UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-K

(Mark One)

þ		ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 0-49814

MONARCH COMMUNITY BANCORP, INC.

(Exact name of registrant as specified in its charter)

Maryland (State or other jurisdiction of incorporation or organization)		04-3627031 (I.R.S. Employer Identification No.)

375 North Willowbrook Road, Coldwater, Michigan		49036
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (517) 278-4566

Securities Registered Pursuant to Section 12(b) of the Act:
Common Stock, par value $.01 per share registered on NASDAQ Capital Market

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No þ.

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 of Section 15(d) of the Exchange Act. Yes o No þ.

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES þ NO o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

Indicate by check mark if disclosure of delinquent filers in response to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. þ

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

Large Accelerated Filer o		Accelerated Filer o		Non-Accelerated Filer o		Smaller reporting company þ
				(Do not check if a smaller reporting company)

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

The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant, based on the average of bid and ask price market price of such stock as of June 30, 2009 was approximately $10.9 million as reported on the NASDAQ Capital Market. (The exclusion from such amount of the market value of the shares owned by any person shall not be deemed an admission by the issuer that such person is an affiliate of the issuer.)

As of February 26, 2010, the registrant had 2,044,606 shares of common stock issued and outstanding.

DOCUMENTS INCORPORATED BY REFERENCE PART III of Form 10-K – Portions of the Registrant’s Proxy Statement for the Annual Meeting of Stockholders to be held in April 2010.

 

 

PART I

ITEM 1. Business

General

Monarch Community Bancorp, Inc. (“Company”) was incorporated in March 2002 under Maryland law to hold all of the common stock of Monarch Community Bank (“Monarch” or the “Bank”), formerly known as Branch County Federal Savings and Loan Association. The Bank converted to a stock savings institution effective August 29, 2002. In connection with the conversion, the Company sold 2,314,375 shares of its common stock in a subscription offering.

On April 15, 2004, the Company completed its acquisition of MSB Financial, Inc., parent company of Marshall Savings Bank. Accordingly, MSB Financial was merged with and into Monarch Community Bancorp, Inc. On June 7, 2004, Marshall Savings Bank was merged with and into Monarch Community Bank. The Company issued a total of 310,951 shares of its common stock and paid cash of $19.7 million to former MSB Financial stockholders. The cash paid in the transaction came from the Company’s existing liquidity. The acquisition was accounted for using the purchase method of accounting, and accordingly, the purchase price was allocated to the assets purchased and the liabilities assumed based upon the estimated fair values at the date of acquisition. The purchase accounting fair value adjustments are being amortized under various methods and over the lives of the corresponding assets and liabilities. Goodwill recorded for the acquisition amounted to $9.6 million and was not amortized but evaluated for impairment at least annually. It was determined to be impaired and written off in 2009. A core deposit intangible of $2.1 million was recorded as part of the acquisition and is being amortized on an accelerated basis over a period of 9.5 years.

Monarch Community Bank provides a broad range of banking services to its primary market area of Branch, Calhoun and Hillsdale counties, Michigan. The Bank owns 100% ownership of First Insurance Agency. First Insurance Agency is a licensed insurance agency established to allow for the receipt of fees on insurance services provided to the Bank’s customers. The Bank also owns a 24.98% interest in a limited partnership formed to construct and operate multi-family housing units. Community Services Group, Inc. with assets totaling $996,000 as of April 30, 2006 was dissolved with no gain or loss on the dissolution.

On June 3, 2006, the Company completed the conversion of the Bank from a federally chartered stock savings institution to a Michigan state chartered commercial bank. As a result of the conversion, the Company became a federal bank holding company regulated by the Board of Governors of the Federal Reserve. The Bank will be regulated by the Michigan Office of Financial and Insurance Regulation (“OFIR”) and the Federal Deposit Insurance Corporation (“FDIC”). Prior to the conversion, both the Company and the Bank had been regulated by the federal Office of Thrift Supervision. The Bank’s deposits continue to be insured to the maximum extent allowed by the Federal Deposit Insurance Corporation (“FDIC”). The Bank has a website at http://www.monarchcb.com. References in this Form 10-K to “we”, “us”, and “our” refer to the Company and/or the Bank as the context requires. Our common stock trades on The NASDAQ Capital Market under the symbol “MCBF.”

Our principal business consists of attracting retail deposits from the general public and investing those funds primarily in permanent loans secured by first mortgages on owner-occupied, one-to-four family residences, loans secured by commercial and multi-family real estate, commercial business loans and construction loans secured primarily by residential real estate. We also originate home equity loans and a variety of consumer loans. Our originations of consumer loans has steadily declined over the last five years.

Our revenues are derived principally from interest on loans, investment securities and overnight deposits, as well as from sales of loans and fees and charges on deposit accounts.

We offer a variety of deposit accounts having a wide range of interest rates and terms, which generally include passbook and statement savings accounts, money market deposit accounts, interest bearing and non-interest bearing checking accounts and certificates of deposit with varied terms ranging from six months to 60 months. We solicit deposits in our market area and utilize brokered deposits.

At December 31, 2009, we had assets of $283.2 million, including net loans of $220.9, deposits of $213.4 million and stockholders’ equity of $23.2 million.

Forward-Looking Statements

This document, including information incorporated by reference, future filings by Monarch Community Bancorp on Form 10-Q and Form 8-K and future oral and written statements by Monarch Community Bancorp and its management may contain forward-looking statements which are based on assumptions and describe future plans, strategies and expectations of Monarch Community Bancorp and Monarch. These forward-looking statements are generally identified by use of the words “believe,” “expect,” “intend,” “anticipate,” “estimate,” “project,” or similar words. Our ability to predict results or the actual effect of future plans or strategies is uncertain and we disclaim any obligation to update or revise any forward-looking statements based on the occurrence of future events, the receipt of new information or otherwise. Factors which could have a material adverse effect on our operations include, but are not limited to, changes in interest rates, changes in the relative difference between short and long-term interest rates, general economic conditions, legislative/regulatory changes, monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the Federal Reserve Board, the quality or composition of the loan or investment portfolios, including levels of non-performing assets, demand for loan products, deposit flows, competition, demand for financial services in our market area, our operating costs and accounting principles and guidelines. These risks and uncertainties should be considered in evaluating forward-looking statements and you should not rely too much on these statements.

Employees

The Bank employs 88 full-time and 6 part-time employees as of December 31, 2009. The holding company does not have any employees.

Market Area

Headquartered in Coldwater, Michigan, our geographic market area for loans and deposits is principally Branch, Calhoun and Hillsdale counties. As of June 30, 2009, we had an 20.05% market share of FDIC-insured deposits in Branch County, a 6.45% market share of FDIC-insured deposits in Calhoun County and a 4.89% market share of FDIC-insured deposits in Hillsdale County, ranking us third, seventh and seventh, respectively, in those counties among all insured depository institutions.

The local economy is based primarily on manufacturing and agriculture. Most of the job growth, particularly in Hillsdale County, has been in automobile products-related manufacturing. Median household income and per capita income for our primary market are below statewide averages, reflecting the rural economy and limited economic growth opportunities.

Lending Activities

General. At December 31, 2009, our net loan portfolio totaled $220.9 million, which constituted 78% of our total assets.

Our mortgage loans carry either a fixed or an adjustable rate of interest. Mortgage loans are generally long-term and amortize on a monthly basis with principal and interest due each month. Mortgage loans up to $300,000 may be approved by certain loan officers and loans up to $500,000 may be approved by the President, within individual lending limits set by the Board of Directors. Loans up to $1.5 million may be approved by the Management Loan Committee which is comprised of several senior managers. Loans over $1.5 million must be approved by the Board of Directors’ Loan Committee. Applications for loans that would be considered sub-prime cannot be approved by individual loan officers and must be presented to the Management Loan Committee for review and approval. Our legal lending limit is summarized in the Loans to One Borrower paragraph of the Regulation and Supervision section of this document.

Loan Portfolio Composition. The following table presents information concerning the composition of our loan portfolio as of the dates indicated.

		December 31, 2009								December 31, 2008								December 31, 2007								December 31, 2006								December 31, 2005
		Amount				Percent				Amount				Percent				Amount				Percent				Amount				Percent				Amount				Percent
																		(Dollars in thousands)
Real Estate Loans:
One-to four-family		$	108,354				47.70	%		$	124,855				49.80	%		$	126,780				55.80	%		$	140,374				60.30	%		$	139,636				64.40	%
Multi-family			5,421				2.39				5,728				2.26				5,594				3.22				7,511				3.22				3,534				1.67
Commercial			72,689				32.00				75,730				30.19				56,714				24.97				41,079				17.64				34,721				16.03
Construction or development			9,528				4.20				9,499				3.79				6,409				2.82				9,529				4.09				5,415				2.50
Total real estate loans			195,992				86.29				215,812				86.04				195,497				85.25				198,493				85.25				183,306				84.60
Other loans:
Consumer loans:
Home equity			18,174				8.00				20,677				8.24				20,430				8.99				19,077				8.19				16,170				7.46
Other			4,706				2.07				5,737				2.29				7,014				3.09				9,087				3.90				10,822				5.00
Total consumer loans			22,880				10.07				26,414				10.53				27,444				12.08				28,164				12.09				26,992				12.46
Commercial Business Loans			8,266				3.64				8,609				3.43				4,228				1.86				6,205				2.67				6,364				2.94
Total other loans			31,146				13.71				35,023				13.96				31,672				13.94				34,369				14.76				33,356				15.40
Total Loans			227,138				100.00	%			250,835				100.00	%			227,169				100.00	%			232,862				100.00	%			216,662				100.00	%
Less:
Allowance for loan losses			5,783								2,719								1,824								2,024								2,925
Net deferred loan fees			480								574								548								591								640
Loans in process			—								—								—								—								—
Total Loans, net		$	220,875							$	247,542							$	224,797							$	230,247							$	213,097

The following table shows the composition of our loan portfolio by fixed and adjustable-rate at the dates indicated.

		December 31, 2009								December 31, 2008								December 31, 2007
		Amount				Percent				Amount				Percent				Amount				Percent
										(Dollars in thousands)
Fixed-Rate Loans
Real Estate Loans:
One-to-four family		$	80,241				35.3	%		$	92,644				36.9	%		$	83,386				36.7	%
Multi-family			5,396				2.4	%			5,524				2.2	%			5,397				2.4	%
Commercial			52,495				23.1	%			47,689				19.0	%			36,723				16.2	%
Construction or development			4,127				1.8	%			8,111				3.3	%			5,537				2.4	%
Total real estate loans			142,259				62.6	%			153,968				61.4	%			131,043				57.7	%
Consumer			15,323				6.8	%			19,406				7.7	%			21,354				9.4	%
Commercial Business			6,244				2.7	%			7,011				2.8	%			2,932				1.3	%
Total fixed-rate loans			163,826				72.1	%			180,385				71.9	%			155,329				68.4	%
Adjustable-Rate Loans
Real Estate Loans:
One-to-four family		$	28,113				12.4	%		$	32,211				12.8	%		$	43,394				18.3	%
Multi-family			25				0.0	%			204				0.1	%			197				0.1	%
Commercial			20,194				8.9	%			28,041				11.2	%			19,991				8.8	%
Construction or development			5,401				2.4	%			1,388				0.6	%			872				0.3	%
Total real estate loans			53,733				23.7	%			61,844				24.7	%			64,454				27.5	%
Consumer			7,557				3.3	%			7,008				2.8	%			6,090				2.7	%
Commercial Business			2,022				0.9	%			1,598				0.6	%			1,296				0.6	%
Total adjustable-rate loans			63,312				27.9	%			70,450				28.1	%			71,840				31.6	%
Total loans			227,138				100	%			250,835				100.0	%			227,169				100.0	%
Less:
Allowance for loan losses			5,783								2,719								1,824
Net deferred loan fees			480								574								548
Loans in process			—								—								—
Total Loans, net		$	220,875							$	247,542							$	224,797

     

The following table illustrates the contractual maturity of our loan portfolio at December 31, 2009. Mortgages which have adjustable or renegotiable interest rates are shown as maturing in the period during which the contract is due. The table does not reflect the effects of possible prepayments or enforcement of due-on-sale clauses.

										Real Estate
										Multi-family and								Construction or
		One-to-Four Family								Commercial								Development								Consumer								Commercial Business								Total
						Weighted								Weighted								Weighted								Weighted								Weighted								Weighted
						Average								Average								Average								Average								Average								Average
		Amount				Rate				Amount				Rate				Amount				Rate				Amount				Rate				Amount				Rate				Amount				Rate
																						(Dollars in Thousands)
Due to Mature:
One year or less (1)			7,070				5.51	%			6,337				6.53	%			1,527				5.30	%			2,567				6.90	%			1,056				5.29	%			18,557				6.02	%
After one year through five years			14,450				6.78	%			52,415				6.55	%			1,926				6.88	%			11,553				7.25	%			3,079				6.71	%			83,423				6.70	%
After five years			86,834				6.39	%			19,358				5.81	%			6,075				5.41	%			8,760				5.14	%			4,131				7.33	%			125,158				6.20	%

The total amount of loans due after December 31, 2010 which have predetermined interest rates is $128.9 million while the total amount of loans due after such date which have floating or adjustable rates is $32.5 million.

One-to-Four Family Residential Real Estate Lending. We have focused our lending efforts primarily on the origination of loans secured by first mortgages on owner-occupied, one-to-four family residences in our market area. At December 31, 2009, one-to-four family residential mortgage loans totaled $108.4 million, or 47.7% of our gross loan portfolio.

We have originated sub-prime residential mortgage loans since 1985. However in more recent years we have moved away from this type of lending due to the higher risk associated with it. Our definition of sub-prime lending is substantially similar to regulatory guidelines. We review a borrower’s credit score, debt-to-income ratio and the loan-to-value ratio of the collateral in determining whether a loan is sub-prime. We utilize a loan risk grading system for all one-to-four family residential loans. The risk grading system provides that all loans with a credit score of less than 660 shall be considered for potential sub-prime classification. For a loan with a credit score between 600 and 660, loan-to-value ratio, debt-to-income ratio and the borrower’s history with the Bank will determine whether or not the loan is classified as sub-prime.

At December 31, 2009, $16.3 million, or 15.0% of our residential mortgage loans were classified as sub-prime loans as compared to $15.5 million, or 12.4% at December 31, 2008. The increase is primarily due to refinancing and restructuring existing loans in our portfolio. We charge higher interest rates on our sub-prime residential mortgage loans to attempt to compensate for the increased risk in these loans. Sub-prime lending entails a higher risk of delinquency, foreclosure and ultimate loss than residential loans made to more creditworthy borrowers. Delinquencies, foreclosure and losses generally increase during economic slowdowns or recessions as experienced in recent history. During 2009, $627,000, or 6.1%, of our total net charge-offs of $10.3 million were due to sub-prime loans as compared to $303,000, or 16.7% of our total net charge-offs of $1.8 million for 2008. During 2009, we have made significant efforts in assisting borrowers who are experiencing financial difficulty. See “Asset Quality.”

We generally underwrite our one-to-four family loans based on the applicant’s employment and credit history and the appraised value of the subject property. Presently, we lend up to 103% of the lesser of the appraised value or purchase price for one-to-four family residential loans. For loans with a loan-to-value ratio in excess of 89%, we generally require private mortgage insurance to reduce our credit exposure below 80%. Properties secured by one-to-four family loans are appraised by licensed appraisers. We obtain title insurance and require our borrowers to obtain hazard insurance and flood insurance, if necessary, in an amount not less than the value of the property improvements.

We currently originate one-to-four family mortgage loans on either a fixed rate or adjustable rate basis, as consumer demand dictates. Our pricing strategy for mortgage loans includes setting interest rates that are competitive with secondary market requirements and other local financial institutions, and consistent with our asset/liability strategies. Our pricing for sub-prime loans is higher, as we attempt to offset the increased risks and costs involved in dealing with a greater percentage of delinquencies and foreclosures.

Adjustable-rate mortgages, or ARM loans, are offered with either a one-year, three-year, five-year or seven-year term to the initial repricing date. After the initial period, the interest rate for each ARM loan adjusts annually for the remaining term of the loan. During the years ended December 31, 2009 and December 31, 2008, we originated $5.2 million and $3 million of one-to-four family ARM loans, respectively, and $28.8 million and $51.8 million of one-to-four family fixed-rate mortgage loans, respectively.

Fixed-rate loans secured by one-to-four family residences have contractual maturities of up to 30 years, and are generally fully amortizing, with payments due monthly. We also offer balloon loans with one, three, five and seven year maturities. These loans normally remain outstanding, however, for a substantially shorter period of time because of refinancing and other prepayments. A significant change in the current level of interest rates could alter the average life of a residential loan in our portfolio considerably. Our one-to-four family loans are generally not assumable, do not contain prepayment penalties and do not permit negative amortization of principal. Most are written using secondary market underwriting guidelines, although we retain in our portfolio those loans which do not qualify for sale in the secondary market. Our real estate loans generally contain a “due on sale” clause allowing us to declare the unpaid principal balance due and payable upon the sale of the security property.

Our one-to-four family residential ARM loans are fully amortizing loans with contractual maturities of up to 30 years, with payments due monthly. Our ARM loans generally provide for a maximum 2% annual adjustment and 6% lifetime adjustment to the initial rate. As a consequence of using caps, the interest rates on these loans may not be as rate sensitive as is our cost of funds.

In order to remain competitive in our market area, we may originate ARM loans at initial rates below the fully indexed rate, although that has not been a strategy in recent years.

ARM loans generally pose different credit risks than fixed-rate loans, primarily because as interest rates rise, the borrower’s payment rises, increasing the potential for default. In past periods of rising interest rates, we have not experienced difficulty with the payment history for these loans. See “- Asset Quality — Non-performing Assets and Classified Assets.”

Multi-family and Commercial Real Estate Lending. We offer a variety of multi-family and commercial real estate loans. These loans are secured primarily by residential rental properties, commercial properties, retail establishments, churches and small office buildings located in our market area. At December 31, 2009, multi-family and commercial real estate loans totaled $78.1 million or 34.4% of our gross loan portfolio.

Our loans secured by multi-family and commercial real estate are originated with either a fixed or variable interest rate. The interest rate on variable-rate loans is based on the Wall Street Journal prime rate plus or minus a margin, generally determined through negotiation with the borrower. Loan-to-value ratios on our multi-family and commercial real estate loans typically do not exceed 80% of the appraised value of the property securing the loan. These loans which are typically balloon loans, in general require monthly payments, may not be fully amortizing and have maximum maturities of 25 years.

Loans secured by multi-family and commercial real estate are underwritten based on the income producing potential of the property and the financial strength of the borrower. We generally require personal guarantees of the principals of the borrower in addition to the security property as collateral for these loans. When legally permitted, we require an assignment of rents or leases in order to be assured that the cash flow from the project will be used to repay the debt. Appraisals on properties securing multi-family and commercial real estate loans are generally performed by independent state licensed fee appraisers approved by the Board of Directors. See “- Loan Originations, Purchases, Sales and Repayments.”

We do not generally maintain an insurance escrow account for loans secured by multi-family and commercial real estate, although we may maintain a tax escrow account for these loans. In order to monitor the adequacy of cash flows on income-producing properties, the borrower is requested or required to provide periodic financial information.

Loans secured by multi-family and commercial real estate properties are generally larger and involve a greater degree of credit risk than one-to-four family residential mortgage loans. These loans typically involve large balances to single borrowers or groups of related borrowers. Because payments on loans secured by multi-family and commercial real estate properties are often dependent on the successful operation or management of the properties, repayment may be subject to adverse conditions in the real estate market or the economy. If the cash flow from the project is reduced, or if leases are not obtained or renewed, the borrower’s ability to repay the loan may be impaired. See “- Asset Quality — Non-performing Loans.”

Construction and Land Development Lending. We make construction loans to builders and to individuals for the construction of their residences as well as to businesses and individuals for commercial real estate construction projects. At December 31, 2009, we had $9.5 million in construction and land development loans outstanding, representing 4.2% of our gross loan portfolio.

Construction and land development loans are obtained through continued business with builders who have previously borrowed from us, from walk-in customers and through referrals from realtors and other customers. The application process includes submission of plans, specifications and costs of the project to be constructed. These items are used as a basis to determine the appraised value of the subject property. Loans are based on the lesser of current appraised value and/or the cost of construction, including the land and the building. We conduct regular inspections of the construction project being financed. During the construction phase, the borrower generally pays interest only on a monthly basis. Loan-to-value ratios on our construction and development loans typically do not exceed 80% of the appraised value of the project on an as completed basis, although the Board of Directors has made limited exceptions to this policy where special circumstances exist.

Because of the uncertainties inherent in estimating construction and development costs and the market for the project upon completion, it is relatively difficult to evaluate accurately the total loan funds required to complete a project, the related loan-to-value ratios and the likelihood of ultimate success of the project. These loans also involve many of the same risks discussed above regarding multi-family and commercial real estate loans and tend to be more sensitive to general economic conditions than many other types of loans.

Consumer and Other Lending. Consumer loans generally have shorter terms to maturity, which reduces our exposure to changes in interest rates, and carry higher rates of interest than do one-to-four family residential mortgage loans. In addition, management believes that offering consumer loan products helps to expand and create stronger ties to our existing customer base by increasing the number of customer relationships and providing cross-marketing opportunities. At December 31, 2009, our consumer loan portfolio totaled $22.9 million, or 10.1% of our gross loan portfolio. We offer a variety of secured consumer loans, including home equity loans and lines of credit, auto loans, manufactured housing loans and loans secured by savings deposits, however the majority of new originations are home equity loans and lines of credit. We also offer a limited amount of unsecured loans including home improvement loans. We originate our consumer loans in our market area.

Our home equity lines of credit totaled $18.2 million, and comprised 8.0% of our gross loan portfolio at December 31, 2009. These loans may be originated in amounts, together with the amount of the existing first mortgage, of up to 100% of the value of the property securing the loan. The term to maturity on our home equity lines of credit ranges from 3 to 5 years for fixed rate loans and 1 to 15 for variable rate loans. No principal payments are required on most home equity lines of credit during the loan term. Other consumer loan terms vary according to the type of collateral, length of contract and creditworthiness of the borrower.

Consumer loans may entail greater risk than do one-to-four family residential mortgage loans, particularly in the case of consumer loans which are secured by rapidly depreciable assets, such as automobiles, boats, and manufactured housing. In these cases, any repossessed collateral for a defaulted loan may not provide an adequate source of repayment of the outstanding loan balance. As a result, consumer loan collections are dependent on the borrower’s continuing financial stability and, thus, are more likely to be adversely affected by job loss, divorce, illness or personal bankruptcy.

Commercial Business Lending. At December 31, 2009, commercial business loans comprised $8.3 million, or 3.6% of our gross loan portfolio. Most of our commercial business loans have been extended to finance local businesses and include short term loans to finance machinery and equipment purchases, inventory and accounts receivable. Commercial business loans also involve the extension of revolving credit for a combination of equipment acquisitions and working capital needs.

The terms of loans extended on the security of machinery and equipment are based on the projected useful life of the machinery and equipment, generally not to exceed seven years. Operating lines of credit generally are available to borrowers for up to 12 months, and may be renewed by Monarch. We issue a few standby letters of credit which are offered at competitive rates and terms and are generally issued on a secured basis. At December 31, 2009, there was a $160,000 financial standby letter of credit outstanding.

Our commercial business lending policy includes credit file documentation and analysis of the borrower’s background, capacity to repay the loan, the adequacy of the borrower’s capital and collateral as well as an evaluation of other conditions affecting the borrower. Analysis of the borrower’s past, present and future cash flows is also an important aspect of our credit analysis. Based on this underwriting information we assign a risk rating which assists management in evaluating the quality of the loan portfolio. We generally obtain personal guarantees on our commercial business loans. Nonetheless, these loans are believed to carry higher credit risk than more traditional single family loans.

Unlike residential mortgage loans, commercial business loans are typically made on the basis of the borrower’s ability to make repayment from the cash flow of the borrower’s business. As a result, the availability of funds for the repayment of commercial business loans is substantially dependent on the success of the business itself (which, in turn, is often dependent in part upon general economic conditions). Our commercial business loans are usually, but not always, secured by business assets. However, the collateral securing the loans may depreciate over time, may be difficult to appraise and may fluctuate in value based on the success of the business.

Loan Originations, Purchases, Sales and Repayments. We originate loans through referrals from real estate brokers and builders and other customers, our marketing efforts, and our existing and walk-in customers. While we originate adjustable-rate and fixed-rate loans, our ability to originate loans is dependent upon customer demand for loans in our market area. Demand is affected by local competition and the interest rate environment.

During the last several years up to 2009, due to low market interest rates, our dollar volume of fixed-rate, one-to-four family loans has substantially exceeded the dollar volume of the same type of adjustable-rate loans. Adjustable-rate loan originations as a percentage of total originations were .5% and 8.5% in 2009 and 2008 respectively. We sell a significant portion of the conforming, fixed-rate, one-to-four family residential loans we originate, primarily those with lower interest rates. We keep the sub-prime residential real estate loans we originate. We may purchase residential loans and commercial real estate loans from time to time.

In periods of economic uncertainty, the ability of financial institutions, including us, to originate or purchase large dollar volumes of real estate loans may be substantially reduced or restricted, with a resultant decrease in income.

The following table shows the loan origination, sale and repayment activities of Monarch for the periods indicated.

		Years Ended
		December 31,
		2009				2008
		(Dollars in thousands)
Originations by type:
Real Estate:
One-to-four family		$	104,416			$	54,846
Multi-family			760				250
Commercial			9,025				31,316
Construction or development			4,943				5,358
Total real estate loans			119,144				91,770
Consumer Loans:
Home Equity			5,073				5,809
Other			827				891
Commercial business			743				7,101
Total loans originated			125,787				105,571
Sales and Repayments:
One-to-four family loans sold			89,901				27,838
Commercial real estate loans sold			—				—
Principal repayments			59,583				54,067
Total reductions			149,484				81,905
Increase in other items, net			2,970				921
Net increase (decrease)		$	(26,667	)		$	22,745

Asset Quality

When a borrower fails to make a payment on a residential mortgage loan on or before the due date, a late notice is mailed 10 to 15 days after the due date. All delinquent accounts are reviewed by a collector, who attempts to cure the delinquency by contacting the borrower once the loan is 30 days past due. Additionally, each week the collections department gives each loan officer a list of his or her loans that are 30 days past due. The loan officer attempts to contact the borrower to determine the reason for the delinquency and to urge the borrower to bring the loan current. Once the loan becomes 30 days delinquent, a letter is sent to the borrower requesting the borrower to bring the loan current, or, if that is not possible, to fill out and return a financial information update form. If the form is returned, the senior collector determines if the borrower exhibits an ability to repay, and, if so, brings the file to the Delinquency Committee for a decision whether to forbear collection action to allow the borrower to demonstrate the ability to make timely payments and/or establish an acceptable repayment plan to bring the loan current. If the borrower makes timely payments for a period of at least six months but does not appear to have the ability to bring the loan current, the file is given to a loan officer to obtain a new loan application from the borrower for the purpose of rewriting the loan in accordance with established loan policy. If the financial information update is not returned, or if the senior collector determines that the borrower no longer has the ability to repay the loan, or the Delinquency Committee declines to forbear collection activity, then when the loan becomes 60 days delinquent, the file is reviewed by the Delinquency Committee and the foreclosure process is begun by the sending of a notice of intent to foreclose. If during a period of forbearance the borrower fails to make timely payments, the Delinquency Committee reviews the loan and the foreclosure process commences unless extenuating circumstances exist. The notice of intent to foreclose allows the borrower up to 30 days to bring the account current. All loans over 60 days delinquent are handled by the senior collections officer until the delinquency is resolved or foreclosure occurs.

For consumer loans a similar collection process is followed. Follow-up contacts are generally on an accelerated basis compared to the mortgage loan procedure due to the nature of the collateral. Commercial loan collections are handled by our Delinquency Committee in conjunction with our Collection Department and the appropriate loan officer. The nature of these loans dictates that collection procedures are adjusted to suit each situation.

Delinquent Loans. The following tables set forth our loan delinquencies (60 days past due and over) by type, number, amount and percentage of type at the dates indicated:

			December 31, 2009
			Loans Delinquent For:
		60-89 Days												90 Days and Over												Total Delinquent Loans
										Percent of Loan												Percent of Loan												Percent of Loan
		Number				Amount				Category				Number				Amount				Category				Number				Amount				Category
			(Dollars in Thousands)
Real Estate
One-to-four family			39			$	2,656				2.45	%			21			$	1,580				1.46	%			60			$	4,236				3.91	%
Multi-family			1				187				3.45	%			—				—				0.00	%			1				187				3.45	%
Commercial			3				792				1.09	%			8				2,506				3.45	%			11				3,298				4.54	%
Construction or development			—				—				0.00	%			—				—				0.00	%			—				—				0.00	%
Total real estate loans			43			$	3,635				1.85	%			29			$	4,086				2.08	%			72			$	7,721				3.94	%
Consumer			6				123				0.54	%			1				—				0.00	%			7				123				0.54	%
Commercial Business			1				5				0.06	%			1				77				0.93	%			2				82				0.99	%
Total			50			$	3,763				1.66	%			31			$	4,163				1.83	%			81			$	7,926				3.49	%

			December 31, 2008
			Loans Delinquent For:
		60-89 Days												90 Days and Over												Total Delinquent Loans
										Percent of Loan												Percent of Loan												Percent of Loan
		Number				Amount				Category				Number				Amount				Category				Number				Amount				Category
			(Dollars in Thousands)
Real Estate
One-to-four family			50			$	2,284				1.83	%			23			$	466				0.37	%			73			$	2,750				2.20	%
Multi-family			—				—				0.00	%			1				164				2.86	%			1				164				2.86	%
Commercial			5				770				1.02	%			2				175				0.23	%			7				945				1.25	%
Construction or development			—				—				0.00	%			1				139				1.46	%			1				139				1.46	%
Total real estate loans			55			$	3,054				1.42	%			27			$	944				0.44	%			82			$	3,998				1.84	%
Consumer			5				73				0.28	%			3				115				0.44	%			8				188				0.71	%
Commercial Business			1				1				0.01	%			—				—				0.00	%			1				1				0.01	%
Total			61			$	3,128				1.25	%			30			$	1,059				0.42	%			91			$	4,187				1.67	%

Non-performing Assets. The table below sets forth the amounts and categories of the Bank’s non-performing assets. Loans are placed on non-accrual status when the loan is seriously delinquent and there is serious doubt that the Bank will collect all interest owing. Generally, all loans past due at least 90 days are placed on non-accrual status. For all years presented, the Bank had no troubled debt restructurings that involved forgiving a portion of interest or principal on any loans or making loans at a rate materially less than that of market rates. Foreclosed assets include assets acquired in settlement of loans.

		December 31,
		2009				2008				2007				2006				2005
						(Dollars in Thousands)
Non-accruing loans:
One-to-four family			3,484				622				607			$	408			$	406
Multi-family			874				164				—				—				—
Commercial real estate			7,139				459				—								397
Construction or development			2,507				1,298				153				—				—
Consumer			—				28				—				60				8
Commercial business			1,566				—				—				—				—
Total			15,570				2,571				760				468				811
Accruing loans delinquent 90 days or more:
One-to-four family			—				—				—				—				—
Multi-family			—				—				—				—				—
Commercial real estate			—				—				87				—				—
Construction or development			—				—				—				—				—
Consumer			—				—				—				—				—
Commercial business			—				—				18				—				—
Total			—				—				105				—				—
Foreclosed assets:
One-to-four family (1)			2,577				1,669				1,453				1,580				2,239
Multi-family			122				—				—				—				—
Commercial real estate			140				407				62				—				480
Construction or development			—				—				—				—				—
Consumer			—				—				—				100				22
Commercial business			—				—				—				—				70
Total			2,839				2,076				1,515				1,680				2,811
Total non-performing assets		$	18,409			$	4,647			$	2,380			$	2,148			$	3,622
Total as a percentage of total assets			6.50	%			1.59	%			0.85	%			0.74	%			1.31	%

For the years ended December 31, 2009, 2008 and 2007, respectively, there was $611,000, $116,000 and $89,000 of gross interest income which would have been recorded had non-accruing loans been current in accordance with their original terms.

Classified Assets. Federal regulations provide for the classification of loans, foreclosed and repossessed assets and other assets, such as debt and equity securities considered by the FDIC and OFIR to be of lesser quality, as “substandard,” “doubtful” or “loss.” An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. “Substandard” assets include those characterized by the “distinct possibility” that the insured institution will sustain “some loss” if the deficiencies are not corrected. Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions, and values, “highly questionable and improbable.” Assets classified as “loss” are those considered “uncollectible” and of such little value that their continuance as assets without the establishment of a specific loss reserve is not warranted.

When an insured institution classifies problem assets as either substandard or doubtful, it may establish general allowances for loan losses in an amount deemed prudent by management and approved by the board of directors. General allowances represent loss allowances which have been established to recognize the inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets. When an insured institution classifies problem assets as “loss,” it is required either to establish a specific allowance for losses equal to 100% of that portion of the asset so classified or to charge off such amount. An institution’s determination as to the classification of its assets and the amount of its valuation allowances is subject to review by the FDIC and OFIR, which may order the establishment of additional general or specific loss allowances.

In accordance with our classification of assets policy, we regularly review the problem assets in our portfolio to determine whether any assets require classification in accordance with applicable regulations. On the basis of management’s review of our assets, at December 31, 2009, we had classified $19.7 million of our assets as substandard, $600,000 as doubtful and none as loss. The total amount classified as substandard represented 84.9% of the Bank’s equity capital and 7.0% of the Bank’s assets at December 31, 2009. The allowance for loan losses at December 31, 2008 includes $221,000 related to substandard loans. At December 31, 2009, $15.0 million and $600,000 of substandard and doubtful assets, respectively, have been included in the table of non-performing assets. See “- Asset Quality — Delinquent Loans.”

Provision for Loan Losses. We recorded a provision for loan losses totaling $13.3 million for the year ended December 31, 2009 compared to $2.7 million recorded for the year ended December 31, 2008. The provision for loan losses is charged to income to establish the allowance for loan losses to cover all known and inherent losses in the loan portfolio that are both probable and reasonable to estimate based on the factors discussed below under “Allowance for Loan Losses.” See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Comparison of Operating Results for the Years Ended December 31, 2009 and 2008 — Provision for Loan Losses” for a discussion of the reasons for the change in our loan loss provision.

Allowance for Loan Losses. The allowance is based on regular, quarterly assessments of the estimated losses inherent in the loan portfolio. Our methodology for assessing the appropriateness of the allowance consists of several key elements, which include the formula allowance and specific allowances for identified problem loans and portfolio segments. In addition, the allowance incorporates the results of measuring impaired loans.

The formula allowance is calculated by applying loss factors to outstanding loans based on the internal risk evaluation of these loans or pools of loans. Changes in risk evaluations of both performing and nonperforming loans affect the amount of the formula allowance. Loss factors are based both on our historical loss experience as well as on significant factors that, in management’s judgment, affect the collectibility of the portfolio as of the evaluation date.

The appropriateness of the allowance is reviewed by management based upon our evaluation of then-existing economic and business conditions affecting our key lending areas and other conditions, such as credit quality trends (including trends in delinquencies, nonperforming loans and foreclosed assets expected to result from existing conditions), collateral values, loan volumes and concentrations, specific industry conditions within portfolio segments and recent loss experience in particular segments of the portfolio that existed as of the balance sheet date and the impact that such conditions were believed to have had on the collectibility of the loan.

Senior management reviews these conditions quarterly. To the extent that any of these conditions is evidenced by a specifically identifiable problem credit or portfolio segment as of the evaluation date, management’s estimate of the effect of this condition may be reflected as a specific allowance applicable to this credit or portfolio segment.

The allowance for loan losses is based on estimates of losses inherent in the loan portfolio. Actual losses can vary significantly from the estimated amounts. Our methodology as described permits adjustments to any loss factor used in the computation of the formula allowance in the event that, in management’s judgment, significant factors which affect the collectibility of the portfolio as of the evaluation date are not reflected in the loss factors. By assessing the estimated losses inherent in the loan portfolio on a quarterly basis, we are able to adjust specific and inherent loss estimates based upon any more recent information that has become available.

Assessing the adequacy of the allowance for loan losses is inherently subjective as it requires making material estimates, including the net realizable value of collateral expected to be received on impaired loans that may be susceptible to significant change. In the opinion of management, the allowance, when taken as a whole, covers all known and inherent losses in the loan portfolio that are both probable and reasonable to estimate.

The following table summarizes activity in the allowance for loan losses for the years ending (000s omitted):

		December 31,
		2009				2008				2007				2006				2005
Balance at beginning of year		$	2,719			$	1,824			$	2,024			$	2,925			$	6,420
Charge-offs:
One-to-four family			2,288				879				774				223				754
Multi-family			10				—				28				—				—
Commercial real estate			4,299				321				197				15				1,904
Construction or development			3,075				50				—				340				6
Consumer			533				532				386				494				393
Commercial business			352				239				17				113				386
Total			10,557				2,021				1,402				1,185				3,443
Recoveries:
One-to-four family			20				4				16				4				78
Multi-family			1				—				—				—				—
Commercial real estate			14				2				—				—				1
Construction or development			—				—				—				—				—
Consumer			215				198				175				275				230
Commercial business			22				—				40				5				24
Total			272				204				231				284				333
Net charge-offs:			10,285				1,817				1,171				901				3,110
Allowance acquired in acquisition			—				—				—				—				—
Additions charged to operations			13,349				2,712				971				—				—
Provision recovered from operations			—				—				—				—				(385	)
Balance at end of year		$	5,783			$	2,719			$	1,824			$	2,024			$	2,925
Ratio of net charge-offs during the year to average loans outstanding during the year			4.24	%			0.76	%			0.49	%			0.39	%			1.42	%
Allowance as a percentage of non-performing loans			37.14	%			105.76	%			210.87	%			432.48	%			360.67	%
Allowance as a percentage of total loans (end of year)			2.55	%			1.08	%			0.81	%			0.93	%			1.37	%

The distribution of our allowance for losses on loans at the dates indicated is summarized as follows:

		December 31,
		2009								2008								2007
		Amount of				Percentage				Amount of				Percentage				Amount of				Percentage
		Loan Loss				of				Loan Loss				of				Loan Loss				of
		Allowance				Allowance				Allowance				Allowance				Allowance				Allowance
One-to-four family		$	2,576				44.5	%		$	1,618				59.5	%		$	979				53.7	%
Multi-family and non-residential real estate			903				15.6	%			533				19.6	%			351				19.2	%
Construction or development			10				0.2	%			75				2.8	%			154				8.4	%
Consumer			393				6.8	%			305				11.2	%			287				15.7	%
Commercial business			1,901				32.9	%			188				6.9	%			53				2.9	%
Total		$	5,783				100.0	%		$	2,719				100.0	%		$	1,824				100.0	%

		2006								2005
		Amount of				Percentage				Amount of				Percentage
		Loan Loss				of				Loan Loss				of
		Allowance				Allowance				Allowance				Allowance
One-to-four family		$	783				60.3	%		$	1,378				64.4	%
Multi-family and non-residential real estate			809				20.8	%			1,091				17.7	%
Construction or development			7				4.1	%			17				2.5	%
Consumer			302				12.1	%			284				12.5	%
Commercial business			123				2.7	%			155				2.9	%
		$	2,024				100.0	%		$	2,925				100.0	%

Investment Activities

Commercial banks have the authority to invest in various types of liquid assets, including United States Treasury obligations and securities of various federal agencies, including callable securities, certain certificates of deposit of insured banks and savings institutions, certain bankers’ acceptances, repurchase agreements and federal funds. Subject to various restrictions, state chartered commercial banks may also invest their assets in investment grade commercial paper and corporate debt securities and mutual funds whose assets conform to the investments that a state chartered commercial banks is otherwise authorized to make directly.

The President/CEO has the basic responsibility for the management of our investment portfolio, under the guidance of the asset and liability management committee. The President/CEO considers various factors when making decisions, including the marketability, maturity and tax consequences of the proposed investment. The maturity structure of investments will be affected by various market conditions, including the current and anticipated slope of the yield curve, the level of interest rates, the trend of new deposit inflows, and the anticipated demand for funds via deposit withdrawals and loan originations and purchases.

The general objectives of our investment portfolio are to provide liquidity when loan demand is high, to assist in maintaining earnings when loan demand is low and to maximize earnings while satisfactorily managing risk, including credit risk, reinvestment risk, liquidity risk and interest rate risk. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Asset and Liability Management and Market Risk.”

Our investment portfolio consists of U.S. government agency securities, municipal bonds and overnight deposits. This provides us with flexibility and liquidity. We also have a limited amount of mortgage-backed securities. See Note 3 of the Notes to Consolidated Financial Statements.

The following table sets forth the composition of our securities portfolio at the dates indicated (dollars in thousands):

		December 31, 2009												December 31, 2008
										Percent of												Percent of
						Fair				Total								Fair				Total
		Amortized				Market				Fair Market				Amortized				Market				Fair Market
		Cost				Value				Value				Cost				Value				Value
Available-for-sale securities:
U.S Treasury			1,055				1,071				6.7	%
U.S. government agency obligations		$	3,155			$	3,196				19.9	%		$	5,698			$	5,761				64.3	%
Mortgage-backed securities			5,454				5,536				34.4	%			739				734				8.2	%
Obligations of states and political subdivisions			6,061				6,260				38.9	%			2,375				2,421				27.0	%
Total available-for-sale securities		$	15,725			$	16,063				99.9	%		$	8,812			$	8,916				99.6	%
Held-to-maturity securities:
Municipal security		$	23			$	23				0.1	%		$	37			$	37				0.4	%
Total investment securities		$	15,748			$	16,086				100.0	%		$	8,849			$	8,953				100.0	%

		December 31, 2007
										Percent of
						Fair				Total
		Amortized				Market				Fair Market
		Cost				Value				Value
Available-for-sale securities:
U.S. government agency obligations		$	7,692			$	7,730				68.3	%
Mortgage-backed securities			932				918				8.1	%
Obligations of states and political subdivisions			2,381				2,436				21.5	%
Total available-for-sale securities		$	11,005			$	11,084				97.9	%
Held-to-maturity securities:
Municipal security			238				239				2.1	%
Total investment securities		$	11,243			$	11,318				100.0	%