Edgar Filing: SI Financial Group, Inc.

SIFI 06.30.2015 10-Q2

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q



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

For the Quarterly Period Ended June 30, 2015



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

For the Transition Period from _______ to ______

Commission File Number: 0-54241

SI FINANCIAL GROUP, INC.

(Exact name of registrant as specified in its charter)

__________________________________________________



Maryland		80-0643149
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)



803 Main Street, Willimantic, Connecticut		06226
(Address of principal executive offices)		(Zip Code)

(860) 423-4581

(Registrant’s telephone number, including area code)

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

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

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

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



	Large Accelerated Filer o	Accelerated Filer x
	Non-Accelerated Filer o	Smaller Reporting Company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o No x

As of July 31, 2015, there were 12,227,845 shares of the registrant’s common stock outstanding.

SI FINANCIAL GROUP, INC.

TABLE OF CONTENTS



		Page No.

PART I. FINANCIAL INFORMATION

Item 1.	Financial Statements (Unaudited):

	Consolidated Balance Sheets at June 30, 2015 and December 31, 2014	1

	Consolidated Statements of Income for the three and six months ended June 30, 2015 and 2014	2

	Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 2015 and 2014	3

	Consolidated Statement of Changes in Shareholders’ Equity for the six months ended June 30, 2015	4

	Consolidated Statements of Cash Flows for the six months ended June 30, 2015 and 2014	5

	Notes to Consolidated Financial Statements	7

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	36

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	47

Item 4.	Controls and Procedures	49

PART II. OTHER INFORMATION

Item 1.	Legal Proceedings	49

Item 1A.	Risk Factors	50

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	50

Item 3.	Defaults Upon Senior Securities	50

Item 4.	Mine Safety Disclosures	50

Item 5.	Other Information	50

Item 6.	Exhibits	51

	SIGNATURES	52

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements.

SI FINANCIAL GROUP, INC.

CONSOLIDATED BALANCE SHEETS

(In Thousands, Except Share Amounts / Unaudited)



	June 30, 2015			December 31, 2014
ASSETS:
Cash and due from banks:
Noninterest-bearing	$	16,693		$	18,965
Interest-bearing	22,892			20,286
Total cash and cash equivalents	39,585			39,251

Available for sale securities, at fair value	170,803			173,040
Loans held for sale	1,240			747
Loans receivable (net of allowance for loan losses of $8,437 at June 30, 2015 and $7,797 at December 31, 2014)	1,100,772			1,044,864
Federal Home Loan Bank stock, at cost	10,962			10,333
Federal Reserve Bank stock, at cost	3,621			—
Bank-owned life insurance	21,609			21,306
Premises and equipment, net	22,130			21,711
Goodwill and other intangibles	18,396			18,697
Accrued interest receivable	4,033			3,853
Deferred tax asset, net	7,861			8,048
Other real estate owned, net	1,420			1,271
Other assets	6,917			7,412
Total assets	$	1,409,349		$	1,350,533

LIABILITIES AND SHAREHOLDERS' EQUITY:
Liabilities:
Deposits:
Noninterest-bearing	$	150,920		$	146,062
Interest-bearing	879,208			864,651
Total deposits	1,030,128			1,010,713

Mortgagors' and investors' escrow accounts	3,900			3,600
Federal Home Loan Bank advances	192,193			148,277
Junior subordinated debt owed to unconsolidated trust	8,248			8,248
Accrued expenses and other liabilities	22,259			21,956
Total liabilities	1,256,728			1,192,794

Shareholders' Equity:
Preferred stock ($.01 par value; 1,000,000 shares authorized; none issued)	—			—
Common stock ($.01 par value; 35,000,000 shares authorized; 12,227,845 shares and 12,776,426 shares issued and outstanding at June 30, 2015 and December 31, 2014, respectively)	122			128
Additional paid-in-capital	124,771			125,459
Unallocated common shares held by ESOP	(3,888		)	(4,128		)
Unearned restricted shares	(1,115		)	(1,312		)
Retained earnings	32,449			37,497
Accumulated other comprehensive income	282			95
Total shareholders' equity	152,621			157,739
Total liabilities and shareholders' equity	$	1,409,349		$	1,350,533

See accompanying notes to unaudited interim consolidated financial statements.

SI FINANCIAL GROUP, INC.

CONSOLIDATED STATEMENTS OF INCOME

(In Thousands, Except Per Share Amounts / Unaudited)



	Three Months Ended June 30,						Six Months Ended June 30,
	2015			2014			2015			2014
Interest and dividend income:
Loans, including fees	$	10,931		$	10,667		$	21,545		$	21,754
Securities:
Taxable interest	717			894			1,450			1,774
Tax-exempt interest	27			59			86			101
Dividends	96			48			141			97
Other	19			15			38			28
Total interest and dividend income	11,790			11,683			23,260			23,754

Interest expense:
Deposits	1,379			1,359			2,747			2,678
Federal Home Loan Bank advances	682			637			1,278			1,319
Subordinated debt and other borrowings	84			84			167			167
Total interest expense	2,145			2,080			4,192			4,164

Net interest income	9,645			9,603			19,068			19,590

Provision for loan losses	360			415			695			845

Net interest income after provision for loan losses	9,285			9,188			18,373			18,745

Noninterest income:
Service fees	1,692			1,785			3,340			3,503
Wealth management fees	315			310			613			633
Increase in cash surrender value of bank-owned life insurance	142			144			303			286
Net gain on sales of securities	132			29			132			64
Mortgage banking	130			155			277			315
Net loss on fair value of derivatives	(10		)	(26		)	(15		)	(9		)
Other	209			65			297			442
Total noninterest income	2,610			2,462			4,947			5,234

Noninterest expenses:
Salaries and employee benefits	5,129			5,031			10,073			10,231
Occupancy and equipment	1,791			1,862			3,844			3,969
Computer and electronic banking services	1,458			1,313			2,755			2,665
Outside professional services	508			553			974			1,002
Marketing and advertising	274			312			520			538
Supplies	144			151			292			319
FDIC deposit insurance and regulatory assessments	248			301			493			650
Core deposit intangible amortization	151			149			301			313
Other real estate operations	202			62			284			231
Other	501			603			931			1,373
Total noninterest expenses	10,406			10,337			20,467			21,291

Income before income tax provision	1,489			1,313			2,853			2,688
Income tax provision	484			399			927			868
Net income	$	1,005		$	914		$	1,926		$	1,820

Earnings per share:
Basic	$	0.08		$	0.07		$	0.16		$	0.15
Diluted	$	0.08		$	0.07		$	0.16		$	0.15

See accompanying notes to unaudited interim consolidated financial statements.

SI FINANCIAL GROUP, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In Thousands / Unaudited)



	Three Months Ended June 30,						Six Months Ended June 30,
	2015			2014			2015			2014
Net income	$	1,005		$	914		$	1,926		$	1,820
Other comprehensive income (loss), net of tax:
Available for sale securities:
Net unrealized holding gains (losses)	(480		)	588			222			928
Reclassification adjustment for gains recognized in net income ⁽¹⁾	(87		)	(19		)	(87		)	(42		)
Net unrealized holding gains (losses) on available for sale securities	(567		)	569			135			886
Net unrealized gain on interest-rate swap derivative	27			23			52			46
Other comprehensive income (loss)	(540		)	592			187			932
Comprehensive income	$	465		$	1,506		$	2,113		$	2,752

⁽¹⁾ Amounts are included in net gain on sales of securities in noninterest income on the consolidated statements of income. Income tax expense associated with the reclassification adjustment for both the three and six months ended June 30, 2015 was $45,000 and for the three and six months ended June 30, 2014, was $10,000 and $22,000, respectively.

See accompanying notes to unaudited interim consolidated financial statements.

SI FINANCIAL GROUP, INC.

CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY

FOR THE SIX MONTHS ENDED JUNE 30, 2015

(In Thousands, Except Share Data / Unaudited)



	Common Stock					Additional Paid-in Capital			Unallocated Common Shares Held by ESOP			Unearned Restricted Shares			Retained Earnings			Accumulated Other Comprehensive Income		Total Shareholders' Equity
	Shares		Dollars			Additional Paid-in Capital			Unallocated Common Shares Held by ESOP			Unearned Restricted Shares			Retained Earnings			Accumulated Other Comprehensive Income		Total Shareholders' Equity
Balance at December 31, 2014	12,776,426		$	128		$	125,459		$	(4,128	)	$	(1,312	)	$	37,497		$	95	$	157,739
Comprehensive income	—		—			—			—			—			1,926			187		2,113
Cash dividends declared ($0.08 per share)	—		—			—			—			—			(973		)	—		(973		)
Equity incentive plans compensation	—		—			155			—			197			—			—		352
Allocation of 24,318 ESOP shares	—		—			43			240			—			—			—		283
Tax benefit from share-based compensation	—		—			5			—			—			—			—		5
Stock options exercised	296,648		3			3,263			—			—			—			—		3,266
Common shares repurchased	(845,229	)	(9		)	(4,154		)	—			—			(6,001		)	—		(10,164		)
Balance at June 30, 2015	12,227,845		$	122		$	124,771		$	(3,888	)	$	(1,115	)	$	32,449		$	282	$	152,621

See accompanying notes to unaudited interim consolidated financial statements.

SI FINANCIAL GROUP, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (In Thousands / Unaudited)

	Six Months Ended June 30,
	2015			2014
Cash flows from operating activities:
Net income	$	1,926		$	1,820
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses	695			845
Employee stock ownership plan expense	283			282
Equity incentive plan expense	352			381
Excess tax benefit from share-based compensation	(5		)	(3		)
Amortization of investment premiums and discounts, net	586			512
Amortization of loan premiums and discounts, net	938			641
Depreciation and amortization of premises and equipment	1,372			1,277
Amortization of core deposit intangible	301			313
Amortization of deferred debt issue costs	13			66
Net gain on sales of securities	(132		)	(64		)
Net loss on fair value of derivatives	15			9
Deferred income tax provision (benefit)	89			(46		)
Loans originated for sale	(14,134		)	(8,497		)
Proceeds from sale of loans held for sale	13,729			9,761
Net gain on sales of loans held for sale	(156		)	(185		)
Net loss on sales or write-downs of other real estate owned	122			39
Increase in cash surrender value of bank-owned life insurance	(303		)	(286		)
Impairment charge on long-lived assets	—			175
Change in operating assets and liabilities:
Accrued interest receivable	(180		)	124
Other assets	568			2,488
Accrued expenses and other liabilities	367			1,283
Net cash provided by operating activities	6,446			10,935

Cash flows from investing activities:
Purchases of available for sale securities	(22,407		)	(20,675		)
Proceeds from sales of available for sale securities	9,703			1,109
Proceeds from maturities of and principal repayments on available for sale securities	14,693			18,191
Purchases of Federal Home Loan Bank stock	(629		)	—
Purchases of Federal Reserve Bank stock	(3,621		)	—
Redemption of Federal Home Loan Bank stock	—			1,160
Loan principal collections, net of originations	9,366			33,484
Purchases of loans	(67,240		)	(25,832		)
Proceeds from sales of other real estate owned	62			816
Purchases of premises and equipment	(1,791		)	(1,158		)
Net cash provided by (used in) investing activities	(61,864		)	7,095

SI FINANCIAL GROUP, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (Concluded) (In Thousands / Unaudited)

	Six Months Ended June 30,
	2015			2014
Cash flows from financing activities:
Net increase in deposits	19,415			21,472
Net increase in mortgagors' and investors' escrow accounts	300			87
Proceeds from Federal Home Loan Bank advances	78,478			10,000
Repayments of Federal Home Loan Bank advances	(34,575		)	(27,797		)
Excess tax benefit from share-based compensation	5			3
Cash dividends on common stock	(973		)	(739		)
Stock options exercised	703			352
Common shares repurchased	(7,601		)	(316		)
Net cash provided by financing activities	55,752			3,062


Net change in cash and cash equivalents	334			21,092
Cash and cash equivalents at beginning of period	39,251			27,321
Cash and cash equivalents at end of period	$	39,585		$	48,413

Supplemental cash flow information:
Interest paid	$	4,199		$	4,201
Income taxes received, net	470			850
Transfer of loans to other real estate owned	385			90
Stock options exercised by net-share settlement	2,563			190

See accompanying notes to unaudited interim consolidated financial statements.

Table of Contents

SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

NOTE 1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Nature of Business

SI Financial Group, Inc. (the “Company”) is the holding company for Savings Institute Bank and Trust Company (the “Bank”). Established in 1842, the Bank is a community-oriented financial institution headquartered in Willimantic, Connecticut. The Bank provides a variety of financial services to individuals, businesses and municipalities through its twenty-six offices in eastern Connecticut and Rhode Island. Its primary products include savings, checking and certificate of deposit accounts, residential and commercial mortgage loans, commercial business loans and consumer loans. In addition, wealth management services, which include trust, financial planning, life insurance and investment services, are offered to individuals and businesses through the Bank’s offices. The Company does not conduct any material business other than owning all of the stock of the Bank and making payments on the subordinated debentures held by the Company.

Principles of Consolidation

The accompanying consolidated financial statements include the accounts of the Company, its wholly-owned subsidiary, the Bank, and the Bank’s wholly-owned subsidiaries, SI Mortgage Company and SI Realty Company, Inc. All significant intercompany accounts and transactions have been eliminated.

Basis of Financial Statement Presentation

The interim consolidated financial statements and related notes have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information, with the instructions to Form 10-Q and Rule 10.01 of Regulation S-X of the Securities and Exchange Commission and general practices within the banking industry. Accordingly, certain information and footnote disclosures required by GAAP for complete financial statements have been omitted. Information in the accompanying interim consolidated financial statements and notes to the financial statements of the Company as of June 30, 2015 and for the three and six months ended June 30, 2015 and 2014 is unaudited. These unaudited interim consolidated financial statements and related notes should be read in conjunction with the audited financial statements of the Company and the accompanying notes for the year ended December 31, 2014 contained in the Company’s Form 10-K.

In the opinion of management, the accompanying unaudited interim consolidated financial statements reflect all of the adjustments, consisting only of normal and recurring adjustments, necessary for a fair presentation of the financial condition, results of operations and cash flows as of and for the periods covered herein. The results of operations for the three and six months ended June 30, 2015 are not necessarily indicative of the operating results for the year ending December 31, 2015 or for any other period.

In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosures of contingent assets and liabilities, as of the date of the balance sheets and reported amounts of revenues and expenses for the periods presented. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, deferred income taxes and the impairment of long-lived assets.

Reclassifications

Amounts in the Company’s prior year consolidated financial statements are reclassified to conform to the current year presentation. Such reclassifications have no effect on net income.

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SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

Loans Receivable

Loans receivable are stated at current unpaid principal balances, net of the allowance for loan losses and deferred loan origination fees and costs. Management has the ability and intent to hold its loans receivable for the foreseeable future or until maturity or pay-off.

A loan is impaired when, based on current information and events, it is probable the Company will be unable to collect all contractual principal and interest payments due in accordance with the terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Impairment is measured on a loan by loan basis for residential and commercial mortgage loans and commercial business loans by either the present value of expected future cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Company does not typically identify individual consumer loans for impairment disclosures, unless such loans are subject to a troubled debt restructuring ("TDR") agreement.

The Company periodically may agree to modify the contractual terms of loans. When a loan is modified and concessions have been made to the original contractual terms, such as reductions of interest rates or deferral of interest or principal payments due to the borrower’s financial condition, the modification is considered a TDR.

Management considers all nonaccrual loans, with the exception of certain consumer loans, to be impaired. Also, all TDRs are initially classified as impaired. In most cases, loan payments less than 90 days past due are considered minor collection delays and the related loans are generally not considered impaired.

Allowance for Loan Losses

The allowance for loan losses, a material estimate which could change significantly in the near-term, is established through a provision for loan losses charged to earnings to account for losses that are inherent in the loan portfolio and estimated to occur, and is maintained at a level that management considers adequate to absorb losses in the loan portfolio. Loan losses are charged against the allowance for loan losses when management believes the uncollectibility of the principal loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance for loan losses when received. In the determination of the allowance for loan losses, management may obtain independent appraisals for significant properties, if necessary.

Management's judgment in determining the adequacy of the allowance is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. The allowance for loan losses is evaluated on a monthly basis by management and is based on the evaluation of the known and inherent risk characteristics and size and composition of the loan portfolio, the assessment of current economic and real estate market conditions, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral, historical loan loss experience, the level and trends of nonperforming loans, delinquencies, classified assets and loan charge-offs and evaluations of loans and other relevant factors.

The allowance for loan losses consists of the following key elements:


•	Specific allowance for identified impaired loans. For loans identified as impaired, an allowance is established when the present value of expected cash flows (or observable market price of the loan or fair value of the collateral if the loan is collateral dependent) of the impaired loan is lower than the carrying value of that loan.


•	General valuation allowance. The general component represents a valuation allowance on the remainder of the loan portfolio, after excluding impaired loans. For this portion of the allowance, loans are segregated by category and assigned an allowance percentage based on historical loan loss experience

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SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

adjusted for qualitative factors stratified by the following loan segments: residential one- to four-family, multi-family and commercial real estate, construction, commercial business and consumer. Management uses a rolling average of historical losses based on the time frame appropriate to capture relevant loss data for each loan segment. This historical loss factor is adjusted for the following qualitative factors: changes in lending policies and procedures, including changes in underwriting standards and collection, charge-off and recovery practices; changes in international, national, regional and local economic and business conditions and developments that affect the collectibility of the portfolio, including the condition of various market segments; changes in the nature and volume of the loan portfolio and in the terms of the loans; changes in the experience, ability, and depth of lending management and other relevant staff; changes in the volume and severity of past due loans, the volume of nonaccrual loans and the volume and severity of adversely classified or graded loans; changes in the quality of the loan review system; changes in the underlying collateral for collateral-dependent loans; the existence and effect of any concentrations of credit and changes in the level of such concentrations; the effect of other external factors such as competition and legal and regulatory capital requirements on the level of estimated credit losses in the portfolio.

The qualitative factors are determined based on the following various risk characteristics for each loan segment. Risk characteristics relevant to each portfolio segment are as follows:

•

Residential – One- to Four-Family – The Bank primarily originates conventional loans with loan-to-value ratios less than 95% and generally originates loans with loan-to-value ratios in excess of 80% only when secured by first liens on owner-occupied one- to four-family residences. Loans with loan-to-value ratios in excess of 80% generally require private mortgage insurance or additional collateral. All loans in this segment are collateralized by owner-occupied residential real estate and repayment is dependent on the credit quality of the individual borrower. The overall health of the economy, including unemployment rates and housing prices, will have an effect on the credit quality of this segment.

•

Multi-family and Commercial – Loans in this segment are originated for the purpose of acquiring, developing, improving or refinancing multi-family and commercial real estate where the property is the primary collateral securing the loan, and the income generated from the property is the primary repayment source. The underlying cash flows generated by the properties can be adversely impacted by the economy as evidenced by increased vacancy rates. Payments on loans secured by income-producing properties often depend on the successful operation and management of the properties. Management continually monitors the cash flows of these loans.

•

Construction – This segment includes loans to individuals, and to a lesser extent, builders to finance the construction of residential dwellings. The Bank also originates construction loans for commercial development projects. Upon the completion of construction, the loan generally converts to a permanent mortgage loan. Credit risk is affected by cost overruns, correct estimates of the sale price of the property, time to sell at an adequate price and market conditions.

•

Commercial Business – Loans in this segment are made to businesses and are generally secured by assets of the business. Repayment is expected from the cash flows of the business. A weakened economy and reduced viability of the industry in which the customer operates will have a negative impact on the credit quality in this segment. The Bank also provides loans to investors in the time share industry, which are secured by consumer receivables, and provides loans for capital improvements to condominium associations, which are secured by the assigned rights to levy special assessments to condominium owners.


•	Consumer – Loans in this segment primarily include home equity lines of credit (representing both first and second liens), indirect automobile loans and, to a lesser extent, loans secured by marketable

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SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

securities, passbook or certificate accounts, motorcycles, automobiles and recreational vehicles, as well as unsecured loans. Consumer loan collections depend on the borrower’s continuing financial stability, and therefore, are more likely to be adversely affected by job loss, divorce, illness or personal bankruptcy.

In computing the allowance for loan losses, we do not assign a general valuation allowance to the Small Business Administration (“SBA”) and United States Department of Agriculture (“USDA”) loans that we purchase as such loans are fully guaranteed. These loans are included in commercial business loans. See Note 4 for details.

The majority of the Company's loans are collateralized by real estate located in eastern Connecticut and Rhode Island. To a lesser extent, certain commercial real estate loans are secured by collateral located outside of our primary market area. Accordingly, the collateral value of a substantial portion of the Company's loan portfolio and real estate acquired through foreclosure is susceptible to changes in local market conditions.

Although management believes it uses the best information available to establish the allowance for loan losses, future adjustments to the allowance for loan losses may be necessary and the Company’s results of operations could be adversely affected if circumstances differ substantially from the assumptions used in making the determinations. Furthermore, while management believes it has established the allowance for loan losses in conformity with GAAP, our regulators, in reviewing the loan portfolio, may request us to increase our allowance for loan losses based on judgments different from ours. In addition, because future events affecting borrowers and collateral cannot be predicted with certainty, the existing allowance for loan losses may not be adequate or increases may be necessary should the quality of any loans deteriorate as a result of the factors discussed above. Any material increase in the allowance for loan losses would adversely affect the Company’s financial condition and results of operations.

Interest and Fees on Loans

Interest on loans is accrued and included in net interest income based on contractual rates applied to principal amounts outstanding. Accrual of interest is discontinued when loan payments are 90 days or more past due, based on contractual terms, or when, in the judgment of management, collectibility of the loan or loan interest becomes uncertain. Subsequent recognition of income occurs only to the extent payment is received subject to management's assessment of the collectibility of the remaining interest and principal. A nonaccrual loan is restored to accrual status when it is no longer delinquent and collectibility of interest and principal is no longer in doubt and the borrower has made regular payments in accordance with the terms of the loan over a period of at least six months. Interest collected on nonaccrual loans is recognized only to the extent cash payments are received, and may be recorded as a reduction to principal if the collectibility of the principal balance of the loan is unlikely.

Loan origination fees, direct loan origination costs and loan purchase premiums are deferred, and the net amount is recognized as an adjustment of the related loan's yield utilizing the interest method over the contractual life of the loan. In addition, discounts related to fair value adjustments for loans receivable acquired in a business combination or asset purchase are accreted into earnings over the contractual term as an adjustment of the loan's yield. The Company periodically evaluates the cash flows expected to be collected for loans acquired with deteriorated credit quality. Changes in the expected cash flows compared to the expected cash flows as of the date of acquisition may impact the accretable yield or result in a charge to the provision for loan losses to the extent of a shortfall.

Common Share Repurchases

The Company is chartered in the state of Maryland. Maryland law does not provide for treasury shares, rather shares repurchased by the Company constitute authorized but unissued shares. GAAP states that accounting for treasury stock shall conform to state law. Therefore, the cost of shares repurchased by the Company has been allocated to common stock, additional paid-in capital and retained earnings balances.

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SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

Recent Accounting Pronouncements

Receivables - Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure. In January 2014, the Financial Accounting Standards Board ("FASB") issued amended guidance that clarifies when a creditor should be considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan such that the loan receivable should be derecognized and the real estate property recognized. The amended guidance clarifies that an in substance repossession or foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, upon either (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. In addition, the amended guidance requires interim and annual disclosures of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. The amended guidance may be applied prospectively or through a modified retrospective approach and is effective for fiscal years, and interim periods within those years, beginning after December 15, 2014, with early adoption permitted. The adoption of the amended guidance did not have a material impact on the Company’s consolidated financial statements.

Receivables - Troubled Debt Restructurings by Creditors (Subtopic 310-40): Classification of Certain Government-Guaranteed Mortgage Loans upon Foreclosure - In August 2014, the FASB issued amended guidance that addresses the diversity in practice regarding the classification and measurement of foreclosed loans which were part of a government-sponsored loan guarantee program (e.g. HUD, FHA, VA). The amended guidance outlines certain criteria that, if met, the loan (residential or commercial) should be derecognized and a separate other receivable should be recorded upon foreclosure at the amount of the loan balance (principal and interest) expected to be recovered from the guarantor. This amended guidance will be effective for annual reporting periods beginning after December 15, 2014, including interim periods within that reporting period. Early adoption is permitted, provided the entity has adopted Receivables - Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure. The amended guidance should be adopted either prospectively or on a modified retrospective basis. The adoption of the amended guidance did not have a material impact on the Company’s consolidated financial statements.

Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs - In April 2015, the FASB issued guidance, as part of its initiative to reduce complexity in accounting standards, simplifying the presentation of debt issuance costs. The amended guidance requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The amended guidance should be applied on a retrospective basis and is effective for fiscal years, and interim periods within those years, beginning after December 15, 2015, with early adoption permitted. The adoption of the amended guidance is not expected to have a material impact on the Company's consolidated financial statements.

NOTE 2. EARNINGS PER SHARE

Basic earnings per share is calculated by dividing the net income available to common shareholders by the weighted average number of common shares outstanding during the period. Unvested restricted shares are considered outstanding in the computation of basic earnings per share since the shares participate in dividends and the rights to the dividends are non-forfeitable. Diluted earnings per share is computed in a manner similar to basic earnings per share except that the weighted average number of common shares outstanding is increased to include the incremental common shares (as computed using the treasury stock method) that would have been outstanding if all potentially dilutive common stock equivalents were issued during the period. The Company’s

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SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

common stock equivalents relate solely to stock options. Repurchased common shares and unallocated common shares held by the Bank’s ESOP are not deemed outstanding for earnings per share calculations.

Anti-dilutive shares are common stock equivalents with weighted average exercise prices in excess of the weighted average market value for the periods presented, and are not considered in diluted earnings per share calculations. The Company had anti-dilutive common shares outstanding of 333,728 and 353,332 for the three and six months ended June 30, 2015, respectively, and 384,289 and 389,393 for the three and six months ended June 30, 2014, respectively.

The computation of earnings per share is as follows:



	Three Months Ended June 30,				Six Months Ended June 30,
	2015		2014		2015		2014
	(Dollars in Thousands, Except Per Share Amounts)
Net income	$	1,005	$	914	$	1,926	$	1,820

Weighted average common shares outstanding:
Basic	12,006,510		12,341,727		12,160,268		12,318,604
Effect of dilutive stock options	25,103		45,706		31,872		46,979
Diluted	12,031,613		12,387,433		12,192,140		12,365,583

Earnings per share:
Basic	$	0.08	$	0.07	$	0.16	$	0.15
Diluted	$	0.08	$	0.07	$	0.16	$	0.15

NOTE 3. SECURITIES

Available for Sale Securities

The amortized cost, gross unrealized gains and losses and fair values of available for sale securities at June 30, 2015 and December 31, 2014 are as follows:



	June 30, 2015
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
	(In Thousands)
Debt securities:
U.S. Government and agency obligations	$	70,210	$	505	$	(233	)	$	70,482
Government-sponsored enterprises	21,346		197		(1		)	21,542
Mortgage-backed securities:⁽¹⁾
Agency - residential	71,620		806		(934		)	71,492
Non-agency - residential	241		2		(5		)	238
Corporate debt securities	1,000		—		—			1,000
Collateralized debt obligation	1,153		—		(5		)	1,148
Obligations of state and political subdivisions	1,535		145		—			1,680
Tax-exempt securities	3,191		31		(1		)	3,221
Total available for sale securities	$	170,296	$	1,686	$	(1,179	)	$	170,803

⁽¹⁾ Agency securities refer to debt obligations issued or guaranteed by government corporations or government-sponsored enterprises (“GSEs”). Non-agency securities, or private-label securities, are the sole obligation of their issuer and are not guaranteed by any of the GSEs or the U.S. Government.

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JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014



	December 31, 2014
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
	(In Thousands)
Debt securities:
U.S. Government and agency obligations	$	66,232	$	385	$	(226	)	$	66,391
Government-sponsored enterprises	27,435		120		(67		)	27,488
Mortgage-backed securities:⁽¹⁾
Agency - residential	67,008		907		(1,065		)	66,850
Non-agency - residential	254		3		(4		)	253
Corporate debt securities	1,000		—		—			1,000
Collateralized debt obligation	1,188		—		(7		)	1,181
Obligations of state and political subdivisions	3,039		167		(6		)	3,200
Tax-exempt securities	6,583		97		(3		)	6,677
Total available for sale securities	$	172,739	$	1,679	$	(1,378	)	$	173,040

⁽¹⁾ Agency securities refer to debt obligations issued or guaranteed by government corporations or GSEs. Non-agency securities, or private-label securities, are the sole obligation of their issuer and are not guaranteed by any of the GSEs or the U.S. Government.

The amortized cost and fair value of debt securities by contractual maturities at June 30, 2015 are presented below. Maturities are based on the final contractual payment dates and do not reflect the impact of potential prepayments or early redemptions. Because mortgage-backed securities ("MBS") are not due at a single maturity date, they are not included in the maturity categories in the following maturity summary.



	Amortized Cost		Fair Value
	(In Thousands)
Within 1 year	$	2,540	$	2,548
After 1 but within 5 years	46,068		46,543
After 5 but within 10 years	10,699		10,713
After 10 years	39,128		39,269
	98,435		99,073
Mortgage-backed securities	71,861		71,730
Total debt securities	$	170,296	$	170,803

The following is a summary of realized gains and losses on the sales of securities for the three and six months ended June 30, 2015 and 2014:



	Three Months Ended June 30,				Six Months Ended June 30,
	2015		2014		2015		2014
	(In Thousands)
Gross gains on sales	$	132	$	29	$	132	$	64
Gross losses on sales	—		—		—		—
Net gain on sales of securities	$	132	$	29	$	132	$	64

Proceeds from the sale of available for sale securities were $9.7 million for both the three and six months ended June 30, 2015, and $1.0 million and $1.1 million for the three and six months ended June 30, 2014, respectively.

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SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

The following tables present information pertaining to securities with gross unrealized losses at June 30, 2015 and December 31, 2014, aggregated by investment category and length of time the individual securities have been in a continuous unrealized loss position.



	Less Than 12 Months				12 Months Or More				Total
June 30, 2015	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
	(In Thousands)
U.S. Government and agency obligations	$	8,400	$	39	$	15,373	$	194	$	23,773	$	233
Government sponsored enterprises	998		1		—		—		998		1
Mortgage-backed securities:
Agency - residential	7,497		18		29,568		916		37,065		934
Non-agency - residential	—		—		118		5		118		5
Collateralized debt obligation	1,148		5		—		—		1,148		5
Tax-exempt securities	585		1		—		—		585		1
Total	$	18,628	$	64	$	45,059	$	1,115	$	63,687	$	1,179



	Less Than 12 Months				12 Months Or More				Total
December 31, 2014	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
	(In Thousands)
U.S. Government and agency obligations	$	9,273	$	15	$	16,655	$	211	$	25,928	$	226
Government-sponsored enterprises	6,974		4		3,973		63		10,947		67
Mortgage-backed securities:
Agency - residential	4,251		122		32,127		943		36,378		1,065
Non-agency - residential	—		—		127		4		127		4
Collateralized debt obligation	1,181		7		—		—		1,181		7
Obligations of state and political subdivisions	—		—		668		6		668		6
Tax-exempt securities	1,141		3		—		—		1,141		3
Total	$	22,820	$	151	$	53,550	$	1,227	$	76,370	$	1,378

At June 30, 2015, thirty-one debt securities with gross unrealized losses had aggregate depreciation of approximately 1.82% of the Company’s amortized cost basis. The majority of the unrealized losses are related to the Company’s agency MBS. There were no investments deemed other-than-temporarily impaired for the three and six months ended June 30, 2015 and 2014. The following summarizes, by security type, the basis for management’s determination during the preparation of the financial statements that the applicable investments within the Company’s securities portfolio were not other-than-temporarily impaired at June 30, 2015.

U.S. Government and Agency Obligations. The unrealized losses on the Company’s U.S. Government and agency obligations related primarily to a widening of the rate spread to comparable treasury securities. Because the decline in market value is attributable to changes in interest rates and not credit quality, and because the Company does not intend to sell these securities and it is not more likely than not that the Company will be required to sell the securities before their anticipated recovery, which may be at maturity, the Company did not consider these securities to be other-than-temporarily impaired at June 30, 2015.

Government Sponsored Enterprises. The unrealized losses on the Company's government sponsored enterprises were caused by interest rate movement. The contractual cash flows of these investments are guaranteed by a

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SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

government sponsored agency. Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost of our investment. As a result of (1) the decline in market value being attributable to changes in interest rates and not credit quality, (2) the Company's position that it does not intend to sell these securities and (3) it is not more likely than not that the Company will be required to sell the securities before their anticipated recovery, which may be at maturity, the Company did not consider these securities to be other-than-temporarily impaired at June 30, 2015.

Mortgage-backed Securities - Agency - Residential. The unrealized losses on the Company’s agency–residential mortgage-backed securities were caused by increases in the rate spread to comparable treasury securities. The Company does not expect these securities to settle at a price less than the amortized cost basis of the investments. Because the Company does not intend to sell the investments and it is not more likely than not the Company will be required to sell the investments before the recovery of their amortized cost basis, which may be at maturity, the Company did not consider these investments to be other-than-temporarily impaired at June 30, 2015.

Mortgage-backed Securities - Non-agency - Residential. The unrealized losses on the Company's non-agency - residential mortgage-backed securities relate to one investment which has been evaluated by management and no potential credit losses were identified. Because the Company does not intend to sell this security and it is not more likely than not that the Company will be required to sell this security before the recovery of its amortized cost basis, which may be maturity, the Company did not consider this investment to be other-than-temporarily impaired at June 30, 2015.

Collateralized Debt Obligations. The unrealized losses on the Company's collateralized debt obligations relate to one investment in a pooled trust preferred security ("PTPS"). The PTPS market has stabilized at depressed market values as a result of market saturation. Transactions for PTPS have been limited and have occurred primarily as a result of distressed or forced liquidation sales. The securities were widely held by hedge funds and European banks and used to offset interest rate exposure tied to LIBOR. As positions unwound, an excess supply of these securities have saturated the market.

Management evaluated current credit ratings, credit support and stress testing for future defaults related to the Company's PTPS. Management also reviewed analytics provided by the trustee and independent OTTI reviews and associated cash flow analyses performed by an independent third party. The unrealized losses on the Company's PTPS investment were caused by a lack of liquidity, credit downgrades and decreasing credit support. The increased number of bank and insurance company failures has decreased the level of credit support for this investment. A number of lower tranches have foregone payments or have received payment in kind through increased principal allocations. However, the number of deferring securities has been decreasing and a number of reinstatements have occurred recently. The Company's PTPS was upgraded to investment grade and based on its senior credit profile, management does not believe this investment will suffer from any further credit-related losses. Because the Company does not intend to sell the investment and it is not more likely than not the Company will be required to sell the investment before recovery of its amortized cost basis, which may be at maturity, the Company did not record impairment losses as of June 30, 2015.

Tax-exempt Securities. The unrealized losses on the Company's tax-exempt securities relate to one set of municipal general obligation bonds. The unrealized losses were mainly attributable to the widening of interest rate spreads for these securities since the purchase date. Management monitors the financial data of the individual municipalities to ensure that they meet minimum credit standards. Since the Company does not intend to sell this security before recovery of its amortized cost basis, which may be at maturity, the Company did not record an impairment loss at June 30, 2015.

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SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

NOTE 4. LOANS RECEIVABLE AND ALLOWANCE FOR LOAN LOSSES

Loan Portfolio

The composition of the Company’s loan portfolio at June 30, 2015 and December 31, 2014 is as follows:



	June 30, 2015			December 31, 2014
	(In Thousands)
Real estate loans:
Residential - 1 to 4 family	$	430,869		$	430,575
Multi-family and commercial	302,659			298,320
Construction	19,567			13,579
Total real estate loans	753,095			742,474

Commercial business loans:
SBA and USDA guaranteed	160,250			118,466
Time share	46,712			45,669
Condominium association	23,148			21,386
Other	67,464			66,446
Total commercial business loans	297,574			251,967

Consumer loans:
Home equity	52,346			51,093
Indirect automobile	2,731			3,692
Other	1,869			1,864
Total consumer loans	56,946			56,649

Total loans	1,107,615			1,051,090

Deferred loan origination costs, net of fees	1,594			1,571
Allowance for loan losses	(8,437		)	(7,797		)
Loans receivable, net	$	1,100,772		$	1,044,864

The Company purchased commercial business loans totaling $67.2 million during the six months months ended June 30, 2015. For the twelve months ended December 31, 2014, the Company purchased commercial loans totaling $59.9 million.

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SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

Allowance for Loan Losses

Changes in the allowance for loan losses for the three and six months ended June 30, 2015 and 2014 are as follows:



Three Months Ended June 30, 2015	Residential - 1 to 4 Family			Multi-family and Commercial			Construction		Commercial Business			Consumer			Total
	(In Thousands)
Balance at beginning of period	$	976		$	3,646		$	292	$	2,566		$	602		$	8,082
Provision for loan losses	19			117			142		51			31			360
Loans charged-off	(11		)	—			—		—			—			(11		)
Recoveries of loans previously charged-off	2			3			—		1			—			6
Balance at end of period	$	986		$	3,766		$	434	$	2,618		$	633		$	8,437

Six Months Ended June 30, 2015	Residential - 1 to 4 Family			Multi-family and Commercial			Construction		Commercial Business			Consumer			Total
	(In Thousands)
Balance at beginning of period	$	955		$	3,607		$	254	$	2,382		$	599		$	7,797
Provision for loan losses	44			176			180		260			35			695
Loans charged-off	(46		)	(20		)	—		(25		)	(1		)	(92		)
Recoveries of loans previously charged-off	33			3			—		1			—			37
Balance at end of period	$	986		$	3,766		$	434	$	2,618		$	633		$	8,437



Three Months Ended June 30, 2014	Residential - 1 to 4 Family			Multi-family and Commercial			Construction		Commercial Business			Consumer			Total
	(In Thousands)
Balance at beginning of period	$	948		$	3,602		$	184	$	1,995		$	523		$	7,252
Provision for loan losses	125			5			37		213			35			415
Loans charged-off	(106		)	(143		)	—		—			(4		)	(253		)
Recoveries of loans previously charged-off	17			1			—		—			13			31
Balance at end of period	$	984		$	3,465		$	221	$	2,208		$	567		$	7,445

Six Months Ended June 30, 2014	Residential - 1 to 4 Family			Multi-family and Commercial			Construction		Commercial Business			Consumer			Total
	(In Thousands)
Balance at beginning of period	$	975		$	3,395		$	169	$	1,875		$	502		$	6,916
Provision for loan losses	158			212			52		343			80			845
Loans charged-off	(180		)	(143		)	—		(13		)	(33		)	(369		)
Recoveries of loans previously charged-off	31			1			—		3			18			53
Balance at end of period	$	984		$	3,465		$	221	$	2,208		$	567		$	7,445

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SI FINANCIAL GROUP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

Further information pertaining to the allowance for loan losses at June 30, 2015 and December 31, 2014 is as follows:



June 30, 2015	Residential - 1 to 4 Family		Multi-family and Commercial		Construction		Commercial Business		Consumer		Total
	(In Thousands)
Allowance for loans individually evaluated and deemed to be impaired	$	264	$	43	$	—	$	124	$	3	$	434
Allowance for loans individually or collectively evaluated and not deemed to be impaired	722		3,723		434		2,494		630		8,003
Allowance for loans acquired with deteriorated credit quality	—		—		—		—		—		—
Total loan loss allowance	$	986	$	3,766	$	434	$	2,618	$	633	$	8,437

Loans individually evaluated and deemed to be impaired	$	5,489	$	2,258	$	—	$	1,183	$	82	$	9,012
Loans individually or collectively evaluated and not deemed to be impaired	425,013		296,749		19,567		296,043		56,864		1,094,236
Amount of loans acquired with deteriorated credit quality	367		3,652		—		348		—		4,367
Total loans	$	430,869	$	302,659	$	19,567	$	297,574	$	56,946	$	1,107,615



December 31, 2014	Residential - 1 to 4 Family		Multi-family and Commercial		Construction		Commercial Business		Consumer		Total
	(In Thousands)
Allowance for loans individually evaluated and deemed to be impaired	$	287	$	52	$	—	$	20	$	—	$	359
Allowance for loans individually or collectively evaluated and not deemed to be impaired	668		3,555		254		2,362		599		7,438
Allowance for loans acquired with deteriorated credit quality	—		—		—		—		—		—
Total loan loss allowance	$	955	$	3,607	$	254	$	2,382	$	599	$	7,797

Loans individually evaluated and deemed to be impaired	$	5,318	$	1,872	$	—	$	470	$	—	$	7,660
Loans individually or collectively evaluated and not deemed to be impaired	424,885		292,215		13,579		251,140		56,649		1,038,468
Amount of loans acquired with deteriorated credit quality	372		4,233		—		357		—		4,962
Total loans	$	430,575	$	298,320	$	13,579	$	251,967	$	56,649	$	1,051,090

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2015 AND 2014 AND DECEMBER 31, 2014

Past Due Loans

The following represents an aging of loans at June 30, 2015 and December 31, 2014:

June 30, 2015

30-59

Days

Past Due

60-89

Days

Past Due

90 Days or More

Past Due

Total 30

Days or More

Past Due

Current

Total

Loans

(In Thousands)

Real Estate:

Residential - 1 to 4 family