562

 
$
22

 
$
2,007


 
 
As of or for the six months ended June 30,
 
 
2020
 
2019
 
 
Facility-related costs
 
Personnel-related costs
 
Other costs
 
Total
 
Facility-related costs
 
Personnel- related costs
 
Other costs
 
Total
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning balance
 
$
1,235

 
$
510

 
$
159

 
$
1,904

 
$
1,604

 
$
—

 
$
—

 
$
1,604

Transfers-In
 
497

 
707

 
—

 
1,204

 
 
 
 
 
 
 
 
Restructuring charges
 
2,447

 
135

 
786

 
3,368

 
194

 
1,000

 
147

 
1,341

Costs paid or otherwise settled
 
(2,484
)
 
(1,181
)
 
(859
)
 
(4,524
)
 
(375
)
 
(438
)
 
(125
)
 
(938
)
Ending balance
 
$
1,695

 
$
171

 
$
86

 
$
1,952

 
$
1,423

 
$
562

 
$
22

 
$
2,007





NOTE 12–SUBSEQUENT EVENT:

On July 23, 2020 the Board authorized an additional $25 million share repurchase program, subject to regulatory approval or non-objection. On the same day, the Board authorized a dividend of $0.15 per share, payable on August 24, 2020 to shareholders of record on August 7, 2020.


58

ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Management's Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the Consolidated Financial Statements and Notes presented elsewhere in this report and in HomeStreet, Inc.'s 2019 Annual Report on Form 10-K.

FORWARD-LOOKING STATEMENTS

Statements contained in this Quarterly Report on Form 10-Q that are not historical facts or that discuss our expectations, beliefs or views regarding our future operations or future financial performance, or financial or other trends in our business or in the markets in which we operate, and our future plans, including the credit exposure of certain loan products and other components of our business that could be impacted by the COVID-19 pandemic, constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Many forward-looking statements can be identified as using words such as "anticipate," "believe," "could," "estimate," "expect," "intend," "may," "plan," "potential," "should," "will" and "would" and similar expressions (or the negative of these terms). Such statements involve inherent risks and uncertainties, many of which are difficult to predict and are generally beyond the control of the Company and are subject to risks and uncertainties, including, but not limited to, those discussed in our Annual Report on Form 10-K for the year ended December 31, 2019, and our Quarterly Report on Form 10-Q for the first quarter 2020, and the risks and uncertainties discussed below and elsewhere in this Quarterly Report on Form 10-Q, particularly in Item 1A of Part II, "Risk Factors," that could cause actual results to differ significantly from those projected. In addition, many of the risks and uncertainties are, and will be, exacerbated by the COVID-19 pandemic and any worsening of the global, national, regional and local business and economic environment as a result.

Although we believe that expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. We undertake no obligation to, and expressly disclaim any such obligation to update, or clarify any of the forward-looking statements after the date of this Quarterly Report on Form 10-Q to reflect changed assumptions, the occurrence of anticipated or unanticipated events, new information or changes to future results over time or otherwise, except as required by law. Readers are cautioned not to place undue reliance on these forward-looking statements, which apply only as of the date of this Quarterly Report on Form 10-Q.

Except as otherwise noted, references to "we," "our," "us" or "the Company" refer to HomeStreet, Inc. and its subsidiaries that are consolidated for financial reporting purposes. Statements of knowledge, intention or belief reflect those characteristics of our executive management team based on current facts and circumstances.

You may review a copy of this Quarterly Report on Form 10-Q, including exhibits and any schedule filed therewith on the Securities and Exchange Commission's website (http://www.sec.gov) that contains reports, proxy and information statements and other information regarding registrants, such as HomeStreet, Inc., that file electronically with the Securities and Exchange Commission. Copies of our Securities Exchange Act reports also are available from our investor relations website, http://ir.homestreet.com. Information contained in or linked from our websites is not incorporated into and does not constitute a part of this report.




59


Critical Accounting Policies and Estimates

Our significant accounting policies are fundamental to understanding our results of operations and financial condition because they require that we use estimates and assumptions that may affect the value of our assets or liabilities and financial results. Certain of these policies are critical because they require management to make subjective and complex judgments about matters that are inherently uncertain and because it is likely that materially different amounts would be reported under different conditions or using different assumptions. These policies govern:
•
Allowance for credit losses ("ACL") for loans held for investment ("LHFI")
•
Fair value of financial instruments and single family mortgage servicing rights ("MSRs")

These policies and estimates are described in further detail in Part II, Item 7- Management's Discussion and Analysis of Financial Condition and Results of Operations and Note 1, Summary of Significant Accounting Policies, within our 2019 Annual Report on Form 10-K and Note 1, Summary of Significant Accounting Policies within this Form 10-Q.

60

Summary Financial Data


 
Three Months Ended
 
Six Months Ended
(dollars in thousands, except per share data)
June 30, 2020
 
June 30, 2019
 
June 30, 2020
 
June 30, 2019
 
 
 
 
 
 
 
 
Select Income Statement data:
 
 
 
 
 
 
 
Net interest income
$
51,496

 
$
49,187

 
$
96,930

 
$
96,744

Provision for credit losses
6,469

 
—

 
20,469

 
1,500

Noninterest income
36,602

 
19,829

 
69,232

 
27,921

Noninterest expense
57,652

 
58,832

 
112,836

 
106,678

Income from continuing operations: (1)
 
 
 
 
 
 
 
Before income taxes
23,977

 
10,184

 
32,857

 
16,487

Total
18,904

 
8,892

 
26,043

 
13,950

Income per share - diluted
0.81

 
0.32

 
1.10

 
0.51

Return on average equity - annualized


 


 


 


Net income
10.9
%
 
(3.0
)%
 
7.5
%
 
(2.0
)%
Income from continuing operations
10.9
%
 
4.8
 %
 
7.5
%
 
3.8
 %
Return on average tangible equity - annualized (2)
 
 
 
 
 
 
 
Net income
11.4
%
 
(3.2
)%
 
7.9
%
 
(2.1
)%
Income from continuing operations
11.4
%
 
5.1
 %
 
7.9
%
 
3.9
 %
Return on average assets - annualized
 
 
 
 
 
 
 
Net income
1.05
%
 
(0.31
)%
 
0.75
%
 
(0.20
)%
Income from continuing operations
1.05
%
 
0.49
 %
 
0.75
%
 
0.39
 %
Efficiency ratio(2)
62.6
%
 
82.4
 %
 
65.4
%
 
83.8
 %
Net interest margin
3.12
%
 
3.11
 %
 
3.03
%
 
3.11
 %
 
 
 
 
 
 
 
 

(1)
Discontinued operations accounting was terminated effective January 1, 2020.
(2)
Return on average tangible equity and the efficiency ratio are non-GAAP financial measures. For a reconciliation to the nearest comparable GAAP financial measure, see “Non-GAAP Financial Measures” elsewhere in this Management’s Discussion and Analysis of Financial Condition and Results of Operations.


61

 
As of
(dollars in thousands, except per share data)
June 30, 2020
 
December 31, 2019
 
 
 
 
 
 
 
 
Selected Balance Sheet Data
 
 
 
Loans held for sale
$
303,546

 
208,177

Loans held for investment, net
5,367,278

 
5,072,784

Allowance for credit losses
65,000

 
41,772

Investment securities
1,171,821

 
943,150

Total assets
7,351,118

 
6,812,435

Deposits
5,656,321

 
5,339,959

Borrowings
713,590

 
471,590

Long-term debt
125,744

 
125,650

Total shareholders' equity
694,649

 
679,723

Other data:
 
 
 
Book value per share
$
30.19

 
$
28.45

Tangible book value per share (2)
28.73

 
27.02

Total equity to total assets
9.4
%
 
10.0
%
Tangible common equity to tangible assets (2)
9.0
%
 
9.5
%
Shares outstanding
23,007,400

 
23,890,855

Loans to deposit ratio
101.4
%
 
99.7
%
 
 
 
 
Credit Quality:
 
 
 
ACL to total loans (1)
1.30
%
 
0.82
%
ACL to nonaccrual loans
296.7
%
 
324.8
%
Nonaccrual loans to total loans
0.40
%
 
0.25
%
Nonperforming assets to total assets
0.31
%
 
0.21
%
Nonperforming assets
$
22,642

 
$
14,254

Regulatory Capital Ratios:
 
 
 
Bank
 
 
 
Tier 1 leverage ratio
9.79
%
 
10.56
%
Total risk-based capital
14.08
%
 
14.37
%
Company
 
 
 
Tier 1 leverage ratio
9.73
%
 
10.16
%
Total risk-based capital
13.48
%
 
13.40
%
 
 
 
 
Other data:
 
 
 
Full-time equivalent employees (ending)
987

 
1,071

 
 
 
 

(1)
This ratio excludes balances insured by the FHA or guaranteed by the VA or SBA, including PPP loans for June 30, 2020.
(2)
Tangible book value per share and tangible common equity to tangible assets are non-GAAP financial measures. For a reconciliation to the nearest comparable GAAP financial measure, see “Non-GAAP Financial Measures” elsewhere in this Management’s Discussion and Analysis of Financial Condition and Results of Operations.





62


Overview and Current Developments
COVID-19 Pandemic
The outbreak of COVID-19 has adversely impacted a broad range of industries across the region where the Company’s customers operate and could impair their ability to fulfill their financial obligations to the Company. The World Health Organization has declared COVID-19 to be a global pandemic and as a result almost all public commerce and related business activities have been and continue to be, to varying degrees, curtailed with the goal of decreasing the rate of new infections. The spread of the outbreak has caused significant disruptions in the U.S. economy and has disrupted business and other financial activity in the areas in which the Company operates.
Congress, the President and the Federal Reserve have taken several actions designed to cushion the economic fallout related to the COVID-19 pandemic. Most notably, the Coronavirus Aid, Relief and Economic Security (“CARES”) Act was signed into law at the end of March 2020 as a $2 trillion legislative package, which was further expanded in April 2020 by $484 billion. The goal of the CARES Act is to prevent a severe economic downturn through various measures, including direct financial aid to American families and economic stimulus to significantly impacted industry sectors. The package also includes extensive emergency funding for hospitals and health care providers.

We evaluated goodwill for impairment at June 30, 2020 and based on our impairment assessment determined our goodwill assets were not impaired.
The Company has implemented a business continuity plan that includes a remote working strategy and a social distancing and sanitation plan. No material operational failures or internal control challenges have been identified to date. The Company has taken significant measures to protect its employees, such as having most work remotely and where remote work is not viable, implementing a social distancing and sanitation plan. At June 30, 2020, all of our retail deposit branches were open to serve our customers by appointment only and operating under the guidelines issued by Federal, state, and regional health departments.
In keeping with regulatory guidance to work with borrowers during this unprecedented situation and as outlined in the CARES Act, the Company has executed multiple assistance programs, including a loan forbearance program for its lending customers that are adversely affected by the COVID-19 pandemic.  As of June 30, 2020, the Company had granted a forbearance on 572 qualifying loans with an outstanding loan balance of $350 million (excluding any SBA guaranteed loans for which the government is making payments as provided for under the CARES Act, or single family loans that are guaranteed by FHA or VA). In accordance with the CARES Act and interagency guidance issued in March 2020, loans granted forbearance due to COVID-19 are not currently considered troubled debt restructurings under US GAAP.
With the passage of the Paycheck Protection Program (“PPP”), administered by the Small Business Administration (“SBA”), the Company assisted its customers with applications for resources through the program.  PPP loans have a two-year term and earn interest at 1%. Additionally, the Company was paid fees by the SBA based upon the sliding fee scale established for the PPP program. The weighted average fee for these loans was 3.3% and the Company will recognize these fees over the contractual life of the related loan, which will be accelerated if the loan is paid off prior to its maturity. The Company believes that a significant portion of these loans will ultimately be forgiven by the SBA in accordance with the terms of the program. As of June 30, 2020, the Company has closed or approved with the SBA, 1,781 PPP loans representing $296 million in outstanding balances. The loans funded through the PPP program are fully guaranteed by the U.S. government.

Other Items

As part of our capital management strategy, in 2020, we repurchased a total of 977,073 shares of our common stock at an average price of $26.20 per share. On March 20, 2020, due to the COVID-19 pandemic we temporarily suspended the current share repurchase program to preserve our capital. In May 2020, we resumed purchases under this program. In July 2020, we announced an additional $25 million stock repurchase program, subject to regulatory approval or non-objection.




63

Management's Overview of the Second Quarter of 2020 Financial Performance

Discontinued Operations: Results for the first quarter of 2019 reflect the impact of the adoption of a plan of exit or disposal, announced in the first quarter of 2019, with respect to the stand-alone home loan center-based mortgage origination and related servicing businesses as discontinued operations. Discontinued operations reported in the first quarter of 2019 included our entire mortgage banking business as did all prior periods presented. Effective April 1, 2019, the newly organized bank location-based mortgage banking business commenced operations and the associated direct revenues and direct expenses are reported as part of the Company's continuing operations beginning in the second quarter of 2019 and thereafter. Discontinued operations accounting was concluded as of January 1, 2020.


Results of Operations

Second Quarter of 2020 Compared to the Second Quarter of 2019

General: Our income from continuing operations and income from continuing operations before income taxes were $18.9 million and $24.0 million, respectively, in the second quarter of 2020, as compared to $8.9 million and $10.2 million, respectively, during the second quarter of 2019. The $13.8 million increase in income from continuing operations before income taxes was due to higher net interest income, higher noninterest income and lower noninterest expense which were partially offset by a higher provision for credit losses.

Income Taxes: Our effective tax rate during the second quarter of 2020 was 21.2% as compared to 12.7% in the second quarter of 2019 for continuing operations and a statutory rate of 23.7%. Our effective tax rate was lower than our statutory rate due primarily to the benefits of tax advantaged investments. In the second quarter of 2019, the benefits of tax advantaged investments were a higher proportion of total earnings, resulting in a lower effective tax rate.

Net Interest Income: The following tables set forth, for the periods indicated, information regarding (i) the total dollar amount of interest income from interest-earning assets and the resultant average yields on those assets; (ii) the total dollar amount of interest expense and the average rate of interest on our interest-bearing liabilities; (iii) net interest income; (iv) net interest rate spread; and (v) net yield on interest-earning assets:


64

 
Quarter Ended June 30,
 
2020
 
2019
(in thousands)
Average
Balance
 
Interest
 
Average
Yield/Cost
 
Average
Balance
 
Interest
 
Average
Yield/Cost
 
 
 
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
 
 
Interest-earning assets:
 
 
 
 
 
 
 
 
 
 
 
Loans
$
5,505,913

 
$
55,920

 
4.03
%
 
$
5,631,669

 
$
67,227

 
4.75
%
Investment securities(2)
1,117,449

 
6,699

 
2.40
%
 
807,576

 
5,296

 
2.62
%
FHLB Stock, Fed Funds and other
46,744

 
75

 
0.64
%
 
62,981

 
197

 
1.25
%
Total interest-earning assets
6,670,106

 
62,694

 
3.74
%
 
6,502,226

 
72,720

 
4.50
%
Noninterest-earning assets
537,890

 
 
 
 
 
598,073

 
 
 
 
Total assets
$
7,207,996

 
 
 
 
 
$
7,100,299

 
 
 
 
Liabilities and shareholders' equity:
 
 
 
 
 
 
 
 
 
 
 
Deposits: (1)
 
 
 
 
 
 
 
 
 
 
 
Demand deposits
$
418,855

 
$
218

 
0.21
%
 
$
394,768

 
$
393

 
0.40
%
Money market and savings
2,636,821

 
2,562

 
0.39
%
 
2,254,988

 
7,029

 
1.25
%
Certificates of deposit
1,164,631

 
5,438

 
1.88
%
 
1,712,094

 
9,662

 
2.26
%
Total deposits
4,220,307

 
8,218

 
0.78
%
 
4,361,850

 
17,084

 
1.57
%
Borrowings:
 
 
 
 
 
 
 
 
 
 
 
Borrowings
726,330

 
654

 
0.36
%
 
480,966

 
4,083

 
3.38
%
Long-term debt
125,713

 
1,434

 
4.55
%
 
125,528

 
1,725

 
5.47
%
Total interest-bearing liabilities
5,072,350

 
10,306

 
0.81
%
 
4,968,344

 
22,892

 
1.80
%
Noninterest-bearing liabilities
 
 
 
 
 
 
 
 
 
 
 
Demand deposits (1)
1,274,891

 
 
 
 
 
1,147,682

 
 
 
 
Other liabilities
162,234

 
 
 
 
 
246,763

 
 
 
 
Total liabilities
6,509,475

 
 
 
 
 
6,362,789

 
 
 
 
Temporary shareholders' equity
—

 
 
 
 
 
6,375

 
 
 
 
Shareholders' equity
698,521

 
 
 
 
 
731,135

 
 
 
 
Total liabilities and shareholders' equity
$
7,207,996

 
 
 
 
 
$
7,100,299

 
 
 
 
Net interest income (2)
 
 
$
52,388

 
 
 
 
 
$
49,828

 
 
Net interest rate spread
 
 
 
 
2.93
%
 
 
 
 
 
2.70
%
Net interest margin
 
 
 
 
3.12
%
 
 
 
 
 
3.11
%

(1)
Cost of all deposits, including noninterest-bearing demand deposits was 0.60% and 1.24% for the three months ended June 30, 2020 and 2019, respectively.
(2)
Includes taxable-equivalent adjustments primarily related to tax-exempt income on certain loans and securities of $0.9 million and $0.6 million for the three months ended June 30, 2020 and 2019, respectively. The estimated federal statutory tax rate was 21% for the periods presented.

Net interest income was higher in the second quarter of 2020 as compared to the second quarter of 2019 because our net interest margin increased to 3.12% primarily due to a 23 basis point increase in our net interest rate spread. Our costs of interest-bearing liabilities decreased from 1.80% in the second quarter of 2019 to 0.81% in the second quarter of 2020 due to a decrease in market interest rates which allowed us to reprice our deposits and borrowings at lower rates. The benefit of these lower funding costs was partially offset by lower yields on interest earning assets. The 76 basis point decrease in yield on interest earning assets was due to the origination of loans and purchases of securities with rates below our current portfolio rates, the ongoing repricing of variable rate loans and the prepayment and paydown of higher yielding loans and investments from our portfolios.

Provision for Credit Losses: As a result of the adoption of CECL on January 1, 2020, there is a lack of comparability in the both the reserves and provisions for credit losses for the periods presented. Results for reporting periods beginning after January 1, 2020 are presented using the CECL methodology, while comparative information continues to be reported in accordance with the incurred loss methodology in effect for prior periods. The provision for credit losses was $6.5 million for the second quarter of 2020, as compared to no provision in the second quarter of 2019. Due to the adverse economic conditions related to the COVID-19 pandemic, we recorded an additional provision for credit losses in the second quarter of 2020 as an estimate of the

65

potential impact of these conditions on our loan portfolio. The provision recorded in the second quarter of 2020 was based on an evaluation of credit risk related to the commercial business loans and commercial real estate loans granted forbearance during the first and second quarters which we believe will experience a higher probability of default and increased credit losses.


Noninterest Income consisted of the following.
 
 
Quarter Ended June 30,
(in thousands)
2020
 
2019
 
 
 
 
Noninterest income
 
 
 
Gain on loan origination and sale activities (1)


 


Single family
$
28,288

 
$
33,549

Commercial real estate, multi-family and SBA
1,739

 
2,826

Amounts attributed to discontinued operations
—

 
(24,197
)
Loan servicing income
2,402

 
2,822

Deposit fees
1,566

 
2,024

Other
2,607

 
2,805

Total noninterest income
$
36,602

 
$
19,829


(1) Includes loans originated as held for investment.


Loan servicing income, a component of noninterest income, consisted of the following.

 
 
Quarter Ended June 30,
(in thousands)
 
2020
 
2019
 
 
 
 
 
Single family servicing income, net
 


 


Servicing fees and other
 
$
4,254

 
$
3,883

Changes - amortization (1)
 
(4,351
)
 
(3,422
)
Net
 
(97
)
 
461

Risk management, single family MSRs:
 
 
 
 
Changes in fair value due to assumptions (2) (3)
 
(2,166
)
 
(9,414
)
Net gain (loss) from derivatives hedging
 
2,318

 
7,194

Subtotal
 
152

 
(2,220
)
Single Family servicing income (loss)
 
55

 
(1,759
)
 
 
 
 
 
Commercial loan servicing income:
 
 
 
 
Servicing fees and other
 
$
3,606

 
$
2,830

Amortization of capitalized MSRs
 
(1,259
)
 
(1,104
)
Total
 
2,347

 
1,726

Amounts attributed to discontinued operations
 
—

 
2,855

Total loan servicing income
 
$
2,402

 
$
2,822

 
 
 
 
 

(1)
Represents changes due to collection/realization of expected cash flows and curtailments.
(2)
Principally reflects changes in model assumptions, including prepayment speed assumptions, which are primarily affected by changes in mortgage interest rates.
(3)
Includes pre-tax loss of $2.0 million, net of transaction costs, brokerage fees and prepayment reserves, resulting from the sale of single family MSRs during the three months ended June 30, 2019.


66

The increase in noninterest income for the second quarter of 2020 as compared to the second quarter of 2019, was due to a $17.8 million increase in gains on loan sales related to higher volumes of rate locks and an increase in profit margins.

Noninterest Expense consisted of the following.
 
Quarter Ended June 30,
(in thousands)
2020
 
2019
 
 
 
 
Noninterest expense
 
 
 
Compensation and benefits
$
34,427

 
$
34,795

Information services
7,405

 
7,852

Occupancy
7,959

 
6,960

General, administrative and other
7,861

 
9,225

Total noninterest expense
$
57,652

 
$
58,832


The $1.2 million decrease in noninterest expense in the second quarter of 2020 compared to the second quarter of 2019 was primarily due to decreases in general and administrative costs related to our cost savings initiatives which were partially offset by $1.6 million of impairments recorded in the second quarter of 2020 related to vacant space resulting from our prior restructuring.


Six Months ended June 30, 2020 Compared to Six Months ended June 30, 2019

General: Our income from continuing operations and income from continuing operations before income taxes were $26.0 million and $32.9 million, respectively, in the six months ended June 30, 2020, as compared to $14.0 million and $16.5 million, respectively, during the six months ended June 30, 2019. The $16.4 million increase in income from continuing operations before income taxes was due to higher noninterest income which was partially offset by a higher provision for credit losses and higher noninterest expense.

Income Taxes: Our effective tax rate during the six months ended June 30, 2020 was 20.7% as compared to 15.4% in the six months ended June 30, 2019 and a statutory rate of 23.7%. Our effective tax rate was lower than our statutory rate due primarily to the benefits of tax advantaged investments. In the first six months of 2019, the benefits of tax advantaged investments were a higher proportion of total earnings, resulting in a lower effective tax rate.

Net Interest Income: The following tables set forth, for the periods indicated, information regarding (i) the total dollar amount of interest income from interest-earning assets and the resultant average yields on those assets; (ii) the total dollar amount of interest expense and the average rate of interest on our interest-bearing liabilities; (iii) net interest income; (iv) net interest rate spread; and (v) net yield on interest-earning assets:




67

 
Six Months Ended June 30,
 
2020
 
2019
(in thousands)
Average
Balance
 
Interest
 
Average
Yield/Cost
 
Average
Balance
 
Interest
 
Average
Yield/Cost
 
 
 
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
 
 
Interest-earning assets:
 
 
 
 
 
 
 
 
 
 
 
Loans
$
5,362,124

 
$
115,166

 
4.26
%
 
$
5,583,484

 
$
130,349

 
4.67
%
Investment securities(2)
1,048,637

 
11,668

 
2.23
%
 
846,477

 
11,307

 
2.67
%
FHLB Stock, Fed Funds and other
50,865

 
427

 
1.68
%
 
63,812

 
418

 
1.32
%
Total interest-earning assets
6,461,626

 
127,261

 
3.91
%
 
6,493,773

 
142,074

 
4.50
%
Noninterest-earning assets
555,346

 
 
 
 
 
659,607

 
 
 
 
Total assets
$
7,016,972

 
 
 
 
 
$
7,153,380

 
 
 
 
Interest-bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
Deposits: (1)
 
 
 
 
 
 
 
 
 
 
 
Demand deposits
$
394,148

 
$
559

 
0.29
%
 
$
385,202

 
$
768

 
0.40
%
Money market and savings
2,559,373

 
8,965

 
0.70
%
 
2,214,329

 
12,982

 
1.18
%
Certificates of deposit
1,323,511

 
13,572

 
2.06
%
 
1,654,880

 
17,814

 
2.17
%
Total deposits
4,277,032

 
23,096

 
1.08
%
 
4,254,411

 
31,564

 
1.49
%
Borrowings:
 
 
 
 
 
 
 
 
 
 
 
Borrowings
605,031

 
2,500

 
0.82
%
 
690,266

 
8,985

 
2.62
%
Long-term debt
125,690

 
3,025

 
0.48
%
 
125,504

 
3,469

 
5.52
%
Total interest-bearing liabilities
5,007,753

 
28,621

 
1.15
%
 
5,070,181

 
44,018

 
1.77
%
Noninterest-bearing liabilities
 
 
 
 
 
 
 
 
 
 
 
Demand deposits (1)
1,142,186

 
 
 
 
 
1,101,852

 
 
 
 
Other liabilities
172,117

 
 
 
 
 
237,380

 
 
 
 
Total liabilities
6,322,056

 
 
 
 
 
6,409,413

 
 
 
 
Temporary shareholders' equity
—

 
 
 
 
 
3,205

 
 
 
 
Permanent shareholders' equity
694,916

 
 
 
 
 
740,762

 
 
 
 
Total liabilities and shareholders' equity
$
7,016,972

 
 
 
 
 
$
7,153,380

 
 
 
 
Net interest income (2)
 
 
$
98,640

 
 
 
 
 
$
98,056

 
 
Net interest spread
 
 
 
 
2.76
%
 
 
 
 
 
2.73
%
Net interest margin
 
 
 
 
3.03
%
 
 
 
 
 
3.11
%

(1) Cost of deposits including noninterest-bearing deposits, was 0.86% and 1.19% for the six months ended June 30, 2020 and 2019, respectively.
(2)
Includes taxable-equivalent adjustments primarily related to tax-exempt income on certain loans and securities of $1.7 million and $1.3 million for the six months ended June 30, 2020 and 2019, respectively. The estimated federal statutory tax rate was 21% for the periods presented.

Net interest income was relatively unchanged as the classification of $1.2 million of net interest income associated with the legacy mortgage business in the first quarter of 2019 as discontinued operations in the first quarter of 2019 was offset by lower average balances of interest earning assets and a decrease in our net interest margin. The decrease in our net interest margin was due to the reduced benefit of noninterest-bearing liabilities on the net interest margin as rates decrease and a lower proportion of equity in the first six months of 2020 as compared to the first six months of 2019, the effects of which were partially offset by an increase in our net interest rate spread. Our net interest rate spread increased because decreases in the rates paid on interest bearing liabilities were greater than the decrease in the yield on our interest earning assets. The 59 basis point decrease in yield on interest earning assets was due to the origination of loans and purchases of securities with rates below our current portfolio rates, the ongoing repricing of variable rate loans and the prepayment and paydown of higher yielding loans and investments from our portfolios. Our cost of interest-bearing liabilities decreased from 1.77% in the six months ended June 30, 2019 to 1.15% in the six months ended June 30, 2020 due to a decrease in market interest rates which allowed us to reprice our deposits and borrowings at lower rates.

Provision for Credit Losses: The provision for credit losses was $20.5 million for the six months ended June 30, 2020 as compared to $1.5 million in the six months ended June 30, 2019. Due to adverse economic conditions related to the COVID-19 pandemic, we recorded additional provisions for credit losses in the first two quarters of 2020 as an estimate of the potential impact of those conditions on our loan portfolio, including an evaluation of the credit risk related to the commercial business

68

loans and commercial real estate loans granted forbearance during 2020 which we believe will experience a higher probability of default and increased credit losses.

Noninterest Income consisted of the following.
 
 
Six Months Ended June 30,
(in thousands)
2020
 
2019
 
 
 
 
Noninterest income
 
 
 
Gain on loan origination and sale activities (1)


 


Single family
$
46,119

 
$
68,984

Commercial
6,449

 
$
5,486

Amounts attributed to discontinued operations
—

 
(59,685
)
Loan servicing income
8,503

 
3,923

Deposit fees
3,456

 
3,769

Other
4,705

 
5,444

Total noninterest income
$
69,232

 
$
27,921


(1) Includes loans originated as held for investment.


Loan servicing income, a component of noninterest income, consisted of the following.

 
 
Six Months Ended June 30,
 
(in thousands)
 
2020
 
2019
 
 
 
 
 
 
 
Single family servicing income, net
 


 
 
 
Servicing fees and other
 
$
9,233

 
$
18,821

 
Changes - amortization (1)
 
(7,845
)
 
(12,405
)
 
Net
 
1,388

 
6,416

 
Risk management, single family MSRs:
 
 
 
 
 
Changes in fair value due to assumptions (2)
 
(19,010
)
 
(14,692
)
(3) 
Net gain from derivatives hedging
 
22,239

 
10,877

 
Subtotal
 
3,229

 
(3,815
)
 
Single Family servicing income
 
4,617

 
2,601

 
 
 
 
 

 
Commercial loan servicing income:
 
 
 
 
 
Servicing fees and other
 
$
6,620

 
$
5,340

 
Amortization of capitalized MSRs
 
(2,734
)
 
(2,487
)
 
Total
 
3,886

 
2,853

 
Amounts attributed to discontinued operations
 
—

 
(1,531
)
 
Total loan servicing income
 
$
8,503

 
$
3,923

 
 
 
 
 
 
 

(1)
Represents changes due to collection/realization of expected cash flows and curtailments.
(2)
Principally reflects changes in model assumptions, including prepayment speed assumptions, which are primarily affected by changes in mortgage interest rates.
(3)
Includes pre-tax loss of $1.3 million, net of transaction costs, brokerage fees and prepayment reserves, resulting from the sale of single family MSRs during the six months ended June 30, 2019.



The increase in noninterest income for the six months ended June 30, 2020 compared to the same period in 2019 was due to an

69

increase in gains on sale of loans and servicing income. The increase in gains on loan sales was due to higher volumes of rate locks and an increase in profit margins and the classification of $18 million of gains on sales of loans associated with the legacy mortgage business as discontinued operations in the first quarter of 2019. The increase in loan servicing income was due to the classification of $5 million of loan servicing income in the first quarter of 2019 as discontinued operations.

Noninterest Expense from continuing operations consisted of the following.
 
 
Six Months Ended June 30,
(in thousands)
 
2020
 
2019
 
 
 
 
 
Noninterest expense
 
 
 
 
Compensation and benefits
 
$
66,859

 
$
60,593

Information services
 
14,929

 
15,828

Occupancy
 
14,728

 
12,940

General, administrative and other
 
16,320

 
17,317

Total noninterest expense
 
$
112,836

 
$
106,678


The $6.2 million increase in noninterest expense in the six months ended June 30, 2020 compared to the same period in the prior year was due to increases in compensation and benefits costs and occupancy costs which were partially offset by lower general and administrative costs. The increase in compensation and benefits costs was due to the classification of $7 million of compensation and benefits costs associated with the legacy mortgage business as discontinued operations in the first quarter of 2019 and increased commissions and bonuses paid on higher loan originations levels, including loans made under PPP, which were partially offset by reduced levels of staffing. Occupancy expenses in the first six months of 2020 included $1.8 million of impairments related to vacant space resulting from our prior restructuring. General and administrative costs declined due to the benefits of our cost savings initiatives.

Financial Condition

During the first six months of 2020, total assets increased by $539 million due to a $229 million increase in investment securities, a $95 million increase in LHFS and a $294 million increase in LHFI which were partially offset by a $19 million decrease in mortgage servicing rights and a $34 million decrease in other assets. The decrease in mortgage servicing rights reflected the impact of increased prepayments while the decrease in other assets was due to a $39 million decrease in right of use lease assets and lease liabilities due to changes in assumptions regarding the exercise of renewal options available under real estate lease agreements.

Investment Securities: The following table details the composition of our investment securities AFS by dollar amount.
 
 
At June 30, 2020
At December 31, 2019
(in thousands)
Fair Value
 
Fair Value
 
 
 
 
Investment securities AFS:
 
 
 
Mortgage-backed securities:
 
 
 
Residential
$
69,581

 
$
91,695

Commercial
46,796

 
38,025

Collateralized mortgage obligations:
 
 
 
Residential
294,703

 
291,618

Commercial
165,488

 
156,154

Municipal bonds
567,165

 
341,318

Corporate debt securities
10,096

 
18,661

U.S. Treasury securities
1,305

 
1,307

Agency debentures
12,365

 
—

Total
$
1,167,499

 
$
938,778


We primarily hold investment securities for liquidity purposes, while also creating a relatively stable source of interest income. We designated the majority of these securities as available for sale. We designated securities having a carrying value of $4.3 million at June 30, 2020 as held to maturity.

70



Loans Held for Investment: The following table details the composition of our LHFI. 
(in thousands)
At June 30, 2020
December 31, 2019 (2)
 
 
 
 
 
Consumer loans:
 
 
 
 
Single family (1)
$
983,166

 
$
1,072,706

 
Home equity and other
484,757

 
553,376

 
Total consumer loans
1,467,923

 
1,626,082

 
Commercial real estate loans:
 
 
 
 
Non-owner occupied commercial real estate
867,967

 
895,546

 
Multifamily
1,306,079

 
999,140

 
Construction/land development
630,066

 
701,762

 
Total commercial real estate loans
2,804,112

 
2,596,448

 
Commercial and industrial loans:
 
 
 
 
Owner occupied commercial real estate
462,903

 
477,316

 
Commercial business
697,340

 
414,710

 
Total commercial and industrial loans
1,160,243

 
892,026

 
Total (2)
5,432,278

 
5,114,556

 
ACL
(65,000
)
 
(41,772
)
 
Net
$
5,367,278

 
$
5,072,784

 
 
(1)
Includes $5.8 million and $3.5 million at June 30, 2020 and December 31, 2019, respectively, of loans where a fair value option election was made at the time of origination and, therefore, are carried at fair value with changes in value recognized in the consolidated income statements.
(2)
Net deferred loans fees and costs of $24.5 million are now included within the carrying amounts of the loan balances as of December 31, 2019, in order to conform with the current period presentation.

LHFI increased $294 million, or 5.8%, from December 31, 2019 due to $1.5 billion of originations, including the origination of $296 million of loans under PPP, which was partially offset by sales of $243 million and prepayments and scheduled principal payments of $940 million.


Deposits: Our deposit balances and weighted average rates were as follows for the periods indicated:

(in thousands)
 
At June 30, 2020
 
At December 31, 2019
 
 
Amount
 
Weight Average Rate
 
Amount
 
Weight Average Rate
 
 
 
 
 
 
 
 
 
Deposits by product:
 
 
 
 
 
 
 
 
Noninterest-bearing demand deposits
 
$
1,049,356

 
—
%
 
$
704,743

 
—
%
Interest-bearing transaction and savings deposits:
 
 
 
 
 
 
 
 
Interest-bearing demand deposits
 
484,869

 
0.20
%
 
373,832

 
0.38
%
Savings accounts
 
246,817

 
0.07
%
 
219,182

 
0.21
%
Money market accounts
 
2,471,388

 
0.35
%
 
2,224,494

 
1.25
%
Total interest-bearing transaction and savings deposits
 
3,203,074

 
 
 
2,817,508

 
 
Total transaction and savings deposits
 
4,252,430

 
 
 
3,522,251

 
 
Certificates of deposit
 
1,136,483

 
1.69
%
 
1,614,533

 
2.24
%
Noninterest-bearing accounts - other
 
267,408

 
—
%
 
203,175

 
—
%
Total deposits
 
$
5,656,321

 
0.51
%
 
$
5,339,959

 
1.23
%

Deposits at June 30, 2020 increased $316 million, or 5.9%, from December 31, 2019. The increase in deposits was due to a $446 million increase in business and consumer accounts, due in part to the funding of PPP loans to customer accounts and the addition of new customers through PPP, which was partially offset by a $130 million decrease in wholesale deposits.


71

The aggregate amount of time deposits in denominations of more than $250 thousand at June 30, 2020 and December 31, 2019 were $138 million and $223 million, respectively. There were $136 million and $266 million of brokered deposits at June 30, 2020 and December 31, 2019, respectively.


Credit Risk Management

The following discussion highlights developments since December 31, 2019 and should be read in conjunction with "Credit Risk Management" within Part II, Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations in our 2019 Annual Report on Form 10-K.

As of June 30, 2020, our ratio of nonperforming assets to total assets remained low at 0.31% while our ratio of total loans delinquent over 30 days to total loans was 0.51%. The Company recorded provision for credit losses of $20.5 million for the six months ended June 30, 2020, and the ACL for loans increased by $23.2 million. Due to adverse economic conditions related to the COVID-19 pandemic, we recorded additional provisions for credit losses in the first two quarters of 2020 as an estimate of the potential impact of those conditions on our loan portfolio, including an evaluation of the credit risk related to the commercial business loans and commercial real estate loans granted forbearance during 2020 which we believe will experience a higher probability of default and increased credit losses.

As a result of the COVID-19 pandemic, the Company has approved forbearances for some of its borrowers. The status of these forbearances as of June 30, 2020 is as follows:

 
 
Forbearances Granted
 
Forbearances Complete
 
Forbearances Remaining
(dollars in thousands)
 
Number
 
Amount
 
Number of loans
 
Amount
 
Number of loans
 
Amount
Loan type: (1)
 
 
 
 
 
 
 
 
 
 
 
 
Commercial and industrial:
 
 
 
 
 
 
 
 
 
 
 
 
Commercial business
 
125

 
$
75,834

 
114

 
$
71,313

 
11

 
$
4,521

CRE owner occupied
 
30

 
$
74,759

 
23

 
$
53,478

 
7

 
$
21,281

Subtotal
 
155

 
150,593

 
137

 
124,791

 
18

 
25,802

CRE nonowner occupied
 
17

 
$
72,909

 
1

 
$
1,595

 
16

 
$
71,314

Single family
 
187

 
98,031

 
2

 
1,484

 
185

 
96,547

HELOCs and consumer
 
213

 
27,973

 
4

 
197

 
209

 
27,776

Total
 
572

 
$
349,506

 
144

 
$
128,067

 
428

 
$
221,439


(1) The above schedule does not include any SBA guaranteed loans for which the government is making payments as provided for under the CARES Act, or single family loans that are guaranteed by FHA or VA.

The forbearances granted for commercial and industrial loans and CRE nonowner occupied loans were generally for a period of 3 months while the forbearances for single family, HELOCs and consumer loans were generally for a period of 3 to 6 months.

As of June 30, 2020, 88% of the commercial and industrial loans granted forbearance have completed their forbearance period and have resumed payments and only 3% of the borrowers have requested a second forbearance period. The forbearance periods for the majority of the loans granted forbearance that were not complete as of June 30, 2020 are scheduled to be completed in the third quarter of 2020.

A portion of the ACL was related to commercial and industrial and CRE non-owner occupied loans which were granted forbearances. In computing our ACL, we assumed that the probability of default would be elevated for these types of loans. As a result, the ACL as a percentage of the outstanding balance of loans (net of any government guaranteed balances such as the PPP loans) was 4.0% for commercial business loans, 1.2% for CRE owner occupied loans and 0.8% for CRE nonowner occupied loans as of June 30, 2020.

72


Management considers the current level of the ACL to be appropriate to cover estimated lifetime losses within our LHFI portfolio. We remain cautious in our ongoing evaluation of ultimate credit risk in loans for which we have provided forbearance given the uncertain pandemic environment.

73

The following table presents the ACL by loan sub class.

 
June 30, 2020
 
January 1, 2020(2)
(in thousands)
Amount
 
Reserve Rate (1)
 
Amount
 
Reserve Rate (1)
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
Single family
$
8,070

 
0.93
%
 
$
6,918

 
0.70
%
Home equity and other
11,126

 
2.31
%
 
10,850

 
1.96
%
Total
19,196

 
1.42
%
 
17,768

 
1.16
%
Commercial real estate loans
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
7,325

 
0.84
%
 
3,853

 
0.43
%
Multifamily
5,387

 
0.41
%
 
4,038

 
0.40
%
Construction/land development


 


 
 
 
 
Multifamily construction
3,811

 
2.38
%
 
3,541

 
1.88
%
Commercial real estate construction
440

 
0.82
%
 
509

 
0.92
%
Single family construction
5,869

 
2.29
%
 
8,080

 
2.84
%
Single family construction to permanent
1,515

 
0.93
%
 
1,221

 
0.70
%
Total
24,347

 
0.87
%
 
21,242

 
0.82
%
Commercial and industrial loans
 
 
 
 
 
 
 
Owner occupied commercial real estate
5,641

 
1.23
%
 
1,180

 
0.25
%
Commercial business
15,816

 
4.04
%
 
3,425

 
0.83
%
Total
21,457

 
2.52
%
 
4,605

 
0.52
%
Total ACL
$
65,000

 
1.30
%
 
$
43,615

 
0.87
%

(1)
The reserve rate is calculated excluding balances related to loans that are insured by the FHA or guaranteed by the VA or SBA, including PPP loans.
(2)
On January 1, 2020 we adopted ASC 326 ("CECL"). As a result, the ACL as of January 1, 2020 is presented instead of December 31, 2019 so that amounts are comparable.


The following tables present the composition of TDRs by accrual and nonaccrual status.
 
 
At June 30, 2020
(in thousands)
Accrual
 
Nonaccrual
 
Total
 
 
 
 
 
 
Consumer
 
 
 
 
 
Single family (1)
$
57,879

 
$
812

 
$
58,691

Home equity and other
759

 
—

 
759

Total
58,638

 
812

 
59,450

Commercial and industrial loans
 
 
 
 
 
Owner occupied commercial real estate
—

 
678

 
678

Commercial business
43

 
1,343

 
1,386

Total
43

 
2,021

 
2,064

Total TDRs
$
58,681

 
$
2,833

 
$
61,514


(1)
Includes loan balances insured by the FHA or guaranteed by the VA of $48 million at June 30, 2020.


74

 
At December 31, 2019
(in thousands)
Accrual
 
Nonaccrual
 
Total
 
 
 
 
 
 
Consumer
 
 
 
 
 
Single family (1)
$
59,809

 
$
1,694

 
$
61,503

Home equity and other
853

 
9

 
862

 
60,662

 
1,703

 
62,365

Commercial and industrial loans
 
 
 
 
 
Commercial business
48

 
222

 
270

Total
48

 
222

 
270

Total TDRs
$
60,710

 
$
1,925

 
$
62,635

(1) Includes loan balances insured by the FHA or guaranteed by the VA of $49 million at December 31, 2019.

The Company had 303 loan relationships classified as TDRs totaling $61.5 million at June 30, 2020 with no related unfunded commitments. The Company had 305 loan relationships classified as TDRs totaling $62.6 million at December 31, 2019 with no related unfunded commitments. TDR loans within the LHFI portfolio and the related reserves are included in the ACL tables above.

Delinquent loans by loan type consisted of the following.
 
 
At June 30, 2020
 
 
Past Due and Still Accruing
 
 
 
 
 
 
 
 
 
(in thousands)
30-59 days
 
60-89 days
 
90 days or
more

 
Nonaccrual
 
Total past
due and nonaccrual (4)
 
Current
 
Total
loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Single family
$
4,173

 
$
2,621

 
$
18,589

 
$
5,174

 
$
30,557

 
$
952,609

(1) 
$
983,166

(2) 
Home equity and other
169

 
837

 
—

 
1,614

 
2,620

 
479,858

 
482,478

 
Total
4,342

 
3,458

 
18,589

 
6,788

 
33,177

 
1,432,467

 
1,465,644

 
Commercial real estate loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
—

 
—

 
—

 
—

 
—

 
867,967

 
867,967

 
Multifamily
—

 
—

 
—

 
—

 
—

 
1,306,079

 
1,306,079

 
Construction and land development
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Multifamily construction
—

 
—

 
—

 
—

 
—

 
160,199

 
160,199

 
Commercial real estate construction
—

 
—

 
—

 
—

 
—

 
53,766

 
53,766

 
Single family construction
—

 
—

 
—

 
—

 
—

 
255,784

 
255,784

 
Single family construction to permanent
—

 
—

 
—

 
—

 
—

 
162,596

 
162,596

 
Total
—

 
—

 
—

 
—

 
—

 
2,806,391

 
2,806,391

 
Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Owner occupied commercial real estate
—

 
—

 
—

 
6,071

 
6,071

 
456,832

 
462,903

 
Commercial business
643

 
2,005

 
—

 
9,048

 
11,696

 
685,644

 
697,340

 
Total
643

 
2,005

 
—

 
15,119

 
17,767

 
1,142,476

 
1,160,243

 
Total loans
$
4,985

 
$
5,463

 
$
18,589

 
$
21,907

 
$
50,944

 
$
5,381,334

 
$
5,432,278

 
 


75

 
At December 31, 2019
 
 
Past Due and Still Accruing
 
 
 
 
 
 
 
 
 
(in thousands)
30-59 days
 
60-89 days
 
90 days or more
 
Nonaccrual
 
Total past
due and nonaccrual (4)
 
Current
 
Total
loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Consumer loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Single family
$
5,694

 
$
4,261

 
$
19,702

 
$
5,364

 
$
35,021

 
$
1,037,685

(1) 
$
1,072,706

(2) 
Home equity and other
837

 
372

 
—

 
1,160

 
2,369

 
551,007

 
553,376

 
Total
6,531

 
4,633

 
19,702

 
6,524

 
37,390

 
1,588,692

 
1,626,082

 
Commercial real estate loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Non-owner occupied commercial real estate
—

 
—

 
—

 
—

 
—

 
895,546

 
895,546

 
Multifamily
—

 
—

 
—

 
—

 
—

 
999,140

 
999,140

 
Construction and land development
—

 
—

 
—

 
—

 
—

 
701,762

 
701,762

 
Total
—

 
—

 
—

 
—

 
—

 
2,596,448

 
2,596,448

 
Commercial and industrial loans
 
 
 
 
 
 
 
 
 
 


 
 
 
Owner occupied commercial real estate
—

 
—

 
—

 
2,891

 
2,891

 
474,425

 
477,316

 
Commercial business
44

 
—

 
—

 
3,446

 
3,490

 
411,220

 
414,710

 
Total
44

 
—

 
—

 
6,337

 
6,381

 
885,645

 
892,026

 
Total loans
$
6,575

 
$
4,633

 
$
19,702

 
$
12,861

 
$
43,771

 
$
5,070,785

 
$
5,114,556

(3) 
 


(1)
Includes $5.8 million and $3.5 million of loans at June 30, 2020 and December 31, 2019, respectively, where a fair value option election was made at the time of origination and, therefore, are carried at fair value with changes recognized in our consolidated income statements.
(2)
FHA-insured and VA-guaranteed single family loans that are 90 days or more past due are maintained on accrual status if they are determined to have little to no risk of loss.
(3)
Net deferred loans fees and costs of $24.5 million were included within the carrying amounts of the loan balances as of December 31, 2019, in order to conform with the current period presentation.
(4) Includes loans whose repayments are insured by the FHA or guaranteed by the VA or SBA of $25.6 million and $28.4 million at June 30, 2020 and December 31, 2019, respectively.

Enterprise Risk Management

Like many financial institutions, we manage and control a variety of business and financial risks that can significantly affect our financial performance. Among these risks are credit risk; market risk, which includes interest rate risk and price risk; liquidity risk; and operational risk. We are also subject to risks associated with compliance/legal, strategic and reputational matters.
Beginning in March 2020 as the COVID-19 pandemic challenges began to unfold in earnest, management updated its enterprise wide risk assessment and risk monitoring reporting to overlay identified COVID-19 specific risks and mitigations to inform the Board and other constituents.  During the second quarter the Board and its various committees, specifically the Executive Committee, the Enterprise Risk Management Committee and the Credit Committee, continued to be actively engaged in oversight of the heightened risks stemming from the pandemic and the mitigations put in place by management and we

76



re kept apprised of the status through regularly scheduled meetings and special meetings. A Crisis Management Team and the CARES Act Team continued to meet frequently to discuss risks on a real time basis and to oversee the rollout and implementation of federal programs such as the CARES Act and regulatory guidance related to the COVID-19 pandemic. Management level risk reporting for areas of heightened risk is being kept current on a daily, weekly or monthly basis, as appropriate.

For more information on how we manage these business, financial and other risks, see the discussion in "Enterprise Risk Management" within Part II, Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations in our 2019 Annual Report on Form 10-K.

Liquidity and Sources of Funds

Liquidity risk management is primarily intended to ensure we are able to maintain sources of cash to adequately fund operations and meet our obligations, including demands from depositors, draws on lines of credit and paying any creditors, on a timely and cost-effective basis, in various market conditions. Our liquidity profile is influenced by changes in market conditions, the composition of the balance sheet and risk tolerance levels. The Company has established liquidity guidelines and operating plans that detail the sources and uses of cash and liquidity.

The primary sources of liquidity include deposits, loan payments and investment security payments, both principal and interest, borrowings, and proceeds from the sale of loans and investment securities. Borrowings include advances from the FHLB, federal funds purchased and borrowing from other financial institutions. Additionally, the Company may sell stock or issue long-term debt to raise funds. While scheduled principal repayments on loans and investment securities are a relatively predictable source of funds, deposit inflows and outflows and prepayments of loans and investment securities are greatly influenced by interest rates, economic conditions and competition.

At June 30, 2020 and December 31, 2019, the Bank had available borrowing capacity of $842 million and $943 million, respectively, from the FHLB, and $373 million and $267 million, respectively, from the Federal Reserve Bank of San Francisco.


Cash Flows

For the six months ended June 30, 2020, cash, cash equivalents increased by $8 million compared to an increase of $41 million for the six months ended June 30, 2019. The following discussion highlights the major activities and transactions that affected our cash flows during these periods.

Cash flows from operating activities

The Company's operating assets and liabilities are used to support our lending activities, including the origination and sale of mortgage loans. For the six months ended June 30, 2020, net cash of $145 million was used in operating activities, primarily from cash used to fund LHFS production exceeding cash proceeds from the sale of loans. We believe that cash flows from operations, available cash balances and our ability to generate cash through short-term debt are sufficient to fund our operating liquidity needs. For the six months ended June 30, 2019, net cash of $108 million was used in operating activities, primarily from the recognition of deferred taxes from the sale of mortgage servicing rights and the net fair value adjustment and gain on sale of LHFS and cash used to fund LHFS production exceeding cash proceeds from the sale of loans.

Cash flows from investing activities

The Company's investing activities primarily include available-for-sale securities and loans originated as held for investment. For the six months ended June 30, 2020, net cash of $378 million was used in investing activities, primarily due to the purchase of $335 million investment securities, the origination, net of principal repayments of $403 million of loans, partially offset by $245 million of proceeds from sale of loans originated as held for investment, $56 million proceeds from the sale of investment securities and $78 million from principal repayments and maturities of investment securities. For the six months ended June 30, 2019, net cash of $124 million was provided by investing activities, primarily due to $168 million in net cash provided by disposal of discontinued operations, $339 million from proceeds of loans originated as held for investment and $119 million

77

proceeds from the sale of investment securities, partially offset by $484 million of cash used for the origination of portfolio loans net of principal repayments.

Cash flows from financing activities

The Company's financing activities are primarily related to deposits and net proceeds from borrowings. For the six months ended June 30, 2020, net cash of $531 million was provided by financing activities, primarily due to $242 million net proceeds on borrowings and a $316 million increase in deposits, partially offset by $26 million from common stock repurchases. For the six months ended June 30, 2019, net cash of $26 million was provided by financing activities, primarily due to $598 million of growth in deposits, partially offset by $564 million net repayments from borrowings and $28 million from our common stock repurchase program.

Off-Balance Sheet Arrangements

In the normal course of business, we are a party to financial instruments that carry off-balance sheet risk. These financial instruments (which include commitments to originate loans and commitments to purchase loans) include potential credit risk in excess of the amount recognized in the accompanying consolidated financial statements. These transactions are designed to (1) meet the financial needs of our customers, (2) manage our credit, market or liquidity risks, (3) diversify our funding sources and/or (4) optimize capital.

These commitments include the following.
(in thousands)
At June 30,
2020
 
At December 31,
2019
 
 
 
 
Unused consumer portfolio lines
$
454,252

 
$
485,143

Commercial portfolio lines (1)
675,545

 
722,242

Commitments to fund loans
22,259

 
52,762

Total
$
1,152,056

 
$
1,260,147


(1) Within the commercial portfolio, undistributed construction loan proceeds, where the Company has an obligation to advance funds for construction progress payments, were $388 million and $435 million at June 30, 2020 and December 31, 2019, respectively.


Capital Resources and Dividend Policy

The capital rules applicable to United States based bank holding companies and federally insured depository institutions (“Capital Rules”) require the Company (on a consolidated basis) and the Bank (on a stand-alone basis) to meet specific capital adequacy requirements that, for the most part, involve quantitative measures, primarily in terms of the ratios of their capital to their assets, liabilities, and certain off-balance sheet items, calculated under regulatory accounting practices. In addition, prompt correct action regulations place a federally insured depository institution, such as the Bank, into one of five capital categories on the basis of its capital ratios: (i) well capitalized; (ii) adequately capitalized; (iii) undercapitalized; (iv) significantly undercapitalized; or (v) critically undercapitalized. A depository institution’s primary federal regulatory agency may determine that, based on certain qualitative assessments, the depository institution should be assigned to a lower capital category than the one indicated by its capital ratios. At each successive lower capital category, a depository institution is subject to greater operating restrictions and increased regulatory supervision by its federal bank regulatory agency.

The following table sets forth the capital and capital ratios of HomeStreet Inc. (on a consolidated basis) and HomeStreet Bank as of the respective dates indicated below, as compared to the respective regulatory requirements applicable to them:



78

 
 
At June 30, 2020
 
 
Actual
 
For Minimum Capital
Adequacy Purposes
 
To Be Categorized As
"Well Capitalized" 
(in thousands)
 
Amount
 
Ratio
 
Amount
 
Ratio
 
Amount
 
Ratio
 
 
 
 
 
 
 
 
 
 
 
 
 
HomeStreet, Inc.
 
 
 
 
 
 
 
 
 
 
 
 
Tier 1 leverage capital (to average assets)
 
$
692,657

 
9.73
%
 
$
284,854

 
4.0
%
 
NA

 
NA

Common equity Tier 1 capital (to risk-weighted assets)
 
632,657

 
11.17
%
 
254,963

 
4.5
%
 
NA

 
NA

Tier 1 risk-based capital (to risk-weighted assets)
 
692,657

 
12.23
%
 
339,951

 
6.0
%
 
NA

 
NA

Total risk-based capital (to risk-weighted assets)
 
763,498

 
13.48
%
 
453,268

 
8.0
%
 
NA

 
NA

HomeStreet Bank
 
 
 
 
 
 
 
 
 
 
 
 
Tier 1 leverage capital (to average assets)
 
$
688,480

 
9.79
%
 
$
281,244

 
4.0
%
 
$
351,555

 
5.0
%
Common equity Tier 1 capital (to risk-weighted assets)
 
688,480

 
12.83
%
 
241,409

 
4.5
%
 
348,701

 
6.5
%
Tier 1 risk-based capital (to risk-weighted assets)
 
688,480

 
12.83
%
 
321,878

 
6.0
%
 
429,171

 
8.0
%
Total risk-based capital (to risk-weighted assets)
 
755,564

 
14.08
%
 
429,171

 
8.0
%
 
536,464

 
10.0
%
 
 
 
 
 
 
 
 
 
 
 
 
 


 
 
At December 31, 2019
 
 
Actual
 
For Minimum Capital
Adequacy Purposes
 
To Be Categorized As
"Well Capitalized" 
(in thousands)
 
Amount
 
Ratio
 
Amount
 
Ratio
 
Amount
 
Ratio
 
 
 
 
 
 
 
 
 
 
 
 
 
HomeStreet, Inc.
 
 
 
 
 
 
 
 
 
 
 
 
Tier 1 leverage capital (to average assets)
 
$
691,323

 
10.16
%
 
$
272,253

 
4.0
%
 
NA

 
NA

Common equity Tier 1 capital (to risk-weighted assets)
 
631,323

 
11.43
%
 
248,523

 
4.5
%
 
NA

 
NA

Tier 1 risk-based capital (to risk-weighted assets)
 
691,323

 
12.52
%
 
331,364

 
6.0
%
 
NA

 
NA

Total risk-based capital (to risk-weighted assets)
 
739,812

 
13.40
%
 
441,818

 
8.0
%
 
NA

 
NA

HomeStreet Bank
 
 
 
 
 
 
 
 
 
 
 
 
Tier 1 leverage capital (to average assets)
 
$
712,596

 
10.56
%
 
$
269,930

 
4.0
%
 
$
337,413

 
5.0
%
Common equity Tier 1 capital (to risk-weighted assets)
 
712,596

 
13.50
%
 
237,451

 
4.5
%
 
342,985

 
6.5
%
Tier 1 risk-based capital (to risk-weighted assets)
 
712,596

 
13.50
%
 
316,602

 
6.0
%
 
422,136

 
8.0
%
Total risk-based capital (to risk-weighted assets)
 
758,303

 
14.37
%
 
422,136

 
8.0
%
 
527,669

 
10.0
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

As of each of the dates set forth in the above table, the Company exceeded the minimum required capital ratios applicable to it and the Bank’s capital ratios exceeded the minimums necessary to qualify as a well-capitalized depository institution under the prompt corrective action regulations. In addition to the minimum capital ratios, both HomeStreet Inc. and HomeStreet Bank are required to maintain a capital conservation buffer consisting of additional Common Equity Tier 1 Capital of more than 2.5% above the required minimum levels in order to avoid limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses based on percentages of eligible retained income that could be utilized for such actions. The required ratios for capital adequacy set forth in the above table do not include the Capital Rules’ additional capital conservation buffer, though each of the Company and Bank maintained capital ratios necessary to satisfy the capital conservation buffer requirements as of the dates indicated. At June 30, 2020, capital conservation buffers for the Company and the Bank were 5.48% and 6.08%, respectively.

79


The Company paid a quarterly cash dividend of $0.15 per common share in each of the first and second quarters of 2020. It is our current intention to continue to pay quarterly dividends and the Company has declared a cash dividend of $0.15 per common share payable on August 24, 2020. The amount and declaration of future cash dividends are subject to approval by our Board of Directors and certain regulatory restrictions.

We had no material commitments for capital expenditures as of June 30, 2020. However, we intend to take advantage of opportunities that may arise in the future to grow our businesses, which may include opening additional offices or acquiring complementary businesses that we believe will provide us with attractive risk-adjusted returns. As a result, we may seek to obtain additional borrowings and to sell additional shares of our common stock to raise funds which we might need for these purposes. There is no assurance, however, that, if required, we will succeed in obtaining additional borrowings or selling additional shares of our common stock on terms that are acceptable to us, if at all, as this will depend on market conditions and other factors outside of our control, as well as our future results of operations.


80


Non-GAAP Financial Measures

To supplement our unaudited condensed consolidated financial statements presented in accordance with GAAP, we use certain non-GAAP measures of financial performance. These supplemental performance measures may vary from, and may not be comparable to, similarly titled measures provided by other companies in our industry. Non-GAAP financial measures are not in accordance with, or an alternative for, GAAP. Generally, a non-GAAP financial measure is a numerical measure of a company’s performance that either excludes or includes amounts that are not normally excluded or included in the most directly comparable measure calculated and presented in accordance with GAAP. A non-GAAP financial measure may also be a financial metric that is not required by GAAP or other applicable requirement.

We believe that these non-GAAP financial measures, when taken together with the corresponding GAAP financial measures, provide meaningful supplemental information regarding our performance by providing additional information used by management that is not otherwise required by GAAP or other applicable requirements. Our management uses, and believes that investors benefit from referring to, these non-GAAP financial measures in assessing our operating results and when planning, forecasting and analyzing future periods. These non-GAAP financial measures also facilitate a comparison of our performance to prior periods. We believe these measures are frequently used by securities analysts, investors and other interested parties in the evaluation of companies in our industry. However, these non-GAAP financial measures should be considered in addition to, not as a substitute for or superior to, financial measures prepared in accordance with GAAP. In the information below, we have provided a reconciliation of, where applicable, the most comparable GAAP financial measures to the non-GAAP measures used in this quarterly report on Form 10-Q, or a reconciliation of the non-GAAP calculation of the financial measure.

In this quarterly report on Form 10-Q, we use (i) tangible common equity and tangible assets as we believe this information is consistent with the treatment by bank regulatory agencies, which exclude intangible assets from the calculation of capital ratios; and (ii) an efficiency ratio which is the ratio of noninterest expense to the sum of net interest income and noninterest income, excluding certain items of income or expense and excluding taxes incurred and payable to the state of Washington as such taxes are not classified as income taxes and we believe including them in noninterest expense impacts the comparability of our results to those companies whose operations are in states where assessed taxes on business are classified as income taxes.

Reconciliations of non-GAAP results of operations to the nearest comparable GAAP measures:

81

 
As of or for the quarter ended June 30,
 
As of or for the six months ended June 30,
(dollars in thousands, except share data)
2020
 
2019
 
2020
 
2019
 
 
 
 
 
 
 
 
Return on average tangible equity (annualized)
 
 
 
 
 
 
 
Average shareholders' equity
$
698,521

 
$
737,510

 
$
694,916

 
$
743,967

Less: Average goodwill and other intangibles
(33,785
)
 
(36,604
)
 
(33,955
)
 
(32,607
)
Average tangible equity
$
664,736

 
$
700,906

 
$
660,961

 
$
711,360

 
 
 
 
 
 
 
 
Net income (loss)
18,904

 
(5,588
)
 
26,043

 
(7,303
)
Ratio
11.4
%
 
(3.2
)%
 
7.9
%
 
(2.1
)%
Income from continuing operations
18,904

 
8,892

 
26,043

 
13,950

Ratio
11.4
%
 
5.1
 %
 
7.9
%
 
3.9
 %
 


 
 
 
 
 
 
Efficiency ratio
 
 
 
 
 
 
 
Noninterest expense
 
 
 
 
 
 
 
Total
$
57,652

 
$
58,832

 
$
112,836

 
$
106,678

Adjustments:
 
 
 
 
 
 
 
Lease impairment costs
(1,602
)
 
(225
)
 
(1,813
)
 
(225
)
Other restructuring related charges
(551
)
 
(1,242
)
 
(1,555
)
 
(1,124
)
State of Washington taxes
(675
)
 
(525
)
 
(1,187
)
 
(855
)
Adjusted total
$
54,824

 
$
56,840

 
$
108,281

 
$
104,474

 
 
 
 
 
 
 
 
Total revenues
 
 
 
 
 
 
 
Net interest income
$
51,496

 
$
49,187

 
$
96,930

 
$
96,744

Noninterest income
36,602

 
19,829

 
69,232

 
27,921

Adjustments
 
 
 
 
 
 
 
Contingent payout
(566
)
 
—

 
(566
)
 
—

Adjusted total
$
87,532

 
$
69,016

 
$
165,596

 
$
124,665

 
 
 
 
 
 
 
 
Ratio
62.6
%
 
82.4
 %
 
65.4
%
 
83.8
 %
 
 
 
 
 
 
 
 
 
As of
(dollars in thousands, except share data)
June 30, 2020
 
December 31, 2019
 
 
 
 
Tangible book value per share
 
 
 
Shareholders' equity
$
694,649

 
$
679,723

Less: goodwill and other intangibles
(33,563
)
 
(34,252
)
Tangible shareholder's equity
$
661,086

 
$
645,471

Common shares outstanding
23,007,400

 
23,890,855

Computed amount
$
28.73

 
$
27.02

 
 
 
 
Tangible common equity to tangible assets
 
 
 
Tangible shareholder's equity (per above)
$
661,086

 
$
645,471

Tangible assets
 
 
 
Total assets
7,351,118

 
6,812,435

Less: Goodwill and other intangibles
(33,563
)
 
(34,252
)
Net
$
7,317,555

 
$
6,778,183

Ratio
9.0
%
 
9.5
%
 
 
 
 


82

ITEM 3
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market Risk Management

The following discussion highlights developments since December 31, 2019 and should be read in conjunction with the Market Risk Management discussion within Part II, Item 7A Quantitative and Qualitative Disclosures About Market Risk in our 2019 Annual Report on Form 10-K. Since December 31, 2019, there have been no material changes in the types of risk management instruments we use or in our hedging strategies.

Market risk is defined as the sensitivity of income, fair value measurements and capital to changes in interest rates, foreign currency exchange rates, commodity prices and other relevant market rates or prices. The primary market risks that we are exposed to are price and interest rate risks. Price risk is defined as the risk to current or anticipated earnings or capital arising from changes in the value of either assets or liabilities that are entered into as part of distributing or managing risk. Interest rate risk is defined as risk to current or anticipated earnings or capital arising from movements in interest rates.

For the Company, price and interest rate risks arise from the financial instruments and positions we hold. This includes loans, MSRs, investment securities, deposits, borrowings, long-term debt and derivative financial instruments. Due to the nature of our current operations, we are not subject to foreign currency exchange or commodity price risk. Our real estate loan portfolio is subject to risks associated with the local economies of our various markets, in particular, the regional economy of the western United States, including Hawaii.

Our price and interest rate risks are managed by the Bank's Asset/Liability Management Committee ("ALCO"), a management committee that identifies and manages the sensitivity of earnings or capital to changing interest rates to achieve our overall financial objectives. ALCO is a management-level committee whose members include the Chief Investment Officer, acting as the chair, the Chief Executive Officer, the Chief Financial Officer and other members of management. The committee meets monthly and is responsible for:
•
understanding the nature and level of the Company's interest rate risk and interest rate sensitivity;
•
assessing how that risk fits within our overall business strategies;
•
ensuring an appropriate level of rigor and sophistication in the risk management process for the overall level of risk;
•
complying with and reviewing the asset/liability management policy; and
•
formulating and implementing strategies to improve balance sheet mix and earnings.

The Finance Committee of the Bank's Board provides oversight of the asset/liability management process, reviews the results of interest rate risk analysis and approves submission of the relevant policies to the board.

The spread between the yield on interest-earning assets and the cost of interest-bearing liabilities and the relative dollar amounts of these assets and liabilities are the principal items affecting net interest income. Changes in net interest rates (interest rate risk) are influenced to a significant degree by the repricing characteristics of assets and liabilities (timing risk), the relationship between various rates (basis risk), customer options (option risk) and changes in the shape of the yield curve (time-sensitive risk). We manage the available-for-sale investment securities portfolio while maintaining a balance between risk and return. The Company's funding strategy is to grow core deposits while we efficiently supplement using wholesale borrowings.

We estimate the sensitivity of our net interest income to changes in market interest rates using an interest rate simulation model that includes assumptions related to the level of balance sheet growth, deposit repricing characteristics and the rate of prepayments for multiple interest rate change scenarios. Interest rate sensitivity depends on certain repricing characteristics in our interest-earnings assets and interest-bearing liabilities, including the maturity structure of assets and liabilities and their repricing characteristics during the periods of changes in market interest rates. Effective interest rate risk management seeks to ensure both assets and liabilities respond to changes in interest rates within an acceptable timeframe, minimizing the impact of interest rate changes on net interest income and capital. Interest rate sensitivity is measured as the difference between the volume of assets and liabilities, at a point in time, that are subject to repricing at various time horizons, known as interest rate sensitivity gaps.



83

The following table presents sensitivity gaps for these different intervals.
 
 
June 30, 2020
(dollars in thousands)
3 Mos.
or Less
 
More Than
3 Mos.
to 6 Mos.
 
More Than
6 Mos.
to 12 Mos.
 
More Than
12 Mos.
to 3 Yrs.
 
More Than
3 Yrs.
to 5 Yrs.
 
More Than
5 Yrs.
 
Non-Rate-
Sensitive
 
Total
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest-earning assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash & cash equivalents
$
65,918

 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
$
65,918

FHLB Stock
—

 
—

 
—

 
—

 
—

 
15,666

 
—

 
15,666

Investment securities (1)
103,244

 
108,635

 
82,334

 
139,513

 
103,295

 
634,800

 
—

 
1,171,821

Mortgage LHFS
303,546

 
—

 
—

 
—

 
—

 
—

 
—

 
303,546

LHFI (1)
1,325,487

 
489,317

 
647,344

 
1,254,815

 
1,006,433

 
708,882

 
—

 
5,432,278

Total
1,798,195

 
597,952

 
729,678

 
1,394,328

 
1,109,728

 
1,359,348

 
—

 
6,989,229

Non-interest-earning assets
—

 
—

 
—

 
—

 
—

 
—

 
361,889

 
361,889

Total assets
$
1,798,195

 
$
597,952

 
$
729,678

 
$
1,394,328

 
$
1,109,728

 
$
1,359,348

 
$
361,889

 
$
7,351,118

Interest-bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing demand deposit accounts (2)
$
484,869

 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
$
484,869

Savings accounts (2)
246,817

 
—

 
—

 
—

 
—

 
—

 
—

 
246,817

Money market
accounts (2)
2,471,388

 
—

 
—

 
—

 
—

 
—

 
—

 
2,471,388

Certificates of deposit
318,218

 
285,207

 
368,736

 
142,203

 
22,119

 
—

 
—

 
1,136,483

Federal funds purchased and securities sold under agreements to repurchase
250,000

 
—

 
—

 
—

 
—

 
—

 
—

 
250,000

FHLB advances
180,000

 
—

 
—

 
—

 
1,125

 
4,465

 
—

 
185,590

Borrowings
278,000

 
—

 
—

 
—

 
—

 
—

 
—

 
278,000

Long-term debt (3)
60,744

 
—

 
—

 
—

 
—

 
65,000

 
—

 
125,744

Total
4,290,036

 
285,207

 
368,736

 
142,203

 
23,244

 
69,465

 
—

 
5,178,891

Non-interest bearing liabilities
—

 
—

 
—

 
—

 
—

 
—

 
1,477,578

 
1,477,578

Shareholders' equity
—

 
—

 
—

 
—

 
—

 
—

 
694,649

 
694,649

Total liabilities and shareholders' equity
$
4,290,036

 
$
285,207

 
$
368,736

 
$
142,203

 
$
23,244

 
$
69,465

 
$
2,172,227

 
$
7,351,118

Interest sensitivity gap
$
(2,491,841
)
 
$
312,745

 
$
360,942

 
$
1,252,125

 
$
1,086,484

 
$
1,289,883

 
 
 
 
Cumulative interest sensitivity gap
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total
$
(2,491,841
)
 
$
(2,179,096
)
 
$
(1,818,154
)
 
$
(566,029
)
 
$
520,455

 
$
1,810,338

 
 
 
 
As a % of total assets
(34
)%
 
(30
)%
 
(25
)%
 
(8
)%
 
7
%
 
25
%
 
 
 
 
As a % of cumulative interest-bearing liabilities
42
 %
 
52
 %
 
63
 %
 
89
 %
 
110
%
 
135
%
 
 
 
 

(1)
Based on contractual maturities, repricing dates and forecasted principal payments assuming normal amortization and, where applicable, prepayments.
(2)
Assumes 100% of interest-bearing non-maturity deposits are subject to repricing in three months or less.
(3)
Based on contractual maturity or our expected sale date.



84

Changes in the mix of interest-earning assets or interest-bearing liabilities can either increase or decrease the net interest margin, without affecting interest rate sensitivity. In addition, the interest rate spread between an earning asset and its funding liability can vary significantly, while the timing of repricing for both the asset and the liability remains the same, thereby impacting net interest income. This characteristic is referred to as basis risk. Varying interest rate environments can create unexpected changes in prepayment levels of assets and liabilities that are not reflected in the interest rate sensitivity analysis. These prepayments may have a significant impact on our net interest margin. Because of these factors, an interest sensitivity gap analysis may not provide an accurate assessment of our actual exposure to changes in interest rates.

The estimated impact on our net interest income over a time horizon of one year and the change in net portfolio value as of June 30, 2020 and December 31, 2019 are provided in the table below. For the scenarios shown, the interest rate simulation assumes an instantaneous and sustained shift in market interest rates and no change in the composition or size of the balance sheet.

 
 
June 30, 2020
 
December 31, 2019
Change in Interest Rates
(basis points) (1)
 
Percentage Change
 
Net Interest Income (2)
 
Net Portfolio Value (3)
 
Net Interest Income (2)
 
Net Portfolio Value (3)
+200
 
3.1
 %
 
(8.8
)%
 
1.0
 %
 
(11.6
)%
+100
 
1.6

 
(3.3
)
 
0.6

 
(5.4
)
-100
 
(3.5
)
 
2.0

 
(0.9
)
 
4.1

-200
 
(4.9
)
 
1.1

 
(2.4
)
 
6.5

 

(1)
For purposes of our model, we assume interest rates will not go below zero. This "floor" limits the effect of a potential negative interest rate shock in a low rate environment like the one we are currently experiencing.
(2)
This percentage change represents the impact to net interest income for a one-year period, assuming there is no change in the structure of the balance sheet.
(3)
This percentage change represents the impact to the net present value of equity, assuming there is no change in the structure of the balance sheet.

At June 30, 2020, we believe our net interest income sensitivity did not exhibit a strong bias to either an increase in interest rates or a decline in interest rates. While the Company is considered liability sensitive as exhibited by the gap table and the projected change in the net portfolio value, our net interest income sensitivity analysis shows positive results in the increasing interest rate scenarios. This is because of the impact of our historical deposit repricing betas which result in an assumed delay in repricing of deposits in an increasing interest rate scenario. The changes in interest rate sensitivity between December 31, 2019 and June 30, 2020 reflected the impact of lower market interest rates, a flatter and inverted yield curve and changes to overall balance sheet composition. Some of the assumptions made in the simulation model may not materialize and unanticipated events and circumstances will occur. Modeling results in extreme interest rate decline scenarios may result in negative rate assumptions which may cause the results to be inherently unreliable. In addition, the simulation model does not take into account any future actions that we could undertake to mitigate an adverse impact due to changes in interest rates from those expected, in the actual level of market interest rates or competitive influences on our deposits.



85

ITEM 4
CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures
The Company carried out an evaluation, with the participation of our management and under the supervision of our Chief Executive Officer and our Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined under Rule 13a-15(e) and Rule 15d-15(e) under the Exchange Act) as of the end of the period covered by this report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of June 30, 2020.

Changes in Internal Control over Financial Reporting

As required by Rule 13a-15(d), our management, including our Chief Executive Officer and Chief Financial Officer, also conducted an evaluation of our internal control over financial reporting to determine whether any changes occurred during the quarter ended June 30, 2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

There were no changes to our internal control over financial reporting that occurred during the quarter ended June 30, 2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.



PART II - OTHER INFORMATION
 

ITEM 1
LEGAL PROCEEDINGS

Because the nature of our business involves, among other things, the collection of numerous accounts, the validity of liens and compliance with various state and federal laws, we are subject to various legal proceedings in the ordinary course of our business related to foreclosures, bankruptcies, condemnation and quiet title actions and alleged statutory and regulatory violations. We are also subject to legal proceedings in the ordinary course of business related to employment and other consumer matters, including purported class and collective actions. We do not expect that these proceedings, taken as a whole, will have a material adverse effect on our business, financial position or our results of operations. There are currently no matters that, in the opinion of management, would have a material adverse effect on our consolidated balance sheet, results of operation or liquidity, or for which there would be a reasonable possibility of such a loss based on information known at this time.




86

ITEM 1A
RISK FACTORS

Refer to Item 1A of Part I of the Company’s Annual Report on Form 10-K for the year ended December 31, 2019, Item 1A of Part II of the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2020 , and to the risk factors below for a discussion of factors that could materially and adversely affect our business, financial condition, liquidity, results of operations and capital position.


Risks Related to Our Operations

Our primary markets continue to be significantly impacted by the COVID-19 pandemic, and most of those markets have seen a resurgence in outbreaks of the disease that have resulted in continuing and increased economic impacts.

In recent weeks, many of our primary markets, including Washington state, Oregon and California, have seen a resurgence in COVID-19 infections and as a result, officials in those areas have re-instituted more restrictive stay-home orders. As a result, consumer activity continues to be curtailed, and unemployment continues to be high in certain sectors such as food and beverage service, hospitality and retail, among others. In addition, schools in these areas are largely expected to delay in-person classes into the 2020-2021 school year, which may have further impacts on the ability of those economies to re-open and place added strain on parents who may not be able to find adequate child care to allow them to return to work. In addition to the continued pressure on our credit quality generally, the ongoing restrictions and limitations on economic activity may have a heightened impact on customers who have commercial and industrial loans, as their revenues may be adversely impacted which may in turn impact their ability to make loan payments, thereby increasing the credit risks on those loans. A significant increase in nonaccrual loans or defaulted loans could have a material adverse effect on our financial condition and results of operations.

We may not be able to continue our share repurchase program.
Since the second quarter of 2019, we have been repurchasing shares of our outstanding common stock, primarily in open market purchases, pursuant to repurchase plans authorized by our Board of Directors. Through August 5, 2020, we have repurchased a total of $33 million of our shares in 2020. On July 23, 2020, the Board of Directors approved the repurchase of up to an additional $25 million of our common stock, subject to non-objection from our regulators, to allow us to continue making repurchases. While we expect our regulators will not object to this additional authorization, some larger institutions have been restricted from continuing or implementing stock repurchase programs in the current economic environment, and if our regulators object to our most recent authorization, or if there is a significant change in our financial position due to the economic impacts of the resurgence of the COVID-19 outbreak or otherwise, we will not be able to repurchase our stock, which may negatively impact our stock price in the future.
Protest and civil unrest in our primary markets may adversely impact our communities and our branches.
Most of our primary markets, including Seattle and Portland, continue to have significant protests and, in some cases, civil unrest relating to current political movements, including calls to defund police departments. These protests have resulted in some violence and property damage, especially in downtown areas of those cities, which is disruptive to businesses in those areas and in some cases has forced us to temporarily close certain of our branches for the safety of our customers and employees. If these protests continue or intensify, they may materially impact the ability of certain of our commercial customers to do business in these markets, which in turn may impact their ability to repay certain loans or lower their overall deposits with us. In addition, these activities may also impact our financial situation more directly as we incur expenses or lose income as a result of the intermittent closure of branches in these areas.

We may not be able to timely execute on the implementation of a replacement for the London Interbank Offered Rate (LIBOR) metric in our business.

As previously announced by the Financial Conduct Authority in the United Kingdom, the continuation of LIBOR, a commonly used interest rate, on the current basis cannot and will not be guaranteed after 2021. In response to this, we have begun implementing a change in our instruments that are indexed to LIBOR to use short-term repurchase agreements backed by the U.S. Treasury (SOFR) as an alternative rate source and intend to have moved entirely to SOFR prior to the termination of LIBOR. However, in addition to the potential risks of using SOFR as a replacement for LIBOR, which are discussed in our risk factors in our Quarterly Report on Form 10-Q for the quarter ended March 31, 2020, there is also a risk that we may not be able to make such a change in a timely manner or without incurring unexpected additional expense, which may result in uncertainty in certain of our lending documents and financial instruments and may also result in disputes or litigation with customers and creditors over the applicability of the new rate source, all of which could have an adverse effect on our results of operations.


87

In recent quarters, single family lending has been a significant source of our revenues, which will be subject to significant volatility in future periods as market conditions change.
 
In recent quarters, due in part to a decrease in interest rates that is fueling added demand for mortgage refinancing originations, we have seen a significant increase in our income from single family lending. In addition, the profitability relating to this lending activity has also increased as the mortgage market generally has been unable to meet the full demand for such refinancings, which has prevented interest rates for such loans from declining as rapidly as the interest rates on other instruments such as treasury bills. While we have been able to take advantage of the increase in volume and upward pressure on pricing, if interest rates were to rise again, we expect the demand for originations would again decline. Similarly, if the mortgage market is able to begin meeting all of the demand for originations, we anticipate that interest rates would decline, thereby negatively impacting profitability. As a result, income from single family lending may experience volatility in the future which would be expected to have a negative impact on our financial results.












88

ITEM 2
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Purchases of Equity Securities by the Issuer
Shares repurchased, on a settlement-date basis, pursuant to the common equity repurchase program during the three months ended June 30, 2020 were as follows.

(in thousands, expect share and per share information)
 
Total shares of common stock purchased (1)
 
Average price paid per share of common stock
 
Total number of shares purchased as part of publicly announced plans
 
Dollar value of remaining authorized repurchase (2)
 
April
 
—

 
$
—

 
—

 
$
17,049

 
May
 
20,381

 
23.21

 
16,000

 
16,670

 
June
 
381,202

 
24.19

 
380,795

 
7,460

 
Three months ended June 30, 2020
 
401,583

 
24.14

 
396,795

 

 
 
 
 
 
 
 
 
 
 
 

(1) Includes shares of the Company's common stock acquired by the Company in connection with satisfaction of tax withholding obligations on vested restricted stock units and equity compensation arrangements.
(2) Stock repurchases in the second quarter of 2020 were made pursuant to a Board authorized share repurchase program approved on January 23, 2020 pursuant to which the Company could purchase up to $25.0 million of its issued and outstanding common stock, no par value, at prevailing market rates at the time of such purchase.




Sales of Unregistered Securities

There were no sales of unregistered securities during the second quarter of 2020.



89



ITEM 3
DEFAULTS UPON SENIOR SECURITIES

Not applicable.

ITEM 4
MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5
OTHER INFORMATION



Not applicable.


90

ITEM 6
EXHIBITS
EXHIBIT INDEX

Exhibit
Number
 
Description
 
 
 
31.1
 
31.2
 
32 (1)
 
101 INS
 
Inline XBRL Instance Document
101.SCH
  
Inline XBRL Taxonomy Extension Schema Document
101.CAL
  
Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF
  
Inline XBRL Taxonomy Extension Label Linkbase Document
101.LAB
  
Inline XBRL Taxonomy Extension Presentation Linkbase Document
101.PRE
  
Inline XBRL Taxonomy Extension Definitions Linkbase Document
104
 
Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)



(1)
This exhibit shall not be deemed "filed" for purposes of Section 18 of the Securities Exchange Act of 1934, or otherwise subject to the liability of that Section. Such exhibit shall not be deemed incorporated into any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934.


91

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Seattle, State of Washington, on August 10, 2020.
 
 
HomeStreet, Inc.
 
 
 
 
By:
/s/ Mark K. Mason
 
 
Mark K. Mason
 
 
President and Chief Executive Officer
 
 
(Principal Executive Officer)



 
HomeStreet, Inc.
 
 
 
 
By:
/s/ John M. Michel
 
 
John M. Michel
 
 
Executive Vice President and Chief Financial Officer
 
 
(Principal Financial Officer)


92