4. LOANS, LEASES, AND THE ALLOWANCE FOR LOAN AND LEASE LOSSES

Loan and Lease Portfolio Composition

The following table presents selected information on the composition of the Company’s loan and lease portfolio as of the dates indicated:




	September 30, 2014		December 31, 2013
Mortgage loans on real estate:		(in thousands)
Residential Mortgages	$	99,632	$	94,027
Commercial and multi-family		372,455		361,247
Construction-Residential		398		1,509
Construction-Commercial		33,555		23,902
Home equities		58,273		57,228
Total real estate loans		564,313		537,913

Commercial and industrial loans		117,904		106,952
Consumer loans		1,690		938
Other		823		323
Net deferred loan origination costs		610		870
Total gross loans		685,340		646,996

Allowance for loan losses		(11,955)		(11,503)

Loans, net	$	673,385	$	635,493

The Bank sells certain fixed rate residential mortgages to FNMA, while maintaining the servicing rights for those mortgages. In the three month period ended September 30, 2014, the Bank sold mortgages to FNMA totaling $6.6 million, as compared with no mortgages sold to FNMA in the three month period ended September 30, 2013. During the nine month periods ended September 30, 2014 and 2013, the Bank sold $9.9 million and $0.8 million in mortgages, respectively, to FNMA. At September 30, 2014, the Bank had a loan servicing portfolio principal balance of $67.6 million upon which it earns servicing fees, as compared with $63.5 million at December 31, 2013. The value of the mortgage servicing rights for that portfolio was $0.5 million at September 30, 2014 and December 31, 2013, respectively. At September 30, 2014, there were $0.7 million in residential mortgage loans held-for-sale, compared with no residential mortgages held for sale at December 31, 2013. The Company had no commercial loans held-for-sale at September 30, 2014 or December 31, 2013. The Company has never been contacted by FNMA to repurchase any loans due to improper documentation or fraud.

As noted in Note 1, these financial statements should be read in conjunction with the Audited Consolidated Financial Statements and the Notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2013. Disclosures related to the basis for accounting for loans and leases, the method for recognizing interest income on loans and leases, the policy for placing loans and leases on nonaccrual status and the subsequent recording of payments and resuming accrual of interest, the policy for determining past due status, a description of the Company’s accounting policies and methodology used to estimate the allowance for loan and lease losses, the policy for charging off loans and leases, the accounting policies for impaired loans, and more descriptive information on the Company’s credit risk ratings are all contained in the Notes to the Audited Consolidated Financial Statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013. Unless otherwise noted in this Form 10-Q, the policies and methodology described in the Annual Report for the year ended December 31, 2013 are consistent with those utilized by the Company in the three and nine months ended September 30, 2014.

Credit Quality Indicators

The Bank monitors the credit risk in its loan portfolio by reviewing certain credit quality indicators (“CQI”). The primary CQI for its commercial mortgage and commercial and industrial (“C&I”) portfolios is the individual loan’s credit risk rating. The following list provides a description of the credit risk ratings that are used internally by the Bank when assessing the adequacy of its allowance for loan and lease losses:

1-3-Pass

4-Watch

5-O.A.E.M. (Other Assets Especially Mentioned) or Special Mention

6-Substandard

7-Doubtful

8-Loss

The Company’s consumer loans, including residential mortgages and home equities, and commercial leases are not individually risk rated or reviewed in the Company’s loan review process. Consumers are not required to provide the Company with updated financial information as is a commercial customer. Consumer loans also carry smaller balances. Given the lack of updated information after the initial underwriting of the loan and small size of individual loans, the Company uses delinquency status as the credit quality indicator for consumer loans.

The following tables provide data, at the class level, of credit quality indicators of certain loans and leases for the dates specified:




September 30, 2014
(in thousands)
Corporate Credit Exposure – By Credit Rating	Commercial Real Estate Construction		Commercial and Multi-Family Mortgages		Total Commercial Real Estate		Commercial and Industrial
3	$	19,659	$	300,347	$	320,006	$	76,959
4		12,636		52,955		65,591		28,690
5		-		13,708		13,708		10,592
6		1,260		5,292		6,552		1,524
7		-		153		153		139
Total	$	33,555	$	372,455	$	406,010	$	117,904




December 31, 2013
(in thousands)
Corporate Credit Exposure – By Credit Rating	Commercial Real Estate Construction		Commercial and Multi-Family Mortgages		Total Commercial Real Estate		Commercial and Industrial
3	$	19,086	$	297,819	$	316,905	$	78,294
4		3,283		47,584		50,867		15,194
5		-		4,028		4,028		9,468
6		1,533		11,479		13,012		3,744
7		-		337		337		252
Total	$	23,902	$	361,247	$	385,149	$	106,952

Past Due Loans and Leases

The following tables provide an analysis of the age of the recorded investment in loans and leases that are past due as of the dates indicated:




September 30, 2014
(in thousands)
															Non-accruing
							Total Past		Current		Total		90+ Days		Loans and
	30-59 days		60-89 days		90+ days		Due		Balance		Balance		Accruing		Leases

Commercial and
industrial	$	337	$	236	$	214	$	787	$	117,117	$	117,904	$	104	$	392
Residential real estate:
Residential		77		525		474		1,076		98,556		99,632		203		894
Construction		-		-		-		-		398		398		-		-

Commercial real estate:
Commercial		-		4,728		516		5,244		367,211		372,455		-		3,233
Construction		-		602		-		602		32,953		33,555		-		-
Home equities		673		46		134		853		57,420		58,273		-		525
Direct financing leases		-		-		22		22		-		-		-		22
Consumer		22		1		-		23		1,667		1,690		-		18
Other		-		-		-		-		823		823		-		-
Total Loans	$	1,109	$	6,138	$	1,360	$	8,607	$	676,145	$	684,730	$	307	$	5,084

NOTE: Loan and lease balances do not include $610 thousand in net deferred loan and lease origination costs as of September 30, 2014.



December 31, 2013
(in thousands)
															Non-accruing
							Total Past		Current		Total		90+ Days		Loans and
	30-59 days		60-89 days		90+ days		Due		Balance		Balance		Accruing		Leases

Commercial and
industrial	$	197	$	447	$	358	$	1,002	$	105,950	$	106,952	$	-	$	2,970
Residential real estate:
Residential		392		72		915		1,379		92,648		94,027		-		1,376
Construction		-		-		-		-		1,509		1,509		-		-

Commercial real estate:
Commercial		6,976		1,050		75		8,101		353,146		361,247		-		8,873
Construction		-		-		-		-		23,902		23,902		-		-
Home equities		100		267		76		443		56,785		57,228		-		447
Direct financing leases		1		2		47		50		-		-		-		47
Consumer		1		21		-		22		916		938		-		20
Other		-		-		-		-		323		323		-		-
Total Loans	$	7,667	$	1,859	$	1,471	$	10,997	$	635,179	$	646,126	$	-	$	13,733

NOTE: Loan and lease balances do not include $870 thousand in net deferred loan and lease origination costs as of December 31, 2013.

Allowance for loan and lease losses

The following tables present the activity in the allowance for loan and lease losses according to portfolio segment, for the nine month periods ended September 30, 2014 and 2013:




September 30, 2014

(in thousands)	Commercial and Industrial		Commercial Real Estate Mortgages*		Consumer **		Residential Mortgages*		HELOC		Direct Financing Leases		Unallocated		Total
Allowance for loan
and lease losses:
Beginning balance	$	4,489	$	4,912	$	37	$	1,038	$	878	$	-	$	149	$	11,503
Charge-offs		(913)		(57)		(25)		-		-		-		-		(995)
Recoveries		526		49		37		18		-		162		-		792
Provision		(129)		931		25		7		(17)		(162)		-		655
Ending balance	$	3,973	$	5,835	$	74	$	1,063	$	861	$	-	$	149	$	11,955

Allowance for loan
and lease losses:
Ending balance:
Individually evaluated
for impairment	$	216	$	318	$	49	$	3	$	5	$	-	$	-	$	591
Collectively evaluated
for impairment		3,757		5,517		25		1,060		856		-		149		11,364
Total	$	3,973	$	5,835	$	74	$	1,063	$	861	$	-	$	149	$	11,955

Loans and leases:
Ending balance:
Individually evaluated
for impairment	$	613	$	13,808	$	49	$	2,131	$	1,020	$	-	$	-	$	17,621
Collectively evaluated
for impairment		117,291		392,202		2,464		97,899		57,253		-		-		667,109
Total	$	117,904	$	406,010	$	2,513	$	100,030	$	58,273	$	-	$	-	$	684,730

* Includes construction loans

** Includes all other consumer loans

NOTE: Loan and lease balances do not include $610 thousand in net deferred loan and lease origination costs as of September 30, 2014.




September 30, 2013

(in thousands)	Commercial and Industrial		Commercial Real Estate Mortgages*		Consumer **		Residential Mortgages*		HELOC		Direct Financing Leases		Unallocated		Total
Allowance for loan
and lease losses:
Beginning balance	$	3,617	$	4,493	$	18	$	662	$	746	$	47	$	149	$	9,732
Charge-offs		(19)		(460)		(29)		(39)		(128)		-		-		(675)
Recoveries		167		303		11		2		1		45		-		529
Provision		430		407		32		319		208		(92)		-		1,304
Ending balance	$	4,195	$	4,743	$	32	$	944	$	827	$	-	$	149	$	10,890

Allowance for loan
and lease losses:
Ending balance:
Individually evaluated
for impairment	$	667	$	70	$	20	$	-	$	-	$	-	$	-	$	757
Collectively evaluated
for impairment		3,528		4,673		12		944		827		-		149		10,133
Total	$	4,195	$	4,743	$	32	$	944	$	827	$	-	$	149	$	10,890

Loans and leases:
Ending balance:
Individually evaluated
for impairment	$	1,101	$	11,550	$	20	$	1,340	$	536	$	-	$	-	$	14,547
Collectively evaluated
for impairment		115,969		348,194		1,077		89,000		55,987		-		-		610,227
Total	$	117,070	$	359,744	$	1,097	$	90,340	$	56,523	$	-	$	-	$	624,774

* Includes construction loans

** Includes all other consumer loans

NOTE: Loan and lease balances do not include $781 thousand in net deferred loan and lease origination costs as of September 30, 2013.

The following tables present the activity in the allowance for loan and lease losses according to portfolio segment, for the three month periods ended September 30, 2014 and 2013:


September 30, 2014
(in thousands)	Commercial and Industrial		Commercial Real Estate Mortgages*		Consumer **		Residential Mortgages*		HELOC		Direct Financing Leases		Unallocated		Total
Allowance for loan
and lease losses:
Beginning balance	$	3,903	$	5,545	$	46	$	1,046	$	833	$	-	$	149	$	11,522
Charge-offs		(439)		-		(13)		-		-		-		-		(452)
Recoveries		467		10		33		16		-		32		-		558
Provision		42		280		8		1		28		(32)		-		327
Ending balance	$	3,973	$	5,835	$	74	$	1,063	$	861	$	-	$	149	$	11,955

* Includes construction loans

** Includes other loans


September 30, 2013
(in thousands)	Commercial and Industrial		Commercial Real Estate Mortgages*		Consumer **		Residential Mortgages*		HELOC		Direct Financing Leases		Unallocated		Total
Allowance for loan
and lease losses:
Beginning balance	$	3,713	$	4,910	$	15	$	702	$	770	$	-	$	149	$	10,259
Charge-offs		(9)		(447)		(7)		(33)		(41)		-		-		(537)
Recoveries		44		298		5		2		-		45		-		394
Provision		447		(18)		19		273		98		(45)		-		774
Ending balance	$	4,195	$	4,743	$	32	$	944	$	827	$	-	$	149	$	10,890

* Includes construction loans

** Includes other loans

Impaired Loans and Leases

The following tables provide data, at the class level, of impaired loans and leases as of the dates indicated:




		At September 30, 2014
		Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Foregone		Interest Income Recognized
With no related allowance recorded:		(in thousands)
Commercial and industrial	$	265	$	329	$	-	$	308	$	13	$	12

Residential real estate:
Residential		1,860		2,035		-		1,865		21		66
Construction		-		-		-		-		-		-

Commercial real estate:
Commercial		9,845		10,224		-		9,896		23		332
Construction		1,260		1,260		-		1,330		-		32

Home equities		955		1,001		-		927		17		13

Direct financing leases		-		-		-		-		-		-

Consumer		-		-		-		-		-		-

Other		-		-		-		-		-		-

Total impaired loans and leases	$	14,185	$	14,849	$	-	$	14,326	$	74	$	455




		At September 30, 2014
		Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Foregone		Interest Income Recognized
With a related allowance recorded:		(in thousands)
Commercial and industrial	$	348	$	421	$	216	$	591	$	84	$	2

Residential real estate:
Residential		271		285		3		271		15		-
Construction		-		-		-		-		-		-

Commercial real estate:
Commercial		2,703		2,811		318		2,746		58		50
Construction		-		-		-		-		-		-

Home equities		65		65		5		65		-		2

Direct financing leases		-		-		-		-		-		-

Consumer		49		60		49		50		4		7

Other		-		-		-		-		-		-

Total impaired loans and leases	$	3,436	$	3,642	$	591	$	3,723	$	161	$	61




		At September 30, 2014
		Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Foregone		Interest Income Recognized
Total:		(in thousands)
Commercial and industrial	$	613	$	750	$	216	$	899	$	97	$	14
		-		-		-		-		-		-
Residential real estate:
Residential		2,131		2,320		3		2,136		36		66
Construction		-		-		-		-		-		-
		-		-		-		-		-		-
Commercial real estate:
Commercial		12,548		13,035		318		12,642		81		382
Construction		1,260		1,260		-		1,330		-		32
		-		-		-		-		-		-
Home equities		1,020		1,066		5		992		17		15
		-		-		-		-		-		-
Direct financing leases		-		-		-		-		-		-
		-		-		-		-		-		-
Consumer		49		60		49		50		4		7
		-		-		-		-		-		-
Other		-		-		-		-		-		-

Total impaired loans and leases	$	17,621	$	18,491	$	591	$	18,049	$	235	$	516




		At December 31, 2013
		Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Foregone		Interest Income Recognized
With no related allowance recorded:		(in thousands)
Commercial and industrial	$	1,247	$	1,352	$	-	$	1,405	$	100	$	59

Residential real estate:
Residential		1,331		1,460		-		1,388		61		9
Construction		-		-		-		-		-		-

Commercial real estate:
Commercial		9,937		10,288		-		9,832		302		109
Construction		599		599		-		707		-		26

Home equities		408		438		-		402		19		4

Direct financing leases		26		27		-		29		-		-

Consumer		-		-		-		-		-		-

Other		-		-		-		-		-		-

Total impaired loans and leases	$	13,548	$	14,164	$	-	$	13,763	$	482	$	207




		At December 31, 2013
		Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Foregone		Interest Income Recognized
With a related allowance recorded:		(in thousands)
Commercial and industrial	$	3,141	$	3,191	$	1,187	$	3,577	$	60	$	108

Residential real estate:
Residential		621		624		47		622		10		27
Construction		-		-		-		-		-		-

Commercial real estate:
Commercial		584		650		70		604		6		26
Construction		934		934		146		934		-		33

Home equities		39		39		39		39		-		2

Direct financing leases		-		-		-		-		-		-

Consumer		20		29		20		11		3		2

Other		-		-		-		-		-		-

Total impaired loans and leases	$	5,339	$	5,467	$	1,509	$	5,787	$	79	$	198




		At December 31, 2013
		Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Foregone		Interest Income Recognized
Total:		(in thousands)
Commercial and industrial	$	4,388	$	4,543	$	1,187	$	4,982	$	160	$	167
		-		-		-		-		-		-
Residential real estate:
Residential		1,952		2,084		47		2,010		71		36
Construction		-		-		-		-		-		-
		-		-		-		-		-		-
Commercial real estate:
Commercial		10,521		10,938		70		10,436		308		135
Construction		1,533		1,533		146		1,641		-		59
		-		-		-		-		-		-
Home equities		447		477		39		441		19		6
		-		-		-		-		-		-
Direct financing leases		26		27		-		29		-		-
		-		-		-		-		-		-
Consumer		20		29		20		11		3		2
		-		-		-		-		-		-
Other		-		-		-		-		-		-

Total impaired loans and leases	$	18,887	$	19,631	$	1,509	$	19,550	$	561	$	405

Non-performing loans and leases

The following table sets forth information regarding non-performing loans and leases as of the dates specified:




	September 30, 2014			December 31, 2013
		(in thousands)
Non-accruing loans and leases:
Commercial and industrial loans	$	392		$	2,970
Residential real estate:
Residential		894			1,376
Construction		-			-
Commercial real estate:
Commercial and multi-family		3,233			8,873
Construction		-			-
Home equities		525			447
Direct financing leases		22			47
Consumer loans		18			20
Other		-			-
Total non-accruing loans and leases	$	5,084		$	13,733

Accruing loans 90+ days past due		307			-
Total non-performing loans and leases	$	5,391		$	13,733

Total non-performing loans and leases
to total assets		0.64	%		1.65	%
Total non-performing loans and leases
to total loans and leases		0.79	%		2.12	%

Troubled debt restructurings

The Company had $14.4 million in loans and leases that were restructured in a troubled debt restructuring (“TDR”) at September 30, 2014, compared with $17.1 million at December 31, 2013. $1.8 million and $12.0 million of those balances were in non-accrual status at September 30, 2014 and December 31, 2013, respectively. The decrease was a result of repayment performance of one large commercial real estate relationship since December 31, 2013. Any TDR that is placed on non-accrual is not reverted back to accruing status until the borrower makes timely payments as contracted for at least six months and future collection under the revised terms is probable. All of the Company’s restructurings were allowed in an effort to maximize its ability to collect on loans and leases where borrowers were experiencing financial difficulty. The Company did not engage in any re-modifications during the three and nine month periods ended September 30, 2014 and 2013.

The reserve for a TDR is based upon the present value of the future expected cash flows discounted at the loan’s original effective rate or upon the fair value of the collateral less costs to sell, if the loan is deemed collateral dependent. This reserve methodology is used because all TDR loans are considered impaired. As of September 30, 2014, there were no commitments to lend additional funds to debtors owing on loans or leases whose terms have been modified in TDRs.

The following tables summarize the loans and leases that were classified as troubled debt restructurings as of the dates indicated:




		September 30, 2014
		($ in thousands)

		Total		Nonaccruing		Accruing		Related Allowance
Commercial and industrial	$	589	$	368	$	221	$	216

Residential real estate:
Residential		1,840		603		1,237		-
Construction		-		-		-		-

Commercial real estate:
Commercial and multi family		9,931		616		9,315		33
Construction		1,260		-		1,260		-

Home equities		727		233		494		4
Direct financing leases		-		-		-		-
Consumer loans		31		-		31		31
Other		-		-		-		-

Total troubled restructured loans and leases	$	14,378	$	1,820	$	12,558	$	284




		December 31, 2013
		($ in thousands)

		Total		Nonaccruing		Accruing		Related Allowance
Commercial and industrial	$	4,262	$	2,903	$	1,359	$	983

Residential real estate:
Residential		1,031		454		577		-
Construction		-		-		-		-

Commercial real estate:
Commercial and multi family		10,211		8,563		1,648		33
Construction		1,533		-		1,533		-
								-
Home equities		56		56		-		-
Direct financing leases		26		12		14		-
Consumer loans		-		-		-		-
Other		-		-		-		-

Total troubled restructured loans and leases	$	17,119	$	11,988	$	5,131	$	1,016

The Company’s TDRs have various agreements that involve deferral of principal payments, or interest-only payments, for a period (usually 12 months or less) to allow the customer time to improve cash flow or sell the property. Other common types of concessions leading to the designation of a TDR are lines of credit that are termed out and extensions of maturities at rates that are less than market given the risk profile of the borrower.

The following table shows the data for TDR activity by type of concession granted to the borrower for the three and nine month periods ended September 30, 2014 and 2013:




	Three months ended September 30, 2014					Three months ended September 30, 2013
	($ in thousands)					($ in thousands)

Troubled Debt Restructurings by Type of Concession	Number of Contracts		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment	Number of Contracts		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment

Commercial and Industrial:
Deferral of principal	-	$	-	$	-	6	$	2,400	$	2,400
Residential Real Estate & Construction:
Extension of maturity & rate reduction	1		210		210	-		-		-
Commercial Real Estate & Construction
Deferral of principal	-		-		-	2		6,438		7,963
Home Equities:
Extension of maturity	7		524		524	-		-		-
Extension of maturity & rate reduction	-		-		-	1		136		136
Combination of concessions	1		65		65	-		-		-
Term out line of credit	-		-		-	1		57		57
Direct financing leases	-		-		-	-		-		-
Consumer loans	1		31		31	-		-		-
Other	-		-		-	-		-		-



	Nine months ended September 30, 2014					Nine months ended September 30, 2013
	($ in thousands)					($ in thousands)

Troubled Debt Restructurings by Type of Concession	Number of Contracts		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment	Number of Contracts		Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment

Commercial and Industrial:
Deferral of principal	-	$	-	$	-	6	$	2,400	$	2,400
Interest rate reduction	-		-		-	2		330		330
Extension of maturity & rate reduction	-		-		-	5		361		361
Combination of concessions	-		-		-	1		250		250
Residential Real Estate & Construction:
Extension of maturity & rate reduction	1		210		210	-		-		-
Extension of maturity	2		632		632	4		583		583
Commercial Real Estate & Construction:
Deferral of principal	-		-		-	2		6,438		7,963
Extension of maturity	-		-		-	2		739		739
Home Equities:
Extension of maturity	9		589		589	-		-		-
Extension of maturity & rate reduction	1		20		20	1		136		136
Combination of concessions	1		65		65	-		-		-
Term out line of credit	-		-		-	1		57		57
Direct financing leases	-		-		-	-		-		-
Consumer loans	1		31		31	-		-		-

The general practice of the Bank is to work with borrowers so that they are able to pay back their loan or lease in full. If a borrower continues to be delinquent or cannot meet the terms of a TDR and the loan or lease is determined to be uncollectible, the loan or lease will be charged off. The following table presents loans and leases which were classified as TDRs during the previous 12 months which defaulted during the three and nine month periods ended September 30, 2014 and 2013:




	Three months ended September 30, 2014			Three months ended September 30, 2013
	($ in thousands)			($ in thousands)
Troubled Debt Restructurings	Number of	Recorded		Number of	Recorded
That Subsequently Defaulted	Contracts	Investment		Contracts	Investment
Commercial and Industrial	-	$	-	2	$	57
Residential Real Estate:
Residential	-		-	-		-
Construction	-		-	-		-
Commercial Real Estate:
Commercial and Multi-Family	-		-	-		-
Construction	-		-	-		-
Home Equities	-		-	-		-
Direct financing leases	-		-	-		-
Consumer loans	-		-	-		-
Other	-		-	-		-



	Nine months ended September 30, 2014			Nine months ended September 30, 2013
	($ in thousands)			($ in thousands)
Troubled Debt Restructurings	Number of	Recorded		Number of	Recorded
That Subsequently Defaulted	Contracts	Investment		Contracts	Investment
Commercial and Industrial	1	$	71	8	$	239
Residential Real Estate:
Residential	-		-	-		-
Construction	-		-	-		-
Commercial Real Estate:
Commercial and Multi-Family	-		-	1		165
Construction	-		-	-		-
Home Equities	1		54	-		-
Direct financing leases	-		-	-		-
Consumer loans	-		-	-		-
Other	-		-	-		-