FAIR VALUE OF FINANCIAL INSTRUMENTS

3 Months Ended

Mar. 31, 2022

Fair Value Disclosures [Abstract]

FAIR VALUE ACCOUNTING AND MEASUREMENT

FAIR VALUE OF FINANCIAL INSTRUMENTS

The following table presents estimated fair values of the Company’s financial instruments as of March 31, 2022 and December 31, 2021, whether or not recognized or recorded in the Consolidated Statements of Financial Condition (dollars in thousands):

		March 31, 2022				December 31, 2021
	Level	Carrying Value		Estimated Fair Value		Carrying Value		Estimated Fair Value
Assets:
Cash and cash equivalents	1	$	1,988,388	$	1,988,388	$	2,134,300	$	2,134,300
Securities—trading	3	27,354		27,354		26,981		26,981
Securities—available-for-sale	2	3,147,547		3,147,547		3,638,993		3,638,993
Securities—held-to-maturity	2	1,006,234		958,809		464,008		484,483
Securities—held-to-maturity	3	9,708		9,731		57,347		57,370
Securities purchased under agreements to resell	2	300,000		300,000		300,000		300,000
Loans held for sale	2	64,218		64,609		96,487		96,914
Loans receivable	3	9,146,629		9,003,682		9,084,763		9,100,516
Equity securities	1	893		893		1,000		1,298
FHLB stock	3	10,000		10,000		12,000		12,000
Bank-owned life insurance	1	294,556		294,556		244,156		244,156
Mortgage servicing rights	3	16,846		32,415		16,045		24,393
SBA servicing rights	3	1,162		1,162		1,161		1,161
Investments in limited partnerships	3	10,982		10,982		10,257		10,257
Derivatives:
Interest rate swaps	2	14,685		14,685		20,826		20,826
Interest rate lock and forward sales commitments	2,3	3,062		3,062		1,555		1,555
Liabilities:
Demand, interest checking and money market accounts	2	10,869,519		10,869,519		10,703,586		10,703,586
Regular savings	2	2,853,891		2,853,891		2,784,716		2,784,716
Certificates of deposit	2	800,364		790,986		838,631		836,877
FHLB advances	2	—		—		50,000		50,287
Other borrowings	2	266,778		266,778		264,490		264,490
Subordinated notes, net	2	98,658		100,614		98,564		105,241
Junior subordinated debentures	3	70,510		70,510		119,815		119,815
Derivatives:
Interest rate swaps	2	18,574		18,574		11,336		11,336
Interest rate swaps used in cash flow hedges	2	502		502		279		279
Interest rate lock and forward sales commitments	2,3	142		142		140		140
Risk participation agreement	2	218		218		—		—

The Company measures and discloses certain assets and liabilities at fair value. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (that is, not a forced liquidation or distressed sale). GAAP establishes a consistent framework for measuring fair value and disclosure requirements about fair value measurements. Among other things, accounting standards require us to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. Observable inputs reflect market data obtained from independent sources, while

unobservable inputs reflect the Company’s estimates for market assumptions. These two types of inputs create the following fair value hierarchy:

•Level 1 – Quoted prices in active markets for identical instruments. An active market is a market in which transactions occur with sufficient frequency and volume to provide pricing information on an ongoing basis. A quoted price in an active market provides the most reliable evidence of fair value and shall be used to measure fair value whenever available.

•Level 2 – Observable inputs other than Level 1 including quoted prices in active markets for similar instruments, quoted prices in less active markets for identical or similar instruments, or other observable inputs that can be corroborated by observable market data.

•Level 3 – Unobservable inputs supported by little or no market activity for financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation; also includes observable inputs from non-binding single dealer quotes not corroborated by observable market data. In developing Level 3 measurements, management incorporates whatever market data might be available and uses discounted cash flow models where appropriate. These calculations include projections of future cash flows, including appropriate default and loss assumptions, and market-based discount rates

The estimated fair value amounts of financial instruments have been determined by the Company using available market information and appropriate valuation methodologies. However, considerable judgment is required to interpret data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts the Company could realize at a future date. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. In addition, reasonable comparability between financial institutions may not be likely due to the wide range of permitted valuation techniques and numerous estimates that must be made given the absence of active secondary markets for many of the financial instruments. This lack of uniform valuation methodologies also introduces a greater degree of subjectivity to these estimated fair values. Transfers between levels of the fair value hierarchy are deemed to occur at the end of the reporting period.

Items Measured at Fair Value on a Recurring Basis:

The following tables present financial assets and liabilities measured at fair value on a recurring basis and the level within the fair value hierarchy of the fair value measurements for those assets and liabilities as of March 31, 2022 and December 31, 2021 (in thousands):

	March 31, 2022
	Level 1		Level 2		Level 3		Total
Assets:
Securities—trading
Corporate bonds (Trust Preferred Securities)	$	—	$	—	$	27,354	$	27,354
Securities—available-for-sale
U.S. Government and agency obligations	—		194,194		—		194,194
Municipal bonds	—		272,264		—		272,264
Corporate bonds	—		117,583		—		117,583
Mortgage-backed or related securities	—		2,357,833		—		2,357,833
Asset-backed securities	—		205,673		—		205,673
	—		3,147,547		—		3,147,547
Loans held for sale(1)	—		16,890		—		16,890
Equity securities	893		—		—		893
SBA servicing rights	—		—		1,162		1,162
Investment in limited partnerships	—		—		10,982		10,982
Derivatives
Interest rate swaps	—		14,685		—		14,685
Interest rate lock and forward sales commitments	—		3,062		—		3,062
	$	893	$	3,182,184	$	39,498	$	3,222,575
Liabilities:
Junior subordinated debentures	$	—	$	—	$	70,510	$	70,510
Derivatives
Interest rate swaps	—		18,574		—		18,574
Interest rate swaps used in cash flow hedges	—		502		—		502
Interest rate lock and forward sales commitments	—		76		66		142
Risk participation agreement	—		218		—		218
	$	—	$	19,370	$	70,576	$	89,946

	December 31, 2021
	Level 1		Level 2		Level 3		Total
Assets:
Securities—trading
Corporate bonds (Trust Preferred Securities)	$	—	$	—	$	26,981	$	26,981
Securities—available-for-sale
U.S. Government and agency obligations	—		201,332		—		201,332
Municipal bonds	—		308,612		—		308,612
Corporate bonds	—		117,347		—		117,347
Mortgage-backed or related securities	—		2,805,268		—		2,805,268
Asset-backed securities	—		206,434		—		206,434
	—		3,638,993		—		3,638,993
Loans held for sale(1)	—		39,775		—		39,775
SBA servicing rights	—		—		1,161		1,161
Investment in limited partnerships	—		—		10,257		10,257
Derivatives
Interest rate swaps	—		20,826		—		20,826
Interest rate lock and forward sales commitments	—		88		1,467		1,555
	$	—	$	3,699,682	$	39,866	$	3,739,548
Liabilities:
Junior subordinated debentures	$	—	$	—	$	119,815	$	119,815
Derivatives
Interest rate swaps	—		11,336		—		11,336
Interest rate swaps used in cash flow hedges	—		279		—		279
Interest rate lock and forward sales commitments	—		140		—		140
	$	—	$	11,755	$	119,815	$	131,570

(1)    The unpaid principal balance of loans held for sale carried at fair value was $17.2 million and $38.6 million at March 31, 2022 and December 31, 2021, respectively.

The following methods were used to estimate the fair value of each class of financial instruments above:

Securities:  The estimated fair values of investment securities and mortgaged-backed securities are priced using current active market quotes, if available, which are considered Level 1 measurements.  For most of the portfolio, matrix pricing based on the securities’ relationship to other benchmark quoted prices is used to establish the fair value.  These measurements are considered Level 2.  Due to the continued limited activity in the trust preferred markets that have limited the observability of market spreads for some of the Company’s TPS securities, management has classified these securities as a Level 3 fair value measure. Management periodically reviews the pricing information received from third-party pricing services and tests those prices against other sources to validate the reported fair values.

Loans Held for Sale: Fair values for residential mortgage loans held for sale are determined by comparing actual loan rates to current secondary market prices for similar loans. Fair values for multifamily loans held for sale are calculated based on discounted cash flows using as a discount rate a combination of market spreads for similar loan types added to selected index rates.

Equity Securities: Equity securities at March 31, 2022 are invested in a publicly traded stock. The fair value of these securities are based on daily quoted market prices.

Mortgage Servicing Rights: Fair values are estimated based on an independent dealer analysis of discounted cash flows.  The evaluation utilizes assumptions market participants would use in determining fair value including prepayment speeds, delinquency and foreclosure rates, the discount rate, servicing costs, and the timing of cash flows.  The mortgage servicing portfolio is stratified by loan type and fair value estimates are adjusted up or down based on the serviced loan interest rates versus current rates on new loan originations since the most recent independent analysis.

SBA Servicing Rights: Fair values are estimated based on an independent dealer analysis by discounting estimated net future cash flows from servicing. The evaluation utilizes assumptions market participants would use in determining fair value including prepayment speeds,

delinquency and foreclosure rates, the discount rate, servicing costs, and the timing of cash flows.  The SBA servicing portfolio is stratified by loan type and fair value estimates are adjusted up or down based on the serviced loan interest rates versus current rates on new loan originations since the most recent independent analysis.

Junior Subordinated Debentures:  The fair value of junior subordinated debentures is estimated using an income approach technique. The significant inputs included in the estimation of fair value are the credit risk adjusted spread and three month LIBOR. The credit risk adjusted spread represents the nonperformance risk of the liability. The Company utilizes an external valuation firm to validate the reasonableness of the credit risk adjusted spread used to determine the fair value. The junior subordinated debentures are carried at fair value which represents the estimated amount that would be paid to transfer these liabilities in an orderly transaction amongst market participants. Due to inactivity in the trust preferred markets that have limited the observability of market spreads, management has classified this as a Level 3 fair value measure.

Derivatives: Derivatives include interest rate swap agreements, interest rate lock commitments to originate loans held for sale and forward sales contracts to sell loans and securities related to mortgage banking activities. Fair values for these instruments, which generally change as a result of changes in the level of market interest rates, are estimated based on dealer quotes and secondary market sources.

Off-Balance Sheet Items: Off-balance sheet financial instruments include unfunded commitments to extend credit, including standby letters of credit, and commitments to purchase investment securities. The fair value of these instruments is not considered to be material.

Limitations: The fair value estimates presented herein are based on pertinent information available to management as of March 31, 2022 and December 31, 2021.  The factors used in the fair value estimates are subject to change subsequent to the dates the fair value estimates are completed, therefore, current estimates of fair value may differ significantly from the amounts presented herein.

Assets and Liabilities Measured at Fair Value Using Significant Unobservable Inputs (Level 3):

The following table provides a description of the valuation technique, unobservable inputs, and quantitative and qualitative information about the unobservable inputs for the Company’s assets and liabilities classified as Level 3 and measured at fair value on a recurring and non-recurring basis at March 31, 2022 and December 31, 2021:

			Weighted Average Rate / Range
Financial Instruments	Valuation Technique	Unobservable Inputs	March 31, 2022		December 31, 2021
Corporate bonds (TPS securities)	Discounted cash flows	Discount rate	4.46	%	3.71	%
Junior subordinated debentures	Discounted cash flows	Discount rate	4.46	%	3.71	%
Loans individually evaluated	Collateral valuations	Discount to appraised value	9.0% to 9.5%		8.5% to 20.0%
REO	Appraisals	Discount to appraised value	71.19	%	60.91	%
Interest rate lock commitments	Pricing model	Pull-through rate	89.26	%	86.64	%
Investments in limited partnerships	Net Asset Value	Infrequent transactions	n/a		n/a
SBA servicing rights	Discounted cash flows	Constant prepayment rate	8.76%		12.25%

TPS Securities: Management believes that the credit risk-adjusted spread used to develop the discount rate utilized in the fair value measurement of TPS securities is indicative of the risk premium a willing market participant would require under current market conditions for instruments with similar contractual rates and terms and conditions and issuers with similar credit risk profiles and with similar expected probability of default. Management attributes the change in fair value of these instruments, compared to their par value, primarily to perceived general market adjustments to the risk premiums for these types of assets subsequent to their issuance.

Junior subordinated debentures: Similar to the TPS securities discussed above, management believes that the credit risk-adjusted spread utilized in the fair value measurement of the junior subordinated debentures is indicative of the risk premium a willing market participant would require under current market conditions for an issuer with Banner’s credit risk profile. Management attributes the change in fair value of the junior subordinated debentures, compared to their par value, primarily to perceived general market adjustments to the risk premiums for these types of liabilities subsequent to their issuance. Future contractions in the risk adjusted spread relative to the spread currently utilized to measure the Company’s junior subordinated debentures at fair value as of March 31, 2022, or the passage of time, will result in negative fair value adjustments. At March 31, 2022, the discount rate utilized was based on a credit spread of 350 basis points and three-month LIBOR of 96 basis points.

Interest rate lock commitments: The fair value of the interest rate lock commitments is based on secondary market sources adjusted for an estimated pull-through rate. The pull-through rate is based on historical loan closing rates for similar interest rate lock commitments. An increase or decrease in the pull-through rate would have a corresponding, positive or negative fair value adjustment.

SBA servicing asset: The constant prepayment rate (CPR) is set based on industry data. An increase in the CPR would result in a negative fair value adjustment, where a decrease in CPR would result in a positive fair value adjustment.

The following tables provide a reconciliation of the assets and liabilities measured at fair value using significant unobservable inputs (Level 3) on a recurring basis during the three months ended March 31, 2022 and 2021 (in thousands):

	Three Months Ended
	March 31, 2022
	Level 3 Fair Value Inputs
	TPS Securities		Borrowings—Junior Subordinated Debentures		Interest Rate Lock and Forward Sales Commitments		Investments in Limited Partnerships		SBA Servicing Asset
Beginning balance	$	26,981	$	119,815	$	1,467	$	10,257	$	1,161
Net change recognized in earnings	373		1,213		(1,533)		(217)		1
Purchases, issuances and settlements	—		(50,518)		—		942		—
Ending balance at March 31, 2022	$	27,354	$	70,510	$	(66)	$	10,982	$	1,162
	Three Months Ended
	March 31, 2021
	Level 3 Fair Value Inputs
	TPS Securities		Borrowings—Junior Subordinated Debentures		Interest Rate Lock and Forward Sales Commitments		Investments in Limited Partnerships		SBA Servicing Asset
Beginning balance	$	24,980	$	116,974	$	5,221	$	2,819	$	—
Net change recognized in earnings	59		274		4,430		1,384		—
Ending balance at March 31, 2021	$	25,039	$	117,248	$	9,651	$	4,203	$	—

Interest income and dividends from the TPS securities are recorded as a component of interest income. Interest expense related to the junior subordinated debentures is measured based on contractual interest rates and reported in interest expense.  The change in fair value of the junior subordinated debentures, which represents changes in instrument specific credit risk, is recorded in other comprehensive income. The change in fair value of the investment in limited partnerships and the SBA servicing asset are recorded as a component of non-interest income.

Items Measured at Fair Value on a Non-recurring Basis:

The following tables present financial assets and liabilities measured at fair value on a non-recurring basis and the level within the fair value hierarchy of the fair value measurements for those assets as of March 31, 2022 and December 31, 2021 (in thousands):

	March 31, 2022
	Level 1		Level 2		Level 3		Total
Loans individually evaluated	$	—	$	—	$	2,388	$	2,388
REO	—		—		429		429
Loans held for sale	—		44,869		—		44,869
	December 31, 2021
	Level 1		Level 2		Level 3		Total
Loans individually evaluated	$	—	$	—	$	2,989	$	2,989
REO	—		—		852		852

The following table presents the losses resulting from non-recurring fair value adjustments for the three months ended March 31, 2022 and March 31, 2021 (in thousands):

	Three Months Ended March 31,
	2022		2021
Loans individually evaluated	$	—	$	302
REO	—		—
Loans held for sale	603		—
Total loss from non-recurring measurements	$	603	$	302

Loans individually evaluated: Expected credit losses for loans evaluated individually are measured based on the present value of expected future cash flows discounted at the loan’s original effective interest rate or when the Bank determines that foreclosure is probable, the expected credit loss is measured based on the fair value of the collateral as of the reporting date, less estimated selling costs, as applicable. As a practical expedient, the Bank measures the expected credit loss for a loan using the fair value of the collateral, if repayment is expected to be provided substantially through the operation or sale of the collateral when the borrower is experiencing financial difficulty based on the Bank’s assessment as of the reporting date. In both cases, if the fair value of the collateral is less than the amortized cost basis of the loan, the Bank will recognize an allowance as the difference between the fair value of the collateral, less costs to sell (if applicable) at the reporting date and the amortized cost basis of the loan. If the fair value of the collateral exceeds the amortized cost basis of the loan, any expected recovery added to the amortized cost basis will be limited to the amount previously charged-off by the subsequent changes in the expected credit losses for loans evaluated individually are included within the provision for credit losses in the same manner in which the expected credit loss initially was recognized or as a reduction in the provision that would otherwise be reported.

REO: The Company records REO (acquired through a lending relationship) at fair value on a non-recurring basis. Fair value adjustments on REO are based on updated real estate appraisals which are based on current market conditions. All REO properties are recorded at the lower of the estimated fair value of the real estate, less expected selling costs, or the carrying amount of the defaulted loans. From time to time, non-recurring fair value adjustments to REO are recorded to reflect partial write-downs based on an observable market price or current appraised value of property. Banner considers any valuation inputs related to REO to be Level 3 inputs. The individual carrying values of these assets are reviewed for impairment at least annually and any additional impairment charges are expensed to operations.

Loans held for sale: The multifamily held for sale loans are carried at the lower of cost or market. Lower of cost or market adjustments for multifamily loans held for sale are calculated based on discounted cash flows using a discount rate that is a combination of market spreads for similar loan types added to selected index rates. If the fair value of the multifamily held for sale loans is lower than the amortized cost basis of the loans, a net unrealized loss is recognized through the valuation allowance by charges to income.