UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark one)

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

FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2022

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

FOR THE TRANSITION PERIOD:

FROM: TO:

COMMISSION FILE NUMBER: 000-16120

SECURITY FEDERAL CORPORATION

(Exact name of registrant as specified in its charter)

South Carolina	57-0858504
(State or other jurisdiction of incorporation or organization)	(IRS Employer Identification No.)

238 Richland Avenue Northwest, Aiken, South Carolina 29801

(Address of principal executive office and Zip Code)

(803) 641-3000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or 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 every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files.) Yes [ X ] No [ ]

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

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

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.

YES NO

Indicate by check mark whether the registrant is a shell corporation (defined in Rule 12b-2 of the Exchange Act) Yes ☐ No ☒

Securities registered pursuant to Section 12(b) of the Act: None

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

CLASS:	OUTSTANDING SHARES AT:	SHARES:
Common Stock, par value $0.01 per share	November 14, 2022	3,252,884

1

PART I.	FINANCIAL INFORMATION (UNAUDITED)	PAGE NO.
Item 1.	Financial Statements (unaudited):	3
	Consolidated Balance Sheets at September 30, 2022 and December 31, 2021	3
	Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2022 and 2021	4
	Consolidated Statements of Comprehensive (Loss) Income for the Three and Nine Months Ended September 30, 2022 and 2021	5
	Consolidated Statements of Changes in Shareholders’ Equity for the Three and Nine Months Ended September 30, 2022 and 2021	6
	Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2022 and 2021	7
	Notes to Consolidated Financial Statements	8
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	30
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	44
Item 4.	Controls and Procedures	44
PART II.	OTHER INFORMATION
Item 1.	Legal Proceedings	45
Item 1A.	Risk Factors	45
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	45
Item 3.	Defaults Upon Senior Securities	45
Item 4.	Mine Safety Disclosures	45
Item 5.	Other Information	45
Item 6.	Exhibits	46
	Signatures	47

SCHEDULES OMITTED

All schedules other than those indicated above are omitted because of the absence of the conditions under which they are required or because the information is included in the consolidated financial statements and related notes.

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Part 1. Financial Information

Item 1. Financial Statements

Consolidated Balance Sheets

	September 30, 2022		December 31, 2021
	(Unaudited)		(Audited)
ASSETS:
Cash and Cash Equivalents	$	20,068,111	$	27,622,851
Certificates of Deposit with Other Banks	1,100,045		1,100,045
Investments:
Available For Sale ("AFS")	591,550,461		682,849,058
Held To Maturity ("HTM") (Fair Value of $131,615,851 and $23,720,408 at September 30, 2022 and December 31, 2021, Respectively)	137,968,847		23,506,768
Total Investments	729,519,308		706,355,826
Loans Receivable, Net:
Held For Sale	2,141,011		4,038,414
Held For Investment (Net of Allowance of $11,298,845 and $11,087,164 at September 30, 2022 and December 31, 2021, Respectively)	520,953,262		495,458,395
Total Loans Receivable, Net	523,094,273		499,496,809
Accrued Interest Receivable:
Loans	1,112,227		1,333,155
Investments	3,381,208		2,419,335
Total Accrued Interest Receivable	4,493,435		3,752,490
Operating Lease Right-of-Use ("ROU") Assets	1,974,088		2,252,424
Land Held for Sale	1,096,614		1,529,691
Premises and Equipment, Net	27,423,707		25,236,915
Federal Home Loan Bank ("FHLB") Stock, at Cost	650,500		585,700
Other Real Estate Owned ("OREO")	119,700		129,700
Bank Owned Life Insurance ("BOLI")	27,167,099		26,709,897
Goodwill	1,199,754		1,199,754
Other Assets	20,074,279		5,241,410
Total Assets	$	1,357,980,913	$	1,301,213,512
LIABILITIES:
Deposit Accounts	$	1,118,816,745	$	1,115,962,963
Borrowings from Federal Reserve Bank ("FRB")	1,000,000		—
Other Borrowings	38,809,115		26,785,393
Junior Subordinated Debentures	5,155,000		5,155,000
Subordinated Debentures	29,000,000		30,000,000
Operating Lease Liabilities	2,014,086		2,293,295
Other Liabilities	6,590,080		5,494,336
Total Liabilities	$	1,201,385,026	$	1,185,690,987
SHAREHOLDERS’ EQUITY:
Senior Non-Cumulative Perpetual Preferred Stock, Series ECIP, $1,000 Par Value; 82,949 and 0 Shares Authorized, Issued and Outstanding at September 30, 2022 and December 31, 2021, respectively	$	82,949,000	$	—
Common Stock, $0.01 Par Value; 5,000,000 Shares Authorized; 3,453,817 Shares Issued and 3,252,884 Shares Outstanding at September 30, 2022 and December 31, 2021	34,538		34,538
Additional Paid-In Capital ("APIC")	18,230,187		18,230,187
Treasury Stock, at Cost (200,933 Shares)	(4,330,712)		(4,330,712)
Accumulated Other Comprehensive (Loss) Income ("AOCI")	(41,517,322)		5,215,107
Retained Earnings	101,230,196		96,373,405
Total Shareholders' Equity	$	156,595,887	$	115,522,525
Total Liabilities and Shareholders' Equity	$	1,357,980,913	$	1,301,213,512

SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.

3

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Consolidated Statements of Income (Unaudited)

	Three Months Ended September 30,				Nine Months Ended September 30,
	2022		2021		2022		2021
Interest Income:
Loans	$	6,306,312	$	7,261,810	$	18,608,294	$	20,039,222
Investments	4,892,385		2,403,203		10,621,563		7,437,590
Other	94,436		3,401		150,699		6,450
Total Interest Income	11,293,133		9,668,414		29,380,556		27,483,262
Interest Expense:
Deposits	675,765		376,136		1,418,462		1,257,205
FHLB Advances and Other Borrowed Money	44,386		50,756		91,389		389,142
Subordinated Debentures	389,375		393,750		1,176,875		1,181,250
Junior Subordinated Debentures	49,842		23,955		111,094		72,974
Total Interest Expense	1,159,368		844,597		2,797,820		2,900,571
Net Interest Income	10,133,765		8,823,817		26,582,736		24,582,691
Reversal of Provision for Loan Losses	—		(665,000)		—		(2,270,000)
Net Interest Income After Reversal of Provision for Loan Losses	10,133,765		9,488,817		26,582,736		26,852,691
Non-Interest Income:
Gain on Sale of Loans	287,081		932,340		1,511,905		3,022,755
Service Fees on Deposit Accounts	279,909		251,440		809,287		702,548
Commissions From Insurance Agency	235,506		187,657		620,779		468,083
Trust Income	363,830		359,035		1,084,249		1,005,517
BOLI Income	150,999		155,000		457,202		485,000
ATM and Check Card Fee Income	687,773		615,568		2,109,173		1,811,216
Grant Income	—		1,826,265		170,699		1,826,265
Other	219,289		202,314		702,135		669,379
Total Non-Interest Income	2,224,387		4,529,619		7,465,429		9,990,763
Non-Interest Expense:
Compensation and Employee Benefits	5,019,920		4,757,937		14,981,146		14,145,363
Occupancy	703,310		641,555		2,110,746		1,922,369
Advertising	153,460		275,947		693,389		671,186
Depreciation and Maintenance of Equipment	751,739		781,217		2,278,890		2,354,958
FDIC Insurance Premiums	87,858		73,845		284,083		215,181
Net Cost (Recovery) from Operation of OREO	10,000		55,000		10,000		(115,840)
Writedown of Land Held for Sale	—		—		433,077		—
Consulting	179,318		182,684		513,299		512,998
Debit Card Expenses	307,092		284,434		917,225		859,357
Telephone	97,204		100,113		291,069		313,229
Postage	59,654		16,469		182,202		147,600
General Insurance	76,566		77,731		257,577		248,691
Other	831,564		801,964		2,348,375		1,829,544
Total Non-Interest Expense	8,277,685		8,048,896		25,301,078		23,104,636
Income Before Income Taxes	4,080,467		5,969,540		8,747,087		13,738,818
Provision for Income Taxes	854,664		1,327,070		1,808,450		2,993,414
Net Income	3,225,803		4,642,470		6,938,637		10,745,404
Net Income Per Common Share (Basic)	$	0.99	$	1.43	$	2.13	$	3.30
Cash Dividend Per Share on Common Stock	$	0.12	$	0.11	$	0.64	$	0.33
Weighted Average Shares Outstanding (Basic)	3,252,884		3,252,884		3,252,884		3,252,884

SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.

4

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Consolidated Statements of Comprehensive (Loss) Income (Unaudited)

	Three Months Ended September 30,
	2022		2021
Net Income	$	3,225,803	$	4,642,470
Other Comprehensive (Loss) Income:
Unrealized Holding Losses on Securities AFS, Net of Taxes of $(4,263,005) and $(923,669) at September 30, 2022 and 2021, Respectively	(13,137,592)		(2,859,580)
Amortization of Unrealized Gains on AFS Securities Transferred to HTM, Net of Taxes of $757 and $437 at September 30, 2022 and 2021, Respectively	2,270		1,311
Other Comprehensive Loss, Net of Tax	(13,135,322)		(2,858,269)
Comprehensive (Loss) Income	$	(9,909,519)	$	1,784,201

	Nine Months Ended September 30,
	2022		2021
Net Income	$	6,938,637	$	10,745,404
Other Comprehensive Loss:
Unrealized Holding Losses on Securities AFS, Net of Taxes of $(15,155,441) and $(1,588,001) at September 30, 2022 and 2021, Respectively	(46,736,556)		(4,896,535)
Amortization of Unrealized Gains on AFS Securities Transferred to HTM, Net of Taxes of $1,376 and $72 at September 30, 2022 and 2021, Respectively	4,127		215
Other Comprehensive Loss, Net of Tax	(46,732,429)		(4,896,320)
Comprehensive (Loss) Income	$	(39,793,792)	$	5,849,084

SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.

5

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Consolidated Statements of Changes in Shareholders' Equity (Unaudited)

For the Three and Nine Months Ended September 30, 2022 and 2021

	Preferred Stock		Common Stock		APIC		Treasury Stock		AOCI		Retained Earnings		Total
Balance at December 31, 2020	$	—	$	34,538	$	18,230,187	$	(4,330,712)	$	12,940,950	$	85,030,783	$	111,905,746
Net Income	—		—		—		—		—		3,178,792		3,178,792
Other Comprehensive Loss, Net of Tax	—		—		—		—		(5,465,436)		—		(5,465,436)
Cash Dividends on Common Stock	—		—		—		—		—		(357,817)		(357,817)
Balance at March 31, 2021	$	—	$	34,538	$	18,230,187	$	(4,330,712)	$	7,475,514	$	87,851,758	$	109,261,285
Net Income	—		—		—		—		—		2,924,142		2,924,142
Other Comprehensive Income, Net of Tax	—		—		—		—		3,427,385		—		3,427,385
Cash Dividends on Common Stock	—		—		—		—		—		(357,818)		(357,818)
Balance at June 30, 2021	$	—	$	34,538	$	18,230,187	$	(4,330,712)	$	10,902,899	$	90,418,082	$	115,254,994
Net Income	—		—		—		—		—		4,642,470		4,642,470
Other Comprehensive Loss, Net of Tax	—		—		—		—		(2,858,269)		—		(2,858,269)
Cash Dividends on Common Stock	—		—		—		—		—		(357,817)		(357,817)
Balance at September 30, 2021	$	—	$	34,538	$	18,230,187	$	(4,330,712)	$	8,044,630	$	94,702,735	$	116,681,378

	Preferred Stock		Common Stock		APIC		Treasury Stock		AOCI (Loss)		Retained Earnings		Total
Balance at December 31, 2021	$	—	$	34,538	$	18,230,187	$	(4,330,712)	$	5,215,107	$	96,373,405	$	115,522,525
Net Income	—		—		—		—		—		1,549,031		1,549,031
Other Comprehensive Loss, Net of Tax	—		—		—		—		(20,222,858)		—		(20,222,858)
Cash Dividends on Common Stock	—		—		—		—		—		(390,346)		(390,346)
Balance at March 31, 2022	$	—	$	34,538	$	18,230,187	$	(4,330,712)	$	(15,007,751)	$	97,532,090	$	96,458,352
Net Income	—		—		—		—		—		2,163,803		2,163,803
Other Comprehensive Loss, Net of Tax	—		—		—		—		(13,374,249)		—		(13,374,249)
Preferred Stock issuance	82,949,000		—		—		—		—		—		82,949,000
Cash Dividends on Common Stock	—		—		—		—		—		(1,301,154)		(1,301,154)
Balance at June 30, 2022	$	82,949,000	$	34,538	$	18,230,187	$	(4,330,712)	$	(28,382,000)	$	98,394,739	$	166,895,752
Net Income	—		—		—		—		—		3,225,803		3,225,803
Other Comprehensive Loss, Net of Tax	—		—		—		—		(13,135,322)		—		(13,135,322)
Cash Dividends on Common Stock	—		—		—		—		—		(390,346)		(390,346)
Balance at September 30, 2022	$	82,949,000	$	34,538	$	18,230,187	$	(4,330,712)	$	(41,517,322)	$	101,230,196	$	156,595,887

SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.

6

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Consolidated Statements of Cash Flows (Unaudited)

	Nine Months Ended
	September 30,
	2022		2021
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income	$	6,938,637	$	10,745,404
Adjustments To Reconcile Net Income To Net Cash Provided By Operating Activities:
Depreciation Expense	1,460,975		1,471,810
Discount Accretion and Premium Amortization, net	5,314,299		5,016,096
Reversal of Provision for Loan Losses	—		(2,270,000)
Earnings on BOLI	(457,202)		(485,000)
Gain on Sales of Loans	(1,511,905)		(3,022,755)
Gain on Sales of OREO	—		(105,422)
Write Down on OREO	10,000		20,000
Write Down of Land Held for Sale	433,077		—
Amortization of Operating Lease ROU Assets	278,336		247,947
Proceeds From Sale of Loans Held For Sale	47,464,791		91,709,578
Origination of Loans Held For Sale	(44,055,483)		(86,582,554)
Increase in Accrued Interest Receivable	(740,945)		(140,270)
Other, Net	1,143,235		801,185
Net Cash Provided By Operating Activities	$	16,277,815	$	17,406,019
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of Investments AFS	$	(59,674,541)	$	(122,070,342)
Proceeds from Paydowns and Maturities of Investments AFS	83,769,857		72,169,959
Purchase of Investments HTM	(118,798,583)		(8,261,528)
Proceeds from Paydowns and Maturities of Investments HTM	4,333,488		3,985,667
Proceeds from Redemption of Certificates of Deposits with Other Banks	—		250,000
Purchase of FHLB Stock	(64,800)		(1,900)
Redemption of FHLB Stock	—		1,393,300
Increase in Loans Receivable	(25,494,867)		(21,267,422)
Proceeds From Sale of OREO	—		454,332
Purchase and Improvement of Premises and Equipment	(3,647,767)		(1,091,300)
Net Cash Used By Investing Activities	$	(119,577,213)	$	(74,439,234)
CASH FLOWS FROM FINANCING ACTIVITIES:
Increase in Deposit Accounts	$	2,853,782	$	98,470,851
Repayment of FHLB Advances	—		(25,000,000)
Increase in Other Borrowings, Net	12,023,722		13,490,672
Proceeds from FRB Borrowings	202,980,000		232,140,000
Repayment of FRB Borrowings	(201,980,000)		(265,465,000)
Issuance of Preferred Stock	82,949,000		—
Repurchase of Subordinated Debenture	(1,000,000)		—
Dividends to Common Stock Shareholders	(2,081,846)		(1,073,452)
Net Cash Provided By Financing Activities	$	95,744,658	$	52,563,071
Net Decrease in Cash and Cash Equivalents	(7,554,740)		(4,470,144)
Cash and Cash Equivalents at Beginning of Period	27,622,851		18,025,409
Cash and Cash Equivalents at End of Period	$	20,068,111	$	13,555,265
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash Paid for Interest	$	2,417,879	$	2,569,016
Cash Paid for Income Taxes	1,099,000		2,995,442
Non-Cash Transactions:
Other Comprehensive Loss	(46,732,429)		(4,896,320)
Initial Recognition of Operating Lease ROU Asset	—		254,739
Initial Recognition of Operating Lease Liability	—		254,739

SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.

7

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

NOTE 1 - BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements were prepared in accordance with instructions for Form 10-Q and accounting principles generally accepted in the United States of America ("GAAP"); therefore, they do not include all disclosures necessary for a complete presentation of financial condition, results of operations, and cash flows.  Such statements are unaudited but, in the opinion of management, reflect all adjustments, which are of a normal recurring nature and necessary for a fair presentation of results for the selected interim periods.  Users of financial information produced for interim periods are encouraged to refer to the footnotes contained in the audited consolidated financial statements appearing in Security Federal Corporation’s (the “Company”) 2021 Annual Report to Shareholders which was filed as an exhibit to our Annual Report on Form 10-K for the year ended December 31, 2021 (“2021 10-K”) when reviewing interim financial statements. The unaudited consolidated results of operations for the nine months ended September 30, 2022 are not necessarily indicative of the results that may be expected for the year ending December 31, 2022 or any other period. The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

NOTE 2 - PRINCIPLES OF CONSOLIDATION

The accompanying unaudited consolidated financial statements include the accounts of the Company and its wholly owned subsidiary, Security Federal Bank (the “Bank”) and the Bank’s wholly owned subsidiaries, Security Federal Investments, Inc. ("SFINV"), Security Federal Insurance, Inc. (“SFINS”), and Security Financial Services Corporation (“SFSC”). SFINV was formed to hold investment securities and allow for better management of the securities portfolio. SFINS is an insurance agency offering auto, business, health and home insurance.  Effective April 30, 2022, Collier Jennings Financial Corporation, a wholly owned subsidiary of SFINS, and its subsidiaries, Security Federal Auto Insurance, The Auto Insurance Store Inc., and Security Federal Premium Pay Plans Inc. and its wholly owned premium finance subsidiary were dissolved. Security Federal Premium Pay Plans Inc.’s ownership interests in four other premium finance subsidiaries were disposed of at an immaterial gain. Additionally, effective April 30, 2022, previously inactive SFSC was dissolved. All significant intercompany transactions and balances have been eliminated in consolidation.

The Company has a wholly owned subsidiary, Security Federal Statutory Trust (the “Trust”), which issued and sold fixed and floating rate capital securities of the Trust.  However, under current accounting guidance, the Trust is not consolidated in the Company’s financial statements.  The Bank is primarily engaged in the business of accepting savings and demand deposits and originating mortgage loans and other loans to individuals and small businesses for various personal and commercial purposes.

NOTE 3 - CRITICAL ACCOUNTING POLICIES

The Company has adopted various accounting policies, which govern the application of accounting principles generally accepted in the United States in the preparation of our financial statements. Our significant accounting policies are described in the footnotes to the audited consolidated financial statements at December 31, 2021 included in our 2021 Annual Report to Shareholders. Certain accounting policies involve significant judgments and assumptions by management, which have a material impact on the carrying value of certain assets and liabilities, and, as such, have a greater possibility of producing results that could be materially different than originally reported. We consider these accounting policies to be critical accounting policies.  The judgments and assumptions we use are based on historical experience and other factors, which we believe to be reasonable under the circumstances.  Because of the nature of the judgments and assumptions we make, actual results could differ from these judgments and estimates which could have a material impact on our carrying values of assets and liabilities and our results of operations.

The Company believes the allowance for loan losses is a critical accounting policy that requires the most significant judgments and estimates used in preparation of the consolidated financial statements.  The impact of an unexpected and sudden large loss could deplete the allowance and potentially require increased provisions to replenish the allowance, which would negatively affect earnings. The Company provides for loan losses using the allowance method.  Accordingly, all loan losses are charged to the related allowance and all recoveries are credited to the allowance for loan losses.  Additions to the allowance for loan losses are provided by charges to operations based on various factors, which, in management’s judgment, deserve current recognition in estimating possible losses.  Such factors considered by management include the fair value of the underlying collateral, stated guarantees by the borrower (if applicable), the borrower’s ability to repay from other economic resources, growth and composition of the loan portfolio, the relationship of the allowance for loan losses to the outstanding loans, loss experience, delinquency trends, and general economic conditions.  Management evaluates the carrying value of the loans periodically and the allowance is adjusted accordingly.

8

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

While management uses the best information available to make evaluations, future adjustments may be necessary if economic conditions differ substantially from the assumptions used in making these evaluations.  The allowance for loan losses is subject to periodic evaluations by our bank regulatory agencies, including the Board of Governors of the Federal Reserve System ("Federal Reserve"), the FDIC and the South Carolina Board of Financial Institutions, which may require adjustments to be made to the allowance based upon the information that is available at the time of their examination.

The Company values impaired loans at the loan’s fair value if it is probable that the Company will be unable to collect all amounts due according to the terms of the loan agreement at the present value of expected cash flows, the market price of the loan, if available, or the value of the underlying collateral.  Expected cash flows are required to be discounted at the loan’s effective interest rate.  When the ultimate collectability of an impaired loan’s principal is in doubt, wholly or partially, all cash receipts are applied to principal.  When this doubt does not exist, cash receipts are applied under the contractual terms of the loan agreement first to interest and then to principal.  Once the recorded principal balance has been reduced to zero, future cash receipts are applied to interest income to the extent that any interest has been foregone.  Further cash receipts are recorded as recoveries of any amounts previously charged off.

The Company uses assumptions and estimates in determining income taxes payable or refundable for the current year, deferred income tax liabilities and assets for events recognized differently in its financial statements and income tax returns, and income tax expense. Determining these amounts requires analysis of certain transactions and interpretation of tax laws and regulations. The Company exercises considerable judgment in evaluating the amount and timing of recognition of the resulting tax liabilities and assets. These judgments and estimates are reevaluated on a continual basis as regulatory and business factors change. No assurance can be given that either the tax returns submitted by us or the income tax reported on the consolidated financial statements will not be adjusted by either adverse rulings by the United States Tax Court, changes in the tax code, or assessments made by the Internal Revenue Service.

NOTE 4 - EARNINGS PER SHARE

Accounting guidance specifies the computation, presentation and disclosure requirements for earnings per share (“EPS”) for entities with publicly held common stock or potential common stock such as options, warrants, convertible securities or contingent stock agreements if those securities trade in a public market. Basic EPS is computed by dividing net income by the weighted average number of common shares outstanding.  Diluted EPS is similar to the computation of basic EPS except that the denominator is increased to include the number of additional common shares that would have been outstanding if the dilutive common shares had been issued.  The dilutive effect of options outstanding under the Company’s stock option plan is reflected in diluted EPS by application of the treasury stock method. There were no stock options outstanding at September 30, 2022 or 2021; and therefore, no dilutive options were included in the calculation of diluted EPS for those periods. The following tables include a summary of the Company's basic EPS for the three and nine months ended September 30, 2022 and 2021.

	Three Months Ended September 30,
	2022					2021
	Income		Shares	EPS		Income		Shares	EPS
Basic EPS	$	3,225,803	3,252,884	$	0.99	$	4,642,470	3,252,884	$	1.43
	Nine Months Ended September 30,
	2022					2021
	Income		Shares	EPS		Income		Shares	EPS
Basic EPS	$	6,938,637	3,252,884	$	2.13	$	10,745,404	3,252,884	$	3.30

NOTE 5 - STOCK-BASED COMPENSATION

Certain officers and directors of the Company participate in incentive and non-qualified stock option plans. Options are granted at exercise prices not less than the fair value of the Company’s common stock on the date of the grant. At September 30, 2022 and 2021, the Company had no options outstanding and there was no activity during both the three and nine months ended September 30, 2022 and 2021. At those dates, there were 50,000 options available for grants.

9

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

NOTE 6 - INVESTMENTS, AVAILABLE FOR SALE ("AFS")

The amortized cost, gross unrealized gains, gross unrealized losses, and fair values of investments available for sale at the dates indicated were as follows:

	September 30, 2022
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Student Loan Pools	$	64,581,912	$	33,352	$	1,393,915	$	63,221,349
Small Business Administration (“SBA”) Bonds	109,893,553		732,050		3,169,244		107,456,359
Tax Exempt Municipal Bonds	44,440,177		186,711		2,914,934		41,711,954
Taxable Municipal Bonds	65,767,015		—		14,346,937		51,420,078
Mortgage-Backed Securities ("MBS")	361,824,048		63,849		34,147,176		327,740,721
Total Available For Sale	$	646,506,705	$	1,015,962	$	55,972,206	$	591,550,461
	December 31, 2021
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Student Loan Pools	$	71,949,517	$	317,722	$	255,678	$	72,011,561
SBA Bonds	139,854,620		1,018,231		1,079,774		139,793,077
Tax Exempt Municipal Bonds	44,757,755		5,226,600		—		49,984,355
Taxable Municipal Bonds	65,834,301		734,237		599,387		65,969,151
MBS	353,517,112		5,294,398		3,720,596		355,090,914
Total Available For Sale	$	675,913,305	$	12,591,188	$	5,655,435	$	682,849,058

Student Loan Pools are typically 97% guaranteed by the United States government while SBA bonds are 100% backed by the full faith and credit of the United States government. The majority of the MBS included in the tables above and below are issued or guaranteed by an agency of the United States government such as Ginnie Mae, or by Government Sponsored Entities ("GSEs"), including Fannie Mae and Freddie Mac. Ginnie Mae MBS are backed by the full faith and credit of the United States government, while those issued by GSEs are not. Also included in MBS in the tables above and below are private label collateralized mortgage obligation ("CMO") securities, which are issued by non-governmental real estate mortgage investment conduits and are not backed by the full faith and credit of the United States government.  At September 30, 2022, the Company held AFS private label CMO MBS with an amortized cost and fair value of $62.3 million and $56.4 million, compared to an amortized cost and fair value of $41.8 million and $41.7 million at December 31, 2021, respectively.

The amortized cost and fair value of investments AFS at September 30, 2022 are shown below by contractual maturity.  Expected maturities will differ from contractual maturities because borrowers have the right to prepay obligations with or without call or prepayment penalties. Since MBS are not due at a single maturity date, they are disclosed separately, rather than allocated over the maturity groupings set forth in the table below.

	September 30, 2022
Investment Securities AFS:	Amortized Cost		Fair Value
One Year or Less	$	539,253	$	537,497
After One – Five Years	5,898,094		5,834,644
After Five – Ten Years	82,128,559		78,136,356
More Than Ten Years	196,116,751		179,301,243
MBS AFS	361,824,048		327,740,721
Total AFS	$	646,506,705	$	591,550,461

10

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

At September 30, 2022, the amortized cost and fair value of investments AFS pledged as collateral for certain deposit accounts, FHLB advances and other borrowings were $329.8 million and $309.0 million, respectively, compared to an amortized cost and fair value of $335.6 million and $342.6 million, respectively, at December 31, 2021.

There were no sales of AFS securities during the nine months ended September 30, 2022 and 2021; and therefore, no proceeds from sales, gross gains or gross losses were recorded during those periods.

The following tables show gross unrealized losses and fair value, aggregated by investment category, and length of time that the individual AFS securities were in a continuous unrealized loss position at the dates indicated.

	September 30, 2022
	Less than 12 Months				12 Months or More				Total
	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
Student Loan Pools	$	37,822,551	$	718,181	$	23,576,616	$	675,734	$	61,399,167	$	1,393,915
SBA Bonds	13,370,130		906,319		40,092,297		2,262,925		53,462,427		3,169,244
Tax Exempt Municipal Bonds	33,440,787		2,914,934		—		—		33,440,787		2,914,934
Taxable Municipal Bonds	40,292,536		10,429,037		11,127,542		3,917,900		51,420,078		14,346,937
MBS	214,230,551		18,654,810		107,126,659		15,492,366		321,357,210		34,147,176
	$	339,156,555	$	33,623,281	$	181,923,114	$	22,348,925	$	521,079,669	$	55,972,206

	December 31, 2021
	Less than 12 Months				12 Months or More				Total
	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
Student Loan Pools	$	36,816,929	$	216,012	$	8,826,508	$	39,666	$	45,643,437	$	255,678
SBA Bonds	15,916,497		359,541		48,791,470		720,233		64,707,967		1,079,774
Taxable Municipal Bonds	28,032,194		413,490		4,342,641		185,897		32,374,835		599,387
MBS	160,097,766		2,865,948		22,951,882		854,648		183,049,648		3,720,596
	$	240,863,386	$	3,854,991	$	84,912,501	$	1,800,444	$	325,775,887	$	5,655,435

Securities classified as AFS are recorded at fair market value.  At September 30, 2022 and December 31, 2021, 443 and 199 individual AFS securities were in a loss position, including 140 and 83 securities that were in a loss position for greater than 12 months, respectively. The Company has the ability and intent to hold these securities until such time as the value recovers or the securities mature.  The increase in unrealized losses within the AFS portfolio during the nine months ended September 30, 2022 resulted in a $14.9 million increase in net deferred taxes, which is included in "Other Assets" on the Consolidated Balance Sheets at September 30, 2022.

The Company believes, based on industry analyst reports and credit ratings, that the deterioration in value is attributable to changes in market interest rates and is not in the credit quality of the issuer and therefore, these losses are not considered other-than-temporary. The Company reviews its investment securities portfolio at least quarterly and more frequently when economic conditions warrant, assessing whether there is any indication of other-than-temporary impairment (“OTTI”).

A further decline in national and local economic conditions, as a result of the effects of inflation, a inflation, a potential recession or slowed economic growth, and any governmental or societal responses to the novel coronavirus of 2019 (“COVID-19”) pandemic, among other factors, may, however, have an adverse impact on credit quality in the future and result in OTTI charges. Factors considered in the review include estimated future cash flows, length of time and extent to which market value has been less than cost, the financial condition and near term prospects of the issuer, and our intent and ability to retain the security to allow for an anticipated recovery in market value. If the review determines that there is OTTI, an impairment loss is recognized in earnings equal to the difference between the investment’s cost and its fair value at the balance sheet date of the reporting period for which the assessment is made, or the Company may recognize a portion in other comprehensive income. The fair value of investments on which OTTI is recognized then becomes the new cost basis of the investment. There was no OTTI recognized during the nine months ended September 30, 2022 and the year ended December 31, 2021.

11

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

NOTE 7 - INVESTMENTS, HELD TO MATURITY ("HTM")

The Company’s HTM portfolio is recorded at amortized cost. The amortized cost, gross unrealized gains, gross unrealized losses, and fair values of investments HTM at September 30, 2022 and December 31, 2021 were as follows:

September 30, 2022	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
US Treasury Bonds	$	34,422,185	$	—	$	657,961	$	33,764,224
SBA Bonds	3,653,646		176,069		—		3,829,715
Taxable Municipal Bonds	949,306		—		51,976		897,330
MBS	98,943,710		1,860		5,820,988		93,124,582
Total Held To Maturity	$	137,968,847	$	177,929	$	6,530,925	$	131,615,851
December 31, 2021	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
MBS	$	23,506,768	$	577,005	$	363,365	$	23,720,408
Total Held To Maturity	$	23,506,768	$	577,005	$	363,365	$	23,720,408

At September 30, 2022, the amortized cost and fair value of investments HTM that were pledged as collateral for certain deposit accounts, FHLB advances and other borrowings were $8.6 million and $8.0 million, respectively, compared to an amortized cost and fair value of $9.0 million and $9.5 million, respectively, at December 31, 2021.

The following tables show gross unrealized losses, fair value, and length of time that individual HTM securities have been in a continuous unrealized loss position at the dates indicated below.

	September 30, 2022
	Less than 12 Months				12 Months or More				Total
	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
US Treasury Bonds	$	33,764,224	$	657,961	$	—	$	—	$	33,764,224	$	657,961
Taxable Municipal Bonds	897,330		51,976		—		—		897,330		51,976
MBS	83,477,755		3,668,395		8,330,880		2,152,593		91,808,635		5,820,988
	$	118,139,309	$	4,378,332	$	8,330,880	$	2,152,593	$	126,470,189	$	6,530,925

	December 31, 2021
	Less than 12 Months				12 Months or More				Total
	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
MBS	$	9,969,587	$	206,472	$	3,442,229	$	156,893	$	13,411,816	$	363,365
	$	9,969,587	$	206,472	$	3,442,229	$	156,893	$	13,411,816	$	363,365

At September 30, 2022 and December 31, 2021, 50 and six individual HTM securities were in a loss position, including five and two securities that were in a loss position for greater than 12 months, respectively. The Company believes, based on industry analyst reports and credit ratings, that the deterioration in value was attributable to changes in market interest rates and was not in the credit quality of the issuer and therefore, the loss was not considered other-than-temporary. The Company has the ability and intent to hold these securities to maturity.

12

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

NOTE 8 - LOANS RECEIVABLE, NET

Loans receivable, net, consisted of the following as of the dates indicated below:

	September 30, 2022		December 31, 2021
Real Estate Loans:
Construction	$	104,250,955	$	100,162,260
Residential Mortgage	97,404,583		84,965,542
Commercial	246,797,162		227,751,664
Commercial and Agricultural Loans	31,501,202		44,689,391
Consumer Loans:
Home Equity Lines of Credit (HELOC)	29,954,251		28,611,516
Other Consumer	23,095,584		21,449,809
Total Loans Held For Investment, Gross	533,003,737		507,630,182
Less:
Allowance For Loan Losses	11,298,845		11,087,164
Deferred Loan Fees	751,630		1,084,623
	12,050,475		12,171,787
Total Loans Receivable, Net	$	520,953,262	$	495,458,395

During the first nine months of 2022, the Company continued its participation in the U.S. Small Business Administration (“SBA”) Paycheck Protection Program (“PPP”), by processing applications for PPP loan forgiveness. PPP loans are included in Commercial and Agricultural loans in the tables above and below and had a total balance of $55,000 at September 30, 2022 compared to $9.8 million at December 31, 2021. The balance of unamortized net deferred fees on PPP loans was $8,000 at September 30, 2022 compared to $441,000 at December 31, 2021.

The Company uses a risk based approach based on the following credit quality measures when analyzing the loan portfolio: pass, caution, special mention, and substandard. These indicators are used to rate the credit quality of loans for the purposes of determining the Company’s allowance for loan losses. Pass loans are loans that are performing and are deemed adequately protected by the net worth of the borrower or the underlying collateral value. These loans are considered to have the least amount of risk in terms of determining the allowance for loan losses. Loans that are graded as substandard are considered to have the most risk. These loans typically have an identified weakness or weaknesses and are inadequately protected by the net worth of the borrower or collateral value. All loans 90 days or more past due are automatically classified in this category. The caution and special mention categories fall in between the pass and substandard grades and consist of loans that do not currently expose the Company to sufficient risk to warrant adverse classification but possess weaknesses.

The tables below summarize the balance within each risk category by loan type, excluding loans held for sale, at September 30, 2022 and December 31, 2021.

September 30, 2022	Pass		Caution		Special Mention		Substandard		Total Loans
Construction Real Estate	$	85,290,332	$	17,068,984	$	1,541,750	$	349,889	$	104,250,955
Residential Real Estate	76,008,204		18,055,116		735,332		2,605,931		97,404,583
Commercial Real Estate	193,971,553		46,929,938		3,606,034		2,289,637		246,797,162
Commercial and Agricultural	26,859,082		4,094,485		331,731		215,904		31,501,202
Consumer HELOC	23,960,565		4,997,785		402,060		593,841		29,954,251
Other Consumer	16,163,946		6,649,604		171,910		110,124		23,095,584
Total	$	422,253,682	$	97,795,912	$	6,788,817	$	6,165,326	$	533,003,737

13

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

December 31, 2021	Pass		Caution		Special Mention		Substandard		Total Loans
Construction Real Estate	$	67,205,984	$	25,867,339	$	6,566,302	$	522,635	$	100,162,260
Residential Real Estate	65,650,970		14,506,787		2,061,598		2,746,187		84,965,542
Commercial Real Estate	185,117,439		34,263,196		5,669,666		2,701,363		227,751,664
Commercial and Agricultural	40,017,641		4,296,962		54,380		320,408		44,689,391
Consumer HELOC	23,416,585		3,987,734		624,055		583,142		28,611,516
Other Consumer	15,059,609		6,244,382		85,673		60,145		21,449,809
Total	$	396,468,228	$	89,166,400	$	15,061,674	$	6,933,880	$	507,630,182

Past Due and Non-accrual Loans

The tables below present an age analysis of past due balances by loan category at September 30, 2022 and December 31, 2021:

	September 30, 2022
	30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total Loans Receivable
Construction Real Estate	$	108,112	$	547,795	$	100,472	$	756,379	$	103,494,576	$	104,250,955
Residential Real Estate	128,333		319,082		449,007		896,422		96,508,161		97,404,583
Commercial Real Estate	713,162		64,531		358,906		1,136,599		245,660,563		246,797,162
Commercial and Agricultural	131,687		33,835		16,775		182,297		31,318,905		31,501,202
Consumer HELOC	350,385		17,439		19,420		387,244		29,567,007		29,954,251
Other Consumer	215,030		50,427		17,456		282,913		22,812,671		23,095,584
Total	$	1,646,709	$	1,033,109	$	962,036	$	3,641,854	$	529,361,883	$	533,003,737

	December 31, 2021
	30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total Loans Receivable
Construction Real Estate	$	4,291	$	114,516	$	—	$	118,807	$	100,043,453	$	100,162,260
Residential Real Estate	296,556		543,716		205,713		1,045,985		83,919,557		84,965,542
Commercial Real Estate	195,271		—		372,405		567,676		227,183,988		227,751,664
Commercial and Agricultural	79,381		133,610		—		212,991		44,476,400		44,689,391
Consumer HELOC	51,430		—		44,382		95,812		28,515,704		28,611,516
Other Consumer	93,560		3,648		8,797		106,005		21,343,804		21,449,809
Total	$	720,489	$	795,490	$	631,297	$	2,147,276	$	505,482,906	$	507,630,182

At September 30, 2022 and December 31, 2021, the Company did not have any loans that were 90 days or more past due and still accruing interest. The Company's strategy is to work with its borrowers to reach acceptable payment plans while protecting its interests in the existing collateral.  In the event an acceptable arrangement cannot be reached, the Company may have to acquire these properties through foreclosure or other means and subsequently sell, develop, or liquidate them.

14

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

The following table shows non-accrual loans by category at September 30, 2022 compared to December 31, 2021:

Non-accrual Loans:	September 30, 2022		December 31, 2021
Construction Real Estate	$	115,874	$	21,434
Residential Real Estate	1,529,370		1,389,498
Commercial Real Estate	741,081		1,057,496
Commercial and Agricultural	75,740		64,479
Consumer HELOC	112,784		141,683
Other Consumer	24,049		8,797
Total Non-accrual Loans	$	2,598,898	$	2,683,387

Allowance for Loan Losses

The following tables show the activity in the allowance for loan losses by category for the three and nine months ended September 30, 2022 and 2021:

	Three Months Ended September 30, 2022
	Real Estate								Consumer
	Construction		Residential		Commercial		Commercial and Agricultural		HELOC		Other		Total
Beginning Balance	$	2,104,386	$	1,870,696	$	4,736,314	$	1,403,818	$	606,847	$	475,893	$	11,197,954
(Reversal of) Provision for Loan Losses	99,612		(17,503)		44,664		(117,519)		(37,681)		28,427		—
Charge-Offs	—		—		—		—		—		(54,192)		(54,192)
Recoveries	15,460		9,678		77,479		1,281		38,190		12,995		155,083
Ending Balance	$	2,219,458	$	1,862,871	$	4,858,457	$	1,287,580	$	607,356	$	463,123	$	11,298,845
	Three Months Ended September 30, 2021
	Real Estate								Consumer
	Construction		Residential		Commercial		Commercial and Agricultural		HELOC		Other		Total
Beginning Balance	$	2,129,101	$	1,768,461	$	4,956,531	$	1,528,501	$	566,579	$	474,587	$	11,423,760
(Reversal of) Provision for Loan Losses	33,090		(21,578)		(196,852)		(403,030)		(58,843)		(17,787)		(665,000)
Charge-Offs	(21,460)		—		—		(800)		—		(23,702)		(45,962)
Recoveries	192,459		15,749		240,585		323		10,323		—		459,439
Ending Balance	$	2,333,190	$	1,762,632	$	5,000,264	$	1,124,994	$	518,059	$	433,098	$	11,172,237

15

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

	Nine Months Ended September 30, 2022
	Real Estate								Consumer
	Construction		Residential		Commercial		Commercial and Agricultural		HELOC		Other		Total
Beginning Balance	$	2,401,196	$	1,663,423	$	4,832,440	$	1,241,828	$	517,512	$	430,765	$	11,087,164
(Reversal of) Provision for Loan Losses	(212,761)		161,839		(100,941)		19,643		44,068		88,152		—
Charge-Offs	—		—		—		—		—		(97,884)		(97,884)
Recoveries	31,023		37,609		126,958		26,109		45,776		42,090		309,565
Ending Balance	$	2,219,458	$	1,862,871	$	4,858,457	$	1,287,580	$	607,356	$	463,123	$	11,298,845
	Nine Months Ended September 30, 2021
	Real Estate								Consumer
	Construction		Residential		Commercial		Commercial and Agricultural		HELOC		Other		Total
Beginning Balance	$	2,486,910	$	2,264,414	$	5,753,641	$	1,112,952	$	657,356	$	567,623	$	12,842,896
(Reversal of) Provision for Loan Losses	(324,719)		(541,877)		(1,149,539)		17,562		(149,620)		(121,807)		(2,270,000)
Charge-Offs	(21,460)		—		—		(7,499)		—		(81,394)		(110,353)
Recoveries	192,459		40,095		396,162		1,979		10,323		68,676		709,694
Ending Balance	$	2,333,190	$	1,762,632	$	5,000,264	$	1,124,994	$	518,059	$	433,098	$	11,172,237

16

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

Allowance for Loan Losses and Loans Receivable Evaluated for Impairment

The tables below summarize the impaired loan balances evaluated individually and collectively for impairment within the allowance for loan losses and loans receivable balances at September 30, 2022 and December 31, 2021.

	Allowance For Loan Losses						Loans Receivable
September 30, 2022	Individually Evaluated For Impairment		Collectively Evaluated For Impairment		Total		Individually Evaluated For Impairment		Collectively Evaluated For Impairment		Total
Construction Real Estate	$	—	$	2,219,458	$	2,219,458	$	115,874	$	104,135,081	$	104,250,955
Residential Real Estate	—		1,862,871		1,862,871		1,112,281		96,292,302		97,404,583
Commercial Real Estate	—		4,858,457		4,858,457		737,672		246,059,490		246,797,162
Commercial and Agricultural	—		1,287,580		1,287,580		31,446		31,469,756		31,501,202
Consumer HELOC	—		607,356		607,356		49,905		29,904,346		29,954,251
Other Consumer	—		463,123		463,123		—		23,095,584		23,095,584
Total	$	—	$	11,298,845	$	11,298,845	$	2,047,178	$	530,956,559	$	533,003,737
	Allowance For Loan Losses						Loans Receivable
December 31, 2021	Individually Evaluated For Impairment		Collectively Evaluated For Impairment		Total		Individually Evaluated For Impairment		Collectively Evaluated For Impairment		Total
Construction Real Estate	$	—	$	2,401,196	$	2,401,196	$	19,133	$	100,143,127	$	100,162,260
Residential Real Estate	—		1,663,423		1,663,423		1,128,452		83,837,090		84,965,542
Commercial Real Estate	—		4,832,440		4,832,440		1,046,974		226,704,690		227,751,664
Commercial and Agricultural	—		1,241,828		1,241,828		31,446		44,657,945		44,689,391
Consumer HELOC	—		517,512		517,512		97,302		28,514,214		28,611,516
Other Consumer	—		430,765		430,765		—		21,449,809		21,449,809
Total	$	—	$	11,087,164	$	11,087,164	$	2,323,307	$	505,306,875	$	507,630,182

Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. Non-accrual commercial loans under $200,000 and non-accrual consumer loans under $100,000 are considered immaterial and are excluded from the impairment review. Once a loan is identified as individually impaired, management measures the impairment and records the loan at fair value. Fair value is estimated using one of the following methods: fair value of the collateral less estimated costs to sell, discounted cash flows, or market value of the loan based on similar debt. The fair value of the collateral less estimated costs to sell is the most frequently used method.

The following tables present information related to impaired loans by loan category at September 30, 2022 and December 31, 2021 and for the three and nine months ended September 30, 2022 and 2021.

	September 30, 2022						December 31, 2021
Impaired Loans	Recorded Investment		Unpaid Principal Balance		Related Allowance		Recorded Investment		Unpaid Principal Balance		Related Allowance
Construction Real Estate	$	115,874	$	115,874	$	—	$	19,133	$	19,133	$	—
Residential Real Estate	1,112,281		1,649,281		—		1,128,452		1,646,952		—
Commercial Real Estate	737,672		737,672		—		1,046,974		1,046,974		—
Commercial and Agricultural	31,446		926,446		—		31,446		926,446		—
Consumer HELOC	49,905		49,905		—		97,302		97,302		—
Other Consumer	—		—		—		—		—		—
Total	$	2,047,178	$	3,479,178	$	—	$	2,323,307	$	3,736,807	$	—

17

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

	Three Months Ended September 30,
	2022				2021
Impaired Loans	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
Construction Real Estate	$	116,495	$	—	$	27,396	$	—
Residential Real Estate	1,121,686		—		1,224,991		496
Commercial Real Estate	743,998		—		1,068,681		6,887
Commercial and Agricultural	31,446		—		46,246		—
Consumer HELOC	50,725		—		152,775		—
Total	$	2,064,350	$	—	$	2,520,089	$	7,383

	Nine Months Ended September 30,
	2022				2021
Impaired Loans	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
Construction Real Estate	$	117,881	$	—	$	33,530	$	—
Residential Real Estate	1,144,363		—		1,317,557		3,149
Commercial Real Estate	756,394		—		1,086,104		11,914
Commercial and Agricultural	31,446		—		50,326		—
Consumer HELOC	52,643		—		156,049		—
Total	$	2,102,727	$	—	$	2,643,566	$	15,063

Troubled Debt Restructurings and Loan Modifications

In the course of resolving delinquent loans, the Company may choose to restructure the contractual terms of certain loans. A troubled debt restructuring ("TDR") is a restructuring in which the Company, for economic or legal reasons related to a borrower’s financial difficulties, grants a concession to a borrower that it would not otherwise consider (FASB ASC Topic 310-40).  The concessions granted on TDRs generally include terms to reduce the interest rate, extend the term of the debt obligation, or modify the payment structure on the debt obligation. The Company grants such concessions to reassess the borrower’s financial status and develop a plan for repayment. At the date of modification, TDRs are initially classified as nonaccrual TDRs. They are returned to accruing status when there is economic substance to the restructuring, there is documented credit evaluation of the borrower's financial condition, the remaining balance is reasonably assured of repayment in accordance with its modified terms, and the borrower has demonstrated sustained repayment performance in accordance with the modified terms for a reasonable period of time (generally a minimum of six months).

The Company had three TDRs with a combined balance of $394,000 included in impaired loans at September 30, 2022 compared to three TDRs with a combined balance of $694,000 at December 31, 2021. There were no loans restructured as TDRs during the nine months ended September 30, 2022 or the nine months ended September 30, 2021 and no TDRs were in default at those dates. The Company considers any loan 30 days or more past due to be in default. At September 30, 2022 and December 31, 2021, the Company had no commitments to extend additional credit to borrowers whose loan terms have been modified in a TDR. All TDRs are also classified as impaired loans and are included in the loans individually evaluated for impairment.

Our policy with respect to accrual of interest on loans restructured as a TDR follows relevant supervisory guidance.  That is, if a borrower has demonstrated performance under the previous loan terms and shows capacity to perform under the restructured loan terms, continued accrual of interest at the restructured interest rate is probable.  If a borrower was materially delinquent on payments prior to the restructuring but shows capacity to meet the restructured loan terms, the loan will likely continue as nonaccrual going forward.  Lastly, if the borrower does not perform under the restructured terms, the loan is placed on nonaccrual status.

The Company will continue to closely monitor these loans and will cease accruing interest on them if management believes that the borrowers may not continue performing based on the restructured note terms.  If, after previously being classified as a TDR, a loan is restructured a second time, then that loan is automatically placed on nonaccrual status.  The Bank's policy with respect

18

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

to nonperforming loans requires the borrower to become current and then make a minimum of six consecutive payments in accordance with the loan terms before that loan can be placed back on accrual status.  Further, the borrower must show capacity to continue performing into the future prior to restoration of accrual status.

NOTE 9 - DEPOSITS

Deposits outstanding as of September 30, 2022 and December 31, 2021 are summarized below by account type.

Deposit Account Type	September 30, 2022		December 31, 2021
Checking	$	500,639,875	$	495,467,035
Money Market	373,055,947		366,065,262
Savings	108,996,328		97,068,740
Certificates of Deposit	136,124,595		157,361,926
Total	$	1,118,816,745	$	1,115,962,963

The Company had $5.0 million in other brokered deposits, which are included in checking and money market deposits above, at September 30, 2022 and December 31, 2021. In addition, the Company had $6.0 million and $10.0 million in brokered time deposits, and $75,000 and $68,000, in overdrafts that were reclassified to loans at September 30, 2022 and December 31, 2021, respectively.

Certificates of deposits that met or exceeded the FDIC insurance limit of $250,000 were $28.2 million and $39.4 million at September 30, 2022 and December 31, 2021, respectively.

The amounts and scheduled maturities of all certificates of deposit at September 30, 2022 and December 31, 2021 are shown below.

	September 30, 2022		December 31, 2021
Within 1 Year	$	101,104,486	$	118,119,148
After 1 Year, Within 2 Years	20,604,464		26,189,318
After 2 Years, Within 3 Years	7,447,047		7,148,260
After 3 Years, Within 4 Years	3,189,396		2,815,491
After 4 Years, Within 5 Years	3,779,202		3,089,709
Total Certificates of Deposit	$	136,124,595	$	157,361,926

NOTE 10 - BORROWINGS

The Company had $38.8 million and $26.8 million in other borrowings at September 30, 2022 and December 31, 2021, respectively. These borrowings consist of short-term repurchase agreements with certain commercial demand deposit customers for sweep accounts. The repurchase agreements typically mature within one to three days and the interest rate paid on these borrowings floats monthly with money market type rates. The interest rate paid on the repurchase agreements was 0.35% at September 30, 2022 compared to 0.15% at December 31, 2021. Collateral pledged by the Company for these repurchase agreements consisted of investments with a combined amortized cost and fair value of $53.5 million and $50.9 million at September 30, 2022 and $45.3 million and $45.2 million at December 31, 2021, respectively.

The Company had $1.0 million in outstanding borrowings from the "discount window" of the Federal Reserve Bank of Atlanta at September 30, 2022 compared to no outstanding borrowings at December 31, 2021. Depository institutions may borrow from the discount window for periods as long as 90 days, and borrowings are prepayable and renewable by the borrower on a daily basis. At September 30, 2022 and December 31, 2021, the borrowing rate was 3.25% and 0.25%, respectively. At September 30, 2022, the Company had pledged as collateral for these borrowings investment and mortgage-backed securities with an amortized cost and fair value of $73.3 million and $70.4 million, respectively, compared to an amortized cost and fair value of $79.2 million and $82.6 million, respectively, at December 31, 2021.

19

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

NOTE 11 - SUBORDINATED DEBENTURES

Junior Subordinated Debentures

In September 2006, Security Federal Statutory Trust (the "Trust"), issued and sold fixed and floating rate capital securities of the Trust (the “Capital Securities”). The Trust used the net proceeds from the sale of the Capital Securities to purchase a like amount of junior subordinated debentures (the “Debentures”) of the Company which are reported on the Consolidated Balance Sheets as junior subordinated debentures. The Capital Securities accrue and pay distributions at a floating rate of three month LIBOR plus 170 basis points annually which was equal to 4.99% at September 30, 2022 compared to 1.90% at December 31, 2021. The distribution rate payable on the Capital Securities is cumulative and payable quarterly in arrears. The Capital Securities mature or are mandatorily redeemable upon maturity on December 15, 2036, or upon earlier optional redemption as provided in the indenture. The Company has the right to redeem the Capital Securities in whole or in part.

Subordinated Debentures

In November 2019, the Company sold and issued to certain institutional investors $17.5 million in aggregate principal amount of 5.25% fixed-to-floating rate subordinated notes due 2029 (the “10-Year Notes”) and $12.5 million in aggregate principal amount of 5.25% fixed-to-floating rate subordinated notes due 2034 (the “15-Year Notes”, and together with the 10-Year Notes, the “Notes”).

The 10-Year Notes have a stated maturity of November 22, 2029, and bear interest at a fixed rate of 5.25% per year, from and including November 22, 2019 but excluding November 22, 2024. From and including November 22, 2024 to but excluding the maturity date or early redemption date, the interest rate shall reset semi-annually to an interest rate equal to the then-current three-month LIBOR rate plus 369 basis points.

The 15-Year Notes have a stated maturity of November 22, 2034, and bear interest at a fixed rate of 5.25% per year, from and including November 22, 2019 but excluding November 22, 2029. From and including November 22, 2029 to but excluding the maturity date or early redemption date, the interest rate for the 15-Year Notes shall reset semi-annually to an interest rate equal to the then-current three-month LIBOR rate plus 357 basis points. The Notes are payable semi-annually in arrears on June 1 and December 1 of each year commencing June 1, 2020.

The Notes are not subject to redemption at the option of the holder and may be redeemed by the Company only under certain limited circumstances prior to November 22, 2024, with respect to the 10-Year Notes, and November 22, 2029, with respect to the 15-Year Notes. The Company may redeem the 10-Year Notes and the 15-Year Notes at its option, in whole at any time, or in part from time to time, after November 22, 2024 and November 22, 2029, respectively. The Notes are unsecured, subordinated obligations of the Company and rank junior in right to payment to the Company’s current and future senior indebtedness, and each Note is equal in right to payment with respect to the other Notes. The Company used the net proceeds from the sale of the Notes to fund the redemption of the Convertible Debentures and for general corporate purposes.

During the quarter ended September 30, 2022 the Company repurchased $1.0 million in principal of the 10-Year Notes, leaving an aggregate remaining principal balance of $16.5 million.

20

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

NOTE 12 - REGULATORY MATTERS

The Bank, as a state-chartered, federally insured savings bank, is subject to the capital requirements established by the FDIC. Under the FDIC's capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank's assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weighting and other factors.

The Company is a bank holding company registered with the Federal Reserve. Bank holding companies are subject to capital adequacy requirements of the Federal Reserve under the Bank Holding Company Act of 1956, as amended, and the regulations of the Federal Reserve. For a bank holding company with less than $3.0 billion in assets, the capital guidelines apply on a bank only basis and the Federal Reserve expects the holding company's subsidiary banks to be well-capitalized under the prompt corrective action regulations.

Based on its capital levels at September 30, 2022, the Bank exceeded all regulatory capital requirements as of that date. Consistent with the Bank's goals to operate a sound and profitable organization, it is the Bank's policy to maintain a "well-capitalized" status under the regulatory capital categories of the FDIC. Based on capital levels at September 30, 2022, the Bank was considered to be "well-capitalized" under applicable regulatory requirements. Management monitors the capital levels to provide for current and future business opportunities and to maintain the Bank's "well-capitalized" status.

The tables below provide the Bank’s regulatory capital requirements and actual results at the dates indicated.

	Actual			For Capital Adequacy			To Be "Well-Capitalized"
	Amount		Ratio	Amount		Ratio	Amount		Ratio
September 30, 2022	Dollars in Thousands
Tier 1 Risk-Based Core Capital (To Risk Weighted Assets)	$	138,263	17.9%	$	46,448	6.0%	$	61,930	8.0%
Total Risk-Based Capital (To Risk Weighted Assets)	147,960		19.1%	61,930		8.0%	77,413		10.0%
Common Equity Tier 1 Capital (To Risk Weighted Assets)	138,263		17.9%	34,836		4.5%	50,318		6.5%
Tier 1 Leverage (Core) Capital (To Adjusted Tangible Assets)	138,263		10.3%	53,607		4.0%	67,009		5.0%
December 31, 2021
Tier 1 Risk-Based Core Capital (To Risk Weighted Assets)	$	123,783	17.4%	$	42,701	6.0%	$	56,934	8.0%
Total Risk-Based Capital (To Risk Weighted Assets)	132,706		18.6%	56,934		8.0%	71,168		10.0%
Common Equity Tier 1 Capital (To Risk Weighted Assets)	123,783		17.4%	32,025		4.5%	46,259		6.5%
Tier 1 Leverage (Core) Capital (To Adjusted Tangible Assets)	123,783		9.9%	50,169		4.0%	62,711		5.0%

In addition to the minimum capital requirements, the Bank must maintain a capital conservation buffer, which consists of additional CET1 capital greater than 2.5% of risk weighted assets above the required minimum levels in order to avoid limitations on paying dividends, repurchasing shares, and paying discretionary bonuses. At September 30, 2022, the Bank’s conservation buffer was 11.1%.

21

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

NOTE 13 - FAIR VALUE OF FINANCIAL INSTRUMENTS

GAAP requires the Company to disclose fair value of financial instruments measured at amortized cost on the balance sheet and to measure that fair value using an exit price notion, the price that would be received for an asset or paid to transfer a liability, in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date under current market conditions. Accounting guidance emphasizes that fair value is a market-based measurement, not an entity-specific measurement. Therefore, a fair value measurement should be determined based on the assumptions that market participants would use in pricing the asset or liability. As a basis for considering market participant assumptions in fair value measurements, the guidance establishes a fair value hierarchy that distinguishes between market participant assumptions based on market data obtained from sources independent of the reporting entity (observable inputs that are classified within Levels 1 and 2 of the hierarchy) and the reporting entity’s own assumptions about market participant assumptions (unobservable inputs classified within Level 3 of the hierarchy). The following three levels of inputs may be used to measure fair value:

Level 1 -	Quoted Market Price in Active Markets Valuation is based upon quoted prices (unadjusted) in active markets for identical assets or liabilities that the Company has the ability to access. Level 1 assets and liabilities include debt and equity securities and derivative contracts that are traded in an active exchange market, as well as U.S. Treasuries and money market funds.
Level 2 -	Significant Other Observable Inputs Valuation is based upon quoted prices for similar assets and liabilities in active markets, as well as inputs that are observable for the asset or liability (other than quoted prices), such as interest rates, foreign exchange rates, and yield curves that are observable at commonly quoted intervals. Level 2 assets and liabilities include debt securities with quoted prices that are traded less frequently than exchange-traded instruments, mortgage-backed securities, municipal bonds, corporate debt securities and derivative contracts whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data. This category generally includes certain derivative contracts.
Level 3 -	Significant Unobservable Inputs Valuation is generated from model-based techniques that use at least one significant assumption based on unobservable inputs for the asset or liability, which are typically based on an entity’s own assumptions, as there is little, if any, related market activity. In instances where the determination of the fair value measurement is based on inputs from different levels of the fair value hierarchy, the level in the fair value hierarchy within which the entire fair value measurement falls is based on the lowest level input that is significant to the fair value measurement in its entirety. The assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.

The following is a description of the valuation methodologies used for assets and liabilities recorded at fair value.

Investment Securities AFS

Investment securities available for sale are recorded at fair value on a recurring basis. At September 30, 2022, the Company’s investment portfolio was comprised of student loan pools, government and agency bonds, MBS issued by government agencies or GSEs, private label CMO MBS and municipal securities. Fair value measurement is based upon prices obtained from third party pricing services that use independent pricing models which rely on a variety of factors including reported trades, broker/dealer quotes, benchmark yields, economic and industry events and other relevant market information. As a result, these securities are classified as Level 2.

Mortgage Loans Held for Sale

The Company originates fixed rate residential loans on a servicing released basis in the secondary market. Loans closed but not yet settled with the FHLMC or other investors, are carried in the Company’s loans held for sale portfolio.  These loans are fixed rate residential loans that have been originated in the Company’s name and have closed.  Virtually all of these loans have commitments to be purchased by investors and the majority of these loans were locked in by price with the investors on the same day or shortly thereafter that the loan was locked in with the Company’s customers.  Therefore, these loans present very little market risk for the Company. The Company usually delivers a commitment to, and receives funding from, the investor within 30 days.  Commitments to sell these loans to the investor are considered derivative contracts and are sold to investors on a “best efforts" basis. The Company is not obligated to deliver a loan or pay a penalty if a loan is not delivered to the investor. As a result of the short-term nature of these derivative contracts, the fair value of the mortgage loans held for sale in most cases is the same as the value of the loan amount at its origination. These loans are classified as Level 2.

22

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

Land Held for Sale

Land held for sale is reported at the lower of the carrying amount or fair value less costs to sell. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral less estimated selling costs. The Company records land held for sale as nonrecurring level 3.

Impaired Loans

Loans that are considered impaired are recorded at fair value on a nonrecurring basis. Once a loan is considered impaired, the fair value is measured using one of several methods, including fair value of the collateral less estimated costs to sell, discounted cash flows, or market value of the loan based on similar debt. Those impaired loans not requiring a specific charge against the allowance represent loans for which the fair value of the expected repayments or collateral meet or exceed the recorded investment in the loan. Loans which are deemed to be impaired are primarily valued on a nonrecurring basis at the fair value of the underlying real estate collateral. Such fair values are obtained using independent appraisals, which the Company considers to be Level 3 inputs.

Other Real Estate Owned

Fair value adjustments to OREO are recorded at the lower of carrying amount of the loan or fair value of the collateral less selling costs. Any write-downs based on the asset’s fair value at the date of acquisition are charged to the allowance for loan losses. After foreclosure, management periodically performs valuations such that the real estate is carried at the lower of its new cost basis or fair value, net of estimated costs to sell. Foreclosed assets are recorded as nonrecurring Level 3.

Assets measured at fair value on a recurring basis were as follows at September 30, 2022 and December 31, 2021:

	September 30, 2022						December 31, 2021
	Level 1		Level 2		Level 3		Level 1		Level 2		Level 3
Student Loan Pools	$	—	$	63,221,349	$	—	$	—	$	72,011,561	$	—
SBA Bonds	—		107,456,359		—		—		139,793,077		—
Tax Exempt Municipal Bonds	—		41,711,954		—		—		49,984,355		—
Taxable Municipal Bonds	—		51,420,078		—		—		65,969,151		—
MBS	—		327,740,721		—		—		355,090,914		—
Total	$	—	$	591,550,461	$	—	$	—	$	682,849,058	$	—

There were no liabilities measured at fair value on a recurring basis at September 30, 2022 or December 31, 2021.

The Company may be required, from time to time, to measure certain assets at fair value on a nonrecurring basis. These include assets that are measured at the lower of cost or market that were recognized at fair value below cost at the end of the period. The tables below present assets measured at fair value on a nonrecurring basis at September 30, 2022 and December 31, 2021, aggregated by the level in the fair value hierarchy within which those measurements fall. 

	September 30, 2022
Assets:	Level 1		Level 2		Level 3		Total
Mortgage Loans Held For Sale	$	—	$	2,141,011	$	—	$	2,141,011
Collateral Dependent Impaired Loans (1)	—		—		2,047,178		2,047,178
Other Real Estate Owned	—		—		119,700		119,700
Land Held for Sale	—		—		1,096,614		1,096,614
Total	$	—	$	2,141,011	$	3,263,492	$	5,404,503

23

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

	December 31, 2021
Assets:	Level 1		Level 2		Level 3		Total
Mortgage Loans Held For Sale	$	—	$	4,038,414	$	—	$	4,038,414
Collateral Dependent Impaired Loans (1)	—		—		2,323,307		2,323,307
Other Real Estate Owned	—		—		129,700		129,700
Land Held for Sale	—		—		1,529,691		1,529,691
Total	$	—	$	4,038,414	$	3,982,698	$	8,021,112

(1) Reported net of specific reserves. There were no specific reserves at September 30, 2022 and December 31, 2021.

There were no liabilities measured at fair value on a nonrecurring basis at September 30, 2022 or December 31, 2021.

For Level 3 assets measured at fair value on a recurring or non-recurring basis at September 30, 2022 and December 31, 2021, the significant unobservable inputs used in the fair value measurements were as follows:

			Range of Inputs
Level 3 Assets	Valuation Technique	Significant Unobservable Inputs	September 30, 2022	December 31, 2021
Land Held for Sale	Appraised Value/Comparable Sales	Discounts to appraised values for estimated holding or selling costs	10%	10%
Collateral Dependent Impaired Loans	Appraised Value/ Discounted Cash Flows	Discounts to appraised values or cash flows for estimated holding and/or selling costs or age of appraisal	8% - 13%	8% - 13%
Other Real Estate Owned	Appraised Value/Comparable Sales	Discounts to appraised values for estimated holding or selling costs	36%	30%

For assets and liabilities not presented on the balance sheet at fair value, the following methods are used to determine fair value:

Cash and Cash Equivalents—The carrying amount of these financial instruments approximates fair value. All mature within 90 days and do not present unanticipated credit concerns.

Certificates of Deposit with Other Banks—Fair value is based on market prices for similar assets.

Investment Securities HTM—Investment securities held to maturity are valued at quoted market prices or dealer quotes.

Loans Receivable, Net—The fair value of loans is estimated using an exit price notion. The exit price notion uses a discounted cash flows technique to calculate the present value of expected future cash flows for a financial instrument and also incorporates other factors, such as enhanced credit risk, illiquidity risk and market factors that sometimes exist in exit prices in dislocated markets. The credit risk assumption is intended to approximate the fair value that a market participant would realize in a hypothetical orderly transaction. The Company’s loan portfolio is initially fair valued using a segmented approach. The Company divides its loan portfolio into the following categories: commercial real estate, other commercial, residential real estate, consumer and all other loans. The results are then adjusted to account for credit risk as described above.

A further credit risk discount must be applied through the use of a discounted cash flow model to compensate for illiquidity risk, based on certain assumptions included within the discounted cash flow model, primarily the use of discount rates that better capture inherent credit risk over the lifetime of a loan. This consideration of enhanced credit risk provides an estimated exit price for the Company’s loan portfolio. For variable-rate loans that reprice frequently and have no significant change in credit risk, fair values approximate carrying values.

FHLB Stock—The fair value approximates the carrying value.

Deposits—The fair value of demand deposits, savings accounts, and money market accounts is the amount payable on demand at the reporting date. The fair value of fixed-maturity certificates of deposits is estimated by discounting the future cash flows using rates currently offered for deposits of similar remaining maturities.

24

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

FHLB Advances and Borrowings from the FRB—Fair value is estimated using discounted cash flows with current market rates for borrowings with similar terms. The Company had no outstanding FHLB advances as of September 30, 2022 or December 31, 2021.

Other Borrowed Money—The carrying value of these short term borrowings approximates fair value.

Subordinated Debentures—The fair value is estimated by discounting the future cash flows using the current rates at which similar debenture offerings with similar terms and maturities would be issued by similar institutions. As discount rates are based on current debenture rates as well as management estimates, the fair values presented may not be indicative of the value negotiated in an actual sale.

Junior Subordinated Debentures—The carrying value of junior subordinated debentures approximates fair value.

The following tables provide a summary of the carrying value and estimated fair value of the Company’s financial instruments at September 30, 2022 and December 31, 2021 presented in accordance with the applicable accounting guidance.

September 30, 2022	Carrying		Fair Value
	Amount		Total		Level 1		Level 2		Level 3
Financial Assets:	Dollars in thousands
Cash and Cash Equivalents	$	20,068	$	20,068	$	20,068	$	—	$	—
Certificates of Deposits with Other Banks	1,100		1,100		—		1,100		—
Investment Securities, Available for Sale	591,550		591,550		—		591,550		—
Investment Securities, Held to Maturity	137,969		131,616		—		131,616		—
Loans Receivable, Net	520,953		501,910		—		—		501,910
Loans Held for Sale	2,141		2,141		—		—		2,141
FHLB Stock	651		651		651		—		—
Land Held for Sale	1,097		1,097		—		—		1,097
Financial Liabilities:
Deposits:
Checking, Savings & Money Market Accounts	$	982,692	$	982,692	$	982,692	$	—	$	—
Certificates of Deposits	136,125		132,569		—		132,569		—
Borrowings from FRB	1,000		1,000		1,000		—		—
Other Borrowed Money	38,809		38,809		38,809		—		—
Subordinated Debentures	29,000		27,049		—		27,049		—
Junior Subordinated Debentures	5,155		5,155		—		5,155		—

25

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

December 31, 2021	Carrying		Fair Value
	Amount		Total		Level 1		Level 2		Level 3
Financial Assets:	Dollars in thousands
Cash and Cash Equivalents	$	27,623	$	27,623	$	27,623	$	—	$	—
Certificates of Deposits with Other Banks	1,100		1,100		—		1,100		—
Investment Securities, Available for Sale	682,849		682,849		—		682,849		—
Investment Securities, Held to Maturity	23,507		23,720		—		23,720		—
Loans Receivable, Net	495,458		503,986		—		—		503,986
Loans Held for Sale	4,038		4,038		—		—		4,038
FHLB Stock	586		586		586		—		—
Land Held for Sale	1,530		1,530		—		—		1,530
Financial Liabilities:
Deposits:
Checking, Savings & Money Market Accounts	$	958,601	$	958,601	$	958,601	$	—	$	—
Certificates of Deposits	157,362		157,201		—		157,201		—
Other Borrowed Money	26,785		26,785		26,785		—		—
Subordinated Debentures	30,000		30,154		—		30,154		—
Junior Subordinated Debentures	5,155		5,155		—		5,155		—

At September 30, 2022, the Bank had $173.0 million in off-balance sheet financial commitments.  These commitments are to originate loans and unused consumer lines of credit and credit card lines.  Because these obligations are based on current market rates, if funded, the original principal amount is considered to be a reasonable estimate of fair value. Fair value estimates are made on a specific date, based on relevant market data and information about the financial instrument.  These estimates do not reflect any premium or discount that could result from offering for sale the Bank’s entire holdings of a particular financial instrument.

Because no active market exists for a significant portion of the Bank’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, current interest rates and prepayment trends, risk characteristics of various financial instruments, and other factors.  These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision.  Changes in any of these assumptions used in calculating fair value would also significantly affect the estimates. Fair value estimates are based on existing on- and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments.  For example, the Bank has significant assets and liabilities that are not considered financial assets or liabilities including deposit franchise values, loan servicing portfolios, deferred tax liabilities, and premises and equipment.

In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in any of these estimates. The Company has used management’s best estimate of fair value on the above assumptions.  Thus, the fair values presented may not be the amounts, which could be realized, in an immediate sale or settlement of the instrument.  In addition, any income taxes or other expenses that would be incurred in an actual sale or settlement are not taken into consideration in the fair value presented.

26

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

NOTE 14 - ACCOUNTING AND REPORTING CHANGES

The following is a summary of recent authoritative pronouncements that could affect accounting, reporting, and disclosure of financial information by the Company:

In June 2016, the FASB issued guidance to change the accounting for credit losses and modify the impairment model for certain debt securities. The guidance significantly changes the impairment model for most financial assets that are measured at amortized cost and certain other instruments from an incurred loss model to an expected loss model, which is commonly referred to as the current expected credit loss methodology. The amendments will be effective for the Company for reporting periods beginning after December 15, 2022. Early adoption is permitted. The Company is in the process of identifying required changes to the loan loss estimation models and processes and evaluating the impact of this new guidance. Until our evaluation is complete the impact of the change will be unknown.

In April 2019, the FASB issued guidance to provide entities that have certain financial instruments measured at amortized cost that have credit losses, to irrevocably elect the fair value option in Subtopic 825-10, upon adoption of the June 2016 guidance related to accounting for credit losses and modifying the impairment model for certain debt securities. The fair value option applies to available-for-sale debt securities. This guidance should be applied at adoption on a modified-retrospective basis as a cumulative-effect adjustment to the opening balance of retained earnings in the statement of financial condition. The Company does not expect the adoption of this guidance to have a material effect on its consolidated financial statements.

In March 2020, the FASB issued guidance that applies to contracts, hedging relationships and other transactions (e.g., loans, debt securities, derivatives, borrowings) that reference the London Interbank Offered Rate ("LIBOR") or other rate references expected to be discontinued because of reference rate reform. The guidance permits an entity to make necessary modifications to eligible contracts or transactions without requiring contract remeasurement or reassessment of a previous accounting determination. In January 2021, updated guidance was issued to clarify that certain optional expedients and exceptions in Topic 848 for contract modifications and hedge accounting apply to derivative instruments that use an interest rate for margining, discounting, or contract price alignment that is modified as a result of reference rate reform. Amendments in this guidance to the expedients and exceptions in Topic 848 capture the incremental consequences of the scope clarification and tailor the existing guidance to derivative instruments affected by the discounting transition. The amendments in this guidance have differing effective dates, beginning with an interim period including and subsequent to March 12, 2020 through December 31, 2022. The Company does not expect adoption of this guidance to have a material impact on its consolidated financial statements.

In March 2022, the FASB issued amendments which are intended to improve the decision usefulness of information provided to investors about certain loan re-financings, restructurings, and write-offs. The amendments are effective for fiscal years beginning after December 15, 2022 including interim periods within those fiscal years. Early adoption is permitted. The Company does not expect these amendments to have a material effect on its financial statements.

Other accounting standards that have been issued or proposed by the FASB or other standards-setting authorities are not expected to have a material impact on the Company’s consolidated financial position, results of operations or cash flows.

NOTE 15 - NON-INTEREST INCOME

Revenue Recognition

In accordance with Topic 606, revenues are recognized when control of promised goods or services is transferred to customers in an amount that reflects the consideration the Company expects to be entitled to in exchange for those goods or services. To determine revenue recognition for arrangements that an entity determines are within the scope of Topic 606, the Company performs the following five steps: (i) identify the contract(s) with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue when (or as) the Company satisfies a performance obligation.

The Company only applies the five-step model to contracts when it is probable that the entity will collect the consideration it is entitled to in exchange for the goods or services it transfers to the customer. At contract inception, once the contract is determined to be within the scope of Topic 606, the Company assesses the goods or services that are promised within each contract and identifies those that contain performance obligations, and assesses whether each promised good or service is distinct. The Company then recognizes as revenue the amount of the transaction price that is allocated to the respective performance obligation when (or as) the performance obligation is satisfied.

27

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

Service Fees on Deposit Accounts

The Bank earns fees from its deposit customers for account maintenance, transaction-based and overdraft services.  Account maintenance fees consist primarily of account fees and analyzed account fees charged on deposit accounts on a monthly basis.  The performance obligation is satisfied and the fees are recognized on a monthly basis as the service period is completed. Transaction-based fees on deposits accounts are charged to deposit customers for specific services provided to the customer, such as non-sufficient funds fees, overdraft fees, and wire fees. The performance obligation is completed as the transaction occurs and the fees are recognized at the time each specific service is provided to the customer.

ATM and Check Card Fee Income

Check card fee income represents fees earned when a debit card issued by the Bank is used.  The Bank earns interchange fees from debit cardholder transactions through the Mastercard payment network.  Interchange fees from cardholder transactions represent a percentage of the underlying transaction value and are recognized daily, concurrently with the transaction processing services provided to the cardholder. The performance obligation is satisfied and the fees are earned when the cost of the transaction is charged to the card.  Certain expenses directly associated with the debit card are recorded on a net basis with the fee income.

Trust Income

Trust income includes monthly advisory fees that are based on assets under management and certain transaction fees that are assessed and earned monthly, concurrently with the investment management services provided to the customer. The Bank does not charge performance based fees for its trust services and does not currently have any institutional clients, hedge funds or mutual funds. Although trust income is included within the scope of ASC 606, based on the fees charged by the Bank, there were no changes in the accounting for trust income.  

Gains/Losses on OREO Sales

Gains/losses on the sale of OREO are included in non-interest expense and are generally recognized when the performance obligation is complete. This is typically at delivery of control over the property to the buyer at the time of each real estate closing.

The following table presents the Company's non-interest income for the three and nine months ended September 30, 2022 and 2021. All of the Company’s revenue from contracts with customers within the scope of ASC 606 is recognized in non-interest income, with the exception of gains on the sale of OREO, which are included in non-interest expense when applicable.

	Three Months Ended September 30,				Nine Months Ended September 30,
	2022		2021		2022		2021
Non-interest income:
Gain on Sale of Loans (1)	$	287,081	$	932,340	$	1,511,905	$	3,022,755
Service Fees on Deposit Accounts	279,909		251,440		809,287		702,548
Commissions From Insurance Agency (1)	235,506		187,657		620,779		468,083
Trust Income	363,830		359,035		1,084,249		1,005,517
BOLI Income (1)	150,999		155,000		457,202		485,000
ATM and Check Card Fee Income	687,773		615,568		2,109,173		1,811,216
Grant Income (1)	—		1,826,265		170,699		1,826,265
Other (1)	219,289		202,314		702,135		669,379
Total non-interest income	$	2,224,387	$	4,529,619	$	7,465,429	$	9,990,763
(1) Not within the scope of ASC 606

28

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

NOTE 16 - LEASES     

Effective January 1, 2019 the Company adopted ASC 842 “Leases.” Currently, the Company has operating leases on six of its branches that are accounted for under this standard. The Company entered into one of the six leases mentioned above on September 30, 2021 and recognized a right-of-use asset of $255,000 on that date. During the nine months ended September 30, 2022, the Company made cash payments in the amount of $380,000 for operating leases. The lease expense recognized during this period was $384,000 and the lease liability had a net decrease of $279,000. The weighted average lease term is 4.33 years and the weighted average discount rate used is 3.2%.

At September 30, 2022, maturities of operating lease liabilities for future periods were as follows:

Remainder of 2022	$	126,564
2023	518,138
2024	522,147
2025	474,815
2026	363,428
Thereafter	155,996
Total undiscounted lease payments	2,161,088
Less: effect of discounting	(147,002)
Present value of estimated lease payments (lease liability)	$	2,014,086

NOTE 17 - PREFERRED STOCK

On May 24, 2022, the Company entered into a Letter Agreement (“Agreement”) with the U.S. Department of Treasury under the Emergency Capital Investment Program (“ECIP”). Established by the Consolidated Appropriations Act, 2021, the ECIP was created to encourage low- and moderate-income community financial institutions and minority depository institutions to provide loans, grants, and forbearance for small businesses, minority-owned businesses, and consumers, especially low-income and underserved communities, including counties with persistent poverty, that may be disproportionately impacted by the economic effect of the COVID-19 pandemic by providing direct and indirect capital investments in low- and moderate-income community financial institutions.

Pursuant to the Agreement, the Company agreed to issue and sell 82,949 shares of Preferred Stock for an aggregate purchase price of $82.9 million in cash. This ECIP investment is treated as tier 1 capital. The Preferred Stock bears no dividend for the first 24 months following the investment date. Thereafter, the dividend rate will be adjusted, not higher than 2%, based on the lending growth criteria listed in the Agreement. After the tenth anniversary of the investment date, the dividend rate will be fixed based on the average annual amount of lending in years 2 through 10. Dividends will be payable quarterly in arrears on March 15, June 15, September 15, and December 15.

The Preferred Stock may be redeemed at the option of the Company on or after the fifth anniversary of issuance (or earlier in the event of loss of regulatory capital treatment), subject to the approval of the appropriate federal banking regulator and in accordance with the federal banking agencies’ regulatory capital regulations. The Preferred Stock is reported on the Consolidated Balance Sheets as Senior Non-Cumulative Perpetual Preferred Stock, Series ECIP.

NOTE 18 - SUBSEQUENT EVENTS

Subsequent events are events or transactions that occur after the balance sheet date but before financial statements are issued. Recognized subsequent events are events or transactions that provide additional evidence about conditions that existed at the date of the balance sheet, including estimates inherent in the process of preparing financial statements. Nonrecognized subsequent events are events that provide evidence about conditions that did not exist at the date of the balance sheet but arose after that date. Management has reviewed all events occurring through the date the consolidated financial statements were available to be issued and determined that there were no subsequent events requiring accrual or disclosure.

29

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

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

Forward-Looking Statements and “Safe Harbor” statement under the Private Securities Litigation Reform Act of 1995

Certain matters discussed in this Quarterly Report on Form 10-Q may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.  These statements relate to our financial condition, results of operations, plans, objectives, future performance or business. Forward-looking statements are not statements of historical fact, are based on certain assumptions and are generally identified by use of the words "believes," "expects," "anticipates," "estimates," "forecasts," "intends," "plans," "targets," "potentially," "probably," "projects," "outlook" or similar expressions or future or conditional verbs such as "may," "will," "should," "would" and "could." Forward-looking statements include statements with respect to our beliefs, plans, objectives, goals, expectations, assumptions and statements about, among other things, expectations of the business environment in which we operate, projections of future performance or financial items, perceived opportunities in the market, potential future credit experience, and statements regarding our mission and vision. These forward-looking statements are based upon current management expectations and may, therefore, involve risk and uncertainties. Our actual results, performance, or achievements may differ materially from those suggested, expressed, or implied by forward-looking statements as a result of a wide variety or range of factors, including, but not limited to:

•potential adverse impacts to economic conditions in our local market areas, other markets where the Company has lending relationships, or other aspects of the Company's business operations or financial markets, including, without limitation, as a result of employment levels, labor shortages and the effects of inflation, a potential recession or slowed economic growth caused by increasing political instability from acts of war including Russia’s invasion of Ukraine, as well as increasing oil prices and supply chain disruptions, and any governmental or societal responses to the novel coronavirus disease 2019 (“COVID-19”) pandemic, including the possibility of new COVID-19 variants;

•the credit risks of lending activities, including changes in the level and trend of loan delinquencies and write-offs and changes in our allowance for loan losses and provision for loan losses that may be affected by deterioration in the housing and commercial real estate markets which may lead to increased losses and non-performing assets in our loan portfolio, and may result in our allowance for loan losses not being adequate to cover actual losses, and require us to materially increase our allowance for loan losses;

•changes in the levels of general interest rates, and the relative differences between short and long term interest rates, deposit interest rates, our net interest margin and funding sources;

•the future of the London Interbank Offered Rate ("LIBOR"), and the transition away from LIBOR toward new interest rate benchmarks;

•fluctuations in the demand for loans, the number of unsold homes, land and other properties and fluctuations in real estate values in our market areas;

•secondary market conditions for loans and our ability to originate loans for sale and sell loans in the secondary market;

•results of examinations of the Company by the Board of Governors of the Federal Reserve System ("Federal Reserve") and the Bank by the Federal Deposit Insurance Corporation ("FDIC") and the South Carolina State Board of Financial Institutions, or other regulatory authorities, including the possibility that any such regulatory authority may, among other things, require us to increase our reserve for loan losses, write-down assets, change our regulatory capital position or affect our ability to borrow funds or maintain or increase deposits, or impose additional requirements or restrictions on us, any of which could adversely affect our liquidity and earnings;

•legislative or regulatory changes that adversely affect our business, including changes in banking, securities and tax law, and in regulatory policies and principles, or the interpretation of regulatory capital or other rules, and other governmental initiatives affecting the financial services industry;

•our ability to attract and retain deposits;

•our ability to control operating costs and expenses;

•our ability to implement our business strategies;

•the use of estimates in determining the fair value of certain of our assets, which estimates may prove to be incorrect and result in significant declines in valuation;

•difficulties in reducing risks associated with the loans on our balance sheet;

•staffing fluctuations in response to product demand or the implementation of corporate strategies that affect our workforce and potential associated charges;

•disruptions, security breaches, or other adverse events, failures or interruptions in, or attacks on, our information technology systems or on the third-party vendors who perform several of our critical processing;

30

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

•our ability to retain key members of our senior management team;

•costs and effects of litigation, including settlements and judgments;

•our ability to manage loan delinquency rates;

•increased competitive pressures among financial services companies;

•changes in consumer spending, borrowing and savings habits;

•the availability of resources to address changes in laws, rules, or regulations or to respond to regulatory actions;

•our ability to pay dividends on our common stock;

•the quality and composition of our securities portfolio and the impact of any adverse changes in the securities markets;

•inability of key third-party providers to perform their obligations to us;

•changes in accounting policies and practices, as may be adopted by the financial institution regulatory agencies or the FASB, including additional guidance and interpretation on accounting issues and details of the implementation of new accounting methods;

•the effects of climate change, severe weather events, natural disasters, pandemics, epidemics and other public health crises, acts of war or terrorism, and other external events on our business;

•other economic, competitive, governmental, regulatory, and technological factors affecting our operations, pricing, products and services; and

•other risks described elsewhere in this document and in the Company's other filings with the Securities and Exchange Commission, including our Annual Report on Form 10-K for the year ended December 31, 2021 (“2021 10-K”).

Some of these forward-looking statements are discussed in the Company's 2021 Form 10-K as well as other risk factors under Item 1A, “Risk Factors.” Such developments could have an adverse impact on our consolidated financial position and results of operations. Any of the forward-looking statements that we make in this quarterly report on Form 10-Q and in other public reports and statements we make may turn out to be inaccurate as a result of our beliefs and assumptions we make in connection with the factors set forth above or because of other unidentified and unpredictable factors. Because of these and other uncertainties, our actual future results may be materially different from the results indicated by these forward-looking statements and you should not rely on such statements. The Company undertakes no obligation to publish revised forward-looking statements to reflect the occurrence of unanticipated events or circumstances after the date hereof. These risks could cause our actual results for 2022 and beyond to differ materially from those expressed in any forward-looking statements by or on behalf of us, and could negatively affect the Company’s consolidated financial condition, consolidated results of operations, liquidity and stock price performance.

Response to COVID-19

The Company maintains its commitment to supporting its community and clients during the COVID-19 pandemic and remains focused on keeping its employees safe and the Bank running effectively to serve its clients. As of September 30, 2022, all Bank branches were open with normal hours. The Bank will continue to monitor branch access and occupancy levels in relation to cases and close contact scenarios and follow governmental restrictions and public health authority guidelines.

31

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Financial Condition at September 30, 2022 and December 31, 2021

Assets - Total assets increased $56.8 million to $1.4 billion at September 30, 2022 from $1.3 billion at December 31, 2021. This increase was primarily due to increases in investments held to maturity ("HTM") and cash and cash equivalents, which were partially offset by a decline investments available for sale ("AFS"). Changes in total assets are shown below.

					Increase (Decrease)
(Dollars in thousands)	September 30, 2022		December 31, 2021		$		%
Cash and Cash Equivalents	$	20,068	$	27,623	$	(7,555)	(27.4)	%
Certificates of Deposits with Other Banks	1,100		1,100		—		—
Investments AFS	591,550		682,849		(91,299)		(13.4)
Investments HTM	137,969		23,507		114,462		486.9
Loans Receivable, Net	523,094		499,497		23,597		4.7
Accrued Interest Receivable	4,493		3,752		741		19.7
OREO	120		130		(10)		(7.7)
Operating Lease ROU Assets	1,974		2,252		(278)		(12.3)
Land Held for Sale	1,097		1,530		(433)		(28.3)
Premises and Equipment, Net	27,424		25,237		2,187		8.7
FHLB Stock	651		586		65		11.1
BOLI	27,167		26,710		457		1.7
Goodwill	1,200		1,200		—		—
Other Assets	20,074		5,241		14,833		283.0
Total Assets	$	1,357,981	$	1,301,214	$	56,767	4.4%

Cash and cash equivalents decreased $7.6 million or 27.4% to $20.1 million at September 30, 2022 compared to $27.6 million at December 31, 2021, as a result of the purchase of investments HTM and funding of loans. Investments AFS decreased $91.3 million or 13.4% to $591.6 million at September 30, 2022 from $682.8 million at December 31, 2021 as maturities and principal paydowns of investments AFS exceeded purchases during the nine months ended September 30, 2022. Additionally, investments AFS experienced a $46.7 million decrease in fair value during the nine months ended September 30, 2022. Investments HTM increased $114.5 million to $138.0 million at September 30, 2022 from $23.5 million at December 31, 2021. The increase is primarily the result of the Company's investment of Emergency Capital Investment Program (“ECIP”) proceeds. For additional details on the ECIP, see “Note 17 - Preferred Stock” of the Notes to Consolidated Financial Statements included in Part I. Item 1 of this report.

Loans receivable, net, including loans held for sale, increased $23.6 million or 4.7% to $523.1 million at September 30, 2022 from $499.5 million at December 31, 2021, primarily due to residential real estate, commercial real estate and construction real estate loans originated during the period. Loan balances in all loan categories increased during the nine months ended September 30, 2022 with the exception of the commercial and agricultural loan category, which decreased $13.2 million or 29.5% to $31.5 million at September 30, 2022 from $44.7 million at December 31, 2021. Commercial real estate loans increased $19.0 million or 8.4% to $246.8 million at September 30, 2022 from $227.8 million at December 31, 2021. Residential mortgage loans increased $12.4 million or 14.6% to $97.4 million at September 30, 2022 from $85.0 million at December 31, 2021. Construction real estate loans increased $4.1 million or 4.1% to $104.3 million at September 30, 2022 from $100.2 million at December 31, 2021. Consumer HELOC increased $1.3 million or 4.7% to $30.0 million at September 30, 2022 from $28.6 million at December 31, 2021. Other consumer loans increased $1.6 million or 7.7% to $23.1 million at September 30, 2022 from $21.4 million at December 31, 2021. Loans held for sale, decreased $1.9 million or 47.0% to $2.1 million at September 30, 2022 from $4.0 million at December 31, 2021.

Land held for sale decreased $433,000 during 2022 due to a write down in the value of the land based on a recent appraisal. Other assets increased $14.8 million or 283.0% to $20.1 million at September 30, 2022 from $5.2 million at December 31, 2021. The increase was primarily the result of a $14.9 million increase in net deferred taxes, which was related to increased unrealized losses in the investment portfolio at September 30, 2022.

32

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Liabilities

Deposit Accounts

Total deposits increased $2.9 million or 0.3% to $1.12 billion at September 30, 2022 from $1.12 billion at December 31, 2021. This growth was primarily due to increases in checking and savings accounts partially offset by a decline in higher cost certificates of deposits. The majority of the Bank’s deposits are originated within the Bank’s immediate market area. The Bank had $6.0 million and $10.0 million in brokered time deposits at September 30, 2022 and December 31, 2021, respectively. The Bank uses brokered time deposits to manage interest rate risk because they are accessible in bulk at rates typically only slightly higher than those in our market areas. A portion of these brokered time deposits give the Bank a call option that allows the Bank the choice to redeem them early should rates change. In addition, the Bank had $5.0 million in other brokered deposits at both September 30, 2022 and December 31, 2021. For additional details of deposits, see “Note 9 – Deposits” of the Notes to Consolidated Financial Statements included in Part I. Item 1 of this report.

Shareholders’ Equity

Shareholders’ equity increased $41.1 million or 35.6% to $156.6 million at September 30, 2022 from $115.5 million at December 31, 2021. The increase was primarily attributable to a $82.9 million issuance of the Company’s Senior Non-Cumulative Perpetual Preferred Stock, Series ECIP (the “Preferred Stock”) during the second quarter of 2022 and year to date net income of $6.9 million. The increase was partially offset by a $46.7 million decrease in accumulated other comprehensive (loss) income, net of tax, combined with $2.1 million in dividends paid to common shareholders during the nine months ended September 30, 2022. The decrease in net accumulated other comprehensive income, net of tax, was related to the unrecognized loss in fair value of investments AFS during the nine months ended September 30, 2022 reflecting the increase in market interest rates during the year. For additional details on the issuance of the Preferred Stock pursuant to the ECIP, see “Note 17 - Preferred Stock” of the Notes to Consolidated Financial Statements included in Part I. Item 1 of this report.

33

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Results of Operations for the Quarters Ended September 30, 2022 and 2021

Net Income

Net income decreased $1.4 million, or 30.5%, to $3.2 million or $0.99 per basic common share for the quarter ended September 30, 2022 compared to $4.6 million or $1.43 per basic common share for the quarter ended September 30, 2021. The decrease in net income was primarily due to no grant income received during the third quarter of 2022 compared to a $1.8 million grant received in the third quarter of 2021 combined with the $665,000 reversal of provision for loan losses in the quarter ended September 30, 2021 compared to no provision or reversal for loan losses for the quarter ended September 30, 2022. In addition, non-interest expense increased $229,000, partially offsetting a $1.3 million increase in net interest income for the quarter ended September 30, 2022 compared to the same quarter in 2021.

Net Interest Income

Net interest income increased $1.3 million, or 14.8%, to $10.1 million during the quarter ended September 30, 2022, compared to $8.8 million for the same quarter in 2021. During the quarter ended September 30, 2022, average interest-earning assets increased $194.0 million or 17.2% to $1.3 billion from $1.1 billion for the same quarter in 2021, while average interest-bearing liabilities increased $47.5 million or 5.5% to $914.1 million for the quarter ended September 30, 2022 from $866.6 million for the comparable quarter in 2021. The Company's net interest margin was 3.09% for the quarter ended September 30, 2022 compared to 3.16% for the comparable quarter in 2021. The Company's net interest spread on a tax equivalent basis was 2.93% for the quarter ended September 30, 2022 compared to 3.07% for the quarter ended September 30, 2021.

Loan yields in 2021 were impacted favorably as a result of recognition of unamortized deferred fee income on PPP loans forgiven and repaid by the SBA. Loan yields in 2022 were impacted favorably as a result of the rising interest rate environment. Since March 2022, in response to inflation, the Federal Open Market Committee (“FOMC”) of the Board of Governors of the Federal Reserve System (“Federal Reserve”) has increased the target range for the federal funds rate by 300 basis points, including 150 basis points during the third quarter of 2022, to a range of 3.00% to 3.25% as of September 30, 2022. In November 2022, the FOMC increased the target range for the federal funds rate another 75 basis points to a range of 3.75% to 4.00%. We believe our net interest margin during the current year will continue to increase to reflect the lagging benefit of variable rate interest-earnings assets beginning to reprice higher and if the FOMC continues to raise the targeted federal funds rate in an effort to curb inflation, which appears likely based on recent Federal Reserve communications and interest rate forecasts.

Interest Income

The following table compares detailed average balances, associated yields, and the resulting changes in interest income for the three months ended September 30, 2022 and 2021. The average balances were derived from the daily balances throughout the periods indicated. The average yields or costs were calculated by dividing the income or expense by the average balance of the corresponding assets or liabilities. Nonaccrual loans are included in earning assets in the following table. Loan yields have been reduced to reflect the negative impact on our earnings of loans on nonaccrual status.

	Quarter Ended September 30,												Change in Average Balance		Increase (Decrease) in Interest Income
	2022						2021
(Dollars in thousands)	Average Balance		Interest Income		Yield(1)		Average Balance		Interest Income		Yield(1)
Loans Receivable, Net	$	521,143	$	6,306	4.84	%	$	505,191	$	7,262	5.75	%	$	15,952	$	(956)
Taxable Investments	741,358		4,550		2.45		570,578		2,191		1.54		170,780		2,359
Non-taxable Investments (2)	44,685		417		3.73		43,814		281		2.56		871		136
Deposits with other Banks	13,569		94		2.78		7,148		3		0.19		6,421		91
Total Interest-Earning Assets	$	1,320,755	$	11,367	3.44	%	$	1,126,731	$	9,737	3.46	%	$	194,024	$	1,630

(1) Annualized

(2) Tax equivalent basis recognizes the income tax savings when comparing taxable and tax-exempt assets and was calculated using the effective tax rate for the quarters ended September 30, 2022 and 2021. The tax equivalent adjustment relates to the tax exempt municipal bonds and was approximately $74,000 and $68,000 for the quarters ended September 30, 2022 and 2021, respectively.

34

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Total tax equivalent interest income on average interest-earning assets increased $1.6 million to $11.4 million for the quarter ended September 30, 2022 compared to $9.7 million for the same period in 2021.

Interest income on loans decreased $956,000 or 13.2% to $6.3 million for the quarter ended September 30, 2022 from $7.3 million for the third quarter of 2021. The decrease in loan interest income was the result of a 91 basis point decrease in the average yield on loans receivable, primarily due to a decrease in deferred interest income on PPP loans recognized during the period. This decrease was partially offset by a $16.0 million increase in the average loan portfolio balance.

Interest income from taxable investments increased $2.4 million to $4.5 million during the quarter ended September 30, 2022 due to a $170.8 million increase in the average balance of these assets combined with a 91 basis point increase in the average yield. Tax equivalent interest income from non-taxable investments increased $136,000 to $417,000 during the quarter ended September 30, 2022 due to an increase in the average yield on non-taxable investments.

Interest income from deposits with other banks increased $91,000 during the quarter ended September 30, 2022 due to a $6.4 million increase in the average balance of these assets combined with a significant increase in the average yield earned on these assets. The increase in the average balance of these assets was primarily related to the $82.9 million in cash received during the second quarter of 2022 from the sale of the Preferred Stock mentioned above.

Interest Expense

The following table compares detailed average balances, cost of funds, and the resulting changes in interest expense for the three months ended September 30, 2022 and 2021.

	Quarter Ended September 30,												Change in Average Balance		Increase (Decrease) in Interest Expense
	2022						2021
(Dollars in thousands)	Average Balance		Interest Expense		Cost(1)		Average Balance		Interest Expense		Cost(1)
Checking, Savings & Money Market Accounts	$	700,322	$	540	0.31	%	$	627,678	$	191	0.12	%	$	72,644	$	349
Certificates Accounts	139,841		136		0.39		165,084		185		0.45		(25,243)		(49)
FHLB Advances & Other Borrowed Money (2)	39,099		44		0.45		38,676		51		0.52		423		(6)
Junior Subordinated Debentures	5,155		50		3.87		5,155		24		1.86		—		26
Subordinated Debentures	29,652		389		5.25		30,000		394		5.25		(348)		(5)
Total Interest-Bearing Liabilities	$	914,069	$	1,159	0.51	%	$	866,593	$	845	0.39	%	$	47,476	$	315

(1) Annualized

(2) Includes FHLB Advances, FRB Borrowings and Repurchase Agreements

Total interest expense increased $315,000 or 37.3% to $1.2 million for the quarter ended September 30, 2022 compared to $845,000 for the same quarter in 2021 due to an increase of 12 basis points in the average cost of interest bearing liabilities combined with a $47.5 million or 5.5% increase in the average balance of these liabilities.

Interest expense on deposits increased $300,000 to $676,000 for the quarter ended September 30, 2022 due to a $47.4 million increase in the average balance of interest bearing deposit accounts combined with a 13 basis point increase in the average cost of interest-bearing deposits during the third quarter of 2022 when compared to the same quarter in 2021. Interest expense on certificate accounts decreased $49,000 due to a decrease of $25.2 million in the average balance combined with a six basis point decrease in the average cost of certificate deposits during the third quarter of 2022, as management elected to utilize liquidity gained from lower cost deposits to reduce its balances of higher cost certificates of deposit in a managed reduction of these funds. Interest expense on all other interest-bearing deposits increased $349,000 during the quarter due to a $72.6 million increase in the average balance combined with a 19 basis point increase in the average cost. Interest expense on the junior subordinated debentures increased due to increased floating interest rates reflecting higher market interest rates.

35

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Provision for Loan Losses

The amount of the provision is determined by management’s on-going monthly analysis of the loan portfolio and the adequacy of the allowance for loan losses. The Company has policies and procedures in place for evaluating and monitoring the overall credit quality of the loan portfolio and for timely identification of potential problem loans including internal and external loan reviews. The adequacy of the allowance for loan losses is reviewed monthly by the Asset Classification Committee and quarterly by the Board of Directors. Management’s review of the adequacy of the allowance includes three main components.

The first component is an analysis of loss potential in various homogeneous segments of the loan portfolio based on historical trends and the risk inherent in each loan category. Currently, management applies a ten year historical loss ratio to each loan category to estimate the inherent loss in these pooled loans.

The second component of management’s monthly analysis is the specific review and evaluation of significant problem credits identified through the Company’s internal monitoring system. These loans are evaluated for impairment and recorded in accordance with accounting guidance. For each loan deemed impaired, management calculates a specific reserve for the amount in which the recorded investment in the loan exceeds the fair value. This estimate is based on a thorough analysis of the most probable source of repayment, which is typically liquidation of the collateral underlying the loan.

The third component is an analysis of changes in qualitative factors that may affect the portfolio, including but not limited to: relevant economic trends that could impact borrowers’ ability to repay, industry trends, changes in the volume and composition of the portfolio, credit concentrations, or lending policies and the experience and ability of the staff and Board of Directors.

Management also reviews and incorporates certain ratios such as percentage of classified loans, average historical loan losses by loan category, delinquency percentages, and the assignment of percentage targets of reserves in each loan category when evaluating the allowance. Once the analysis is completed, the three components are combined and compared to the allowance amount. Based on this, charges are made to the provision as needed. Because the SBA guarantees 100% of the PPP loans made to eligible borrowers, these loans do not have a corresponding allowance for loan loss.

The table below shows the changes in the allowance for loan losses for the quarters ended September 30, 2022 and 2021.

	Quarter Ended September 30,
(Dollars in thousands)	2022			2021
Beginning Balance	$	11,198		$	11,424
(Reversal of) Provision for Loan Losses	—			(665)
Charge-offs	(54)			(46)
Recoveries	155			459
Net Recoveries	$	101		$	413
Ending Allowance for Loan Losses Balance	$	11,299		$	11,172
At Period End:	9/30/2022			9/30/2021
Impaired Loans	$	2,047		$	2,484
Gross Loans Receivable, Held For Investment (1)	$	532,252		$	508,184
Total Loans Receivable, Net	$	523,094		$	500,601
Allowance For Loan Losses as a % of Impaired Loans	551.9		%	449.8		%
Allowance For Loan Losses as a % of Gross Loans Receivable (1)	2.1		%	2.2		%
(1) TOTAL LOANS HELD FOR INVESTMENT, NET OF DEFERRED FEES

The Company had net recoveries of $101,000 for the quarter ended September 30, 2022 compared to net recoveries of $413,000 for the third quarter of 2021. There was no provision for loan losses for the quarter ended September 30, 2022 compared to a negative provision of $665,000 for the third quarter of 2021 following significantly higher loan loss provisions during 2020 in response to the ongoing COVID-19 pandemic. The reversal of loan loss provisions during the three months ended September 30, 2021 was the result of a reduction in historical loss and qualitative adjustment factors related to improvement in the economic and business conditions at both the national and regional levels as of September 30, 2021. Non-performing assets improved to $2.8 million, or 0.21% of total assets, at September 30, 2022 from $3.1 million, or 0.25% of total assets, at September 30, 2021.

36

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Our strategy is to work with our borrowers to reach acceptable payment plans while protecting our interests in the existing collateral. In the event an acceptable arrangement cannot be reached, we may need to acquire these properties through foreclosure or other means and subsequently sell, develop or liquidate them. Management believes the allowance for loan losses is adequate based on its best estimates of the probable losses inherent in the loan portfolio, although there can be no guarantee these estimates will not be proven incorrect in the future. In addition, bank regulatory agencies may require additional provisions to the allowance for loan losses based on their judgments and estimates as part of their examination process.  Because the allowance for loan losses is an estimate, there is no guarantee that actual loan losses will not exceed the allowance for loan losses, or that additional increases in the allowance for loan losses will not be required in the future. A further decline in national and local economic conditions, as a result of the effects of inflation, a potential recession or slowed economic growth and any governmental or societal responses to the COVID-19 pandemic among other factors, could result in a material increase in the allowance for loan losses and may adversely affect the Company’s financial condition and results of operations.

Non-Interest Income

Non-interest income decreased $2.3 million, or 50.9%, to $2.2 million for the quarter ended September 30, 2022 compared to $4.5 million for the quarter ended September 30, 2021. The decrease was primarily due to a $645,000 decrease in gain on sale of loans reflecting the decline in originations of loans held for sale following recent market interest rate increases combined with a $1.8 million decrease in grant income. These decreases were partially offset by increases in all other non-interest income line items with the exception of BOLI income, which decreased $4,000 during the quarter ended September 30, 2022 when compared to the quarter ended September 30, 2021. For additional details of the changes in non-interest income, see “Note 15 - Non-Interest Income” of the Notes to Consolidated Financial Statements included in Part I. Item 1 of this report.

Non-Interest Expense

Non-interest expense increased $229,000 or 2.8% to $8.3 million for the quarter ended September 30, 2022 compared to $8.0 million for the quarter ended September 30, 2021. The following table summarizes the changes in non-interest expense:

	Quarter Ended September 30,				Increase (Decrease)
	2022		2021		$		%
Compensation and Employee Benefits	$	5,019,920	$	4,757,937	$	261,983	5.5	%
Occupancy	703,310		641,555		61,755		9.6
Advertising	153,460		275,947		(122,487)		(44.4)
Depreciation and Maintenance of Equipment	751,739		781,217		(29,478)		(3.8)
FDIC Insurance Premiums	87,858		73,845		14,013		19.0
Net Cost of Operation of OREO	10,000		55,000		(45,000)		(81.8)
Consulting	179,318		182,684		(3,366)		(1.8)
Debit Card Expense	307,092		284,434		22,658		8.0
Telephone	97,204		100,113		(2,909)		(2.9)
Postage	59,654		16,469		43,185		262.2
General Insurance	76,566		77,731		(1,165)		(1.5)
Other	831,564		801,964		29,600		3.7
Total Non-Interest Expense	$	8,277,685	$	8,048,896	$	228,789	2.8	%

The increase in non-interest expense was primarily due to increases in compensation and employee benefits and occupancy expense during the third quarter of 2022, which were partially offset by a decrease in advertising expense.

Compensation and employee benefits increased $262,000 or 5.5% to $5.0 million for the quarter ended September 30, 2022 when compared to the quarter ended September 30, 2021 due to general annual cost of living increases and an increase in the number of full time equivalent employees as a result of our newest branch added during the first quarter of 2022 and the overall growth of the Company. Occupancy expense and other non-interest expense also increased during the third quarter of 2022 due to increased operations and the addition of our newest branch located in Columbia, South Carolina.

37

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Provision For Income Taxes

The provision for income taxes decreased $472,000 or 35.6% to $855,000 for the quarter ended September 30, 2022 from $1.3 million for the same period in 2021 due to lower net income before taxes in 2022. Pre-tax net income was $4.1 million for the quarter ended September 30, 2022 compared to $6.0 million for the third quarter of 2021. The Company’s combined federal and state effective income tax rate was 20.9% and 22.2% for the quarters ended September 30, 2022 and 2021, respectively.

38

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Results of Operations for the Nine Months Ended September 30, 2022 and 2021

Net Income

Net income decreased $3.8 million or 35.4% to $6.9 million or $2.13 per common share for the nine months ended September 30, 2022 compared to $10.7 million or $3.30 per common share for the nine months ended September 30, 2021. The decrease in net income was primarily due to the reversal of $2.3 million in loan loss reserves during the nine months ended September 30, 2021 compared to no provision or reversal for loan losses recorded during the nine months ended September 30, 2022. A decrease in non-interest income and increase in non-interest expenses also contributed to lower net income during the nine months ended September 30, 2022 when compared to the same period last year.

Net Interest Income

Net interest income increased $2.0 million or 8.1% to $26.6 million for the nine months ended September 30, 2022 compared to $24.6 million for the same period last year. During the nine months ended September 30, 2022, average interest earning assets increased $164.5 million or 14.8% to $1.3 billion from $1.1 billion for the nine months ended September 30, 2021. Average interest-bearing liabilities also increased by $58.0 million or 6.7% to $927.7 million for the nine months ended September 30, 2022 from $869.7 million for the same period in 2021. The Company's net interest margin fell 18 basis points to 2.79% for the nine months ended September 30, 2022 compared to 2.97% for the nine months ended September 30, 2021. The net interest spread on a tax equivalent basis fell 20 basis points to 2.68% for the nine months ended September 30, 2022 from 2.88% for the comparable period in 2021.

Interest Income

The following table compares detailed average balances, associated yields, and the resulting changes in interest income for the nine months ended September 30, 2022 and 2021:

	Nine Months Ended September 30,												Change in Average Balance		Increase (Decrease) in Interest Income
	2022						2021
(Dollars in Thousands)	Average Balance		Interest Income		Yield(1)		Average Balance		Interest Income		Yield(1)
Loans Receivable, Net	$	518,436	$	18,608	4.79	%	$	508,693	$	20,039	5.25	%	$	9,743	$	(1,431)
Taxable Investments	696,283		9,720		1.86		556,001		6,409		1.54		140,282		3,310
Non-taxable Investments(2)	44,633		1,086		3.25		44,014		1,230		3.73		619		(144)
Deposits with other Banks	18,545		151		1.08		4,672		6		0.18		13,873		144
Total Interest-Earning Assets	$	1,277,897	$	29,565	3.08	%	$	1,113,380	$	27,684	3.32	%	$	164,517	$	1,879

    (1) Annualized

(2) Tax equivalent basis recognizes the income tax savings when comparing taxable and tax-exempt assets and was calculated using an effective tax rate of 21% for the nine months ended September 30, 2022 and 2021. The tax equivalent adjustment relates to the tax exempt municipal bonds and was approximately $184,000 and $202,000 for the nine months ended September 30, 2022 and 2021, respectively.

Total tax equivalent interest income increased $1.9 million to $29.6 million during the nine months ended September 30, 2022 compared to $27.7 million during the nine months ended September 30, 2021, primarily due to an increase in interest income from taxable investments, which was partially offset by a decrease in interest income from loans. Total interest income on loans decreased $1.4 million or 7.1% to $18.6 million during the nine months ended September 30, 2022 from $20.0 million for the same period in 2021. The decrease was a result of a 46 basis point decrease in the average yield on loans receivable, which was primarily driven by the recognition of $3.3 million in fee income related to PPP loans during the nine months ended September 30, 2021. The decrease was partially offset by a $9.7 million or 1.9% increase in the average loan balance.

Interest income from taxable investment securities increased $3.3 million or 51.6% to $9.7 million for the nine months ended September 30, 2022 from $6.4 million for the same period in 2021. The increase was the result of a $140.3 million increase in the average balance of taxable investments, primarily HTM, combined with an increase of 32 basis points in the average yield earned on taxable investment securities. Tax equivalent interest income from non-taxable investment securities decreased $144,000 or 11.7% to $1.1 million for the nine months ended September 30, 2022 when compared to the nine months ended September 30, 2021.

39

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Interest income from deposits with other banks increased $144,000 for the nine months ended September 30, 2022 due to a $13.9 million increase in the average balance of these assets, primarily due to the cash received for the sale of the Company's Preferred Stock, combined with an increase of 90 basis points in the average yield.

Interest Expense

The following table compares detailed average balances, cost of funds on an annualized basis, and the resulting changes in interest expense for the nine months ended September 30, 2022 and 2021:

	Nine Months Ended September 30,												Change in Average Balance		Change in Interest Expense
	2022						2021
(Dollars in Thousands)	Average Balance		Interest Expense		Cost of Funds		Average Balance		Interest Expense		Cost of Funds
Checking, Savings & Money Market Accounts	$	700,580	$	998	0.19	%	$	598,496	$	542	0.12	%	$	102,084	$	456
Certificates Accounts	150,670		420		0.37		176,589		716		0.54		(25,919)		(296)
FHLB Advances & Other Borrowed Money (1)	41,374		91		0.29		59,429		389		0.87		(18,055)		(298)
Junior Subordinated Debentures	5,155		111		2.87		5,155		73		1.89		—		38
Subordinated Debentures	29,883		1,177		5.25		30,000		1,181		5.25		(117)		(4)
Total Interest-Bearing Liabilities	$	927,662	$	2,797	0.40	%	$	869,669	$	2,901	0.44	%	$	57,993	$	(104)

(1) Includes FHLB Advances, FRB Borrowings and Repurchase Agreements

Interest expense decreased $104,000 or 3.5% to $2.8 million during the nine months ended September 30, 2022 compared to $2.9 million for the same period in 2021. The decrease in total interest expense was attributable to a decrease of four basis points in the average cost of interest-bearing liabilities, which was partially offset by a $58.0 million or 6.7% increase in the average balance of these liabilities.

Interest expense on deposits increased $161,000 to $1.4 million for the nine months ended September 30, 2022 due to a $76.2 million increase in the average balance of interest bearing deposit accounts. Interest expense on certificate accounts decreased $296,000 due to a $25.9 million decrease in the average balance combined with a 17 basis point decrease in the average cost of certificate deposits during the first nine months of 2022, as management elected to utilize liquidity gained from lower cost deposits to reduce its balances of higher cost certificates of deposit in a managed reduction of these funds. Interest expense on all other interest-bearing deposits increased $457,000 during the nine months ended September 30, 2022 due to a $102.1 million increase in the average balance combined with a seven basis point increase in the average cost.

Interest expense on FHLB advances and other borrowed money decreased $298,000 or 76.5% to $91,000 from $389,000 due to a $18.1 million or 30.4% decrease in the average balance combined with a decline of 58 basis points in the average cost of these liabilities during the nine months ended September 30, 2022 when compared to the same period last year.

Provision for Loan Losses

There was no provision for loan losses recorded during the nine months ended September 30, 2022 compared to a reversal of provision expense of $2.3 million for the same period in 2021. The negative provision during 2021 resulted from a reduction in qualitative adjustment factors due to the improvement in the economic and business conditions at both the national and regional levels as of September 30, 2021 following significantly higher loan loss provisions during 2020 in response to the potential and unknown economic impact of the ongoing COVID-19 pandemic. For additional details related to the provision for loan losses and changes in the allowance for loan losses, see "Note 8 - Loans Receivable, Net” of the Notes to Consolidated Financial Statements included in Part I. Item 1 of this report.

40

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Non-Interest Income

Non-interest income decreased $2.5 million or 25.3% to $7.5 million for the nine months ended September 30, 2022, compared to $10.0 million for the nine months ended September 30, 2021. The following table summarizes the changes in the components of non-interest income:

	Nine Months Ended September 30,				Increase (Decrease)
	2022		2021		$		%
Gain on Sale of Loans	$	1,511,905	$	3,022,755	$	(1,510,850)	(50.0)	%
Service Fees on Deposit Accounts	809,287		702,548		106,739		15.2
Commissions From Insurance Agency	620,779		468,083		152,696		32.6
Trust Income	1,084,249		1,005,517		78,732		7.8
BOLI Income	457,202		485,000		(27,798)		(5.7)
ATM & Check Card Fee Income	2,109,173		1,811,216		297,957		16.5
Grant Income	170,699		1,826,265		(1,655,566)		100.0
Other	702,135		669,379		32,756		4.9
Total Non-Interest Income	$	7,465,429	$	9,990,763	$	(2,525,334)	(25.3)	%

The decrease in non-interest income was primarily attributable to a decreases in gain on sale of loans and grant income, which was partially offset by increases in every other non-interest income line item with the exception of BOLI income, which decreased $28,000 during the nine months ended September 30, 2022. Gain on sale of loans decreased $1.5 million or 50.0% to $1.5 million for the nine months ended September 30, 2022 compared to $3.0 million during the same period in 2021 as the dollar volume of loans sold decreased. Commissions from insurance subsidiary increased $153,000 to $621,000 during the nine months ended September 30, 2022 due to an increase in the number of insurance policies sold. ATM & Check Card Fee income increased $298,000 primarily due to an increase in debit card usage.

Non-Interest Expense

For the nine months ended September 30, 2022, non-interest expense increased $2.2 million or 9.5% to $25.3 million compared to $23.1 million for the same period in 2021. The table below summarizes the changes in the components of non-interest expense.

	Nine Months Ended September 30,				Increase (Decrease)
	2022		2021		$		%
Compensation and Employee Benefits	$	14,981,146	$	14,145,363	$	835,783	5.9	%
Occupancy	2,110,746		1,922,369		188,377		9.8
Advertising	693,389		671,186		22,203		3.3
Depreciation and Maintenance of Equipment	2,278,890		2,354,958		(76,068)		(3.2)
FDIC Insurance Premiums	284,083		215,181		68,902		32.0
Net Cost (Recovery) of Operation of OREO	10,000		(115,840)		125,840		(108.6)
Change in Value of Land HFS	433,077		—		433,077		100.0
Consulting	513,299		512,998		301		0.1
Debit Card Expense	917,225		859,357		57,868		6.7
Telephone	291,069		313,229		(22,160)		(7.1)
Postage	182,202		147,600		34,602		23.4
General Insurance	257,577		248,691		8,886		3.6
Other	2,348,375		1,829,544		518,831		28.4
Total Non-Interest Expense	$	25,301,078	$	23,104,636	$	2,196,442	9.5	%

41

SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Compensation and employee benefits expenses increased $836,000 or 5.9% to $15.0 million for the nine months ended September 30, 2022 compared to $14.1 million during the same period last year primarily due to annual cost of living increases and an increase in the number of full time equivalent employees as a result of our newest branch added during the first quarter of 2022 and the overall growth of the Company. Occupancy expense and advertising also increased due to the addition of our newest branch located in Columbia, South Carolina.

The Company had $10,000 in write-down expenses on OREO properties during the nine months ended September 30, 2022 compared to a net recovery of $116,000 during the nine months ended September 30, 2021. This line item includes all income and expenses associated with OREO, including gain or loss on sales and write-downs in value during each period.

Land held for sale decreased $433,000 during 2022 due to a write down in the value of the land based on a recent appraisal. Other non-interest expense increased $519,000 or 28.4% to $2.3 million for the nine months ended September 30, 2022 compared to $1.8 million during the nine months ended September 30, 2021 due to increased operations and the opening of our newest branch in 2022.

Provision For Income Taxes

The provision for income taxes decreased $1.2 million or 39.6% to $1.8 million for the nine months ended September 30, 2022 from $3.0 million for the same period in 2021 primarily due to higher pre-tax income in 2021. Income before taxes was $8.7 million and $13.7 million for the nine months ended September 30, 2022 and 2021, respectively. The Company’s combined federal and state effective income tax rate was 20.7% for the nine months ended September 30, 2022 compared to 21.8% for the same period in 2021.

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SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Management's Discussion and Analysis of Financial Condition and Results of Operations

Liquidity Commitments, Capital Resources, and Impact of Inflation and Changing Prices

The Company actively analyzes and manages the Bank’s liquidity with the objective of maintaining an adequate level of liquidity and to ensure the availability of sufficient cash flows to support loan growth, fund deposit withdrawals, fund operations, and satisfy other financial commitments. See the “Consolidated Statements of Cash Flows” contained in Item 1 – Financial Statements, herein.

The Bank's primary sources of funds include deposits, scheduled loan and investment securities repayments, including interest payments, maturities and sales of loans and investment securities, advances from the FHLB and FRB, and cash flow generated from operations.  The sources of funds, together with retained earnings and equity, are used to make loans, acquire investment securities and other assets, and fund continuing operations. While maturities and the scheduled amortization of loans are a predictable source of funds, deposit flows and mortgage repayments are greatly influenced by the level of interest rates, economic conditions, and competition. Management believes that the Company’s current liquidity position and its forecasted operating results are sufficient to fund all of its existing commitments. The Bank had $173.0 million in unused commitments to extend credit and standby letters of credit at September 30, 2022.  

During the nine months ended September 30, 2022, loan disbursements exceeded loan repayments resulting in a $23.6 million or 4.7% increase in total net loans receivable. Also during the nine months ended September 30, 2022, deposits increased $2.9 million or 0.3%. The Bank had no outstanding FHLB advances at September 30, 2022 with $401.7 million in additional borrowing capacity at the FHLB at that date. The Bank had $1.0 million of outstanding borrowings from the discount window facility at the FRB at September 30, 2022, which was collateralized by investments AFS with a fair market value of $70.4 million at that date. The Bank also had a $50.0 million unused Fed Funds facility with Pacific Coast Bankers Bank at September 30, 2022. Subject to market conditions, we expect to utilize these borrowing facilities from time to time in the future to fund loan originations and deposit withdrawals, to satisfy other financial commitments, repay maturing debt and to take advantage of investment opportunities to the extent feasible. As discussed above, on May 24, 2022, the Company sold $89.4 million of Preferred Stock to the U.S. Department of Treasury pursuant to the ECIP.

The Company is a separate legal entity from the Bank and must provide for its own liquidity. At September 30, 2022, the Company, on an unconsolidated basis, had liquid assets of $94.5 million. In addition to its operating expenses, the Company is responsible for paying any dividends declared, if any, to its shareholders, funds paid for Company stock repurchases, and payments on trust-preferred securities and subordinated debentures held at the Company level. The Company has the ability to receive dividends or capital distributions from the Bank, although there are regulatory restrictions on the ability of the Bank to pay dividends. We currently expect to continue our current practice of paying quarterly cash dividends on our common stock subject to our Board of Directors’ discretion to modify or terminate this practice at any time and for any reason without prior notice. Our current quarterly common stock dividend rate is $0.12 per share, as approved by our Board of Directors, which we believe is a dividend rate per share which enables us to balance our multiple objectives of managing and investing in the Bank, and returning a substantial portion of our cash to our shareholders. Assuming continued payment during 2022 at this rate of $0.12 per share, our average total dividend paid each quarter would be approximately $390,000 based on the number of outstanding shares at September 30, 2022.

At September 30, 2022, the Bank exceeded all regulatory capital requirements with Common Equity Tier 1 Capital (CET1), Tier 1 leverage-based capital, Tier 1 risk-based capital, and total risk-based capital ratios of 17.86%, 10.32%, 17.86%, and 19.11%, respectively. To be categorized as “well capitalized” under the prompt corrective action provisions the Bank must maintain minimum CET1, total risk based capital, Tier 1 risk-based capital and Tier 1 leverage capital ratios of 6.5%, 10.0%, 8.0% and 5.0%, respectively. In addition to the minimum capital requirements, the Bank must maintain a capital conservation buffer, which consists of additional CET1 capital greater than 2.5% of risk weighted assets above the required minimum levels in order to avoid limitations on paying dividends, repurchasing shares, and paying discretionary bonuses. At September 30, 2022 the Bank’s conservation buffer was 11.1%. For additional details, see “Note 12 - Regulatory Matters” of the Notes to Consolidated Financial Statements included in Part I. Item 1 of this report.

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SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Item 3. Quantitative and Qualitative Disclosures about Market Risk

Market risk is the risk of loss from adverse changes in market prices and rates. The Company’s market risk arises principally from interest rate risk inherent in its lending, investment, deposit and borrowing activities. Management actively monitors and manages its interest rate risk exposure. Although the Company manages other risks such as credit quality and liquidity risk in the normal course of business, management considers interest rate risk to be its most significant market risk that could potentially have the largest material effect on the Company’s financial condition and results of operations. Other types of market risks such as foreign currency exchange rate risk and commodity price do not arise in the normal course of the Company’s business activities.

The Company’s profitability is affected by fluctuations in the market interest rate. Management’s goal is to maintain a reasonable balance between exposure to interest rate fluctuations and earnings. A sudden and substantial increase or decrease in interest rates may adversely impact the Company’s earnings to the extent that the interest rates on interest-earning assets and interest-bearing liabilities do not change at the same rate, to the same extent or on the same basis. The Company monitors the impact of changes in interest rates on its net interest income using a test that measures the impact on net interest income and net portfolio value of an immediate change in interest rates in 100 basis point increments. Net portfolio value is defined as the net present value of assets, liabilities, and off-balance sheet contracts. There were no material changes in information concerning market risk from the information provided in the Company’s 2021 Form 10-K.

For the nine months ended September 30, 2022, the Bank's interest rate spread, defined as the average yield on interest bearing assets less the average rate paid on interest bearing liabilities was 2.68%.

Item 4. Controls and Procedures

(a)     Evaluation of Disclosure Controls and Procedures: An evaluation of the Company’s disclosure controls and procedures (as defined in Rule 13a - 15(e) of the Securities Exchange Act of 1934 (“Act”)) was carried out under the supervision and with the participation of the Company’s Chief Executive Officer, Chief Financial Officer and several other members of the Company’s senior management as of the end of the period covered by this quarterly report. The Company’s Chief Executive Officer and Chief Financial Officer concluded that at September 30, 2022 the Company’s disclosure controls and procedures were effective in ensuring that the information required to be disclosed by the Company in the reports it files or submits under the Act is (i) accumulated and communicated to the Company’s management (including the Chief Executive Officer and Chief Financial Officer) in a timely manner, and (ii) recorded, processed, summarized and reported within the time period specified in the Securities and Exchange Commission’s rules and forms.

(b)    Changes in Internal Control over Financial Reporting: There have been no significant changes in our internal controls over financial reporting during the quarter ended September 30, 2022 that have materially affected or are reasonably likely to affect our internal controls over financial reporting

The Company does not expect that its disclosure controls and procedures will prevent all error and or fraud. A control procedure, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control procedure are met. Because of the inherent limitations in all control procedures, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any control procedure also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control procedure, misstatements due to error or fraud may occur and not be detected.

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SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Part II: Other Information

Item 1    Legal Proceedings

The Company is not engaged in any legal proceedings of a material nature at the present time. From time to time, the Company is a party to legal proceedings in the ordinary course of business wherein it enforces its security interest in mortgage loans it has made.

Item 1A    Risk Factors

There have been no material changes in the Risk Factors previously disclosed in Item 1A of the Company's 2021 Form 10-K.

Item 2    Unregistered Sales of Equity Securities and Use of Proceeds

None

Item 3    Defaults Upon Senior Securities

None

Item 4    Mine Safety Disclosures

Not applicable

Item 5    Other Information

None

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SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

Item 6    Exhibits

3.1	Articles of Incorporation, as amended (1)
3.2	Amended and Restated Bylaws (2)
3.3	Certificate of Designations Senior Non-Cumulative Perpetual Preferred Stock, Series ECIP (3)
4.1	Form of Stock Certificate of the Company and other instruments defining the rights of security holders, including indentures (3)
4.2	Form of Certificate for Senior Non-Cumulative Perpetual Preferred Stock, Series ECIP (3)
10.1	1993 Salary Continuation Agreements (5)
10.2	Amendment One to 1993 Salary Continuation Agreements (6)
10.3	Form of 2006 Salary Continuation Agreement (7)
10.4	Form of Security Federal Split Dollar Agreement (7)
10.5	2018 Employee Stock Purchase Plan (8)
10.6	Form of Compensation Modification Agreement (9)
10.7	Letter Agreement, Dated May 24, 2022 between Security Federal Corporation and the U.S. Department of Treasury,with respect to the issuance of Senior Non-Cumulative Perpetual Preferred Stock, Series ECIP (3)
31.1	Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act
31.2	Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act
32	Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act
101	The following materials from Security Federal Corporation’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2022, formatted in Extensible Business Reporting Language (XBRL): (a) Consolidated Balance Sheets; (b) Consolidated Statements of Income; (c) Consolidated Statements of Comprehensive Loss; (d) Consolidated Statements of Changes in Shareholders’ Equity; (e) Consolidated Statements of Cash Flows; and (f) Notes to Consolidated Financial Statements

_______________________

(1)    Filed on June 26, 1998, as an exhibit to the Company’s Proxy Statement and incorporated herein by reference.

(2)    Filed on January 16, 2015 as an exhibit to the Company’s Current Report on Form 8-K dated January 15, 2015 and incorporated herein by reference.

(3)    Filed on May 24, 2022 as an exhibit to the Company's Current Report on Form 8-K dated May 18, 2022 and incorporated herein by reference.

(4)    Filed on August 12, 1987, as an exhibit to the Company’s Registration Statement on Form 8-A and incorporated herein by reference.

(5)    Filed on June 28, 1993, as an exhibit to the Company’s Annual Report on Form 10-KSB and incorporated herein by reference.

(6)    Filed as an exhibit to the Company’s Quarterly Report on Form 10-QSB for the quarter ended September 30, 1993 and incorporated herein by reference.

(7)    Filed on May 24, 2006 as an exhibit to the Company’s Current Report on Form 8-K dated May 18, 2006 and incorporated herein by reference.

(8)    Filed on March 2, 2000, as an exhibit to the Company's Registration Statement on Form S-8 and incorporated herein by reference

(9)    Filed on January 3, 2003, as an exhibit to the Company's Registration Statement on Form S-8 and incorporated herein by reference.

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SECURITY FEDERAL CORPORATION AND SUBSIDIARIES

SIGNATURES

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

    SECURITY FEDERAL CORPORATION

Date:	November 14, 2022	By:	/s/J. Chris Verenes
				J. Chris Verenes
				Chief Executive Officer
				Duly Authorized Representative

Date:	November 14, 2022	By:	/s/Darrell Rains
				Darrell Rains
				Chief Financial Officer
				Duly Authorized Representative

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