Banner Corp: Form 10-Q for the period ended Sep 30, 2022

Executive Overview

We are a bank holding company incorporated in the State of Washington, which owns one subsidiary bank, Banner Bank. Banner Bank is a Washington-chartered commercial bank that conducts business from its main office in Walla Walla, Washington and, as of September 30, 2022, it had 137 full service branch offices and 18 loan production offices located in Washington, Oregon, California and Idaho. Banner Corporation is subject to regulation by the Federal Reserve. Banner Bank is subject to regulation by the Washington DFI and the FDIC. As of September 30, 2022, we had total consolidated assets of $16.36 billion, total loans of $9.83 billion, total deposits of $14.23 billion and total shareholders’ equity of $1.41 billion.

Banner Bank is a regional bank which offers a wide variety of commercial banking services and financial products to individuals, businesses and public sector entities in its primary market areas. The Bank’s primary business is that of traditional banking institutions, accepting deposits and originating loans in locations surrounding their offices in Washington, Oregon, California and Idaho. Banner Bank is also an active participant in secondary loan markets, engaging in mortgage banking operations largely through the origination and sale of one- to four-family and multifamily residential loans. Lending activities include commercial business and commercial real estate loans, agriculture business loans, construction and land development loans, one- to four-family and multifamily residential loans, SBA loans and consumer loans.

Banner Corporation’s successful execution of its super community bank model and strategic initiatives have delivered solid core operating results and profitability over the last several years. Banner’s longer term strategic initiatives continue to focus on originating high quality assets and client acquisition, which we believe will continue to generate strong revenue while maintaining the Company’s moderate risk profile.

For the quarter ended September 30, 2022, our net income was $49.1 million, or $1.43 per diluted share, compared to $48.0 million, or $1.39 per diluted share, for the preceding quarter. The current quarter was positively impacted by increased interest income due to increased average yields on total interest-earning assets, partially offset by decreased mortgage banking income and the provision for credit losses.

Our adjusted earnings (a non-GAAP financial measure), which excludes net gain on sales of securities, net change in valuation of financial instruments carried at fair value, merger and acquisition-related expenses, COVID-19 expenses, Banner Forward expenses, loss on extinguishment of debt, gain on sale of branches, and related tax expenses or benefits, were $49.0 million, or $1.42 per diluted share, for the quarter ended September 30, 2022, compared to $43.2 million, or $1.25 per diluted share, for the preceding quarter.

During the third quarter of 2021 we began implementing Banner Forward, a bank-wide initiative to enhance revenue growth and reduce operating expenses. Banner Forward is focused on accelerating growth in commercial banking, deepening relationships with retail clients, and advancing technology strategies to enhance our digital service channels, while streamlining underwriting and back office processes. The revenue enhancements associated with Banner Forward are already starting to have a positive impact on earnings, with the implementation of the revenue initiatives continuing to ramp up over the fourth quarter and into 2023. The remaining efficiency-related initiatives associated with Banner Forward are anticipated to be implemented during the fourth quarter, and we expect full implementation of Banner Forward by the end of next year. During the third quarter of 2022, we incurred expenses of $411,000 related to Banner Forward.

Our operating results depend primarily on our net interest income, which is the difference between interest income on interest-earning assets, consisting primarily of loans and investment securities, and interest expense on interest-bearing liabilities, composed primarily of client deposits, FHLB advances, other borrowings, subordinated notes, and junior subordinated debentures. Net interest income is a function of our interest rate spread, which is the difference between the yield earned on interest-earning assets and the rate paid on interest-bearing liabilities, as well as a function of the average balances of interest-earning assets, interest-bearing liabilities and non-interest-bearing funding sources including non-interest-bearing deposits. Our net interest income increased $17.4 million, or 14% to $146.4 million, compared to $129.0 million in the preceding quarter. The increased net interest income during the quarter compared to the preceding quarter was primarily due to the increase in market interest rates resulting in an increase in yields on interest-earning assets as well as an increase in average interest-earning assets, particularly growth in loan balances, resulting in higher yielding loans making up a higher percentage of interest-earning assets.

Our net income is also affected by the level of our non-interest income, including deposit fees and other service charges, results of mortgage banking operations, which includes gains and losses on the sale of loans and servicing fees, gains and losses on the sale of securities, as well as our non-interest expenses and provisions for credit losses and income taxes. In addition, our net income is affected by the net change in the value of certain financial instruments carried at fair value.

Our total revenues (net interest income plus total non-interest income) for the third quarter of 2022 increased 4% to $162.0 million, compared to $156.2 million in the preceding quarter, primarily due to the increase in net interest income, partially offset by lower income from mortgage banking operations and the gain recognized on the branch sale completed during the preceding quarter. Our total non-interest income, which is a component of total revenue and includes the net gain on sale of securities and net change in value of financial instruments carried at fair value, decreased to $15.6 million for the quarter ended September 30, 2022, compared to $27.2 million in the preceding quarter, primarily due to the $7.8 million gain recognized on the branch sale completed during the preceding quarter and a decrease in mortgage banking revenues.

Non-interest expense was $95.0 million in the third quarter of 2022, compared to $92.1 million in the preceding quarter. Our non-interest expense increased in the third quarter of 2022, compared to the preceding quarter, largely as a result of increased salary and employee benefits, primarily due to an increase in bonus and commission expense, a decrease in capitalized loan origination costs, primarily due to decreases in production for one- to four-family residential and construction loans, and an increase in information and computer data services expense, primarily due to an increase in computer software expenses, partially offset by a decrease in occupancy and equipment expense, primarily due to a reduction in building rent expense during the current quarter as a result of exiting a large lease agreement in the second quarter of 2022.

We recorded a $6.1 million provision for credit losses in the quarter ended September 30, 2022, compared to a $4.5 million provision for credit losses in the prior quarter. The provision for credit losses for the current and preceding quarter primarily reflects loan growth and, to a lesser extent, a deterioration in forecasted economic conditions and indicators utilized to estimate credit losses. The allowance for credit losses - loans at September 30, 2022 was $135.9 million, representing 895% of non-performing loans, compared to $132.1 million, or 578% of non-performing loans at December 31, 2021. In addition to the allowance for credit losses - loans, Banner maintains an allowance for credit losses - unfunded loan commitments which was $14.0 million at September 30, 2022, compared to $12.4 million at December 31, 2021. Non-performing loans were $15.2 million at September 30, 2022, compared to $22.8 million at December 31, 2021.

Non-GAAP financial measures: Net income, revenues and other earnings and expense information excluding the net change in valuation of financial instruments carried at fair value, net gains or losses on the sale of securities, gain on sale of branches, merger and acquisition-related expenses, loss on extinguishment of debt, COVID-19 expenses, Banner Forward expenses, amortization of CDI, REO operations, state and municipal tax expense and the related tax expense or benefit, are non-GAAP financial measures. Management has presented non-GAAP financial measures in this discussion and analysis because it believes that they provide useful and comparative information to assess trends in our core operations and to facilitate the comparison of our performance with the performance of our peers. However, these non-GAAP financial measures are supplemental and are not a substitute for any analysis based on GAAP. Where applicable, we have also presented comparable earnings information using GAAP financial measures. For a reconciliation of these non-GAAP financial measures, see the tables below. Because not all companies use the same calculations, our presentation may not be comparable to other similarly titled measures as calculated by other companies.

The following tables set forth reconciliations of non-GAAP financial measures discussed in this report (dollars in thousands except per share data):

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The ratio of tangible common shareholders’ equity to tangible assets is also a non-GAAP financial measure. We calculate tangible common equity by excluding goodwill and other intangible assets from shareholders’ equity. We calculate tangible assets by excluding the balance of goodwill and other intangible assets from total assets. We believe that this is consistent with the treatment by our bank regulatory agencies, which exclude goodwill and other intangible assets from the calculation of risk-based capital ratios. Management believes that this non-GAAP financial measure provides information to investors that is useful in understanding the basis of our capital position (dollars in thousands except per share data).

Management’s Discussion and Analysis of Financial Condition and Results of Operations is intended to assist in understanding our financial condition and results of operations. The information contained in this section should be read in conjunction with the Consolidated Financial Statements and accompanying Selected Notes to the Consolidated Financial Statements contained in Item 1 of this Form 10-Q.

Summary of Critical Accounting Estimates

Various elements of our accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions and other subjective assessments. In particular, management has identified certain accounting policies that, due to the judgments, estimates and assumptions inherent in those policies, are critical to an understanding of our financial statements. Management believes the judgments, estimates and assumptions used in the preparation of the financial statements are appropriate based on the factual circumstances at the time. However, given the sensitivity of the financial statements to these critical accounting estimates, the use of other judgments, estimates and assumptions could result in material differences in our results of operations or financial condition. Further, subsequent changes in economic or market conditions could have a material impact on these estimates and our financial condition and operating results in future periods. There have been no significant changes in our application of accounting policies since December 31, 2021. For additional information concerning critical accounting estimates, see the Selected Notes to the Consolidated Financial Statements.

Provision and Allowance for Credit Losses - Loans: (Note 4) The methodology for determining the allowance for credit losses - loans is considered a critical accounting estimate by management because of the high degree of judgment involved, the subjectivity of the assumptions used, and the potential for changes in the economic environment that could result in changes to the amount of the recorded allowance for credit losses - loans. Among the material estimates required to establish the allowance for credit losses - loans are: a reasonable and supportable forecast; a reasonable and supportable forecast period and the reversion period; value of collateral; strength of guarantors; the amount and timing of future cash flows for loans individually evaluated; and determination of the qualitative loss factors. All of these estimates are susceptible to significant change. The allowance for credit losses - loans is a valuation account that is deducted from the amortized cost basis of loans to present the net amount expected to be collected on the loans. The Bank has elected to exclude accrued interest receivable from the amortized cost basis in their estimate of the allowance for credit losses - loans. The provision for credit losses reflects the amount required to maintain the allowance for credit losses - loans at an appropriate level based upon management’s evaluation of the adequacy of collective and individual loss reserves. The Company has established systematic methodologies for the determination of the adequacy of the Company’s allowance for credit losses - loans. The methodologies are set forth in a formal policy and take into consideration the need for a valuation allowance for loans evaluated on a collective (pool) basis which have similar risk characteristics as well as allowances that are tied to individual loans that do not share risk characteristics.

The Company increases its allowance for credit losses - loans by charging provisions for credit losses on its Consolidated Statement of Operations. Losses related to specific assets are applied as a reduction of the carrying value of the assets and charged against the allowance for credit loss reserve when management believes the uncollectibility of a loan balance is confirmed. Recoveries on previously charged off loans are credited to the allowance for credit losses.

Management estimates the allowance for credit losses - loans using relevant information, from internal and external sources, relating to past events, current conditions, and reasonable and supportable forecasts. The allowance for credit losses - loans is maintained at a level sufficient to provide for expected credit losses over the life of the loan based on evaluating historical credit loss experience and making adjustments to historical loss information for differences in the specific risk characteristics in the current loan portfolio. These factors include, among others, changes in the size and composition of the loan portfolio, differences in underwriting standards, delinquency rates, actual loss experience and current economic conditions.

The allowance for credit losses - loans is measured on a collective (pool) basis when similar risk characteristics exist. In estimating the component of the allowance for credit losses for loans that share common risk characteristics, loans are pooled based on loan type and areas of risk concentration. For loans evaluated collectively, the allowance for credit losses - loans is calculated using life of loan historical losses adjusted for economic forecasts and current conditions.

For commercial real estate, multifamily real estate, construction and land, commercial business and agricultural loans with risk rating segmentation, historical credit loss assumptions are estimated using a model that categorizes loan pools based on loan type and risk rating. For one- to four- family residential loans, consumer loans, home equity lines of credit, small business loans, and small balance commercial real estate loans, historical credit loss assumptions are estimated using a model that categorizes loan pools based on loan type and delinquency status. These models calculate an expected life-of-loan loss percentage for each loan category by calculating the probability of default, based on the migration of loans from performing to loss by risk rating or delinquency categories using historical life-of-loan analysis and the severity of loss, based on the aggregate net lifetime losses incurred for each loan pool. For credit cards, historical credit loss assumptions are estimated using a model that calculates an expected life-of-loan loss percentage for each loan category by considering the historical cumulative losses based on the aggregate net lifetime losses incurred for each loan pool. The model captures historical loss data commencing with the first quarter of 2008. For loans evaluated collectively, management uses economic indicators to adjust the historical loss rates so that they better reflect management’s expectations of future conditions over the remaining lives of the loans in the portfolio based on reasonable and supportable forecasts. These economic indicators are selected based on correlation to the Company’s historical credit loss experience and are evaluated for each loan category. The economic indicators evaluated include the unemployment rate, gross domestic product, real estate price indices and growth, industrial employment, corporate profits, the household consumer debt service ratio, the household mortgage debt service ratio, and single family median home price growth. Management considers various economic scenarios and forecasts when evaluating the economic indicators and probability weights the various scenarios to arrive at the forecast that most reflects management’s expectations of future conditions. The selection of a more optimistic or pessimistic economic forecast would result in a lower or higher allowance for credit losses. The use of a protracted slump economic forecast would have increased the allowance for credit losses - loans by approximately 9% as of September 30, 2022, where the use of a stronger near-term growth economic forecast would result in a negligible decrease in the allowance for credit losses - loans as of September 30, 2022. The allowance for credit losses - loans is then adjusted for the period in which those forecasts are considered to be reasonable and supportable. To the extent the lives of the loans in the portfolio extend beyond the period for which a reasonable and supportable forecast can be made, the adjustments discontinue to be applied so that the model reverts back to the historical loss rates using a straight line reversion method. Management selected a reasonable and supportable forecast period of 12 months with a reversion period of 12 months. Both the reasonable and supportable forecast period and the reversion period are periodically reviewed by management.

Further, for loans evaluated collectively, management also considers qualitative and environmental (QE) factors for each loan category to adjust for differences between the historical periods used to calculate historical loss rates and expected conditions over the remaining lives of the loans in the portfolio. In determining the aggregate adjustment needed, management considers the financial condition of the borrowers, the nature and volume of the loans, the remaining terms and the extent of prepayments on the loans, the volume and severity of past due and classified loans as well as the value of the underlying collateral on loans in which the collateral dependent practical expedient has not been used. Management also considers the Company’s lending policies, the quality of the Company’s credit review system, the quality of the Company’s management and lending staff, and the regulatory and economic environments in the areas in which the Company’s lending activities are concentrated. Management uses a scale to assign QE factor adjustments based on the level of estimated impact which requires a significant amount of judgment. Generally, adjustments to QE factors are made in five basis-point increments. Some QE factors impact all loan segments equally while others may impact some loan segments more or less than others. If management’s judgment were different for a QE factor that impacts all loan segments equally, a five basis-point change in this QE factor would increase or decrease the allowance for credit losses - loans by 3.8% as of September 30, 2022.

Fair Value Accounting and Measurement: (Note 8) We use fair value measurements to record fair value adjustments to certain financial assets and liabilities. A hierarchical disclosure framework associated with the level of pricing observability is utilized in measuring financial instruments at fair value. The degree of judgment utilized in measuring the fair value of financial instruments generally correlates to the level of pricing observability. Financial instruments with readily available active quoted prices or for which fair value can be measured from actively quoted prices generally will have a higher degree of pricing observability and a lesser degree of judgment utilized in measuring fair value. Conversely, financial instruments rarely traded or not quoted will generally have little or no pricing observability and a higher degree of judgment utilized in measuring fair value. Determining the fair value of financial instruments with unobservable inputs requires a significant amount of judgment. This includes the discount rate used to fair value our trust preferred securities and junior subordinated debentures. A 25 basis-point increase or decrease in the discount rate used to calculate the fair value of our trust preferred securities would result in a corresponding $686,000 decrease or increase in the reported fair value as of September 30, 2022, with an offsetting adjustment to our non-interest income. A 25 basis-point increase or decrease in the discount rate used to calculate the fair value of our junior subordinated debentures would result in a corresponding $638,000 decrease or increase in the reported fair value as of September 30, 2022, with an offsetting adjustment to our accumulated other comprehensive income.

Goodwill: (Note 6) Goodwill represents the excess of the purchase consideration paid over the fair value of the assets acquired, net of the fair values of liabilities assumed in a business combination and is not amortized but is reviewed annually, or more frequently as current circumstances and conditions warrant, for impairment. An assessment of qualitative factors is completed to determine if it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The qualitative assessment involves judgment by management on determining whether there have been any triggering events that have occurred which would indicate potential impairment. Such trigger events considered by management could include: a) macroeconomic conditions such as a deterioration in general economic conditions, limitations on accessing capital, or other developments in equity and credit markets; b) industry and market considerations such as a deterioration in the environment in which an entity operates, an increased competitive environment, a decline in market-dependent multiples or metrics (consider in both absolute terms and relative to peers), a change in the market for an entity’s products or services, or a regulatory or political development; c) cost factors such as increases in labor, or other costs that have a negative effect on earnings and cash flows; d) overall financial performance such as negative or declining cash flows or a decline in actual or planned revenue or earnings compared with actual and projected results of relevant prior periods; e) other relevant entity-specific events such as changes in management, key personnel, strategy, or clients; or litigation; f) events affecting a reporting unit such as a change in the composition or carrying amount of its net assets, a more-likely-than-not expectation of selling or disposing of all, or a portion, of a reporting unit, the testing for recoverability of a significant asset group within a reporting unit; g) if applicable, a sustained decrease in share price (consider in both absolute terms and relative to peers). If the qualitative analysis concludes that further analysis is required, then a quantitative impairment test would be completed. The quantitative goodwill impairment test is used to identify the existence of impairment and the amount of impairment loss and compares the reporting unit’s estimated fair values, including goodwill, to its carrying amount. If a quantitative goodwill impairment test is required, management would engage a third-party valuation firm to estimate the fair value of the reporting unit. Various valuation methodologies are considered when estimating the reporting unit’s fair value. These methodologies could include a comparable transaction approach, a control premium approach and a discounted cash flow approach, as well as others. The specific factors used in these various valuation methodologies that require judgment include the selection of comparable market transactions, discount rates, earnings capitalization rates and the future projected earnings of the reporting unit. Changes in these assumptions could result in changes to the estimated fair value of the reporting unit. If the fair value exceeds the carry amount, then goodwill is not considered impaired. If the carrying amount exceeds its fair value, an impairment loss would be recognized equal to the amount of excess, limited to the amount of total goodwill allocated to the reporting unit. The impairment loss would be recognized as a charge to earnings. The Company completed an assessment of qualitative factors and the potential triggering events noted above as of September 30, 2022 and concluded that no further analysis was required as it is more likely than not that the fair value of Banner Bank, the reporting unit, exceeds the carrying value.

Income Taxes and Deferred Taxes: (Note 9) The Company and its wholly-owned subsidiaries file consolidated U.S. federal income tax returns, as well as state income tax returns in Oregon, California, Utah, Idaho and Montana. Income taxes are accounted for using the asset and liability method. Under this method a deferred tax asset or liability is determined based on the enacted tax rates which are expected to be in effect when the differences between the financial statement carrying amounts and tax basis of existing assets and liabilities are expected to be reported in the Company’s income tax returns. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment date. A 1% change in tax rates would result in a $5.9 million increase or decrease in our net deferred tax asset as of September 30, 2022. We assess the appropriate tax treatment of transactions and filing positions after considering statutes, regulations, judicial precedent and other pertinent information and maintain tax accruals consistent with our evaluation. Changes in the estimate of accrued taxes occur periodically due to changes in tax rates, interpretations of tax laws, the status of examinations by the tax authorities and newly enacted statutory, judicial and regulatory guidance that could impact the relative merits of tax positions. These changes, when they occur, impact accrued taxes and can materially affect our operating results. A valuation allowance is required to be recognized if it is more likely than not that all or a portion of our deferred tax assets will not be realized. The evaluation pertaining to the tax expense and related deferred tax asset and liability balances involves a high degree of judgment and subjectivity around the measurement and resolution of these matters. This includes an evaluation of our ability to use our net operating loss carryforwards. The ultimate realization of the deferred tax assets is dependent upon the existence, or generation, of taxable income in the periods when those temporary differences and net operating loss and credit carryforwards are deductible.

Legal Contingencies: In the normal course of our business, we have various legal proceedings and other contingent matters pending. We determine whether an estimated loss from a contingency should be accrued by assessing whether a loss is deemed probable and can be reasonably estimated. We assess our potential liability by analyzing our litigation and regulatory matters using available information. We develop our views on estimated losses in consultation with outside counsel handling our defense in these matters, which involves an analysis of potential results, assuming a combination of litigation and settlement strategies. The estimated losses often involve a level of subjectivity and usually are a range of reasonable losses and not an exact number, in those situations we accrue the best estimate within the range or the low end of the range if no estimate within the range is better than another.

Comparison of Financial Condition at September 30, 2022 and December 31, 2021

General: Total assets decreased $444.1 million, to $16.36 billion at September 30, 2022, from $16.80 billion at December 31, 2021. The decrease was largely the result of a decrease in cash held and interest-bearing deposits, partially offset by loan growth.

Loans and lending: Loans are our most significant and generally highest yielding earning assets. We attempt to maintain a portfolio of loans to total deposits ratio at a level designed to enhance our revenues, while adhering to sound underwriting practices and appropriate diversification guidelines in order to maintain a moderate risk profile. Our loan to deposit ratio typically ranges from 90% to 95%. Our loan to deposit ratio at September 30, 2022 was 70%. During the most recent quarters our loan to deposit ratio has begun to trend upward as the unprecedented level of market liquidity begins to reduce. We offer a wide range of loan products to meet the demands of our clients. Our lending activities are primarily directed toward the origination of real estate and commercial loans. Total loans receivable increased $742.3 million during the nine months ended September 30, 2022, primarily reflecting increased one-to-four family residential, commercial business, multifamily real estate, construction, land and land development, and consumer loan balances, partially offset by decreased commercial real estate loan balances. Excluding SBA PPP loans, total loans receivable increased $862.9 million during the nine months ended September 30, 2022. At September 30, 2022, our loans receivable totaled $9.83 billion compared to $9.08 billion at December 31, 2021 and $9.22 billion at September 30, 2021.

During the first quarter of 2022, the Company changed the segmentation of its Small Balance CRE loan category based on the common risk characteristics used to measure the allowance for credit losses. The presentation of loans receivable at December 31, 2021 and September 30, 2021 has been revised to match the segmentation used in the current period presentation. The following table sets forth the composition of the Company’s loans receivable by type of loan as of the dates indicated (dollars in thousands):

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Our commercial real estate loans for owner-occupied, investment properties, and small balance CRE totaled $3.66 billion, or 37% of our loan portfolio at September 30, 2022. In addition, multifamily residential real estate loans totaled $592.8 million and comprised 6% of our loan portfolio. Commercial real estate loans decreased by $131.5 million during the first nine months of 2022 while multifamily real estate loans increased by $61.9 million.

We also originate commercial, multifamily, and one- to four-family construction, land and land development loans, which totaled $1.44 billion, or 15% of our loan portfolio at September 30, 2022, compared to $1.31 billion at December 31, 2021 and $1.33 billion September 30, 2021. One- to four-family construction balances increased $97.6 million, or 17%, to $666.4 million at September 30, 2022 compared to $568.8 million at December 31, 2021 and increased $94.9 million, or 17%, compared to $571.4 million at September 30, 2021. One- to four-family construction loans represented approximately 7% of our total loan portfolio at September 30, 2022, and includes both speculative construction and one- to four-family all-in-one construction loans made to owner occupants that convert to permanent loans upon completion of the homes and depending on market conditions can be subsequently sold into the secondary market.

Our commercial business lending is directed toward meeting the credit and related deposit needs of various small- to medium-sized business and agribusiness borrowers operating in our primary market areas. Our commercial and agricultural business loans increased $204.9 million, or 9%, to $2.45 billion at September 30, 2022, compared to $2.24 billion at December 31, 2021, and increased $46.6 million, or 2%, compared to $2.40 billion at September 30, 2021. SBA PPP loans decreased 90% to $13.4 million at September 30, 2022, compared to $133.9 million at December 31, 2021, and decreased 96% when compared to $310.2 million at September 30, 2021. Commercial and agricultural business loans represented approximately 25% of our portfolio at September 30, 2022. Our commercial business lending, to a lesser extent, includes participation in certain syndicated loans, including shared national credits, which totaled $206.8 million at September 30, 2022.

We are active originators of one- to four-family residential loans in most communities where we have established offices in Washington, Oregon, California and Idaho. Most of the one- to four-family residential loans that we originate are typically sold in secondary markets with net gains on sales and loan servicing fees reflected in our revenues from mortgage banking. Although our originations of loans held for sale has declined significantly, originations of portfolio one- to four-family residential loans have recently been relatively strong, despite increases in interest rates during the current year. At September 30, 2022, our outstanding balance of one- to four-family residential loans retained in our portfolio increased $367.7 million, to $1.03 billion, compared to $657.5 million at December 31, 2021, and increased $369.1 million, or 56%, compared to $656.0 million at September 30, 2021. The increase in one- to four-family residential loans from December 31, 2021 was primarily the result of a higher percentage of new production and one- to four-family construction loans converting to one- to four-family residential loans being held in portfolio during the second and third quarters of 2022. One- to four-family residential loans represented 10% of our loan portfolio at September 30, 2022.

Our consumer loan activity is primarily directed at meeting demand from our existing deposit clients. At September 30, 2022, consumer loans, including home equity revolving lines of credit, increased $106.3 million to $662.2 million, compared to $555.9 million at December 31, 2021, and increased $100.9 million compared to $561.2 million at September 30, 2021. The increase from December 31, 2021 was primarily due to a home equity loan marketing campaign during the second and third quarters of 2022.

The following table shows the commitment amount for loan origination (excluding loans held for sale) activity for the three and nine months ended September 30, 2022 and September 30, 2021 (in thousands):

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Loans held for sale decreased to $84.4 million at September 30, 2022, compared to $96.5 million at December 31, 2021, as sales exceeded originations of held-for-sale loans during the nine months ended September 30, 2022. Loans held for sale were $63.7 million at September 30, 2021. Originations of loans held for sale decreased to $376.7 million for the nine months ended September 30, 2022, compared to $912.5 million for the same period last year, primarily due to decreased refinance activity as well as an overall decrease in purchase activity for one- to four-family residential mortgage loans due to the increase in interest rates during the current year. The volume of one- to four-family residential mortgage loans sold was $348.7 million during the nine months ended September 30, 2022, compared to $799.3 million in the same period a year ago. During the nine months ended September 30, 2022, we sold $26.3 million of multifamily loans, compared to $287.7 million for the same period a year ago. Loans held for sale included $73.8 million and $9.7 million of multifamily loans and $10.6 million and $54.0 million of one- to four-family residential mortgage loans at September 30, 2022 and 2021, respectively.

The following table presents loans by geographic concentration at September 30, 2022, December 31, 2021 and September 30, 2021 (dollars in thousands):

Investment Securities: Our total investment securities decreased $29.5 million to $4.16 billion at September 30, 2022 from $4.19 billion at December 31, 2021. Securities sales, paydowns and maturities exceeded purchases during the nine-month period ended September 30, 2022. During the first quarter of 2022, $458.6 million of securities were transferred from available for sale to securities held to maturity to limit the impact that potential future interest rates changes would have on our AOCI. Purchases during the nine months ended September 30, 2022 were primarily in mortgage-backed securities. The average effective duration of Banner’s securities portfolio was 6.4 years at September 30, 2022, compared to 4.6 years at December 31, 2021. Net fair value adjustments to the portfolio of securities held for trading, which were included in net income, increased $1.4 million in the nine months ended September 30, 2022. In addition, fair value adjustments for securities designated as available-for-sale decreased $422.7 million for the nine months ended September 30, 2022, which was included net of the associated tax benefit of $101.5 million as a component of other comprehensive income, and largely occurred as a result of increases in market interest rates during the nine months ended September 30, 2022. The Company held $300.0 million of securities purchased under resell agreements at both September 30, 2022 and December 31, 2021.

Deposits: Deposits, client retail repurchase agreements and loan repayments are the major sources of our funds for lending and other investment purposes. We compete with other financial institutions and financial intermediaries in attracting deposits and we generally attract deposits within our primary market areas. Increasing core deposits (non-interest-bearing and interest-bearing transaction and savings accounts) is a fundamental element of our business strategy. Much of the focus of our branch strategy and current marketing efforts have been directed toward attracting additional deposit client relationships and balances. This effort has been particularly directed towards emphasizing core deposit activity in non-interest-bearing and other transaction and savings accounts. The long-term success of our deposit gathering activities is reflected not only in the growth of core deposit balances, but also in the level of deposit fees, service charges and other payment processing revenues compared to prior periods.

The following table sets forth the Company’s deposits by type of deposit account as of the dates indicated (dollars in thousands):

Total deposits were $14.23 billion at September 30, 2022, compared to $14.33 billion at December 31, 2021 and $14.16 billion a year ago. The $92.7 million decrease in total deposits compared to December 31, 2021 reflects a $116.7 million decrease in certificates of deposit, partially offset by a $24.0 million increase in core deposits. The decrease in total deposits during the first nine months of 2022 was primarily due to the sale of four branches, which included the transfer of $178.2 million of related deposits. Non-interest-bearing account balances increased 2% to $6.51 billion at September 30, 2022, compared to $6.39 billion at December 31, 2021, and increased 2% compared to $6.40 billion a year ago. Interest-bearing transaction and savings accounts decreased 1% to $7.00 billion at September 30, 2022, compared to $7.10 billion at December 31, 2021, and increased 1% compared to $6.91 billion a year ago. Certificates of deposit decreased 14% to $721.9 million at September 30, 2022, compared to $838.6 million at December 31, 2021 and decreased 15% compared to $851.1 million a year ago. We had no brokered deposits at September 30, 2022 or December 31, 2021. Core deposits represented 95% and 94% of total deposits at September 30, 2022 and December 31, 2021, respectively.

The following table presents deposits by geographic concentration at September 30, 2022, December 31, 2021 and September 30, 2021 (dollars in thousands):

Borrowings: We had no FHLB advances at September 30, 2022, compared to $50.0 million at December 31, 2021, as core deposits were a sufficient source of funding. Other borrowings, consisting of retail repurchase agreements primarily related to client cash management accounts, decreased $30.5 million, or 12%, to $234.0 million at September 30, 2022, compared to $264.5 million at December 31, 2021. Junior subordinated debentures totaled $73.8 million at September 30, 2022 compared to $119.8 million at December 31, 2021, as Banner redeemed $50.5 million of junior subordinated debentures during the first quarter of 2022. Subordinated notes, net of issuance costs were $98.8 million at September 30, 2022 compared to $98.6 million at December 31, 2021.

Shareholders’ Equity: Total shareholders’ equity decreased $281.7 million to $1.41 billion at September 30, 2022, as compared to December 31, 2021. The decrease in shareholders’ equity is primarily due to the $369.4 million decrease in AOCI, primarily representing the unrealized loss and related decrease in the fair value of securities available-for-sale, net of tax, the accrual of $45.7 million of cash dividends to common shareholders, and the repurchase of 200,000 shares of common stock at a total cost of $11.0 million, partially offset by the $141.0 million of year-to-date net income. During the nine months ended September 30, 2022, no shares of restricted stock were forfeited and 54,375 shares were surrendered by employees to satisfy tax withholding obligations upon the vesting of restricted stock grants. Tangible common shareholders’ equity, which excludes goodwill and other intangible assets, decreased $277.5 million to $1.02 billion, or 6.41% of tangible assets at September 30, 2022, compared to $1.30 billion, or 7.93% of tangible assets at December 31, 2021. The decrease in tangible common shareholders’ equity as a percentage of tangible assets was primarily due to the previously mentioned decrease in AOCI.

Comparison of Results of Operations for the Three Months Ended September 30, 2022 and June 30, 2022 and the Nine Months Ended September 30, 2022 and 2021

For the quarter ended September 30, 2022, our net income was $49.1 million, or $1.43 per diluted share, compared to $48.0 million, or $1.39 per diluted share, for the preceding quarter. For the nine months ended September 30, 2022, our net income was $141.0 million, or $4.09 per diluted share, compared to net income of $151.1 million, or $4.32 per diluted share for the same period a year earlier. Our net income for the current quarter included increased interest income due to increased average yields on total interest-earning assets, partially offset by decreased mortgage banking income and a provision for credit losses of $6.1 million. Our results for both the quarter ended September 30, 2022 and the preceding quarter included no COVID-19 related expenses or merger and acquisition-related expenses. Our net income for the nine months ended September 30, 2022 included a $19.8 million decrease in mortgage banking income and a provision for credit losses of $3.7 million, partially offset by a $7.8 million gain recognized on the branch sale completed during the preceding quarter and increased interest income. The increased interest income is due to increased interest-earning assets, partially offset by a decline in the recognition of deferred loan fee income due to reduced loan repayments from SBA PPP loan forgiveness, compared to the same period a year ago. Our results for the nine months ended September 30, 2022 included no COVID-19 related expenses or merger and acquisition-related expenses as compared to $309,000 of COVID-19 related expenses and $660,000 of merger and acquisition-related expenses in the same prior year period.

An increase in the yields on loans and investment securities due to rising interest rates during the quarter as well as an increase in average interest-earning assets, particularly growth in loan balances, resulting in higher yielding loans making up a higher percentage of interest-earning assets, produced increased net interest income for the quarter compared to the preceding quarter. Growth in the balance of average interest-earning assets and decreased funding costs, partially offset by a decline in the recognition of deferred loan fee income due to SBA PPP loan repayments from SBA loan forgiveness and the slight decline in the average yield on interest-earning assets, produced increased net interest income for the nine months ended September 30, 2022 compared to the same period a year ago. The increase in net interest income, partially offset by lower income from mortgage banking operations, and the gain on sale of branches recognized in the preceding quarter resulted in increased total revenue for the quarter ended September 30, 2022, compared to the preceding quarter as well as for the nine months ended September 30, 2022, compared to the same period a year earlier.

Banner recorded a $6.1 million provision for credit losses for the quarter ended September 30, 2022, compared to a $4.5 million provision for credit losses in the prior quarter. The provision for credit losses for the current and preceding quarter primarily reflects loan growth and, to a lesser extent, a deterioration in forecasted economic conditions and indicators utilized to estimate credit losses. Banner recorded a $3.7 million provision for credit losses for the nine months ended September 30, 2022, compared to a $28.1 million recapture of provision for credit losses for the same period a year ago. The provision for credit losses for the nine months ended September 30, 2022 reflects growth in loan balances and, to a lesser extent, a deterioration in forecasted economic conditions and indicators utilized to estimate credit losses, partially offset by a decrease in adversely classified loans.

Non-interest expenses increased in the quarter ended September 30, 2022 compared to the prior quarter and decreased during the nine months ended September 30, 2022, compared to the to the same period a year ago. The increase in non-interest expense for the current quarter compared to the prior quarter reflects increased salary and employee benefits, primarily due to an increase in bonus and commission expense, a decrease in capitalized loan origination costs, primarily due to decreases in production for one- to four-family residential and construction loans, and an increase in information and computer data services expense, primarily due to an increase in computer software expenses, partially offset by a decrease in occupancy and equipment expense, primarily due to a reduction in building rent expense during the current quarter as the result of exiting a large lease agreement in the second quarter of 2022. The year-over-year nine month decrease in non-interest expense reflects a decrease in professional and legal expenses, primarily due to a reduction in consultant expense, and a reduction in occupancy and equipment expense, due to the previously mentioned reduction in building rent expense, partially offset by an increase in salary and employee benefits expense and a decrease in capitalized loan origination costs.

(In thousands)

Net Interest Income. Net interest income increased by $17.4 million, or 14%, to $146.4 million for the quarter ended September 30, 2022, compared to $129.0 million for the preceding quarter. The higher net interest income during the quarter compared to the preceding quarter was primarily due to increases in the average yields on loans and investment securities as well as increases in average loan balances. The higher yields on interest-earning assets for the quarter ended September 30, 2022 compared to the preceding quarter reflect the rising interest rate environment during 2022.

The net interest margin on a tax equivalent basis increased 41 basis points to 3.85% for the quarter ended September 30, 2022, compared to a net interest margin on a tax equivalent basis of 3.44% for the preceding quarter. The increase in net interest margin compared to the preceding quarter was primarily due to a 43 basis-point increase in the average yields on interest-earning assets during the current quarter. Since March 2022, in response to inflation, the Federal Open Market Committee (“FOMC”) of the Federal Reserve System has increased the target range for the federal funds rate by 300 basis points, including 150 basis points during the third quarter of 2022, to a range of 3.00% to 3.25%. The increase in average yields on interest-earning assets during the current quarter reflects the benefit of variable rate interest-earning assets repricing higher, as well as new loans being originated at higher interest rates. Our balance sheet is structured to increase the net interest margin in the near term if the FOMC continues to raise the targeted federal funds rate in an effort to curb inflation, which appears likely based on recent Federal Reserve communications and interest rate forecasts.

Net interest income increased by $18.7 million, or 5%, to $394.1 million for the nine months ended September 30, 2022, compared to $375.4 million for the same period one year earlier, primarily due to an increase of $682.9 million in the average balance of interest-earning assets and decreased funding costs, partially offset by a decline in the recognition of deferred loan fee income due to SBA PPP loan repayments from SBA loan forgiveness resulting in a decline in the average yield on interest-earning assets. The slightly lower average yield on interest-earning assets compared to same period a year ago also reflects the growth in the average balance of interest-earning assets primarily being invested in short term investments, including interest bearing deposits and securities available for sale during the nine months ended September 30, 2022. The net interest margin on a tax equivalent basis increased to 3.49% for the nine months ended September 30, 2022 compared to 3.48% for the same period in the prior year.

Interest Income. Interest income for the quarter ended September 30, 2022 was $151.1 million, compared to $133.0 million for the preceding quarter. The increase in interest income during the current quarter compared to the prior quarter occurred primarily as a result of higher yields on interest-earning assets and increased averaged loan balances. The average balance of interest-earning assets was $15.37 billion for the quarter ended September 30, 2022, compared to $15.35 billion for the preceding quarter. The average yield on total interest-earning assets was 3.97% for the quarter ended September 30, 2022, compared to 3.54% for the preceding quarter. This increase in average yield between the quarters reflects a 52 basis-point increase in the average yield on investment securities, and a 28 basis-point increase in the average yield on loans, in each case due to rising interest rates. Average loan balances for the quarter ended September 30, 2022 increased $351.7 million, or 4%, to $9.72 billion, compared to $9.37 billion for the preceding quarter, primarily reflecting the increase in one- to four-family loans. Interest income on loans increased by $12.1 million to $116.6 million for the current quarter from $104.5 million for the preceding quarter, reflecting the increase in the average balance of loans receivable as well as the impact of the previously mentioned increases in interest rates. The average yield on total loans increased to 4.82% for the quarter ended September 30, 2022, from 4.54% in the preceding quarter, also reflecting the impact of the previously mentioned increases in interest rates.

The combined average balance of mortgage-backed securities, other investment securities, equity securities, interest-bearing deposits and FHLB stock (total investment securities or combined portfolio) decreased to $5.64 billion for the quarter ended September 30, 2022 (excluding the effect of fair value adjustments), compared to $5.98 billion for the preceding quarter. The interest and dividend income from those investments increased by $6.0 million compared to the preceding quarter. The average yield on the combined portfolio increased to 2.51% for the quarter ended September 30, 2022, from 1.99% in the preceding quarter. The increase in the average yield for the current quarter compared to the preceding quarter reflects the rising interest rate environment.

Interest income for the nine months ended September 30, 2022 was $407.0 million, compared to $394.0 million for the same period in the prior year, an increase of $13.1 million. The results between the periods primarily reflect a higher average balance of interest-earning assets, partially offset by a slight decrease in the average yield on interest-earning assets, mostly due to the investment of excess liquidity in short term investments as well as a decline in the acceleration of the recognition of deferred loan fee income upon SBA repayment and forgiveness of low yielding SBA PPP loans.

Interest Expense. Interest expense for the quarter ended September 30, 2022 was $4.7 million, compared to $4.0 million for the preceding quarter. The interest expense increase between the current quarter and preceding quarter reflects an increase in the average cost of total funding liabilities, partially offset by a decrease in the average balance of total funding liabilities.

Interest expense for the nine months ended September 30, 2022 was $12.9 million, compared to $18.6 million for the same period in the prior year. The decrease in interest expense occurred as a result of a six basis-point decrease in the average cost of all funding liabilities to 0.12% for the nine months ended September 30, 2022, compared to 0.18% for the same period in the prior year, partially offset by a $733.0 million, or 5%, increase in average funding liabilities. The increase in average funding liabilities reflects increases in low costing core deposits, including non-interest-bearing deposits and interest-bearing transaction and savings accounts, partially offset by decreases in higher cost certificates of deposit and FHLB advances.

Deposit interest expense increased $399,000, or 20%, to $2.4 million for the quarter ended September 30, 2022, compared to $2.0 million for the preceding quarter, primarily as a result of an increase in the average rate paid on interest-bearing deposits. The average rate paid on total deposits was 0.07% in the third quarter of 2022 and 0.06% in the preceding quarter. The cost of interest-bearing deposits increased by two basis-point to 0.12% for the quarter ended September 30, 2022, compared to 0.10% in the preceding quarter. Average deposit balances decreased to $14.26 billion for the quarter ended September 30, 2022, from $14.44 billion for the preceding quarter.

Deposit interest expense for the nine months ended September 30, 2022 decreased $2.9 million, or 31%, to $6.5 million, compared to $9.4 million for the same period in the prior year. Average deposit balances increased to $14.37 billion for the nine months ended September 30, 2022, from $13.50 billion for the same period a year earlier, while the average rate paid on deposits decreased to 0.06% for the nine months ended September 30, 2022 from 0.09% for the same period in the prior year. The average cost of interest-bearing deposits decreased by six basis points to 0.11% for the nine months ended September 30, 2022, compared to 0.17% in the same period a year earlier. The decrease in the average cost of interest-bearing deposits was primarily the result of an increase in the average balance of core deposits combined with a 31 basis-point decrease in the cost of certificates of deposit along with a $106.0 million decline in the average balance of certificates of deposit.

Interest expense on total borrowings increased to $2.3 million for the quarter ended September 30, 2022 from $2.0 million for the preceding quarter. The increase was primarily due to an increase in the average rate paid on total borrowings. The average rate paid on total borrowings for the quarter ended September 30, 2022 increased to 2.08% from 1.80% for the preceding quarter. Average total borrowings were $431.8 million for the quarter ended September 30, 2022, compared to $441.3 million for the preceding quarter.

Interest expense on total borrowings decreased to $6.4 million for the nine months ended September 30, 2022 from $9.2 million for the same period a year earlier. Average total borrowings were $457.6 million for the nine months ended September 30, 2022, compared to $594.2 million for the same period a year earlier. The decrease was primarily due to the decrease in the average balance of junior subordinated debentures and FHLB advances. The average rate paid on total borrowings for the nine months ended September 30, 2022 decreased to 1.87% from 2.07% for the same period a year earlier.

Analysis of Net Interest Spread. The following tables present for the periods indicated our condensed average balance sheet information, together with interest income and yields earned on average interest-earning assets and interest expense and rates paid on average interest-bearing liabilities with additional comparative data on our operating performance (dollars in thousands):

(dollars in thousands)

(1) Average balances include loans accounted for on a nonaccrual basis and loans 90 days or more past due. Amortization of net deferred loan fees/costs is included with interest on loans.

(2) Average other non-interest-bearing liabilities include fair value adjustments related to junior subordinated debentures.

(3) Tax-exempt income is calculated on a tax equivalent basis. The tax equivalent yield adjustment to interest earned on loans was $1.5 million and $1.4 million for the three months ended September 30, 2022 and June 30, 2022, respectively. The tax equivalent yield adjustment to interest earned on tax exempt securities was $1.3 million and $1.2 million for the three months ended September 30, 2022 and June 30, 2022, respectively.

(4) Non-interest expense divided by the total of net interest income and non-interest income.

(5) Adjusted non-interest expense divided by adjusted revenue. These represent non-GAAP financial measures. See the discussion and reconciliation of non-GAAP financial information in the Executive Overview section of Management’s Discussion and Analysis of Financial Condition and Results of Operation in this Form 10-Q for more detailed information with respect to the efficiency ratio.

(1) Average balances include loans accounted for on a nonaccrual basis and loans 90 days or more past due. Amortization of net deferred loan fees/costs is included with interest on loans.

(2) Average other non-interest-bearing liabilities include fair value adjustments related to junior subordinated debentures.

(3) Tax-exempt income is calculated on a tax equivalent basis. The tax equivalent yield adjustment to interest earned on loans was $4.2 million and $3.8 million for the nine months ended September 30, 2022 and September 30, 2021, respectively. The tax equivalent yield adjustment to interest earned on tax exempt securities was $3.5 million and $3.0 million for the nine months ended September 30, 2022 and September 30, 2021, respectively.

(4) Non-interest expense divided by the total of net interest income and non-interest income.

(5) Adjusted non-interest expense divided by adjusted revenue. These represent non-GAAP financial measures. See the discussion and reconciliation of non-GAAP financial information in the Executive Overview section of Management’s Discussion and Analysis of Financial Condition and Results of Operation in this Form 10-Q for more detailed information with respect to the efficiency ratio.

Provision and Allowance for Credit Losses. Management estimates the allowance for credit losses using relevant information, from internal and external sources, relating to past events, current conditions, and reasonable and supportable forecasts. The allowance for credit losses is maintained at a level sufficient to provide for expected credit losses over the life of the loan based on evaluating historical credit loss experience and making adjustments to historical loss information for differences in the specific risk characteristics in the current loan portfolio. These factors include, among others, changes in the size and composition of the loan portfolio, differences in underwriting standards, delinquency rates, actual loss experience and current economic conditions. The following table sets forth an analysis of our allowance for credit losses - loans for the periods indicated (dollars in thousands):

(dollars in thousands)

The provision for credit losses - loans reflects the amount required to maintain the allowance for credit losses - loans at an appropriate level based upon management’s evaluation of the adequacy of collective and individual loss reserves. During the quarter ended September 30, 2022, we recorded a provision for credit losses - loans of $6.3 million, compared to a provision for credit losses - loans of $3.1 million during the prior quarter. The provision for credit losses - loans for the current and preceding quarter primarily reflects loan growth and, to a lesser extent, a deterioration in forecasted economic conditions and indicators utilized to estimate credit losses, partially offset by an improvement in the level of adversely classified loans. Future assessments of the expected credit losses will not only be impacted by changes in the composition of and amount of loans and to the reasonable and supportable forecast, but will also include an updated assessment of qualitative factors, as well as consideration of any required changes in the reasonable and supportable forecast reversion period.

Net loan recoveries were $869,000 for the quarter ended September 30, 2022 compared to net recoveries of $87,000 in the preceding quarter. The allowance for credit losses - loans was $135.9 million at September 30, 2022 compared to $128.7 million at June 30, 2022 and $139.9 million at September 30, 2021. The allowance for credit losses - loans as a percentage of total loans (loans receivable excluding allowance for credit losses) was 1.38% at September 30, 2022 as compared to 1.36% at June 30, 2022 and 1.52% at September 30, 2021. The decrease in the allowance for credit losses - loans as a percentage of loans at September 30, 2022 compared to September 30, 2021 reflects the improvement in the level of adversely classified loans.

The provision for credit losses - unfunded loan commitments reflects the amount required to maintain the allowance for credit losses - unfunded loan commitments at an appropriate level based upon management’s evaluation of the adequacy of collective and individual loss reserves. The following table sets forth an analysis of our allowance for credit losses - unfunded loan commitments for the periods indicated (dollars in thousands):

The allowance for credit losses - unfunded loan commitments was $14.0 million at September 30, 2022, compared to $14.2 million at June 30, 2022 and compared to $10.1 million at September 30, 2021. The decrease in the allowance for credit losses - unfunded loan commitments reflects the recapture of provision for credit losses - unfunded loan commitments recorded during the current quarter. During the quarter ended September 30, 2022, we recorded a recapture of provision for credit losses - unfunded loan commitments of $205,000, compared to a $1.4 million provision for credit losses - unfunded loan commitments during the preceding quarter. During the nine months ended September 30, 2022, we recorded a provision for credit losses - unfunded loan commitments of $1.6 million, compared to a recapture of provision for loan losses - unfunded loan commitments of $3.2 million during the same period a year earlier. The recapture of provision for credit losses - unfunded loan commitments recorded during the current quarter was primarily the result of a decrease in the balance of unfunded loan commitments during the quarter. The provision for credit losses - unfunded loan commitments recorded during the preceding quarter was primarily the result of an increase in unfunded loan commitments.

Non-interest Income. The following table presents the key components of non-interest income for the three months ended September 30, 2022 and June 30, 2022 and the nine months ended September 30, 2022 and 2021 (dollars in thousands):

Non-interest income was $15.6 million for the quarter ended September 30, 2022, compared to $27.2 million for the preceding quarter, and was $62.2 million for the nine months ended September 30, 2022, compared to $71.9 million for the same period a year earlier. The decrease in non-interest income for the quarter compared to the preceding quarter was primarily due to a $7.8 million gain recognized on the branch sale completed during the prior quarter, as well as a $3.9 million decrease in revenue from mortgage banking operations. Our non-interest income for the quarter ended September 30, 2022 included a $532,000 net gain for fair value adjustments and a net gain of $6,000 on sales of securities. For the quarter ended June 30, 2022, fair value adjustments resulted in a net gain of $69,000 and we had a net gain of $32,000 on sale of securities. Our non-interest income for the nine months ended September 30, 2022 included a net gain of $650,000 for fair value adjustments and a $473,000 net gain on sale of securities. During the nine months ended September 30, 2021, fair value adjustments resulted in a net gain of $1.9 million and we had a $618,000 net gain on sale of securities.

Deposit fees and other service charges increased by $449,000, or 4%, for the quarter ended September 30, 2022, compared to the preceding quarter. Deposit fees and other service charges increased by $4.5 million, or 15%, for the nine months ended September 30, 2022, compared to the same period a year earlier, primarily as a result of increased deposit transaction account activity and the benefit from implementing Banner Forward initiatives.

Mortgage banking operations, including gains on one- to four-family and multifamily loan sales and loan servicing fees, decreased $3.9 million for the quarter ended September 30, 2022, compared to the preceding quarter and decreased $19.8 million for the nine months ended September 30, 2022, compared to the same period a year earlier. Gains on sales of one- to four-family loans resulted in income of $1.3 million and $9.2 million for the quarter and nine months ended September 30, 2022, respectively, compared to $3.7 million in the preceding quarter, and $6.9 million for the nine months ended September 30, 2021. These decreases in mortgage banking operations between the periods primarily reflect a reduction in the volume and a decrease in the gain on sale margin on one- to four-family sold along with a negative fair market adjustment on multifamily held for sale loans. The reduction in one-to four family loans sold primarily reflects a reduction in refinancing activity, as well as decreased purchase activity as interest rates increased during 2022. Home purchase activity accounted for 88% of one- to four-family mortgage loan originations in the third quarter of 2022, compared to 82% in the prior quarter. Sales of multifamily loans resulted in a net loss of $2.1 million during the quarter and $2.9 million during the nine months ended September 30, 2022, compared to net gain of $5.8 million for the same nine-month period a year ago. There were no sales of multifamily loans during the preceding quarter. The net loss recognized on multifamily loans for the three and nine months ended September 30, 2022 included $2.2 million and $3.3 million of lower of cost or market downward adjustments recorded on multifamily held for sale loans during the three and nine months ended September 30, 2022, respectively, due to increases in market interest rates.

The decrease in miscellaneous non-interest income during the nine months ended September 30, 2022, compared to the same period a year earlier is primarily due to higher gains recognized during the nine months ended September 30, 2021 related to the disposition of closed branch locations.

Non-interest Expense. The following table represents key elements of non-interest expense for the three months ended September 30, 2022 and June 30, 2022 and the nine months ended September 30, 2022 and 2021 (dollars in thousands):

Non-interest expenses were $95.0 million for the quarter ended September 30, 2022, compared to $92.1 million for the preceding quarter, and $278.3 million for the nine months ended September 30, 2022, compared to $288.3 million for the same period last year. The current quarter non-interest expense includes increased salary and employee benefits, a decrease in capitalized loan origination costs and an increase in information and computer data services expense, partially offset by a decrease in occupancy and equipment expense. We recognized no COVID-19 expenses during either the quarter ended September 30, 2022 or the preceding quarter. The decrease in non-interest expense for the nine months ended September 30, 2022 reflects a decrease in professional and legal expenses, primarily due to a reduction in consultant expense, and a reduction in salary and employee benefits expense, partially offset by a decrease in capitalized loan origination costs.

Salary and employee benefits expenses increased $807,000 to $61.6 million for the quarter ended September 30, 2022, compared to $60.8 million for the preceding quarter, primarily due to an increase in bonus and commission expense. Salary and employee benefits expenses decreased $4.6 million to $182.0 million for the nine months ended September 30, 2022, compared to $186.6 million for the same period last year, primarily due to a reduction in staffing. Capitalized loan origination costs decreased $1.2 million for the quarter ended September 30, 2022, compared to the preceding quarter, primarily due to decreases in production for one- to four-family residential and construction loans, and decreased $7.3 million for the nine months ended September 30, 2022, compared to the same period in the prior year, primarily due to the origination of SBA PPP loans during the first quarter of 2021. Information and computer data services expenses increased $806,000 for the quarter ended September 30, 2022 compared to the preceding quarter, and increased $1.5 million compared to the same period last year, primarily due to an increase in computer software expenses. Occupancy and equipment expenses decreased $1.3 million for the quarter ended September 30, 2022 compared to the preceding quarter, and decreased $453,000 compared to the same period last year, primarily due to a reduction in building rent expense during the current quarter as the result of exiting a large lease agreement in the second quarter of 2022. Professional and legal expenses decreased $259,000 for the quarter ended September 30, 2022 compared to the preceding quarter, and decreased $12.3 million compared to the same period last year, primarily due to a decrease in consulting expense. Advertising and marketing expenses increased $504,000 for the quarter ended September 30, 2022, compared to the preceding quarter and decreased $1.4 million for the nine months ended September 30, 2022, compared to the same period in the prior year, primarily due to a reduction in direct mail marketing expenses.

Banner’s efficiency ratio was 58.65% for the current quarter, compared to 58.94% in the preceding quarter. Banner’s adjusted efficiency ratio was 57.04% for the current quarter, compared to 59.46% in the preceding quarter. See the discussion and reconciliation of non-GAAP financial information in the Executive Overview section of Management’s Discussion and Analysis of Financial Condition and Results of Operation in this Form 10-Q.

Income Taxes. For the quarter ended September 30, 2022, we recognized $11.8 million in income tax expense for an effective tax rate of 19.4%, which reflects our blended statutory tax rate reduced by the effect of tax-exempt income, certain tax credits, and tax benefits related to restricted stock vesting. Our statutory income tax rate is 23.6%, representing a blend of the statutory federal income tax rate of 21.0% and apportioned effects of the state income tax rates. For the quarter ended June 30, 2022, we recognized $11.6 million in income tax expense for an effective tax rate of 19.5%. For the nine months ended September 30, 2022, we recognized $33.4 million in income tax expense for an effective tax rate of 19.1%, compared to $36.0 million in income tax expense for an effective tax rate of 19.3% for the same period in the prior year.

Asset Quality

Maintaining a moderate risk profile by employing appropriate underwriting standards, avoiding excessive asset concentrations and aggressively managing troubled assets has been and will continue to be a primary focus for us. We actively engage with our borrowers to resolve classified loans, and other problem assets and effectively manage REO as a result of foreclosures.

Non-Performing Assets: Non-performing assets decreased to $15.6 million, or 0.10% of total assets, at September 30, 2022, from $23.7 million, or 0.14% of total assets, at December 31, 2021, and from $29.7 million, or 0.18% of total assets, at September 30, 2021. Our allowance for credit losses - loans was $135.9 million, or 895% of non-performing loans at September 30, 2022 compared to $132.1 million, or 578% of non-performing loans at December 31, 2021 and $139.9 million, or 485% of non-performing loans at September 30, 2021. The low level of non-performing loans and other assets remains manageable at September 30, 2022. The primary components of the $15.6 million in non-performing assets were $13.5 million in nonaccrual loans, $1.7 million in loans more than 90 days delinquent and still accruing interest, and $357,000 in REO and other repossessed assets.

Loans are reported as TDRs when we grant concessions to a borrower experiencing financial difficulties that we would not otherwise consider. If any TDR loan becomes delinquent or other matters call into question the borrower’s ability to repay full interest and principal in accordance with the restructured terms, the TDR loan would be reclassified as nonaccrual. At September 30, 2022, we had $4.4 million of TDR loans performing under their restructured repayment terms.

The following table sets forth information with respect to our non-performing assets and restructured loans at the dates indicated (dollars in thousands):

(1) Includes $47,000 of nonaccrual TDR loans at September 30, 2022. For the nine months ended September 30, 2022, interest income was reduced by $283,000 as a result of nonaccrual loan activity, which includes the reversal of $22,000 of accrued interest as of the date the loan was placed on nonaccrual. There was no interest income recognized on nonaccrual loans for the nine months ended September 30, 2022.

(2) These loans were performing under their restructured repayment terms at the dates indicated.

In addition to the non-performing loans as of September 30, 2022, we had other classified loans with an aggregate outstanding balance of $119.8 million that are not on nonaccrual status, with respect to which known information concerning possible credit problems with the borrowers or the cash flows of the properties securing the respective loans has caused management to be concerned about the ability of the borrowers to comply with present loan repayment terms. This may result in the future inclusion of such loans in the nonaccrual loan category.

The following table presents the Company’s portfolio of risk-rated loans and non-risk-rated loans by grade at the dates indicated (in thousands):

The decrease in substandard loans during the nine months ended September 30, 2022 primarily reflects risk rating upgrades.

Liquidity and Capital Resources

Our primary sources of funds are deposits, borrowings, proceeds from loan principal and interest payments and sales of loans, and the maturity of and interest income on mortgage-backed and investment securities. While maturities and scheduled amortization of loans and mortgage-backed securities are a predictable source of funds, deposit flows and mortgage prepayments are greatly influenced by market interest rates, economic conditions, competition and our pricing strategies.

Our primary investing activity is the origination of loans and, in certain periods, the purchase of securities or loans. During the nine months ended September 30, 2022 and September 30, 2021, our loan originations, including originations of loans held for sale, exceeded our loan repayments by $998.1 million and $252.5 million, respectively. There were $103.3 million of loan purchases during the nine months ended September 30, 2022 and $4.3 million of loan purchases during the nine months ended September 30, 2021. This activity was funded primarily by the reduction in the balance of cash held as interest-bearing deposits. During the nine months ended September 30, 2022 and September 30, 2021, we received proceeds of $388.9 million and $1.15 billion, respectively, from the sale of loans. Securities purchased during the nine months ended September 30, 2022 and September 30, 2021 totaled $797.3 million and $2.44 billion, respectively, and securities repayments, maturities and sales in those periods were $362.1 million and $1.22 billion, respectively.

Our primary financing activity is gathering deposits. Total deposits decreased by $92.7 million during the first nine months of 2022, as certificates of deposit decreased by $116.7 million and core deposits increased by $24.0 million. The decrease in total deposits during the first nine months of 2022 was primarily due to the sale of four branches, which included the transfer of $178.2 million of related deposits. Certificates of deposit are generally more vulnerable to competition and more price sensitive than other retail deposits and our pricing of those deposits varies significantly based upon our liquidity management strategies at any point in time. At September 30, 2022, certificates of deposit totaled $721.9 million, or 5% of our total deposits, including $577.7 million which were scheduled to mature within one year. While no assurance can be given as to future periods, historically, we have been able to retain a significant amount of our certificates of deposit as they mature.

We had no FHLB advances at September 30, 2022, compared to $50.0 million at December 31, 2021. Other borrowings decreased $30.5 million to $234.0 million at September 30, 2022 from $264.5 million at December 31, 2021.

We must maintain an adequate level of liquidity to ensure the availability of sufficient funds to accommodate deposit withdrawals, to support loan growth, to satisfy financial commitments and to take advantage of investment opportunities. During the nine months ended September 30, 2022 and 2021, we used our sources of funds primarily to fund loan commitments and purchase securities. At September 30, 2022, we had outstanding loan commitments totaling $4.15 billion, primarily relating to undisbursed loans in process and unused credit lines. While representing potential growth in the loan portfolio and lending activities, this level of commitments is proportionally consistent with our historical experience and does not represent a departure from normal operations.

We generally maintain sufficient cash and readily marketable securities to meet short-term liquidity needs; however, our primary liquidity management practice to supplement deposits is to increase or decrease short-term borrowings. We maintain credit facilities with the FHLB-Des Moines, which provided for advances that in the aggregate would equal the lesser of 45% of Banner Bank’s assets or adjusted qualifying collateral (subject to a sufficient level of ownership of FHLB stock). At September 30, 2022, under these credit facilities based on pledged collateral, Banner Bank had $2.50 billion of available credit capacity. We had no advances under these credit facilities at September 30, 2022. In addition, Banner Bank has been approved for participation in the Borrower-In-Custody (BIC) program by the Federal Reserve Bank of San Francisco (FRBSF). Under this program, based on pledged collateral, Banner Bank had available lines of credit of approximately $1.10 billion as of September 30, 2022. We had no funds borrowed from the FRBSF at September 30, 2022 or December 31, 2021. At September 30, 2022, Banner Bank also had uncommitted federal funds line of credit agreements with other financial institutions totaling $125.0 million. No balances were outstanding under these agreements as of September 30, 2022 or December 31, 2021. Availability of lines is subject to federal funds balances available for loan and continued borrower eligibility. These lines are intended to support short-term liquidity needs and the agreements may restrict consecutive day usage. Management believes it has adequate resources and funding potential to meet our foreseeable liquidity requirements.

Banner Corporation is a separate legal entity from the Bank and, on a stand-alone level, must provide for its own liquidity and pay its own operating expenses and cash dividends. Banner Corporation’s primary sources of funds consist of capital raised through dividends or capital distributions from the Bank, although there are regulatory restrictions on the ability of the Bank to pay dividends. We currently expect to continue our current practice of paying quarterly cash dividends on our common stock subject to our Board of Directors’ discretion to modify or terminate this practice at any time and for any reason without prior notice. Our current quarterly common stock dividend rate is $0.44 per share, as approved by our Board of Directors, which we believe is a dividend rate per share which enables us to balance our multiple objectives of managing and investing in the Bank, and returning a substantial portion of our cash to our shareholders. Assuming continued payment during 2022 at this rate of $0.44 per share, our average total dividend paid each quarter would be approximately $15.0 million based on the number of outstanding shares at September 30, 2022. At September 30, 2022, the Company on an unconsolidated basis had liquid assets of $68.7 million.

As noted below, Banner Corporation and its subsidiary bank continued to maintain capital levels significantly in excess of the requirements to be categorized as “Well-Capitalized” under applicable regulatory standards. During the nine months ended September 30, 2022, total shareholders’ equity decreased $281.7 million, to $1.41 billion. At September 30, 2022, tangible common shareholders’ equity, which excludes goodwill and other intangible assets, was $1.02 billion, or 6.41% of tangible assets. See the discussion and reconciliation of non-GAAP financial information in the Executive Overview section of Management’s Discussion and Analysis of Financial Condition and Results of Operation in this Form 10-Q.

Capital Requirements

Banner Corporation is a bank holding company registered with the Federal Reserve. Bank holding companies are subject to capital adequacy requirements of the Federal Reserve under the Bank Holding Company Act of 1956, as amended (BHCA), and the regulations of the Federal Reserve. Banner Bank, as state-chartered, federally insured commercial bank, is subject to the capital requirements established by the FDIC.

The capital adequacy requirements are quantitative measures established by regulation that require Banner Corporation and the Bank to maintain minimum amounts and ratios of capital. The Federal Reserve requires Banner Corporation to maintain capital adequacy that generally parallels the FDIC requirements. The FDIC requires the Bank to maintain minimum ratios of Total Capital, Tier 1 Capital, and Common Equity Tier 1 Capital to risk-weighted assets as well as Tier 1 Leverage Capital to average assets. In addition to the minimum capital ratios, both Banner Corporation and the Bank are required to maintain a capital conservation buffer consisting of additional Common Equity Tier 1 Capital of more than 2.5% of risk-weighted assets above the required minimum levels in order to avoid limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses. At September 30, 2022, Banner Corporation and the Bank each exceeded all regulatory capital requirements.

The actual regulatory capital ratios calculated for Banner Corporation and Banner Bank as of September 30, 2022, along with the minimum capital amounts and ratios, were as follows (dollars in thousands):

74

Market Risk and Asset/Liability Management

Our financial condition and operations are influenced significantly by general economic conditions, including the absolute level of interest rates as well as changes in interest rates and the slope of the yield curve. Our profitability is dependent to a large extent on our net interest income, which is the difference between the interest received from our interest-earning assets and the interest expense incurred on our interest-bearing liabilities.

Our activities, like all financial institutions, inherently involve the assumption of interest rate risk. Interest rate risk is the risk that changes in market interest rates will have an adverse impact on the institution’s earnings and underlying economic value. Interest rate risk is determined by the maturity and repricing characteristics of an institution’s assets, liabilities and off-balance-sheet contracts. Interest rate risk is measured by the variability of financial performance and economic value resulting from changes in interest rates. Interest rate risk is the primary market risk affecting our financial performance.

The greatest source of interest rate risk to us results from the mismatch of maturities or repricing intervals for rate sensitive assets, liabilities and off-balance-sheet contracts. This mismatch or gap is generally characterized by a substantially shorter maturity structure for interest-bearing liabilities than interest-earning assets, although our floating-rate assets tend to be more immediately responsive to changes in market rates than most deposit liabilities. Additional interest rate risk results from mismatched repricing indices and formula (basis risk and yield curve risk), and product caps and floors and early repayment or withdrawal provisions (option risk), which may be contractual or market driven, that are generally more favorable to clients than to us. An exception to this generalization is the beneficial effect of interest rate floors on a portion of our performing floating-rate loans, which help us maintain higher loan yields in periods when market interest rates decline significantly. However, in a declining interest rate environment, as loans with floors are repaid they generally are replaced with new loans which have lower interest rate floors. As of September 30, 2022, our loans with interest rate floors totaled $4.23 billion and had a weighted average floor rate of 4.11% compared to a current average note rate of 5.4%. As of September 30, 2022, our loans with interest rates at their floors totaled $1.09 billion and had a weighted average note rate of 3.94% and our loans with interest rates below their floors totaled $483.2 million and had a weighted average note rate of 4.24%. The Company actively manages its exposure to interest rate risk through on-going adjustments to the mix of interest-earning assets and funding sources that affect the repricing speeds of loans, investments, interest-bearing deposits and borrowings.

The principal objectives of asset/liability management are: to evaluate the interest rate risk exposure; to determine the level of risk appropriate given our operating environment, business plan strategies, performance objectives, capital and liquidity constraints, and asset and liability allocation alternatives; and to manage our interest rate risk consistent with regulatory guidelines and policies approved by the Board of Directors. Through such management, we seek to reduce the vulnerability of our earnings and capital position to changes in the level of interest rates. Our actions in this regard are taken under the guidance of the Asset/Liability Management Committee, which is comprised of members of our senior management. The Committee closely monitors our interest sensitivity exposure, asset and liability allocation decisions, liquidity and capital positions, and local and national economic conditions and attempts to structure the loan and investment portfolios and funding sources to maximize earnings within acceptable risk tolerances.

Sensitivity Analysis

Our primary monitoring tool for assessing interest rate risk is asset/liability simulation modeling, which is designed to capture the dynamics of balance sheet, interest rate and spread movements and to quantify variations in net interest income resulting from those movements under different rate environments. The sensitivity of net interest income to changes in the modeled interest rate environments provides a measurement of interest rate risk. We also utilize economic value analysis, which addresses changes in estimated net economic value of equity arising from changes in the level of interest rates. The net economic value of equity is estimated by separately valuing our assets and liabilities under varying interest rate environments. The extent to which assets gain or lose value in relation to the gains or losses of liability values under the various interest rate assumptions determines the sensitivity of net economic value to changes in interest rates and provides an additional measure of interest rate risk.

The interest rate sensitivity analysis performed by us incorporates beginning-of-the-period rate, balance and maturity data, using various levels of aggregation of that data, as well as certain assumptions concerning the maturity, repricing, amortization and prepayment characteristics of loans and other interest-earning assets and the repricing and withdrawal of deposits and other interest-bearing liabilities into an asset/liability computer simulation model. We update and prepare simulation modeling at least quarterly for review by senior management and oversight by the directors. We believe the data and assumptions are realistic representations of our portfolio and possible outcomes under the various interest rate scenarios. Nonetheless, the interest rate sensitivity of our net interest income and net economic value of equity could vary substantially if different assumptions were used or if actual experience differs from the assumptions used.

The following table sets forth, as of September 30, 2022, the estimated changes in our net interest income over one-year and two-year time horizons and the estimated changes in economic value of equity based on the indicated interest rate environments (dollars in thousands):

(1) Assumes an instantaneous and sustained uniform change in market interest rates at all maturities; however, no rates are allowed to go below zero. The targeted Federal Funds Rate was between 3.00% and 3.25% at September 30, 2022.

Interest Rate Swaps: The Bank enters into interest rate swaps with certain qualifying commercial loan clients to meet their interest rate risk management needs. The Bank simultaneously enters into interest rate swaps with dealer counterparties, with identical notional amounts and terms. The net result of these interest rate swaps is that the client pays a fixed rate of interest and the Bank receives a floating rate. These interest rate swaps are derivative financial instruments and the gross fair values are recorded in other assets and liabilities on the consolidated balance sheets, with changes in fair value during the period recorded in other non-interest expense on the consolidated statements of income.

Cash Flow Hedges of Interest Rate Risk: The Bank’s objectives in using interest rate derivatives are to reduce volatility in net interest income and to manage its exposure to interest rate movements. To accomplish this objective, the Bank primarily uses interest rate swaps as part of its interest rate risk management strategy. During the fourth quarter of 2021, the Bank entered into interest rate swaps designated as cash flow hedges to hedge the variable cash flows associated with existing floating rate loans. These hedge contracts involve the receipt of fixed-rate amounts from a counterparty in exchange for the Bank making floating-rate payments over the life of the agreements without exchange of the underlying notional amount.

Another (although less reliable) monitoring tool for assessing interest rate risk is gap analysis. The matching of the repricing characteristics of assets and liabilities may be analyzed by examining the extent to which assets and liabilities are interest sensitive and by monitoring an institution’s interest sensitivity gap. An asset or liability is said to be interest sensitive within a specific time period if it will mature or reprice within that time period. The interest rate sensitivity gap is defined as the difference between the amount of interest-earning assets anticipated, based upon certain assumptions, to mature or reprice within a specific time period and the amount of interest-bearing liabilities anticipated to mature or reprice, based upon certain assumptions, within that same time period. A gap is considered positive when the amount of interest-sensitive assets exceeds the amount of interest-sensitive liabilities. A gap is considered negative when the amount of interest-sensitive liabilities exceeds the amount of interest-sensitive assets. Generally, during a period of rising rates, a negative gap would tend to adversely affect net interest income while a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would tend to result in an increase in net interest income while a positive gap would tend to adversely affect net interest income.

Certain shortcomings are inherent in gap analysis. For example, although certain assets and liabilities may have similar maturities or periods of repricing, they may react in different degrees to changes in market rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market rates, while interest rates on other types may lag behind changes in market rates. Additionally, certain assets, such as adjustable-rate mortgage loans, have features that restrict changes in interest rates on a short-term basis and over the life of the asset. Further, in the event of a change in interest rates, prepayment and early withdrawal levels would likely deviate significantly from those assumed in calculating the table. Finally, the ability of some borrowers to service their debt may decrease in the event of a severe change in market rates.

The following table presents our interest sensitivity gap between interest-earning assets and interest-bearing liabilities at September 30, 2022 (dollars in thousands). The table sets forth the amounts of interest-earning assets and interest-bearing liabilities which are anticipated by us, based upon certain assumptions, to reprice or mature in each of the future periods shown. At September 30, 2022, total interest-earning assets maturing or repricing within one year exceeded total interest-bearing liabilities maturing or repricing in the same time period by $3.86 billion, representing a one-year cumulative gap to total assets ratio of 23.61%. Management is aware of the sources of interest rate risk and in its opinion actively monitors and manages it to the extent possible. The interest rate risk indicators and interest sensitivity gaps as of September 30, 2022 are within our internal policy guidelines and management considers that our current level of interest rate risk is reasonable.

(Footnotes on following page)

Footnotes for Table of Interest Sensitivity Gap

(1) Adjustable-rate assets are included in the period in which interest rates are next scheduled to adjust rather than in the period in which they are due to mature, and fixed-rate assets are included in the period in which they are scheduled to be repaid based upon scheduled amortization, in each case adjusted to take into account estimated prepayments. Mortgage loans and other loans are not reduced for allowances for credit losses and non-performing loans. Mortgage loans, mortgage-backed securities, other loans and investment securities are not adjusted for deferred fees, unamortized acquisition premiums and discounts.

(2) Adjustable-rate liabilities are included in the period in which interest rates are next scheduled to adjust rather than in the period they are due to mature. Although regular savings, demand, interest checking, and money market deposit accounts are subject to immediate withdrawal, based on historical experience management considers a substantial amount of such accounts to be core deposits having significantly longer maturities. For the purpose of the gap analysis, these accounts have been assigned decay rates to reflect their longer effective maturities. If all of these accounts had been assumed to be short-term, the one-year cumulative gap of interest-sensitive assets would have been $(2.1) billion, or (12.70)% of total assets at September 30, 2022. Interest-bearing liabilities for this table exclude certain non-interest-bearing deposits which are included in the average balance calculations in the table contained in Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Comparison of Results of Operations for the Three Months Ended September 30, 2022 and June 30, 2022 and the Nine Months Ended September 30, 2022 and 2021” of this report on Form 10-Q.

The management of Banner Corporation is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rule 13a-15(f) of the Securities Exchange Act of 1934 (Exchange Act). A control procedure, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that its objectives are met. Also, because of the inherent limitations in all control procedures, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. Additionally, in designing disclosure controls and procedures, our management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controls and procedures also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. As a result of these inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Further, projections of any evaluation of effectiveness to future periods are subject to risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

(a) Evaluation of Disclosure Controls and Procedures: An evaluation of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act) was carried out under the supervision and with the participation of our Chief Executive Officer, Chief Financial Officer and several other members of our senior management as of the end of the period covered by this report. Based on their evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of September 30, 2022, our disclosure controls and procedures were effective in ensuring that the information required to be disclosed by us in the reports it files or submits under the Exchange Act is (i) accumulated and communicated to our management (including the Chief Executive Officer and Chief Financial Officer) in a timely manner, and (ii) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

(b) Changes in Internal Controls Over Financial Reporting: In the quarter ended September 30, 2022, there was no change in our internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

There have been no material changes in the risk factors previously disclosed in Part 1, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2021.