(5) Loans and Allowance for Loan Losses

Management closely monitors the quality of the loan portfolio and has established a loan review process designed to help grade the quality and profitability of the Company’s loan portfolio. The credit quality grade helps management make a consistent assessment of each loan relationship’s credit risk. Consistent with regulatory guidelines, The Bank of Greene County provides for the classification of loans considered being of lesser quality. Such ratings coincide with the “Substandard,” “Doubtful” and “Loss” classifications used by federal regulators in their examination of financial institutions. Generally, an asset is considered Substandard if it is inadequately protected by the current net worth and paying capacity of the obligors and/or the collateral pledged. Substandard assets include those characterized by the distinct possibility that the insured financial institution will sustain some loss if the deficiencies are not corrected. Assets classified as Doubtful have all the weaknesses inherent in assets classified Substandard with the added characteristic that the weaknesses present make collection or liquidation in full, on the basis of currently existing facts, highly questionable and improbable. Assets classified as Loss are those considered uncollectible and of such little value that their continuance as assets without the establishment of a full loss reserve and/or charge-off is not warranted. Assets that do not currently expose the Company to sufficient risk to warrant classification in one of the aforementioned categories but otherwise possess weaknesses are designated “Special Mention.” Management also maintains a listing of loans designated “Watch.” These loans represent borrowers with declining earnings, strained cash flow, increasing leverage and/or weakening market fundamentals that indicate above average risk.

When The Bank of Greene County classifies problem assets as either Substandard or Doubtful, it generally establishes a specific valuation allowance or “loss reserve” in an amount deemed prudent by management. General allowances represent loss allowances that have been established to recognize the inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular loans. When The Bank of Greene County identifies problem loans as being impaired, it is required to evaluate whether the Bank will be able to collect all amounts due either through repayments or the liquidation of the underlying collateral. If it is determined that impairment exists, the Bank is required either to establish a specific allowance for losses equal to the amount of impairment of the assets, or to charge-off such amount. The Bank of Greene County’s determination as to the classification of its loans and the amount of its valuation allowance is subject to review by its regulatory agencies, which can order the establishment of additional general or specific loss allowances. The Bank of Greene County reviews its portfolio monthly to determine whether any assets require classification in accordance with applicable regulations.

The Bank primarily has four segments within its loan portfolio that it considers when measuring credit quality: real estate loans, home equity, consumer installment and commercial loans. The real estate portfolio consists of residential, nonresidential, and construction loan classes. The inherent risk within the loan portfolio varies depending upon each of these loan types.

The Bank of Greene County’s primary lending activity is the origination of residential mortgage loans, including home equity loans, which are collateralized by residences. Generally, residential mortgage loans are made in amounts up to 89.9% of the appraised value of the property. However, The Bank of Greene County will originate residential mortgage loans with loan-to-value ratios of up to 95.0%, with private mortgage insurance. In the event of default by the borrower, The Bank of Greene County will acquire and liquidate the underlying collateral. By originating the loan at a loan-to-value ratio of 89.9% or less or obtaining private mortgage insurance, The Bank of Greene County limits its risk of loss in the event of default. However, the market values of the collateral may be adversely impacted by declines in the economy. Home equity loans may have an additional inherent risk if The Bank of Greene County does not hold the first mortgage. The Bank of Greene County may stand in a secondary position in the event of collateral liquidation resulting in a greater chance of insufficiency to meet all obligations.

Construction lending generally involves a greater degree of risk than other residential mortgage lending. The repayment of the construction loan is, to a great degree, dependent upon the successful and timely completion of the construction of the subject property within specified cost limits. The Bank of Greene County completes inspections during the construction phase prior to any disbursements. The Bank of Greene County limits its risk during the construction as disbursements are not made until the required work for each advance has been completed. Construction delays may further impair the borrower’s ability to repay the loan.

Loans collateralized by nonresidential mortgage loans, and multi-family loans, such as apartment buildings generally are larger than residential loans and involve a greater degree of risk. Commercial mortgage loans often involve large loan balances to single borrowers or groups of related borrowers. Payments on these loans depend to a large degree on the results of operations and management of the properties or underlying businesses, and may be affected to a greater extent by adverse conditions in the real estate market or the economy in general. Accordingly, the nature of nonresidential mortgage loans makes them more difficult for management to monitor and evaluate.

Consumer loans generally have shorter terms and higher interest rates than residential mortgage loans. In addition, consumer loans expand the products and services offered by The Bank of Greene County to better meet the financial services needs of its customers. Consumer loans generally involve greater credit risk than residential mortgage loans because of the difference in the nature of the underlying collateral. Repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan balance because of the greater likelihood of damage, loss or depreciation in the underlying collateral. The remaining deficiency often does not warrant further substantial collection efforts against the borrower beyond obtaining a deficiency judgment. In addition, consumer loan collections depend on the borrower’s personal financial stability. Furthermore, the application of various federal and state laws, including federal and state bankruptcy and insolvency laws, may limit the amount that can be recovered on such loans.

Commercial lending generally involves greater risk than residential mortgage lending and involves risks that are different from those associated with residential and nonresidential mortgage lending. Real estate lending is generally considered to be collateral-based, with loan amounts based on fixed loan-to-collateral values, and liquidation of the underlying real estate collateral is viewed as the primary source of repayment in the event of borrower default. Although commercial loans may be collateralized by equipment or other business assets, the liquidation of collateral in the event of a borrower default is often an insufficient source of repayment because equipment and other business assets may be obsolete or of limited use, among other things. Accordingly, the repayment of a commercial loan depends primarily on the creditworthiness of the borrower (and any guarantors), while liquidation of collateral is a secondary and often insufficient source of repayment.

Loan balances by internal credit quality indicator as of September 30, 2014 are shown below.

(In thousands)	Performing		Watch		Special Mention		Substandard		Total
Residential mortgage	$	222,888	$	286	$	99	$	2,726	$	225,999
Nonresidential mortgage		114,843		-		1,770		2,867		119,480
Residential construction and land		2,922		-		-		-		2,922
Commercial construction		4,155		-		-		-		4,155
Multi-family		4,407		-		-		111		4,518
Home equity		20,564		222		-		317		21,103
Consumer installment		4,172		9		-		-		4,181
Commercial loans		29,795		147		353		890		31,185
Total gross loans	$	403,746	$	664	$	2,222	$	6,911	$	413,543

Loan balances by internal credit quality indicator as of June 30, 2014 are shown below.

(In thousands)	Performing		Watch		Special Mention		Substandard		Total
Residential mortgage	$	223,772	$	221	$	99	$	3,281	$	227,373
Nonresidential mortgage		109,281		-		1,789		2,996		114,066
Residential construction and land		3,005		-		-		-		3,005
Commercial construction		1,558		-		-		-		1,558
Multi-family		3,946		-		-		113		4,059
Home equity		20,239		-		-		339		20,578
Consumer installment		4,208		-		-		-		4,208
Commercial loans		29,686		-		385		923		30,994
Total gross loans	$	395,695	$	221	$	2,273	$	7,652	$	405,841

The Company had no loans classified Doubtful or Loss at September 30, 2014 or June 30, 2014.

Nonaccrual Loans

Management places loans on nonaccrual status once the loans have become 90 days or more delinquent. A nonaccrual loan is defined as a loan in which collectability is questionable and therefore interest on the loan will no longer be recognized on an accrual basis. A loan is not placed back on accrual status until the borrower has demonstrated the ability and willingness to make timely payments on the loan. A loan does not have to be 90 days delinquent in order to be classified as nonaccrual. Nonaccrual loans consisted primarily of loans secured by real estate at September 30, 2014 and June 30, 2014. While the Bank makes every reasonable effort to work with the borrowers to collect amounts due, the number of loans in process of foreclosure has remained historically high over the past several years. These high levels have been the result of adverse changes within the economy and increases in local unemployment. These levels are also due in part to the extended length of time required to meet all of the legal requirements mandated by New York state law prior to a foreclosure sale, which may be in excess of two years. Loans on nonaccrual status totaled $5.8 million at September 30, 2014 of which $2.7 million were in the process of foreclosure. Included in nonaccrual loans were $1.9 million of loans which were less than 90 days past due at September 30, 2014, but have a recent history of delinquency greater than 90 days past due. These loans will be returned to accrual status once they have demonstrated a history of timely payments. Included in total loans past due were $916,000 of loans which were making payments pursuant to forbearance agreements. Under the forbearance agreements, the customers have made arrangements with the Bank to bring the loans current over a specified period of time (resulting in an insignificant delay in repayment). During this term of the forbearance agreement, the Bank has agreed not to continue foreclosure proceedings. Loans on nonaccrual status totaled $5.9 million at June 30, 2014 of which $3.0 million were in the process of foreclosure. Included in nonaccrual loans were $922,000 of loans which were less than 90 days past due at June 30, 2014, but have a recent history of delinquency greater than 90 days past due.

The following table sets forth information regarding delinquent and/or nonaccrual loans as of September 30, 2014:

(In thousands)	30-59 days past due		60-89 days past due		90 days or more past due		Total past due		Current		Total Loans		Loans on Non-accrual
Residential mortgage	$	1,699	$	235	$	1,867	$	3,801	$	222,198	$	225,999	$	1,924
Nonresidential mortgage		-		430		1,787		2,217		117,263		119,480		3,144
Residential construction and land		-		-		-		-		2,922		2,922		-
Commercial construction		-		-		-		-		4,155		4,155		-
Multi-family		-		-		-		-		4,518		4,518		-
Home equity		104		222		317		643		20,460		21,103		317
Consumer installment		64		9		-		73		4,108		4,181		-
Commercial loans		789		147		175		1,111		30,074		31,185		426
Total gross loans	$	2,656	$	1,043	$	4,146	$	7,845	$	405,698	$	413,543	$	5,811

The following table sets forth information regarding delinquent and/or nonaccrual loans as of June 30, 2014:

(In thousands)	30-59 days past due		60-89 days past due		90 days or more past due		Total past due		Current		Total Loans		Loans on Non-accrual
Residential mortgage	$	1,047	$	290	$	1,938	$	3,275	$	224,098	$	227,373	$	2,473
Nonresidential mortgage		-		504		2,688		3,192		110,874		114,066		2,775
Residential construction and land		-		-		-		-		3,005		3,005		-
Commercial construction		-		-		-		-		1,558		1,558		-
Multi-family		-		-		-		-		4,059		4,059		-
Home equity		260		-		339		599		19,979		20,578		339
Consumer installment		51		-		-		51		4,157		4,208		-
Commercial loans		509		123		278		910		30,084		30,994		312
Total gross loans	$	1,867	$	917	$	5,243	$	8,027	$	397,814	$	405,841	$	5,899

The Bank of Greene County had accruing loans delinquent more than 90 days as of September 30, 2014 totaling $263,000 and had accruing loans delinquent more than 90 days as of June 30, 2014 totaling $266,000. The loans delinquent more than 90 days and accruing consist of loans that are well collateralized and the borrowers have demonstrated the ability and willingness to pay. The borrower has made arrangements with the Bank to bring the loan current within a specified time period and has made a series of payments as agreed.

The table below details additional information related to nonaccrual loans for the three months ended September 30:

(In thousands)	2014		2013
Interest income that would have been recorded if loans had been performing in accordance with original terms	$	128	$	125
Interest income that was recorded on nonaccrual loans		46		29

Impaired Loan Analysis

The Company identifies impaired loans and measures the impairment in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) subtopic “Receivables – Loan Impairment.” Management may consider a loan impaired once it is classified as nonaccrual and when it is probable that the borrower will be unable to repay the loan according to the original contractual terms of the loan agreement or the loan is restructured in a troubled debt restructuring. It should be noted that management does not evaluate all loans individually for impairment. The Bank of Greene County considers residential mortgages, home equity loans, smaller commercial loans and installment loans as small, homogeneous loans, which are evaluated for impairment collectively based on historical loan experience and other factors. In contrast, large commercial mortgage, construction, multi-family and commercial loans are viewed individually and considered impaired if it is probable that The Bank of Greene County will not be able to collect scheduled payments of principal and interest when due, according to the contractual terms of the loan agreement. The measurement of impaired loans is generally based on the fair value of the underlying collateral. The majority of The Bank of Greene County loans, including most nonaccrual loans, are small homogenous loan types adequately supported by collateral. Management considers the payment status of loans in the process of evaluating the adequacy of the allowance for loan losses among other factors. Loans that are either delinquent a minimum of 60 days or are on nonaccrual status, and are not individually evaluated for impairment, are either designated as Special Mention or Substandard, and the allocation of the allowance for loan loss is based upon the risk associated with such designation. Loans that have been modified as a troubled debt restructuring are included in impaired loans. The measurement of impairment is generally based on the discounted cash flows based on the original rate of the loan before the restructuring, unless it is determined that the restructured loan is collateral dependent. If the restructured loan is deemed to be collateral dependent, impairment is based on the fair value of the underlying collateral.

The tables below detail additional information on impaired loans at the date or periods indicated:

	As of September 30, 2014						For the three months ended September 30, 2014
(In thousands)	Recorded Investment		Unpaid Principal		Related Allowance		Average Recorded Investment		Interest Income Recognized
With no related allowance recorded:
Residential mortgage	$	206	$	206	$	-	$	206	$	3
Nonresidential mortgage		456		456		-		458		7
Home equity		96		96		-		96		-
		758		758		-		760		10
With an allowance recorded:
Residential mortgage		2,466		2,556		370		2,585		31
Nonresidential mortgage		2,448		2,835		315		2,522		42
Home equity		200		200		87		200		-
Commercial loans		600		600		3		601		10
		5,714		6,191		775		5,908		83
Total impaired:
Residential mortgage		2,672		2,762		370		2,791		34
Nonresidential mortgage		2,904		3,291		315		2,980		49
Home equity		296		296		87		296		-
Commercial loans		600		600		3		601		10
	$	6,472	$	6,949	$	775	$	6,668	$	93

	As of June 30, 2014						For the three months ended September 30, 2013
(In thousands)	Recorded Investment		Unpaid Principal		Related Allowance		Average Recorded Investment		Interest Income Recognized
With no related allowance recorded:
Residential mortgage	$	206	$	206	$	-	$	590	$	-
Nonresidential mortgage		461		461		-		653		9
Home equity		96		96		-		-		-
		763		763		-		1,243		9
With an allowance recorded:
Residential mortgage		2,700		2,790		441		3,135		15
Nonresidential mortgage		2,572		2,959		338		1,561		8
Commercial construction		-		-		-		1,052		18
Multi-family		-		-		-		463		-
Home equity		200		200		87		-		-
Commercial loans		603		603		3		608		10
		6,075		6,552		869		6,819		51

Residential mortgage		2,906		2,996		441		3,725		15
Nonresidential mortgage		3,033		3,420		338		2,214		17
Commercial construction		-		-		-		1,052		18
Multi-family		-		-		-		463		-
Home equity		296		296		87		-		-
Commercial loans		603		603		3		608		10
	$	6,838	$	7,315	$	869	$	8,062	$	60

There were no loans that have been modified as a troubled debt restructuring during the three months ended September 30, 2014.

The table below details loans that have been modified as a troubled debt restructuring during the three months ended September 30, 2013.

(Dollars in thousands)	Number of Contracts		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Current Outstanding Recorded Investment
Residential mortgage		2	$	367	$	367	$	365
Nonresidential mortgage		1		442		442		440

These loans have been classified as troubled debt restructurings due to concessions granted to the debtors that The Bank of Greene County would not otherwise consider as a result of financial difficulties of the borrowers. For these loans, concessions consisted of any combination of the following: additional funds were advanced, the interest rate was reduced and/or the term extended. If the borrower performs under the terms of the modification, and the ultimate collectability of all amounts contractually due under the modified terms is not in doubt, these loans will be returned to accrual status. These loans identified as a troubled debt restructuring have been evaluated for impairment and the impact to the allowance for loan loss was immaterial.

There were no loans that have been modified as a troubled debt restructuring during the previous twelve months which has subsequently defaulted during the three months ended September 30, 2014.

The table below details loans that have been modified as a troubled debt restructuring during the previous twelve months which has subsequently defaulted during the three months ended September 30, 2013:

(Dollars in thousands)	Number of Contracts		Recorded Investment		Allowance for Loan Loss
Residential mortgage		1	$	73	$	--
Nonresidential mortgage		1		547		182

Allowance for Loan Losses

The allowance for loan losses is established through a provision for loan losses based on management’s evaluation of the risk inherent in the loan portfolio, the composition of the loan portfolio, specific impaired loans and current economic conditions. Such evaluation, which includes a review of certain identified loans on which full collectability may not be reasonably assured, considers among other matters, the estimated net realizable value or the fair value of the underlying collateral, economic conditions, payment status of the loan, historical loan loss experience and other factors that warrant recognition in providing for the loan loss allowance. In addition, various regulatory agencies, as an integral part of their examination process, periodically review The Bank of Greene County’s allowance for loan losses. Such agencies may require The Bank of Greene County to recognize additions to the allowance based on their judgment about information available to them at the time of their examination. The Bank of Greene County considers smaller balance residential mortgages, home equity loans, commercial loans and installment loans to customers as small, homogeneous loans, which are evaluated for impairment collectively based on historical loss experience. Larger balance residential, commercial mortgage and business loans are viewed individually and considered impaired if it is probable that The Bank of Greene County will not be able to collect scheduled payments of principal and interest when due, according to the contractual terms of the loan agreements. The measurement of impaired loans is generally based on the fair value of the underlying collateral. The Bank of Greene County charges loans off against the allowance for credit losses when it becomes evident that a loan cannot be collected within a reasonable amount of time or that it will cost the Bank more than it will receive, and all possible avenues of repayment have been analyzed, including the potential of future cash flow, the value of the underlying collateral, and strength of any guarantors or co-borrowers. Generally, consumer loans and smaller business loans (not secured by real estate) in excess of 90 days are charged-off against the allowance for loan losses, unless equitable arrangements are made. For loans secured by real estate, a charge-off is recorded when it is determined that the collection of all or a portion of a loan may not be collected and the amount of that loss can be reasonably estimated.

The following tables set forth the activity and allocation of the allowance for loan losses by loan category during and at the periods indicated. The allowance is allocated to each loan category based on historical loss experience and economic conditions.

	Activity for the three months ended September 30, 2014
(In thousands)	Balance at June 30, 2014		Charge-offs		Recoveries		Provision			Balance at September 30, 2014
Residential mortgage	$	2,731	$	74	$	-	$	(10	)	$	2,647
Nonresidential mortgage		2,936		-		-		228			3,164
Residential construction and land		42		-		-		(1	)		41
Commercial construction		38		-		-		71			109
Multi-family		59		-		-		(14	)		45
Home equity		361		-		-		15			376
Consumer installment		240		55		19		39			243
Commercial loans		811		-		-		20			831
Unallocated		201		-		-		63			264
Total	$	7,419	$	129	$	19	$	411		$	7,720

	Allowance for Loan Losses				Loans Receivable
	Ending Balance September 30, 2014 Impairment Analysis				Ending Balance September 30, 2014 Impairment Analysis
(In thousands)	Individually Evaluated		Collectively Evaluated		Individually Evaluated		Collectively Evaluated
Residential mortgage	$	370	$	2,277	$	2,672	$	223,327
Nonresidential mortgage		315		2,849		2,904		116,576
Residential construction and land		-		41		-		2,922
Commercial construction		-		109		-		4,155
Multi-family		-		45		-		4,518
Home equity		87		289		296		20,807
Consumer installment		-		243		-		4,181
Commercial loans		3		828		600		30,585
Unallocated		-		264		-		-
Total	$	775	$	6,945	$	6,472	$	407,071

	Activity for the three months ended September 30, 2013
(In thousands)	Balance at June 30, 2013		Charge-offs		Recoveries		Provision			Balance at September 30, 2013
Residential mortgage	$	2,627	$	77	$	-	$	8		$	2,558
Nonresidential mortgage		2,476		-		-		146			2,622
Residential construction and land		37		-		-		9			46
Commercial construction		392		-		-		(36	)		356
Multi-family		139		-		-		(29	)		110
Home equity		275		-		-		18			293
Consumer installment		222		59		15		43			221
Commercial loans		809		204		-		217			822
Unallocated		63		-		-		(63	)		-
Total	$	7,040	$	340	$	15	$	313		$	7,028

	Allowance for Loan Losses				Loans Receivable
	Ending Balance June 30, 2014 Impairment Analysis				Ending Balance June 30, 2014 Impairment Analysis
(In thousands)	Individually Evaluated		Collectively Evaluated		Individually Evaluated		Collectively Evaluated
Residential mortgage	$	441	$	2,290	$	2,906	$	224,467
Nonresidential mortgage		338		2,598		3,033		111,033
Residential construction and land		-		42		-		3,005
Commercial construction		-		38		-		1,558
Multi-family		-		59		-		4,059
Home equity		87		274		296		20,282
Consumer installment		-		240		-		4,208
Commercial loans		3		808		603		30,391
Unallocated		-		201		-		-
Total	$	869	$	6,550	$	6,838	$	399,003