EDGAR 10-K Filing

Company CIK: 763907
Filing Year: 2023
Filename: 763907_10-K_2023_0001558370-23-004547.json

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ITEM 1. BUSINESS
ITEM 1. BUSINESS
General
First United Corporation is a Maryland corporation chartered in 1985 and a bank holding company registered with the Board of Governors of the Federal Reserve System (the “FRB”) under the Bank Holding Company Act of 1956, as amended, that elected financial holding company status in 2022. The Corporation’s primary business is serving as the parent company of First United Bank & Trust, a Maryland trust company (the “Bank”), First United Statutory Trust I (“Trust I”) and First United Statutory Trust II (“Trust II” and together with Trust I, the “Trusts”), both Connecticut statutory business trusts, and First United Legacy Advisors, LLC, a Maryland limited liability company (“FULA”). The Trusts were formed for the purpose of selling trust preferred securities that qualified as Tier 1 capital. FULA was formed for the purpose of providing investment advice and related services, but it is not yet active. The Bank has two consumer finance company subsidiaries - OakFirst Loan Center, Inc., a West Virginia corporation, and OakFirst Loan Center, LLC, a Maryland limited liability company - and two subsidiaries that it uses to hold real estate acquired through foreclosure or by deed in lieu of foreclosure - First OREO Trust, a Maryland statutory trust, and FUBT OREO I, LLC, a Maryland limited liability company. In addition, the Bank owns 99.9% of the limited partnership interests in Liberty Mews Limited Partnership, a Maryland limited partnership formed for the purpose of acquiring, developing and operating low-income housing units in Garrett County, Maryland, and a 99.9% non-voting membership interest in MCC FUBT Fund, LLC, an Ohio limited liability company formed for the purpose of acquiring, developing and operating low-income housing units in Allegany County, Maryland.
At December 31, 2022, we had total assets of $1.8 billion, net loans of $1.3 billion and deposits of $1.6 billion. Shareholders’ equity at December 31, 2022 was $151.8 million.
The Corporation maintains an Internet website at www.mybank.com on which it makes available, free of charge, its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and all amendments to the foregoing as soon as reasonably practicable after these reports are electronically filed with, or furnished to, the SEC.
Banking Products and Services
The Bank operates 26 banking offices, one customer service center and 34 Automated Teller Machines (“ATMs”) in Allegany County, Frederick County, Garrett County, and Washington County in Maryland, and in Mineral County, Berkeley County, Monongalia County and Harrison County in West Virginia. The Bank is an independent community bank providing a complete range of retail and commercial banking services to businesses and individuals in its market areas. Services offered are essentially the same as those offered by the regional institutions that compete with the Bank and include checking, savings, money market deposit accounts, and certificates of deposit, business loans, personal loans, mortgage loans, lines of credit, and consumer-oriented retirement accounts including individual retirement accounts (“IRAs”) and employee benefit accounts. In addition, the Bank provides full brokerage services through a networking arrangement with Cetera Investment Services, LLC., a full-service broker-dealer. The Bank also provides safe deposit and night depository facilities, insurance products and trust services. The Bank’s deposits are insured by the Federal Deposit Insurance Corporation (the “FDIC”).
Lending Activities
Our lending activities are conducted through the Bank. Since 2010, the Bank has not originated any new loans through the OakFirst Loan Centers and their sole activity is servicing existing loans.
The Bank’s commercial loans are primarily secured by real estate, commercial equipment, vehicles or other assets of the borrower. Repayment is often dependent on the successful business operations of the borrower and may be affected by adverse conditions in the local economy or real estate market. The financial condition and cash flow of commercial borrowers is therefore carefully analyzed during the loan approval process, and continues to be monitored throughout the duration of the loan by obtaining business financial statements, personal financial statements and income tax returns. The
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frequency of this ongoing analysis depends upon the size and complexity of the credit and collateral that secures the loan. It is also the Bank’s general policy to obtain personal guarantees from the principals of the commercial loan borrowers.
Commercial real estate (“CRE”) loans are primarily those secured by land for residential and commercial development, agricultural purpose properties, service industry buildings such as restaurants and motels, retail buildings and general purpose business space. The Bank attempts to mitigate the risks associated with these loans through low loan to value ratio standards, thorough financial analyses, and management’s knowledge of the local economy in which the Bank lends.
The risk of loss associated with CRE construction lending is controlled through conservative underwriting procedures such as loan to value ratios of 80% or less, obtaining additional collateral when prudent, analysis of cash flows, and closely monitoring construction projects to control disbursement of funds on loans.
The Bank’s residential mortgage portfolio is distributed between variable and fixed rate loans. Some loans are booked at fixed rates to meet the Bank’s requirements under the federal Community Reinvestment Act (the “CRA”) or to complement our asset liability mix. Other fixed rate residential mortgage loans are originated in a brokering capacity on behalf of other financial institutions, for which the Bank receives a fee. As with any consumer loan, repayment is dependent on the borrower’s continuing financial stability, which can be adversely impacted by factors such as job loss, divorce, illness, or personal bankruptcy. Residential mortgage loans exceeding an internal loan-to-value ratio require private mortgage insurance. Title insurance protecting the Bank’s lien priority, as well as fire and casualty insurance, is also required. During 2021, the Bank was an active participant in selling qualifying residential mortgage loans to the secondary market outlet due to the low fixed rate environment. During 2022, residential mortgage loans at higher rates were booked as in-house portfolio loans.
Home equity lines of credit, included within the residential mortgage portfolio, are secured by the borrower’s home and can be drawn on at the discretion of the borrower. These lines of credit are at variable interest rates.
The Bank also provides residential real estate construction loans to builders and individuals for single family dwellings. Residential construction loans are usually granted based upon “as completed” appraisals and are secured by the property under construction. Site inspections are performed to determine pre-specified stages of completion before loan proceeds are disbursed. These loans typically have maturities of six to 12 months and may have a fixed or variable rate. Permanent financing for individuals offered by the Bank includes fixed and variable rate loans with five, seven or 10-year adjustable rate mortgages.
A variety of other consumer loans are also offered to customers, including indirect and direct auto loans, student loans, and other secured and unsecured lines of credit and term loans.
An allowance for loan losses (“ALL”) is maintained to provide for probable losses from our lending activities. A complete discussion of the factors considered in determination of the ALL is included in Item 7 of Part II of this report.
Deposit Activities
The Bank offers a full array of deposit products including checking, savings and money market accounts, regular and IRA certificates of deposit, Christmas Savings accounts, College Savings accounts, and Health Savings accounts. The Bank also offers the Certificate of Deposit Account Registry Service®, or CDARS®, program to municipalities, businesses, and consumers through which the Bank provides access to multi-million-dollar certificates of deposit and the Insured Cash Sweep®, or ICS®, program to municipalities, businesses, and consumers through which the Bank provides access to multi-million-dollar savings and demand deposits. Both programs are FDIC-insured. In addition, we offer our commercial customers packages which include Treasury Management, Cash Sweep and various checking opportunities.
Information about our income from and assets related to our banking business may be found in the Consolidated Statements of Financial Condition and the Consolidated Statements of Income and the related notes thereto included in Item 8 of Part II of this annual report.
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Wealth Management
The Bank’s Trust Department offers a full range of trust services, including personal trust, investment agency accounts, charitable trusts, retirement accounts including IRA roll-overs, 401(k) accounts and defined benefit plans, estate administration and estate planning.
At December 31, 2022 and 2021, the total market value of assets under the supervision of the Bank’s Trust Department was approximately $1.0 billion and $1.1 billion, respectively. Trust Department revenues for these years may be found in the Consolidated Statements of Income under the heading “Other operating income”, which is contained in Item 8 of Part II of this annual report.
COMPETITION
The banking business, in all of its phases, is highly competitive. Within our market areas, we compete with commercial banks, (including local banks and branches or affiliates of other larger banks), savings and loan associations and credit unions for loans and deposits, with consumer finance companies for loans, and with other financial institutions for various types of products and services, including trust services. There is also competition for commercial and retail banking business from banks and financial institutions located outside our market areas and on the internet.
The primary factors in competing for deposits are interest rates, personalized services, the quality and range of financial services, convenience of office locations and office hours. The primary factors in competing for loans are interest rates, loan origination fees, the quality and range of lending services and personalized services.
To compete with other financial services providers, we rely principally upon local promotional activities, personal relationships established by officers, directors and employees with customers, and specialized services tailored to meet customers’ needs. In those instances in which we are unable to accommodate customers’ needs, we attempt to arrange for those services to be provided by other financial services providers with which we have a relationship.
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The following tables set forth deposit data for the Maryland and West Virginia Counties in which the Bank maintains offices as of June 30, 2022, the most recent date for which comparative information is available.
Offices
Deposits
Market
(in Market)
(in thousands)
Share
Allegany County, Maryland:
Manufacturers & Traders Trust Company
$
255,963
32.83%
First United Bank & Trust
216,975
27.83%
Truist Bank
202,271
25.94%
Standard Bank, PaSB
88,190
11.31%
Somerset Trust Commpany
16,279
2.09%
Source: FDIC Deposit Market Share Report
Frederick County, Maryland:
PNC Bank NA
$
1,913,260
26.68%
Truist Bank
1,303,594
18.18%
Bank Of America NA
810,325
11.30%
Manufacturers & Traders Trust Company
541,046
7.55%
Acnb Bank
479,118
6.68%
Capital One NA
450,992
6.29%
Sandy Spring Bank
434,102
6.05%
Woodsboro Bank
384,320
5.36%
Middletown Valley Bank
333,429
4.65%
First United Bank & Trust
247,416
3.45%
Wells Fargo Bank NA
167,740
2.34%
Fulton Bank National Association
52,436
0.73%
WesBanco Bank, Inc.
47,821
0.67%
Woodforest National Bank
4,613
0.07%
Source: FDIC Deposit Market Share Report
Garrett County, Maryland:
First United Bank & Trust
$
434,536
59.75%
Manufacturers & Traders Trust Company
124,960
17.18%
Clear Mountain Bank
72,167
9.92%
Truist Bank
62,946
8.66%
Somerset Trust Company
23,925
3.29%
Miners & Merchants Bank
8,709
1.20%
Source: FDIC Deposit Market Share Report
Washington County, Maryland:
Truist Bank
$
792,834
23.36%
Fulton Bank National Association
668,989
19.71%
Manufacturers & Traders Trust Company
606,656
17.88%
Middletown Valley Bank
437,757
12.90%
PNC Bank NA
367,702
10.83%
First United Bank & Trust
153,248
4.52%
United Bank
131,148
3.86%
CNB Bank, Inc.
128,432
3.79%
Orrstown Bank
48,155
1.42%
Bank of Charles Town
30,608
0.90%
Ameriserv Financial Bank
20,799
0.61%
Jefferson Security Bank
7,483
0.22%
Source: FDIC Deposit Market Share Report
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Berkeley County, West Virginia:
United Bank
$
526,263
27.45%
Truist Bank
403,487
21.05%
City National Bank of West Virginia
249,231
13.00%
Summit Community Bank, Inc.
176,389
9.20%
First United Bank & Trust
166,173
8.67%
Jefferson Security Bank
148,180
7.72%
CNB Bank, Inc.
122,736
6.40%
Bank of Charles Town
120,718
6.30%
Woodforest National Bank
4,069
0.21%
Source: FDIC Deposit Market Share Report
Harrison County, West Virginia:
Truist Bank
$
584,165
27.09%
WesBanco Bank, Inc.
306,828
14.23%
The Huntington National Bank
305,873
14.18%
MVB Bank, Inc.
299,849
13.90%
JP Morgan Chase Bank, NA
290,514
13.47%
Harrison County Bank
147,566
6.84%
City National Bank of West Virginia
59,126
2.74%
Peoples Bank
37,992
1.76%
Clear Mountain Bank
29,742
1.38%
BC Bank, Inc.
24,500
1.14%
West Union Bank
22,198
1.03%
Summit Community Bank, Inc.
21,505
1.00%
Freedom Bank, Inc
18,444
0.86%
First United Bank & Trust
8,236
0.38%
Source: FDIC Deposit Market Share Report
Mineral County, West Virginia:
First United Bank & Trust
$
119,927
38.76%
Manufacturers & Traders Trust Company
68,998
22.30%
Truist Bank
65,789
21.26%
Grant County Bank
40,844
13.20%
FNB Bank, Inc.
13,883
4.48%
Source: FDIC Deposit Market Share Report
Monongalia County, West Virginia:
MVB Bank, Inc.
$
1,564,571
33.12%
United Bank
1,215,804
25.75%
The Huntington National Bank
586,726
12.42%
Truist Bank
349,204
7.39%
Clear Mountain Bank
340,982
7.22%
WesBanco Bank, Inc.
241,465
5.11%
PNC Bank NA
183,707
3.89%
First United Bank & Trust
140,734
2.98%
Citizens Bank of Morgantown, Inc.
38,759
0.82%
First Exchange Bank
35,764
0.76%
Summit Community Bank, Inc.
12,292
0.26%
JP Morgan Chase Bank, NA
10,016
0.21%
City National Bank of West Virginia
3,453
0.07%
Source: FDIC Deposit Market Share Report
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For further information about competition in our market areas, see the Risk Factor entitled “We operate in a competitive environment, and our inability to effectively compete could adversely and materially impact our financial condition and results of operations” in Item 1A of Part I of this annual report.
SUPERVISION AND REGULATION
The following is a summary of the material regulations and policies applicable to the Corporation and its subsidiaries and is not intended to be a comprehensive discussion. Changes in applicable laws and regulations may have a material effect on our business.
General
The Corporation is registered with the Federal Reserve as a financial holding company under the BHC Act and, as such, is subject to the supervision, examination and reporting requirements of the BHC Act and the regulations of the Federal Reserve. As a publicly-traded company whose common stock, par value $.01 per share (the “Common Stock”), is registered under Section 12(b) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and listed on The NASDAQ Global Select Market, the Corporation is also subject to regulation and supervision by the SEC and The NASDAQ Stock Market, LLC (“NASDAQ”).
The Bank is a Maryland trust company subject to the banking laws of Maryland and to regulation by the Office of the Maryland Commissioner of Financial Regulation (the “Maryland Commissioner”), who is required by statute to make at least one examination in each calendar year (or at 18-month intervals if the Maryland Commissioner determines that an examination is unnecessary in a particular calendar year). The Bank also has offices in West Virginia, and the operations of these offices are subject to various West Virginia laws. As a member of the FDIC, the Bank is also subject to certain provisions of federal laws and regulations regarding deposit insurance and activities of insured state-chartered banks, including those that require examination by the FDIC. In addition to the foregoing, there are a myriad of other federal and state laws and regulations that affect, or govern the business of banking, including consumer lending, deposit-taking, and trust operations.
All non-bank subsidiaries of the Corporation are subject to examination by the FRB, and, as affiliates of the Bank, are subject to examination by the FDIC and the Maryland Commissioner. In addition, OakFirst Loan Center, Inc. is subject to licensing and regulation by the West Virginia Division of Banking, and OakFirst Loan Center, LLC is subject to licensing and regulation by the Maryland Commissioner. If and when FULA becomes active, management anticipates that its activities will be regulated by the SEC under the federal Investment Advisers Act of 1940, as amended.
Regulation of Bank Holding Companies
The Corporation and its affiliates are subject to the provisions of Section 23A and Section 23B of the Federal Reserve Act. Section 23A limits the amount of loans or extensions of credit to, and investments in, the Corporation and its non-bank affiliates by the Bank. Section 23B requires that transactions between the Bank and the Corporation and its non-bank affiliates be on terms and under circumstances that are substantially the same as with non-affiliates.
Under Federal Reserve policy, the Corporation is expected to act as a source of strength to the Bank, and the Federal Reserve may charge the Corporation with engaging in unsafe and unsound practices for failure to commit resources to a subsidiary bank when required. This support may be required at times when the bank holding company may not have the resources to provide the support. Under the prompt corrective action provisions, if a controlled bank is undercapitalized, then the regulators could require the bank holding company to guarantee the bank’s capital restoration plan. In addition, if the Federal Reserve believes that a bank holding company’s activities, assets or affiliates represent a significant risk to the financial safety, soundness or stability of a controlled bank, then the Federal Reserve could require the bank holding company to terminate the activities, liquidate the assets or divest the affiliates. The regulators may require these and other actions in support of controlled banks even if such actions are not in the best interests of the bank holding company or its stockholders. Because the Corporation is a bank holding company, it is viewed as a source of financial and managerial strength for any controlled depository institutions, like the Bank.
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In addition, under the Financial Institutions Reform, Recovery and Enforcement Act of 1989 (“FIRREA”), depository institutions insured by the FDIC can be held liable for any losses incurred by, or reasonably anticipated to be incurred by, the FDIC in connection with (i) the default of a commonly controlled FDIC-insured depository institution or (ii) any assistance provided by the FDIC to a commonly controlled FDIC-insured depository institution in danger of default. Accordingly, in the event that any insured subsidiary of the Corporation causes a loss to the FDIC, other insured subsidiaries of the Corporation could be required to compensate the FDIC by reimbursing it for the estimated amount of such loss. Such cross guaranty liabilities generally are superior in priority to obligations of a financial institution to its shareholders and obligations to other affiliates.
Regulation of Financial Holding Companies
In 2021, the Corporation elected to become a financial holding company, which allows it to engage in certain activities, and own shares or control of certain entities, that are in addition to those permissible for an entity that is a bank holding company only. The provisions of the BHC Act relating to financial holding companies and the regulations promulgated thereunder require the Bank to remain “well capitalized” and “well managed”. The capital requirement is discussed below under the heading, “Prompt Corrective Action”. The Bank will be considered to be well managed so long as it achieves a CAMEL composite rating of at least “2” as a result of its most recent examination and at least a “satisfactory” management rating (if such rating is given). If the Bank were to fail to meet either of these requirements, then the Corporation would be required to enter into an agreement with the Federal Reserve that would address the remediation of the condition that led to the failure. During the term of that agreement, which is typically 180 days but can be extended at the discretion of the Federal Reserve, the Corporation would be prohibited from commencing any additional activity or acquiring control or shares of any company that would otherwise be permissible for a financial holding company under Section 4(k) of the BHC Act. If the Corporation were to fail to correct that condition by the expiration of the agreement’s term, then the Federal Reserve could order the Corporation to divest its ownership of the Bank or, alternatively, terminate all financial holding company activities. For so long as the Corporation remains a financial holding company, the Bank must also maintain a Satisfactory or better rating under the Community Reinvestment Act (the “CRA”). During any period that the Bank fails to satisfy this requirement, the Corporation is prohibited from commencing any additional activity or acquiring control or shares of any company that would otherwise be permissible for a financial holding company under Section 4(k) of the BHC Act. The Bank currently satisfies all of the foregoing conditions.
Federal Banking Regulation
Federal banking regulators, such as the Federal Reserve and the FDIC, may prohibit the institutions over which they have supervisory authority from engaging in activities or investments that the agencies believe are unsafe or unsound banking practices. Federal banking regulators have extensive enforcement authority over the institutions they regulate to prohibit or correct activities that violate law, regulation or a regulatory agreement or which are deemed to be unsafe or unsound practices. Enforcement actions may include the appointment of a conservator or receiver, the issuance of a cease and desist order, the termination of deposit insurance, the imposition of civil money penalties on the institution, its directors, officers, employees and institution-affiliated parties, the issuance of directives to increase capital, the issuance of formal and informal agreements, the removal of or restrictions on directors, officers, employees and institution-affiliated parties, and the enforcement of any such mechanisms through restraining orders or other court actions.
The Bank is subject to certain restrictions on extensions of credit to executive officers, directors, and principal shareholders or any related interest of such persons, which generally require that such credit extensions be made on substantially the same terms as those available to persons who are not related to the Bank and not involve more than the normal risk of repayment. Other laws tie the maximum amount that may be loaned to any one customer and its related interests to capital levels.
As part of the Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”), each federal banking regulator adopted non-capital safety and soundness standards for institutions under its authority. These standards include internal controls, information systems and internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, and compensation, fees and benefits. An institution that fails to meet those standards may be required by the agency to develop a plan acceptable to meet the standards. Failure to submit or implement such a plan
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may subject the institution to regulatory sanctions. We believe that the Bank meets substantially all standards that have been adopted. FDICIA also imposes capital standards on insured depository institutions.
The CRA requires the FDIC, in connection with its examination of financial institutions within its jurisdiction, to evaluate the record of those financial institutions in meeting the credit needs of their communities, including low and moderate income neighborhoods, consistent with principles of safe and sound banking practices. These factors are also considered by all regulatory agencies in evaluating mergers, acquisitions and applications to open a branch or facility. As of the date of its most recent examination report, the Bank had a CRA rating of “Satisfactory”.
The Bank is also subject to a variety of other laws and regulations with respect to the operation of its business, including, but not limited to, the TILA/RESPA Integrated Disclosure rule (“TRID”), Truth in Lending Act, the Real Estate Settlement Procedures Act, the Truth in Savings Act, the Equal Credit Opportunity Act, the Electronic Funds Transfer Act, the Fair Housing Act, the Home Mortgage Disclosure Act, the Fair Debt Collection Practices Act, the Fair Credit Reporting Act, Expedited Funds Availability (Regulation CC), Reserve Requirements (Regulation D), Privacy of Consumer Information (Regulation P), Margin Stock Loans (Regulation U), the Right To Financial Privacy Act, the Flood Disaster Protection Act, the Homeowners Protection Act, the Servicemembers Civil Relief Act, the Telephone Consumer Protection Act, the CAN-SPAM Act, the Children’s Online Privacy Protection Act, Bank Secrecy Act/Anti-Money Laundering (“BSA/AML”) and Office of Foreign Assets Control (“OFAC”).
Capital Requirements
We require capital to fund loans, satisfy our obligations under the Bank’s letters of credit, meet the deposit withdrawal demands of the Bank’s customers, and satisfy our other monetary obligations. To the extent that deposits are not adequate to fund our capital requirements, we can rely on the funding sources identified below under the heading “Liquidity Management”. As of December 31, 2022, the Bank had $140.0 million available through unsecured lines of credit with correspondent banks, $9.6 million available through a secured line of credit with the Federal Reserve Discount Window and approximately $195.3 million available through the Federal Home Loan Bank of Atlanta (“FHLB”). Management is not aware of any demands, commitments, events or uncertainties that are likely to materially affect our ability to meet our future capital requirements.
In addition to operational requirements, the Bank and the Corporation are subject to risk-based capital regulations, which were adopted and are monitored by federal banking regulators. These regulations are used to evaluate capital adequacy and require an analysis of an institution’s asset risk profile and off-balance sheet exposures, such as unused loan commitments and stand-by letters of credit.
Regulators may require higher capital ratios when warranted by the particular circumstances or risk profile of a given banking organization. In the current regulatory environment, banking organizations must stay well-capitalized in order to receive favorable regulatory treatment on acquisition and other expansion activities and favorable risk-based deposit insurance assessments. Our capital policy establishes guidelines meeting these regulatory requirements and takes into consideration current or anticipated risks as well as potential future growth opportunities.
In July 2019, the federal banking agencies adopted a final rule that simplifies compliance with certain aspects of the capital rules. A majority of the simplifications apply solely to banking organizations that are not subject to the advanced approaches capital rule. The rule simplified the application of regulatory capital treatment for mortgage servicing assets, certain deferred tax assets arising from temporary differences, investments in the capital of unconsolidated financial institutions, and capital issued by a consolidated subsidiary of a banking organization and held by third parties (minority interest). In addition, the rule revised the treatment of certain acquisition, development, or construction exposures.
As of December 31, 2022, we were in compliance with the applicable requirements.
Additional information about our capital ratios is contained in “Consolidated Balance Sheet Review” section of Item 7 of Part II of this annual report under the heading “Capital Resources”.
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Prompt Corrective Action
The Federal Deposit Insurance Act (“FDI Act”) requires, among other things, the federal banking agencies to take “prompt corrective action” in respect of depository institutions that do not meet minimum capital requirements. The FDI Act includes the following five capital tiers: “well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized” and “critically undercapitalized.” A depository institution’s capital tier will depend upon how its capital levels compare with various relevant capital measures and certain other factors, as established by regulation. The relevant capital measures are the total capital ratio, the Tier 1 capital ratio and the leverage ratio.
A bank will be (i) “well capitalized” if the institution has a total risk-based capital ratio of 10.0% or greater, a Tier 1 risk-based capital ratio of 6.0% or greater, and a leverage ratio of 5.0% or greater, and is not subject to any order or written directive by any such regulatory authority to meet and maintain a specific capital level for any capital measure, (ii) “adequately capitalized” if the institution has a total risk-based capital ratio of 8.0% or greater, a Tier 1 risk-based capital ratio of 4.0% or greater, and a leverage ratio of 4.0% or greater and is not “well capitalized”, (iii) “undercapitalized” if the institution has a total risk-based capital ratio that is less than 8.0%, a Tier 1 risk-based capital ratio of less than 4.0% or a leverage ratio of less than 4.0%, (iv) “significantly undercapitalized” if the institution has a total risk-based capital ratio of less than 6.0%, a Tier 1 risk-based capital ratio of less than 3.0% or a leverage ratio of less than 3.0%, and (v) “critically undercapitalized” if the institution’s tangible equity is equal to or less than 2.0% of average quarterly tangible assets. An institution may be downgraded to, or deemed to be in, a capital category that is lower than indicated by its capital ratios if it is determined to be in an unsafe or unsound condition or if it receives an unsatisfactory examination rating with respect to certain matters. A bank’s capital category is determined solely for the purpose of applying prompt corrective action regulations, and the capital category may not constitute an accurate representation of the bank’s overall financial condition or prospects for other purposes.
Following the 2010 enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”), the federal banking regulators implemented the Basel III regulatory framework on bank capital adequacy, stress testing, and market liquidity risk (the “Basel III Capital Rules”). The Basel III Capital Rules revised the prompt corrective action requirements by (i) introducing the Common Equity Tier 1 (“CET1”) ratio requirement at each level (other than critically undercapitalized), with the required CET1 ratio being 6.5% for well-capitalized status; (ii) increasing the minimum Tier 1 capital ratio requirement for each category (other than critically undercapitalized), with the minimum Tier 1 capital ratio for well-capitalized status being 8%; and (iii) eliminating the provision that permitted a bank with a composite supervisory rating of 1 but a leverage ratio of at least 3% to be deemed adequately capitalized.
The FDI Act generally prohibits a depository institution from making any capital distributions (including payment of a dividend) or paying any management fee to its parent holding company if the depository institution would thereafter be “undercapitalized.” “Undercapitalized” institutions are subject to growth limitations and are required to submit a capital restoration plan. The agencies may not accept such a plan without determining, among other things, that the plan is based on realistic assumptions and is likely to succeed in restoring the depository institution’s capital. In addition, for a capital restoration plan to be acceptable, the depository institution’s parent holding company must guarantee that the institution will comply with such capital restoration plan. The bank holding company must also provide appropriate assurances of performance. The aggregate liability of the parent holding company is limited to the lesser of (i) an amount equal to 5.0% of the depository institution’s total assets at the time it became undercapitalized and (ii) the amount which is necessary (or would have been necessary) to bring the institution into compliance with all capital standards applicable with respect to such institution as of the time it fails to comply with the plan. If a depository institution fails to submit an acceptable plan, it is treated as if it is “significantly undercapitalized.” Significantly undercapitalized” depository institutions may be subject to a number of requirements and restrictions, including orders to sell sufficient voting stock to become “adequately capitalized,” requirements to reduce total assets, and cessation of receipt of deposits from correspondent banks. “Critically undercapitalized” institutions are subject to the appointment of a receiver or conservator.
The appropriate federal banking agency may, under certain circumstances, reclassify a well-capitalized insured depository institution as adequately capitalized. The FDI Act provides that an institution may be reclassified if the appropriate federal banking agency determines (after notice and opportunity for hearing) that the institution is in an unsafe or unsound condition or deems the institution to be engaging in an unsafe or unsound practice.
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The appropriate agency is also permitted to require an adequately capitalized or undercapitalized institution to comply with the supervisory provisions as if the institution were in the next lower category (but not treat a significantly undercapitalized institution as critically undercapitalized) based on supervisory information other than the capital levels of the institution.
As of December 31, 2022, the Bank and the Corporation were “well capitalized” based on the aforementioned ratios.
Liquidity Requirements
Historically, the regulation and monitoring of bank liquidity has been addressed as a supervisory matter, without required formulaic measures. The Basel III Capital Rules require banks to measure their liquidity against specific liquidity tests that, although similar in some respects to liquidity measures historically applied by banks and regulators for management and supervisory purposes, going forward would be required by regulation. One test, referred to as the liquidity coverage ratio, is designed to ensure that the banking entity maintains an adequate level of unencumbered high-quality liquid assets equal to the entity’s expected net cash outflow for a 30-day time horizon (or, if greater, 25% of its expected total cash outflow) under an acute liquidity stress scenario. The other test, referred to as the net stable funding ratio, is designed to promote more medium- and long-term funding of the assets and activities of banking entities over a one-year time horizon. These requirements will incent banking entities to increase their holdings of securities issued by the U.S. Department of the Treasury (the “Treasury”) and other sovereign debt as a component of assets and increase the use of long-term debt as a funding source.
Deposit Insurance
The Bank is a member of the FDIC and pays an insurance premium to the FDIC based upon its assessable deposits on a quarterly basis. Deposits are insured up to applicable limits by the FDIC and such insurance is backed by the full faith and credit of the United States Government.
The deposit insurance limit set by law is currently $250,000. The coverage limit is per depositor, per insured depository institution for each account ownership category.
The Federal Deposit Insurance Reform Act of 2005, which created the DIF, gave the FDIC greater latitude in setting the assessment rates for insured depository institutions which could be used to impose minimum assessments. The FDIC has the flexibility to adopt actual rates that are higher or lower than the total base assessment rates adopted without notice and comment, if certain conditions are met.
In October 2022, the FDIC adopted a final rule to increase the initial base deposit insurance assessment rate schedules uniformly by two basis points beginning in the first quarterly assessment period of 2023. The increased assessment is expected to improve the likelihood that the DIF reserve ratio would reach the statutory minimum of 1.35% by the statutory deadline prescribed under the FDIC’s amended restoration plan.
The FDIC is authorized to conduct examinations of and require reporting by FDIC-insured institutions. It is also authorized to terminate a depository bank’s deposit insurance upon a finding by the FDIC that the bank’s financial condition is unsafe or unsound or that the institution has engaged in unsafe or unsound practices or has violated any applicable rule, regulation, order or condition enacted or imposed by the bank’s regulatory agency. The termination of deposit insurance for our bank subsidiary would have a material adverse effect on our earnings, operations and financial condition.
Bank Secrecy Act/Anti-Money Laundering
The Bank Secrecy Act (“BSA”), which is intended to require financial institutions to develop policies, procedures, and practices to prevent and deter money laundering, mandates that every national bank have a written, board-approved program that is reasonably designed to assure and monitor compliance with the BSA.
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The program must, at a minimum: (i) provide for a system of internal controls to assure ongoing compliance; (ii) provide for independent testing for compliance; (iii) designate an individual responsible for coordinating and monitoring day-to-day compliance; and (iv) provide training for appropriate personnel. In addition, state-chartered banks are required to adopt a customer identification program as part of its BSA compliance program. State-chartered banks are also required to file Suspicious Activity Reports when they detect certain known or suspected violations of federal law or suspicious transactions related to a money laundering activity or a violation of the BSA.
In addition to complying with the BSA, the Bank is subject to the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (the “USA Patriot Act”). The USA Patriot Act is designed to deny terrorists and criminals the ability to obtain access to the United States’ financial system and has significant implications for depository institutions, brokers, dealers, and other businesses involved in the transfer of money. The USA Patriot Act mandates that financial service companies implement additional policies and procedures and take heightened measures designed to address any or all of the following matters: customer identification programs, money laundering, terrorist financing, identifying and reporting suspicious activities and currency transactions, currency crimes, and cooperation between financial institutions and law enforcement authorities.
Dodd-Frank Act
The Dodd-Frank Act was enacted in July 2010 and significantly restructured the financial regulatory regime in the United States. Although the Dodd-Frank Act’s provisions that have received the most public attention generally have been those applying to or more likely to affect larger institutions such as banks and bank holding companies with total consolidated assets of $50 billion or more, it contains numerous other provisions that affect all financial institutions, including the Bank. The Dodd-Frank Act established the Consumer Financial Protection Bureau (the “CFPB”), discussed below, and contains a wide variety of provisions affecting the regulation of depository institutions, including fair lending, fair debt collection practices, mortgage loan origination and servicing obligations, bankruptcy, military service member protections, use of credit reports, privacy matters, and disclosure of credit terms and correction of billing errors. Local, state and national regulatory and enforcement agencies continue efforts to address perceived problems within the mortgage lending and credit card industries through broad or targeted legislative or regulatory initiatives aimed at lenders’ operations in consumer lending markets. There continues to be a significant amount of legislative and regulatory activity, nationally, locally and at the state level, designed to limit certain lending practices while mandating certain servicing procedures. Federal bankruptcy and state debtor relief and collection laws, as well as the Servicemembers Civil Relief Act affect the ability of banks, including the Bank, to collect outstanding balances.
Moreover, the Dodd-Frank Act permits states to adopt stricter consumer protection laws and states’ attorneys general may enforce consumer protection rules issued by the CFPB. U.S. financial regulatory agencies have increasingly used a general consumer protection statute to address unethical or otherwise bad business practices that may not necessarily fall directly under the purview of a specific banking or consumer finance law. Prior to the Dodd-Frank Act, there was little formal guidance to provide insight to the parameters for compliance with the “unfair or deceptive acts or practices” (“UDAP”) law. However, the UDAP provisions have been expanded under the Dodd-Frank Act to apply to “unfair, deceptive or abusive acts or practices”, which has been delegated to the CFPB for supervision.
The Dodd-Frank Act has increased, and will likely continue to increase, our regulatory compliance burdens and costs and may restrict the financial products and services that we offer to our customers in the future.
Mortgage Lending and Servicing
The Bank’s mortgage lending and servicing activities are subject to various laws and regulations that are enforced by the federal banking regulators and the CFPB, such as the Truth in Lending Act, the Real Estate Settlement Procedures Act, and various rules adopted thereunder, including those relating to consumer disclosures, appraisal requirements, mortgage originator compensation, prohibitions on mandatory arbitration provisions under certain circumstances, and the obligation to credit payments and provide payoff statements within certain time periods and provide certain notices prior to interest rate and payment adjustments.
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The Bank is required to make a reasonable and good faith determination based on verified and documented information that a consumer applying for a mortgage loan has a reasonable ability to repay the loan according to its terms. Qualified mortgages that that are not “higher-priced” are afforded a safe harbor presumption of compliance with the ability to repay rules, while qualified mortgages that are “higher-priced” garner a rebuttable presumption of compliance with the ability to repay rules. In general, a “qualified mortgage” is a mortgage loan without negative amortization, interest-only payments, balloon payments, or a term exceeding 30 years, where the lender determines that the borrower has the ability to repay, and where the borrower’s points and fees do not exceed 3% of the total loan amount. “Higher-priced” mortgages must have escrow accounts for taxes and insurance and similar recurring expenses.
Consumer Lending - Military Lending Act
The Military Lending Act (the “MLA”), which was initially implemented in 2007, was amended and its coverage significantly expanded in 2015. The Department of Defense (the “DOD”) issued a final rule under the MLA that took effect on October 15, 2015, but financial institutions were not required to take action until October 3, 2016. The types of credit covered under the MLA were expanded to include virtually all consumer loan and credit card products (except for loans secured by residential real property and certain purchase-money motor vehicle/personal property secured transactions). Lenders must now provide specific written and oral disclosures concerning the protections of the MLA to active duty members of the military and dependents of active duty members of the military (“covered borrowers”). The rule imposes a 36% “Military Annual Percentage Rate” cap that includes costs associated with credit insurance premiums, fees for ancillary products, finance charges associated with the transactions, and application and participation charges. In addition, loan terms cannot include (i) a mandatory arbitration provision, (ii) a waiver of consumer protection laws, (iii) mandatory allotments from military benefits, or (iv) a prepayment penalty. The revised rule also prohibits “roll-over” or refinances of the same loan unless the new loan provides more favorable terms for the covered borrower. Lenders may verify covered borrower status using a DOD database or information provided by credit bureaus. We believe that we are in compliance with the revised rule.
Cybersecurity
We rely on electronic communications and information systems to conduct our operations and store sensitive data. We employ an in-depth approach that leverages people, processes, and technology to manage and maintain cybersecurity controls. In addition, we employ a variety of preventative and detective tools to monitor, block, and provide alerts regarding suspicious activity, as well as to report on any suspected advanced persistent threats. Notwithstanding the strength of our defensive measures, the threat from cyber-attacks is severe, attacks are sophisticated and increasing in volume, and attackers respond rapidly to changes in defensive measures.
The federal banking regulators have adopted guidelines for establishing information security standards and cybersecurity programs for implementing safeguards under the supervision of a financial institution’s board of directors. These guidelines, along with related regulatory materials, increasingly focus on risk management and processes related to information technology and the use of third parties in the provision of financial products and services. The federal banking regulators expect financial institutions to establish lines of defense and to ensure that their risk management processes address the risk posed by compromised customer credentials, and also expect financial institutions to maintain sufficient business continuity planning processes to ensure rapid recovery, resumption and maintenance of the institution's operations after a cyberattack. If we fail to meet the expectations set forth in this regulatory guidance, then we could be subject to various regulatory actions and we may be required to devote significant resources to any required remediation efforts.
Federal Securities Laws and NASDAQ Rules
The Common Stock is registered with the SEC under Section 12(b) of the Exchange and shares of the Common Stock are listed on the NASDAQ Global Select Market. The Corporation is subject to information reporting requirements, proxy solicitation requirements, insider trading restrictions and other requirements of the Exchange Act, including the requirements imposed under the federal Sarbanes-Oxley Act of 2002, and rules adopted by NASDAQ. Among other things, loans to and other transactions with insiders are subject to restrictions and heightened disclosure, directors and certain committees of the Board must satisfy certain independence requirements, the Corporation must comply with certain
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enhanced corporate governance requirements, and various issuances of securities by the Corporation require shareholder approval.
Governmental Monetary and Credit Policies and Economic Controls
The earnings and growth of the banking industry and ultimately of the Bank are affected by the monetary and credit policies of governmental authorities, including the Federal Reserve. An important function of the Federal Reserve is to regulate the national supply of bank credit in order to control recessionary and inflationary pressures. Among the instruments of monetary policy used by the Federal Reserve to implement these objectives are open market operations in U.S. Government securities, changes in the federal funds rate, changes in the discount rate of member bank borrowings, and changes in reserve requirements against member bank deposits. These means are used in varying combinations to influence overall growth of bank loans, investments and deposits and may also affect interest rates charged on loans or paid on deposits. The monetary policies of the Federal Reserve authorities have had a significant effect on the operating results of commercial banks in the past and are expected to continue to have such an effect in the future. In view of changing conditions in the national economy and in the money markets, as well as the effect of actions by monetary and fiscal authorities, including the Federal Reserve, no prediction can be made as to possible future changes in interest rates, deposit levels, loan demand or their effect on our businesses and earnings.
SEASONALITY
Management does not believe that our business activities are seasonal in nature. Deposit and loan demand may vary depending on local and national economic conditions, but variations will not have a material impact on our planning or policy-making strategies.
EMPLOYEES
At December 31, 2022, we employed 336 individuals, of whom 298 were full-time employees.

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ITEM 1A. RISK FACTORS
ITEM 1A. RISK FACTORS
The significant risks and uncertainties related to us, our business and our securities of which we are aware are discussed below. Investors and shareholders should carefully consider these risks and uncertainties before making investment decisions with respect to the Corporation’s securities. Any of these factors could materially and adversely affect our business, financial condition, operating results and prospects and could negatively impact the market price of the Corporation’s securities. If any of these risks materialize, the holders of the Corporation’s securities could lose all or part of their investments in the Corporation. Additional risks and uncertainties that we do not yet know of, or that we currently think are immaterial, may also impair our business operations. Investors and shareholders should also consider the other information contained in this annual report, including our financial statements and the related notes, before making investment decisions with respect to the Corporation’s securities.
Risks Relating to First United Corporation and its Affiliates
First United Corporation’s future success depends on the successful growth of its subsidiaries.
The Corporation’s primary business activity for the foreseeable future will be to act as the holding company of the Bank and its other direct and indirect subsidiaries. Therefore, the Corporation’s future profitability will depend on the success and growth of these subsidiaries.
The Bank’s funding sources may prove insufficient to replace deposits and support our future growth.
The Bank relies on customer deposits, advances from the FHLB, lines of credit at other financial institutions and brokered funds to fund our operations. Although the Bank has historically been able to replace maturing deposits and advances if desired, no assurance can be given that the Bank would be able to replace such funds in the future if our financial condition or the financial condition of the FHLB or market conditions were to change. Our financial flexibility
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will be severely constrained and/or our cost of funds will increase if we are unable to maintain our access to funding or if financing necessary to accommodate future growth is not available at favorable interest rates. Finally, if we are required to rely more heavily on more expensive funding sources to support future growth, our revenues may not increase proportionately to cover our costs. In that case, our profitability would be adversely affected.
Interest rates and other economic conditions will impact our results of operations.
Our net income depends primarily upon our net interest income. Net interest income is the difference between interest income earned on loans, investments and other interest-earning assets and the interest expense incurred on deposits and borrowed funds. The level of net interest income is primarily a function of the average balance of our interest-earning assets, the average balance of our interest-bearing liabilities, and the spread between the yield on such assets and the cost of such liabilities. These factors are influenced by both the pricing and mix of our interest-earning assets and our interest-bearing liabilities which, in turn, are impacted by such external factors as the local economy, competition for loans and deposits, the monetary policy of the Federal Open Market Committee of the Federal Reserve Board of Governors, and market interest rates.
Different types of assets and liabilities may react differently, and at different times, to changes in market interest rates. We expect that we will periodically experience gaps in the interest rate sensitivities of our assets and liabilities. That means either our interest-bearing liabilities will be more sensitive to changes in market interest rates than our interest-earning assets, or vice versa. When interest-bearing liabilities mature or re-price more quickly than interest-earning assets, an increase in market rates of interest could reduce our net interest income. Likewise, when interest-earning assets mature or re-price more quickly than interest-bearing liabilities, falling interest rates could reduce our net interest income. We are unable to predict changes in market interest rates, which are affected by many factors beyond our control, including inflation, deflation, recession, unemployment, money supply, domestic and international events and changes in the United States and other financial markets.
We also attempt to manage risk from changes in market interest rates, in part, by controlling the mix of interest rate sensitive assets and interest rate sensitive liabilities. However, interest rate risk management techniques are not exact. A rapid increase or decrease in interest rates could adversely affect our results of operations and financial performance.
Changes to LIBOR may adversely impact the value of, and the return on, our loans, investment securities and derivatives which are indexed to LIBOR.
We have certain loans, investment securities, interest rate swaps and long-term debt indexed to LIBOR to calculate the loan interest rate. On July 27, 2017, the United Kingdom Financial Conduct Authority, which regulates LIBOR, announced that it will no longer persuade or compel banks to submit rates for the calculation of LIBOR to the LIBOR administrator after 2021. The announcement also indicates that the continuation of LIBOR on the current basis cannot and will not be guaranteed after 2021. The Adjustable Interest Rate Act (“the LIBOR ACT”), enacted in March 2022, provides a statutory framework to replace U.S. dollar LIBOR with a benchmark rate based on the Secured Overnight Financing Rate (“SOFR”) for contracts governed by U.S. law that have no or ineffective fallbacks, and in December 2022, the Federal Reserve Board adopted related implementing rules. Although governmental authorities have endeavored to facilitate an orderly discontinuation of LIBOR, no assurance can be provided that this aim will be achieved or that the use, level, and volatility of LIBOR or other interest rates or the value of LIBOR-based securities will not be adversely affected. As a result, and despite the enactment of the LIBOR Act, for the most commonly used LIBOR settings, the use or selection of a successor rate could expose us to risks associated with disputes and litigation with our customers and counterparties and other market participants in connection with implementing LIBOR fallback provision.
The majority of our business is concentrated in Maryland and West Virginia, much of which involves real estate lending, so a decline in the real estate and credit markets could materially and adversely impact our financial condition and results of operations.
Most of the Bank’s loans are made to borrowers located in Western Maryland and Northeastern West Virginia, and many of these loans, including construction and land development loans, are secured by real estate. Accordingly, a decline in local economic conditions would likely have an adverse impact on our financial condition and results of
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operations, and the impact on us would likely be greater than the impact felt by larger financial institutions whose loan portfolios are geographically diverse. We cannot guarantee that any risk management practices we implement to address our geographic and loan concentrations will be effective to prevent losses relating to our loan portfolio.
The Bank’s concentrations of commercial real estate loans could subject it to increased regulatory scrutiny and directives, which could force us to preserve or raise capital and/or limit future commercial lending activities.
The federal banking regulators believe that institutions that have particularly high concentrations of CRE loans within their lending portfolios face a heightened risk of financial difficulties in the event of adverse changes in the economy and CRE markets. Accordingly, through published guidance, these regulators have directed institutions whose concentrations exceed certain percentages of capital to implement heightened risk management practices appropriate to their concentration risk. The guidance provides that banking regulators may require such institutions to reduce their concentrations and/or maintain higher capital ratios than institutions with lower concentrations in CRE. At December 31, 2022, our CRE concentrations were below the heightened risk management thresholds set forth in this guidance.
The Bank may experience loan losses in excess of its allowance for loan losses, which would reduce our earnings.
The risk of credit losses on loans varies with, among other things, general economic conditions, the type of loans being made, the creditworthiness of the borrowers over the term of the loans and, in the case of collateralized loans, the value and marketability of the collateral for the loans. Management of the Bank maintains an ALL based upon, among other things, historical experience, an evaluation of economic conditions and regular reviews of delinquencies and loan portfolio quality. Based upon such factors, management makes various assumptions and judgments about the ultimate collectability of the loan portfolio and provides the ALL based upon a percentage of the outstanding balances and for specific loans when their ultimate collectability is considered questionable. If management’s assumptions and judgments prove to be incorrect and the ALL is inadequate to absorb future losses, or if the bank regulatory authorities require us to increase the ALL as a part of its examination process, our earnings and capital could be significantly and adversely affected. Although management continually monitors our loan portfolio and makes determinations with respect to the ALL, future adjustments may be necessary if economic conditions differ substantially from the assumptions used or adverse developments arise with respect to our non-performing or performing loans. Material additions to the ALL could result in a material decrease in our net income and capital; and could have a material adverse effect on our financial condition.
We depend on the accuracy and completeness of information about customers and counterparties, and inaccurate, incomplete or misleading information provided to us by these persons could cause us to suffer losses.
In deciding whether to extend credit or enter into other transactions, we rely on information furnished by or on behalf of customers and counterparties, including financial statements, credit reports and other financial information. We also rely on representations of those customers, counterparties or other third parties, such as independent auditors, as to the accuracy and completeness of that information. Reliance on inaccurate or misleading financial statements, credit reports or other financial information could have a material adverse impact on our business, financial condition and results of operations.
Our accounting estimates and risk management processes rely on analytical and forecasting models, the inadequacy of which could have a material adverse effect on our financial condition and/or results of operations.
The processes we use to estimate our allowance for loan losses and to measure the fair value of financial instruments, as well as the processes used to estimate the effects of changing interest rates and other market measures on our financial condition and results of operations, depends upon the use of analytical and forecasting models. These models reflect assumptions that may not be accurate, particularly in times of market stress or other unforeseen circumstances. Even if these assumptions are adequate, the models may prove to be inadequate or inaccurate because of other flaws in their design or their implementation, including flaws caused by failures in controls, data management, human error or from the reliance on technology. If the models we use for interest rate risk and asset-liability management are inadequate, we may incur increased or unexpected losses upon changes in market interest rates or other market measures. If the models we use for estimating our expected credit losses are inadequate, the allowance for credit losses may not be sufficient to
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support future charge-offs. If the models we use to measure the fair value of financial instruments are inadequate, the fair value of such financial instruments may fluctuate unexpectedly or may not accurately reflect what we could realize upon sale or settlement of such financial instruments. Any such failure in our analytical or forecasting models could have a material adverse effect on our business, financial condition and results of operations.
A new accounting standard will likely require us to increase our allowance for loan losses and may have a material adverse effect on our financial condition and results of operations.
The FASB has adopted a new accounting standard that was originally effective for the Corporation and the Bank beginning with our first full fiscal year after December 15, 2019. In November 2019, the FASB approved a delay of the required implementation date of ASU No. 2016-13 for smaller reporting companies, as defined by the SEC, and other non-SEC reporting entities, including the Corporation, resulting in a required implementation date for the Corporation of January 1, 2023. This standard, referred to as Current Expected Credit Loss, or CECL, will require financial institutions to determine periodic estimates of lifetime expected credit losses on loans, and recognize the expected credit losses as allowances for loan losses. This standard will change the current method of providing allowances for loan losses that are probable, which would likely require us to increase our ALL, and to greatly increase the types of data we would need to collect and review to determine the appropriate level of the ALL. Any increase in our ALL or expenses incurred to determine the appropriate level of the ALL may have a material adverse effect on our financial condition and results of operations.
The Bank’s lending activities subject the Bank to the risk of environmental liabilities.
A significant portion of the Bank’s loan portfolio is secured by real property. During the ordinary course of business, the Bank may foreclose on and take title to properties securing certain loans. In doing so, there is a risk that hazardous or toxic substances could be found on these properties. If hazardous or toxic substances are found, the Bank may be liable for remediation costs, as well as for personal injury and property damage. Environmental laws may require the Bank to incur substantial expenses and may materially reduce the affected property’s value or limit the Bank’s ability to use or sell the affected property. In addition, future laws or more stringent interpretations or enforcement policies with respect to existing laws may increase the Bank’s exposure to environmental liability. Although the Bank has policies and procedures to perform an environmental review before initiating any foreclosure action on real property, these reviews may not be sufficient to detect all potential environmental hazards. The remediation costs and any other financial liabilities associated with an environmental hazard could have a material adverse effect on our financial condition and results of operations.
The market value of our investments could decline.
At December 31, 2022, investment securities in our investment portfolio having a cost basis of $149.8 million and a market value of $125.9 million were classified as available-for-sale pursuant to FASB Accounting Standards Codification (“ASC”) Topic 320, Investments - Debt and Equity Securities, relating to accounting for investments. Topic 320 requires that unrealized gains and losses in the estimated value of the available-for-sale portfolio be “marked to market” and reflected as a separate item in shareholders’ equity (net of tax) as accumulated other comprehensive loss. There can be no assurance that future market performance of our investment portfolio will enable us to realize income from sales of securities. Shareholders’ equity will continue to reflect the unrealized gains and losses (net of tax) of these investments. Moreover, there can be no assurance that the market value of our investment portfolio will not decline, causing a corresponding decline in shareholders’ equity.
Several factors could affect the market value of our investment portfolio. These include, but are not limited to, changes in interest rates or expectations of changes, the degree of volatility in the securities markets, inflation rates or expectations of inflation and the slope of the interest rate yield curve (the yield curve refers to the differences between shorter-term and longer-term interest rates; a positively sloped yield curve means shorter-term rates are lower than longer-term rates). Also, the passage of time will affect the market values of our investment securities, in that the closer they are to maturing, the closer the market price should be to par value. These and other factors may impact specific categories of the portfolio differently, and management cannot predict the effect these factors may have on any specific category.
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Impairment of investment securities, goodwill and other intangible assets, or deferred tax assets could require charges to earnings, which could result in a negative impact on our results of operations.
In assessing whether the impairment of investment securities is other-than-temporary, management considers the length of time and extent to which the fair value has been less than cost, the financial condition and near-term prospects of the issuer, and the intent and ability to retain our investment in the security for a period of time sufficient to allow for any anticipated recovery in fair value in the near term.
Under current accounting standards, goodwill and other intangible assets are subject to impairment tests on at least an annual basis or more frequently if an event occurs or circumstances change that reduce the fair value of a reporting unit below its carrying amount. A decline in the price of the shares of Common Stock or occurrence of a triggering event following any of our quarterly earnings releases and prior to the filing of the periodic report for that period could, under certain circumstances, cause us to perform a goodwill impairment test and result in an impairment charge being recorded for that period which was not reflected in such earnings release. In the event that we conclude that all or a portion of our goodwill and other intangible assets may be impaired, a non-cash charge for the amount of such impairment would be recorded to earnings. Such a charge would have no impact on tangible capital. At December 31, 2022, we had recorded goodwill and other intangible assets of $12.4 million, representing approximately 8.2% of shareholders’ equity. See the discussion under the heading “Estimates and Critical Accounting Policies - Goodwill” in Item 7 of Part II of this annual report for further information.
At December 31, 2022, our net deferred tax assets were valued at $10.6 million. Included in that total is $2.9 million of state net operating loss carryforwards (“NOLs”) associated with separate company tax filings of the Corporation, which we do not expect to use and, thus, we have established a $2.9 million valuation allowance. A deferred tax asset is reduced by a valuation allowance if, based on the weight of the evidence available, both negative and positive, including the recent trend of quarterly earnings, the Company determines that it is more likely than not that some portion or all of the total deferred tax asset will not be realized. Moreover, our ability to utilize our net operating loss carryforwards to offset future taxable income may be significantly limited if we experience an “ownership change,” as determined under Section 382 of the Code. If an ownership change were to occur, the limitations imposed by Section 382 of the Code could result in a portion of our net operating loss carryforwards expiring unused, thereby impairing their value. Section 382’s provisions are complex, and we cannot predict any circumstances surrounding the future ownership of the Common Stock. Accordingly, we cannot provide any assurance that we will not experience an ownership change in the future.
The impact of each of these impairment matters could have a material adverse effect on our business, results of operations, and financial condition.
Adverse developments affecting the financial services industry, such as actual events or concerns involving liquidity, defaults, or non-performance by financial institutions or transactional counterparties, could adversely affect our financial condition and results of operations.
Financial services institutions are interrelated as a result of trading, clearing, counterparty or other relationships, and we routinely execute transactions with counterparties in the financial industry. Actual events involving limited liquidity, defaults, non-performance or other adverse developments that affect financial institutions, transactional counterparties or other companies in the financial services industry or the financial services industry generally, or concerns or rumors about any events of these kinds or other similar risks, have in the past and may in the future lead to market-wide liquidity problems.
Increases in bond interest rates have led to a significant decline in the fair value of investment securities. Although the Treasury, the FDIC and the FRB have announced a program to provide up to $25 billion of loans to financial institutions secured by certain of such government-backed agency securities held by financial institutions to mititgate the risk of potential losses on the sale of such instruments, widespread demands for customer withdrawals or other liquidity needs of financial institutions for immediate liquidity might exceed the capacity of such program.
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In addition to the risk that occurrence of such events could adversely impact our ability to engage in routine funding transactions, they could also lead to losses or defaults by us or by other institutions, either of which could have a material adverse effect on our business, results of operations and financial condition.
Increases in FDIC insurance premiums may have a material adverse effect on our results of operations.
In general, we are unable to control the amount of preimums that are required to be paid for FDIC insurance. In October 2022, the FDIC finalized a rule to increase the assessment rate by two basis points beginning in the first quarter of 2023. The increase in the assessment rate for banks is intended to increase the Deposit Insurance Fund reserve ratio to 1.35%. In early March 2023, the FDIC was appointed receiver for two banks, in each case due primarily to liquidity concerns at those institutions. Promptly following these events, the federal banking regulators announced that the FDIC will use funds from the Deposit Insurance Fund to ensure that all depositors of the two failed institutions are made whole, at no cost to taxpayers. We anticipate that the FDIC will impose special assessments on all banks to replenish the Deposit Insurance Fund. As a result of these and/or other financial institution failures, we may be required to pay significantly higher premiums than the levels currently imposed, as well as additional special assessments or taxes, which could adversely affect earnings. Any future increases or required repayments in FDIC insurance premiums may materially adversely affect our results of operations.
We operate in a competitive environment, and our inability to effectively compete could adversely and materially impact our financial condition and results of operations.
We operate in a competitive environment, competing for loans, deposits, and customers with commercial banks, savings associations and other financial entities. Competition for deposits comes primarily from other commercial banks, savings associations, credit unions, money market and mutual funds and other investment alternatives. Competition for loans comes primarily from other commercial banks, savings associations, mortgage banking firms, credit unions and other financial intermediaries. Competition for other products, such as securities products, comes from other banks, securities and brokerage companies, and other non-bank financial service providers in our market area. Many of these competitors are much larger in terms of total assets and capitalization, have greater access to capital markets, and/or offer a broader range of financial services than those that we offer. In addition, banks with a larger capitalization and financial intermediaries not subject to bank regulatory restrictions have larger lending limits and are thereby able to serve the needs of larger customers.
In addition, changes to the banking laws over the last several years have facilitated interstate branching, merger and expanded activities by banks and holding companies. For example, the federal Gramm-Leach-Bliley Act (the “GLB Act”) revised the BHC Act and repealed the affiliation provisions of the Glass-Steagall Act of 1933, which, taken together, limited the securities and other non-banking activities of any company that controls an FDIC insured financial institution. As a result, the ability of financial institutions to branch across state lines and the ability of these institutions to engage in previously-prohibited activities are now accepted elements of competition in the banking industry. These changes may bring us into competition with more and a wider array of institutions, which may reduce our ability to attract or retain customers. Management cannot predict the extent to which we will face such additional competition or the degree to which such competition will impact our financial conditions or results of operations.
The banking industry is heavily regulated; significant regulatory changes could adversely affect our operations.
Our operations will be impacted by current and future legislation and by the policies established from time to time by various federal and state regulatory authorities. The Corporation is subject to supervision by the Federal Reserve. The Bank is subject to supervision and periodic examination by the Maryland Commissioner of Financial Regulation, the West Virginia Division of Banking, and the FDIC. Banking regulations, designed primarily for the safety of depositors, may limit a financial institution’s growth and the return to its investors by restricting such activities as the payment of dividends, mergers with or acquisitions by other institutions, investments, loans and interest rates, interest rates paid on deposits, expansion of branch offices, and the offering of securities or trust services. The Corporation and the Bank are also subject to capitalization guidelines established by federal law and could be subject to enforcement actions to the extent that either is found by regulatory examiners to be undercapitalized. It is not possible to predict what changes, if any, will be made to existing federal and state legislation and regulations or the effect that such changes may have on our future
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business and earnings prospects. Management also cannot predict the nature or the extent of the effect on our business and earnings of future fiscal or monetary policies, economic controls, or new federal or state legislation. Further, the cost of compliance with regulatory requirements may adversely affect our ability to operate profitably.
The Consumer Financial Protection Bureau may continue to reshape the consumer financial laws through rulemaking and enforcement of the prohibitions against unfair, deceptive and abusive business practices. Compliance with any such change may impact our business operations.
The CFPB has broad rulemaking authority to administer and carry out the provisions of the Dodd-Frank Act with respect to financial institutions that offer covered financial products and services to consumers. The CFPB has also been directed to adopt rules identifying practices or acts that are unfair, deceptive or abusive in connection with any transaction with a consumer for a consumer financial product or service, or the offering of a consumer financial product or service. The concept of what may be considered to be an “abusive” practice is fluid and can change based on politically-appointed leadership at the CFPB. We have been required to dedicate significant personnel resources to address the compliance burdens imposed by the CFBP’s adoption of various rules, and the adoption of additional rules in the future would likely require us to dedicate even more resources.
Bank regulators and other regulations, including the Basel III Capital Rules, may require higher capital levels, impacting our ability to pay dividends or repurchase our stock.
The capital standards to which we are subject, including the standards created by the Basel III Capital Rules, may materially limit our ability to use our capital resources and/or could require us to raise additional capital by issuing additional shares of Common Stock or other equity securities. In addition, we could experience increases in deposits and assets as a result of other depository institutions’ difficulties or failures, which would increase the capital that we are required to maintain to support such growth. The issuance of additional equity securities to fund our capital needs could dilute existing stockholders.
A material weakness or significant deficiency in our disclosure or internal controls could have an adverse effect on us.
The Corporation is required by the Sarbanes-Oxley Act of 2002 to establish and maintain disclosure controls and procedures and internal control over financial reporting. These control systems are intended to provide reasonable assurance that material information relating to the Corporation is made known to our management and reported as required by the Exchange Act, to provide reasonable assurance regarding the reliability and preparation of our financial statements, and to provide reasonable assurance that fraud and other unauthorized uses of our assets are detected and prevented. We may not be able to maintain controls and procedures that are effective at the reasonable assurance level. If that were to happen, our ability to provide timely and accurate information about the Corporation, including financial information, to investors could be compromised and our results of operations could be harmed. Moreover, if the Corporation or its independent registered public accounting firm were to identify a material weakness or significant deficiency in any of those control systems, our reputation could be harmed and investors could lose confidence in us, which could cause the market price of the Corporation’s stock to decline and/or limit the trading market for the shares of the Common Stock.
We may not be able to keep pace with developments in technology.
We use various technologies in conducting our businesses, including telecommunication, data processing, computers, automation, internet-based banking, and debit cards. The financial services industry is continually undergoing rapid technological change with frequent introductions of new technology-driven products and services. Our future success depends, in part, on our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands, as well as to create additional efficiencies in our operations. Many of our competitors have substantially greater resources to invest in technological improvements. We may not be able to effectively implement new technology driven products and services or be successful in marketing these products and services to our customers. In addition, our implementation of certain new technologies, such as those related to artificial intelligence, automation and algorithms, in our business processes may have unintended consequences due to their limitations or our failure to use them effectively. In addition, cloud technologies are also critical to the operation of our systems, and our reliance on cloud
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technologies is growing. Failure to successfully keep pace with technological change affecting the financial services industry could have a material adverse effect on our business, financial condition and results of operations.
Our operational or communications systems or infrastructure may fail or may be the subject of a breach or cyber-attack that, if successful, could adversely affect our business or disrupt business continuity.
Our business depends heavily on the use of computer systems, the Internet and other means of electronic communication and recordkeeping to process, record, and monitor client transactions and to communicate with clients and other institutions on a continuous basis. As client, industry, public, and regulatory expectations regarding operational and information security have increased, our operational systems and infrastructure continue to be safeguarded and monitored for potential failures, disruptions, and breakdowns, whether as a result of events beyond our control or otherwise.
Our business, financial, accounting, data processing, or other operating systems and facilities may stop operating properly or become disabled or damaged as a result of a number of factors, including events that are wholly or partially beyond our control. For example, there could be sudden increases in client transaction volume; electrical or telecommunications outages; natural disasters such as earthquakes, tornadoes, floods, and hurricanes; disease pandemics; events arising from local or larger scale political or social matters, including terrorist acts; occurrences of employee error, fraud, theft, or malfeasance; disruptions caused by technology implementation, including hardware deployment and software updates; and, as described below, cyber-attacks.
Although we have business continuity plans and other safeguards in place, our operations and communications may be adversely affected by significant and widespread disruption to our systems and infrastructure that support our businesses, clients, and teammates. While we continue to evolve and modify our business continuity plans, there can be no assurance in an escalating threat environment that they will be effective in avoiding disruption and business impacts. Our insurance may not be adequate to compensate us for all resulting losses, and the cost to obtain adequate coverage may increase for us or the industry.
Security risks for financial institutions such as ours have dramatically increased in recent years in part because of the proliferation of new technologies, the use of the internet and telecommunications technologies to conduct financial transactions, and the increased sophistication, resources, and activities of hackers, terrorists, activists, industrial spies, insider bad actors, organized crime, and other external parties, including nation state actors. In addition, to access our products and services, clients may use devices and/or software that are beyond our control environment, which may provide additional avenues for attackers to gain access to confidential information. Although we have information security procedures and controls in place, our technologies, systems, networks, and clients' devices and software may become the target of cyber-attacks, information security breaches, business email compromise, or information theft that could result in the unauthorized release, gathering, monitoring, misuse, loss, change, or destruction of our or our clients' or teammates' confidential, proprietary, or other information (including personal identifying information of individuals), or otherwise disrupt our or our clients' or our third parties' business operations. U.S. financial institutions and financial service companies have reported breaches in the security of their websites or other systems, including attempts to shut down access to their networks and/or systems in an attempt to extract compensation from them to regain control. Financial institutions, including the Bank, have experienced distributed denial-of-service attacks, a sophisticated and targeted attack intended to disable or degrade internet service or to sabotage systems.
We and others in our industry are regularly the subject of attempts by attackers to gain unauthorized access to our networks, systems, and data, or to obtain, change, or destroy confidential data (including personal identifying information of individuals) through a variety of means, including computer viruses, malware, business email compromise, and phishing. These attacks may result in unauthorized individuals obtaining access to our confidential information or that of our clients or teammates, or otherwise accessing, compromising, damaging, or disrupting our systems or infrastructure.
We are continuously developing and enhancing our controls, processes, and practices designed to protect our systems, computers, software, data, and networks from attack, damage, or unauthorized access. This continued development and enhancement will require us to expend additional resources, including resources to investigate and remediate any information security vulnerabilities that may be detected. Despite our ongoing investments in security resources, talent, and business practices, we are unable to assure that any security measures will be effective.
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If our systems and infrastructure were to be breached, compromised, damaged, or disrupted, or if we were to experience a loss of our confidential information or that of our clients or teammates, we could be subject to serious negative consequences, including disruption of our operations, damage to our reputation, a loss of trust in us on the part of our clients, vendors or other counterparties, client or teammate attrition, reimbursement or other costs, increased compliance costs, significant litigation exposure and legal liability, or regulatory fines, penalties or intervention. Any of these could materially and adversely affect our results of operations, our financial condition, and/or our share price.
A disruption, breach, or failure in the operational systems or infrastructure of our third party vendors or other service providers, including as a result of cyber-attacks, could adversely affect our business.
Third parties perform significant operational services on our behalf. These third parties with whom we do business or that facilitate our business activities, including exchanges, clearing houses, central clearing counterparties, financial intermediaries, or vendors that provide services or security solutions for our operations, could also be sources of operational and information security risk to us, including from breakdowns or failures of their own systems or capacity constraints. In particular, operating our business requires us to provide access to client, teammate, and other sensitive Company information to our contractors, consultants, and other third parties and authorized entities. Controls and oversight mechanisms are in place that are designed to limit access to this information and protect it from unauthorized disclosure, theft, and disruption. However, control systems and policies pertaining to system access are subject to errors in design, oversight failure, software failure, human error, intentional subversion, or other compromise resulting in theft, error, loss, or inappropriate use of information or systems to commit fraud, cause embarrassment to us or our executives or to gain competitive advantage. In addition, regulators expect financial institutions to be responsible for all aspects of their performance, including aspects which they delegate to third parties. If a disruption, breach, or failure in the system or infrastructure of any third party with whom we do business occurred, then our business may be materially and adversely affected in a manner similar to if our own systems or infrastructure had been compromised. As has been the case in other major system events in the U.S., our systems and infrastructure may also be attacked, compromised, or damaged as a result of, or as the intended target of, any disruption, breach, or failure in the systems or infrastructure of any third party with whom we do business.
We may be subject to claims and the costs of defensive actions, and such claims and costs could materially and adversely impact our financial condition and results of operations.
Our customers may sue us for losses due to alleged breaches of fiduciary duties, errors and omissions of employees, officers and agents, incomplete documentation, our failure to comply with applicable laws and regulations, or many other reasons. Also, our employees may knowingly or unknowingly violate laws and regulations. Management may not be aware of any violations until after their occurrence. This lack of knowledge may not insulate us from liability. Claims and legal actions will result in legal expenses and could subject us to liabilities that may reduce our profitability and hurt our financial condition
The loss of key personnel could disrupt our operations and result in reduced earnings.
Our growth and profitability will depend upon our ability to attract and retain skilled managerial, marketing and technical personnel. Competition for qualified personnel in the financial services industry is intense, and there can be no assurance that we will be successful in attracting and retaining such personnel. Our current executive officers provide valuable services based on their many years of experience and in-depth knowledge of the banking industry and the market areas we serve. Due to the intense competition for financial professionals, these key personnel would be difficult to replace and an unexpected loss of their services could result in a disruption to the continuity of operations and a possible reduction in earnings.
We are a community banking organization and our ability to maintain our reputation is critical to the success of our business.
We are a community banking organization, and our reputation is one of the most valuable components of our business. A key component of our business strategy is to rely on our reputation for customer service and knowledge of
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local markets to expand our presence by capturing new business opportunities from existing and prospective customers in our current market and contiguous areas. As such, we strive to conduct our business in a manner that enhances our reputation. This is done, in part, by recruiting, hiring and retaining employees who share our core values of being an integral part of the communities we serve, delivering superior service to our customers and caring about our customers and associates. If our reputation is negatively affected by the actions of our employees, by our inability to conduct our operations in a manner that is appealing to current or prospective customers, or otherwise, our business and, therefore, our operating results may be materially adversely affected.
We could be adversely affected by risks associated with future acquisitions and expansions.
Although our core growth strategy is focused around organic growth, we may from time to time consider acquisition and expansion opportunities involving a bank or other entity operating in the financial services industry. We cannot predict if or when we will engage in such a strategic transaction, or the nature or terms of any such transaction. To the extent that we grow through an acquisition, we cannot assure investors that we will be able to adequately and profitably manage that growth or that an acquired business will be integrated into our existing businesses as efficiently or as timely as we may anticipate. Acquiring another business would generally involve risks commonly associated with acquisitions, including:
● increased capital needs;
● increased and new regulatory and compliance requirements;
● implementation or remediation of controls, procedures and policies with respect to the acquired business;
● diversion of management time and focus from operation of our then-existing business to acquisition-integration challenges;
● coordination of product, sales, marketing and program and systems management functions;
● transition of the acquired business’s users and customers onto our systems;
● retention of employees from the acquired business;
● integration of employees from the acquired business into our organization;
● integration of the acquired business’s accounting, information management, human resources and other administrative systems and operations with ours;
● potential liability for activities of the acquired business prior to the acquisition, including violations of law, commercial disputes and tax and other known and unknown liabilities;
● potential increased litigation or other claims in connection with the acquired business, including claims brought by regulators, terminated employees, customers, former stockholders, vendors, or other third parties; and
● potential goodwill impairment.
Our failure to execute our acquisition strategy could adversely affect our business, results of operations, financial condition and future prospects risks of unknown or contingent liabilities.
New lines of business, products or services may subject us to additional risks.
From time to time, we implement new lines of business or offer new products and services within existing lines of business. For instance, we recently formed First United Legacy Advisors for the purpose of engaging in the business of providing investment advisory and related services. There are substantial risks and uncertainties associated with these efforts, particularly in instances where the markets are not fully developed. In developing and marketing new lines of business and/or new products and services we invest significant time and resources. Initial timetables for the introduction and development of new lines of business and/or new products or services may not be achieved and price and profitability targets may not prove feasible. External factors, such as compliance with regulations, competitive alternatives, and shifting market preferences, may also impact the successful implementation of a new line of business or a new product or service. Furthermore, any new line of business, new product or service and/or new technology could have a significant impact on the effectiveness of our system of internal controls. Failure to successfully manage these risks in the development and implementation of new lines of business, new products or services and/or new technologies could have a material adverse effect on our business, financial condition and results of operations.
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Increasing scrutiny and evolving expectations from customers, regulators, investors, and other stakeholders with respect to our environmental, social and governance practices may impose additional costs on us or expose us to new or additional risks.
Many companies are facing increasing scrutiny from customers, regulators, investors, and other stakeholders related to their environmental, social and governance (“ESG”) practices and disclosure. Investor advocacy groups, investment funds and influential investors are also increasingly focused on these practices, especially as they relate to the environment, health and safety, diversity, labor conditions and human rights. Increased ESG-related compliance costs could result in increases to our overall operational costs. Failure to adapt to or comply with regulatory requirements or investor or stakeholder expectations and standards could negatively impact our reputation, ability to do business with certain partners, and our stock price. New government regulations could also result in new or more stringent forms of ESG oversight and expanding mandatory and voluntary reporting, diligence, and disclosure.
Climate change could have a material adverse impact on us and our customers.
Our business, as well as the operations and activities of our customers, could be negatively impacted by climate change. Climate change presents both immediate and long-term risks to us and our customers and these risks are expected to increase over time. Climate changes presents multi-faceted risks, including (i) operational risk from the physical effects of climate events on our facilities and other assets as well as those of our customers; (ii) credit risk from borrowers with significant exposure to climate risk; and (iii) reputational risk from stakeholder concerns about our practices related to climate change, our carbon footprint and our business relationships with customers who operate in carbon-intensive industries. Our business, reputation and ability to attract and retain employees may also be harmed if our response to climate change is perceived to be ineffective or insufficient.
Climate change exposes us to physical risk as its effects may lead to more frequent and more extreme weather events, such as prolonged droughts or flooding, tornados, hurricanes, wildfires and extreme seasonal weather; and longer-term shifts, such as increasing average temperatures, ozone depletion and rising sea levels. Such events and long-term shifts may damage, destroy or otherwise impact the value or productivity of our properties and other assets; reduce the availability of insurance; and/or disrupt our operations and other activities through prolonged outages. Such events and long-term shifts may also have a significant impact on our customers, which could amplify credit risk by diminishing borrowers' repayment capacity or collateral values, and other businesses and counterparties with whom we transact, which could have a broader impact on the economy, supply chains and distribution networks.
Climate change also exposes us to transition risks associated with the transition to a less carbon-dependent economy. Transition risks may result from changes in policies; laws and regulations; technologies; and/or market preferences to address climate change. Such changes could materially, negatively impact our business, results of operations, financial condition and/or our reputation, in addition to having a similar impact on our customers. We have customers who operate in carbon-intensive industries like oil and gas that are exposed to climate risks, such as those risks related to the transition to a less carbon-dependent economy, as well as customers who operate in low-carbon industries that may be subject to risks associated with new technologies. Federal and state banking regulators and supervisory authorities, investors and other stakeholders have increasingly viewed financial institutions as important in helping to address the risks related to climate change both directly and with respect to their customers, which may result in financial institutions coming under increased pressure regarding the disclosure and management of their climate risks and related lending and investment activities. Given that climate change could impose systemic risks upon the financial sector, either via disruptions in economic activity resulting from the physical impacts of climate change or changes in policies as the economy transitions to a less carbon-intensive environment, we face regulatory risk of increasing focus on our resilience to climate-related risks, including in the context of stress testing for various climate stress scenarios. Ongoing legislative or regulatory uncertainties and changes regarding climate risk management and practices may result in higher regulatory, compliance, credit and reputational risks and costs.
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Risks Relating to First United Corporation’s Securities
The shares of Common Stock are not insured.
The shares of the Common Stock are not deposits and are not insured against loss by the FDIC or any other governmental or private agency.
The shares of Common Stock are not heavily traded.
Shares of the Common Stock are listed on the NASDAQ Global Select Market but are not heavily traded. Securities that are not heavily traded can be more volatile than stock trading in an active public market. Factors such as our financial results, the introduction of new products and services by us or our competitors, changes in the financial estimates by securities analysts, market conditions within the banking industry, the general state of the securities market, general economic condition, and investor speculation as to our future plans and strategies could have a significant impact on the market price and trading volume of the shares of Common Stock. Likewise, events that are unrelated to the Corporation but that affect the equity markets generally, such as national or international health crises, wars, political instability, the loss of investor or depositor confidence due to the failure of one or more financial institutions, and similar factors, could also have a significant impact on the market price and trading volume of the shares of Common Stock. Management cannot predict the extent to which an active public market for shares of Common Stock will develop or be sustained in the future. Accordingly, shareholders may not be able to sell their shares at the volumes, prices, or times that they desire.
Significant sales of shares of Common Stock, or the perception that significant sales may occur in the future, could adversely affect the market price of shares of Common Stock.
The sale of a substantial number of shares of the Common Stock could adversely affect the market price of such shares. The availability of shares for future sale could adversely affect the prevailing market price of shares of Common Stock and could cause the market price of such shares to remain low for a substantial amount of time. In addition, the Corporation may grant equity awards under its equity compensation plans from time to time in effect, including fully-vested shares of Common Stock. It is possible that if a significant percentage of such available shares were attempted to be sold within a short period of time, the market for the shares would be adversely affected. Management cannot predict whether the market for shares of Common Stock could absorb a large number of attempted sales in a short period of time, regardless of the price at which they might be offered. Even if a substantial number of sales do not occur within a short period of time, the mere existence of this “market overhang” could have a negative impact on the market for the common stock and our ability to raise capital in the future.
The Corporation’s ability to pay dividends on the common stock is subject to the terms of the outstanding TPS Debentures, which prohibit the Corporation from paying dividends during an interest deferral period.
In March 2004, the Corporation issued approximately $30.9 million, in the aggregate, of junior subordinated debentures (“TPS Debentures”) to the Trusts in connection with the Trusts’ sales to third party investors of $30.0 million, in the aggregate, in mandatorily redeemable preferred capital securities. The terms of the TPS Debentures require the Corporation to make quarterly payments of interest to the Trusts, as the holders of the TPS Debentures, although the Corporation has the right to defer payments of interest for up to 20 consecutive quarterly periods, and the Corporation has exercised this deferral right in the past. An election to defer interest payments does not constitute an event of default under the terms of the TPS Debentures. The terms of the TPS Debentures prohibit the Corporation from declaring or paying any dividends or making other distributions on, or from repurchasing, redeeming or otherwise acquiring, any shares of its capital securities, including the common stock, if the Corporation elects to defer quarterly interest payments under the TPS Debentures. In addition, a deferral election will require the Trusts to likewise defer the payment of quarterly dividends on their related trust preferred securities.
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Applicable banking and Maryland laws impose additional restrictions on the ability of the Corporation and the Bank to pay dividends and make other distributions on their capital securities, and, in any event, the payment of dividends is at the discretion of the boards of directors of the Corporation and the Bank.
In the past, the Corporation has funded dividends on its capital securities using cash received from the Bank, and this will likely be the case for the foreseeable future. No assurance can be given that the Bank will be able to pay dividends to the Corporation for these purposes at times and/or in amounts requested by the Corporation. Both federal and state laws impose restrictions on the ability of the Bank to pay dividends. Under Maryland law, a state-chartered commercial bank may pay dividends only out of undivided profits or, with the prior approval of the Maryland Commissioner, from surplus in excess of 100% of required capital stock. If, however, the surplus of a Maryland bank is less than 100% of its required capital stock, cash dividends may not be paid in excess of 90% of net earnings. In addition to these specific restrictions, bank regulatory agencies have the ability to prohibit proposed dividends by a financial institution which would otherwise be permitted under applicable regulations if the regulatory body determines that such distribution would constitute an unsafe or unsound practice. Banks that are considered “troubled institution” are prohibited by federal law from paying dividends altogether. Notwithstanding the foregoing, shareholders must understand that the declaration and payment of dividends and the amounts thereof are at the discretion of the Corporation’s Board of Directors. Thus, even at times when the Corporation is not prohibited from paying cash dividends on its capital securities, neither the payment of such dividends nor the amounts thereof can be guaranteed.
The Corporation’s Articles of Incorporation and Bylaws and Maryland law may discourage a corporate takeover.
The Corporation’s Amended and Restated Articles of Incorporation (the “Charter”) and its Amended and Restated Bylaws (the “Bylaws”) contain certain provisions designed to enhance the ability of the Corporation’s Board of Directors to deal with attempts to acquire control of the Corporation. First, the Board of Directors is classified into three classes. Directors of each class serve for staggered three-year periods, and no director may be removed except for cause, and then only by the affirmative vote of either a majority of the entire Board of Directors or a majority of the outstanding voting stock. Although the Corporation’s board has amended the Bylaws to eliminate this classified Board structure, the declassification will not be fully phased in until after the 2024 annual meeting of shareholders. Second, the Board has the authority to classify and reclassify unissued shares of stock of any class or series of stock by setting, fixing, eliminating, or altering in any one or more respects the preferences, rights, voting powers, restrictions and qualifications of, dividends on, and redemption, conversion, exchange, and other rights of, such securities. The Board could use this authority, along with its authority to authorize the issuance of securities of any class or series, to issue shares having terms favorable to management or to a person or persons affiliated with or otherwise friendly to management. In addition, the Bylaws require any shareholder who desires to nominate a director to abide by strict notice requirements.
Maryland laws include provisions that could discourage a sale or takeover of the Corporation. The Maryland Business Combination Act generally prohibits, subject to certain limited exceptions, corporations from being involved in any “business combination” (defined as a variety of transactions, including a merger, consolidation, share exchange, asset transfer or issuance or reclassification of equity securities) with any “interested shareholder” for a period of five years following the most recent date on which the interested shareholder became an interested shareholder. An interested shareholder is defined generally as a person who is the beneficial owner of 10% or more of the voting power of the outstanding voting stock of the corporation after the date on which the corporation had 100 or more beneficial owners of its stock or who is an affiliate or associate of the corporation and was the beneficial owner, directly or indirectly, of 10% percent or more of the voting power of the then outstanding stock of the corporation at any time within the two-year period immediately prior to the date in question and after the date on which the corporation had 100 or more beneficial owners of its stock. The Maryland Control Share Acquisition Act applies to acquisitions of “control shares”, which, subject to certain exceptions, are shares the acquisition of which entitle the holder, directly or indirectly, to exercise or direct the exercise of the voting power of shares of stock of the corporation in the election of directors within any of the following ranges of voting power: one-tenth or more, but less than one-third of all voting power; one-third or more, but less than a majority of all voting power or a majority or more of all voting power. Control shares have limited voting rights. Maryland banking laws provide that the Maryland Commissioner must approve certain acquisitions of the common stock of the Corporation and/or the Bank, and these laws impose penalties on persons who effect such acquisitions without approval, including a five year voting prohibition.
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Although these provisions do not preclude a sale or takeover, they may have the effect of discouraging, delaying or deferring a sale, tender offer, or takeover attempt that a shareholder might consider in his or her best interest, including those attempts that might result in a premium over the market price for the common stock. Such provisions will also render the removal of the Board of Directors and of management more difficult and, therefore, may serve to perpetuate current management. These provisions could potentially adversely affect the market prices of the Corporation’s securities.

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ITEM 1B. UNRESOLVED STAFF COMMENTS
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.

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ITEM 2. PROPERTIES
ITEM 2. PROPERTIES
The headquarters of the Corporation and the Bank occupies approximately 29,000 square feet at 19 South Second Street, Oakland, Maryland, and a 30,000 square feet operations center located at 12892 Garrett Highway, Oakland Maryland. These premises are owned by the Corporation. The Bank owns 19 of its banking offices and leases seven. Total rent expense on the leased offices and properties was $0.4 million in 2022.

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ITEM 3. LEGAL PROCEEDINGS
ITEM 3. LEGAL PROCEEDINGS
None

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ITEM 4. MINE SAFETY DISCLOSURE
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
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PART II

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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Shares of the Corporation’s common stock are listed on the NASDAQ Global Select Market under the symbol “FUNC”. As of February 28, 2023, the issued and outstanding shares of Common Stock were held by 1,327 shareholders of record.
The ability of the Corporation to declare dividends is limited by federal banking laws and Maryland corporation laws. Subject to these and the terms of its other securities, including the TPS Debentures, the payment of dividends on the shares of common stock and the amounts thereof are at the discretion of the Corporation’s board of directors. Cash dividends are typically declared on a quarterly basis. When paid, dividends to shareholders are dependent on the ability of the Corporation’s subsidiaries, especially the Bank, to declare dividends to the Corporation. Like the Corporation, the Bank’s ability to declare and pay dividends is subject to limitations imposed by federal and Maryland banking and Maryland corporation laws. A complete discussion of these and other dividend restrictions is contained in Item 1A of Part I of this annual report under the heading “Risks Relating to First United Corporation’s Securities” and in Note 4 to the Consolidated Financial Statements, both of which are incorporated herein by reference. Accordingly, there can be no assurance that dividends will be declared on the shares of common stock in any future fiscal quarter.
The Corporation’s Board of Directors periodically evaluates the Corporation’s dividend policy, both internally and in consultation with the Federal Reserve.
Issuer Repurchases
Neither First United Corporation nor any of its affiliated purchasers (as defined in Rule 10b-18 promulgated under the Exchange Act) purchased any shares of Common Stock during the three-month period ended December 31, 2022.
Equity Compensation Plan Information
Pursuant to the SEC’s Regulation S-K Compliance and Disclosure Interpretation 106.01, the information required by this Item pursuant to Item 201(d) of Regulation S-K relating to securities authorized for issuance under the Corporation’s equity compensation plans is located in Item 12 of Part III of this annual report and is incorporated herein by reference.

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ITEM 6. SELECTED FINANCIAL DATA
ITEM 6. [Reserved]
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This discussion and analysis should be read in conjunction with the Consolidated Financial Statements and notes thereto for the years ended December 31, 2022 and 2021, which are included in Item 8 of Part II of this annual report.
Overview
First United Corporation is a bank holding company that, through the Bank and its non-bank subsidiaries, provides an array of financial products and services primarily to customers in four Western Maryland counties and four Northeastern West Virginia counties. Its principal operating subsidiary is the Bank, which consists of a community banking network of 26 branch offices located throughout its market areas. Our primary sources of revenue are interest income earned from our loan and investment securities portfolios and fees earned from financial services provided to customers.
Consolidated net income for the year ended December 31, 2022 was $25.0 million compared to $19.8 million in 2021. The year-over-year increase was primarily due to a $5.1 million increase in net interest income resulting from a $4.2 million increase in interest income and a decrease in interest expense of $0.9 million. Net gains were down $1.1 million in 2022 when compared to 2021 as management made the strategic decision to book the higher rate mortgage loans in 2022 as opposed to selling them to the secondary market. Other income declined in 2022 due to a decrease of $0.4 million in trust and brokerage income and a decrease of $1.4 million due to an insurance reimbursement received in 2021. These declines were slightly offset by an increase of $0.2 million in service charges and debit card income. Provision expense was up $0.2 million as compared to 2021. Salaries and benefits increased by $2.1 million when compared to 2021 due to a lower reduction of loan origination costs of $1.0 million and a $1.1 million increase due to performance related pay and the competitive employment environment. Other changes year-over-year included increased other real estate owned (“OREO”) expenses of $1.5 million in 2022 due to gains on sale of OREO booked during 2021, other net increases in expenses of $0.8 million and increased income taxes of $1.6 million. Non-interest expense decreased significantly due to our payment of $3.3 million in litigation settlement expenses during the first quarter of 2021 and a $2.4 million prepayment penalty for the early repayment of $70.0 million of FHLB advances recognized in the third quarter of 2021, a reduction of $2.4 million in professional and investor relations expenses primarily related to reimbursement of $0.7 in litigation expenses, a reduction of $0.4 million in investor relations costs and a $1.3 million reduction in legal fees. Charitable contributions also declined by $0.9 million primarily due to the decision to make a $1.0 million contribution in 2021 to fund the newly created First United Community Dreams Foundation (the “Foundation”).
The provision for loan losses was a credit of $0.6 million for the year ended December 31, 2022 and a credit of $0.8 million for the year December 31, 2021. Net charge-offs of $0.7 million were recorded for the year ended December 31, 2022, compared to net recoveries of $0.3 million for 2021. The ratio of the ALL to loans outstanding, including Paycheck Protection Program (“PPP”) loan balances, was 1.14% at December 31, 2022 compared to 1.38% at December 31, 2021. The ratio of ALL to loans outstanding, excluding PPP loan balances of $0.4 million and $7.7 million, was 1.14% and 1.39% at December 31, 2022 and 2021, respectively, non-GAAP.
Other operating income, including net gains on sales of mortgage loans and sales of investment securities, decreased by approximately $2.7 million when compared to 2021. This decrease was partially due to a $1.4 million insurance reimbursement that was received in 2021 and a decrease in net gains from the sale of residential mortgage loans of $1.1 million as refinance activity slowed considerably and due to management’s strategic decision to book new mortgage loans at higher rates to our in-house portfolio. These decreases were partially offset by a net increase in service charge, debit card and other income of $0.2 million.
Other operating expenses decreased $4.6 million compared to the year ended December 31, 2021. Salaries and benefits increased by $2.1 million compared to 2021 due to a lower reduction of loan origination costs of $1.0 million and a $1.1 million increase due to performance related pay and the competitive employment environment. Other changes year-over-year included increased OREO expenses of $1.5 million in 2022 due to gains on sale of OREO booked during 2021 and other net increases in expenses of $0.8 million. Non-interest expense decreased significantly due to our payment of $3.3 million in litigation settlement expenses during the first quarter of 2021 and a $2.4 million prepayment penalty for the early repayment of $70.0 million of FHLB advances recognized in the third quarter of 2021, a reduction of $2.4 million
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in professional and investor relations expenses primarily related to reimbursement of $0.7 in litigation expenses, a reduction of $0.4 million in investor relations costs and a $1.3 million reduction in legal fees. Charitable contributions also declined by $0.9 million primarily due to the funding of the Foundation at the end of 2021.
Outstanding loans of $1.3 billion at December 31, 2022 reflected a growth of $125.8 million during 2022. Since December 31, 2021, commercial real estate loans increased by $84.5 million and acquisition and development loans decreased by $57.5 million due primarily to the payoff of one large credit early in the third quarter. Commercial and industrial loans increased by $64.4 million for the year, primarily in new floor plan business, new commercial clients and continued expansion of existing client relationships. Residential mortgage loans increased $39.7 million related to management’s strategic decision to book new mortgage loans at higher rates to our in-house portfolio. The consumer loan portfolio decreased by $5.4 million due to amortization and payoffs of the existing portfolio slightly offset by new production.
Net interest income, on a non-GAAP, fully-taxable equivalent (“FTE”) basis, increased by $5.1 million. Interest income increased by $4.2 million and interest expense decreased by $0.9 million. The yield on earning assets increased 22 basis points to 3.85% in 2022 compared to 3.63% in 2021 in correlation with an increase in average earning assets as well as the rising interest rate environment and new loans booked at higher rates. Interest expense on deposits decreased by $0.2 million while the average balance of deposits increased by $26.1 million and interest on long-term borrowings decreased by $0.7 million related to the prepayment of $70.0 million of FHLB advances in the third quarter of 2021. The decreased interest expense resulted in an overall decrease of 7 basis points on the cost of interest-bearing liabilities. We anticipate increased margin pressure in 2023 due to increasing deposit pricing demands in our market areas. The net interest margin for the year ended December 31, 2022 was 3.56% compared to 3.28% for the year ended December 31, 2021.
Comparing the year ended December 31, 2022 with the year ended December 31, 2021, interest income increased by $4.2 million. Interest and fees on loans increased by $1.5 million and investment income increased by $2.4 million. Excess cash balances during 2022 were invested at the Fed Funds rate, which also positively affected interest income for the year ended December 31, 2022 when compared to 2021. Increases in loan interest income stemmed from the growth of core loans in 2022. The rate earned on the loan portfolio remained stable when comparing the year ended December 31, 2022 to the year ended December 31, 2021.
Total deposits at December 31, 2022 increased by $101.4 million when compared to deposits at December 31, 2021. Non-interest-bearing deposits increased by $5.0 million. Interest bearing demand deposits increased by $99.5 million and traditional savings accounts increased by $14.1 million. The increase in interest bearing demand deposits was attributable to an increase in municipality funding into a higher yielding indexed product. Money market balances increased by $25.4 million. Time deposits decreased by $42.7 million related to maturing balances moving to more liquid accounts, or brokerage investment accounts, due to the rising deposit rates as well as municipal funds moving to higher yielding State funding alternatives.
The decrease in interest expense for 2022 was driven by a decrease in interest rates of 7 basis points, which offset the increase in average balances of $26.1 million on interest bearing deposits, and a $46.4 million decline in average balances on long term borrowings related to the prepayment of $70.0 million in FHLB advances in the third quarter of 2021. This decrease in average long-term borrowings help offset the increase in yields of 190 basis points on interest paid on borrowings during 2022. Proactive efforts to reduce the cost of funds by further reductions to rates on deposit accounts throughout 2021, the runoff of balances in the time deposits, including brokered deposits, and the expiration of empowered rates on money market accounts continued throughout early 2022.
Estimates and Critical Accounting Policies
This discussion and analysis of our financial condition and results of operations is based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent liabilities. (See Note 1 to the Consolidated Financial Statements.) On an on-going basis, management evaluates estimates and bases
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those estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The Company identifies the following critical accounting policies may affect our more significant judgments and estimates used in the preparation of the Consolidated Financial Statements.
Allowance for Loan Losses
One of our most important accounting policies is that related to the monitoring of the loan portfolio. A variety of estimates impact the carrying value of the loan portfolio and resulting interest income, including the calculation of the ALL, the valuation of underlying collateral, and the timing of loan charge-offs. The ALL is established and maintained at a level that is adequate to cover losses resulting from the inability of borrowers to make required payments on loans. Estimates for loan losses are arrived at by analyzing risks associated with specific loans and the loan portfolio, current and historical trends in delinquencies and charge-offs, and changes in the size and composition of the loan portfolio. The analysis also requires consideration of the economic climate and direction, changes in lending rates, political conditions, legislation impacting the banking industry and economic conditions specific to Western Maryland and Northeastern West Virginia. Because the calculation of the ALL relies on management’s estimates and judgments relating to inherently uncertain events, actual results may differ from management’s estimates.
The ALL is also discussed below in Item 7 under the heading “Allowance for Loan Losses” and in Note 6 to the Consolidated Financial Statements.
Liquidity Sources
As of December 31, 2022, the Corporation had approximately $140.0 million in unsecured lines of credit with its correspondent banks, $9.6 million available through a secured line of credit with the Federal Reserve Discount Window, and approximately $195.3 million of secured borrowings with the FHLB. Additionally, the Corporation has access to the brokered certificates of deposit market.
Capital
The Corporation’s and the Bank’s capital ratios are strong, and both institutions are considered to be well-capitalized by applicable regulatory measures
Adoption of New Accounting Standards and Effects of New Accounting Pronouncements
Note 1 to the Consolidated Financial Statements discusses new accounting pronouncements that, when adopted, could affect our future consolidated financial statements.
CONSOLIDATED STATEMENT OF INCOME REVIEW
Net Interest Income
Net interest income is our largest source of operating revenue. Net interest income is the difference between the interest that we earn on our interest-earning assets and the interest expense we incur on our interest-bearing liabilities. For analytical and discussion purposes, net interest income is adjusted to an FTE basis to facilitate performance comparisons between taxable and tax-exempt assets by increasing tax-exempt income by an amount equal to the federal income taxes that would have been paid if this income were taxable at the statutorily applicable rate. This is a non-GAAP disclosure and it is not materially different than the corresponding GAAP disclosure.
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The table below summarizes net interest income for 2022 and 2021.
GAAP
Non-GAAP - FTE
(Dollars in thousands)
Interest income
$
62,422
$
58,256
$
63,362
$
59,195
Interest expense
4,789
5,714
4,789
5,714
Net interest income
$
57,633
$
52,542
$
58,573
$
53,481
Net interest margin %
3.50%
3.22%
3.56%
3.28%
Net interest income, on a non-GAAP, FTE basis, increased by $5.1 million (9.5%) during the year ended December 31, 2022 when compared to the year ended December 31, 2021, driven by a $4.2 million (7.0%) increase in interest income and a decrease in interest expense of $0.9 million (16.2%). The decrease in interest expense resulted from proactive efforts to reduce the cost of funds by further reductions in rates on deposit accounts throughout 2021, the runoff of balances in the time deposits, including brokered deposits, and the expiration of empowered rates on money market accounts. The net interest margin, on an FTE basis, increased to 3.56% for the year ended December 31, 2022 from 3.28% for the year ended December 31, 2021.
Comparing the year ended December 31, 2022 with the year ended December 31, 2021, interest income increased by $4.2 million . Interest and fees on loans increased by $1.5 million investment income increased by of $2.4 million. The increase in interest on loans was primarily due to an increase of $49.4 million in average loan balance in 2022 compared to 2021. The rate earned on the loan portfolio remained stable when comparing the year ended December 31, 2022 to the year ended December 31, 2021. The increase in investment income was due to the increase in average balances of $77.7 million for the year ended December 31, 2022 compared to the year ended December 31, 2021 as well as an increase in interest yield of 23 basis points.
The decrease in interest expense for 2022 was driven by a decrease of $46.4 million in average balances on long term borrowings related to the prepayment of $70.0 million in FHLB advances in the third quarter of 2021. The decrease of $0.7 million in interest expense on long-term borrowing was partially offset by the 190 basis point increase in rate paid on borrowings for the year ended December 31, 2022 compared to 2021. Average rates paid on deposit accounts decreased slightly in 2022 compared to 2021, which was offset by the growth of $26.1 million in interest-bearing deposits during the year.
As shown below, the composition of total interest income between 2022 and 2021 remained relatively stable.
% of Total Interest Income
Interest and fees on loans
87%
91%
Interest on investment securities
12%
8%
Other
1%
1%
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The following table sets forth the average balances, net interest income and expense, and average yields and rates for our interest-earning assets and interest-bearing liabilities for 2022 and 2021:
Distribution of Assets, Liabilities and Shareholders’ Equity
Interest Rates and Interest Differential - Tax Equivalent Basis
For the Years Ended December 31
(Dollars in thousands)
Average
Balance
Interest
Average
Yield/
Rate
Average
Balance
Interest
Average
Yield/
Rate
Assets
Loans
$
1,223,388
$
54,513
4.46
%
$
1,173,966
$
53,040
4.52
%
Investment Securities:
Taxable
348,516
6,252
1.79
%
272,305
3,912
1.44
%
Non taxable
26,952
1,981
7.35
%
25,463
1,928
7.57
%
Total
375,468
8,233
2.19
%
297,768
5,840
1.96
%
Federal funds sold
44,207
1.26
%
150,556
0.12
%
Interest-bearing deposits with other banks
3,061
0.78
%
4,040
0.05
%
Other interest earning assets
1,027
3.60
%
2,969
4.55
%
Total earning assets
1,647,151
63,362
3.85
%
1,629,299
59,195
3.63
%
Allowance for loan losses
(15,568)
(16,825)
Non-earning assets
170,128
152,674
Total Assets
$
1,801,711
$
1,765,148
Liabilities and Shareholders’ Equity
Interest-bearing demand deposits
$
301,183
$
0.28
%
$
214,510
$
0.26
%
Interest-bearing money markets
312,978
1,256
0.40
%
341,677
0.13
%
Savings deposits
250,624
0.06
%
223,114
0.04
%
Time deposits
138,865
0.69
%
198,280
2,403
1.21
%
Short-term borrowings
63,182
0.18
%
57,697
0.15
%
Long-term borrowings
30,929
1,451
4.69
%
77,340
2,155
2.79
%
Total interest-bearing
liabilities
1,097,761
4,789
0.44
%
1,112,618
5,714
0.51
%
Non-interest-bearing deposits
533,096
491,967
Other liabilities
33,169
28,013
Shareholders’ Equity
137,685
132,550
Total Liabilities and Shareholders’ Equity
$
1,801,711
$
1,765,148
Net interest income and spread
$
58,573
3.41
%
$
53,481
3.12
%
Net interest margin
3.56
%
3.28
%
Notes:
(1) The above table reflects the average rates earned or paid stated on an FTE basis assuming a tax rate of 21% for 2022 and 2021. Non-GAAP interest income on an FTE basis for the years ended December 31, 2022 and 2021 were $940, and $939, respectively.
(2) The average balances of non-accrual loans for the years ended December 31, 2022 and 2021, which were reported in the average loan balances for these years, were $2,120 and $6,041, respectively.
(3) Net interest margin is calculated as net interest income divided by average earning assets.
(4) The average yields on investments are based on amortized cost.
The following table sets forth an analysis of volume and rate changes in interest income and interest expense of our average interest-earning assets and average interest-bearing liabilities for 2022 and 2021. This table distinguishes between the changes related to average outstanding balances (changes in volume created by holding the interest rate constant) and the changes related to average interest rates (changes in interest income or expense attributed to average rates created by holding the outstanding balance constant).
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Interest Variance Analysis (1)
2022 Compared to 2021
(In thousands and tax equivalent basis)
Volume
Rate
Net
Interest Income:
Loans
$
2,234
$
(761)
$
1,473
Taxable Investments
1,097
1,243
2,340
Non-taxable Investments
(60)
Federal funds sold
(128)
Interest-bearing deposits
-
Other interest earning assets
(88)
(10)
(98)
Total interest income
3,228
4,167
Interest Expense:
Interest-bearing demand deposits
Interest-bearing money markets
(37)
Savings deposits
Time deposits
(719)
(723)
(1,442)
Short-term borrowings
Long-term borrowings
(1,295)
(704)
Total interest expense
(1,807)
(925)
Net interest income
$
5,035
$
$
5,092
Note:
(1) The change in interest income/expense due to both volume and rate has been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each.
Provision for Loan Losses
The provision for loan losses was a credit of $0.6 million for the year ended December 31, 2022 and a credit of $0.8 million for the year ended December 31, 2021. Net charge-offs of $0.7 million were recorded for the year ended December 31, 2022, compared to net recoveries of $0.3 million for 2021. The ratio of the ALL to loans outstanding was 1.14% at December 31, 2022 compared to 1.38% at December 31, 2021. The ALL reflects a level commensurate with the risk inherent in our loan portfolio.
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Other Operating Income
The following table shows the major components of other operating income for the past two years, exclusive of net gains, and the percentage changes during these years:
(Dollars in thousands)
% Change
Service charges on deposit accounts
$
1,981
$
1,771
11.86%
Other service charges
1.76%
Trust department income
8,244
8,650
(4.69)%
Debit card income
3,958
3,644
8.62%
Bank owned life insurance
1,196
1,176
1.70%
Brokerage commissions
1,049
1,082
(3.05)%
Insurance reimbursement
-
1,375
(100.00)%
Other income
(42.43)%
Total other operating income
$
17,878
$
19,519
(8.41)%
Other operating income, exclusive of gains, decreased $1.6 million during the year ended December 31, 2022 when compared to the same period of 2021. The decrease was primarily a result of a decrease of $1.4 million in insurance reimbursements and a $0.4 million decrease in trust income in 2022 when compared to 2021. These decreases were partially offset by increased debit card income of $0.3 million for the year ended December 31, 2022 when compared to 2021 due to growth in deposit relationships and increased customer usage of our electronic services and increased service charge income of $0.2 million in 2022 when compared to 2021. Other income decreased $0.4 million.
Net gains of $0.2 million and $1.2 million were reported through other income for the years ended December 31, 2022 and 2021, respectively. The $1.1 million decrease in gains for 2022 was primarily attributable to the decrease in gains on the sale of mortgage loans to the secondary market of $1.1 million due to refinancing activity occurring at a slower pace than the pace experienced in 2021 and due to management’s strategic decision to book new mortgage loans at higher rates to our in-house portfolio.
Other Operating Expense
The following table compares the major components of other operating expense for 2022 and 2021:
(Dollars in thousands)
% Change
Salaries and employee benefits
$
24,130
$
22,061
9.38%
FDIC premiums
(17.62)%
Equipment
4,163
3,898
6.80%
Occupancy
2,906
2,775
4.72%
Data processing
3,444
3,204
7.49%
Marketing
1.50%
Professional services
1,538
3,528
(56.41)%
Contract labor
(3.13)%
Line rentals
(34.60)%
Total OREO expenses/(income), net
(945)
(162.43)%
Investor relations
(55.62)%
Settlement expense
-
3,300
(100.00)%
FHLB prepayment expense
-
2,368
(100.00)%
Contributions
1,220
(76.39)%
Other expenses
3,507
3,032
15.67%
Total other operating expense
$
43,145
$
47,799
(9.74)%
Other operating expenses decreased $4.6 million for the year ended December 31, 2022 when compared to 2021. Salaries and benefits increased by $2.1 million when compared to 2021 due to a lower reduction of loan origination costs of $1.0 million and a $1.1 million increase due to performance related pay and the competitive employment environment.
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Other changes year-over-year included increased OREO expenses of $1.5 million in 2022 due to gains on sale of OREO booked during 2021 and other net increases in expenses of $0.8 million. Non-interest expense decreased significantly due to our payment of $3.3 million in litigation settlement expenses during the first quarter of 2021 and a $2.4 million prepayment penalty for the early repayment of $70.0 million of FHLB advances recognized in the third quarter of 2021, a reduction of $2.4 million in professional and investor relations expenses primarily related to reimbursement of $0.7 in litigation expenses, a reduction of $0.4 million in investor relations costs and a $1.3 million reduction in legal fees. Charitable contributions also declined by $0.9 million primarily due to the funding of the Foundation at the end of 2021.
Applicable Income Taxes
We recognized a tax expense of $8.1 million in 2022, compared to a tax expense of $6.5 million in 2021. See the discussion under “Income Taxes” in Note 14 to the Consolidated Financial Statements presented elsewhere in this annual report for a detailed analysis of our deferred tax assets and liabilities. Our effective tax rate was 24.5% in 2022 and 24.9% in 2021. The decrease in the tax rate for 2022 was primarily due to the increase in tax credits related to a new 2021 investment in a low-income housing tax credit that began to provide tax benefits in 2022 and will continue to provide benefits in the coming years.
At December 31, 2022, the Corporation had Maryland Net Operating Losses (“NOLs”) of $41.0 million for which a deferred tax asset of $2.7 million has been recorded. There was also a Maryland state interest expense carryforward of $3.1 million, for which a deferred tax asset of $0.2 million has been recorded. There has been and continues to be a full valuation allowance on these NOLs and interest expense deferred tax assets, based on management’s belief that it is more likely than not that these NOLs will not be realized prior to the expiration of their carry-forward periods because the Corporation will not generate sufficient taxable income in the future to fully utilize the NOLs. The valuation allowance was $2.9 million and $3.0 million at December 31, 2022 and 2021, respectively.
We have concluded that no valuation allowance is deemed necessary for our remaining federal and state deferred tax assets at December 31, 2022, as it is more likely than not that they will be realized based on the expected reversal of deferred tax liabilities, the generation of future income sufficient to realize the deferred tax assets as they reverse, and the ability to implement tax planning strategies to prevent the expiration of any carry-forward periods.
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GAAP and Non-GAAP measures
The following tables sets forth certain selected financial data for the years ended December 31, 2022 and 2021 and is qualified in its entirety by the detailed information and unaudited financial statements, including the notes thereto, included elsewhere in this annual report.
For the year ended
December 31,
Per Share Data
Basic net income per common share (1) - as reported
$
3.77
$
2.95
Basic net income per common share (1) - non-GAAP
3.77
3.54
Diluted net income per common share (1) - as reported
$
3.76
$
2.95
Diluted net income per common share (1) - non-GAAP
3.76
3.54
Significant Ratios:
Return on Average Assets (a) (1) - as reported
1.39
%
1.12
%
Settlement, FHLB and contribution expenses, and insurance reimbursement income, net of income tax effect
-
0.23
Adjusted Return on Average Assets (a) (1) (non-GAAP)
1.39
%
1.35
%
Return on Average Equity (a) (1) - as reported
18.19
%
14.92
%
Settlement, FHLB and contribution expenses, and insurance reimbursement income, net of income tax effect
-
2.90
Adjusted Return on Average Equity (a) (1) (non-GAAP)
18.19
%
17.82
%
(1) See reconciliation of this non-GAAP financial measure provided elsewhere herein associated with settlement, FHLB and contribution expenses, and insurance reimbursement incurred during 2021.
Year Ended
(in thousands, except for per share amount)
Net income - as reported
$
25,048
$
19,770
Adjustments:
Settlement expense
-
3,300
FHLB penalty
-
2,368
Charitable contribution
-
1,000
Insurance reimbursement
-
(1,375)
Income tax effect of adjustment
-
(1,227)
Adjusted net income (non-GAAP)
$
25,048
$
23,836
Basic earnings per share - as reported
$
3.77
$
2.95
Adjustments:
Settlement expense
-
0.47
FHLB penalty
-
0.35
Charitable contribution
-
0.15
Insurance reimbursement
-
(0.20)
Income tax effect of adjustment
-
(0.18)
Adjusted basic earnings per share (non-GAAP)
$
3.77
$
3.54
Diluted earnings per share - as reported
$
3.76
$
2.95
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CONSOLIDATED BALANCE SHEET REVIEW
Overview
Total assets at December 31, 2022 increased by $118.3 million since December 31, 2021. During 2022, cash and interest-bearing deposits in other banks decreased by $41.4 million, the investment portfolio increased by $18.5 million and gross loans increased by $125.8 million. Management made strategic decisions to deploy excess cash balances in 2022. Cash was utilized to purchase a $73.3 million in securities in 2022. OREO balances increased by $0.3 million due to foreclosure activity in 2022. Other assets, including deferred taxes, premises and equipment, and accrued interest receivable, increased by $3.4 million. Total liabilities increased by $101.4 million since December 31, 2021. Non-interest bearing deposits increased by $5.0 million. Interest bearing demand deposits increased by $99.5 million and traditional savings accounts increased by $14.1 million. The increase in interest bearing demand deposits was attributable to an increase in municipality funding into a higher yielding indexed product. Money market balances increased by $25.4 million. Time deposits decreased by $42.7 million related to maturing balances moving to more liquid accounts, or broker investment accounts, due to the rising deposit rates as well as municipal funds moving to higher yielding State funding alternatives. Total shareholders’ equity increased by $9.9 million during the year ended December 31, 2022, as net income of $25.0 million and the issuance of $0.7 million of new shares of common stock was offset by other comprehensive losses of $11.7 million and the payment of $4.2 million in dividends.
As indicated below, the total interest-earning asset mix remained relatively constant at December 31, 2022 as compared to December 31, 2021. The mix for each year is illustrated below.
Year End Percentage
of Total Assets
Cash and cash equivalents
4%
7%
Net loans
68%
66%
Investments
20%
20%
The year-end total liability mix has remained consistent during the two-year period as illustrated below.
Year End Percentage
of Total Liabilities
Total deposits
93%
93%
Total borrowings
6%
6%
Loan Portfolio
The Bank is actively engaged in originating loans to customers primarily in Allegany County, Frederick County, Garrett County, and Washington County in Maryland, and in Berkeley County, Mineral County, Monongalia County, and Harrison County in West Virginia; and the surrounding regions of West Virginia and Pennsylvania. We have policies and procedures designed to mitigate credit risk and to maintain the quality of our loan portfolio. These policies include underwriting standards for new credits as well as continuous monitoring and reporting policies for asset quality and the adequacy of the ALL. These policies, coupled with ongoing training efforts, have provided effective checks and balances for the risk associated with the lending process. Lending authority is based on the type of the loan, and the experience of the lending officer.
Commercial loans are collateralized primarily by real estate and, to a lesser extent, equipment and vehicles. Unsecured commercial loans represent an insignificant portion of total commercial loans. Residential mortgage loans are collateralized by the related property. Generally, a residential mortgage loan exceeding a specified internal loan-to-value ratio requires private mortgage insurance. Installment loans are typically collateralized, with loan-to-value ratios which are established based on the financial condition of the borrower. We also have made unsecured consumer loans to qualified
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borrowers meeting our underwriting standards. Additional information about our loans and underwriting policies can be found in Item 1 of Part I of this annual report under the heading “Banking Products and Services”.
The following table sets forth the composition of our loan portfolio. Historically, our policy has been to make the majority of our loan commitments in our market areas. We had no foreign loans in our portfolio as of December 31 for any of the years presented.
Summary of Loan Portfolio
The following table presents the composition of our loan portfolio as of December 31 for the past two years:
(In millions)
Commercial real estate
$
458.8
$
374.3
Acquisition and development
70.6
128.1
Commercial and industrial *
245.4
181.0
Residential mortgage
444.4
404.7
Consumer
60.3
65.6
Total Loans
$
1,279.5
$
1,153.7
*Includes PPP loans of $0.4 million and $7.7 million at December 31, 2022 and December 31, 2021, respectively.
Outstanding loans of $1.3 billion at December 31, 2022 reflected an increase of $125.8 million during 2022. Since December 31, 2021, commercial real estate loans increased by $84.5 million and acquisition and development loans decreased by $57.5 million due primarily to the payoff of one large credit early in the third quarter. Commercial and industrial loans increased by $64.4 million for the year, primarily in new floor plan business, new commercial clients and continued expansion of existing client relationships. Residential mortgage loans increased $39.7 million related to management’s strategic decision to book new mortgage loans at higher rates to our in-house portfolio. The consumer loan portfolio decreased by $5.3 million due to amortization and payoffs of the existing portfolio slightly offset by new production.
Commercial loan production for the year ended December 31, 2022 was approximately $374.2 million, with $53.3 million originated during the fourth quarter. At December 31, 2022, unfunded, committed commercial construction loans totaled approximately $27.8 million. Commercial amortization and payoffs were approximately $282.7 million through December 31, 2022.
Consumer mortgage loan production was approximately $91.8 million through December 31, 2022. The pipeline of in-house, portfolio loans as of December 31, 2022, consisted of $7.5 million. The residential mortgage production level slowed in the fourth quarter of 2022 due to the increasing interest rates that occurred in 2022.
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The following table sets forth the maturities, based upon contractual dates, for selected loan categories as of December 31, 2022:
Maturities of Loan Portfolio at December 31, 2022
Fixed Rate Loans
(In thousands)
Maturing
Within
One Year
Maturing After
One Year
But Within
Five Years
Maturing
After
Five Years Within Fifteen Years
Maturing After Fifteen Years
Total
Commercial Real Estate
$
26,050
$
235,702
$
75,591
$
1,001
$
338,344
Acquisition and Development
31,470
11,632
1,915
45,811
Commercial and Industrial *
12,456
97,657
45,406
155,655
Residential Mortgage
35,323
37,225
106,497
179,834
Consumer
1,287
28,696
18,836
2,441
51,260
Total Loans
$
72,052
$
409,010
$
178,973
$
110,869
$
770,904
Variable Rate Loans
(In thousands)
Maturing
Within
One Year
Maturing After
One Year
But Within
Five Years
Maturing
After
Five Years Within Fifteen Years
Maturing After Fifteen Years
Total
Commercial Real Estate
$
7,173
$
14,818
$
65,475
$
33,021
$
120,487
Acquisition and Development
5,376
5,020
7,314
7,075
24,785
Commercial and Industrial *
54,223
21,534
13,943
89,741
Residential Mortgage
1,125
1,910
20,123
241,419
264,577
Consumer
3,860
5,072
9,000
Total Loans
$
71,757
$
43,286
$
106,919
$
286,628
$
508,590
* Commercial and Industrial includes $0.4 million of PPP balances at December 31, 2022
Management monitors the performance and credit quality of the loan portfolio by analyzing the age of the portfolio as determined by the length of time a required payment is past due. A loan is considered to be past due when a scheduled payment has not been received for 30 days past its contractual due date. For all loan segments, the accrual of interest is discontinued when principal or interest is delinquent for 90 days or more unless the loan is well-secured and in the process of collection. All non-accrual loans are considered to be impaired. Interest payments received on non-accrual loans are applied as a reduction of the loan principal balance. Loans are returned to accrual status when all principal and interest amounts contractually due are brought current and future payments are reasonably assured. Our policy for recognizing interest income on impaired loans does not differ from our overall policy for interest recognition.
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The following sets forth the amounts of non-accrual, past-due and restructured loans for the past two years:
Risk Elements of Loan Portfolio
At December 31,
(In thousands)
Non-accrual loans:
Commercial real estate
$
$
Acquisition and development
Commercial and industrial
-
Residential mortgage
3,204
1,901
Total non-accrual loans
$
3,495
$
2,462
Accruing Loans Past Due 90 days or more:
Residential mortgage
Consumer
Total accruing loans past due 90 days or more
$
$
Total non-accrual and past due 90 days or more
$
3,802
$
2,762
Restructured Loans (TDRs):
Performing
$
2,751
$
2,997
Non-accrual (included above)
Total TDRs
$
3,028
$
3,297
Other Real Estate Owned
$
4,733
$
4,477
Total Non-performing assets
$
8,535
$
7,239
Impaired loans without a valuation allowance
$
6,153
$
5,248
Impaired loans with a valuation allowance
Total impaired loans
$
6,498
$
5,728
Valuation allowance related to impaired loans
$
$
Non-accrual loans to total loans (as %)
0.27%
0.21%
Non-performing loans to total loans (as %)
0.30%
0.24%
Non-performing assets to total assets (as %)
0.46%
0.42%
Allowance for loan losses to non-accrual loans (as %)
418.77%
648.05%
Allowance for loan losses to non-performing assets (as %)
171.48%
220.40%
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The following table sets forth the percent applicable by portfolio for non-accrual loans for the past two years:
Non-Accrual Loans as a % of Applicable Portfolio
Commercial real estate
0.0%
0.0%
Acquisition and development
0.2%
0.3%
Commercial and industrial
0.0%
0.0%
Residential mortgage
0.7%
0.5%
Consumer
0.0%
0.0%
We would have recognized $0.2 million in interest income for the year ended December 31, 2022 had our non-accrual loans been current and performing in accordance with their terms. During 2022, we recognized, on a cash basis, $0.2 million of interest income on non-accrual loans that paid off.
Performing loans considered to be impaired (including performing troubled debt restructurings, or TDRs), as defined and identified by management, amounted to $3.0 million at December 31, 2022 and $3.3 million at December 31, 2021. Loans are identified as impaired when, based on current information and events, management determines that we will be unable to collect all amounts due according to contractual terms. These loans consist primarily of acquisition and development loans and CRE loans. The fair values are generally determined based upon independent third-party appraisals of the collateral or discounted cash flows based upon the expected proceeds. Specific allocations have been made where there is insufficient collateral to repay the loan balance if liquidated and there is no secondary source of repayment available.
The level of performing impaired loans (other than performing TDRs) decreased by $0.3 million during the year ended December 31, 2022. The decrease in allowance for loan losses as a percentage of non-accrual loans was related to the increase in non-accrual loans in 2022 compared to 2021.
A troubled debt restructuring is the restructuring of a loan in which one or more concessions are granted to a borrower who is experiencing financial difficulties. A loan will be classified as a TDR if the Bank restructures the loan’s terms (i.e., interest rate, payment amount, amortization period and/or maturity date) after determining that the borrower is experiencing financial difficulties. A modified loan is considered to be a TDR when the Bank has determined that the borrower is experiencing financial difficulties. The Bank evaluates the probability that the borrower will be in payment default on any of its debt in the foreseeable future without modification. To make this determination, the Bank performs a global financial review of the borrower and loan guarantors to assess their current ability to meet their financial obligations.
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The following table presents the details of TDRs by loan class at December 31, 2022 and December 31, 2021:
December 31, 2022
December 31, 2021
(Dollars in thousands)
Number of
Contracts
Recorded
Investment
Number of
Contracts
Recorded
Investment
Performing
Commercial real estate
Non owner-occupied
$
$
All other CRE
2,018
2,178
Acquisition and development
1-4 family residential construction
All other A&D
-
-
-
-
Commercial and industrial
-
-
-
-
Residential mortgage
Residential mortgage - term
Residential mortgage - home equity
-
-
-
-
Consumer
-
-
-
-
Total performing
$
2,751
$
2,997
Non-accrual
Commercial real estate
Non owner-occupied
-
$
-
-
$
-
All other CRE
-
-
-
-
Acquisition and development
1-4 family residential construction
-
-
-
-
All other A&D
-
-
-
-
Commercial and industrial
-
-
-
-
Residential mortgage
Residential mortgage - term
Residential mortgage - home equity
-
-
-
-
Consumer
-
-
-
-
Total non-accrual
Total TDRs
$
3,028
$
3,297
The level of TDRs decreased by $0.3 million during the year ended December 31, 2022. There were no new loans added to TDRs and one loan already in performing TDRs was re-modified. Net principal payments totaling $0.3 million were received during the same time period.
At December 31, 2022, there were no additional funds committed to be advanced in connection with TDRs. In 2022, interest income not recognized due to rate modifications of TDRs was $55 thousand and interest income recognized on all TDRs was $0.2 million.
Allowance for Loan Losses
The ALL is maintained to absorb probable incurred credit losses from the loan portfolio. The ALL is based on management’s continuing evaluation of the quality of the loan portfolio, assessment of current economic conditions, diversification and size of the portfolio, adequacy of collateral, past and anticipated loss experience, and the amount of non-performing loans.
The ALL is also based on estimates, and actual losses will vary from current estimates. These estimates are reviewed quarterly, and as adjustments, either positive or negative, become necessary, a corresponding increase or decrease is made in the ALL. The methodology used to determine the adequacy of the ALL is consistent with prior years. An estimate for probable losses related to unfunded lending commitments, such as letters of credit and binding but unfunded loan commitments is also prepared. This estimate is computed in a manner similar to the methodology described above, adjusted for the probability of actually funding the commitment. At December 31, 2022 and 2021, the balance for reserve
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for probable losses on unfunded commitments, included in other liabilities in the consolidated statements of financial condition was $0.1 million.
The ALL was $14.6 million at December 31, 2022 compared to $16.0 million at December 31, 2021, a decrease of 8.3% that resulted primarily from improvements in unemployment rates and a decline in total delinquencies. Net charge-offs of $0.7 million were recorded for 2022, compared to net recoveries of $0.3 million for 2021. The ratio of the ALL to loans outstanding was 1.14% at December 31, 2022 compared to 1.38% at December 31, 2021.
The ratio of net charge-offs to average loans for the year ended December 31, 2022 was an annualized 0.06%, compared to net recoveries to average loans of 0.02% for the year ended December 31, 2021. The increase in net charge-offs was primarily related to increased charge-offs in our consumer loan portfolio. Our special assets team continues to effectively collect on charged-off loans, resulting in ongoing overall low charge-off ratios.
Accruing loans past due 30 days or more decreased to 0.16%, compared to 0.31% at December 31, 2021. Non-accrual loans totaled $3.5 million at December 31, 2022 compared to $2.5 million at December 31, 2021. The increase in non-accrual balances at December 31, 2022 was primarily related to one residential real estate loan of $1.5 million added to non-accrual in 2022. This was partially offset by reductions in principal balance of existing non-accrual loans.
The ALL at December 31, 2022 is adequate to provide for probable losses inherent in our loan portfolio. Amounts that will be recorded for the provision for loan losses in future periods will depend upon trends in the loan balances, including the composition of the loan portfolio, changes in loan quality and loss experience trends, potential recoveries on previously charged-off loans and changes in other qualitative factors. Management also applies interest rate risk, collateral value and debt service sensitivity analyses to the CRE loan portfolio and obtains new appraisals on specific loans under defined parameters to assist in the determination of the periodic provision for loan losses.
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The following table presents the activity in the ALL by major loan category for the past two years.
Analysis of Activity in the Allowance for Loan Losses
For the Years Ended December 31,
(In thousands)
Balance, January 1
$
15,955
$
16,486
Charge-offs:
Commercial real estate
-
(14)
Acquisition and development
(20)
(85)
Commercial and industrial
(134)
(2)
Residential mortgage
(46)
(141)
Consumer
(921)
(396)
Total charge-offs
(1,121)
(638)
Recoveries:
Commercial real estate
-
Acquisition and development
Commercial and industrial
Residential mortgage
Consumer
Total recoveries
Net credit (losses)/recoveries
(676)
Credit for loan losses
(643)
(817)
Balance at end of period
$
14,636
$
15,955
Allowance for loan losses to total loans (as %)
1.14%
1.38%
Net (Charge-offs)/Recoveries as a % of Average Applicable Portfolio
Commercial real estate
0.0%
(0.0%)
Acquisition and development
0.0%
0.1%
Commercial and industrial
(0.0%)
0.2%
Residential mortgage
0.0%
(0.0%)
Consumer
(1.3%)
(0.4%)
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The following presents management’s allocation of the ALL by major loan category in comparison to that loan category’s percentage of total loans. Changes in the allocation over time reflect changes in the composition of the loan portfolio risk profile and refinements to the methodology of determining the ALL. Specific allocations in any particular category may be reallocated in the future as needed to reflect current conditions. Accordingly, the entire ALL is considered available to absorb losses in any category.
Allocation of the Allowance for Loan Losses
For the Years Ended December 31,
(In thousands)
% of
Total
Loans
% of
Total
Loans
Commercial real estate
$
6,345
43%
$
6,032
38%
Acquisition and development
7%
2,615
16%
Commercial and industrial
2,845
19%
2,460
15%
Residential mortgage
3,160
22%
3,484
22%
Consumer
6%
6%
Unallocated
3%
3%
Total
$
14,636
100%
$
15,955
100%
Investment Securities
The following table sets forth the composition of our investment securities portfolio by major category as of the indicated dates:
At December 31,
(In thousands)
Amortized
Cost
Fair
Value
(FV)
FV As
% of
Total
Amortized
Cost
Fair
Value
(FV)
FV As
% of
Total
Securities Available-for-Sale:
U.S. government agencies
$
11,044
$
9,462
8%
$
69,602
$
67,169
23%
Residential mortgage-backed agencies
45,052
37,401
30%
49,630
48,661
17%
Commercial mortgage-backed agencies
37,393
30,732
23%
51,694
50,868
19%
Collateralized mortgage obligations
25,828
21,044
17%
93,018
90,077
31%
Obligations of states and political subdivisions
10,848
10,492
8%
12,439
12,804
4%
Corporate bonds
1,000
1%
Collateralized debt obligations
18,664
15,871
13%
18,609
17,192
6%
Total available for sale
$
149,829
$
125,889
100%
$
294,992
$
286,771
100%
Securities Held to Maturity:
U.S. treasuries
$
37,204
$
35,611
18%
$
-
$
-
0%
U.S. government agencies
67,734
54,473
27%
-
-
0%
Residential mortgage-backed agencies
28,624
25,122
12%
30,634
30,847
47%
Commercial mortgage-backed agencies
22,389
17,821
9%
5,456
5,601
9%
Collateralized mortgage obligations
57,085
47,084
23%
-
-
0%
Obligations of states and political subdivisions
22,623
22,969
11%
20,169
28,921
44%
Total held to maturity
$
235,659
$
203,080
100%
$
56,259
$
65,369
100%
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The fair value of investment securities available for sale decreased by $160.9 million since December 31, 2021 due to the transfer of investments from available for sale to held to maturity in the first quarter 2022. At December 31, 2022, the securities classified as available for sale included a net unrealized loss of $24.0 million, which represents the difference between the fair value and the amortized cost of securities in the portfolio
The Corporation reassessed the classification of certain investments and, effective February 1, 2022, the Corporation transferred $139.0 million of callable agencies, obligation of state and political subdivisions, and collateralized mortgage obligations from available for sale to held to maturity securities. The transferred occurred at fair value. The related unrealized loss of $8.4 million included in other comprehensive loss remained in other comprehensive loss, to be amortized out of other comprehensive loss with an offsetting entry to interest income as a yield adjustment over the remaining term of the securities. No gain or loss was recorded at the time of transfer. The transfer of these securities was completed in an effect to mitigate further decline in fair market value value in a rising rate environment. Management’s assessment of the potential included lower yielding bonds and the risk of extension in an up 300 basis point shock.
As discussed in Note 20 to the Consolidated Financial Statements presented elsewhere in this report, we measure fair market values based on the fair value hierarchy established in ASC Topic 820, Fair Value Measurements and Disclosures. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). Level 3 prices or valuation techniques require inputs that are both significant to the valuation assumptions and are not readily observable in the market (i.e. supported with little or no market activity). These Level 3 instruments are valued based on both observable and unobservable inputs derived from the best available data, some of which is internally developed, and considers risk premiums that a market participant would require.
Approximately $110.0 million of the available-for-sale portfolio was valued using Level 2 pricing and had net unrealized losses of $21.2 million at December 31, 2022. The remaining $15.9 million of the securities available-for-sale represents the entire collateralized debt obligation (“CDO”) portfolio, which was valued using significant unobservable inputs, or Level 3 pricing. The $2.8 million in net unrealized losses associated with the CDO portfolio relates to nine pooled trust preferred securities that comprise the CDO portfolio. Net unrealized losses of $1.7 million represent non-credit related other than temporary impairment (“OTTI”) charges on seven of the securities while $1.1 million of unrealized losses relates to two securities which have had no credit related OTTI.
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The following table sets forth the contractual or estimated maturities of the components of our investment securities portfolio as of December 31, 2022 and the weighted average yields on a tax-equivalent basis.
Investment Security Maturities, Yields, and Fair Values at December 31, 2022
(In thousands)
Within
1 Year
1 Year
To 5 Years
5 Years
To 10 Years
Over
10 Years
Total
Fair Value
Securities Available-for-Sale:
U.S. government agencies
$
-
$
8,186
$
-
$
1,276
$
9,462
Residential mortgage-backed agencies
-
-
29,653
7,748
37,401
Commercial mortgage-backed agencies
24,118
6,529
-
30,732
Collateralized mortgage obligations
-
1,701
12,201
7,142
21,044
Obligations of states and political subdivisions
2,832
6,429
10,492
Corporate bonds
-
-
-
Collateralized debt obligations
-
-
-
15,871
15,871
Total available for sale
$
$
36,837
$
50,161
$
38,466
$
125,889
Percentage of total
0.34%
29.26%
39.85%
30.56%
100.00%
Weighted average yield
3.82%
2.10%
2.01%
7.99%
3.87%
Held to Maturity:
US Treasuries
$
-
$
35,611
$
-
$
-
$
35,611
U.S. government agencies
-
11,246
26,825
16,403
54,474
Residential mortgage-backed agencies
4,120
2,957
17,191
25,122
Commercial mortgage-backed agencies
6,977
10,132
-
17,821
Collateralized mortgage obligations
-
9,108
25,514
12,461
47,083
Obligations of states and political subdivisions
-
-
-
22,969
22,969
Total held to maturity
$
1,566
$
67,062
$
65,428
$
69,024
$
203,080
Percentage of total
0.77%
33.02%
32.22%
33.99%
100.00%
Weighted average yield
(0.88)%
2.20%
2.64%
3.50%
2.76%
The weighted average yield was calculated using historical cost balances and does not give effect to changes in fair value. The negative weighted average yield was due to increased paydowns on mortgage-backed securities that impacted their factors and three month conditional prepayment rate. At December 31, 2022, one Tax Increment Funding bond totaling $17.7 million exceeded 10% of shareholders’ equity.
Deposits
The following table sets forth the deposit balances by major category for 2022 and 2021:
Deposit Balances
(In thousands)
Actual Balance
Percent
Actual Balance
Percent
Non-interest-bearing demand deposits
$
506,613
32%
$
501,627
34%
Interest-bearing deposits:
Demand
327,685
21%
228,175
16%
Money Market
365,192
23%
339,748
23%
Savings deposits
250,720
16%
236,595
16%
Time deposits
120,523
8%
163,229
11%
Total Deposits
$
1,570,733
100%
$
1,469,374
100%
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Total deposits at December 31, 2022 increased by $101.4 million when compared to deposits at December 31, 2021. Non-interest-bearing deposits increased by $5.0 million. Interest bearing demand deposits increased by $99.5 million and traditional savings accounts increased by $14.1 million. The increase in interest bearing demand deposits was attributable to an increase in municipality funding into a higher yielding indexed product. Money market balances increased by $25.4 million. Time deposits decreased by $42.7 million related to maturing balances moving to more liquid accounts, or brokerage investment accounts, due to the rising deposit rates as well as municipal funds moving to higher yielding State funding alternatives.
Borrowed Funds
The following shows the composition of our borrowings at December 31:
(In thousands)
Securities sold under agreements to repurchase
$
64,565
$
57,699
Total short-term borrowings
$
64,565
$
57,699
Junior subordinated debentures
$
30,929
$
30,929
Total long-term borrowings
$
30,929
$
30,929
Total borrowings
$
95,494
$
88,628
Average balance (from Table 1)
$
94,111
$
135,037
The following is a summary of short-term borrowings at December 31 with original maturities of less than one year:
(Dollars in thousands)
Securities sold under agreements to repurchase:
Outstanding at end of year
$
64,565
$
57,699
Weighted average interest rate at year end
0.12%
0.15%
Maximum amount outstanding as of any month end
$
75,912
$
72,396
Average amount outstanding
63,182
57,697
Approximate weighted average rate during the year
0.12%
0.15%
Total borrowings increased by $6.9 million, or 7.7%, in 2022 when compared to 2021 due to increased balances in our existing accounts in our Treasury Management product.
Management will continue to closely monitor interest rates within the context of its overall asset-liability management process. See the discussion under the heading “Interest Rate Sensitivity” in this Item 7 for further information on this topic.
At December 31, 2022, we had additional borrowing capacity with the FHLB totaling $195.3 million, an additional $140.0 million of unused lines of credit with various financial institutions, and $9.6 million of an unused secured line of credit with the Federal Reserve Bank. See Note 11 to the Consolidated Financial Statements presented elsewhere in this annual report for further details about our borrowings and additional borrowing capacity, which is incorporated herein by reference.
Off-Balance Sheet Arrangements
In the normal course of business, to meet the financing needs of its customers, the Bank is a party to financial instruments with off-balance sheet risk. These financial instruments include commitments to extend credit, lines of credit, and standby letters of credit. Our exposure to credit loss in the event of nonperformance by the other party to these financial instruments is represented by the contractual amount of the instruments. The credit risks inherent in loan commitments and letters of credit are essentially the same as those involved in extending loans to customers, and these arrangements are subject to our normal credit policies. We use the same credit policies in making commitments and conditional obligations as we do for on-balance sheet instruments. We generally require collateral or other security to support the financial
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instruments with credit risk. The amount of collateral or other security is determined based on management’s credit evaluation of the counterparty. We evaluate each customer’s creditworthiness on a case-by-case basis.
Loan commitments and letters of credit totaled $253.9 million and $14.3 million, respectively, at December 31, 2022. Management does not believe that any of the foregoing arrangements have or are reasonably likely to have a current or future effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors. We are not a party to any other off-balance sheet arrangements. See Note 19 to the Consolidated Financial Statements presented elsewhere in this annual report for additional information on these arrangements.
Capital Resources
We require capital to fund loans, satisfy our obligations under the Bank’s letters of credit, meet the deposit withdraw demands of the Bank’s customers, and satisfy our other monetary obligations. To the extent that deposits are not adequate to fund our capital requirements, we can rely on the funding sources identified below under the heading “Liquidity Management”. At December 31, 2022, the Bank had $140.0 million available through unsecured lines of credit with correspondent banks, $9.6 million available through a secured line of credit with the Federal Reserve Discount Window and approximately $195.3 million available through the FHLB. Management is not aware of any demands, commitments, events or uncertainties that are likely to materially affect our ability to meet our future capital requirements.
In addition to operational requirements, the Bank and the Corporation are subject to risk-based capital regulations, which were adopted and are monitored by federal banking regulators. These regulations are used to evaluate capital adequacy and require an analysis of an institution’s asset risk profile and off-balance sheet exposures, such as unused loan commitments and stand-by letters of credit. Detailed information about these capital regulations and their requirements is set forth in the “Supervision and Regulation” section of Item 1 of Part I of this annual report under the heading “Capital Requirements”.
At December 31, 2022, the Corporation’s total risk-based capital ratio was 16.12% and the Bank’s total risk-based capital ratio was 14.37%, both of which were well above the regulatory minimum of 8%. The total risk-based capital ratios of the Corporation and the Bank at December 31, 2021 were 15.89% and 14.97%, respectively. The decrease at the Bank was primarily due to dividend funding to the Corporation.
At December 31, 2022, the most recent notification from the regulators categorizes the Corporation and the Bank as “well capitalized” under the regulatory framework for prompt corrective action. See Note 4 to the Consolidated Financial Statements presented elsewhere in this annual report for additional information regarding regulatory capital ratios.
Liquidity Management
Liquidity is a financial institution’s capability to meet customer demands for deposit withdrawals while funding all credit-worthy loans. The factors that determine the institution’s liquidity are:
● Reliability and stability of core deposits;
● Cash flow structure and pledging status of investments; and
● Potential for unexpected loan demand.
We actively manage our liquidity position through meetings of a sub-committee of executive management, which looks forward 12 months at 30-day intervals. The measurement is based upon the projection of funds sold or purchased position, along with ratios and trends developed to measure dependence on purchased funds and core growth. Monthly reviews by management and quarterly reviews by the Asset and Liability Committee under prescribed policies and procedures are designed to ensure that we will maintain adequate levels of available funds.
It is our policy to manage our affairs so that liquidity needs are fully satisfied through normal Bank operations. That is, the Bank will manage its liquidity to minimize the need to make unplanned sales of assets or to borrow funds
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under emergency conditions. The Bank will use funding sources where the interest cost is relatively insensitive to market changes in the short run (periods of one year or less) to satisfy operating cash needs. The remaining normal funding will come from interest-sensitive liabilities, either deposits or borrowed funds. When the marginal cost of needed wholesale funding is lower than the cost of raising this funding in the retail markets, the Corporation may supplement retail funding with external funding sources such as:
● Unsecured Fed Funds lines of credit with upstream correspondent banks (M&T Bank, Atlantic Community Bankers Bank, Community Bankers Bank, PNC Financial Services, Pacific Coast Banker’s Bank and Zions Bancorp).
● Secured advances with the FHLB of Atlanta, which are collateralized by eligible one to four family residential mortgage loans, home equity lines of credit, commercial real estate loans. Cash and various securities may also be pledged as collateral.
● Secured line of credit with the Federal Reserve Discount Window for use in borrowing funds up to 90 days, using municipal securities as collateral.
● Brokered deposits, including CDs and money market funds, provide a method to generate deposits quickly. These deposits are strictly rate driven but often provide the most cost effective means of funding growth.
● One Way Buy CDARS/ICS funding - a form of brokered deposits that has become a viable supplement to brokered deposits obtained directly.
We have adequate liquidity available to respond to current and anticipated liquidity demands and is not aware of any trends or demands, commitments, events or uncertainties that are likely to materially affect our ability to maintain liquidity at satisfactory levels.
Market Risk and Interest Sensitivity
Our primary market risk is interest rate fluctuation. Interest rate risk results primarily from the traditional banking activities that we engage in, such as gathering deposits and extending loans. Many factors, including economic and financial conditions, movements in interest rates and consumer preferences affect the difference between the interest earned on our assets and the interest paid on our liabilities. Interest rate sensitivity refers to the degree that earnings will be impacted by changes in the prevailing level of interest rates. Interest rate risk arises from mismatches in the repricing or maturity characteristics between interest-bearing assets and liabilities. Management seeks to minimize fluctuating net interest margins, and to enhance consistent growth of net interest income through periods of changing interest rates. Management uses interest sensitivity gap analysis and simulation models to measure and manage these risks. The interest rate sensitivity gap analysis assigns each interest-earning asset and interest-bearing liability to a time frame reflecting its next repricing or maturity date. The differences between total interest-sensitive assets and liabilities at each time interval represent the interest sensitivity gap for that interval. A positive gap generally indicates that rising interest rates during a given interval will increase net interest income, as more assets than liabilities will reprice. A negative gap position would benefit us during a period of declining interest rates.
At December 31, 2022, we were asset sensitive.
Our interest rate risk management goals are:
● Ensure that the Board of Directors and senior management will provide effective oversight and ensure that risks are adequately identified, measured, monitored and controlled;
● Enable dynamic measurement and management of interest rate risk;
● Select strategies that optimize our ability to meet our long-range financial goals while maintaining interest rate risk within policy limits established by the Board of Directors;
● Use both income and market value oriented techniques to select strategies that optimize the relationship between risk and return; and
● Establish interest rate risk exposure limits for fluctuation in net interest income (“NII”), net income and economic value of equity.
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In order to manage interest sensitivity risk, management formulates guidelines regarding asset generation and pricing, funding sources and pricing, and off-balance sheet commitments. These guidelines are based on management’s outlook regarding future interest rate movements, the state of the regional and national economy, and other financial and business risk factors. Management uses computer simulations to measure the effect on net interest income of various interest rate scenarios. Key assumptions used in the computer simulations include cash flows and maturities of interest rate sensitive assets and liabilities, changes in asset volumes and pricing, and management’s capital plans. This modeling reflects interest rate changes and the related impact on net interest income over specified periods.
We evaluate the effect of a change in interest rates of -300 basis points to +400 basis points on both NII and Net Portfolio Value (“NPV”) / Economic Value of Equity (“EVE”). We concentrate on NII rather than net income as long as NII remains the significant contributor to net income.
NII modeling allows management to view how changes in interest rates will affect the spread between the yield earned on assets and the cost of deposits and borrowed funds. Unlike traditional Gap modeling, NII modeling takes into account the different degree to which installments in the same repricing period will adjust to a change in interest rates. It also allows the use of different assumptions in a falling versus a rising rate environment. The period considered by the NII modeling is the next eight quarters.
NPV / EVE modeling focuses on the change in the market value of equity. NPV / EVE is defined as the market value of assets less the market value of liabilities plus/minus the market value of any off-balance sheet positions. By effectively looking at the present value of all future cash flows on or off the balance sheet, NPV / EVE modeling takes a longer-term view of interest rate risk. This complements the shorter-term view of the NII modeling.
Measures of NII at risk produced by simulation analysis are indicators of an institution’s short-term performance in alternative rate environments. These measures are typically based upon a relatively brief period, usually one year. They do not necessarily indicate the long-term prospects or economic value of the institution.
Based on the simulation analysis performed at December 31, 2022 and 2021, management estimated the following changes in net interest income, assuming the indicated rate changes:
(Dollars in thousands)
+400 basis points
$
1,112
$
4,072
+300 basis points
$
$
3,233
+200 basis points
$
$
2,315
+100 basis points
$
$
1,160
-100 basis points
$
(776)
$
(3,110)
-200 basis points
$
(3,165)
N/A
-300 basis points
$
(7,382)
N/A
This estimate is based on assumptions that may be affected by unforeseeable changes in the general interest rate environment and any number of unforeseeable factors. Rates on different assets and liabilities within a single maturity category adjust to changes in interest rates to varying degrees and over varying periods of time. The relationships between lending rates and rates paid on purchased funds are not constant over time. Management can respond to current or anticipated market conditions by lengthening or shortening the Bank’s sensitivity through loan repricings or changing its funding mix. The rate of growth in interest-free sources of funds will influence the level of interest-sensitive funding sources. In addition, the absolute level of interest rates will affect the volume of earning assets and funding sources. As a result of these limitations, the interest-sensitive gap is only one factor to be considered in estimating the net interest margin.
Impact of Inflation - Our assets and liabilities are primarily monetary in nature, and as such, future changes in prices do not affect the obligations to pay or receive fixed and determinable amounts of money. During inflationary periods, monetary assets lose value in terms of purchasing power and monetary liabilities have corresponding purchasing power gains. The concept of purchasing power is not an adequate indicator of the impact of inflation on financial institutions because it does not incorporate changes in our earnings.
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As a smaller reporting company, the Corporation is not required to provide the information contemplated by this item. See Item 7 of Part II of this report under the heading “Market Risk and Interest Sensitivity” for a discussion of the Corporation’s primary market risk.
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Page
Report of Independent Registered Public Accounting Firm (PCAOB ID: 173)
Consolidated Statements of Financial Condition at December 31, 2022 and 2021
Consolidated Statements of Income for the years ended December 31, 2022 and 2021
Consolidated Statements of Comprehensive Income for the years ended December 31, 2022 and 2021
Consolidated Statements of Changes in Shareholders’ Equity for the years ended December 31, 2022 and 2021
Consolidated Statements of Cash Flows for the years ended December 31, 2022 and 2021
Notes to Consolidated Financial Statements for the years ended December 31, 2022 and 2021
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Shareholders and the Board of Directors of First United Corporation
Oakland, Maryland
Opinion on the Financial Statements
We have audited the accompanying consolidated statements of financial condition of First United Corporation (the "Company") as of December 31, 2022 and 2021, the related consolidated statements of income, comprehensive income, changes in shareholders’ equity, and cash flows for each of the years in the two year period ended December 31, 2022, and the related notes (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2022 and 2021, and the results of its operations and its cash flows for each of the years in the two year period ended December 31, 2022, in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Allowance for Loan Losses - Qualitative Factors
As more fully described in Note 6 to the consolidated financial statements, the Company estimates and
records an allowance for loan losses for loans collectively evaluated for impairment by developing a loss
rate based on historical losses and qualitative factors. Qualitative factors are used to adjust historical loss
rates considering relevant factors such as national and local economic trends and conditions; levels and
trends in delinquency rates and non-accrual loans; trends in volumes and terms of loans; effects of changes
in lending policies; experience, ability, and depth of lending staff; value of underlying collateral; and
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concentrations of credit. The application of the adjustments for qualitative factors to the historical loss rate
calculation is subjective.
The principal considerations for our determination that auditing the qualitative factors is a critical audit
matter is the high degree of judgment involved in the assessment of the risk of loss associated with each
risk factor. Our audit procedures included substantive testing related to the qualitative factors. Procedures
included, among others:
● Evaluation of relevance and reliability of the data used to determine the qualitative factors and agreed to source documentation.
● Evaluation of management judgments involved in the assessment of the qualitative factors, including the reasonableness and appropriateness of the magnitude of the adjustments for the factors, and the resulting allocation to the allowance.
● Testing the mathematical accuracy of the allowance calculation, including the calculation of the qualitative allowance, which included the accuracy of the allocation of the qualitative factors.
/s/ Crowe LLP
We have served as the Company's auditor since 2021.
Washington, D.C.
March 24, 2023
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First United Corporation and Subsidiaries
Consolidated Statements of Financial Condition
(In thousands, except per share amounts)
December 31,
Assets
Cash and due from banks
$
72,720
$
109,823
Interest bearing deposits in banks
1,595
5,897
Cash and cash equivalents
74,315
115,720
Investment securities - available-for-sale (at fair value)
125,889
286,771
Investment securities - held to maturity (fair value of $203,080 at December 31, 2022 and $65,369 at December 31, 2021)
235,659
56,259
Restricted investment in bank stock, at cost
1,027
1,029
Loans held for sale (at lower of cost or fair value)
-
Loans
1,279,494
1,153,687
Unearned fees
(174)
(292)
Allowance for loan losses
(14,636)
(15,955)
Net loans
1,264,684
1,137,440
Premises and equipment, net
34,948
34,697
Goodwill and other intangibles
12,433
12,052
Bank owned life insurance
46,346
45,150
Deferred tax assets
10,605
6,857
Other real estate owned
4,733
4,477
Right of use assets
1,898
2,247
Trust receivable
8,244
8,650
Pension Asset
8,001
4,765
Accrued interest receivable
6,051
4,821
Other assets
13,336
8,836
Total Assets
$
1,848,169
$
1,729,838
Liabilities and Shareholders’ Equity
Liabilities:
Non-interest bearing deposits
$
506,613
$
501,627
Interest bearing deposits
1,064,120
967,747
Total deposits
1,570,733
1,469,374
Short-term borrowings
64,565
57,699
Long-term borrowings
30,929
30,929
Operating lease liability
2,373
2,761
SERP deferred compensation
7,194
10,395
Accrued interest payable and other liabilities
19,383
15,787
Dividends payable
1,199
Total Liabilities
1,696,376
1,587,938
Shareholders’ Equity:
Common Stock - par value $0.01 per share;
Authorized 25,000,000 shares; issued and outstanding 6,666,428 shares at December 31, 2022 and 6,620,955 shares at December 31, 2021
Surplus
24,409
23,661
Retained earnings
166,343
145,487
Accumulated other comprehensive loss
(39,026)
(27,314)
Total Shareholders’ Equity
151,793
141,900
Total Liabilities and Shareholders’ Equity
$
1,848,169
$
1,729,838
See notes to consolidated financial statements
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First United Corporation and Subsidiaries
Consolidated Statements of Income
(In thousands, except per share data)
Year Ended
December 31,
Interest income
Interest and fees on loans
$
54,448
$
52,952
Interest on investment securities
Taxable
6,252
3,912
Exempt from federal income tax
1,106
1,077
Total investment income
7,358
4,989
Other
Total interest income
62,422
58,256
Interest expense
Interest on deposits
3,226
3,473
Interest on short-term borrowings
Interest on long-term borrowings
1,451
2,155
Total interest expense
4,789
5,714
Net interest income
57,633
52,542
Credit for loan losses
(643)
(817)
Net interest income after provision for loan losses
58,276
53,359
Other operating income
Net gains
1,230
Service charges on deposit accounts
1,981
1,771
Other service charges
Trust department
8,244
8,650
Debit card income
3,958
3,644
Bank owned life insurance
1,196
1,176
Brokerage commissions
1,049
1,082
Insurance reimbursement
-
1,375
Other
Total other income
17,878
19,519
Total other operating income
18,050
20,749
Other operating expenses
Salaries and employee benefits
24,130
22,061
FDIC premiums
Equipment
4,163
3,898
Occupancy
2,906
2,775
Data processing
3,444
3,204
Marketing
Professional services
1,538
3,528
Contract labor
Line rentals
Total OREO expense/(income), net
(945)
Investor relations
Settlement expense
-
3,300
FHLB prepayment expense
-
2,368
Contributions
1,220
Other
3,507
3,032
Total other operating expenses
43,145
47,799
Income before income tax expense
$
33,181
$
26,309
Provision for income tax expense
8,133
6,539
Net Income
$
25,048
$
19,770
Basic net income per share
$
3.77
$
2.95
Diluted net income per share
$
3.76
$
2.95
Weighted average number of basic shares outstanding
6,650
6,710
Weighted average number of diluted shares outstanding
6,661
6,717
See notes to consolidated financial statements
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First United Corporation and Subsidiaries
Consolidated Statements of Comprehensive Income
(In thousands)
Year Ended
December 31,
Comprehensive Income
Net Income
$
25,048
$
19,770
Other comprehensive income, net of tax and reclassification adjustments
Available for sale securities:
Unrealized holding (losses)/gains on investments with OTTI
(835)
3,379
Reclassification adjustment for gains realized in income
Other comprehensive (losses)/income on investments with OTTI
(1,037)
3,178
Unrealized holding losses on all other AFS investments
(22,792)
(7,661)
Unrealized holding losses on securities transferred from available for sale to held to maturity
8,328
-
Reclassification adjustment for gains realized in income
Other comprehensive losses on all other AFS investments
(14,467)
(7,815)
Held to maturity securities:
Unrealized holding losses on securities transferred to held to maturity
(8,328)
-
Reclassification adjustment for gains realized in income
-
Reclassification adjustment for amortization realized in income
(841)
(247)
Other comprehensive (losses)/income on HTM investments
(7,578)
Cash flow hedges:
Unrealized holding gains on cash flow hedges
1,521
Reclassification adjustment for gains realized in income
-
-
Other comprehensive income on cash flow hedges
1,521
Pension plan liability:
Unrealized holding gains on pension plan liability
4,684
Reclassification adjustment for amortization of unrecognized loss realized in income
(1,117)
(1,490)
Other comprehensive income on pension plan liability
2,048
6,174
SERP liability:
Unrealized holding losses/(gains) on SERP liability
3,307
(711)
Reclassification adjustment for amortization of unrecognized loss realized in income
(271)
(175)
Other comprehensive gains/( losses) on SERP liability
3,578
(536)
Other comprehensive income before income tax
(15,935)
2,115
Income tax expense related to other comprehensive income
4,223
(566)
Other comprehensive (loss)/income, net of tax
(11,712)
1,549
Comprehensive Income
$
13,336
$
21,319
See notes to consolidated financial statements
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First United Corporation and Subsidiaries
Consolidated Statements of Changes in Shareholders’ Equity
(In thousands, except number of shares)
Common
Stock
Surplus
Retained
Earnings
Accumulated
Other
Comprehensive
Loss, net of tax
Total
Shareholders'
Equity
Balance at January 1, 2021
$
30,149
129,691
(28,863)
131,047
Net income
19,770
19,770
Other comprehensive income, net of tax
1,549
1,549
Common stock issued - 28,044 shares
Common stock dividend declared - $0.60 per share
(3,974)
(3,974)
Stock based compensation
Stock repurchase - 400,000 shares
(4)
(7,175)
(7,179)
Balance at December 31, 2021
23,661
145,487
(27,314)
141,900
Net income
25,048
25,048
Other comprehensive loss, net of tax
(11,712)
(11,712)
Common stock issued- 45,473 shares
Common stock dividend declared - $0.63 per share
(4,192)
(4,192)
Stock based compensation
Balance at December 31, 2022
$
$
24,409
$
166,343
$
(39,026)
$
151,793
See notes to consolidated financial statements
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First United Corporation and Subsidiaries
Consolidated Statements of Cash Flows
(In thousands)
Year Ended
December 31,
Operating activities
Net income
$
25,048
$
19,770
Adjustments to reconcile net income to net cash provided by operating activities:
Credit for loan losses
(643)
(817)
Depreciation
3,077
3,269
Stock based compensation
Amortization of intangible assets
-
Gains on sales of other real estate owned, net
-
(1,372)
Write-downs of other real estate owned
-
Origination of loans held for sale
(1,401)
(28,426)
Proceeds from sales of loans held for sale
1,513
33,020
Gains on sales of loans held for sale
(45)
(1,115)
Gains on disposal of fixed assets
(33)
(15)
Net amortization of investment securities discounts and premiums- AFS
1,001
Net (accretion)/amortization of investment securities discounts and premiums- HTM
(850)
Net gain on sales of investment securities - available-for-sale
-
(154)
Net gain on calls of investment securities - available-for-sale
(3)
-
Net (gains)/losses on calls of investment securities - held to maturity
(91)
Amortization of deferred loan fees
(150)
(4,045)
Deferred tax expense
Earnings on bank owned life insurance
(1,196)
(1,176)
Amortization of operating lease right of use asset
Operating lease liability
(388)
(197)
Decrease/(increase) in accrued interest receivable and other assets
(1,601)
(Decrease)/increase in accrued interest payable and other liabilities
(721)
Net cash provided by operating activities
26,543
20,021
Investing activities
Proceeds from maturities/calls of investment securities available-for-sale
14,248
48,464
Proceeds from maturities/calls of investment securities held-to-maturity
16,263
17,971
Proceeds from sales of investment securities available-for-sale
1,023
13,687
Purchases of investment securities available-for-sale
(17,652)
(127,526)
Purchases of investment securities held-to-maturity
(55,686)
(6,332)
Proceeds from sales of other real estate owned
-
6,222
Proceeds from disposal of fixed assets
Net decrease in FHLB stock
3,439
Net (increase)/decrease in loans
(126,707)
85,962
Purchases of loans
-
(68,944)
Purchase of wealth portfolio
-
(280)
Acquisition of mortgage company
(600)
-
Purchases of premises and equipment
(3,576)
(1,127)
Net cash used in investing activities
(172,404)
(28,425)
Financing activities
Net increase in deposits
101,359
47,008
Proceeds from issuance of common stock
Cash dividends paid on common stock
(3,986)
(3,891)
Net increase in short-term borrowings
6,866
8,539
Stock repurchase
-
(7,179)
Payments on long-term borrowings
-
(70,000)
Net cash provided by/(used in) financing activities
104,456
(25,308)
Decrease in cash and cash equivalents
(41,405)
(33,712)
Cash and cash equivalents at beginning of the year
115,720
149,432
Cash and cash equivalents at end of period
$
74,315
$
115,720
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Supplemental information
Interest paid
$
4,775
$
5,968
Taxes paid
$
7,508
$
5,657
Non-cash investing activities:
Transfers from loans to other real estate owned
$
$
-
Transfers from securities available for sale to held-to-maturity
$
139,036
$
-
See notes to consolidated financial statements
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First United Corporation and Subsidiaries
Notes to Consolidated Financial Statements
1. Summary of Significant Accounting Policies
Business
First United Corporation is a Maryland corporation chartered in 1985 and a financial holding company registered with the Board of Governors of the Federal Reserve System (the “FRB”) under the Bank Holding Company Act of 1956, as amended, that elected financial holding company status in 2021. The Corporation’s primary business is serving as the parent company of First United Bank & Trust, a Maryland trust company (the “Bank”), First United Statutory Trust I (“Trust I”) and First United Statutory Trust II (“Trust II” and together with Trust I, the “Trusts”), both Connecticut statutory business trusts, and First United Legacy Advisors, LLC, a Maryland limited liability company (“FULA”). The Trusts were formed for the purpose of selling trust preferred securities that qualified as Tier 1 capital. FULA was formed to provide investment advice and related services, but it is not yet active. The Bank has two consumer finance company subsidiaries - OakFirst Loan Center, Inc., a West Virginia corporation, and OakFirst Loan Center, LLC, a Maryland limited liability company - and two subsidiaries that it uses to hold real estate acquired through foreclosure or by deed in lieu of foreclosure - First OREO Trust, a Maryland statutory trust, and FUBT OREO I, LLC, a Maryland limited liability company. In addition, the Bank owns 99.9% of the limited partnership interests in Liberty Mews Limited Partnership, a Maryland limited partnership formed for the purpose of acquiring, developing and operating low-income housing units in Garrett County, Maryland (“Liberty Mews”), and a 99.9% non-voting membership interest in MCC FUBT Fund, LLC, an Ohio limited liability company formed for the purpose of acquiring, developing and operating low-income housing units in Allegany County, Maryland (the “MCC Fund”).
First United Corporation and its subsidiaries operate principally in four counties in Western Maryland and four counties in West Virginia.
As used in these Notes, the terms “the Corporation”, “we”, “us”, and “our” mean First United Corporation and, unless the context clearly suggests otherwise, its consolidated subsidiaries.
Basis of Presentation
The financial information is presented in accordance with generally accepted accounting principles and general practice for financial institutions in the United States of America (“GAAP”). All significant intercompany transactions and accounts have been eliminated. Certain reclassifications have been made to prior year amounts to conform with current year classifications. These reclassifications did not have a material impact on the Corporation’s consolidated financial condition or results of operations.
In preparing financial statements, management is required to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities as of the date of financial statements. In addition, these estimates and assumptions affect revenues and expenses in the financial statements and as such, actual results could differ from those estimates.
Material estimates that are particularly susceptible to change include: (1) the allowance for loan losses and (2) fair values of available for sale debt securities based on estimates from independent valuation services or from brokers.
Principles of Consolidation
The consolidated financial statements of the Corporation include the accounts of First United Corporation, the Bank, the OakFirst Loan Centers, First OREO Trust and FUBT OREO I, LLC. All significant inter-company accounts and transactions have been eliminated.
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Significant Concentrations of Credit Risk
Most of the Corporation’s relationships are with customers located in Western Maryland and Northeastern West Virginia. At December 31, 2022, approximately 6%, or $70.6 million, of total loans were secured by real estate acquisition, construction and development projects, with $70.4 million performing according to their contractual terms and $0.2 million considered to be impaired based on management’s concerns about the borrowers’ ability to comply with present repayment terms. The $0.2 million in impaired loans were all classified as troubled debt restructurings (“TDRs”) performing in accordance with their modified terms. There were no non-performing loans at December 31, 2022. Additionally, loans collateralized by commercial rental properties represented 21% of the total loan portfolio as of December 31, 2022. Note 5 discusses the types of securities in which the Corporation invests and Note 6 discusses the Corporation’s lending activities.
Investments
The investment portfolio is classified and accounted for based on the guidance of Accounting Standards Codification (“ASC”) Topic 320, Investments - Debt and Equity Securities. Securities bought and held principally for the purpose of selling them in the near term are classified as trading account securities and reported at fair value with unrealized gains and losses included in net gains/losses in other operating income. Securities purchased with the intent and ability to hold the securities to maturity are classified as held-to-maturity securities and are recorded at amortized cost. All other investment securities are classified as available-for-sale. These securities are held for an indefinite period of time and may be sold in response to changing market and interest rate conditions or for liquidity purposes as part of our overall asset/liability management strategy. Available-for-sale securities are reported at fair value, with unrealized gains and losses excluded from earnings and reported as a separate component of other comprehensive income included in the consolidated statement of comprehensive income, net of applicable income taxes.
The amortized cost of debt securities is adjusted for the amortization of premiums to the first call date, if applicable, or to maturity, and for the accretion of discounts to maturity, or, in the case of mortgage-backed securities, over the estimated life of the security. Such amortization and accretion is included in interest income from investments. Interest and dividends are included in interest income from investments. Gains and losses on the sale of securities are recorded using the specific identification method.
Management systematically evaluates securities for other than temporary impairment on a quarterly basis. Based upon application of accounting guidance for subsequent measurement in ASC Topic 320 (ASC Section 320-10-35) issued by the Financial Accounting Standards Board (“FASB”), management assesses whether (i) the Corporation has the intent to sell a security being evaluated and (ii) it is more likely than not that the Corporation will be required to sell the security prior to its anticipated recovery. If neither applies, then declines in the fair values of securities below their cost that are considered other-than-temporary declines are split into two components. The first is the loss attributable to declining credit quality. Credit losses are recognized in earnings as realized losses in the period in which the impairment determination is made. The second component consists of all other losses, which are recognized in other comprehensive loss. In estimating OTTI losses, management considers (a) the length of time and the extent to which the fair value has been less than cost, (b) adverse conditions specifically related to the security, an industry, or a geographic area, (c) the historic and implied volatility of the fair value of the security, (d) changes in the rating of the security by a rating agency, (e) recoveries or additional declines in fair value subsequent to the balance sheet date, (f) failure of the issuer of the security to make scheduled interest or principal payments, and (g) the payment structure of the debt security and the likelihood of the issuer being able to make payments that increase in the future. Management also monitors cash flow projections for securities that are considered beneficial interests under the guidance of ASC Subtopic 325-40, Investments - Other - Beneficial Interests in Securitized Financial Assets, (ASC Section 325-40-35).
Restricted Investment in Bank Stock
Restricted stock, which represents required investments in the common stock of the Federal Home Loan Bank (“FHLB”) of Atlanta, Atlantic Community Bankers Bank and Community Banker’s Bank, is carried at cost and is considered a long-term investment.
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Management evaluates the restricted stock for OTTI in accordance with ASC Topic 942, Financial Services - Depository and Lending (942-325-35). Management’s evaluation of potential impairment is based on its assessment of the ultimate recoverability of the cost of the restricted stock rather than by recognizing temporary declines in value. The determination of whether a decline affects the ultimate recoverability is influenced by criteria such as (i) the significance of the decline in net assets of the issuing bank as compared to the capital stock amount for that bank and the length of time this situation has persisted, (ii) commitments by the issuing bank to make payments required by law or regulation and the level of such payments in relation to the operating performance of that bank, and (iii) the impact of legislative and regulatory changes on institutions and, accordingly, on the customer base of the issuing bank. Management has evaluated the restricted stock for impairment and believes that no impairment charge is necessary as of December 31, 2022 or 2021.
The Corporation recognizes dividends on an accrual basis. For the years ended December 31, 2022 and December 31, 2021, dividends of $36,558 and $134,836, respectively, were recorded in other operating income.
Loans
Loans that management has the intent and ability to hold for the foreseeable future or until maturity or full repayment by the borrower are reported at their unpaid principal balance outstanding, adjusted for any deferred fees or costs pertaining to origination. Loans that management has the intent to sell are reported at the lower of cost or fair value determined on an individual basis. There were no loans held for sale at December 31, 2022, and $0.1 million loans were held for sale at December 31, 2021.
The segments of the Bank’s loan portfolio are disaggregated to a level that allows management to monitor risk and performance. The commercial real estate (“CRE”) loan segment is further disaggregated into two classes. Non-owner occupied CRE loans, which include loans secured by non-owner occupied nonfarm nonresidential properties, generally have a greater risk profile than all other CRE loans, which include loans secured by farmland, multifamily structures and owner-occupied commercial structures. The acquisition and development (“A&D”) loan segment is further disaggregated into two classes. One-to-four family residential construction loans are generally made to individuals for the acquisition of and/or construction on a lot or lots on which a residential dwelling is to be built. All other A&D loans are generally made to developers or investors for the purpose of acquiring, developing and constructing residential or commercial structures. These loans have a higher risk profile because the ultimate buyer, once development is completed, is generally not known at the time of the A&D loan. The commercial and industrial (“C&I”) loan segment consists of loans made for the purpose of financing the activities of commercial customers. The residential mortgage loan segment is further disaggregated into two classes: amortizing term loans, which are primarily first liens, and home equity lines of credit, which are generally second liens. The consumer loan segment consists primarily of installment loans (direct and indirect), student loans and overdraft lines of credit connected with customer deposit accounts.
Management uses a 10-point internal risk rating system to monitor the credit quality of the overall loan portfolio. The first six categories are considered not criticized and are aggregated as “Pass” rated. The criticized rating categories utilized by management generally follow bank regulatory definitions. The Special Mention category includes assets that are currently protected but are potentially weak, resulting in an undue and unwarranted credit risk, but not to the point of justifying a Substandard classification. Loans in the Substandard category have well-defined weaknesses that jeopardize the liquidation of the debt, and have a distinct possibility that some loss will be sustained if the weaknesses are not corrected. All loans greater than 90 days past due are considered Substandard. Only the portion of a specific allocation of the allowance for loan losses is associated with a pending event that could trigger loss in the short term is classified in the Doubtful category. It is possible for a loan to be classified as Substandard in the internal risk rating system, but not considered impaired under GAAP, due to the broader reach of “well-defined weaknesses” in the application of the Substandard definition.
Interest and Fees on Loans
Interest on loans (other than those on non-accrual status) is recognized based upon the principal amount outstanding. Loan fees in excess of the costs incurred to originate the loan are recognized as income over the life of the loan utilizing either the interest method or the straight-line method, depending on the type of loan. Generally, fees on loans
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with a specified maturity date, such as residential mortgages, are recognized using the interest method. Loan fees for lines of credit are recognized using the straight-line method.
A loan is considered to be past due when a payment has not been received for 30 days past its contractual due date. For all loan segments, the accrual of interest is discontinued when principal or interest is delinquent for 90 days or more unless the loan is well-secured and in the process of collection. All non-accrual loans are considered to be impaired. Interest payments received on non-accrual loans are applied as a reduction of the loan principal balance. Loans are returned to accrual status when all principal and interest amounts contractually due are brought current and future payments are reasonably assured.
Generally, consumer installment loans are not placed on non-accrual status, but are charged off after they are 120 days contractually past due. Loans other than consumer loans are charged-off based on an evaluation of the facts and circumstances of each individual loan.
Allowance for Loan Losses
An allowance for loan losses (“ALL”) is maintained to absorb losses from the loan portfolio. The ALL is based on management’s continuing evaluation of the risk characteristics and credit quality of the loan portfolio, assessment of current economic conditions, diversification and size of the portfolio, adequacy of collateral, past and anticipated loss experience, and the amount of non-performing loans.
The Corporation’s methodology for determining the ALL is based on the requirements of ASC Section 310-10-35, Receivables-Overall-Subsequent Measurement, for loans individually evaluated for impairment and ASC Subtopic 450-20, Contingencies-Loss Contingencies, for loans collectively evaluated for impairment, as well as the Interagency Policy Statements on the Allowance for Loan and Lease Losses and other bank regulatory guidance. The total of the two components represents the Bank’s ALL.
Management evaluates individual loans in all of the commercial segments for possible impairment if the loan is greater than $500,000 or is part of a relationship that is greater than $750,000 and (i) is either in non-accrual status or (ii) is risk-rated Substandard and is greater than 60 days past due. Loans are considered to be impaired when, based on current information and events, it is probable that the Bank will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in evaluating impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. The Bank does not separately evaluate individual consumer and residential mortgage loans for impairment, unless such loans are part of larger relationship that is impaired; otherwise loans in these segments are considered impaired when they are classified as non-accrual.
Once the determination has been made that a loan is impaired, the determination of whether a specific allocation of the allowance is necessary is measured by comparing the recorded investment in the loan to the fair value of the loan using one of three methods: (i) the present value of expected future cash flows discounted at the loan’s effective interest rate; (ii) the loan’s observable market price; or (iii) the fair value of the collateral less selling costs. The method is selected on a loan-by-loan basis, with management utilizing the fair value of collateral or the discounted cash flow method for the analyses. If the fair value of the collateral less selling costs method is utilized for collateral securing loans in the commercial segments, then an updated external appraisal is ordered on the collateral supporting the loan if the loan balance is greater than $500,000 and the existing appraisal is greater than 18 months old. If the loan balance is less than $500,000, then the estimated fair value of the collateral is determined by adjusting the existing appraisal by the appropriate percentage from an internally prepared appraisal discount grid. This grid considers the age of a third-party appraisal and the geographic region where the collateral is located in order to discount an appraisal. The discount rates in the appraisal discount grid are updated at least annually to reflect the most current knowledge that management has available, including the results of current appraisals. If there is a delay in receiving an updated appraisal or if the appraisal is found to be deficient in our internal appraisal review process and re-ordered, the Bank continues to use a discount factor from the appraisal discount
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grid based on the collateral location and current appraisal age in order to determine the estimated fair value. If the general market conditions in that geographic market have changed considerably, the property has deteriorated or perhaps lost an income stream, or a recent appraisal for a similar property indicates a significant change, then management may adjust the fair value indicated by the existing appraisal until a new appraisal is obtained. A specific allocation of the ALL is recorded if there is any deficiency in collateral value determined by comparing the estimated fair value to the recorded investment of the loan. When updated appraisals are received and reviewed, adjustments are made to the specific allocation as needed. An unallocated component is maintained to cover uncertainties that could affect Management’s estimate of probable incurred loss. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio. This estimate, if changed only several basis points, could vary by several hundred thousand dollars. Therefore, management believes some level of unallocated allowance should be maintained to account for this imprecision.
The evaluation of the need and amount of a specific allocation of the ALL and whether a loan can be removed from impairment status is made on a quarterly basis.
The Corporation maintains an ALL on unfunded commercial lending commitments and letters of credit to provide for the risk of loss inherent in these arrangements. The allowance is determined utilizing a methodology that is similar to that used to determine the ALL, modified to take into account the probability of a draw down on the commitment. This allowance is reported as a liability on the balance sheet within accrued interest payable and other liabilities. The balance in the liability account was $133,399 at December 31, 2022 and $117,685 at December 31, 2021.
Premises and Equipment
Land is carried at cost. Premises and equipment are carried at cost, less accumulated depreciation. The provision for depreciation for financial reporting has been made by using the straight-line method based on the estimated useful lives of the assets, which range from 10 to 31.5 years for buildings and 3 to 20 years for furniture and equipment.
Goodwill and Other Intangible Assets
Goodwill represents the excess purchase price paid over the fair value of the net assets acquired in a business combination. Goodwill is not amortized but is tested for impairment annually or more frequently if events or changes in circumstances indicate that the asset might be impaired. Impairment testing requires that the fair value of each of the Corporation’s reporting units be compared to the carrying amount of the reporting unit’s net assets, including goodwill. If the fair values of the reporting units exceed their book values, no write-down of recorded goodwill is required. If the fair value of a reporting unit is less than book value, an expense may be required to write-down the related goodwill to the proper carrying value. Any impairment would be realized through a reduction of goodwill or the intangible and an offsetting charge to non-interest expense. Annually, the Corporation performs an impairment test of goodwill as of December 31 of each year. During the year, any triggering event that occurs may affect goodwill and could require an impairment assessment. Determining the fair value of a reporting unit requires the Corporation to use a degree of subjectivity. The Corporation's annual impairment test of goodwill and other intangible assets did not identify any impairment.
Accounting guidance provides the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount.
Other intangible assets represent purchased assets that lack physical substance but can be distinguished from goodwill because of contractual or other legal rights or because the asset is capable of being sold or exchanged either on its own or in combination with a related contract, asset, or liability. Other intangible assets have finite lives and are reviewed for impairment annually. At December 31, 2022, other intangible assets included $0.8 million for the purchase of certain assets from a wealth company and $0.6 million for the purchase of certain assets of a mortgage company. These assets are amortized over their estimated useful lives either on a straight-line or sum-of-the-years basis over varying periods that initially did not exceed 5 years.
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Bank-Owned Life Insurance (“BOLI”)
BOLI policies are recorded at their cash surrender values. Changes in the cash surrender values are recorded as other operating income.
Other Real Estate Owned (“OREO”)
Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value less the cost to sell at the date of foreclosure, with any losses charged to the ALL, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Changes in the valuation allowance, sales gains and losses, and revenue and expenses from holding and operating properties are all included in net expenses from other real estate owned.
Income Taxes
First United Corporation and its subsidiaries file a consolidated federal income tax return. Income taxes are accounted for using the asset and liability method. Under the asset and liability method, the deferred tax liability or asset is determined based on the difference between the financial statement and tax bases of assets and liabilities (temporary differences) and is measured at the enacted tax rates that will be in effect when these differences reverse. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized. Deferred tax expense is determined by the change in the net liability or asset for deferred taxes adjusted for changes in any deferred tax asset valuation allowance, or reserve. This reserve was based on the portion of the tax asset for which it is more likely than not that a tax benefit will not be realized by the Corporation.
A tax provision is recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being realized on examinations for tax positions not meeting the “more likely than not” test, no tax benefit is recorded.
State corporate income tax returns are filed annually. Federal and state returns may be selected for examination by the Internal Revenue Service and the states where we file, subject to statutes of limitations. At any given point in time, the Corporation may have several years of filed tax returns that may be selected for examination or review by taxing authorities.
Interest and penalties on income taxes are recognized as a component of income tax expense.
Defined Benefit Plans
The defined benefit pension plan and supplemental executive retirement plan are accounted for in accordance with ASC Topic 715, Compensation - Retirement Benefits. Under the provisions of Topic 715, the defined benefit pension plan and the supplemental executive retirement plan are recognized as liabilities in the Consolidated Statement of Financial Condition, and unrecognized net actuarial losses, prior service costs and a net transition asset are recognized as a separate component of other comprehensive loss, net of tax. Actuarial gains and losses in excess of 10 percent of the greater of plan assets or the pension benefit obligation are amortized over a blend of future service of active employees and life expectancy of inactive participants. Refer to Note 16 for a further discussion of the pension plan and supplemental executive retirement plan obligations.
Statement of Cash Flows
Cash and cash equivalents are defined as cash and due from banks and interest-bearing deposits in banks in the Consolidated Statements of Cash Flows. Net cash flows are reported for customer loan and deposit transactions and interest-bearing deposits in banks.
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Trust Assets and Income
Assets held in an agency or fiduciary capacity are not the Bank’s assets and, accordingly, are not included in the Consolidated Statements of Financial Condition. Income from the Bank’s trust department represents fees charged to customers and recognized through revenue recognition. Refer to Note 22 for further discussion.
Business Segments
The Corporation operates in one segment, community banking, as defined by ASC Topic 280, Segment Reporting. The Corporation in its entirety is managed and evaluated on an ongoing basis by First United Corporation’s Board of Directors and executive management, with no division or subsidiary receiving separate analysis regarding performance or resource allocation.
Stock Repurchases
Under the Maryland General Corporation Law, shares of capital stock that are repurchased are cancelled and treated as authorized but unissued shares. When a share of capital stock is repurchased, the payment of the repurchase price reduces stated capital by the par value of that share (currently, $0.01 for common stock), and any excess over par value reduces capital surplus. The Corporation did not repurchase shares of common stock during 2022. In 2021, the Corporation repurchased 400,000 shares of common stock at a weighted average price of $17.95 per share.
Recent Accounting Pronouncements
Recently issued but not yet effective Accounting Pronouncements
In June 2016, the FASB issued Accounting Standards Update (“ASU”) 2016-13, Financial Instruments- Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. ASU 2016-13 introduces an approach based on expected losses to estimate credit losses on certain types of financial instruments. It also modifies the impairment model for available-for-sale debt securities and provides for a simplified accounting model for purchases financial assets with credit deterioration since their origination. The new model referred to as current expected credit losses (“CECL”) model, will apply to: (a) financial assets subject to credit losses and measured at amortized cost; and (b) certain off-balance sheet credit exposures. This includes loans, held to maturity debt securities, loan commitments, financial guarantees and net investments in leases as well as reinsurance and trade receivables. The estimate of expected credit losses should consider historical information, current information, and supportable forecasts, including estimates of prepayments. ASU 2016-13 was originally effective for SEC filers for annual periods beginning after December 15, 2019, and interim periods within those annual periods. In November 2019, the FASB approved a delay of the required implementation date of ASU No. 2016-13 for smaller reporting companies, as defined by the Securities and Exchange Commission, including the Corporation, resulting in a required implementation date for the Corporation of January 1, 2023. The Corporation has completed its data and model valuation analyses as well as parallel processing of current ALL and CECL calculation. The Corporation has largely completed its assessment of related processes, internal controls, and data sources and has developed, documented, and validated a discounted cash flows model utilizing a third-party software provider. The Corporation anticipates that the Corporation and the Bank will continue to be well capitalized after the negative impact resulting from the adoption of CECL.
In March 2020, the FASB issued ASU No. 2020-04, “Reference Rate Reform (Topic 848).” The ASU provides optional expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions affected by reference rate reform if certain criteria are met. The amendment only applies to contracts, hedging relationships, and other transactions that reference LIBOR or another reference rate expected to be discontinued because of the reference rate reform. The ASU is effective as of March 12, 2020 through December 31, 2022. The Corporation is in the process of evaluating the impact of this standard on the loan portfolio, investment portfolio, long term debt and interest rate swaps, but believes that its adoption will not have a material impact on the Corporation’s financial condition or results of operations.
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In March 2022, the FASB issued ASU 2022-02, Financial Instruments-Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures. ASU 2022-02 made certain targeted amendments specific to troubled debt restructurings (TDRs) by creditors and vintage disclosure related to gross write-offs. Upon adoption, the Corporation will be required to apply the loan and refinancing and restructuring guidance to determine whether a modification results in a new loan or a continuation of an existing loan, rather than applying the recognition and measurement guidance for TDRs. The ASU also requires companies to disclose current-period gross write-offs by year of origination for financing receivables and net investment in leases within scope of Subtopic 326-20. ASU 2022-02 is effective March 31, 2023, for entities that have adopted ASU 2016-13, otherwise effective date is the same as ASU 2016-13. The Corporation’s current plan is to adopt ASU 2016-13 effective January 1, 2023 at which time it will also implement ASU 2022-02. The Corporation has determined that ASU 2022-02 will have minimal impact to its financial condition or results of operations.
2. Earnings Per Common Share
Basic earnings per common share is derived by dividing net income available to common shareholders by the weighted-average number of common shares outstanding during the period and does not include the effect of any potentially dilutive common stock equivalents. Diluted earnings per share is derived by dividing net income available to common shareholders by the weighted-average number of shares outstanding, adjusted for the dilutive effect of outstanding common stock equivalents. There were no anti-dilutive shares at December 31, 2022 or 2021.
The following table sets forth the calculation of basic and diluted earnings per common share for the years ended December 31, 2022 and 2021:
Average
Per Share
Average
Per Share
(in thousands, except for per share amount)
Income
Shares
Amount
Income
Shares
Amount
Basic Earnings Per Share:
Net income
$
25,048
6,650
$
3.77
$
19,770
6,710
$
2.95
Diluted Earnings Per Share:
Restricted stock units
Net income
$
25,048
6,661
$
3.76
$
19,770
6,717
$
2.95
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3. Net Gains
The following table summarizes the gain/(loss) activity for the years ended December 31, 2022 and 2021:
(in thousands)
Net gains/(losses):
Available-for-sale securities:
Realized gains from sales and calls
$
$
Realized losses
-
(216)
Held-to-Maturity:
Realized gains on calls
-
Realized losses
-
(54)
Gains on sale of loans held for sale
1,115
Gain on disposal of fixed assets
Net gains
$
$
1,230
4. Regulatory Capital Requirements
Banks and holding companies are subject to regulatory capital requirements administered by federal banking agencies. Capital adequacy guidelines and, additionally for banks, prompt corrective action regulations, involve quantitative measures of assets, liabilities, and certain off-balance sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators. Failure to meet capital requirements can initiate regulatory action. The net unrealized gain or loss on available for sale securities is included in computing regulatory capital. Management believes that, as of December 31, 2022, the Corporation and Bank met all capital adequacy requirements to which they are subject.
Prompt corrective action regulations provide five classifications: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are not used to represent overall financial condition. If adequately capitalized, regulatory approval is required to accept brokered deposits. If undercapitalized, capital distributions are limited, as is asset growth and expansion, and capital restoration plans are required. As of December 31, 2022, the most recent regulatory notification categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed the Bank’s category.
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The following table presents First United Bank & Trust’s capital ratios for years ended December 31, 2022 and 2021:
Actual
For Capital Adequacy
Purposes
To Be Well Capitalized
Under Prompt Corrective
Action Provisions
(in thousands)
Amount
Ratio
Amount
Ratio
Amount
Ratio
December 31, 2022
Total Capital (to risk-weighted assets)
196,442
14.37%
109,396
8.00%
136,745
10.00%
Tier 1 Capital (to risk-weighted assets)
181,673
13.29%
82,047
6.00%
109,396
8.00%
Common Equity Tier 1 Capital (to risk-weighted assets)
181,673
13.29%
61,535
4.50%
88,884
6.50%
Tier 1 Capital (to average assets)
181,673
10.01%
72,354
4.00%
90,443
5.00%
Actual
For Capital Adequacy
Purposes
To Be Well Capitalized
Under Prompt Corrective
Action Provisions
(in thousands)
Amount
Ratio
Amount
Ratio
Amount
Ratio
December 31, 2021
Total Capital (to risk-weighted assets)
187,029
14.97%
99,986
8.00%
124,983
10.00%
Tier 1 Capital (to risk-weighted assets)
171,404
13.72%
74,990
6.00%
99,986
8.00%
Common Equity Tier 1 Capital (to risk-weighted assets)
171,404
13.72%
56,242
4.50%
81,239
6.50%
Tier 1 Capital (to average assets)
171,404
10.00%
68,167
4.00%
85,209
5.00%
Federal and state banking regulations place certain restrictions on the amount of dividends paid and loans or advances made by the Bank to First United Corporation. The total amount of dividends that may be paid at any date is generally limited to the retained earnings of the Bank, and loans or advances are limited to 10% of the Bank’s capital stock and surplus on a secured basis. In addition, dividends paid by the Bank to First United Corporation would be prohibited if the effect thereof would cause the Bank’s capital to be reduced below applicable minimum capital requirements.
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5. Investment Securities
The following table shows a comparison of amortized cost and fair values of investment securities at December 31, 2022 and 2021:
(in thousands)
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
OTTI
in AOCL
December 31, 2022
Available for Sale:
U.S. government agencies
$
11,044
$
-
$
1,582
$
9,462
$
-
Residential mortgage-backed agencies
45,052
-
7,651
37,401
-
Commercial mortgage-backed agencies
37,393
-
6,661
30,732
-
Collateralized mortgage obligations
25,828
-
4,784
21,044
-
Obligations of states and political subdivisions
10,848
10,492
-
Corporate Bonds
1,000
-
-
Collateralized debt obligations
18,664
-
2,793
15,871
(1,695)
Total available for sale
$
149,829
$
$
23,944
$
125,889
$
(1,695)
(in thousands)
Amortized
Cost
Gross
Unrecognized
Gains
Gross
Unrecognized
Losses
Fair
Value
OTTI
in AOCL
December 31, 2022
Held to Maturity:
U.S. treasuries
$
37,204
$
-
$
1,593
$
35,611
$
-
U.S. government agencies
67,734
-
13,261
54,473
-
Residential mortgage-backed agencies
28,624
3,503
25,122
-
Commercial mortgage-backed agencies
22,389
-
4,568
17,821
-
Collateralized mortgage obligations
57,085
-
10,001
47,084
-
Obligations of states and political subdivisions
22,623
22,969
-
Total held to maturity
$
235,659
$
$
33,526
$
203,080
$
-
(in thousands)
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
OTTI
in AOCL
December 31, 2021
Available for Sale:
U.S. government agencies
$
69,602
$
$
2,499
$
67,169
$
-
Residential mortgage-backed agencies
49,630
-
48,661
-
Commercial mortgage-backed agencies
51,694
1,001
50,868
-
Collateralized mortgage obligations
93,018
3,025
90,077
-
Obligations of states and political subdivisions
12,439
12,804
-
Collateralized debt obligations
18,609
1,529
17,192
(660)
Total available for sale
$
294,992
$
$
9,029
$
286,771
$
(660)
(in thousands)
Amortized
Cost
Gross
Unrecognized
Gains
Gross
Unrecognized
Losses
Fair
Value
OTTI
in AOCL
December 31, 2021
Held to Maturity:
Residential mortgage-backed agencies
$
30,634
$
$
$
30,847
$
-
Commercial mortgage-backed agencies
5,456
-
5,601
-
Obligations of states and political subdivisions
20,169
8,752
-
28,921
-
Total held to maturity
$
56,259
$
9,546
$
$
65,369
$
-
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Proceeds from sales of available-for-sale securities and the realized gains and losses for the years ended December 31, 2022 and 2021 are as follows:
(in thousands)
Proceeds
$
1,023
$
13,687
Gross realized gains
Gross realized losses
-
The following table shows the Corporation’s securities with gross unrealized and unrecognized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized position, at December 31, 2022 and 2021:
Less than 12 months
12 months or more
(in thousands)
Fair
Value
Unrealized
Losses
Number of
Investments
Fair
Value
Unrealized
Losses
Number of
Investments
December 31, 2022
Available for Sale:
U.S. government agencies
$
4,598
$
$
4,865
$
1,180
Residential mortgage-backed agencies
-
-
-
37,401
7,651
Commercial mortgage-backed agencies
4,044
26,688
6,206
Collateralized mortgage obligations
1,600
19,444
4,574
Obligations of states and political subdivisions
8,906
-
-
-
Corporate Bonds
-
-
-
Collateralized debt obligations
-
-
-
15,871
2,793
Total available for sale
$
20,035
$
1,540
$
104,269
$
22,404
Less than 12 months
12 months or more
(in thousands)
Fair
Value
Unrealized
Losses
Number of
Investments
Fair
Value
Unrealized
Losses
Number of
Investments
December 31, 2022
Held to Maturity:
U.S. treasuries
$
-
$
-
-
$
35,611
$
1,593
U.S. government agencies
38,883
9,617
15,591
3,644
Residential mortgage-backed agencies
16,893
1,425
8,138
2,078
Commercial mortgage-backed agencies
17,821
4,568
-
-
-
Collateralized mortgage obligations
47,083
10,001
-
-
-
Obligations of states and political subdivisions
2,269
-
-
-
Total held to maturity
$
122,949
$
26,211
$
59,340
$
7,315
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Less than 12 months
12 months or more
(in thousands)
Fair
Value
Unrealized
Losses
Number of
Investments
Fair
Value
Unrealized
Losses
Number of
Investments
December 31, 2021
Available for Sale:
U.S. government agencies
$
23,577
$
$
33,972
$
2,377
Residential mortgage-backed agencies
29,507
19,154
Commercial mortgage-backed agencies
32,177
5,211
Collateralized mortgage obligations
24,322
43,076
2,376
Obligations of states and political subdivisions
3,046
-
-
-
Collateralized debt obligations
-
-
-
10,468
1,529
Total available for sale
$
112,629
$
1,821
$
111,881
$
7,208
Less than 12 months
12 months or more
(in thousands)
Fair
Value
Unrecognized
Losses
Number of
Investments
Fair
Value
Unrecognized
Losses
Number of
Investments
December 31, 2021
Held to Maturity:
Residential mortgage-backed agencies
$
7,395
$
$
2,782
$
Total held to maturity
$
7,395
$
$
2,782
$
Management systematically evaluates securities for impairment on a quarterly basis. Based upon application of Accounting Standards Codification (“ASC”) Topic 320 (Section 320-10-35) issued by the Financial Accounting Standards Board (the “FASB”), management must assess whether (i) the Corporation has the intent to sell the security and (ii) it is more likely than not that the Corporation will be required to sell the security prior to its anticipated recovery. If neither applies, then declines in the fair value of securities below their cost that are considered other-than-temporary declines are split into two components. The first is the loss attributable to declining credit quality. Credit losses are recognized in earnings as realized losses in the period in which the impairment determination is made. The second component consists of all other losses. The other losses are recognized in other comprehensive income. In estimating OTTI charges, management considers (a) the length of time and the extent to which the fair value has been less than cost, (b) adverse conditions specifically related to the security, an industry, or a geographic area, (c) the historic and implied volatility of the security, (d) changes in the rating of a security by a rating agency, (e) recoveries or additional declines in fair value subsequent to the balance sheet date, (f) failure of the issuer of the security to make scheduled interest payments, and (g) the payment structure of the debt security and the likelihood of the issuer being able to make payments that increase in the future. Due to the duration and the significant market value decline in the pooled trust preferred securities held in our portfolio, we performed more extensive testing on these securities for purposes of evaluating whether or not an OTTI has occurred. Management has concluded that no OTTI occurred for the years ended December 31, 2022 and 2021.
The following table presents a cumulative roll-forward of the amount of OTTI charges related to credit losses which have been recognized in earnings for the trust preferred securities in the CDO portfolio held and not intended to be sold for the years ended December 31, 2022 and 2021:
(in thousands)
Balance of credit-related OTTI at January 1
$
2,043
$
2,244
Reduction for increases in cash flows expected to be collected
(202)
(201)
Balance of credit-related OTTI at December 31
$
1,841
$
2,043
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The amortized cost and estimated fair value of securities by contractual maturity at December 31, 2022 are shown in the following table. Actual maturities will differ from contractual maturities because the issuers of the securities may have the right to call or prepay obligations with or without call or prepayment penalties.
(in thousands)
Amortized
Cost
Fair
Value
Contractual Maturity
Available for sale:
Due in one year or less
$
$
Due after one year through five years
11,964
11,018
Due after five years through ten years
1,895
1,778
Due after ten years
27,357
23,576
41,556
36,712
Residential mortgage-backed agencies
45,052
37,401
Commercial mortgage-backed agencies
37,393
30,732
Collateralized mortgage obligations
25,828
21,044
Total available for sale
$
149,829
$
125,889
Held to Maturity:
Due after one year through five years
$
49,704
$
46,857
Due after five years through ten years
$
33,022
$
26,825
Due after ten years
$
44,835
$
39,371
127,561
113,053
Residential mortgage-backed agencies
28,624
25,122
Commercial mortgage-backed agencies
22,389
17,821
Collateralized mortgage obligations
57,085
47,084
Total held to maturity
$
235,659
$
203,080
At December 31, 2022 and 2021, investment securities with a fair value of $209.8 million and $158.7 million, respectively, were pledged as permitted or required to secure public deposits, for securities sold under agreements to repurchase as required or permitted by law and as collateral for borrowing capacity.
6. Loans and Related Allowance for Loan Losses
The following table summarizes the primary segments of the loan portfolio as of December 31, 2022 and December 31, 2021:
(in thousands)
Commercial
Real Estate
Acquisition
and
Development
Commercial
and
Industrial
Residential
Mortgage
Consumer
Total
December 31, 2022
Individually evaluated for impairment
$
2,262
$
$
-
$
3,880
$
-
$
6,498
Collectively evaluated for impairment
$
456,569
$
70,240
$
245,396
$
440,531
$
60,260
$
1,272,996
Total loans
$
458,831
$
70,596
$
245,396
$
444,411
$
60,260
$
1,279,494
December 31, 2021
Individually evaluated for impairment
$
2,365
$
$
$
2,644
$
-
$
5,728
Collectively evaluated for impairment
$
371,926
$
127,448
$
180,886
$
402,042
$
65,657
$
1,147,959
Total loans
$
374,291
$
128,077
$
180,976
$
404,686
$
65,657
$
1,153,687
In the ordinary course of business, executive officers and directors of the Corporation, including their families and companies in which certain directors are principal owners, were loan customers of the Bank. Changes in the dollar amount of loans outstanding to officers, directors and their associates were as follows for the year ended December 31:
(in thousands)
Balance at January 1
$
3,712
Loans or advances
Repayments
(810)
Balance at December 31
$
3,302
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The following table presents the classes of the loan portfolio summarized by the aggregate Pass and the criticized categories of Special Mention and Substandard. There were no loans classified as Doubtful within the internal risk rating system as of December 31, 2022 and 2021:
(in thousands)
Pass
Special
Mention
Substandard
Total
December 31, 2022
Commercial real estate
Non owner-occupied
$
251,834
$
6,289
$
11,935
$
270,058
All other CRE
183,075
1,111
4,587
188,773
Acquisition and development
1-4 family residential construction
19,637
-
-
19,637
All other A&D
50,813
-
50,959
Commercial and industrial
220,957
5,027
19,412
245,396
Residential mortgage
Residential mortgage - term
378,334
-
6,053
384,387
Residential mortgage - home equity
59,369
-
60,024
Consumer
60,121
-
60,260
Total
$
1,224,140
$
12,427
$
42,927
$
1,279,494
December 31, 2021
Commercial real estate
Non owner-occupied
$
173,299
$
12,987
$
6,077
$
192,363
All other CRE
174,395
2,357
5,176
181,928
Acquisition and development
1-4 family residential construction
19,924
-
-
19,924
All other A&D
107,532
108,153
Commercial and industrial
161,429
5,071
14,476
180,976
Residential mortgage
Residential mortgage - term
338,832
-
5,624
344,456
Residential mortgage - home equity
59,533
-
60,230
Consumer
65,557
-
65,657
Total
$
1,100,501
$
20,633
$
32,553
$
1,153,687
Management further monitors the performance and credit quality of the loan portfolio by analyzing the age of the portfolio as determined by the length of time a recorded payment is past due.
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The following table presents the classes of the loan portfolio at December 31, 2022 and December 31, 2021, summarized by the aging categories of performing loans and non-accrual loans.
(in thousands)
Current
30-59 Day
Past Due
60-89 Days
Past Due
90 Days+
Past Due
Total
Past Due
and still
accruing
Non-
Accrual
Total Loans
December 31, 2022
Commercial real estate
Non owner-occupied
$
269,971
$
-
$
-
$
-
$
-
$
$
270,058
All other CRE
188,715
-
-
-
-
188,773
Acquisition and development
1-4 family residential construction
19,637
-
-
-
-
-
19,637
All other A&D
50,813
-
-
-
-
50,959
Commercial and industrial
245,342
-
-
-
245,396
Residential mortgage
Residential mortgage - term
380,502
2,893
384,387
Residential mortgage - home equity
59,223
60,024
Consumer
59,789
-
60,260
Total
$
1,273,992
$
$
$
$
2,007
$
3,495
$
1,279,494
December 31, 2021
Commercial real estate
Non owner-occupied
$
192,363
$
-
$
-
$
-
$
-
$
-
$
192,363
All other CRE
181,847
-
-
-
-
181,928
Acquisition and development
1-4 family residential construction
19,924
-
-
-
-
-
19,924
All other A&D
107,763
-
-
-
-
108,153
Commercial and industrial
180,676
-
180,976
Residential mortgage
Residential mortgage - term
340,429
2,222
2,529
1,498
344,456
Residential mortgage - home equity
59,485
-
60,230
Consumer
65,208
-
65,657
Total
$
1,147,695
$
$
2,433
$
$
3,530
$
2,462
$
1,153,687
Non-accrual loans that have been subject to partial charge-offs totaled $0.1 million at December 31, 2022 and $0.5 million at December 31, 2021. There were no loans secured by 1-4 family residential real estate properties in the process of foreclosure at December 31, 2022. Loans secured by 1-4 family residential real estate properties in the process of foreclosure totalled $0.2 million at December 31, 2021. Management continues to conform to federal and state mandates relative to the foreclosure processes for both Federal Backed and Non-Federal Backed mortgages. As a percentage of the loan portfolio, accruing loans past due 30 days or more decreased to 0.16% at December 31, 2022 compared to 0.31% at December 31, 2021.
The ALL is maintained to absorb losses from the loan portfolio. The ALL is based on management’s continuing evaluation of the risk characteristics and credit quality of the loan portfolio, assessment of current economic conditions, diversification and size of the portfolio, adequacy of collateral, past and anticipated loss experience, and the amount of non-performing loans.
The Bank’s methodology for determining the ALL is based on the requirements of ASC Section 310-10-35, Receivables-Overall-Subsequent Measurement, for loans individually evaluated for impairment and ASC Subtopic 450-20, Contingencies-Loss Contingencies, for loans collectively evaluated for impairment, as well as the Interagency
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Policy Statements on the Allowance for Loan and Lease Losses and other bank regulatory guidance. The total of the two components represents the Bank’s ALL.
(in thousands)
Commercial
Real Estate
Acquisition
and
Development
Commercial
and
Industrial
Residential
Mortgage
Consumer
Unallocated
Total
December 31, 2022
Individually evaluated for impairment
$
-
$
-
$
-
$
$
-
$
-
$
Collectively evaluated for impairment
$
6,345
$
$
2,845
$
3,134
$
$
$
14,610
Total ALL
$
6,345
$
$
2,845
$
3,160
$
$
$
14,636
December 31, 2021
Individually evaluated for impairment
$
-
$
-
$
$
$
-
$
-
$
Collectively evaluated for impairment
$
6,032
$
2,615
$
2,432
$
3,448
$
$
$
15,891
Total ALL
$
6,032
$
2,615
$
2,460
$
3,484
$
$
$
15,955
The evaluation of the need and amount of a specific allocation of the ALL and whether a loan can be removed from impairment status is made on a quarterly basis.
The following table presents impaired loans by class, at December 31, 2022 and December 31, 2021, segregated by those for which a specific allowance was required and those for which a specific allowance was not necessary:
Impaired Loans
with Specific Allowance
Impaired Loans
with No Specific
Allowance
Total Impaired Loans
(in thousands)
Recorded
Investment
Related
Allowances
Recorded
Investment
Recorded
Investment
Unpaid
Principal
Balance
December 31, 2022
Commercial real estate
Non owner-occupied
$
-
$
-
$
$
$
-
All other CRE
-
-
2,075
2,075
-
Acquisition and development
1-4 family residential construction
-
-
-
All other A&D
-
-
Residential mortgage
Residential mortgage - term
3,225
3,570
Residential mortgage - home equity
-
-
-
Consumer
-
-
-
-
-
Total impaired loans
$
$
$
6,153
$
6,498
$
December 31, 2021
Commercial real estate
Non owner-occupied
$
-
$
-
$
$
$
All other CRE
-
-
2,259
2,259
2,259
Acquisition and development
1-4 family residential construction
-
-
All other A&D
-
-
1,599
Commercial and industrial
-
2,304
Residential mortgage
Residential mortgage - term
1,897
2,241
2,302
Residential mortgage - home equity
Consumer
-
-
-
-
-
Total impaired loans
$
$
$
5,248
$
5,728
$
9,231
Loans that are collectively evaluated for impairment are analyzed with general allowances being made as appropriate. For general allowances, historical loss trends are used in the estimation of losses in the current portfolio. These historical loss amounts are modified by other qualitative factors.
The classes described above, which are based on the Federal call code assigned to each loan, provide the starting point for the ALL analysis. Management tracks the historical net charge-off activity (full and partial charge-offs, net of full and partial recoveries) at the call code level. A historical charge-off factor is calculated utilizing a defined number of consecutive historical quarters. Consumer pools currently utilize a rolling twelve quarters, while Commercial pools currently utilize a rolling eight quarters.
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“Pass” rated credits are segregated from “Criticized” credits for the application of qualitative factors. The un-criticized (“pass”) pools for commercial and residential real estate are further segmented based upon the geographic location of the underlying collateral. There are seven geographic regions utilized - six that represent the Bank’s lending footprint and a seventh for all out-of-market credits. Different economic environments and resultant credit risks exist in each region that are acknowledged in the assignment of qualitative factors. Loans in the criticized pools, which possess certain qualities or characteristics that may lead to collection and loss issues, are closely monitored by management and subject to additional qualitative factors.
Management supplements the historical charge-off factor with a number of additional qualitative factors that are likely to cause estimated credit losses associated with the existing loan pools to differ from historical loss experience. The additional factors, which are evaluated quarterly and updated using information obtained from internal, regulatory, and governmental sources, are: (i) national and local economic trends and conditions; (ii) levels of and trends in delinquency rates and non-accrual loans; (iii) trends in volumes and terms of loans; (iv) effects of changes in lending policies; (v) experience, ability, and depth of lending staff; (vi) value of underlying collateral; and (vii) concentrations of credit from a loan type, industry and/or geographic standpoint.
Management reviews the loan portfolio on a quarterly basis using a defined, consistently applied process in order to make appropriate and timely adjustments to the ALL. When information confirms all or part of specific loans to be uncollectible, these amounts are promptly charged off against the ALL. Residential mortgage and consumer loans are charged off after they are 120 days contractually past due. All other loans are charged off based on an evaluation of the facts and circumstances of each individual loan. When the Bank believes that its ability to collect is solely dependent on the liquidation of the collateral, a full or partial charge-off is recorded promptly to bring the recorded investment to an amount that the Bank believes is supported by an ability to collect on the collateral. The circumstances that may impact the Bank’s decision to charge-off all or a portion of a loan include default or non-payment by the borrower, scheduled foreclosure actions, and/or prioritization of the Bank’s claim in bankruptcy. There may be circumstances where due to pending events, the Bank will place a specific allocation of the ALL on a loan for which a partial charge-off has been previously recognized. This specific allocation may be either charged-off or removed depending upon the outcome of the pending event. Full or partial charge-offs are not recovered until full principal and interest on the loan have been collected, even if a subsequent appraisal supports a higher value. In most cases, loans with partial charge-offs remain in non-accrual status. Both full and partial charge-offs reduce the recorded investment of the loan and the ALL and are considered to be charge-offs for purposes of all credit loss metrics and trends, including the historical rolling charge-off rates used in the determination of the ALL.
Activity in the ALL is presented for the years ended December 31, 2022 and December 31, 2021:
(in thousands)
Commercial
Real Estate
Acquisition
and
Development
Commercial
and
Industrial
Residential
Mortgage
Consumer
Unallocated
Total
ALL balance at January 1, 2022
$
6,032
$
2,615
$
2,460
$
3,484
$
$
$
15,955
Charge-offs
-
(20)
(134)
(46)
(921)
-
(1,121)
Recoveries
-
Provision (credit)
(1,638)
(462)
-
(643)
ALL balance at December 31, 2022
$
6,345
$
$
2,845
$
3,160
$
$
$
14,636
ALL balance at January 1, 2021
$
5,543
$
2,339
$
2,584
$
5,150
$
$
$
16,486
Charge-offs
(14)
(85)
(2)
(141)
(396)
-
(638)
Recoveries
-
-
Provision (credit)
(635)
(1,591)
(70)
(817)
ALL balance at December 31, 2021
$
6,032
$
2,615
$
2,460
$
3,484
$
$
$
15,955
The ALL is based on estimates, and actual losses will vary from current estimates. The granularity of the homogeneous pools and the related historical loss ratios and other qualitative factors, as well as the consistency in the
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application of assumptions, result in an ALL that is representative of the risk found in the components of the portfolio at any given date.
The following table presents the average recorded investment in impaired loans and related interest income recognized for the years ended December 31, 2022 and 2021:
(in thousands)
Average
investment
Interest income
recognized on
an accrual basis
Interest income
recognized on
a cash basis
Average
investment
Interest income
recognized on
an accrual basis
Interest income
recognized on
a cash basis
Commercial real estate
Non owner-occupied
$
$
$
-
$
2,836
$
$
-
All other CRE
2,166
-
2,840
Acquisition and development
1-4 family residential construction
-
-
All other A&D
-
-
-
Commercial and industrial
-
-
-
-
Residential mortgage
Residential mortgage - term
2,423
2,561
Residential mortgage - home equity
-
-
-
-
Consumer
-
-
-
Total
$
5,613
$
$
$
9,517
$
$
In the normal course of business, the Bank modifies loan terms for various reasons. These reasons may include as a retention strategy to compete in the current interest rate environment, and to re-amortize or extend a loan term to better match the loan’s payment stream with the borrower’s cash flows. A modified loan is considered to be a TDR when the Bank has determined that the borrower is troubled (i.e. experiencing financial difficulties) and a concession has been granted. The Bank evaluates the probability that the borrower will be in payment default on any of its debt in the foreseeable future without modification. To make this determination, the Bank performs a global financial review of the borrower and loan guarantors to assess their current ability to meet their financial obligations.
When the Bank restructures a loan to a troubled borrower, the loan terms (i.e. interest rate, payment, amortization period and/or maturity date) are modified in such a way to enable the borrower to cover the modified debt service payments based on current financials and cash flow adequacy. If a borrower’s hardship is thought to be temporary, then modified terms are only offered for that time period. Where possible, the Bank obtains additional collateral and/or secondary payment sources at the time of the restructure in order to put the Bank in the best possible position if the borrower is not able to meet the modified terms. To date, the Bank has not forgiven any principal as a restructuring concession. The Bank will not offer modified terms if it believes that modifying the loan terms will only delay an inevitable permanent default.
All loans designated as TDRs are considered impaired loans and may be in either accruing or non-accruing status. If the loan was accruing at the time of the modification, then it continues to be in accruing status subsequent to the modification. Non-accrual TDRs may return to accruing status when there has been sufficient payment performance for a period of at least six months. TDRs are considered to be in payment default if, subsequent to modification, the loans are transferred to non-accrual status or to foreclosure. A loan may be removed from being reported as a TDR in the calendar year following the modification if the interest rate at the time of modification was consistent with the interest rate for a loan with comparable credit risk and the loan has performed according to its modified terms for at least six months. Further, a loan that has been removed from TDR reporting status and has been subsequently re-modified at standard market terms, may be removed from impaired status as well.
The volume, type and performance of TDR activity is considered in the assessment of the local economic trend qualitative factor used in the determination of the ALL for loans that are evaluated collectively for impairment.
There were 12 loans totaling $3.0 million and 12 loans totaling $3.3 million that were classified as TDRs at December 31, 2022 and December 31, 2021, respectively. The following table presents the volume and recorded
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investment at the time of modification of TDRs by class and type of modification that occurred during the periods indicated:
Temporary Rate
Modification
Extension of Maturity
Modification of Payment
and Other Terms
(Dollars in thousands)
Number of
Contracts
Recorded
Investment
Number of
Contracts
Recorded
Investment
Number of
Contracts
Recorded
Investment
For the year ended December 31, 2022
Commercial real estate
Non owner-occupied
-
$
-
-
$
-
-
$
-
Acquisition and development
All other A&D
-
-
-
-
-
-
Residential mortgage
Residential mortgage - term
-
-
-
-
Total
$
-
$
-
-
$
-
For the year ended December 31, 2021
Commercial real estate
Non owner-occupied
-
$
-
$
-
$
-
Acquisition and development
All other A&D
-
-
-
-
Residential mortgage
Residential mortgage - term
-
-
-
-
Total
-
$
-
$
-
$
-
During the years ended December 31, 2022 and 2021, there were no payment defaults. Also, there were no additional funds committed to be advanced in connection with TDRs at December 31, 2022 or 2021.
7. Other Real Estate Owned
The following table presents the components of OREO, net of related valuation allowance, as of December 31, 2022 and 2021:
(in thousands)
Acquisition and development
$
4,670
$
4,477
Residential mortgage
-
Total OREO
$
4,733
$
4,477
The following table presents the activity in the OREO valuation allowance for the years ended December 31, 2022 and 2021:
(in thousands)
Balance January 1
$
$
1,010
Fair value write-down
-
Sales of OREO
-
(616)
Balance December 31
$
$
The following table presents the components of OREO expenses, net, for the years ended December 31, 2022 and 2021:
(in thousands)
Gains on real estate, net
$
-
$
(1,372)
Fair value write-down
-
Expenses, net
Rental and other income
(5)
(52)
Total OREO expenses/(income), net
$
$
(945)
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8. Premises and Equipment
The following table presents the components of premises and equipment at December 31, 2022 and 2021:
(in thousands)
Land
$
7,753
$
6,953
Land Improvements
1,548
1,499
Premises
35,972
34,685
Furniture and Equipment
20,117
18,925
65,390
62,062
Less accumulated depreciation
(30,442)
(27,365)
Total
$
34,948
$
34,697
The Corporation recorded depreciation expense of $3.1 million and $3.3 million for the years ended December 31, 2022 and 2021, respectively.
9. Leases
Substantially all of the leases in which the Corporation is the lessee are comprised of real estate property for branches, ATM locations, and office equipment with terms extending through 2030. All of the Corporation’s leases are classified as operating leases. The present value of lease payments is reported as a lease liability and right of use asset on the Corporation’s Consolidated Statement of Financial Condition.
The following table represents the Consolidated Statements of Financial Condition classification of the Corporation’s right-of-use assets and lease liabilities. The Corporation elected not to include short-term leases (i.e., leases with remaining terms of 12 months or less), or equipment leases that were deemed immaterial on the Consolidated Statement of Financial Condition.
(in thousands)
December 31, 2022
December 31, 2021
Lease Right-of Use Assets
Operating lease right-of-use assets
$
1,898
$
2,247
Lease Liabilities
Operating lease liabilities
$
2,373
$
2,761
In calculating the present value of the lease payments, the Corporation has utilized its incremental borrowing rate based on electing the original lease term to account for each lease component.
The following table presents the weighted-average lease term and discount rate for operating leases at December 31, 2022:
December 31, 2022
December 31, 2021
Weighted-average remaining lease term
Operating leases
6.17 years
6.89 years
Weighted-average discount rate
Operating leases
5.00%
5.03%
The Corporation elected, for all classes of underlying assets, to separate lease and non-lease components. Total operating lease expense was $0.5 million for each of the years ended December 31, 2022 and December 31, 2021. Short-term lease expense was $20 thousand for the year ended December 31, 2022 and December 31, 2021.
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Future minimum payments for operating leases with initial or remaining terms of one year or more at December 31, 2022 were as follows:
(in thousands)
Amount
$
Thereafter
Total future minimum lease payments
2,779
Amounts representing interest
(406)
Present value of net future minimum lease payments
$
2,373
10. Deposits
Time deposits that exceed the FDIC insurance limit of $250,000 at December 31, 2022 and 2021 were $37.5 million and $44.6 million, respectively. At December 31, 2022 and 2021, $0.3 million and $0.9 million, respectively, of deposit overdrafts were re-classified as loans.
The following is a summary of the scheduled maturities of all time deposits maturing within years ended December 31:
(In thousands)
Amount
$
72,972
31,266
14,036
1,715
Thereafter
Total
$
120,523
In the ordinary course of business, executive officers and directors of the Corporation, including their families and companies in which certain directors are principal owners, were deposit customers of the Bank. At December 31, 2022, executive officers and directors had approximately $14.0 million in deposits with the Bank compared to $11.4 million at December 31, 2021.
11. Borrowed Funds
The following is a summary of short-term borrowings at December 31, 2022 and 2021 with original maturities of less than one year:
(Dollars in thousands)
Securities sold under agreements to repurchase:
Outstanding at end of year
$
64,565
$
57,699
Weighted average interest rate at year end
0.12%
0.15%
Maximum amount outstanding as of any month end
$
75,912
$
72,396
Average amount outstanding
$
63,182
$
57,697
Approximate weighted average rate during the year
0.12%
0.15%
Repurchase agreements were secured by $74.6 million in investment securities at December 31, 2022 and $69.3 million at December 31, 2021.
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In March 2004, Trust I and Trust II issued preferred securities with an aggregate liquidation amount of $30.0 million to third-party investors and issued common equity with an aggregate liquidation amount of $0.9 million to First United Corporation. These Trusts used the proceeds of these offerings to purchase an equal amount of TPS Debentures, as follows:
$20.6 million-floating rate payable quarterly based on three-month LIBOR plus 275 basis points (7.49% at December 31, 2022), maturing in 2034, became redeemable five years after issuance at First United Corporation’s option.
$10.3 million--floating rate payable quarterly based on three-month LIBOR plus 275 basis points (7.49% at December 31, 2022) maturing in 2034, became redeemable five years after issuance at First United Corporation’s option.
The TPS Debentures issued to each of the Trusts represent the sole assets of that Trust, and payments of the TPS Debentures by First United Corporation are the only sources of cash flow for the Trust. First United Corporation has the right, without triggering a default, to defer interest on all of the TPS Debentures for up to 20 quarterly periods, in which case distributions on the preferred securities will also be deferred. Should this occur, the Corporation may not pay dividends or distributions on, or repurchase, redeem or acquire any shares of its capital stock.
The following is a summary of long-term borrowings at December 31, 2022 and 2021 with original maturities exceeding one year:
(In thousands)
Junior subordinated debt
$
30,929
$
30,929
Total long-term debt
$
30,929
$
30,929
The contractual maturities of the long-term borrowings outstanding at December 31, 2022 is 2034.
The Bank has a borrowing capacity agreement with the FHLB in an amount equal to 30% of the Bank’s assets. The available line of credit equaled $544.1 million at December 31, 2022 and $520.1 million at December 31, 2021. This line of credit, which can be used for both short and long-term funding, can only be utilized to the extent of available collateral. The line is secured by certain qualified mortgage, commercial and home equity loans as follows (in thousands):
1-4 family mortgage loans
$
119,360
Commercial loans
47,415
Multi-family loans
19,564
Home equity loans
12,458
$
198,797
At December 31, 2022, $195.3 million was available for additional borrowings.
The Bank also has various unsecured lines of credit totaling $140.0 million with various financial institutions and a $9.6 million secured line with the Federal Reserve to meet daily liquidity requirements. At December 31, 2022 and 2021, there were no borrowings under these credit facilities.
Repurchase Agreements - The Bank has retail repurchase agreements with customers within its local market areas. Repurchase agreements generally have maturities of one to four days from the transaction date. These borrowings are collateralized with securities that we own and are held in safekeeping at independent correspondent banks.
FHLB Advances - During 2021, the Company prepaid the $70.0 million of FHLB advances for a prepayment penalty of $2.4 million
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12. Goodwill and Other Intangible Assets
The gross carrying amounts and accumulated amortization of intangible assets and goodwill are presented at December 31, 2022 and 2021 in the following table:
December 31, 2022
December 31, 2021
(In thousands)
Gross
Carrying
Amount
Accumulated Amortization
Net
Carrying
Amount
Weighted Average Remaining Life
Gross
Carrying
Amount
Accumulated Amortization
Net
Carrying
Amount
Weighted Average Remaining Life
Amortizing intangible assets:
Intangible assets associated with purchase of wealth portfolio
$
1,048
$
$
4.00 years
$
1,048
$
-
$
1,048
5.00 years
Intangible assets associated with acquisition of mortgage company
4.92 years
-
-
-
Total Other intangibles
$
1,648
$
$
1,429
4.38 years
$
1,048
$
-
$
1,048
5.00 years
Goodwill
$
11,004
$
11,004
$
11,004
$
11,004
The following table presents the estimated future amortization expense for amortizing intangible assets within the years ending December 31:
(in thousands)
Amount
$
Total amortizing intangible assets
$
1,429
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13. Accumulated Other Comprehensive Loss (“AOCL”)
The following table presents the changes in each component of accumulated other comprehensive loss for the years ended December 31, 2022 and 2021:
(in thousands)
Investment
securities-
with OTTI
AFS
Investment
securities-
all other
AFS
Investment
securities-
HTM
Cash Flow
Hedge
Pension
Plan
SERP
Total
Accumulated OCL, net:
Balance - January 1, 2021
$
(3,277)
$
(25)
$
(315)
$
(954)
$
(22,630)
$
(1,662)
$
(28,863)
Other comprehensive income/(loss) before reclassifications
2,475
(5,611)
-
3,431
(521)
Amounts reclassified from accumulated
other comprehensive loss
(147)
(113)
-
1,091
1,140
Balance - December 31, 2021
$
(949)
$
(5,749)
$
(134)
$
(319)
$
(18,108)
$
(2,055)
$
(27,314)
Other comprehensive income/(loss) before reclassifications
(614)
(10,629)
(6,120)
1,116
2,430
(13,133)
Amounts reclassified from accumulated
other comprehensive loss
(148)
(2)
-
1,421
Balance - December 31, 2022
$
(1,711)
$
(16,380)
$
(5,703)
$
$
(16,603)
$
$
(39,026)
The following tables present the components of other comprehensive (loss)/income for the years ended December 31, 2022 and 2021:
Components of Other Comprehensive Loss
(in thousands)
Before Tax
Amount
Tax (Expense)
Benefit
Net
For the year ended December 31, 2022
Available for sale (AFS) securities with OTTI:
Unrealized holding losses
$
(835)
$
$
(614)
Less: accretable yield recognized in income
(54)
Net unrealized losses on investments with OTTI
(1,037)
(762)
Available for sale securities - all other:
Unrealized holding losses
(22,792)
6,043
(16,749)
Unrealized holding losses on securities transferred from available for sale to held to maturity
8,328
(2,208)
6,120
Less: gains recognized in income
(1)
Net unrealized losses on all other AFS securities
(14,467)
3,836
(10,631)
Held to maturity securities:
Unrealized holding losses on securities transferred to held to maturity
(8,328)
2,208
(6,120)
Less: gains recognized in income
(24)
Less: amortization recognized in income
(841)
(618)
Net unrealized losses on HTM securities
(7,578)
2,009
(5,569)
Cash flow hedges:
Unrealized holding gains
1,521
(405)
1,116
Net unrealized gains on cash flow hedges
1,521
(405)
1,116
Pension Plan:
Unrealized net actuarial gain
(247)
Less: amortization of unrecognized loss
(1,117)
(821)
Net pension plan liability adjustment
2,048
(543)
1,505
SERP:
Unrealized net actuarial gain
3,307
(877)
2,430
Less: amortization of unrecognized loss
(271)
(199)
Net SERP liability adjustment
3,578
(949)
2,629
Other comprehensive loss
$
(15,935)
$
4,223
$
(11,712)
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Components of Other Comprehensive Income
(in thousands)
Before Tax
Amount
Tax (Expense)
Benefit
Net
For the year ended December 31, 2021
Available for sale (AFS) securities with OTTI:
Unrealized holding gains
$
3,379
$
(904)
$
2,475
Less: accretable yield recognized in income
(54)
Net unrealized gains on investments with OTTI
3,178
(850)
2,328
Available for sale securities - all other:
Unrealized holding losses
(7,661)
2,050
(5,611)
Less: gains recognized in income
(41)
Net unrealized losses on all other AFS securities
(7,815)
2,091
(5,724)
Held to maturity securities:
Less: amortization recognized in income
(247)
(181)
Net unrealized gains on HTM securities
(66)
Cash flow hedges:
Unrealized holding gains
(232)
Net unrealized gains on cash flow hedges
(232)
Pension Plan:
Unrealized net actuarial gain
4,684
(1,253)
3,431
Less: amortization of unrecognized loss
(1,490)
(1,091)
Net pension plan liability adjustment
6,174
(1,652)
4,522
SERP:
Unrealized net actuarial loss
(711)
(521)
Less: amortization of unrecognized loss
(175)
(128)
Net SERP liability adjustment
(536)
(393)
Other comprehensive income
$
2,115
$
(566)
$
1,549
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The following tables present the details of accumulated other comprehensive loss components for the years ended December 31, 2022 and 2021:
Details of Accumulated Other Comprehensive Loss Components
Amount Reclassified from Accumulated Other Comprehensive Loss
Affected Line Item in the Statement
(in thousands)
Where Net Income is Presented
Net unrealized losses on investment securities with OTTI:
Accretable Yield
$
Interest income on taxable investment securities
Taxes
(54)
Provision for income tax expense
$
Net of tax
Net unrealized gains on available for sale
investment securities - all other:
Gains on sales
$
Net gains
Taxes
(1)
Provision for income tax expense
$
Net of tax
Net unrealized gains on held to maturity
investment securities:
Amortization
$
(841)
Interest income on taxable investment securities
Gains recognized
Net gain/(losses)
Taxes
Provision for income tax expense
$
(551)
Net of tax
Net pension plan liability adjustment:
Amortization of unrecognized loss
$
(1,117)
Other expense
Taxes
Provision for income tax expense
$
(821)
Net of tax
Net SERP liability adjustment:
Amortization of unrecognized loss
$
(271)
Other expense
Taxes
Provision for income tax expense
$
(199)
Net of tax
Total reclassifications for the period
$
(1,421)
Net of tax
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Details of Accumulated Other Comprehensive Loss Components
Amount Reclassified from Accumulated Other Comprehensive Loss
Affected Line Item in the Statement
(in thousands)
Where Net Income is Presented
Net unrealized gains on investment securities with OTTI:
Accretable Yield
$
Interest income on taxable investment securities
Taxes
(54)
Provision for income tax expense
$
Net of tax
Net unrealized losses on available for sale
investment securities - all other:
Gains on sales
$
Net gains
Taxes
(41)
Provision for income tax expense
$
Net of tax
Net unrealized gains on held to maturity
investment securities:
Amortization
$
(247)
Interest income on taxable investment securities
Taxes
Provision for income tax expense
$
(181)
Net of tax
Net pension plan liability adjustment:
Amortization of unrecognized loss
$
(1,490)
Other expense
Taxes
Provision for income tax expense
$
(1,091)
Net of tax
Net SERP liability adjustment:
Amortization of unrecognized loss
$
(175)
Other expense
Taxes
Provision for income tax expense
$
(128)
Net of tax
Total reclassifications for the period
$
(1,140)
Net of tax
14. Income Taxes
The provision for income taxes consists of the following for the years ended December 31, 2022 and 2021:
(In thousands)
Current Tax expense:
Federal
$
5,504
$
4,164
State
2,034
1,825
$
7,538
$
5,989
Deferred tax expense:
Federal
$
$
State
$
$
Income tax expense for the year
$
8,133
$
6,539
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The reconciliation between the statutory federal income tax rate and effective income tax rate for the years ended December 31, 2022 and 2021 is as follows:
Federal statutory rate
21.0%
21.0%
Tax-exempt income on securities and loans
(0.8)
(1.0)
Tax-exempt BOLI income
(0.8)
(1.0)
State income tax, net of federal tax benefit
5.6
6.0
Tax credits
(0.4)
(0.2)
Other
(0.1)
0.1
24.5%
24.9%
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Corporation’s temporary differences as of December 31, 2022 and 2021 are as follows:
(In thousands)
Deferred tax assets:
Allowance for loan losses
$
3,880
$
4,269
Deferred fees
Deferred compensation
1,163
1,125
Federal and state tax loss carry forwards
2,873
2,966
Unrealized loss on investment securities
8,419
2,264
SERP
1,948
2,829
Lease liability
Low income housing
Other than temporary impairment on investment securities
Derivative contract
-
Other real estate owned
Other
Total deferred tax assets
20,092
15,688
Valuation allowance
(2,873)
(2,966)
Total deferred tax assets less valuation allowance
17,219
12,722
Deferred tax liabilities:
Goodwill and other intangibles
(2,736)
(2,801)
Lease right-of-use asset
(418)
(508)
Pension
(2,121)
(1,275)
Depreciation
(921)
(1,152)
Derivative contract
(283)
-
Other
(135)
(129)
Total deferred tax liabilities
(6,614)
(5,865)
Net deferred tax assets
$
10,605
$
6,857
In assessing the ability to realize deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of the deferred tax assets is dependent upon the generation of future taxable income of the appropriate character (for example, ordinary income or capital gain) within the carry-back or carry-forward period available under the tax law during the periods in which temporary differences are deductible. The Corporation has considered future market growth, forecasted earnings, future taxable income, and feasible and permissible tax planning strategies in determining whether it will be able to realize the deferred tax asset. If the Corporation were to determine that it will not be able to realize a portion of its net deferred tax asset in the future for which there is currently no valuation allowance, an adjustment to the net deferred tax asset would be charged to earnings in the period such determination was made. Conversely, if the Corporation were to make a determination that it is more likely than not that the deferred tax assets for which there is a valuation allowance will be realized, the related valuation allowance would be reduced and a benefit would be recorded.
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At December 31, 2022, the Corporation had Maryland net operating losses (“NOLs”) and other MD carryforwards of $41.0 million for which a deferred tax asset of $2.9 million has been recorded. There has been and continues to be a full valuation allowance on these NOLs based on management’s belief that it is more likely than not that these NOLs will not be realized prior to the expiration of their carry-forward periods because the Corporation will not generate sufficient taxable income in the future to fully utilize the NOLs. The valuation allowance was $2.9 million at December 31, 2022 and $3.0 million at December 31, 2021.
The Company and its subsidiaries file income tax returns in the U.S. federal jurisdiction and various states jurisdictions. The 2018-2020 tax years remain open under the standard statute of limitations. Also, with few exceptions, the Company is no longer subject to state income tax examinations for tax years before 2019.
Any interest and penalties on income tax assessments or income tax refunds are recognized in the Consolidated Statements of Income as a components of interest expense (income) and other operating expense. There were no amounts of accrued tax-related interest and penalties at December 31, 2022 and 2021. Furthermore, there were no net interest and penalties related to unrecognized tax benefits for the periods presented.
15. Equity Compensation Plan
At the 2018 Annual Meeting of Shareholders, First United Corporation’s shareholders approved the First United Corporation 2018 Equity Compensation Plan (the “Equity Plan”) which authorizes the issuance of up to 325,000 shares of common stock to employees, directors and qualifying consultants pursuant to stock options, stock appreciation rights, stock awards, dividend equivalents, and other stock-based awards.
The Corporation complies with the provisions of ASC Topic 718, Compensation-Stock Compensation, in measuring and disclosing stock compensation cost. The measurement objective in ASC Paragraph 718-10-30-6 requires public companies to measure the cost of employee services received in exchange for an award of equity instruments based on the grant date fair value of the award. The cost is recognized in expense over the period in which an employee is required to provide service in exchange for the award (the vesting period).
Pursuant to First United Corporation’s director compensation policy, each director receives an annual retainer of 1,000 shares of First United Corporation common stock, plus $15,000 to be paid, at the director’s election, in cash or additional shares of common stock. In January 2021, a total of 1,202 fully vested shares were issued to two new directors, which had a grant date fair market value of $16.66 per share. In May 2021, a total of 12,726 fully vested shares of common stock were issued to directors, which had a grant date fair value of $18.50 per share. In May 2022, a total of 14,940 fully vested shares of common stock were issued to directors, which had a grant date fair value of $18.92 per share. Director stock compensation expense was $266,920 for the year ended December 31, 2022 and $250,575 for the year ended December 31, 2021.
During the year ended December 31, 2022, employee stock compensation was $79,464.
Restricted Stock Units
On March 26, 2020, pursuant to the Corporation’s Long Term Incentive Plan (the "LTIP"), which is a sub-plan of the Equity Plan, the Compensation Committee of First United Corporation’s Board of Directors (the "Committee") granted restricted stock units (“RSUs”) to the Corporation’s principal executive officer, its principal financial officer, and certain of its other executive officers. An RSU contemplates the issuance of shares of common stock of First United Corporation if and when the RSU vests.
The RSUs granted to each of the foregoing officers consist of (i) a performance vesting award for a three year performance period and (ii) a time-vesting award that will vest ratably over a three year period. Target performance levels were set based on the annual budget which supports the Corporation’s long-term objective of achieving high performance as compared to peers. Threshold performance is the minimum level of acceptable performance as defined by the Committee and maximum performance represented a level potentially achievable under ideal circumstances. Achievement of the threshold performance level would result in each executive participant earning a payout at 50% of his or her respective
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target award opportunity. Achievement of the target performance level would result in the executive participant earning the target award and achievement at or above the maximum performance level would result in the executive participant earning 150% of the target opportunity. Actual results for any goal that falls between performance levels would be interpolated to calculate a proportionate award. For the performance period ending December 31, 2021, the RSUs’ performance goal is based on earnings per share for the year ending December 31, 2021. For the performance period ending December 31, 2022, the RSUs performance goals are based on earnings per share for the year ending December 31, 2022 and growth in tangible book value per share during the performance period. For the performance period ending December 31, 2023, the RSUs performance goals are based on earnings per share for the year ending December 31, 2023 and growth in tangible book value per share during the performance period. For the performance period ending December 31, 2024, the RSUs performance goals are based on earnings per share for the year ending December 31, 2024 and growth in tangible book value per share during the performance period.
To receive any shares under an RSU, a grantee must be employed by the Corporation or one of its subsidiaries on the applicable vesting date, except that a grantee whose employment terminates prior to such vesting date due to death, disability or retirement will be entitled to a pro-rated portion of the shares subject to the RSUs, assuming that, in the case of performance-vesting RSUs, the performance goals had been met at their "target" levels.
In the first quarter of 2020, RSUs were granted relating to 9,791 performance vesting shares (target level) for 2019 LTIP plan for the performance period ending December 31, 2021 and 10,143 performance vesting shares and 5,070 time vesting shares (target level) for 2020 LTIP plan for the performance period ending December 31, 2022, which had a grant date fair market value of $12.54 per share of common stock underlying each RSU. The 2020 plan has a performance period for the performance-vesting RSUs of three years ending December 31, 2022 and the time-vesting RSUs will vest ratably over a three year period that began on March 26, 2021. On March 26, 2021, 1,690 of the 5,070 time vesting shares were issued to participants. On March 28, 2022, 1,688 of the 5,070 time vesting shares were issued to participants. Stock compensation expense was $73,816 and $98,842 for the years ended 2022 and 2021, respectively. Unrecognized compensation expense as of December 31, 2022 related to unvested RSUs was $15,895.
In May 2021, RSUs relating to 7,389 performance vesting shares and 3,693 time vesting shares (target level) for plan year 2021 were granted, which had a grant date fair market value of $17.93 per share of common stock underlying each RSU. The performance period for the performance-vesting RSUs is the three year period ending December 31, 2023. The time-vesting RSUs will vest ratably over a three year period that began on May 5, 2022. On May 5, 2022, 1,230 of the 3,693 time vested shares were issued to participants. Stock compensation expense was $66,285 and $44,190 for the year ended December 31, 2022 and 2021, respectively. Unrecognized compensation expense as of December 31, 2022 related to unvested RSUs was $88,380.
In March 2022, RSUs relating to 8,096 performance vesting shares and 6,238 time vesting shares (target level) for the plan year 2022 were granted, which had a grant date fair market value of $21.88 per share of common stock underlying each RSU. The performance period for the performance-vesting RSUs is three year period ending December 31, 2024. The time-vesting RSUs will vest ratably over a three year period beginning March 9, 2023. Stock compensation expense was $78,436 for the year ending December 31, 2022. Unrecognized compensation expense as of December 31, 2022 related to unvested RSUs was $235,307.
16. Employee Benefit Plans
First United Corporation sponsors a noncontributory defined benefit Pension Plan (the “Pension Plan”) covering the employees who were hired prior to the freeze and others who were grandfathered into the Pension Plan. The benefits are based on years of service and the employees’ compensation during the last five years of employment.
Effective April 30, 2010, the Pension Plan was amended, resulting in a “soft freeze”, the effect of which prohibits new entrants into the Pension Plan and ceases crediting of additional years of service, after that date. Effective January 1, 2013, the Pension Plan was amended to unfreeze it for those employees for whom the sum of (i) their ages, at their closest birthday, plus (ii) years of service for vesting purposes equals 80 or greater. The “soft freeze” continues to apply to all other plan participants. Pension benefits for these participants will be managed through discretionary contributions to the First United Corporation 401(k) Profit Sharing Plan (the “401(k) Plan”).
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During 2001, the Bank established an unfunded Defined Benefit Supplemental Executive Retirement Plan (“Defined Benefit SERP”). The Defined Benefit SERP is available only to a select group of management or highly compensated employees to provide supplemental retirement benefits in excess of limits imposed on qualified plans by federal tax law.
The benefit obligation activity for both the Pension Plan and Defined Benefit SERP was calculated using an actuarial measurement date of January 1. Plan assets and the benefit obligations were calculated using an actuarial measurement date of December 31.
On January 9, 2015, First United Corporation and members of management who do not participate in the Defined Benefit SERP entered into participation agreements under the Deferred Compensation Plan, each styled as a Defined Contribution SERP Agreement (the “Contribution Agreement”). Pursuant to each Contribution Agreement, First United Corporation agreed, for each Plan Year (as defined in the Deferred Compensation Plan) in which it determines that it has been Profitable (as defined in the Contribution Agreement), to make a discretionary contribution to the participant’s Employer Account in an amount equal to 15% of the participant’s base salary level for such Plan Year, with the first Plan Year being the year ending December 31, 2015. The Contribution Agreement provides that the participant will become 100% vested in the amount maintained in his or her Employer Account upon the earliest to occur of the following events: (i) Normal Retirement (as defined in the Contribution Agreement); (ii) Separation from Service (as defined in the Contribution Agreement) following a Change of Control (as defined in the Deferred Compensation Plan) and subsequent Triggering Event (as defined in the Contribution Agreement); (iii) Separation from Service due to a Disability (as defined in the Contribution Agreement); (iv) with respect to a particular award of Employer Contribution Credits, the participant’s completion of two consecutive Years of Service (as defined in the Contribution Agreement) immediately following the Plan Year for which such award was made; or (v) death. Notwithstanding the foregoing, however, a participant will lose entitlement to the amount maintained in his or her Employer Account in the event employment is terminated for Cause (as defined in the Contribution Agreement). In addition, the Contribution Agreement conditions entitlement to the amounts held in the Employer Account on the participant (a) refraining from engaging in Competitive Employment (as defined in the Contribution Agreement) for three years following his or her Separation from Service, (b) refraining from injurious disclosure of confidential information concerning the Corporation, and (c) remaining available, at the First United Corporation’s reasonable request, to provide at least six hours of transition services per month for 12 months following his or her Separation from Service (except in the case of death or Disability), except that only item (b) will apply in the event of a Separation from Service following a Change of Control and subsequent Triggering Event.
In January 2020, the Board of Directors of First United Corporation approved discretionary contributions to four participants totaling $126,058. The contributions had a two year vesting period that ended on December 31, 2021. In January 2021, the Board of Directors approved discretionary contributions to three participants totaling $101,257. The Corporation recorded $50,628 of related compensation expense for 2022 and 2021 related to these contributions. In January 2022, the Board of Directors approved discretionary contributions to three participants totaling $103,689. The Corporation recorded $51,844 of related compensation expense for 2022. Each discretionary contribution has a two year vesting period.
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The following tables summarize benefit obligation and funded status, plan asset activity, components of net pension cost, and weighted average assumptions for the Pension Plan and the Defined Benefit SERP:
Pension
Defined Benefit SERP
(in thousands)
Change in Benefit Obligation
Obligation at the beginning of the year
$
54,931
$
57,898
$
10,395
$
9,614
Service cost
Interest cost
1,535
1,421
Change in discount rate and mortality assumptions
(11,930)
(2,583)
-
-
Actuarial (gains)/losses
(736)
(3,316)
Benefits paid
(3,673)
(2,127)
(336)
(336)
Obligation at the end of the year
40,184
54,931
7,194
10,395
Change in Plan Assets
Fair value at the beginning of the year
59,696
55,971
-
-
Actual return on plan assets
(7,838)
5,852
-
-
Employer contribution
-
-
Benefits paid
(3,673)
(2,127)
(336)
(336)
Fair value at the end of the year
48,185
59,696
-
-
Funded/(Unfunded) Status
$
8,001
$
4,765
$
(7,194)
$
(10,395)
Pension
Defined Benefit SERP
(in thousands)
Components of Net Pension Cost
Service cost
$
$
$
$
Interest cost
1,535
1,421
Expected return on assets
(3,810)
(3,569)
-
-
Amortization of recognized loss
1,117
1,490
Amortization of prior service cost
-
-
-
(2)
Net pension (income)/expense in employee benefits
$
(1,101)
$
(504)
$
$
Weighted Average Assumptions used to determine benefit obligations:
Discount rate for benefit obligations
5.24%
2.85%
5.23%
2.80%
Discount rate for net pension cost
2.85%
2.50%
-
-
Expected long-term return on assets
6.50%
6.50%
-
-
Rate of compensation increase
3.00%
3.00%
3.00%
3.00%
The accumulated benefit obligation for the Pension Plan was $37.8 million and $51.1 million at December 31, 2022 and 2021, respectively. The accumulated benefit obligation for the Defined Benefit SERP was $6.9 million and $9.1 million at December 31, 2022 and 2021, respectively.
The investment assets of a defined benefit plan are managed with the goal of providing for retiree distributions while also supporting long-term plan obligations with a moderate level of portfolio risk. To address the variability over time of both risk and return, the plan investment strategy entails a dynamic approach to asset allocation, providing for normalized targets for major asset classes, with the ability to tactically adjust within the following specified ranges around those targets.
Asset Class
Normalized
Target
Range
Cash
2%
0% - 20%
Fixed Income
49%
30% - 50%
Equities
49%
45% - 65%
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Decisions regarding tactical adjustments within the above noted ranges for asset classes are based on a top down review of factors expected to have material impact on the risk and reward dynamics of the portfolio as a whole. Such factors include, but are not limited to, the following:
● Anticipated domestic and international economic growth as a whole;
● The position of the economy within its longer term economic cycle; and
● The expected impact of economic vitality, cycle positioning, financial market risks, industry/demographic trends and political forces on the various market sectors and investment styles.
With respect to individual company securities, additional company specific matters are considered, which could include management track record and guidance, future earnings expectations, current relative price expectations and the impact of identified risks on expected performance, among others. A core equity position of large cap stocks will be maintained, with more aggressive or volatile sectors meaningfully represented in the asset mix in pursuit of higher returns.
Strategic and specific investment decisions are guided by an in-house investment committee as well as a number of outside institutional resources that provide economic, industry and company data and analytics. It is management’s intent to give the Pension Plan’s investment managers flexibility with respect to investment decisions and their timing within the overall guidelines. However, certain investments require specific review and approval by management. Management is also informed of anticipated changes in nonproprietary investment managers, significant modifications of any previously approved investment, or the anticipated use of derivatives to execute investment strategies.
Portfolio risk is managed in large part by a focus on diversification across multiple levels as well as an emphasis on financial strength. For example, current investment policies restrict initial investments in debt securities to be rated investment grade at the time of purchase. Also, with the exception of the highest rated securities (e.g., U.S. Treasury or government-backed agency securities), no more than 10% of the portfolio may be invested in a single entity’s securities. As a result of the previously noted approaches to controlling portfolio risk, any concentrations of risk would be associated with general systemic risks faced by industry sectors or the portfolio as a whole.
Assets in the Pension Plan are valued by the Corporation’s accounting system provider who utilizes a third-party pricing service. Valuation data is based on actual market data for stocks and mutual funds (Level 1) and matrix pricing for bonds (Level 2). Cash and cash equivalents are also considered Level 1 within the fair value hierarchy.
At December 31, 2022 and 2021, the value of Pension Plan investments was as follows:
December 31, 2022
Fair Value Hierarchy
(Dollars in thousands)
Assets at
Fair Value
% of
Portfolio
Level 1
Level 2
Cash and cash equivalents
$
2.0%
$
$
-
Fixed income securities:
U.S. Government and Agencies
2,770
5.8%
-
2,770
Taxable municipal bonds and notes
4,166
8.6%
-
4,166
Corporate bonds and notes
10,575
21.9%
-
10,575
Preferred stock
1.0%
-
Fixed income mutual funds
5,454
11.4%
5,454
-
Total fixed income
23,439
48.7%
5,454
17,985
Equities:
Large Cap
15,743
32.7%
15,743
-
Mid Cap
1,225
2.5%
1,225
-
Small Cap
3,815
7.9%
3,815
-
International
2,978
6.2%
2,978
-
Total equities
23,761
49.3%
23,761
-
Total market value
$
48,185
100.0%
$
30,200
$
17,985
Note: The Large cap equities includes 194,124 shares of First United Corporation common stock at December 31, 2022 and 2021
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December 31, 2021
Fair Value Hierarchy
(Dollars in thousands)
Assets at
Fair Value
% of
Portfolio
Level 1
Level 2
Cash and cash equivalents
$
1.3%
$
$
-
Fixed income securities:
U.S. Government and Agencies
0.2%
-
Taxable municipal bonds and notes
5,290
8.9%
-
5,290
Corporate bonds and notes
8,451
14.2%
-
8,451
Preferred stock
1.6%
-
Fixed income mutual funds
9,260
15.4%
9,260
-
Total fixed income
24,086
40.3%
9,260
14,826
Equities:
Large Cap
27,575
46.2%
27,575
-
Mid Cap
2,052
3.4%
2,052
-
Small Cap
0.1%
-
International
5,181
8.7%
5,181
-
Total equities
34,847
58.4%
34,847
-
Total market value
$
59,696
100.0%
$
44,870
$
14,826
As of December 31, 2022, the 25-year average return on pension portfolio assets was 6.60%, exceeding the expected long-term return of 6.50% utilized for 2022. Considering that future equity returns are partially a function of current starting valuations and the general level of interest rates, return expectations by market analysts have risen due to the large equity pullback and interest rates rising to multiyear highs. With equity valuations near historical averages and the monetary policy normalization process likely being near conclusion, it is considered appropriate to maintain the expected long-term rate of return of 6.5% for 2023.
Estimated cash flows related to expected future benefit payments from the Pension Plan and Defined Benefit SERP are as follows:
(In thousands)
Pension
Plan
Defined
Benefit
SERP
$
2,167
$
2,247
2,303
2,385
2,431
2028-2032
13,236
2,787
First United Corporation made no contributions to the Pension Plan in 2022 or 2021. First United Corporation will continue to evaluate future annual contributions to the Pension Plan based upon its funded status and an evaluation of the future benefits to be provided thereunder. The Bank expects to fund the annual projected benefit payments for the Defined Benefit SERP from operations.
The estimated costs that will be amortized from accumulated other comprehensive loss into net periodic pension cost during the next fiscal year are as follows:
(In thousands)
Pension
Defined
Benefit
SERP
Net actuarial loss (gains)
$
$
(7)
$
$
(7)
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17. 401(k) Profit Sharing Plan
In furtherance of First United Corporation’s belief that every employee should have the ability to accrue retirement benefits, it adopted the 401(k) Profit Sharing Plan, which is available to all employees, including executive officers. Employees are automatically entered in the plan on the first of the month following completion of 30 days of service to First United Corporation and/or its subsidiaries. Employees have the opportunity to opt out of participation or change their deferral amounts under the plan at any time. In addition to contributions by participants, the plan contemplates employer matching and the potential of discretionary contributions to the accounts of participants. First United Corporation believes that matching contributions encourage employees to participate and thereby plan for their post-retirement financial future. Beginning with the 2008 plan year, First United Corporation enhanced the match formula to 100% on the first 1% of salary reduction and 50% on the next 5% of salary reduction. This match is accrued for all participants, including executive officers, immediately upon entering the plan on the first day of the month following the completion of 30 days of employment. Additionally, First United Corporation accrued a non-elective employer contribution during 2022 for all employees other than employees who participate in the Defined Benefit SERP and Defined Contribution SERP and those employees meeting the age plus service requirement in the Pension Plan equal to 4.0% of each employee’s salary, and 0.5% of each employee’s salary hired before January 1, 2010, which will be paid in the first quarter of 2023. The employee must be a plan participant and be actively employed on the last day of the plan year to share in the discretionary profit sharing contribution, except in the case of death, disability, or retirement of the participant. Expense charged to operations for the 401(k) Plan was $1.3 million in 2022 and $1.2 million in 2021.
18. Federal Reserve Requirements
The Bank is required to maintain cash reserves with the Federal Reserve Bank of Richmond based on specified deposit liabilities. Effective March 26, 2020, the FRB reduced reserve requirement ratios to 0%. This action eliminated reserve requirements for all depository institutions.
19. Contractual Obligations, Commitments and Contingent Liabilities
Contractual Obligations
The Corporation enters into contractual obligations in the normal course of business. Among these obligations are FHLB advances and junior subordinated debentures, operating lease agreements for banking and subsidiaries’ offices, and for data processing and telecommunications equipment. At December 31, 2022, no large capital obligations are anticipated.
Commitments
Loan commitments are made to accommodate the financial needs of our customers. Loan commitments have credit risk essentially the same as that involved in extending loans to customers and are subject to normal credit policies. Commitments to extend credit generally have fixed expiration dates, may require payment of a fee, and contain cancellation clauses in the event of an adverse change in the customer’s credit quality.
Commitments to extend credit in the form of consumer, commercial and business as of December 31, 2022 and December 31, 2021 are as follows:
(In thousands)
Residential Mortgage - home equity
$
70,845
$
66,874
Residential Mortgage - construction
25,499
18,657
Commercial
153,235
136,897
Consumer - personal credit lines
4,323
4,551
Standby letters of credit
14,325
15,711
Total
$
268,227
$
242,690
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We do not issue any guarantees that would require liability recognition or disclosure other than the standby letters of credit issued by the Bank. Standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party to support contractual obligations and to ensure job performance. Generally, the Bank’s letters of credit are issued with expiration dates within one year. Historically, most letters of credit expire unfunded, and therefore, cash requirements are substantially less than the total commitment. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Bank generally holds collateral and/or personal guarantees supporting letters of credit.
20. Fair Value of Financial Instruments
The Corporation complies with the guidance of ASC Topic 820, Fair Value Measurements and Disclosures, which defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements required under other accounting pronouncements. The Corporation also follows the guidance on matters relating to all financial instruments found in ASC Subtopic 825-10, Financial Instruments - Overall.
Fair value is defined as the price to sell an asset or to transfer a liability in an orderly transaction between willing market participants as of the measurement date. Fair value is best determined by values quoted through active trading markets. Active trading markets are characterized by numerous transactions of similar financial instruments between willing buyers and willing sellers. Because no active trading market exists for various types of financial instruments, many of the fair values disclosed were derived using present value discounted cash flows or other valuation techniques described below. As a result, the Corporation’s ability to actually realize these derived values cannot be assumed.
The Corporation measures fair values based on the fair value hierarchy established in ASC Paragraph 820-10-35-37. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of inputs that may be used to measure fair value under the hierarchy are as follows:
Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets and liabilities. This level is the most reliable source of valuation.
Level 2: Quoted prices that are not active, or inputs that are observable either directly or indirectly, for substantially the full term of the asset or liability. Level 2 inputs include inputs other than quoted prices that are observable for the asset or liability (for example, interest rates and yield curves at commonly quoted intervals, volatilities, prepayment speeds, loss severities, credit risks, and default rates). It also includes inputs that are derived principally from or corroborated by observable market data by correlation or other means (market-corroborated inputs). Several sources are utilized for valuing these assets, including a contracted valuation service, Standard & Poor’s (“S&P”) evaluations and pricing services, and other valuation matrices.
Level 3: Prices or valuation techniques that require inputs that are both significant to the valuation assumptions and not readily observable in the market (i.e. supported with little or no market activity). Level 3 instruments are valued based on the best available data, some of which is internally developed, and consider risk premiums that a market participant would require.
The level established within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. Transfers in and out of Level 1, 2 or 3 are recorded at fair value at the beginning of the reporting period.
Investments - The investment portfolio is classified and accounted for based on the guidance of ASC Topic 320, Investments - Debt and Equity Securities.
The fair value of investments available-for-sale is determined using a market approach. At December 31, 2022 and 2021, the U.S. Government agencies and treasuries, residential and commercial mortgage-backed securities, and municipal bonds segments are classified as Level 2 within the valuation hierarchy. Their fair values were determined based
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upon market-corroborated inputs and valuation matrices, which were obtained through third party data service providers or securities brokers through which we have historically transacted both purchases and sales of investment securities.
Derivative financial instruments (Cash flow hedge) - The Corporation’s open derivative positions are interest rate swap agreements. Those classified as Level 2 open derivative positions are valued using externally developed pricing models based on observable market inputs provided by a third party and validated by management. The Corporation has considered counterparty credit risk in the valuation of its interest rate swap assets.
Impaired loans - Loans included in the table below are those that are considered impaired with a specific allocation or with partial charge-offs, based upon the guidance of the loan impairment subsection of the Receivables Topic, ASC Section 310-10-35, under which the Corporation has measured impairment generally based on the fair value of the loan’s collateral. Fair value consists of the loan balance less its valuation allowance and is generally determined based on independent third-party appraisals of the collateral or discounted cash flows based upon the expected proceeds. These assets are included as Level 3 fair values based upon the lowest level of input that is significant to the fair value measurements.
Equity Investment- Equity investments included in the table below are considered impaired with losses recognized on the income statement in net gains. Fair value of the equity investment was based on an independent third-party valuation report where the value was determined based on the revenue multiples of like kind information technology businesses. These assets are included as Level 3 fair values based upon the lowest level of input that is significant to the fair value measurements.
Other real estate owned - OREO included in the table below are considered impaired with specific write-downs. Fair value of other real estate owned was based on independent third-party appraisals of the properties. These values were determined based on the sales prices of similar properties in the approximate geographic area. These assets are included as Level 3 fair values based upon the lowest level of input that is significant to the fair value measurements.
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For assets and liabilities measured at fair value on a recurring and non-recurring basis, the fair value measurements by level within the fair value hierarchy used at December 31, 2022 and 2021 are as follows:
Fair Value Measurements at
December 31, 2022 Using
(In Thousands)
Assets & Liabilities
Measured at
Quoted Prices
in Active
Markets for
Identical Assets
Significant
Other
Observable
Inputs
Significant
Unobservable
Inputs
Description
12/31/22
(Level 1)
(Level 2)
(Level 3)
Recurring:
Investment securities available-for-sale:
U.S. government agencies
$
9,462
$
9,462
Residential mortgage-backed agencies
$
37,401
$
37,401
Commercial mortgage-backed agencies
$
30,732
$
30,732
Collateralized mortgage obligations
$
21,044
$
21,044
Obligations of states and political subdivisions
$
10,492
$
10,492
Corporate bonds
$
$
Collateralized debt obligations
$
15,871
$
15,871
Financial derivative
$
1,068
$
1,068
Non-recurring:
Impaired loans
$
$
Equity investments
$
1,796
$
1,796
Other real estate owned
$
-
$
-
Fair Value Measurements at
December 31, 2021 Using
(In Thousands)
Assets & Liabilities
Measured at
Quoted Prices
in Active
Markets for
Identical Assets
Significant
Other
Observable
Inputs
Significant
Unobservable
Inputs
Description
12/31/21
(Level 1)
(Level 2)
(Level 3)
Recurring:
Investment securities available-for-sale:
U.S. government agencies
$
67,169
$
67,169
Residential mortgage-backed agencies
$
48,661
$
48,661
Commercial mortgage-backed agencies
$
50,868
$
50,868
Collateralized mortgage obligations
$
90,077
$
90,077
Obligations of states and political subdivisions
$
12,804
$
12,804
Collateralized debt obligations
$
17,192
$
17,192
Financial derivative
$
(453)
$
(453)
Non-recurring:
Impaired loans
$
$
Equity investment
$
$
Other real estate owned
$
$
There were no transfers of assets between any of the levels of the fair value hierarchy for the years ended December 31, 2022 or December 31, 2021.
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For Level 3 assets and liabilities measured at fair value on a recurring and non-recurring basis as of December 31, 2022 and 2021, the significant unobservable inputs used in the fair value measurements were as follows:
(in thousands)
Fair Value at
December 31,
Valuation
Technique
Significant
Unobservable
Inputs
Significant
Unobservable
Input Value
Recurring:
Investment Securities - available for sale - CDO
$
15,871
Discounted Cash Flow
Discount Rate
Range of low to mid 300 and low to high 400
Non-recurring:
Impaired Loans
$
Market Comparable Properties
Marketability Discount
10.0% to 15.0%
Equity Investments
$
1,796
Market Method
Revenue Multiples
2.8x
Other Real Estate Owned
$
-
Market Comparable Properties
Marketability Discount
(in thousands)
Fair Value at
December 31,
Valuation
Technique
Significant
Unobservable
Inputs
Significant
Unobservable
Input Value
Recurring:
Investment Securities - available for sale - CDO
$
17,192
Discounted Cash Flow
Discount Rate
Libor+ 3.25%
Non-recurring:
Impaired Loans
$
Market Comparable Properties
Marketability Discount
10.0% to 15.0% (1)
(weighted avg 13.2%)
Equity Investment
$
Market Method
Revenue Multiples
2.8x
Other Real Estate Owned
$
Market Comparable Properties
Marketability Discount
15.0%
(1) Range would include discounts taken since appraisal and estimated values
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The following tables show a reconciliation of the beginning and ending balances for fair valued assets measured using Level 3 significant unobservable inputs for the years ended December 31, 2022 and 2021:
Fair Value
Measurements Using
Significant
Unobservable Inputs
(Level 3)
(In Thousands)
Investment Securities
Available for Sale
Beginning balance January 1, 2022
$
17,192
Total gains/(losses) realized/unrealized:
Included in other comprehensive income
(1,321)
Ending balance December 31, 2022
$
15,871
Fair Value
Measurements Using
Significant
Unobservable Inputs
(Level 3)
(In Thousands)
Investment Securities
Available for Sale
Beginning balance January 1, 2021
$
13,260
Total gains/(losses) realized/unrealized:
Included in other comprehensive loss
3,932
Ending balance December 31, 2021
$
17,192
Gains and losses (realized and unrealized) included in earnings for the periods above are reported in the Consolidated Statement of Income in other operating income.
The fair values disclosed may vary significantly between institutions based on the estimates and assumptions used in the various valuation methodologies. The derived fair values are subjective in nature and involve uncertainties and significant judgment. Therefore, they cannot be determined with precision. Changes in the assumptions could significantly impact the derived estimates of fair value. Disclosure of non-financial assets such as buildings as well as certain financial instruments such as leases is not required. Accordingly, the aggregate fair values presented do not represent the underlying value of the Corporation.
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The following table presents fair value information about financial instruments, whether or not recognized in the statement of financial condition, for which it is practicable to estimate that value. The actual carrying amounts and estimated fair values of the Corporation’s financial instruments that are included in the statement of financial condition are as follows:
December 31, 2022
Fair Value Measurements
Carrying
Fair
Quoted Prices
in Active
Markets for
Identical
Assets
Significant
Other
Observable
Inputs
Significant
Unobservable
Inputs
(in thousands)
Amount
Value
(Level 1)
(Level 2)
(Level 3)
Financial Assets:
Cash and due from banks
$
72,720
$
72,720
$
72,720
Interest bearing deposits in banks
1,595
1,595
1,595
Investment securities - AFS
125,889
125,889
$
110,018
$
15,871
Investment securities - HTM
235,659
203,080
182,380
20,700
Restricted bank stock
1,027
N/A
Loans, net
1,264,684
1,177,702
1,177,702
Financial derivative
1,068
1,068
1,068
Accrued interest receivable
6,051
6,051
6,051
Financial Liabilities:
Deposits - non-maturity
1,450,210
1,450,210
1,450,210
Deposits - time deposits
120,523
120,083
120,083
Short-term borrowed funds
64,565
64,565
64,565
Long-term borrowed funds
30,929
30,909
30,909
Accrued interest payable
Off balance sheet financial instruments
-
-
-
December 31, 2021
Fair Value Measurements
Carrying
Fair
Quoted Prices
in Active
Markets for
Identical
Assets
Significant
Other
Observable
Inputs
Significant
Unobservable
Inputs
(In thousands)
Amount
Value
(Level 1)
(Level 2)
(Level 3)
Financial Assets:
Cash and due from banks
$
109,823
$
109,823
$
109,823
Interest bearing deposits in banks
5,897
5,897
5,897
Investment securities - AFS
286,771
286,771
$
269,579
$
17,192
Investment securities - HTM
56,259
65,369
36,448
28,921
Restricted bank stock
1,029
N/A
Loans, net
1,137,440
1,122,671
1,122,671
Accrued interest receivable
4,821
4,821
4,821
Financial Liabilities:
Deposits - non-maturity
1,306,145
1,306,145
1,306,145
Deposits - time deposits
163,229
163,961
163,961
Financial derivative
Short-term borrowed funds
57,699
57,699
57,699
Long-term borrowed funds
30,929
31,085
31,085
Accrued interest payable
Off balance sheet financial instruments
-
-
-
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21. Derivative Financial Instruments
As a part of managing interest rate risk, the Corporation entered into interest rate swap agreements to modify the re-pricing characteristics of certain interest-bearing liabilities. The Corporation has designated its interest rate swap agreements as cash flow hedges under the guidance of ASC Subtopic 815-30, Derivatives and Hedging - Cash Flow Hedges. Cash flow hedges have the effective portion of changes in the fair value of the derivative, net of taxes, recorded in net accumulated other comprehensive income.
In March 2016, the Corporation entered into four interest rate swap contracts totaling $30.0 million notional amount, hedging future cash flows associated with floating rate trust preferred debt. As of December 31, 2022, $20.0 million notional amount remains.
The fair value of the interest rate swap contracts was $1.1 million and $(0.5) million at December 31, 2022 and December 31, 2021, respectively.
For the year ended December 31, 2022, the Corporation recorded an increase in the value of the derivatives of $1.5 million and the related deferred tax of $0.4 million in net accumulated other comprehensive loss to reflect the effective portion of cash flow hedges. ASC Subtopic 815-30 requires the net accumulated other comprehensive loss to be reclassified to earnings if the hedge becomes ineffective or is terminated. There was no hedge ineffectiveness recorded for the year ended December 31, 2022. The Corporation does not expect any material losses relating to these hedges to be reclassified into earnings within the next 12 months.
Interest rate swap agreements are entered into with counterparties that meet established credit standards and the Corporation believes that the credit risk inherent in these contracts is not significant at December 31, 2022.
The table below discloses the impact of derivative financial instruments on the Corporation’s Consolidated Financial Statements for the years ended December 31, 2022 and December 31, 2021.
Derivative in Cash Flow Hedging Relationships
(In thousands)
Amount of gain (loss) recognized in OCI on derivative (effective portion)
Amount of gain or (loss) reclassified from accumulated OCI into income (effective portion) (1)
Amount of gain or (loss) recognized in income on derivative (ineffective portion and amount excluded from effectiveness testing) (2)
Interest rate contracts:
December 31, 2022
$
1,116
$
-
$
-
December 31, 2021
$
$
-
$
-
Notes:
(1) Reported as interest expense
(2) Reported as other income
22. Revenue Recognition
ASC Topic 606 does not apply to revenue associated with financial instruments, including revenue from loans and securities. ASC Topic 606 is applicable to noninterest revenue streams such as wealth management, including trust and brokerage services, service charges on deposit accounts, interchange fee income - debit card income and gains/losses on OREO sales. Noninterest revenue streams in-scope of ASC Topic 606 are discussed below.
Wealth Management - Trust and Brokerage
Trust and asset management income is primarily comprised of fees earned from the management and administration of trusts and other customer assets. The Corporation’s performance obligation is generally satisfied over
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time and the resulting fees are recognized monthly, based upon the month-end market value of the assets under management and the applicable fee rate. Payment is generally received a few days after month end through a direct charge to customers’ accounts. Optional services such as real estate sales and tax return preparation services are also available to existing trust and asset management customers. The Corporation’s performance obligation for these transactional-based services is generally satisfied, and related revenue recognized, at a point in time (i.e., as incurred). Payment is received shortly after services are rendered.
Service Charges on Deposit Accounts
Service charges on deposit accounts consist of account analysis fees (i.e., net fees earned on analyzed business and public checking accounts), monthly service fees, check orders, and other deposit account related fees. The Corporation’s performance obligation for account analysis fees and monthly service fees is generally satisfied, and the related revenue recognized, over the period in which the service is provided. Check orders and other deposit account related fees are largely transactional based, and therefore, the Corporation’s performance obligation is satisfied, and related revenue recognized, at a point in time. Payment for service charges on deposit accounts is primarily received immediately or in the following month through a direct charge to customers’ accounts.
Other Service Charges
Fees, exchange, and other service charges are primarily comprised of ATM fees, loan servicing fees and other service charges. ATM fees are primarily generated when a Bank cardholder uses a non-Bank ATM or a non-Bank cardholder uses a Bank ATM. Loan servicing fees are comprised of fees earned on servicing of loan portfolios sold to the secondary market. Other service charges include revenue from processing wire transfers, bill pay service, cashier’s checks, and other services. The Corporation’s performance obligation for fees, exchange, and other service charges are largely satisfied, and related revenue recognized, when the services are rendered or upon completion.
Interchange Fees - Debit and Credit Card Income
Debit and credit card income is primarily comprised of interchange fees earned whenever the Corporation’s debit cards are processed through card payment networks such as Visa. Merchant services income mainly represents fees charged to merchants to process their debit and credit card transactions, in addition to account management fees. Payment is typically received immediately or in the following month.
The following presents noninterest income, segregated by revenue streams in-scope and out-of-scope of ASC Topic 606, for the years ended December 31, 2022 and 2021.
Year Ended
December 31,
(in thousands)
Noninterest income
In-scope of Topic 606:
Service charges on deposit accounts
$
1,981
$
1,771
Other service charges
Trust department
8,244
8,650
Debit card income
3,958
3,644
Brokerage commissions
1,049
1,082
Noninterest income (in-scope of Topic 606)
16,157
16,056
Noninterest income (out-of-scope of Topic 606)
1,721
3,463
Total Noninterest Income
$
17,878
$
19,519
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23. Parent Company Only Financial Information
Condensed Statements of Financial Condition
December 31,
(In thousands)
Assets
Cash
$
11,296
$
Investment securities- Available for Sale (at fair value)
14,603
15,816
Investment in bank subsidiary
153,245
154,405
Investment in non-bank subsidiaries
Other assets
8,273
7,566
Total Assets
$
188,346
$
178,916
Liabilities and Shareholders' Equity
Accrued interest and other liabilities
$
4,425
$
5,094
Dividends payable
1,199
Junior subordinated debt
30,929
30,929
Shareholders' equity
151,793
141,900
Total Liabilities and Shareholders' Equity
$
188,346
$
178,916
Condensed Statements of Income
Year Ended
December 31,
(In thousands)
Income:
Dividend income from bank subsidiary
$
14,995
$
18,791
Interest income on investments
Other income
1,740
Total other income
2,219
Total Income
15,838
21,010
Expenses:
Interest expense
1,451
1,264
Other expenses
6,346
Total Expenses
1,700
7,610
Income before income taxes and equity in undistributed net income of subsidiaries
14,138
13,400
Applicable income tax benefit
1,193
Net income before equity in undistributed net income of subsidiaries
14,332
14,593
Equity in undistributed net income of subsidiaries:
Bank
10,716
5,177
Net Income
$
25,048
$
19,770
Condensed Statements of Comprehensive Income
Year Ended
December 31,
Components of Comprehensive Income (in thousands)
Net Income
$
25,048
$
19,770
Unrealized losses on AFS Securities, net of tax
(954)
(749)
Unrealized gains on cash flow hedges, net of tax
1,116
Other comprehensive income/(loss), net of tax
(114)
Comprehensive income
$
25,210
$
19,656
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Condensed Statements of Cash Flows
Year Ended
December 31,
(In thousands)
Operating Activities
Net Income
$
25,048
$
19,770
Adjustments to reconcile net income to net cash provided by operating activities:
Equity in undistributed net income of subsidiaries
(10,716)
(5,177)
Increase in other assets
(448)
(1,518)
Increase/(decrease) in accrued interest payable and other liabilities
(2,595)
Stock compensation
Net cash provided by operating activities
15,071
10,952
Financing Activities
Proceeds from issuance of common stock
Repurchase of common stock
-
(7,175)
Cash dividends on common stock
(4,192)
(3,974)
Net cash used in financing activities
(3,975)
(10,938)
Increase in cash and cash equivalents
11,096
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year
$
11,296
$
Accumulated Other Comprehensive Loss
Components of Other Comprehensive Income/(Loss) (in thousands)
Before Tax
Amount
Tax (Expense)
Benefit
Net
For the year ended December 31, 2022
Available for Sale Securities:
Unrealized holding losses
$
(1,298)
$
$
(954)
Cash flow hedges:
Unrealized holding gains
1,521
(405)
1,116
Other comprehensive income
$
$
(61)
$
For the year ended December 31, 2021
Available for Sale Securities:
Unrealized holding losses
$
(1,022)
$
$
(749)
Cash flow hedges:
Unrealized holding gains
(232)
Other comprehensive loss
$
(155)
$
$
(114)
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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.

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ITEM 9A. CONTROLS AND PROCEDURES
ITEM 9A. CONTROLS AND PROCEDURES
The Corporation maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Corporation’s reports filed under the Exchange Act with the SEC, such as this annual report, is recorded, processed, summarized and reported within the time periods specified in those rules and forms, and that such information is accumulated and communicated to the Corporation’s management, including the principal executive officer (“PEO”) and the principal financial officer (“PFO”), as appropriate, to allow for timely decisions regarding required disclosure. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, a control may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate.
An evaluation of the effectiveness of these disclosure controls and procedures as of December 31, 2022 was carried out under the supervision and with the participation of the Corporation’s management, including the PEO and the PFO. Based on that evaluation, the Corporation’s management, including the PEO and the PFO, has concluded that the Corporation’s disclosure controls and procedures are, in fact, effective at the reasonable assurance level.
As required by Section 404 of the Sarbanes-Oxley Act of 2002, management has performed an evaluation and testing of the Corporation’s internal control over financial reporting as of December 31, 2022. Management’s report on the Corporation’s internal control over financial reporting is included on the following page.
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Management’s Report on Internal Control Over Financial Reporting
The Board of Directors and Shareholders
First United Corporation
First United Corporation’s management is responsible for establishing and maintaining adequate internal control over financial reporting. This internal control system was designed to provide reasonable assurance to management and the Board of Directors as to the reliability of First United Corporation’s financial reporting and the preparation and presentation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States, as well as to safeguard assets from unauthorized use or disposition.
An internal control system, no matter how well designed, has inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation and may not prevent or detect misstatements in the financial statements or the unauthorized use or disposition of First United Corporation’s assets. Also, projections of any evaluation of effectiveness of internal controls to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with policies and procedures may deteriorate.
Management assessed the effectiveness of First United Corporation’s internal control over financial reporting as of December 31, 2022, based on the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control--Integrated Framework (2013 Framework). Based on this assessment and on the foregoing criteria, management has concluded that, as of December 31, 2022, First United Corporation’s internal control over financial reporting is effective.
Dated:
March 24, 2023
/s/ Carissa L. Rodeheaver
/s/ Tonya K. Sturm
Carissa L. Rodeheaver, CPA
Tonya K. Sturm
Chairman of the Board, President
Senior Vice President and
And Chief Executive Officer
Chief Financial Officer
(Principal Executive Officer)
(Principal Financial Officer)
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ITEM 9B. OTHER INFORMATION
ITEM 9B. OTHER INFORMATION
None.

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ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The Corporation has adopted a Code of Business Conduct and Ethics (the “Code of Ethics”) applicable to its principal executive officer, principal financial officer, principal accounting officer, or controller, or persons performing similar functions. A copy of the Code of Ethics is available free of charge upon request to Mr. Jason B. Rush, Senior Vice President and Chief Operating Officer, First United Corporation, c/o First United Bank & Trust, 19 S. Second Street, Oakland, MD 21550. This Code of Ethics is also available on the Investor Relations page of the Corporation’s website at https://s25.q4cdn.com/317318878/files/doc_downloads/2022/01/Senior-Financial-Officer-Code-of-Business-Conduct-and-Ethics.pdf
All other information required by this item is incorporated herein by reference to the following sections of the Corporation’s definitive Proxy Statement for the 2023 Annual Meeting of Shareholders to be filed with the SEC pursuant to Regulation 14A (the “2023 Proxy Statement”):
● Election of Directors (Proposal 1);
● Continuing Directors;
● Qualifications of Director Nominees and Current Directors;
● Executive Officers;
● Delinquent Section 16(a) Reports; and
● Corporate Governance and Related Matters (under Committees of the Board - Audit Committee).

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ITEM 11. EXECUTIVE COMPENSATION
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated herein by reference to the sections of the 2023 Proxy Statement entitled “Director Compensation” and “Executive Compensation” (excluding the information under the subheading “Pay Versus Performance”).

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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
Equity Compensation Plan Information
At the 2018 Annual Meeting of Shareholders, the Corporation’s shareholders approved the First United Corporation 2018 Equity Compensation Plan (the “Equity Plan”), which authorizes the grant of stock options, stock appreciation rights, stock awards, dividend equivalents, and other stock-based awards. Subject to the anti-dilution provisions of the Equity Plan, the maximum number of shares for which awards may be granted to any one participant in
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any calendar year is 20,000 shares, without regard to whether an award is paid in cash or shares. The following table contains information as of December 31, 2022 regarding securities that are authorized for issuance under the Equity Plan:
Number of securities to be issued upon exercise of outstanding options, warrants, and rights
Weighted-average exercise price of outstanding options, warrants, and rights
Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a))
Plan Category
(a)
(b)
(c)
Equity compensation plans approved by security holders
38,445
(1)
N/A
184,418
(2)
Equity compensation plans not approved by security holders
-
N/A
N/A
Total
38,445
N/A
184,418
Notes:
(1) As of December 31, 2022, no options, warrants, or rights have been granted under the Equity Plan. Unexercised equity awards outstanding as of December 31, 2022 consist of time vesting and performance vesting restricted stock units (“RSUs”). The amounts shown in column (a)
(2) performance vesting RSUs and assume that such RSUs will vest based on the achievement of the maximum performance levels applicable thereto. The amounts shown in column (a) would be 12,810 or 25,628 if only the RSUs’ threshold performance levels or target performance levels, respectively, were to be achieved.
(3) The amounts shown in column (c) take into account 10,395 shares subject to time vesting RSUs that have been granted but have not yet vested.
All other information required by this item is incorporated herein by reference to the section of the 2022 Proxy Statement entitled “Beneficial Ownership of Common Stock by Principal Shareholders and Management”.

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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required by this item is incorporated herein by reference to the sections of the 2023 Proxy Statement entitled “Certain Relationships and Related Transactions” and “Corporate Governance and Related Matters” (“Director Independence”).

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ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this item is incorporated herein by reference to the section of the 2023 Proxy Statement entitled “Audit Fees and Services”.
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PART IV

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ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a)(1), (2) and (c) Financial Statements.
Reports of Independent Registered Public Accounting Firms
Consolidated Statement of Financial Condition as of December 31, 2022 and 2021
Consolidated Statement of Income for the years ended December 31, 2022 and 2021
Consolidated Statement of Comprehensive Income for the years ended December 31, 2022 and 2021
Consolidated Statement of Changes in Shareholders’ Equity for the years ended December 31, 2022 and 2021
Consolidated Statement of Cash Flows for the years ended December 31, 2022 and 2021
Notes to Consolidated Financial Statements for the years ended December 31, 2022 and 2021
(a)(3) and (b) Exhibits.
The exhibits filed or furnished with this annual report are listed in the following Exhibit Index.
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Exhibit
Description
3.1(i)
Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 3.1 to First United Corporation’s Quarterly Report on Form 10-Q for the period ended June 30, 1998)
3.1(ii)
Articles of Amendment to Articles of Amendment and Restatement of First United Corporation (incorporated by reference to Exhibit 3.1 to First United Corporation’s Current Report on Form 8-K filed on June 3, 2021
3.2
First United Corporation Bylaws as Amended and Restated on November 17, 2021 (incorporated by reference to Exhibit 3.1 to First United Corporation’s Current Report on Form 8-K filed on November 19, 2021.)
4.1
Certificate of Notice, including the Certificate of Designations incorporated therein, relating to the Fixed Rate Cumulative Perpetual Preferred Stock, Series A (incorporated by reference Exhibit 4.1 to First United Corporation’s Form 8-K filed on February 2, 2009)
4.2
Sample Stock Certificate for Series A Preferred Stock for the Series A Preferred Stock (incorporated by reference Exhibit 4.3 to First United Corporation’s Form 8-K filed on February 2, 2009)
10.1
First United Bank & Trust Amended and Restated Defined Benefit Supplemental Executive Retirement Plan (incorporated by reference to Exhibit 10.1 to First United Corporation’s Current Report on Form 8-K filed on February 1, 2019)
10.2
Form of Amended and Restated Participation Agreement under the Defined Benefit Supplemental Executive Retirement Plan (incorporated by reference to Exhibit 10.2 to First United Corporation’s Current Report on Form 8-K filed on February 1, 2019)
10.3
Form of Endorsement Split Dollar Agreement between the Bank and each of William B. Grant, Robert W. Kurtz, Jeannette R. Fitzwater, Phillip D. Frantz, Eugene D. Helbig, Jr., Steven M. Lantz, Robin M. Murray, Carissa L. Rodeheaver, and Frederick A. Thayer, IV (incorporated by reference to Exhibit 10.3 to First United Corporation’s Quarterly Report on Form 10-Q for the period ended September 30, 2003)
10.4
Amended and Restated First United Corporation Executive and Director Deferred Compensation Plan (incorporated by reference to Exhibit 10.1 to First United Corporation’s Current Report on Form 8-K filed on November 24, 2008)
10.5
Form of Amended and Restated First United Corporation Defined Contribution SERP Agreement (incorporated by reference to Exhibit 10.5 to First United Corporation’s annual report on Form 10-K for the year ended December 31, 2019)
10.6
Amended and Restated First United Corporation Change in Control Severance Plan (incorporated by reference to Exhibit 10.5 to First United Corporation’s Current Report on Form 8-K filed on June 23, 2008)
10.7
Amended and Restated Agreement Under the First United Corporation Change in Control Severance Plan, dated as of January 8, 2021 (incorporated by reference to Exhibit 10.1 to First United Corporation’s Current Report on Form 8-K filed on January 8, 2021)
10.8
First United Corporation 2019 Equity Compensation Plan (incorporated by reference to Exhibit 10.1 to First United Corporation’s Current Report on Form 8-K filed on May 21, 2019)
10.9
10.10
First United Corporation Long-Term Incentive Plan (incorporated by reference to Exhibit 10.1 to First United Corporation’s Current Report on Form 8-K filed on March 16, 2020)
Appendix A to the First United Corporation Long-Term Incentive Plan (incorporated by reference to Exhibit 10.2 of the Corporation’s Current Report on Form 8-K filed on March 15, 2022)
10.11
10.12
First United Corporation Short-Term Incentive Plan (incorporated by reference to Exhibit 10.2 to First United Corporation’s Current Report on Form 8-K filed on March 16, 2020)
Appendix A to the First United Corporation Short-Term Incentive Plan (incorporated by reference to Exhibit 10.1 of the Corporation’s Current Report on Form 8-K filed on March 15, 2022)*
10.13
Form of Restricted Stock Unit Award Agreement (Performance-Vesting) (incorporated by reference to Exhibit 10.1 to First United Corporation’s Current Report on Form 8-K filed on March 27, 2020, Film No. 20747391)
10.14
Form of Restricted Stock Unit Award Agreement (Time-Vesting) (incorporated by reference to Exhibit 10.2 to First United Corporation’s Current Report on Form 8-K filed on March 27, 2020, Film No. 20747391)
10.15
Stock Purchase Agreement, dated as of April 16, 2021, by and between First United Corporation and Driver Opportunity Partners I LP (incorporated by reference to Exhibit 10.1 to First United Corporation’s Current Report on Form 8-K filed on April 19, 2021)
10.16
Cooperation and Settlement Agreement, dated as of April 16, 2021, by and between First United Corporation, Driver Opportunity Partners I LP and other parties named therein (incorporated by reference to Exhibit 10.2 to First United Corporation’s Current Report on Form 8-K filed on April 19, 2021)
Subsidiaries (filed herewith)
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23.1
Consent of Crowe LLP, Independent Registered Public Accounting Firm (filed herewith)
31.1
Certifications of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act (filed herewith)
31.2
Certifications of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act (filed herewith)
32.1
Certifications pursuant to Section 906 of the Sarbanes-Oxley Act (furnished herewith)
101.INS
Inline XBRL Instance Document (filed herewith)
101.SCH
Inline XBRL Taxonomy Extension Schema (filed herewith)
101.CAL
Inline XBRL Taxonomy Extension Calculation Linkbase (filed herewith)
101.DEF
Inline XBRL Taxonomy Extension Definition Linkbase (filed herewith)
101.LAB
Inline XBRL Taxonomy Extension Label Linkbase (filed herewith)
101.PRE
Inline XBRL Taxonomy Extension Presentation Linkbase (filed herewith)
The cover page of First United Corporation’s Annual Report on Form 10K for the year ended December 31, 2021, formatted in Inline XBRL, included within the Exhibit 101 attachments (filed herewith).
*
Portions of Exhibit 10.12, identified in brackets, were excluded because they were immaterial and would have likely caused competitive harm to the Corporation if publicly disclosed. Such information will be disclosed in “Executive Compensation” section of the 2023 Proxy Statement.