FS Bancorp Inc

FS BANCORP, INC. AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(Table Dollar Amounts in Thousands, Except Per Share Amounts)

NOTE 1 –** BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

Nature of Operations – FS Bancorp, Inc. (the “Company”) was incorporated in* September**2011* as the holding company for1st Security Bank of Washington (the “Bank” or*“1st* Security Bank”) in connection with the Bank’s conversion from the mutual to stock form of ownership which was completed on* July 9, 2012.The Bank is a community-based savings bank with 27 full-service bank branches, a headquarters that also originates loans and accepts deposits, and loan production offices in suburban communities in the greater Puget Sound area, the Kennewick-Pasco-Richland metropolitan area of Washington, also known as the Tri-Cities, Goldendale, Vancouver, and White Salmon, Washington and Manzanita, Newport, Ontario, Tillamook, and Waldport, Oregon. The Bank’s branches located in the communities of Goldendale and White Salmon, Washington and Manzanita, Newport, Ontario, Tillamook, and Waldport, Oregon were acquired from Columbia State Bank on February 24, 2023,and opened as1st* Security Bank branches on* February 27, 2023.*The Bank provides loan and deposit services to customers who are predominantly small- and middle-market businesses and individuals. The Company and its subsidiary are subject to regulation by certain federal and state agencies and undergo periodic examination by these regulatory agencies.

Financial Statement Presentation – The accompanying unaudited interim consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) for interim financial information and in accordance with the instructions to Form10‑Q and Article10 of Regulation S-X as promulgated by the Securities and Exchange Commission (“SEC”). These unaudited interim consolidated financial statements should be read in conjunction with the Company’s Annual Report on Form10‑K which includes all the audited financial statements and footnotes required by U.S. GAAP for complete financial statements for the year ended* December 31, 2023*, as filed with the SEC on* March**15,* 2024. In the opinion of management, all normal adjustments and recurring accruals considered necessary for a fair presentation of the financial position and results of operations for the periods presented have been included.

The results for thethree andsix months ended* June 30, 2024*, arenot necessarily indicative of the results that* maybe expected for the year ending December 31,*2024, or any other future period. The preparation of financial statements, in conformity with U.S. GAAP, requires management to make estimates and assumptions that affect amounts reported in the financial statements. Actual results could differ from these estimates. Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for credit losses (“ACL”).

Amounts presented in the consolidated financial statements and footnote tables are rounded and presented to the nearest thousands of dollars except per share amounts. If the amounts are above*$1.0* million, they are roundedone decimal point, and if they are above*$1.0* billion, they are roundedtwo decimal points.

Principles of Consolidation– The consolidated financial statements include the accounts of FS Bancorp and its wholly owned subsidiary,1st Security Bank. All material intercompany accounts have been eliminated in consolidation.

Segment Reporting –*** *The Company operates intwo business segments through the Bank: commercial and consumer banking and home lending. The Company’s business segments are determined based on the products and services provided, as well as the nature of the related business activities, and they reflect the way financial information is regularly reviewed for the purpose of allocating resources and evaluating performance of the Company’s businesses. The results for these business segments are based on management’s accounting process, which assigns income statement items and assets to each responsible operating segment. This process is dynamic and is based on management’s view of the Company’s operations. See “Note14 – Business Segments.”

Subsequent Events– The Company has evaluated events and transactions after* June 30, 2024*, for potential recognition or disclosure.

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RECENT ACCOUNTING PRONOUNCEMENTS

In* March 2020,the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”)No. 2020-04, “Reference Rate Reform” (“Topic848**”). This ASU provides optional guidance for a limited period to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting. The amendments in this ASU apply to modifications to agreements (e.g., loans, debt securities, derivatives, borrowings) that replace a reference rate affected by reference rate reform (including rates referenced in fallback provisions) and contemporaneous modifications of other contract terms related to the replacement of the reference rate (including contract modifications to add or change fallback provisions). The following optional expedients for applying the requirements of certain Topics or Industry Subtopics in the Codification are permitted for contracts that are modified because of reference rate reform and that meet certain scope guidance:1) Modifications of contracts within the scope of Topics310,* Receivables, and470, Debt, should be accounted for by prospectively adjusting the effective interest rate;2) Modifications of contracts within the scope of Topics840, Leases, and842, Leases, should be accounted for as a continuation of the existing contracts withno reassessments of the lease classification and the discount rate (for example, the incremental borrowing rate) or remeasurements of lease payments that otherwise would be required under those Topics for modificationsnot accounted for as separate contracts; and3) Modifications of contracts donot require an entity to reassess its original conclusion about whether that contract contains an embedded derivative that is clearly and closely related to the economic characteristics and risks of the host contract under Subtopic815-15, Derivatives and Hedging – Embedded Derivatives. In* January 2021,ASU2021*-01 updated amendments in the new ASU to clarify that certain optional expedients and exceptions in Topic848 for contract modifications and hedge accounting apply to derivative instruments that use an interest rate for margining, discounting, or contract price alignment that is modified as a result of reference rate reform. Amendments in this ASU and the expedients and exceptions in Topic848 capture the incremental consequences of the scope clarification and tailor the existing guidance to derivative instruments affected by the discounting transition. An entity* mayelect to apply the amendments in this ASU on a full retrospective basis as of any date from the effective dates. The amendments in this ASU have differing effective dates, beginning with an interim period including and subsequent to March 12, 2020through December 31, 2022,deferred now until December 31, 2024.The Company doesnot* expect the adoption of ASU2020-04 to have a material impact on its consolidated financial statements and related disclosures.

In* November 2023,the FASB issued guidance within ASU2023*-07, Segment Reporting (Topic280*): Improvements to Reportable Segment Disclosures.* This ASU requires that a public entity that has a single reportable segment provide all the disclosures required by the amendments in this ASU and all existing disclosures in Topic280. The amendments in this ASU are intended to improve segment disclosure requirements, primarily through enhanced disclosures about significant segment expenses. The key amendments included in this ASU:

This ASU is effective for fiscal years beginning after* December 15, 2023,and interim periods within fiscal years beginning after December 15, 2024.The amendments should be applied retrospectively to all prior periods presented in the financial statements. The Company is currently evaluating the effect that ASU2023*-07 will have on the Company’s consolidated financial statements and related disclosures.

In* December 2023,the FASB issued guidance within ASU2023*-09, Income Taxes (Topic740*): Improvements to Income Tax Disclosures.* The amendments in the ASU are intended to provide more transparency about income tax information through improvements to income tax disclosures primarily related to the rate reconciliation and income taxes paid information. The ASU requires disclosure in the rate reconciliation of specific categories as well as provide additional information for reconciling items that meet a quantitative threshold.

Those amendments require disclosure of the following information about income taxes paid on an annual basis:

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The ASU is effective for annual periods beginning after* December 15, 2024.Early adoption is permitted for annual financial statements that havenot* yet been issued or made available for issuance. The amendments should be applied on a prospective basis. The Company is evaluating the effect that ASU2023-09 will have on its consolidated financial statements and related disclosures.

Application of New Accounting Guidance Adopted in2024**

On* January 1, 2024,the Company adopted ASUNo.2022*-03,* Fair Value Measurement (Topic820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions*. ASU2022-03 clarifies that a contractual restriction on the sale of an equity security shouldnot be considered in measuring fair value, nor should the contractual restriction be recognized and measured separately. Further, this ASU requires disclosure of the fair value of equity securities subject to contractual sale restrictions reflected in the balance sheet, the nature and remaining duration of the restrictions(s), and the circumstances that could cause a lapse in the restriction(s). ASU2022-03 is effective for the Company for fiscal years beginning after* December 15, 2023,including interim periods within those fiscal years. The adoption of ASU2022*-03 didnot have a material impact on the Company’s consolidated financial statements and related disclosures.

On* January 1, 2024,the Company adopted ASU2023*-02, Investments - Equity Method and Joint Ventures (Topic323*):* * Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method, a consensus of the Emerging Issues Task Force*. ASU2023-02 allows an entity the option to apply the proportional amortization method of accounting to other equity investments that are made for the primary purpose of receiving tax credits or other income tax benefits if certain conditions are met. Prior to this ASU, the application of the proportional amortization method of accounting was limited to investments in low-income housing tax credit structures. The proportional amortization method of accounting results in the amortization of applicable investments, as well as the related income tax credits or other income tax benefits received, being presented on a single line in the statements of income, income tax expense. Under this ASU, an entity has the option to apply the proportional amortization method of accounting to applicable investments on a tax-credit-program-by-tax-credit program basis. In addition, the amendments in this ASU require that all tax equity investments accounted for using the proportional amortization method use the delayed equity contribution guidance in paragraph323-740-25-3, requiring a liability to be recognized for delayed equity contributions that are unconditional and legally binding or for equity contributions that are contingent upon a future event when that contingent event becomes probable. Under this ASU, low-income housing tax credit investments for which the proportional amortization method isnot applied canno longer be accounted for using the delayed equity contribution guidance. Further, this ASU specifies that impairment of low-income housing tax credit investmentsnot accounted for using the equity method must apply the impairment guidance in Subtopic323-10: Investments - Equity Method and Joint Ventures - Overall. * This ASU also clarifies that for low-income housing tax credit investmentsnot* accounted for under the proportional amortization method or the equity method, an entity shall account for them under Topic321:** Investments - Equity Securities. The amendments in the ASU also require additional disclosures in interim and annual periods concerning investments for which the proportional amortization method is applied, including (i) the nature of tax equity investments, and (ii) the effect of tax equity investments and related income tax credits and other income tax benefits on the financial position and results of operations. ASU2023-02 is effective for the Company for fiscal years beginning after* December 15, 2023,including interim periods within those fiscal years. The adoption of ASU2023*-02 didnot have a material impact on the Company's consolidated financial statements and related disclosures.

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NOTE 2 –** INVESTMENTS**

The following tables present the amortized costs, unrealized gains, unrealized losses, estimated fair values of securities available-for-sale and held-to-maturity, and the ACL on securities available-for-sale and held-to-maturity at* June 30, 2024* and* December 31, 2023*:

The following table presents the activity in the ACL on securities held-to-maturity by major security type for thethree andsix months ended* June 30, 2024and2023*:

Management measures expected credit losses on held-to-maturity debt securities on an individual basis. The estimate of expected credit losses considers historical credit loss information that is adjusted for current conditions and reasonable and supportable forecasts. Accrued interest receivable on held-to-maturity debt securities totaled $114,000 and $116,000 at* June 30, 2024* and* December 31, 2023*, and was $1.0 million and $1.5 million on available-for-sale debt securities as of* June 30, 2024* and* December 31, 2023*, respectively. Accrued interest receivable on securities is reported in “Accrued interest receivable” on the Consolidated Balance Sheets and is excluded from the calculation of the ACL.

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The Company monitors the credit quality of debt securities held-to-maturity quarterly using credit rating, material event notices, and changes in market value. The following table summarizes the amortized cost of debt securities held-to-maturity at the dates indicated, aggregated by credit quality indicator:

At* June 30, 2024* and* December 31, 2023*, there wereno debt securities held-to-maturity that were classified as either nonaccrual or90 days or more past due and still accruing interest.

The following table presents, as of* June 30, 2024*, investment securities which were pledged to secure borrowings, public deposits or other obligations as permitted or required by law:

Investment securities that were in an unrealized loss position at the dates indicated are presented in the following tables, based on the length of time individual securities have been in an unrealized loss position.

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There wereno held-to-maturity debt securities in an unrealized loss position of less thanone year andseven held-to-maturity debt securities in an unrealized loss position of more thanone year at* June 30, 2024*.

There were nine available-for-sale securities in an unrealized loss position of less thanone year, and 128 available-for-sale securities in an unrealized loss position of more thanone year at* June 30, 2024*. The unrealized losses associated with these securities are believed to be caused by changing market conditions and considered to be temporary, and the Company doesnot intend and isnot likely to be required to sell these securities prior to maturity. Management monitors the published credit ratings of the issuers of the debt securities for material ratings or outlook changes. Substantially all the Company’s municipal bond portfolio is comprised of obligations of states and political subdivisions located within the Company’s geographic footprint that are monitored through quarterly or annual financial review utilizing published credit ratings. All the municipal bond securities are investment grade.

All the available-for-sale mortgage-backed securities and U.S. Small Business Administration securities in an unrealized loss position are issued or guaranteed by government-sponsored enterprises, and the available-for-sale corporate securities are all investment grade and monitored for rating or outlook changes. Based on the Company’s evaluation of these securities, no credit impairment was recorded for thesix months ended* June 30, 2024*, or for the year ended* December 31, 2023*.

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The contractual maturities of securities available-for-sale and held-to-maturity at the dates indicated are listed below. Expected maturities of mortgage-backed securities* maydiffer from contractual maturities because borrowers mayhave the right to call or prepay the obligations; therefore, these securities are classified separately withno* specific maturity date.

The proceeds and resulting gains and losses from sales of securities available-for-sale for thethree andsix months ended* June 30, 2024*:

There wereno sales proceeds, or gains or losses for the sale of securities available-for-sale for thethree andsix months ended* June 30, 2023*.

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NOTE 3 –** LOANS RECEIVABLE AND ALLOWANCE FOR CREDIT LOSSES**–** LOANS**

The composition of the loan portfolio was as follows at the dates indicated:

Loan amounts are net of unearned loan fees in excess of unamortized costs and premiums of $7.2 million as of* June 30, 2024* and $8.4 million as of* December 31, 2023*. Net loans include unamortized net discounts on acquired loans of $2.2 million and $2.6 million as of* June 30, 2024* and* December 31, 2023*, respectively. Net loans donot include accrued interest receivable. Accrued interest receivable on loans was $11.8 million and $11.5 million as of* June 30, 2024* and* December 31, 2023*, respectively, and was reported in “Accrued interest receivable” on the Consolidated Balance Sheets.

Most of the Company’s CRE and multi-family real estate, construction, residential, and/or commercial business lending activities are with customers located in Western Washington, the Oregon Coast, and near our loan production offices in Vancouver and the Tri-Cities, Washington. The Company originates real estate, consumer, and commercial business loans and has concentrations in these areas, however, indirect home improvement loans, including solar-related home improvement loans, are originated through a network of home improvement contractors and dealers located throughout Washington, Oregon, California, Idaho, Colorado, Arizona, Minnesota, Nevada, Texas, Utah, Massachusetts, Montana, and New Hampshire. Loans are generally secured by collateral and rights to collateral vary and are legally documented to the extent practicable. Local economic conditions* may*affect borrowers’ ability to meet the stated repayment terms.

At* June 30, 2024*, the Bank held approximately $1.11 billion in loans that are pledged as collateral for FHLB advances, compared to approximately $1.07 billion at* December 31, 2023*. The Bank held approximately $627.1 million in loans that are pledged as collateral for the Federal Reserve Bank of San Francisco (the “FRB”) line of credit at* June 30, 2024*, compared to approximately $631.1 million at* December 31, 2023*.

The Company has defined its loan portfolio intothree segments that reflect the structure of the lending function, the Company’s strategic plan and the way management monitors performance and credit quality. Thethree loan portfolio segments are: (a) real estate, (b) consumer, and (c) commercial business. Each of these segments is disaggregated into classes based on the risk characteristics of the borrower and/or the collateral type securing the loan. The following is a summary of each of the Company’s loan portfolio segments and classes:

Real Estate Loans

CRE Lending. Loans originated by the Company primarily secured by income-producing properties, including retail centers, warehouses, and office buildings located in our market areas.

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Construction and Development Lending. Loans originated by the Company for the construction of, and secured by, commercial real estate,one-to-four-family, and multi-family residences and tracts of land for development that arenot pre-sold. A portion of theone-to-four-family construction portfolio is custom construction loans to the intended occupant of the residence.

Home Equity Lending. Loans originated by the Company secured bysecond mortgages onone-to-four-family residences, including home equity lines of credit in our market areas.

One-to-Four-Family Real Estate Lending. One-to-four-family residential loans include owner occupied properties (includingsecond homes), and non-owner-occupied properties withfour or less units. These loans originated by the Company or periodically purchased from banks are secured byfirst mortgages onone-to-four-family residences in our market areas that the Company intends to hold (excludes loans held for sale).

Multi-Family Lending. Apartment term lending (five or more units) to current banking customers and community reinvestment loans for low to moderate income individuals in the Company’s footprint.

Consumer Loans

Indirect Home Improvement. Fixture secured loans for home improvement are originated by the Company through its network of home improvement contractors and dealers and are secured by the personal property installed in, on, or at the borrower’s real property, and* maybe perfected with aUCC‑2* financing statement filed in the county of the borrower’s residence. These indirect home improvement loans include replacement windows, siding, roofing, spas, and other home fixture installations, including solar related home improvement projects.

Marine. Loans originated by the Company, secured by boats, to borrowers primarily located in states where the Company originates consumer loans.

Other Consumer. Loans originated by the Company to consumers in our retail branch footprint, including automobiles, recreational vehicles, direct home improvement loans, loans on deposits, and other consumer loans, primarily consisting of personal lines of credit and credit cards.

Commercial Business Loans

C&I* Lending.C&I loans originated by the Company to local small- and mid-sized businesses in our Puget Sound market area are secured primarily by accounts receivable, inventory, or personal property, plant and equipment. Some C&I loans purchased by the Company are outside of the greater Puget Sound market area. C&I loans are made based on the borrower’s ability to make repayment from the cash flow of the borrower’s business. Certain C&I loans also include SBA/USDA guaranteed certificates of $35.2 million at June 30, 2024*, compared to $10.6 million at* December 31, 2023*.

Warehouse Lending. Loans originated to non-depository financial institutions and secured by notes originated by the non-depository financial institution. The Company hastwo distinct warehouse lending divisions: commercial warehouse re-lending secured by notes on construction loans and mortgage warehouse re-lending secured by notes onone-to-four-family loans. The Company’s commercial construction warehouse lines are secured by notes on construction loans and typically guaranteed by principals with experience in construction lending. Mortgage warehouse lending loans are funded throughthird-party residential mortgage bankers. Under this program the Company provides short-term funding to the mortgage banking companies for the purpose of originating residential mortgage loans for sale into the secondary market.

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Allowance for Credit Losses

The main drivers of the provision for credit losses on loans recorded in thefirst**six months of2024 were increases in the loan portfolio, as well as an increase in nonperforming loans, and higher net charge-offs.

The following tables detail activity in the ACL on loans by loan categories at or for thethree andsix months ended* June 30, 2024and2023*:

Nonaccrual and Past Due Loans. Loans are considered past due if the required principal and interest payments havenot been received as of the date such payments were due. Loans are automatically placed on nonaccrual once the loan is90 days past due or sooner if, in management’s opinion, the borrower* may*be unable to meet payment obligations as they become due, or as required by regulatory authorities.

Loan Modifications to Borrowers Experiencing Financial Difficulty

The Company* maymodify the contractual terms of a loan to a borrower experiencing financial difficulty as a part of ongoing loss mitigation strategies. These modifications mayresult in an interest rate reduction, term extension, an other-than-insignificant payment delay, or a combination thereof. The Company typically doesnot* offer principal forgiveness. An assessment of whether a borrower is experiencing financial difficulty is made on the date of a modification. The effect of most modifications made to borrowers experiencing financial difficulty is already included in the ACL on loans because of the measurement methodologies used to estimate the allowance.

The following tables present the amortized cost basis of loans that were modified to borrowers experiencing financial difficulty at the end of the reporting periods by loan class and modification type.

At* June 30, 2024* and* December 31, 2023*, the loans were in compliance with their modified terms and were classified as current. For thethree andsix months ended* June 30, 2024and2023*, no loans experienced a default subsequent to being granted a modification in the lasttwelve months. There wereno unfunded commitments associated with loans modified for borrowers experiencing financial distress as of* June**30,* 2024.

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Nonaccrual and Past Due Loans

The following tables provide information pertaining to the aging analysis of contractually past due loans and nonaccrual loans at* June 30, 2024* and* December 31, 2023*:

There wereno loans90 days or more past due and still accruing interest at both* June 30, 2024* and* December 31, 2023*.

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Credit Quality Indicators

As part of the Company’s on-going monitoring of credit quality of the loan portfolio, management tracks certain credit quality indicators including trends related to (i) the risk grading of loans, (ii) the level of classified loans, (iii) net charge-offs, (iv) non-performing loans, and (v) the general economic conditions in the Company’s markets.

The Company utilizes a risk grading matrix to assign a risk grade to its real estate and commercial business loans. Loans are graded on a scale of1 to10, with loans in risk grades1 to6 reported as “Pass” and loans in risk grades7 to10 reported as classified loans in the Company’s ACL analysis.

A description of the10 risk grades is as follows:

Homogeneous loans are risk rated based upon the Federal Financial Institutions Examination Council’s Uniform Retail Credit Classification and Account Management Policy. Loans classified under this policy at the Company are consumer loans which include indirect home improvement, solar, marine, other consumer, andone-to-four-familyfirst andsecond liens. Under the Uniform Retail Credit Classification and Account Management Policy, loans that are current or less than90 days past due are graded “Pass” and risk rated*“4”* or*“5”* internally. Loans that are past due more than90 days are classified “Substandard” and risk graded*“8”* internally until the loan has demonstrated consistent performance, typicallysix months of contractual payments. Closed-end loans that are120 days past due and open-end loans that are180 days past due are charged off based on the value of the collateral less cost to sell. Management* may*choose to conservatively risk rate credits even if paying in accordance with the loan’s repayment terms.

CRE, construction and development, multi-family and commercial business loans are evaluated individually for their risk classification and* may*be classified as “Substandard” even if current on their loan payment obligations. We regularly review our credits for accuracy of risk grades whenever we receive new information. Borrowers are generally required to submit financial information at regular intervals. Typically, commercial borrowers with lines of credit are required to submit financial information with reporting intervals ranging from monthly to annually depending on credit size, risk, and complexity. In addition, nonowner-occupied CRE borrowers with loans exceeding a certain dollar threshold are usually required to submit rent rolls or property income statements annually. We monitor construction loans monthly. We also review loans graded “Watch” or worse, regardless of loan type,no less than quarterly.

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The following tables summarize risk rated loan balances and total current period gross charge-offs by category, as of the dates indicated. Term loans that were renewed or extended for periods longer than90 days are presented as new originations in the year of the most recent renewal or extension.

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The following table presents the amortized cost basis of loans on nonaccrual status as of the dates indicated:

The Company recognized interest income on a cash basis for nonaccrual loans of $92,000 and $106,000 during thethree months ended* June 30, 2024and2023*, and $203,000 and $168,000 during thesix months ended* June 30, 2024and2023*,respectively.

The following table presents the amortized cost basis of collateral dependent loans by class of loans as of the dates indicated:

NOTE 4 –** MORTGAGE SERVICING RIGHTS**

Loans serviced for others arenot included on the Consolidated Balance Sheets. The unpaid principal balance of permanent loans serviced for others was $1.60 billion and $2.83 billion at* June 30, 2024* and* December 31, 2023*, respectively.

The following table summarizes MSRs activity at or for the dates indicated:

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The fair value of the MSRs’ assets was $20.8 million and $38.2 million at* June 30, 2024* and* December 31, 2023*, respectively. Fair value adjustments to MSRs are mainly due to market-based assumptions associated with discounted cash flows, loan prepayment speeds, and changes in interest rates. A significant change in prepayments of the loans in the MSRs portfolio could result in significant changes in the valuation adjustments, thus creating potential volatility in the carrying amount of MSRs.

The following provides valuation assumptions used in determining the fair value of MSRs at the dates indicated:

Key economic assumptions of the current fair value for single family MSRs are presented in the table below. Also presented is the sensitivity to market rate changes for the par rate coupon for a conventionalone-to-four-family FNMA, FHLMC, GNMA, or FHLB serviced home loan. The table below references a 50 basis point and 100 basis point adverse rate change and the impact on prepayment speeds and discount rates at the dates indicated:

These sensitivities are hypothetical and should be used with caution as the tables above demonstrate the Company’s methodology for estimating the fair value of MSRs which is extremely sensitive to changes in key assumptions. For example, actual prepayment experience* maydiffer and any difference mayhave a material effect on the fair value of MSRs. Changes in fair value resulting from changes in assumptions generally cannot be extrapolated because the relationship of the change in the assumption to the change in fair value maynot* be linear. Also, in these tables, the effects of a variation in a particular assumption on the fair value of MSRs is calculated without changing any other assumption; in reality, changes inone factor* maybe associated with changes in another (for example, decreases in market interest rates mayprovide an incentive to refinance, however, this mayalso indicate a slowing economy and an increase in the unemployment rate, which reduces the number of borrowers who qualify for refinancing), which maymagnify or counteract the sensitivities. Thus, any measurement of the fair value of MSRs is limited by the conditions existing and assumptions made at a particular point in time. Those assumptions maynot* be appropriate if they are applied to a different time.

The Company recorded $1.1 million and $1.8 million of gross contractually specified servicing fees, late fees, and other ancillary fees resulting from servicing of loans for thethree months ended* June 30, 2024and2023*, respectively, and $2.5 million and $3.6 million for thesix months ended* June 30, 2024and2023*. The income, net of amortization of MSRs, is reported in “Service charges and fee income” on the Consolidated Statements of Income.

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NOTE 5 –** DERIVATIVES**

The Company is exposed to certain risk arising from both its business operations and economic conditions. The Company principally manages its exposures to a wide variety of business and operational risks through management of its core business activities. The Company manages economic risks, including interest rate, liquidity, and credit risk primarily by managing the amount, sources, and duration of its assets and liabilities and the use of derivative financial instruments. Specifically, the Company enters into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates.

The Company’s predominant derivative and hedging activities involve interest rate swaps related to certain borrowings, brokered deposits, investment securities, forward sales contracts, and commitments to extend credit associated with mortgage banking activities. Generally, these instruments help the Company manage exposure to market risk. 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.

Mortgage Banking DerivativesNot Designated as Hedges**

The Company regularly enters into commitments to originate and sell loans held for sale. The Company has exposure to movements in interest rates associated with written interest rate lock commitments with potential borrowers to originateone-tofour-family loans that are intended to be sold and for closedone-to-four-family mortgage loans held for sale for which fair value accounting has been elected, that are awaiting sale and delivery into the secondary market. The Company economically hedges the risk of changing interest rates associated with these mortgage loan commitments by entering into forward sales contracts to sellone-to-four-family mortgage loans or into contracts to sell forward To-Be-Announced (“TBA”) mortgage-backed securities. These commitments and contracts are considered derivatives but havenot been designated as hedging instruments for reporting purposes under U.S. GAAP. Rather, they are accounted for as free-standing derivatives, or economic hedges, with changes in the fair value of the derivatives reported in noninterest income or noninterest expense. The Bank recognizes all derivative instruments as either “Other assets” or “Other liabilities” on the Consolidated Balance Sheets and measures those instruments at fair value.

Customer SwapsNot Designated as Hedges**

The Company also enters into derivative contracts, which consist of interest rate swaps, to facilitate the needs of clients desiring to manage interest rate risk. These swaps arenot designated as accounting hedges under ASC815, Derivatives and Hedging. To economically hedge the interest rate risk associated with offering this product, the Company simultaneously enters into derivative contracts withthird parties to offset the customer contracts such that the Company minimizes its net risk exposure resulting from such transactions. The derivative contracts are structured such that the notional amounts reduce over time to generally match the expected amortization of the underlying loans. These derivatives arenot speculative and arise from a service provided to clients.

Cash Flow Hedges

The Company has entered into interest rate swaps to reduce the exposure to variability in interest-related cash outflows attributable to changes in forecasted Secured Overnight Financing Rate (“SOFR”) based brokered deposits. These derivative instruments are designated as cash flow hedges. The hedged item is the SOFR portion of the series of future adjustable-rate borrowings and deposits over the term of the interest rate swap. Accordingly, changes to the amount of interest payment cash flows for the hedged transactions attributable to a change in credit risk are excluded from management’s assessment of hedge effectiveness. The Company tests for hedging effectiveness on a quarterly basis. The accumulated other comprehensive income is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings. The Company hasnot recorded any hedge ineffectiveness since inception.

The Company expects that approximately $3.9 million will be reclassified from accumulated other comprehensive loss as a decrease to interest expense over the next12 months related to these cash flow hedges.

Fair Value Hedges

The Company is exposed to changes in the fair value of certain of its pools of prepayable fixed-rate assets due to changes in benchmark interest rates. The Company uses interest rate swaps to manage its exposure to changes in fair value on these instruments attributable to changes in the designated benchmark interest rate, the SOFR. Interest rate swaps designated as fair value hedges involve the receipt of variable-rate amounts from a counterparty in exchange for the Company making fixed-rate payments over the life of the agreements without the exchange of the underlying notional amount. For derivatives designated and that qualify as fair value hedges, the gain or loss on the derivative as well as the offsetting loss or gain on the hedged item attributable to the hedged risk are recognized in interest income.

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The following amounts were recorded on the balance sheet related to cumulative-basis adjustment for fair value hedges for the dates indicated:

The following tables summarize the Company’s derivative instruments at the dates indicated. The Company recognizes derivative assets and liabilities in “Other assets” and “Other liabilities,” respectively, on the Consolidated Balance Sheets, as follows:

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The following table summarizes the effect of fair value and cash flow hedge accounting on the Consolidated Statements of Income for thethree andsix months ended* June 30, 2024and2023*:

Changes in the fair value of the non-hedging derivatives recognized in “Noninterest income” on the Consolidated Statements of Income and included in gain on sale of loans resulted in net gains of $19,000 and net losses of $51,000 for thethree months ended* June 30, 2024and2023*, and net gains of $201,000 and $373,000 for thesix months ended* June 30, 2024and2023*, respectively.

The following tables present a summary of amounts outstanding in derivative financial instruments, including those entered into in connection with the same counterparty under master netting agreements at the dates indicated. While these agreements are typically over-collateralized, GAAP requires disclosures in this table to limit the amount of such collateral to the amount of the related asset or liability for each counterparty.

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Credit Risk–Related Contingent Features

The Company has derivative contracts with its derivative counterparties that contain a provision to post collateral to the counterparties when these contracts are in a net liability position. At* June 30, 2024*, the Company hadno collateral posted due to this provision. Receivables related to cash collateral that has been paid to counterparties is included in “Cash and cash equivalents” on the Consolidated Balance Sheets. In certain cases, the Company will have posted excess collateral, compared to total exposure due to initial margin requirements or day-to-day rate volatility.

NOTE6 – LEASES

The Company has operating leases for retail bank and home lending branches, loan production offices, and certain equipment. The Company’s leases have remaining lease terms offive months tosix years, some of which include options to extend the leases for up tofive years.

The components of lease cost (included in occupancy expense on the Consolidated Statements of Income) for thethree andsix months ended* June 30, 2024and2023* are as follows:

The following tables provide supplemental information related to operating leases at or for thethree andsix months ended* June 30, 2024and2023*:

The Company’s leases typically donot contain a discount rate implicit in the lease contract. As an alternative, the discount rate used in determining the lease liability for each individual lease was the FHLB of Des Moines’ fixed-advance rate.

Maturities of operating lease liabilities at* June 30, 2024* for future periods are as follows:

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NOTE7 – OTHER REAL ESTATE OWNED (“OREO”)

The following table presents the activity related to OREO at or for thethree andsix months ended* June 30, 2024and2023*:

There wereno OREO properties at* June 30, 2024* and* December 31, 2023*. There wereno OREO holding costs for thethree andsix months ended* June 30, 2024and2023*.

There were $19,000 and $96,000 in portfolio mortgage loans collateralized by residential real estate in the process of foreclosure*** at June 30, 2024 and at December 31, 2023*, respectively.

NOTE 8 –** DEPOSITS**

Deposits are summarized as follows at the dates indicated:

Scheduled maturities of certificates of deposits at* June 30, 2024* for future periods ending are as follows:

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Interest expense by deposit category for the periods indicated is as follows:

NOTE 9 –** COMMITMENTS AND CONTINGENCIES**

Commitments – The Company is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit. These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized on the Consolidated Balance Sheets.

The Company’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.

The following table provides a summary of the Company’s commitments at the dates indicated:

Commitments to extend credit are agreements to lend to a customer provided there isno violation of any condition established in the contract. Since many of the commitments are expected to expire without being drawn upon, the amount of the total commitments doesnot necessarily represent future cash requirements. The Company evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon an extension of credit, is based on management’s credit evaluation of the party. Collateral held varies, but* may*include accounts receivable, inventory, property and equipment, residential real estate, and income-producing commercial properties.

Unfunded commitments under commercial lines of credit, revolving credit lines, and overdraft protection agreements are commitments for possible future extensions of credit to existing customers. These lines of credit usually donot contain a specified maturity date and ultimately* may**not* be drawn upon to the total extent to which the Company is committed. The Company’s ACL – unfunded loan commitments at* June 30, 2024* and* December 31, 2023* was $1.6 million and $1.5 million, respectively. The Company recorded a provision for credit losses – unfunded loan commitments of $77,000 and $54,000 for thethree andsix months ended* June 30, 2024*, respectively, as compared to a recovery from the ACL of $347,000 and $596,000 for thethree andsix months ended* June 30, 2023*, respectively.

The Company also sellsone-to-four-family loans to the FHLB of Des Moines that require a limited level of recourse if the loans default and exceed a certain loss exposure. Specific to that recourse, the FHLB of Des Moines established afirst loss account (“FLA”) related to the loans and required a credit enhancement (“CE”) obligation by the Bank to be utilized after the FLA is used. Based on loans sold through* June 30, 2024*, total loans serviced on behalf of the FHLB of Des Moines were $8.8 million with the FLA totaling $581,000 and the CE obligation at $389,000 or 4.4% of the loans outstanding. Management has established a holdback of 10% of the outstanding CE, or $39,000, which is a part of the off-balance sheet holdback for loans sold. At both* June 30, 2024* and* December 31, 2023*, there wereno loans sold and serviced on behalf of the FHLB of Des Moines that were greater than90 days past their contractual payment due date.

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Contingent liabilities for loans held for sale – In the ordinary course of business, loans are sold with limited recourse against the Company and* mayhave to subsequently be repurchased due to defects that occurred during the origination of the loan. The defects are categorized as documentation errors, underwriting errors, early payoff, early payment defaults, breach of representation or warranty, servicing errors, and/or fraud. When a loan sold to an investor without recourse fails to perform according to its contractual terms, the investor will typically review the loan file to determine whether defects in the origination process occurred. If a defect is identified, the Company maybe required to either repurchase the loan or indemnify the investor for losses sustained. If there areno* such defects, the Company hasno commitment to repurchase the loan. The Company has recorded a holdback reserve of $2.0 million and $2.1 million to cover loss exposure related to these guarantees forone-to-four-family loans sold into the secondary market at* June 30, 2024* and* December 31, 2023*, respectively, which is included in “Other liabilities” on the Consolidated Balance Sheets.

The Company has entered into a severance agreement with its Chief Executive Officer (“CEO”). The severance agreement, subject to certain requirements, generally includes a lump sum payment to the CEO equal to24 months of base compensation in the event his employment is involuntarily terminated, other than for cause or the executive terminates his employment with good reason, as defined in the severance agreement.

The Company has entered into change of control agreements with its executives and select key personnel. The change of control agreements, subject to certain requirements, generally remain in effect until canceled by either party upon at least24 months prior written notice. Under the change of control agreements, the executive generally will be entitled to a change of control payment from the Company if the executive is involuntarily terminated withinsix months preceding or12 months after a change in control (as defined in the change of control agreements). In such an event, the executives would each be entitled to receive a cash payment in an amount equal to12 months of their then current salary, subject to certain requirements in the change of control agreements.

As a result of the nature of our activities, the Company is subject to various pending and threatened legal actions, which arise in the ordinary course of business. From time to time, subordination liens* maycreate litigation which requires us to defend our lien rights. In the opinion of management, liabilities arising from these claims, if any, willnot* have a material effect on our financial position. The Company hadno material pending legal actions at* June 30, 2024*.

NOTE 10 –** FAIR VALUE MEASUREMENTS**

The Company determines fair value based on the requirements established in Accounting Standards Codification (“ASC”)Topic820**,Fair Value Measurements, which provides a framework for measuring fair value in accordance with U.S. GAAP and requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. ASCTopic820** defines fair value as the exit price, or the price that would be received for an asset or paid to transfer a liability, in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date under current market conditions.

The following definitions describe the levels of inputs that* may*be used to measure fair value:

Level1 – Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level2 – Inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

Level3 – Inputs to the valuation methodology are unobservable and significant to the fair value measurement.

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The following methods were used to estimate the fair value of certain assets and liabilities on a recurring and nonrecurring basis:

Securities–** **The fair value of securities available-for-sale are recorded on a recurring basis. The fair value of investments and mortgage-backed securities are provided by athird-party pricing service. These valuations are based on market data using pricing models that vary by asset class and incorporate available current trade, bid, and other market information, and for structured securities, cash flow, and loan performance data. The pricing processes utilize benchmark curves, benchmarking of similar securities, sector groupings, and matrix pricing. Option adjusted spread models are also used to assess the impact of changes in interest rates and to develop prepayment scenarios (Level2). Transfers between the fair value hierarchy are determined through thethird-party service provider which, from time to time will transfer between levels based on market conditions per the related security. All models and processes used consider market convention.

Mortgage Loans Held for Sale –*** *The fair value of loans held for sale reflects the value of commitments with investors and/or the relative price as delivered into a TBA mortgage-backed security (Level2).

Loans Receivable* – Certain residential mortgage loans were initially originated for sale and measured at fair value; after origination, the loans were transferred to loans held for investment. As of June 30, 2024* and* December 31, 2023*, there were $13.9 million and $15.1 million, respectively, in residential mortgage loans recorded at fair value as they were previously transferred from held for sale, at fair value to loans held for investment. The aggregate unpaid principal balance of these loans was $14.6 million and $16.3 million as of* June 30, 2024* and* December 31, 2023*, respectively. Gains and losses from changes in fair value for these loans are reported in earnings as a component of “Other noninterest income” on the Consolidated Statements of Income. For thethree months ended* June 30, 2024*, the Company recorded a net increase in fair value of $184,000, as compared to a net decrease in fair value of $520,000 for thethree months ended* June 30, 2023*. For thesix months ended* June 30, 2024* and* June 30, 2023*. the Company recorded net increases in fair value of $186,000 and $57,000, respectively. For loans originated as held for sale and transferred into loans held for investment, the fair value is determined based on quoted secondary market prices for similar loans (Level2).

Derivative Instruments – Fair values for derivative assets and liabilities are measured on a recurring basis. The primary use of derivative instruments is related to the mortgage banking activities of the Company. The fair value of the interest rate lock commitments and forward sales commitments are estimated using quoted or published market prices for similar instruments, adjusted for factors such as pull-though rate assumptions based on historical information, where appropriate. TBA mortgage-backed securities are fair valued on similar contracts in active markets (Level2), while locks and forwards with customers and investors are fair valued using similar contracts in the market and changes in the market interest rates (Level2 and3). Derivative instrumentsnot related to mortgage banking activities include interest rate swap agreements. The fair values of interest rate swap agreements are based on valuation models using observable market data as of the measurement date (Level2). The Company’s derivatives are traded in an over-the-counter market where quoted market prices arenot always available. Therefore, the fair values of derivatives are determined using quantitative models that utilize multiple market inputs. The inputs will vary based on the type of derivative, but could include interest rates, prices and indices to generate continuous yield or pricing curves, prepayment rates, and volatility factors to value the position. The majority of the market inputs we use are actively quoted and can be validated through external sources, including market transactions andthird-party pricing services. The fair values of all interest rate swaps are determined fromthird-party pricing services without adjustment.

Other Real Estate Owned – Fair value adjustments to OREO are recorded at the lower of carrying amount of the loan or fair value of the collateral less selling costs. Any write-downs based on the asset’s fair value at the date of acquisition are charged to the ACL on loans. After foreclosure, management periodically performs valuations such that the real estate is carried at the lower of its new cost basis or fair value, net of estimated costs to sell (Level3).

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Collateral Dependent Loans–*** *** Expected credit losses on collateral dependent loans are measured based on the fair value of collateral as of the reporting date, less estimated selling costs, as applicable. If the fair value of the collateral is less than the amortized cost basis of the loan, the Company will recognize an allowance as the difference between the fair value of the collateral, less costs to sell (if applicable) at the reporting date and the amortized cost basis of the loan. If the fair value of the collateral exceeds the amortized cost basis of the loan, any expected recovery added to the amortized cost basis will be limited to the amount previously charged-off by the subsequent changes in the expected credit losses on collateral dependent loans. Subsequent adjustments in the expected credit losses for collateral-dependent loans are included within the provision for credit losses in the same way the expected credit loss initially was recognized or as a reduction in the provision that would otherwise be reported (Level3).

Mortgage Servicing Rights –* The fair value of MSRs is estimated using net present value of expected cash flows using athird*-party model that incorporates assumptions used in the industry to value such rights, adjusted for factors such as weighted average prepayments speeds based on historical information where appropriate (Level3).

The following tables present securities available-for-sale, mortgage loans held for sale, loans receivable, at fair value, and derivative assets and liabilities measured at fair value on a recurring basis at the dates indicated:

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The following table presents financial assets measured at fair value on a nonrecurring basis and the level within the fair value hierarchy at* June 30, 2024* and* December 31, 2023*.

Quantitative Information about Level3 Fair Value Measurements** – Shown in the table below is the fair value of financial instruments measured under a Level3 unobservable input on a recurring and nonrecurring basis at the dates indicated:

The pull-through rate is based on historical loan closing rates for similar interest rate lock commitments. An increase or decrease in the pull-through rate would have a corresponding positive or negative fair value adjustment.

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The following table provides a reconciliation of assets and liabilities measured at fair value using significant unobservable inputs (Level3) on a recurring basis during the dates indicated:

(1) Relating to items held at end of period included in income.

(2) Relating to items held at end of period included in other comprehensive income.

Gains on interest rate lock commitments and on forward sale commitments with investors carried at fair value are recorded in “Gain on sale of loans held for sale” on the Consolidated Statements of Income.

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The following table provides estimated fair values of the Company’s financial instruments at the dates indicated, whether recognized at fair value ornot on the Consolidated Balance Sheets:

NOTE 11 –** EARNINGS PER SHARE**

The Company computes earnings per share using thetwo-class method, which is an earnings allocation method for computing earnings per share that treats a participating security as having rights to earnings that would otherwise have been available to common shareholders. Basic earnings per share are computed by dividing income available to common shareholders by the weighted average number of common shares outstanding for the period. Unvested share-based awards containing non-forfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and are included in the computation of earnings per share pursuant to thetwo-class method. Diluted earnings per share reflect the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the Company.

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The following table presents a reconciliation of the components used to compute basic and diluted earnings per share at or for the dates indicated:

NOTE 12 –** STOCK-BASED COMPENSATION**

Stock Options and Restricted Stock

On* May 17, 2018,the shareholders of FS Bancorp approved the2018* Equity Incentive Plan (the*“2018* Plan”) that authorized 1.3 million shares of the Company’s common stock to be awarded. The2018 Plan provides for the grant of incentive stock options, nonqualified stock options, and up to 326,000 shares as restricted stock awards (“RSAs”) to directors, emeritus directors, officers, employees or advisory directors of the Company. At* June 30, 2024*, there were 265,532 stock option awards and 80,622 RSAs available for future grants under the2018 Plan.

Total share-based compensation expense was $389,000 and $784,000 for thethree andsix months ended* June 30, 2024*, respectively, and $364,000 and $1.0 million for thethree andsix months ended* June 30, 2023*, respectively.

Stock Options

The2018 Plan consists of stock option awards that* maybe granted as incentive stock options or nonqualified stock options. Stock option awards generally vest over aone-year period for independent directors or over afive-year period for employees and officers with 20% vesting on the anniversary date of each grant date as long as the award recipient remains in service to the Company. The options are exercisable after vesting for up to the remaining term of the original grant. The maximum term of the options granted is 10 years. Any unexercised stock options will expire 10 years after the grant date or sooner in the event of the award recipient’s termination of service with the Company or the Bank. The fair value of each stock option award is estimated on the grant date using a Black-Scholes Option pricing model that uses the following assumptions. The dividend yield is based on the current quarterly dividend in effect at the time of the grant. Historical employment data is used to estimate the forfeiture rate. The historical volatility of the Company's stock price over a specified period of time is used for the expected volatility. The Company bases the risk-free interest rate on the comparable U.S. Treasury rate for the discount rate associated with the stock in effect on the date of the grant. The Company elected to use Staff Accounting Bulletin107,* simplified expected term calculation for the “Share-Based Payments” method permitted by the SEC to calculate the expected term. This method uses the vesting term of an option along with the contractual term, setting the expected life at 5.5 years forone-year vesting and 6.5 years forfive-year vesting.

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The following table presents a summary of the Company’s stock option awards during the dates indicated (shown as actual):

At* June 30, 2024*, there was $1.3 million of total unrecognized forfeiture adjusted compensation cost related to nonvested stock options granted under the2018 Plan. The cost is expected to be recognized over the remaining weighted-average vesting period of 3.0 years.

Restricted Stock Awards

The RSAs’ fair value is equal to the value of the market price of FS Bancorp’s common stock on the grant date and compensation expense is recognized over the vesting period of the awards based on the fair value of the restricted stock. Shares granted under the2018 Plan generally vest over aone-year period for independent directors and afive-year period for employees and officers beginning on the grant date. Any nonvested RSAs will be forfeited in the event of the award recipient’s termination of service with the Company or the Bank.

The following table presents a summary of the Company’s nonvested awards during the dates indicated (shown as actual):

At* June 30, 2024*, there was $2.0 million of total unrecognized forfeiture adjusted compensation cost related to nonvested shares granted under the2018 Plan as RSAs. The cost is expected to be recognized over the remaining weighted-average vesting period of 3.0 years.

NOTE 13 –** REGULATORY CAPITAL**

The Bank is subject to various regulatory capital requirements administered by the Federal Reserve and the FDIC. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s consolidated financial statements. Under capital adequacy guidelines of the regulatory framework for prompt corrective action, the Bank must meet specific capital adequacy guidelines that involve quantitative measures of the Bank’s assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Bank’s capital classification is also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

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Under the risk-based capital adequacy framework, quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of Tier1 capital (as defined in the regulations) to total average assets (as defined), and minimum ratios of Tier1 total capital (as defined) and common equity Tier1 (“CET1”) capital to risk-weighted assets (as defined).

The Bank must maintain minimum total risk-based, Tier1 risk-based, Tier1 leverage, and CET1 capital ratios as set forth in the table below to be categorized as well capitalized. At* June 30, 2024*, the Bank was categorized as well capitalized under applicable regulatory requirements. There areno conditions or events since that notification that management believes have changed the Bank’s category. Management believes, at* June 30, 2024*, that the Bank met all capital adequacy requirements.

The following tables compare the Bank’s actual capital amounts and ratios to their minimum regulatory capital requirements and well capitalized regulatory capital at the dates indicated:

In addition to the minimum CET1, Tier1, total capital and leverage ratios, the Bank is required to maintain a capital conservation buffer consisting of additional CET1 capital greater than 2.5% of risk-weighted assets above the required minimum capital levels 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* June 30, 2024*, the Bank’s capital exceeded the minimum required capital with the required conservation buffer.

The Company is a bank holding company registered with the Federal Reserve. Bank holding companies are subject to capital adequacy requirements of the Federal Reserve under the Bank Holding Company Act of1956, as amended, and the regulations of the Federal Reserve. Bank holding companies with less than*$3.0* billion in assets are generallynot subject to compliance with the Federal Reserve’s capital regulations, which are generally the same as the capital regulations applicable to the Bank. The Federal Reserve has a policy that a bank holding company is required to serve as a source of financial and managerial strength to the holding company’s subsidiary bank and expects the holding company’s subsidiary bank to be well capitalized under the prompt corrective action regulations. If the Company were subject to regulatory guidelines for bank holding companies with*$3.0* billion or more in assets at* June 30, 2024*, it would have exceeded all regulatory capital requirements. For informational purposes, the regulatory capital ratios calculated for the Company at* June 30, 2024* were 9.5% for Tier1 leverage-based capital,10.9% for Tier1 risk-based capital,14.1% for total risk-based capital, and 10.9% for CET1 capital ratio. The regulatory capital ratios calculated for the Company at* December 31, 2023* were 9.0% for Tier1 leverage-based capital,10.5% for Tier1 risk-based capital,13.7% for total risk-based capital, and 10.5% for CET1 capital ratio.

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NOTE 14 –** BUSINESS SEGMENTS**

The Company’s business segments are determined based on the products and services provided, as well as the nature of the related business activities, and they reflect the way financial information is currently evaluated by management. This process is dynamic and is based on management’s current view of the Company’s operations and isnot necessarily comparable with similar information for other financial institutions. The Company defines its business segments by product type and customer segment which it has organized intotwo lines of business: commercial and consumer banking and home lending.

The Company uses various management accounting methodologies to assign certain income statement items to the responsible operating segment, including:

A description of the Company’s business segments and the products and services that they provide is as follows:

Commercial and Consumer Banking Segment

The commercial and consumer banking segment provides diversified financial products and services to our commercial and consumer customers through Bank branches, online banking platforms, mobile banking apps, and telephone banking. These products and services include deposit products; residential, consumer, business and commercial real estate lending portfolios and cash management services. The Company originates consumer loans, commercial and multi-family real estate loans, construction loans for residential and multi-family construction, and commercial business loans. At* June 30, 2024*, the Company’s retail deposit branch network consisted of 27 branches in the Pacific Northwest. This segment is also responsible for the management of the investment portfolio and other assets of the Bank.

Home Lending Segment

The home lending segment*** originatesone-to-four-family residential mortgage loans primarily for sale in the secondary markets as well as loans held for investment. A majority of these mortgage loans are sold to or securitized by FNMA, FHLMC, GNMA, or the FHLB of Des Moines, while the Company generally retains the right to service these loans. Loans originated under the guidelines of the Federal Housing Administration or (“FHA”), US Department of Veterans Affairs or VA, and United States Department of Agriculture or USDA are generally sold servicing released to a correspondent bank or mortgage company. The Company has the option to sell loans on a servicing-released or servicing-retained basis to correspondent lenders. A small percentage of its loans are brokered to other lenders. On occasion, the Company maysell a portion of its MSRs portfolio and maysell small pools of loans initially originated to be held in the loan portfolio. The Company manages the loan funding and the interest rate risk associated with the secondary market loan sales and the retainedone*-to-four-family MSRs within this business segment. One-to-four-family loans originated for investment and held in this segment are allocated to the home lending segment with a corresponding provision expense and FTP for cost of funds.

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Segment Financial Results

The tables below summarize the financial results for each segment based on the factors mentioned above within each segment for thethree andsix months ended* June 30, 2024and2023*:

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NOTE 15 – GOODWILL AND OTHER INTANGIBLE ASSETS

Goodwill and certain other intangibles generally arise from business combinations accounted for under the acquisition method of accounting. Goodwill totaled $3.6 million at both* June 30, 2024*, and* December 31, 2023*, and represents the excess of the total acquisition price paid over the fair value of the assets acquired, net of the fair values of liabilities assumed in the Branch Purchase on* February 24, 2023,and the purchase offour retail bank branches from Bank of America on January 22, 2016.Goodwill isnot* amortized but is evaluated for impairment on an annual basis at* December 31of each year or whenever events or changes in circumstances indicate the carrying value may**not* be recoverable. The Company performed an impairment analysis at* December 31, 2023*, and determined thatno impairment of goodwill existed.

Core deposit intangible (“CDI”) is evaluated for impairment whenever events or changes in circumstances indicate that its carrying amount* may**not* be recoverable, with any changes in estimated useful life accounted for prospectively over the revised remaining life. As of* June 30, 2024*, management believes that there have beenno events or changes in the circumstances that would indicate a potential impairment of CDI.

The following table summarizes the changes in the Company’s other intangible assets comprised solely of CDI for the year ended* December 31, 2023*, and thesix months ended* June 30, 2024*.

The CDI represents the fair value of the intangible core deposit base acquired in business combinations. The CDI will be amortized on an accelerated basis over 10 years for the CDI related to the Branch Purchase, on a straight-line basis over 10 years for the CDI related to the Anchor Bank acquisition in* November 2018 (“Anchor Acquisition”) and on an accelerated basis over approximately nine years for the CDI related to the purchase offour retail bank branches from Bank of America on January 22, 2016.Total amortization expense was $919,000 and $1.9 million for thethree* andsix months ended* June 30, 2024*, and $1.0 million and $1.5 million for the same periods in2023, respectively.

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Amortization expense for CDI is expected to be as follows at* June 30, 2024*:

NOTE16 – REVENUE FROM CONTRACTS WITH CUSTOMERS

Revenue Recognition

In accordance with Topic606, revenues are recognized when control of promised goods or services is transferred to customers in an amount that reflects the consideration the Company expects to be entitled to in exchange for those goods or services. To determine revenue recognition for arrangements that an entity determines are within the scope of Topic606, the Company performs the followingfive steps: (i) identify the contract(s) with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue when (or as) the Company satisfies a performance obligation. The Company only applies thefive-step model to contracts when it is probable that the entity will collect the consideration it is entitled to in exchange for the goods or services it transfers to the customer. At contract inception, once the contract is determined to be within the scope of Topic606, the Company assesses the goods or services that are promised within each contract and identifies those that contain performance obligations and assesses whether each promised good or service is distinct. The Company then recognizes as revenue the amount of the transaction price that is allocated to the respective performance obligation when (or as) the performance obligation is satisfied.

All the Company’s revenue from contracts with customers in-scope of ASC606 is recognized in noninterest income and included in our commercial and consumer banking segment. The following table presents noninterest income, segregated by revenue streams in-scope and out-of-scope and/or immaterial to Topic606, for the dates indicated.

Deposit Service and Account Maintenance Fees

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

Debit Interchange Income

Debit and ATM interchange income represent fees earned when a debit card issued by the Bank is used. The Bank earns interchange fees from debit cardholder transactions through the Visa payment network. Interchange fees from cardholder transactions represent a percentage of the underlying transaction value and are recognized daily, concurrently with the transaction processing services provided to the cardholder. The performance obligation is satisfied, and the fees are earned when the cost of the transaction is charged to the cardholders’ debit card.

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