NOTE 3 – LOANS

Portfolio loans were as follows (dollars in thousands):

	September 30, 2019			December 31, 2018
Commercial and industrial	$	492,085		$	513,345
Commercial real estate:
Residential developed		15,516			14,825
Unsecured to residential developers		—			—
Vacant and unimproved		36,083			44,169
Commercial development		677			712
Residential improved		114,147			98,500
Commercial improved		292,976			295,618
Manufacturing and industrial		121,069			114,887
Total commercial real estate		580,468			568,711
Consumer
Residential mortgage		225,012			238,174
Unsecured		303			130
Home equity		73,746			78,503
Other secured		5,613			6,795
Total consumer		304,674			323,602
Total loans		1,377,227			1,405,658
Allowance for loan losses		(17,145	)		(16,876	)
	$	1,360,082		$	1,388,782

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

Three months ended September 30, 2019	Commercial and Industrial		Commercial Real Estate		Consumer			Unallocated			Total
Beginning balance	$	7,231	$	6,309	$	3,296		$	50		$	16,886
Charge-offs		—		—		(48	)		—			(48	)
Recoveries		233		51		23			—			307
Provision for loan losses		23		105		(105	)		(23	)		—
Ending Balance	$	7,487	$	6,465	$	3,166		$	27		$	17,145

Three months ended September 30, 2018	Commercial and Industrial			Commercial Real Estate		Consumer			Unallocated		Total
Beginning balance	$	6,149		$	6,876	$	3,651		$	19	$	16,695
Charge-offs		—			—		(30	)		—		(30	)
Recoveries		17			71		50			—		138
Provision for loan losses		(25	)		23		(10	)		12		—
Ending Balance	$	6,141		$	6,970	$	3,661		$	31	$	16,803

Nine months ended September 30, 2019	Commercial and Industrial		Commercial Real Estate			Consumer			Unallocated		Total
Beginning balance	$	6,856	$	6,544		$	3,449		$	27	$	16,876
Charge-offs		—		(132	)		(114	)		—		(246	)
Recoveries		510		342			113			—		965
Provision for loan losses		121		(289	)		(282	)		—		(450	)
Ending Balance	$	7,487	$	6,465		$	3,166		$	27	$	17,145

Nine months ended September 30, 2018	Commercial and Industrial			Commercial Real Estate			Consumer			Unallocated			Total
Beginning balance	$	6,478		$	6,590		$	3,494		$	38		$	16,600
Charge-offs		(66	)		—			(90	)		—			(156	)
Recoveries		106			530			123			—			759
Provision for loan losses		(377	)		(150	)		134			(7	)		(400	)
Ending Balance	$	6,141		$	6,970		$	3,661		$	31		$	16,803

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

September 30, 2019	Commercial and Industrial		Commercial Real Estate		Consumer		Unallocated		Total
Allowance for loan losses:
Ending allowance attributable to loans:
Individually reviewed for impairment	$	1,184	$	35	$	411	$	—	$	1,630
Collectively evaluated for impairment		6,303		6,430		2,755		27		15,515
Total ending allowance balance	$	7,487	$	6,465	$	3,166	$	27	$	17,145
Loans:
Individually reviewed for impairment	$	4,901	$	3,034	$	5,561	$	—	$	13,496
Collectively evaluated for impairment		487,184		577,434		299,113		—		1,363,731
Total ending loans balance	$	492,085	$	580,468	$	304,674	$	—	$	1,377,227

December 31, 2018	Commercial and Industrial		Commercial Real Estate		Consumer		Unallocated		Total
Allowance for loan losses:
Ending allowance attributable to loans:
Individually reviewed for impairment	$	449	$	181	$	468	$	—	$	1,098
Collectively evaluated for impairment		6,407		6,363		2,981		27		15,778
Total ending allowance balance	$	6,856	$	6,544	$	3,449	$	27	$	16,876
Loans:
Individually reviewed for impairment	$	7,375	$	3,499	$	6,347	$	—	$	17,221
Collectively evaluated for impairment		505,970		565,212		317,255		—		1,388,437
Total ending loans balance	$	513,345	$	568,711	$	323,602	$	—	$	1,405,658

The following table presents loans individually evaluated for impairment by class of loans as of September 30, 2019 (dollars in thousands):

September 30, 2019	Unpaid Principal Balance		Recorded Investment		Allowance Allocated
With no related allowance recorded:
Commercial and industrial	$	1,230	$	1,230	$	—
Commercial real estate:
Residential developed		—		—		—
Unsecured to residential developers		—		—		—
Vacant and unimproved		—		—		—
Commercial development		—		—		—
Residential improved		484		484		—
Commercial improved		1,467		1,467		—
Manufacturing and industrial		—		—		—
		1,951		1,951		—
Consumer:
Residential mortgage		—		—		—
Unsecured		—		—		—
Home equity		—		—		—
Other secured		—		—		—
		—		—		—
Total with no related allowance recorded	$	3,181	$	3,181	$	—
With an allowance recorded:
Commercial and industrial	$	3,671	$	3,671	$	1,184
Commercial real estate:
Residential developed		79		79		3
Unsecured to residential developers		—		—		—
Vacant and unimproved		—		—		—
Commercial development		—		—		—
Residential improved		57		57		6
Commercial improved		584		584		15
Manufacturing and industrial		363		363		11
		1,083		1,083		35
Consumer:
Residential mortgage		4,408		4,408		326
Unsecured		217		217		16
Home equity		913		913		67
Other secured		23		23		2
		5,561		5,561		411
Total with an allowance recorded	$	10,315	$	10,315	$	1,630
Total	$	13,496	$	13,496	$	1,630

The following table presents loans individually evaluated for impairment by class of loans as of December 31, 2018 (dollars in thousands):

December 31, 2018	Unpaid Principal Balance		Recorded Investment		Allowance Allocated
With no related allowance recorded:
Commercial and industrial	$	2,515	$	1,375	$	—
Commercial real estate:
Residential developed		—		—		—
Unsecured to residential developers		—		—		—
Vacant and unimproved		143		143		—
Commercial development		—		—		—
Residential improved		140		140		—
Commercial improved		1,675		1,675		—
Manufacturing and industrial		—		—		—
		1,958		1,958		—
Consumer:
Residential mortgage		—		—		—
Unsecured		—		—		—
Home equity		—		—		—
Other secured		—		—		—
		—		—		—
Total with no related allowance recorded	$	4,473	$	3,333	$	—
With an allowance recorded:
Commercial and industrial	$	6,000	$	6,000	$	449
Commercial real estate:
Residential developed		172		172		2
Unsecured to residential developers		—		—		—
Vacant and unimproved		—		—		—
Commercial development		—		—		—
Residential improved		193		193		13
Commercial improved		794		794		155
Manufacturing and industrial		382		382		11
		1,541		1,541		181
Consumer:
Residential mortgage		5,029		5,029		371
Unsecured		—		—		—
Home equity		1,318		1,318		97
Other secured		—		—		—
		6,347		6,347		468
Total with an allowance recorded	$	13,888	$	13,888	$	1,098
Total	$	18,361	$	17,221	$	1,098

The following table presents information regarding average balances of impaired loans and interest recognized on impaired loans for the three and nine month periods ended September 30, 2019 and 2018 (dollars in thousands):

	Three Months Ended September 30, 2019		Three Months Ended September 30, 2018		Nine Months Ended September 30, 2019		Nine Months Ended September 30, 2018
Average of impaired loans during the period:
Commercial and industrial	$	3,781	$	4,089	$	5,304	$	4,968
Commercial real estate:
Residential developed		146		174		161		176
Unsecured to residential developers		—		—		—		—
Vacant and unimproved		62		259		107		227
Commercial development		—		—		—		42
Residential improved		538		389		421		1,007
Commercial improved		2,071		3,273		2,187		3,444
Manufacturing and industrial		366		392		372		348
Consumer		5,599		6,701		5,900		7,418
Interest income recognized during impairment:
Commercial and industrial		174		445		692		701
Commercial real estate		45		34		141		170
Consumer		70		72		210		227
Cash-basis interest income recognized
Commercial and industrial		160		457		707		716
Commercial real estate		48		39		149		168
Consumer		71		71		210		223

Nonaccrual loans include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans. The following tables present the recorded investment in nonaccrual and loans past due over 90 days still on accrual by class of loans as of September 30, 2019 and December 31, 2018:

September 30, 2019	Nonaccrual		Over 90 days Accruing
Commercial and industrial	$	—	$	—
Commercial real estate:
Residential developed		—		—
Unsecured to residential developers		—		—
Vacant and unimproved		—		—
Commercial development		—		—
Residential improved		102		—
Commercial improved		—		—
Manufacturing and industrial		—		—
		102		—
Consumer:
Residential mortgage		109		—
Unsecured		—		—
Home equity		—		—
Other secured		—		—
		109		—
Total	$	211	$	—

December 31, 2018	Nonaccrual		Over 90 days Accruing
Commercial and industrial	$	874	$	—
Commercial real estate:
Residential developed		—		—
Unsecured to residential developers		—		—
Vacant and unimproved		—		—
Commercial development		—		—
Residential improved		15		—
Commercial improved		303		—
Manufacturing and industrial		—		—
		318		—
Consumer:
Residential mortgage		111		—
Unsecured		—		—
Home equity		—		1
Other secured		—		—
		111		1
Total	$	1,303	$	1

The following table presents the aging of the recorded investment in past due loans as of September 30, 2019 and December 31, 2018 by class of loans (dollars in thousands):

September 30, 2019	30-90 Days		Greater Than 90 Days		Total Past Due		Loans Not Past Due		Total
Commercial and industrial	$	65	$	—	$	65	$	492,020	$	492,085
Commercial real estate:
Residential developed		—		—		—		15,516		15,516
Unsecured to residential developers		—		—		—		—		—
Vacant and unimproved		—		—		—		36,083		36,083
Commercial development		—		—		—		677		677
Residential improved		—		16		16		114,131		114,147
Commercial improved		—		—		—		292,976		292,976
Manufacturing and industrial		—		—		—		121,069		121,069
		—		16		16		580,452		580,468
Consumer:
Residential mortgage		2		107		109		224,903		225,012
Unsecured		5		—		5		298		303
Home equity		—		—		—		73,746		73,746
Other secured		12		—		12		5,601		5,613
		19		107		126		304,548		304,674
Total	$	84	$	123	$	207	$	1,377,020	$	1,377,227

December 31, 2018	30-90 Days		Greater Than 90 Days		Total Past Due		Loans Not Past Due		Total
Commercial and industrial	$	—	$	—	$	—	$	513,345	$	513,345
Commercial real estate:
Residential developed		—		—		—		14,825		14,825
Unsecured to residential developers		—		—		—		—		—
Vacant and unimproved		57		—		57		44,112		44,169
Commercial development		—		—		—		712		712
Residential improved		86		16		102		98,398		98,500
Commercial improved		100		303		403		295,215		295,618
Manufacturing and industrial		—		—		—		114,887		114,887
		243		319		562		568,149		568,711
Consumer:
Residential mortgage		—		110		110		238,064		238,174
Unsecured		7		—		7		123		130
Home equity		67		1		68		78,435		78,503
Other secured		130		—		130		6,665		6,795
		204		111		315		323,287		323,602
Total	$	447	$	430	$	877	$	1,404,781	$	1,405,658

The Company had allocated $1,630,000 and $1,098,000 of specific reserves to customers whose loan terms have been modified in troubled debt restructurings (“TDRs”) as of September 30, 2019 and December 31, 2018, respectively. These loans may have involved the restructuring of terms to allow customers to mitigate the risk of foreclosure by meeting a lower loan payment requirement based upon their current cash flow. These may also include loans that renewed at existing contractual rates, but below market rates for comparable credit. The Company has been active at utilizing these programs and working with its customers to reduce the risk of foreclosure. For commercial loans, these modifications typically include an interest only period and, in some cases, a lowering of the interest rate on the loan. In some cases, the modification will include separating the note into two notes with the first note structured to be supported by current cash flows and collateral, and the second note made for the remaining unsecured debt. The second note is charged off immediately and collected only after the first note is paid in full. This modification type is commonly referred to as an A-B note structure. For consumer mortgage loans, the restructuring typically includes a lowering of the interest rate to provide payment and cash flow relief. For each restructuring, a comprehensive credit underwriting analysis of the borrower’s financial condition and prospects of repayment under the revised terms is performed to assess whether the structure can be successful and that cash flows will be sufficient to support the restructured debt. An analysis is also performed to determine whether the restructured loan should be on accrual status. Generally, if the loan is on accrual at the time of restructure, it will remain on accrual after the restructuring. In some cases, a nonaccrual loan may be placed on accrual at restructuring if the loan’s actual payment history demonstrates it would have cash flowed under the restructured terms. After six consecutive payments under the restructured terms, a nonaccrual restructured loan is reviewed for possible upgrade to accruing status.

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

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

The following table presents information regarding troubled debt restructurings as of September 30, 2019 and December 31, 2018 (dollars in thousands):

	September 30, 2019				December 31, 2018
	Number of Loans		Outstanding Recorded Balance		Number of Loans		Outstanding Recorded Balance
Commercial and industrial		7	$	4,901		18	$	6,502
Commercial real estate		17		3,005		22		3,305
Consumer		70		5,390		83		6,346
		94	$	13,296		123	$	16,153

The following table presents information related to accruing troubled debt restructurings as of September 30, 2019 and December 31, 2018. The table presents the amount of accruing troubled debt restructurings that were on nonaccrual status prior to the restructuring, accruing at the time of restructuring and those that were upgraded to accruing status after receiving six consecutive monthly payments in accordance with the restructured terms as of each period reported (dollars in thousands):

	September 30, 2019		December 31, 2018
Accruing TDR - nonaccrual at restructuring	$	—	$	—
Accruing TDR - accruing at restructuring		8,795		10,336
Accruing TDR - upgraded to accruing after six consecutive payments		4,399		5,693
	$	13,194	$	16,029

The following tables present information regarding troubled debt restructurings executed during the three and nine month periods ended September 30, 2019 and 2018 (dollars in thousands):

	Three Months Ended September 30, 2019						Three Months Ended September 30, 2018
	# of Loans		Pre-TDR Balance		Writedown Upon TDR		# of Loans		Pre-TDR Balance		Writedown Upon TDR
Commercial and industrial		—	$	—	$	—		2	$	244	$	—
Commercial real estate		—		—		—		—		—		—
Consumer		—		—		—		3		147		—
	$	—	$	—	$	—		5	$	391	$	—

	Nine Months Ended September 30, 2019						Nine Months Ended September 30, 2018
	# of Loans		Pre-TDR Balance		Writedown Upon TDR		# of Loans		Pre-TDR Balance		Writedown Upon TDR
Commercial and industrial		—	$	—	$	—		2	$	244	$	—
Commercial real estate		—		—		—		3		492		—
Consumer		1		24		—		7		239		—
		1	$	24	$	—		12	$	975	$	—

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

Payment defaults on TDRs have been minimal and during the three and nine month periods ended September 30, 2019 and 2018, the balance of loans that became delinquent by more than 90 days past due or that were transferred to nonaccrual within 12 months of restructuring were not material.

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

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

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

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

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

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

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

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

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

As of September 30, 2019 and December 31, 2018, the risk grade category of commercial loans by class of loans were as follows (dollars in thousands):

September 30, 2019		1		2		3		4		5		6		7		8	Total
Commercial and industrial	$	15,000	$	18,769	$	149,554	$	288,334	$	15,893	$	4,535	$	—	$	—	$	492,085
Commercial real estate:
Residential developed		—		—		312		15,204		—		—		—		—		15,516
Unsecured to residential developers		—		—		—		—		—		—		—		—		—
Vacant and unimproved		—		4,702		6,886		22,651		1,844		—		—		—		36,083
Commercial development		—		—		81		596		—		—		—		—		677
Residential improved		—		—		20,099		93,385		228		333		102		—		114,147
Commercial improved		—		6,238		68,713		214,247		3,421		357		—		—		292,976
Manufacturing & industrial		—		3,018		37,376		76,169		4,506		—		—		—		121,069
	$	15,000	$	32,727	$	283,021	$	710,586	$	25,892	$	5,225	$	102	$	—	$	1,072,553

December 31, 2018		1		2		3		4		5		6		7		8	Total
Commercial and industrial	$	15,000	$	15,708	$	164,901	$	299,622	$	11,186	$	6,054	$	874	$	—	$	513,345
Commercial real estate:
Residential developed		—		—		—		14,220		605		—		—		—		14,825
Unsecured to residential developers		—		—		—		—		—		—		—		—		—
Vacant and unimproved		—		7,635		3,543		30,688		2,303		—		—		—		44,169
Commercial development		—		—		86		626		—		—		—		—		712
Residential improved		—		—		19,645		78,337		311		192		15		—		98,500
Commercial improved		—		5,292		62,756		222,152		4,751		364		303		—		295,618
Manufacturing & industrial		—		3,372		24,799		81,261		5,455		—		—		—		114,887
	$	15,000	$	32,007	$	275,730	$	726,906	$	24,611	$	6,610	$	1,192	$	—	$	1,082,056

Commercial loans rated a 6 or worse per the Company’s internal risk rating system are considered substandard, doubtful or loss. Commercial loans classified as substandard or worse were as follows at period-end (dollars in thousands):

	September 30, 2019		December 31, 2018
Not classified as impaired	$	—	$	—
Classified as impaired		5,327		7,802
Total commercial loans classified substandard or worse	$	5,327	$	7,802

The Company considers the performance of the loan portfolio and its impact on the allowance for loan losses. For consumer loan classes, the Company also evaluates credit quality based on the aging status of the loan, which was previously presented, and by payment activity. The following table presents the recorded investment in consumer loans based on payment activity (dollars in thousands):

September 30, 2019	Residential Mortgage		Consumer Unsecured		Home Equity		Consumer Other
Performing	$	224,903	$	303	$	73,746	$	5,613
Nonperforming		109		—		—		—
Total	$	225,012	$	303	$	73,746	$	5,613

December 31, 2018	Residential Mortgage		Consumer Unsecured		Home Equity		Consumer Other
Performing	$	238,064	$	130	$	78,502	$	6,795
Nonperforming		110		—		1		—
Total	$	238,174	$	130	$	78,503	$	6,795