PROVIDENT FINANCIAL HOLDINGS INC 10-K

Item 1. Business General Provident Financial Holdings, Inc. (the “Corporation”), a Delaware corporation, was organized in January 1996 for the purpose of becoming the holding company of Provident Savings Bank, F.S.B. (the “Bank”) upon the Bank’s conversion from a federal mutual to a federal stock savings bank (“Conversion”). The Conversion was completed on June 27, 1996. The Corporation is regulated by the Federal Reserve Board ("FRB"). At June 30, 2020, the Corporation had consolidated total assets of $1.18 billion, total deposits of $893.0 million and stockholders’ equity of $124.0 million. The Corporation has not engaged in any significant activity other than holding the stock of the Bank. Accordingly, the information set forth in this Annual Report on Form 10-K (“Form 10-K”), including the audited consolidated financial statements and related data, relates primarily to the Bank. The Bank, founded in 1956, is a federally chartered stock savings bank headquartered in Riverside, California. The Bank is regulated by the Office of the Comptroller of the Currency (“OCC”), its primary federal regulator, and the Federal Deposit Insurance Corporation (“FDIC”), the insurer of its deposits. The Bank’s deposits are federally insured up to applicable limits by the FDIC. The Bank has been a member of the Federal Home Loan Bank (“FHLB”) – San Francisco since 1956. The Bank is a financial services company committed to serving consumers and small to mid-sized businesses in the Inland Empire region of Southern California. The Bank conducts its business operations as Provident Bank, and through its subsidiary, Provident Financial Corp. The business activities of the Bank consist of community banking, investment services and trustee services for real estate transactions. The Bank’s community banking operations primarily consist of accepting deposits from customers within the communities surrounding its full service offices and investing those funds in single-family, multi-family, commercial real estate, construction, commercial business, consumer and other mortgage loans. Additional business activities have included originating saleable single-family loans, primarily fixed-rate first mortgages. Through its subsidiary, Provident Financial Corp, the Bank conducts trustee services for the Bank’s real estate transactions and in the past has held real estate for investment. For additional information, see “Subsidiary Activities” in this Form 10-K. The activities of Provident Financial Corp are included in the Bank's operating segment results. The Bank’s revenues are derived principally from interest earned on its loan and investment portfolios, and fees generated through its community banking activities. On June 22, 2006, the Bank established the Provident Savings Bank Charitable Foundation (“Foundation”) in order to further its commitment to the local community. The specific purpose of the Foundation is to promote and provide for the betterment of youth, education, housing and the arts in the Bank’s primary market areas of Riverside and San Bernardino counties. The Foundation was funded with a $500,000 charitable contribution made by the Bank in the fourth quarter of fiscal 2006. The Bank contributed $40,000 to the Foundation in both fiscal 2020 and 2019. Subsequent Event: On July 30, 2020, the Corporation announced that the Corporation’s Board of Directors declared a cash dividend of $0.14 per share. Shareholders of the Corporation’s common stock at the close of business on August 20, 2020 are entitled to receive the cash dividend, payable on September 10, 2020. 1 Market Area The Bank is headquartered in Riverside, California and operates 12 full-service banking offices in Riverside County and one full-service banking office in San Bernardino County. Management considers Riverside and Western San Bernardino counties to be the Bank’s primary market for deposits. The Bank is the largest independent community bank headquartered in Riverside County and it has the ninth largest deposit market share of all banks and the second largest of community banks in Riverside County. The large geographic area encompassing Riverside and San Bernardino counties is referred to as the “Inland Empire.” According to the 2010 Census Bureau population statistics, Riverside and San Bernardino Counties have the fourth and fifth largest populations in California, respectively. The Bank’s market area consists primarily of suburban and urban communities. Riverside and Western San Bernardino counties are relatively densely populated and are within the greater Los Angeles metropolitan area. According to the United States of America (“U.S.”) Department of Labor, Bureau of Labor Statistics, the unemployment rate in the Inland Empire in June 2020 was 14.3%, compared to 14.9% in California and 11.1% nationwide, a substantial increase due primarily to the impact of the novel coronavirus of 2019 (“COVID-19”) pandemic, compared to the unemployment data reported in June 2019, which was 4.3% in the Inland Empire, 4.2% in California and 3.7% nationwide. Recent forecasts suggest that employment will drop an annual average of 71,000 jobs during 2020 from 1.56 million in 2019 to 1.49 million in 2020 and depends heavily on how each business sector is likely to change during the remainder of 2020 (Source: Inland Empire Quarterly Economic Report - April 2020). Inland Empire homes should continue to hold a substantial advantage for families compared to the coastal markets. This will be the case despite COVID-19’s impact as it will likely affect supply and demand in all Southern California markets. Sales volumes in all markets will slow in the second quarter as potential buyers stay home and sellers decide to stay in place. Some sales recovery will likely occur in the third quarter of the calendar year as lock-down requirements ease. Prices will likely continue rising as 2020 unfolds with the lack of supply meeting slowly increasing demand (Source: Inland Empire Quarterly Economic Report - April 2020). Due to strong buyer demand, the percentage of homes closing below their listing prices has been decreasing. Data from Fannie Mae confirms that housing confidence is getting stronger: in a recent survey, 61 percent of respondents said now is a good time to buy. Mortgage applications are also 33 percent higher than they were at this time last year, and homebuilders saw their strongest June sales since the housing boom. This increased demand can be attributed to historically low mortgage rates, as well as buyers playing “catch-up” during the reopening after the first shutdown due to COVID-19 pandemic. But the momentum of the current rebound will likely be limited by California’s constrained housing supply, as well as the second shutdown. Housing prices have largely remained stable, even rising in the Bay Area markets. While mortgages in forbearance continue to drop, 32 percent of renters and homeowners did not make a full housing payment on July 1, 2020 according to an Apartment List survey. Renters, in particular, still face significant financial hurdles: in June 2020, 31 percent of renters reported they had little confidence in their ability to pay next month’s rent. (Source: California Association of Realtors – July 15, 2020 News Release). Competition The Bank faces significant competition in its market area in originating real estate loans and attracting deposits. The population growth in the Inland Empire has attracted numerous financial institutions to the Bank’s market area. The Bank’s primary competitors are large national and regional commercial banks as well as other community-oriented banks and savings institutions. The Bank also faces competition from credit unions and a large number of mortgage companies that operate within its market area. Many of these institutions are significantly larger than the Bank and therefore have greater financial and marketing resources than the Bank. This competition may limit the Bank’s growth and profitability in the future. 2 Personnel As of June 30, 2020, the Bank had 178 full-time equivalent employees, which consisted of 123 full-time, 55 prime-time and no part-time employees. The employees are not represented by a collective bargaining unit and management believes that its relationship with employees is good. Reportable Segments Management monitors the revenue and expense components of the various products and services the Bank offers, but operations are managed and financial performance is evaluated on a Corporation-wide basis in comparison to a business plan which is developed each year. Accordingly, all operations are considered by management to be one operating segment and one reportable segment as contained in the Consolidated Statements of Operations to the Corporation’s audited consolidated financial statements included in Item 8 of this Form 10-K. Internet Website The Corporation maintains a website at www.myprovident.com. The information contained on that website is not included as a part of, or incorporated by reference into, this Form 10-K. Other than an investor’s own internet access charges, the Corporation makes available free of charge through that website the Corporation’s annual report, quarterly reports on Form 10-Q and current reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable after these materials have been electronically filed with, or furnished to, the Securities and Exchange Commission (“SEC”). In addition, the SEC maintains a website that contains reports, proxy and information statements, and other information regarding companies that file electronically with the SEC. This information is available at www.sec.gov. Lending Activities General. The lending activity of the Bank is comprised of the origination of single-family, multi-family and commercial real estate loans and, to a lesser extent, construction, commercial business, consumer and other mortgage loans to be held for investment. Additional lending activities have included originating saleable single-family loans, primarily fixed-rate first mortgages. The Bank’s net loans held for investment were $902.8 million at June 30, 2020, representing 76.7% of consolidated total assets. This compares to $879.9 million, or 81.1% of consolidated total assets, at June 30, 2019. At June 30, 2020, the maximum amount that the Bank could have loaned to any one borrower and the borrower’s related entities under applicable regulations was $18.8 million, or 15% of the Bank’s unimpaired capital and surplus. At June 30, 2020, the Bank had no loans or group of loans to related borrowers with outstanding balances in excess of this amount. The Bank’s five largest lending relationships at June 30, 2020 consisted of: two multi-family loans totaling $4.5 million to one group of borrowers; two single-family loans totaling $4.4 million to one group of borrowers; one multi-family loan totaling $4.4 million to one group of borrowers; one multi-family and one commercial real estate loan totaling $4.4 million to one group of borrowers; and one commercial real estate loan totaling $4.2 million to one group of borrowers. The real estate collateral for these loans is located in Southern California. At June 30, 2020, all of these loans were performing in accordance with their repayment terms. On February 4, 2019, the Corporation announced that it was in the best interests of the Corporation to scale back saleable single-family mortgage loan originations and improve on its efforts to increase the volume of portfolio single-family mortgage loan originations and purchases. For additional information, see “Loan Originations” and “Critical Accounting Policies” in this Form 10-K. 3 Loans Held For Investment Analysis . The following table sets forth the composition of the Bank’s loans held for investment at the dates indicated: At June 30, 2020 2019 2018 2017 2016 (Dollars In Thousands) Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent Mortgage loans: Single-family $ 298,810 33.04 % $ 324,952 36.87 % $ 314,808 34.80 % $ 322,197 35.51 % $ 324,497 38.44 % Multi-family 491,903 54.38 439,041 49.81 476,008 52.63 479,959 52.89 415,627 49.23 Commercial real estate 105,235 11.64 111,928 12.70 109,726 12.13 97,562 10.75 99,528 11.79 Construction 7,801 0.86 4,638 0.53 3,174 0.35 6,994 0.77 3,395 0.40 Other 143 0.02 167 0.02 167 0.02 — — 332 0.04 Total mortgage loans 903,892 99.94 880,726 99.93 903,883 99.93 906,712 99.92 843,379 99.90 Commercial business loans 480 0.05 478 0.05 500 0.06 576 0.07 636 0.08 Consumer loans 94 0.01 134 0.02 109 0.01 129 0.01 203 0.02 Total loans held for investment, gross 904,466 100.00 % 881,338 100.00 % 904,492 100.00 % 907,417 100.00 % 844,218 100.00 % Advance payments of escrows 68 53 18 61 56 Deferred loan costs, net 6,527 5,610 5,560 5,480 4,418 Allowance for loan losses (8,265 ) (7,076 ) (7,385 ) (8,039 ) (8,670 ) Total loans held for investment, net $ 902,796 $ 879,925 $ 902,685 $ 904,919 $ 840,022 4 Maturity of Loans Held for Investment . The following table sets forth information at June 30, 2020 regarding the dollar amount of principal payments becoming contractually due during the periods indicated for loans held for investment. Demand loans, loans having no stated schedule of principal payments, loans having no stated maturity, and overdrafts are reported as becoming due within one year. The table does not include any estimate of prepayments, which can significantly shorten the average life of loans held for investment and may cause the Bank’s actual principal payment experience to differ materially from that shown below: (In Thousands) Within One Year After One Year Through 3 Years After 3 Years Through 5 Years After 5 Years Through 10 Years Beyond 10 Years Total Mortgage loans: Single-family $ — $ 927 $ 1,069 $ 3,771 $ 293,043 $ 298,810 Multi-family — 154 — 24,622 467,127 491,903 Commercial real estate 215 5,996 13,696 73,878 11,450 105,235 Construction 6,347 — — — 1,454 7,801 Other — 143 — — — 143 Commercial business loans 65 120 15 280 — 480 Consumer loans 94 — — — — 94 Total loans held for investment, gross $ 6,721 $ 7,340 $ 14,780 $ 102,551 $ 773,074 $ 904,466 The following table sets forth the dollar amount of all loans held for investment due after June 30, 2020 which have fixed and floating or adjustable interest rates: (Dollars In Thousands) Fixed-Rate % (1) Floating or Adjustable Rate % (1) Mortgage loans: Single-family $ 8,231 3 % $ 290,579 97 % Multi-family 156 — % 491,747 100 % Commercial real estate 340 — % 104,680 100 % Construction — — % 1,454 100 % Other 143 100 % — — % Commercial business loans 330 80 % 85 20 % Total loans held for investment, gross $ 9,200 1 % $ 888,545 99 % (1) As a percentage of each category. Scheduled contractual principal payments of loans do not reflect the actual life of such assets. The average life of loans is generally substantially less than their contractual terms because of prepayments. In addition, due-on-sale clauses generally give the Bank the right to declare loans immediately due and payable in the event, among other things, the borrower sells the real property that secures the loan. The average life of mortgage loans tends to increase, however, when current market interest rates are substantially higher than the interest rates on existing loans held for investment and, conversely, decrease when the interest rates on existing loans held for investment are substantially higher than current market interest rates, as borrowers are generally less inclined to refinance their loans when market rates increase and more inclined to refinance their loans when market rates decrease. 5 The table below describes the geographic dispersion of real estate secured loans held for investment (gross) at June 30, 2020 and 2019, as a percentage of the total dollar amount outstanding (dollars in thousands): As of June 30, 2020: Inland Empire Southern California (1) Other California Other States Total Loan Category Balance % Balance % Balance % Balance % Balance % Single-family $ 82,019 28 % $ 140,888 47 % $ 75,372 25 % $ 531 — % $ 298,810 100 % Multi-family 66,427 14 % 321,556 65 % 103,609 21 % 311 — % 491,903 100 % Commercial real estate 23,501 22 % 47,484 45 % 34,250 33 % — — % 105,235 100 % Construction 1,115 14 % 5,190 67 % 1,496 19 % — — % 7,801 100 % Other — — % 143 100 % — — % — — % 143 100 % Total $ 173,062 19 % $ 515,261 57 % $ 214,727 24 % $ 842 — % $ 903,892 100 % (1) Other than the Inland Empire. As of June 30, 2019: Inland Empire Southern California (1) Other California Other States Total Loan Category Balance % Balance % Balance % Balance % Balance % Single-family $ 104,967 33 % $ 146,963 45 % $ 71,997 22 % $ 1,025 — % $ 324,952 100 % Multi-family 70,241 16 % 272,282 62 % 96,192 22 % 326 — % 439,041 100 % Commercial real estate 30,551 27 % 54,010 48 % 27,367 25 % — — % 111,928 100 % Construction 525 11 % 3,579 77 % 534 12 % — — % 4,638 100 % Other — — % — — % 167 100 % — — % 167 100 % Total $ 206,284 24 % $ 476,834 54 % $ 196,257 22 % $ 1,351 — % $ 880,726 100 % (1) Other than the Inland Empire. Single-Family Mortgage Loans . One of the Bank’s primary lending activity is the origination and purchase of adjustable rate mortgage loans to be held for investment secured by first mortgages on owner-occupied, single-family (one to four units) residences in the communities where the Bank’s branches are located and surrounding areas in Southern and Northern California. During fiscal 2020 the Bank originated $36.4 million and purchased $70.7 million of single-family loans to be held for investment, all of which were underwritten in accordance with the Bank’s origination guidelines. This compares to single-family loan originations of $55.4 million and purchases of $33.3 million during fiscal 2019. At June 30, 2020, total single-family loans held for investment decreased 8% to $298.8 million, or 33.0% of the total loans held for investment, from $325.0 million, or 36.9% of the total loans held for investment, at June 30, 2019. The decrease in the single-family loans in fiscal 2020 was primarily attributable to loan principal payments that exceeded new loans originated and purchased for investment. During fiscal 2020, the Bank had net recoveries of $69,000 in non-performing single-family loans, as compared to net recoveries of $167,000 during fiscal 2019. At June 30, 2020 and 2019, total non-performing single-family loans were $4.9 million and $5.2 million, net of allowances and charge-offs, respectively, and $219,000 and $660,000 were past due 30 to 89 days, respectively. The Bank has underwriting standards that generally conform with the standards of governmental sponsored entities (“GSE”) including Fannie Mae and Freddie Mac. Mortgage insurance is usually required for all loans exceeding 80% loan-to-value (“LTV”) based on the lower of the purchase price or appraised value at the time of loan origination. The Bank is not currently offering loans with LTV ratios greater than 80% and is requiring lender-paid mortgage insurance for LTV ratios between 70.01% and 80.00%. The ratio is derived by dividing the original loan balance by the lower of the original appraised value or purchase price of the real estate collateral. Currently, the maximum LTV ratio is 80% for purchase and rate and term refinances and 65% for cash-out refinances. The maximum loan amount offered is $1.5 million for a purchase or rate and term refinance 6 and $1.0 million for a cash-out refinance. The lowest FICO score currently offered is 690 for a purchase transaction and 720 for a cash-out transaction. The FICO score represents the creditworthiness of a borrower based on the borrower’s credit history, as reported by an independent third party. A higher FICO score indicates a greater degree of creditworthiness. Bank regulators have issued guidance stating that a FICO score of 660 and below is indicative of a “subprime” borrower. The Bank currently lends on single-family residential 1-2 unit properties, planned unit developments and condominiums. The Bank typically conforms its underwriting standards to GSE policies in place at the time of underwriting which are applicable to the particular loan. These standards may change at any time, given changes in real estate market conditions or changes to GSE policies and guidelines. For additional protection, the Bank purchases lender-paid mortgage insurance for certain single-family mortgage loans. As of June 30, 2020, a total of $40.0 million of single-family mortgage loans with an 83% weighted average LTV at the time of origination have lender-paid mortgage insurance providing a weighted average coverage ratio of 12% of the original loan amount. The Bank offers closed-end, fixed-rate home equity loans that are secured by the borrower’s primary residence. These loans do not exceed 80% of the appraised value of the residence and have terms of up to 15 years requiring monthly payments of principal and interest. At June 30, 2020, home equity loans amounted to $5.3 million or 1.8% of single-family loans held for investment, as compared to $11.0 million or 3.4% of single-family loans held for investment at June 30, 2019. The Bank offers adjustable rate mortgage (“ARM”) loans at rates and terms competitive with market conditions. Substantially all of the ARM loans originated by the Bank meet GSE underwriting standards. The Bank offers several ARM products, which adjust monthly, semi-annually, or annually after an initial fixed period ranging from one month to ten years subject to a limitation on the annual increase of one to two percentage points and an overall limitation of three to six percentage points. The following indexes, plus a margin of 2.00% to 3.25%, are used to calculate the periodic interest rate changes: the London Interbank Offered Rate (“LIBOR”), the FHLB Eleventh District cost of funds (“COFI”), the 12-month average U.S. Treasury (“12 MAT”) or the weekly average yield on one year U.S. Treasury securities adjusted to a constant maturity of one year (“CMT”). Loans based on the LIBOR index constitute a majority of the Bank’s loans held for investment. The majority of the ARM loans held for investment have five, seven, or ten-year fixed periods prior to the first adjustment (“5/1, 7/1, or 10/1 hybrids”) and provide for fully amortizing loan payments throughout the term of the loan. Loans of this type have embedded interest rate risk if interest rates should rise during the initial fixed rate period. Prior to fiscal 2009, the Bank offered stated income single-family mortgage loans. As of June 30, 2020 and 2019, the outstanding balance of the stated income single-family mortgage loans was $38.5 million and $52.6 million, respectively, of which $1.8 million and $2.1 million, respectively were non-performing, while no loans were 30-89 days delinquent at June 30, 2020 and $660,000 were 30-89 days delinquent at June 30, 2019. Borrower demand for ARM loans versus fixed-rate mortgage loans is a function of the level of interest rates, the expectations of changes in the level of interest rates and the difference between the initial interest rates and fees charged for each type of loan. The relative amount of fixed-rate mortgage loans and ARM loans that can be originated at any time is largely determined by the demand for each product in a given interest rate and competitive environment. Given the recent low-rate market environment, the production of ARM loans was significantly lower than fixed rate mortgages. The retention of ARM loans, rather than fixed-rate loans, helps to reduce the Bank’s exposure to changes in interest rates. There is, however, unquantifiable credit risk resulting from the potential of increased interest charges to be paid by the borrower as a result of increases in interest rates. It is possible that, during periods of rising interest rates, the risk of default on ARM loans may increase as a result of the increase in the required payment from the borrower. Furthermore, the risk of default may increase because ARM loans originated by the Bank occasionally provide, as a marketing incentive, for initial rates of interest below those rates that would apply if the adjustment index plus the applicable margin were initially used for pricing. Because of these characteristics, ARM loans are subject to increased risks of default or delinquency. Additionally, while ARM loans allow the Bank to increase the sensitivity of its assets as a result of changes in interest rates, the extent of this interest rate sensitivity is limited by the periodic and lifetime interest rate adjustment limits. Furthermore, because loan indexes may not respond perfectly to changes in market interest rates, upward adjustments on loans may occur more slowly than increases in the Bank’s cost of interest-bearing liabilities, especially during periods of rapidly increasing interest 7 rates. Conversely, market downward adjustments on the Bank’s cost of funds typically lag adjustments on ARM loans which may occur more rapidly during periods of declining interest rates. For additional information concerning the effect of interest rates on its loan portfolio, see Item 7A, “Quantitative and Qualitative Disclosures about Market Risk” of this Form 10-K. The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) requires lenders to make a reasonable, good faith determination of a borrower’s ability to repay any consumer closed-end credit transaction secured by a dwelling and to limit prepayment penalties. Increased risks of legal challenge, private right of action and regulatory enforcement actions result from these rules. The Bank may originate loans that do not meet the definition of a “qualified mortgage” (“QM”). To mitigate the risks involved with non-QM loans, the Bank has implemented systems, processes, procedural and product changes, and maintains its underwriting standards, to ensure that the “ability-to-repay” requirements of the new rules are adequately addressed. A decline in real estate values subsequent to the time of origination of real estate secured loans could result in higher loan delinquency levels, foreclosures, provisions for loan losses and net charge-offs. Real estate values and real estate markets are beyond the Bank’s control and are generally affected by changes in national, regional or local economic conditions and other factors. These factors include fluctuations in interest rates and the availability of loans to potential purchasers, housing supply and demand, changes in tax laws and other governmental statutes, regulations and policies and acts of nature, such as earthquakes, fires and other natural disasters particular to California where substantially all of its real estate collateral is located. If real estate values decline from the levels at the time of loan origination, the value of its real estate collateral securing the loans could be significantly reduced. The Bank’s ability to recover on defaulted loans by foreclosing and selling the real estate collateral would then be diminished and it would be more likely to suffer losses on defaulted loans. Multi-Family and Commercial Real Estate Mortgage Loans . At June 30, 2020, multi-family mortgage loans were $491.9 million and commercial real estate loans were $105.2 million, or 54.4% and 11.6%, respectively, of loans held for investment. This compares to multi-family mortgage loans of $439.0 million and commercial real estate loans of $111.9 million, or 49.8% and 12.7%, respectively, of loans held for investment at June 30, 2019. Consistent with its strategy to diversify the composition of loans held for investment, the Bank has made the origination and purchase of multi-family and commercial real estate loans a priority. During fiscal 2020 the Bank originated $65.5 million and purchased $71.3 million of multi-family and commercial real estate loans, all of which were underwritten in accordance with the Bank’s origination guidelines. This compares to loan originations of $57.6 million and loan purchases of $17.8 million during fiscal 2019. At June 30, 2020, the Bank had 660 multi-family and 143 commercial real estate loans in loans held for investment. This compares to 644 multi-family and 146 commercial real estate loans in loans held for investment at June 30, 2019. Multi-family mortgage loans originated by the Bank are predominately adjustable rate loans, including 1/1, 3/1, 5/1 and 7/1 hybrids, with a term to maturity of 10 to 30 years and a 25 to 30 year amortization schedule. Commercial real estate loans originated by the Bank are also predominately adjustable rate loans, including 1/1, 3/1 and 5/1 hybrids, with a term to maturity of 10 to 30 years and a 25 to 30 year amortization schedule. Rates on multi-family and commercial real estate ARM loans generally adjust monthly, quarterly, semi-annually or annually at a specific margin over the respective interest rate index, subject to period interest rate caps and life-of-loan interest rate caps. At June 30, 2020, $464.5 million, or 94.4%, of the Bank’s multi-family loans were secured by five to 36 unit projects. The Bank’s commercial real estate loan portfolio generally consists of loans secured by small office buildings, light industrial buildings, warehouses and small retail centers. Properties securing multi-family and commercial real estate loans are primarily located in Alameda, Los Angeles, Orange, Riverside, San Bernardino, San Diego, San Francisco and Santa Clara counties. The Bank originates multi-family and commercial real estate loans in amounts typically ranging from $350,000 to $6.0 million. At June 30, 2020, the Bank had 66 commercial real estate and multi-family loans with principal balances greater than $1.5 million totaling $155.0 million. The Bank obtains appraisals on all properties that secure multi-family and commercial real estate loans. Underwriting of multi-family and commercial real estate loans includes, among other considerations, a thorough analysis of the cash flows generated by the property to support the debt service and the financial resources, experience and the income level of the borrowers and guarantors. Multi-family and commercial real estate loans afford the Bank an opportunity to price the loans with higher interest rates than those generally available from single-family mortgage loans. However, loans secured by such properties are generally greater 8 in amount, more difficult to evaluate and monitor and are more susceptible to default as a result of general economic conditions and, therefore, involve a greater degree of risk than single-family residential mortgage loans. Because payments on loans secured by multi-family and commercial real estate properties are often dependent on the successful operation and management of the properties, repayment of such loans may be impacted by adverse conditions in the real estate market or the economy. During both fiscal 2020 and 2019, the Bank had no charge-offs or recoveries on non-performing multi-family and commercial real estate loans. At June 30, 2020 or 2019, there were no non-performing multi-family and commercial real estate loans and none were past due 30 to 89 days. Non-performing loans and/or delinquent loans may increase if there is a general decline in California real estate markets and in the event poor general economic conditions prevail. Construction Loans. The Bank originates from time to time two types of construction loans: short-term construction loans and construction/permanent loans. During fiscal 2020 and 2019, the Bank originated a total of $4.0 million and $7.2 million of construction loans (including undisbursed loan funds), respectively. As of June 30, 2020 and 2019, the Bank had short-term construction loans totaling $6.3 million and $4.2 million, respectively, and construction/permanent loans totaling $1.5 million and $410,000, respectively, net of undisbursed loan funds of $4.0 million and $6.6 million, respectively. Short-term construction loans include three types of loans: custom construction, tract construction, and speculative construction. The Bank provides construction financing for single-family, multi-family and commercial real estate properties. Custom construction loans are made to individuals who, at the time of application, have a contract executed with a builder to construct their residence. Custom construction loans are generally originated for a term of 12 to 18 months, with fixed interest rates at the prime lending rate plus a margin and with loan-to-value ratios of up to 75% of the appraised value of the completed property. The owner secures long-term permanent financing at the completion of construction. At June 30, 2020, there were three custom single-family construction loans totaling $2.1 million with $376,000 of undisbursed funds. This compares to June 30, 2019 when the Bank had two custom single-family construction loans totaling $1.6 million with $916,000 of undisbursed funds. The Bank makes tract construction loans to subdivision builders. These subdivisions are usually financed and built in phases. A thorough analysis of market trends and demand within the area are reviewed for feasibility. Tract construction may include the building and financing of model homes under a separate loan. The terms for tract construction loans are generally 12 months with interest rates fixed at a margin above the prime lending rate. At June 30, 2020, there were no tract construction loans. Speculative construction loans are made to home builders and are termed “speculative” because the home builder does not have, at the time of loan origination, a signed sale contract with a home buyer who has a commitment for permanent financing with either the Bank or another lender for the finished home. The home buyer may be identified during or after the construction period. The builder may be required to debt service the speculative construction loan for a significant period of time after the completion of construction until the homebuyer is identified. At June 30, 2020, there were three single-family speculative construction loans of $2.6 million with $828,000 of undisbursed funds. This compares to June 30, 2019 when the Bank had one single-family speculative construction loan totaling $716,000 with $529,000 of undisbursed funds. Construction/permanent loans automatically roll from the construction to the permanent phase. The construction phase of a construction/permanent loan generally lasts nine to 12 months and the interest rate charged is generally fixed at a margin above prime rate and with a loan-to-value ratio of up to 75% of the appraised value of the completed property. At June 30, 2020, there were $1.5 million of construction/permanent loans as compared to $410,000 of construction/permanent loans at June 30, 2019. Construction loans under $1.0 million are approved by Bank personnel specifically designated to approve construction loans. The Bank’s Loan Committee, comprised of the Chief Executive Officer, Chief Lending Officer, Chief Financial Officer, Senior Vice President – Single-Family Division and Vice President - Loan Administration, approves all construction loans over $1.0 million. Prior to approval of any construction loan, an independent fee appraiser inspects the site and the Bank reviews the existing or proposed improvements, identifies the market for the proposed project, and analyzes the pro-forma data and assumptions on the project. In the case of a tract or speculative construction loan, the Bank reviews the experience and expertise of the builder. The Bank obtains credit reports, financial statements and tax returns on the borrowers and guarantors, 9 an independent appraisal of the project, and any other expert report necessary to evaluate the proposed project. In the event of cost overruns, the Bank requires the borrower to deposit their own funds into a loan-in-process account, which the Bank disburses consistent with the completion of the subject property pursuant to a revised disbursement schedule. The construction loan documents require that construction loan proceeds be disbursed in increments as construction progresses. Disbursements are based on periodic on-site inspections by independent inspectors and Bank personnel. At inception, the Bank also requires borrowers to deposit funds into the loan-in-process account covering the difference between the actual cost of construction and the loan amount. The Bank regularly monitors the construction loan portfolio, economic conditions and housing inventory. The Bank’s property inspectors perform periodic inspections. The Bank believes that the internal monitoring system helps reduce many of the risks inherent in its construction loans. Construction loans afford the Bank the opportunity to achieve higher interest rates and fees with shorter terms to maturity than its single-family mortgage loans. Construction loans, however, are generally considered to involve a higher degree of risk than single-family mortgage loans because of the inherent difficulty in estimating both a property’s value at completion of the project and the cost of the project. The nature of these loans is such that they are generally more difficult to evaluate and monitor. If the estimate of construction costs proves to be inaccurate, the Bank may be required to advance funds beyond the amount originally committed to permit completion of the project. If the estimate of value upon completion proves to be inaccurate, the Bank may be confronted with a project whose value is insufficient to assure full repayment. Projects may also be jeopardized by disagreements between borrowers and builders and by the failure of builders to pay subcontractors. Loans to builders to construct homes for which no purchaser has been identified carry additional risk because the payoff for the loan depends on the builder’s ability to sell the property prior to the time that the construction loan matures. The Bank has sought to address these risks by adhering to strict underwriting policies, disbursement procedures and monitoring practices. In addition, because the Bank’s construction lending is in its primary market area, changes in the local or regional economy and real estate market could adversely affect the Bank’s construction loans held for investment. During fiscal 2020, the Bank had no charge-offs or recoveries and no loans were non-performing or 30-89 days delinquent at June 30, 2020. During fiscal 2019, the Bank had no charge-offs or recoveries, but had one loan totaling $971,000 that was non-performing and no loans were 30-89 days delinquent at June 30, 2019. Participation Loan Purchases and Sales. In an effort to expand production and diversify risk, the Bank purchases loans and loan participations, with collateral primarily in California, which allows for greater geographic distribution outside of the Bank’s primary lending areas. The Bank generally purchases between 50% and 100% of the total loan amount. When the Bank purchases a participation loan, the lead lender will usually retain a servicing fee, thereby decreasing the loan yield. This servicing fee approximates the expense the Bank would incur if the Bank were to service the loan. All properties serving as collateral for loan participations are inspected by an employee of the Bank or a third party inspection service prior to being approved by the Loan Committee and the Bank relies upon the same underwriting criteria required for those loans originated by the Bank. The Bank purchased $142.1 million of loans to be held for investment (primarily single-family and multi-family loans) in fiscal 2020, compared to $51.1 million of purchased loans to be held for investment (primarily single-family and multi-family loans) in fiscal 2019. As of June 30, 2020, total loans serviced by other financial institutions were $23.9 million, as compared to $33.9 million at June 30, 2019. As of June 30, 2020, all loans serviced by others were performing according to their original contractual payment terms, except for two loans that were in forbearance pursuant to a loan modification consistent with the Coronavirus Aid, Relief, and Economic Security Act of 2020, (“CARES Act”) signed into law on March 27, 2020 and/or the April 7, 2020 Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus (“Interagency Statement”). The CARES Act and Interagency Statement provided guidance around the modification of loans as a result of the COVID-19 pandemic, and outlined, among other criteria, that short-term modifications made on a good faith basis to borrowers who were current as defined under the CARES Act and/or Interagency Statement prior to any relief, are not troubled debt restructurings. For additional information related to loan modifications as a result of the COVID-19 pandemic, see “Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations – COVID-19 Impact to the Corporation.” The Bank also sells participating interests in loans when it has been determined that it is beneficial to diversify the Bank’s risk. Participation sales enable the Bank to maintain acceptable loan concentrations and comply with the Bank’s loans to one 10 borrower policy. Generally, selling a participating interest in a loan increases the yield to the Bank on the portion of the loan that is retained. The Bank did not sell any participation loans in fiscal 2020 or fiscal 2019. Commercial Business Loans . The Bank has a Business Banking Department that primarily serves businesses located within the Inland Empire. Commercial business loans allow the Bank to diversify its lending and increase the average loan yield. As of June 30, 2020, commercial business loans were $480,000, or 0.1% of loans held for investment, a slight increase from $478,000, or 0.1% of loans held for investment at June 30, 2019. These loans represent secured and unsecured lines of credit and term loans secured by business assets. Commercial business loans are generally made to customers who are well known to the Bank and are generally secured by accounts receivable, inventory, business equipment and/or other assets. The Bank’s commercial business loans may be structured as term loans or as lines of credit. Lines of credit are made at variable rates of interest equal to a negotiated margin above the prime rate and term loans are at a fixed or variable rate. The Bank may also require personal guarantees from financially capable parties associated with the business based on a review of personal financial statements. Commercial business term loans are generally made to finance the purchase of assets and have maturities of five years or less. Commercial lines of credit are typically made for the purpose of providing working capital and are usually approved with a term of one year or less. Commercial business loans involve greater risk than residential mortgage loans and involve risks that are different from those associated with residential and commercial real estate loans. Real estate loans are generally considered to be collateral based lending with loan amounts based on predetermined loan to collateral value and liquidation of the underlying real estate collateral is viewed as the primary source of repayment in the event of borrower default. Although commercial business loans are often collateralized by equipment, inventory, accounts receivable or other business assets including real estate, the liquidation of collateral in the event of a borrower default is often an insufficient source of repayment because accounts receivable may not be collectible and inventories and equipment may be obsolete or of limited use. Accordingly, the repayment of a commercial business loan depends primarily on the creditworthiness of the borrower (and any guarantors), while liquidation of collateral is secondary and oftentimes an insufficient source of repayment. At June 30, 2020 and 2019, the Bank had $31,000 and $41,000 of non-performing commercial business loans, respectively, net of allowances and charge-offs. During fiscal 2020 or 2019, the Bank had no charge-offs or recoveries on commercial business loans. Consumer Loans. At June 30, 2020 and 2019, the Bank’s consumer loans were $94,000 and $134,000, respectively, or less than 0.1% of the Bank’s loans held for investment at these dates. The Bank offers open-ended lines of credit on either a secured or unsecured basis. The Bank offers secured savings lines of credit which have an interest rate that is four percentage points above the COFI, which adjusts monthly. There were no secured savings lines of credit at June 30, 2020 and 2019. Consumer loans potentially have a greater risk than residential mortgage loans, particularly in the case of loans that are unsecured. Consumer loan collections are dependent on the borrower’s ongoing financial stability, and thus are more likely to be adversely affected by job loss (especially now as a result of the COVID-19 pandemic), illness or personal bankruptcy. Furthermore, the application of various federal and state laws, including federal and state bankruptcy and insolvency laws, may limit the amount that can be recovered on such loans. The Bank had no non-performing consumer loans at June 30, 2020 and 2019. During fiscal 2020, the Bank had $1,000 of net recoveries on consumer loans, as compared to net charge-offs of $1,000 during fiscal 2019. Loans Originations, Purchases, Sales and Repayments Mortgage loans are originated for both investment and prior to scaling back originations of saleable single-family fixed-rate mortgage loans during fiscal 2019, a large amount of single-family fixed-rate mortgage loans were originated for sale to institutional investors. Mortgage loans sold to investors generally were sold without recourse other than standard representations and warranties. Generally, mortgage loans sold to Fannie Mae and Freddie Mac were sold on a non-recourse basis and foreclosure losses are generally the responsibility of the purchaser and not the Bank, except in the case of Federal Housing Administration (“FHA”) and Veterans’ Administration (“VA”) used to form Government National Mortgage 11 Association pools, which are subject to limitations on the FHA’s and VA’s loan guarantees. For additional information, see Note 1 of the Notes to Consolidated Financial Statements, “Organization and Summary of Significant Accounting Policies,” under the subheading “Loans originated and held for sale” included in Item 8 of this Form 10-K. The following table shows the Bank’s loan originations, purchases, sales and principal repayments during the periods indicated: Year Ended June 30, (In Thousands) 2020 2019 2018 Loans originated for sale: Retail originations $ — $ 296,992 $ 679,504 Wholesale originations — 170,102 506,492 Total loans originated for sale — 467,094 1,185,996 Loans sold: Servicing released — (551,754 ) (1,174,618 ) Servicing retained — (7,196 ) (27,566 ) Total loans sold — (558,950 ) (1,202,184 ) Loans originated for investment: Mortgage loans: Single-family 36,427 55,410 90,434 Multi-family 51,022 42,191 66,355 Commercial real estate 14,468 15,402 24,749 Construction 3,983 7,159 4,667 Other 143 — 167 Consumer loans 1 — 4 Total loans originated for investment 106,044 120,162 186,376 Loans purchased for investment: Mortgage loans: Single-family 70,733 33,256 — Multi-family 71,344 16,645 12,654 Commercial real estate — 1,157 868 Total loans purchased for investment 142,077 51,058 13,522 Loan principal repayments (228,250 ) (195,386 ) (208,503 ) Real estate acquired in the settlement of loans — — (2,171 ) Increase (decrease) in other items, net (1) 3,000 (3,036 ) 4,480 Net increase (decrease) in loans held for investment and loans held for sale at fair value $ 22,871 $ (119,058 ) $ (22,484 ) (1) Includes net changes in undisbursed loan funds, deferred loan fees or costs, allowance for loan losses, fair value of loans held for investment, fair value of loans held for sale, advance payments of escrows and repurchases. 12 Loan Servicing The Bank receives fees from a variety of investors in return for performing the traditional services of collecting individual loan payments on loans sold by the Bank to such investors. At June 30, 2020, the Bank was servicing $86.5 million of loans for others, a 28% decrease from $120.2 million at June 30, 2019. The decrease was attributable to loan prepayments, and no loans sold with servicing retained during fiscal 2020. Loan servicing includes processing payments, accounting for loan funds and collecting and paying real estate taxes, hazard insurance and other loan-related items such as private mortgage insurance. After the Bank receives the gross mortgage payment from individual borrowers, it remits to the investor a predetermined net amount based on the loan sale agreement for that mortgage. Servicing assets are amortized in proportion to and over the period of the estimated net servicing income and are carried at the lower of cost or fair value. The fair value of servicing assets is determined by calculating the present value of the estimated net future cash flows consistent with contractually specified servicing fees. The Bank periodically evaluates servicing assets for impairment, which is measured as the excess of cost over fair value. This review is performed on a disaggregated basis, based on loan type and interest rate. Generally, loan servicing becomes more valuable when interest rates rise (as prepayments typically decrease) and less valuable when interest rates decline (as prepayments typically increase). In estimating fair values at June 30, 2020 and 2019, the Bank used a weighted average Constant Prepayment Rate (“CPR”) of 26.07% and 23.86%, respectively, and a weighted-average discount rate of 9.11% at both dates. The required impairment reserve against servicing assets at June 30, 2020 and 2019 was $291,000 and $298,000, respectively. In aggregate, servicing assets had a carrying value of $673,000 and a fair value of $382,000 at June 30, 2020, compared to a carrying value of $925,000 and a fair value of $627,000 at June 30, 2019. Delinquencies and Classified Assets Delinquent Loans . When a mortgage loan borrower fails to make a required payment when due, the Bank initiates collection procedures. In most cases, delinquencies are cured promptly; however, if the loan remains delinquent on the 120th day for single-family loans or the 90th day for other loans, or sooner if the borrower is chronically delinquent, and after all reasonable means of obtaining the payment have been exhausted, foreclosure proceedings, according to the terms of the security instrument and applicable law, are initiated. Interest income is reduced by the full amount of accrued and uncollected interest on such loans. The following table sets forth delinquencies in the Bank’s loans held for investment as of the dates indicated, gross of collectively and individually evaluated allowances, if any: At June 30, 2020 2019 2018 30 – 89 Days Non-performing 30 - 89 Days Non-performing 30 - 89 Days Non-performing (Dollars In Thousands) Number of Loans Principal Balance of Loans Number of Loans Principal Balance of Loans Number of Loans Principal Balance of Loans Number of Loans Principal Balance of Loans Number of Loans Principal Balance of Loans Number of Loans Principal Balance of Loans Mortgage loans: Single-family 1 $ 219 18 $ 5,318 2 $ 660 20 $ 5,640 1 $ 804 21 $ 6,141 Construction — — — — — — 1 971 — — — — Commercial business loans — — 1 35 — — 1 49 — — 1 70 Consumer loans (1) 15 — — — 61 5 — — 2 1 — — Total 16 $ 219 19 $ 5,353 63 $ 665 22 $ 6,660 3 $ 805 22 $ 6,211 (1) At June 30, 2020 and 2019, the balance includes 15 and 61 overdrawn consumer deposit accounts, respectively, which were not reported on June 30, 2018 due to immateriality. 13 As of June 30, 2020, total non-performing assets, net of allowance for loan losses and fair value adjustments, were $4.9 million, or 0.42% of total assets, which was primarily comprised of: 18 single-family loans ($4.9 million); one commercial business loan ($31,000); and no real estate owned (“REO”). As of June 30, 2020, 33%, or $1.6 million of non-performing loans had a current payment status. This compares to total non-performing assets, net of allowance for loan losses and fair value adjustments, of $6.2 million, or 0.57% of total assets, with $4.4 million, or 70%, of non-performing loans with a current payment status at June 30, 2019 and no REO. The following table sets forth information with respect to the Bank’s non-performing assets and troubled debt restructurings (“restructured loans”), net of allowance for loan losses and fair value adjustments, at the dates indicated: At June 30, (Dollars In Thousands) 2020 2019 2018 2017 2016 Loans on non-performing status (excluding restructured loans): Mortgage loans: Single-family $ 2,281 $ 3,315 $ 2,665 $ 4,668 $ 6,292 Multi-family — — — — 709 Commercial real estate — — — 201 — Construction — 971 — — — Total 2,281 4,286 2,665 4,869 7,001 Accruing loans past due 90 days or more — — — — — Restructured loans on non-performing status: Mortgage loans: Single-family 2,612 1,891 3,328 3,061 3,232 Commercial business loans 31 41 64 65 76 Total 2,643 1,932 3,392 3,126 3,308 Total non-performing loans 4,924 6,218 6,057 7,995 10,309 Real estate owned, net — — 906 1,615 2,706 Total non-performing assets $ 4,924 $ 6,218 $ 6,963 $ 9,610 $ 13,015 Non-performing loans as a percentage of loans held for investment, net 0.55 % 0.71 % 0.67 % 0.88 % 1.23 % Non-performing loans as a percentage of total assets 0.42 % 0.57 % 0.52 % 0.67 % 0.88 % Non-performing assets as a percentage of total assets 0.42 % 0.57 % 0.59 % 0.80 % 1.11 % The Bank assesses loans individually and classifies the loans as non-performing and substandard in accordance with regulatory requirements when the accrual of interest has been discontinued, loans have been restructured or management has serious doubts about the future collectability of principal and interest, even though the loans are currently performing. Factors considered in determining classification include, but are not limited to, expected future cash flows, collateral value, the financial condition of the borrower and current economic conditions. The Bank measures each non-performing loan based on ASC 310, “Receivables,” establishes a collectively evaluated or individually evaluated allowance and charges off those loans or portions of loans deemed uncollectible. 14 Restructured Loans. A troubled debt restructuring is a loan which the Bank, for reasons related to a borrower’s financial difficulties, grants a concession to the borrower that the Bank would not otherwise consider. The loan terms which have been modified or restructured due to a borrower’s financial difficulty, include but are not limited to: • A reduction in the stated interest rate; • An extension of the maturity at an interest rate below market; • A reduction in the accrued interest; and • Extensions, deferrals, renewals and rewrites. To qualify for restructuring, a borrower must provide evidence of their creditworthiness such as, current financial statements, their most recent income tax returns, current paystubs, current W-2s, and most recent bank statements, among other documents, which are then verified by the Bank. The Bank re-underwrites the loan with the borrower’s updated financial information, new credit report, current loan balance, new interest rate, remaining loan term, updated property value and modified payment schedule, among other considerations, to determine if the borrower qualifies. For the fiscal year ended June 30, 2020, there were two loans that were newly modified from their original terms, re-underwritten or identified as a restructured loan; one loan (previously modified) was downgraded to the substandard category; while one loan was upgraded from the special mention to pass category; two substandard loans were paid off; and no loans were converted to REO. For the fiscal year ended June 30, 2019, there were no loans that were newly modified from their original terms, re-underwritten or identified as a restructured loan; one loan (previously modified) was downgraded; while three loans were upgraded to the pass category; one loan was paid off; and no loans were converted to REO. During the fiscal years ended June 30, 2020 and 2019, no restructured loans were in default within a 12-month period subsequent to their original restructuring. Additionally, during the fiscal year ended June 30, 2020, there were no restructured loans that were extended beyond the initial maturity of the modification; while in fiscal 2019, there was one restructured loan of $56,000 that was extended beyond the initial maturity of the modification. As of June 30, 2020, the net outstanding balance of the Corporation’s eight restructured loans was $2.6 million: all eight loans were classified as substandard on non-accrual status. As of June 30, 2020, $1.7 million, or 65 percent, of the restructured loans were current with respect to their payment status, consistent with their modified terms. As of June 30, 2019, the net outstanding balance of the Corporation’s eight restructured loans was $3.8 million: one was classified as special mention on accrual status ($437,000); one was classified as substandard on accrual status ($1.4 million); and six were classified as substandard on non-accrual status ($1.9 million). As of June 30, 2020, $1.2 million, or 44 percent, of the restructured loans were current with respect to their payment status, consistent with their modified terms. The Bank upgrades restructured single-family loans to the pass category if the borrower has demonstrated satisfactory contractual payments for at least six consecutive months or 12 months for those loans that were restructured more than once and there is a reasonable assurance that the payments will continue. Once the borrower has demonstrated satisfactory contractual payments beyond 12 consecutive months, the loan is no longer categorized as a restructured loan. In March 2020, the Bank began offering short-term loan modifications to assist borrowers during the COVID-19 pandemic. The CARES Act and Interagency Statement provided that a short-term modification made in response to COVID-19 and which meets certain criteria does not need to be accounted for as a restructured loan. Accordingly, the Corporation does not account for such loan modifications as restructured loans. For additional information related to loan modifications as a result of the COVID-19 pandemic, see “Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations – COVID-19 Impact to the Corporation.” Other Loans of Concern. As of June 30, 2020, $8.6 million of loans which were not disclosed as non-performing loans were classified as special mention because known information about possible credit problems of the borrowers causes management to have some doubt as to the ability of such borrowers to comply with present loan repayment terms. Of these loans, $3.1 million were single-family mortgage loans, $3.8 million were multi-family mortgage loans and $1.7 million was a construction loan. As of June 30, 2019, $8.6 million of loans which were not disclosed as non-performing loans were classified as special 15 mention because known information about possible credit problems of the borrowers causes management to have some doubt as to the ability of such borrowers to comply with present loan repayment terms. Of these loans, $3.8 million were single-family mortgage loans, $3.9 million were multi-family mortgage loans and $927,000 was a commercial real estate loan. Foreclosed Real Estate. Real estate acquired by the Bank as a result of foreclosure or by deed-in-lieu of foreclosure is classified as REO until it is sold. When a property is acquired, it is recorded at its fair market value less the estimated cost of sale. Subsequent declines in value are charged to operations. As of June 30, 2020 and 2019, there was no REO property at both dates. In managing the real estate owned properties for quick disposition, the Bank completes the necessary repairs and maintenance to the individual properties before listing for sale, obtains new appraisals and broker price opinions (“BPO”) to determine current market listing prices, and engages local realtors who are most familiar with real estate sub-markets, among other techniques, which generally results in the quick disposition of real estate owned. Asset Classification. The OCC has adopted various regulations regarding the problem assets of savings institutions. The regulations require that each institution review and classify its assets on a regular basis. In addition, in connection with examinations of institutions, OCC examiners have the authority to identify problem assets and, if appropriate, require them to be classified. There are three classifications for problem assets: substandard, doubtful and loss. Substandard assets have one or more defined weaknesses and are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected. Doubtful assets have the weaknesses of substandard assets with the additional characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions and values questionable, and there is a high possibility of loss. An asset classified as a loss is considered uncollectible and of such little value that continuance as an asset of the institution is not warranted. If an asset or portion thereof is classified as loss, the institution establishes an individually evaluated allowance and may subsequently charge-off the amount of the asset classified as loss. A portion of the allowance for loan losses established to cover probable losses related to assets classified substandard or doubtful may be included in determining an institution’s regulatory capital. Assets that do not currently expose the institution to sufficient risk to warrant classification in one of the aforementioned categories but possess weaknesses are designated as special mention and are closely monitored by the Bank. Classified assets improved 13% to $14.1 million at June 30, 2020 from $16.2 million at June 30, 2019. The aggregate amounts of the Bank’s classified assets are primarily located in California. 16 The following table summarizes classified assets, which is comprised of classified loans, including loans classified by the Bank as special mention, net of allowance for loan losses, and REO at the dates indicated: At June 30, 2020 At June 30, 2019 (Dollars In Thousands) Balance Count Balance Count Special mention loans: Mortgage loans: Single-family $ 3,120 7 $ 3,795 13 Multi-family 3,777 3 3,864 3 Commercial real estate 1,703 1 927 1 Total special mention loans 8,600 11 8,586 17 Substandard loans: Mortgage loans: Single-family 5,438 22 6,631 23 Construction — — 971 1 Commercial business loans 31 1 41 1 Total substandard loans 5,469 23 7,643 25 Total classified loans 14,069 34 16,229 42 Real estate owned: Single-family — — — — Total real estate owned — — — — Total classified assets $ 14,069 34 $ 16,229 42 Total classified assets as a percentage of total assets 1.20 % 1.50 % Not all of the Bank’s classified assets are delinquent or non-performing. In determining whether the Bank’s assets expose the Bank to sufficient risk to warrant classification, the Bank may consider various factors, including the payment history of the borrower, the loan-to-value ratio, and the debt coverage ratio of the property securing the loan. After consideration of these and other factors, the Bank may determine that the asset in question, though not currently delinquent, presents a risk of loss that requires it to be classified or designated as special mention. In addition, the Bank’s loans held for investment may include single-family, commercial and multi-family real estate loans with a balance exceeding the current market value of the collateral which are not classified because they are performing and have borrowers who have sufficient resources to support the repayment of the loan. Allowance for Loan Losses. The allowance for loan losses is maintained to cover losses inherent in the loans held for investment. In originating loans, the Bank recognizes that losses will be experienced and that the risk of loss will vary with, among other factors, the type of loan being made, the creditworthiness of the borrower over the term of the loan, general economic conditions and, in the case of a secured loan, the quality of the collateral securing the loan. The responsibility for the review of the Bank’s assets and the determination of the adequacy of the allowance lies with the Internal Asset Review Committee (“IAR Committee”). The Bank adjusts its allowance for loan losses by charging (crediting) its provision (recovery) for loan losses against the Bank’s operations. The Bank has established a methodology for the determination of the provision for loan losses. The methodology is set forth in a formal policy and takes into consideration the need for a collectively evaluated allowance for groups of homogeneous loans 17 and an individually evaluated allowance that are tied to individual problem loans. The Bank’s methodology for assessing the appropriateness of the allowance consists of several key elements. The allowance is calculated by applying loss factors to the loans held for investment. The loss factors are applied according to loan program type and loan classification. The loss factors for each program type and loan classification are established based on an evaluation of the historical loss experience, prevailing market conditions, concentration in loan types and other relevant factors consistent with ASC 450, “Contingency”. Homogeneous loans, such as residential mortgage, home equity and consumer installment loans are considered on a pooled loan basis. A factor is assigned to each pool based upon expected charge-offs for one year. The factors for larger, less homogeneous loans, such as construction and commercial real estate loans, are based upon loss experience tracked over business cycles considered appropriate for the loan type. Collectively evaluated or individually evaluated allowances are established to absorb losses on loans for which full collectability may not be reasonably assured as prescribed in ASC 310. Estimates of identifiable losses are reviewed continually and, generally, a provision (recovery) for losses is charged (credited) against operations on a quarterly basis as necessary to maintain the allowance at an appropriate level. Management presents the minutes summarizing the actions of the IAR Committee to the Bank’s Board of Directors on a quarterly basis. Non-performing loans are charged-off to their fair market values in the period the loans, or portion thereof, are deemed uncollectible, generally after the loan becomes 150 days delinquent for real estate secured first trust deed loans and 120 days delinquent for commercial business or real estate secured second trust deed loans. For restructured loans, the charge-off occurs when the loan becomes 90 days delinquent; and where borrowers file bankruptcy, the charge-off occurs when the loan becomes 60 days delinquent. The amount of the charge-off is determined by comparing the loan balance to the estimated fair value of the underlying collateral, less disposition costs, with the loan balance in excess of the estimated fair value charged-off against the allowance for loan losses. The allowance for loan losses for non-performing loans is determined by applying Accounting Standards Codification (“ASC”) 310, “Receivables.” For restructured loans that are less than 90 days delinquent, the allowance for loan losses are segregated into (a) individually evaluated allowances for those loans with applicable discounted cash flow calculations still in their restructuring period, classified lower than pass, and containing an embedded loss component or (b) collectively evaluated allowances based on the aggregated pooling method. For non-performing loans less than 60 days delinquent where the borrower has filed bankruptcy, the collectively evaluated allowances are assigned based on the aggregated pooling method. For non-performing commercial real estate loans, an individually evaluated allowance is calculated based on the loan's fair value and if the fair value is higher than the loan balance, no allowance is required. The IAR Committee meets quarterly to review and monitor conditions in the portfolio and to determine the appropriate allowance for loan losses. To the extent that any of these conditions are apparent by identifiable problem loans or portfolio segments as of the evaluation date, the IAR Committee’s estimate of the effect of such conditions may be reflected as an individually evaluated allowance applicable to such loans or portfolio segments. Where any of these conditions is not apparent by specifically identifiable problem loans or portfolio segments as of the evaluation date, the IAR Committee’s evaluation of the probable loss related to such condition is reflected in the general allowance. The intent of the IAR Committee is to reduce the differences between estimated and actual losses. Pooled loan factors are adjusted to reflect current estimates of charge-offs for the subsequent 12 months. Loss activity is reviewed for non-pooled loans and the loss factors are adjusted, if necessary. By assessing the probable estimated losses inherent in the loans held for investment on a quarterly basis, the Bank is able to adjust specific and inherent loss estimates based upon the most recent information that has become available. At June 30, 2020, the Bank had an allowance for loan losses of $8.3 million, or 0.91% of gross loans held for investment, compared to an allowance for loan losses at June 30, 2019 of $7.1 million, or 0.80% of gross loans held for investment. A $1.1 million provision for loan losses was recorded in fiscal 2020, compared to a $475,000 recovery from the allowance for loan losses in fiscal 2019. The increase in the allowance for loan losses was due primarily to a qualitative reserve resulting from the COVID-19 pandemic and its continued and forecasted adverse economic impact. Although management believes the best information available is used to make such provision (recovery), future adjustments to the allowance for loan losses may be necessary and results of operations could be significantly and adversely affected if circumstances differ substantially from the assumptions used in making the determinations. 18 While the Bank believes that it has established its existing allowance for loan losses in accordance with GAAP, there can be no assurance that regulators, in reviewing the Bank’s loan portfolio, will not recommend that the Bank significantly increase its allowance for loan losses. In addition, because future events affecting borrowers and collateral cannot be predicted with certainty, including as a result of COVID-19 pandemic, there can be no assurance that the existing allowance for loan losses is adequate or that substantial increases will not be necessary. Any material increase in the allowance for loan losses may adversely affect the Bank’s financial condition and results of operations. The following table sets forth an analysis of the Bank’s allowance for loan losses for the periods indicated. Where individually evaluated allowances have been established, any differences between the individually evaluated allowances and the amount of loss realized has been charged or credited to current operations. Year Ended June 30, (Dollars In Thousands) 2020 2019 2018 2017 2016 Allowance at beginning of period $ 7,076 $ 7,385 $ 8,039 $ 8,670 $ 8,724 Provision (recovery) for loan losses 1,119 (475 ) (536 ) (1,042 ) (1,715 ) Recoveries: Mortgage Loans: Single-family 70 198 278 507 539 Multi-family — — — 18 1,228 Commercial real estate — — — — 216 Commercial business loans — — — 75 85 Consumer loans 2 2 — 13 1 Total recoveries 72 200 278 613 2,069 Charge-offs: Mortgage loans: Single-family (1 ) (31 ) (392 ) (199 ) (406 ) Consumer loans (1 ) (3 ) (4 ) (3 ) (2 ) Total charge-offs (2 ) (34 ) (396 ) (202 ) (408 ) Net recoveries (charge-offs) 70 166 (118 ) 411 1,661 Allowance at end of period $ 8,265 $ 7,076 $ 7,385 $ 8,039 $ 8,670 Allowance for loan losses as a percentage of gross loans held for investment 0.91 % 0.80 % 0.81 % 0.88 % 1.02 % Net (recoveries) charge-offs as a percentage of average loans receivable, net, during the period (0.01 )% (0.02 )% 0.01 % (0.04 )% (0.17 )% 19 The following table sets forth the breakdown of the allowance for loan losses by loan category at the periods indicated. Management believes that the allowance can be allocated by category only on an approximate basis. The allocation of the allowance is based upon an asset classification matrix. The allocation of the allowance to each category is not necessarily indicative of future losses and does not restrict the use of the allowance in one category to absorb losses in any other categories. At June 30, 2020 2019 2018 2017 2016 (Dollars In Thousands) Amount % of Loans in Each Category to Total Loans Amount % of Loans in Each Category to Total Loans Amount % of Loans in Each Category to Total Loans Amount % of Loans in Each Category to Total Loans Amount % of Loans in Each Category to Total Loans Mortgage loans: Single-family $ 2,622 33.04 % $ 2,709 36.87 % $ 2,783 34.80 % $ 3,601 35.51 % $ 4,933 38.44 % Multi-family 4,329 54.38 3,219 49.81 3,492 52.63 3,420 52.89 2,800 49.23 Commercial real estate 1,110 11.64 1,050 12.70 1,030 12.13 879 10.75 848 11.79 Construction 171 0.86 61 0.53 47 0.35 96 0.77 31 0.40 Other 3 0.02 3 0.02 3 0.02 — — 7 0.04 Commercial business loans 24 0.05 26 0.05 24 0.06 36 0.07 43 0.08 Consumer loans 6 0.01 8 0.02 6 0.01 7 0.01 8 0.02 Total allowance for loan losses $ 8,265 100.00 % $ 7,076 100.00 % $ 7,385 100.00 % $ 8,039 100.00 % $ 8,670 100.00 % Investment Securities Activities Federally chartered savings institutions are permitted under federal and state laws to invest in various types of liquid assets, including U.S. Treasury obligations, securities of various federal agencies and government sponsored enterprises and of state and municipal governments, deposits at the FHLB, certificates of deposit of federally insured institutions, certain bankers’ acceptances, mortgage-backed securities and federal funds. Subject to various restrictions, federally chartered savings institutions may also invest a portion of their assets in commercial paper and corporate debt securities. Savings institutions such as the Bank are also required to maintain an investment in FHLB – San Francisco stock. The investment policy of the Bank, established by the Board of Directors and implemented by the Bank’s Asset-Liability Committee, seeks to provide and maintain adequate liquidity, complement the Bank’s lending activities, and generate a favorable return on investment without incurring undue interest rate risk or credit risk. Investments are made based on certain considerations, such as credit quality, yield, maturity, liquidity and marketability. The Bank also considers the effect that the proposed investment would have on the Bank’s risk-based capital requirements and interest rate risk sensitivity. At June 30, 2020 and 2019, the Bank’s investment securities portfolio was $123.3 million and $100.1 million, respectively, which primarily consisted of federal agency and GSE obligations. The Bank’s investment securities portfolio was classified as held to maturity and available for sale. The Corporation purchased held to maturity mortgage-backed securities totaling $55.9 million and $39.7 million during fiscal 2020 and 2019, respectively. 20 The following table sets forth the composition of the Bank’s investment portfolio at the dates indicated: At June 30, 2020 2019 2018 (Dollars In Thousands) Amortized Cost Estimated Fair Value Percent Amortized Cost Estimated Fair Value Percent Amortized Cost Estimated Fair Value Percent Held to maturity securities: U.S. government sponsored enterprise MBS (1) $ 115,763 $ 118,354 93.99 % $ 90,394 $ 91,669 90.47 % $ 84,227 $ 83,668 88.32 % U.S. SBA securities (2) 2,064 2,047 1.63 2,896 2,890 2.85 2,986 2,971 3.14 Certificates of deposits 800 800 0.63 800 800 0.79 600 600 0.63 Total investment securities - held to maturity $ 118,627 $ 121,201 96.25 % $ 94,090 $ 95,359 94.11 % $ 87,813 $ 87,239 92.09 % Available for sale securities: U.S. government agency MBS (1) $ 2,823 $ 2,943 2.34 % $ 3,498 $ 3,613 3.57 % $ 4,234 $ 4,384 4.63 % U.S. government sponsored enterprise MBS (1) 1,556 1,577 1.25 1,998 2,087 2.06 2,640 2,762 2.91 Private issue CMO (3) 204 197 0.16 261 269 0.26 346 350 0.37 Total investment securities - available for sale $ 4,583 $ 4,717 3.75 % $ 5,757 $ 5,969 5.89 % $ 7,220 $ 7,496 7.91 % Total investment securities $ 123,210 $ 125,918 100.00 % $ 99,847 $ 101,328 100.00 % $ 95,033 $ 94,735 100.00 % (1) Mortgage-backed securities (“MBS”) (2) Small Business Administration ("SBA") (3) Collateralized mortgage obligations (“CMO”) The following table sets forth the outstanding balance, maturity and weighted average yield of the investment securities at June 30, 2020: Due in One Year or Less Due After One to Five Years Due After Five to Ten Years Due After Ten Years Total (Dollars in Thousands) Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield Held to maturity securities: U.S. government sponsored enterprise MBS $ — — % $ 19,389 2.27 % $ 50,895 1.89 % $ 45,479 1.65 % $ 115,763 1.85 % U.S. SBA securities — — — — — — 2,064 0.60 2,064 0.60 Certificates of deposits 800 1.53 — — — — — — 800 1.53 Total investment securities - held to maturity $ 800 1.53 % $ 19,389 2.27 % $ 50,895 1.89 % $ 47,543 1.60 % $ 118,627 1.83 % Available for sale securities: U.S. government agency MBS $ — — % $ — — % $ — — % $ 2,943 3.32 % $ 2,943 3.32 % U.S. government sponsored enterprise MBS — — — — — — 1,577 3.75 1,577 3.75 Private issue CMO — — — — — — 197 3.70 197 3.70 Total investment securities - available for sale $ — — % $ — — % $ — — % $ 4,717 3.48 % $ 4,717 3.48 % Total investment securities $ 800 1.53 % $ 19,385 2.27 % $ 50,895 1.89 % $ 52,260 1.77 % $ 123,344 1.89 % The actual maturity and yield for MBS and CMO may differ from the stated maturity and stated yield due to scheduled amortization, loan prepayments and acceleration of premium amortization or discount accretion. 21 Deposit Activities and Other Sources of Funds General. Deposits and loan repayments are the major sources of the Bank’s funds for lending and other investment purposes. Scheduled loan repayments are a relatively stable source of funds, while deposit inflows and outflows are influenced significantly by general interest rates and money market conditions. Borrowings through the FHLB – San Francisco and repurchase agreements may be used to compensate for declines in the availability of funds from other sources. Deposit Accounts. Substantially all of the Bank’s depositors are residents of the State of California. Deposits are attracted from within the Bank’s market area by offering a broad selection of deposit instruments, including checking, savings, money market and time deposit accounts. Deposit account terms vary, differentiated by the minimum balance required, the time periods that the funds must remain on deposit and the interest rate, among other factors. In determining the terms of its deposit accounts, the Bank considers current interest rates, profitability to the Bank, interest rate risk characteristics, competition and its customers’ preferences and concerns. Generally, the Bank’s deposit rates are commensurate with the median rates of its competitors within a given market. The Bank may occasionally pay above-market interest rates to attract or retain deposits when less expensive sources of funds are not available. The Bank may also pay above-market interest rates in specific markets in order to increase the deposit base of a particular office or group of offices. The Bank reviews its deposit composition and pricing on a weekly basis. The Bank generally offers time deposits for terms not exceeding seven years. As illustrated in the following table, time deposits represented 19% of the Bank’s deposit portfolio at June 30, 2020, compared to 23% at June 30, 2019. As of June 30, 2020 and 2019, there were no brokered deposits. The Bank attempts to reduce the overall cost of its deposit portfolio and to increase its franchise value by emphasizing transaction accounts, which are subject to a heightened degree of competition. For additional information, see Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this Form 10-K. 22 The following table sets forth information concerning the Bank’s weighted-average interest rate of deposits at June 30, 2020: Weighted Average Interest Rate Original Term Deposit Account Type Minimum Amount Balance (In Thousands) Percentage of Total Deposits Transaction accounts: —% N/A Checking accounts – non interest-bearing $ — $ 118,771 13.30 % 0.10% N/A Checking accounts – interest-bearing $ — 290,463 32.53 0.13% N/A Savings accounts $ 10 273,769 30.66 0.22% N/A Money market accounts $ — 39,989 4.48 Time deposits: 0.05% 30 days or less Fixed-term, fixed rate $ 1,000 20 — 0.13% 31 to 90 days Fixed-term, fixed rate $ 1,000 4,393 0.49 0.29% 91 to 180 days Fixed-term, fixed rate $ 1,000 9,778 1.09 0.59% 181 to 365 days Fixed-term, fixed rate $ 1,000 40,065 4.49 0.47% Over 1 to 2 years Fixed-term, fixed rate $ 1,000 20,531 2.30 1.00% Over 2 to 3 years Fixed-term, fixed rate $ 1,000 19,811 2.22 1.30% Over 3 to 5 years Fixed-term, fixed rate $ 1,000 62,102 6.95 1.82% Over 5 to 10 years Fixed-term, fixed rate $ 1,000 13,277 1.49 0.26% $ 892,969 100.00 % The following table indicates the aggregate dollar amount of the Bank’s time deposits with balances of $100,000 or more differentiated by time remaining until maturity as of June 30, 2020: Maturity Period Amount (In Thousands) Three months or less $ 17,194 Over three to six months 16,669 Over six to twelve months 14,895 Over twelve months 39,039 Total $ 87,797 23 Deposit Flows. The following table sets forth the balances (inclusive of interest credited) and changes in the dollar amount of deposits in the various types of accounts offered by the Bank at and between the dates indicated: At June 30, 2020 2019 (Dollars In Thousands) Amount Percent of Total Increase (Decrease) Amount Percent of Total Increase (Decrease) Checking accounts – non interest-bearing $ 118,771 13.30 % $ 28,587 $ 90,184 10.72 % $ 4,010 Checking accounts – interest-bearing 290,463 32.53 32,554 257,909 30.66 (1,463 ) Savings accounts 273,769 30.66 9,382 264,387 31.43 (25,404 ) Money market accounts 39,989 4.48 4,343 35,646 4.24 1,013 Time deposits: Fixed-term, fixed rate which mature: Within one year 90,576 10.14 (15,504 ) 106,080 12.61 (10,253 ) Over one to two years 33,995 3.81 (3,122 ) 37,117 4.41 (28,083 ) Over two to five years 44,471 4.98 (4,782 ) 49,253 5.85 (5,027 ) Over five years 935 0.10 240 695 0.08 (1,120 ) Total $ 892,969 100.00 % $ 51,698 $ 841,271 100.00 % $ (66,327 ) Time Deposits by Rates . The following table sets forth the aggregate balance of time deposits categorized by interest rates at the dates indicated: At June 30, (Dollars In Thousands) 2020 2019 2018 Below 1.00% $ 79,521 $ 80,701 $ 114,975 1.00 to 1.99% 85,232 95,904 113,211 2.00 to 2.99% 5,224 16,540 7,875 3.00 to 3.99% — — 1,567 Total $ 169,977 $ 193,145 $ 237,628 Time Deposits by Maturities. The following table sets forth the aggregate dollar amount of time deposits at June 30, 2020 differentiated by interest rates and maturity: (Dollars In Thousands) One Year or Less Over One to Two Years Over Two to Three Years Over Three to Four Years After Four Years Total Below 1.00% $ 59,146 $ 12,142 $ 5,072 $ 595 $ 2,566 $ 79,521 1.00 to 1.99% 31,430 21,853 15,641 7,589 8,719 85,232 2.00 to 2.99% — — 5,224 — — 5,224 Total $ 90,576 $ 33,995 $ 25,937 $ 8,184 $ 11,285 $ 169,977 24 Deposit Activity. The following table sets forth the deposit activity of the Bank at and for the periods indicated: At or For the Year Ended June 30, (In Thousands) 2020 2019 2018 Beginning balance $ 841,271 $ 907,598 $ 926,521 Net deposits (withdrawals) before interest credited 48,755 (69,708 ) (22,418 ) Interest credited 2,943 3,381 3,495 Net increase (decrease) in deposits 51,698 (66,327 ) (18,923 ) Ending balance $ 892,969 $ 841,271 $ 907,598 Borrowings. The FHLB – San Francisco functions as a central reserve bank providing credit for member financial institutions. As a member, the Bank is required to own capital stock in the FHLB – San Francisco and is authorized to apply for advances using such stock and certain of its mortgage loans and other assets (principally investment securities) as collateral, provided certain creditworthiness standards have been met. Advances are made pursuant to several different credit programs. Each credit program has its own interest rate, maturity, terms and conditions. Depending on the program, limitations on the amount of advances are based on the financial condition of the member institution and the adequacy of collateral pledged to secure the credit. The Bank utilizes advances from the FHLB – San Francisco as an alternative to deposits to supplement its supply of lendable funds, to meet deposit withdrawal requirements and to help manage interest rate risk. The FHLB – San Francisco has, from time to time, served as the Bank’s primary borrowing source. As of June 30, 2020 and 2019, the FHLB – San Francisco borrowing capacity was limited to 35% of the Bank’s total assets at both dates, amounting to $387.6 million and $391.8 million, respectively. Advances from the FHLB – San Francisco are typically secured by the Bank’s single-family residential, multi-family and commercial real estate mortgage loans. Total mortgage loans pledged to the FHLB – San Francisco were $658.7 million at June 30, 2020 as compared to $643.0 million at June 30, 2019. In addition, the Bank pledged investment securities totaling $2.2 million at June 30, 2020 as compared to $3.2 million at June 30, 2019 to collateralize its FHLB – San Francisco advances under the Securities-Backed Credit (“SBC”) facility. At June 30, 2020 and 2019, the Bank had $141.0 million and $101.1 million of borrowings, respectively, from the FHLB – San Francisco with a weighted-average interest rate of 2.23% and 2.62%, respectively. At June 30, 2020, the outstanding borrowings mature between 2020 and 2025 with a weighted average maturity of 28 months. In addition to the total borrowings mentioned above, the Bank utilized its borrowing facility for letters of credit and credit enhancement for loans previously sold to the FHLB – San Francisco under the Mortgage Partnership Finance (“MPF”) program which have a recourse liability. The outstanding letters of credit at June 30, 2020 and 2019 was $16.0 million and $13.0 million, respectively; and the outstanding MPF credit enhancement was $2.5 million at both dates. For additional information, see Note 1 of the Notes to Consolidated Financial Statements, “Organization and Summary of Significant Accounting Policies,” under the subheading “Loans originated and held for sale” and Note 8 included in Item 8 of this Form 10-K. As of June 30, 2020 and 2019, the remaining financing availability was $228.1 million and $275.2 million, respectively, with remaining available collateral of $351.5 million and $434.7 million, respectively. In addition, as of June 30, 2020 and 2019, the Bank had secured a discount window facility of $94.4 million and $74.2 million, respectively, at the Federal Reserve Bank of San Francisco, collateralized by investment securities with a fair market value of $100.4 million and $79.0 million, respectively. The Bank also has a federal funds facility with its correspondent bank for $17.0 million which matures on June 30, 2021. As of June 30, 2020, there were no outstanding borrowings under the discount window facility or the federal funds facility with the correspondent bank. 25 The following table sets forth certain information regarding borrowings by the Bank at the dates and for the years indicated: At or For the Year Ended June 30, (Dollars In Thousands) 2020 2019 2018 Balance outstanding at the end of period: FHLB – San Francisco advances $ 141,047 $ 101,107 $ 126,163 Weighted average rate at the end of period: FHLB – San Francisco advances 2.23 % 2.62 % 2.47 % Maximum amount of borrowings outstanding at any month end: FHLB – San Francisco advances $ 141,057 $ 136,158 $ 126,163 Average short-term borrowings during the period with respect to: (1) FHLB – San Francisco advances $ 11,562 $ 8,425 $ 8,687 Weighted average short-term borrowing rate during the period with respect to: (1) FHLB – San Francisco advances 3.30 % 1.69 % 2.53 % (1) Borrowings with a remaining term of 12 months or less. As a member of the FHLB – San Francisco, the Bank is required to maintain a minimum investment in FHLB – San Francisco stock. The Bank held the required investment at June 30, 2020 of $8.0 million with an excess investment of $1.1 million. This compares to June 30, 2019 when the Bank held the required investment of $8.2 million with an excess investment of $470,000. During fiscal 2020, the FHLB – San Francisco redeemed $229,000 of the excess capital stock, while the Bank did not purchase any FHLB - San Francisco capital stock. During fiscal 2019, the FHLB – San Francisco did not redeem any capital stock and the Bank did not purchase any FHLB - San Francisco capital stock. In fiscal 2020 and 2019, the FHLB – San Francisco distributed $534,000 and $707,000 of cash dividends, respectively, to the Bank. The cash dividends received by the Bank in fiscal 2019 included a special cash dividend of $133,000, not replicated in fiscal 2020. Subsidiary Activities Federal savings institutions generally may invest up to 3% of their assets in service corporations, provided that at least one-half of any amount in excess of 1% is used primarily for community, inner-city and community development projects. The Bank’s investment in its service corporations did not exceed these limits at June 30, 2020 and 2019. The Bank has three wholly owned subsidiaries: Provident Financial Corp (“PFC”), Profed Mortgage, Inc., and First Service Corporation. PFC’s current activities include: (i) acting as trustee for the Bank’s real estate transactions and (ii) holding real estate for investment, if any. Profed Mortgage, Inc., which formerly conducted the Bank’s mortgage banking activities, and First Service Corporation are currently inactive. At June 30, 2020 and 2019, the Bank’s investment in its subsidiaries was $9,000 and $15,000, respectively. 26 REGULATION The following is a brief description of certain laws and regulations which are applicable to the Corporation and the Bank. The description of these laws and regulations, as well as descriptions of laws and regulations contained elsewhere herein, does not purport to be complete and is qualified in its entirety by reference to the applicable laws and regulations. Legislation is introduced from time to time in the United States Congress (“Congress”) that may affect the Corporation’s and the Bank’s operations. In addition, the regulations governing the Corporation and the Bank may be amended from time to time by the OCC, FDIC, FRB and SEC, as appropriate. Any such legislation or regulatory changes in the future could adversely affect the operations and financial condition of the Corporation and the Bank. The Bank cannot predict whether any such changes may occur. General The Bank, as a federally chartered savings institution, is subject to extensive regulation, examination and supervision by the OCC, as its primary federal regulator, and the FDIC, as its insurer of deposits. The Bank's relationship with its depositors and borrowers is regulated by federal consumer protection laws, which must be complied with by the Bank. The Bank is a member of the FHLB System and its deposits are insured up to applicable limits by the FDIC. The Bank must file reports with the OCC concerning its activities and financial condition in addition to obtaining regulatory approvals prior to entering into certain transactions such as mergers with, or acquisitions of, other financial institutions. There are periodic examinations by the OCC to evaluate the Bank’s safety and soundness and compliance with various regulatory requirements. This regulatory structure establishes a comprehensive framework of activities in which the Bank may engage and is intended primarily for the protection of the insurance fund and depositors. The regulatory structure also gives the regulatory authorities extensive discretion in connection with their supervisory and enforcement activities and examination policies, including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. Any change in such policies, whether by the OCC, the FRB, the FDIC or Congress, could have a material adverse impact on the Corporation and the Bank and their operations. The Corporation, as a savings and loan holding company, is required to file certain reports with, is subject to examination by, and otherwise must comply with the rules and regulations of the FRB, its primary regulator. The Corporation is also subject to the rules and regulations of the SEC under the federal securities laws. For additional information, see “Savings and Loan Holding Company Regulations” below in this Form 10-K. In connection with the enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”), the laws and regulations affecting depository institutions and their holding companies have changed particularly affecting the bank regulatory structure and the lending, investment, trading and operating activities of depository institutions and their holding companies. Among other changes, the Dodd-Frank Act established the Consumer Financial Protection Bureau (“CFPB”) as an independent bureau of the Federal Reserve Board. The CFPB assumed responsibility for the implementation of the federal financial consumer protection and fair lending laws and regulations and has authority to impose new requirements. The Bank is subject to regulations issued by the CFPB, but as a smaller financial institution, the Bank is generally subject to supervision and enforcement by the OCC with respect to its compliance with consumer financial protection laws and CFPB regulations. On May 23, 2018, the President signed into law the Economic Growth, Regulatory Relief, and Consumer Protection Act passed by Congress (the “Act”). The Act contains a number of provisions extending regulatory relief to banks and savings institutions and their holding companies. Some of these provisions may benefit the Corporation and the Bank, such as (1) a simplified capital ratio, called the Community Bank Leverage Ratio or CBLR, computed as the ratio of tangible equity capital to average consolidated total assets to be set by the federal banking regulators at not less than 8% and not more than 10%, which for most institutions with less than $10 billion in consolidated assets may replace the leverage and risk-based capital ratios under current regulations; (2) an option for federal savings institutions to operate as national banks with respect to limits on lending, investments, and subsidiaries, without changing their charters to national bank charters; and (3) a lower risk weight on certain 27 loans classified as high volatility commercial real estate exposures. Effective January 1, 2020, the CBRL was 9.0%. These CBLR rules were modified in response to the COVID-19 pandemic. See "- The Coronavirus Aid, Relief, and Economic Security Act of 2020" below. Federal Regulation of Savings Institutions Office of the Comptroller of the Currency. The OCC has extensive authority over the operations of federal savings institutions. As part of this authority, the Bank is required to file periodic reports with the OCC and is subject to periodic examinations by the OCC. The OCC also has extensive enforcement authority over all federal savings institutions, including the Bank. This enforcement authority includes, among other things, the ability to assess civil money penalties, issue cease-and-desist or removal orders and initiate prompt corrective action orders. In general, these enforcement actions may be initiated for violations of laws and regulations and unsafe or unsound practices. Other actions or inactions may provide the basis for enforcement action, including misleading or untimely reports filed with the OCC. Except under certain circumstances, public disclosure of final enforcement actions by the OCC is required by law. All federal savings institutions must pay assessments to the OCC, to fund the agency’s operations. The general assessments, paid on a semi-annual basis, are determined based on the savings institution’s total assets, including consolidated subsidiaries. The Bank’s OCC annual assessments for the fiscal years ended June 30, 2020 and 2019 were $227,000 and $262,000, respectively. The Bank's general permissible lending limit for loans to one borrower is equal to the greater of $500,000 or 15% of unimpaired capital and surplus (except for loans fully secured by certain readily marketable collateral, in which case this limit is increased to 25% of unimpaired capital and surplus). The Bank’s limits on loans to one borrower or group of related borrowers at June 30, 2020 and 2019 were $18.8 million and $18.3 million, respectively. At June 30, 2020, the Bank’s largest lending relationship to a single borrower or group of borrowers consists of two multi-family loans totaling $4.5 million, which were performing according to its original payment terms. The OCC’s oversight of the Bank includes reviewing its compliance with the customer privacy requirements imposed by the Gramm-Leach-Bliley Act of 1999 (“GLBA”) and the anti-money laundering provisions of the USA Patriot Act of 2001 (“USA Patriot Act”) and regulations thereunder. The GLBA privacy requirements place limitations on the sharing of consumer financial information with unaffiliated third parties. They also require each financial institution offering financial products or services to retail customers to provide such customers with its privacy policy and with the opportunity to “opt out” of the sharing of their personal information with unaffiliated third parties. The USA Patriot Act imposes significant responsibilities on financial institutions to prevent the use of the United States financial system to fund terrorist activities. Its anti-money laundering provisions require financial institutions operating in the United States to develop anti-money laundering compliance programs and due diligence policies and controls to ensure the detection and reporting of money laundering. These compliance programs are intended to supplement requirements under the Bank Secrecy Act and the regulations of the Office of Foreign Assets Control. Federal Home Loan Bank System. The Bank is a member of the FHLB – San Francisco, which is one of 11 regional FHLBs, each of which serves as a reserve or central bank for its members within its assigned region. The FHLB - San Francisco is funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB System. It makes loans or advances to members in accordance with policies and procedures, established by the Board of Directors of the FHLB, which are subject to the oversight of the Federal Housing Finance Agency. All advances from the FHLB are required to be fully secured by sufficient collateral as determined by the FHLB - San Francisco. In addition, all long-term advances are required to provide funds for residential home financing. At June 30, 2020 and 2019, the Bank had $141.0 million and $101.1 million of outstanding advances, respectively, from the FHLB – San Francisco with a remaining available credit facility of $228.1 million and $275.2 million, respectively, based on 35% of total assets for both dates, which is limited to available 28 collateral. For additional information, see “Business – Deposit Activities and Other Sources of Funds – Borrowings” above in this Form 10-K. As a member of the FHLB - San Francisco, the Bank is required to purchase and maintain stock in the FHLB – San Francisco. At June 30, 2020 and 2019, the Bank held $8.0 million and $8.2 million of FHLB-San Francisco stock, respectively, which was in compliance with this membership requirement. During fiscal 2020, there was a $229,000 excess capital redemption as compared to no redemption in fiscal 2019. In fiscal 2020 and 2019, the FHLB – San Francisco distributed $534,000 and $707,000 of cash dividends, respectively, to the Bank. The cash dividends received in fiscal 2019 included a special cash dividend of $133,000, not replicated in fiscal 2020. There is no guarantee in the future that the FHLB – San Francisco will pay cash dividends or redeem excess capital stock held by its members. Under federal law, the FHLB - San Francisco is required to contribute to low and moderately priced housing programs through direct loans or interest subsidies on advances targeted for community investment and low and moderate income housing projects. These contributions have in the past adversely affected the level of dividends paid by the FHLB - San Francisco and could continue to do so in the future. These contributions also could have an adverse effect on the value of FHLB - San Francisco stock in the future. A reduction in value of the Bank's FHLB - San Francisco stock may result in a corresponding reduction in the Bank’s capital. Insurance of Accounts and Regulation by the FDIC. The Deposit Insurance Fund (“DIF”) of the FDIC insures deposits up to $250,000 per account owner as defined by the FDIC, backed by the full faith and credit of the United States. As insurer, the FDIC imposes deposit insurance premiums in the form of assessments and is authorized to conduct examinations of and to require reporting by FDIC insured institutions. It may prohibit any FDIC insured institution from engaging in any activity the FDIC determines by regulation or order to pose a serious risk to the insurance fund. The FDIC also has the authority to initiate enforcement actions against savings institutions, after giving the OCC an opportunity to take such action, and may terminate the savings institution's deposit insurance if it determines that the institution has engaged in unsafe or unsound practices or is in an unsafe or unsound condition. Management of the Bank is not aware of any practice, condition or violation that might lead to termination of the Bank's deposit insurance. Under its regulations, the FDIC sets assessment rates for established small institutions (generally, those with total assets of less than $10 billion) based on an institution’s weighted average CAMELS component ratings and certain financial ratios. Total base assessment rates currently range from 3 to 30 basis points subject to certain adjustments. Assessment rates are expected to decrease in the future as the reserve ratio increases in specified increments. The FDIC may increase or decrease its rates up to two basis points without further rule-making. In an emergency, the FDIC may also impose a special assessment. The Dodd-Frank Act increased the minimum FDIC deposit insurance reserve ratio from 1.15 percent to 1.35 percent. The FDIC surpassed the 1.35% as of September 30, 2018. The Dodd-Frank Act directed the FDIC to offset the effects of higher assessments due to the increase in the reserve ratio on established small institutions by charging higher assessments to large institutions. To implement this mandate, large and highly complex institutions paid a surcharge on their base since established small institutions automatically receive credits from the FDIC for the portion of their assessments that contribute to the increase. In September 2019, the FDIC awarded a small bank assessment credit to the Bank totaling $297,000, which reduced insurance assessments for approximately the first nine months of fiscal 2020. For the fiscal year 2020, the average annualized rate for the overall FDIC insurance assessments was 3.00 basis points. Qualified Thrift Lender Test. Like all savings institutions (subject to a narrow exception not applicable to the Bank), the Bank is required to meet a qualified thrift lender (“QTL”) test to avoid certain restrictions on their operations. This test requires a savings institution to have at least 65% of its total assets as defined by regulation, in qualified thrift investments on a monthly average for nine out of every 12 months on a rolling basis. As an alternative, a savings institution may maintain 60% of its assets in those assets specified in Section 7701(a)(19) of the Internal Revenue Code of 1986 (“Code”), as amended. Under either test, such assets primarily consist of residential housing related loans and investments. 29 Any savings institution that fails to meet the QTL test is subject to certain operating restrictions and may be required to convert to a national bank charter, and a savings and loan holding company of such an institution may become regulated as a bank holding company. As of June 30, 2020, the Bank maintained 88.7% of its portfolio assets in qualified thrift investments and, therefore, met the qualified thrift lender test. During fiscal 2020 and 2019, the Bank was in compliance with the QTL test as of each month end. Capital Requirements. Federally insured savings institutions, such as the Bank, are required by the OCC to maintain minimum levels of regulatory capital, including a common equity Tier 1 (“CET1”) capital to risk-based assets ratio, a Tier 1 capital to risk-based assets ratio, a total capital to risk-based assets ratio and a Tier 1 capital to total assets leverage ratio. The capital standards require the maintenance of the following minimum capital ratios: (i) a CET1 capital ratio of 4.5%; (ii) a Tier 1 capital ratio of 6%; (iii) a total capital ratio of 8%; and (iv) a Tier 1 leverage ratio of 4%. Mortgage servicing rights and deferred tax assets over designated percentages of CET1 are also deducted from capital. In addition, Tier 1 capital includes accumulated other comprehensive income, which includes all unrealized gains and losses on available for sale debt, equity securities and interest-only strips. Because of the Bank’s asset size, the Bank was given a one-time option to permanently opt-out of the inclusion of unrealized gains and losses on available for sale debt, equity securities and interest-only strips in its capital calculations. The Bank elected to exercise this option to opt-out in order to reduce the impact of market volatility on its regulatory capital levels. The Bank also must maintain a capital conservation buffer consisting of additional CET1 capital greater than 2.5% of risk-weighted assets above the required minimum risk-based capital levels in order to avoid limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses. If the Bank does not have the ability to pay dividends to the Corporation, the Corporation may be limited in its ability to pay dividends to its stockholders. In order to be considered well-capitalized under the prompt corrective action regulations, the Bank must maintain a CET1 risk-based ratio of 6.5%, a Tier 1 risk-based ratio of 8%, a total risk-based capital ratio of 10% and a leverage ratio of 5%, and the Bank must not be subject to any of certain mandates by the OCC requiring it as an individual institution to meet any specified capital level. Effective January 1, 2020, a bank or savings institution that elects to use the Community Bank Leverage Ratio will generally be considered well-capitalized and to have met the risk-based and leverage capital requirements of the capital regulations if it has a leverage ratio greater than 9.0%. In order to qualify for the Community Bank Leverage Ratio framework, in addition to maintaining a leverage ratio greater than 9%, the bank or institution also must have total consolidated assets of less than $10 billion, off-balance sheet exposures of 25% or less of its total consolidated assets, and trading assets and trading liabilities of 5.0% or less of its total consolidated assets, all as of the end of the most recent quarter. A bank electing the framework that ceases to meet any qualifying criteria in a future period and that has a leverage ratio greater than 8% will be allowed a grace period of two reporting periods to satisfy the CBLR qualifying criteria or comply with the generally applicable capital requirements. A bank may opt out of the framework at any time, without restriction, by reverting to the generally applicable risk-based capital rule. These CBLR rules were modified in response to the COVID-19 pandemic. See "- The Coronavirus Aid, Relief, and Economic Security Act of 2020" below. As of June 30, 2020, the most recent notification from the OCC categorized the Bank as “well capitalized” under the regulatory framework for prompt corrective action. See Note 10 of the Notes to Consolidated Financial Statements included in Item 8 of this Form 10-K. Prompt Corrective Action. An institution is considered adequately capitalized if it meets the minimum capital ratios described above. The OCC is required to take certain supervisory actions against undercapitalized savings institutions, the severity of which depends upon the institution's degree of undercapitalization. Subject to a narrow exception, the OCC is required to appoint a receiver or conservator for a savings institution that is "critically undercapitalized." OCC regulations also require that a capital restoration plan be filed with the OCC within 45 days of the date a savings institution receives notice that 30 it is "undercapitalized," "significantly undercapitalized" or "critically undercapitalized." In addition, numerous mandatory supervisory actions become immediately applicable to an undercapitalized institution, including, but not limited to, increased monitoring by regulators and restrictions on growth, capital distributions and expansion. “Significantly undercapitalized” and “critically undercapitalized” institutions are subject to more extensive mandatory regulatory actions. The OCC also may take any one of a number of discretionary supervisory actions, including the issuance of a capital directive and the replacement of senior executive officers and directors. Limitations on Capital Distributions. OCC regulations impose various restrictions on savings institutions and on their ability to make distributions of capital, which include dividends, stock redemptions or repurchases, cash-out mergers and other transactions charged to the capital account. Generally, savings institutions, such as the Bank, that before and after the proposed distribution are well-capitalized, may make capital distributions during any calendar year up to 100% of net income for the year-to-date plus retained net income for the two preceding years. However, an institution deemed to be in need of more than normal supervision or in troubled condition by the OCC may have its dividend authority restricted by the OCC. If the Bank, however, proposes to make a capital distribution when it does not meet its capital requirements (or will not following the proposed capital distribution) or that will exceed these net income-based limitations, it must obtain the OCC's approval prior to making such distribution. In addition, the Bank must file a prior written notice of a dividend with the FRB. The FRB or the OCC may object to a capital distribution based on safety and soundness concerns. Further restrictions on Bank dividends may apply if the Bank fails the QTL test. In addition, as noted above, if the Bank does not have the required capital conservation buffer, its ability to pay dividends to the Corporation will be limited, which may limit the ability of the Corporation to pay dividends to its stockholders. Activities of Savings Associations and Their Subsidiaries. When a savings institution establishes or acquires a subsidiary or elects to conduct any new activity through a subsidiary that the savings institution controls, the savings institution must file a notice or application with the OCC and in certain circumstances with the FDIC and receive regulatory approval or non-objection. Savings institutions also must conduct the activities of subsidiaries in accordance with existing regulations and orders. With respect to subsidiaries generally, the OCC may determine that investment by a savings institution in, or the activities of, a subsidiary must be restricted or eliminated based on safety and soundness or legal reasons. Transactions with Affiliates. The Bank’s authority to engage in transactions with “affiliates” is limited by Sections 23A and 23B of the Federal Reserve Act as implemented by the FRB’s Regulation W. The term “affiliates” for these purposes generally mean any company that controls or is under common control with an institution except subsidiaries of the institution. The Corporation and its non-savings institution subsidiaries are affiliates of the Bank. In general, transactions with affiliates must be on terms that are as favorable to the institution as comparable transactions with non-affiliates. In addition, certain types of transactions are restricted to an aggregate percentage of the institution’s capital. Institutions are prohibited from lending to any affiliate that is engaged in activities that are not permissible for bank holding companies and no savings institution may purchase the securities of any affiliate other than a subsidiary. FDIC-insured institutions are subject, with certain exceptions, to certain restrictions on extensions of credit to their parent holding companies or other affiliates, on investments in the stock or other securities of affiliates and on the taking of such stock or securities as collateral from any borrower. Collateral in specified amounts must be provided by affiliates in order to receive loans from an institution. In addition, these institutions are prohibited from engaging in certain tying arrangements in connection with any extension of credit or the providing of any property or service. The Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley Act”) generally prohibits the Corporation from making loans to its executive officers and directors. However, that act contains a specific exception for loans by a depository institution to its executive officers and directors, if the lending is in compliance with federal banking laws. Under such laws, the Bank’s authority to extend credit to executive officers, directors and 10% stockholders (“insiders”), as well as entities which such persons control, is limited. The law restricts both the individual and aggregate amount of loans the Bank may make to insiders based, in part, on the Bank’s capital position and requires certain Board approval procedures to be followed. Such loans must be made on terms substantially the same as those offered to unaffiliated individuals and not involve more than the normal risk of 31 repayment. There is an exception for loans made pursuant to a benefit or compensation program that is widely available to all employees of the institution and does not give preference to insiders over other employees. There are additional restrictions applicable to loans to executive officers. Community Reinvestment Act and Consumer Protection Laws. Under the Community Reinvestment Act of 1977 (“CRA”), every FDIC-insured institution has a continuing and affirmative obligation consistent with safe and sound banking practices to help meet the credit needs of its entire community, including low and moderate income neighborhoods. The CRA does not establish specific lending requirements or programs for financial institutions nor does it limit an institution's discretion to develop the types of products and services that it believes are best suited to its particular community, consistent with the CRA. The CRA requires the OCC, in connection with the examination of the Bank, to assess the institution’s record of meeting the credit needs of its community and to take such record into account in its evaluation of certain applications, such as a merger or the establishment of a branch, by the Bank. The OCC may use an unsatisfactory rating as the basis for the denial of an application. Similarly, the FRB is required to take into account the performance of an insured institution under the CRA when considering whether to approve an acquisition by the institution’s holding company. Due to heightened attention to the CRA in the past few years, the Bank may be required to devote additional funds for investment and lending in its local community. The Bank received a rating of satisfactory when it was last examined for CRA compliance. In connection with its deposit-taking, lending and other activities, the Bank is subject to a number of federal laws designed to protect consumers and promote lending to various sectors of the economy and population. Some state laws can apply to these activities as well. The CFPB issues regulations and standards under these federal laws, which include, among others, the Equal Credit Opportunity Act, the Truth-in-Lending Act, the Home Mortgage Disclosure Act and the Real Estate Settlement Procedures Act. Through its rulemaking authority, the CFPB has promulgated a number of regulations under these laws that affect the bank’s consumer businesses. Among these are regulations setting “ability to repay” and “qualified mortgage” standards for residential mortgage loans and establishing new mortgage loan servicing and loan originator compensation standards. The Bank devotes substantial compliance, legal and operational business resources to ensure compliance with applicable consumer protection standards. In addition, the OCC has enacted customer privacy regulations that limit the ability of the Bank to disclose nonpublic consumer information to non-affiliated third parties. The regulations require disclosure of privacy policies and allow consumers to prevent certain personal information from being shared with non-affiliated parties. Bank Secrecy Act/Anti-Money Laundering Laws . The Bank is subject to the Bank Secrecy Act and other anti-money laundering laws and regulations, including the USA Patriot Act of 2001. These laws and regulations require the Bank to implement policies, procedures, and controls to detect, prevent, and report money laundering and terrorist financing and to verify the identity of their customers. Violations of these requirements can result in substantial civil and criminal sanctions. In addition, provisions of the USA Patriot Act require the federal financial institution regulatory agencies to consider the effectiveness of a financial institution's anti-money laundering activities when reviewing mergers and acquisitions. Regulatory and Criminal Enforcement Provisions. The OCC has primary enforcement responsibility over federally chartered savings institutions and has the authority to bring action against all “institution-affiliated parties,” including stockholders, attorneys, appraisers and accountants who knowingly or recklessly participate in wrongful action likely to have an adverse effect on an insured institution. Formal enforcement action may range from the issuance of a capital directive or cease-and-desist order to removal of officers or directors, receivership, conservatorship or termination of deposit insurance. Civil penalties cover a wide range of violations and can be nearly $2.0 million per day per violation in especially egregious cases. The FDIC has the authority to recommend to the OCC that enforcement action be taken with respect to a particular savings institution. If the OCC does not take action, the FDIC has authority to take such action under certain circumstances. Federal law also establishes criminal penalties for certain violations. Standards for Safety and Soundness. As required by statute, the federal banking agencies have adopted interagency guidelines prescribing standards for safety and soundness. The guidelines set forth the safety and soundness standards that the federal banking agencies use to identify and address problems at insured depository institutions before capital becomes 32 impaired. If the OCC determines that a savings institution fails to meet any standard prescribed by the guidelines, the OCC may require the institution to submit an acceptable plan to achieve compliance with the standard. Federal Reserve System. The FRB requires that all depository institutions maintain reserves on transaction accounts or non-personal time deposits. These reserves may be in the form of cash or non-interest-bearing deposits with the regional Federal Reserve Bank. Interest-bearing checking accounts and other types of accounts that permit payments or transfers to third parties fall within the definition of transaction accounts and are subject to Regulation D reserve requirements, as are any non-personal time deposits at a bank. Effective March 26, 2020, the FRB reduced reserve requirement ratios to 0%, which eliminated reserve requirements for all depository institutions. Environmental Issues Associated with Real Estate Lending. The Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA”), is a federal statute, generally imposes strict liability on all prior and present "owners and operators" of sites containing hazardous waste. However, Congress acted to protect secured creditors by providing that the term "owner and operator" excludes a person whose ownership is limited to protecting its security interest in the site. Since the enactment of the CERCLA, this “secured creditor exemption” has been the subject of judicial interpretations which have left open the possibility that lenders could be liable for cleanup costs on contaminated property that they hold as collateral for a loan. To the extent that legal uncertainty exists in this area, all creditors, including the Bank, that have made loans secured by properties with potential hazardous waste contamination (such as petroleum contamination) could be subject to liability for cleanup costs, which costs often substantially exceed the value of the collateral property. Other Consumer Protection Laws and Regulations. The Dodd-Frank Act established the CFPB and empowered it to exercise broad regulatory, supervisory and enforcement authority with respect to both new and existing consumer financial protection laws. The Bank is subject to consumer protection regulations issued by the CFPB, but as a financial institution with assets of less than $10 billion, the Bank is generally subject to supervision and enforcement by the OCC with respect to compliance with consumer financial protection laws and CFPB regulations The Bank is subject to a broad array of federal and state consumer protection laws and regulations that govern almost every aspect of its business relationships with consumers. While the following list is not exhaustive, these include the the Truth-in-Lending Act, the Truth in Savings Act, the Electronic Fund Transfers Act, the Expedited Funds Availability Act, the Equal Credit Opportunity Act, the Fair Housing Act, the Real Estate Settlement Procedures Act, the Home Mortgage Disclosure Act, the Fair Credit Reporting Act, the Right to Financial Privacy Act, the Home Ownership and Equity Protection Act, the Fair Credit Billing Act, the Homeowners Protection Act, the Check Clearing for the 21st Century Act, laws governing flood insurance, laws governing consumer protections in connection with the sale of insurance, federal and state laws prohibiting unfair and deceptive business practices, and various regulations that implement some or all of the foregoing. These laws and regulations mandate certain disclosure requirements and regulate the manner in which financial institutions must deal with customers when taking deposits, making loans, collecting loans, and providing other services. Failure to comply with these laws and regulations can subject the Bank to various penalties, including but not limited to, enforcement actions, injunctions, fines, civil liability, criminal penalties, punitive damages, and the loss of certain contractual rights. Savings and Loan Holding Company Regulation General. The Corporation is a unitary savings and loan holding company, subject to the regulatory oversight of the FRB. Accordingly, the Corporation is required to register and file reports with the FRB and is subject to regulation and examination by the FRB. In addition, the FRB has enforcement authority over the Corporation and its non-savings institution subsidiaries, which also permits the FRB to restrict or prohibit activities that are determined to present a serious risk to the subsidiary savings institution. In accordance with the Dodd-Frank Act, the FRB must require any company that controls an 33 FDIC-insured depository institution to serve as a source of financial strength for the institution. These and other FRB policies, as well as the capital conservation buffer may restrict the Corporation’s ability to pay dividends. Capital Requirements. For a savings and loan holding company that qualifies as a small bank holding company under the FRB’s Small Bank Holding Company Policy Statement, such as the Corporation, the capital regulations apply to its savings institution subsidiaries, but not the Corporation. The FRB expects the holding company’s savings institution subsidiaries to be well capitalized under the prompt corrective action regulations. For a description of the capital regulations, see “Federal Regulation of Savings Institutions - Capital Requirements” above. Activities Restrictions. The GLBA provides that no company may acquire control of a savings association after May 4, 1999 unless it engages only in the financial activities permitted for financial holding companies under the law or for multiple savings and loan holding companies. The GLBA also specifies, subject to a grandfather provision, that existing savings and loan holding companies may only engage in such activities. The Corporation qualifies for the grandfathering and is therefore not restricted in terms of its activities. Upon any non-supervisory acquisition by the Corporation of another savings association as a separate subsidiary, the Corporation would become a multiple savings and loan holding company and would be limited to those activities permitted by FRB regulation. Multiple savings and loan holding companies may engage in activities permitted for financial holding companies, and certain other activities including acting as a trustee under a deed of trust and real estate investments. If the Bank fails the QTL test, the Corporation must, within one year of that failure, register as, and become subject to the restrictions applicable to bank holding companies. For additional information, see “Federal Regulation of Savings Institutions – Qualified Thrift Lender Test” in this Form 10-K. Mergers and Acquisitions. The Corporation must obtain approval from the FRB before acquiring more than 5% of the voting stock of another savings institution or savings and loan holding company or acquiring such an institution or holding company by merger, consolidation or purchase of its assets. In evaluating an application for the Corporation to acquire control of a savings institution, the FRB would consider the financial and managerial resources and future prospects of the Corporation and the target institution, the effect of the acquisition on the risk to the DIF, the convenience and the needs of the community, including performance under the CRA and competitive factors. The FRB may not approve any acquisition that would result in a multiple savings and loan holding company controlling savings institutions in more than one state, subject to two exceptions; (i) supervisory acquisitions and (ii) the acquisition of a savings institution in another state if the laws of the state of the target savings institution specifically permit such acquisitions. The states vary in the extent to which they permit interstate savings and loan holding company acquisitions. Acquisition of the Company. Any company, except a bank holding company, that acquires control of a savings association or savings and loan holding company becomes a “savings and loan holding company” subject to registration, examination and regulation by the FRB and must obtain the prior approval of the FRB under the Savings and Loan Holding Company Act before obtaining control of a savings association or savings and loan holding company. A bank holding company must obtain the prior approval of the FRB under the Bank Holding Company Act before obtaining control or more than 5% of a class of voting stock of a savings association or savings and loan holding company and remains subject to regulation under the Bank Holding Company Act. The term “company” includes corporations, partnerships, associations, and certain trusts and other entities. “Control” of a savings association or savings and loan holding company is deemed to exist if a company has voting control, directly or indirectly of more than 25% of any class of the savings association’s voting stock or controls in any manner the election of a majority of the directors of the savings association or savings and loan holding company, and may be presumed under other circumstances, including, but not limited to, holding in certain cases 10% or more of a class of voting securities. Control may be direct or indirect and may occur through acting in concert with one or more other persons. In addition, a savings and loan holding company must obtain FRB approval prior to acquiring voting control of more than 5% of any class of voting stock of another savings association or another savings association holding company. A similar provision limiting the 34 acquisition by a bank holding company of 5% or more of a class of voting stock of any company is included in the Bank Holding Company Act. Accordingly, the prior approval of the FRB would be required: • before any savings and loan holding company or bank holding company could acquire 5% or more of the common stock of the Corporation; and • before any other company could acquire 25% or more of the common stock of the Corporation, and may be required for an acquisition of as little as 10% of such stock. In addition, persons that are not companies are subject to the same or similar definitions of control with respect to savings and loan holding companies and savings associations and requirements for prior regulatory approval by the FRB in the case of control of a savings and loan holding company or by the OCC in the case of control of a savings association not obtained through control of a holding company of such savings association. Sarbanes-Oxley Act. The Sarbanes-Oxley Act was enacted in 2002 in response to public concerns regarding corporate accountability in connection with certain accounting scandals. The stated goals of the Sarbanes-Oxley Act were to increase corporate responsibility, to provide for enhanced penalties for accounting and auditing improprieties at publicly traded companies and to protect investors by improving the accuracy and reliability of corporate disclosures pursuant to the securities laws. The Sarbanes-Oxley Act generally applies to all companies that file or are required to file periodic reports with the SEC, under the Securities Exchange Act of 1934, including the Corporation. The Sarbanes-Oxley Act includes very specific additional disclosure requirements and corporate governance rules, requires the SEC and securities exchanges to adopt extensive additional disclosures, corporate governance and related rules. The Sarbanes-Oxley Act represents significant federal involvement in matters traditionally left to state regulatory systems, such as the regulation of the accounting profession, and to state corporate law, such as the relationship between a board of directors and management and between a board of directors and its committees. Dividends and Stock Repurchases. The FRB’s policy statement on the payment of cash dividends applicable to savings and loan holding companies expresses its view that a savings and loan holding company must maintain an adequate capital position and generally should not pay cash dividends unless the company’s net income for the past year is sufficient to fully fund the cash dividends and that the prospective rate of earnings appears consistent with the company’s capital needs, asset quality, and overall financial condition. The FRB policy statement also indicates that it would be inappropriate for a company experiencing serious financial problems to borrow funds to pay dividends. In addition, a savings and loan holding company is required to give the FRB prior written notice of any purchase or redemption of its outstanding equity securities if the gross consideration for the purchase or redemption, when combined with the net consideration paid for all such purchases or redemptions during the preceding twelve months, is equal to 10% or more of its consolidated net worth. The FRB may disapprove such a purchase or redemption if it determines that the proposal would constitute an unsafe or unsound practice or would violate any law, regulation, FRB order or any condition imposed by, or written agreement with, the FRB. As discussed above, the capital conservation buffer requirements may also limit or preclude dividends payable by the Corporation. The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010: The Dodd-Frank-Act imposed various restrictions and an expanded framework of regulatory oversight for financial institutions, including depository institutions and implements capital regulations discussed above under "Federal Regulation of Savings Institutions - Capital Requirements." In addition, among other requirements, the Dodd-Frank Act requires public companies, such as the Corporation, to (i) provide their shareholders with a non-binding vote (a) at least once every three years on the compensation paid to executive officers and (b) at least once every six years on whether they should have a “say on pay” vote every one, two or three years; (ii) have a separate, non-binding shareholder vote regarding golden parachutes for named executive officers when a shareholder vote takes place on mergers, acquisitions, dispositions or other transactions that would trigger the parachute payments; (iii) provide 35 disclosure in annual proxy materials concerning the relationship between the executive compensation paid and the financial performance of the issuer; and (iv) for certain public companies disclose the ratio of the Chief Executive Officer's annual total compensation to the median annual total compensation of all other employees.. The Coronavirus Aid, Relief, and Economic Security Act of 2020: In response to the COVID-19 pandemic, the CARES Act was signed into law on March 27, 2020. Among other things, the CARES Act directs federal banking agencies to adopt interim final rules to lower the threshold under the CBLR from 9% to 8% and to provide a reasonable grace period for a community bank that falls below the threshold to regain compliance, in each case until the earlier of the termination date of the national emergency or December 31, 2020. In April 2020, the federal banking agencies issued two interim final rules implementing this directive. One interim final rule provides that, as of the second quarter 2020, banking organizations with leverage ratios of 8% or greater (and that meet the other existing qualifying criteria) may elect to use the CBLR framework. It also establishes a two-quarter grace period for qualifying community banking organizations whose leverage ratios fall below the 8% CBLR requirement, so long as the banking organization maintains a leverage ratio of 7% or greater. The second interim final rule provides a transition from the temporary 8% CBLR requirement to a 9% CBLR requirement. It establishes a minimum CBLR of 8% for the second through fourth quarters of 2020, 8.5% for 2021, and 9% thereafter, and maintains a two-quarter grace period for qualifying community banking organizations whose leverage ratios fall no more than 100 basis points below the applicable CBLR requirement. The CARES Act also allows banks to elect to suspend requirements under accounting principles generally accepted in the United States of America (“GAAP”) for loan modifications related to the COVID-19 pandemic (for loans that were not more than 30 days past due as of December 31, 2019) that would otherwise be categorized as a restructured loan, including impairment for accounting purposes, until the earlier of 60 days after the termination date of the national emergency or December 31, 2020. According to the CARES Act and related banking agency guidance, banks are not be required to designate as a troubled debt restructuring loans that were modified as a result of the COVID-19 pandemic and made on a good faith basis to borrowers who were current. This includes short-term (e.g. six months) modifications such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. Borrowers are considered current under the CARES Act and related banking agency guidance if they were not more than 30 days past due on their contractual payments as of December 31, 2019, or prior to any relief, respectively, and have experienced financial difficulty as a result of COVID-19. For additional information related to loan modifications as a result of the COVID-19 pandemic, see “Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations – COVID-19 Impact to the Corporation.” The CARES Act also authorized the Small Business Administration (“SBA”) to temporarily guarantee loans under a new loan program called the Paycheck Protection Program, or PPP. The goal of the PPP was to avoid as many layoffs as possible, and to encourage small businesses to maintain payrolls. The Bank did not participate in the PPP loan program.. TAXATION Federal Taxation General. The Corporation and the Bank report their income on a fiscal year basis using the accrual method of accounting and are subject to federal income taxation in the same manner as other corporations with some exceptions, including particularly the Bank’s reserve for bad debts discussed below. The following discussion of tax matters is intended only as a summary and does not purport to be a comprehensive description of the tax rules applicable to the Bank or the Corporation. On December 22, 2017, the U.S. Government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “Tax Act”). The Tax Act amends the Internal Revenue Code to reduce tax rates and modify policies, credits, and deductions for individuals and businesses. For businesses, the Tax Act reduces the corporate federal income tax rate from a maximum of 35% to a flat 21%. The corporate federal income tax rate reduction was effective January 1, 2018. 36 Other major changes include expensing of equipment investment; elimination of personal and dependent exemptions, the tax on people who do not obtain adequate health insurance coverage, and the corporate alternative minimum tax; and increases in the standard deduction, the estate tax exemption, and the individual alternative minimum tax exemption. Tax Bad Debt Reserves. As a result of legislation enacted in 1996, the reserve method of accounting for bad debt reserves was repealed for tax years beginning after December 31, 1995. Due to such repeal, the Bank is no longer able to calculate its deduction for bad debts using the percentage-of-taxable-income or the experience method. Instead, the Bank is permitted to deduct as bad debt expense its specific charge-offs during the taxable year. In addition, the legislation required savings institutions to recapture into taxable income, over a six-year period, their post 1987 additions to their bad debt tax reserves. As of the effective date of the legislation, the Bank had no post 1987 additions to its bad debt tax reserves. As of June 30, 2020, the Bank’s total pre-1988 bad debt reserve for tax purposes was approximately $9.0 million. Under current law, a savings institution will not be required to recapture its pre-1988 bad debt reserve unless the Bank makes a “non-dividend distribution” as defined below. Currently, the Corporation uses the specific charge-off method to account for bad debt deductions for income tax purposes. Distributions . In the event that the Bank makes “non-dividend distributions” to the Corporation that are considered as made from the reserve for losses on qualifying real estate property loans, to the extent the reserve for such losses exceeds the amount that would have been allowed under the experience method or from the supplemental reserve for losses on loans (“Excess Distributions”), then an amount based on the amount distributed will be included in the Bank’s taxable income. Non-dividend distributions include distributions in excess of the Bank’s current and accumulated earnings and profits, distributions in redemption of stock, and distributions in partial or complete liquidation. However, dividends paid out of the Bank’s current or accumulated earnings and profits, as calculated for federal income tax purposes, will not be considered to result in a distribution from the Bank’s bad debt reserve. Thus, any dividends to the Corporation that would reduce amounts appropriated to the Bank’s bad debt reserve and deducted for federal income tax purposes would create a tax liability for the Bank. The amount of additional taxable income attributable to an Excess Distribution is an amount that, when reduced by the tax attributable to the income, is equal to the amount of the distribution. Thus, if the Bank makes a “non-dividend distribution,” then approximately one and one-half times the amount distributed will be included in taxable income for federal income tax purposes. For additional information, see "Regulation - Federal Regulation of Savings Institutions - Limitations on Capital Distributions” in this Form 10-K for limits on the payment of dividends by the Bank. The Bank does not intend to pay dividends that would result in a recapture of any portion of its tax bad debt reserve. During fiscal 2020, the Bank declared and paid $7.5 million of cash dividends to the Corporation while the Corporation declared and paid $4.2 million of cash dividends to shareholders. Tax Effect from Stock-Based Compensation. During fiscal 2020, there were no shares of restricted common stock distributed to employee or non-employee members of the Corporation’s Board of Directors. Also, there were no shares of non-qualified stock options exercised while 12,528 shares of incentive stock options were exercised as disqualifying dispositions. As a result, there was a $5,000 federal tax benefit effect from stock-based compensation in fiscal 2020. Other Matters. The Internal Revenue Service has audited the Bank’s income tax returns through 1996 and the California Franchise Tax Board has audited the Bank through 1990. Also, the Internal Revenue Service completed a review of the Corporation’s income tax returns for fiscal 2006 and 2007; and the California Franchise Tax Board completed a review of the Corporation’s income tax returns for fiscal 2009 and 2010. Fiscal 2016 and fiscal years thereafter remain subject to federal examination, while the California state tax returns for fiscal 2015 and fiscal years thereafter are subject to examination by state taxing authorities. State Taxation California. The California franchise tax rate applicable to the Bank, equals the franchise tax rate applicable to corporations generally, plus an “in lieu” rate of 2%, which is approximately equal to personal property taxes and business license taxes paid by such corporations (but not generally paid by banks or financial corporations such as the Corporation). At June 30, 2020 and 37 2019, the Corporation’s net state tax rate was 8.5% and 7.7%, respectively. Bad debt deductions are available in computing California franchise taxes using the specific charge-off method. The Bank and its California subsidiaries file California franchise tax returns on a combined basis. The Corporation will be treated as a general corporation subject to the general corporate tax rate. There was a $3,000 state tax benefit effect from stock-based compensation in fiscal 2020, as described above in the section entitled "Federal Taxation." Delaware. As a Delaware holding company not earning income in Delaware, the Corporation is exempted from Delaware corporate income tax, but is required to file an annual report with and pay an annual franchise tax to the State of Delaware. During fiscal 2020 and 2019, the Corporation paid franchise taxes of $200,000 and $200,000, respectively. EXECUTIVE OFFICERS The following table sets forth information with respect to the executive officers of the Corporation and the Bank: Position Name Age (1) Corporation Bank Craig G. Blunden 72 Chairman and Chairman and Chief Executive Officer Chief Executive Officer Robert "Scott" Ritter 51 — Senior Vice President Single-Family Division Donavon P. Ternes 60 President President Chief Operating Officer Chief Operating Officer Chief Financial Officer Chief Financial Officer Corporate Secretary Corporate Secretary David S. Weiant 61 — Senior Vice President Chief Lending Officer Gwendolyn L. Wertz 54 — Senior Vice President Retail Banking Division (1) As of June 30, 2020. Biographical Information Set forth below is certain information regarding the executive officers of the Corporation and the Bank. There are no family relationships among or between the executive officers. Craig G. Blunden has been associated with Provident Savings Bank since 1974, currently serving as Chairman and Chief Executive Officer of the Bank and Provident, positions he has held since 1991 and 1996, respectively. He served as President of the Bank from 1991 until June 2011 and as President of Provident from its formation in 1996 until June 2011. Mr. Blunden also serves on the Board of Directors of the Western Bankers Association. Robert "Scott" Ritter joined the Bank as Senior Vice President on September 26, 2016 and currently oversees the single-family mortgage division. Prior to joining the Bank, Mr. Ritter was the Chief Operating Officer at California Mortgage Advisors since November 2011 where he was responsible for overseeing all of California Mortgage Advisors' operations, including product 38 development, underwriting, loan processing and information technology. Prior to that, he held positions with increasing responsibilities at mortgage banking firms such as Green Point Financial and its predecessor Headlands Mortgage Company, among others. Donavon P. Ternes joined the Bank and the Corporation as Senior Vice President and Chief Financial Officer on November 1, 2000 and was appointed Secretary of the Corporation and the Bank in April 2003. Effective January 1, 2008, Mr. Ternes was appointed Executive Vice President and Chief Operating Officer, while continuing to serve as the Chief Financial Officer and Corporate Secretary of the Bank and the Corporation. Effective June 27, 2011, the Board of Directors of the Bank and the Corporation promoted Mr. Ternes to serve as President of the Bank and the Corporation, while continuing to serve as Chief Operating Officer, Chief Financial Officer and Corporate Secretary. Prior to joining the Bank, Mr. Ternes was the President, Chief Executive Officer, Chief Financial Officer and Director of Mission Savings and Loan Association, located in Riverside, California, holding those positions for over 11 years. David S. Weiant joined the Bank as Senior Vice President and Chief Lending Officer on June 29, 2007. Prior to joining the Bank, Mr. Weiant was a Senior Vice President of Professional Business Bank (June 2006 to June 2007) where he was responsible for commercial lending in the Los Angeles and Inland Empire regions of Southern California. Gwendolyn L. Wertz joined the Bank as Senior Vice President of Retail Banking on February 3, 2014. Prior to joining the Bank, Ms. Wertz was with CommerceWest Bank where she was responsible for the management of commercial banking activities, treasury management and specialty banking. Prior to that she was with Opportunity Bank, N.A. where she was responsible for the commercial treasury sales and service team. Ms. Wertz has more than 30 years of experience with financial institutions including the last 15 years in senior management roles. Her experience includes depository growth initiatives, operations, compliance, and deposit acquisition management.