10-K 1 unty-123119x10k.htm 10-K Document
 
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
FORM 10-K
 
FOR ANNUAL AND TRANSITIONAL REPORTS PURSUANT TO
SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

(Mark One)
(X)    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2019
OR

(  )    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                 to ________
 
Commission file number   1-12431
 
Unity Bancorp, Inc.
(Exact Name of Registrant as Specified in Its Charter)

unty-20151231x10kg001a02.jpg

New Jersey
22-3282551
(State or Other Jurisdiction of Incorporation or Organization)
(I.R.S. Employer Identification No.)
 
 
64 Old Highway 22, Clinton, NJ
08809
(Address of Principal Executive Offices)
(Zip Code)
 
Registrant’s telephone number, including area code (908) 730-7630
 
Securities registered pursuant to Section 12(b) of the Exchange Act:
 
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common stock
UNTY
NASDAQ

 
Securities registered pursuant to Section 12(g) of the Exchange Act: None



Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes ☐   No ☒
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes ☐   No ☒
 
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes ☒   No ☐
 
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes ☒   No ☐
 
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or emerging growth company.  See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐                                                      Accelerated filer ☒   
Non-accelerated filer  ☐                                                       Smaller reporting company ☒
Emerging Growth Company ☐
 
If an emerging growth company, indicate by checkmark if the Registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company as defined in Rule 12b-2 of the Exchange Act  
Yes ☐   No ☒
 
As of June 30, 2019, the aggregate market value of the registrant’s Common Stock, no par value per share, held by non-affiliates of the registrant was $177,801,701 and 7,832,674 shares of the Common Stock were outstanding to non-affiliates.  As of February 28, 2020, 10,886,274 shares of the registrant’s Common Stock were outstanding.
 
Documents incorporated by reference:
Portions of Unity Bancorp’s Proxy Statement for the Annual Meeting of Shareholders to be filed no later than 120 days from December 31, 2019 are incorporated by reference into Part III of this Annual Report on Form 10-K.




Index to Form 10-K

Description of Financial Data
 
Page
Part I
 
 
 
Item 1.
Business
 
 
 
a)  General
 
Item 1A.
Risk Factors
 
Item 1B.
Unresolved Staff Comments
 
Item 2.
Properties
 
Item 3.
Legal Proceedings
 
Item 4.
Mine Safety Disclosures
 
Item 4A.
Executive Officers of the Registrant
 
 
 
 
 
Part II
 
 
 
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
 
Item 6.
Selected Financial Data
 
Item 7.
Management's Discussion and Analysis of Financial Condition and Results of Operations
 
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
 
Item 8.
Financial Statements and Supplementary Data
 
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
 
Item 9A.
Controls and Procedures
 
Item 9B.
Other Information – None
 
 
 
 
 
Part III
 
 
 
Item 10.
Directors, Executive Officers and Corporate Governance; Compliance with Section 16(a) of the Exchange Act
 
Item 11.
Executive Compensation
 
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
 
Item 13.
Certain Relationships and Related Transactions and Director Independence
 
Item 14.
Principal Accountant Fees and Services
 
 
 
 
 
Part IV
 
 
 
Item 15.
Exhibits and Financial Statement Schedules
 
Item 16.
Form 10-K Summary
 
 
Signatures
 




PART I

Item 1.  Business:

a)General
 
Unity Bancorp, Inc., ("we", "us", "our", the "Company" or "Registrant"), is a bank holding company incorporated under the laws of the State of New Jersey to serve as a holding company for Unity Bank  (the “Bank”).  The Company has also elected to become a financial holding company pursuant to regulations of the Board of Governors of the Federal Reserve system (the "FRB"). The Company was organized at the direction of the Board of Directors of the Bank for the purpose of acquiring all of the capital stock of the Bank.  Pursuant to the New Jersey Banking Act of 1948 (the "Banking Act"), and pursuant to approval of the shareholders of the Bank, the Company acquired the Bank and became its holding company on December 1, 1994.  The primary activity of the Company is ownership and supervision of the Bank.  The Company also owns 100% of the common equity of Unity (NJ) Statutory Trust II.  The trust has issued $10.3 million of preferred securities to investors. The Company serves as a holding company for its wholly-owned subsidiary, Unity Risk Management, Inc. Unity Risk Management, Inc. is a captive insurance company that insures risks to the Bank and the Company not covered by the traditional commercial insurance market.
 
The Bank received its charter from the New Jersey Department of Banking and Insurance on September 13, 1991 and opened for business on September 16, 1991. The Bank is a full-service commercial bank, providing a wide range of business and consumer financial services through its main office in Clinton, New Jersey and sixteen additional New Jersey branches located in Edison, Emerson, Flemington, Highland Park, Linden, Middlesex, North Plainfield, Phillipsburg, Scotch Plains, Somerset, Somerville, South Plainfield, Ramsey, Union, Washington and Whitehouse.  In addition, the Bank has two Pennsylvania branches located in Bethlehem and Forks Township.  The Bank's primary service area encompasses the Route 22/Route 78 corridors between the Bethlehem, Pennsylvania office and its Linden, New Jersey branch, as well as Bergen County, New Jersey.
 
The principal executive offices of the Company are located at 64 Old Highway 22, Clinton, New Jersey 08809, and the telephone number is (800) 618-2265.  The Company’s website address is www.unitybank.com.
 
Business of the Company
 
The Company's primary business is ownership and supervision of the Bank.  The Company, through the Bank, conducts a traditional and community-oriented commercial banking business and offers services, including personal and business checking accounts, time deposits, money market accounts and regular savings accounts.  The Company structures its specific services and charges in a manner designed to attract the business of the small and medium sized business and professional community, as well as that of individuals residing, working and shopping in its service area.  The Company engages in a wide range of lending activities and offers commercial, Small Business Administration (“SBA”), consumer, mortgage, home equity and personal loans.
 
Service Areas
 
The Company's primary service area is defined as the neighborhoods served by the Bank's offices.  The Bank's main office, located in Clinton, NJ, in combination with its Flemington and Whitehouse offices, serves the greater area of Hunterdon County.  The Bank's North Plainfield, Somerset and Somerville offices serve those communities located in the northern, eastern and central parts of Somerset County and the southernmost communities of Union County.  The Bank's Scotch Plains, Linden, and Union offices serve the majority of the communities in Union County and the southwestern communities of Essex County.  The offices in Middlesex, South Plainfield, Highland Park, and Edison extend the Company's service area into Middlesex County.  The Bank’s Phillipsburg and Washington offices serve Warren County.  The Bank's Emerson and Ramsey offices serve Bergen County. The Bank’s Forks Township and Bethlehem offices serve Northampton County, Pennsylvania.
 
Competition
 
The Company is located in an extremely competitive area.  The Company's service area is also serviced by national banks, major regional banks, large thrift institutions and a variety of credit unions.  In addition, since passage of the Gramm-Leach-Bliley Financial Modernization Act of 1999 (the “Modernization Act”), securities firms and insurance companies have been allowed to acquire or form financial institutions, thereby increasing competition in the financial services market.  Most of the Company's competitors have substantially more capital, and therefore greater lending limits than the Company.  The Company's competitors generally have established positions in the service area and have greater resources than the Company with which to pay for advertising, physical facilities, personnel and interest on deposited funds.  The Company relies on the competitive pricing of its loans, deposits and other services, as well as its ability to provide local decision-making and personal service in order to compete with these larger institutions.




Employees
 
At December 31, 2019, the Company employed 197 full-time and 12 part-time employees.  None of the Company's employees are represented by any collective bargaining units.  The Company believes that its relations with its employees are good.
 
  
SUPERVISION AND REGULATION
 
General Supervision and Regulation
 
Bank holding companies and banks are extensively regulated under both federal and state law, and these laws are subject to change.  As an example, in the summer of 2010, Congress passed, and the President signed, the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”) (discussed below).  These laws and regulations are intended to protect depositors, not stockholders.  To the extent that the following information describes statutory and regulatory provisions, it is qualified in its entirety by reference to the particular statutory and regulatory provisions.  Any change in the applicable law or regulation may have a material effect on the business and prospects of the Company and the Bank.  Management of the Company is unable to predict, at this time, the impact of future changes to laws and regulations.
 
General Bank Holding Company Regulation
 
General:  As a bank holding company registered under the Bank Holding Company Act of 1956, as amended, (the "BHCA"), the Company is subject to the regulation and supervision of the FRB.  The Company is required to file with the FRB annual reports and other information regarding its business operations and those of its subsidiaries.  Under the BHCA, the Company's activities and those of its subsidiaries are limited to banking, managing or controlling banks, furnishing services to or performing services for its subsidiaries or engaging in any other activity which the FRB determines to be so closely related to banking or managing or controlling banks as to be properly incident thereto. In addition, as a financial holding company, the Company may engage in a broader scope of activities. See "Financial Holding Company Status".
 
The BHCA requires, among other things, the prior approval of the FRB in any case where a bank holding company proposes to; (i) acquire all or substantially all of the assets of any other bank; (ii) acquire direct or indirect ownership or control of more than 5% of the outstanding voting stock of any bank (unless it owns a majority of such bank's voting shares); or (iii) merge or consolidate with any other bank holding company.  The FRB will not approve any acquisition, merger or consolidation that would have a substantially anti-competitive effect, unless the anti-competitive impact of the proposed transaction is clearly outweighed by a greater public interest in meeting the convenience and needs of the community to be served.  The FRB also considers capital adequacy and other financial and managerial resources and future prospects of the companies and the banks concerned, together with the convenience and needs of the community to be served, when reviewing acquisitions or mergers.
 
The BHCA also generally prohibits a bank holding company, with certain limited exceptions, from; (i) acquiring or retaining direct or indirect ownership or control of more than 5% of the outstanding voting stock of any company which is not a bank or bank holding company; or (ii) engaging directly or indirectly in activities other than those of banking, managing or controlling banks, or performing services for its subsidiaries, unless such non-banking business is determined by the FRB to be so closely related to banking or managing or controlling banks as to be properly incident thereto.  In making such determinations, the FRB is required to weigh the expected benefits to the public such as greater convenience, increased competition or gains in efficiency, against the possible adverse effects such as undue concentration of resources, decreased or unfair competition, conflicts of interest or unsound banking practices.

The BHCA was substantially amended through the Modernization Act.  The Modernization Act permits bank holding companies and banks, which meet certain capital, management and Community Reinvestment Act standards, to engage in a broader range of non-banking activities.  In addition, bank holding companies, which elect to become financial holding companies, may engage in certain banking and non-banking activities without prior FRB approval.  Finally, the Modernization Act imposes certain privacy requirements on all financial institutions and their treatment of consumer information.  The Company has elected to become a financial holding company. See "Financial Holding Company Status" below.
 



There are a number of obligations and restrictions imposed on bank holding companies and their depository institution subsidiaries by law and regulatory policy that are designed to minimize potential loss to the depositors of such depository institutions and the Federal Deposit Insurance Corporation (the “FDIC”) Deposit Insurance Fund in the event the depository institution becomes in danger of default.  Under regulations of the FRB, a bank holding company is required to serve as a source of financial strength to its subsidiary depository institutions and to commit resources to support such institutions in circumstances where it might not do so absent such policy.  The FRB also has the authority under the BHCA to require a bank holding company to terminate any activity or to relinquish control of a non-bank subsidiary upon the FRB's determination that such activity or control constitutes a serious risk to the financial soundness and stability of any bank subsidiary of the bank holding company.
 
Capital Adequacy Guidelines
 
In December 2010 and January 2011, the Basel Committee on Banking Supervision (the “Basel Committee”) published the final reforms on capital and liquidity generally referred to as “Basel III.” In July 2013, the FRB, the FDIC and the Comptroller of the Currency adopted final rules (the “New Rules”), which implement certain provisions of Basel III and the Dodd-Frank Act. The New Rules replaced the existing general risk-based capital rules of the various banking agencies with a single, integrated regulatory capital framework. The New Rules require higher capital cushions and more stringent criteria for what qualifies as regulatory capital. The New Rules were effective for the Bank and the Company on January 1, 2015.
 
Under the New Rules, the Company and the Bank are required to maintain the following minimum capital ratios, expressed as a percentage of risk-weighted assets:
 
Common Equity Tier 1 Capital Ratio of 4.5% (the “CET1”);
Tier 1 Capital Ratio (CET1 capital plus “Additional Tier 1 capital”) of 6.0%; and
Total Capital Ratio (Tier 1 capital plus Tier 2 capital) of 8.0%.
 
In addition, the Company and the Bank are subject to a leverage ratio of 4% (calculated as Tier 1 capital to average consolidated assets as reported on the consolidated financial statements).
 
The New Rules also require a “capital conservation buffer.” As of January 1 2019, the Company and the Bank are required to maintain a 2.5% capital conservation buffer, which is composed entirely of CET1, on top of the minimum risk-weighted asset ratios described above, resulting in the following minimum capital ratios:
 
CET1 of 7%;
Tier 1 Capital Ratio of 8.5%; and
Total Capital Ratio of 10.5%.
 
The purpose of the capital conservation buffer is to absorb losses during periods of economic stress. Banking institutions with a CET1, Tier 1 Capital Ratio and Total Capital Ratio above the minimum set forth above but below the capital conservation buffer will face constraints on their ability to pay dividends, repurchase equity and pay discretionary bonuses to executive officers, based on the amount of the shortfall. 
 
The New Rules provide for several deductions from and adjustments to CET1. For example, mortgage servicing rights, deferred tax assets dependent upon future taxable income and significant investments in common equity issued by nonconsolidated financial entities must be deducted from CET1 to the extent that any one of those categories exceeds 10% of CET1 or all such categories in the aggregate exceed 15% of CET1.
 
Under the New Rules, banking organizations such as the Company and the Bank may make a one-time permanent election regarding the treatment of accumulated other comprehensive income items in determining regulatory capital ratios. Effective as of January 1, 2015, the Company and the Bank elected to exclude accumulated other comprehensive income items for purposes of determining regulatory capital.

While the New Rules generally require the phase-out of non-qualifying capital instruments such as trust preferred securities and cumulative perpetual preferred stock, holding companies with less than $15 billion in total consolidated assets as of December 31, 2009, such as the Company, may permanently include non-qualifying instruments that were issued and included in Tier 1 or Tier 2 capital prior to May 19, 2010 in Additional Tier 1 or Tier 2 capital until they redeem such instruments or until the instruments mature.
 



The New Rules prescribe a standardized approach for calculating risk-weighted assets. Depending on the nature of the assets, the risk categories generally range from 0% for U.S. Government and agency securities, to 600% for certain equity exposures, and result in higher risk weights for a variety of asset categories. In addition, the New Rules provide more advantageous risk weights for derivatives and repurchase-style transactions cleared through a qualifying central counterparty and increase the scope of eligible guarantors and eligible collateral for purposes of credit risk mitigation.
 
Consistent with the Dodd-Frank Act, the New Rules adopt alternatives to credit ratings for calculating the risk-weighting for certain assets.
 
Pursuant to the Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”), each federal banking agency has promulgated regulations, specifying the levels at which an insured depository institution such as the Bank would be considered “well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized,” or “critically undercapitalized,” and providing for certain mandatory and discretionary supervisory actions based on the capital level of the institution. To qualify to engage in financial activities under the Gramm-Leach-Bliley Act, all depository institutions must be “well capitalized.”
 
The New Rules also revised the regulations implementing these provisions of FDICIA, to change the capital levels applicable to each designation. Under the New Rules, an institution will be classified as “well capitalized” if it (i) has a total risk-based capital ratio of at least 10.0 percent, (ii) has a Tier 1 risk-based capital ratio of at least 8.0 percent, (iii) has a Tier 1 leverage ratio of at least 5.0 percent, (iv) has a common equity Tier 1 capital ratio of at least 6.5 percent, and (v) meets certain other requirements. An institution will be classified as “adequately capitalized” if it (i) has a total risk-based capital ratio of at least 8.0 percent, (ii) has a Tier 1 risk-based capital ratio of at least 6.0 percent, (iii) has a Tier 1 leverage ratio of at least 4.0 percent, (iv) has a common equity Tier 1 capital ratio of at least 4.5 percent, and (v) does not meet the definition of “well capitalized.” An institution will be classified as “undercapitalized” if it (i) has a total risk-based capital ratio of less than 8.0 percent, (ii) has a Tier 1 risk-based capital ratio of less than 6.0 percent, (iii) has a Tier 1 leverage ratio of less than 4.0 percent, or (iv) has a common equity Tier 1 capital ratio of less than 4.5 percent. An institution will be classified as “significantly undercapitalized” if it (i) has a total risk-based capital ratio of less than 6.0 percent, (ii) has a Tier 1 risk-based capital ratio of less than 4.0 percent, (iii) has a Tier 1 leverage ratio of less than 3.0 percent, or (iv) has a common equity Tier 1 capital ratio of less 3.0 percent. An institution will be classified as “critically undercapitalized” if it has a tangible equity to total assets ratio that is equal to or less than 2.0 percent. An insured depository institution may be deemed to be in a lower capitalization category if it receives an unsatisfactory examination rating.

On September 17, 2019, the federal banking agencies issued a final rule providing simplified capital requirements for certain community banking organizations (banks and holding companies) with less than $10 billion in total consolidated assets, implementing provisions of The Economic Growth, Regulatory Relief, and Consumer Protection Act (“EGRRCPA”). Under the proposal, a qualifying community banking organization would be eligible to elect the community bank leverage ratio framework, or continue to measure capital under the existing Basel III requirements set forth in the New Rules. The new rule takes effect January 1, 2020,and qualifying community banking organizations may elect to opt into the new community bank leverage ratio (“CBLR”) in their call report for the first quarter of 2020.
A qualifying community banking organization (“QCBO”) is defined as a bank, a savings association, a bank holding company or a savings and loan holding company with:

a leverage capital ratio of greater than 9.0%;
total consolidated assets of less than $10.0 billion;
total off-balance sheet exposures (excluding derivatives other than credit derivatives and unconditionally cancelable commitments) of 25% or less of total consolidated assets; and
total trading assets and trading liabilities of 5% or less of total consolidated assets.
 
A QCBO opting into the CBLR must maintain a CBLR of 9.0%, subject to a two quarter grace period to come back into compliance, provided that the QCBO maintains a leverage ratio of more than 8.0% during the grace period. A QCBO failing to satisfy these requirements must comply with the Basel III requirements as implemented by the New Rules. The numerator of the CBLR is Tier 1 capital, as calculated under present rules. The denominator of the CBLR is the QCBO’s average assets, calculated in accordance with the QCBO’s Call Report instructions and less assets deducted from Tier 1 capital.

General Bank Regulation
 
As a New Jersey-chartered commercial bank, the Bank is subject to the regulation, supervision, and control of the New Jersey Department of Banking and Insurance (the “Department”).  As an FDIC-insured institution, the Bank is subject to regulation, supervision and control of the FDIC, an agency of the federal government.  The regulations of the FDIC and the Department affect



virtually all activities of the Bank, including the minimum level of capital that the Bank must maintain, the ability of the Bank to pay dividends, the ability of the Bank to expand through new branches or acquisitions and various other matters.
 
Insurance of Deposits:  The Dodd-Frank Act has caused significant changes in the FDIC’s insurance of deposit accounts. Among other things, the Dodd-Frank Act permanently increased the FDIC deposit insurance limit to $250 thousand per depositor.
 
On February 7, 2011 the FDIC announced the approval of the assessment system mandated by the Dodd-Frank Act.  Dodd-Frank required that the base on which deposit insurance assessments are charged be revised from one based on domestic deposits to one based on assets.  The FDIC’s rule to base the assessment on average total consolidated assets minus average tangible equity instead of domestic deposits lowered assessments for many community banks with less than $10 billion in assets and reduced the Company’s costs.
 
Dividend Rights:  Under the Banking Act, a bank may declare and pay dividends only if, after payment of the dividend, the capital stock of the bank will be unimpaired and either the bank will have a surplus of not less than 50% of its capital stock or the payment of the dividend will not reduce the bank's surplus. Unless and until the Company develops other lines of business, payments of dividends from the Bank will remain the Company’s primary source of income and the primary source of funds for dividend payments to the shareholders of the Company. 

Dodd-Frank Wall Street Reform and Consumer Protection Act
 
The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), enacted on July 21, 2010, significantly changed the bank regulatory landscape and has impacted and will continue to impact the lending, deposit, investment, trading and operating activities of insured depository institutions and their holding companies. The Dodd-Frank Act requires various federal agencies to adopt a broad range of new rules and regulations.  The Dodd-Frank Act, among other things:
capped debit card interchange fees for institutions with $10 billion in assets or more at $0.21 plus 5 basis points times the transaction amount, a substantially lower rate than the average rate in effect prior to adoption of the Dodd-Frank Act;
provided for an increase in the FDIC assessment for depository institutions with assets of $10 billion or more, increases in the minimum reserve ratio for the Deposit Insurance Fund ("DIF") from 1.15% to 1.35% and changes the basis for determining FDIC premiums from deposits to assets;
permanently increased the deposit insurance coverage to $250 thousand and allowed depository institutions to pay interest on checking accounts;
created a new Consumer Financial Protection Bureau (“CFPB”) that has rulemaking authority for a wide range of consumer financial protection laws that apply to all banks and has broad authority to enforce these laws;
provided for new disclosure and other requirements relating to executive compensation and corporate governance;
changed standards for Federal preemption of state laws related to federally-chartered institutions and their subsidiaries;
provided mortgage reform provisions regarding a customer’s ability to repay, restricting variable rate lending by requiring the ability to repay to be determined for variable rate loans by using the maximum rate that will apply during the first five years of a variable rate loan term, and making more loans subject to provisions for higher cost loans, new disclosures, and certain other revisions; and
created a financial stability oversight council that will recommend to the FRB increasingly strict rules for capital, leverage, liquidity, risk management and other requirements as companies grow in size and complexity.
The Dodd-Frank Act also imposes new obligations on originators of residential mortgage loans, such as the Bank. Among other things, the Dodd-Frank Act requires originators to make a reasonable and good faith determination based on documented information that a borrower has a reasonable ability to repay a particular mortgage loan over the long term. If the originator cannot meet this standard, the mortgage may be unenforceable. The Dodd-Frank Act contains an exception from this ability-to-repay rule for “Qualified Mortgages”. The CFPB has established specific underwriting criteria for a loan to qualify as a Qualified Mortgage. The criteria generally exclude loans that (1) are interest-only, (2) have excessive upfront points or fees, or (3) have negative amortization features, balloon payments, or terms in excess of 30 years. The underwriting criteria also impose a maximum debt to income ratio of 43%, based upon documented and verifiable information. If a loan meets these criteria and is not a “higher priced loan” as defined in FRB regulations, the CFPB rule establishes a safe harbor preventing a consumer from asserting the failure of the originator to establish the consumer’s ability to repay. However, a consumer may assert the lender’s failure to comply with the ability-to-repay rule for all residential mortgage loans other than Qualified Mortgages, and may challenge whether a loan in fact qualified as a Qualified Mortgage.
Although the majority of residential mortgages historically originated by the Bank would be considered Qualified Mortgages, the Bank has and may continue to make residential mortgage loans that would not qualify. As a result of such rules, the Bank might experience increased compliance costs, loan losses, litigation related expenses and delays in taking title to real estate collateral, if these loans do not perform and borrowers challenge whether the Bank satisfied the ability-to-repay rule upon originating the loan.
 



The requirements of the Dodd-Frank Act and other regulatory reforms continue to be implemented.  It is difficult to predict at this time what specific impact certain provisions and yet-to-be-finalized rules and regulations will have on us, including any regulations promulgated by the CFPB. Financial reform legislation and rules could have adverse implications on the financial industry, the competitive environment, and our ability to conduct business. Management will have to apply resources to ensure compliance with all applicable provisions of regulatory reforms, including the Dodd-Frank Act and any implementing rules, which may increase our costs of operations and adversely impact our earnings.

Financial Holding Company Status

The Company has elected to become a financial holding company. Financial holding companies may engage in a broader scope of activities than a bank holding company. In addition, financial holding companies may undertake certain activities without prior FRB approval.

A financial holding company may affiliate with securities firms and insurance companies and engage in other activities that are financial in nature or incidental or complementary to activities that are financial in nature. "Financial in nature" activities include:

securities underwriting, dealing and market making;
sponsoring, mutual funds and investment companies;
insurance underwriting and insurance agency activities;
merchant banking; and
activities that the FRB determines to be financial in nature or incidental to a financial activity or which is complementary to a financial activity and does not pose a safety and soundness risk.
 
A financial holding company that desires to engage in activities that are financial in nature or incidental to a financial activity but not previously authorized by the FRB must obtain approval from the FRB before engaging in such activity. Also, a financial holding company may seek FRB approval to engage in an activity that is complementary to a financial activity, if it shows, among other things, that the activity does not pose a substantial risk to the safety and soundness of its insured depository institutions or the financial system.
 
A financial holding company generally may acquire a company (other than a bank holding company, bank or savings association) engaged in activities that are financial in nature or incidental to activities that are financial in nature without prior approval from the FRB. Prior FRB approval is required, however, before the financial holding company may acquire control of more than 5% of the voting shares or substantially all of the assets of a bank holding company, bank or savings association. In addition, under the FRB's merchant banking regulations, a financial holding company is authorized to invest in companies that engage in activities that are not financial in nature, as long as the financial holding company makes its investment with the intention of limiting the duration of the investment, does not manage the company on a day-to-day basis, and the company does not cross-market its products or services with any of the financial holding company's controlled depository institutions.

If any subsidiary bank of a financial holding company ceases to be "well-capitalized" or "well-managed" and fails to correct its condition within the time period that the FRB specifies, the FRB has authority to order the financial holding company to divest its subsidiary banks. Alternatively, the financial holding company may elect to limit its activities and the activities of its subsidiaries to those permissible for a bank holding company that is not a financial holding company. If any subsidiary bank of a financial holding company receives a rating under the CRA of less than "satisfactory", then the financial holding company is prohibited from engaging in new activities or acquiring companies other than bank holding companies, banks or savings associations until the rating is raised to "satisfactory" or better.




Item 1A.        Risk Factors:
 
Our business, financial condition, results of operations and the trading price of our securities can be materially and adversely affected by many events and conditions including the following:
 
We have been and may continue to be adversely affected by national financial markets and economic conditions, as well as local conditions.
 
Our business and results of operations are affected by the financial markets and general economic conditions in the United States, including factors such as the level and volatility of interest rates, inflation, home prices, unemployment and under-employment levels, bankruptcies, household income, consumer spending, investor confidence and the strength of the U.S. economy. The deterioration of any of these conditions can adversely affect our securities and loan portfolios, our level of charge-offs and provision for credit losses, our capital levels, liquidity and our results of operations.
 
In addition, we are affected by the economic conditions within our New Jersey and Pennsylvania trade areas.  Unlike larger banks that are more geographically diversified, we provide banking and financial services primarily to customers in the seven counties in the New Jersey market and one county in Pennsylvania in which we have branches, so any decline in the economy of New Jersey or eastern Pennsylvania could have an adverse impact on us.
 
Our loans, the ability of borrowers to repay these loans, and the value of collateral securing these loans are impacted by economic conditions.   Our financial results, the credit quality of our existing loan portfolio, and the ability to generate new loans with acceptable yield and credit characteristics may be adversely affected by changes in prevailing economic conditions, including declines in real estate values, changes in interest rates, adverse employment conditions and the monetary and fiscal policies of the federal government.  We cannot assure you that positive trends or developments discussed in this annual report will continue or that negative trends or developments will not have a significant adverse effect on us.
 
A significant portion of our loan portfolio is secured by real estate, and events that negatively impact the real estate market could hurt our business.
 
A significant portion of our loan portfolio is secured by real estate. As of December 31, 2019, approximately 94 percent of our loans had real estate as a primary or secondary component of collateral. The real estate collateral in each case provides an alternate source of repayment in the event of default by the borrower and may deteriorate in value during the time the credit is extended. Weakness in the real estate market in our primary market areas could result in an increase in the number of borrowers who default on their loans and a reduction in the value of the collateral securing their loans, which in turn could have an adverse effect on our profitability and asset quality. Any future declines in home prices in the New Jersey and Pennsylvania markets we serve also may result in increases in delinquencies and losses in our loan portfolios. Stress in the real estate market, combined with any weakness in economic conditions and any future elevated unemployment levels could drive losses beyond that which is provided for in our allowance for loan losses. In that event, our earnings could be adversely affected.
 
There is a risk that the SBA will not honor their guarantee.
 
The Company has historically been a participant in various SBA lending programs which guarantee up to 90% of the principal on the underlying loan. There is a risk that the SBA will not honor its guarantee if a loan is not underwritten and administered to SBA guidelines. The Company follows the underwriting guidelines of the SBA; however our ability to manage this will depend on our ability to continue to attract, hire and retain skilled employees who have knowledge of the SBA program.
 
There is a risk that we may not be repaid in a timely manner, or at all, for loans we make.
 
The risk of nonpayment (or deferred or delayed payment) of loans is inherent in commercial banking.  Such nonpayment, or delayed or deferred payment of loans to the Company, if they occur, may have a material adverse effect on our earnings and overall financial condition.  Additionally, in compliance with applicable banking laws and regulations, the Company maintains an allowance for loan losses created through charges against earnings.  As of December 31, 2019, the Company’s allowance for loan losses was $16.4 million, or 1.15 percent of our total loan portfolio and 290.23 percent of our nonperforming loans.  The Company’s marketing focus on small to medium size businesses may result in the assumption by the Company of certain lending risks that are different from or greater than those which would apply to loans made to larger companies.  We seek to minimize our credit risk exposure through credit controls, which include evaluation of potential borrowers’ available collateral, liquidity and cash flow.  However, there can be no assurance that such procedures will actually reduce loan losses.
 



Our allowance for loan losses may not be adequate to cover actual losses.
 
Like all financial institutions, we maintain an allowance for loan losses to provide for loan defaults and nonperformance.  Our allowance for loan losses may not be adequate to cover actual losses, and future provisions for loan losses could materially and adversely affect the results of our operations.  Risks within the loan portfolio are analyzed on a continuous basis by management and, periodically, by an independent loan review function and by the Audit Committee.  A risk system, consisting of multiple-grading categories, is utilized as an analytical tool to assess risk and the appropriate level of loss reserves.  Along with the risk system, management further evaluates risk characteristics of the loan portfolio under current economic conditions and considers such factors as the financial condition of the borrowers, past and expected loan loss experience and other factors management feels deserve recognition in establishing an adequate reserve.  This risk assessment process is performed at least quarterly and, as adjustments become necessary, they are realized in the periods in which they become known.  The amount of future losses is susceptible to changes in economic, operating and other conditions, including changes in interest rates that may be beyond our control, and these losses may exceed current estimates.  State and federal regulatory agencies, as an integral part of their examination process, review our loans and allowance for loan losses and may require an increase in our allowance for loan losses.  Although we believe that our allowance for loan losses is adequate to cover probable and reasonably estimated losses, we cannot assure you that we will not further increase the allowance for loan losses or that our regulators will not require us to increase this allowance.  Either of these occurrences could adversely affect our earnings.
 
We are subject to interest rate risk and variations in interest rates may negatively affect our financial performance.
  
Net interest income, the difference between interest earned on our interest-earning assets and interest paid on interest-bearing liabilities, represents a significant portion of our earnings.  Both increases and decreases in the interest rate environment may reduce our profits.   Interest rates are subject to factors which are beyond our control, including general economic conditions, competition and policies of various governmental and regulatory agencies, such as the FRB.  Changes in monetary policy, including changes in interest rates, could influence not only the interest we receive on loans and investment securities and the amount of interest we pay on deposits and borrowings, but such changes could also affect (i) our ability to originate loans and obtain deposits, (ii) the fair value of our financial assets and liabilities, including the held to maturity and available for sale securities portfolios, and (iii) the average duration of our interest-earning assets. This also includes the risk that interest-earning assets may be more responsive to changes in interest rates than interest-bearing liabilities, or vice versa (repricing risk), the risk that the individual interest rates or rate indexes underlying various interest-earning assets and interest-bearing liabilities may not change in the same degree over a given time period (basis risk), and the risk of changing interest rate relationships across the spectrum of interest-earning asset and interest-bearing liability maturities (yield curve risk).

The banking business is subject to significant government regulations.
 
We are subject to extensive governmental supervision, regulation and control. These laws and regulations are subject to change, and may require substantial modifications to our operations or may cause us to incur substantial additional compliance costs. These laws and regulations are designed to protect depositors and the public, but not our shareholders.  In addition, future legislation and government policy could adversely affect the commercial banking industry and our operations.  Such governing laws can be anticipated to continue to be the subject of future modification.  Our management cannot predict what effect any such future modifications will have on our operations.  In addition, the primary focus of Federal and state banking regulation is the protection of depositors and not the shareholders of the regulated institutions.
 
For example, the Dodd-Frank Act has resulted in substantial new compliance costs, and may restrict certain sources of revenue. The Dodd-Frank Act was signed into law on July 21, 2011.  Generally, the Act is effective the day after it was signed into law, but different effective dates apply to specific sections of the law, many of which will not become effective until various Federal regulatory agencies have promulgated rules implementing the statutory provisions.  Uncertainty remains as to the ultimate impact of the Dodd-Frank Act, which could have a material adverse impact either on the financial services industry as a whole, or on our business, results of operations and financial condition.  The Dodd-Frank Act, among other things:
 
capped debit card interchange fees for institutions with $10 billion in assets or more at $0.21 plus 5 basis points times the transaction amount, a substantially lower rate than the average rate in effect prior to adoption of the Dodd-Frank Act;
provided for an increase in the FDIC assessment for depository institutions with assets of $10 billion or more, increases the minimum reserve ratio for the DIF from 1.15% to 1.35% and changes the basis for determining FDIC premiums from deposits to assets;
permanently increased the deposit insurance coverage to $250 thousand and allowed depository institutions to pay interest on checking accounts;
created a new CFPB that has rule making authority for a wide range of consumer financial protection laws that apply to all banks and has broad authority to enforce these laws;
provided for new disclosure and other requirements relating to executive compensation and corporate governance;



changed standards for Federal preemption of state laws related to federally-chartered institutions and their subsidiaries;
provided mortgage reform provisions regarding a customer’s ability to repay, restricting variable rate lending by requiring the ability to repay to be determined for variable rate loans by using the maximum rate that will apply during the first five years of a variable rate loan term, and making more loans subject to provisions for higher cost loans, new disclosures, and certain other revisions; and
created a financial stability oversight council that will recommend to the FRB increasingly strict rules for capital, leverage, liquidity, risk management and other requirements as companies grow in size and complexity.
 
In addition, in order to implement Basel III and certain additional capital changes required by the Dodd-Frank Act, on July 9, 2013, the FRB approved, as an interim final rule, the regulatory capital requirements for U.S. bank holding companies, such as us, substantially similar to final rules issued by the FDIC and the Office of the Comptroller of the Currency.  These new requirements are likely to increase our capital requirements in future periods. See “Supervisions and Regulation – Capital Adequacy Guidelines.”
 
These provisions, as well as any other aspects of current or proposed regulatory or legislative changes to laws applicable to the financial industry, may impact the profitability of our business activities and may change certain of our business practices, including the ability to offer new products, obtain financing, attract deposits, make loans, and achieve satisfactory interest spreads, and could expose us to additional costs, including increased compliance costs. These changes also may require us to invest significant management attention and resources to make any necessary changes to operations in order to comply, and could therefore also materially and adversely affect our business, financial condition and results of operations.
 
Our management is actively reviewing the provisions of the Dodd-Frank Act and Basel III, many of which are to be phased-in over the next several years, and assessing the probable impact on our operations. However, the ultimate effect of these changes on the financial services industry in general, and us in particular, is uncertain at this time.

We are subject to changes in accounting policies or accounting standards.
 
Understanding our accounting policies is fundamental to understanding our financial results. Some of these policies require the use of estimates and assumptions that may affect the value of assets or liabilities and financial results. We have identified our accounting policies regarding the allowance for loan losses, security valuations and impairments, goodwill and income taxes to be critical because they require management to make difficult, subjective and complex judgments about matters that are inherently uncertain. Under each of these policies, it is possible that materially different amounts would be reported under different conditions, using different assumptions, or as new information becomes available.
 
From time to time, the FASB and the SEC change their guidance governing the form and content of our external financial statements. In addition, accounting standard setters and those who interpret U.S. generally accepted accounting principles (“U.S. GAAP”), such as the FASB, SEC, banking regulators and our outside auditors, may change or even reverse their previous interpretations or positions on how these standards should be applied. Such changes are expected to continue. Changes in U.S. GAAP and changes in current interpretations are beyond our control, can be hard to predict and could materially impact how we report our financial results and condition. In certain cases, we could be required to apply a new or revised guidance retroactively or apply existing guidance differently (also retroactively) which may result in our restating prior period financial statements for material amounts. Additionally, significant changes to U.S. GAAP may require costly technology changes, additional training and personnel, and other expenses that will negatively impact our results of operations.
 
Declines in value may adversely impact the investment portfolio.
 
As of December 31, 2019, we had approximately $64.3 million and $2.3 million in available for sale and equity investment securities, respectively. We may be required to record impairment charges in earnings related to credit losses on our investment securities if they suffer a decline in value that is considered other-than-temporary. Additionally, (a) if we intend to sell a security or (b) it is more likely than not that we will be required to sell the security prior to recovery of its amortized cost basis, we will be required to recognize an other-than-temporary impairment charge in the statement of income equal to the full amount of the decline in fair value below amortized cost. Factors, including lack of liquidity, absence of reliable pricing information, adverse actions by regulators, or unanticipated changes in the competitive environment could have a negative effect on our investment portfolio and may result in other-than-temporary impairment on our investment securities in future periods.
 
Liquidity risk.
 
Liquidity risk is the potential that we will be unable to meet our obligations as they come due because of an inability to liquidate assets or obtain adequate funding on a timely basis, at a reasonable cost and within acceptable risk tolerances.
 



Liquidity is required to fund various obligations, including credit commitments to borrowers, mortgage and other loan originations, withdrawals by depositors, repayment of borrowings, dividends to shareholders, operating expenses and capital expenditures.
 
Liquidity is derived primarily from retail deposit growth and retention; principal and interest payments on loans; principal and interest payments on investment securities; sale, maturity and prepayment of investment securities; net cash provided from operations and access to other funding sources.

Our access to funding sources in amounts adequate to finance our activities could be impaired by factors that affect us specifically or the financial services industry in general. Factors that could detrimentally impact our access to liquidity sources include a decrease in the level of our business activity due to persistent weakness, or downturn, in the economy or adverse regulatory action against us. Our ability to borrow could also be impaired by factors that are not necessarily specific to us, such as a severe disruption of the financial markets or negative views and expectations about the prospects for the financial services industry as a whole.
 
We are in competition with many other banks, including larger commercial banks which have greater resources than us.
 
The banking industry within the State of New Jersey is highly competitive.  The Company’s principal market area is also served by branch offices of large commercial banks and thrift institutions.  In addition, the Gramm-Leach-Bliley Financial Modernization Act permits other financial entities, such as insurance companies and securities firms, to acquire or form financial institutions, thereby further increasing competition.  A number of our competitors have substantially greater resources than we do to expend upon advertising and marketing, and their substantially greater capitalization enables them to make much larger loans.  Our success depends a great deal upon our judgment that large and mid-size financial institutions do not adequately serve small businesses in our principal market area and upon our ability to compete favorably for such customers.  In addition to competition from larger institutions, we also face competition for individuals and small businesses from small community banks seeking to compete as “hometown” institutions.  Most of these smaller institutions have focused their marketing efforts on the smaller end of the small business market we serve.

The Company has also been active in competing for New Jersey governmental and municipal deposits. At December 31, 2019, the Company held approximately $123.3 million in governmental and municipal deposits. The governor of New Jersey has proposed that the state form and own a bank in which governmental and municipal entities would deposit their excess funds, with the state owned bank then financing small businesses and municipal projects in New Jersey. Although this proposal is in the very early stages and no legislation has been introduced in the state legislature, should this proposal be adopted and a state owned bank formed, it could impede the Company's ability to attract and retain governmental and municipal deposits, thereby impairing the Company's liquidity.

Future offerings of common stock may adversely affect the market price of our stock.
 
In the future, if our or the Bank’s capital ratios fall below the prevailing regulatory required minimums, we or the Bank could be forced to raise additional capital by making additional offerings of common stock or preferred stock. Additional equity offerings may dilute the holdings of our existing shareholders or reduce the market price of our common stock, or both.
 
We cannot predict how changes in technology will impact our business.
 
The financial services market, including banking services, is increasingly affected by advances in technology, including developments in:
telecommunications;
data processing;
automation;
Internet-based banking;
Tele-banking; and
debit cards/smart cards
 
Our ability to compete successfully in the future will depend on whether we can anticipate and respond to technological changes.  To develop these and other new technologies, we will likely have to make additional capital investments.  Although we continually invest in new technology, we cannot assure you that we will have sufficient resources or access to the necessary proprietary technology to remain competitive in the future.
 
The Company’s information systems may experience an interruption or breach in security.
 
The Company relies heavily on communications and information systems to conduct its business.  Any failure, interruption or breach in security of these systems could result in failures or disruptions in the Company’s customer-relationship management, general ledger, deposit, loan and other systems.  



 
We are further exposed to the risk that our external vendors may be unable to fulfill their contractual obligations (or will be subject to the same risk of fraud or operational errors by their respective employees as us) and to the risk that our (or our vendors’) business continuity and data security systems prove to be inadequate. We maintain a system of comprehensive policies and a control framework designed to monitor vendor risks including, among other things, (i) changes in the vendor’s organizational structure or internal controls, (ii) changes in the vendor’s financial condition, (iii) changes in the vendor’s support for existing products and services and (iv) changes in the vendor’s strategic focus.  In addition we maintain cyber liability insurance to mitigate against any loss incurred.
 
While the Company has policies and procedures designed to prevent or limit the effect of the failure, interruption or security breach of its information systems, there can be no assurance that any such failures, interruptions or security breaches will not occur; or, if they do occur, that they will be adequately addressed.  The occurrence of any failures, interruptions or security breaches of the Company’s information systems could damage the Company’s reputation, result in a loss of customer business, subject the Company to additional regulatory scrutiny or expose the Company to civil litigation and possible financial liability; any of which could have a material adverse effect on the Company’s financial condition and results of operations.
  
Our business strategy could be adversely affected if we are not able to attract and retain skilled employees and manage our expenses.
 
We expect to continue to experience growth in the scope of our operations and, correspondingly, in the number of our employees and customers.  We may not be able to successfully manage our business as a result of the strain on our management and operations that may result from this growth.  Our ability to manage this growth will depend upon our ability to continue to attract, hire and retain skilled employees.    Our success will also depend on the ability of our officers and key employees to continue to implement and improve our operational and other systems, to manage multiple, concurrent customer relationships and to hire, train and manage our employees.
 
Hurricanes or other adverse weather events could negatively affect our local economies or disrupt our operations, which would have an adverse effect on our business or results of operations.
 
Hurricanes and other weather events can disrupt our operations, result in damage to our properties and negatively affect the local economies in which we operate.  In addition, these weather events may result in a decline in value or destruction of properties securing our loans and an increase in delinquencies, foreclosures and loan losses.

The Company may be adversely affected by changes in U.S. tax laws.
Changes in tax laws contained in the Tax Cuts and Jobs Act ("Tax Act"), enacted in December 2017, include a number of provisions that will have an impact on the banking industry, borrowers and the market for single-family residential real estate. Changes include (i) a lower limit on the deductibility of mortgage interest on single-family residential mortgage loans, (ii) the elimination of interest deductions for home equity loans, (iii) a limitation on the deductibility of business interest expense and (iv) a limitation on the deductibility of property taxes and state and local income taxes.
The recent changes in the tax laws may have an adverse effect on the market for, and valuation of, residential properties, and on the demand for such loans in the future, and could make it harder for borrowers to make their loan payments. In addition, these recent changes may also have a disproportionate effect on taxpayers in states with high residential home prices and high state and local taxes, such as New Jersey. If home ownership becomes less attractive, demand for mortgage loans could decrease. The value of the properties securing loans in the loan portfolio may be adversely impacted as a result of the changing economics of home ownership, which could require an increase in the provision for loan losses, which would reduce profitability and could have a material adverse effect on the Company’s business, financial condition and results of operations.
New Jersey legislative changes may increase our tax expense.

In connection with adopting the 2019 fiscal year budget, the New Jersey legislature adopted, and the Governor signed, legislation that will increase our state income tax liability and could increase our overall tax expense. The legislation imposes a temporary surtax on corporations earning New Jersey allocated income in excess of $1 million at a rate of 2.5% for tax years beginning on or after January 1, 2018 through December 31, 2019, and at 1.5% for tax years beginning on or after January 1, 2020 through December 31, 2021. The legislation also requires combined filing for members of an affiliated group for tax years beginning on or after January 1, 2019, changing New Jersey’s current status as a separate return state, and limits the deductibility of dividends received. These changes are not temporary.



Reforms to and uncertainty regarding LIBOR may adversely affect the business.
In 2017, a committee of private-market derivative participants and their regulators convened by the Federal Reserve, the Alternative Reference Rates Committee, or “ARRC”, was created to identify an alternative reference interest rate to replace LIBOR. The ARRC announced Secured Overnight Financing Rate, or “SOFR”, a broad measure of the cost of borrowing cash overnight collateralized by Treasury securities, as its preferred alternative to LIBOR. The Chief Executive of the United Kingdom Financial Conduct Authority, which regulates LIBOR, announced its intention to stop persuading or compelling banks to submit rates for the calculation of LIBOR to the administrator of LIBOR after 2021. Subsequently, the Federal Reserve Bank announced final plans for the production of SOFR, which resulted in the commencement of its published rates by the Federal Reserve Bank of New York on April 2, 2018. Whether or not SOFR attains market traction as a LIBOR replacement tool remains in question and the future of LIBOR at this time is uncertain. The uncertainty as to the nature and effect of such reforms and actions and the political discontinuance of LIBOR may adversely affect the value of and return on the Company’s financial assets and liabilities that are based on or are linked to LIBOR, the Company’s results of operations or financial condition. In addition, these reforms may also require extensive changes to the contracts that govern these LIBOR based products, as well as the Company’s systems and processes.
LIBOR is used as a reference rate for many of our transactions, which means it is the base on which relevant interest rates are determined. Transactions include those in which we lend and borrow money, and enter into derivatives to manage our or our customers’ risk. Risks related to transitioning instruments to a new reference rate or to how LIBOR is calculated and its availability include impacts on the yield on loans or securities held by us, amounts paid on securities we have issued, or amounts received and paid on derivative instruments we have entered into. The value of loans, securities, or derivative instruments tied to LIBOR and the trading market for LIBOR-based securities could also be impacted upon its discontinuance or if it is limited.

While we expect LIBOR to continue to be available in substantially its current form until the end of 2021 or shortly before that, it is possible that LIBOR quotes will become unavailable prior to that point. This could result, for example, if sufficient banks decline to make submissions to the LIBOR administrator. In that case, the risks associated with the transition to an alternative reference rate will be accelerated and magnified. These risks may also be increased due to the shorter time for preparing for the transition.





Item 1B.  Unresolved Staff Comments:  None

Item 2.  Properties:
 
The Company presently conducts its business through its main office located at 64 Old Highway 22, Clinton, New Jersey, and its nineteen branch offices.  The Company is currently leasing additional back office space in Clinton, New Jersey, in a building adjacent to its main office. The Company’s facilities are adequate to meet its needs.
 
The following table sets forth certain information regarding the Company’s properties from which it conducts business as of December 31, 2019.
 
Location
 
Leased or Owned
 
Date Leased or Acquired
 
Lease Expiration
 
2019 Annual Rental Fee
North Plainfield, NJ
 
Owned
 
1991
 
 

Linden, NJ
 
Owned
 
1997
 
 

Whitehouse, NJ
 
Owned
 
1998
 
 

Union, NJ
 
Leased
 
2019
 
2020
 
18,750

Scotch Plains, NJ
 
Owned
 
2004
 
 

Flemington, NJ
 
Owned
 
2005
 
 

Forks Township, PA
 
Leased
 
2006
 
2021
 
62,677

Middlesex, NJ
 
Owned
 
2007
 
 

Somerset, NJ
 
Leased
 
2012
 
2023
 
128,895

Washington, NJ
 
Owned
 
2012
 
 

Highland Park, NJ
 
Owned
 
2013
 
 

South Plainfield, NJ
 
Owned
 
2013
 
 

Edison, NJ
 
Owned
 
2013
 
 

Clinton, NJ
 
Owned
 
2016
 
 

Somerville, NJ
 
Owned
 
2016
 
 

Emerson, NJ
 
Owned
 
2016
 
 

Ramsey, NJ
 
Leased
 
2017
 
2021
 
60,987

Phillipsburg, NJ
 
Leased
 
2017
 
2022
 
60,000

Clinton, NJ
 
Leased
 
2018
 
2020
 
27,600

Bethlehem, PA
 
Leased
 
2018
 
2028
 
76,719


Item 3.  Legal Proceedings:
 
From time to time, the Company is subject to legal proceedings and claims in the ordinary course of business.  The Company currently is not aware of any such legal proceedings or claims that it believes will have, individually or in the aggregate, a material adverse effect on the business, financial condition, or operating results of the Company.

Item 4.  Mine Safety Disclosures:  N/A




Item 4A.  Executive Officers of the Registrant:

The following table sets forth certain information as of December 31, 2019, regarding each executive officer of the Company who is not also a director.
Name, Age and Position
 
Officer Since
 
Principal Occupation During Past Five Years
John Kauchak, 66, Chief Operating Officer and Executive Vice President of the Company and Bank
 
2002
 
Previously, Mr. Kauchak was the head of Deposit Operations for Unity Bank from 1996 to 2002.
Alan J. Bedner, 48, Chief Financial Officer and Executive Vice President of the Company and Bank
 
2003 *
 
Previously, Mr. Bedner was Controller for Unity Bank from 2001 to 2003.
Janice Bolomey, 51, Chief Administrative Officer and Executive Vice President of the Company and Bank
 
2013
 
Previously, Ms. Bolomey was Director of Sales for Unity Bank from 2002 to 2013.
Laureen S. Cook, 51, Interim Principal Accounting and Financial Officer and Senior Vice President of the Company and Bank
 
2020 *
 
Previously, Ms. Cook was Controller for Unity Bank from 2004 to present.

* Mr. Bedner resigned on January 24, 2020.



PART II

Item 5.  Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities:
 
(a)Market Information
 
The Company’s Common Stock is quoted on the NASDAQ Global Market under the symbol “UNTY.”
  
(b)    Repurchase Plan
 
On July 16, 2019, the Company authorized the repurchase of up to 525 thousand shares, or approximately 5 percent of its outstanding common stock.  The amount and timing of purchases is dependent upon a number of factors, including the price and availability of the Company’s shares, general market conditions and competing alternate uses of funds. The new plan replaces the Company's prior share repurchase program, which has since been terminated.  There were no shares repurchased for the years ended December 31, 2019, 2018 and 2017.

Item 6.  Selected Financial Data:
 
The following selected financial data should be read in conjunction with the Company's consolidated financial statements and notes presented herein in response to Item 8 of this Annual Report.

Non-GAAP Financial Measures

In addition to the results presented in accordance with GAAP, this Annual Report on Form 10-K contains certain non-GAAP financial measures. The Company believes that providing these non-GAAP financial measures provides investors with information useful in understanding the Company’s financial performance, performance trends, and financial position. While the Company uses these non-GAAP measures in its analysis of the Company’s performance, this information should not be considered an alternative to measurements required by GAAP. The following table provides a reconciliation of certain GAAP financial measures to non-GAAP financial measures.

 
 
For the year ended December 31, 2017
(In thousands, except percentages)
 
GAAP
 
Tax Act Adjustment
 
Non-GAAP
Federal and state income tax expense
 
$
9,540

 
$
(1,733
)
 
$
7,807

Net income
 
$
12,893

 
$
1,733

 
$
14,626

Basic earnings per share
 
$
1.22

 
$
0.16

 
$
1.38

Diluted earnings per share
 
$
1.20

 
$
0.16

 
$
1.36

Return on average assets
 
1.02
%
 
0.13
 %
 
1.15
%
Return on average equity
 
11.47
%
 
1.55
 %
 
13.02
%
Effective tax rate
 
42.50
%
 
(7.70
)%
 
34.80
%

The reconciling items between the GAAP and non-GAAP financial measures above include the impact of the Tax Act in 2017. On December 22, 2017, the Tax Act was signed, which lowered the corporate tax rate from 35% to 21%. This adjustment resulted in a $1.7 million increase in income tax expense and is reflected in our tax provision on the income statement. The Company believes the financial results are more comparable excluding the impact of the revaluation of the net deferred tax asset.

Basic earnings per share is calculated by dividing net income by average outstanding shares and diluted earnings per share is calculated by dividing net income by diluted average outstanding shares. The one-time net tax expense of $1.7 million in 2017 was included in determining income for both the GAAP basic earnings per share and the GAAP diluted earnings per share. Conversely, the one-time net tax expense of $1.7 million in 2017 was excluded in determining income for both the non-GAAP basic earnings per share and the non-GAAP diluted earnings per share. Average outstanding shares 10,558,000 were used in the GAAP and non-GAAP basic earnings per share. Diluted average outstanding shares of 10,749,000 were used in the GAAP and non-GAAP diluted earnings per share.

The return on average assets ratio is calculated by dividing net income by average assets and the return on average equity ratio is calculated by dividing net income by average equity. The one-time net tax expense of $1.7 million in 2017 was included in determining income for



both the GAAP return on average assets and the GAAP return on average equity. Conversely, the one-time net tax expense of $1.7 million was excluded in determining income for both the non-GAAP return on average assets and the non-GAAP return on average equity. Average assets of $1.3 billion were used in the GAAP and non-GAAP return on average assets ratios. Average equity of $113.0 million were used in the GAAP and non-GAAP return on average equity ratios.

The effective tax rate is calculated by dividing federal and state income tax expense by income before income taxes. The non-GAAP effective tax rate uses the non-GAAP federal and state income tax expense of $7.8 million for calculating the rate.
 




Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations:

The purpose of this analysis is to provide the reader with information relevant to understanding and assessing the Company's results of
operations for each of the past three years and financial condition for each of the past two years. In order to fully appreciate this
analysis, the reader is encouraged to review the consolidated financial statements and accompanying notes thereto appearing under
Item 8 of this report, and statistical data presented in this document.
 
Overview
 
Unity Bancorp, Inc. (the “Parent Company”) is a bank holding company incorporated in New Jersey and is registered under the Bank Holding Company Act of 1956, as amended.  Its wholly-owned subsidiary, Unity Bank (the “Bank” or, when consolidated with the Parent Company, the “Company”) is chartered by the New Jersey Department of Banking and Insurance.  The Bank provides a full range of commercial and retail banking services through the Internet and its nineteen branch offices located in Bergen, Hunterdon, Middlesex, Somerset, Union and Warren counties in New Jersey, and Northampton County in Pennsylvania.  These services include the acceptance of demand, savings, and time deposits and the extension of consumer, real estate, Small Business Administration ("SBA") and other commercial credits.
 
Results of Operations
 
Net income totaled $23.7 million, or $2.14 per diluted share for the year ended December 31, 2019, compared to $21.9 million, or $2.01 per diluted share for the year ended December 31, 2018
 
Highlights for the year include:
 
Net income before tax increased 11.0 percent to $30.3 million from $27.3 million in the prior year.
Net interest income increased $3.8 million or 7.2 percent to $57.6 million from $53.7 million in the prior year, primarily due to strong loan growth.
Net interest margin decreased 2 basis points to 3.95 percent compared to 3.97 percent in the prior year due to recent interest rate cuts by the Board of Governors of the Federal Reserve System.
Noninterest income was $9.5 million, a $508 thousand increase compared to $9.0 million in the prior year. This increase was primarily due to market fluctuations on our equity securities, increased gains on the sale of securities and increased mortgage gains.
Noninterest expense totaled $34.7 million, an increase of $1.3 million when compared to $33.4 million in the prior year. The increase was primarily due to increased compensation and mortgage commissions paid on a higher origination volume.
The effective tax rate increased to 22.0 percent compared to 19.7 percent in the prior year due to recent New Jersey tax legislation changes.
A 9.3 percent increase in total loans driven by a 15.8 percent increase in consumer loans, a 10.2 percent increase in commercial loans and a 7.3 percent increase in residential mortgages loans.
A 3.5 percent increase in total deposits with a 13.2 percent increase in time deposits and a 3.6 percent increase in noninterest-bearing deposits.

The Company's performance ratios for the past three years are listed in the following table:
 
 
For the years ended December 31,
 
 
2019
 
2018
 
2017
Net income per common share - Basic  (1)
 
$
2.18

 
$
2.04

 
$
1.22

Net income per common share - Diluted  (2)
 
$
2.14

 
$
2.01

 
$
1.20

Return on average assets
 
1.54
%
 
1.53
%
 
1.02
%
Return on average equity  (3)
 
15.86
%
 
17.10
%
 
11.47
%
Efficiency ratio (4)
 
52.00
%
 
53.07
%
 
55.57
%

(1)
Defined as net income divided by weighted average shares outstanding.
(2)
Defined as net income divided by the sum of weighted average shares and the potential dilutive impact of the exercise of outstanding options.
(3)
Defined as net income divided by average shareholders' equity.
(4)
The efficiency ratio is a non-GAAP measure of operational performance. It is defined as noninterest expense divided by the sum of net interest income plus noninterest income less any gains or losses on securities.






Net income presented above includes the impact of the Tax Act in 2017, which lowered the corporate tax rate from 35% to 21%. For additional information on the impact of the Tax Act and the Company's non-GAAP performance ratios, see the "Non-GAAP Financial Measures" section in "Item 6. Selected Financial Data."

Net Interest Income
 
The primary source of the Company’s operating income is net interest income, which is the difference between interest and dividends earned on earning assets and fees earned on loans, and interest paid on interest-bearing liabilities.  Earning assets include loans to individuals and businesses, investment securities, interest-earning deposits and federal funds sold.  Interest-bearing liabilities include interest-bearing checking, savings and time deposits, Federal Home Loan Bank ("FHLB") advances and other borrowings.  Net interest income is determined by the difference between the yields earned on earning assets and the rates paid on interest-bearing liabilities (“net interest spread”) and the relative amounts of earning assets and interest-bearing liabilities.  The Company’s net interest spread is affected by regulatory, economic and competitive factors that influence interest rates, loan demand, deposit flows and general levels of nonperforming assets.

2019 compared to 2018
 
Tax-equivalent net interest income amounted to $57.6 million in 2019, an increase of $3.8 million from $53.8 million in 2018.  The Company’s net interest margin decreased 2 basis points to 3.95 percent in 2019, compared to 3.97 percent in 2018.  The net interest spread was 3.54 percent, a decrease of 11 basis points from 3.65 percent in 2018.
 
During 2019, tax-equivalent interest income was $75.7 million, an increase of $8.4 million or 12.5 percent when compared to 2018.  This increase was driven primarily by the increase in the average volume of loans:
 
Of the $8.4 million increase in interest income on a tax-equivalent basis, $5.2 million of the increase was due primarily to the increased volume of earning assets and $3.2 million of the increase was due to an increase in yields on average interest-earning assets.
The yield on interest-earning assets increased 21 basis points to 5.18 percent in 2019 when compared to 2018
The average volume of interest-earning assets increased $105.3 million to $1.5 billion in 2019 compared to $1.4 billion in 2018.  This was due primarily to a $105.4 million increase in average loans, primarily residential mortgage, commercial and consumer loans, and a $2.6 million increase in average federal funds, interest-bearing deposits and repos, partially offset by a $2.0 million decrease in average investment securities.
 
Total interest expense was $18.1 million in 2019, an increase of $4.5 million or 33.6 percent compared to 2018.  This increase was driven by the increased rates on interest-bearing deposits and volume of time deposits, partially offset by a decrease in the average volume of borrowed funds and subordinated debentures compared to a year ago:
 
Of the $4.5 million increase in interest expense, $3.0 million was due to increased rates on interest-bearing liabilities and $1.6 million was due to an increase in the volume of average interest-bearing liabilities.
The average cost of interest-bearing liabilities increased 32 basis points to 1.64 percent in 2019 when compared to 2018.  The cost of interest-bearing deposits and borrowed funds and subordinated debentures increased 36 basis points and 14 basis points, respectively, in 2019.
Interest-bearing liabilities averaged $1.1 billion in 2019, an increase of $72.1 million or 7.0 percent, compared to 2018.  The increase in interest-bearing liabilities was primarily due to an increase in average time deposits.

2018 compared to 2017
 
Tax-equivalent net interest income amounted to $53.8 million in 2018, an increase of $7.9 million from $45.9 million in 2017. The Company's net interest margin increased 14 basis points to 3.97 percent in 2018, compared to 3.83 percent in 2017. The net interest spread was 3.65 percent, an increase of 8 basis points from 3.57 percent in 2017. This was due to strong loan growth and the rising interest rate environment.






During 2018, tax-equivalent interest income was $67.3 million, an increase of $11.9 million or 21.5 percent when compared to
2017. This increase was driven primarily by the increase in the average volume of loans:

Of the $11.9 million increase in interest income on a tax-equivalent basis, $8.8 million of the increase was due primarily to the increased volume of earning assets and $3.1 million of the increase was due to an increase in yields on average interest earning assets due to the rising interest rate environment.
The yield on interest-earning assets increased 36 basis points to 4.97 percent in 2018 when compared to 2017.
The average volume of interest-earning assets increased $153.9 million to $1.4 billion in 2018 compared to $1.2 billion in 2017. This was due primarily to a $189.2 million increase in average loans, primarily commercial, residential mortgage and consumer loans, partially offset by a $29.4 million decrease in average federal funds, interest-bearing deposits and repos and a $6.5 million decrease in average investment securities.

Total interest expense was $13.5 million in 2018, an increase of $4.1 million or 43.0 percent compared to 2017. This increase was driven by the increased rates on interest-bearing deposits and volume of time deposits, partially offset by decreased rates on borrowed funds and subordinated debentures compared to a year ago:

Of the $4.1 million increase in interest expense, $2.3 million was due to increased rates on interest-bearing liabilities and $1.7 million was due to an increase in the volume of average interest-bearing liabilities.
The average cost of interest-bearing liabilities increased 28 basis points to 1.32 percent in 2018 when compared to 2017. While the cost of interest-bearing deposits increased 37 basis points to 1.23 percent in 2018, the cost of borrowed funds and subordinated debentures decreased 15 basis points to 1.89 percent.
Interest-bearing liabilities averaged $1.0 billion in 2018, an increase of $118.1 million or 12.9 percent, compared to 2017. The increase in interest-bearing liabilities was primarily due to an increase in average time deposits.

The following table reflects the components of net interest income, setting forth for the periods presented herein: (1) average assets, liabilities and shareholders’ equity, (2) interest income earned on interest-earning assets and interest expense paid on interest-bearing liabilities, (3) average yields earned on interest-earning assets and average rates paid on interest-bearing liabilities, (4) net interest spread, and (5) net interest income/margin on average earning assets.  Rates/yields are computed on a fully tax-equivalent basis, assuming a federal income tax rate of 21 percent in 2019 and 2018 and 35 percent in prior years.






Consolidated Average Balance Sheets
 (Dollar amounts in thousands, interest amounts and interest rates/yields on a fully tax-equivalent basis)
For the years ended December 31,
 
2019
 
2018
 
 
 
Average balance
 
Interest
 
Rate/Yield
 
Average balance
 
Interest
 
Rate/Yield
 
ASSETS
 
 
 
 
 
 
 
 
 
 
 
Interest-earning assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
Federal funds sold, interest-bearing deposits and repos
 
$
43,305

 
$
906

 
2.09
%
$
40,700

 
$
773

 
1.90
%
Federal Home Loan Bank ("FHLB") stock
 
6,066

 
385

 
6.35
 
6,786

 
462

 
6.81
 
Securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
Taxable
 
59,459

 
1,926

 
3.24
 
60,734

 
1,907

 
3.14
 
Tax-exempt
 
4,394

 
129

 
2.94
 
5,104

 
145

 
2.84
 
Total securities (A)
 
63,853

 
2,055

 
3.22
 
65,838

 
2,052

 
3.12
 
Loans, net of unearned discount:
 
 
 
 
 
 
 
 
 
 
 
 
 
SBA loans
 
48,686

 
3,780

 
7.76
 
60,321

 
4,338

 
7.19
 
Commercial loans
 
715,301

 
37,577

 
5.25
 
668,144

 
33,886

 
5.07
 
Residential mortgage loans
 
449,003

 
22,483

 
5.01
 
396,731

 
18,837

 
4.75
 
Consumer loans  
 
133,918

 
8,487

 
6.34
 
116,311

 
6,943

 
5.97
 
Total loans (B)
 
1,346,908

 
72,327

 
5.37
 
1,241,507

 
64,004

 
5.16
 
Total interest-earning assets
 
$
1,460,132

 
$
75,673

 
5.18
%
$
1,354,831

 
$
67,291

 
4.97
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Noninterest-earning assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash and due from banks
 
25,761

 
 
 
 
 
24,598

 
 
 
 
 
Allowance for loan losses
 
(16,058
)
 
 
 
 
 
(14,640
)
 
 
 
 
 
Other assets
 
69,987

 
 
 
 
 
65,770

 
 
 
 
 
Total noninterest-earning assets
 
79,690

 
 
 
 
 
75,728

 
 
 
 
 
Total assets
 
$
1,539,822

 
 
 
 
 
$
1,430,559

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
LIABILITIES AND SHAREHOLDERS' EQUITY
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing demand deposits
 
$
182,540

 
$
1,795

 
0.98
%
$
177,022

 
$
1,202

 
0.68
%
Savings deposits
 
397,122

 
4,497

 
1.13
 
404,613

 
3,871

 
0.96
 
Time deposits
 
409,406

 
9,460

 
2.31
 
314,224

 
5,903

 
1.88
 
Total interest-bearing deposits
 
989,068

 
15,752

 
1.59
 
895,859

 
10,976

 
1.23
 
Borrowed funds and subordinated debentures
 
113,511

 
2,303

 
2.03
 
134,664

 
2,540

 
1.89
 
Total interest-bearing liabilities
 
$
1,102,579

 
$
18,055

 
1.64
%
$
1,030,523

 
$
13,516

 
1.32
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Noninterest-bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
Noninterest-bearing demand deposits
 
273,338

 
 
 
 
 
261,976

 
 
 
 
 
Other liabilities
 
14,755

 
 
 
 
 
9,903

 
 
 
 
 
Total noninterest-bearing liabilities
 
288,093

 
 
 
 
 
271,879

 
 
 
 
 
Total shareholders' equity
 
149,150

 
 
 
 
 
128,157

 
 
 
 
 
Total liabilities and shareholders' equity
 
$
1,539,822

 
 
 
 
 
$
1,430,559

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net interest spread
 
 
 
$
57,618

 
3.54
%
 
 
$
53,775

 
3.65
%
Tax-equivalent basis adjustment
 
 
 
(25
)
 
 
 
 
 
(28
)
 
 
 
Net interest income
 
 
 
$
57,593

 
 
 
 
 
$
53,747

 
 
 
Net interest margin
 
 
 
 
 
3.95
%
 
 
 
 
3.97
%
(A)
Yields related to securities exempt from federal and state income taxes are stated on a fully tax-equivalent basis.  They are reduced by the nondeductible portion of interest expense, assuming a federal tax rate of 21 percent in 2019 and 2018 and 35 percent in prior years and applicable state rates.
(B)
The loan averages are stated net of unearned income, and the averages include loans on which the accrual of interest has been discontinued.
 







 
2017
 
2016
 
2015
 
Average balance
 
Interest
 
Rate/Yield
 
Average balance
 
Interest
 
Rate/Yield
 
Average balance
 
Interest
 
Rate/Yield
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
$
70,139

 
$
851

 
1.21
%
$
71,265

 
$
214

 
0.30
%
$
34,883

 
$
39

 
0.11
%
6,230

 
370

 
5.94
 
5,241

 
245

 
4.67
 
3,695

 
155

 
4.19
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
66,107

 
2,029

 
3.07
 
61,053

 
1,698

 
2.78
 
62,937

 
1,459

 
2.32
 
6,225

 
240

 
3.86
 
7,649

 
307

 
4.01
 
11,739

 
421

 
3.59
 
72,332

 
2,269

 
3.14
 
68,702

 
2,005

 
2.92
 
74,676

 
1,880

 
2.52
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
59,293

 
3,805

 
6.42
 
56,834

 
3,181

 
5.60
 
50,997

 
2,693

 
5.28
 
571,001

 
28,150

 
4.93
 
510,614

 
25,256

 
4.95
 
459,068

 
22,771

 
4.96
 
319,074

 
14,650

 
4.59
 
273,612

 
12,205

 
4.46
 
246,278

 
11,048

 
4.49
 
102,898

 
5,296

 
5.15
 
84,222

 
4,021

 
4.77
 
69,580

 
3,202

 
4.60
 
1,052,266

 
51,901

 
4.93
 
925,282

 
44,663

 
4.83
 
825,923

 
39,714

 
4.81
 
$
1,200,967

 
$
55,391

41,788

4.61
%
$
1,070,490

 
$
47,127

41,788

4.40
%
$
939,177

 
$
41,788

41,788

4.45
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
23,321

 
 
 
 
 
24,409

 
 
 
 
 
25,952

 
 
 
 
 
(13,033
)
 
 
 
 
 
(12,841
)
 
 
 
 
 
(12,638
)
 
 
 
 
 
58,481

 
 
 
 
 
50,103

 
 
 
 
 
43,742

 
 
 
 
 
68,769

 
 
 
 
 
61,671

 
 
 
 
 
57,056

 
 
 
 
 
$
1,269,736

 
 
 
 
 
$
1,132,161

 
 
 
 
 
$
996,233

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
$
159,642

 
$
665

 
0.42
%
$
133,212

 
$
537

 
0.40
%
$
126,876

 
$
438

 
0.35
%
397,250

 
2,738

 
0.69
 
328,486

 
1,742

 
0.53
 
290,848

 
1,088

 
0.37
 
219,847

 
3,278

 
1.49
 
261,225

 
3,670

 
1.40
 
240,132

 
3,160

 
1.32
 
776,739

 
6,681

 
0.86
 
722,923

 
5,949

 
0.82
 
657,856

 
4,686

 
0.71
 
135,730

 
2,772

 
2.04
 
114,853

 
2,818

 
2.45
 
87,652

 
2,974

 
3.39
 
$
912,469

 
$
9,453

 
1.04
%
$
837,776

 
$
8,767

 
1.04
%
$
745,508

 
$
7,660

 
1.03
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
237,207

 
 
 
 
 
199,554

 
 
 
 
 
172,172

 
 
 
 
 
7,090

 
 
 
 
 
8,895

 
 
 
 
 
4,611

 
 
 
 
 
244,297

 
 
 
 
 
208,449

 
 
 
 
 
176,783

 
 
 
 
 
112,970

 
 
 
 
 
85,936

 
 
 
 
 
73,942

 
 
 
 
 
$
1,269,736

 
 
 
 
 
$
1,132,161

 
 
 
 
 
$
996,233

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
$
45,938

 
3.57
%
 
 
$
38,360

 
3.36
%
 
 
$
34,128

 
3.42
%
 
 
(81
)
 
 
 
 
 
(103
)
 
 
 
 
 
(137
)
 
 
 
 
 
$
45,857

 
 
 
 
 
$
38,257

 
 
 
 
 
$
33,991

 
 
 
 
 
 
 
3.83
%
 
 
 
 
3.58
%
 
 
 
 
3.63
%






The rate volume table below presents an analysis of the impact on interest income and expense resulting from changes in average volume and rates over the periods presented.  Changes that are not solely due to volume or rate variances have been allocated proportionally to both, based on their relative absolute values.  Amounts have been computed on a tax-equivalent basis, assuming a federal income tax rate of 21 percent in 2019 and 2018 and 35 percent in 2017.
 
 
 
For the years ended December 31,
 
 
2019 versus 2018
 
2018 versus 2017
 
 
Increase (decrease) due to change in:
 
Increase (decrease) due to change in:
(In thousands on a tax-equivalent basis)
 
Volume
 
Rate
 
Net
 
Volume
 
Rate
 
Net
Interest income:
 
 
 
 
 
 
 
 
 
 
 
 
Federal funds sold, interest-bearing deposits and repos
 
$
52

 
$
81

 
$
133

 
$
(443
)
 
$
365

 
$
(78
)
Federal Home Loan Bank stock
 
(47
)
 
(30
)
 
(77
)
 
35

 
57

 
92

Securities
 
(62
)
 
65

 
3

 
(206
)
 
(11
)
 
(217
)
Net loans
 
5,245

 
3,078

 
8,323

 
9,386

 
2,717

 
12,103

Total interest income
 
$
5,188

 
$
3,194

 
$
8,382

 
$
8,772

 
$
3,128

 
$
11,900

Interest expense:
 
 
 
 
 
 
 
 
 
 
 
 
Demand deposits
 
$
40

 
$
553

 
$
593

 
$
80

 
$
457

 
$
537

Savings deposits
 
(71
)
 
697

 
626

 
51

 
1,082

 
1,133

Time deposits
 
2,027

 
1,530

 
3,557

 
1,631

 
994

 
2,625

Total interest-bearing deposits
 
1,996

 
2,780

 
4,776

 
1,762

 
2,533

 
4,295

Borrowed funds and subordinated debentures
 
(419
)
 
182

 
(237
)
 
(23
)
 
(209
)
 
(232
)
Total interest expense
 
1,577

 
2,962

 
4,539

 
1,739

 
2,324

 
4,063

Net interest income - fully tax-equivalent
 
$
3,611

 
$
232

 
$
3,843

 
$
7,033

 
$
804

 
$
7,837

Increase in tax-equivalent adjustment
 
 
 
 
 
3

 
 
 
 
 
53

Net interest income
 
 
 
 
 
$
3,846

 
 
 
 
 
$
7,890

 
Provision for Loan Losses
 
The provision for loan losses totaled $2.1 million for 2019, $2.1 million in 2018 and $1.7 million in 2017.  Each period’s loan loss provision is the result of management’s analysis of the loan portfolio and reflects changes in the size and composition of the portfolio, the level of net charge-offs, delinquencies, current economic conditions and other internal and external factors impacting the risk within the loan portfolio.  Additional information may be found under the captions “Financial Condition - Asset Quality” and “Financial Condition - Allowance for Loan Losses and Unfunded Loan Commitments.”  The current provision is considered appropriate based upon management’s assessment of the adequacy of the allowance for loan losses.

Noninterest Income
 
The following table shows the components of noninterest income for the past three years:

 
 
For the years ended December 31,
(In thousands)
 
2019
 
2018
 
2017
Branch fee income
 
$
1,502

 
$
1,519

 
$
1,384

Service and loan fee income
 
1,965

 
2,130

 
2,100

Gain on sale of SBA loans held for sale, net
 
909

 
1,680

 
1,617

Gain on sale of mortgage loans, net
 
2,090

 
1,719

 
1,530

BOLI income
 
588

 
975

 
469

Net security gains (losses)
 
373

 
(199
)
 
62

Gain on sale of premises and equipment
 
766

 

 

Other income
 
1,346

 
1,207

 
1,108

Total noninterest income
 
$
9,539

 
$
9,031

 
$
8,270

 






2019 compared to 2018

Noninterest income was $9.5 million for 2019, a $508 thousand increase compared to $9.0 million for 2018.  This increase was primarily due to market fluctuations on our equity securities and increased gains on sales of mortgages.
 
Changes in noninterest income reflect:

Branch fee income decreased $17 thousand to $1.5 million when compared to 2018.
Service and loan fee income, which consists of prepayment fees, application fees and servicing fees, decreased $165 thousand in 2019.
Net gains on the sale of SBA loans decreased $771 thousand to $909 thousand in 2019 due to a decrease in the volume of SBA loans sales.  In 2019, $14.9 million in SBA loans were sold compared to $22.3 million in the prior year. The Company elected not to sell SBA loans during the third quarter of 2019.
During the year, $120.2 million in residential mortgage loans were sold at a gain of $2.1 million compared to $80.7 million in loans sold at a gain of $1.7 million during the prior year.
BOLI income decreased $387 thousand from prior year, primarily due to a $291 thousand death benefit in the third quarter of 2018.
Net security gains totaled $373 thousand in 2019 compared to losses of $199 thousand in 2018. Approximately $321 thousand of these gains resulted from an increase in the market value of equity securities, compared to a decrease of $195 thousand in 2018. Gains on sales of securities totaled $52 thousand in 2019, compared to losses of $4 thousand in 2018.
Gain on sale of premises and equipment totaled $766 thousand in 2019 versus none in 2018. The increase was primarily due to the $768 thousand gain on the sale of our Union, NJ branch building in September 2019.
Other income, which includes check card related income and miscellaneous service charges totaled $1.3 million and $1.2 million in 2019 and 2018, respectively.

2018 compared to 2017

Noninterest income was $9.0 million for 2018, a $761 thousand increase compared to $8.3 million for 2017. This increase was primarily due to increased BOLI income and gains on sales of mortgages.

Changes in noninterest income reflect:

Branch fee income increased $135 thousand in 2018 from the prior year primarily due to increased check printing income and higher levels of service charges from commercial checking accounts.
Service and loan fee income, which consists of prepayment fees, applications fees and servicing fees, increased $30 thousand in 2018.
Net gains on the sale of SBA loans increased $63 thousand to $1.7 million in 2018 due to an increase in the volume of SBA loans sales. In 2018, $22.3 million in SBA loans were sold compared to $19.4 million in the prior year. SBA loan sales in 2018 averaged a lower bid rate compared to 2017, which resulted in lower gains per sale.
During 2018, $80.7 million in residential mortgage loans were sold at a gain of $1.7 million compared to $82.1 million in loans sold at a gain of $1.5 million during the prior year. The increased gain was a result of portfolio sales of $13.3 million in 2018 versus $3.5 million in 2017.
BOLI income increased $506 thousand in 2018 from the prior year, primarily due to a $291 thousand death benefit in the third quarter of 2018, and the increase in income related to the purchase of a $10.0 million Separate Account BOLI policy during the third quarter of 2017.
There were net losses on the sales of securities totaling $4 thousand in 2018 compared to gains of $62 thousand in 2017. Due to the adoption of ASU 2016-01 in January of 2018, there was an unrealized loss of $195 thousand recognized during the year resulting from a decrease in the market value of equity securities.
Other income, which includes check card related income and miscellaneous service charges, totaled $1.2 million and $1.1 million in 2018 and 2017, respectively. The increase was primarily due to increases in Visa check card interchange fees and wire transfer fees.






Noninterest Expense 
 
The following table presents a breakdown of noninterest expense for the past three years:
 
 
 
For the years ended December 31,
(In thousands)
 
2019
 
2018
 
2017
Compensation and benefits
 
$
20,666

 
$
20,119

 
$
17,117

Occupancy
 
2,650

 
2,739

 
2,381

Processing and communications
 
2,924

 
2,788

 
2,551

Furniture and equipment
 
2,894

 
2,348

 
2,079

Professional services
 
1,061

 
934

 
1,022

Loan collection and OREO expenses (recoveries)
 
41

 
(361
)
 
463

Other loan expenses
 
272

 
208

 
186

Deposit insurance
 
301

 
782

 
546

Advertising
 
1,358

 
1,411

 
1,179

Director fees
 
673

 
671

 
637

Other expenses
 
1,877

 
1,782

 
1,883

Total noninterest expense
 
$
34,717

 
$
33,421

 
$
30,044

 
2019 compared to 2018

Noninterest expense totaled $34.7 million for the year ended December 31, 2019, an increase of $1.3 million when compared to $33.4 million in 2018. The majority of this increase is attributed to increased compensation and mortgage commissions paid on a higher origination volume and the continued investment in our technology infrastructure through software upgrades.
 
Changes in noninterest expense reflect:  
 
Compensation and benefits expense, the largest component of noninterest expense, increased $547 thousand for the year ended December 31, 2019, when compared to 2018.  The yearly increase is primarily due to increased salary expenses and year end bonuses paid to employees.
Occupancy expense decreased $89 thousand in 2019 when compared to 2018.
Processing and communications increased $136 thousand for the year ended December 31, 2019 when compared to 2018, primarily due to increased electronic banking expenses.
Furniture and equipment expense increased $546 thousand in 2019, due to investment in software and equipment to remain efficient, secure and competitive technologically.
Professional service fees increased $127 thousand in 2019, primarily due to higher consulting expenses.
Loan collection and OREO expenses increased $402 thousand in 2019, primarily due to a $317 thousand settlement related to an OREO property in the third quarter of 2018.
Other loan expenses, which consist of expenses such as appraisals, filings and credit reports, increased $64 thousand in 2019, when compared to 2018.
Deposit insurance expense decreased $481 thousand in 2019 when compared to 2018 primarily due to an FDIC assessment credit of $279 thousand during the second half of 2019.
Advertising expenses decreased $53 thousand for the year ended December 31, 2019, versus 2018.
Director fees remained relatively flat in 2019 when compared to 2018.
Other expenses increased $95 thousand in 2019, primarily due to higher officer and employee expenses.

2018 compared to 2017

Noninterest expense totaled $33.4 million for the year ended December 31, 2018, an increase of $3.4 million when compared to $30.0 million in 2017. The majority of this increase is attributed to expansion costs from two additional branches and increased headcount which resulted in higher compensation, benefits, occupancy and equipment expenses.







Changes in noninterest expense reflect:

Compensation and benefits expense, the largest component of noninterest expense, increased $3.0 million for the year ended
December 31, 2018, when compared to 2017. Expenses have risen as we expanded our branch network, lending and support staff. This additional headcount has resulted in higher salary, commission and benefit expense. In addition, benefits expense for 2018 included a $1.1 million supplemental executive retirement plan expense.
Occupancy expense increased $358 thousand in 2018 primarily due to the addition of branches in Ramsey, New Jersey, and in Bethlehem, Pennsylvania.
Processing and communications increased $237 thousand for the year ended December 31, 2018 when compared to 2017, primarily due to increased bank services from the addition of new branches.
Furniture and equipment expense increased $269 thousand in 2018, due to investment in our technology infrastructure through network and software upgrades that will improve our efficiency and keep our data secure.
Professional service fees decreased $88 thousand in 2018, primarily due to lower consulting expenses, partially offset by increased loan review, legal, external audit and tax expenses.
Loan collection and OREO expenses decreased $824 thousand in 2018, primarily due to a $317 thousand recovery on an OREO property in 2018, compared to a loss of $253 thousand on a sale in 2017.
Other loan expenses, which consist of expenses such as appraisals, filings and credit reports, increased $22 thousand in 2018, when compared to 2017.
Deposit insurance expense increased $236 thousand in 2018 when compared to 2017 due to asset growth.
Advertising expenses increased $232 thousand for the year ended December 31, 2018 in support of our retail and lending sales as well as branch expansions and retail promotions.
Director fees increased $34 thousand in 2018 when compared to 2017.
Other expenses decreased $101 thousand in 2018, primarily due to a decreased provision for commitments.

Income Tax Expense
 
For 2019, the Company reported income tax expense of $6.7 million for an effective tax rate of 22.0%, compared to an income tax expense of $5.4 million and an effective tax rate of 19.7% in 2018 and an income tax expense of $9.5 million and an effective tax rate of 42.5% in 2017.

On July 1, 2018, New Jersey's Assembly Bill 4202 was signed into law. The bill, effective January 1, 2018, imposed a temporary surtax on corporations earning New Jersey allocated income in excess of $1 million at a rate of 2.5% for tax years beginning on or after January 1, 2018 through December 31, 2019, and at a rate of 1.5% for years beginning on or after January 1, 2020, through December 31, 2021. In addition, effective for periods on or after January 1, 2019, New Jersey is adopting mandatory unitary combined reporting for its Corporation Business Tax.

On December 22, 2017, the "Tax Cuts and Jobs Act" (TCJA) was signed into law, lowering the corporate tax rate from 35% to 21% starting in 2018. The new plan resulted in significant tax benefits.

For additional information on income taxes, see Note 16 to the Consolidated Financial Statements.

Financial Condition
 
Total assets increased $139.8 million or 8.9 percent, to $1.7 billion at December 31, 2019, compared to $1.6 billion at December 31, 2018.  This increase was primarily due to increases of $120.0 million in net loans, with strong commercial, residential and consumer loan growth.
 
Total deposits increased $42.4 million, primarily due to increases of $47.2 million in time deposits and $9.6 million in noninterest-bearing demand deposits, partially offset by a decrease of $9.5 million in interest-bearing demand deposits and $4.9 million in saving deposits. Borrowed funds increased by $73.0 million to $283.0 million at December 31, 2019 primarily due to a new $40.0 million fixed rate advance and an increase of $33.0 million in overnight borrowings.
 
Total shareholders’ equity increased $22.2 million from year end 2018, primarily due to net income from operations, less dividends paid on our common stock. Net income was $23.7 million for the year ended December 31, 2019, an increase of $1.7 million from the prior year.  Other changes in shareholders’ equity included stock-based transactions of $1.5 million and an other comprehensive gain net of tax of $311 thousand, offset by common stock dividends of $3.3 million paid in 2019.
 
These fluctuations are discussed in further detail in the sections that follow. 






Securities
 
The Company’s securities portfolio consists of available for sale (“AFS”), held to maturity (“HTM”) and equity investments.  Management determines the appropriate security classification of available for sale or held to maturity at the time of purchase.  The investment securities portfolio is maintained for asset-liability management purposes, as well as for liquidity and earnings purposes.
 
AFS debt securities are investments carried at fair value that may be sold in response to changing market and interest rate conditions or for other business purposes.  Activity in this portfolio is undertaken primarily to manage liquidity and interest rate risk, to take advantage of market conditions that create economically attractive returns and as an additional source of earnings.  AFS debt securities consist primarily of obligations of U.S. Government sponsored entities, obligations of state and political subdivisions, mortgage-backed securities, and corporate and other securities.
 
AFS debt securities totaled $64.3 million at December 31, 2019, an increase of $17.6 million or 37.6 percent, compared to $46.7 million at December 31, 2018.  This net increase was the result of:
 
$14.2 million from the transfer of the Company's HTM portfolio to AFS,
$13.1 million from the purchase of six corporate bonds and one mortgage-backed security,
$1.4 million of appreciation in the market value of the portfolio.  At December 31, 2019, the portfolio had a net unrealized gain of $392 thousand compared to a net unrealized loss of $1.0 million at December 31, 2018.  These net unrealized gains and losses are reflected net of tax in shareholders’ equity as accumulated other comprehensive income, partially offset by
$5.4 million in principal payments, maturities and called bonds,
$5.6 million in sales net of realized gains, which consisted of two commercial mortgage-backed securities and two agency securities, and
$169 thousand in net amortization.

The weighted average life of AFS debt securities, adjusted for prepayments, amounted to 4.9 years and 6.2 years at December 31, 2019 and 2018, respectively.
 
HTM securities, which are carried at amortized cost, are investments for which there is the positive intent and ability to hold to maturity.  The portfolio was comprised of obligations of U.S. Government sponsored entities, obligations of state and political subdivisions, mortgage-backed securities, and corporate and other securities.
 
In 2019, the Company elected to transfer its HTM securities to its AFS debt securities portfolio. At December 31, 2018, HTM securities totaled $14.9 million.

The weighted average life of HTM securities, adjusted for prepayments, amounted to 5.4 years at December 31, 2018.  As of December 31, 2018, the fair value of HTM securities was $14.8 million

Equity securities are investments carried at fair value that may be sold in response to changing market and interest rate conditions or for other business purposes. Activity in this portfolio is undertaken primarily to manage liquidity and interest rate risk, to take advantage of market conditions that create economically attractive returns and as an additional source of earnings. Equity securities consist of Community Reinvestment Act ("CRA") investments and the equity holdings of financial institutions. These securities were transferred from available for sale and reclassified into equity securities on the balance sheet as a result of the adoption of ASU 2016-01 in January 2018.

Equity securities totaled $2.3 million at December 31, 2019, an increase of $145 thousand or 6.7 percent, compared to $2.1 million at December 31, 2018. This net increase was the result of:

$321 thousand in market value adjustments throughout the year, partially offset by
$181 thousand in sales net of realized gains from the sale of one community bank holding.

The average balance of taxable securities amounted to $59.5 million in 2019 compared to $60.7 million in 2018.  The average yield earned on taxable securities increased 10 basis points to 3.24 percent in 2019, from 3.14 percent in 2018.  The average balance of tax-exempt securities amounted to $4.4 million in 2019 compared to $5.1 million in 2018.  The average yield earned on tax-exempt securities increased 10 basis points to 2.94 percent in 2019, from 2.84 percent in 2018
 
Securities with a carrying value of $4.0 million and $4.3 million at December 31, 2019 and December 31, 2018, respectively, were pledged to secure Government deposits, secure other borrowings, collateralize hedging instruments and for other purposes required or permitted by law.
 





Approximately 64 percent of the total investment portfolio had a fixed rate of interest at December 31, 2019, compared to 80 percent in 2018.
 
For additional information on securities, see Note 3 to the Consolidated Financial Statements.

Loans
 
The loan portfolio, which represents the Company’s largest asset group, is a significant source of both interest and fee income.  The portfolio consists of SBA, commercial, residential mortgage and consumer loans.  Each of these segments is subject to differing levels of credit and interest rate risk.
 
Total loans increased $121.0 million or 9.3 percent to $1.4 billion at December 31, 2019, compared to $1.3 billion at year end 2018. Commercial loans, residential mortgages and consumer loans increased $70.9 million, $31.7 million, and $19.6 million, respectively, partially offset by a decrease of $1.2 million in SBA loans.
 
The following table sets forth the classification of loans by major category, including unearned fees, deferred costs and excluding the allowance for loan losses at December 31st for the past five years:
 
 
 
2019
 
2018
 
2017
 
2016
 
2015
(In thousands, except percentages)
 
Amount
 
% of total
 
Amount
 
% of total
 
Amount
 
% of total
 
Amount
 
% of total
 
Amount
 
% of total
Ending balance:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
SBA loans held for investment
 
$
35,767

 
2.5
%
 
$
39,333

 
3.0
%
 
$
43,999

 
3.8
%
 
$
42,492

 
4.4
%
 
$
39,393

 
4.4
%
Commercial loans
 
765,032

 
53.7

 
694,102

 
53.2

 
628,865

 
53.7

 
535,515

 
55.0

 
494,871

 
55.6

Residential mortgage loans
 
467,706

 
32.8

 
436,056

 
33.4

 
365,145

 
31.2

 
289,093

 
29.7

 
264,523

 
29.8

Consumer loans  
 
143,524

 
10.1

 
123,904

 
9.5

 
109,855

 
9.4

 
91,541

 
9.4

 
77,057

 
8.7

Total loans held for investment
 
1,412,029

 
99.1

 
1,293,395

 
99.1

 
1,147,864

 
98.1

 
958,641

 
98.5

 
875,844

 
98.5

SBA loans held for sale
 
13,529

 
0.9

 
11,171

 
0.9

 
22,810

 
1.9

 
14,773

 
1.5

 
13,114

 
1.5

Total loans
 
$
1,425,558

 
100.0
%
 
$
1,304,566

 
100.0
%
 
$
1,170,674

 
100.0
%
 
$
973,414

 
100.0
%
 
$
888,958

 
100.0
%
 
Average loans increased $105.4 million or 8.5 percent from $1.2 billion in 2018, to $1.3 billion in 2019.  The increase in average loans was due to increases in residential mortgages, commercial loans and consumer loans, partially offset by a decrease in SBA 7(a) loans.  The yield on the overall loan portfolio increased 21 basis points to 5.37 percent for the year ended December 31, 2019, compared to 5.16 percent for the prior year.    
 
SBA 7(a) loans, on which the SBA historically has provided guarantees of up to 90 percent of the principal balance, are considered a higher risk loan product for the Company than its other loan products.  These loans are made for the purposes of providing working capital, financing the purchase of equipment, inventory or commercial real estate.  Generally, an SBA 7(a) loan has a deficiency in its credit profile that would not allow the borrower to qualify for a traditional commercial loan, which is why the SBA provides the guarantee.  The deficiency may be a higher loan to value (“LTV”) ratio, lower debt service coverage (“DSC”) ratio or weak personal financial guarantees.  In addition, many SBA 7(a) loans are for start up businesses where there is no historical financial information.  Finally, many SBA borrowers do not have an ongoing and continuous banking relationship with the Bank, but merely work with the Bank on a single transaction.  The guaranteed portion of the Company’s SBA loans is generally sold in the secondary market with the nonguaranteed portion held in the portfolio as a loan held for investment.  
 
SBA 7(a) loans held for sale, carried at the lower of cost or market, amounted to $13.5 million at December 31, 2019,  an increase of $2.4 million from $11.2 million at December 31, 2018.  SBA 7(a) loans held for investment amounted to $35.8 million at December 31, 2019, a decrease of $3.6 million from $39.3 million at December 31, 2018.  The yield on SBA 7(a) loans, which is generally floating and adjusts quarterly to the Prime Rate, was 7.76 percent for the year ended December 31, 2019, compared to 7.19 percent in the prior year.

The guarantee rates on SBA 7(a) loans range from 50 percent to 90 percent, with the majority of the portfolio having a guarantee rate of 75 percent at origination.  The guarantee rates are determined by the SBA and can vary from year to year depending on government funding and the goals of the SBA program.  The carrying value of SBA loans held for sale represents the guaranteed portion to be sold into the secondary market.  The carrying value of SBA loans held for investment represents the unguaranteed portion, which is the Company's portion of SBA loans originated, reduced by the guaranteed portion that is sold into the secondary market.  Approximately





$93.6 million and $101.1 million in SBA loans were sold but serviced by the Company at December 31, 2019 and December 31, 2018, respectively, and are not included on the Company’s balance sheet.  There is no direct relationship or correlation between the guarantee percentages and the level of charge-offs and recoveries on the Company’s SBA 7(a) loans.  Charge-offs taken on SBA 7(a) loans effect the unguaranteed portion of the loan.  SBA loans are underwritten to the same credit standards irrespective of the guarantee percentage.  
 
Commercial loans are generally made in the Company’s marketplace for the purpose of providing working capital, financing the purchase of equipment, inventory or commercial real estate and for other business purposes.  These loans amounted to $765.0 million at December 31, 2019, an increase of $70.9 million from year end 2018.  The yield on commercial loans was 5.25 percent for 2019, compared to 5.07 percent for the same period in 2018.  The SBA 504 program, which consists of real estate backed commercial mortgages where the Company has the first mortgage and the SBA has the second mortgage on the property, is included in the Commercial loan portfolio. Generally, the Company has a 50 percent LTV ratio on SBA 504 program loans at origination.

Residential mortgage loans consist of loans secured by 1 to 4 family residential properties.  These loans amounted to $467.7 million at December 31, 2019, an increase of $31.7 million from year end 2018.  Sales of mortgage loans totaled $120.2 million for 2019.  Approximately $10.6 million of the loans sold were from portfolio, with the remainder consisting of new production. Approximately $36.9 million and $42.5 million in residential loans were sold but serviced by the Company at December 31, 2019 and December 31, 2018, respectively, and are not included on the Company’s balance sheet. The yield on residential mortgages was 5.01 percent for 2019, compared to 4.75 percent for 2018. Residential mortgage loans maintained in portfolio are generally to individuals that do not qualify for conventional financing. In extending credit to this category of borrowers, the Bank considers other mitigating factors such as credit history, equity and liquid reserves of the borrower. As a result, the residential mortgage loan portfolio of the Bank includes fixed and adjustable rate mortgages with rates that exceed the rates on conventional fixed-rate mortgage loan products but are not considered high priced mortgages.
 
Consumer loans consist of home equity loans, construction loans and loans for the purpose of financing the purchase of consumer goods, home improvements, and other personal needs, and are generally secured by the personal property being purchased.  These loans amounted to $143.5 million at December 31, 2019, an increase of $19.6 million from December 31, 2018. The yield on consumer loans was 6.34 percent for 2019, compared to 5.97 percent for 2018.
 
There are no concentrations of loans to any borrowers or group of borrowers exceeding 10 percent of the total loan portfolio and no foreign loans in the portfolio. 
 
In the normal course of business, the Company may originate loan products whose terms could give rise to additional credit risk.  Interest-only loans, loans with high LTV ratios, construction loans with payments made from interest reserves and multiple loans supported by the same collateral (e.g. home equity loans) are examples of such products.  However, these products are not material to the Company’s financial position and are closely managed via credit controls that mitigate their additional inherent risk.  Management does not believe that these products create a concentration of credit risk in the Company’s loan portfolio.

The following table shows the maturity distribution or repricing of the loan portfolio and the allocation of fixed and floating interest rates at December 31, 2019:
 
 
 
December 31, 2019
(In thousands)
 
One year or less
 
One to five years
 
Over five years
 
Total
SBA loans
 
$
45,956

 
$
3,030

 
$
310

 
$
49,296

Commercial loans
 
 
 
 
 
 
 
 
SBA 504 loans
 
12,055

 
13,675

 
996

 
26,726

Commercial other
 
26,356

 
45,919

 
39,739

 
112,014

Commercial real estate
 
67,306

 
410,573

 
100,764

 
578,643

Commercial real estate construction
 
5,771

 
22,509

 
19,369

 
47,649

Total
 
$
157,444

 
$
495,706

 
$
161,178

 
$
814,328

Amount of loans with maturities or repricing dates greater than one year:
 
 
 
 
Fixed interest rates
 
 
 
 
 
 
 
$
196,977

Floating or adjustable interest rates
 
 
 
 
 
 
 
459,907

Total
 
 
 
 
 
 
 
$
656,884

 





For additional information on loans, see Note 4 to the Consolidated Financial Statements.
 
Troubled Debt Restructurings
 
Troubled debt restructurings (“TDRs”) occur when a creditor, for economic or legal reasons related to a debtor’s financial condition, grants a concession to the debtor that it would not otherwise consider.  These concessions typically include reductions in interest rate, extending the maturity of a loan, other modifications of payment terms, or a combination of modifications.  When the Company modifies a loan, management evaluates the loan for any possible impairment using either the discounted cash flows method, where the value of the modified loan is based on the present value of expected cash flows, discounted at the contractual interest rate of the original loan agreement, or by using the fair value of the collateral less selling costs.  If management determines that the value of the modified loan is less than the recorded investment in the loan, impairment is recognized by segment or class of loan, as applicable, through an allowance estimate or charge-off to the allowance.  This process is used, regardless of loan type, and for loans modified as TDRs that subsequently default on their modified terms.

At December 31, 2019, there was one loan totaling $705 thousand that was classified as a TDR and deemed impaired, compared to one such loan totaling $745 thousand at December 31, 2018.  The TDR was a commercial real estate loan which was modified in 2017 to reduce the principal balance. The loan remains in accrual status since it continues to perform in accordance with the restructured terms. Restructured loans that are placed in nonaccrual status may be removed after six months of contractual payments and the borrower showing the ability to service the debt going forward.

For additional information on TDRs, see Note 4 to the Consolidated Financial Statements.

Asset Quality
 
Inherent in the lending function is credit risk, which is the possibility a borrower may not perform in accordance with the contractual terms of their loan.  A borrower’s inability to pay their obligations according to the contractual terms can create the risk of past due loans and, ultimately, credit losses, especially on collateral deficient loans.  The Company minimizes its credit risk by loan diversification and adhering to strict credit administration policies and procedures.  Due diligence on loans begins when we initiate contact regarding a loan with a borrower.  Documentation, including a borrower’s credit history, materials establishing the value and liquidity of potential collateral, the purpose of the loan, the source of funds for repayment of the loan, and other factors, are analyzed before a loan is submitted for approval.  The loan portfolio is then subject to on-going internal reviews for credit quality, as well as independent credit reviews by an outside firm. 
 
The risk of loss is difficult to quantify and is subject to fluctuations in collateral values, general economic conditions and other factors.  In some cases, these factors have also resulted in significant impairment to the value of loan collateral.  The Company values its collateral through the use of appraisals, broker price opinions, and knowledge of its local market.
 
Nonperforming assets consist of nonperforming loans and OREO.  Nonperforming loans consist of loans that are not accruing interest (nonaccrual loans) as a result of principal or interest being delinquent for a period of 90 days or more or when the ability to collect principal and interest according to the contractual terms is in doubt.  When a loan is classified as nonaccrual, interest accruals discontinue and all past due interest previously recognized as income is reversed and charged against current period income. Generally, until the loan becomes current, any payments received from the borrower are applied to outstanding principal, until such time as management determines that the financial condition of the borrower and other factors merit recognition of a portion of such payments as interest income.  Loans past due 90 days or more and still accruing interest are not included in nonperforming loans.  Loans past due 90 days or more and still accruing generally represent loans that are well secured and in process of collection.






The following table sets forth information concerning nonperforming assets and loans past due 90 days or more and still accruing interest at December 31st for the past five years:
 
(In thousands, except percentages)
 
2019
 
2018
 
2017
 
2016
 
2015
Nonperforming by category: