Commitments, Credit Risk, and Contingencies

12 Months Ended

Dec. 31, 2022

Commitments, Credit Risk, and Contingencies

Commitments, Credit Risk, and Contingencies

Note 25: Commitments, Credit Risk, and Contingencies

Financial Instruments

Merchants offers certain financial instruments, including commitments with contracts that contain credit risk to the Company and others that are subject to certain performance criteria by the client and or cancellation by the Company. Such commitments were as follows at December 31, 2022 and 2021:

	December 31,
	2022		2021
	(In thousands)
Commitments subject to credit risk:
Commitments to extend credit	$	3,293,847	$	2,194,144
Standby letters of credit		108,312		105,894
Warehouse unfunded lines of warehouse credit		146,932		98,234
Total commitments subject to credit risk	$	3,549,091	$	2,398,272
Commitments subject to certain performance criteria and cancellation:
Outstanding commitments to originate loans	$	1,042,497	$	1,595,265
Unfunded construction draws		247,504		274,269
Unfunded warehouse and other lines of credit		3,183,257		2,323,686
Total commitments subject to certain performance criteria and cancellation	$	4,473,258	$	4,193,220

Included in the chart above are the following commitments that are subject to credit risk:

Commitments to extend credit. These 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 Company evaluates each customer’s credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management’s credit evaluation. Collateral held varies but may include accounts receivable, inventory, property and equipment, and income-producing commercial properties.

Standby letters of credit. These instruments are irrevocable, conditional commitments issued by the Company or by another party on behalf of the Company, for a fee, to guarantee the performance of a customer to a third party and they generally have fixed expiration dates or other termination clauses. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan commitments to customers. The Company’s policy for obtaining collateral and/or guarantees and the nature thereof is generally the same as that involved extending commitments to its customers. The Company has not been required to fund nor has it incurred any losses on any standby letter of credit commitment during the years ended December 31, 2022, 2021 or 2020.

Included in the chart above are the following commitments that are subject to certain performance criteria and can be denied by the Company:

Outstanding commitments to originate loans. The Company has entered into lending commitments with customers who have applied for loans that are awaiting closing. The customers must meet certain credit and underwriting criteria before the Company is required to fund the loans. Closing and funding of the majority of these loans is contingent upon various performance criteria by the potential borrower and the commitment may be rescinded by the Company. The Company may also enter into a corresponding sales commitment if it is the Company’s intent to close the loan and to sell the loan after closing.

Unfunded construction draws. Through the Multi-family Mortgage Banking segment, the Company has made commitments to fund certain FHA insured construction loans that are drawn upon throughout the construction period. These commitments are subject to certain performance criteria and inspections throughout the project, and funding can be denied by the Company. As construction draws are disbursed, the amounts are securitized and sold to Ginnie Mae, and the Company continues to service the loans.

Unfunded warehouse and other lines of credit. Through the Mortgage Warehousing segment, the Company has line of credit agreements with its non-depository financial institution customers engaged in mortgage lending. Funds drawn on the warehouse lines of credit are used by the borrowers to fund the loans they originate. The customers’ loans must meet certain credit and underwriting criteria before the Company will fund the draw requests on the lines of credit, and the draw requests can be denied by the Company. The majority of the warehouse lines of credit are unconditionally cancellable by the Company.

Allowance for credit losses – off-balance sheet credit exposures (ACL-OBCE). The ACL-OBCE is a liability account representing expected credit losses over the contractual period for which the Company is exposed to credit risk resulting from contractual obligations to extend credit such as those included in the categories above. No allowance is recognized if there is an unconditional right to cancel the obligation. The amount of the allowance represents management’s best estimate of expected credit losses on unfunded commitments expected to be funded over the contractual life of the commitment. The ACL-OBCE is adjusted through the income statement as a component of provision for credit loss. The Company adopted CECL on January 1, 2022 and the impact at adoption is described in Note 1: Nature of Operations and Significant Accounting Policies. As of December 31, 2022, the ACL-OBCE had a reserve balance of $7.8 million. This reserve is accounted for in other liabilities on the balance sheet.

Risk-Sharing Arrangements

As a Fannie Mae multifamily lender, Merchants assumes a limited portion of the risk of loss during the remaining term on each commercial mortgage loan that is sold to Fannie Mae. Under this loss sharing agreement, Merchants bears a risk of up to one-third of incurred losses resulting from borrower defaults. Accordingly, Merchants maintained a reserve liability for this risk-sharing obligation of $0.5 million at December 31, 2022 and $1.4 million at December 31, 2021. There have been no loans in default during the years ended December 31, 2022, 2021 or 2020.

Repurchase Obligations

Certain single-family loans sold to Fannie Mae or Freddie Mac may require the Company to repurchase loans if it is determined that the Company did not adhere to underwriting guidelines required by these government-sponsored entities. There was a reserve for potential obligations in other liabilities on the balance sheet for $0.9 million and $0.8 million at December 2022 and 2021, respectively.

Indemnification Agreements

As part of a Freddie Mac Q-Series Securitization transaction occurring in 2022, the Company established reserve liabilities in other liabilities on the balance sheet related to an indemnification agreement for potential loan losses. The Company established a reserve for contingent financial guarantees, which had a balance of $1.2 million as of December 31, 2022. The Company also established a non-contingent stand-by reserve, which had a balance of $2.5 million as of December 31, 2022. See Note 5: Loans and Allowance for Credit Losses on Loans for additional information on this transaction.

Unconditional Investment Obligations

The Company is contractually obligated to provide additional capital funding to certain investments in low-income housing tax credit limited partnerships.. There was an unfunded liability for these investments of $36.8 million and $24.4 million at December 31, 2022 and 2021, respectively. Additionally, the Company had an unfunded liability to invest in debt fund joint ventures for $5.2 million and $10.3 million at December 31, 2022 and 2021, respectively. Both liability accounts are recorded in other liabilities on balance sheet. See Note 11: Other Assets and Receivables for additional information on these investments and joint ventures.

Other

The Company and its subsidiaries can be parties to various claims and proceedings arising in the normal course of business. Management, after consultation with legal counsel, believes that the liabilities, if any, arising from such proceedings and claims will not be material to the Company’s consolidated financial position or results of operations.