Loans and Allowance for Loan Losses

The allowance for loan losses is maintained by the Corporation at a level considered by management to be adequate to cover probable incurred credit losses in the loan portfolio. The amount of the provision for loan losses charged to operating expenses is the amount necessary, in the estimation of management, to maintain the allowance for loan losses at an adequate level. While management’s periodic analysis of the allowance for loan losses may dictate portions of the allowance be allocated to specific problem loans, the entire amount is available for any loan charge-offs that may occur. Loan losses are charged off against the allowance when management believes that the full collectability of the loan is unlikely. Recoveries of amounts previously charged-off are credited to the allowance.

The allowance is comprised of a general allowance and a specific allowance for identified problem loans. The general allowance is determined by applying estimated loss factors to the credit exposures from outstanding loans. For residential real estate, installment and other loans, loss factors are applied on a portfolio basis. Loss factors are based on the Corporation’s historical loss experience and are reviewed for appropriateness on a quarterly basis, along with other factors affecting the collectability of the loan portfolio. These other factors include but are not limited to: changes in lending policies and procedures, including underwriting standards and collection, charge-off and recovery practices; changes in national and local economic and business conditions, including the condition of various market segments; changes in the nature and volume of the portfolio; changes in the experience, ability, and depth of lending management and staff; changes in the volume and severity of past due and classified loans, the volume of nonaccrual loans, troubled debt restructurings and other loan modifications; the existence and effect of any concentrations of credit, and changes in the level of such concentrations; and the effect of external factors, such as legal and regulatory requirements, on the level of estimated credit losses in the Corporation’s current portfolio. Specific allowances are established for all impaired loans when management has determined that, due to identified significant conditions, it is probable that a loss will be incurred.

The general component covers non‑impaired loans and is based on historical loss experience adjusted for current factors. The historical loss experience is determined by portfolio segment and is based on the actual loss history experienced by the Corporation over the most recent three years. This actual loss experience is supplemented with other economic factors based on the risks present for each portfolio segment. These economic factors include consideration of the following: levels of and trends in delinquencies and impaired loans; levels of and trends in charge-offs and recoveries; trends in volume and terms of loans; effects of any changes in risk selection and underwriting standards; other changes in lending policies, procedures, and practices; experience, ability, and depth of lending management and other relevant staff; national and local economic trends and conditions; industry conditions; and effects of changes in credit concentrations.

Activity in the allowance for loan losses by portfolio segment for the three months ended March 31, 2015, March 31, 2014 and the year ended December 31, 2014 are summarized as follows:



Three Months Ended March 31, 2015
	Commercial Real Estate			Commercial		Residential Real Estate			Home Equity Loans			Indirect			Consumer			Total
	(Dollars in thousands)
Allowance for loan losses:
Balance, beginning of period	$	8,446		$	874	$	2,127		$	3,130		$	2,459		$	380		$	17,416
Losses charged off	(255		)	—		(80		)	(124		)	(168		)	(66		)	(693		)
Recoveries	10			1		1			6			43			13			74
Provision charged to expense	(924		)	235		(39		)	217			429			82			—
Balance, end of period	$	7,277		$	1,110	$	2,009		$	3,229		$	2,763		$	409		$	16,797

Ending allowance balance attributable to loans:
Individually evaluated for impairment	$	186		$	116	$	212		$	—		$	—		$	—		$	514
Collectively evaluated for impairment	7,091			994		1,797			3,229			2,763			409			16,283
Total ending allowance balance	$	7,277		$	1,110	$	2,009		$	3,229		$	2,763		$	409		$	16,797
Loans:
Individually evaluated for impairment	$	12,368		$	247	$	1,694		$	628		$	97		$	62		$	15,096
Collectively evaluated for impairment	407,012			75,747		69,693			126,382			217,663			12,810			909,307
Total ending loans balance	$	419,380		$	75,994	$	71,387		$	127,010		$	217,760		$	12,872		$	924,403



Three Months Ended March 31, 2014
	Commercial Real Estate			Commercial			Residential Real Estate			Home Equity Loans			Indirect			Consumer			Total
Allowance for loan losses:
Balance, beginning of period	$	10,122		$	497		$	1,411		$	3,484		$	1,593		$	398		$	17,505
Losses charged off	(546		)	—			(77		)	(222		)	(70		)	(83		)	(998		)
Recoveries	6			1			2			11			58			12			90
Provision charged to expense	662			(34		)	147			205			(68		)	(12		)	900
Balance, end of period	$	10,244		$	464		$	1,483		$	3,478		$	1,513		$	315		$	17,497

Ending allowance balance attributable to loans:
Individually evaluated for impairment	$	838		$	73		$	6		$	—		$	—		$	—		$	917
Collectively evaluated for impairment	9,406			$	391		$	1,477		$	3,478		$	1,513		$	315		16,580
Total ending allowance balance	$	10,244		$	464		$	1,483		$	3,478		$	1,513		$	315		$	17,497
Loans:
Individually evaluated for impairment	$	16,175		$	460		$	1,254		$	980		$	190		$	65		$	19,124
Collectively evaluated for impairment	392,292			82,837			67,417			121,844			209,504			17,171			891,065
Total ending loans balance	$	408,467		$	83,297		$	68,671		$	122,824		$	209,694		$	17,236		$	910,189



Year Ended December 31, 2014
	Commercial Real Estate			Commercial			Residential Real Estate			Home Equity Loans			Indirect			Consumer			Total
	(Dollars in thousands)
Allowance for loan losses:
Balance, beginning of year	$	10,122		$	497		$	1,411		$	3,484		$	1,593		$	398		$	17,505
Losses charged off	(1,407		)	(35		)	(340		)	(1,382		)	(399		)	(261		)	(3,824		)
Recoveries	261			33			7			76			214			31			622
Provision charged to expense	(530		)	379			1,049			952			1,051			212			3,113
Balance, end of year	$	8,446		$	874		$	2,127		$	3,130		$	2,459		$	380		$	17,416
Ending allowance balance attributable to loans:
Individually evaluated for impairment	$	742		$	51		$	223		$	—		$	—		$	—		$	1,016
Collectively evaluated for impairment	7,704			823			1,904			3,130			2,459			380			16,400
Total ending allowance balance	$	8,446		$	874		$	2,127		$	3,130		$	2,459		$	380		$	17,416
Loans:
Individually evaluated for impairment	$	13,828		$	201		$	1,688		$	711		$	127		$	63		$	16,618
Collectively evaluated for impairment	411,564			77,324			69,808			125,218			216,072			13,421			913,407
Total ending loans balance	$	425,392		$	77,525		$	71,496		$	125,929		$	216,199		$	13,484		$	930,025

Delinquencies

Age Analysis of Past Due Loans as of March 31, 2015



(Dollars in thousands)	30-59 Days Past Due		60-89 Days Past Due		90 Days and Greater		Total Past Due		Current		Total Loans		Recorded Investment > 90 Days and Accruing
Commercial real estate	$	923	$	1,305	$	4,498	$	6,726	$	412,654	$	419,380	$	—
Commercial	594		—		90		684		75,310		75,994		—
Residential real estate	368		16		1,453		1,837		69,550		71,387		—
Home equity loans	497		409		1,422		2,328		124,682		127,010		—
Indirect	420		149		128		697		217,063		217,760
Consumer	30		140		89		259		12,613		12,872		—
Total	$	2,832	$	2,019	$	7,680	$	12,531	$	911,872	$	924,403	$	—

Age Analysis of Past Due Loans as of December 31, 2014



(Dollars in thousands)	30-59 Days Past Due		60-89 Days Past Due		90 Days and Greater		Total Past Due		Current		Total Loans		Recorded Investment > 90 Days and Accruing
Commercial real estate	$	3,026	$	5	$	5,857	$	8,888	$	416,504	$	425,392	$	—
Commercial	10		94		97		201		77,324		77,525		—
Residential real estate	431		37		1,481		1,949		69,547		71,496		—
Home equity loans	530		315		1,242		2,087		123,842		125,929		—
Indirect	287		92		130		509		215,690		216,199		—
Consumer	235		22		248		505		12,979		13,484		—
Total	$	4,519	$	565	$	9,055	$	14,139	$	915,886	$	930,025	$	—

Impaired Loans

A loan is considered impaired when it is probable that not all principal and interest amounts will be collected according to the loan contract. Consumer residential mortgage, installment and other consumer loans are evaluated collectively for impairment. Individual commercial loans are evaluated for impairment. Impaired loans are written down by the establishment of a specific allowance where necessary. Interest income recognized on impaired loans while the loan was considered impaired was immaterial for all periods.

Impaired loans for the Period Ended March 31, 2015, December 31, 2014 and March 31, 2014 are as follows:



	At March 31, 2015						Three Months Ended March 31, 2015
	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Balance
	(Dollars in thousands)
With no related allowance recorded:
Commercial real estate	$	11,591	$	16,521	$	—	$	11,585
Commercial	55		226		—		65
Residential real estate	1,335		1,477		—		1,325
Home equity loans	628		1,376		—		670
Indirect	97		192		—		112
Consumer	62		62		—		63
With allowance recorded:
Commercial real estate	777		1,901		186		1,513
Commercial	192		192		116		159
Residential real estate	359		359		212		366
Home equity loans	—		—		—		—
Indirect	—		—		—		—
Consumer	—		—		—		—
Total	$	15,096	$	22,306	$	514	$	15,858

Note: The differences between the recorded investment and unpaid principal balance amounts represents partial charge offs.



	At December 31, 2014
	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Balance
	(Dollars in thousands)
With no related allowance recorded:
Commercial real estate	$	11,578	$	16,320	$	—	$	12,650
Commercial	74		391		—		445
Residential real estate	1,316		1,457		—		1,241
Home equity loans	711		1,408		—		874
Indirect	127		235		—		158
Consumer	63		63		—		64
With allowance recorded:
Commercial real estate	2,250		2,256		742		2,903
Commercial	127		127		51		169
Residential real estate	372		372		223		148
Home equity loans	—		—		—		—
Indirect	—		—		—		—
Consumer	—		—		—		—
Total	$	16,618	$	22,629	$	1,016	$	18,652

Note: The differences between the recorded investment and unpaid principal balance amounts represents partial charge offs.



	At March 31, 2014						Three Months Ended March 31, 2014
	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Balance
	(Dollars in thousands)
With no related allowance recorded:
Commercial real estate	$	12,512	$	16,899	$	—	$	14,021
Commercial	202		255		—		208
Residential real estate	1,233		1,371		—		1,482
Home equity loans	980		1,563		—		1,045
Indirect	190		263		—		192
Consumer	65		97		—		113
With allowance recorded:
Commercial real estate	3,663		5,553		838		2,988
Commercial	258		258		73		258
Residential real estate	21		82		6		11
Home equity loans	—		—		—		—
Indirect	—		—		—		—
Consumer	—		—		—		—
Total	$	19,124	$	26,341	$	917	$	20,318

*Impaired loans shown in the tables above included loans that were classified as troubled debt restructurings ("TDRs"). The restructuring of a loan is considered a TDR if both (i) the borrower is experiencing financial difficulties and (ii) the creditor has granted a concession.

Troubled Debt Restructuring

A restructuring of debt constitutes a troubled debt restructuring (“TDR”) if the creditor, for economic or legal reasons related to the debtor’s financial difficulties, grants a concession to the debtor that it would not otherwise consider. That concession either stems from an agreement between the creditor and the debtor or is imposed by law or a court. The Corporation adheres to ASC 310-40, Troubled Debt Restructurings by Creditors, to determine whether a troubled debt restructuring applies in a particular instance. Prior to loans being modified and classified as a TDR, specific reserves are generally assessed, as most of these loans have been specifically allocated for as part of the Corporation's normal loan loss provisioning methodology. The Corporation has allocated loan loss reserves of $9 for the TDR loans at March 31, 2015.

The following table summarizes the number of loans modified as a TDR during the three months of March 31, 2015. In the first quarter of 2014 there were no loans that were modified with a TDR designation.



	Three Months Ended As of March 31, 2015
	(Dollars in thousands)
	Number of Contracts	Recorded Investment	Unpaid Principal
Commercial real estate	2	$628	$628
Total	2	$628	$628

Note: The differences between the recorded investment and unpaid principal balance amounts represents partial charge offs.

The pre-modification and post-modification outstanding recorded investments of loans modified as TDRs during the three months ended March 31, 2015 were not materially different. Loans modified during the three months ended March 31, 2015 did not involve the forgiveness of principal at the modification date.

There were no loans modified in a TDR that subsequently defaulted during the twelve month periods ended March 31, 2015 and 2014, respectively (i.e., 90 days or more past due following a modification).

A modification of a loan constitutes a TDR when a borrower is experiencing financial difficulty and the modification constitutes a concession by the creditor. The Corporation offers various types of concessions when modifying a loan, however, forgiveness of principal is rarely granted. Commercial loans modified in a TDR often involve temporary interest-only payments, term extensions, and converting revolving credit lines to term loans. Additional collateral, a co-borrower, or a guarantor may be requested. Commercial mortgage and construction loans modified in a TDR often involve reducing the interest rate for the remaining term of the loan, extending the maturity date at an interest rate lower than the current market rate for new debt with similar risk, or substituting or adding a new borrower or guarantor. Construction loans modified in a TDR may also involve extending the interest-only payment period. Land loans are also included in the class of commercial real estate loans. Land loans are typically structured as interest-only monthly payments with a balloon payment due at maturity. Land loans modified in a TDR typically involve extending the balloon payment by one to three years and changing the monthly payments from interest-only to principal and interest, while leaving the interest rate unchanged.

Loans modified in a TDR are typically already on nonaccrual status and partial charge-offs have in some cases already been taken against the outstanding loan balance. As a result, loans modified in a TDR for the Corporation may have the financial effect of increasing the specific allowance associated with the loan. The allowance for impaired loans that have been modified in a TDR is measured based on the estimated fair value of the collateral, less any selling costs, if the loan is collateral dependent or on the present value of expected future cash flows discounted at the loan’s effective interest rate. Management exercises significant judgment in developing these estimates. Loans modified in a TDR are monitored for delinquency as an early indicator of possible future default. If the TDR loan defaults, the Corporation evaluates the loan for further impairment, which could increase the loan loss reserves.

The OCC regulatory guidance requires loans to be accounted for as collateral-dependent loans when borrowers have filed Chapter 7 bankruptcy, the debt has been discharged and the borrower has not reaffirmed the debt, regardless of the delinquency status of the loan. The filing of bankruptcy by the borrower is evidence of financial difficulty and the discharge of the obligation by the bankruptcy court is deemed to be a concession granted to the borrower.

The Corporation had approximately $632 of additional commitments to lend additional funds to the related debtors whose terms have been modified in a TDR at March 31, 2015.

Nonaccrual Loans

Nonaccrual loan balances at March 31, 2015 and December 31, 2014 are as follows:



Loans On Nonaccrual Status	March 31, 2015		December 31, 2014
	(Dollars in thousands)
Commercial real estate	$	7,796	$	7,884
Commercial	247		189
Residential real estate	3,633		3,803
Home equity loans	4,571		3,900
Indirect	557		475
Consumer	184		327
Total Nonaccrual Loans	$	16,988	$	16,578

Credit Risk Grading

Sound credit systems, practices and procedures such as credit risk grading systems; effective credit review and examination processes; effective loan monitoring, problem identification, and resolution processes; and a conservative loss recognition process and charge-off policy are integral to management’s proper assessment of the adequacy of the allowance. Many factors are considered when grades are assigned to individual loans such as current and historic delinquency, financial statements of the borrower, current net realizable value of collateral and the general economic environment and specific economic trends affecting the portfolio. Commercial, commercial real estate and residential construction loans are assigned internal credit risk grades. The loan’s internal credit risk grade is reviewed on at least an annual basis and more frequently if needed based on specific borrower circumstances. Credit quality indicators used in management’s periodic analysis of the adequacy of the allowance include the Corporation’s internal credit risk grades which are described below and are included in the table below for March 31, 2015 and December 31, 2014:


•	Grades 1 -5: defined as “Pass” credits — loans which are protected by the borrower’s current net worth and paying capacity or by the value of the underlying collateral. Pass credits are current or have not displayed a significant past due history.


•	Grade 6: defined as “Special Mention” credits — loans where a potential weakness or risk exists, which could cause a more serious problem if not monitored. Loans listed for special mention generally demonstrate a history of repeated delinquencies, which may indicate a deterioration of the repayment abilities of the borrower.


•	Grade 7: defined as “Substandard” credits — loans that have a well-defined weakness based on objective evidence and are characterized by the distinct possibility that the Corporation will sustain some loss if the deficiencies are not corrected.


•	Grade 8: defined as “Doubtful” credits — loans classified as doubtful have all the weaknesses inherent in a substandard asset. In addition, these weaknesses make collection or liquidation in full highly questionable and improbable.


•	Grade 9: defined as “Loss” credits — loans classified as a loss are considered uncollectible, or of such value that continuance as an asset is not warranted.

For the residential real estate segment, the Corporation monitors credit quality using a combination of the delinquency status of the loan and/or the Corporation’s internal credit risk grades as indicated above.

The following tables present the recorded investment of commercial real estate, commercial and residential real estate loans by internal credit risk grade and the recorded investment of residential real estate, home equity, indirect and consumer loans based on delinquency status as of March 31, 2015 and December 31, 2014:



Commercial Credit Exposure	Commercial Real Estate		Commercial		Residential Real Estate*		Home Equity Loans		Indirect		Consumer		Total
Commercial Credit Exposure	March 31, 2015
	(Dollars in thousands)
Loans graded by internal credit risk grade:
Grade 1 — Minimal	$	—	$	13	$	—	$	—	$	—	$	—	$	13
Grade 2 — Modest	600		4,817		—		—		—		—		5,417
Grade 3 — Better than average	7,133		3,064		—		—		—		—		10,197
Grade 4 — Average	332,753		62,141		4,546		—		—		—		399,440
Grade 5 — Acceptable	65,422		1,769		317		—		—		—		67,508
Total Pass Credits	405,908		71,804		4,863		—		—		—		482,575
Grade 6 — Special mention	655		3,782		25		—		—		—		4,462
Grade 7 — Substandard	12,817		408		1,038		—		—		—		14,263
Grade 8 — Doubtful	—		—		—		—		—		—		—
Grade 9 — Loss	—		—		—		—		—		—		—
Total loans internally credit risk graded	419,380		75,994		5,926		—		—		—		501,300
Loans not monitored by internal risk grade:
Current loans not internally risk graded	—		—		64,037		124,682		217,063		12,613		418,395
30-59 days past due loans not internally risk graded	—		—		213		497		420		30		1,160
60-89 days past due loans not internally risk graded	—		—		16		409		149		140		714
90+ days past due loans not internally risk graded	—		—		1,195		1,422		128		89		2,834
Total loans not internally credit risk graded	—		—		65,461		127,010		217,760		12,872		423,103
Total loans internally and not internally credit risk graded	$	419,380	$	75,994	$	71,387	$	127,010	$	217,760	$	12,872	$	924,403


*	Residential loans with an internal commercial credit risk grade include loans that are secured by non owner occupied 1-4 family residential properties and conventional 1-4 family residential properties.



Commercial Credit Exposure	Commercial Real Estate		Commercial		Residential Real Estate*		Home Equity Loans		Indirect		Consumer		Total
Commercial Credit Exposure	December 31, 2014
	(Dollars in thousands)
Loans graded by internal credit risk grade:
Grade 1 — Minimal	$	—	$	66	$	—	$	—	$	—	$	—	$	66
Grade 2 — Modest	600		4,521		—		—		—		—		5,121
Grade 3 — Better than average	8,576		117		—		—		—		—		8,693
Grade 4 — Average	301,225		60,074		3,249		—		—		—		364,548
Grade 5 — Acceptable	94,536		8,395		2,007		—		—		—		104,938
Total Pass Credits	404,937		73,173		5,256		—		—		—		483,366
Grade 6 — Special mention	2,365		4,163		26		—		—		—		6,554
Grade 7 — Substandard	18,090		189		1,067		—		—		—		19,346
Grade 8 — Doubtful	—		—		—		—		—		—		—
Grade 9 — Loss	—		—		—		—		—		—		—
Total loans internally credit risk graded	425,392		77,525		6,349		—		—		—		509,266
Loans not monitored by internal risk grade:
Current loans not internally risk graded	—		—		63,643		123,842		215,690		12,979		416,154
30-59 days past due loans not internally risk graded	—		—		230		530		287		235		1,282
60-89 days past due loans not internally risk graded	—		—		37		315		92		22		466
90+ days past due loans not internally risk graded	—		—		1,237		1,242		130		248		2,857
Total loans not internally credit risk graded	—		—		65,147		125,929		216,199		13,484		420,759
Total loans internally and not internally credit risk graded	$	425,392	$	77,525	$	71,496	$	125,929	$	216,199	$	13,484	$	930,025

* Residential loans with an internal commercial credit risk grade include loans that are secured by non owner occupied 1-4 family residential properties and conventional 1-4 family residential properties.

The Corporation adheres to underwriting standards consistent with its Loan Policy for indirect and consumer loans. Final approval of a consumer credit depends on the repayment ability of the borrower. Repayment ability generally requires the determination of the borrower’s capacity to meet current and proposed debt service requirements. A borrower’s repayment ability is monitored based on delinquency, generally for time periods of 30 to 59 days past due, 60 to 89 days past due and 90 days or greater past due. This information is provided in the above past due loans table.