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 assets 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), which ever 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		2012		2011		2011
Commercial	$	92,060	$	99,024	$	92,287
Commercial real estate
Owner-occupied		152,347		158,754		180,943
Non-owner occupied		280,891		270,226		242,431
Construction and development
Land and land development		84,383		93,035		94,464
Construction		1,793		2,936		12,223
Residential real estate
Non-jumbo		217,321		221,733		228,205
Jumbo		61,961		61,535		60,817
Home equity		51,693		50,898		50,884
Consumer		21,212		22,325		23,773
Other		2,523		2,762		3,116
Total loans, net of unearned fees		966,184		983,228		989,143
Less allowance for loan losses		17,890		17,712		18,016
Loans, net	$	948,294	$	965,516	$	971,127

The following table presents the contractual aging of the recorded investment in past due loans by class as of June 30, 2012 and 2011 and December 31, 2011.


	At June 30, 2012
											Recorded
											Investment
		Past Due									> 90 days
Dollars in thousands		30-59 days		60-89 days	> 90 days			Total		Current	and Accruing
Commercial	$	367	$	20	$	2,334	$	2,721	$	89,339	$
Commercial real estate
Owner-occupied		1,074		888		590		2,552		149,795		-
Non-owner occupied		480		101		1,287		1,868		279,023		-
Construction and development
Land and land development		1,756		79		12,634		14,469		69,914		-
Construction		-		-		153		153		1,640		-
Residential mortgage
Non-jumbo		3,819		950		3,139		7,908		209,413		-
Jumbo		2,160		1,050		12,592		15,802		46,159		-
Home equity		450		7		69		526		51,167		-
Consumer		329		88		37		454		20,758		-
Other		-		-		-		-		2,523		-
Total	$	10,435	$	3,183	$	32,835	$	46,453	$	919,731	$	-


	At December 31, 2011
												Recorded
												Investment
	Past Due											> 90 days
Dollars in thousands		30-59 days		60-89 days	> 90 days			Total		Current		and Accruing
Commercial	$	904	$	324	$	2,544	$	3,772	$	95,252	$	-
Commercial real estate
Owner-occupied		4,241		197		664		5,102		153,652		-
Non-owner occupied		1,566		1,752		1,705		5,023		265,203		-
Construction and development
Land and land development		1,539		116		16,392		18,047		74,988		344
Construction		106		-		979		1,085		1,851		-
Residential mortgage
Non-jumbo		4,730		1,624		2,336		8,690		213,043		-
Jumbo		699		-		13,965		14,664		46,871		-
Home equity		-		223		91		314		50,584		-
Consumer		381		144		85		610		21,715		-
Other		-		-		-		-		2,762		-
Total	$	14,166	$	4,380	$	38,761	$	57,307	$	925,921	$	344


	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

Nonaccrual loans: The following table presents the nonaccrual loans included in the net balance of loans at June 30, 2012, December 31, 2011 and June 30, 2011.


Dollars in thousands		6/30/2012		12/31/2011		6/30/2011
Commercial	$	6,476	$	3,260	$	2,212
Commercial real estate
Owner-occupied		2,248		2,815		3,848
Non-owner occupied		1,288		4,348		4,245
Construction and development
Land & land development		17,244		22,362		19,069
Construction		153		979		152
Residential mortgage
Non-jumbo		3,449		3,683		4,419
Jumbo		14,752		13,966		3,876
Home equity		349		538		941
Consumer		78		145		128
Other		-		-		2
Total	$	46,037	$	52,096	$	38,892

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 table below sets forth information about our impaired loans.

Method Used to Measure Impairment of Impaired Loans

Dollars in thousands


							Method used to
Loan Category		6/30/2012		12/31/2011		6/30/2011	measure impairment
Commerical	$	3,031	$	2,969	$	1,638	Fair value of collateral
		3,864		-		-	Discounted cash flow
Commerical real estate
Owner-occupied		13,299		9,698		11,103	Fair value of collateral
		2,709		2,580		2,598	Discounted cash flow
Non-owner occupied		9,987		9,790		11,458	Fair value of collateral
		-		-		1,794	Discounted cash flow
Construction and development
Land & land development		33,160		29,862		25,456	Fair value of collateral
		656		-		1,525	Discounted cash flow
Construction		-		735		-	Fair value of collateral
Residential mortgage
Non-jumbo		5,997		4,488		6,516	Fair value of collateral
		1,243		372		1,188	Discounted cash flow
Jumbo		23,653		18,147		15,974	Fair value of collateral
Home equity		360		407		541	Fair value of collateral
Consumer		45		8		38	Fair value of collateral
Total	$	98,004	$	79,056	$	79,829

The following tables present loans individually evaluated for impairment at June 30, 2012, December 31, 2011 and June 30, 2011.


	June 30, 2012
								Average		Interest Income
		Recorded		Unpaid		Related		Impaired		Recognized
Dollars in thousands		Investment		Principal Balance		Allowance		Balance		while impaired

Without a related allowance
Commercial	$	5,938	$	5,947	$	-	$	1,818	$	47
Commercial real estate
Owner-occupied		12,893		12,872		-		9,778		359
Non-owner occupied		6,642		6,645		-		6,260		304
Construction and development
Land & land development		17,981		17,982		-		15,696		579
Construction		-		-		-		-		-
Residential real estate
Non-jumbo		3,810		3,819		-		3,164		140
Jumbo		17,665		17,669		-		15,504		250
Home equity		191		191		-		191		11
Consumer		41		41		-		26		1
Total without a related allowance	$	65,161	$	65,166	$	-	$	52,437	$	1,691

With a related allowance
Commercial	$	948	$	948	$	254	$	879	$	4
Commercial real estate
Owner-occupied		3,136		3,136		53		2,854		156
Non-owner occupied		3,341		3,342		306		3,350		115
Construction and development
Land & land development		15,834		15,834		3,029		13,589		114
Construction		-		-		-		-		-
Residential real estate
Non-jumbo		3,418		3,421		1,095		2,019		57
Jumbo		5,979		5,984		1,634		2,583		25
Home equity		169		169		147		165		7
Consumer		4		4		4		-		-
Total with a related allowance	$	32,829	$	32,838	$	6,522	$	25,439	$	478

Total
Commercial	$	66,713	$	66,706	$	3,642	$	54,224	$	1,678
Residential real estate		31,232		31,253		2,876		23,626		490
Consumer		45		45		4		26		1
Total	$	97,990	$	98,004	$	6,522	$	77,876	$	2,169


	December 31, 2011
								Average		Interest Income
		Recorded		Unpaid	Related			Impaired		Recognized
Dollars in thousands		Investment		Principal Balance	Allowance			Balance		while impaired

Without a related allowance
Commercial	$	2,074	$	2,076	$	-	$	874	$	10
Commercial real estate
Owner-occupied		9,013		9,034		-		8,132		253
Non-owner occupied		5,599		5,600		-		2,891		116
Construction and development
Land & land development		12,128		12,128		-		9,509		346
Construction		-		-		-		-		-
Residential real estate
Non-jumbo		3,697		3,708		-		2,843		68
Jumbo		15,203		15,204		-		12,626		-
Home equity		194		194		-		99		6
Total without a related allowance	$	47,908	$	47,944	$	-	$	36,974	$	799

With a related allowance
Commercial	$	893	$	893	$	247	$	661	$	1
Commercial real estate
Owner-occupied		3,244		3,244		465		3,588		143
Non-owner occupied		4,190		4,190		456		3,357		87
Construction and development
Land & land development		17,719		17,734		2,901		8,726		40
Construction		735		735		29		2		-
Residential real estate
Non-jumbo		1,150		1,152		209		706		31
Jumbo		2,943		2,943		275		1,349		-
Home equity		213		213		162		125		2
Consumer		8		8		1		-		-
Total with a related allowance	$	31,095	$	31,112	$	4,745	$	18,514	$	304

Total
Commercial	$	55,595	$	55,634	$	4,098	$	37,740	$	996
Residential real estate		23,400		23,414		646		17,748		107
Consumer		8		8		1		-		-
Total	$	79,003	$	79,056	$	4,745	$	55,488	$	1,103


		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

A modification of a loan is considered a troubled debt restructuring ("TDR") when a borrower is experiencing financial difficulty and the modification constitutes a concession that we would not otherwise consider. This may include a transfer of real estate or other assets from the borrower, a modification of loan terms, or a combination of both. A loan continues to qualify as a TDR until a consistent payment history or change in the borrower's financial condition has been evidenced, generally no less than twelve months. Included in impaired loans are TDRs of $51,459,000 and $47,770,000 at June 30, 2012 and December 31, 2011, respectively, with no commitments to lend additional funds under these restructurings at either balance sheet date.

The following table presents by class the TDRs that were restructured during the three and six months ended June 30, 2012. Generally, the modifications were extensions of term, modifying the payment terms from principal and interest to interest only for an extended period, or reduction in interest rate. All TDRs are evaluated individually for allowance for loan loss purposes.


	For the Three Months Ended June 30, 2012						For the Six Months Ended June 30, 2012
dollars in thousands	Number of Modifications		Pre-modification Recorded Investment		Post-modification Recorded Investment		Number of Modifications	Pre-modification Recorded Investment		Post-modification Recorded Investment
Commercial		1	$	77	$	78	3	$	1,109	$	1,117
Commercial real estate
Owner-occupied		-		-		-	-		-		-
Non-owner occupied		-		-		-	2		2,134		1,757
Construction and development
Land & land development		1		1,789		1,000	1		1,789		1,000
Construction		-		-		-	-		-		-
Residential real estate
Non-jumbo		3		497		506	5		557		567
Jumbo		3		2,301		2,701	3		2,301		2,701
Home equity		-		-		-	-		-		-
Consumer		1		4		4	2		42		42
Total		9	$	4,668	$	4,289	16	$	7,932	$	7,184

The following table presents defaults during the stated period of TDRs that were restructured during the past twelve months. For purposes of these tables, a default is considered as either the loan was past due 30 days or more at any time during the period, or the loan was fully or partially charged off during the period.


	For the Three Months Ended June 30, 2012			For the Six Months Ended June 30, 2012
dollars in thousands	Number of Defaults	Recorded Investment at Default Date		Number of Defaults	Recorded Investment at Default Date
Commercial	-	$	-	-	$	-
Commercial real estate
Owner-occupied	1		580	2		1,103
Non-owner occupied	-		-	-		-
Construction and development
Land & land development	-		-	-		-
Construction	-		-	-		-
Residential real estate
Non-jumbo	2		384	2		386
Jumbo	2		4,225	3		4,727
Home equity	-		-	-		-
Consumer	1		36	1		36
Total	6	$	5,225	8	$	6,252

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 of $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.

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		6/30/2012	12/31/2011			6/30/2012		12/31/2011		6/30/2012		12/31/2011		6/30/2012		12/31/2011		6/30/2012		12/31/2011
Pass	$	44,538	$	47,521	$	1,640	$	1,886	$	77,402	$	84,225	$	137,289	$	143,845	$	263,385	$	253,319
OLEM (Special Mention)		7,816		18,615		-		-		7,385		6,889		1,737		5,474		13,154		10,421
Substandard		32,029		26,899		153		1,049		7,273		7,910		13,321		9,435		4,352		6,486
Doubtful		-		-		-		-		-		-		-		-		-		-
Loss		-		-		-		-		-		-		-		-		-		-
Total	$	84,383	$	93,035	$	1,793	$	2,935	$	92,060	$	99,024	$	152,347	$	158,754	$	280,891	$	270,226

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		6/30/2012		12/31/2011		6/30/2011		6/30/2012		12/31/2011		6/30/2011
Residential real estate
Non-jumbo	$	213,872	$	218,050	$	223,786	$	3,449	$	3,683	$	4,419
Jumbo		47,209		47,570		56,940		14,752		13,965		3,877
Home Equity		51,344		50,360		50,756		349		538		128
Consumer		21,134		22,180		22,832		78		145		941
Other		2,523		2,762		3,116		-		-		-
Total	$	336,082	$	340,922	$	357,430	$	18,628	$	18,331	$	9,365

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.