PATHWARD FINANCIAL, INC. (CASH)

Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations.

This section should be read in conjunction with the following parts of this Form 10-K: Part I, Item 1 “Business,” Part II, Item 7A, “Quantitative and Qualitative Disclosures About Market Risk,” and Part II, Item 8 “Financial Statements and Supplementary Data.”

GENERAL

The Company, a registered BHC that has elected to be a financial holding company, is a Delaware corporation, the principal assets of which are all the issued and outstanding shares of the Bank, a chartered national bank, the accounts of which are insured up to applicable limits by the FDIC as administrator of the DIF. Unless the context otherwise requires, references herein to the Company include Pathward Financial and the Bank, and all direct or indirect subsidiaries of Pathward Financial on a consolidated basis.

EXECUTIVE SUMMARY

Company Highlights and Business Developments

•On August 28, 2024, Pathward announced the sale of its commercial insurance premium finance business. The sale was completed on October 31, 2024. See Note 20. Subsequent Events to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.

•On September 25, 2024, the Bank celebrated its 20th year serving the payments industry with the announcement it renamed its "Banking as a Service" business line to "Partner Solutions."

•On September 30, 2024, Pathward Financial and Pathward announced the Bank’s Partner Solutions line of business won the 2024 Finovate Award for Best Banking as a Service Provider. According to Finovate, its awards recognize the companies driving fintech innovation forward and the individuals bringing new ideas to life.

Financial Highlights for the 2024 Fiscal Fourth Quarter

•Total revenue for the fourth quarter was $167.9 million, an increase of $6.9 million, or 4%, compared to the same quarter in fiscal 2023, driven by an increase in net interest income, partially offset by a reduction in noninterest income.

•Net interest margin ("NIM") increased 47 basis points to 6.66% for the fourth quarter from 6.19% during the same period of last year, primarily driven by increased yields on earning assets and an improved earning asset mix from the continued optimization of the portfolio.

•Total gross loans and leases at September 30, 2024 decreased $290.9 million, to $4.08 billion compared to September 30, 2023. When excluding the insurance premium finance loans of $800.1 million at September 30, 2023, total gross loans and leases at September 30, 2024 increased $509.2 million, or 14%, when compared to September 30, 2023.

•During the 2024 fiscal fourth quarter, the Company repurchased 236,308 shares of common stock at an average share price of $63.44. As of September 30, 2024, there were 7,000,000 shares available for repurchase under the current common stock share repurchase program.

Subsequent Events

Management has evaluated and identified subsequent events that occurred after September 30, 2024. See Note 20. Subsequent Events for details on these events.

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FINANCIAL CONDITION

At September 30, 2024, the Company’s total assets increased slightly to $7.55 billion compared to $7.54 billion at September 30, 2023, primarily due to an increase of $611.1 million in loans held for sale and $8.1 million in accrued interest receivable, partially offset by decreases of $290.9 million in loans and leases, $217.2 million in cash and cash equivalents, $63.0 million in securities available for sale and $32.3 million in other assets.

Total cash and cash equivalents were $158.3 million at September 30, 2024, decreasing from $375.6 million at September 30, 2023. The Company maintains its cash investments primarily in interest-bearing overnight deposits with the FHLB of Des Moines and the FRB. At September 30, 2024, the Company did not have any federal funds sold.

The total investment portfolio decreased $66.5 million to $1.77 billion at September 30, 2024, compared to $1.84 billion at September 30, 2023. The Company’s portfolio of securities customarily consists primarily of MBS, which have expected lives much shorter than the stated final maturity, non-bank qualified obligations of states and political subdivisions, which mature in approximately 15 years or less, and other tax exempt municipal mortgage related pass through securities which have average lives much shorter than their stated final maturities. During the fiscal year ended September 30, 2024, the Company made $3.5 million purchases of investment securities.

Through the Bank, the Company owns stock in the FHLB due to the Bank’s membership and participation in this banking system as well as stock in the FRB. The FHLB requires a level of stock investment based on a pre-determined formula. The Company’s investment in these stocks was $36.0 million at September 30, 2024, an increase from $28.2 million at September 30, 2023, as purchases of FHLB membership stock were partially offset by redemptions during the fiscal year.

Loans held for sale at September 30, 2024 totaled $688.9 million, increasing from $77.8 million at September 30, 2023. This increase was primarily related to the commercial insurance premium finance portfolio moving to held for sale at September 30, 2024.

Total gross loans and leases totaled $4.08 billion at September 30, 2024, as compared to $4.37 billion at September 30, 2023. The decrease was primarily related to the commercial insurance premium finance portfolio moving to held for sale, partially offset by growth in commercial finance loans excluding commercial insurance premium finance loans and warehouse finance loans. When excluding commercial insurance premium finance loans, total gross loan and leases at September 30, 2024 increased $509.2 million, or 14%, when compared to September 30, 2023. See Note 3. Loans and Leases, Net to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.

Commercial finance loans, which comprised 81% of the Company's loan and lease portfolio, totaled $3.30 billion at September 30, 2024, reflecting a decrease of $427.6 million, or 11%, from September 30, 2023. The decrease was primarily driven by the aforementioned commercial insurance premium finance loans along with a decrease in lease financing. This decrease was partially offset by increases in term lending, asset-based lending, SBA/USDA, and other commercial finance portfolios. When excluding commercial insurance premium finance loans, commercial finance loans at September 30, 2024 increased $372.5 million, or 13%, compared to September 30, 2023.

Total end-of-period deposits decreased 11% to $5.88 billion at September 30, 2024, compared to $6.59 billion at September 30, 2023. The decrease in end-of-period deposits was primarily driven by decreases in noninterest-bearing deposits of $715.8 million, money market deposits of $10.6 million, and savings deposits of $10.3 million, partially offset by an increase in wholesale deposits of $20.1 million.

As of September 30, 2024, the Company had $433.3 million in deposits related to government stimulus programs. Of the total amount of government stimulus program deposits, $198.2 million are on activated cards while $235.1 million are on inactivated cards.

The Company's total borrowings increased $363.5 million to $410.4 million at September 30, 2024 from $46.9 million at September 30, 2023, primarily driven by an increase in short-term borrowings of $364.0 million. See Note 10. Short-term and Long-term Borrowings to the “Notes to Consolidated Financial Statements,” which are included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.

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At September 30, 2024, the Company’s stockholders’ equity totaled $839.6 million, an increase of $189.0 million, from $650.6 million at September 30, 2023. The increase was primarily attributable to a decrease in accumulated other comprehensive loss and increases in additional paid-in capital and retained earnings. The Company and Bank remained above the federal regulatory minimum capital requirements at September 30, 2024, and continued to be classified as well-capitalized, and in good standing with the regulatory agencies. See Note 14. Capital Requirements and Restrictions on Retained Earnings to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.

Noninterest-bearing Checking Deposits. The Company may hold negative balances associated with cardholder programs in the Partner Solutions business line that are included within noninterest-bearing deposits on the Company's Consolidated Statements of Financial Condition. Negative balances can relate to any of the following payments functions:

–Prefundings: The Company deploys funds to cards prior to receiving cash (typically 2-3 days) where the prefunding balance is netted at a pooled partner level utilizing ASC 210-20.

–Discount fundings: The Company funds cards in alignment to expected breakage values on the card. Consumers may spend more than is estimated. These discounts are netted at a pooled partner level using ASC 210-20. The majority of these discount fundings relate to a small number of partners and are analyzed on an ongoing basis.

–Demand Deposit Account ("DDA") overdrafts: Certain programs offered allow cardholders traditional DDA overdraft protection services whereby cardholders can spend a limited amount in excess of their available card balance. When overdrawn, these accounts are re-classed as loans on the balance sheet within the Consumer Finance category.

The Company meets the Right of Set off criteria in ASC 210-20, Balance Sheet - Offsetting, for all payments negative deposit balances with the exception of DDA overdrafts. The following table summarizes the Company's negative deposit balances within the Partner Solutions business line:

Off-Balance Sheet Custodial Deposits. The Bank utilizes a custodial deposit transference structure for certain prepaid and deposit programs whereby the Bank, acting as custodian of cardholder funds, places a portion of such cardholder funds that are not needed to support near term settlement at one or more third-party banks insured by the FDIC (each, a “Program Bank”). Accounts opened at Program Banks are established in the Bank’s name as custodian, for the benefit of the Bank’s cardholders. The Bank remains the issuer of all cards and holder of all accounts under the applicable cardholder agreements and has sole custodial control and transaction authority over the accounts opened at Program Banks.

The Bank maintains the records of each cardholder’s deposits maintained at Program Banks. Program Banks undergo robust due diligence prior to becoming a Program Bank and are also subject to continuous monitoring.

As of September 30, 2024, the Company managed $201.9 million of customer deposits at other banks in its capacity as custodian. These deposits provide the Company with the ability to earn servicing fee income, typically reflective of the EFFR. Servicing fee income totaled $27.2 million during fiscal 2024, compared to $53.4 million for fiscal 2023.

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RESULTS OF OPERATIONS

The Company’s results of operations are dependent on net interest income, provision for credit loss, noninterest income, noninterest expense and income tax expense. Net interest income is the difference, or spread, between the average yield on interest-earning assets and the average rate paid on interest-bearing liabilities. The interest rate spread is affected by regulatory, economic and competitive factors that influence interest rates, loan and lease demand and deposit flows. Notwithstanding that a significant amount of the Company’s deposits, primarily those attributable to the Partner Solutions business line, pay relatively low rates of interest or none at all, the Company, like other financial institutions, is subject to interest rate risk to the extent that its interest-earning assets mature or reprice at different times, or on a different basis, than its interest-bearing liabilities and that card processing expense derived from contractual agreements with certain Partner Solutions partners are tied to a rate index and servicing fees the Company recognizes for off-balance sheet custodial deposits are typically reflective of the EFFR. The provision for credit loss is the adjustment to the allowance for credit losses balance for the applicable period. The allowance for credit losses represents management’s current estimate of credit losses expected to be incurred by the loan and lease portfolio over the life of each financial asset as of the balance sheet date.

The Company’s noninterest income is derived primarily from tax product fees, card and deposit fees, credit products, and ATM fees attributable to the Partner Solutions business line and fees charged on bank loans, leases and transaction accounts. Noninterest income is also derived from rental income, net gains on the sale of securities, net gains on the sale of loans and leases, as well as the Company’s holdings of bank-owned life insurance. This income is offset by noninterest expenses, such as compensation and benefits associated with personnel, as well as card processing expenses and tax product expenses attributable to the Partner Solutions business line. Noninterest expense is also impacted by operating lease equipment depreciation expense, occupancy and equipment expense, legal and consulting expenses, and regulatory expense.

Average Balances, Interest Rates and Yields

The following table presents, for the periods indicated, the total dollar amount of interest income from average interest-earning assets and the resulting yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates. The balances presented in the table below are calculated on a daily average basis. Tax-equivalent adjustments have been made in yields on interest-bearing assets and NIM. Nonaccruing loans and leases have been included in the table as loans or leases carrying a zero yield.

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(1) Tax rate used to arrive at the tax-equivalent yield ("TEY") for the fiscal years ended September 30, 2024, 2023, and 2022 was 21%.

(2) Net interest margin expressed on a fully taxable equivalent basis ("net interest margin, tax equivalent") is a non-GAAP financial measure. The tax-equivalent adjustment to net interest income recognizes the estimated income tax savings when comparing taxable and tax-exempt assets and adjusting for federal and state exemption of interest income. Management of the Company believes that it is a standard practice in the banking industry to present net interest margin expressed on a fully taxable equivalent basis, and accordingly believe the presentation of this non-GAAP financial measure may be useful for peer comparison purposes.

(3) Included in the yield computation are net loan fees of $22.7 million, $27.7 million, and $33.7 million, for the fiscal years ended September 30, 2024, 2023, and 2022, respectively.

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Rate / Volume Analysis

The following table presents, for the periods presented, the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. The table distinguishes between the change related to higher outstanding balances and the change due to the levels and volatility of interest rates. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (i.e., changes in volume multiplied by old rate); and (ii) changes in rate (i.e., changes in rate multiplied by old volume). Due to the numerous simultaneous volume and rate changes during any period, it is not possible to precisely allocate such changes between volume and rate. For this table, changes attributable to both rate and volume that cannot be segregated have been allocated proportionately to the change due to volume and the change due to rate.

Comparison of Operating Results for the Fiscal Years Ended September 30, 2024 and September 30, 2023

The Company reported net income of $168.4 million, or $6.62 per diluted share, for the fiscal year ended September 30, 2024, compared to $163.6 million, or $5.99 per diluted share, for the fiscal year ended September 30, 2023, an increase of $4.7 million. The increase in net income was driven by an increase in net interest income and a decrease in provision for credit losses, partially offset by a decrease in noninterest income and increases in noninterest expense and income tax expense. Total revenue for fiscal 2024 was $754.7 million, compared to $704.5 million for fiscal 2023, an increase of 7%.

Net Interest Income

Net interest income for fiscal 2024 was $455.1 million, an increase of 17%, from $387.9 million for the same period of the prior year. The increase was mainly attributable to increased yields, higher average interest-earning asset balances and an improved earning asset mix.

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The Company's average interest-earning assets for fiscal 2024 increased by $677.0 million to $7.10 billion compared with fiscal 2023, primarily due to growth in average outstanding balances of loans and leases and cash balances, partially offset by a decrease in total investment security balances. The Company's average outstanding balance of loans and leases increased $723.6 million compared to the prior fiscal year due to increases across all loan portfolios.

The Company’s average deposits and interest-bearing liabilities increased $539.9 million to $6.68 billion during fiscal 2024 from $6.14 billion during fiscal 2023. This increase was primarily due to increases in average noninterest-bearing deposits of $374.2 million, interest-bearing deposits of $142.5 million, and total borrowings of $23.3 million.

Fiscal 2024 NIM increased to 6.41% from 6.04% in fiscal 2023. The overall reported TEY on average earning asset yields increased 37 basis points to 6.42% compared to the prior fiscal year primarily driven by an improved earning asset mix. The yield on the loan and lease portfolio was 8.50% compared to 8.22% for the prior fiscal year and the TEY on the securities portfolio was 3.15% compared to 2.94% for the prior fiscal year.

The Company’s cost of funds for all deposits and borrowings averaged 0.32% during fiscal 2024, as compared to 0.18% during fiscal 2023. The Company's overall cost of deposits was 0.20% in fiscal 2024, as compared to 0.07% during fiscal 2023.

Provision for Credit Loss

The Company recognized a provision for credit loss of $42.7 million for fiscal 2024, compared to $57.4 million in fiscal 2023. The period-over-period decrease in provision for credit loss was primarily due to decreases in the tax services portfolio of $12.8 million and the commercial finance portfolio of $3.3 million, partially offset by an increase of $0.8 million in provision for credit loss in the consumer finance portfolio. The decrease in provision for credit loss in the commercial finance portfolio was primarily due to the commercial insurance premium finance portfolio moving to held for sale and reversing out the provision for credit loss on that portfolio. The Company recognized net charge-offs of $46.6 million for the fiscal year ended September 30, 2024, compared to net charge-offs of $53.7 million for the fiscal year ended September 30, 2023. Net charge-offs attributable to the tax services, commercial finance, and consumer finance portfolios for fiscal 2024 were $23.0 million, $19.5 million, and $4.1 million, respectively. Net charge-offs attributable to the tax services, commercial finance, and consumer finance portfolios for fiscal 2023 were $35.8 million, $15.6 million, and $2.3 million, respectively. See Note 3. Loans and Leases, Net for further information on the provision for credit loss.

Noninterest Income

Fiscal 2024 noninterest income decreased 5% to $299.6 million, compared to $316.6 million for fiscal 2023. The decrease was primarily driven by a decrease in card and deposit fees and the gain on sale of trademarks recognized in the prior year, partially offset by increases in gain on sale of other and tax services product fees.

The decrease in card and deposit fee income was primarily related to lower servicing fee income due to a reduction in custodial deposits. Servicing fee income totaled $27.2 million during fiscal 2024, compared to $53.4 million for fiscal 2023.

Noninterest Expense

Noninterest expense increased 10% to $513.3 million for fiscal 2024 from $465.0 million for fiscal 2023. The increase was primarily attributable to increases in card processing expense, compensation and benefits expense, and other expense, partially offset by decreases in operating lease equipment depreciation and legal and consulting expense.

The card processing expense increase was due to rate-related agreements with Partner Solutions relationships. The amount of expense paid under those agreements is based on an agreed upon rate index that varies depending on the deposit levels, floor rates, market conditions, and other performance conditions. Generally this rate index is based on a percentage of the EFFR and reprices immediately upon a change in the EFFR. Approximately 57% of the deposit portfolio was subject to these higher rate-related processing expenses. For fiscal 2024, contractual, rate-related processing expenses were $110.8 million, as compared to $77.4 million for the fiscal year ended September 30, 2023.

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Income Tax Expense

The Company recorded an income tax expense of $29.1 million, representing an effective tax rate of 14.7%, for fiscal 2024, compared to an income tax expense of $16.3 million, representing an effective tax rate of 9.0%, for fiscal 2023. The increase in income tax expense was primarily due a decrease in investment tax credits.

For the fiscal year ended September 30, 2024, the Company originated $68.4 million in renewable energy leases, compared to $93.6 million for the prior fiscal year. Investment tax credits related to renewable energy leases are recognized ratably based on income throughout each fiscal year.

Comparison of Operating Results for the Fiscal Years Ended September 30, 2023, and September 30, 2022

A comparison of the 2023 results to the 2022 results and other 2022 information not included herein can be found in the Company's Annual Report on Form 10-K: Part II, Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations” filed November 21, 2023 and is incorporated by reference herein.

Asset Quality

Generally, when a loan or lease becomes delinquent 90 days or more or when the collection of principal or interest becomes doubtful, the Company will place the loan or lease on a nonaccrual status and, as a result, previously accrued interest income on the loan or lease is reversed against current income. The loan or lease will generally remain on a non-accrual status until six months of good payment history has been established or management believes the financial status of the borrower has been significantly restored. Certain relationships in the table below are over 90 days past due and still accruing. The Company considers these relationships as being in the process of collection. Insurance premium finance loans, consumer finance and tax services loans are generally not placed on nonaccrual status, but are instead written off when the collection of principal and interest become doubtful.

Loans and leases, or portions thereof, are generally charged-off when collection of principal becomes doubtful. Typically, this is associated with a delay or shortfall in payments of 210 days or more for commercial insurance premium finance, 120 days or more for consumer credit products and leases, and 90 days or more for commercial finance loans. Action is taken to charge off ERO loans if such loans have not been collected by the end of June and refund advance loans if such loans have not been collected by the end of the calendar year. The Company individually evaluates loans and leases that do not share similar risk characteristics with other financial assets, which generally means loans and leases identified as modifications or loans and leases on nonaccrual status.

The Company believes that the level of allowance for credit losses at September 30, 2024 was appropriate and reflected probable losses related to these loans and leases; however, there can be no assurance that all loans and leases will be fully collectible or that the present level of the allowance will be adequate in the future. See the section below titled “Allowance for Credit Losses” for further information.

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The table below sets forth the amounts and categories of the Company's nonperforming assets.

The Company's nonperforming assets at September 30, 2024 were $43.0 million, representing 0.57% of total assets, compared to $58.0 million, or 0.77% of total assets at September 30, 2023. The decrease in the nonperforming assets as a percentage of total assets at September 30, 2024 compared to the prior fiscal year, was primarily driven by a decrease in nonperforming loans in the commercial finance portfolio, partially offset by increases in the tax services and consumer finance portfolios.

The Company's nonperforming loans and leases at September 30, 2024, were $41.6 million, representing 0.87% of total gross loans and leases, compared to $56.2 million, or 1.26% of total gross loans and leases at September 30, 2023.

Classified Assets. Federal regulations provide for the classification of certain loans, leases, and other assets such as debt and equity securities considered by the Bank's primary regulator, the OCC, to be of lesser quality as “substandard,” “doubtful” or “loss,” with each such classification dependent on the facts and circumstances surrounding the assets in question. An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. “Substandard” assets include those characterized by the “distinct possibility” that the Bank will sustain “some loss” if the deficiencies are not corrected. Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions and values, “highly questionable and improbable.” Assets classified as “loss” are those considered “uncollectible” and of such minimal value that their continuance as assets without the establishment of a specific loss reserve is not warranted.

General allowances represent loss allowances which have been established to recognize the inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets. When assets are classified as “loss,” the Bank is required either to establish a specific allowance for losses equal to 100% of that portion of the asset so classified or to charge off such amount. The Bank’s determinations as to the classification of its assets and the amount of its valuation allowances are subject to review by its regulatory authorities, which may order the establishment of additional general or specific loss allowances.

On the basis of management’s review of its loans, leases, and other assets, at September 30, 2024, the Company had classified loans and leases of $180.9 million as substandard, $10.3 million as doubtful and none as loss. At September 30, 2023, the Company classified loans and leases of $208.2 million as substandard, $8.2 million as doubtful and none as loss.

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Allowance for Credit Losses. The ACL represents management’s estimate of current credit losses expected to be incurred by the loan and lease portfolio over the life of each financial asset as of the balance sheet date. The Company individually evaluates loans and leases that do not share similar risk characteristics with other financial assets, which generally means loans and leases identified as modifications or loans and leases on nonaccrual status. All other loans and leases are evaluated collectively for credit loss. A reserve for unfunded credit commitments such as letters of credit and binding unfunded loan commitments is recorded in other liabilities on the Consolidated Statements of Financial Condition.

Individually evaluated loans and leases are a key component of the ACL. Generally, the Company measures credit loss on individually evaluated loans based on the fair value of the collateral less estimated selling costs, as the Company considers these financial assets to be collateral dependent. If an individually evaluated loan or lease is not collateral dependent, credit loss is measured at the present value of expected future cash flows discounted at the loan or lease initial effective interest rate.

The Company's ACL totaled $45.3 million at September 30, 2024, a decrease compared to $49.7 million at September 30, 2023. The $4.4 million year-over-year decrease in the ACL was primarily driven by a $4.4 million decrease in the allowance related to the commercial finance portfolio and a $0.1 million decrease in the allowance related to the consumer finance portfolio, partially offset by a $0.1 million increase in the allowance related to the warehouse finance portfolio.

The following table presents the Company's ACL as a percentage of its total loans and leases.

The Company's ACL as a percentage of total loans and leases decreased to 1.11% at September 30, 2024 from 1.14% at September 30, 2023. The decrease in the total loans and leases coverage ratio was primarily driven by the tax services and consumer finance portfolios, partially offset by an increase in the commercial finance portfolio.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The Company’s financial statements are prepared in accordance with GAAP. The financial information contained within these financial statements is, to a significant extent, based on approximate measures of the financial effects of transactions and events that have already occurred. Management has identified its critical accounting policies, which are those policies described below as Critical Accounting Estimates that, in management's view, are most important in the portrayal of our financial condition and results of operations. These policies involve complex and subjective decisions and assessments. Some of these estimates may be uncertain at the time they are made, could change from period to period, and could have a material impact on the financial statements. See Note 1. Summary of Significant Accounting Policies and Note 4. Loans and Leases, Net to the "Notes of Consolidated Financial Statements," which is included in Part II, Item 8 "Financial Statements and Supplementary Data" of this Annual Report on Form 10-K, for more information.

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Allowance for Credit Losses

The Company’s allowance for credit losses methodology estimates expected credit losses over the life of each financial asset as of the balance sheet date.

For the loan and lease portfolio, the Company measures credit loss on individually evaluated loans based on the fair value of the collateral less estimated selling costs if collateral dependent or based on the present value of expected future cash flows discounted at the loan or lease initial effective interest rate if not collateral dependent. The majority of the Company's loans and leases subject to individual evaluation are considered collateral dependent. Only loans and leases that are on nonaccrual status or are designated as a modification are subject to individual evaluation. Management has also identified certain structured finance credits for alternative energy projects in which a substantial cash collateral account has been established to mitigate credit risk. Due to the nature of the transactions and significant cash collateral positions, these credits are evaluated individually. All other loans and leases are evaluated collectively for credit loss by pooling loans and leases based on similar risk characteristics. The collective evaluation of expected losses in all commercial finance portfolios is based on a cohort loss rate and adjustments for forward-looking information, including industry and macroeconomic forecasts. The cohort loss rate is a life of loan loss rate that immediately reverts to historical loss information for the remaining maturity of the financial asset. Management has elected to use a twelve to twenty-four month reasonable and supportable forecast for forward-looking information. Factors utilized in the determination of the allowance include historical loss experience, current and forecasted economic conditions, and measurement date credit characteristics such as product type, delinquency, and industry. The unfunded credit commitments depend on these same factors, as well as estimates of lines of credit usage. The collective evaluation of expected credit losses for certain consumer lending portfolios utilizes different methodologies when estimating expected credit losses.

Debt securities HTM include implicit and explicit guarantees by government agencies and have an expected zero risk of loss, therefore no provision for credit loss for debt securities held to maturity has been included in the Company’s Consolidated Statement of Operations. Debt securities AFS are recorded at fair value and are assessed quarterly for credit loss. Any such credit loss is recorded in the Company’s Provision for Credit Loss on the Company’s Consolidated Statement of Operations. Non-credit related losses are recorded in Other Comprehensive Income in the Company’s Consolidated Statement of Condition.

Although management believes the levels of the allowance for credit losses at September 30, 2024 and September 30, 2023 are adequate to absorb expected credit losses in the financial assets evaluated, a decline in local economic conditions or other factors could result in increasing losses.

Goodwill and Intangible Assets

The Company accounts for business combinations under the acquisition method of accounting in accordance with ASC 805, Business Combinations. Under the acquisition method, the Company records assets acquired, including identifiable intangible assets, liabilities assumed, and any non-controlling interest in the acquired business at their fair values as of the acquisition date. Any acquisition-related transaction costs are expensed in the period incurred. Results of operations of the acquired entity are included in the Consolidated Statements of Operations from the date of acquisition. Any measurement-period adjustments are recorded in the period the adjustment is identified.

The excess of consideration paid over the fair value of the net assets acquired is recorded as goodwill. Determining the fair value of assets acquired, including identifiable intangible assets, liabilities assumed, and any noncontrolling interest often requires the use of significant estimates and assumptions. This may involve estimates based on third-party valuations, such as appraisals, or internal valuations based on discounted cash flow analyses or other valuation techniques such as estimates of attrition, inflation, asset growth rates, discount rates, multiples of earnings or other relevant factors. In addition, the determination of the useful lives over which an intangible asset will be amortized is subjective. See Note 7. Goodwill and Intangibles to the Consolidated Financial Statements for further information.

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LIQUIDITY AND CAPITAL RESOURCES

The Company’s primary sources of funds are deposits, derived principally through its Partner Solutions business line, borrowings, principal and interest payments on loans and leases and mortgage-backed securities, and maturing investment securities. In addition, the Company utilizes wholesale deposit sources to provide temporary funding when necessary or when favorable terms are available. While scheduled loan repayments and maturing investments are relatively predictable, deposit flows and early loan repayments are influenced by the level of interest rates, general economic conditions and competition. The Company uses its capital resources principally to meet ongoing commitments to fund maturing certificates of deposit and loan commitments, to maintain liquidity, and to meet operating expenses. See Note 20. Subsequent Events to the "Notes of Consolidated Financial Statements," which is included in Part II, Item 8 "Financial Statements and Supplementary Data" of this Annual Report on Form 10-K, for more information on the closing of the sale of the commercial insurance premium finance business.

At September 30, 2024, the Company had unfunded loan and lease commitments of $1.29 billion. Management believes that loan repayment and other sources of funds will be adequate to meet the Company’s foreseeable short- and long-term liquidity needs. The liquidity sources as of September 30, 2024 include $158.3 million in cash and cash equivalents and $201.9 million in off-balance sheet custodial deposits. When factoring in all resources, such as the FHLB, the FRB Discount Window and other unsecured funding and wholesale options, the Company has over $2.1 billion in available liquidity. Due to the characteristics of the Company's deposit portfolio, uninsured deposits remained less than 15% of total deposits during fiscal year 2024 and below the Company's available liquidity.

The following table summarizes the Company’s significant contractual obligations at September 30, 2024.

For more information on the Company’s short-term and long-term borrowings, see “Funding Activities – Borrowings” within Item 1 “Business,” which is included in Part I of this Annual Report on Form 10-K and Note 10. Short-term and Long-term Borrowings to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.”

The Company and the Bank met regulatory requirements for classification as well-capitalized institutions at September 30, 2024. Based on current and expected continued profitability and subject to continued access to capital markets, management believes that the Company and the Bank will continue to meet the capital conservation buffer of 2.5% in addition to required minimum capital ratios. See Note 14. Capital Requirements and Restrictions on Retained Earnings to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.

The payment of dividends and repurchase of shares have the effect of reducing stockholders’ equity. Prior to authorizing such transactions, the Board of Directors considers the effect the dividend or repurchase of shares would have on liquidity and regulatory capital ratios. See "Regulation and Supervision - Limitations on Dividends and Other Capital Distributions" within Item 1 "Business", which is included in Part I of this Annual Report on Form 10-K.

No assurance can be given that our regulators will consider our liquidity level, or our capital level, though substantially in excess of current rules pursuant to which the Company and the Bank are considered “well-capitalized,” to be sufficiently high in the future. See Note 14. Capital Requirements and Restrictions on Retained Earnings to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.

Impact of New Accounting Standards

See Note 1. Summary of Significant Accounting Policies to the "Notes of Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K, for information regarding recently issued accounting pronouncements.

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Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations.

This section should be read in conjunction with the following parts of this Form 10-K: Part I, Item 1 “Business,” Part II, Item 7A, “Quantitative and Qualitative Disclosures About Market Risk,” and Part II, Item 8 “Financial Statements and Supplementary Data.”

GENERAL

The Company, a registered bank holding company, is a Delaware corporation, the principal assets of which are all the issued and outstanding shares of the Bank, a national bank. Unless the context otherwise requires, references herein to the Company include Pathward Financial and the Bank, and all direct or indirect subsidiaries of Pathward Financial on a consolidated basis.

EXECUTIVE SUMMARY

Company Highlights

•On October 5, 2023, the Company announced Gregory A. Sigrist was appointed as Executive Vice President ("EVP"), Chief Financial Officer-Designee of the Company and the Bank, beginning November 1, 2023. Immediately after the filing of the Company’s Form 10-K for fiscal year ended September 30, 2023, Mr. Sigrist will transition to EVP, Chief Financial Officer, succeeding Glen W. Herrick, who will retire but continue his employment with the Company as EVP, Executive Advisor to the Chief Executive Officer through December 29, 2023 to transition his duties and responsibilities and assist with various projects.

•On August 25, 2023, the Company announced a new share repurchase program to repurchase up to 7,000,000 shares of the Company's outstanding common stock on or before September 30, 2028.

Financial Highlights for the 2023 Fiscal Fourth Quarter

•Total revenue for the fourth quarter was $161.0 million, an increase of $37.8 million, or 31%, compared to the same quarter in fiscal 2022, driven by an increase in both net interest income and noninterest income.

•Net interest margin ("NIM") increased 98 basis points to 6.19% for the fourth quarter from 5.21% during the same period of last year, primarily driven by increased yields and an improved earning asset mix from the continued optimization of the portfolio.

•Total gross loans and leases at September 30, 2023 increased $829.8 million, to $4.37 billion compared to September 30, 2022. The increase compared to the prior year quarter was primarily due to growth in the commercial and consumer finance portfolios.

•During the 2023 fiscal fourth quarter, the Company repurchased 311,727 shares of common stock at an average share price of $51.29.

Subsequent Events

Management has evaluated and identified subsequent events that occurred after September 30, 2023. See Note 21. Subsequent Events for details on these events.

FINANCIAL CONDITION

At September 30, 2023, the Company’s total assets increased by $788.1 million to $7.54 billion compared to September 30, 2022, primarily due to growth of $829.8 million in total loans and leases and $56.7 million in loans held for sale, partially offset by reductions of $78.6 million in securities available for sale and $20.3 million in other assets.

Total cash and cash equivalents were $375.6 million at September 30, 2023, decreasing from $388.0 million at September 30, 2022. The Company maintains its cash investments primarily in interest-bearing overnight deposits with the FHLB of Des Moines and the FRB. At September 30, 2023, the Company did not have any federal funds sold.

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The total investment portfolio decreased $83.7 million to $1.84 billion at September 30, 2023, compared to $1.92 billion at September 30, 2022, as maturities and principal pay downs exceeded purchases. The Company’s portfolio of securities customarily consists primarily of MBS, which have expected lives much shorter than the stated final maturity, non-bank qualified obligations of states and political subdivisions, which mature in approximately 15 years or less, and other tax exempt municipal mortgage related pass through securities which have average lives much shorter than their stated final maturities. During the fiscal year ended September 30, 2023, the Company purchased $156.9 million of investment securities.

Loans held for sale at September 30, 2023 totaled $77.8 million, increasing from $21.1 million at September 30, 2022. This increase was primarily driven by growth in consumer credit products held for sale at September 30, 2023 compared to September 30, 2022.

Total gross loans and leases totaled $4.37 billion at September 30, 2023, as compared to $3.54 billion at September 30, 2022. The increase was primarily due to increases in commercial finance, consumer finance, and warehouse finance loans, partially offset by a slight reduction in seasonal tax services loans. See Note 4 to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.

Commercial finance loans, which comprised 85% of the Company's gross loan and lease portfolio, totaled $3.72 billion at September 30, 2023, reflecting an increase of $699.5 million, or 23%, from September 30, 2022. The increase was primarily driven by increases in the insurance premium finance, SBA/USDA, term lending, and asset-based lending portfolios, partially offset by reductions in the factoring and lease financing portfolios.

Through the Bank, the Company owns stock in the FHLB due to the Bank’s membership and participation in this banking system as well as stock in the FRB. The FHLB requires a level of stock investment based on a pre-determined formula. The Company’s investment in these stocks decreased $0.6 million, or 2%, to $28.2 million at September 30, 2023 from $28.8 million at September 30, 2022, resulting from redemptions exceeding purchases of FHLB membership stock.

Total end-of-period deposits increased 12% to $6.59 billion at September 30, 2023, compared to $5.87 billion at September 30, 2022. The increase in end-of-period deposits was primarily driven by increases in noninterest-bearing deposits of $685.8 million and money market deposits of $47.4 million, partially offset by decreases in savings deposits of $8.1 million and certificate of deposits of $2.1 million.

As of September 30, 2023, the Company had $897.5 million in deposits related to government stimulus programs. Of the total amount of government stimulus program deposits, $340.7 million are on activated cards while $556.8 million are on inactivated cards. During fiscal year 2024, the inactive card balances are expected to decrease by approximately $380 million as the Company actively returns unclaimed balances to the U.S. Treasury.

The Company's total borrowings increased $10.9 million, or 30%, from $36.0 million at September 30, 2022 to $46.9 million at September 30, 2023. See Note 11 to the “Notes to Consolidated Financial Statements,” which are included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.

At September 30, 2023, the Company’s stockholders’ equity totaled $650.6 million, an increase of $5.5 million, from $645.1 million at September 30, 2022. The increase was primarily attributable to an increase in additional paid-in capital and retained earnings related to activity from the Company's share repurchase programs partially offset by an increase in accumulated other comprehensive loss. The Company and Bank remained above the federal regulatory minimum capital requirements at September 30, 2023, and continued to be classified as well-capitalized, and in good standing with the regulatory agencies. See Note 15 to the “Notes to Consolidated Financial Statements,” which is included in Part II, Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.

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Noninterest-bearing Checking Deposits. The Company may hold negative balances associated with cardholder programs in the BaaS business line that are included within noninterest-bearing deposits on the Company's Consolidated Statements of Financial Condition. Negative balances can relate to any of the following payments functions:

–Prefundings: The Company deploys funds to cards prior to receiving cash (typically 2-3 days) where the prefunding balance is netted at a pooled partner level utilizing ASC 210-20.

–Discount fundings: The Company funds cards in alignment to expected breakage values on the card. Consumers may spend more than is estimated. These discounts are netted at a pooled partner level using ASC 210-20. The majority of these discount fundings relate to a small number of partners and are analyzed on an ongoing basis.

–Demand Deposit Account ("DDA") overdrafts: Certain programs offered allow cardholders traditional DDA overdraft protection services whereby cardholders can spend a limited amount in excess of their available card balance. When overdrawn, these accounts are re-classed as loans on the balance sheet within the Consumer Finance category.

The Company meets the Right of Set off criteria in ASC 210-20, Balance Sheet - Offsetting, for all payments negative deposit balances with the exception of DDA overdrafts. The following table summarizes the Company's negative deposit balances within the BaaS business line:

Custodial Off-Balance Sheet Deposits. The Bank utilizes a custodial deposit transference structure for certain prepaid and deposit programs whereby the Bank, acting as custodian of cardholder funds, places a portion of such cardholder funds that are not needed to support near term settlement at one or more third-party banks insured by the FDIC (each, a “Program Bank”). Accounts opened at Program Banks are established in the Bank’s name as custodian, for the benefit of the Bank’s cardholders. The Bank remains the issuer of all cards and holder of all accounts under the applicable cardholder agreements and has sole custodial control and transaction authority over the accounts opened at Program Banks.

The Bank maintains the records of each cardholder’s deposits maintained at Program Banks. Program Banks undergo robust due diligence prior to becoming a Program Bank and are also subject to continuous monitoring.

As of September 30, 2023, the Company managed $267.6 million of customer deposits at other banks in its capacity as custodian. In return for record keeping services at Program Banks, the Bank receives a servicing fee (“Servicing Fee”). The Servicing Fee has been typically reflective of the EFFR. For the fiscal year ended September 30, 2023, the Company recognized $53.4 million in servicing fee income compared to $6.4 million for the prior fiscal year. The increase when compared to the prior year was driven by several factors, including the interest rate environment, increased balances, and fiscal year 2023 being the first full year that the Company received the Servicing Fee.

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RESULTS OF OPERATIONS

The Company’s results of operations are dependent on net interest income, provision for credit losses, noninterest income, noninterest expense and income tax expense. Net interest income is the difference, or spread, between the average yield on interest-earning assets and the average rate paid on interest-bearing liabilities. The interest rate spread is affected by regulatory, economic and competitive factors that influence interest rates, loan and lease demand and deposit flows. Notwithstanding that a significant amount of the Company’s deposits, primarily those attributable to the BaaS business line, pay relatively low rates of interest or none at all, the Company, like other financial institutions, is subject to interest rate risk to the extent that its interest-earning assets mature or reprice at different times, or on a different basis, than its interest-bearing liabilities and that card processing expense derived from contractual agreements with certain BaaS partners are tied to a rate index and servicing fees the Company recognizes for custodial off-balance sheet deposits are typically reflective of the EFFR. The provision for credit losses is the adjustment to the allowance for credit losses balance for the applicable period. The allowance for credit losses represents management’s current estimate of credit losses expected to be incurred by the loan and lease portfolio over the life of each financial asset as of the balance sheet date.

The Company’s noninterest income is derived primarily from tax product fees, card and deposit fees, credit products, and ATM fees attributable to the BaaS business line and fees charged on bank loans, leases and transaction accounts. Noninterest income is also derived from rental income, net gains on the sale of securities, net gains on the sale of loans and leases, as well as the Company’s holdings of bank-owned life insurance. This income is offset by noninterest expenses, such as compensation and benefits associated with personnel, as well as card processing expenses and tax product expenses attributable to the Baas business line. Noninterest expense is also impacted by operating lease equipment depreciation expense, occupancy and equipment expense, legal and consulting expenses, and regulatory expense.

Average Balances, Interest Rates and Yields

The following table presents, for the periods indicated, the total dollar amount of interest income from average interest-earning assets and the resulting yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates. The balances presented in the table below are calculated on a daily average basis. Tax-equivalent adjustments have been made in yields on interest-bearing assets and NIM. Nonaccruing loans and leases have been included in the table as loans or leases carrying a zero yield.

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(1) Tax rate used to arrive at the TEY for the fiscal years ended September 30, 2023, 2022, and 2021 was 21%.

(2) Net interest margin expressed on a fully taxable equivalent basis ("net interest margin, tax equivalent") is a non-GAAP financial measure. The tax-equivalent adjustment to net interest income recognizes the estimated income tax savings when comparing taxable and tax-exempt assets and adjusting for federal and state exemption of interest income. Management of the Company believes that it is a standard practice in the banking industry to present net interest margin expressed on a fully taxable equivalent basis, and accordingly believe the presentation of this non-GAAP financial measure may be useful for peer comparison purposes.

(3) Included in the yield computation are net loan fees of $27.7 million, $33.7 million, and $35.7 million for the fiscal years ended September 30, 2023, 2022 and 2021, respectively.

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Rate / Volume Analysis

The following table presents, for the periods presented, the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. The table distinguishes between the change related to higher outstanding balances and the change due to the levels and volatility of interest rates. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (i.e., changes in volume multiplied by old rate); and (ii) changes in rate (i.e., changes in rate multiplied by old volume). Due to the numerous simultaneous volume and rate changes during any period, it is not possible to precisely allocate such changes between volume and rate. For this table, changes attributable to both rate and volume that cannot be segregated have been allocated proportionately to the change due to volume and the change due to rate.

Comparison of Operating Results for the Fiscal Years Ended September 30, 2023 and September 30, 2022

General

The Company reported net income of $163.6 million, or $5.99 per diluted share, for the fiscal year ended September 30, 2023, compared to $156.4 million, or $5.26 per diluted share, for the fiscal year ended September 30, 2022, an increase of $7.2 million. Total revenue for fiscal 2023 was $704.5 million, compared to $601.1 million for fiscal 2022, an increase of 17%. The increase in net income was driven by an increase in both net interest income and noninterest income.

Net Interest Income

Net interest income for fiscal 2023 was $387.9 million, an increase of 26%, from $307.3 million for the same period of the prior year. The increase was mainly attributable to increased yields, higher interest-earning asset balances and an improved earning asset mix.

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The Company's average interest-earning assets for fiscal 2023 increased by $72.2 million to $6.42 billion compared with fiscal 2022, primarily due to growth in loans and leases and an increase in total investment balances, partially offset by a decrease in cash balances. The Company's average outstanding balance of loans and leases increased $108.8 million compared to the prior fiscal year, primarily due to an increase in commercial finance loans, partially offset by decreases in consumer finance loans, tax services loans, and warehouse finance loans.

The Company’s average balance of total deposits and interest-bearing liabilities increased $18.5 million to $6.14 billion during fiscal 2023 from $6.12 billion during fiscal 2022. This increase was primarily due to increases in average interest-bearing deposits of $43.1 million and total borrowings of $13.1 million, partially offset by a decrease in the average noninterest-bearing deposits of $37.8 million.

For fiscal 2023, NIM was 6.04%, an increase of 120 basis points from 4.84% in fiscal 2022. NIM, tax-equivalent for fiscal 2023 increased to 6.05% from 4.85% in fiscal 2022. See the table in section above titled "Average Balances, Interest Rates and Yields."

The Company’s cost of funds for all deposits and borrowings averaged 0.18% during fiscal 2023, as compared to 0.08% during fiscal 2022. The Company's overall cost of deposits was 0.12% in fiscal 2023, as compared to 0.01% during fiscal 2022.

Provision for Credit Losses

The Company recognized a provision for credit losses of $57.4 million for fiscal 2023 compared to $28.5 million in fiscal 2022. The increase in provision for credit losses was primarily driven by growth in the commercial finance portfolio. Also see Note 4 to the Consolidated Financial Statements included in this Annual Report on Form 10-K.

Noninterest Income

Noninterest income increased 8% to $316.6 million for fiscal 2023 from $293.8 million for fiscal 2022. The increase was primarily attributable to increases in card and deposit fees, rental income, gain on sale of other, and other income, partially offset by decrease in gain on sale of trademarks.

The increase in card and deposit fee income was primarily from servicing fee income on off-balance sheet deposits, which totaled $53.4 million during the fiscal year ended September 30, 2023, as compared to $6.4 million for the fiscal year ended September 30, 2022.

Noninterest Expense

Noninterest expense increased 21% to $465.0 million for fiscal 2023 from $385.3 million for fiscal 2022. The increase in noninterest expense was primarily attributable to increases in card processing expense, compensation and benefits expense, and operating lease equipment depreciation, partially offset by a decrease in legal and consulting expense.

The card processing expense increase was due to rate-related agreements with BaaS partners. The amount of expense paid under those agreements is based on an agreed upon rate index that varies depending on the deposit levels, floor rates, market conditions, and other performance conditions. Generally this rate index averages between 50% to 85% of the EFFR and reprices immediately upon a change in the EFFR. Approximately 49% of the deposit portfolio was subject to these higher rate-related processing expenses. For fiscal 2023, contractual, rate-related processing expenses were $77.4 million, as compared to $9.9 million for the fiscal year ended September 30, 2022.

Income Tax Expense

The Company recorded an income tax expense of $16.3 million, representing an effective tax rate of 9.0%, for fiscal 2023, compared to an income tax expense of $28.0 million, representing an effective tax rate of 15.2%, in fiscal 2022. The decrease in income tax expense was primarily due to an increase in investment tax credit recognized ratably when compared to the prior fiscal year.

For the fiscal year ended September 30, 2023, the Company originated $93.6 million in renewable energy tax credits, compared to $62.8 million for the prior fiscal year. The timing and impact of future renewable energy tax credits are expected to vary from period to period, and the Company intends to undertake only those tax credit opportunities that meet the Company's underwriting and return criteria.

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Comparison of Operating Results for the Fiscal Years Ended September 30, 2022, and September 30, 2021

A comparison of the 2022 results to the 2021 results and other 2021 information not included herein can be found in the Company's Annual Report on Form 10-K: Part II, Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations” filed November 22, 2022 and is incorporated by reference herein.

Asset Quality

Generally, when a loan or lease becomes delinquent 90 days or more or when the collection of principal or interest becomes doubtful, the Company will place the loan or lease on a nonaccrual status and, as a result, previously accrued interest income on the loan or lease is reversed against current income. The loan or lease will generally remain on a non-accrual status until six months of good payment history has been established or management believes the financial status of the borrower has been significantly restored. Certain relationships in the table below are over 90 days past due and still accruing. The Company considers these relationships as being in the process of collection. Insurance premium finance loans, consumer finance and tax services loans are generally not placed on nonaccrual status, but are instead written off when the collection of principal and interest become doubtful.

Loans and leases, or portions thereof, are charged-off when collection of principal becomes doubtful. Generally, this is associated with a delay or shortfall in payments of greater than 210 days for insurance premium finance, 180 days for tax and other specialty lending loans, 120 days for consumer credit products and 90 days for other loans. Action is taken to charge off ERO loans if such loans have not been collected by the end of June and refund advance loans if such loans have not been collected by the end of the calendar year. Nonaccrual loans and troubled debt restructurings are generally considered impaired.

The Company believes that the level of allowance for credit losses at September 30, 2023 was appropriate and reflected probable losses related to these loans and leases; however, there can be no assurance that all loans and leases will be fully collectible or that the present level of the allowance will be adequate in the future. See the section below titled “Allowance for Credit Losses” for further information.

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The table below sets forth the amounts and categories of the Company's nonperforming assets.

The Company's nonperforming loans and leases at September 30, 2023, were $56.2 million, representing 1.26% of total gross loans and leases, compared to $29.2 million, or 0.82% of total gross loans and leases at September 30, 2022.

The increase in nonperforming assets as a percentage of total assets at September 30, 2023 compared to September 30, 2022 was primarily due to one sizable relationship moving to nonaccrual within the commercial finance portfolio, partially offset by a decrease in nonperforming loans in the seasonal tax services portfolio and the consumer finance portfolio.

Classified Assets. Federal regulations provide for the classification of certain loans, leases, and other assets such as debt and equity securities considered by the Bank's primary regulator, the OCC, to be of lesser quality as “substandard,” “doubtful” or “loss,” with each such classification dependent on the facts and circumstances surrounding the assets in question. An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. “Substandard” assets include those characterized by the “distinct possibility” that the Bank will sustain “some loss” if the deficiencies are not corrected. Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions and values, “highly questionable and improbable.” Assets classified as “loss” are those considered “uncollectible” and of such minimal value that their continuance as assets without the establishment of a specific loss reserve is not warranted.

General allowances represent loss allowances which have been established to recognize the inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets. When assets are classified as “loss,” the Bank is required either to establish a specific allowance for losses equal to 100% of that portion of the asset so classified or to charge off such amount. The Bank’s determinations as to the classification of its assets and the amount of its valuation allowances are subject to review by its regulatory authorities, which may order the establishment of additional general or specific loss allowances.

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On the basis of management’s review of its loans, leases, and other assets, at September 30, 2023, the Company had classified loans and leases of $208.2 million as substandard, $8.2 million as doubtful and none as loss. At September 30, 2022, the Company classified loans and leases of $203.7 million as substandard, $4.0 million as doubtful and none as loss. Further, at September 30, 2023, the Company did not own any real estate or other assets as a result of foreclosure of loans, as compared to owning an insignificant amount at September 30, 2022.

Allowance for Credit Losses. The ACL represents management’s estimate of current credit losses expected to be incurred by the loan and lease portfolio over the life of each financial asset as of the balance sheet date. The Company individually evaluates loans and leases that do not share similar risk characteristics with other financial assets, which generally means loans and leases identified as troubled debt restructurings or loans and leases on nonaccrual status. All other loans and leases are evaluated collectively for credit loss. A reserve for unfunded credit commitments such as letters of credit and binding unfunded loan commitments is recorded in other liabilities on the Consolidated Statements of Financial Condition.

Individually evaluated loans and leases are a key component of the ACL. Generally, the Company measures credit loss on individually evaluated loans based on the fair value of the collateral less estimated selling costs, as the Company considers these financial assets to be collateral dependent. If an individually evaluated loan or lease is not collateral dependent, credit loss is measured at the present value of expected future cash flows discounted at the loan or lease initial effective interest rate.

The Company's ACL totaled $49.7 million at September 30, 2023, an increase compared to $45.9 million at September 30, 2022. The $3.8 million year-over-year increase in the ACL was primarily driven by a $2.8 million increase in the allowance related to the commercial finance portfolio and a $0.9 million increase in the allowance related to the consumer finance portfolio. The year-over-year increase in the allowance related to both the commercial finance and consumer finance portfolios was primarily attributable to loan growth in each respective portfolio.

The following table presents the Company's ACL as a percentage of its total loans and leases.

The Company's ACL as a percentage of total loans and leases decreased to 1.14% at September 30, 2023 from 1.30% at September 30, 2022. The decrease in the total loans and leases coverage ratio was primarily driven by a decrease in the commercial finance portfolio which was due to both quantitative and qualitative factors. The Company expects to continue to diligently monitor the ACL and adjust as necessary in future periods to maintain an appropriate and supportable level.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The Company’s financial statements are prepared in accordance with GAAP. The financial information contained within these financial statements is, to a significant extent, based on approximate measures of the financial effects of transactions and events that have already occurred. Management has identified its critical accounting policies, which are those policies described below as Critical Accounting Estimates that, in management's view, are most important in the portrayal of our financial condition and results of operations. These policies involve complex and subjective decisions and assessments. Some of these estimates may be uncertain at the time they are made, could change from period to period, and could have a material impact on the financial statements.

Allowance for Credit Losses

The Company’s allowance for credit losses methodology estimates expected credit losses over the life of each financial asset as of the balance sheet date.

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For the loan and lease portfolio, the Company measures credit loss on individually evaluated loans based on the fair value of the collateral less estimated selling costs if collateral dependent or based on the present value of expected future cash flows discounted at the loan or lease initial effective interest rate if not collateral dependent. The majority of the Company's loans and leases subject to individual evaluation are considered collateral dependent. Only loans and leases that are on nonaccrual status or are designated as a TDR are subject to individual evaluation. Management has also identified certain structured finance credits for alternative energy projects in which a substantial cash collateral account has been established to mitigate credit risk. Due to the nature of the transactions and significant cash collateral positions, these credits are evaluated individually. All other loans and leases are evaluated collectively for credit loss by pooling loans and leases based on similar risk characteristics. The collective evaluation of expected losses in all commercial finance portfolios is based on a cohort loss rate and adjustments for forward-looking information, including industry and macroeconomic forecasts. The cohort loss rate is a life of loan loss rate that immediately reverts to historical loss information for the remaining maturity of the financial asset. Management has elected to use a twelve to twenty-four month reasonable and supportable forecast for forward-looking information. Factors utilized in the determination of the allowance include historical loss experience, current and forecasted economic conditions, and measurement date credit characteristics such as product type, delinquency, and industry. The unfunded credit commitments depend on these same factors, as well as estimates of lines of credit usage. The collective evaluation of expected credit losses for certain consumer lending portfolios utilizes different methodologies when estimating expected credit losses.

Investment debt securities held to maturity include implicit and explicit guarantees by government agencies and have an expected zero risk of loss, therefore no provision for credit loss for debt securities held to maturity has been included in the Company’s Consolidated Statement of Operations. Investment debt securities available for sale are recorded at fair value and are assessed quarterly for credit loss. Any such credit loss is recorded in the Company’s Provision for Credit Loss on the Company’s Consolidated Statement of Operations. Non-credit related losses are recorded in Other Comprehensive Income in the Company’s Consolidated Statement of Condition.

Although management believes the levels of the allowance for credit losses at September 30, 2023 and September 30, 2022 are adequate to absorb expected credit losses in the financial assets evaluated, a decline in local economic conditions or other factors could result in increasing losses.

Goodwill and Intangible Assets

The Company accounts for business combinations under the acquisition method of accounting in accordance with ASC 805, Business Combinations. Under the acquisition method, the Company records assets acquired, including identifiable intangible assets, liabilities assumed, and any non-controlling interest in the acquired business at their fair values as of the acquisition date. Any acquisition-related transaction costs are expensed in the period incurred. Results of operations of the acquired entity are included in the Consolidated Statements of Operations from the date of acquisition. Any measurement-period adjustments are recorded in the period the adjustment is identified.

The excess of consideration paid over the fair value of the net assets acquired is recorded as goodwill. Determining the fair value of assets acquired, including identifiable intangible assets, liabilities assumed, and any noncontrolling interest often requires the use of significant estimates and assumptions. This may involve estimates based on third-party valuations, such as appraisals, or internal valuations based on discounted cash flow analyses or other valuation techniques such as estimates of attrition, inflation, asset growth rates, discount rates, multiples of earnings or other relevant factors. In addition, the determination of the useful lives over which an intangible asset will be amortized is subjective. See Note 8. Goodwill and Intangibles to the Consolidated Financial Statements for further information.

LIQUIDITY AND CAPITAL RESOURCES

The Company’s primary sources of funds are deposits, derived principally through its BaaS business line, borrowings, principal and interest payments on loans and leases and mortgage-backed securities, and maturing investment securities. In addition, the Company utilizes wholesale deposit sources to provide temporary funding when necessary or when favorable terms are available. While scheduled loan repayments and maturing investments are relatively predictable, deposit flows and early loan repayments are influenced by the level of interest rates, general economic conditions and competition. The Company uses its capital resources principally to meet ongoing commitments to fund maturing certificates of deposit and loan commitments, to maintain liquidity, and to meet operating expenses.

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At September 30, 2023, the Company had unfunded loan and lease commitments of $1.31 billion. Management believes that loan repayment and other sources of funds will be adequate to meet the Company’s foreseeable short- and long-term liquidity needs. The liquidity sources as of September 30, 2023 include $375 million in cash and cash equivalents and $268 million in off-balance sheet deposits. When factoring in all resources, such as the FHLB, the FRB Discount Window and other unsecured funding and wholesale options, the Company has over $2.6 billion in available liquidity.

The following table summarizes the Company’s significant contractual obligations at September 30, 2023.