Note 3. Loans and the Allowance for Loan Losses

The following is a summary of the balances in each class of the Company's loan portfolio as of the dates indicated:

	September 30, 2017			December 31, 2016
	(in thousands)
Mortgage loans on real estate:
Residential 1-4 family	$	100,746		$	94,827
Commercial		281,628			285,429
Construction		23,715			23,116
Second mortgages		17,557			17,128
Equity lines of credit		54,029			51,024
Total mortgage loans on real estate		477,675			471,524
Commercial and industrial loans		60,003			54,434
Consumer automobile loans		94,041			10,407
Other consumer loans		56,386			48,500
Other		12,891			19,017
Total loans, net of deferred fees (1)		700,996			603,882
Less: Allowance for loan losses		(8,951	)		(8,245	)
Loans, net of allowance and deferred fees and costs (1)	$	692,045		$	595,637

(1) Net deferred loan fees totaled $874 thousand and $522 thousand at September 30, 2017 and December 31, 2016, respectively.

Overdrawn deposit accounts are reclassified as loans and included in the Other category in the table above. Overdrawn deposit accounts totaled $728 thousand and $536 thousand at September 30, 2017 and December 31, 2016, respectively.

CREDIT QUALITY INFORMATION

The Company uses internally-assigned risk grades to estimate the capability of borrowers to repay the contractual obligations of their loan agreements as scheduled or at all. The Company's internal risk grade system is based on experiences with similarly graded loans. Credit risk grades are updated at least quarterly as additional information becomes available, at which time management analyzes the resulting scores to track loan performance.

The Company's internally assigned risk grades are as follows:

Pass: Loans are of acceptable risk.
Other Assets Especially Mentioned (OAEM): Loans have potential weaknesses that deserve management's close attention.
Substandard: Loans reflect significant deficiencies due to several adverse trends of a financial, economic or managerial nature.
Doubtful: Loans have all the weaknesses inherent in a substandard loan with added characteristics that make collection or liquidation in full based on currently existing facts, conditions and values highly questionable or improbable.
Loss: Loans have been identified for charge-off because they are considered uncollectible and of such little value that their continuance as bankable assets is not warranted.

The following table presents credit quality exposures by internally assigned risk ratings as of the dates indicated:

Credit Quality Information
As of September 30, 2017
(in thousands)
	Pass		OAEM		Substandard		Doubtful		Total
Mortgage loans on real estate:
Residential 1-4 family	$	98,829	$	-	$	1,917	$	-	$	100,746
Commercial		256,898		11,696		13,034		-		281,628
Construction		22,920		74		721		-		23,715
Second mortgages		16,952		446		159		-		17,557
Equity lines of credit		53,686		-		343		-		54,029
Total mortgage loans on real estate		449,285		12,216		16,174		-		477,675
Commercial and industrial loans		58,192		1,037		774		-		60,003
Consumer automobile loans		93,984		-		57		-		94,041
Other consumer loans		56,336		-		50		-		56,386
Other		12,891		-		-		-		12,891
Total	$	670,688	$	13,253	$	17,055	$	-	$	700,996

Credit Quality Information
As of December 31, 2016
(in thousands)
	Pass		OAEM		Substandard		Doubtful		Total
Mortgage loans on real estate:
Residential 1-4 family	$	92,458	$	1,138	$	1,231	$	-	$	94,827
Commercial		260,948		10,014		14,467		-		285,429
Construction		22,219		162		735		-		23,116
Second mortgages		16,445		475		208		-		17,128
Equity lines of credit		50,387		500		137		-		51,024
Total mortgage loans on real estate		442,457		12,289		16,778		-		471,524
Commercial and industrial loans		49,979		2,278		2,177		-		54,434
Consumer automobile loans		10,407		-		-		-		10,407
Other consumer loans		48,334		-		166		-		48,500
Other		19,017		-		-		-		19,017
Total	$	570,194	$	14,567	$	19,121	$	-	$	603,882

AGE ANALYSIS OF PAST DUE LOANS BY CLASS

All classes of loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. Interest and fees continue to accrue on past due loans until the date the loan is placed in nonaccrual status, if applicable. The following table includes an aging analysis of the recorded investment in past due loans as of the dates indicated. Also included in the table below are loans that are 90 days or more past due as to interest and principal and still accruing interest, because they are well-secured and in the process of collection. Loans in nonaccrual status that are also past due are included in the aging categories in the table below.

Age Analysis of Past Due Loans as of September 30, 2017
	30 - 59 Days Past Due		60 - 89 Days Past Due		90 or More Days Past Due		Total Past Due		Total Current Loans ⁽¹⁾		Total Loans		Recorded Investment > 90 Days Past Due and Accruing
	(in thousands)
Mortgage loans on real estate:
Residential 1-4 family	$	869	$	-	$	621	$	1,490	$	99,256	$	100,746	$	52
Commercial		169		984		3,530		4,683		276,945		281,628		974
Construction		204		-		-		204		23,511		23,715		-
Second mortgages		79		-		-		79		17,478		17,557		-
Equity lines of credit		49		-		53		102		53,927		54,029		-
Total mortgage loans on real estate		1,370		984		4,204		6,558		471,117		477,675		1,026
Commercial loans		853		154		1,226		2,233		57,770		60,003		473
Consumer automobile loans		266		44		16		326		93,715		94,041		16
Other consumer loans		1,541		585		2,466		4,592		51,794		56,386		2,466
Other		91		8		2		101		12,790		12,891		2
Total	$	4,121	$	1,775	$	7,914	$	13,810	$	687,186	$	700,996	$	3,983

⁽¹⁾ For purposes of this table, Total Current Loans includes loans that are 1 - 29 days past due.

In the table above, the other consumer loans category includes student loans with principal and interest amounts that are 97 - 98% guaranteed by the federal government. The past due principal portion of these guaranteed loans totaled $4.1 million at September 30, 2017.

Age Analysis of Past Due Loans as of December 31, 2016
	30 - 59 Days Past Due		60 - 89 Days Past Due		90 or More Days Past Due		Total Past Due		Total Current Loans ⁽¹⁾		Total Loans		Recorded Investment > 90 Days Past Due and Accruing
	(in thousands)
Mortgage loans on real estate:
Residential 1-4 family	$	564	$	-	$	496	$	1,060	$	93,767	$	94,827	$	218
Commercial		2,280		1,625		227		4,132		281,297		285,429		-
Construction		162		-		-		162		22,954		23,116		-
Second mortgages		-		200		188		388		16,740		17,128		58
Equity lines of credit		394		9		86		489		50,535		51,024		-
Total mortgage loans on real estate		3,400		1,834		997		6,231		465,293		471,524		276
Commercial loans		5		-		86		91		54,343		54,434		-
Consumer automobile loans		-		11		-		11		10,396		10,407		-
Other consumer loans		1,876		702		2,684		5,262		43,238		48,500		2,603
Other		41		12		5		58		18,959		19,017		5
Total	$	5,322	$	2,559	$	3,772	$	11,653	$	592,229	$	603,882	$	2,884

⁽¹⁾ For purposes of this table, Total Current Loans includes loans that are 1 - 29 days past due.

Although the portion of the student loan portfolio that is 90 days or more past due would normally be considered impaired, the Company does not include these loans in its impairment analysis. Because the federal government has provided guarantees of repayment of these student loans in an amount ranging from 97% to 98% of the total principal and interest of the loans, management does not expect significant increases in past due student loans to have a material effect on the Company.

NONACCRUAL LOANS

The Company generally places commercial loans (including construction loans and commercial loans secured and not secured by real estate) in nonaccrual status when the full and timely collection of interest or principal becomes uncertain, part of the principal balance has been charged off and no restructuring has occurred or the loan reaches 90 days past due, unless the credit is well-secured and in the process of collection.

Under regulatory rules, consumer loans, which are loans to individuals for household, family and other personal expenditures, and consumer loans secured by real estate (including residential 1 - 4 family mortgages, second mortgages, and equity lines of credit) are not required to be placed in nonaccrual status. Although consumer loans and consumer loans secured by real estate are not required to be placed in nonaccrual status, the Company may elect to place these loans in nonaccrual status, if necessary to avoid a material overstatement of interest income. Generally, consumer loans secured by real estate are placed in nonaccrual status only when payments are 120 days past due.

Generally, consumer loans not secured by real estate are placed in nonaccrual status only when part of the principal has been charged off. If a charge-off has not occurred sooner for other reasons, a consumer loan not secured by real estate will generally be placed in nonaccrual status when payments are 120 days past due. These loans are charged off or written down to the net realizable value of the collateral when deemed uncollectible, when classified as a "loss," when repayment is unreasonably protracted, when bankruptcy has been initiated, or when the loan is 120 days or more past due unless the credit is well-secured and in the process of collection.

When management places a loan in nonaccrual status, the accrued unpaid interest receivable is reversed against interest income and the loan is accounted for by the cash basis or cost recovery method, until it qualifies for return to accrual status or is charged off. Generally, loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured, or when the borrower has resumed paying the full amount of the scheduled contractual interest and principal payments for at least six months.

The following table presents loans in nonaccrual status by class of loan as of the dates indicated:

Nonaccrual Loans by Class
	September 30, 2017		December 31, 2016
	(in thousands)
Mortgage loans on real estate
Residential 1-4 family	$	568	$	598
Commercial		8,012		6,033
Construction		518		-
Second mortgages		-		129
Equity lines of credit		343		87
Total mortgage loans on real estate		9,441		6,847
Commercial loans		771		231
Other consumer loans		-		81
Total	$	10,212	$	7,159

The following table presents the interest income that the Company would have earned under the original terms of its nonaccrual loans and the actual interest recorded by the Company on nonaccrual loans for the periods presented:

	Nine Months Ended September 30,
	2017			2016
	(in thousands)
Interest income that would have been recorded under original loan terms		$	311	$	232
Actual interest income recorded for the period			179		182
Reduction in interest income on nonaccrual loans		$	132	$	50

TROUBLED DEBT RESTRUCTURINGS

The Company's loan portfolio includes certain loans that have been modified in a troubled debt restructuring (TDR), where economic concessions have been granted to borrowers who are experiencing financial difficulties. These concessions typically result from the Company's loss mitigation activities and could include reduction in the interest rate below current market rates for borrowers with similar risk profiles, payment extensions, forgiveness of principal, forbearance or other actions intended to maximize collection. The Company defines a TDR as nonperforming if the TDR is in nonaccrual status or is 90 days or more past due and still accruing interest at the report date.

When the Company modifies a loan, management evaluates any possible impairment as stated in the impaired loan section below.

The following tables present TDRs during the periods indicated, by class of loan. There were no troubled debt restructurings in the three months ended September 30, 2017.

Troubled Debt Restructurings by Class
For the Three Months Ended September 30, 2016
	Number of Modifications		Recorded Investment Prior to Modification		Recorded Investment After Modification		Current Investment on September 30, 2016
	(dollars in thousands)
Mortgage loans on real estate:
Residential 1-4 family		4	$	1,002	$	1,002	$	1,002
Commercial		1		150		150		150
Second mortgages		1		53		53		53
Equity lines of credit		1		93		93		93
Total mortgage loans on real estate		7		1,298		1,298		1,298
Other consumer loans		2		8		8		8
Total		9	$	1,306	$	1,306	$	1,306

Troubled Debt Restructurings by Class
For the Nine Months Ended September 30, 2017
	Number of Modifications		Recorded Investment Prior to Modification		Recorded Investment After Modification		Current Investment on September 30, 2017
	(dollars in thousands)
Mortgage loans on real estate:
Residential 1-4 family		1	$	142	$	142	$	141
Commercial		2		3,663		3,663		3,653
Total		3	$	3,805	$	3,805	$	3,794

Troubled Debt Restructurings by Class
For the Nine Months Ended September 30, 2016
	Number of Modifications		Recorded Investment Prior to Modification		Recorded Investment After Modification		Current Investment on September 30, 2016
	(dollars in thousands)
Mortgage loans on real estate:
Residential 1-4 family		4	$	1,002	$	1,002	$	1
Commercial		1		150		150		0
Second mortgages		1		53		53		0
Equity lines of credit		1		93		93		0
Total mortgage loans on real estate		7		1,298		1,298		1
Commercial loans		1		152		152		0
Other consumer loans		2		8		8		0
Commercial loans		10	$	1,458	$	1,458	$	1

Of the loans restructured in the first nine months of 2017 one was given a below-market rate for debt with similar risk characteristics and two were granted terms that the Company would not otherwise extend to borrowers with similar risk characteristics. Two of the loans restructured in the first nine months ended September 30, 2016 were given below-market rates for debt with similar risk characteristics, and eight of the loans, which were part of a single borrowing relationship, were given terms not otherwise offered to borrowers with similar risk characteristics. At September 30, 2017 and December 31, 2016, the Company had no outstanding commitments to disburse additional funds on any TDR. At December 31, 2016, the Company had $10 thousand in loans secured by residential 1 - 4 family real estate that were in the process of foreclosure. There were loans totaling $142 thousand secured by residential 1 - 4 family real estate in the process of foreclosure at September 30, 2017.

In the three and nine months ended September 30, 2017 and 2016, there were no defaulting TDRs where the default occurred within twelve months of restructuring. The Company considers a TDR in default when any of the following occurs: the loan, as restructured, becomes 90 days or more past due; the loan is moved to nonaccrual status following the restructure; the loan is restructured again under terms that would qualify it as a TDR if it were not already so classified; or any portion of the loan is charged off.

All TDRs are factored into the determination of the allowance for loan losses and included in the impaired loan analysis, as discussed below.

IMPAIRED LOANS

A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts when due from the borrower in accordance with the contractual terms of the loan. Impaired loans include nonperforming loans and loans modified in a TDR. When management identifies a loan as impaired, the impairment is measured based on the present value of expected future cash flows, discounted at the loan's effective interest rate, except when the sole or remaining source of repayment for the loan is the operation or liquidation of the collateral. In these cases, management uses the current fair value of the collateral, less selling costs, when foreclosure is probable, instead of the discounted cash flows. 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 a specific allocation in the allowance or a charge-off to the allowance.

When the ultimate collectability of the total principal of an impaired loan is in doubt and the loan is in nonaccrual status, all payments are applied to principal under the cost-recovery method. For financial statement purposes, the recorded investment in the loan is the actual principal balance reduced by payments that would otherwise have been applied to interest. When reporting information on these loans to the applicable customers, the unpaid principal balance is reported as if payments were applied to principal and interest under the original terms of the loan agreements. Therefore, the unpaid principal balance reported to the customer would be higher than the recorded investment in the loan for financial statement purposes. When the ultimate collectability of the total principal of the impaired loan is not in doubt and the loan is in nonaccrual status, contractual interest is credited to interest income when received under the cash-basis method.

The following table includes the recorded investment and unpaid principal balances (a portion of which may have been charged off) for impaired loans with the associated allowance amount, if applicable, as of the dates presented. Also presented are the average recorded investments in the impaired loans and the related amount of interest recognized for the periods presented. The average balances are calculated based on daily average balances.

Impaired Loans by Class
	As of September 30, 2017												For the nine months ended September 30, 2017
				Recorded Investment
	Unpaid Principal Balance			Without Valuation Allowance			With Valuation Allowance			Associated Allowance			Average Recorded Investment			Interest Income Recognized
	(in thousands)
Mortgage loans on real estate:
Residential 1-4 family		$	2,449		$	1,980		$	390		$	75		$	2,429		$	74
Commercial			12,430			10,758			436			87			13,447			435
Construction			93			-			93			18			269			4
Second mortgages			359			201			137			15			461			12
Equity lines of credit			344			53			290			61			250			-
Total mortgage loans on real estate		$	15,675		$	12,992		$	1,346		$	256		$	16,856		$	525
Commercial loans			1,017			163			608			183			1,513			21
Other consumer loans			-			-			-			-			54			-
Total		$	16,692		$	13,155		$	1,954		$	439		$	18,423		$	546

Impaired Loans by Class
	As of December 31, 2016											For the Year Ended December 31, 2016
			Recorded Investment
	Unpaid Principal Balance		Without Valuation Allowance			With Valuation Allowance			Associated Allowance			Average Recorded Investment			Interest Income Recognized
	(in thousands)
Mortgage loans on real estate:
Residential 1-4 family	$	2,496		$	1,835		$	622		$	75		$	2,741		$	119
Commercial		16,193			11,095			4,274			415			11,885			727
Construction		619			528			96			22			496			43
Second mortgages		526			309			141			17			511			25
Equity lines of credit		87			86			-			-			46			3
Total mortgage loans on real estate	$	19,921		$	13,853		$	5,133		$	529		$	15,679		$	917
Commercial loans		1,077			-			989			271			827			74
Other consumer loans		81			81			-			-			68			1
Total	$	21,079		$	13,934		$	6,122		$	800		$	16,574		$	992

MONITORING OF LOANS AND EFFECT OF MONITORING FOR THE ALLOWANCE FOR LOAN LOSSES

Loan officers are responsible for continual portfolio analysis and prompt identification and reporting of problem loans, which includes assigning a risk grade to each applicable loan at its origination and revising such grade as the situation dictates. Loan officers maintain frequent contact with borrowers, which should enable the loan officer to identify potential problems before other personnel. In addition, meetings with loan officers and upper management are held to discuss problem loans and review risk grades. Nonetheless, in order to avoid over-reliance upon loan officers for problem loan identification, the Company's loan review system provides for review of loans and risk grades by individuals who are independent of the loan approval process. Risk grades and historical loss rates (determined by migration analysis) by risk grades are used as a component of the calculation of the allowance for loan losses.

ALLOWANCE FOR LOAN LOSSES

Management has an established methodology to determine the adequacy of the allowance for loan losses that assesses the risks and probable losses inherent in the loan portfolio. The Company segments the loan portfolio into categories as defined by Schedule RC-C of the Federal Financial Institutions Examination Council Consolidated Reports of Condition and Income Form 041 (Call Report). Loans are segmented into the following pools: commercial, real estate-construction, real estate-mortgage, consumer and other loans. The Company also sub-segments the real estate-mortgage segment into four classes: residential 1-4 family, commercial real estate, second mortgages and equity lines of credit.

The Company uses an internally developed risk evaluation model in the estimation of the credit risk process. The model and assumptions used to determine the allowance are independently validated and reviewed to ensure that the theoretical foundation, assumptions, data integrity, computational processes and reporting practices are appropriate and properly documented.

Each portfolio segment has risk characteristics as follows:

Commercial: Commercial loans carry risks associated with the successful operation of a business or project, in addition to other risks associated with the ownership of a business. The repayment of these loans may be dependent upon the profitability and cash flows of the business. In addition, there is risk associated with the value of collateral other than real estate which may depreciate over time and cannot be appraised with as much precision.
Real estate-construction: Construction loans carry risks that the project will not be finished according to schedule, the project will not be finished according to budget and the value of the collateral may at any point in time be less than the principal amount of the loan. Construction loans also bear the risk that the general contractor, who may or may not be the loan customer, may be unable to finish the construction project as planned because of financial pressure unrelated to the project.
Real estate-mortgage: Residential mortgage loans and equity lines of credit carry risks associated with the continued credit-worthiness of the borrower and changes in the value of the collateral. Commercial real estate loans carry risks associated with the successful operation of a business if owner occupied. If non-owner occupied, the repayment of these loans may be dependent upon the profitability and cash flow from rent receipts.
Consumer loans: Consumer loans carry risks associated with the continued credit-worthiness of the borrowers and the value of the collateral. Consumer loans are more likely than real estate loans to be immediately adversely affected by job loss, divorce, illness or personal bankruptcy.
Other loans: Other loans are loans to mortgage companies, loans for purchasing or carrying securities, and loans to insurance, investment and finance companies. These loans carry risks associated with the successful operation of a business. In addition, there is risk associated with the value of collateral other than real estate which may depreciate over time, depend on interest rates or fluctuate in active trading markets.

Each segment of the portfolio is pooled by risk grade or by days past due. Consumer loans not secured by real estate and made to individuals for household, family and other personal expenditures are segmented into pools based on days past due, while all other loans, including loans to consumers that are secured by real estate, are segmented by risk grades. A historical loss percentage is then calculated by migration analysis and applied to each pool. The migration analysis applied to all pools is able to track the risk grading and historical performance of individual loans throughout a number of periods set by management, which provides management with information regarding trends (or migrations) in a particular loan segment. At December 31, 2016 management used four twelve-quarter migration periods; at September 30, 2017 management used eight twelve-quarter migration periods. See "Changes in Allowance Methodology" section later in this note.

Management also provides an allocated component of the allowance for loans that are specifically identified that may be impaired, and are individually analyzed for impairment. An allocated allowance is established when the present value of expected future cash flows from the impaired loan (or the collateral value or observable market price of the impaired loan) is lower than the carrying value of that loan.

Based on credit risk assessments and management's analysis of qualitative factors, additional loss factors are applied to loan balances. These additional qualitative factors include: economic conditions, trends in growth, loan concentrations, changes in certain loans, changes in underwriting, changes in management and changes in the legal and regulatory environment.

ALLOWANCE FOR LOAN LOSSES BY SEGMENT

The total allowance reflects management's estimate of losses inherent in the loan portfolio at the balance sheet date. The Company considers the allowance for loan losses of $9.0 million adequate to cover probable loan losses inherent in the loan portfolio at September 30, 2017.

The following table presents, by portfolio segment, the changes in the allowance for loan losses and the recorded investment in loans for the periods presented. Allocation of a portion of the allowance to one category of loans does not preclude its availability to absorb losses in other categories.

ALLOWANCE FOR LOAN LOSSES AND RECORDED INVESTMENT IN LOANS
(in thousands)
For the Nine Months Ended September 30, 2017	Commercial			Real Estate - Construction			Real Estate - Mortgage ⁽¹⁾			Consumer ⁽²⁾			Other			Total
Allowance for Loan Losses:
Balance at the beginning of period	$	1,493		$	846		$	5,267		$	455		$	184		$	8,245
Charge-offs		(629	)		-			(1,473	)		(228	)		(136	)		(2,466	)
Recoveries		32			104			40			33			38			247
Provision for loan losses		679			(332	)		1,573			909			96			2,925
Ending balance	$	1,575		$	618		$	5,407		$	1,169		$	182		$	8,951
Ending balance individually evaluated for impairment	$	183		$	18		$	238		$	-		$	-		$	439
Ending balance collectively evaluated for impairment		1,392			600			5,169			1,169			182			8,512
Ending balance	$	1,575		$	618		$	5,407		$	1,169		$	182		$	8,951
Loan Balances:
Ending balance individually evaluated for impairment	$	771		$	93		$	14,245		$	-		$	-		$	15,109
Ending balance collectively evaluated for impairment		59,232			23,622			439,715			150,427			12,891			685,887
Ending balance	$	60,003		$	23,715		$	453,960		$	150,427		$	12,891		$	700,996

For the Year Ended December 31, 2016	Commercial			Real Estate - Construction			Real Estate - Mortgage ⁽¹⁾			Consumer			Other			Total
Allowance for Loan Losses:
Balance at the beginning of period	$	633		$	985		$	5,628		$	279		$	213		$	7,738
Charge-offs		(915	)		-			(504	)		(204	)		(147	)		(1,770	)
Recoveries		79			3			197			28			40			347
Provision for loan losses		1,696			(142	)		(54	)		352			78			1,930
Ending balance	$	1,493		$	846		$	5,267		$	455		$	184		$	8,245
Ending balance individually evaluated for impairment	$	271		$	22		$	507		$	-		$	-		$	800
Ending balance collectively evaluated for impairment		1,222			824			4,760			455			184			7,445
Ending balance	$	1,493		$	846		$	5,267		$	455		$	184		$	8,245
Loan Balances:
Ending balance individually evaluated for impairment	$	989		$	624		$	18,362		$	81		$	-		$	20,056
Ending balance collectively evaluated for impairment		53,445			22,492			430,046			58,826			19,017			583,826
Ending balance	$	54,434		$	23,116		$	448,408		$	58,907		$	19,017		$	603,882

⁽¹⁾ The real estate-mortgage segment includes residential 1 – 4 family, commercial real estate, second mortgages and equity lines of credit.

⁽²⁾ The consumer segment includes consumer automobile loans.

CHANGES IN ALLOWANCE METHODOLOGY

Historical loss rates calculated by migration analysis are determined by the performance of a loan over a period of time (the migration period). This migration period can be lengthened or shortened based on management's assessment of the most appropriate length of time over which to analyze losses in the loan portfolio. The Company can also calculate multiple migration periods, allowing management to assess the migration of loans based on more than one starting point.

In the third quarter of 2017, management changed its migration approach for calculating the allowance to better match the length of the current credit cycle. The number of migration periods was changed from four to eight. Each migration period remains at twelve quarters, the length of the migration period used by the Company in prior periods. This change had the result of reducing the calculated provision from $3.4 million to $2.9 million, a difference of $447 thousand. The prior quarters' methodology was resulting in distortion between required allocations by segment and the underlying credit metrics for those segments. By increasing the number of migration periods from four to eight, the migration is better able to capture the performance of the portfolio segment over a greater portion of the credit cycle.

The following table represents the effect on the loan loss provision as a result of this change in methodology. It compares the methodology results actually used for the three and nine months ended September 30, 2017 to that used in prior periods.

	Calculated Provision Based on Current Quarter Methodology			Calculated Provision Based on Prior Quarter Methodology			Difference
	(in thousands)
Portfolio Segment:
Commercial	$	679		$	970		$	(291	)
Real estate - construction		(332	)		(815	)		483
Real estate - mortgage		1,573			1,859			(286	)
Consumer loans		909			1,262			(353	)
Other		96			96			-
Total	$	2,925		$	3,372		$	(447	)

The allowance for loan losses was 1.28% of total loans at September 30, 2017, compared to 1.37% at December 31, 2016. While the overall coverage of the allowance for loan losses decreased from December 31, 2016 at the same time that both nonaccrual loans and total past dues increased, the increases noted in nonaccrual and past due levels are not considered reflective of general trends in the portfolio. With respect to nonaccruals, the increase is a result of two loan relationships totaling $4.0 million that were placed on nonaccrual status in the first quarter of 2017 based on declines in the borrowers' performance and changes in the status of the loans' collateral. Both relationships were identified as impaired at December 31, 2016. Management has charged off portions of these relationships and believes that the collateral on these loans will be sufficient to cover remaining balances for which it has no specific allocation. With respect to past dues, approximately $1 million of the increase is associated with matured loans that have since renewed, and another $500 thousand is guaranteed by the SBA. Lastly, both impaired loans and classified assets reflect decreased balances from December 31, 2016, respectively.