UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

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: 000-25927

MACATAWA BANK CORPORATION
(Exact name of registrant as specified in its charter)

Michigan

38-3391345
(State or other jurisdiction of  incorporation or organization)

(I.R.S. Employer Identification No.)

10753 Macatawa Drive, Holland, Michigan 49424
(Address of principal executive offices) (Zip Code)

Registrant's telephone number, including area code: (616) 820-1444

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


Title of each class

Trading Symbol

Name of each exchange on which registered

Common stock

MCBC

NASDAQ

Indicate by checkmark 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 filer
Accelerated filer
Non-accelerated filer
Smaller reporting company
Emerging Growth Company

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes No

The number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: 34,193,132 shares of the Company's Common Stock (no par value) were outstanding as of April 22, 2021.



Forward-Looking Statements

This report contains forward-looking statements that are based on management's beliefs, assumptions, current expectations, estimates and projections about the financial services industry, the economy, and Macatawa Bank Corporation. Forward-looking statements are identifiable by words or phrases such as “outlook”, “plan” or “strategy”; that an event or trend “could”, “may”, “should”, “will”, “is likely”, or is “possible” or “probable” to occur or “continue”, has “begun” or “is scheduled” or “on track” or that the Company or its management “anticipates”, “believes”, “estimates”, “plans”, “forecasts”, “intends”, “predicts”, “projects”, or “expects” a particular result, or is “committed”, “confident”, “optimistic” or has an “opinion” that an event will occur, or other words or phrases such as “ongoing”, “future”, “signs”, “efforts”, “tend”, “exploring”, “appearing”, “until”, “near term”, “concern”, “going forward”, “focus”, “starting”, “initiative,” “trend” and variations of such words and similar expressions. Such statements are based upon current beliefs and expectations and involve substantial risks and uncertainties which could cause actual results to differ materially from those expressed or implied by such forward-looking statements. These statements include, among others, those related to the risks and uncertainties related to, and the impact of, the global coronavirus (COVID-19) pandemic on the business, financial condition and results of operations of our company and our customers, future levels of earning assets, future composition of our loan portfolio, trends in credit quality metrics, future capital levels and capital needs, real estate valuation, future levels of repossessed and foreclosed properties and nonperforming assets, future levels of losses and costs associated with the administration and disposition of repossessed and foreclosed properties and nonperforming assets, future levels of loan charge-offs, future levels of other real estate owned, future levels of provisions for loan losses and reserve recoveries, the rate of asset dispositions, future dividends, future growth and funding sources, future cost of funds, future liquidity levels, future profitability levels, future interest rate levels, future net interest margin levels, the effects on earnings of changes in interest rates, future economic conditions, future effects of new or changed accounting standards, future loss recoveries, loan demand and loan growth and the future level of other revenue sources. Management's determination of the provision and allowance for loan losses, the appropriate carrying value of intangible assets (including deferred tax assets) and other real estate owned, and the fair value of investment securities (including whether any impairment on any investment security is temporary or other-than-temporary and the amount of any impairment) involves judgments that are inherently forward-looking. All statements with references to future time periods are forward-looking. All of the information concerning interest rate sensitivity is forward-looking. The future effect of changes in the real estate, financial and credit markets and the national and regional economy on the banking industry, generally, and Macatawa Bank Corporation, specifically, are also inherently uncertain. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions (“risk factors”) that are difficult to predict with regard to timing, extent, likelihood and degree of occurrence. Therefore, actual results and outcomes may materially differ from what may be expressed or forecasted in such forward-looking statements. Macatawa Bank Corporation does not undertake to update forward-looking statements to reflect the impact of circumstances or events that may arise after the date of the forward-looking statements.

Risk factors include, but are not limited to, the risk factors described in "Item 1A - Risk Factors" of our Annual Report on Form 10-K for the year ended December 31, 2020. These and other factors are representative of the risk factors that may emerge and could cause a difference between an ultimate actual outcome and a preceding forward-looking statement.


INDEX



Page
Number



Part I.
Financial Information:
 
     

Item 1.


4




10




Item 2.


34




Item 3.


47




Item 4.


48



Part II.
Other Information:





Item 2.


49




Item 6.


49




50


Part I
Financial Information
Item 1.
MACATAWA BANK CORPORATION
CONSOLIDATED BALANCE SHEETS
As of March 31, 2021 (unaudited) and December 31, 2020
(Dollars in thousands, except per share data)


 
March 31,
2021


December 31,
2020
 
ASSETS

 

   
Cash and due from banks

$
26,900


$
31,480
 
Federal funds sold and other short-term investments

 
884,985



752,256
 
Cash and cash equivalents

 
911,885



783,736
 
Debt securities available for sale, at fair value

 
233,672



236,832
 
Debt securities held to maturity (fair value 2021 - $92,139 and 2020 - $83,246)

 
89,170



79,468
 
Federal Home Loan Bank (FHLB) stock

 
11,558



11,558
 
Loans held for sale, at fair value

 
9,315



5,422
 
Total loans

 
1,382,951



1,429,331
 
Allowance for loan losses

 
(17,452
)
 
(17,408
)
Net loans

 
1,365,499
   
1,411,923
 
Premises and equipment – net

 
43,113
   
43,254
 
Accrued interest receivable

 
5,994
   
5,625
 
Bank-owned life insurance

 
42,244
   
42,516
 
Other real estate owned - net

 
2,371
   
2,537
 
Net deferred tax asset

 
3,298
   
2,059
 
Other assets

 
16,222
   
17,096
 
Total assets

$
2,734,341
   
$
2,642,026
 
LIABILITIES AND SHAREHOLDERS' EQUITY

   


   
Deposits

   


   
Noninterest-bearing

$
848,798


$
809,437
 
Interest-bearing

 
1,539,147



1,489,150
 
Total deposits

 
2,387,945



2,298,587
 
Other borrowed funds

 
70,000



70,000
 
Long-term debt

 
20,619



20,619
 
Accrued expenses and other liabilities

 
13,398



12,977
 
Total liabilities

 
2,491,962



2,402,183
 
Commitments and contingent liabilities

 



 
Shareholders' equity

   


   
Common stock, no par value, 200,000,000 shares authorized; 34,193,132 and 34,197,519 shares issued and outstanding at March 31, 2021 and December 31, 2020

 
218,687



218,528
 
Retained earnings

 
22,156



17,101
 
Accumulated other comprehensive income

 
1,536



4,214
 
Total shareholders' equity

 
242,379



239,843
 
Total liabilities and shareholders' equity

$
2,734,341


$
2,642,026
 

See accompanying notes to consolidated financial statements.

-4-

MACATAWA BANK CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
Three month periods ended March 31, 2021 and 2020
(unaudited)
(Dollars in thousands, except per share data)


   
Three Months
Ended
March 31,
2021
   
Three Months
Ended
March 31,
2020
 
Interest income
           
Loans, including fees
 
$
13,467
   
$
14,851
 
Securities
               
Taxable
   
787
     
1,061
 
Tax-exempt
   
758
     
882
 
FHLB Stock
   
61
     
124
 
Federal funds sold and other short-term investments
   
201
     
576
 
Total interest income
   
15,274
     
17,494
 
Interest expense
               
Deposits
   
279
     
1,603
 
Other borrowings
   
352
     
349
 
Long-term debt
   
153
     
239
 
Total interest expense
   
784
     
2,191
 
Net interest income
   
14,490
     
15,303
 
Provision for loan losses
   
     
700
 
Net interest income after provision for loan losses
   
14,490
     
14,603
 
Noninterest income
               
Service charges and fees
   
992
     
1,110
 
Net gains on mortgage loans
   
2,015
     
650
 
Trust fees
   
1,005
     
935
 
ATM and debit card fees
   
1,485
     
1,337
 
Gain on sales of securities
   
     
 
Bank owned life insurance ("BOLI") income
   
276
     
242
 
Other
   
766
     
685
 
Total noninterest income
   
6,539
     
4,959
 
Noninterest expense
               
Salaries and benefits
   
6,412
     
6,691
 
Occupancy of premises
   
1,037
     
1,009
 
Furniture and equipment
   
937
     
855
 
Legal and professional
   
222
     
291
 
Marketing and promotion
   
175
     
238
 
Data processing
   
908
     
760
 
FDIC assessment
   
170
     
 
Interchange and other card expense
   
358
     
347
 
Bond and D&O insurance
   
111
     
105
 
Net (gains) losses on repossessed and foreclosed properties
   
18
     
31
 
Administration and disposition of problem assets
   
14
     
30
 
Other
   
1,123
     
1,365
 
Total noninterest expenses
   
11,485
     
11,722
 
Income before income tax
   
9,544
     
7,840
 
Income tax expense
   
1,766
     
1,429
 
Net income
 
$
7,778
   
$
6,411
 
Basic earnings per common share
 
$
0.23
   
$
0.19
 
Diluted earnings per common share
 
$
0.23
   
$
0.19
 
Cash dividends per common share
 
$
0.08
   
$
0.08
 

See accompanying notes to consolidated financial statements.

-5-

MACATAWA BANK CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Three month periods ended March 31, 2021 and 2020
(unaudited)
(Dollars in thousands)


   
Three Months
Ended
March 31,
2021
   
Three Months
Ended
March 31,
2020
 
Net income
 
$
7,778
   
$
6,411
 
Other comprehensive income:
               
Unrealized gains (losses):
               
Net change in unrealized gains (losses) on debt securities available for sale
   
(3,390
)
   
2,939
 
Tax effect
   
712
     
(617
)
Net change in unrealized gains (losses) on debt securities available for sale, net of tax
   
(2,678
)
   
2,322
 
Less: reclassification adjustments:
               
Reclassification for gains included in net income
   
     
 
Tax effect
   
     
 
Reclassification for gains included in net income, net of tax
   
     
 
Other comprehensive income (loss), net of tax
   
(2,678
)
   
2,322
 
Comprehensive income
 
$
5,100
   
$
8,733
 

See accompanying notes to consolidated financial statements.

-6-

MACATAWA BANK CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Three month periods ended March 31, 2021 and 2020
(unaudited)
(Dollars in thousands, except per share data)


   
Common
Stock
   
Retained
Earnings
(Deficit)
   
Accumulated
Other
Comprehensive
Income (Loss)
   
Total
Shareholders'
Equity
 
Balance, January 1, 2020
 
$
218,109
   
$
(2,184
)
 
$
1,544
   
$
217,469
 
Net income for the three months ended March 31, 2020
   
     
6,411
     
     
6,411
 
Cash dividends at $.08 per share
   
     
(2,720
)
   
     
(2,720
)
Repurchase of 1,608 shares for taxes withheld on vested restricted stock
   
(11
)
   
     
     
(11
)
Net change in unrealized gain on debt securities available for sale, net of tax
   
     
     
2,322
     
2,322
 
Stock compensation expense
   
109
     
     
     
109
 
Balance, March 31, 2020
 
$
218,207
   
$
1,507
   
$
3,866
   
$
223,580
 

   
Common
Stock
   
Retained
Earnings
   
Accumulated
Other
Comprehensive
Income (Loss)
   
Total
Shareholders'
Equity
 
Balance, January 1, 2021
 
$
218,528
   
$
17,101
   
$
4,214
   
$
239,843
 
Net income for the three months ended March 31, 2021
   
     
7,778
     
     
7,778
 
Cash dividends at $.08 per share
   
     
(2,723
)
   
     
(2,723
)
Repurchase of 526 shares for taxes withheld on vested restricted stock
   
(5
)
   
     
     
(5
)
Net change in unrealized gain on debt securities available for sale, net of tax
   
     
     
(2,678
)
   
(2,678
)
Stock compensation expense
   
164
     
     
     
164
 
Balance, March 31, 2021
 
$
218,687
   
$
22,156
   
$
1,536
   
$
242,379
 

See accompanying notes to consolidated financial statements.

-7-

MACATAWA BANK CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three month periods ended March 31, 2021 and 2020
(unaudited)
(Dollars in thousands)


   
Three Months
Ended
March 31,
2021
   
Three Months
Ended
March 31,
2020
 
Cash flows from operating activities
           
Net income
 
$
7,778
   
$
6,411
 
Adjustments to reconcile net income to net cash from operating activities:
               
Depreciation and amortization
   
498
     
721
 
Stock compensation expense
   
164
     
109
 
Provision for loan losses
   
     
700
 
Origination of loans for sale
   
(47,296
)
   
(29,356
)
Proceeds from sales of loans originated for sale
   
45,418
     
31,334
 
Net gains on mortgage loans
   
(2,015
)
   
(650
)
Write-down of other real estate
   
4
     
31
 
Net loss on sales of other real estate
   
14
     
 
Deferred income tax expense
   
(528
)
   
(271
)
Change in accrued interest receivable and other assets
   
505
     
(3,138
)
Earnings in bank-owned life insurance
   
(276
)
   
(242
)
Change in accrued expenses and other liabilities
   
421
     
4,276
 
Net cash from operating activities
   
4,687
     
9,925
 
Cash flows from investing activities
               
Loan originations and payments, net
   
46,424
     
(8,725
)
Purchases of securities available for sale
   
(23,106
)
   
(49,894
)
Purchases of securities held to maturity
   
(10,172
)
   
(5,876
)
Proceeds from:
               
Maturities and calls of securities
   
14,239
     
26,544
 
Principal paydowns on securities
   
9,197
     
3,949
 
Sales of other real estate
   
148
     
91
 
Proceeds from payout of bank-owned insurance claim
   
560
     
 
Additions to premises and equipment
   
(458
)
   
(624
)
Net cash from investing activities
   
36,832
     
(34,535
)
Cash flows from financing activities
               
Change in deposits
   
89,358
     
(47,914
)
Proceeds from other borrowed funds
   
     
10,000
 
Repurchase of shares for taxes withheld on vested restricted stock
   
(5
)
   
(11
)
Cash dividends paid
   
(2,723
)
   
(2,720
)
Net cash from financing activities
   
86,630
     
(40,645
)
Net change in cash and cash equivalents
   
128,149
     
(65,255
)
Cash and cash equivalents at beginning of period
   
783,736
     
272,450
 
Cash and cash equivalents at end of period
 
$
911,885
   
$
207,195
 

See accompanying notes to consolidated financial statements.

-8-

MACATAWA BANK CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
Three month periods ended March 31, 2021 and 2020
(unaudited)
(Dollars in thousands)


   
Three Months
Ended
March 31,
2021
   
Three Months
Ended
March 31,
2020
 
Supplemental cash flow information
           
Interest paid
 
$
786
   
$
2,234
 
Income taxes paid
   
     
 
Supplemental noncash disclosures:
               
Security settlement
   
     
(10,153
)

See accompanying notes to consolidated financial statements.

-9-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation: The accompanying consolidated financial statements include the accounts of Macatawa Bank Corporation ("the Company", "our", "we") and its wholly-owned subsidiary, Macatawa Bank ("the Bank"). All significant intercompany accounts and transactions have been eliminated in consolidation.

Macatawa Bank is a Michigan chartered bank with depository accounts insured by the Federal Deposit Insurance Corporation. The Bank operates 26 full service branch offices providing a full range of commercial and consumer banking and trust services in Kent County, Ottawa County, and northern Allegan County, Michigan.

The Company owns all of the common stock of Macatawa Statutory Trust II. This is a grantor trust that issued trust preferred securities Under generally accepted accounting principles, this trust is not consolidated into the financial statements of the Company.

Recent Events: In response to the COVID-19 pandemic, federal, state and local governments have taken and continue to take actions designed to mitigate the effect of the virus on public health and to address the economic impact from the virus.  The Federal Reserve reduced the overnight federal funds rate by 50 basis points on March 3, 2020 and by another 100 basis points on March 15, 2020 and announced the resumption of quantitative easing.  Congress passed a number of measures in late March 2020, designed to infuse cash into the economy to offset the negative impacts of business closings and restrictions.  Individual states, including Michigan, implemented restrictions including closure of schools, restrictions on public gatherings, restrictions on businesses, including closures and mandatory work at home orders, implementation of “social distancing” practices, and other measures.

The Company quickly responded to the changing environment by successfully executing its business continuity plan, including implementing work from home arrangements and limiting branch activities.  As of March 31, 2021, branches were fully open with additional health and safety requirements to comply with U.S. federal and state of Michigan health mandates, including, among other things, daily deep cleaning, nonsurgical face mask requirements and strict social distancing measures.

On March 22, 2020, the federal banking agencies issued an “Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus.”  This guidance encourages financial institutions to work prudently with borrowers that are or that may be unable to meet their contractual obligations because of the effects of COVID-19.  The guidance goes on to explain that in consultation with the FASB staff the federal banking agencies concluded that short-term modifications (e.g. six months) made on a good faith basis to borrowers who were current as of the implementation date of a modification are not Troubled Debt Restructurings (“TDRs”).  The Coronavirus Aid, Relief and Economic Security (“CARES”) Act was passed by Congress on March 27, 2020.  Section 4013 of the CARES Act also addressed COVID-19 related modifications and specified that COVID-19 related modifications on loans that were not more than 30 days past due as of December 31, 2019 are not TDRs.  On December 27, 2020, President Trump signed another COVID-19 relief bill that extended this guidance until the earlier of January 1, 2022 or 60 days after the date on which the national emergency declared as a result of COVID-19 is terminated.  Through March 31, 2021, the Bank had applied this guidance and modified 726 individual loans with aggregate principal balances totaling $337.2 million.  The majority of these modifications involved three-month extensions.  By March 31, 2021, most of these modifications had expired, other than those receiving a third short-term modification as allowed under the guidance.  At March 31, 2021, there were 5 such loans under COVID-19 modification, totaling $21.9 million.  This is down from a quarter end peak of $297.3 million at June 30, 2020.

The CARES Act, as amended, included an allocation of $659 billion for loans to be issued by financial institutions through the Small Business Administration (“SBA”) Paycheck Protection Program (“PPP”).  PPP loans are forgivable, in whole or in part, if the proceeds are used for payroll and other permitted purposes in accordance with the requirements of the PPP.  These loans carry a fixed rate of 1.00% and a term of two years (loans made before June 5, 2020) or five years (loans made on or after June 5, 2020), if not forgiven, in whole or in part.  Payments are deferred until either the date on which the SBA remits the amount of forgiveness proceeds to the lender or the date that is 10 months after the last day of the covered period if the borrower does not apply for forgiveness within that 10 month period. Through December 31, 2020, the Bank had originated 1,738 PPP loans totaling $346.7 million in principal, with an average loan size of $200,000.  Fees totaling $10.0 million were generated from the SBA for these loans in the year ended December 31, 2020.  These fees are deferred and amortized into interest income over the contractual period of 24 months or 60 months, as applicable.  Upon SBA forgiveness, unamortized fees are then recognized into interest income.  Participation in the PPP had a significant impact on the Bank’s asset mix and net interest income in 2020 and will continue to impact both asset mix and net interest income until these loans are forgiven or paid off.  The initial PPP expired on August 8, 2020.  Through December 31, 2020, 765 PPP loans totaling $113.5 million had been forgiven by the SBA and a total of $5.4 million in PPP fees had been recognized by the Bank.

On December 27, 2020, President Trump signed another COVID-19 relief bill that extended and modified several provisions of the PPP.  This included an additional allocation of $284 billion.  The SBA reactivated the PPP on January 11, 2021.  The Bank is originating additional PPP loans through the PPP, which will currently extend through May 31, 2021.  In the three months ended March 31, 2021, the Bank had generated and received SBA approval on 747 PPP loans totaling $96.9 million and received $4.4 million in related deferred PPP fees under the 2021 PPP authorization.  In the three months ended March 31, 2021, 523 PPP loans totaling $71.7 million had been forgiven by the SBA and a total of $2.0 million in PPP fees had been recognized by the Bank including fees recognized upon forgiveness and continuing amortization of fees from the 2020 and 2021 PPP originations.

-10-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

While the Company continues to evaluate the disruption caused by the pandemic and impact of the CARES Act, these events may have a material adverse impact on the Company’s results of future operations, financial position, capital, and liquidity in fiscal year 2021 and beyond.

Basis of Presentation: The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring accruals) believed necessary for a fair presentation have been included.

Operating results for the three month period ended March 31, 2021 are not necessarily indicative of the results that may be expected for the year ending December 31, 2021. For further information, refer to the consolidated financial statements and related notes included in the Company's Annual Report on Form 10-K for the year ended December 31, 2020.

Use of Estimates:  To prepare financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions based on available information.  These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and future results could differ.  The allowance for loan losses, valuation of deferred tax assets, loss contingencies, fair value of other real estate owned and fair values of financial instruments are particularly subject to change.

Bank-Owned Life Insurance (BOLI):  The Bank has purchased life insurance policies on certain officers.  BOLI is recorded at its currently realizable cash surrender value.  Changes in cash surrender value are recorded in other income.  In early April 2021, the Bank purchased an additional $10.0 million in BOLI policies.

Allowance for Loan Losses: The allowance for loan losses (allowance) is a valuation allowance for probable incurred credit losses inherent in our loan portfolio, increased by the provision for loan losses and recoveries, and decreased by charge-offs of loans. Management believes the allowance for loan losses balance to be adequate based on known and inherent risks in the portfolio, past loan loss experience, information about specific borrower situations and estimated collateral values, economic conditions and other relevant factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged-off. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Management continues its collection efforts on previously charged-off balances and applies recoveries as additions to the allowance for loan losses.

The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired. The general component covers non-classified loans and is based on historical loss experience adjusted for current qualitative factors. The Company maintains a loss migration analysis that tracks loan losses and recoveries based on loan class and the loan risk grade assignment for commercial loans. At March 31, 2021, an 18 month annualized historical loss experience was used for commercial loans and a 12 month historical loss experience period was applied to residential mortgage loans and consumer loans. These historical loss percentages are adjusted (both upwards and downwards) for certain qualitative factors, including economic trends, credit quality trends, valuation trends, concentration risk, quality of loan review, changes in personnel, external factors and other considerations.  PPP loans receive $0 allocation as they are fully guaranteed by the SBA and are subject to be forgiven under the SBA forgiveness criteria.

A loan is impaired when, based on current information and events, it is believed to be probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Loans for which the terms have been modified and a concession has been made, and for which the borrower is experiencing financial difficulties, are considered troubled debt restructurings and classified as impaired.

Commercial and commercial real estate loans with relationship balances exceeding $500,000 and an internal risk grading of 6 or worse are evaluated for impairment. If a loan is impaired, a portion of the allowance is allocated and the loan is reported at the present value of estimated future cash flows using the loan’s existing interest rate or at the fair value of collateral, less estimated costs to sell, if repayment is expected solely from the collateral. Large groups of smaller balance homogeneous loans, such as consumer and residential real estate loans, are collectively evaluated for impairment and they are not separately identified for impairment disclosures.

Troubled debt restructurings are also considered impaired with impairment generally measured at the present value of estimated future cash flows using the loan’s effective rate at inception or using the fair value of collateral, less estimated costs to sell, if repayment is expected solely from the collateral.

-11-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Foreclosed Assets: Assets acquired through or instead of loan foreclosure, primarily other real estate owned, are initially recorded at estimated fair value less estimated costs to sell when acquired, establishing a new cost basis. If fair value declines, a valuation allowance is recorded through expense. Costs after acquisition are expensed unless they add value to the property.

Income Taxes: Income tax expense is the sum of the current year income tax due or refundable and the change in deferred tax assets and liabilities. Deferred tax assets and liabilities are the expected future tax consequences of temporary differences between the carrying amounts and tax bases of assets and liabilities, computed using enacted tax rates. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized.

The Company recognizes a tax position as a benefit only if it is "more likely than not" that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax positions not meeting the "more likely than not" test, no tax benefit is recorded. The Company recognizes interest and penalties related to income tax matters in income tax expense.

Revenue Recognition:  The Company recognizes revenues as they are earned based on contractual terms, as transactions occur, or as services are provided and collectability is reasonably assured.  The Company’s primary source of revenue is interest income from the Bank’s loans and investment securities.  The Company also earns noninterest revenue from various banking services offered by the Bank.

Interest Income: The Company’s largest source of revenue is interest income which is primarily recognized on an accrual basis based on contractual terms written into loans and investment contracts.

Noninterest Revenue:  The Company derives the majority of its noninterest revenue from: (1) service charges for deposit related services, (2) gains related to mortgage loan sales, (3) trust fees and (4) debit and credit card interchange income.  Most of these services are transaction based and revenue is recognized as the related service is provided.

Derivatives:  Certain of the Bank’s commercial loan customers have entered into interest rate swap agreements directly with the Bank.  At the same time the Bank enters into a swap agreement with its customer, the Bank enters into a corresponding interest rate swap agreement with a correspondent bank at terms mirroring the Bank’s interest rate swap with its commercial loan customer.   This is known as a back-to-back swap agreement.  Under this arrangement the Bank has two freestanding interest rate swaps, each of which are carried at fair value.  As the terms mirror each other, there is no income statement impact to the Bank.  At March 31, 2021 and December 31, 2020, the total notional amount of such agreements was $147.5 million and $156.4 million, respectively, and resulted in a derivative asset with a fair value of $3.8 million and $4.2 million, respectively, which were included in other assets and a derivative liability of $3.8 million and $4.2 million, respectively, which were included in other liabilities.

Mortgage Banking Derivatives :  Commitments to fund mortgage loans (interest rate locks) to be sold into the secondary market and forward commitments for the future delivery of these mortgage loans are accounted for as derivatives not qualifying for hedge accounting.  Fair values of these mortgage derivatives are estimated based on changes in mortgage interest rates from the date the interest rate on the loan is locked.  The Bank enters into commitments to sell mortgage backed securities, which it later buys back in order to hedge its exposure to interest rate risk in its mortgage pipeline.  At times, the Bank also enters into forward commitments for the future delivery of mortgage loans when loans are closed but not yet sold, in order to hedge the change in interest rates resulting from its commitments to sell the loans.

Changes in the fair values of these interest rate lock and mortgage backed security and forward commitment derivatives are included in net gains on mortgage loans.  The net fair value of mortgage banking derivatives was approximately $285,000 and $(130,000) at March 31, 2021 and December 31, 2020, respectively.

-12-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Newly Issued Not Yet Effective Standards:  FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.  This ASU provides financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date by replacing the incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates.  The new guidance eliminates the probable initial recognition threshold and, instead, reflects an entity’s current estimate of all expected credit losses. The new guidance broadens the information that an entity must consider in developing its expected credit loss estimate for assets measured either collectively or individually to include forecasted information, as well as past events and current conditions. There is no specified method for measuring expected credit losses, and an entity is allowed to apply methods that reasonably reflect its expectations of the credit loss estimate. Although an entity may still use its current systems and methods for recording the allowance for credit losses, under the new rules, the inputs used to record the allowance for credit losses generally will need to change to appropriately reflect an estimate of all expected credit losses and the use of reasonable and supportable forecasts. Additionally, credit losses on available-for-sale debt securities will now have to be presented as an allowance rather than as a write-down.

ASU No. 2019-10 Financial Instruments – Credit Losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842) – Effective Dates updated the effective date of this ASU for smaller reporting companies, such as the Company, to fiscal years beginning after December 15, 2022.  The Company selected a software vendor for applying this new ASU for Current Expected Credit Losses (“CECL”), began implementation of the software in the second quarter of 2018, completed integration during the third quarter of 2018 and ran parallel computations with both systems using the current GAAP incurred loss model in the fourth quarter of 2018.  The Company went live with this software beginning in January 2019 for its monthly incurred loss computations and began modeling the new current expected credit loss model assumptions to the allowance for loan losses computation.  During 2019 and 2020, the Company modeled the various methods prescribed in the ASU against the Company’s identified loan segments.  The Company anticipates continuing to run parallel computations and fine tune assumptions as it continues to evaluate the impact of adoption of the new standard.  The COVID-19 pandemic that broke out in the United States in the first quarter of 2020 and continued into 2021 may have a significant impact on allowance computations under the incurred loss model which could be amplified under the new standard.

NOTE 2 – SECURITIES

The amortized cost and estimated fair value of securities at period-end were as follows (dollars in thousands):

   
Amortized
Cost
   
Gross
Unrealized
Gains
   
Gross
Unrealized
Losses
   
Fair
Value
 
March 31, 2021
                       
Available for Sale
                       
U.S. Treasury and federal agency securities
 
$
62,993
   
$
196
   
$
(1,337
)
 
$
61,852
 
U.S. Agency MBS and CMOs
   
63,386
     
977
     
(600
)
   
63,763
 
Tax-exempt state and municipal bonds
   
41,915
     
1,581
     
(1
)
   
43,495
 
Taxable state and municipal bonds
   
59,108
     
1,357
     
(385
)
   
60,080
 
Corporate bonds and other debt securities
   
4,326
     
156
     
     
4,482
 
   
$
231,728
   
$
4,267
   
$
(2,323
)
 
$
233,672
 
Held to Maturity
                               
Tax-exempt state and municipal bonds
 
$
89,170
   
$
3,089
   
$
(120
)
 
$
92,139
 

   
Amortized
Cost
   
Gross
Unrealized
Gains
   
Gross
Unrealized
Losses
   
Fair
Value
 
December 31, 2020
                       
Available for Sale
                       
U.S. Treasury and federal agency securities
 
$
63,993
   
$
287
   
$
(170
)
 
$
64,110
 
U.S. Agency MBS and CMOs
   
63,652
     
1,376
     
(45
)
   
64,983
 
Tax-exempt state and municipal bonds
   
43,739
     
1,903
     
     
45,642
 
Taxable state and municipal bonds
   
55,383
     
1,801
     
(7
)
   
57,177
 
Corporate bonds and other debt securities
   
4,731
     
189
     
     
4,920
 
   
$
231,498
   
$
5,556
   
$
(222
)
 
$
236,832
 
Held to Maturity
                               
Tax-exempt state and municipal bonds
 
$
79,468
   
$
3,778
   
$
   
$
83,246
 

-13-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 2 – SECURITIES (Continued)

There were no sales of securities in the three month periods ended March 31, 2021 and 2020.

Contractual maturities of debt securities at March 31, 2021 were as follows (dollars in thousands):

   
Held–to-Maturity Securities
   
Available-for-Sale Securities
 
   
Amortized
Cost
   
Fair
Value
   
Amortized
Cost
   
Fair
Value
 
Due in one year or less
 
$
24,515
   
$
24,632
   
$
25,807
   
$
25,992
 
Due from one to five years
   
31,050
     
32,008
     
60,710
     
62,555
 
Due from five to ten years
   
16,025
     
17,155
     
84,052
     
83,682
 
Due after ten years
   
17,580
     
18,344
     
61,159
     
61,443
 
   
$
89,170
   
$
92,139
   
$
231,728
   
$
233,672
 

Securities with unrealized losses at March 31, 2021 and December 31, 2020, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, were as follows (dollars in thousands):

   
Less than 12 Months
   
12 Months or More
   
Total
 
March 31, 2021
 
Fair
Value
   
Unrealized
Loss
   
Fair
Value
   
Unrealized
Loss
   
Fair
Value
   
Unrealized
Loss
 
Available for Sale
                                   
U.S. Treasury and federal agency securities
 
$
41,062
   
$
(1,337
)
 
$
   
$
   
$
41,062
   
$
(1,337
)
U.S. Agency MBS and CMOs
   
29,553
     
(600
)
   
     
     
29,553
     
(600
)
Tax-exempt state and municipal bonds
   
450
     
(1
)
   
     
     
450
     
(1
)
Taxable state and municipal bonds
   
16,583
     
(385
)
   
     
     
16,583
     
(385
)
Corporate bonds and other debt securities
   
     
     
     
     
     
 
Total
 
$
87,648
   
$
(2,323
)
 
$
   
$
   
$
87,648
   
$
(2,323
)
                                                 
Held to Maturity
                                               
Tax-exempt state and municipal bonds
 
$
15,588
   
$
(120
)
 
$
   
$
   
$
15,588
   
$
(120
)

   
Less than 12 Months
   
12 Months or More
   
Total
 
December 31, 2020
 
Fair
Value
   
Unrealized
Loss
   
Fair
Value
   
Unrealized
Loss
   
Fair
Value
   
Unrealized
Loss
 
Available for Sale
                                   
U.S. Treasury and federal agency securities
 
$
22,830
   
$
(170
)
 
$
   
$
   
$
22,830
   
$
(170
)
U.S. Agency MBS and CMOs
   
9,299
     
(45
)
   
     
     
9,299
     
(45
)
Tax-exempt state and municipal bonds
   
     
     
     
     
     
 
Taxable state and municipal bonds
   
2,336
     
(7
)
   
     
     
2,336
     
(7
)
Corporate bonds and other debt securities
   
     
     
     
     
     
 
Total
 
$
34,465
   
$
(222
)
 
$
   
$
   
$
34,465
   
$
(222
)
                                                 
Held to Maturity
                                               
Tax-exempt state and municipal bonds
 
$
   
$
   
$
   
$
   
$
   
$
 

Other-Than-Temporary-Impairment
Management evaluates securities for other-than-temporary impairment ("OTTI") at least on a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. At March 31, 2021, 70 securities available for sale with fair values totaling $87.7 million had unrealized losses totaling approximately $2.3 million.  At March 31, 2021, seven securities held to maturity with fair value totaling $15.6 million had unrealized losses totaling approximately $120,000.  Management has the intent and ability to hold the securities classified as held to maturity until they mature, at which time the Company will receive full value for the securities.  In addition, management believes it is more likely than not that the Company will not be required to sell any of its investment securities before a recovery of cost.  Management determined that the unrealized losses for the three month periods ended March 31, 2021 and 2020 were attributable to changes in interest rates and not due to credit quality.  As such, no OTTI charges were necessary during each period.

Securities with a carrying value of approximately $5.1 million and $6.1 million were pledged as security for public deposits, letters of credit and for other purposes required or permitted by law at March 31, 2021 and December 31, 2020, respectively.

-14-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 3 – LOANS

Portfolio loans were as follows (dollars in thousands):

   
March 31,
2021
   
December 31,
2020
 
Commercial and industrial
           
Commercial and industrial, excluding PPP
 
$
392,208
   
$
436,331
 
PPP
   
253,811
     
229,079
 
Total commercial and industrial
   
646,019
     
665,410
 
                 
Commercial real estate:
               
Residential developed
   
8,651
     
8,549
 
Vacant and unimproved
   
41,375
     
47,122
 
Commercial development
   
841
     
857
 
Residential improved
   
112,618
     
114,392
 
Commercial improved
   
264,122
     
266,006
 
Manufacturing and industrial
   
112,995
     
115,247
 
Total commercial real estate
   
540,602
     
552,173
 
Consumer
               
Residential mortgage
   
139,727
     
149,556
 
Unsecured
   
134
     
161
 
Home equity
   
52,709
     
57,975
 
Other secured
   
3,760
     
4,056
 
Total consumer
   
196,330
     
211,748
 
Total loans
   
1,382,951
     
1,429,331
 
Allowance for loan losses
   
(17,452
)
   
(17,408
)
   
$
1,365,499
   
$
1,411,923
 

-15-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 3 – LOANS (Continued)

Activity in the allowance for loan losses by portfolio segment was as follows (dollars in thousands):

Three months ended March 31, 2021
 
Commercial
and
Industrial
   
Commercial
Real Estate
   
Consumer
   
Unallocated
   
Total
 
Beginning balance
 
$
6,632
   
$
7,999
   
$
2,758
   
$
19
   
$
17,408
 
Charge-offs
   
     
     
(50
)
   
     
(50
)
Recoveries
   
20
     
39
     
35
     
     
94
 
Provision for loan losses
   
(851
)
   
860
     
(25
)
   
16
     
 
Ending Balance
 
$
5,801
   
$
8,898
   
$
2,718
   
$
35
   
$
17,452
 

Three months ended March 31, 2020
 
Commercial
and
Industrial
   
Commercial
Real Estate
   
Consumer
   
Unallocated
   
Total
 
Beginning balance
 
$
7,658
   
$
6,521
   
$
3,009
   
$
12
   
$
17,200
 
Charge-offs
   
     
     
(39
)
   
     
(39
)
Recoveries
   
19
     
974
     
35
     
     
1,028
 
Provision for loan losses
   
1,130
     
(582
)
   
125
     
27
     
700
 
Ending Balance
 
$
8,807
   
$
6,913
   
$
3,130
   
$
39
   
$
18,889
 

The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method (dollars in thousands):

March 31, 2021
 
Commercial
and
Industrial
   
Commercial
Real Estate
   
Consumer
   
Unallocated
   
Total
 
Allowance for loan losses:
                             
Ending allowance attributable to loans:
                             
Individually reviewed for impairment
 
$
511
   
$
181
   
$
295
   
$
   
$
987
 
Collectively evaluated for impairment
   
5,290
     
8,717
     
2,423
     
35
     
16,465
 
Total ending allowance balance
 
$
5,801
   
$
8,898
   
$
2,718
   
$
35
   
$
17,452
 
Loans:
                                       
Individually reviewed for impairment
 
$
4,987
   
$
2,481
   
$
3,817
   
$
   
$
11,285
 
Collectively evaluated for impairment
   
641,032
     
538,121
     
192,513
     
     
1,371,666
 
Total ending loans balance
 
$
646,019
   
$
540,602
   
$
196,330
   
$
   
$
1,382,951
 

December 31, 2020
 
Commercial
and
Industrial
   
Commercial
Real Estate
   
Consumer
   
Unallocated
   
Total
 
Allowance for loan losses:
                             
Ending allowance attributable to loans:
                             
Individually reviewed for impairment
 
$
587
   
$
313
   
$
310
   
$
   
$
1,210
 
Collectively evaluated for impairment
   
6,045
     
7,686
     
2,448
     
19
     
16,198
 
Total ending allowance balance
 
$
6,632
   
$
7,999
   
$
2,758
   
$
19
   
$
17,408
 
Loans:
                                       
Individually reviewed for impairment
 
$
3,957
   
$
2,613
   
$
4,049
   
$
   
$
10,619
 
Collectively evaluated for impairment
   
661,453
     
549,560
     
207,699
     
     
1,418,712
 
Total ending loans balance
 
$
665,410
   
$
552,173
   
$
211,748
   
$
   
$
1,429,331
 

-16-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 3 – LOANS (Continued)

The following table presents loans individually evaluated for impairment by class of loans as of March 31, 2021 (dollars in thousands):

March 31, 2021
 
Unpaid
Principal
Balance
   
Recorded
Investment
   
Allowance
Allocated
 
With no related allowance recorded:
                 
Commercial and industrial
 
$
143
   
$
143
   
$
 
Commercial real estate:
                       
Residential improved
   
87
     
87
     
 
Commercial improved
   
1,035
     
1,035
     
 
     
1,122
     
1,122
     
 
Consumer
   
     
     
 
Total with no related allowance recorded
 
$
1,265
   
$
1,265
   
$
 
                         
With an allowance recorded:
                       
Commercial and industrial
 
$
4,844
   
$
4,844
   
$
511
 
Commercial real estate:
                       
Commercial improved
   
1,161
     
1,161
     
173
 
Manufacturing and industrial
   
198
     
198
     
8
 
     
1,359
     
1,359
     
181
 
Consumer:
                       
Residential mortgage
   
3,292
     
3,292
     
254
 
Unsecured
   
104
     
104
     
8
 
Home equity
   
400
     
400
     
31
 
Other secured
   
21
     
21
     
2
 
     
3,817
     
3,817
     
295
 
Total with an allowance recorded
 
$
10,020
   
$
10,020
   
$
987
 
Total
 
$
11,285
   
$
11,285
   
$
987
 

-17-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 3 – LOANS (Continued)

The following table presents loans individually evaluated for impairment by class of loans as of December 31, 2020 (dollars in thousands):

December 31, 2020
 
Unpaid
Principal
Balance
   
Recorded
Investment
   
Allowance
Allocated
 
With no related allowance recorded:
                 
Commercial and industrial
 
$
156
   
$
156
   
$
 
Commercial real estate:
                       
Residential improved
   
107
     
107
     
 
Commercial improved
   
714
     
714
     
 
     
821
     
821
     
 
Consumer
   
     
     
 
Total with no related allowance recorded
 
$
977
   
$
977
   
$
 
                         
With an allowance recorded:
                       
Commercial and industrial
 
$
3,801
   
$
3,801
   
$
587
 
Commercial real estate:
                       
Residential developed
   
67
     
67
     
3
 
Commercial improved
   
1,524
     
1,524
     
301
 
Manufacturing and industrial
   
201
     
201
     
9
 
     
1,792
     
1,792
     
313
 
Consumer:
                       
Residential mortgage
   
3,484
     
3,484
     
266
 
Unsecured
   
123
     
123
     
10
 
Home equity
   
419
     
419
     
32
 
Other secured
   
23
     
23
     
2
 
     
4,049
     
4,049
     
310
 
Total with an allowance recorded
 
$
9,642
   
$
9,642
   
$
1,210
 
Total
 
$
10,619
   
$
10,619
   
$
1,210
 

-18-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 3 – LOANS (Continued)

The following table presents information regarding average balances of impaired loans and interest recognized on impaired loans for the three month periods ended March 31, 2021 and 2020 (dollars in thousands):

   
Three
Months
Ended
March 31,
2021
   
Three
Months
Ended
March 31,
2020
 
Average of impaired loans during the period:
           
Commercial and industrial
 
$
4,586
   
$
6,615
 
Commercial real estate:
               
Residential developed
   
45
     
74
 
Residential improved
   
87
     
267
 
Commercial improved
   
2,208
     
5,822
 
Manufacturing and industrial
   
199
     
356
 
Consumer
   
3,941
     
4,914
 
Interest income recognized during impairment:
               
Commercial and industrial
   
134
     
273
 
Commercial real estate
   
31
     
99
 
Consumer
   
38
     
57
 
Cash-basis interest income recognized
               
Commercial and industrial
   
125
     
275
 
Commercial real estate
   
31
     
128
 
Consumer
   
36
     
60
 

Nonaccrual loans include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans.  The following tables present the recorded investment in nonaccrual and loans past due over 90 days still on accrual by class of loans as of March 31, 2021 and 2020:

-19-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 3 – LOANS (Continued)

March 31, 2021
 
Nonaccrual
   
Over 90
days
Accruing
 
Commercial and industrial
 
$
   
$
 
Commercial real estate:
               
Residential improved
   
87
     
 
Commercial improved
   
345
     
 
     
432
     
 
Consumer:
               
Residential mortgage
   
93
     
 
     
93
     
 
Total
 
$
525
   
$
 

December 31, 2020
 
Nonaccrual
   
Over 90 days
Accruing
 
Commercial and industrial
 
$
   
$
 
Commercial real estate:
               
Residential improved
   
87
     
 
Commercial improved
   
351
     
 
     
438
     
 
Consumer:
               
Residential mortgage
   
95
     
 
     
95
     
 
Total
 
$
533
   
$
 

The following table presents the aging of the recorded investment in past due loans as of March 31, 2021 and December 31, 2020 by class of loans (dollars in thousands):

March 31, 2021
 
30-90
Days
   
Greater Than
90 Days
   
Total
Past Due
   
Loans Not
Past Due
   
Total
 
Commercial and industrial
 
$
39
     
   
$
39
   
$
645,980
   
$
646,019
 
Commercial real estate:
                                       
Residential developed
   
     
     
     
8,651
     
8,651
 
Vacant and unimproved
   
     
     
     
41,375
     
41,375
 
Commercial development
   
     
     
     
841
     
841
 
Residential improved
   
     
87
     
87
     
112,531
     
112,618
 
Commercial improved
   
     
     
     
264,122
     
264,122
 
Manufacturing and industrial
   
     
     
     
112,995
     
112,995
 
     
     
87
     
87
     
540,515
     
540,602
 
Consumer:
                                       
Residential mortgage
   
     
91
     
91
     
139,636
     
139,727
 
Unsecured
   
     
     
     
134
     
134
 
Home equity
   
     
     
     
52,709
     
52,709
 
Other secured
   
     
     
     
3,760
     
3,760
 
     
     
91
     
91
     
196,239
     
196,330
 
Total
 
$
39
   
$
178
   
$
217
   
$
1,382,734
   
$
1,382,951
 

-20-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 3 – LOANS (Continued)

December 31, 2020
 
30-90
Days
   
Greater Than
90 Days
   
Total
Past Due
   
Loans Not
Past Due
   
Total
 
Commercial and industrial
 
$
45
   
$
   
$
45
   
$
665,365
   
$
665,410
 
Commercial real estate:
                                       
Residential developed
   
     
     
     
8,549
     
8,549
 
Vacant and unimproved
   
     
     
     
47,122
     
47,122
 
Commercial development
   
     
     
     
857
     
857
 
Residential improved
   
     
87
     
87
     
114,305
     
114,392
 
Commercial improved
   
353
     
     
353
     
265,653
     
266,006
 
Manufacturing and industrial
   
     
     
     
115,247
     
115,247
 
     
353
     
87
     
440
     
551,733
     
552,173
 
Consumer:
                                       
Residential mortgage
   
     
94
     
94
     
149,462
     
149,556
 
Unsecured
   
     
     
     
161
     
161
 
Home equity
   
     
     
     
57,975
     
57,975
 
Other secured
   
2
     
     
2
     
4,054
     
4,056
 
     
2
     
94
     
96
     
211,652
     
211,748
 
Total
 
$
400
   
$
181
   
$
581
   
$
1,428,750
   
$
1,429,331
 

The Company had allocated $987,000 and $1.2 million of specific reserves to customers whose loan terms have been modified in troubled debt restructurings (“TDRs”) as of March 31, 2021 and December 31, 2020, respectively.  These loans may have involved the restructuring of terms to allow customers to mitigate the risk of foreclosure by meeting a lower loan payment requirement based upon their current cash flow.  These may also include loans that renewed at existing contractual rates, but below market rates for comparable credit.  The Company has been active at utilizing these programs and working with its customers to reduce the risk of foreclosure.  For commercial loans, these modifications typically include an interest only period and, in some cases, a lowering of the interest rate on the loan.  In some cases, the modification will include separating the note into two notes with the first note structured to be supported by current cash flows and collateral, and the second note made for the remaining unsecured debt.  The second note is charged off immediately and collected only after the first note is paid in full.  This modification type is commonly referred to as an A-B note structure.  For consumer mortgage loans, the restructuring typically includes a lowering of the interest rate to provide payment and cash flow relief.  For each restructuring, a comprehensive credit underwriting analysis of the borrower’s financial condition and prospects of repayment under the revised terms is performed to assess whether the structure can be successful and that cash flows will be sufficient to support the restructured debt.  An analysis is also performed to determine whether the restructured loan should be on accrual status.  Generally, if the loan is on accrual at the time of restructure, it will remain on accrual after the restructuring.  In some cases, a nonaccrual loan may be placed on accrual at restructuring if the loan’s actual payment history demonstrates it would have cash flowed under the restructured terms.  After six consecutive payments under the restructured terms, a nonaccrual restructured loan is reviewed for possible upgrade to accruing status.

In situations where there is a subsequent modification or renewal and the loan is brought to market terms, including a contractual interest rate not less than a market interest rate for new debt with similar credit risk characteristics, the TDR and impaired loan designations may be removed.  In addition, the TDR designation may also be removed from loans modified under an A-B note structure.  If the remaining “A” note is at a market rate at the time of restructuring (taking into account the borrower’s credit risk and prevailing market conditions), the loan can be removed from TDR designation in a subsequent calendar year after six months of performance in accordance with the new terms.  The market rate relative to the borrower’s credit risk is determined through analysis of market pricing information gathered from peers and use of a loan pricing model.  The general objective of the model is to achieve a consistent return on equity from one credit to the next, taking into consideration differences in credit risk.  In the model, credits with higher risk receive a higher potential loss allocation, and therefore require a higher interest rate to achieve the target return on equity.

As with other impaired loans, an allowance for loan loss is estimated for each TDR based on the most likely source of repayment for each loan.  For impaired commercial real estate loans that are collateral dependent, the allowance is computed based on the fair value of the underlying collateral, less estimated costs to sell.  For impaired commercial loans where repayment is expected from cash flows from business operations, the allowance is computed based on a discounted cash flow computation.  Certain groups of TDRs, such as residential mortgages, have common characteristics and for them the allowance is computed based on a discounted cash flow computation on the change in weighted rate for the pool.  The allowance allocations for commercial TDRs where we have reduced the contractual interest rate are computed by measuring cash flows using the new payment terms discounted at the original contractual rate.

-21-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 3 – LOANS (Continued)

The following table presents information regarding troubled debt restructurings as of March 31, 2021 and December 31, 2020 (dollars in thousands):

   
March 31, 2021
   
December 31, 2020
 
   
Number of
Loans
   
Outstanding
Recorded
Balance
   
Number of
Loans
   
Outstanding
Recorded
Balance
 
Commercial and industrial
   
6
   
$
4,987
     
7
   
$
3,957
 
Commercial real estate
   
7
     
1,320
     
9
     
1,439
 
Consumer
   
57
     
3,817
     
60
     
4,049
 
     
70
   
$
10,124
     
76
   
$
9,445
 

The following table presents information related to accruing troubled debt restructurings as of March 31, 2021 and December 31, 2020.  The table presents the amount of accruing troubled debt restructurings that were on nonaccrual status prior to the restructuring, accruing at the time of restructuring and those that were upgraded to accruing status after receiving six consecutive monthly payments in accordance with the restructured terms as of each period reported (dollars in thousands):

   
March 31,
2021
   
December 31,
2020
 
Accruing TDR - nonaccrual at restructuring
 
$
   
$
 
Accruing TDR - accruing at restructuring
   
5,176
     
5,479
 
Accruing TDR - upgraded to accruing after six consecutive payments
   
4,516
     
3,529
 
   
$
9,692
   
$
9,008
 

There were no troubled debt restructurings executed during the three month period ended March 31, 2021 and one consumer loan troubled debt restructuring totaling $3,000 executed during the three month period ended March 31, 2020, with no writedown taken upon restructuring.

According to the accounting standards, not all loan modifications are TDRs.  TDRs are modifications or renewals where the Company has granted a concession to a borrower in financial distress.  The Company reviews all modifications and renewals for determination of TDR status.  In some situations a borrower may be experiencing financial distress, but the Company does not provide a concession.  These modifications are not considered TDRs.  In other cases, the Company might provide a concession, such as a reduction in interest rate, but the borrower is not experiencing financial distress.  This could be the case if the Company is matching a competitor’s interest rate.  These modifications would also not be considered TDRs.  Finally, any renewals at existing terms for borrowers not experiencing financial distress would not be considered TDRs.  As with other loans not considered TDR or impaired, allowance allocations are based on the historical based allocation for the applicable loan grade and loan class.

Payment defaults on TDRs have been minimal and during the three month periods ended March 31, 2021 and 2020, the balance of loans that became delinquent by more than 90 days past due or that were transferred to nonaccrual within 12 months of restructuring were not material.

In late March 2020, the federal banking regulators issued guidance that modifications made to a borrower affected by the COVID-19 pandemic and governmental shutdown orders do not need to be identified as a TDR if the loan was current at the time a modification plan was implemented.  Section 4013 of the CARES Act also addressed COVID-19 related modifications and specified that such modifications made on loans that were current as of December 31, 2019 are not TDRs.  On December 27, 2020, President Trump signed another COVID-19 relief bill that extends this guidance until the earlier of January 1, 2022 or 60 days after the national emergency termination date.  Through March 31, 2021, the Bank had applied this guidance and had made 726 such modifications with principal balances totaling $337.2 million.  The Bank continues to follow the guidance issued by the banking regulators in making any TDR determinations.  At March 31, 2021, there were 5 such loans still in their modification period, totaling $21.9 million.  Of the 5 remaining loans, 3 were modified during the three months ended March 31, 2021.

-22-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 3 – LOANS (Continued)

Credit Quality Indicators:   The Company categorizes loans into risk categories based on relevant information about the ability of the borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information and current economic trends, among other factors.  The Company analyzes commercial loans individually and classifies these relationships by credit risk grading.  The Company uses an eight point grading system, with grades 5 through 8 being considered classified, or watch, credits.  All commercial loans are assigned a grade at origination, at each renewal or any amendment.  When a credit is first downgraded to a watch credit (either through renewal, amendment, loan officer identification or the loan review process), an Administrative Loan Review (“ALR”) is generated by the credit department and the loan officer.  All watch credits have an ALR completed quarterly which analyzes the collateral position and cash flow of the borrower and its guarantors.  Management meets quarterly with loan officers to discuss each of these credits in detail and to help formulate solutions where progress has stalled.  When necessary, the loan officer proposes changes to the assigned loan grade as part of the ALR.  Additionally, Loan Review reviews all loan grades upon origination, renewal or amendment and again as loans are selected though the loan review process.  The credit will stay on the ALR until either its grade has improved to a 4 or the credit relationship is at a zero balance.  The Company uses the following definitions for the risk grades:

1. Excellent - Loans supported by extremely strong financial condition or secured by the Bank’s own deposits. Minimal risk to the Bank and the probability of serious rapid financial deterioration is extremely small.

2. Above Average - Loans supported by sound financial statements that indicate the ability to repay or borrowings secured (and margined properly) with marketable securities. Nominal risk to the Bank and probability of serious financial deterioration is highly unlikely. The overall quality of these credits is very high.

3. Good Quality - Loans supported by satisfactory asset quality and liquidity, good debt capacity coverage, and good management in all critical positions. Loans are secured by acceptable collateral with adequate margins. There is a slight risk of deterioration if adverse market conditions prevail.

4. Acceptable Risk - Loans carrying an acceptable risk to the Bank, which may be slightly below average quality. The borrower has limited financial strength with considerable leverage. There is some probability of deterioration if adverse market conditions prevail. These credits should be monitored closely by the Relationship Manager.

5. Marginally Acceptable - Loans are of marginal quality with above normal risk to the Bank. The borrower shows acceptable asset quality but very little liquidity with high leverage. There is inconsistent earning performance without the ability to sustain adverse market conditions. The primary source of repayment is questionable, but the secondary source of repayment still remains an option. Very close attention by the Relationship Manager and management is needed.

6. Substandard - Loans are inadequately protected by the net worth and paying capacity of the borrower or the collateral pledged. The primary and secondary sources of repayment are questionable. Heavy debt condition may be evident and volume and earnings deterioration may be underway. It is possible that the Bank will sustain some loss if the deficiencies are not immediately addressed and corrected.

7. Doubtful - Loans supported by weak or no financial statements, as well as the ability to repay the entire loan, are questionable. Loans in this category are normally characterized less than adequate collateral, insolvent, or extremely weak financial condition. A loan classified doubtful has all the weaknesses inherent in one classified substandard with the added characteristic that the weaknesses makes collection or liquidation in full highly questionable. The possibility of loss is extremely high, however, activity may be underway to minimize the loss or maximize the recovery.

8. Loss - Loans are considered uncollectible and of little or no value as a bank asset.

-23-

Index
 
MACATAWA BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 3 – LOANS (Continued)

As of March 31, 2021 and December 31, 2020, the risk grade category of commercial loans by class of loans were as follows (dollars in thousands):

March 31, 2021
   
1
     
2
     
3
     
4
     
5
     
6
     
7
     
8
   
Total
 
Commercial and industrial
 
$
268,809
   
$
15,062
   
$
92,769
   
$
261,340
   
$
2,929
   
$
5,110
   
$
   
$
   
$
646,019
 
                                                                         
Commercial real estate:
                                                                       
Residential developed
   
     
     
     
8,651
     
     
     
     
     
8,651
 
Vacant and unimproved
   
     
2,640
     
8,469
     
30,266
     
     
     
     
     
41,375
 
Commercial development
   
     
     
296
     
545
     
     
     
     
     
841
 
Residential improved
   
     
     
21,118
     
91,211
     
202
     
     
87
     
     
112,618
 
Commercial improved
   
     
6,158
     
53,139
     
200,785