UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



FORM 10-Q



☑ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2020



OR



☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the period from _____ to _____



333-4028la

(Commission file No.)

 

MINISTRY PARTNERS INVESTMENT COMPANY, LLC

(Exact name of registrant as specified in its charter)

 



 915 West Imperial Highway, Brea, Suite 120, California, 92821

(Address of principal executive offices)

 

(714) 671-5720

(Registrant's telephone number, including area code)



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 such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑   No ☐.



Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☑   No ☐ 



Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company filer, or an emerging growth company. See the definitions of “accelerated filer,” “large accelerated filer,” “smaller reporting company,” and “emerging growth company.” in Rule 12b-2 of the Exchange Act. (check one):



If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐



Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐   No ☑.



At June 30, 2020, registrant had issued and outstanding 146,522 units of its Class A common units. The information contained in this Form 10-Q should be read in conjunction with the registrant’s Annual Report on Form 10-K for the year ended December 31, 2019.

 

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MINISTRY PARTNERS INVESTMENT COMPANY, LLC



FORM 10-Q



TABLE OF CONTENTS









 

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PART I - FINANCIAL INFORMATION

Item 1: Financial Statements

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Ministry Partners Investment Company, LLC and Subsidiaries

Consolidated Balance Sheets

June 30, 2020 and December 31, 2019

(Dollars in thousands Except Unit Data)





 



The accompanying notes are an integral part of these consolidated financial statements.

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 Ministry Partners Investment Company, LLC and Subsidiaries

Consolidated Statements of Income (Unaudited)

For the three and six month periods ended June 30, 2020 and 2019

(Dollars in thousands)







The accompanying notes are an integral part of these consolidated financial statements.

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Ministry Partners Investment Company, LLC and Subsidiaries

Consolidated Statements of Cash Flows (Unaudited)

For the six months ended June 30, 2020 and 2019

(Dollars in thousands)





The accompanying notes are an integral part of these consolidated financial statements.

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Ministry Partners Investment Company, LLC

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The accounting and financial reporting policies of MINISTRY PARTNERS INVESTMENT COMPANY, LLC (the “Company”) and its wholly-owned subsidiaries, Ministry Partners Funding, LLC, MP Realty Services, Inc., Ministry Partners Securities, LLC, and Ministry Partners for Christ, Inc. conform to accounting principles generally accepted in the United States and general financial industry practices. The accompanying interim consolidated financial statements have not been audited. A more detailed description of the Company’s accounting policies is included in its 2019 annual report filed on Form 10-K. In the opinion of management, all adjustments (which include only normal recurring adjustments) necessary to present fairly the financial position, results of operations, and cash flows at June 30, 2020 and for the six months ended June 30, 2020 and 2019 have been made.

Certain information and note disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. The results of operations for the periods ended June 30, 2020 and 2019 are not necessarily indicative of the results for the full year.



Note 1: Nature of Business and Summary of Significant Accounting Policies

Nature of Business

The Company was formed in California in 1991. The Company’s primary operations are financing commercial real property secured loans and providing investment services for the benefit of evangelical churches, ministries, and individuals.

The Company’s wholly-owned subsidiaries are:

The Company formed MPF in 2007 and then deactivated the subsidiary on November 30, 2009. In December 2014, the Company reactivated MPF to enable it to serve as collateral agent for loans held as collateral for its Secured Investment Certificates. The Company formed MP Realty in November 2009 and obtained a license to operate as a corporate real

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estate broker through the California Department of Real Estate on February 23, 2010. MP Realty has conducted limited operations to date. The Company formed MP Securities on April 26, 2010 to provide investment and financing solutions for individuals, churches, charitable institutions, and faith-based organizations. MP Securities acts as the selling agent for the Company’s public and private placement investor notes.

The Company formed MPC on December 28, 2018 to be used exclusively for religious and charitable purposes within the meaning of Section 501(c)(3) of the U.S. Internal Revenue Code of 1986. MPC is a not-for-profit corporation formed and organized as a private foundation under Delaware law that will make charitable grants to Christian education, and provide accounting, consulting, and financial expertise to aid evangelical Christian ministries. On August 23, 2019, the Internal Revenue Service granted MPC tax-exempt status as a private foundation under Section 501(c)(3) of the Internal Revenue Code. The MPC Board of Directors approved its first charitable grant during the six months ended June 30, 2020.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. Management eliminates all significant inter‑company balances and transactions in consolidation.

Conversion to LLC

Effective as of December 31, 2008, the Company converted its form of organization from a California corporation to a California limited liability company by filing the Articles of Organization-Conversion with the California Secretary of State. At that time, the separate existence of Ministry Partners Investment Corporation ceased, and the entity continued by operation of law under the name Ministry Partners Investment Company, LLC.

Since the conversion became effective, a group of managers provides oversight of the Company’s affairs. The managers have full, exclusive, and complete discretion, power, and authority to oversee the management of Company affairs. As an LLC, the Company’s managers and members have entered into an Operating Agreement that governs the Company’s management structure and governance procedures.

Risks and Uncertainties

The outbreak of COVID-19 has adversely impacted the Company’s borrowers and could impair their ability to fulfill their financial obligations to the Company. On March 12, 2020, the President of the United States declared the COVID-19 outbreak in the U.S. a national emergency. At that time, due to the pandemic’s spread, state and local governments ordered non-essential businesses to close, banned public gatherings, and required residents to shelter at home. These initial orders required churches, faith-based ministries, private schools, daycare centers, and Christian colleges to discontinue public gatherings, worship services, classes, and conference events. Churches that had typically

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received weekly offerings of tithes and cash contributions became dependent on online giving options and contributions sent by mail. Since that time, state and local governments lifted the initial restrictions. However, spikes in the pandemic’s spread have caused some states to reinstate restrictions to some degree. Church revenues are also dependent on general economic conditions, including unemployment rates and economic disruption to businesses, schools, and financial markets. The U.S. Department of Labor estimates seasonally adjusted initial unemployment claims to be more than 48 million from March 21, 2020 through June 30, 2020, and that workers have filed more than 40 million unemployment insurance claims since the U.S. government declared a national emergency. Federal banking institutions have encouraged lenders to work with borrowers to provide loan payment relief. In addition, Congress enacted legislation that provided relief from reporting loan classifications that would have otherwise required adverse financial reporting obligations due to modifications granted to borrowers as a troubled debt restructuring (“TDR”) because of the COVID-19 pandemic. In addition, in response to COVID-19, the Federal Reserve reduced the Federal Funds rate to zero on March 16, 2020. The reduction in interest rates and other effects of the COVID-19 pandemic raise uncertainties that could negatively affect the Company’s net interest income and non-interest income. While there has been no material impact to the Company’s employees to date, COVID-19 could also potentially create widespread business continuity issues for the Company.

Congress, the President, and the Federal Reserve have taken several actions designed to cushion the economic fallout. Most notably, the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act was signed into law at the end of March 2020 as a $2 trillion legislative package. The goal of the CARES Act is to prevent a severe economic downturn through various measures, including direct financial aid to American families and economic stimulus to significantly impacted industry sectors. The package also includes extensive emergency funding for hospitals and providers.

On June 5, 2020, the Paycheck Protection Flexibility Act (“Flexibility Act”) was enacted and signed into law. The Flexibility Act amended the CARES Act to extend the covered period that measures eligibility for the loan forgiveness and required use of funds from June 30, 2020 to December 31, 2020. The Flexibility Act also extends the period within which to measure whether the loan will qualify for forgiveness to a twenty four (24) week period beginning on the date the loan is disbursed. Finally, the Flexibility Act provides that a borrower must use at least 60% of the proceeds of the PPP loan for payroll costs to be eligible for loan forgiveness. In addition to the general impact of COVID-19, certain provisions of the CARES Act, as well as other recent legislative and regulatory relief efforts, could have material direct and indirect effect on the Company’s operations.

The Company’s operations are dependent upon the willingness and ability of its employees, borrowers, noteholders, and investment clients to conduct financial transactions. If the global response to contain COVID-19 escalates to cause further damage to the economy or is unsuccessful in containing the virus, the Company could experience a

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material adverse effect on its business, financial condition, results of operations, and cash flows. While it is not possible to know the full extent that the impact of COVID-19, and resulting measures to curtail its spread, will have on the Company’s operations, the Company is disclosing potentially material items of which it is aware.

Cash, Cash Equivalents, and Restricted Cash

Cash equivalents include time deposits and highly liquid debt instruments with original maturities of three months or less. The Company had demand deposits and money market deposit accounts as of June 30, 2020 and December 31, 2019.

The National Credit Union Insurance Fund insures a portion of the Company’s cash held at credit unions, and the Federal Deposit Insurance Corporation insures a portion of cash held by the Company at other financial institutions. The Company keeps cash that may exceed insured limits. Management does not expect to incur losses in these cash accounts.

The Company maintains cash accounts with RBC Dain as part of its clearing agreement, and with the Central Registration Depository for regulatory purposes. The cash in these accounts is considered restricted cash and is classified as such on our balance sheet.

Certificates of Deposit

Certificates of deposit include investments in certificates of deposit held at financial institutions that carry original maturities of greater than three months. The Company had $1,754 thousand in certificates of various terms greater than three months as of June 30, 2020. The Company had no certificates of deposit with original maturities of greater than three months at December 31, 2019.

Details of certificates owned by the Company are as follows (dollars in thousands):

Reclassifications

The Company has made certain reclassifications to the 2019 financial statements to conform to the 2020 presentation. These reclassifications do not affect members’ equity or consolidated balance sheets for the six months ended June 30, 2020.

Use of Estimates

The Company’s creation of consolidated financial statements that conform to United States Generally Accepted Accounting Principles (“U.S. GAAP”) requires management to make estimates and assumptions. These estimates and assumptions affect the reported amounts

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of assets and liabilities at the date of the financial statements. The estimates and assumptions made by the Company’s management also affect the reported amounts of revenues and expenses during the reporting period. These estimates govern areas such as the allowance for credit losses and the fair value of our financial instruments. Actual results could differ from these estimates.

Investment in Joint Venture

In 2016, the Company entered into a joint venture agreement to develop and sell property we acquired as part of a Deed in Lieu of Foreclosure agreement reached with one of our borrowers.  The joint venture owns a property located in Santa Clarita, California.

On a periodic basis, management analyzes the Company’s investment in the joint venture for impairment. In this analysis, management compares the carrying value of the investment to the estimated value of the underlying real property. The Company records any impairment charges as a valuation allowance against the value of the asset. The Company’s share of income and expenses of the joint venture will increase or decrease the Company’s investment in the joint venture. Management records these valuation changes as realized gains or losses on investment on the Company’s consolidated statements of operations.

Loans Receivable

The Company reports loans that management has the intent and ability to hold for the foreseeable future at their outstanding unpaid principal balance adjusted for an allowance for loan losses, deferred loan fees and costs, and loan discounts.

Interest Accrual on Loans Receivable

The Company accrues loan interest income daily. Management defers loan origination fees and costs generated in making a loan. The Company amortizes these fees and costs as an adjustment to the related loan yield using the interest method.

Loan discounts are related to restructured loans and represent interest accrued and unpaid which the Company added to the restructured loan’s principal balance. The Company does not accrete discounts to income on impaired loans. However, when management determines that a previously impaired loan is no longer impaired, the Company begins accreting loan discounts to interest income over the term of the restructured loan. For loans purchased from third parties, loan discounts also are the differences between the purchase price and the recorded principal balance of the loan. The Company accretes these discounts to interest income over the term of the loan using the interest method.

Management considers a loan impaired if it concludes the collection of principal or interest according to the terms of the loan agreement doubtful. The Company stops the accrual of interest when management determines the loan is impaired.

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For loans that the Company places on nonaccrual status, management reverses all uncollected accrued interest against interest income. Management accounts for the interest on these loans on the cash basis or cost-recovery method until the loan qualifies for return to accrual status. It is not until all the principal and interest amounts contractually due are brought current and future payments are reasonably assured that the Company returns a loan to accrual status.

Allowance for Loan Losses

The Company sets aside an allowance for loan losses by charging the provision for loan losses account on the Company’s consolidated statements of income. This charge decreases the Company’s earnings. Management charges off the part of loan balances it believes it will not collect against the allowance. The Company credits subsequent recoveries, if any, to the allowance.

Loan Portfolio Segments and Classes

Management separates the loan portfolio into portfolio segments for purposes of evaluating the allowance for loan losses. A portfolio segment is defined as the level at which the Company develops and documents a systematic method for determining its allowance for loan losses. The Company segments the loan portfolio based on loan types and the underlying risk factors present in each loan type. Management periodically reviews and revises such risk factors, as it considers appropriate.

The Company’s loan portfolio consists of one segment – church loans. Management has segregated the loan portfolio into the following portfolio classes:

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Allowance for Loan Loss Evaluation

Management evaluates the allowance for loan losses on a regular basis. The Company establishes the allowance for loan losses based upon its periodic review of several factors management believes influences the collectability of the loans, including:

This evaluation is subjective, as it requires estimates that are subject to significant revision as more information becomes available.

The allowance consists of general and specific components. The general component covers non-classified loans. Management bases the general reserve on the Company’s loss history adjusted for qualitative factors. These qualitative factors are significant factors management considers likely to cause estimated credit losses associated with the Company’s existing portfolio to differ from its historical loss experience. Management adjusts these factors on an on-going basis, some of which include:

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Loans that management has classified as impaired receive a specific reserve. For such loans, an allowance is established when the carrying value of that loan is higher than the amount management expects to receive. Management uses multiple approaches to determine the amount the Company expects to receive. These include the discounted cash flow method, using the loan’s underlying collateral value, or using the observable market price of the impaired loan.

Impairment Analysis

Impaired loans include non-accrual loans, loans 90 days or more past due and still accruing, and restructured loans. Non-accrual loans are loans on which management has discontinued interest accruals. Restructured loans are loans in which the Company has granted the borrower a concession due to financial distress. Concessions are usually a reduction of the interest rate or a change in the original repayment terms.

The Company monitors impaired loans on an ongoing basis as part of management’s loan review and work out process. All loans in the loan portfolio are subject to impairment analysis. The Company reviews its loan portfolio monthly by examining several data points. These include reviewing delinquency reports, any new information related to the financial condition of its borrowers, and any new appraisal or other collateral valuation. Through this process, the Company identifies potential impaired loans. Management generally deems a loan is impaired when current facts and circumstances indicate that it is probable that a borrower will be unable to make payments according to the loan agreement. If management has not already deemed a loan impaired, it will classify the loan as non-accrual when it becomes 90 days or more past due.

Management considers several factors when determining impairment status. These factors include the loan’s payment status, the value of any secured collateral, and the probability of collecting scheduled payments when due. Management generally does not classify loans that experience minor payment delays or shortfalls as impaired. Management determines the significance of payment delays or shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower. These

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circumstances include the length and reasons for the delay, the borrower's payment history, and the amount of the shortfall in relation to the principal and interest owed.

Management measures impairment on a loan-by-loan basis using one of three methods:

Troubled Debt Restructurings

A troubled debt restructuring is a loan for which the Company, for reasons related to a borrower’s financial difficulties, grants a concession to a borrower that the Company would not otherwise consider. A restructuring of a loan usually involves an interest rate modification, extension of the maturity date, payment reduction, or reduction of accrued interest owed on the loan on a contingent or absolute basis. Under Accounting Standards Codification (“ASC”) 340-10, the concessions granted must last longer than an insignificant period of time for the loan to be considered a troubled debt restructuring. In cases where borrowers are granted new terms that provide for a reduction of either interest or principal then due and payable, management measures any impairment on the restructured loan in the same manner as for impaired loans as noted above.

Management considers loans that it renews at below-market terms to be troubled debt restructurings if the below-market terms represent a concession due to the borrower’s troubled financial condition. The Company classifies troubled debt restructurings as impaired loans. For the loans that are not considered to be collateral-dependent, management measures troubled debt restructurings at the present value of estimated future cash flows using the loan's effective rate at start of the loan. The Company reports the change in the present value of cash flows related to the passage of time as interest income. If the loan is considered to be collateral-dependent, impairment is measured based on the fair value of the collateral.

In accordance with industry standards, the Company classifies a loan as impaired if it has been modified as part of a troubled debt restructuring. However, troubled debt restructures, upon meeting certain performance conditions, are eligible to receive non-classified loan ratings (pass or watch) and to be moved out of non-accrual status. These loans continue to be included in total impaired loans but not necessarily in non-accrual or collateral-dependent loans.

Section 403 of the CARES Act provides that a qualifying loan modification or extension is exempt by law from classification as a troubled debt restructuring pursuant to FASB ASC 340-10. On April 7, 2020, the Office of the Comptroller of the Currency and related financial agencies issued OCC Bulletin 2020-35, which provides further guidance

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regarding when a loan modification or extension is not subject to classification as a TDR pursuant to FASB ASC 340-10.

Under section 4013 of the CARES Act, financial institutions may elect not to categorize a loan modification as a troubled debt restructuring if it is

For all other loan modifications, federal agencies that regulate financial institutions have confirmed with FASB that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to relief being extended, would not be classified as a troubled debt restructuring. This treatment includes short-term modifications including payment deferrals, fee waivers, and extension of repayment terms. Management of the Company has elected to pursue taking these measures with some of its qualifying borrowers during the three months ended June 30, 2020.

Loan Charge-offs

Management charges off loans or portions thereof when it determines the loans or portions of the loans are uncollectible. The Company evaluates collectability periodically on all loans classified as “Loans of Lesser Quality.” Key factors management uses in assessing a loan’s collectability are the financial condition of the borrower, the value of any secured collateral, and the terms of any workout agreement between the Company and the borrower. In workout situations, the Company charges off the amount deemed uncollectible due to the terms of the workout, the inability of the borrower to make agreed upon payments, and the value of the collateral securing the loan.

Credit Quality Indicators

The Company has established a loan grading system to assist its management in analyzing and monitoring the loan portfolio. The Company classifies loans it considers lesser quality (“classified loans”) as watch, special mention, substandard, doubtful, or loss assets. The loan grading system is as follows:

Pass:

The borrower has sufficient cash to fund its debt obligations and should be able to obtain similar financing from other lenders with comparable terms. The risk of default is considered low.

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Watch:

These loans exhibit potential or developing weaknesses that deserve extra attention from credit management personnel. If the developing weakness is not corrected or mitigated, there may be deterioration in the ability of the borrower to repay the debt in the future. Loans graded “watch” must be reported to executive management and the Company’s Board of Managers. Potential for loss under adverse circumstances is elevated for loans in this category, but is not foreseeable. Watch loans are considered pass loans.

Special mention:

These credit facilities exhibit potential or actual weaknesses that present a higher potential for loss under adverse circumstances, and deserve management’s close attention. If uncorrected, these weaknesses may result in deterioration of the prospects for repayment of the loan under the terms of the loan agreement at some future date.

Substandard:

Loans and other credit extensions bearing this grade are considered to be inadequately protected by the current sound worth and debt service capacity of the borrower or of any pledged collateral. These obligations, even if apparently protected by the estimated market value of the collateral, have well-defined weaknesses related to adverse financial, managerial, economic, ministry, or environmental conditions, which have clearly jeopardized repayment of principal and interest as, originally intended. Furthermore, there is the possibility that some future loss will be sustained if such weaknesses are not corrected.

Doubtful:

This classification consists of loans that display the properties of substandard loans with the added characteristic that the severity of the weaknesses makes collection or liquidation in full highly questionable or improbable based upon currently existing facts, conditions, and value of the collateral. The probability of some loss is very high, but because of certain important and reasonably specific factors, the amount of loss cannot be exactly determined. Such pending factors could include merger or liquidation, the possibility of the borrower obtaining additional capital, the borrower’s ability to refinance the loan, or the ability of the borrower to pledge additional collateral.

Loss:

Loans in this classification are considered uncollectible and cannot be justified as a viable asset. This classification does not mean the loan has absolutely no recovery value, but that it is neither practical nor desirable to defer writing off this loan even though partial recovery may be obtained in the future.

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Revenue Recognition

The Company recognizes two primary types of revenue: interest income and non-interest income.

Interest Income

The Company’s principal source of revenue is interest income from loans, which is not within the scope of ASU 2014-09, Revenue from Contracts with Customers and all subsequent amendments to the ASU (collectively, "ASC 606"). Refer to the discussion in “Loans Receivable” above to understand the Company’s recognition of interest income.

Non-interest Income

Non-interest income includes revenue from various types of transactions and services provided to customers. Contracts with customers can include multiple services, which are accounted for as separate “performance obligations” if they are determined to be distinct. Our performance obligations to our customers are generally satisfied when we transfer the promised good or service to our customer, either at a point in time or over time. The Company recognizes revenue from a performance obligation that is transferred at a point in time at the time that the customer obtains control over the promised good or service. Revenue from our performance obligations satisfied over time are recognized in a manner that depicts our performance in transferring control of the good or service, which is generally measured based on time elapsed, as our customers simultaneously receive and consume the benefit of our services as they are provided.

Payment for the majority of our services is considered to be variable consideration, as the amount of revenues we expect to receive is subject to factors outside of our control, including market conditions. Variable consideration is only included in revenue when amounts are not subject to significant reversal, which is generally when uncertainty around the amount of revenue to be received is resolved.

Wealth advisory fees

Generally, management recognizes wealth advisory fees over time as the Company renders services to its clients. The Company receives these fees either based on a percentage of the market value of the assets under management, or as a fixed fee based on the services the Company provides to the client. The Company’s delivery of these services represents its related performance obligations. The Company typically collects the wealth advisory fees in advance at the beginning of each quarter from the client’s account. Management recognizes these fees ratably over the related billing period as the Company fulfills its performance obligation. In addition, management recognizes any commissions or referral fees paid related to this revenue ratably over the related billing period as the Company fulfills its performance obligation.

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Investment brokerage fees

Investment brokerage fees arise from the selling, distribution, and trade execution services. The Company’s execution of these services fulfills its related performance obligations.

The Company also offers sales and distribution services, and earns commissions through the sale of annuity and mutual fund products. The Company acts as an agent in these transactions and recognizes revenue at a point in time when the customer executes a contract with a product carrier. The Company may also receive trailing commissions and 12b-1 fees related to mutual fund and annuity products. Management recognizes this revenue in the period when it is earned, estimating the revenue if necessary based on the balance of the investment and the commission rate on the product.

The Company earns and recognizes trade execution commissions on the trade date, which is when the Company fulfills its performance obligation. Payment for the trade execution is due on the settlement date.

Lending Fees

Lending fees represent charges earned for services we provide as part of the lending process, such as late charges, servicing fees, and documentation fees. The Company recognizes late charges as earned when they are paid. The Company recognizes revenue on other lending fees in the period in which the Company has performed the service.

Gains on sales of loans receivable

From time to time the Company sells participation interests in loans receivable that it services. Upon completion of the loan sale, the Company recognizes a gain based on certain factors including the maturity date of the loan, the percentage of the loan sold and retained, and the servicing rate charged to the participant on the sold portion.

Other non-interest income

Other non-interest income includes fees earned based on service contracts the Company has entered into with credit unions. The Company recognizes the revenue monthly based on the terms of the contracts, which require monthly payments for services the Company performs.

Gains/losses on sales of foreclosed assets

The Company records a gain or loss from the sale of foreclosed assets when control of the property transfers to the buyer, which generally occurs at the time of an executed deed. When the Company finances the sale of foreclosed asset to the buyer, the Company assesses whether the buyer is committed to perform their obligation under the contract and whether collectability of the transaction price is probable. Once these criteria are met, the foreclosed asset is derecognized and the gain or loss on sale is recorded upon the transfer of control of the property to the buyer. In determining the gain or loss on the sale, the

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Company adjusts the transaction price and related gain (loss) on sale if a significant financing component is present.

Foreclosed Assets

Management records assets acquired through foreclosure or other proceedings at fair market value less estimated costs of disposal. Management determines the fair value at the date of foreclosure, which establishes a new cost for the asset. After foreclosure, the Company carries the asset at the lower of cost or fair value, less estimated costs of disposal. Management evaluates these real estate assets regularly to ensure that the financial statements are carrying the recorded amount at management’s estimate of the current fair value and, if necessary, ensuring that valuation allowances reduce the carrying amount to fair value less estimated costs of disposal. Revenue and expense from the operation of the foreclosed assets and changes in the valuation allowance are included in net expenses from foreclosed assets. When the Company sells the foreclosed property, it recognizes a gain or loss on the sale equal to the difference between the sales proceeds received and the carrying amount of the property.

Transfers of Financial Assets

Management accounts for transfers of financial assets as sales when the Company has surrendered control over the asset. Management deems the Company has surrendered control over transferred assets when:

The Company, from time to time, sells participation interests in mortgage loans it has originated or acquired. In order to recognize the transfer of a portion of a financial asset as a sale, the transferred portion, and any portion that continues to be held by the transferor must represent a participating interest, and the transfer of the participating interest must meet the conditions for surrender of control. To qualify as a participating interest:

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If the transaction does not meet either the participating interest or surrender of control criteria, management accounts for it as a secured borrowing arrangement.

Under some circumstances, when the Company sells a participation in a wholly-owned loan receivable that it services, it retains loan-servicing rights, and records a servicing asset that is initially measured at fair value. As quoted market prices are generally not available for these assets, the Company estimates fair value based on the present value of future expected cash flows associated with the loan receivable. The Company amortizes servicing assets over the life of the associated receivable using the interest method. Any gain or loss recognized on the sale of a loan receivable depends in part on both the previous carrying amount of the financial asset involved in the sale, allocated between the asset sold and the interest that continues to be held by the Company based on its relative fair value at the date of transfer, and the proceeds received.

Property and Equipment

The Company states its furniture, fixtures, and equipment at cost, less accumulated depreciation. Management computes depreciation on a straight-line basis over the estimated useful lives of the assets. The useful lives of the Company’s assets range from three to seven years.

Debt Issuance Costs

Debt issuance costs consist of costs related to the acquisition of debt. The Company’s debt consists of borrowings from financial institutions and obligations to investors incurred through the sale of investor notes. Management amortizes these costs into interest expense over the contractual terms of the debt using the straight-line method, which approximates the interest method.

Employee Benefit Plan

The Company records contributions to the qualified employee retirement plan as compensation cost in the period incurred.

Income Taxes

The Company has elected to be treated as a partnership for income tax purposes. Therefore, the Company passes through its income and expenses to its members for tax reporting purposes.

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Tesoro Hills, LLC, is a joint venture in which the Company has an investment. Tesoro Hills, according to its operating agreement, has elected to be treated as a partnership for income tax purposes.

The Company and MP Securities are subject to a California LLC fee.

The Company uses a recognition threshold and a measurement attribute for the consolidated financial statement recognition and measurement of a tax position taken in a tax return. The Company recognizes benefits from tax positions in the consolidated financial statements only when it is more likely than not that the tax position will be sustained upon examination by the appropriate taxing authority that would have full knowledge of all relevant information. A tax position that meets the more-likely-than-not recognition threshold is measured at the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement. Tax positions that previously failed to meet the more-likely-than-not recognition threshold are recognized in the first subsequent financial reporting period in which that threshold is met. Management derecognizes previously recognized tax positions that no longer meet the more-likely-than-not recognition threshold in the first subsequent financial reporting period in which that threshold is no longer met.

New accounting guidance

Recently adopted accounting standards

In August 2018, the FASB issued ASU 2018-13, “Fair Value Measurement (Topic 820) - Changes to the Disclosure Requirements for Fair Value Measurement” (“ASU 2018-13”). ASU 2018-13 modifies the disclosure requirements on fair value measurements by requiring that Level 3 fair value disclosures include the range and weighted average of significant unobservable inputs used to develop those fair value measurements. For certain unobservable inputs, an entity may disclose other quantitative information in lieu of the weighted average if the entity determines that other quantitative information would be a more reasonable and rational method to reflect the distribution of unobservable inputs used to develop Level 3 fair value measurements. ASU 2018-13 was effective for the Company on January 1, 2020 and did not have a material impact on the Company’s financial statement disclosures.

In March 2020, various regulatory agencies issued an interagency statement on loan modifications and reporting for financial institutions working with borrowers affected by the Coronavirus. The interagency statement was effective immediately and impacted accounting for loan modifications. Under Accounting Standards Codification 310-40, “Receivables – Troubled Debt Restructurings by Creditors,” (“ASC 310-40”), a restructuring of debt constitutes a troubled debt restructuring (“TDR”) if the creditor, for economic or legal reasons related to the debtor’s financial difficulties, grants a concession to the debtor that it would not otherwise consider. The agencies confirmed with the staff of the FASB that short-term modifications made on a good faith basis in response to COVID-

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19 to borrowers who were current prior to any relief, are not to be considered TDRs. This includes short-term (e.g., six months) modifications such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. Borrowers considered current are those that are less than 30 days past due on their contractual payments at the time a modification program is implemented. This interagency guidance is expected to have a material impact on the Company’s financial statements; however, this impact cannot be quantified at this time.

Accounting Standards Pending Adoption

In June 2016, the FASB issued ASU 2016-13, “Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” ASU 2016-13 introduces an approach based on expected losses to estimate credit losses on certain types of financial instruments. ASU 2016-13 also modifies the impairment model for available-for-sale debt securities and provides for a simplified accounting model for purchased financial assets with credit deterioration since their origination. ASU 2016-13 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. Early adoption is permitted for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. The guidance requires companies to apply the requirements in the year of adoption through cumulative adjustment with some aspects of the update requiring a prospective transition approach. The Company’s preliminary evaluation indicates the provisions of ASU No. 2016-13 are expected to affect the level of the allowance for loan losses on the Company’s consolidated financial statements. Management has gathered all necessary data and reviewed potential methods to calculate the expected credit losses. The Company will use a third-party software solution to assist with the adoption of the standard. Management is currently calculating sample expected loss computations and developing the allowance methodology and assumptions that the Company will use under the new standard.

In October 2019, the FASB adopted a two-bucket approach to stagger the effective date for the credit losses standard for the fiscal years beginning after December 31, 2022 for certain entities, including certain Securities and Exchange Commission filers, public business entities, and private companies. As a smaller reporting company, the Company is eligible for the delay. Management is currently evaluating the impact of the delay on its implementation project plan.



Note 2: Pledge of Cash and Restricted Cash

Under the terms of its debt agreements, the Company has the ability to pledge cash as collateral for its borrowings, which will be classified as restricted cash. At June 30, 2020 and December 31, 2019, the Company held no pledged cash.

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The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the statement of financial position that sum to the total of the same such amounts shown in the statement of cash flows (dollars in thousands):





Amounts included in restricted cash represent funds the Company is required to set aside with the Central Registration Depository ("CRD") account with FINRA. Also included are funds the Company has deposited with RBC Dain as clearing deposits. The Company may only use the CRD funds for certain fees charged by FINRA. These fees are to maintain the membership status of the Company or are related to the licensing of registered and associated persons of the Company.

Note 3: Related Party Transactions

Transactions with Equity Owners

Transactions with Evangelical Christian Credit Union (“ECCU”)

The tables below summarize transactions the Company conducts with ECCU, the Company’s largest equity owner.

ECCU related parties who serve on the Company’s Board of Managers:



Related party balances pertaining to the assets of the Company (dollars in thousands):





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Related party transactions of the Company (dollars in thousands):





Loan participation interests purchased:

In the past, the Company purchased loan participation interests from ECCU. Management negotiated the pass-through interest rates on these loans on a loan-by-loan basis. Management believes these negotiated terms were equivalent to those that would prevail in an arm's length transaction. The Company did not purchase any loans from ECCU during the six months ended June 30, 2020 and 2019.  

Loans sold:

From time to time, the Company will sell loans to ECCU. On January 23, 2020, the Company sold an impaired loan to ECCU in order to recoup its recorded investment in the loan. This loan had been purchased previously from ECCU and was being serviced by ECCU.  The Company did not sell any loans to ECCU during the six months ended June 30, 2019.

Lease and Services Agreement:

The Company leases its corporate offices and purchases other facility-related services from ECCU pursuant to a written lease and services agreement. Management believes these terms are equivalent to those that prevail in arm's length transactions.

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MP Securities Networking Agreement with ECCU:

MP Securities, the Company’s wholly-owned subsidiary, entered into a Networking Agreement with ECCU in October 2014 pursuant to which MP Securities agreed to offer investment and insurance products and services to ECCU’s members that:

(1) ECCU or its Board of Directors has approved;

(2) comply with applicable investor suitability standards required by federal and state securities laws and regulations;

(3) are offered in accordance with National Credit Union Administration (“NCUA”) rules and regulations; and

(4) comply with its membership agreement with Financial Industry Regulation Authority (“FINRA”).

The agreement entitles ECCU to be paid a percentage of total revenue received by MP Securities from transactions conducted for, or on behalf of, ECCU members. Either ECCU or MP Securities may terminate the Networking Agreement without cause upon thirty days prior written notice.

Successor Servicing Agreement with ECCU:

On October 5, 2016, the Company entered into a Successor Servicing Agreement with ECCU. This agreement obligates the Company to serve as the successor loan-servicing agent for mortgage loans that ECCU has designated. The Company will service these loans in the event ECCU requests that the Company assume its obligation to act as the servicing agent for those loans. The Agreement terminated in October 2019 and has converted to a month-to-month agreement.

Transactions with America’s Christian Credit Union (“ACCU”)

The Company has several related party agreements with ACCU, one of the Company’s equity owners. The following describes the nature and dollar amounts of the material related party transactions with ACCU.

ACCU related parties who serve on the Company’s Board of Managers:





Related party balances pertaining to the assets of the Company (dollars in thousands):





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Related party transactions of the Company (dollars in thousands):







Loan participation interests:

From time to time, the Company may purchase a loan participation interest from a related party. The Company and its related party will negotiate in good faith the terms and conditions of such a purchase and in accordance with the Company’s related party procedures and governance practices. Each party must approve such a purchase after full disclosure of the related party transaction and must include terms and conditions that would normally be included in arm’s length transactions conducted by independent parties.

Occasionally, the Company sells or purchases loan participation interests from ACCU. The Company negotiates pass-through interest rates on loan participation interests purchased or sold from and to ACCU on a loan-by-loan basis. Management believes these terms are equivalent to those that prevail in arm's length transactions. On April 29, 2020, the Company sold back to ACCU a $441 thousand loan participation interest that it had previously purchased from ACCU.

MP Securities Networking Agreement with ACCU:

MP Securities entered into a Networking Agreement with ACCU in July 2014 pursuant to which MP Securities has agreed to offer investment and insurance products and services to ACCU’s members that:

(1) ACCU or its Board of Directors has approved;

(2) comply with applicable investor suitability standards required by federal and state securities laws and regulations;

(3) are offered in accordance with NCUA rules and regulations; and

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(4) comply with its membership agreement with FINRA.

The agreement entitles MP Securities to pay ACCU a percentage of total revenue received by MP Securities from transactions conducted for or on behalf of ACCU members. Either ACCU or MP Securities may terminate the Networking Agreement without cause upon thirty days prior written notice.

Transactions with Other Equity Owners

The Company has entered into a Loan Participation Agreement with UNIFY Financial Credit Union (“UFCU”), an owner of both the Company’s Class A Common Units and Series A Preferred Units. Under this agreement, the Company sold UFCU a $5.0 million loan participation interest in one of its mortgage loan interests on August 14, 2013. As part of this agreement, the Company retained the right to service the loan, and it charges UFCU a fee for servicing the loan. Management believes the terms of the agreement are equivalent to those that prevail in arm's length transactions.

The Company has also entered into a Loan Participation Agreement with Navy Federal Credit Union (“NFCU”), an owner of both the Company’s Class A Common Units and Series A Preferred Units. Under this agreement, the Company sold NFCU a $5.0 million loan participation interest in one of its construction loans on March 20, 2020. As of June 30, 2020, NFCU’s outstanding balance of the drawn portion of the loan was $1.1 million. As part of this agreement, the Company retained the right to service the loan, and it charges NFCU a fee for servicing the loan. Management believes the terms of the agreement are equivalent to those that prevail in arm's length transactions.

Transactions with Subsidiaries

The Company has entered into several agreements with its subsidiary, MP Securities. The Company eliminates the income and expense related to these agreements in the consolidated financial statements. MP Securities serves as the managing broker for the Company’s public and private placement note offerings. MP Securities receives compensation related to these broker dealer services ranging from 0.25% to 5.50% over the life of a note. The amount of the compensation depends on the length of the note and the terms of the offering under which MP Securities sold the note.

The Company also has entered into an Administrative Services Agreement with MP Securities. The Administrative Services Agreement provides services such as the use of office space, use of equipment, including computers and phones, and payroll and personnel services. The agreement stipulates that MP Securities will provide ministerial, compliance, marketing, operational, and investor relations-related services in relation to the Company’s investor note program. As stated above, the Company eliminates all intercompany transactions related to this agreement in its consolidated financial statements.

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The Company’s subsidiary, MPF, serves as the collateral agent for the Company’s Secured Notes. The Company’s Prospectus for its Class 1A Notes and the private placement memorandum for the Company’s Secured Notes Offering describe the terms of these agreements. This document describes additional details regarding the Company’s Investor Notes Payable in Part I, Item I, “Note 11. Investor Notes Payable”.

Related Party Transaction Policy

The Board has adopted a Related Party Transaction Policy to assist in evaluating related transactions the Company may enter into with a related party. Under this policy, a majority of the members of the Company’s Board and majority of its independent Board members must approve a material transaction that it enters into with a related party. As a result, all transactions that the Company undertakes with an affiliate or a related party are entered into on terms believed by management to be no less favorable than are available from unaffiliated third parties. In addition, a majority of the Company’s independent Board members must approve these transactions.

From time to time, the Company’s Board and members of its executive management team have purchased investor notes from the Company or have purchased investment products through MP Securities. Investor notes payable owned by related parties totaled $211 thousand and $368 thousand at June 30, 2020 and December 31, 2019, respectively.

Note 4: Loans Receivable and Allowance for Loan Losses

The Company’s loan portfolio is comprised of one segment – church loans. See “Note 1 – Loan Portfolio Segments and Classes” to Part I “Financial Information” of this Report. The loans fall into four classes:

The Company makes all of its loans to various evangelical churches and related organizations, primarily to purchase, construct, or improve facilities. Loan maturities extend through 2033. The loan portfolio had a weighted average rate of 6.53% and 6.44% as of June 30, 2020 and December 31, 2019, respectively.

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The table below is a summary of the Company’s mortgage loans owned (dollars in thousands):



Allowance for Loan Losses

Management believes it has properly calculated the allowance for loan losses as of June 30, 2020 and December 31, 2019. The following table shows the changes in the allowance for loan losses for the six months ended June 30, 2020 and the year ended December 31, 2019 (dollars in thousands):







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The table below presents loans by portfolio segment (church loans) and the related allowance for loan losses. In addition, the table segregates loans and the allowance for loan losses by impairment methodology (dollars in thousands).



The Company has established a loan grading system to assist management in their analysis and supervision of the loan portfolio. The following tables summarize the credit quality indicators by loan class (dollars in thousands):











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The following table sets forth certain information with respect to the Company’s loan portfolio delinquencies by loan class and amount (dollars in thousands):









Impaired Loans

The following tables are summaries of impaired loans by loan class as of and for the three and six months ended June 30, 2020 and 2019, and the year ended December 31, 2019, respectively. The unpaid principal balance is the contractual principal outstanding on the loan. The recorded balance is the unpaid principal balance less any interest payments that management has recorded against principal. The recorded investment is the recorded

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balance less discounts taken. The related allowance reflects specific reserves taken on the impaired loans (dollars in thousands):









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A summary of nonaccrual loans by loan class is as follows (dollars in thousands):



 





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A summary of loans the Company restructured during the three and six month periods ended June 30, 2020 and 2019 is as follows (dollars in thousands):





There were no loans restructured outside of CARES Act deferrals during the three months ended June 30, 2020.







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For the loan restructured during six months ended June 30, 2020, the Company agreed to a forbearance agreement with the borrower whereby management added accrued interest and fees to the loan’s principal balance, and the borrower will be making interest-only payments for 12 months. For one of the loans restructured during six months ended June 30, 2019, the Company agreed to a forbearance agreement with the borrower whereby the interest rate was lowered and accrued interest and fees were added to the principal balance of the loan. For the other loan, the Company agreed to extend the maturity date of the loan and added fees to the balance of the loan. The Company has one restructured loan that is past maturity as of June 30, 2020. 

The Company closely monitors delinquency in loans modified in a troubled debt restructuring as an early indicator for future default. Management regularly evaluates loans modified in a troubled debt restructuring for potential further impairment and will make adjustments to the risk ratings and specific reserves associated with troubled debt restructurings as deemed necessary.

As of June 30, 2020, the Company has no commitments to advance additional funds in connection with loans modified as troubled debt restructurings.

As discussed in Note 1 to the financial statements, the CARES Act provided the Company an option to elect to not account for certain loan modifications related to COVID-10 as troubled debt restructurings as long as the borrowers were not more than 30 days past due as of December 31, 2019. The above disclosed troubled debt restructurings were not related to COVID-19 modifications. 

As of June 30, 2020, the Company has made loan modifications which qualify under the CARES Act and that the Company has elected not to account for as troubled debt restructurings. These modifications include granting temporary payment relief measures. For any payment deferral requests the Company approves, the maturity date of the mortgage note will not be extended, and any deferred payments will increase the principal amount due at maturity.  The Company granted 35 borrowers deferral requests of various terms under the CARES Act. 26 of the borrowers have begun making their regular payments as of June 30, 2020. Two borrowers asked for and the Company granted their request to extend the deferral from two to four payments. The remaining nine deferral agreements require regular payments to begin at various times over the next six months.  The principal balance of loans modified under the CARES Act is $50.3 million as of June 30, 2020.



Note 5: Investment in Joint Venture

In December 2015, the Company finalized an agreement with Intertex Property Management, Inc., a California corporation, to enter into a joint venture to form Tesoro Hills, LLC (the “Valencia Hills Project”). The Valencia Hills Project is a joint venture

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that will develop and market property formerly classified by the Company as a foreclosed asset. In January 2016, the Company transferred ownership in the foreclosed asset to the Valencia Hills Project as part of the agreement. In addition, the Company reclassified the carrying value of the property from foreclosed assets to an investment in a joint venture. The Company’s initial investment in the joint venture was $900 thousand. This amount was the carrying value in the foreclosed asset at December 31, 2015.

The joint venture incurred losses of $1 thousand for the six months ended June 30, 2020. The joint venture did not incur any gains or losses during the six months ended June 30, 2019. As of June 30, 2020 and December 31, 2019, the value of the Company’s investment in the property was $890 thousand and $891 thousand, respectively. Management’s impairment analysis of the investment as of June 30, 2020 has determined that the investment is not impaired.



Note 6: Revenue Recognition

The Company recognizes two primary types of revenue: interest income and non-interest income. The following tables reflect the Company’s non-interest income disaggregated by financial statement line item. Items outside of scope of ASC 606 are noted as such (dollars in thousands):







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Note 7: Loan Sales

The following table shows the amount of loan participation sales and the resulting changes in servicing assets recorded during the six months ended June 30, 2020 and 2019, and the year ended December 31, 2019. Management amortizes servicing assets using the interest method as an adjustment to servicing fee income.

A summary of loan participation sales and servicing assets are as follows (dollars in thousands):















Note 8: Foreclosed Assets

The Company’s investment in foreclosed assets was $301 thousand at June 30, 2020 and December 31, 2019. On its balance sheet, the Company presents foreclosed assets net of an allowance for losses. There was no allowance for losses on foreclosed assets at June 30, 2020 and December 31, 2019. The Company did not record any loss provisions on foreclosed assets during the six months ended June 30, 2020.  

Expenses and income applicable to foreclosed assets include the following (dollars in thousands):





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Note 9: Premises and Equipment

The table below summarizes the premises and equipment owned by the Company (dollars in thousands):







 

Note 10: Term-Debt Credit Facilities

The Company has two secured term-debt credit facilities. The facilities are non-revolving and do not have an option to renew or extend additional credit. Additionally, the facilities do not contain a prepayment penalty. Under the terms of the credit facilities, the Company must maintain a minimum collateralization ratio of at least 110% for each of the individual facilities (120% for the combined facilities). If at any time the Company fails to maintain its required minimum collateralization ratio, it will be required to deliver cash or qualifying mortgage loans in an amount sufficient to enable us to meet its obligation to maintain a minimum collateralization ratio. In total, the collateral securing both facilities at June 30, 2020 and December 31, 2019 satisfied the 120% minimum. In addition, the collateral securing both facilities at June 30, 2020 and December 31, 2019 separately satisfied the 110% minimum. As of June 30, 2020, the Company has only pledged qualifying mortgage loans as collateral on the credit facilities. In addition, the credit facilities include a number of borrower covenants. The Company is in compliance with these covenants as of June 30, 2020 and December 31, 2019, respectively.

On April 27, 2020, MP Securities applied for and received a Paycheck Protection Program loan (“PPP Loan”) granted under the CARES Act. According to the terms of the program, as administered by the Small Business Association, payments on the loan are deferred for six months, deferred interest is capitalized into the principal balance of the loan, and qualifying amounts of the principal balance of the loan and deferred interest are eligible to be forgiven if MP Securities retains employees and maintains salary levels for its existing employees.  Qualifying amounts include amounts equal to eligible payroll costs, certain rent payments, and utility payments as defined by the program.  No collateral is required to be pledged for the PPP Loan.

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The following table summarizes the principal terms the Company’s term debt as of June 30, 2020:

Future principal contractual payments of the Company’s term debt during the twelve-month periods ending June 30, are as follows (dollars in thousands):



Note that the above table includes future contractual principal payments of the PPP Loan, disregarding potential forgiveness.







Note 11: Investor Notes Payable

The table below provides information on the Company’s investor notes payable (dollars in thousands):



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Future maturities for the Company’s investor notes during the twelve-month periods ending June 30, are as follows (dollars in thousands):



Debt issuance costs related to the Company’s investor notes payable were $35 thousand and $55 thousand at June 30, 2020 and December 31, 2019, respectively.

The notes are payable to investors who have purchased the securities. Notes pay interest at stated spreads over an index rate. The investor may reinvest the interest or have the interest paid to them at their option. The Company may repurchase all or a portion of notes at any time at its sole discretion. In addition, the Company may allow investors to redeem their notes prior to maturity at its sole discretion.

SEC Registered Public Offerings 

Class A Offering.

In April 2008, the Company registered its Class A Notes with the SEC. The Company discontinued the sale of its Class A Note Offering when the offering expired on December 31, 2015. The offering included three categories of notes, including a fixed interest note, a variable interest note, and a flex note that allows borrowers to increase their interest rate once a year with certain limitations. The Class A Notes contained restrictive covenants pertaining to paying dividends, making redemptions, acquiring, purchasing or making certain payments, requiring the maintenance of minimum tangible net worth, limitations on the issuance of additional notes, and incurring of indebtedness. The Company is in compliance with these covenants as of June 30, 2020 and December 31, 2019. The Company issued the Class A Notes under a Trust Indenture entered into between the Company and U.S. Bank National Association (“US Bank”).

Class 1 Offering.

In January 2015, the Company registered its Class 1 Notes with the SEC. The Company discontinued the sale of its Class 1 Note Offering when it expired on December 31, 2017. The offering included two categories of notes, including a fixed interest note and a variable interest note. The Class 1 Notes contain restrictive covenants pertaining to paying dividends, making redemptions, acquiring, purchasing, or making certain payments, requiring the maintenance of minimum tangible net worth, limitations on the issuance of additional notes, and incurring of indebtedness. The Company is in compliance with these covenants as of June 30, 2020 and December 31, 2019. The Company issued The Class 1 Notes under a Trust Indenture between the Company and U.S. Bank.

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Class 1A Offering.

In February 2018, the Company launched its Class 1A Notes Offering. Pursuant to a Registration Statement declared effective on February 27, 2018, the Company registered $90 million of its Class 1A Notes in two series – fixed and variable notes. The Class 1A Notes are unsecured. The interest rate paid on the Fixed Series Notes is determined in reference to a Constant Maturity Treasury Index published by the U.S. Department of Treasury (“CMT Index”) in effect on the date that the note is issued plus a rate spread as described in the Company’s Class 1A Prospectus. The variable index in effect on the date the interest rate is set determines the interest rate paid on a Variable Series Note. The CMT Index refers to the Constant Maturity Treasury rates published by the U.S. Department of Treasury for actively traded Treasury securities. The variable index is equal to the 3-month LIBOR rate. The Company issued the Class 1A Notes under a Trust Indenture entered into between the Company and U.S. Bank.

Private Offerings

Series 1 Subordinated Capital Notes (“Subordinated Notes”).

In June 2018, the Company renewed the offer and sale of its Subordinated Notes initially launched in February 2013. The Company offers the notes pursuant to a limited private offering to qualified investors that meet the requirements of Rule 506 of Regulation D. The Company offers the Subordinated Notes with maturity terms from 12 to 60 months at an interest rate fixed on the date of issuance, as determined by the then current seven-day average rate reported by the U.S. Federal Reserve Board for interest rate swaps.

Under the Subordinated Notes offering, the Company is subject to certain covenants, including limitations on restricted payments, limitations on the amount of notes that it can sell, restrictions on mergers and acquisitions, and proper maintenance of books and records. The Company was in compliance with these covenants at June 30, 2020 and December 31, 2019.  

Secured Investment Certificates (“Secured Notes”).

In January 2015, the Company began offering Secured Notes under a private placement memorandum pursuant to the requirements of Rule 506 of Regulation D. Under this offering, the Company may sell up to $80.0 million in Secured Notes to qualified investors.

The Company secures these notes by pledging either cash or loans receivable as collateral. The collateralization ratio is 100% on the pledged cash and 105% on the pledged loans receivable. Said another way, every dollar of cash collateralizes one dollar of secured notes and every $1.05 of loans receivable collateralizes one dollar of secured notes. At June 30, 2020 and December 31, 2019, the loans receivable collateral securing the Secured Notes had an outstanding balance of $9,698 thousand and $13,019 thousand, respectively. The June 30, 2020 and December 31, 2019 collateral balance was sufficient to satisfy the

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minimum collateral requirement of the Secured Notes offering. As of June 30, 2020 and December 31, 2019, the Company did not have cash pledged for the benefit of the Secured Notes. On December 31, 2017, the Company terminated its 2015 Secured Note offering.

Effective as of April 30, 2018, the Company launched a new $80 million secured note offering. The Company issued the 2018 Secured Note offering pursuant to a Loan and Security Agreement. This agreement includes the same terms and conditions previously set forth in its 2015 Secured Note offering. The offering terminated on April 30, 2020.



Note 12: Commitments and Contingencies

Unfunded Commitments

The Company is a party to credit-related financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include un-advanced lines of credit and standby letters of credit. Such commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheet.

The contractual amount of these commitments represents the Company’s exposure to credit loss. The Company uses the same credit policies in making commitments as it does for on-balance-sheet instruments.

The table below shows the outstanding financial instruments whose contract amounts represent credit risk (dollars in thousands):





Undisbursed loans are commitments for possible future extensions of credit to existing customers. These loans are sometimes unsecured and the borrower may not necessarily draw upon the line the total amount of the commitment. Commitments to extend credit are generally at variable rates.

Contingencies

In the normal course of business, the Company may become involved in various legal proceedings. As of June 30, 2020, the Company is a defendant in a wrongful termination of employment lawsuit. The Company is contesting the claim and at June 30, 2020, the Company’s liabilities include an accrual of $16 thousand for litigation-related expenses incurred in connection with this claim. Although the Company believes that it will prevail

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on the merits, the litigation could be a lengthy process, and management cannot predict the ultimate outcome.

Operating Leases

The Company has lease agreements for its offices in Brea and Fresno, California. The Company renewed its Brea office lease in January 2019 for an additional five-year term. The lease does not contain any additional options to renew. In March 2020, the Company signed an agreement to extend the Fresno office lease for two additional years to March 31, 2022. The Company has determined that both leases are operating leases.

Beginning on January 1, 2019, the Company has recorded right-of-use assets and lease liabilities in accordance with ASU 2016-02. The Company has elected not to reassess expired or existing leases for changes in classification. The Company has elected not to use hindsight to determine the term of existing leases and is using the term of the current lease agreements in its right-of-use asset calculations. As the interest rates implicit in the leases were not readily available, the Company used its incremental borrowing rates to determine the discount rates used in the asset calculations. Right-of-use assets included in Other Assets were $515 thousand and $536 thousand at June 30, 2020 and December 31, 2019, respectively. Lease liabilities included in Other Liabilities were $526 thousand and $545 thousand at June 30, 2020 and December 31, 2019, respectively.

The table below presents information regarding our existing operating leases (dollars in thousands):





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Future minimum lease payments and lease costs for the twelve months ending June 30, are as follows (dollars in thousands):











Note 13: Preferred and Common Units under LLC Structure

Holders of the Series A Preferred Units are entitled to receive a quarterly cash dividend that is 25 basis points higher than the one-year LIBOR rate in effect on the last day of the calendar month for which the preferred return is approved. The Company has also agreed to set aside an annual amount equal to 10% of its net profits earned for any year, after subtracting from profits the quarterly Series A Preferred Unit dividends paid, for distribution to its Series A Preferred Unit holders.

The Series A Preferred Units have a liquidation preference of $100 per unit and have no voting rights. They are also subject to redemption in whole or in part at the Company’s election on December 31 of any year for an amount equal to the liquidation preference of each unit, plus any accrued and declared but unpaid quarterly dividends and preferred distributions on such units. The Series A Preferred Units have priority as to earnings and distributions over the Common Units. The resale of the Company’s Series A Preferred Units and Common Units are subject to the Company’s first right of refusal to purchase units proposed to be transferred. Upon the Company’s failure to pay quarterly dividends for four consecutive quarters, the holders of the Series A Preferred Units have the right to appoint two managers to its Board of Managers.

The Class A Common Units have voting rights, but have no liquidation preference or rights to dividends, unless declared.



Note 14: Retirement Plans

401(k)

All of the Company’s employees are eligible to participate in the Automated Data Processing, Inc. (“ADP”) 401(k) plan effective as of the date their employment commences. No minimum service is required and the minimum age is 21. Each employee may elect voluntary contributions not to exceed 86% of salary, subject to certain limits based on U.S. tax law. The plan has a matching program, which qualifies as a Safe Harbor

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401(k) plan. As this is a Safe Harbor Section 401(k) plan, the Company matches each eligible employee’s contribution, dollar for dollar, up to 3% of the employee’s compensation, and 50% of the employee’s contribution that exceeds 3% of their compensation, up to a maximum contribution of 5% of the employee’s compensation. Company matching contributions for the six months ended June 30, 2020 and 2019 were $44 thousand and $29 thousand, respectively.

Profit Sharing

The profit sharing plan is for all employees who, at the end of the calendar year, are at least 21 years old, still employed, and have at least 900 hours of service during the plan year. The Company’s Board of Managers determines the amount annually contributed on behalf of each qualified employee. The Company determines the amount by calculating it as a percentage of the eligible employee's annual earnings. Plan forfeitures are used to reduce the Company’s annual contribution. The Company did not make or approve a profit sharing contribution for the six months ended June 30, 2020 or 2019.



Note 15: Fair Value Measurements

Fair Value Measurements Using Fair Value Hierarchy

The Company classifies measurements of fair value within a hierarchy based upon inputs that give the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:

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In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.

Fair Value of Financial Instruments

The following tables show the carrying amounts and estimated fair values of the Company’s financial instruments (dollars in thousands):`









Management uses judgment in estimating the fair value of the Company’s financial instruments; however, there are inherent weaknesses in any estimation technique.

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Therefore, for substantially all financial instruments, the fair value estimates presented herein are not necessarily indicative of the amounts the Company could have realized in a sales transaction at June 30, 2020 and December 31, 2019.  

The Company used the following methods and assumptions to estimate the fair value of financial instruments:

Cash and restricted cash – The carrying amounts reported in the balance sheets approximate fair value for cash.

Certificates of deposit – Management estimates fair value by using a present value discounted cash flow with a discount rate approximating the current market rate for similar assets. Management classifies certificates of deposits as Level 2 of the fair value hierarchy.

Loans – Management estimates fair value by discounting the future cash flows of the loans. The discount rate the Company uses is the current average rates at which it would make loans to borrowers with similar credit ratings and for the same remaining maturities.

Investments – Management estimates fair value by analyzing the operations and marketability of the underlying investment to determine if the investment is other-than-temporarily impaired.

Investor Notes Payable – Management estimates the fair value of fixed maturity notes by discounting the future cash flows of the notes. The discount rate the Company uses is the rates currently offered for investor notes payable of similar remaining maturities. Company management estimates the discount rate by using market rates that reflect the interest rate risk inherent in the notes.

Term-debt – Management estimates the fair value of borrowings from financial institutions discounting the future cash flows of the borrowings. The discount rate the Company uses is the current incremental borrowing rates for similar types of borrowing arrangements. Company management estimates the discount rate by using market rates that reflect the interest rate risk inherent in the notes.

Off-Balance Sheet Instruments – Management determines the fair value of loan commitments on fees currently charged to enter into similar agreements, taking into account the remaining term of the agreements and the counterparties' credit standing. The fair value of loan commitments is insignificant at June 30, 2020 and December 31, 2019.

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Fair Value Measured on a Nonrecurring Basis

The Company measures certain assets at fair value on a nonrecurring basis. On these assets, the Company only makes fair value adjustments in certain circumstances (for example, when there is evidence of impairment). The following table presents the fair value of assets measured on a nonrecurring basis (dollars in thousands):





Impaired Loans

The Company records loans that management considers impaired at fair value on a nonrecurring basis. Once a loan is considered impaired, the fair value is measured using one of several methods, including collateral liquidation value, market value of similar debt and discounted cash flows. Those impaired loans not requiring a specific charge against the allowance represent loans for which the fair value of the expected repayments or collateral meet or exceed the recorded investment in the loan. Loans which management deems to be impaired are primarily valued on a nonrecurring basis at the fair value of the underlying real estate collateral. Such fair values are obtained using independent appraisals, which the Company considers to be Level 3 inputs.

Foreclosed Assets

The Company initially records real estate acquired through foreclosure or other proceedings (foreclosed assets) at fair value at the date of foreclosure less estimated costs of disposal, which establishes a new cost. After foreclosure, management periodically performs valuations on foreclosed assets. The company carries foreclosed assets held for sale at the lower of cost or fair value, less estimated costs of disposal. The fair values of real properties initially are determined based on appraisals. In some cases, management

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adjusts the appraised values for various factors including age of the appraisal, age of comparable properties included in the appraisal, and known changes in the market or in the collateral. The Company makes subsequent valuations of the real properties based either on management estimates or on updated appraisals. If management makes significant adjustments to appraised values based on unobservable inputs, the Company categorizes foreclosed assets under Level 3. Otherwise, if management bases the foreclosed assets’ value on recent appraisals and the only adjustments made are for known contractual selling costs, the Company will categorize the foreclosed assets under Level 2.

The fair value of impaired loans at June 30, 2020 has decreased from December 31, 2019 as two loans previously classified as impaired were classified as non-impaired, performing loans.  In addition, one impaired loan that was outstanding at December 31, 2019 was sold during the first six months of 2020.

The table below summarizes the valuation methodologies used to measure the fair value adjustments for Level 3 assets recorded at fair value on a nonrecurring basis (dollars in thousands):











 

Note 16: Income Taxes and State LLC Fees

MPIC is subject to a California gross receipts LLC fee of approximately $12,000 per year, and the state minimum franchise tax of $800 per year. MP Securities is subject to a California gross receipts LLC fee of approximately $6,000 and the state minimum franchise tax of $800 per year.

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MP Realty incurred a tax loss for the years ended December 31, 2019 and 2018, and recorded a provision of $800 per year for the state minimum franchise tax. For the years ended December 31, 2019 and 2018, MP Realty has federal and state net operating loss carryforwards of approximately $430 thousand and $407 thousand, respectively, which begin to expire in 2030. Management assessed its ability to realize the deferred tax asset and determined that a 100% valuation against the deferred tax asset was appropriate at June 30, 2020 and December 31, 2019.

Tax years ended December 31, 2017 through December 31, 2019 remain subject to examination by the Internal Revenue Service and the tax years ended December 31, 2016 through December 31, 2019 remain subject to examination by the California Franchise Tax Board.



Note 17: Segment Information

The Company's reportable segments are strategic business units that offer different products and services. The Company manages the segments separately because each business requires different management, personnel proficiencies, and marketing strategies.

The Company has two reportable segments that represent the primary businesses reported in the consolidated financial statements: the finance company (the parent company), and the investment advisor and insurance firm (MP Securities). The finance company segment uses funds from the sale of debt securities, income from operations, and the sale of loan participations to originate or purchase mortgage loans. The finance company also services loans. MP Securities generates fee income by selling debt securities and other investment and insurance products, as well as providing investment advisory and financial planning services.

The accounting policies applied to determine the segment information are the same as those described in the summary of significant accounting policies. Management accounts for intersegment revenues and expenses at amounts that assume the Company entered into the transaction with unrelated third parties at the current market prices at the time of the transaction. Management evaluates the performance of each segment based on net income or loss before provision for income taxes and LLC fees.

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Financial information with respect to the reportable segments for the three and six months ended June 30, 2020 is as follows (dollars in thousands):







Financial information with respect to the reportable segments for the three months ended June 30, 2019 is as follows (dollars in thousands):