NOTE

— LOANS

The Company’s customers are primarily located in Stanislaus, San Joaquin, Tuolumne, Inyo, and Mono Counties. As of

December 31, 2018,

approximately

78%

of the Company’s loans are commercial real estate loans which includes construction loans. Approximately

12%

of the Company’s loans are for general commercial uses including professional, retail, and small business. Additionally,

of the Company’s loans are for residential real estate and other consumer loans. The remaining

are agriculture loans.

Loan totals were as follows:

	December 31, 2018			December 31, 2017
Commercial real estate:
Commercial real estate- construction	$	20,263		$	31,265
Commercial real estate- mortgages		460,701			417,138
Land		10,951			10,072
Farmland		62,604			58,675
Commercial and industrial		82,252			69,610
Consumer		1,314			689
Consumer residential		35,741			37,161
Agriculture		38,076			37,934
		711,902			662,544


Deferred loan fees and costs, net		(997	)		(1,389	)
Allowance for loan losses		(8,685	)		(8,166	)
	$	702,220		$	652,989

Loan Origination/Risk Management.

The Company has certain lending policies and procedures in place that are designed to maximize loan income within an acceptable level of risk. Management reviews and approves these policies and procedures on a regular basis. A reporting system supplements the review process by providing management with frequent reports related to loan production, loan quality, concentrations of credit, loan delinquencies and non-performing and potential problem loans. Diversification in the loan portfolio is a means of managing risk associated with fluctuations in economic conditions.

Commercial and industrial loans are underwritten after evaluating and understanding the borrower’s ability to operate profitably and prudently expand its business. Underwriting standards are designed to promote relationship banking rather than transactional banking. Once it is determined that the borrower’s management possesses sound ethics and solid business acumen, the Company’s management examines current and projected cash flows to determine the ability of the borrower to repay their obligations as agreed. Commercial and industrial loans are primarily made based on the identified cash flows of the borrower and secondarily on the underlying collateral provided by the borrower. The cash flows of borrowers, however,

may

not

be as expected and the collateral securing these loans

may

fluctuate in value. Most commercial and industrial loans are secured by the assets being financed or other business assets such as accounts receivable or inventory and

may

incorporate a personal guarantee; however, some short-term loans

may

be made on an unsecured basis. 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 due from its customers.

Commercial real estate loans are subject to underwriting standards and processes similar to commercial and industrial 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 generally largely dependent on the successful operation of the property securing the loan or the business conducted on the property securing the loan. Commercial real estate loans

may

be more adversely affected by conditions in the real estate markets or in the general economy. The properties securing the Company’s commercial real estate portfolio are diverse in terms of type and geographic location. This diversity helps reduce the Company’s exposure to adverse economic events that affect any single market or industry. Management monitors and evaluates commercial real estate loans based on collateral, geography and risk grade criteria. As a general rule, the Company avoids financing single-purpose projects unless other underwriting factors are present to help mitigate risk. The Company also utilizes

third

-party experts to provide insight and guidance about economic conditions and trends affecting market areas it serves. In addition, management tracks the level of owner-occupied commercial real estate loans versus non-owner occupied loans. At

December

31,

2018,

approximately

40%

of the outstanding principal balance of the Company’s commercial real estate loans were secured by owner-occupied properties.

With respect to loans to developers and builders that are secured by non-owner occupied properties that the Company

may

originate from time to time, the Company generally requires the borrower to have had an existing relationship with the Company and have a proven record of success. Construction loans are underwritten utilizing feasibility studies, independent appraisal reviews, sensitivity analysis of absorption and lease rates and financial analysis of the developers and property owners. Construction loans are generally based upon estimates of costs and value associated with the complete project. These estimates

may

be inaccurate. 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 lenders, 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 ultimate repayment being sensitive to interest rate changes, governmental regulation of real property, general economic conditions and the availability of long-term financing.

The Company originates consumer loans utilizing a computer-based credit scoring analysis to supplement the underwriting process. To monitor and manage consumer loan risk, policies and procedures are developed and modified, as needed, jointly by line and staff personnel. This activity, coupled with relatively small loan amounts that are spread across many individual borrowers, minimizes risk. Additionally, trend and outlook reports are reviewed by management on a regular basis. Underwriting standards for home equity loans follow bank policy, which include, but are

not

limited to, a maximum loan-to-value percentage of

80%,

a maximum housing and total debt ratio of

36%

and

42%,

respectively and other specified credit and documentation requirements.

The Company maintains an independent loan review function that validates the credit risk program on a periodic basis. Results of these reviews are presented to management. 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.

Non-Accrual and Past Due Loans.

Loans are considered past due if the required principal and interest payments have

not

been received as of the date such payments were due. Loans are placed on non-accrual status when, in management’s opinion, the borrower

may

be unable to meet payment obligations as they become due, as well as when required by regulatory provisions. Loans

may

be placed on non-accrual status regardless of whether or

not

such loans are considered past due. When interest accrual is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized only to the extent cash payments are received in excess of principal due. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

Year-end non-accrual loans, segregated by class of loans, were as follows:

(in thousands)	December 31, 2018		December 31, 2017
Commercial real estate:
Land	$	906	$	993
Commercial and industrial		0		302
Consumer residential		14		16
Total non-accrual loans	$	920	$	1,311

Had non-accrual loans performed in accordance with their original contract terms, the Company would have recognized additional interest income of approximately

$68,000

2018

and

$114,000

2017.

The following table analyzes past due loans including the non-accrual loans in the above table, segregated by class of loans, as of

December

31,

2018

(in thousands):

December 31, 2018	30-59 Days Past Due		60-89 Days Past Due		Greater Than 90 Days Past Due		Total Past Due		Current		Total		Greater Than 90 Days Past Due and Still Accruing
Commercial real estate:
Commercial R.E. - construction	$	0	$	0	$	0	$	0	$	20,263	$	20,263	$	0
Commercial R.E. - mortgages		0		0		0		0		460,701		460,701		0
Land		0		0		906		906		10,045		10,951		0
Farmland		0		0		0		0		62,604		62,604		0
Commercial and industrial		0		2,100		0		2,100		80,152		82,252		0
Consumer		0		0		0		0		1,314		1,314		0
Consumer residential		0		62		0		62		35,679		35,741		0
Agriculture		0		0		0		0		38,076		38,076		0
Total	$	0	$	2,162	$	906	$	3,068	$	708,834	$	711,902	$	0

The following table analyzes past due loans including the non-accrual loans in the above table, segregated by class of loans, as of

December

31,

2017

(in thousands):

December 31, 2017	30-59 Days Past Due		60-89 Days Past Due		Greater Than 90 Days Past Due		Total Past Due		Current		Total		Greater Than 90 Days Past Due and Still Accruing
Commercial real estate:
Commercial R.E. - construction	$	0	$	0	$	0	$	0	$	31,265	$	31,265	$	0
Commercial R.E. - mortgages		0		0		0		0		417,138		417,138		0
Land		0		0		993		993		9,079		10,072		0
Farmland		0		0		0		0		58,675		58,675		0
Commercial and industrial		19		0		302		321		69,289		69,610		0
Consumer		0		0		0		0		689		689		0
Consumer residential		0		0		0		0		37,161		37,161		0
Agriculture		0		0		0		0		37,934		37,934		0
Total	$	19	$	0	$	1,295	$	1,314	$	661,230	$	662,544	$	0

Impaired Loans.

Loans are considered impaired when, based on current information and events, it is probable the Company will be unable to collect all amounts due in accordance with the original contractual terms of the loan agreement, including scheduled principal and interest payments. Impairment is evaluated in total for smaller-balance loans of a similar nature and on an individual loan basis for other loans. If a loan is impaired, a specific valuation allowance is allocated, if necessary, so that the loan is reported net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Interest payments on impaired loans are typically applied to principal unless collectability of the principal amount is reasonably assured, in which case interest is recognized on a cash basis. Impaired loans, or portions thereof, are charged off when deemed uncollectible.

Impaired loans by class as of

December 31, 2018

and

2017

are set forth in the following tables.

interest income was recognized on impaired loans subsequent to their classification as impaired during

2018

and

2017.

(in thousands)	Unpaid Contractual Principal Balance		Recorded Investment With No Allowance		Recorded Investment With Allowance		Total Recorded Investment		Related Allowance		Average Recorded Investment
December 31, 2018
Commercial real estate:
Commercial R.E. - construction	$	0	$	0	$	0	$	0	$	0	$	0
Commercial R.E. - mortgages		0		0		0		0		0		0
Land		1,222		0		906		906		680		958
Farmland		0		0		0		0		0		0
Commercial and Industrial		32		0		0		0		0		176
Consumer		0		0		0		0		0		0
Consumer residential		15		14		0		14		0		14
Agriculture		0		0		0		0		0		0
Total	$	1,269	$	14	$	906	$	920	$	680	$	1,148

(in thousands)	Unpaid Contractual Principal Balance		Recorded Investment With No Allowance		Recorded Investment With Allowance		Total Recorded Investment		Related Allowance		Average Recorded Investment
December 31, 2017
Commercial real estate:
Commercial R.E. - construction	$	0	$	0	$	0	$	0	$	0	$	0
Commercial R.E. - mortgages		0		0		0		0		0		0
Land		1,309		0		993		993		680		1,760
Farmland		0		0		0		0		0		0
Commercial and Industrial		334		302		0		302		0		303
Consumer		0		0		0		0		0		0
Consumer residential		16		16		0		16		0		76
Agriculture		0		0		0		0		0		0
Total	$	1,659	$	318	$	993	$	1,311	$	680	$	2,139

Troubled Debt Restructurings –

In order to determine whether a borrower is experiencing financial difficulty, an evaluation is performed of the probability that the borrower will be in payment default on any of its debt in the foreseeable future without the modification. This evaluation is performed under the Company’s internal underwriting policy.

December 31, 2018,

there were

loans that were considered to be troubled debt restructurings, all of which are considered non-accrual totaling

$920,000.

December 31, 2017,

there were

loans that were considered to be troubled debt restructurings, all of which are considered non-accrual totaling

$1,311,000.

There were

unfunded commitments on TDR loans at

December 31, 2018

and

2017.

We have allocated

$680,000

of specific reserves to loans whose terms have been modified in troubled debt restructurings as of

December 31, 2018

and

2017.

The modification of the terms of such loans typically includes

one

or a combination of the following: a reduction of the stated interest rate of the loan; an extension of the maturity date; or a temporary payment modification in which the payment amount allocated towards principal was reduced. In some cases, a permanent reduction of the accrued interest on the loan is conceded.

During the years ended

December 31, 2018

and

2017,

there were

loans modified as troubled debt restructurings. There were

loans modified as troubled debt restructurings within the previous

twelve

months and for which there was a payment default during the

twelve

months ended

December 31, 2018

and

2017.

A loan is considered to be in payment default once it is

ninety

days contractually past due under the modified terms.

Loan Risk Grades–

Quality ratings (Risk Grades) are assigned to all commitments and stand-alone notes. Risk grades define the basic characteristics of commitments or stand-alone note in relation to their risk. All loans are graded using a system that maximizes the loan quality information contained in loan review grades, while ensuring that the system is compatible with the grades used by bank examiners.

The Company grades loans using the following letter system:

Exceptional Loan

Quality Loan

Better Than Acceptable Loan

Acceptable Loan

Marginally Acceptable Loan

(W) Watch Acceptable Loan

Other Loans Especially Mentioned

Substandard Loan

Doubtful Loan

Loss

Exceptional Loan

- Loans with A+ credits that contain very little, if any, risk. Grade

loans are considered Pass. To qualify for this rating, the following characteristics must be present:

●

A high level of liquidity and whose debt-servicing capacity exceeds expected obligations by a substantial margin.

●

Where leverage is below average for the industry and earnings are consistent or growing without severe vulnerability to economic cycles.

●

Also included in this rating (but

not

mandatory unless

one

or more of the preceding characteristics are missing) are loans that are fully secured and properly margined by our own time instruments or U.S. blue chip securities. To be properly margined, cash collateral must be equal to, or greater than,

110%

of the loan amount.

Quality Loan

- Loans with excellent sources of repayment that conform in all respects to bank policy and regulatory requirements. These are also loans for which little repayment risk has been identified.

credit or collateral exceptions. Grade

loans are considered Pass. Other factors include:

●

Unquestionable debt-servicing capacity to cover all obligations in the ordinary course of business from well-defined primary and secondary sources.

●

Consistent strong earnings.

●

A solid equity base.

3A.

Better than Acceptable Loan

- In the interest of better delineating the loan portfolio’s true credit risk for reserve allocation, further granularity has been sought by splitting the grade

category into

three

classifications. The distinction between the

three

are bank-defined guidelines and represent a further refinement of the regulatory definition of a pass, or grade

loan. Grade

is the stronger

third

of the pass category, but is

not

strong enough to be a grade

and is characterized by:

●

Strong earnings with

loss in last

three

years and ample cash flow to service all debt well above policy guidelines.

●

Long term experienced management with depth and defined management succession.

●

The loan has

exceptions to policy.

●

Loan-to-value on real estate secured transactions is

10%

20%

less than policy guidelines.

●

Very liquid balance sheet that

may

have cash available to pay off our loan completely.

●

Little to

debt on balance sheet.

3B.

Acceptable Loan

loans are simply defined as all loans that are less qualified than

loans and are stronger than

loans. These loans are characterized by acceptable sources of repayment that conform to bank policy and regulatory requirements. Repayment risks are acceptable for these loans. Credit or collateral exceptions are minimal, are in the process of correction, and do

not

represent repayment risk. These loans:

●

Are those where the borrower has average financial strengths, a history of profitable operations and experienced management.

●

Are those where the borrower can be expected to handle normal credit needs in a satisfactory manner.

3C.

Marginally Acceptable

loans have similar characteristics as that of

3Bs

with the following additional characteristics:

●

Requires collateral.

●

A credit facility where the borrower has average financial strengths, but usually lacks reliable secondary sources of repayment other than the subject collateral.

●

Other common characteristics can include some or all of the following: minimal background experience of management, lacking continuity of management, a start-up operation, erratic historical profitability (acceptable reasons-well identified), lack of or marginal sponsorship of guarantor, and government guaranteed loans.

Watch Acceptable

- Watch grade will be assigned to any credit that is adequately secured and performing but monitored for a number of indicators. These characteristics

may

include:

●

Any unexpected short-term adverse financial performance from budgeted projections or a prior period’s results (i.e., declining profits, sales, margins, cash flow, or increased reliance on leverage, including adverse balance sheet ratios, trade debt issues, etc.).

●

Any managerial or personal problems of company management, decline in the entire industry or local economic conditions, or failure to provide financial information or other documentation as requested.

●

Issues regarding delinquency, overdrafts, or renewals.

●

Any other issues that cause concern for the company.

●

Loans to individuals or loans supported by guarantors with marginal net worth and/or marginal collateral.

●

Weakness identified in a Watch credit is short-term in nature.

●

Loans in this category are usually accounts the Bank would want to retain providing a positive turnaround can be expected within a reasonable time frame. Grade

loans are considered Pass.

Other Loans Especially Mentioned (Special Mention)

- A special mention extension of credit is defined as having potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses

may,

at some future date result in the deterioration of the repayment prospects for the credit or the institution’s credit position. Extensions of credit that might be detailed in this category include the following:

●

The lending officer

may

be unable to properly supervise the credit because of an inadequate loan or credit agreement.

●

Questions exist regarding the condition of and/or control over collateral.

●

Economic or market conditions

may

unfavorably affect the obligor in the future.

●

A declining trend in the obligor’s operations or an imbalanced position in the balance sheet exists, but

not

to the point that repayment is jeopardized.

Substandard Loan

- A “substandard” extension of credit is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Extensions of credit so classified must have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They 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 credits, does

not

have to exist in individual extensions of credit classified as substandard.

Doubtful Loan

- An extension of credit classified as “doubtful” has all the weaknesses inherent in

one

classified 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. The possibility of loss is extremely high but because of certain important and reasonably specific pending factors that

may

work to the advantage of and strengthen the credit, its classification as an estimated loss is deferred until its more exact status

may

be determined. Pending factors

may

include a proposed merger or acquisition, liquidation proceedings, capital injection, perfecting liens on additional collateral or refinancing plans. The entire loan need

not

be classified as doubtful when collection of a specific portion appears highly probable. An example of proper use of the doubtful category is the case of a company being liquidated, with the trustee-in-bankruptcy indicating a minimum disbursement of

percent and a maximum of

percent to unsecured creditors, including the Bank. In this situation, estimates are based on liquidation value appraisals with actual values yet to be realized. By definition, the only portion of the credit that is doubtful is the

percent difference between

and

percent.

A proper classification of such a credit would show

percent substandard,

percent doubtful, and

percent loss. A credit classified as doubtful should be resolved within a ‘reasonable’ period of time. Reasonable is generally defined as the period between examinations. In other words, a credit classified as doubtful at an examination should be cleared up before the next exam. However, there

may

be situations that warrant continuation of the doubtful classification a while longer.

Loss

- Extensions of credit classified as “loss” are considered uncollectible and of such little value that their continuance as bankable assets is

not

warranted. This classification does

not

mean that the credit has absolutely

recovery or salvage value, but rather that it is

not

practical or desirable to defer writing off, even though partial recovery

may

be affected in the future. It should

not

be the Company’s practice to attempt long-term recoveries while the credit remains on the books. Losses should be taken in the period in which they surface as uncollectible.

As of

December 31, 2018

and

2017,

there are

loans that are classified with a risk grade of

- Loss.

The following table presents weighted average risk grades of our loan portfolio.

	December 31, 2018		December 31, 2017
	Weighted Average Risk Grade		Weighted Average Risk Grade
Commercial real estate:
Commercial real estate - construction		3.00		3.08
Commercial real estate - mortgages		3.02		3.01
Land		3.58		3.71
Farmland		3.00		3.14
Commercial and industrial		3.08		3.09
Consumer		2.31		2.34
Consumer residential		3.01		3.01
Agriculture		3.12		3.19
Total gross loans		3.04		3.05

The following table presents risk grade totals by class of loans as of

December 31, 2018

and

2017.

Risk grades

through

have been aggregated in the “Pass” line.

(in thousands)	Commercial R.E. Construction		Commercial R.E. Mortgages		Land		Farmland		Commercial and Industrial		Consumer		Consumer Residential		Agriculture		Total

December 31, 2018
Pass	$	20,263	$	457,150	$	10,045	$	62,604	$	77,254	$	1,273	$	35,698	$	35,813	$	700,100
Special mention		-		2,868		-		-		2,898		-		-		2,263		8,029
Substandard		-		683		906		-		2,100		41		43		-		3,773
Doubtful		-		-		-		-		-		-		-		-		-
Total loans	$	20,263	$	460,701	$	10,951	$	62,604	$	82,252	$	1,314	$	35,741	$	38,076	$	711,902

December 31, 2017
Pass	$	30,008	$	416,437	$	8,901	$	58,675	$	65,313	$	662	$	37,100	$	37,934	$	655,030
Special mention		1,257		-		-		-		3,762		-		-		-		5,019
Substandard		-		701		1,171		-		535		27		61		-		2,495
Doubtful		-		-		-		-		-		-		-		-		-
Total loans	$	31,265	$	417,138	$	10,072	$	58,675	$	69,610	$	689	$	37,161	$	37,934	$	662,544

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 best estimate of probable losses that have been incurred within the existing portfolio of loans. The allowance, in the judgment of management, is necessary to reserve for estimated loan losses and risks inherent in the loan portfolio. The Company’s allowance for loan loss methodology includes allowance allocations calculated in accordance with ASC Topic

310,

“Receivables” and allowance allocations calculated in accordance with ASC Topic

450,

“Contingencies.” Accordingly, the methodology is based on historical loss experience by type of credit and internal risk grade, specific homogeneous risk pools and specific loss allocations, with adjustments for current events and conditions. 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 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 provision for loan losses also reflects the totality of actions taken on all loans for a particular period. In other words, the amount of the provision reflects

not

only the necessary increases in the allowance for loan losses related to newly identified criticized loans, but it also reflects actions taken related to other loans including, among other things, any necessary increases or decreases in required allowances for specific loans or loan pools.

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 credits; however, the entire allowance is available for any credit that, in management’s judgment, should be charged off. While management utilizes its best judgment and information available, the ultimate 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

three

elements: (i) specific valuation allowances determined in accordance with ASC Topic

310

based on probable losses on specific loans; (ii) historical valuation allowances determined in accordance with ASC Topic

450

based on historical loan loss experience for similar loans with similar characteristics and trends, adjusted, as necessary, to reflect the impact of current conditions; and (iii) general valuation allowances determined in accordance with ASC Topic

450

based on 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 credit risk grading process that evaluates, among other things: (i) the obligor’s ability to repay; (ii) the underlying collateral, if any; and (iii) the economic environment and industry in which the borrower operates. This analysis is performed at the relationship manager level for all commercial loans. When a loan has a calculated grade of

or higher, a special assets officer analyzes the loan to determine whether the loan is impaired and, if impaired, the need 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 grade of the loan and economic conditions affecting the borrower’s industry, among other things.

Historical valuation allowances are calculated based on the historical loss experience of specific types of loans and the internal risk grade of such loans at the time they were charged-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 periodically updated based on actual charge-off experience. A historical valuation allowance is established for each pool of similar loans based upon the product of the historical loss ratio 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 and industrial loans, commercial real estate loans, consumer real estate loans and consumer and other loans.

General valuation allowances are based on general economic conditions and other qualitative risk factors both internal and external to the Company. In general, such valuation allowances are determined by evaluating, among other things: (i) the experience, ability and effectiveness of the Company’s lending management and staff; (ii) the effectiveness of the Company’s loan policies, procedures and internal controls; (iii) changes in asset quality; (iv) changes in loan portfolio volume; (v) the composition and concentrations of credit; (vi) the impact of competition on loan structuring and pricing; (vii) the effectiveness of the internal loan review function; (viii) the impact of environmental risks on portfolio risks; and (ix) the impact of rising interest rates on portfolio risk. Management evaluates the degree of risk that each

one

of these components has on the quality of the loan portfolio on a quarterly basis. Each component is determined to have either a high, moderate or low degree of risk. The results are then input into a “general allocation matrix” to determine an appropriate general valuation allowance.

Included in the general valuation allowances are allocations for groups of similar loans with risk characteristics that exceed certain concentration limits established by management. Concentration risk limits have been established, among other things, for certain industry concentrations, large balance and highly leveraged credit relationships that exceed specified risk grades, and loans originated with policy exceptions that exceed specified risk grades.

Loans identified as losses by management, internal loan review and/or bank examiners are charged-off. Furthermore, consumer loan accounts are charged-off automatically based on regulatory requirements.

The following table details activity in the allowance for loan losses by portfolio segment for the years ended

December

31,

2018

and

2017.

Allocation of a portion of the allowance to

one

category of loans does

not

preclude its availability to absorb losses in other categories.

Allowance for Loan Losses

For the Years Ended

December 31, 2018

and

2017

(in thousands)	Commercial		Commercial					Consumer
Year Ended December 31, 2018	Real Estate		and Industrial		Consumer			Residential			Agriculture		Unallocated		Total
Beginning balance	$	6,331	$	813	$	27		$	300		$	693	$	2	$	8,166
Charge-offs		0		0		(29	)		(17	)		0		0		(46	)
Recoveries		0		0		8			2			0		0		10
Provision for loan losses		249		252		33			19			0		2		555
Ending balance	$	6,580	$	1,065	$	39		$	304		$	693	$	4	$	8,685

(in thousands)	Commercial		Commercial					Consumer
Year Ended December 31, 2017	Real Estate		and Industrial		Consumer			Residential			Agriculture		Unallocated			Total
Beginning balance	$	6,185	$	697	$	51		$	325		$	504	$	70		$	7,832
Charge-offs		-		-		(30	)		-			-		-			(30	)
Recoveries		-		-		13			1			-		-			14
Provision for (reversal of) loan losses		146		116		(7	)		(26	)		189		(68	)		350
Ending balance	$	6,331	$	813	$	27		$	300		$	693	$	2		$	8,166

The following table details the allowance for loan losses and ending gross loan balances as of

December 31, 2018

and

2017,

summarized by collective and individual evaluation methods of impairment.

(in thousands)	Commercial		Commercial				Consumer
December 31, 2018	Real Estate		and Industrial		Consumer		Residential		Agriculture		Unallocated		Total
Allowance for loan losses for loans:
Individually evaluated for impairment	$	680	$	0	$	0	$	0	$	0	$	0	$	680
Collectively evaluated for impairment		5,900		1,065		39		304		693		4		8,005
	$	6,580	$	1,065	$	39	$	304	$	693	$	4	$	8,685

Ending gross loan balances:
Individually evaluated for impairment	$	906	$	0	$	0	$	14	$	0	$	0	$	920
Collectively evaluated for impairment		553,613		82,252		1,314		35,727		38,076		0		710,982
	$	554,519	$	82,252	$	1,314	$	35,741	$	38,076	$	0	$	711,902

December 31, 2017
Allowance for loan losses for loans:
Individually evaluated for impairment	$	680	$	0	$	0	$	0	$	0			$	680
Collectively evaluated for impairment		5,651		813		27		300		693		2		7,486
	$	6,331	$	813	$	27	$	300	$	693	$	2	$	8,166

Ending gross loans balances:
Individually evaluated for impairment	$	993	$	303	$	0	$	15	$	0	$	0	$	1,311
Collectively evaluated for impairment		516,157		69,307		689		37,146		37,934		0		661,233
	$	517,150	$	69,610	$	689	$	37,161	$	37,934	$	0	$	662,544

Changes in the allowance off-balance-sheet commitments were as follows:

(in thousands)	YEARS ENDED DECEMBER 31,
	201 8		201 7
Balance, beginning of year	$	305	$	284
Provision charged to operations for off balance sheet		91		21
Balance, end of year	$	396	$	305

The method for calculating the reserve for off-balance-sheet loan commitments is based on a reserve percentage which is less than other outstanding loan types because they are at a lower risk level. This reserve percentage, based on many factors including historical losses and existing economic conditions, is evaluated by management periodically and is applied to the total undisbursed loan commitment balance to calculate the reserve for off-balance-sheet commitments. Reserves for off-balance-sheet commitments are recorded in interest payable and other liabilities on the consolidated balance sheets.

December

31,

2018

and

2017,

loans carried at

$711,902,000

and

$662,544,000,

respectively, were pledged as collateral on advances from the Federal Home Loan Bank.