BANNER CORP - Quarter Report: 2019 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 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, 2019

☐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 000-26584

BANNER CORPORATION

(Exact name of registrant as specified in its charter)



Washington	91-1691604
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification Number)

10 South First Avenue, Walla Walla, Washington 99362

(Address of principal executive offices and zip code)

Registrant's telephone number, including area code: (509) 527-3636

Securities registered pursuant to Section 12(b) of the Act



Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, par value $.01 per share	BANR	The NASDAQ Stock Market LLC

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]

[ ]

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]

[ ]

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

[x]

Accelerated filer [ ]

Non-accelerated filer [ ]

Smaller reporting company

☐

Emerging growth company

☐

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. [ ]

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

Yes

☐

[x]

APPLICABLE ONLY TO CORPORATE ISSUERS

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

Title of class:

As of October 31, 2019

Common Stock, $.01 par value per share

34,134,162 shares

Non-voting Common Stock, $.01 par value per share

39,192 shares

BANNER CORPORATION AND SUBSIDIARIES

Table of Contents



PART I – FINANCIAL INFORMATION

Item 1 – Financial Statements. The Unaudited Condensed Consolidated Financial Statements of Banner Corporation and Subsidiaries filed as a part of the report are as follows:

Consolidated Statements of Financial Condition as of September 30, 2019 and December 31, 2018	4

Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2019 and 2018	5

Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended September 30, 2019 and 2018	6

Consolidated Statements of Changes in Shareholders’ Equity for the Three and Nine Months Ended September, 2019 and the Year Ended December 31, 2018	7

Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2019 and 2018	11

Selected Notes to the Consolidated Financial Statements	13

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

Executive Overview	48

Comparison of Financial Condition at September 30, 2019 and December 31, 2018	54

Comparison of Results of Operations for the Three and Nine Months Ended September 30, 2019 and 2018	57

Asset Quality	64

Liquidity and Capital Resources	66

Capital Requirements	67

Item 3 – Quantitative and Qualitative Disclosures About Market Risk

Market Risk and Asset/Liability Management	68

Sensitivity Analysis	68

Item 4 – Controls and Procedures	73

PART II – OTHER INFORMATION

Item 1 – Legal Proceedings	74

Item 1A – Risk Factors	74

Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds	74

Item 3 – Defaults upon Senior Securities	74

Item 4 – Mine Safety Disclosures	74

Item 5 – Other Information	74

Item 6 – Exhibits	75

SIGNATURES	77

Special Note Regarding Forward-Looking Statements

Certain matters in this Form 10-Q constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements relate to our financial condition, liquidity, 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 future economic performance and projections of financial items. These forward-looking statements are subject to known and unknown risks, uncertainties and other factors that could cause actual results to differ materially from the results anticipated or implied by our forward-looking statements, including, but not limited to: expected revenues, cost savings, synergies and other benefits from the merger of Banner and AltaPacific Bancorp (AltaPacific) might not be realized within the expected time frames or at all and costs or difficulties relating to integration matters, including but not limited to customer and employee retention, might be greater than expected; business disruption may occur following or in connection with the merger of Banner and AltaPacific; Banner's or AltaPacific's businesses may experience disruptions due to transaction-related uncertainty or other factors making it more difficult to maintain relationships with employees, customers, other business partners or governmental entities; the possibility that the merger is more expensive to complete than anticipated, including as a result of unexpected factors or events; diversion of managements' attention from ongoing business operations and opportunities as a result of the merger or otherwise; the credit risks of lending activities, including changes in the level and trend of loan delinquencies and write-offs and changes in estimates of the adequacy of the allowance for loan losses and provisions for loan losses that may be impacted by deterioration in the housing and commercial real estate markets and may lead to increased losses and non-performing assets, and may result in the allowance for loan losses not being adequate to cover actual losses and require a material increase in reserves; results of examinations by regulatory authorities, including the possibility that any such regulatory authority may, among other things, require the writing down of assets or increases in the allowance for loan losses; the ability to manage loan delinquency rates; competitive pressures among financial services companies; changes in consumer spending or borrowing and spending habits; interest rate movements generally and the relative differences between short and long-term interest rates, loan and deposit interest rates, net interest margin and funding sources; the impact of repricing and competitors’ pricing initiatives on loan and deposit products; fluctuations in the demand for loans, the number of unsold homes, land and other properties and fluctuations in real estate values; the ability to adapt successfully to technological changes to meet customers’ needs and developments in the marketplace; the ability to access cost-effective funding; increases in premiums for deposit insurance; the ability to control operating costs and expenses; the use of estimates in determining fair value of certain assets and liabilities, which estimates may prove to be incorrect and result in significant changes in valuation; staffing fluctuations in response to product demand or the implementation of corporate strategies that affect employees, and potential associated charges; disruptions, security breaches or other adverse events, failures or interruptions in, or attacks on, information technology systems or on the third-party vendors who perform critical processing functions; changes in financial markets; changes in economic conditions in general and in Washington, Idaho, Oregon and California in particular; secondary market conditions for loans and the ability to sell loans in the secondary market; the costs, effects and outcomes of litigation; legislation or regulatory changes or reforms, including changes in regulatory policies and principles, or the interpretation of regulatory capital or other rules, including changes related to Basel III; the impact of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 and the implementing regulations; results of safety and soundness and compliance examinations by the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation (the FDIC), the Washington State Department of Financial Institutions, Division of Banks, (the Washington DFI) or other regulatory authorities, including the possibility that any such regulatory authority may, among other things, require restitution or institute an informal or formal enforcement action which could require an increase in reserves for loan losses, write-downs of assets or changes in regulatory capital position, or affect the ability to borrow funds, or maintain or increase deposits, or impose additional requirements and restrictions, any of which could adversely affect liquidity and earnings; the availability of resources to address changes in laws, rules, or regulations or to respond to regulatory actions; adverse changes in the securities markets; the inability of key third-party providers to perform their obligations; changes in accounting principles, policies or guidelines, including additional guidance and interpretation on accounting issues and details of the implementation of new accounting methods; the economic impact of war or any terrorist activities; other economic, competitive, governmental, regulatory and technological factors affecting operations, pricing, products and services; future acquisitions by Banner of other depository institutions or lines of business; and future goodwill impairment due to changes in Banner’s business, changes in market conditions, or other factors; and other risks detailed from time to time in our filings with the U.S. Securities and Exchange Commission (SEC), including this report on Form 10-Q. Any forward-looking statements are based upon management’s beliefs and assumptions at the time they are made. We do not undertake and specifically disclaim any obligation to update any forward-looking statements included in this report or the reasons why actual results could differ from those contained in such statements, whether as a result of new information, future events or otherwise. These risks could cause our actual results to differ materially from those expressed in any forward-looking statements by, or on behalf of, us. In light of these risks, uncertainties and assumptions, the forward-looking statements discussed in this report might not occur, and you should not put undue reliance on any forward-looking statements.

As used throughout this report, the terms “we,” “our,” “us,” or the “Company” refer to Banner Corporation and its consolidated subsidiaries, unless the context otherwise requires. All references to “Banner” refer to Banner Corporation and those to “the Banks” refer to its wholly-owned subsidiaries, Banner Bank and Islanders Bank, collectively.

BANNER CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

(Unaudited) (In thousands, except shares)

September 30, 2019 and December 31, 2018



ASSETS	September 30, 2019			December 31, 2018
Cash and due from banks	$	250,671		$	231,029
Interest bearing deposits	73,785			41,167
Total cash and cash equivalents	324,456			272,196
Securities—trading	25,672			25,896
Securities—available-for-sale, amortized cost $1,508,810 and $1,648,421, respectively	1,539,908			1,636,223
Securities—held-to-maturity, fair value $233,721 and $232,537, respectively	230,056			234,220
Total securities	1,795,636			1,896,339
Federal Home Loan Bank (FHLB) stock	25,623			31,955
Loans held for sale (includes $225.6 million and $164.8 million, at fair value, respectively)	244,889			171,031
Loans receivable	8,835,368			8,684,595
Allowance for loan losses	(97,801		)	(96,485		)
Net loans receivable	8,737,567			8,588,110
Accrued interest receivable	40,033			38,593
Real estate owned (REO), held for sale, net	228			2,611
Property and equipment, net	171,279			171,809
Goodwill	339,154			339,154
Other intangibles, net	26,610			32,924
Bank-owned life insurance (BOLI)	179,076			177,467
Deferred tax assets, net	58,884			75,020
Other assets	154,407			74,108
Total assets	$	12,097,842		$	11,871,317
LIABILITIES
Deposits:
Non-interest-bearing	$	3,885,210		$	3,657,817
Interest-bearing transaction and savings accounts	4,624,970			4,498,966
Interest-bearing certificates	1,218,591			1,320,265
Total deposits	9,728,771			9,477,048
Advances from FHLB	382,000			540,189
Other borrowings	120,014			118,995
Junior subordinated debentures at fair value (issued in connection with Trust Preferred Securities)	113,417			114,091
Accrued expenses and other liabilities	181,351			102,061
Deferred compensation	41,354			40,338
Total liabilities	10,566,907			10,392,722
COMMITMENTS AND CONTINGENCIES (Note 13)
SHAREHOLDERS’ EQUITY
Preferred stock - $0.01 par value per share, 500,000 shares authorized; no shares outstanding at September 30, 2019 and December 31, 2018	—			—
Common stock and paid in capital - $0.01 par value per share, 50,000,000 shares authorized; 34,134,165 shares issued and outstanding at September 30, 2019; 35,107,839 shares issued and outstanding at December 31, 2018	1,286,022			1,336,030
Common stock (non-voting) and paid in capital - $0.01 par value per share, 5,000,000 shares authorized; 39,192 shares issued and outstanding at September 30, 2019; 74,933 shares issued and outstanding at December 31, 2018	689			1,406
Retained earnings	203,704			134,055
Carrying value of shares held in trust for stock-based compensation plans	(7,387		)	(7,289		)
Liability for common stock issued to stock related compensation plans	7,387			7,289
Accumulated other comprehensive income	40,520			7,104
Total shareholders' equity	1,530,935			1,478,595
Total liabilities and shareholders' equity	$	12,097,842		$	11,871,317

See Selected Notes to the Consolidated Financial Statements

BANNER CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited) (In thousands, except shares and per share amounts)

For the Three and Nine Months Ended September 30, 2019 and 2018



	Three Months Ended September 30,						Nine Months Ended September 30,
	2019			2018			2019			2018
INTEREST INCOME:
Loans receivable	$	118,096		$	104,868		$	350,558		$	298,743
Mortgage-backed securities	9,415			8,915			29,716			25,145
Securities and cash equivalents	3,925			3,865			11,996			11,003
Total interest income	131,436			117,648			392,270			334,891
INTEREST EXPENSE:
Deposits	10,014			5,517			27,680			13,139
FHLB advances	3,107			1,388			9,953			3,564
Other borrowings	82			60			209			179
Junior subordinated debentures	1,612			1,605			5,008			4,495
Total interest expense	14,815			8,570			42,850			21,377
Net interest income	116,621			109,078			349,420			313,514
PROVISION FOR LOAN LOSSES	2,000			2,000			6,000			6,000
Net interest income after provision for loan losses	114,621			107,078			343,420			307,514
NON-INTEREST INCOME:
Deposit fees and other service charges	10,331			12,255			36,995			35,535
Mortgage banking operations	6,616			5,816			15,967			15,324
Bank-owned life insurance (BOLI)	1,076			1,726			3,475			3,511
Miscellaneous	2,914			569			5,431			4,995
	20,937			20,366			61,868			59,365
Net (loss) gain on sale of securities	(2		)	—			(29		)	48
Net change in valuation of financial instruments carried at fair value	(69		)	45			(172		)	3,577
Total non-interest income	20,866			20,411			61,667			62,990
NON-INTEREST EXPENSE:
Salary and employee benefits	59,090			48,930			169,359			150,491
Less capitalized loan origination costs	(7,889		)	(4,318		)	(20,137		)	(13,062		)
Occupancy and equipment	12,566			12,385			39,013			35,725
Information/computer data services	5,657			4,766			16,256			13,711
Payment and card processing expenses	4,330			3,748			12,355			11,179
Professional and legal expenses	2,704			3,010			7,474			11,276
Advertising and marketing	2,221			1,786			5,815			5,758
Deposit insurance (benefit) expense	(1,604		)	991			1,232			3,353
State/municipal business and use taxes	1,011			902			2,963			2,430
REO operations, net	126			433			263			553
Amortization of core deposit intangibles	1,985			1,348			6,090			4,112
Miscellaneous	6,435			6,646			20,230			19,444
	86,632			80,627			260,913			244,970
Acquisition-related expenses	676			1,005			3,125			1,005
Total non-interest expense	87,308			81,632			264,038			245,975
Income before provision for income taxes	48,179			45,857			141,049			124,529
PROVISION FOR INCOME TAXES	8,602			8,084			28,426			25,542
NET INCOME	$	39,577		$	37,773		$	112,623		$	98,987
Earnings per common share:
Basic	$	1.15		$	1.17		$	3.24		$	3.06
Diluted	$	1.15		$	1.17		$	3.23		$	3.05
Cumulative dividends declared per common share	$	0.41		$	0.38		$	1.23		$	1.58
Weighted average number of common shares outstanding:
Basic	34,407,462			32,256,789			34,760,607			32,300,688
Diluted	34,497,994			32,376,623			34,850,006			32,406,414

See Selected Notes to the Consolidated Financial Statements

BANNER CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited) (In thousands)

For the Three and Nine Months Ended September 30, 2019 and 2018



	Three Months Ended September 30,						Nine Months Ended September 30,
	2019			2018			2019			2018
NET INCOME	$	39,577		$	37,773		$	112,623		$	98,987
OTHER COMPREHENSIVE INCOME (LOSS), NET OF INCOME TAXES:
Unrealized holding gain (loss) on available-for-sale securities arising during the period	5,861			(10,010		)	43,268			(33,083		)
Reclassification for net loss (gain) on available-for-sale securities realized in earnings	2			—			28			(51		)
Changes in fair value of junior subordinated debentures related to instrument specific credit risk	204			(336		)	674			(14,403		)
Income tax (expense) benefit related to other comprehensive income (loss)	(1,457		)	2,483			(10,554		)	11,376
Other comprehensive income (loss)	4,610			(7,863		)	33,416			(36,161		)
COMPREHENSIVE INCOME	$	44,187		$	29,910		$	146,039		$	62,826

See Selected Notes to the Consolidated Financial Statements

BANNER CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(Unaudited) (In thousands, except shares)

For the Nine Months Ended September 30, 2019 and the Year Ended December 31, 2018



	Common Stock and Paid in Capital					Retained Earnings			Accumulated Other Comprehensive (Loss) Income			Shareholders’ Equity
	Shares		Amount			Retained Earnings			Accumulated Other Comprehensive (Loss) Income			Shareholders’ Equity
Balance, January 1, 2018	32,726,485		$	1,187,127		$	90,535		$	(5,036	)	$	1,272,626

Cumulative effect of reclassification of the instrument-specific credit risk portion of junior subordinated debentures fair value adjustments and reclassification of equity securities from available-for-sale						(28,203		)	28,203			—
Net income						28,790						28,790
Other comprehensive loss, net of income tax									(21,777		)	(21,777		)
Repurchase of common stock	(269,711	)	(15,359		)							(15,359		)
Accrual of dividends on common stock ($0.35/share)						(11,349		)				(11,349		)
Amortization of stock-based compensation related to restricted stock grants, net of shares surrendered	(33,101	)	1,192									1,192

Balance, March 31, 2018	32,423,673		$	1,172,960		$	79,773		$	1,390		$	1,254,123



Balance, April 1, 2018	32,423,673		$	1,172,960	$	79,773		$	1,390		$	1,254,123

Net income					32,424						32,424
Other comprehensive loss, net of income tax								(6,521		)	(6,521		)
Accrual of dividends on common stock ($0.85/share)					(27,712		)				(27,712		)
Amortization of stock-based compensation related to restricted stock grants, net of shares surrendered	(17,977	)	696								696

Balance, June 30, 2018	32,405,696		$	1,173,656	$	84,485		$	(5,131	)	$	1,253,010

Continued on next page



	Common Stock and Paid in Capital				Retained Earnings			Accumulated Other Comprehensive (Loss) Income			Shareholders’ Equity
	Shares		Amount		Retained Earnings			Accumulated Other Comprehensive (Loss) Income			Shareholders’ Equity
Balance, July 1, 2018	32,405,696		$	1,173,656	$	84,485		$	(5,131	)	$	1,253,010

Net income					37,773						37,773
Other comprehensive loss, net of income tax								(7,863		)	(7,863		)
Accrual of dividends on common stock ($0.38/share)					(12,316		)				(12,316		)
Amortization of stock-based compensation related to restricted stock grants, net of shares surrendered	(2,939	)	1,594								1,594

Balance, September 30, 2018	32,402,757		$	1,175,250	$	109,942		$	(12,994	)	$	1,272,198



Balance, October 1, 2018	32,402,757		$	1,175,250		$	109,942		$	(12,994	)	$	1,272,198

Net income						37,527						37,527
Other comprehensive income, net of income tax									20,098			20,098
Accrual of dividends on common stock ($0.38/share)						(13,414		)				(13,414		)
Amortization of stock-based compensation related to restricted stock grants, net of shares surrendered	(3,056	)	1,519									1,519
Repurchase of common stock	(325,000	)	(19,042		)							(19,042		)
Business acquisition	3,108,071		179,709									179,709

Balance, December 31, 2018	35,182,772		$	1,337,436		$	134,055		$	7,104		$	1,478,595

Continued on next page



	Common Stock and Paid in Capital				Retained Earnings			Accumulated Other Comprehensive Income		Stockholders’ Equity
	Shares		Amount		Retained Earnings			Accumulated Other Comprehensive Income		Stockholders’ Equity
Balance, January 1, 2019	35,182,772		$	1,337,436	$	134,055		$	7,104	$	1,478,595

Net income					33,346					33,346
Other comprehensive income, net of income tax								12,790		12,790
Accrual of dividends on common stock ($0.41/share)					(14,490		)			(14,490		)
Amortization of stock-based compensation related to restricted stock grants, net of shares surrendered	(30,026	)	950							950

Balance, March 31, 2019	35,152,746		$	1,338,386	$	152,911		$	19,894	$	1,511,191



Balance, April 1, 2019	35,152,746		$	1,338,386		$	152,911		$	19,894	$	1,511,191

Net income						39,700					39,700
Other comprehensive income, net of income tax									16,016		16,016
Accrual of dividends on common stock ($0.41/share)						(14,354		)			(14,354		)
Amortization of stock-based compensation related to restricted stock grants, net of shares surrendered	20,897		575								575
Repurchase of common stock	(600,000	)	(32,073		)						(32,073		)

Balance, June 30, 2019	34,573,643		$	1,306,888		$	178,257		$	35,910	$	1,521,055

Continued on next page



	Common Stock and Paid in Capital					Retained Earnings			Accumulated Other Comprehensive Income		Stockholders’ Equity
	Shares		Amounts			Retained Earnings			Accumulated Other Comprehensive Income		Stockholders’ Equity
Balance, July 1, 2019	34,573,643		$	1,306,888		$	178,257		$	35,910	$	1,521,055

Net income						39,577					39,577
Other comprehensive income, net of income tax									4,610		4,610
Accrual of dividends on common stock ($0.41/share)						(14,130		)			(14,130		)
Amortization of stock-based compensation related to restricted stock grants, net of shares surrendered	(286	)	1,672								1,672
Repurchase of common stock	(400,000	)	(21,849		)						(21,849		)

Balance, September 30, 2019	34,173,357		$	1,286,711		$	203,704		$	40,520	$	1,530,935

See Selected Notes to the Consolidated Financial Statements

BANNER CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited) (In thousands)

For the Nine Months Ended September 30, 2019 and 2018



	Nine Months Ended September 30,
	2019			2018
OPERATING ACTIVITIES:
Net income	$	112,623		$	98,987
Adjustments to reconcile net income to net cash provided from operating activities:
Depreciation	12,934			11,014
Deferred income and expense, net of amortization	(350		)	(4,005		)
Amortization of core deposit intangibles	6,090			4,112
Loss (gain) on sale of securities	29			(48		)
Net change in valuation of financial instruments carried at fair value	172			(3,577		)
Decrease (increase) in deferred taxes	16,136			(7,044		)
Increase in current taxes payable	3,410			7,227
Stock-based compensation	5,101			4,844
Increase in cash surrender value of BOLI	(3,086		)	(3,486		)
Gain on sale of loans, including capitalized servicing rights	(11,834		)	(10,815		)
Loss (gain) on disposal of real estate held for sale and property and equipment	1,274			(1,417		)
Provision for loan losses	6,000			6,000
Provision for losses on real estate held for sale	—			187
Origination of loans held for sale	(756,283		)	(637,702		)
Proceeds from sales of loans held for sale	694,259			616,393
Net change in:
Other assets	(26,381		)	521
Other liabilities	8,398			5,269
Net cash provided from operating activities	68,492			86,460
INVESTING ACTIVITIES:
Purchases of securities—available-for-sale	(118,823		)	(668,456		)
Principal repayments and maturities of securities—available-for-sale	209,396			123,132
Proceeds from sales of securities—available-for-sale	43,114			8,363
Purchases of securities—held-to-maturity	(42,350		)	(8,469		)
Principal repayments and maturities of securities—held-to-maturity	44,971			8,291
Loan originations, net of principal repayments	(158,754		)	(218,226		)
Purchases of loans and participating interest in loans	(8,608		)	(1,748		)
Proceeds from sales of other loans	16,279			6,629
Net cash paid related to branch divestiture	(10,382		)	(20,412		)
Purchases of property and equipment	(16,738		)	(12,982		)
Proceeds from sale of real estate held for sale and sale of other property, net	6,809			6,982
Proceeds from FHLB stock repurchase program	130,073			110,078
Purchase of FHLB stock	(123,740		)	(118,940		)
Other	1,461			3,562
Net cash used in investing activities	(27,292		)	(782,196		)
FINANCING ACTIVITIES:
Increase in deposits, net	266,129			522,798
Proceeds from long term FHLB advances	300,000			—
Repayment of long term FHLB advances	(100,189		)	(8		)
(Repayment) proceeds from overnight and short term FHLB advances, net	(358,000		)	221,000
Increase in other borrowings, net	1,019			3,119
Cash dividends paid	(42,073		)	(46,989		)
Taxes paid related to net share settlement of equity awards	(1,904		)	(1,364		)
Cash paid for the repurchase of common stock	(53,922		)	(15,359		)
Net cash provided from financing activities	11,060			683,197
NET CHANGE IN CASH AND CASH EQUIVALENTS	52,260			(12,539		)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD	272,196			261,200
CASH AND CASH EQUIVALENTS, END OF PERIOD	$	324,456		$	248,661

Continued on next page

BANNER CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)

(Unaudited) (In thousands)

For the Nine Months Ended September 30, 2019 and 2018



	Nine Months Ended September 30,
	2019		2018
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid in cash	$	45,348	$	18,901
Tax paid, net of refunds	18,220		13,029
NON-CASH INVESTING AND FINANCING TRANSACTIONS:
Loans, net of discounts, specific loss allowances and unearned income, transferred to real estate owned and other repossessed assets	246		1,451
Dividends accrued but not paid until after period end	14,679		12,654

See Selected Notes to the Consolidated Financial Statements

BANNER CORPORATION AND SUBSIDIARIES

SELECTED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

Note 1: BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES

The accompanying unaudited condensed consolidated financial statements include the accounts of Banner Corporation (the Company or Banner), a bank holding company incorporated in the State of Washington and its wholly-owned subsidiaries, Banner Bank and Islanders Bank (the Banks).

These unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (GAAP) for interim financial information and in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X as promulgated by the Securities and Exchange Commission (SEC). In preparing these financial statements, the Company has evaluated events and transactions subsequent to September 30, 2019 for potential recognition or disclosure. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the financial position and results of operations for the periods presented have been included. Certain information and disclosures normally included in annual financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to the rules and regulations of the SEC and the accounting standards for interim financial statements. Certain reclassifications have been made to the 2018 Consolidated Financial Statements and/or schedules to conform to the 2019 presentation. These reclassifications may have affected certain ratios for the prior periods. The effect of these reclassifications is considered immaterial. All significant intercompany transactions and balances have been eliminated.

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect amounts reported in the financial statements. Various elements of the Company’s accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions and other subjective assessments. In particular, management has identified several accounting policies that, due to the judgments, estimates and assumptions inherent in those policies, are significant to an understanding of Banner’s financial statements. These policies relate to (i) the methodology for the recognition of interest income, (ii) determination of the provision and allowance for loan losses, (iii) the valuation of financial assets and liabilities recorded at fair value, including other-than-temporary impairment (OTTI) losses, (iv) the valuation of intangibles, such as goodwill, core deposit intangibles (CDI) and mortgage servicing rights, (v) the valuation of real estate held for sale, (vi) the valuation of assets acquired and liabilities assumed in business combinations and subsequent recognition of related income and expense, and (vii) the valuation or recognition of deferred tax assets and liabilities. These policies and judgments, estimates and assumptions are described in greater detail in subsequent notes to the Consolidated Financial Statements and Management’s Discussion and Analysis of Financial Condition and Results of Operations (Critical Accounting Policies) in our Annual Report on Form 10-K for the year ended December 31, 2018 filed with the SEC (2018 Form 10-K). There have been no significant changes in our application of these accounting policies during the first nine months of 2019, except as described in Note 2.

The information included in this Form 10-Q should be read in conjunction with our 2018 Form 10-K. Interim results are not necessarily indicative of results for a full year or any other interim period.

Note 2: ACCOUNTING STANDARDS RECENTLY ISSUED OR ADOPTED

Leases (Topic 842)

In February 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842). The amendments in this ASU require lessees to recognize the following for all leases (with the exception of short-term leases) at the commencement date; a lease liability, which is a lessee‘s obligation to make lease payments arising from a lease, measured on a discounted basis; and a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. In July 2018, FASB issued ASU No. 2018-11, Targeted Improvements. The amendments in this ASU provide entities with an additional (and optional) transition method to adopt the new leases standard. The Company adopted the requirements of Topic 842 effective January 1, 2019. The Company elected the transition option provided in ASU No. 2018-11 and applied the modified retrospective approach for leases that existed as of January 1, 2019, or were entered into thereafter. The Company elected certain relief options for practical expedients: the option to not separate lease and non-lease components and instead to account for them as a single lease component, and the option to not recognize right-of-use assets and lease liabilities that arise from short-term leases (i.e. lease terms of twelve months or less). In addition, the Company elected the package of practical expedients in transition, which permitted us to not reassess our prior conclusions pertaining to lease identification, lease classification, and initial direct costs on leases that commenced prior to our adoption of the new standard. In connection with the adoption of this ASU, as of January 1, 2019, the Company recorded a $56 million right-of-use asset and a $59 million lease liability on its Consolidated Statements of Financial Condition.

Financial Instruments—Credit Losses (Topic 326)

In June 2016, FASB issued ASU No. 2016-13, Measurement of Credit Losses on Financial Instruments. Current GAAP requires an “incurred loss” methodology for recognizing credit losses that delays recognition until it is probable a loss has been incurred. The main objective of this ASU is to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date. The ASU affects loans, debt securities, trade receivables, net investments in leases, off-balance-sheet credit exposures, reinsurance receivables, and any other financial asset not excluded from the scope that have the contractual right to receive cash. The ASU replaces the incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. This ASU requires a financial asset (or group of financial assets) measured at amortized cost basis to be presented at the net amount expected to be collected. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis of the financial asset(s) to present the net carrying value at the amount expected to be collected on the financial asset. The measurement of expected credit losses will be based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. This ASU broadens the information that an entity must consider in developing its expected credit loss estimate for assets measured either collectively or individually. The use of forecasted information incorporates more timely information in the estimate of expected credit loss, which will be more decision useful to users of the financial statements. This ASU will be effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company is still evaluating the effects this ASU will have on the Company’s Consolidated Financial Statements. The Company has formed an internal committee to oversee the project, engaged a third-party vendor to assist with the project and has completed its gap analysis phase of the project. In addition, the Company has selected a second third-party vendor to assist with building and developing the required models and has completed the initial build out of the required models. The Company has also selected a different third-party vendor to provide various economic forecast scenarios. The Company has developed a reasonable and supportable forecast based upon these economic forecast scenarios and has incorporated the reasonable and supportable forecast into the models. The Company is in the process of incorporating the qualitative factors into the models. Upon adoption, the Company expects changes in the processes and procedures used to calculate the allowance for loan losses, including changes in assumptions and estimates to consider expected credit losses over the life of the loan versus the current accounting practice that utilizes the incurred loss model. The new guidance may result in an increase in the allowance for loan losses which will also reflect the new requirement to include expected losses on purchased credit-impaired loans; however, the Company is still in the process of determining the magnitude of the change and its impact on the Consolidated Financial Statements. In addition, the current accounting policy and procedures for other-than-temporary impairment on investment securities available-for-sale will be replaced with an allowance approach.

Receivables—Nonrefundable Fees and Other Costs (Subtopic 310-20)

In March 2017, FASB issued ASU No. 2017-08, Premium Amortization on Purchased Callable Debt Securities. The amendments in this ASU shorten the premium amortization period for callable debt securities purchased at a premium. Specifically, the amendments require the premium to be amortized to the earliest call date. Under current GAAP, premiums and discounts on callable debt securities generally are amortized to the maturity date. The amendments do not require an accounting change for securities held at a discount; the discount continues to be amortized to the maturity date. The amendments in this ASU more closely align the amortization period of premiums and discounts to expectations incorporated in market pricing on the underlying securities. The amendments in this ASU are effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. The Company adopted this ASU effective January 1, 2019. The adoption of this ASU has not had a material impact on the Company’s Consolidated Financial Statements.

Derivatives and Hedging (Topic 815)

In August 2017, FASB issued ASU No. 2017-12, Targeted Improvements to Accounting for Hedging Activities. The amendments in this ASU are intended to provide investors better insight into an entity's risk management hedging strategies by permitting a company to recognize the economic results of its hedging strategies in its financial statements. The amendments in this ASU permit hedge accounting for hedging relationships involving non-financial risk and interest rate risk by removing certain limitations in cash flow and fair value hedging relationships. In addition, the ASU requires an entity to present the earnings effect of the hedging instrument in the same income statement line item in which the earnings effect of the hedged item is reported. This ASU is effective for fiscal years beginning after December 15, 2018. Adoption of ASU 2017-12 did not have a material impact on the Company's Consolidated Financial Statements.

Intangibles-Goodwill and Other-Internal-Use Software (Subtopic 350-40)

In August 2018, FASB issued ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. The amendments in this ASU broaden the scope of ASC Subtopic 350-40 to include costs incurred to implement a hosting arrangement that is a service contract. The amendments align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). The costs are capitalized or expensed depending on the nature of the costs and the project stage during which they are incurred, consistent with the accounting for costs for internal-use software. The amendments in this ASU result in consistent capitalization of implementation costs of a hosting arrangement that is a service contract and implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). The accounting for the service element of a hosting arrangement that is a service contract is not affected by the amendments in this ASU. This ASU is effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years. The amendments in this ASU should be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. Adoption of ASU 2018-15 is not expected to have a material impact on the Company’s Consolidated Financial Statements.

Fair Value Measurement (Topic 820)

In August 2018, FASB issued ASU 2018-13, Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement. The amendments in this ASU modify the disclosure requirements on fair value measurements in Topic 820, Fair Value Measurement. The ASU removes, modifies and adds disclosure requirements in Topic 820. The following disclosure requirements were removed: 1) the amount and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, 2) the policy for timing of transfers between levels, and 3) the valuation processes for Level 3 fair value measurements. This ASU modified disclosure requirements by requiring: that the measurement uncertainty disclosure communicates information about the uncertainty in measurement as of the reporting date. The following disclosure requirements were added: 1) changes in unrealized gains and losses for the period included in other comprehensive income for the recurring Level 3 fair value measurements held at the end of the reporting period, and 2) the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. The amendments in this ASU are effective for all entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. An entity is permitted to early adopt any removed or modified disclosures upon issuance of this ASU and delay adoption of the additional disclosures until their effective date. Adoption of ASU 2018-13 is not expected to have a material impact on the Company’s Consolidated Financial Statements.

NOTE 3: BUSINESS COMBINATIONS

Acquisition of AltaPacific

On November 1, 2019, the Company completed the acquisition of AltaPacific, the holding company for AltaPacific Bank, a California state-chartered commercial bank. AltaPacific was merged into Banner and AltaPacific Bank was merged into Banner Bank. Pursuant to the previously announced terms of the acquisition, AltaPacific shareholders received 0.2712 shares of Banner common stock in exchange for each share of AltaPacific common stock, plus cash in lieu of any fractional shares. At September 30, 2019, AltaPacific had assets of $420 million, loans of $334 million, and deposits of$297 million with five banking locations in Southern California and one banking location in Northern California. The combined company has approximately $12.5 billion in assets.

The primary reason for the acquisition was to expand the Company’s presence in California by adding density within our existing geographic footprint. Preliminary fair values for all assets and liabilities, as well as the consideration paid, are not reported herein as the Company is still in the process of completing the initial accounting for the acquisition. Goodwill expected to be recorded in the transaction will not be deductible for income tax purposes as the acquisition is accounted for as a tax-free exchange for tax purposes. The Company expects to disclose preliminary estimates of assets acquired and liabilities assumed, including fair value adjustments and the consideration paid, in the Company's December 31, 2019 Form 10-K. In addition, the Company's December 31, 2019 Form 10-K will include the results of operations produced by the acquired company beginning on November 1, 2019.

Acquisition of Skagit Bancorp, Inc.

Effective as of the close of business on November 1, 2018, the Company acquired 100% of the outstanding common shares of Skagit Bancorp, Inc. (“Skagit”) and its wholly-owned subsidiary, Skagit Bank, a Washington State chartered commercial bank headquartered in Burlington, Washington, with 11 branches serving markets along the I-5 corridor from Seattle to the Canadian border. On that date, Skagit merged with and into Banner and Skagit Bank merged with and into Banner Bank. Pursuant to the previously announced terms of the merger, the equity holders of Skagit received an aggregate of 3.1 million shares of Banner voting common stock, plus cash in lieu of fractional shares and to cancel Skagit stock options, for total consideration paid of $180.0 million. The acquisition provided $915.8 million in assets, $810.2 million in deposits and $632.4 million in loans to Banner.

The application of the acquisition method of accounting resulted in recognition of a CDI asset of $16.4 million and goodwill of $96.5 million. The acquired CDI has been determined to have a useful life of approximately nine years and will be amortized on an accelerated basis. Goodwill is not amortized but will be evaluated for impairment on an annual basis or more often if circumstances dictate to determine if the carrying value remains appropriate. Goodwill will not be deductible for income tax purposes as the acquisition is accounted for as a tax-free exchange for tax purposes.

The following table presents a summary of the consideration paid and the estimated fair values as of the acquisition date for each major class of assets acquired and liabilities assumed (in thousands):



	Skagit
	November 1, 2018
Consideration to Skagit equity holders:
Cash paid			$	329
Fair value of common shares issued			179,709
Total consideration			$	180,038

Fair value of assets acquired:
Cash and cash equivalents	$	19,167
Securities	210,326
Loans receivable (contractual amount of $645.6 million)	632,374
Real estate owned held for sale	2,593
Property and equipment	15,788
Core deposit intangible	16,368
Deferred tax asset	95
Other assets	19,110
Total assets acquired	915,821

Fair value of liabilities assumed:
Deposits	810,209
Other liabilities	22,069
Total liabilities assumed	832,278

Net assets acquired			83,543
Goodwill			$	96,495

Acquired goodwill represents the premium the Company paid over the fair value of the net tangible and intangible assets acquired. The primary reason for the acquisition was to expand the Company’s presence and density in the North Sound region of the Pacific Northwest along the I-5 corridor. The Company paid this premium for a number of reasons, including growing the Company's customer base, acquiring assembled workforces, and expanding its presence in existing markets. See Note 7, Goodwill, Other Intangible Assets and Mortgage Servicing Rights for the accounting for goodwill and other intangible assets.

As of November 1, 2018, the unpaid principal balance on purchased non-credit-impaired loans was $637.4 million. The fair value of the purchased non-credit-impaired loans was $625.2 million, resulting in a discount of $12.2 million recorded on these loans, which includes $7.9 million of a credit related discount. This discount is being accreted into income over the life of the loans on an effective yield basis.

The following table presents the acquired PCI loans as of the acquisition date (in thousands):



	Skagit
	November 1, 2018
Acquired PCI loans:
Contractually required principal and interest payments	$	9,897
Nonaccretable difference	(1,915		)
Cash flows expected to be collected	7,982
Accretable yield	(995		)
Fair value of PCI loans	$	6,987

The operating results of the Company include the operating results produced by the acquired assets and assumed liabilities of Skagit for the period since November 1, 2018. Disclosure of the amount of Skagit’s revenue and net income (excluding integration costs) included in the Company’s Consolidated Statements of Operations is impracticable due to the integration of the operations and accounting for this acquisition. The pro forma impact of the Skagit acquisition to the historical financial results was determined to not be significant.

Note 4: SECURITIES

The amortized cost, gross unrealized gains and losses and estimated fair value of securities at September 30, 2019 and December 31, 2018 are summarized as follows (in thousands):



	September 30, 2019
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
Trading:
Corporate bonds	$	27,203						$	25,672
	$	27,203						$	25,672
Available-for-Sale:
U.S. Government and agency obligations	$	110,553	$	611	$	(1,168	)	$	109,996
Municipal bonds	102,888		5,466		(5		)	108,349
Corporate bonds	3,757		10		(1		)	3,766
Mortgage-backed or related securities	1,283,866		27,643		(1,410		)	1,310,099
Asset-backed securities	7,746		—		(48		)	7,698
	$	1,508,810	$	33,730	$	(2,632	)	$	1,539,908
Held-to-Maturity:
U.S. Government and agency obligations	$	386	$	7	$	—		$	393
Municipal bonds	168,746		4,006		(1,123		)	171,629
Corporate bonds	3,635		—		(12		)	3,623
Mortgage-backed or related securities	57,289		1,341		(554		)	58,076
	$	230,056	$	5,354	$	(1,689	)	$	233,721



	December 31, 2018
	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
Trading:
Corporate bonds	$	27,203						$	25,896
	$	27,203						$	25,896
Available-for-Sale:
U.S. Government and agency obligations	$	151,012	$	149	$	(2,049	)	$	149,112
Municipal bonds	116,548		1,806		(532		)	117,822
Corporate bonds	3,556		—		(61		)	3,495
Mortgage-backed or related securities	1,355,258		5,210		(16,607		)	1,343,861
Asset-backed securities	22,047		6		(120		)	21,933
	$	1,648,421	$	7,171	$	(19,369	)	$	1,636,223
Held-to-Maturity:
U.S. Government and agency obligations	$	1,006	$	14	$	(1	)	$	1,019
Municipal bonds	176,663		1,727		(2,578		)	175,812
Corporate bonds	3,736		—		(13		)	3,723
Mortgage-backed or related securities	52,815		66		(898		)	51,983
	$	234,220	$	1,807	$	(3,490	)	$	232,537

At September 30, 2019 and December 31, 2018, the gross unrealized losses and the fair value for securities available-for-sale and held-to-maturity aggregated by the length of time that individual securities have been in a continuous unrealized loss position were as follows (in thousands):



	September 30, 2019
	Less Than 12 Months					12 Months or More					Total
	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses			Fair Value		Unrealized Losses
Available-for-Sale:
U.S. Government and agency obligations	$	3,282	$	(18	)	$	68,910	$	(1,150	)	$	72,192	$	(1,168	)
Municipal bonds	1,043		(3		)	655		(2		)	1,698		(5		)
Corporate bonds	502		—			1,001		(1		)	1,503		(1		)
Mortgage-backed or related securities	212,317		(1,210		)	41,985		(200		)	254,302		(1,410		)
Asset-backed securities	6,396		(46		)	575		(2		)	6,971		(48		)
	$	223,540	$	(1,277	)	$	113,126	$	(1,355	)	$	336,666	$	(2,632	)
Held-to-Maturity
Municipal bonds	$	33,287	$	(762	)	$	20,618	$	(361	)	$	53,905	$	(1,123	)
Corporate bonds	—		—			488		(12		)	488		(12		)
Mortgage-backed or related securities	11,693		(554		)	—		—			11,693		(554		)
	$	44,980	$	(1,316	)	$	21,106	$	(373	)	$	66,086	$	(1,689	)

	December 31, 2018
	Less Than 12 Months					12 Months or More					Total
	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses			Fair Value		Unrealized Losses
Available-for-Sale:
U.S. Government and agency obligations	$	75,885	$	(1,240	)	$	50,508	$	(809	)	$	126,393	$	(2,049	)
Municipal bonds	6,422		(54		)	27,231		(478		)	33,653		(532		)
Corporate bonds	3,199		(56		)	295		(5		)	3,494		(61		)
Mortgage-backed or related securities	316,074		(2,939		)	571,989		(13,668		)	888,063		(16,607		)
Asset-backed securities	10,582		(24		)	9,913		(96		)	20,495		(120		)
	$	412,162	$	(4,313	)	$	659,936	$	(15,056	)	$	1,072,098	$	(19,369	)
Held-to-Maturity
U.S. Government and agency obligations	$	145	$	(1	)	$	—	$	—		$	145	$	(1	)
Municipal bonds	29,898		(274		)	44,637		(2,304		)	74,535		(2,578		)
Corporate bonds	—		—			487		(13		)	487		(13		)
Mortgage-backed or related securities	10,761		(220		)	30,035		(678		)	40,796		(898		)
	$	40,804	$	(495	)	$	75,159	$	(2,995	)	$	115,963	$	(3,490	)

At September 30, 2019, there were 90 securities—available-for-sale with unrealized losses, compared to 271 at December 31, 2018. At September 30, 2019, there were 16 securities—held-to-maturity with unrealized losses, compared to 90 at December 31, 2018. Management does not believe that any individual unrealized loss as of September 30, 2019 or December 31, 2018 represented other-than-temporary impairment (OTTI). The decline in fair market value of these securities was generally due to changes in interest rates and changes in market-desired spreads subsequent to their purchase.

There were no sales of securities—trading during the nine months ended September 30, 2019 or 2018. There were no securities—trading in a nonaccrual status at September 30, 2019 or December 31, 2018. Net unrealized holding losses of $172,000 were recognized during the nine months ended September 30, 2019 compared to $3.5 million of net unrealized holdings gains recognized during the nine months ended September 30, 2018.

There were 45 sales of securities—available-for-sale during the nine months ended September 30, 2019, with a net loss of $28,000. There were nine sales of securities—available-for-sale during the nine months ended September 30, 2018, which together with partial calls of securities

resulted in a net gain of $51,000. There were no securities—available-for-sale in a nonaccrual status at September 30, 2019 or December 31, 2018.

There was no sale of securities—held-to-maturity during the nine months ended September 30, 2019 or 2018, although there were partial calls of securities that resulted in a net loss of $1,000 for the nine months ended September 30, 2019 and a net gain of $2,000 for the nine months ended September 30, 2018. There were no securities—held-to-maturity in a nonaccrual status at September 30, 2019 or December 31, 2018.

The amortized cost and estimated fair value of securities at September 30, 2019, by contractual maturity, are shown below (in thousands). Expected maturities will differ from contractual maturities because some securities may be called or prepaid with or without call or prepayment penalties.



	September 30, 2019
	Trading				Available-for-Sale				Held-to-Maturity
	Amortized Cost		Fair Value		Amortized Cost		Fair Value		Amortized Cost		Fair Value
Maturing in one year or less	$	—	$	—	$	2,421	$	2,423	$	3,339	$	3,341
Maturing after one year through five years	—		—		54,704		55,751		62,060		63,122
Maturing after five years through ten years	—		—		373,474		388,323		43,592		45,338
Maturing after ten years through twenty years	27,203		25,672		228,067		234,354		91,041		92,108
Maturing after twenty years	—		—		850,144		859,057		30,024		29,812
	$	27,203	$	25,672	$	1,508,810	$	1,539,908	$	230,056	$	233,721

The following table presents, as of September 30, 2019, investment securities which were pledged to secure borrowings, public deposits or other obligations as permitted or required by law (in thousands):



	September 30, 2019
	Carrying Value		Amortized Cost		Fair Value
Purpose or beneficiary:
State and local governments public deposits	$	137,911	$	137,163	$	141,588
Interest rate swap counterparties	21,849		21,427		22,077
Repurchase agreements	151,110		149,253		151,110
Other	2,702		2,702		2,699
Total pledged securities	$	313,572	$	310,545	$	317,474

Note 5: LOANS RECEIVABLE AND THE ALLOWANCE FOR LOAN LOSSES

Loans receivable at September 30, 2019 and December 31, 2018 are summarized as follows (dollars in thousands):



	September 30, 2019					December 31, 2018
	Amount			Percent of Total		Amount			Percent of Total
Commercial real estate:
Owner-occupied	$	1,463,303		16.6	%	$	1,430,097		16.4	%
Investment properties	2,150,938			24.3		2,131,059			24.5
Multifamily real estate	399,814			4.5		368,836			4.2
Commercial construction	190,532			2.2		172,410			2.0
Multifamily construction	214,878			2.4		184,630			2.1
One- to four-family construction	488,945			5.5		534,678			6.2
Land and land development:
Residential	163,829			1.9		188,508			2.2
Commercial	26,119			0.3		27,278			0.3
Commercial business	1,619,391			18.3		1,483,614			17.1
Agricultural business, including secured by farmland	390,505			4.4		404,873			4.7
One- to four-family residential	947,475			10.7		973,616			11.2
Consumer:
Consumer secured by one- to four-family	566,792			6.5		568,979			6.6
Consumer—other	212,847			2.4		216,017			2.5
Total loans	8,835,368			100.0	%	8,684,595			100.0	%
Less allowance for loan losses	(97,801		)			(96,485		)
Net loans	$	8,737,567				$	8,588,110

Loan amounts are net of unearned loan fees in excess of unamortized costs of $43,000 as of September 30, 2019 and $1.4 million as of December 31, 2018. Net loans include net discounts on acquired loans of $21.3 million and $25.7 million as of September 30, 2019 and December 31, 2018, respectively.

Purchased credit-impaired loans and purchased non-credit-impaired loans. Purchased loans, including loans acquired in business combinations, are recorded at their fair value at the acquisition date. Credit discounts are included in the determination of fair value; therefore, an allowance for loan and lease losses is not recorded at the acquisition date. Acquired loans are evaluated upon acquisition and classified as either purchased credit-impaired (PCI) or purchased non-credit-impaired. PCI loans reflect credit deterioration since origination such that it is probable at acquisition that the Company will be unable to collect all contractually required payments. The outstanding contractual unpaid principal balance of PCI loans, excluding acquisition accounting adjustments, was $19.7 million at September 30, 2019 and $22.0 million at December 31, 2018. The carrying balance of PCI loans was $12.6 million at September 30, 2019 and $14.4 million at December 31, 2018.

The following table presents the changes in the accretable yield for PCI loans for the three and nine months ended September 30, 2019 and 2018 (in thousands):



	Three Months Ended September 30,						Nine Months Ended September 30,
	2019			2018			2019			2018
Balance, beginning of period	$	4,743		$	6,109		$	5,216		$	6,520
Accretion to interest income	(423		)	(2,907		)	(1,372		)	(4,738		)
Disposals	—			—			—			58
Reclassifications from non-accretable difference	11			1,873			487			3,235
Balance, end of period	$	4,331		$	5,075		$	4,331		$	5,075

As of September 30, 2019 and December 31, 2018, the non-accretable difference between the contractually required payments and cash flows expected to be collected was $6.3 million and $7.1 million, respectively.

Impaired Loans and the Allowance for Loan Losses. A loan is considered impaired when, based on current information and circumstances, the Company determines it is probable that it will be unable to collect all amounts due according to the contractual terms of the loan agreement, including scheduled interest payments. Factors involved in determining impairment include, but are not limited to, the financial condition of

the borrower, the value of the underlying collateral and the current status of the economy. Impaired loans are comprised of loans on nonaccrual, troubled debt restructurings (TDRs) that are performing under their restructured terms, and loans that are 90 days or more past due, but are still on accrual. PCI loans are considered performing within the scope of the purchased credit-impaired accounting guidance and are not included in the impaired loan tables.

The following tables provide information on impaired loans, excluding PCI loans, with and without allowance reserves at September 30, 2019 and December 31, 2018. Recorded investment includes the unpaid principal balance or the carrying amount of loans less charge-offs and net deferred loan fees (in thousands):



	September 30, 2019
	Unpaid Principal Balance		Recorded Investment				Related Allowance
	Unpaid Principal Balance		Without Allowance ⁽¹⁾		With Allowance ⁽²⁾		Related Allowance
Commercial real estate:
Owner-occupied	$	3,305	$	2,932	$	197	$	18
Investment properties	3,709		2,052		694		42
Multifamily real estate	84		87		—		—
Multifamily construction	573		98		—		—
One- to four-family construction	1,719		1,719		—		—
Land and land development:
Residential	978		642		—		—
Commercial business	4,709		3,335		618		48
Agricultural business/farmland	3,179		757		2,281		132
One- to four-family residential	6,674		4,990		1,670		42
Consumer:
Consumer secured by one- to four-family	2,548		2,371		129		5
Consumer—other	413		349		56		1
	$	27,891	$	19,332	$	5,645	$	288

	December 31, 2018
	Unpaid Principal Balance		Recorded Investment				Related Allowance
	Unpaid Principal Balance		Without Allowance ⁽¹⁾		With Allowance ⁽²⁾		Related Allowance
Commercial real estate:
Owner-occupied	$	3,193	$	2,768	$	200	$	19
Investment properties	7,287		1,320		5,606		226
Multifamily real estate	1,901		1,427		—		—
One- to four-family construction	919		919		—		—
Land and land development:
Residential	1,134		798		—		—
Commercial	44		44		—		—
Commercial business	4,014		2,937		391		16
Agricultural business/farmland	4,863		1,751		2,561		96
One- to four-family residential	6,724		4,314		2,358		51
Consumer:
Consumer secured by one- to four-family	1,622		1,438		133		6
Consumer—other	112		49		62		2
	$	31,813	$	17,765	$	11,311	$	416


⁽¹⁾	Includes loans without an allowance reserve that have been individually evaluated for impairment and that evaluation concluded that no reserve was needed, and $12.6 million and $9.0 million, respectively, of homogenous and small balance loans as of September 30, 2019 and December 31, 2018, that are collectively evaluated for impairment for which a general reserve has been established.


⁽²⁾	Loans with a specific allowance reserve have been individually evaluated for impairment using either a discounted cash flow analysis or, for collateral dependent loans, current appraisals less costs to sell to establish realizable value.

The following tables summarize our average recorded investment and interest income recognized on impaired loans by loan class for the three and nine months ended September 30, 2019 and 2018 (in thousands):



	Three Months Ended September 30, 2019				Three Months Ended September 30, 2018
	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
Commercial real estate:
Owner-occupied	$	3,067	$	—	$	3,281	$	3
Investment properties	2,707		10		6,808		79
Multifamily real estate	58		—		—		—
Commercial construction	439		—		—		—
One- to four-family construction	1,489		11		991		—
Land and land development:
Residential	673		—		798		—
Commercial business	3,737		9		3,210		5
Agricultural business/farmland	3,250		25		4,218		23
One- to four-family residential	6,555		49		7,667		77
Consumer:
Consumer secured by one- to four-family	2,744		6		1,841		5
Consumer—other	387		1		164		1
	$	25,106	$	111	$	28,978	$	193

	Nine Months Ended September 30, 2019				Nine Months Ended September 30, 2018
	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
Commercial real estate:
Owner-occupied	$	3,197	$	4	$	4,070	$	8
Investment properties	4,406		108		8,114		237
Multifamily real estate	19		—		—		—
Commercial construction	1,006		—		—		—
One- to four-family construction	1,138		12		637		4
Land and land development:
Residential	696		—		1,059		10
Commercial business	3,767		20		3,474		17
Agricultural business/farmland	4,319		81		5,895		79
One- to four-family residential	6,484		171		8,261		237
Consumer:
Consumer secured by one- to four-family	2,645		14		1,530		10
Consumer—other	359		3		151		3
	$	28,036	$	413	$	33,191	$	605

Troubled Debt Restructurings. Some of the Company’s loans are reported as TDRs. Loans are reported as TDRs when the bank grants one or more concessions to a borrower experiencing financial difficulties that it would not otherwise consider. Examples of such concessions include forgiveness of principal or accrued interest, extending the maturity date(s) or providing a lower interest rate than would be normally available for a transaction of similar risk. Our TDRs have generally not involved forgiveness of amounts due, but almost always include a modification of multiple factors; the most common combination includes interest rate, payment amount and maturity date. As a result of these concessions, restructured loans are impaired as the Company will not collect all amounts due, both principal and interest, in accordance with the terms of the original loan agreement. Loans identified as TDRs are accounted for in accordance with the Company's impaired loan accounting policies.

The following table presents TDRs by accrual and nonaccrual status at September 30, 2019 and December 31, 2018 (in thousands):



	September 30, 2019						December 31, 2018
	Accrual Status		Nonaccrual Status		Total TDRs		Accrual Status		Nonaccrual Status		Total TDRs
Commercial real estate:
Owner-occupied	$	—	$	268	$	268	$	200	$	78	$	278
Investment properties	694		1,059		1,753		5,606		—		5,606
Commercial business	560		—		560		391		—		391
Agricultural business, including secured by farmland	2,281		—		2,281		2,561		—		2,561
One- to four-family residential	3,001		199		3,200		4,469		239		4,708
Consumer:
Consumer secured by one- to four-family	129		—		129		133		—		133
Consumer—other	56		—		56		62		—		62
	$	6,721	$	1,526	$	8,247	$	13,422	$	317	$	13,739

As of September 30, 2019 and December 31, 2018, the Company had commitments to advance additional funds related to TDRs up to $27,000 and none, respectively.

The following table presents new TDRs that occurred during the nine months ended September 30, 2019. No new TDRs occurred during the three months ended September 30, 2019 or the three and nine months ended September 30, 2018 (dollars in thousands):



	Nine months ended September 30, 2019
	Number of Contracts	Pre- modification Outstanding Recorded Investment		Post- modification Outstanding Recorded Investment
Recorded Investment
Commercial real estate
Investment properties	1	$	1,090	$	1,090
Commercial business	1	160		160
Agricultural business/farmland	1	596		596
Total	3	$	1,846	$	1,846

There were no TDRs which incurred a payment default within twelve months of the restructure date during the three and nine-month periods ended September 30, 2019 and 2018. A default on a TDR results in either a transfer to nonaccrual status or a partial charge-off, or both.

Credit Quality Indicators: To appropriately and effectively manage the ongoing credit quality of the Company’s loan portfolio, management has implemented a risk-rating or loan grading system for its loans. The system is a tool to evaluate portfolio asset quality throughout each applicable loan’s life as an asset of the Company. Generally, loans and leases are risk rated on an aggregate borrower/relationship basis with individual loans sharing similar ratings. There are some instances when specific situations relating to individual loans will provide the basis for different risk ratings within the aggregate relationship. Loans are graded on a scale of 1 to 9. A description of the general characteristics of these categories is shown below:

Overall Risk Rating Definitions: Risk-ratings contain both qualitative and quantitative measurements and take into account the financial strength of a borrower and the structure of the loan or lease. Consequently, the definitions are to be applied in the context of each lending transaction and judgment must also be used to determine the appropriate risk rating, as it is not unusual for a loan or lease to exhibit characteristics of more than one risk-rating category. Consideration for the final rating is centered in the borrower’s ability to repay, in a timely fashion, both principal and interest. There were no material changes in the risk-rating or loan grading system in the nine months ended September 30, 2019.

Risk Rating 1: Exceptional

A credit supported by exceptional financial strength, stability, and liquidity. The risk rating of 1 is reserved for the Company’s top quality loans, generally reserved for investment grade credits underwritten to the standards of institutional credit providers.

Risk Rating 2: Excellent

A credit supported by excellent financial strength, stability and liquidity. The risk rating of 2 is reserved for very strong and highly stable customers with ready access to alternative financing sources.

Risk Rating 3: Strong

A credit supported by good overall financial strength and stability. Collateral margins are strong; cash flow is stable although susceptible to cyclical market changes.

Risk Rating 4: Acceptable

A credit supported by the borrower’s adequate financial strength and stability. Assets and cash flow are reasonably sound and provide for orderly debt reduction. Access to alternative financing sources will be more difficult to obtain.

Risk Rating 5: Watch

A credit with the characteristics of an acceptable credit which requires, however, more than the normal level of supervision and warrants formal quarterly management reporting. Credits in this category are not yet criticized or classified, but due to adverse events or aspects of underwriting require closer than normal supervision. Generally, credits should be watch credits in most cases for six months or less as the impact of stress factors are analyzed.

Risk Rating 6: Special Mention

A credit with potential weaknesses that deserves management’s close attention is risk rated a 6. If left uncorrected, these potential weaknesses will result in deterioration in the capacity to repay debt. A key distinction between Special Mention and Substandard is that in a Special Mention credit, there are identified weaknesses that pose potential risk(s) to the repayment sources, versus well defined weaknesses that pose risk(s) to the repayment sources. Assets in this category are expected to be in this category no more than 9-12 months as the potential weaknesses in the credit are resolved.

Risk Rating 7: Substandard

A credit with well defined weaknesses that jeopardize the ability to repay in full is risk rated a 7. These credits are inadequately protected by either the sound net worth and payment capacity of the borrower or the value of pledged collateral. These are credits with a distinct possibility of loss. Loans headed for foreclosure and/or legal action due to deterioration are rated 7 or worse.

Risk Rating 8: Doubtful

A credit with an extremely high probability of loss is risk rated 8. These credits have all the same critical weaknesses that are found in a substandard loan; however, the weaknesses are elevated to the point that based upon current information, collection or liquidation in full is improbable. While some loss on doubtful credits is expected, pending events may make the amount and timing of any loss indeterminable. In these situations taking the loss is inappropriate until the outcome of the pending event is clear.

Risk Rating 9: Loss

A credit that is considered to be currently uncollectible or of such little value that it is no longer a viable bank asset is risk rated 9. Losses should be taken in the accounting period in which the credit is determined to be uncollectible. Taking a loss does not mean that a credit has absolutely no recovery or salvage value but, rather, it is not practical or desirable to defer writing off the credit, even though partial recovery may occur in the future.

The following tables present the Company’s portfolio of risk-rated loans and non-risk-rated loans by grade or other characteristics as of September 30, 2019 and December 31, 2018 (in thousands):



	September 30, 2019
By class:	Pass (Risk Ratings 1-5)⁽¹⁾		Special Mention		Substandard		Doubtful		Loss		Total Loans
Commercial real estate:
Owner-occupied	$	1,430,712	$	5,010	$	27,581	$	—	$	—	$	1,463,303
Investment properties	2,143,952		—		6,986		—		—		2,150,938
Multifamily real estate	399,607		—		207		—		—		399,814
Commercial construction	178,781		—		11,751		—		—		190,532
Multifamily construction	214,878		—		—		—		—		214,878
One- to four-family construction	483,968		—		4,977		—		—		488,945
Land and land development:
Residential	163,187		—		642		—		—		163,829
Commercial	26,084		—		35		—		—		26,119
Commercial business	1,564,854		9,363		45,116		58		—		1,619,391
Agricultural business, including secured by farmland	377,571		5,191		7,743		—		—		390,505
One- to four-family residential	942,696		420		4,359		—		—		947,475
Consumer:
Consumer secured by one- to four-family	563,517		—		3,275		—		—		566,792
Consumer—other	212,364		5		478		—		—		212,847
Total	$	8,702,171	$	19,989	$	113,150	$	58	$	—	$	8,835,368



	December 31, 2018
By class:	Pass (Risk Ratings 1-5)⁽¹⁾		Special Mention		Substandard		Doubtful		Loss		Total Loans
Commercial real estate:
Owner-occupied	$	1,396,721	$	6,963	$	26,413	$	—	$	—	$	1,430,097
Investment properties	2,122,621		—		8,438		—		—		2,131,059
Multifamily real estate	368,262		—		574		—		—		368,836
Commercial construction	159,167		11,816		1,427		—		—		172,410
Multifamily construction	184,630		—		—		—		—		184,630
One- to four-family construction	533,759		—		919		—		—		534,678
Land and land development:
Residential	187,710		—		798		—		—		188,508
Commercial	27,200		—		78		—		—		27,278
Commercial business	1,436,733		7,661		39,133		87		—		1,483,614
Agricultural business, including secured by farmland	392,318		4,214		8,341		—		—		404,873
One- to four-family residential	969,011		499		4,106		—		—		973,616
Consumer:
Consumer secured by one- to four-family	564,001		—		4,978		—		—		568,979
Consumer—other	215,706		9		302		—		—		216,017
Total	$	8,557,839	$	31,162	$	95,507	$	87	$	—	$	8,684,595

⁽¹⁾

The Pass category includes some performing loans that are part of homogenous pools which are not individually risk-rated. This includes all consumer loans, all one- to four-family residential loans and, as of September 30, 2019 and December 31, 2018, in the commercial business category, $740.6 million and $590.9 million, respectively, of credit-scored small business loans. As loans in these pools become non-performing, they are individually risk-rated.

The following tables provide additional detail on the age analysis of the Company’s past due loans as of September 30, 2019 and December 31, 2018 (in thousands):



	September 30, 2019
	30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due		Total Past Due		Purchased Credit-Impaired		Current		Total Loans		Loans 90 Days or More Past Due and Accruing		Non-accrual
Commercial real estate:
Owner-occupied	$	1,102	$	185	$	2,459	$	3,746	$	8,241	$	1,451,316	$	1,463,303	$	89	$	3,040
Investment properties	248		—		2,052		2,300		3,272		2,145,366		2,150,938		—		2,052
Multifamily real estate	—		—		—		—		6		399,808		399,814		—		87
Commercial construction	—		—		98		98		—		190,434		190,532		—		98
Multifamily construction	—		—		—		—		—		214,878		214,878		—		—
One-to-four-family construction	—		1,355		1,719		3,074		—		485,871		488,945		1,141		578
Land and land development:
Residential	—		—		642		642		—		163,187		163,829		—		642
Commercial	—		—		—		—		—		26,119		26,119		—		—
Commercial business	2,301		1,068		2,213		5,582		407		1,613,402		1,619,391		358		3,035
Agricultural business, including secured by farmland	—		74		614		688		396		389,421		390,505		—		757
One- to four-family residential	852		673		2,454		3,979		77		943,419		947,475		652		3,007
Consumer:
Consumer secured by one- to four-family	1,433		896		1,416		3,745		112		562,935		566,792		231		2,140
Consumer—other	430		109		26		565		64		212,218		212,847		16		333
Total	$	6,366	$	4,360	$	13,693	$	24,419	$	12,575	$	8,798,374	$	8,835,368	$	2,487	$	15,769



	December 31, 2018
	30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due		Total Past Due		Purchased Credit-Impaired		Current		Total Loans		Loans 90 Days or More Past Due and Accruing		Non-accrual
Commercial real estate:
Owner-occupied	$	785	$	519	$	2,223	$	3,527	$	8,531	$	1,418,039	$	1,430,097	$	—	$	2,768
Investment properties	91		498		934		1,523		3,462		2,126,074		2,131,059		—		1,320
Multifamily real estate	317		—		—		317		138		368,381		368,836		—		—
Commercial construction	—		—		1,427		1,427		—		170,983		172,410		—		1,427
Multifamily construction	—		—		—		—		—		184,630		184,630		—		—
One-to-four-family construction	4,781		1,078		919		6,778		137		527,763		534,678		—		919
Land and land development:
Residential	450		—		798		1,248		—		187,260		188,508		—		798
Commercial	34		—		44		78		—		27,200		27,278		—		44
Commercial business	3,982		1,305		1,756		7,043		1,028		1,475,543		1,483,614		1		2,936
Agricultural business, including secured by farmland	343		1,518		1,601		3,462		493		400,918		404,873		—		1,751
One-to four-family residential	5,440		1,790		1,657		8,887		101		964,628		973,616		658		1,544
Consumer:
Consumer secured by one- to four-family	1,136		765		706		2,607		432		565,940		568,979		238		1,201
Consumer—other	911		385		9		1,305		91		214,621		216,017		9		40
Total	$	18,270	$	7,858	$	12,074	$	38,202	$	14,413	$	8,631,980	$	8,684,595	$	906	$	14,748

The following tables provide additional information on the allowance for loan losses and loan balances individually and collectively evaluated for impairment at or for the three and nine months ended September 30, 2019 and 2018 (in thousands):



	For the Three Months Ended September 30, 2019
	Commercial Real Estate			Multifamily Real Estate			Construction and Land			Commercial Business			Agricultural Business			One- to Four-Family Residential			Consumer			Unallocated			Total
Allowance for loan losses:
Beginning balance	$	26,730		$	4,344		$	23,554		$	19,557		$	3,691		$	4,701		$	8,452		$	7,225		$	98,254
Provision for loan losses	1,992			(61		)	(1,141		)	3,027			943			(175		)	258			(2,843		)	2,000
Recoveries	107			—			156			162			2			129			154			—			710
Charge-offs	(314		)	—			—			(1,599		)	(741		)	(86		)	(423		)	—			(3,163		)
Ending balance	$	28,515		$	4,283		$	22,569		$	21,147		$	3,895		$	4,569		$	8,441		$	4,382		$	97,801

	For the Nine Months Ended September 30, 2019
	Commercial Real Estate			Multifamily Real Estate			Construction and Land			Commercial Business			Agricultural Business			One- to Four-Family Residential			Consumer			Unallocated			Total
Allowance for loan losses:
Beginning balance	$	27,132		$	3,818		$	24,442		$	19,438		$	3,778		$	4,714		$	7,972		$	5,191		$	96,485
Provision for loan losses	2,244			465			(2,081		)	4,300			987			(461		)	1,355			(809		)	6,000
Recoveries	277			—			208			400			37			402			487			—			1,811
Charge-offs	(1,138		)	—			—			(2,991		)	(907		)	(86		)	(1,373		)	—			(6,495		)
Ending balance	$	28,515		$	4,283		$	22,569		$	21,147		$	3,895		$	4,569		$	8,441		$	4,382		$	97,801



	September 30, 2019
	Commercial Real Estate		Multifamily Real Estate		Construction and Land		Commercial Business		Agricultural Business		One- to Four-Family Residential		Consumer		Unallocated		Total
Allowance for loan losses:
Individually evaluated for impairment	$	60	$	—	$	—	$	48	$	132	$	42	$	6	$	—	$	288
Collectively evaluated for impairment	28,455		4,283		22,569		21,078		3,710		4,527		8,435		4,382		97,439
Purchased credit-impaired loans	—		—		—		21		53		—		—		—		74
Total allowance for loan losses	$	28,515	$	4,283	$	22,569	$	21,147	$	3,895	$	4,569	$	8,441	$	4,382	$	97,801



Loan balances:
Individually evaluated for impairment	$	4,246	$	—	$	1,220	$	618	$	2,282	$	3,745	$	241	$	—	$	12,352
Collectively evaluated for impairment	3,598,482		399,808		1,083,083		1,618,366		387,827		943,653		779,222		—		8,810,441
Purchased credit-impaired loans	11,513		6		—		407		396		77		176		—		12,575
Total loans	$	3,614,241	$	399,814	$	1,084,303	$	1,619,391	$	390,505	$	947,475	$	779,639	$	—	$	8,835,368



	For the Three Months Ended September 30, 2018
	Commercial Real Estate			Multifamily Real Estate		Construction and Land			Commercial Business			Agricultural Business			One- to Four-Family Residential			Consumer			Unallocated			Total
Allowance for loan losses:
Beginning balance	$	24,413		$	3,718	$	27,034		$	19,141		$	3,162		$	3,932		$	5,725		$	6,750		$	93,875
Provision for loan losses	824			27		(1,996		)	(1,306		)	348			432			2,600			1,071			2,000
Recoveries	12			—		5			586			—			86			46			—			735
Charge-offs	(102		)	—		(479		)	(473		)	(5		)	(27		)	(261		)	—			(1,347		)
Ending balance	$	25,147		$	3,745	$	24,564		$	17,948		$	3,505		$	4,423		$	8,110		$	7,821		$	95,263

	For the Nine Months Ended September 30, 2018
	Commercial Real Estate			Multifamily Real Estate		Construction and Land			Commercial Business			Agricultural Business			One- to Four-Family Residential			Consumer			Unallocated			Total
Allowance for loan losses:
Beginning balance	$	22,824		$	1,633	$	27,568		$	18,311		$	4,053		$	2,055		$	3,866		$	8,718		$	89,028
Provision for loan losses	1,144			2,112		(2,715		)	148			(248		)	1,679			4,777			(897		)	6,000
Recoveries	1,580			—		190			856			41			732			264			—			3,663
Charge-offs	(401		)	—		(479		)	(1,367		)	(341		)	(43		)	(797		)	—			(3,428		)
Ending balance	$	25,147		$	3,745	$	24,564		$	17,948		$	3,505		$	4,423		$	8,110		$	7,821		$	95,263



	September 30, 2018
	Commercial Real Estate		Multifamily Real Estate		Construction and Land		Commercial Business		Agricultural Business		One- to Four-Family Residential		Consumer		Unallocated		Total
Allowance for loan losses:
Individually evaluated for impairment	$	297	$	—	$	—	$	17	$	71	$	64	$	8	$	—	$	457
Collectively evaluated for impairment	24,850		3,745		24,564		17,908		3,372		4,359		8,102		7,821		94,721
Purchased credit-impaired loans	—		—		—		23		62		—		—		—		85
Total allowance for loan losses	$	25,147	$	3,745	$	24,564	$	17,948	$	3,505	$	4,423	$	8,110	$	7,821	$	95,263



Loan balances:
Individually evaluated for impairment	$	8,769	$	—	$	1,669	$	384	$	3,298	$	4,497	$	201	$	—	$	18,818
Collectively evaluated for impairment	3,198,018		309,667		1,014,140		1,357,144		356,270		845,320		710,198		—		7,790,757
Purchased credit impaired loans	8,369		142		3,236		621		398		111		67		—		12,944
Total loans	$	3,215,156	$	309,809	$	1,019,045	$	1,358,149	$	359,966	$	849,928	$	710,466	$	—	$	7,822,519

Note 6: REAL ESTATE OWNED, NET

The following table presents the changes in REO for the three and nine months ended September 30, 2019 and 2018 (in thousands):



	Three Months Ended September 30,						Nine Months Ended September 30,
	2019			2018			2019			2018
Balance, beginning of the period	$	2,513		$	473		$	2,611		$	360
Additions from loan foreclosures	48			—			109			502
Proceeds from dispositions of REO	(2,333		)	(90		)	(2,483		)	(385		)
Gain (loss) on sale of REO	—			8			(9		)	74
Valuation adjustments in the period	—			(27		)	—			(187		)
Balance, end of the period	$	228		$	364		$	228		$	364

REO properties are recorded at the estimated fair value of the property, less expected selling costs, establishing a new cost basis. Subsequently, REO properties are carried at the lower of the new cost basis or updated fair market values, based on updated appraisals of the underlying properties, as received. Valuation allowances on the carrying value of REO may be recognized based on updated appraisals or on management’s authorization to reduce the selling price of a property. The Company had $109,000 of foreclosed one- to four-family residential real estate properties held as REO at September 30, 2019 and none at December 31, 2018. The recorded investment in one- to four-family residential loans in the process of foreclosure was $2.3 million at September 30, 2019 compared with $1.2 million at December 31, 2018.

Note 7: GOODWILL, OTHER INTANGIBLE ASSETS AND MORTGAGE SERVICING RIGHTS

Goodwill and Other Intangible Assets: At September 30, 2019, intangible assets are comprised of goodwill, CDI, and favorable leasehold intangibles (LHI) acquired in business combinations. Goodwill represents the excess of the purchase consideration paid over the fair value of the assets acquired, net of the fair values of liabilities assumed in a business combination, and is not amortized but is reviewed at least annually for impairment. At December 31, 2018, the Company completed its qualitative assessment of goodwill and concluded that it is more likely than not that the fair value of Banner, the reporting unit, exceeds the carrying value.

CDI represents the value of transaction-related deposits and the value of the customer relationships associated with the deposits. LHI represents the value ascribed to leases assumed in an acquisition in which the lease terms are favorable compared to a market lease at the date of acquisition. The Company amortizes CDI and LHI over their estimated useful lives and reviews them at least annually for events or circumstances that could impair their value.

The following table summarizes the changes in the Company’s goodwill and other intangibles for the nine months ended September 30, 2019 and the year ended December 31, 2018 (in thousands):



	Goodwill		CDI			LHI			Total
Balance, December 31, 2017	$	242,659	$	22,378		$	277		$	265,314
Additions through acquisitions⁽¹⁾	96,495		16,368			—			112,863
Amortization	—		(6,047		)	(52		)	(6,099		)
Balance, December 31, 2018	339,154		32,699			225			372,078
Amortization	—		(6,089		)	(8		)	(6,097		)
Adjustments⁽²⁾	—		—			(217		)	(217		)
Balance, September 30, 2019	$	339,154	$	26,610		$	—		$	365,764

⁽¹⁾ The additions to goodwill and CDI in 2018 relate to the acquisition of Skagit.

⁽²⁾ The adjustment to LHI represents a reclassification to the right of use lease asset in connection with the implementation of Lease Topic 842.

The following table presents the estimated amortization expense with respect to CDI for the periods indicated (in thousands):



	Estimated Amortization
Remainder of 2019	$	1,910
2020	6,875
2021	5,805
2022	4,643
2023	3,231
Thereafter	4,146
	$	26,610

Mortgage Servicing Rights: Mortgage servicing rights are reported in other assets. Mortgage servicing rights are initially recorded at fair value and are amortized in proportion to, and over the period of, the estimated future net servicing income of the underlying financial assets. Mortgage servicing rights are subsequently evaluated for impairment based upon the fair value of the rights compared to the amortized cost (remaining unamortized initial fair value). If the fair value is less than the amortized cost, a valuation allowance is created through an impairment charge, which is recognized in servicing fee income within mortgage banking operations on the consolidated statement of operations. However, if the fair value is greater than the amortized cost, the amount above the amortized cost is not recognized in the carrying value. During the three and nine months ended September 30, 2019 and 2018, the Company did not record any impairment charges or recoveries against mortgage servicing rights. The unpaid principal balance for loans which mortgage servicing rights have been recorded totaled $2.42 billion and $2.36 billion at September 30, 2019 and December 31, 2018, respectively. Custodial accounts maintained in connection with this servicing totaled $2.6 million and $11.1 million at September 30, 2019 and December 31, 2018, respectively.

An analysis of our mortgage servicing rights for the three and nine months ended September 30, 2019 and 2018 is presented below (in thousands):



	Three Months Ended September 30,						Nine Months Ended September 30,
	2019			2018			2019			2018
Balance, beginning of the period	$	13,998		$	14,521		$	14,638		$	14,738
Additions—amounts capitalized	1,167			952			2,524			2,636
Additions—through purchase	36			47			105			92
Amortization ⁽¹⁾	(1,404		)	(999		)	(3,470		)	(2,945		)
Balance, end of the period ⁽²⁾	$	13,797		$	14,521		$	13,797		$	14,521


⁽¹⁾	Amortization of mortgage servicing rights is recorded as a reduction of loan servicing income within mortgage banking operations and any unamortized balance is fully amortized if the loan repays in full.


⁽²⁾	There was no valuation allowance as of September 30, 2019 and 2018.

Note 8: DEPOSITS

Deposits consisted of the following at September 30, 2019 and December 31, 2018 (in thousands):



	September 30, 2019		December 31, 2018
Non-interest-bearing accounts	$	3,885,210	$	3,657,817
Interest-bearing checking	1,209,826		1,191,016
Regular savings accounts	1,863,839		1,842,581
Money market accounts	1,551,305		1,465,369
Total interest-bearing transaction and saving accounts	4,624,970		4,498,966
Certificates of deposit:
Certificates of deposit less than or equal to $250,000	1,039,372		1,143,303
Certificates of deposit greater than $250,000	179,219		176,962
Total certificates of deposit⁽¹⁾	1,218,591		1,320,265
Total deposits	$	9,728,771	$	9,477,048
Included in total deposits:
Public fund transaction and savings accounts	$	234,608	$	217,401
Public fund interest-bearing certificates	26,609		30,089
Total public deposits	$	261,217	$	247,490
Total brokered deposits	$	299,496	$	377,347


⁽¹⁾	Certificates of deposit include $312,000 and $563,000 of acquisition premiums at September 30, 2019 and December 31, 2018, respectively.

At September 30, 2019 and December 31, 2018, the Company had certificates of deposit of $184.7 million and $180.5 million, respectively, that were equal to or greater than $250,000.

Scheduled maturities and weighted average interest rates of certificate accounts at September 30, 2019 are as follows (dollars in thousands):



	September 30, 2019
	Amount		Weighted Average Rate
Maturing in one year or less	$	934,503	1.32	%
Maturing after one year through two years	183,851		1.76
Maturing after two years through three years	74,500		1.99
Maturing after three years through four years	11,404		1.60
Maturing after four years through five years	12,015		2.29
Maturing after five years	2,318		1.15
Total certificates of deposit	$	1,218,591	1.44	%

Note 9: FAIR VALUE OF FINANCIAL INSTRUMENTS

The following table presents estimated fair values of the Company’s financial instruments as of September 30, 2019 and December 31, 2018, whether or not measured at fair value in the Consolidated Statements of Financial Condition (dollars in thousands):



		September 30, 2019				December 31, 2018
	Level	Carrying Value		Estimated Fair Value		Carrying Value		Estimated Fair Value
Assets:
Cash and cash equivalents	1	$	324,456	$	324,456	$	272,196	$	272,196
Securities—trading	3	25,672		25,672		25,896		25,896
Securities—available-for-sale	2	1,539,908		1,539,908		1,636,223		1,636,223
Securities—held-to-maturity	2	226,921		230,586		230,984		229,301
Securities—held-to-maturity	3	3,135		3,135		3,236		3,236
Loans held for sale	2	244,889		245,315		171,031		171,157
Loans receivable	3	8,835,368		8,890,803		8,684,595		8,629,450
FHLB stock	3	25,623		25,623		31,955		31,955
Bank-owned life insurance	1	179,076		179,076		177,467		177,467
Mortgage servicing rights	3	13,797		21,390		14,638		25,813
Equity securities	1	—		—		352		352
Derivatives:
Interest rate swaps	2	19,289		19,289		3,138		3,138
Interest rate lock and forward sales commitments	2	1,918		1,918		471		471
Liabilities:
Demand, interest checking and money market accounts	2	6,646,341		6,646,341		6,314,202		6,314,202
Regular savings	2	1,863,839		1,863,839		1,842,581		1,842,581
Certificates of deposit	2	1,218,591		1,215,147		1,320,265		1,298,238
FHLB advances	2	382,000		385,521		540,189		540,189
Other borrowings	2	120,014		120,014		118,995		118,995
Junior subordinated debentures	3	113,417		113,417		114,091		114,091
Derivatives:
Interest rate swaps	2	14,399		14,399		3,138		3,138
Interest rate lock and forward sales commitments	2	293		293		1,654		1,654

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, the accounting standard requires the reporting entity 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.

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 certain 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 September 30, 2019 and December 31, 2018 (in thousands):



	September 30, 2019
	Level 1		Level 2		Level 3		Total
Assets:
Securities—trading
Corporate bonds (Trust Preferred Securities)	$	—	$	—	$	25,672	$	25,672
	—		—		25,672		25,672
Securities—available-for-sale
U.S. Government and agency obligations	—		109,996		—		109,996
Municipal bonds	—		108,349		—		108,349
Corporate bonds	—		3,766		—		3,766
Mortgage-backed or related securities	—		1,310,099		—		1,310,099
Asset-backed securities	—		7,698		—		7,698
	—		1,539,908		—		1,539,908

Loans held for sale	—		225,644		—		225,644

Derivatives
Interest rate swaps	—		19,289		—		19,289
Interest rate lock and forward sales commitments	—		1,918		—		1,918
	$	—	$	1,786,759	$	25,672	$	1,812,431

Liabilities:
Junior subordinated debentures, net of unamortized deferred issuance costs	$	—	$	—	$	113,417	$	113,417
Derivatives
Interest rate swaps	—		14,399		—		14,399
Interest rate lock and forward sales commitments	—		293		—		293
	$	—	$	14,692	$	113,417	$	128,109



	December 31, 2018
	Level 1		Level 2		Level 3		Total
Assets:
Securities—trading
Corporate bonds (Trust Preferred Securities)	$	—	$	—	$	25,896	$	25,896
	—		—		25,896		25,896
Securities—available-for-sale
U.S. Government and agency obligations	—		149,112		—		149,112
Municipal bonds	—		117,822		—		117,822
Corporate bonds	—		3,495		—		3,495
Mortgage-backed securities	—		1,343,861		—		1,343,861
Asset-backed securities	—		21,933		—		21,933
	—		1,636,223		—		1,636,223

Loans held for sale	—		164,767		—		164,767
Equity securities	—		352		—		352

Derivatives
Interest rate swaps	—		3,138		—		3,138
Interest rate lock and forward sales commitments	—		471		—		471
	$	—	$	1,804,951	$	25,896	$	1,830,847

Liabilities:
Junior subordinated debentures, net of unamortized deferred issuance costs	$	—	$	—	$	114,091	$	114,091
Derivatives
Interest rate swaps	—		3,138		—		3,138
Interest rate lock and forward sales commitments	—		1,654		—		1,654
	$	—	$	4,792	$	114,091	$	118,883

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 Trust Preferred Securities (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.

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.

Junior Subordinated Debentures: The fair value of junior subordinated debentures is estimated using a discounted cash flow approach. 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 assist management in validating 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 credit concerns in the capital markets and 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 September 30, 2019 and December 31, 2018. The factors used in the fair values 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 qualitative information about the unobservable inputs for certain of the Company's assets and liabilities classified as Level 3 and measured at fair value on a recurring and non-recurring basis at September 30, 2019 and December 31, 2018:



			Weighted Average Rate / Range
Financial Instruments	Valuation Techniques	Unobservable Inputs	September 30, 2019		December 31, 2018
Corporate bonds (TPS securities)	Discounted cash flows	Discount rate	6.09	%	6.81	%
Junior subordinated debentures	Discounted cash flows	Discount rate	6.09	%	6.81	%
Impaired loans	Collateral Valuations	Discount to appraised value	—	%	0.0% to 8.50%
REO	Appraisals	Discount to appraised value	58.52	%	69.20	%

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 September 30, 2019, or the passage of time, will result in negative fair value adjustments. At September 30, 2019, the discount rate utilized was based on a credit spread of 400 basis points and three-month LIBOR of 209 basis points.

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 and nine months ended September 30, 2019 and 2018 (in thousands):



	Three Months Ended						Nine Months Ended
	September 30, 2019						September 30, 2019
	Level 3 Fair Value Inputs						Level 3 Fair Value Inputs
	TPS Securities			Borrowings—Junior Subordinated Debentures			TPS Securities			Borrowings— Junior Subordinated Debentures
Beginning balance	$	25,741		$	113,621		$	25,896		$	114,091
Total gains or losses recognized
Assets losses	(69		)	—			(224		)	—
Liabilities gains	—			(204		)	—			(674		)
Ending balance at September 30, 2019	$	25,672		$	113,417		$	25,672		$	113,417

	Three Months Ended						Nine Months Ended
	September 30, 2018						September 30, 2018
	Level 3 Fair Value Inputs						Level 3 Fair Value Inputs
	TPS Securities			Borrowings—Junior Subordinated Debentures			TPS Securities			Borrowings— Junior Subordinated Debentures
Beginning balance	$	25,540		$	112,774		$	22,058		$	98,707
Total gains or losses recognized
Assets gains	86			—			3,568			—
Liabilities losses	—			336			—			14,403
Ending balance at September 30, 2018	$	25,626		$	113,110		$	25,626		$	113,110

Interest income and dividends from the TPS securities are recorded as a component of interest income. Interest expense related to the junior subordinated debentures are measured based on contractual interest rates and reported in interest expense. The change in fair market value on TPS securities has been recorded as a component of non-interest income. The change in fair value of the junior subordinated debentures, which represents changes in instrument specific credit risk, is recorded in other comprehensive income (loss).

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

The following tables present financial assets 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 September 30, 2019 and December 31, 2018 (in thousands):



	September 30, 2019
	Level 1		Level 2		Level 3		Total
Impaired loans	$	—	$	—	$	78	$	78

	December 31, 2018
	Level 1		Level 2		Level 3		Total
Impaired loans	$	—	$	—	$	2,915	$	2,915
REO	—		—		2,611		2,611

The following table presents the losses resulting from non-recurring fair value adjustments for the three and nine months ended September 30, 2019 and 2018 (in thousands):



	Three Months Ended September 30,					Nine Months Ended September 30,
	2019		2018			2019			2018
Impaired loans	$	—	$	(102	)	$	(425	)	$	(431	)
REO	—		(27		)	—			(187		)
Total loss from non-recurring measurements	$	—	$	(129	)	$	(425	)	$	(618	)

Impaired loans: Impaired loans are measured based on the present value of expected future cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or the fair value of collateral if the loan is collateral dependent. If this practical expedient is used, the impaired loans are considered to be held at fair value. Subsequent changes in the value of impaired loans are included within the provision for loan losses in the same manner in which impairment initially was recognized or as a reduction in the provision that would otherwise be reported. Impaired loans are periodically evaluated to determine if valuation adjustments, or partial write-downs, should be recorded. The need for valuation adjustments arises when observable market prices or current appraised values of collateral indicate a shortfall in collateral value compared to current carrying values of the related loan. If the Company determines that the value of the impaired loan is less than the carrying value of the loan, the Company either establishes an impairment reserve as a specific component of the allowance for loan losses or charges off the impaired amount. These valuation adjustments are considered non-recurring fair value adjustments. The remaining impaired loans are evaluated for reserve needs in homogenous pools within the Company’s methodology for assessing the adequacy of the allowance for loan losses.

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.

Note 10: INCOME TAXES AND DEFERRED TAXES

The Company files a consolidated income tax return including all of its wholly-owned subsidiaries on a calendar year basis. Income taxes are accounted for using the asset and liability method. Under this method, a deferred tax asset or liability is determined based on the enacted tax rates which will be in effect when the differences between the financial statement carrying amounts and tax basis of existing assets and liabilities are expected to be reported in the Company’s income tax returns. The effect on deferred taxes of a change in tax rates is recognized in income in the period of change. A valuation allowance is recognized as a reduction to deferred tax assets when management determines it is more likely than not that deferred tax assets will not be available to offset future income tax liabilities.

Accounting standards for income taxes prescribe a recognition threshold and measurement process for financial statement recognition and measurement of uncertain tax positions taken or expected to be taken in a tax return, and also provide guidance on the de-recognition of previously recorded benefits and their classification, as well as the proper recording of interest and penalties, accounting in interim periods, disclosures and transition. The Company periodically reviews its income tax positions based on tax laws and regulations and financial reporting considerations, and records adjustments as appropriate. This review takes into consideration the status of current taxing authorities’ examinations of the Company’s tax returns, recent positions taken by the taxing authorities on similar transactions, if any, and the overall tax environment.

As of September 30, 2019, the Company had an insignificant amount of unrecognized tax benefits for uncertain tax positions, none of which would materially affect the effective tax rate if recognized. The Company does not anticipate that the amount of unrecognized tax benefits will significantly increase or decrease in the next twelve months. The Company’s policy is to recognize interest and penalties on unrecognized tax benefits in the income tax expense. The Company files consolidated income tax returns in the U.S. federal jurisdiction and in the Oregon, California, Utah, Idaho and Montana state jurisdictions.

Tax credit investments: The Company invests in low income housing tax credit funds that are designed to generate a return primarily through the realization of federal tax credits. The Company accounts for these investments by amortizing the cost of tax credit investments over the life of the investment using a proportional amortization method and tax credit investment amortization expense is a component of the provision for income taxes.

The following table presents the balances of the Company’s tax credit investments and related unfunded commitments at September 30, 2019 and December 31, 2018 (in thousands):



	September 30, 2019		December 31, 2018
Tax credit investments	$	20,954	$	17,360
Unfunded commitments—tax credit investments	14,911		12,726

The following table presents other information related to the Company's tax credit investments for the three and nine months ended September 30, 2019 and 2018 (in thousands):



	Three Months Ended September 30,				Nine Months Ended September 30,
	2019		2018		2019		2018
Tax credits and other tax benefits recognized	$	494	$	364	$	1,482	$	1,092
Tax credit amortization expense included in provision for income taxes	405		288		1,215		863

Note 11: CALCULATION OF WEIGHTED AVERAGE SHARES OUTSTANDING FOR EARNINGS PER SHARE (EPS)

The following table reconciles basic to diluted weighted average shares outstanding used to calculate earnings per share data for the three and nine months ended September 30, 2019 and 2018 (in thousands, except shares and per share data):



	Three Months Ended September 30,				Nine Months Ended September 30,
	2019		2018		2019		2018
Net income	$	39,577	$	37,773	$	112,623	$	98,987

Basic weighted average shares outstanding	34,407,462		32,256,789		34,760,607		32,300,688
Plus unvested restricted stock	90,532		119,834		89,399		105,726
Diluted weighted shares outstanding	34,497,994		32,376,623		34,850,006		32,406,414
Earnings per common share
Basic	$	1.15	$	1.17	$	3.24	$	3.06
Diluted	$	1.15	$	1.17	$	3.23	$	3.05

Note 12: STOCK-BASED COMPENSATION PLANS

The Company operates the following stock-based compensation plans as approved by its shareholders:


•	2012 Restricted Stock and Incentive Bonus Plan (2012 Restricted Stock Plan).


•	2014 Omnibus Incentive Plan (the 2014 Plan).


•	2018 Omnibus Incentive Plan (the 2018 Plan).

The purpose of these plans is to promote the success and enhance the value of the Company by providing a means for attracting and retaining highly skilled employees, officers and directors of Banner Corporation and its affiliates and linking their personal interests with those of the Company's shareholders. Under these plans the Company currently has outstanding restricted stock share grants and restricted stock unit grants.

2012 Restricted Stock and Incentive Bonus Plan

Under the 2012 Restricted Stock Plan, which was initially approved on April 24, 2012, the Company is authorized to issue up to 300,000 shares of its common stock to provide a means for attracting and retaining highly skilled officers of Banner Corporation and its affiliates. Shares granted under the 2012 Restricted Stock Plan have a minimum vesting period of three years. The 2012 Restricted Stock Plan will continue in effect for a term of ten years, after which no further awards may be granted.

The 2012 Restricted Stock Plan was amended on April 23, 2013 to provide for the ability to grant (1) cash-denominated incentive-based awards payable in cash or common stock, including those that are eligible to qualify as qualified performance-based compensation for the purposes of Section 162(m) of the Code and (2) restricted stock awards that qualify as qualified performance-based compensation for the purposes of Section 162(m) of the Code. Vesting requirements may include time-based conditions, performance-based conditions, or market-based conditions.

As of September 30, 2019, the Company had granted 269,863 shares of restricted stock from the 2012 Restricted Stock Plan (as amended and restated), of which 269,482 shares had vested and 381 shares remain unvested.

2014 Omnibus Incentive Plan

The 2014 Plan was approved by shareholders on April 22, 2014. The 2014 Plan provides for the grant of incentive stock options, non-qualified stock options, stock appreciation rights, restricted stock, restricted stock units, performance shares, performance units, other stock-based awards and other cash awards, and provides for vesting requirements which may include time-based or performance-based conditions. The Company reserved 900,000 shares of its common stock for issuance under the 2014 Plan in connection with the exercise of awards. As of September 30, 2019, 315,777 restricted stock shares and 380,834 restricted stock units have been granted under the 2014 Plan of which 283,296 restricted stock shares and 45,783 restricted stock units have vested.

2018 Omnibus Incentive Plan

The 2018 Plan was approved by shareholders on April 24, 2018. The 2018 Plan provides for the grant of incentive stock options, non-qualified stock options, stock appreciation rights, restricted stock, restricted stock units, performance shares, performance units, other stock-based awards and other cash awards, and provides for vesting requirements which may include time-based or performance-based conditions. The Company reserved 900,000 shares of common stock for issuance under the 2018 Plan in connection with the exercise of awards. As of September 30, 2019, no shares or units have been granted under the 2018 Plan.

The expense associated with all restricted stock grants (including restricted stock shares and restricted stock units) was $1.6 million and $5.1 million for the three and nine month periods ended September 30, 2019 and was $1.6 million and $4.8 million for the three and nine month periods ended September 30, 2018, respectively. Unrecognized compensation expense for these awards as of September 30, 2019 was $13.5 million and will be amortized over the next 36 months.

Note 13: COMMITMENTS AND CONTINGENCIES

Financial Instruments with Off-Balance-Sheet Risk — The Company has financial instruments with off-balance-sheet risk generated in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit, commitments related to standby letters of credit, commitments to originate loans, commitments to sell loans, commitments to buy and sell securities. These instruments involve, to varying degrees, elements of credit and interest rate risk similar to the risk involved in on-balance-sheet items recognized in our Consolidated Statements of Financial Condition.

Our exposure to credit loss in the event of nonperformance by the other party to the financial instrument from commitments to extend credit and standby letters of credit is represented by the contractual notional amount of those instruments. We use the same credit policies in making commitments and conditional obligations as for on-balance-sheet instruments.

Outstanding commitments for which no asset or liability for the notional amount has been recorded consisted of the following at the dates indicated (in thousands):



	Contract or Notional Amount
	September 30, 2019		December 31, 2018
Commitments to extend credit	$	2,928,126	$	2,837,981
Standby letters of credit and financial guarantees	15,725		17,784
Commitments to originate loans	50,310		32,145
Risk participation agreement	41,039		24,091

Derivatives also included in Note 14:
Commitments to originate loans held for sale	120,488		31,728
Commitments to sell loans secured by one- to four-family residential properties	94,884		18,328
Commitments to sell securities related to mortgage banking activities	277,750		144,250

Commitments to extend credit are agreements to lend to a customer, as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Many of the commitments may expire without being drawn upon; therefore, the total commitment amounts do not necessarily represent future cash requirements. Each customer’s creditworthiness is evaluated on a case-by-case basis. The amount of collateral obtained, if deemed necessary upon extension of credit, is based on management’s credit evaluation of the customer. The type of collateral held varies, but may include accounts receivable, inventory, property, plant and equipment, and income producing commercial properties. The Company's reserve for unfunded loan commitments was $2.6 million at both September 30, 2019 and December 31, 2018.

Standby letters of credit are conditional commitments issued to guarantee a customer’s performance or payment to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Through the acquisition of AmericanWest, Banner Bank assumed a risk participation agreement. Under the risk participation agreement, Banner Bank guarantees the financial performance of a borrower on the participated portion of an interest rate swap on a loan.

Interest rates on residential one- to four-family mortgage loan applications are typically rate locked (committed) to customers during the application stage for periods ranging from 30 to 60 days, the most typical period being 45 days. Traditionally, these loan applications with rate lock commitments had the pricing for the sale of these loans locked with various qualified investors under a best-efforts delivery program at or near the time the interest rate is locked with the customer. The Company then attempts to deliver these loans before their rate locks expired. This arrangement generally required delivery of the loans prior to the expiration of the rate lock. Delays in funding the loans required a lock extension. The cost of a lock extension at times was borne by the customer and at times by the Company. These lock extension costs have not had a material impact to our operations. The Company enters into forward commitments at specific prices and settlement dates to deliver either: (1) residential mortgage loans for purchase by secondary market investors (i.e., Freddie Mac or Fannie Mae), or (2) mortgage-backed securities to broker/dealers. The purpose of these forward commitments is to offset the movement in interest rates between the execution of its residential mortgage

rate lock commitments with borrowers and the sale of those loans to the secondary market investor. There were no counterparty default losses on forward contracts during the three and nine months ended September 30, 2019 or September 30, 2018. Market risk with respect to forward contracts arises principally from changes in the value of contractual positions due to changes in interest rates. The Company limits its exposure to market risk by monitoring differences between commitments to customers and forward contracts with market investors and securities broker/dealers. In the event the Company has forward delivery contract commitments in excess of available mortgage loans, the transaction is completed by either paying or receiving a fee to or from the investor or broker/dealer equal to the increase or decrease in the market value of the forward contract.

In the normal course of business, the Company and/or its subsidiaries have various legal proceedings and other contingent matters outstanding. These proceedings and the associated legal claims are often contested and the outcome of individual matters is not always predictable. These claims and counter-claims typically arise during the course of collection efforts on problem loans or with respect to action to enforce liens on properties in which the Banks hold a security interest. Based upon the information known to management at this time, the Company and the Banks are not a party to any legal proceedings that management believes would have a material adverse effect on the results of operations or consolidated financial position at September 30, 2019.

In connection with certain asset sales, the Banks typically make representations and warranties about the underlying assets conforming to specified guidelines. If the underlying assets do not conform to the specifications, the Banks may have an obligation to repurchase the assets or indemnify the purchaser against any loss. The Banks believe that the potential for material loss under these arrangements is remote. Accordingly, the fair value of such obligations is not material.

NOTE 14: DERIVATIVES AND HEDGING

The Company, through its Banner Bank subsidiary, is party to various derivative instruments that are used for asset and liability management and customer financing needs. Derivative instruments are contracts between two or more parties that have a notional amount and an underlying variable, require no net investment and allow for the net settlement of positions. The notional amount serves as the basis for the payment provision of the contract and takes the form of units, such as shares or dollars. The underlying variable represents a specified interest rate, index, or other component. The interaction between the notional amount and the underlying variable determines the number of units to be exchanged between the parties and influences the market value of the derivative contract. The Company obtains dealer quotations to value its derivative contracts.

The Company's predominant derivative and hedging activities involve interest rate swaps related to certain term loans and forward sales contracts associated with mortgage banking activities. Generally, these instruments help the Company manage exposure to market risk and meet customer financing needs. Market risk represents the possibility that economic value or net interest income will be adversely affected by fluctuations in external factors such as market-driven interest rates and prices or other economic factors.

Derivatives Designated in Hedge Relationships

The Company's fixed rate loans result in exposure to losses in value or net interest income as interest rates change. The risk management objective for hedging fixed rate loans is to effectively convert the fixed rate received to a floating rate. The Company has hedged exposure to changes in the fair value of certain fixed rate loans through the use of interest rate swaps. For a qualifying fair value hedge, changes in the value of the derivatives are recognized in current period earnings along with the corresponding changes in the fair value of the designated hedged item attributable to the risk being hedged.

Under a prior program, customers received fixed interest rate commercial loans and Banner Bank subsequently hedged that fixed rate loan by entering into an interest rate swap with a dealer counterparty. Banner Bank receives fixed rate payments from the customers on the loans and makes similar fixed rate payments to the dealer counterparty on the swaps in exchange for variable rate payments based on the one-month LIBOR index. Some of these interest rate swaps are designated as fair value hedges. Through application of the “short cut method of accounting,” there is an assumption that the hedges are effective. Banner Bank discontinued originating interest rate swaps under this program in 2008.

As of September 30, 2019 and December 31, 2018, the notional values or contractual amounts and fair values of the Company's derivatives designated in hedge relationships were as follows (in thousands):



	Asset Derivatives								Liability Derivatives
	September 30, 2019				December 31, 2018				September 30, 2019				December 31, 2018
	Notional/ Contract Amount		Fair Value ⁽¹⁾		Notional/ Contract Amount		Fair Value ⁽¹⁾		Notional/ Contract Amount		Fair Value ⁽²⁾		Notional/ Contract Amount		Fair Value ⁽²⁾
Interest rate swaps	$	3,671	$	256	$	3,973	$	270	$	3,671	$	256	$	3,973	$	270


⁽¹⁾	Included in Loans receivable on the Consolidated Statements of Financial Condition.


⁽²⁾	Included in Other liabilities on the Consolidated Statements of Financial Condition.

Derivatives Not Designated in Hedge Relationships

Interest Rate Swaps: Banner Bank uses an interest rate swap program for commercial loan customers that provides the client with a variable rate loan and enters into an interest rate swap in which the client locks in a fixed rate and the Bank receives a variable rate payment. The Bank offsets its risk exposure by entering into an offsetting interest rate swap with a dealer counterparty for the same notional amount and length of term as the client interest rate swap providing the dealer counterparty with a fixed-rate payment in exchange for a variable-rate payment. These swaps do not qualify as designated hedges; therefore, each swap is accounted for as a free standing derivative.

Mortgage Banking: In the normal course of business, the Company sells originated one- to four-family and multifamily mortgage loans into the secondary mortgage loan markets. During the period of loan origination and prior to the sale of the loans in the secondary market, the Company has exposure to movements in interest rates associated with written interest rate lock commitments with potential borrowers to originate one- to four-family loans that are intended to be sold and for closed one- to four-family and multifamily mortgage loans held for sale that are awaiting sale and delivery into the secondary market. The Company attempts to economically hedge the risk of changing interest rates associated with these mortgage loan commitments by entering into forward sales contracts to sell one- to four-family and multifamily mortgage loans or mortgage-backed securities to broker/dealers at specific prices and dates.

As of September 30, 2019 and December 31, 2018, the notional values or contractual amounts and fair values of the Company's derivatives not designated in hedge relationships were as follows (in thousands):



	Asset Derivatives								Liability Derivatives
	September 30, 2019				December 31, 2018				September 30, 2019				December 31, 2018
	Notional/ Contract Amount		Fair Value ⁽¹⁾		Notional/ Contract Amount		Fair Value ⁽¹⁾		Notional/ Contract Amount		Fair Value ⁽²⁾		Notional/ Contract Amount		Fair Value ⁽²⁾
Interest rate swaps	$	322,377	$	19,033	$	272,374	$	2,868	$	322,377	$	14,143	$	272,374	$	2,868
Mortgage loan commitments	106,436		1,406		20,229		273		77,133		45		17,763		187
Forward sales contracts	193,884		512		18,328		198		178,750		248		144,250		1,467
	$	622,697	$	20,951	$	310,931	$	3,339	$	578,260	$	14,436	$	434,387	$	4,522


⁽¹⁾	Included in Other assets on the Consolidated Statements of Financial Condition, with the exception of certain interest swaps and mortgage loan commitments (with a fair value of $608,000 at September 30, 2019 and $282,000 at December 31, 2018), which are included in Loans receivable.


⁽²⁾	Included in Other liabilities on the Consolidated Statements of Financial Condition.

Gains (losses) recognized in income on derivatives not designated in hedge relationships for the three and nine months ended September 30, 2019 and 2018 were as follows (in thousands):



	Location on Consolidated Statements of Operations	Three Months Ended September 30,						Nine Months Ended September 30,
	Location on Consolidated Statements of Operations	2019			2018			2019			2018
Mortgage loan commitments	Mortgage banking operations	$	(80	)	$	(177	)	$	1,020		$	(13	)
Forward sales contracts	Mortgage banking operations	47			325			(195		)	594
		$	(33	)	$	148		$	825		$	581

The Company is exposed to credit-related losses in the event of nonperformance by the counterparty to these agreements. Credit risk of the financial contract is controlled through the credit approval, limits, and monitoring procedures and management does not expect the counterparties to fail their obligations.

In connection with the interest rate swaps between Banner Bank and the dealer counterparties, the agreements contain a provision where if Banner Bank fails to maintain its status as a well/adequately capitalized institution, then the counterparty could terminate the derivative positions and Banner Bank would be required to settle its obligations. Similarly, Banner Bank could be required to settle its obligations under certain of its agreements if specific regulatory events occur, such as a publicly issued prompt corrective action directive, cease and desist order, or a capital maintenance agreement that required Banner Bank to maintain a specific capital level. If Banner Bank had breached any of these provisions at September 30, 2019 or December 31, 2018, it could have been required to settle its obligations under the agreements at the termination value. As of September 30, 2019 and December 31, 2018, the termination value of derivatives in a net liability position related to these agreements was $19.3 million and $1.3 million, respectively. The Company generally posts collateral against derivative liabilities in the form of cash, government agency-issued bonds, mortgage-backed securities, or commercial mortgage-backed securities. Collateral posted against derivative liabilities was $30.4 million and $13.6 million as of September 30, 2019 and December 31, 2018, respectively.

Derivative assets and liabilities are recorded at fair value on the balance sheet. Master netting agreements allow the Company to settle all derivative contracts held with a single counterparty on a net basis and to offset net derivative positions with related collateral where applicable. In addition, some of interest rate swap derivatives between Banner Bank and the dealer counterparties are cleared through central clearing houses. These clearing houses characterize the variation margin payments as settlements of the derivative's market exposure and not as collateral. The variation margin is treated as an adjustment to our cash collateral, as well as a corresponding adjustment to our derivative liability. As of September 30, 2019 the variation margin adjustment was a negative adjustment of $4.9 million. There was no variation margin adjustment as of December 31, 2018.

The following tables present additional information related to the Company's derivative contracts, by type of financial instrument, as of September 30, 2019 and December 31, 2018 (in thousands):



	September 30, 2019
								Gross Amounts of Financial Instruments Not Offset in the Consolidated Statements of Financial Condition
	Gross Amounts Recognized		Amounts offset in the Statement of Financial Condition			Net Amounts in the Statement of Financial Condition		Netting Adjustment Per Applicable Master Netting Agreements		Fair Value of Financial Collateral in the Statement of Financial Condition			Net Amount
Derivative assets
Interest rate swaps	$	19,289	$	—		$	19,289	$	—	$	—		$	19,289
	$	19,289	$	—		$	19,289	$	—	$	—		$	19,289

Derivative liabilities
Interest rate swaps	$	19,289	$	(4,890	)	$	14,399	$	—	$	(14,383	)	$	16
	$	19,289	$	(4,890	)	$	14,399	$	—	$	(14,383	)	$	16

	December 31, 2018
								Gross Amounts of Financial Instruments Not Offset in the Consolidated Statements of Financial Condition
	Gross Amounts Recognized		Amounts offset in the Statement of Financial Condition			Net Amounts in the Statement of Financial Condition		Netting Adjustment Per Applicable Master Netting Agreements		Fair Value of Financial Collateral in the Statement of Financial Condition			Net Amount
Derivative assets
Interest rate swaps	$	5,038	$	(1,900	)	$	3,138	$	—	$	—		$	3,138
	$	5,038	$	(1,900	)	$	3,138	$	—	$	—		$	3,138

Derivative liabilities
Interest rate swaps	$	5,038	$	(1,900	)	$	3,138	$	—	$	(1,320	)	$	1,818
	$	5,038	$	(1,900	)	$	3,138	$	—	$	(1,320	)	$	1,818

NOTE 15: REVENUE FROM CONTRACTS WITH CUSTOMERS

Disaggregation of Revenue:

Deposit fees and other service charges for the three and nine months ended September 30, 2019 and 2018 are summarized as follows (in thousands):



	Three Months Ended September 30,						Nine Months Ended September 30,
	2019			2018			2019			2018
Deposit service charges	$	4,931		$	4,501		$	14,347		$	13,348
Debit and credit card interchange fees	5,480			8,146			22,682			23,337
Debit and credit card expense	(1,991		)	(2,166		)	(6,389		)	(6,069		)
Merchant services income	3,659			5,347			9,860			7,747
Merchant services expense	(2,960		)	(4,544		)	(7,941		)	(5,899		)
Other service charges	1,212			971			4,436			3,071
Total deposit fees and other service charges	$	10,331		$	12,255		$	36,995		$	35,535

Deposit fees and other service charges

Deposit fees and other service charges include transaction and non-transaction based deposit fees. Transaction based fees on deposit accounts are charged to deposit customers for specific services provided to the customer. These fees include such items as wire fees, official check fees, and overdraft fees. These are contract specific to each individual transaction and do not extend beyond the individual transaction. The performance obligation is completed and the fees are recognized at the time the specific transactional service is provided to the customer. Non-transactional deposit fees are typically monthly account maintenance fees charged on deposit accounts. These are day-to-day contracts that can be canceled by either party without notice. The performance obligation is satisfied and the fees are recognized on a monthly basis after the service period is completed.

Debit and credit card interchange income and expenses

Debit and credit card interchange income represent fees earned when a debit or credit card issued by the Banks is used to purchase goods or services at a merchant. The merchant's bank pays the Banks a default interchange rate set by MasterCard on a transaction by transaction basis. The merchant acquiring bank can stop accepting the Banks’ cards at any time and the Banks can stop further use of cards issued by them at any time. The performance obligation is satisfied and the fees are earned when the cost of the transaction is charged to the Banks cardholders’ card. Direct expenses associated with the credit and debit card are recorded as a net reduction against the interchange income.

Merchant services income

Merchant services income represents fees earned by the Banks for card payment services provided to its merchant customers. The Banks have a contract with a third party to provide card payment services to the Banks’ merchants that contract for those services. The third party provider has contracts with the Banks’ merchants to provide the card payment services. The Banks do not have a direct contractual relationship with its merchants for these services. The Banks set the rates for the services provided by the third party. The third party provider passes the payments made by the Banks’ merchants through to the Banks. The Banks, in turn, pay the third party provider for the services it provides to the Banks’ merchants. These payments to the third party provider are recorded as expenses as a net reduction against fee income. In addition, a portion of the payment received by the Banks represents interchange fees which are passed through to the card issuing bank. Income is primarily earned based on the dollar volume and number of transactions processed. The performance obligation is satisfied and the related fee is earned when each payment is accepted by the processing network.

NOTE 16: LEASES

The Company leases 106 buildings and offices under non-cancelable operating leases. The leases contain various provisions for increases in rental rates, based either on changes in the published Consumer Price Index or a predetermined escalation schedule. Substantially all of the leases provide the Company with the option to extend the lease term one or more times following expiration of the initial term. The Company adopted the requirements of Topic 842 effective January 1, 2019, which required the Company to record a right-of-use lease asset and a lease liability for leases with an initial term of more than 12 months for leases that existed as of January 1, 2019. The periods prior to the date of adoption are accounted for under Lease Topic 840; therefore, the following disclosures include only the periods for which Topic 842 was effective.

Lease Position as of September 30, 2019

The table below presents the lease right-of-use assets and lease liabilities recorded on the balance sheet at September 30, 2019 (dollars in thousands):



	Classification on the Balance Sheet	September 30, 2019
Assets
Operating right-of-use lease assets	Other assets	$	58,985

Liabilities
Operating lease liabilities	Accrued expenses and other liabilities	$	62,808



Weighted-average remaining lease term
Operating leases	6.4 years

Weighted-average discount rate
Operating leases	3.83	%

Lease Costs

The table below presents certain information related to the lease costs for operating leases for the three and nine months ended September 30, 2019 (in thousands):



	Three Months Ended September 30,			Nine Months Ended September 30,
	2019			2019
Operating lease cost ⁽¹⁾	$	3,818		$	11,650
Short-term lease cost ⁽¹⁾	62			284
Variable lease cost ⁽¹⁾	623			1,751
Less sublease income ⁽¹⁾	(228		)	(696		)
Total lease cost	$	4,275		$	12,989

⁽¹⁾ Lease expenses and sublease income are classified within occupancy and equipment expense on the Consolidated Statements of Operations.

Supplemental Cash Flow Information

Operating cash flows paid for operating lease amounts included in the measurement of lease liabilities were $3.8 million and $11.5 million for the three and nine months ended September 30, 2019, respectively. During the three and nine months ended September 30, 2019, the Company recorded $8.8 million and $72.5 million, respectively, of right-of-use lease assets in exchange for operating lease liabilities.

Undiscounted Cash Flows

The table below reconciles the undiscounted cash flows for each of the first five years beginning with 2019 and the total of the remaining years to the operating lease liabilities recorded on the Consolidated Statements of Financial Position (in thousands):



	Operating Leases
Remainder of 2019	$	3,778
2020	14,936
2021	13,596
2022	10,086
2023	7,193
Thereafter	21,498
Total minimum lease payments	71,087
Less: amount of lease payments representing interest	(8,279		)
Lease obligations	$	62,808

As of September 30, 2019, the Company had no undiscounted lease payments under an operating lease that had not yet commenced.

ITEM 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations

Executive Overview

We are a bank holding company incorporated in the State of Washington which owns two subsidiary banks, Banner Bank and Islanders Bank. Banner Bank is a Washington-chartered commercial bank that conducts business from its main office in Walla Walla, Washington and, as of September 30, 2019, it had 169 branch offices and 17 loan production offices located in Washington, Oregon, California, Idaho and Utah. Islanders Bank is a Washington-chartered commercial bank and conducts its business from three locations in San Juan County, Washington. Banner Corporation is subject to regulation by the Board of Governors of the Federal Reserve System (the Federal Reserve Board). Banner Bank and Islanders Bank (the Banks) are subject to regulation by the Washington State Department of Financial Institutions, Division of Banks and the Federal Deposit Insurance Corporation (the FDIC). As of September 30, 2019, we had total consolidated assets of $12.10 billion, total loans of $8.84 billion, total deposits of $9.73 billion and total shareholders’ equity of $1.53 billion.

Banner Bank is a regional bank which offers a wide variety of commercial banking services and financial products to individuals, businesses and public sector entities in its primary market areas. Islanders Bank is a community bank which offers similar banking services to individuals, businesses and public entities located in the San Juan Islands. The Banks’ primary business is that of traditional banking institutions, accepting deposits and originating loans in locations surrounding their offices in portions of Washington, Oregon, California and Idaho. Banner Bank is also an active participant in secondary loan markets, engaging in mortgage banking operations largely through the origination and sale of one- to four-family and multifamily residential loans. Lending activities include commercial business and commercial real estate loans, agriculture business loans, construction and land development loans, one- to four-family and multifamily residential loans and consumer loans.

Banner Corporation's successful execution of its super community bank model and strategic initiatives have delivered solid core operating results and profitability. Highlights of this success have included solid asset quality, client acquisition and account growth, which have resulted in increased non-interest-bearing deposit balances and strong revenue generation while maintaining the Company's moderate risk profile.

For the quarter ended September 30, 2019, our net income was $39.6 million, or $1.15 per diluted share, compared to net income of $37.8 million, or $1.17 per diluted share, for the quarter ended September 30, 2018. The current quarter was positively impacted by growth in residential and multifamily mortgage loan production and increased average interest-earning assets and core deposits. Compared to the same quarter a year ago, we had an increase in net interest income, reflecting the growth of the Company, both organically and through the acquisition of Skagit.

Our operating results depend primarily on our net interest income, which is the difference between interest income on interest-earning assets, consisting primarily of loans and investment securities, and interest expense on interest-bearing liabilities, composed primarily of customer deposits, FHLB advances, other borrowings and junior subordinated debentures. Net interest income is primarily a function of our interest rate spread which is the difference between the yield earned on interest-earning assets and the rate paid on interest-bearing liabilities, as well as a function of the average balances of interest-earning assets, interest-bearing liabilities and non-interest-bearing funding sources including non-interest-bearing deposits. Our net interest income increased $7.5 million, or 7%, to $116.6 million for the quarter ended September 30, 2019, compared to $109.1 million for the same quarter one year earlier. This increase in net interest income is a result of growth in total loans receivable and core deposits.

Our net income is also affected by the level of our non-interest income, including deposit fees and other service charges, results of mortgage banking operations, which includes gains and losses on the sale of loans and servicing fees, gains and losses on the sale of securities, as well as

our non-interest expenses and provisions for loan losses and income taxes. In addition, our net income is affected by the net change in the value of certain financial instruments carried at fair value.

Our total revenues (net interest income before the provision for loan losses plus total non-interest income) for the third quarter of 2019 increased $8.0 million, or 6%, to $137.5 million, compared to $129.5 million for the same period a year earlier, largely as a result of increased net interest income. Our total non-interest income, which is a component of total revenue and includes the net gain on sale of securities and changes in the value of financial instruments carried at fair value, was $20.9 million for the quarter ended September 30, 2019, compared to $20.4 million for the quarter ended September 30, 2018.

Our non-interest expense increased in the third quarter of 2019 compared to a year earlier largely as a result of the higher salary and employee benefits due to additional staffing related to the operations acquired from the acquisition of Skagit on November 1, 2018, normal salary and wage adjustments, and a $1.6 million expense resulting from decreasing the discount rate Banner uses to calculate its liability associated with deferred compensation plan, partially offset by a net $1.6 million deposit insurance benefit due to a $2.7 million credit for previously paid deposit insurance premiums, which came as a result of the FDIC exceeding its stated Deposit Insurance Fund Reserve Ratio. Non-interest expense was $87.3 million for the quarter ended September 30, 2019, compared to $81.6 million for the same quarter a year earlier.

Although our credit quality metrics continue to reflect our moderate risk profile, we recorded a $2.0 million provision for loan losses in the quarter ended September 30, 2019, the same amount as was recorded in the third quarter a year ago. The current quarter provision for loan losses was primarily a result of the origination of new loans, the renewal of acquired loans out of the discounted acquired loan portfolio and net charge-offs. The allowance for loan losses at September 30, 2019 was $97.8 million, representing 536% of non-performing loans. Non-performing loans were $18.3 million at September 30, 2019, compared to $15.7 million at December 31, 2018 and $15.8 million a year earlier. (See Note 5, Loans Receivable and the Allowance for Loan Losses, as well as “Asset Quality” below in this Form 10-Q.)

Banner and Banner Bank exceeded $10 billion in assets as of December 31, 2018 and, therefore, the Banks became subject to the Durbin Amendment interchange fee limitation effective July 1, 2019. Based on current debit card transaction volumes, we anticipate that the Durbin Amendment will have a $15 million annualized negative impact on pre-tax revenues commencing in July 2019.

*Non-GAAP financial measures: Net income, revenues and other earnings and expense information excluding fair value adjustments, OTTI losses or recoveries, gains or losses on the sale of securities, acquisition-related expenses, amortization of CDI, REO gain (loss) and state/municipal business and use taxes are non-GAAP financial measures. Management has presented these and other non-GAAP financial measures in this discussion and analysis because it believes that they provide useful and comparative information to assess trends in our core operations and in understanding our capital position. However, these non-GAAP financial measures are supplemental and are not a substitute for any analysis based on GAAP. Where applicable, we have also presented comparable earnings information using GAAP financial measures. For a reconciliation of these non-GAAP financial measures, see the tables below. Because not all companies use the same calculations, our presentation may not be comparable to other similarly titled measures as calculated by other companies. See “Comparison of Results of Operations for the Three and Nine Months Ended September 30, 2019 and 2018” for more detailed information about our financial performance.

The following tables set forth reconciliations of non-GAAP financial measures discussed in this report (in thousands):



	For the Three Months Ended September 30,					For the Nine Months Ended September 30,
	2019		2018			2019		2018
ADJUSTED REVENUE
Net interest income	$	116,621	$	109,078		$	349,420	$	313,514
Total non-interest income	20,866		20,411			61,667		62,990
Total GAAP revenue	137,487		129,489			411,087		376,504
Exclude net loss (gain) on sale of securities	2		—			29		(48		)
Exclude change in valuation of financial instruments carried at fair value	69		(45		)	172		(3,577		)
Adjusted Revenue (non-GAAP)	$	137,558	$	129,444		$	411,288	$	372,879



	For the Three Months Ended September 30,						For the Nine Months Ended September 30,
	2019			2018			2019			2018
ADJUSTED EARNINGS
Net income (GAAP)	$	39,577		$	37,773		$	112,623		$	98,987
Exclude net loss (gain) on sale of securities	2			—			29			(48		)
Exclude change in valuation of financial instruments carried at fair value	69			(45		)	172			(3,577		)
Exclude acquisition-related expenses	676			1,005			3,125			1,005
Exclude related tax (benefit) expense	(49		)	(126		)	(668		)	733
Total adjusted earnings (non-GAAP)	$	40,275		$	38,607		$	115,281		$	97,100
Diluted earnings per share (GAAP)	$	1.15		$	1.17		$	3.23		$	3.05
Diluted adjusted earnings per share (non-GAAP)	$	1.17		$	1.19		$	3.31		$	3.00



	For the Three Months Ended September 30,						For the Nine Months Ended September 30,
	2019			2018			2019			2018
ADJUSTED EFFICIENCY RATIO
Non-interest expense (GAAP)	$	87,308		$	81,632		$	264,038		$	245,975
Exclude acquisition-related expenses	(676		)	(1,005		)	(3,125		)	(1,005		)
Exclude CDI amortization	(1,985		)	(1,348		)	(6,090		)	(4,112		)
Exclude state/municipal tax expense	(1,011		)	(902		)	(2,963		)	(2,430		)
Exclude REO loss	(126		)	(433		)	(263		)	(553		)
Adjusted non-interest expense (non-GAAP)	$	83,510		$	77,944		$	251,597		$	237,875

Net interest income (GAAP)	$	116,621		$	109,078		$	349,420		$	313,514
Non-interest income (GAAP)	20,866			20,411			61,667			62,990
Total revenue	137,487			129,489			411,087			376,504
Exclude net loss (gain) on sale of securities	2			—			29			(48		)
Exclude net change in valuation of financial instruments carried at fair value	69			(45		)	172			(3,577		)
Adjusted revenue (non-GAAP)	$	137,558		$	129,444		$	411,288		$	372,879

Efficiency ratio (GAAP)	63.50		%	63.04		%	64.23		%	65.33		%
Adjusted efficiency ratio (non-GAAP)	60.71		%	60.21		%	61.17		%	63.79		%

The ratio of tangible common shareholders’ equity to tangible assets is also a non-GAAP financial measure. We calculate tangible common equity by excluding goodwill and other intangible assets from shareholders’ equity. We calculate tangible assets by excluding the balance of goodwill and other intangible assets from total assets. We believe that this is consistent with the treatment by our bank regulatory agencies, which exclude goodwill and other intangible assets from the calculation of risk-based capital ratios. Management believes that this non-GAAP financial measure provides information to investors that is useful in understanding the basis of our capital position (dollars in thousands).



TANGIBLE COMMON SHAREHOLDERS' EQUITY TO TANGIBLE ASSETS
TANGIBLE COMMON SHAREHOLDERS' EQUITY TO TANGIBLE ASSETS	September 30, 2019			December 31, 2018			September 30, 2018
Shareholders’ equity (GAAP)	$	1,530,935		$	1,478,595		$	1,272,198
Exclude goodwill and other intangible assets, net	365,764			372,078			261,158
Tangible common shareholders’ equity (non-GAAP)	$	1,165,171		$	1,106,517		$	1,011,040
Total assets (GAAP)	$	12,097,842		$	11,871,317		$	10,514,303
Exclude goodwill and other intangible assets, net	365,764			372,078			261,158
Total tangible assets (non-GAAP)	$	11,732,078		$	11,499,239		$	10,253,145
Common shareholders’ equity to total assets (GAAP)	12.65		%	12.46		%	12.10		%
Tangible common shareholders’ equity to tangible assets (non-GAAP)	9.93		%	9.62		%	9.86		%

TANGIBLE COMMON SHAREHOLDERS' EQUITY PER SHARE
Tangible common shareholders' equity (non-GAAP)	$	1,165,171		$	1,106,517		$	1,011,040
Common shares outstanding at end of period	34,173,357			35,182,772			32,402,757
Common shareholders' equity (book value) per share (GAAP)	$	44.80		$	42.03		$	39.26
Tangible common shareholders' equity (tangible book value) per share (non-GAAP)	$	34.10		$	31.45		$	31.20

Management’s Discussion and Analysis of Financial Condition and Results of Operations is intended to assist in understanding our financial condition and results of operations. The information contained in this section should be read in conjunction with the Consolidated Financial Statements and accompanying Selected Notes to the Consolidated Financial Statements contained in Item 1 of this Form 10-Q.

Summary of Critical Accounting Policies and Estimates

In the opinion of management, the accompanying Consolidated Statements of Financial Condition and related Consolidated Statements of Operations, Comprehensive Income, Changes in Shareholders’ Equity and Cash Flows reflect all adjustments (which include reclassification and normal recurring adjustments) that are necessary for a fair presentation in conformity with GAAP. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect amounts reported in the financial statements.

Various elements of our accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions and other subjective assessments. In particular, management has identified several accounting policies that, due to the judgments, estimates and assumptions inherent in those policies, are critical to an understanding of our financial statements. These policies relate to (i) the methodology for the recognition of interest income, (ii) determination of the provision and allowance for loan losses, (iii) the valuation of financial assets and liabilities recorded at fair value, including OTTI losses, (iv) the valuation of intangibles, such as goodwill, core deposit intangibles and mortgage servicing rights, (v) the valuation of real estate held for sale, (vi) the valuation of assets and liabilities acquired in business combinations and subsequent recognition of related income and expense, and (vii) the valuation of or recognition of deferred tax assets and liabilities. These policies and judgments, estimates and assumptions are described in greater detail below. Management believes the judgments, estimates and assumptions used in the preparation of the financial statements are appropriate based on the factual circumstances at the time. However, given the sensitivity of the financial statements to these critical accounting policies, the use of other judgments, estimates and assumptions could result in material differences in our results of operations or financial condition. Further, subsequent changes in economic or market conditions could have a material impact on these estimates and our financial condition and operating results in future periods. There have been no significant changes in our application of accounting policies since December 31, 2018 except as described in Note 2 to the Consolidated Financial Statements. For additional information concerning critical accounting policies, see the Selected Notes to the Consolidated Financial Statements and the following:

Interest Income: (Notes 4 and 5) Interest on loans and securities is accrued as earned unless management doubts the collectability of the asset or the unpaid interest. Interest accruals on loans are generally discontinued when loans become 90 days past due for payment of interest and the loans are then placed on nonaccrual status. All previously accrued but uncollected interest is deducted from interest income upon transfer to nonaccrual status. For any future payments collected, interest income is recognized only upon management’s assessment that there is a strong likelihood that the full amount of a loan will be repaid or recovered. Management's assessment of the likelihood of full repayment involves judgment including determining the fair value of the underlying collateral which can be impacted by the economic environment. A loan may be put on nonaccrual status sooner than this policy would dictate if, in management’s judgment, the amounts owed, principal or interest, may be uncollectable. While less common, similar interest reversal and nonaccrual treatment is applied to investment securities if their ultimate collectability becomes questionable.

Provision and Allowance for Loan Losses: (Note 5) The methodology for determining the allowance for loan losses is considered a critical accounting policy by management because of the high degree of judgment involved, the subjectivity of the assumptions used, and the potential for changes in the economic environment that could result in changes to the amount of the recorded allowance for loan losses. The provision for loan losses reflects the amount required to maintain the allowance loan for losses at an appropriate level based upon management’s evaluation of the adequacy of general and specific loss reserves. Among the material estimates required to establish the allowance for loan losses are: overall economic conditions; value of collateral; strength of guarantors; loss exposure at default; the amount and timing of future cash flows on impaired loans; and determination of loss factors to be applied to the various elements of the portfolio. All of these estimates are susceptible to significant change. We have established systematic methodologies for the determination of the adequacy of our allowance for loan losses. The methodologies are set forth in a formal policy and take into consideration the need for an overall general valuation allowance as well as specific allowances that are tied to individual problem loans. We increase our allowance for loan losses by charging provisions for probable loan losses against our income.

The allowance for loan losses is maintained at a level sufficient to provide for probable losses based on evaluating known and inherent risks in the loan portfolio and upon our continuing analysis of the factors underlying the quality of the loan portfolio. These factors include, among others, changes in the size and composition of the loan portfolio, delinquency rates, actual loan loss experience, current and economic conditions, detailed analysis of individual loans for which full collectability may not be assured, and determination of the existence and realizable value of the collateral and guarantees securing the loans. Realized losses related to specific assets are applied as a reduction of the carrying value of the assets and charged immediately against the allowance for loan loss reserve. Recoveries on previously charged off loans are credited to the allowance for loan losses. The reserve is based upon factors and trends identified by us at the time financial statements are prepared. Although we use the best information available, future adjustments to the allowance for loan losses may be necessary due to economic, operating, regulatory and other conditions beyond our control. The adequacy of general and specific reserves is based on our continuing evaluation of the pertinent factors underlying the quality of the loan portfolio as well as individual review of certain large balance loans. Loans are considered impaired when, based on current information and events, we determine that it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement. Factors involved in determining impairment include, but are not limited to, the financial condition of the borrower, the value of the underlying collateral less selling costs and the current status of the economy. Impaired loans are measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate or, as a practical expedient, at the loan’s observable market price or the fair value of collateral if the loan is collateral dependent. We continue to assess the collateral of these impaired loans and update our appraisals on these loans on an annual basis. To the extent the property values continue to decline, there could be additional losses on these impaired loans, which may be material. Subsequent changes in the value of impaired loans are included within the provision for loan losses in the same manner in which impairment initially was recognized or as a reduction in the provision that would otherwise be reported. Large groups of smaller-balance homogeneous loans are collectively evaluated for impairment. Loans that are collectively evaluated for impairment include residential real estate and consumer loans and, as appropriate, smaller balance non-homogeneous loans. Larger balance non-homogeneous residential construction and land, commercial real estate, commercial business loans and unsecured loans are individually evaluated for impairment.

Our methodology for assessing the appropriateness of the allowance for loan losses consists of several key elements, which include specific allowances, an allocated formula allowance and an unallocated allowance. Losses on specific loans are provided for when the losses are probable and estimable. General loan loss reserves are established to provide for inherent loan portfolio risks not specifically provided for. The level of general reserves is based on analysis of potential exposures existing in our loan portfolio including evaluation of historical trends, current market conditions and other relevant factors identified by us at the time the financial statements are prepared. The formula allowance is calculated by applying loss factors to outstanding loans, excluding those loans that are subject to individual analysis for specific allowances. Loss factors are based on our historical loss experience adjusted for significant environmental considerations, including the experience of other banking organizations, which in our judgment affect the collectability of the loan portfolio as of the evaluation date. The unallocated allowance is based upon our evaluation of various factors that are not directly measured in the determination of the formula and specific allowances. This methodology may result in actual losses or recoveries differing significantly from the allowance for loan losses in the Consolidated Financial Statements.

While we believe the estimates and assumptions used in our determination of the adequacy of the allowance for loan losses are reasonable, there can be no assurance that such estimates and assumptions will not be proven incorrect in the future, or that the actual amount of future provisions will not exceed the amount of past provisions or that any increased provisions that may be required will not adversely impact our financial condition and results of operations. In addition, the determination of the amount of the Banks’ allowance for loan losses is subject to review by bank regulators as part of the routine examination process, which may result in the adjustment of reserves based upon their judgment of information available to them at the time of their examination.

Fair Value Accounting and Measurement: (Note 9) We use fair value measurements to record fair value adjustments to certain financial assets and liabilities and to determine fair value disclosures. We include in the Notes to the Consolidated Financial Statements information about the extent to which fair value is used to measure financial assets and liabilities, the valuation methodologies used and the impact on our results of operations and financial condition. Additionally, for financial instruments not recorded at fair value we disclose, where required, our estimate of their fair value.

Acquired Loans: (Notes 3 and 5) Purchased loans, including loans acquired in business combinations, are recorded at their fair value at the acquisition date. Credit discounts are included in the determination of fair value; therefore, an allowance for loan losses is not recorded at the acquisition date. Establishing the fair value of acquired loans involves a significant amount of judgment, including determining the credit discount. The credit discount is based upon historical data adjusted for current economic conditions and other factors. If any of these assumptions are inaccurate actual credit losses could vary significantly from the credit discount used to calculate the fair value of the acquired loans. Acquired loans are evaluated upon acquisition and classified as either purchased credit-impaired or purchased non-credit-impaired. Purchased credit-impaired (PCI) loans reflect credit deterioration since origination such that it is probable at acquisition that the Company will be unable to collect all contractually required payments. The accounting for PCI loans is periodically updated for changes in cash flow expectations, and reflected in interest income over the life of the loans as accretable yield. Any subsequent decreases in expected cash flows attributable to credit deterioration are recognized by recording a provision for loan losses.

For purchased non-credit-impaired loans, the difference between the fair value and unpaid principal balance of the loan at the acquisition date is amortized or accreted to interest income over the life of the loans. Any subsequent deterioration in credit quality is recognized by recording a provision for loan losses.

Goodwill: (Note 7) Goodwill represents the excess of the purchase consideration paid over the fair value of the assets acquired, net of the fair values of liabilities assumed in a business combination and is not amortized but is reviewed annually, or more frequently as current circumstances and conditions warrant, for impairment. An assessment of qualitative factors is completed to determine if it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The qualitative assessment involves judgment by management on determining whether there have been any triggering events that have occurred which would indicate potential impairment. If the qualitative analysis concludes that further analysis is required, then a quantitative impairment test would be completed. The quantitative goodwill impairment test is used to identify the existence of impairment and the amount of impairment loss and compares the reporting unit's estimated fair values, including goodwill, to its carrying amount. If the fair value exceeds the carry amount then goodwill is not considered impaired. If the carrying amount exceeds its fair value, an impairment loss would be recognized equal to the amount of excess, limited to the amount of total goodwill allocated to the reporting unit. The impairment loss would be recognized as a charge to earnings.

Other Intangible Assets: (Note 7) Other intangible assets consists primarily of core deposit intangibles (CDI), which are amounts recorded in business combinations or deposit purchase transactions related to the value of transaction-related deposits and the value of the customer relationships associated with the deposits. Core deposit intangibles are being amortized on an accelerated basis over a weighted average estimated useful life of eight years. The determination of the estimated useful life of the core deposit intangible involves judgment by management. The actual life of the core deposit intangible could vary significantly from the estimated life. These assets are reviewed at least annually for events or circumstances that could impact their recoverability. These events could include loss of the underlying core deposits, increased competition or adverse changes in the economy. To the extent other identifiable intangible assets are deemed unrecoverable, impairment losses are recorded in other non-interest expense to reduce the carrying amount of the assets.

Mortgage Servicing Rights: (Note 7) Mortgage servicing rights (MSRs) are recognized as separate assets when rights are acquired through purchase or through sale of loans. Generally, purchased MSRs are capitalized at the cost to acquire the rights. For sales of mortgage loans, the value of the MSR is estimated and capitalized. Fair value is based on market prices for comparable mortgage servicing contracts. The fair value of the MSRs includes an estimate of the life of the underlying loans which is affected by estimated prepayment speeds. The estimate of prepayment speeds is based on current market conditions. Actual market conditions could vary significantly from current conditions which could result in the estimated life of the underlying loans being different which would change the fair value of the MSR. Capitalized MSRs are reported in other assets and are amortized into non-interest income in proportion to, and over the period of, the estimated future net servicing income of the underlying financial assets.

Real Estate Owned Held for Sale: (Note 6) Property acquired by foreclosure or deed in lieu of foreclosure is recorded at the estimated fair value of the property, less expected selling costs. Development and improvement costs relating to the property may be capitalized, while other holding costs are expensed. The carrying value of the property is periodically evaluated by management. Property values are influenced by current economic and market conditions, changes in economic conditions could result in a decline in property value. To the extent that property values decline, allowances are established to reduce the carrying value to net realizable value. Gains or losses at the time the property is sold are charged or credited to operations in the period in which they are realized. The amounts the Banks will ultimately recover from real estate held for sale may differ substantially from the carrying value of the assets because of market factors beyond the Banks’ control or because of changes in the Banks’ strategies for recovering the investment.

Income Taxes and Deferred Taxes: (Note 10) The Company and its wholly-owned subsidiaries file consolidated U.S. federal income tax returns, as well as state income tax returns in Oregon, California, Utah, Idaho and Montana. Income taxes are accounted for using the asset and liability method. Under this method a deferred tax asset or liability is determined based on the enacted tax rates which are expected to be in effect when the differences between the financial statement carrying amounts and tax basis of existing assets and liabilities are expected to be reported in the Company’s income tax returns. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment date. We assess the appropriate tax treatment of transactions and filing positions after considering statutes, regulations, judicial

precedent and other pertinent information and maintain tax accruals consistent with our evaluation. Changes in the estimate of accrued taxes occur periodically due to changes in tax rates, interpretations of tax laws, the status of examinations by the tax authorities and newly enacted statutory, judicial and regulatory guidance that could impact the relative merits of tax positions. These changes, when they occur, impact accrued taxes and can materially affect our operating results. A valuation allowance is required to be recognized if it is “more likely than not” that all or a portion of our deferred tax assets will not be realized. The evaluation pertaining to the tax expense and related deferred tax asset and liability balances involves a high degree of judgment and subjectivity around the measurement and resolution of these matters. The ultimate realization of the deferred tax assets is dependent upon the existence, or generation, of taxable income in the periods when those temporary differences and net operating loss and credit carryforwards are deductible.

Comparison of Financial Condition at September 30, 2019 and December 31, 2018

General: Total assets increased $226.5 million, to $12.10 billion at September 30, 2019, from $11.87 billion at December 31, 2018. The increase was largely the result of increases in both total loans receivable and loans held for sale.

Loans and lending: Loans are our most significant and generally highest yielding earning assets. We attempt to maintain a portfolio of loans in a range of 90% to 95% of total deposits to enhance our revenues, while adhering to sound underwriting practices and appropriate diversification guidelines in order to maintain a moderate risk profile. We offer a wide range of loan products to meet the demands of our customers. Our lending activities are primarily directed toward the origination of real estate and commercial loans. Total loans receivable increased $150.8 million during the nine months ended September 30, 2019, primarily reflecting increased commercial real estate, multifamily real estate, commercial construction, multifamily construction, and commercial business loan balances offset by seasonal and other market factors resulting in decreased agricultural, one-to-four family, residential land and land development, and one-to-four-family construction loan balances. At September 30, 2019, our loans receivable totaled $8.84 billion compared to $8.68 billion at December 31, 2018 and $7.82 billion at September 30, 2018. The growth over the year ago period includes the impact of the acquisition of Skagit during the fourth quarter of 2018 which included $631.7 million of portfolio loans.

The following table sets forth the composition of the Company's loans receivable by type of loan as of the dates indicated (dollars in thousands):



							Percentage Change
	Sep 30, 2019		Dec 31, 2018		Sep 30, 2018		Prior Yr End		Prior Year
Commercial real estate:
Owner occupied	$	1,463,303	$	1,430,097	$	1,271,363	2.3	%	15.1	%
Investment properties	2,150,938		2,131,059		1,943,793		0.9		10.7
Multifamily real estate	399,814		368,836		309,809		8.4		29.1
Commercial construction	190,532		172,410		154,071		10.5		23.7
Multifamily construction	214,878		184,630		172,433		16.4		24.6
One- to four-family construction	488,945		534,678		498,549		(8.6	)	(1.9	)
Land and land development:
Residential	163,829		188,508		171,610		(13.1	)	(4.5	)
Commercial	26,119		27,278		22,382		(4.2	)	16.7
Commercial business	1,619,391		1,483,614		1,358,149		9.2		19.2
Agricultural business including secured by farmland	390,505		404,873		359,966		(3.5	)	8.5
One- to four-family real estate	947,475		973,616		849,928		(2.7	)	11.5
Consumer:
Consumer secured by one- to four-family real estate	566,792		568,979		539,143		(0.4	)	5.1
Consumer-other	212,847		216,017		171,323		(1.5	)	24.2
Total loans receivable	$	8,835,368	$	8,684,595	$	7,822,519	1.7	%	12.9	%

Our commercial real estate loans for both owner-occupied and investment properties totaled $3.61 billion, or 41% of our loan portfolio at September 30, 2019. In addition, multifamily residential real estate loans totaled $399.8 million and comprised 5% of our loan portfolio. Commercial real estate loans increased by $53.1 million during the first nine months of 2019 while multifamily real estate loans increased by $31.0 million. Although multifamily real estate loans remain a modest portion of our held-for-investment loan portfolio, originations and sales of multifamily real estate loans held for sale have made a significant contribution to our mortgage banking revenue.

We also originate commercial and residential construction, land and land development loans, which totaled $1.08 billion, or 12% of our loan portfolio at September 30, 2019. Residential construction, land and land development balances decreased $70.4 million, or 10%, to $652.8 million at September 30, 2019 compared to $723.2 million at December 31, 2018 and decreased $17.4 million, or 3%, compared to $670.2 million at September 30, 2018. Residential construction loan balances decreased, as the velocity of one- to four-family home sales increased during the quarter. We also originate residential construction loans for owner occupants, although construction balances for these loans are

modest as the loans convert to one- to four-family real estate loans upon completion of the homes and are often sold in the secondary market. Residential construction, land and land development loans represented approximately 7% of our total loan portfolio at September 30, 2019.

Our commercial business lending is directed toward meeting the credit and related deposit needs of various small- to medium-sized business and agribusiness borrowers operating in our primary market areas. In recent years, our commercial business lending has also included participation in certain syndicated loans, including shared national credits, which totaled $181.0 million at September 30, 2019. Our commercial and agricultural business loans increased $121.4 million to $2.01 billion at September 30, 2019, compared to $1.89 billion at December 31, 2018, and increased $291.8 million, or 17%, compared to $1.72 billion at September 30, 2018. The increase in the current quarter primarily reflects growth in commercial business loans offset partially by seasonal decreases in agricultural loan balances. Commercial and agricultural business loans represented approximately 23% of our portfolio at September 30, 2019.

Our one- to four-family real estate loan originations have been relatively strong, as interest rates have declined during the current year. We are active originators of one- to four-family real estate loans in most communities where we have established offices in Washington, Oregon, California and Idaho. Most of the one- to four-family real estate loans that we originate are sold in secondary markets with net gains on sales and loan servicing fees reflected in our revenues from mortgage banking. At September 30, 2019, our outstanding balance of one- to four-family real estate loans retained in our portfolio decreased $26.1 million, to $947.5 million, compared to $973.6 million at December 31, 2018, and increased $97.5 million, or 11%, compared to $849.9 million at September 30, 2018. One- to four-family real estate loans represented 11% of our loan portfolio at September 30, 2019.

Our consumer loan activity is primarily directed at meeting demand from our existing deposit customers. At September 30, 2019, consumer loans, including consumer loans secured by one- to four-family residences, decreased $5.4 million to $779.6 million, compared to $785.0 million at December 31, 2018, and increased $69.2 million compared to $710.5 million at September 30, 2018.

The following table shows loan origination (excluding loans held for sale) activity for the three and nine months ended September 30, 2019 and September 30, 2018 (in thousands):



	Three Months Ended				Nine months ended
	Sep 30, 2019		Sep 30, 2018		Sep 30, 2019		Sep 30, 2018
Commercial real estate	$	114,528	$	142,393	$	290,085	$	363,899
Multifamily real estate	29,645		2,215		58,913		9,040
Construction and land	303,151		370,484		904,869		1,062,834
Commercial business	194,606		303,472		561,652		632,368
Agricultural business	12,363		36,747		65,124		104,801
One-to four- family residential	27,734		51,459		85,733		95,810
Consumer	101,613		74,339		285,357		259,161
Total loan originations (excluding loans held for sale)	$	783,640	$	981,109	$	2,251,733	$	2,527,913

The origination table above includes loan participations and loan purchases. There were $8.6 million of loan purchases during the nine months ended September 30, 2019, compared to $1.7 million during the nine months ended September 30, 2018, all of which were one-to four-family loans.

Loans held for sale increased to $244.9 million at September 30, 2019, compared to $171.0 million at December 31, 2018, as the origination of held-for-sale loans exceeded sales of held-for-sale loans during the nine months ended September 30, 2019. Origination of loans held for sale increased to $756.3 million for the nine months ended September 30, 2019 compared to $637.7 million for the same period last year. The volume of one- to four-family residential mortgage loans sold was $450.8 million during the nine months ended September 30, 2019, compared to $382.7 million in the same period a year ago. During the nine months ended September 30, 2019, we sold $229.3 million in multifamily loans compared to $229.7 million for the same period last year. Loans held for sale were $72.9 million at September 30, 2018. Loans held for sale at September 30, 2019 included $144.9 million of multifamily loans and $100.0 million of one- to four-family loans compared to $39.2 million of multifamily loans and $33.6 million of one- to four-family loans at September 30, 2018.

The following table presents loans by geographic concentration at September 30, 2019, December 31, 2018 and September 30, 2018 (dollars in thousands):



	Sep 30, 2019				Dec 31, 2018		Sep 30, 2018		Percentage Change
	Amount		Percentage		Amount		Amount		Prior Yr End		Prior Yr Qtr
Washington	$	4,313,972	48.8	%	$	4,324,588	$	3,640,209	(0.2	)%	18.5	%
Oregon	1,615,192		18.3		1,636,152		1,628,703		(1.3	)	(0.8	)
California	1,729,208		19.5		1,596,604		1,496,817		8.3		15.5
Idaho	552,523		6.3		521,026		504,297		6.0		9.6
Utah	62,197		0.7		57,318		63,053		8.5		(1.4	)
Other	562,276		6.4		548,907		489,440		2.4		14.9
Total loans receivable	$	8,835,368	100.0	%	$	8,684,595	$	7,822,519	1.7	%	12.9	%

Investment Securities: Our total investment in securities decreased $100.7 million to $1.80 billion at September 30, 2019 from December 31, 2018. Securities sales, paydowns and maturities during the nine-month period exceeded purchases. Purchases were primarily in mortgage-backed or related securities issued by government-sponsored entities. The average effective duration of Banner's securities portfolio was approximately 3.1 years at September 30, 2019. Net fair value adjustments to the portfolio of securities held for trading, which were included in net income, were a decrease of $172,000 in the nine months ended September 30, 2019. In addition, fair value adjustments for securities designated as available-for-sale reflected an increase of $43.3 million for the nine months ended September 30, 2019, which was included net of the associated tax expense of $10.4 million as a component of other comprehensive income and largely occurred as a result of decreased market interest rates. (See Note 4 of the Selected Notes to the Consolidated Financial Statements in this Form 10-Q.)

Deposits: Deposits, customer retail repurchase agreements and loan repayments are the major sources of our funds for lending and other investment purposes. We compete with other financial institutions and financial intermediaries in attracting deposits and we generally attract deposits within our primary market areas. Increasing core deposits (non-interest-bearing and interest-bearing transaction and savings accounts) is a fundamental element of our business strategy. Much of the focus of our branch strategy and current marketing efforts have been directed toward attracting additional deposit customer relationships and balances. This effort has been particularly directed towards emphasizing core deposit activity in non-interest-bearing and other transaction and savings accounts. The long-term success of our deposit gathering activities is reflected not only in the growth of core deposit balances, but also in the level of deposit fees, service charges and other payment processing revenues compared to prior periods. Our core deposits balance was also positively impacted by $696.3 million of core deposits acquired in the Skagit acquisition in the fourth quarter of 2018.

The following table sets forth the Company's deposits by type of deposit account as of the dates indicated (dollars in thousands):



							Percentage Change
	Sep 30, 2019		Dec 31, 2018		Sep 30, 2018		Prior Yr End		Prior Year Qtr
Non-interest-bearing	$	3,885,210	$	3,657,817	$	3,469,294	6.2	%	12.0	%
Interest-bearing checking	1,209,826		1,191,016		1,034,678		1.6		16.9
Regular savings accounts	1,863,839		1,842,581		1,627,560		1.2		14.5
Money market accounts	1,551,305		1,465,369		1,373,618		5.9		12.9
Interest-bearing transaction & savings accounts	4,624,970		4,498,966		4,035,856		2.8		14.6
Total core deposits	8,510,180		8,156,783		7,505,150		4.3		13.4
Interest-bearing certificates	1,218,591		1,320,265		1,180,674		(7.7	)	3.2
Total deposits	$	9,728,771	$	9,477,048	$	8,685,824	2.7	%	12.0	%

Total deposits were $9.73 billion at September 30, 2019, compared to $9.48 billion at December 31, 2018 and $8.69 billion a year ago. The $251.7 million increase in total deposits compared to December 31, 2018 primarily reflects a $353.4 million increase in core deposits partially offset by a $77.9 million decrease in brokered deposits. Non-interest-bearing account balances increased slightly to $3.89 billion at September 30, 2019, compared to $3.66 billion at December 31, 2018, and increased 12% compared to $3.47 billion a year ago. Interest-bearing transaction and savings accounts increased 3% to $4.62 billion at September 30, 2019, compared to $4.50 billion at December 31, 2018, and increased 15% compared to $4.04 billion a year ago. Certificates of deposit decreased 8% to $1.22 billion at September 30, 2019, compared to $1.32 billion at December 31, 2018 and increased 3% compared to $1.18 billion a year ago. Brokered deposits totaled $299.5 million at September 30, 2019, compared to $377.3 million at December 31, 2018 and $325.2 million a year ago. Brokered deposits decreased during the nine months ended

September 30, 2019 in connection with investment securities maturities and sales. Core deposits represented 87% of total deposits at September 30, 2019, compared to 86% of total deposits at December 31, 2018.

The following table presents deposits by geographic concentration at September 30, 2019, December 31, 2018 and September 30, 2018 (dollars in thousands):



	Sep 30, 2019				Dec 31, 2018		Sep 30, 2018		Percentage Change
	Amount		Percentage		Amount		Amount		Prior Yr End		Prior Yr Qtr
Washington	$	5,833,547	60.0	%	$	5,674,328	$	4,849,807	2.8	%	20.3	%
Oregon	1,990,155		20.4		1,891,145		1,916,183		5.2		3.9
California	1,429,939		14.7		1,434,033		1,462,417		(0.3	)	(2.2	)
Idaho	475,130		4.9		477,542		457,417		(0.5	)	3.9
Total deposits	$	9,728,771	100.0	%	$	9,477,048	$	8,685,824	2.7	%	12.0	%

Borrowings: FHLB advances decreased to $382.0 million at September 30, 2019 from $540.2 million at December 31, 2018 as core deposits were used to fund loan growth. Other borrowings, consisting of retail repurchase agreements primarily related to customer cash management accounts, increased $1.0 million, or 1%, to $120.0 million at September 30, 2019, compared to $119.0 million at December 31, 2018. No additional junior subordinated debentures were issued or matured during the nine months ended September 30, 2019; however, the estimated fair value of these instruments decreased by $674,000, reflecting a decrease in LIBOR. Junior subordinated debentures totaled $113.4 million at September 30, 2019 compared to $114.1 million at December 31, 2018.

Shareholders' Equity: Total shareholders' equity increased $52.3 million to $1.53 billion at September 30, 2019 compared to $1.48 billion at December 31, 2018. The increase in shareholders' equity primarily reflects $112.6 million of year-to-date net income and a $33.4 million increase in accumulated other comprehensive income primarily representing the increase in unrealized gains on securities available-for-sale, net of tax. These increases were partially offset by the accrual of $43.0 million of cash dividends to common shareholders and the repurchase of $53.9 million of common stock. During the nine months ended September 30, 2019, 27,438 shares of restricted stock were forfeited and 33,670 shares were surrendered by employees to satisfy tax withholding obligations upon the vesting of restricted stock grants. (See Part II, Item 2, "Unregistered Sales of Equity Securities and Use of Proceeds" in this Form 10-Q.) Tangible common shareholders' equity, which excludes goodwill and other intangible assets, increased $58.7 million to $1.17 billion, or 9.93% of tangible assets at September 30, 2019, compared to $1.11 billion, or 9.62% of tangible assets at December 31, 2018.

Comparison of Results of Operations for the Three and Nine Months Ended September 30, 2019 and 2018

For the quarter ended September 30, 2019, our net income was $39.6 million, or $1.15 per diluted share, compared to $37.8 million, or $1.17 per diluted share, for the quarter ended September 30, 2018. For the nine months ended September 30, 2019 our net income was $112.6 million, or $3.23 per diluted share, compared to net income of $99.0 million, or $3.05 per diluted share for the same period a year earlier. Our net income for the quarter and nine months ended September 30, 2019 was positively impacted by growth in interest-earning assets, due to the acquisition of Skagit as well as organic growth, partially offset by increases in both interest expense and non-interest expense including $676,000 and $3.1 million of acquisition-related expenses, respectively.

Growth in average interest-earning assets, partially offset by increased funding liabilities, and costs produced increased net interest income. This resulted in increases in revenues in the quarter and nine months ended September 30, 2019 compared to the same periods a year earlier. The results for the current quarter and nine months ended September 30, 2019 included the operations acquired in the Skagit acquisition which closed in the fourth quarter of 2018. Credit costs remained low, while non-interest expenses increased in both periods compared to a year ago, reflecting acquisition-related expenses as well as additional expenses associated with the ongoing operations acquired in the Skagit acquisition. Net income for the current year was strong, reflecting progress on our strategic priorities and initiatives.

Our adjusted earnings, which excludes net gains or losses on sales of securities, changes in the valuation of financial instruments carried at fair value, acquisition-related expenses and related tax expenses or benefits, were $40.3 million, or $1.17 per diluted share, for the quarter ended September 30, 2019, compared to $38.6 million, or $1.19 per diluted share, for the quarter ended September 30, 2018. For the nine months ended September 30, 2019, our adjusted earnings were $115.3 million, or $3.31 per diluted share, compared with $97.1 million, or $3.00 per diluted share, for the same period a year earlier.

Net Interest Income. Net interest income increased by $7.5 million, or 7%, to $116.6 million for the quarter ended September 30, 2019, compared to $109.1 million for the same quarter one year earlier, as an increase of $1.24 billion in the average balance of interest-earning assets produced strong growth for this key source of revenue. The growth in the average balance of interest-earning assets reflects organic growth as well as the Skagit acquisition. Net interest margin was enhanced by the amortization of acquisition accounting discounts on purchased loans which is accreted into loan interest income. The net interest margin of 4.25% for the quarter ended September 30, 2019 was enhanced by six basis points as a result of acquisition accounting adjustments. This compares to a net interest margin of 4.48% for the quarter ended September 30, 2018, which included 12 basis points from acquisition accounting adjustments. The decrease in net interest margin compared to a year earlier

primarily reflects higher average interest-bearing liabilities balances and costs as well as lower yields on average interest-earning assets, partially offset by increases in average loan balances. The lower yields on average interest-earning assets compared to a year earlier was largely due to the impact of recent decreases to the targeted Fed Funds Rate on floating rate loan yields indexed to prime and LIBOR rates.

Net interest income before provision for loan losses for the nine months ended September 30, 2019 increased by $35.9 million, or 11%, to $349.4 million compared to $313.5 million for the same period one year earlier, as a result of a $1.28 billion increase in average interest-earning assets. The net interest margin decreased to 4.33% for the nine months ended September 30, 2019 compared to 4.41% for the same period in the prior year. The net interest margin included six basis points of accretion acquisition accounting adjustments for the nine months ended September 30, 2019 and nine basis points of accretion for the nine months ended September 30, 2018.

Interest Income. Interest income for the quarter ended September 30, 2019 was $131.4 million, compared to $117.6 million for the same quarter in the prior year, an increase of $13.8 million, or 12%. The increase in interest income occurred as a result of increases in the average balances of both loans and investment securities. The average balance of interest-earning assets was $10.90 billion for the quarter ended September 30, 2019, compared to $9.66 billion for the same period a year earlier. The average yield on interest-earning assets was 4.79% for quarter ended September 30, 2019, compared to 4.83% for the same quarter one year earlier. The decrease in yield between periods reflects an 11 basis point decrease in the average yield on loans, partially offset by a two basis point increase in the average yield on investment securities. Average loans receivable for the quarter ended September 30, 2019 increased $1.17 billion, or 15%, to $9.01 billion, compared to $7.84 billion for the same quarter in the prior year. Interest income on loans increased by $13.2 million, or 13%, to $118.1 million for the current quarter from $104.9 million for the quarter ended September 30, 2018, reflecting the impact of the previously mentioned increases in average loans receivable. The decrease in average loan yields reflects the impact of lower index interest rates during 2019. The acquisition accounting loan discount accretion and the related balance sheet impact added seven basis points to the current quarter loan yield, compared to 15 basis points for the same quarter one year earlier.

The combined average balance of mortgage-backed securities, other investment securities, daily interest-bearing deposits and FHLB stock (total investment securities or combined portfolio) increased to $1.89 billion for the quarter ended September 30, 2019 (excluding the effect of fair value adjustments), compared to $1.81 billion for the quarter ended September 30, 2018; and the interest and dividend income from those investments increased by $560,000 compared to the same quarter in the prior year. The average yield on the combined portfolio increased slightly to 2.81% for the quarter ended September 30, 2019, from 2.79% for the same quarter one year earlier.

Interest income for the nine months ended September 30, 2019 was $392.3 million, compared to $334.9 million for the same period in the prior year, an increase of $57.4 million, or 17%. As with quarterly results, the year-to-date results reflect a $1.28 billion, or 13%, increase in the average balance of interest-earning assets as well as a 15 basis point increase in the average yield on interest-earning assets.

Interest Expense. Interest expense for the quarter ended September 30, 2019 was $14.8 million, compared to $8.6 million for the same quarter in the prior year. The interest expense increase between periods reflects a $1.17 billion, or 13%, increase in the average balance of funding liabilities and a 20 basis point increase in the average cost of all funding liabilities.

Interest expense for the nine months ended September 30, 2019 was $42.9 million, compared to $21.4 million for the same period in the prior year. As with the quarterly results, the nine month results reflect a 1.20 billion or 13% increase in the average balance of funding liabilities and a 24 basis point increase in the average cost of all funding liabilities.

Deposit interest expense increased $4.5 million, or 82%, to $10.0 million for the quarter ended September 30, 2019, compared to $5.5 million for the same quarter in the prior year, primarily as a result of increases in both the average balance and the cost of interest-bearing deposits. Average deposit balances increased to $9.53 billion for the quarter ended September 30, 2019, from $8.60 billion for the quarter ended September 30, 2018, while the average rate paid on total deposits increased to 0.42% in the third quarter of 2019 from 0.25% for the quarter ended September 30, 2018, primarily reflecting increases in the cost of certificates of deposits as well as increases in the costs of money market and savings accounts partially offset by the increase in non-interest-bearing deposit balances. The cost of interest-bearing deposits increased by 27 basis points to 0.69% for the quarter ended September 30, 2019 compared to 0.42% in the same quarter a year earlier.

Deposit interest expense increased $14.5 million or 111%, to $27.7 million for the nine months ended September 30, 2019, compared to $13.1 million for the same period in the prior year. Average deposit balances increased to $9.39 billion for the nine months ended September 30, 2019, from $8.48 billion for the nine months ended September 30, 2018, while the average rate paid on deposits increased to 0.39% in the nine months ended September 30, 2019 from 0.21% in the nine months ended September 30, 2018. The cost of interest-bearing deposits increased by 31 basis points to 0.65% for the nine months ended September 30, 2019 compared to 0.34% in the same period a year earlier.

The increase in the cost of interest-bearing deposits between the periods was driven by market and competitive factors as a result of increases in the target Fed Funds Rate during 2018.

Average total borrowings were $738.7 million for the quarter ended September 30, 2019, compared to $501.0 million for the same quarter one year earlier and the average rate paid on total borrowings for the quarter ended September 30, 2019 increased to 2.58% from 2.42% for the same quarter one year earlier. The increase in the average total borrowings balance for the quarter ended September 30, 2019 from the same period a year earlier was primarily due to a $226.5 million increase in average FHLB advances, coupled with a 39 basis point increase in the cost of FHLB advances. Interest expense on total borrowings increased to $4.8 million for the quarter ended September 30, 2019 from $3.1 million for the quarter ended September 30, 2018.

Interest expense on total borrowings increased to $15.2 million for the nine months ended September 30, 2019 from $8.2 million for the nine months ended September 30, 2018. Average borrowings were $769.3 million for the nine months ended September 30, 2019, compared to $480.2 million for the same period a year earlier, while the average rate paid on borrowings for the nine months ended September 30, 2019 increased to 2.64% from 2.29% for the same period in 2018. The increase in the average balance was due to a $273.9 million increase in average FHLB advances, coupled with a $15.1 million increase in average other borrowings, reflecting our funding a larger portion of the balance sheet with FHLB advances.

Analysis of Net Interest Spread. The following tables present for the periods indicated our condensed average balance sheet information, together with interest income and yields earned on average interest-earning assets and interest expense and rates paid on average interest-bearing liabilities with additional comparative data on our operating performance (dollars in thousands):



	Three Months Ended September 30, 2019						Three Months Ended September 30, 2018
	Average Balance		Interest and Dividends		Yield/ Cost ⁽³⁾		Average Balance		Interest and Dividends		Yield/ Cost ⁽³⁾
Interest-earning assets:
Held for sale loans	$	154,529	$	1,607	4.13	%	$	72,249	$	895	4.91	%
Mortgage loans	6,872,426		89,948		5.19		6,117,299		81,130		5.26
Commercial/agricultural loans	1,809,397		23,750		5.21		1,511,077		20,545		5.39
Consumer and other loans	173,342		2,791		6.39		141,503		2,298		6.44
Total loans ⁽¹⁾	9,009,694		118,096		5.20		7,842,128		104,868		5.31
Mortgage-backed securities	1,358,448		9,415		2.75		1,266,862		8,915		2.79
Other securities	414,994		3,058		2.92		462,048		3,279		2.82
Interest-bearing deposits with banks	82,836		489		2.34		65,191		332		2.02
FHLB stock	29,400		378		5.10		20,345		254		4.95
Total investment securities	1,885,678		13,340		2.81		1,814,446		12,780		2.79
Total interest-earning assets	10,895,372		131,436		4.79		9,656,574		117,648		4.83
Non-interest-earning assets	1,078,621						799,083
Total assets	$	11,973,993					$	10,455,657
Deposits:
Interest-bearing checking accounts	$	1,194,633	621		0.21		$	1,006,010	270		0.11
Savings accounts	1,854,967		2,244		0.48		1,631,158		1,002		0.24
Money market accounts	1,542,264		2,944		0.76		1,381,943		1,011		0.29
Certificates of deposit	1,155,710		4,205		1.44		1,153,403		3,234		1.11
Total interest-bearing deposits	5,747,574		10,014		0.69		5,172,514		5,517		0.42
Non-interest-bearing deposits	3,786,143		—		—		3,424,587		—		—
Total deposits	9,533,717		10,014		0.42		8,597,101		5,517		0.25
Other interest-bearing liabilities:
FHLB advances	476,435		3,107		2.59		249,896		1,388		2.20
Other borrowings	122,035		82		0.27		110,868		60		0.21
Junior subordinated debentures	140,212		1,612		4.56		140,212		1,605		4.54
Total borrowings	738,682		4,801		2.58		500,976		3,053		2.42
Total funding liabilities	10,272,399		14,815		0.57		9,098,077		8,570		0.37
Other non-interest-bearing liabilities ⁽²⁾	163,809						85,485
Total liabilities	10,436,208						9,183,562
Shareholders’ equity	1,537,785						1,272,095
Total liabilities and shareholders’ equity	$	11,973,993					$	10,455,657
Net interest income/rate spread			$	116,621	4.22	%			$	109,078	4.46	%
Net interest margin					4.25	%					4.48	%
Additional Key Financial Ratios:
Return on average assets					1.31	%					1.43	%
Return on average equity					10.21						11.78
Average equity / average assets					12.84						12.17
Average interest-earning assets / average interest-bearing liabilities					167.98						170.21
Average interest-earning assets / average funding liabilities					106.06						106.14
Non-interest income / average assets					0.69						0.77
Non-interest expense / average assets					2.89						3.10
Efficiency ratio ⁽⁴⁾					63.50						63.04
Adjusted efficiency ratio ⁽⁵⁾					60.71						60.21


⁽¹⁾	Average balances include loans accounted for on a nonaccrual basis and loans 90 days or more past due. Amortization of net deferred loan fees/costs is included with interest on loans.


⁽²⁾	Average other non-interest-bearing liabilities include fair value adjustments related to junior subordinated debentures.


⁽³⁾	Yields and costs have not been adjusted for the effect of tax-exempt interest.


⁽⁴⁾	Non-interest expense divided by the total of net interest income (before provision for loan losses) and non-interest income.


⁽⁵⁾	Adjusted non-interest expense divided by adjusted revenue. These represent non-GAAP financial measures. See the non-GAAP reconciliation tables above under "Executive Overview—Non-GAAP Financial Measures."




	Nine months ended September 30, 2019						Nine months ended September 30, 2018
	Average Balance		Interest and Dividends		Yield/ Cost ⁽³⁾		Average Balance		Interest and Dividends		Yield/ Cost ⁽³⁾
Interest-earning assets:
Held for sale loans	$	100,273	$	3,295	4.39	%	$	81,244	$	2,871	4.72	%
Mortgage loans	6,835,861		268,232		5.25		6,058,535		231,703		5.11
Commercial/agricultural loans	1,761,222		70,486		5.35		1,482,377		57,348		5.17
Consumer and other loans	178,792		8,545		6.39		141,180		6,821		6.46
Total loans ⁽¹⁾	8,876,148		350,558		5.28		7,763,336		298,743		5.14
Mortgage-backed securities	1,368,081		29,716		2.90		1,196,282		25,145		2.81
Other securities	449,030		9,847		2.93		466,313		9,699		2.78
Interest-bearing deposits with banks	60,655		1,118		2.46		60,532		775		1.71
FHLB stock	30,679		1,031		4.49		19,722		529		3.59
Total investment securities	1,908,445		41,712		2.92		1,742,849		36,148		2.77
Total interest-earning assets	10,784,593		392,270		4.86		9,506,185		334,891		4.71
Non-interest-earning assets	1,053,180						802,915
Total assets	$	11,837,773					$	10,309,100
Deposits:
Interest-bearing checking accounts	$	1,175,521	1,660		0.19		$	1,020,457	797		0.10
Savings accounts	1,853,671		6,283		0.45		1,627,297		2,440		0.20
Money market accounts	1,510,293		7,851		0.70		1,414,513		2,469		0.23
Certificates of deposit	1,171,363		11,886		1.36		1,073,861		7,433		0.93
Total interest-bearing deposits	5,710,848		27,680		0.65		5,136,128		13,139		0.34
Non-interest-bearing deposits	3,682,047		—		—		3,344,312		—		—
Total deposits	9,392,895		27,680		0.39		8,480,440		13,139		0.21
Other interest-bearing liabilities:
FHLB advances	508,247		9,953		2.62		234,323		3,564		2.03
Other borrowings	120,847		209		0.23		105,700		179		0.23
Junior subordinated debentures	140,212		5,008		4.78		140,212		4,495		4.29
Total borrowings	769,306		15,170		2.64		480,235		8,238		2.29
Total funding liabilities	10,162,201		42,850		0.56		8,960,675		21,377		0.32
Other non-interest-bearing liabilities ⁽²⁾	155,771						75,821
Total liabilities	10,317,972						9,036,496
Shareholders’ equity	1,519,801						1,272,604
Total liabilities and shareholders’ equity	$	11,837,773					$	10,309,100
Net interest income/rate spread			$	349,420	4.30	%			$	313,514	4.39	%
Net interest margin					4.33	%					4.41	%
Additional Key Financial Ratios:
Return on average assets					1.27	%					1.28	%
Return on average equity					9.91						10.40
Average equity / average assets					12.84						12.34
Average interest-earning assets / average interest-bearing liabilities					166.42						169.26
Average interest-earning assets / average funding liabilities					106.12						106.09
Non-interest income / average assets					0.70						0.82
Non-interest expense / average assets					2.98						3.19
Efficiency ratio ⁽⁴⁾					64.23						65.33
Adjusted efficiency ratio ⁽⁵⁾					61.17						63.79


⁽¹⁾	Average balances include loans accounted for on a nonaccrual basis and loans 90 days or more past due. Amortization of net deferred loan fees/costs is included with interest on loans.


⁽²⁾	Average other non-interest-bearing liabilities include fair value adjustments related to junior subordinated debentures.


⁽³⁾	Yields and costs have not been adjusted for the effect of tax-exempt interest.


⁽⁴⁾	Non-interest expense divided by the total of net interest income (before provision for loan losses) and non-interest income.


⁽⁵⁾	Adjusted non-interest expense divided by adjusted revenue. These represent non-GAAP financial measures. See the non-GAAP reconciliation tables above under "Executive Overview—Non-GAAP Financial Measures."

Provision and Allowance for Loan Losses. The provision for loan losses reflects the amount required to maintain the allowance for loan losses at an appropriate level based upon management’s evaluation of the adequacy of general and specific loss reserves, trends in delinquencies and net charge-offs and current economic conditions. During the three months ended September 30, 2019, we recorded a provision for loans losses of $2.0 million, which is the same amount recorded during the third quarter a year ago. We continue to maintain an appropriate allowance for loan losses at September 30, 2019, reflecting growth in the related portfolio and current economic conditions.

In accordance with acquisition accounting, loans acquired from acquisitions were recorded at their estimated fair value, which resulted in a net discount to the loans contractual amounts, of which a portion reflects a discount for possible credit losses. Credit discounts are included in the determination of fair value and as a result no allowance for loan and lease losses is recorded for acquired loans at the acquisition date, although the discount recorded on the acquired loans is not reflected in the allowance for loan losses, or related allowance coverage ratios. The discount on acquired loans was $21.3 million at September 30, 2019 compared to $25.7 million at December 31, 2018 and $15.4 million at September 30, 2018.

Net loan charge-offs were $2.5 million for the quarter ended September 30, 2019 compared to net loan charge-offs of $612,000 for the same quarter in the prior year. For the first nine months of 2019 we recorded net charge-offs of $4.7 million compared to net recoveries of $235,000 for the same period in 2018. The allowance for loan losses was $97.8 million at September 30, 2019 compared to $96.5 million at December 31, 2018 and $95.3 million at September 30, 2018. Included in our allowance at September 30, 2019 was an unallocated portion of $4.4 million, which is based upon our evaluation of various factors that are not directly measured in the determination of the formula and specific allowances. The allowance for loan losses as a percentage of total loans (loans receivable excluding allowance for loan losses) was 1.11% at both September 30, 2019, and December 31, 2018 as compared to 1.22% at September 30, 2018.

We believe that the allowance for loan losses as of September 30, 2019 was adequate to absorb the known and inherent risks of loss in the loan portfolio at that date. We believe the estimates and assumptions used in our determination of the adequacy of the allowance are reasonable, although there can be no assurance that these estimates and assumptions will not be proven incorrect in the future, or that the actual amount of future provisions will not exceed the amount of past provisions or that any increased provisions that may be required will not adversely impact our financial condition and results of operations.

Non-interest Income. The following table presents the key components of non-interest income for the three and nine months ended September 30, 2019 and 2018 (dollars in thousands):



	Three months ended September 30,										Nine months ended September 30,
	2019			2018		Change Amount			Change Percent		2019			2018		Change Amount			Change Percent
Deposit fees and other service charges	$	10,331		$	12,255	$	(1,924	)	(15.7	)%	$	36,995		$	35,535	$	1,460		4.1	%
Mortgage banking operations	6,616			5,816		800			13.8		15,967			15,324		643			4.2
Bank owned life insurance	1,076			1,726		(650		)	(37.7	)	3,475			3,511		(36		)	(1.0	)
Miscellaneous	2,914			569		2,345			412.1		5,431			4,995		436			8.7
	20,937			20,366		571			2.8		61,868			59,365		2,503			4.2
Net (loss) gain on sale of securities	(2		)	—		(2		)	nm		(29		)	48		(77		)	(160.4	)
Net change in valuation of financial instruments carried at fair value	(69		)	45		(114		)	(253.3	)	(172		)	3,577		(3,749		)	(104.8	)
Total non-interest income	$	20,866		$	20,411	$	455		2.2		$	61,667		$	62,990	$	(1,323	)	(2.1	)

Non-interest income was $20.9 million for the quarter ended September 30, 2019, compared to $20.4 million for the same quarter in the prior year, and $61.7 million for the nine months ended September 30, 2019, compared to $63.0 million for the same period in the prior year. Our non-interest income for the quarter ended September 30, 2019 included a $69,000 net loss for fair value adjustments and a net loss of $2,000 on sales of securities. For the quarter ended September 30, 2018, fair value adjustments resulted in a net gain of $45,000. The net loss for fair value adjustments recognized for the quarter ended September 30, 2019 was due to a decrease in the value of certain securities in our held-for-trading portfolio. Our non-interest income for the nine months ended September 30, 2019 included a $172,000 net loss for fair value adjustments and a $29,000 loss on sale of securities. During the nine months ended September 30, 2018, fair value adjustments resulted in a net gain of $3.6 million and a $48,000 net gain on sale of securities. For a more detailed discussion of our fair value adjustments, please refer to Note 9 in the Selected Notes to the Consolidated Financial Statements in this Form 10-Q.

Deposit fees and other service charges decreased by $1.9 million, or 16%, for the quarter ended September 30, 2019 reflecting the impact of Banner becoming subject to the Durbin Amendment on July 1, 2019, which reduced the amount of interchange fees which can be charged for certain debit card transactions, and increased $1.5 million, or 4%, for the nine months ended September 30, 2019, compared to the same periods a year ago reflecting growth in the number of deposit accounts resulting in increased transaction activity, including deposit accounts from the Skagit acquisition, partially offset by the previously mentioned impacts of the Durbin Amendment. Mortgage banking revenues, including gains

on one- to four-family and multifamily loan sales and loan servicing fees, increased $800,000 for the quarter ended September 30, 2019 and increased $643,000 for the nine months ended September 30, 2019, compared to the same periods a year ago. Gains on multifamily loans in the current quarter resulted in income of $1.0 million for the quarter ended September 30, 2019, compared to $1.4 million the same period a year ago, and $1.5 million for the nine months ended September 30, 2019, compared to $2.3 million for the same period a year ago. Gains on one- to four-family loans in the current quarter resulted in income of $5.3 million for the quarter ended September 30, 2019, compared to $3.8 million in the same period a year ago, and $12.8 million for the nine months ended September 30, 2019, compared to $11.1 million for the same period a year ago. The higher mortgage banking revenue reflected an increase in residential mortgage held-for-sale loan production. Home purchase activity accounted for 56% of one- to four-family mortgage banking loan originations during the third quarter 2019 compared to 82% during the third quarter 2018. The increase in miscellaneous income for the quarter ended September 30, 2019 compared to the same period a year ago was a result of higher gains on the sales of Small Business Administration loans, an increase in interest rate swap income and a decline in losses related to the disposition of assets. Miscellaneous income for the nine months ended September 30, 2018 included $2.1 million of gains from the sale of our Poulsbo branch deposits and two former business locations.

Non-interest Expense. The following table represents key elements of non-interest expense for the three and nine months ended September 30, 2019 and 2018 (dollars in thousands):



	For the Three Months Ended September 30,											For the Nine Months Ended September 30,
	2019			2018			Change Amount			Change Percent		2019			2018			Change Amount			Change Percent
Salaries and employee benefits	$	59,090		$	48,930		$	10,160		20.8	%	$	169,359		$	150,491		$	18,868		12.5	%
Less capitalized loan origination costs	(7,889		)	(4,318		)	(3,571		)	82.7		(20,137		)	(13,062		)	(7,075		)	54.2
Occupancy and equipment	12,566			12,385			181			1.5		39,013			35,725			3,288			9.2
Information/computer data services	5,657			4,766			891			18.7		16,256			13,711			2,545			18.6
Payment and card processing expenses	4,330			3,748			582			15.5		12,355			11,179			1,176			10.5
Professional and legal expenses	2,704			3,010			(306		)	(10.2	)	7,474			11,276			(3,802		)	(33.7	)
Advertising and marketing	2,221			1,786			435			24.4		5,815			5,758			57			1.0
Deposit insurance (benefit)/expense	(1,604		)	991			(2,595		)	(261.9	)	1,232			3,353			(2,121		)	(63.3	)
State/municipal business and use taxes	1,011			902			109			12.1		2,963			2,430			533			21.9
REO operations	126			433			(307		)	(70.9	)	263			553			(290		)	(52.4	)
Amortization of core deposit intangibles	1,985			1,348			637			47.3		6,090			4,112			1,978			48.1
Miscellaneous	6,435			6,646			(211		)	(3.2	)	20,230			19,444			786			4.0
	86,632			80,627			6,005			7.4		260,913			244,970			15,943			6.5
Acquisition-related expenses	676			1,005			(329		)			3,125			1,005			2,120
Total non-interest expense	$	87,308		$	81,632		$	5,676		7.0	%	$	264,038		$	245,975		$	18,063		7.3	%

Non-interest expenses increased by $5.7 million, to $87.3 million for the quarter ended September 30, 2019, compared to $81.6 million for the quarter ended September 30, 2018. For the nine months ended September 30, 2019, non-interest expense increased by $18.1 million, to $264.0 million compared to $246.0 million for the same period last year. The increases in both periods were primarily due to increases in salaries and employee benefits and expenses related to the operations acquired in the Skagit acquisition partially offset by increases in capitalized loan origination costs and decreases in deposit insurance expense.

Salary and employee benefits expenses increased $10.2 million to $59.1 million for the quarter ended September 30, 2019, compared to $48.9 million for the quarter ended September 30, 2018, primarily reflecting additional staffing related to the operations acquired from the acquisition of Skagit on November 1, 2018, normal salary and wage adjustments and a $1.6 million expense recognized as a result of decreasing the discount rate the Company uses to calculate its liability associated with deferred compensation plans. For similar reasons salary and employee benefits expenses increased to $169.4 million for the nine months ended September 30, 2019, compared to $150.5 million for the nine months ended September 30, 2018. Capitalized loan origination costs increased $3.6 million for the quarter ended September 30, 2019, and $7.1 million for the nine months ended September 30, 2019, compared to the same periods in the prior year, reflecting the increase in held-for-sale loan originations and loan renewals as well as higher deferred costs on a per loan basis related to the annual update of our deferred loan cost models. Occupancy and equipment expense increased $181,000, to $12.6 million for the quarter ended September 30, 2019, and increased $3.3 million, to $39.0 million for the nine months ended September 30, 2019, compared to the same periods in the prior year, reflecting the operations acquired from the Skagit acquisition. Information data services expenses increased $891,000 for the quarter ended September 30, 2019, and $2.5 million for the nine months ended September 30, 2019, compared to the same periods in the prior year, reflecting incremental costs as the Company continued to grow. Professional and legal expenses decreased $306,000 for the quarter ended September 30, 2019, and $3.8 million for the nine months ended September 30, 2019, compared to the same periods in the prior year reflecting lower consulting costs as a result of completing the build

out of our risk management infrastructure. Deposit insurance expense for the three and nine months ended September 30, 2019 includes a credit of $2.7 million for previously paid deposit insurance premiums which resulted in a net deposit insurance benefit of $1.6 million for the quarter, which came as a result of the FDIC exceeding its stated Deposit Insurance Fund Reserve Ratio.

Income Taxes. For the quarter ended September 30, 2019, we recognized $8.6 million in income tax expense for an effective tax rate of 17.9%, which reflects our normal statutory tax rate reduced by a refund of state income taxes totaling $1.2 million as well as the effect of tax-exempt income, certain tax credits, and tax benefits related to restricted stock vesting. Our normal, expected statutory income tax rate is 23.7%, representing a blend of the statutory federal income tax rate of 21.0% and apportioned effects of the state income tax rates. For the quarter ended September 30, 2018, we recognized $8.1 million in income tax expense for an effective tax rate of 17.6%. For the nine months ended September 30, 2019, we recognized $28.4 million in tax expense for an effective rate of 20.2%, compared to $25.5 million in income tax expense for an effective rate of 20.5% for the nine months ended September 30, 2018. For more discussion on our income taxes, please refer to Note 10 in the Selected Notes to the Consolidated Financial Statements in this report on Form 10-Q.

Asset Quality

Maintaining a moderate risk profile by employing appropriate underwriting standards, avoiding excessive asset concentrations and aggressively managing troubled assets has been and will continue to be a primary focus for us. As a result, current asset quality metrics are at historically favorable levels and are unlikely to meaningfully improve. Our reserve levels are adequate and reflect current market conditions. In addition, our impairment analysis and charge-off actions reflect current appraisals and valuation estimates. We actively engage our borrowers to resolve problem assets and effectively manage REO as a result of foreclosures.

Non-Performing Assets: Non-performing assets decreased to $18.6 million, or 0.15% of total assets, at September 30, 2019, from $18.9 million, or 0.16% of total assets, at December 31, 2018, and increased compared to $16.7 million, or 0.16% of total assets, at September 30, 2018. Our allowance for loan losses was $97.8 million, or 536% of non-performing loans at September 30, 2019, compared to $96.5 million, or 616% of non-performing loans at December 31, 2018 and $95.3 million, or 603% of non-performing loans at September 30, 2018. Our level of non-performing loans and assets continues to be manageable. The primary components of the $18.6 million in non-performing assets were $15.8 million in nonaccrual loans, $2.5 million in loans more than 90 days delinquent and still accruing interest, and $343,000 in REO and other repossessed assets.

Loans are reported as restructured when we grant concessions to a borrower experiencing financial difficulties that we would not otherwise consider. As a result of these concessions, restructured loans or TDRs are impaired as the Banks will not collect all amounts due, both principal and interest, in accordance with the terms of the original loan agreement. If any restructured loan becomes delinquent or other matters call into question the borrower's ability to repay full interest and principal in accordance with the restructured terms, the restructured loan(s) would be reclassified as nonaccrual. At September 30, 2019, we had $6.7 million of restructured loans performing under their restructured repayment terms.

Loans acquired in merger transactions with deteriorated credit quality are accounted for as purchased credit-impaired pools. Typically this would include loans that were considered non-performing or restructured as of the acquisition date. Accordingly, subsequent to acquisition, loans included in the purchased credit-impaired pools are not reported as non-performing loans based upon their individual performance status, so the categories of nonaccrual, impaired and 90 days past due and accruing do not include any purchased credit-impaired loans. Purchased credit-impaired loans were $12.6 million at September 30, 2019, compared to $14.4 million at December 31, 2018 and $12.9 million at September 30, 2018.

The following table sets forth information with respect to our non-performing assets and restructured loans at the dates indicated (dollars in thousands):



	September 30, 2019			December 31, 2018			September 30, 2018
Nonaccrual Loans: ⁽¹⁾
Secured by real estate:
Commercial	$	5,092		$	4,088		$	3,728
Multifamily	87			—			—
Construction and land	1,318			3,188			2,095
One- to four-family	3,007			1,544			1,827
Commercial business	3,035			2,936			2,921
Agricultural business, including secured by farmland	757			1,751			1,645
Consumer	2,473			1,241			1,703
	15,769			14,748			13,919
Loans more than 90 days delinquent, still on accrual:
Secured by real estate:
Commercial	89			—			428
Construction and land	1,141			—			—
One- to four-family	652			658			1,076
Commercial business	358			1			87
Consumer	247			247			296
	2,487			906			1,887
Total non-performing loans	18,256			15,654			15,806
REO, net ⁽²⁾	228			2,611			364
Other repossessed assets held for sale	115			592			573
Total non-performing assets	$	18,599		$	18,857		$	16,743

Total non-performing loans to loans before allowance for loan losses	0.21		%	0.18		%	0.20		%
Total non-performing loans to total assets	0.15		%	0.13		%	0.15		%
Total non-performing assets to total assets	0.15		%	0.16		%	0.16		%

Restructured loans performing under their restructured terms ⁽³⁾	$	6,721		$	13,422		$	13,328

Loans 30-89 days past due and on accrual ⁽⁴⁾	$	11,496		$	25,108		$	8,688


⁽¹⁾	Includes $1.5 million of nonaccrual restructured loans at September 30, 2019.

⁽²⁾

Real estate acquired by us as a result of foreclosure or by deed-in-lieu of foreclosure is classified as REO until it is sold. When property is acquired, it is recorded at the estimated fair value of the property, less expected selling costs. Subsequent to foreclosure, the property is carried at the lower of the foreclosed amount or net realizable value. Upon receipt of a new appraisal and market analysis, the carrying value is written down through the establishment of a specific reserve to the anticipated sales price, less selling and holding costs.


⁽³⁾	These loans were performing under their restructured repayment terms at the dates indicated.

⁽⁴⁾Includes purchased credit-impaired loans.

In addition to the non-performing loans and purchased credit-impaired loans as of September 30, 2019, we had other classified loans with an aggregate outstanding balance of $86.3 million that are not on nonaccrual status, with respect to which known information concerning possible credit problems with the borrowers or the cash flows of the properties securing the respective loans has caused management to be concerned about the ability of the borrowers to comply with present loan repayment terms. This may result in the future inclusion of such loans in the nonaccrual loan category.

REO: REO was $228,000 at September 30, 2019 and compared with $2.6 million at December 31, 2018. The following table shows REO activity for the three and nine months ended September 30, 2019 and September 30, 2018 (in thousands):



	Three Months Ended						Nine months ended
	Sep 30, 2019			Sep 30, 2018			Sep 30, 2019			Sep 30, 2018
Balance, beginning of period	$	2,513		$	473		$	2,611		$	360
Additions from loan foreclosures	48			—			109			502
Proceeds from dispositions of REO	(2,333		)	(90		)	(2,483		)	(385		)
Gain (loss) on sale of REO	—			8			(9		)	74
Valuation adjustments in the period	—			(27		)	—			(187		)
Balance, end of period	$	228		$	364		$	228		$	364

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. The individual carrying values of these assets are reviewed for impairment at least annually and any additional impairment charges are expensed to operations.

Liquidity and Capital Resources

Our primary sources of funds are deposits, borrowings, proceeds from loan principal and interest payments and sales of loans, and the maturity of and interest income on mortgage-backed and investment securities. While maturities and scheduled amortization of loans and mortgage-backed securities are a predictable source of funds, deposit flows and mortgage prepayments are greatly influenced by market interest rates, economic conditions, competition and our pricing strategies.

Our primary investing activity is the origination and purchase of loans and, in certain periods, the purchase of securities. During the nine months ended September 30, 2019 and September 30, 2018, our loan originations, including originations of loans held for sale, exceeded our loan repayments by $915.0 million and $855.9 million, respectively. There were $8.6 million of loan purchases during the nine months ended September 30, 2019 compared to loan purchases of $1.7 million during the nine months ended September 30, 2018. This activity was funded primarily by principal repayment and maturities of securities, increased core deposits and the sale of loans in 2019. During the nine months ended September 30, 2019 and September 30, 2018, we received proceeds of $710.5 million and $623.0 million, respectively, from the sale of loans. Securities purchased during the nine months ended September 30, 2019 and September 30, 2018 totaled $161.2 million and $676.9 million, respectively, and securities repayments, maturities and sales in those periods were $297.5 million and $139.8 million, respectively.

Our primary financing activity is gathering deposits. Total deposits increased by $251.7 million during the first nine months of 2019, as a $353.4 million increase in core deposits was partially offset by a $101.7 million decrease in certificate of deposits, primarily brokered deposits. Certificates of deposit are generally more vulnerable to competition and more price sensitive than other retail deposits and our pricing of those deposits varies significantly based upon our liquidity management strategies at any point in time. At September 30, 2019, certificates of deposit amounted to $1.22 billion, or 13% of our total deposits, including $934.5 million which were scheduled to mature within one year. While no assurance can be given as to future periods, historically, we have been able to retain a significant amount of our certificates of deposit as they mature.

FHLB advances decreased $158.2 million to $382.0 million during the first nine months of 2019. Other borrowings increased $1.0 million to $120.0 million at September 30, 2019 from $119.0 million at December 31, 2018.

We must maintain an adequate level of liquidity to ensure the availability of sufficient funds to accommodate deposit withdrawals, to support loan growth, to satisfy financial commitments and to take advantage of investment opportunities. During the nine months ended September 30, 2019 and 2018, we used our sources of funds primarily to fund loan commitments and purchase securities. At September 30, 2019, we had outstanding loan commitments totaling $3.16 billion, primarily relating to undisbursed loans in process and unused credit lines. While representing potential growth in the loan portfolio and lending activities, this level of commitments is proportionally consistent with our historical experience and does not represent a departure from normal operations.

We generally maintain sufficient cash and readily marketable securities to meet short-term liquidity needs; however, our primary liquidity management practice to supplement deposits is to increase or decrease short-term borrowings. We maintain credit facilities with the FHLB-Des Moines, which at September 30, 2019 provided for advances that in the aggregate would equal the lesser of 45% of Banner Bank’s assets or adjusted qualifying collateral (subject to a sufficient level of ownership of FHLB stock), up to a total possible credit line of $5.20 billion, and 45% of Islanders Bank’s assets or adjusted qualifying collateral, up to a total possible credit line of $126.1 million. Advances under these credit facilities totaled $382.0 million at September 30, 2019. In addition, Banner Bank has been approved for participation in the Borrower-In-Custody (BIC) program by the Federal Reserve Bank of San Francisco (FRBSF). Under this program Banner Bank had available lines of credit of approximately $1.09 billion as of September 30, 2019, subject to certain collateral requirements, namely the collateral type and risk rating of eligible pledged loans. We had no funds borrowed from the FRBSF at September 30, 2019 or December 31, 2018. Management believes it has adequate resources and funding potential to meet our foreseeable liquidity requirements.

Banner Corporation is a separate legal entity from the Banks and, on a stand-alone level, must provide for its own liquidity and pay its own operating expenses and cash dividends. Banner Corporation's primary sources of funds consist of capital raised through dividends or capital distributions from the Banks, although there are regulatory restrictions on the ability of the Banks to pay dividends. At September 30, 2019, the Company on an unconsolidated basis had liquid assets of $40.6 million.

As noted below, Banner Corporation and its subsidiary banks continued to maintain capital levels significantly in excess of the requirements to be categorized as “Well-Capitalized” under applicable regulatory standards. During the nine months ended September 30, 2019, total shareholders' equity increased $52.3 million, to $1.53 billion. At September 30, 2019, tangible common shareholders’ equity, which excludes goodwill and other intangible assets, was $1.17 billion, or 9.93% of tangible assets. See the discussion and reconciliation of non-GAAP financial information in the Executive Overview section of Management’s Discussion and Analysis of Financial Condition and Results of Operation in this Form 10-Q for more detailed information with respect to tangible common shareholders’ equity. Also, see the capital requirements discussion and table below with respect to our regulatory capital positions.

Capital Requirements

Banner Corporation 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 (BHCA), and the regulations of the Federal Reserve. Banner Bank and Islanders Bank, as state-chartered, federally insured commercial banks, are subject to the capital requirements established by the FDIC.

The capital adequacy requirements are quantitative measures established by regulation that require Banner Corporation and the Banks to maintain minimum amounts and ratios of capital. The Federal Reserve requires Banner Corporation to maintain capital adequacy that generally parallels the FDIC requirements. The FDIC requires the Banks to maintain minimum ratios of Total Capital, Tier 1 Capital, and Common Equity Tier 1 Capital to risk-weighted assets as well as Tier 1 Leverage Capital to average assets. In addition to the minimum capital ratios, both Banner Corporation and the Banks are required to maintain a capital conservation buffer consisting of additional Common Equity Tier 1 Capital of more than 2.5% above the required minimum levels in order to avoid limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses based on percentages of eligible retained income that could be utilized for such actions. At September 30, 2019, Banner Corporation and the Banks each exceeded all regulatory capital requirements. (See Item 1, “Business–Regulation,” and Note 16 of the Notes to the Consolidated Financial Statements included in the 2018 Form 10-K for additional information regarding regulatory capital requirements for Banner Corporation and the Banks.)

The actual regulatory capital ratios calculated for Banner Corporation, Banner Bank and Islanders Bank as of September 30, 2019, along with the minimum capital amounts and ratios, were as follows (dollars in thousands):



	Actual				Minimum to be Categorized as "Adequately Capitalized"				Minimum to be Categorized as “Well-Capitalized”
	Amount		Ratio		Amount		Ratio		Amount		Amount
Banner Corporation—consolidated
Total capital to risk-weighted assets	$	1,337,087	13.20	%	$	810,546	8.00	%	$	1,013,183	10.00	%
Tier 1 capital to risk-weighted assets	1,236,687		12.21		607,910		6.00		607,910		6.00
Tier 1 leverage capital to average assets	1,236,687		10.70		462,227		4.00		n/a		n/a
Common equity tier 1 capital	1,100,687		10.86		455,932		4.50		n/a		n/a
Banner Bank
Total capital to risk-weighted assets	1,248,269		12.56		795,040		8.00		993,800		10.00
Tier 1 capital to risk-weighted assets	1,150,328		11.58		596,280		6.00		795,040		8.00
Tier 1 leverage capital to average assets	1,150,328		10.21		450,496		4.00		563,120		5.00
Common equity tier 1 capital	1,150,328		11.58		447,210		4.50		645,970		6.50
Islanders Bank
Total capital to risk-weighted assets	36,470		18.97		15,379		8.00		19,223		10.00
Tier 1 capital to risk-weighted assets	34,066		17.72		11,534		6.00		15,379		8.00
Tier 1 leverage capital to average assets	34,066		11.68		11,662		4.00		14,577		5.00
Common equity tier 1 capital	34,066		17.72		8,651		4.50		12,495		6.50

ITEM 3 – Quantitative and Qualitative Disclosures About Market Risk

Market Risk and Asset/Liability Management

Our financial condition and operations are influenced significantly by general economic conditions, including the absolute level of interest rates as well as changes in interest rates and the slope of the yield curve. Our profitability is dependent to a large extent on our net interest income, which is the difference between the interest received from our interest-earning assets and the interest expense incurred on our interest-bearing liabilities.

Our activities, like all financial institutions, inherently involve the assumption of interest rate risk. Interest rate risk is the risk that changes in market interest rates will have an adverse impact on the institution’s earnings and underlying economic value. Interest rate risk is determined by the maturity and repricing characteristics of an institution’s assets, liabilities and off-balance-sheet contracts. Interest rate risk is measured by the variability of financial performance and economic value resulting from changes in interest rates. Interest rate risk is the primary market risk affecting our financial performance.

The greatest source of interest rate risk to us results from the mismatch of maturities or repricing intervals for rate sensitive assets, liabilities and off-balance-sheet contracts. This mismatch or gap is generally characterized by a substantially shorter maturity structure for interest-bearing liabilities than interest-earning assets, although our floating-rate assets tend to be more immediately responsive to changes in market rates than most deposit liabilities. Additional interest rate risk results from mismatched repricing indices and formula (basis risk and yield curve risk), and product caps and floors and early repayment or withdrawal provisions (option risk), which may be contractual or market driven, that are generally more favorable to customers than to us. An exception to this generalization is the beneficial effect of interest rate floors on a portion of our performing floating-rate loans, which help us maintain higher loan yields in periods when market interest rates decline significantly. The Company actively manages its exposure to interest rate risk through on-going adjustments to the mix of interest-earning assets and funding sources that affect the repricing speeds of loans, investments, interest-bearing deposits and borrowings.

The principal objectives of asset/liability management are: to evaluate the interest rate risk exposure; to determine the level of risk appropriate given our operating environment, business plan strategies, performance objectives, capital and liquidity constraints, and asset and liability allocation alternatives; and to manage our interest rate risk consistent with regulatory guidelines and policies approved by the Board of Directors. Through such management, we seek to reduce the vulnerability of our earnings and capital position to changes in the level of interest rates. Our actions in this regard are taken under the guidance of the Asset/Liability Management Committee, which is comprised of members of our senior management. The Committee closely monitors our interest sensitivity exposure, asset and liability allocation decisions, liquidity and capital positions, and local and national economic conditions and attempts to structure the loan and investment portfolios and funding sources to maximize earnings within acceptable risk tolerances.

Sensitivity Analysis

Our primary monitoring tool for assessing interest rate risk is asset/liability simulation modeling, which is designed to capture the dynamics of balance sheet, interest rate and spread movements and to quantify variations in net interest income resulting from those movements under different rate environments. The sensitivity of net interest income to changes in the modeled interest rate environments provides a measurement of interest rate risk. We also utilize economic value analysis, which addresses changes in estimated net economic value of equity arising from changes in the level of interest rates. The net economic value of equity is estimated by separately valuing our assets and liabilities under varying interest rate environments. The extent to which assets gain or lose value in relation to the gains or losses of liability values under the various interest rate assumptions determines the sensitivity of net economic value to changes in interest rates and provides an additional measure of interest rate risk.

The interest rate sensitivity analysis performed by us incorporates beginning-of-the-period rate, balance and maturity data, using various levels of aggregation of that data, as well as certain assumptions concerning the maturity, repricing, amortization and prepayment characteristics of loans and other interest-earning assets and the repricing and withdrawal of deposits and other interest-bearing liabilities into an asset/liability computer simulation model. We update and prepare simulation modeling at least quarterly for review by senior management and oversight by the directors. We believe the data and assumptions are realistic representations of our portfolio and possible outcomes under the various interest rate scenarios. Nonetheless, the interest rate sensitivity of our net interest income and net economic value of equity could vary substantially if different assumptions were used or if actual experience differs from the assumptions used.

The following table sets forth, as of September 30, 2019, the estimated changes in our net interest income over one-year and two-year time horizons and the estimated changes in economic value of equity based on the indicated interest rate environments (dollars in thousands):



	Estimated Increase (Decrease) in
Change (in Basis Points) in Interest Rates ⁽¹⁾	Net Interest Income Next 12 Months					Net Interest Income Next 24 Months					Economic Value of Equity
+400	$	26,993		5.9	%	$	83,459		9.2	%	$	(25,450	)	(1.1	)%
+300	28,389			6.2		82,805			9.2		51,463			2.3
+200	25,160			5.5		71,009			7.9		97,411			4.4
+100	16,619			3.7		45,666			5.1		93,055			4.2
0	—			—		—			—		—			—
-50	(11,784		)	(2.6	)	(32,371		)	(3.6	)	(89,258		)	(4.0	)
-100	(26,086		)	(5.7	)	(70,983		)	(7.9	)	(203,501		)	(9.1	)


⁽¹⁾	Assumes an instantaneous and sustained uniform change in market interest rates at all maturities; however, no rates are allowed to go below zero. The targeted Federal Funds Rate was between 1.75% and 2.00% at September 30, 2019.

Another (although less reliable) monitoring tool for assessing interest rate risk is gap analysis. The matching of the repricing characteristics of assets and liabilities may be analyzed by examining the extent to which assets and liabilities are interest sensitive and by monitoring an institution’s interest sensitivity gap. An asset or liability is said to be interest sensitive within a specific time period if it will mature or reprice within that time period. The interest rate sensitivity gap is defined as the difference between the amount of interest-earning assets anticipated, based upon certain assumptions, to mature or reprice within a specific time period and the amount of interest-bearing liabilities anticipated to mature or reprice, based upon certain assumptions, within that same time period. A gap is considered positive when the amount of interest-sensitive assets exceeds the amount of interest-sensitive liabilities. A gap is considered negative when the amount of interest-sensitive liabilities exceeds the amount of interest-sensitive assets. Generally, during a period of rising rates, a negative gap would tend to adversely affect net interest income while a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would tend to result in an increase in net interest income while a positive gap would tend to adversely affect net interest income.

Certain shortcomings are inherent in gap analysis. For example, although certain assets and liabilities may have similar maturities or periods of repricing, they may react in different degrees to changes in market rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market rates, while interest rates on other types may lag behind changes in market rates. Additionally, certain assets, such as adjustable-rate mortgage loans, have features that restrict changes in interest rates on a short-term basis and over the life of the asset. Further, in the event of a change in interest rates, prepayment and early withdrawal levels would likely deviate significantly from those assumed in calculating the table. Finally, the ability of some borrowers to service their debt may decrease in the event of a severe change in market rates.

The following table presents our interest sensitivity gap between interest-earning assets and interest-bearing liabilities at September 30, 2019 (dollars in thousands). The table sets forth the amounts of interest-earning assets and interest-bearing liabilities which are anticipated by us, based upon certain assumptions, to reprice or mature in each of the future periods shown. At September 30, 2019, total interest-earning assets maturing or repricing within one year exceeded total interest-bearing liabilities maturing or repricing in the same time period by $3.19 billion, representing a one-year cumulative gap to total assets ratio of 26.37%. Management is aware of the sources of interest rate risk and in its opinion actively monitors and manages it to the extent possible. The interest rate risk indicators and interest sensitivity gaps as of September 30, 2019 are within our internal policy guidelines and management considers that our current level of interest rate risk is reasonable.



	Within 6 Months			After 6 Months Within 1 Year			After 1 Year Within 3 Years			After 3 Years Within 5 Years			After 5 Years Within 10 Years			Over 10 Years			Total
Interest-earning assets: ⁽¹⁾
Construction loans	$	785,640		$	24,391		$	96,672		$	17,073		$	6,431		$	994		$	931,201
Fixed-rate mortgage loans	414,178			224,474			648,979			412,145			346,783			4,832			2,051,391
Adjustable-rate mortgage loans	1,164,271			455,640			1,227,623			620,001			129,417			—			3,596,952
Fixed-rate mortgage-backed securities	108,793			108,498			303,200			191,838			382,329			128,054			1,222,712
Adjustable-rate mortgage-backed securities	131,533			7,683			33,072			23,898			5,646			—			201,832
Fixed-rate commercial/agricultural loans	146,314			108,798			240,509			82,347			72,183			22,844			672,995
Adjustable-rate commercial/agricultural loans	958,958			31,070			78,963			44,191			21,035			—			1,134,217
Consumer and other loans	457,502			88,519			82,498			17,091			14,631			40,589			700,830
Investment securities and interest-earning deposits	119,305			11,455			48,560			63,054			74,831			86,267			403,472
Total rate sensitive assets	4,286,494			1,060,528			2,760,076			1,471,638			1,053,286			283,580			10,915,602
Interest-bearing liabilities: ⁽²⁾
Regular savings	193,544			131,511			424,581			300,900			430,832			382,472			1,863,840
Interest checking accounts	95,402			49,901			177,849			147,744			269,537			469,394			1,209,827
Money market deposit accounts	156,104			103,591			342,623			251,319			373,359			324,310			1,551,306
Certificates of deposit	568,343			366,459			258,331			23,517			2,252			—			1,218,902
FHLB advances	182,000			50,000			150,000			—			—			—			382,000
Junior subordinated debentures	140,212			—			—			—			—			—			140,212
Retail repurchase agreements	120,014			—			—			—			—			—			120,014
Total rate sensitive liabilities	1,455,619			701,462			1,353,384			723,480			1,075,980			1,176,176			6,486,101
Excess (deficiency) of interest-sensitive assets over interest-sensitive liabilities	$	2,830,875		$	359,066		$	1,406,692		$	748,158		$	(22,694	)	$	(892,596	)	$	4,429,501
Cumulative excess of interest-sensitive assets	$	2,830,875		$	3,189,941		$	4,596,633		$	5,344,791		$	5,322,097		$	4,429,501		$	4,429,501
Cumulative ratio of interest-earning assets to interest-bearing liabilities	294.48		%	247.88		%	230.94		%	226.24		%	200.23		%	168.29		%	168.29		%
Interest sensitivity gap to total assets	23.40		%	2.97		%	11.63		%	6.18		%	(0.19		)%	(7.38		)%	36.61		%
Ratio of cumulative gap to total assets	23.40		%	26.37		%	38.00		%	44.18		%	43.99		%	36.61		%	36.61		%

(Footnotes on following page)

Footnotes for Table of Interest Sensitivity Gap

⁽¹⁾

Adjustable-rate assets are included in the period in which interest rates are next scheduled to adjust rather than in the period in which they are due to mature, and fixed-rate assets are included in the period in which they are scheduled to be repaid based upon scheduled amortization, in each case adjusted to take into account estimated prepayments. Mortgage loans and other loans are not reduced for allowances for loan losses and non-performing loans. Mortgage loans, mortgage-backed securities, other loans and investment securities are not adjusted for deferred fees, unamortized acquisition premiums and discounts.

⁽²⁾

Adjustable-rate liabilities are included in the period in which interest rates are next scheduled to adjust rather than in the period they are due to mature. Although regular savings, demand, interest checking, and money market deposit accounts are subject to immediate withdrawal, based on historical experience management considers a substantial amount of such accounts to be core deposits having significantly longer maturities. For the purpose of the gap analysis, these accounts have been assigned decay rates to reflect their longer effective maturities. If all of these accounts had been assumed to be short-term, the one-year cumulative gap of interest-sensitive assets would have been $(705,000), or (5.83)% of total assets at September 30, 2019. Interest-bearing liabilities for this table exclude certain non-interest-bearing deposits which are included in the average balance calculations in the table contained in Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Comparison of Results of Operations for the Three and Nine Months Ended September 30, 2019 and 2018” of this report on Form 10-Q.

ITEM 4 – Controls and Procedures

The management of Banner Corporation is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rule 13a-15(f) of the Securities Exchange Act of 1934 (Exchange Act). A control procedure, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that its objectives are met. Also, 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. Additionally, in designing disclosure controls and procedures, our management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controls and procedures 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. As a result of these inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Further, projections of any evaluation of effectiveness to future periods are subject to risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

(a)

Evaluation of Disclosure Controls and Procedures: An evaluation of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act) was carried out under the supervision and with the participation of our Chief Executive Officer, Chief Financial Officer and several other members of our senior management as of the end of the period covered by this report. Based on their evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of September 30, 2019, our disclosure controls and procedures were effective in ensuring that the information required to be disclosed by us in the reports it files or submits under the Exchange Act is (i) accumulated and communicated to our management (including the Chief Executive Officer and Chief Financial Officer) in a timely manner, and (ii) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.


(b)	Changes in Internal Controls Over Financial Reporting: In the quarter ended September 30, 2019, there was no change in our internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II – OTHER INFORMATION

ITEM 1 – Legal Proceedings

In the normal course of business, we have various legal proceedings and other contingent matters outstanding. These proceedings and the associated legal claims are often contested and the outcome of individual matters is not always predictable. These claims and counter claims typically arise during the course of collection efforts on problem loans or with respect to actions to enforce liens on properties in which we hold a security interest, although we also periodically are subject to claims related to employment matters. We are not a party to any pending legal proceedings that management believes would have a material adverse effect on our financial condition or operations.

ITEM 1A – Risk Factors

There have been no material changes in the risk factors previously disclosed in Part 1, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2018.

ITEM 2 – Unregistered Sales of Equity Securities and Use of Proceeds

(a) Not applicable.

(b) Not applicable.

(c) The following table provides information about repurchases of common stock by the Company during the quarter ended September 30, 2019:



Period	Total Number of Common Shares Purchased	Average Price Paid per Common Share		Total Number of Shares Purchased as Part of Publicly Announced authorization	Maximum Number of Remaining Shares that May be Purchased as Part of Publicly Announced Authorization
July 1, 2019 - July 31, 2019	291	$	56.85	—	1,157,637
August 1, 2019 - August 31, 2019	212,085	54.08		212,028	945,609
September 1, 2019 - September 30, 2019	188,065	55.23		187,972	757,637
Total for quarter	400,441	—		400,000	757,637

Employees surrendered 441 shares to satisfy tax withholding obligations upon the vesting of restricted stock grants during the three months ended September 30, 2019.

On March 27, 2019, the Company announced that its Board of Directors had renewed its authorization to repurchase up to 5% of the Company's common stock, or 1,757,637 of the Company's outstanding shares. Under the authorization, shares may be repurchased by the Company in open market purchases. The extent to which the Company repurchases its shares and the timing of such repurchases will depend upon market conditions and other corporate considerations. During the quarter ended September 30, 2019, the Company repurchased 400,000 shares under the repurchase authorization, leaving 757,637 available for future repurchase.

ITEM 3 – Defaults upon Senior Securities

Not Applicable.

ITEM 4 – Mine Safety Disclosures

Not Applicable.

ITEM 5 – Other Information

Not Applicable.

ITEM 6 – Exhibits



Exhibit	Index of Exhibits

2{a}	Agreement and Plan of Merger, dated as of July 25, 2018, by and between Banner Corporation and Skagit Bancorp, Inc. (incorporated herein by reference to Exhibit 2.1 to the Registrant's Current Report on Form 8-K filed with the SEC on July 27, 2018 (File No. 000-26584)).

3{a}	Amended and Restated Articles of Incorporation of Registrant [incorporated by reference to the Registrant's Current Report on Form 8-K filed on April 29, 2010 (File No. 000-26584)].

3{b}	Articles of Amendment of Registrant (incorporated herein by reference to Exhibit 3.1 to the Registrant's Current Report on Form 8-K filed with the SEC on June 1, 2011 (File No. 000-26584)).

3{c}	Articles of Amendment to Amended and Restated Articles of Incorporation of Registrant for non-voting common stock [incorporated by reference to the Registrant's Current Report on Form 8-K filed on March 18, 2015 (File No. 000-26584)]

3{d}	Amended and Restated Bylaws of Registrant [incorporated by reference to Exhibit 3.2 to the Registrant's Current Report on Form 8-K filed on December 20, 2016 (File No. 000-26584)].

10{a}	Executive Salary Continuation Agreement with Gary L. Sirmon [incorporated by reference to exhibits filed with the Annual Report on Form 10-K for the year ended March 31, 1996 (File No. 000-26584)].

10{b}	Amended and Restated Employment Agreement, with Mark J. Grescovich [incorporated by reference to Exhibit 10.1 to the Current Report on Form 8-K filed on June 4, 2013 (File No. 000-26584].

10{c}	Form of Supplemental Executive Retirement Program Agreement with Gary Sirmon, Michael K. Larsen, Lloyd W. Baker, Cynthia D. Purcell and Richard B. Barton [incorporated by reference to exhibits filed with the Annual Report on Form 10-K for the year ended December 31, 2001 and the exhibits filed with the Form 8-K on May 6, 2008 (File No. 000-26584)].

10{d}	Form of Employment Contract entered into with Lloyd W. Baker, Cynthia D. Purcell, Richard B. Barton and Douglas M. Bennett [incorporated by reference to exhibits filed with the Form 8-K on June 25, 2014 (File No. 000-26584)].

10{e}	Long-Term Incentive Plan and Form of Repricing Agreement [incorporated by reference to the exhibits filed with the Form 8-K on May 6, 2008 (File No. 000-26584)].

10{f}	2005 Executive Officer and Director Stock Account Deferred Compensation Plan [incorporated by reference to exhibits filed with the Annual Report on Form 10-K for the year ended December 31, 2008 (File No. 000-26584)].

10{g}	Entry into an Indemnification Agreement with each of the Registrant's Directors [incorporated by reference to exhibits filed with the Form 8-K on January 29, 2010 (File No. 000-26584)].

10{h}	2012 Restricted Stock and Incentive Bonus Plan [incorporated by reference to Appendix B to the Registrant's Definitive Proxy Statement on Schedule 14A filed on March 19, 2013 (File No. 000-26584)].

10{i}	Form of Performance-Based Restricted Stock Award Agreement [incorporated by reference to Exhibit 10.1 included in the Registrant's Current Report on Form 8-K filed on June 4, 2013 (File No. 000-26584)].

10{j}	Form of Time-Based Restricted Stock Award Agreement [incorporated by reference to Exhibit 10.1 included in the Registrant's Current Report on Form 8-K filed on June 4, 2013 (File No. 000-26584)].

10{k}	2014 Omnibus Incentive Plan [incorporated by reference as Appendix C to the Registrant's Definitive Proxy Statement on Schedule 14A filed on March 24, 2014 (File No. 000-26584)] and amendments [incorporated by reference to the Form 8-K filed on March 25, 2015 (File No. 000-26584)].

10{l}	Forms of Equity-Based Award Agreements: Incentive Stock Option Award Agreement, Non-Qualified Stock Option Award Agreement, Restricted Stock Award Agreement, Restricted Stock Unit Award Agreement, Stock Appreciation Right Award Agreement, and Performance Unit Award Agreement [incorporated by reference to Exhibits 10.2 - 10.7 included in the Registration Statement on Form S-8 dated May 9, 2014 (File No. 333-195835)].

10{m}	2018 Omnibus Incentive Plan [incorporated by reference as Appendix D to the Registrant's Definitive Proxy Statement on Schedule 14A filed on March 23, 2018 (File No. 000-26584)]



Exhibit	Index of Exhibits
10{n}	Forms of Equity-Based Award Agreements: Incentive Stock Option Award Agreement, Non-Qualified Stock Option Award Agreement under the Banner Corporation 2018 Omnibus Incentive Plan; Director Restricted Stock Award Agreement; Director Restricted Stock Unit Award Agreement; Employee Time-based Restricted Stock Unit Award Agreement; Employee performance-based Restricted Stock Unit Award Agreement; Stock Appreciation Right Award Agreement; and Performance Unit Award Agreement [incorporated by reference to Exhibits 10.2 - 10.9 included in the Registration Statement on Form S-8 dated May 4, 2018 (File No. 333-224693)]

31.1	Certification of Chief Executive Officer pursuant to the Securities Exchange Act Rules 13a-14(a) and 15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2	Certification of Chief Financial Officer pursuant to the Securities Exchange Act Rules 13a-14(a) and 15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32	Certificate of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101.INS	Inline XBRL Instance Document - The instance document does not appear in the interactive data file because its XBRL tags are embedded within the XBRL document

101.SCH	Inline XBRL Taxonomy Extension Schema Document

101.CAL	Inline XBRL Taxonomy Extension Calculation Linkbase Document

101.DEF	Inline XBRL Taxonomy Extension Definition Linkbase Document

101.LAB	Inline XBRL Taxonomy Extension Label Linkbase Document

101.PRE	Inline XBRL Taxonomy Extension Presentation Linkbase Document

104	The cover page from the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 2019, formatted in Inline XBRL (included in Exhibit 101)

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.



	Banner Corporation

November 1, 2019	/s/ Mark J. Grescovich
	Mark J. Grescovich
	President and Chief Executive Officer (Principal Executive Officer)

November 1, 2019	/s/ Peter J. Conner
	Peter J. Conner
	Executive Vice President, Treasurer and Chief Financial Officer (Principal Financial and Accounting Officer)