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PNFP Pinnacle Financial Partners

Filed: 7 Aug 20, 9:54am
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 June 30, 2020
or
TRANSITION REPORT PURSUANT TO SECTION 13 OF 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934

For the transition period from ____ to ____
Commission File Number: 000-31225
Pinnacle Financial Partners Inc.
pnfp-20200630_g1.jpg, Inc.
(Exact name of registrant as specified in its charter)
Tennessee 62-1812853
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
150 Third Avenue South, Suite 900Nashville,TN 37201
(Address of principal executive offices) (Zip Code)
(615) 744-3700
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year, if changes since last report)

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      No  

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for shorter period that the registrant was required to submit such files).  Yes      No  

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

Large Accelerated Filer       Accelerated Filer  
Non-accelerated Filer         Smaller reporting company
(do not check if you are a 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 Act).     Yes      No  

Securities registered pursuant to Section 12(b) of the Exchange Act:
Title of Each ClassTrading SymbolName of Exchange on which Registered
Common Stock, par value $1.00PNFPThe Nasdaq Stock Market LLC
Depositary Shares (each representing 1/40th interest in a share of 6.75% Fixed-Rate Non-Cumulative Perpetual Preferred Stock, Series B)PNFPPThe Nasdaq Stock Market LLC

As of July 31, 2020 there were 75,844,238 shares of common stock, $1.00 par value per share, issued and outstanding.


Pinnacle Financial Partners, Inc.
Report on Form 10-Q
June 30, 2020


2

FORWARD-LOOKING STATEMENTS

All statements, other than statements of historical fact, included in this report, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. The words "expect," "anticipate," "intend," "may," "aims," "should," "plan," "believe," "seek," "estimate" and similar expressions are intended to identify such forward-looking statements, but other statements not based on historical information may also be considered forward-looking statements. These forward-looking statements are subject to known and unknown risks, uncertainties and other factors that could cause the actual results to differ materially from the statements, including, but not limited to: (i) further deterioration in the financial condition of borrowers of Pinnacle Bank and its subsidiaries or Bankers Healthcare Group, LLC (BHG) resulting in significant increases in loan losses and provisions for those losses and, in the case of BHG, substitutions; (ii) the further effects of the emergence of widespread health emergencies or pandemics, including the magnitude and duration of the COVID-19 pandemic and its impact on general economic and financial market conditions and on Pinnacle Financial's and its customers' business, results of operations, asset quality and financial condition; (iii) the ability to grow and retain low-cost core deposits and retain large, uninsured deposits, including during times when Pinnacle Bank is seeking to lower rates it pays on deposits; (iv) the inability of Pinnacle Financial, or entities in which it has significant investments, like BHG, to maintain the historical growth rate of its, or such entities', loan portfolio; (v) changes in loan underwriting, credit review or loss reserve policies associated with economic conditions, examination conclusions, or regulatory developments; (vi) effectiveness of Pinnacle Financial's asset management activities in improving, resolving or liquidating lower-quality assets; (vii) the impact of competition with other financial institutions, including pricing pressures and the resulting impact on Pinnacle Financial’s results, including as a result of compression to net interest margin; (viii) adverse conditions in the national or local economies including in Pinnacle Financial's markets throughout Tennessee, North Carolina, South Carolina, Georgia and Virginia,  particularly in commercial and residential real estate markets; (ix) fluctuations or differences in interest rates on loans or deposits from those that Pinnacle Financial is modeling or anticipating, including as a result of Pinnacle Bank's inability to better match deposit rates with the changes in the short-term rate environment, or that affect the yield curve; (x) the results of regulatory examinations; (xi) Pinnacle Financial's ability to identify potential candidates for, consummate, and achieve synergies from, potential future acquisitions; (xii) difficulties and delays in integrating acquired businesses or fully realizing costs savings and other benefits from acquisitions; (xiii) BHG's ability to profitably grow its business and successfully execute on its business plans; (xiv) risks of expansion into new geographic or product markets including the recent expansion into the Atlanta, Georgia metro market; (xv) any matter that would cause Pinnacle Financial to conclude that there was impairment of any asset, including goodwill or other intangible assets; (xvi) reduced ability to attract additional financial advisors (or failure of such advisors to cause their clients to switch to Pinnacle Bank), to retain financial advisors (including as a result of the competitive environment for associates) or otherwise to attract customers from other financial institutions; (xvii) deterioration in the valuation of other real estate owned and increased expenses associated therewith; (xviii) inability to comply with regulatory capital requirements, including those resulting from changes to capital calculation methodologies, required capital maintenance levels or regulatory requests or directives, particularly if Pinnacle Bank's level of applicable commercial real estate loans were to exceed percentage levels of total capital in guidelines recommended by its regulators; (xix) approval of the declaration of any dividend by Pinnacle Financial's board of directors; (xx) the vulnerability of Pinnacle Bank's network and online banking portals, and the systems of parties with whom Pinnacle Bank contracts, to unauthorized access, computer viruses, phishing schemes, spam attacks, human error, natural disasters, power loss and other security breaches; (xxi) the possibility of increased compliance and operational costs as a result of increased regulatory oversight (including by the Consumer Financial Protection Bureau), including oversight of companies in which Pinnacle Financial or Pinnacle Bank have significant investments, like BHG, and the development of additional banking products for Pinnacle Bank's corporate and consumer clients;  (xxii) the risks associated with Pinnacle Financial and Pinnacle Bank being a minority investor in BHG, including the risk that the owners of a majority of the equity interests in BHG decide to sell the company if not prohibited from doing so by Pinnacle Financial or Pinnacle Bank; (xxiii) changes in state and federal legislation, regulations or policies applicable to banks and other financial service providers, like BHG, including regulatory or legislative developments; (xxiv) the availability of and access to capital; (xxv) adverse results (including costs, fines, reputational harm, inability to obtain necessary approvals and/or other negative effects) from current or future litigation, regulatory examinations or other legal and/or regulatory actions, including as a result of Pinnacle Bank's participation in and execution of government programs related to the COVID-19 pandemic; and (xxvi) general competitive, economic, political and market conditions. Additional factors which could affect the forward looking statements can be found in Pinnacle Financial's Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, and Current Reports on Form 8-K filed with the SEC and available on the SEC's website at http://www.sec.gov. Pinnacle Financial disclaims any obligation to update or revise any forward-looking statements contained in this report, which speak only as of the date hereof, whether as a result of new information, future events or otherwise.

3


Item 1.Part I. Financial Information

PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
(dollars in thousands, except per share data)June 30, 2020December 31, 2019
ASSETS  
Cash and noninterest-bearing due from banks$213,551  $157,901  
Restricted cash254,593  137,045  
Interest-bearing due from banks2,221,519  210,784  
Federal funds sold and other3,798  20,977  
Cash and cash equivalents2,693,461  526,707  
Securities available-for-sale, at fair value3,310,278  3,539,995  
Securities held-to-maturity (fair value of $1.1 billion, net of allowance for credit losses of $188 at June 30, 2020 and fair value of $201.2 million at Dec. 31, 2019, respectively)1,048,035  188,996  
Consumer loans held-for-sale69,443  81,820  
Commercial loans held-for-sale16,201  17,585  
Loans22,520,300  19,787,876  
Less allowance for credit losses(285,372) (94,777) 
Loans, net22,234,928  19,693,099  
Premises and equipment, net281,739  273,932  
Equity method investment302,879  278,037  
Accrued interest receivable112,675  84,462  
Goodwill1,819,811  1,819,811  
Core deposits and other intangible assets47,131  51,130  
Other real estate owned22,080  29,487  
Other assets1,383,451  1,220,435  
Total assets$33,342,112  $27,805,496  
LIABILITIES AND STOCKHOLDERS' EQUITY  
Deposits:  
Noninterest-bearing$6,892,864  $4,795,476  
Interest-bearing4,815,012  3,630,168  
Savings and money market accounts9,338,719  7,813,939  
Time4,475,234  3,941,445  
Total deposits25,521,829  20,181,028  
Securities sold under agreements to repurchase194,553  126,354  
Federal Home Loan Bank advances1,787,551  2,062,534  
Subordinated debt and other borrowings717,043  749,080  
Accrued interest payable34,916  42,183  
Other liabilities390,573  288,569  
Total liabilities28,646,465  23,449,748  
Stockholders' equity:  
Preferred stock, no par value, 10.0 million shares authorized; 225,000 shares non-cumulative perpetual preferred stock, Series B, liquidation preference $225.0 million, issued and outstanding at June 30, 2020 and no shares issued and outstanding at Dec. 31, 2019, respectively.217,632  —  
Common stock, par value $1.00; 180.0 million shares authorized; 75.8 million and 76.6 million shares issued and outstanding at June 30, 2020 and Dec. 31, 2019, respectively75,836  76,564  
Additional paid-in capital3,019,286  3,064,467  
Retained earnings1,218,367  1,184,183  
Accumulated other comprehensive income, net of taxes164,526  30,534  
Total stockholders' equity4,695,647  4,355,748  
Total liabilities and stockholders' equity$33,342,112  $27,805,496  
See accompanying notes to consolidated financial statements (unaudited).
4

PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
(dollars in thousands, except per share data)Three months ended
June 30,
Six months ended
June 30,
 2020201920202019
Interest income:  
Loans, including fees$226,281  $237,653  $462,701  $467,032  
Securities:  
Taxable9,589  12,243  19,857  25,783  
Tax-exempt14,596  12,556  28,420  24,228  
Federal funds sold and other1,272  3,399  3,829  6,691  
Total interest income251,738  265,851  514,807  523,734  
Interest expense:  
Deposits33,727  58,988  84,425  113,205  
Securities sold under agreements to repurchase94  142  209  287  
Federal Home Loan Bank advances and other borrowings17,260  17,803  35,964  34,078  
Total interest expense51,081  76,933  120,598  147,570  
Net interest income200,657  188,918  394,209  376,164  
Provision for credit losses68,332  7,195  168,221  14,379  
Net interest income after provision for credit losses132,325  181,723  225,988  361,785  
Noninterest income:  
Service charges on deposit accounts6,910  8,940  15,942  17,482  
Investment services5,971  5,868  15,210  11,336  
Insurance sales commissions2,231  2,147  5,471  5,075  
Gain on mortgage loans sold, net19,619  6,011  28,202  10,889  
Investment gains (losses) on sales, net(128) (4,466) 335  (6,426) 
Trust fees3,958  3,461  8,128  6,756  
Income from equity method investment17,208  32,261  32,800  45,551  
Other noninterest income17,185  16,460  37,243  31,082  
Total noninterest income72,954  70,682  143,331  121,745  
Noninterest expense:  
Salaries and employee benefits73,887  75,620  154,367  145,996  
Equipment and occupancy22,026  23,844  43,004  43,175  
Other real estate expense, net2,888  2,523  5,303  2,769  
Marketing and other business development2,142  3,282  5,393  6,230  
Postage and supplies2,070  2,079  4,060  3,971  
Amortization of intangibles2,479  2,271  4,999  4,582  
Other noninterest expense26,113  18,067  51,828  35,014  
Total noninterest expense131,605  127,686  268,954  241,737  
Income before income taxes73,674  124,719  100,365  241,793  
Income tax expense11,230  24,398  9,565  47,512  
Net income$62,444  $100,321  $90,800  $194,281  
Per share information:  
Basic net income per common share$0.83  $1.31  $1.20  $2.54  
Diluted net income per common share$0.83  $1.31  $1.20  $2.53  
Weighted average common shares outstanding:  
Basic75,210,869  76,343,608  75,507,136  76,572,120  
Diluted75,323,259  76,611,657  75,645,768  76,866,163  

See accompanying notes to consolidated financial statements (unaudited).
5

PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
(dollars in thousands)

 Three months ended
June 30,
Six months ended
June 30,
 2020201920202019
Net income$62,444  $100,321  $90,800  $194,281  
Other comprehensive income, net of tax:  
Change in fair value on available-for-sale securities, net of tax36,007  25,514  68,879  61,894  
Change in fair value of cash flow hedges, net of tax4,555  6,613  65,639  6,090  
Amortization (accretion) of net unrealized losses (gains) on securities transferred from available-for-sale to held-to-maturity, net of tax(1,514) 41  (1,981) 70  
Net loss (gain) on cash flow hedges reclassified from other comprehensive income into net income, net of tax(123) 73  1,702  (183) 
Net loss (gain) on sale of investment securities reclassified from other comprehensive income into net income, net of tax95  3,299  (247) 4,746  
Total other comprehensive income, net of tax39,020  35,540  133,992  72,617  
Total comprehensive income$101,464  $135,861  $224,792  $266,898  

See accompanying notes to consolidated financial statements (unaudited).
6

PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(Unaudited)
(dollars and shares in thousands)
 Common Stock  
 Preferred Stock
Amount
SharesAmountsAdditional Paid-in CapitalRetained EarningsAccumulated Other Comp. Income (Loss), netTotal Stockholder's Equity
Balance at December 31, 2018$—  77,484  $77,484  $3,107,431  $833,130  $(52,105) $3,965,940  
Exercise of employee common stock options & related tax benefits—    125  —  —  130  
Common stock dividends paid ($0.16 per share)—  —  —  —  (12,545) —  (12,545) 
Repurchase of common stock—  (543) (543) (29,506) —  —  (30,049) 
Issuance of restricted common shares, net of forfeitures—  180  180  (180) —  —  —  
Restricted shares withheld for taxes & related tax benefit—  (62) (62) (3,425) —  —  (3,487) 
Compensation expense for restricted shares & performance stock units—  —  —  4,913  —  —  4,913  
Net income—  —  —  —  93,960  —  93,960  
Other comprehensive income—  —  —  —  —  37,077  37,077  
Balance at March 31, 2019$—  77,064  $77,064  $3,079,358  $914,545  $(15,028) $4,055,939  
Exercise of employee common stock options & related tax benefits$—   $ $ —  $—  $ 
Common stock dividends paid ($0.16 per share)—  —  —  —  (12,432) —  (12,432) 
Repurchase of common stock—  (132) (132) (7,243) —  —  (7,375) 
Issuance of restricted common shares, net of forfeitures—  10  10  (10) —  —  —  
Restricted shares withheld for taxes & related tax benefit—  (14) (14) (787) —  —  (801) 
Compensation expense for restricted shares & performance stock units—  —  —  5,160  —  —  5,160  
Net income—  —  —  —  100,321  —  100,321  
Other comprehensive income—  —  —  —  —  35,540  35,540  
Balance at June 30, 2019$—  76,929  $76,929  $3,076,486  $1,002,434  $20,512  $4,176,361  













7


 Common Stock  
 Preferred Stock
Amount
SharesAmountsAdditional Paid-in CapitalRetained EarningsAccumulated Other Comp. Income (Loss), netTotal Stockholder's Equity
Balance at December 31, 2019$—  76,564  $76,564  $3,064,467  $1,184,183  $30,534  $4,355,748  
Exercise of employee common stock options & related tax benefits—     —  —   
Common dividends paid ($0.16 per share)—  —  —  —  (12,442) —  (12,442) 
Repurchase of common stock—  (1,015) (1,015) (49,775) —  —  (50,790) 
Issuance of restricted common shares, net of forfeitures—  198  198  (198) —  —  —  
Restricted shares withheld for taxes & related tax benefits—  (32) (32) (1,925) —  —  (1,957) 
Issuance of common stock pursuant to restricted stock unit agreement, net of shares withheld for taxes & related tax benefits—  84  84  (2,553) —  —  (2,469) 
Compensation expense for restricted shares & performance stock units—  —  —  5,501  —  —  5,501  
Net income—  —  —  —  28,356  —  28,356  
Cumulative effect of change in accounting principle—  —  —  —  (31,796) —  (31,796) 
Other comprehensive income—  —  —  —  —  94,972  94,972  
Balance at March 31, 2020$—  75,800  $75,800  $3,015,521  $1,168,301  $125,506  $4,385,128  
Issuance of preferred stock, net of issuance costs$217,632  —  $—  $—  $—  $—  $217,632  
Exercise of employee common stock options & related tax benefits—    216  —  —  225  
Common dividends paid ($0.16 per share)—  —  —  —  (12,378) (12,378) 
Issuance of restricted common shares, net of forfeitures—  38  38  (38) —  —  —  
Restricted shares withheld for taxes & related tax benefits—  (13) (13) (540) —  —  (553) 
Issuance of common stock pursuant to restricted stock unit agreement, net of shares withheld for taxes & related tax benefits—    (21) —  —  (19) 
Compensation expense for restricted shares & performance stock units—  —  —  4,148  —  —  4,148  
Net income—  —  —  —  62,444  —  62,444  
Other comprehensive income—  —  —  —  —  39,020  39,020  
Balance at June 30, 2020$217,632  75,836  $75,836  $3,019,286  $1,218,367  $164,526  $4,695,647  


See accompanying notes to consolidated financial statements (unaudited).
8

PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(dollars in thousands)Six months ended
June 30,
 20202019
Operating activities:  
Net income$90,800  $194,281  
Adjustments to reconcile net income to net cash provided by operating activities:  
Net amortization/accretion of premium/discount on securities16,092  9,029  
Depreciation, amortization and accretion21,031  2,276  
Provision for credit losses168,221  14,379  
Gain on mortgage loans sold, net(28,202) (10,889) 
Investment losses (gains) on sales, net(335) 6,426  
Stock-based compensation expense9,649  10,073  
Deferred tax expense (benefit)(24,038) 6,907  
Losses on dispositions of other real estate and other investments5,033  2,438  
Income from equity method investment(32,800) (45,551) 
  Dividends received from equity method investment7,957  40,914  
Excess tax benefit from stock compensation(590) (701) 
Gain on commercial loans sold, net(1,221) (1,809) 
Commercial loans held for sale:  
Loans originated(180,238) (209,747) 
Loans sold182,844  206,214  
Consumer loans held for sale:  
Loans originated(955,401) (617,164) 
Loans sold995,979  592,244  
Increase in other assets(173,328) (50,505) 
Increase in other liabilities83,745  35,230  
Net cash provided by operating activities185,198  184,045  
Investing activities:  
Activities in securities available-for-sale:  
Purchases(810,119) (670,956) 
Sales100,055  476,702  
Maturities, prepayments and calls186,492  149,344  
Activities in securities held-to-maturity:  
Purchases—  (3,822) 
Maturities, prepayments and calls8,948  6,745  
Increase in loans, net(2,738,112) (1,110,214) 
Purchases of software, premises and equipment(18,663) (28,686) 
Proceeds from sales of software, premises and equipment—  52  
Proceeds from sale of other real estate5,130  3,117  
Purchase of bank owned life insurance policies—  (110,000) 
Proceeds from bank owned life insurance settlements1,690  217  
Proceeds from (payments for) derivative instruments35,680  (37,982) 
Purchase of trade name(1,000) —  
Increase in other investments(26,813) (31,352) 
Net cash used in investing activities(3,256,712) (1,356,835) 
Financing activities:  
Net increase in deposits5,340,992  600,598  
Net increase in securities sold under agreements to repurchase68,199  49,428  
Federal Home Loan Bank: Issuances, net of restructuring charges762,472  2,222,500  
Federal Home Loan Bank: Payments/maturities(1,037,518) (1,706,028) 
Increase in other borrowings, net of issuance costs56,568  —  
Decrease in other borrowings(89,579) (21,152) 
Principal payments of finance lease obligation(120) (111) 
Issuance of preferred stock, net of issuance costs217,632  —  
Issuance of common stock pursuant to restricted stock unit agreement, net of shares withheld for taxes(2,488) —  
Exercise of common stock options, net of repurchase of restricted shares(2,280) (4,149) 
Repurchase of common stock(50,790) (37,424) 
Common stock dividends paid(24,820) (24,977) 
Net cash provided by financing activities5,238,268  1,078,685  
Net increase (decrease) in cash, cash equivalents, and restricted cash2,166,754  (94,105) 
Cash, cash equivalents, and restricted cash, beginning of period526,707  721,692  
Cash, cash equivalents, and restricted cash, end of period$2,693,461  $627,587  
See accompanying notes to consolidated financial statements (unaudited).
9

PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1. Summary of Significant Accounting Policies

Nature of Business — Pinnacle Financial Partners, Inc. (Pinnacle Financial) is a financial holding company whose primary business is conducted by its wholly-owned subsidiary, Pinnacle Bank. Pinnacle Bank is a commercial bank headquartered in Nashville, Tennessee. Pinnacle Financial completed its acquisitions of CapitalMark Bank & Trust (CapitalMark), Magna Bank (Magna), Avenue Financial Holdings, Inc. (Avenue) and BNC Bancorp (BNC) on July 31, 2015, September 1, 2015, July 1, 2016 and June 16, 2017, respectively. Pinnacle Financial and Pinnacle Bank also collectively hold a 49% interest in Bankers Healthcare Group, LLC (BHG), a company that primarily serves as a full-service commercial loan provider to healthcare and other professional practices. Pinnacle Bank provides a full range of banking services, including investment, mortgage, insurance, and comprehensive wealth management services, in its 12 primarily urban markets within Tennessee, the Carolinas, Virginia and beginning in December 2019, Georgia.

On July 2, 2019, Pinnacle Bank acquired all of the outstanding stock of Advocate Capital, Inc. (Advocate Capital) for a cash price of $59.0 million. Advocate Capital is a finance firm headquartered in Nashville, TN which supports the financial needs of legal firms through both case expense financing and working capital lines of credit. Pinnacle Financial accounted for the acquisition of Advocate Capital under the acquisition method in accordance with ASC Topic 805. Accordingly, the purchase price is allocated to the fair value of the assets acquired and liabilities acquired as of the date of acquisition. Determining the fair value of assets and liabilities, particularly illiquid assets and liabilities, is a complicated process involving significant judgment regarding estimates and assumptions used to calculate estimated fair value. At the acquisition date, Advocate Capital's net assets were recorded at a fair value of approximately $45.6 million, consisting mainly of loans receivable. Advocate Capital's $134.3 million of indebtedness was also paid off in connection with consummation of the acquisition. The purchase price allocations for the acquisition of Advocate Capital were finalized during the second quarter of 2020.

Basis of Presentation — The accompanying unaudited consolidated financial statements have been prepared in accordance with instructions to Form 10-Q and therefore do not include all information and footnotes necessary for a fair presentation of financial position, results of operations, and cash flows in conformity with U.S. generally accepted accounting principles (U.S. GAAP).  All adjustments consisting of normally recurring accruals that, in the opinion of management, are necessary for a fair presentation of the financial position and results of operations for the periods covered by the report have been included. The accompanying unaudited consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes appearing in Pinnacle Financial's Annual Report on Form 10-K for the year ended December 31, 2019 (2019 10-K).

These consolidated financial statements include the accounts of Pinnacle Financial and its wholly-owned subsidiaries. Certain statutory trust affiliates of Pinnacle Financial, as noted in Note 11. Other Borrowings are included in these consolidated financial statements pursuant to the equity method of accounting. Significant intercompany transactions and accounts are eliminated in consolidation.

Use of Estimates — The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities as of the balance sheet date and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term include the determination of the allowance for credit losses and determination of any impairment of goodwill or intangible assets. It is reasonably possible Pinnacle Financial's estimate of the allowance for credit losses and determination of impairment of goodwill or intangible assets could change as a result of the continued impact of the COVID-19 pandemic on the economy. The resulting change in these estimates could be material to Pinnacle Financial's consolidated financial statements. There have been no significant changes to Pinnacle Financial's significant accounting policies as disclosed in the 2019 10-K other than those that relate to the allowance for credit losses upon adoption of ASU 2016-13 as described later within Note 1.


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Cash Flow Information — Supplemental cash flow information addressing certain cash and noncash transactions for the six months ended June 30, 2020 and 2019 was as follows (in thousands):
 For the six months ended
June 30,
 20202019
Cash Transactions:  
Interest paid$127,807  $141,208  
Income taxes paid, net23,749  41,928  
Operating lease payments6,750  6,761
Noncash Transactions:  
Loans charged-off to the allowance for credit losses20,695  14,548  
Loans foreclosed upon and transferred to other real estate owned2,442  11,760  
Loans foreclosed upon and transferred to other assets25  93  
Fixed assets transferred to other real estate owned—  5,126  
Available-for-sale securities transferred to held-to-maturity portfolio873,613  —  
Right-of-use asset recognized during the period in exchange for lease obligations (1)
2,928  82,856  
(1) Includes $79.9 million recognized upon initial adoption of ASU 2016-02 on January 1, 2019.

Income Per Common Share — Basic net income per common share (EPS) is computed by dividing net income by the weighted average common shares outstanding for the period. Diluted EPS reflects the dilution that could occur if securities or other contracts to issue common stock were exercised or converted. The difference between basic and diluted weighted average common shares outstanding is attributable to common stock options, restricted share awards, and restricted share unit awards. The dilutive effect of outstanding options, restricted share awards, and restricted share unit awards is reflected in diluted EPS by application of the treasury stock method.

The following is a summary of the basic and diluted net income per common share calculations for the three and six months ended June 30, 2020 and 2019 (in thousands, except per share data):
 Three months ended
June 30,
Six months ended
June 30,
 2020201920202019
Basic net income per common share calculation:  
Numerator - Net income
$62,444  $100,321  $90,800  $194,281  
Denominator - Weighted average common shares outstanding
75,211  76,344  75,507  76,572  
Basic net income per common share$0.83  $1.31  $1.20  $2.54  
Diluted net income per common share calculation:  
Numerator – Net income
$62,444  $100,321  $90,800  $194,281  
Denominator - Weighted average common shares outstanding
75,211  76,344  75,507  76,572  
Dilutive shares contingently issuable112  268  139  294  
Weighted average diluted common shares outstanding75,323  76,612  75,646  76,866  
Diluted net income per common share$0.83  $1.31  $1.20  $2.53  

Allowance for Credit Losses - Loans - As described below under Recently Adopted Accounting Pronouncements, Pinnacle Financial adopted FASB ASC 326 effective January 1, 2020, which requires the estimation of an allowance for credit losses in accordance with the current expected credit loss (CECL) methodology. Pinnacle Financial's management assesses the adequacy of the allowance on a quarterly basis. This assessment includes procedures to estimate the allowance and test the adequacy and appropriateness of the resulting balance. The level of the allowance is based upon management's evaluation of historical default and loss experience, current and projected economic conditions, asset quality trends, known and inherent risks in the portfolio, adverse situations that may affect the borrowers' ability to repay a loan (including the timing of future payments), the estimated value of any underlying collateral, composition of the loan portfolio, industry and peer bank loan quality indications and other pertinent factors, including regulatory recommendations. The level of the allowance for credit losses maintained by management is believed adequate to absorb all expected future losses inherent in the loan portfolio at the balance sheet date. The allowance is increased through provision for credit losses and decreased by charge-offs, net of recoveries of amounts previously charged-off.
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The allowance for credit losses is measured on a collective basis for pools of loans with similar risk characteristics. Pinnacle Financial has identified the following pools of financial assets with similar risk characteristics for measuring expected credit losses:

Owner occupied commercial real estate mortgage loans - Owner occupied commercial real estate mortgage loans are secured by commercial office buildings, industrial buildings, warehouses or retail buildings where the owner of the building occupies the property. For such loans, repayment is largely dependent upon the operation of the borrower's business.
Non-owner occupied commercial real estate loans - These loans represent investment real estate loans secured by office buildings, industrial buildings, warehouses, retail buildings, and multifamily residential housing. Repayment is primarily dependent on lease income generated from the underlying collateral.
Consumer real estate mortgage loans - Consumer real estate mortgage consists primarily of loans secured by 1-4 family residential properties, including home equity lines of credit. Repayment is primarily dependent on the personal cash flow of the borrower.
Construction and land development loans - Construction and land development loans include loans where the repayment is dependent on the successful completion and eventual sale, refinance or operation of the related real estate project. Construction and land development loans include 1-4 family construction projects and commercial construction endeavors such as warehouses, apartments, office and retail space and land acquisition and development.
Commercial and industrial loans - Commercial and industrial loans include loans to business enterprises issued for commercial, industrial and/or other professional purposes. These loans are generally secured by equipment, inventory, and accounts receivable of the borrower and repayment is primarily dependent on business cash flows.
Consumer and other loans - Consumer and other loans include all loans issued to individuals not included in the consumer real estate mortgage classification. Examples of consumer and other loans are automobile loans, consumer credit cards and loans to finance education, among others. Many consumer loans are unsecured. Repayment is primarily dependent on the personal cash flow of the borrower.

For commercial real estate, consumer real estate, construction and land development, and commercial and industrial loans, Pinnacle Financial primarily utilizes a probability of default (PD) and loss given default (LGD) modeling approach. These models utilize historical correlations between default experience and certain macroeconomic factors as determined through a statistical regression analysis. All loan segments modeled using this approach consider changes in the national unemployment rate. In addition to the national unemployment rate, gross domestic product and the three month treasury rate are considered for owner occupied commercial real estate, the commercial real estate price index and the five year treasury rate are considered for construction loans, and the three month treasury rate is considered for commercial and industrial loans. Projections of these macroeconomic factors, obtained from an independent third party, are utilized to predict quarterly rates of default based on the statistical PD models. The predicted quarterly default rates are then applied to the estimated future exposure at default (EAD), as determined based on contractual amortization terms and estimated prepayments. An estimated LGD, determined based on historical loss experience, is applied to the quarterly defaulted balances for each loan segment to estimate future losses of the loan's amortized cost.

Losses are predicted over a period of time determined to be reasonable and supportable, and at the end of the reasonable and supportable period losses are reverted to long term historical averages. The reasonable and supportable period and reversion period are re-evaluated each quarter by Pinnacle Financial and are dependent on the current economic environment among other factors. Upon implementation of CECL on January 1, 2020, a reasonable and supportable period of eighteen months was utilized for all loan segments, followed by a twelve month straight line reversion to long term averages. At June 30, 2020, a reasonable and supportable period of twelve months was used for owner occupied commercial real estate, construction and land development and commercial and industrial, and a reasonable and supportable period of eighteen months was used for all other loan segments. The twelve month straight line reversion period was maintained for all loan segments at June 30, 2020.

For the consumer and other loan segment, a loss rate approach is utilized. For these loans, historical charge off rates are applied to projected future balances, as determined in the same manner as EAD for the statistically modeled loan segments. For credit cards, which have no amortization terms or contractual maturities, future balances are estimated based on expected payment volume applied to the current balance.

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The estimated loan losses for all loan segments are adjusted for changes in qualitative factors not inherently considered in the quantitative analyses. The qualitative categories and the measurements used to quantify the risks within each of these categories are subjectively selected by management, but measured by objective measurements period over period. The data for each measurement may be obtained from internal or external sources. The current period measurements are evaluated and assigned a factor commensurate with the current level of risk relative to past measurements over time. The resulting qualitative adjustments are applied to the relevant collectively evaluated loan portfolios. These adjustments are based upon quarterly trend assessments in portfolio concentrations, policy exceptions, associate retention, independent loan review results, collateral considerations, risk ratings, competition and peer group credit quality trends. The qualitative allowance allocation, as determined by the processes noted above, is increased or decreased for each loan segment based on the assessment of these various qualitative factors.

Loans that do not share similar risk characteristics with the collectively evaluated pools are evaluated on an individual basis and are excluded from the collectively evaluated pools. Individual evaluations are generally performed for loans greater than $1.0 million which have experienced significant credit deterioration. Such loans are evaluated for credit losses based on either discounted cash flows or the fair value of collateral. When management determines that foreclosure is probable, expected credit losses are based on the fair value of the collateral, less selling costs. For loans for which foreclosure is not probable, but for which repayment is expected to be provided substantially through the operation or sale of the collateral, Pinnacle Financial has elected the practical expedient under ASC 326 to estimate expected credit losses based on the fair value of collateral, with selling costs considered in the event sale of the collateral is expected. Loans for which terms have been modified in a troubled debt restructuring (TDR) are evaluated using these same individual evaluation methods. In the event the discounted cash flow method is used for a TDR, the original interest rate is used to discount expected cash flows.

In assessing the adequacy of the allowance for credit losses, Pinnacle Financial considers the results of Pinnacle Financial's ongoing independent loan review process. Pinnacle Financial undertakes this process both to ascertain those loans in the portfolio with elevated credit risk and to assist in its overall evaluation of the risk characteristics of the entire loan portfolio. Its loan review process includes the judgment of management, independent internal loan reviewers and reviews that may have been conducted by third-party reviewers including regulatory examiners. Pinnacle Financial incorporates relevant loan review results in the allowance.

In accordance with CECL, losses are estimated over the remaining contractual terms of loans, adjusted for prepayments. The contractual term excludes expected extensions, renewals and modifications unless management has a reasonable expectation at the reporting date that a troubled debt restructuring will be executed or such renewals, extensions or modifications are included in the original loan agreement and are not unconditionally cancellable by Pinnacle Financial.

Credit losses are estimated on the amortized cost basis of loans, which includes the principal balance outstanding, purchase discounts and premiums, deferred loan fees and costs and accrued interest receivable. Accrued interest receivable is presented separately on the balance sheets and as allowed under ASU 2016-13 is excluded from the tabular loan disclosures in Note 4.

While policies and procedures used to estimate the allowance for credit losses, as well as the resultant provision for credit losses charged to income, are considered adequate by management and are reviewed periodically by regulators, model validators and internal audit, they are necessarily approximate and imprecise. There are factors beyond Pinnacle Financial's control, such as changes in projected economic conditions, real estate markets or particular industry conditions which may materially impact asset quality and the adequacy of the allowance for credit losses and thus the resulting provision for credit losses.

Allowance for Credit Losses on Off Balance Sheet Credit Exposures - Pinnacle Financial estimates expected credit losses over the contractual term of obligations to extend credit, unless the obligation is unconditionally cancellable. The allowance for off balance sheet exposures is adjusted through other noninterest expense. The estimates are determined based on the likelihood of funding during the contractual term and an estimate of credit losses subsequent to funding. Estimated credit losses on subsequently funded balances are based on the same assumptions as used to estimated credit losses on existing funded loans.

Allowance for Credit Losses - Securities Held-to-Maturity - Expected credit losses on debt securities classified as held-to-maturity are measured on a collective basis by major security type. The estimates of expected credit losses are based on historical credit loss information that is adjusted for current conditions and reasonable and supportable forecasts. The models rely on regression analyses to predict PD based on projected macroeconomic factors, including unemployment rates and GDP, among others. At June 30, 2020, Pinnacle Financial's held-to-maturity securities consisted entirely of municipal securities rated A or higher by the ratings agencies. A reasonable and supportable period of 18 months and reversion period of 12 months is utilized to estimate credit losses on held-to-maturity municipal securities. The allowance is increased through provision for credit losses and decreased by charge-offs, net of recoveries of amounts previously charged-off.

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Allowance for Credit Losses - Securities Available-for-Sale - For any securities classified as available-for-sale that are in an unrealized loss position at the balance sheet date, Pinnacle Financial assesses whether or not it intends to sell the security, or more likely than not will be required to sell the security, before recovery of its amortized cost basis. If either criteria is met, the security's amortized cost basis is written down to fair value through net income. If neither criteria is met, Pinnacle Financial evaluates whether any portion of the decline in fair value is the result of credit deterioration. Such evaluations consider the extent to which the amortized cost of the security exceeds its fair value, changes in credit ratings and any other known adverse conditions related to the specific security. If the evaluation indicates that a credit loss exists, an allowance for credit losses is recorded through provisions for credit losses for the amount by which the amortized cost basis of the security exceeds the present value of cash flows expected to be collected, limited by the amount by which the amortized cost exceeds fair value. Any impairment not recognized in the allowance for credit losses is recognized in other comprehensive income.

Recently Adopted Accounting Pronouncements  In January 2017, the FASB issued Accounting Standards Update No. 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment to simplify how entities other than private companies, such as public business entities and not-for-profit entities, are required to test goodwill for impairment by eliminating the comparison of the implied fair value of the reporting unit's goodwill with the carrying amount of that goodwill. The amendments became effective for Pinnacle Financial on January 1, 2020 and did not have a material impact on Pinnacle Financial's consolidated financial statements.

In June 2016, the FASB issued Accounting Standards Update 2016-13,  Financial Instruments - Credit Losses: Measurement of Credit Losses on Financial Instruments (Topic 326), and has issued subsequent amendments thereto, which introduces the current expected credit losses (CECL) methodology. Among other things, ASC 326 requires the measurement of all expected credit losses for financial assets, including loans and held-to-maturity debt securities, held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. The new model requires institutions to calculate all probable and estimable losses that are expected to be incurred through the financial asset's contractual life through a provision for credit losses, including loans obtained as a result of any acquisition not deemed to be purchased credit deteriorated (PCD). ASC 326 also requires the allowance for credit losses for PCD loans to be determined in a manner similar to that of other financial assets measured at amortized cost; however, the initial allowance determined at acquisition is added to the purchase price rather than recorded as provision expense. In accordance with ASC 326, the disclosure of credit quality indicators related to the amortized cost of financing receivables is further disaggregated by year of origination (or vintage). Pinnacle Financial adopted ASU 2016-13 and all subsequent amendments thereto effective January 1, 2020 using the modified retrospective method for all financial assets measured at amortized cost and off balance sheet credit exposures. Amounts for periods beginning on or after January 1, 2020 are presented under ASC 326 and all prior period information is presented in accordance with previously applicable GAAP. At January 1, 2020, Pinnacle Financial recognized a cumulative adjustment to retained earnings of $31.8 million, net of tax, attributable to an increase in the allowance for credit losses of $34.3 million, an increase in the allowance for off balance sheet credit exposures of $8.8 million, and an increase in deferred tax assets of $11.3 million. In addition, an allowance of $3.8 million was recognized on loans purchased with credit deterioration (PCD) previously classified as purchased credit impaired (PCI) with a corresponding adjustment to the gross carrying amount of the loans. Pinnacle Financial adopted ASC 326 using the prospective transition approach for PCD loans, which did not require re-evaluation of whether loans previously classified as PCI loans met the criteria of PCD assets at the date of adoption. The remaining noncredit discount will be accreted into interest income at the effective interest rate as of January 1, 2020.

Newly Issued Not Yet Effective Accounting Standards — In March 2020, the FASB issued Accounting Standards Update 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting, which provides temporary optional guidance to ease the potential burden in accounting for reference rate reform. The ASU provides optional expedients and exceptions for applying generally accepted accounting principles to contract modifications and hedging relationships, subject to meeting certain criteria, that reference LIBOR or another reference rate expected to be discontinued. It is intended to help stakeholders during the global market-wide reference rate transition period. The guidance is effective for all entities as of March 12, 2020 through December 31, 2022. Pinnacle Financial is implementing a transition plan to identify and modify its loans and other financial instruments, including certain indebtedness, with attributes that are either directly or indirectly influenced by LIBOR. Pinnacle Financial is assessing ASU 2020-04 and its impact on the transition away from LIBOR for its loans and other financial instruments.

In January 2020, the FASB issued Accounting Standards Update 2020-01, Investments-Equity Securities (Topic 321), Investments-Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815) - Clarifying the Interactions between Topic 321, Topic 323, and Topic 815. These amendments, among other things, clarify that a company should consider observable transactions that require a company to either apply or discontinue the equity method of accounting under Topic 323,
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Investments-Equity Method and Joint Ventures, for the purposes of applying the measurement alternative in accordance with Topic 321 immediately before applying or upon discontinuing the equity method. The amendments also clarify that, when determining the accounting for certain forward contracts and purchased options a company should not consider, whether upon settlement or exercise, if the underlying securities would be accounted for under the equity method or fair value option. The guidance is effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2020. Early application is permitted, including early adoption in an interim period. An entity should apply ASU 2020-01 prospectively at the beginning of the interim period that includes the adoption date. Pinnacle Financial is assessing ASU 2020-01 and its impact on its accounting and disclosures.

In December 2019, the FASB issued Accounting Standards Update No. 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes to simplify various aspects of the current guidance to promote consistent application of the standard among reporting entities by moving certain exceptions to the general principles. The amendments are effective for fiscal years beginning after December 15, 2020, with early adoption permitted. Pinnacle Financial does not plan to adopt this standard early. If this standard had been effective as of the date of the financial statements included in this report, there would have been no impact on Pinnacle Financial's consolidated financial statements.

Other than those pronouncements discussed above and those which have been recently adopted, we do not believe there were any other recently issued accounting pronouncements that are expected to materially impact Pinnacle Financial.

Reclassifications — Some items in the prior year financial statements were reclassified to conform to the current presentation. Reclassifications had no effect on prior year net income or stockholders' equity.

Subsequent Events — ASC Topic 855,  Subsequent Events, establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued. Pinnacle Financial evaluated all events or transactions that occurred after June 30, 2020 through the date of the issued financial statements.

Note 2. Equity method investment

A summary of BHG's financial position as of June 30, 2020 and December 31, 2019 and results of operations as of and for the three and six months ended June 30, 2020 and 2019, were as follows (in thousands):
 As of
 June 30, 2020December 31, 2019
Assets$1,268,208  $840,398  
Liabilities1,046,948  641,037  
Equity interests221,260  199,361  
Total liabilities and equity$1,268,208  $840,398  

 For the three months ended
June 30,
For the six months ended
June 30,
 2020201920202019
Revenues$92,790  $107,982  $190,734  $170,799  
Net income$37,674  $67,564  $70,145  $94,699  

At June 30, 2020, technology, trade name and customer relationship intangibles, net of related amortization, totaled $8.2 million compared to $8.8 million as of December 31, 2019. Amortization expense of $293,000 and $587,000, respectively, was included for the three and six months ended June 30, 2020 compared to $475,000 and $950,000, respectively, for the same periods in the prior year. Accretion income of $541,000 and $1.1 million, respectively, was included in the three and six months ended June 30, 2020 compared to $660,000 and $1.3 million, respectively, for the same periods in the prior year.

During the three months ended June 30, 2020, Pinnacle Financial and Pinnacle Bank received 0 dividends from BHG. During the six months ended June 30, 2020, Pinnacle Financial and Pinnacle Bank received dividends from BHG of $8.0 million in the aggregate. During the three and six months ended June 30, 2019, Pinnacle Financial and Pinnacle Bank received dividends of $28.2 million and $40.9 million, respectively, in the aggregate. Earnings from BHG are included in Pinnacle Financial's consolidated tax return. Profits from intercompany transactions are eliminated. NaN loans were purchased from BHG by Pinnacle Bank for the three and six month periods ended June 30, 2020 or 2019, respectively.
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Note 3.  Securities

The amortized cost and fair value of securities available-for-sale and held-to-maturity at June 30, 2020 and December 31, 2019 are summarized as follows (in thousands):
 Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
June 30, 2020:    
Securities available-for-sale:    
U.S. Treasury securities$72,482  $130  $—  $72,612  
U.S. government agency securities74,939  1,404  32  76,311  
Mortgage-backed securities1,661,910  77,923  1,387  1,738,446  
State and municipal securities1,182,925  28,447  31,643  1,179,729  
Asset-backed securities142,504  521  2,610  140,415  
Corporate notes and other106,923  499  4,657  102,765  
 $3,241,683  $108,924  $40,329  $3,310,278  
Securities held-to-maturity:    
State and municipal securities$1,048,223  $19,387  $6,377  $1,061,233  
 $1,048,223  $19,387  $6,377  $1,061,233  
Allowance for credit losses - securities held-to-maturity(188) 
Securities held-to-maturity, net of allowance for credit losses$1,048,035  

December 31, 2019:    
Securities available-for-sale:    
U.S. Treasury securities$72,862  $19  $14  $72,867  
U.S. government agency securities80,096  306  710  79,692  
Mortgage-backed securities1,458,894  12,789  7,776  1,463,907  
State and municipal securities1,669,606  52,096  7,249  1,714,453  
Asset-backed securities153,963  302  1,293  152,972  
Corporate notes and other56,212  635  743  56,104  
 $3,491,633  $66,147  17,785  $3,539,995  
Securities held-to-maturity:    
State and municipal securities$188,996  $12,221  $—  $201,217  
 $188,996  $12,221  $—  $201,217  
 
During the first quarter of 2020, Pinnacle Financial transferred, at fair value, $873.6 million of municipal securities from the available-for-sale portfolio to the held-to-maturity portfolio. The related unrealized after tax gains of $69.0 million remained in accumulated other comprehensive income (loss) and will be amortized over the remaining life of the securities, offsetting the related amortization of discount on the transferred securities. No gains or losses were recognized at the time of transfer. At June 30, 2020, approximately $1.3 billion of securities within Pinnacle Financial's investment portfolio were pledged to secure either public funds and other deposits or securities sold under agreements to repurchase. At June 30, 2020, repurchase agreements comprised of secured borrowings totaled $194.6 million and were secured by $194.6 million of pledged U.S. government agency securities, municipal securities, asset-backed securities, and corporate debentures. As the fair value of securities pledged to secure repurchase agreements may decline, Pinnacle Financial regularly evaluates its need to pledge additional securities to remain adequately secured.

The amortized cost and fair value of debt securities as of June 30, 2020 by contractual maturity are shown below. Actual maturities may differ from contractual maturities of mortgage- and asset-backed securities since the mortgages and assets underlying the securities may be called or prepaid with or without penalty. Therefore, these securities are not included in the maturity categories in the following summary (in thousands):
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 Available-for-saleHeld-to-maturity
June 30, 2020:Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
Due in one year or less$73,636  $73,774  $—  $—  
Due in one year to five years9,378  9,640  1,000  1,047  
Due in five years to ten years173,763  174,310  2,905  2,979  
Due after ten years1,180,492  1,173,693  1,044,318  1,057,207  
Mortgage-backed securities1,661,910  1,738,446  —  —  
Asset-backed securities142,504  140,415  —  —  
 $3,241,683  $3,310,278  $1,048,223  $1,061,233  

At June 30, 2020 and December 31, 2019, the following investments had unrealized losses. The table below classifies these investments according to the term of the unrealized losses of less than twelve months or twelve months or longer (in thousands):
 Investments with an Unrealized Loss of
less than 12 months
Investments with an Unrealized Loss of
12 months or longer
Total Investments with an
Unrealized Loss
 Fair ValueUnrealized LossesFair ValueUnrealized LossesFair ValueUnrealized
Losses
At June 30, 2020      
U.S. Treasury securities$—  $—  $—  $—  $—  $—  
U.S. government agency securities—  —  6,507  32  6,507  32  
Mortgage-backed securities59,233  614  43,978  773  103,211  1,387  
State and municipal securities182,186  3,557  496,371  28,448  678,557  32,005  
Asset-backed securities59,994  1,260  54,376  1,350  114,370  2,610  
Corporate notes43,808  1,548  18,650  3,109  62,458  4,657  
Total temporarily-impaired securities$345,221  $6,979  $619,882  $33,712  $965,103  $40,691  
At December 31, 2019      
U.S. Treasury securities$40,505  $14  $—  $—  $40,505  $14  
U.S. government agency securities1,222   30,892  709  32,114  710  
Mortgage-backed securities458,881  5,102  163,767  2,674  622,648  7,776  
State and municipal securities204,958  1,938  244,884  5,311  449,842  7,249  
Asset-backed securities75,488  796  59,816  497  135,304  1,293  
Corporate notes—  —  16,908  743  16,908  743  
Total temporarily-impaired securities$781,054  $7,851  $516,267  $9,934  $1,297,321  $17,785  

The applicable dates for determining when securities were in an unrealized loss position were June 30, 2020 and December 31, 2019. As such, it is possible that a security had a market value less than its amortized cost on other days during the past twelve-month periods ended June 30, 2020 and December 31, 2019, but is not in the "Investments with an Unrealized Loss of less than 12 months" category above.

As shown in the tables above, including both available-for-sale and held-to-maturity investment securities, at June 30, 2020, Pinnacle Financial had approximately $40.7 million in unrealized losses on $965.1 million of securities. The unrealized losses associated with $873.6 million and $179.8 million of municipal securities transferred from the available-for-sale portfolio to the held-to-maturity portfolio during the quarters ended March 31, 2020 and September 30, 2018, respectively, represent unrealized losses since the date of purchase, independent of the impact associated with changes in the cost basis upon transfer between portfolios. As described in Note 1. Summary of Significant Accounting Policies, for any securities classified as available-for-sale that are in an unrealized loss position at the balance sheet date, Pinnacle Financial assesses whether or not it intends to sell the security, or more likely than not will be required to sell the security, before recovery of its amortized cost basis which would require a write-down to fair value through net income. Because Pinnacle Financial currently does not intend to sell those securities that have an unrealized loss at June 30, 2020, and it is not more-likely-than-not that Pinnacle Financial will be required to sell the securities before recovery of their amortized cost bases, which may be maturity, Pinnacle Financial has determined that no write-down is necessary. In addition, Pinnacle Financial evaluates whether any portion of the decline in fair value is the result of credit deterioration, which would require the recognition of an allowance for credit losses. Such evaluations consider the extent to which the amortized cost of the security exceeds its fair value, changes in credit ratings and any other known adverse conditions related to the specific security. The unrealized losses associated with securities at June 30, 2020 are driven by changes in interest rates and are not due to the credit quality of the securities, and accordingly, no allowance for credit losses is considered necessary related to available-for-sale securities at June 30,
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2020. These securities will continue to be monitored as a part of Pinnacle Financial's ongoing evaluation of credit quality. Management evaluates the financial performance of the issuers on a quarterly basis to determine if it is probable that the issuers can make all contractual principal and interest payments.

The allowance for credit losses on held-to-maturity securities is measured on a collective basis by major security type as described in Note 1. Summary of Significant Accounting Policies. At June 30, 2020, Pinnacle Financial's held-to-maturity securities consist entirely of municipal securities. A reasonable and supportable period of 18 months and reversion period of 12 months was utilized to estimate credit losses on held-to-maturity municipal securities at June 30, 2020. With the implementation of CECL effective January 1, 2020, estimated credit losses on held-to-maturity municipal securities totaled approximately $10,000. At June 30, 2020, the estimated allowance for credit losses on these securities increased to $188,000, with the increase driven largely by changes in macroeconomic projections.

Pinnacle Financial utilizes bond credit ratings assigned by third party ratings agencies to monitor the credit quality of debt securities held-to-maturity. At June 30, 2020, all debt securities classified as held-to-maturity were rated A or higher by the ratings agencies. Updated credit ratings are obtained as they become available from the ratings agencies.

Periodically, available-for-sale securities may be sold or the composition of the portfolio realigned to improve yields, quality or marketability, or to implement changes in investment or asset/liability strategy, including maintaining collateral requirements and raising funds for liquidity purposes or preparing for anticipated changes in market interest rates. Additionally, if an available-for-sale security loses its investment grade or tax-exempt status, the underlying credit support is terminated or collection otherwise becomes uncertain based on factors known to management, Pinnacle Financial will consider selling the security, but will review each security on a case-by-case basis as these factors become known. Consistent with the investment policy, during the six months ended June 30, 2020, available-for-sale securities of approximately $100.1 million were sold and net unrealized gains, net of tax, of $247,000 were reclassified from accumulated other comprehensive income into net income.

The carrying values of Pinnacle Financial's investment securities could decline in the future if the financial condition of issuers deteriorates and management determines it is probable that Pinnacle Financial will not recover the entire amortized cost bases of the securities. As a result, there is a risk that other-than-temporary impairment charges may occur in the future. Additionally, there is a risk that other-than-temporary impairment charges may occur in the future if management's intention to hold these securities to maturity and/or recovery changes. Pinnacle Financial has entered into various fair value hedging transactions to mitigate the impact of changing interest rates on the fair values of available for sale securities. See Note 8. Derivative Instruments for disclosure of the gains and losses recognized on derivative instruments and the cumulative fair value hedging adjustments to the carrying amount of the hedged securities.

Note 4. Loans and Allowance for Credit Losses

For financial reporting purposes, Pinnacle Financial classifies its loan portfolio based on the underlying collateral utilized to secure each loan. This classification is consistent with those utilized in the Quarterly Report of Condition and Income filed by Pinnacle Bank with the Federal Deposit Insurance Corporation (FDIC).

Pinnacle Financial uses the following loan categories for presentation of loan balances and the related allowance for credit losses on loans:
Owner occupied commercial real estate mortgage loans - Owner occupied commercial real estate mortgage loans are secured by commercial office buildings, industrial buildings, warehouses or retail buildings where the owner of the building occupies the property. For such loans, repayment is largely dependent upon the operation of the borrower's business.
Non-owner occupied commercial real estate loans - These loans represent investment real estate loans secured by office buildings, industrial buildings, warehouses, retail buildings, and multifamily residential housing. Repayment is primarily dependent on lease income generated from the underlying collateral.
Consumer real estate mortgage loans - Consumer real estate mortgage consists primarily of loans secured by 1-4 family residential properties, including home equity lines of credit. Repayment is primarily dependent on the personal cash flow of the borrower.
Construction and land development loans - Construction and land development loans include loans where the repayment is dependent on the successful completion and eventual sale, refinance or operation of the related real estate project. Construction and land development loans include 1-4 family construction projects and commercial construction endeavors such as warehouses, apartments, office and retail space and land acquisition and development.
Commercial and industrial loans - Commercial and industrial loans include loans to business enterprises issued for commercial, industrial and/or other professional purposes. These loans are generally secured by equipment, inventory, and
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accounts receivable of the borrower and repayment is primarily dependent on business cash flows. Loans amounting to $2.3 billion which were granted under the Paycheck Protection Program are included in this category.
Consumer and other loans - Consumer and other loans include all loans issued to individuals not included in the consumer real estate mortgage classification. Examples of consumer and other loans are automobile loans, consumer credit cards and loans to finance education, among others. Many consumer loans are unsecured. Repayment is primarily dependent on the personal cash flow of the borrower.


Loans at June 30, 2020 and December 31, 2019 were as follows:
June 30, 2020December 31, 2019
Commercial real estate:
Owner occupied$2,708,306  $2,669,766  
Non-owner occupied5,384,018  5,039,452  
Consumer real estate – mortgage3,042,604  3,068,625  
Construction and land development2,574,494  2,430,483  
Commercial and industrial8,516,333  6,290,296  
Consumer and other294,545  289,254  
Subtotal$22,520,300  $19,787,876  
Allowance for credit losses(285,372) (94,777) 
Loans, net$22,234,928  $19,693,099  

Commercial loans receive risk ratings assigned by a financial advisor subject to validation by Pinnacle Financial's independent loan review department. Risk ratings are categorized as pass, special mention, substandard, substandard-nonaccrual or doubtful-nonaccrual. Pass rated loans include six distinct ratings categories for loans that represent specific attributes. Pinnacle Financial believes that its categories follow those used by Pinnacle Bank's primary regulators. At June 30, 2020, approximately 82.5% of Pinnacle Financial's loan portfolio was analyzed as a commercial loan type with a specifically assigned risk rating. Consumer loans and small business loans are generally not assigned an individual risk rating but are evaluated as either accrual or nonaccrual based on the performance of the individual loans. However, certain consumer real estate-mortgage loans and certain consumer and other loans receive a specific risk rating due to the loan proceeds being used for commercial purposes even though the collateral may be of a consumer loan nature. Consumer loans that have been placed on nonaccrual but have not otherwise been assigned a risk rating are believed by management to share risk characteristics with loans rated substandard-nonaccrual and have been presented as such in Pinnacle Financial's risk rating disclosures.
 
Risk ratings are subject to continual review by a financial advisor and a senior credit officer. At least annually, Pinnacle Financial's credit procedures require every risk rated loan of $1.0 million or more be subject to a formal credit risk review process. Each loan's risk rating is also subject to review by Pinnacle Financial's independent loan review department, which reviews a substantial portion of Pinnacle Financial's risk rated portfolio annually. Included in the coverage are independent loan reviews of loans in targeted higher-risk portfolio segments such as certain commercial and industrial loans, land loans and/or loan types in certain geographies. During the second quarter of 2020, Pinnacle Financial performed an in-depth review of all risk-graded loans greater than $1.0 million for which we had granted the borrower the ability to defer the payment of principal and/or interest for a period of up to 90 days following the COVID-19 outbreak. Pinnacle Financial also performed an in-depth review of all of its hotel and retail commercial real estate loans greater than $1.0 million regardless of their receipt of deferral.

Following are the definitions of the risk rating categories used by Pinnacle Financial. Pass rated loans include all credits other than those included within these categories:

Special mention loans have potential weaknesses that deserve management's close attention.  If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in Pinnacle Financial's credit position at some future date.
Substandard loans are inadequately protected by the current net worth and financial capacity of the obligor or of the collateral pledged, if any.  Assets so classified must have a well-defined weakness or weaknesses that jeopardize collection of the debt.  Substandard loans are characterized by the distinct possibility that Pinnacle Financial could sustain some loss if the deficiencies are not corrected.
Substandard-nonaccrual loans are substandard loans that have been placed on nonaccrual status.
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Doubtful-nonaccrual loans have all the characteristics of substandard-nonaccrual loans with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable.
The table below presents loan balances classified within each risk rating category by primary loan type and based on year of origination as of June 30, 2020 (in thousands):
June 30, 202020202019201820172016PriorRevolving LoansTotal
Commercial real estate- owner occupied
Pass$342,164  $485,461  $509,788  $388,684  $389,384  $347,423  $64,075  $2,526,979  
Special Mention2,445  8,612  23,239  11,957  5,563  5,775  —  57,591  
Substandard (1)
18,292  6,902  6,877  18,256  12,685  3,880  45,038  111,930  
Substandard-nonaccrual821  442  2,138  2,611  1,595  4,089  110  11,806  
Doubtful-nonaccrual—  —  —  —  —  —  —  —  
Total Commercial real estate - owner occupied$363,722  $501,417  $542,042  $421,508  $409,227  $361,167  $109,223  $2,708,306  
Commercial real estate- Non-owner occupied
Pass$798,839  $1,154,829  $867,521  $623,990  $574,543  $476,052  $71,274  $4,567,048  
Special Mention46,818  170,003  95,155  163,384  174,600  136,136  284  786,380  
Substandard (1)
6,068  1,484  4,976  3,541  1,072  2,995  —  20,136  
Substandard-nonaccrual—  3,717  763  147  1,071  4,756  —  10,454  
Doubtful-nonaccrual—  —  —  —  —  —  —  —  
Total Commercial real estate - Non-owner occupied$851,725  $1,330,033  $968,415  $791,062  $751,286  $619,939  $71,558  $5,384,018  
Consumer real estate – mortgage
Pass$276,995  $590,211  $409,497  $200,643  $156,708  $387,684  $974,695  $2,996,433  
Special Mention493  2,697  3,314  645  —  1,025  8,739  16,913  
Substandard (1)
932  1,200  —  900  378  2,141  470  6,021  
Substandard-nonaccrual491  1,488  921  1,439  3,027  11,489  4,382  23,237  
Doubtful-nonaccrual—  —  —  —  —  —  —  —  
Total Consumer real estate – mortgage$278,911  $595,596  $413,732  $203,627  $160,113  $402,339  $988,286  $3,042,604  
Construction and land development
Pass$594,375  $1,216,171  $487,354  $126,976  $20,375  $11,501  $21,788  $2,478,540  
Special Mention6,750  32,465  47,324  —  4,243  —  —  90,782  
Substandard (1)
824  687  31  —  240  160  —  1,942  
Substandard-nonaccrual322  565  275  87  —  1,981  —  3,230  
Doubtful-nonaccrual—  —  —  —  —  —  —  —  
Total Construction and land development$602,271  $1,249,888  $534,984  $127,063  $24,858  $13,642  $21,788  $2,574,494  
Commercial and industrial
Pass$3,293,463  $1,359,904  $889,189  $436,566  $166,155  $114,273  $2,001,673  $8,261,223  
Special Mention11,101  54,226  15,780  16,176  7,897  1,958  22,232  129,370  
Substandard (1)
6,657  46,915  15,328  2,993  616  2,571  36,881  111,961  
Substandard-nonaccrual2,894  6,122  517  877  262  259  2,848  13,779  
Doubtful-nonaccrual—  —  —  —  —  —  —  —  
 Total Commercial and industrial$3,314,115  $1,467,167  $920,814  $456,612  $174,930  $119,061  $2,063,634  $8,516,333  
Consumer and other
Pass$47,178  $29,683  $9,739  $10,453  $6,082  $2,962  $188,337  $294,434  
Special Mention—  —  —  —  —  —    
Substandard (1)
—  —  —  —  —  —  47  47  
Substandard-nonaccrual—  —   43    —  55  
Doubtful-nonaccrual—  —  —  —  —  —  —  —  
Total Consumer and other$47,178  $29,683  $9,743  $10,496  $6,087  $2,965  $188,393  $294,545  
Total loans
Pass$5,353,014  $4,836,259  $3,173,088  $1,787,312  $1,313,247  $1,339,895  $3,321,842  $21,124,657  
Special Mention67,607  268,003  184,812  192,162  192,303  144,894  31,264  1,081,045  
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June 30, 202020202019201820172016PriorRevolving LoansTotal
Substandard (1)
32,773  57,188  27,212  25,690  14,991  11,747  82,436  252,037  
Substandard-nonaccrual4,528  12,334  4,618  5,204  5,960  22,577  7,340  62,561  
Doubtful-nonaccrual—  —  —  —  —  —  —  —  
Total loans$5,457,922  $5,173,784  $3,389,730  $2,010,368  $1,526,501  $1,519,113  $3,442,882  $22,520,300  

The following table outlines the risk category of loans as of December 31, 2019 (in thousands):

 Commercial real estate - mortgageConsumer real estate - mortgageConstruction and land developmentCommercial and industrialConsumer and otherTotal
December 31, 2019      
Pass$7,499,725  $3,019,203  $2,422,347  $6,069,757  $288,361  $19,299,393  
Special Mention51,147  13,787  2,816  79,819  698  148,267  
Substandard (1)
139,518  10,969  3,042  125,035  47  278,611  
Substandard-nonaccrual18,828  24,666  2,278  15,685  148  61,605  
Doubtful-nonaccrual—  —  —  —  —  —  
Total loans$7,709,218  $3,068,625  $2,430,483  $6,290,296  $289,254  $19,787,876  

(1) Potential problem loans represent those loans with a well-defined weakness and where information about possible credit problems of borrowers has caused management to have doubts about the borrower's ability to comply with present repayment terms. This definition is believed to be substantially consistent with the standards established by Pinnacle Bank's primary regulators for loans classified as substandard, excluding troubled debt restructurings. Potential problem loans, which are not included in nonaccrual loans, amounted to approximately $251.3 million at June 30, 2020, compared to $276.0 million at December 31, 2019.

The table below presents the aging of past due balances by loan segment at June 30, 2020 and December 31, 2019 (in thousands):
June 30, 202030-59 days past due60-89 days past due90 days or more past dueTotal past dueCurrentTotal loans
Commercial real estate:
Owner-occupied$2,446  $1,241  $4,943  $8,630  $2,699,676  $2,708,306  
Non-owner occupied576  64  9,950  10,590  5,373,428  5,384,018  
Consumer real estate – mortgage3,318  1,557  5,917  10,792  3,031,812  3,042,604  
Construction and land development1,461  598  2,154  4,213  2,570,281  2,574,494  
Commercial and industrial7,641  2,651  4,991  15,283  8,501,050  8,516,333  
Consumer and other1,580  23  548  2,151  292,394  294,545  
Total$17,022  $6,134  $28,503  $28,503  $51,659  $22,468,641  $22,520,300  
December 31, 2019
Commercial real estate:
Owner-occupied$2,307  $2,932  $1,719  $6,958  $2,662,808  $2,669,766  
Non-owner occupied3,156  3,641  3,816  10,613  5,028,839  5,039,452  
Consumer real estate – mortgage11,646  2,157  7,304  21,107  3,047,518  3,068,625  
Construction and land development1,392  711  1,487  3,590  2,426,893  2,430,483  
Commercial and industrial8,474  2,478  6,364  17,316  6,272,980  6,290,296  
Consumer and other1,770  414  570  2,754  286,500  289,254  
Total$28,745  $12,333  $21,260  $21,260  $62,338  $19,725,538  $19,787,876  


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The following table details the changes in the allowance for credit losses for the three and six months ended June 30, 2020 and 2019, respectively, by loan classification (in thousands):
 Commercial real estate - Owner occupiedCommercial real estate - Non-owner occupiedConsumer
real estate - mortgage
Construction and land developmentCommercial and industrialConsumer
and other
UnallocatedTotal
Three months ended June 30, 2020:
Balance at March 31, 2020$23,634  $32,114  $32,998  $38,911  $88,060  $6,748  $—  $222,465  
Charged-off loans—  (2) (1,196) —  (6,734) (1,070) —  (9,002) 
Recovery of previously charged-off loans80  106  484  50  2,249  648  —  3,617  
Provision for credit losses on loans15,089  36,208  (2,928) 2,936  17,035  (48) —  68,292  
Balance at June 30, 2020$38,803  $68,426  $29,358  $41,897  $100,610  $6,278  $—  $285,372  
Three months ended June 30, 2019:       
Balance at March 31, 2019$12,618  $17,549  $8,369  $10,915  $32,699  $4,803  $241  $87,194  
Charged-off loans(1,065) —  (580) (4) (5,408) (1,423) —  (8,480) 
Recovery of previously charged-off loans16  876  372  19  2,744  317  —  4,344  
Provision for credit losses on loans605  227  328  276  7,401  (1,583) (59) 7,195  
Balance at June 30, 2019$12,174  $18,652  $8,489  $11,206  $37,436  $2,114  $182  $90,253  
Six months ended June 30, 2020:       
Balance at December 31, 2019$13,406  $19,963  $8,054  $12,662  $36,112  $3,595  $985  $94,777  
Impact of adopting ASC 326264  (4,740) 21,029  (3,144) 23,040  2,638  (985) 38,102  
Charged-off loans(1,061) (263) (2,126) —  (14,998) (2,247) —  (20,695) 
Recovery of previously charged-off loans225  199  674  93  2,997  967  —  5,155  
Provision for credit losses on loans25,969  53,267  1,727  32,286  53,459  1,325  —  168,033  
Balance at June 30, 2020$38,803  $68,426  $29,358  $41,897  $100,610  $6,278  $—  $285,372  
Six months ended June 30, 2019:       
Balance at December 31, 2018$11,297  $15,649  $7,670  $11,128  $31,731  $5,423  $677  $83,575  
Charged-off loans(1,586) (13) (930) (4) (8,760) (3,255) —  (14,548) 
Recovery of previously charged-off loans76  888  741  141  4,342  659  —  6,847  
Provision for credit losses on loans2,387  2,128  1,008  (59) 10,123  (713) (495) 14,379  
Balance at June 30, 2019$12,174  $18,652  $8,489  $11,206  $37,436  $2,114  $182  $90,253  

The following table details the allowance for credit losses on loans and recorded investment in loans by loan classification and by impairment evaluation method as of December 31, 2019, as determined in accordance with ASC 310 prior to the adoption of ASU 2016-13 (in thousands):
 Commercial real estate - mortgageConsumer
real estate - mortgage
Construction and land developmentCommercial and industrialConsumer
and other
UnallocatedTotal
December 31, 2019       
Allowance for Loan Losses:       
Collectively evaluated for impairment$32,134  $6,762  $12,629  $35,401  $3,586  $90,512  
Individually evaluated for impairment1,235  1,292  33  711   3,280  
Loans acquired with deteriorated credit quality(1)
—  —  —  —  —  —  
Total allowance for loan losses$33,369  $8,054  $12,662  $36,112  $3,595  $985  $94,777  
Loans:       
Collectively evaluated for impairment$7,681,608  $3,036,922  $2,426,901  $6,274,280  $289,106   $19,708,817  
Individually evaluated for impairment18,122  25,018  561  14,295  148   58,144  
Loans acquired with deteriorated credit quality9,488  6,685  3,021  1,721  —   20,915  
Total loans$7,709,218  $3,068,625  $2,430,483  $6,290,296  $289,254   $19,787,876  
(1) Prior to the adoption of ASC 326 on January 1, 2020, an allowance for loan losses was recorded on loans acquired with deteriorated credit quality only in the event of additional credit deterioration subsequent to acquisition.

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The adequacy of the allowance for credit losses is reviewed by Pinnacle Financial's management on a quarterly basis. This assessment includes procedures to estimate the allowance and test the adequacy and appropriateness of the resulting balance. The level of the allowance is based upon management's evaluation of historical default and loss experience, current and projected economic conditions, asset quality trends, known and inherent risks in the portfolio, adverse situations that may affect the borrowers' ability to repay the loan (including the timing of future payment), the estimated value of any underlying collateral, composition of the loan portfolio, industry and peer bank loan quality indications and other pertinent factors, including regulatory recommendations. The level of the allowance for credit losses maintained by management is believed adequate to absorb all expected future losses inherent in the loan portfolio at the balance sheet date. The allowance is increased by provisions charged to expense and decreased by charge-offs, net of recoveries of amounts previously charged-off.

As described in Note 1. Summary of Significant Accounting Policies, Pinnacle Financial adopted ASU 2016-13 on January 1, 2020, which introduced the CECL methodology for estimating all expected losses over the life of a financial asset. Under the CECL methodology the allowance for credit losses is measured on a collective basis for pools of loans with similar risk characteristics, and for loans that do not share similar risk characteristics with the collectively evaluated pools, evaluations are performed on an individual basis. For all loan segments collectively evaluated, losses are predicted over a period of time determined to be reasonable and supportable, and at the end of the reasonable and supportable period losses are reverted to long term historical averages. Upon implementation of ASU 2016-13 on January 1, 2020, Pinnacle Financial utilized a reasonable and supportable period of eighteen months for all loan segments, followed by a twelve month straight line reversion to long term averages. At June 30, 2020, a reasonable and supportable period of twelve months was utilized for owner occupied commercial real estate, construction and land development, and commercial and industrial in response to the relatively high level of economic uncertainly related to the ongoing COVID-19 pandemic. For all other loan segments, the reasonable and supportable period of eighteen months was maintained as longer variable lag structures are used within their statistical models, which inherently mitigates the uncertainty in the economic projections by placing less reliance on sudden changes in the projections. The twelve month straight line reversion period was maintained for all loan segments at June 30, 2020. Upon adoption of ASU 2016-13, the opening balance of the allowance for credit losses was increased by $38.1 million through retained earnings. The additional increase during the three months ended June 30, 2020 is primarily attributable to the change in projected economic conditions resulting from the COVID-19 pandemic, with the projected increase in the unemployment rate being the most significant driver.

The following table presents the amortized cost basis of collateral dependent loans, which are individually evaluated to determine
expected credit losses:
June 30, 2020Real EstateBusiness AssetsOtherTotal
Commercial real estate:
Owner-occupied16,215  —  —  16,215  
Non-owner occupied14,447  —  —  14,447  
Consumer real estate – mortgage29,385  —  —  29,385  
Construction and land development4,452  —  —  4,452  
Commercial and industrial482  14,769  309  15,560  
Consumer and other—  —  48  48  
Total$64,981  $14,769  $357  $80,107  


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The table below presents the amortized cost basis of loans on nonaccrual status and loans past due 90 or more days and still accruing interest at June 30, 2020 and December 31, 2019. Also presented is the balance of loans on nonaccrual status at June 30, 2020 for which there was no related allowance for credit losses recorded (in thousands):
June 30, 2020December 31, 2019
Total nonaccrual loansNonaccrual loans with no allowance for credit lossesLoans past due 90 or more days and still accruingTotal nonaccrual loansLoans past due 90 or more days and still accruing
Commercial real estate:
Owner-occupied$11,806  $4,325  $—  $11,654  $—  
Non-owner occupied10,454  7,540  —  7,173  —  
Consumer real estate – mortgage23,237  —  18  24,667  168  
Construction and land development3,230  1,222  —  2,278  —  
Commercial and industrial13,780  6,753  1,459  15,685  946  
Consumer and other55  —  505  148  501  
Total$62,562  $19,840  $1,982  $61,605  $1,615  
Pinnacle Financial's policy is the accrual of interest income will be discontinued when (1) there is a significant deterioration in the financial condition of the borrower and full repayment of principal and interest is not expected or (2) the principal or interest is more than 90 days past due, unless the loan is both well secured and in the process of collection. As such, at the date loans are placed on nonaccrual status, Pinnacle Financial reverses all previously accrued interest income against current year earnings. Pinnacle Financial's policy is once a loan is placed on nonaccrual status each subsequent payment is reviewed on a case-by-case basis to determine if the payment should be applied to interest or principal pursuant to regulatory guidelines. Pinnacle Financial recognized 0 interest income from cash payments received on nonaccrual loans during the three and six months ended June 30, 2020, compared to $89,000 and $176,000 during the three and six months ended June 30, 2019, respectively. Had these nonaccruing loans been on accruing status, interest income would have been higher by $854,000 and $1.6 million for the three and six months ended June 30, 2020, respectively, compared to $1.4 million and $2.6 million higher for the three and six months ended June 30, 2019, respectively. Approximately $32.1 million and $35.8 million of nonaccrual loans as of June 30, 2020 and December 31, 2019, respectively, were performing pursuant to their contractual terms at those dates.

The following table presents impaired loans at December 31, 2019 as determined under ASC 310 prior to the adoption of ASU 2016-13. Impaired loans generally include nonaccrual loans, troubled debt restructurings, and other loans deemed to be impaired but that continue to accrue interest. Presented are the recorded investment, unpaid principal balance and related allowance of impaired loans at December 31, 2019 by loan classification (in thousands):
 At December 31, 2019
 Recorded investmentUnpaid principal balancesRelated allowance
Impaired loans with an allowance:   
Commercial real estate – mortgage$9,998  $10,983  $1,235  
Consumer real estate – mortgage20,996  23,105  1,292  
Construction and land development542  654  33  
Commercial and industrial4,074  5,381  711  
Consumer and other148  182   
Total$35,758  $40,305  $3,280  
Impaired loans without an allowance:   
Commercial real estate – mortgage$8,124  $8,891  $—  
Consumer real estate – mortgage4,022  4,021  —  
Construction and land development19  17  —  
Commercial and industrial10,221  11,322  —  
Consumer and other—  —  —  
Total$22,386  $24,251  $—  
Total impaired loans$58,144  $64,556  $3,280  

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The following table details the average recorded investment and the amount of interest income recognized on a cash basis for the three and six months ended June 30, 2019, respectively, of impaired loans by loan classification as determined under ASC 310 prior to the adoption of ASU 2016-13 (in thousands):
 Three months endedSix months ended
 Average recorded investmentInterest income recognizedAverage recorded investmentInterest income recognized
Impaired loans with an allowance:  
Commercial real estate – mortgage$15,589  $—  $15,097  $—  
Consumer real estate – mortgage22,219  —  21,434  —  
Construction and land development747  —  692  —  
Commercial and industrial9,718  —  9,563  —  
Consumer and other221  —  475  —  
Total$48,494  $—  $47,261  $—  
Impaired loans without an allowance:    
Commercial real estate – mortgage$13,503  $89  $13,910  $176  
Consumer real estate – mortgage10,658  —  9,521  —  
Construction and land development—  —  595  —  
Commercial and industrial13,505  —  13,868  —  
Consumer and other—  —  —  —  
Total$37,666  $89  $37,894  $176  
Total impaired loans$86,160  $89  $85,155  $176  

Prior to the adoption of ASU 2016-13, loans acquired with deteriorated credit quality, referred to under ASC 310-30 as purchased credit impaired loans and under ASU 2016-13 as purchased credit deteriorated loans, were assigned a credit related purchase discount and non-credit related purchase discount at acquisition. Upon adoption of ASU 2016-13 on January 1, 2020, the remaining credit related discount was re-classified to a component of the allowance for credit losses. The remaining non-credit discount will continue to be accreted into income over the remaining lives of the related loans. The following table provides a rollforward of purchased credit deteriorated loans from December 31, 2019 through June 30, 2020 (in thousands):
 Gross Carrying ValueAccretable
Yield
Nonaccretable
Yield
Net Carrying
Value
December 31, 2019$29,544  $(4,801) $(3,828) $20,915  
Reclassification of discount to allowance for credit losses—  —  3,828  3,828  
Year-to-date settlements(3,152) 1,939  —  (1,213) 
June 30, 2020$26,392  $(2,862) $—  $23,530  

The carrying value is adjusted for additional draws, pursuant to contractual arrangements, offset by loan paydowns. Year-to-date settlements include both loans that were charged-off as well as loans that were paid off, typically as a result of refinancings at other institutions.

At June 30, 2020 and December 31, 2019, there were $3.3 million and $4.9 million, respectively, of troubled debt restructurings that were performing as of their restructure date and which were accruing interest. Troubled commercial loans are restructured by specialists within Pinnacle Bank's Special Assets Group, and all restructurings are approved by committees and/or credit officers separate and apart from the normal loan approval process.  These specialists are charged with reducing Pinnacle Financial's overall risk and exposure to loss in the event of a restructuring by obtaining some or all of the following: improved documentation, additional guaranties, increase in curtailments, reduction in collateral release terms, additional collateral or other similar strategies.


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The following table outlines the amount of each loan category where troubled debt restructurings were made during the three and six months ended June 30, 2020 and 2019 (dollars in thousands):
Three Months Ended
June 30,
Six Months Ended
June 30,
Number
of contracts
Pre Modification Outstanding Recorded InvestmentPost Modification Outstanding Recorded Investment, net of related allowanceNumber
of contracts
Pre Modification Outstanding Recorded InvestmentPost Modification Outstanding Recorded Investment, net of related allowance
2020
Commercial real estate:
Owner-occupied—  $—  $—  —  $—  $—  
Non-owner occupied—  —  —  —  —  —  
Consumer real estate – mortgage—  —  —   807  807  
Construction and land development—  —  —  —  —  —  
Commercial and industrial—  —  —  —  —  —  
Consumer and other—  —  —  —  —  —  
—  $—  $—   $807  $807  
2019
Commercial real estate:—  $—  $—  —  $—  $—  
Consumer real estate – mortgage 712  626   712  626  
Construction and land development 21  19   21  19  
Commercial and industrial 1,397  796   1,397  796  
Consumer and other—  —  —  —  —  —  
 $2,130  $1,441   $2,130  $1,441  

There were no troubled debt restructurings made during the three months ended June 30, 2020. During the six months ended June 30, 2020 and 2019, there were 0 troubled debt restructurings that subsequently defaulted within twelve months of the restructuring.

In response to the COVID-19 pandemic and its economic impact to its customers, Pinnacle Bank implemented a short-term modification program in accordance with interagency regulatory guidance to provide temporary payment relief to those borrowers directly impacted by COVID-19 who were not more than 30 days past due at the time of the modification. This program allows for a deferral of payments for 90 days, which Pinnacle Bank may extend for an additional 90 days, for a maximum of 180 days on a cumulative and successive basis. Pursuant to the interagency regulatory guidance, Pinnacle Financial may elect to not classify loans for which these deferrals are granted as troubled debt restructurings.

Pinnacle Financial analyzes its commercial loan portfolio to determine if a concentration of credit risk exists to any industries. Pinnacle Financial utilizes broadly accepted industry classification systems in order to classify borrowers into various industry classifications.  Pinnacle Financial has a credit exposure (loans outstanding plus unfunded lines of credit) exceeding 25% of Pinnacle Bank's total risk-based capital to borrowers in the following industries at June 30, 2020 with the comparative exposures for December 31, 2019 (in thousands):
 June 30, 2020 
 Outstanding Principal BalancesUnfunded CommitmentsTotal exposureTotal Exposure at
December 31, 2019
Lessors of nonresidential buildings$3,780,487  $907,096  $4,687,583  $4,578,116  
Lessors of residential buildings1,046,928  773,602  1,820,530  1,599,837  
New Housing For-Sale Builders529,797  608,139  1,137,936  1,090,603  
Hotels (except Casino Hotels) and Motels874,824  155,778  1,030,602  967,771  


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Pinnacle Financial monitors two ratios regarding construction and commercial real estate lending as part of its concentration management processes.  Both ratios are calculated by dividing certain types of loan balances for each of the two categories by Pinnacle Bank’s total risk-based capital. At both June 30, 2020 and December 31, 2019, Pinnacle Bank’s construction and land development loans as a percentage of total risk-based capital were 83.6%. Non-owner occupied commercial real estate and multifamily loans (including construction and land development loans) as a percentage of total risk-based capital were 275.0% and 268.3% as of June 30, 2020 and December 31, 2019, respectively. Banking regulations have established guidelines for the construction ratio of less than 100% of total risk-based capital and for the non-owner occupied ratio of less than 300% of total risk-based capital. When a bank’s ratios are in excess of one or both of these guidelines, banking regulations generally require an increased level of monitoring in these lending areas by bank management. At June 30, 2020, Pinnacle Bank was within the 100% and 300% guidelines and has established what it believes to be appropriate controls to monitor its lending in these areas as it aims to keep the level of these loans below the 100% and 300% thresholds.

At June 30, 2020, Pinnacle Bank had granted loans and other extensions of credit amounting to approximately $11.1 million to current directors, executive officers, and their related entities, of which $7.1 million had been drawn upon. At December 31, 2019, Pinnacle Bank had granted loans and other extensions of credit amounting to approximately $10.6 million to directors, executive officers, and their related entities, of which approximately $6.8 million had been drawn upon. All loans to directors, executive officers, and their related entities were performing in accordance with contractual terms at June 30, 2020 and December 31, 2019.

At June 30, 2020, Pinnacle Financial had approximately $16.2 million in commercial loans held for sale compared to $17.6 million at December 31, 2019, which primarily included commercial real estate and apartment loans originated for sale to a third-party as part of a multi-family loan program. Such loans are closed under a pass-through commitment structure wherein Pinnacle Bank's loan commitment to the borrower is the same as the third party's take-out commitment to Pinnacle Bank and the third party purchase typically occurs within thirty days of Pinnacle Bank closing with the borrowers.

Residential Lending

At June 30, 2020, Pinnacle Financial had approximately $53.7 million of mortgage loans held-for-sale compared to approximately $61.6 million at December 31, 2019. Total loan volumes sold during the six months ended June 30, 2020 were approximately $837.4 million compared to approximately $485.6 million for the six months ended June 30, 2019. During the three and six months ended June 30, 2020, Pinnacle Financial recognized $19.6 million and $28.2 million, respectively, in gains on the sale of these loans, net of commissions paid, compared to $6.0 million and $10.9 million, respectively, net of commissions paid, during the three and six months ended June 30, 2019.

These mortgage loans held-for-sale are originated internally and are primarily to borrowers in Pinnacle Bank's geographic markets. These sales are typically on a mandatory basis to investors that follow conventional government sponsored entities (GSE) and the Department of Housing and Urban Development/U.S. Department of Veterans Affairs (HUD/VA) guidelines.
 
Each purchaser of a mortgage loan held-for-sale has specific guidelines and criteria for sellers of loans and the risk of credit loss with regard to the principal amount of the loans sold is generally transferred to the purchasers upon sale. While the loans are sold without recourse, the purchase agreements require Pinnacle Bank to make certain representations and warranties regarding the existence and sufficiency of file documentation and the absence of fraud by borrowers or other third parties such as appraisers in connection with obtaining the loan. If it is determined that the loans sold were in breach of these representations or warranties, Pinnacle Bank has obligations to either repurchase the loan for the unpaid principal balance and related investor fees or make the purchaser whole for the economic benefits of the loan. To date, Pinnacle Bank's liability pursuant to the terms of these representations and warranties has been insignificant to Pinnacle Bank.

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Note 5. Income Taxes

ASC 740, Income Taxes, defines the threshold for recognizing the benefits of tax return positions in the financial statements as "more-likely-than-not" to be sustained by the taxing authority. This section also provides guidance on the derecognition, measurement and classification of income tax uncertainties, along with any related interest and penalties, and includes guidance concerning accounting for income tax uncertainties in interim periods.
 
The unrecognized tax benefit related to uncertain tax positions related to state income tax filings was $6.9 million at June 30, 2020 and December 31, 2019, respectively. No change was recorded to the unrecognized tax benefit related to uncertain tax positions in each of the three and six month periods ended June 30, 2020 and 2019.

Pinnacle Financial's policy is to recognize interest and/or penalties related to income tax matters in income tax expense. For both the three and six months ended June 30, 2020 and 2019, respectively, there were 0 interest and penalties recorded in the income statement.

Pinnacle Financial's effective tax rate for the three and six months ended June 30, 2020 was expense of 15.2% and 9.5%, respectively, compared to expense of 19.6% for the three and six months ended June 30, 2019. The difference between the effective tax rate and the federal and state income tax statutory rate of 26.14% at June 30, 2020 and 2019 is primarily due to investments in bank qualified municipal securities, tax benefits of Pinnacle Bank's real estate investment trust subsidiary, participation in the Tennessee Community Investment Tax Credit (CITC) program, and tax benefits associated with share-based compensation, bank-owned life insurance and our captive insurance subsidiary, offset in part by the limitation on deductibility of meals and entertainment expense, non-deductible executive compensation and non-deductible FDIC premiums.

Income tax expense is also impacted by the vesting of equity-based awards and the exercise of employee stock options, which expense or benefit is recorded as a discrete item as a component of total income tax, the amount of which is dependent upon the change in the grant date fair value and the vest date fair value of the underlying award. Accordingly, for the three and six months ended June 30, 2020 we recognized excess tax expense of $272,000 and benefits of $590,000, respectively, compared to excess tax expense of $68,000 and benefits of $701,000, respectively, for the three and six months ended June 30, 2019. For the six months ended June 30, 2020, income tax expense was also impacted by provision for credit losses, including provision for credit losses resulting from the COVID-19 pandemic, which was recorded as a discrete item as a component of total income tax. Accordingly, we recognized a tax benefit of $22.4 million for the six months ended June 30, 2020.
 
Note 6. Commitments and Contingent Liabilities

In the normal course of business, Pinnacle Bank has entered into off-balance sheet financial instruments which include commitments to extend credit (i.e., including unfunded lines of credit) and standby letters of credit. Commitments to extend credit are usually the result of lines of credit granted to existing borrowers under agreements that the total outstanding indebtedness will not exceed a specific amount during the term of the indebtedness. Typical borrowers are commercial concerns that use lines of credit to supplement their treasury management functions, and thus their total outstanding indebtedness may fluctuate during any time period based on the seasonality of their business and the resultant timing of their cash flows. Other typical lines of credit are related to home equity loans granted to consumers. Commitments to extend credit generally have fixed expiration dates or other termination clauses and may require payment of a fee. At June 30, 2020, these commitments amounted to $8.7 billion, of which approximately $1.1 billion related to home equity lines of credit.

Standby letters of credit are generally issued on behalf of an applicant (Pinnacle Bank's customer) to a specifically named beneficiary and are the result of a particular business arrangement that exists between the applicant and the beneficiary.  Standby letters of credit have fixed expiration dates and are usually for terms of two years or less unless terminated beforehand due to criteria specified in the standby letter of credit. A typical arrangement involves the applicant routinely being indebted to the beneficiary for such items as inventory purchases, insurance, utilities, lease guarantees or other third party commercial transactions. The standby letter of credit would permit the beneficiary to obtain payment from Pinnacle Bank under certain prescribed circumstances. Subsequently, Pinnacle Bank would then seek reimbursement from the applicant pursuant to the terms of the standby letter of credit. At June 30, 2020, these commitments amounted to $213.3 million.

Pinnacle Bank typically follows the same credit policies and underwriting practices when making these commitments as it does for on-balance sheet instruments. Each customer's creditworthiness is typically evaluated on a case-by-case basis, and the amount of collateral obtained, if any, is based on management's credit evaluation of the customer. Collateral held varies but may include cash, real estate and improvements, marketable securities, accounts receivable, inventory, equipment and personal property.
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The contractual amounts of these commitments are not reflected in the consolidated financial statements and only amounts drawn upon would be reflected in the future. Since many of the commitments are expected to expire without being drawn upon, the contractual amounts do not necessarily represent future cash requirements. However, should the commitments be drawn upon and should Pinnacle Bank's customers default on their resulting obligation to Pinnacle Bank, the maximum exposure to credit loss, without consideration of collateral, is represented by the contractual amount of those commitments. At June 30, 2020 and December 31, 2019, Pinnacle Financial had accrued $20.8 million and $2.4 million, respectively, for the inherent risks associated with these off-balance sheet commitments. The adoption of ASU 2016-13 effective January 1, 2020, which introduced the CECL methodology for measuring credit losses, as discussed more fully in Note. 1 Summary of Significant Accounting Policies, increased the opening balance of our accrual for off-balance sheet commitments at adoption by $8.8 million. The remainder of the increase is largely attributable to the anticipated economic impact of the COVID-19 pandemic and its effect on Pinnacle Financial's CECL credit loss modeling for the three and six months ended June 30, 2020.

In June 2020, a purported class action lawsuit was filed against Pinnacle Bank alleging, among other claims, that Pinnacle Bank failed to pay fees to purported agents of PPP borrowers that the plaintiff alleges were owed under the PPP in violation of SBA regulations. Pinnacle Bank disputes the plaintiff’s claims and intends to vigorously defend itself in connection with this proceeding.

Various legal claims also arise from time to time in the normal course of business. In the opinion of management, the resolutions of these claims outstanding at June 30, 2020 are not expected to have a material adverse impact on Pinnacle Financial's consolidated financial condition, operating results or cash flows.

Note 7.  Stock Options and Restricted Shares

The 2018 Omnibus Equity Incentive Plan (the "2018 Plan") permits Pinnacle Financial to reissue outstanding awards that are subsequently forfeited, settled in cash, withheld by Pinnacle Financial to cover withholding taxes or expire unexercised and returned to the 2018 Plan. At June 30, 2020, there were approximately 838,996 shares available for issuance under the 2018 Plan.

The BNC Bancorp 2013 Amended and Restated Omnibus Stock Incentive Plan (the "BNC Plan") was assumed by Pinnacle Financial in connection with its merger with BNC. As of June 30, 2020, there were 0 shares remaining available for issuance from the BNC Plan. NaN new awards may be granted under equity incentive plans of Pinnacle Financial other than the 2018 Plan.

Upon the acquisition of CapitalMark, Pinnacle Financial assumed approximately 858,000 stock options under the CapitalMark Option Plan. NaN further awards remain available for issuance under the CapitalMark Option Plan. At June 30, 2020, all of the remaining options outstanding were granted under the CapitalMark Option Plan.

Common Stock Options

A summary of the stock option activity within the equity incentive plans during the six months ended June 30, 2020 and information regarding expected vesting, contractual terms remaining, intrinsic values and other matters is as follows:
 NumberWeighted-Average
Exercise
Price
Weighted-Average
Contractual
Remaining Term
(in years)
Aggregate
Intrinsic
Value
(000's)
 
Outstanding at December 31, 2019119,274  $23.45  2.85$4,837  
(1)
Granted—     
 
Exercised(9,787)    
 
Forfeited—     
 
Outstanding at June 30, 2020109,487  $23.44  2.35$2,031  
(2)
Options exercisable at June 30, 2020109,487  $23.44  2.35$2,031  
(2)

(1)The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying awards and the quoted closing price of Pinnacle Financial common stock of $64.00 per common share at December 31, 2019 for the 119,274 options that were in-the-money at December 31, 2019.
(2)The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying awards and the quoted closing price of Pinnacle Financial common stock of $41.99 per common share at June 30, 2020 for the 109,487 options that were in-the-money at June 30, 2020.

Compensation costs related to stock options granted under Pinnacle Financial's equity incentive plans have been fully recognized and all outstanding option awards are fully vested.


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Restricted Share Awards

A summary of activity for unvested restricted share awards for the six months ended June 30, 2020 is as follows:
 NumberGrant Date
Weighted-Average Cost
Unvested at December 31, 2019555,296  $57.04  
Shares awarded249,545  58.07
Restrictions lapsed and shares released to associates/directors(167,615) 55.90
Shares forfeited (1)
(12,586) 59.97
Unvested at June 30, 2020624,640  $57.70  
(1)Represents shares forfeited due to employee termination and/or retirement. NaN shares were forfeited due to failure to meet performance targets.

Pinnacle Financial has granted restricted share awards to associates and outside directors with a time-based vesting criteria. Compensation expense associated with time-based vesting restricted share awards is recognized over the time period that the restrictions associated with the awards lapse on a straight-line basis based on the total cost of the award. The following table outlines restricted stock grants that were made, grouped by similar vesting criteria, during the six months ended June 30, 2020. The table reflects the life-to-date activity for these awards:
Grant
Year
Group (1)
Vesting
Period in years
Shares
awarded
Restrictions Lapsed and shares released to participants
Shares Forfeited by participants (4)
Shares Unvested
Time Based Awards      
2020
Associates (2)
3 -5231,020  97  2,973  227,950  
Outside Director Awards (3)
      
2020Outside directors118,525  —  —  18,525  

(1)Groups include employees (referred to as associates above) and outside directors. When the restricted shares are awarded, a participant receives voting rights and forfeitable dividend rights with respect to the shares, but is not able to transfer the shares until the restrictions have lapsed. Once the restrictions lapse, the participant is taxed on the value of the award and may elect to sell some shares (or have Pinnacle Financial withhold some shares) to pay the applicable income taxes associated with the award. Alternatively, the recipient can pay the withholding taxes in cash. For time-based vesting restricted share awards, dividends paid on shares for which the forfeiture restrictions do not lapse will be recouped by Pinnacle Financial at the time of termination. For performance-based vesting awards to Pinnacle Financial's directors, dividends are placed into escrow until the forfeiture restrictions on such shares lapse.
(2)The forfeiture restrictions on these restricted share awards lapse in equal annual installments on the anniversary date of the grant.
(3)Restricted share awards are issued to the outside members of the board of directors in accordance with their board compensation plan. Restrictions lapse on February 28, 2021 based on each individual board member meeting their attendance goals for the various board and board committee meetings to which each member was scheduled to attend.
(4)These shares represent forfeitures resulting from recipients whose employment or board membership was terminated during the year-to-date period ended June 30, 2020. Any dividends paid on shares for which the forfeiture restrictions do not lapse will be recouped by Pinnacle Financial at the time of termination or will not be distributed from escrow, as applicable.


30


Performance-based Vesting Restricted Stock Units

The following table details the performance-based vesting restricted stock unit awards outstanding at June 30, 2020:
 Units Awarded    
Grant year
Named Executive Officers
(NEOs) (1)
Leadership Team other than NEOsApplicable Performance Periods associated with each tranche
(fiscal year)
Service period per tranche
(in years)
Subsequent holding period per tranche
(in years)
Period in which units to be settled into shares of common stock(2)
2020136,137204,220  59,648  2020232025
2021222025
2022212025
2019166,211-249,343  52,244  2019232024
2020222024
2021212024
201896,878-145,339  25,990  2018232023
2019222023
2020212023
201772,537-109,339  24,916  2017232022
   2018222022
   2019212022
201673,474-110,223  26,683  2016232021
   2017222021
   2018212021
(1)The named executive officers are awarded a range of awards that may be earned based on attainment of goals between a target level of performance and a maximum level of performance.
(2)Restricted share unit awards, if earned, will be settled in shares of Pinnacle Financial Common Stock in the periods noted in the table, if Pinnacle Bank's ratio of non-performing assets to its loans plus ORE is less than amounts established in the applicable award agreement.

During the six months ended June 30, 2020, the restrictions associated with 129,723 performance-based vesting restricted stock unit awards granted in prior years and lapsed, based on the terms of the agreement and approval by Pinnacle Financial's Human Resources and Compensation Committee, and were settled into shares of Pinnacle Financial common stock with 43,996 shares being withheld to pay the taxes associated with the settlement of those shares.

Stock compensation expense related to both restricted share awards and restricted share units for the three and six months ended June 30, 2020 was $4.1 million and $9.6 million, respectively, compared to $5.2 million and $10.1 million, respectively, for the three and six months ended June 30, 2019. As of the June 30, 2020, the total compensation cost related to unvested restricted share awards and performance-based vesting restricted stock units not yet recognized was $45.1 million. This expense, if the underlying units are earned, is expected to be recognized over a weighted-average period of 2.06 years.


Note 8. Derivative Instruments

Financial derivatives are reported at fair value in other assets or other liabilities. The accounting for changes in the fair value of a derivative depends on whether it has been designated and qualifies as part of a hedging relationship.

Non-hedge derivatives

For derivatives not designated as hedges, the gain or loss is recognized in current period earnings. Pinnacle Financial enters into interest rate swaps (swaps) to facilitate customer transactions and meet their financing needs. Upon entering into these instruments to meet customer needs, Pinnacle Financial enters into offsetting positions in order to minimize the risk to Pinnacle Financial. These swaps qualify as derivatives, but are not designated as hedging instruments. The income statement impact of the offsetting positions is limited to changes in the reserve for counterparty credit risk. A summary of Pinnacle Financial's interest rate swaps to facilitate customers' transactions as of June 30, 2020 and December 31, 2019 is included in the following table (in thousands):
31

 June 30, 2020December 31, 2019
 Balance Sheet LocationNotional
Amount
Estimated
Fair Value
Notional
Amount
Estimated
Fair Value
Interest rate swap agreements:    
AssetsOther assets$1,526,515  $122,073  $1,296,389  $43,507  
LiabilitiesOther liabilities1,526,515  (123,418) 1,296,389  (43,715) 
Total$3,053,030  $(1,345) $2,592,778  $(208) 

The effects of Pinnacle Financial's interest rate swaps to facilitate customers' transactions on the income statement during the three and six months ended June 30, 2020 and 2019 were as follows (in thousands):
Amount of Loss Recognized in Income
Location of Loss Recognized in IncomeThree Months Ended June 30,Six Months Ended June 30,
2020201920202019
Interest rate swap agreementsOther noninterest income$(794) $(89) $(1,137) $(102) 

Derivatives designated as cash flow hedges

For derivative instruments that are designated and qualify as a cash flow hedge, the aggregate fair value of the derivative instrument is recorded in other assets or other liabilities with any gain or loss related to changes in fair value recorded in accumulated other comprehensive income, net of tax. The gain or loss is reclassified into earnings in the same period during which the hedged asset or liability affects earnings and is presented in the same income statement line item as the earnings effect of the hedged asset or liability. Pinnacle Financial uses interest rate floors in an effort to mitigate the impact of declining interest rates on LIBOR-based variable rate loans. Pinnacle Financial uses forward cash flow hedges in an effort to manage future interest rate exposure on borrowings. The hedging strategy converts the LIBOR-based variable interest rate on forecasted borrowings to a fixed interest rate and is used in an effort to protect Pinnacle Financial from floating interest rate variability. A summary of Pinnacle Financial's cash flow hedge relationships as of June 30, 2020 and December 31, 2019 is as follows (in thousands):

June 30, 2020December 31, 2019
Balance Sheet LocationWeighted Average Remaining Maturity (In Years)Weighted Average Pay RateReceive RateNotional
Amount
Estimated
Fair Value
Notional
Amount
Estimated
Fair Value
Asset derivatives
Interest rate floorOther assets4.44—%2.25% minus 1 month LIBOR$1,500,000  $142,560  $2,800,000  $87,422  
Liability derivatives
Interest rate swapsOther liabilities1.853.09%3 month LIBOR$99,000  $(5,261) $99,000  $(3,312) 

The effects of Pinnacle Financial's cash flow hedge relationships on the statement of comprehensive income (loss) during the three and six months ended June 30, 2020 and 2019 were as follows, net of tax (in thousands):

Amount of Gain (Loss) Recognized
in Other Comprehensive Income (Loss)
Three Months Ended June 30,Six Months Ended June 30,
Asset derivatives2020201920202019
Interest rate floor - loans$6,318  $7,924  $71,667  $7,924  
Liability derivatives
Interest rate swaps - borrowings$141  $(980) $(1,439) $(1,503) 
$6,459  $6,944  $70,228  $6,421  

The cash flow hedges were determined to be highly effective during the periods presented and as a result qualify for hedge accounting treatment. The hedge would no longer be considered effective if a portion of the hedge becomes ineffective, the item hedged is no longer in existence or Pinnacle Financial discontinues hedge accounting. Pinnacle Financial expects the hedges at June 30, 2020 to continue to be highly effective and qualify for hedge accounting during the remaining terms of the original hedging transactions. Gains totaling $123,000 net of tax and losses totaling $1.7 million net of tax were reclassified from accumulated other
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comprehensive income (loss) into net income during the three and six months ended June 30, 2020, respectively, compared to losses totaling $73,000 net of tax and gains totaling $183,000 net of tax during the three and six months ended June 30, 2019, respectively. During the first quarter of 2020, loan interest rate floors entered into in the second quarter of 2019 with a notional amount totaling $1.3 billion and unrealized gains totaling $16.5 million were terminated. These unrealized gains are being amortized into income on a straight line basis through October 2021. Approximately $8.1 million in unrealized gains, net of tax, are expected to be reclassified from accumulated other comprehensive income (loss) into net income over the next twelve months related to terminated cash flow hedges.

Derivatives designated as fair value hedges

For derivative instruments that are designated and qualify as a fair value hedge, the gain or loss on the derivative instrument as well as the offsetting loss or gain on the hedged asset or liability attributable to the hedged risk are recognized in current earnings. The gain or loss on the derivative instrument is presented on the same income statement line item as the earnings effect of the hedged item. Pinnacle Financial utilizes interest rate swaps designated as fair value hedges to mitigate the effect of changing interest rates on the fair values of fixed rate callable available-for-sale securities. The hedging strategy converts the fixed interest rates to LIBOR-based variable interest rates. These derivatives are designated as partial term hedges of selected cash flows covering specified periods of time prior to the call dates of the hedged securities.

A summary of Pinnacle Financial's fair value hedge relationships as of June 30, 2020 and December 31, 2019 is as follows (in thousands):
June 30, 2020December 31, 2019
Balance Sheet LocationWeighted Average Remaining Maturity (In Years)Weighted Average Pay RateReceive RateNotional AmountEstimated Fair ValueNotional AmountEstimated Fair Value
Liability derivatives
Interest rate swap agreements - securitiesOther liabilities6.543.08%3 month LIBOR$477,905  $(82,210) $477,905  $(40,778) 

The effects of Pinnacle Financial's fair value hedge relationships on the income statement during the three and six months ended June 30, 2020 and 2019 were as follows (in thousands):
Location of Loss on DerivativeAmount of Loss Recognized in Income
Three Months Ended June 30,Six Months Ended June 30,
Liability derivatives2020201920202019
Interest rate swaps - securitiesInterest income on securities$(2,559) $(15,963) $(41,432) $(26,243) 
Interest rate swaps - loansInterest income on loans$—  $(2,061) $—  $(6,915) 

Location of Gain on Hedged ItemAmount of Gain Recognized in Income
Three Months Ended June 30,Six Months Ended June 30,
Liability derivatives - hedged items2020201920202019
Interest rate swaps - securitiesInterest income on securities$2,559  $15,963  $41,432  $26,243  
Interest rate swaps - loansInterest income on loans$—  $2,061  $—  $6,915  
The following amounts were recorded on the balance sheet related to cumulative basis adjustments for fair value hedges at June 30, 2020 and December 31, 2019 (in thousands):
Carrying Amount of the Hedged AssetsCumulative Amount of Fair Value Hedging Adjustment Included in the Carrying Amount of the Hedged Assets
June 30, 2020December 31, 2019June 30, 2020December 31, 2019
Line item on the balance sheet
Securities available-for-sale$591,147  $551,789  $82,210  $40,778  

During the three and six months ended June 30, 2020, amortization expense totaling $1.0 million and $2.1 million, respectively, related to previously terminated fair value hedges was recognized as a reduction to interest income on loans.


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Note 9. Fair Value of Financial Instruments

FASB ASC 820, Fair Value Measurements and Disclosures, defines fair value, establishes a framework for measuring fair value in U.S. GAAP and expands disclosures about fair value measurements.  The definition of fair value focuses on the exit price, i.e., 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, not the entry price, i.e., the price that would be paid to acquire the asset or received to assume the liability at the measurement date.  The statement emphasizes that fair value is a market-based measurement; not an entity-specific measurement.  Therefore, the fair value measurement should be determined based on the assumptions that market participants would use in pricing the asset or liability.

Valuation Hierarchy

FASB ASC 820 establishes a three-level valuation hierarchy for disclosure of fair value measurements. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date. The three levels are defined as follows:

Level 1 – inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.
Level 2 – 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.
Level 3 – inputs to the valuation methodology are unobservable and significant to the fair value measurement.

A financial instrument's categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement. The following is a description of the valuation methodologies used for assets and liabilities measured at fair value, as well as the general classification of such assets and liabilities pursuant to the valuation hierarchy.

Assets

Securities available-for-sale – Where quoted prices are available for identical securities in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 securities include highly liquid government securities and certain other financial products. If quoted market prices are not available, then fair values are estimated by using pricing models that use observable inputs or quoted prices of securities with similar characteristics and are classified within Level 2 of the valuation hierarchy. In certain cases where there is limited activity or less transparency around inputs to the valuation and more complex pricing models or discounted cash flows are used, securities are classified within Level 3 of the valuation hierarchy.

Other investments – Included in other investments are investments recorded at fair value primarily in certain nonpublic investments and funds. The valuation of these nonpublic investments requires management judgment due to the absence of observable quoted market prices, inherent lack of liquidity and the long-term nature of such assets. These investments are valued initially based upon transaction price. The carrying values of other investments are adjusted either upwards or downwards from the transaction price to reflect expected exit values as evidenced by financing and sale transactions with third parties, or when determination of a valuation adjustment is confirmed through ongoing reviews by senior investment managers. A variety of factors are reviewed and monitored to assess positive and negative changes in valuation including, but not limited to, current operating performance and future expectations of the particular investment, industry valuations of comparable public companies and changes in market outlook and the third-party financing environment over time. In determining valuation adjustments resulting from the investment review process, emphasis is placed on current company performance and market conditions. These investments are included in Level 3 of the valuation hierarchy if the entities and funds are not widely traded and the underlying investments are in privately-held and/or start-up companies for which market values are not readily available. Certain investments in funds for which the underlying assets of the fund represent publicly traded investments are included in Level 2 of the valuation hierarchy.

Other assets – Included in other assets are certain assets carried at fair value, including interest rate swap agreements to facilitate customer transactions, interest rate floors designated as cash flow hedges, and interest rate locks associated with the mortgage loan pipeline.  The carrying amount of interest rate swap agreements is based on Pinnacle Financial's pricing models that utilize observable market inputs. The fair value of the cash flow hedge agreements is determined by calculating the difference between the discounted fixed rate cash flows and the discounted variable rate cash flows.  The fair value of the mortgage loan pipeline is based upon the projected sales price of the underlying loans, taking into account market interest rates and other market factors at the measurement date, net of the projected fallout rate.  Pinnacle Financial reflects these assets within Level 2 of the valuation hierarchy as these assets are valued using similar transactions that occur in the market.

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Collateral dependent loans – Collateral dependent loans are measured at the fair value of the collateral securing the loan less estimated selling costs. The fair value of real estate collateral is determined based on real estate appraisals which are generally based on recent sales of comparable properties which are then adjusted for property specific factors. Non real estate collateral is valued based on various sources, including third party asset valuations and internally determined values based on cost adjusted for depreciation and other judgmentally determined discount factors. Collateral dependent loans are classified within Level 3 of the hierarchy due to the unobservable inputs used in determining their fair value such as collateral values and the borrower's underlying financial condition.

Other real estate owned – Other real estate owned (OREO) represents real estate foreclosed upon by Pinnacle Bank through loan defaults by customers or acquired by deed in lieu of foreclosure. A significant portion of these amounts relate to lots, homes and development projects that are either completed or are in various stages of construction for which Pinnacle Financial believes it has adequate collateral. Upon foreclosure, the property is recorded at the lower of cost or fair value, based on appraised value, less selling costs estimated as of the date acquired with any loss recognized as a charge-off through the allowance for loan losses. Additional OREO losses for subsequent valuation downward adjustments are determined on a specific property basis and are included as a component of noninterest expense along with holding costs. Any gains or losses realized at the time of disposal are also reflected in noninterest expense, as applicable. OREO is included in Level 3 of the valuation hierarchy due to the lack of observable market inputs into the determination of fair value as appraisal values are property-specific and sensitive to the changes in the overall economic environment.

Liabilities

Other liabilities – Pinnacle Financial has certain liabilities carried at fair value including certain interest rate swap agreements to facilitate customer transactions, interest rate swaps designated as fair value and cash flow hedges, and interest rate locks associated with the funding for its mortgage loan originations. The fair value of these liabilities is based on Pinnacle Financial's pricing models that utilize observable market inputs and is reflected within Level 2 of the valuation hierarchy.


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The following tables present financial instruments measured at fair value on a recurring basis as of June 30, 2020 and December 31, 2019, by caption on the consolidated balance sheets and by FASB ASC 820 valuation hierarchy (as described above) (in thousands):
Total carrying value in the consolidated balance sheetQuoted market prices in an active market
(Level 1)
Models with significant observable market parameters
(Level 2)
Models with significant unobservable market parameters
(Level 3)
June 30, 2020
Investment securities available-for-sale:    
U.S. Treasury securities$72,612  $—  $72,612  $—  
U.S. government agency securities76,311  —  76,311  —  
Mortgage-backed securities1,738,446  —  1,738,446  —  
State and municipal securities1,179,729  —  1,164,434  15,295  
Agency-backed securities140,415  —  140,415  —  
Corporate notes and other102,765  —  102,765  —  
Total investment securities available-for-sale$3,310,278  $—  $3,294,983  $15,295  
Other investments66,276  —  25,664  40,612  
Other assets280,593  —  280,593  —  
Total assets at fair value$3,657,147  $—  $3,601,240  $55,907  
Other liabilities$212,810  $—  $212,810  $—  
Total liabilities at fair value$212,810  $—  $212,810  $—  
December 31, 2019
Investment securities available-for-sale:    
U.S. Treasury securities$72,867  $—  $72,867  $—  
U.S. government agency securities79,692  —  79,692  —  
Mortgage-backed securities1,463,907  —  1,463,907  —  
State and municipal securities1,714,453  —  1,698,550  15,903  
Agency-backed securities152,972  —  152,972  —  
Corporate notes and other56,104  —  56,104  —  
Total investment securities available-for-sale3,539,995  —  3,524,092  15,903  
Other investments63,291  —  25,135  38,156  
Other assets134,040  —  134,040  —  
Total assets at fair value$3,737,326  $—  $3,683,267  $54,059  
Other liabilities$87,613  $—  $87,613  $—  
Total liabilities at fair value$87,613  $—  $87,613  $—  

The following table presents assets measured at fair value on a nonrecurring basis as of June 30, 2020 and December 31, 2019 (in thousands):
June 30, 2020Total carrying value in the consolidated balance sheetQuoted market prices in an active market
(Level 1)
Models with significant observable market parameters
(Level 2)
Models with significant unobservable market
parameters
(Level 3)
Other real estate owned$22,080  $—  $—  $22,080  
Collateral dependent loans36,408  —  —  36,408  
Total$58,488  $—  $—  $58,488  
December 31, 2019    
Other real estate owned$29,487  $—  $—  $29,487  
Impaired loans, net (1)
32,478  —  —  32,478  
Total$61,965  $—  $—  $61,965  

(1) Amount is net of valuation allowance of $3.3 million at December 31, 2019 as required by ASC 310-10, "Receivables."

In the case of the investment securities portfolio, Pinnacle Financial monitors the portfolio to ascertain when transfers between levels have been affected.  The nature of the remaining assets and liabilities is such that transfers in and out of any level are expected to be rare.  For the six months ended June 30, 2020, there were 0 transfers between Levels 1, 2 or 3.


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The table below includes a rollforward of the balance sheet amounts for the three and six months ended June 30, 2020 and June 30, 2019 (including the change in fair value) for financial instruments classified by Pinnacle Financial within Level 3 of the valuation hierarchy measured at fair value on a recurring basis including changes in fair value due in part to observable factors that are part of the valuation methodology (in thousands):
 For the Three months ended June 30,For the Six months ended June 30,
 2020201920202019
 Available-for-sale SecuritiesOther
assets
Available-for-sale SecuritiesOther
assets
Available-for-sale SecuritiesOther
assets
Available-for-sale SecuritiesOther
assets
Fair value, beginning of period$14,767  $39,756  $13,730  $28,107  $15,903  $38,156  $14,595  $26,422  
Total realized gains (losses) included in income27  (278) 29  481  55  (452) 59  929  
Changes in unrealized gains/losses included in other comprehensive income for assets and liabilities still held at period-end501  —  1,504  —  480  —  1,008  —  
Purchases—  1,366  —  3,518  —  3,727  —  5,188  
Issuances—  —  —  —  —  —  —  —  
Settlements—  (232) —  (584) (1,143) (819) (399) (1,017) 
Transfers out of Level 3—  —  —  —  —  —  —  —  
Fair value, end of period$15,295  $40,612  $15,263  $31,522  $15,295  $40,612  $15,263  $31,522  
Total realized gains (losses) included in income related to financial assets and liabilities still on the consolidated balance sheet at period-end$27  $(278) $29  $481  $55  $(452) $59  $929  

The following tables present the carrying amounts, estimated fair value and placement in the fair value hierarchy of Pinnacle Financial's financial instruments at June 30, 2020 and December 31, 2019.  This table excludes financial instruments for which the carrying amount approximates fair value.  For short-term financial assets such as cash, cash equivalents, and restricted cash, the carrying amount is a reasonable estimate of fair value due to the relatively short time between the origination of the instrument and its expected realization.  For financial liabilities such as non-interest bearing demand, interest-bearing demand, and savings deposits, the carrying amount is a reasonable estimate of fair value due to these products having no stated maturity (in thousands):
June 30, 2020Carrying/
Notional
Amount
Estimated
Fair Value (1)
Quoted market prices in an active market
(Level 1)
Models with significant observable market parameters
(Level 2)
Models with significant unobservable market
parameters
(Level 3)
Financial assets:     
Securities held-to-maturity$1,048,035  $1,061,233  $—  $1,061,233  $—  
Loans, net22,234,928  22,534,896  —  —  22,534,896  
Consumer loans held-for-sale69,443  71,409  —  71,409  —  
Commercial loans held-for-sale16,201  16,660  —  16,660  —  
Financial liabilities:     
Deposits and securities sold under     
agreements to repurchase25,716,382  24,880,600  —  —  24,880,600  
Federal Home Loan Bank advances1,787,551  1,936,334  —  —  1,936,334  
Subordinated debt and other borrowings717,043  728,610  —  —  728,610  
Off-balance sheet instruments:     
Commitments to extend credit (2)
8,898,952  22,238  —  —  22,238  
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December 31, 2019
Financial assets:     
Securities held-to-maturity$188,996  $201,217  $—  $201,217  $—  
Loans, net19,693,099  19,717,845  —  —  19,717,845  
Consumer loans held-for-sale81,820  82,986  —  82,986  —  
Commercial loans held-for-sale17,585  17,836  —  17,836  —  
Financial liabilities:     
Deposits and securities sold under     
agreements to repurchase20,307,382  19,647,392  —  —  19,647,392  
Federal Home Loan Bank advances2,062,534  2,078,514  —  —  2,078,514  
Subordinated debt and other borrowings749,080  712,220  —  —  712,220  
Off-balance sheet instruments:     
Commitments to extend credit (2)
8,141,920  3,786  —  —  3,786  
(1)Estimated fair values are consistent with an exit-price concept. The assumptions used to estimate the fair values are intended to approximate those that a market-participant would realize in a hypothetical orderly transaction.
(2)At the end of each quarter, Pinnacle Financial evaluates the inherent risks of the outstanding off-balance sheet commitments, including both commitments for unfunded loans and standby letters of credit. In making this evaluation, Pinnacle Financial utilizes credit loss expectations on funded loans from our allowance for credit losses methodology and evaluates the probability that the outstanding commitment will eventually become a funded loan. As a result, at June 30, 2020 and December 31, 2019, Pinnacle Financial included in other liabilities $20.8 million and $2.4 million, respectively, representing expected credit losses on off-balance sheet commitments, which are reflected in the estimated fair values of the related commitments. Also included in the fair values at June 30, 2020 and December 31, 2019 are unamortized fees related to these commitments of $1.4 million at both dates.


Note 10. Regulatory Matters

Pursuant to Tennessee banking law, Pinnacle Bank may not, without the prior consent of the Commissioner of the Tennessee Department of Financial Institutions (TDFI), pay any dividends to Pinnacle Financial in a calendar year in excess of the total of Pinnacle Bank's retained net income for that year plus the retained net income for the preceding two years. Under Tennessee corporate law, Pinnacle Financial is not permitted to pay dividends if, after giving effect to such payment, it would not be able to pay its debts as they become due in the usual course of business or its total assets would be less than the sum of its total liabilities plus any amounts needed to satisfy any preferential rights if it were dissolving. In addition, in deciding whether or not to declare a dividend of any particular size, Pinnacle Financial's board of directors must consider its and Pinnacle Bank's current and prospective capital, liquidity, and other needs. In addition to state law limitations on Pinnacle Financial's ability to pay dividends, the Federal Reserve imposes limitations on Pinnacle Financial's ability to pay dividends. Federal Reserve regulations limit dividends, stock repurchases and discretionary bonuses to executive officers if Pinnacle Financial's regulatory capital is below the level of regulatory minimums plus the applicable capital conservation buffer.

In addition, the Federal Reserve has issued supervisory guidance advising bank holding companies to eliminate, defer or reduce dividends paid on common stock and other forms of Tier 1 capital where the company’s net income available to shareholders for the past four quarters, net of dividends previously paid during that period, is not sufficient to fully fund the dividends, the company’s prospective rate of earnings retention is not consistent with the company’s capital needs and overall current and prospective financial condition or the company will not meet, or is in danger of not meeting, minimum regulatory capital adequacy ratios. Recent supplements to this guidance reiterate the need for bank holding companies to inform their applicable reserve bank sufficiently in advance of the proposed payment of a dividend in certain circumstances.

During the six months ended June 30, 2020, Pinnacle Bank paid $94.1 million in dividends to Pinnacle Financial. As of June 30, 2020, Pinnacle Bank could pay approximately $619.2 million of additional dividends to Pinnacle Financial without prior approval of the Commissioner of the TDFI. Since the fourth quarter of 2018, Pinnacle Financial has paid a quarterly common stock dividend of $0.16 per share. The amount and timing of all future dividend payments by Pinnacle Financial, if any, is subject to discretion of Pinnacle Financial's board of directors and will depend on Pinnacle Financial's receipt of dividends, including dividends on Pinnacle Financial's 6.75% fixed rate non-cumulative perpetual preferred stock, Series B (the Series B Preferred Stock) from Pinnacle Bank, earnings, capital position, financial condition and other factors, including regulatory capital requirements, as they become known to Pinnacle Financial and receipt of any regulatory approvals that may become required as a result of each of Pinnacle Financial's or Pinnacle Bank's financial results.

Pinnacle Financial and Pinnacle Bank are subject to various regulatory capital requirements administered by federal banking agencies. 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 financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, Pinnacle Financial and Pinnacle Bank must meet specific capital guidelines
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that involve quantitative measures of the assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. Pinnacle Financial's and Pinnacle Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

Quantitative measures established by regulation to ensure capital adequacy require Pinnacle Financial and its banking subsidiary to maintain minimum amounts and ratios of common equity Tier 1 capital to risk-weighted assets, Tier 1 capital to risk-weighted assets, total risk-based capital to risk-weighted assets and Tier 1 capital to average assets.

As permitted by the interim final rule issued on March 27, 2020 by the federal banking regulatory agencies, each of Pinnacle Bank and Pinnacle Financial has elected the option to delay the estimated impact on regulatory capital of Pinnacle Financial's and Pinnacle Bank's adoption of ASU 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments”, which was effective January 1, 2020. The initial impact of adoption of ASU 2016-13, as well as 25% of the quarterly increases in the allowance for credit losses subsequent to adoption of ASU 2016-13 (collectively the “transition adjustments”), will be delayed for two years. After two years, the cumulative amount of the transition adjustments will become fixed and will be phased out of the regulatory capital calculations evenly over a three year period, with 75% recognized in year three, 50% recognized in year four, and 25% recognized in year five. After five years, the temporary regulatory capital benefits will be fully reversed.

Management believes, as of June 30, 2020, that Pinnacle Financial and Pinnacle Bank met all capital adequacy requirements to which they are subject. To be categorized as well-capitalized under applicable banking regulations, Pinnacle Bank must maintain certain total risk-based, Tier 1 risk-based, common equity Tier 1 and Tier 1 leverage ratios as set forth in the following table and not be subject to a written agreement, order or directive to maintain a higher capital level. The capital conservation buffer is not included in the required ratios of the table presented below. Pinnacle Financial's and Pinnacle Bank's actual capital amounts and resulting ratios, not including the capital conservation buffer, are presented in the following table (in thousands):
 ActualMinimum Capital
Requirement
Minimum
To Be Well-Capitalized Under Prompt Corrective Action Regulations
 AmountRatioAmountRatioAmountRatio
At June 30, 2020      
Total capital to risk weighted assets:      
Pinnacle Financial$3,499,695  14.0 %$1,995,003  8.0 %$2,493,754  10.0 %
Pinnacle Bank$3,078,671  12.4 %$1,988,337  8.0 %$2,485,421  10.0 %
Tier 1 capital to risk weighted assets:      
Pinnacle Financial$2,601,104  10.4 %$1,496,252  6.0 %$1,995,003  8.0 %
Pinnacle Bank$2,729,080  11.0 %$1,491,253  6.0 %$1,988,337  8.0 %
Common equity Tier 1 capital to risk weighted assets      
Pinnacle Financial$2,383,349  9.6 %$1,122,189  4.5 %NANA
Pinnacle Bank$2,728,958  11.0 %$1,118,439  4.5 %$1,615,524  6.5 %
Tier 1 capital to average assets (*):      
Pinnacle Financial$2,601,104  8.4 %$1,231,757  4.0 %NANA
Pinnacle Bank$2,729,080  8.9 %$1,226,324  4.0 %$1,532,905  5.0 %
At December 31, 2019
Total capital to risk weighted assets:
Pinnacle Financial$3,159,375  13.2 %$1,912,885  8.0 %$2,391,106  10.0 %
Pinnacle Bank$2,906,853  12.2 %$1,906,839  8.0 %$2,383,549  10.0 %
Tier 1 capital to risk weighted assets:
Pinnacle Financial$2,319,234  9.7 %$1,434,664  6.0 %$1,912,885  8.0 %
Pinnacle Bank$2,679,713  11.2 %$1,430,129  6.0 %$1,906,839  8.0 %
Common equity Tier 1 capital to risk weighted assets
Pinnacle Financial$2,319,112  9.7 %$1,075,998  4.5 %NANA
Pinnacle Bank$2,679,590  11.2 %$1,072,597  4.5 %$1,549,307  6.5 %
Tier 1 capital to average assets (*):
Pinnacle Financial$2,319,234  9.1 %$1,021,836  4.0 %NANA
Pinnacle Bank$2,679,713  10.5 %$1,019,210  4.0 %$1,274,012  5.0 %
(*) Average assets for the above calculations were based on the most recent quarter.

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During the second quarter of 2020, Pinnacle Financial issued 9.0 million depositary shares, each representing a 1/40th interest in a share of Series B preferred stock in a registered public offering to both retail and institutional investors. Net proceeds from the transaction were approximately $217.6 million after deducting the underwriting discounts and offering expenses payable by Pinnacle Financial. The net proceeds were retained by Pinnacle Financial and are available to support the capital needs of Pinnacle Financial and Pinnacle Bank, to support Pinnacle Financial's obligations, including interest payments on its outstanding indebtedness, and for other general corporate purposes.


Note 11.  Other Borrowings

Pinnacle Financial has 12 wholly-owned subsidiaries that are statutory business trusts created for the exclusive purpose of issuing 30-year capital trust preferred securities, and Pinnacle Financial and Pinnacle Bank have entered into certain other subordinated debt agreements. On April 22, 2020, Pinnacle Financial established a credit facility with the Federal Reserve Bank in conjunction with the SBA Paycheck Protection Program, with available borrowing capacity equal to the outstanding balance of Paycheck Protection Program loans, which totaled approximately $2.2 billion at June 30, 2020. Pinnacle Financial also had a $75.0 million revolving credit facility with no outstanding borrowings as of June 30, 2020 that matured on July 24, 2020 and was not renewed. These instruments are outlined below as of June 30, 2020 (in thousands):

NameDate
Established
MaturityTotal Debt OutstandingInterest Rate at June 30, 2020Coupon Structure
Trust preferred securities   
Pinnacle Statutory Trust IDecember 29, 2003December 30, 2033$10,310  3.10 %30-day LIBOR + 2.80%
Pinnacle Statutory Trust IISeptember 15, 2005September 30, 203520,619  1.71 %30-day LIBOR + 1.40%
Pinnacle Statutory Trust IIISeptember 7, 2006September 30, 203620,619  1.96 %30-day LIBOR + 1.65%
Pinnacle Statutory Trust IVOctober 31, 2007September 30, 203730,928  3.16 %30-day LIBOR + 2.85%
BNC Capital Trust IApril 3, 2003April 15, 20335,155  4.47 %30-day LIBOR + 3.25%
BNC Capital Trust IIMarch 11, 2004April 7, 20346,186  4.07 %30-day LIBOR + 2.85%
BNC Capital Trust IIISeptember 23, 2004September 23, 20345,155  3.62 %30-day LIBOR + 2.40%
BNC Capital Trust IVSeptember 27, 2006December 31, 20367,217  2.01 %30-day LIBOR + 1.70%
Valley Financial Trust IJune 26, 2003June 26, 20334,124  4.33 %30-day LIBOR + 3.10%
Valley Financial Trust IISeptember 26, 2005December 15, 20357,217  1.80 %30-day LIBOR + 1.49%
Valley Financial Trust IIIDecember 15, 2006January 30, 20375,155  2.49 %30-day LIBOR + 1.73%
Southcoast Capital Trust IIIAugust 5, 2005September 30, 203510,310  1.81 %30-day LIBOR + 1.50%
Subordinated Debt   
Pinnacle Bank Subordinated NotesJuly 30, 2015July 30, 202560,000  4.88 %
Fixed (1)
Pinnacle Bank Subordinated NotesMarch 10, 2016July 30, 202570,000  4.88 %
Fixed (1)
Pinnacle Financial Subordinated NotesNovember 16, 2016November 16, 2026120,000  5.25 %
Fixed (2)
Pinnacle Financial Subordinated NotesSeptember 11, 2019September 15, 2029300,000  4.13 %
Fixed (3)
Other Borrowings    
Revolving credit facility (4)
April 22, 2020July 24, 2020—  30-day LIBOR + 1.50%
Paycheck Protection Program Liquidity FacilityApril 22, 2020September 30, 202047,082  0.35 %Fixed
Debt issuance costs and fair value adjustments(13,034)  
Total subordinated debt and other borrowings$717,043   
(1) Migrates to three month LIBOR + 3.128% beginning July 30, 2020 through the end of the term.
(2) Migrates to three month LIBOR + 3.884% beginning November 16, 2021 through the end of the term.
(3) Migrates to three month LIBOR + 2.775% beginning September 15, 2024 through the end of the term.
(4) Borrowing capacity on the revolving credit facility is $75.0 million. At June 30, 2020, there were 0 amounts outstanding under this facility. An unused fee of 0.30% is assessed on the average daily unused amount of the line. This credit facility matured on July 24, 2020 and was not renewed.

On September 11, 2019, Pinnacle Financial issued $300.0 aggregate principal amount of 4.125% Fixed-to-Floating Rate Subordinated Notes due 2029 (the 2029 Notes) in a public offering. The offering and sale of the 2029 Notes yielded net proceeds of approximately $296.5 million after deducting the underwriting discount and offering expenses payable by Pinnacle Financial. Pinnacle Financial used approximately $8.8 million of such proceeds to redeem the previously outstanding Subordinated Note due October 15, 2023, which Pinnacle Financial assumed in the BNC merger and which carried an interest rate of 7.23% at the time of such redemption, which occurred on September 30, 2019. Pinnacle Financial also used a portion of the net proceeds of this offering to
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redeem, effective January 1, 2020, the outstanding balance and accrued interest of the $20.0 million aggregate principal amount of Avenue subordinated notes and $60.0 million aggregate principal amount of BNC subordinated notes. Pinnacle Financial intends to use the remainder of the net proceeds from the offering of the 2029 Notes for general corporate purposes, including providing capital to support the growth of Pinnacle Bank's business.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following is a discussion of our financial condition at June 30, 2020 and December 31, 2019 and our results of operations for the three and six months ended June 30, 2020 and 2019. The purpose of this discussion is to focus on information about our financial condition and results of operations which is not otherwise apparent from our consolidated financial statements. The following discussion and analysis should be read along with our consolidated financial statements and the related notes included elsewhere herein and the risk factors discussed in Part II, Item 1A - Risk Factors, herein as well as our Annual Report on Form 10-K for the year ended December 31, 2019 (Form 10-K) and the other reports we have filed with the Securities and Exchange Commission since we filed that Form 10-K.

Impact of COVID-19 Pandemic

On January 30, 2020, the World Health Organization declared a global health emergency related to a novel strain of the coronavirus, COVID-19. With that declaration, we activated our pandemic response team and began work to prepare both our associates and clients for the impact of COVID-19. The spread of COVID-19 has created a global public health crisis that has resulted in unprecedented uncertainty, volatility and disruption in financial markets and in governmental, commercial and consumer activity in the United States and globally, including the markets that we serve. These actions included the decision by the Federal Reserve Open Markets Committee to lower the target for the federal funds rate to a range of between zero to 0.25% on March 15, 2020. This action followed a prior reduction of the targeted federal funds rate to a range of 1.0% to 1.25% on March 3, 2020.

We have been intentional in our response to the COVID-19 pandemic to ensure strength in our balance sheet, including increases in liquidity and reserves. As a part of this intentional response, during the second quarter of 2020, we performed an in-depth review of all risk-graded loans greater than $1.0 million for which we had granted the borrower the ability to defer the payment of principal and/or interest for a period of up to 90 days following the COVID-19 outbreak. We also performed an in-depth review of all of our hotel and retail commercial real estate loans greater than $1.0 million regardless of their receipt of deferral. Additionally, we have continued to adjust our business practices, including restricting employee travel, encouraging employees to work from home, where possible, converting to drive-thru only service with specific needs facilitated by appointment, implementing social distancing guidelines within our offices and by the launch of our pandemic response team, which continues to meet on a regular basis.

On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security ("CARES") Act was signed into law. It contains substantial tax and spending provisions intended to address the impact of the COVID-19 pandemic. The CARES Act includes the Paycheck Protection Program ("PPP"), a program designed to aid small- and medium-sized businesses, sole proprietors and other self-employed persons through federally guaranteed loans distributed through banks. These loans are intended to guarantee eight to 24 weeks of payroll and other costs to provide support to participating businesses and increase the ability of these businesses to retain workers. As of June 30, 2020, we had obtained approvals for approximately 14,000 clients totaling approximately $2.3 billion in approved loans. These loans are fully guaranteed by the SBA, carry a term of two or five years, dependent on the date originated, and a 1.0% annualized rate. Inclusive of fees from the SBA, our yield on PPP loans in the second quarter was 2.89%. The reduction in approved dollars from the amounts we previously disclosed as of April 30, 2020 is the result of PPP loans that borrowers chose to return to the SBA prior to June 30, 2020.

We have also implemented a short-term loan modification program to provide temporary payment relief to certain of our borrowers. This program allows for a deferral of principal and/or interest payments for 90 days, which we may extend for an additional 90 days, for a maximum of 180 days on a cumulative and successive basis. As of June 30, 2020, we had granted deferrals on approximately $4.2 billion in aggregate principal amount of loans. As of July 17, 2020, loans with aggregate principal balances of approximately $2.7 billion remained on deferral.

We believe our response has allowed and continues to allow us to appropriately support our associates, clients and their communities. The COVID-19 pandemic along with the implementation of CECL have contributed to an increased provision for credit losses for the first half of 2020 and an extended duration of economic disruption resulting from the virus could lead to increased net charge-offs and continued elevated levels of provisioning expense. We continue to monitor both the impact of COVID-19 and the effects of the CARES Act closely; however, the extent to which each will impact our operations and financial results during the remainder of 2020 remains uncertain.

Overview

Our diluted net income per common share for the three and six months ended June 30, 2020 was $0.83 and $1.20, respectively, compared to $1.31 and $2.53, respectively, for the same periods in 2019. At June 30, 2020, reflecting the significant number of loans
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we had originated under the PPP, loans had increased to $22.5 billion, as compared to $19.8 billion at December 31, 2019, and total deposits increased to $25.5 billion at June 30, 2020 from $20.2 billion at December 31, 2019.

Results of Operations. Our net interest income increased to $200.7 million and $394.2 million, respectively, for the three and six months ended June 30, 2020 compared to $188.9 million and $376.2 million, respectively, for the same periods in the prior year, representing increases of $11.7 million and $18.0 million, respectively. For the three and six months ended June 30, 2020 when compared to the comparable periods in 2019, this increase was largely the result of lower cost of funds, the impact of both interest and fees related to the PPP and our acquisition of additional liquidity in response to the economic uncertainty resulting from the COVID-19 pandemic as well as organic loan growth during the comparable periods. The net interest margin (the ratio of net interest income to average earning assets) for the three and six months ended June 30, 2020 was 2.87% and 3.06%, respectively, compared to 3.48% and 3.55%, respectively, for the same periods in 2019 and reflects the impact of loans made pursuant to the PPP and our acquisition of additional on-balance sheet liquidity as noted above, the decline in short-term interest rates, declining levels of positive impact from purchase accounting and the competitive rate environments for loans and deposits in our markets.

Our provision for credit losses was $68.3 million and $168.2 million, respectively, for the three and six months ended June 30, 2020 compared to $7.2 million and $14.4 million, respectively, for the same periods in 2019. The primary drivers of the increase in provision were the anticipated economic impact of the COVID-19 pandemic and our adoption of FASB ASU 2016-13 on January 1, 2020. ASU 2016-13, which introduces the current expected credit losses (CECL) methodology, requires us to estimate all expected credit losses over the remaining life of our loan portfolio. Also contributing to the increase in provision was an increase in net charge-offs, which totaled $5.4 million and $15.5 million, respectively, for the three and six months ended June 30, 2020 compared to $4.1 million and $7.7 million, respectively, for the same periods in 2019. The increase in net charge-offs in the first six months of 2020 was in large part the result of an approximately $5.0 million charge-off related to a single credit in the commercial and industrial loan category during the first quarter of 2020. This credit was criticized going into the COVID-19 pandemic and as a result of the pandemic suffered further deterioration resulting in its partial charge-off during the first quarter of 2020. During the second quarter of 2020, we had a partial recovery of approximately $1.7 million on this credit.
At June 30, 2020, our allowance for credit losses as a percentage of total loans, inclusive of PPP loans, was 1.27% compared to 0.48% at December 31, 2019. The increase in the allowance for credit losses is largely the result of the implementation of CECL on January 1, 2020, which resulted in an adjustment to the opening balance of the allowance for credit losses of $38.1 million, and increased provisioning during the first half of 2020 due to the anticipated economic impact of the COVID-19 pandemic. The increase in the opening balance upon the implementation of CECL is partially attributable to a change in the treatment of acquired loans. Prior to the adoption of CECL, acquired loans required an allowance only if estimated credit losses exceeded the remaining purchase accounting fair value discounts. Under CECL, an allowance for credit losses is recognized for all loans without regard to fair value discounts. Also contributing to the increase in the opening balance upon adoption was an overall increase in reserve rates under CECL due to the estimation of all expected credit losses over the remaining contractual life of the portfolio rather than only probable incurred losses as was required under the prior accounting standard.

Noninterest income increased by $2.3 million, or 3.2%, and $21.6 million, or 17.7%, respectively, during the three and six months ended June 30, 2020 compared to the same periods in 2019. The growth in noninterest income was in large part attributable to gains on mortgage loans sold, net, which increased by $13.6 million and $17.3 million, respectively, for the three and six months ended June 30, 2020 as compared to the same periods in the prior year, largely due to the favorable interest rate environment as well are our increased number of mortgage originators in the respective periods. These gains on mortgage loans sold, net, were offset in part by a decrease in income from our equity method investment in BHG of $15.1 million, or 46.7%, and $12.8 million, or 28.0%, respectively, during the three and six months ended June 30, 2020 compared to the same periods in the prior year. Additionally impacting noninterest income were wealth management revenues of $12.2 million and $28.8 million, respectively, for the three and six months ended June 30, 2020 compared to $11.5 million and $23.2 million, respectively, in the same periods in the prior year as well as $128,000 in net losses and $335,000 in net gains on sales of securities, respectively, during the three and six months ended June 30, 2020 compared to $4.5 million and $6.4 million, respectively, in net losses on sales of securities during the same periods in the prior year. Other noninterest income, which is the result of fee revenue lines of business other than those noted above, increased during the three and six months ended June 30, 2020 by $725,000 and $6.2 million, respectively, when compared to the same periods in the prior year.
Noninterest expense increased by $3.9 million, or 3.1%, and $27.2 million, or 11.3%, during the three and six months ended June 30, 2020 compared to the three and six months ended June 30, 2019. Impacting noninterest expense for the three and six months ended June 30, 2020 as compared to the same prior year periods was the $1.7 million decrease and $8.4 million increase, respectively, in salaries and employee benefits. The change in salaries and employee benefits was the result of an increase in our associate base in the first six months of 2020 versus the first six months of 2019 offset in part, or in the case of the three months ended June 30, 2020, in whole, by the reduction of our cash incentive plan accrual as well as the reduction in stock-based compensation expense due to our performance through the first half of 2020 compared to the earnings per share performance metric targets established pursuant to our
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annual cash incentive plan and the return on average tangible assets performance metric targets applicable pursuant to certain performance-based equity awards we have previously awarded, each due to the effects of COVID-19 on our anticipated earnings and performance for the year ended December 31, 2020. Also impacting noninterest expense in the first half of 2020 was $9.7 million in lending related costs related to an increase in our off balance sheet reserves. The increase in the expense related to off balance sheet reserves during the six months ended June 30, 2020 was largely due to the impact of the COVID-19 pandemic on expected credit losses under CECL.
Our efficiency ratio (the ratio of noninterest expense to the sum of net interest income and noninterest income) was 48.1% and 50.0%, respectively, for the three and six months ended June 30, 2020 compared to 49.2% and 48.6%, respectively, for the same periods in 2019. The efficiency ratio measures the amount of expense that is incurred to generate a dollar of revenue.
During the three and six months ended June 30, 2020, we recorded income tax expense of $11.2 million and $9.6 million, respectively, compared to income tax expense of $24.4 million and $47.5 million, respectively, for the three and six months ended June 30, 2019. Our effective tax rate for the three and six months ended June 30, 2020 was 15.2% and 9.5%, respectively, compared to 19.6% for both the three and six months ended June 30, 2019. Our tax expense in the first half of 2020 was impacted by the provision for credit losses recorded in response to the COVID-19 pandemic, a portion of which was recorded as a discrete item of total income tax in the first quarter of 2020 and contributed a tax benefit of $22.4 million. Our tax rate in each period was also impacted by the vesting and exercise of equity-based awards previously granted under our equity-based compensation program, resulting in the recognition of tax expense of $272,000 and a tax benefit of $590,000, respectively, for the three and six months ended June 30, 2020 compared to tax expense of $68,000 and a tax benefit of $701,000, respectively, for the three and six months ended June 30, 2019.
Financial Condition.  Net loans increased $2.7 billion, or 13.8%, during the six months ended June 30, 2020, when compared to December 31, 2019. Contributing to increased loan volumes during the six months ended June 30, 2020, were $2.2 billion of loans, as of June 30, 2020, issued through the Small Business Administration's (SBA's) Paycheck Protection Program (PPP). The remainder of the increase is primarily the result of loans made to borrowers that principally operate or are located in our core markets that were made prior to the COVID-19 pandemic, increases in the number of relationship advisors we employ and continued focus on attracting new customers to our company. Total deposits were $25.5 billion at June 30, 2020, compared to $20.2 billion at December 31, 2019, an increase of $5.3 billion, or 26.5%. Deposit growth during the period was likely aided by our clients' need to build liquidity going into the COVID-19 pandemic and current stock market conditions, but was also due in part to our intentional emphasis on gathering low cost core deposits during 2020. Although it is difficult to measure precisely the level of increased deposits that came to us from the PPP, we estimate that our PPP borrowers increased their deposit balances with us by approximately $1.7 billion between March 31, 2020 and June 30, 2020.
Capital and Liquidity. At June 30, 2020 and December 31, 2019, our capital ratios, including our bank's capital ratios, exceeded regulatory minimum capital requirements and those necessary to be considered well-capitalized under applicable federal regulations. See Note 10. Regulatory Matters in the Notes to our Consolidated Financial Statements elsewhere in this Form 10-Q. From time to time we may be required to support the capital needs of our bank (Pinnacle Bank). At June 30, 2020, we had approximately $318.8 million of cash at the parent company to be used to support our bank.
During the second quarter of 2020, we issued 9.0 million depositary shares, each representing a 1/40th interest in a share of our 6.75% fixed rate non-cumulative, perpetual preferred stock, Series B (Series B Preferred Stock) in a registered public offering to both retail and institutional investors. Net proceeds from the transaction after underwriting discounts and offering expenses payable by us were approximately $217.6 million. The net proceeds were retained at Pinnacle Financial and are available to support our capital needs and other obligations, including payments related to our outstanding indebtedness, to support the capital needs and other obligations of our bank and for other general corporate purposes. Additionally, we believe we have various capital raising techniques available to us to provide for the capital needs of our company and bank, such as the $300 million subordinated debt offering issued during the third quarter of 2019 or entering into a new revolving credit facility with another financial institution. We also periodically evaluate capital markets conditions to identify opportunities to access those markets if necessary or prudent to support our capital levels.
On November 13, 2018, Pinnacle Financial announced that its board of directors authorized a share repurchase program for up to $100.0 million of Pinnacle Financial’s outstanding common stock and on October 15, 2019, the board approved an additional $100.0 million of repurchase authorization. The initial repurchase program expired on March 31, 2020, with the additional $100.0 million authorization expiring on December 31, 2020. Prior to January 1, 2020, we repurchased approximately 1.5 million shares of our common stock at an aggregate cost of $82.1 million. During the quarter ended March 31, 2020, we repurchased approximately 1.0 million shares of our common stock at an aggregate cost of $50.8 million. Our last purchase of shares of our common stock occurred on March 19, 2020. We suspended our repurchase program at the end of the first quarter of 2020 and it remains suspended until we gain more clarity on the length and depth of the COVID-19 pandemic.
Critical Accounting Estimates
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The accounting principles we follow and our methods of applying these principles conform with U.S. GAAP and with general practices within the banking industry. On January 1, 2020, we adopted FASB ASU 2016-13 Financial Instruments - Credit Losses (Topic 326) which significantly changes our methodology for determining our allowance for credit losses, and ASU 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment which simplifies our process for performing goodwill impairment testing. See Note 1. Summary of Significant Accounting Policies in the Notes to our Consolidated Financial Statements elsewhere in this Form 10-Q for further information related to these changes. There have been no other significant changes to our Critical Accounting Estimates as described in our Form 10-K.

Selected Financial Information
The following is a summary of certain financial information as of or for the three and six month periods ended June 30, 2020 and as of December 31, 2019 and for the three and six months ended June 30, 2019 (dollars in thousands, except per share data):
Three Months Ended
June 30,
2020 - 2019 PercentSix Months Ended
June 30,
2020 - 2019 Percent
 20202019Increase (Decrease)20202019Increase (Decrease)
Income Statement:
Interest income$251,738  $265,851  (5.3)%$514,807  $523,734  (1.7)%
Interest expense51,081  76,933  (33.6)%120,598  147,570  (18.3)%
Net interest income200,657  188,918  6.2 %394,209  376,164  4.8 %
Provision for credit losses68,332  7,195  849.7 %168,221  14,379  1,069.9 %
Net interest income after provision for credit losses132,325  181,723  (27.2)%225,988  361,785  (37.5)%
Noninterest income72,954  70,682  3.2 %143,331  121,745  17.7 %
Noninterest expense131,605  127,686  3.1 %268,954  241,737  11.3 %
Net income before income taxes73,674  124,719  (40.9)%100,365  241,793  (58.5)%
Income tax expense11,230  24,398  (54.0)%9,565  47,512  (79.9)%
Net income$62,444  $100,321  (37.8)%$90,800  $194,281  (53.3)%
Per Share Data:
Basic net income per common share$0.83  $1.31  (36.6)%$1.20  $2.54  (52.8)%
Diluted net income per common share$0.83  $1.31  (36.6)%$1.20  $2.53  (52.6)%
Balance Sheet:
Loans, net of allowance for credit losses$22,234,928  $19,693,099  12.9 %$22,234,928  $19,693,099  12.9 %
Deposits$25,521,829  $20,181,028  26.5 %$25,521,829  $20,181,028  26.5 %
Performance Ratios:
Return on average assets (1)
0.77 %1.55 %(50.3)%0.60 %1.54 %(61.0)%
Return on average stockholders' equity (2)
5.58 %9.77 %(42.9)%4.10 %9.63 %(57.4)%
Return on average common stockholders' equity (3)
5.66 %9.77 %(42.1)%4.12 %9.63 %(57.2)%

(1) Return on average assets is the result of net income for the reported period on an annualized basis, divided by average assets for the period.
(2) Return on average stockholders' equity is the result of net income for the reported period on an annualized basis, divided by average stockholders' equity for the period.
(3) Return on average common stockholders' equity is the result of net income for the reported period on an annualized basis, divided by average common stockholders' equity for the period.

Results of Operations

Net Interest Income. Net interest income represents the amount by which interest earned on various earning assets exceeds interest paid on deposits and other interest-bearing liabilities and is the most significant component of our revenues. 

Net interest income totaled $200.7 million and $394.2 million, respectively, for the three and six months ended June 30, 2020 compared to $188.9 million and $376.2 million, respectively, for the same periods in the prior year, representing increases of $11.7 million and $18.0 million, respectively. For the three and six months ended June 30, 2020 when compared to the comparable periods in 2019, this increase was largely the result of lower funding costs, the impact of the PPP and our acquisition of additional on-balance
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sheet liquidity in response to the economic uncertainty resulting from the COVID-19 pandemic as well as organic loan growth during the comparable periods.

The following tables set forth the amount of our average balances, interest income or interest expense for each category of interest-earning assets and interest-bearing liabilities and the average interest rate for interest-earning assets and interest-bearing liabilities, net interest spread and net interest margin for the three and six months ended June 30, 2020 and 2019 (dollars in thousands):
 Three Months Ended
June 30, 2020
Three Months Ended
June 30, 2019
 Average BalancesInterestRates/ YieldsAverage BalancesInterestRates/ Yields
Interest-earning assets:
Loans (1)(2)
$22,257,168  $226,281  4.16 %$18,611,164  $237,653  5.22 %
Securities:
Taxable2,157,081  9,589  1.79 %1,781,814  12,243  2.76 %
Tax-exempt (2)
2,037,730  14,596  3.44 %1,630,661  12,556  3.68 %
Federal funds sold and other2,618,832  1,272  0.20 %530,556  3,399  2.57 %
Total interest-earning assets29,070,811  $251,738  3.58 %22,554,195  $265,851  4.85 %
Nonearning assets
Intangible assets1,868,231  1,850,146  
Other nonearning assets1,846,349  1,511,630  
Total assets$32,785,391  $25,915,971  
Interest-bearing liabilities:
Interest-bearing deposits:
Interest checking4,639,729  4,256  0.37 %3,150,865  9,305  1.18 %
Savings and money market9,181,266  8,904  0.39 %7,355,783  26,947  1.47 %
Time4,554,027  20,567  1.82 %3,958,445  22,736  2.30 %
Total interest-bearing deposits18,375,022  33,727  0.74 %14,465,093  58,988  1.64 %
Securities sold under agreements to repurchase191,084  94  0.20 %117,261  142  0.49 %
Federal Home Loan Bank advances2,213,769  9,502  1.73 %2,164,341  11,552  2.14 %
Subordinated debt and other borrowings706,657  7,758  4.42 %469,498  6,251  5.34 %
Total interest-bearing liabilities21,486,532  51,081  0.96 %17,216,193  76,933  1.79 %
Noninterest-bearing deposits6,432,010  —  0.00 %4,399,766  —  0.00 %
Total deposits and interest-bearing liabilities27,918,542  $51,081  0.74 %21,615,959  $76,933  1.43 %
Other liabilities367,411  182,258  
Stockholders' equity 4,499,438  4,117,754  
Total liabilities and stockholders' equity$32,785,391  $25,915,971  
Net  interest  income 
$200,657  $188,918  
Net interest spread (3)
2.62 %3.06 %
Net interest margin (4)
2.87 %3.48 %

(1) Average balances of nonaccrual loans are included in the above amounts.
(2) Yields computed on tax-exempt instruments on a tax equivalent basis and include $6.9 million of taxable equivalent income for each of the three months ended June 30, 2020 and the three months ended June 30, 2019. The tax-exempt benefit has been reduced by the projected impact of tax-exempt income that will be disallowed pursuant to IRS Regulations as of and for the period presented.
(3) Yields realized on interest-bearing assets less the rates paid on interest-bearing liabilities.  The net interest spread calculation excludes the impact of demand deposits.  Had the impact of demand deposits been included, the net interest spread for the three months ended June 30, 2020 would have been 2.84% compared to a net interest spread of 3.42% for the three months ended June 30, 2019.
(4) Net interest margin is the result of annualized net interest income calculated on a tax-equivalent basis divided by average interest-earning assets for the period.



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(dollars in thousands)Six months endedSix months ended
June 30, 2020June 30, 2019
 Average BalancesInterestRates/ YieldsAverage BalancesInterestRates/ Yields
Interest-earning assets
Loans (1) (2)
$21,133,228  $462,701  4.48 %$18,276,680  $467,032  5.25 %
Securities
Taxable2,040,855  19,857  1.96 %1,813,693  25,783  2.87 %
Tax-exempt (2)
1,963,822  28,420  3.47 %1,544,186  24,228  3.77 %
Federal funds sold and other1,713,314  3,829  0.45 %500,400  6,691  2.70 %
Total interest-earning assets26,851,219  $514,807  3.96 %22,134,959  $523,734  4.89 %
Nonearning assets
Intangible assets1,869,147  1,851,292  
Other nonearning assets1,791,150  1,499,104  
Total assets$30,511,516  $25,485,355  
Interest-bearing liabilities
Interest-bearing deposits:
Interest checking4,192,505  12,723  0.61 %3,140,734  18,628  1.20 %
Savings and money market8,639,407  29,339  0.68 %7,446,911  53,284  1.44 %
Time4,315,462  42,363  1.97 %3,727,061  41,293  2.23 %
Total interest-bearing deposits17,147,374  84,425  0.99 %14,314,706  113,205  1.59 %
Securities sold under agreements to repurchase166,138  209  0.25 %113,305  287  0.51 %
Federal Home Loan Bank advances2,121,828  19,909  1.89 %2,046,007  21,515  2.12 %
Subordinated debt and other borrowings690,036  16,055  4.68 %470,133  12,563  5.39 %
Total interest-bearing liabilities20,125,376  120,598  1.21 %16,944,151  147,570  1.76 %
Noninterest-bearing deposits5,595,869  —  —  4,298,169  —  —  
Total deposits and interest-bearing liabilities25,721,245  $120,598  0.94 %21,242,320  $147,570  1.40 %
Other liabilities331,975  175,193  
Stockholders' equity 4,458,296  4,067,842  
Total liabilities and stockholders' equity$30,511,516  $25,485,355  
Net  interest  income 
$394,209  $376,164  
Net interest spread (3)
2.76 %3.14 %
Net interest margin (4)
3.06 %3.55 %

(1) Average balances of nonaccrual loans are included in the above amounts.
(2) Yields computed on tax-exempt instruments on a tax equivalent basis and include $14.0 million of taxable equivalent income for the six months ended June 30, 2020 compared to $13.4 million for the six months ended June 30, 2019. The tax-exempt benefit has been reduced by the projected impact of tax-exempt income that will be disallowed pursuant to IRS Regulations as of and for the period presented.
(3) Yields realized on interest-bearing assets less the rates paid on interest-bearing liabilities. The net interest spread calculation excludes the impact of demand deposits. Had the impact of demand deposits been included, the net interest spread for the six months ended June 30, 2020 would have been 3.02% compared to a net interest spread of 3.49% for the six months ended June 30, 2019.
(4) Net interest margin is the result of annualized net interest income calculated on a tax-equivalent basis divided by average interest-earning assets for the period.


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For the three and six months ended June 30, 2020, our net interest margin was 2.87% and 3.06%, respectively, compared to 3.48% and 3.55%, respectively, for the same periods in 2019. Our net interest margin for the three and six months ended June 30, 2020 reflects the impact of PPP and the firm's acquisition of additional on-balance sheet liquidity as noted above, the decline in short-term interest rates, declining levels of positive impact from purchase accounting and the competitive rate environments for loans and deposits in our markets. More specifically, our net interest margin was negatively impacted by yield compression in our earning asset portfolio due to a declining macroeconomic interest rate environment, which included a 150 basis points reduction in the federal funds rate in March 2020. This decrease was offset somewhat by a decrease in funding costs. During the three and six months ended June 30, 2020, our earning asset yield decreased by 127 basis points and 93 basis points, respectively, from the same periods in the prior year. Our total funding rates decreased by 69 basis points and 46 basis points, respectively, compared to the same periods in the prior year.

We continue to deploy various asset liability management strategies to manage our risk to interest rate fluctuations. Pricing for creditworthy borrowers and meaningful depositors is very competitive in our markets and this competition has adversely impacted, and may continue to adversely impact, our margins. This challenging competitive environment may continue during 2020 even during a time of economic uncertainty due to COVID-19. We also expect the positive impact of purchase accounting on our net interest income will lessen in future periods, which will negatively affect our net interest margin in 2020. We have sought to mitigate much of the negative impact that reductions in short-term interest rates would have on our net interest margin through restructuring a portion of our investment securities portfolio, purchasing loan interest rate floors, and unwinding fixed-to-floating loan interest rate swaps. Those tactics have benefited us during this recent period of falling short-term interest rates. However, our net interest margin could be additionally impacted if we are not able to continue to lower deposit rates at a pace necessary to offset declines in our earning asset yields. We determined that holding elevated levels of on-balance sheet liquidity is a prudent response to the COVID-19 pandemic. This strategy will negatively impact the net interest margin until on-balance sheet liquidity returns to more normalized levels. We seek to fund increased loan volumes by growing our core deposits, but will utilize non-core funding to fund shortfalls, if any. To the extent that our dependence on non-core funding sources increases during 2020, our net interest margin would likely be negatively impacted as we may not be able to reduce the rates we pay on these deposits as quickly as we can on core deposits.

Provision for Credit Losses. On January 1, 2020, we adopted FASB ASU 2016-13, which introduces the current expected credit losses (CECL) methodology and requires us to estimate all expected credit losses over the remaining life of our loan and held-to-maturity securities portfolios. Accordingly, the provision for credit losses represents a charge to earnings necessary to establish an allowance for credit losses that, in management's evaluation, is adequate to provide coverage for all expected credit losses. The provision for credit losses amounted to $68.3 million and $168.2 million, respectively, for the three and six months ended June 30, 2020 compared to $7.2 million and $14.4 million, respectively, for the three and six months ended June 30, 2019. Provision expense is impacted by organic loan growth in our loan portfolio, our internal assessment of the credit quality of the loan portfolio, our expectations about future economic conditions and net charge-offs. The primary driver of the increase in provision for credit losses for the three and six months ended June 30, 2020 was the estimated economic impact of the COVID-19 pandemic. Our CECL model relies on projected macroeconomic conditions, including unemployment and GDP, as key inputs to estimate future credit losses. As a result, the anticipated deterioration in economic conditions resulting from COVID-19 has resulted in a significant increase in expected credit losses. Also contributing to the increase in provision was an increase in net charge-offs, which totaled $5.4 million and $15.5 million, respectively, for the three and six months ended June 30, 2020 compared to $4.1 million and $7.7 million, respectively, for the same periods in 2019. The increase in net charge-offs in the first six months of 2020 was in large part the result of an approximately $5.0 million charge-off related to a single credit in the commercial and industrial loan category during the first quarter of 2020. This credit was criticized going into the COVID-19 pandemic and as a result of the pandemic suffered further deterioration resulting in its partial charge-off during the first quarter of 2020. During the second quarter of 2020, we had a partial recovery of approximately $1.7 million on this credit.

Our allowance for credit losses reflects an amount deemed appropriate to adequately cover all expected future losses as of the date the allowance is determined based on our allowance for credit losses assessment methodology. At June 30, 2020, our allowance for credit losses as a percentage of total loans, inclusive of PPP loans, was 1.27%, up from 0.48% at December 31, 2019. The increase in the allowance for credit losses is largely the result of the implementation of CECL on January 1, 2020, which resulted in an adjustment to the opening balance of the allowance for credit losses of $38.1 million, and increased provisioning during the three and six months ended June 30, 2020 due to the estimated economic impact of the COVID-19 pandemic.

Noninterest Income.  Our noninterest income is composed of several components, some of which vary significantly between quarterly and annual periods. Service charges on deposit accounts and other noninterest income generally reflect customer growth trends, while fees from our wealth management departments, gains on mortgage loans sold, gains and losses on the sale of securities and gains or losses related to our efforts to mitigate risks associated with interest rate volatility will often reflect financial market conditions and fluctuate from period to period.


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The following is a summary of our noninterest income for the three and six months ended June 30, 2020 and 2019 (in thousands):

Three Months Ended
June 30,
2020 - 2019
Percent
Six Months Ended
June 30,
2020 - 2019
Percent
 20202019Increase (Decrease)20202019Increase (Decrease)
Noninterest income:      
Service charges on deposit accounts$6,910  $8,940  (22.7)%$15,942  $17,482  (8.8)%
Investment services5,971  5,868  1.8%15,210  11,336  34.2%
Insurance sales commissions2,231  2,147  3.9%5,471  5,075  7.8%
Gains on mortgage loans sold, net19,619  6,011  226.4%28,202  10,889  159.0%
Investment (gains) losses on sales of securities, net(128) (4,466) 97.1%335  (6,426) 105.2%
Trust fees3,958  3,461  14.4%8,128  6,756  20.3%
Income from equity method investment17,208  32,261  (46.7)%32,800  45,551  (28.0)%
Other noninterest income:
Interchange and other consumer fees8,323  9,088  (8.4)%18,292  16,595  10.2%
Bank-owned life insurance4,726  4,201  12.5%9,378  8,296  13.0%
Loan swap fees614  799  (23.2)%2,801  1,560  79.6%
SBA loan sales941  1,171  (19.6)%2,282  1,743  30.9%
Gain (loss) on other equity investments(278) 832  (133.4)%(452) 1,614  (128.0)%
Other noninterest income2,859  369  674.8%4,942  1,274  287.9%
Total other noninterest income17,185  16,460  4.4%37,243  31,082  19.8%
Total noninterest income$72,954  $70,682  3.2%$143,331  $121,745  17.7%

The decrease in service charges on deposit accounts in the three and six months ended June 30, 2020 compared to the three and six months ended June 30, 2019 is primarily related to analysis fees due to a decrease in the transaction volume of commercial checking accounts which we believe is the result of the COVID-19 pandemic.
 
Income from our wealth management groups (investments, insurance and trust) is also included in noninterest income. For the three and six months ended June 30, 2020, commissions and fees from investment services at our financial advisory unit, Pinnacle Asset Management, a division of Pinnacle Bank, increased by $103,000 and $3.9 million when compared to the three and six months ended June 30, 2019. At June 30, 2020 and 2019, Pinnacle Asset Management was receiving commissions and fees in connection with approximately $4.5 billion and $4.3 billion, respectively, in brokerage assets. Revenues from the sale of insurance products by our insurance subsidiaries for the three and six months ended June 30, 2020 increased by $84,000 and $396,000, respectively, compared to the same periods in the prior year. Included in insurance revenues for the six months ended June 30, 2020 was $1.1 million of contingent income received in the first quarter of 2020 that was based on 2019 sales production and claims experience compared to $873,000 recorded in the same period in the prior year. Additionally, at June 30, 2020, our trust department was receiving fees on approximately $2.9 billion of managed assets compared to $2.4 billion at June 30, 2019, reflecting organic growth and increased market valuations. The growth in our wealth management businesses is attributable to the addition of associates in these areas, market volatility and the attractive markets in which we operate.

Gains on mortgage loans sold, net, consists of fees from the origination and sale of mortgage loans. These mortgage fees are for loans primarily originated in our current markets that are subsequently sold to third-party investors. Substantially all of these loan sales transfer servicing rights to the buyer. Generally, mortgage origination fees increase in lower interest rate environments and more robust housing markets and decrease in rising interest rate environments and more challenging housing markets. Mortgage origination fees will fluctuate from quarter to quarter as the rate environment changes. Gains on mortgage loans sold, net, were $19.6 million and $28.2 million, respectively, for the three and six months ended June 30, 2020 compared to $6.0 million and $10.9 million, respectively, for the same periods in the prior year. This sizeable increase is the direct result of the current interest rate environment and the strong markets in which we operate. We hedge a portion of our mortgage pipeline as part of a mandatory delivery program. The hedge is not designated as a hedge for GAAP purposes and, as such, changes in its fair value are recorded directly through the income statement. There is a positive correlation between the dollar amount of the mortgage pipeline and the value of this hedge. Therefore, the change in the outstanding mortgage pipeline at the end of any reporting period will directly impact the amount of gain recorded for mortgage loans held for sale during that reporting period. At June 30, 2020, the mortgage pipeline included $340.7 million in loans expected to close in 2020 compared to $134.6 million in loans at June 30, 2019 expected to close in 2019.
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Investment gains and losses on sales, net represent the net gains and losses on sales of investment securities in our available-for-sale securities portfolio during the periods noted. During the six months ended June 30, 2020, we sold approximately $100.1 million of securities for a net gain of $335,000 compared to the six months ended June 30, 2019, when we sold approximately $476.7 million of securities for a net loss of $6.4 million.

Income from equity-method investment. Income from equity-method investment is comprised solely of income from our 49% equity-method investment in BHG. BHG is engaged in the origination of commercial and consumer loans primarily to healthcare providers and other professionals throughout the United States. The loans originated by BHG are either financed by secured borrowings or sold without recourse to independent financial institutions and investors. BHG has expanded its operations to include commercial lending to other professional service firms such as attorneys, accountants and others.

Income from this equity-method investment was $17.2 million and $32.8 million, respectively, for the three and six months ended June 30, 2020 compared to $32.3 million and $45.6 million, respectively, for the same periods last year. Historically, BHG has sold the majority of the loans its originates to a network of bank purchasers through a combination of online auctions, direct sales and its direct purchase option. In the second half of 2019, BHG began retaining more loans on its balance sheet than historically had been the case in recent years. As a result of the economic disruption resulting from the COVID-19 pandemic, BHG, in the first six months of 2020, sold more loans through its auction platform than we had anticipated would be the case earlier in the year and will likely slow its transition to holding more loans on its balance sheet as the effects of COVID-19 are monitored. As is the case for our business, the impact of the COVID-19 pandemic on BHG's business is not fully known at this point though we believe its business, including demand for its loans and losses it may incur as a result of borrowers experiencing financial difficulty, will be negatively impacted.

Income from equity-method investment is recorded net of amortization expense associated with customer lists and other intangible assets of $293,000 and $587,000, respectively, for the three and six months ended June 30, 2020 compared to $475,000 and $950,000, respectively, for the three and six months ended June 30, 2019. At June 30, 2020, there were $8.2 million of these intangible assets that are expected to be amortized in lesser amounts over the next 15 years. Also included in income from equity-method investment, is accretion income associated with the fair valuation of certain of BHG's liabilities of $541,000 and $1.1 million, respectively, for the three and six months ended June 30, 2020, compared to $660,000 and $1.3 million, respectively, for the three and six months ended June 30, 2019. At June 30, 2020, there were $3.7 million of these liabilities that are expected to accrete into income in lesser amounts over the next six years.

During the three months ended June 30, 2020, Pinnacle Financial and Pinnacle Bank received no dividends from BHG. During the six months ended June 30, 2020, Pinnacle Financial and Pinnacle Bank received $8.0 million in dividends from BHG in the aggregate. During the three and six months ended June 30, 2019, Pinnacle Financial and Pinnacle Bank received dividends of $28.2 million and $40.9 million, respectively, in the aggregate. Dividends from BHG during such periods reduced the carrying amount of our investment in BHG, while earnings from BHG during such periods increased the carrying amount of our investment in BHG. Profits from intercompany transactions are eliminated. Our proportionate share of earnings from BHG is included in our consolidated tax return. No loans were purchased from BHG by Pinnacle Bank for the three and six month periods ended June 30, 2020 or 2019, respectively. Earnings from BHG are likely to fluctuate from period-to-period.

As our ownership interest in BHG is 49% and our representatives do not occupy a majority of the seats on BHG's board of managers, we do not consolidate BHG's results of operations or financial position into our financial statements but record the net result of BHG's activities at our percentage ownership in income from equity method investment in noninterest income. For the three and six months ended June 30, 2020, BHG reported $92.8 million and $190.7 million, respectively, in revenues, net of substitution losses of $28.1 million and $44.4 million, respectively, compared to revenues of $108.0 million and $170.8 million, respectively, for the three and six months ended June 30, 2019, net of substitution losses of $12.7 million and $25.1 million, respectively.

Approximately $67.3 million and $136.9 million, respectively, of BHG's revenues for the three and six months ended June 30, 2020 related to gains on the sale of commercial loans BHG had previously issued primarily to doctor, dentist and other medical practices compared to $90.5 million and $139.2 million, respectively, for the three and six months ended June 30, 2019. BHG refers to this activity as its core product. BHG typically funds these loans from cash reserves on its balance sheet. Subsequent to origination, these core product loans have typically been sold by BHG with no recourse to a network of community banks and other financial institutions at a premium to the par value of the loan. The purchaser may access a BHG cash reserve account of up to 3% of the loan balance to support loan payments. BHG retains no servicing or other responsibilities related to the core product loan once sold. As a result, this gain on sale premium represents BHG's compensation for absorbing the costs to originate the loan as well as marketing expenses associated with maintaining its business model.


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At June 30, 2020 and 2019, there were $3.2 billion and $2.2 billion, respectively, in core product loans previously sold by BHG that were being actively serviced by BHG's network of bank purchasers. BHG, at its sole option, may also provide purchasers of these core product loans the ability to substitute the acquired loan with another more recently-issued BHG loan should the previously-acquired loan become at least 90-days past due as to its monthly payments. This substitution is subject to the purchaser having adhered to the standards of its purchase agreement with BHG. Additionally, all substitutions are subject to the approval by BHG's board of managers. As a result, the reacquired loans are deemed purchased credit impaired and recorded on BHG's balance sheet at the net present value of the loan's anticipated cash flows. BHG will then initiate collection efforts and attempt to restore the reacquired loan to performing status. As a result, BHG maintained a liability as of June 30, 2020 and 2019 of $229.3 million and $100.3 million, respectively, that represents an estimate of the future inherent losses for the outstanding core portfolio that may be subject to future substitution. This liability represents 7.2% and 4.6%, respectively, of core product loans previously sold by BHG that remain outstanding as of June 30, 2020 and 2019, respectively. The increase in this liability in the six months ended June 30, 2020 was principally the result of the economic disruption associated with the COVID-19 pandemic which has adversely impacted physician and dental practices in a material manner.

BHG will maintain loans on its balance sheet for a period of time prior to sale or transfer to a purchaser. Alternatively, BHG may elect to keep certain loans on its balance sheet through maturity. From time to time, BHG may hold a higher volume of these loans depending upon the timing of loan originations, its loan pipeline and market demand as well as the deployment of its business strategy. As previously discussed, BHG realigned its business model to retain more of its originated loans on the balance sheet beginning in the second half of 2019. At June 30, 2020, BHG reported loans totaling $839.3 million compared to $467.2 million as of June 30, 2019. A portion of these loans do not qualify for sale accounting and accordingly an offsetting secured borrowing liability has been recorded. At June 30, 2020 and 2019, BHG had $310.4 million and $217.6 million, respectively, of secured borrowings associated with loans held for investment which did not qualify for sale accounting. At June 30, 2020 and 2019, BHG reported allowance for loan losses totaling $9.5 million and $2.3 million, respectively. Interest income and fees amounted to $22.0 million and $46.1 million, respectively, for the three and six months ended June 30, 2020 compared to $13.5 million and $24.2 million, respectively, for the three and six months ended June 30, 2019. 

BHG also sometimes refers loans to other financial institutions and, based on an agreement with the institution, earns a fee for doing so. Typically, these are loans that BHG believes would either be classified as consumer-type loans rather than commercial loans, fail to meet the credit underwriting standards of BHG but another institution will accept the loans or are loans issued to borrowers in certain geographic locations where BHG has elected not to do business. For the three and six months ended June 30, 2020, BHG recognized fee income of $195,000 and $753,000, respectively, compared to $495,000 and $1.1 million, respectively, for the same periods in the prior year related to these activities.

Included in other noninterest income are interchange and other consumer fees, gains from bank-owned life insurance, swap fees earned for the facilitation of derivative transactions for our clients, SBA loan sales, gains or losses on other equity investments and other noninterest income items. Interchange revenues decreased in the three months ended June 30, 2020 as a result of decreased debit and credit card transactions as compared to the comparable period in 2019, which we believe is the result of the COVID-19 pandemic. Interchange revenues increased during the six months ended June 30, 2020 as compared to the same period in 2019 due to increased loan fees primarily as a result of loan prepayments during the second quarter of 2020. Other noninterest income included changes in the cash surrender value of bank-owned life insurance which was $4.7 million and $9.4 million, respectively, for the three and six months ended June 30, 2020 compared to $4.2 million and $8.3 million, respectively, for the three and six months ended June 30, 2019. During the six months ended June 30, 2019, we purchased $110.0 million of new bank-owned life insurance policies. The assets that support these policies are administered by the life insurance carriers and the income we recognize (i.e., increases or decreases in the cash surrender value of the policies) on these policies is dependent upon the crediting rates applied by the insurance carriers, which are subject to change at the discretion of the carriers, subject to any applicable floors. Earnings on these policies generally are not taxable. Loan swap fees increased by $1.2 million during the six months ended June 30, 2020 as compared to the same period in 2019 due primarily to reduced third party fees and an increase in the volume of activity resulting from the current interest rate environment. SBA loan sales are also included in other noninterest income and fluctuate based on the current market environment. Additionally, the carrying values of other equity investments are adjusted either upwards or downwards from the transaction price to reflect expected exit values as evidenced by financing and sale transactions with third parties, or when determination of a valuation adjustment is confirmed through ongoing reviews by senior investment managers. Other other noninterest income fluctuated during the three and six months ended June 30, 2020 as compared to the same periods in 2019 due to the $1.5 million loss on the sale of the high-yield automobile portfolio in the second quarter of 2019.


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Noninterest Expense.  Noninterest expense consists of salaries and employee benefits, equipment and occupancy expenses, other real estate expenses, and other operating expenses. The following is a summary of our noninterest expense for the three and six months ended June 30, 2020 and 2019 (in thousands):
 Three Months Ended
June 30,
2020 - 2019
Percent
Six Months Ended
June 30,
2020 - 2019
Percent
 20202019Increase (Decrease)20202019Increase (Decrease)
Noninterest expense:      
Salaries and employee benefits:      
Salaries$54,645  $44,625  22.5%$106,821  $89,681  19.1%
Commissions3,611  3,224  12.0%7,594  6,364  19.3%
Cash and equity incentives4,824  16,159  (70.1%)15,104  27,322  (44.7%)
Employee benefits and other10,807  11,612  (6.9%)24,848  22,629  9.8%
Total salaries and employee benefits73,887  75,620  (2.3%)154,367  145,996  5.7%
Equipment and occupancy22,026  23,844  (7.6%)43,004  43,175  (0.4%)
Other real estate expense, net2,888  2,523  14.5%5,303  2,769  91.5%
Marketing and other business development2,142  3,282  (34.7%)5,393  6,230  (13.4%)
Postage and supplies2,070  2,079  (0.4%)4,060  3,971  2.2%
Amortization of intangibles2,479  2,271  9.2%4,999  4,582  9.1%
Other noninterest expense:
Deposit related expense5,677  4,873  16.5%10,915  9,416  15.9%
Lending related expense10,476  5,401  94.0%22,544  10,700  110.7%
Wealth management related expense499  610  (18.2%)1,057  1,140  (7.3%)
Other noninterest expense9,461  7,183  31.7%17,312  13,758  25.8%
Total other noninterest expense$26,113  $18,067  44.5%$51,828  $35,014  48.0%
Total noninterest expense$131,605  $127,686  3.1%$268,954  $241,737  11.3%

Total salaries and employee benefits expenses decreased approximately $1.7 million and increased approximately $8.4 million, respectively, for the three and six months ended June 30, 2020 compared to the same periods in 2019. The change in salaries and employee benefits was the result of an increase in our associate base in 2020 versus 2019 offset in part, or in the case of the three months ended June 30, 2020, in whole, by the reduction of our cash incentive plan accrual as well as the reduction in stock-based compensation expense due to our performance through the first half of 2020 compared to the earnings per diluted share performance metric targets established pursuant to our annual cash incentive plan and the return on average tangible assets performance metric targets applicable pursuant to certain performance-based equity awards we have previously granted, each due to the effects of COVID-19 on our anticipated earnings and performance for the year ended December 31, 2020. At June 30, 2020, our associate base was 2,577.5 full-time equivalent associates as compared to 2,361.0 at June 30, 2019. We expect salary and benefit expenses will continue to rise though at a lesser percentage rate on a linked-quarter basis as we slow our hiring efforts and focus primarily on expanding our associate base in the Atlanta market and those hires critical to our business across the rest of our franchise.

We believe that cash and equity incentives are a valuable tool in motivating an associate base that is focused on providing our clients effective financial advice and increasing shareholder value. As a result, and unlike many other financial institutions, all of our bank's non-commissioned associates participate in our annual cash incentive plan with a minimum targeted bonus equal to 10% of each associate's annual salary, and all of our bank's associates participate in our equity compensation plans. Under the annual cash incentive plan, the targeted level of incentive payments requires achievement of a certain soundness threshold and a targeted level of, and average rate paid on, core deposits and earnings (subject to certain adjustments). To the extent that the soundness threshold is met and core deposit volumes and rates and earnings are above or below the targeted amount, the aggregate incentive payments are increased or decreased. Historically, we have paid between 0% and 125% of our targeted incentives. Through the second quarter of 2020, we have accrued incentive costs for the cash incentive plan in 2020 at approximately 25% of our targeted awards in light of our expectations that our 2020 results will not meet the minimum level of earnings per diluted share required under the plan. The rate at which we are accruing for payouts under the plan is largely the result of the current and expected future impact of the COVID-19 pandemic on our results of operations and deposit volumes and costs. The current rate of 25% is solely the result of our newly implemented deposit component for which our associates are outperforming with respect to both deposit and volume goals.


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Also included in employee benefits and other expense for the three and six months ended June 30, 2020 were approximately $4.1 million and $9.6 million, respectively, of compensation expenses related to equity-based awards for restricted shares or restricted share units, including those with performance-based vesting criteria, compared to $5.2 million and $10.1 million, respectively, for the three and six months ended June 30, 2019. Under our equity incentive plans, we provide a broad-based equity incentive program for all of our bank's associates. We believe that equity incentives provide a vehicle for all associates to become meaningful shareholders of Pinnacle Financial over an extended period of time and create a shareholder-centric culture throughout our organization. Our compensation expense associated with equity awards for the three and six months ended June 30, 2020 decreased when compared to the three and six months ended June 30, 2019 primarily as a result of the fact that our performance through the first half of 2020 made it unlikely that these awards would be earned as a result of the pandemic. Our compensation expense associated with equity awards with time-based vesting criteria is likely to continue to increase during the remainder of 2020 when compared to 2019 as a result of the increased number of associates and our intention to hire additional experienced financial advisors, though for the remainder of 2020 we will focus primarily on expanding our associate base in the Atlanta market and those hires critical to our business across the rest of our franchise. Compensation expense associated with our performance-based vesting awards will be impacted by our performance in 2020 and will likely continue to be less than prior year comparable periods.

Employee benefits and other expenses were $10.8 million and $24.8 million, respectively, for the three and six months ended June 30, 2020 compared to $11.6 million and $22.6 million, respectively, for the three and six months ended June 30, 2019 and include costs associated with our 401k plan, health insurance and payroll taxes.

Equipment and occupancy expenses for the three and six months ended June 30, 2020 were $22.0 million and $43.0 million, respectively, compared to $23.8 million and $43.2 million, respectively, for the three and six months ended June 30, 2019. These costs were generally consistent between periods though we expect to incur additional costs in future periods as we continue to enhance our technology infrastructure.

Other real estate income and expenses for the three and six months ended June 30, 2020 were $2.9 million and $5.3 million, respectively, as compared to $2.5 million and $2.8 million, respectively, for the same periods in the prior year. Included in the six months ended June 30, 2020 were writedowns in the first quarter of 2020 of previously foreclosed upon properties to market value based on updated appraisals received.

Marketing and business development expense for the three and six months ended June 30, 2020 was $2.1 million and $5.4 million, respectively, compared to $3.3 million and $6.2 million, respectively, for the three and six months ended June 30, 2019. The primary source of the decrease for the three and six months ended June 30, 2020 as compared to the same periods 2019 is the result of limited in-person client meetings and business development expenses as a result of the restrictions resulting from the COVID-19 pandemic.

Intangible amortization expense was $2.5 million and $5.0 million, respectively, for the three and six months ended June 30, 2020 compared to $2.3 million and $4.6 million, respectively, for the same periods in 2019. The following table outlines our amortizing intangible assets, their initial valuation and amortizable lives at June 30, 2020:
  Year
acquired
Initial
Valuation
(in millions)
Amortizable
Life
(in years)
Remaining Value
(in millions)
Core Deposit Intangible:   
CapitalMark2015$6.2   $0.6  
Magna Bank20153.2   0.1  
Avenue20168.8   2.7  
BNC201748.1  10  27.9  
Book of Business Intangible:   
Miller Loughry Beach Insurance2008$1.3  20  $0.2  
CapitalMark20150.3  16  0.1  
BNC Insurance20170.4  20  0.3  
BNC Trust20171.9  10  1.3  
Advocate Capital201913.6  13  11.5  

These assets are being amortized on an accelerated basis which reflects the anticipated life of the underlying assets. Amortization expense of these intangibles is estimated to decrease from $9.1 million to $5.1 million per year over the next five years with lesser amounts for the remaining amortization period.

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Other noninterest expenses, which consists primarily of deposit, lending, wealth management and administrative expenses increased by $8.0 million and $16.8 million, respectively, for the three and six months ended June 30, 2020 when compared to the three and six months ended June 30, 2019. Deposit related expense increased by $804,000 and $1.5 million, respectively, during the three and six months ended June 30, 2020 when compared to the same periods in 2019. Lending related expenses increased $5.1 million and $11.8 million, respectively, during the three and six months ended June 30, 2020 when compared to the same periods in 2019. This increase is primarily the result of building our off-balance sheet reserves following the implementation of CECL effective January 1, 2020 and the effect that macroeconomic factors impacted by the COVID-19 pandemic had on our CECL models. Wealth management related expenses decreased during the three and six months ended June 30, 2020 when compared to the same periods in 2019. Total other noninterest expenses increased by $2.3 million and $3.6 million, respectively, during the three and six months ended June 30, 2020 when compared to the same periods in 2019. This increase is primarily the result of $2.9 million in FHLB prepayment penalties as a result of our prepayment of $392.5 million in FHLB borrowings during the second quarter of 2020.

Our efficiency ratio (the ratio of noninterest expense to the sum of net interest income and noninterest income) was 48.1% and 50.0%, respectively, for the three and six months ended June 30, 2020 compared to 49.2% and 48.6%, respectively, for the same periods in 2019. The efficiency ratio measures the amount of expense that is incurred to generate a dollar of revenue. The efficiency ratio for the three and six months ended June 30, 2020 compared to the same periods in 2019 was impacted in part by increased noninterest expense during the period as a result of our building of off-balance sheet reserves upon the adoption of CECL during the quarter as well as net gains and losses on sales of securities, gains on mortgage loans sold and income from our equity method investment in BHG in both periods.

Income Taxes. During the three and six months ended June 30, 2020, we recorded income tax expense of $11.2 million and $9.6 million, respectively, compared to income tax expense of $24.4 million and $47.5 million, respectively, for the three and six months ended June 30, 2019. Our effective tax rate for the three and six months ended June 30, 2020 was 15.2% and 9.5%, respectively, compared to 19.6% for both the three and six months ended June 30, 2019. Our effective tax rate differs from the combined federal and state income tax statutory rate in effect of 26.14% primarily due to our investments in bank-qualified municipal securities, tax benefits from our real estate investment trust subsidiary, participation in Tennessee's Community Investment Tax Credit (CITC) program, tax benefits associated with share-based compensation, bank-owned life insurance and our captive insurance subsidiary, offset in part by the limitation on deductibility of meals and entertainment expense, non-deductible FDIC insurance premiums and non-deductible executive compensation. Our tax expense in the six months ended June 30, 2020 was impacted by the provision expense recorded in response to the COVID-19 pandemic, which was recorded in the first quarter of 2020 as a discrete item of total income tax and contributed a tax benefit of $22.4 million. Our tax rate in each period was also impacted by the vesting and exercise of equity-based awards previously granted under our equity-based compensation program, resulting in the recognition of tax expense of $272,000 and a tax benefit of $590,000, respectively, for the three and six months ended June 30, 2020 compared to tax expense of $68,000 and a tax benefit of $701,000, respectively, for the three and six months ended June 30, 2019.

Financial Condition

Our consolidated balance sheet at June 30, 2020 reflects an increase in total loans outstanding to $22.5 billion compared to $19.8 billion at December 31, 2019. Total deposits increased by $5.3 billion between December 31, 2019 and June 30, 2020. Total assets were $33.3 billion at June 30, 2020 compared to $27.8 billion at December 31, 2019.

Loans. The composition of loans at June 30, 2020 and at December 31, 2019 and the percentage (%) of each classification to total loans are summarized as follows (in thousands):
 June 30, 2020December 31, 2019
 AmountPercentAmountPercent
Commercial real estate:
Owner-occupied$2,708,306  12.0 %$2,669,766  13.5 %
Non-owner occupied5,384,018  23.9 %5,039,452  25.5 %
Consumer real estate – mortgage3,042,604  13.5 %3,068,625  15.5 %
Construction and land development2,574,494  11.4 %2,430,483  12.3 %
Commercial and industrial8,516,333  37.8 %6,290,296  31.8 %
Consumer and other294,545  1.4 %289,254  1.4 %
Total loans$22,520,300  100.0 %$19,787,876  100.0 %


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At June 30, 2020, our loan portfolio composition had changed modestly from the composition at December 31, 2019 principally as a result of the PPP loans, though commercial real estate and commercial and industrial lending generally continue to make up the largest segments of our portfolio. At June 30, 2020, approximately 33.5% of the outstanding principal balance of our commercial real estate loans was secured by owner-occupied commercial real estate properties, compared to 34.6% at December 31, 2019. Owner-occupied commercial real estate is similar in many ways to our commercial and industrial lending in that these loans are generally made to businesses on the basis of the cash flows of the business rather than on the valuation of the real estate. Additionally, the construction and land development loan segment continues to be a meaningful portion of our portfolio and reflects the development and growth of the local economies in which we operate and is diversified between commercial, residential and land.

Banking regulations have established guidelines for the construction ratio of less than 100% of total risk-based capital and for the non-owner occupied ratio of less than 300% of total risk-based capital. Should a bank’s ratios be in excess of these guidelines, banking regulations generally require an increased level of monitoring in these lending areas by bank management. Both ratios are calculated by dividing certain types of loan balances for each of the two categories by Pinnacle Bank’s total risk-based capital. At both June 30, 2020 and December 31, 2019, Pinnacle Bank’s construction and land development loans as a percentage of total risk-based capital were 83.6%. Construction and land development, non-owner occupied commercial real estate and multifamily loans as a percentage of total risk-based capital were 275.0% and 268.3% as of June 30, 2020 and December 31, 2019, respectively. At June 30, 2020, Pinnacle Bank was within the 100% and 300% guidelines and has established what it believes to be appropriate controls to monitor its lending in these areas as it aims to keep the level of these loans to below the 100% and 300% thresholds.

The following table classifies our fixed and variable rate loans at June 30, 2020 according to contractual maturities of (1) one year or less, (2) after one year through five years, and (3) after five years.  The table also classifies our variable rate loans pursuant to the contractual repricing dates of the underlying loans (in thousands):
 Amounts at June 30, 2020PercentagePercentage
Fixed
Rates
Variable
Rates
TotalsAt June 30, 2020At December 31, 2019
Based on contractual maturity:    
Due within one year$2,238,016  $1,691,375  $3,929,391  17.4%20.6%
Due in one year to five years8,004,035  4,694,556  12,698,591  56.4%50.2%
Due after five years3,896,408  1,995,910  5,892,318  26.2%29.2%
Totals$14,138,459  $8,381,841  $22,520,300  100.0%100.0%
Based on contractual repricing dates:   
Daily floating rate$—  $1,289,724  $1,289,724  5.7%13.4%
Due within one year2,238,016  6,503,917  8,741,933  38.8%42.7%
Due in one year to five years8,004,035  309,803  8,313,838  36.9%27.7%
Due after five years3,896,408  278,397  4,174,805  18.6%16.2%
Totals$14,138,459  $8,381,841  $22,520,300  100.0%100.0%
        
The above information does not consider the impact of scheduled principal payments.

Loans in Past Due Status.  The following table is a summary of our loans that were past due at least 30 days but less than 89 days and 90 days or more past due as of June 30, 2020 and December 31, 2019 (in thousands):
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 June 30,December 31,
Loans past due 30 to 89 days:20202019
Commercial real estate:
Owner occupied$3,687  $5,239  
Non-owner occupied640  6,797  
Consumer real estate – mortgage4,875  13,803  
Construction and land development2,059  2,103  
Commercial and industrial10,292  10,952  
Consumer and other1,603  2,184  
Total loans past due 30 to 89 days$23,156  $41,078  
Loans past due 90 days or more: 
Commercial real estate:
Owner occupied$4,943  $1,719  
Non-owner occupied9,950  3,816  
Consumer real estate – mortgage5,917  7,304  
Construction and land development2,154  1,487  
Commercial and industrial4,991  6,364  
Consumer and other548  570  
Total loans past due 90 days or more$28,503  $21,260  
Ratios: 
Loans past due 30 to 89 days as a percentage of total loans0.10 %0.21 %
Loans past due 90 days or more as a percentage of total loans0.13 %0.11 %
Total loans in past due status as a percentage of total loans0.23 %0.32 %

Potential Problem Loans. Potential problem loans, which are not included in nonperforming assets, amounted to approximately $251.3 million, or 1.1% of total loans at June 30, 2020, compared to $276.0 million, or 1.4% of total loans at December 31, 2019. Potential problem loans represent those loans with a well-defined weakness and where information about possible credit problems of borrowers has caused management to have doubts about the borrower's ability to comply with present repayment terms. This definition is believed to be substantially consistent with the standards established by Pinnacle Bank's primary regulators, for loans classified as substandard, excluding the impact of substandard nonaccrual loans and substandard troubled debt restructurings. Troubled debt restructurings are not included in potential problem loans. Approximately $5.4 million of potential problem loans were past due at least 30 days but less than 90 days as of June 30, 2020.

Nonperforming Assets and Troubled Debt Restructurings. At June 30, 2020, we had $84.7 million in nonperforming assets compared to $91.1 million at December 31, 2019. Included in nonperforming assets were $62.6 million in nonaccrual loans and $22.1 million in OREO and other nonperforming assets at June 30, 2020 and $61.6 million in nonaccrual loans and $29.5 million in OREO and other nonperforming assets at December 31, 2019. At June 30, 2020 and December 31, 2019, there were $3.3 million and $4.9 million, respectively, of troubled debt restructurings, all of which were accruing as of the restructured date and remain on accrual status. In response to the COVID-19 pandemic and its economic impact to its customers, Pinnacle Bank implemented a short-term modification program in accordance with interagency regulatory guidance to provide temporary payment relief to those borrowers directly impacted by COVID-19 who were not more than 30 days past due as of December 31, 2019. This program allows for a deferral of payments of principal and/or interest for 90 days, which Pinnacle Bank may extend for an additional 90 days, for a maximum of 180 days on a cumulative and successive basis. Pursuant to the interagency regulatory guidance, Pinnacle Financial may elect to not classify loans for which these deferrals are granted as troubled debt restructurings. As of June 30, 2020, we had granted deferrals on approximately $4.2 billion in aggregate principal amount of loans. As of July 17, 2020, approximately $2.7 billion in aggregate principal loan balances remained on deferral.

Allowance for Credit Losses on Loans (allowance). On January 1, 2020, we adopted FASB ASU 2016-13, which introduces the current expected credit losses (CECL) methodology and requires us to estimate all expected credit losses over the remaining life of our loan portfolio. Accordingly, beginning in 2020, the allowance for credit losses represents an amount that, in management's evaluation, is adequate to provide coverage for all expected future credit losses on outstanding loans. As of June 30, 2020 and December 31, 2019, our allowance for credit losses was approximately $285.4 million and $94.8 million, respectively, which our management believes to be adequate at each of the respective dates. Our allowance for credit losses as a percentage of total loans, inclusive of PPP loans, was 1.27% at June 30, 2020, up from 0.48% at December 31, 2019.

The increase in the allowance for credit losses is largely the result of the implementation of ASU 2016-13 on January 1, 2020, which resulted in an adjustment to the opening balance of the allowance for credit losses of $38.1 million, and increased provisioning during
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the six months ended June 30, 2020 due primarily to the estimated economic impact of the COVID-19 pandemic. Our CECL models rely largely on projections of macroeconomic conditions to estimate future credit losses. Macroeconomic factors used in the model include the national unemployment rate, gross domestic product, the commercial real estate price index and certain US Treasury interest rates. Projections of these macroeconomic factors, obtained from an independent third party, are utilized to predict quarterly rates of default. Projected macroeconomic factors have experienced significant deterioration during the six months ended June 30, 2020, which has resulted in the significant increase in our allowance for credit losses during the same period.

Under the CECL methodology the allowance for credit losses is measured on a collective basis for pools of loans with similar risk characteristics, and for loans that do not share similar risk characteristics with the collectively evaluated pools, evaluations are performed on an individual basis. Losses are predicted over a period of time determined to be reasonable and supportable, and at the end of the reasonable and supportable period losses are reverted to long term historical averages. At June 30, 2020, reasonable and supportable periods ranging from 12 to 18 months were utilized followed by a 12 month straight line reversion period to long term averages.

The overall balance of our allowance at December 31, 2019 was impacted by fair value accounting on our acquired loan portfolios, for which an allowance for credit losses was only necessary if it exceeded the remaining fair value discount. Subsequent to the adoption of ASU 2016-13 on January 1, 2020, an allowance for credit losses is recognized for all acquired loans, regardless of the amount of remaining fair value discounts. In addition, the remaining nonaccretable discount at December 31, 2019 was reclassified into the allowance for credit losses upon adoption of ASU 2016-13 on January 1, 2020. At June 30, 2020, the remaining fair value discount for all acquired portfolios was $38.0 million, all of which is expected to be accreted into income over the remaining contractual lives of the related loans.

For the six months ended June 30, 2020, the net fair value discount changed as follows (in thousands):
 Accretable
Yield
Nonaccretable
Yield
Total
December 31, 2019$(51,322) $(3,828) $(55,150) 
Reclassification of discount to allowance for credit losses—  3,828  3,828  
Year-to-date accretion and settlements13,319  —  13,319  
June 30, 2020$(38,003) $—  $(38,003) 

The following table sets forth, based on management's estimate, the allocation of the allowance for credit losses to categories of loans as well as the unallocated portion as of June 30, 2020 and December 31, 2019 and the percentage of loans in each category to total loans (in thousands):
 June 30, 2020December 31, 2019
 AmountPercentAmountPercent
Commercial real estate:
Owner occupied$38,803  12.0 %$13,406  13.5 %
Non-owner occupied68,426  23.9 %19,963  25.5 %
Consumer real estate - mortgage29,358  13.5 %8,054  15.5 %
Construction and land development41,897  11.4 %12,662  12.3 %
Commercial and industrial100,610  37.8 %36,112  31.8 %
Consumer and other6,278  1.4 %3,595  1.4 %
Unallocated—  NA985  NA
Total allowance for credit losses on loans$285,372  100.0 %$94,777  100.0 %


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The following is a summary of changes in the allowance for credit losses on loans for the six months ended June 30, 2020 and for the year ended December 31, 2019 and the ratio of the allowance for credit losses on loans to total loans as of the end of each period (in thousands):
 Six Months Ended
June 30, 2020
Year ended December 31, 2019
Balance at beginning of period$94,777  $83,575  
Impact of adopting ASC 32638,102  —  
Provision for credit losses on loans168,033  27,283  
Charged-off loans:
Commercial real estate:
Owner occupied(1,061) (1,625) 
Non-owner occupied(263) (75) 
Consumer real estate – mortgage(2,126) (1,335) 
Construction and land development—  (18) 
Commercial and industrial(14,998) (19,208) 
Consumer and other loans(2,247) (6,206) 
Total charged-off loans(20,695) (28,467) 
Recoveries of previously charged-off loans:
Commercial real estate:
Owner occupied225  1,252  
Non-owner occupied199  980  
Consumer real estate – mortgage674  1,827  
Construction and land development93  682  
Commercial and industrial2,997  6,473  
Consumer and other loans967  1,172  
Total recoveries of previously charged-off loans5,155  12,386  
Net charge-offs(15,540) (16,081) 
Balance at end of period$285,372  $94,777  
Ratio of allowance for credit losses on loans to total loans outstanding at end of period1.27 %0.48 %
Ratio of net charge-offs to average total loans outstanding for the period (1)
0.15 %0.08 %
(1) Net charge-offs for the year-to-date period ended June 30, 2020 have been annualized.

Pinnacle Financial's management assesses the adequacy of the allowance on a quarterly basis. This assessment includes procedures to estimate the allowance and test the adequacy and appropriateness of the resulting balance. The level of the allowance is based upon management's evaluation of historical default and loss experience, current and projected economic conditions, asset quality trends, known and inherent risks in the portfolio, adverse situations that may affect the borrowers' ability to repay the loan (including the timing of future payments), the estimated value of any underlying collateral, composition of the loan portfolio, industry and peer bank loan quality indications and other pertinent factors, including regulatory recommendations. The allowance is increased by provisions charged to expense and decreased by charge-offs, net of recoveries of amounts previously charged-off. For further discussion regarding our allowance for credit losses, refer to Critical Accounting Estimates in Part I Item 2 - Critical Accounting Estimates herein. We expect that the economic disruption caused by the COVID-19 pandemic will cause our net charge-offs to increase in 2020 when compared to comparable periods in 2019.

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Based upon our evaluation of the loan portfolio, we believe the allowance for credit losses to be adequate to absorb our estimate of expected future credit losses on loans outstanding at June 30, 2020. While our policies and procedures used to estimate the allowance for credit losses as well as the resultant provision for credit losses charged to operations are considered adequate by management, they are necessarily approximate and imprecise. There are factors beyond our control, such as conditions in the local and national economy, local real estate market or a particular industry or borrower which may negatively impact, materially, our asset quality and the adequacy of our allowance for credit losses and, thus, the resulting provision for credit losses. In particular, the length and severity of the economic disruption of the COVID-19 pandemic is difficult to predict and each may be worse than we have estimated, which could cause our provision for credit losses to be negatively impacted for the duration of the pandemic and its aftermath. We believe borrowers that operate in the restaurant, entertainment, hospitality, medical, dental, retail and construction sectors, including owners of commercial real estate properties and hotels, continue to be the most likely to be negatively impacted by the economic disruptions related to the COVID-19 pandemic, though other businesses and nonprofit and religious organizations have been, and are likely to continue to be, negatively impacted as well. If the strict social distancing practices or safer-at-home directives that were initially implemented in response to the spread of COVID-19 were to return, these impacts could be more severe than currently anticipated.

Investments.  Our investment portfolio, consisting primarily of Federal agency bonds, mortgage-backed securities, and state and municipal securities amounted to $4.4 billion and $3.7 billion at June 30, 2020 and December 31, 2019, respectively. Our investment portfolio serves many purposes including serving as a stable source of income, as collateral for public funds deposits and as a potential liquidity source. A summary of our investment portfolio at June 30, 2020 and December 31, 2019 follows:

 June 30, 2020December 31, 2019
Weighted average life6.73 years6.55 years
Effective duration*4.60%4.75%
Tax equivalent yield2.59%2.85%
(*) The metric is presented net of fair value hedges tied to certain investment portfolio holdings. The effective duration of the investment portfolio without the fair value hedges as of June 30, 2020 and December 31, 2019 was 5.45% and 5.89%, respectively.

Restricted Cash. Our restricted cash balances totaled approximately $254.6 million at June 30, 2020, compared to $137.0 million at December 31, 2019. This restricted cash is maintained at other financial institutions as collateral primarily for our derivative portfolio. The increase in restricted cash is attributable primarily to an increase in collateral requirements on certain derivative instruments for which the fair value has declined. See Note 8. Derivative Instruments in the Notes to our Consolidated Financial Statements elsewhere in this Form 10-Q.

Deposits and Other Borrowings. We had approximately $25.5 billion of deposits at June 30, 2020 compared to $20.2 billion at December 31, 2019. Our deposits consist of noninterest and interest-bearing demand accounts, savings accounts, money market accounts and time deposits. Additionally, we routinely enter into agreements with certain customers to sell certain securities under agreements to repurchase the security the following day. These agreements (which are typically associated with comprehensive treasury management programs for our clients and provide them with short-term returns for their excess funds) amounted to $194.6 million at June 30, 2020 and $126.4 million at December 31, 2019. Additionally, at June 30, 2020 and December 31, 2019, Pinnacle Bank had borrowed $1.8 billion and $2.1 billion, respectively, in advances from the Federal Home Loan Bank of Cincinnati (FHLB). During the three and six months ended June 30, 2020, $392.5 million in FHLB advances were restructured and prepayment penalties of $2.9 million were recognized in expense for the three months ended June 30, 2020. At June 30, 2020, Pinnacle Bank had approximately $2.4 billion in additional availability with the FHLB; however, incremental borrowings are subject to applicable collateral requirements and are made in a formal request by Pinnacle Bank and the subsequent approval by the FHLB. Our efforts to increase our on-balance sheet liquidity in the second half of the first quarter resulted in increased borrowings from the FHLB Cincinnati.


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Generally, we have classified our funding base as either core funding or noncore funding as shown in the table below. The following table represents the balances of our deposits and other funding and the percentage of each type to the total at June 30, 2020 and December 31, 2019:

June 30, 2020PercentDecember 31, 2019Percent
Core funding:    
Noninterest-bearing deposit accounts$6,892,864  24.4%$4,795,476  20.7%
Interest-bearing demand accounts3,747,577  13.3%3,135,581  13.6%
Savings and money market accounts7,424,099  26.3%6,807,825  29.5%
Time deposit accounts less than $250,0001,524,146  5.4%1,674,970  7.2%
Reciprocating demand deposit accounts (1)
455,889  1.6%302,610  1.3%
Reciprocating savings accounts (1)
1,120,722  4.0%717,149  3.1%
Reciprocating CD accounts (1)
226,496  0.8%183,868  0.8%
Total core funding21,391,793  75.8%17,617,479  76.2%
Noncore funding:  
Relationship based noncore funding:  
Other time deposits827,254  2.9%850,189  3.7%
Securities sold under agreements to repurchase194,553  0.7%126,354  0.5%
Total relationship based noncore funding1,021,807  3.6%976,543  4.2%
   Wholesale funding:
  
Brokered deposits1,405,444  5.0%480,942  2.1%
Brokered time deposits1,897,338  6.7%1,232,418  5.3%
Federal Home Loan Bank advances1,787,551  6.3%2,062,534  8.9%
Paycheck Protection Program liquidity facility47,082  0.2%—  —%
Subordinated debt and other funding669,961  2.4%749,080  3.3%
Total wholesale funding5,807,376  20.6%4,524,974  19.6%
Total noncore funding6,829,183  24.2%5,501,517  23.8%
Totals$28,220,976  100.0%$23,118,996  100.0%

(1)The reciprocating categories consists of deposits we receive from a bank network (the Promontory network) in connection with deposits of our customers in excess of our FDIC coverage limit that we place with the Promontory network.

As noted in the table above, our core funding as a percentage of total funding decreased from 76.2% at December 31, 2019 to 75.8% at June 30, 2020, primarily as a result of the significant increase in deposits estimated to have been funded by PPP loans, offset in part by our intentional increase in wholesale funding to build on-balance sheet liquidity as we prepared for the initial impact of the COVID-19 pandemic. Competition for core deposits in our markets remains very competitive and we anticipate that our percentage of non-core funding is likely to increase as PPP loan funds are utilized.

When wholesale funding is necessary to complement the company's core deposit base, management determines which source is best suited to address both liquidity risk management and interest rate risk management objectives. Our Asset Liability Management Policy imposes limitations on overall wholesale funding reliance and on brokered deposit exposure specifically. Both our overall reliance on wholesale funding and exposure to brokered deposits and brokered time deposits were within those policy limitations as of June 30, 2020.

Our funding policies impose limits on the amount of non-core funding we can utilize based on the non-core funding dependency ratio which is calculated pursuant to regulatory guidelines. Periodically, we may exceed our policy limitations, at which time management will develop plans to bring our funding sources back into compliance with our core funding ratios. At June 30, 2020 and December 31, 2019, we were in compliance with our core funding policies. Though growing our core deposit base is a key strategic objective of our firm and we experienced meaningful growth in core deposits in the first half of 2020, we may increase our non-core funding amounts from current levels if we need to do so to fund growth or increase levels of on-balance sheet liquidity, but we do not currently anticipate that such increases will exceed the limits we have established in our internal policies for total levels of non-core funding.


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The amount of time deposits as of June 30, 2020 amounted to $4.5 billion.  The following table shows our time deposits in denominations of $100,000 and less and in denominations greater than $100,000 by category based on time remaining until maturity and the weighted average rate for each category as of June 30, 2020 (in thousands):
 BalancesWeighted Avg. Rate
Denominations less than $100,000 
Three months or less$492,482  1.68 %
Over three but less than six months429,745  1.90 %
Over six but less than twelve months841,281  1.36 %
Over twelve months726,287  1.06 %
 $2,489,795  1.43 %
Denominations $100,000 and greater
Three months or less$644,536  1.86 %
Over three but less than six months433,041  1.70 %
Over six but less than twelve months576,978  1.63 %
Over twelve months330,884  1.85 %
 $1,985,439  1.76 %
Totals$4,475,234  1.57 %

Subordinated debt and other borrowings. We have established, or through acquisition acquired, twelve statutory business trusts which were established to issue 30-year trust preferred securities and certain other subordinated debt agreements. These securities qualify as Tier 2 capital subject to annual phase outs beginning five years from maturity. On April 22, 2020, we established a credit facility with the Federal Reserve Bank in conjunction with the PPP, with available borrowing capacity equal to the outstanding balance of PPP loans, which totaled approximately $2.2 billion at June 30, 2020. We also had a $75.0 million revolving credit facility with no outstanding borrowings as of June 30, 2020 that matured on July 24, 2020 and was not renewed. These instruments are outlined below (in thousands):

NameDate
Established
MaturityTotal Debt OutstandingInterest Rate at June 30, 2020Coupon Structure
Trust preferred securities   
Pinnacle Statutory Trust IDecember 29, 2003December 30, 2033$10,310  3.10 %30-day LIBOR + 2.80%
Pinnacle Statutory Trust IISeptember 15, 2005September 30, 203520,619  1.71 %30-day LIBOR + 1.40%
Pinnacle Statutory Trust IIISeptember 7, 2006September 30, 203620,619  1.96 %30-day LIBOR + 1.65%
Pinnacle Statutory Trust IVOctober 31, 2007September 30, 203730,928  3.16 %30-day LIBOR + 2.85%
BNC Capital Trust IApril 3, 2003April 15, 20335,155  4.47 %30-day LIBOR + 3.25%
BNC Capital Trust IIMarch 11, 2004April 7, 20346,186  4.07 %30-day LIBOR + 2.85%
BNC Capital Trust IIISeptember 23, 2004September 23, 20345,155  3.62 %30-day LIBOR + 2.40%
BNC Capital Trust IVSeptember 27, 2006December 31, 20367,217  2.01 %30-day LIBOR + 1.70%
Valley Financial Trust IJune 26, 2003June 26, 20334,124  4.33 %30-day LIBOR + 3.10%
Valley Financial Trust IISeptember 26, 2005December 15, 20357,217  1.80 %30-day LIBOR + 1.49%
Valley Financial Trust IIIDecember 15, 2006January 30, 20375,155  2.49 %30-day LIBOR + 1.73%
Southcoast Capital Trust IIIAugust 5, 2005September 30, 203510,310  1.81 %30-day LIBOR + 1.50%
Subordinated Debt   
Pinnacle Bank Subordinated NotesJuly 30, 2015July 30, 202560,000  4.8