NOTE 5. Loans and Allowance for Loan Losses

The composition of loans at September 30, 2019 and December 31, 2018 was as follows:



	September 30,			December 31,
	2019			2018
	(in thousands)
Mortgage loans on real estate:
Construction and land development	$	48,809		$	54,675
Secured by farmland	13,266			7,251
Secured by 1-4 family residential properties	223,831			221,861
Multifamily	11,851			7,923
Commercial	275,708			265,595
Commercial and industrial loans	44,907			33,086
Consumer installment loans	8,168			8,470
All other loans	12,250			8,454
Total loans	$	638,790		$	607,315
Net deferred loan fees	(510		)	(488		)
Allowance for loan losses	(4,891		)	(5,456		)
Net Loans	$	633,389		$	601,371

Changes in the allowance for loan losses for the nine months ended September 30, 2019 and 2018 and the year ended December 31, 2018 were as follows:



	Nine Months Ended			Year Ended			Nine Months Ended
	September 30,			December 31,			September 30,
	2019			2018			2018
				(in thousands)
Balance, beginning	$	5,456		$	4,411		$	4,411
Provision for loan losses	567			777			248
Recoveries added to the allowance	150			504			240
Loan losses charged to the allowance	(1,282		)	(236		)	(186		)
Balance, ending	$	4,891		$	5,456		$	4,713

Nonaccrual and past due loans by class at September 30, 2019 and December 31, 2018 were as follows:



	September 30, 2019
	(in thousands)
	30 - 59 Days Past Due		60 - 89 Days Past Due		90 or More Days Past Due		Total Past Due		Current		Total Loans		90 or More Days Past Due Still Accruing		Nonaccrual Loans
Commercial - Non Real Estate:
Commercial & Industrial	$	68	$	—	$	—	$	68	$	44,839	$	44,907	$	—	$	32
Commercial Real Estate:
Owner Occupied	—		—		—		—		149,233		149,233		—		324
Non-owner occupied	—		—		—		—		126,475		126,475		—		339
Construction and Farmland:
Residential	—		149		—		149		8,145		8,294		—		—
Commercial	465		—		—		465		53,316		53,781		—		—
Consumer:
Installment	—		1		—		1		8,167		8,168		—		9
Residential:
Equity Lines	46		—		60		106		33,912		34,018		60		71
Single family	716		66		640		1,422		188,391		189,813		—		1,284
Multifamily	—		—		—		—		11,851		11,851		—		—
All Other Loans	—		—		—		—		12,250		12,250		—		—
Total	$	1,295	$	216	$	700	$	2,211	$	636,579	$	638,790	$	60	$	2,059



	December 31, 2018
	(in thousands)
	30 - 59 Days Past Due		60 - 89 Days Past Due		90 or More Days Past Due		Total Past Due		Current		Total Loans		90 or More Past Due Still Accruing		Nonaccrual Loans
Commercial - Non Real Estate:
Commercial & Industrial	$	127	$	—	$	—	$	127	$	32,959	$	33,086	$	—	$	1,081
Commercial Real Estate:
Owner Occupied	—		—		—		—		136,309		136,309		—		—
Non-owner occupied	—		—		—		—		129,286		129,286		—		364
Construction and Farmland:
Residential	—		—		—		—		6,706		6,706		—		—
Commercial	—		—		—		—		55,220		55,220		—		—
Consumer:
Installment	4		—		—		4		8,466		8,470		—		—
Residential:
Equity Lines	—		—		—		—		32,815		32,815		—		92
Single family	960		196		900		2,056		186,990		189,046		695		581
Multifamily	—		—		—		—		7,923		7,923		—		—
All Other Loans	—		—		—		—		8,454		8,454		—		—
Total	$	1,091	$	196	$	900	$	2,187	$	605,128	$	607,315	$	695	$	2,118

Allowance for loan losses by segment at September 30, 2019 and December 31, 2018 were as follows:



	As of and for the Nine Months Ended
	September 30, 2019
	(in thousands)
	Construction and Farmland			Residential			Commercial Real Estate			Commercial - Non Real Estate			Consumer			All Other Loans			Unallocated			Total
Allowance for credit losses:
Beginning Balance	$	583		$	1,788		$	1,988		$	919		$	53		$	97		$	28		$	5,456
Charge-Offs	—			(383		)	—			(850		)	(5		)	(44		)	—			(1,282		)
Recoveries	6			55			14			39			21			15			—			150
Provision for (recovery of) loan losses	(202		)	403			(68		)	426			(23		)	59			(28		)	567
Ending balance	$	387		$	1,863		$	1,934		$	534		$	46		$	127		$	—		$	4,891
Ending balance: Individually evaluated for impairment	$	—		$	88		$	161		$	—		$	—		$	—		$	—		$	249
Ending balance: collectively evaluated for impairment	$	387		$	1,775		$	1,773		$	534		$	46		$	127		$	—		$	4,642
Loans:
Ending balance	$	62,075		$	235,682		$	275,708		$	44,907		$	8,168		$	12,250		$	—		$	638,790
Ending balance individually evaluated for impairment	$	255		$	3,754		$	3,086		$	237		$	9		$	—		$	—		$	7,341
Ending balance collectively evaluated for impairment	$	61,820		$	231,928		$	272,622		$	44,670		$	8,159		$	12,250		$	—		$	631,449



	As of and for the Twelve Months Ended
	December 31, 2018
	(in thousands)
	Construction and Farmland			Residential			Commercial Real Estate		Commercial - Non Real Estate			Consumer			All Other Loans			Unallocated			Total
Allowance for credit losses:
Beginning Balance	$	332		$	1,754		$	1,627	$	570		$	69		$	29		$	30		$	4,411
Charge-Offs	—			(24		)	—		(139		)	(33		)	(40		)	—			(236		)
Recoveries	266			28			78		100			19			13			—			504
Provision for (recovery of) loan losses	(15		)	30			283		388			(2		)	95			(2		)	777
Ending balance	$	583		$	1,788		$	1,988	$	919		$	53		$	97		$	28		$	5,456
Ending balance: Individually evaluated for impairment	$	—		$	119		$	193	$	650		$	—		$	—		$	—		$	962
Ending balance: collectively evaluated for impairment	$	583		$	1,669		$	1,795	$	269		$	53		$	97		$	28		$	4,494
Loans:
Ending balance	$	61,926		$	229,784		$	265,595	$	33,086		$	8,470		$	8,454		$	—		$	607,315
Ending balance individually evaluated for impairment	$	280		$	4,044		$	2,919	$	1,316		$	—		$	—		$	—		$	8,559
Ending balance collectively evaluated for impairment	$	61,646		$	225,740		$	262,676	$	31,770		$	8,470		$	8,454		$	—		$	598,756

Impaired loans by class as of and for the periods ended September 30, 2019 and December 31, 2018 were as follows:



	As of and for the Nine Months Ended
	September 30, 2019
	(in thousands)
	Unpaid Principal Balance		Recorded Investment (1)		Related Allowance		Average Recorded Investment		Interest Income Recognized
With no related allowance:
Commercial - Non Real Estate:
Commercial & Industrial	$	383	$	238	$	—	$	270	$	17
Commercial Real Estate:
Owner Occupied	370		361		—		362		4
Non-owner occupied	411		339		—		342		—
Construction and Farmland:
Residential	—		—		—		—		—
Commercial	309		256		—		268		19
Consumer:
Installment	9		9		—		10		—
Residential:
Equity lines	278		71		—		73		1
Single family	2,772		2,300		—		2,553		56
Multifamily	368		368		—		376		17
Other Loans	—		—		—		—		—
	$	4,900	$	3,942	$	—	$	4,254	$	114
With an allowance recorded:
Commercial - Non Real Estate:
Commercial & Industrial	$	—	$	—	$	—	$	—	$	—
Commercial Real Estate:
Owner Occupied	—		—		—		—		—
Non-owner occupied	2,386		2,393		161		2,411		78
Construction and Farmland:
Residential	—		—		—		—		—
Commercial	—		—		—		—		—
Consumer:
Installment	—		—		—		—		—
Residential:
Equity lines	—		—		—		—		—
Single family	1,081		1,021		88		1,031		33
Multifamily	—		—		—		—		—
Other Loans	—		—		—		—		—
	$	3,467	$	3,414	$	249	$	3,442	$	111
Total:
Commercial	$	383	$	238	$	—	$	270	$	17
Commercial Real Estate	3,167		3,093		161		3,115		82
Construction and Farmland	309		256		—		268		19
Consumer	9		9		—		10		—
Residential	4,499		3,760		88		4,033		107
Other	—		—		—		—		—
Total	$	8,367	$	7,356	$	249	$	7,696	$	225

(1) Recorded investment is defined as the summation of the outstanding principal balance, accrued interest, net deferred loan fees or costs, and any partial charge-offs. Accrued interest and net deferred loan fees or costs totaled $15 thousand at September 30, 2019.



	As of and for the Twelve Months End
	December 31, 2018
	(in thousands)
	Unpaid Principal Balance		Recorded Investment (1)		Related Allowance		Average Recorded Investment		Interest Income Recognized
With no related allowance:
Commercial - Non Real Estate:
Commercial & Industrial	$	564	$	356	$	—	$	422	$	25
Commercial Real Estate:
Owner Occupied	—		—		—		—		—
Non-owner occupied	558		501		—		511		4
Construction and Farmland:
Residential	—		—		—		—		—
Commercial	332		281		—		297		27
Consumer:
Installment	—		—		—		—		—
Residential:
Equity lines	468		92		—		93		—
Single family	2,616		2,499		—		2,565		101
Multifamily	284		286		—		289		14
Other Loans	—		—		—		—		—
	$	4,822	$	4,015	$	—	$	4,177	$	171
With an allowance recorded:
Commercial - Non Real Estate:
Commercial & Industrial	$	971	$	960	$	650	$	1,063	$	60
Commercial Real Estate:
Owner Occupied	—		—		—		—		—
Non-owner occupied	2,418		2,425		193		2,454		101
Construction and Farmland:
Residential	—		—		—		—		—
Commercial	—		—		—		—		—
Consumer:
Installment	—		—		—		—		—
Residential:
Equity lines	—		—		—		—		—
Single family	1,242		1,190		119		1,204		51
Multifamily	—		—		—		—		—
Other Loans	—		—		—		—		—
	$	4,631	$	4,575	$	962	$	4,721	$	212
Total:
Commercial	$	1,535	$	1,316	$	650	$	1,485	$	85
Commercial Real Estate	2,976		2,926		193		2,965		105
Construction and Farmland	332		281		—		297		27
Consumer	—		—		—		—		—
Residential	4,610		4,067		119		4,151		166
Other	—		—		—		—		—
Total	$	9,453	$	8,590	$	962	$	8,898	$	383

The average recorded investment for impaired loans for the three months ended September 30, 2019 was $7.6 million. The interest income recognized on impaired loans for the three months ended September 30, 2019 was $73 thousand.

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 nonaccrual loans 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 Company uses a rating system for evaluating the risks associated with non-consumer loans. Consumer loans are not evaluated for risk unless the characteristics of the loan fall within classified categories. Consumer loans are evaluated for collection based on payment performance. Descriptions of these ratings are as follows:



Pass	Pass loans exhibit acceptable history of profits, cash flow ability and liquidity. Sufficient cash flow exists to service the loan. All obligations have been paid by the borrower in an as agreed manner.

Pass Monitored	Pass monitored loans may be experiencing income and cash volatility, inconsistent operating trends, nominal liquidity and/or a leveraged balance sheet. A higher level of supervision is required for these loans as the potential for a negative event could impact the borrower’s ability to repay the loan.

Special Mention	Special mention loans exhibit negative trends and potential weakness that, if left uncorrected, may negatively affect the borrower’s ability to repay its obligations. The risk of default is not imminent and the borrower still demonstrates sufficient financial strength to service debt.

Substandard	Substandard loans exhibit well defined weaknesses resulting in a higher probability of default. The borrowers exhibit adverse financial trends and a diminishing ability or willingness to service debt.

Doubtful	Doubtful loans exhibit all of the characteristics inherent in substandard loans; however given the severity of weaknesses, the collection of 100% of the principal is unlikely under current conditions.

Loss	Loss loans are considered uncollectible over a reasonable period of time and of such little value that its continuance as a bankable asset is not warranted.

Credit quality information by class at September 30, 2019 and December 31, 2018 was as follows:



	As of
	September 30, 2019
	(in thousands)
INTERNAL RISK RATING GRADES	Pass		Pass Monitored		Special Mention		Substandard		Doubtful		Loss		Total
Commercial - Non Real Estate:
Commercial & Industrial	$	37,045	$	7,742	$	73	$	47	$	—	$	—	$	44,907
Commercial Real Estate:
Owner Occupied	102,875		29,675		16,322		361		—		—		149,233
Non-owner occupied	110,525		13,691		307		1,952		—		—		126,475
Construction and Farmland:
Residential	5,820		2,474		—		—		—		—		8,294
Commercial	19,208		33,978		277		318		—		—		53,781
Residential:
Equity Lines	32,390		1,558		—		44		26		—		34,018
Single family	169,644		17,161		587		2,283		138		—		189,813
Multifamily	10,888		595		—		368		—		—		11,851
All other loans	12,162		40		48		—		—		—		12,250
Total	$	500,557	$	106,914	$	17,614	$	5,373	$	164	$	—	$	630,622



	Performing		Nonperforming
Consumer Credit Exposure by Payment Activity	$	8,167	$	1



	As of
	December 31, 2018
	(in thousands)
INTERNAL RISK RATING GRADES	Pass		Pass Monitored		Special Mention		Substandard		Doubtful		Loss		Total
Commercial - Non Real Estate:
Commercial & Industrial	$	28,699	$	2,292	$	995	$	1,100	$	—	$	—	$	33,086
Commercial Real Estate:
Owner Occupied	110,418		16,665		9,187		39		—		—		136,309
Non-owner occupied	106,658		17,139		3,397		2,092		—		—		129,286
Construction and Farm land:
Residential	2,295		1,120		3,291		—		—		—		6,706
Commercial	16,682		22,533		15,658		347		—		—		55,220
Residential:
Equity Lines	31,813		910		—		16		76		—		32,815
Single family	172,360		11,567		2,704		2,270		145		—		189,046
Multifamily	7,160		479		—		284		—		—		7,923
All other loans	8,435		19		—		—		—		—		8,454
Total	$	484,520	$	72,724	$	35,232	$	6,148	$	221	$	—	$	598,845



	Performing		Nonperforming
Consumer Credit Exposure by Payment Activity	$	8,466	$	4