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COMMITMENTS AND CONTINGENCIES

6 Months Ended

Jun. 30, 2023

COMMITMENTS AND CONTINGENCIES

COMMITMENTS AND CONTINGENCIES

NOTE 15 – COMMITMENTS AND CONTINGENCIES

Financial Instruments

The Bank is party to credit-related financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. Such instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets.

The Bank’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.

Such commitments and conditional obligations were as follows:


		Contractual Amount
		June 30, 2023			December 31, 2022

			(dollars in thousands)
Commitments to extend credit		$	860,390		$	756,885
Standby letters of credit			19,053			17,785

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer’s credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary, by the Bank upon extension of credit is based on management’s credit evaluation of the customer. Collateral held varies, but may include real estate, accounts receivable, inventory, property, plant, and equipment, and income-producing properties.

Standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. Those standby letters of credit are primarily issued to support extensions of credit. The credit risk involved in issuing standby letters of credit is essentially the same as that involved in extending loans to customers. The Bank secures the standby letters of credit with the same collateral used to secure the related loan.

Allowance for Credit Losses on Unfunded Commitments

The Company estimates expected credit losses over the contractual period in which the Company is exposed to credit risk via a contractual obligation to extend credit, unless that obligation is unconditionally cancelable by the Company. The allowance for credit losses on unfunded commitments is included in other liabilities on the consolidated balance sheets and is adjusted through a charge to provision for credit loss expense on the consolidated statements of income. The allowance for credit losses on unfunded commitments estimate includes consideration of the likelihood that funding will occur and an estimate of expected credit losses on commitments expected to be funded over its estimated life. The allowance for credit losses on unfunded commitments was $4.1 million as of June 30, 2023.

Legal Contingencies

In the normal course of business, the Company, or its subsidiaries, are involved in various legal proceedings. In the opinion of management, any liability resulting from pending proceedings would not be expected to have a material adverse effect on the Company's consolidated financial statements.

PLB Investments LLC, John Kuehner, and A.S. Palmer Investments LLC v. Heartland Bank and Trust Company and PNC Bank N.A., In the United States District Court for the Northern District of Illinois, Case No. 1:20-cv-1023 (“Class Action”); and Melanie E. Damian, As Receiver of Today’s Growth Consultant, Inc. (dba The Income Store) v. Heartland Bank and Trust Company and PNC Bank N.A., In the United States District Court for the Northern District of Illinois, Case No. 1:20-cv-7819 (“Receiver’s Action”)

The Bank was a defendant in the purported Class Action lawsuit that was filed on February 12, 2020, in the U.S. District Court for the Northern District of Illinois. The plaintiffs in the Class Action alleged that the Bank negligently enabled and facilitated a fraudulent, Ponzi-like scheme perpetrated by Today’s Growth Consultant, Inc. (dba The Income Store) (“TGC”). Additionally, the Receiver for TGC filed the Receiver’s Action on December 30, 2020, in the U.S. District Court for the Northern District of Illinois, with similar allegations.

On February 20, 2023, the Bank reached an agreement in principle to settle both the Class Action and Receiver’s Action in which the Bank would make one-time cash payments totaling $13.0 million, without admitting fault, to release the Bank from further liability and claims in both the Class Action and Receiver’s Action.

Pursuant to the agreement in principle, the parties would settle and dismiss the Class Action and Receiver’s Action and seek the entry of bar orders from the U.S. District Court for the Northern District of Illinois (the “Court”) prohibiting any continued or future claims against the Bank and its related parties relating to the Class Action and the Receiver’s Action, whether asserted to date or not. If definitive settlement agreements, including the bar orders described in the preceding sentence, are approved by the Court and are not subject to appeal, the Bank will make one-time cash payments totaling $13.0 million.

Definitive settlement agreements reflecting the terms of the agreement in principle have been executed and notice to TGC’s investor claimants have been delivered. Motions for final, non-appealable approvals of the settlement agreements and for entry of a bar order were granted and are pending entry of final written order by the Court (“Final Written Order”). The Class Action has been voluntarily dismissed.

The proposed settlements do not include any admission of liability or wrongdoing by the Bank, and the Bank expressly denies any liability or wrongdoing with respect to any matter alleged in the Class Action and Receiver’s Action. The Bank agreed in principle to the settlements to avoid the cost, risks and distraction of continued litigation. The Company believes the settlements are in the best interests of the Company and its shareholders.

Accordingly, the Bank had a $13.0 million accrual related to these matters as of June 30, 2023 and December 31, 2022. The Bank’s insurer has agreed to reimburse $7.4 million of the settlement payment which was recorded as an insurance recovery receivable as of June 30, 2023 and December 31, 2022. The estimated net settlement amount of $5.6 million was included in other noninterest expense in the consolidated statements of income during the fourth quarter of 2022. The settlement payments will be made within two weeks of the date of the Final Written Order of the Court.

DeBaere, et al v. Heartland Bank and Trust Company

The Bank is a defendant in a purported class action lawsuit filed in June 2020, in the Circuit Court of Cook County, Illinois. The plaintiff, a customer of the Bank, alleges that the Bank breached its contract with the plaintiff by (1) charging multiple insufficient funds fees or overdraft fees on a single customer-initiated transaction, and (2) charging overdraft fees for transactions that were authorized on a positive account balance, but when settled, settled into a negative balance.

Miller, et al v. State Bank of Lincoln and Heartland Bank and Trust Company

The Bank is a defendant in a purported class action lawsuit filed in May 2020, in the Circuit Court of Logan County, Illinois. The plaintiff, a customer of State Bank of Lincoln, which previously merged with the Bank, alleges that the Bank breached its contract with the plaintiff by charging multiple insufficient funds fees or overdraft fees on a single customer-initiated transaction.

On May 15, 2023, the Bank reached an agreement in principle to settle both the DeBaere, et al and Miller, et al cases in which the Bank would make one-time cash payments totaling $3.4 million, without admitting fault, to release the Bank from further liability and claims in both the cases. If the proposed settlement agreements are approved by the Court and are not subject to appeal, the Bank will make one-time cash payments totaling $3.4 million.

The proposed settlements do not include any admission of liability or wrongdoing by the Bank, and the Bank expressly denies any liability or wrongdoing with respect to any matter alleged in the DeBaere, et al and Miller, et al cases. The Bank has agreed in principle to the settlements to avoid the cost, risks and distraction of continued litigation. The Company believes the proposed settlements are in the best interests of the Company and its shareholders.

Accordingly, the Bank had in the aggregate a $3.4 million and $2.6 million accrual related to these matters as of June 30, 2023 and December 31, 2022, respectively. An initial $2.6 million accrual was recognized in other noninterest expense during the fourth quarter of 2022, reflecting management’s best estimate at that time, and an additional $0.8 million accrual was recognized in other noninterest expense during the second quarter of 2023 following the agreement in principle to settle both the DeBaere, et al and Miller, et al cases.