Loans and Allowance for Credit Losses on Loans

3 Months Ended

Mar. 31, 2023

Loans and Allowance for Credit Losses on Loans

The following table presents the amortized cost of loans by class as of March 31, 2023 and December 31, 2022.


(in thousands)	March 31, 2023		December 31, 2022
Commercial and industrial	$	195,964	$	173,547
Real estate:
Commercial owner-occupied	352,529		354,877
Commercial non-owner occupied	1,189,962		1,191,889
Construction	110,386		114,373
Home equity	86,572		88,748
Other residential	116,447		112,123
Installment and other consumer loans	60,468		56,989
Total loans, at amortized cost 1	2,112,328		2,092,546
Allowance for credit losses on loans	(23,330)		(22,983)
Total loans, net of allowance for credit losses on loans	$	2,088,998	$	2,069,563

1 Amortized cost includes net deferred loan origination costs of $2.1 million and $1.8 million at March 31, 2023 and December 31, 2022, respectively. Amounts are also net of unrecognized purchase discounts of $2.4 million and $2.6 million at March 31, 2023 and December 31, 2022, respectively. Amortized cost excludes accrued interest, which totaled $6.1 million at both March 31, 2023 and December 31, 2022, and is included in interest receivable and other assets in the consolidated statements of condition.

Lending Risks

Commercial and Industrial Loans - Commercial loans are generally made to established small and mid-sized businesses to provide financing for their growth and working capital needs, equipment purchases and acquisitions. Management examines historical, current, and projected cash flows to determine the ability of the borrower to repay obligations as agreed. Commercial loans are made based primarily on the identified cash flows of the borrower and secondarily on the underlying collateral and guarantor support. The cash flows of borrowers, however, may not occur as expected, and the collateral securing these loans may fluctuate in value. Most commercial and industrial loans are secured by the assets being financed, such as accounts receivable and inventory, and typically include personal guarantees. We target stable businesses with guarantors who provide additional sources of repayment and have proven to be resilient in periods of economic stress. A weakened economy, and resultant decreased consumer and/or business spending, may have an effect on the credit quality of commercial loans.

Commercial Real Estate Loans - Commercial real estate loans, which include income producing investment properties and owner-occupied real estate used for business purposes, are subject to underwriting standards and processes similar to commercial loans discussed above. We underwrite these loans to be repaid from cash flow from either the business or investment property and supported by real property collateral. Underwriting standards for commercial real estate loans include, but are not limited to, debt coverage and loan-to-value ratios. Furthermore, a large majority of our loans are guaranteed by the owners of the properties. Conditions in the real estate markets or downturn in the general economy may adversely affect our commercial real estate loans. In the event of a vacancy, we expect guarantors to carry the loans until they find a replacement tenant. The owner's substantial equity investment provides a strong economic incentive to continue to support the commercial real estate projects. As such, we have generally experienced a relatively low level of loss and delinquencies in this portfolio.

Construction Loans - Construction loans are generally made to developers and builders to finance construction, renovation and occasionally land acquisitions in anticipation of near-term development. Construction loans include interest reserves that are used for the payment of interest during the development and marketing periods and are capitalized as part of the loan balance. When a construction loan is placed on nonaccrual status before the depletion of the interest reserve, we apply the interest funded by the interest reserve against the loan's principal balance. These loans are underwritten after evaluation of the borrower's financial strength, reputation, prior track record, and independent appraisals. We monitor all construction projects to determine whether they are on schedule, completed as planned and in accordance with the approved construction budgets. Significant events can affect the construction industry, including: the inherent volatility of real estate markets and vulnerability to delays due to weather, change orders, inability to obtain construction permits, labor or material shortages, and price changes.

Estimates of construction costs and value associated with the completed project may be inaccurate. Repayment of construction loans is largely dependent on the ultimate success of the project.

Consumer Loans - Consumer loans primarily consist of home equity lines of credit, other residential loans, floating homes, and indirect luxury auto loans, along with a small number of installment loans. Our other residential loans include tenancy-in-common fractional interest loans ("TIC") located almost entirely in San Francisco County. We originate consumer loans utilizing credit score information, debt-to-income ratio and loan-to-value ratio analysis. Diversification among consumer loan types, coupled with relatively small loan amounts that are spread across many individual borrowers, mitigates risk. We do not originate sub-prime residential mortgage loans, nor is it our practice to underwrite loans commonly referred to as "Alt-A mortgages," the characteristics of which are reduced documentation, borrowers with low FICO scores or collateral with high loan-to-value ratios.

Credit Quality Indicators

We use a risk rating system to evaluate asset quality, and to identify and monitor credit risk in individual loans, and in the loan portfolio. Our definitions of “Special Mention” risk graded loans, or worse, are consistent with those used by the Federal Deposit Insurance Corporation ("FDIC"). Our internally assigned grades are as follows:

Pass and Watch - Loans to borrowers of acceptable or better credit quality. Borrowers in this category demonstrate fundamentally sound financial positions, repayment capacity, credit history and management expertise. Loans in this category must have an identifiable and stable source of repayment and meet the Bank’s policy regarding debt-service-coverage ratios. These borrowers are capable of sustaining normal economic, market or operational setbacks without significant financial consequences. Negative external industry factors are generally not present. The loan may be secured, unsecured or supported by non-real estate collateral for which the value is more difficult to determine and/or marketability is more uncertain. This category also includes “Watch” loans, where the primary source of repayment has been delayed. “Watch” is intended to be a transitional grade, with either an upgrade or downgrade within a reasonable period.

Special Mention - Potential weaknesses that deserve close attention. If left uncorrected, those potential weaknesses may result in deterioration of the payment prospects for the asset. Special Mention assets do not present sufficient risk to warrant adverse classification.

Substandard - Inadequately protected by either the current sound worth and paying capacity of the obligor or the collateral pledged, if any. A Substandard asset has a well-defined weakness or weaknesses that jeopardize(s) the liquidation of the debt. Substandard assets are characterized by the distinct possibility that we will sustain some loss if such weaknesses or deficiencies are not corrected. Well-defined weaknesses include adverse trends or developments of the borrower’s financial condition, managerial weaknesses and/or significant collateral deficiencies.

Doubtful - Critical weaknesses that make collection or liquidation in full improbable. There may be specific pending events that work to strengthen the asset; however, the amount or timing of the loss may not be determinable. Pending events generally occur within one year of the asset being classified as Doubtful. Examples include: merger, acquisition, or liquidation; capital injection; guarantee; perfecting liens on additional collateral; and refinancing. Such loans are placed on non-accrual status and usually are collateral-dependent.

We regularly review our credits for accuracy of risk grades whenever we receive new information and at each quarterly and year-end reporting period. Borrowers are generally required to submit financial information at regular intervals. Typically, commercial borrowers with lines of credit are required to submit financial information with reporting intervals ranging from monthly to annually depending on credit size, risk and complexity. In addition, investor commercial real estate borrowers with loans exceeding a certain dollar threshold are usually required to submit rent rolls or property income statements annually. We monitor construction loans monthly. We review home equity and other consumer loans based on delinquency. We also review loans graded “Watch” or worse, regardless of loan type, no less than quarterly.

The following tables present the loan portfolio by loan class, origination year and internal risk rating as of March 31, 2023 and December 31, 2022. The current year vintage table reflects gross charge-offs by loan class and year of origination. Generally, existing term loans that were re-underwritten are reflected in the table in the year of renewal. Lines of credit that have a conversion feature at the time of origination, such as construction to perm loans, are presented by year of origination.


(in thousands)	Term Loans - Amortized Cost by Origination Year												Revolving Loans Amortized Cost
March 31, 2023	2023		2022		2021		2020		2019		Prior				Total
Commercial and industrial:
Pass and Watch	$	25,074	$	13,349	$	5,414	$	6,732	$	17,105	$	27,065	$	87,069	$	181,808
Special Mention	3		275		—		—		2,743		4,395		1,089		8,505
Substandard	—		—		—		1,141		—		585		3,925		5,651
Total commercial and industrial	$	25,077	$	13,624	$	5,414	$	7,873	$	19,848	$	32,045	$	92,083	$	195,964
Gross current period charge-offs	$	—	$	—	$	—	$	—	$	(3)	$	—	$	—	$	(3)

Commercial real estate, owner-occupied:
Pass and Watch	$	371	$	55,727	$	51,067	$	39,903	$	47,400	$	130,314	$	—	$	324,782
Special Mention	—		—		16,058		—		298		9,680		—		26,036
Substandard	—		—		—		—		—		1,711		—		1,711

Total commercial real estate, owner-occupied	$	371	$	55,727	$	67,125	$	39,903	$	47,698	$	141,705	$	—	$	352,529

Commercial real estate, non-owner occupied:
Pass and Watch	$	5,456	$	179,181	$	210,546	$	154,342	$	162,111	$	426,972	$	48	$	1,138,656
Special Mention	—		—		1,166		11,998		3,907		11,466		—		28,537
Substandard	—		—		2,246		—		—		20,523		—		22,769

Total commercial real estate, non-owner occupied	$	5,456	$	179,181	$	213,958	$	166,340	$	166,018	$	458,961	$	48	$	1,189,962

Construction:
Pass and Watch	$	4,578	$	44,693	$	24,804	$	27,198	$	—	$	9,113	$	—	$	110,386


Total construction	$	4,578	$	44,693	$	24,804	$	27,198	$	—	$	9,113	$	—	$	110,386

Home equity:
Pass and Watch	$	—	$	—	$	—	$	—	$	—	$	966	$	84,723	$	85,689

Substandard	—		—		—		—		—		228		655		883
Total home equity	$	—	$	—	$	—	$	—	$	—	$	1,194	$	85,378	$	86,572

Other residential:
Pass and Watch	$	6,223	$	21,047	$	14,386	$	28,542	$	21,750	$	24,499	$	—	$	116,447


Total other residential	$	6,223	$	21,047	$	14,386	$	28,542	$	21,750	$	24,499	$	—	$	116,447

Installment and other consumer:
Pass and Watch	$	6,591	$	18,531	$	12,501	$	5,443	$	5,951	$	10,501	$	950	$	60,468


Total installment and other consumer	$	6,591	$	18,531	$	12,501	$	5,443	$	5,951	$	10,501	$	950	$	60,468
Gross current period charge-offs	$	—	$	(5)	$	—	$	(3)	$	—	$	(1)	$	(2)	$	(11)
Total loans:
Pass and Watch	$	48,293	$	332,528	$	318,718	$	262,160	$	254,317	$	629,430	$	172,790	$	2,018,236
Total Special Mention	$	3	$	275	$	17,224	$	11,998	$	6,948	$	25,541	$	1,089	$	63,078
Total Substandard	$	—	$	—	$	2,246	$	1,141	$	—	$	23,047	$	4,580	$	31,014
Total Doubtful	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Totals	$	48,296	$	332,803	$	338,188	$	275,299	$	261,265	$	678,018	$	178,459	$	2,112,328
Total gross current period charge-offs	$	—	$	(5)	$	—	$	(3)	$	(3)	$	(1)	$	(2)	$	(14)


(in thousands)	Term Loans - Amortized Cost by Origination Year												Revolving Loans Amortized Cost
December 31, 2022	2022		2021		2020		2019		2018		Prior				Total
Commercial and industrial:
Pass and Watch	$	15,349	$	6,679	$	7,603	$	19,982	$	5,362	$	24,954	$	84,655	$	164,584
Special Mention	275		—		—		2,272		3,836		—		402		6,785
Substandard	—		—		1,252		—		—		625		301		2,178
Total commercial and industrial	$	15,624	$	6,679	$	8,855	$	22,254	$	9,198	$	25,579	$	85,358	$	173,547

Commercial real estate, owner-occupied:
Pass and Watch	$	54,188	$	52,080	$	40,369	$	44,798	$	29,856	$	104,377	$	—	$	325,668
Special Mention	—		16,199		—		304		5,255		4,493		—		26,251
Substandard	—		—		—		1,160		—		1,699		—		2,859
Doubtful	—		—		99		—		—		—		—		99
Total commercial real estate, owner-occupied	$	54,188	$	68,279	$	40,468	$	46,262	$	35,111	$	110,569	$	—	$	354,877
Commercial real estate, non-owner occupied:
Pass and Watch	$	177,822	$	211,228	$	155,278	$	160,670	$	129,166	$	308,509	$	57	$	1,142,730
Special Mention	—		1,172		12,097		3,934		678		9,290		—		27,171
Substandard	—		2,264		—		—		—		19,724		—		21,988
Total commercial real estate, non-owner occupied	$	177,822	$	214,664	$	167,375	$	164,604	$	129,844	$	337,523	$	57	$	1,191,889
Construction:
Pass and Watch	$	49,262	$	19,393	$	28,861	$	7,745	$	9,112	$	—	$	—	$	114,373


Total construction	$	49,262	$	19,393	$	28,861	$	7,745	$	9,112	$	—	$	—	$	114,373
Home equity:
Pass and Watch	$	—	$	—	$	—	$	—	$	—	$	883	$	86,971	$	87,854

Substandard	—		—		—		—		—		480		414		894
Total home equity	$	—	$	—	$	—	$	—	$	—	$	1,363	$	87,385	$	88,748
Other residential:
Pass and Watch	$	21,154	$	14,547	$	29,018	$	21,890	$	11,064	$	14,450	$	—	$	112,123


(in thousands)	Term Loans - Amortized Cost by Origination Year												Revolving Loans Amortized Cost
December 31, 2022	2022		2021		2020		2019		2018		Prior		Revolving Loans Amortized Cost		Total
Total other residential	$	21,154	$	14,547	$	29,018	$	21,890	$	11,064	$	14,450	$	—	$	112,123
Installment and other consumer:
Pass and Watch	$	20,054	$	13,022	$	5,727	$	6,492	$	4,181	$	6,478	$	944	$	56,898

Substandard	—		—		—		—		—		91		—		91
Total installment and other consumer	$	20,054	$	13,022	$	5,727	$	6,492	$	4,181	$	6,569	$	944	$	56,989

Total loans:
Pass and Watch	$	337,829	$	316,949	$	266,856	$	261,577	$	188,741	$	459,651	$	172,627	$	2,004,230
Total Special Mention	$	275	$	17,371	$	12,097	$	6,510	$	9,769	$	13,783	$	402	$	60,207
Total Substandard	$	—	$	2,264	$	1,252	$	1,160	$	—	$	22,619	$	715	$	28,010
Total Doubtful	$	—	$	—	$	99	$	—	$	—	$	—	$	—	$	99
Totals	$	338,104	$	336,584	$	280,304	$	269,247	$	198,510	$	496,053	$	173,744	$	2,092,546

The following table shows the amortized cost of loans by class, payment aging and non-accrual status as of March 31, 2023 and December 31, 2022.


Loan Aging Analysis by Class
(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, non-owner occupied		Construction		Home equity		Other residential		Installment and other consumer		Total
March 31, 2023
30-59 days past due	$	822	$	—	$	924	$	—	$	399	$	—	$	1	$	2,146
60-89 days past due	—		—		—		—		—		—		—		—
90 days or more past due	—		33		—		—		598		—		3		634
Total past due	822		33		924		—		997		—		4		2,780
Current	195,142		352,496		1,189,038		110,386		85,575		116,447		60,464		2,109,548
Total loans 1	$	195,964	$	352,529	$	1,189,962	$	110,386	$	86,572	$	116,447	$	60,468	$	2,112,328
Non-accrual loans 2	$	—	$	331	$	924	$	—	$	768	$	—	$	3	$	2,026
Non-accrual loans with no allowance	$	—	$	331	$	924	$	—	$	768	$	—	$	—	$	2,023
December 31, 2022
30-59 days past due	$	3	$	—	$	—	$	—	$	319	$	93	$	5	$	420
60-89 days past due	—		—		—		—		244		—		—		244
90 days or more past due	264		—		—		—		414		—		—		678
Total past due	267		—		—		—		977		93		5		1,342
Current	173,280		354,877		1,191,889		114,373		87,771		112,030		56,984		2,091,204
Total loans 1	$	173,547	$	354,877	$	1,191,889	$	114,373	$	88,748	$	112,123	$	56,989	$	2,092,546
Non-accrual loans 2	$	—	$	1,563	$	—	$	—	$	778	$	—	$	91	$	2,432
Non-accrual loans with no allowance	$	—	$	1,563	$	—	$	—	$	778	$	—	$	91	$	2,432

1 There were no non-performing loans past due more than ninety days and accruing interest as of March 31, 2023 and December 31, 2022.

2 None of the non-accrual loans as of March 31, 2023 or December 31, 2022 were earning interest on a cash basis. We recognized no interest income on non-accrual loans for the three months ended March 31, 2023 and 2022. We reversed interest income totaling $16 thousand and less than one thousand for loans placed on non-accrual status during the three months ended March 31, 2023 and March 31, 2022, respectively.

Collateral Dependent Loans

The following table presents the amortized cost basis of individually analyzed collateral-dependent loans, which are all on non-accrual status, by class at March 31, 2023 and December 31, 2022.


	Amortized Cost by Collateral Type
(in thousands)	Commercial Real Estate		Residential Real Estate		Other		Total 1		Allowance for Credit Losses

March 31, 2023
Commercial real estate, owner-occupied	$	331	$	—	$	—	$	331	$	—
Commercial real estate, non-owner occupied	924		—		—		924		—

Home equity	—		768		—		768		—

Installment and other consumer	—		—		3		3		3
Total	$	1,255	$	768	$	3	$	2,026	$	3
December 31, 2022
Commercial real estate, owner-occupied	$	1,563	$	—	$	—	$	1,563	$	—
Home equity	—		778		—		778		—

Installment and other consumer	—		—		91		91		—


Total	$	1,563	$	778	$	91	$	2,432	$	—

1 There were no collateral-dependent residential real estate mortgage loans in process of foreclosure or in substance repossessed at March 31, 2023 or December 31, 2022. The weighted average loan-to-value of collateral dependent loans was approximately 42% at both March 31, 2023 and December 31, 2022.

Loan Modifications

We adopted ASU No. 2022-02, Financial Instruments - Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures on January 1, 2023, as described in Note 2, Recently Adopted and Issued Accounting Standards. The amendments enhanced disclosures related to certain types of loan modifications for borrowers experiencing financial difficulty, including principal forgiveness, interest rate reductions, other-than-insignificant payment delays, and/or term extensions. There were no such modifications during the three months ended March 31, 2023 requiring disclosure.

Allocation of the Allowance for Credit Losses on Loans

The following table presents the details of the allowance for credit losses on loans segregated by loan portfolio segments as of March 31, 2023 and December 31, 2022.


Allocation of the Allowance for Credit Losses on Loans
(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, non-owner occupied		Construction		Home equity		Other residential		Installment and other consumer		Unallocated		Total
March 31, 2023
Modeled expected credit losses	$	1,137	$	1,349	$	7,409	$	239	$	459	$	535	$	574	$	—	$	11,702
Qualitative adjustments	784		1,291		5,292		1,780		79		42		305		2,032		11,605
Specific allocations	20		—		—		—		—		—		3		—		23
Total	$	1,941	$	2,640	$	12,701	$	2,019	$	538	$	577	$	882	$	2,032	$	23,330
December 31, 2022
Modeled expected credit losses	$	1,079	$	1,497	$	7,937	$	453	$	504	$	571	$	610	$	—	$	12,651
Qualitative adjustments	706		990		4,739		1,484		54		24		258		2,068		10,323
Specific allocations	9		—		—		—		—		—		—		—		9
Total	$	1,794	$	2,487	$	12,676	$	1,937	$	558	$	595	$	868	$	2,068	$	22,983

Allowance for Credit Losses on Loans Rollforward

The following table discloses activity in the allowance for credit losses on loans for the periods presented.


Allowance for Credit Losses on Loans Rollforward
(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, non-owner occupied		Construction		Home equity		Other residential		Installment and other consumer		Unallocated		Total
Three months ended March 31, 2023
Beginning balance	$	1,794	$	2,487	$	12,676	$	1,937	$	558	$	595	$	868	$	2,068	$	22,983
Provision (reversal)	147		153		25		74		(20)		(18)		25		(36)		350
(Charge-offs)	(3)		—		—		—		—		—		(11)		—		(14)
Recoveries	3		—		—		8		—		—		—		—		11
Ending balance	$	1,941	$	2,640	$	12,701	$	2,019	$	538	$	577	$	882	$	2,032	$	23,330
Three months ended March 31, 2022
Beginning balance	$	1,709	$	2,776	$	12,739	$	1,653	$	595	$	644	$	621	$	2,286	$	23,023
Provision (reversal)	72		(154)		(438)		56		(46)		(16)		22		19		(485)

(Charge-offs)	—		—		—		—		—		—		(2)		—		(2)
Recoveries	3		—		—		8		—		—		—		—		11
Ending balance	$	1,784	$	2,622	$	12,301	$	1,717	$	549	$	628	$	641	$	2,305	$	22,547

Pledged Loans

Our FHLB line of credit is secured under terms of a blanket collateral agreement by a pledge of certain qualifying loans with unpaid principal balances of $1.308 billion and $1.298 billion at March 31, 2023 and December 31, 2022, respectively. In addition, we pledge eligible TIC loans, which totaled $106.2 million and $105.0 million at March 31, 2023 and December 31, 2022, respectively, to secure our borrowing capacity with the Federal Reserve Bank ("FRB"). For additional information, see Note 6, Borrowings.

Related Party Loans

The Bank has, and expects to have in the future, banking transactions in the ordinary course of its business with directors, officers, principal shareholders and their businesses or associates. These transactions, including loans, are granted on substantially the same terms, including interest rates and collateral on loans, as those prevailing at the same time for comparable transactions with persons not related to us. Likewise, these transactions do not involve more than the normal risk of collectability or present other unfavorable features. Related party loans totaled $6.4 million at March 31, 2023 and at December 31, 2022. In addition, undisbursed commitments to related parties totaled $562 thousand at both March 31, 2023 and December 31, 2022.