Loans

Major classifications of loans at June 30, 2018 and December 31, 2017 are as follows (in thousands):



	June 30, 2018		December 31, 2017
Commercial and industrial	$	81,778	$	36,057
Commercial, secured by real estate	705,978		527,947
Residential real estate	339,435		251,582
Consumer	17,705		17,450
Agricultural	13,390		15,194
Other loans, including deposit overdrafts	583		539
	1,158,869		848,769
Deferred origination costs, net	229		291
	1,159,098		849,060
Less allowance for loan losses	3,603		3,403
Loans, net	$	1,155,495	$	845,657

Non-accrual, past-due, and accruing restructured loans as of June 30, 2018 and December 31, 2017 are as follows (in thousands):



	June 30, 2018		December 31, 2017
Non-accrual loans:
Commercial and industrial	$	—	$	—
Commercial, secured by real estate	3,050		2,183
Residential real estate	838		604
Consumer	—		—
Agricultural	177		178
Total non-accrual loans	4,065		2,965
Past-due 90 days or more and still accruing	5		—
Total non-accrual and past-due 90 days or more and still accruing	4,070		2,965
Accruing restructured loans	10,228		10,469
Total	$	14,298	$	13,434

The allowance for loan losses for the three and six months ended June 30, 2018 and 2017 are as follows (in thousands):



	Commercial & Industrial			Commercial, Secured by Real Estate			Residential Real Estate			Consumer			Agricultural			Other			Total
Three Months Ended June 30, 2018
Balance, beginning of period	$	393		$	2,143		$	869		$	78		$	44		$	2		$	3,529
Provision charged to expenses	14			189			—			(1		)	8			14			224
Losses charged off	—			—			(192		)	(10		)	—			(30		)	(232		)
Recoveries	—			51			13			3			—			15			82
Balance, end of period	$	407		$	2,383		$	690		$	70		$	52		$	1		$	3,603

Six Months Ended June 30, 2018
Balance, beginning of year	$	378		$	2,178		$	717		$	76		$	53		$	1		$	3,403
Provision charged to expenses	29			58			186			7			(1		)	24			303
Losses charged off	—			(29		)	(227		)	(21		)	—			(61		)	(338		)
Recoveries	—			176			14			8			—			37			235
Balance, end of period	$	407		$	2,383		$	690		$	70		$	52		$	1		$	3,603

Three Months Ended June 30, 2017
Balance, beginning of period	$	353		$	2,007		$	809		$	91		$	66		$	2		$	3,328
Provision charged to expenses	(90		)	206			109			(20		)	(5		)	22			222
Losses charged off	—			(82		)	(118		)	(9		)	—			(31		)	(240		)
Recoveries	10			5			22			24			—			11			72
Balance, end of period	$	273		$	2,136		$	822		$	86		$	61		$	4		$	3,382

Six Months Ended June 30, 2017
Balance, beginning of year	$	350		$	2,179		$	885		$	96		$	60		$	5		3,575
Provision charged to expenses	(92		)	296			2			3			1			27			237
Losses charged off	—			(344		)	(135		)	(54		)	—			(61		)	(594		)
Recoveries	15			5			70			41			—			33			164
Balance, end of period	$	273		$	2,136		$	822		$	86		$	61		$	4		$	3,382

A breakdown of the allowance for loan losses and the loan portfolio by loan segment at June 30, 2018 and December 31, 2017 are as follows (in thousands):



	Commercial & Industrial		Commercial, Secured by Real Estate		Residential Real Estate		Consumer		Agricultural		Other		Total
June 30, 2018
Allowance for loan losses:
Individually evaluated for impairment	$	10	$	3	$	26	$	—	$	—	$	—	$	39
Collectively evaluated for impairment	397		2,380		664		70		52		1		3,564
Acquired credit impaired loans	—		—		—		—		—		—		—
Balance, end of period	$	407	$	2,383	$	690	$	70	$	52	$	1	$	3,603

Loans:
Individually evaluated for impairment	$	285	$	11,748	$	1,366	$	44	$	178	$	—	$	13,621
Collectively evaluated for impairment	80,154		688,669		335,934		17,771		13,232		213		1,135,973
Acquired credit impaired loans	1,378		5,171		2,585		—		—		370		9,504
Balance, end of period	$	81,817	$	705,588	$	339,885	$	17,815	$	13,410	$	583	$	1,159,098

December 31, 2017
Allowance for loan losses:
Individually evaluated for impairment	$	8	$	146	$	29	$	8	$	—	$	—	$	191
Collectively evaluated for impairment	370		2,032		688		68		53		1		3,212
Acquired credit impaired loans	—		—		—		—		—		—		—
Balance, end of period	$	378	$	2,178	$	717	$	76	$	53	$	1	$	3,403

Loans:
Individually evaluated for impairment	$	303	$	11,289	$	1,351	$	47	$	177	$	—	$	13,167
Collectively evaluated for impairment	34,792		512,259		248,674		17,516		15,033		137		828,411
Acquired credit impaired loans	1,008		4,048		2,024		—		—		402		7,482
Balance, end of period	$	36,103	$	527,596	$	252,049	$	17,563	$	15,210	$	539	$	849,060

The risk characteristics of LCNB's material loan portfolio segments are as follows:

Commercial and Industrial Loans. LCNB’s commercial and industrial loan portfolio consists of loans for various purposes, including loans to fund working capital requirements (such as inventory and receivables financing) and purchases of machinery and equipment. LCNB offers a variety of commercial and industrial loan arrangements, including term loans, balloon loans, and lines of credit. Most commercial and industrial loans have a variable rate, with adjustment periods ranging from one month to five years. Adjustments are generally based on a publicly available index rate plus a margin. The margin varies based on the terms and collateral securing the loan. Commercial and industrial loans are offered to businesses and professionals for short and medium terms on both a collateralized and uncollateralized basis. Commercial and industrial loans typically are underwritten on the basis of the borrower’s ability to make repayment from the cash flow of the business. Collateral, when obtained, may include liens on furniture, fixtures, equipment, inventory, receivables, or other assets. As a result, such loans involve complexities, variables, and risks that require thorough underwriting and more robust servicing than other types of loans.

Commercial, Secured by Real Estate Loans. Commercial real estate loans include loans secured by a variety of commercial, retail, and office buildings, religious facilities, multifamily (more than two-family) residential properties, construction and land development loans, and other land loans. Commercial real estate loan products generally amortize over five to twenty-five years and are payable in monthly principal and interest installments. Some have balloon payments due within one to ten years after the origination date. Many have adjustable interest rates with adjustment periods ranging from one to ten years, some of which are subject to established “floor” interest rates.

Commercial real estate loans are underwritten based on the ability of the property, in the case of income producing property, or the borrower’s business to generate sufficient cash flow to amortize the debt. Secondary emphasis is placed upon global debt service, collateral value, financial strength of any guarantors, and other factors. Commercial real estate loans are generally originated with a 75% to 80% maximum loan to appraised value ratio, depending upon borrower occupancy.

Residential Real Estate Loans. Residential real estate loans include loans secured by first or second mortgage liens on one to two-family residential properties. Home equity lines of credit and mortgage loans secured by owner-occupied agricultural property are included in this category. First and second mortgage loans are generally amortized over five to thirty years with monthly principal and interest payments. Home equity lines of credit generally have a five year draw period with interest only payments followed by a repayment period with monthly payments based on the amount outstanding. LCNB offers both fixed and adjustable rate mortgage loans. Adjustable rate loans are available with adjustment periods ranging between one to ten years and adjust according to an established index plus a margin, subject to certain floor and ceiling rates. Home equity lines of credit have a variable rate based on the Wall Street Journal prime rate plus a margin.

LCNB does not originate reverse mortgage loans or residential real estate loans generally considered to be “subprime.”

Residential real estate loans are underwritten primarily based on the borrower’s ability to repay, prior credit history, and the value of the collateral. LCNB generally requires private mortgage insurance for first mortgage loans that have a loan to appraised value ratio of greater than 80%.

Consumer Loans. LCNB’s portfolio of consumer loans generally includes secured and unsecured loans to individuals for household, family and other personal expenditures. Secured loans include loans to fund the purchase of automobiles, recreational vehicles, boats, and similar acquisitions. Consumer loans made by LCNB generally have fixed rates and terms ranging up to 72 months, depending upon the nature of the collateral, size of the loan, and other relevant factors.

Consumer loans generally have higher interest rates, but pose additional risks of collectibility and loss when compared to certain other types of loans. Collateral, if present, is generally subject to damage, wear, and depreciation. The borrower’s ability to repay is of primary importance in the underwriting of consumer loans.

Agricultural Loans. LCNB’s portfolio of agricultural loans includes loans for financing agricultural production or for financing the purchase of equipment used in the production of agricultural products. LCNB’s agricultural loans are generally secured by farm machinery, livestock, crops, vehicles, or other agricultural-related collateral.

LCNB uses a risk-rating system to quantify loan quality. A loan is assigned to a risk category based on relevant information about the ability of the borrower to service the debt including, but not limited to, current financial information, historical payment experience, credit documentation, public information, and current economic trends. The categories used are:


•	Pass – loans categorized in this category are higher quality loans that do not fit any of the other categories described below.


•	Other Assets Especially Mentioned ("OAEM") – loans in this category are currently protected but are potentially weak. These loans constitute a risk but not to the point of justifying a classification of substandard. The credit risk may be relatively minor yet constitute an undue risk in light of the circumstances surrounding a specific asset.


•	Substandard – loans in this category are inadequately protected by the current sound net worth and paying capacity of the obligor 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. They are characterized by the possibility that LCNB will sustain some loss if the deficiencies are not corrected.


•	Doubtful – loans classified in this category have all the weaknesses inherent in loans classified as substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

A breakdown of the loan portfolio by credit quality indicators at June 30, 2018 and December 31, 2017 is as follows (in thousands):



	Pass		OAEM		Substandard		Doubtful		Total
June 30, 2018
Commercial & industrial	$	81,341	$	134	$	342	$	—	$	81,817
Commercial, secured by real estate	685,745		790		18,838		215		705,588
Residential real estate	336,980		—		2,905		—		339,885
Consumer	17,788		—		27		—		17,815
Agricultural	13,233		—		177		—		13,410
Other	583		—		—		—		583
Total	$	1,135,670	$	924	$	22,289	$	215	$	1,159,098

December 31, 2017
Commercial & industrial	$	35,683	$	176	$	244	$	—	$	36,103
Commercial, secured by real estate	506,833		2,180		18,583		—		527,596
Residential real estate	250,039		—		2,010		—		252,049
Consumer	17,522		—		41		—		17,563
Agricultural	14,233		—		977		—		15,210
Other	539		—		—		—		539
Total	$	824,849	$	2,356	$	21,855	$	—	$	849,060

A loan portfolio aging analysis at June 30, 2018 and December 31, 2017 is as follows (in thousands):



	30-59 Days Past Due		60-89 Days Past Due		Greater Than 90 Days Past Due		Total Past Due		Current		Total Loans Receivable		Total Loans Greater Than 90 Days and Accruing
June 30, 2018
Commercial & industrial	$	3	$	24	$	—	$	27	$	81,790	$	81,817	$	—
Commercial, secured by real estate	35		—		1,531		1,566		704,022		705,588		—
Residential real estate	846		96		753		1,695		338,190		339,885		—
Consumer	23		20		5		48		17,767		17,815		5
Agricultural	—		—		177		177		13,233		13,410		—
Other	161		—		—		161		422		583		—
Total	$	1,068	$	140	$	2,466	$	3,674	$	1,155,424	$	1,159,098	$	5

December 31, 2017
Commercial & industrial	$	—	$	—	$	—	$	—	$	36,103	$	36,103	$	—
Commercial, secured by real estate	124		—		598		722		526,874		527,596		—
Residential real estate	362		135		496		993		251,056		252,049		—
Consumer	29		2		—		31		17,532		17,563		—
Agricultural	—		—		177		177		15,033		15,210		—
Other	82		—		—		82		457		539		—
Total	$	597	$	137	$	1,271	$	2,005	$	847,055	$	849,060	$	—

Impaired loans, including acquired credit impaired loans, at June 30, 2018 and December 31, 2017 are as follows (in thousands):



	June 30, 2018						December 31, 2017
	Recorded Investment		Unpaid Principal Balance		Related Allowance		Recorded Investment		Unpaid Principal Balance		Related Allowance
With no related allowance recorded:
Commercial & industrial	$	1,383	$	2,619	$	—	$	1,015	$	1,100	$	—
Commercial, secured by real estate	16,766		18,550		—		12,677		13,608		—
Residential real estate	3,396		4,277		—		2,822		3,516		—
Consumer	21		21		—		6		6		—
Agricultural	178		178		—		177		177		—
Other	370		515		—		402		554		—
Total	$	22,114	$	26,160	$	—	$	17,099	$	18,961	$	—

With an allowance recorded:
Commercial & industrial	$	280	$	285	$	10	$	296	$	301	$	8
Commercial, secured by real estate	153		153		3		2,660		2,660		146
Residential real estate	555		581		26		553		572		29
Consumer	23		23		—		41		41		8
Agricultural	—		—		—		—		—		—
Other	—		—		—		—		—		—
Total	$	1,011	$	1,042	$	39	$	3,550	$	3,574	$	191

Total:
Commercial & industrial	$	1,663	$	2,904	$	10	$	1,311	$	1,401	$	8
Commercial, secured by real estate	16,919		18,703		3		15,337		16,268		146
Residential real estate	3,951		4,858		26		3,375		4,088		29
Consumer	44		44		—		47		47		8
Agricultural	178		178		—		177		177		—
Other	370		515		—		402		554		—
Total	$	23,125	$	27,202	$	39	$	20,649	$	22,535	$	191

The following presents information related to the average recorded investment and interest income recognized on impaired loans, including acquired credit impaired loans, for the three and six months ended June 30, 2018 and 2017 (in thousands):



	2018				2017
	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
Three Months Ended June 30,
With no related allowance recorded:
Commercial & industrial	$	741	$	15	$	261	$	10
Commercial, secured by real estate	15,281		193		16,488		269
Residential real estate	2,934		49		3,351		47
Consumer	10		—		30		1
Agricultural	178		—		217		—
Other	391		11		463		14
Total	$	19,535	$	268	$	20,810	$	341

With an allowance recorded:
Commercial & industrial	$	283	$	4	$	314	$	4
Commercial, secured by real estate	154		3		1,087		25
Residential real estate	566		7		603		8
Consumer	23		—		44		1
Agricultural	—		—		—		—
Other	—		—		—		—
Total	$	1,026	$	14	$	2,048	$	38

Total:
Commercial & industrial	$	1,024	$	19	$	575	$	14
Commercial, secured by real estate	15,435		196		17,575		294
Residential real estate	3,500		56		3,954		55
Consumer	33		—		74		2
Agricultural	178		—		217		—
Other	391		11		463		14
Total	$	20,561	$	282	$	22,858	$	379

Six Months Ended June 30,
With no related allowance recorded:
Commercial & industrial	$	805	$	25	$	261	$	36
Commercial, secured by real estate	15,166		389		16,736		468
Residential real estate	2,950		97		3,332		136
Consumer	15		1		31		1
Agricultural	178		—		267		—
Other	394		22		463		32
Total	$	19,508	$	534	$	21,090	$	673

With an allowance recorded:
Commercial & industrial	$	288	$	9	$	318	$	9
Commercial, secured by real estate	155		6		970		33
Residential real estate	571		15		612		16
Consumer	24		—		43		2
Agricultural	—		—		—		—
Other	—		—		—		—
Total	$	1,038	$	30	$	1,943	$	60

Total:
Commercial & industrial	$	1,093	$	34	$	579	$	45
Commercial, secured by real estate	15,321		395		17,706		501
Residential real estate	3,521		112		3,944		152
Consumer	39		1		74		3
Agricultural	178		—		267		—
Other	394		22		463		32
Total	$	20,546	564		$	23,033	$	733

Of the interest income recognized on impaired loans during the six months ended June 30, 2018 and 2017, approximately $20,000 and $3,000, respectively, were recognized on a cash basis.

From time to time, the terms of certain loans are modified as troubled debt restructurings ("TDRs") where concessions are granted to borrowers experiencing financial difficulties. The modification of the terms of such loans may have included one or a combination of the following: a reduction of the stated interest rate of the loan, and increase in the stated rate of interest lower than the current market rate for new debt with similar risk, an extension of the maturity date, or a change in the payment terms. During the three and six months ended June 30, 2018, there were no loans modified as a TDR.

Two commercial, secured by real estate loans to the same borrower totaling $1,236,000 that were modified during the fourth quarter 2016 subsequently defaulted in February 2017. There were no troubled debt restructurings that subsequently defaulted within twelve months of the restructuring date for the six months ended June 30, 2018 and that remained in default at period end.

No impaired loans without a valuation allowance and no impaired loans with a valuation allowance at June 30, 2018 consisted of loans that were modified during the six months ended June 30, 2018 and were determined to be troubled debt restructurings. Approximately $0 of impaired loans without a valuation allowance and $23,000 of impaired loans with a valuation allowance at June 30, 2017 consisted of loans that were modified during the six months ended June 30, 2017 and were determined to be troubled debt restructurings.

Mortgage loans sold to and serviced for the Federal Home Loan Mortgage Corporation and other investors or participants are not included in the accompanying consolidated condensed balance sheets. The unpaid principal balances of those loans at June 30, 2018 and December 31, 2017 were approximately $114,536,000 and $92,818,000, respectively.

The total recorded investment in residential consumer mortgage loans secured by residential real estate that were in the process of foreclosure at June 30, 2018 was $488,000.