Note 5. Loans

The following table sets forth the composition of the loan portfolio at September 30, 2014 and December 31, 2013:

	September 30, 2014						December 31, 2013
				Percent of						Percent of
				Non-Covered						Non-Covered
				Loans Held for						Loans Held for
(dollars in thousands)	Amount			Investment			Amount			Investment
Non-Covered Loans Held for Investment:
Mortgage Loans:
Multi-family	$	22,862,495			70.93	%	$	20,699,927			69.41	%
Commercial real estate		7,660,776			23.78			7,364,231			24.70
One-to-four family		404,750			1.26			560,730			1.88
Acquisition, development, and construction		310,585			0.96			344,100			1.15
Total mortgage loans held for investment		31,238,606			96.92	%		28,968,988			97.14	%
Other Loans:
Commercial and industrial		824,186			2.56			712,260			2.39
Lease financing, net of unearned income of $7,771 and $5,723		135,833			0.42			101,431			0.34
Total commercial and industrial loans		960,019			2.98			813,691			2.73
Other		33,956			0.11			39,036			0.13
Total other loans held for investment		993,975			3.08			852,727			2.86
Total non-covered loans held for investment	$	32,232,581			100.00	%	$	29,821,715			100.00	%
Net deferred loan origination costs		19,428						16,274
Allowance for losses on non-covered loans		(139,744	)					(141,946	)
Non-covered loans held for investment, net	$	32,112,265					$	29,696,043
Covered loans		2,504,622						2,788,618
Allowance for losses on covered loans		(45,682	)					(64,069	)
Total covered loans, net	$	2,458,940					$	2,724,549
Loans held for sale		680,147						306,915
Total loans, net	$	35,251,352					$	32,727,507

Non-Covered Loans

Non-Covered Loans Held for Investment

The vast majority of the loans the Company originates for investment are multi-family loans, most of which are collateralized by non-luxury apartment buildings in New York City that are rent-regulated and feature below-market rents. In addition, the Company originates commercial real estate (“CRE”) loans, most of which are collateralized by properties located in New York City and Long Island.

The Company also originates one-to-four family loans; acquisition, development, and construction (“ADC”) loans; and commercial and industrial (“C&I”) loans for investment. ADC loans are primarily originated for multi-family and residential tract projects in New York City and on Long Island, while one-to-four family loans are originated both within and beyond the markets served by its branch offices. C&I loans consist of asset-based loans, equipment loans and leases, and dealer floor plan loans (together, “specialty finance loans and leases”) that are made to nationally recognized borrowers throughout the U.S. and are senior debt-secured; and other C&I loans, both secured and unsecured, that primarily are made to small and mid-size businesses in Metro New York. Such C&I loans are typically made for working capital, business expansion, and the purchase of machinery and equipment.

Payments on multi-family and CRE loans generally depend on the income produced by the underlying properties which, in turn, depends on their successful operation and management. Accordingly, the ability of the Company’s borrowers to repay these loans may be impacted by adverse conditions in the local real estate market and the local economy. While the Company generally requires that such loans be qualified on the basis of the collateral property’s current cash flows, appraised value, and debt service coverage ratio, among other factors, there can be no assurance that its underwriting policies will protect the Company from credit-related losses or delinquencies.

The one-to-four family loans that are held for investment consist primarily of hybrid loans (both jumbo and agency-conforming) that have been made at conservative loan-to-value ratios to borrowers with a documented history of repaying their debts.

ADC loans typically involve a higher degree of credit risk than loans secured by improved or owner-occupied real estate. Accordingly, borrowers are required to provide a guarantee of repayment and completion, and loan proceeds are disbursed as construction progresses, as certified by in-house or third-party engineers. The risk of loss on an ADC loan is largely dependent upon the accuracy of the initial appraisal of the property’s value upon completion of construction or development; the estimated cost of construction, including interest; and the estimated time to complete and/or sell or lease such property. The Company seeks to minimize these risks by maintaining conservative lending policies and rigorous underwriting standards. However, if the estimate of value proves to be inaccurate, the cost of completion is greater than expected, the length of time to complete and/or sell or lease the collateral property is greater than anticipated, or if there is a downturn in the local economy or real estate market, the property could have a value upon completion that is insufficient to assure full repayment of the loan. This could have a material adverse effect on the quality of the ADC loan portfolio, and could result in losses or delinquencies.

To minimize the risk involved in specialty finance lending and leasing, the Company primarily participates in broadly syndicated asset-based loans, equipment loan and lease financing, and dealer floor plan loans that are presented by those who are on an approved list of select, nationally recognized sources with whom its lending officers have established long-term funding relationships. The loans and leases, which are secured by a perfected first security interest in the underlying collateral and structured as senior debt, are made to large corporate obligors, the majority of which are publicly traded, carry investment grade or near-investment grade ratings, participate in stable industries, and are located nationwide. To further minimize the risk involved in specialty finance lending and leasing, the Company re-underwrites each transaction; in addition, it retains outside counsel to conduct a further review of the underlying documentation.

To minimize the risks involved in other C&I lending, the Company underwrites such loans on the basis of the cash flows produced by the business; requires that such loans be collateralized by various business assets, including inventory, equipment, and accounts receivable, among others; and requires personal guarantees. However, the capacity of a borrower to repay such a C&I loan is substantially dependent on the degree to which his or her business is successful. In addition, the collateral underlying such loans may depreciate over time, may not be conducive to appraisal, or may fluctuate in value, based upon the results of operations of the business.

Included in non-covered loans held for investment at September 30, 2014 and December 31, 2013 were loans to non-officer directors of $130.1 million and $149.4 million, respectively.

Loans Held for Sale

The Community Bank’s mortgage banking operation was established in January 2010 to originate, aggregate, and service one-to-four family loans. Community banks, credit unions, mortgage companies, and mortgage brokers use its proprietary web-accessible mortgage banking platform to originate and close one-to-four family loans throughout the U.S. These loans are generally sold, servicing retained, to GSEs. To a much lesser extent, the Community Bank uses its mortgage banking platform to originate fixed-rate jumbo loans under contract for sale to other financial institutions. The volume of jumbo loan originations has been insignificant to date, and the Company does not expect such loans to represent a material portion of the held-for-sale loans it originates. Included in the September 30, 2014 held for sale balance were $398.7 million of one-to-four family and commercial and industrial loans that transferred from loans held for investment during the quarter. The Company also services mortgage loans for various third parties, primarily including those it sells to GSEs. The unpaid principal balance of loans serviced for others was $22.1 billion at September 30, 2014 and $21.5 billion at December 31, 2013.

Asset Quality

The following table presents information regarding the quality of the Company’s non-covered loans held for investment at September 30, 2014:

					Loans 90 Days or More Delinquent
	Loans		Non-		and Still		Total
	30-89 Days		Accrual		Accruing		Past Due		Current		Total Loans
(in thousands)	Past Due		Loans		Interest		Loans		Loans		Receivable
Multi-family	$	2,516	$	29,942	$	--	$	32,458	$	22,830,037	$	22,862,495
Commercial real estate		164		28,586		--		28,750		7,632,026		7,660,776
One-to-four family		2,451		10,575		--		13,026		391,724		404,750
Acquisition, development, and construction		--		2,328		--		2,328		308,257		310,585
Commercial and industrial ⁽¹⁾		--		8,439		--		8,439		951,580		960,019
Other		1,274		1,149		--		2,423		31,533		33,956
Total	$	6,405	$	81,019	$	--	$	87,424	$	32,145,157	$	32,232,581

(1)	Includes lease financing receivables, all of which were current at September 30, 2014.

The following table presents information regarding the quality of the Company’s non-covered loans held for investment at December 31, 2013:

					Loans 90 Days or More Delinquent
	Loans		Non-		and Still		Total
	30-89 Days		Accrual		Accruing		Past Due		Current		Total Loans
(in thousands)	Past Due		Loans		Interest		Loans		Loans		Receivable
Multi-family	$	33,678	$	58,395	$	--	$	92,073	$	20,607,854	$	20,699,927
Commercial real estate		1,854		24,550		--		26,404		7,337,827		7,364,231
One-to-four family		1,076		10,937		--		12,013		548,717		560,730
Acquisition, development, and construction		--		2,571		--		2,571		341,529		344,100
Commercial and industrial ⁽¹⁾		1		5,735		--		5,736		807,955		813,691
Other		480		1,349		--		1,829		37,207		39,036
Total	$	37,089	$	103,537	$	--	$	140,626	$	29,681,089	$	29,821,715

(1)	Includes lease financing receivables, all of which were current at December 31, 2013.

The following table summarizes the Company’s portfolio of non-covered loans held for investment by credit quality indicator at September 30, 2014:

							Acquisition,		Total						Total
			Commercial		One-to-Four		Development,		Mortgage		Commercial				Other Loan
(in thousands)	Multi-Family		Real Estate		Family		and Construction		Loans		and Industrial⁽¹⁾		Other		Segment
Credit Quality Indicator:
Pass	$	22,799,073	$	7,611,591	$	398,617	$	307,918	$	31,117,199	$	910,114	$	32,808	$	942,922
Special mention		27,104		13,636		--		--		40,740		40,957		--		40,957
Substandard		36,318		35,549		6,133		2,667		80,667		8,948		1,148		10,096
Doubtful		--		--		--		--		--		--		--		--
Total	$	22,862,495	$	7,660,776	$	404,750	$	310,585	$	31,238,606	$	960,019	$	33,956	$	993,975

(1)	Includes lease financing receivables, all of which were classified as “pass.”

The following table summarizes the Company’s portfolio of non-covered loans held for investment by credit quality indicator at December 31, 2013:

							Acquisition,		Total						Total
			Commercial		One-to-Four		Development,		Mortgage		Commercial				Other Loan
(in thousands)	Multi-Family		Real Estate		Family		and Construction		Loans		and Industrial⁽¹⁾		Other		Segment
Credit Quality Indicator:
Pass	$	20,527,460	$	7,304,502	$	554,132	$	333,805	$	28,719,899	$	793,693	$	37,688	$	831,381
Special mention		73,549		25,407		--		7,400		106,356		13,036		--		13,036
Substandard		98,918		33,822		6,598		2,895		142,233		6,808		1,348		8,156
Doubtful		--		500		--		--		500		154		--		154
Total	$	20,699,927	$	7,364,231	$	560,730	$	344,100	$	28,968,988	$	813,691	$	39,036	$	852,727

(1)	Includes lease financing receivables, all of which were classified as “pass.”

The preceding classifications follow regulatory guidelines and can be generally described as follows: pass loans are of satisfactory quality; special mention loans have a potential weakness or risk that may result in the deterioration of future repayment; substandard loans are inadequately protected by the current net worth and paying capacity of the borrower or of the collateral pledged (these loans have a well-defined weakness and there is a distinct possibility that the Company will sustain some loss); and doubtful loans, based on existing circumstances, have weaknesses that make collection or liquidation in full highly questionable and improbable. In addition, one-to-four family loans are classified utilizing an inter-regulatory agency methodology that incorporates the extent of delinquency and the loan-to-value ratios. These classifications are the most current available and generally have been updated within the last twelve months.

Troubled Debt Restructurings

The Company is required to account for certain held-for-investment loan modifications or restructurings as “Troubled Debt Restructurings” (“TDRs”). In general, a modification or restructuring of a loan constitutes a TDR if the Company grants a concession to a borrower experiencing financial difficulty. Loans modified as TDRs generally are placed on non-accrual status until the Company determines that future collection of principal and interest is reasonably assured, which requires that the borrower demonstrate performance according to the restructured terms for a period of at least six consecutive months.

In an effort to proactively manage delinquent loans, the Company has selectively extended to certain borrowers concessions such as rate reductions, extension of maturity dates, and forbearance agreements. As of September 30, 2014, loans on which concessions were made with respect to rate reductions and/or extension of maturity dates amounted to $37.0 million; loans on which forbearance agreements were reached amounted to $6.0 million.

The following table presents information regarding the Company’s TDRs as of September 30, 2014 and December 31, 2013:

	September 30, 2014						December 31, 2013
(in thousands)	Accruing		Non-Accrual		Total		Accruing		Non-Accrual		Total
Loan Category:
Multi-family	$	9,962	$	12,642	$	22,604	$	10,083	$	50,548	$	60,631
Commercial real estate		2,137		16,158		18,295		2,198		15,626		17,824
One-to-four family		--		--		--		--		--		--
Acquisition, development, and construction		--		935		935		--		--		--
Commercial and industrial		--		1,203		1,203		1,129		758		1,887
Total	$	12,099	$	30,938	$	43,037	$	13,410	$	66,932	$	80,342

The eligibility of a borrower for work-out concessions of any nature depends upon the facts and circumstances of each transaction, which may change from period to period, and involves judgment by Company personnel regarding the likelihood that the concession will result in the maximum recovery for the Company.

In the nine months ended September 30, 2014, the Company classified one ADC loan in the amount of $935,000, one C&I loan in the amount of $499,000, one multi-family loan in the amount of $316,000, and one CRE loan in the amount of $2.1 million, as non-accrual TDRs. While other concessions were granted to the borrowers, the interest rates on the loans were maintained. As a result, these TDRs did not have a financial impact on the Company’s results of operations during the current nine-month period, with the exception of a $334,000 charge-off recorded in connection with aforementioned $2.1 million CRE loan.

At September 30, 2014, none of the loans that had been modified as TDRs during the twelve months ended at that date were in payment default. A loan is considered to be in payment default once it is 30 days contractually past due under the modified terms.

The Company does not consider a payment to be in default when the loan is in forbearance, or otherwise granted a delay of payment, when the agreement to forebear or allow a delay of payment is part of a modification. Subsequent to the modification, the loan is not considered to be in default until payment is contractually past due in accordance with the modified terms. However, the Company does consider a loan with multiple modifications or forbearance periods to be in default, and would also consider a loan to be in default if it was in bankruptcy or was partially charged off subsequent to modification.

Covered Loans

The following table presents the carrying value of covered loans acquired in the AmTrust and Desert Hills acquisitions as of September 30, 2014:

			Percent of
(dollars in thousands)	Amount		Covered Loans
Loan Category:
One-to-four family	$	2,282,064		91.1	%
All other loans		222,558		8.9
Total covered loans	$	2,504,622		100.0	%

The Company refers to the loans acquired in the AmTrust and Desert Hills transactions as “covered loans” because the Company is being reimbursed for a substantial portion of losses on these loans under the terms of the FDIC loss sharing agreements. Covered loans are accounted for under Accounting Standards Codification (“ASC”) Topic 310-30, “Loans and Debt Securities Acquired with Deteriorated Credit Quality” (“ASC 310-30”) and are initially measured at fair value, which includes estimated future credit losses expected to be incurred over the lives of the loans. Under ASC 310-30, purchasers are permitted to aggregate acquired loans into one or more pools, provided that the loans have common risk characteristics. A pool is then accounted for as a single asset with a single composite interest rate and an aggregate expectation of cash flows.

At September 30, 2014 and December 31, 2013, the unpaid principal balances of covered loans were $3.0 billion and $3.3 billion, respectively. The carrying values of such loans were $2.5 billion and $2.8 billion, respectively, at the corresponding dates.

At the respective acquisition dates, the Company estimated the fair values of the AmTrust and Desert Hills loan portfolios, which represented the expected cash flows from the portfolios, discounted at market-based rates. In estimating such fair values, the Company: (a) calculated the contractual amount and timing of undiscounted principal and interest payments (the “undiscounted contractual cash flows”); and (b) estimated the expected amount and timing of undiscounted principal and interest payments (the “undiscounted expected cash flows”). The amount by which the undiscounted expected cash flows exceed the estimated fair value (the “accretable yield”) is accreted into interest income over the lives of the loans. The amount by which the undiscounted contractual cash flows exceed the undiscounted expected cash flows is referred to as the “non-accretable difference.” The non-accretable difference represents an estimate of the credit risk in the loan portfolios at the respective acquisition dates.

The accretable yield is affected by changes in interest rate indices for variable rate loans, changes in prepayment assumptions, and changes in expected principal and interest payments over the estimated lives of the loans. Changes in interest rate indices for variable rate loans increase or decrease the amount of interest income expected to be collected, depending on the direction of interest rates. Prepayments affect the estimated lives of covered loans and could change the amount of interest income and principal expected to be collected. Changes in expected principal and interest payments over the estimated lives of covered loans are driven by the credit outlook and by actions that may be taken with borrowers.

The Company periodically evaluates the estimates of the cash flows it expects to collect. Expected future cash flows from interest payments are based on variable rates at the time of the periodic evaluation. Estimates of expected cash flows that are impacted by changes in interest rate indices for variable rate loans and prepayment assumptions are treated as prospective yield adjustments and included in interest income.

Changes in the accretable yield for covered loans in the nine months ended September 30, 2014 were as follows:

(in thousands)	Accretable Yield
Balance at beginning of period	$	796,993
Reclassification from non-accretable difference		302,617
Accretion		(104,195	)
Balance at end of period	$	995,415

In the preceding table, the line item “reclassification from non-accretable difference” includes changes in cash flows that the Company expects to collect due to changes in prepayment assumptions, changes in interest rates on variable rate loans, and changes in loss assumptions. As of the Company’s most recent periodic evaluation, the underlying credit assumptions improved which resulted in an increase in future expected interest cash flows and, consequently, an increase in the accretable yield. The effect of this increase was partially offset by the coupon rates on variable rate loans resetting lower, which resulted in a decrease in future expected interest cash flows and, consequently, a decrease in the accretable yield.

In connection with the AmTrust and Desert Hills acquisitions, the Company also acquired other real estate owned (“OREO”), all of which is covered under the FDIC loss sharing agreements. Covered OREO was initially recorded at its estimated fair value on the acquisition date, based on independent appraisals, less the estimated selling costs. Any subsequent write-downs due to declines in fair value have been charged to non-interest expense, and have been partially offset by loss reimbursements under the FDIC loss sharing agreements. Any recoveries of previous write-downs have been credited to non-interest expense and partially offset by the portion of the recovery that was due to the FDIC.

The FDIC loss share receivable represents the present value of the estimated losses to be reimbursed by the FDIC. The estimated losses were based on the same cash flow estimates used in determining the fair value of the covered loans. The FDIC loss share receivable is reduced as losses on covered loans are recognized and as loss sharing payments are received from the FDIC. Realized losses in excess of acquisition-date estimates result in an increase in the FDIC loss share receivable. Conversely, if realized losses are lower than the acquisition-date estimates, the FDIC loss share receivable is reduced by amortization to interest income.

The following table presents information regarding the Company’s covered loans that were 90 days or more past due at September 30, 2014 and December 31, 2013:

(in thousands)	September 30, 2014		December 31, 2013
Covered Loans 90 Days or More Past Due:
One-to-four family	$	144,881	$	201,425
Other loans		7,900		10,060
Total covered loans 90 days or more past due	$	152,781	$	211,485

The following table presents information regarding the Company’s covered loans that were 30 to 89 days past due at September 30, 2014 and December 31, 2013:

(in thousands)	September 30, 2014		December 31, 2013
Covered Loans 30-89 Days Past Due:
One-to-four family	$	45,045	$	52,250
Other loans		3,931		5,679
Total covered loans 30-89 days past due	$	48,976	$	57,929

At September 30, 2014, the Company had $49.0 million of covered loans that were 30 to 89 days past due, and covered loans of $152.8 million that were 90 days or more past due but considered to be performing due to the application of the yield accretion method under ASC 310-30. The remaining portion of the Company’s covered loan portfolio totaled $2.3 billion at September 30, 2014 and was considered current at that date. ASC 310-30 allows the Company to aggregate credit-impaired loans acquired in the same fiscal quarter into one or more pools, provided that the loans have common risk characteristics. A pool is then accounted for as a single asset with a single composite interest rate and an aggregate expectation of cash flows.

Loans that may have been classified as non-performing loans by AmTrust or Desert Hills were no longer classified as non-performing by the Company because, at the respective dates of acquisition, the Company believed that it would fully collect the new carrying value of these loans. The new carrying value represents the contractual balance, reduced by the portion that is expected to be uncollectible (i.e., the non-accretable difference) and by an accretable yield (discount) that is recognized as interest income. It is important to note that management’s judgment is required in reclassifying loans subject to ASC 310-30 as performing loans, and such judgment is dependent on having a reasonable expectation about the timing and amount of the cash flows to be collected, even if the loan is contractually past due.

The primary credit quality indicator for covered loans is the expectation of underlying cash flows. The Company recorded a recovery for losses on covered loans of $3.9 million in the three months ended September 30, 2014. The recovery was largely due to an increase in expected cash flows in the acquired portfolios of one-to-four family and home equity loans, and was partly offset by FDIC indemnification expense of $3.2 million recorded in non-interest income in the corresponding three-month period.

The Company recovered $18.4 million from the allowance for losses on covered loans during the nine months ended September 30, 2014. The recoveries were recorded in connection with an increase in expected cash flows on certain pools of loans acquired in the Company’s FDIC-assisted transactions, and were partly offset by FDIC indemnification expense of $14.7 million, which was recorded in non-interest income in the corresponding nine-month period.