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Small Banks: What's in Bailout for Us?

Community banks saddled with stalled construction projects are growing increasingly concerned that the federal bailout being negotiated in Congress might leave them behind.

You can find more stories like this in our On the Brink series.

Community banks saddled with stalled construction projects are growing increasingly concerned that the federal bailout being negotiated in Congress might leave them behind.


$700 billion bailout

talks between the Treasury Department and lawmakers on Capitol Hill have focused on loan modifications meant to help people avoid foreclosure and caps on executive compensation for banks and other entities that sell problem loans to the federal government. A group of lawmakers, including Sen. Christopher Dodd (D., Conn.) and Rep. Barney Frank (D., Mass.), on Thursday afternoon said a framework for an agreement had been reached, but did not offer specifics at this time.

A serious problem, as reported in the

Wall Street Journal

, is that there has so far been no mention of the bailout including purchases of distressed construction and land loans. This is especially important to community bankers, many of whom have a high concentration of nonperforming construction loans on their balance sheets. While these loans are not categorized as residential mortgages and have not been sold to

Fannie Mae



Freddie Mac


or other entities and been repackaged into securities, they are closely tied to the housing bubble and its collapse.

On an aggregate basis, U.S. banks and S&Ls had $627 billion in construction and land loans as of June 30. Out of this total, 6.08% were considered nonperforming (past due 90 or more days or in nonaccrual status), compared to 4.74% in March and just 1.32% in June 2007.

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If we include all loans past due 30 to 89 days but still considered performing, 8.09% of all construction and land loans were delinquent as of June 30, compared to 7.20% in March and 2.35% in June 2007. While roughly $50 billion in delinquent construction loans is quite a figure, it is small potatoes when considering Treasury Secretary Henry Paulson's $700 billion proposal.

Back in June, we looked at mortgage loan delinquencies at the

10 U.S. banks with the largest construction portfolios


Let's now take a look at the 20 community banks with the highest asset concentration in problem construction loans:

There are four failed banks that would have made the above list based on June 30 numbers, emphasizing the critical importance of construction lending problems to smaller institutions.

The bank that would have lead the list with problem construction loans comprising over 30% of total assets was

Integrity Bank

of Alpharetta, Ga., which was closed on Aug. 29, with all of its deposits assumed by

Regions Financial



Silver State Bank

of Henderson, Nev. was shut down on Sept. 5, with its insured deposits acquired by Nevada State Bank of Las Vegas (held by

Zions Bancorp


. Silver State would have made the list, with nonperforming construction loans comprising 12% of total assets.

First National Bank

of Reno, Nevada, had nonperforming construction loans of 10.74% total assets as of June 30. The institution, along with

First Heritage Bank

of Newport Beach, Calif. was closed by the Office of the Comptroller of the Currency in late July, with all deposits taken over by

Mutual of Omaha Bank



First Priority Bank

of Bradenton, Fla. would have also appeared on the list, with nonperforming construction loans making up 9.66% of total assets. This institution was closed by state regulators on August 1, with insured deposits taken over by




Moving on to the banks on the above table, the bolded Institutions are those that were considered less than well-capitalized as of June 30. To be well-capitalized under regulatory guidelines, a bank or S&L needs to maintain leverage and risk-based capital ratios of at least 5% and 10%.

Five of the institutions on the list are headquartered in Georgia, four in California.

Steve Bridges, president and CEO of the Community Bankers Association of Georgia pointed out that while community banks didn't make a lot of the questionable mortgage loans that helped feed the real estate bubble, their construction lending problems are directly tied to the mortgage crisis.

"Community banks should be included in the asset purchase program," he says. "If the plan is limited to Wall Street firms, it will do nothing to help the Main Street community."


of Sioux Falls is held by

Marshall BankFirst Group

, of Minneapolis, Minn. The institution lead the list with a ratio of nonperforming construction loans to total assets of 25.17% as of June 30. BankFirst remained well capitalized, with a leverage ratio of 10.66% and a risk-based capital ratio of 16.63% as of June 30. While that second ratio is the highest on our list, the capital ratios declined from 22.13% and 16.63% in March.

During the second quarter, BankFirst added $50 million to loan loss reserves, accounting for most of its $50.1 million net loss for the quarter. This brought the $346 million institution's reserves up to $77 million, or 25.81% of total loans, which kept it way ahead of the annualized net loan charge-off rate of 11.32% for the second quarter. Reserves covered 75.27% of nonperforming loans.

In a statement, the holding company's chairman Dennis M. Mathisen emphasized that BankFirst's capital levels were still double the minimum required for a well-capitalized bank, and said the $77 million in loan loss reserves was "more than adequate to protect the bank from current or future losses."

Security Bank of Gwinnett County

is a unit of

Security Bank Corp


, a $2.8 billion holding company with six banks, all headquartered in Georgia.

Security Bank Corp's spokesperson Lorraine Miller said the holding company stood behind Security Bank of Gwinnett County and would "continue to keep it and all of our banks well capitalized."

During the second quarter, Security Bank Corp. raised $68.1 million in additional capital. On a consolidated basis, the holding company's leverage and risk-based capital ratios were 7.28% and 11.69% as of June 30. On Aug. 22, the holding company suspended dividend payments, expecting to preserve and additional $1 million in capital per quarter.

Nonperforming loans on the holding company level comprised 6.47% of total assets as of June 30. Reserves covered 2.26% of total loans and the annualized ratio of net charge-offs to average loans for the second quarter was 5.86%. If charge-offs continue at this pace, the company may have to continue taking elevated loan loss provisions, further pressuring earnings and capital.

Magnet Bank

of Salt Lake City is next on the list, with nonperforming construction loans comprising 20.17% of total assets as of June 30. Magnet slipped below well-capitalized during the first quarter, when it reported a net loss of $6.4 million as it added nearly $6 million to its loan loss reserves. The institution lost another $10.7 million in the second quarter, as it reported net loan charge-offs or $7.5 million. While it was still considered adequately capitalized, with leverage and risk-based capital ratios of 5.76% and 8.25%, another quarterly loss will put it in danger of slipping to undercapitalized.

Next on the list is

Westsound Bank

of Bremerton, Wash., held by

WSB Financial Group


. This $429 million institution had nonperforming construction loans making up 19.52% of total assets as of June 30. Westsound has made large provisions for loan losses in three of the past four quarters.

The bank remained well capitalized as of June 30, with a leverage ratio of 9.74% and a risk-based capital ratio of 14.88%, the second highest on the list. Reserves covered 8.30% of total loans as of June 30, keeping way ahead of Westsound's annualized net loan charge-off rate of 1.87% for the second quarter. Loan quality has declined sharply over the past three quarters, but charge-offs have been relatively light so far.

Westsound's president and CEO, Terry Peterson, expressed confidence that the bank would collect on the majority of the nonperforming loans during 2009 and return to profitability in 2010. "We think reserves are more than adequate to cover our losses," he says. "If not, we have enough capital to make up the balance."

Peterson went on to propose an alternate plan to the bailout being discussed in Washington. Instead of a bailout focusing on securities purchases from large banks and Wall Street firms, he would rather raise FDIC deposit insurance limits to $500 thousand, while pumping an additional $500 billion into the FDIC insurance fund. Banks would be required to pay elevated deposit insurance premiums over the next several years to pay back taxpayers' money. This way, the current shake-out would continue, with "the strong eating the weak banks that took too much risk."

Read more about an alternate bailout proposal by Ratings Senior Financial Analyst Kevin Baker. Ratings provides objective, conservative financial strength ratings for all U.S. banks and thrifts. While your deposits may be under FDIC insurance limits, it is still a good idea to check out your institution's rating, and ask some questions if the rating is below a C- (Fair Financial Strength).

Another thing to consider is that you or someone you know may be affiliated with a business or municipal depositor (such as a school district) that keeps large uninsured balances in a local institution.

Financial Strength Ratings on each of the nation's 8,600 banks and savings and loans which are available at no charge on the

Banks & Thrifts Screener

. In addition, the Financial Strength Ratings for 4,000 life, health, annuity, and property/casualty insurers are available on the

Insurers & HMOs Screener


Philip W. van Doorn joined Ratings., Inc., in February 2007. He is the senior analyst responsible for assigning financial strength ratings to banks and savings and loan institutions. He also comments on industry and regulatory trends. Mr. van Doorn has fifteen years experience, having served as a loan operations officer at Riverside National Bank in Fort Pierce, Florida, and as a credit analyst at the Federal Home Loan Bank of New York, where he monitored banks in New York, New Jersey and Puerto Rico. Mr. van Doorn has additional experience in the mutual fund and computer software industries. He holds a Bachelor of Science in business administration from Long Island University.