Sound Financial Bancorp, Inc. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operation MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Special Note Regarding Forward-Looking Statements Certain matters discussed in this Form 10-Q constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements relate to our financial condition, results of operations, plans, objectives, future performance or business. Forward-looking statements are not statements of historical fact, are based on certain assumptions and are generally identified by use of the words “believes,” “expects,” “anticipates,” “estimates,” “forecasts,” “intends,” “plans,” “targets,” “potentially,” “probably,” “projects,” “outlook” or similar expressions or future or conditional verbs such as “may,” “will,” “should,” “would” and “could.” Forward-looking statements include statements with respect to our beliefs, plans, objectives, goals, expectations, assumptions and statements about, among other things, expectations of the business environment in which we operate, projections of future performance or financial items, perceived opportunities in the market, potential future credit experience, and statements regarding our mission and vision. These forward-looking statements are based upon current management expectations and may, therefore, involve risks and uncertainties. Our actual results, performance, or achievements may differ materially from those suggested, expressed, or implied by forward-looking statements as a result of a wide variety or range of factors including, but not limited to: • adverse economic conditions in our market areas, and other markets where we have lending relationships; • effects of employment levels, inflation, a recession, or slowed economic growth; • changes in the interest rate environment, including increases and decreases in the Board of Governors of the Federal Reserve System (the “Federal Reserve”) benchmark rate and the duration of such rates, which could adversely affect our revenues and expenses, the values of our assets and obligations, and the availability and cost of capital and liquidity; • the impact of inflation and the Federal Reserve’s monetary policy decisions; • the effects of any federal government shutdown; • changes in consumer spending, borrowing and savings habits; • the risks of lending and investing activities, including delinquencies write-offs and changes in our allowance for credit losses, and provision for credit losses; • monetary and fiscal policies of the Federal Reserve and the U.S. Government and other governmental initiatives affecting the financial services industry; • bank failures or adverse developments at other banks and related negative press about the banking industry in general on investor and depositor sentiment; • fluctuations in the demand for loans, unsold homes, land and other properties; • fluctuations in real estate values and both residential and commercial and multifamily real estate market conditions in our market area; • our ability to access cost-effective funding, including maintaining the confidence of depositors; • the possibility that unexpected outflows of uninsured deposits may require us to sell investment securities at a loss; • our ability to control operating costs and expenses; • secondary market conditions for loans and our ability to sell loans in the secondary market; • results of examinations of us by regulatory authorities and the possibility that any such regulatory authority may, among other things, limit our business activities, require us to increase our allowance for credit losses, write-down asset values or increase our capital levels, affect our ability to borrow funds or maintain or increase deposits; • the inability of key third-party providers to perform their obligations; • our ability to attract and retain deposits; • competitive pressures among financial services companies; • our ability to successfully integrate into our operations any assets, liabilities, clients, systems, and management personnel we may acquire and our ability to realize related revenue synergies and expected cost savings and other benefits within the anticipated time frames or at all; • use of estimates in determining the fair values of certain of our assets, which estimates may prove to be incorrect and result in significant declines in valuation; • our ability to keep pace with technological changes; • changes in accounting policies and practices, as may be adopted by the financial institution regulatory agencies, the Financial Accounting Standards Board, the U.S. Securities and Exchange Commission (the “SEC”), or the Public Company Accounting Oversight Board; • legislative or regulatory changes that adversely affect our business, including changes in banking, securities and tax law, in regulatory policies and principles, or the interpretation of regulatory capital or other rules, and other 27 governmental initiatives affecting the financial services industry and the availability of resources to address such changes; • our ability to retain or attract key employees or members of our senior management team; • costs and effects of litigation, including settlements and judgments; • our ability to implement our business strategies, including expectations regarding key growth initiatives and strategic priorities; • environmental, social and governance goals; • staffing fluctuations in response to product demand or corporate implementation strategies; • our ability to pay dividends on and repurchase our common stock; • the quality and composition of our securities portfolio and the impact of any adverse changes in the securities markets; • disruptions, security breaches, or other adverse events, failures or interruptions in, or attacks on, our information technology systems or on those of our third-party vendors; • the potential for new or increased tariffs, trade restrictions, or geopolitical tensions that could affect economic activity or specific industry sectors; • the effects of climate change, severe weather events, natural disasters, pandemics, epidemics and other public health crises, acts of war or terrorism, civil unrest and other external events; • other economic, competitive, governmental, regulatory, and technological factors affecting our operations, pricing, products and services; and • the other risks described from time to time in our reports filed with or furnished to the SEC, including this Form 10-Q and our Annual Report on Form 10-K for the year ended December 31, 2024 (“2024 Form 10-K”). We caution readers not to place undue reliance on any forward-looking statements. The factors described above could materially affect our financial performance, cause our actual results for future periods to differ materially from those expressed in forward-looking statements, and negatively affect our stock price performance. We do not undertake and specifically decline any obligation to publicly release the result of any revisions which may be made to any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events. General Sound Financial Bancorp, a Maryland corporation, is a bank holding company for its wholly owned subsidiary, Sound Community Bank. Substantially all of Sound Financial Bancorp’s business is conducted through Sound Community Bank, a Washington state-chartered commercial bank. As a Washington commercial bank that is not a member of the Federal Reserve System, the Bank’s regulators are the Washington Department of Financial Institutions and the Federal Deposit Insurance Corporation (the “FDIC”). As a bank holding company, Sound Financial Bancorp is regulated by the Federal Reserve. We also sell insurance products and services through Sound Community Insurance Agency, Inc., a wholly owned subsidiary of the Bank. Sound Community Bank’s deposits are insured up to applicable limits by the FDIC. At March 31, 2025, Sound Financial Bancorp, on a consolidated basis, had assets of $1.07 billion, net loans held-for-portfolio of $877.8 million, deposits of $910.3 million and stockholders’ equity of $104.4 million. The common stock of Sound Financial Bancorp is listed on the NASDAQ Capital Market under the symbol “SFBC.” Our executive offices are located at 2400 3rd Avenue, Suite 150, Seattle, Washington, 98121. Our principal business consists of attracting retail and commercial deposits from the general public and investing those funds, along with borrowed funds, in loans secured by first and second mortgages on one-to-four family residences (including home equity loans and lines of credit), commercial and multifamily real estate, construction and land, and consumer and commercial business loans. Our commercial business loans include unsecured lines of credit and secured term loans and lines of credit secured by inventory, equipment and accounts receivable. We also offer a variety of secured and unsecured consumer loan products, including manufactured home loans, floating home loans, automobile loans, boat loans and recreational vehicle loans. As part of our business, we focus on residential mortgage loan originations, a portion of which we sell to Fannie Mae and other investors and the remainder of which we retain for our loan portfolio consistent with our asset/liability objectives. We sell loans which conform to the underwriting standards of Fannie Mae (“conforming”) in which we retain the servicing of the loan in order to maintain the direct customer relationship and to generate noninterest income. Residential loans which do not conform to the underwriting standards of Fannie Mae (“non-conforming”) are either held in our loan portfolio or sold with servicing released. We originate and retain a significant amount of commercial real estate loans, including those secured by owner-occupied and nonowner-occupied commercial real estate, multifamily properties and mobile home parks, and construction and land development loans. Critical Accounting Estimates 28 Certain of our accounting policies require management to make difficult, complex or subjective judgments, which may relate to matters that are inherently uncertain. Estimates associated with these policies are susceptible to material changes as a result of changes in facts and circumstances. Facts and circumstances that could affect these judgments include, but are not limited to, changes in interest rates, other changes in economic conditions and changes in the financial condition and performance of borrowers. Management believes that its critical accounting estimates include determining the allowance for credit losses and accounting for mortgage servicing rights. There have been no material changes in the Company’s critical accounting policies and estimates as previously disclosed in the Company’s 2024 Form 10-K. Comparison of Financial Condition at March 31, 2025 and December 31, 2024 General. Total assets increased $75.6 million, or 7.6%, to $1.07 billion at March 31, 2025 from $993.6 million at December 31, 2024. The increase primarily was a result of an increase in cash and cash equivalents, partially offset by a lower balance of loans held-for-portfolio. Cash and Cash Equivalents, and Investment Securities. Cash and cash equivalents increased $87.9 million, or 201.3%, to $131.5 million at March 31, 2025 from $43.6 million at December 31, 2024. The increase was primarily due to the strategic decision to sell reciprocal deposits at the end of 2024, which reduced our cash balances. These reciprocal deposits returned to our balance sheet in the first quarter of 2025. In addition, balances of cash and cash equivalents increased as a result of higher overall deposit balances, except for time deposits. Investment securities decreased $110 thousand, or 1.1%, to $9.8 million at March 31, 2025, compared to $9.9 million at December 31, 2024. Held-to-maturity securities totaled $2.1 million at both March 31, 2025 and December 31, 2024. Available-for-sale securities totaled $7.7 million at March 31, 2025, compared to $7.8 million at December 31, 2024. The decrease in available-for-sale securities was primarily due to regularly scheduled payments, as well as lower net unrealized losses resulting from an increase in yields on our agency mortgage-backed securities during the first quarter of 2025. Loans. Loans held-for-portfolio, net, decreased $13.8 million, or 1.6%, to $877.8 million at March 31, 2025 from $891.7 million at December 31, 2024. The following table reflects the changes in the mix of our loan portfolio at March 31, 2025, as compared to December 31, 2024 (dollars in thousands): March 31, 2025 December 31, 2024 Amount Change Percent Change One-to-four family $ 262,457 $ 269,684 $ (7,227) (2.7) % Home equity 28,112 26,686 1,426 5.3 Commercial and multifamily 392,798 371,516 21,282 5.7 Construction and land 42,492 73,077 (30,585) (41.9) Manufactured homes 42,448 41,128 1,320 3.2 Floating homes 86,626 86,411 215 0.2 Other consumer 18,224 17,720 504 2.8 Commercial business 14,690 15,605 (915) (5.9) Premiums for purchased loans 688 718 (30) (4.2) Deferred loan fees (2,309) (2,374) 65 (2.7) Total loans held-for-portfolio, gross 886,226 900,171 (13,945) (1.5) Allowance for credit losses — loans (8,393) (8,499) 106 (1.2) Total loans held-for-portfolio, net $ 877,833 $ 891,672 $ (13,839) (1.6) % The decreases in the loan portfolio were driven primarily by decreases in construction and land loans and, to a lesser extent, one-to-four family and commercial business loans. The $30.6 million, or 41.9%, decline in construction and land loans was the primarily driver of the overall decrease in the loan portfolio as of March 31, 2025, compared to December 31, 2024. This decline was largely due to project completions, a slowdown in new financing activities amid higher interest rates, and the payoff of a $17.0 million loan that had been risk rated as special mention. In addition, one-to-four-family loans and commercial business loans declined by $7.2 million, or 2.7%, and $915 thousand, or 5.9%, respectively, primarily due to loan repayments exceeding new originations. These reductions were partially offset by a $21.3 million, or 5.7%, increase in commercial and multifamily loans, driven by the conversion of construction projects to permanent financing. Home equity loans also rose by $1.4 million, or 5.3%, as homeowners likely utilized their home equity lines to access liquidity, particularly in response to 29 elevated living costs and inflationary pressures. At March 31, 2025, our loan portfolio, net of deferred loan fees, remained well-diversified. At that date, commercial and multifamily real estate loans accounted for 44.2% of total loans, one-to-four family loans, including home equity loans, accounted for 32.6% of total loans, commercial business loans accounted for 1.7% of total loans, and consumer loans, consisting of manufactured homes, floating homes, and other consumer loans, accounted for 16.7% of total loans. Construction and land loans accounted for 4.8% of total loans at March 31, 2025. Loans held-for-sale totaled $2.27 million at March 31, 2025, compared to $487 thousand at December 31, 2024. The increase was primarily due to timing of mortgage originations and sales. Allowance for Credit Losses. The following table reflects the activity in our allowance for credit losses (“ACL”) during the periods indicated (dollars in thousands): Three Months Ended March 31, 2025 2024 ACL — Loans: Balance at beginning of period $ 8,499 $ 8,760 Charge-offs (27) (62) Recoveries 6 6 Net charge-offs (21) (56) (Release of) provision for credit losses (85) (106) Balance at end of period $ 8,393 $ 8,598 Reserve for Unfunded Commitments: Balance at beginning of period 234 193 (Release of) provision for credit losses (118) 73 Balance at end of period 116 266 ACL $ 8,509 $ 8,864 Ratio of net charge-offs during the period to average loans outstanding during the period (0.01) % (0.03) % Our ACL — loans decreased $106 thousand, or 1.2%, to $8.4 million at March 31, 2025, from $8.5 million at December 31, 2024. The decrease in the ACL - loans was primarily a result of a decrease in the balance of our loan portfolio, partially offset by higher reserves on our portfolio of other consumer loans and residential loans due to qualitative adjustments for uncertainty in market conditions. See “Comparison of Results of Operations for the Three Months Ended March 31, 2025 and 2024 — Provision for Credit Losses.” 30 The following tables show certain credit ratios at and for the dates and periods indicated and the components of each ratio's calculation (dollars in thousands). At March 31, 2025 At December 31, 2024 ACL - loans as a percentage of total loans outstanding 0.95 % 0.94 % ACL — loans $ 8,393 $ 8,499 Total loans outstanding $ 887,847 $ 901,827 Nonaccrual loans as a percentage of total loans outstanding 1.09 % 0.83 % Total nonaccrual loans $ 9,653 $ 7,491 Total loans outstanding $ 887,847 $ 901,827 ACL - loans as a percentage of nonaccrual loans 86.95 % 113.46 % ACL — loans $ 8,393 $ 8,499 Total nonaccrual loans $ 9,653 $ 7,491 ACL as a percentage of total loans outstanding 0.96 % 0.97 % ACL $ 8,509 $ 8,733 Total loans outstanding $ 887,847 $ 901,827 ACL as a percentage of nonaccrual loans 88.15 % 116.58 % ACL $ 8,509 $ 8,733 Total nonaccrual loans $ 9,653 $ 7,491 31 Three Months Ended March 31, 2025 2024 ($ in thousands) Net recoveries (charge-offs) during period to average loans outstanding: One-to-four family: — % — % Net (charge-offs)/recoveries $ — $ — Average loans outstanding $ 266,980 $ 278,472 Home equity: — % — % Net (charge-offs)/recoveries $ — $ — Average loans outstanding $ 27,562 $ 23,300 Commercial and multifamily real estate: — % — % Net (charge-offs)/recoveries $ — $ — Average loans outstanding $ 377,925 $ 313,139 Construction and land: — % — % Net (charge-offs)/recoveries $ — $ — Average loans outstanding $ 65,187 $ 125,643 Manufactured homes: (0.19) % (0.25) % Net (charge-offs)/recoveries $ (19) $ (23) Average loans outstanding $ 41,587 $ 36,716 Floating homes: — % — % Net (charge-offs)/recoveries $ — $ — Average loans outstanding $ 85,593 $ 78,797 Other consumer: (0.05) % (0.70) % Net (charge-offs) $ (2) $ (33) Average loans outstanding $ 17,633 $ 18,945 Commercial business: — % — % Net (charge-offs)/recoveries $ — $ — Average loans outstanding $ 15,269 $ 21,198 Total loans: (0.01) % (0.03) % Net (charge-offs) $ (21) $ (56) Average loans outstanding $ 897,736 $ 896,210 Nonperforming Assets. Nonperforming assets (“NPAs”), which were comprised of nonperforming loans (nonaccrual loans and nonperforming modified loans), other real estate owned (“OREO”) and repossessed assets, increased $2.2 million, or 29.4%, to $9.7 million, or 0.91% of total assets, at March 31, 2025 from $7.5 million, or 0.75% of total assets, at December 31, 2024. The table below sets forth the amounts and categories of NPAs at the dates indicated (dollars in thousands): Nonperforming Assets March 31, 2025 December 31, 2024 Amount Change Percent Change Total nonperforming loans $ 9,653 $ 7,491 $ 2,162 28.9 OREO and repossessed assets 41 — 41 — Total nonperforming assets $ 9,694 $ 7,491 $ 2,203 29.4 % The increase in NPAs primarily was due to the addition of six loans totaling $2.4 million to nonaccrual status, including two commercial real estate loans of $1.1 million and $988 thousand. The increase also included $41 thousand of other real estate owned properties. These additions were partially offset by $207 thousand in regular loan payments. Subsequent to quarter-end, 32 the $988 thousand commercial real estate loan added to NPAs during the quarter was paid-off. The percentage of nonperforming loans to total loans was 1.09% at March 31, 2025, compared to 0.83% at December 31, 2024. Mortgage Servicing Rights. The fair value of mortgage servicing rights decreased $81 thousand or 1.7%, to $4.7 million at March 31, 2025 from $4.8 million at December 31, 2024. We record mortgage servicing rights on loans sold with servicing retained and upon acquisition of a servicing portfolio. Mortgage servicing rights are carried at fair value. If the fair value of our mortgage servicing rights fluctuates significantly, our financial results could be materially impacted. Deposits and Borrowings. Total deposits increased $72.5 million, or 8.7%, to $910.3 million at March 31, 2025 from $837.8 million at December 31, 2024. This increase was primarily due to the return of reciprocal deposits that were temporarily moved off balance sheet at year-end for liquidity and balance sheet management purposes. The reintroduction of these deposits in the first quarter of 2025 contributed significantly to the overall growth. In contrast, noninterest-bearing deposits decreased $5.8 million, or 4.4%, to $126.7 million at March 31, 2025, compared to $132.5 million at December 31, 2024. This decline may reflect continued migration into higher-yielding interest-bearing products as customers seek better returns in a competitive rate environment. Noninterest-bearing deposits represented 13.9% of total deposits at March 31, 2025, compared to 15.8% at December 31, 2024. A summary of deposit accounts with the corresponding weighted-average cost of funds at the dates indicated is presented below (dollars in thousands): March 31, 2025 December 31, 2024 Amount Wtd. Avg. Rate Amount Wtd. Avg. Rate Noninterest-bearing demand $ 121,977 — % $ 130,095 — % Interest-bearing demand 143,595 0.28 142,126 0.34 Savings 63,533 0.10 61,252 0.10 Money market 287,058 3.07 206,067 3.60 Time deposits 289,474 4.18 295,822 4.57 Escrow (1) 4,710 — 2,437 — Total deposits $ 910,347 2.36 % $ 837,799 2.63 % (1) Escrow balances shown in noninterest-bearing deposits on the Condensed Consolidated Balance Sheets. Scheduled maturities of time deposits at March 31, 2025, are as follows (in thousands): Year Ending December 31, Amount 2025 $ 219,367 2026 46,314 2027 10,184 2028 11,783 2029 356 Thereafter 1,470 $ 289,474 Savings, demand, and money market accounts have no contractual maturity. Certificates of deposit have maturities of five years or less. The aggregate amount of time deposits in denominations of more than $250,000 at March 31, 2025 and December 31, 2024, totaled $96.4 million and $90.9 million, respectively. Deposit amounts in excess of $250,000 are not federally insured. As of March 31, 2025, uninsured deposits totaled $182.9 million, which represented 20.1% of total deposits, as compared to uninsured deposits of $167.3 million, or 20.0% of total deposits as of December 31, 2024. The uninsured amounts are estimates based on the methodologies and assumptions used for the Bank’s regulatory reporting requirements. The increase in uninsured deposits primarily related to jumbo tier pricing offered on some of our deposit products, as well as normal fluctuations within deposit accounts. Borrowings, comprised of FHLB advances, were $25.0 million at both March 31, 2025 and December 31, 2024. FHLB advances are primarily used to support organic loan growth and to maintain liquidity ratios in line with our asset/liability objectives. FHLB advances outstanding at March 31, 2025 had maturities ranging from early 2026 through early 2028. Subordinated notes, net totaled $11.8 million at both March 31, 2025 and December 31, 2024. 33 Stockholders’ Equity. Total stockholders’ equity increased $765 thousand, or 0.7%, to $104.4 million at March 31, 2025, from $103.7 million at December 31, 2024. This increase primarily reflects $1.2 million of net income earned during the current quarter, $81 thousand in share-based compensation, and $21 thousand in common stock options exercised, partially offset by a $17 thousand increase in accumulated other comprehensive loss, net of tax and the payment of $487 thousand in cash dividends to the Company's stockholders. Average Balances, Net Interest Income, Yields Earned and Rates Paid The following table presents, for the periods indicated, the total dollar amount of interest income from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates. Income and yields on tax-exempt obligations have not been computed on a tax equivalent basis. All average balances are daily average balances. Nonaccrual loans have been included in the table as loans carrying a zero yield for the period they have been on nonaccrual (dollars in thousands). Three Months Ended March 31, 2025 2024 Average Outstanding Balance Interest Earned/ Paid Yield/ Rate Annualized Average Outstanding Balance Interest Earned/ Paid Yield/ Rate Annualized Interest-earning assets: Loans receivable $ 896,822 $ 12,588 5.69 % $ 895,430 $ 12,233 5.49 % Investments 12,924 108 3.39 14,038 111 3.18 Cash and cash equivalents 95,999 1,010 4.27 107,361 1,416 5.30 Total interest-earning assets (1) 1,005,745 13,706 5.53 1,016,829 13,760 5.44 Interest-bearing liabilities: Savings and money market accounts 335,419 2,058 2.49 284,455 1,866 2.64 Demand and NOW accounts 140,905 108 0.31 159,762 141 0.35 Certificate accounts 289,960 3,039 4.25 315,495 3,696 4.71 Subordinated notes 11,766 168 5.79 11,724 168 5.76 Borrowings 25,000 262 4.25 40,000 429 4.31 Total interest-bearing liabilities 803,050 5,635 2.85 % 811,436 6,300 3.12 % Net interest income $ 8,071 $ 7,460 Net interest rate spread 2.68 % 2.32 % Net earning assets $ 202,695 $ 205,393 Net interest margin 3.25 % 2.95 % Average interest-earning assets to average interest-bearing liabilities 125.24 % 125.31 % Noninterest-bearing deposits $ 126,215 $ 132,438 Total deposits $ 892,499 $ 5,205 2.37 % $ 892,150 $ 5,703 2.57 % Total funding (2) $ 929,265 $ 5,635 2.46 % $ 943,874 $ 6,300 2.68 % (1) Calculated net of deferred loan fees, loan discounts and loans in process. (2) Total funding is the sum of average interest-bearing liabilities and average noninterest-bearing deposits. The cost of total funding is calculated as annualized total interest expense divided by total funding. 34 Rate/Volume Analysis The following table presents, for the periods indicated, the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. It distinguishes between changes related to outstanding balances and changes due to interest rates. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (i.e., changes in volume multiplied by old rate) and (ii) changes in rate (i.e., changes in rate multiplied by old volume). For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to the change due to volume and the change due to rate (dollars in thousands). Three Months Ended March 31, 2025 vs. 2024 Increase (Decrease) due to Total Increase (Decrease) Volume Rate Interest-earning assets: Loans receivable $ 20 $ 335 $ 355 Investments (9) 6 (3) Cash and cash equivalents (120) (286) (406) Total interest-earning assets (109) 55 (54) Interest-bearing liabilities: Savings and Money Market accounts 313 (121) 192 Demand and NOW accounts (14) (19) (33) Certificate accounts (268) (389) (657) Subordinated notes 1 (1) — Borrowings (157) (10) (167) Total interest-bearing liabilities $ (125) $ (540) $ (665) Change in net interest income $ 611 Comparison of Results of Operation for the Three Months Ended March 31, 2025 and 2024 General. Net income increased $397 thousand, or 51.6%, to $1.2 million, or $0.45 per diluted common share, for the three months ended March 31, 2025, from $770 thousand for the three months ended March 31, 2024. The increase was primarily the result of a $611 thousand increase in net interest income and a $170 thousand increase in the release of provision for credit losses, partially offset by a $258 thousand increase in noninterest expense and a $128 thousand increase in the provision for income taxes. Noninterest income remained relatively unchanged between periods. Interest Income Three Months Ended March 31, Amount Change Percent Change 2025 2024 Loans, including fees $ 12,588 $ 12,233 $ 355 2.9 % Interest and dividends on investments, cash and cash equivalents 1,118 1,527 (409) (26.8) Total interest Income $ 13,706 $ 13,760 $ (54) (0.4) % Interest income decreased $54 thousand, or 0.4%, to $13.7 million for the three months ended March 31, 2025, from $13.8 million for the three months ended March 31, 2024, primarily due to lower average balances of interest-bearing cash and investments and a 103 basis point decline in the average yield on interest-bearing cash, partially offset by a 20 basis point increase in the average yield on loans. 35 Interest income on loans increased $355 thousand, or 2.9%, to $12.6 million for the three months ended March 31, 2025, from $12.2 million for the three months ended March 31, 2024. The average yield on total loans rose to 5.69% for the three months ended March 31, 2025, from 5.49% for the three months ended March 31, 2024, primarily due to variable rate loans resetting to higher market interest rates and new loan originations at higher interest rates. The average balance of total loans was $896.8 million for the three months ended March 31, 2025, compared to $895.4 million for the three months ended March 31, 2024. Interest income on the investment portfolio decreased $3 thousand, or 2.7%, to $108 thousand for the three months ended March 31, 2025, compared to $111 thousand for the three months ended March 31, 2024. The decrease was due to a decrease in the average balance, partially offset by a higher average yield. The average balance of investments was $12.9 million for the three months ended March 31, 2025, compared to $14.0 million for the three months ended March 31, 2024, while the average yield on investments increased 21 basis points to 3.39% for the three months ended March 31, 2025, compared to 3.18% for the three months ended March 31, 2024. The decrease in the average balance was due to regularly scheduled payments and maturities, while the increase in the average yield was due to higher market interest rates. Interest income on cash and cash equivalents decreased $406 thousand, or 28.7%, to $1.0 million for the three months ended March 31, 2025, compared to $1.4 million for the three months ended March 31, 2024. The decrease was due to a lower average balance of and yield on cash and cash equivalents. The average yield on cash and cash equivalents decreased to 4.27% for the three months ended March 31, 2025, compared to 5.30% for the three months ended March 31, 2024, as a result of the lower market interest rates generally. The average balance of cash and cash equivalents was $96.0 million for the three months ended March 31, 2025, compared to $107.4 million for the three months ended March 31, 2024, primarily due to a lower average cash balance following the payoff of $15.0 million of FHLB advances during the fourth quarter of 2024. Interest Expense Three Months Ended March 31, Amount Change Percent Change 2025 2024 Deposit $ 5,205 $ 5,703 $ (498) (8.7) % Borrowings 262 429 (167) (38.9) Subordinated notes 168 168 — — Total interest expense $ 5,635 $ 6,300 $ (665) (10.6) The decrease in total interest expense was primarily attributable to lower interest rates across most interest-bearing liabilities, resulting from lower market interest rates generally, as well as a $125 thousand decrease related to lower average balances, particularly in certificate accounts. Interest expense on certificate accounts declined $657 thousand, driven by a $268 thousand volume-related decrease and a $389 thousand rate-relate decrease. The average balance of certificate accounts declined to $290.0 million for the three months ended March 31, 2025, from $315.5 million a year earlier, while the average rate paid decreased to 4.25% from 4.71%. These declines reflect the continued runoff and repricing of higher-rate time deposits originated in prior periods. In addition, interest expense on demand and Now accounts decreased $33 thousand, due to both lower average balances and slightly lower rates. Partially offsetting these decreases was an increase in interest expense on savings and money market accounts, which increased $192 thousand, or 10.29%, to $2.1 million for the three months ended March 31, 2025, from $1.9 million for the same period in 2024. This increase was driven entirely by higher average balances, which increased to $335.4 million from $284.5 million, reflecting shifts in customer deposit preferences, partially offset by a lower average rate paid on these accounts, which declined 15 basis points to 2.49% from 2.64%. The rate decrease reflects competitive repricing strategies implemented to manage overall funding costs in a stabilizing rate environment. Interest expense on borrowings, comprised solely of FHLB advances, decreased $167 thousand , primarily due to a $15.0 million decline in average borrowings following the payoff of an FHLB advance during the fourth quarter of 2024. The average balance of FHLB advances was $25.0 million for the three months ended March 31, 2025, compared to $40.0 million for the three months ended March 31, 2024. The average rate paid on borrowings decreased six basis points to 4.25% for the quarter ended March 31, 2025, compared to 4.31% for the same quarter in 2024. Interest expense on subordinated notes was $168 thousand for both the three months ended March 31, 2025 and March 31, 2024, with no material changes in the average balance or rate paid. 36 Net Interest Income. Net interest income increased $611 thousand, or 8.2%, to $8.1 million for the three months ended March 31, 2025, from $7.5 million for the three months ended March 31, 2024. The increase in net interest income was mainly the result of decreased funding costs, primarily from lower average rates paid on all categories of interest-bearing deposits and a lower average balance of borrowings, partially offset by a decrease in the average balance of interest-earning assets. Overall, the decline in funding costs contributed to a 36 basis point improvement in the net interest rate spread and a 30 basis point increase in the net interest margin, which rose to 3.25% for the three months ended March 31, 2025, compared to 2.95% for the same period in 2024. Through most of 2024, the Federal Open Market Committee of the Federal Reserve (“FOMC”) maintained the target range for the federal funds rate at 5.25% to 5.50%, where it remained until September 18, 2024. In light of continued progress on reducing inflation and after considering the balance of risks to the economy, the FOMC has since lowered the target range 100 basis points to 4.25% to 4.50% as March 31, 2025 . Provision for Credit Losse s. The following table reflects the components of the provision for (release of) credit losses during the periods indicated (dollars in thousands): Three Months Ended March 31, 2025 2024 Release of credit losses on loans $ (85) $ (106) Release of credit losses on unfunded loan commitments (118) 73 (Release of) provision for credit losses $ (203) $ (33) A release of credit losses of $203 thousand was recorded for the quarter ended March 31, 2025, compared to a release of credit losses of $33 thousand for the quarter ended March 31, 2024. The release of credit losses on loans during the current quarter was primarily due to a decline in the balance of the loan portfolio, partially offset by higher qualitative factors which were influenced by uncertainty in the market. The release of credit losses on unfunded loan commitments during the current quarter related to overall fewer loan commitments. Net charge-offs for the three months ended March 31, 2025 totaled $21 thousand, compared to $56 thousand for three months ended March 31, 2024. While we believe the estimates and assumptions used in our determination of the adequacy of the ACL are reasonable, there can be no assurance that such estimates and assumptions will not be proven incorrect in the future, that the actual amount of future provisions will not exceed the amount of past provisions or that any increased provisions that may be required will not have a material adverse impact on our financial condition and results of operations. A further decline in national and local economic conditions, as a result of the effects of inflation, and a potential recession or slowed economic growth, among other factors, could result in a material increase in the ACL and have a material adverse impact on our financial condition and results of operations. In addition, the determination of the amount of our ACL is subject to review by bank regulators as part of the routine examination process, which may result in the adjustment of reserves based upon their judgment of information available to them at the time of their examination. 37 Noninterest Income. Noninterest income remained relatively unchanged at $1.1 million for both the three months ended March 31, 2025 and March 31, 2024, as reflected below (dollars in thousands): Three Months Ended March 31, Amount Change Percent Change 2025 2024 Service charges and fee income $ 684 $ 612 $ 72 11.8 % Earnings on BOLI 195 177 18 10.2 Mortgage servicing income 269 282 (13) (4.6) Fair value adjustment on mortgage servicing rights (99) (65) (34) 52.3 Net gain on sale of loans 49 90 (41) (45.6) Total noninterest income $ 1,098 $ 1,096 $ 2 0.2 % The changes in noninterest income for the three months ended March 31, 2025, compared to the same period in 2024 were primarily due to: • a $72 thousand increase in service charges and fee income, primarily due to a volume incentive paid by Mastercard in the first quarter of 2025 and higher debit card interchange income; • an $18 thousand increase in earnings from BOLI, primarily due to the strategic decision to surrender and exchange existing policies for higher yielding policies, partially offset by market fluctuations that reduced the value of the policies; • a $13 thousand decrease in mortgage servicing income, resulting from portfolio paydowns occurring at a faster pace than new originations; • a $34 thousand decrease in the fair value adjustment on mortgage servicing rights, due to a smaller servicing portfolio; and • a $41 thousand decrease in net gain on sale of loans, due to a lower volume of loans sold during the first quarter of 2025. Noninterest Expense. Noninterest expense increased $258 thousand, or 3.4%, to $7.9 million during the three months ended March 31, 2025, compared to $7.7 million during the three months ended March 31, 2024, as reflected below (dollars in thousands): Three Months Ended March 31, Amount Change Percent Change 2025 2024 Salaries and benefits $ 4,595 $ 4,543 $ 52 1.1 % Operations 1,365 1,457 (92) (6.3) % Regulatory assessments 221 189 32 16.9 % Occupancy 437 444 (7) (1.6) % Data processing 1,293 1,017 276 27.1 % Net (gain) on OREO and repossessed assets 3 6 (3) (50.0) % Total noninterest expense $ 7,914 $ 7,656 $ 258 3.4 % The change in noninterest expense for the three months ended March 31, 2025, compared to the same period in 2024, were primarily due to: • a $276 thousand increase in data processing expenses, due to the amortization of costs associated with various project implementations that began in the third quarter of 2024, as well as the absence of a one-time vendor reimbursement received in the first quarter of 2024; • a $52 thousand increase in salaries and benefits, primarily due to higher salaries expense as a result of annual pay increases in the first quarter and lower deferred compensation, partially offset by lower retirement plan expense and lower commission expense. • a $32 thousand increase in regulatory assessments, due to a higher estimated accrual for regulatory exam costs; and 38 • a $92 thousand decrease in operations expense, primarily due to the recognition of annual fee reimbursements from Mastercard beginning in the first quarter of 2025 and lower expenses across various accounts resulting from ongoing cost saving initiatives and process improvements. The efficiency ratio for the quarter ended March 31, 2025 was 86.31%, compared to 89.48% for the quarter ended March 31, 2024. The improvement in the efficiency ratio was primarily due to higher net interest income resulting from lower funding costs. Income Tax Expense . The provision for income taxes was $291 thousand and $163 thousand for the three months ended March 31, 2025 and March 31, 2024, respectively. The effective tax rates for the three months ended March 31, 2025 and March 31, 2024 were 19.96% and 17.47%, respectively. The increase in the effective tax rate was due to taxable earnings on BOLI in the current quarter, resulting from the surrender and exchange of existing BOLI policies in to higher yielding policies. Capital and Liquidity The Management’s Discussion and Analysis in Item 7 of the Company’s 2024 Form 10-K contains an overview of Sound Financial Bancorp’s and the Bank’s liquidity management, sources of liquidity and cash flows. Although there have been no material changes in our liquidity management, sources of liquidity and cash flows since our 2024 Form 10-K, this discussion updates that disclosure for the three months ended March 31, 2025. Capital. Stockholders’ equity totaled $104.4 million at March 31, 2025 and $103.7 million at December 31, 2024. In addition to net income of $1.2 million, other sources of capital during the three months ended March 31, 2025 primarily included $81 thousand related to stock-based compensation and $21 thousand in proceeds from stock option exercises. Uses of capital during the three months ended March 31, 2025 primarily included $487 thousand of dividends paid on common stock and $17 thousand of other comprehensive income, net of tax, primarily resulting from unrealized losses on available for sale securities. We paid cash dividends of $0.19 per common share during the three months ended March 31, 2025 and March 31, 2024, which equates to a dividend payout ratio of 41.73% and 63.12%, respectively. The Company expects to continue paying quarterly cash dividends on its common stock, subject to the Board of Directors' discretion to change this practice at any time and for any reason, without prior notice. Assuming continued payment of the regular quarterly cash dividend during the remainder of 2025 at the rate of $0.19 per share, our average total dividend paid each quarter would be approximately $488 thousand based on the number of outstanding shares as of March 31, 2025. The dividends, if any, we pay may be limited as more fully discussed under “Business—How We Are Regulated—Limitations on Dividends and Stock Repurchases” contained in Item 1, Part I of the Company’s 2024 Form 10-K. Stock Repurchase Programs. From time to time, our Board of Directors has authorized stock repurchase programs. In general, stock repurchases allow us to proactively manage our capital position and return excess capital to stockholders. Stock repurchases may also offset the dilutive effects of stock compensation awards. In January 2024, the Board of Directors approved a new stock repurchase program authorizing the Company to purchase up to $1.5 million of the Company’s issued and outstanding common stock over a period of 12 months which expired on January 26, 2025 and was not renewed. For additional details on our stock repurchase activity, see “Unregistered Sales of Equity Securities and Use of Proceeds” contained in Part II, Item 2 of this Form 10-Q. Liquidity. Liquidity measures the ability to meet current and future cash flow needs. The liquidity of a financial institution reflects its ability to meet loan requests, to accommodate possible outflows in deposits and to take advantage of potential opportunities presented by changes in market interest rates. The ability of a financial institution to meet its current financial obligations is a function of its balance sheet structure, its ability to liquidate assets and its access to alternative sources of funds. The objective of our liquidity management is to manage cash flows and liquidity reserves so that they are adequate to fund our operations and to meet obligations and other commitments on a timely basis and at a reasonable cost. We seek to achieve this objective and ensure that our funding needs are met by maintaining an appropriate level of liquid funds through asset/liability management, which includes managing the mix and time to maturity of financial assets and financial liabilities on our balance sheet. Our liquidity position is enhanced by our ability to raise additional funds as needed in the wholesale markets. Asset liquidity is provided by assets that are readily marketable or pledgeable or that will mature in the near future. Liquid assets generally include cash, interest-bearing deposits in banks, securities available for sale, maturities and cash flows from securities, sales of fixed rate residential mortgage loans in the secondary market and federal funds sold. Liability liquidity generally is provided by access to funding sources, which include core deposits and advances from the FHLB and other borrowing relationships with third party financial institutions. We continuously monitor our liquidity position and adjust the balance between sources and uses of funds as we deem appropriate. Liquidity risk management is an important element in our asset/liability management process. We regularly model 39 liquidity stress scenarios to assess potential liquidity outflows or funding challenges resulting from economic disruptions, volatility in the financial markets, unexpected credit events or other significant occurrences deemed problematic by management. These scenarios are incorporated into our contingency funding plan, which provides the basis for the identification of our liquidity needs. As of March 31, 2025, we had $139.2 million in cash and cash equivalents and available-for-sale investment securities, and $2.3 million in loans held-for-sale. At March 31, 2025, we had the ability to borrow $167.5 million in FHLB advances and access to additional borrowings of $20.3 million through the Federal Reserve's discount window, in each case subject to certain collateral requirements. We had $25.0 million in outstanding advances from the FHLB and none from the Federal Reserve at March 31, 2025. We also had a $20.0 million credit facility with Pacific Coast Banker’s Bank available, with no balance outstanding, at March 31, 2025. Subject to market conditions, we expect to utilize these borrowing facilities from time to time in the future to fund loan originations and deposit withdrawals, to satisfy other financial commitments, repay maturing debt and to take advantage of investment opportunities to the extent feasible. As of March 31, 2025, management was not aware of any events reasonably likely to have a material adverse effect on our liquidity, capital resources or operations. In addition, management is not aware of any regulatory recommendations regarding liquidity that would have a material adverse effect on us. For additional details, see “Note 8—Borrowings, FHLB Stock and Subordinated Notes” in the Notes to Condensed Consolidated Financial Statements contained in "Item 1. Financial Statements" of this Form 10-Q. In the ordinary course of business, we enter into contractual obligations and other commitments to make future payments. Refer to the accompanying Notes to Condensed Consolidated Financial Statements elsewhere in this report for the expected timing of such payments as of March 31, 2025. These include payments related to (i) long-term borrowings (Note 8—Borrowings, FHLB Stock and Subordinated Notes) and (ii) operating leases (Note 10—Leases). See the discussion below for information regarding commitments to extend credit and standby letters of credit. The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its clients. These financial instruments generally represent commitments to extend credit in the form of loans. The instruments involve, to varying degrees, elements of credit- and interest-rate risk in excess of the amount recognized in the Condensed Consolidated Balance Sheets. The Company's exposure to credit loss, in the event of nonperformance by the other party to the financial instrument for commitments to extend credit, is represented by the contractual notional amount of those instruments. The Company uses the same credit policies in making commitments as it does for on-balance-sheet instruments. Commitments to extend credit are agreements to lend to a client as long as there is no violation of any condition established by the agreement. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee by the client. Because many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. These commitments are not reflected in the condensed consolidated financial statements. The Company evaluates each client's creditworthiness on a case-by-case basis. The amount of collateral obtained, if it is deemed necessary by the Company, is based on management's credit evaluation of the client. At March 31, 2025 and December 31, 2024, financial instrument contractual amounts representing credit risk were as follows (in thousands): March 31, 2025 December 31, 2024 Residential mortgage commitments $ 10,143 $ 3,758 Unfunded construction commitments 18,737 25,810 Unused lines of credit 26,986 26,105 Irrevocable letters of credit 163 163 Total loan commitments $ 56,029 $ 55,836 Sound Financial Bancorp is a separate legal entity from Sound Community Bank and must provide for its own liquidity. In addition to its own operating expenses (many of which are paid to Sound Community Bank), Sound Financial Bancorp is responsible for paying for any stock repurchases, dividends declared to its stockholders, interest and principal on its outstanding debt, and other general corporate expenses. Sound Financial Bancorp is a holding company and does not conduct operations; its sources of liquidity are generally dividends up-streamed from Sound Community Bank, interest on investment securities, if any, and borrowings from outside sources. Banking regulations may limit the dividends that may be paid to Sound Financial Bancorp by Sound Community Bank. See “Business — How We Are Regulated — Limitations on Dividends and Stock Repurchases” contained in Item 1, Part I of the Company’s 2024 Form 10-K. At March 31, 2025 Sound Financial Bancorp, on an unconsolidated basis, had $3.9 million in cash, noninterest-bearing deposits and liquid investments generally available for its cash needs. 40 See also the “Condensed Consolidated Statements of Cash Flows” included in “Item 1. Financial Statements and Supplementary Data” of this Form 10-Q, for further information. Regulatory Capital Consistent with our goal to operate a sound and profitable financial organization, we actively seek to maintain a well-capitalized status for the Bank per the regulatory framework for prompt corrective action (“PCA”). Qualifying institutions that elect to use the Community Bank Leverage Ratio, or CBLR, framework, such as the Bank and the Company, that maintain the required minimum leverage ratio will be considered to have satisfied the generally applicable risk-based and leverage capital requirements in the regulatory agencies' capital rules, and to have met the capital requirements for the well capitalized category under the agencies’ PCA framework. As of March 31, 2025, the Bank’s and the Company’s CBLRs were 10.76% and 9.98%, respectively, which exceeded the minimum requirement of 9%. In February 2019, the U.S. federal bank regulatory agencies approved a final rule modifying their regulatory capital rules and providing an option to phase-in over a three-year period the Day 1 adverse regulatory capital effects of the CECL accounting standard. The capital relief is phased into regulatory capital at 25% per year over a three-year transition period. The final rule was adopted and became effective in September 2020. The Company implemented the CECL model commencing January 1, 2023 and elected to phase in the full effect of CECL on regulatory capital over the three-year transition period. See "Part I, Item 1. Business – Regulation of Sound Community Bank – Capital Rules " in the Company's 2024 Form 10-K for additional information related to regulatory capital. Item 3. Quantitative and Qualitative Disclosures About Market Risk The Company provided information about market risk in Item 7A of its 2024 Form 10-K. There have been no material changes in our market risk since our 2024 Form 10-K.