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EX-31.2 - EXHIBIT 31-2 - Owens Realty Mortgage, Inc.orm10qexhibit31-2.htm
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EXCEL - IDEA: XBRL DOCUMENT - Owens Realty Mortgage, Inc.Financial_Report.xls


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

   (Mark One)
[X]
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 30, 2014

OR

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

For the transition period from ________ to __________

Commission file number 000-54957

OWENS REALTY MORTGAGE, INC.
(Exact Name of Registrant as Specified in Its Charter)

Maryland
 
46-0778087
(State or Other Jurisdiction
 
(I.R.S. Employer Identification No.)
of Incorporation or Organization)
   
     
2221 Olympic Boulevard
   
Walnut Creek, California
 
94595
(Address of Principal Executive Offices)
 
(Zip Code)
     
(925) 935-3840
Registrant’s Telephone Number, Including Area Code
 
NOT APPLICABLE  
 (Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [  ]

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


 
1

 



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

          Large accelerated filer [   ]
        Accelerated filer [   ]
          Non-accelerated filer [   ]
    (Do not check if a smaller reporting company)
        Smaller reporting company [X]

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


Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class                                           Outstanding as of August 14, 2014
Common Stock, $.01 par value                                10,768,001 shares

 
2

 


TABLE OF CONTENTS


PART I – FINANCIAL INFORMATION
 
 
 

 

 
3

 

Part I. FINANCIAL INFORMATION

OWENS REALTY MORTGAGE, INC.
Consolidated Balance Sheets
June 30, 2014 and December 31, 2013
(UNAUDITED)
   
June 30,
 
December 31,
 
   
2014
 
2013
 
ASSETS
             
Cash and cash equivalents
 
$
1,156,028
 
$
8,158,734
 
Restricted cash
   
5,536,729
   
4,095,435
 
Loans, net of allowance for losses of $4,762,440 and $4,739,088, respectively
   
54,697,646
   
54,057,205
 
Interest and other receivables
   
1,968,927
   
1,673,978
 
Other assets, net of accumulated depreciation and amortization of $1,020,400 and $976,090, respectively
   
1,082,020
   
1,102,683
 
Deferred financing costs, net of accumulated amortization of $53,204
   
976,735
   
95,000
 
Investment in limited liability company
   
2,141,254
   
2,142,582
 
Real estate held for sale
   
3,924,237
   
5,890,131
 
Real estate held for investment, net of accumulated depreciation of $10,640,230 and $9,599,719, respectively
   
149,709,854
   
129,425,833
 
   Total Assets
 
$
221,193,430
 
$
206,641,581
 
LIABILITIES AND EQUITY
             
LIABILITIES:
             
Dividends payable
 
$
538,400
 
$
180,000
 
Due to Manager
   
190,716
   
293,776
 
Accounts payable and accrued liabilities
   
3,907,626
   
2,710,745
 
Deferred gains
   
687,207
   
3,313,169
 
Lines of credit payable
   
13,046,000
   
 
Notes payable
   
14,250,351
   
13,917,585
 
Total Liabilities
   
32,620,300
   
20,415,275
 
Commitments and Contingencies (Note 13)
             
EQUITY:
             
Stockholders’ equity:
             
Preferred stock, $.01 par value per share, 5,000,000 shares authorized, no shares issued and outstanding at June 30, 2014 and December 31, 2013
   
   
 
Common stock, $.01 par value per share, 50,000,000 shares authorized, 11,198,119 shares issued, 10,768,001 and 10,794,209 shares outstanding at June 30, 2014 and December 31, 2013, respectively
   
111,981
   
111,981
 
Additional paid-in capital
   
182,437,522
   
182,437,522
 
Treasury stock, at cost – 430,118 and 403,910 shares at June 30, 2014 and December 31,2013, respectively
   
(5,349,156
)
 
(5,023,668
)
Retained earnings
   
4,843,889
   
2,348,575
 
Total stockholders’ equity
   
182,044,236
   
179,874,410
 
Noncontrolling interests
   
6,528,894
   
6,351,896
 
   Total Equity
   
188,573,130
   
186,226,306
 
   Total Liabilities and Equity
 
$
221,193,430
 
$
206,641,581
 

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

 
4

 

OWENS REALTY MORTGAGE, INC.
Consolidated Statements of Income
For the Three and Six Months Ended June 30, 2014 and 2013
(UNAUDITED)

   
For the Three Months Ended
 
For the Six Months Ended
 
   
June 30, 2014
 
June 30, 2013
 
June 30, 2014
 
June 30, 2013
 
Revenues:
                         
Interest income on loans
 
  $
1,028,936
 
  $
723,733
 
 $
2,165,720
 
 $
1,610,962
 
Gain on foreclosure of loan
   
   
   
257,020
   
952,357
 
Rental and other income from real estate properties
   
2,984,399
   
2,796,949
   
5,674,373
   
5,520,366
 
Income from investment in limited liability company
   
40,976
   
38,624
   
82,672
   
79,626
 
Other income
   
   
729
   
19
   
1,522
 
Total revenues
   
4,054,311
   
3,560,035
   
8,179,804
   
8,164,833
 
Expenses:
                         
Management fees to Manager
   
419,943
   
451,828
   
840,249
   
891,601
 
Servicing fees to Manager
   
38,177
   
37,963
   
76,386
   
81,418
 
General and administrative expense
   
389,464
   
424,757
   
805,207
   
697,865
 
Rental and other expenses on real estate properties
   
1,977,330
   
2,125,036
   
3,892,446
   
4,331,856
 
Depreciation and amortization
   
547,635
   
1,004,338
   
1,093,733
   
1,402,356
 
Interest expense
   
253,097
   
128,353
   
380,481
   
255,835
 
(Reversal of) provision for loan losses
   
(103,820
)
 
(6,699,271
)
 
23,352
   
(6,956,484
)
Impairment losses on real estate properties
   
48,000
   
   
55,540
   
 
Total expenses
   
3,569,826
   
(2,526,996
)
 
7,167,394
   
704,447
 
Operating income
   
484,485
   
6,087,031
   
1,012,410
   
7,460,386
 
Gain on sales of real estate, net
   
2,349,808
   
2,429,872
   
2,626,992
   
2,460,209
 
Net income
   
2,834,293
   
8,516,903
   
3,639,402
   
9,920,595
 
Less: Net income attributable to non-controlling interests
   
(23,409
)
 
(2,085,886
)
 
(67,955
)
 
(2,059,646
)
Net income attributable to common  stockholders
 
$
2,810,884
 
$
6,431,017
 
$
3,571,447
 
$
7,860,949
 
                           
Per common share data:
                         
Basic and diluted earnings per common share
 
$
0.26
 
$
0.57
 
$
0.33
 
$
0.70
 
Basic and diluted weighted average number of common shares outstanding
   
10,768,001
   
11,198,119
   
10,768,746
   
11,198,119
 
Dividends declared per share of common stock
 
$
0.05
 
$
0.15
 
$
0.10
 
$
0.15
 
                           

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








 
5

 

OWENS REALTY MORTGAGE, INC.
Consolidated Statements of Stockholders’ Equity
For the Six Months Ended June 30, 2014 and 2013
(UNAUDITED)

 
Common Stock
 
Additional
   
Treasury Stock
   
Retained Earnings
   
Total
   
Non-
     
 
Paid-in
       
(Accumulated
   
Stockholders’
   
controlling
 
Total
 
 
Shares
 
Amount
 
Capital
   
Shares
   
Amount
   
Deficit)
   
Equity
   
Interests
 
Equity
 
                                                       
Balances, December 31, 2012 As Recast (1)
 
11,198,119
 
$
111,981
 
$
182,985,281
   
              —
 
$
              —
 
$
(3,637,331
)
$
179,459,931
 
$
8,049,300
 
$
 187,509,231
 
                                                       
Net income
 
   
   
   
              —
   
              —
   
7,860,949
   
7,860,949
   
2,059,646
   
9,920,595
 
Offering costs incurred
 
   
   
(527,785
)
 
              —
   
              —
   
               —
   
                (527,785
)
 
   
                (527,785
)
Distributions to stockholders for fractional shares upon conversion
 
   
   
(19,974
)
 
   
   
   
(19,974
 
)
 
   
(19,974
)
Dividends declared
 
   
   
   
              —
   
              —
   
(1,670,029
)
 
(1,670,029
)
 
   
(1,670,029
)
Distributions to non-controlling interests
 
   
   
   
              —
   
              —
   
               —
   
                —
   
(4,140,154
)
 
(4,140,154
)
Balances, June 30, 2013
 
11,198,119
 
$
111,981
 
$
182,437,522
   
              —
 
$
              —
 
$
2,553,589
 
$
185,103,092
 
$
5,968,792
 
$
191,071,884
 
                                                       
Balances, December 31, 2013
 
11,198,119
 
$
111,981
 
$
182,437,522
   
(403,910
)
 
(5,023,668
)
$
2,348,575
 
$
179,874,410
 
$
6,351,896
 
$
 186,226,306
 
                                                       
Net income
 
   
   
   
              —
   
              —
   
3,571,447
   
3,571,447
   
67,955
   
3,639,402
 
Dividends declared
 
   
   
   
              —
   
              —
   
(1,076,133
)
 
(1,076,133
)
 
   
(1,076,133
)
Purchase of treasury stock
 
   
   
   
              (26,208
)
 
(325,488
)
 
               —
   
                (325,488
)
 
   
(325,488
)
Contribution from non-controlling interest
 
   
   
   
              —
   
              —
   
               —
   
                —
   
112,533
   
112,533
 
Distributions to non-controlling interests
 
   
   
   
              —
   
              —
   
               —
   
                —
   
(3,490
)
 
(3,490
)
Balances, June 30, 2014
 
11,198,119
 
  $
111,981
 
  $
182,437,522
   
(430,118
)
$
(5,349,156
)
$
4,843,889
 
$
182,044,236
 
$
6,528,894
 
$
188,573,130
 
                                                       

 (1) As recast to reflect the balances of Owens Mortgage Investment Fund, LP combined with the balances of Owens Realty Mortgage, Inc. beginning January 1, 2013, as required under the accounting guidelines for a transfer of an entity under common control (refer to Note 1).

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



 
6

 

OWENS REALTY MORTGAGE, INC.
Consolidated Statements of Cash Flows
For the Six Months Ended June 30, 2014 and 2013
(UNAUDITED)

   
June 30,
 
June 30,
 
   
2014
 
2013
 
CASH FLOWS FROM OPERATING ACTIVITIES:
             
Net income
 
$
3,639,402
 
$
9,920,595
 
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
             
Gain on sales of real estate and other assets, net
   
(2,626,992
)
 
(2,460,209
)
Gain on foreclosure of loan
   
(257,020
)
 
(952,357
)
Income from investment in limited liability company
   
(82,672
)
 
(79,626
)
Provision for (reversal of ) loan losses
   
23,352
   
(6,956,484
)
Impairment losses on real estate properties
   
55,540
   
 
Depreciation and amortization of real estate and related assets
   
1,093,733
   
1,402,355
 
Amortization of deferred financing costs to interest expense
   
35,925
   
 
Accretion of discount on loan to interest income
   
(48,800
)
 
 
Changes in operating assets and liabilities:
             
Interest and other receivables
   
(576,669
)
 
506,847
 
Other assets
   
(25,667
)
 
46,933
 
Accounts payable and accrued liabilities
   
(790,541
)
 
(1,827,627
)
Due to Manager
   
(103,060
)
 
(12,146
)
Net cash provided by (used in) operating activities
   
336,531
   
(411,719
)
               
CASH FLOWS FROM INVESTING ACTIVITIES:
             
Principal collected on loans
   
16,357,881
   
997,092
 
Investment in loans
   
(19,932,374
)
 
(2,645,672
)
Investment in real estate properties
   
(13,911,237
)
 
(1,542,289
)
Net proceeds from disposition of real estate properties and other assets
   
1,350
   
10,699,255
 
Purchases of vehicles and equipment
   
(7,212
)
 
(11,221
)
Transfer (to) from restricted cash
   
(1,441,294
)
 
2,282,906
 
Distribution received from investment in limited liability company
   
84,000
   
80,000
 
Net cash (used in) provided by investing activities
   
(18,848,886
)
 
9,860,071
 
               
CASH FLOWS FROM FINANCING ACTIVITIES:
             
Repayments on notes payable
   
(287,625
)
 
(83,291
)
Advances on lines of credit
   
30,376,000
   
 
Repayments on lines of credit
   
(17,330,000
)
 
 
Payment of deferred financing costs
   
(314,548
)
     
Distributions to noncontrolling interests
   
(3,490
)
 
(4,140,154
)
Contributions from noncontrolling interest
   
112,533
   
 
Offering costs incurred and paid
   
   
(527,785
)
Distributions to stockholders for fractional shares
   
   
(19,974
)
Purchase of treasury stock
   
(325,488
)
 
 
Dividends paid
   
(717,733
)
 
(2,904,381
)
Net cash provided by (used in) financing activities
   
11,509,649
   
(7,675,585
)
               
Net (decrease) increase in cash and cash equivalents
   
(7,002,706
)
 
1,772,767
 
               
Cash and cash equivalents at beginning of period
   
8,158,734
   
21,131,505
 
               
Cash and cash equivalents at end of period
 
$
1,156,028
 
$
22,904,272
 
               
 
 
7

 
 
Supplemental Disclosures of Cash Flow Information
             
Cash paid during the period for interest (including amounts capitalized)
 
$
409,341
 
$
340,107
 
Supplemental Disclosures of Non-Cash Activity
             
Increase in real estate from loan foreclosures
 
$
3,241,220
 
$
16,922,764
 
Increase in accounts payable and accrued liabilities from loan foreclosure
   
   
(660,000
)
Increase in notes payable from loan foreclosure
   
   
(1,000,000
)
Decrease in loans, net of allowance for loan losses, from loan foreclosures
   
(2,959,500
)
 
(13,949,812
)
Decrease in interest and other receivables from adding balances to loans
   
   
(22,880
)
Decrease in interest and other receivables from loan foreclosures
   
(281,720
)
 
(1,312,952
)
Increase in loans from sales of real estate
   
   
11,900,000
 
Increase in deferred gains from sales of real estate
   
   
(2,344,052
)
Change in capital expenditures financed through accounts payable
   
(1,987,422
)
 
 
Deferred financing costs paid from construction loan
   
620,391
   
 
Amortization of deferred financing costs capitalized to construction project
   
(17,279
)
 
 


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

 
8

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



NOTE 1 – ORGANIZATION
 
Owens Realty Mortgage, Inc. (the “Company”) was incorporated on August 9, 2012, under the laws of the State of Maryland and was authorized to issue 1,000,000 shares of $0.01 par value common stock at the time of its incorporation. At the time of its incorporation, William C. Owens was issued 1,000 shares of common stock, $.01 par value per share, in exchange for cash consideration of $1.00 per share (for total consideration of $1,000). Per the Articles of Amendment and Restatement of the Company dated January 23, 2013, the authorized shares of common stock were increased to 50,000,000 shares, $0.01 par value per share. In addition, the Company is now authorized to issue 5,000,000 shares of preferred stock at $0.01 par value per share. The Company was created to effect the merger (the “Merger”) of Owens Mortgage Investment Fund, a California Limited Partnership (“OMIF”) with and into the Company as described in the Registration Statement on Form S-4, as amended, of the Company, declared effective on February 12, 2013 (File No. 333-184392).  The Merger was part of a plan to reorganize the business operations of OMIF so that it could elect to qualify as a real estate investment trust for Federal income tax purposes. The Merger was approved by OMIF limited partners on April 16, 2013 and was completed on May 20, 2013.

Upon effectiveness of the Merger, the outstanding 1,000 shares of common stock of the Company held by William C. Owens were cancelled in exchange for $1,000, and every 25 limited partner units of OMIF were converted into one share of common stock of the Company. Additionally, the units representing the general partner interests of the Company’s manager, Owens Financial Group, Inc. (“OFG” or the “Manager”) were treated as follows: i) the 1,496,000 units representing the interest that was an expense of OMIF were cancelled, and ii) the 1,378,256 units representing the interest relating to cash contributions made by OFG to the capital of OMIF were converted into shares of common stock of the Company in the same manner limited partnership units were converted into shares of common stock. No fractional shares were issued in the Merger; instead, cash adjustments were paid in respect of shares otherwise issuable. The Company now, by virtue of the Merger, directly or indirectly owns all of the assets and business formerly owned by OMIF and is a deemed successor issuer to OMIF pursuant to Rule 12g-3(a) under the Securities Exchange Act of 1934, as amended. For accounting purposes, the merger of OMIF with and into the Company has been treated as a transfer of assets and exchange of shares between entities under common control. The accounting basis used to initially record the assets and liabilities in the Company is the carryover basis of OMIF. The consolidated financial statements included in this Form 10-Q reflect the extinguishment of OMIF’s partners’ capital and replacement with 11,198,119 shares of common stock and additional paid –in capital as if the Merger occurred on January 1, 2013. In addition, capitalized offering costs incurred during 2012 were reclassified from Other Assets to Additional Paid-in Capital in the accompanying consolidated financial statements.

The Company has elected to be taxed as a real estate investment trust (“REIT”) under the Internal Revenue Code of 1986, as amended (the “Code”), commencing with the Company’s taxable year ended December 31, 2012. As a REIT, the Company will be permitted to deduct distributions made to its stockholders, allowing its income and gain represented by such distributions to avoid taxation at the entity level and to be taxed generally only at the stockholder level. The Company intends to distribute substantially all of its income and gain. As a REIT, however, the Company will be subject to separate, corporate-level tax, including potential 100% penalty taxes under various circumstances, as well as certain state and local taxes. In addition, the Company’s taxable REIT subsidiaries will be subject to full corporate income tax. Furthermore, the Company’s ability to qualify as a REIT will depend upon its continuing satisfaction of various requirements, such as those related to the diversity of its stock ownership, the nature of its assets, the sources of its income and the distributions to its stockholders, including a requirement that the Company distribute to its stockholders at least 90% of its REIT taxable income on an annual basis (determined without regard to the dividends paid deduction and by excluding net capital gain).

NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

In the opinion of the management of the Company, the accompanying unaudited financial statements contain all adjustments, consisting of normal, recurring adjustments, necessary to present fairly the financial information included therein. Certain information and footnote disclosures presented in the annual consolidated financial statements are not included in these interim financial statements.  These consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Form 10-K of ORM for the year ended December 31, 2013 filed with the Securities and Exchange Commission (“SEC”). The results of operations for the three and six months ended June 30, 2014 are not necessarily indicative of the operating results to be expected for the full year ending December 31, 2014. The Company evaluates subsequent events up to the date it files its Form 10-Q with the SEC. 
 
9

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)


 
Basis of Presentation

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and its wholly-owned taxable REIT subsidiary (TRS) and its majority- and wholly-owned limited liability companies (see notes 5 and 6). The Company is in the business of providing mortgage lending services and manages its business as one operating segment. Due to foreclosure activity, the Company also owns and manages real estate assets.

Certain reclassifications, not affecting previously reported net income or total stockholders’ equity, have been made to the previously issued consolidated financial statements to conform to the current period presentation.

Management Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Such estimates relate principally to the determination of the allowance for loan losses, including the valuation of impaired loans, the valuation of real estate held for sale and investment, and the estimate of the environmental remediation liability (see notes 4 and 13).  Fair value estimates are derived from information available in the real estate markets including similar property and often require the experience and judgment of third parties such as real estate appraisers and brokers. The estimates figure materially in calculating the value of the property at acquisition, the level of charge to the allowance for loan losses and any subsequent valuation reserves or write-downs. Such estimates are inherently imprecise and actual results could differ significantly from such estimates.

Recently Issued Accounting Standards

In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers (Topic 606),” or ASU 2014-09. ASU 2014-09 broadly amends the accounting guidance for revenue recognition. ASU 2014-09 is effective for the first interim or annual period beginning after December 15, 2016, and is to be applied prospectively. Early adoption is not permitted. The Company is currently evaluating the impact that ASU 2014-09 will have on its financial statements.

Significant Accounting Policies
 
Cash and Cash Equivalents

Cash and cash equivalents include funds on deposit with financial institutions.

Restricted Cash

Restricted cash includes contingency reserves required pursuant to the Company’s charter, non-interest bearing deposits required pursuant to the Company’s two lines of credit (see Note 8), the deposit required pursuant to the Company’s construction loan payable (see Note 9) and escrow deposits for property taxes and insurance to be paid on certain Company real estate properties.
 
10

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)


Concentration of Credit Risk

Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents and loans. The Company places its cash and cash equivalents with financial institutions and, at times, cash held may exceed the Federal Deposit Insurance Corporation, or “FDIC”, insured limit. The Company has exposure to credit risk on its loans and other investments. The Company’s Manager, OFG, will seek to manage credit risk by performing analysis of underlying collateral assets.

Loans and Allowance for Loan Losses

Loans are stated at the principal amount outstanding. The Company’s portfolio consists primarily of real estate loans generally collateralized by first, second and third deeds of trust.  Interest income on loans is accrued by the simple interest method. Loans are generally placed on nonaccrual status when the borrowers are past due greater than ninety days or when full payment of principal and interest is not expected. When a loan is classified as nonaccrual, interest accruals discontinue and all past due interest remains accrued until the loan becomes current, is paid off or is foreclosed upon. Interest accruals are resumed on such loans only when they are brought fully current with respect to interest and principal and when, in the judgment of management, the loans are estimated to be fully collectible as to both principal and interest. Cash receipts on nonaccrual loans are used to reduce any outstanding accrued interest, and then are recorded as interest income, except when such payments are specifically designated as principal reduction or when management does not believe the Company’s investment in the loan is fully recoverable. The Company does not incur origination costs and does not earn or collect origination fees from borrowers as OFG is entitled to all such fees (see Note 7).

Loans and the related accrued interest and advances are analyzed by management on a periodic basis for ultimate recovery. The allowance for loan losses is management’s estimate of probable credit losses inherent in the Company’s loan portfolio that have been incurred as of the balance sheet date.  The allowance is established through a provision for loan losses which is charged to expense.  Additions to the allowance are expected to maintain the adequacy of the total allowance after credit losses and loan growth.  Credit exposures determined to be uncollectible are charged against the allowance.  Cash received on previously charged off amounts is recorded as a recovery to the allowance.  The overall allowance consists of two primary components: specific reserves related to impaired loans that are individually evaluated for impairment and general reserves for inherent losses related to loans that are not considered impaired and are collectively evaluated for impairment.

Regardless of a loan type, a loan is considered impaired when, based on current information and events, management believes it is probable that the Company will be unable to collect all amounts due, including principal and interest, according to the contractual terms of the original agreement or when monthly payments are delinquent for more than 90 days on a loan.  All loans determined to be impaired are individually evaluated for impairment.  When a loan is considered impaired, management estimates impairment based on the present value of expected future cash flows discounted at the loan's effective interest rate, except that as a practical expedient, management may measure impairment based on a loan's observable market price, or the fair value of the collateral if the loan is collateral dependent.  A loan is collateral dependent if the repayment of the loan is expected to be provided solely by the underlying collateral. These valuations are generally updated during the fourth quarter but may be updated during interim periods if deemed appropriate by management.

A restructuring of a debt constitutes a troubled debt restructuring (“TDR”) if the Company for economic or legal reasons related to the debtor's financial difficulties grants a concession to the debtor that it would not otherwise consider.  Restructured loans typically present an elevated level of credit risk as the borrowers are not able to perform according to the original contractual terms.  Loans that are reported as TDR’s are considered impaired and measured for impairment as described above.

The determination of the general reserve for loans that are not considered impaired and are collectively evaluated for impairment is based on estimates made by management, to include, but not limited to, consideration of historical losses by portfolio segment, internal asset classifications, and qualitative factors to include economic trends in the Company’s service areas, industry experience and trends, geographic concentrations, estimated collateral values, the Company’s underwriting policies, the character of the loan portfolio, and probable losses inherent in the portfolio taken as a whole.
 
11

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



The Company maintains a separate allowance for each portfolio segment (loan type).  These portfolio segments include commercial real estate, residential real estate and land loans.   The allowance for loan losses attributable to each portfolio segment, which includes both impaired loans that are individually evaluated for impairment and loans that are not considered impaired and are collectively evaluated for impairment, is combined to determine the Company’s overall allowance, which is included on the consolidated balance sheet. The reserve for loans that are not considered impaired consists of reserve factors that are based on management’s assessment of the following for each portfolio segment: (1) inherent credit risk, (2) historical losses, and (3) other qualitative factors.  These reserve factors are inherently subjective and are driven by the repayment risk associated with each portfolio segment described below.

Land Loans – These loans generally possess a higher inherent risk of loss than other real estate portfolio segments.  A major risk arises from the necessity to complete projects within specified costs and time lines.  Trends in the construction industry significantly impact the credit quality of these loans as demand drives construction activity.  In addition, trends in real estate values significantly impact the credit quality of these loans, as property values determine the economic viability of construction projects.

Commercial and Residential Real Estate Loans –Adverse economic developments or an overbuilt market impact commercial and residential real estate projects and may result in troubled loans.  Trends in vacancy rates of properties impact the credit quality of these loans.  High vacancy rates reduce operating revenues and the ability for properties to produce sufficient cash flow to service debt obligations.

Other Assets

Other assets primarily include capitalized lease commissions, prepaid expenses, deposits and inventory. Amortization of lease commissions is provided on the straight-line method over the lives of the related leases.

Deferred Financing Costs

Issuance and other costs related to our lines of credit are capitalized and amortized to interest expense under the straight-line method over the terms of the respective debt instruments. Deferred financing costs related to the construction loan in TOTB North, LLC are being amortized to the construction project under the straight-line method over the term of construction/renovation.

Rental Income

The Company leases multifamily rental units under operating leases with terms of generally one year or less. Rental revenue is recognized, net of rental concessions, on a straight-line method over the related lease term. Rental income on commercial property is recognized on a straight-line basis over the term of each operating lease. Recognition of gains on the sale of real estate is dependent upon the transaction meeting certain criteria related to the nature of the property and the terms of the sale including potential seller financing.

Real Estate Held for Sale

Real estate held for sale includes real estate acquired in full or partial settlement of loan obligations, generally through foreclosure, that is being marketed for sale. Real estate held for sale is recorded at acquisition at the property’s estimated fair value less estimated costs to sell. Any excess of the recorded investment in the loan over the net realizable value is charged against the allowance for loan losses. Any excess of the net realizable value over the recorded investment in the loan is credited first to the allowance for loan losses as a recovery to the extent charge-offs had been recorded previously and, then, to earnings as gain on foreclosure of loan.

After acquisition, costs incurred relating to the development and improvement of property are capitalized to the extent they do not cause the recorded value to exceed the net realizable value, whereas costs relating to holding and disposition of the property are expensed as incurred. After acquisition, real estate held for sale is analyzed periodically for changes in fair values and any subsequent write down is charged to impairment losses on real estate properties. Any recovery in the fair value subsequent to such a write down is recorded (not to exceed the net realizable value at acquisition) as an offset to impairment losses on real estate properties. Recognition of gains on the sale of real estate is dependent upon the transaction meeting certain criteria related to the nature of the property and the terms of the sale including potential seller financing.
 
12

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



Real Estate Held for Investment

Real estate held for investment includes real estate acquired in full or partial settlement of loan obligations, generally through foreclosure, that is not being marketed for sale and is either being operated, such as rental properties; is being managed through the development process, including obtaining appropriate and necessary entitlements, permits and construction; or are idle properties awaiting more favorable market conditions or properties the Company cannot sell without placing our REIT status at risk or become subject to prohibited transactions penalty tax. Real estate held for investment is recorded at acquisition at the property’s estimated fair value, less estimated costs to sell.

After acquisition, costs incurred relating to the development and improvement of the property are capitalized, whereas costs relating to operating or holding the property are expensed. Subsequent to acquisition, management periodically compares the carrying value of real estate to expected undiscounted future cash flows for the purpose of assessing the recoverability of the recorded amounts. If the carrying value exceeds future undiscounted cash flows, the assets are reduced to estimated fair value.

Depreciation of real estate properties held for investment is provided on the straight-line method over the estimated remaining useful lives of buildings and improvements (5-39 years). Depreciation of tenant improvements is provided on the straight-line method over the lives of the related leases.
 
The Company reclassifies real estate properties from held for investment to held for sale in the period in which all of the following criteria are met: 1) Management commits to a plan to sell the property; 2) The property is available for immediate sale in its present condition; 3) An active program to locate a buyer has been initiated; 4) The sale of the property is probable and the transfer of the property is expected to qualify for recognition as a completed sale, within one year; and 5) Actions required to complete the plan indicate it is unlikely that significant changes to the plan will be made or the plan will be withdrawn.
 
If circumstances arise that previously were considered unlikely, and, as a result, the Company decides not to sell a real estate property classified as held for sale, the property is reclassified to held for investment. The property is then measured individually at the lower of its carrying amount, adjusted for depreciation or amortization expense that would have been recognized had the property been continuously classified as held for investment or its fair value at the date of the subsequent decision not to sell.
 
Environmental Remediation Liability
 
Liabilities related to future environmental remediation costs are recorded when remediation or monitoring or both are probable and the costs can be reasonably estimated. The Company’s environmental remediation liability related to the property located in Santa Clara, California (held within 1850 De La Cruz, LLC – see Notes 4 and 13) was recorded based on a third party consultant’s estimate of the costs required to remediate and monitor the contamination.
 
Earnings per Share

The Company calculates basic earnings per share by dividing net income allocable to common stockholders for the period by the weighted-average shares of common stock outstanding for that period. Diluted earnings per share takes into effect any dilutive instruments, except if when doing so such instruments would be anti-dilutive. At the present time, the Company has not issued any restricted stock or restricted stock units.
 
13

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



Income Taxes
 
The Company has elected to be taxed as a REIT. As a result of the Company’s REIT status and its distribution policy, the Company does not generally expect to pay U.S. federal corporate level income taxes. Many of the REIT requirements, however, are highly technical and complex. To qualify as a REIT, the Company must meet a number of organizational and operational requirements, including a requirement that the Company distribute annually at least 90% of the Company’s REIT taxable income to the Company’s stockholders. If the Company has previously qualified as a REIT and fails to qualify as a REIT in any subsequent taxable year and does not qualify for certain statutory relief provisions, the Company will be subject to U.S. federal income taxes at regular corporate rates (including any applicable alternative minimum tax) and may be precluded from qualifying as a REIT for the Company’s four subsequent taxable years. Even if the Company qualifies for taxation as a REIT, the Company may be subject to certain U.S. federal, state, local and foreign taxes on the Company’s income and property and to U.S. federal income and excise taxes on the Company’s undistributed REIT taxable income.

The Company has elected or may elect to treat certain of its existing or newly created corporate subsidiaries as taxable REIT subsidiaries (each a “TRS”). In general, a TRS may hold assets that the REIT cannot hold directly and, subject to certain exceptions related to hotels and healthcare properties, may engage in any real estate or non-real estate related business.  A TRS is treated as a regular corporation and is subject to federal, state, local and foreign taxes on its income and property. Lone Star Golf, Inc. is treated as a TRS of the Company.

ASC 740 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. ASC 740 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. The Company has analyzed its various federal and state filing positions and believes that its income tax filing positions and deductions are well documented and supported.

As of June 30, 2014 and December 31, 2013, the Company has not recorded a reserve for any uncertain income tax positions. There has been no interest or penalties incurred to date.

 
14

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



NOTE 3 – LOANS AND ALLOWANCE FOR LOAN LOSSES
 
The following tables show the changes in the allowance for loan losses by portfolio segment for the three and six months ended June 30, 2014 and 2013 and the allocation of the allowance for loan losses and loans as of June 30, 2014 and December 31, 2013 by portfolio segment and by impairment methodology:

   
Commercial
 
Residential
 
Land
     
2014
       
Total
 
                   
Allowance for loan losses:
             
   
Three Months Ended June 30, 2014
 
 
Beginning balance
 
$
1,215,024
$
3,638,944
$
            12,292
$
4,866,260
 
 
  Charge-offs
 
            —
 
            —
 
             —
 
            —
 
 
  Provision (reversal)
 
292,172
 
(388,969
)
             (7,023
(103,820
 
Ending Balance
 
$
1,507,196
$
3,249,975
$
             5,269
$
4,762,440
 
                   
   
Six Months Ended June 30, 2014
 
 
Beginning balance
 
$
932,651
$
           3,798,203
$
8,234
$
4,739,088
 
 
  Charge-offs
 
            —
 
            —
 
             —
 
 
 
  Provision (reversal)
 
574,545
 
(548,228
)
             (2,965
23,352
 
 
Ending balance
 
$
1,507,196
$
   3,249,975
$
             5,269
$
          4,762,440
 
                   
   
As of June 30, 2014
 
Ending balance: individually evaluated for impairment
 
$
611,095
$
  3,087,345
$
             —
$
3,698,440
 
                   
Ending balance: collectively evaluated for impairment
$
896,101
$
162,630
$
             5,269
$
1,064,000
 
                   
Ending balance
$
1,507,196
$
3,249,975
$
             5,269
$
4,762,440
 
                   
Loans:
                 
 
Ending balance
$
42,817,816
$
 14,476,268
$
2,166,002
$
59,460,086
 
                   
Ending balance: individually evaluated for impairment
$
17,305,680
$
      9,846,177
$
           2,016,002
$
29,167,859
 
                   
Ending balance: collectively evaluated for impairment
$
 25,512,136
$
     4,630,091
$
        150,000
$
30,292,227
 
                   

 
15

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



   
Commercial
 
Residential
 
Land
     
2013
       
Total
 
                   
Allowance for loan losses:
             
   
Three Months Ended June 30, 2013
 
 
Beginning balance
 
$
1,564,442
$
4,263,493
$
            18,332,749
$
24,160,684
 
   
Charge-offs
 
            —
 
            —
 
(11,856,697
)
(11,856,697
 
   (Reversal) Provision
 
(347,585
)
115,354
 
(6,467,040
)
(6,699,271
 
Ending Balance
 
$
1,216,857
$
4,378,847
$
             9,012
$
5,604,716
 
                   
   
Six Months Ended June 30, 2013
 
 
Beginning balance
 
$
1,606,925
$
           4,288,108
$
 18,522,864
$
24,417,897
 
   
Charge-offs
 
            —
 
            —
 
(11,856,697
)
(11,856,697
 
   (Reversal) Provision
 
(390,068
)
            90,739
 
(6,657,155
)
(6,956,484
Ending balance
 
$
1,216,857
$
           4,378,847
$
             9,012
$
      5,604,716
 
                   
   
As of December 31, 2013
 
 
Ending balance: individually evaluated for impairment
 
$
537,743
$
  3,087,345
$
             —
$
 3,625,088
 
                   
Ending balance: collectively evaluated for impairment
$
394,908
$
 710,858
$
             8,234
$
1,114,000
 
                   
Ending balance
$
932,651
$
3,798,203
$
              8,234
$
4,739,088
 
                   
Loans:
                 
 
Ending balance
 
$
26,158,878
$
 27,461,913
$
5,175,502
$
58,796,293
 
                   
Ending balance: individually evaluated for impairment
$
16,566,878
$
      10,195,725
$
           4,975,502
$
31,738,105
 
                   
Ending balance: collectively evaluated for impairment
$
9,592,000
$
17,266,188
$
        200,000
$
27,058,188
 


 
16

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



The following tables show an aging analysis of the loan portfolio by the time past due as of June 30, 2014 and December 31, 2013:
   
Loans
30-59 Days
Past Due
 
Loans
60-89 Days
Past Due
 
Loans
90 or More Days
Past Due
           
         
Total Past
Due Loans
 
Current Loans
 
Total Loans
 June 30, 2014
           
                         
Commercial
$
           —
$
       —
$
        5,790,699
$
         5,790,699
$
37,027,117
$
        42,817,816
Residential
 
 
 
       9,846,177
 
        9,846,177
 
4,630,091
 
        14,476,268
Land
 
          —
 
           —
 
         2,016,002
 
        2,016,002
 
150,000
 
2,166,002
 
$
         —
$
      —
$
       17,652,878
$
17,652,878
$
       41,807,208
$
  59,460,086

   
Loans
30-59 Days
Past Due
 
Loans
60-89 Days
Past Due
 
Loans
90 or More Days
Past Due
           
         
Total Past
Due Loans
 
Current Loans
 
Total Loans
December 31, 2013
           
                         
Commercial
$
          —
$
690,000
$
       5,100,699
$
        5,790,699
$
       20,368,179
$
26,158,878
Residential
 
 
 
        10,195,725
 
        10,195,725
 
       17,266,188
 
27,461,913
Land
 
          —
 
          —
 
        4,975,502
 
        4,975,502
 
200,000
 
5,175,502
 
$
         —
$
      690,000
$
   20,271,926
$
    20,961,926
$
      37,834,367
$
   58,796,293

All of the loans that are 90 or more days past due as listed above are on non-accrual status as of June 30, 2014 and December 31, 2013. In addition, two commercial loans totaling $11,466,179 that are considered impaired were also on non-accrual status as of December 31, 2013 (total of $31,738,105). These two loans were restored to accrual status during the first quarter of 2014 because the Company had received consistent payments from the borrower over the previous six month period, and management expects that the borrower will continue to keep the loans current with respect to principal and interest payments.  These two loans continue to be reported as impaired due to the previous modification of the borrower's terms in a troubled debt restructuring. There is an unamortized discount on one of these loans in the amount of approximately $610,000 and $659,000 as of June 30, 2014 and December 31, 2013, respectively.
 
17

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)


The following tables show information related to impaired loans as of and for the three and six months ended June 30, 2014:

   
As of June 30, 2014
 
 
 
Recorded
Investment
 
 
Unpaid
Principal
Balance
 
 
 
Related
Allowance
With no related allowance recorded:
           
 
Commercial
 
$
       16,377,403
  $
         15,536,927
  $
 
 
Residential
 
         2,386,725
 
          2,311,177
 
 
 
Land
 
       2,016,151
 
         2,016,002
 
 
 —
             
With an allowance recorded:
           
 
Commercial
 
         1,908,752
 
          1,768,753
 
 
611,095
 
Residential
 
       7,983,345
 
         7,535,000
 
 
3,087,345
 
Land
 
 
 
 
  —
 
 
             
Totals:
           
 
Commercial
 
$
 
18,286,155
  $
         17,305,680
  $
 
611,095
 
Residential
 
$
 
10,370,070
  $
         9,846,177
  $
 
3,087,345
 
Land
 
$
       2,016,151
  $
         2,016,002
  $
 

 
18

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)




 
Three Months Ended June 30, 2014
Six Months Ended June 30, 2014
 
 
Average
Recorded
Investment
 
 
Interest
Income
Recognized
 
 
Average
Recorded
Investment
 
 
Interest
Income
Recognized
With no related allowance recorded:
               
 
Commercial
  $
         16,291,783
  $
 
289,610
 
$
         16,254,765
 
$
 
788,116
 
Residential
 
          2,387,910
 
 
22,733
 
          2,445,794
 
 
             67,733
 
Land
 
         2,016,234
 
 
40,320
 
         3,019,839
 
 
94,640
                 
With an allowance recorded:
               
 
Commercial
 
          1,908,040
 
 
11,990
 
          1,845,838
 
 
26,471
 
Residential
 
         7,983,345
 
 
35,000
 
         7,983,387
 
 
74,000
 
Land
 
 
 
 
 
 
 
 
                 
Totals:
               
 
Commercial
  $
         18,199,823
  $
 
301,600
  $
         18,100,603
  $
 
814,587
 
Residential
  $
         10,371,255
  $
 
57,733
  $
         10,429,181
  $
 
141,733
 
Land
  $
         2,016,234
  $
 
40,320
  $
         3,019,839
  $
 
94,640

The following tables show information related to impaired loans as of December 31, 2013 and for the three and six months ended June 30, 2013:

   
As of December 31, 2013
 
 
 
Recorded
Investment
 
 
Unpaid
Principal
Balance
 
 
 
Related
Allowance
With no related allowance recorded:
           
 
Commercial
 
$
       16,212,899
  
$
         15,488,126
 
  $
 
 
Residential
 
         2,734,228
 
          2,660,725
 
 
 
Land
 
       5,017,839
 
         4,975,502
 
 
 
             
With an allowance recorded:
           
 
Commercial
 
         1,079,699
 
          1,078,752
 
 
537,743
 
Residential
 
       7,983,345
 
         7,535,000
 
 
3,087,345
 
Land
 
 
 
 
 
 
 
             
Totals:
           
 
Commercial
 
$
 
17,292,598
  
$
         16,566,878
 
  $
 
537,743
 
Residential
 
$
 
10,717,573
  
$
         10,195,725
 
 $
 
3,087,345
 
Land
 
$
       5,017,839
  
$
         4,975,502
 
 $
 
 
 
19

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)


 
 
 
Three Months Ended June 30, 2013
Six Months Ended June 30, 2013
 
 
Average
Recorded
Investment
 
 
Interest
Income
Recognized
 
 
Average
Recorded
Investment
 
 
Interest
Income
Recognized
With no related allowance recorded:
               
 
Commercial
  
$
         7,227,776
  
$
 
39,569
 
$
         7,218,337
 
$
 
322,351
 
Residential
 
          2,860,656
 
 
31,965
 
          2,880,661
 
 
             68,841
 
Land
 
         4,976,930
 
 
82,320
 
         4,976,930
 
 
164,641
                 
With an allowance recorded:
               
 
Commercial
 
          1,079,699
 
 
9,000
 
          1,079,699
 
 
             12,000
 
Residential
 
         7,983,345
 
 
63,000
 
         7,983,340
 
 
127,100
 
Land
 
 
9,520,585
 
 
 
         17,523,006
 
 
             —
                 
Totals:
               
 
Commercial
  
$
         8,307,475
 
 $
 
48,569
  
$
         8,298,036
 
 $
 
334,351
 
Residential
  
$
         10,844,001
 
 $
 
94,965
 
 $
         10,864,001
  
$
 
       195,941
 
Land
  
$
         14,497,515
 
  $
 
82,320
  
$
         22,499,936
  
$
 
164,641

The recorded investment balances presented in the above tables include amounts advanced in addition to principal on impaired loans (such as property taxes, insurance and legal charges) that are reimbursable by borrowers and are included in interest and other receivables in the accompanying consolidated balance sheets. Interest income recognized on a cash basis for impaired loans approximates the interest income recognized as reflected in the tables above.

Troubled Debt Restructurings

The Company has allocated approximately $3,628,000 and $3,625,000 of specific reserves on loans totaling approximately $22,481,000 and $25,781,000 (recorded investments before reserves) to borrowers whose loan terms had been modified in troubled debt restructurings as of June 30, 2014 and December 31, 2013, respectively.  The Company has not committed to lend additional amounts to any of these borrowers.

No loans were modified as troubled debt restructurings during the three and six months ended June 30, 2014.

During the three and six months ended June 30, 2013, the terms of one loan were modified as a troubled debt restructuring, whereby the terms of the loan were modified to combine all principal, delinquent interest and advances into principal and provide for amortizing payments at a reduced interest rate over an extended maturity of 15 years. This borrower subsequently became delinquent in making payments on this modified loan. Management believes that no specific loan loss allowance is needed on this loan given the estimated underlying collateral value.
 
20

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



The following tables show information related to loan modifications made by the Company during the three and six months ended June 30, 2013:

 
Modifications
During the Three and Six Months Ended June 30, 2013
   
 
Number of
Contracts
 
Pre-Modification
Outstanding
Recorded Investment
 
Post-Modification
Outstanding
Recorded Investment
 
 
Troubled Debt Restructurings That Occurred During the Three and Six Months
           
Residential
 
1
$
 272,028
$
 272,028
             
Troubled Debt Restructurings
 
Number of
Contracts
 
Recorded
Investment
   
That Subsequently Defaulted
       
Residential
 
1
$
 272,028
   


NOTE 4 – INVESTMENT IN LIMITED LIABILITY COMPANY

During 2008, the Company entered into an operating agreement (the “Operating Agreement”) of 1850 De La Cruz LLC, a California limited liability company (“1850”), with Nanook Ventures LLC (“Nanook”), an unrelated party.  The purpose of the joint venture is to acquire, own and operate certain industrial land and buildings located in Santa Clara, California that were owned by the Company. The property was subject to a Purchase and Sale Agreement dated July 24, 2007 (the “Sale Agreement”), as amended, between the Company, as seller, and Nanook, as buyer.  During the course of due diligence under the Sale Agreement, it was discovered that the property was contaminated and that remediation and monitoring may be required.  The parties agreed to enter into the Operating Agreement to restructure the arrangement as a joint venture.  At the time of closing in July 2008, the two properties were separately contributed to two new limited liability companies, Nanook Ventures One LLC and Nanook Ventures Two LLC that are wholly owned by 1850. The Company and Nanook are the Members of 1850 and NV Manager, LLC is the manager. (See Note 13 for further discussion of the Company’s environmental remediation obligation with respect to the properties owned by 1850.)

The Company received distributions from 1850 of $84,000 during the three and six months ended June 30, 2014 and $80,000 during the three and six months ended June 30, 2013. The net income to the Company from its investment in 1850 De La Cruz was approximately $41,000 and $39,000 during the three months ended June 30, 2014 and 2013, respectively, and $83,000 and $80,000 during the six months ended June 30, 2014 and 2013, respectively.
 
21

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



NOTE 5 - REAL ESTATE HELD FOR SALE

Real estate properties held for sale as of June 30, 2014 and December 31, 2013 consists of properties acquired through foreclosure classified by property type as follows:

   
June 30,
2014
 
December 31,
2013
 
Residential
 
$
93,647
 
$
93,647
 
Land
   
1,468,800
   
3,427,200
 
Golf course
   
2,001,790
   
1,961,284
 
Marina
   
360,000
   
408,000
 
   
$
3,924,237
 
$
5,890,131
 

During the quarter ended June 30, 2014, the Company transferred one parcel of land with a balance of approximately $1,958,000 from “Held for sale” to “Held for investment” because the property is no longer listed for sale and a sale is not likely within the next year.

During the three and six months ended June 30, 2014, the Company recorded an impairment loss of $48,000 and $56,000, respectively, on the marina property located in Oakley, California due to a recent decrease in the listing price of the property.

There were no sales during the three and six months ended June 30, 2014; however, gains totaling approximately $2,350,000 and $2,626,000, respectively, were recognized during the three and six months ended June 30, 2014 that had previously been deferred related to the sales of real estate properties in 2012 and 2013. The gains on the sales of the properties are being recognized under the installment method.
w listed for sale and sales are expected within the next year., Florida from held for investment to held for sale as they are n
During the quarter ended June 30, 2013, the Company sold 45 residential and 2 commercial units located in Oakland, California and held within 1401 on Jackson, LLC via a land sales contract for $11,000,000 ($1,000,000 down with interest only payments at 4.5% interest due monthly with all remaining principal and interest due in one year), resulting in a gain to the Company of approximately $207,000 and deferred gain of approximately $2,073,000. The carryback loan was repaid by the borrower with partial payments in November 2013 and May 2014 resulting in the full recognition of the deferred gain as of June 30, 2014.

During the quarter ended June 30, 2013, the Company sold a retail complex located in Hilo, Hawaii for $1,950,000 with a $250,000 cash down payment and a $1,700,000 carryback note due in three years with monthly payments of interest only at a starting rate of 5% per annum, resulting in a gain to the Company of approximately $36,000 and deferred gain of approximately $246,000. The note called for principal pay downs of $125,000 each within 30 and 60 days of issuance of the title policy on the property (paid in July and August 2013).

During the quarter ended June 30, 2013, the Company sold the remaining parcel of land held within Dation, LLC for $300,000 with a $100,000 down payment and a $200,000 carryback note with interest only payments at 6% per annum due in one year, resulting in a gain to the Company of approximately $13,000 and deferred gain of approximately $25,000. The carryback loan was fully repaid by the borrower in May 2014 resulting in the full recognition of the deferred gain as of June 30, 2014.

During the six months ended June 30, 2013, the Company sold four lots (one including a manufactured home) in a manufactured home subdivision development located in Ione, California for aggregate net sales proceeds of approximately $73,000 resulting in a net gain to the Company of approximately $30,000.
 
22

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



1875 West Mission Blvd., LLC

1875 West Mission Blvd., LLC (“1875”) was a California limited liability company formed for the purpose of owning 22.41 acres of industrial land located in Pomona, California which was acquired by the Company and PNL Company (who were co-lenders in the subject loan) via foreclosure in August 2011. Pursuant to the Operating Agreement, the Company had a 60% membership interest in 1875 and was entitled to collect approximately $5,078,000 upon the sale of the property after PNL collected all unreimbursed LLC expenses it has paid and $1,019,000 in its default interest at the time of foreclosure. The land was sold during the quarter ended June 30, 2013 for net sales proceeds of approximately $9,489,000 resulting in gain on sale of $2,174,000. As the Company received its basis in 1875 of $5,078,000 upon sale, after noncontrolling interest expense, there was no net gain or loss attributable to common stockholders.

NOTE 6 - REAL ESTATE HELD FOR INVESTMENT

Real estate held for investment as of June 30, 2014 and December 31, 2013 consists of properties acquired through foreclosure classified by property type as follows:


   
June 30,
2014
 
December 31,
2013
 
Land (including land under development - see Tahoe Stateline Venture below)
 
$
66,523,155
 
$
46,873,135
 
Residential
   
46,773,622
   
47,037,370
 
Retail
   
15,508,611
   
15,588,452
 
Office
   
9,267,424
   
9,348,331
 
Industrial
   
4,552,245
   
4,605,910
 
Storage
   
3,895,832
   
3,943,780
 
Marina
   
3,188,965
   
2,028,855
 
   
$
149,709,854
 
$
129,425,833
 

The balances of land and the major classes of depreciable property for real estate held for investment as of June 30, 2014 and December 31, 2013 are as follows:
   
June 30,
2014
   
December 31,
2013
 
Land and land improvements
 
$
94,256,263
   
$
73,591,953
 
Buildings and improvements
   
66,093,821
     
65,433,599
 
     
160,350,084
     
139,025,552
 
Less: Accumulated depreciation
   
(10,640,230
)
   
(9,599,719
)
   
$
149,709,854
   
$
129,425,833
 

It is the Company’s intent to sell its real estate properties held for investment, but the majority of expected sales are not probable to occur within the next year.
 
Depreciation expense was approximately $521,000 and $980,000 for the three months ended June 30, 2014 and 2013, respectively, and $1,041,000 and $1,350,000 for the six months ended June 30, 2014 and 2013, respectively.
 
2014 Foreclosure Activity
 
During the six months ended June 30, 2014, Sandmound Marina, LLC (“Sandmound”) (wholly owned by the Company) foreclosed on a first mortgage loan secured by unimproved land and a marina and campground located in Bethel Island, California with a principal balance of approximately $2,960,000 and obtained the properties via the trustee’s sale. In addition, advances made on the loan or incurred as part of the foreclosure (such as legal fees and delinquent property taxes) in the total amount of approximately $282,000 were capitalized to the basis of the properties. The fair market values of the properties acquired were estimated to be higher than Sandmound’s recorded investment in the subject loan, and, thus, a gain on foreclosure in the amount of approximately $257,000 was recorded. The properties have been classified as held for investment as sales are not expected within one year.
 
23

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



2013 Foreclosure Activity

During the six months ended June 30, 2013, Brannan Island, LLC (“Brannan”) (wholly owned by the Company) foreclosed on two first mortgage loans secured by a marina with 179 boat slips located in Isleton, California with an aggregate principal balance of $1,863,000 and obtained the property via the trustee’s sale.In addition, advances made on the loans or incurred as part of the foreclosures (such as legal fees and delinquent property taxes) in the total amount of approximately $140,000 were capitalized to the basis of the property. Brannan’s recorded investment in the subject loans at the time of foreclosure approximated the net fair market value of the property so no charge-off or gain on foreclosure was recorded.  

During the six months ended June 30, 2013, Tahoe Stateline Venture, LLC (“TSV”) (wholly owned by the Company) foreclosed on a first mortgage loan secured by two undeveloped parcels of land located in South Lake Tahoe, California that was purchased at a discount during the same period with a principal balance of approximately $1,401,000 and obtained the property via the trustee’s sale. In addition, advances made on the loan or incurred as part of the foreclosure (including delinquent property taxes) in the total amount of approximately $335,000 were capitalized to the basis of the property. The fair market value of the land acquired was estimated to be higher than TSV’s recorded investment in the subject loan, and, thus, a gain on foreclosure in the amount of approximately $952,000 was recorded. See below under “Tahoe Stateline Venture, LLC”.

During the quarter ended June 30, 2013, TSV also foreclosed on three mortgage loans secured by first, second and third deeds of trust secured by ten undeveloped parcels of land located in South Lake Tahoe, California with principal balances totaling approximately $21,263,000 (total investment of $23,381,000 including advances made on the loans) and obtained the property via the trustee’s sale. Based on a new appraisal dated June 30, 2013, it was determined that the fair value of the property was higher than the Company’s total investment in the loans (including a previously established loan loss allowance of $18,333,000), and a reversal to the provision for loan losses of approximately $6,476,000 was recorded at the time of foreclosure (for a net charge-off of $11,857,000). See below under “Tahoe Stateline Venture, LLC”.

720 University, LLC

The Company has an investment in a limited liability company, 720 University, LLC (“720 University”), which owns a commercial retail property located in Greeley, Colorado. The Company receives 65% of the profits and losses in 720 University after priority return on partner contributions is allocated at the rate of 10% per annum. The assets, liabilities, income and expenses of 720 University have been consolidated into the accompanying consolidated balance sheet and statement of operations of the Company.

The net income to the Company from 720 University was approximately $60,000 and $33,000 (including depreciation and amortization of $106,000 and $113,000) for the three months ended June 30, 2014 and 2013, respectively, and $38,000 and $60,000 (including depreciation and amortization of $216,000 and $220,000) for the six months ended June 30, 2014 and 2013, respectively. The noncontrolling interest of the joint venture partner of approximately $(1,000) and $(15,000) as of June 30, 2014 and December 31, 2013, respectively, is reported in the accompanying consolidated balance sheets. The Company’s investment in 720 University real property and improvements was approximately $11,618,000 and $11,697,000 as of June 30, 2014 and December 31, 2013, respectively.

TOTB Miami, LLC

During 2011, the Company foreclosed on a participated, first mortgage loan secured by a condominium complex located in Miami, Florida with a principal balance to the Company of approximately $26,257,000 and obtained an undivided interest in the properties with the other two lenders (which included OFG, the manager of the Company, and PRC Treasures, LLC or “PRC”). The Company and the other lenders formed a Florida limited liability company, TOTB Miami, LLC (“TOTB Miami”), to own and operate the complex. The complex consists of three buildings and an undeveloped parcel of land. Two buildings in which TOTB Miami owns 169 unsold condominium units have been renovated. These units are being leased. A third building contains 160 vacant units that have not been renovated.
 
24

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)


In March 2012, the Company made a priority capital contribution to TOTB Miami in the amount of $7,200,000. TOTB Miami then purchased PRC’s member interest in TOTB Miami for $7,200,000. Thus, the remaining members in TOTB Miami are now the Company and OFG.  The change in capital as a result of the PRC buyout and the amended agreement resulted in an increase to the Company’s capital of approximately $2,760,000, in addition to the $7,200,000 paid to acquire PRC’s interest. On the same date, the Company and OFG executed an amendment to the TOTB Miami operating agreement to set the percentage of capital held by each at 80.74% for the Company and 19.26% for OFG based on the dollar amount of capital invested in the properties/TOTB Miami (excluding preferred capital). The preferred capital of $2,583,000 was returned to the Company as of December 31, 2013 with the excess cash held by TOTB Miami and capital contributions of approximately $1,520,000 and $363,000 made by the Company and OFG, respectively.

During the quarter ended June 30, 2014, TOTB Miami contributed the vacant and unimproved 160 unit apartment building to a new wholly-owned entity, TOTB North, LLC (“TOTB North”). TOTB North then entered into a construction loan agreement which will provide up to $21,304,000 for the purpose of renovating and improving the apartment building (see Note 9). As of June 30, 2014, approximately $620,000 had been drawn from the construction loan to fund debt issuance costs. In addition, TOTB North has entered into various contracts for the design, engineering and first phase demolition and concrete remediation for the renovation project in the aggregate amount of approximately $2,577,000 of which approximately $224,000 had been incurred as of June 30, 2014. The Company plans to negotiate and sign the final construction contract for the remainder of the work by the fourth quarter of 2014. During the quarter ended June 30, 2014, the Company and OFG contributed approximately $453,000 and $108,000, respectively, to TOTB Miami to fund the $1,000,000 deposit required pursuant to the construction loan agreement.

The assets, liabilities, income and expenses of TOTB Miami have been consolidated into the accompanying consolidated balance sheets and statements of income of the Company. The noncontrolling interest of OFG totaled approximately $6,530,000 and $6,372,000 as of June 30, 2014 and December 31, 2013, respectively.

The net income (loss) to the Company from TOTB Miami was approximately $89,000 and $(263,000) (including depreciation of $150,000 and $598,000, respectively) for the three months ended June 30, 2014 and 2013, respectively, and $209,000 and $(90,000) (including depreciation of $299,000 and $598,000) for the six months ended June 30, 2014 and 2013, respectively.

During the quarter ended June 30, 2013, the properties were moved from “Held for sale” to “Held for investment” as they were no longer being marketed and sales were not expected within the next year. The transfer resulted in the Company recording approximately $598,000 of depreciation expense during the quarter ended June 30, 2013.

Tahoe Stateline Venture, LLC

The Company had made a series of loans with aggregate principal balances totaling approximately $24,203,000. These loans were originally secured by first, second and third deeds of trust on 29 parcels of land with entitlements for a 502,267 square foot resort development located in South Lake Tahoe, California known as Chateau at Lake Tahoe, or the Project. Through multiple foreclosures, 16 of the parcels within the development were acquired by lenders who held senior positions to the Company. In December 2012, the Company acquired seven of those parcels for $6,600,000, from the foreclosing lenders, that are contiguous to parcels securing the Company’s loans. The parcel purchases were made through TSV which is a wholly-owned subsidiary of the Company. TSV paid approximately $5,697,000 for the parcel purchases, including approximately $81,000 in closing costs and $1,691,000 in delinquent property taxes on the parcels. The sellers of the parcels also provided financing for the balance of the purchase prices which totaled $3,300,000 at 5% interest with interest only, semi-annual payments and all principal due in December 2016 (see Note 9). While these parcels were originally part of the security for the Company’s loans, management had chosen not to advance the funds to acquire the parcels at the foreclosure sales in 2010 and 2011 due to the uncertainty surrounding the Project.
 
25

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



In addition to the seven parcels purchased in 2012, in February 2013, TSV acquired the senior note for $1,400,000 secured by two adjacent parcels on which they held junior loans. In March 2013, TSV acquired these two parcels via a trustee sale.

In February 2013, the Company’s beneficial interest in the delinquent loans discussed above was transferred to TSV. In May 2013, TSV foreclosed on all of the remaining deeds of trust secured by ten parcels (not including one parcel where it held a third deed of trust - see below) and gained ownership of the related land.

In July 2013, TSV advanced $660,000 to obtain a release of a second deed of trust that was senior to TSV’s loan on a single parcel of land located on South Lake Tahoe Blvd. and adjacent to the parcels TSV acquired in the May 2013 foreclosure. In July 2013, TSV foreclosed on this parcel, subject to the existing first loan with a principal balance of $1,000,000 plus accrued interest. In October 2013, the holders of this first loan agreed to restructure the note by waiving all accrued interest in exchange for a $300,000 principal pay down from TSV. The restructured note (now with a principal balance of $500,000 after another $200,000 repayment made during the quarter ended June 30, 2014) is due on August 1, 2017 and requires interest only payments from TSV on a quarterly basis at an interest rate of 5% (see Note 9). The holders of the restructured note also agreed to release from their security another parcel of land that TSV had acquired in the May 2013 foreclosure.

After the final trustee’s sale, TSV owned all of the parcels necessary to complete the first retail phase of the Project and began construction in the summer of 2013. TSV signed a construction contract for the first phase of the Project in the amount of $16,948,000 (including change orders to date) of which approximately $14,383,000 has been incurred as of June 30, 2014. TSV has capitalized approximately $19,496,000 in design, engineering, construction and other related development costs (including legal, consulting, property taxes and interest) related to the retail and residential phases of the Project as of June 30, 2014. It is possible that additional change orders will be submitted and construction costs may be higher than expected, however, management believes that the cash flows from operation and/or ultimate sale of the property will be sufficient to cover the Company’s recorded investment. Construction on the retail phase is currently scheduled to be completed sometime during the third quarter of 2014. The Company has executed lease agreements for approximately 79% of the currently available space as of the date of this filing and currently anticipates that all tenant improvements will be complete and tenants will begin paying rent during the fourth quarter of 2014.

In February 2014, TSV entered into a Purchase and Sale Agreement to purchase nine additional parcels of land (and certain related assets) that constitute the balance of parcels in the second phase of the Project and that border the other parcels owned by TSV for $6,000,000 in cash.  This purchase was finalized during the quarter ended June 30, 2014. After this purchase, TSV now owns 24 parcels encompassing the entire Project (after combining six parcels into one for the retail development and purchase of nine parcels in 2014).
 
26

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



The approximate net income (loss) from Company real estate properties held within wholly-owned limited liability companies and other properties held for investment and sale with significant operating results (including gains/losses from sales and impairment losses) for the six months ended June 30, 2014 and 2013 are included in the table below. The information presented includes only the revenues and expenses directly related to the properties and no allocations have been made for overhead and other expenses the Company incurs that are not directly related to an individual property.

   
June 30,
2014
 
June 30,
2013
 
DarkHorse Golf Club, LLC (golf course sold in 2012)
 
$
2,000
 
$
(165,000
)
Lone Star Golf, Inc. (previously Lone Star Golf, LLC)
   
(26,000
)
 
(59,000
)
Baldwin Ranch Subdivision, LLC
   
(54,000
)
 
(48,000
)
The Last Resort and Marina, LLC
   
(66,000
)
 
(11,000
)
54th Street Condos, LLC
   
14,000
   
(34,000
)
Wolfe Central, LLC
   
198,000
   
199,000
 
AMFU, LLC
   
11,000
   
7,000
 
Phillips Road, LLC
   
67,000
   
50,000
 
1401 on Jackson, LLC (sold in 2013)
   
1,809,000
   
249,000
 
Broadway & Commerce, LLC
   
22,000
   
26,000
 
Brannan Island, LLC (foreclosed in 2013)
   
(1,000
)
 
(42,000
)
Piper Point Marina- held in Sandmound Marina, LLC (foreclosed in 2014)
   
(26,000
)
 
 
Light industrial building, Paso Robles, California
   
105,000
   
95,000
 
Undeveloped industrial land, San Jose, California
   
(61,000
)
 
(53,000
)
Office buildings, Roseville, California
   
4,000
   
(5,000
)
Office condominium complex, Roseville, California
   
(17,000
)
 
(63,000
)
Storage facility/business, Stockton, California
   
157,000
   
151,000
 
Undeveloped land,  Gypsum, Colorado
   
(111,000
)
 
(135,000
)
Retail complex, Hilo, Hawaii (sold in 2013)
   
   
(18,000
)

Certain of the Company’s real estate properties held for sale and investment are leased to tenants under noncancellable leases with remaining terms ranging from one to thirteen years. Certain of the leases require the tenant to pay all or some operating expenses of the properties. The future minimum rental income from noncancellable operating leases due within the five years subsequent to June 30, 2014 and thereafter is as follows:
 
Twelve months ending June 30:
       
2015
 
$
5,296,157
 
2016
   
2,228,262
 
2017
   
1,699,232
 
2018
   
1,323,268
 
2019
   
1,018,266
 
Thereafter (through 2026)
   
2,202,315
 
   
$
13,767,500
 

 
27

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



NOTE 7 - TRANSACTIONS WITH AFFILIATES

In consideration of the management services rendered to the Company, OFG, the manager, is entitled to receive from the Company a management fee payable monthly, subject to a maximum of 2.75% per annum of the average unpaid balance of the Company’s mortgage loans.

All of the Company’s loans are serviced by OFG, in consideration for which OFG receives a monthly fee, which, when added to all other fees paid in connection with the servicing of a particular loan, does not exceed the lesser of the customary, competitive fee paid in the community where the loan is placed for the provision of such mortgage services on that type of loan, or up to 0.25% per annum of the unpaid principal balance of the loans.

OFG, at its sole discretion may, on a monthly basis, adjust the management and servicing fees as long as they do not exceed the allowable limits calculated on an annual basis. Even though the fees for a month may exceed 1/12 of the maximum limits, at the end of the calendar year the sum of the fees collected for each of the 12 months must be equal to or less than the stated limits. Management fees amounted to approximately $420,000 and $452,000 for the three months ended June 30, 2014 and 2013, respectively, and $840,000 and $892,000 for the six months ended June 30, 2014 and 2013, respectively, and are included in the accompanying consolidated statements of income. Servicing fees amounted to approximately $38,000 and $38,000 for the three months ended June 30, 2014 and 2013, respectively, and $76,000 and $81,000 for the six months ended June 30, 2014 and 2013, respectively, and are included in the accompanying consolidated statements of income. As of June 30, 2014 and December 31, 2013, the Company owed management and servicing fees to OFG in the amount of approximately $150,000 and $294,000, respectively.
 
The maximum servicing fees were paid to OFG during the three and six months ended June 30, 2014 and 2013. The maximum management fees were paid to OFG during the three and six months ended June 30, 2014. If the maximum management fees had been paid to OFG during the six months ended June 30, 2013, the management fees would have been $896,000 (increase of $4,000), which would have decreased net income by approximately 0.05%.
 
In determining the management fees to pay to OFG, OFG may consider a number of factors, including current market yields, delinquency experience, un-invested cash and real estate activities. OFG expects that the management fees it receives from the Company will vary in amount and percentage from period to period. However, due to reduced levels of mortgage investments held by the Company, during 2013 and 2014, OFG has chosen to take close to the maximum compensation that it is able to take pursuant to the Management Agreement and will likely continue to take the maximum compensation for the foreseeable future.

Pursuant to the Management Agreement, OFG receives all late payment charges from borrowers on loans owned by the Company. The amounts paid to or collected by OFG for such charges totaled approximately $1,000 and $1,000 for the three months ended June 30, 2014 and 2013, respectively, and $2,000 and $2,000 for the six months ended June 30, 2014 and 2013, respectively. In addition, the Company remits other miscellaneous fees to OFG, which are collected from loan payments, loan payoffs or advances from loan principal (i.e. funding, demand and partial release fees). The amounts paid to or collected by OFG for such fees totaled approximately $1,000 and $2,000 during the three and six months ended June 30, 2014, respectively. No such fees were remitted to OFG during the three and six months ended June 30, 2013.

OFG originates all loans the Company invests in and receives loan origination and extension fees from borrowers. During the three and six months ended June 30, 2014, OFG earned approximately $331,000 and $540,000, respectively, on loans originated or extended of approximately $13,153,000 and $22,202,000, respectively. During the three and six months ended June 30, 2013, OFG earned approximately $25,000 in loan fees on one loan originated of $1,245,000.

OFG is reimbursed by the Company for the actual cost of goods, services and materials used for or by the Company and paid by OFG and the salary and related salary expense of OFG’s non-management and non-supervisory personnel performing services for the Company which could be performed by independent parties (subject to certain limitations in the Management Agreement and the Company’s charter). The total OFG reimbursements expensed by the Company for such services were $183,000 and $210,000 during the three months ended June 30, 2014 and 2013, respectively, and $340,000 and $368,000 during the six months ended June 30, 2014 and 2013, respectively. As of June 30, 2014, there was $41,000 payable to OFG for such services and no such amounts payable as of December 31, 2013. The Company also reimbursed certain of OFG’s officers for allowed expenses in the total amount of $0 and $1,000 during the three months ended June 30, 2014 and 2013, respectively, and $1,000 and $1,000 during the six months ended June 30, 2014 and 2013, respectively.
 
28

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



The Company paid Investor’s Yield, Inc. (a wholly owned subsidiary of OFG) approximately $0 and $31,000 during the three months ended June 30, 2014 and 2013, respectively, and $30,000 and $34,000 during the six months ended June 30, 2014 and 2013, respectively, in fees primarily related to certain foreclosure proceedings on Company loans.
 
NOTE 8 – LINES OF CREDIT PAYABLE
 
The Company borrows funds under the California Bank & Trust (“CB&T”) Line of Credit and the Opus Bank (“Opus”) Line of Credit (collectively, the “Funding Agreements”). As of June 30, 2014, the outstanding balances and total commitments under the Funding Agreements consisted of the following:
 
   
As of June 30, 2014
 
As of December 31, 2013
 
                   
   
Outstanding
Balance
 
Total
Commitment
 
Outstanding
Balance
 
Total
Commitment
 
                   
CB&T Line of Credit
 
  $
13,046,000
 
  $
17,355,300
 
  $
 
  $
 
Opus Bank Line of Credit
   
   
5,136,000
   
   
 
Total
 
  $
13,046,000
 
  $
22,491,300
 
  $
 
  $
 
 
The Funding Agreements are generally collateralized by assignments of specific loans or real estate properties owned by the Company.

CB&T Line of Credit

On February 10, 2014, the Company entered into a Credit Agreement and Advance Formula Agreement with California Bank & Trust (“CB&T”) as the lender and executed a related Master Revolving Note and Security Agreement, which agreements provide the Company with a new revolving line of credit facility (the “CB&T Credit Facility”).  Subject to various conditions, borrowings under the CB&T Credit Facility will be used for general corporate purposes and to finance the origination of new commercial real estate loans.

The maximum borrowings available (total commitment) under the revolving CB&T Credit Facility is the lesser of $20,000,000, which is the face amount of the Master Revolving Note, or the amount determined pursuant to a borrowing base calculation described in the Advance Formula Agreement. At any time that the aggregate principal amount of the total borrowings under the CB&T Credit Facility exceeds the maximum permitted pursuant to the borrowing base calculation, the Company must promptly repay an amount equal to such excess. 

Borrowings under the CB&T Credit Facility mature on February 5, 2016.  Such borrowings will bear interest payable monthly, in arrears, on the first business day of each month, at the prime rate of interest established by CB&T from time-to-time plus one quarter percent (.25%) per annum (3.5% at June 30, 2014). Upon a default under the CB&T Credit Facility such interest rate increases by 2.00%. The CB&T Credit Facility required the payment of an origination fee of $100,000 and other issuance costs and is subject to certain ongoing administrative fees and expenses. As of June 30, 2014, $177,000 of these costs were paid and capitalized to deferred financing costs and are being amortized to interest expense using the straight-line method through the maturity date of the CB&T Credit Facility.
 
29

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



Interest expense on the CB&T Credit Facility was approximately $114,000 and $116,000 during the three and six months ended June 30, 2014, respectively (including $23,000 in amortization of deferred financing costs during the quarter ended June 30, 2014).

Borrowings under the CB&T Credit Facility are secured by certain assets of the Company. These collateral assets will include the grant to CB&T of first-priority deeds of trust on certain real property assets and trust deeds of the Company to be identified by the parties from time-to-time and all personal property of the Company, which collateral includes the assets described in the Security Agreement and in other customary “Collateral Agreements” that will be entered into by the parties from time-to-time. As of June 30, 2014, the carrying amount and classification of loans and real estate properties securing the CB&T Credit Facility were as follows:

Loans:
   
June 30,
2014
 
Commercial
 
$
11,505,000
 
Total
 
$
11,505,000
 
Real Estate:
       
Residential
   
6,915,192
 
Storage
   
3,895,832
 
Industrial
   
3,072,263
 
Total
 
$
13,883,287
 

The borrowing base calculation outlined in the Advance Formula Agreement equals the sum of: (a) the lesser of (i) 75% of the outstanding principal balance of those mortgage loan promissory notes issued by the Company in the ordinary course of business that qualify as “Eligible Loan Notes” according to criteria outlined in the Advance Formula Agreement and (ii) 50% of the then-current appraised value of the real property securing such Eligible Loan Notes; plus (b) 50% of the then-current appraised value of the real property owned by the Company that qualifies as “Eligible Owned Real Property” according to criteria outlined in the Advance Formula Agreement.

The CB&T Credit Facility contains affirmative, negative, and financial covenants which are customary for loans of this type, including among others: approvals of new leases or lease renewals with respect to Collateral properties; maintaining the Company’s principal bank accounts with CB&T and maintenance of $2,000,000 of Unencumbered Liquid Assets (reported as part of restricted cash on the accompanying consolidated balance sheets); obligations to use best efforts to keep certain of the Company’s properties fully leased; maintenance of minimum debt-to-tangible net worth and debt service coverage ratios; limitations on repurchasing or redeeming stock of the Company; limitations on incurrence of liens or additional indebtedness; restrictions against guarantying debt outside the ordinary course of business; restrictions on asset dispositions, capital or corporate restructuring or other transactions outside the ordinary course of business; and restrictions on making certain investments. Management is not aware of any breach of these covenants as of June 30, 2014.
 
The Credit Agreement contains certain events of default (subject to specified thresholds and, in certain cases, cure periods), including among others: nonpayment of principal and other amounts when due; breach of covenants or inaccuracy of representations and warranties; maintenance of required insurance; change in the management, ownership or control of the Company which CB&T believes could have a Material Adverse Effect as defined in the Credit Agreement; cross-default and/or cross-acceleration to other indebtedness; certain bankruptcy or insolvency events; the dissolution, merger or consolidation of the Company or if the Company ceases to do business as a going concern; the issuance of a writ of attachment, seizure or similar process against any part of the Company’s property; certain ERISA-related events; entry of non-appealable judgments against the Company that are not covered by insurance, or the entry of a levy or lien of attachment against any assets of the Company or entry by the Company into certain types of settlements; or if CB&T deems itself insecure with respect to the payment obligations of the Company or is of the opinion that a Material Adverse Effect has occurred or could occur. If an event of default occurs and is continuing under the Credit Agreement, CB&T may, among other things, terminate its obligations to lend under the CB&T Credit Facility and require the Company to repay all amounts owed thereunder.
 
30

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)


Opus Bank Line of Credit

On April 22, 2014, the Company entered into a Secured Revolving Credit Loan Agreement (“Opus Credit Agreement”) with Opus as the lender and executed a Promissory Note in favor of Opus, which agreements provide the Company with a new revolving line of credit facility (the “Opus Credit Facility”).  As a condition to providing the Opus Credit Facility to the Company, Opus also required the Company’s Chairman of the Board, President and Chief Executive Officer, William C. Owens, to enter into a Carveout Payment Guaranty (the “Guaranty”), dated April 22, 2014, in favor of Opus.  Mr. Owens’ has delivered the Guaranty in his individual capacity and as sole trustee of Owens Trust, a California trust controlled by Mr. Owens, to guarantee performance by the Company of certain specified obligations under the Credit Facility.  Subject to various conditions, borrowings under the Opus Credit Facility will be used by the Company for general corporate purposes and to finance the origination of new commercial real estate loans.

The maximum borrowings under the revolving Opus Credit Facility is the lesser of $20,000,000, which is the face amount of the Promissory Note, or the Maximum Allowed Advance amount determined pursuant to a borrowing base calculation described in the Opus Credit Agreement. At any time that the aggregate principal amount of the total borrowings under the Opus Credit Facility exceeds the Maximum Allowed Advance permitted pursuant to the borrowing base calculation, the Company must promptly repay an amount equal to such excess. 

Advances under the Opus Credit Facility may be made by Opus until April 1, 2016.  All borrowings under the Opus Credit Facility bear interest payable monthly, in arrears, on the first business day of each month, as follows: (i) continuing through October 1, 2014 the rate of interest will be 4.5%; (ii) commencing October 1, 2014, and on each successive six month anniversary during the term (the “Rate Change Date”), the rate of interest will be reset to the Six Month LIBOR rate of interest (currently .33%) as reported on such Rate Change Date plus four percent (4.0%) per annum but in no event will the interest rate be lower than 4.5% per annum. Upon a default under the Opus Credit Facility such interest rate increases by an additional 5.00%. Commencing on May 1, 2016, in addition to the required interest payments, the Company is also required to make mandatory monthly principal payments and all amounts under the Opus Credit Facility are to be repaid not later than April 1, 2017.

Borrowings under the Opus Credit Facility will be secured by certain of the Company's assets. These collateral assets will include the following types of assets to be identified by the parties and described in Borrowing Base Collateral Certificates  to be entered into by the parties from time-to-time: (i) the grant to Opus of first-priority deeds of trust on certain of the Company's real property assets that meet related eligibility requirements set forth in the Opus Credit Agreement (as further defined in the Opus Credit Agreement, the “REO Collateral”); and (ii) the grant to Opus of a collateral interest in mortgage loan promissory notes issued by the Company in the ordinary course of business that meet related eligibility requirements set forth in the Opus Credit Agreement (as further defined in the Opus Credit Agreement, the “Note Collateral”).

The borrowing base calculation outlined in the Opus Credit Agreement equals the sum of: (a) the lesser of (i) 70% of the outstanding principal balance of the Note Collateral and (ii) 50% of the then-current Appraised Value of the real property securing such Note Collateral; plus (b) 60% of the then-current Appraised Value of the real property owned by the Company that qualifies as REO Collateral.  As of June 30, 2014, the carrying amount and classification of loans and real estate properties securing the Opus Credit Facility were as follows:

Real Estate:
   
June 30,
2014
 
Office
 
$
4,496,603
 
Industrial
   
1,479,982
 
Total
 
$
5,976,585
 

The Opus Credit Facility contains affirmative, negative, and financial covenants which are customary for loans of this type, including among others: approvals of new leases or lease renewals with respect to collateral properties; maintaining a minimum of $2,500,000 (potentially increasing to $5,000,000 six months after entering into the Opus Credit Agreement) in bank accounts maintained at Opus (reported as part of restricted cash in the accompanying consolidated balance sheets); compliance by Mr. Owens with all terms of the Guaranty obligations; maintenance of minimum debt-to-tangible net worth and debt service coverage ratios and limitations on making dividends or distributions that could cause a material adverse change in the Company’s financial position or have other financial consequences as described in the agreements. Management is not aware of any breach of these covenants as of June 30, 2014.
 
31

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)


The Opus Credit Facility required the payment of an origination fee of $100,000 and other issuance costs and is subject to certain administrative fees and expenses. As of June 30, 2014, $231,000 of these costs were paid and capitalized to deferred financing costs and are being amortized to interest expense using the straight-line method through the maturity date of the Opus Credit Facility.

Interest expense on the Opus Credit Facility was approximately $13,000 during the three and six months ended June 30, 2014, respectively (including $13,000 in amortization of deferred financing costs).

NOTE 9 - NOTES PAYABLE

The Company had the following notes payable outstanding as of June 30, 2014 and December 31, 2013:
 
   
June 30,
2014
 
December 31,
2013
 
720 University, LLC Note Payable
 
$
9,829,960
 
$
9,917,585
 
Tahoe Stateline Venture, LLC Notes Payable
   
3,800,000
   
4,000,000
 
TOTB North, LLC Construction Loan Payable
   
620,391
   
 
   
$
14,250,351
 
$
13,917,585
 

720 University, LLC Note Payable

The Company has a note payable with a bank through its investment in 720 University (see Note 6), which is secured by the retail development located in Greeley, Colorado. The note requires amortized monthly payments of $56,816 at a fixed rate of 5.07% per annum with the balance of unpaid principal due on March 1, 2015. Interest expense was approximately $126,000 and $128,000 for the three months ended June 30, 2014 and 2013, respectively, and $252,000 and $256,000 for the six months ended June 30, 2014 and 2013, respectively.
 
Tahoe Stateline Venture, LLC Notes Payable

The Company also has three notes payable related to the foreclosure or purchase of nine parcels by TSV in 2013 and 2012. Two of the notes with principal balances totaling $3,300,000 require semi-annual interest-only payments of 5% per annum and are due in December 2016, and one note with a remaining principal balance of $500,000 as of June 30, 2014 requires quarterly interest-only payments of 5% per annum and is due in August 2017. The Company repaid $200,000 of this note during the quarter ended June 30, 2014 to allow demolition of the buildings on the land for the overall development in Phase II of the project. The Company paid approximately $98,000 and $83,000 of interest on the notes during the six months ended June 30, 2014 and 2013, respectively. As of June 30, 2014 and December 31, 2013, there was approximately $22,000 and $21,000 in accrued but unpaid interest on these notes. All interest paid/accrued has been capitalized to the basis of the land now under development.
 
TOTB North, LLC Construction Loan Payable
 
TOTB Miami, LLC contributed the unimproved “North” apartment building and the related 2.37 acre parcel of land to a new wholly owned limited liability company, TOTB North, LLC (“TOTB North” or “Borrower”) during the quarter ended June 30, 2014 and entered into a Construction Loan Agreement (the “Loan Agreement”) with Bank of the Ozarks (“Ozarks”) as the lender providing Borrower with a loan (the “Loan”) of up to $21,304,000, subject to the terms and conditions of the Loan documents, for the purpose of renovating and improving the Apartments (the “Project”).  The Loan is evidenced by the Loan Agreement, a related Promissory Note (the “Note”), a Mortgage, Security Agreement and Fixture Filing (the “Security Agreement”), an Assignment of Rents and Revenues (the “Assignment”), an Environmental Indemnity Agreement (the “Indemnity Agreement”) and a Post-Closing Agreement (the “Post-Closing Agreement”). As a condition to providing the Loan to the Borrower, Ozarks also required  a joint and several completion guaranty from the Company and the Manager (the “Completion Guaranty”) with respect to completion of the Apartments, a joint and several repayment guaranty from the Company and the Manager (the “Repayment Guaranty”) that guarantees repayment of the Loan subject to certain limitations and a joint and several carve-out guaranty from the Company and the Manager (the “Carve-Out Guaranty” and, together with the Completion Guaranty and the Repayment Guaranty, the “Guarantees”) that provides a guaranty with respect to standard “bad-boy” carve-out provisions. Capitalized terms used and not defined herein are further defined in the Loan Agreement and the Note.
 
32

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



The initial maturity date (the “Maturity Date”) of the Loan is June 12, 2017, and the Maturity Date may be extended at the option of Borrower for two additional one year periods if a number of conditions are met including, among others, the conditions that there be no defaults, that the Property have a loan to value ratio calculated in accordance with the Loan Agreement at or below 60% at the time of each extension, that the debt service coverage ratio (“DSCR”) of the Property calculated in accordance with the Loan Agreement equals or exceeds 1.25:1 at the time of each extension, that there be no Material Adverse Change relating to Borrower or any Guarantor and that certain additional fees are paid to Ozarks at the time of the extension.

All outstanding borrowings under the Loan will bear interest equal to the floating daily Three Month LIBOR rate of interest plus four percent (4.0%) per annum (the “Note Rate”), but in no event will the Note Rate be lower than the floor rate of four and one-half percent (4.5%) per annum. The Note Rate as of June 30, 2014 is four and one-half percent (4.5%) per annum.  Upon a default under the Loan documents the Note Rate increases by an additional eight percent (8.00%) per annum. Interest only payments are payable monthly, in arrears, on the first business day of each month (the “Payment Date”), until the “Amortization Commencement Date” which is the earlier to occur of (i) December 12, 2015 or (ii) the first Payment Date occurring after the Project is completed and the Property achieves a DSCR of greater than 1.25:1.

Commencing on the Amortization Commencement Date and continuing on each Payment Date thereafter until the Maturity Date, Borrower is required to make, in addition to the interest payment due on such date, a monthly principal payment.  The principal payment is calculated monthly based on the principal component of a mortgage-style amortization schedule calculated using the principal balance and the Note Rate as of the corresponding Payment Date and a period of 300 months (less the number of any such monthly principal payments made by Borrower prior to the applicable monthly calculation). The balance of the Loan is due on the Maturity Date.

Borrowings under the Loan documents are subject to customary conditions, and, additionally,  Ozarks is not required to loan more than $1.0 million to the Borrower until the Borrower satisfies certain additional conditions detailed in the Post-Closing Agreement (the “Post-Closing Conditions”), including, without limitation, delivery of various completed plans, permits and construction agreements relating to the Project.  The Borrower is also required to deposit with Ozarks $1.0 million, or such greater amount as is required (the “Bridge Equity”), to fund all Project costs incurred prior to the satisfaction of the Post-Closing Conditions.  The required deposit of $1.0 million was made during the quarter ended June 30, 2014 with a capital contribution by TOTB Miami (excess funds held and capital contributions of $453,000 from the Company and $108,000 from OFG). Upon satisfaction of the Post-Closing Conditions, Ozarks will reimburse as part of the Loan the amount of the Bridge Equity to Borrower to the extent the proceeds were expended in conformance with the approved Project budget. Management believes that the Post-Closing Conditions will be met sometime during the fourth quarter of 2014 and TOTB North will have access to the remaining balance of the Loan, but there can be no assurance that this will occur when planned.

Borrowings under the Loan Agreement will be secured by: (i) a first mortgage lien on the Property and all improvements, amenities and appurtenances to the Property, (ii) an assignment of all personal property, sales contracts, rents, leases, and ground leases associated with the Property and (iii) all design, development, service, management, leasing and construction contracts associated with the Property.  In addition, the Bridge Equity and other reserves established by Ozarks are additional collateral for the Loan.
 
33

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)


The Loan documents contain affirmative, negative and financial covenants of the Borrower and the Guarantors which are customary for loans of this type, including, among others, a requirement that the Company in its capacity as a Guarantor maintain: (i) a minimum of $5,000,000 in unencumbered cash balances and (ii) a minimum Net Worth of $35,000,000. Management is not aware of any breach of these covenants as of June 30, 2014.
 
As of June 30, 2014, the Borrower paid customary closing fees, disbursements and expenses, including an origination fee to Ozarks, which totaled $622,000. The majority of these costs were paid out of proceeds from the loan and capitalized to deferred financing costs and are being amortized to the construction project using the straight-line method through the Maturity Date. During the three and six months ended June 30, 2014, approximately $17,000 of deferred financing costs were amortized to the Project.

During the three and six months ended June 30, 2014, approximately $1,000 of interest was incurred which was capitalized to the Project.

The Loan documents contain events of default (subject to specified thresholds and, in certain cases, cure periods) which are customary for loans of this type. If an event of default occurs and is continuing under the Loan documents, Ozarks may, among other things, terminate its obligations to lend and require the Company to repay all amounts owed thereunder, take possession of the Project and proceed to complete the Project at the cost of the Borrower and/or take certain actions against Guarantors pursuant to the Guarantees.

The following table shows maturities by year on these notes payable as of June 30, 2014:
 
Twelve months ending June 30:
       
2015
 
$
9,829,960
 
2016
   
 
2017
   
3,920,391
 
2018
   
500,000
 
2019
   
 
   
$
14,250,351
 

NOTE 10 – STOCKHOLDERS’ EQUITY
 
The Company was incorporated on August 9, 2012, under the laws of the State of Maryland and was authorized to issue 1,000,000 shares of $0.01 par value common stock at the time of its incorporation. Per the Articles of Amendment and Restatement of the Company dated January 23, 2013, the authorized shares of common stock were increased to 50,000,000 shares (at $0.01 par value per share). In addition, the Company was authorized to issue 5,000,000 shares of preferred stock at $0.01 par value per share. The Company was created to effect the Merger. The Merger was approved by a requisite vote of OMIF limited partners on April 16, 2013 and was completed on May 20, 2013.

Per resolutions of the Board of Directors of the Company on August 9, 2012, the Board of Directors authorized the issuance of 1,000 shares of $0.01 par value common stock to William C. Owens in exchange for cash consideration of $1.00 per share (for total consideration of $1,000). Upon effectiveness of the Merger, the outstanding 1,000 shares of common stock of the Company held by William C. Owens were cancelled in exchange for $1,000, and every 25 limited partner units of OMIF were converted into one share of common stock of the Company. Additionally, the units representing the general partner interests of OFG were treated as follows: i) the 1,496,000 units representing the interest that was an expense of OMIF were cancelled, and ii) the 1,378,256 units representing the interest relating to cash contributions made by OFG to the capital of OMIF were converted into shares of common stock of the Company in the same manner limited partnership units were converted into shares of common stock. No fractional shares were issued in the Merger; instead, cash adjustments were paid in respect of shares otherwise issuable.
 
34

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



On August 9, 2013, the Board of Directors authorized a Rule 10b5-1 stock repurchase plan (the “Repurchase Plan”) which permitted the Company to repurchase up to the lesser of $7 million of its common stock or five percent of the shares of common stock outstanding as of that date. As of June 30, 2014 and December 31, 2013, the Company had repurchased 430,118 and 403,910 shares of its common stock, respectively, for a total cost of approximately $5,349,000 and $5,024,000 (including commissions) and an average cost of $12.44 per share. No further repurchases were made under the Repurchase Plan which expired on May 19, 2014.

NOTE 11 – RESTRICTED CASH
 
Contingency Reserves
 
In accordance with the charter, the Company is required to maintain cash, cash equivalents and marketable securities as contingency reserves in an aggregate amount of 1-1/2% of Capital as defined in the charter. Although the Manager believes the contingency reserves are adequate, it could become necessary for the Company to sell or otherwise liquidate certain of its investments or other assets to cover such contingencies on terms which might not be favorable to the Company, which could lead to unanticipated losses upon sale of such assets.
 
The contingency reserves required per the charter as of June 30, 2014 and December 31, 2013 were approximately $3,889,000 and $3,895,000, respectively, and are reported as part of restricted cash in the accompanying consolidated balance sheets. The $4,500,000 required to be held in non-interest bearing accounts pursuant to the Company’s two lines of credit agreements satisfy this contingency reserve requirement (see Note 8).
 
Escrow Deposits
 
Restricted cash includes deposits held in third party escrow accounts to pay property taxes and insurance on Company real estate in the amounts of approximately $37,000 and $200,000 as of June 30, 2014 and December 31, 2013, respectively.

Bridge Equity Deposit

Restricted cash includes the Bridge Equity deposit held by Ozarks to fund all Project costs incurred prior to the satisfaction of the Post-Closing Conditions in the amount of $1,000,000 as of June 30, 2014 (see Note 9).

NOTE 12 – FAIR VALUE
 
The Company accounts for its financial and nonfinancial assets and liabilities pursuant to ASC 820 – Fair Value Measurements and Disclosures.  ASC 820 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements.
 
Fair value is defined in ASC 820 as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASC 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:
 
Level 1       Quoted prices in active markets for identical assets or liabilities
 
Level 2       Observable inputs other than Level 1 prices, such as quoted prices for similar assets or
liabilities; quoted prices in active markets that are not active; or other inputs that are
observable or can be corroborated by observable market data for substantially the full
term of the assets or liabilities

Level 3       Unobservable inputs that are supported by little or no market activity, such as the
Company’s own data or assumptions.
 
35

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)



Level 3 inputs include unobservable inputs that are used when there is little, if any, market activity for the asset or liability measured at fair value. In certain cases, the inputs used to measure fair value fall into different levels of the fair value hierarchy. In such cases, the level in which the fair value measurement in its entirety falls is determined based on the lowest level input that is significant to the fair value measurement. Our assessment of the significance of a particular input requires judgment and considers factors specific to the asset or liability being measured.

Management monitors the availability of observable market data to assess the appropriate classification of financial instruments within the fair value hierarchy. Changes in economic conditions or model-based valuation techniques may require the transfer of financial instruments from one fair value level to another.  In such instances, the transfer is reported at the beginning of the reporting period.

Management evaluates the significance of transfers between levels based upon the nature of the financial instrument and size of the transfer relative to total assets, total liabilities or total earnings.

The following is a description of the Company’s valuation methodologies used to measure and disclose the fair values of its financial and nonfinancial assets and liabilities on a recurring and nonrecurring basis.
 
Impaired Loans
 
The Company does not record loans at fair value on a recurring basis. However, from time to time, a loan is considered impaired and a specific allowance for loan losses is established.  A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement or when monthly payments are delinquent greater than ninety days. Once a loan is identified as impaired, management measures impairment in accordance with ASC 310-10-35.  The fair value of impaired loans is estimated by either an observable market price (if available) or the fair value of the underlying collateral, if collateral dependent.  The fair value of the loan’s collateral is determined by third party appraisals (by licensed appraisers), broker price opinions, comparable properties or other indications of value. Those impaired loans not requiring an allowance represent loans for which the fair value of the collateral exceed the recorded investments in such loans. At June 30, 2014 and December 31, 2013, the majority of impaired loans were evaluated based on the fair value of the collateral by obtaining third party appraisals that valued the collateral primarily by utilizing an income or market approach or some combination of the two.  In accordance with ASC 820, impaired loans where an allowance is established based on the fair value of collateral are disclosed as measured at fair value on a nonrecurring basis.  When the fair value of the collateral is based on an observable market price or is determined utilizing an income or market valuation approach based on an appraisal conducted by an independent, licensed appraiser using observable market data, the Company records the impaired loan as nonrecurring Level 2.  When an appraised value is not available, when management determines the fair value of the collateral is further impaired below the appraised value or when the current appraisal includes unobservable market data, the Company records the impaired loan as nonrecurring Level 3. Unobservable market data included in appraisals often includes adjustments to comparable property sales for such items as location, size and quality to estimate fair values using a sales comparison approach.  Unobservable market data also includes cash flow assumptions and capitalization rates used to estimate fair values under an income approach.

Real Estate Held for Sale and Investment
 
Real estate held for sale and investment include properties acquired through foreclosure of the related loans. When property is acquired, any excess of the Company’s recorded investment in the loan and accrued interest income over the estimated fair market value of the property, net of estimated selling costs, is charged against the allowance for loan losses. Subsequently, real estate held for sale properties are carried at the lower of carrying value or fair value less costs to sell. The Company periodically compares the carrying value of real estate held for investment to expected future cash flows as determined by internally or third party generated valuations (including third party appraisals that primarily utilize an income or market approach or some combination of the two) for the purpose of assessing the recoverability of the recorded amounts. If the carrying value exceeds future undiscounted cash flows, the assets are reduced to fair value. As fair value is generally based upon the future undiscounted cash flows, the Company records the impairment on real estate properties as nonrecurring Level 3.  Unobservable market data included in appraisals often includes adjustments to comparable property sales for such items as location, size and quality to estimate fair values using a sales comparison approach.  Unobservable market data also includes cash flow assumptions and capitalization rates used to estimate fair values under an income approach.
 
36

 
OWENS REALTY MORTGAGE, INC.

Notes to Consolidated Financial Statements (Unaudited)


The following tables present information about the Company’s assets and liabilities measured at fair value on a nonrecurring basis as of June 30, 2014 and December 31, 2013:
 
     
Fair Value Measurements Using
 
Fair Value
 
Quoted Prices In Active Markets for Identical Assets
(Level 1)
 
Significant Other Observable Inputs
(Level 2)
 
Significant Unobservable Inputs
(Level 3)
June 30, 2014
             
Nonrecurring:
             
Impaired loans:
       
 
 
 
  Commercial
$                          1,297,657
 
 
 
$                         1,297,657
  Residential
4,896,000
 
 
 
        4,896,000
 
Total
 
$                          6,193,657
 
 
 
 
 
$                         6,193,657
               
Real estate properties:
   
 
 
 
 
 
  Marina
$                             360,000
 
 
 
$                            360,000
  Land
      2,770,560
 
 
 
2,770,560
 
Total
 
$                          3,130,560
 
 
 
 
 
 
$                         3,130,560
               
December 31, 2013
             
Nonrecurring:
             
Impaired loans:
             
  Commercial
$                            541,956
 
 
 
   $                           541,956
  Residential
4,896,000
 
 
 
4,896,000
 
Total
 
$                         5,437,956
 
 
 
 
 
 
 $                        5,437,956
               
Real estate properties: