Edgar Filing: TFS Financial CORP

TFSL 10Q 6/30/2012

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, 2012



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

For transition period from to

Commission File Number 001-33390

__________________________

TFS FINANCIAL CORPORATION

(Exact Name of Registrant as Specified in its Charter)

__________________________



United States of America		52-2054948
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification No.)

7007 Broadway Avenue Cleveland, Ohio		44105
(Address of Principal Executive Offices)		(Zip Code)

(216) 441-6000

Registrant’s telephone number, including area code:

Not Applicable

(Former name or former address, if changed since last report)

__________________________

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ý 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. (Check one):



Large accelerated filer	ý		Accelerated filer	¨

Non-accelerated filer	¨	(do not check if a smaller reporting company)	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 ý.

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

As of August 3, 2012 there were 308,945,893 shares of the Registrant’s common stock, par value $0.01 per share, outstanding, of which 227,119,132 shares, or 73.5% of the Registrant’s common stock, were held by Third Federal Savings and Loan Association of Cleveland, MHC, the Registrant’s mutual holding company.

TFS Financial Corporation

INDEX



		Page
PART l – FINANCIAL INFORMATION

Item 1.	Financial Statements (unaudited)	2

	Consolidated Statements of Condition June 30, 2012 and September 30, 2011	2

	Consolidated Statements of Income Three and nine months ended June 30, 2012 and 2011	2

	Consolidated Statements of Shareholders’ Equity Nine months ended June 30, 2012 and 2011	2

	Consolidated Statements of Cash Flows Nine months ended June 30, 2012 and 2011	2

	Notes to Unaudited Interim Consolidated Financial Statements	3

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	24

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	59

Item 4.	Controls and Procedures	62

Part II — OTHER INFORMATION

Item 1.	Legal Proceedings	62

Item 1A.	Risk Factors	62

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	62

Item 3.	Defaults Upon Senior Securities	63

Item 4.	Mine Safety Disclosures	63

Item 5.	Other Information	63

Item 6.	Exhibits	63

SIGNATURES		64

Table of Contents

Item 1. Financial Statements

TFS FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CONDITION (unaudited)

(In thousands, except share data)



	June 30, 2012			September 30, 2011
ASSETS
Cash and due from banks	$	42,597		$	35,532
Other interest-earning cash equivalents	275,755			259,314
Cash and cash equivalents	318,352			294,846
Investment securities:
Available for sale (amortized cost $381,372 and $15,760, respectively)	384,479			15,899
Held to maturity (fair value $0 and $398,725, respectively)	0			392,527
	384,479			408,426
Mortgage loans held for sale, at lower of cost or market	233,154			0
Loans held for investment, net:
Mortgage loans	10,240,417			9,920,907
Other loans	4,908			6,868
Deferred loan fees, net	(17,634		)	(19,854		)
Allowance for loan losses	(107,374		)	(156,978		)
Loans, net	10,120,317			9,750,943
Mortgage loan servicing assets, net	21,805			28,919
Federal Home Loan Bank stock, at cost	35,620			35,620
Real estate owned	19,692			19,155
Premises, equipment, and software, net	60,553			59,487
Accrued interest receivable	35,152			35,854
Bank owned life insurance contracts	175,620			170,845
Other assets	90,253			88,853
TOTAL ASSETS	$	11,494,997		$	10,892,948
LIABILITIES AND SHAREHOLDERS’ EQUITY
Deposits	$	8,957,149		$	8,715,910
Borrowed funds	569,733			139,856
Borrowers’ advances for insurance and taxes	32,814			58,235
Principal, interest, and related escrow owed on loans serviced	94,539			151,859
Accrued expenses and other liabilities	35,322			53,164
Total liabilities	9,689,557			9,119,024
Commitments and contingent liabilities
Preferred stock, $0.01 par value, 100,000,000 shares authorized, none issued and outstanding	0			0
Common stock, $0.01 par value, 700,000,000 shares authorized; 332,318,750 shares shares issued; 308,945,893 and 308,915,893 outstanding at June 30, 2012 and September 30, 2011, respectively	3,323			3,323
Paid-in capital	1,691,144			1,686,216
Treasury stock, at cost; 23,372,857 and 23,402,857 shares at June 30, 2012 and September 30, 2011, respectively	(281,726		)	(282,090		)
Unallocated ESOP shares	(75,834		)	(79,084		)
Retained earnings—substantially restricted	472,185			461,836
Accumulated other comprehensive loss	(3,652		)	(16,277		)
Total shareholders’ equity	1,805,440			1,773,924
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY	$	11,494,997		$	10,892,948

See accompanying notes to unaudited consolidated financial statements.

TFS Financial Corporation and Subsidiaries

CONSOLIDATED STATEMENTS OF INCOME (unaudited)

(In thousands, except share and per share data)



	For the Three Months Ended					For the Nine Months Ended
	June 30,					June 30,
	2012			2011		2012		2011
INTEREST INCOME:
Loans, including fees	$	102,143		$	103,845	$	308,046	$	309,439
Investment securities available for sale	543			43		613		198
Investment securities held to maturity	973			2,871		4,245		9,001
Other interest and dividend earning assets	566			527		1,674		1,822
Total interest and dividend income	104,225			107,286		314,578		320,460
INTEREST EXPENSE:
Deposits	37,704			43,723		116,800		135,387
Borrowed funds	657			518		1,874		1,441
Total interest expense	38,361			44,241		118,674		136,828
NET INTEREST INCOME	65,864			63,045		195,904		183,632
PROVISION FOR LOAN LOSSES	31,000			22,500		73,000		79,500
NET INTEREST INCOME AFTER PROVISION FOR
LOAN LOSSES	34,864			40,545		122,904		104,132
NON-INTEREST INCOME
Fees and service charges, net of amortization	2,960			4,507		9,057		11,829
Increase in bank owned life insurance contracts	1,607			1,621		4,829		4,840
(Loss) income on private equity investments	(35		)	763		60		977
Other	1,779			1,868		4,485		6,199
Total non-interest income	6,311			8,759		18,431		23,845
NON-INTEREST EXPENSE
Salaries and employee benefits	18,375			19,694		59,809		56,994
Marketing services	2,376			2,102		7,130		6,306
Office property, equipment and software	5,392			4,986		15,463		14,983
Federal insurance premium and assessments	3,390			2,759		10,779		14,591
State franchise tax	1,672			1,459		4,377		3,826
Real estate owned expense, net	2,424			1,994		6,431		5,906
Appraisal and other loan review expense	322			1,005		2,475		4,907
Other operating expenses	6,791			5,553		20,077		18,958
Total non-interest expense	40,742			39,552		126,541		126,471
INCOME BEFORE INCOME TAXES	433			9,752		14,794		1,506
INCOME TAX (BENEFIT) EXPENSE	(459		)	3,767		4,421		645
NET INCOME	$	892		$	5,985	$	10,373	$	861
Earnings per share—basic and diluted	$	—		$	0.02	$	0.03	$	—
Weighted average shares outstanding
Basic	301,274,602			300,347,978		301,157,535		300,234,492
Diluted	301,936,577			301,147,673		301,681,201		300,918,065

See accompanying notes to unaudited interim consolidated financial statements.

TFS FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (unaudited)

Nine Months Ended June 30, 2012 and 2011

(In thousands)



											Accumulated other comprehensive income (loss)
	Common stock		Paid-in capital		Treasury stock		Unallocated common stock held by ESOP		Retained earnings		Unrealized gains/(losses) on securities		Pension obligation		Total shareholders’ equity
Balance at September 30, 2010	$	3,323	1,686,062		(288,366	)	(82,699	)	452,633		90		(18,146	)	$	1,752,897
Comprehensive income
Net income	—		—		—		—		861		—		—		861
Change in unrealized losses on securities available for sale	—		—		—		—		—		(31	)	—		(31		)
Change in pension obligation	—		—		—		—		—		—		5,052		5,052
Total comprehensive income															5,882
ESOP shares allocated or committed to be released	—		(281	)	—		2,531		—		—		—		2,250
Compensation costs for stock-based plans	—		5,397		(3	)	—		—		—		—		5,394
Excess tax effect from stock-based compensation	—		(36	)	—		—		—		—		—		(36		)
Treasury stock allocated to restricted stock plan	—		(581	)	572		—		9		—		—		—
Balance at June 30, 2011	$	3,323	1,690,561		(287,797	)	(80,168	)	453,503		59		(13,094	)	$	1,766,387
Balance at September 30, 2011	$	3,323	1,686,216		(282,090	)	(79,084	)	461,836		90		(16,367	)	$	1,773,924
Comprehensive income
Net income	—		—		—		—		10,373		—		—		10,373
Change in unrealized gains on securities available for sale	—		—		—		—		—		1,931		—		1,931
Change in pension obligation	—		—		—		—		—		—		10,694		10,694
Total comprehensive income															22,998
ESOP shares allocated or committed to be released	—		(235	)	—		3,250		—		—		—		3,015
Compensation costs for stock-based plans	—		5,503		—		—		—		—		—		5,503
Treasury stock allocated to restricted stock plan	—		(340	)	364		—		(24	)	—		—		—
Balance at June 30, 2012	$	3,323	1,691,144		(281,726	)	(75,834	)	472,185		2,021		(5,673	)	$	1,805,440

See accompanying notes to unaudited interim consolidated financial statements.

TFS FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)

(In thousands)



	For the Nine Months Ended
	June 30,
	2012			2011
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income	$	10,373		$	861
Adjustments to reconcile net income to net cash provided by operating activities:
ESOP and stock-based compensation expense	8,518			7,644
Depreciation and amortization	14,397			15,380
Deferred income tax (benefit) expense	(500		)	400
Provision for loan losses	73,000			79,500
Net gain on the sale of loans	—			(490		)
Other net losses	1,720			3,283
Principal repayments on loans held for sale	12,766			0
Increase in bank owned life insurance contracts	(4,822		)	(4,846		)
Net (increase) decrease in interest receivable and other assets	(9,317		)	5,992
Net (decrease) increase in accrued expenses and other liabilities	(1,388		)	48,450
Other	557			662
Net cash provided by operating activities	105,304			156,836
CASH FLOWS FROM INVESTING ACTIVITIES:
Loans originated	(2,299,916		)	(1,993,393		)
Principal repayments on loans	1,591,983			1,371,213
Proceeds from principal repayments and maturities of:
Securities available for sale	19,495			10,102
Securities held to maturity	139,533			214,681
Proceeds from sale of:
Loans	—			33,722
Real estate owned	16,950			11,201
Purchases of:
Securities available for sale	(41,919		)	(2,288		)
Securities held to maturity	(93,509		)	(12,424		)
Premises and equipment	(2,755		)	(2,279		)
Other	(35		)	(853		)
Net cash used in investing activities	(670,173		)	(370,318		)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase (decrease) in deposits	241,239			(150,045		)
Net decrease in borrowers’ advances for insurance and taxes	(25,421		)	(22,584		)
Net decrease in principal and interest owed on loans serviced	(57,320		)	(194,995		)
Net increase in short term borrowed funds	427,877			100,016
Proceeds from long term borrowed funds	5,000			29,955
Repayment of long term borrowed funds	(3,000		)	(15,000		)
Excess tax benefit related to stock-based compensation	—			(36		)
Net cash provided by (used in) financing activities	588,375			(252,689		)
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS	23,506			(466,171		)
CASH AND CASH EQUIVALENTS—Beginning of period	294,846			743,740
CASH AND CASH EQUIVALENTS—End of period	$	318,352		$	277,569
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest on deposits	$	117,280		$	136,097
Cash paid for interest on borrowed funds	1,874			1,418
Cash paid for income taxes	15,694			4,500
SUPPLEMENTAL SCHEDULES OF NONCASH INVESTING AND FINANCING ACTIVITIES:
Transfer of loans to real estate owned	17,191			17,700
Transfer of loans from held for sale to held for investment	—			25,027
Transfer of loans from held for investment to held for sale	245,920			—
Transfer of investments from held to maturity to available for sale	343,687			—

See accompanying notes to unaudited interim consolidated financial statements.

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TFS FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands unless otherwise indicated)


1.	BASIS OF PRESENTATION

TFS Financial Corporation (the “Holding Company”), a federally chartered stock holding company, conducts its principal activities through its wholly owned subsidiaries. The principal line of business of the Holding Company and its subsidiaries (collectively, “TFS Financial” or the “Company”) is retail consumer banking, including mortgage lending, deposit gathering, and other insignificant financial services. On June 30, 2012, approximately 74% of the Holding Company’s outstanding shares were owned by a federally chartered mutual holding company, Third Federal Savings and Loan Association of Cleveland, MHC (“Third Federal Savings, MHC”). The thrift subsidiary of TFS Financial is Third Federal Savings and Loan Association of Cleveland (the “Association”).

The accounting and reporting policies followed by the Company conform in all material respects to accounting principles generally accepted in the United States of America (“U.S. GAAP”) and to general practices in the financial services industry. The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements. Actual results could differ from those estimates. The allowance for loan losses, the valuation of mortgage loan servicing rights, the valuation of deferred tax assets, and the determination of pension obligations and stock-based compensation are particularly subject to change.

The unaudited interim consolidated financial statements were prepared without an audit and reflect all adjustments of a normal recurring nature which, in the opinion of management, are necessary to present fairly the consolidated financial condition of TFS Financial at June 30, 2012, and its results of operations and cash flows for the periods presented. In accordance with Regulation S-X for interim financial information, these statements do not include certain information and footnote disclosures required for complete audited financial statements. The Holding Company’s Annual Report on Form 10-K for the fiscal year ended September 30, 2011 contains consolidated financial statements and related notes, which should be read in conjunction with the accompanying interim consolidated financial statements. The results of operations for the interim periods disclosed herein are not necessarily indicative of the results that may be expected for the fiscal year ending September 30, 2012.


2.	EARNINGS PER SHARE

Basic earnings per share is the amount of earnings available to each share of common stock outstanding during the reporting period. Diluted earnings per share is the amount of earnings available to each share of common stock outstanding during the reporting period adjusted to include the effect of potentially dilutive common shares. For purposes of computing earnings per share amounts, outstanding shares include shares held by the public, shares held by the ESOP that have been allocated to participants or committed to be released for allocation to participants, the 227,119,132 shares held by Third Federal Savings, MHC, and, for purposes of computing dilutive earnings per share, stock options and restricted stock units with a dilutive impact. At June 30, 2012 and 2011, respectively, the ESOP held 7,583,445 and 8,016,786 shares that were neither allocated to participants nor committed to be released to participants.

The following is a summary of our earnings per share calculations.



	For the Three Months Ended June 30,
	2012					2011
	Income		Shares	Per share amount		Income		Shares	Per share amount
	(Dollars in thousands, except per share data)
Net income	$	892				$	5,985
Less: income allocated to restricted stock units	5					33
Basic earnings per share:
Income available to common shareholders	$	887	301,274,602	$	0.00	$	5,952	300,347,978	$	0.02
Diluted earnings per share:
Effect of dilutive potential common shares			661,975					799,695
Income available to common shareholders	$	887	301,936,577	$	0.00	$	5,952	301,147,673	$	0.02



	For the Nine Months Ended June 30,
	2012					2011
	Income		Shares	Per share amount		Income		Shares	Per share amount
	(Dollars in thousands, except per share data)
Net income	$	10,373				$	861
Less: income allocated to restricted stock units	55					5
Basic earnings per share:
Income available to common shareholders	$	10,318	301,157,535	$	0.03	$	856	300,234,492	$	0.00
Diluted earnings per share:
Effect of dilutive potential common shares			523,666					683,573
Income available to common shareholders	$	10,318	301,681,201	$	0.03	$	856	300,918,065	$	0.00

Outstanding stock options and restricted stock units are excluded from the computation of diluted earnings per share when their inclusion would be anti-dilutive. For the three and nine months ended June 30, 2012, options to purchase 6,217,925 shares and 30,000 and 76,500 restricted stock units, respectively, were outstanding but not included in the computation of diluted earnings per share because the effect would be antidilutive. For the three and nine months ended June 30, 2011, options to purchase 5,005,925 shares were outstanding but not included in the computation of diluted earnings per share because the effect would be antidilutive.


3.	INVESTMENT SECURITIES

Investments available for sale are summarized as follows:



	June 30, 2012
	Amortized Cost		Gross Unrealized					Fair Value
	Amortized Cost		Gains		Losses			Fair Value
U.S. government and agency obligations	$	2,000	$	50	$	—		$	2,050
Freddie Mac certificates	1,100		47		—			1,147
Ginnie Mae certificates	16,904		466		—			17,370
Real estate mortgage investment conduits (REMICs)	346,170		2,254		(451		)	347,973
Fannie Mae certificates	7,267		741		—			8,008
Money market accounts	7,931		—		—			7,931
Total	$	381,372	$	3,558	$	(451	)	$	384,479



	September 30, 2011
	Amortized Cost		Gross Unrealized				Fair Value
	Amortized Cost		Gains		Losses		Fair Value
U.S. government and agency obligations	$	2,000	$	46	$	—	$	2,046
REMICs	5,244		93		—		5,337
Money market accounts	8,516		—		—		8,516
Total	$	15,760	$	139	$	—	$	15,899

During the quarter ended June 30, 2012, all of the Company's investment securities previously classified as held to maturity, $343,687, were transferred to the available for sale portfolio to ensure that the securities would be eligible for inclusion in the computation of regulatory liquidity. At the time of transfer, a net unrealized gain of $2,286 was recorded in accumulated other comprehensive income. At June 30, 2012, all investment securities held by the Company are classified as available for sale.

Investment securities held to maturity are summarized as follows:



	September 30, 2011
	Amortized Cost		Gross Unrealized					Fair Value
	Amortized Cost		Gains		Losses			Fair Value
Freddie Mac certificates	$	2,724	$	118	$	—		$	2,842
Ginnie Mae certificates	19,532		501		—			20,033
REMICs	362,489		4,837		(58		)	367,268
Fannie Mae certificates	7,782		800		—			8,582
Total	$	392,527	$	6,256	$	(58	)	$	398,725

Gross unrealized losses on securities and the estimated fair value of the related securities, aggregated by investment category and length of time the individual securities have been in a continuous loss position, at June 30, 2012 and September 30, 2011, were as follows:



	June 30, 2012
	Less Than 12 Months				12 Months or More				Total
	Estimated Fair Value		Unrealized Loss		Estimated Fair Value		Unrealized Loss		Estimated Fair Value		Unrealized Loss
Available for sale—
REMICs	$	84,153	$	439	$	6,204	$	12	$	90,357	$	451
Total	$	84,153	$	439	$	6,204	$	12	$	90,357	$	451



	September 30, 2011
	Less Than 12 Months				12 Months or More				Total
	Estimated Fair Value		Unrealized Loss		Estimated Fair Value		Unrealized Loss		Estimated Fair Value		Unrealized Loss
Held to maturity—
REMICs	$	5,961	$	29	$	11,353	$	29	$	17,314	$	58
Total	$	5,961	$	29	$	11,353	$	29	$	17,314	$	58


4.	LOANS AND ALLOWANCE FOR LOAN LOSSES

Loans held for investment consist of the following:



	June 30, 2012			September 30, 2011
Real estate loans:
Residential non-Home Today	$	7,747,541		$	7,120,789
Residential Home Today	221,423			264,019
Home equity loans and lines of credit	2,239,014			2,491,198
Construction	66,262			82,048
Real estate loans	10,274,240			9,958,054
Consumer and other loans	4,908			6,868
Less:
Deferred loan fees—net	(17,634		)	(19,854		)
Loans-in-process (“LIP”)	(33,823		)	(37,147		)
Allowance for loan losses	(107,374		)	(156,978		)
Loans held for investment, net	$	10,120,317		$	9,750,943

At June 30, 2012, $233,154 of long-term, fixed-rate loans were classified as mortgage loans held for sale.

In an October 2011 directive, the Office of the Comptroller of the Currency required all specific valuation allowances (“SVA”) on collateral-dependent loans (SVAs established when the recorded investment in an impaired loan exceeded the

measured value of the collateral) maintained by savings institutions to be charged off by March 31, 2012. As permitted, the Company elected to early-adopt this methodology effective for the quarter ended December 31, 2011. As a result, reported loan charge-offs for the nine months ended June 30, 2012 were impacted by the charge-off of specific valuation allowances, which had a balance of $55,507 at September 30, 2011. This one-time charge-off did not impact the provision for loan losses for the quarter ended December 31, 2011 or the nine months ended June 30, 2012; however, reported loan charge-offs during the December 2011 quarter increased and the balances of loans, the allowance for loan losses, non-accrual status loans and loan delinquencies as of December 31, 2011, all decreased accordingly.

A large concentration of the Company’s lending is in Ohio and Florida. As of June 30, 2012 and September 30, 2011, the percentages of residential real estate loans held in Ohio were 78% and 81%, and the percentages held in Florida were 17%

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and 17%, respectively. As of June 30, 2012 and September 30, 2011, home equity loans and lines of credit were concentrated in the states of Ohio (39% and 39%), Florida (29% and 29%) and California (12% and 12%), respectively. The economic conditions and market for real estate in those states, to a greater extent Florida, have impacted the ability of borrowers in those areas to repay their loans.

Home Today is an affordable housing program targeted to benefit low- and moderate-income home buyers. Through this program, prior to March 27, 2009, the Association provided loans to borrowers who would not otherwise qualify for the Association’s loan products, generally because of low credit scores. Although the credit profiles of borrowers in the Home Today program for loans originated prior to March 27, 2009 might be described as sub-prime, Home Today loans generally contain the same features as loans offered to our non-Home Today borrowers. Borrowers in the Home Today program must complete financial management education and counseling and must be referred to the Association by a sponsoring organization with which the Association has partnered as part of the program. Borrowers must also meet a minimum credit score threshold. Because prior to March 27, 2009 the Association applied less stringent underwriting and credit standards to these loans, loans originated under the Home Today program prior to that date have greater credit risk than its traditional residential real estate mortgage loans. Effective March 27, 2009, the Home Today underwriting guidelines were changed to be substantially the same as the Association’s traditional first mortgage product. As of June 30, 2012 and September 30, 2011, the principal balance of Home Today loans originated prior to March 27, 2009 was $217,330 and $261,817, respectively. The Association does not offer, and has not offered, loan products frequently considered to be designed to target sub-prime borrowers containing features such as higher fees or higher rates, negative amortization, a loan-to-value ratio greater than 100%, or pay option adjustable-rate mortgages.

The recorded investment of loan receivables in non-accrual status is summarized in the following table. Balances are net of deferred fees.



	June 30, 2012		September 30, 2011
Real estate loans:
Residential non-Home Today	$	88,091	$	125,014
Residential Home Today	40,276		69,602
Home equity loans and lines of credit	25,255		36,872
Construction	381		3,770
Total real estate loans	154,003		235,258
Consumer and other loans	—		—
Total non-accrual loans	$	154,003	$	235,258

Loans are placed in non-accrual status when they are contractually 90 days or more past due. Loans modified in troubled debt restructurings that were in non-accrual status prior to the restructurings remain in non-accrual status for a minimum of six months. Home equity loans and lines of credit where the customer has a delinquent first mortgage greater than 90 days past due are also placed in non-accrual status. At June 30, 2012, the recorded investment in non-accrual status loans includes $8,868 of performing second lien loans subordinate to first mortgages delinquent greater than 90 days. Interest on loans in accrual status, including certain loans individually reviewed for impairment, is recognized in interest income as it accrues, on a daily basis. Accrued interest on loans in non-accrual status is reversed by a charge to interest income and income is subsequently recognized only to the extent cash payments are received. Cash payments on loans in non-accrual status are applied to the oldest scheduled, unpaid principal and interest payment first. A non-accrual loan, other than a troubled debt restructuring, a loan with a partial charge-off, or equity loan or line of credit with a delinquent first mortgage greater than 90 days, is returned to accrual status when contractual payments are less than 90 days past due. The number of days past due is determined by the number of days the oldest contractual principal and interest payment remains unpaid. Total performing non-accrual loans at June 30, 2012 and September 30, 2011 includes $12,135 and $16,465, respectively, in troubled debt restructurings which are current according to the terms of their agreement but included with non-accrual loans for a minimum period of six months from the restructuring date due to their non-accrual status prior to restructuring or because they have been partially charged-off.

Age analysis of the recorded investment in loan receivables that are past due at June 30, 2012 and September 30, 2011 is summarized in the following tables. When a loan is more than 30 days past due on its scheduled principal and interest payments, the loan is considered 30 days or more past due. Balances are net of deferred fees and any applicable loans-in-process.

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	30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total
June 30, 2012
Real estate loans:
Residential non-Home Today	$	13,909	$	7,521	$	80,698	$	102,128	$	7,621,891	$	7,724,019
Residential Home Today	9,761		4,080		31,121		44,962		172,913		217,875
Home equity loans and lines of credit	7,686		5,132		16,238		29,056		2,219,925		2,248,981
Construction	—		20		381		401		31,507		31,908
Total real estate loans	31,356		16,753		128,438		176,547		10,046,236		10,222,783
Consumer and other loans	—		—		—		—		4,908		4,908
Total	$	31,356	$	16,753	$	128,438	$	176,547	$	10,051,144	$	10,227,691



	30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total
September 30, 2011
Real estate loans:
Residential non-Home Today	$	19,509	$	9,818	$	118,517	$	147,844	$	6,942,424	$	7,090,268
Residential Home Today	12,399		7,131		59,985		79,515		183,372		262,887
Home equity loans and lines of credit	11,299		6,126		36,521		53,946		2,449,707		2,503,653
Construction	72		—		3,770		3,842		40,403		44,245
Total real estate loans	43,279		23,075		218,793		285,147		9,615,906		9,901,053
Consumer and other loans	—		—		—		—		6,868		6,868
Total	$	43,279	$	23,075	$	218,793	$	285,147	$	9,622,774	$	9,907,921

Activity in the allowance for loan losses is summarized as follows:



	For the Three Months Ended June 30, 2012
	Beginning Balance		Provisions			Charge-offs			Recoveries		Ending Balance
Real estate loans:
Residential non-Home Today	$	30,302	$	12,897		$	(9,401	)	$	265	$	34,063
Residential Home Today	20,118		7,678			(5,188		)	10		22,618
Home equity loans and lines of credit	49,331		11,148			(11,194		)	662		49,947
Construction	1,545		(723		)	(76		)	—		746
Total real estate loans	101,296		31,000			(25,859		)	937		107,374
Consumer and other loans	—		—			—			—		—
Total	$	101,296	$	31,000		$	(25,859	)	$	937	$	107,374



	For the Three Months Ended June 30, 2011
	Beginning Balance		Provisions		Charge-offs			Recoveries		Ending Balance
Real estate loans:
Residential non-Home Today	$	49,419	$	5,312	$	(5,067	)	$	131	$	49,795
Residential Home Today	24,685		4,810		(2,239		)	25		27,281
Home equity loans and lines of credit	72,510		11,830		(12,970		)	484		71,854
Construction	4,132		548		(308		)	2		4,374
Total real estate loans	150,746		22,500		(20,584		)	642		153,304
Consumer and other loans	1		—		—			—		1
Total	$	150,747	$	22,500	$	(20,584	)	$	642	$	153,305

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	For the Nine Months Ended June 30, 2012
	Beginning Balance		Provisions			Charge-offs			Recoveries		Ending Balance
Real estate loans:
Residential non-Home Today	$	49,484	$	28,537		$	(44,565	)	$	607	$	34,063
Residential Home Today	31,025		26,395			(34,896		)	94		22,618
Home equity loans and lines of credit	74,071		18,455			(44,767		)	2,188		49,947
Construction	2,398		(387		)	(1,268		)	3		746
Total real estate loans	156,978		73,000			(125,496		)	2,892		107,374
Consumer and other loans	—		—			—			—		—
Total	$	156,978	$	73,000		$	(125,496	)	$	2,892	$	107,374



	For the Nine Months Ended June 30, 2011
	Beginning Balance		Provisions		Charge-offs			Recoveries		Ending Balance
Real estate loans:
Residential non-Home Today	$	41,246	$	21,281	$	(13,027	)	$	295	$	49,795
Residential Home Today	13,331		19,451		(5,586		)	85		27,281
Home equity loans and lines of credit	73,780		38,520		(41,743		)	1,297		71,854
Construction	4,882		248		(791		)	35		4,374
Total real estate loans	133,239		79,500		(61,147		)	1,712		153,304
Consumer and other loans	1		—		—			—		1
Total	$	133,240	$	79,500	$	(61,147	)	$	1,712	$	153,305

The recorded investment in loan receivables at June 30, 2012 and September 30, 2011 is summarized in the following table. The table provides details of the recorded balances according to the method of evaluation used for determining the allowance for loan losses, distinguishing between determinations made by evaluating individual loans and determinations made by evaluating groups of loans not individually evaluated. Balances of recorded investments are net of deferred fees and any applicable loans-in-process.



	June 30, 2012						September 30, 2011
	Individually		Collectively		Total		Individually		Collectively		Total
Real estate loans:
Residential non-Home Today	$	138,445	$	7,585,574	$	7,724,019	$	159,924	$	6,930,344	$	7,090,268
Residential Home Today	100,693		117,182		217,875		134,381		128,506		262,887
Home equity loans and lines of credit	23,295		2,225,686		2,248,981		39,738		2,463,915		2,503,653
Construction	1,613		30,295		31,908		5,729		38,516		44,245
Total real estate loans	264,046		9,958,737		10,222,783		339,772		9,561,281		9,901,053
Consumer and other loans	—		4,908		4,908		—		6,868		6,868
Total	$	264,046	$	9,963,645	$	10,227,691	$	339,772	$	9,568,149	$	9,907,921

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An analysis of the allowance for loan losses at June 30, 2012 and September 30, 2011 is summarized in the following table. The analysis provides details of the allowance for loan losses according to the method of evaluation, distinguishing between allowances for loan losses determined by evaluating individual loans and allowances for loan losses determined by evaluating groups of loans not individually evaluated.



	June 30, 2012						September 30, 2011
	Individually		Collectively		Total		Individually		Collectively		Total
Real estate loans:
Residential non-Home Today	$	5,420	$	28,643	$	34,063	$	25,395	$	24,089	$	49,484
Residential Home Today	8,383		14,235		22,618		21,938		9,087		31,025
Home equity loans and lines of credit	2,773		47,174		49,947		14,324		59,747		74,071
Construction	46		700		746		1,255		1,143		2,398
Total real estate loans	16,622		90,752		107,374		62,912		94,066		156,978
Consumer and other loans	—		—		—		—		—		—
Total	$	16,622	$	90,752	$	107,374	$	62,912	$	94,066	$	156,978

At June 30, 2012, individually evaluated loans that required an allowance were comprised only of loans evaluated for impairment based on the present value of cash flows, such as performing troubled debt restructurings, performing second liens subordinate to first mortgages delinquent greater than 90 days and loans with a further deterioration in the fair value of collateral not yet identified as uncollectible. All other individually evaluated loans received a charge-off if applicable. At September 30, 2011, individually evaluated loans were comprised of loans evaluated for impairment based on the present value of cash flows, such as performing troubled debt restructurings, and impaired loans for which the recorded investment in the impaired loan exceeded the measured value of the collateral, previously referred to as an SVA. Effective for the quarter ended December 31, 2011, and in accordance with the previously described regulatory directive, SVAs were charged-off against the recorded loan balance.

Because many variables are considered in determining the appropriate level of general valuation allowances, directional changes in individual considerations do not always align with the directional change in the balance of a particular component of the general valuation allowance. At June 30, 2012 and September 30, 2011, respectively, individually allocated, collateral-based reserves on impaired loans were $0 and $55,507; allowances on other individually reviewed loans evaluated for impairment based on the present value of cash flows, such as performing troubled debt restructurings were $14,170 and $7,010; allowances on performing second liens subordinate to first mortgages delinquent greater than 90 days were $2,018 and $0; and allowances on loans with further deteriorations in the fair value of collateral not yet identified as uncollectible were $434 and $395. Prior to the quarter ended December 31, 2011, specific valuation allowances were assessed on impaired loans as described throughout this footnote.

Residential non-Home Today mortgage loans represent the largest portion of the residential real estate portfolio. The Company believes overall credit risk is low based on the nature, composition, collateral, products, lien position and performance of the portfolio. The portfolio does not include loan types or structures that have experienced severe performance problems at other financial institutions (sub-prime, no documentation or pay option adjustable rate mortgages).

As described earlier in this footnote, Home Today loans, particularly those originated prior to March 27, 2009, have greater credit risk than traditional residential real estate mortgage loans. At June 30, 2012, approximately 55% of Home Today loans include private mortgage insurance coverage. The majority of the coverage on these loans was provided by PMI Mortgage Insurance Co. (“PMIC”), which the Arizona Department of Insurance seized in 2011 and indicated that all claims payments would be reduced by 50%. Appropriate adjustments have been made to all of the Association’s affected valuation allowances and charge-offs, and estimated loss severity factors were increased for loans evaluated collectively. The amount of loans in our owned portfolio covered by mortgage insurance provided by PMIC as of June 30, 2012 was $319 million of which $287 million was current. The amount of loans in our owned portfolio covered by mortgage insurance provided by Mortgage Guaranty Insurance Corporation ("MGIC") as of June 30, 2012 was $124 million of which $122 million was current. As of June 30, 2012, MGIC's long-term debt rating, as published by the major credit rating agencies, did not meet the requirements to qualify as "investment grade"; however, MGIC continues to make claims payments in accordance with its contractual obligations and the Association has not increased its estimated loss severity factors related to MGIC's claim paying ability. No other loans were covered by mortgage insurers that were deferring claim payments or which we assessed as being non-investment grade.

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Home equity lines of credit represent a significant portion of the residential real estate portfolio. The state of the economy and low housing prices continue to have an adverse impact on this portfolio since the home equity lines generally are in a second lien position. Effective June 28, 2010, due to the deterioration in overall housing conditions including concerns for loans and lines in a second lien position, home equity lines of credit and home equity loans were no longer offered by the Association. Beginning March 20, 2012, the Association offers new home equity lines of credit to qualifying existing home equity customers, subject to certain property and credit performance conditions.

Construction loans generally have greater credit risk than traditional residential real estate mortgage loans. The repayment of these loans depends upon the sale of the property to third parties or the availability of permanent financing upon completion of all improvements. In the event we make a loan on property that is not yet approved for the planned development, there is the risk that approvals will not be granted or will be delayed. These events may adversely affect the borrower and the collateral value of the property. Construction loans also expose the Association to the risk that improvements will not be completed on time in accordance with specifications and projected costs. In addition, the ultimate sale or rental of the property may not occur as anticipated. Effective August 30, 2011, the Association made the strategic decision to exit the commercial construction loan business and ceased accepting new builder relationships. Existing builder commitments to provide additional financing will be honored for a period of not longer than one year, giving our customers the ability to secure new borrowing relationships.

Reflective of the much publicized foreclosure and mortgage servicing problems that have confronted the industry, the Company has generally experienced longer foreclosure timelines than those experienced in the past, particularly in Florida. The longer foreclosure timelines in Florida generally have a greater impact on the Association’s first position liens as opposed to subordinate liens primarily because the significant property value decline in Florida since 2008, when coupled with the subordinate lien position of home equity lending products, generally results in a high percentage of full charge-offs on the date of initial evaluation. Once a home equity loan or line of credit has been fully charged off, foreclosure timing is no longer relevant. Longer foreclosure timelines generally result in greater loss experience rates on first position liens where full charge-offs are not as prevalent, particularly to the extent that property values continue to decline during the foreclosure process. These expected higher loss experience rates are factored into the determination of collateral fair value and are considered in making charge-off decisions.

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The recorded investment and the unpaid principal balance of impaired loans, including those whose terms have been modified in troubled debt restructurings, as of June 30, 2012 and September 30, 2011 are summarized as follows. Balances of recorded investments are net of deferred fees.



	June 30, 2012						September 30, 2011
	Recorded Investment		Unpaid Principal Balance		Related Allowance		Recorded Investment		Unpaid Principal Balance		Related Allowance
With no related allowance recorded:
Residential non-Home Today	$	77,263	$	103,346	$	—	$	32,713	$	32,854	$	—
Residential Home Today	36,563		64,259		—		8,614		8,651		—
Home equity loans and lines of credit	17,941		25,984		—		12,121		12,061		—
Construction	1,201		1,574		—		798		804		—
Consumer and other loans	—		—		—		—		—		—
Total	$	132,968	$	195,163	$	—	$	54,246	$	54,370	$	—
With an allowance recorded:
Residential non-Home Today	$	61,182	$	63,004	$	5,420	$	127,211	$	127,758	$	25,395
Residential Home Today	64,130		65,666		8,383		125,767		126,309		21,938
Home equity loans and lines of credit	5,354		5,933		2,773		27,617		27,480		14,324
Construction	412		412		46		4,931		4,971		1,255
Consumer and other loans	—		—