Loans and Allowance for Loan Losses

12 Months Ended

Dec. 31, 2011

Notes to Financial Statements

Loans and Allowance for Loan Losses

3. LOANS AND ALLOWANCE FOR LOAN LOSSES

The composition of the Corporation’s loan portfolio at December 31, 2011 and 2010 was as follows:

		2011			2010
Commercial, financial and agricultural loans	$	36,677,906		$	27,851,844
Real estate:
Construction loans		13,224,081			16,900,325
Commercial mortgage loans		60,599,120			47,649,217
Residential loans		59,177,824			51,609,504
Agricultural loans		6,283,665			8,428,009
Consumer & other loans		5,369,787			5,319,605
Loans Outstanding		181,332,383			157,758,504
Unearned interest and discount		(30,069	)		(25,874	)
Allowance for loan losses		(3,100,000	)		(2,754,614	)
Net loans	$	178,202,314		$	154,978,016

The Corporation’s only significant concentration of credit at December 31, 2011, occurred in real estate loans which totaled approximately $139 million. However, this amount was not concentrated in any specific segment within the market or geographic area.

Beginning in 2009, certain 1-4 family mortgage loans were pledged to FHLB to secure outstanding advances. At December 31, 2011, $30,231,383 loans were pledged in this capacity.

Appraisal Policy

When a loan is first identified as a problem loan, the appraisal is reviewed to determine if the appraised value is still appropriate for the collateral. For the duration that a loan is considered a problem loan, the appraised value of the collateral is monitored on a quarterly basis. If significant changes occur in market conditions or in the condition of the collateral, a new appraisal will be obtained.

Nonaccrual Policy

The Corporation does not accrue interest on any loan (1) that is maintained on a cash basis due to the deteriorated financial condition of the borrower, (2) for which payment in full of principal or interest is not expected, or (3) upon which principal or interest has been past due for ninety days or more unless the loan is well secured and in the process of collection.

A loan subsequently placed on nonaccrual status may be returned to accrual status if (1) all past due interest and principal is paid with expectations of any remaining contractual principal and interest being repaid or (2) the loan becomes well secured and in the process of collection.

Loans placed on nonaccrual status amounted to $1,153,242 and $186,331 at December 31, 2011 and 2010, respectively. There were no past due loans over ninety days and still accruing at December 31, 2011 or 2010. The accrual of interest is discontinued when the loan is placed on nonaccrual. Interest income that would have been recorded on these nonaccrual loans in accordance with their original terms totaled $19,796 and $4,365 as of year-end 2011 and 2010, respectively. At December 31, 2010, nonaccrual loans had decreased due to the collection of a $1,282,905 loan placed on interest nonaccrual in 2009.

The following table presents an age analysis of past due loans and nonaccrual loans segregated by class of loans. We do not have any accruing loans that are 90 days or more past due.

	Age Analysis of Past Due Loans As of December 31, 2011
		30-89 Days Past Due		Greater than 90 Days		Total Past Due Loans		Nonaccrual Loans		Current Loans		Total Loans
Commercial, financial and agricultural loans	$	141,436	$	0	$	141,436	$	83,332	$	36,453,138	$	36,677,906
Real estate:
Construction loans		288,295		0		288,295		98,961		12,836,825		13,224,081
Commercial mortgage loans		391,712		0		391,712		708,701		59,498,707		60,599,120
Residential loans		2,372,263		0		2,372,263		260,847		56,544,714		59,177,824
Agricultural loans		0		0		0		0		6,283,665		6,283,665
Consumer & other loans		44,026		0		44,026		1,401		5,324,360		5,369,787
Total loans	$	3,237,732	$	0	$	3,237,732	$	1,153,242	$	176,941,409	$	181,332,383

Impaired Loans

A loan is considered impaired when, based on current information and events, it is probable that the Corporation will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis for commercial and construction loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral dependent.

At December 31, 2011 and 2010, impaired loans amounted to $567,802 and $4,500,000, respectively. A reserve amount of $39,938 was recorded in the allowance for loan losses for these impaired loans as of December 31, 2011 and no reserve amount was recorded in the allowance for loan losses at December 31, 2010.

The following table presents impaired loans, segregated by class of loans as of December 31, 2011 and 2010:

December 31, 2011		Unpaid Principal Balance		Recorded Investment With No Allowance		Recorded Investment with Allowance		Total Recorded Investment		Related Allowance		Year-to-date Average Recorded Investment		Interest Income Received During Impairment
Commercial, financial and agricultural loans	$	97,533	$	0	$	66,283	$	66,283	$	31,250	$	24,851	$	1,169
Real estate:
Construction loans		98,961		98,961		0		98,961		0		542		0
Commercial mortgage loans		117,997		117,997		0		117,997		0		4,457,342		149,875
Residential loans		253,311		128,515		116,108		244,623		8,688		63,957		2,655
Agricultural loans		0		0		0		0		0		0		0
Consumer & other loans		0		0		0		0		0		0		0
Total loans	$	567,802	$	345,473	$	182,391	$	527,864	$	39,938	$	4,546,692	$	153,699

December 31, 2010		Unpaid Principal Balance		Recorded Investment With No Allowance		Recorded Investment with Allowance		Total Recorded Investment		Related Allowance		Year-to-date Average Recorded Investment		Interest Income Received During Impairment
Commercial, financial and agricultural loans	$	0	$	0	$	0	$	0	$	0	$	8,219	$	0
Real estate:
Construction loans		0		0		0		0		0		0		0
Commercial mortgage loans		4,500,000		4,083,365		0		4,083,365		0		12,329		0
Residential loans		0		0		0		0		0		0		0
Agricultural loans		0		0		0		0		0		0		0
Consumer & other loans		0		0		0		0		0		2,145		0
Total loans	$	4,500,000	$	4,083,365	$	0	$	4,083,365	$	0	$	22,693	$	0

Credit Risk Monitoring and Loan Grading

The Corporation employs several means to monitor the risk in the loan portfolio including volume and severity of loan delinquencies, nonaccrual loans, internal grading of loans, historical loss experience and economic conditions.

Loans are subject to an internal risk grading system which indicates the risk and acceptability of that loan. The loan grades used by the Corporation are for internal risk identification purposes and do not directly correlate to regulatory classification categories or any financial reporting definitions.

The general characteristics of the risk grades are as follows:

Grade 1 – Exceptional – Loans graded 1 are characterized as having a very high credit quality, exhibit minimum risk to the Corporation and have low administrative cost. These loans are usually secured by highly liquid and marketable collateral and a strong primary and secondary source of repayment is available.

Grade 2 – Above Average – Loans graded 2 are basically sound credits secured by sound assets and/or backed by the financial strength of borrowers of integrity with a history of satisfactory payments of credit obligations.

Grade 3 – Acceptable – Loans graded 3 are secured by sound assets of sufficient value and/or supported by the sufficient financial strength of the borrower. The borrower will have experience in their business area or employed a reasonable amount of time at their current employment. The borrower will have a sound primary source of repayment, and preferably a secondary source, which will allow repayment in a prompt and reasonable period of time.

Grade 4 – Fair – Loans graded 4 are those which exhibit some weakness or downward trend in financial condition and although the repayment history is satisfactory, it requires supervision by bank personnel. The borrower may have little experience in their business area or employed only a short amount of time at their current employment. The loan may be secured by good collateral; however, it may require close supervision as to value and/or quality and may not have sufficient liquidation value to completely cover the loan.

Grade 5a – Watch – Loans graded 5a contain a discernible weakness; however, the weakness is not sufficiently pronounced so as to cause concern for the possible loss of interest or principal. Loans in this category may exhibit outward signs of stress, such as slowness in financial disclosures or recent payments. However, such signs are not of long duration or of sufficient severity that default appears imminent. Loans in this category are not so deficient as to cause alarm, but do require close monitoring for further deterioration and possible downgrade.

Grade 5b – Other Assets Especially Mentioned (OAEM) – Loans graded 5b may otherwise be classified more severely except that the loan is well secured by properly margined collateral, it is generally performing in accordance with the original contract or modification thereof and such performance has seasoned for a period of 90 days, or the ultimate collection of all principal and interest is reasonably expected. Loans in this grade are unsupported by sufficient evidence of the borrower’s sound net worth or repayment capacity or may be subject to third party action that would cause concern for future prompt repayment.

Grade 6 – Substandard – Loans graded 6 contain clearly pronounced credit weaknesses that are below acceptable credit standards for the Corporation. Such weaknesses may be due to either collateral deficiencies or inherent financial weakness of the borrower, but in either case represents less than acceptable credit risk. Loans in this grade are unsupported by sufficient evidence of the borrower’s sound net worth, repayment capacity or acceptable collateral.

Grade 7 – Doubtful – Loans graded 7 have such a pronounced credit weaknesses that the Corporation is clearly exposed to a significant degree of potential loss of principal or interest. Theses loan generally have a defined weakness which jeopardizes the ultimate repayment of the debt.

Grade 8 – Loss – Loans graded 8 are of such deteriorated credit quality that repayment of principal and interest can no longer be considered. These loans are of such little value that their continuance as an active bank asset is not warranted. As of December 31, 2011, all Grade 8 loans have been charged-off.

The following table presents internal loan grading by class of loans as of December 31, 2011:

		Commercial, Financial, and Agricultural		Construction Real Estate		Commercial Real Estate		Residential Real Estate		Agricultural Real Estate		Consumer and Other		Total
Rating:
Grade 1- Exceptional	$	441,795	$	0	$	0	$	30,461	$	0	$	391,277	$	863,533
Grade 2- Above Avg.		108,500		1,150,438		8,319		126,109		1,078,939		22,435		2,494,740
Grade 3- Acceptable		28,595,068		6,311,912		31,407,672		38,523,972		3,655,606		4,032,909		112,527,139
Grade 4- Fair		6,499,052		2,877,153		17,367,565		15,713,713		718,392		742,167		43,918,042
Grade 5a- Watch		764,196		237,761		1,547,648		1,931,197		290,284		25,163		4,796,249
Grade 5b- OAEM		0		45,738		4,369,889		1,126,072		475,351		25,141		6,042,191
Grade 6- Substandard		269,295		2,601,079		5,898,027		1,726,300		65,093		122,909		10,682,703
Grade 7- Doubtful		0		0		0		0		0		7,786		7,786
Total loans	$	36,677,906	$	13,224,081	$	60,599,120	$	59,177,824	$	6,283,665	$	5,369,787	$	181,332,383

Allowance for Loan Losses Methodology

The allowance for loan losses (ALLL) is determined by a calculation based on segmenting the loans into the following categories: (1) impaired loans and nonaccrual loans, (2) loans with a credit risk rating of 5, 6, 7 or 8, (3) other outstanding loans, and (4) other commitments to lend. In addition, unallocated general reserves are estimated based on migration and economic analysis of the loan portfolio.

The ALLL is calculated by the addition of the estimated loss derived from each of the above categories. The impaired loans and nonaccrual loans over $50,000 are analyzed on an individual basis to determine if the future collateral value is sufficient to support the outstanding debt of the loan. If an estimated loss is calculated, it is included in the estimated ALLL until it is charged to the loan loss reserve. The calculation for loan risk graded 5, 6, 7 or 8, other outstanding loans and other commitments to lend is based on assigning an estimated loss factor based on a twelve quarter rolling historical net loss rate. The estimated requirement for unallocated general reserves from migration and economic analysis is determined by considering (1) trends in asset quality, (2) level and trends in charge-off experience, (3) macro economic trends and conditions, (4) micro economic trends and conditions and (5) risk profile of lending activities. Within each of these categories, a high risk factor percentage and a low risk factor percentage from a rating of excessive, high, moderate or low will be determined by management and applied to the loan portfolio. This results in a high and low range of the estimated reserves required. By adding the estimated high and low value from the migration and economic analysis to the estimated reserve from the loan portfolio, a high and low range of total estimated loss reserves is obtained. This amount is then compared to the actual amount in the loan loss reserve.

The calculation of ALLL is performed on a monthly basis and is presented to the Loan Committee and the Board of Directors.

Changes in the allowance for loan losses are as follows:

		2011			2010			2009
Balance, January 1	$	2,754,614		$	2,532,856		$	2,375,713
Provision charged to operations		983,667			600,000			535,709
Loans charged off		(807,045	)		(682,485	)		(427,841	)
Recoveries		168,764			304,243			49,275
Balance, December 31	$	3,100,000		$	2,754,614		$	2,532,856

The following table details activity in the ALLL by class of loans for the year ended December 31, 2011. Allocation of a portion of the allowance to one category of loans does not preclude its availability to absorb losses in other categories.

		Commercial, Financial, and Agricultural		Construction Real Estate			Commercial Real Estate		Residential Real Estate		Agricultural Real Estate		Consumer and Other			Total
Allowance for loan losses:
Beginning balance, December 31, 2010	$	133,636	$	1,395,722		$	685,994	$	301,902	$	0	$	237,360		$	2,754,614
Charge-offs		235,776		0			445,583		112,869		0		12,817			807,045
Recoveries		62,993		0			74,330		20,912		0		10,529			168,764
Net charge-offs		172,783		0			371,253		91,957		0		2,288			638,281
Provisions charged to operations		431,369		(273,072	)		732,086		155,510		0		(62,226	)		983,667
Balance at end of period, December 31, 2011	$	392,222	$	1,122,650		$	1,046,827	$	365,455	$	0	$	172,846		$	3,100,000
Ending balance -
Individually evaluated for impairment	$	0	$	0		$	0	$	0	$	0	$	0		$	0
Collectively evaluated for impairment		392,222		1,122,650			1,046,827		365,455		0		172,846			3,100,000
Balance at end of period	$	392,222	$	1,122,650		$	1,046,827	$	365,455	$	0	$	172,846		$	3,100,000
Loans :
Ending balance -
Individually evaluated for impairment	$	212,367	$	2,597,598		$	5,906,030	$	1,319,683	$	622,387	$	0		$	10,658,065
Collectively evaluated for impairment		36,465,539		10,626,483			54,693,090		57,858,141		5,661,278		5,369,787			170,674,318
Balance at end of period	$	36,677,906	$	13,224,081		$	60,599,120	$	59,177,824	$	6,283,665	$	5,369,787		$	181,332,383

The following table is a summary of amounts included in the ALLL for the impaired loans with specific reserves and the recorded balance of the related loans.

	Year Ended December 31,
	2011		2010		2009
Allowance for loss on impaired loans	$	39,938	$	0	$	0
Recorded balance of impaired loans	$	567,802	$	4,500,000	$	1,756,997

Transfers from Loans

Transfers from loans to other real estate owned and repossessed assets are non-cash transactions, and are not included in the statements of cash flow. Such transfers totaled $760,420, $662,941 and $2,193,311 million for the years ended December 31, 2011, 2010, and 2009, respectively.