Cautionary Note on Forward-Looking Statements
This Annual Report on Form
10-K contains forward-looking statements, which can be identified by the use of words such as “estimate,” “project,”
“believe,” “intend,” “anticipate,” “plan,” “seek,” “expect,”
“will,” “may” and words of similar meaning. These forward-looking statements include, but are not limited
to:
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statements of our goals, intentions and expectations;
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statements regarding our business plans, prospects, growth
and operating strategies;
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statements regarding the asset quality of our loan and
investment portfolios;
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estimates of our risks and future costs and benefits;
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statements about the financial condition, results of operations
and business of Poage Bankshares.
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These forward-looking statements
are based on our current beliefs and expectations and are inherently subject to significant business, economic and competitive
uncertainties and contingencies, many of which are beyond our control. In addition, these forward-looking statements are subject
to assumptions with respect to future business strategies and decisions that are subject to change. Except as may be required by
law, we do not take any obligation to update any forward-looking statements after the date of this Annual Report on Form 10-K.
You should not place undue reliance on such forward-looking statements.
The following factors,
among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the
forward-looking statements:
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our ability to manage our operations under the current
adverse economic conditions (including real estate values, loan demand, inflation, commodity prices and unemployment levels) nationally
and in our market area;
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adverse changes in the financial industry, securities,
credit and national local real estate markets (including real estate values);
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significant increases in our loan losses, including as
a result of our inability to resolve classified assets, and management’s assumptions in determining the adequacy of the
allowance for loan losses;
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credit risks of lending activities, including changes in
the level and trend of loan delinquencies and write-offs and in our allowance for loan losses and provision for loan losses;
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our ability to successfully enhance internal controls;
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our business may not be combined successfully with the
businesses of Town Square Financial Corporation and Commonwealth, or such combination may take longer to accomplish than expected,
if at all;
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the growth opportunities and cost savings from the acquisitions
of Town Square Financial Corporation and Commonwealth Bank may not be fully realized or may take longer to realize than expected,
if at all;
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our ability to manage increased expenses following the
acquisitions of Town Square Financial Corporation and Commonwealth Bank, including salary and employee benefit expenses and occupation
expenses;
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operating costs, customer losses and business disruption
following the acquisitions of Town Square Financial Corporation and Commonwealth, including adverse effects of relationships with
employees, may be greater than expected;
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competition among depository and other financial institutions;
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our success in increasing our commercial business and commercial
real estate loans;
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our ability to improve our asset quality even as we increase
our commercial business, commercial real estate and multi-family lending, including as a result of the acquisitions of Town Square
Financial Corporation and Commonwealth;
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our success in introducing new financial products;
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our ability to attract and maintain deposits, including
depositors of the former Town Square Bank and former depositors of Commonwealth Bank;
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decreases in our asset quality;
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changes in interest rates generally, including changes
in the relative differences between short term and long term interest rates and in deposit interest rates, that may affect our
net interest margin and funding sources;
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fluctuations in the demand for loans, which may be affected
by the number of unsold homes, land and other properties in our market areas and by declines in the value of real estate in our
market area;
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changes in consumer spending, borrowing and savings habits;
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declines in the yield on our assets resulting from the
current low interest rate environment;
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risks related to a high concentration of loans secured
by real estate located in our market area;
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the results of examinations by our regulators, including
the possibility that our regulators may, among other things, require us to increase our reserve for loan losses, write down assets,
change our regulatory capital position, limit our ability to borrow funds or maintain or increase deposits, or prohibit us from
paying dividends, which could adversely affect our dividends and earnings;
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changes in laws or government regulations or policies affecting
financial institutions, including the Dodd-Frank Act and the JOBS Act, which could result in, among other things, increased deposit
insurance premiums and assessments, capital requirements (particularly the new capital regulations), regulatory fees and compliance
costs and the resources we have available to address such changes;
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changes in the level of government support of housing finance;
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our ability to enter new markets successfully and capitalize
on growth opportunities;
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changes in accounting policies and practices, as may be
adopted by the bank regulatory agencies, the Financial Accounting Standards Board, the Securities and Exchange Commission and
the Public Company Accounting Oversight Board;
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changes in our organization, compensation and benefit plans
and our ability to retain key members of our senior management team;
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loan delinquencies and changes in the underlying cash flows
of our borrowers;
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the failure or security breaches of computer systems on
which we depend;
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the ability of key third-party providers to perform their
obligations to us; and
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changes in the financial condition or future prospects
of issuers of securities that we own.
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Because of these and a
wide variety of other uncertainties, our actual future results may be materially different from the results indicated by these
forward-looking statements. Please see “Risk Factors” beginning on page 33.
Poage Bankshares, Inc.
Poage Bankshares, Inc.
is incorporated in the State of Maryland. We are the holding company for Town Square Bank (“Town Square”).
Our cash flow depends on
earnings from the investment of the net proceeds from the offering that we retained, and any dividends we receive from Town Square.
Poage Bankshares, Inc. neither owns nor leases any property, but instead pays a fee to Town Square for the use of its premises,
equipment and furniture. At the present time, we employ only persons who are officers of Town Square to serve as officers of Poage
Bankshares, Inc. We do, however, use the support staff of Town Square from time to time. We pay a fee to Town Square for the time
devoted to Poage Bankshares, Inc. by employees of Town Square. However, these persons are not separately compensated by Poage Bankshares,
Inc. Poage Bankshares, Inc. may hire additional employees, as appropriate, to the extent it expands its business in the future.
Our executive offices are
located at 1500 Carter Avenue, Ashland, Kentucky 41101. Our telephone number at this address is (606) 324-7196.
Town Square Bank
General
Town Square Bank (the “Bank”
or “Town Square”) is a federal savings association headquartered in Ashland, Kentucky. Town Square was originally chartered
in 1889. Town Square’s business consists primarily of accepting savings accounts, checking accounts and certificates of deposits
from the general public and investing those deposits, together with funds generated from operations and borrowings, in first lien
one- to four-family mortgage loans, commercial and multi-family real estate loans, commercial and industrial loans, consumer loans,
consisting primarily of automobile loans and home equity loans and lines of credit, and construction loans. Town Square also purchases
investment securities consisting primarily of mortgage-backed securities issued by United States Government agencies and government-sponsored
enterprises, and obligations of state and political subdivisions. Town Square offers a variety of deposit accounts, including savings
accounts, NOW and demand accounts, certificates of deposits, money market accounts and retirement accounts. Town Square provides
financial services to individuals, families and businesses through our banking offices located in and around Ashland, Nicholasville
and Mt. Sterling, Kentucky.
Town Square’s executive offices are located at 1500 Carter
Avenue, Ashland, Kentucky 41101. Its telephone number at this address is (606) 324-7196, and its website address is http://www.townsquarebank.com.
Information on this website is not and should not be considered to be part of this Annual Report on Form 10-K.
Market Area
Our primary lending markets
are in Boyd, Greenup, Lawrence, Jessamine, Montgomery, Fayette and Campbell Counties in Kentucky, and Lawrence, Scioto, Hamilton,
Butler, Warren and Clermont Counties in Ohio. Our retail deposit market includes the areas surrounding our ten offices in northeastern
Kentucky, including our main office in Ashland and our branch offices in Ashland, Flatwoods, Greenup, Louisa, South Shore, Catlettsburg,
Cannonsburg, Nicholasville and Mt. Sterling. We also operate an automated teller machine at each of our offices and have a loan
production office in both the Cincinnati, Ohio and Lexington, Kentucky areas.
Our market area includes
both rural and urban communities. The total population base in the five counties where we operate full service offices was estimated
to be 180,000 in 2015 and 179,000 in 2014. The economic base in our lending market was in the past primarily industrial and reliant
upon a small number of large employers, particularly in the steel and petroleum industries. A decline in these segments of the
local economy has resulted in slow economic growth and population loss over the last several decades. However, during recent years,
a diversification of our employment base into services including healthcare has offset to some extent the adverse impact of the
decline of our industrial base. We have further diversified our employment base with opening of our Cincinnati, Ohio and Lexington,
Kentucky area loan production offices.
Per capita incomes in the
counties comprising our lending market in Boyd, Jessamine, Fayette and Campbell counties in Kentucky along with Hamilton, Butler,
Clermont and Warren counties in Ohio are higher than their respective state averages, while the counties of Lawrence, Montgomery
and Greenup in Kentucky along with Lawrence and Scioto in Ohio, lag their respective state averages. As of December 2016, the unemployment
rates in Jessamine, Fayette and Campbell counties in Kentucky and Hamilton, Butler, Clermont and Warren counties in Ohio were 3.4%,
3.1%, 3.5%, 4.0%, 4.1%, 4.1% and 3.9% respectively, which is lower than the national unemployment rate, while the unemployment
rates in Boyd, Lawrence, Greenup and Montgomery counties Kentucky along with Lawrence and Scioto counties in Ohio were 7.2%, 9.2%,
7.7%, 5.5%, 5.1% and 6.9% respectively, which are higher than the national unemployment rate.
Competition
We compete with national
financial institutions, as well as numerous state chartered banking institutions of comparable or larger size and resources, smaller
community banking organizations and a variety of nonbank competitors. We compete for deposits with other commercial banks, savings
associations and credit unions and with the issuers of commercial paper and other securities, such as shares in money market mutual
funds. In making loans, we compete with other banks, savings associations, consumer finance companies, credit unions, leasing companies
and other lenders. Many of the institutions against whom we compete are national and regional banks that are significantly larger
than us and, therefore, have significantly greater resources and the ability to achieve economies of scale by offering a broader
range of products and services at more competitive prices than we can offer. We expect competition to increase in the future as
a result of legislative, regulatory and technological changes and the continuing trend of consolidation in the financial services
industry.
As of June 30, 2016,
our market share of deposits represented 13.78% of Federal Deposit Insurance Corporation-insured deposits in Boyd, Greenup, Lawrence,
Jessamine and Montgomery Counties in Kentucky combined. To effectively compete, we seek to emphasize community orientation, local
and timely decision making and superior customer service.
Lending Activities
Our principal lending activity
has been the origination of first lien one- to four-family residential mortgage loans and, to a lesser extent, commercial and multi-family
real estate loans, consumer loans, consisting primarily of automobile loans, home equity loans and lines of credit, and construction
loans. In order to diversify our loan portfolio, we recently increased our emphasis on commercial business loans, commercial real
estate loans and consumer loans.
We sell substantially all
of our fixed-rate residential mortgages to the Federal Home Loan Bank of Cincinnati (“FHLB–Cincinnati”) with
servicing retained. Total proceeds from mortgages sold under this program was approximately $8.1 million and $8.5 million for the
years ended December 31, 2016 and 2015, respectively. In 2014 we began a secondary market referral program to additional secondary
market outlets with no servicing retained. The sale of our fixed-rate residential mortgage originations to the FHLB–Cincinnati
along with referrals to other secondary market outlets and our increased originations of nonresidential loans, which generally
have shorter terms than one- to four-family residential loans, assist in managing the interest rate risk associated with our portfolio
of long-term fixed-rate one- to four-family residential loans.
Loan Portfolio Composition
.
The following table sets forth the composition of our loan portfolio by type of loan at the dates indicated.
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Three months ended
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December 31,
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December 31,
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September 30,
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2016
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2015
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2014
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2013
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2013
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Amount
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Percent
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Amount
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Percent
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Amount
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Percent
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Amount
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Percent
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Amount
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Percent
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Real estate loans:
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One-to four-family
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$
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177,801
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51.28
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%
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$
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184,613
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58.35
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%
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$
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179,480
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59.01
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%
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$
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135,243
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74.73
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%
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$
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132,462
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74.62
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%
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Multi-family
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6,823
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1.97
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%
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4,521
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|
|
|
1.43
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%
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|
|
5,916
|
|
|
|
1.95
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%
|
|
|
889
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|
|
|
0.57
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%
|
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|
1,020
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|
|
|
0.57
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%
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Commercial real estate
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83,169
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23.99
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%
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|
|
62,726
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|
|
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19.83
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%
|
|
|
62,979
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|
|
|
20.71
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%
|
|
|
17,321
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|
|
|
9.44
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%
|
|
|
16,763
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|
|
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9.44
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%
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Construction and land
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|
|
11,019
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|
|
|
3.18
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%
|
|
|
6,282
|
|
|
|
1.99
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%
|
|
|
5,142
|
|
|
|
1.69
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%
|
|
|
2,176
|
|
|
|
2.16
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%
|
|
|
3,840
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|
|
|
2.16
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%
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Total real estate loans
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|
|
278,812
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|
|
|
80.42
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%
|
|
|
258,142
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|
|
|
81.60
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%
|
|
|
253,517
|
|
|
|
83.36
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%
|
|
|
155,629
|
|
|
|
86.90
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%
|
|
|
154,085
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|
|
|
86.79
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%
|
|
|
|
|
|
|
|
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Commercial business loans
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38,747
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11.17
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%
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|
|
31,841
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10.07
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%
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25,523
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8.39
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%
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|
|
5,641
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|
|
3.15
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%
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|
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5,509
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|
|
3.10
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%
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Consumer loans:
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|
|
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|
|
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Home equity loans and lines of credit
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10,655
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3.07
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%
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8,287
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|
|
|
2.62
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%
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|
|
7,973
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|
|
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2.62
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%
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|
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5,953
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|
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3.32
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%
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5,872
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3.31
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%
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Motor vehicle
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|
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10,624
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3.07
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%
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10,735
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3.39
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%
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|
|
10,337
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3.40
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%
|
|
|
8,902
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|
|
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4.98
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%
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|
|
9,015
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|
|
|
5.08
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%
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Other
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7,877
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2.27
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%
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|
7,347
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|
|
2.32
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%
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|
|
6,774
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|
|
|
2.23
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%
|
|
|
2,960
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|
|
1.65
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%
|
|
|
3,058
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|
|
|
1.72
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%
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Total consumer loans
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|
29,156
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|
|
8.41
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%
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|
|
26,369
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|
|
8.33
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%
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|
|
25,084
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|
|
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8.25
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%
|
|
|
17,815
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|
|
|
9.95
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%
|
|
|
17,945
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|
|
10.11
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%
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Total loans
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|
346,715
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|
|
|
100.00
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%
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316,352
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|
|
100.00
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%
|
|
|
304,124
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|
|
|
100.00
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%
|
|
|
179,085
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|
|
|
100.00
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%
|
|
|
177,539
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|
|
100.00
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%
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|
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|
|
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|
|
|
|
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|
|
|
|
|
|
|
|
|
|
|
Net deferred fees
|
|
|
445
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|
|
|
|
|
|
|
351
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|
|
|
|
|
|
|
201
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|
|
|
|
|
|
|
89
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|
|
|
|
|
|
|
74
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|
|
|
|
|
Allowance for losses
|
|
|
2,349
|
|
|
|
|
|
|
|
1,858
|
|
|
|
|
|
|
|
1,911
|
|
|
|
|
|
|
|
1,908
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|
|
|
|
|
|
|
1,989
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|
|
|
|
|
Loans, net
|
|
$
|
343,921
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|
|
|
|
|
|
$
|
314,143
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|
|
|
|
|
|
$
|
302,012
|
|
|
|
|
|
|
$
|
177,088
|
|
|
|
|
|
|
$
|
175,476
|
|
|
|
|
|
Contractual Maturities
and Interest Rate Sensitivity
.
The following table summarizes the scheduled maturities of our loan portfolio at December
31, 2016. Demand loans, loans having no stated repayment schedule or maturity, and overdraft loans are reported as being due in
one year or less. Loans are presented net of loans in process.
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One-to
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|
|
|
|
|
Multi-Family
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Four-
|
|
|
Home
|
|
|
and Commercial
|
|
|
Construction
|
|
|
Commercial
|
|
|
|
|
|
|
|
December 31, 2016
|
|
Family
|
|
|
Equity
|
|
|
Real Estate
|
|
|
and Land
|
|
|
Business
|
|
|
Consumer
|
|
|
Total
|
|
Amounts due in:
|
|
(In thousands)
|
|
One year or less
|
|
$
|
177
|
|
|
$
|
137
|
|
|
$
|
7,010
|
|
|
$
|
4,696
|
|
|
$
|
21,565
|
|
|
$
|
2,145
|
|
|
$
|
35,730
|
|
More than one to two years
|
|
|
624
|
|
|
|
932
|
|
|
|
195
|
|
|
|
1,109
|
|
|
|
2,914
|
|
|
|
1,499
|
|
|
|
7,273
|
|
More than two to three years
|
|
|
864
|
|
|
|
494
|
|
|
|
187
|
|
|
|
33
|
|
|
|
1,072
|
|
|
|
2,405
|
|
|
|
5,055
|
|
More than three to five years
|
|
|
2,545
|
|
|
|
1,698
|
|
|
|
836
|
|
|
|
91
|
|
|
|
7,709
|
|
|
|
6,781
|
|
|
|
19,660
|
|
More than five to ten years
|
|
|
18,459
|
|
|
|
7,199
|
|
|
|
17,958
|
|
|
|
880
|
|
|
|
4,796
|
|
|
|
3,850
|
|
|
|
53,142
|
|
More than ten to fifteen years
|
|
|
18,024
|
|
|
|
195
|
|
|
|
17,571
|
|
|
|
2,976
|
|
|
|
505
|
|
|
|
1,246
|
|
|
|
40,517
|
|
More than fifteen years
|
|
|
137,108
|
|
|
|
-
|
|
|
|
46,235
|
|
|
|
1,234
|
|
|
|
186
|
|
|
|
575
|
|
|
|
185,338
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
177,801
|
|
|
$
|
10,655
|
|
|
$
|
89,992
|
|
|
$
|
11,019
|
|
|
$
|
38,747
|
|
|
$
|
18,501
|
|
|
$
|
346,715
|
|
The following table sets
forth our fixed and adjustable-rate loans at December 31, 2016 that are contractually due after December 31, 2017. Loans are presented
net of loans in process.
|
|
Due After December 31, 2017
|
|
|
|
Fixed
|
|
|
Adjustable
|
|
|
Total
|
|
|
|
(In thousands)
|
|
Real Estate:
|
|
|
|
|
|
|
|
|
|
|
|
|
One-to four- family
|
|
$
|
46,333
|
|
|
$
|
129,584
|
|
|
$
|
175,917
|
|
Multi-family and commercial real estate
|
|
|
3,644
|
|
|
|
79,338
|
|
|
|
82,982
|
|
Construction and land
|
|
|
2,630
|
|
|
|
5,400
|
|
|
|
8,030
|
|
Total real estate loans
|
|
|
52,607
|
|
|
|
214,322
|
|
|
|
266,929
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer and other loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer
|
|
|
15,892
|
|
|
|
465
|
|
|
|
16,357
|
|
Home equity lines-of-credit
|
|
|
1,880
|
|
|
|
8,637
|
|
|
|
10,517
|
|
Commercial business
|
|
|
13,098
|
|
|
|
4,084
|
|
|
|
17,182
|
|
Total consumer and other loans
|
|
|
30,870
|
|
|
|
13,186
|
|
|
|
44,056
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
83,477
|
|
|
$
|
227,508
|
|
|
$
|
310,985
|
|
One- to Four-Family
Residential Real Estate Lending
.
A significant portion of our loan portfolio includes the origination of one- to four-family
residential mortgage loans. At December 31, 2016, $177.8 million, or 51.3% of our total loan portfolio, consisted of loans secured
by one- to four-family residences compared to $184.6 million, or 58.4% of our total loan portfolio at December 31, 2015.
Historically, we have originated
both fixed-rate and adjustable-rate one- to four-family mortgage loans. At December 31, 2016, 26.3% of our total one- to four-family
mortgage loans were fixed-rate loans and 73.7% were adjustable-rate loans.
Our fixed-rate one- to
four-family residential mortgage loans are generally underwritten according to secondary market standards (e.g., Freddie Mac guidelines),
and we refer to loans that conform to such guidelines as “conforming loans.” We generally originate both fixed- and
adjustable-rate mortgage loans in amounts up to the maximum conforming loan limits as established by the Federal Housing Finance
Agency, which as of December 31, 2016 was generally $417,000 for single-family homes in our market area. We also originate adjustable
rate loans above the lending limit for conforming loans, which are referred to as “jumbo loans.” The majority of our
residential loans are secured by properties located in our market area.
We generally limit the
loan-to-value ratios of our mortgage loans to 80% of the sales price or appraised value, whichever is lower. Loans with certain
credit enhancements, such as private mortgage insurance, may be made with loan-to-value ratios up to 95%. Our fixed-rate one- to
four-family mortgage loans typically have terms of 15 or 30 years.
Although we have offered
adjustable-rate loans for many years, beginning in fiscal 2010 we began to increase our emphasis on such loans, subject to demand
for such loans in a lower interest rate environment, and to increase the sale of fixed-rate mortgage loans that we originate, in
order to enhance the interest rate sensitivity of our loan portfolio. Our owner-occupied adjustable-rate one- to four-family residential
mortgage loans generally have fixed rates for initial terms of five years, and adjust annually thereafter at a margin (generally
of 3.5% for owner-occupied properties) over the weekly average yield on U.S. Treasury securities adjusted to a constant maturity
of one year. The maximum amount by which the interest rate may be increased or decreased is generally 2% per adjustment period
and the lifetime interest rate cap is generally 6% over the initial interest rate of the loan. Our adjustable-rate loans carry
terms to maturity of up to 30 years.
Although adjustable-rate
mortgage loans may reduce to an extent our vulnerability to changes in market interest rates because, as interest rates increase,
they periodically reprice and the required payments due from the borrower also increase (subject to rate caps), and the ability
of the borrower to repay the loan and the marketability of the underlying collateral may be adversely affected. Upward adjustments
of the contractual interest rate are also limited by the maximum periodic and lifetime rate adjustments permitted by our loan documents.
Moreover, the interest rates on most of our adjustable-rate loans generally do not adjust for five years after origination. As
a result, the effectiveness of adjustable-rate mortgage loans in compensating for changes in general interest rates may be limited
during periods of rapidly rising interest rates.
We do not offer “interest
only” mortgage loans on one- to four-family residential properties (where the borrower pays interest for an initial period,
after which the loan converts to a fully amortizing loan). We also do not offer loans that provide for negative amortization of
principal, such as “Option ARM” loans, where the borrower can pay less than the interest owed on the loan, resulting
in an increased principal balance during the life of the loan. We do not offer “subprime loans” (i.e., loans that generally
target borrowers with weakened credit histories typically characterized by payment delinquencies, previous charge-offs, judgments,
bankruptcies, or borrowers with questionable repayment capacity as evidenced by low credit scores or high debt-burden ratios),
or “Alt-A” loans (i.e., loans that generally target borrowers with better credit scores who borrow with alternative
documentation such as little or no verification of income).
Until fiscal 2010, we generally
retained in our portfolio all of the loans that we originated. In July 2010, as part of our interest rate risk management strategy,
we initiated a secondary market program focused on reducing the origination of fixed-rate residential mortgage loans for our portfolio
and selling some or all of our fixed rate mortgage originations in the FHLB–Cincinnati Mortgage Purchase Program, with servicing
retained. For the year ended December 31, 2016, we sold approximately $8.1 million in fixed-rate mortgage loans to the FHLB–Cincinnati.
We expect that loans sold under this program will continue to increase.
Based on our continued
implementation of a secondary market program for new fixed rate loan originations, we expect that adjustable-rate one- to four-family
residential mortgage loans will decrease in our loan portfolio over the next three years. Anticipated increases to interest rates
may have a negative impact to new loan originations. Additionally, the Bank has placed increased emphasis on fixed rate loans originated
and sold in the secondary market. Currently, substantially all fixed rate one- to four- family residential mortgage loans we originate
are sold in the secondary market, and we retain substantially all adjustable-rate one- to four-family residential mortgage loans
we originate.
Consumer Lending
and Home Equity Loans and Lines of Credit
. At December 31, 2016, $10.7 million, or 3.1% of our total loan portfolio, consisted
of home equity loans and lines of credit, and $18.5 million, or 5.3% of our total loan portfolio consisted of motor vehicles and
other consumer loans, compared to $8.3 million, or 2.6% of our total loan portfolio, and $18.1 million, or 5.7% of our total loan
portfolio, respectively, at December 31, 2015. In order to reduce the term of our loans and enhance the yields thereof, we intend
to increase our consumer loans and home equity loans and lines of credit over the next three years.
Currently, our consumer
loans include, among other loans, new and used automobile and truck loans, recreational vehicle loans and personal loans.
Consumer loans may entail
greater credit risk than residential mortgage loans, particularly in the case of consumer loans that are unsecured or that are
secured by rapidly depreciable assets, such as automobiles. In addition, consumer loan collections are dependent on the borrower’s
continuing financial stability, and thus are more likely to be affected by adverse personal circumstances. Furthermore, the application
of various federal and state laws, including bankruptcy and insolvency laws, may limit the amount that can be recovered on such
loans. In determining whether to make a consumer loan, we consider the value of collateral, and the borrower’s residence,
employment history, annual income and debt service ratio which, including all mortgage payments and the credit line payment, generally
may not exceed 40% of gross monthly income without prior approval of Town Square’s credit committee or senior officer with
appropriate lending authority.
We offer home equity loans
and lines of credit secured by a first or second mortgage on residential property (principal dwelling, condominium, etc.). Home
equity loans and lines of credit are made with fixed or adjustable rates, and with combined loan-to-value ratios up to 85% on an
owner-occupied principal residence and up to 80% on a second home, condominium or vacation home. On a limited basis, loan-to-value
ratios may exceed 90% of appraised value if approved by Town Square’s credit committee or senior officer with appropriate
lending authority.
Home equity loans and lines
of credit may entail greater credit risk than one- to four-family residential mortgage loans, as they typically involve higher
loan-to-value ratios and are typically second in priority behind first mortgages on the property. Therefore, any decline in real
estate values may have a more detrimental effect on our home equity loans and lines of credit than on our one- to four-family residential
mortgage loans.
Commercial Real Estate
and Multi-Family Loans
.
At December 31, 2016, our commercial real estate loans totaled $83.2 million and our multi-family
loans totaled $6.8 million compared to $62.7 million and $4.5 million, respectively, at December 31, 2015. Subject to market conditions,
we intend to continue to increase the proportion of these nonresidential real estate loans in our portfolio over the next three
years.
Maturities for our commercial
real estate and multi-family loans generally do not exceed 15 years, although exceptions may be made for terms of up to 20 years.
Rates are generally adjustable based upon the weekly average yield on U.S. treasury securities adjusted to a constant maturity
of five year or another floating index. The maximum loan-to-value ratio is 80% on our owner-occupied commercial real estate loans.
The maximum loan-to-value ratio on one- to four-family residential rental properties, and office or retail non-owner-occupied commercial
real estate or rental properties with greater than five units is 75%. We generally require a first mortgage on all commercial real
estate loans, as well as a debt service coverage ratio of 1.25:1.
Set forth below is information regarding our
commercial real estate loans at December 31, 2016.
Type of Loan
|
|
Number of Loans
|
|
|
Balance
|
|
|
|
|
|
|
(Dollars in thousands)
|
|
Office
|
|
|
77
|
|
|
$
|
18,038
|
|
Industrial
|
|
|
80
|
|
|
|
20,341
|
|
Retail
|
|
|
50
|
|
|
|
33,445
|
|
Mixed use
|
|
|
-
|
|
|
|
-
|
|
Church
|
|
|
14
|
|
|
|
3,822
|
|
Other
|
|
|
42
|
|
|
|
7,523
|
|
Total
|
|
|
263
|
|
|
$
|
83,169
|
|
Commercial and multi-family
real estate loans generally carry higher interest rates and have shorter terms than one- to four-family residential mortgage loans.
Multi-family and commercial real estate loans, however, entail greater credit risks compared to one- to four-family residential
mortgage loans because they typically involve larger loan balances concentrated with single borrowers or groups of related borrowers.
In addition, the payment of loans secured by income-producing properties typically depends on the successful operation of the property,
as repayment of the loan generally is dependent, in large part, on sufficient income from the property to cover operating expenses
and debt service. Changes in economic conditions that are not in the control of the borrower or lender could affect the value of
the collateral for the loan or the future cash flow of the property. Additionally, any decline in real estate values may be more
pronounced for commercial and multi-family real estate than residential properties.
Commercial Business
Loans.
Our portfolio of commercial business loans increased to $38.7 million, or 11.2% of our total loan portfolio at December
31, 2016 from $31.8 million, or 10.0% of our total loan portfolio at December 31, 2015. Our commercial business loans generally
consist of regular lines of credit and revolving lines of credit to businesses to finance short-term working capital needs like
accounts receivable and inventory. These loans are generally priced on an adjustable-rate basis and may be secured or unsecured.
We generally obtain personal guarantees with all commercial business loans. Business assets such as accounts receivable, inventory
and equipment, or real estate may be used to secure lines of credit. Our revolving lines of credit typically have a maximum term
of 12 months.
We also originate commercial
term loans to fund long-term borrowing needs such as purchasing equipment, property improvements or other fixed asset needs. We
fix the maturity of a term loan to correspond to 75% of the useful life of any equipment purchased or seven years, whichever is
less. Term loans can be secured with a variety of collateral, including business assets such as accounts receivable and inventory
or intermediate and long-term assets such as equipment, commercial vehicles or real estate.
Unlike one- to four-family
residential real estate loans, which we generally originate on the basis of the borrower’s ability to make repayment from
his or her employment and other income, and which are secured by real property whose value tends to be more easily ascertainable,
we typically originate commercial loans (including real estate as well as non-real estate loans) on the basis of the borrower’s
ability to make repayment from the cash flow of the borrower’s business or rental income produced by the property. As a result,
the availability of funds for the repayment of commercial loans may be substantially dependent on the success of the business or
rental property itself and the general economic environment. Therefore, commercial loans that we originate have greater credit
risk than one- to four-family residential real estate loans or consumer loans. In addition, commercial loans generally result in
larger outstanding balances to single borrowers, or related groups of borrowers, and also generally require substantially greater
evaluation and oversight efforts.
Construction and
Land Loans
. At December 31, 2016, $11 million, or 3.2% of our total loan portfolio consisted of construction and land loans,
compared to $6.3 million, or 2.0% of our total loan portfolio at December 31, 2015. We make construction loans to individuals for
the construction of their primary residences. These loans generally have maximum terms of 12 months, and upon completion of construction
convert to conventional amortizing mortgage loans. These construction loans have higher risk based interest rates and terms. During
the construction phase, the borrower generally pays interest only. The maximum loan-to-value ratio of our owner-occupied construction
loans is generally 100% of construction costs or 80% of the completed-appraised-value, whichever is less.
Residential construction
loans are generally underwritten pursuant to the same guidelines used for originating permanent residential mortgage loans. These
loans generally have initial maximum terms of nine months, although the term may be extended to up to 21 months. The loans generally
carry variable rates of interest. The maximum loan-to-value ratio of these construction loans is generally 90% of construction
costs or 80% of the completed-appraised-value, whichever is less. We also make loans for the construction of commercial and multi-family
buildings.
In addition, we make loans
secured by unimproved land to complement our construction and non-residential lending activities. These loans have terms of up
to 15 years, and maximum loan-to-value ratios of 65%.
Set forth below is certain
information regarding our construction and land loans at December 31, 2016.
|
|
Number of
|
|
|
Loans in
|
|
|
|
|
|
|
|
|
|
Loans
|
|
|
Process
|
|
|
Performing
|
|
|
Non-Performing
|
|
|
|
(Dollars in thousands)
|
|
One-to four-family construction
|
|
|
8
|
|
|
$
|
890
|
|
|
$
|
1,707
|
|
|
$
|
-
|
|
Commercial and multi-family construction
|
|
|
5
|
|
|
|
862
|
|
|
|
4,308
|
|
|
|
-
|
|
Land Development
|
|
|
18
|
|
|
|
306
|
|
|
|
3,988
|
|
|
|
41
|
|
Residential land
|
|
|
44
|
|
|
|
-
|
|
|
|
975
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total construction and land loans
|
|
|
75
|
|
|
$
|
2,058
|
|
|
$
|
10,978
|
|
|
$
|
41
|
|
To the extent our construction
loans are not made to owner-occupants of single-family homes, they are more vulnerable to changes in economic conditions and the
concentration of credit with a limited number of borrowers. Further, the nature of these loans is such that they are more difficult
to evaluate and monitor. Our risk of loss on a construction or land loan is dependent largely upon the accuracy of the initial
estimate of the property’s value upon completion of the project and the estimated cost (including interest) of the project.
If the estimate of value proves to be inaccurate, we may be confronted, at or prior to the maturity of the loan, with a project
with a value which is insufficient to assure full repayment and/or the possibility of having to make substantial investments to
complete and sell the project. Because defaults in repayment may not occur during the construction period, it may be difficult
to identify problem loans at an early stage.
Loan Approval Procedures
and Authority
. The aggregate amount of loans that we are permitted to make to any one borrower or group of related borrowers
is generally limited to 15% of Town Square’s unimpaired capital and surplus (25% if the amount in excess of 15% is secured
by “readily marketable collateral”). At December 31, 2016, based on the 15% limitation, Town Square’s loans-to-one-borrower
limit was approximately $10.0 million. On the same date, Town Square had no lending relationships with outstanding balances in
excess of this amount.
Our lending is subject
to written underwriting standards and origination procedures. Decisions on loan applications are made on the basis of detailed
applications submitted by the prospective borrower and property valuations (consistent with our appraisal policy) prepared by outside
independent licensed appraisers approved by our Board of Directors, as well as internal evaluations, where permitted by regulations.
The loan applications are designed primarily to determine the borrower’s ability to repay the requested loan, and the more
significant items on the application are verified through use of credit reports, financial statements and tax returns.
Under our loan policy,
the individual processing an application is responsible for ensuring that all documentation is obtained prior to the submission
of the application to an officer for approval. Once all documentation is obtained, an officer then reviews these materials and
verifies that the requested loan meets our underwriting guidelines.
Our loan approval authority
is based upon the knowledge and experience of our individual lending officers. Larger loans require the approval of Town Square’s
internal Credit Committee, which is chaired by the Chief Credit Officer and includes the Chief Executive Officer and four other
senior officers with appropriate credit backgrounds. All loans on an aggregate basis exceeding $2.0 million require the approval
of both the internal Credit Committee and Directors Credit Committee, which is chaired by the Chief Executive Officer and includes
four outside directors. All loans on an aggregate basis exceeding $4.0 million up to our legal lending limit, require the approval
of a majority of the Board of Directors.
Generally, we require title
insurance or abstracts on our mortgage loans as well as fire and extended coverage casualty insurance in amounts at least equal
to the principal amount of the loan or the value of improvements on the property, depending on the type of loan.
Originations, Sales
and Servicing.
Lending activities are conducted solely by our salaried loan personnel. All loans originated by us are underwritten
pursuant to our policies and procedures. We originate both fixed-rate and adjustable-rate loans. Our ability to originate fixed
or adjustable-rate loans is dependent upon relative customer demand for such loans, which is affected by current and expected future
levels of market interest rates. We originate real estate and other loans through our loan officers, marketing efforts, our customer
base, walk-in customers and referrals from real estate brokers, builders and attorneys.
We sell certain of our
fixed rate one- to four-family mortgage loan originations in the FHLB-Cincinnati Mortgage Purchase Program. We have also undertaken
a review of our existing loan portfolio to identify customers who may qualify and benefit from this product. Loans are sold to
the FHLB-Cincinnati without recourse, except for limited circumstances including failure of the mortgage to meet FHLB–Cincinnati
guidelines or our breach of any representation and warranty in the sales transaction.
In addition to the representations
and warranties described above, Town Square provides credit enhancements to the FHLB-Cincinnati by sharing losses with other members
of the program in an aggregated pool. A Fixed Lender Risk Account (“LRA”) has been established and is maintained
by the FHLB-Cincinnati on behalf of Town Square and other members selling mortgages to the FHLB-Cincinnati. The LRA amount
is established as a percentage applied to the sum of the initial unpaid principal balance of each mortgage in the Aggregated Pool
at the time of the purchase of the mortgage as determined by the FHLB-Cincinnati and is funded by the deduction from the proceeds
of sale of each mortgage in the Aggregated Pool to the FHLB-Cincinnati. Town Square had on deposit with the FHLB-Cincinnati $923,000
at December 31, 2016 and $833,000 at December 31, 2015 in these LRA’s. These accounts are held by the FHLB-Cincinnati
and Town Square bears the risk of receiving less than 100% of its LRA contribution in the event of losses, either by Town Square
or other members selling mortgages in the aggregated pool. Any losses will be deducted first from the individual LRA contribution
of the institution that sold the mortgage of which the loss was incurred. If losses incurred in the aggregated pool are greater
than the member’s LRA contribution, such losses will be deducted from the LRA contribution of other members selling mortgages
in that aggregated pool. Any portion of the LRA not used to pay losses will be released over a thirty year period and will
not start until the end of five years after the initial fill-up period. Town Square had approximately $9,000 of the LRA amounts
released during the year ended December 31, 2016. Unless Town Square is required to buy back a loan because it did not meet
the criteria under the representations and warranties to be covered as part of the aggregated pool, the credit risk is limited
to the amount provided in the LRA.
All of the loans sold during
the years ended December 31, 2016 and 2015 were subject to these representations and warranties. As of December 31, 2016, we have
had one required repurchase of loans sold, due to an underwriting error. We incurred a loss of approximately $3,000 which was our
loss on the sale of that loan. No liabilities have been accrued for loans sold at December 31, 2016 or 2015.
Loan servicing includes
collecting and remitting loan payments, accounting for principal and interest, contacting delinquent borrowers, supervising foreclosures
and property dispositions in the event of un-remedied defaults, making certain insurance and tax payments on behalf of the borrowers
and generally administering the loans. We retain a portion of the interest paid by the borrower on the loans we service as consideration
for our servicing activities. For the years ended December 31, 2016 and December 31, 2015, we received loan servicing fees
of $102,000 and $97,000, respectively. As of December 31, 2016 and December 31, 2015, the principal balance of loans serviced
for the FHLB-Cincinnati totaled $42.6 million and $39.6 million, respectively.
We currently purchase whole
loans or interests in loans from third parties, which includes loans to health care professionals and motor vehicle loans.
Delinquencies and Non-Performing Assets
Delinquency Procedures
.
When a borrower fails to make their required monthly payment on or before the late payment date, a notice is generated stating
the amount of the payment and applicable late charge(s) that are due. An attempt is also made at this time to contact the borrower
by telephone regarding their late payment. Collection procedures provide that if no response or payment is received from the borrower,
additional collections efforts will be taken through the generation of a 30-day right to cure or demand letter. Contact with the
borrower regarding establishment of payment arrangements to satisfy their delinquency will be coordinated through the lending officer
and collections department. If, at this point, no response is received from the borrower, further accelerated collection efforts
such as the pursuit of legal action, repossession or foreclosure may be initiated. If any of these actions are pursued, all further
communication with the borrower will be directed to the collections area.
When we acquire real estate
as a result of foreclosure or by deed in lieu of foreclosure, the real estate is classified as foreclosed real estate and held
in the other real estate owned (OREO) asset account until it is sold. The real estate is appraised and recorded at estimated fair
value after acquisition, less estimated costs to sell, and any write-down resulting from the acquisition, is charged to the allowance
for loan losses. Subsequent decreases in the value of the property are charged to expense. After acquisition, all costs in maintaining
the property are expensed as incurred. Costs relating to the development and improvement of the property, however, are capitalized
to the extent of estimated fair value, less estimated costs to sell.
Delinquent Loans
. The following table sets forth our
loan delinquencies and PCI loans by delinquency status and discloses non-accrual loans separately, by type and amount at the dates
indicated.
|
|
At December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
30-59
|
|
|
60-89
|
|
|
90 Days
|
|
|
|
|
|
30-59
|
|
|
60-89
|
|
|
90 Days
|
|
|
|
|
|
|
Days
|
|
|
Days
|
|
|
or More
|
|
|
|
|
|
Days
|
|
|
Days
|
|
|
or More
|
|
|
|
|
|
|
Past Due
|
|
|
Past Due
|
|
|
Past Due
|
|
|
|
|
|
Past Due
|
|
|
Past Due
|
|
|
Past Due
|
|
|
|
|
|
|
Still
|
|
|
Still
|
|
|
Still
|
|
|
Non-
|
|
|
Still
|
|
|
Still
|
|
|
Still
|
|
|
Non-
|
|
|
|
Accruing
|
|
|
Accruing
|
|
|
Accruing
|
|
|
Accrual
|
|
|
Accruing
|
|
|
Accruing
|
|
|
Accruing
|
|
|
Accrual
|
|
|
|
|
|
|
|
|
|
|
|
|
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
Real estate loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One-to four-family
|
|
$
|
785
|
|
|
$
|
160
|
|
|
$
|
-
|
|
|
$
|
3,428
|
|
|
$
|
821
|
|
|
$
|
40
|
|
|
$
|
-
|
|
|
$
|
2,967
|
|
Multi-family
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Commercial real estate
|
|
|
100
|
|
|
|
-
|
|
|
|
-
|
|
|
|
970
|
|
|
|
44
|
|
|
|
-
|
|
|
|
-
|
|
|
|
773
|
|
Construction and land
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
41
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
259
|
|
Total real estate loans
|
|
|
885
|
|
|
|
160
|
|
|
|
-
|
|
|
|
4,439
|
|
|
|
865
|
|
|
|
40
|
|
|
|
-
|
|
|
|
3,999
|
|
Commercial and industrial loans
|
|
|
1
|
|
|
|
40
|
|
|
|
-
|
|
|
|
90
|
|
|
|
3
|
|
|
|
-
|
|
|
|
-
|
|
|
|
449
|
|
Consumer loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Home equity loans and lines of credit
|
|
|
-
|
|
|
|
1
|
|
|
|
-
|
|
|
|
155
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
23
|
|
Motor vehicle
|
|
|
40
|
|
|
|
15
|
|
|
|
-
|
|
|
|
-
|
|
|
|
21
|
|
|
|
1
|
|
|
|
-
|
|
|
|
-
|
|
Other
|
|
|
2
|
|
|
|
19
|
|
|
|
-
|
|
|
|
5
|
|
|
|
18
|
|
|
|
2
|
|
|
|
-
|
|
|
|
31
|
|
Total consumer loans
|
|
|
42
|
|
|
|
35
|
|
|
|
-
|
|
|
|
160
|
|
|
|
39
|
|
|
|
3
|
|
|
|
-
|
|
|
|
54
|
|
Total delinquent loans
|
|
$
|
928
|
|
|
$
|
235
|
|
|
$
|
-
|
|
|
$
|
4,689
|
|
|
$
|
907
|
|
|
$
|
43
|
|
|
$
|
-
|
|
|
$
|
4,502
|
|
Classified Assets
.
Federal regulations provide for the classification of loans and other assets, such as debt and equity securities considered by
the Office of the Comptroller of the Currency (“OCC”) to be of lesser quality, as “substandard,” “doubtful”
or “loss.” An asset is considered “substandard” if it is inadequately protected by the current net worth
and paying capacity of the obligor or of the collateral pledged, if any. “Substandard” assets include those characterized
by the “distinct possibility” that the insured institution will sustain “some loss” if the deficiencies
are not corrected. Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard,”
with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of
currently existing facts, conditions, and values, “highly questionable and improbable.” Assets classified as “loss”
are those considered “uncollectible” and of such little value that their continuance as assets without the establishment
of a specific loss reserve is not warranted. Assets that do not currently expose the insured institution to sufficient risk to
warrant classification in one of the aforementioned categories but possess weaknesses are designated as “special mention”
by our management.
When an insured institution
classifies problem assets as either substandard or doubtful, it may establish general allowances in an amount deemed prudent by
management to cover probable incurred losses. General allowances represent loss allowances which have been established to cover
probable incurred losses associated with lending activities, but which, unlike specific allowances, have not been allocated to
particular problem assets. When an insured institution classifies a problem asset as “loss,” it is required either
to establish a specific allowance for losses equal to 100% of that portion of the asset so classified or to charge-off such amount.
An institution’s determination as to the classification of its assets and the amount of its valuation allowances is subject
to review by the regulatory authorities, which may require the establishment of additional general or specific loss allowances.
In connection with the
filing of our periodic reports with the OCC and in accordance with our classification of assets policy, we regularly review the
problem loans in our portfolio to determine whether any loans require classification in accordance with applicable regulations.
On the basis of this review
of our assets, our classified and special mention assets at the dates indicated were as set forth below. Nonaccrual loans and loans
past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment
and individually classified impaired loans. Thus, the homogenous pools are not considered for classification or special mention
status. At December 31, 2016 and December 31, 2015, all loans classified as substandard were comprised of loans that were individually
evaluated for impairment and loans that were deemed to be impaired were subsequently adjusted and are carried at fair value.
|
|
At December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(In thousands)
|
|
Special mention assets
|
|
$
|
8,025
|
|
|
$
|
2,836
|
|
Substandard assets
|
|
|
10,549
|
|
|
|
8,782
|
|
Doubtful assets
|
|
|
-
|
|
|
|
-
|
|
Loss assets
|
|
|
-
|
|
|
|
-
|
|
Total classified assets
|
|
$
|
18,574
|
|
|
$
|
11,618
|
|
Non-Performing Assets.
We generally cease accruing interest on our loans when contractual payments of principal or interest have become 90 days past due
or management has serious doubts about further collectability of principal or interest, even though the loan is currently performing.
A loan may remain on accrual status if it is in the process of collection and is either guaranteed or well secured. When a loan
is placed on nonaccrual status, unpaid interest credited to income is reversed. Funds received on nonaccrual loans generally are
applied against principal. Generally, loans are restored to accrual status when the obligation is brought current, has performed
in accordance with the contractual terms for a reasonable period of time and the ultimate collectability of the total contractual
principal and interest is no longer in doubt.
The table below sets forth the amounts and categories of our non-performing
assets at the dates indicated.
|
|
At December 31,
|
|
|
At September 30,
|
|
|
|
2016
|
|
|
2015
|
|
|
2014
|
|
|
2013
|
|
|
2013
|
|
|
|
(Dollars in thousands)
|
|
Non-accrual loans:
(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One-to four-family
|
|
$
|
3,428
|
|
|
$
|
2,967
|
|
|
$
|
2,223
|
|
|
$
|
810
|
|
|
$
|
601
|
|
Multi-family
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Commercial real estate
|
|
|
970
|
|
|
|
773
|
|
|
|
578
|
|
|
|
36
|
|
|
|
35
|
|
Construction and land
|
|
|
41
|
|
|
|
259
|
|
|
|
103
|
|
|
|
80
|
|
|
|
80
|
|
Total real estate loans
|
|
|
4,439
|
|
|
|
3,999
|
|
|
|
2,904
|
|
|
|
926
|
|
|
|
716
|
|
Commercial and industrial loans
|
|
|
90
|
|
|
|
449
|
|
|
|
396
|
|
|
|
-
|
|
|
|
-
|
|
Consumer loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Home equity loans and lines of credit
|
|
|
155
|
|
|
|
23
|
|
|
|
1
|
|
|
|
-
|
|
|
|
-
|
|
Motor vehicle
|
|
|
-
|
|
|
|
-
|
|
|
|
21
|
|
|
|
-
|
|
|
|
2
|
|
Other
|
|
|
5
|
|
|
|
31
|
|
|
|
31
|
|
|
|
-
|
|
|
|
-
|
|
Total nonaccrual loans
|
|
|
4,689
|
|
|
|
4,502
|
|
|
|
3,353
|
|
|
|
926
|
|
|
|
718
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accruing loans past due 90 days or more:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One-to four-family
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Multi-family
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Commercial real estate
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Construction and land
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Total real estate loans
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Commercial and industrial loans
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
Consumer loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Home equity loans and lines of credit
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Motor vehicle
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Other
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Total accruing loans past due 90 days or more
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Total of nonaccrual and 90 days or more past due loan
|
|
|
4,689
|
|
|
|
4,502
|
|
|
|
3,353
|
|
|
|
926
|
|
|
|
718
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate owned:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One-to four-family
|
|
|
622
|
|
|
|
846
|
|
|
|
429
|
|
|
|
85
|
|
|
|
85
|
|
Multi-family
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Commercial
|
|
|
88
|
|
|
|
448
|
|
|
|
1,371
|
|
|
|
290
|
|
|
|
290
|
|
Other
|
|
|
8
|
|
|
|
12
|
|
|
|
58
|
|
|
|
-
|
|
|
|
-
|
|
General Valuation Allowance
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Total real estate owned
|
|
|
718
|
|
|
|
1,306
|
|
|
|
1,858
|
|
|
|
375
|
|
|
|
375
|
|
Total non-performing assets
|
|
|
5,407
|
|
|
|
5,808
|
|
|
|
5,211
|
|
|
|
1,301
|
|
|
|
1,093
|
|
Troubled debt restructurings, still accruing
|
|
|
3,064
|
|
|
|
105
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Troubled debt restructurings and total non-performing assets
|
|
$
|
8,471
|
|
|
$
|
5,913
|
|
|
$
|
5,211
|
|
|
$
|
1,301
|
|
|
$
|
1,093
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total non-performing loans to total loans
|
|
|
1.35
|
%
|
|
|
1.42
|
%
|
|
|
1.10
|
%
|
|
|
0.52
|
%
|
|
|
0.40
|
%
|
Total non-performing assets to total assets
|
|
|
1.18
|
%
|
|
|
1.33
|
%
|
|
|
1.26
|
%
|
|
|
0.45
|
%
|
|
|
0.38
|
%
|
Total non-performing assets and troubled debt restructurings to total assets
|
|
|
1.85
|
%
|
|
|
1.36
|
%
|
|
|
1.26
|
%
|
|
|
0.45
|
%
|
|
|
0.38
|
%
|
|
(1)
|
Includes TDRs on nonaccrual status of $185,000, $202,000, $218,000, $0 and $0 at December 31, 2016, December 31, 2015, December
31, 2014, December 31, 2013 and September 30, 2013, respectively.
|
There were no loans that are not disclosed above under “-Classified
Assets” and “-Non Performing Assets” where there is information about possible credit problems of borrowers that
caused us serious doubts about the ability of the borrowers to comply with present loan repayment terms and that may result in
disclosure of such loans in the future.
Allowance for Loan Losses
Analysis and Determination
of the Allowance for Loan Losses
. Our allowance for loan losses is the amount considered necessary to reflect probable
incurred losses in our loan portfolio. We evaluate the need to establish allowances against losses on loans on a quarterly basis.
When additional allowances are necessary, a provision for loan losses is charged to earnings.
Our methodology for assessing
the appropriateness of the allowance for loan losses consists of two key elements: (i) specific allowances for identified
problem loans; and (ii) a general valuation allowance on the remainder of the loan portfolio. Although we determine the amount
of each element of the allowance separately, the entire allowance for loan losses is available for the entire portfolio.
Specific Allowances
for Identified Problem Loans
. We establish a specific allowance when loans are determined to be impaired. Loss is measured
by determining the present value of expected future cash flows or, for collateral-dependent loans, the fair value of the collateral
adjusted for market conditions and selling expenses. Factors in identifying a specific problem loan include: (i) the strength
of the customer’s personal or business cash flows; (ii) the availability of other sources of repayment; (iii) the
amount due or past due; (iv) the type and value of collateral; (v) the strength of our collateral position; (vi) the
estimated cost to sell the collateral; and (vii) the borrower’s effort to cure the delinquency. In addition, for loans
secured by real estate, we consider the extent of any past due and unpaid property taxes applicable to the property serving as
collateral on the mortgage.
General Valuation
Allowance on the Remainder of the Loan Portfolio
. We establish a general allowance for loans that are not classified as
impaired to recognize the inherent losses associated with lending activities, but which, unlike specific allowances, has not been
allocated to particular problem assets. This general valuation allowance is determined by segregating the loans by loan category
and assigning allowance percentages based on our historical loss experience, delinquency trends and management’s evaluation
of the collectability of the loan portfolio. The allowance may be adjusted for significant factors that, in management’s
judgment, affect the collectability of the portfolio as of the evaluation date. These significant factors may include changes in
lending policies and procedures, changes in existing general economic and business conditions affecting our primary market area,
credit quality trends, collateral value, loan volumes and concentrations, seasoning of the loan portfolio, recent loss experience
in particular segments of the portfolio, duration of the current business cycle and bank regulatory examination results. The applied
loss factors are re-evaluated on a quarterly basis.
In addition, as an integral
part of their examination process, the OCC will periodically review our allowance for loan losses, and they may require that we
recognize additions to the allowance based on their judgments of information available to them at the time of their examination.
Allowance for Loan
Losses
.
The following table sets forth activity in our allowance for loan losses for the periods indicated.
|
|
|
|
|
|
|
|
|
|
|
Three Months
|
|
|
|
|
|
|
Year Ended
|
|
|
Ended
|
|
|
Year Ended
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
September 30,
|
|
|
|
2016
|
|
|
2015
|
|
|
2014
|
|
|
2013
|
|
|
2013
|
|
|
|
(Dollars in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance at beginning of period
|
|
$
|
1,858
|
|
|
$
|
1,911
|
|
|
$
|
1,908
|
|
|
$
|
1,989
|
|
|
$
|
2,004
|
|
Provision for loan losses
|
|
|
1,249
|
|
|
|
514
|
|
|
|
504
|
|
|
|
-
|
|
|
|
106
|
|
Charge offs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One-to four-family
|
|
|
(457
|
)
|
|
|
(458
|
)
|
|
|
(462
|
)
|
|
|
(88
|
)
|
|
|
(188
|
)
|
Multi-family
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Commercial real estate
|
|
|
(54
|
)
|
|
|
(47
|
)
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Construction and land
|
|
|
-
|
|
|
|
-
|
|
|
|
(49
|
)
|
|
|
-
|
|
|
|
-
|
|
Commercial and industrial loans
|
|
|
(146
|
)
|
|
|
(116
|
)
|
|
|
(8
|
)
|
|
|
-
|
|
|
|
-
|
|
Consumer loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Home equity loans and lines of credit
|
|
|
(108
|
)
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Motor vehicle
|
|
|
(46
|
)
|
|
|
(38
|
)
|
|
|
(28
|
)
|
|
|
-
|
|
|
|
(7
|
)
|
Other
|
|
|
(126
|
)
|
|
|
(203
|
)
|
|
|
(46
|
)
|
|
|
(11
|
)
|
|
|
(2
|
)
|
Total charge-offs
|
|
|
(937
|
)
|
|
|
(862
|
)
|
|
|
(593
|
)
|
|
|
(99
|
)
|
|
|
(197
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recoveries:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Real estate loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One-to four-family
|
|
|
27
|
|
|
|
16
|
|
|
|
6
|
|
|
|
2
|
|
|
|
7
|
|
Multi-family
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Commercial real estate
|
|
|
-
|
|
|
|
128
|
|
|
|
60
|
|
|
|
16
|
|
|
|
68
|
|
Construction and land
|
|
|
-
|
|
|
|
10
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Commercial and industrial loans
|
|
|
45
|
|
|
|
54
|
|
|
|
13
|
|
|
|
-
|
|
|
|
-
|
|
Consumer loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Home equity loans and lines of credit
|
|
|
1
|
|
|
|
10
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Motor vehicle
|
|
|
34
|
|
|
|
2
|
|
|
|
6
|
|
|
|
-
|
|
|
|
1
|
|
Other
|
|
|
72
|
|
|
|
75
|
|
|
|
7
|
|
|
|
-
|
|
|
|
-
|
|
Total recoveries
|
|
|
179
|
|
|
|
295
|
|
|
|
92
|
|
|
|
18
|
|
|
|
76
|
|
Net charge-offs
|
|
|
(758
|
)
|
|
|
(567
|
)
|
|
|
(501
|
)
|
|
|
(81
|
)
|
|
|
(121
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance at end of period
|
|
$
|
2,349
|
|
|
$
|
1,858
|
|
|
$
|
1,911
|
|
|
$
|
1,908
|
|
|
$
|
1,989
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance to non-performing loans
|
|
|
50.10
|
%
|
|
|
41.27
|
%
|
|
|
56.99
|
%
|
|
|
206.05
|
%
|
|
|
277.02
|
%
|
Allowance to total loans outstanding at the end of the period
|
|
|
0.68
|
%
|
|
|
0.59
|
%
|
|
|
0.63
|
%
|
|
|
1.07
|
%
|
|
|
1.12
|
%
|
Net charge-offs to average loans outstanding during the period, annualized where applicable
|
|
|
0.23
|
%
|
|
|
0.18
|
%
|
|
|
0.16
|
%
|
|
|
0.18
|
%
|
|
|
0.07
|
%
|
Allocation of Allowance
for Loan Losses.
The following table sets forth the allowance for loan losses allocated by loan category, the total loan
balances by category, and the percent of loans in each category to total loans at the dates indicated. The allowance for loan losses
allocated to each category is not necessarily indicative of future losses in any particular category and does not restrict the
use of the general allowance to absorb losses in other categories.
|
|
At December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
2014
|
|
|
|
|
|
|
|
|
|
% of
|
|
|
|
|
|
|
|
|
% of
|
|
|
|
|
|
|
|
|
% of
|
|
|
|
|
|
|
% of
|
|
|
Loans in
|
|
|
|
|
|
% of
|
|
|
Loans in
|
|
|
|
|
|
% of
|
|
|
Loans in
|
|
|
|
|
|
|
Allowance
|
|
|
Category
|
|
|
|
|
|
Allowance
|
|
|
Category
|
|
|
|
|
|
Allowance
|
|
|
Category
|
|
|
|
|
|
|
to Total
|
|
|
to Total
|
|
|
|
|
|
to Total
|
|
|
to Total
|
|
|
|
|
|
to Total
|
|
|
to Total
|
|
(Dollars in thousands)
|
|
Amount
|
|
|
Allowance
|
|
|
Loans
|
|
|
Amount
|
|
|
Allowance
|
|
|
Loans
|
|
|
Amount
|
|
|
Allowance
|
|
|
Loans
|
|
Real estate loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One-to four-family
|
|
$
|
1,729
|
|
|
|
73.56
|
%
|
|
|
51.28
|
%
|
|
$
|
1,624
|
|
|
|
87.41
|
%
|
|
|
58.35
|
%
|
|
$
|
1,744
|
|
|
|
91.26
|
%
|
|
|
59.01
|
%
|
Multi-family
|
|
|
19
|
|
|
|
0.81
|
|
|
|
1.97
|
|
|
|
13
|
|
|
|
0.70
|
|
|
|
1.43
|
|
|
|
16
|
|
|
|
0.84
|
|
|
|
1.95
|
|
Commercial real estate
|
|
|
190
|
|
|
|
8.09
|
|
|
|
23.99
|
|
|
|
36
|
|
|
|
1.94
|
|
|
|
19.83
|
|
|
|
33
|
|
|
|
1.73
|
|
|
|
20.71
|
|
Construction and land
|
|
|
8
|
|
|
|
0.34
|
|
|
|
3.18
|
|
|
|
3
|
|
|
|
0.16
|
|
|
|
1.99
|
|
|
|
13
|
|
|
|
0.68
|
|
|
|
1.69
|
|
Total real estate loans
|
|
|
1,946
|
|
|
|
82.80
|
|
|
|
80.42
|
|
|
|
1,676
|
|
|
|
90.21
|
|
|
|
81.60
|
|
|
|
1,806
|
|
|
|
94.51
|
|
|
|
83.36
|
|
Commercial and industrial loans
|
|
|
218
|
|
|
|
9.28
|
|
|
|
11.17
|
|
|
|
77
|
|
|
|
4.14
|
|
|
|
10.07
|
|
|
|
43
|
|
|
|
2.25
|
|
|
|
8.39
|
|
Consumer loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Home equity loans and lines of credit
|
|
|
43
|
|
|
|
1.83
|
|
|
|
3.07
|
|
|
|
26
|
|
|
|
1.40
|
|
|
|
2.62
|
|
|
|
7
|
|
|
|
0.36
|
|
|
|
2.62
|
|
Motor vehicle
|
|
|
73
|
|
|
|
3.11
|
|
|
|
3.07
|
|
|
|
30
|
|
|
|
1.61
|
|
|
|
3.39
|
|
|
|
33
|
|
|
|
1.73
|
|
|
|
3.40
|
|
Other
|
|
|
69
|
|
|
|
2.98
|
|
|
|
2.27
|
|
|
|
49
|
|
|
|
2.64
|
|
|
|
2.32
|
|
|
|
22
|
|
|
|
1.15
|
|
|
|
2.23
|
|
Total consumer
|
|
|
185
|
|
|
|
7.92
|
|
|
|
8.41
|
|
|
|
105
|
|
|
|
5.65
|
|
|
|
8.33
|
|
|
|
62
|
|
|
|
3.24
|
|
|
|
8.25
|
|
Unallocated
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Total allowance for loan losses
|
|
$
|
2,349
|
|
|
|
100.00
|
%
|
|
|
100.00
|
%
|
|
$
|
1,858
|
|
|
|
100.00
|
%
|
|
|
100.00
|
%
|
|
$
|
1,911
|
|
|
|
100.00
|
%
|
|
|
100.00
|
%
|
|
|
At December 31,
|
|
|
At September 30,
|
|
|
|
2013
|
|
|
2013
|
|
|
|
|
|
|
|
|
|
% of
|
|
|
|
|
|
|
|
|
% of
|
|
|
|
|
|
|
% of
|
|
|
Loans in
|
|
|
|
|
|
% of
|
|
|
Loans in
|
|
|
|
|
|
|
Allowance
|
|
|
Category
|
|
|
|
|
|
Allowance
|
|
|
Category
|
|
|
|
|
|
|
to Total
|
|
|
to Total
|
|
|
|
|
|
to Total
|
|
|
to Total
|
|
(Dollars in thousands)
|
|
Amount
|
|
|
Allowance
|
|
|
Loans
|
|
|
Amount
|
|
|
Allowance
|
|
|
Loans
|
|
Real estate loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One-to four-family
|
|
$
|
1,744
|
|
|
|
91.40
|
%
|
|
|
74.73
|
%
|
|
$
|
1,806
|
|
|
|
90.80
|
%
|
|
|
74.62
|
%
|
Multi-family
|
|
|
6
|
|
|
|
0.31
|
|
|
|
0.57
|
|
|
|
7
|
|
|
|
0.35
|
|
|
|
0.57
|
|
Commercial real estate
|
|
|
51
|
|
|
|
2.68
|
|
|
|
9.44
|
|
|
|
50
|
|
|
|
2.51
|
|
|
|
9.44
|
|
Construction and land
|
|
|
17
|
|
|
|
0.89
|
|
|
|
2.16
|
|
|
|
16
|
|
|
|
0.80
|
|
|
|
2.16
|
|
Total real estate loans
|
|
|
1,818
|
|
|
|
95.28
|
|
|
|
86.90
|
|
|
|
1,879
|
|
|
|
94.47
|
|
|
|
86.79
|
|
Commercial and industrial loans
|
|
|
8
|
|
|
|
0.42
|
|
|
|
3.15
|
|
|
|
8
|
|
|
|
0.40
|
|
|
|
3.10
|
|
Consumer loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Home equity loans and lines of credit
|
|
|
11
|
|
|
|
0.58
|
|
|
|
3.32
|
|
|
|
8
|
|
|
|
0.40
|
|
|
|
3.31
|
|
Motor vehicle
|
|
|
31
|
|
|
|
1.62
|
|
|
|
4.98
|
|
|
|
24
|
|
|
|
1.21
|
|
|
|
5.08
|
|
Other
|
|
|
10
|
|
|
|
0.52
|
|
|
|
1.65
|
|
|
|
12
|
|
|
|
0.60
|
|
|
|
1.72
|
|
Total consumer
|
|
|
52
|
|
|
|
2.73
|
|
|
|
9.95
|
|
|
|
44
|
|
|
|
2.21
|
|
|
|
10.11
|
|
Unallocated
|
|
|
30
|
|
|
|
1.57
|
|
|
|
-
|
|
|
|
58
|
|
|
|
2.92
|
|
|
|
-
|
|
Total allowance for loan losses
|
|
$
|
1,908
|
|
|
|
100.00
|
%
|
|
|
100.00
|
%
|
|
$
|
1,989
|
|
|
|
100.00
|
%
|
|
|
100.00
|
%
|
The allowance for loan
losses was $2.3 million, or 0.68% of total loans at December 31, 2016 compared to $1.9 million, or 0.59% of total loans, at December 31,
2015. Provision of $1.2 million was recorded for the year ended December 31, 2016 compared to 514,000 for the year ended December
31, 2015. We had net charge-offs of $758,000 for the year ended December 31, 2016 compared to $567,000 for the year ended December
31, 2015. Total non-performing loans were $4.7 million at December 31, 2016 compared to $4.5 million at December 31, 2015.
At December 31, 2016 we had specific allocations of the allowance related to impaired loans of $30,000. In comparison, we had specific
allocation of $15,000 for the year ended December 31, 2015. As a percentage of non-performing loans, the allowance for loan
losses was 50.10% at December 31, 2016 compared to 41.27% at December 31, 2015. The increase in the provision and resulting
allowance for loan losses for the year ended December 31, 2016 compared to the year ended December 31, 2015 is attributable
to loan growth and an increase in substandard and special mention loans combined with an increase in charge-offs for the year ended
December 31, 2016.
Although we believe that
we use the best information available to establish the allowance for loan losses, future adjustments to the allowance for loan
losses may be necessary and results of operations could be adversely affected if circumstances differ substantially from the assumptions
used in making the determinations. Furthermore, while we believe we have established our allowance for loan losses in conformity
with accounting principles generally accepted in the United States of America, regulators, in reviewing our loan portfolio, may
require us to increase our allowance for loan losses. In addition, because future events affecting borrowers and collateral cannot
be predicted with certainty, the existing allowance for loan losses may not be adequate and increases may be necessary if the quality
of our loans deteriorates as a result of the factors discussed above. Any material increase in the allowance for loan losses may
adversely affect our financial condition and results of operations.
Investment Activities
General
.
The goals of our investment policy are to provide and maintain liquidity to meet deposit withdrawal and loan funding needs, to
help manage our interest rate risk, and to generate a favorable return on idle funds within the context of our interest rate and
credit risk objectives.
Our Board of Directors
is responsible for monitoring compliance with our investment policy. The investment policy is reviewed annually by management and
any changes to the policy are recommended to and subject to the approval of the Board of Directors. A minimum of two members of
the Asset/Liability committee may purchase investments based on the investment policy guidelines and submit the purchase to the
full Board of Directors at the next scheduled meeting.
Our current investment
policy permits investments in securities issued by the United States Government and its agencies or government sponsored enterprises,
including residential mortgage-backed securities, collateralized mortgage obligations, municipalities, school boards and fully
insured certificates of deposit. We maintain investment securities concentration limits as a percentage of the investment portfolio
that we periodically amend based on market conditions and changes in our assets. Current concentration percentage restrictions
limit U.S. Government sponsored enterprises to 75%, U.S. Government agency structured notes to 30%, mortgage-backed securities
to 75%, collateralized mortgage obligations to 40%, certificates of deposit to 10% and municipal bonds to 40% or 80% of bank capital.
Our investment policy also permits investment in corporate securities limited to 10% of the investment portfolio or 20% of capital
and investment in FHLB-Cincinnati stock.
At December 31, 2016,
we did not have an investment in the securities of any single non-government issuer that exceeded 10% of shareholders’ equity.
Our current investment
policy does not permit investment in complex securities and derivatives as defined in federal banking regulations and other high-risk
securities. Our current policy does not permit hedging activities, such as engaging in futures, options or swap transactions, or
investing in high-risk mortgage derivatives, such as collateralized mortgage obligation residual interests, real estate mortgage
investment conduit residual interests or stripped mortgage-backed securities.
At December 31, 2016,
none of the collateral underlying our securities portfolio was considered subprime or Alt-A and we did not hold any common or preferred
stock issued by Freddie Mac or Fannie Mae as of that date.
State and Political
Subdivision Debt Securities
. We have purchased primarily bank-qualified and rated general obligation and revenue bonds
of certain state and political subdivisions, which provide interest income that is mostly exempt from federal income taxation.
All purchases are approved by Town Square’s Board of Directors and are reviewed each quarter. At December 31, 2016, the majority
of our state and political subdivision portfolio consisted of revenue bonds issued by the Commonwealth of Kentucky, although we
have diversified by investing in securities issued by other states.
U.S. Government
and Federal Agency Obligations.
We may invest in U.S. Government and federal agency securities. While these securities
generally provide lower yields than other investments in our securities investment portfolio, we maintain these investments, to
the extent appropriate, for liquidity purposes, as collateral for borrowings and for prepayment protection.
Residential Mortgage-Backed
Securities
. Residential mortgage-backed securities are securities issued in the secondary market that are collateralized
by pools of mortgages. We also invest in mortgage-backed securities commonly referred to as “pass-through” certificates.
The principal and interest of the loans underlying these certificates “pass through” to investors, net of certain costs,
including servicing and guarantee fees. We invest primarily in residential mortgage-backed securities backed by one- to four-family
mortgages. The issuers of such securities pool and resell the participation interests in the form of securities to investors such
as Town Square. The interest rate of the security is lower than the interest rates of the underlying loans to allow for payment
of servicing and guaranty fees. Most of our mortgage-backed securities are either backed by Ginnie Mae, a United States Government
agency, or government-sponsored enterprises, such as Fannie Mae and Freddie Mac.
Residential mortgage-backed
securities issued by United States Government agencies and government-sponsored enterprises are more liquid than individual mortgage
loans because there is an active trading market for such securities. In addition, residential mortgage-backed securities may be
used to collateralize our borrowings. Investments in residential mortgage-backed securities involve a risk that actual payments
will be greater or less than the prepayment rate estimated at the time of purchase, which may require adjustments to the amortization
of any premium or accretion of any discount relating to such interests, thereby affecting the net yield on our securities. Current
prepayment speeds determine whether prepayment estimates require modification that could cause amortization or accretion adjustments.
Federal Home Loan
Bank Stock.
We held common stock of the FHLB-Cincinnati in connection with our borrowing activities totaling $3.0 million
at December 31, 2016, and $3.0 million at December 31, 2015. The common stock of the FHLB-Cincinnati is carried at cost and classified
as restricted equity securities.
Company-Owned Life Insurance.
We invest in company-owned life insurance to provide us with a funding source for our benefit plan obligations. Company-owned life
insurance also generally provides us non-interest income that is non-taxable. Federal regulations generally limit our investment
in bank-owned life insurance to 25% of our Tier 1 capital plus our allowance for loan losses. At December 31, 2016 and 2015, we
had invested $7.1 million and $6.9 million, respectively, in company-owned life insurance.
Securities Portfolio
Composition
. The following table sets forth the composition of our securities portfolio at the dates indicated.
|
|
At December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
2014
|
|
|
|
Amortized
|
|
|
Fair
|
|
|
Amortized
|
|
|
Fair
|
|
|
Amortized
|
|
|
Fair
|
|
|
|
Cost
|
|
|
Value
|
|
|
Cost
|
|
|
Value
|
|
|
Cost
|
|
|
Value
|
|
|
|
(In thousands)
|
|
Securities available for sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Government agencies and government sponsored entities
|
|
$
|
3,500
|
|
|
$
|
3,463
|
|
|
$
|
9,750
|
|
|
$
|
9,638
|
|
|
$
|
14,247
|
|
|
$
|
13,986
|
|
Mortgage-backed securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential
|
|
|
22,303
|
|
|
|
22,155
|
|
|
|
23,156
|
|
|
|
23,371
|
|
|
|
28,553
|
|
|
|
28,965
|
|
Collateralized mortgage obligations
|
|
|
5,495
|
|
|
|
5,406
|
|
|
|
7,720
|
|
|
|
7,634
|
|
|
|
4,644
|
|
|
|
4,565
|
|
SBA loan pools
|
|
|
7,411
|
|
|
|
7,345
|
|
|
|
5,370
|
|
|
|
5,372
|
|
|
|
-
|
|
|
|
-
|
|
State and political subdivisions
|
|
|
19,785
|
|
|
|
19,892
|
|
|
|
17,398
|
|
|
|
17,960
|
|
|
|
17,121
|
|
|
|
17,746
|
|
Total available for sale
|
|
$
|
58,494
|
|
|
$
|
58,261
|
|
|
$
|
63,394
|
|
|
$
|
63,975
|
|
|
$
|
64,565
|
|
|
$
|
65,262
|
|
Securities Portfolio
Maturities and Yields
. The following table sets forth the contractual maturities and weighted average yields of our securities
portfolio at December 31, 2016. Mortgage-backed securities are anticipated to be repaid in advance of their contractual maturities
as a result of projected mortgage loan prepayments.
|
|
|
|
|
|
|
|
More than One
|
|
|
More than Five
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One Year or Less
|
|
|
Year to Five Years
|
|
|
Years to Ten Years
|
|
|
More than Ten Years
|
|
|
Total
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
Amortized
|
|
|
Average
|
|
|
Amortized
|
|
|
Average
|
|
|
Amortized
|
|
|
Average
|
|
|
Amortized
|
|
|
Average
|
|
|
Amortized
|
|
|
Average
|
|
December 31, 2016
|
|
Cost
|
|
|
Yield
|
|
|
Cost
|
|
|
Yield
|
|
|
Cost
|
|
|
Yield
|
|
|
Cost
|
|
|
Yield
|
|
|
Cost
|
|
|
Yield
|
|
|
|
(Dollars in Thousands)
|
|
Securities available for sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Government agencies and government-sponsored entities
|
|
$
|
-
|
|
|
|
-
|
|
|
$
|
3,500
|
|
|
|
1.50
|
%
|
|
$
|
-
|
|
|
|
-
|
|
|
$
|
-
|
|
|
|
-
|
|
|
$
|
3,500
|
|
|
|
1.50
|
%
|
Mortgage-backed securities
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
8,307
|
|
|
|
1.93
|
%
|
|
|
13,996
|
|
|
|
2.19
|
%
|
|
|
22,303
|
|
|
|
2.09
|
%
|
Collateralized mortgage obligations
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
5,495
|
|
|
|
1.33
|
%
|
|
|
5,495
|
|
|
|
1.33
|
%
|
SBA loan pools
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
7,411
|
|
|
|
2.16
|
%
|
|
|
-
|
|
|
|
-
|
|
|
|
7,411
|
|
|
|
2.16
|
%
|
State and political subdivisions
|
|
|
1,290
|
|
|
|
1.58
|
%
|
|
|
5,743
|
|
|
|
2.43
|
%
|
|
|
9,587
|
|
|
|
3.13
|
%
|
|
|
3,165
|
|
|
|
3.51
|
%
|
|
|
19,785
|
|
|
|
2.89
|
%
|
Total available for sale
|
|
$
|
1,290
|
|
|
|
|
|
|
$
|
9,243
|
|
|
|
|
|
|
$
|
25,305
|
|
|
|
|
|
|
$
|
22,656
|
|
|
|
|
|
|
$
|
58,494
|
|
|
|
|
|
Sources of Funds
General.
Deposits have traditionally been our primary source of funds for use in lending and investment activities. We also use borrowings,
primarily FHLB-Cincinnati advances, to supplement cash flow needs, to lengthen the maturities of liabilities for interest rate
risk purposes and to manage the cost of funds. In addition, we receive funds from scheduled loan payments, investment maturities,
loan prepayments, retained earnings, income on earning assets and the sale of assets from time to time. While scheduled loan payments
and income on earning assets are relatively stable sources of funds, deposit inflows and outflows can vary widely and are influenced
by prevailing interest rates, market conditions and levels of competition.
Deposits.
Our deposits are generated primarily from within our primary market area although we have utilized national market deposit programs
from time to time. We offer a selection of deposit accounts, including statement savings accounts, NOW accounts, business checking,
certificates of deposit, money market accounts and retirement accounts. Deposit account terms vary, with the principal differences
being the minimum balance required, the amount of time the funds must remain on deposit and the interest rate. We have not accepted
brokered deposits in the past, although we have the authority to do so.
Interest rates, maturity
terms, service fees and withdrawal penalties are established on a periodic basis. Deposit rates and terms are based primarily on
current operating strategies and market rates, liquidity requirements, rates paid by competitors and growth goals. We rely upon
personalized customer service, long-standing relationships with customers, convenient offices and ATM locations and the favorable
image of Town Square in the community to attract and retain deposits. We have also expanded our products to include debit cards,
on-line banking services and mobile banking services for the convenience of our customers.
The flow of deposits is
influenced significantly by general economic conditions, changes in interest rates and competition. Our ability to gather deposits
is impacted by the competitive market in which we operate, which includes numerous financial institutions of varying sizes offering
a wide range of products. We may use promotional rates to meet asset/liability and market segment goals.
The variety of rates and
terms on the deposit accounts we offer allows us to be competitive in obtaining funds and responding to changes in consumer demand.
Based on our experience, we believe that NOW and demand deposits may be somewhat more stable sources of funding than certificates
of deposits.
The following table sets
forth the distribution of total deposits by account type, at the dates indicated.
|
|
At December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
2014
|
|
|
|
Amount
|
|
|
Percent
|
|
|
Amount
|
|
|
Percent
|
|
|
Amount
|
|
|
Percent
|
|
|
|
(Dollars in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NOW and demand deposits
|
|
$
|
102,973
|
|
|
|
27.48
|
%
|
|
$
|
92,983
|
|
|
|
27.10
|
%
|
|
$
|
81,824
|
|
|
|
25.32
|
%
|
Money market deposits
|
|
|
19,482
|
|
|
|
5.20
|
|
|
|
22,381
|
|
|
|
6.52
|
|
|
|
11,956
|
|
|
|
3.70
|
|
Savings and other deposits
|
|
|
73,678
|
|
|
|
19.66
|
|
|
|
68,707
|
|
|
|
20.02
|
|
|
|
65,604
|
|
|
|
20.30
|
|
Certificates of deposit
|
|
|
150,726
|
|
|
|
40.23
|
|
|
|
131,681
|
|
|
|
38.38
|
|
|
|
135,897
|
|
|
|
42.06
|
|
Retirement accounts
|
|
|
27,849
|
|
|
|
7.43
|
|
|
|
27,378
|
|
|
|
7.98
|
|
|
|
27,857
|
|
|
|
8.62
|
|
Total
|
|
$
|
374,708
|
|
|
|
100.00
|
%
|
|
$
|
343,130
|
|
|
|
100.00
|
%
|
|
$
|
323,138
|
|
|
|
100.00
|
%
|
As of December 31, 2016, the aggregate amount
of our outstanding time deposits in amounts greater than or equal to $100,000 was $105.2 million. The following table sets forth
the maturity of these time deposits as of December 31, 2016.
|
|
Certificates
|
|
December 31, 2016
|
|
of Deposit
|
|
|
|
(In thousands)
|
|
Maturity Period:
|
|
|
|
|
Three months or less
|
|
$
|
17,162
|
|
Over three through six months
|
|
|
15,156
|
|
Over six through twelve months
|
|
|
25,613
|
|
Over twelve months
|
|
|
47,305
|
|
Total
|
|
$
|
105,236
|
|
The following table sets forth our time deposits
classified by interest rate as of the dates indicated.
|
|
At December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
2014
|
|
|
|
(Dollars in Thousands)
|
|
Interest Rate:
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than 1%
|
|
$
|
76,418
|
|
|
$
|
86,893
|
|
|
$
|
98,430
|
|
1.00% - 1.99%
|
|
|
94,026
|
|
|
|
62,087
|
|
|
|
54,966
|
|
2.00% - 2.99%
|
|
|
8,131
|
|
|
|
10,011
|
|
|
|
10,292
|
|
3.00% - 3.99%
|
|
|
-
|
|
|
|
68
|
|
|
|
66
|
|
Total
|
|
$
|
178,575
|
|
|
$
|
159,059
|
|
|
$
|
163,754
|
|
The following table sets forth the amount and
maturities of our time deposits at December 31, 2016.
|
|
At December 31, 2016
|
|
|
|
Period to Maturity
|
|
|
|
|
|
|
|
|
|
Over Two
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Over One
|
|
|
Years to
|
|
|
Over
|
|
|
|
|
|
Percentage of
|
|
|
|
Less Than
|
|
|
Year to
|
|
|
Three
|
|
|
Three
|
|
|
|
|
|
Total
|
|
|
|
One Year
|
|
|
Two Years
|
|
|
Years
|
|
|
Years
|
|
|
Total
|
|
|
Certificate
|
|
|
|
(Dollars in thousands)
|
|
|
|
|
|
Interest Rate:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than 1%
|
|
$
|
59,746
|
|
|
$
|
13,250
|
|
|
$
|
3,371
|
|
|
$
|
51
|
|
|
$
|
76,418
|
|
|
|
42.79
|
%
|
1.00% - 1.99%
|
|
|
37,002
|
|
|
|
8,447
|
|
|
|
24,190
|
|
|
|
24,387
|
|
|
|
94,026
|
|
|
|
52.66
|
|
2.00% - 2.99%
|
|
|
361
|
|
|
|
-
|
|
|
|
384
|
|
|
|
7,386
|
|
|
|
8,131
|
|
|
|
4.55
|
|
Total
|
|
$
|
97,109
|
|
|
$
|
21,697
|
|
|
$
|
27,945
|
|
|
$
|
31,824
|
|
|
$
|
178,575
|
|
|
|
100.00
|
%
|
Borrowings
.
Our borrowings currently consist primarily of advances from the FHLB-Cincinnati. We obtain advances from the FHLB-Cincinnati upon
the security of our capital stock in the FHLB-Cincinnati and certain of our mortgage loans. Such advances may be made pursuant
to several different credit programs, each of which has its own interest rate and range of maturities. To the extent such borrowings
have different terms to repricing than our deposits, they can change our interest rate risk profile.
From time to time during
recent years, we have utilized short-term borrowings to fund loan demand. To a limited extent, we have also used borrowings where
market conditions permit us to purchase securities and make loans of a similar duration in order to increase our net interest income
by the amount of the spread between the asset yield and the borrowing cost. Finally, from time to time, we have obtained advances
with longer terms for asset liability management.
The following table sets
forth information concerning balances and interest rates on our FHLB-Cincinnati advances at the dates and for the noted periods.
|
|
Year Ended
|
|
|
Year Ended
|
|
|
Year Ended
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
2014
|
|
|
|
(Dollars in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
Average amount outstanding during the period:
|
|
|
|
|
|
|
|
|
|
|
|
|
FHLB advances
|
|
$
|
14,827
|
|
|
$
|
14,572
|
|
|
$
|
25,922
|
|
Weighted average interest rate during the period:
|
|
|
|
|
|
|
|
|
|
|
|
|
FHLB advances
|
|
|
1.42
|
%
|
|
|
1.65
|
%
|
|
|
1.31
|
%
|
Balance outstanding at end of period:
|
|
|
|
|
|
|
|
|
|
|
|
|
FHLB advances
|
|
$
|
9,332
|
|
|
$
|
15,803
|
|
|
$
|
17,952
|
|
Weighted average interest rate at end of period:
|
|
|
|
|
|
|
|
|
|
|
|
|
FHLB advances
|
|
|
1.80
|
%
|
|
|
1.52
|
%
|
|
|
1.55
|
%
|
Maximum amount outstanding at any month-end during period:
|
|
|
|
|
|
|
|
|
|
|
|
|
FHLB advances
|
|
$
|
26,432
|
|
|
$
|
17,533
|
|
|
$
|
39,334
|
|
At December 31, 2016, based on available collateral
and our ownership of FHLB-Cincinnati common stock, we had access to additional FHLB-Cincinnati advances of up to $79.9 million.
Subsidiary and Other Activities
Poage Bankshares, Inc.
has two subsidiaries; Town Square Bank and Town Square Statutory Trust I. Town Square has no subsidiaries. Town Square Statutory
Trust I has no subsidiaries.
Expense and Tax Allocation
Town Square has entered
into an agreement with Poage Bankshares to provide it with certain administrative support services for compensation not less than
the fair market value of the services provided. In addition, Town Square and Poage Bankshares have entered into an agreement to
establish a method for allocating and for reimbursing the payment of their consolidated tax liability.
Personnel
As of December 31, 2016,
we had 99 full-time employees and 16 part-time employees. Our employees are not represented by any collective bargaining group.
Management believes that we have good relations with our employees.
Federal Taxation
General.
Poage Bankshares and Town Square are subject to federal income taxation in the same general manner as other corporations, with
some exceptions discussed below. The following discussion of federal taxation is intended only to summarize material federal income
tax matters and is not a comprehensive description of the tax rules applicable to Poage Bankshares and Town Square.
Method of Accounting
.
For federal income tax purposes, Town Square currently reports its income and expenses on the accrual method of accounting and
uses a tax year ending December 31 for filing its federal income tax return. The Small Business Protection Act of 1996 eliminated
the use of the reserve method of accounting for bad debt reserves by savings institutions, effective for taxable years beginning
after 1995.
Minimum Tax.
The Internal Revenue Code of 1986, as amended, imposes an alternative minimum tax at a rate of 20% on a base of regular taxable
income plus certain tax preferences, referred to as “alternative minimum taxable income.” The alternative minimum tax
is payable to the extent alternative minimum taxable income is in excess of an exemption amount. Net operating losses can, in general,
offset no more than 90% of alternative minimum taxable income. Certain payments of alternative minimum tax may be used as credits
against regular tax liabilities in future years.
Net Operating Loss
Carryovers.
Generally, a financial institution may carry back net operating losses to the preceding two taxable years and
forward to the succeeding 20 taxable years. At December 31, 2016, Town Square had no net operating loss carry forward for federal
income tax purposes.
Corporate Dividends-Received
Deduction.
Poage Bankshares will be able to exclude from its income 100% of dividends received from Town Square as a member
of the same affiliated group of corporations.
Audit of Tax Returns.
Town Square’s and Poage Bankshares’ federal income tax returns have not been audited in the most recent five-year period.
State Taxation
Poage Bankshares is subject
to the Kentucky corporation income tax and Limited Liability Entity Tax (“LLET”). The income of corporations subject
to Kentucky income tax is similar to income reported for federal income tax purposes except that dividend income, among other income
items, is exempt from taxation. Corporations pay the greater of the income tax or the LLET. The LLET is the greater of (i) $175
or (ii) the lesser of (a) $0.095 per $100 of the corporation’s gross receipts, or (b) $0.75 per $100 of the
corporation’s gross profits. Gross profits equal gross Kentucky receipts reduced by returns and allowances attributable to
Kentucky gross receipts, less Kentucky cost of goods sold. Poage Bankshares, in its capacity as a holding company for a financial
institution, will not have a material amount of cost of goods sold.
Town Square is exempt
from both the Kentucky corporation income tax and LLET, but is subject to an annual franchise tax imposed on federally or state-chartered
savings and loan associations, savings banks and other similar institutions operating in Kentucky. The tax is 0.1% of taxable capital
stock held as of January 1 each year. Taxable capital stock includes an institution’s undivided profits, surplus and
general reserves plus deposits and paid-up stock less deductible items. Deductible items include certain exempt federal obligations
and Kentucky municipal bonds. Savings and loans that are subject to tax both within and without Kentucky must apportion their net
capital
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SUPERVISION AND REGULATION
General.
The federal system of regulation and supervision establishes a comprehensive framework of activities in which Town Square may engage
and is intended primarily for the protection of depositors and the Federal Deposit Insurance Corporation’s deposit insurance
fund. Town Square is periodically examined by the Office of the Comptroller of the Currency, or OCC, to ensure that it satisfies
applicable standards with respect to its capital adequacy, assets, management, earnings, liquidity and sensitivity to market interest
rates. Town Square also is regulated to a lesser extent by the Board of Governors of the Federal Reserve System, or Federal Reserve
Board, which governs the reserves to be maintained against deposits and other matters. In addition, Town Square is a member of
and owns stock in the FHLB-Cincinnati, which is one of the eleven regional banks in the Federal Home Loan Bank System. Town Square’s
relationship with its depositors and borrowers also is regulated to a great extent by federal law and, to a much lesser extent,
state law, including in matters concerning the ownership of deposit accounts and the form and content of Town Square’s loan
documents.
As a savings and loan
holding company, Poage Bankshares is subject to examination and supervision by, and is required to file certain reports with, the
Federal Reserve Board. Poage Bankshares is also subject to the rules and regulations of the Securities and Exchange Commission
under the federal securities laws.
Set forth below are certain
material regulatory requirements that are applicable to Town Square and Poage Bankshares. This description of statutes and regulations
is not intended to be a complete description of such statutes and regulations and their effects on Town Square and Poage Bankshares.
Any change in these laws or regulations, whether by Congress or the applicable regulatory agencies, could have a material adverse
impact on Poage Bankshares, Town Square and their operations.
Dodd-Frank Act
The Dodd-Frank Act made
significant changes to the regulatory structure for depository institutions and their holding companies. However, the Dodd-Frank
Act’s changes go well beyond that and affect the lending, investments and other operations of all depository institutions.
The Dodd-Frank Act required the Federal Reserve Board to set minimum capital levels for both bank holding companies and savings
and loan holding companies that are as stringent as those required for the insured depository subsidiaries, and the components
of Tier 1 capital for holding companies were restricted to capital instruments that were then currently considered to be Tier 1
capital for insured depository institutions. The legislation also established a floor for capital of insured depository institutions
that cannot be lower than the standards in effect upon passage, and directed the federal banking regulators to implement new leverage
and capital requirements that take into account off-balance sheet activities and other risks, including risks relating to securitized
products and derivatives.
The Dodd-Frank Act also
created a new Consumer Financial Protection Bureau with broad powers to supervise and enforce consumer protection laws. The Consumer
Financial Protection Bureau has broad rule-making authority for a wide range of consumer protection laws that apply to all banks
and savings institutions such as Town Square, including the authority to prohibit “unfair, deceptive or abusive” acts
and practices. The Consumer Financial Protection Bureau has examination and enforcement authority over all banks and savings institutions
with more than $10 billion in assets. Banks and savings institutions with $10 billion or less in assets, such as Town Square, will
continue to be examined for compliance by their applicable bank regulators. The new legislation also weakens the federal preemption
available for national banks and federal savings associations, and gives state attorneys general the ability to enforce applicable
federal consumer protection laws.
The Dodd-Frank Act also
broadened the base for FDIC insurance assessments. Assessments are now based on the average consolidated total assets less tangible
equity capital of a financial institution. The legislation also permanently increased the maximum amount of deposit insurance for
banks, savings institutions and credit unions to $250,000 per depositor, retroactive to January 1, 2008. The Dodd-Frank Act
increased stockholder influence over boards of directors by requiring companies to give stockholders a non-binding vote on executive
compensation and so-called “golden parachute” payments, and authorizing the Securities and Exchange Commission to promulgate
rules that would allow stockholders to nominate and solicit votes for their own candidates using a company’s own proxy materials.
The legislation also directs the Federal Reserve Board to promulgate rules prohibiting excessive compensation paid to bank holding
company executives, regardless of whether the company is publicly traded or not. The Dodd-Frank Act provided for originators of
certain securitized loans to return a percentage of the risk for the transferred loan, directed the Federal Reserve Board to regulate
pricing of certain debit card interchange fees and contained a number of reforms related to mortgage origination.
The Dodd-Frank Act also
required the Consumer Financial Protection Bureau to issue regulations requiring lenders to make a reasonable good faith determination
as to a prospective borrower’s ability to repay a residential mortgage loan. The final “Ability to Repay” rules,
which were effective January 10, 2014, establish a “qualified mortgage” safe harbor for loans whose terms and features
are deemed to make the loan less risky.
Many provisions of the
Dodd-Frank Act involve delayed effective dates and/or require implementing regulations or have not been issued in final form. Their
impact on our operations cannot yet fully be assessed. However, the Dodd-Frank Act has already increased regulatory burden and
compliance, operating and interest expense for Town Square and Poage Bankshares.
Federal Banking Regulation
Business Activities.
A federal savings and loan association derives its lending and investment powers from the Home Owners’ Loan Act, as amended,
and the regulations of the OCC. Under these laws and regulations, Town Square may invest in mortgage loans secured by residential
and commercial real estate, commercial business and consumer loans, certain types of debt securities and certain other assets,
subject to applicable limits. Town Square also may establish subsidiaries that may engage in activities not otherwise permissible
for Town Square, including real estate investment and securities and insurance brokerage. The Dodd-Frank Act authorized depository
institutions to commence paying interest on business checking accounts, effective July 21, 2011.
Capital Requirements.
Federal regulations require FDIC-insured depository institutions to meet several minimum capital
standards: a common equity Tier 1 capital to risk-based assets ratio of 4.5%, a Tier 1 capital to risk-based assets ratio of 6.0%,
a total capital to risk-based assets of 8%, and a 4% Tier 1 capital to total assets leverage ratio. The existing capital requirements
were effective January 1, 2015 and are the result of a final rule implementing regulatory amendments based on recommendations of
the Basel Committee on Banking Supervision and certain requirements of the Dodd-Frank Act.
For purposes of the regulatory capital requirements,
common equity Tier 1 capital is generally defined as common shareholders’ equity and retained earnings. Tier 1 capital
is generally defined as common equity Tier 1 and additional Tier 1 capital. Additional Tier 1 capital includes certain noncumulative
perpetual preferred stock and related surplus and minority interests in equity accounts of consolidated subsidiaries. Total capital
includes Tier 1 capital (common equity Tier 1 capital plus additional Tier 1 capital) and Tier 2 capital. Tier 2 capital is comprised
of capital instruments and related surplus, meeting specified requirements, and may include cumulative preferred stock and long-term
perpetual preferred stock, mandatory convertible securities, intermediate preferred stock and subordinated debt. Also included
in Tier 2 capital is the allowance for loan and lease losses limited to a maximum of 1.25% of risk-weighted assets and, for institutions
that made such an election regarding the treatment of Accumulated Other Comprehensive Income (“AOCI”), up to 45% of
net unrealized gains on available-for-sale equity securities with readily determinable fair market values. Institutions that have
not exercised the AOCI opt-out have AOCI incorporated into common equity Tier 1 capital (including unrealized gains and losses
on available-for-sale-securities). We have exercised the AOCI opt-out. Calculation of all types of regulatory capital is subject
to deductions and adjustments specified in the regulations.
In determining the amount
of risk-weighted assets for purposes of calculating risk-based capital ratios, all assets, including certain off-balance sheet
assets (e.g., recourse obligations, direct credit substitutes, residual interests) are multiplied by a risk weight factor assigned
by the regulations based on the risks believed inherent in the type of asset. Higher levels of capital are required for asset categories
believed to present greater risk. For example, a risk weight of 0% is assigned to cash and U.S. government securities, a risk weight
of 50% is generally assigned to prudently underwritten first lien one- to four-family residential mortgages, a risk weight of 100%
is assigned to commercial and consumer loans, a risk weight of 150% is assigned to certain past due loans and a risk weight of
between 0% to 600% is assigned to permissible equity interests, depending on certain specified factors.
In addition to establishing the minimum regulatory
capital requirements, the regulations limit capital distributions and certain discretionary bonus payments to management if the
institution does not hold a “capital conservation buffer” consisting of 2.5% of common equity Tier 1 capital to risk-weighted
asset above the amount necessary to meet its minimum risk-based capital requirements. The capital conservation buffer requirement
is being phased in beginning January 1, 2016 at 0.625% of risk-weighted assets and increasing each year until fully implemented
at 2.5% on January 1, 2019. When fully implemented, the capital conservation buffer will be 2.50% of risk weighted assets over
and above the regulatory minimum capital ratios for Common Equity Tier 1 Capital (CET1) to risk weighted assets, Tier 1 Capital
to risk weighted assets, and Total Capital to risk weighted assets. The consequences of not meeting the capital conservation
buffer thresholds include restrictions on the payment of dividends, restrictions on the payment of discretionary bonuses, and restrictions
on the repurchasing of common shares by the Company. At December 31, 2016, the actual capital conservation buffer for Town Square
Bank was 13.01% compared to the capital conservation buffer requirement of 0.625%.
In assessing an institution’s
capital adequacy, the OCC takes into consideration, not only these numeric factors, but qualitative factors as well, and has the
authority to establish higher capital requirements for individual institutions when deemed necessary.
As of December 31, 2016,
the capital of the Town Square exceeded all required regulatory guidelines.
Loans-to-One Borrower.
Generally, a federal savings and loan association may not make a loan or extend credit to a single or related group of borrowers
in excess of 15% of unimpaired capital and surplus. An additional amount may be loaned, equal to 10% of unimpaired capital and
surplus, if the loan is secured by readily marketable collateral, which generally does not include real estate. As of December
31, 2016, Town Square was in compliance with its loans-to-one borrower limitations.
Qualified Thrift
Lender Test.
As a federal savings and loan association, Town Square must satisfy the qualified thrift lender, or “QTL,”
test. Under the QTL test, Town Square must maintain at least 65% of its “portfolio assets” in “qualified thrift
investments” (primarily residential mortgages and related investments, including mortgage-backed securities) in at least
nine months of the most recent 12-month period. “Portfolio assets” generally means total assets of a savings institution,
less the sum of specified liquid assets up to 20% of total assets, goodwill and other intangible assets, and the value of property
used in the conduct of the savings bank’s business.
A federal savings and
loan association that fails the QTL test must either convert to a commercial bank charter or operate under specified restrictions
set forth in the Home Owners’ Loan Act. The Dodd-Frank Act made noncompliance with the QTL test potentially subject to agency
enforcement action for a violation of law. At December 31, 2016, Town Square satisfied the QTL test with approximately 83.42% of
its portfolio assets in qualified thrift investments.
Capital Distributions.
Federal regulations govern capital distributions by a savings and loan association, which include cash dividends, stock repurchases
and other transactions charged to the savings and loan association’s capital account. A federal savings and loan association
must file an application for approval of a capital distribution if:
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the total capital distributions for the applicable calendar
year exceed the sum of the savings and loan association’s net income for that year to date plus the savings and loan association’s
retained net income for the preceding two years;
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the savings and loan association would not be at least
adequately capitalized following the distribution;
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the distribution would violate any applicable statute,
regulation, agreement or written regulatory condition; or
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the savings and loan association is not eligible for expedited
treatment of its filings.
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Even if an application
is not otherwise required, every savings and loan association that is a subsidiary of a holding company must still file a notice
with the Federal Reserve Board at least 30 days before the Board of Directors declares a dividend or approves a capital distribution.
A notice or application
for capital distribution may be disapproved if:
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the savings and loan association would be undercapitalized
following the distribution;
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the proposed capital distribution raises safety and soundness
concerns; or
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the capital distribution would violate a prohibition contained
in any statute, regulation or regulatory condition.
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In addition, the Federal
Deposit Insurance Act provides that an insured depository institution may not make any capital distribution if, after making such
distribution, the institution would fail to meet any applicable regulatory capital requirement. A federal savings and loan association
also may not make a capital distribution that would reduce its regulatory capital below the amount required for the liquidation
account established in connection with its conversion to stock form. In addition, beginning in 2016, Town Square’s ability
to pay dividends will be limited if Town Square does not have the capital conservation buffer required by the new capital rules,
which may limit the ability of Poage Bankshares to pay dividends to its stockholders.
Liquidity.
A federal savings and loan association is required to maintain a sufficient amount of liquid assets to ensure its safe and sound
operation. On June 16, 2016, Poage Bankshares, Inc. executed a $2.0 million commercial line of credit secured with Town Square
Bank common stock, with an unaffiliated lender. The initial variable interest rate on the line of credit is 4.00% with an interest
rate equal to the Wall Street Prime plus 0.50%. The line of credit matures June 16, 2018. The line of credit will be used for general
working capital purposes. At December 31, 2016, we have $2.0 million available on the line of credit.
Community Reinvestment
Act and Fair Lending Laws.
All federal savings associations have a responsibility under the Community Reinvestment Act
and related regulations of the OCC to help meet the credit needs of their communities, including low- and moderate-income borrowers.
In connection with its examination of a federal savings and loan association, the OCC is required to assess the institution’s
record of compliance with the Community Reinvestment Act. A savings and loan association’s failure to comply with the provisions
of the Community Reinvestment Act could, at a minimum, result in denial of certain corporate applications such as branches or mergers,
or in restrictions on its activities. In addition, the Equal Credit Opportunity Act and the Fair Housing Act prohibit lenders from
discriminating in their lending practices on the basis of characteristics specified in those statutes. The failure to comply with
the Equal Credit Opportunity Act and the Fair Housing Act could result in enforcement actions by the OCC, as well as other federal
regulatory agencies and the Department of Justice. The Community Reinvestment Act requires all Federal Deposit Insurance-insured
institutions to publicly disclose their rating. Town Square received a “satisfactory” Community Reinvestment Act rating
in its most recent federal examination.
Transactions with
Related Parties.
A federal savings and loan association’s authority to engage in transactions with its affiliates
is limited by OCC regulations, by Sections 23A and 23B of the Federal Reserve Act and Regulation W promulgated by the Federal Reserve
Board. An affiliate is generally a company that controls, is controlled by, or is under common control with an insured depository
institution such as Town Square. Poage Bankshares is an affiliate of Town Square. In general, transactions between an insured depository
institution and its affiliates are subject to certain quantitative and collateral requirements. In addition, OCC regulations prohibit
a savings and loan association from lending to any of its affiliates that are engaged in activities that are not permissible for
bank holding companies and from purchasing the securities of any affiliate, other than a subsidiary. Finally, transactions with
affiliates must be consistent with safe and sound banking practices, not involve low-quality assets and be on terms that are as
favorable to the institution as comparable transactions with non-affiliates. The OCC requires federal savings associations to maintain
detailed records of all transactions with affiliates.
Town Square’s authority
to extend credit to its directors, executive officers and 10% shareholders, as well as to entities controlled by such persons,
is currently governed by the requirements of Sections 22(g) and 22(h) of the Federal Reserve Act and Regulation O of the Federal
Reserve Board. Among other things, these provisions require that extensions of credit to insiders:
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be made on terms that are substantially the same as, and
follow credit underwriting procedures that are not less stringent than, those prevailing for comparable transactions with unaffiliated
persons and that do not involve more than the normal risk of repayment or present other unfavorable features, and
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(ii)
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not exceed certain limitations on the amount of credit
extended to such persons, individually and in the aggregate, which limits are based, in part, on the amount of Town Square’s
capital.
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In addition, extensions
of credit in excess of certain limits must be approved by Town Square’s Board of Directors. Extensions of credit to executive
officers are subject to additional limits based on the type of credit extension involved. As of December 31, 2016 Town Square is
in compliance with these credit limitations.
Enforcement.
The OCC has primary enforcement responsibility over federal savings associations and has the authority to bring enforcement action
against all “institution-affiliated parties,” including directors, officers, stockholders, attorneys, appraisers and
accountants who knowingly or recklessly participate in wrongful action likely to have an adverse effect on the savings and loan
association. Formal enforcement action by the OCC may range from the issuance of a capital directive or cease and desist order
to removal of officers and/or directors of the institution, and the appointment of a receiver or conservator. Civil money penalties
cover a wide range of violations and actions, and range up to $25,000 per day, unless a finding of reckless disregard is made,
in which case penalties may be as high as $1 million per day. The FDIC also has the authority to terminate deposit insurance or
to recommend to the OCC that enforcement action be taken with respect to a particular savings institution. If such action is not
taken, the FDIC has authority to take action under specified circumstances.
Standards for Safety
and Soundness.
Federal law requires each federal banking agency to prescribe certain standards for all insured depository
institutions. These standards relate to, among other things, internal controls, information systems and audit systems, loan documentation,
credit underwriting, interest rate risk exposure, asset growth, compensation, and other operational and managerial standards as
the agency deems appropriate. Interagency guidelines set forth the safety and soundness standards that the federal banking agencies
use to identify and address problems at insured depository institutions before capital becomes impaired. The guidelines address
internal controls and information systems, internal audit systems, credit underwriting, loan documentation, interest rate risk
exposure, asset growth, compensation, fees and benefits. If the appropriate federal banking agency determines that an institution
fails to meet any standard prescribed by the guidelines, the agency may require the institution to submit to the agency an acceptable
plan to achieve compliance with the standard. If an institution fails to meet these standards, the appropriate federal banking
agency may require the institution to implement an acceptable compliance plan. Failure to implement such a plan can result in further
enforcement action, including the issuance of a cease and desist order or the imposition of civil money penalties.
Prompt Corrective
Action Regulations
.
Under prompt corrective action regulations, the OCC is authorized and, under certain circumstances,
required to take supervisory actions against undercapitalized savings and loan associations. For this purpose, a federal savings
and loan association is placed in one of the following five categories based on the savings association’s capital:
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well-capitalized (at least 5% leverage capital, 6.5% common
equity Tier 1, 8% Tier 1 risk-based capital and 10% total risk-based capital);
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adequately capitalized (at least 4% leverage capital, 4.5%
common equity Tier 1, 6% Tier 1 risk-based capital and 8% total risk-based capital);
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undercapitalized (less than 4% leverage capital, 4.5% common
equity Tier 1, 4% Tier 1 risk-based capital or 8% total risk-based capital);
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significantly undercapitalized (less than 3% leverage
capital, 3% common equity Tier 1, 4% Tier 1 risk-based capital or 6% total risk-based capital); and
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critically undercapitalized (less than 2% tangible capital).
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Generally, the OCC is
required to appoint a receiver or conservator for a savings bank that is “critically undercapitalized” within specific
time frames. The regulations also provide that a capital restoration plan must be filed with the OCC within 45 days of the date
a savings and loan association receives notice that it is “undercapitalized,” “significantly undercapitalized”
or “critically undercapitalized.” Any holding company for a savings and loan association that is required to submit
a capital restoration plan must guarantee the lesser of an amount equal to 5% of the association’s assets at the time it
was notified or deemed to be undercapitalized by the OCC, or the amount necessary to restore the savings and loan association to
adequately capitalized status. This guarantee remains in place until the OCC notifies the saving and loan association that it has
maintained adequately capitalized status for each of four consecutive calendar quarters, and the OCC has the authority to require
payment and collect payment under the guarantee. Failure by a holding company to provide the required guarantee will result in
certain operating restrictions on the savings and loan association, such as restrictions on the ability to declare and pay dividends,
pay executive compensation and management fees, and increase assets or expand operations. The OCC may also take any one of a number
of discretionary supervisory actions against undercapitalized associations, including the issuance of a capital directive and the
replacement of senior executive officers and directors.
At December 31, 2016,
Town Square met the criteria for being considered “well-capitalized.”
Insurance of Deposit
Accounts.
Deposit accounts in Town Square are insured by the Federal Deposit Insurance Corporation generally up to a maximum
of $250,000 per separately insured depositor and up to a maximum of $250,000 for self-directed retirement accounts. The Federal
Deposit Insurance Corporation charges the insured financial institutions premiums to maintain the Deposit Insurance Fund.
Under the Federal Deposit
Insurance Corporation’s current risk-based assessment system, insured institutions are assigned to one of four risk categories
based on supervisory evaluations, regulatory capital levels and certain other risk factors. Assessments are based on an individual
institution’s category, with the institutions perceived as riskiest paying higher assessments.
In February 2011, the
FDIC published a final rule under the Dodd-Frank Act to reform the deposit insurance assessment system. The rule redefined the
assessment base used for calculating deposit insurance assessments effective April 1, 2011. Under the new rule, assessments are
based on an institution’s average consolidated total assets minus average tangible equity instead of total deposits. The
proposed rule revised the assessment rate schedule to establish assessments ranging from 2.5 to 45 basis points.
The FDIC has authority
to increase insurance assessments. Any significant increases would have an adverse effect on the operating expenses and results
of operations of Town Square. Management cannot predict what assessment rates will be in the future.
In addition to the Federal
Deposit Insurance Corporation assessments, the Financing Corporation (“FICO”) is authorized to impose and collect,
with the approval of the Federal Deposit Insurance Corporation, assessments for anticipated payments, issuance costs and custodial
fees on bonds issued by the FICO in the 1980s to recapitalize the former Federal Savings and Loan Insurance Corporation. For the
quarter ended December 31, 2016, the annualized FICO assessment rate equaled 0.56 basis points. The FICO assessment is based on
total assets less tangible capital. The fourth quarter 2016 FICO assessment rate is 0.140 basis points. The bonds issued by the
FICO are due to mature in 2017 through 2019.
Insurance of deposits
may be terminated by the Federal Deposit Insurance Corporation upon a finding that an institution has engaged in unsafe or unsound
practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation, rule, order
or condition imposed by the Federal Deposit Insurance Corporation. We do not currently know of any practice, condition or violation
that may lead to termination of our deposit insurance.
Prohibitions Against
Tying Arrangements
.
FDIC insured savings and loan associations are prohibited, subject to some exceptions, from extending
credit to or offering any other service, or fixing or varying the consideration for such extension of credit or service, on the
condition that the customer obtain some additional service from the institution or its affiliates or not obtain services of a competitor
of the institution.
Federal Home Loan
Bank System.
Town Square is a member of the Federal Home Loan Bank System, which consists of 11 regional Federal Home Loan
Banks. The Federal Home Loan Bank System provides a central credit facility primarily for member institutions as well as other
entities involved in home mortgage lending. As a member of the FHLB-Cincinnati, Town Square is required to acquire and hold shares
of capital stock in the FHLB-Cincinnati. As of December 31, 2016, Town Square was in compliance with this requirement.
Federal Reserve System.
Federal
Reserve Board regulations require banks to maintain reserves against their transaction accounts (primarily Negotiable Order of
Withdrawal (NOW) and regular checking accounts). The regulations generally provide that reserves be maintained against aggregate
transaction accounts. For 2016: a 3% reserve ratio was assessed on net transaction accounts up to and including $110.0 million;
a 10% reserve ratio was assessed above $110.0 million. The first $15.2 million of otherwise reservable balances (subject to adjustments
by the Federal Reserve Board) were exempt from the reserve requirements. The amounts are adjusted annually and, for 2017, establish
a 3% reserve ratio for aggregate transaction accounts up to $115.1 million, a 10% ratio above $115.1 million, and an exemption
of $15.5 million.
Other Regulations
Interest and other charges
collected or contracted for by Town Square are subject to state usury laws and federal laws concerning interest rates. Town Square’s
operations are also subject to federal laws applicable to credit transactions, such as the:
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Truth-In-Lending Act, governing disclosures of credit terms
to consumer borrowers;
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Real Estate Settlement Procedures Act, requiring that borrowers for mortgage loans for one- to four-family residential real estate receive various disclosures, including good faith estimates of settlement costs, lender servicing and escrow account practices, and prohibiting certain practices that increase the cost of settlement services;
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Home Mortgage Disclosure Act, requiring financial institutions to provide information to enable the public and public officials to determine whether a financial institution is fulfilling its obligation to help meet the housing needs of the community it serves;
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Equal Credit Opportunity Act, prohibiting discrimination on the basis of race, creed or other prohibited factors in extending credit;
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Fair Credit Reporting Act, governing the use and provision of information to credit reporting agencies;
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Fair Debt Collection Act, governing the manner in which consumer debts may be collected by collection agencies;
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the Biggert-Waters Flood Insurance Reform Act of 2012; and
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rules and regulations of the various federal agencies charged with the responsibility of implementing such federal laws.
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In addition, the Consumer
Financial Protection Bureau issues regulations and standards under these federal consumer protection laws that affect our consumer
businesses. These include regulations setting “ability to repay” and “qualified mortgage” standards for
residential mortgage loans and mortgage loan servicing and originator compensation standards. Town Square devotes significant compliance,
legal and operational resources to compliance with consumer protection regulations and standards.
The operations of Town
Square also are subject to the:
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Right to Financial Privacy Act, which imposes a duty to maintain confidentiality of consumer financial records and prescribes procedures for complying with administrative subpoenas of financial records;
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Electronic Funds Transfer Act and Regulation E promulgated thereunder, which govern automatic deposits to and withdrawals from deposit accounts and customers’ rights and liabilities arising from the use of automated teller machines and other electronic banking services;
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Check Clearing for the 21
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Century Act (also known as “Check 21”), which gives “substitute checks,” such as digital check images and copies made from that image, the same legal standing as the original paper check;
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The USA PATRIOT Act, which requires savings and loan associations operating to, among other things, establish broadened anti-money laundering compliance programs, due diligence policies and controls to ensure the detection and reporting of money laundering. Such required compliance programs are intended to supplement existing compliance requirements, also applicable to financial institutions, under the Bank Secrecy Act and the Office of Foreign Assets Control regulations; and
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The Gramm-Leach-Bliley Act, which places limitations on the sharing of consumer financial information by financial institutions with unaffiliated third parties. Specifically, the Gramm-Leach-Bliley Act requires all financial institutions offering financial products or services to retail customers to provide such customers with the financial institution’s privacy policy and provide such customers the opportunity to “opt out” of the sharing of certain personal financial information with unaffiliated third parties.
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The Volcker Rule, which attempts to reduce risk and banking system instability by restricting U.S. banks from investing in or engaging in proprietary trading and speculation and imposing a strict framework to justify exemptions for underwriting, market making and hedging activities. U.S. banks will be restricted from investing in funds with collateral comprised of less than 100% loans that are not registered with the SEC and from engaging in hedging activities that do not hedge a specific identified risk. The Company does not believe the Volcker Rule will have a significant effect on operations.
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Holding Company Regulation
General
.
Poage Bankshares is a non-diversified savings and loan holding company within the meaning of the Home Owners’ Loan Act. As
such, Poage Bankshares is registered with the Federal Reserve Board and subject to Federal Reserve Board regulations, examinations,
supervision and reporting requirements. In addition, the Federal Reserve Board has enforcement authority over Poage Bankshares
and its subsidiaries. Among other things, this authority permits the Federal Reserve Board to restrict or prohibit activities that
are determined to be a serious risk to the subsidiary savings institution.
Permissible Activities.
Under present law, the business activities of Poage Bankshares are generally limited to those activities permissible for financial
holding companies under Section 4(k) of the Bank Holding Company Act of 1956, as amended, or for multiple savings and loan
holding companies. A financial holding company may engage in activities that are financial in nature, including underwriting equity
securities and insurance as well as activities that are incidental to financial activities or complementary to a financial activity.
A multiple savings and loan holding company is generally limited to activities permissible for bank holding companies under Section 4(c)(8)
of the Bank Holding Company Act, subject to the prior approval of the Federal Reserve Board, and certain additional activities
authorized by Federal Reserve Board regulations.
Federal law prohibits
a savings and loan holding company, including Poage Bankshares, directly or indirectly, or through one or more subsidiaries, from
acquiring more than 5% of another savings institution or holding company thereof, without prior written approval of the Federal
Reserve Board. It also prohibits the acquisition or retention of, with certain exceptions, more than 5% of a nonsubsidiary company
engaged in activities that are not closely related to banking or financial in nature, or acquiring or retaining control of an institution
that is not federally insured. In evaluating applications by holding companies to acquire savings institutions, the Federal Reserve
Board must consider the financial and managerial resources, future prospects of the company and institution involved, the effect
of the acquisition on the risk to the federal deposit insurance fund, the convenience and needs of the community and competitive
factors.
The Federal Reserve Board
is prohibited from approving any acquisition that would result in a multiple savings and loan holding company controlling savings
institutions in more than one state, subject to two exceptions:
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(i)
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the approval of interstate supervisory acquisitions by savings and loan holding companies; and
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(ii)
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the acquisition of a savings institution in another state if the laws of the state of the target savings institution specifically permit such acquisition.
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The states vary in the
extent to which they permit interstate savings and loan holding company acquisitions.
Capital
.
When it reaches $1 billion in total assets, Poage Bankshares, Inc. will be subject to the Federal Reserve Board’s capital
adequacy regulations for savings and loan holding companies (on a consolidated basis). These capital standards have historically
been similar to, though less stringent than, those of the OCC for Town Square. The Dodd-Frank Act, however, required the Federal
Reserve Board to establish, for all savings and loan holding companies with total assets of $500 million or more ( a final rule
issued by the Federal Reserve Board has increased this threshold to $1 billion in assets), minimum consolidated capital requirements
that are as stringent as those required for the insured depository subsidiaries. Under regulations recently enacted by the Federal
Reserve Board and effective January 1, 2015, all such savings and loan holding companies will be subject to regulatory capital
requirements that are the same as the new capital requirements for Town Square. These new capital requirements include provisions
that, when applicable, might limit the ability of Poage Bankshares, Inc. to pay dividends to its stockholders or repurchase its
shares. See “—Federal Banking Regulation—New Capital Rule.” Poage Bankshares, Inc. has conducted a pro
forma analysis of the application of these new capital requirements as of December 31, 2016, and has determined that it meets all
of these new requirements, including the full 2.5% capital conservation buffer, and would be well-capitalized, if these new requirements
had been in effect on that date.
Source of Strength.
The Dodd-Frank Act extended the “source of strength” doctrine to savings and loan holding companies. The Federal Reserve
Board has issued regulations requiring that all savings and loan holding companies serve as a source of managerial and financial
strength to their subsidiary savings associations by providing capital, liquidity and other support in times of financial stress.
Dividends.
The Federal Reserve Board has issued a policy statement regarding the payment of dividends by bank holding companies that it has
made applicable to savings and loan holding companies as well. In general, the policy provides that dividends should be paid only
out of current earnings and only if the prospective rate of earnings retention by the holding company appears consistent with the
organization’s capital needs, asset quality and overall financial condition. Regulatory guidance provides for prior regulatory
review of capital distributions in certain circumstances such as where the company’s net income for the past four quarters,
net of dividends previously paid over that period, is insufficient to fully fund the dividend or the company’s overall rate
of earnings retention is inconsistent with the company’s capital needs and overall financial condition. The ability of a
holding company to pay dividends may be restricted if a subsidiary bank becomes undercapitalized. The policy statement also states
that a savings and loan holding company should inform the Federal Reserve Board supervisory staff prior to redeeming or repurchasing
common stock or perpetual preferred stock if the savings and loan holding company is experiencing financial weaknesses or if the
repurchase or redemption would result in a net reduction, as of the end of a quarter, in the amount of such equity instruments
outstanding compared with the beginning of the quarter in which the redemption or repurchase occurred. These regulatory policies
could affect the ability of Poage Bankshares to pay dividends or otherwise engage in capital distributions.
Acquisition.
Under the Federal Change in Bank Control Act, a notice must be submitted to the Federal Reserve Board if any person (including
a company), or group acting in concert, seeks to acquire direct or indirect “control” of a savings and loan holding
company. Under certain circumstances, a change of control may occur, and prior notice is required, upon the acquisition of 10%
or more of the company’s outstanding voting stock, unless the Federal Reserve Board has found that the acquisition will not
result in control of the company. A change in control definitively occurs upon the acquisition of 25% or more of the company’s
outstanding voting stock. Under the Change in Bank Control Act, the Federal Reserve Board generally has 60 days from the filing
of a complete notice to act, taking into consideration certain factors, including the financial and managerial resources of the
acquirer and the competitive effects of the acquisition.
Federal Securities Laws
Our common stock is registered
with the Securities and Exchange Commission under the Securities Exchange Act of 1934. We are subject to the information, proxy
solicitation, insider trading restrictions and other requirements under the Securities Exchange Act of 1934.
Sarbanes-Oxley Act of 2002
The Sarbanes-Oxley Act
of 2002 addresses, among other issues, corporate governance, auditing and accounting, executive compensation, and enhanced and
timely disclosure of corporate information. As directed by the Sarbanes-Oxley Act, our Chief Executive Officer and Chief Financial
Officer are required to certify that our quarterly and annual reports do not contain any untrue statement of a material fact. The
rules adopted by the Securities and Exchange Commission under the Sarbanes-Oxley Act have several requirements, including having
these officers certify that: they are responsible for establishing, maintaining and regularly evaluating the effectiveness of our
internal control over financial reporting; they have made certain disclosures to our auditors and the audit committee of the Board
of Directors about our internal control over financial reporting; and they have included information in our quarterly and annual
reports about their evaluation and whether there have been changes in our internal control over financial reporting or in other
factors that could materially affect internal control over financial reporting.
Risks Related to Our Business
Future Changes in Interest Rates Could Reduce Our Profits.
Future changes in interest
rates could impact our financial condition and results of operations.
Net income is the amount
by which net interest income and non-interest income exceeds non-interest expense and the provision for loan losses. Net interest
income makes up a majority of our income and is based on the difference between:
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interest income earned on interest-earning assets, such as loans and securities; and
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interest expense paid on interest-bearing liabilities, such as deposits and borrowings.
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We are vulnerable to changes
in interest rates including the shape of the yield curve because of a mismatch between the terms to repricing of our assets and
liabilities. Historically, our liabilities repriced more quickly than our assets, which made us vulnerable to increases in interest
rates. For the years ended December 31, 2016 and 2015, our net interest margin was 3.98% and 4.24%, respectively. Our
Asset/Liability Management Committee utilizes a computer simulation model to provide an analysis of estimated changes in net interest
income in various interest rate scenarios. At December 31, 2016, in the event of an immediate 100 basis point decrease in interest
rates, our model projects an decrease in our net portfolio value of $300,000, or 0.30%. In the event of an immediate 200 basis
point increase in interest rates, our model projects a decrease in our net portfolio value of $7.1 million, or 7.19%.
Changes in interest rates
can affect the average life of loans and mortgage-backed and related securities. A reduction in interest rates results in increased
prepayments of loans and mortgage-backed and related securities, as borrowers refinance their debt in order to reduce their borrowing
costs. This creates reinvestment risk, which is the risk that we may not be able to reinvest prepayments at rates that are comparable
to the rates we earned on the prepaid loans or securities. Additionally, increases in interest rates may decrease loan demand and/or
make it more difficult for borrowers to repay adjustable-rate loans.
We Have Increased and Plan to Continue to
Increase Our Levels of Commercial Real Estate, Multi-Family, Commercial Business and Construction and Land Loans, Which Would Increase
Our Exposure to Credit Risk.
At December 31, 2016,
our portfolio of commercial real estate, multi-family, commercial business and construction and land loans totaled $139.8 million,
or 40.3% of our total loans, compared to $105.4 million, or 33.3% of our total loans at December 31, 2015. We intend to continue
to emphasize the origination of these types of loans consistent with safety and soundness.
Non-residential loans
generally expose a lender to a greater risk of loss than one- to four-family residential loans. Repayment of such loans generally
depends, in large part, on sufficient income from the property or the borrower’s business, respectively, to cover operating
expenses and debt service. These types of loans typically involve larger loan balances to single borrowers or groups of related
borrowers compared to one- to four-family residential mortgage loans. Changes in economic conditions that are beyond the control
of the borrower and lender could affect the value of the security for the loan, the future cash flow of the affected property or
business, or the marketability of a construction project with respect to loans originated for the acquisition and development of
property. As we increase our portfolio of these loans, we may experience higher levels of non-performing assets and/or loan losses.
We target our business
lending and marketing strategy towards small- to medium-sized businesses. These small- to medium-sized businesses generally have
fewer financial resources in terms of capital or borrowing capacity than larger entities. If general economic conditions negatively
impact these businesses, our results of operations and financial condition may be adversely affected.
As a result of the acquisition
of Town Square Financial Corporation and Town Square Bank, our portfolio of commercial real estate, multi-family and commercial
business loans has increased significantly, which will further increase our exposure to the risks associated with these types of
loans. We conducted a thorough review of Town Square Bank’s loan portfolio and made certain assumptions as to the future
performance of these loans and the likelihood that such loans would become delinquent or subject to charge-offs in the future.
The assessment of the risk as related to Town Square Bank’s loan portfolio is based upon assumptions that may be inaccurate,
or may become inaccurate based upon uncertainties, contingencies, and factors beyond the control of Poage Bankshares.
If Our Allowance for Loan Losses Is Not
Sufficient to Cover Actual Loan Losses, Our Earnings Will Decrease.
We make various assumptions
and judgments about the collectability of our loan portfolio, including the creditworthiness of our borrowers and the value of
the real estate and other assets serving as collateral for the repayment of many of our loans. In determining the amount of the
allowance for loan losses, we review our loans and our loss and delinquency experience, and we evaluate economic conditions. If
our assumptions are incorrect, our allowance for loan losses may not be sufficient to cover probable incurred losses in our loan
portfolio, resulting in additions to our allowance. While our allowance for loan losses was 0.68% of total loans at December 31,
2016, future additions to our allowance could materially decrease our net income.
In addition, the OCC periodically
reviews our allowance for loan losses and may require us to increase our provision for loan losses or recognize further loan charge-offs.
Any increase in our allowance for loan losses or loan charge-offs as required by regulatory authorities might have a material adverse
effect on our financial condition and results of operations.
The United States Economy Remains Weak.
Continued Adverse Economic Conditions, Especially Affecting Our Geographic Market Area, Could Adversely Affect Our Financial Condition
and Results of Operations.
The United States experienced
a severe economic recession in 2008 and 2009, the effects of which have continued. Recent growth has been slow relative to historical
standards. Loan portfolio quality has remained poor at many financial institutions reflecting, in part, the weak United States
economy. In addition, the value of real estate collateral supporting many commercial loans and home mortgages throughout the United
States has declined. The real estate downturn also has resulted in reduced demand for the construction of new housing and increased
delinquencies in construction, residential and commercial mortgage loans in many markets across the United States.
Our lending market area
consists of Greenup, Lawrence, Boyd, Jessamine, Montgomery, Fayette and Campbell Counties in Kentucky, and Lawrence, Scioto, Hamilton,
Butler, Warren and Clermont Counties in Ohio. Eight of these eleven counties have experienced minimal changes in population and
households from April 1, 2010 to July 1, 2015, including population growth or shrinkage of -2.3%, -0.7%, -2.4%, 6.9%, 4.2%, 6.3%,
1.9%, -2.1%, -3.4%, 0.7%, 2.2%, 5.4% and 2.3%, respectively. While we did not originate or invest in sub-prime mortgages, our lending
business is tied, in part, to the real estate market, which has been weakened by the recession. While we believe our lending market
area has not been as adversely affected by the real estate crisis as some other areas of the country, real estate values and demand
have softened and we remain vulnerable to adverse changes in the real estate market. In addition, a significant weakening in general
economic conditions such as inflation, recession, unemployment or other factors beyond our control, could negatively affect our
financial results. Finally, negative developments in the securities markets could adversely affect the value of our securities.
If We Fail to Maintain an Effective System
of Internal and Disclosure Controls, We May Not Be Able to Accurately Report Our Financial Results or Prevent or Detect Fraud.
As a Result, Current and Potential Shareholders Could Lose Confidence in Our Financial Reporting, Which Would Harm Our Business
and the Trading Price of Our Securities.
Effective internal control
over financial reporting and disclosure controls and procedures are necessary for us to provide reliable financial reports and
effectively prevent or detect fraud and to operate successfully as a public company. If we cannot provide reliable financial reports
or prevent fraud, our reputation and operating results would be harmed. We continually review and analyze our internal control
over financial reporting for Sarbanes-Oxley Section 404 compliance. Our internal control and disclosure controls may still
prove ineffective in future periods. Any failure to maintain effective controls or timely effect any necessary improvement of our
internal and disclosure controls could hinder our ability to accurately report our operating results or cause us to fail to meet
our reporting obligations, which could affect our ability to remain listed with The NASDAQ Capital Market. Ineffective internal
and disclosure controls could also cause investors to lose confidence in our reported financial information, which would likely
have a negative effect on the trading price of our securities.
Regulation of the financial services industry
is undergoing major changes and future legislation could increase our cost of doing business or harm our competitive position.
In 2010 and 2011, in response
to the financial crisis and recession that began in 2008, significant regulatory and legislative changes resulted in broad reform
and increased regulation impacting financial institutions. The Dodd-Frank Act has created a significant shift in the way financial
institutions operate. The Dodd-Frank Act also creates a new federal agency to administer consumer protection and fair lending laws,
a function that was formerly performed by the depository institution regulators. The Dodd-Frank Act contains various other provisions
designed to enhance the regulation of depository institutions. The Dodd-Frank Act may have a material impact on our operations,
particularly through increased regulatory burden and compliance costs. Any future legislative changes could have a material impact
on our profitability, the value of assets held for investment or collateral for loans. Future legislative changes could require
changes to business practices or force us to discontinue businesses and potentially expose us to additional costs, liabilities,
enforcement action and reputational risk.
In addition to the enactment
of the Dodd-Frank Act, the federal regulatory agencies have taken stronger supervisory actions against financial institutions that
have experienced increased loan losses and other weaknesses as a result of the recent economic crisis. The actions include entering
into written agreements and cease and desist orders that place certain limitations on operations. Federal bank regulators have
also been using with more frequency their ability to impose individual minimum capital requirements on banks, which requirements
may be higher than those required under the Dodd-Frank Act or that would otherwise qualify a bank as being “well capitalized”
under applicable prompt corrective action regulations. If we were to become subject to a regulatory agreement or higher individual
minimum capital requirements, such action may have a negative impact on our ability to execute our business plan, as well as our
ability to grow, pay dividends or engage in mergers and acquisitions and may result in restrictions in our operations.
Additionally, the Federal
Reserve Board has approved revisions to their capital adequacy guidelines and prompt corrective action rules that implement the
revised standards of Basel III, and address relevant provisions of the Dodd-Frank Act. Basel III and the regulations of the federal
banking agencies require bank holding companies and banks to undertake significant activities to demonstrate compliance with the
new and higher capital standards. Compliance with these rules will impose additional costs on us.
We operate in a highly regulated environment
and we may be adversely affected by changes in laws and regulations.
Town
Square Bank is subject to extensive regulation, supervision and examination by the OCC, its primary federal regulator, and by the
FDIC, as its deposit insurer. The Company is also subject to regulation and supervision by the Federal Reserve Board. Such regulation
and supervision governs the activities in which an institution and its holding company may engage, and are intended primarily for
the protection of the insurance fund and the depositors and borrowers of Town Square Bank rather than for holders of the Company’s
common stock. Regulatory authorities have extensive discretion in their supervisory and enforcement activities, including the imposition
of restrictions on our operations, the classification of our assets and determination of the level of our allowance for loan losses.
If our regulators require us to charge-off loans or increase our allowance for loan losses, our earnings would suffer. Any change
in such regulation and oversight, whether in the form of regulatory policy, regulations, legislation or supervisory action, may
have a material impact on our operations.
Strong Competition Within Our Market Areas
May Limit Our Growth and Profitability.
Competition in the banking
and financial services industry is intense. In our market areas, we compete with commercial banks, savings institutions, mortgage
brokerage firms, credit unions, finance companies, mutual funds, insurance companies, and brokerage and investment banking firms
operating locally and elsewhere. In our seven-county market area, including Boyd, Greenup, Lawrence, Jessamine and Montgomery Counties
in Kentucky and Lawrence and Scioto Counties in Ohio, there are a total of 29 commercial bank and savings institution competitors,
along with several credit union competitors. The commercial banks and savings institutions operate a total of 112 branch
offices in those counties, containing $3.4 billion of deposits. The commercial bank and savings institution competitors include
larger institutions with nationwide or regional operations, and local community institutions such as us that serve the local markets
only. The credit union competitors consist of local community based institutions. Some of our competitors have greater name
recognition and market presence that benefit them in attracting business, and offer certain services that we do not or cannot provide.
In addition, larger competitors may be able to price loans and deposits more aggressively than we can, which could affect our ability
to grow and remain profitable on a long-term basis. Our profitability depends upon our continued ability to successfully compete
in our market areas. If we must raise interest rates paid on deposits or lower interest rates charged on our loans, our net interest
margin and profitability could be adversely affected. For additional information see “Item 1—Business—Town Square—Market
Area” and —“Competition.”
The financial services
industry could become even more competitive as a result of new legislative, regulatory and technological changes and continued
consolidation. Banks, securities firms and insurance companies can merge under the umbrella of a financial holding company, which
can offer virtually any type of financial service, including banking, securities underwriting, insurance (both agency and underwriting)
and merchant banking. Also, technology has lowered barriers to entry and made it possible for non-banks to offer products and services
traditionally provided by banks, such as automatic transfer and automatic payment systems. Many of our competitors have fewer regulatory
constraints and may have lower cost structures. Additionally, due to their size, many competitors may be able to achieve economies
of scale and, as a result, may offer a broader range of products and services as well as better pricing for those products and
services than we can.
Risks Associated with System Failures, Interruptions, or Breaches
of Security Could Negatively Affect Us and Our Earnings.
Information technology systems are critical
to our business operations. We use various technology systems to manage customer relationships, our general ledger, our securities
investments, and our customer deposits and loans. We have established policies and procedures to prevent or limit the effect of
system failures, interruptions, and security breaches, but these events may still occur or may not be adequately addressed if they
do occur. In addition, any compromise of our systems could deter customers from using our products and services. Security systems
may not protect systems from security breaches.
In addition, we outsource some of our data processing
to certain third-party providers. If they encounter difficulties, or if we have difficulty communicating with them, our ability
to adequately process and account for transactions could be affected, and our business operations could be adversely affected.
Threats to information security also exist in the processing of customer information through various other vendors and their personnel.
The occurrence of any system failures, interruption,
or breach of security could damage our reputation and result in a loss of customers and business, thereby subjecting us to additional
regulatory scrutiny, or could expose us to litigation and possible financial liability. Any of these events could have a material
adverse effect on our financial condition and results of operations.
We Are a Community Bank and Our Ability
to Maintain Our Reputation is Critical to the Success of Our Business and the Failure to Do So May Materially Adversely Affect
Our Performance.
We are a community bank,
and our reputation is one of the most valuable components of our business. As such, we strive to conduct our business in a manner
that enhances our reputation. This is done, in part, by recruiting, hiring and retaining employees who share our core values of
being an integral part of the communities we serve, delivering superior service to our customers and caring about our customers
and associates. If our reputation is negatively affected, by the actions of our employees or otherwise, our business and, therefore,
our operating results may be materially adversely affected. We will continue to face additional challenges maintaining our reputation
with respect to customers of Town Square in our current market area and in building our reputation in the new market areas that
we serve as a result of the acquisition of Town Square Financial and Town Square Bank and also the acquisition of Commonwealth
Bank.
We Depend on Our Management Team to Implement
Our Business Strategy and Execute Successful Operations and We Could Be Harmed by the Loss of Their Services.
We are dependent upon
the services of our senior management team. Our strategy and operations are directed by the senior management team. Any loss of
the services of our president and chief executive officer or other members of our senior management team could impact our ability
to implement our business strategy, and have a material adverse effect on our results of operations and our ability to compete
in our markets. See “Directors, Executive Officers and Corporate Governance.”
Changes in Accounting Standards Could Affect
Reported Earnings.
The accounting standard
setters, including the Financial Accounting Standards Board, the Securities and Exchange Commission and other regulatory bodies,
periodically change the financial accounting and reporting guidance that governs the preparation of our consolidated financial
statements. These changes can be hard to predict and can materially affect how we record and report our financial condition and
results of operations. In some cases, we could be required to apply new or revised guidance retroactively.
The Issuance of Awards Under Our Stock-Based Benefit Plans Will
Dilute Your Ownership Interest.
On January 8, 2013, the
shareholders of Poage Bankshares approved the Poage Bankshares, Inc. 2013 Equity Incentive Plan (the “Plan”) for employees
and directors of Poage Bankshares. The Plan authorizes the issuance of up to 472,132 shares of Poage Bankshares common stock, with
no more than 134,895 of shares as restricted stock awards and 337,237 as stock options, either incentive stock options or non-qualified
stock options. The exercise price of options granted under the Plan may not be less than the fair value on the date the stock option
is granted. The compensation committee of the board of directors has sole discretion to determine the amount and to whom equity
incentive awards are granted. If awards under the Plan are funded from the issuance of authorized but unissued shares of common
stock, Poage Bankshares shareholders would experience a dilution of their ownership interest. On April 16, 2013, the board of directors
awarded the authorized 134,895 restricted shares as designated by the compensation committee and through December 31, 2016 have
granted 325,000 stock option awards. The implementation of any additional stock-based benefit plans in the future would cause further
dilution of such ownership interests.
If the goodwill we have recorded in connection
with business acquisitions becomes impaired, it could have a negative impact on our profitability.
Goodwill represents the
amount of acquisition cost over the fair value of net assets we acquired in the purchase of another financial institution. We
review goodwill for impairment at least annually, or more frequently if events or changes in circumstances indicate the carrying
value of the asset might be impaired. We determine impairment by comparing the implied fair value of the reporting unit
goodwill with the carrying amount of that goodwill. If the carrying amount of the reporting unit goodwill exceeds the
implied fair value of that goodwill, an impairment loss is recognized in an amount equal to that excess. Any such adjustments
are reflected in our results of operations in the periods in which they become known. We have recorded no such impairment
charges since we initially recorded the goodwill, there can be no assurance that our future evaluations of goodwill will not result
in findings of impairment and related write-downs, which may have a material adverse effect on our financial condition and results
of operations.
Shareholder Activists Could Cause a Disruption
to Poage Bankshares’ Business.
Certain institutional
investors have indicated that they disagree with the strategic direction and capital allocation policies of Poage Bankshares and
have successfully obtained representation on its Board of Directors through a director election contest. Poage Bankshares’
business, operating results or financial condition could be adversely affected by a director election contest and may result in,
among other things:
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Increased operating costs, including increased legal expenses, insurance, administrative expenses and associated costs incurred in connection with director election contests;
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Uncertainties as to Poage Bankshares’ future direction could result in the loss of potential business opportunities and could (i) make it more difficult to attract, retain, or motivate qualified personnel, and (ii) strain relationships with investors and customers; and
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Reduction or delay in Poage Bankshares’ ability to effectively execute its current business strategy and to implement new strategies.
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