NOTE 6. LOANS

Loans are generally stated at the amount of unpaid principal, reduced by unearned discount and allowance for loan losses. Interest on loans is accrued daily on the outstanding balances. Loan origination fees and certain direct loan origination costs are deferred and amortized as adjustments of the related loan yield over its contractual life.

Generally, loans are placed on nonaccrual status when principal or interest is greater than 90 days past due based upon the loan's contractual terms. Interest is accrued daily on impaired loans unless the loan is placed on nonaccrual status. Impaired loans are placed on nonaccrual status when the payments of principal and interest are in default for a period of 90 days, unless the loan is both well-secured and in the process of collection. Interest on nonaccrual loans is recognized primarily using the cost-recovery method. Loans may be returned to accrual status when repayment is reasonably assured and there has been demonstrated performance under the terms of the loan or, if applicable, the terms of the restructured loans.

Commercial-related loans or portions thereof (which are risk-rated) are charged off to the allowance for loan losses when the loss has been confirmed. This determination is made on a case by case basis considering many factors, including the prioritization of our claim in bankruptcy, expectations of the workout/restructuring of the loan and valuation of the borrower's equity. We deem a loss confirmed when a loan or a portion of a loan is classified "loss" in accordance with bank regulatory classification guidelines, which state, "Assets classified loss are considered uncollectible and of such little value that their continuance as bankable assts is not warranted".

Consumer-related loans are generally charged off to the allowance for loan losses upon reaching specified stages of delinquency, in accordance with the Federal Financial Institutions Examination Council policy. For example, credit card loans are charged off by the end of the month in which the account becomes 180 days past due or within 60 days from receiving notification about a specified event (e.g., bankruptcy of the borrower), whichever is earlier. Residential mortgage loans are generally charged off to net realizable value no later than when the account becomes 180 days past due. Other consumer loans, if collateralized, are generally charged off to net realizable value at 120 days past due.

Loans are summarized as follows:

	June 30,		December 31,		June 30,
Dollars in thousands	2011		2010		2010
Commercial	$	92,287	$	97,059	$	117,072
Commercial real estate
Owner-occupied		180,943		187,098		196,376
Non-owner occupied		242,431		235,337		231,716
Construction and development
Land and land development		94,464		99,085		105,324
Construction		12,223		13,691		36,545
Residential real estate
Non-jumbo		228,205		239,290		250,958
Jumbo		60,817		61,340		65,021
Home equity		50,884		50,987		51,431
Consumer		23,773		24,145		25,908
Other		3,116		4,511		5,534
Total loans, net of unearned fees		989,143		1,012,543		1,085,885
Less allowance for loan losses		18,016		17,224		20,767
Loans, net	$	971,127	$	995,319	$	1,065,118

The following table presents the contractual aging of the recorded investment in past due loans by class as of June 30, 2011 and 2010 and December 31, 2010.

	At June 30, 2011
											Recorded
											Investment
	Past Due										> 90 days
Dollars in thousands	30-59 days		60-89 days		> 90 days		Total		Current		and Accruing
Commercial	$	315	$	1,476	$	1,964	$	3,755	$	88,532	$	-
Commercial real estate
Owner-occupied		1,284		379		1,648		3,311		177,632		-
Non-owner occupied		1,167		137		976		2,280		240,151		-
Construction and development
Land and land development		12		152		8,423		8,587		85,877		-
Construction		-		-		152		152		12,071		-
Residential mortgage
Non-jumbo		5,427		1,265		4,459		11,151		217,054		-
Jumbo		-		2,302		-		2,302		58,515		-
Home equity		-		209		378		587		50,297		-
Consumer		335		99		112		546		23,227		2
Other		-		-		-		-		3,116		-

Total	$	8,540	$	6,019	$	18,112	$	32,671	$	956,472	$	2

	At December 31, 2010
											Recorded
											Investment
	Past Due										> 90 days
Dollars in thousands	30-59 days		60-89 days		> 90 days		Total		Current		and Accruing
Commercial	$	388	$	307	$	1,286	$	1,981	$	95,078	$	-
Commercial real estate
Owner-occupied		364		-		1,348		1,712		185,386		-
Non-owner occupied		3,697		590		310		4,597		230,740		-
Construction and development
Land and land development		3,023		131		9,732		12,886		86,199		-
Construction		-		2		317		319		13,372		-
Residential mortgage
Non-jumbo		3,557		2,412		3,953		9,922		229,368		-
Jumbo		2,997		10,383		2,549		15,929		45,411		1,442
Home equity		501		270		51		822		50,165		-
Consumer		420		147		107		674		23,471		-
Other		9		10		-		19		4,492		-

Total	$	14,956	$	14,252	$	19,653	$	48,861	$	963,682	$	1,442

	At June 30, 2010
											Recorded
											Investment
	Past Due										> 90 days
Dollars in thousands	30-59 days		60-89 days		> 90 days		Total		Current		and Accruing
Commercial	$	265	$	572	$	1,023	$	1,860	$	115,212	$	317
Commercial real estate
Owner-occupied		849		5,535		2,405		8,789		187,588		1,101
Non-owner occupied		1,589		1,308		12,910		15,807		215,909		-
Construction and development
Land and land development		464		9,851		8,698		19,013		86,311		-
Construction		342		-		579		921		35,624		-
Residential mortgage
Non-jumbo		5,389		3,866		3,221		12,476		238,482		66
Jumbo		1,290		1,991		547		3,828		61,192		-
Home equity		-		126		524		650		50,781		81
Consumer		425		92		12		529		25,380		-
Other		12		17		-		29		5,504		-

Total	$	10,625	$	23,358	$	29,919	$	63,902	$	1,021,983	$	1,565

Nonaccrual loans: The following table presents the nonaccrual loans included in the net balance of loans at June 30, 2011, December 31, 2010 and June 30, 2010.

	June 30,		December 31,		June 30,
Dollars in thousands	2011		2010		2010
Commercial	$	2,212	$	1,318	$	1,347
Commercial real estate
Owner-occupied		3,848		2,372		7
Non-owner occupied		4,245		314		15,380
Construction and development
Land & land development		19,070		9,732		18,538
Construction		152		317		581
Residential mortgage
Non-jumbo		4,420		4,918		5,682
Jumbo		3,876		1,106		-
Home equity		941		51		443
Consumer		128		141		23
Other		2		-		-
Total	$	38,894	$	20,269	$	42,001

The increase in nonaccrual loans in second quarter 2011 includes a single residential construction and development loan totaling $8.4 million.

Impaired loans: Impaired loans include the following:

Loans which we risk-rate (consisting of loan relationships having aggregate balances in excess of $2,000,000, or loans exceeding $500,000 and exhibiting credit weakness) through our normal loan review procedures and which, based on current information and events, it is probable that we will be unable to collect all amounts due in accordance with the original contractual terms of the loan agreement. Risk-rated loans with insignificant delays or insignificant short falls in the amount of payments expected to be collected are not considered to be impaired.

§	Loans that have been modified in a troubled debt restructuring.

Both commercial and consumer loans are deemed impaired upon being contractually modified in a troubled debt restructuring. Troubled debt restructurings typically result from our loss mitigation activities and occur when we grant a concession to a borrower who is experiencing financial difficulty in order to minimize our economic loss and to avoid foreclosure or repossession of collateral. Once restructured in a troubled debt restructuring, a loan is generally considered impaired until its maturity, regardless of whether the borrower performs under the modified terms. Although such a loan may be returned to accrual status if the criteria set forth in our accounting policy are met, the loan would continue to be evaluated for an asset-specific allowance for loan losses and we would continue to report the loan in the impaired loan table below.

The tables below set forth information about our impaired loans.

Loan Category	06/30/2011		12/31/2010		06/30/2010		Method used to measure impairment
Commercial	$	1,638	$	630	$	1,691	Fair value of collateral
Commerical real estate
Owner-occupied		11,103		8,866		10,193	Fair value of collateral
		2,598		2,623		2,388	Discounted cash flow
Non-owner occupied		11,458		4,922		11,856	Fair value of collateral
		1,794		530		4,797	Discounted cash flow
Construction and development
Land & land development		25,457		16,515		18,106	Fair value of collateral
		1,525		-		-	Discounted cash flow
Construction		-		-		-	Fair value of collateral
Residential mortgage
Non-jumbo		6,516		4,533		3,698	Fair value of collateral
		1,188		753		638	Discounted cash flow
Jumbo		15,974		17,296		19,199	Fair value of collateral
Home equity		541		213		-	Fair value of collateral
Consumer		38		-		-	Fair value of collateral
Total	$	79,830	$	56,881	$	72,566

The following tables present loans individually evaluated for impairment at June 30, 2011, December 31, 2010 and June 30, 2010.

	June 30, 2011
							Average		Interest Income
	Recorded		Unpaid		Related		Impaired		Recognized
Dollars in thousands	Investment		Principal Balance		Allowance		Balance		while impaired

Without a related allowance
Commercial	$	614	$	615	$	-	$	603	$	4
Commercial real estate
Owner-occupied		6,991		7,007		-		6,141		84
Non-owner occupied		7,298		7,301		-		691		7
Construction and development
Land & land development		22,302		22,302		-		15,191		94
Construction		-		-		-		-		-
Residential real estate
Non-jumbo		5,095		5,108		-		4,178		62
Jumbo		13,670		13,672		-		12,622		456
Home equity		194		194		-		1		-
Total without a related allowance	$	56,164	$	56,199	$	-	$	39,427	$	707

With a related allowance
Commercial	$	1,023	$	1,023	$	423	$	411	$	-
Commercial real estate
Owner-occupied		6,691		6,694		844		3,941		71
Non-owner occupied		5,952		5,951		684		2,491		44
Construction and development
Land & land development		4,679		4,679		1,103		2,650		43
Construction		-		-		-		-		-
Residential real estate
Non-jumbo		2,595		2,596		691		2,085		23
Jumbo		2,298		2,302		541		1,350		-
Home equity		347		347		326		210		1
Consumer		38		38		12		-		-
Total with a related allowance	$	23,623	$	23,630	$	4,624	$	13,138	$	182

Total
Commercial	$	55,550	$	55,572	$	3,054	$	32,119	$	347
Consumer		38		38		12		-		-
Residential real estate		24,199		24,219		1,558		20,446		542
Total	$	79,787	$	79,829	$	4,624	$	52,565	$	889

	December 31, 2010
							Average		Interest Income
	Recorded		Unpaid		Related		Impaired		Recognized
Dollars in thousands	Investment		Principal Balance		Allowance		Balance		while impaired

Without a related allowance
Commercial	$	629	$	630	$	-	$	232	$	9
Commercial real estate
Owner-occupied		7,538		7,556		-		9,052		440
Non-owner occupied		3,314		3,321		-		12,852		734
Construction and development
Land & land development		9,213		9,214		-		12,852		468
Construction		-		-		-		-		-
Residential real estate
Non-jumbo		2,161		2,696		-		2,074		76
Jumbo		14,822		14,822		-		7,887		547
Home equity		165		165		-		-		-
Total without a related allowance	$	37,842	$	38,404	$	-	$	44,949	$	2,274

With a related allowance
Commercial	$	-	$	-	$	-	$	-	$	-
Commercial real estate
Owner-occupied		3,933		3,933		265		670		-
Non-owner occupied		2,130		2,130		267		1,953		88
Construction and development
Land & land development		7,301		7,301		2,575		3,183		7
Construction		-		-		-		-		-
Residential real estate
Non-jumbo		2,589		2,591		843		1,242		22
Jumbo		2,474		2,474		877		1,343		31
Home equity		48		48		48		12		1
Total with a related allowance	$	18,475	$	18,477	$	4,875	$	8,403	$	149

Total
Commercial	$	34,058	$	34,085	$	3,107	$	40,794	$	1,746
Residential real estate		22,259		22,796		1,768		12,558		677
Total	$	56,317	$	56,881	$	4,875	$	53,352	$	2,423

	June 30, 2010
							Average		Interest Income
	Recorded		Unpaid		Related		Impaired		Recognized
Dollars in thousands	Investment		Principal Balance		Allowance		Balance		while impaired

Without a related allowance
Commercial	$	1,537	$	1,537	$	-	$	722	$	27
Commercial real estate						-
Owner-occupied		6,333		6,340		-		2,508		81
Non-owner occupied		4,116		4,139		-		3,353		9
Construction and development
Land & land development		5,822		5,822		-		3,810		7
Construction		-		-		-		-		-
Residential real estate
Non-jumbo		1,989		1,990		-		762		10
Jumbo		15,887		15,888		-		553		13
Home equity		-		-		-		-		-
Consumer		-		-		-		-		-
Total without a related allowance	$	35,684	$	35,716	$	-	$	11,708	$	147

With a related allowance
Commercial	$	153	$	154	$	112	$	33	$	-
Commercial real estate
Owner-occupied		6,219		6,241		1,201		6,071		209
Non-owner occupied		12,495		12,515		2,466		8,516		98
Construction and development
Land & land development		12,284		12,284		6,296		10,095		25
Construction		-		-		-		-		-
Residential real estate
Non-jumbo		2,969		2,979		1,366		2,133		32
Jumbo		2,677		2,677		433		15		-
Home equity		-		-		-		-		-
Total with a related allowance	$	36,797	$	36,850	$	11,874	$	26,863	$	364

Total
Commercial	$	48,959	$	49,032	$	10,075	$	35,108	$	456
Consumer		-		-		-		-		-
Residential		23,522		23,534		1,799		3,463		55
Total	$	72,481	$	72,566	$	11,874	$	38,571	$	511

Included in impaired loans are troubled debt restructurings of $44,780,000 and $31,712,000 at June 30, 2011 and December 31, 2010, respectively, with no commitments to lend additional funds under these restructurings at either balance sheet date.

We categorize loans into risk categories based on relevant information about the ability of borrowers to service their debt such as current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. We analyze loans individually by classifying the loans as to credit risk. We internally grade all commercial loans at the time of loan origination. In addition, we perform an annual loan review on all non-homogenous commercial loan relationships with an aggregate exposure exceeding $2 million, at which time these loans are re-graded. We use the following definitions for our risk grades:

Pass: Loans graded as Pass are loans to borrowers of acceptable credit quality and risk. They are higher quality loans that do not fit any of the other categories described below.

OLEM (Special Mention): Commercial loans categorized as OLEM are potentially weak. The credit risk may be relatively minor yet represent a risk given certain specific circumstances. If the potential weaknesses are not monitored or mitigated, the asset may weaken or inadequately protect our position in the future.

Substandard: Commercial loans categorized as Substandard are inadequately protected by the borrower's ability to repay, equity, and/or the collateral pledged to secure the loan. These loans have identified weaknesses that could hinder normal repayment or collection of the debt. These loans are characterized by the distinct possibility that we will sustain some loss if the identified weaknesses are not mitigated.

Doubtful: Commercial loans categorized as Doubtful have all the weaknesses inherent in those loans classified as Substandard, with the added elements that the full collection of the loan is improbable and the possibility of loss is high.

Loss: Loans classified as loss are considered to be non-collectible and of such little value that their continuance as a bankable asset is not warranted. This does not mean that the loan has absolutely no recovery value, but rather it is neither practical nor desirable to defer writing off the loan, even though partial recovery may be obtained in the future.

The following table presents the recorded investment in construction and development, commercial, and commercial real estate loans which are generally evaluated based upon the internal risk ratings defined above.

Loan Risk Profile by Internal Risk Rating

	Construction and Development												Commercial Real Estate
	Land and land development				Construction				Commercial				Owner Occupied				Non-Owner Occupied
Dollars in thousands	6/30/2011		12/31/2010		6/30/2011		12/31/2010		6/30/2011		12/31/2010		6/30/2011		12/31/2010		6/30/2011		12/31/2010
Pass	$	52,142	$	63,061	$	11,921	$	13,321	$	82,785	$	89,129	$	158,525	$	167,048	$	222,387	$	218,555
OLEM (Special Mention)		16,706		19,509		250		249		7,260		6,481		13,114		4,417		3,999		14,154
Substandard		25,616		15,796		52		121		2,242		1,449		9,304		15,633		16,045		2,628
Doubtful		-		719		-		-		-		-		-		-		-		-
Loss		-		-		-		-		-		-		-		-		-		-
Total	$	94,464	$	99,085	$	12,223	$	13,691	$	92,287	$	97,059	$	180,943	$	187,098	$	242,431	$	235,337

The following table presents the recorded investment in consumer, residential real estate, and home equity loans, which are generally evaluated based on the aging status of the loans, which was previously presented, and payment activity.

	Performing				Nonperforming
Dollars in thousands	6/30/2011		12/31/2010		6/30/2011		12/31/2010
Residential real estate
Non-jumbo	$	223,786	$	233,857	$	4,419	$	5,433
Jumbo		56,940		59,307		3,877		2,033
Home Equity		50,756		50,936		128		51
Consumer		22,832		24,003		941		142
Other		3,116		4,511		-		-
Total	$	357,430	$	372,614	$	9,365	$	7,659

Loan commitments: ASC Topic 815, Derivatives and Hedging, requires that commitments to make mortgage loans should be accounted for as derivatives if the loans are to be held for sale, because the commitment represents a written option and accordingly is recorded at the fair value of the option liability.