4. Loans and Allowance for Loan Losses

Loan Origination/Risk Management

The Company has certain lending policies and procedures in place that are designed to minimize the level of risk within the loan portfolio. Diversification of the loan portfolio manages the risk associated with fluctuations in economic conditions. The Company maintains an independent loan review department that reviews and validates the credit risk program on a continual basis. Management regularly evaluates the results of the loan reviews. The loan review process complements and reinforces the risk identification and assessment decisions made by lenders and credit personnel, as well as the Company’s policies and procedures.

Commercial loans are underwritten after evaluating and understanding the borrower’s ability to operate profitably and prudently expand its business. Commercial loans are made based on the identified cash flows of the borrower and on the underlying collateral provided by the borrower. The cash flows of the borrower, however, may not be as expected and the collateral securing these loans may fluctuate in value. Most commercial loans are secured by the assets being financed or other business assets such as accounts receivable or inventory and may incorporate a personal guarantee. In the case of loans secured by accounts receivable, the availability of funds for the repayment of these loans may be substantially dependent on the ability of the borrower to collect amounts from its customers. Commercial credit cards are generally unsecured and are underwritten with criteria similar to commercial loans including an analysis of the borrower’s cash flow, available business capital, and overall credit-worthiness of the borrower.

Commercial real estate loans are subject to underwriting standards and processes similar to commercial loans, in addition to those of real estate loans. These loans are viewed primarily as cash flow loans and secondarily as loans secured by real estate. Commercial real estate lending typically involves higher loan principal amounts and the repayment of these loans is largely dependent on the successful operation of the property securing the loan or the business conducted on the property securing the loan. The Company requires an appraisal of the collateral be made at origination, on an as-needed basis, in conformity with current market conditions and regulatory requirements. The underwriting standards address both owner and non-owner occupied real estate.

Construction loans are underwritten using feasibility studies, independent appraisal reviews, sensitivity analysis or absorption and lease rates and financial analysis of the developers and property owners. Construction loans are based upon estimates of costs and value associated with the complete project. Construction loans often involve the disbursement of substantial funds with repayment substantially dependent on the success of the ultimate project. Sources of repayment for these types of loans may be pre-committed permanent loans from approved long-term borrowers, sales of developed property or an interim loan commitment from the Company until permanent financing is obtained. These loans are closely monitored by on-site inspections and are considered to have higher risks than other real estate loans due to their repayment being sensitive to interest rate changes, governmental regulation of real property, economic conditions and the availability of long-term financing.

Underwriting standards for residential real estate and home equity loans are based on the borrower’s loan-to-value percentage, collection remedies, and overall credit history.

Consumer loans are underwritten based on the borrower’s repayment ability. The Company monitors delinquencies on all of its consumer loans and leases and periodically reviews the distribution of FICO scores relative to historical periods to monitor credit risk on its credit card loans. The underwriting and review practices, combined with the relatively small loan amounts that are spread across many individual borrowers, minimizes risk. Consumer loans and leases that are 90 days past due or more are considered non-performing.

This table provides a summary of loan classes and an aging of past due loans at September 30, 2012 and December 31, 2011 (in thousands):


	September 30, 2012
	30-89 Days Past Due and Accruing		Greater than 90 Days Past Due and Accruing		Non-Accrual Loans		Total Past Due		Current		Total Loans
Commercial:
Commercial	$	11,353	$	646	$	11,587	$	23,586	$	2,667,654	$	2,691,240
Commercial – credit card		805		238		—		1,043		108,246		109,289
Real estate:
Real estate – construction		732		206		1,034		1,972		71,419		73,391
Real estate – commercial		6,528		344		8,906		15,778		1,326,358		1,342,136
Real estate – residential		1,533		40		1,183		2,756		201,197		203,953
Real estate – HELOC		1,410		47		284		1,741		562,739		564,480
Consumer:
Consumer – credit card		3,214		2,437		2,999		8,650		314,599		323,249
Consumer – other		1,733		202		1,396		3,331		59,910		63,241
Leases		—		—		—		—		18,784		18,784

Total loans	$	27,308	$	4,160	$	27,389	$	58,857	$	5,330,906	$	5,389,763


	December 31, 2011
	30-89 Days Past Due and Accruing		Greater than 90 Days Past Due and Accruing		Non-Accrual Loans		Total Past Due		Current		Total Loans
Commercial:
Commercial	$	2,986	$	767	$	9,234	$	12,987	$	2,221,830	$	2,234,817
Commercial – credit card		896		284		—		1,180		94,159		95,339
Real estate:
Real estate – construction		430		—		642		1,072		83,518		84,590
Real estate – commercial		2,368		313		7,218		9,899		1,384,656		1,394,555
Real estate – residential		1,713		247		1,660		3,620		182,266		185,886
Real estate – HELOC		819		41		696		1,556		531,476		533,032
Consumer:
Consumer – credit card		2,858		3,394		4,638		10,890		322,756		333,646
Consumer – other		1,260		952		1,493		3,705		90,939		94,644
Leases		—		—		—		—		3,834		3,834

Total loans	$	13,330	$	5,998	$	25,581	$	44,909	$	4,915,434	$	4,960,343

The Company sold $177.3 million and $150.1 million of residential real estate and student loans during the nine month periods ended September 30, 2012 and September 30, 2011, respectively.

The Company has ceased the recognition of interest on loans with a carrying value of $27.4 million and $25.6 million at September 30, 2012 and December 31, 2011, respectively. Restructured loans totaled $8.4 million and $6.0 million at September 30, 2012 and December 31, 2011, respectively. Loans 90 days past due and still accruing interest amounted to $4.2 million and $6.0 million at September 30, 2012 and December 31, 2011, respectively. There was an insignificant amount of interest recognized on impaired loans during 2012 and 2011.

Credit Quality Indicators

As part of the on-going monitoring of the credit quality of the Company’s loan portfolio, management tracks certain credit quality indicators including trends related to the risk grading of specified classes of loans, net charge-offs, non-performing loans, and general economic conditions.

The Company utilizes a risk grading matrix to assign a rating to each of its commercial, commercial real estate, and construction real estate loans. The loan rankings are summarized into the following categories: Non-watch list, Watch, Special Mention, and Substandard. Any loan not classified in one of the categories described below is considered to be a Non-watch list loan. A description of the general characteristics of the loan ranking categories is as follows:

•

Watch – This rating represents credit exposure that presents higher than average risk and warrants greater than routine attention by Company personnel due to conditions affecting the borrower, the borrower’s industry or the economic environment. These conditions have resulted in some degree of uncertainty that results in higher than average credit risk.

•

Special Mention – This rating reflects a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or the institution’s credit position at some future date. The rating is not adversely classified and does not expose an institution to sufficient risk to warrant adverse classification.

•

Substandard – This rating represents an asset inadequately protected by the current sound worth and paying capacity of the borrower or of the collateral pledged, if any. Assets so classified must have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. Loans in this category are characterized by the distinct possibility that the bank will sustain some loss if the deficiencies are not corrected. Loss potential, while existing in the aggregate amount of substandard assets, does not have to exist in individual assets classified substandard. This category may include loans where the collection of full principal is doubtful or remote.

All other classes of loans are generally evaluated and monitored based on payment activity. Non-performing loans include restructured loans, which are on non-accrual, and all other non-accrual loans.

This table provides an analysis of the credit risk profile of each loan class at September 30, 2012 and December 31, 2011 (in thousands):

Credit Exposure

Credit Risk Profile by Risk Rating


	Commercial				Real estate - construction
	September 30, 2012		December 31, 2011		September 30, 2012		December 31, 2011
Non-watch list	$	2,471,369	$	2,064,658	$	70,349	$	83,100
Watch		104,327		100,499		416		355
Special Mention		38,369		16,688		—		—
Substandard		77,175		52,972		2,626		1,135

Total	$	2,691,240	$	2,234,817	$	73,391	$	84,590


	Real estate - commercial
	September 30, 2012		December 31, 2011
Non-watch list	$	1,233,619	$	1,275,280
Watch		54,106		27,777
Special Mention		9,378		35,019
Substandard		45,033		56,479

Total	$	1,342,136	$	1,394,555


Credit Exposure

Credit Risk Profile Based on Payment Activity
	Commercial - credit card				Real estate - residential
	September 30, 2012		December 31, 2011		September 30, 2012		December 31, 2011
Performing	$	109,289	$	95,339	$	202,770	$	184,226
Non-performing		—		—		1,183		1,660

Total	$	109,289	$	95,339	$	203,953	$	185,886


	Real estate - HELOC				Consumer - credit card
	September 30, 2012		December 31, 2011		September 30,2012		December 31, 2011
Performing	$	564,196	$	532,336	$	320,250	$	329,008
Non-performing		284		696		2,999		4,638

Total	$	564,480	$	533,032	$	323,249	$	333,646


	Consumer - other				Leases
	September 30, 2012		December 31, 2011		September 30,2012		December 31, 2011
Performing	$	61,845	$	93,151	$	18,784	$	3,834
Non-performing		1,396		1,493		—		—

Total	$	63,241	$	94,644	$	18,784	$	3,834

Allowance for Loan Losses

The allowance for loan losses is a reserve established through a provision for loan losses charged to expense, which represents management’s judgment of losses within the Company’s loan portfolio as of the balance sheet date. The allowance is necessary to reserve for estimated loan losses and risks inherent in the loan portfolio. Accordingly, the methodology is based on historical loss trends. The Company’s process for determining the appropriate level of the allowance for loan losses is designed to account for credit deterioration as it occurs. The provision for possible loan losses reflects loan quality trends, including the levels of and trends related to non-accrual loans, past due loans, potential problem loans, criticized loans and net charge-offs or recoveries, among other factors.

The level of the allowance reflects management’s continuing evaluation of industry concentrations, specific credit risks, loan loss experience, current loan portfolio quality, present economic, political and regulatory conditions and unidentified losses inherent in the current loan portfolio. Portions of the allowance may be allocated for specific loans; however, the entire allowance is available for any loan that, in management’s judgment, should be charged off. While management utilizes its best judgment and information available, the adequacy of the allowance is dependent upon a variety of factors beyond the Company’s control, including, among other things, the performance of the Company’s loan portfolio, the economy, changes in interest rates and the view of the regulatory authorities toward loan classifications.

The Company’s allowance for loan losses consists of specific valuation allowances and general valuation allowances based on historical loan loss experience for similar loans with similar characteristics and trends, general economic conditions and other qualitative risk factors both internal and external to the Company.

The allowances established for probable losses on specific loans are based on a regular analysis and evaluation of problem loans. Loans are classified based on an internal risk grading process that evaluates the obligor’s ability to repay, the underlying collateral, if any, and the economic environment and industry in which the borrower operates. When a loan is considered impaired, the loan is analyzed to determine the need, if any, to specifically allocate a portion of the allowance for loan losses to the loan. Specific valuation allowances are determined by analyzing the borrower’s ability to repay amounts owed, collateral deficiencies, the relative risk ranking of the loan and economic conditions affecting the borrower’s industry.

General valuation allowances are calculated based on the historical loss experience of specific types of loans including an evaluation of the time span and volume of the actual charge-off. The Company calculates historical loss ratios for pools of similar loans with similar characteristics based on the proportion of actual charge-offs experienced to the total population of loans in the pool. The historical loss ratios are updated based on actual charge-off experience. A valuation allowance is established for each pool of similar loans based upon the product of the historical loss ratio, time span to charge-off, and the total dollar amount of the loans in the pool. The Company’s pools of similar loans include similarly risk-graded groups of commercial loans, commercial real estate loans, commercial credit card, home equity loans, consumer real estate loans and consumer and other loans. The Company also considers a loan migration analysis for criticized loans. This analysis includes an assessment of the probability that a loan will move to a loss position based on its criticized category. In addition, a portion of the allowance is determined by a review of qualitative factors by management including external factors such as legal and regulatory requirements, competition, unemployment, and other economic and business conditions. The qualitative review also includes an assessment of internal factors such as changes in lending policies and procedures, quality of Company’s loan review system, experience of management and staff, and credit concentrations.

This table provides a rollforward of the allowance for loan losses by portfolio segment for the three and nine months ended September 30, 2011 (in thousands):


	Three Months Ended September 30, 2012
	Commercial			Real estate			Consumer			Leases		Total
Allowance for loan losses:
Beginning balance	$	37,942		$	22,660		$	12,001		$	49	$	72,652
Charge-offs		(3,147	)		(316	)		(3,087	)		—		(6,550	)
Recoveries		151			16			599			—		766
Provision		8,167			(5,591	)		1,916			8		4,500

Ending Balance	$	43,113		$	16,769		$	11,429		$	57	$	71,368


	Nine Months Ended September 30, 2012
	Commercial			Real estate			Consumer			Leases		Total
Allowance for loan losses:
Beginning balance	$	37,927		$	20,486		$	13,593		$	11	$	72,017
Charge-offs		(6,385	)		(724	)		(9,674	)		—		(16,783	)
Recoveries		401			25			2,208			—		2,634
Provision		11,170			(3,018	)		5,302			46		13,500

Ending Balance	$	43,113		$	16,769		$	11,429		$	57	$	71,368

Ending Balance: individually evaluated for impairment	$	1,591		$	1,067		$	—		$	—	$	2,658
Ending Balance: collectively evaluated for impairment		41,522			15,702			11,429			57		68,710
Ending Balance: loans acquired with deteriorated credit quality		—			—			—			—		—
Loans:
Ending Balance: loans	$	2,800,529		$	2,183,960		$	386,490		$	18,784	$	5,389,763
Ending Balance: individually evaluated for impairment		18,380			14,396			45			—		32,821
Ending Balance: collectively evaluated for impairment		2,782,149			2,169,564			386,445			18,784		5,356,942
Ending Balance: loans acquired with deteriorated credit quality		—			—			—			—		—

This table provides a rollforward of the allowance for loan losses by portfolio segment for the three and nine months ended September 30, 2011 (in thousands):


	Three Months Ended September 30, 2011
	Commercial			Real estate			Consumer			Leases		Total
Allowance for loan losses:
Beginning balance	$	35,604		$	22,886		$	13,941		$	11	$	72,442
Charge-offs		(1,372	)		(48	)		(3,575	)		—		(4,995	)
Recoveries		108			9			812			—		929
Provision		3,226			(1,033	)		2,307			—		4,500

Ending Balance	$	37,566		$	21,814		$	13,485		$	11	$	72,876


	Nine Months Ended September 30, 2011
	Commercial			Real estate			Consumer			Leases			Total
Allowance for loan losses:
Beginning balance	$	39,138		$	18,557		$	16,243		$	14		$	73,952
Charge-offs		(9,456	)		(505	)		(11,888	)		—			(21,849	)
Recoveries		484			24			3,065			—			3,573
Provision		7,400			3,738			6,065			(3	)		17,200

Ending Balance	$	37,566		$	21,814		$	13,485		$	11		$	72,876

Ending Balance: individually evaluated for impairment	$	1,597		$	616		$	—		$	—		$	2,213
Ending Balance: collectively evaluated for impairment		35,969			21,198			13,485			11			70,663
Ending Balance: loans acquired with deteriorated credit quality		—			—			—			—			—
Loans:
Ending Balance: loans	$	2,202,500		$	2,169,750		$	399,526		$	4,295		$	4,776,071
Ending Balance: individually evaluated for impairment		5,115			10,729			23			—			15,867
Ending Balance: collectively evaluated for impairment		2,197,385			2,159,021			399,503			4,295			4,760,204
Ending Balance: loans acquired with deteriorated credit quality		—			—			—			—			—

Impaired Loans

This table provides an analysis of impaired loans by class at September 30, 2012 and December 31, 2011 (in thousands):


	September 30, 2012
	Unpaid Principal Balance		Recorded Investment with No Allowance		Recorded Investment with Allowance		Total Recorded Investment		Related Allowance		Average Recorded Investment
Commercial:
Commercial	$	21,687	$	7,455	$	5,984	$	13,439	$	1,591	$	12,844
Commercial – credit card		—		—		—		—		—		—
Real estate:
Real estate – construction		263		262		—		262		—		78
Real estate – commercial		11,784		9,076		2,515		11,591		981		10,158
Real estate – residential		2,498		1,625		368		1,993		86		2,794
Real estate – HELOC		—		—		—		—		—		—
Consumer:
Consumer – credit card		—		—		—		—		—		—
Consumer – other		45		45		—		45		—		42
Leases		—		—		—		—		—		—

Total	$	36,277	$	18,463	$	8,867	$	27,330	$	2,658	$	25,916


	December 31, 2011
	Unpaid Principal Balance		Recorded Investment with No Allowance		Recorded Investment with Allowance		Total Recorded Investment		Related Allowance		Average Recorded Investment
Commercial:
Commercial	$	14,368	$	2,940	$	8,121	$	11,061	$	3,662	$	8,038
Commercial – credit card		—		—		—		—		—		—
Real estate:
Real estate – construction		90		50		—		50		—		15
Real estate – commercial		9,323		7,983		1,247		9,230		226		7,000
Real estate – residential		3,568		2,329		859		3,188		42		2,312
Real estate – HELOC		—		—		—		—		—		—
Consumer:
Consumer – credit card		—		—		—		—		—		—
Consumer – other		23		23		—		23		—		28
Leases		—		—		—		—		—		—

Total	$	27,372	$	13,325	$	10,227	$	23,552	$	3,930	$	17,393

Troubled Debt Restructurings

The Company adopted ASU No. 2011-02, “A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring (TDR),” as of July 1, 2011. This update provides additional guidance on evaluating whether a modification or restructuring of a receivable is a TDR. A loan modification is considered a TDR when a concession had been granted to a debtor experiencing financial difficulties. The Company assessed loan modifications made to borrowers experiencing financial distress occurring after January 1, 2011. The Company’s modifications generally include interest rate adjustments, and amortization and maturity date extensions. These modifications allow the debtor short-term cash relief to allow them to improve their financial condition. The Company’s restructured loans are individually evaluated for impairment and evaluated as part of the allowance for loan loss as described above in the Allowance for Loan Losses section of this note. There was no significant impact to the allowance for loan losses as a result of adopting the new guidance.

The Company had $1.2 million and $2.0 thousand in commitments to lend to borrowers with loan modifications classified as TDR’s as of September 30, 2012 and September 30, 2011, respectively. The Company made no TDR’s in the last 12 months that had payment defaults for the three or nine month periods ended September 30, 2012 or September 30, 2011.

This table provides a summary of loans restructured by class for the three and nine months ended September 30, 2012 (in thousands):



	Three Months Ended September 30, 2012						Nine Months Ended September 30, 2012
	Number of Contracts		Pre-Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment		Number of Contracts		Pre-Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment
Troubled Debt Restructurings
Commercial:
Commercial		4	$	853	$	821		6	$	3,785	$	3,760
Commercial – credit card		—		—		—		—		—		—
Real estate:
Real estate – construction		—		—		—		—		—		—
Real estate – commercial		—		—		—		—		—		—
Real estate – residential		—		—		—		—		—		—
Real estate – HELOC		—		—		—		—		—		—
Consumer:
Consumer – credit card		—		—		—		—		—		—
Consumer – other		—		—		—		—		—		—
Leases		—		—		—		—		—		—

Total		4	$	853	$	821		6	$	3,785	$	3,760

This table provides a summary of loans restructured by class for the three and nine months ended September 30, 2011 (in thousands):



	Three Months Ended September 30, 2011						Nine Months Ended September 30, 2011
	Number of Contracts		Pre-Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment		Number of Contracts		Pre-Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment
Troubled Debt Restructurings
Commercial:
Commercial		—	$	—	$	—		1	$	250	$	250
Commercial – credit card		—		—		—		—		—		—
Real estate:
Real estate – construction		—		—		—		—		—		—
Real estate – commercial		—		—		—		2		2,806		2,862
Real estate – residential		1		162		162		2		862		862
Real estate – HELOC		—		—		—		—		—		—
Consumer:
Consumer – credit card		—		—		—		—		—		—
Consumer – other		—		—		—		—		—		—
Leases		—		—		—		—		—		—

Total		1	$	162	$	162		5	$	3,918	$	3,974