T Bancshares, Inc. - FORM 10-Q

Attached files

file	filename
EX-32 - EX-32 - T Bancshares, Inc.	ex32.htm
EX-31.2 - EX-31.2 - T Bancshares, Inc.	ex31-2.htm
EX-31.1 - EX-31.1 - T Bancshares, Inc.	ex31-1.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2016

Commission File Number 000-51297

T BANCSHARES, INC.

(Exact name of registrant as specified in its charter)

Texas		71-0919962
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

16200 Dallas Parkway, Suite 190, Dallas, Texas 75248

(Address of principal executive offices)

(972) 720- 9000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or such shorter period that the registrant was required to filed 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 ☒ No ¨

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

Large accelerated filer	☐	Accelerated filer	☐
Non-accelerated filer	☐	Smaller reporting company	☒

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

The number of shares outstanding of the registrant’s Common Stock as of August 12, 2016 was 4,051,501 shares.

T BANCSHARES, INC.

TABLE OF CONTENTS

		PAGE
PART I.	FINANCIAL INFORMATION	3
ITEM 1.	Financial Statements	3
ITEM 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	27
ITEM 3.	Quantitative and Qualitative Disclosures about Market Risk	43
ITEM 4.	Controls and Procedures	43

PART II.	OTHER INFORMATION	44
ITEM 1.	Legal Proceedings	44
ITEM 2.	Unregistered Sales of Equity Securities and Use of Proceeds	44
ITEM 3.	Defaults Upon Senior Securities	44
ITEM 4.	Mine Safety Disclosures	44
ITEM 5.	Other Information	44
ITEM 6.	Exhibits	44

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

T BANCSHARES, INC.

CONSOLIDATED BALANCE SHEETS

	June 30, 2016		December 31, 2015
(In thousands, except share amounts)	(unaudited)
ASSETS
Cash and due from banks	$	2,150	$	1,592
Interest-bearing deposits		7,157		6,687
Federal funds sold		494		431
Total cash and cash equivalents		9,801		8,710
Securities available for sale at estimated fair value		12,629		12,452
Securities held to maturity		9,790		-
Securities, restricted at cost		1,051		1,046
Loans held for sale		13,789		6,365
Loans, net of allowance for loan losses of $1,678 and $1,564 respectively		148,746		137,648
Bank premises and equipment, net		4,462		4,497
Deferred tax assets, net		483		527
Receivable for loans sold		2,093		1,972
Other assets		4,104		3,712
Total assets	$	206,948	$	176,929

LIABILITIES
Demand deposits:
Noninterest-bearing	$	26,937	$	24,138
Interest-bearing		48,798		42,292
Time deposits $100,000 and over		89,902		66,538
Time deposits under $100,000		3,833		4,067
Total deposits		169,470		137,035
Borrowed funds		6,000		10,000
Other liabilities		2,745		2,684
Total liabilities		178,215		149,719

SHAREHOLDERS’ EQUITY
Common stock, $0.01 par value; 10,000,000 shares authorized; 4,051,657 and 4,037,907 shares issued and outstanding at June 30, 2016 and December 31, 2015, respectively		40		40
Additional paid-in capital		22,910		22,762
Retained earnings		5,693		4,398
Accumulated other comprehensive income		90		10
Total shareholders’ equity		28,733		27,210
Total liabilities and shareholders’ equity	$	206,948	$	176,929

See accompanying notes to consolidated financial statements

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T BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

	Three Months Ended June 30,				Six Months Ended June 30,
(In thousands, except per share data)	2016		2015		2016		2015
Interest Income
Loan, including fees	$	2,229	$	1,995	$	4,426	$	4,011
Securities		173		55		252		116
Federal funds sold		10		-		20		1
Interest-bearing deposits		1		4		1		7
Total interest income		2,413		2,054		4,699		4,135
Interest Expense
Deposits		292		220		559		420
Borrowed funds		7		1		10		4
Total interest expense		299		221		569		424
Net interest income		2,114		1,833		4,130		3,711
Provision for loan losses		319		-		444		-
Net interest income after provision for loan losses		1,795		1,833		3,686		3,711
Non-interest Income
Trust income		3,081		3,102		5,959		6,129
Gain on sale of loans		342		624		839		984
Loan servicing fees, net		77		109		158		208
Service fees and other income		16		17		32		34
Rental income		77		77		155		154
Total non-interest income		3,593		3,929		7,143		7,509
Non-interest Expense
Salaries and employee benefits		1,401		1,146		2,601		2,360
Occupancy and equipment		209		209		432		419
Trust expenses		2,470		2,491		4,760		4,913
Professional fees		127		124		231		212
Data processing		230		212		439		418
Other		164		171		366		377
Total non-interest expense		4,601		4,353		8,829		8,699
Income before Income Taxes		787		1,409		2,000		2,521
Income tax expense		280		430		705		815
Net Income	$	507	$	979	$	1,295	$	1,706

Earnings per common share:
Basic		0.13		0.24		0.32		0.42
Diluted		0.13		0.24		0.32		0.42

Weighted average common shares outstanding		4,039,116		4,030,545		4,038,511		4,030,240
Weighted average diluted shares outstanding		4,052,553		4,039,346		4,051,548		4,038,909

See accompanying notes to consolidated financial statements

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T BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

	Three Months Ended June 30,					Six Months Ended June 30,
(In thousands)	2016		2015			2016		2015
Net Income	$	507	$	979		$	1,295	$	1,706
Other comprehensive income:
Net unrealized gain (loss) on investment securities available-for-sale, before tax effect		45		(79	)		121		27
Tax effect		15		(27	)		41		9
Other comprehensive income (loss)		30		(52	)		80		18
Comprehensive income	$	537	$	927		$	1,375	$	1,724

See accompanying notes to consolidated financial statements

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T BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY

(Unaudited)

(In thousands)	Common Stock		Additional Paid-in Capital		Retained Earnings		Accumulated Other Comprehensive Income (Loss)			Total
BALANCE, January 1, 2015	$	40	$	22,664	$	1,105	$	(12	)	$	23,797

Net income - YTD		-		-		1,706		-			1,706
Other comprehensive income		-		-		-		18			18
Issuance of 7,975 shares in connection with the directors’ common stock plan		-		58		-		-			58
Stock based compensation		-		14		-		-			14
BALANCE, June 30, 2015	$	40	$	22,736	$	2,811	$	6		$	25,593

BALANCE, January 1, 2016	$	40	$	22,762	$	4,398	$	10		$	27,210

Net income – YTD		-		-		1,295		-			1,295
Other comprehensive income		-		-		-		80			80
Issuance of 13,750 shares in connection with the directors’ common stock plan		-		97		-		-			97
Stock based compensation		-		51		-		-			51
BALANCE, June 30, 2016	$	40	$	22,910	$	5,693	$	90		$	28,733

See accompanying notes to consolidated financial statements

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T BANCSHARES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

	Six Months Ended June 30,
(In thousands)	2016			2015
Cash Flows from Operating Activities
Net income	$	1,295		$	1,706
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Provision for loan losses		444			-
Depreciation and amortization		110			110
Accretion of discount on loans		(77	)		(51	)
Securities premium amortization, net		36			23
Origination of loans held for sale		(16,969	)		(10,168	)
Proceeds from payments and sales of loans held for sale		10,107			11,656
Net gain on sale of loans		(839	)		(984	)
Stock based compensation		148			72
Receivable for sold loans		(121	)		8,185
Deferred income taxes		3			112
Servicing asset amortization		207			54
Net change in:
Other assets		(322	)		(161	)
Other liabilities		61			(1,164	)
Net cash provided by (used in) operating activities		(5,917	)		9,390

Cash Flows from Investing Activities
Purchase of securities available for sale		(68,276	)		(1,000	)
Principal payments, calls and maturities of securities available for sale		68,186			456
Purchase of securities held to maturity		(9,913	)		-
Principal payments of securities held to maturity		122			-
Purchase of securities, restricted		(6	)		(199	)
Proceeds from sale of securities, restricted		-			390
Net change in loans		(11,465	)		(14,578	)
Purchases of premises and equipment		(75	)		(66	)
Net cash used in investing activities		(21,427	)		(14,997	)

Cash Flows from Financing Activities
Net change in demand deposits		9,305			10,848
Net change in time deposits		23,130			7,234
Proceeds from borrowed funds		141,000			35,000
Repayment of borrowed funds		(145,000	)		(45,000	)
Net cash provided by financing activities		28,435			8,082

Net change in cash and cash equivalents		1,091			2,475
Cash and cash equivalents at beginning of period		8,710			6,932

Cash and cash equivalents at end of period	$	9,801		$	9,407

Supplemental disclosures of cash flow information
Cash paid during the period for
Interest	$	549		$	418
Income taxes	$	1,325		$	1,565

See accompanying notes to consolidated financial statements

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T BANCSHARES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1. BASIS OF PRESENTATION

We prepared the unaudited consolidated financial statements of T Bancshares, Inc. and its subsidiaries (the “Company,” “we,” “us,” or “our,” hereafter) following the requirements of the Securities and Exchange Commission (“SEC”) for interim reporting. As permitted under those rules, certain footnotes or other financial information that are normally required by accounting principles generally accepted in the United States of America (“GAAP”) can be condensed or omitted.

We are responsible for the unaudited financial statements included in this document. The financial statements include all normal and recurring adjustments that management believes are considered necessary for the fair presentation of our financial position and operating results. The accounting and reporting policies of the Company reflect banking industry practice and conform to GAAP. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported asset and liability balances and revenue and expense amounts and the disclosure of contingent assets and liabilities. The allowance for loan loss is the primary estimate by management, which is established through a provision for loan loss charged to expense. It is reasonably possible that actual results could differ significantly from those estimates. The results of operations for interim periods are not necessarily indicative of the results to be expected for the entire year.

The information included in this Quarterly Report on Form 10-Q should be read in conjunction with the audited consolidated financial statements and accompanying notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.

NOTE 2. ADOPTION OF NEW ACCOUNTING POLICIES

Accounting Standards Update (ASU) No. 2014-09, “Revenue from Contracts with Customers (Topic 606)." ASU 2014-09 implements a common revenue standard that clarifies the principles for recognizing revenue. The core principle of ASU 2014-09 is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve that core principle, an entity should apply the following steps: (i) identify the contract(s) with a customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations in the contract and (v) recognize revenue when (or as) the entity satisfies a performance obligation. ASU 2014-09 was originally going to be effective for the Company on January 1, 2017; however, the Financial Accounting Standards Board (“FASB”) recently issued ASU 2015-14, “Revenue from Contracts with Customers (Topic 606) – Deferral of the Effective Date” which deferred the effective date of ASU 2014-09 to January 1, 2018. The Company is evaluating the potential impact of ASU 2016-02 on the Company’s financial statements.

Accounting Standards Update (ASU) No. 2015-01, “Income Statement - Extraordinary and Unusual Items (Subtopic 225-20) – Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items.” ASU 2015-01 eliminates from GAAP the concept of extraordinary items, which, among other things, required an entity to segregate extraordinary items considered to be unusual and infrequent from the results of ordinary operations and show the item separately in the income statement, net of tax, after income from continuing operations. ASU 2015-01 was effective for the Company beginning January 1, 2016 and has not had a significant impact on the Company’s financial statements.

Accounting Standards Update (ASU) 2016-1, No. 2016-01, “Financial Instruments – Overall (Subtopic 825-10) - Recognition and Measurement of Financial Assets and Financial Liabilities”. ASU 2016-1, among other things, (i) requires equity investments, with certain exceptions, to be measured at fair value with changes in fair value recognized in net income, (ii) simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment, (iii) eliminates the requirement for public business entities to disclose the methods and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet, (iv) requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes, (v) requires an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments, (vi) requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset on the balance sheet or the accompanying notes to the financial statements and (viii) clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale. ASU 2016-1 is effective for the Company on January 1, 2018 and is not expected to have a significant impact on the Company’s financial statements.

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Accounting Standards Update (ASU) 2016-02, “Leases (Topic 842).” ASU 2016-02 will, among other things, require lessees to recognize a lease liability, which is a lessee‘s obligation to make lease payments arising from a lease, measured on a discounted basis; and a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. ASU 2016-02 does not significantly change lease accounting requirements applicable to lessors; however, certain changes were made to align, where necessary, lessor accounting with the lessee accounting model. ASU 2016-2 will be effective on January 1, 2019 and will require transition using a modified retrospective approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The Company is evaluating the potential impact of ASU 2016-02 on the Company’s financial statements.

Accounting Standards Update (ASU) 2016- 09, “Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting.” ASU 2016-09 will amend current guidance such that all excess tax benefits and tax deficiencies related to share-based payment awards will be recognized as income tax expense or benefit in the income statement during the period in which they occur. Additionally, excess tax benefits will be classified along with other income tax cash flows as an operating activity rather than a financing activity. ASU 2016-09 also provides that any entity can make an entity-wide accounting policy election to either estimate the number of awards that are expected to vest, which is the current requirement, or account for forfeitures when they occur. ASU 2016-09 will be effective January 1, 2017 and is not expected to have a significant impact on the Company’s financial statements.

Accounting Standards Update (ASU) No. 2016-13, “Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” ASU 2016-13 requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts and requires enhanced disclosures related to the significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. In addition, ASU 2016-13 amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. ASU 2016-13 will be effective on January 1, 2020. We are currently evaluating the potential impact of ASU 2016-13 on our financial statements.

NOTE 3. SECURITIES

A summary of the amortized cost and fair value of securities is presented below.

	June 30, 2016
(In thousands)	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Estimated Fair Value
Securities available for sale:
U.S. government agencies	$	9,417	$	108	$	22	$	9,503
Mortgage-backed securities		3,077		54		5		3,126
Total securities available for sale	$	12,494	$	162	$	27	$	12,629

Securities held to maturity:
Property Assessed Clean Energy investments	$	9,790	$	-	$	-	$	9,790
Securities, restricted:
Other	$	1,051	$	-	$	-	$	1,051

	December 31, 2015
(In thousands)	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Estimated Fair Value
Securities available for sale:
U.S. government agencies	$	9,155	$	70	$	63	$	9,162
Mortgage-backed securities		3,284		30		24		3,290
Total securities available for sale	$	12,439	$	100	$	87	$	12,452

Securities, restricted:
Other	$	1,046	$	-	$	-	$	1,046

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All mortgage-backed securities included in the above table were issued by U.S. government agencies, or U.S. government-sponsored agencies. Securities, restricted consist of Federal Reserve Bank of Dallas stock and Federal Home Loan Bank of Dallas stock, which are carried at cost.

At June 30, 2016 and December 31, 2015, securities with market value of $11.1 million and $10.8 million, respectively, were pledged against borrowed funds at the Federal Home Loan Bank of Dallas. At June 30, 2016 and December 31, 2015, securities with market values of $917,000 and $982,000, respectively, were pledged against trust deposit balances held at the Company’s insured depository subsidiary, T Bank, N.A. (the “Bank”). One security was pledged against borrowed funds at the Federal Reserve Bank of Dallas at June 30, 2016 and December 31, 2015, with a market value of $637,000 and $699,000, respectively. The Bank held Federal Reserve Bank of Dallas stock in the amount of $570,000 at June 30, 2016 and December 31, 2015. The Bank also held Federal Home Loan Bank of Dallas stock in the amount of $481,000 and $476,000 at June 30, 2016 and December 31, 2015, respectively.

The amortized cost and estimated fair value of securities at June 30, 2016 are presented below by contractual maturity. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations. Residential mortgage-backed securities and property assessed clean energy securities are shown separately since they are not due at a single maturity date.

	Available for Sale				Held to Maturity
(In thousands)	Amortized Cost		Estimated Fair Value		Amortized Cost		Estimated Fair Value
Due after one year through five years	$	1,028	$	1,032	$	427	$	427
Due after five years through ten years		4,796		4,852		1,370		1,370
Due after ten years		3,593		3,619		7,993		7,993
Mortgage-backed securities		3,077		3,126		-		-
Total	$	12,494	$	12,629	$	9,790	$	9,790

The table below indicates the length of time individual investment securities and mortgage-backed securities have been in a continuous loss position at June 30, 2016:

	Less than 12 months				12 months or longer				Total
(In thousands)	Estimated Fair Value		Unrealized Losses		Estimated Fair Value		Unrealized Losses		Estimated Fair Value		Unrealized Losses
Securities available for sale:
U.S. government agencies	$	3,979	$	18	$	368	$	4	$	4,347	$	22
Mortgage-backed securities		480		5		-		-		480		5
Total	$	4,459	$	23	$	368	$	4	$	4,827	$	27

NOTE 4. LOANS

Major classifications of loans held for investment are as follows:

(In thousands)	June 30, 2016			December 31, 2015
Commercial and industrial	$	76,672		$	71,562
Consumer installment		3,883			2,049
Real estate – residential		6,387			6,851
Real estate – commercial		18,480			16,736
Real estate – construction and land		9,705			10,322
SBA:
SBA 7(a) unguaranteed portion		27,286			22,596
SBA 504		6,284			6,349
USDA		2,765			2,787
Other		242			1,542
Gross Loans		151,704			140,794
Less:
Allowance for loan losses		1,678			1,564
Deferred loan costs, net of fees		(592	)		(292	)
Discount on loans		1,872			1,874
Net loans	$	148,746		$	137,648

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The Company periodically sells the guaranteed portion of selected Small Business Administration (“SBA”) and United States Department of Agriculture (“USDA”) loans into the secondary market, on a servicing-retained basis. The Company retains the unguaranteed portion of these loans. In calculating gain on the sale of these loans, the Company performs an allocation based on the relative fair values of the sold portion and retained portion of the loan. The Company’s assumptions are validated by reference to external market information.

During the three and six months ended June 30, 2016, the Company originated $8.2 million and $16.7 million, respectively, of SBA and USDA loans. The guaranteed portions of the loans are recorded as loans held for sale. The Company had $13.8 million and $6.4 million of SBA and USDA loans held for sale as of June 30, 2016 and December 31, 2015, respectively. During the second quarter of 2016, the Company sold $3.7 million of SBA loans, recognizing a gain on sale of loans of $342,000, and recorded a servicing asset at fair value of $112,000.

Loan Origination/Risk Management.

The Company maintains written loan origination policy, procedures, and processes that address credit quality at several levels including individual loan level, loan type, and loan portfolio levels.

Commercial and industrial loans, which are predominantly loans to dentists, are underwritten based on historical and projected income of the business and individual borrowers and guarantors. The Company utilizes a comprehensive global debt service coverage analysis to determine debt service coverage ratios. This analysis compares global cash flow of the borrowers and guarantors on an individual credit to existing and proposed debt after consideration of personal and business related other expenses. Collateral is generally a lien on all available assets of the business borrower, including intangible assets. Creditworthiness of individual borrowers and guarantors is established through the use of credit reports and credit scores.

Consumer loans are evaluated on the basis of credit worthiness as established through the use of credit reports and credit scores. Additional credit quality indicators include borrower debt to income ratios based on verifiable income sources.

Real estate mortgage loans are evaluated based on collateral value as well as global debt service coverage ratios based on historical and projected income from all related sources including the collateral property, the borrower, and all guarantors where applicable.

Small Business Administration Lending - The Company originates SBA loans that are sometimes sold into the secondary market. The Company continues to service these loans after sale and is required under the SBA programs to retain specified amounts. The two primary SBA loan programs that the Company offers are the basic 7(a) Loan Guaranty (“7(a)”) program and the Certified Development Company (“CDC”), a Section 504 (“504”) program.

The 7(a) program serves as the SBA’s primary business loan program to help qualified small businesses obtain financing when they might not be eligible for business loans through normal lending channels. Loan proceeds under this program can be used for most business purposes, including working capital, machinery and equipment, furniture and fixtures, land and building (including purchase, renovation and new construction), leasehold improvements and debt refinancing. Loan maturity is generally up to 10 years for working capital and up to 25 years for fixed assets. The 7(a) loan is approved and funded by a qualified lender, guaranteed by the SBA and subject to applicable regulations. In general, the SBA guarantees up to 75% of the loan amount. The Company is required by the SBA to retain a contractual minimum of 5% on all SBA 7(a) program loans. The SBA 7(a) program loans are generally variable interest rate loans. Gains recognized by the Company on the sales of the guaranteed portion of these loans and the ongoing servicing income received are significant revenue sources for the Company. The servicing spread is 1% on the majority of SBA 7(a) program loans.

The 504 program is an economic development-financing program providing long-term, low down payment loans to expanding businesses. Typically, a 504 project includes a loan secured from a private-sector lender with a senior lien, a loan secured from a CDC (funded by a 100% SBA-guaranteed debenture) with a junior lien covering up to 40% of the total cost, and a contribution of at least 10% equity from the borrower. Debenture limits are $5.0 million for regular 504 loans and $5.5 million for those 504 loans that meet a public policy goal.

The SBA has designated the Bank as a “Preferred Lender.” As a Preferred Lender, the Bank has been delegated loan approval, closing and most servicing and liquidation authority responsibility from the SBA.

The Company also offers Business & Industry (“B&I”) program loans through the USDA. These loans are similar to the SBA product, except they are guaranteed by the USDA. The guaranteed amount is generally 80% on loan amounts up to $5.0 million. B&I loans are made to businesses in designated rural areas and are generally larger loans to larger businesses than the SBA 7(a) loans. Similar to the SBA 7(a) product, they can be sold into the secondary market. These loans can be utilized for rural commercial real estate and equipment. The loans can be up to 30 years or 360 months and the rates can be fixed or variable.

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Construction and land development loans are evaluated based on the borrower’s and guarantor’s creditworthiness, past experience in the industry, track record and experience with the type of project being considered, and other factors. Collateral value is determined generally by independent appraisal utilizing multiple approaches to determine value based on property type.

The Company generally does not make loans secured by collateral related to the oil and gas industry sector. As of June 30, 2016, the Company had no loans to any business whose principal activity is directly in, or closely related to, the oil and gas industry, except one such loan which is fully secured by cash collateral.

For all loan types, including loans acquired through purchase participations, the Company establishes guidelines for its underwriting criteria, including collateral coverage ratios, global debt service coverage ratios, and maximum amortization or loan maturity terms.

At the portfolio level, the Company monitors concentrations of loans based on several criteria including loan type, collateral type, industry, geography, and other factors. The Company also performs periodic market research and economic analysis at a local geographic and national level. Based on this research, the Company may from time to time change the minimum or benchmark underwriting criteria applied to the above loan types.

The activity in the allowance for loan losses by portfolio segment for the three and six months ended June 30, 2016 and 2015 is presented below. Management has evaluated the adequacy of the allowance for loan losses by estimating the losses in various categories of the loan portfolio.

(In thousands)	Commercial and Industrial			Consumer Installment			Real Estate Residential		Real Estate Commercial			Real Estate Construction and Land			SBA			USDA		Other			Unallocated			Total
Three months ended:
June 30, 2016
Beginning Balance	$	1,022		$	23		$	73	$	203		$	130		$	227		$	-	$	16		$	-		$	1,694
Provision (credit) for loan losses		283			(3	)		8		31			(15	)		28			-		(13	)		-			319
Charge-offs		(344	)		-			-		-			-			-			-		-			-			(344	)
Recoveries		-			-			-		-			9			-			-		-			-			9
Net (charge-offs) recoveries		(344	)		-			-		-			9			-			-		-			-			(335	)
Ending balance	$	961		$	20		$	81	$	234		$	124		$	255		$	-	$	3		$	-		$	1,678

June 30, 2015
Beginning Balance	$	1,051		$	29		$	48	$	276		$	104		$	78		$	-	$	28		$	84		$	1,698
Provision (credit) for loan losses		(77	)		(6	)		38		(18	)		(4	)		145			-		(28	)		(50	)		-
Charge-offs		-			-			-		-			-			(141	)		-		-			-			(141	)
Recoveries		5			-			-		-			1			-			-		-			-			6
Net (charge-offs) recoveries		5			-			-		-			1			(141	)		-		-			-			(135	)
Ending balance	$	979		$	23		$	86	$	258		$	101		$	82		$	-	$	-		$	34		$	1,563

(In thousands)	Commercial and Industrial			Consumer Installment			Real Estate Residential			Real Estate Commercial			Real Estate Construction and Land			SBA			USDA			Other			Unallocated		Total
Six months ended:
June 30, 2016
Beginning Balance	$	878		$	26		$	86		$	210		$	130		$	214		$	-		$	20		$	-	$	1,564
Provision (credit) for loan losses		423			(6	)		(5	)		24			(16	)		41			-			(17	)		-		444
Charge-offs		(344	)		-			-			-			-			-			-			-			-		(344	)
Recoveries		4			-			-			-			10			-			-			-			-		14
Net (charge-offs) recoveries		(340	)		-			-			-			10			-			-			-			-		(330	)
Ending balance	$	961		$	20		$	81		$	234		$	124		$	255		$	-		$	3		$	-	$	1,678

June 30, 2015
Beginning Balance	$	918		$	20		$	25		$	265		$	69		$	344		$	41		$	13		$	-	$	1,695
Provision (credit) for loan losses		55			3			61			(7	)		29			(121	)		(41	)		(13	)		34		-
Charge-offs		-			-			-			-			-			(141	)		-			-			-		(141	)
Recoveries		6			-			-			-			3			-			-			-			-		9
Net (charge-offs) recoveries		6			-			-			-			3			(141	)		-			-			-		(132	)
Ending balance	$	979		$	23		$	86		$	258		$	101		$	82		$	-		$	-		$	34	$	1,563

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The Company’s allowance for loan losses as of June 30, 2016 and December, 31, 2015 by portfolio segment and detailed on the basis of the Company’s impairment methodology was as follows:

(In thousands)	Commercial and Industrial		Consumer Installment		Real Estate Residential		Real Estate Commercial		Real Estate Construction and Land		SBA		USDA		Other		Total
June 30, 2016
Loans individually evaluated for impairment	$	22	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	22
Loans collectively evaluated for impairment		939		20		81		234		124		255		-		3		1,656
Ending balance	$	961	$	20	$	81	$	234	$	124	$	255	$	-	$	3	$	1,678

December 31, 2015
Loans individually evaluated for impairment	$	26	$	-	$	-	$	-	$	-	$	-	$	-	$	-	$	26
Loans collectively evaluated for impairment		852		26		86		210		130		214		-		20		1,538
Ending balance	$	878	$	26	$	86	$	210	$	130	$	214	$	-	$	20	$	1,564

The Company’s recorded investment in loans as of June 30, 2016 and December 31, 2015 related to each balance in the allowance for loan losses by portfolio segment and detailed on the basis of the Company’s impairment methodology was as follows:

(In thousands)	Commercial and Industrial		Consumer Installment		Real Estate Residential		Real Estate Commercial		Real Estate Construction and Land		SBA		USDA		Other		Total
June 30, 2016
Loans individually evaluated for impairment	$	374	$	-	$	-	$	129	$	-	$	-	$	-	$	-	$	503
Loans collectively evaluated for impairment		76,298		3,883		6,387		18,351		9,705		33,570		2,765		242		151,201
Ending balance	$	76,672	$	3,883	$	6,387	$	18,480	$	9,705	$	33,570	$	2,765	$	242	$	151,704

December 31, 2015
Loans individually evaluated for impairment	$	678	$	-	$	-	$	137	$	-	$	477	$	-	$	-	$	1,292
Loans collectively evaluated for impairment		70,884		2,049		6,851		16,599		10,322		28,468		2,787		1,542		139,502
Ending balance	$	71,562	$	2,049	$	6,851	$	16,736	$	10,322	$	28,945	$	2,787	$	1,542	$	140,794

At June 30, 2016 and December 31, 2015, there were $60,000 and $443,000, respectively, of commercial and industrial nonaccrual loans, net of government guarantees, and there were no loans contractually delinquent over 90 days and still accruing interest. The decrease was primarily due to a commercial and industrial loan charge off totaling $344,000. During the second quarter of 2015, the Company repurchased the guaranteed portion of a defaulted SBA loan with a balance of $477,000. During the second quarter of 2016, the SBA reimbursed the Company for this amount.

Loans are considered impaired when, based on current information and events, it is probable the Company will be unable to collect all amounts due in accordance with the original contractual terms of the loan agreement, including scheduled principal and interest payments. If a loan is impaired, a specific valuation allowance is allocated, if necessary, so that the loan is reported net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Interest payments on impaired loans are typically applied to principal unless collectability of the principal amount is reasonably assured, in which case interest is recognized on a cash basis. Impaired loans, or portions thereof, are charged off when deemed uncollectible.

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The Company’s impaired loans and related allowance are summarized in the following table:

	Unpaid		Recorded		Recorded
	Contractual		Investment		Investment		Total				Average			Interest
	Principal		With No		With		Recorded		Related		Recorded			Income
(In thousands)	Balance		Allowance		Allowance		Investment		Allowance		Investment			Recognized
June 30, 2016												Six Months Ended
Commercial and industrial	$	486	$	14	$	360	$	374	$	22		$	689	$	12
Real estate – commercial		129		129		-		129		-			134		3
Total	$	615	$	143	$	360	$	503	$	22		$	823	$	15

December 31, 2015											Year Ended
Commercial and industrial	$	908	$	-	$	678	$	678	$	26		$	1,431	$	73
Real estate – commercial		137		137		-		137		-			146		7
SBA		477		477		-		477		-			159		-
Total	$	1,522	$	614	$	678	$	1,292	$	26		$	1,736	$	80

Interest income is recognized on impaired loans unless collections of the remaining recorded investment are placed on nonaccrual, at which time we record payments received as reductions of principal. Interest that would have been recognized for the six months ended June 30, 2016 and 2015 on non-accrual loans if performed in accordance with their original contract terms was not significant.

Restructured loans are considered “troubled debt restructurings” if due to the borrower’s financial difficulties, we have granted a concession that we would not otherwise consider. This may include a transfer of real estate or other assets from the borrower, a modification of loan terms, or a combination of the two. Modification of loan terms may include interest rate reductions below market interest rates, principal forgiveness, restructuring amortization schedules, reductions in collateral and other actions intended to minimize potential losses.

At June 30, 2016, there was one commercial and industrial loan with a balance of $14,000 modified as a troubled debt restructuring. The loan was restructured with a pre-modification balance of $16,000 during the three months ended June 30, 2016. The Company had no commitments to lend additional funds for this loan. The modification included an extension of maturity date and reduction of payment amount. At June 30, 2015, there was one commercial and industrial loan totaling $441,000 that had been modified as a troubled debt restructuring. This loan defaulted and the outstanding balance of $344,000 was charged off during the three months ended June 30, 2016. There were no new troubled debt restructurings during the three and six months ended June 30, 2015.

As part of the on-going monitoring of the credit quality of the Company’s loan portfolio, management tracks certain credit quality indicators, including internal credit risk based on past experiences as well as external statistics and factors. Loans are graded in one of six categories: (i) pass, (ii) pass-watch, (iii) special mention, (iv) substandard, (v) doubtful, or (vi) loss. Loans graded as loss are charged-off.

The classifications of loans reflect a judgment about the risks of default and loss associated with the loan. The Company reviews the ratings on credits quarterly. Ratings are adjusted to reflect the degree of risk and loss that is felt to be inherent in each credit. The Company’s methodology is structured so that specific allocations are increased in accordance with deterioration in credit quality (and a corresponding increase in risk and loss) or decreased in accordance with improvement in credit quality (and a corresponding decrease in risk and loss).

Credits rated pass are acceptable loans, appropriately underwritten, bearing an ordinary risk of loss to the Company. Loans in this category are loans to quality borrowers with financial statements presenting a good primary source as well as an adequate secondary source of repayment.

Credits rated pass-watch loans have been determined to require enhanced monitoring for potential weaknesses which require further investigation. They have no significant delinquency in the past 12 months. This rating causes the loan to be actively monitored with greater frequency than pass loans and allows appropriate downgrade transition if verifiable adverse events are confirmed. This category may also include loans that have improved in credit quality from special mention but are not yet considered pass loans.

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Credits rated special mention show clear signs of financial weaknesses or deterioration in credit worthiness, however, such concerns are not so pronounced that the Company generally expects to experience significant loss within the short-term. Such credits typically maintain the ability to perform within standard credit terms and credit exposure is not as prominent as credits rated more harshly.

Credits rated substandard are those in which the normal repayment of principal and interest may be, or has been, jeopardized by reason of adverse trends or developments of a financial, managerial, economic or political nature, or important weaknesses exist in collateral. A protracted workout on these credits is a distinct possibility. Prompt corrective action is therefore required to strengthen the Company’s position, and/or to reduce exposure and to assure that adequate remedial measures are taken by the borrower. Credit exposure becomes more likely in such credits and an evaluation of the secondary support to the credit is performed.

Credits rated doubtful are those in which full collection of principal appears highly questionable, and which some degree of loss is anticipated, even though the ultimate amount of loss may not yet be certain and/or other factors exist which could affect collection of debt. Based upon available information, positive action by the Company is required to avert or minimize loss.

Loans classified loss are considered uncollectible and of such little value that their continuance as bankable assets is not warranted. This classification does not mean that the loan has absolutely no recovery or salvage value, but rather that it is not practical or desirable to defer writing off this asset even though partial recovery may be affected in the future.

The following summarizes the Company’s internal ratings of its loans:

(In thousands)	Pass		Pass- Watch		Special Mention		Substandard		Doubtful		Total
June 30, 2016
Commercial and industrial	$	76,090	$	314	$	-	$	268	$	-	$	76,672
Consumer installment		3,883		-		-		-		-		3,883
Real estate – residential		6,387		-		-		-		-		6,387
Real estate – commercial		18,351		-		-		129		-		18,480
Real estate – construction and land		9,007		-		698		-		-		9,705
SBA		33,504		-		66		-		-		33,570
USDA		2,765		-		-		-		-		2,765
Other		242		-		-		-		-		242
Total	$	150,229	$	314	$	764	$	397	$	-	$	151,704

December 31, 2015
Commercial and industrial	$	70,539	$	-	$	345	$	678	$	-	$	71,562
Consumer installment		2,049		-		-		-		-		2,049
Real estate – residential		6,851		-		-		-		-		6,851
Real estate – commercial		16,599		-		-		137		-		16,736
Real estate – construction and land		9,607		-		715		-		-		10,322
SBA		28,468		-		-		477		-		28,945
USDA		2,787		-		-		-		-		2,787
Other		1,542		-		-		-		-		1,542
Total	$	138,442	$	-	$	1,060	$	1,292	$	-	$	140,794

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Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. The Company’s past due loans are as follows:

	30-89 Days		Greater Than		Total		Total		Total		Days Past Due
(In thousands)	Past Due		90 Days		Past Due		Current		Loans		Still Accruing
June 30, 2016
Commercial and industrial	$	-	$	-	$	-	$	76,672	$	76,672	$	-
Consumer installment		-		-		-		3,883		3,883		-
Real estate – residential		-		-		-		6,387		6,387		-
Real estate – commercial		-		-		-		18,480		18,480		-
Real estate – construction and land		-		-		-		9,705		9,705		-
SBA		-		-		-		33,570		33,570		-
USDA		-		-		-		2,765		2,765		-
Other		-		-		-		242		242		-
Total	$	-	$	-	$	-	$	151,704	$	151,704	$	-

December 31, 2015
Commercial and industrial	$	555	$	-	$	555	$	71,007	$	71,562	$	-
Consumer installment		-		-		-		2,049		2,049		-
Real estate – residential		-		-		-		6,851		6,851		-
Real estate – commercial		-		-		-		16,736		16,736		-
Real estate – construction and land		-		-		-		10,322		10,322		-
SBA		-		477		477		28,468		28,945		-
USDA		-		-		-		2,787		2,787		-
Other		-		-		-		1,542		1,542		-
Total	$	555	$	477	$	1,032	$	139,762	$	140,794	$	-

NOTE 5. RELATED PARTIES

Certain directors and officers of the Company have depository accounts with the Bank. None of those deposit accounts have terms more favorable than those available to any other depositor. No directors or officers have loans with the Company or the Bank.

The Company purchases corporate insurance and employee benefit insurance through insurance agencies in which one of their principals are also a director of the Company. Such transactions are made in the ordinary course of business and made on substantially the same terms as those prevailing with other persons.

NOTE 6. BANK PREMISES AND EQUIPMENT

The original cost and related accumulated depreciation at June 30, 2016 and December 31, 2015 were as follows:

(In thousands)	June 30, 2016		December 31, 2015
Land	$	676	$	676
Building		1,279		1,279
Building improvement		2,493		2,493
Furniture and equipment		859		1,173
Leasehold improvements		159		159
Construction in progress		73		-
		5,539		5,780
Less: accumulated depreciation		1,077		1,283
Balance at end of period	$	4,462	$	4,497

Furniture and equipment with original cost of $316,000 and book value of $2,500, were disposed of during the three months ended June 30, 2016. None of the assets that were disposed were sold, and thus there was no cash transaction involved.

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NOTE 7. OTHER ASSETS

Other assets consisted of the following at June 30, 2016 and December 31, 2015:

(In thousands)	June 30, 2016		December 31, 2015
Loan servicing rights	$	1,588	$	1,518
Accounts receivable – trust fees		1,067		1,028
Accrued interest receivable		673		504
Prepaid assets		317		387
Federal income tax receivable		145		-
Other		314		275
Total	$	4,104	$	3,712

For the three and six months ended June 30, 2016, the Company sold $3.7 million and $9.1 million, respectively, of SBA 7(a) program loans, and recorded a loan servicing asset of $112,000 and $277,000, respectively. The Company has elected to use the amortizing method for the treatment of servicing assets. Amortization expense for the three and six months ended June 30, 2016 was $91,000 and $207,000, respectively. In the event future prepayments exceed management’s estimates and future expected cash flows are inadequate to cover the servicing asset, impairment is recognized.

NOTE 8. DEPOSITS

Time deposits of $250,000 and over totaled $22.9 million and $22.5 million at June 30, 2016 and December 31, 2015, respectively.

Deposits are summarized as follows:

(In thousands)	As of June 30, 2016				As of December 31, 2015
Non-interest bearing demand	$	26,937	16	%	$	24,138	18	%
Interest-bearing demand (NOW)		6,145	4			3,283	2
Money market accounts		36,680	22			33,474	24
Savings accounts		5,973	3			5,535	4
Time deposits $100,000 and over		89,902	53			66,538	49
Time deposits under $100,000		3,833	2			4,067	3
Total	$	169,470	100	%	$	137,035	100	%

At June 30, 2016, the scheduled maturities of time deposits were as follows:

(In thousands)
2016	$	31,665
2017		41,350
2018		12,397
2019		7,512
2020		436
2021		375
Total	$	93,735

NOTE 9. BORROWED FUNDS

The Company had borrowed funds of $6.0 million and $10.0 million as of June 30, 2016 and December 31, 2015, respectively. The Company had one outstanding advance for $6.0 million at June 30, 2016, with a fixed interest rate of 0.49% and maturity date of July 1, 2016. The advance was renewed at a fixed interest rate of 0.61% and maturity date of July 5, 2016. As of June 30, 2016, the Company has a blanket lien credit line with the Federal Home Loan Bank of Dallas with borrowing capacity of $21.2 million secured by commercial loans and securities with collateral values of $10.3 million and $10.9 million, respectively. The Company had one outstanding advance for $10.0 million at December 31, 2015, with a fixed interest rate of 0.31% and maturity date of January 4, 2016. The advance was renewed at a fixed interest rate of 0.38% and maturity date of January 5, 2016. At maturity, we determine our borrowing needs and renew accordingly at varying terms ranging from one to 30 days.

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The Company also has a credit line with the Federal Reserve Bank of Dallas with borrowing capacity of $19.1 million as of June 30, 2016, secured by commercial loans and securities with collateral value of $18.5 million and $62,000, respectively. There were no outstanding borrowings at June 30, 2016 or December 31, 2015.

NOTE 10. OTHER LIABILITIES

The following comprised other liabilities at June 30, 2016 and December 31, 2015:

(In thousands)	June 30, 2016		December 31, 2015
Trust advisor fees payable	$	1,595	$	1,487
Accounts payable		388		-
Federal income tax payable		-		546
Incentive compensation		221		295
Data processing		98		81
Audit fees		95		-
Franchise & property taxes		45		8
Interest payable		44		24
Other accruals		259		243
Total	$	2,745	$	2,684

NOTE 11. INCOME TAXES

Income tax expense for the three months ended June 30, 2016 and 2015 was $280,000 and $430,000, respectively. The Company’s effective income tax rate was 35.6% and 30.5% for the three months ended June 30, 2016 and 2015, respectively. Income tax expense for the six months ended June 30, 2016 and 2015 was $705,000 and $815,000, respectively. The Company’s effective income tax rate was 35.3% and 32.3% for the six months ended June 30, 2016 and 2015, respectively. Projections for continued levels of profitability will be reviewed quarterly and any necessary adjustments to the deferred tax assets will be recognized in the provision or benefit for income taxes.

Net deferred tax assets totaled $483,000 at June 30, 2016 and $527,000 at December 31, 2015. No valuation allowance was recorded against deferred tax assets at June 30, 2016 or December 31, 2015, as management believes it is more likely than not that all of the deferred tax assets will be realized because they were supported by the Company’s earnings in prior years. Projections for continued levels of profitability will be reviewed quarterly and any necessary adjustments to the deferred tax assets will be recognized in the provision or benefit for income taxes.

NOTE 12. EMPLOYEE BENEFITS

The Company has a retirement savings 401(k) plan covering substantially all employees. Employees may contribute up to 6% of their compensation with the Company matching 100% of the employee’s contribution on the first 1% of the employee’s compensation and 50% of the employee’s contribution on the next 5% of the employee’s compensation. Employer contributions charged to expense for the three months ended June 30, 2016 and 2015 totaled $36,000 and $41,000, respectively. Employer contributions charged to expense for the six months ended June 30, 2016 and 2015 totaled $74,000 and $71,000, respectively.

NOTE 13. STOCK AND COMPENSATION PLANS

At June 30, 2016, the Company had three stock-based compensation plans (the 2005 Stock Incentive Plan, the 2015 Stock Incentive Plan, and the 2014 Non-employee Directors’ Common Stock Plan). The Company accounts for stock options in accordance with FASB ASC Topic 718. Under this method, compensation cost for all share-based payments granted are recorded based on the grant-date fair value estimated.

2005 Stock Incentive Plan

The 2005 Plan is administered by the Board of Directors and had a term of 10 years. The 2005 Stock Incentive Plan expired during the third quarter of 2015 and therefore no additional awards may be issued under this plan.

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As of June 30, 2016, options to purchase a total of 87,000 shares of common stock were outstanding with a weighted average exercise price of $6.84. These options vest through March 2019. As of December 31, 2015, options to purchase a total of 102,000 shares of common stock were outstanding with a weighted average exercise price of $7.38. Outstanding stock options of 62,000 were considered in the diluted earnings per share computations for the three and six months ended June 30, 2016. The remaining 25,000 outstanding options at June 30, 2016 were not considered in the per share computation because their effect was anti-dilutive. Outstanding stock options of 19,000 were considered in the diluted earnings per share computations for the three and six months ended June 30, 2015. The remaining 213,000 outstanding stock options at June 30, 2015 were not considered in the per share computation because their effect was anti-dilutive. During the third quarter of 2015, a total of 131,000 of these outstanding stock options expired. There were no stock options exercised during the three and six months ended June 30, 2016.

The Company recorded $6,000 and $7,000 in compensation expense for the three months ended June 30, 2016 and 2015, respectively, and $13,000 and $14,000 for the six months ended June 30, 2016 and 2015, respectively, in connection with the 2005 Plan. As of June 30 2016, there was $72,000 of total unrecognized compensation cost related to the non-vested equity-based compensation awards expected to vest, with an average vesting period of 2.7 years.

The following is a summary of activity in the Plan for the six months ended June 30, 2016:

	Number of Shares Underlying Options		Weighted Average Exercise Prices
Outstanding at beginning of the period		102,000	$	7.38
Exercised		-		-
Expired / forfeited		15,000		-
Outstanding at end of period		87,000	$	6.84
Exercisable at end of period		68,400	$	7.34

The weighted average remaining contractual life of options outstanding at June 30, 2016 was 4.3 years.

Aggregate intrinsic value of the outstanding stock options and exercisable stock options at June 30, 2016, was $176,000 and $136,000, respectively. Aggregate intrinsic value of the outstanding stock options and exercisable stock options at December 31, 2015 was $163,000 and $115,000, respectively. Aggregate intrinsic value represents the difference between the Company’s closing stock price on the last trading day of the period, which was $7.21 and $7.00 at June 30, 2016 and December 31, 2015, respectively, and the exercise price, multiplied by the number of options outstanding.

2015 Stock Incentive Plan

The 2015 Stock Incentive Plan (the “2015 Plan”) authorizes the granting of options to purchase up to 270,000 shares of common stock of the Company to employees of the Company and its subsidiaries. The 2015 Plan is administered by the Board of Directors and has a term of 10 years.

As of June 30, 2016 and December 31, 2015, options to purchase a total of 180,000 shares of common stock were issued and outstanding with a weighted average exercise price of $7.15. These options vest through October 2025. The outstanding stock options were not considered in the per share computation for the three and six months ended June 30, 2016 because their effect was anti-dilutive.

For the three and six months ended June 30, 2016, the Company recorded $19,000 and $38,000, respectively, in compensation expense in connection with the 2015 Plan. As of June 30, 2016, there was $327,000 of total unrecognized compensation cost related to the non-vested equity-based compensation awards expected to vest, with an average vesting period of 4.3 years.

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The following is a summary of activity in the 2015 Plan for the six months ended June 30, 2016:

	Number of Shares Underlying Options		Weighted Average Exercise Prices		Weighted Average Contractual Life in Years
Outstanding at beginning of the year		180,000	$	7.15
Granted		-		-
Exercised		-		-
Forfeited		-		-
Outstanding at end of period		180,000		7.15		9.3
Exercisable at end of period		-	$	-
Available for grant at end of period		90,000

Aggregate intrinsic value of the outstanding stock options and exercisable stock options at June 30, 2016, was $11,000.There were no exercisable stock options at June 30, 2016.

2014 Non-employee Directors’ Common Stock Plan

In December 2014, the Board of Directors approved the 2014 Non-employee Directors’ Common Stock Plan (the “2014 Plan”). The 2014 Plan is intended to promote the best interests of the Company and its shareholders by providing shares of the Company’s common stock to each non-employee director, for his or her service as a director (“service shares”), which shares are intended to promote an increased personal interest in the welfare of the Company by those individuals who are primarily responsible for shaping the long-range plans of the Company.

The 2014 Plan is administered by the Board of Directors. The number of service shares issuable under this plan shall not exceed 100,000. On June 22, 2016, the Company granted 13,750 service shares to the non-employee directors. The grant date fair value was $7.05 per share, resulting in stock compensation expense of approximately $97,000.

NOTE 14. COMMITMENTS AND CONTINGENCIES

The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the accompanying consolidated balance sheets. The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instruments for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.

The following table summarizes loan commitments as of June 30, 2016 and December 31, 2015:

(In thousands)	June 30, 2016		December 31, 2015
Undisbursed loan commitments	$	21,680	$	18,740
Standby letters of credit		10		10
	$	21,690	$	18,750

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The Company has one non-cancelable office lease agreement that expires in January 2017. The Company does not occupy this space, and receives rental payments under a sublease agreement that expires on the same date as the office lease. The Company has no plans to renew the lease and sublease. The Company also leases various pieces of office equipment under short-term agreements. Lease expense for the six months ended June 30, 2016 and 2015 was $35,000. Future minimum lease payments due under non-cancelable operating leases at June 30, 2016 were as follows:

(In thousands)
2016	$	35
2017		6
	$	41

Aggregate future minimum rentals to be received under non-cancelable subleases at June 30, 2016, were $37,000.

In addition, under an assignment and assumption agreement, the Company receives rental income from eight tenants in the building it is headquartered in, for office space the Company does not occupy. Rental income for the six months ended June 30, 2016 and 2015 was $155,000 and $154,000, respectively. Aggregate future minimum rentals to be received under non-cancelable leases at June 30, 2016 were $981,000 through 2023.

The Company is involved in various regulatory inspections, inquiries, investigations and proceedings, and litigation matters that arise from time to time in the ordinary course of business. The process of resolving matters through litigation or other means is inherently uncertain, and it is possible that an unfavorable resolution of these matters will adversely affect the Company, its results of operations, financial condition and cash flows. The Company’s regular practice is to expense legal fees as services are rendered in connection with legal matters and to accrue for liabilities when payment is probable and the amount is reasonably estimable.

Employment Agreements

The Company has entered into employment agreements with four officers of the Company, Steve Jones, Craig Barnes, Ken Bramlage and Patrick Howard. The agreements are for “at will” employment and may be terminated at any time in accordance with the terms of such employment agreements.

NOTE 15. REGULATORY MATTERS

The Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Bank’s and, accordingly, the Company’s business, results of operations and financial condition. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities and certain off-balance-sheet items as calculated under GAAP, regulatory reporting requirements, and regulatory capital standards. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Furthermore, the Bank’s regulators could require adjustments to regulatory capital not reflected in these financial statements.

Quantitative measures established by regulatory capital standards to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and tier 1 capital to risk-weighted assets, common equity Tier 1 capital to total risk-weighted assets, and of tier 1 capital to average assets. To be categorized as well-capitalized under the prompt corrective action framework, the Bank must maintain minimum total risk-based capital, tier 1 risk-based capital, common equity tier 1 risk-based capital and tier 1 leverage ratios as set forth in the table below.

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(In thousands)	Actual					Minimum Capital Required Under Basel III Requirements					To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
As of June 30, 2016
Total Capital (to Risk Weighted Assets)	$	29,284		16.88	%	$	14,963		8.625	%	$	17,348		10.00	%

Tier 1 Capital (to Risk Weighted Assets)		27,606		15.91			11,493		6.625			13,879		8.00

Common Equity Tier 1 (to Risk Weighted Assets)		27,606		15.91			8,891		5.125			11,276		6.50

Tier 1 Capital (to Average Assets)		27,606		13.92			7,936		4.00			9,920		5.00

As of December 31, 2015
Total Capital (to Risk Weighted Assets)	$	27,813		18.33	%	$	12,139		8.00	%	$	15,173		10.00	%

Tier 1 Capital (to Risk Weighted Assets)		26,249		17.30			9,104		6.00			12,139		8.00

Common Equity Tier 1 (to Risk Weighted Assets)		26,249		17.30			6,828		4.50			9,863		6.50

Tier 1 Capital (to Average Assets)		26,249		15.02			6,994		4.00			8,742		5.00

As of June 30, 2016, capital levels for the Bank exceeded the minimum requirements, including the capital conservation buffer, under the Basel III capital rules on a fully phased-in basis, as well as the minimum levels necessary to be considered “well capitalized.”

Banking regulations may limit the amount of dividends that may be paid. Approval by regulatory authorities is required if the effect of dividends declared would cause the regulatory capital of the Bank to fall below specified minimum levels. Approval is also required if dividends declared exceed the net profits for that year combined with the retained net profits for the preceding two years. At June 30, 2016, approximately $7.9 million was available for the declaration of dividends by the Bank to the Company without prior approval of regulatory agencies and still maintain its “well capitalized” status.

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NOTE 16. PARENT COMPANY CONDENSED FINANCIAL STATEMENTS

T BANCSHARES, INC.

CONDENSED BALANCE SHEETS

(Unaudited)

(In thousands)	June 30, 2016		December 31, 2015
ASSETS

Cash and due from banks	$	784	$	770
Accounts receivable		72		61
Investment in subsidiary		27,895		26,379

Total assets	$	28,751	$	27,210

LIABILITIES AND CAPITAL

Accounts payable		18		-

Capital		28,733		27,210

Total liabilities and capital	$	28,751	$	27,210

T BANCSHARES, INC.

CONDENSED STATEMENTS OF INCOME

(Unaudited)

	Three Months Ended June 30,						Six Months Ended June 30,
(In thousands)	2016			2015			2016			2015
Equity in income from subsidiary	$	628		$	1,039		$	1,436		$	1,779

Noninterest expense:
Professional and administrative		61			37			66			50
Stock based compensation		122			65			148			72
Total non-interest expenses		183			102			214			122
Income before income taxes		445			937			1,222			1,657
Income tax benefit		(62	)		(42	)		(73	)		(49	)
Net Income	$	507		$	979		$	1,295		$	1,706

T BANCSHARES, INC.

CONDENSED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

	Three Months Ended June 30,					Six Months Ended June 30,
(In thousands)	2016		2015			2016		2015
Net Income	$	507	$	979		$	1,295	$	1,706
Other comprehensive income:
Net unrealized gain (loss) on investment securities available-for-sale, before tax effect		45		(79	)		121		27
Tax effect		15		(27	)		41		9
Other comprehensive income (loss)		30		(52	)		80		18
Comprehensive income	$	537	$	927		$	1,375	$	1,724

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T BANCSHARES, INC.

CONDENSED STATEMENTS OF CASH FLOWS

(Unaudited)

	Six Months Ended June 30,
(In thousands)	2016			2015
Cash Flows from Operating Activities
Net income	$	1,295		$	1,706
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Equity in income of Bank		(1,436	)		(1,779	)
Stock based compensation		148			72
Net change in other assets		(11	)		(12	)
Net change in other liabilities		18			(28	)
Net cash provided by (used in) operating activities		14			(41	)

Cash Flows from Investing Activities		-			-

Cash Flows from Financing Activities		-			-

Net change in cash and cash equivalents		14			(41	)
Cash and cash equivalents at beginning of period		770			863

Cash and cash equivalents at end of period	$	784		$	822

NOTE 17. FAIR VALUE MEASUREMENTS

The fair value of an asset or liability is the price that would be received to sell that asset or paid to transfer that liability in an orderly transaction occurring in the principal market (or most advantageous market in the absence of a principal market) for such asset or liability. In estimating fair value, the Company utilizes valuation techniques that are consistent with the market approach, the income approach and/or the cost approach. Such valuation techniques are consistently applied. Inputs to valuation techniques include the assumptions that market participants would use in pricing an asset or liability. FASB ASC Topic 820 establishes a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:

Level 1 Inputs - Unadjusted quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.

Level 2 Inputs - Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These might include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (such as interest rates, volatilities, prepayment speeds, credit risks, etc.) or inputs that are derived principally from or corroborated by market data by correlation or other means.

Level 3 Inputs - Unobservable inputs for determining the fair values of assets or liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets or liabilities.

Where quoted market prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. If quoted market prices are not available, then fair values are estimated by using quoted prices of securities with similar characteristics or independent asset pricing services and pricing models, the inputs of which are market-based or independently sourced market parameters, including, but not limited to, yield curves, interest rates, volatilities, prepayments, defaults, cumulative loss projections and cash flows. Such securities are classified in Level 2 of the valuation hierarchy. In certain cases where Level 1 or Level 2 inputs are not available, securities are classified within Level 3 of the hierarchy. The Company has no securities in the Level 1 or Level 3 inputs.

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The following table summarizes financial assets measured at fair value on a recurring basis as of June 30, 2016 and December 31, 2015, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value:

(In thousands)	Level 1 Inputs		Level 2 Inputs		Level 3 Inputs		Total Fair Value
As of June 30, 2016
Securities available for sale:
U.S. government agencies	$	-	$	9,503	$	-	$	9,503
Mortgage-backed securities		-		3,126		-		3,126

As of December 31, 2015
Securities available for sale:
U.S. government agencies	$	-	$	9,162	$	-	$	9,162
Mortgage-backed securities		-		3,290		-		3,290

The Company considers transfers between the levels of the hierarchy to be recognized at the end of related reporting periods. From December 31, 2015 to June 30, 2016, no assets for which fair value is measured on a recurring basis transferred between any levels of the hierarchy.

Certain financial assets and financial liabilities are measured at fair value on a non-recurring basis; that is, the instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment). Financial assets measured at fair value on a non-recurring basis during the reported periods are discussed below.

At June 30, 2016, impaired loans with a carrying value of $360,000 were reduced by specific valuation allowances totaling $22,000, resulting in a net fair value of $338,000 based on Level 3 inputs. At December 31, 2015, impaired loans with a carrying value of $678,000 were reduced by specific valuation allowances totaling $26,000 resulting in a net fair value of $652,000, based on Level 3 inputs. The significant unobservable (Level 3) inputs used in the fair value measurement of impaired loans primarily relate to discounted cash flows using current market rates applied to the estimated life and credit risk.

The significant unobservable inputs (Level 3) used in the fair value measurement of collateral for collateral-dependent impaired loans primarily relate to the specialized discounting criteria applied to the borrower’s reported amount of collateral. The amount of the collateral discount depends upon the condition and marketability of the collateral, as well as other factors which may affect the collectability of the loan. As the Company’s primary objective in the event of default would be to liquidate the collateral to settle the outstanding balance of the loan, collateral that is less marketable would receive a larger discount. During the reported periods, there were no loans discounted for cash flows.

The significant unobservable inputs (Level 3) used in the fair value measurement of cash flow impaired loans relate to discounted cash flows models using current market rates applied to the estimated life of the loan and credit risk adjustments. Future cash flows are discounted using current interest rates for similar credit risks. During the reported periods, the cash flow discounts ranged from 1% to 44% for two cash flow impaired loans.

Our assessment of the significance of a particular input to the Level 3 fair value measurements in their entirety requires judgment and considers factors specific to the assets. It is reasonably possible that a change in the estimated fair value for instruments measured using Level 3 inputs could occur in the future.

Loans held for sale include the guaranteed portion of SBA loans and are reported at the lower of cost or estimated fair value. Fair value for SBA loans is based on market indications available in the market.

Non-financial assets measured at fair value on a non-recurring basis during the reported periods include other real estate owned (“OREO”) which, upon initial recognition, was re-measured and reported at fair value through a charge-off to the allowance for loan losses and certain foreclosed assets which, subsequent to their initial recognition, were re-measured at fair value through a write-down included in other non-interest expense. Regulatory guidelines require the Company to reevaluate the fair value of OREO on at least an annual basis. The fair value of foreclosed assets, upon initial recognition and impairment, was re-measured using Level 2 inputs based on observable market data. Estimated fair value of OREO is based on appraisals. Appraisers are selected from the list of approved appraisers maintained by management. For the six months ended June 30, 2016 and 2015, there were no re-measurements of OREO.

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The methods and assumptions used to estimate fair value of financial assets and financial liabilities that are not measured and reported at fair value on a recurring basis or non-recurring basis are described as follows:

Carrying amount is the estimated fair value for cash and cash equivalents, restricted securities, accrued interest receivable and accrued interest payable. The estimated fair value of demand and savings deposits is the carrying amount since rates are regularly adjusted to market rates and amounts are payable on demand. For borrowed funds and variable rate loans or deposits that re-price frequently and fully, the estimated fair value is the carrying amount. For fixed rate loans or deposits and for variable rate loans or deposits with infrequent re-pricing, fair value is based on discounted cash flows using current market rates applied to the estimated life and credit risk. For loans held for sale, the estimated fair value is based on market indications for similar assets in the active market. The estimated fair value of other financial instruments and off-balance-sheet loan commitments approximate cost and are not considered significant to this presentation.

In connection with the sale of $9.1 million in SBA guaranteed loans during the six months ended June 30, 2016, the Company added a servicing asset of $277,000 and amortized $207,000 using the amortization method for the treatment of servicing. SBA and USDA loan servicing assets do not trade in an active, open market with readily observable prices. Accordingly, fair value is estimated using a discounted cash flow model having significant inputs of discount rate, prepayment speed and default rate. Due to the nature of the valuation inputs, servicing rights are classified within Level 3 of the hierarchy. For the asset recorded during the six months ended June 30, 2016, the discount rate ranged from 7.3% to 8.6% and the combined prepayment and default rate ranged from 8.4% to 8.5%.

Carrying amount and estimated fair values of other financial instruments by level of valuation input were as follows:

	June 30, 2016
(In thousands)	Carrying Amount		Estimated Fair Value
Financial assets:
Level 1 inputs:
Cash and cash equivalents	$	9,801	$	9,801
Level 2 inputs:
Securities available for sale		12,629		12,629
Securities, restricted		1,051		1,051
Loans held for sale		13,789		15,096
Loans, net		148,746		149,197
Accrued interest receivable		673		673
Level 3 inputs:
Securities held to maturity		9,790		9,790
Servicing asset		1,588		1,588
Financial liabilities:
Level 1 inputs:
Non-interest bearing deposits		26,937		26,937
Level 2 inputs:
Interest bearing deposits		142,533		139,361
Borrowed funds		6,000		6,000
Accrued interest payable		44		44

	December 31, 2015
(In thousands)	Carrying Amount		Estimated Fair Value
Financial assets:
Level 1 inputs:
Cash and cash equivalents	$	8,710	$	8,710
Level 2 inputs:
Securities available for sale		12,452		12,452
Securities, restricted		1,046		1,046
Loans held for sale		6,365		6,925
Loans, net		137,648		138,419
Accrued interest receivable		504		504
Receivable for sold loans		1,972		1,972
Level 3 inputs:
Servicing asset		1,518		1,518
Financial liabilities:
Level 1 inputs:
Non-interest bearing deposits		24,138		24,908
Level 2 inputs:
Interest bearing deposits		112,897		112,141
Borrowed funds		10,000		10,000
Accrued interest payable		24		24

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis presents our consolidated financial condition as of June 30, 2016 and December 31, 2015, and our consolidated results of operations for the three and six months ended June 30, 2016 and 2015. The discussion should be read in conjunction with our financial statements and the notes related thereto in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the year ended December 31, 2015.

Statements contained in this report that are not purely historical are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), including our expectations, intentions, beliefs, or strategies regarding the future. These statements are often, but not always, made through the use of words or phrases such as “may,” “should,” “could,” “predict,” “potential,” “believe,” “will likely result,” “expect,” “anticipate,” “seek,” “estimate,” “intend,” “plan,” “projection,” “would” and “outlook,” and similar expressions. It is important to note that our actual results may differ materially from those in or implied by such forward-looking statements due to the factors discussed under the section entitled “Risk Factors,” in our Annual Report on Form 10-K for the year ended December 31, 2015, including the following:

if we are unable to implement our business plan and strategies, we will be hampered in our ability to develop business and serve our customers, which, in turn, could have an adverse effect on our financial performance;

we are subject to significant government regulation and legislation that increases the cost of doing business and inhibits our ability to compete including the potential impact of the Dodd-Frank Wall Street Reform and Consumer Protection Act, the Consumer Financial Protection Bureau and Basel III;

if we fail to retain our key employees, growth and profitability could be adversely affected;

if we fail to retain our trust customers, our non-interest income could be adversely affected;

we face substantial competition in our primary market area with respect to products and pricing;

if we fail to sustain attractive investment returns to our trust customers, our growth and profitability in our trust services could be adversely affected;

we have a significant dental industry loan concentration in which economic or regulatory changes could adversely affect the ability of those customers to fulfill their loan obligations;

	·	we compete in an industry that continually experiences technological change, and we may not be able to compete effectively with other banking institutions with greater resources;
	·	our dependence on internal computer systems and the technology of outside service providers, as well as the potential impacts of third-party security breaches, subjects us to potential business disruptions or financial losses resulting from deliberate attacks or unintentional events;
	·	the Bank’s current legally mandated lending limits are lower than those of our competitors, which may impair our ability to attract borrowers;

changes in governmental economic and monetary policies, the Internal Revenue Code and banking and credit regulations, as well as other factors, will affect the demand for loans and the ability of the Company to attract deposits;

changes in the general level of interest rates, inflation and other economic factors can affect the Company’s interest income by affecting the spread between interest-earning assets and interest-bearing liabilities;

changes in consumer spending, borrowing and savings habits;

changes in the Company’s liquidity position;

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natural disasters and adverse weather, acts of terrorism, an outbreak of hostilities or other international or domestic calamities, and other matters beyond our control;

our ability and intent to pay cash dividends;

our ability to raise additional capital on terms favorable to us or our ability to raise capital under terms which are not dilutive to existing shareholders; and

the beneficial ownership of a significant portion of our outstanding common stock by our directors and executive officers.

You should not place undue reliance on any such forward-looking statements. Any forward-looking statement reflects only information known to us as of the date on which it is made and we do not undertake any obligation to update any forward-looking statement or statements to reflect events or circumstances after the date on which such statement is made or to reflect the occurrence of unanticipated events, except as required by law. New factors emerge from time to time, and it is not possible for us to predict which will arise.

Overview

Introduction

The Company is a bank holding company headquartered in Dallas, Texas, offering a broad array of banking services through the Bank. Our principal banking markets include Dallas, Tarrant, Denton, Collin and Rockwall counties which encompass an area commonly referred to as the Dallas/Fort Worth Metroplex. We currently operate through a main office located at 16200 Dallas Parkway, Dallas, Texas. The Bank is a Preferred Lender Participant (“PLP”) in the SBA program.

We were incorporated under the laws of the State of Texas on December 23, 2002 to organize and serve as the holding company for the Bank. The Bank opened for business on November 2, 2004.

Results of Operations

Key Performance Indicators at June 30, 2016

The following were key indicators of our performance and results of operations for the three and six months ended June 30, 2016:

total assets were $206.9 million at the end of the second quarter of 2016, representing an increase of $30.0 million, or 17.0%, from $176.9 million at the end of 2015;

	·	total loans held for investment, net of allowance for loan losses and deferred loan costs, increased $11.1 million, or 7.5%, to $148.7 million at the end of the second quarter of 2016, compared to $137.6 million at the end of 2015;
	·	total loans held for sale, which consists primarily of the guaranteed portion of SBA 7(a) loans, increased $7.4 million, or 53.6%, to $13.8 million at the end of the second quarter of 2016, compared to $6.4 million at the end of 2015;

	·	total deposits increased $32.5 million, or 23.7%, to $169.5 million at the end of the second quarter of 2016, compared to $137.0 million at the end of 2015;
	·	net income was $507,000 for the three months ended June 30, 2016, compared to $979,000 for the same period in the prior year. The Company recognized income tax expense of $280,000 for the three months ended June 30, 2016, compared to $430,000 for the same period in the prior year. Net income was $1.3 million for the six months ended June 30, 2016, compared to $1.7 million for the same period in the prior year. The Company recognized income tax expense of $705,000 for the six months ended June 30, 2016, compared to $815,000 for the same period in 2015;
	·	return on average assets was 1.02% and 1.35% for the three and six months ended June 30, 2016, respectively, compared to 2.29% and 2.04%, respectively, for the same periods in 2015. Return on average equity was 7.33% and 9.52% for the three and six months ended June 30, 2016, respectively, compared to 16.28% and 14.47% for the same periods in 2015;

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	·	total revenue was $6.0 million for the three months ended June 30, 2016, unchanged for the same period in the prior year, and increased $198,000, or 1.7%, to $11.8 million for the six months ended June 30, 2016, compared to $11.6 million for the same period in the prior year;
	·	tier 1 capital to average assets and total capital ratios for the Bank at June 30, 2016 were 13.92% and 16.88%, respectively, compared to 15.02% and 18.33%, respectively, at December 31, 2015; and

the book value of our stock increased to $7.09 at June 30, 2016, compared to $6.74 at December 31, 2015.

Net Interest Income and Net Interest Margin

Net interest income is the difference between interest income, principally from loan and investment securities portfolios, and interest expense, principally on customer deposits and borrowed funds. Net interest income is our principal source of earnings. Changes in net interest income result from changes in volume and spread and are reflected in the net interest margin. Volume refers to the average dollar level of interest-earning assets and interest-bearing liabilities. Spread refers to the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities. Margin refers to net interest income divided by average interest-earning assets, and is influenced by the level and relative mix of interest-earning assets and interest-bearing liabilities.

The Federal Reserve Board influences the general market rates of interest, including deposit and loan rates offered by financial institutions. The Federal Funds rate, which is the cost to banks of immediately available overnight funds, was raised in December 2015 from 0.25% to 0.50%, and has remained at that rate through the first half of 2016.

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The following tables set forth our average balances of assets, liabilities and shareholders’ equity, in addition to the major components of net interest income and our net interest margin, for the three and six months ended June 30, 2016 and 2015.

FINANCIAL SUMMARY

Consolidated Daily Average Balances, Average Yields and Rates

	Three Months Ended June 30,
	2016									2015
(In thousands, except percentages and per share data)	Average Balance			Interest			Average Yield			Average Balance			Interest			Average Yield
Interest-earning assets
Loans, net of unearned discount⁽¹⁾	$	161,388		$	2,229			5.54	%	$	145,097		$	1,995			5.52	%
Interest-bearing deposits and federal funds sold		7,755			11			0.57	%		6,963			4			0.25	%
Securities		19,854			173			3.50	%		9,751			55			2.25	%
Total earning assets		188,997			2,413			5.12	%		161,811			2,054			5.09	%
Cash and other assets		11,067									10,955
Allowance for loan losses		(1,692	)								(1,694	)
Total assets	$	198,372								$	171,072

Interest-bearing liabilities
NOW accounts	$	6,598			5			0.30	%	$	5,562			4			0.30	%
Money market accounts		36,564			44			0.48	%		36,792			45			0.49	%
Savings accounts		5,720			6			0.42	%		4,538			6			0.50	%
Time deposits $100,000 and over		84,452			228			1.08	%		66,613			155			0.93	%
Time deposits under $100,000		3,818			9			0.95	%		3,747			10			1.08	%
Total interest-bearing deposits		137,152			292			0.85	%		117,252			220			0.75	%
Borrowed funds		4,538			7			0.62	%		3,297			1			0.15	%
Total interest-bearing liabilities		141,690			299			0.85	%		120,549			221			0.74	%
Non-interest-bearing deposits		27,195									24,889
Other liabilities		1,819									1,582
Shareholders’ equity		27,668									24,052
Total liabilities and shareholders’ equity	$	198,372								$	171,072

Net interest income					2,114									1,833
Net interest spread								4.27	%								4.36	%
Net interest margin								4.49	%								4.54	%

Provision for loan loss					319									-
Non-interest income					3,593									3,929
Non-interest expense					4,601									4,353
Income before income taxes					787									1,409
Income taxes expense					280									430
Net income				$	507								$	979

Earnings per share				$	0.13								$	0.24
Return on average equity					7.33	%								16.28	%
Return on average assets					1.02	%								2.29	%
Equity to assets ratio					13.95	%								14.06	%

⁽¹⁾	Includes nonaccrual loans

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FINANCIAL SUMMARY

Consolidated Daily Average Balances, Average Yields and Rates

	Six Months Ended June 30,
	2016									2015
(In thousands, except percentages)	Average Balance			Interest			Average Yield			Average Balance			Interest			Average Yield
Interest-earning assets
Loans, net of unearned discount⁽¹⁾	$	157,833		$	4,426			5.65	%	$	141,765		$	4,011			5.71	%
Interest-bearing deposits and federal funds sold		8,267			21			0.51	%		6,580			8			0.25	%
Securities		16,588			252			3.06	%		9,728			116			2.40	%
Total earning assets		182,688			4,699			5.19	%		158,073			4,135			5.28	%
Cash and other assets		11,002									10,972
Allowance for loan losses		(1,631	)								(1,695	)
Total assets	$	192,059								$	167,350

Interest-bearing liabilities
NOW accounts	$	6,401			9			0.28	%	$	5,480			8			0.29	%
Money market accounts		35,182			85			0.49	%		35,397			87			0.50	%
Savings accounts		5,566			13			0.47	%		4,099			10			0.49	%
Time deposits $100,000 and over		81,931			433			1.07	%		64,566			295			0.92	%
Time deposits under $100,000		3,917			19			0.98	%		3,824			20			1.05	%
Total interest-bearing deposits		132,997			559			0.85	%		113,366			420			0.75	%
Borrowed funds		3,758			10			0.54	%		4,862			4			0.17	%
Total interest-bearing liabilities		136,755			569			0.84	%		118,228			424			0.72	%
Non-interest-bearing deposits		26,217									23,715
Other liabilities		1,874									1,835
Shareholders’ equity		27,213									23,572
Total liabilities and shareholders’ equity	$	192,059								$	167,350

Net interest income					4,130									3,711
Net interest spread								4.35	%								4.55	%
Net interest margin								4.56	%								4.73	%

Provision for loan loss					444									-
Non-interest income					7,143									7,509
Non-interest expense					8,829									8,699
Income before income taxes					2,000									2,521
Income taxes expense					705									815
Net income				$	1,295								$	1,706

Earnings per share				$	0.32								$	0.42
Return on average equity					9.52	%								14.47	%
Return on average assets					1.35	%								2.04	%
Equity to assets ratio					14.17	%								14.09	%

⁽¹⁾	Includes nonaccrual loans

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The following table presents the changes in net interest income and identifies the changes due to differences in the average volume of earning assets and interest–bearing liabilities and the changes due to changes in the average interest rate on those assets and liabilities. The changes in net interest income due to changes in both average volume and average interest rate have been allocated to the average volume change or the average interest rate change in proportion to the absolute amounts of the change in each.

	Three Months Ended June 30, 2016 Compared to Three Months Ended June 30, 2015
	Increase (Decrease) Due to Change in
(In thousands)	Yield/ Rate			Average Volume		Total
Interest-bearing deposits and federal funds sold	$	6		$	1	$	7
Securities		30			88		118
Loans, net of unearned discount ⁽¹⁾		9			225		234
Total earning assets		45			314		359

NOW		-			1		1
Money market		(1	)		-		(1	)
Savings		(1	)		1		-
Time deposits $100,000 and over		25			48		73
Time deposits under $100,000		(1	)		-		(1	)
Borrowed funds		4			2		6
Total interest-bearing liabilities		26			52		78

Changes in net interest income	$	19		$	262	$	281

(1)	Average loans include non-accrual.

Net interest income for the three months ended June 30, 2016 increased $281,000, or 15.3%, compared to the same period in the prior year. The increase was primarily due to an increase in the average volume of interest-earning assets. Net interest margin decreased 5 basis points from 4.54% during the three months ended June 30, 2015 to 4.49% during the three months ended June 30, 2016. The decrease in net interest margin was primarily the result of an increase in the average cost of time deposits, offset by an increase in the average yield on securities.

Total interest income for the three months ended June 30, 2016 increased $359,000, or17.5%, compared to the same period in the prior year. Average interest-earning asset volume increased $27.2 million, or 16.8%, to $189.0 million for the three months ended June 30, 2016, compared to $161.8 million for the same period in the prior year. The average volume of loans increased $16.3 million to $161.4 million for the three months ended June 30, 2016, compared to $145.1 million for the same period in the prior year. The average yield on securities was 3.50% during the three months ended June 30, 2016 compared to 2.25% for the same period in the prior year. The increase was related to the purchase of $9.8 million PACE securities with average yield of 6.70% during the second quarter of 2016. The average volume of securities increased $10.1 million to $19.9 million for the three months ended June 30, 2016, compared to $9.8 million for the same period in the prior year.

Total interest expense for the three months ended June 30, 2016 increased $78,000, or 35.3%, compared to the same period in the prior year. The average cost of interest-bearing liabilities increased 11 basis points to 0.85% for the three months ended June 30, 2016, compared to 0.74% for the same period in the prior year, the result of the interest-bearing liabilities repricing in a slightly higher interest rate environment. The average volume of interest-bearing liabilities increased $21.2 million to $141.7 million for the three months ended June 30, 2016, compared to $120.5 million for the same period in the prior year. The average interest-bearing deposits increased $19.9 million to $137.2 million for the three months ended June 30, 2016, compared to $117.3 million for the same period in the prior year. The average borrowed funds increased $1.2 million to $4.5 million for the three months ended June 30, 2016, compared to $3.3 million for the same period in the prior year.

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	Six Months Ended June 30, 2016 Compared to Six Months Ended June 30, 2015
	Increase (Decrease) Due to Change in
(In thousands)	Yield/ Rate			Average Volume			Total
Interest-bearing deposits and federal funds sold	$	9		$	4		$	13
Securities		32			104			136
Loans, net of unearned discount ⁽¹⁾		(36	)		451			415
Total earning assets		5			559			564

NOW		-			1			1
Money market		(1	)		(1	)		(2	)
Savings		-			3			3
Time deposits $100,000 and over		46			92			138
Time deposits under $100,000		(1	)		-			(1	)
Borrowed funds		9			(3	)		6
Total interest-bearing liabilities		53			92			145

Changes in net interest income	$	(48	)	$	467		$	419

(1)	Average loans include non-accrual.

Net interest income for the six months ended June 30, 2016 increased $419,000, or 11.3%, compared to the same period in the prior year. The increase was due to an increase in the average volume of interest-earning assets, partially offset by an increase in the average volume of interest-bearing liabilities and an increase in the average cost of interest-bearing liabilities. Net interest margin decreased 17 basis points from 4.73% during the six months ended June 30, 2015 to 4.56% during the six months ended June 30, 2016.

Total interest income for the six months ended June 30, 2016 increased $564,000, or 13.6%, compared to the same period in the prior year. Average interest-earning asset volume increased $24.6 million, or 15.6%, to $182.7 million for the six months ended June 30, 2016, compared to $158.1 million for the same period in the prior year. The increase included an increase in the loan portfolio of $16.1 million and an increase in the securities of $6.9 million. The average interest yield of earning assets decreased 9 basis points to 5.19% for the six months ended June 30, 2016, compared to 5.28% for the same period in the prior year. The average yield on loans decreased 6 basis points to 5.65% during the six months ended June 30, 2016, compared to 5.71% for the same period in the prior year. The average yield on securities increased 66 basis points to 3.06% during the six months ended June 30, 2016, compared to 2.40% for the same period in the prior year. The increase was related to the purchase of the PACE securities during the second quarter of 2016 which is referenced above.

Total interest expense for the six months ended June 30, 2016 increased $145,000, or 34.2%, compared to the same period in the prior year. The average cost of interest-bearing liabilities increased 12 basis points to 0.84% for the six months ended June 30, 2016, compared to 0.72% for the same period in the prior year, the result of the interest-bearing liabilities repricing in a slightly higher interest rate environment. Average volume of interest-bearing liabilities increased $18.6 million to $136.8 million for the six months ended June 30, 2016, compared to $118.2 million for the same period in the prior year. Average interest-bearing deposits increased $19.6 million to $133.0 million for the six months ended June 30, 2016, compared to $113.4 million for the same period in the prior year. Average borrowed funds decreased $1.1 million to $3.8 million for the six months ended June 30, 2016, compared to $4.9 million for the same period in the prior year.

Provision for Loan Losses

We determined a provision for loan losses that we consider sufficient to maintain an allowance to absorb probable losses inherent in our portfolio as of the balance sheet date. For additional information concerning this determination, see the section of this discussion and analysis captioned “Allowance for Loan Losses.”

The Company recorded a provision for loan losses of $319,000 and $444,000 for the three and six months ended June 30, 2016. For the three and six months ended June 30, 2016, we had one loan charge-off of $344,000, and recoveries of $9,000 and $14,000, respectively.

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We did not record a provision for loan losses for the three and six months ended June 30, 2015. For the three and six months ended June 30, 2015, we had one loan charge-off of $141,000, and recoveries of $6,000 and $9,000, respectively

Non-interest Income

The components of non-interest income were as follows:

	Three Months Ended June 30,				Six Months Ended June 30,
(In thousands)	2016		2015		2016		2015
Trust income	$	3,081	$	3,102	$	5,959	$	6,129
Gain on sale of loans		342		624		839		984
Loan servicing fees, net		77		109		158		208
Service fees and other income		16		17		32		34
Rental income		77		77		155		154
	$	3,593	$	3,929	$	7,143	$	7,509

Non-interest income for the three months ended June 30, 2016 decreased $336,000, or 8.6%, compared to the same period in the prior year. The decrease was primarily due to a decrease in gain on sale of loans. Non-interest income for the six months ended June 30, 2016 decreased $366,000, or 4.9%, compared to the same period in the prior year. The decrease was due to a decrease in trust income, gain on sale of loans and loan servicing income.

Trust income is earned on the value of managed and non-managed assets held in custody. For the three and six months ended June 30, 2016, trust income decreased $21,000, or 0.7%, and $170,000, or 2.8%, respectively, compared to the same periods in the prior year. The decrease was a result of lower market values of assets in trust accounts during 2016.

Gain on sale of loans decreased $282,000, or 45.2% and $145,000, or 14.7%, for the three and six months ended June 30, 2016, respectively, compared to the same periods in the prior year, which was a result of a lower volume of loans sold during the current year.

Loan servicing fees, net of servicing asset amortization, decreased $32,000, or 29.4%, and $50,000, or 24.0%, respectively, for the three and six months ended June 30, 2015, compared to the same periods in the prior year. The decrease was related to the payoff of two SBA loans resulting in their remaining unamortized serving asset balances being recorded in the income statement for $56,000 and $138,000 for the three and six months ended June 30, 2016, respectively. The decrease was offset by an increase in loan servicing fees related to a higher volume of loans being serviced during 2016.

Service fees and other income for the three months and six months ended June 30, 2016 decreased $1,000, or 5.9% and $2,000, or 5.9%, respectively, compared to the same periods in the prior year.

Rental income for the three months ended June 30, 2016 was unchanged from the same period in the prior year, and for the six months ended June 30, 2016, increased $1,000, or 0.6%, compared to the same period in the prior year.

Non-interest Expense

The components of non-interest expense were as follows:

	Three Months Ended June 30,				Six Months Ended June 30,
(In thousands)	2016		2015		2016		2015
Salaries and employee benefits	$	1,401	$	1,146	$	2,601	$	2,360
Occupancy and equipment		209		209		432		419
Trust expenses		2,470		2,491		4,760		4,913
Professional fees		127		124		231		212
Data processing		230		212		439		418
Other		164		171		366		377
	$	4,601	$	4,353	$	8,829	$	8,699

Non-interest expense for the three and six months ended June 30, 2016 increased $248,000, or 5.7%, and $130,000, or 1.5%, respectively, compared to the same periods in the prior year.

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Salaries and employee benefits for the three and six months ended June 30, 2016 increased $255,000, or 22.3%, and $241,000, or 10.2%, respectively, compared to the same periods in the prior year. The increase was due to an increase in the number of employees in the loan production area, increases in incentive bonuses, annual merit increases and rate increases for health insurance.

Occupancy and equipment expenses for the three months ended June 30, 2016 was unchanged from the same period in the prior year, and for the six months ended June 30, 2016, increased $13,000, or 3.1%, compared to the same period in the prior year. The increase was primarily due to an increase in real estate taxes.

Trust expenses are advisory fees paid to a fund advisor to advise the Company on the common trust funds managed by the Company and are based on the value of the assets held in custody. For the three and six months ended June 30, 2016, trust expenses decreased $21,000, or 0.8%, and $153,000, or 3.1%, respectively, compared to the same periods in the prior year. The decrease was a result of lower market values of assets in trust accounts during 2016.

Professional fees for the three and six months ended June 30, 2016 increased $3,000, or 2.4%, and $19,000, or 9.0%, respectively, compared to the same periods in the prior year. The increase was due to an increases in legal, audit, and consulting fees.

Data processing fees for the three and six months ended June 30, 2016 increased $18,000, or 8.5%, and $21,000, or 5.0%, respectively, compared to the same periods in the prior year. The increase was related to monthly fees pertaining to enhancements to the Company’s internet customer platform and trust processing fees.

Other expenses for the three and six months ended June 30, 2016 decreased $7,000, or 4.1%, and $11,000, or 2.9%, respectively, compared to the same periods in the prior year. The decrease was due to decreases in donations expense and employee recruiting expense related to loan production personnel.

Income Taxes

The Company recognized income tax expense of $280,000 and $705,000, for an effective income tax rate of 35.6% and 35.3%, respectively, for the three and six months ended June 30, 2016, compared to $430,000 and $815,000, for an effective income tax rate of 30.5% and 32.3%, respectively, for the same periods in the prior year. The increase in the effective tax rate was related to a $40,000 benefit adjustment for 2014 taxes which was recognized during the second quarter of 2015, resulting in a lower effective income tax rate for the three and six months ended June 30, 2015.

Financial Condition

Our total assets as of June 30, 2016 increased $30.0 million to $206.9 million, compared to $176.1 million as of December 31, 2015, primarily as a result of an increase in total loans and other investments. Net loans held for investment increased $11.1 million, or 8.1%, to $148.7 million as of June 30, 2016, compared to $137.6 million as of December 31, 2015. Loan held for sale increased $7.4 million, or 115.6%, to $13.8 million, compared to $6.4 million as of December 31, 2015. During the second quarter of 2016, the Company purchased $9.8 million of other investments held at cost. At December 31, 2015, the Company had no investments held at cost. Total deposits increased $32.5 million, or 23.7%, to $169.5 million as of June 30, 2016, compared to $137.0 million as of December 31, 2015. Shareholders’ equity increased $1.5 million, or 5.5%, to $28.7 million as of June 30, 2016, compared to $27.2 million as of December 31, 2015.

Cash and Due From Banks

Cash and due from banks increased $558,000 to $2.2 million as of June 30, 2016, compared to $1.6 million as of December 31, 2015. The increase is a result of ordinary variances in operating cash.

Short-Term Investments and Interest-bearing Deposits in Other Financial Institutions

Interest-bearing deposits increased $470,000 to $7.2 million as of June 30, 2016, compared to $6.7 million as of December 31, 2015. Interest-bearing deposits and federal funds sold allow us to meet liquidity requirements and provide temporary interest-bearing holdings until the funds can be otherwise deployed or invested.

Investment Securities

Our investment portfolio primarily serves as a source of interest income and, secondarily, as a source of liquidity and a management tool for our interest rate sensitivity. We manage our investment portfolio according to a written investment policy established by our Board of Directors and implemented by our Investment/Asset-Liability Committee.

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As of June 30, 2016 and December 31, 2015, the Company held Federal Reserve Bank of Dallas stock of $570,000, and Federal Home Loan Bank of Dallas stock of $481,000 and $476,000, respectively. As of June 30, 2016 and December 31, 2015, we had government agency securities with amortized cost of $9.4 million and $9.2 million, respectively, and fair value of $9.5 million and $9.2 million, respectively. As of June 30, 2016 and December 31, 2015, we had mortgage-backed securities with amortized cost of $3.1 million and $3.3 million, respectively, and fair value of $3.1 million and $3.3 million, respectively.

At June 30, 2016 and December 31, 2015, securities with fair value of $11.1 million and $10.8 million, respectively, were pledged against borrowed funds at the Federal Home Loan Bank of Dallas and securities with fair value of $917,000 and $982,000, respectively, were pledged against trust deposit balances held at the Bank. One security was pledged against borrowed funds at the Federal Reserve Bank of Dallas at June 30, 2016 and December 31, 2015 with a fair value of $637,000 and $699,000, respectively.

At June 30, 2016, the Company held $9.79 million in Property Assessed Clean Energy (“PACE”) investments. These investments contracts or bonds located in California and Florida, originate under a contractual obligation between the property owners, the local county administration, and a third party administrator and sponsor. The assessments are created to fund the purchase and installation of energy saving improvements such as solar panels to the property improvements. Generally, as a property assessment, the total assessment is repaid in installments over a period of 10 to 15 years by the then current property owner(s). Each installment is collected by the County Tax Collector where the property is located. The assessments are an obligation of the property. Each assessment is equal in priority to the other property taxes and assessments associated with the property, including local school, city, and county ad-valorem taxes. Each PACE investment has a set repayment period. Based on the purchase price of the investments, the expected weighted average yield on the investments is 6.7%.

Loan Portfolio

Our primary source of income is interest on loans. The following table presents the composition of our loan portfolio by category as of the dates indicated:

(In thousands)	June 30, 2016			December 31, 2015
Commercial and industrial	$	76,672		$	71,562
Consumer installment		3,883			2,049
Real estate – residential		6,387			6,851
Real estate – commercial		18,480			16,736
Real estate – construction and land		9,705			10,322
SBA:
SBA 7(a) unguaranteed portion		27,286			22,596
SBA 504		6,284			6,349
USDA		2,765			2,787
Other		242			1,542
Gross Loans		151,704			140,794
Less:
Allowance for loan losses		1,678			1,564
Deferred loan costs		(592	)		(292	)
Discount on loans		1,872			1,874
Net loans	$	148,746		$	137,648

As of June 30, 2016 and December 31, 2015, total loans held for investment were $148.7 million and $137.6 million, respectively. Total loans, net of deferred fees, discount and reserves as a percentage of total assets were 71.9% as of June 30, 2016 and 77.8% as of December 31, 2015.

Our commercial loan portfolio is composed of lines of credit for working capital and term loans to finance equipment and other business assets. Our lines of credit typically are limited to a percentage of the value of the assets securing the line. Lines of credit and term loans typically are reviewed annually and are supported by accounts receivable, inventory, equipment and other assets of our clients’ businesses. As of June 30, 2016 and December 31, 2015, commercial loans totaled $76.7 million and $71.6 million, respectively, representing approximately 50.6% and 50.9% of our total funded loans, respectively.

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Our consumer loan portfolio consists of personal lines of credit and loans to acquire personal assets such as automobiles. Our lines of credit generally have terms of one year and our term loans generally have terms of three to five years. Our lines of credit typically have floating rates. As of June 30, 2016 and December 31, 2015, consumer loans totaled $3.9 million and $2.0 million, respectively, approximately 2.6% and 1.4%, respectively, of our total funded loans.

Our real estate loan portfolio is composed of construction loans and term mortgage loans. Construction loans consist primarily of single-family residential properties, typically have terms of less than one year and have floating rates and commitment fees. Our construction loans are typically to builders who have an established record of successful project completion and loan repayment. Term mortgage loans are typically secured by commercial properties occupied by the borrower and typically have terms of three to ten years with both fixed and floating rates. At June 30, 2016 and December 31, 2015, real estate loans totaled $34.6 million and $33.9 million, respectively, approximately 22.8% and 24.1% of our total loans, respectively.

Our SBA loan portfolio consists of loans guaranteed by the Small Business Administration (“SBA 7(a)”) and conventional loans promulgated under the SBA’s 504 loan program which serve the small business community. The SBA 7(a) loans are generally guaranteed by the SBA up to 75% of the principal balance. The guaranteed portion of these loans is readily marketable on a servicing-retained basis in an active national secondary market. The Company records the guaranteed portion of the loans as held for sale. As of June 30, 2016 and December 31, 2015, SBA loans held for investment totaled $33.6 million and $28.9 million, respectively, representing approximately 22.1% and 20.5% of our total funded loans, respectively.

Our USDA loan portfolio consists of loans guaranteed by the USDA which serves rural areas. USDA loans are guaranteed up to 90% of the principal balance. As of June 30, 2016 and December 31, 2015, USDA loans held for investment totaled $2.8 million, representing approximately 1.9% and 2.0% of our total funded loans, respectively.

Loan concentrations are considered to exist when there are amounts loaned to multiple borrowers engaged in similar activities that would cause them to be similarly impacted by economic or other conditions. As of June 30, 2016, our commercial loan and real estate loan portfolio included $66.7 million of loans, approximately 44.0% of our total funded loans, to dental professionals. These loans were made to fund practice acquisitions, practice enhancements, equipment purchases, real estate and personal borrowing needs. We believe that these loans are to credit worthy borrowers and are diversified geographically. As new loans are generated the percentage of the total loan portfolio consisting of the foregoing concentration may remain constant or increase thereby continuing the risk associated with industry concentration.

Management may renew loans at maturity when requested by a customer whose financial strength appears to support such a renewal or when such a renewal appears to be in our best interest. We require payment of accrued interest in such instances and may adjust the rate of interest, require a principal reduction, or modify other terms of the loan at the time of renewal.

The following table shows the maturity/reset date distribution and type of loan within our loan portfolio as of June 30, 2016:

	As of June 30, 2016
			Over 1 Year through 5 Years				Over 5 Years
(In thousands)	One Year or Less		Fixed Rate		Floating or Adjustable Rate		Fixed Rate		Floating or Adjustable Rate		Total
Commercial and industrial	$	9,213	$	9,487	$	25,935	$	32,037	$	-	$	76,672
Consumer installment		1,082		2,257		-		544		-		3,883
Real estate – residential		2,155		3,821		314		97		-		6,387
Real estate – commercial		2,938		2,112		4,195		5,974		3,261		18,480
Real estate – construction and land		5,850		347		725		2,783		-		9,705
SBA 7(a) unguaranteed portion		26,485		-		372		429		-		27,286
SBA 504		6,284		-		-		-		-		6,284
USDA		1,793		-		972		-		-		2,765
Other		242		-		-		-		-		242
Total	$	56,042	$	18,024	$	32,513	$	41,864	$	3,261	$	151,704

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Non-performing Assets and Restructured Loans

Non-performing assets consist of loans on non-accrual status, loans 90 days or more past due and still accruing interest, loans that have been restructured resulting in a reduction or deferral of interest or principal, OREO, and other repossessed assets. As of June 30, 2016, we had no loans 90 days or more past due and still accruing interest and $60,000 in loans on non-accrual status. At December 31, 2015, we had no loans 90 days or more past due and still accruing interest and $443,000 in loans on non-accrual status, net of SBA guaranteed portion of $477,000. There was no OREO at June 30, 2016 and December 31, 2015. Total non-performing assets, net of SBA guaranteed portion, as of June 30, 2016 were $60,000, compared to $443,000 as of December 31, 2015.

During the second quarter of 2015, the Company repurchased the guaranteed portion of a defaulted SBA loan with a balance of $477,000. During the second quarter of 2016, the Company received proceeds from SBA to pay off the balance.

A potential problem loan is defined as a loan where information about possible credit problems of the borrower is known, causing management to have doubts as to the ability of the borrower to comply with the present loan payment terms and which may result in the inclusion of such loan in one of the non-performing asset categories. We maintain an internally classified loan list that helps management assess the overall quality of the loan portfolio and the adequacy of the allowance for loan losses. Loans classified as “pass-watch” are those loans that have been determined to require enhanced monitoring for potential weaknesses which require further investigation. Loans classified as “special mention” are those that contain a weakness that, if left unattended, could develop into a problem affecting the ultimate collectability of the loan. Loans classified as “substandard” are those loans with clear and defined weaknesses such as highly leveraged positions, unfavorable financial ratios, uncertain repayment resources or poor financial condition, which may jeopardize recoverability of the loan. Loans classified as “doubtful” are those loans that have characteristics similar to substandard loans, but also have an increased risk that loss may occur or at least a portion of the loan may require a charge-off if liquidated at present. Although loans classified as substandard do not duplicate loans classified as doubtful, both substandard and doubtful loans may include some loans that are past due at least 90 days, are on non-accrual status, or have been restructured. Loans classified as “loss” are those loans that are in the process of being charged-off. At June 30, 2016, the Company had $314,000 in pass-watch loans, $764,000 in special mention loans, $397,000 in substandard loans and no doubtful loans. At December 31, 2015, the Company had no pass-watch loans, $1.1 million in special mention loans, $1.3 million in substandard loans and no doubtful loans.

The following table sets forth certain information regarding non-accrual loans by type, loans past due 90 days and accruing, OREO and restructured loans accruing as of the dates indicated.

	June 30, 2016					December 31, 2015
(In thousands, except percentages)	Amount		Loan Category to Total Assets			Amount			Loan Category to Total Assets
Commercial and industrial	$	60		0.03	%	$	443			0.25	%
SBA		-		-			477			0.27
Total non-accrual loans	$	60		0.03	%	$	920			0.52	%
SBA guaranteed portion		-		-			(477	)		(0.27	)
Total non-accrual loans, net		60		0.03			443			0.25
Loans past due 90 days and accruing		-		-			-			-
Foreclosed assets		-		-			-			-
Total non-performing assets	$	60		0.03	%	$	443			0.25	%
Restructured loans on non-accrual	$	14		0.01	%	$	381			0.22	%

We record interest payments received on impaired loans as interest income unless collections of the remaining recorded investment are placed on non-accrual, at which time we record payments received as reductions of principal. We recognized interest income on impaired loans of approximately $15,000 and $48,000 during the six months ended June 30, 2016 and 2015, respectively. Interest not recognized on impaired loans during the three and six months ended June 30, 2016 and 2015 was not significant.

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Allowance for Loan Losses

Implicit in our lending activities is the fact that we will experience loan losses and that the risk of loss will vary with the type of loan being made and the creditworthiness of the borrower over the term of the loan. To reflect the currently perceived risk of loss associated with our loan portfolio, additions are made to our allowance for loan losses in the form of direct charges against income and our allowance is available to absorb possible loan losses. The factors that influence the allowance amount include, among others, the remaining collateral and/or financial condition of the borrowers, historical loan loss, changes in the size and composition of the loan portfolio, and general economic conditions.

The amount of the allowance equals the cumulative total of the provisions made from time to time, reduced by loan charge-offs and increased by recoveries of loans previously charged-off. Our allowance for loan losses was $1.7 million, or 1.1% of total funded loans at June 30, 2016, and $1.6 million, or 1.14% of total funded loans at December 31, 2015. We recorded a provision for loan losses of $444,000 for the six months ended June 30, 2016. We did not record a provision for loan losses for the six months ended June 30, 2015.

Credit and loan decisions are made by management and the Board of Directors in conformity with loan policies established by the Board of Directors. Our practice is to charge-off any loan or portion of a loan when the loan is determined by management to be fully or partially uncollectible due to the borrower’s failure to meet repayment terms, the borrower’s deteriorating or deteriorated financial condition, the depreciation of the underlying collateral, the loan’s classification as a loss by regulatory examiners, or other reasons. We had one commercial and industrial loan charge-off of $344,000, and recoveries of $14,000 during the six months ended June 30, 2016. We had one SBA loan charge-off of $141,000, and recoveries of $9,000 during the six months ended June 30, 2015.

The following table sets forth the specific allocation of the allowance for the periods indicated and the percentage of allocated possible loan losses in each category to total gross loans. An allocation for a loan classification is only for internal analysis of the adequacy of the allowance and is not an indication of expected or anticipated losses. Although we believe we use the best information available to make loan loss allowance determinations, future adjustments could be necessary if circumstances or economic conditions differ substantially from the assumptions used in making our initial determinations. The current downturn in the economy or higher unemployment could result in increased levels of nonperforming assets and charge-offs, increased loan loss provisions and reductions in income. Additionally, as an integral part of their examination process, bank regulatory agencies periodically review our allowance for loan losses. The banking agencies could require the recognition of additions to the loan loss allowance based on their judgment of information available to them at the time of their examination.

(In thousands, except percentages)	June 30, 2016					December 31, 2015
Allocated:	Amount		Loan Category to Gross Loans			Amount		Loan Category to Gross Loans
Commercial and industrial	$	961		50.5	%	$	878		50.8	%
Consumer installment		20		2.6			26		1.5
Real estate – residential		81		4.2			86		4.9
Real estate – commercial		234		12.2			210		11.9
Real estate – construction and land		124		6.4			130		7.3
SBA		255		22.1			214		20.5
USDA		-		1.8			-		2.0
Other		3		0.2			20		1.1
Total allowance for loan losses	$	1,678		100.0	%	$	1,564		100.0	%

Deposits

Deposits are our primary source of funding. Total deposits at June 30, 2016 and December 31, 2015 were $169.5 million and $137.0 million, respectively. Total average deposits increased $22.1 million for the six months ended June 30, 2016, to $159.2 million, compared to $137.1 million for the six months ended June 30, 2015.

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The following table shows the average deposit balances and average cost of funds for each category of deposits, for the periods ended June 30, 2016 and 2015:

	For the six months ended June 30,
	2016								2015
(In thousands, except percentages)	Average Balance		Percent of Deposits			Average Rate			Average Balance		Percent of Deposits			Average Rate
Non-interest-bearing deposits	$	26,217		16.5	%		0.00	%	$	23,715		17.3	%		0.00	%
NOW accounts		6,401		4.0			0.28			5,480		4.0			0.29
Money market accounts		35,182		22.1			0.49			35,397		25.8			0.50
Savings accounts		5,566		3.5			0.47			4,099		3.0			0.49
Time deposits $100,000 and over		81,931		51.5			1.07			64,566		47.1			0.92
Time deposits under $100,000		3,917		2.4			0.98			3,824		2.8			1.05
Total deposits	$	159,214		100.00	%		0.71	%	$	137,081		100.00	%		0.62	%

The following table sets forth the amount and maturities of the certificates of deposit of $100,000 or more as of the dates indicated:

(In thousands)	June 30, 2016		December 31, 2015
Three months or less	$	13,271	$	18,884
Over three months through six months		17,357		6,763
Over six months through twelve months		32,730		19,967
Over twelve months		26,544		20,924
Total	$	89,902	$	66,538

Shareholders’ Equity

As of June 30, 2016, shareholders’ equity increased to $28.7 million from $27.2 million as of December 31, 2015. The increase was due to comprehensive income of $1.4 million and stock-related compensation of $148,000 for the six months ended June 30, 2016.

Off-Balance Sheet Arrangements

Neither the Company nor the Bank had any material off-balance sheet arrangements other than the Bank’s commitments to extend credit at June 30, 2016.

Capital Resources and Capital Adequacy Requirements

The risk-based capital regulations established and administered by the banking regulatory agencies discussed previously are applicable to the Bank. Risk-based capital guidelines are designed to make regulatory capital requirements more sensitive to differences in risk profiles among banks, to account for off-balance sheet exposure, and to minimize disincentives for holding liquid assets. Under the regulations, assets and off-balance sheet items are assigned to broad risk categories, each with appropriate weights. The resulting capital ratios represent capital as a percentage of total risk weighted assets and off-balance sheet items.

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In July 2013, the Office of the Comptroller of the Currency approved new rules on regulatory capital applicable to national banks, implementing the Basel III rules. The final rule establishes a stricter regulatory capital framework that requires banking organizations to hold more and higher quality capital to act as a financial cushion to absorb losses and help banking organizations better withstand periods of financial stress. Most banking organizations, including the Bank, were required to apply the new capital rules on January 1, 2015. The final rules set a new common equity tier 1 requirement and higher minimum tier 1 requirements for all banking organizations. They also place limits on capital distributions and certain discretionary bonus payments if a banking organization does not maintain a “capital conservation buffer” above minimum capital requirements, which will be phased in over a five-year period. Pursuant to the Basel III Notice of Proposed Rulemaking, community banks were given the option of a one-time election in their March 31, 2015 quarterly financial filings with the appropriate federal regulator to opt-out of the requirement to include most accumulated other comprehensive income (“AOCI”) components in the calculation of Common Equity Tier 1 capital and, in effect, retain the AOCI treatment under the current capital rules. The Company made the election to continue to exclude AOCI from capital in connection with its March 31, 2015 quarterly financial filing. The BASEL III capital ratio requirements as applicable to the Bank as of January 1, 2015 and after the full phase-in period of the capital conservation buffer, are summarized in the table below.

	BASEL III Minimum Capital Requirements			BASEL III Additional Capital Conservation Buffer			BASEL III Requirements with Capital Conservation Buffer⁽¹⁾
Total Capital (to risk weighted assets)		8.0	%		2.5	%		10.5	%
Tier 1 Capital (to risk weighted assets)		6.0	%		2.5	%		8.5	%
Tier 1 Capital (to average assets) or Leverage ratio		4.0	%		-	%		4.0	%
Common Equity Tier 1 (to risk weighted assets)		4.5	%		2.5	%		7.0	%

(1) The capital conservation buffer is phased in over a five-year period with the increased capital ratios effective as of January 1, 2019.

In addition, the rules revise the prompt corrective action framework to incorporate the new regulatory capital minimums, as set forth in the table below. They also enhance risk sensitivity and address weaknesses identified over recent years with the measure of risk weighted assets. As of June 30, 2016, the Bank was “well capitalized” under the Basel III regulatory framework.

(In thousands)	Actual					Minimum Capital Required Under Basel III Requirements					To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
As of June 30, 2016
Total Capital (to Risk Weighted Assets)	$	29,284		16.88	%	$	14,963		8.625	%	$	17,348		10.00	%

Tier 1 Capital (to Risk Weighted Assets)		27,606		15.91			11,493		6.625			13,879		8.00

Common Equity Tier 1 (to Risk Weighted Assets)		27,606		15.91			8,891		5.125			11,276		6.50

Tier 1 Capital (to Average Assets)		27,606		13.92			7,936		4.00			9,920		5.00

As of December 31, 2015
Total Capital (to Risk Weighted Assets)	$	27,813		18.33	%	$	12,139		8.00	%	$	15,173		10.00	%

Tier 1 Capital (to Risk Weighted Assets)		26,249		17.30			9,104		6.00			12,139		8.00

Common Equity Tier 1 (to Risk Weighted Assets)		26,249		17.30			6,828		4.50			9,863		6.50

Tier 1 Capital (to Average Assets)		26,249		15.02			6,994		4.00			8,742		5.00

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Liquidity Management

At June 30, 2016, the Company (excluding the Bank) had approximately $784,000 in cash. These funds can be used for Company operations, investment, for infusion into the Bank and other corporate activities. The primary source of liquidity for the Company is dividends paid by the Bank. Banking regulations limit the amount of dividends that may be paid. See Note 15 – Regulatory Matters to the financial statements included elsewhere in this report regarding dividends available for declaration.

The Bank’s liquidity is monitored by its management, the Investment/Asset-Liability Committee and the Board of Directors who review historical funding requirements, current liquidity position, sources and stability of funding, marketability of assets, options for attracting additional funds, and anticipated future funding needs, including the level of unfunded commitments.

The Bank’s primary sources of funds are retail, custodial, and commercial deposits, loan sales and repayments, maturity of investment securities, other short-term borrowings, and other funds provided by operations. While scheduled loan repayments and maturing investments are relatively predictable, deposit flows and loan prepayments are more influenced by interest rates, general economic conditions, and competition. The Bank maintains investments in liquid assets based upon management’s assessment of (1) the need for funds, (2) expected deposit flows, (3) yields available on short-term liquid assets, and (4) objectives of the asset/liability management program.

At June 30, 2016, we had outstanding loan origination commitments and unused commercial and retail lines of credit of $21.7 million and $10,000 in standby letters of credit. Certificates of deposit that are scheduled to mature within one year totaled $65.5 million at June 30, 2016.

The Bank’s significant contractual obligations and other potential funding needs at June 30, 2016 consist of:

	As of June 30, 2016
(In thousands)	Less than One Year		One to Three Years		Over Three to Five Years		Over Five Years
Operating leases	$	41	$	-	$	-	$	-

Time deposits	$	65,485	$	27,438	$	812	$	-

As of June 30, 2016, the Company had cash and cash equivalents of $9.8 million, or 4.7% of total assets, and loans held for sale of $13.8 million, or 6.7% of total assets. Liquidity is also provided through the Bank’s lines of credit with the Federal Home Loan Bank of Dallas and the Federal Reserve Bank of Dallas, which provide the Bank with a source of off-balance sheet liquidity. As of June 30, 2016, the Bank’s borrowing capacity with the Federal Home Loan Bank of Dallas was $21.2 million, or 10.3% of assets, of which $6.0 million was utilized at June 30, 2016. The Bank’s borrowing capacity with the Federal Reserve Bank of Dallas was also $19.1 million, or 9.2% of assets, none of which was utilized at June 30, 2016.

As loan demand increases, greater pressure will be exerted on the Bank’s liquidity. As of June 30, 2016, the loan to deposit ratio was 87.7%. Through our trust department, we serve as trustee or custodian for $38.0 million in cash deposits held at BlackRock, Inc. in a money market fund. As of June 30, 2016, approximately $26.0 million could be held at the Bank in deposit accounts fully insured by the FDIC. With additional advances available from the Federal Home Loan Bank of Dallas and Federal Reserve Bank of Dallas and the custodial cash available through the Bank’s trust department, the Bank has off-balance sheet liquidity available of 29.1% of total assets as of June 30, 2016. We believe that the Bank has adequate liquidity to meet anticipated future funding needs.

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Item 3. Quantitative and Qualitative Disclosures about Market Risk

Because the registrant is a smaller reporting company, disclosure under this item is not required.

Item 4. Controls and Procedures

As of the end of the period covered by this Quarterly Report on Form 10-Q, our principal executive officer and principal financial officer have evaluated the effectiveness of our “disclosure controls and procedures” (“Disclosure Controls”). Disclosure Controls, as defined in Rule 13a-15(e) of the Exchange Act, are procedures that are designed to ensure that information required to be disclosed by us in our reports filed or submitted under the Exchange Act, such as this report, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure Controls include, without limitation, controls and procedures designed to ensure that such information is accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

Our management, including the principal executive officer and principal financial officer, does not expect that our Disclosure Controls will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.

Based upon their controls evaluation, our principal executive officer and principal financial officer have concluded that our Disclosure Controls are effective as of the end of the period covered by this report.

Changes in Internal Control over Financial Reporting

There were no changes in our internal controls over financial reporting during the quarter ended June 30, 2016 that materially affected, or were reasonably likely to materially affect, our internal control over financial reporting.

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PART II. OTHER INFORMATION

Item 1. Legal Proceedings.

From time to time, the Company is a party to various legal proceedings incident to its business. However, there are no material legal proceedings to which the Company is a party or of which any of its property is subject.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

Not applicable.

Item 3. Defaults Upon Senior Securities.

Not applicable.

Item 4. Mine Safety Disclosures.

Not applicable.

Item 5. Other Information.

None

Item 6. Exhibits and Financial Statement Schedules.

Exhibit No.		Description of Exhibit

3.1		Articles of Incorporation (incorporated by reference from the Quarterly Report on Form 10-Q filed by Registrant with the SEC on August 14, 2007 (File No. 000-51297))
3.2		Bylaws (incorporated by reference from the Current Report on Form 8-K filed by Registrant with the SEC on April 30, 2008 (File No. 000-51297))
31.1		Rule 13a-14(a) Certification of Principal Executive Officer*
31.2		Rule 13a-14(a) Certification of Principal Financial Officer*
32		Section 1350 Certification*
101.INS		XBRL Instance Document*
101.SCH		XBRL Taxonomy Extension Schema Document*
101.CAL		XBRL Taxonomy Extension Label Calculation Linkbase Document*
101.LAB		XBRL Taxonomy Extension Label Linkbase Document*
101.PRE		XBRL Taxonomy Extension Presentation Linkbase*
101.DEF		XBRL Taxonomy Definition Linkbase*

*	Filed Herewith

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.

	T BANCSHARES, INC.

Date: August 15, 2016	By:	/s/ Patrick Howard

		Patrick Howard President and Chief Executive Officer/Principal Executive Officer

	By:	/s/ Ken Bramlage

		Ken Bramlage Executive Vice President and Chief Financial Officer/Principal Financial Officer

T Bancshares, Inc. - FORM 10-Q - August 15, 2016

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T Bancshares, Inc. Reports