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Fair Value Disclosures

9 Months Ended

Sep. 30, 2020

11.	Fair Value Disclosures

FASB ASC topic 820 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. FASB ASC topic 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.

The standard describes three levels of inputs that may be used to measure fair value:

Level 1: Valuation is based upon quoted prices for identical instruments traded in active markets. Level 1 instruments include securities traded on active exchange markets, such as the New York Stock Exchange, as well as U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets.

Level 2: Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market. Level 2 instruments include securities traded in less active dealer or broker markets.

Level 3: Valuation is generated from model-based techniques that use at least one significant assumption not observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques include use of option pricing models, discounted cash flow models and similar techniques.

We used the following methods and significant assumptions to estimate fair value:

Securities: Where quoted market prices are available in an active market, securities available for sale are classified as Level 1 of the valuation hierarchy. We currently do not have any Level 1 securities. If quoted market prices are not available for the specific security, then fair values are estimated by (1) using quoted market prices of securities with similar characteristics, (2) matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for specific securities but rather by relying on the securities’ relationship to other benchmark quoted prices, or (3) a discounted cash flow analysis whose significant fair value inputs can generally be verified and do not typically involve judgment by management. These securities are classified as Level 2 of the valuation hierarchy and primarily include agency securities, private label mortgage-backed securities, other asset backed securities, obligations of states and political subdivisions, trust preferred securities, corporate securities and foreign government securities.

Loans held for sale: The fair value of mortgage loans held for sale, carried at fair value is based on agency cash window loan pricing for comparable assets (recurring Level 2).

Impaired loans with specific loss allocations based on collateral value: From time to time, certain loans are considered impaired and an allowance for loan losses is established. Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. When the fair value of the collateral is based on an appraised value or when an appraised value is not available we record the impaired loan as nonrecurring Level 3. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments can be significant and thus will typically result in a Level 3 classification of the inputs for determining fair value.

Other real estate: At the time of acquisition, other real estate is recorded at fair value, less estimated costs to sell, which becomes the property’s new basis. Subsequent write-downs to reflect declines in value since the time of acquisition may occur from time to time and are recorded in net (gains) losses on other real estate and repossessed assets, which is part of non-interest expense - other in the Condensed Consolidated Statements of Operations. The fair value of the property used at and subsequent to the time of acquisition is typically determined by a third party appraisal of the property. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments can be significant and typically result in a Level 3 classification of the inputs for determining fair value.

Appraisals for both collateral-dependent impaired loans and other real estate are performed by certified general appraisers (for commercial properties) or certified residential appraisers (for residential properties) whose qualifications and licenses have been reviewed and verified by us. Once received, an independent third party, or a member of our Collateral Evaluation Department (for commercial properties), or a member of our Special Assets Group (for residential properties) reviews the assumptions and approaches utilized in the appraisal as well as the overall resulting fair value in comparison with independent data sources such as recent market data or industry-wide statistics. We compare the actual selling price of collateral that has been sold to the most recent appraised value of our properties to determine what additional adjustment, if any, should be made to the appraisal value to arrive at fair value. For commercial and residential properties we typically discount an appraisal to account for various factors that the appraisal excludes in its assumptions. These additional discounts generally do not result in material adjustments to the appraised value.

Capitalized mortgage loan servicing rights: The fair value of capitalized mortgage loan servicing rights is based on a valuation model used by an independent third party that calculates the present value of estimated net servicing income. The valuation model incorporates assumptions that market participants would use in estimating future net servicing income. Certain model assumptions are generally unobservable and are based upon the best information available including data relating to our own servicing portfolio, reviews of mortgage servicing assumption and valuation surveys and input from various mortgage servicers and, therefore, are recorded as Level 3. Management evaluates the third party valuation for reasonableness each quarter as part of our financial reporting control processes.

Derivatives: The fair value of rate-lock mortgage loan commitments is based on agency cash window loan pricing for comparable assets and the fair value of mandatory commitments to sell mortgage loans is based on mortgage backed security pricing for comparable assets (recurring Level 2). The fair value of interest rate swap and interest rate cap agreements are derived from proprietary models which utilize current market data. The significant fair value inputs can generally be observed in the market place and do not typically involve judgment by management (recurring Level 2). The fair value of purchased and written options is based on prices of financial instruments with similar characteristics and do not typically involve judgment by management (recurring Level 2).

Assets and liabilities measured at fair value, including financial assets for which we have elected the fair value option, were as follows:

			Fair Value Measurements Using
	Fair Value Measure- ments		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Un- observable Inputs (Level 3)
	(In thousands)
September 30, 2020:
Measured at Fair Value on a Recurring Basis
Assets
Securities available for sale
U.S. agency	$	11,130	$	-	$	11,130	$	-
U.S. agency residential mortgage-backed		335,560		-		335,560		-
U.S. agency commercial mortgage-backed		8,421		-		8,421		-
Private label mortgage-backed		44,285		-		44,285		-
Other asset backed		263,371		-		263,371		-
Obligations of states and political subdivisions		244,978		-		244,978		-
Corporate		75,017		-		75,017		-
Trust preferred		1,770		-		1,770		-
Foreign government		518		-		518		-
Loans held for sale, carried at fair value		99,747		-		99,747		-
Capitalized mortgage loan servicing rights		15,403		-		-		15,403
Derivatives (1)		19,202		-		19,202		-
Liabilities
Derivatives (2)		12,690		-		12,690		-

Measured at Fair Value on a Non-recurring Basis:
Assets
Impaired loans (3)
Commercial
Commercial and industrial		1,591		-		-		1,591
Commercial real estate		7,098		-		-		7,098
Mortgage
1-4 family owner occupied - jumbo		500		-		-		500
1-4 family owner occupied - non-jumbo		284		-		-		284
1-4 family non-owner occupied		58		-		-		58
1-4 family - 2nd lien		200		-		-		200
Resort lending		77		-		-		77
Installment
Boat lending		90		-		-		90
Recreational vehicle lending		38		-		-		38
Other		139		-		-		139
Other real estate (4)
Commercial - commercial real estate		474		474		-		-

(1)	Included in accrued income and other assets

(2)	Included in accrued expenses and other liabilities

(3)	Only includes impaired loans with specific loss allocations based on collateral value.

(4) Only includes other real estate with subsequent write downs to fair value. The fair value of the commercial real estate property included in this table was based on a purchase agreement executed during the third quarter of 2020 that closed during the fourth quarter of 2020.

			Fair Value Measurements Using
	Fair Value Measure- ments		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Un- observable Inputs (Level 3)
	(In thousands)
December 31, 2019:
Measured at Fair Value on a Recurring Basis
Assets
Securities available for sale
U.S. agency	$	14,661	$	-	$	14,661	$	-
U.S. agency residential mortgage-backed		227,762		-		227,762		-
U.S. agency commercial mortgage-backed		10,756		-		10,756		-
Private label mortgage-backed		39,693		-		39,693		-
Other asset backed		93,886		-		93,886		-
Obligations of states and political subdivisions		96,102		-		96,102		-
Corporate		33,195		-		33,195		-
Trust preferred		1,843		-		1,843		-
Foreign government		502		-		502		-
Loans held for sale, carried at fair value		69,800		-		69,800		-
Capitalized mortgage loan servicing rights		19,171		-		-		19,171
Derivatives (1)		5,464		-		5,464		-
Liabilities
Derivatives (2)		4,402		-		4,402		-

Measured at Fair Value on a Non-recurring Basis:
Assets
Impaired loans (3)
Commercial
Commercial and industrial		655		-		-		655
Commercial real estate		316		-		-		316
Mortgage
1-4 family owner occupied - jumbo		987		-		-		987
1-4 family owner occupied - non-jumbo		470		-		-		470
1-4 family non-owner occupied		281		-		-		281
1-4 family - 2nd lien		294		-		-		294
Resort lending		245		-		-		245
Installment
Boat lending		67		-		-		67
Recreational vehicle lending		2		-		-		2
Other		121		-		-		121
Other real estate (4)
Mortgage - 1-4 family owner occupied - non-jumbo		31		-		-		31
Installment - other		28		-		-		28

(1)	Included in accrued income and other assets

(2)	Included in accrued expenses and other liabilities

(3)	Only includes impaired loans with specific loss allocations based on collateral value.

(4)	Only includes other real estate with subsequent write downs to fair value.

Changes in fair values for financial assets which we have elected the fair value option for the periods presented were as follows:

	Changes in Fair Values for the Nine-Month Periods Ended September 30 for Items Measured at Fair Value Pursuant to Election of the Fair Value Option
	Net Gains on Assets				Mortgage			Total Change in Fair Values Included in Current
	Securities Available For Sale		Mortgage Loans		Loan Servicing, net			Period Earnings
	(In thousands)
2020
Loans held for sale		-		2,081		-			2,081
Capitalized mortgage loan servicing rights		-		-		(14,028	)		(14,028	)

2019
Equity securities at fair value	$	167	$	-	$	-		$	167
Loans held for sale		-		822		-			822
Capitalized mortgage loan servicing rights		-		-		(9,258	)		(9,258	)

For those items measured at fair value pursuant to our election of the fair value option, interest income is recorded within the Condensed Consolidated Statements of Operations based on the contractual amount of interest income earned on these financial assets and dividend income is recorded based on cash dividends received.

The following represent impairment charges recognized during the three and nine month periods ended September 30, 2020 and 2019 relating to assets measured at fair value on a non-recurring basis:

•

Loans which are measured for impairment using the fair value of collateral for collateral dependent loans had a carrying amount of $10.1 million, which is net of a valuation allowance of $2.3 million at September 30, 2020, and had a carrying amount of $3.4 million, which is net of a valuation allowance of $1.5 million at December 31, 2019. The provision for loan losses included in our results of operations relating to impaired loans was a net expense of $0.2 million and $0.5 million for the three month periods ending September 30, 2020 and 2019, respectively, and a net expense of $1.1 million and $0.8 million for the nine month periods ending September 30, 2020 and 2019, respectively.

•

Other real estate, which is measured using the fair value of the property, had a carrying amount of 0.47 million which is net of a valuation allowance of $0.15 million at September 30, 2020, and a carrying amount of $0.06 million which is net of a valuation allowance of $0.09 million, at December 31, 2019. Charges included in our results of operations relating to other real estate measured at fair value were zero and $0.09 million during the three and nine month periods ended September 30, 2020, and were $0.07 million and $0.08 million during the three and nine month periods ended September 30, 2019.

A reconciliation for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) follows:

	Capitalized Mortgage Loan Servicing Rights
	Three Months Ended September 30,						Nine Months Ended September 30,
	2020			2019			2020			2019
	(In thousands)						(In thousands)
Beginning balance	$	13,773		$	17,894		$	19,171		$	21,400
Total gains (losses) realized and unrealized:
Included in results of operations		(2,387	)		(3,145	)		(14,028	)		(9,258	)
Included in other comprehensive income		-			-			-			-
Purchases, issuances, settlements, maturities and calls		4,017			2,157			10,260			4,764
Transfers in and/or out of Level 3		-			-			-			-
Ending balance	$	15,403		$	16,906		$	15,403		$	16,906

Amount of total losses for the period included in earnings attributable to the change in unrealized gains (losses) relating to assets and liabilities still held at September 30	$	(2,387	)	$	(3,145	)	$	(14,028	)	$	(9,258	)

The fair value of our capitalized mortgage loan servicing rights has been determined based on a valuation model used by an independent third party as discussed above. The significant unobservable inputs used in the fair value measurement of the capitalized mortgage loan servicing rights are discount rate, cost to service, ancillary income, float rate and prepayment rate. Significant changes in all five of these assumptions in isolation would result in significant changes to the value of our capitalized mortgage loan servicing rights. Quantitative information about our Level 3 fair value measurements measured on a recurring basis follows:

	Asset Fair Value		Valuation Technique		Unobservable Inputs		Range			Weighted Average
	(In thousands)			-		-		-
September 30, 2020
Capitalized mortgage loan servicing rights	$	15,403	Present value of net		Discount rate		10.00% to 13.00%				10.10	%
			servicing revenue		Cost to service		$	58 to $215		$	79
					Ancillary income		20 to 37				22
					Float rate			0.35	%		0.35	%
					Prepayment rate		7.34% to 40.16%				22.01	%
December 31, 2019
Capitalized mortgage loan servicing rights	$	19,171	Present value of net		Discount rate		10.00% to 13.00%				10.14	%
			servicing revenue		Cost to service		$	66 to $316		$	81
					Ancillary income		20 to 37				22
					Float rate			1.73	%		1.73	%
					Prepayment rate		7.01% to 69.34%				14.96	%

Quantitative information about Level 3 fair value measurements measured on a non-recurring basis follows:

	Asset Fair Value		Valuation Technique		Unobservable Inputs		Range			Weighted Average
	(In thousands)			-		-
September 30, 2020
Impaired loans
Commercial	$	8,689	Sales comparison approach		Adjustment for differences between comparable sales		(40.0)% to 75.0%				4.5	%
			Income approach		Capitalization rate			9.5	%		9.5	%

Mortgage and Installment(1)		1,386	Sales comparison approach		Adjustment for differences between comparable sales		(12.0)% to 104.6%				4.0	%

December 31, 2019
Impaired loans
Commercial	$	971	Sales comparison approach		Adjustment for differences between comparable sales		(48.0)% to 19.2%				(5.6	)%

Mortgage and Installment(1)		2,467	Sales comparison approach		Adjustment for differences between comparable sales		(25.2)% to 49.2%%				11.5%	%

Other real estate
Mortgage and Installment		59	Sales comparison approach		Adjustment for differences between comparable sales		(11.6)% to 5.0%%				(5.1%	)%

(1)

In addition to the valuation techniques and unobservable inputs discussed above, at September 30, 2020 and December 31, 2019 certain impaired collateral dependent installment loans totaling approximately $0.27 million and $0.14 million, respectively are secured by collateral other than real estate. For the majority of these loans, we apply internal discount rates to industry valuation guides.

The following table reflects the difference between the aggregate fair value and the aggregate remaining contractual principal balance outstanding for loans held for sale for which the fair value option has been elected for the periods presented.

	Aggregate Fair Value		Difference		Contractual Principal
	(In thousands)
Loans held for sale
September 30, 2020	$	99,747	$	3,975	$	95,772
December 31, 2019		69,800		1,894		67,906

- Definition

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

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