Fair Value of Financial Instruments

12 Months Ended

Dec. 31, 2012

Fair Value of Financial Instruments [Abstract]

Fair Value of Financial Instruments

Note 17 - Fair Value of Financial Instruments

A fair value hierarchy that prioritizes the inputs to valuation methods is used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair market hierarchy are as follows:

Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities.

Level 2: Quoted prices in markets that are not active, or inputs that are observable either directly or indirectly, for substantially the full term of the asset or liability.

Level 3: Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e. supported with little or no market activity).

An asset or liability's level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.

The following information should not be interpreted as an estimate of the fair value of Bancorp since a fair value calculation is only provided for a limited portion of Bancorp's assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between Bancorp's disclosures and those of other companies may not be meaningful. The following methods and assumptions were used to estimate the fair values of Bancorp's financial instruments at December 31, 2012 and December 31, 2011.

Impaired Loans:

Impaired loans are carried at the lower of cost or the fair value of the collateral for collateral-dependent loans. Collateral may be in the form of real estate or business assets including equipment, inventory and accounts receivable. The use of independent appraisals and management's best judgment are significant inputs in arriving at the fair value measure of the underlying collateral and impaired loans are therefore classified within level 3 of the fair value hierarchy.

Impaired loans are those for which Bancorp has measured impairment generally based on the fair value of the loan's collateral. Fair value is generally determined based upon independent third-party appraisals of the properties, or discounted cash flows based upon the expected proceeds. These assets are included as Level 3 fair values, based upon the lowest level of input that is significant to the fair value measurements. The fair value consisted of the loan balances of $51,828,000 and $56,049,000 at December 31, 2012 and December 31, 2011, respectively, less their valuation allowances of $7,594,000 and $12,994,000 at December 31, 2012 and December 31, 2011, respectively.

Foreclosed Real Estate:

Real estate acquired through foreclosure is included in the following disclosure at the lower of carrying value or fair value less estimated disposal costs. Management periodically evaluates the recoverability of the carrying value of the real estate acquired through foreclosure using current estimates of fair value. In the event of a subsequent decline, management provides a specific allowance to reduce real estate acquired through foreclosure to fair value less estimated disposal cost. Expenses incurred on foreclosed real estate prior to disposition are charged to expense. Gains or losses on the sale of foreclosed real estate are recognized upon disposition of the property.

The following table sets forth financial assets that were accounted for at fair value on a nonrecurring basis by level within the fair value hierarchy as of December 31, 2012:

			December 31, 2012 Fair Value Measurement Using:
	December 31, 2012		Quoted Prices in Active Markets For Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(dollars in thousands)
Nonrecurring fair value measurements
Impaired loans	$	44,234	$	-	$	-	$	44,234
Foreclosed real estate		11,441		-		-		11,441
Total nonrecurring fair value measurements	$	55,675	$	-	$	-	$	55,675

The following table sets forth financial assets that were accounted for at fair value on a nonrecurring basis by level within the fair value hierarchy as of December, 31, 2011:

			December 31, 2011 Fair Value Measurement Using:
	December 31, 2011		Quoted Prices in Active Markets For Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(dollars in thousands)
Nonrecurring fair value measurements
Impaired loans	$	43,055	$	-	$	-	$	43,055
Foreclosed real estate		19,932		-		-		19,932
Total nonrecurring fair value measurements	$	62,987	$	-	$	-	$	62,987

Bancorp did not have any financial assets or liabilities that were required to be measured on a recurring basis at December 31, 2012 or December 31, 2011. There were no liabilities that were required to be re-measured on a nonrecurring basis at December 31, 2012 or December 31, 2011.

For impaired loans, all appraisals are reviewed by the credit department; however, no modifications or adjustments are made to the appraisals received. Modifications or adjustments may be made to appraisals for foreclosed real estate.

The following table presents additional quantitative information about assets measured at fair value on a nonrecurring basis and for which Bancorp has utilized Level 3 inputs to determine fair value:

Quantitative Information about Level 3 Fair Value Measurements
	Fair Value Estimate		Valuation Techniques	Unobservable Input	Range (Weighted Average)
December 31, 2012
Impaired loans	$	44,234	Appraisal of collateral (1)	Liquidation expenses (2)		-6.00%
Foreclosed real estate	$	11,441	Appraisal of collateral (1),(3)	Appraisal adjustments (2)	-5.03% to -74.68% (-24.37%)

(1)   Fair value is generally determined through independent appraisals for the underlying collateral, which generally include various level 3 inputs which are not identifiable.

(2)   Appraisals may be adjusted by management for qualitative factors such as economic conditions and estimated liquidation expenses. The range and weighted average of liquidation expenses and other appraisal adjustments are presented as a percent of the appraisal.

(3)   Includes qualitative adjustments by management and estimated liquidation expenses.

The estimated fair values of Bancorp's financial instruments as of December 31, 2012 and December 31, 2011 were as follows:

					Fair Value Measurement at December 31, 2012
	Carrying Amount		Fair Value		Quoted Prices in Active Markets For Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(dollars in thousands)
Financial Assets
Cash and cash equivalents	$	93,392	$	93,392	$	93,392	$	-	$	-
Investment securities (HTM)		34,066		35,463		-		35,463		-
Loans held for sale		11,116		11,116		-		11,116		-
Loans receivable, net		651,709		703,363		-		-		703,363
FHLB stock		6,520		6,520		-		6,520		-
Accrued interest receivable		2,510		2,510		-		2,510		-
Financial Liabilities
Deposits	$	599,394	$	601,834		-		601,834		-
FHLB advances		115,000		103,455		-		103,455		-
Subordinated debentures		24,119		24,119		-		24,119		-
Accrued interest payable		846		846		-		846		-
Off Balance Sheet Commitments	$	-	$	-	$	-	$	-	$	-

	December 31, 2011
	Carrying Amount		Fair Value
	(dollars in thousands)
Financial Assets
Cash and cash equivalents	$	87,390	$	87,390
Investment securities (HTM)		40,357		41,724
Loans held for sale		4,128		4,128
Loans receivable, net		693,303		743,668
FHLB stock		6,943		6,943
Accrued interest receivable		3,420		3,420
Financial Liabilities
Deposits	$	652,757	$	656,854
FHLB advances		115,000		102,260
Subordinated debentures		24,119		24,119
Accrued interest payable		699		699
Off Balance Sheet Commitments	$	-	$	-

The following information should not be interpreted as an estimate of the fair value of Bancorp since a fair value calculation is only provided for a limited portion of Bancorp's assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between Bancorp's disclosures and those of other companies may not be meaningful. The following methods and assumptions were used to estimate the fair values of Bancorp's financial instruments at December 31, 2012 and 2011.

Cash and cash equivalents:

The carrying amounts reported in the consolidated statements of financial condition for cash and cash equivalents approximate those assets' fair values.

Investment Securities:

Bancorp utilizes a third party source to determine the fair value of its securities. The methodology consists of pricing models based on asset class and includes available trade, bid, other market information, broker quotes, proprietary models, various databases and trading desk quotes. All Bancorp's investments are considered Level 2.

FHLB stock:

The carrying amount of FHLB stock approximates fair value based on the redemption provisions of the FHLB. There have been no identified events or changes in circumstances that may have a significant adverse effect on the FHLB stock. Based on our evaluation, we have concluded that our FHLB stock was not impaired at December 31, 2012 and 2011.

Loans held for sale:

The fair value of loans held for sale is based primarily on investor quotes.

Loans receivable:

The fair values of loans receivable was estimated using discounted cash flow analyses, using market interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. These rates were used for each aggregated category of loans as reported on the OCC Quarterly Report.

Accrued interest receivable and payable:

The carrying amounts of accrued interest receivable and accrued interest payable approximates its fair value.

Deposit liabilities:

The fair values disclosed for demand deposit accounts, savings accounts and money market deposits are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation that applies market interest rates currently being offered in the market on certificates to a schedule of aggregated expected monthly maturities on time deposits.

FHLB advances:

Fair values of long-term debt are estimated using discounted cash flow analysis, based on rates currently available for advances from the FHLB with similar terms and remaining maturities.

Subordinated debentures:

Current economic conditions have rendered the market for this liability inactive. As such, Bancorp is unable to determine a good estimate of fair value. Since the rate paid on the debentures held is lower than what would be required to secure an interest in the same debt at year end and we are unable to obtain a current fair value, Bancorp has disclosed that the carrying value approximates the fair value.

Off-balance sheet financial instruments:

Fair values for Bancorp's off-balance sheet financial instruments (lending commitments and letters of credit) are not significant and are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties' credit standing.

The following table summarizes the roll forward of level 3 assets for the years ended December 31, 2012, 2011 and 2010 (dollars in thousands):

	Impaired Loans			Foreclosed Real Estate
Balance at December 31, 2009	$	50,403		$	21,574
Transfer to foreclosed real estate		(26,526	)		24,137
Additions		59,212			430
(Increase) decrease in additional reserves		944			(3,451	)
Paid off/sold		(31,103	)		(21,735	)
Balance at December 31, 2010		52,930			20,955
Transfer to foreclosed real estate		(14,155	)		16,295
Additions		40,029			502
(Increase) decrease in additional reserves		1,545			(3,562	)
Paid off/sold		(37,294	)		(14,258	)
Balance at December 31, 2011	$	43,055		$	19,932
Transfer to foreclosed real estate		(6,868	)		13,248
Additions		42,193			374
(Increase) decrease in additional reserves		5,401			(3,284	)
Paid off/sold		(39,547	)		(18,829	)
Balance at December 31, 2012	$	44,234		$	11,441

The $5,401,000 in reduced reserves recorded against impaired loans was included in the provision for loan losses on the statement of operations for the year ended December 31, 2012. The $3,284,000 of additional reserves recorded against foreclosed real estate was included in non-interest expenses on the statement of operations for the year ended December 31, 2012. Included in the $13,248,000 of loans transferred to foreclosed real estate were seven loans totaling $4,669,000 that did not require a specific reserve at the date of transfer from loans to foreclosed real estate.

The $1,545,000 in reduced reserves recorded against impaired loans was included in the provision for loan losses on the statement of operations for the year ended December 31, 2011. The $3,562,000 of additional reserves recorded against foreclosed real estate was included in non-interest expenses on the statement of operations for the year ended December 31, 2011. Included in the $16,295,000 of loans transferred to foreclosed real estate were 13 loans totaling $5,134,000 that did not require a specific reserve at the date of transfer from loans to foreclosed real estate.

During the year ended December 31, 2012, the Bank modified its loan classification and charge off practices on impaired loans with impairment to more closely align them to those of other institutions regulated by the OCC. The classification of loan impairment as "loss" is now based upon a confirmed expectation for loss, rather than simply equating impairment with a "loss" classification by default. For loans primarily secured by real estate, the expectation for loss is generally confirmed when: (a) impairment is identified on a loan individually evaluated for impairment and, (b) the loan is presumed to be collateral-dependent such that the source of loan repayment is expected to arise solely from sale of the collateral securing the applicable loan. Loan impairment that is classified as "loss" is now charged off against the allowance for loan losses concurrent with that classification rather than deferring the charge off of confirmed expected losses until they are "realized".