Note 6 — Loans Held for Investment

The following table sets forth the composition of our loan portfolio in dollar amounts at the dates indicated:

	September 30, 2013			December 31, 2012			September 30, 2012
	(in thousands)
Business loans:
Commercial and industrial	$	173,720		$	115,354		$	88,105
Commercial owner occupied (1)	222,162			150,934			148,139
SBA	6,455			6,882			4,736
Warehouse facilities	49,104			195,761			112,053
Real estate loans:
Commercial non-owner occupied	304,979			253,409			262,046
Multi-family	218,929			156,424			173,484
One-to-four family (2)	152,667			97,463			62,771
Construction	2,835			—			308
Land	7,371			8,774			11,005
Other loans	3,793			1,193			2,191
Total gross loans (3)	1,142,015			986,194			864,838
Less loans held for sale, net	3,176			3,681			4,728
Total gross loans held for investment	1,138,839			982,513			860,110
Less:
Deferred loan origination costs (fees) and premiums (discounts), net	130			(306		)	(737		)
Allowance for loan losses	(7,994		)	(7,994		)	(7,658		)
Loans held for investment, net	$	1,130,975		$	974,213		$	851,715

(1) Majority secured by real estate.

(2) Includes second trust deeds.

(3) Total gross loans for September 30, 2013 are net of the unaccreted mark-to-market discounts on Canyon National loans of $2.3 million, on Palm Desert National loans of $3.7 million, and on SDTB loans of $230,000 and of the mark-to-market premium on FAB loans of $103,000.

From time to time, we may purchase or sell loans in order to manage concentrations, maximize interest income, change risk profiles, improve returns and generate liquidity.

The Company makes residential and commercial loans held for investment to customers located primarily in Southern California. Consequently, the underlying collateral for our loans and a borrower’s ability to repay may be impacted unfavorably by adverse changes in the economy and real estate market in the region.

Under applicable laws and regulations, the Bank may not make secured loans to one borrower in excess of 25% of unimpaired capital plus surplus and likewise in excess of 15% for unsecured loans. These loans-to-one borrower limitations result in a dollar limitation of $45.8 million for secured loans and $27.5 million for unsecured loans at September 30, 2013. At September 30, 2013, the Bank’s largest aggregate outstanding balance of loans to one borrower was $34.9 million of secured credit.

Purchased Credit Impaired

The following table provides a summary of the Company’s investment in purchased credit impaired loans, acquired from Canyon National and Palm Desert National, as of the period indicated:

	September 30, 2013
	Canyon National		Palm Desert National		Total
	(in thousands)
Business loans:
Commercial and industrial	$	79	$	174	$	253
Commercial owner occupied	942		—		942
SBA	—		—		—
Warehouse facilities	—		—		—
Real estate loans:
Commercial non-owner occupied	1,009		—		1,009
Multi-family	—		—		—
One-to-four family	—		21		21
Construction	—		—		—
Land	—		—		—
Other loans	—		—		—
Total purchase credit impaired	$	2,030	$	195	$	2,225

On the acquisition date, the amount by which the undiscounted expected cash flows of the purchased credit impaired loans exceed the estimated fair value of the loan is the “accretable yield.” The accretable yield is measured at each financial reporting date and represents the difference between the remaining undiscounted expected cash flows and the current carrying value of the purchased credit impaired loan. At September 30, 2013, the Company had $2.2 million of purchased credit impaired loans, of which $10,000 were placed on nonaccrual status.

The following table summarizes the accretable yield on the purchased credit impaired for the nine months ended September 30, 2013:

	Nine Months Ended September 30, 2013
	Canyon National			Palm Desert National			Total
	(in thousands)
Balance at the beginning of period	$	2,029		$	247		$	2,276
Accretable yield at acquisition	—			—			—
Accretion	(348		)	(49		)	(397		)
Disposals and other	(31		)	(514		)	(545		)
Change in accretable yield	157			448			605
Balance at the end of period	$	1,807		$	132		$	1,939

Impaired Loans

The following tables provide a summary of the Company’s investment in impaired loans as of the period indicated:

	Contractual				Impaired Loans				Specific
	Unpaid Principal Balance		Recorded Investment		With Specific Allowance		Without Specific Allowance		Allowance for Impaired Loans		Average Recorded Investment		Interest Income Recognized
	(in thousands)
September 30, 2013
Business loans:
Commercial and industrial	$	186	$	68	$	—	$	68	$	—	$	326	$	71
Commercial owner occupied	—		—		—		—		—		153		18
SBA	246		14		—		14		—		60		16
Real estate loans:
Commercial non-owner occupied	527		437		—		437		—		983		157
Multi-family	—		—		—		—		—		144		2
One-to-four family	701		642		282		360		104		772		154
Totals	$	1,660	$	1,161	$	282	$	879	$	104	$	2,438	$	418

	Contractual				Impaired Loans				Specific
	Unpaid Principal Balance		Recorded Investment		With Specific Allowance		Without Specific Allowance		Allowance for Impaired Loans		Average Recorded Investment		Interest Income Recognized
	(in thousands)
December 31, 2012
Business loans:
Commercial and industrial	$	707	$	593	$	287	$	306	$	270	$	203	$	29
Commercial owner occupied	—		—		—		—		—		444		—
SBA	810		259		—		259		—		468		21
Real estate loans:
Commercial non-owner occupied	746		670		—		670		—		1,031		59
Multi-family	315		266		—		266		—		1,123		22
One-to-four family	960		948		541		407		395		720		59
Totals	$	3,538	$	2,736	$	828	$	1,908	$	665	$	3,989	$	190

	Contractual				Impaired Loans				Specific
	Unpaid Principal Balance		Recorded Investment		With Specific Allowance		Without Specific Allowance		Allowance for Impaired Loans		Average Recorded Investment		Interest Income Recognized
	(in thousands)
September 30, 2012
Business loans:
Commercial and industrial	$	59	$	60	$	60	$	—	$	36	$	140	$	3
Commercial owner occupied	—		—		—		—		—		592		—
SBA	1,368		309		—		309		—		518		37
Real estate loans:
Commercial non-owner occupied	507		460		—		460		—		1,257		15
Multi-family	1,437		1,394		—		1,394		—		1,408		67
One-to-four family	657		643		299		344		153		656		31
Totals	$	4,028	$	2,866	$	359	$	2,507	$	189	$	4,571	$	153

The Company considers a loan to be impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement or it is determined that the likelihood of the Company receiving all scheduled payments, including interest, when due is remote. The Company has no commitments to lend additional funds to debtors whose loans have been impaired.

The Company reviews loans for impairment when the loan is classified as substandard or worse, delinquent 90 days, or determined by management to be collateral dependent, or when the borrower files bankruptcy or is granted a troubled debt restructurings (“TDRs”). Measurement of impairment is based on the loan’s expected future cash flows discounted at the loan’s effective interest rate, measured by reference to an observable market value, if one exists, or the fair value of the collateral if the loan is deemed collateral dependent. All loans are generally charged-off at such time the loan is classified as a loss. Valuation allowances are determined on a loan-by-loan basis or by aggregating loans with similar risk characteristics.

The following table provides additional detail on the components of impaired loans at the period end indicated:

	September 30, 2013		December 31, 2012		September 30, 2012
	(in thousands)
Nonaccruing loans	$	972	$	1,988	$	1,439
Accruing loans	189		748		1,427
Total impaired loans	$	1,161	$	2,736	$	2,866

When loans are placed on nonaccrual status all accrued interest is reversed from earnings. Payments received on nonaccrual loans are generally applied as a reduction to the loan principal balance. If the likelihood of further loss is remote, the Company will recognize interest on a cash basis only. Loans may be returned to accruing status if the Company believes that all remaining principal and interest is fully collectible and there has been at least three months of sustained repayment performance since the loan was placed on nonaccrual.

The Company does not accrue interest on loans 90 days or more past due or when, in the opinion of management, there is reasonable doubt as to the collection of interest. The Company had impaired loans on nonaccrual status of $972,000 at September 30, 2013, $2.0 million at December 31, 2012, and $1.4 million at September 30, 2012. The Company had no loans 90 days or more past due and still accruing at September 30, 2013, December 31, 2012 or September 30, 2012.

The Company had an immaterial amount of TDRs related to two U.S. Small Business Administration (“SBA”) loans which were all completed prior to 2011.

Concentration of Credit Risk

As of September 30, 2013, the Company’s loan portfolio was collateralized by various forms of real estate and business assets located principally in Southern California. The Company’s loan portfolio contains concentrations of credit in multi-family real estate, commercial non-owner occupied real estate and commercial owner occupied business loans. The Bank maintains policies approved by the Bank’s Board of Directors (the “Bank Board”) that address these concentrations and continues to diversify its loan portfolio through loan originations, purchases and sales to meet approved concentration levels. While management believes that the collateral presently securing these loans is adequate, there can be no assurances that further significant deterioration in the California real estate market and economy would not expose the Company to significantly greater credit risk.

Credit Quality and Credit Risk Management

The Company’s credit quality is maintained and credit risk managed in two distinct areas. The first is the loan origination process, wherein the Bank underwrites credit quality and chooses which risks it is willing to accept. The second is in the ongoing oversight of the loan portfolio, where existing credit risk is measured and monitored, and where performance issues are dealt with in a timely and comprehensive fashion.

The Company maintains a comprehensive credit policy which sets forth minimum and maximum tolerances for key elements of loan risk. The policy identifies and sets forth specific guidelines for analyzing each of the loan products the Company offers from both an individual and portfolio wide basis. The credit policy is reviewed annually by the Bank Board. The Bank’s seasoned underwriters ensure all key risk factors are analyzed with nearly all underwriting including a comprehensive global cash flow analysis of the prospective borrowers. The credit approval process mandates multiple-signature approval by the management credit committee for every loan that requires any subjective credit analysis.

Credit risk is managed within the loan portfolio by the Company’s Portfolio Management department based on a comprehensive credit and investment review policy. This policy requires a program of financial data collection and analysis, comprehensive loan reviews, property and/or business inspections and monitoring of portfolio concentrations and trends. The Portfolio Management department also monitors asset-based lines of credit, loan covenants and other conditions associated with the Company’s business loans as a means to help identify potential credit risk. Individual loans, excluding the homogeneous loan portfolio, are reviewed at least biennially, and in most cases more often, including the assignment of a risk grade.

Risk grades are based on a six-grade Pass scale, along with Special Mention, Substandard, Doubtful and Loss classifications as such classifications are defined by the regulatory agencies. The assignment of risk grades allows the Company to, among other things, identify the risk associated with each credit in the portfolio, and to provide a basis for estimating credit losses inherent in the portfolio. Risk grades are reviewed regularly by the Company’s Credit and Investment Review committee, and are reviewed annually by an independent third-party, as well as by regulatory agencies during scheduled examinations.

The following provides brief definitions for risk grades assigned to loans in the portfolio:

· Pass classifications represent assets with a level of credit quality which contain no well-defined deficiency or weakness.

· Special Mention assets do not currently expose the Bank to a sufficient risk to warrant classification in one of the adverse categories, but possess correctable deficiency or potential weaknesses deserving management’s close attention.

· Substandard assets are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. These assets are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected. OREO acquired from foreclosure is also classified as substandard.

· Doubtful credits have all the weaknesses inherent in substandard credits, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

· Loss assets are those that are considered uncollectible and of such little value that their continuance as assets is not warranted. Amounts classified as loss are promptly charged off.

The Portfolio Management department also manages loan performance risks, collections, workouts, bankruptcies and foreclosures. Loan performance risks are mitigated by our portfolio managers acting promptly and assertively to address problem credits when they are identified. Collection efforts are commenced immediately upon non-payment, and the portfolio managers seek to promptly determine the appropriate steps to minimize the Company’s risk of loss. When foreclosure will maximize the Company’s recovery for a non-performing loan, the portfolio managers will take appropriate action to initiate the foreclosure process.

When a loan is graded as special mention or substandard or doubtful, the Company obtains an updated valuation of the underlying collateral. If the credit in question is also identified as impaired, a valuation allowance, if necessary, is established against such loan or a loss is recognized by a charge to the allowance for loan losses (“ALLL”) if management believes that the full amount of the Company’s recorded investment in the loan is no longer collectable. The Company typically continues to obtain updated valuations of underlying collateral for special mention and classified loans on an annual basis in order to have the most current indication of fair value. Once a loan is identified as impaired, an analysis of the underlying collateral is performed at least quarterly, and corresponding changes in any related valuation allowance are made or balances deemed to be fully uncollectable are charged-off.

The following tables stratify the loan portfolio by the Company’s internal risk grading system as well as certain other information concerning the credit quality of the loan portfolio as of the periods indicated:

	Credit Risk Grades
			Special				Total Gross
	Pass		Mention		Substandard		Loans
	(in thousands)
September 30, 2013
Business loans:
Commercial and industrial	$	170,840	$	68	$	2,812	$	173,720
Commercial owner occupied	207,519		2,632		12,011		222,162
SBA	6,455		—		—		6,455
Warehouse facilities	49,104		—		—		49,104
Real estate loans:
Commercial non-owner occupied	299,940		355		4,684		304,979
Multi-family	217,897		513		519		218,929
One-to-four family	151,564		—		1,103		152,667
Construction	2,835		—		—		2,835
Land	7,371		—		—		7,371
Other loans	3,787		—		6		3,793
Totals	$	1,117,312	$	3,568	$	21,135	$	1,142,015

	Credit Risk Grades
			Special				Total Gross
	Pass		Mention		Substandard		Loans
	(in thousands)
December 31, 2012
Business loans:
Commercial and industrial	$	111,895	$	92	$	3,367	$	115,354
Commercial owner occupied	136,330		2,674		11,930		150,934
SBA	6,819		—		63		6,882
Warehouse facilities	195,761		—		—		195,761
Real estate loans:
Commercial non-owner occupied	240,585		687		12,137		253,409
Multi-family	143,003		11,583		1,838		156,424
One-to-four family	96,061		—		1,402		97,463
Land	8,762		—		12		8,774
Other loans	1,177		—		16		1,193
Totals	$	940,393	$	15,036	$	30,765	$	986,194

	Credit Risk Grades
			Special				Total Gross
	Pass		Mention		Substandard		Loans
	(in thousands)
September 30, 2012
Business loans:
Commercial and industrial	$	86,000	$	847	$	1,258	$	88,105
Commercial owner occupied	137,289		3,334		7,516		148,139
SBA	4,455		—		281		4,736
Warehouse facilities	112,053		—		—		112,053
Real estate loans:
Commercial non-owner occupied	252,216		663		9,167		262,046
Multi-family	170,365		—		3,119		173,484
One-to-four family	61,378		—		1,393		62,771
Construction	308		—		—		308
Land	9,009		—		1,996		11,005
Other loans	2,174		—		17		2,191
Totals	$	835,247	$	4,844	$	24,747	$	864,838

The following tables set forth delinquencies in the Company’s loan portfolio at the dates indicated:

			Days Past Due								Non-
	Current		30-59		60-89		90+		Total		Accruing
	(in thousands)
September 30, 2013
Business loans:
Commercial and industrial	$	173,478	$	163	$	79	$	—	$	173,720	$	78
Commercial owner occupied	222,162		—		—		—		222,162		—
SBA	6,312		—		129		14		6,455		142
Warehouse facilities	49,104		—		—		—		49,104		—
Real estate loans:
Commercial non-owner occupied	304,420		559		—		—		304,979		437
Multi-family	218,929		—		—		—		218,929		—
One-to-four family	152,570		—		—		97		152,667		496
Construction	2,835		—		—		—		2,835		—
Land	7,371		—		—		—		7,371		—
Other loans	3,785		2		6		—		3,793		—
Totals	$	1,140,966	$	724	$	214	$	111	$	1,142,015	$	1,153

			Days Past Due								Non-
	Current		30-59		60-89		90+		Total		Accruing
	(in thousands)
December 31, 2012
Business loans:
Commercial and industrial	$	115,078	$	—	$	58	$	218	$	115,354	$	347
Commercial owner occupied	150,689		—		245		—		150,934		14
SBA	6,697		—		—		185		6,882		260
Warehouse facilities	195,761		—		—		—		195,761		—
Real estate loans:
Commercial non-owner occupied	253,409		—		—		—		253,409		670
Multi-family	156,424		—		—		—		156,424		266
One-to-four family	97,283		101		—		79		97,463		522
Land	8,774		—		—		—		8,774		127
Other loans	1,188		5		—		—		1,193		—
Totals	$	985,303	$	106	$	303	$	482	$	986,194	$	2,206

			Days Past Due								Non-
	Current		30-59		60-89		90+		Total		Accruing
	(in thousands)
September 30, 2012
Business loans:
Commercial and industrial	$	87,984	$	—	$	121	$	—	$	88,105	$	—
Commercial owner occupied	147,812		327		—		—		148,139		218
SBA	4,551		—		—		185		4,736		266
Warehouse facilities	112,053		—		—		—		112,053		—
Real estate loans:
Commercial non-owner occupied	256,489		1,708		—		3,849		262,046		4,528
Multi-family	173,484		—		—		—		173,484		273
One-to-four family	62,307		301		43		120		62,771		578
Construction	308		—		—		—		308		—
Land	10,776		229		—		—		11,005		417
Other loans	2,191		—		—		—		2,191		—
Totals	$	857,955	$	2,565	$	164	$	4,154	$	864,838	$	6,280