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EX-32 - EXHIBIT 32 - Oconee Federal Financial Corp.t1502185_ex32.htm
EX-23.1 - EXHIBIT 23.1 - Oconee Federal Financial Corp.t1502185_ex23-1.htm
EX-31.2 - EXHIBIT 31.2 - Oconee Federal Financial Corp.t1502185_ex31-2.htm
EX-31.1 - EXHIBIT 31.1 - Oconee Federal Financial Corp.t1502185_ex31-1.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
   
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended June 30, 2015
OR
   
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from             to            
Commission File Number: 001-35033
Oconee Federal Financial Corp.
(Exact Name of Registrant as Specified in its Charter)
Federal
32-0330122
(State or Other Jurisdiction
of Incorporation or Organization)
(I.R.S. Employer
Identification Number)
201 East North Second Street, Seneca, South Carolina
29678
(Address of Principal Executive Offices)
(Zip Code)
(864) 882-2765
(Registrant’s Telephone Number Including Area Code)
Securities Registered Pursuant to Section 12(b) of the Act:
Title of Each Class
Name of Each Exchange on Which Registered
Common Stock, par value $0.01 per share
The NASDAQ Stock Market, LLC
Securities Registered Pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes  No ☒
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes  No ☒
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file reports), and (2) has been subject to such requirements for the past 90 days. Yes ☒ No 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or such shorter period that the registrant was required to submit and post such files). Yes ☒ No 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of  “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer       Accelerated filer        Non-accelerated filer 
Smaller reporting company ☒​
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes  No ☒
As of September 17, 2015 there were 5,882,140 shares outstanding of the registrant’s common stock. The aggregate value of the voting and non-voting common stock held by non-affiliates of the registrant, computed by reference to the closing price of the common stock as of December 31, 2014 was $24.3 million.
DOCUMENTS INCORPORATED BY REFERENCE
1. Portions of the Proxy Statement for the 2015 Annual Meeting of Stockholders. (Part III)

Table of Contents
PART I.
1
34
34
35
35
35
PART II.
36
37
39
50
51
99
99
99
PART III.
100
100
100
100
100
PART IV.
101
Signatures 102
i

PART I
ITEM 1.
Business
Forward Looking Statements
This annual report contains forward-looking statements, which can be identified by the use of such words as estimate, project, believe, intend, anticipate, plan, seek, expect and similar expressions. These forward-looking statements include, but are not limited to:

statements of our goals, intentions and expectations;

statements regarding our business plans and prospects and growth and operating strategies;

statements regarding the asset quality of our loan and investment portfolios; and

estimates of our risks and future costs and benefits.
These forward-looking statements are based on our current beliefs and expectations and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control. In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change. We are under no duty to and do not take any obligation to update any forward-looking statements after the date of this Annual Report.
The following factors, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements:

our ability to manage our operations in response to changes in economic conditions (including real estate values, loan demand, inflation, commodity prices and employment levels) nationally and in our market areas;

adverse changes in the financial industry, securities, credit and national and local real estate markets (including real estate values);

significant increases in our delinquencies and loan losses, including as a result of our inability to resolve classified assets, changes in the underlying cash flows of our borrowers, and management’s assumptions in determining the adequacy of the allowance for loan losses;

credit risks of lending activities, including changes in the level and trend of loan delinquencies and write-offs and in our allowance and provision for loan losses;

use of estimates for determining the fair value of certain of our assets, which may prove to be incorrect and result in significant declines in valuations;

increased competition among depository and other financial institutions;

our ability to attract and maintain deposits, including by introducing new deposit products and maintaining the former depositors of Stephens Federal Bank;

changes in interest rates generally, including changes in the relative differences between short term and long term interest rates and in deposit interest rates, that may affect our net interest margin and funding sources;

fluctuations in the demand for loans, which may be affected by the number of unsold homes, land and other properties in our market areas and by declines in the value of real estate in our market area;

declines in the yield on our assets resulting from the current low interest rate environment;

our ability to successfully implement our business strategies;

risks related to a high concentration of loans secured by real estate located in our market areas;

changes in the level of government support of housing finance;

the results of examinations by our regulators, including the possibility that our regulators may,
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among other things, require us to increase our allowance for loan losses, write down assets, change our regulatory capital position, limit our ability to borrow funds or maintain or increase deposits, or prohibit us from paying dividends, which could adversely affect our dividends and earnings;

our ability to enter new markets successfully and capitalize on growth opportunities;

the growth opportunities and cost savings from the acquisition of Stephens Federal Bank may not be fully realized or may take longer to realize than expected;

our ability to manage increased expenses following the acquisition of Stephens Federal Bank, including salary and employee benefit expenses and occupation expenses;

operating costs, customer losses and business disruption following the acquisition of Stephens Federal Bank, including adverse effects of relationships with employees, may be greater than expected;

changes in laws or government regulations or policies affecting financial institutions, including the Dodd-Frank Act and the JOBS Act, which could result in, among other things, increased deposit insurance premiums and assessments, capital requirements (particularly the new capital regulations), regulatory fees and compliance costs and the resources we have available to address such changes;

our reliance on a small executive staff;

changes in our compensation and benefit plans, and our ability to retain key members of our senior management team and to address staffing needs to implement our strategic plan;

changes in consumer spending, borrowing and savings habits;

changes in accounting policies and practices, as may be adopted by the bank regulatory agencies, the Financial Accounting Standards Board, the Securities and Exchange Commission and the Public Company Accounting Oversight Board;

our ability to control costs and expenses, particularly those related to operating as a publicly traded company;

other changes in our financial condition or results of operations that reduce capital available to pay dividends;

other changes in the financial condition or future prospects of issuers of securities that we own, including our stock in the FHLB of Atlanta; and

other economic, competitive, governmental, regulatory and operational factors affecting our operations, pricing, products and services.
Oconee Federal Financial Corp.
Oconee Federal Financial Corp. (the “Company”) is a federally-chartered corporation that was incorporated in January 2011 to be the mid-tier stock holding company for Oconee Federal Savings and Loan Association in connection with the mutual holding company reorganization of Oconee Federal Savings and Loan Association.
As of June 30, 2015, Oconee Federal Financial Corp. had 5,882,140 shares outstanding and a market capitalization of approximately $108.2 million.
The executive offices of Oconee Federal Financial Corp. are located at 201 East North Second Street, Seneca, South Carolina 29678, and the telephone number is (864) 882-2765. Our website address is www.oconeefederal.com. Information on our website should not be considered a part of this annual report. Oconee Federal Financial Corp. is subject to comprehensive regulation and examination by the Board of Governors of the Federal Reserve System. At June 30, 2015, we had total assets of  $475.6 million, total deposits of  $394.1 million and total equity of  $80.8 million. We recorded net income of  $4.5 million for the year ended June 30, 2015.
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Oconee Federal Savings and Loan Association
Oconee Federal Savings and Loan Association is a federally chartered savings and loan association headquartered in Seneca, South Carolina. Oconee Federal Savings and Loan Association was originally chartered by the State of South Carolina in 1924 as Seneca Building and Loan Association. In 1958, it changed its name to “Oconee Savings and Loan Association,” and in 1991 it converted to a federal charter under the name “Oconee Federal Savings and Loan Association.”
Our principal business consists of attracting retail deposits from the general public in our market area and investing those deposits, together with funds generated from operations, in one-to-four family residential mortgage loans and, to a lesser extent, nonresidential mortgage, construction and land, agricultural and other loans. We also invest in U.S. Government and federal agency securities, mortgage-backed securities and short-term deposits. We have also used borrowed funds as a source of funds, and we borrow principally from the Federal Home Loan Bank of Atlanta. We conduct our business from our executive office and seven branch offices. Our offices are located in Oconee County, South Carolina, Stephens County, Georgia and Rabun County, Georgia. Our primary market area consists of the counties where we have offices and the nearby communities and townships in adjacent counties in South Carolina and Georgia.
Oconee Federal Savings and Loan Association is subject to comprehensive regulation and examination by the Office of the Comptroller of the Currency. Oconee Federal Savings and Loan Association is a member of the Federal Home Loan Bank system.
Oconee Federal, MHC
Oconee Federal, MHC is a federally-chartered mutual holding company formed in January 2011 to become the mutual holding company of Oconee Federal Financial Corp. in connection with the mutual holding company reorganization of Oconee Federal Savings and Loan Association. As a mutual non-stock holding company, Oconee Federal, MHC has as its members all holders of deposit accounts at, and certain borrowers of, Oconee Federal Savings and Loan Association as of October 21, 1991. As a mutual holding company, Oconee Federal, MHC is required by law to own a majority of the voting stock of Oconee Federal Financial Corp. Oconee Federal, MHC is not currently, and at no time has been, an operating company.
Acquisition
On December 1, 2014, the Company and Oconee Federal, MHC completed the acquisition of Stephens Federal Bank (“Stephens Federal”). The acquisition was consummated in accordance with the Agreement and Plan of Merger by and among the Company, Oconee Federal MHC, Oconee Federal Savings and Loan Association and Stephens Federal dated February 26, 2014, as amended on May 6, 2014 (the “Merger Agreement”), pursuant to which Stephens Federal merged with and into the Oconee Federal Savings and Loan Association, with the Oconee Federal Savings and Loan Association as the surviving institution.
Pursuant to the terms of the Merger Agreement, Stephens Federal completed a voluntary supervisory conversion from a federally chartered mutual savings association to a federally chartered stock savings association immediately prior to the merger with Oconee Federal Savings and Loan Association. Accordingly, no consideration was paid by Oconee Federal Savings and Loan Association or the Company in connection with the acquisition of Stephens Federal; however, upon completion of the acquisition, the Company issued 36,945 shares of Company common stock to Oconee Federal, MHC, which is equal to the quotient of  (i) the valuation of Stephens Federal, which was $700, as determined by an independent third party, divided by (ii) the average closing price of the Company’s common stock as reported on the NASDAQ for the 20 consecutive trading days ending on the third trading day preceding the effective date of the acquisition, or approximately $18.95 per share, rounded.
The acquisition expanded our market area to northeast Georgia, specifically Stephens and Rabun Counties, where we added three additional branches, two in Toccoa, Georgia of Stephens County and one in Clayton, Georgia of Rabun County. These counties and surrounding counties and townships will enhance our ability to build our deposit base and open up new lending markets to us. We also acquired a
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secondary mortgage lending platform with Freddie Mac through the acquisition that has opened new opportunities for us to reach customers with new mortgage products that we were not able to offer before. We see the ability to originate and sell certain conforming, longer-term residential mortgages, such as the 30 year fixed rate loans, as a way to better manage our interest rate risk into the future.
As a result of the acquisition, we added $140.9 million in total assets at fair value, which included goodwill of  $2.6 million and deferred tax assets of  $5.1 million.
Market Area
We conduct business through our executive office and four branches in the towns of Seneca, Walhalla, and Westminster South Carolina, and three branches in the towns of Toccoa and Clayton, Georgia. All five of our South Carolina offices are located in Oconee County, which is located on the I-85 corridor between the Charlotte and Atlanta metropolitan areas, approximately 120 miles south of Charlotte and approximately 120 miles north of Atlanta. Our South Carolina offices are also located approximately 40 miles south of Greenville, South Carolina, and 10 miles from Clemson, South Carolina. Two of our Georgia branches are located in Stephens County and one is located in Rabun County. Both counties border Oconee County, South Carolina.
Our primary market area, which consists of Oconee County, South Carolina and Stephens and Rabun Counties, Georgia and their nearby communities and townships in adjacent counties in both South Carolina and Georgia, is mostly rural and suburban in nature. Our primary market area economy has historically been concentrated in manufacturing. Plant closings and layoffs in this sector, particularly in light manufacturing industries, in recent years have contributed to high unemployment. The regional economy is fairly diversified, with services, wholesale/retail trade, manufacturing and government providing the primary support. In addition, Oconee County and nearby counties are experiencing an increase in retiree populations. Oconee County’s and South Carolina’s respective June 2015 unemployment rates of 6.4% and 6.6%. Rabun County and Stephens County had 6.9% and 6.6% June 2015 unemployment rates, respectively, and Georgia’s overall rate was 6.1%. The national unemployment rate was 5.3% for June 2015.
The largest employers in our market area are education and health services providers, public utilities and light manufacturing companies, including the city and county school systems, Oconee Medical Center, Duke Energy, an electric utility and provider of nuclear and hydroelectric energy, Schneider Electric-Square D, a manufacturer of electronic components, Itron, a manufacturer of electronic measuring devices and BorgWarner, a supplier of motor vehicle parts and systems. Other employers include the local government, retail trade and the leisure/hospitality industry. Many residents of Oconee County are employed in nearby Greenville, South Carolina, which has major employers such as BMW Motors, Inc. and Greenville Health System, and in Pickens County, which has major employers such as Clemson University and the Pickens County school system.
Competition
Competition for making loans and attracting deposits in our primary market area is intense, particularly in light of the relatively modest population base of in our primary markets and the relatively large number of institutions that maintain a presence in the area. Financial institution competitors in our primary market area include other locally-based commercial banks, thrifts and credit unions, as well as regional and super-regional banks. We also compete with depository and lending institutions not physically located in our primary market area but capable of doing business remotely, mortgage loan originators and mortgage brokers and other companies in the financial services industry, such as investment firms, mutual funds and insurance companies. Some of our competitors offer products and services that we currently do not offer, such as investment services, trust services and private banking. To meet our competition, we seek to emphasize our community orientation, local and timely decision making and superior customer service. As of June 30, 2014 the most recent date of available data, our market share of deposits represented 25.79% of FDIC-insured deposits in Oconee County.
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Lending Activities
The principal lending activity of Oconee Federal Savings and Loan Association is originating one-to-four family residential mortgage loans and, to a lesser extent, home equity loans and lines of credit, nonresidential real estate loans, construction and land loans, commercial loans, agricultural loans, and other loans. We recently increased our loan portfolio of nonresidential real estate loans, home equity loans and lines of credit, and added agricultural loans and to a much lesser extent than the other segments, commercial and industrial loans through the acquisition of Stephens Federal. We plan to continue to maintain the loans we acquired that are of sound credit quality in our portfolio and to increase our lending in nonresidential real estate loans to a modest extent in our primary market area.
Loan Portfolio Composition.   The following table sets forth the composition of our loan portfolio by type of loan at the dates indicated:
At June 30,
2015
2014
2013
Amount
Percent
Amount
Percent
Amount
Percent
(Dollars in thousands)
Real estate loans:
One-to-four family(1)
$ 256,321 82.57% $ 214,735 92.55% $ 204,397 91.61%
Multi-family
2,574 0.83 254 0.11 258 0.12
Home equity
8,198 2.64 227 0.10 292 0.13
Nonresidential
21,685 6.98 8,408 3.62 8,521 3.82
Agricultural
4,164 1.34 0.00 0.00
Construction and land
14,590 4.70 7,661 3.30 8,735 3.91
Total real estate loans
307,532 99.06 231,285 99.68 222,203 99.59
Commercial and industrial
184 0.06 0.00 0.00
Consumer and other loans
2,745 0.88 747 0.32 925 0.41
Total loans
$ 310,461 100.00% $ 232,032 100.00% $ 223,128 100.00%
Net deferred loan fees
(1,194) (1,246) (1,214)
Allowance for loan losses
(1,008) (855) (751)
Loans, net
$ 308,259 $ 229,931 $ 221,163
At June 30,
2012
2011
Amount
Percent
Amount
Percent
(Dollars in thousands)
Real estate loans:
One-to-four family
$ 234,125 92.82% $ 249,064 93.16%
Multi-family
264 0.10 269 0.10
Home equity
395 0.16 466 0.17
Nonresidential
9,226 3.66 9,399 3.52
Construction and land
7,232 2.87 7,156 2.68
Total real estate loans
251,242 99.61 266,354 99.63
Consumer and other loans
987 0.39 985 0.37
Total loans
$ 252,229 100.00% $ 267,339 100.00%
Net deferred loan fees
(1,540) (1,677)
Allowance for loan losses
(857) (749)
Loans, net
$ 249,832 $ 264,913
(1)
Includes $3.1 million and $1.8 million of loans secured by modular and manufactured homes as of June 30, 2015 and June 30, 2014, respectively.
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Contractual Maturities and Interest Rate Sensitivity.   The following table summarizes the scheduled repayments of our loan portfolio at June 30, 2015. Demand loans, loans having no stated repayment schedule or maturity, and overdraft loans are reported as being due in one year or less. Loans are presented net of loans in process.
One-to-
Four
Family
Multi-
family
Home
Equity
Non-
residential
Agricultural
Construction
and Land
Commercial
and
Industrial
Consumer
and Other
Total
(Dollars in thousands)
Amounts due in:
One year or less
$ 4,715 $ $ 1,078 $ 1,055 $ 458 $ 1,815 $ 156 $ 2,404 $ 11,681
More than one to two years
2,336 1,505 1,040 498 831 28 89 6,327
More than two to three
years
3,126 1,817 42 50 80 180 5,295
More than three to five years
5,415 145 2,699 171 227 704 52 9,413
More than five to ten years
28,545 192 926 6,699 5,036 20 41,418
More than ten to fifteen
years
20,019 271 85 4,687 2,151 453 27,666
More than fifteen
years
192,165 1,966 88 7,991 780 5,671 208,661
Total
$ 256,321 $ 2,574 $ 8,198 $ 21,685 $ 4,164 $ 14,590 $ 184 $ 2,745 $ 310,461
The following table summarizes our fixed-rate and adjustable-rate loans that are due after June 30, 2016:
One-to-
Four
Family
Multi-family
Home
Equity
Non-
residential
Agricultural
Construction
and Land
Commercial
and
Industrial
Consumer
and Other
Total
(Dollars in thousands)
Interest rate terms on amounts due after one year:
Fixed-rate loans
$ 223,263 $ 764 $ 3,958 $ 11,663 $ 2,109 $ 12,174 $ 28 $ 341 $ 254,300
Adjustable-rate loans
28,343 1,810 3,162 8,967 1,597 601 44,480
Total
$ 251,606 $ 2,574 $ 7,120 $ 20,630 $ 3,706 $ 12,775 $ 28 $ 341 $ 298,780
Loan Approval Procedures and Authority.   Pursuant to federal law, the aggregate amount of loans that Oconee Federal Savings and Loan Association is permitted to make to any one borrower or a group of related borrowers is generally limited to 15% of Oconee Federal Savings and Loan Association’s unimpaired capital and surplus (25% if the amount in excess of 15% is secured by “readily marketable collateral” or 30% for certain residential development loans). At June 30, 2015, based on the 15% limitation, Oconee Federal Savings and Loan Association’s loans-to-one-borrower limit was approximately $12.1 million. At June 30, 2015, our largest loan relationship with one borrower was for approximately $2.7 million secured by a church building located in Seneca, South Carolina, and was performing in accordance with its terms on that date.
Our lending is subject to written underwriting standards and origination procedures. Decisions on loan applications are made on the basis of detailed applications submitted by the prospective borrower, credit histories that we obtain, and property valuations (consistent with our appraisal policy) prepared by outside independent licensed appraisers approved by our board of directors as well as internal evaluations, where permitted by regulations. The loan applications are designed primarily to determine the borrower’s ability to repay the requested loan, and the more significant items on the application are verified through use of credit reports, financial statements and tax returns.
Under our loan policy, the loan officer processing an application is responsible for ensuring proposals and approval of any extensions of credit are in compliance with internal policies and procedures and applicable laws and regulations, and for establishing and maintaining credit files and documentation sufficient to support the loan and to perfect any collateral position. The Loan Committee of the board of directors reviews all loan applications, and may override the risk analysis of loan officers.
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Our lending officers do not have individual lending authority. The Loan Committee has approval authority for loans up to $250 thousand. Real estate loans over $250 thousand must be approved by the Loan Committee and ratified by the board of directors. Our board of directors must approve all loans in excess of  $500 thousand. To ensure adequate liquidity, under our loan policy, aggregate loans outstanding should not exceed our total deposits and advances from the Federal Home Loan Bank of Atlanta.
Generally, we require title insurance or abstracts on our mortgage loans as well as fire and extended coverage casualty insurance in amounts at least equal to the principal amount of the loan or the value of improvements on the property, depending on the type of loan.
One-to-four Family Residential Real Estate.   The cornerstone of our lending program has long been the origination of long-term loans secured by mortgages on owner-occupied one-to-four family residences. At June 30, 2015, $256.3 million, or 82.6% of our total loan portfolio, consisted of one-to-four family residential mortgage loans. At that date, our average outstanding one-to-four family residential mortgage loan balance was $116 thousand and our largest outstanding residential loan had a principal balance of $1.5 million. At June 30, 2015, our ten largest one-to-four family residential loans in our portfolio totaled $10.2 million. Virtually all of the residential mortgage loans we originate are secured by properties located in our market area.
The repayment terms of our mortgage loans are generally up to 30 years for traditional homes and up to 15 years for manufactured or modular homes. The repayment terms of non-owner-occupied homes are generally up to 15 years for fixed-rate loans and up to 30 years for adjustable-rate loans. Due to consumer demand in the current low market interest rate environment, many of our recent originations are 15- to 30-year fixed-rate loans secured by one-to-four family residential real estate. Although we typically retain in our portfolio the loans we originate, we generally originate our fixed-rate one-to-four family residential loans in accordance with secondary market standards.
In order to reduce the term to repricing of our loan portfolio, historically, we also originated one-year adjustable-rate one-to-four family residential mortgage loans. However, we are no longer offering the one-year adjustable-rate product as of December 1, 2014. Our current adjustable-rate mortgage loans have fixed rates for the first 12 months, and then carry interest rates that adjust annually at a rate based on the change, between closing of the loan and the adjustment date, of the Federal Housing Finance Agency’s published contract interest rate, which represents the national average rate for purchases of previously occupied homes. Such loans carry terms to maturity of up to 30 years. The adjustable-rate mortgage loans currently offered by us generally provide for a 100 basis point annual interest rate change cap, a lifetime cap of 500 basis points over the initial rate and a lifetime floor of 200 basis points under the initial rate.
Although adjustable-rate mortgage loans may reduce our vulnerability to changes in market interest rates because they periodically reprice, as interest rates increase, the required payments due from the borrower also increase (subject to rate caps), increasing the potential for default by the borrower. At the same time, the marketability of the underlying collateral may be adversely affected by higher interest rates. Upward adjustments of the contractual interest rate are also limited by the maximum periodic and lifetime rate adjustments permitted by our loan documents. At June 30, 2015, $28.3 million, or 11.1% of our one-to-four family residential loans, had adjustable rates of interest. During the year ended June 30, 2015, we originated one one-to-four family residential loan totaling $57 thousand with an adjustable rate of interest.
We evaluate both the borrower’s ability to make principal, interest and escrow payments and the value of the property that will secure the loan. Our one-to-four family residential mortgage loans do not currently include prepayment penalties and do not produce negative amortization. Our one-to-four family residential mortgage loans customarily include due-on-sale clauses giving us the right to declare the loan immediately due and payable in the event that, among other things, the borrower sells the property subject to the mortgage.
We currently originate residential mortgage loans for our portfolio with loan-to-value ratios of up to 80% for traditional owner-occupied homes. For traditional homes, we may originate loans with loan-to-value ratios in excess of 80% if the borrower obtains mortgage insurance or provides readily marketable collateral. We may make exceptions for special loan programs that we offer. For example, we
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currently offer mortgages of up to $95 thousand with loan-to-value ratios of up to 95% to low- to moderate-income borrowers solely for the purchase of their primary residence. We also originate residential mortgage loans for non-owner-occupied homes with loan-to-value ratios of up to 80%.
We also have historically originated residential mortgage loans with loan-to-value ratios of up to 75% for manufactured or modular homes. We no longer offer residential mortgage loans for manufactured or modular homes as of December 1, 2014. However, renewals of existing performing credits that meet our underwriting requirements will be considered. We require lower loan-to-value ratios for manufactured and modular homes because such homes tend to depreciate over time. Manufactured or modular homes must be permanently affixed to a lot to make them more difficult to move without our permission. Such homes must be “de-titled” by the states of South Carolina or Georgia so that they are taxed and must be transferred as residential homes rather than vehicles. We also obtain a mortgage on the real estate to which such homes are affixed. At June 30, 2015, the balance of loans secured by manufactured or modular homes was $3.1 million, representing 1.22% of our one-to-four family residential loans and 1.01% of our total loans.
At June 30, 2015, we had $3.6 million of one-to-four family residential mortgage loans that were 60 days or more delinquent and $5.9 million of one-to four-family residential mortgage loans that were 30 – 59 days delinquent. Among delinquent loans past due more than 60 days, three loans exceeded $250 thousand in outstanding principal, or 44.1%, of total loans in this category. For loans 30 – 59 days past due, two loans with outstanding balances greater than $300 thousand totaled $730 thousand, or 12.4%, of the total balance of loans in this category.
Multi-family.   Multi-family real estate loans generally have a maximum term of five years with a 30-year amortization period and a final balloon payment and are secured by properties containing five or more units in the Company’s market area. These loans are generally made in amounts of up to 75% of the lesser of the appraised value or the purchase price of the property with an appropriate projected debt service coverage ratio. The Company’s underwriting analysis includes considering the borrower’s expertise and requires verification of the borrower’s credit history, income and financial statements, banking relationships, independent appraisals, references and income projections for the property. The Company generally obtains personal guarantees on these loans.
Multi-family real estate loans generally present a higher level of risk than loans secured by one-to-four family residences. This greater risk is due to several factors, including the concentration of principal in a limited number of loans and borrowers, the effects of general economic conditions on income-producing properties and the increased difficulty of evaluating and monitoring these types of loans. Furthermore, the repayment of loans secured by multi-family residential real estate is typically dependent upon the successful operation of the related real estate project.
Nonresidential Real Estate.   Nonresidential loans include those secured by real estate mortgages on churches, owner-occupied and non-owner occupied commercial buildings of various types, retail and office buildings, hotels, and other business and industrial properties. The nonresidential real estate loans that we originate generally have terms of five to 20 years with amortization periods up to 20 years. The maximum loan-to-value ratio of our nonresidential real estate loans is generally 75%. At June 30, 2015, we had $21.7 million in nonresidential real estate loans, representing 6.9% of our total loan portfolio. At June 30, 2015, our average outstanding nonresidential mortgage loan balance was $249 thousand. Our largest nonresidential real estate relationship totaled $2.7 million, all of which was related to one loan. This loan is secured by a mortgage on a church building in Seneca, South Carolina, and, at June 30, 2015, this loan was performing in accordance with its terms. At June 30, 2015, of our ten largest loans in our total portfolio, two loans totaling $4.0 million were nonresidential real estate loans.
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Set forth below is information regarding our nonresidential real estate loans at June 30, 2015:
Type of Loan
Number of
Loans
Balance
(Dollars in thousands)
Church
24 $ 9,418
Service businesses
12 3,398
Other nonresidential
51 8,869
Total
     87 $ 21,685
We consider a number of factors in originating nonresidential real estate loans. We evaluate the qualifications and financial condition of the borrower, including credit history, cash flows, the applicable business plan, the financial resources of the borrower, the borrower’s experience in owning or managing similar property and the borrower’s payment history with us and other financial institutions. In evaluating the property securing the loan, the factors we consider include the net operating income of the mortgaged property before debt service and depreciation, the ratio of the loan amount to the appraised value of the mortgaged property and the debt service coverage ratio (the ratio of net operating income to debt service). For church loans, we also consider the length of time the church has been in existence, the church leadership and staff, the size and financial strength of the denomination with which it is affiliated, attendance figures and growth projections and current and pro forma operating budgets. The collateral underlying all nonresidential real estate loans is appraised by outside independent appraisers approved by our board of directors. Personal guarantees may be obtained from the principals of nonresidential real estate borrowers, and in the case of church loans, guarantees from the applicable denomination may be obtained.
Loans secured by nonresidential real estate generally are larger than one-to-four family residential loans and involve greater credit risk. Nonresidential real estate loans often involve large loan balances to single borrowers or groups of related borrowers. Repayment of these loans depends to a large degree on the results of operations and management of the properties securing the loans or the businesses conducted on such property, and may be affected to a greater extent by adverse conditions in the real estate market or the economy in general, including the current adverse conditions. In addition, because a church’s financial stability often depends on donations from congregation members, some of whom may not reside in our market area, rather than income from business operations, repayment may be affected by economic conditions that affect individuals located both in our market area and in other market areas with which we are not as familiar. In addition, due to the unique nature of church buildings and properties, the real estate securing church loans may be less marketable than other nonresidential real estate. Accordingly, the nature of these loans makes them more difficult for management to monitor and evaluate. At June 30, 2015, we had $1.4 million of nonresidential real estate loans that were 60 days or more delinquent and $229 thousand of nonresidential real estate loans that were 30-59 days delinquent. Among delinquent loans past due more than 60 days, two loans exceeded $300 thousand in outstanding principal. No nonresidential real estate loans 30-59 days past due had outstanding balances greater than $300 thousand.
Construction and Land.   We generally make construction loans to individuals for the construction of their primary residences and to commercial businesses for their real estate needs. These loans generally have maximum terms of twelve months, and upon completion of construction convert to conventional amortizing mortgage loans. Residential construction loans have rates and terms comparable to one-to-four family residential mortgage loans that we originate. Commercial construction loans have rate and terms comparable to commercial loans that we originate. During the construction phase, the borrower generally pays interest only. The maximum loan-to-value ratio of our owner-occupied construction loans is 80%. Residential construction loans are generally underwritten pursuant to the same guidelines used for originating permanent residential mortgage loans. Commercial construction loans are generally underwritten pursuant to the same guidelines used for originating commercial loans.
We make loans secured by land to complement our construction lending activities. These loans have terms of up to 10 years, and maximum loan-to-value ratios of 75% for improved lots and 65% for unimproved land.
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Number of
Loans
Loans in
Process
Net Principal
Balance
(Dollars in thousands)
One-to-four family
39 $ 7,229 $ 6,097
Nonresidential
2 144
Residential land
124 8,071
Nonresidential land
4 278
Total construction and land loans
   169 $ 7,229 $ 14,590
At June 30, 2015, our largest residential construction loan was for $1.7 million, of which $664 thousand was outstanding. This loan was performing according to its terms at June 30, 2015. At June 30, 2015, we had $78 thousand of our construction loans that were 30-59 days delinquent and $0 that were 60 days or more delinquent.
The application process for a construction loan includes a submission to Oconee Federal Savings and Loan Association of accurate plans, specifications and costs of the project to be constructed or developed, a copy of the deed or plat survey of the real estate involved in the loan and an appraisal of the proposed collateral for the loan. Our construction loan agreements generally provide that loan proceeds are disbursed in increments as construction progresses. Outside independent licensed or certified appraisers or architects inspect the progress of the construction of the dwelling before disbursements are made.
To the extent our construction loans are not made to owner-occupants of single-family homes, they are more vulnerable to changes in economic conditions and the concentration of credit with a limited number of borrowers. Further, the nature of these loans is such that they are more difficult to evaluate and monitor. Our risk of loss on a construction or land loan is dependent largely upon the accuracy of the initial estimate of the property’s value upon completion of the project and the estimated cost (including interest) of the project. If the estimate of value proves to be inaccurate, we may be confronted, at or prior to the maturity of the loan, with a project with a value which is insufficient to assure full repayment and/or the possibility of having to make substantial investments to complete and sell the project. Because defaults in repayment may not occur during the construction period, it may be difficult to identify problem loans at an early stage.
Home Equity.   The Company offers home equity loans and lines of credit secured by first or second deeds of trust on primary residences in our market area. The Company’s home equity loans and lines of credit are limited to an 80% loan-to-value ratio (including all prior liens). Standard residential mortgage underwriting requirements are used to evaluate these loans. The Company offers adjustable-rate and fixed-rate options for these loans with a maximum term of 10 years. The repayment terms on lines of credit are interest only monthly with principle due at maturity. Home equity loans have a more traditional repayment structure with principal and interest due monthly. The maximum term on home equity loans is 10 years with an amortization schedule not exceed 20 years.
At June 30, 2015, we had $8.2 million of home equity loans and lines of credit outstanding, representing 2.6% of our total loan portfolio.
Agricultural.   As a result of the Stephens Federal acquisition, the Company acquired agricultural real estate loans. These loans are secured by farmland and related improvements in the Company’s market area. These loans generally have terms of 5 to 20 years with amortization periods up to 20 years. The maximum loan-to-value ratio of these loans is generally 75%. The Company is managing a small number of these loans in our portfolio.
Loans secured by agricultural real estate generally are larger than one-to-four family residential loans and involve greater credit risk. Agricultural real estate loans often involve large loan balances to single borrowers or groups of related borrowers. Repayment of these loans depends to a large degree on the results of operations and management of the properties securing the loans or the businesses conducted on such property, and may be affected to a greater extent by adverse conditions in the real estate market or the economy in general, including the current adverse conditions. At June 30, 2015, we had $4.2 million of agricultural loans outstanding, representing 1.3% of our total loan portfolio. At June 30, 2015, our average
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outstanding agricultural loan balance was $320 thousand. Our largest agricultural relationship totaled $1.0 million, of which $974 thousand was related to one loan. This loan is secured by a mortgage on a farm in Martin, Georgia, and, at June 30, 2015, this loan was performing in accordance with its terms. At June 30, 2015, all of our agricultural loans were performing in accordance with their terms, except for one loan for a poultry farm that was acquired with evidence of credit deterioration at the date of acquisition. This loan was later restructured as a troubled debt restructure as a result of bankruptcy proceedings. The carrying value of this loan at June 30, 2015 was $487 thousand.
Commercial and Industrial.   As a result of the Stephens Federal acquisition, the Company acquired commercial and industrial loans. These loans are offered to businesses and professionals in the Company’s market area. These loans generally have short and medium terms on both a collateralized and uncollateralized basis. The structure of these loans are largely determined by the loan purpose and collateral. Sources of collateral can include a lien on furniture, fixtures, equipment, inventory, receivables and other assets of the company. A UCC-1 is typically filed to perfect our lien on these assets.
Commercial and industrial loans and leases typically are underwritten on the basis of the borrower’s or lessee’s ability to make repayment from the cash flow of its business and generally are collateralized by business assets. As a result, such loans and leases involve additional complexities, variables and risks and require more thorough underwriting and servicing than other types of loans and leases. At June 30, 2015, we had $184 thousand of commercial and industrial loans outstanding, representing 0.1% of our total loan portfolio. At June 30, 2015, all of our commercial and industrial loans were performing in accordance with their terms.
Consumer.   We offer installment loans for various consumer purposes, including the purchase of automobiles, boats, and for other legitimate personal purposes. The maximum terms of consumer loans is 18 months for unsecured loans, 12 months for loans secured by marketable securities and 18-60 months for loans secured by a vehicle, depending on the age of the vehicle. The Company generally only extends consumer loans to existing customers or their immediate family members, and these loans generally have relatively low balances.
To date, our consumer lending, apart from home equity loans, has been quite limited. At June 30, 2015, we had $2.7 million of consumer loans outstanding, representing 0.9% of our total loan portfolio. Of these loans, $2.4 million, or 87.0%, were secured by deposits at Oconee Federal Savings and Loan Association.
Consumer loans may entail greater credit risk than residential mortgage loans, particularly in the case of consumer loans that are unsecured or are secured by rapidly depreciable assets, such as automobiles. In addition, consumer loan collections are dependent on the borrower’s continuing financial stability, and thus are more likely to be affected by adverse personal circumstances. Furthermore, the application of various federal and state laws, including bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans. At June 30, 2015, we had $1 thousand of our consumer loans that were 30-59 days delinquent and $1 thousand that were 60 days or more delinquent.
Originations, Purchases and Sales of Loans
Lending activities are conducted solely by our salaried personnel operating at our main and branch office locations. All loans originated by us are underwritten pursuant to our policies and procedures. We originate both fixed-rate and adjustable-rate loans. Our ability to originate fixed or adjustable-rate loans is dependent upon relative customer demand for such loans, which is affected by current and expected future levels of market interest rates. We originate real estate and other loans through our salaried loan officers, marketing efforts, our customer base, walk-in customers and referrals from real estate brokers, builders and attorneys.
With the exception of loans acquired through the Stephens Federal acquisition, we currently do not purchase whole loans or interests in loans from third parties.
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The following table shows our gross loan origination and principal repayment activity for loans originated for our portfolios during the periods indicated:
Years Ended June 30,
2015
2014
(In thousands)
Total loans at beginning of period
$ 232,032 $ 223,128
Loans originated:
Real estate loans:
One-to-four family
20,505 29,949
Multi-family
Home equity
170
Nonresidential
895 248
Agricultural
974
Construction and land
5,680 5,287
Total real estate loans
28,224 35,484
Commercial and industrial
131
Consumer and other loans
1,584 353
Total loans originated
29,939 35,837
Loans acquired through Stephens Federal Acquisition:
95,462
Deduct:
Principal repayments
(43,435) (26,865)
Sold loans that were acquired in Stephens Federal acquisition
(2,809)
Transfers to real estate owned
(728) (68)
Net loan activity
78,429 8,904
Total loans at end of period
$ 310,461 $ 232,032
Secondary Mortgage Lending
We added the capabilities and access to the Freddie Mac secondary mortgage lending program through the acquisition of Stephens Federal. As such we originated $4.7 million and sold $5.0 million of conforming one-to-four residential real estate mortgage loans for the period of December 1, 2014 through June 30, 2015.
Delinquencies and Nonperforming Assets
Delinquency Procedures.   It is the policy of the Association to promptly identify all delinquent loan accounts and use all reasonable and legal means either to cure the delinquencies or to take prompt legal action to foreclose, repossess or liquidate the collateral.
When we acquire real estate as a result of foreclosure, the real estate is classified as real estate owned. Real estate owned is initially recorded at fair value less costs to sell. Thereafter, it is recorded at the lower of carrying amount or fair value, less estimated costs to sell. Soon after acquisition, we order a new appraisal to determine the current market value of the property. Any excess of the recorded value of the loan satisfied over the market value of the property is charged against the allowance for loan losses, or, if the existing allowance is inadequate, charged to expense of the current period. After acquisition, all costs incurred in maintaining the property are expensed. Costs relating to the development and improvement of the property, however, are capitalized to the extent of estimated fair value less estimated costs to sell. Subsequent impairments in value of real estate owned are recorded as an impairment loss.
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Delinquent Loans.   The following table sets forth our loan delinquencies, including nonaccrual loans, by type and amount at the dates indicated:
At June 30,
2015
2014
30 – 59
Days
Past Due
60 – 89
Days
Past Due
90 Days
or More
Past Due
Total
Past Due
30 – 59
Days
Past Due
60 – 89
Days
Past Due
90 Days
or More
Past Due
Total
Past Due
(Dollars in thousands)
Real estate loans:
One-to-four family
$ 5,871 $ 1,243 $ 2,311 $ 9,425 $ 4,856 $ 893 $ 1,053 $ 6,802
Multi-family
Home equity
49 49
Nonresidential
229 313 1,108 1,650 87 87
Agricultural
Construction and land
78 78
Total real estate loans
6,227 1,556 3,419 11,202 4,943 893 1,053 6,889
Commercial and industrial
Consumer and other loans
1 1 2
Total
$ 6,228 $ 1,557 $ 3,419 $ 11,204 $ 4,943 $ 893 $ 1,053 $ 6,889
Total delinquencies increased $4.3 million, or 62.6%, to $11.2 million at June 30, 2015 as compared to total delinquencies of  $6.9 million at June 30, 2014. The increase in our delinquencies is related to the acquired loans from the Stephens Federal acquisition. At June 30, 2015, $4.9 million of loans past due were acquired loans, with $2.4 million past due 90 days or more. Of the total past due acquired loans, $2.6 million were loans that at the date of acquisition had evidence of credit deterioration that according to generally accepted accounting principles are defined as “purchased credit impaired loans.” There were $2.0 million of purchased credit impaired loans that were 90 or more days past due at June 30, 2015. Total delinquencies among our originated loans was $6.3 million, with $1.0 million 90 days or more past due. We count loans with partial payments due as delinquent.
Classified Assets.   Federal regulations provide for the classification of loans and other assets, such as debt and equity securities considered to be of lesser quality, as “substandard,” “doubtful” or “loss.” An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or by the collateral pledged, if any. “Substandard” assets include those characterized by the “distinct possibility” that the insured institution will sustain “some loss” if the deficiencies are not corrected. Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions, and values, “highly questionable and improbable.” Assets classified as “loss” are those considered “uncollectible” and of such little value that their continuance as assets without the establishment of a specific loss allowance is not warranted. Assets which do not currently expose the insured institution to sufficient risk to warrant classification in one of the aforementioned categories but possess weaknesses are designated as “special mention” by our management.
When an insured institution classifies problem assets as either substandard or doubtful, it may establish general allowances in an amount deemed prudent by management to cover probable accrued losses. General allowances represent loss allowances which have been established to cover probable accrued losses associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets. When an insured institution classifies problem assets as “loss,” it is required either to establish a specific allowance for losses equal to 100% of that portion of the asset so classified or to charge-off such amount. An institution’s determination as to the classification of its assets and the amount of its valuation allowances is subject to review by the regulatory authorities, which may require the establishment of additional general or specific loss allowances.
In connection with the filing of our periodic reports to our regulators and in accordance with our classification of assets policy, we regularly review the problem loans in our portfolio to determine whether any loans require classification in accordance with applicable regulations.
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On the basis of this review of our assets, our classified or special mention assets at the dates indicated were as set forth below. Special mention and substandard assets are presented gross of allowance, and doubtful assets are presented net of allowance.
At June 30,
2015
2014
(Dollars in thousands)
Special mention assets
$ 4,797 $
Substandard assets
9,847 1,647
Doubtful assets
271
Loss assets
Real estate owned
2,092 744
Total classified assets
$ 17,007 $ 2,391
Real estate owned assets increased by $1.3 million, or 181.2%, to $2.1 million at June 30, 2015 from $744 thousand at June 30, 2014. Our doubtful assets increased to $271 thousand at June 30, 2015 from $0 at June 30, 2014 and our substandard assets increased by $8.2 million, or 497.9%, to $9.8 million at June 30, 2015 from $1.6 million at June 30, 2014. Our overall classified asset totals increased by $14.6 million, or 611.3%, to $17.0 million at June 30, 2015 from $2.4 million at June 30, 2014. Special mention assets at June 30, 2015 consisted primarily of one-to-four family real estate loans of  $1.6 million, nonresidential real estate loans of  $1.6 million and agricultural loans of  $1.0 million. Substandard assets at June 30, 2015 consisted primarily of  $5.4 million in one-to-four family residential real estate loans, $2.4 million of nonresidential real estate loans and $1.4 million in agricultural loans, and doubtful assets consisted of nonresidential real estate loans. At June 30, 2014, our substandard assets consisted entirely of one-to-four family residential real estate loans.
Loans classified as substandard and doubtful are considered to be impaired loans. Impaired loans are loans for which we do not reasonably believe that we will collect all contractual principal and interest payments due on the loans. The total carrying value of these loans at June 30, 2015 was $10.1 million, an increase of  $8.5 million from $1.6 million at June 30, 2014. However, $7.9 million of impaired loans were related to loans that we acquired, of which $7.4 million were purchased credit impaired loans. Additionally, real estate owned at June 30, 2015 was $2.1 million, of which all but $10 thousand was acquired. Therefore, the increases in impaired loans and real estate owned noted in the table above do not reflect deteriorating credit quality in our loan portfolio.
Nonperforming Assets.   We generally cease accruing interest on our loans when contractual payments of principal or interest have become 90 days delinquent unless the loan is well-secured and in the process of collection. Loans are placed on nonaccrual or charged off at an earlier date if collection of principal or interest is considered doubtful. All interest accrued but not received for loans placed on nonaccrual are reversed against interest income. Interest received on such loans is accounted for on the cash-basis or cost-recovery method, until the loans qualify for return to accrual. Generally, loans are restored to accrual status when all the principal and interest amounts contractually due are brought current, and future payments are reasonably assured. Loans are moved to nonaccrual status in accordance with our policy, which is typically after 90 days of non-payment. Loans for which the terms have been modified and for which (i) the borrower is experiencing financial difficulties and (ii) we have granted a concession to the borrower are considered troubled debt restructurings (“TDRs”) and are included in impaired loans and leases. Income on nonaccrual loans or leases, including impaired loans and leases but excluding certain TDRs which continue to accrue interest, is recognized on a cash basis when and if actually collected. For the year ended June 30, 2015, there were no defaults on any loans that were considered TDRs. At June 30, 2015, all TDRs were on nonaccrual status.
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The table below sets forth the amounts and categories of our nonperforming assets at the dates indicated:
At June 30,
2015
2014
2013
2012
2011
(Dollars in thousands)
Nonaccrual loans:
Real estate loans:
One-to-four family
$ 2,311 $ 1,647 $ 1,493 $ 2,157 $ 1,567
Multi-family
Home equity
Nonresidential
1,379
Agricultural
487
Construction and land
Total real estate loans
4,177 1,647 1,493 2,157 1,567
Commercial and industrial
Consumer and other loans
Total nonaccrual loans
$ 4,177 $ 1,647 $ 1,493 $ 2,157 $ 1,567
Accruing loans past due 90 days or more:
Real estate loans:
One-to-four family
$ $ $ 493 $ 145 $
Multi-family
Home equity
Nonresidential
Agricultural
Construction and land
Total real estate loans
493 145
Commercial and industrial
Consumer and other loans
Total accruing loans past due 90 days or more
493 145
Total of nonaccrual and 90 days or more past due loans
$ 4,177 $ 1,647 $ 1,986 $ 2,302 $ 1,567
Real estate owned:
One-to-four family
$ 1,335 $ 744 $ 1,047 $ 854 $ 2,254
Multi-family
Home equity
Nonresidential
365
Other
392
Other nonperforming assets
Total nonperforming assets
$ 6,269 $ 2,391 $ 3,033 $ 3,156 $ 3,821
Troubled debt restructurings
$ 487 $ $ $ $
Troubled debt restructurings and total nonperforming
assets
$ 6,756 $ 2,391 $ 3,033 $ 3,156 $ 3,821
Total nonperforming loans to total loans
1.35% 0.71% 0.89% 0.91% 0.59%
Total nonperforming assets to total assets
1.42% 0.66% 0.82% 0.84% 1.02%
Total nonperforming assets to loans and real estate owned
2.16% 1.03% 1.35% 1.25% 1.42%
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All nonperforming loans in the table above were classified either as substandard or doubtful. There were no other loans that are not already disclosed where there is information about possible credit problems of borrowers that caused us serious doubts about the ability of the borrowers to comply with present loan repayment terms and that may result in disclosure of such loans in the future.
Interest income that would have been recorded had our nonaccrual loans been current in accordance with their original terms was $159 thousand for the year ended June 30, 2015. Interest of  $33 thousand was recognized on these loans and is included in net income for the year ended June 30, 2015. No interest was recognized on trouble debt restructured loans during the year ended June 30, 2015.
Allowance for Loan Losses
Analysis and Determination of the Allowance for Loan Losses.   Our allowance for loan losses is the amount considered necessary to reflect probable losses inherent in our loan portfolio. We evaluate the need to establish allowances against losses on loans on a quarterly basis. When additional allowances are necessary, a provision for loan losses is charged to earnings.
Our methodology for assessing the appropriateness of the allowance for loan losses consists of two key elements: (a) specific allowances for identified problem loans; and (b) a general valuation allowance on the remainder of the loan portfolio. Although we determine the amount of each element of the allowance separately, the entire allowance for loan losses is available for the entire portfolio.
Specific Allowances for Identified Problem Loans.   We establish a specific allowance when loans are determined to be impaired. Loss is measured by determining the present value of expected future cash flows or, for collateral-dependent loans, the fair value of the collateral adjusted for market conditions and selling expenses. Factors in identifying a specific problem loan include:

the strength of the customer’s personal or business cash flows;

the availability of other sources of repayment;

the amount due or past due;

the type and value of collateral;

the strength of our collateral position;

the estimated cost to sell the collateral; and

the borrower’s effort to cure the delinquency.
In addition, for loans secured by real estate, we consider the extent of any past due and unpaid property taxes applicable to the property serving as collateral on the mortgage.
General Valuation Allowance on Certain Identified Problem Loans.   Although our policy allows for a general valuation allowance on certain smaller balance, homogenous pools of loans classified as substandard or doubtful, we have historically evaluated nonperforming loans, regardless of size, for impairment in establishing a specific allowance.
General Valuation Allowance on the Remainder of the Loan Portfolio.   We establish a general allowance for loans that are not otherwise specifically identified as impaired to recognize the probable incurred losses within our portfolio, but which, unlike specific allowances, has not been allocated to particular problem loans. In estimating this portion of the allowance, we apply loss factors to each loan portfolio segment. Loans not identified as impaired are aggregated into homogenous pools of loans, or segments, which share similar risk characteristics, primarily based on the type of loan, the purpose of the loan, and the underlying collateral supporting the loan. We estimate our loss factors taking into consideration both quantitative and qualitative aspects that would affect our estimation of probable incurred losses. These aspects include, but are not limited to historical charge-offs; loan delinquencies and foreclosure trends; current economic trends and demographic data within our primary market area such as unemployment rates and population trends;
16

current trends in real estate values within our market area; charge-off trends of other comparable institutions; the results of any internal loan reviews; loan to value ratios; our historically conservative credit risk policy; the strength of our underwriting and ongoing credit monitoring function; and other relevant factors.
We evaluate our loss factors quarterly to ensure their relevance in the current real estate and economic environment, and we review the allowance for loan losses (as a percentage of total loans) maintained by us relative to other thrift institutions within our peer group, taking into consideration the other institutions’ delinquency trends, charge-offs, nonperforming loans, and portfolio composition as a basis for validation for the adequacy of our overall allowance for loan loss.
Acquired Loans.   We separate loans that we have acquired through a business combination from loans that we have originated when computing the general valuation allowance. We do this as loans that we have acquired have a completely different risk profile as these loans were originated from a different demographic market from ours and underwritten and collateralized according to different lending policies and practices. Therefore, we apply different loss factors to those loans in determining the general valuation allowance. These loss factors represent the credit discounts used in the original fair value determinations made on the date of acquisition of these loans. We will continue to evaluate these factors on a quarterly basis based on both quantitative and qualitative considerations and revised these factors as necessary.
Purchased credit impaired loans are evaluated on a quarterly basis. All purchased credit impaired loans remain identified as purchased credit impaired loans for their remaining lives, even if modified, extended or renewed. We perform the same type of evaluation for these loans as any other loan that we believe to be impaired. Each loan acquired that was purchased credit impaired is evaluated on an individual basis. We estimate, based on an evaluation of each loan’s credit and collateral, the amount and timing of future cash flows that we expect to receive and discount these cash flows using a risk adjusted rate. If the present value of the future cash flows is less than the current carrying value of the loan, we record a specific valuation allowance against that loan. Each quarter, we perform this process and adjust the allowance for each loan accordingly.
Our allowance at June 30, 2015 reflects both a general valuation component of  $788 thousand and a specific component of  $220 thousand for loans determined to be impaired. In comparison, our allowance at June 30, 2014 consisted of a general valuation component of  $803 thousand and a specific component of $52 thousand. The overall increase in our allowance for loan losses to $1.0 million at June 30, 2015 from $855 thousand at June 30, 2014 was primarily attributable to the increase in our impaired loans to $10.1 million at June 30, 2015 from $1.6 million at June 30, 2014 and the respective specific allowances for these impaired loans of  $220 thousand and $52 thousand, respectively. The increase in our impaired loans was largely attributable to the acquisition of Stephens Federal and the addition of purchased credit impaired loans as a result. At June 30, 2015, within our acquired loan portfolio, we had a total of  $7.9 million in impaired loans, $7.4 million of which were purchased credit impaired. The remaining $546 thousand of impaired loans were identified as having evidence of credit deterioration not existing at the acquisition date. The amount of impairment measured on these loans was $89 thousand. Within our originated portfolio, we had $2.1 million in impaired loans, and the impairment amount on these loans was $116 thousand compared with impaired loans at June 30, 2014 of  $1.6 million with a related impairment amount of  $52 thousand. Overall, our allowance for loan losses to the total gross carrying value of loans declined slightly to 0.32% at June 30, 2015 compared with 0.37% at June 30, 2014. The reason for the decline in the allowance ratio is the addition of loans purchased as part of the acquisition, which are recorded at fair value. An allowance on these loans is only considered necessary if there is evidence of further credit deterioration such that an allowance would be needed to account for the probable incurred losses in the carrying values of these loans. To the best of our knowledge, we have recorded all losses that are both probable and reasonably estimable for the years ended June 30, 2015 and 2014. Net charge-offs for the year ended June 30, 2015 were $42 thousand compared to $4 thousand for the year ended June 30, 2014.
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Allowance for Loan Losses.   The following table sets forth activity in our allowance for loan losses for the periods indicated:
Year Ended June 30,
2015
2014
2013
2012
2011
(Dollars in thousands)
Allowance at beginning of period
$ 855 $ 751 $ 857 $ 749 $ 888
Provision for loan losses
195 108 260 270 135
Charge-offs:
Real estate loans
One-to-four family
(4) (366) (145) (268)
Multi-family
Home equity
(40)
Nonresidential
Agricultural
Construction and land
(17)
Commercial and industrial
Consumer and other loans
(2) (6)
Total charge-offs
(42) (4) (366) (162) (274)
Recoveries:
Real estate loans
One-to-four family
Multi-family
Home equity
Nonresidential
Agricultural
Construction and land
Commercial and industrial
Consumer and other loans
Total recoveries
Net charge-offs
(42) (4) (366) (162) (274)
Allowance at end of period
$ 1,008 $ 855 $ 751 $ 857 $ 749
Allowance to nonperforming loans
24.13% 51.91% 37.81% 37.23% 47.80%
Allowance to total loans outstanding at the end of the period
0.32 0.37 0.34 0.34 0.28
Net charge-offs to average loans outstanding during the period
0.01 0.00 0.16 0.06 0.10
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Allocation of Allowance for Loan Losses.   The following table sets forth the allowance for loan losses allocated by loan category, the total loan balances by category, and the percent of loans in each category to total loans at the dates indicated. The allowance for loan losses allocated to each category is not necessarily indicative of future losses in any particular category and does not restrict the use of the allowance to absorb losses in other categories.
At June 30,
2015
2014
2013
Amount
% of
Allowance
to Total
Allowance
% of
Loans in
Category
to Total
Loans
Amount
% of
Allowance
to Total
Allowance
% of
Loans in
Category
to Total
Loans
Amount
% of
Allowance
to Total
Allowance
% of
Loans in
Category
to Total
Loans
(Dollars in thousands)
Real estate loans:
One-to-four family
$ 910 90.27% 82.57% $ 736 86.08% 92.55% $ 665 88.55% 91.61%
Multi-family
4 0.40 0.83 4 0.47 0.11 4 0.53 0.12
Home equity
1 0.10 2.64 1 0.12 0.10 1 0.13 0.13
Nonresidential
55 5.46 6.98 52 6.08 3.62 52 6.92 3.82
Agricultural
4 0.40 1.34 0.00 0.00 0.00 0.00
Construction and land
25 2.48 4.70 59 6.90 3.30 27 3.60 3.91
Total real estate loans
999 99.11 99.06 852 99.65 99.68 749 99.73 99.59
Commercial and industrial
0.00 0.06 0.00 0.00 0.00 0.00
Consumer and other loans
9 0.89 0.88 3 0.35 0.32 2 0.27 0.41
Total allowance for loan losses
$ 1,008 100.00% 100.00% $ 855 100.00% 100.00% $ 751 100.00% 100.00%
At June 30,
2012
2011
Amount
% of
Allowance
to Total
Allowance
% of
Loans in
Category
to Total
Loans
Amount
% of
Allowance
to Total
Allowance
% of
Loans in
Category
to Total
Loans
(Dollars in thousands)
Real estate loans:
One-to-four family
$ 773 90.20% 92.82% $ 646 86.25% 93.16%
Multi-family
4 0.47 0.10 4 0.53 0.10
Home equity
1 0.12 0.16 1 0.13 0.17
Nonresidential
56 6.53 3.66 57 7.61 3.52
Construction and land
21 2.45 2.87 38 5.08 2.68
Total real estate loans
855 99.77 99.61 746 99.60 99.63
Consumer and other loans
2 0.23 0.39 3 0.40 0.37
Total allowance for loan losses
$ 857 100.00% 100.00% $ 749 100.00% 100.00%
Although we believe that we use the best information available to establish the allowance for loan losses, future adjustments to the allowance for loan losses may be necessary and results of operations could be adversely affected if circumstances differ substantially from the assumptions used in making the determinations. Furthermore, while we believe we have established our allowance for loan losses in conformity with accounting principles generally accepted in the United States of America, regulators, in reviewing our loan portfolio, may request us to increase our allowance for loan losses. In addition, because future events affecting borrowers and collateral cannot be predicted with certainty, the existing allowance for loan losses may not be adequate and increases may be necessary should the quality of any loan deteriorate as a result of the factors discussed above. Any material increase in the allowance for loan losses may adversely affect our financial condition and results of operations.
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Investment Activities
General.   The goals of our investment policy are to provide and maintain liquidity to meet deposit withdrawal and loan funding needs, to help manage our interest rate risk, and to generate a return on idle funds within the context of our interest rate and credit risk objectives.
Our board of directors approved and adopted our investment policy. The investment policy is reviewed annually by our board of directors and any changes to the policy are subject to the approval of our board of directors. Authority to make investments under the approved investment policy guidelines is delegated to our Investment Committee. All investment transactions are reviewed at regularly scheduled monthly meetings of our board of directors.
Our investment policy permits investments in securities issued by the United States government and its agencies or government sponsored enterprises. We also may invest in mortgage-backed securities and mutual funds that invest in mortgage-backed securities. Our investment policy also permits, with certain limitations, investments in bank-owned life insurance, collateralized mortgage obligations, asset-backed securities, real estate mortgage investment conduits, South Carolina revenue bonds and municipal securities. While equity investments are generally not authorized by our investment policy, such investments are permitted on a case-by-case basis provided such investments are pre-authorized by our board of directors.
At June 30, 2015, we did not have an investment in the securities of any single non-government issuer that exceeded 10% of equity at that date.
Our investment policy does not permit investment in stripped mortgage-backed securities, complex securities and derivatives as defined in federal banking regulations and other high-risk securities. As of June 30, 2015, we held no asset-backed securities other than mortgage-backed securities. Our current policies do not permit hedging activities, such as engaging in futures, options or swap transactions, or investing in high-risk mortgage derivatives, such as collateralized mortgage obligation residual interests, real estate mortgage investment conduit residual interests or stripped mortgage backed securities. At June 30, 2015, none of the collateral underlying our securities portfolio was considered subprime or Alt-A.
Current accounting principles require that, at the time of purchase, we designate a security as either held-to-maturity, available-for-sale, or trading, based upon our ability and intent. Securities available-for-sale and trading securities are reported at fair value and securities held-to-maturity are reported at amortized cost. A periodic review and evaluation of our available-for-sale and held-to-maturity securities portfolios is conducted to determine if the fair value of any security has declined below its carrying value and whether such decline is other-than-temporary. If such decline is deemed to be other-than-temporary, the security is written down to a new cost basis and the resulting loss is charged against earnings. At June 30, 2015, the fair values of our securities are based on published or securities dealers’ market values. At June 30, 2015, the amortized cost of our securities classified as available-for-sale was $111.2 million compared to $104.0 million at June 30, 2014. The fair value of securities classified as available-for-sale was $111.2 million compared to $103.8 million at June 30, 2014. The increase in securities classified as available-for-sale is a result of moderate loan demand, resulting in excess cash liquidity. During 2015, all securities classified as held-to-maturity were transferred to available-for-sale.
U.S. Government and Federal Agency Obligations.   We may invest in U.S. Government and federal agency securities. While these securities generally provide lower yields than other investments in our securities investment portfolio, we maintain these investments, to the extent appropriate, for liquidity purposes, as collateral for borrowings and for prepayment protection.
Mortgage-Backed Securities.   At June 30, 2015, the amortized cost and fair value of our mortgage-backed securities portfolio totaled $64.2 million and $64.1 million, respectively. Mortgage-backed securities are securities issued in the secondary market that are collateralized by pools of mortgages. Certain types of mortgage-backed securities are commonly referred to as “pass-through” certificates because the principal and interest of the underlying loans is “passed through” to investors, net of certain costs, including servicing and guarantee fees. Mortgage-backed securities typically are collateralized by pools of one-to-four family or multifamily mortgages, although we invest primarily in mortgage-backed securities backed by one-to-four family mortgages. The issuers of such securities pool and resell the participation interests in the form of securities to investors such as the Company. The interest rate of the security is lower
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than the interest rates of the underlying loans to allow for payment of servicing and guaranty fees. Ginnie Mae, a United States Government agency, and government sponsored enterprises, such as Fannie Mae and Freddie Mac, either guarantee the payments or guarantee the timely payment of principal and interest to investors. Mortgage-backed securities are more liquid than individual mortgage loans since there is an active trading market for such securities. In addition, mortgage-backed securities may be used to collateralize our borrowings.
Investments in mortgage-backed securities involve a risk that actual payments will be greater or less than the prepayment rate estimated at the time of purchase, which may require adjustments to the amortization of any premium or accretion of any discount relating to such interests, thereby affecting the net yield on our securities. Current prepayment speeds determine whether prepayment estimates require modification that could cause amortization or accretion adjustments. Also, in September 2008, the Federal Housing Finance Agency placed Freddie Mac and Fannie Mae into conservatorship. The U.S. Treasury Department has established financing agreements to ensure that Freddie Mac and Fannie Mae meet their obligations to holders of mortgage-backed securities that they have issued or guaranteed. These actions have not affected the markets for mortgage-backed securities issued by Freddie Mac or Fannie Mae. Both Freddie Mac and Fannie Mae remain in conservatorship with the Federal Housing Finance Agency.
All of our mortgage-backed securities are issued by government agencies or government-sponsored entities.
Restricted Equity Securities.   We invest in the common stock of the Federal Home Loan Bank of Atlanta. The common stock is carried at cost and classified as restricted equity securities. We periodically evaluate these shares of common stock for impairment based on ultimate recovery of par value.
Bank-Owned Life Insurance.   We invest in bank-owned life insurance to provide us with a funding source for deferred compensation agreements. Bank-owned life insurance also generally provides us noninterest income that is non-taxable. Federal regulations generally limit our investment in bank-owned life insurance to 25% of our Tier 1 capital plus our allowance for loan losses. At June 30, 2015 and 2014, we had $9.0 and $8.8 million, respectively, invested in bank-owned life insurance.
Securities Portfolio Composition.   The following table sets forth the composition of our securities portfolio at the dates indicated:
At June 30,
2015
2014
2013
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
(Dollars in thousands)
Securities available-for-sale:
FHLMC common stock
$ 20 $ 180 $ 20 $ 314 $ 20 $ 110
Preferred stock
271 298 271 297
Certificates of deposit
7,221 7,242 7,221 7,237
Municipal securities
13,574 13,433 5,846 5,809
SBA loan pools
2,249 2,266
U.S. Government agency mortgage-backed securities
64,177 64,142 60,742 60,440 50,209 49,527
U.S. Government agencies
23,967 23,904 29,946 29,708 38,387 38,051
Total available-for-sale
$ 111,208 $ 111,167 $ 104,046 $ 103,806 $ 88,887 $ 87,985
Securities held-to-maturity:
Certificates of deposit
$ $ $ $ $ 3,985 $ 3,990
U.S. Government agency mortgage-backed securities
4,054 4,233
Total held-to-maturity
8,039 8,223
Total
$ 111,208 $ 111,167 $ 104,046 $ 103,806 $ 96,926 $ 96,208
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Securities Portfolio Maturities and Yields.   The following table sets forth the contractual maturities and weighted average yields of our securities portfolio at June 30, 2015. Mortgage-backed securities are anticipated to be repaid in advance of their contractual maturities as a result of projected mortgage loan prepayments. The weighted average life of the mortgage-backed securities in our portfolio at June 30, 2015 was 4.1 years.
One Year or Less
More than One Year to
Five Years
More than Five Years to
Ten Years
Amortized
Cost
Weighted
Average
Yield
Amortized
Cost
Weighted
Average
Yield
Amortized
Cost
Weighted
Average
Yield
(Dollars in thousands)
Securities available-for-sale:
FHLMC common stock
$ 0.00% $ 0.00% $ 0.00%
Certificates of deposit
249 1.00 249 1.00 2,490 1.31
Municipal securities
0.00 3,892 2.24 4,003 1.99
SBA loan pools
0.00 525 1.68 1,724 2.02
U.S. Government agency mortgage-backed securities
1,927 2.17 15,035 2.14 30,214 2.01
U.S. Government agency bonds
995 1.85 18,015 1.82 4,957 1.78
Total available-for-sale
$ 3,171 1.98% $ 37,716 1.98% $ 43,388 1.94%
More than Ten Years
Total
Amortized
Cost
Weighted
Average
Yield
Amortized
Cost
Weighted
Average
Yield
(Dollars in thousands)
Securities available-for-sale:
FHLMC common stock
$ 20 0.00% $ 20 0.00%
Certificates of deposit
4,233 1.34 7,221 1.30
Municipal securities
5,679 2.26 13,574 2.17
SBA loan pools
0.00 2,249 1.94
U.S. Government agency mortgage-backed securities
17,001 2.19 64,177 2.09
U.S. Government agency bonds
0.00 23,967 1.81
Total available-for-sale
$ 26,933 2.07% $ 111,208 1.98%
Sources of Funds
General.   Deposits have traditionally been our primary source of funds for use in lending and investment activities. We also may use borrowings, primarily Federal Home Loan Bank of Atlanta advances, to supplement cash flow needs, lengthen the maturities of liabilities for interest rate risk purposes and to manage the cost of funds. In addition, we receive funds from scheduled loan payments, investment maturities, loan prepayments, retained earnings and income on earning assets. While scheduled loan payments and income on earning assets are relatively stable sources of funds, deposit inflows and outflows can vary widely and are influenced by prevailing interest rates, market conditions and levels of competition.
Deposits.   We accept deposits from Oconee County, South Carolina, and Stephens and Rabun Counties, Georgia and surrounding counties and townships. We offer a selection of deposit accounts, including demand accounts, NOW accounts, money market accounts, savings accounts, certificates of deposit and individual retirement accounts (“IRAs”). Deposit account terms vary, with the principal differences being the minimum balance required, the amount of time the funds must remain on deposit and the interest rate. We do not accept brokered deposits, although we have the authority to do so. We very rarely accept certificates of deposit in excess of  $250 thousand or other deposits in excess of applicable FDIC insurance coverage, which is currently $250 thousand per depositor.
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Interest rates paid, maturity terms, service fees and withdrawal penalties are established on a periodic basis. Deposit rates and terms are based primarily on current operating strategies and market rates, liquidity requirements, rates paid by competitors and growth goals. We rely upon personalized customer service, long-standing relationships with customers, and the favorable image of Oconee Federal Savings and Loan Association in the community to attract and retain deposits. We also offer a fully functional electronic banking platform, including on-line bill pay, as a service to our deposit customers.
The flow of deposits is influenced significantly by general economic conditions, changes in interest rates and competition. Our ability to gather deposits is affected by the competitive market in which we operate, which includes numerous financial institutions of varying sizes offering a wide range of products.
The following table sets forth the distribution of total deposits by account type, at the dates indicated:
At June 30,
2015
2014
2013
Amount
Percent
Amount
Percent
Amount
Percent
(Dollars in thousands)
NOW and demand deposits(1)
$ 71,208 18.07% $ 26,334 9.37% $ 23,410 8.01%
Money market deposits
17,514 4.44 12,459 4.43 12,238 4.19
Regular savings and other deposits
48,821 12.39 41,945 14.93 38,823 13.28
Certificates of deposit – IRA
66,670 16.92 54,646 19.45 57,054 19.51
Certificates of deposit – other
189,880 48.18 145,631 51.82 160,897 55.01
Total
$ 394,093 100.00% $ 281,015 100.00% $ 292,422 100.00%
(1)
Includes noninterest bearing deposits of  $20.2 million and $4.1 million at June 30, 2015 and 2014, respectively.
As of June 30, 2015, the aggregate amount of our outstanding certificates of deposit in amounts greater than or equal to $100 thousand was approximately $91.8 million. The following table sets forth the maturity of these certificates of deposit as of June 30, 2015:
June 30, 2015
Certificates
of Deposit
(Dollars in thousands)
Maturity Period:
Three months or less
$ 22,621
Over three through six months
20,793
Over six through twelve months
27,709
Over twelve months
20,658
Total
$ 91,781
Borrowings.   We may obtain advances from the Federal Home Loan Bank of Atlanta by pledging as security our capital stock in the Federal Home Loan Bank of Atlanta and certain of our mortgage loans and mortgage-backed securities. Such advances may be made pursuant to several different credit programs, each of which has its own interest rate and range of maturities. To the extent such borrowings have different repricing terms from our deposits, borrowings can change our interest rate risk profile.
We had no borrowings from the Federal Home Loan Bank of Atlanta at June 30, 2015 and June 30, 2014. At June 30, 2015, we had access to Federal Home Loan Bank of Atlanta advances of up to $53.2 million. It is possible that we may use Federal Home Loan Bank of Atlanta advances or other short-term borrowings to fund loan demand or to purchase securities in the future.
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Subsidiary and Other Activities
Oconee Federal Financial Corp. has no subsidiaries other than Oconee Federal Savings and Loan Association, and Oconee Federal Savings and Loan Association has no subsidiaries.
Personnel
As of June 30, 2015, we had 81 full-time employees and one part-time employee. Our employees are not represented by any collective bargaining group. Management believes that we have good working relations with our employees.
FEDERAL AND STATE TAXATION
Expense and Tax Allocation
Oconee Federal Savings and Loan Association has entered into an agreement with Oconee Federal Financial Corp. and Oconee Federal, MHC to provide them with certain administrative support services for compensation not less than the fair market value of the services provided. In addition, Oconee Federal Savings and Loan Association and Oconee Federal Financial Corp. have entered into an agreement to establish a method for allocating and for reimbursing the payment of their consolidated tax liability.
Federal Taxation
General.   Oconee Federal Financial Corp. and Oconee Federal Savings and Loan Association are subject to federal income taxation in the same general manner as other corporations, with some exceptions discussed below. The following discussion of federal taxation is intended only to summarize certain pertinent federal income tax matters and is not a comprehensive description of the tax rules applicable to Oconee Federal Financial Corp. or Oconee Federal Savings and Loan Association.
Method of Accounting.   For federal income tax purposes, Oconee Federal Savings and Loan Association currently reports its income and expenses on the accrual method of accounting and uses a tax year ending June 30 for filing its federal income tax returns.
Bad Debt Reserves.   Prior to the Small Business Protection Act of 1996 (the “1996 Act”), Oconee Federal Savings and Loan Association and similar savings institutions were permitted to establish reserves for bad debts and to make annual additions to the reserve using several methods. For taxable years beginning after 1995, savings institutions are permitted to compute their bad debt deductions only to the same extent that banks are permitted. Accordingly, “small” savings institutions with less than $500 million in assets may maintain a reserve using the experience method, and “large” savings institutions with more than $500 million in assets are required to use the specific charge-off method. Oconee Federal Savings and Loan Association currently has less than $500 million in assets and uses the experience method to determine its annual additions to its tax bad debt reserves. Under the experience method, a savings institution is allowed a deduction for amounts that it adds to its bad debt reserve in accordance with Internal Revenue Code Section 585. Instead of taking a direct deduction when a debt becomes worthless, the savings institution charges off the debt against its reserve. The determination of whether and when a debt becomes worthless is made in the same manner as under the specific charge-off method. The savings institution calculates its addition to its bad debt reserve at the end of each year.
These additions are, within specified formula limits, deducted in arriving at taxable income. Pursuant to the 1996 Act, Oconee Federal Savings and Loan Association was required to recapture into taxable income a portion of its bad debt reserve. Savings institutions were required to recapture any reserves in excess of the amounts allowed except for reserves established after the end of the base year. For Oconee Federal Savings and Loan Association, the reserve balance as of June 30, 1987 is preserved and is referred to as the base year reserve. The experience method authorizes a savings institution to add to its reserve at least the amount required to maintain the reserve balance as it existed at the end of its base year, even if this addition causes the reserve to exceed the permissible level computed using the experience method alone.
Taxable Distributions and Recapture.   Prior to the 1996 Act, federal tax bad debt reserves created prior to January 1, 1988 were subject to recapture into taxable income if the thrift institution failed to meet certain thrift asset and definitional tests. Federal legislation has eliminated these thrift-related recapture rules.
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At June 30, 2015, our total federal and South Carolina pre-1988 base year tax bad debt reserve was approximately $5.3 million. Under current law, pre-1988 federal base year reserves remain subject to recapture if a thrift institution makes certain non-dividend distributions, certain repurchases any of its stock, pays dividends in excess of tax earnings and profits, or ceases to maintain a thrift or bank charter.
Alternative Minimum Tax.   The Internal Revenue Code of 1986, as amended imposes an alternative minimum tax (“AMT”) at a rate of 20% on a base of regular taxable income plus certain tax preferences (“alternative minimum taxable income” or “AMTI”). The AMT is payable to the extent such AMTI is in excess of an exemption amount and the AMT exceeds the regular income tax. Net operating losses can offset no more than 90% of AMTI. Certain payments of AMT may be used as credits against regular tax liabilities in future years. Oconee Federal Financial Corp. and Oconee Federal Savings and Loan Association have not been subject to the AMT and have no such amounts available as credits for carryover.
Net Operating Loss Carryovers.   A financial institution may carry back net operating losses to the preceding two taxable years and forward to the succeeding 20 taxable years. A net operating loss carryforward of  $375 thousand was acquired as part of the Stephens Federal acquisition. At June 30, 2015, $364 thousand of this carryforward remained.
Corporate Dividends-Received Deduction.   Oconee Federal Financial Corp. may exclude from its income 100% of dividends received from Oconee Federal Savings and Loan Association as a member of the same affiliated group of corporations. The corporate dividends-received deduction is generally 80% in the case of dividends received from 20%-or-more-owned domestic corporations and 70% in the case of dividends received from less-than-20%-owned domestic corporations.
State and Local Taxation
State Taxation.   Oconee Federal Financial Corp. files a South Carolina income tax return, and Oconee Federal Savings and Loan Association files South Carolina and Georgia income tax returns. State income tax rates are 4.5% to 6% in South Carolina and 6% in Georgia. For these purposes, state taxable income generally means federal taxable income subject to certain modifications, primarily the exclusion of interest income on United States obligations, state income tax deductions, and adjustments for bonus depreciation deductions. Oconee Federal Savings and Loan also files and pays business personal property tax and Business Occupation Tax in the state of Georgia.
SUPERVISION AND REGULATION
General
As a federal savings association, Oconee Federal Savings and Loan Association is subject to examination and regulation by the OCC, and is also subject to examination by the FDIC. The federal system of regulation and supervision establishes a comprehensive framework of activities in which Oconee Federal Savings and Loan Association may engage and is intended primarily for the protection of depositors and the FDIC’s Deposit Insurance Fund, and not for the protection of security holders. Under this system of federal regulation, financial institutions are periodically examined to ensure that they satisfy applicable standards with respect to their capital adequacy, assets, management, earnings, liquidity and sensitivity to market interest rates. Oconee Federal Savings and Loan Association also is regulated to a lesser extent by the Federal Reserve Board, which governs the reserves to be maintained against deposits and other matters. Oconee Federal Savings and Loan Association must comply with consumer protection regulations issued by the Consumer Financial Protection Bureau. Oconee Federal Savings and Loan Association also is a member of and owns stock in the Federal Home Loan Bank of Atlanta, which is one of the eleven regional banks in the Federal Home Loan Bank System. The OCC examines Oconee Federal Savings and Loan Association and prepares reports for the consideration of its Board of Directors on any operating deficiencies. Oconee Federal Savings and Loan Association’s relationship with its depositors and borrowers also is regulated to a great extent by federal law and, to a much lesser extent, state law, especially in matters concerning the ownership of deposit accounts, the form and content of Oconee Federal Savings and Loan Association’s loan documents and certain consumer protection matters.
As savings and loan holding companies, Oconee Federal Financial Corp. and Oconee Federal, MHC are subject to examination and supervision by, and be required to file certain reports with, the Federal Reserve Board.
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Set forth below are certain material regulatory requirements that are applicable to Oconee Federal Savings and Loan Association, Oconee Federal Financial Corp. and Oconee Federal, MHC. This description of statutes and regulations is not intended to be a complete description of such statutes and regulations and their effects on us. Any change in these laws or regulations, whether by Congress or the applicable regulatory agencies, could have a material adverse impact on us and our operations.
Federal Legislation
The Dodd-Frank Act made significant changes to the regulatory structure for depository institutions and their holding companies. However, the Dodd-Frank Act’s changes go well beyond that and affect the lending, investments and other operations of all depository institutions. The Dodd-Frank Act required the Federal Reserve Board to set minimum capital levels for both bank holding companies and savings and loan holding companies that are as stringent as those required for the insured depository subsidiaries, and the components of Tier 1 capital for holding companies were restricted to capital instruments that were then currently considered to be Tier 1 capital for insured depository institutions. The legislation also established a floor for capital of insured depository institutions that cannot be lower than the standards in effect upon passage, and directed the federal banking regulators to implement new leverage and capital requirements that take into account off-balance sheet activities and other risks, including risks relating to securitized products and derivatives.
The Dodd-Frank Act created a new Consumer Financial Protection Bureau with broad powers to supervise and enforce consumer protection laws. The Consumer Financial Protection Bureau has broad rule-making authority for a wide range of consumer protection laws that apply to all banks and savings institutions such as Oconee Federal Savings and Loan Association, including the authority to prohibit “unfair, deceptive or abusive” acts and practices. The Consumer Financial Protection Bureau has examination and enforcement authority over all banks and savings institutions with more than $10 billion in assets. Banks and savings institutions with $10 billion or less in assets are still examined for compliance by their applicable bank regulators. The new legislation also weakened the federal preemption available for national banks and federal savings associations, and gave state attorneys general the ability to enforce applicable federal consumer protection laws.
The Dodd-Frank Act broadened the base for FDIC insurance assessments. Assessments are now based on the average consolidated total assets less tangible equity capital of a financial institution, rather than on total deposits. The legislation also permanently increased the maximum amount of deposit insurance for banks, savings institutions and credit unions to $250,000 per depositor, retroactive to January 1, 2008. The Dodd-Frank Act increased stockholder influence over boards of directors by requiring companies to give stockholders a non-binding vote on executive compensation and so-called “golden parachute” payments. The legislation also directs the Federal Reserve Board to promulgate rules prohibiting excessive compensation paid to bank holding company executives, regardless of whether the company is publicly traded or not. Further, the legislation requires that originators of securitized loans retain a percentage of the risk for transferred loans, directs the Federal Reserve Board to regulate pricing of certain debit card interchange fees and contains a number of reforms related to mortgage origination.
Many provisions of the Dodd-Frank Act involve delayed effective dates and/or require implementing regulations or have not been issued in final form. Their impact on our operations cannot yet fully be assessed. However, it is likely that the Dodd-Frank Act will result in an increased regulatory burden and compliance, operating and interest expense for Oconee Federal Savings and Loan Association and Oconee Federal Financial Corp.
Federal Banking Regulation
Business Activities.   A federal savings and loan association derives its lending and investment powers from the Home Owners’ Loan Act, as amended, and the federal regulations thereunder. Under these laws and regulations, Oconee Federal Savings and Loan Association may invest in mortgage loans secured by residential and commercial real estate, commercial business and consumer loans, certain types of debt securities and certain other assets, subject to applicable limits. Oconee Federal Savings and Loan Association also may establish subsidiaries that may engage in certain activities not otherwise permissible
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for Oconee Federal Savings and Loan Association, including real estate investment and securities and insurance brokerage. The Dodd-Frank Act authorized banks and savings and loan associations to pay interest on business checking accounts, effective July 21, 2011.
Capital Requirements.   On July 9, 2013, the OCC and the other federal bank regulatory agencies issued a final rule that will revise their risk-based capital requirements and the method for calculating risk-weighted assets to make them consistent with agreements that were reached by the Basel Committee on Banking Supervision and certain provisions of the Dodd-Frank Act. The final rule applies to all depository institutions, top-tier bank holding companies with total consolidated assets of  $500 million or more and top-tier savings and loan holding companies.
The rule establishes a new common equity Tier 1 minimum capital requirement (4.5% of risk-weighted assets), increases the minimum Tier 1 capital to risk-based assets requirement (from 4.0% to 6.0% of risk-weighted assets) and assigns a higher risk weight (150%) to exposures that are more than 90 days past due or are on nonaccrual status and to certain commercial real estate facilities that finance the acquisition, development or construction of real property.
The rule also includes changes in what constitutes regulatory capital, some of which are subject to a two-year transition period. These changes include the phasing-out of certain instruments as qualifying capital. In addition, Tier 2 capital is no longer limited to the amount of Tier 1 capital included in total capital. Mortgage servicing rights, certain deferred tax assets and investments in unconsolidated subsidiaries over designated percentages of common stock will be required to be deducted from capital, subject to a two-year transition period. Finally, Tier 1 capital will include accumulated other comprehensive income (which includes all unrealized gains and losses on available for sale debt and equity securities), subject to a two-year transition period. Oconee Federal Savings and Loan Association had the one-time option in the first quarter of 2015 to permanently opt out of the inclusion of accumulated other comprehensive income in its capital calculation. Oconee Federal Savings and Loan Association chose to opt out in order to reduce the impact of market volatility on its regulatory capital levels.
The new capital requirements also include changes in the risk-weights of assets to better reflect credit risk and other risk exposures. These include a 150% risk weight (up from 100%) for certain high volatility commercial real estate acquisition, development and construction loans and nonresidential mortgage loans that are 90 day past due or otherwise on nonaccrual status; a 20% (up from 0%) credit conversion factor for the unused portion of a commitment with an original maturity of one year or less that is not unconditionally cancellable; a 250% risk weight (up from 100%) for mortgage servicing and deferred tax assets that are not deducted from capital; and increased risk-weights (from 0% to up to 600%) for equity exposures.
Finally, the rule limits capital distributions and certain discretionary bonus payments if the banking organization does not hold a “capital conservation buffer” consisting of 2.5% of common equity Tier 1 capital to risk-weighted assets in addition to the amount necessary to meet its minimum risk-based capital requirements.
The final rule was effective for Oconee Federal Savings and Loan Association and Oconee Federal Financial Corp. on January 1, 2015. The capital conservation buffer requirement will be phased in beginning January 1, 2016 at 0.625% of risk-weighted assets increasing each year until fully implemented at 2.5% on January 1, 2019.
We have conducted a pro forma analysis of the application of these new capital requirements as of June 30, 2015. We have determined that we meet all of these new requirements, including the full 2.5% capital conservation buffer, as if these new requirements had been in effect on that date.
Loans-to-One Borrower.   Generally, a federal savings and loan association may not make a loan or extend credit to a single or related group of borrowers in excess of 15% of unimpaired capital and surplus. An additional amount may be loaned, equal to 10% of unimpaired capital and surplus, if the loan is secured by readily marketable collateral, which generally does not include real estate. As of June 30, 2015, Oconee Federal Savings and Loan Association’s largest lending relationship with a single or related group of borrowers totaled $3.1 million, which represented 3.9% of unimpaired capital and surplus; therefore, Oconee Federal Savings and Loan Association was in compliance with the loans-to-one borrower limitations.
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Qualified Thrift Lender Test.   As a federal savings and loan association, Oconee Federal Savings and Loan Association is subject to a qualified thrift lender, or “QTL” test. Under the QTL test, Oconee Federal Savings and Loan Association must maintain at least 65% of its “portfolio assets” in “qualified thrift investments” (primarily residential mortgage loans and related investments, including mortgage-backed securities) in at least nine months of the most recent 12-month period. “Portfolio assets” generally means total assets of a savings institution, less the sum of specified liquid assets up to 20% of total assets, goodwill and other intangible assets, and the value of property used in the conduct of the savings and loan association’s business.
A savings and loan association that fails the qualified thrift lender test must operate under specified restrictions set forth in the Home Owners’ Loan Act. In addition, the Dodd-Frank Act made non-compliance with the QTL test subject to agency enforcement action for a violation of law. At June 30, 2015, Oconee Federal Savings and Loan Association maintained approximately 91% of its portfolio assets in qualified thrift investments and, therefore, satisfied the QTL test.
Capital Distributions.   Federal regulations govern capital distributions by a federal savings and loan association, which include cash dividends, stock repurchases and other transactions charged to the savings and loan association’s capital account. A federal savings association must file an application with the OCC for approval of a capital distribution if:

the total capital distributions for the applicable calendar year exceed the sum of the association’s net income for that year to date plus the association’s retained net income for the preceding two years;

the association would not be at least adequately capitalized following the distribution;

the distribution would violate any applicable statute, regulation, agreement or regulatory-imposed condition; or

the association is not eligible for expedited treatment of its application or notice filings.
Even if an application is not otherwise required, every savings association that is a subsidiary of a holding company must still file a notice with the Federal Reserve Board at least 30 days before our board of directors declares a dividend or approves a capital distribution.
A notice or application for a capital distribution may be disapproved if:

the association would be undercapitalized following the distribution;

the proposed capital distribution raises safety and soundness concerns; or

the capital distribution would violate a prohibition contained in any statute, regulation or agreement.
In addition, the Federal Deposit Insurance Act provides that an insured depository institution may not make any capital distribution, if after making such distribution, the institution would fail to meet any applicable regulatory capital requirement. A federal savings association also may not make a capital distribution that would reduce its regulatory capital below the amount required for the liquidation account established in connection with its conversion to stock form. In addition, beginning in 2016, Oconee Federal Savings and Loan Association’s ability to pay dividends will be limited if Oconee Federal Savings and Loan Association does not have the capital conservation buffer required by the new capital rules, which may limit the ability of Oconee Federal Financial Corp. to pay dividends to its stockholders. See “— Capital Requirements.”
Liquidity.   A federal savings and loan association is required to maintain a sufficient amount of liquid assets to ensure its safe and sound operation. We seek to maintain a ratio of liquid assets not subject to pledge as a percentage of deposits and borrowings of 4.0% or greater of highly liquid assets. At June 30, 2015, this ratio was 35.5%. Total cash and cash equivalents and investments was 6.6% at June 30, 2015.
Community Reinvestment Act and Fair Lending Laws.   All federal savings and loan associations have a responsibility under the Community Reinvestment Act and related regulations to help meet the credit needs of their communities, including low- and moderate-income borrowers. An association’s record of
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compliance with the Community Reinvestment Act is assessed in regulatory examinations. In addition, the Equal Credit Opportunity Act and the Fair Housing Act prohibit lenders from discriminating in their lending practices on the basis of characteristics specified in those statutes. An association’s failure to comply with the provisions of the Community Reinvestment Act could, at a minimum, result in denial of certain corporate applications, such as branches or mergers, or in restrictions on its activities. The failure to comply with the Equal Credit Opportunity Act and the Fair Housing Act could result in enforcement actions by regulators and the Department of Justice. Oconee Federal Savings and Loan Association received a “satisfactory” Community Reinvestment Act rating in its most recent federal examination.
Transactions with Related Parties.   A federal savings and loan association’s authority to engage in transactions with its “affiliates” is limited by OCC regulations and by Sections 23A and 23B of the Federal Reserve Act and it’s implementing Regulation W. The term “affiliate” for these purposes generally means any company that controls, is controlled by, or is under common control with an insured depository institution such as Oconee Federal Savings and Loan Association. Oconee Federal Financial Corp. and Oconee Federal, MHC are affiliates of Oconee Federal Savings and Loan Association. In general, transactions with affiliates must be on terms that are as favorable to the savings and loan association as comparable transactions with non-affiliates and are subject to certain quantitative limits and collateral requirements. In addition, savings and loan associations are prohibited from lending to any affiliates that are engaged in activities that are not permissible for bank holding companies and from purchasing the securities of any affiliate, other than a subsidiary. Transactions with affiliates also must be consistent with safe and sound banking practices, not involve low-quality assets and be on terms that are as favorable to the institution as comparable transactions with non-affiliates.
Oconee Federal Savings and Loan Association’s authority to extend credit to its directors, executive officers and 10% shareholders, as well as to entities controlled by such persons, is currently governed by the requirements of Sections 22(g) and 22(h) of the Federal Reserve Act and Regulation O of the Federal Reserve Board. Among other things, those provisions require that extensions of credit to insiders:

be made on terms that are substantially the same as, and follow credit underwriting procedures that are not less stringent than, those prevailing for comparable transactions with unaffiliated persons and that do not involve more than the normal risk of repayment or present other unfavorable features (subject to certain exemptions for lending programs that are available to all employees); and