Note 5 – Loans

The Company grants loans primarily to customers throughout north central, central and south central Pennsylvania and the southern tier of New York.  Although the Company had a diversified loan portfolio at September 30, 2016 and December 31, 2015, a substantial portion of its debtors' ability to honor their contracts is dependent on the economic conditions within these regions. The following table summarizes the primary segments of the loan portfolio and how those segments are analyzed within the allowance for loan losses as of September 30, 2016 and December 31, 2015 (in thousands):

September 30, 2016	Total Loans		Individually evaluated for impairment		Loans acquired with deteriorated credit quality		Collectively evaluated for impairment
Real estate loans:
Residential	$	205,092	$	969	$	35	$	204,088
Commercial and agricultural		339,704		5,567		2,748		331,389
Construction		18,774		-		-		18,774
Consumer		11,226		-		4		11,222
Other commercial and agricultural loans		78,258		5,428		778		72,052
State and political subdivision loans		98,239		-		-		98,239
Total		751,293		11,964		3,565		735,764
Allowance for loan losses		8,194		482		-		7,712
Net loans	$	743,099	$	11,482	$	3,565	$	728,052

December 31, 2015
Real estate loans:
Residential	$	203,407	$	304	$	35	$	203,068
Commercial and agricultural		295,364		6,235		2,908		286,221
Construction		15,011		-		-		15,011
Consumer		11,543		-		9		11,534
Other commercial and agricultural loans		71,206		5,745		866		64,595
State and political subdivision loans		98,500		-		-		98,500
Total		695,031		12,284		3,818		678,929
Allowance for loan losses		7,106		355		-		6,751
Net loans	$	687,925	$	11,929	$	3,818	$	672,178

Purchased loans acquired in the FNB acquisition were recorded at fair value on their purchase date without a carryover of the related allowance for loan losses.

Upon acquisition, the Company evaluated whether an acquired loan was within the scope of ASC 310-30, Receivables-Loans and Debt Securities Acquired with Deteriorated Credit Quality. Purchased credit-impaired ("PCI") loans are loans that have evidence of credit deterioration since origination and it is probable at the date of acquisition that the Company will not collect all contractually required principal and interest payments. Based upon management's review, there were no material increases or decreases in the expected cash flows of these loans between December 11, 2015 (the "acquisition date") and September 30, 2016. The fair value of PCI loans, on the acquisition date, was determined, primarily based on the fair value of the loans' collateral. The carrying value of PCI loans was $3,565,000 and $3,818,000 at September 30, 2016 and December 31, 2015, respectively.

On the acquisition date, the unpaid principal balance for all PCI loans was $6,969,000 and the estimated fair value of the loans was $3,809,000. Total contractually required payments on these loans, including interest, at the acquisition date was $9,913,000. However, the Company's preliminary estimate of expected cash flows was $4,474,000. At such date, the Company established a credit risk related non-accretable discount (a discount representing amounts which are not expected to be collected from the customer nor liquidation of collateral) of $5,439,000 relating to these PCI loans, reflected in the recorded net fair value. Such amount is reflected as a non-accretable fair value adjustment to loans. The Company further estimated the timing and amount of expected cash flows and established an accretable discount of $665,000 on the acquisition date relating to these PCI loans.

The carrying value of the PCI loans was determined by projected discounted contractual cash flows.

Changes in the accretable yield for PCI loans were as follows for the three and nine months ended September 30, 2016 (in thousands):

	Three Months Ended			Nine months Ended
Balance at beginning of period	$	464		$	637
Accretion		(88	)		(261	)
Balance at end of period	$	376		$	376

The following table presents additional information regarding loans acquired with specific evidence of deterioration in credit quality under ASC 310-30 (in thousands):

	September 30, 2016		December 31, 2015
Outstanding balance	$	6,774	$	6,950
Carrying amount		3,565		3,818

The segments of the Company's loan portfolio are disaggregated into classes to a level that allows management to monitor risk and performance. Residential real estate mortgages consist primarily of 15 to 30 year first mortgages on residential real estate, while residential real estate home equity loans are consumer purpose installment loans or lines of credit with terms of 15 years or less secured by a mortgage which is often a second lien on residential real estate. Commercial real estate loans are business purpose loans secured by a mortgage on commercial real estate. Agricultural real estate loans are loans secured by a mortgage on real estate used in agriculture production. Construction real estate loans are loans secured by residential or commercial real estate used during the construction phase of residential and commercial projects. Consumer loans are typically unsecured or primarily secured by assets other than real estate and overdraft lines of credit are typically secured by customer deposit accounts. Other commercial loans are loans for commercial purposes primarily secured by non-real estate collateral. Other agricultural loans are loans for agricultural purposes primarily secured by non-real estate collateral. State and political subdivision loans are loans to state and local municipalities for capital and operating expenses or tax free loans used to finance commercial development.

Management considers commercial loans, other agricultural loans, state and political subdivision loans, commercial real estate loans and agricultural real estate loans which are 90 days or more past due to be impaired. Management will also consider a loan impaired based on other factors it becomes aware of, including the customer's results of operations and cash flows or if the loan is modified in a troubled debt restructuring. In addition, certain residential mortgages, home equity and consumer loans that are cross collateralized with commercial relationships that are determined to be impaired may also be classified as impaired. Impaired loans are analyzed to determine if it is probable that all amounts will not be collected according to the contractual terms of the loan agreement. If management determines that the value of the impaired loan is less than the recorded investment in the loan (net of previous charge-offs, deferred loan fees or costs and unamortized premium or discount), impairment is recognized through an allocation of the allowance for loan losses or a charge-off to the allowance for loan losses.

The following table includes the recorded investment and unpaid principal balances for impaired financing receivables by class, excluding PCI loans, with the associated allowance amount, if applicable (in thousands):

			Recorded		Recorded
	Unpaid		Investment		Investment		Total
	Principal		With No		With		Recorded		Related
September 30, 2016	Balance		Allowance		Allowance		Investment		Allowance
Real estate loans:
Mortgages	$	959	$	574	$	337	$	911	$	28
Home Equity		58		-		58		58		11
Commercial		7,722		5,437		130		5,567		46
Agricultural		-		-		-		-		-
Construction		-		-		-		-		-
Consumer		-		-		-		-		-
Other commercial loans		5,591		4,494		934		5,428		397
Other agricultural loans		-		-		-		-		-
State and political
subdivision loans		-		-		-		-		-
Total	$	14,330	$	10,505	$	1,459	$	11,964	$	482

December 31, 2015
Real estate loans:
Mortgages	$	281	$	114	$	129	$	243	$	26
Home Equity		61		-		61		61		11
Commercial		8,654		5,843		225		6,068		62
Agricultural		167		167		-		167		-
Construction		-		-		-		-		-
Consumer		-		-		-		-		-
Other commercial loans		5,535		4,653		987		5,640		256
Other agricultural loans		105		105		-		105		-
State and political
subdivision loans		-		-		-		-		-
Total	$	14,803	$	10,882	$	1,402	$	12,284	$	355

The following tables includes the average balance of impaired financing receivables by class and the income recognized on these receivables for the three and nine month periods ended September 30, 2016 and 2015(in thousands):

	For the Nine Months ended
	September 30, 2016						September 30, 2015
					Interest						Interest
	Average		Interest		Income		Average		Interest		Income
	Recorded		Income		Recognized		Recorded		Income		Recognized
	Investment		Recognized		Cash Basis		Investment		Recognized		Cash Basis
Real estate loans:
Mortgages	$	486	$	10	$	-	$	239	$	8	$	5
Home Equity		59		3		-		97		3		-
Commercial		6,088		87		-		5,728		46		-
Agricultural		110		7		-		19		1		-
Construction		-		-		-		-		-		-
Consumer		-		-		-		-		-		-
Other commercial loans		5,743		187		5		2,488		64		4
Other agricultural loans		70		3		-		13		1		-
State and political
subdivision loans		-		-		-		-		-		-
Total	$	12,556	$	297	$	5	$	8,584	$	123	$	9

	For the Three Months Ended
	September 30, 2016						September 30, 2015
Real estate loans:
Mortgages	$	607	$	1	$	-	$	269	$	4	$	-
Home Equity		58		1		-		62		1		-
Commercial		5,980		35		-		5,462		14		-
Agricultural		-		2		-		57		1		-
Construction		-		-		-		-		-		-
Consumer		-		-		-		-		-		-
Other commercial loans		5,298		53		2		2,107		15		1
Other agricultural loans		-		-		-		38		1		-
State and political
subdivision loans		-		-		-		-		-		-
Total	$	11,943	$	92	$	2	$	7,995	$	36	$	1

Credit Quality Information

For commercial real estate, agricultural real estate, construction, other commercial, other agricultural and state and political subdivision loans, management uses a nine grade internal risk rating system to monitor credit quality. The first five categories are considered not criticized and are aggregated as "Pass" rated. The criticized rating categories utilized by management generally follow bank regulatory definitions. The definitions of each rating are defined below:

·	Pass (Grades 1-5) – These loans are to customers with credit quality ranging from an acceptable to very high quality and are protected by the current net worth and paying capacity of the obligor or by the value of the underlying collateral.

·	Special Mention (Grade 6) – This loan grade is in accordance with regulatory guidance and includes loans where a potential weakness or risk exists, which could cause a more serious problem if not corrected.

·	Substandard (Grade 7) – This loan grade is in accordance with regulatory guidance and includes loans that have a well-defined weakness based on objective evidence and be characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.

·	Doubtful (Grade 8) – This loan grade is in accordance with regulatory guidance and includes loans that have all the weaknesses inherent in a substandard asset. In addition, these weaknesses make collection or liquidation in full highly questionable and improbable, based on existing circumstances.

·	Loss (Grade 9) – This loan grade is in accordance with regulatory guidance and includes loans that are considered uncollectible, or of such value that continuance as an asset is not warranted.

To help ensure that risk ratings are accurate and reflect the present and future capacity of borrowers to repay the loan as agreed, the Company's loan rating process includes several layers of internal and external oversight. The Company's loan officers are responsible for the timely and accurate risk rating of the loans in each of their portfolios at origination and on an ongoing basis under the supervision of management.  All commercial and agricultural loans are reviewed annually to ensure the appropriateness of the loan grade. In addition, the Company engages an external consultant on at least an annual basis to 1) review a minimum of 55% of the dollar volume of the commercial loan portfolio on an annual basis, 2) review new loans originated for over $1.0 million in the last year, 3) review a majority of borrowers with commitments greater than or equal to $1.0 million,  4) review selected loan relationships over $750,000 which are over 30 days past due or classified Special Mention, Substandard, Doubtful, or Loss, and 5) such other loans which management or the consultant deems appropriate.

The following tables represent credit exposures by internally assigned grades as of September 30, 2016 and December 31, 2015 (in thousands):

September 30, 2016	Pass		Special Mention		Substandard		Doubtful		Loss		Ending Balance
Real estate loans:
Commercial	$	221,715	$	13,935	$	15,471	$	28	$	-	$	251,149
Agricultural		76,500		8,969		3,086		-		-		88,555
Construction		18,774		-		-		-		-		18,774
Other commercial loans		49,987		1,964		4,980		131		-		57,062
Other agricultural loans		17,383		2,350		1,463		-		-		21,196
State and political
subdivision loans		84,541		13,698		-		-		-		98,239
Total	$	468,900	$	40,916	$	25,000	$	159	$	-	$	534,975

December 31, 2015
Real estate loans:
Commercial	$	217,544	$	4,150	$	15,816	$	32	$	-	$	237,542
Agricultural		53,695		2,865		1,262		-		-		57,822
Construction		14,422		589		-		-		-		15,011
Other commercial loans		51,297		446		5,669		137		-		57,549
Other agricultural loans		13,318		234		105		-		-		13,657
State and political
subdivision loans		98,500		-		-		-		-		98,500
Total	$	448,776	$	8,284	$	22,852	$	169	$	-	$	480,081

For residential real estate mortgages, home equity and consumer loans, credit quality is monitored based on whether the loan is performing or non-performing, which is typically based on the aging status of the loan and payment activity, unless a specific action, such as bankruptcy, repossession, death or significant delay in payment occurs to raise awareness of a possible credit event. Non-performing loans include those loans that are considered nonaccrual, described in more detail below, and all loans past due 90 or more days and still accruing. The following table presents the recorded investment in those loan classes based on payment activity as of September 30, 2016 and December 31, 2015 (in thousands):

September 30, 2016	Performing		Non-performing		PCI		Total
Real estate loans:
Mortgages	$	144,249	$	1,846	$	35	$	146,130
Home Equity		58,845		117		-		58,962
Consumer		11,146		76		4		11,226
Total	$	214,240	$	2,039	$	39	$	216,318

December 31, 2015	Performing		Non-performing		PCI		Total
Real estate loans:
Mortgages	$	139,734	$	1,270	$	35	$	141,039
Home Equity		62,236		132		-	$	62,368
Consumer		11,470		64		9	$	11,543
Total	$	213,440	$	1,466	$	44	$	214,950

Aging Analysis of Past Due Financing Receivables

Management further monitors the performance and credit quality of the loan portfolio by analyzing the age of the portfolio as determined by the length of time a recorded payment is past due. The following table includes an aging analysis of the recorded investment of past due financing receivables as of September 30, 2016 and December 31, 2015 (in thousands):

													Total		90 Days or
	30-59 Days		60-89 Days		90 Days		Total Past						Financing		Greater and
September 30, 2016	Past Due		Past Due		Or Greater		Due		Current		PCI		Receivables		Accruing
Real estate loans:
Mortgages	$	720	$	153	$	1,128	$	2,001	$	144,094	$	35	$	146,130	$	173
Home Equity		398		15		67		480		58,482		-		58,962		17
Commercial		2,151		251		4,065		6,467		242,675		2,007		251,149		259
Agricultural		2,415		177		58		2,650		85,164		741		88,555		58
Construction		-		-		-		-		18,774		-		18,774		-
Consumer		149		42		52		243		10,979		4		11,226		34
Other commercial loans		303		-		4,015		4,318		51,966		778		57,062		-
Other agricultural loans		1,151		260		-		1,411		19,785		-		21,196		-
State and political
subdivision loans		-		-		-		-		98,239		-		98,239		-
Total	$	7,287	$	898	$	9,385	$	17,570	$	730,158	$	3,565	$	751,293	$	541

Loans considered non-accrual	$	331	$	19	$	8,844	$	9,194	$	837	$	-	$	10,031
Loans still accruing		6,956		879		541		8,376		729,321		3,565		741,262
Total	$	7,287	$	898	$	9,385	$	17,570	$	730,158	$	3,565	$	751,293

December 31, 2015
Real estate loans:
Mortgages	$	487	$	283	$	687	$	1,457	$	139,547	$	35	$	141,039	$	321
Home Equity		630		15		121		766		61,602		-		62,368		73
Commercial		824		57		4,139		5,020		230,352		2,170		237,542		60
Agricultural		177		167		-		344		56,740		738		57,822		-
Construction		-		-		-		-		15,011		-		15,011		-
Consumer		239		37		49		325		11,209		9		11,543		9
Other commercial loans		143		214		1,010		1,367		55,316		866		57,549		160
Other agricultural loans		9		-		-		9		13,648		-		13,657		-
State and political
subdivision loans		-		-		-		-		98,500		-		98,500		-
Total	$	2,509	$	773	$	6,006	$	9,288	$	681,925	$	3,818	$	695,031	$	623

Loans considered non-accrual	$	54	$	171	$	5,383	$	5,608	$	923	$	-	$	6,531
Loans still accruing		2,455		602		623		3,680		681,002		3,818		688,500
Total	$	2,509	$	773	$	6,006	$	9,288	$	681,925	$	3,818	$	695,031

Nonaccrual Loans

Loans are considered for non-accrual status upon reaching 90 days delinquency, although the Company may be receiving partial payments of interest and partial repayments of principal on such loans or if full payment of principal and interest is not expected. Additionally, if management is made aware of other information including bankruptcy, repossession, death, or legal proceedings, the loan may be placed on non-accrual status. If a loan is 90 days or more past due and is well secured and in the process of collection, it may still be considered accruing.

The following table reflects the financing receivables, excluding PCI loans, on non-accrual status as of September 30, 2016 and December 31, 2015, respectively. The balances are presented by class of financing receivable (in thousands):

	September 30, 2016		December 31, 2015
Real estate loans:
Mortgages	$	1,673	$	949
Home Equity		100		59
Commercial		4,056		4,422
Agricultural		26		34
Consumer		42		55
Other commercial loans		4,134		1,012
	$	10,031	$	6,531

Troubled Debt Restructurings

In situations where, for economic or legal reasons related to a borrower's financial difficulties, management may grant a concession for other than an insignificant period of time to the borrower that would not otherwise be considered, the related loan is classified as a Troubled Debt Restructuring (TDR). Management strives to identify borrowers in financial difficulty early and work with them to structure more affordable terms before their loan reaches nonaccrual status. These restructured terms may include rate reductions, principal forgiveness, payment forbearance and other actions intended to minimize the economic loss and to avoid foreclosure or repossession of the collateral. In cases where borrowers are granted new terms that provide for a reduction of interest or principal, or both, management measures any impairment on the restructuring by calculating the present value of the revised loan terms and comparing this balance to the Company's investment in the loan prior to the restructuring. As these loans are individually evaluated, they are excluded from pooled portfolios when calculating the allowance for loan and lease losses and a separate allocation within the allowance for loan and lease losses is provided. Management continually evaluates loans that are considered TDRs, including payment history under the modified loan terms, the borrower's ability to continue to repay the loan based on continued evaluation of their operating results and cash flows from operations.  Based on this evaluation management would no longer consider a loan to be a TDR when the relevant facts support such a conclusion. As of September 30, 2016 and December 31, 2015, included within the allowance for loan losses are reserves of $31,000 and $37,000 respectively, that are associated with loans modified as TDRs.

Loan modifications that are considered TDRs completed during the three and nine months ended September 30, 2016 and for the nine months ended September 30, 2015 were as follows (dollars in thousands). There were no loan modifications that were considered TDRs during the three months ended September 30, 2015:

	For the Three Months Ended September 30, 2016
	Number of contracts				Pre-modification Outstanding Recorded Investment				Post-Modification Outstanding Recorded Investment
	Interest Modification		Term Modification		Interest Modification		Term Modification		Interest Modification		Term Modification
Real estate loans:
Commercial		-		1	$	-	$	750	$	-	$	750
Other commercial loans		-		3		-		3,076		-		3,076
Total		-		4	$	-	$	3,826	$	-	$	3,826

	For the Nine Months Ended September 30, 2016
	Number of contracts				Pre-modification Outstanding Recorded Investment				Post-Modification Outstanding Recorded Investment
	Interest Modification		Term Modification		Interest Modification		Term Modification		Interest Modification		Term Modification
Real estate loans:
Commercial		-		4	$	-	$	1,188	$	-	$	1,188
Other commercial loans		-		3		-		3,076		-		3,076
Total		-		7	$	-	$	4,264	$	-	$	4,264

	For the Nine months Ended September 30, 2015
	Number of contracts				Pre-modification Outstanding Recorded Investment				Post-Modification Outstanding Recorded Investment
	Interest Modification		Term Modification		Interest Modification		Term Modification		Interest Modification		Term Modification
Real estate loans:
Mortgages		1		1	$	71	$	19	$	71	$	19
Total		1		1	$	71	$	19	$	71	$	19

Recidivism, or the borrower defaulting on its obligation pursuant to a modified loan, results in the loan once again becoming a non-accrual loan. Recidivism occurs at a notably higher rate than do defaults on new origination loans, so modified loans present a higher risk of loss than do new origination loans. There were no loans that were modified as TDRs during each 12-month period prior to the current reporting periods, which began January 1, 2016 and 2015 (nine month periods) and July 1, 2016 and 2015 (3 month periods), respectively, that subsequently defaulted during these reporting periods.

Allowance for Loan Losses

The following table segregates the allowance for loan losses (ALLL) into the amount required for loans individually evaluated for impairment and the amount required for loans collectively evaluated for impairment as of September 30, 2016 and December 31, 2015, respectively (in thousands):

	September 30, 2016						December 31, 2015
	Individually evaluated for impairment		Collectively evaluated for impairment		Total		Individually evaluated for impairment		Collectively evaluated for impairment		Total
Real estate loans:
Residential	$	39	$	974	$	1,013	$	37	$	868	$	905
Commercial and agricultural		46		4,560		4,606		62		3,723		3,785
Construction		-		34		34		-		24		24
Consumer		-		109		109		-		102		102
Other commercial and agricultural loans		397		1,245		1,642		256		1,049		1,305
State and political
subdivision loans		-		771		771		-		593		593
Unallocated		-		19		19		-		392		392
Total	$	482	$	7,712	$	8,194	$	355	$	6,751	$	7,106

The following tables roll forward the balance of the ALLL by portfolio segment for the three and nine month periods ended September 30, 2016 and 2015, respectively (in thousands):

	For the three months ended September 30, 2016
	Balance at June 30, 2016		Charge-offs			Recoveries		Provision			Balance at September 30, 2016
Real estate loans:
Residential	$	990	$	(9	)	$	-	$	32		$	1,013
Commercial and agricultural		3,919		(100	)		467		320			4,606
Construction		18		-			-		16			34
Consumer		104		(27	)		16		16			109
Other commercial and agricultural loans		1,564		(37	)		25		90			1,642
State and political									-
subdivision loans		764		-			-		7			771
Unallocated		-		-			-		19			19
Total	$	7,359	$	(173	)	$	508	$	500		$	8,194

	For the three months ended September 30, 2015
	Balance at June 30, 2015		Charge-offs			Recoveries		Provision			Balance at September 30, 2015
Real estate loans:
Residential	$	931	$	-		$	-	$	(18	)	$	913
Commercial and agricultural		3,679		-			4		120			3,803
Construction		14		-			-		3			17
Consumer		89		(11	)		13		-			91
Other commercial and agricultural loans		1,502		(40	)		-		(17	)		1,445
State and political									-
subdivision loans		568		-			-		18			586
Unallocated		176		-			-		14			190
Total	$	6,959	$	(51	)	$	17	$	120		$	7,045

	For the nine months ended September 30, 2016
	Balance at December 31, 2015		Charge-offs			Recoveries		Provision			Balance at September 30, 2016
Real estate loans:
Residential	$	905	$	(52	)	$	-	$	160		$	1,013
Commercial and agricultural		3,785		(100	)		475		446			4,606
Construction		24		-			-		10			34
Consumer		102		(65	)		84		(12	)		109
Other commercial and agricultural loans		1,305		(55	)		31		361			1,642
State and political									-
subdivision loans		593		-			-		178			771
Unallocated		392		-			-		(373	)		19
Total	$	7,106	$	(272	)	$	590	$	770		$	8,194

	For the nine months ended September 30, 2015
	Balance at December 31, 2014		Charge-offs			Recoveries		Provision			Balance at September 30, 2015
Real estate loans:
Residential	$	878	$	(34	)	$	-	$	69		$	913
Commercial and agricultural		3,870		(56	)		11		(22	)		3,803
Construction		26		-			-		(9	)		17
Consumer		84		(35	)		25		17			91
Other commercial and agricultural loans		1,224		(41	)		-		262			1,445
State and political									-
subdivision loans		545		-			-		41			586
Unallocated		188		-			-		2			190
Total	$	6,815	$	(166	)	$	36	$	360		$	7,045

The Company allocates the ALLL based on the factors described below, which conform to the Company's loan classification policy and credit quality measurements. In reviewing risk within the Company's loan portfolio, management has determined there to be several different risk categories within the loan portfolio. The ALLL consists of amounts applicable to: (i) residential real estate loans; (ii) residential real estate home equity loans; (iii) commercial real estate loans; (iv) agricultural real estate loans; (v) real estate construction loans; (vi) other commercial and agricultural loans; (vii) consumer loans; (viii) other agricultural loans and (ix) state and political subdivision loans. Factors considered in this process include general loan terms, collateral, and availability of historical data to support the analysis. Historical loss percentages are calculated and used as the basis for calculating allowance allocations. Certain qualitative factors are evaluated to determine additional inherent risks in the loan portfolio, which are not necessarily reflected in the historical loss percentages. These factors are then added to the historical allocation percentage to get the adjusted factor to be applied to non-classified loans. The following qualitative factors are analyzed:

·	Level of and trends in delinquencies and impaired/classified loans

§	Change in volume and severity of past due loans

§	Volume of non-accrual loans

§	Volume and severity of classified, adversely or graded loans;

·	Level of and trends in charge-offs and recoveries;

·	Trends in volume, terms and nature of the loan portfolio;

·	Effects of any changes in risk selection and underwriting standards and any other changes in lending and recovery policies, procedures and practices;

·	Changes in the quality of the Company's loan review system;

·	Experience, ability and depth of lending management and other relevant staff;

·	National, state, regional and local economic trends and business conditions

§	General economic conditions

§	Unemployment rates

§	Inflation rate/ Consumer Price Index

§	Changes in values of underlying collateral for collateral-dependent loans;

·	Industry conditions including the effects of external factors such as competition, legal, and regulatory requirements on the level of estimated credit losses;

·	Existence and effect of any credit concentrations, and changes in the level of such concentrations; and

·	Any change in the level of board oversight.

The Company analyzes its loan portfolio each quarter to determine the adequacy of its ALLL.

Loans determined to be TDRs are impaired and for purposes of estimating the ALLL must be individually evaluated for impairment. In calculating the impairment, the Company calculates the present value utilizing an analysis of discounted cash flows. If the present value calculated is below the recorded investment of the loan, impairment is recognized by a charge to the provision for loan and lease losses and a credit to the ALLL.

We continually review the model utilized in calculating the required ALLL. The following qualitative factors experienced changes during the first nine months of 2016:

The qualitative factors for changes in levels of and trends in delinquencies, impaired/classified loans were increased for residential, consumer and agricultural related loans due to an increase in past due, non-accrual and classified loans due to increase in the number of accounts past due.  We did not increase this factor for other commercial loans due to the increase being caused by one relationship instreat of a larger trend.

The qualitative factor for industry conditions, including the effects of external factors such as competition, legal, and regulatory requirements on the level of estimated credit losses, was increased for and segment that includes agricultural related loans due to the decrease in the price received for product sold and the increase in feed costs that has occurred in 2016, which negatively affected customer earnings.

·	The qualitative factor for national, state, regional and local economic trends and business conditions was increased for all loan categories due to an increase in the unemployment rates in the local economy during the first nine months of 2016.

·	The qualitative factors for changes in quality of the institutions loan review system were increased for commercial and agricultural loans due to the addition of new staff and processes.

·	The qualitative factors for trends in volume, terms and nature of the loan portfolio were increased for all segments that include agricultural loans due to growth in these loan categories.

·	The qualitative factors for trends in volume, terms and nature of the loan portfolio were decreased for municipal loans due to this loan segment making up a smaller portion of the Bank's overall loan portfolio as we continue to grow commercial and agricultural loans.

·	The qualitative factors for experience, ability. and depth of lending management was decreased for municipal loans due to employees gaining additional experience and the use of a third party in reviewing loan information.

The following qualitative factors experienced changes during the three months ended September 30, 2016:

·	The qualitative factors for changes in levels of and trends in delinquencies, impaired/classified loans were increased for all segments that agricultural related loans due to an increase in past due, non-accrual and classified loans.

·	The qualitative factors for changes in quality of the institutions loan review system were increased for commercial and agricultural loans due to the addition of new staff and processes.

·	The qualitative factors for trends in volume, terms and nature of the loan portfolio were increased for agricultural loans due to growth in these loan categories.

·	The qualitative factors for trends in volume, terms and nature of the loan portfolio were decreased for municipal loans due to this loan segment making up a smaller portion of the Bank's overall loan portfolio.

·	The qualitative factors for experience, ability, and depth of lending management was decreased for municipal loans due to employees gaining additional experience and the use of a third party in reviewing loan information.

The increase in loan recoveries during the third quarter was primarily due to one customer that paid off a loan that was partially charged off in 2014 for $463,000. The increase in the overall provision for 2016 was due to loan growth, an increase in special mention and substandard loans and increases in delinquency.

The following qualitative factors experienced changes during the first nine months of 2015:

·	The qualitative factor for national, state, regional and local economic trends and business conditions was increased for all loan categories due to an increase in the unemployment rates in the local economy during the first nine months of 2015.

The qualitative factors for changes in levels of and trends in delinquencies and impaired/classified loans were decreased for commercial and agricultural real estate due to the decrease in the amount of loans classified as substandard. While there has been an increase in delinquencies of commercial and agricultural real estate loans, the qualitative factor was not increased. The increase in delinquencies is attributable to one relationship, which is classified as impaired and management does not believe that this delinquency is a reflection of a further decrease in the credit quality of the commercial and agricultural real estate loan portfolio.

·	The qualitative factors for changes in levels of and trends in delinquencies, impaired/classified loans were increased for other commercial and agricultural loans due to an increase in the amount of loans classified as substandard.

·	The qualitative factor for levels of and trends in charge-offs and recoveries was decreased for commercial and agricultural real estate and other commercial and agricultural loans due to the decrease in charge-offs compared to the prior year as charge-offs returned to historical norms for the Bank.

The qualitative factor for experience, ability and depth of lending management and other relevant staff was decreased for commercial real estate, agricultural real estate, other commercial and other agricultural loans due to the length of time employees involved throughout the loan process have been in their positions.

The qualitative factor for industry conditions, including the effects of external factors such as competition, legal, and regulatory requirements on the level of estimated credit losses, was increased for commercial and agricultural related loans due to the decrease in the price received for product sold and the increase in feed costs that has occurred in 2015, which negatively affected customer earnings.

·	The qualitative factor for levels of and trends in charge-offs and recoveries was increased for residential real estate loans due to the increase in charge-offs compared to historical norms for the Company.

·	The qualitative factors for changes in levels of and trends in delinquencies and impaired/classified loans was increased for residential mortgages due to increases in the amount of non-performing loans.

The following qualitative factors experienced changes during the three months ended September 30, 2015:

·	The qualitative factors for changes in levels of and trends in delinquencies and impaired/classified loans were increased for other agricultural loans due to an increase in the amount of classified loans.

·	The qualitative factor for levels of and trends in charge-offs and recoveries was increased for other commercial loans due to the increase in charge-offs during the quarter.

The primary factor that resulted in negative provision for commercial and agricultural loans for the nine month period ended September 30, 2015 was the reduction in the amount of special mention and substandard loans since December 31, 2014.

Foreclosed Assets Held For Sale

Foreclosed assets acquired in settlement of loans are carried at fair value, less estimated costs to sell, and are included in other assets on the Consolidated Balance Sheet. As of September 30, 2016 and December 31, 2015 included with other assets are $1,198,000 and $1,354,000, respectively, of foreclosed assets. As of September 30, 2016, included within the foreclosed assets are $325,000 of consumer residential mortgages that were foreclosed on or received via a deed in lieu transaction prior to the period end. As of September 30, 2016, the Company has initiated formal foreclosure proceedings on $1,265,000 of consumer residential mortgages, which have not yet been transferred into foreclosed assets.