COMMUNITY BANCORP /VT

Credit loss expense

The credit loss expense was made up of the following components for the periods indicated:

The increase in the credit loss expense on loans for the comparison period of 2024 compared to the same period in 2023, was due in part to an increase in charge-offs as well as an increase in the volume of the loan portfolio. The decrease in OBS credit exposure during 2024 compared to 2023 was attributable to a decrease in unfunded loan commitments under contract.

ACL and provisions – Effective January 1, 2023, the Company was required to recognize credit losses under the guidance of ASU No. 2016-13,Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, rather than under the incurred loss model. The guidance, which is referred to as the current expected credit loss, or CECL model, requires that expected credit losses for financial assets held at the reporting date that are accounted for at amortized cost be measured and recognized based on historical experience and current and reasonably supportable forecasted conditions to reflect the full amount of expected credit losses over the life of the loans. The adjustment from the adoption of CECL amounted to $549,113, net of tax and was recorded as an adjustment to retained earnings, which affects calculation of regulatory capital ratios. Changes in assumptions and forecasts used in the CECL model could produce different results from period to period.

The Company’s board of directors has approved an ACL policy that provides guidance in maintaining an adequate methodology for establishing, estimating, and maintaining allowances for credit losses under ASC 326. The policy creates a measurement model to establish a proper ACL based on current expected credit losses rather than incurred losses.

The Company maintains an ACL at a level that management believes is appropriate to absorb losses inherent in the loan portfolio as of the measurement date (See Note 1 to the accompanying audited consolidated financial statements). Although the Company, in establishing the ACL, considers the inherent losses in individual loans and pools of loans, the ACL is a general reserve available to absorb all credit losses in the loan portfolio. No part of the ACL is segregated to absorb losses from any particular loan or segment of loans.

When establishing the ACL each quarter, the Company applies a combination of significant key assumptions and methodologies, as discussed in the ACL section under Critical Accounting Policies in this MD&A and in Note 1 under the caption “Loans” and presented in Note 4 to the accompanying audited consolidated financial statements.

The following tables summarize the Company's loan loss experience and other credit risk ratios for the dates presented.

The following table shows the breakdown of the ACL by loan segment and the percentage of loans in each category to total loans in the respective portfolios at the date indicated:

The fourth quarter ACL analysis indicated that the reserve balance of $9.8 million as of December 31, 2024, is sufficient to cover expected credit losses that are probable and estimable as of the measurement date. Included in the ACL calculation for December 31, 2024, is the completion of a workout of a commercial loan that was in non-accrual status which required a write down of approximately $1.0 million, which is also reflected in the net charge-offs and recoveries table on the next page. Also included in the ACL calculation are adjustments to several qualitative factors made by management during the fourth quarter of 2024, including an increase to the qualitative factors for credit management oversight in all portfolios to reflect certain personnel changes at the Company, including the retirement of the Chief Executive Officer and the former Chief Loan Officer (CLO) taking on the combined role of President & Chief Executive Officer, with the senior team overseeing credit and lending being new in their roles. The qualitative factors for criticized and classified loans in the commercial and industrial and CRE portfolios were increased to reflect an increase in criticized loans during the fourth quarter. The qualitative factors for external factors, exceptions, and delinquency and non-performing loans in the consumer portfolio were increased to reflect the indication in back testing that the consumer segment had insufficient loss coverage. Management believes that the quantitative calculation adequately captures the risk in these areas, and that the reserve balance continues to be directionally consistent with the overall risk profile of the Company’s loan portfolio and credit risk appetite. While the ACL is described as consisting of separate allocated portions, the entire ACL is available to support loan losses, regardless of category. Management’s assessment of the adequacy of the ACL is presented to the full Board for approval quarterly.

Net charge-offs during the period to average loans outstanding were as follows:

In addition to credit risk in the Company’s loan and investment portfolios and its off-balance sheet commitments, and liquidity risk in its loan and deposit-taking operations, the Company’s business activities also generate market risk. Market risk is the risk of loss in a financial instrument arising from adverse changes in market prices and rates, foreign currency exchange rates, commodity prices and equity prices. Declining capital markets and changes in interest rates can result in fair value adjustments to asset valuations or the need to create a related reserve or allowance. The Company does not have any market risk sensitive instruments acquired for trading purposes. The Company’s market risk arises primarily from interest rate risk inherent in its lending, deposit taking and investment activities. During recessionary periods, a declining housing market can result in an increase in loan loss reserves or ultimately an increase in foreclosures. Interest rate risk is directly related to the different maturities and repricing characteristics of interest-bearing assets and liabilities, as well as to loan prepayment risks, early withdrawal of time deposits, and the fact that the speed and magnitude of responses to interest rate changes vary by product. Rapid changes in prevailing interest rates, particularly after a long period of relative stability, create a challenging interest rate environment. As discussed above under "Interest Rate Risk and Asset and Liability Management", the Company actively monitors and manages its interest rate risk through the ALCO process.