NOTE 6. ALLOWANCE FOR LOAN AND LEASE LOSSES

The allowance for loan and lease losses is a reserve established through a provision for loan losses charged to expense, which represents management’s best estimate of probable losses that have been incurred within the existing portfolio of loans. The allowance, in the judgment of management, is necessary to reserve for estimated loan losses and risks inherent in the loan portfolio. The methodology is based on historical loss experience by type of credit and internal risk grade, changes in the composition and volume of the portfolio, and specific loss allocations, with adjustments for current events and conditions. The Company’s process for determining the appropriate level of the allowance for loan and lease losses is designated to account for credit deterioration as it occurs.

 On April 2, 2019, the Company closed its acquisition of First Beeville Financial Corporation and its subsidiary, The First National Bank of Beeville (together, “Beeville”). At the date of acquisition, Beeville had $298.9 million in loans.  In accordance with ASC 805 “Business Combinations”, the Company utilized a third

party to value the loan portfolio as of the acquisition date. Based upon the third party valuation, the fair value of the loans was approximately $296.4 million at the acquisition date. The overall discount calculated was $2.5 million and will be accreted into interest income over the life of the loans.

On November 15, 2019, the Company closed its acquisition of Chandler Bancorp, Inc. and its subsidiary, Citizens State Bank (together, “Citizens”). At the date of acquisition, Citizens had $253.1 million in loans.  In accordance with ASC 805 “Business Combinations”, the Company utilized a third party to value the loan portfolio as of the acquisition date. Based upon the third party valuation, the preliminary fair value of the loans was approximately $250.3 million at the acquisition date. The overall discount calculated was $2.8 million and will be accreted into interest income over the life of the loans.

On February 28, 2020, the Company closed its acquisition of certain assets and assumption of certain liabilities associated with five offices of Simmons Bank. At the date of acquisition, the offices had $260.3 million in loans.  In accordance with ASC 805, “Business Combinations”, the Company utilized a third party to value the loan portfolio as of the acquisition date. Based upon the third-party valuation, the fair value of the loans was approximately $255.5 million at the acquisition date. The overall discount calculated was $4.8 million and will be accreted into interest income over the life of the loans.

Purchased credit impaired loans related to the Comanche acquisition were insignificant, and the Bank did not identify any purchased credit impaired loans related to the Beeville acquisition or the Simmons branch acquisition. Management identified purchased credit impaired loans related to the Citizens of approximately $3.2 million and estimated that expected cash flows were equal to contractual cash flows at the acquisition date.  The remaining recorded investment in purchased credit impaired loans related to the Citizens acquisition was $455 thousand at December 31, 2021 and the Company believes that all contractual principal and interest will be received.  Purchased credit impaired loans related to the Citizens acquisition are not included in the impaired loans disclosure within this Note.

At December 31, 2021 no provision for loan losses has been recorded for PPP loans.  These loans are fully guaranteed by the federal government and therefore carry a zero percent reserve.  PPP loans also carry a put-back provision pursuant to which the Bank would have to repay any losses to the SBA in the event that a loan is fraudulently originated and the Bank is at fault.  Management does not deem a put-back reserve necessary at this time.

The following tables present information related to the allowance for loan and lease losses for the periods presented:

Credit Quality Indicators

In evaluating credit risk, the Company looks at multiple factors; however, management considers delinquency status to be the most meaningful indicator of the credit quality of 1-4 single family residential, home equity loans and lines of credit and consumer loans. Delinquency statistics are updated at least monthly. Internal risk ratings are considered the most meaningful indicator of credit quality for commercial, construction, land and development and commercial real estate loans. Internal risk ratings are updated on a continuous basis as the Company receives updated borrower financials and other documents.

The following tables present an aging analysis of the recorded investment for delinquent loans by portfolio and segment:

There were no loans 90 days or more past due and still accruing at December 31, 2021 or 2020.   All loans with active deferral periods related to the COVID-19 pandemic are excluded from nonaccrual and days past due reporting.   

At December 31, 2021, non-accrual loans that were 30 to 59 days past due were $139 thousand, non-accrual loans that were 60 to 89 days past due were $16 thousand, and non-accrual loans that were 90 days or more past due were $3.7 million. At December 31, 2020, non-accrual loans that were 30 to 59 days past due were $930 thousand, non-accrual loans that were 60 to 89 days past due were $545 thousand, and non-accrual loans that were 90 days or more past due were $2.2 million.

Loans exhibiting potential credit weaknesses that deserve management’s close attention and that if left uncorrected may result in deterioration of the repayment capacity of the borrower are categorized as special mention. Loans with well-defined credit weaknesses including payment defaults, declining collateral values, frequent overdrafts, operating losses, increasing balance sheet leverage, inadequate cash flow, project cost overruns, unreasonable construction delays, past due real estate taxes or exhausted interest reserves are assigned an internal risk rating of substandard. Loans classified as substandard can be on an accrual or non-accrual basis, as determined by its unique characteristics. A loan with a weakness so severe that collection in full is highly questionable or improbable will be assigned an internal risk rating of doubtful.

The following table summarizes the Company’s loans by key indicators of credit quality:

Internal risk ratings and other credit metrics are key factors in identifying loans to be individually evaluated for impairment and impact management’s estimates of loss factors used in determining the amount of the allowance for loan and lease losses.

The following table shows the Company’s investment in loans disaggregated based on the method of evaluating impairment:

The following tables set forth certain information regarding the Company’s impaired loans that were evaluated for specific reserves: