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SBSI Southside Bancshares

Filed: 30 Apr 21, 11:21am
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 March 31, 2021
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________ to ____________
 
Commission file number: 000-12247
SOUTHSIDE BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
Texas 75-1848732
(State or Other Jurisdiction of
 Incorporation or Organization)
(I.R.S. Employer
 Identification No.)
1201 S. Beckham Avenue,Tyler,Texas75701
(Address of Principal Executive Offices)(Zip Code)
903-531-7111
(Registrant’s telephone number, including area code)
Securities Registered Pursuant to Section 12(b) of the Act:
Title of each classTrading SymbolName of each exchange on which registered
Common Stock, $1.25 par valueSBSINASDAQ Global Select Market
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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  Yes      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 the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large Accelerated FilerAccelerated filer
Non-accelerated filerSmaller reporting company
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes No  

The number of shares of the issuer’s common stock, par value $1.25, outstanding as of April 27, 2021 was 32,588,244 shares.



TABLE OF CONTENTS
 
































SOUTHSIDE BANCSHARES, INC.
Glossary of Acronyms, Abbreviations and Terms

The acronyms, abbreviations and terms listed below are used in various sections of this Form 10-Q, including "Item 1. Financial Statements" and "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations."

Entities:
Southside Bancshares, Inc.Bank holding company for Southside Bank
Southside BankTexas state bank and wholly owned subsidiary of Southside Bancshares, Inc.
CompanyCombined entities of Southside Bancshares, Inc. and its subsidiaries, including Southside Bank
BankSouthside Bank
SouthsideSouthside Bancshares, Inc.
Other Acronyms, Abbreviations and Terms:
2020 Form 10-KCompany’s Annual Report on Form 10-K for the year ended December 31, 2020
AFSAvailable for sale
ALCOAsset/Liability Committee
AOCIAccumulated other comprehensive income or loss
ASCAccounting Standards Codification
ASUAccounting Standards Update issued by the FASB
ATMAutomated teller machines
Basel CommitteeBasel Committee on Banking Supervision
BOLIBank owned life insurance
CARES ActCoronavirus Aid, Relief, and Economic Security Act
CDsCertificates of deposit
CECLASU No. 2016-13, Financial Instruments- Credit Losses, also known as Current Expected Credit Losses
CET1Common Equity Tier 1
CMOsCollateralized mortgage obligations
COVID-19Novel strain of coronavirus
Dodd-Frank ActDodd-Frank Wall Street Reform and Consumer Protection Act of 2010
Economic Aid ActEconomic Aid to Hard-Hit Small Business, Nonprofits and Venues Act
ESOPEmployee Stock Ownership Plan
ETREffective tax rate
Exchange ActSecurities Exchange Act of 1934
FASBFinancial Accounting Standards Board
FDICFederal Deposit Insurance Corporation
Federal ReserveThe Board of Governors of the Federal Reserve System
FHLBFederal Home Loan Bank
FRBNYFederal Reserve Bank of New York
FRDWFederal Reserve Discount Window
FTEFully-taxable equivalents measurements
GAAPGenerally accepted accounting principles
GSEsU.S. government-sponsored enterprises
GuidelinesInteragency Guidelines Prescribing Standards for Safety and Soundness adopted by federal banking agencies
HTMHeld to maturity
Southside Bancshares, Inc. |1

ITMInteractive teller machines
LIBORLondon Interbank Offered Rate
MBSMortgage-backed securities
MVPEMarket value of portfolio equity
OREOOther real estate owned
PCDPurchased financial assets with credit deterioration under CECL
PCIFinancial assets purchased credit impaired under ASC 310-30 prior to CECL
PPPPaycheck Protection Program
PPP FacilityPaycheck Protection Program Lending Facility
Repurchase agreementsSecurities sold under agreements to repurchase
Restoration PlanNonfunded supplemental retirement plan
ROURight-of-use
SBASmall Business Administration
SECSecurities and Exchange Commission
SOFRSecured Overnight Financing Rate provided by the Federal Reserve Bank of New York
TDRTroubled debt restructurings
U.S.United States

Southside Bancshares, Inc. |2

PART I.   FINANCIAL INFORMATION
ITEM 1.  FINANCIAL STATEMENTS

SOUTHSIDE BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(in thousands, except share amounts)
March 31,
2021
December 31,
2020
 
ASSETS  
Cash and due from banks$78,304 $87,357 
Interest earning deposits29,319 21,051 
Total cash and cash equivalents107,623 108,408 
Securities:
Securities AFS, at estimated fair value (amortized cost of $2,448,113 and $2,437,513, respectively)2,546,924 2,587,305 
Securities HTM (estimated fair value of $104,177 and $118,198, respectively)98,159 108,998 
FHLB stock, at cost18,754 25,259 
Equity investments11,804 11,905 
Loans held for sale2,615 3,695 
Loans:  
Loans3,716,598 3,657,779 
Less:  Allowance for loan losses(41,454)(49,006)
Net loans3,675,144 3,608,773 
Premises and equipment, net144,628 144,576 
Operating lease ROU assets15,788 15,063 
Goodwill201,116 201,116 
Other intangible assets, net8,978 9,744 
Interest receivable27,438 38,708 
BOLI116,209 115,583 
Other assets23,706 29,094 
Total assets$6,998,886 $7,008,227 
   
LIABILITIES AND SHAREHOLDERS’ EQUITY  
Deposits:  
Noninterest bearing$1,383,371 $1,354,815 
Interest bearing3,709,272 3,577,507 
Total deposits5,092,643 4,932,322 
Other borrowings22,315 23,172 
FHLB borrowings665,530 832,527 
Subordinated notes, net of unamortized debt issuance costs197,268 197,251 
Trust preferred subordinated debentures, net of unamortized debt issuance costs60,256 60,255 
Deferred tax liability, net9,869 15,549 
Unsettled trades to purchase securities23,473 
Operating lease liabilities17,327 16,734 
Other liabilities51,608 55,120 
Total liabilities6,140,289 6,132,930 
   
Off-balance-sheet arrangements, commitments and contingencies (Note 12)00
  
Shareholders’ equity:  
Common stock:  ($1.25 par value, 80,000,000 shares authorized, 37,943,737 shares issued at March 31, 2021 and 37,934,819 shares issued at December 31, 2020)47,430 47,419 
Paid-in capital774,815 771,511 
Retained earnings134,782 111,208 
Treasury stock: (shares at cost, 5,284,781 at March 31, 2021 and 4,983,645 at December 31, 2020)(138,016)(123,921)
AOCI39,586 69,080 
Total shareholders’ equity858,597 875,297 
Total liabilities and shareholders’ equity$6,998,886 $7,008,227 
The accompanying notes are an integral part of these consolidated financial statements.
Southside Bancshares, Inc. |3


SOUTHSIDE BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
(in thousands, except per share data)
Three Months Ended
March 31,
 20212020
Interest income:  
Loans$36,038 $41,895 
Taxable investment securities2,323 512 
Tax-exempt investment securities8,965 6,206 
MBS6,088 11,534 
FHLB stock and equity investments136 425 
Other interest earning assets15 180 
Total interest income53,565 60,752 
Interest expense:  
Deposits2,597 9,919 
FHLB borrowings1,908 3,974 
Subordinated notes2,395 1,411 
Trust preferred subordinated debentures351 600 
Other borrowings11 147 
Total interest expense7,262 16,051 
Net interest income46,303 44,701 
Provision for credit losses(10,149)25,247 
Net interest income after provision for credit losses56,452 19,454 
Noninterest income:  
Deposit services6,125 6,279 
Net gain on sale of securities AFS2,003 5,541 
Gain on sale of loans593 170 
Trust fees1,383 1,305 
BOLI626 569 
Brokerage services780 580 
Other2,113 1,054 
Total noninterest income13,623 15,498 
Noninterest expense:  
Salaries and employee benefits20,044 19,643 
Net occupancy3,560 3,311 
Advertising, travel & entertainment437 832 
ATM expense238 224 
Professional fees991 1,195 
Software and data processing1,312 1,227 
Communications525 493 
FDIC insurance454 25 
Amortization of intangibles766 980 
Other2,907 2,590 
Total noninterest expense31,234 30,520 
Income before income tax expense38,841 4,432 
Income tax expense4,750 479 
Net income$34,091 $3,953 
Earnings per common share – basic$1.04 $0.12 
Earnings per common share – diluted$1.04 $0.12 
Cash dividends paid per common share$0.32 $0.31 

The accompanying notes are an integral part of these consolidated financial statements.
Southside Bancshares, Inc. |4


SOUTHSIDE BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
(in thousands)
Three Months Ended
March 31,
20212020
Net income$34,091 $3,953 
Other comprehensive income (loss):  
Securities AFS and transferred securities:
Change in unrealized holding (loss) gain on AFS securities during the period(48,979)61,486 
Reclassification adjustment for amortization related to AFS and HTM debt securities416 121 
Reclassification adjustment for net gain on sale of AFS securities, included in net income(2,003)(5,541)
Derivatives:
Change in net unrealized gain (loss) on effective cash flow hedge interest rate swap derivatives11,023 (19,600)
Reclassification adjustment of net loss (gain) related to derivatives designated as cash flow hedges1,568 (101)
Pension plans:
Amortization of net actuarial loss and prior service credit, included in net periodic benefit cost641 727 
Other comprehensive (loss) income, before tax(37,334)37,092 
Income tax benefit (expense) related to items of other comprehensive (loss) income7,840 (7,789)
Other comprehensive (loss) income, net of tax(29,494)29,303 
Comprehensive income$4,597 $33,256 

The accompanying notes are an integral part of these consolidated financial statements.
Southside Bancshares, Inc. |5


SOUTHSIDE BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(UNAUDITED)
(in thousands, except share and per share data)
 Common
Stock
Paid In
Capital
Retained
Earnings
Treasury
Stock
Accumulated
Other
Comprehensive
Income (Loss)
Total
Shareholders’
Equity
Balance at December 31, 2020$47,419 $771,511 $111,208 $(123,921)$69,080 $875,297 
Net income— — 34,091 — — 34,091 
Other comprehensive loss— — — — (29,494)(29,494)
Issuance of common stock for dividend reinvestment plan (8,918 shares)11 321 — — — 332 
Purchase of common stock (427,396 shares)— — — (15,213)— (15,213)
Stock compensation expense— 674 — — — 674 
Net issuance of common stock under employee stock plans (126,260 shares)— 2,309 (41)1,118 — 3,386 
Cash dividends paid on common stock ($0.32 per share)— — (10,476)— — (10,476)
Balance at March 31, 2021$47,430 $774,815 $134,782 $(138,016)$39,586 $858,597 

Balance at December 31, 2019$47,360 $766,718 $80,274 $(94,008)$4,236 $804,580 
Cumulative effect of accounting change— — (7,830)— — (7,830)
Adjusted beginning balance47,360 766,718 72,444 (94,008)4,236 796,750 
Net income— — 3,953 — — 3,953 
Other comprehensive income— — — — 29,303 29,303 
Issuance of common stock for dividend reinvestment plan (10,607 shares)13 334 — — — 347 
Purchase of common stock (869,723 shares)— — — (25,842)— (25,842)
Stock compensation expense— 695 — — — 695 
Net issuance of common stock under employee stock plans (47,428 shares)— 693 (40)435 — 1,088 
Cash dividends paid on common stock ($0.31 per share)— — (10,494)— — (10,494)
Balance at March 31, 2020$47,373 $768,440 $65,863 $(119,415)$33,539 $795,800 

The accompanying notes are an integral part of these consolidated financial statements.
Southside Bancshares, Inc. |6






SOUTHSIDE BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(in thousands)
 Three Months Ended
March 31,
 20212020
OPERATING ACTIVITIES:  
Net income$34,091 $3,953 
Adjustments to reconcile net income to net cash provided by operations:  
Depreciation and net amortization2,882 3,021 
Securities premium amortization (discount accretion), net6,083 4,505 
Loan (discount accretion) premium amortization, net(223)(244)
Provision for credit losses(10,149)25,247 
Stock compensation expense674 695 
Deferred tax expense (benefit)2,161 (5,075)
Net gain on sale of AFS securities(2,003)(5,541)
Net (gain) loss on premises and equipment227 (42)
Gross proceeds from sales of loans held for sale15,987 5,204 
Gross originations of loans held for sale(14,907)(6,651)
Net (gain) loss on OREO(2)
Net change in:  
Interest receivable11,270 1,383 
Other assets6,459 (9,318)
Interest payable(1,026)(2,034)
Other liabilities10,891 (18,886)
Net cash provided by (used in) operating activities62,415 (3,782)
INVESTING ACTIVITIES:  
Securities AFS:
Purchases(127,713)(683,062)
Sales37,097 135,000 
Maturities, calls and principal repayments99,787 80,555 
Securities HTM:  
Maturities, calls and principal repayments10,871 352 
Proceeds from redemption of FHLB stock and equity investments16,240 
Purchases of FHLB stock and equity investments(9,629)(4,661)
Net loan originations(59,211)(33,207)
Purchases of premises and equipment(2,396)(4,259)
Proceeds from sales of premises and equipment94 72 
Proceeds from sales of OREO106 46 
Proceeds from sales of repossessed assets44 31 
Net cash used in investing activities(34,710)(509,133)
(continued)
Southside Bancshares, Inc. | 7



SOUTHSIDE BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
(UNAUDITED)
(in thousands)
 Three Months Ended
March 31,
 20212020
FINANCING ACTIVITIES:  
Net change in deposits$160,308 $56,281 
Net change in other borrowings(857)189,542 
Proceeds from FHLB borrowings4,009,977 3,247,401 
Repayment of FHLB borrowings(4,176,974)(2,945,775)
Net proceeds from issuance of subordinated long-term debt(59)
Proceeds from stock option exercises3,412 1,130 
Cash paid to tax authority related to tax withholding on share-based awards(26)(42)
Purchase of common stock(14,127)(23,959)
Proceeds from the issuance of common stock for dividend reinvestment plan332 347 
Cash dividends paid(10,476)(10,494)
Net cash (used in) provided by financing activities(28,490)514,431 
Net (decrease) increase in cash and cash equivalents(785)1,516 
Cash and cash equivalents at beginning of period108,408 110,697 
Cash and cash equivalents at end of period$107,623 $112,213 
SUPPLEMENTAL DISCLOSURES FOR CASH FLOW INFORMATION:  
Interest paid$8,288 $18,085 
Income taxes paid$250 $
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND FINANCING ACTIVITIES:  
Loans transferred to other repossessed assets and real estate through foreclosure$424 $338 
Unsettled trades to purchase securities$(23,473)$(14,596)
Unsettled trades to sell securities$$67,247 
Unsettled trades to repurchase common stock$(1,086)$(1,883)

The accompanying notes are an integral part of these consolidated financial statements.



Southside Bancshares, Inc. |8

SOUTHSIDE BANCSHARES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)


1.    Summary of Significant Accounting and Reporting Policies
Basis of Presentation
In this report, the words “the Company,” “we,” “us,” and “our” refer to the combined entities of Southside Bancshares, Inc. and its subsidiaries, including Southside Bank.  The words “Southside” and “Southside Bancshares” refer to Southside Bancshares, Inc.  The words “Southside Bank” and “the Bank” refer to Southside Bank.
The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. GAAP for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, not all information required by GAAP for complete financial statements is included in these interim statements. In the opinion of management, all adjustments necessary for a fair presentation of such financial statements have been included.  Such adjustments consisted only of normal recurring items.  The preparation of these consolidated financial statements in accordance with GAAP requires the use of management’s estimates.  These estimates are subjective in nature and involve matters of judgment.  Actual amounts could differ from these estimates.
Interim results are not necessarily indicative of results for a full year.  These financial statements should be read in conjunction with the financial statements and notes thereto in our Annual Report on Form 10-K for the year ended December 31, 2020. 
Accounting Changes and Reclassifications
Certain prior period amounts may be reclassified to conform to current year presentation.
Accounting Pronouncements
In March 2020, the FASB issued ASU 2020-04, “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting.” ASU 2020-04 is intended to provide relief for companies preparing for discontinuation of interest rates based on LIBOR. The ASU provides optional expedients and exceptions for applying GAAP to contract modifications and hedging relationships, subject to meeting certain criteria, that reference LIBOR or other reference rates expected to be discontinued. ASU 2020-04 also provides for a one-time sale and/or transfer to AFS or trading to be made for HTM debt securities that both reference an eligible reference rate and were classified as HTM before January 1, 2020. ASU 2020-04 was effective for all entities as of March 12, 2020 and through December 31, 2022. Companies can apply the ASU as of the beginning of the interim period that includes March 12, 2020 or any date thereafter. The guidance requires companies to apply the guidance prospectively to contract modifications and hedging relationships while the one-time election to sell and/or transfer debt securities classified as HTM may be made any time after March 12, 2020. We have established an officer level committee to guide our transition from LIBOR and have begun efforts to transition to alternative rates consistent with industry timelines. We have identified products that utilize LIBOR and are implementing enhanced fallback language to facilitate the transition to alternative reference rates. We are evaluating existing systems and have begun offering new rates on a limited basis. ASU 2020-04 is not expected to have a material impact on our consolidated financial statements.


Southside Bancshares, Inc. |9

2.     Earnings Per Share
Earnings per share on a basic and diluted basis are calculated as follows (in thousands, except per share amounts):
Three Months Ended
March 31,
 20212020
Basic and Diluted Earnings:  
Net income$34,091 $3,953 
Basic weighted-average shares outstanding32,829 33,691 
Add:  Stock awards108 114 
Diluted weighted-average shares outstanding32,937 33,805 
Basic earnings per share:
Net income$1.04 $0.12 
Diluted earnings per share:
Net income$1.04 $0.12 
For the three months ended March 31, 2021, and 2020 there were approximately 679,000 and 775,000 anti-dilutive shares, respectively.

Southside Bancshares, Inc. |10

3.     Accumulated Other Comprehensive Income (Loss)

The changes in accumulated other comprehensive income (loss) by component are as follows (in thousands):
Three Months Ended March 31, 2021
Pension Plans
Unrealized Gains (Losses) on SecuritiesUnrealized Gains (Losses) on DerivativesNet Prior
Service
(Cost)
Credit
Net Gain (Loss)Total
Beginning balance, net of tax$116,078 $(17,091)$149 $(30,056)$69,080 
Other comprehensive income (loss):
Other comprehensive (loss) income before reclassifications(48,979)11,023 (37,956)
Reclassification adjustments included in net income(1,587)1,568 641 622 
Income tax benefit (expense)10,619 (2,644)(135)7,840 
Net current-period other comprehensive (loss) income, net of tax(39,947)9,947 506 (29,494)
Ending balance, net of tax$76,131 $(7,144)$149 $(29,550)$39,586 
Three Months Ended March 31, 2020
Pension Plans
Unrealized Gains (Losses) on SecuritiesUnrealized Gains (Losses) on Derivatives
Net Prior
 Service
 (Cost)
 Credit
Net Gain (Loss)Total
Beginning balance, net of tax$38,038 $(1,672)$(145)$(31,985)$4,236 
Other comprehensive income (loss):
Other comprehensive income (loss) before reclassifications61,486 (19,600)41,886 
Reclassification adjustments included in net income(5,420)(101)(1)728 (4,794)
Income tax (expense) benefit(11,774)4,137 (152)(7,789)
Net current-period other comprehensive income (loss), net of tax44,292 (15,564)(1)576 29,303 
Ending balance, net of tax$82,330 $(17,236)$(146)$(31,409)$33,539 



Southside Bancshares, Inc. |11

The reclassification adjustments out of accumulated other comprehensive income (loss) included in net income are presented below (in thousands):
Three Months Ended
March 31,
20212020
Unrealized gains and losses on securities transferred:
Amortization of unrealized gains and losses (1)
$(416)$(121)
Tax benefit87 25 
Net of tax(329)(96)
Unrealized gains and losses on available for sale securities:
Realized net gain on sale of securities (2)
2,003 5,541 
Tax expense(420)(1,164)
Net of tax1,583 4,377 
Derivatives:
Realized net (loss) gain on interest rate swap derivatives (3)
(1,568)93 
Tax benefit (expense)329 (19)
Net of tax(1,239)74 
Amortization of unrealized gains on terminated interest rate swap derivatives (3)
Tax expense(1)
Net of tax
Amortization of pension plan:
Net actuarial loss (4)
(641)(728)
Prior service credit (4)
Total before tax(641)(727)
Tax benefit135 152 
Net of tax(506)(575)
Total reclassifications for the period, net of tax$(491)$3,787 
(1)    Included in interest income on the consolidated statements of income.
(2)    Listed as net gain on sale of securities AFS on the consolidated statements of income.
(3)    Included in interest expense for FHLB borrowings on the consolidated statements of income.
(4)    These AOCI components are included in the computation of net periodic pension cost (income) presented in “Note 8 – Employee Benefit Plans.”
Southside Bancshares, Inc. |12

4.     Securities

Debt securities

The amortized cost, gross unrealized gains and losses and estimated fair value of investment and mortgage-backed AFS and HTM securities as of March 31, 2021 and December 31, 2020 are reflected in the tables below (in thousands):
 March 31, 2021
Amortized
Gross
Unrealized
Gross UnrealizedEstimated
AVAILABLE FOR SALECostGainsLossesFair Value
Investment securities:
U.S. Treasury$42,818 $$349 $42,477 
State and political subdivisions1,528,516 71,813 8,684 1,591,645 
Other stocks and bonds91,439 1,560 216 92,783 
MBS: (1)
   
Residential675,795 31,580 301 707,074 
Commercial109,545 3,802 402 112,945 
Total$2,448,113 $108,763 $9,952 $2,546,924 
HELD TO MATURITY
Investment securities:   
State and political subdivisions$908 $$$917 
MBS: (1)
Residential45,274 3,006 48,280 
Commercial51,977 3,003 54,980 
Total$98,159 $6,018 $$104,177 

 December 31, 2020
Amortized
Gross
Unrealized
Gross UnrealizedEstimated
AVAILABLE FOR SALECostGainsLossesFair Value
Investment securities: 
State and political subdivisions$1,475,030 $105,601 $37 $1,580,594 
Other stocks and bonds77,224 1,053 22 78,255 
MBS: (1)
 
Residential771,409 38,674 73 810,010 
Commercial113,850 4,746 150 118,446 
Total$2,437,513 $150,074 $282 $2,587,305 
HELD TO MATURITY
Investment securities:
State and political subdivisions$907 $13 $$920 
MBS: (1)
 
Residential47,948 4,187 52,135 
Commercial60,143 5,000 65,143 
Total$108,998 $9,200 $$118,198 
(1) All MBS issued and/or guaranteed by U.S. government agencies or U.S. GSEs.

Investment securities and MBS with carrying values of $1.47 billion and $1.56 billion were pledged as of March 31, 2021 and December 31, 2020, respectively, to collateralize FHLB borrowings, borrowings from the FRDW, repurchase agreements and public fund deposits, for potential liquidity needs or other purposes as required by law.
Southside Bancshares, Inc. |13

The following tables represent the fair value and unrealized losses on AFS investment and MBS for which an allowance for credit losses has not been recorded as of March 31, 2021 and December 31, 2020, segregated by major security type and length of time in a continuous loss position (in thousands):
March 31, 2021
 Less Than 12 MonthsMore Than 12 MonthsTotal
Fair Value
Unrealized
Loss
Fair Value
Unrealized
Loss
Fair Value
Unrealized
Loss
AVAILABLE FOR SALE      
Investment securities:
U.S. Treasury$23,599 $349 $$$23,599 $349 
State and political subdivisions205,469 8,684 205,469 8,684 
Other stocks and bonds28,845 216 28,845 216 
MBS:
Residential7,769 301 7,769 301 
Commercial4,488 402 4,488 402 
Total$270,170 $9,952 $$$270,170 $9,952 
December 31, 2020
Less Than 12 MonthsMore Than 12 MonthsTotal
Fair ValueUnrealized
Loss
Fair ValueUnrealized
Loss
Fair ValueUnrealized
Loss
AVAILABLE FOR SALE      
Investment securities:
State and political subdivisions$17,305 $37 $$$17,305 $37 
Other stocks and bonds11,562 22 11,562 22 
MBS:
Residential6,287 73 6,287 73 
Commercial4,744 150 4,744 150 
Total$39,898 $282 $$$39,898 $282 

With the adoption of ASU 2016-13, for those AFS debt securities in an unrealized loss position where management (i) has the intent to sell or (ii) where it will more-likely-than-not be required to sell the security before the recovery of its amortized cost basis, we write the security down to fair value with an adjustment to earnings. For those AFS debt securities in an unrealized loss position that do not meet either of these criteria, management assesses whether the decline in fair value has resulted from credit-related factors, using both qualitative and quantitative criteria. Determining the allowance under the credit loss method requires the use of a discounted cash flow method to assess the credit losses. Any credit-related impairment will be recognized in allowance for credit losses on the balance sheet with a corresponding adjustment to earnings. Noncredit-related impairment, the portion of the impairment relating to factors other than credit (such as changes in market interest rates), is recognized in other comprehensive income, net of tax.
Based on our consideration of the qualitative factors associated with each security type in our AFS portfolio, we did 0t recognize any unrealized losses in income on our AFS securities during the three months ended March 31, 2021 or 2020. Our state and political subdivisions are highly rated municipal securities with a long history of no credit losses. Our AFS MBS are highly rated securities which are either explicitly or implicitly backed by the U.S. Government through its agencies which are highly rated by major ratings agencies and also have a long history of no credit losses. Our other stocks and bonds as of March 31, 2021 consist of highly rated investment grade bonds. Management does not intend to sell and it is likely we will not be required to sell those securities in an unrealized loss position prior to the anticipated recovery of the amortized cost basis. These unrealized losses on our investment and MBS are largely due to changes in interest rates and spreads and other market conditions impacted by COVID-19. As of March 31, 2021 and December 31, 2020, we did 0t have an allowance for credit losses on our AFS securities.
We assess the likelihood of default and the potential amount of default when assessing our HTM securities for credit losses. We utilize term structures and, due to no prior loss exposure on our state and political subdivision securities, we currently apply a third-party average loss given default rate to model our securities. Due to a small number of HTM municipal securities in our portfolio as of March 31, 2021 and 2020, we elected to use the specific identification method to model these securities which aligns with our third-party fair value measurement process. The model determined any expected credit loss over the life of these
Southside Bancshares, Inc. |14

securities to be remote. Management further evaluated the remote expectation of loss along with the qualitative factors associated with these securities and concluded that, due to the securities being highly rated municipals with a long history of no credit losses, 0 credit loss should be recognized for these securities for the three months ended March 31, 2021 or 2020.
From time to time, we have transferred securities from AFS to HTM due to overall balance sheet strategies. The remaining net unamortized, unrealized loss on the transferred securities included in AOCI in the accompanying balance sheets totaled $2.4 million ($1.9 million, net of tax) at March 31, 2021 and $2.9 million ($2.3 million, net of tax) at December 31, 2020. Any net unrealized gain or loss on the transferred securities included in AOCI at the time of transfer will be amortized over the remaining life of the underlying security as an adjustment to the yield on those securities. Securities transferred with losses included in AOCI continue to be included in management’s assessment for impairment for each individual security. There were 0 securities transferred from AFS to HTM during the three months ended March 31, 2021 or the year ended December 31, 2020.
The accrued interest receivable on our debt securities is excluded from the credit loss estimate and is included in interest receivable on our consolidated balance sheets. As of March 31, 2021, accrued interest receivable on AFS and HTM debt securities totaled $13.4 million and $259,000, respectively. As of December 31, 2020, accrued interest receivable on AFS and HTM debt securities totaled $22.0 million and $298,000, respectively. NaN HTM debt securities were past-due or on 0naccrual status as of March 31, 2021 or December 31, 2020.
The following table reflects interest income recognized on securities for the periods presented (in thousands):
 Three Months Ended
March 31,
 20212020
U.S. Treasury$37 $
State and political subdivisions10,406 6,625 
Other stocks and bonds845 93 
MBS6,088 11,534 
Total interest income on securities$17,376 $18,252 

There was a $2.0 million net realized gain from the AFS securities portfolio for the three months ended March 31, 2021, which consisted of $2.1 million in realized gains and $52,000 in realized losses.  There was a $5.5 million net realized gain from the AFS securities portfolio for the three months ended March 31, 2020, which consisted of $5.6 million in realized gains and $10,000 in realized losses. There were 0 sales from the HTM portfolio during the three months ended March 31, 2021 or 2020.  We calculate realized gains and losses on sales of securities under the specific identification method.
Expected maturities on our securities may differ from contractual maturities because issuers may have the right to call or prepay obligations.  MBS are presented in total by category since MBS are typically issued with stated principal amounts and are backed by pools of mortgages that have loans with varying maturities.  The characteristics of the underlying pool of mortgages, such as fixed-rate or adjustable-rate, as well as prepayment risk, are passed on to the security holder.  The term of a mortgage-backed pass-through security thus approximates the term of the underlying mortgages and can vary significantly due to prepayments.
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The amortized cost and estimated fair value of AFS and HTM securities at March 31, 2021, are presented below by contractual maturity (in thousands):
 March 31, 2021
 Amortized CostFair Value
AVAILABLE FOR SALE
Investment securities:  
Due in one year or less$1,036 $1,061 
Due after one year through five years32,542 33,937 
Due after five years through ten years93,914 96,177 
Due after ten years1,535,281 1,595,730 
 1,662,773 1,726,905 
MBS:785,340 820,019 
Total$2,448,113 $2,546,924 

 March 31, 2021
 Amortized CostFair Value
HELD TO MATURITY
Investment securities:  
Due in one year or less$120 $121 
Due after one year through five years509 514 
Due after five years through ten years279 282 
Due after ten years
 908 917 
MBS:97,251 103,260 
Total$98,159 $104,177 

Equity Investments
Equity investments on our consolidated balance sheets include Community Reinvestment Act funds with a readily determinable fair value as well as equity investments without readily determinable fair values. At March 31, 2021 and December 31, 2020, we had equity investments recorded in our consolidated balance sheets of $11.8 million and $11.9 million, respectively.
Any realized and unrealized gains and losses on equity investments are reported in income. Equity investments without readily determinable fair values are recorded at cost less impairment, if any.
The following is a summary of unrealized and realized gains and losses on equity investments recognized in other noninterest income in the consolidated statements of income during the periods presented (in thousands):
 Three Months Ended
March 31,
 20212020
Net (losses) gains recognized during the period on equity investments$(107)$53 
Less: Net gains recognized during the period on equity investments sold during the period
Unrealized (losses) gains recognized during the reporting period on equity investments held at the reporting date$(107)$53 

Equity investments are assessed quarterly for other-than-temporary impairment. Based upon that evaluation, management does 0t consider any of our equity investments to be other-than-temporarily impaired at March 31, 2021.
FHLB Stock
Our FHLB stock, which has limited marketability, is carried at cost and is assessed quarterly for other-than-temporary impairment. Based upon evaluation by management at March 31, 2021, our FHLB stock was 0t impaired and thus was not considered to be other-than-temporarily impaired.
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5.     Loans and Allowance for Loan Losses

Loans in the accompanying consolidated balance sheets are classified as follows (in thousands):    
March 31, 2021December 31, 2020
Real estate loans:  
Construction$605,677 $581,941 
1-4 family residential700,430 719,952 
Commercial1,348,551 1,295,746 
Commercial loans564,745 557,122 
Municipal loans406,377 409,028 
Loans to individuals90,818 93,990 
Total loans3,716,598 3,657,779 
Less: Allowance for loan losses41,454 49,006 
Net loans$3,675,144 $3,608,773 

Paycheck Protection Program Loans
In April 2020, we began originating loans to qualified small businesses under the PPP administered by the SBA under the provisions of the CARES Act. Loans covered by the PPP may be eligible for loan forgiveness for certain costs incurred related to payroll, group health care benefit costs and qualifying mortgage, rent and utility payments. The remaining loan balance after forgiveness of any amount is still fully guaranteed by the SBA. On December 27, 2020, the Economic Aid Act was signed into law. This second coronavirus relief package granted additional funds for a new round of PPP loans. Additionally, it expanded the eligibility for loans and allowed certain businesses to request a second loan. In return for processing and booking a PPP loan, the SBA paid lenders a processing fee tiered by the size of the loan. These loans are included in commercial loans with an amortized cost basis at March 31, 2021 and December 31, 2020 of $220.9 million and $214.8 million, respectively.
Construction Real Estate Loans
Our construction loans are collateralized by property located primarily in or near the market areas we serve. A number of our construction loans will be owner occupied upon completion. Construction loans for non-owner occupied projects are financed, but these typically have cash flows from leases with tenants, secondary sources of repayment, and in some cases, additional collateral. Our construction loans have both adjustable and fixed interest rates during the construction period. Construction loans to individuals are typically priced and made with the intention of granting the permanent loan on the completed property. Speculative and commercial construction loans are subject to underwriting standards similar to that of the commercial portfolio.  Owner occupied 1-4 family residential construction loans are subject to the underwriting standards of the permanent loan.
1-4 Family Residential Real Estate Loans
Residential loan originations are generated by our loan officers, in-house origination staff, marketing efforts, present customers, walk-in customers and referrals from real estate agents and builders.  We focus our lending efforts primarily on the origination of loans secured by first mortgages on owner occupied 1-4 family residences.  Substantially all of our 1-4 family residential originations are secured by properties located in or near our market areas.  
Our 1-4 family residential loans generally have maturities ranging from five to 30 years.  These loans are typically fully amortizing with monthly payments sufficient to repay the total amount of the loan.  Our 1-4 family residential loans are made at both fixed and adjustable interest rates.
Underwriting for 1-4 family residential loans includes debt-to-income analysis, credit history analysis, appraised value and down payment considerations. Changes in the market value of real estate can affect the potential losses in the portfolio.
Commercial Real Estate Loans
Commercial real estate loans as of March 31, 2021 consisted of $1.25 billion of owner and non-owner occupied real estate, $81.6 million of loans secured by multi-family properties and $15.0 million of loans secured by farmland. Commercial real estate loans primarily include loans collateralized by retail, commercial office buildings, multi-family residential buildings, medical facilities and offices, senior living, assisted living and skilled nursing facilities, warehouse facilities, hotels and churches. In determining whether to originate commercial real estate loans, we generally consider such factors as the financial condition of the borrower and the debt service coverage of the property. Commercial real estate loans are made at both fixed and adjustable interest rates for terms generally up to 20 years.
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Commercial Loans
Our commercial loans are diversified loan types including short-term working capital loans for inventory and accounts receivable and short- and medium-term loans for equipment or other business capital expansion.  In our commercial loan underwriting, we assess the creditworthiness, ability to repay and the value and liquidity of the collateral being offered.  Terms of commercial loans are generally commensurate with the useful life of the collateral offered.
Municipal Loans
We make loans to municipalities and school districts primarily throughout the state of Texas, with a small percentage originating outside of the state.  The majority of the loans to municipalities and school districts have tax or revenue pledges and in some cases are additionally supported by collateral.  Municipal loans made without a direct pledge of taxes or revenues are usually made based on some type of collateral that represents an essential service. Lending money directly to these municipalities allows us to earn a higher yield than we could if we purchased municipal securities for similar durations.
Loans to Individuals
Substantially all originations of our loans to individuals are made to consumers in our market areas.  The majority of loans to individuals are collateralized by titled equipment, which are primarily automobiles. Loan terms vary according to the type and value of collateral, length of contract and creditworthiness of the borrower.  The underwriting standards we employ for consumer loans include an application, a determination of the applicant’s payment history on other debts, with the greatest weight being given to payment history with us and an assessment of the borrower’s ability to meet existing obligations and payments on the proposed loan.  Although creditworthiness of the applicant is a primary consideration, the underwriting process also includes a comparison of the value of the collateral, if any, in relation to the proposed loan amount. Most of our loans to individuals are collateralized, which management believes assists in limiting our exposure.
Credit Quality Indicators
We categorize loans into risk categories on an ongoing basis based on relevant information about the ability of borrowers to service their debt such as:  current financial information, historical payment experience, credit documentation, public information and current economic trends, among other factors.  We use the following definitions for risk ratings:
Pass (Rating 1 – 4) – This rating is assigned to all satisfactory loans.  This category, by definition, consists of acceptable credit.  Credit and collateral exceptions should not be present, although their presence would not necessarily prohibit a loan from being rated Pass, if deficiencies are in the process of correction.  These loans are not included in the Watch List.
Pass Watch (Rating 5) – These loans require some degree of special treatment, but not due to credit quality.  This category does not include loans specially mentioned or adversely classified; however, particular attention is warranted to characteristics such as:
A lack of, or abnormally extended payment program;
A heavy degree of concentration of collateral without sufficient margin;
A vulnerability to competition through lesser or extensive financial leverage; and
A dependence on a single or few customers or sources of supply and materials without suitable substitutes or alternatives.
Special Mention (Rating 6) – A Special Mention loan has potential weaknesses that deserve management’s close attention.  If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or in our credit position at some future date.  Special Mention loans are not adversely classified and do not expose us to sufficient risk to warrant adverse classification.
Substandard (Rating 7) – Substandard loans are inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any.  Loans so classified must have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt.  They are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.
Doubtful (Rating 8) – Loans classified as Doubtful have all the weaknesses inherent in those classified Substandard with the added characteristic that the weaknesses make collection or liquidation, in full, on the basis of currently known facts, conditions and values, highly questionable and improbable.
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The following tables set forth the amortized cost basis by class of financing receivable and credit quality indicator for the periods presented (in thousands):
March 31, 2021Term Loans Amortized Cost Basis by Origination YearRevolving Loans Amortized Cost BasisTotal
20212020201920182017Prior
Construction real estate:
Pass$26,255 $160,527 $182,708 $75,258 $33,261 $8,877 $118,479 $605,365 
Pass watch22 22 
Special mention
Substandard54 54 
Doubtful59 177 236 
Total construction real estate$26,255 $160,527 $182,708 $75,317 $33,261 $9,130 $118,479 $605,677 
1-4 family residential real estate:
Pass$39,457 $151,235 $104,065 $63,864 $46,692 $283,115 $2,506 $690,934 
Pass watch823 823 
Special mention65 65 
Substandard10 1,684 943 5,289 94 8,020 
Doubtful14 135 34 405 588 
Total 1-4 family residential real estate$39,467 $152,933 $104,065 $63,999 $47,669 $289,697 $2,600 $700,430 
Commercial real estate:
Pass$138,805 $236,874 $285,638 $110,462 $181,077 $247,524 $6,857 $1,207,237 
Pass watch23,272 37,938 5,472 66,682 
Special mention24,142 577 8,883 7,002 138 12,245 52,987 
Substandard2,105 4,631 1,956 63 12,756 21,511 
Doubtful134 134 
Total commercial real estate$165,052 $242,082 $294,521 $142,692 $219,216 $278,131 $6,857 $1,348,551 
Commercial loans:
Pass$108,205 $221,819 $41,605 $17,819 $6,368 $8,280 $146,516 $550,612 
Pass watch43 2,313 1,199 2,004 1,487 378 7,424 
Special mention280 718 416 36 385 320 2,155 
Substandard185 454 989 481 1,486 3,597 
Doubtful382 95 449 31 957 
Total commercial loans$108,713 $224,968 $44,606 $21,169 $7,924 $8,665 $148,700 $564,745 
Municipal loans:
Pass$14,748 $69,822 $66,741 $32,166 $59,756 $163,144 $$406,377 
Pass watch
Special mention
Substandard
Doubtful
Total municipal loans$14,748 $69,822 $66,741 $32,166 $59,756 $163,144 $$406,377 
Loans to individuals:
Pass$12,798 $39,592 $20,715 $8,079 $3,672 $2,079 $3,521 $90,456 
Pass watch
Special mention47 51 
Substandard19 34 22 27 10 112 
Doubtful67 44 83 199 
Total loans to individuals$12,798 $39,678 $20,749 $8,153 $3,743 $2,172 $3,525 $90,818 
Total loans$367,033 $890,010 $713,390 $343,496 $371,569 $750,939 $280,161 $3,716,598 
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December 31, 2020Term Loans Amortized Cost Basis by Origination YearRevolving Loans Amortized Cost BasisTotal
20202019201820172016Prior
Construction real estate:
Pass$155,693 $180,536 $76,090 $55,636 $3,191 $8,297 $101,793 $581,236 
Pass watch23 23 
Special mention
Substandard382 62 58 502 
Doubtful180 180 
Total construction real estate$155,693 $180,918 $76,152 $55,636 $3,214 $8,535 $101,793 $581,941 
1-4 family residential real estate:
Pass$154,003 $114,063 $70,621 $55,557 $57,680 $255,003 $2,833 $709,760 
Pass watch267 564 831 
Special mention10 10 
Substandard1,473 135 427 1,588 5,134 96 8,853 
Doubtful36 103 359 498 
Total 1-4 family residential real estate$155,476 $114,063 $70,756 $56,020 $59,638 $261,070 $2,929 $719,952 
Commercial real estate:
Pass$270,087 $307,161 $143,177 $162,180 $98,828 $179,919 $6,957 $1,168,309 
Pass watch3,153 40,125 1,696 2,582 47,556 
Special mention4,555 33,020 7,041 140 4,531 7,850 57,137 
Substandard7,542 2,097 65 704 12,282 22,690 
Doubtful54 54 
Total commercial real estate$282,184 $340,181 $155,468 $202,510 $105,759 $202,687 $6,957 $1,295,746 
Commercial loans:
Pass$313,688 $47,446 $20,386 $7,505 $3,392 $6,142 $140,018 $538,577 
Pass watch2,599 1,318 2,410 1,981 370 8,678 
Special mention304 809 433 39 286 265 455 2,591 
Substandard405 1,081 473 4,417 6,383 
Doubtful310 53 475 54 893 
Total commercial loans$317,306 $50,707 $24,177 $9,586 $3,679 $6,407 $145,260 $557,122 
Municipal loans:
Pass$72,542 $68,132 $33,735 $61,170 $25,387 $148,062 $$409,028 
Pass watch
Special mention
Substandard
Doubtful
Total municipal loans$72,542 $68,132 $33,735 $61,170 $25,387 $148,062 $$409,028 
Loans to individuals:
Pass$46,722 $25,302 $10,132 $4,716 $1,867 $917 $3,900 $93,556 
Pass watch
Special mention51 55 
Substandard35 28 30 11 120 
Doubtful73 20 55 81 24 259 
Total loans to individuals$46,801 $25,357 $10,217 $4,801 $1,957 $952 $3,905 $93,990 
Total loans$1,030,002 $779,358 $370,505 $389,723 $199,634 $627,713 $260,844 $3,657,779 

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The following tables present the aging of the amortized cost basis in past due loans by class of loans (in thousands):
 March 31, 2021
 
30-59 Days
Past Due
60-89 Days
Past Due
Greater than 90 Days Past Due
Total Past
Due
CurrentTotal
Real estate loans:     
Construction$1,130 $$$1,130 $604,547 $605,677 
1-4 family residential5,321 614 486 6,421 694,009 700,430 
Commercial4,676 4,676 1,343,875 1,348,551 
Commercial loans1,507 245 641 2,393 562,352 564,745 
Municipal loans406,377 406,377 
Loans to individuals418 30 451 90,367 90,818 
Total$13,052 $889 $1,130 $15,071 $3,701,527 $3,716,598 
December 31, 2020
30-59 Days Past Due60-89 Days Past DueGreater than 90 Days
Past Due
Total Past
Due
CurrentTotal
Real estate loans:
Construction$95 $14 $444 $553 $581,388 $581,941 
1-4 family residential7,872 2,469 2,830 13,171 706,781 719,952 
Commercial467 315 86 868 1,294,878 1,295,746 
Commercial loans1,423 4,516 323 6,262 550,860 557,122 
Municipal loans64 64 408,964 409,028 
Loans to individuals519 123 27 669 93,321 93,990 
Total$10,440 $7,437 $3,710 $21,587 $3,636,192 $3,657,779 


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The following table sets forth the amortized cost basis of nonperforming assets for the periods presented (in thousands):
 March 31, 2021December 31, 2020
Nonaccrual loans:
Real estate loans:
Construction$248 $640 
1-4 family residential1,929 3,922 
Commercial1,229 1,269 
Commercial loans1,682 1,592 
Loans to individuals226 291 
Total nonaccrual loans (1)
5,314 7,714 
Accruing loans past due more than 90 days
TDR loans9,641 9,646 
OREO412 106 
Repossessed assets14 
Total nonperforming assets$15,367 $17,480 

(1)    Includes $889,000 and $976,000 of restructured loans as of March 31, 2021 and December 31, 2020, respectively.


We reversed $18,000 and $121,000 of interest income on nonaccrual loans during the three months ended March 31, 2021 and 2020, respectively. We had $1.6 million and $2.2 million of loans on nonaccrual for which there was no related allowance for credit losses as of March 31, 2021 and December 31, 2020, respectively.
Collateral-dependent loans are loans that we expect the repayment to be provided substantially through the operation or sale of the collateral of the loan and we have determined that the borrower is experiencing financial difficulty. In such cases, expected credit losses are based on the fair value of the collateral at the measurement date, adjusted for selling costs. As of March 31, 2021 and December 31, 2020, we had $11.2 million and $11.5 million, respectively, of collateral-dependent loans, secured mainly by real estate and equipment. There have been no significant changes to the collateral that secures the collateral-dependent assets. Foreclosed assets include OREO and repossessed assets. For 1-4 family residential real estate properties, a loan is recognized as a foreclosed property once legal title to the real estate property has been received upon completion of foreclosure or the borrower has conveyed all interest in the residential property through a deed in lieu of foreclosure. There were $234,000 and $1.2 million in loans secured by 1-4 family residential properties for which formal foreclosure proceedings were in process as of March 31, 2021 and December 31, 2020, respectively.

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Troubled Debt Restructurings
The restructuring of a loan is considered a TDR if both (i) the borrower is experiencing financial difficulties and (ii) the creditor has granted a concession.  Concessions may include interest rate reductions or below market interest rates, restructuring amortization schedules and other actions intended to minimize potential losses. We may provide a combination of concessions which may include an extension of the amortization period, interest rate reduction and/or converting the loan to interest-only for a limited period of time.
In response to the impact of the COVID-19 pandemic on the economy, the CARES Act was signed into law. Under the CARES Act, banks may elect to deem that loan modifications do not result in TDRs if they are: (1) related to COVID-19; (2) executed on a loan that was not more than 30 days past due as of December 31, 2019; and (3) executed between March 1, 2020, and the earlier of (A) 60 days after the date of termination of the national emergency declaration or (B) December 31, 2020. The Economic Aid Act extended this relief to the earlier of 60 days after the national emergency termination date or January 1, 2022. Additionally, in accordance with the Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus (Revised), other short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief are not TDRs under ASC Subtopic 310-40. This includes short-term (e.g., up to six months) modifications such as payment deferrals, fee waivers, extensions of repayment terms, or delays in payment that are insignificant. Borrowers considered current are those that are less than 30 days past due on their contractual payments at the time a modification program is implemented. Loans modified under this guidance are not considered TDRs and as such are not identified in the table below. At March 31, 2021 and December 31, 2020, we had outstanding loans with payment deferrals, generally for up to three months, totaling $1.7 million and $47.2 million, respectively.
The following tables set forth the recorded balance of loans considered to be TDRs that were restructured and the type of concession by class of loans during the periods presented (dollars in thousands):
Three Months Ended March 31, 2021
 
Extend Amortization
 Period
Interest Rate ReductionsCombinationTotal ModificationsNumber of Loans
Real estate loans:  
1-4 family residential$$$130 $130 
Commercial loans18 18 
Total$$$148 $148 
 Three Months Ended March 31, 2020
 
Extend Amortization
 Period
Interest Rate ReductionsCombinationTotal ModificationsNumber of Loans
Real estate loans:  
Commercial$$$59 $59 
Commercial loans
Total$$$62 $62 
Interest continues to be charged on principal balances outstanding during the extended term. Therefore, the financial effects of the recorded investment of loans restructured as TDRs during the three months ended March 31, 2021 and 2020 were not significant. Generally, the loans identified as TDRs were previously reported as impaired loans prior to restructuring, and therefore, the modification did not impact our determination of the allowance for loans losses.
On an ongoing basis, the performance of the TDRs is monitored for subsequent payment default. Payment default for TDRs is recognized when the borrower is 90 days or more past due. For the three months ended March 31, 2021, and 2020 the amount of TDRs in default was not significant. Payment defaults for TDRs did not significantly impact the determination of the allowance for loan losses in the periods presented.
At March 31, 2021 and 2020, there were 0 commitments to lend additional funds to borrowers whose terms had been modified in TDRs.
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Allowance for Loan Losses
In accordance with ASC 326, the allowance for credit losses on loans is estimated and recognized upon origination of the loan based on expected credit losses. The CECL model uses historical experience and current conditions for homogeneous pools of loans, and reasonable and supportable forecasts about future events. The impact of varying economic conditions and portfolio stress factors are a component of the credit loss models applied to each portfolio. Reserve factors are specific to the loan segments that share similar risk characteristics based on the probability of default assumptions and loss given default assumptions, over the contractual term. The forecasted periods gradually mean-revert to the long-run trend based upon historical data. Management evaluates the economic data points used in the Moody’s forecasting scenarios on a quarterly basis to determine the most appropriate impact to the various portfolio characteristics based on management’s view and applies weighting to various forecasting scenarios as deemed appropriate based on known and expected economic activities. Management also considers and may apply relevant qualitative factors, not previously considered, to determine the appropriate allowance level. The use of the CECL model includes significant judgment by management and may differ from those of our peers due to different historical loss patterns, economic forecasts, and the length of time of the reasonable and supportable forecast period and reversion period.
We utilize Moody’s Analytics economic forecast scenarios and assign probability weighting to those scenarios which best reflect management’s views on the economic forecast. The probability weighting and scenarios utilized for the estimate of the allowance were generally reflective of an improved economic forecast based on known and knowable information as of March 31, 2021.
When determining the appropriate allowance for credit losses on our loan portfolio, our commercial construction and real estate loans, commercial loans and municipal loans utilize the probability of default/loss given default discounted cash flow approach. Reserves on these loans are based upon risk factors including the loan type and structure, collateral type, leverage ratio, refinancing risk and origination quality, among others. Our consumer construction real estate loans, 1-4 family residential loans and our loans to individuals use a loss rate based upon risk factors including loan types, origination year and credit scores. PPP loans are fully guaranteed by the SBA and therefore do 0t have an associated allowance.
Loans evaluated collectively in a pool are monitored to ensure they continue to exhibit similar risk characteristics with other loans in the pool. If a loan does not share similar risk characteristics with other loans, expected credit losses for that loan are evaluated individually.
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The following tables detail activity in the allowance for loan losses by portfolio segment for the periods presented (in thousands):
 Three Months Ended March 31, 2021
 Real Estate    
 Construction
1-4 Family
Residential
Commercial
Commercial
Loans
Municipal
Loans
Loans to
Individuals
Total
Balance at beginning of period$6,490 $2,270 $35,709 $4,107 $46 $384 $49,006 
Loans charged-off(73)(319)(403)(795)
Recoveries of loans charged-off55 282 284 622 
Net loans (charged-off) recovered(18)(37)(119)(173)
Provision for (reversal of) loan losses1,710 256 (8,473)(962)90 (7,379)
Balance at end of period$8,201 $2,508 $27,236 $3,108 $46 $355 $41,454 
 Three Months Ended March 31, 2020
 Real Estate    
 Construction
1-4 Family
Residential
Commercial
Commercial
Loans
Municipal
Loans
Loans to
Individuals
Total
Balance at beginning of period$3,539 $3,833 $9,572 $6,351 $570 $932 $24,797 
Impact of CECL adoption - cumulative effect adjustment2,968 (1,447)7,730 (3,532)(522)(125)5,072 
Impact of CECL adoption - purchased loans with credit deterioration(15)(6)333 (22)(59)231 
Loans charged-off(33)(54)(21)(296)(591)(995)
Recoveries of loans charged-off11 69 74 293 451 
Net loans (charged-off) recovered(22)(50)48 (222)(298)(544)
Provision for (reversal of) loan losses(1)
3,184 310 18,437 1,944 (1)208 24,082 
Balance at end of period$9,654 $2,640 $36,120 $4,519 $47 $658 $53,638 

(1)    The increase in the provision for credit losses during 2020 was primarily due to the economic impact of COVID-19 on macroeconomic factors used in the CECL model.

The accrued interest receivable on our loan receivables is excluded from the allowance for credit loss estimate and is included in interest receivable on our consolidated balance sheets. As of March 31, 2021 and December 31, 2020, the accrued interest on our loan portfolio was $13.8 million and $16.4 million, respectively.

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6. Borrowing Arrangements
Information related to borrowings is provided in the table below (dollars in thousands):
March 31, 2021December 31, 2020
Other borrowings:  
Balance at end of period$22,315 $23,172 
Average amount outstanding during the period (1)
23,522 91,940 
Maximum amount outstanding during the period (2)
24,549 219,259 
Weighted average interest rate during the period (3)
0.2 %0.4 %
Interest rate at end of period (4)
0.2 %0.1 %
FHLB borrowings:  
Balance at end of period$665,530 $832,527 
Average amount outstanding during the period (1)
727,513 1,032,269 
Maximum amount outstanding during the period (2)
723,584 1,274,370 
Weighted average interest rate during the period (3)
1.1 %1.1 %
Interest rate at end of period (4)
1.1 %1.0 %
(1)The average amount outstanding during the period was computed by dividing the total daily outstanding principal balances by the number of days in the period.
(2)The maximum amount outstanding at any month-end during the period.
(3)The weighted average interest rate during the period was computed by dividing the actual interest expense (annualized for interim periods) by the average amount outstanding during the period. The weighted average interest rate on the FHLB borrowings includes the effect of interest rate swaps.
(4)Stated rate.

Maturities of the obligations associated with our borrowing arrangements based on scheduled repayments at March 31, 2021 are as follows (in thousands):
Payments Due by Period
 Less than
1 Year
1-2 Years2-3 Years3-4 Years4-5 YearsThereafterTotal
Other borrowings$22,315 $$$$$$22,315 
FHLB borrowings661,659 687 717 748 775 944 665,530 
Total obligations$683,974 $687 $717 $748 $775 $944 $687,845 

Other borrowings include federal funds purchased, repurchase agreements and borrowings from the FRDW. Southside Bank has 3 unsecured lines of credit for the purchase of overnight federal funds at prevailing rates with Frost Bank, TIB – The Independent Bankers Bank and Comerica Bank for $40.0 million, $15.0 million and $7.5 million, respectively. There were 0 federal funds purchased at March 31, 2021 or December 31, 2020.  To provide more liquidity in response to the economic impact of the COVID-19 pandemic, the Federal Reserve took steps to encourage broader use of the discount window. At March 31, 2021, the amount of additional funding the Bank could obtain from the FRDW, collateralized by securities and PPP loans, was approximately $618.1 million. There were 0 borrowings from the FRDW at March 31, 2021 or December 31, 2020. Southside Bank has a $5.0 million line of credit with Frost Bank to be used to issue letters of credit, and at March 31, 2021, the line had 1 outstanding letter of credit for $91,000. Southside Bank currently has 0 outstanding letters of credit from FHLB held as collateral for its public fund deposits.
Southside Bank enters into sales of securities under repurchase agreements. These repurchase agreements totaled $22.3 million at March 31, 2021 and $23.2 million at December 31, 2020, and had maturities of less than one year.  Repurchase agreements are secured by investment and MBS securities and are stated at the amount of cash received in connection with the transaction.
FHLB borrowings represent borrowings with fixed interest rates ranging from 0.08% to 4.799% and with remaining maturities of five days to 7.3 years at March 31, 2021.  FHLB borrowings may be collateralized by FHLB stock, nonspecified loans and/or securities. At March 31, 2021, the amount of additional funding Southside Bank could obtain from FHLB, collateralized by
Southside Bancshares, Inc. |26

securities, FHLB stock and nonspecified loans and securities, was approximately $1.25 billion, net of FHLB stock purchases required.  
Southside Bank has entered into various variable rate agreements and fixed rate short-term pay agreements with third-party financial institutions with rates tied to LIBOR. These agreements totaled $625.0 million at March 31, 2021 and $670.0 million at December 31, 2020. NaN of the agreements have an interest rate tied to three-month LIBOR, and the remaining agreements have interest rates tied to one-month LIBOR. In connection with all of these agreements, Southside Bank also entered into various interest rate swap contracts that are treated as cash flow hedges under ASC Topic 815, “Derivatives and Hedging” that are expected to be effective in hedging the variability in future cash flows attributable to fluctuations in the underlying LIBOR interest rate. The interest rate swap contracts had a weighted average rate of 1.11% with a weighted average maturity of 3.8 years at March 31, 2021. Refer to “Note 9 – Derivative Financial Instruments and Hedging Activities” in our consolidated financial statements included in this report for a detailed description of our hedging policy and methodology related to derivative instruments.
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7. Long-term Debt

Information related to our long-term debt is summarized as follows for the periods presented (in thousands):    
March 31, 2021December 31, 2020
Subordinated notes: (1)
3.875% Subordinated notes, net of unamortized debt issuance costs (2)
$98,469 $98,497 
5.50% Subordinated notes, net of unamortized debt issuance costs (3)
98,799 98,754 
Total Subordinated notes197,268 197,251 
Trust preferred subordinated debentures: (4)
Southside Statutory Trust III, net of unamortized debt issuance costs (5)
20,564 20,563 
Southside Statutory Trust IV23,196 23,196 
Southside Statutory Trust V12,887 12,887 
Magnolia Trust Company I3,609 3,609 
Total Trust preferred subordinated debentures60,256 60,255 
Total Long-term debt$257,524 $257,506 

(1)This debt consists of subordinated notes with a remaining maturity greater than one year that qualify under the risk-based capital guidelines as Tier 2 capital, subject to certain limitations.
(2)The unamortized discount and debt issuance costs reflected in the carrying amount of the subordinated notes totaled approximately $1.5 million at March 31, 2021 and December 31, 2020.
(3)The unamortized discount and debt issuance costs reflected in the carrying amount of the subordinated notes totaled approximately $1.2 million at March 31, 2021 and December 31, 2020.
(4)This debt consists of trust preferred securities that qualify under the risk-based capital guidelines as Tier 1 capital, subject to certain limitations.
(5)The unamortized debt issuance costs reflected in the carrying amount of the Southside Statutory Trust III junior subordinated debentures totaled $55,000 at March 31, 2021 and $56,000 at December 31, 2020.

As of March 31, 2021, the details of the subordinated notes and the trust preferred subordinated debentures are summarized below (dollars in thousands):
Date IssuedAmount IssuedFixed or Floating RateInterest RateMaturity Date
3.875% Subordinated NotesNovember 6, 2020$100,000 Fixed-to-Floating3.875%November 15, 2030
5.50% Subordinated NotesSeptember 19, 2016$100,000 Fixed-to-Floating5.50%September 30, 2026
Southside Statutory Trust IIISeptember 4, 2003$20,619 Floating3 month LIBOR + 2.94%September 4, 2033
Southside Statutory Trust IVAugust 8, 2007$23,196 Floating3 month LIBOR + 1.30%October 30, 2037
Southside Statutory Trust VAugust 10, 2007$12,887 Floating3 month LIBOR + 2.25%September 15, 2037
Magnolia Trust Company I (1)
October 10, 2007$3,609 Floating3 month LIBOR + 1.80%November 23, 2035
(1)On October 10, 2007, as part of an acquisition we assumed $3.6 million of floating rate junior subordinated debentures issued in 2005 to Magnolia Trust Company I.

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On September 19, 2016, the Company issued $100.0 million in aggregate principal amount of fixed-to-floating rate subordinated notes that mature on September 30, 2026. This debt initially bears interest at a fixed rate of 5.50% through September 29, 2021 and thereafter, adjusts quarterly at a floating rate equal to three-month LIBOR plus 429.7 basis points. The proceeds from the sale of the subordinated notes were used for general corporate purposes, which included advances to the Bank to finance its activities.
On November 6, 2020, the Company issued $100.0 million in aggregate principal amount of fixed-to-floating rate subordinated notes that mature on November 15, 2030. This debt initially bears interest at a fixed rate of 3.875% per year through November 14, 2025 and thereafter, adjusts quarterly at a floating rate equal to the then current three-month term SOFR, as published by the FRBNY, plus 366 basis points. The proceeds from the sale of the subordinated notes were used for general corporate purposes.

8.     Employee Benefit Plans

The components of net periodic benefit cost (income) related to our employee benefit plans are as follows (in thousands):
Three Months Ended March 31,
Defined Benefit
Pension Plan
Defined Benefit Pension Plan AcquiredRestoration
Plan
202120202021202020212020
Service cost$$423 $$$$85 
Interest cost628 837 24 41 121 160 
Expected return on assets(1,437)(1,668)(58)(84)
Net loss amortization520 533 118 193 
Prior service (credit) cost amortization(3)
Net periodic benefit (income) cost$(289)$122 $(31)$(41)$239 $440 

Prior to the freeze of all future benefit accruals and accrual of benefit service as of December 31, 2020, the service cost component was recorded on our consolidated income statements as salaries and employee benefits in noninterest expense. All other components other than service costs are recorded in other noninterest expense.


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9.    Derivative Financial Instruments and Hedging Activities
Our hedging policy allows the use of interest rate derivative instruments to manage our exposure to interest rate risk or hedge specified assets and liabilities. These instruments may include interest rate swaps and interest rate caps and floors. All derivative instruments are carried on the balance sheet at their estimated fair value and are recorded in other assets or other liabilities, as appropriate.
Derivative instruments may be designated as cash flow hedges of variable rate assets or liabilities, cash flow hedges of forecasted transactions, fair value hedges of a recognized asset or liability or as non-hedging instruments. Gains and losses on derivative instruments designated as cash flow hedges are recorded in AOCI to the extent they are effective. If the hedge is effective, the amount recorded in other comprehensive income is reclassified to earnings in the same periods that the hedged cash flows impact earnings. The ineffective portion of changes in fair value is reported in current earnings. Gains and losses on derivative instruments designated as fair value hedges, as well as the change in fair value on the hedged item, are recorded in interest income in the consolidated statements of income. Gains and losses due to changes in fair value of the interest rate swap agreements completely offset changes in the fair value of the hedged portion of the hedged item. For derivative instruments not designated as hedging instruments, the gain or loss is recognized in current earnings during the period of change.
We have entered into certain interest rate swap contracts on specific variable rate agreements and fixed rate short-term pay agreements with third-party financial institutions. These interest rate swap contracts were designated as hedging instruments in cash flow hedges under ASC Topic 815. The objective of the interest rate swap contracts is to manage the expected future cash flows on $625.0 million of debt. The cash flows from the swap contracts are expected to be effective in hedging the variability in future cash flows attributable to fluctuations in the underlying LIBOR interest rate.
In accordance with ASC Topic 815, if a hedging item is terminated prior to maturity for a cash settlement, the existing gain or loss within AOCI will continue to be reclassified into earnings during the period or periods in which the hedged forecasted transaction affects earnings unless it is probable the forecasted transaction will not occur by the end of the originally specified time period. These transactions are reevaluated on a monthly basis to determine if the hedged forecasted transactions are still probable of occurring. If at a subsequent evaluation, it is determined that the transactions will not occur, any related gains or losses recorded in AOCI are immediately recognized in earnings.
From time to time, we may enter into certain interest rate swaps, cap and floor contracts that are not designated as hedging instruments. These interest rate derivative contracts relate to transactions in which we enter into an interest rate swap, cap or floor with a customer while concurrently entering into an offsetting interest rate swap, cap or floor with a third party financial institution. We agree to pay interest to the customer on a notional amount at a variable rate and receive interest from the customer on a similar notional amount at a fixed interest rate. At the same time, we agree to pay a third party financial institution the same fixed interest rate on the same notional amount and receive the same variable interest rate on the same notional amount. These interest rate derivative contracts allow our customers to effectively convert a variable rate loan to a fixed rate loan. The changes in the fair value of the underlying derivative contracts primarily offset each other and do not significantly impact our results of operations. We recognized swap fee income associated with these derivative contracts immediately based upon the difference in the bid/ask spread of the underlying transactions with the customer and the third party financial institution. The swap fee income is included in other noninterest income in our consolidated statements of income.
At March 31, 2021 and December 31, 2020, net derivative liabilities included $19.1 million and $39.3 million, respectively, of cash collateral held by counterparties subject to master netting agreements. We had $1.3 million of cash collateral receivable that was not offset against derivative liabilities at March 31, 2021.
The notional amounts of the derivative instruments represent the contractual cash flows pertaining to the underlying agreements. These amounts are not exchanged and are not reflected in the consolidated balance sheets. The fair value of the interest rate swaps are presented at net in other assets and other liabilities when a right of offset exists, based on transactions with a single counterparty that are subject to a legally enforceable master netting agreement.








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The following tables present the notional and estimated fair value amount of derivative positions outstanding (in thousands):
March 31, 2021December 31, 2020
Estimated Fair ValueEstimated Fair Value
Notional
Amount
(1)
Asset DerivativeLiability Derivative
Notional
Amount
(1)
Asset DerivativeLiability Derivative
Derivatives designated as hedging instruments
Interest rate contracts:
Swaps-Cash Flow Hedge-Financial institution counterparties$625,000 $2,145 $11,189 $670,000 $$21,635 
Derivatives designated as non-hedging instruments
Interest rate contracts:
Swaps-Financial institution counterparties217,655 910 10,980 152,280 18,537 
Swaps-Customer counterparties217,655 10,980 910 152,280 18,537 
Gross derivatives14,035 23,079 18,537 40,172 
Offsetting derivative assets/liabilities(3,055)(3,055)
Cash collateral received/posted(19,114)(39,270)
Net derivatives included in the consolidated balance sheets (2)
$10,980 $910 $18,537 $902 
(1)    Notional amounts, which represent the extent of involvement in the derivatives market, are used to determine the contractual cash flows required in accordance with the terms of the agreement. These amounts are typically not exchanged, significantly exceed amounts subject to credit or market risk and are not reflected in the consolidated balance sheets.
(2)    Net derivative assets are included in other assets and net derivative liabilities are included in other liabilities on the consolidated balance sheets. Included in the fair value of net derivative assets and net derivative liabilities are credit valuation adjustments reflecting counterparty credit risk and our credit risk. We had $1.3 million credit exposure related to interest rate swaps with financial institutions and $11.0 million related to interest rate swaps with customers at March 31, 2021. We had 0 credit exposure related to interest rate swaps with financial institutions and $18.5 million related to interest rate swaps with customers at December 31, 2020. The credit risk associated with customer transactions is partially mitigated as these are generally secured by the non-cash collateral securing the underlying transaction being hedged.
The summarized expected weighted average remaining maturity of the notional amount of interest rate swaps and the weighted average interest rates associated with the amounts expected to be received or paid on interest rate swap agreements are presented below (dollars in thousands). Variable rates received on fixed pay swaps are based on one-month or three-month LIBOR rates in effect at March 31, 2021 and December 31, 2020:
March 31, 2021December 31, 2020
Weighted AverageWeighted Average
Notional AmountRemaining Maturity
 (in years)
Receive Rate
Pay
Rate
Notional AmountRemaining Maturity
 (in years)
Receive RatePay
Rate
Swaps-Cash Flow hedge
Financial institution counterparties$625,000 3.80.14 %1.11 %$670,000 3.80.17 %1.12 %
Swaps-Non-hedging
Financial institution counterparties217,655 11.00.52 %2.43 %152,280 9.80.50 %2.57 %
Customer counterparties217,655 11.02.43 %0.52 %152,280 9.82.57 %0.50 %
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10.  Fair Value Measurement
Fair value is the price that would be received upon the sale of an asset or paid to transfer a liability (exit price) in an orderly transaction between market participants.  A fair value measurement assumes the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability.  The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability is not adjusted for transaction costs.  An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction.  Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact and (iv) willing to transact.
Valuation techniques including the market approach, the income approach and/or the cost approach are utilized to determine fair value.  Inputs to valuation techniques refer to the assumptions market participants would use in pricing the asset or liability.  Valuation policies and procedures are determined by our investment department and reported to our ALCO for review.  An entity must consider all aspects of nonperforming risk, including the entity’s own credit standing, when measuring fair value of a liability.  Inputs may be observable, meaning those that reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from independent sources, or unobservable, meaning those that reflect the reporting entity’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances.  A fair value hierarchy for valuation inputs gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs.  The fair value hierarchy is as follows:
Level 1 Inputs - Unadjusted quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.
Level 2 Inputs - Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly.  These might include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (such as interest rates, volatilities, prepayment speeds, credit risks, etc.) or inputs that are derived principally from or corroborated by market data by correlation or other means.
Level 3 Inputs - Unobservable inputs for determining the fair values of assets or liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets or liabilities.
Certain financial assets are measured at fair value in accordance with GAAP.  Adjustments to the fair value of these assets usually result from the application of fair value accounting or write-downs of individual assets. A description of the valuation methodologies used for assets and liabilities measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.
Securities AFS and Equity Investments with readily determinable fair values – U.S. Treasury securities and equity investments with readily determinable fair values are reported at fair value utilizing Level 1 inputs.  Other securities classified as AFS are reported at fair value utilizing Level 2 inputs.  For these securities, we obtain fair value measurements from independent pricing services and obtain an understanding of the pricing methodologies used by these independent pricing services. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things, as stated in the pricing methodologies of the independent pricing services.
We review and validate the prices supplied by the independent pricing services for reasonableness by comparison to prices obtained from, in some cases, 2 additional third-party sources. For securities where prices are outside a reasonable range, we further review those securities, based on internal ALCO approved procedures, to determine what a reasonable fair value measurement is for those securities, given available data.
Derivatives – Derivatives are reported at fair value utilizing Level 2 inputs. We obtain fair value measurements from 2 sources including an independent pricing service and the counterparty to the derivatives designated as hedges.  The fair value measurements consider observable data that may include dealer quotes, market spreads, the U.S. Treasury yield curve, live trading levels, trade execution data, credit information and the derivatives’ terms and conditions, among other things. We review the prices supplied by the sources for reasonableness.  In addition, we obtain a basic understanding of their underlying pricing methodology.  We validate prices supplied by the sources by comparison to one another.
Certain nonfinancial assets and nonfinancial liabilities measured at fair value on a recurring basis include reporting units measured at fair value and tested for goodwill impairment. 
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Certain financial assets and financial liabilities are measured at fair value on a nonrecurring basis, which means that the instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment). Financial assets and financial liabilities measured at fair value on a nonrecurring basis included foreclosed assets and collateral-dependent loans at March 31, 2021 and December 31, 2020.
Foreclosed Assets – Foreclosed assets are initially recorded at fair value less costs to sell.  The fair value measurements of foreclosed assets can include Level 2 measurement inputs such as real estate appraisals and comparable real estate sales information, in conjunction with Level 3 measurement inputs such as cash flow projections, qualitative adjustments and sales cost estimates.  As a result, the categorization of foreclosed assets is Level 3 of the fair value hierarchy.  In connection with the measurement and initial recognition of certain foreclosed assets, we may recognize charge-offs through the allowance for credit losses.
Collateral-Dependent Loans (Impaired loans prior to the adoption of ASU 2016-13) – Certain loans may be reported at the fair value of the underlying collateral if repayment is expected substantially from the operation or sale of the collateral.  Collateral values are estimated using Level 3 inputs based on customized discounting criteria or appraisals.  At March 31, 2021 and December 31, 2020, the impact of the fair value of collateral-dependent loans was reflected in our allowance for loan losses.
The fair value estimate of financial instruments for which quoted market prices are unavailable is dependent upon the assumptions used.  Consequently, those estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instruments.  Accordingly, the aggregate fair value amounts presented in the fair value tables do not necessarily represent their underlying value.

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The following tables summarize assets measured at fair value on a recurring and nonrecurring basis segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value (in thousands):
  Fair Value Measurements at the End of the Reporting Period Using
March 31, 2021
Carrying
Amount
Quoted Prices in Active Markets for Identical Assets
(Level 1)
Significant Other Observable Inputs
(Level 2)
Significant Unobservable Inputs
(Level 3)
Recurring fair value measurements    
Investment securities:    
U.S. Treasury$42,477 $42,477 $$
State and political subdivisions1,591,645 1,591,645 
Other stocks and bonds92,783 92,783 
MBS: (1)
  
Residential707,074 707,074 
Commercial112,945 112,945 
Equity investments:
Equity investments5,988 5,988 
Derivative assets:
Interest rate swaps14,035 14,035 
Total asset recurring fair value measurements$2,566,947 $48,465 $2,518,482 $
Derivative liabilities:
Interest rate swaps$23,079 $$23,079 $
Total liability recurring fair value measurements$23,079 $$23,079 $
Nonrecurring fair value measurements   
Foreclosed assets$412 $$$412 
Collateral-dependent loans (2)
10,223 10,223 
Total asset nonrecurring fair value measurements$10,635 $$$10,635 
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  Fair Value Measurements at the End of the Reporting Period Using
December 31, 2020
Carrying
Amount
Quoted Prices in Active Markets for Identical Assets
(Level 1)
Significant Other Observable Inputs
(Level 2)
Significant Unobservable Inputs
(Level 3)
Recurring fair value measurements    
Investment securities:    
State and political subdivisions$1,580,594 $$1,580,594 $
Other stocks and bonds78,255 78,255 
MBS: (1)
 
Residential810,010 810,010 
Commercial118,446 118,446 
Equity investments:
Equity investments6,094 6,094 
Derivative assets:
Interest rate swaps18,537 18,537 
Total asset recurring fair value measurements$2,611,936 $6,094 $2,605,842 $
Derivative liabilities:
Interest rate swaps$40,172 $$40,172 $
Total liability recurring fair value measurements$40,172 $$40,172 $
Nonrecurring fair value measurements    
Foreclosed assets$120 $$$120 
Collateral-dependent loans (2)
10,653 10,653 
Total asset nonrecurring fair value measurements$10,773 $$$10,773 
(1)All MBS are issued and/or guaranteed by U.S. government agencies or U.S. GSEs.
(2)Consists of individually evaluated loans. Loans for which the fair value of the collateral and commercial real estate fair value of the properties is less than cost basis are presented net of allowance. Losses on these loans represent charge-offs which are netted against the allowance for loan losses.

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Disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet, is required when it is practicable to estimate that value.  In cases where quoted market prices are not available, fair values are based on estimates using present value or other estimation techniques.  Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows.  Such techniques and assumptions, as they apply to individual categories of our financial instruments, are as follows:
Cash and cash equivalents – The carrying amount for cash and cash equivalents is a reasonable estimate of those assets’ fair value.
Investment and MBS HTM – Fair values for these securities are based on quoted market prices, where available.  If quoted market prices are not available, fair values are based on quoted market prices for similar securities or estimates from independent pricing services.
FHLB stock – The carrying amount of FHLB stock is a reasonable estimate of the fair value of those assets.
Equity investments – The carrying value of equity investments without readily determinable fair values are measured at cost less impairment, if any, adjusted for observable price changes for an identical or similar investment of the same issuer. This carrying value is a reasonable estimate of the fair value of those assets.
Loans receivable – We estimate the fair value of our loan portfolio to an exit price notion with adjustments for liquidity, credit and prepayment factors. Nonperforming loans continue to be estimated using discounted cash flow analyses or the underlying value of the collateral where applicable.
Loans held for sale – The fair value of loans held for sale is determined based on expected proceeds, which are based on sales contracts and commitments.
Deposit liabilities – The fair value of demand deposits, savings accounts and certain money market deposits is the amount on demand at the reporting date, which is the carrying value.  Fair values for fixed rate CDs are estimated using a discounted cash flow calculation that applies interest rates currently being offered for deposits of similar remaining maturities.
Other borrowings – Federal funds purchased generally have original terms to maturity of one day and repurchase agreements generally have terms of less than one year, and therefore both are considered short-term borrowings. Consequently, their carrying value is a reasonable estimate of fair value.
FHLB borrowings – The fair value of these borrowings is estimated by discounting the future cash flows using rates at which borrowings would be made to borrowers with similar credit ratings and for the same remaining maturities.
Subordinated notes – The fair value of the subordinated notes is estimated by discounting future cash flows using estimated rates at which long-term debt would be made to borrowers with similar credit ratings and for the remaining maturities.
Trust preferred subordinated debentures – The fair value of the long-term debt is estimated by discounting future cash flows using estimated rates at which long-term debt would be made to borrowers with similar credit ratings and for the remaining maturities.


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The following tables present our financial assets and financial liabilities measured on a nonrecurring basis at both their respective carrying amounts and estimated fair value (in thousands):
  Estimated Fair Value
March 31, 2021Carrying
Amount
TotalLevel 1Level 2Level 3
Financial assets:     
Cash and cash equivalents$107,623 $107,623 $107,623 $$
Investment securities:
HTM, at carrying value908 917 917 
MBS:
HTM, at carrying value97,251 103,260 103,260 
FHLB stock, at cost18,754 18,754 18,754 
Equity investments5,816 5,816 5,816 
Loans, net of allowance for loan losses3,675,144 3,833,854 3,833,854 
Loans held for sale2,615 2,615 2,615 
Financial liabilities:
Deposits$5,092,643 $5,095,397 $$5,095,397 $
Other borrowings22,315 22,315 22,315 
FHLB borrowings665,530 675,135 675,135 
Subordinated notes, net of unamortized debt issuance costs197,268 198,103 198,103 
Trust preferred subordinated debentures, net of unamortized debt issuance costs60,256 47,183 47,183 
  Estimated Fair Value
December 31, 2020Carrying
Amount
TotalLevel 1Level 2Level 3
Financial assets:     
Cash and cash equivalents$108,408 $108,408 $108,408 $$
Investment securities:
HTM, at carrying value907 920 920 
Mortgage-backed securities: 
HTM, at carrying value108,091 117,278 117,278 
Federal Home Loan Bank stock, at cost25,259 25,259 25,259 
Equity investments5,811 5,811 5,811 
Loans, net of allowance for loan losses3,608,773 3,784,291 3,784,291 
Loans held for sale3,695 3,695 3,695 
Financial liabilities:
Deposits$4,932,322 $4,936,188 $$4,936,188 $
Other borrowings23,172 23,172 23,172 
FHLB borrowings832,527 854,865 854,865 
Subordinated notes, net of unamortized debt issuance costs197,251 198,391 198,391 
Trust preferred subordinated debentures, net of unamortized debt issuance costs60,255 51,993 51,993 

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11.     Income Taxes

The income tax expense included in the accompanying consolidated statements of income consists of the following (in thousands):
 Three Months Ended
March 31,
 20212020
Current income tax expense$2,589 $5,554 
Deferred income tax expense (benefit)2,161 (5,075)
Income tax expense$4,750 $479 

The net deferred tax liability totaled $9.9 million at March 31, 2021 and $15.5 million at December 31, 2020.  NaN valuation allowance was recorded at March 31, 2021 or December 31, 2020, as management believes it is more likely than not that all of the deferred tax asset items will be realized in future years. Unrecognized tax benefits were not material at March 31, 2021 or December 31, 2020.
We recognized income tax expense of $4.8 million, for an ETR of 12.2% for the three months ended March 31, 2021, compared to income tax expense of $479,000, for an ETR of 10.8%, for the three months ended March 31, 2020. The higher ETR for the three months ended March 31, 2021 was primarily due to a decrease in tax-exempt income as a percentage of pre-tax income as compared to the same periods in 2020. The ETR differs from the statutory rate of 21% for the three months ended March 31, 2021 and 2020 primarily due to the effect of tax-exempt income from municipal loans and securities, as well as BOLI. We file income tax returns in the U.S. federal jurisdictions and in certain states. We are no longer subject to U.S. federal income tax examinations by tax authorities for years before 2017 or Texas state tax examinations by tax authorities for years before 2016.
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12.     Off-Balance-Sheet Arrangements, Commitments and Contingencies

Financial Instruments with Off-Balance-Sheet Risk. In the normal course of business, we are a party to certain financial instruments with off-balance-sheet risk to meet the financing needs of our customers. These off-balance-sheet instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount reflected in the financial statements. The contract or notional amounts of these instruments reflect the extent of involvement and exposure to credit loss that we have in these particular classes of financial instruments. The allowance for credit losses on these off-balance-sheet credit exposures is calculated using the same methodology as loans including a conversion or usage factor to anticipate ultimate exposure and expected losses and is included in other liabilities on our consolidated balance sheets.
Allowance for off-balance-sheet credit exposures were as follows (in thousands):
Three Months Ended
March 31,
20212020
Balance at beginning of period$6,386 $1,455 
Impact of CECL adoption
4,840 
Provision for (reversal of) off-balance-sheet credit exposures(2,770)1,165 
Balance at end of period$3,616 $7,460 

Contractual commitments to extend credit are agreements to lend to a customer provided the terms established in the contract are met.  Commitments to extend credit generally have fixed expiration dates and may require the payment of fees.  Since some commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. These guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in commitments to extend credit and similarly do not necessarily represent future cash obligations.
Financial instruments with off-balance-sheet risk were as follows (in thousands):
 March 31, 2021December 31, 2020
  
Commitments to extend credit$811,574 $793,138 
Standby letters of credit10,825 13,658 
Total$822,399 $806,796 

We apply the same credit policies in making commitments to extend credit and standby letters of credit as we do for on-balance-sheet instruments.  We evaluate each customer’s creditworthiness on a case-by-case basis.  The amount of collateral obtained, if deemed necessary, upon extension of credit is based on management’s credit evaluation of the borrower.  Collateral held varies but may include cash or cash equivalents, negotiable instruments, real estate, accounts receivable, inventory, oil, gas and mineral interests, property, plant and equipment.
Leases. During the three months ended March 31, 2021, there was $1.1 million of operating lease right-of-use assets obtained in exchange for new operating lease liabilities, primarily due to 1 lease that commenced in January 2021 with an initial right-of-use asset of $1.1 million. There was $227,000 of operating lease right-of-use assets obtained in exchange for new operating lease liabilities for the three months ended March 31, 2020.
Securities. In the normal course of business we buy and sell securities. At March 31, 2021, there were $23.5 million of unsettled trades to purchase securities and 0 unsettled trades to sell securities. At December 31, 2020, there were 0 unsettled trades to purchase securities and 0 unsettled trades to sell securities.
Deposits. There were 0 unsettled issuances of brokered CDs at March 31, 2021 or December 31, 2020.
Litigation. We are involved with various litigation in the normal course of business.  Management, after consulting with our legal counsel, believes that any liability resulting from litigation will not have a material effect on our financial position, results of operations or liquidity.
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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 consolidated financial condition, changes in our financial condition and results of our operations, and should be read and reviewed in conjunction with the financial statements, and the notes thereto, in this Quarterly Report on Form 10-Q and in our 2020 Form 10-K. Certain risks, uncertainties and other factors, including those set forth under "Risk Factors" in Part I, Item 1A. of the 2020 Form 10-K and elsewhere in this Quarterly Report on Form 10-Q, may cause actual results to differ materially from the results discussed in the forward-looking statements appearing in this discussion and analysis.
Forward-Looking Statements
Certain statements of other than historical fact that are contained in this report may be considered to be “forward-looking statements” within the meaning of and subject to the safe harbor protections of the Private Securities Litigation Reform Act of 1995.  These forward-looking statements are not guarantees of future performance, nor should they be relied upon as representing management’s views as of any subsequent date.  These statements may include words such as “expect,” “estimate,” “project,” “anticipate,” “appear,” “believe,” “could,” “should,” “may,” “might,” “will,” “would,” “seek,” “intend,” “probability,” “risk,” “goal,” “target,” “objective,” “plans,” “potential,” and similar expressions. Forward-looking statements are statements with respect to our beliefs, plans, expectations, objectives, goals, anticipations, assumptions, estimates, intentions and future performance and are subject to significant known and unknown risks and uncertainties, which could cause our actual results to differ materially from the results discussed in the forward-looking statements.  For example, discussions of the effect of our expansion, benefits of the Share Repurchase Plan, trends in asset quality and earnings from growth, and certain market risk disclosures are based upon information presently available to management and are dependent on choices about key model characteristics and assumptions and are subject to various limitations.  By their nature, certain of the market risk disclosures are only estimates and could be materially different from what actually occurs in the future.  Accordingly, our results could materially differ from those that have been estimated.  The most recent factor that could cause future results to differ materially from those anticipated by our forward-looking statements include the negative impact of the COVID-19 pandemic on our business, financial position, operations and prospects, including our ability to continue our business activities in certain communities we serve, the duration of the pandemic and its continued effects on financial markets, a reduction in financial transaction and business activities resulting in decreased deposits and reduced loan originations, increases in unemployment rates impacting our borrowers’ ability to repay their loans, our ability to manage liquidity in a rapidly changing and unpredictable market, additional interest rate changes by the Federal Reserve and other government actions in response to the pandemic including regulations or laws enacted to counter the effects of the COVID-19 pandemic on the economy. Other factors that could cause actual results to differ materially from those indicated by forward-looking statements include, but are not limited to, the following:
the impact of the COVID-19 pandemic on our future consolidated financial condition and results of operations;
general (i) political conditions, including, without limitation, governmental action and uncertainty resulting from U.S. and global political trends and (ii) economic conditions, either globally, nationally, in the State of Texas, or in the specific markets in which we operate, including, without limitation, the deterioration of the commercial real estate, residential real estate, construction and development, energy, oil and gas, credit or liquidity markets, which could cause an adverse change in our net interest margin, or a decline in the value of our assets, which could result in realized losses;
current or future legislation, regulatory changes or changes in monetary or fiscal policy that adversely affect the businesses in which we or our customers or our borrowers are engaged, including the impact of the Dodd-Frank Act, the Federal Reserve’s actions with respect to interest rates, the capital requirements promulgated by the Basel Committee, the CARES Act, the Economic Aid Act, uncertainty relating to calculation of LIBOR and other regulatory responses to economic conditions;
adverse changes in the status or financial condition of the GSEs which impact the GSEs’ guarantees or ability to pay or issue debt;
adverse changes in the credit portfolios of other U.S. financial institutions relative to the performance of certain of our investment securities;
economic or other disruptions caused by acts of terrorism in the United States, Europe or other areas;
technological changes, including potential cyber-security incidents and other disruptions, or innovations to the financial services industry, including as a result of the increased telework environment;
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our ability to identify and address cyber-security risks such as data security breaches, malware, “denial of service” attacks, “hacking” and identity theft, which could disrupt our business and result in the disclosure of and/or misuse or misappropriation of confidential or proprietary information, disruption or damage of our systems, increased costs, significant losses, or adverse effects to our reputation;
the risk that our enterprise risk management framework, compliance program or our corporate governance and supervisory oversight functions may not identify or address risks adequately, which may result in unexpected losses;
changes in the interest rate yield curve such as flat, inverted or steep yield curves, or changes in the interest rate environment that impact net interest margins and may impact prepayments on our MBS portfolio;
increases in our nonperforming assets;
our ability to maintain adequate liquidity to fund operations and growth;
any applicable regulatory limits or other restrictions on the Bank and its ability to pay dividends to us;
the failure of our assumptions underlying our allowance for credit losses and other estimates;
the failure to maintain an effective system of controls and procedures, including internal control over financial reporting;
the effectiveness of our derivative financial instruments and hedging activities to manage risk;
unexpected outcomes of, and the costs associated with, existing or new litigation involving us, including the costs and effects of litigation related to our participation in government stimulus programs associated with the COVID-19 pandemic;
changes impacting our balance sheet and leverage strategy;
risks related to actual mortgage prepayments diverging from projections;
risks related to actual U.S. agency MBS prepayments exceeding projected prepayment levels;
risks related to U.S. agency MBS prepayments increasing due to U.S. government programs designed to assist homeowners to refinance their mortgage that might not otherwise have qualified;
our ability to monitor interest rate risk;
risks related to fluctuations in the price per barrel of crude oil;
significant increases in competition in the banking and financial services industry;
changes in consumer spending, borrowing and saving habits, including as a result of the economic impact of COVID-19;
execution of future acquisitions, reorganization or disposition transactions, including the risk that the anticipated benefits of such transactions are not realized;
our ability to increase market share and control expenses;
our ability to develop competitive new products and services in a timely manner and the acceptance of such products and services by our customers;
the effect of changes in federal or state tax laws;
the effect of compliance with legislation or regulatory changes;
the effect of changes in accounting policies and practices, including the implementation of the CECL model;
credit risks of borrowers, including any increase in those risks due to changing economic conditions;
risks related to loans secured by real estate, including the risk that the value and marketability of collateral could decline;
risks related to environmental liability as a result of certain lending activity;
risks associated with our common stock and our other securities, including fluctuations in our stock price and general volatility in the stock market; and
other risks and uncertainties discussed in “Part I - Item 1A. Risk Factors” in the 2020 Form 10-K.
All written or oral forward-looking statements made by us or attributable to us are expressly qualified by this cautionary notice.  We disclaim any obligation to update any factors or to announce publicly the result of revisions to any of the forward-looking statements included herein to reflect future events or developments, unless otherwise required by law.
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Critical Accounting Estimates
Our accounting and reporting estimates conform with U.S. GAAP and general practices within the financial services industry.  The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. We consider accounting estimates that can (1) be replaced by other reasonable estimates and/or (2) changes to an estimate from period to period that have a material impact on the presentation of our financial condition, changes in financial condition or results of operations as well as (3) those estimates that require significant and complex assumptions about matters that are highly uncertain to be critical accounting estimates. We consider our critical accounting policies to include allowance for credit losses on loans, estimation of fair value and pension plan accounting.
Critical accounting estimates include a high degree of uncertainty in the underlying assumptions. Management bases its estimates on historical experience, current information and other factors deemed relevant. The development, selection and disclosure of our critical accounting estimates are reviewed with the Audit Committee of the Company's Board of Directors. Actual results could differ from these estimates. For additional information regarding critical accounting policies, refer to “Note 1 – Summary of Significant Accounting and Reporting Policies” and “Note 5 – Loans and Allowance for Loan Losses” in the notes to consolidated financial statements and refer to “Part II - Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Estimates,” and “Note 1 – Summary of Significant Accounting and Reporting Policies” in the 2020 Form 10-K. As of March 31, 2021, there have been no significant changes to our critical accounting estimates.

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Non-GAAP Financial Measures
Certain non-GAAP measures are used by management to supplement the evaluation of our performance. These include the following fully taxable-equivalent measures: Net interest income (FTE), net interest margin (FTE) and net interest spread (FTE), which include the effects of taxable-equivalent adjustments using a federal income tax rate of 21% for the three months ended March 31, 2021 and 2020, to increase tax-exempt interest income to a tax-equivalent basis. Interest income earned on certain assets is completely or partially exempt from federal income tax. As such, these tax-exempt instruments typically yield lower returns than taxable investments.
Net interest income (FTE), net interest margin (FTE) and net interest spread (FTE).  Net interest income (FTE) is a non-GAAP measure that adjusts for the tax-favored status of net interest income from certain loans and investments and is not permitted under GAAP in the consolidated statements of income. We believe this measure to be the preferred industry measurement of net interest income, and that it enhances comparability of net interest income arising from taxable and tax-exempt sources. The most directly comparable financial measure calculated in accordance with GAAP is our net interest income. Net interest margin (FTE) is the ratio of net interest income (FTE) to average earning assets. The most directly comparable financial measure calculated in accordance with GAAP is our net interest margin. Net interest spread (FTE) is the difference in the average yield on average earning assets on a tax-equivalent basis and the average rate paid on average interest bearing liabilities. The most directly comparable financial measure calculated in accordance with GAAP is our net interest spread.
These non-GAAP financial measures should not be considered alternatives to GAAP-basis financial statements and other bank holding companies may define or calculate these non-GAAP measures or similar measures differently. Whenever we present a non-GAAP financial measure in an SEC filing, we are also required to present the most directly comparable financial measure calculated and presented in accordance with GAAP and reconcile the differences between the non-GAAP financial measure and such comparable GAAP measure.
In the following table we present the reconciliation of net interest income to net interest income adjusted to a fully taxable-equivalent basis assuming a 21% marginal tax rate for the three months ended March 31, 2021 and 2020, for interest earned on tax-exempt assets such as municipal loans and investment securities (dollars in thousands), along with the calculation of net interest margin (FTE) and net interest spread (FTE).
Non-GAAP Reconciliations
Three Months Ended
March 31,
20212020
Net interest income (GAAP)$46,303 $44,701 
Tax equivalent adjustments:
Loans736 668 
Tax-exempt investment securities2,211 1,631 
Net interest income (FTE) (1)
$49,250 $47,000 
Average earning assets$6,241,434 $6,248,759 
Net interest margin3.01 %2.88 %
Net interest margin (FTE) (1)
3.20 %3.03 %
Net interest spread2.84 %2.61 %
Net interest spread (FTE) (1)
3.03 %2.76 %
(1)    These amounts are presented on a fully taxable-equivalent basis and are non-GAAP measures.
Management believes adjusting net interest income, net interest margin and net interest spread to a fully taxable-equivalent basis is a standard practice in the banking industry as these measures provide useful information to make peer comparisons. Tax-equivalent adjustments are reported in the respective earning asset categories as listed in the “Average Balances with Average Yields and Rates” tables under Results of Operations.
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OVERVIEW
COVID-19
During March 2020, the World Health Organization declared COVID-19 a global pandemic in response to the rapidly growing outbreak of the virus. COVID-19 significantly impacted local, national and global economies due to stay-at-home orders and social distancing guidelines. In compliance with social distancing guidelines issued by federal, state and local governments, we initially closed all of our grocery store branches. As stay-at-home orders were issued by local governments in our market areas to combat the spread of the virus, we closed all traditional lobbies and wealth management and trust offices to walk-in customers, however, most of these traditional locations were offering certain services by appointment only. All other banking services were available to customers through our drive-thrus, ATMs/ITMs and automated telephone, internet and mobile banking products. After careful consideration and implementation of additional safety precautions, all locations were reopened on June 1, 2020. We have since made adjustments to select branch hours and openings, and we continue to closely monitor the COVID-19 situation. Approximately 45% of our workforce has remote working capabilities, however currently we have a much smaller percentage of our workforce working remotely.
COVID-19 significantly disrupted supply chains, business activity and the overall economic and financial markets.  These disruptions have and are likely to continue to result in a decline in demand for banking products or services, including loans and deposits which could impact our future financial condition, results of operations and liquidity. As of March 31, 2021, most businesses in Texas are re-opened without restrictions. Commercial activity has improved but has not returned to the levels existing prior to the outbreak of the pandemic. The extent to which the COVID-19 pandemic affects our business, operations and financial condition, as well as our regulatory capital and liquidity ratios and credit ratings, is highly uncertain and unpredictable and depends on, among other things, new information that may emerge concerning the scope, duration and severity of the COVID-19 pandemic, actions taken by governmental authorities and other parties in responses to the pandemic, the scale of the distribution and public acceptance of the vaccines for COVID-19 and the effectiveness of such vaccines in stemming or stopping the spread of COVID-19. The adverse impact on the markets in which we operate and on our business, operations and financial condition is expected to remain elevated until the pandemic subsides.   
In response to the COVID-19 pandemic, the CARES Act was signed into law on March 27, 2020. The CARES Act provided an estimated $2.2 trillion to address the economic impact of the COVID-19 pandemic and stimulate the economy by supporting individuals and businesses through loans, grants, tax changes, and other types of relief. The CARES Act also included provisions to encourage financial institutions to work prudently with borrowers. As an SBA lender, we were well positioned to assist business customers in accessing funds available through the PPP implemented in April. At March 31, 2021, we had $220.9 million of approved PPP loans outstanding. On December 27, 2020, the Economic Aid Act was signed into law. This second coronavirus relief package granted additional funds for a new round of PPP loans. Additionally, it expands the eligibility for loans and allows certain businesses to request a second loan. The SBA began accepting applications for the second round of PPP loans on January 13, 2021. As of March 31, 2021, we had originated $91.2 million of additional PPP loans under this second round of PPP loans and $105.1 million as of April 21, 2021.
Additionally, we are assisting both our consumer and commercial borrowers that may be experiencing financial hardship due to COVID-19 related challenges. As of March 31, 2021, we had outstanding loans with payment deferrals, generally for up to three months, totaling $1.7 million, a 99.5% decrease from $326.0 million reported in our second quarter earnings release in July 2020. As of April 22, 2021, we had outstanding loans with payment deferrals totaling $1.4 million. The decrease in the COVID-19 modified loans are the result of the loans coming out of the deferral periods and resuming performance. The largest category of remaining deferrals include 1-4 family residential loans.
Operating Results
During the three months ended March 31, 2021, our net income increased $30.1 million, or 762.4%, to $34.1 million from $4.0 million for the same period in 2020. The increase in net income was due to the $35.4 million decrease in provision for credit losses, due to a large build-up in the allowance for credit losses of $25.2 million for the first quarter ended March 31, 2020, compared to a $10.1 million reversal of provision for the same period in 2021. The decrease in the provision was primarily due to improvement in the economic forecast in the first quarter of 2021 and its effect on macroeconomic factors used in the CECL model. Additionally, net interest income increased $1.6 million. These were partially offset by the $1.9 million decrease in noninterest income and the $714,000 increase in noninterest expense. Earnings per diluted common share increased $0.92, or 766.7%, to $1.04 for the three months ended March 31, 2021, from $0.12 for the same period in 2020.
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Financial Condition
Our total assets decreased $9.3 million, or 0.1%, to $7.0 billion at March 31, 2021 from $7.01 billion at December 31, 2020. Our securities portfolio decreased by $51.2 million, or 1.9%, to $2.65 billion, compared to $2.70 billion at December 31, 2020, primarily a result of the decline in the estimated fair value of the securities portfolio. Our FHLB stock decreased $6.5 million, or 25.8%, to $18.8 million from $25.3 million at December 31, 2020, primarily due to decreases in the amount of FHLB stock we were required to hold in relation to our FHLB borrowings.
Loans increased $58.8 million, or 1.6%, to $3.72 billion at March 31, 2021 from $3.66 billion at December 31, 2020. The net increase in our loan portfolio was comprised of increases of $52.8 million of commercial real estate loans, $23.7 million of construction loans and $7.6 million of commercial loans, partially offset by decreases of $19.5 million of 1-4 family residential loans, $3.2 million of loans to individuals and $2.7 million of municipal loans. Our PPP loans, a component of the commercial loan category, experienced a net increase of $6.0 million, or 2.8%, to $220.9 million as of March 31, 2021, from $214.8 million at December 31, 2020, due to additional funding under the renewed Economic Aid Act, partially offset by the forgiveness payments received from loans funded under the CARES Act. Loans held for sale decreased $1.1 million, or 29.2%, to $2.6 million at March 31, 2021 from $3.7 million at December 31, 2020.
Our nonperforming assets at March 31, 2021 decreased $2.1 million, or 12.1%, to $15.4 million and represented 0.22% of total assets, compared to $17.5 million, or 0.25% of total assets at December 31, 2020.  Nonaccruing loans decreased $2.4 million, or 31.1%, to $5.3 million, and the ratio of nonaccruing loans to total loans decreased to 0.14% at March 31, 2021 compared to 0.21% at December 31, 2020.  Restructured loans were $9.6 million at March 31, 2021 and December 31, 2020. OREO increased to $412,000 at March 31, 2021 from $106,000 at December 31, 2020. 
Our deposits increased $160.3 million, or 3.3%, to $5.09 billion at March 31, 2021 from $4.93 billion at December 31, 2020, which was comprised of an increase of $131.8 million in interest bearing deposits and an increase of $28.6 million in noninterest bearing deposits. The increase was largely driven by PPP loan disbursements and stimulus checks deposited during the first quarter of 2021. Brokered deposits decreased $57.0 million, or 41.3% for the three months ended March 31, 2021.
Total FHLB borrowings decreased $167.0 million, or 20.1%, to $665.5 million at March 31, 2021 from $832.5 million at December 31, 2020.
Our total shareholders’ equity at March 31, 2021 decreased 1.9%, or $16.7 million, to $858.6 million, or 12.3% of total assets, compared to $875.3 million, or 12.5% of total assets, at December 31, 2020. The decrease in shareholders’ equity was the result of other comprehensive loss of $29.5 million, the repurchase of $15.2 million of our common stock and cash dividends paid of $10.5 million. These decreases were partially offset by net income of $34.1 million, net issuance of common stock under employee stock plans of $3.4 million, stock compensation expense of $674,000 and common stock issued under our dividend reinvestment plan of $332,000.
Economic conditions were significantly impacted by the COVID-19 pandemic in 2020; however, Texas still outperformed the nation in 2020, and our Fort Worth and Austin market areas have continued to perform generally better than many other parts of the country. Texas continues to experience economic growth due to in-migration from other states and company relocation from other states. Economists predict vaccines will drive strong economic growth in the second half of 2021.
Key financial indicators management follows include, but are not limited to, numerous interest rate sensitivity and interest rate risk indicators, credit risk, operations risk, liquidity risk, capital risk, regulatory risk, competition risk, yield curve risk, U.S. agency MBS prepayment risk and economic risk indicators.
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Balance Sheet Strategy
We utilize wholesale funding and securities to enhance our profitability and balance sheet composition by determining acceptable levels of credit, interest rate and liquidity risk consistent with prudent capital management.  This balance sheet strategy consists of borrowing a combination of long- and short-term funds from the FHLB, the FRDW or the brokered funds market. These funds are invested primarily in U.S. agency MBS and long-term municipal securities.  Although U.S. agency MBS often carry lower yields than traditional mortgage loans and other types of loans we make, these securities generally (i) increase the overall quality of our assets because of either the implicit or explicit guarantees of the U.S. Government, (ii) are more liquid than individual loans and (iii) may be used to collateralize our borrowings or other obligations.  While the strategy of investing a portion of our assets in U.S. Agency MBS and municipal securities has historically resulted in lower interest rate spreads and margins, we believe the lower operating expenses and reduced credit risk, combined with the managed interest rate risk of this strategy, have enhanced our overall profitability for many years.  At this time, we utilize this balance sheet strategy with the goal of enhancing overall profitability by maximizing the use of our capital.
Risks associated with the asset structure we maintain include a lower net interest rate spread and margin when compared to our peers, changes in the slope of the yield curve, which can reduce our net interest rate spread and margin, increased interest rate risk, the length of interest rate cycles, changes in volatility or spreads associated with the MBS and municipal securities, the unpredictable nature of MBS prepayments and credit risks associated with the municipal securities.  See “Part I - Item 1A.  Risk Factors – Risks Related to Our Business” in the 2020 Form 10-K for a discussion of risks related to interest rates.  Our asset structure, net interest spread and net interest margin require us to closely monitor our interest rate risk. An additional risk is the change in fair value of the AFS securities portfolio as a result of changes in interest rates.  Significant increases in interest rates, especially long-term interest rates, could adversely impact the fair value of the AFS securities portfolio, which could also significantly impact our equity capital.  Due to the unpredictable nature of MBS prepayments, the length of interest rate cycles and the slope of the interest rate yield curve, net interest income could fluctuate more than simulated under the scenarios modeled by our ALCO and described under “Item 3.  Quantitative and Qualitative Disclosures about Market Risk” in this Quarterly Report on Form 10-Q.
Determining the appropriate size of the balance sheet is one of the critical decisions any bank makes.  Our balance sheet is not merely the result of a series of micro-decisions, but rather the size is controlled based on the economics of assets compared to the economics of funding and funding sources. The low interest rate environment and economic landscape requires that we monitor the interest rate sensitivity of the assets driving our growth and closely align ALCO objectives accordingly.
The management of our securities portfolio as a percentage of earning assets is guided by the current economics associated with the securities portfolio, changes in our overall loan and deposit levels and changes in our wholesale funding levels.  Our balance sheet strategy is designed such that our securities portfolio should help mitigate financial performance associated with potential business and economic cycles that include slower loan growth and higher credit costs.
Our investment securities and U.S. Agency MBS decreased from $2.70 billion at December 31, 2020 to $2.65 billion at March 31, 2021. The decrease in the securities portfolio was primarily a result of the decline in the estimated fair value of the securities portfolio.
During the first quarter of 2021, the composition of the securities portfolio continued to change as U.S. Treasury Notes and, to a lesser extent, corporate and municipal bonds increased while MBS decreased. The decrease in MBS was attributable to higher MBS prepayment speeds due to the significantly low interest rate environment that was slightly offset by MBS purchases. During the first quarter of 2021, we increased security purchases when compared to the latter half of 2020, including $93 million in highly-rated primarily Texas municipal securities, $51.3 million of which were taxable, $14.3 million in investment grade subordinated debt, $800,000 in U.S. Agency MBS, and $42.8 million in U.S. Treasury Notes primarily due to the higher long-term interest rate environment. We sold approximately $35.1 million tax-free AFS electric utility revenue municipals due to uncertainty caused by the severe winter storm in Texas during February. Sales of AFS securities for the quarter ended March 31, 2021 resulted in a net realized gain of $2.0 million.
At March 31, 2021, securities as a percentage of assets totaled 37.8%, compared to 38.5% at December 31, 2020, due to the $51.2 million, or 1.9%, decrease in the securities portfolio. If loan growth, net of PPP loans, continues, we may modify our securities portfolio strategy. Our balance sheet management strategy is dynamic and is continually evaluated as market conditions warrant.  As interest rates, yield curves, MBS prepayments, funding costs, security spreads and loan and deposit portfolios change, our determination of the proper types, amount and maturities of securities to invest in, as well as funding needs and funding sources, will continue to be evaluated.  Should the economics of purchasing securities decrease, we may allow the securities portfolio to shrink through run-off or security sales. However, should the economics become more attractive, we may strategically increase the securities portfolio and the balance sheet.
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With respect to liabilities, we continue to primarily utilize a combination of deposits and FHLB borrowings to achieve our strategy of minimizing cost while achieving overall interest rate risk objectives as well as the liability management objectives of the ALCO. Our primary wholesale funding source is FHLB borrowings and to a lesser extent we utilize federal funds purchased, the FRDW and brokered deposits.
For the three months ended March 31, 2021, our total wholesale funding as a percentage of deposits, not including brokered deposits, decreased to 14.9% from 20.2% at December 31, 2020, and 41.2% at March 31, 2020. The decrease for both the linked-quarter and prior year periods was due to the increase in our deposits and the decreases in FHLB borrowings and brokered deposits.
Our FHLB borrowings decreased 20.1%, or $167.0 million, to $665.5 million at March 31, 2021 from $832.5 million at December 31, 2020. In connection with our borrowings, the Bank has entered into various variable rate agreements and fixed rate short-term pay agreements. These agreements totaled $625.0 million and $670.0 million at March 31, 2021 and December 31, 2020, respectively. Six of the agreements have an interest rate tied to three-month LIBOR and the remaining agreements have interest rates tied to one-month LIBOR. In connection with all agreements outstanding on March 31, 2021, the Bank also entered into various interest rate swap contracts that are treated as cash flow hedges under ASC Topic 815, “Derivatives and Hedging” that are expected to be effective in hedging the variability in future cash flows attributable to fluctuations in the underlying LIBOR interest rate. The interest rate swap contracts had an average interest rate of 1.11% with an average weighted maturity of 3.8 years at March 31, 2021. These transactions are reevaluated on a monthly basis to determine if the hedged forecasted transactions are still probable of occurring. If at a subsequent evaluation, it is determined that the transactions will not occur, any related gains or losses recorded in AOCI are immediately recognized in earnings. Refer to “Note 9 – Derivative Financial Instruments and Hedging Activities” in our consolidated financial statements included in this report for a detailed description of our hedging policy and methodology related to derivative instruments.     
Our brokered CDs decreased $57.0 million, or 55.4%, from $102.8 million at December 31, 2020 to $45.9 million at March 31, 2021. At March 31, 2021, our brokered CDs had a weighted average cost of 15 basis points and remaining maturities of less than 18 months. To provide management flexibility in managing the interest rate risk of wholesale funding, the ALCO has approved up to $50.0 million to issue brokered deposits to replace those maturing within 30 days. Our wholesale funding policy allows for maximum brokered deposits of $450.0 million. This brokered deposit maximum limit could increase or decrease depending on changes in ALCO objectives. Potential higher interest expense and lack of customer loyalty are risks associated with the use of brokered CDs.
On November 6, 2020, the Company issued $100.0 million in aggregate principal amount of fixed-to-floating rate subordinated notes that mature on November 15, 2030. Refer to “Note 7 – Long-term Debt” in our consolidated financial statements included in this report for a detailed description of the terms of the subordinated notes.
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Results of Operations
Our results of operations are dependent primarily on net interest income, which is the difference between the interest income earned on assets (loans and investments) and interest expense due on our funding sources (deposits and borrowings) during a particular period.  Results of operations are also affected by our noninterest income, provision for credit losses, noninterest expenses and income tax expense.  General economic and competitive conditions, particularly changes in interest rates, changes in interest rate yield curves, prepayment rates of MBS and loans, repricing of loan relationships, government policies and actions of regulatory authorities also significantly affect our results of operations.  Future changes in applicable law, regulations or government policies may also have a material impact on us. The adoption of CECL and the COVID-19 pandemic significantly impacted our results of operations in 2020 and may continue to impact our results of operations for the remainder of 2021.
The following table presents net interest income for the periods presented (in thousands):
Three Months Ended
 March 31,
 20212020
Interest income:
Loans$36,038 $41,895 
Taxable investment securities2,323 512 
Tax-exempt investment securities8,965 6,206 
MBS6,088 11,534 
FHLB stock and equity investments136 425 
Other interest earning assets15 180 
Total interest income53,565 60,752 
Interest expense:
Deposits2,597 9,919 
FHLB borrowings1,908 3,974 
Subordinated notes2,395 1,411 
Trust preferred subordinated debentures351 600 
Other borrowings11 147 
Total interest expense7,262 16,051 
Net interest income$46,303 $44,701 

Net Interest Income
Net interest income is one of the principal sources of a financial institution’s earnings stream and represents the difference or spread between interest and fee income generated from interest earning assets and the interest expense paid on interest bearing liabilities.  Fluctuations in interest rates or interest rate yield curves, as well as repricing characteristics and volume and changes in the mix of interest earning assets and interest bearing liabilities, materially impact net interest income. During the first quarter of 2020, the Federal Reserve reduced target federal funds rate by 150 basis points to 25 basis points.
Net interest income for the three months ended March 31, 2021 increased $1.6 million, or 3.6%, to $46.3 million, compared to $44.7 million for the same period in 2020. The increase in net interest income for the three months ended March 31, 2021 was due to the decrease in interest expense on our interest bearing liabilities, a result of an overall decline in interest rates, partially offset by a decrease in interest income due to a lower yield on our interest earning assets. Total interest income decreased $7.2 million, or 11.8%, to $53.6 million for the three months ended March 31, 2021, compared to $60.8 million for the same period in 2020. Total interest expense decreased $8.8 million, or 54.8%, to $7.3 million for the three months ended March 31, 2021, compared to $16.1 million for the same period in 2020. Our net interest margin (FTE), a non-GAAP measure, increased to 3.20% for the three months ended March 31, 2021, compared to 3.03% for the same period in 2020, and our net interest spread (FTE), also a non-GAAP measure, increased to 3.03%, compared to 2.76% for the same period in 2020. See “Non-GAAP Financial Measures” for more information and for a reconciliation to GAAP.
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Quarterly Analysis of Changes in Interest Income and Interest Expense
The following table presents on a fully taxable-equivalent basis, a non-GAAP measure, the net change in net interest income and sets forth the dollar amount of increase (decrease) in the average volume of interest earning assets and interest bearing liabilities and from changes in yields/rates. Volume/Yield/Rate variances (change in volume times change in yield/rate) have been allocated to amounts attributable to changes in volumes and to changes in yields/rates in proportion to the amounts directly attributable to those changes (in thousands):
 Three Months Ended March 31, 2021 Compared to 2020
Change Attributable toTotal
Fully Taxable-Equivalent Basis:Average VolumeAverage Yield/RateChange
Interest income on:   
Loans (1)
$550 $(6,350)$(5,800)
Loans held for sale15 (4)11 
Taxable investment securities1,768 43 1,811 
Tax-exempt investment securities (1)
3,545 (206)3,339 
Mortgage-backed and related securities(4,353)(1,093)(5,446)
FHLB stock, at cost, and equity investments(144)(145)(289)
Interest earning deposits(33)(132)(165)
Federal funds sold— — — 
Total earning assets1,348 (7,887)(6,539)
Interest expense on:   
Savings accounts67 (95)(28)
CDs(2,136)(2,981)(5,117)
Interest bearing demand accounts528 (2,705)(2,177)
FHLB borrowings(917)(1,149)(2,066)
Subordinated notes, net of unamortized debt issuance costs1,226 (242)984 
Trust preferred subordinated debentures, net of unamortized debt issuance costs— (249)(249)
Other borrowings(63)(73)(136)
Total interest bearing liabilities(1,295)(7,494)(8,789)
Net change$2,643 $(393)$2,250 
(1)Interest yields on loans and securities that are nontaxable for federal income tax purposes are presented on a fully taxable-equivalent basis. See “Non-GAAP Financial Measures” for more information and for a reconciliation to GAAP.
The decrease in total interest income was attributable to the decrease in the average yield on earning assets to 3.67% for the three months ended March 31, 2021 from 4.06% for the same period in 2020, partially offset by the mix of average interest earning assets for the three months ended March 31, 2021, when compared to the same period in 2020. The decrease in the average yield on total earning assets during the three months ended March 31, 2021 was a result of decreases in the short-term interest rate yield curve during the first quarter of 2021 and the tightening credit spreads that occurred primarily during the last half of 2020 and into the first quarter of 2021. For the three months ended March 31, 2021, average earning assets decreased $7.3 million, or 0.1%, when compared to the same period in 2020.
The decrease in total interest expense for the three months ended March 31, 2021 was attributable to an overall decline in interest rates paid on total interest bearing liabilities to 0.64% for the three months ended March 31, 2021 from 1.30% for the same period in 2020, and the decrease in average interest bearing liabilities.    
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The “Average Balances with Average Yields and Rates” table that follows shows average earning assets and interest bearing liabilities together with the average yield on the earning assets and the average rate of the interest bearing liabilities (dollars in thousands) for the three months ended March 31, 2021 and 2020. The interest and related yields presented are on a fully taxable-equivalent basis and are therefore non-GAAP measures. See "Non-GAAP Financial Measures" for more information, and for a reconciliation to GAAP.
Average Balances with Average Yields and Rates (Annualized)
(unaudited)
Three Months Ended
March 31, 2021March 31, 2020
Average BalanceInterestAverage Yield/RateAverage BalanceInterestAverage Yield/Rate
ASSETS
Loans (1)
$3,634,053 $36,754 4.10 %$3,587,143 $42,554 4.77 %
Loans held for sale2,803 20 2.89 %831 4.36 %
Securities:
Taxable investment securities (2)
295,968 2,323 3.18 %70,293 512 2.93 %
Tax-exempt investment securities (2)
1,300,991 11,176 3.48 %888,906 7,837 3.55 %
Mortgage-backed and related securities (2)
940,815 6,088 2.62 %1,598,374 11,534 2.90 %
Total securities2,537,774 19,587 3.13 %2,557,573 19,883 3.13 %
FHLB stock, at cost, and equity investments35,635 136 1.55 %62,976 425 2.71 %
Interest earning deposits31,169 15 0.20 %40,236 180 1.80 %
Total earning assets6,241,434 56,512 3.67 %6,248,759 63,051 4.06 %
Cash and due from banks86,634 76,739 
Accrued interest and other assets677,230 611,017 
Less:  Allowance for loan losses(49,240)(30,373)
Total assets$6,956,058 $6,906,142 
LIABILITIES AND SHAREHOLDERS’ EQUITY
Savings accounts$517,182 209 0.16 %$384,863 237 0.25 %
CDs736,099 1,229 0.68 %1,362,427 6,346 1.87 %
Interest bearing demand accounts2,342,299 1,159 0.20 %1,975,837 3,336 0.68 %
Total interest bearing deposits3,595,580 2,597 0.29 %3,723,127 9,919 1.07 %
FHLB borrowings727,513 1,908 1.06 %999,070 3,974 1.60 %
Subordinated notes, net of unamortized debt issuance costs197,252 2,395 4.92 %98,597 1,411 5.76 %
Trust preferred subordinated debentures, net of unamortized debt issuance costs60,256 351 2.36 %60,234 600 4.01 %
Other borrowings23,522 11 0.19 %69,846 147 0.85 %
Total interest bearing liabilities4,604,123 7,262 0.64 %4,950,874 16,051 1.30 %
Noninterest bearing deposits1,389,020 1,042,341 
Accrued expenses and other liabilities89,222 88,168 
Total liabilities6,082,365 6,081,383 
Shareholders’ equity873,693 824,759 
Total liabilities and shareholders’ equity$6,956,058 $6,906,142 
Net interest income (FTE)$49,250 $47,000 
Net interest margin (FTE)3.20 %3.03 %
Net interest spread (FTE)3.03 %2.76 %
(1)Interest on loans includes net fees on loans that are not material in amount.
(2)For the purpose of calculating the average yield, the average balance of securities is presented at historical cost.

Note: As of March 31, 2021 and 2020, loans totaling $5.3 million and $5.2 million, respectively, were on nonaccrual status. Our policy is to reverse previously accrued but unpaid interest on nonaccrual loans; thereafter, interest income is recorded to the extent received when appropriate.



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Noninterest Income
Noninterest income consists of revenue generated from a broad range of financial services and activities and other fee generating services that we either provide or in which we participate.
The following table details the categories included in noninterest income (dollars in thousands):
Three Months Ended
March 31,
2021
Change From
202120202020
Deposit services$6,125 $6,279 $(154)(2.5)%
Net gain on sale of securities AFS2,003 5,541 (3,538)(63.9)%
Gain on sale of loans593 170 423 248.8 %
Trust fees1,383 1,305 78 6.0 %
BOLI626 569 57 10.0 %
Brokerage services780 580 200 34.5 %
Other noninterest income2,113 1,054 1,059 100.5 %
Total noninterest income$13,623 $15,498 $(1,875)(12.1)%
The 12.1% decrease in noninterest income for the three months ended March 31, 2021, when compared to the same period in 2020, was due to decreases in net gain on sale of securities AFS and deposit services income, partially offset by increases in other noninterest income, gain on sale of loans and brokerage services income.
The decrease in deposit services income for the three months ended March 31, 2021, was primarily the result of a decrease in overdraft income due to an increase in funds available to customers through government issued stimulus checks and PPP loans. The decrease was partially offset by an increase in debit card income.
During the three months ended March 31, 2021, we sold municipal securities that resulted in a net gain on sale of AFS securities of $2.0 million for the three months ended March 31, 2021.
Gain on sale of loans increased for the three months ended March 31, 2021, when compared to the same period in 2020, due to an increase in the volume of mortgage loans sold as overall mortgage loan production increased as a result of lower interest rates.
Brokerage services income increased for the three months ended March 31, 2021, when compared to the same period in 2020, due to growth in our client base and recurring revenue.
Other noninterest income increased for the three months ended March 31, 2021, when compared to the same period in 2020, primarily due to increases in mortgage servicing fee income and swap fee income, partially offset by decreases in mortgage derivative income and investment income.
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Noninterest Expense
We incur certain types of noninterest expenses associated with the operation of our various business activities. The following table details the categories included in noninterest expense (dollars in thousands):
Three Months Ended
March 31,
2021
Change From
202120202020
Salaries and employee benefits$20,044 $19,643 $401 2.0 %
Net occupancy3,560 3,311 249 7.5 %
Advertising, travel & entertainment437 832 (395)(47.5)%
ATM expense238 224 14 6.3 %
Professional fees991 1,195 (204)(17.1)%
Software and data processing1,312 1,227 85 6.9 %
Communications525 493 32 6.5 %
FDIC insurance454 25 429 1,716.0 %
Amortization of intangibles766 980 (214)(21.8)%
Other noninterest expense2,907 2,590 317 12.2 %
Total noninterest expense$31,234 $30,520 $714 2.3 %

The increase in noninterest expense for the three months ended March 31, 2021, when compared to the same period in 2020, was the result of increases in FDIC insurance, salaries and employee benefits, other noninterest expense and net occupancy expense, partially offset by decreases in advertising, travel and entertainment expense, amortization of intangibles and professional fees.
Salaries and employee benefits increased for the three months ended March 31, 2021, when compared to the same period in 2020, due to increases in direct salary expense, partially offset by decreases in health insurance and retirement expense.
For the three months ended March 31, 2021, direct salary expense increased $708,000, or 4.3%, when compared to the same period in 2020, primarily due to normal salary increases effective in the first quarter of 2021.
Retirement expense, included in salaries and employee benefits, decreased $79,000, or 7.2%, for the three months ended March 31, 2021, when compared to the same period in 2020. The decrease was due to the freeze of the defined benefit plan to further benefit accruals as of December 31, 2020, which resulted in no defined benefit plan expense in the first quarter of 2021. This decrease was partially offset by increases in our 401(k) plan matching expense, split dollar agreement expense and ESOP expense.
Health and life insurance expense, included in salaries and employee benefits, decreased $228,000, or 10.5%, for the three months ended March 31, 2021, when compared to the same period in 2020. We have a self-insured health plan which is supplemented with a stop loss insurance policy. Health insurance costs are rising nationwide and these costs may increase during the remainder of 2021.
Net occupancy expense increased during the three months ended March 31, 2021, when compared to the same period in 2020, due to increased rent expense, depreciation, repairs and other occupancy related expense primarily associated with relocating a branch location and branch remodels.
Advertising, travel and entertainment expense decreased during the three months ended March 31, 2021, when compared to the same period in 2020, primarily due to decreases in travel, meals and entertainment, and registration fees due to reduced activity resulting from COVID-19 travel restrictions, when compared to the same period in 2020. Donations, included in advertising, travel and entertainment, also decreased when compared to the same period in 2020.
Professional fees decreased for the three months ended March 31, 2021, when compared to the same period in 2020, due to several professional fees paid in connection with training, consulting and data conversion during the three months ended March 31, 2020.
FDIC insurance increased for the three months ended March 31, 2021, when compared to the same period in 2020, due to a small bank assessment credit issued by the FDIC and utilized in the first quarter of 2020.
Amortization of intangibles decreased for the three months ended March 31, 2021, when compared to the same period in 2020, due primarily to a decrease in core deposit intangible amortization which is recognized on an accelerated method resulting in a decline in expense over time.
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Other noninterest expense increased for the three months ended March 31, 2021, when compared to the same period in 2020, primarily due to losses on retired assets associated with branch remodels and an increase in computer supplies expense.

Income Taxes
Pre-tax income for the three months ended March 31, 2021 was $38.8 million, an increase of 776.4%, compared to $4.4 million for the same period in 2020. We recorded income tax expense of $4.8 million for the three months ended March 31, 2021, compared to income tax expense of $479,000 for the same period in 2020. The ETR as a percentage of pre-tax income was 12.2% for the three months ended March 31, 2021, compared to an ETR as a percentage of pre-tax income of 10.8% for the same period in 2020. The higher ETR for the three months ended March 31, 2021 was primarily due to a decrease in tax-exempt income as a percentage of pre-tax income as compared to the same period in 2020.
The ETR differs from the statutory rate of 21% for the three months ended March 31, 2021 and 2020 primarily due to the effect of tax-exempt income from municipal loans and securities, as well as BOLI. The net deferred tax liability totaled $9.9 million at March 31, 2021, compared to $15.5 million at December 31, 2020. The decrease in the net deferred tax liability is primarily the result of the decrease in unrealized gains in the AFS securities portfolio.
See “Note 11 – Income Taxes” to our consolidated financial statements included in this report. No valuation allowance was recorded at March 31, 2021 or December 31, 2020, as management believes it is more likely than not that all of the deferred tax asset items will be realized in future years.
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Composition of Loans
One of our main objectives is to seek attractive lending opportunities in Texas, primarily in the market areas in which we operate. Refer to “Part I - Item 1. Business - Market Area” in the 2020 Form 10-K for a discussion of our primary market area and the geographic concentration of our loan portfolio as of December 31, 2020.  There were no substantial changes in these concentrations during the three months ended March 31, 2021.  The majority of our loan originations are made to borrowers who live in and/or conduct business in the market areas of Texas in which we operate or adjoin, with the exception of municipal loans, which are made primarily throughout the state of Texas.  Municipal loans are made to municipalities, counties, school districts and colleges.
The following table sets forth loan totals by class as of the dates presented (dollars in thousands):
Compared to
December 31, 2020March 31, 2020
March 31, 2021December 31, 2020March 31, 2020Change (%)Change (%)
Real estate loans:   
Construction$605,677 $581,941 $603,952 4.1 %0.3 %
1-4 family residential700,430 719,952 787,875 (2.7)%(11.1)%
Commercial1,348,551 1,295,746 1,350,818 4.1 %(0.2)%
Commercial loans564,745 557,122 383,984 1.4 %47.1 %
Municipal loans406,377 409,028 375,934 (0.6)%8.1 %
Loans to individuals90,818 93,990 98,439 (3.4)%(7.7)%
Total loans$3,716,598 $3,657,779 $3,601,002 1.6 %3.2 %
Our loan portfolio increased $58.8 million, or 1.6%, at March 31, 2021 compared to December 31, 2020 with increases in commercial real estate loans, construction loans, and commercial loans, partially offset by decreases in the other loan categories. During the quarter, our PPP loans experienced a net increase of $6.0 million, or 2.8%, from $214.8 million at December 31, 2020, due to additional funding under the renewed Economic Aid Act, which was signed into law on December 27, 2020, partially offset by forgiveness payments received from loans funded under the CARES Act.
Our loan portfolio increased $115.6 million, or 3.2%, at March 31, 2021 compared to March 31, 2020. This increase was due to our origination of PPP loans, a component of the commercial loan category, with a balance of $220.9 million at March 31, 2021, offset largely by a decrease in our 1-4 family residential loans. There were no PPP loans outstanding at March 31, 2020.
At March 31, 2021, our real estate loans represented 71.4% of our loan portfolio and were comprised of commercial real estate loans of 50.8%, 1-4 family residential loans of 26.4% and construction loans of 22.8%. Commercial real estate loans primarily include loans collateralized by retail, commercial office buildings, multi-family residential buildings, medical facilities and offices, senior living, assisted living and skilled nursing facilities, warehouse facilities, hotels and churches. Our 1-4 family residential loans consist primarily of loans secured by first mortgages on owner occupied 1-4 family residences. Our construction loans are collateralized by property located primarily in or near the market areas we serve. A number of our construction loans will be owner occupied upon completion. Construction loans for non-owner occupied projects are financed, but these typically have cash flows from leases with tenants, secondary sources of repayment, and in some cases, additional collateral.
Loan Portfolios Most at Risk due to Economic Stress Resulting from Impact of COVID-19
The banking industry is affected by general economic conditions such as interest rates, inflation, recession, unemployment and other factors beyond our control, including the impact of the COVID-19 pandemic.  During the last 30 years the Texas economy has continued to diversify, decreasing the overall impact of fluctuations in oil and gas prices; however, the oil and gas industry is still a significant component of the Texas economy. Oil prices have experienced a recovery for the three months ended March 31, 2021 following a significant reduction primarily reflective of the economic impact of COVID-19. We cannot predict whether current economic conditions or oil prices will improve, remain the same or decline.
As of March 31, 2021, the Company’s exposure to the oil and gas industry totaled $104.8 million, or 2.82% of gross loans, an increase of $229,000 from December 31, 2020, and consisted primarily of (i) support/service loans of 1.96%, (ii) upstream of 0.67%, (iii) midstream of 0.11%, and (iv) downstream of 0.08%. Expanded monitoring and analysis of these loans has been implemented to address the uncertainty in oil and gas prices as needed.
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The following table sets forth our loans outstanding in the oil and gas industry for the periods presented (dollars in thousands):
March 31,December 31, 2020
20212020
Oil and gas related loans$104,777 $102,938 $104,548 
Oil and gas related loans as a % of loans2.82 %2.86 %2.86 %
Classified oil and gas related loans$5,237 $765 $6,385 
Classified oil and gas related loans as a % of oil and gas related loans5.00 %0.74 %6.11 %
Nonaccrual oil and gas related loans$728 $— $620 
Net charge-offs for oil and gas related loans$— $27 $
Allowance for oil and gas related loans as a % of oil and gas loans1.35 %2.17 %1.36 %

The COVID-19 pandemic has negatively impacted the global economy, disrupted global supply chains and increased unemployment levels. The resulting temporary closure of many businesses and the implementation of social distancing and sheltering in place policies have impacted and could continue to impact many of our customers. As of March 31, 2021, most businesses in Texas are re-opened without restrictions. Commercial activity has improved but has not returned to the levels existing prior to the outbreak of the pandemic. In addition to the oil and gas industry, we consider the sectors set forth in the below table to be most vulnerable to financial risks from business disruptions caused by the pandemic mitigation efforts based on North American Industry Classification System categories as of March 31, 2021 (dollars in thousands). We recognize that these industries may take longer to recover as consumers may be hesitant to return to full social interaction or may change their spending habits on a more permanent basis as a result of the pandemic. We continue to monitor these customers closely.
March 31, 2021
Loans
Percent of
 Total Loans
Percent
Classified (1)
Retail commercial real estate (2)
$323,729 8.71 %0.02 %
Retail goods and services74,662 2.01 %9.47 %
Hotels69,063 1.86 %— 
Food services49,729 1.34 %— 
Arts, entertainment and recreation8,580 0.23 %2.73 %
Total$525,763 14.15 %1.40 %
December 31, 2020
Loans
Percent of
 Total Loans
Percent
Classified (1)
Retail commercial real estate (2)
$342,919 9.38 %0.02 %
Retail goods and services82,936 2.27 %9.12 %
Hotels69,578 1.90 %— 
Food services35,502 0.97 %— 
Arts, entertainment and recreation9,206 0.25 %3.80 %
Total$540,141 14.77 %1.48 %
March 31, 2020
Loans
Percent of
 Total Loans
Percent
Classified (1)
Retail commercial real estate (2)
$322,341 8.95 %0.35 %
Retail goods and services88,019 2.45 %8.79 %
Hotels69,971 1.94 %6.28 %
Food services31,848 0.89 %0.02 %
Arts, entertainment and recreation8,373 0.23 %1.02 %
Total$520,552 14.46 %2.56 %

(1)    Sector classified loans as a percentage of sector total loans.
(2)    Loans in the retail commercial real estate sector are included in our commercial real estate portfolio.
Southside Bancshares, Inc. |55

Allowance for Credit Losses - Loans
In accordance with ASC 326, the allowance for credit losses on loans is estimated and recognized upon origination of the loan based on expected credit losses. The CECL model uses historical experience and current conditions for homogeneous pools of loans, and reasonable and supportable forecasts about future events. The impact of varying economic conditions and portfolio stress factors are now a component of the credit loss models applied to each portfolio. Reserve factors are specific to the loan segments that share similar risk characteristics based on the probability of default assumptions and loss given default assumptions, over the contractual term. The forecasted periods gradually mean-revert to the long-run trend based upon historical data. Management evaluates the economic data points used in the Moody’s forecasting scenarios on a quarterly basis to determine the most appropriate impact to the various portfolio characteristics based on management’s view and applies weighting to various forecasting scenarios as deemed appropriate based on known and expected economic activities. Management also considers and may apply relevant qualitative factors, not previously considered, to determine the appropriate allowance level. The use of the CECL model includes significant judgment by management and may differ from those of our peers due to different historical loss patterns, economic forecasts, and the length of time of the reasonable and supportable forecast period and reversion period.
We utilize Moody’s Analytics economic forecast scenarios and assign probability weighting to those scenarios which best reflect management’s views on the economic forecast. The probability weighting and scenarios utilized for the estimate of the allowance were generally reflective of an improved economic forecast as based on known and knowable information as of March 31, 2021.
When determining the appropriate allowance for credit losses on our loan portfolio, our commercial construction and real estate loans, commercial loans and municipal loans utilize the probability of default/loss given default discounted cash flow approach. Reserves on these loans are based upon risk factors including the loan type and structure, collateral type, leverage ratio, refinancing risk and origination quality, among others. Our consumer construction real estate loans, 1-4 family residential loans and our loans to individuals use a loss rate based upon risk factors including loan types, origination year and credit scores. Loans covered by the PPP may be eligible for loan forgiveness. The remaining loan balance after forgiveness of any amount is still fully guaranteed by the SBA and therefore does not have an associated allowance.
Loans evaluated collectively in a pool are monitored to ensure they continue to exhibit similar risk characteristics with other loans in the pool. If a loan does not share similar risk characteristics with other loans, expected credit losses for that loan are evaluated individually.
As of March 31, 2021, our review of the loan portfolio indicated that an allowance for loan losses of $41.5 million was appropriate to cover expected losses in the portfolio.  Changes in economic and other conditions, including the application of the CECL model and the economic uncertainty related to COVID-19, may require future adjustments to the allowance for loan losses.
During the three months ended March 31, 2021, the allowance for loan losses decreased $7.6 million, or 15.4%, to $41.5 million, or 1.12% of total loans, when compared to $49.0 million, or 1.34% of total loans at December 31, 2020. The decrease in the allowance for credit losses for the first quarter of 2021 was primarily reflective of an improved economic forecast based on known and knowable information as of March 31, 2021.
For the three months ended March 31, 2021, loan charge-offs were $795,000 and recoveries were $622,000. For the three months ended March 31, 2020, loan charge-offs were $995,000 and recoveries were $451,000. We recorded a reversal of provision for credit losses for loans of $7.4 million for the three months ended March 31, 2021. This represented a decrease of $31.5 million, or 130.6%, from a provision $24.1 million for the three months ended March 31, 2020. The reversal of provision for credit losses during the three months ended March 31, 2021, was primarily due to improvement in the economic forecast in the first quarter of 2021 and its effect on macroeconomic factors used in the CECL model. The provision in the first quarter of 2020 was due to the estimated economic impact of COVID-19 on the macroeconomic factors, including the potential for credit deterioration.

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PCD Loans
We have purchased certain loans that as of the date of purchase have experienced more-than-insignificant deterioration in credit quality since origination. Management evaluates these loans against a probability threshold to determine if substantially all of the contractually required payments will be received. PCD loans are recorded at the purchase price plus an allowance for credit losses which becomes the PCD loan's initial amortized cost. The non-credit related discount or premium, the difference between the initial amortized cost and the par value, will be amortized into interest income over the life of the loan. Any further changes to the allowance for credit losses are recorded through provision expense. In accordance with the adoption of ASU 2016-13, management did not reassess whether PCI assets met the criteria of PCD assets and elected to not maintain pools of loans as of the date of adoption. All PCD loans are evaluated based upon product type within the underlying segment.
Nonperforming Assets
Nonperforming assets consist of delinquent loans 90 days or more past due, nonaccrual loans, OREO, repossessed assets and TDR loans.  Nonaccrual loans are loans 90 days or more delinquent and collection in full of both the principal and interest is not expected.  Additionally, some loans that are not delinquent or that are delinquent less than 90 days may be placed on nonaccrual status if it is probable that we will not receive contractual principal and interest payments in accordance with the terms of the respective loan agreements.  When a loan is categorized as nonaccrual, the accrual of interest is discontinued and any accrued balance is reversed for financial statement purposes.  OREO represents real estate taken in full or partial satisfaction of debts previously contracted.  The dollar amount of OREO is based on a current evaluation of the OREO at the time it is recorded on our books, net of estimated selling costs.  Updated valuations are obtained as needed and any additional impairments are recognized.  Restructured loans represent loans that have been renegotiated to provide a below market interest rate or deferral of interest or principal because of deterioration in the financial position of the borrowers.  The restructuring of a loan is considered a TDR if both (i) the borrower is experiencing financial difficulties and (ii) the creditor has granted a concession.  Concessions may include interest rate reductions or below market interest rates, restructuring amortization schedules and other actions intended to minimize potential losses.  Categorization of a loan as nonperforming is not in itself a reliable indicator of potential loan loss.  Other factors, such as the value of collateral securing the loan and the financial condition of the borrower are considered in judgments as to potential loan loss.
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The following table sets forth nonperforming assets for the periods presented (dollars in thousands):
Compared to
December 31, 2020March 31,
2020
 March 31,
2021
December 31, 2020March 31,
2020
Change (%)Change (%)
Loans on nonaccrual:
Real estate loans:
  Construction$248 $640 $671 (61.3)%(63.0)%
  1-4 family residential1,929 3,922 3,025 (50.8)%(36.2)%
  Commercial1,229 1,269 742 (3.2)%65.6 %
Commercial loans1,682 1,592 549 5.7 %206.4 %
Loans to individuals226 291 234 (22.3)%(3.4)%
Total nonaccrual loans5,314 7,714 5,221 (31.1)%1.8 %
Accruing loans past due more than 90 days— — — — — 
TDR loans9,641 9,646 11,448 (0.1)%(15.8)%
OREO412 106 734 288.7 %(43.9)%
Repossessed assets— 14 — (100.0)%— 
Total nonperforming assets$15,367 $17,480 $17,403 (12.1)%(11.7)%
Ratio of nonaccruing loans to:   
Total loans0.14 %0.21 %0.14 %
Ratio of nonperforming assets to:
Total assets0.22 %0.25 %0.24 %
Total loans0.41 %0.48 %0.48 %
Total loans and OREO0.41 %0.48 %0.48 %
Total loans, excluding PPP loans, and OREO0.44 %0.51 %0.48 %
Ratio of allowance for loan losses to:
Nonaccruing loans780.09 %635.29 %1,027.35 %
Nonperforming assets269.76 %280.35 %308.21 %
Total loans1.12 %1.34 %1.49 %
Total loans, excluding PPP loans1.19 %1.42 %1.49 %
Net charge-offs to average loans outstanding0.02 %0.03 %0.06 %

We are actively marketing all OREO properties and none are being held for investment purposes.

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Liquidity and Interest Rate Sensitivity
Liquidity management involves our ability to convert assets to cash with minimum risk of loss while enabling us to meet our obligations to our customers at any time.  This means addressing (1) the immediate cash withdrawal requirements of depositors and other fund providers; (2) the funding requirements of lines and letters of credit; and (3) the short-term credit needs of customers.  Liquidity is provided by cash, interest earning deposits and short-term investments that can be readily liquidated with a minimum risk of loss.  At March 31, 2021, these investments were 6.6% of total assets, as compared with 7.4% for December 31, 2020 and 6.5% for March 31, 2020. The decrease to 6.6% at March 31, 2021 as compared to December 31, 2020, is reflective of the decrease in the short-term investment portfolio while the increase as compared to March 31, 2020, is reflective of the decrease in total assets. Liquidity is further provided through the matching, by time period, of rate sensitive interest earning assets with rate sensitive interest bearing liabilities.  The Bank has three unsecured lines of credit for the purchase of overnight federal funds at prevailing rates with Frost Bank, TIB – The Independent Bankers Bank and Comerica Bank for $40.0 million, $15.0 million and $7.5 million, respectively. There were no federal funds purchased at March 31, 2021 or December 31, 2020.  To provide more liquidity in response to the economic impact of the COVID-19 pandemic, the Federal Reserve took steps to encourage broader use of the discount window. At March 31, 2021, the amount of additional funding the Bank could obtain from the FRDW, collateralized by securities and PPP loans, was approximately $618.1 million. There were no borrowings from the FRDW at March 31, 2021 or December 31, 2020. At March 31, 2021, the amount of additional funding Southside Bank could obtain from FHLB, collateralized by securities, FHLB stock and nonspecified loans and securities, was approximately $1.25 billion, net of FHLB stock purchases required.  The Bank has a $5.0 million line of credit with Frost Bank to be used to issue letters of credit, and at March 31, 2021, the line had one outstanding letter of credit for $91,000. The Bank currently has no outstanding letters of credit from FHLB held as collateral for its public fund deposits.
Management continually evaluates our liquidity position and currently believes the Company has adequate funding to meet our financial needs. During March 2020, in response to COVID-19, the Federal Reserve lowered the primary credit rate by 150 basis points to 0.25 percent and extended terms to 90 days to enhance market liquidity and encourage use of the discount window. In addition, the Federal Reserve announced it would begin quantitative easing, or large-scale asset purchases, consisting primarily of U.S. Treasury securities and MBS to stem the effects of the pandemic on the financial markets. Failure to contain the COVID-19 pandemic could cause a widespread liquidity crisis, and the availability of these funds or the options to sell securities currently held could be hindered.
Interest rate sensitivity management seeks to avoid fluctuating net interest margins and to enhance consistent growth of net interest income through periods of changing interest rates.  The ALCO closely monitors various liquidity ratios and interest rate spreads and margins.  The ALCO utilizes a simulation model to perform interest rate simulation tests that apply various interest rate scenarios including immediate shocks and MVPE to assist in determining our overall interest rate risk and the adequacy of our liquidity position.  In addition, the ALCO utilizes this simulation model to determine the impact on net interest income of various interest rate scenarios.  By utilizing this technology, we can determine changes that need to be made to the asset and liability mix to minimize the change in net interest income under these various interest rate scenarios. See Part I - “Item 3. Quantitative and Qualitative Disclosures about Market Risk” in this Quarterly Report on Form 10-Q.

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Capital Resources
Our total shareholders’ equity at March 31, 2021 decreased 1.9%, or $16.7 million, to $858.6 million, or 12.3% of total assets, compared to $875.3 million, or 12.5% of total assets, at December 31, 2020. The decrease in shareholders’ equity was the result of other comprehensive losses of $29.5 million, the repurchase of $15.2 million of our common stock and cash dividends paid of $10.5 million. These decreases were partially offset by net income of $34.1 million, net issuance of common stock under employee stock plans of $3.4 million, stock compensation expense of $674,000 and common stock issued under our dividend reinvestment plan of $332,000.    
The Company’s Common Equity Tier 1 capital includes common stock and related paid-in capital, net of treasury stock, and retained earnings. The Bank’s Common Equity Tier 1 capital includes common stock and related paid-in capital, and retained earnings. In connection with the adoption of the Basel III Capital Rules, we elected to opt-out of the requirement to include accumulated other comprehensive income in Common Equity Tier 1. We also elected, for a five-year transitional period, the effects of credit loss accounting under CECL from Common Equity Tier 1, as further discussed below. Common Equity Tier 1 for both the Company and the Bank is reduced by goodwill and other intangible assets, net of associated deferred tax liabilities.
Tier 1 capital includes Common Equity Tier 1 capital and additional Tier 1 capital. For the Company, additional Tier 1 capital at March 31, 2021 included $58.4 million of trust preferred securities. For bank holding companies that had assets of less than $15 billion as of December 31, 2009, trust preferred securities issued prior to May 19, 2010 can be treated as Tier 1 capital to the extent that they do not exceed 25% of Tier 1 capital after the application of capital deductions and adjustments. The Bank did not have any additional Tier 1 capital beyond Common Equity Tier 1 at March 31, 2021.

Total capital includes Tier 1 capital and Tier 2 capital. Tier 2 capital for both the Company and the Bank includes a permissible portion of the allowance for credit losses on loans and off-balance sheet exposures. Tier 2 capital for the Company also includes $197.3 million of qualified subordinated debt as of March 31, 2021. The permissible portion of qualified subordinated notes decreases 20% per year during the final five years of the term of the notes.
In April 2020, the FDIC, Federal Reserve, and the Office of the Comptroller of the Currency issued supplemental instructions allowing banking organizations that implement CECL before the end of 2020, the option to delay for two years an estimate of the CECL methodologies’ effect on regulatory capital, relative to the incurred loss methodologies effect on capital, followed by a three-year transition period.  We elected to adopt the five-year transition option. Accordingly, a CECL transitional amount totaling $10.0 million has been added back to CET1 as of March 31, 2021. The CECL transitional amount includes $7.8 million related to a cumulative effect of adopting CECL and $2.2 million related to the estimated incremental effect of CECL since adoption.
Also in April 2020, we began originating loans to qualified small businesses under the PPP administered by the SBA. Federal bank regulatory agencies have issued an interim final rule that permits banks to neutralize the regulatory capital effects of participating in the Paycheck Protection Program Lending Facility and clarify that PPP loans have a zero percent risk weight under applicable risk-based capital rules. Specifically, a bank may exclude all PPP loans pledged as collateral to the PPP Facility from its average total consolidated assets for the purposes of calculating its leverage ratio, while PPP loans that are not pledged as collateral to the PPP Facility will be included. Our PPP loans are included in the calculation of our leverage ratio as of March 31, 2021, as we did not utilize the PPP Facility for funding purposes.
Management believes that, as of March 31, 2021, we met all capital adequacy requirements to which we were subject. It is management’s intention to maintain our capital at a level acceptable to all regulatory authorities and future dividend payments will be determined accordingly.  Regulatory authorities require that any dividend payments made by either us or the Bank not exceed earnings for that year.  Accordingly, shareholders should not anticipate a continuation of the cash dividend payments simply because of the existence of a dividend reinvestment program.  The payment of dividends will depend upon future earnings, our financial condition and other related factors including the discretion of the board of directors.
Southside Bancshares, Inc. |60

To be categorized as well capitalized we must maintain minimum Common Equity Tier 1 risk-based, Tier 1 risk-based, Total capital risk-based and Tier 1 leverage ratios as set forth in the following table (dollars in thousands):
ActualFor Capital
Adequacy Purposes
To Be Well Capitalized
Under Prompt
Corrective Actions
Provisions
March 31, 2021AmountRatioAmountRatioAmount Amount
Common Equity Tier 1 (to Risk-Weighted Assets)      
Consolidated$623,603 14.71 %$190,741 4.50 %N/AN/A
Bank Only$803,884 18.97 %$190,726 4.50 %$275,494 6.50 %
Tier 1 Capital (to Risk-Weighted Assets)
Consolidated$682,048 16.09 %$254,322 6.00 %N/AN/A
Bank Only$803,884 18.97 %$254,302 6.00 %$339,069 8.00 %
Total Capital (to Risk-Weighted Assets)
Consolidated$912,092 21.52 %$339,096 8.00 %N/AN/A
Bank Only$836,660 19.74 %$339,069 8.00 %$423,837 10.00 %
Tier 1 Capital (to Average Assets) (1)
Consolidated$682,048 10.29 %$265,109 4.00 %N/AN/A
Bank Only$803,884 12.13 %$265,013 4.00 %$331,266 5.00 %
ActualFor Capital
Adequacy Purposes
To Be Well Capitalized
Under Prompt
Corrective Actions
Provisions
December 31, 2020AmountRatioAmountRatioAmountRatio
Common Equity Tier 1 (to Risk-Weighted Assets)      
Consolidated$612,703 14.68 %$187,814 4.50 %N/AN/A
Bank Only$768,200 18.41 %$187,801 4.50 %$271,268 6.50 %
Tier 1 Capital (to Risk-Weighted Assets)
Consolidated$671,147 16.08 %$250,418 6.00 %N/AN/A
Bank Only$768,200 18.41 %$250,402 6.00 %$333,869 8.00 %
Total Capital (to Risk-Weighted Assets)      
Consolidated$908,873 21.78 %$333,891 8.00 %N/AN/A
Bank Only$808,675 19.38 %$333,869 8.00 %$417,336 10.00 %
Tier 1 Capital (to Average Assets) (1)
Consolidated$671,147 9.81 %$273,558 4.00 %N/AN/A
Bank Only$768,200 11.24 %$273,432 4.00 %$341,790 5.00 %
(1)Refers to quarterly average assets as calculated in accordance with policies established by bank regulatory agencies.
As of March 31, 2021, Southside Bancshares and Southside Bank met all capital adequacy requirements under the Basel III Capital Rules that became fully phased-in as of January 1, 2019. Refer to the Supervision and Regulation section in the 2020 Form 10-K for further discussion of our capital requirements.
Southside Bancshares, Inc. |61

The table below summarizes our key equity ratios for the periods presented:
 Three Months Ended
March 31,
 20212020
Return on average assets1.99 %0.23 %
Return on average shareholders’ equity15.82 %1.93 %
Dividend payout ratio – Basic30.77 %258.33 %
Dividend payout ratio – Diluted30.77 %258.33 %
Average shareholders’ equity to average total assets12.56 %11.94 %

Off-Balance-Sheet Arrangements, Commitments and Contingencies
Financial Instruments with Off-Balance-Sheet Risk. In the normal course of business, we are a party to certain financial instruments with off-balance-sheet risk to meet the financing needs of our customers. These off-balance-sheet instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount reflected in the financial statements. The contract or notional amounts of these instruments reflect the extent of involvement and exposure to credit loss that we have in these particular classes of financial instruments. The allowance for credit losses on these off-balance-sheet credit exposures is calculated using the same methodology as loans including conversion or usage factor to anticipate ultimate exposure and expected losses and is included in other liabilities on our consolidated balance sheets.

Allowance for off-balance-sheet credit exposures were as follows (in thousands):
Three Months Ended
March 31,
20212020
Balance at beginning of period$6,386 $1,455 
Impact of CECL adoption— 4,840 
Provision for (reversal of) off-balance-sheet credit exposures(2,770)1,165 
Balance at end of period$3,616 $7,460 

Commitments to extend credit are agreements to lend to a customer provided that the terms established in the contract are met. Commitments to extend credit generally have fixed expiration dates and may require the payment of fees. Since some commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. These guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in commitments to extend credit and similarly do not necessarily represent future cash obligations.

Financial instruments with off-balance-sheet risk were as follows (in thousands):
 March 31, 2021December 31, 2020
Unused commitments:  
Commitments to extend credit$811,574 $793,138 
Standby letters of credit10,825 13,658 
Total$822,399 $806,796 

We apply the same credit policies in making commitments to extend credit and standby letters of credit as we do for on-balance-sheet instruments.  We evaluate each customer’s creditworthiness on a case-by-case basis.  The amount of collateral obtained, if deemed necessary, upon extension of credit is based on management’s credit evaluation of the borrower.  Collateral held varies but may include cash or cash equivalents, negotiable instruments, real estate, accounts receivable, inventory, oil, gas and mineral interests, property, plant and equipment.
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Leases. During the three months ended March 31, 2021, there was $1.1 million of operating lease ROU assets obtained in exchange for new operating lease liabilities, primarily due to one lease that commenced in January 2021 with an initial right-of-use asset of $1.1 million. There was $227,000 of operating lease right-of-use assets obtained in exchange for new operating lease liabilities for the three months ended March 31, 2020.
Securities. In the normal course of business we buy and sell securities. At March 31, 2021, there were $23.5 million of unsettled trades to purchase securities and no unsettled trades to sell securities. At December 31, 2020, there were no unsettled trades to purchase securities and no unsettled trades to sell securities.
Deposits. There were no unsettled issuances of brokered CDs at March 31, 2021 or December 31, 2020.
Litigation. We are a party to various litigation in the normal course of business.  Management, after consulting with our legal counsel, believes that any liability resulting from litigation will not have a material effect on our financial position, results of operations or liquidity.

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Expansion
On April 12, 2021, we opened a loan production office in Harris County, in Houston’s Uptown District.
Branch Closures
On March 19, 2021, we closed two retail branch locations in Longview and Tyler, that were in close proximity to other Southside branches, and a traditional branch location in Flower Mound. These closures were also driven by a shift in customer preferences and their transition from in-branch banking to digital.
Recent Accounting Pronouncements
See “Note 1 – Summary of Significant Accounting and Reporting Policies” in our consolidated financial statements included in this Quarterly Report on Form 10-Q.
Subsequent Events
Subsequent to March 31, 2021 and through April 27, 2021, we purchased 90,884 shares of common stock at an average price of $38.49 pursuant to the Stock Repurchase Plan.

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ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The disclosures set forth in this item are qualified by the section captioned “Forward-Looking Statements” included in “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations” of this report and other cautionary statements set forth elsewhere in this Quarterly Report on Form 10-Q.
Refer to the discussion of market risks included in “Item 7A.  Quantitative and Qualitative Disclosures About Market Risk” in the 2020 Form 10-K.  
In the banking industry, a major risk exposure is changing interest rates.  The primary objective of monitoring our interest rate sensitivity, or risk, is to provide management the tools necessary to manage the balance sheet to minimize adverse changes in net interest income as a result of changes in the direction and level of interest rates.  Federal Reserve monetary control efforts, the effects of deregulation, economic uncertainty and legislative changes have been significant factors affecting the task of managing interest rate sensitivity positions in recent years.
In an attempt to manage our exposure to changes in interest rates, management closely monitors our exposure to interest rate risk through our ALCO.  Our ALCO meets regularly and reviews our interest rate risk position and makes recommendations to our board for adjusting this position.  In addition, our board reviews our asset/liability position on a monthly basis.  We primarily use two methods for measuring and analyzing interest rate risk: net income simulation analysis and MVPE modeling.  We utilize the net income simulation model as the primary quantitative tool in measuring the amount of interest rate risk associated with changing market rates.  This model quantifies the effects of various interest rate scenarios on projected net interest income and net income over the next 12 months.  The model is used to measure the impact on net interest income relative to a base case scenario of rates immediately increasing 100 and 200 basis points or decreasing 50 basis points over the next 12 months.  These simulations incorporate assumptions regarding balance sheet growth and mix, pricing and the repricing and maturity characteristics of the existing and projected balance sheet.  The impact of interest rate-related risks such as prepayment, basis and option risk are also considered.  The model has interest rate floors, and no interest rates are assumed to go negative. The interest rate environment declined during 2020 to a point where most treasury terms were under 100 basis points; therefore, we do not believe an analysis of an assumed decrease in interest rates beyond 50 basis points would provide meaningful results. We will continue to monitor interest rates, and we will resume the simulation of rates decreasing 100 and 200 basis points once rates begin to rise.
The following table reflects the noted increases and decreases in interest rates under the model simulations and the anticipated impact on net interest income relative to the base case over the next 12 months for the periods presented.
Anticipated impact over the next 12 months
March 31,
Rate projections:20212020
Increase:
100 basis points3.15 %1.24 %
200 basis points6.85 %(1.27)%
Decrease:
50 basis points(2.15)%(1.79)%
100 basis pointsN/A(5.91)%
200 basis pointsN/A(8.45)%
As part of the overall assumptions, certain assets and liabilities are given reasonable floors.  This type of simulation analysis requires numerous assumptions including but not limited to changes in balance sheet mix, prepayment rates on mortgage-related assets and fixed rate loans, cash flows and repricing of all financial instruments, changes in volumes and pricing, future shapes of the yield curve, relationship of market interest rates to each other (basis risk), credit spread and deposit sensitivity.  Assumptions are based on management’s best estimates but may not accurately reflect actual results under certain changes in interest rates.
In addition to interest rate risk, beginning in 2020, the COVID-19 pandemic exposed us and will likely continue to expose us to additional market value risk. Protracted business closures, furloughs and lay-offs have curtailed economic activity, and will likely continue to curtail economic activity and could result in lower fair values for collateral in our commercial and 1-4 family portfolio segments.
Southside Bancshares, Inc. |65

The ALCO monitors various liquidity ratios to ensure a satisfactory liquidity position for us.  Management continually evaluates the condition of the economy, the pattern of market interest rates and other economic data to determine the types of investments that should be made and at what maturities.  Using this analysis, management from time to time assumes calculated interest sensitivity gap positions to maximize net interest income based upon anticipated movements in the general level of interest rates.  Regulatory authorities also monitor our gap position along with other liquidity ratios.  In addition, as described above, we utilize a simulation model to determine the impact of net interest income under several different interest rate scenarios.  By utilizing this model, we can determine changes that need to be made to the asset and liability mixes to mitigate the change in net interest income under these various interest rate scenarios.

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ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Management, including our Chief Executive Officer (“CEO”) and our Chief Financial Officer (“CFO”), undertook an evaluation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report, and, based on that evaluation, our CEO and CFO concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report, in recording, processing, summarizing and reporting in a timely manner the information that the Company is required to disclose in its reports under the Exchange Act and in accumulating and communicating to the Company’s management, including the Company’s CEO and CFO, such information as appropriate to allow timely decisions regarding required disclosure.  
Changes in Internal Control Over Financial Reporting
No changes were made to our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) during the quarter ended March 31, 2021 that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

ITEM 1.    LEGAL PROCEEDINGS 

We are a party to various litigation in the normal course of business. Management, after consulting with our legal counsel, believes that any liability resulting from litigation will not have a material effect on our financial position, results of operations or liquidity.

ITEM 1A.    RISK FACTORS

There have been no material changes in the risk factors previously disclosed in the 2020 Form 10-K.


ITEM 2.    UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Issuer Purchases of Equity Securities
On September 5, 2019, our board of directors authorized the repurchase of up to 1.0 million shares of common stock under the Stock Repurchase Plan. On March 12, 2020, our board of directors increased the authorization under the Stock Repurchase Plan by an additional 1.0 million shares, for a total authorization to repurchase up to 2.0 million shares. Repurchases may be carried out in open market purchases, privately negotiated transactions and pursuant to any trading plan that might be adopted in accordance with Rule 10b5-1 of the Exchange Act. We have no obligation to repurchase any shares under the Stock Repurchase Plan and may modify, suspend or discontinue the plan at any time.
The following table provides information with respect to purchases made by or on behalf of any “affiliated purchaser” (as defined in Rule 10b-18(a)(3) under the Exchange Act), of our common stock during the three months ended March 31, 2021:
PeriodTotal Number of
 Shares
Purchased
Average Price Paid
 Per Share
Total Number of Shares Purchased as Part of Publicly Announced PlanMaximum Number of Shares That May Yet Be Purchased Under the Stock Repurchase Plan at the End of the Period
January 1, 2021 - January 31, 202114,857 $30.99 14,857 923,627 
February 1, 2021 - February 28, 2021226,450 33.72 226,450 697,177 
March 1, 2021 - March 31, 2021186,089 38.25 186,089 511,088 
Total427,396 $35.60 427,396 
Subsequent to March 31, 2021 and through April 27, 2021, we purchased 90,884 shares of common stock at an average price of $38.49 pursuant to the Stock Repurchase Plan.
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ITEM 3.    DEFAULTS UPON SENIOR SECURITIES
None.

ITEM 4.    MINE SAFETY DISCLOSURES
None.

ITEM 5.    OTHER INFORMATION
None.
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ITEM 6.    EXHIBITS

Exhibit Index
Incorporated by Reference
Exhibit NumberExhibit DescriptionFiled HerewithExhibitFormFiling DateFile No.
(3)Articles of Incorporation and Bylaws
3.13.18-K05/14/20180-12247
  
3.23.18-K02/22/20180-12247
(31)Rule 13a-14(a)/15d-14(a) Certifications
31.1X
 
31.2X
  
(32)Section 1350 Certification
†32X
  
(101)Interactive Date File
101.INSXBRL Instance Document - the instance document does not appear in the interactive data file because its XBRL tags are embedded within the Inline XBRL document.X
  
101.SCHInline XBRL Taxonomy Extension Schema Document.X
  
101.CALInline XBRL Taxonomy Extension Calculation Linkbase Document.X
  
101.LABInline XBRL Taxonomy Extension Label Linkbase Document.X
  
101.PREInline XBRL Taxonomy Extension Presentation Linkbase Document.X
  
101.DEFInline XBRL Taxonomy Extension Definition Linkbase Document.X
  
104Cover Page Interactive Data File (embedded within the Inline XBRL document).X
  
† The certification attached as Exhibit 32 accompanies this Quarterly Report on Form 10-Q and is “furnished” to the Commission pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and shall not be deemed “filed” by us for purposes of Section 18 of the Securities Exchange Act of 1934, as amended.
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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
 SOUTHSIDE BANCSHARES, INC.
 
DATE:April 30, 2021BY:/s/ Lee R. Gibson
Lee R. Gibson, CPA
President and Chief Executive Officer
(Principal Executive Officer)
DATE:April 30, 2021BY:/s/ Julie N. Shamburger
Julie N. Shamburger, CPA
Chief Financial Officer
(Principal Financial and Accounting Officer)
 

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