UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q
(Mark One)

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended JuneSeptember 30, 2014
or

o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

 For the transition period from _____ to _____

Commission file Number: 000-32891


1ST CONSTITUTION BANCORP
(Exact Name of Registrant as Specified in Its Charter)

New Jersey 22-3665653
(State of Other Jurisdiction
of Incorporation or Organization)
 (I.R.S. Employer Identification No.)

2650 Route 130, P.O. Box 634, Cranbury, NJ 08512
(Address of Principal Executive Offices) (Zip Code)

(609) 655-4500
(Issuer’s Telephone Number, Including Area Code)
 
(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes x       No o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x       No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated fileroAccelerated filero
Non-accelerated filer
(Do not check if a smaller reporting company)
oSmaller reporting companyx

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o   No x
 
As of August 12,November 10, 2014, there were 7,116,0557,134,774 shares of the registrant’s common stock, no par value, outstanding.

 
 
 
 
1ST CONSTITUTION BANCORP
 
FORM 10-Q
 
INDEX
 
 
  Page
   
PART I.FINANCIAL INFORMATION 
   
Item 1.
Financial Statements
1
   
 
Consolidated Balance Sheets
 
 
(unaudited) at JuneSeptember 30, 2014
 
 
and December 31, 2013
1
   
 
Consolidated Statements of Income
 
 
(unaudited) for the Three Months and SixNine Months Ended
 
 
JuneSeptember  30, 2014 and JuneSeptember  30, 2013
2
   
 
Consolidated Statements of Comprehensive Income ( Loss)
 
 
(unaudited) for the Three Months  and SixNine Months Ended
 
 
JuneSeptember 30, 2014 and JuneSeptember 30, 2013
3
   
   
 
Consolidated Statements of Changes in Shareholders’ Equity
 
 
(unaudited) for the SixNine Months Ended
 
 
JuneSeptember 30, 2014 and JuneSeptember 30, 2013
4
   
 
Consolidated Statements of Cash Flows
 
 
(unaudited) for the SixNine Months Ended
 
 
JuneSeptember 30, 2014 and JuneSeptember 30, 2013
5
   
 
Notes to Consolidated Financial Statements (unaudited)
6
   
Item 2.
Management’s Discussion and Analysis of Financial Condition
 
 
and Results of Operations
4142
   
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
6768
   
Item 4.
Controls and Procedures
6768
   
PART II.OTHER INFORMATION 
   
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
6970
   
Item 6.
Exhibits
 7071
   
SIGNATURES
7172
 
 
 
 
PART I. FINANCIAL INFORMATION

Item 1.               Financial Statements.
 
1st Constitution Bancorp and Subsidiaries
Consolidated Balance Sheets
(Unaudited)

 June 30, 2014  December 31, 2013  September 30, 2014  December 31, 2013 
ASSETS            
CASH AND DUE FROM BANKS $23,149,148  $69,267,345  $20,371,823  $69,267,345 
FEDERAL FUNDS SOLD / SHORT-TERM INVESTMENTS  -   11,426   -   11,426 
Total cash and cash equivalents  23,149,148   69,278,771   20,371,823   69,278,771 
INVESTMENT SECURITIES:                
Available for sale, at fair value  110,878,312   99,198,807   103,959,466   99,198,807 
Hel Held to maturity (fair value of $159,434,845 and $153,629,773 at
Mar June 30, 2014 and December 31, 2013, respectively)
  155,318,690   152,816,815 
Hel Held to maturity (fair value of $152,466,765 and $153,629,773 at
Mar September 30, 2014 and December 31, 2013, respectively)
  148,182,693   152,816,815 
Total investment securities  266,197,002   252,015,622   252,142,159   252,015,622 
LOANS HELD FOR SALE  9,877,863   10,923,689   9,459,172   10,923,689 
LOANS  635,459,722   373,336,082   620,395,918   373,336,082 
Less- Allowance for loan losses  (7,418,379)  (7,038,571)  (7,107,872)  (7,038,571)
Net loans  628,041,343   366,297,511   613,288,046   366,297,511 
PREMISES AND EQUIPMENT, net  12,189,136   10,043,505   12,065,252   10,043,505 
ACCRUED INTEREST RECEIVABLE  3,161,963   2,542,602   2,798,265   2,542,602 
BANK-OWNED LIFE INSURANCE  20,932,291   16,183,574   21,074,473   16,183,574 
OTHER REAL ESTATE OWNED  1,860,000   2,136,341   1,748,455   2,136,341 
GOODWILL AND INTANGIBLE ASSETS  13,614,963   4,889,575   13,587,701   4,889,575 
OTHER ASSETS  6,946,522   8,013,897   7,769,204   8,013,897 
        
Total assets $985,970,231  $742,325,087  $954,304,550  $742,325,087 
LIABILITIES AND SHAREHOLDERS’ EQUITY                
LIABILITIES:                
Deposits                
        
Non-interest bearing $166,866,851  $121,891,752  $172,185,545  $121,891,752 
Interest bearing  653,000,478   516,660,278   651,379,201   516,660,278 
Total deposits  819,867,329   638,552,030   823,564,746   638,552,030 
BORROWINGS  59,888,511   10,000,000   20,798,473   10,000,000 
REDEEMABLE SUBORDINATED DEBENTURES  18,557,000   18,557,000   18,557,000   18,557,000 
ACCRUED INTEREST PAYABLE  904,892   883,212   802,851   883,212 
ACCRUED EXPENSES AND OTHER LIABILITIES  5,078,769   5,974,531   6,105,078   5,974,531 
Total liabilities  904,296,501   673,966,773   869,828,148   673,966,773 
COMMITMENTS AND CONTINGENCIES                
        
SHAREHOLDERS’ EQUITY:                
Preferred stock, no par value; 5,000,000 shares authorized, none issued  -   -   -   - 
Common Stock, no par value; 30,000,000 shares authorized;
7,136,784 and 6,033,683 shares issued and 7,116,055 and 6,016,845 shares outstanding at
June 30,2014 and December 31, 2013, respectively
  60,937,366   49,403,450 
Common Stock, no par value; 30,000,000 shares authorized;
7,165,084, and 6,081,961 shares issued and 7,134,774 and 6,065,123 shares outstanding at
September 30,2014 and December 31, 2013, respectively
  61,383,079   49,403,450 
Retained earnings  21,576,175   21,374,381   23,714,254   21,374,381 
Treasury Stock, 20,729 shares and 16,838 shares at June 30, 2014
and December 31, 2013, respectively
  (211,727)  (171,883)
Treasury Stock, 30,310 shares and 16,838 shares at September 30, 2014
and December 31, 2013, respectively
  (309,871)  (171,883)
Accumulated other comprehensive (loss)  (628,084)   (2,247,634)  (311,060)   (2,247,634)
Total shareholders’ equity  81,673,730   68,358,314   84,476,402   68,358,314 
        
Total liabilities and shareholders’ equity $985,970,231  $742,325,087  $954,304,550  $742,325,087 

The accompanying notes are an integral part of these unaudited financial statements.

 
1
 
1st Constitution Bancorp and Subsidiaries
Consolidated Statements of Income
(Unaudited)

 Three Months Ended June 30,  Six Months Ended June 30,  Three Months Ended September 30, Nine Months Ended September 30, 
 2014  2013  2014  2013  2014 2013  2014 2013 
INTEREST INCOME:                      
Loans, including fees $7,870,260  $5,645,259  $14,108,699  $11,617,454  $8,585,950  $5,701,804  $22,694,649  $17,319,258 
Securities:                                
Taxable  1,059,160   901,711   2,180,744   1,838,796   961,043   980,004   3,141,787   2,818,800 
Tax-exempt  588,750   545,620   1,169,731   1,058,498   575,977   575,301   1,745,708   1,633,799 
Federal funds sold and short-term investments  45,417   89,662   100,708   139,342   10,184   81,745   110,892   221,087 
Total interest income  9,563,587   7,182,252   17,559,882   14,654,090   10,133,154   7,338,854   27,693,036   21,992,944 
                                
INTEREST EXPENSE:                                
Deposits  972,362   869,598   1,871,093   1,825,934   955,246   842,372   2,826,339   2,668,306 
Borrowings  127,839   104,254   243,417   207,527   144,005   103,122   387,422   310,649 
Redeemable subordinated debentures  85,673   87,771   170,780   175,644   86,534   88,338   257,314   263,982 
Total interest expense  1,185,874   1,061,623   2,285,290   2,209,105   1,185,785   1,033,832   3,471,075   3,242,937 
                                
Net interest income  8,377,713   6,120,629   15,274,592   12,444,985   8,947,369   6,305,022   24,221,961   18,750,007 
PROVISION FOR LOAN LOSSES  4,099,998   236,666   4,599,996   236,666   649,998   539,998   5,249,994   776,664 
Net interest income after provision for loan losses  4,277,715   5,883,963   10,674,596   12,208,319   8,297,371   5,765,024   18,971,967   17,973,343 
          
NON-INTEREST INCOME:                                
Service charges on deposit accounts  267,235   221,604   486,351   444,670   267,625   231,169   753,976   675,839 
Gain on sales of loans  267,155   479,146   1,006,736   1,210,855   556,054   641,966   1,562,790   1,852,821 
Income on Bank-owned life insurance  148,987   119,758   278,138   232,366   143,884   115,840   422,022   348,206 
Other income  576,655   627,351   1,125,789   1,168,531   514,279   627,573   1,640,068   1,796,104 
Total non-interest income  1,260,032   1,447,859   2,897,014   3,056,422   1,481,842   1,616,548   4,378,856   4,672,970 
          
NON-INTEREST EXPENSE:NON-INTEREST EXPENSE:     NON-INTEREST EXPENSE:    
Salaries and employee benefits  3,684,723   3,045,241   7,272,628   6,398,104   3,922,104   3,060,143   11,194,732   9,458,247 
Occupancy expense  838,895   622,499   1,665,090   1,300,305   833,813   629,922   2,498,903   1,930,227 
Data processing expense  311,760   294,306   627,809   595,688   313,237   273,272   941,046   868,960 
Other real estate owned expenses  98,609   48,557   140,041   594,062   131,973   176,796   272,014   770,858 
Merger related expenses  109,430   -   1,532,153   -   0   0   1,532,153   0 
FDIC insurance expense  184,631   15,000   334,631   34,687   210,000   111,562   544,631   146,249 
Other operating expenses  1,477,767   1,136,697   2,479,488   2,322,422   1,312,524   1,001,788   3,792,012   3,324,210 
Total non-interest expenses  6,705,815   5,162,300   14,051,840   11,245,268   6,723,651   5,253,483   20,775,491   16,498,751 
                                
Income (loss) before income taxes  (1,168,068)  2,169,522   (480,230)  4,019,473 
Income before income taxes  3,055,562   2,128,089   2,575,332   6,147,562 
INCOME TAXES  (728,150)  612,492   (682,024)  1,137,125   917,483   604,851   235,459   1,741,974 
Net income (loss) $(439,918) $1,557,030  $201,794  $2,882,348 
Net income $2,138,079  $1,523,238  $2,339,873  $4,405,588 
                                
NET INCOME (LOSS) PER COMMON SHARE:     
NET INCOME PER COMMON SHARE:NET INCOME PER COMMON SHARE:    
Basic  $(0.06) $0.26  $0.03  $0.48  $0.30  $0.25  $0.33  $ 0.74 
Diluted  $(0.06) $0.25  $0.03  $0.47  $0.30  $0.25  $0.33  $ 0.72 
 
The accompanying notes are an integral part of these unaudited financial statements.

 
2
 
1st Constitution Bancorp and Subsidiaries
Consolidated Statements of Comprehensive Income (Loss)
(Unaudited)
 
  Three months ended September 30,  Nine months ended September 30, 
  2014  2013  2014  2013 
Net Income $2,138,079  $1,523,238  $2,339,873  $4,405,588 
                 
Other comprehensive income (loss)  :                
                 
Unrealized gains (losses) on securities available for
          sale
  476,686   (53,738)  2,758,346   (4,466,187)
     Tax effect  (255,347)  18,270   (1,014,127)  1,518,504 
Net of tax amount  221,339   (35,468)  1,744,219   (2,947,683)
                 
Realized loss on securities available for sale (1)  -   -   2,516   - 
     Tax effect  -   -   (1,006)  - 
Net of tax amount  -   -   1,510   - 
                 
Pension liability (2)  159,474   63,265   318,075   129,751 
      Tax effect  (63,789)  (25,305)  (127,230)  (51,907)
Net of tax amount  95,685   37,960   190,845   77,844 
                 
    Total other comprehensive income (loss)  317,024   2,492   1,936,574   (2,869,839)
                 
Comprehensive income $2,455,103  $1,525,730  $4,276,447  $1,535,749 
          
  Three months ended June 30,  Six months ended June 30, 
  2014  2013  2014  2013 
Net Income (loss) $(439,918) $1,557,030  $201,794  $2,882,348 
                 
Other comprehensive income (loss)  :                
                 
Unrealized gains (losses) on securities available for
          sale
  1,066,459   (3,833,028)  2,281,660   (4,614,989)
     Tax effect  (387,844)  1,353,848   (758,780)  1,702,774 
Net of tax amount  678,615   (2,479,180)  1,522,880   (2,912,215)
                 
Realized loss on securities available for sale  2,516   -   2,516   - 
     Tax effect  (1,006)  -   (1,006)  - 
Net of tax amount  1,510   -   1,510   - 
                 
Pension liability  95,335   63,266   158,601   66,486 
      Tax effect  (38,135)  (25,307)  (63,441)  (26,602)
Net of tax amount  57,200   37,959   95,160   39,884 
                 
    Total other comprehensive income (loss)  737,325   (2,441,221)  1,619,550   (2,872,331)
                 
Comprehensive income (loss) $297,407  $(884,191) $1,821,344  $10,017 

The accompanying notes are an integral part of these unaudited financial statements.

(1) Included in other income on the Consolidated Statements of Income.
(2) Included in salaries and employee benefits on the Consolidated Statements of Income.
 
3

1st Constitution Bancorp and Subsidiaries
Consolidated Statements of Changes in Shareholders’ Equity
For the SixNine Months Ended JuneSeptember 30, 2014 and 2013
(Unaudited)
 
 
 
 
Common
Stock
  
 
 
Retained
Earnings
  
 
 
Treasury
Stock
  
Accumulated
Other
Comprehensive
(Loss) Income
  
 
Total
Shareholders’
Equity
 
 
 
 
Common
Stock
  
 
 
Retained
Earnings
  
 
 
Treasury
Stock
  
Accumulated
Other
Comprehensive
(Loss) Income
  
 
Total
Shareholders’
Equity
                     
Balance, January 1, 2013 $48,716,032  $15,594,293  $(61,086) $804,293  $65,053,532  $48,716,032  $15,594,293  $(61,086) $804,293  $65,053,532 
Exercise of stock options and issuance of
shares under employee benefit program (23,233
shares)
  219,783               219,783   603,342               603,342 
                    
Share-based compensation  50,568               50,568   75,948               75,948 
                    
Treasury stock purchased (6,440 shares)          (58,028)      (58,028)          (116,451)      (116,451)
Net income for the six month ended
June 30, 2013
      2,882,348           2,882,348 
                    
Net income for the nine month ended
September 30, 2013
      4,405,588           4,405,588 
                    
Other comprehensive (loss)              (2,872,331)  (2,872,331)              (2,869,839)  (2,869,839)
Balance, June 30, 2013 $48,986,383  $18,476,641  $(119,114) $(2,068,038) $65,275,872 
Balance, September 30, 2013 $49,395,322  $19,999,881  $(177,537) $(2,065,546) $67,152,120 
                    
Balance, January 1, 2014 $49,403,450  $21,374,381  $(171,883) $(2,247,634) $68,358,314  $49,403,450  $21,374,381  $(171,883) $(2,247,634) $68,358,314 
Exercise of stock options and issuance of
shares under employee benefit program (35,600
shares)
  302,850               302,850 
Exercise of stock options and issuance of
shares under employee benefit program (63,900
shares)
  741,806               741,806 
                    
Share-based compensation  70,366               70,366   77,123               77,123 
Treasury stock purchased (3,891 shares)          (39,844)      (39,844)
                    
Treasury stock purchased (13,472 shares)          (137,988)      (137,988)
                    
Acquisition of Rumson-Fair Haven Bank and
Trust Company (1,019,223 shares)
  11,160,700               11,160,700   11,160,700               11,160,700 
Net income for the six months ended
June 30, 2014
      201,794           201,794 
                    
Net income for the nine months ended
September 30, 2014
      2,339,873           2,339,873 
                    
Other comprehensive income              1,619,550   1,619,550               1,936,574   1,936,574 
Balance June 30, 2014 $60,937,366  $21,576,175  $(211,727) $(628,084) $81,673,730 
                    
Balance, September 30, 2014 $61,383,079  $23,714,254  $(309,871) $(311,060) $84,476,402 
 
The accompanying notes are an integral part of these financial statements.
 
 
4
 
1st Constitution Bancorp and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)
 
 Six Months Ended June 30,
  2014 2013
OPERATING ACTIVITIES:       
     Net income  $201,794  $2,882,348 
        Adjustments to reconcile net income to net cash provided by operating activities-        
        Provision for loan losses   4,599,996   236,666 
        Provision for loss on other real estate owned  -   662,918 
        Depreciation and amortization   880,566   539,640 
        Net amortization of premiums and discounts on securities   546,824   613,720 
        Loss on sales of securities held for sale  2,516   - 
        Gains on sales of other real estate owned  (21,012)  (291,452)
        Gains on sales of loans held for sale  (1,006,736)  (1,210,855)
        Originations of loans held for sale   (39,760,548)  (83,349,024)
         Proceeds from sales of loans held for sale   41,813,110   92,285,028 
         Income on Bank – owned life insurance   (278,138)  (232,366)
         Share-based compensation expense  70,366   267,958 
         (Increase) decrease in accrued interest receivable   (22,749)  317,907 
         Decrease in other assets  1,196,128   1,270,240 
         Decrease in accrued interest payable   (125,694)  (114,674)
         (Decrease) increase in accrued expenses and other liabilities   (1,414,957)  305,763 
Net cash  provided by operating activities  6,681,466   14,183,817 
INVESTING ACTIVITIES:        
     Purchases of securities -         
           Available for sale   -   (15,947,558)
           Held to maturity   (14,229,098)  (10,839,022)
     Proceeds from maturities and prepayments of securities -         
           Available for sale   14,315,647   15,257,223 
           Held to maturity   11,534,177   16,295,574 
     Proceeds from sales of securities available for sale  5,957,188   - 
     Net (increase) decrease in loans   (122,887,249)   110,901,189 
     Capital expenditures   (111,489)  (113,402)
     Net cash received in the acquisition  21,375,071   - 
     Proceeds from sales of other real estate owned  230,949   2,653,518 
             Net cash (used in) provided by  investing activities   (83,814,804)   118,207,522 
FINANCING ACTIVITIES:         
     Issuance of vested shares  302,850   219,783 
     Purchase of Treasury Stock  (39,844)  (58,028)
     Net decrease in demand, savings and time deposits   (8,169,253)  (4,089,641)
     Net increase (decrease) in borrowings  38,909,962   (32,400,000) 
Net cash provided by (used in) financing activities   31,003,715   (36,327,886)
(Decrease) increase in cash and cash equivalents   (46,129,623)  96,063,453 
CASH AND CASH EQUIVALENTS         
AT BEGINNING OF YEAR  69,278,771   14,044,921 
CASH AND CASH EQUIVALENTS         
AT END OF YEAR $23,149,148  $110,108,374 
SUPPLEMENTAL DISCLOSURES OF CASHFLOW INFORMATION        
           Cash paid during the period for -         
Interest  $2,410,984   2,323,779 
Income taxes   596,223   1,153,000 
           Non-cash investing activities        
Real estate acquired in full satisfaction of loans in foreclosure $-   2,311,225 
           Acquisition of Rumson-Fair Haven Bank and Trust Company        
            Noncash assets acquired:        
Investment securities available for sale $30,024,458     
Loans  143,714,377     
Accrued interest receivable  596,612     
Premises and equipment, net  2,551,939     
Goodwill  7,698,427     
Core deposit intangible  1,188,836     
Bank-owned life insurance  4,470,579     
Other assets  885,576     
   191,130,804     
             Liabilities assumed:        
Deposits  189,490,005     
Advances from FHLB  11,030,000     
Other liabilities  825,170     
   201,345,175     
Common stock issued as consideration $11,160,700     
  Nine Months Ended September 30, 
  2014  2013 
OPERATING ACTIVITIES:       
     Net income  $2,339,873  $4,405,588 
        Adjustments to reconcile net income to net cash provided by operating activities-        
        Provision for loan losses   5,249,994   776,664 
        Provision for loss on other real estate owned  111,545   662,918 
        Depreciation and amortization   1,338,569   805.823 
        Net amortization of premiums and discounts on securities   852,302   868,639 
        Loss on sales of securities held for sale  2,516   - 
        Gains on sales of other real estate owned  (21,012)  (292,170)
        Gains on sales of loans held for sale  (1,562,790)  (1,852,821)
        Originations of loans held for sale   (84,044,668)  (114,126,927)
         Proceeds from sales of loans held for sale   87,071,975   137,972,505 
         Income on Bank – owned life insurance   (422,022)  (348,206)
         Share-based compensation expense  443,673   380,471 
         Decrease in accrued interest receivable   340,949   728,564 
         (Increase) decrease in other assets  (307,003)   925,461 
         Decrease in accrued interest payable   (227,735)  (269,852)
         Increase (decrease) in accrued expenses and other liabilities   (388,648)  517,255 
                 Net cash  provided by operating activities  10,777,518   31,153,912 
INVESTING ACTIVITIES:        
     Purchases of securities -         
           Available for sale   -   (16,947,137)
           Held to maturity   (14,229,098)  (62,560,993)
     Proceeds from maturities and prepayments of securities -         
           Available for sale   21,503,769   20,423,187 
           Held to maturity   18,572,106   27,488,848 
     Proceeds from sales of securities available for sale  5,957,188   - 
     Net (increase) decrease in loans   (108,783,950)   155,845,716 
     Capital expenditures   (262,407)  (147,040)
     Net cash received in the acquisition  21,375,071   - 
     Additional investment in other real estate owned  -   (11,500)
     Proceeds from sales of other real estate owned  230,949   7,183,854 
             Net cash (used in) provided by  investing activities   (55,636,372)   131,274,935 
FINANCING ACTIVITIES:         
     Issuance of vested shares  741,806   603,342 
     Purchase of Treasury Stock  (137,988)  (116,451)
     Net decrease in demand, savings and time deposits   (4,471,836)  (20,745,521)
     Net increase (decrease in borrowings  (180,076)  (32,400,000) 
Net cash used in financing activities   (4,048,094)  (52,658,630)
(Decrease) increase in cash and cash equivalents   (48,906,948)  109,770,217 
CASH AND CASH EQUIVALENTS         
AT BEGINNING OF YEAR  69,278,771   14,044,921 
CASH AND CASH EQUIVALENTS         
AT END OF YEAR $20,371,823  $123,815,138 
SUPPLEMENTAL DISCLOSURES OF CASHFLOW INFORMATION        
           Cash paid during the period for -         
Interest  $3,551,436   3,512,789 
Income taxes   656,223   1,721,000 
           Non-cash investing activities        
Real estate acquired in full satisfaction of loans in foreclosure $-   2,311,225 
           Acquisition of Rumson-Fair Haven Bank and Trust Company        
             Noncash assets acquired:        
Investment securities available for sale $30,024,458     
Loans  143,714,377     
Accrued interest receivable  596,612     
Premises and equipment, net  2,551,939     
Goodwill  7,698,427     
Core deposit intangible  1,188,836     
Bank-owned life insurance  4,470,579     
Other assets  885,576     
   191,130,804     
             Liabilities assumed:        
Deposits  189,490,005     
Advances from FHLB  11,030,000     
Other liabilities  825,170     
   201,345,175     
Common stock issued as consideration $11,160,700     
 
The accompanying notes are an integral part of these financial statements.
 
 
5
 
1st Constitution Bancorp and Subsidiaries
Notes To Consolidated Financial Statements
June 30, 2014 (Unaudited)

 
(1)  Summary of Significant Accounting Policies
 
The accompanying unaudited consolidated financial statements include 1st Constitution Bancorp (the “Company”), its wholly-owned subsidiary, 1st Constitution Bank (the “Bank”), and the Bank’s wholly-owned subsidiaries, 1st Constitution Investment Company of New Jersey, Inc., FCB Assets Holdings, Inc., 1st Constitution Title Agency, LLC, 204 South Newman Street Corp. and 249 New York Avenue, LLC.  1st Constitution Capital Trust II, a subsidiary of the Company, is not included in the Company’s consolidated financial statements, as it is a variable interest entity and the Company is not the primary beneficiary.  All significant intercompany accounts and transactions have been eliminated in consolidation and certain prior period amounts have been reclassified to conform to current year presentation.  The accounting and reporting policies of the Company and its subsidiaries conform to accounting principles generally accepted in the United States of America and pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”) including the instructions to Form 10-Q and Article 8 of Regulation S-X.  Certain information and footnote disclosures normally included in financial statements have been condensed or omitted pursuant to such rules and regulations.  These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto included in the Company’s Form 10-K for the year ended December 31, 2013, filed with the SEC on March 31, 2014.
 
In the opinion of the Company, all adjustments (consisting only of normal recurring accruals) which are necessary for a fair presentation of the operating results for the interim periods have been included. The results of operations for periods of less than a year are not necessarily indicative of results for the full year.
 
The Company has evaluated events and transactions occurring subsequent to the balance sheet date of JuneSeptember 30, 2014 for items that should potentially be recognized or disclosed in these financial statements.  The evaluation was conducted through the date these financial statements were issued.

 
(2)  Acquisition of Rumson-Fair Haven Bank and Trust Company
 
On February 7, 2014, the Company completed its acquisition of Rumson-Fair Haven Bank and Trust Company, a New Jersey state commercial bank (“Rumson”), which merged with and into the Bank, with the Bank as the surviving entity. The merger agreement among the Company, the Bank and Rumson (the “Merger Agreement”) provided that the shareholders of Rumson would receive, at their election, for each outstanding share of Rumson common stock that they own at the effective time of the merger, either 0.7772 shares of the Company common stock or $7.50 in cash or a combination thereof, subject to proration as described in the Merger Agreement, so that 60% of the aggregate merger consideration consisted of cash and 40% consisted of shares of the Company’s common stock. The Company issued an aggregate of 1,019,223 shares of its common stock and paid $14.8 million in cash in the transaction.
 
The merger was accounted for under the acquisition method of accounting and accordingly, assets acquired, liabilities assumed and consideration exchanged were recorded at preliminary estimated fair values as of the acquisition date. Rumson’s results of operations have been included in the Company’s Consolidated Statements of Income since February 7, 2014.
 
The assets acquired and liabilities assumed in the merger were recorded at their estimated fair values based on management’s best estimates using information available at the date of the merger, including the use of a third party valuation specialist. The fair values are preliminary estimates and subject to adjustment for up to one year after the closing date of the merger. The following table summarizes the estimated fair value of the acquired assets and liabilities.
 
 
6
 
($ in thousands) Amount 
    
    
Consideration paid:   
Company stock issued $11,161 
Cash payment  14,770 
Total consideration paid  25,931 
     
  
Recognized amounts of identifiable assets and liabilities assumed at fair value:    
Cash and cash equivalents  36,045 
Short-term investments  100 
Securities available for sale  30,024 
Loans  143,714 
Premises and equipment, net  2,552 
Identifiable intangible assets  1,189 
Bank-owned life insurance  4,471 
Accrued interest receivable and other assets  1,483 
Deposits  (189,490) 
Borrowings  (11,030)
Other liabilities  (825) 
Total identifiable assets  18,233 
     
Goodwill $7,698 
 
 
Accounting Standards Codification (“ASC”) Topic 805-10 provides that if the initial accounting for a business combination is incomplete by the end of the reporting period in which the combination occurs, the acquirer shall report in its financial statements provisional amounts for the items for which the accounting is incomplete.  During the measurement period, the acquirer shall retrospectively adjust the provisional amounts recognized at the acquisition date to reflect new information obtained about facts and circumstances that existed as of the acquisition date that, if known, would have affected the measurement of the amounts recognized as of that date.  During the measurement period, the acquirer also shall recognize additional assets or liabilities if new information is obtained about facts and circumstances that existed as of the acquisition date that, if known, would have resulted in the recognition of those assets and liabilities as of that date.  The measurement period may not exceed one year from the acquisition date.  As of JuneSeptember 30, 2014, independent appraisals of branch office real estate and leases had not been completed and the fair value of these assets and liabilities had not been determined.
 
Loans and leases acquired in the Rumson acquisition were recorded at fair value and subsequently accounted for in accordance with ASC Topic 310, and there was no carryover of Rumson’s allowance for loan losses. The fair values of loans acquired from Rumson were estimated using cash flow projections based on the remaining maturity and repricing terms. Cash flows were adjusted for estimated future credit losses and the rate of prepayments. Projected cash flows were then discounted to present value using a risk-adjusted market rate for similar loans.
 
At the acquisition date, the Company recorded $141.1 million of loans without evidence of credit quality deterioration and $2.6 million of loans with evidence of credit quality deterioration. The following table summarizes the composition of the loans acquired and recorded at fair value.
 
 
7
 
  At February 7, 2014 
 
 
($ in thousands)
 
Loans
acquired with
no credit
quality
deterioration
  
Loans
acquired with
credit
quality
deterioration
  Total 
          
Commercial         
     Construction $11,920  $-  $11,920 
     Commercial Real Estate  62,398   1,832   64,230 
     Commercial Business  18,086   368   18,454 
Residential Real Estate  32,743   180   32,923 
Consumer  15,953   234   16,187 
Total $141,100  $2,614  $143,714 
 

The following is a summary of the loans acquired with evidence of deteriorated credit quality in the Rumson acquisition as of the closing date.
 
 
($ in thousands)
 
Acquired
Credit
Impaired
Loans
  
Acquired
Credit
Impaired
Loans
 
      
Contractually required principal and interest at acquisition $4,451  $4,451 
Contractual cash flows not expected to be collected (non-accretable difference)  1,543   1,543 
        
Expected cash flows at acquisition  2,908   2,908 
Interest component of expected cash flows (accretable difference)  294   294 
        
Fair value of acquired loans $2,614  $2,614 
 
The core deposit intangible totaled $1.2 million and is being amortized over its estimated useful life of approximately 10 years using an accelerated method. The goodwill will be evaluated annually for impairment. The goodwill is not deductible for tax purposes.
 
 
8
 
The following table presents the projected amortization of the core depositsdeposit intangible for each period presented:
 
 ($ in thousands)  ($ in thousands) 
2014 $216 $ 216 
2015 195  195 
2016 173  173 
2017 151  151 
2018 130  130 
Thereafter 324  324 
      
 $1,189 $1,189 
 
The fair values of deposit liabilities with no stated maturities, such as checking, money market and savings accounts, were assumed to equal the carrying amounts since these deposits are payable on demand. The fair values of certificates of deposits and IRAs represent the present value of contractual cash flows discounted at market rates for similar certificates of deposit.
 
Direct costs related to the acquisition were expensed as incurred. During the sixnine months ended JuneSeptember 30, 2014, the Company incurred $1.5 million of merger and acquisition integration-related expenses, which have been separately stated in the Company’s Consolidated Statements of Income.
 
Supplemental Pro Forma Financial Information
 
The following table presents financial information regarding the former Rumson operations included in ourthe Consolidated Statements of Income from the date of the acquisition, February 7, 2014, through JuneSeptember 30, 2014 under the column “Actual from acquisition date to JuneSeptember 30, 2014.”  In addition, the table provides unaudited condensed pro forma financial information assuming that the Rumson acquisition had been completed as of January 1, 2013. In the table below, merger-related expenses of $1.8 million were excluded from pro forma non-interest expenses for the sixnine months ended JuneSeptember 30, 2014.  Income taxes were also adjusted to exclude income tax benefits of $505,000$624,000 related to the merger expenses for the sixnine months ended JuneSeptember 30, 2014.
 
The table below has been prepared for comparative purposes only and is not necessarily indicative of the actual results that would have been attained had the acquisition occurred as of the beginning of the periods presented, nor is it indicative of future results. Furthermore, the unaudited pro forma financial information does not reflect management’s estimate of any revenue-enhancing opportunities nor anticipated cost savings that may have occurred as a result of the integration and consolidation of Rumson’s operations. The pro forma financial information reflects adjustments related to certain purchase accounting fair value adjustments; amortization of core deposit and other intangibles; and related income tax effects.
 
 
9
 
 
Actual from
acquisition date to
June 30, 2014
  
Pro Forma for the
 six months ended
June 30, 2014
  
Pro Forma for the
six months ended
June 30, 2013
  
Actual from
Acquisition date to
September
30, 2014
  
Pro Forma for the
nine months
ended
September
30, 2014
  
Pro Forma for the
Nine months
 ended
September
30, 2013
 
 (in thousands, except per share amounts)  (in thousands, except per share amounts) 
                  
Net interest income $2,809  $16,074  $16,258  $4,430  $25,021  $24,434 
Non-interest income  123   2,946   3,572   176   4,428   5,476 
Non-interest expenses  1,120   13,242   14,020   1,926   19,964   20,802 
Income taxes (benefit)  724   (61)  1,625 
Income taxes  1,070   839   2,543 
Net income  1,088   1,239   3,778   1,610   3,395   5,648 
                        
Earnings per share – diluted     $0.18  $0.53 
Earnings per share-diluted     $0.48  $0.79 




 (3)  Net Income Per Common Share
 
Basic net income per common share is calculated by dividing net income by the weighted average number of common shares outstanding during each period.
 
Diluted net income per common share is calculated by dividing net income by the weighted average number of common shares outstanding, as adjusted for the assumed exercise of potential common stock warrants, and common stock options, using the treasury stock method.  For periods when a net loss is incurred, there is no dilutive effect of share equivalents. Accordingly, these shares are not included in the calculation of diluted earnings per share.

The following tables illustrate the reconciliation of the numerators and denominators of the basic and diluted earnings per common share (EPS) calculations.  Dilutive securities in the tables below exclude common stock options and warrants with exercise prices that exceed the average market price of the Company’s common stock during the periods presented.  Inclusion of these common stock options and warrants would be anti-dilutive to the diluted earnings per common share calculation. 

 
Three Months Ended June 30,
2014
  
Three Months Ended September 30,
2014
 
 
 
Net 
 (loss)
  
Weighted-
average
shares
  
 
Per share
amount
  Income  
Weighted-
average
shares
  
 
Per share
amount
 
Basic earnings per common share:                  
Net (loss) $(439,918)  7,113,717  $(0.06)
Net Income $2,138,079   7,119,113  $0.30 
                        
Effect of dilutive securities:                        
Stock options and warrants      -           122,436     
                        
Diluted EPS:                        
Net (loss) plus assumed conversion $(439,918)  7,113,717  $(0.06)
Net income plus assumed conversion $2,138,079   7,241,549  $0.30 

 
10

  
Three Months Ended June 30,
2013
 
  
 
Net 
Income
  
Weighted-
average
shares
  
 
Per share
amount
 
Basic earnings per common share:         
Net income $1,557,030   5,992,743  $0.26 
Effect of Dilutive Securities:            
Stock options and warrants      150,867     
Diluted EPS:            
                   Net income plus assumed conversions $1,557,030   6,143,610  $0.25 
  
Three Months Ended September 30,
2013
 
  
 
Net 
Income
  
Weighted-
average
shares
  
 
Per share
amount
 
Basic earnings per common share:         
Net income $1,523,238   5,991,480  $0.25 
Effect of Dilutive Securities:            
Stock options and warrants      155,182     
Diluted EPS:            
Net income plus assumed conversions $1,523,238   6,146,662  $0.25 
 

 
Six Months Ended June 30,
2014
  
Nine Months Ended September 30,
2014
 
 
 
Net 
Income
  
Weighted-
average
shares
  
 
Per share
amount
  
 
Net 
Income
  
Weighted-
average
shares
  
 
Per share
amount
 
Basic earnings per common share:                  
Net income $201,794   6,958,901  $0.03  $2,339,873   7,013,776  $0.33 
Effect of Dilutive Securities:                        
Stock options and warrants      120,293           127,792     
Diluted EPS:                        
Net income plus assumed conversions $201,794   7,079,194  $0.03  $2,339,873   7,141,568  $0.33 


  
Nine Months Ended September 30,
2013
 
  
 
Net 
Income
  
Weighted-
average
shares
  
 
Per share
amount
 
Basic earnings per common share:         
Net income $4,405,588   5,960,294  $0.74 
Effect of Dilutive Securities:            
Stock options and warrants      128,539     
Diluted EPS:            
Net income plus assumed conversions $4,405,588   6,088,833  $0.72 
  
Six Months Ended June 30,
2013
 
  
 
Net 
Income
  
Weighted-
average
shares
  
 
Per share
amount
 
Basic earnings per common share:         
Net income $2,882,348   5,944,633  $0.48 
Effect of Dilutive Securities:            
Stock options and warrants      148,498     
Diluted EPS:            
                   Net income plus assumed conversions $2,882,348   6,093,131  $0.47 


 
 For the three months and sixnine months ended JuneSeptember 30, 2014 and 2013, 247,29890,296 and 90,296247,298 options, respectively, were anti-dilutive and were not included in the computation of diluted earnings per common shares.
 
 
11
 
(4)           Investment Securities
 
 Amortized cost, gross unrealized gains and losses, and the estimated fair value by security type are as follows:
    Gross Gross    
  Amortized Unrealized Unrealized Fair 
June 30, 2014 Cost Gains Losses Value 
Available for sale-       
U. S. Treasury securities and         
     obligations of U.S. Government         
     sponsored corporations (“GSE”) and agencies  $11,430,419  $-  $(525,144) $10,905,275 
Residential collateralized mortgage obligations – GSE   4,016,935   104,804   (35,909)  4,085,830 
Residential collateralized mortgage obligations –
     non-GSE
   2,774,669   47,862   (6,211)  2,816,320 
Residential mortgage backed securities – GSE   29,268,826   966,555   (261,125)  29,974,256 
Obligations of State and Political subdivisions   22,047,926   225,727   (1,264,271)  21,009,382 
Trust preferred debt securities – single issuer   2,470,301   -   (321,701)  2,148,600 
Corporate debt securities   36,036,784   404,998   (44,033)  36,397,749 
Restricted stock   3,515,900   -   -   3,515,900 
Mutual fund   25,000   -   -   25,000 
   $111,586,760  $1,749,946  $(2,458,394) $110,878,312 


June 30, 2014 
 
 
 
 
 
Amortized
Cost
  
Other-Than-
Temporary
Impairment
Recognized In
Accumulated
Other
Comprehensive
Loss
  
 
 
 
 
 
Carrying
Value
  
 
 
 
 
Gross
Unrealized
Gains
  
 
 
 
 
Gross
Unrealized
Losses
  
 
 
 
 
 
Fair
Value
 
Held to maturity-                  
    U. S. Treasury securities and                  
         obligations of U.S. Government                        
         sponsored corporations (“GSE”)
          and agencies
 $501,773  $-  $501,773  $1,572  $-  $503,345 
    Residential collateralized
         mortgage obligations – GSE
  13,242,024   -   13,242,024   500,621   -   13,742,645 
    Residential collateralized mortgage
         obligations – non-GSE
  9,679,334   -   9,679,334   346,640       10,025,974 
    Residential mortgage backed
         securities – GSE
  61,339,357   -   61,339,357   1,404,295   (134,022)  62,609,630 
    Obligations of State and                        
         Political subdivisions  69,900,076   -   69,900,076   2,023,380   (404,000)  71,519,456 
    Trust preferred debt securities-pooled  656,661   (500,944)  155,717   376,593   -   532,310 
    Corporate debt securities  500,409   -    500,409   1,076   -   501,485 
  $155,819,634  $(500,944) $155,318,690  $4,654,177  $(538,022) $159,434,845 

September 30, 2014 
Amortized
Cost
  
Gross
unrealized
gains
  
Gross
unrealized
losses
  Fair value 
Available for sale-            
U. S. Treasury securities and obligations of U.S. Government            
     sponsored corporations (“GSE”) and agencies $11,431,027  $-  $(444,332) $10,986,695 
Residential collateralized mortgage obligations – GSE  3,684,424   82,520   (43,280)  3,723,664 
Residential collateralized mortgage obligations – non GSE  2,564,282   39,395   (6,013)  2,597,664 
Residential mortgage backed securities – GSE  28,136,260   822,737   (278,630)  28,680,367 
Obligations of State and Political subdivisions  22,023,131   244,381   (649,000)  21,618,512 
Trust preferred debt securities – single issuer  2,471,060   -   (287,360)  2,183,700 
Corporate debt securities  32,294,145   322,566   (34,747)  32,581,964 
Restricted stock  1,561,900   -   -   1,561,900 
Mutual fund  25,000   -   -   25,000 
  $104,191,229  $1,511,599  $(1,743,362  $103,959,466 




September 30, 2014 
 
 
 
 
 
Amortized
Cost
  
Other-Than-
Temporary
Impairment
Recognized In
Accumulated
Other
Comprehensive
Loss
  
 
 
 
 
 
Carrying
Value
  
 
 
 
 
Gross
Unrealized
Gains
  
 
 
 
 
Gross
Unrealized
Losses
  
 
 
 
 
 
Fair
Value
 
Held to maturity-                  
    U. S. Treasury securities and                  
         obligations of U.S. Government                        
         sponsored corporations (“GSE”)  and agencies $-  $-  $-  $-  $-  $- 
    Residential collateralized mortgage obligations –
         GSE
  12,300,297   -   12,300,297   429,031   -   12,729,328 
    Residential collateralized mortgage obligations –
         non-GSE
  9,099,412   -   9,099,412   292,039       9,391,451 
    Residential mortgage backed securities – GSE
  58,526,504   -   58,526,504   1,085,369   (122,585)  59,489,288 
    Obligations of State and Political subdivisions  68,100,762   -   68,100,762   2,250,385   (105,740)  70,245,407 
    Trust preferred debt securities-pooled  656,662   (500,944)  155,718   455,573   -   611,291 
    Corporate debt securities  -   -    -   -   -   - 
  $148,683,637  $(500,944) $148,182,693  $4,512,397  $(228,325) $152,466,765 
 
 
12
 
   Gross Gross   
 Amortized Unrealized Unrealized Fair 
December 31, 2013 Cost Gains Losses Value  
Amortized
Cost
  
Gross
unrealized
gains
  
Gross
unrealized
losses
  Fair value 
         
Available for sale-Available for sale-                   
U. S. Treasury securities and         
obligations of U.S. Government         
U. S. Treasury securities and obligations of U.S. Government            
sponsored corporations (“GSE”) and agencies  $22,386,761  $33,213  $(910,274) $21,509,700  $22,386,761  $33,213  $(910,274) $21,509,700 
Residential collateralized mortgage obligations – GSE
   3,547,404   134,388   -   3,681,792   3,547,404   134,388   -   3,681,792 
Residential collateralized mortgage obligations –
non-GSE
   2,782,843   52,227   (8,674)  2,826,396 
Residential mortgage backed securities – GSE
   31,532,051   872,169   (438,273)  31,965,947 
Residential collateralized mortgage obligations – non GSE  2,782,843   52,227   (8,674)  2,826,396 
Residential mortgage backed securities – GSE  31,532,051   872,169   (438,273)  31,965,947 
Obligations of State and Political subdivisions   22,206,959   149,959   (2,710,874)  19,646,044   22,206,959   149,959   (2,710,874)  19,646,044 
Trust preferred debt securities-single issuer   2,468,839   -   (455,739)  2,013,100 
Trust preferred debt securities – single issuer  2,468,839   -   (455,739)  2,013,100 
Corporate debt securities   16,228,474   318,590   (29,336)  16,517,728   16,228,474   318,590   (29,336)  16,517,728 
Restricted stock   1,013,100   -   -   1,013,100   1,013,100   -   -   1,013,100 
Mutual fund   25,000   -   -   25,000   25,000   -   -   25,000 
  $102,191,431  $1,560,546  $(4,553,170) $99,198,807  $102,191,431  $1,560,546  $(4,553,170  $99,198,807 



December 31, 2013 
 
 
 
 
 
Amortized
Cost
  
Other-Than-
Temporary
Impairment
Recognized In
Accumulated
Other
Comprehensive
Loss
  
 
 
 
 
 
Carrying
Value
  
 
 
 
 
Gross
Unrealized
Gains
  
 
 
 
 
Gross
Unrealized
Losses
  
 
 
 
 
 
Fair
Value
 
Held to maturity-                  
  Obligations of U.S. Government                  
sponsored corporations
(“GSE”) and agencies
 $1,524,860  $-  $1,524,860  $10,310  $-  $1,535,170 
    Residential collateralized
          mortgage obligations – GSE
  14,803,739   -   14,803,739   379,815   -   15,183,554 
   Residential collateralized
         mortgage obligations –
         non-GSE
  10,682,363   -   10,682,363   119,777   (27,526)  10,774,614 
   Residential mortgage backed
      securities – GSE
  65,240,620   -   65,240,620   611,062   (387,034)  65,464,648 
Obligations of State and
Political subdivisions
  59,400,916   -   59,400,916   1,399,938   (1,296,357)  59,504,497 
Trust preferred debt securities –
       pooled
  656,662   (500,944)  155,718   -   (6,863)  148,855 
Corporate debt securities  1,008,599   -   1,008,599   9,836   -   1,018,435 
                         
  $153,317,759  $(500,944) $152,816,815  $2,530,738  $(1,717,780) $153,629,773 
December 31, 2013 
 
 
 
 
Amortized
Cost
  
Other-Than-
Temporary
Impairment
Recognized In
Accumulated
Other
Comprehensive
Loss
  
 
 
 
 
Carrying
Value
  
 
 
 
Gross
Unrealized
Gains
  
 
 
 
Gross
Unrealized
Losses
  
 
 
 
 
Fair
Value
 
Held to maturity-                  
  Obligations of U.S. Government                  
sponsored corporations (“GSE”) and agencies $1,524,860  $-  $1,524,860  $10,310  $-  $1,535,170 
   Residential collateralized mortgage
         obligations – GSE
  14,803,739   -   14,803,739   379,815   -   15,183,554 
   Residential collateralized  mortgage
        obligations – non-GSE
  10,682,363   -   10,682,363   119,777   (27,526)  10,774,614 
   Residential mortgage backed  securities –
        GSE
  65,240,620   -   65,240,620   611,062   (387,034)  65,464,648 
Obligations of State and Political
   subdivisions
  59,400,916   -   59,400,916   1,399,938   (1,296,357)  59,504,497 
Trust preferred debt securities – pooled
  656,662   (500,944)  155,718   -   (6,863)  148,855 
Corporate debt securities  1,008,599   -   1,008,599  ��9,836   -   1,018,435 
                         
  $153,317,759  $(500,944) $152,816,815  $2,530,738  $(1,717,780) $153,629,773 


Restricted stock at JuneSeptember 30, 2014 and December 31, 2013 consisted of $3,450,900$1,496,900 and $948,100,$998,100, respectively, of Federal Home Loan Bank of New York stock and $65,000 and $15,000, respectively, of Atlantic Central Bankers Bank stock.
 
The amortized cost and estimated fair value of investment securities at JuneSeptember 30, 2014, by contractual maturity, are shown below.  Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.  Restricted stock is included in “Available for sale - Due in one year or less.”

 
13
 
 Amortized Cost  Fair Value  Amortized Cost  Fair Value 
Available for sale-
            
Due in one year or less            
U.S. Treasury securities and obligations of US
Government sponsored corporations (“GSE”)
and agencies
 $-  $- 
Residential collateralized mortgage obligations - non GSE $263,345  $264,102 
Residential mortgage backed securities – GSE
  327,904   329,483   250   250 
Obligations of State and Political subdivisions  264,650   265,665   264,775   265,665 
Corporate Debt Securities  10,350,414   10,377,692 
Restricted Stock  3,515,900   3,515,900 
Mutual Fund  25,000   25,000 
Corporate debt securities  10,224,296   10,198,171 
Restricted stock  1,561,900   1,561,900 
Mutual fund  25,000   25,000 
 $14,483,868  $14,513,740  $12,339,566  $12,315,088 
Due after one year through five years                
U.S. Treasury securities and obligations of U.S.
Government sponsored corporations (“GSE”) and
agencies
 $1,542,897  $1,537,275  $1,540,385  $1,535,895 
Residential collateralized mortgage obligations –
non-GSE
  -   -   -   - 
Residential mortgage backed securities – GSE
  6,945,975   6,882,941   7,450,510   7,358,278 
Obligations of State and Political subdivisions  110,000   110,251   681,967   714,360 
Corporate Debt Securities  23,581,409   23,946,637 
Corporate debt securities  21,050,621   21,351,292 
 $30,723,483  $30,959,825 
 $32,180,281  $32,477,104         
Due after five years through ten years
                
U.S. Treasury securities and obligations of US
Government sponsored corporations (“GSE”) and
agencies
 $9,887,522  $9,368,000  $9,890,642  $9,450,800 
Residential collateralized mortgage obligations – GSE
  109,945   117,244   102,768   109,333 
Residential mortgage backed Securities – GSE
  7,557,870   7,653,670   6,661,024   6,742,207 
Obligations of State and Political Subdivisions  4,861,389   4,921,297   4,796,387   4,866,134 
Corporate Debt Securities  1,020,008   1,032,500 
Corporate debt securities  1,019,227   1,032,500 
 $23,436,734  $23,092,711  $22,470,048  $22,200,974 
Due after ten years                
Residential collateralized mortgage obligations – GSE
 $3,906,991  $3,968,587  $3,581,657  $3,614,332 
Residential collateralized mortgage obligations – non-GSE  2,446,764   2,486,836   2,300,936   2,333,561 
Residential mortgage backed securities – GSE
  14,764,981   15,437,645   14,024,476   14,579,634 
Obligations of State and Political subdivisions  16,811,887   15,712,169   16,280,003   15,772,352 
Corporate Debt Securities  1,084,953   1,040,920 
Trust Preferred Debt Securities  2,470,301   2,148,600 
Corporate debt securities  -   - 
Trust preferred debt securities  2,471,060   2,183,700 
 $41,485,877  $40,794,757  $38,658,132  $38,483,579 
                
Total $111,586,760  $110,878,312  $104,191,229  $103,959,466 
        
Held to maturity-
        
Due in one year or less        
U.S. Treasury securities and obligations of US
Government sponsored corporations (“GSE”) and
agencies
 $501,773  $503,345 
Obligations of State and Political subdivisions  18,863,582   18,878,243 
Corporate Debt Securities  500,409   501,485 
  19,865,764   19,883,073 
        
Due after one year through five years        
U.S. Treasury securities and obligations of US
Government sponsored corporations (“GSE”) and
agencies
 $-  $- 
 
 
14
 
Held to maturity-
        
Due in one year or less        
U. S. Treasury securities and obligations of U.S.
Government sponsored corporations (“GSE”)
and agencies
 $-  $- 
Obligations of State and Political subdivisions  11,961,666   12,397,039   18,205,158   18,211,282 
Corporate Debt Securities  -   - 
Corporate debt securities  -   - 
  18,205,158   18,211,282 
        
Due after one year through five years        
U.S. Treasury securities and obligations of US
Government sponsored corporations (“GSE”) and
agencies
 $-  $- 
Obligations of State and Political subdivisions  13,503,851   14,035,745 
Corporate debt securities  -   - 
 $11,961,666  $12,397,039  $13,503,851  $14,035,745 
                
Due after five years through ten years                
Residential collateralized mortgage obligations – GSE
 $-  $-  $-  $- 
Residential collateralized mortgage obligations – non-GSE
  841,639   844,647   802,511   805,099 
Residential mortgage backed securities – GSE
  20,221,542   20,553,756   19,279,679   19,492,168 
Obligations of State and Political subdivisions  20,832,099   21,759,133   18,544,514   19,475,290 
 $41,895,280  $43,157,536  $38,626,704  $39,772,557 
Due after ten years                
Residential collateralized mortgage obligations – GSE
 $13,242,024  $13,742,645  $12,299,996  $12,729,330 
Residential collateralized mortgage obligations – non-GSE
  8,837,695   9,181,327   8,297,202   8,586,350 
Residential mortgage backed securities – GSE
  41,117,815   42,055,874   39,246,826   39,997,121 
Obligations of State and Political subdivisions  18,242,729   18,485,041   17,847,239   18,523,090 
Trust Preferred Debt Securities – Pooled
  656,661   532,310 
Trust preferred debt securities – pooled
  656,661   611,290 
 $82,096,924  $83,997,197  $78,347,924  $80,447,181 
                
Total $155,819,634  $159,434,845  $148,683,637  $152,466,765 



Gross unrealized losses on available for sale and held to maturity securities and the estimated fair value of the related securities aggregated by security category and length of time that individual securities have been in a continuous unrealized loss position at JuneSeptember 30, 2014 and December 31, 2013 were as follows:

June 30, 2014   Less than 12 months  12 months or longer  Total 
  
Number
of
Securities
 Fair Value  
Unrealized
Losses
  Fair Value  
Unrealized
Losses
  Fair Value  
Unrealized
Losses
 
U.S. Treasury securities and obligations
      of U.S. Government sponsored
          corporations and agencies
 2 $-  $-  $10,905,275  $(525,144)  $10,905,275  $(525,144)
                           
Residential collateralized mortgage obligations – GSE
 1  1,126,559   (35,909)  -   -   1,126,559   (35,909)
                           
Residential collateralized mortgage
       obligations – non-GSE
 2  988,947   (382)  105,842   (5,829)   1,094,789   (6,211)
                           
Residential mortgage backed
       securities – GSE
 16  -   -   17,570,016   (395,147)  17,570,016   (395,147)
                           
Obligations of State and Political
      Subdivisions
 79  1,097,189   (6,295)  25,841,204   (1,661,976)   26,938,393   (1,668,271)
                           
Trust preferred debt securities –
        single issuer
 4  -   -   2,148,600   (321,701)  2,148,600   (321,701)
                           
Corporate Debt Securities 1  -   -   1,040,920   (44,033)   1,040,920   (44,033)
                           
  Total temporarily impaired securities 105 $3,212,695  $(42,586) $57,611,857  $(2,953,830) $60,824,552  $(2,996,416)

 
15
 
December 31, 2013   Less than 12 months  12 months or longer  Total 
  
Number
of
Securities
 Fair Value  
Unrealized
Losses
  Fair Value  
Unrealized
Losses
  Fair Value  
Unrealized
Losses
 
 U.S. Treasury securities and
     obligations of U.S. Government
     sponsored corporations (GSE) and
     agencies
 3  $11,507,350    $(910,274 )  $ -   $ -   $11,507,350   $ (910,274)
                           
Residential collateralized mortgage
     Obligations – non-GSE
 8  5,328,485   (28,231)  1,094,754   (7,969)  6,423,239   (36,200)
                           
Residential mortgage backed securities
     GSE
 38  40,504,327   (825,307)  -   -   40,504,327   (825,307)
                           
Obligations of State and Political
     Subdivisions
 95  19,403,457   (2,285,759)  8,936,441-   (1,721,472)  28,339,898   (4,007,231)
                           
Trust preferred debt securities –
        single issuer
 4  -   -   2,013,100   (455,739)  2,013,100   (455,739)
                           
Trust preferred debt securities –
        Pooled
 1  -   -   148,855   (507,807)  148,855   (507,807)
                           
Corporate debt securities 1  -   -   1,056,110   (29,336)  1,056,110   (29,336)
                           
 Total temporarily impaired securities 150 $76,743,619  $(4,049,571) $13,249,260  $(2,722,323) $89,992,879  $(6,771,894)
September 30, 2014  Less than 12 months  12 months or longer  Total 
 
Number
of
Securities
 Fair Value  
Unrealized
Losses
  Fair Value  
Unrealized
Losses
  Fair Value  
Unrealized
Losses
 
U.S. Treasury securities and obligations
      of U.S. Government sponsored
          corporations and agencies
2 $1,535,895  $(4,490)  $9,450,800  $(439,842)  $10,986,695  $(444,332)
                          
Residential collateralized mortgage obligations – GSE
1  1,074,027   (43,280)  -   -   1,074,027   (43,280)
                          
Residential collateralized mortgage
       obligations – non-GSE
2  989,807   (892)  93,295   (5,121)   1,083,102   (6,013)
                          
Residential mortgage backed
       securities – GSE
18  1,711,545   (1,679)   17,021,564   (399,536)  18,733,109   (401,215)
                          
Obligations of State and Political
      Subdivisions
63  394,002   (1,596)  21,564,852   (753,144)   21,958,854   (754,740)
                          
Trust preferred debt securities –
        single issuer
4  -   -   2,183,700   (287,360)  2,183,700   (287,360)
                          
Corporate Debt Securities2  1,420,594   (1,233)   1,028,880   (33,514)   2,449,474   (34,747)
                          
  Total temporarily impaired securities92 $7,125,870  $(53,170) $51,343,091  $(1,918,517) $58,468,961  $(1,971,687)
 





December 31, 2013  Less than 12 months  12 months or longer  Total 
 
Number
of
Securities
 Fair Value  
Unrealized
Losses
  Fair Value  
Unrealized
Losses
  Fair Value  
Unrealized
Losses
 
 U.S. Treasury securities and
     obligations of U.S. Government
     sponsored corporations (GSE) and
     agencies
3  $11,507,350    $(910,274 )  $ -   $ -   $11,507,350   $ (910,274)
                          
Residential collateralized mortgage
     Obligations – non-GSE
8  5,328,485   (28,231)  1,094,754   (7,969)  6,423,239   (36,200)
                          
Residential mortgage backed securities
     GSE
38  40,504,327   (825,307)  -   -   40,504,327   (825,307)
                          
Obligations of State and Political
     Subdivisions
95  19,403,457   (2,285,759)  8,936,441   (1,721,472)  28,339,898   (4,007,231)
                          
Trust preferred debt securities –
        single issuer
4  -   -   2,013,100   (455,739)  2,013,100   (455,739)
                          
Trust preferred debt securities –
        Pooled
1  -   -   148,855   (507,807)  148,855   (507,807)
                          
Corporate debt securities1  -   -   1,056,110   (29,336)  1,056,110   (29,336)
                          
 Total temporarily impaired securities150 $76,743,619  $(4,049,571) $13,249,260  $(2,722,323) $89,992,879  $(6,771,894)
16
U.S. Treasury securities and obligations of U.S. Government sponsored corporations and agencies:  The unrealized losses on investments in these securities were caused by increases in market interest rates.  The contractual terms of these investments do not permit the issuer to settle the securities at a price less than the par value of the investment. The Company does not intend to sell these investments and it is not more likely than not that the Company will be required to sell these investments before a market price recovery or maturity; therefore, these investments are not considered other-than temporarilyother-than-temporarily impaired.
 
Residential collateralized mortgage obligations and residential mortgaged-backedmortgage-backed securities: The unrealized losses on investments in residential collateralized residential mortgage obligations and mortgage-backed securities were caused by increases in market interest rates. The contractual cash flows of these securities are guaranteed by the issuer, which are primarily government or government sponsored agencies. It is expected that the securities would not be settled at a price less than the amortized cost of the investment. TheThese investments are not considered to be other than temporarily impaired because the decline in fair value is attributable to changes in interest rates and not credit quality, the Company does not intend to sell these investments and it is not likely that the Company will be required to sell these investments before a market price recovery or maturity; therefore, these investments are not considered other-than-temporarily impaired.
Obligations of State and Political Subdivisions:quality. The unrealized losses or investments in these securities were caused by increases in market interest rates.  It is expected that the securities would not be settled at a price less than the amortized cost of the investment.  The decline in fair value is attributable to changes in interest rates and not credit quality, the Company does not intend to sell these investments and it is  not more likely than not that the Company will be required to sell these investments before a market price recovery or maturity; therefore, these investments are not considered other-than-temporarily impaired.maturity.

Corporate debt securities:   Obligations of State and Political Subdivisions:The unrealized losses onor investments in corporate debtthese securities were caused by increases toin market interest rates.  None of the corporate issuers have defaulted on interest payments. TheIt is expected that the securities would not be settled at a price less than the amortized cost of the investment.  These investments are not considered to be other than temporarily impaired because the decline in fair value is attributable to changes in interest rates and not a decline in credit quality, thequality. The Company does not intend to sell these investments and it is not more likely than not that the Company will be required to sell these investments before a market price recovery or maturity; therefore, thesematurity..

Corporate debt securities:   The unrealized losses on investments in corporate debt securities were caused by increases in market interest rates.  None of the corporate issuers have defaulted on interest payments. These investments are not considered other-than-temporarily impaired.to be other than temporarily impaired because  the decline in fair value is attributable to changes in interest rates and not a decline in credit quality. The Company does not intend to sell these investments and it is not more likely than not that the Company will be required to sell these investments before a market price recovery or maturity.
16

Trust preferred debt securities – single issuer:  The investments in these securities with unrealized losses are comprised of four corporate trust preferred securities issued by two large financial institutions that mature in 2027. The contractual terms of the trust preferred securities do not allow the issuer to settle the securities at a price less than the face value of the trust preferred securities, which is greater than the amortized cost of the trust preferred securities.  BothNeither of the issuers continue to maintain investment grade credit ratings and neither has defaulted on interest payments.  The decline in fair value is attributable to the widening of interest rate spreads and the lack of an active trading market for these securities and, to a lesser degree, market concerns about the issuers’ credit quality. TheThese investments are not considered to be other than temporarily impaired because the Company does not intend to sell these investments and it is not likely that the Company will be required to sell these investments before a market price recovery or maturity; therefore, these investments are not considered other-than-temporarily impaired.maturity.

Trust preferred debt securities – pooled:   This trust preferred debt security was issued by a two issuer pool (Preferred Term Securities XXV, Ltd. co-issued by Keefe, Bruyette and Woods, Inc. and First Tennessee (“PRETSL XXV”)) consisting primarily of securities issued by financial institution holding companies.  During 2009, the Company recognized an other-than-temporary impairment of $864,727, of which $363,783 was determined to be a credit loss and charged to operations, and $500,944 was recognized in the other comprehensive income (loss) component of shareholders’ equity.

The primary factor used to determine the credit portion of the impairment loss to be recognized in the income statement for this security was the discounted present value of projected cash flow where that present value of cash flow was less than the amortized cost basis of the security.  The present value of cash flow was developed using an EITF 99-20 model that considered performing collateral ratios, the level of subordination to senior tranches of the security, credit ratings of and projected credit defaults in the underlying collateral.

17
On a quarterly basis, management evaluates this security to determine if any additional other-than-temporary impairment is required.  As of JuneSeptember 30, 2014, our evaluation was as follows:
 
 a.We obtained the PRETSL XXV Depository Institutions Issuer List as of June 30,September30, 2014 from the FTN Financial Corp. (“FTN”) website and reviewed the financial ratios and capital levels of each individual financial institution issuer.
 
 b.We sorted the financial institutions on the issuer list to develop three “buckets” (or categories) for further deferred/default analysis based upon the indicated “Texas Ratio.”  The Texas Ratio is calculated by dividing the institution’s Non-Performing Assets plus loans 90 days past due by the combined total of Tangible Equity plus the Allowance for Loan Losses.  The three buckets consisted of those institutions with a Texas Ratio of:
 
 (1)Above 100;
 
 (2)75 to 100; and
 
 (3)Below 75.
 
 c.We then applied the following asset specific deferral/default assumptions to each of these buckets:
 
 (1)Above 100 - 100% default; 0% recovery;
 
 (2)75 to 100 – 100% deferred; 15% recovery at 2 years from initial date of deferral; and
 
 (3)Below 75 – no deferral/default.
 
 d.We then performed a cash flow projection to analyze the impact of future deferral/default activity by applying the following assumption on those institutions in bucket (3) of our analysis:
 
17
 ·Defaults at 75 basis points applied annually; 15% recovery with a 2-year lag from the initial date of deferral.
 
Our rationale for these metrics is as follows:  (1) The FDIC lists the number of bank failures each year from 1934 – 2008.  Comparing bank failures to the number of FDIC institutions produces an annual average default rate of 36 basis points. Given the continuing uncertain economic environment, we believe the doubling of this amount, or 75 basis points, to be an appropriate measurement for defaults; and (2) Standard & Poor’s published “Global Methodology for Rating Trust Preferred/Hybrid Securities Revised” on November 21, 2008.  This analysis uses a recovery assumption of 15%, which we also deem an appropriate measurement.
 
Our position is that it is appropriate to apply this future default factor in our analysis as it is not realistic to assume no adverse conditions will occur over the remaining 23-year stated maturity of this pooled security even though the individual institutions are currently performing according to terms.
 
 e.
This JuneSeptember 30, 2014 projection of future cash flows produced a present value that exceeded the carrying value of the pooled trust preferred security; therefore, management concluded that no other-than-temporary impairment issues were present at JuneSeptember 30, 2014.
18
 
A number of factors could cause management to conclude in one or more future reporting periods that an unrealized loss that exists with respect to PRETSL XXV constitutes an additional credit impairment.  These factors include, but are not limited to, failure to make interest payments, an increase in the severity of the unrealized loss, an increase in the continuous duration of the unrealized loss without an impairment in value or changes in market conditions and/or industry or issuer specific factors that would render management unable to forecast a full recovery in value.  In addition, the fair value of trust preferred securities could decline if the overall economy and the financial condition of the issuers continue to deteriorate and there remains limited liquidity for this security.
 
The following table sets forth information with respect to this security at JuneSeptember 30, 2014:
 
    
Expected
Deferrals and
 Excess
Subordination        (2)
SecurityClass
Book
Value
Fair
Value
Unrealized
Gain (Loss)
Percent of
 Underlying
 Collateral
Performing
Percent of
Underlying
Collateral In
Deferral (1)
Percent of
Underlying
Collateral In
Default  (1)
Expected
Deferrals and
Defaults as a
% of Remaining
Performing
Collateral
Moody's
S&P /
Ratings
Excess
Subordination        (2)
Class
Book
Value
Fair
Value
Unrealized
Gain (Loss)
Percent of
 Underlying
 Collateral
Performing
Percent of
Underlying
Collateral In
Deferral (1)
Percent of
Underlying
Collateral In
Default  (1)
Defaults as a
% of Remaining
Performing
Collateral
Moody's
S&P /
Ratings
Amount %  of
 Current
Performing
Collateral
Amount
%  of
 Current
Performing
Collateral
              
PreTSL
XXV		B-1$155,717$532,310$376,59370.7%6.7%22.6%13.7%Ca/ NR$146,00027.0%B-1$155,718$611,290$455,57269.0%5.8%25.2%13.7%B1/ NR$136,00026.0%
 
 
Notes to table above:
 
(1)This percentage represents the amount of specific deferrals / defaults that have occurred, plus those that are known for the following quarters to the total amount of original collateral. Fewer deferrals / defaults produce a lower percentage.
 
(2)“Excess subordination” amount is the additional defaults / deferrals necessary in the next reporting period to deplete the entire credit enhancement (excess interest and over-collateralization) beneath our tranche within each pool to the point that would cause a “break in yield”. This amount assumes that all currently performing collateral continues to perform.  A break in yield means that our security would not be expected to receive all the contractual cash flows (principal and interest) by maturity.  The “percent of underlying collateral performing” is the ratio of the “excess subordination amount” to current performing collateral - a higher percentage means there is more excess subordination to absorb additional defaults / deferrals, and the better our security is protected from loss.
 
18
The Company regularly reviews the composition of the investment securities portfolio, taking into account market risks, the current and expected interest rate environment, liquidity needs, and its overall interest rate risk profile and strategic goals.
 
The following table presents a cumulative roll forward of the amount of other-than-temporary impairment related to credit losses, all of which relate to PRETSL XXV, which have been recognized in earnings for debt securities held to maturity and not intended to be sold.



(in thousands) 
Three months ended
June 30, 2014
 
Three months ended
June 30, 2013
  
Three months ended
September 30,
 
Nine months ended
September 30,
 
          
 2014  2013 2014 2013 
Balance at beginning of period $364  $364  $364  $364  $364  $364 
Change during the period  -   -   -   -   -   - 
Balance at end of period $364  $364  $364  $364  $364  $364 


(in thousands) 
 Six months ended
June 30, 2014
  
 Six months ended
June 30, 2013
 
Balance at beginning of period $364  $364 
Change during the period  -   - 
Balance at end of period $364  $364 
 
19
 
 
(5)   Allowance for Loan Losses and Credit Quality Disclosure

The Company’s primary lending emphasis is the origination of commercial and commercial real estate loans and mortgage warehouse lines of credit.  Based on the composition of the loan portfolio, the inherent primary risks are deteriorating credit quality, a decline in the economy, and a decline in New Jersey real estate market values.  Any one, or a combination, of these events may adversely affect the loan portfolio and may result in increased delinquencies, loan losses and increased future provision levels.

            
19
The following table provides an aging of the loan portfolio by loan class at JuneSeptember 30, 2014:
 
 30-59 Days  60-89 Days  
Greater
than 90
Days
  
Total Past
Due
  Current  
Total
Loans
Receivable
  
Recorded Investment 
> 90 Days
Accruing
  
Nonaccrual
Loans
  30-59 Days  60-89 Days  
Greater
than 90
Days
  
Total Past
Due
  Current  
Total
Loans
Receivable
  
Recorded
Investment 
> 90 Days
Accruing
  
Nonaccrual
Loans
 
                                                
Commercial                                                
Construction $-  $-  $-  $-  $78,921,897  $78,921,897  $-  $-  $-  $-  $-  $-  $88,547,583  $88,547,583  $-  $- 
Commercial Business  365,090   -   422,820   787,910   106,294,283   107,082,193   53,518   369,302   959,386   14,051   390,396   1,363,833   107,689,596   109,053,429   -   356,577 
Commercial Real Estate  1,315,303   211,979   6,604,013   8,131,295   183,823,741   191,955,036   440,425   6,163,588   2,290,804   -   6,119,386   8,410,190   183,957,654   192,367,844   -   5,787,533 
Mortgage Warehouse Lines  -   -   -   -   181,911,743   181,911,743   -   -   -   -   -   -   157,333,717   157,333,717   -   - 
                                                                
Residential Real Estate  219,759   127,677   1,498,854   1,846,290   48,240,242   50,086,532   183,668   1,442,863   -   -   1,714,972   1,714,972   47,017,079   48,732,051   320,315   1,394,657 
                                                                
Consumer                                                                
Loans to Individuals  77,432   -   233,957   311,389   24,303,646   24,615,035   233,957   -   279,909   -   -   279,909   23,083,133   23,363,042   -   - 
Other  -   -   -   -   205,573   205,573   -   -   -   -   -   -   197,704   197,704   -   - 
                                                                
Deferred Loan Costs  -   -   -   -   681,713   681,713   -   -   -   -   -   -   800,548   800,548   -   - 
                                                                
Total $1,977,584  $339,656  $8,759,644  $11,076,884  $624,382,838  $635,459,722  $911,568  $7,975,753  $3,530,099  $14,051  $8,224,754  $11,768,904  $608,627,014  $620,395,918   320,315  $7,538,767 
 
As provided by ASC 310-30, the excess of cash flows expected at acquisition over the initial investment in the loan is recognized as interest income over the life of the loan. Accordingly, loans acquired with evidence of deteriorated credit quality of $911,568$1,246,640 at JuneSeptember 30, 2014 were not classified as non-performing loans. Of this amount, loans aggregating $699,287 were included in the Greater than 90 Days category.
20

The following table provides an aging of the loan portfolio by loan class at December 31, 2013:
 
  30-59 Days  60-89 Days  
Greater
than 90
Days
  
Total Past
Due
  Current  
Total
Loans
Receivable
  
Recorded
Investment 
> 90 Days
Accruing
  
Nonaccrual
Loans
 
                         
Commercial                        
   Construction $-  $-  $ _  $-  $51,002,172  $51,002,172  $-  $- 
   Commercial Business  385,133   58,665   453,325   897,123   81,450,932   82,348,055   -   511,990 
   Commercial Real Estate  -   -   5,217,173   5,217,173   93,172,557   98,389,730   -   5,555,851 
   Mortgage Warehouse Lines  -   -   -   -   116,951,357   116,951,357   -   - 
                                 
   Residential Real Estate  315,615   967,099   33,494   1,316,208   12,447,970   13,764,178   -   162,012 
                                 
Consumer                                
   Loans to Individuals  -   -   -   -   9,766,114   9,766,114   -   92,103 
   Other  -   -   -   -   170,526   170,526   -   - 
                                 
Deferred Loan Costs  -   -   -   -   943,950   943,950   -   - 
                                 
Total $700,748  $1,025,764  $5,703,992  $7,430,504  $365,905,578  $373,336,082   -  $6,321,956 
20
  30-59 Days  60-89 Days  
Greater
than 90
Days
  
Total Past
Due
  Current  
Total
Loans
Receivable
  
Recorded
Investment
> 90 Days
Accruing
  
Nonaccrual
Loans
 
                         
Commercial                        
   Construction $-  $-  $ _  $-  $51,002,172  $51,002,172  $-  $- 
   Commercial Business  385,133   58,665   453,325   897,123   81,450,932   82,348,055   -   511,990 
   Commercial Real Estate  -   -   5,217,173   5,217,173   93,172,557   98,389,730   -   5,555,851 
   Mortgage Warehouse Lines  -   -   -   -   116,951,357   116,951,357   -   - 
                                 
   Residential Real Estate  315,615   967,099   33,494   1,316,208   12,447,970   13,764,178   -   162,012 
                                 
Consumer                                
   Loans to Individuals  -   -   -   -   9,766,114   9,766,114   -   92,103 
   Other  -   -   -   -   170,526   170,526   -   - 
                                 
Deferred Loan Costs  -   -   -   -   943,950   943,950   -   - 
                                 
Total $700,748  $1,025,764  $5,703,992  $7,430,504  $365,905,578  $373,336,082   -  $6,321,956 
 
Management reviews the adequacy of the allowance on at least a quarterly basis to ensure that the provision for loan losses has been charged against earnings in an amount necessary to maintain the allowance at a level that is adequate based on management’s assessment of probable estimated losses. The Company’s methodology for assessing the adequacy of the allowance for loan losses consists of several key elements and is consistent with generally accepted accounting principles (GAAP) and regulatory interagency supervisory guidance.  The allowance for loan losses methodology consists of two major components.  The first component is an estimation of losses associated with individually identified impaired loans, which follows Accounting Standards Codification (ASC) Topic 310 (formerly SFAS 114).  The second major component is an estimation of losses under ASC Topic 450 (formerly SFAS 5), which provides guidance for estimating losses on groups of loans with similar risk characteristics.  The Company’s methodology results in an allowance for loan losses which includes a specific reserve for impaired loans, an allocated reserve, and an unallocated portion.
 
When analyzing groups of loans under ASC 450, the Bank follows the Interagency Policy Statement on the Allowance for Loan and Lease Losses.  The methodology considers the Company’s historical loss experience adjusted for changes in trends, conditions, and other relevant factors that affect repayment of the loans as of the evaluation date.  These adjustment factors, known as qualitative factors, include:

 ·Delinquencies and nonaccruals
 ·Portfolio quality
 ·Concentration of credit
 ·Trends in volume of loans
 ·Quality of collateral
 ·Policy and procedures
 ·Experience, ability, and depth of management
 ·Economic trends – national and local
 ·External factors – competition, legal and regulatory

21
The methodology includes the segregation of the loan portfolio into loan types with a further segregation into internal risk rating categories, such as special mention, substandard, doubtful, and loss. This allows for an allocation of the allowance for loan losses by loan type; however, the allowance is available to absorb any loan loss without restriction. Larger balance, non-homogeneous loans representing significant individual credit exposures are evaluated individually through the internal loan review process. It is this process that produces the watch list. The borrower’s overall financial condition, repayment sources, guarantors and value of collateral, if appropriate, are evaluated. Based on these reviews, an estimate of probable losses for the individual larger-balance loans are determined, whenever possible, and used to establish specific loan loss reserves. In general, for non-homogeneous loans not individually assessed and for homogeneous groups, such as residential mortgages and consumer credits, the loans are collectively evaluated based on delinquency status, loan type, and historical losses. These loan groups are then internally risk rated.

The watch list includes loans that are assigned a rating of special mention, substandard, doubtful and loss. Loans rated as special mention have potential weaknesses that deserve management’s close attention. If uncorrected, the potential weaknesses may result in deterioration of the repayment prospects. Loans classified substandard have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They include loans that are inadequately protected by the current sound net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans classified doubtful have all the weaknesses inherent in loans classified substandard with the added characteristic that collection or liquidation in full, on the basis of current conditions and facts, is highly improbable. Loans rated as doubtful in whole, or in part, are placed in nonaccrual status. Loans classified as a loss are considered uncollectible and are charged off against the allowance for loan losses.

The specific allowance for impaired loans is established for specific loans that have been identified by management as being impaired. These loans are considered to be impaired primarily because the loans have not performed according to payment terms and there is reason to believe that repayment of the loan principal in whole or in part, is unlikely. The specific portion of the allowance is the total amount of potential unconfirmed losses for these individual impaired loans. To assist in determining the fair value of loan collateral, the Company often utilizes independent third party qualified appraisal firms which in turn employ their own criteria and assumptions that may include occupancy rates, rental rates, and property expenses, among others.
21

The second category of reserves consists of the allocated portion of the allowance. The allocated portion of the allowance is determined by taking pools of loans outstanding that have similar characteristics and applying historical loss experience for each pool. This estimate represents the potential unconfirmed losses within the portfolio. Individual loan pools are created for commercial and commercial real estate loans, construction loans, warehouse lines of credit and various types of loans to individuals. The historical estimation for each loan pool is then adjusted to account for current conditions, current loan portfolio performance, loan policy or management changes, or any other qualitative factor which may cause future losses to deviate from historical levels.

The Company also maintains an unallocated allowance. The unallocated allowance is used to cover any factors or conditions which may cause a potential loan loss but are not specifically identifiable. It is prudent to maintain an unallocated portion of the allowance because no matter how detailed an analysis of potential loan losses is performed, these estimates by definition lack precision. Management must make estimates using assumptions and information that is often subjective and changing rapidly.

The following discusses the risk characteristics of each of our loan portfolio segments, commercial, mortgage warehouse lines of credit, and consumer.

Commercial

The Company’s primary lending emphasis is the origination of commercial and commercial real estate loans. Based on the composition of the loan portfolio, the inherent primary risks are deteriorating credit quality, a decline in the economy, and a decline in New Jersey real estate market values. Any one or a combination of these events may adversely affect the loan portfolio and may result in increased delinquencies, loan losses and increased future provision levels.

22
Mortgage Warehouse Lines of Credit

The Company’s Mortgage Warehouse Group provides revolving lines of credit that are available to licensed mortgage banking companies (the “Warehouse Line of Credit”). The Warehouse Line of Credit is used by the mortgage banker to fund the origination of one-to-four family residential mortgage loans that are pre-sold to the secondary mortgage market, which includes state and national banks, national mortgage banking firms, insurance companies and government-sponsored enterprises, including the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation and others. On average, an advance under the Warehouse Line of Credit remains outstanding for a period of less than 30 days, with repayment coming directly from the sale of the loan into the secondary mortgage market. Interest and a transaction fee are collected by the Bank at the time of repayment. Additionally, customers of the Warehouse Lines of Credit are required to maintain deposit relationships with the Bank that, on average, represent 10% to 15% of the loan balances.

As a separate segment of the total portfolio, the warehouse loan portfolio is analyzed as a whole for allowance for loan losses purposes.  Warehouse lines of credit are subject to the same inherent risks as other commercial lending, but the overall degree of risk differs. While the Company’s loss experience with this type of lending has been non-existent since the product was introduced in 2008; there are other risks unique to this lending that still must be considered in assessing the adequacy of the allowance for loan losses. These unique risks may include, but are not limited to, (i) credit risks relating to the mortgage bankers that borrow from us, (ii) the risk of intentional misrepresentation or fraud by any of such mortgage bankers, (iii) changes in the market value of mortgage loans originated by the mortgage banker, the sale of which is the expected source of repayment of the borrowings under a warehouse line of credit, due to changes in interest rates during the time in warehouse, or (iv) unsalable or impaired mortgage loans so originated, which could lead to decreased collateral value and the failure of a purchaser of the mortgage loan to purchase the loan from the mortgage banker.

 These factors, along with the other qualitative factors such as economic trends, concentrations of credit, trends in the volume of loans, portfolio quality, delinquencies and nonaccruals, are also considered and may have positive or negative effects on the allocated allowance.  The aggregate amount resulting from the application of these qualitative factors determines the overall risk for the portfolio and results in an allocated allowance for warehouse lines of credit.
22

Consumer

The Company’s loan portfolio consumer segment is comprised of residential real estate loans, home equity loans and other loans to individuals. Individual loan pools are created for the various types of loans to individuals.

In general, for homogeneous groups such as residential mortgages and consumer credits, the loans are collectively evaluated based on delinquency status, loan type, and historical losses. These loan groups are then internally risk rated.

The Company considers the following credit quality indicators in assessing the risk in the loan portfolio:

 ·Consumer credit scores
 ·Internal credit risk grades
 ·Loan-to-value ratios
 ·Collateral
 ·Collection experience
 
The Company’s internal credit risk grades are based on the definitions currently utilized by the banking regulatory agencies.  The grades assigned and definitions are as follows, and loans graded excellent, above average, good and watch list are treated as “pass” for grading purposes:

1.  Excellent - Loans that are based upon cash collateral held at the Bank and adequately margined. Loans that are based upon "blue chip" stocks listed on the major exchanges and adequately margined.

23
2.  Above Average - Loans to companies whose balance sheets show excellent liquidity and long-term debt is on well-spread schedules of repayment easily covered by cash flow.  Such companies have been consistently profitable and have diversification in their product lines or sources of revenue.  The continuation of profitable operations for the foreseeable future is likely.  Management is comprised of a mix of ages, experience, and backgrounds and management succession is in place.  Sources of raw materials are abundant, and for service companies, the source of revenue is abundant.  Future needs have been planned for.  Character and management ability of individuals or company principals are excellent.  Loans to individuals are supported by high net worths and liquid assets.

3.  Good - Loans to companies whose balance sheets show good liquidity and cash flow adequate to meet maturities of long-term debt with a comfortable margin.  Such companies have established profitable records over a number of years, and there has been growth in net worth.  Operating ratios are in line with those of the industry, and expenses are in proper relationship to the volume of business done and the profits achieved.  Management is well-balanced and competent in their responsibilities.  Economic environment is favorable; however, competition is strong.  The prospects for growth are good.  Loans in this category do not meet the collateral requirements of loans in categories 1 and 2 above. Loans to individuals are supported by good net worths but whose supporting assets are illiquid.

3w. Watch - Included in this category are loans evidencing problems identified by Bank management that require closer supervision.  Such problem has not developed to the point which requires a Special Mention rating.  This category also covers situations where the Bank does not have adequate current information upon which credit quality can be determined.  The account officer has the obligation to correct these deficiencies within 30 days from the time of notification.

4.  Special Mention - Loans or borrowing relationships that require more than the usual amount of attention by Bank management.  Industry conditions may be adverse or weak.  The borrower's ability to meet current payment schedules may be questionable, even though interest and principal are being paid as agreed. Heavy reliance has been placed on the collateral.  Profits, if any, are interspersed with losses.  Management is “one man” or incompetentman,” ineffective or there is no plan for management succession.  Expectations of a loan loss are not immediate; however, if present trends continue, a loan loss could be expected.
23

5.  Substandard - Loans in this category possess weaknesses that jeopardize the ultimate collection of total outstandings.  These weaknesses require close supervision by Bank management.  Current financial statements are unavailable and the loan is inadequately protected by the collateral pledged.

6.  Doubtful - Loans with the same weaknesses inherent in the substandard classification and where collection or liquidation in full is highly questionable.  It is likely that the loan will not be collected in full and the Bank will suffer some loss which is not quantifiable at the time of review.

7.  Loss - Loans considered uncollectable and of such little value that their continuance as an active asset is not warranted.  Loans in this category should be charged off to the Bank's loan loss reserve.  Any accrued interest should be backed out of income.

 
24

 
The following table provides a breakdown of the loan portfolio by credit quality indictorindicator at JuneSeptember 30, 2014.
 
Commercial Credit Exposure -
By Internally Assigned Grade
 Construction  
Commercial
Business
  
Commercial
Real Estate
  
Mortgage
Warehouse
Lines
  
Residential
Real Estate
  Construction  
Commercial
Business
  
Commercial
Real Estate
  
Mortgage
Warehouse
Lines
  
Residential
Real Estate
 
                              
Grade:                              
Pass $78,921,897  $103,155,373  $165,905,820  $181,911,743  $48,453,325  $88,353,183  $100,658,477  $167,521,583  $157,333,717  $47,017,079 
Special Mention  -   2,545,759   15,475,088   -   1,317,592   194,400   7,645,736   14,177,468   -   127,977 
Substandard  -   942,648   10,574,128   -   315,615   -   715,397   10,668,793   -   1,586,995 
Doubtful  -   438,413   -   -   -   -   33,819   -   -   - 
Total $78,921,897  $107,082,193  $191,955,036  $181,911,743  $50,086,532  $88,547,583  $109,053,429  $192,367,844  $157,333,717  $48,732,051 
                                        
                    
 
Loans To
Individuals
  Other             
Consumer Credit Exposure -
By Payment Activity
 
Loans To
Individuals
  Other                                 
                                        
Performing $24,615,035  $205,573              $23,363,042  $197,704             
Nonperforming  -   -               -   -             
Total $24,615,035  $205,573              $23,363,042  $197,704             


The following table provides a breakdown of the loan portfolio by credit quality indictor at December 31, 2013.


Commercial Credit Exposure -
By Internally Assigned Grade
 Construction  
Commercial
Business
  
Commercial
Real Estate
  
Mortgage
Warehouse
Lines
  
Residential
Real Estate
  Construction  
Commercial
Business
  
Commercial
Real Estate
  
Mortgage
Warehouse
Lines
  
Residential
Real Estate
 
                              
Grade:                              
Pass $47,539,033  $79,832,704  $68,620,450  $116,951,357  $12,635,067  $47,539,033  $79,832,704  $68,620,450  $116,951,357  $12,635,067 
Special Mention  -   1,406,143   19,396,574   -   1,129,111   -   1,406,143   19,396,574   -   1,129,111 
Substandard  3,463,139   792,057   10,372,706   -   -   3,463,139   792,057   10,372,706   -   - 
Doubtful  -   258,486   -   -   -   -   258,486             
Loss  -   58,665   -   -       -   58,665   -   -   - 
Total $51,002,172  $82,348,055  $98,389,730  $116,951,357  $13,764,178  $51,002,172  $82,348,055  $98,389,730  $116,951,357  $13,764,178 
                    
                    
Consumer Credit Exposure -
By Payment Activity
 
Loans To
Individuals
  Other              
Loans To
Individuals
  Other             
                                        
Performing $9,674,011  $170,526              $9,674,011  $170,526             
Nonperforming  92,103   -               92,103   -             
Total $9,766,114  $170,526              $9,766,114  $170,526             

 

Impaired Loans Disclosures

Loans are considered to be impaired when, based on current information and events, it is determined that the Company will not be able to collect all amounts due according to the loan contract, including scheduled interest payments.  When a loan is placed on nonaccrual status, it is also considered to be impaired.  Loans are placed on nonaccrual status when: (1) the full collection of interest or principal becomes uncertain; or (2) they are contractually past due 90 days or more as to interest or principal payments unless the loans are both well secured and in the process of collection.

 
25
 
The following tables summarize the distribution of the allowance for loan losses and loans receivable by loan class and impairment method at JuneSeptember 30, 2014 and December 31, 2013:


Period-End Allowance for Loan Losses by Impairment Method June 30, 2014                   
Period-End Allowance for Loan Losses by Impairment Method September 30, 2014Period-End Allowance for Loan Losses by Impairment Method September 30, 2014                   
       Commercial  Mortgage  Residential           Loan  Total        Commercial  Mortgage  Residential           Loan  Total 
 Construction  Commercial  Real Estate  Warehouse  Real Estate  Consumer  Other  Unallocated  Costs     Construction  Commercial  Real Estate  Warehouse  Real Estate  Consumer  Other  Unallocated  Costs    
Allowance for loan losses:                                                            
Ending Balance $950,014  $1,546,766  $3,607,083  $909,559  $172,853  $90,732  $1,665  $139,707  $-  $7,418,379  $1,099,053  $1,641,189  $2,974,785  $786,669  $202,146  $91,417  $1,583  $311,030  $-  $7,107,872 
                                                                                
Ending Balance                                                                                
Individually evaluated
for impairment
  -   19,141   1,487,047   -   15,015   -   -   -   -   1,521,203   -   1,874   1,274,380   -   -   -   -   -   -   1,276,254 
Collectively evaluated
for impairment
 $950,014  $1,527,625  $2,120,036  $909,559  $157,838  $90,732  $1,665  $139,707  $-  $5,897,176  $1,099,053  $1,639,315  $1,700,405  $786,669  $202,146  $91,417  $1,583  $311,030  $-  $5,831,618 
                                                                                
Loans receivables:                                                                                
Ending Balance $78,921,897  $107,082,193  $191,955,036  $181,911,743  $50,086,532  $24,615,035  $205,573  $-  $681,713  $635,459,722  $88,547,583  $109,053,429  $192,367,844  $157,333,717  $48,732,051  $23,363,042  $197,704  $-  $800,548  $620,395,918 
Individually evaluated
for impairment
  373,663   464,725   10,041,584   -   1,442,866   -   -   -   -   12,322,838   449,663   492,940   9,129,396   -   1,394,657   -   -   -   -   11,466,656 
Loans acquired with
deteriorated credit
quality
  -   384,932   1,678,720   -   183,668   233,958   -   -   -   2,481,278   -   332,175   1,713,910   -   -   -   -   -   -   2,046,085 
Collectively evaluated
for impairment
 $78,548,234  $106,232,536  $180,234,732  $181,911,743  $48,459,998  $24,381,077  $205,573  $-  $681,713  $620,655,606  $88,097,920  $108,228,314  $181,524,538  $157,333,717  $47,337,394  $23,363,042  $197,704  $-  $800,548  $606,883,177 


Period-End Allowance for Loan Losses by Impairment Method December 31, 2013                   
        Commercial  Mortgage  Residential           Loan  Total 
  Construction  Commercial  Real Estate  Warehouse  Real Estate  Consumer  Other  Unallocated  Costs    
Allowance for loan losses:                              
Ending Balance $1,205,267  $1,271,733  $3,021,766  $584,757  $164,673  $108,849  $2,183  $679,343  $-  $7,038,571 
                                         
Ending Balance                                        
  Individually evaluated
     for impairment
  -   293,692   1,490,169   -   -   -   -   -   -   1,783,861 
  Collectively evaluated
      for impairment
 $1,205,267  $978,041  $1,531,597  $584,757  $164,673  $108,849  $2,183  $679,343  $-  $5,254,710 
                                         
Loans receivables:                                        
Ending Balance $51,002,172  $82,348,055  $98,389,730  $116,951,357  $13,764,178  $9,766,114  $170,526  $-  $943,950  $373,336,082 
  Individually evaluated
        for impairment
  19,930   776,101   9,130,605   -   162,012   92,103   -   -   -   10,180,751 
  Collectively evaluated
       for impairment
 $50,982,242  $81,571,954  $89,259,125  $116,951,357  $13,602,166  $9,674,011  $170,526  $-  $943,950  $363,155,331 

The activity in the allowance for loan loss by loan class for the sixnine months ended JuneSeptember 30, 2014 and 2013 was as follows:
 
 Construction  
Commercial
Business
  
Commercial
Real Estate
  
Mortgage
Warehouse
  
Residential
Real Estate
  Consumer  Other  Unallocated  Total  Construction  
Commercial
Business
  
Commercial
Real Estate
  
Mortgage
Warehouse
  
Residential
Real Estate
  Consumer  Other  Unallocated  Total 
Balance - December 31, 2013 $1,205,267  $1,271,733  $3,021,766  $584,757  $164,673  $108,849  $2,183  $679,343  $7,038,571  $1,205,267  $1,271,733  $3,021,766  $584,757  $164,673  $108,849  $2,183  $679,343  $7,038,571 
Provision charged to operations  60,163   454,031   113,961   (63,082)  17,332   (16,462)  (560)  (65,385)  499,998   60,163   454,031   113,961   (63,082)  17,332   (16,462)  (560)  (65,385)  499,998 
Loans charged off  -   (510,952)  -   -   -   -   -   -   (510,952)  -   (510,952)  -   -   -   -   -   -   (510,952)
Recoveries of loans charged off  -   3,225   -   -   -   -   -   -   3,225   -   3,225   -   -   -   -   -   -   3,225 
Balance – March 31, 2014 $1,265,430  $1,218,037  $3,135,727  $521,675  $182,005  $92,387  $1,623  $613,958  $7,030,842  $1,265,430  $1,218,037  $3,135,727  $521,675  $182,005  $92,387  $1,623  $613,958  $7,030,842 
                                    
                                    
Provision charged to operations  (315,416)  4,041,190   471,356   387,884   (9,152)  (1,655)  42   (474,251)  4,099,998   (315,416)  4,041,190   471,356   387,884   (9,152)  (1,655)  42   (474,251)  4,099,998 
Loans charged off  -   (3,713,789)  -   -   -   -   -   -   (3,713,789)  -   (3,713,789)  -   -   -   -   -   -   (3,713,789)
Recoveries of loans charged off  -   1,328   -   -   -   -   -   -   1,328   -   1,328   -   -   -   -   -   -   1,328 
Balance – June 30, 2014 $950,014  $1,546,766  $3,607,083  $909,559  $172,853  $90,732  $1,665  $139,707  $7,418,379  $950,014  $1,546,766  $3,607,083  $909,559  $172,853  $90,732  $1,665  $139,707  $7,418,379 
Provision charged to operations  149,039   185,109   222,506   (122,890)  44,308   685   (82)  171,323   649,998 
Loans charged off  -   (99,402)  (893,804)  -   (15,015)  -   -   -   (1,008,221)
Recoveries of loans charged off  -   8,716   39,000   -   -   -   -   -   47,716 
Balance September 30, 2014 $1,099,053  $1,641,189  $2,974,785  $786,669  $202,146  $91,417  $1,583  $311,030  $7,107,872 

 
26
 
 Construction  
Commercial
Business
  
Commercial
Real Estate
  
Mortgage
Warehouse
  
Residential
Real Estate
  Consumer  Other  Unallocated  Total  Construction  
Commercial
Business
  
Commercial
Real Estate
  
Mortgage
Warehouse
  
Residential
Real Estate
  Consumer  Other  Unallocated  Total 
Balance - December 31, 2012 $1,990,292  $972,789  $2,262,221  $1,420,638  $112,103  $102,583  $2,271  $288,315  $7,151,212  $1,990,292  $972,789  $2,262,221  $1,420,638  $112,103  $102,583  $2,271  $288,315  $7,151,212 
Provision charged to operations  (218,010)  (18,319)  245,769   (429,900)  262   50,606   (212)  369,804   -   (218,010)  (18,319)  245,769   (429,900)  262   50,506   (212)  369,804   - 
Loans charged off  (561,993)  (139,289)  (384,688)  -   -   (50,855)  -   -   (1,136,825)  (561,993)  (139,289)  (384,688)  -   -   (50,855)  -   -   (1,136,825)
Recoveries of loans charged off  -   2,000   6,895   -   -   -   -   -   8,895   -   2,000   6,895   -   -   -   -   -   8,895 
Balance – March 31, 2013 $1,210,289  $817,181  $2,130,197  $990,738  $112,365  $102,234  $2,059  $658,119  $6,023,282  $1,210,289  $817,181  $2,130,197  $990,738  $112,365  $102,334  $2,059  $658,119  $6,023,282 
                                    
                                    
Provision charged to operations  1,872   160,163   321,659   (62,039)  (19,632)  (2,444)  45   (162,958)  236,666   1,872   160,164   321,659   (62,039)  (19,632)  (2,444)  45   (162,958)  236,667 
Loans charged off  -   -   -   -   -   -   -   -   -   -   -   -   -   -   -   -   -   - 
Recoveries of loans charged off  417   8,575   -   -   -   -   -   -   8   417   8,574   -   -   -   -   -   -   8,991 
Balance – June 30, 2013 $1,212,578  $985,919  $2,451,856  $928,699  $92,733  $99,890  $2,104  $495,161  $6,268,940  $1,212,578  $985,919  $2,451,856  $928,699  $92,733  $99,890  $2,104  $495,161  $6,268,940 
Provision charged to operations  (4,555)  34,446   612,392   (256,028)  49,093   10,178   (53)  94,525   539,998 
Loans charged off  -   (2,068)  -   -   -   -   -   -   (2,068)
Recoveries of loans charged off  -   13,310   -   -   -   -   -   -   13,310 
Balance – September 30, 2013 $1,208,023  $1,031,607  $3,064,248  $672,671  $141,826  $110,068  $2,051  $589,686  $6,820,180 



When a loan is identified as impaired, the measurement of impairment is based on the present value of expected future cash flows, discounted at the loan’s effective interest rate, except when the sole remaining source of repayment for the loan is the liquidation of the collateral.  In such cases, the current fair value of the collateral less selling costs is used.  If the value of the impaired loan is less than the recorded investment in the loan, the impairment is recognized through an allowance estimate or a charge to the allowance.

Impaired Loans Receivables (By Class)
June 30, 2014
Impaired Loans Receivables (By Class)
September 30, 2014
  
Three months ended
 September 30, 2014
  
Nine months ended
September 30, 2014
 
                
  
Recorded
Investment
  
Unpaid
Principal
Balance
  
Related
Allowance
  
Average
Recorded
Investment
  
Interest
Income
Recognized
  
Average
Recorded
Investment
  
Interest
Income
Recognized
 
                      
With no related allowance:                     
                      
Commercial                     
   Construction $449,663  $449,663  $-  $449,663  $6,134  $302,656  $10,955 
   Commercial Business  793,992   1,380,582   -   786,051   6,971   579,721   20,055 
   Commercial Real Estate  2,913,499   3,215,830   -   2,431,613   35,288   1,511,916   105,522 
   Mortgage Warehouse Lines  -   -   -   -   -   -   - 
Subtotal  4,157,154   5,046,075   -   3,667,327   48,393   2,394,293   136,532 
Residential Real Estate  1,394,657   1,409,672   -   1,468,125   6,673   1,298,082   20,942 
Consumer                            
   Loans to individuals  -   -   -   77,329   8,164   135,612   15,433 
   Other  -   -   -   -   -   -   - 
Subtotal  -   -   -   77,329   8,164   135,612   15,433 
With no related allowance $5,551,811  $6,455,747  $-  $5,212,691  $63,230  $3,827,987  $172,907 
                             
With an allowance:                            
Commercial                            
   Construction $-  $-  $-  $-  $-  $-  $- 
   Commercial Business  31,123   31,123   1,874   94,772   -   245,858   - 
   Commercial Real Estate  7,929,807   8,638,477   1,274,380   8,700,575   54,695   8,975,029   160,475 
   Mortgage Warehouse Lines  -   -   -   -   -   -   - 
Subtotal  7,960,930   8,669,600   1,276,254   8,795,347   54,695   9,220,887   160,475 
Residential Real Estate  -   -   -   -   -   -   - 
Consumer                            
   Loans to Individuals  -   -   -   -   -   -   - 
   Other  -   -   -   -   -   -   - 
Subtotal  -   -   -   -   -   -   - 
With an allowance $7,960,930  $8,669,600  $1,276,254  $8,795,347  $54,695  $9,220,887  $160,475 
                             
Total:                            
  Construction $449,663  $449,663   -  $449,663  $6,134  $302,656  $10,955 
  Commercial Business  825,115   1,411,705   1,874   880,823   6,971   825,579   20,055 
  Commercial Real Estate  10,843,306   11,854,307   1,274,380   11,132,188   89,983   10,468,945   265,997 
  Mortgage Warehouse Lines  -   -   -   -   -   -   - 
  Residential Real Estate  1,394,657   1,409,672   -   1,468,125   6,673   1,298,082   20,942 
  Consumer  -   -   -   77,239   8,164   135,612   15,433 
Total $13,512,741  $15,125,347  $1,276,254  $14,008,038  $117,925  $13,048,874  $333,382 
           Three months ended  Six months ended 
           June 30, 2014  June 30, 2014 
  
Recorded
Investment
  
Unpaid
Principal
Balance
  
Related
Allowance
  
Average
Recorded
Investment
  
Interest
Income
Recognized
  
Average
Recorded
Investment
  
Interest
Income Recognized
 
                      
                      
With no related allowance:                     
                      
Commercial                     
Construction $373,663  $373,663  $0  $338,563  $3,752  $229,152  $4,821 
Commercial Business  723,060   1,300,245   0   719,845   8,967   819,018   12,232 
Commercial Real Estate  2,625,135   2,812,050   0   2,104,136   10,738   1,052,068   17,480 
Mortgage Warehouse Lines  0   0   0   0   0   0   0 
Subtotal  3,721,858   4,485,958   0   3,162,544   23,457  $2,100,238  $34,533 
                             
Residential Real Estate  1,310,919   1,317,592   0   1,310,990   5,043   1,002,650   6,767 
                             
Consumer                            
Loans to Individuals  233,958   243,438   0   238,397   0   261,941   1,155 
Other  0   0   0   0   0   0   0 
Subtotal  233,958   243,438   0   238,397   0   261,941   1,155 
                             
Subtotal with no related allowance  5,266,735   6,046,988   0   4,711,931   28,500  $3,364,829   42,455 
                             
With an allowance:                            
                             
Commercial                            
Construction  0   0   0   0   0   0   0 
Commercial Business  126,597   283,054   19,141   171,520   0   321,402   0 
Commercial Real Estate  9,095,169   9,095,169   1,487,047   9,101,300   64,949   9,112,256   113,822 
Mortgage Warehouse Lines  0   0   0   0   0   0   0 
Subtotal  9,221,766   9,378,223   1,506,188   9,272,820   64,949   9,433,658   113,822 
                             
Residential Real Estate  315,615   315,615   15,015   315,615   0   210,410   0 
                             
Consumer                            
Loans to Individuals  0   0   0   0   0   0   0 
Other  0   0   0   0   0   0   0 
Subtotal  0   0   0   0   0   0   0 
                             
Subtotal with an allowance  9,537,381   9,693,838   1,521,203   9,588,435   64,949   9,644,068   113,822 
                             
                             
Total:                            
Construction
  373,663   373,663   0   338,563   3,752   229,152   4,821 
Commercial Business  849,657   1,583,299   19,141   891,365   8,967   1,140,420   12,232 
Connercial Real Estate  11,720,304   11,907,219   1,487,047   11,205,436   75,687   10,164,324   131,302 
Mortgage Warehouse Lines  0   0   0   0   0   0   0 
Residential Real Estate  1,626,534   1,633,207   15,015   1,626,605   5,043   1,213,060   6,767 
Consumer  233,958   243,438   0   238,397   0   261,941   1,155 
Total $14,804,116  $15,740,826  $1,521,203  $14,300,366  $93,449  $13,008,897  $156,277 

 
27
 
        Year ended 
Impaired Loans Receivables (By Class)Impaired Loans Receivables (By Class)        Year ended 
December 31 , 2013          12/31/2013           12/31/2013 
 
 
Recorded
Investment
  
 
Unpaid
Principal Balance
  
 
Related
Allowance
  
Average Recorded
Investment
  
Interest Income
Recognized
  
 
Recorded
Investment
  
 
Unpaid
Principal Balance
  
 
Related
Allowance
  
Average Recorded
Investment
  
Interest Income
Recognized
 
                              
With no related allowance:                              
                              
Commercial                              
Construction $19,930  $19,930  $-  $965,268  $33,946  $19,930  $19,930  $-  $965,268  $33,946 
Commercial Business  243,840   400,297       258,139   5,094   243,840   400,297       258,139   5,094 
Commercial Real Estate  -   -   -   1,032,115   -   -   -   -   1,032,115   - 
Mortgage Warehouse Lines  -   -   -   -   -   -   -   -   -   - 
Subtotal  263,770   420,227   -   2,255,522   39,040   263,770   420,227   -   2,255,522   39,040 
Residential Real Estate  162,012   162,012   -   117,746   -   162,012   162,012   -   117,746   - 
Consumer                                        
Loans to Individuals  92,103   92,103   -   34,292   -   92,103   92,103   -   34,292   - 
Other  -   -   -   -   -   -   -   -   -   - 
Subtotal  92,103   92,103   -   34,292   -   92,103   92,103   -   34,292   - 
With no related allowance $517,885  $674,342  $-  $2,407,560  $39,040  $517,885  $674,342  $-  $2,407,560  $39,040 
                                        
With an allowance:                                        
Commercial                                        
Construction $-  $-  $-  $246,853  $-  $-  $-  $-  $246,853  $- 
Commercial Business  532,261   532,261   293,692   562,346   9,728   532,261   532,261   293,692   562,346   9,728 
Commercial Real Estate  9,130,605   9,130,605   1,490,169   5,546,690   247,277   9,130,605   9,130,605   1,490,169   5,546,690   247,277 
Mortgage Warehouse Lines  -   -   -   -   -   -   -   -   -   - 
Subtotal  9,662,866   9,662,866   1,783,861   6,355,889   257,005   9,662,866   9,662,866   1,783,861   6,355,889   257,005 
Residential Real Estate  -   -   -   44,196   -   -   -   -   44,196   - 
Consumer                                        
Loans to Individuals  -   -   -   4,238   -   -   -   -   4,238   - 
Other  -   -   -   -   -   -   -   -   -   - 
Subtotal  -   -   -   4,238   -   -   -   -   4,238   - 
With an allowance $9,662,866  $9,662,866  $1,783,861  $6,404,323  $257,005  $9,662,866  $9,662,866  $1,783,861  $6,404,323  $257,005 
                                        
Total:                                        
Construction  19,930   19,930   -   1,212,121   33,946   19,930   19,930   -   1,212,121   33,946 
Commercial Business  776,101   932,558   293,692   820,485   14,822   776,101   932,558   293,692   820,485   14,822 
Commercial Real Estate  9,130,605   9,130,605   1,490,169   6,578,805   247,277   9,130,605   9,130,605   1,490,169   6,578,805   247,277 
Mortgage Warehouse  -   -   -   -   -   -   -   -   -   - 
Residential Real Estate  162,012   162,012   -   161,942   -   162,012   162,012   -   161,942   - 
Consumer  92,103   92,103   -   38,530   -   92,103   92,103   -   38,530   - 
Total $10,180,751  $10,337,208  $1,783,861  $8,811,883  $296,045  $10,180,751  $10,337,208  $1,783,861  $8,811,883  $296,045 

 
28
 
Impaired Loans Receivables (By Class)        Three months ended 
June 30 , 2013          June 30, 2013 
Impaired Loans Receivables (By Class) – September 30, 2013Impaired Loans Receivables (By Class) – September 30, 2013 
          Three months ended  Nine months ended 
          September 30, 2013  September 30, 2013 
 
Recorded
Investment
  
 
Unpaid
Principal
Balance
  
Related
Allowance
  
Average
Recorded
Investment
  
Interest
Income
Recognized
  
Recorded
Investment
  
 
Unpaid
Principal
Balance
  
Related
Allowance
  
Average
Recorded
Investment
  
Interest
Income
Recognized
  
Average
Recorded
Investment
  
Interest
Income
Recognized
 
With no related allowance:                                    
                     
Commercial                                    
Construction $540,975  $540,975  $-  $725,974  $11,078  $1,015,112  $1,015,112  $-  $1,184,249  $4,660  $636,741  $37,420 
Commercial Business  177,980   232,022   -   168,683   1,450   225,899   382,356   -   157,334   1,516   532,119   - 
Commercial Real Estate  -   -   -   123,945   -   -   -   -   4,004,515   -   1,480,516   - 
Mortgage Warehouse Lines  -   -   -   -   -   -   -   -   -   -   -   - 
Subtotal  718,955   772,997   -   1,018,602   12,528   1,241,011   1,397,468   -   5,346,098   6,176   2,649,376   - 
Residential Real Estate  164,542   164,542   -   121,246   -   164,542   164,542   -   164,542   -   102,706   - 
                                                
Consumer                                                
Loans to Individuals  -   -   -   22,540   -   -   -   -   -   -   -   - 
Other  -   -   -   -   -   -   -   -   -   -   22,540   - 
Subtotal      -   -   22,540   -       -   -   -   -   22,540   - 
With no related allowance: $883,497  $937,539  $-  $1,162,388  $12,528  $1,405,553  $1,562,010  $-  $5,510,640  $6,176   2,774,622   37,420 
                                                
With an allowance:                                                
                            
Commercial                                                
Construction $-  $-  $-  $-  $-  $-  $-  $-  $-  $-  $329,138  $- 
Commercial Business  614,396   759,223   173,155   617,054   834   475,136   475,136   235,027   566,473   3,915   578,713   28,570 
Commercial Real Estate  4,477,287   4,477,287   793,926   4,372,626   64,468   9,646,821   9,646,821   1,476,632   6,184,255   61,306   4,326,187   182,967 
Mortgage Warehouse Lines  -   -   -   -   -   -   -   -   -   -   -   - 
Subtotal  5,091,683   5,236,510   967,081   4,989,680   65,302   10,121,957   10,121,957   1,711,659   6,750,728   65,221   5,234,038   211,537 
Residential Real Estate  -   -   -   44,069   -   -   -   -   -   -   58,928   - 
                                                
Consumer                                                
Loans to Individuals  -   -   -   -   -   -   -   -   -   -   5,650     
Other  -   -   -   -   -   -   -   -   -   -   -     
Subtotal  -   -   -   -   -   -   -   -   -   -   5,650   - 
With an allowance:  5,091,683   5,236,510   967,081   5,033,749   65,302   10,121,957   10,121,957   1,711,659   6,750,728   65,221   5,298,616   - 
                                                
Total:                                                
Commercial  5,810,638   6,009,507   967,081   6,008,282   77,830   11,362,968   11,519,425   1,711,659   12,096,826   71,397   7,883,414   248,957 
Residential Real Estate  164,542   164,542   -   165,315   -   164,542   164,542   -   164,542   -   161,634   - 
Consumer  -   -   -   22,540   -   -   -   -   -   -   28,190   - 
Total $5,975,180  $6,174,049  $967,081  $6,196,137  $77,830  $11,527,510  $11,683,967  $1,711,659  $12,261,368  $71,397  $8,073,238  $248,957 


In the normal course of business, the Bank may consider modifying loan terms for various reasons. These reasons may include as a retention strategy to compete in the current interest rate environment or as a re-amortization or extension of a loan term to better match the loan’s repayment stream with the borrower’s cash flow. A modified loan would be considered a troubled debt restructuring (“TDR”) if the Bank grants a concession to a borrower and has determined that the borrower is troubled (i.e., experiencing financial difficulties).
 
 
29
 
If the Bank restructures a loan to a troubled borrower, the loan terms (i.e. interest rate, payment, amortization period and maturity date) may be modified in various ways to enable the borrower to cover the modified debt service payments based on current financial statements and cash flow adequacy. If a borrower’s hardship is thought to be temporary, then modified terms may only be offered for that time period. Where possible, the Bank would attempt to obtain additional collateral and/or secondary repayment sources at the time of the restructure in order to put the Bank in the best possible position if the borrower is not able to meet the modified terms. The Bank will not offer modified terms if it believes that modifying the loan terms will only delay an inevitable permanent default. In evaluating whether a restructuring constitutes a troubled debt restructuring, applicable guidance requires that a creditor must separately conclude that the restructuring constitutes a concession and the borrower is experiencing financial difficulties.

ThereAt September 30, 2014 the Bank had 9 loans totaling $4,288,699 which were no loans modified thatclassified as troubled debt restructurings.
The following table is a summary of troubled debt restructurings, all of which were TDRs in the six month period ended June 30, 2014. Loans modifiedclassified as impaired and occurred during the three month and six monthmonths ended JuneSeptember 30, 3013 were as follows:2014.

              
 
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
 
Troubled Debt Restructurings:              
Commercial  -   -   -   2  $31,123  $31,123 
Commercial Real Estate  2   3,224,980   3,154,157   -   -   - 
Residential Real Estate  -   -   -   -   -   - 

There were no loans modified that were TDR’s during the three and sixnine month periods ended JuneSeptember 30, 2014 and JuneSeptember 30, 2013 that were in default.

Number of
Contracts
Recorded
Investment
Troubled Debt Restructurings
    That Subsequently Defaulted:
             Commercial--
             Commercial Real Estate--
             Residential Real Estate--


Changes in the accretable discount for acquired credit impaired loans for the sixnine months ended JuneSeptember 30, 2014 were as follows:

Balance at beginning of period $-  $- 
Acquisition of impaired loans  293,976   240,917 
Accretion of discount  (47,333)  (84,409)
Balance at end of period $246,643  $156,508 

30

The following table presents additional information regarding loans acquired and accounted for in accordance with ASC 310-30:

 February 7, 2014  June 30, 2014  February 7, 2014  September 30, 2014 
 
Acquired loans with
Evidence of Credit
Deterioration
  
Acquired loans with
Evidence of Credit
Deterioration
  
Acquired loans with
Evidence of Credit
Deterioration
  
Acquired loans with
Evidence of Credit
Deterioration
 
            
Outstanding balance $3,409,340  $3,229,459  $3,409,340  $2,746,260 
Carrying amount $2,613,826  $2,481,278  $2,613,826  $2,046,085 


There were no changes in the expected cash flows of these loans during the sixnine month period ended JuneSeptember 30, 2014. No allowance for loan losses has been recorded for acquired loans with or without evidence of deterioration as of the acquisition date or as of JuneSeptember 30, 2014.


30

(6)  Share-Based Compensation
 
The Company’s share-based incentive plans (“Stock Plans”) authorize the issuance of an aggregate of 440,701 shares of the Company’s common stock (as adjusted for stock dividends) pursuant to awards that may be granted in the form of stock options to purchase common stock (“Options”) and awards of shares of common stock (“Stock Awards”).  The purpose of the Stock Plans is to attract and retain personnel for positions of substantial responsibility and to provide additional incentive to certain officers, directors, employees and other persons to promote the success of the Company.  Under the Stock Plans, options have a term of ten years after the date of grant, subject to earlier termination in certain circumstances.  Options are granted with an exercise price at the then fair market value of the Company’s common stock.  The grant date fair value of the option is calculated using the Black – Scholes option valuation model.  As of JuneSeptember 30, 2014, there were 346,166317,866 shares of common stock available for future grants under the Stock Plans, of which 300,040271,740 shares are available for future grants under the 2013 Equity Incentive Plan and 46,126 shares are available for future grant under the 2006 Directors Stock Plan.
 
Stock-basedShare-based compensation expense related to options was $70,366$77,123 and $50,568$75,949 for the sixnine months ended JuneSeptember 30, 2014 and 2013, respectively.


Transactions under the Stock Plans during the sixnine months ended JuneSeptember 30, 2014 are summarized as follows:

     Weighted        Weighted   
     Average        Average   
   Weighted Remaining Aggregate    Weighted Remaining Aggregate 
 Number of Average Contractual Intrinsic  Number of Average Contractual Intrinsic 
Stock Options Shares Exercise Price Term (years) Value  Shares Exercise Price Term (years) Value 
Outstanding at January 1, 2014  235,598  $8.81       235,598  $8.81     
Granted  11,700   11.02       11,700   11.02     
Exercised  -   -       -   -     
Forfeited -  -      -  -     
Expired  -  -       -  -     
Outstanding at June 30, 2014  247,298  $8.91   5.4  $485,125 
Outstanding at September 30, 2014  247,298  $8.91   5.1  $502,395 
                    
Exercisable at June 30, 2014  199,881  $9.17   4.7  $294,904 
Exercisable at September 30, 2014  199,881  $9.17   4.5  $380,591 

The fair value of each option and the significant weighted average assumptions used to calculate the fair value of the options granted for the sixnine months ended JuneSeptember 30, 2014 are as follows:

 January 2014 April 2014 January 2014 April 2014
              
Fair value of options granted $4.75  $4.32  $4.75  $4.32 
Risk-free rate of return 
     1.65%
   
    1.70%
  1.65%  1.70%
Expected option life in years       7       7  7   7 
Expected volatility 
 38.01%
   
 38.01%
  38.01%  38.01%
Expected dividends (1)
 -   -  -   - 
 
(1)  To date, the Company has not paid cash dividends on its common stock.
31

 
As of JuneSeptember 30, 2014, there was approximately $69,098$62,341 of unrecognized compensation cost related to nonvested stock option- based compensation arrangements granted under the Company’s stock incentive plans. That cost is expected to be recognized over the next four years.

31
The following table summarizes nonvested restricted shares for the sixnine months ended JuneSeptember 30, 2014:
 
     Average 
  Number of  Grant-Date 
Non-vested shares Shares  Fair Value 
Non-vested at January 1, 2014  136,490   $6.59 
Granted  60,100   10.81 
Vested  (55,410)  8.77 
Forfeited  -   - 
Non-vested at September 30, 2014  141,180   $7.53 
     Average 
  Number of  Grant-Date 
Non-vested shares Shares  Fair Value 
Non-vested at January 1, 2014  136,490   $6.59 
Granted  35,600   11.21 
Vested  (29,065)  6.73 
Forfeited  -   - 
Non-vested at June 30, 2014  143,025   $7.71 

The value of restricted shares is based upon the closing price of the common stock on the date of grant. The shares generally vest over a four year service period with compensation expense recognized on a straight-line basis.

Stock based compensation expense related to stock grants was $253,322$366,550 and $217,390$326,085 for the sixnine months ended JuneSeptember 30, 2014 and 2013.

As of JuneSeptember 30, 2014, there was approximately $956,859$1,141,472 of unrecognized compensation cost related to non-vested stock grants that will be recognized over the next three years.

(7)  Benefit Plans
 
The Bank has a 401(k) plan which covers substantially all employees with six months or more of service. The 401(k) plan permits all eligible employees to make contributions to the plan up to the IRS salary deferral limit. The Bank’s contributions to the 401(k) plan are expensed as incurred.
 
The Company also provides retirement benefits to certain employees under supplemental executive retirement plans.  The plans are unfunded and the Company accrues actuarial determined benefit costs over the estimated service period of the employees in the plan.  The Company recognizes the over funded or under funded status of a defined benefit post-retirement plan as an asset or liability in its statement of financial positionConsolidated Balance Sheet and to recognize changes in that funded status in the year in which the changes occur, through comprehensive income.

In connection with the benefit plans, the Bank has life insurance policies on the lives of its executives, directors and divisional officers. The Bank is the owner and beneficiary of the policies. The cash surrender values of the policies total approximately $20.9$21.1 million and $16.2 million at JuneSeptember 30, 2014 and December 31, 2013, respectively.
 
32

The components of net periodic expense for the Company’s supplemental executive retirement plans for the three month and sixnine month periods ended JuneSeptember 30, 2014 and 2013 were as follows:

 
Three months ended
June 30,
 
Six months ended
June 30,
  
Three months ended
September 30,
 
Nine months ended
September 30,
 
 2014 2013 2014 2013  2014 2013 2014 2013 
Service cost $43,334  $30,539  $57,167  $214,257  $102,337  $30,539  $159,504  $214,257 
Interest cost  32,852   22,229   43,339   155,951   77,583   22,229   120,922   155,951 
Actuarial (gain) loss recognized  (1,574)   (29,893)  (2,077)   (209,721)  (3,718)   (29,893)  (5,795)   (209,721)
Prior service cost recognized  -   942   -   6,611   -   942   -   6,611 
 $74,612  $23,817  $98,429  $167,098  $176,202  $23,817  $274,631  $167,098 

32

 (8)  Other Comprehensive Income (Loss) and Accumulated Other Comprehensive Income (Loss)
 
Comprehensive income (loss) is the total of (1) net income (loss), and (2) all other changes in equity from non-shareholder sources, which are referred to as other comprehensive income (loss).  The components of accumulated other comprehensive income (loss), and the related tax effects, are as follows:

 
Before-Tax
Amount
  
Income Tax
Effect
  
Net-of-Tax
Amount
  
Before-Tax
Amount
  
Income Tax
Effect
  
Net-of-Tax
Amount
 
                  
June 30, 2014:         
September 30, 2014:         
Unrealized holding (losses) gains on available-for-sale securities:                  
Unrealized holding (losses) on available-for-sale securities $(708,448) $300,312  $(408,136) $(231,763) $44,966  $(186,797)
                        
Unrealized impairment loss on held to maturity security:                        
Unrealized impairment (loss) on held to maturity security  (500,944)  170,321   (330,623)  (500,944)  170,321   (330,623)
                        
Unfunded pension liability:                        
Plan actuarial gains and losses
included in other comprehensive income
  185,837   (75,162)  110,675 
Plan actuarial gains included in other comprehensive income  345,309   (138,949)  206,360 
                        
Accumulated other comprehensive income ( loss) $(1,023,555) $395,471  $(628,084) $(387,398) $76,338  $(311,060)


 
Before-Tax
Amount
  
Income Tax
Effect
  
Net-of-Tax
Amount
  
Before-Tax
Amount
  
Income Tax
Effect
  
Net-of-Tax
Amount
 
                  
December 31, 2013:                  
Unrealized holding (losses) gains on available-for-sale securities:                  
Unrealized holding (losses) on available-for-sale securities $(2,992,624) $1,060,098  $(1,932,526) $(2,992,624) $1,060,098  $(1,932,526)
                        
Unrealized impairment loss on held to maturity security:                        
Unrealized impairment (loss) on held to maturity security  (500,944)  170,321   (330,623)  (500,944)  170,321   (330,623)
                        
Unfunded pension liability:                        
Plan actuarial gains and losses
included in other comprehensive income
  27,236   (11,721)  (60,404)
Plan actuarial gains included in other comprehensive income  27,236   (11,721)  15,515 
                        
Accumulated other comprehensive income ( loss) $(3,466,332) $1,218,698  $(2,247,634) $(3,466,332) $1,218,698  $(2,247,634)
 
33
 
Changes in the components of accumulated other comprehensive income (loss) for the three and nine month periods ended September 30, 2014 and September 30, 2013 are as follows and are presented net of tax:

 
Unrealized
Holding
Gains
(Losses) on
Available for
Sale
Securities
  
Unrealized
Impairment
Loss on
Held to Maturity
Security
  
Unfunded
Pension
Liability
  
Accumulated
Other
Comprehensive
Income (Loss)
  
Unrealized
Holding
Gains
(Losses) on
Available for
Sale
Securities
  
Unrealized
Impairment
Loss on
Held to Maturity
Security
  
Unfunded
Pension
Liability
  
Accumulated
Other
Comprehensive
Income (Loss)
 
                        
Six Months Ended June 30, 2014:            
Three Months Ended September 30, 2014:            
Balance, beginning of period $(1,932,526) $(330,623) $15,515  $(2,247,634) $(408,136) $(330,623) $110,675  $(628,084)
Other comprehensive income (loss) before
reclassifications
  1,522,880   -   95,160   1,618,040   221,339   -   95,685   317,024 
Amounts reclassified from accumulated other
comprehensive income (loss) (1)
  1,510   -   -   1,510   -   -   -   - 
Other comprehensive income (loss)  1,524,390   -   95,160   1,619,550 
Other comprehensive income  221,339   -   95,685   317,024 
Balance, end of period $(408,136) $(330,623) $110,675  $(628,084) $(186,797) $(330,623) $206,360  $(311,060)

  
Unrealized
Holding
Gains
(Losses) on
Available for
Sale
Securities
  
Unrealized
Impairment
Loss on
Held to Maturity
Security
  
Unfunded
Pension
Liability
  
Accumulated
Other
Comprehensive
Income (Loss)
 
             
Three Months Ended September 30, 2013:            
Balance, beginning of period $(1,677,012) $(330,623) $(60,403) $(2,068,038)
 Other comprehensive income (loss) before
     reclassifications
  (35,468)  -   37,960   2,492 
Amounts reclassified from accumulated other
     comprehensive income (loss)
  -   -   -   - 
Other comprehensive income  (35,468)  -   37,960   2,492 
Balance, end of period $(1,712,480) $(330,623) $(22,443) $(2,065,546)


  
Unrealized
Holding
Gains
(Losses) on
Available for
Sale
Securities
  
Unrealized
Impairment
Loss on
Held to Maturity
Security
  
Unfunded
Pension
Liability
  
Accumulated
Other
Comprehensive
Income (Loss)
 
             
Nine Months Ended September 30, 2014:            
Balance, beginning of period $(1,932,526) $(330,623) $15,515  $(2,247,634)
 Other comprehensive income (loss) before
     reclassifications
  1,744,219   -   190,845   1,935,064 
Amounts reclassified from accumulated other
     comprehensive income (loss), net of tax (1)
  1,510   -   -   1,510 
Other comprehensive income  1,745,729   -   190,845   1,936,574 
Balance, end of period $(186,797) $(330,623) $206,360  $(311,060)

(1) Amounts reclassified are included in Other Income on the Consolidated Statement of Income.




  
Unrealized
Holding
Gains
(Losses) on
Available for
Sale
Securities
  
Unrealized
Impairment
Loss on
Held to Maturity Security
  
Unfunded
Pension
Liability
  
Accumulated
Other
Comprehensive
Income
 
             
Six Months Ended June 30, 2013:            
Balance, beginning of period $1,235,204  $(330,623) $(100,288) $804,293 
 Other comprehensive income (loss) before
     reclassifications
  (2,912,215)  -   39,884   (2,872,331)
Amounts reclassified from accumulated other
     comprehensive income (loss)
  -   -   -   - 
Other comprehensive income (loss)  (2,912,216)  -   39,884   (2,872,331)
Balance, end of period $(1,677,012) $(330,623) $(60,403) $(2,068,038)

 
34

 
Unrealized
Holding
Gains
(Losses) on
Available for
Sale
Securities
  
Unrealized
Impairment
Loss on
Held to Maturity
Security
  
Unfunded
Pension
Liability
  
Accumulated
Other
Comprehensive
Income (Loss)
  
Unrealized
Holding
Gains
(Losses) on
Available for
Sale
Securities
  
Unrealized
Impairment
Loss on
Held to Maturity
Security
  
Unfunded
Pension
Liability
  
Accumulated
Other
Comprehensive
Income
 
                        
Three Months Ended June 30, 2014:            
Nine Months Ended September 30, 2013:            
Balance, beginning of period $(1,088,261) $(330,623) $53,475  $(1,365,409) $1,235,204  $(330,623) $(100,288) $804,293 
Other comprehensive income (loss) before
reclassifications
  678,615   -   57,200   735,815   (2,947,683)  -   77,884   (2,869,839)
Amounts reclassified from accumulated other
comprehensive income (loss) (1)
  1,510   -   -   1,510   -   -   -   - 
Other comprehensive income (loss)  680,125   -   57,200   737,325 
Other comprehensive income  (2,947,683)  -   77,884   (2,869,839)
Balance, end of period $(408,136) $(330,623) $110,675  $(628,084) $(1,712,479) $(330,623) $(22,444) $(2,065,546)

(1) Amounts reclassified are included in Other Income on the Consolidated Statement of Income



  
Unrealized
Holding
Gains
(Losses) on
Available for
Sale
Securities
  
Unrealized
Impairment
Loss on
Held to Maturity
Security
  
Unfunded
Pension
Liability
  
Accumulated
Other
Comprehensive
Income (Loss)
 
             
Three Months Ended June 30, 2013:            
Balance, beginning of period $(802,169) $(330,623) $(98,363) $(373,183)
 Other comprehensive income (loss) before
     reclassifications
  (2,479,180)  -   37,959   (2,441,221)
Amounts reclassified from accumulated other
     comprehensive income (loss)
  -   -   -   - 
Other comprehensive income (loss)  (2,479,180)  -   37,959   (2,441,221)
Balance, end of period $(1,677,011) $(330,623) $(60,404) $(2,068,038)

 
35
 
(9) Recent Accounting Pronouncements
 
ASU 2014-04 (Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure)
 
In January 2014, the FASB issued ASU 2014-04, Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure. The amendments in this update clarify that an in substance repossession or foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, upon either (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreements. Additionally, the amendments require interim and annual disclosure of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. The amendments in this update are effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. An entity can elect to adopt the amendments in this update using either a modified retrospective transition method or a prospective transition method. The Company is currently evaluating the impact the adoption of the standard will have on the Company’s consolidated financial position or results of operations.
 
ASU 2014-9 Revenue from Contracts with Customers (Topic 606)
In May 2014, the FASB issued ASU No. 2014-9, “Revenue from Contracts with Customers (Topic 606)”. This update clarifies the principles for recognizing revenue from contracts with customers. This ASU, which does not apply to financial instruments, is effective for interim and annual reporting periods beginning after December 15, 2016. The Company is currently evaluating this ASU to determine the impact on its consolidated financial position, results of operations and cash flows.
ASU 2014-11 Repurchase-to-maturity Transactions, Repurchase Financings, and Disclosures to change the accounting for repurchase-to-maturity transactions and certain linked repurchase financings.
 
On June 12, 2014, the FASB issued ASU 2014-11, Repurchase-to-maturity Transactions, Repurchase Financings, and Disclosures to change the accounting for repurchase-to-maturity transactions and certain linked repurchase financings. This will result in accounting for both types of arrangements as secured borrowings on the balance sheet. Additionally, the ASU introduces new disclosures to (i) increase transparency about the types of collateral pledged in secured borrowing transactions and (ii) enable users to better understand transactions in which the transferor retains substantially all of the exposure to the economic return on the transferred financial asset throughout the term of the transaction.
 
For public business entities, the disclosure for repurchase agreements, securities lending transactions, and repurchase-to-maturity transactions accounted for as secured borrowings is required to be presented for annual periods beginning after December 15, 2014, and for interim periods beginning after March 15, 2015. All other accounting and disclosure amendments in the ASU are effective for public business entities for the first interim or annual period beginning after December 15, 2014. The Company is currently evaluating the impact that the adoption of the standard will have on the Company’s consolidated financial position or results of operations.
 
ASU 2014-12 Accounting for Share-Based-Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved After the Requisite Service Period (a consensus of the FAS Emerging Issues Task Force).
 
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On June 19, 2014, the FASB issued ASU 2014-12, Accounting for Share-Based-Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved After the Requisite Service Period (a consensus of the FAS Emerging Issues Task Force) to clarify that a performance target in a share-based compensation award that could be achieved after an employee completes the requisite service period should be treated as a performance condition that affects the vesting of the award. As such, the performance target should not be reflected in estimating the grant-date fair value of the award.
 
ASU 2014-12 requires that a performance target included in a share-based payment award that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. Therefore, such performance target should not be reflected in estimating the grant-date fair value of the award. A reporting entity should apply existing guidance in Topic 718 as it relates to the award with performance conditions that affect vesting.
36
 
Compensation cost should be recognized in the period in which it becomes probable that the performance target will be achieved and should represent the compensation cost attributable to the period(s) for which the requisite service has already been rendered. In current practice, two common performance targets-a change of control event and an IPO-are considered probable when they occur. Consequently, the award would be recognized in earnings at that time.
 
If the performance target becomes probable of being achieved before the end of the requisite service period, the remaining unrecognized compensation cost should be recognized prospectively over the remaining requisite service period. The total amount of compensation cost recognized during and after the requisite service period should reflect the number of awards that are expected to vest and should be adjusted to reflect those awards that ultimately vest. The requisite service period ends when the employee can cease rendering service and still be eligible to vest in the award if the performance target is achieved.
 
For all entities, the amendments are effective for annual periods and interim periods within those annual periods beginning after December 15, 2015. The Company is currently evaluating the impact that the adoption of the standard will have on the Company’s consolidated financial position or results of operations.
 

ASU 2014-14 Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310 – 40): Classification of Certain Government – Guaranteed Mortgage Loans upon Foreclosure (a consensus of the FASB Emerging Issues Task Force.
In August 2014, the FASB issued ASU 2014-14, Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310-40); Classification of Certain Government _ Guaranteed Mortgage Loans upon Foreclosure (a consensus of the FASB Emerging Issues Task Force). The amendments in this update address a practice issue related to the classification of certain foreclosed residential and nonresidential mortgage loans that are either fully or partially guaranteed under government programs. Specifically, creditors should reclassify loans that meet certain conditions to “other receivables” upon foreclosure rather than reclassifying them to other real estate owned (OREO). The separate other receivable recorded upon foreclosure is to be measured based on the amount of the loan balance (principal and interest) the creditor expects to recover from the guarantor.

The ASU is effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. The Company is currently evaluating the impact that the adoption of the standard will have on the Company’s consolidated financial position or results of operations.

 (10)  Fair Value Disclosures
 
U.S. GAAP has established a fair value hierarchy that prioritizes the inputs to valuation methods 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 value hierarchy are as follows:
37
 
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’s 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.
 
A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.  These valuation methodologies were applied to all of the Company’s financial assets and financial liabilities carried at fair value.
 
In general, fair value is based upon quoted market prices, where available.  If such quoted market prices are not available, fair value is based upon internally developed models that primarily use, as inputs, observable market-based parameters.  Valuation adjustments may be made to ensure that financial instruments are recorded at fair value.  These adjustments may include amounts to reflect counterparty credit quality and counterparty creditworthiness, among other things, as well as unobservable parameters.  Any such valuation adjustments are applied consistently over time.  The Company’s valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future values.  While management believes the Company’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.
 
Securities Available for Sale.  Securities classified as available for sale are reported at fair value utilizing quoted market prices on nationally recognized exchanges (Level 1) or by using Level 2 Inputs.  For Level 2 securities, the Company obtains fair value measurements from an independent pricing service.  The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayments speeds, credit information and the security’s terms and conditions, among other things.
 
37
Impaired loans.  Loans included in the following table are those which the Company has measured and recognized 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 collateral or discounted cash flows based on 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 consists of the loan balances less specific valuation allowances.

Other Real Estate Owned.  Foreclosed properties are adjusted to fair value less estimated selling costs at the time of foreclosure in preparation for transfer from portfolio loans to other real estate owned (“OREO”), establishing a new accounting basis.  The Company subsequently adjusts the fair value on the OREO utilizing Level 3 inputs on a non-recurring basis to reflect partial write-downs based on the observable market price, current appraised value of the asset or other estimates of fair value.
 
The following table summarizes financial assets and financial liabilities measured at fair value on a recurring basis segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value:

  
Level 1
Inputs
  
Level 2
Inputs
  
Level 3
Inputs
  
Total Fair
Value
 
June 30, 2014:            
 Securities available for sale:            
     U. S. Treasury securities and            
`         obligations of U.S. Government            
           sponsored corporations (“GSE”) and agencies $9,368,000  $1,537,275  $-  $10,905,275 
    Residential collateralized mortgage obligations – GSE      4,085,830       4,085,830 
    Residential collateralized mortgage obligations – Non-GSE      2,816,320       2,816,320 
    Residential mortgage backed securities – GSE      29,974,256       29,974,256 
    Obligations of State and Political subdivisions      21,009,382       21,009,382 
    Trust preferred debt securities – single issuer      2,148,600       2,148,600 
    Corporate debt securities      36,397,749       36,397,749 
    Restricted stock      3,515,900       3,515,900 
    Mutual fund      25,000       25,000 
38
  
Level 1
Inputs
  
Level 2
Inputs
  
Level 3
Inputs
  
Total Fair
Value
 
September 30, 2014:            
 Securities available for sale:            
     U. S. Treasury securities and            
`         obligations of U.S. Government            
           sponsored corporations (“GSE”) and agencies $9,470,990  $1,515,705  $-  $10,986,695 
    Residential collateralized mortgage obligations – GSE      3,723664       3,723,664 
    Residential collateralized mortgage obligations – Non-GSE      2,597,664       2,597,664 
    Residential mortgage backed securities – GSE      28,680,367       28,680,367 
    Obligations of State and Political subdivisions      21,618,512       21,618,512 
    Trust preferred debt securities – single issuer      2,183,700       2,183,700 
    Corporate debt securities      32,581,964       32,581,964 
    Restricted stock      1,561,900       1,561,900 
    Mutual fund      25,000       25,000 



  
Level 1
Inputs
  
Level 2
Inputs
  
Level 3
Inputs
  
Total Fair
Value
 
December 31, 2013:            
  Securities available for sale:            
       U. S. Treasury securities and            
          obligations of U.S. Government            
          sponsored corporations (“GSE”) and agencies $19,994,430  $1,515,270  $-  $21,509,700 
       Residential collateralized mortgage obligations – GSE  -   3,681,792   -   3,681,792 
       Residential collateralized mortgage obligations – non-GSE  -   2,826,396   -   2,826,396 
       Residential mortgage backed securities – GSE  -   31,965,947   -   31,965,947 
       Obligations of State and Political subdivisions  -   19,646,044   -   19,646,044 
       Trust preferred debt securities – single issuer  -   2,013,100   -   2,013,100 
       Corporate debt securities  -   16,517,728   -   16,517,728 
       Restricted stock  -   1,013,100   -   1,013,100 
       Mutual fund  -   25,000   -   25,000 

Certain financial assets and financial liabilities are measured at fair value on a nonrecurring basis; that is, the instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment).  Financial assets and financial liabilities measured at fair value on a non-recurring basis at JuneSeptember 30, 2014 and December 31, 2013 were as follows:

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Level 1
Inputs
 
Level 2
Inputs
 
Level 3
Inputs
 
Total Fair
Value
  
Level 1
Inputs
 
Level 2
Inputs
 
Level 3
Inputs
 
Total Fair
Value
 
June 30, 2014:         
September 30, 2014:         
Impaired loans  $-   $-  $8,016,178  $8,016,178   $-   $-  $7,265,700 $7,265,700 
         
Other real estate owned   -   -   1,748,455   1,748,455 
                  
December 31, 2013:                  
Impaired loans  $-   $-  $7,879,005  $7,879,005   $-  $-  $7,879,005  $7,879,005 
Other real estate owned  -   -   209,937   209,937   - -   209,937   209,937 

Impaired loans measured at fair value and included in the above table consisted of 910 loans having an aggregate recorded investment of $9,537,381$7,960,930 and specific loan loss allowances of $1,521,203$1,276,254 at JuneSeptember 30, 2014.  Charge-offs of approximately $928,000 of specific reserves for potential losses that were provided in prior periods were recorded during the third quarter ended September 30, 2014 and 17on loans atwith an aggregate recorded investment of approximately $6,093,000.  At December 31, 2013, there were 17 loans having an aggregate balance of $9,662,862 and specific loan loss allowances of $1,783,861.
 
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The following table presents additional qualitative information about assets measured at fair value on a nonrecurring basis and for which the Company has utilized Level 3 inputs to determine fair value:

Quantitative Information about Level 3 Fair Value MeasurementsQuantitative Information about Level 3 Fair Value Measurements Quantitative Information about Level 3 Fair Value Measurements 
 
Fair Value
Estimate
 
Valuation
Techniques
Unobservable
Input
 
Range
(Weighted Average)
  
Fair Value
Estimate
 
Valuation
Techniques
Unobservable
Input
 
Range
(Weighted Average)
 
June 30, 2014      
September 30, 2014      
Impaired loans $8,016,178 Appraisal ofAppraisal  10-40% (19.1%)  $7,265,700 Appraisal ofAppraisal  10-40% (19.1%) 
       collateral (1)   adjustments (2)    
Other real estate owned $1,748,455 Appraisal ofAppraisal  6% 
       collateral (1)   adjustments (2)           collateral (1)   adjustments (2)    
                    
December 31, 2013                    
Impaired loans $7,879,005 Appraisal ofAppraisal     $7,879,005 Appraisal ofAppraisal    
       collateral (1)   adjustments (2)  5-15% (9.7%)        collateral (1)   adjustments (2)  5-15% (8.8%) 
Other real estate owned $209,937 Appraisal ofAppraisal     $209,937 Appraisal ofAppraisal    
       collateral (1)adjustments (2)  10-50% (32.6%)        collateral (1)   adjustments (2)  5-45% (21.7%) 

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

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

 
The fair value of other real estate owned was determined using appraisals, which may be discounted based on management’s review and changes in market conditions.
 
The following is a summary of fair value versus the carrying value of all the Company’s financial instruments.  For the Company and the Bank, as for most financial institutions, the bulk of its assets and liabilities are considered financial instruments.  Many of the financial instruments lack an available trading market as characterized by a willing buyer and willing seller engaging in an exchange transaction.  Therefore, significant estimations and present value calculations were used for the purpose of this note.  Changes in assumptions could significantly affect these estimates.
 
Estimated fair values have been determined by using the best available data and an estimation methodology suitable for each category of financial instruments as follows:
 
Cash and Cash Equivalents, Accrued Interest Receivable and Accrued Interest Payable (Carried at Cost). The carrying amounts reported in the balance sheet for cash and cash equivalents, accrued interest receivable and accrued interest payable approximate fair value.
 
Securities Held to Maturity (Carried at Amortized Cost). The fair values of securities held to maturity are determined in the same manner as for securities available for sale.
 
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Loans Held For Sale (Carried at Lower of Aggregated Cost or Fair Value). The fair values of loans held for sale are determined, when possible, using quoted secondary market prices. If no such quoted market prices exist, fair values are determined using quoted prices for similar loans, adjusted for the specific attributes of the loans.
40
 
Gross Loans Receivable (Carried at Cost). The fair values of loans, excluding impaired loans subject to specific loss reserves, are estimated using discounted cash flow analyses, using market rates at the balance sheet date that reflect the credit and interest rate-risk inherent in the loans.  Projected future cash flows are calculated based upon contractual maturity or call dates, projected repayments and prepayments of principal.  Generally, for variable rate loans that re-price frequently and with no significant change in credit risk, fair values are based on carrying values.
 
Deposit Liabilities (Carried at Cost). The fair values disclosed for demand deposits (e.g., interest and non-interest demand and savings accounts) 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 interest rates currently being offered in the market on certificates to a schedule of aggregated expected monthly maturities on time deposits.
 
Borrowings and Subordinated Debentures (Carried at Cost). The carrying amounts of short-term borrowings approximate their fair values. The fair values of long-term FHLB advances and subordinated debentures are estimated using discounted cash flow analysis, based on quoted or estimated interest rates for new borrowings with similar credit risk characteristics, terms and remaining maturity. 
 
 
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The estimated fair values and carrying amounts of financial assets and liabilities were as follows:
 
June 30, 2014 
September 30, 2014September 30, 2014 
 Carrying  Level 1  Level 2  Level 3  Fair 
 Carrying  Level 1  Level 2  Level 3  Fair  Value  Inputs  Inputs  Inputs  Value 
 Value  Inputs  Inputs  Inputs  Value                
Cash and cash equivalents $23,149,148   23,149,148  $-  $-  $23,149,148  $20,371,823  $20,371,823  $-  $-  $20,371,823 
Securities available for sale   110,878,312   9,368,000   101,510,312   -   110,878,312   103,959,466   9,470,990   94,488,476   -   103,959,466 
Securities held to maturity   155,318,690   -   159,434,845   -   159,434,845   148,182,693   -   152,466,765   -   152,466,765 
Loans held for sale   9,877,863   -   9,900,291   -   9,900,291   9,459,172   -   9,602,000   -   9,602,000 
Loans, net  628,041,343   -   -   630,109,000   630,109,000   613,288,046   -   -   615,200,000   615,200,000 
Accrued interest receivable  3,161,963   -   3,161,963   -   3,161,963   2,798,265   -   2,798,265   -   2,798,265 
Deposits   (819,867,329)  -   (820,796,000)  -   (820,796,000)  (823,564,746)  -   (824,154,00)  -   (824,154,000)
Borrowings   (59,888,511)  -   (60,615,000)  -   (60,615,000)  (20,798,473)  -   (21,509,000)  -   (21,509,000)
Redeemable subordinated
debentures
  (18,557,000)  -   (18,557,000)  -   (18,557,000)  (18,557,000)  -   18,557,000)  -   (18,557,000)
Accrued interest payable  (904,892)  -   (904,892)  -   (904,892)  (802,851)  -   (802,851)  -   (802,851)

December 31, 2013December 31, 2013 December 31, 2013 
 Carrying  Level 1  Level 2  Level 3  Fair  Carrying  Level 1  Level 2  Level 3  Fair 
 Value  Inputs  Inputs  Inputs  Value  Value  Inputs  Inputs  Inputs  Value 
                              
Cash and cash equivalents $69,278,771  $69,278,771  $-  $-  $69,278,771  $69,278,771  $69,278,771  $-  $-  $69,278,771 
Securities available for sale   99,198,807   19,994,430   79,204,377   -   99,198,807   99,198,807   19,994,430   79,204,377   -   99,198,807 
Securities held to maturity   152,816,815   -   153,629,773   -   153,629,000   152,816,815   -   153,629,773   -   153,629,000 
Loans held for sale   10,923,689   -   10,924,000   -   10,924,000   10,923,689   -   10,924,000   -   10,924,000 
Loans   366,297,511   -   -   372,548,000   372,548,000 
Loans, net  366,297,511   -   -   372,548,000   372,548,000 
Accrued interest receivable  2,542,602   -   2,542,602   -   2,542,602   2,542,602   -   2,542,602   -   2,542,602 
Deposits   (638,552,030)  -   (639,539,000)  -   (639,539,000)   (638,552,030)  -   (639,539,000)  -   (639,539,000) 
Borrowings   (10,000,000)  -   (11,148,000)  -   (11,148,000)   (10,000,000)  -   (11,148,000)  -   (11,148,000) 
Redeemable subordinated
debentures
  (18,557,000)  -   (18,557,000)   -   (18,557,000)   (18,557,000)  -   (18,557,000)   -   (18,557,000) 
Accrued interest payable  (883,212)  -   (883,212)  -   (883,212)  (883,212)  -   (883,212)  -   (883,212)

Loan commitments and standby letters of credit as of JuneSeptember 30, 2014 and December 31, 2013 are based on fees charged for similar agreements; accordingly, the estimated fair value of loan commitments and standby letters of credit is nominal.

Item 2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
The purpose of this discussion and analysis of the operating results and financial condition at JuneSeptember 30, 2014 is intended to help readers analyze the accompanying financial statements, notes and other supplemental information contained in this document. Results of operations for the three month and sixnine month periods ended JuneSeptember 30, 2014 are not necessarily indicative of results to be attained for any other period.
 
This discussion and analysis should be read in conjunction with the consolidated financial statements, notes and tables included elsewhere in this report and Part II, Item 7 of the Company’s Form 10-K (Management’s Discussion and Analysis of Financial Condition and Results of Operation) for the year ended December 31, 2013, as filed with the Securities and Exchange Commission (the “SEC”) on March 31, 2014.

 
General
 
Throughout the following sections, the “Company” refers to 1st Constitution Bancorp and, as the context requires, its wholly-owned subsidiary, 1st Constitution Bank (the “Bank”) and the Bank’s wholly-owned subsidiaries, 1st Constitution Investment Company of New Jersey, Inc., FCB Assets Holdings, Inc., 1st Constitution Title Agency, LLC, 204 South Newman Street Corp. and 249 New York Avenue, LLC.  1st Constitution Capital Trust II (“Trust II”), a subsidiary of the Company, is not included in the Company’s consolidated financial statements as it is a variable interest entity and the Company is not the primary beneficiary.
 
The Company is a bank holding company registered under the Bank Holding Company Act of 1956, as amended. The Company was organized under the laws of the State of New Jersey in February 1999 for the purpose of acquiring all of the issued and outstanding stock of the Bank, a full service commercial bank which began operations in August 1989, and thereby enabling the Bank to operate within a bank holding company structure. The Company became an active bank holding company on July 1, 1999. The Bank is a wholly-owned subsidiary of the Company. Other than its ownership interest in the Bank, the Company currently conducts no other significant business activities.
 
The Bank operates nineteen branches, and manages its investment portfolio through its subsidiary, 1st Constitution Investment Company of New Jersey, Inc. During the second quarter of 2014, the Bank completed the merger of RFHB Investment Company, a subsidiary of RumsonRumson-Fair Haven Bank and Trust Company, a New Jersey state chartered commercial bank (“Rumson”) that managed Rumson’s investment portfolio, with and into 1st Constitution Investment Company of New Jersey, Inc.  FCB Assets Holdings, Inc., a subsidiary of the Bank, is used by the Bank to manage and dispose of repossessed real estate.
 
Trust II, a subsidiary of the Company, was created in May 2006 to issue trust preferred securities to assist the Company to raise additional regulatory capital.

Forward-Looking Statements
 
This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”).  The Private Securities Litigation Reform Act of 1995 provides a “safe harbor” for forward looking statements.  When used in this and in future filings by the Company with the SEC, in the Company’s press releases and in oral statements made with the approval of an authorized executive officer of the Company, the words or phrases “will,” “will likely result,” “could,” “anticipates,” “believes,” “continues,” “expects,” “plans,” “will continue,” “is anticipated,” “estimated,” “project” or “outlook” or similar expressions (including confirmations by an authorized executive officer of the Company of any such expressions made by a third party with respect to the Company) are intended to identify forward-looking statements. The Company wishes to caution readers not to place undue reliance on any such forward-looking statements, each of which speaks only as of the date made.  Such statements are subject to certain risks and uncertainties that could cause actual results to differ materially from historical earnings and those presently anticipated or projected.
 
Factors that may cause actual results to differ from those results expressed or implied, include, but are not limited to, those listed under “Business”, “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the Company’s Annual Report on Form 10-K filedfor the year ended December 31, 2013filed with the SEC on March 31, 2014, such as the overall economy and the interest rate environment; the ability of customers to repay their obligations; the adequacy of the allowance for loan losses; competition; the ability to realize expected synergies from the Rumson merger in the time frame anticipated and cost or difficulties associated with integration matters that might be greater than anticipated; significant changes in accounting, tax or regulatory practices and requirements; certain interest rate risks; risks associated with investments in mortgage-backed securities; and risks associated with speculative construction lending. Although management has taken certain steps to mitigate any negative effect of the aforementioned items, significant unfavorable changes could severely impact the assumptions used and could have an adverse effect on profitability. The Company undertakes no obligation to publicly revise any forward-looking statements to reflect anticipated or unanticipated events or circumstances occurring after the date of such statements, except as required by law.
 

Recent Developments

On February 7, 2014, the Company completed its acquisition of Rumson-Fair Haven Bank and Trust Company, a New Jersey state chartered commercial bank (“Rumson”), which merged with and into the Bank, with the Bank as the surviving entity. The merger agreement among the Company, the Bank and Rumson (the “Merger Agreement”) provided that the shareholders of Rumson would receive, at their election, for each outstanding share of Rumson common stock that they own at the effective time of the merger, either 0.7772 shares of the Company common stock or $7.50 in cash or a combination thereof, subject to proration as described in the Merger Agreement, so that 60% of the aggregate merger consideration consisted of cash and 40% consisted of shares of the Company’s common stock. The Company issued an aggregate of 1,019,2231,019,242 shares of its common stock and paid $14.8 million in cash in the transaction.

The merger was accounted for under the acquisition method of accounting and accordingly, assets acquired, liabilities assumed and consideration exchanged were recorded at their estimated fair values as of the acquisition date. Rumson’s results of operations have been included in the Company’s Consolidated Statements of Income since February 7, 2014.

In May of 2013, the Bank entered into a loan participation agreement with a lead lender and another bank to provide financing to Projuban, LLC d/b/a G3K Displays (the “Borrower” or “Projuban”). The loan is secured by a first security interest in the Borrower’s accounts receivable, inventory, equipment and fixtures, and is further secured by the continuing guarantees of the Borrower’s principals.

As previously disclosed in the Company’s Current Report on Form 8-K dated June 20, 2014 (the “Current Report”), the Bank became aware of an apparent fraud by the Borrower and its principals during the second quarter of 2014. The Bank, together with the lending group to the Borrower, commenced a review and investigation of the matter, which included the engagement of forensic accountants. This review and investigation revealed that the principals of the Borrower made fraudulent misrepresentations about the collateral securing the loan and the overall financial condition of the Borrower. The loan was current in payments prior to the initial discovery of the apparent fraud. As reported in the Current Report, management determined that the Borrower’s financial capacity to repay the remaining balance of the loan was unlikely due to the apparent fraud and the Borrower’s cessation of operations, and that substantial doubt existed regarding future repayment of the loan. Accordingly, the Bank recorded a provision for loan losses and a corresponding charge-off of the entire balance of the loan in the amount of $3.7 million in the second quarter of 2014.

Each of these events had a significant impact on the results of operations for the sixnine month period ended JuneSeptember 30, 2014.


RESULTS OF OPERATIONS

Three Months Ended JuneSeptember 30, 2014 Compared to the Three Months Ended JuneSeptember 30, 2013
 
Summary

The Company reported net income for the three month period ended September 30, 2014 of $2.1 million, a net loss of $439,918, or $0.0640% increase compared to $1.5 million reported for the three month period ended September 30, 2013. Net income per diluted share for the three month period ended JuneSeptember 30, 2014 was $0.30, an increase of 20% compared to net income of $1,557,030, or $0.25 per diluted share for the three month period ended JuneSeptember 30, 2013.

The results of operationssignificant increase in net income for the first and second quarterscurrent quarter was due to the $2.6 million increase in net interest income to $8.9 million, which was driven by growth of 2014 were impacted by the two events described above in the “Recent Developments” section. In the first quarter, the Company completed the acquisition of Rumson and incurred $1.4 million of merger-related expenses that reduced earnings in that quarter by $897,000, or $0.13 per diluted share.
In the second quarter of 2014, $109,000 of merger related expenses were incurred, which reduced net income by $65,000, or $0.01 per diluted share. Alsoour loan portfolio in the second quarter, the Projuban loan with a balance of approximately $3.7 million was fully charged offand third quarters and the provision for loan losses was increased by a similar amount due toinclusion of the apparent fraud by the borrower and its principals. This additional provision reduced net income in the second quarter by $2.2 million, or $0.30 per diluted share, and resulted in a net loss for the second quarteroperations of 2014. Net income, adjusted for the effect of these events (“Adjusted Net Income”), was $1.8 million, or $0.25 per diluted share. For the three month period ended June 30, 2013, netRumson. Non-interest income was $1.6$1.5 million or $0.25 per diluted share.

Adjusted Net Income and Adjusted Net Income per diluted share are measures not in accordance with generally accepted accounting principles (“GAAP”). The Company usedincluded gains from the non-GAAP financial measures, Adjusted Net Income (Loss)sale of residential mortgage loans and Adjusted Net Income (Loss) per diluted share, because the Company believes that it is useful for the usersSBA loans of the financial information to understand the effect on net income of the merger related expenses incurred in the merger with Rumson and the large provision for loan losses recorded as a result of the apparent fraud by a borrower and its principals. Management believes that these non-GAAP financial measures improve the comparability of the current period results with the results of prior periods. The Company cautions that the non-GAAP financial measures should be considered in addition to, but not as a substitute for the Company's GAAP results.

A reconciliation of these non-GAAP measures to the reported net income or loss and net income or loss per diluted share follows.$556,000.
 
Reconciliation of Non-GAAP Measures

  Three Month Ended  Six Month Ended 
  
June 30,
2014
  
June 30,
2013
  
June 30,
2014
  
June 30,
2013
 
             
Net Income (loss) $(439,918) $1,557,030  $201,794  $2,882,348 
                 
Adjustments to Net Income (loss):                
                 
Provisions for Loan losses (1)  3,656,000   -   3,656,000   - 
                 
Merger-Related Expenses  109,430   -   1,532,153   - 
                 
Income Tax Effect of Adjustments (2)  (1,503,913)  -   (2,030,818)  - 
                 
Adjusted Net Income $1,821,599  $1,557,030  $3,359,129  $2,882,348 
                 
Average Diluted Shares Outstanding (3)  7,180,127   6,143,610   7,032,265   6,093,131 
                 
Adjusted Net Income per Diluted
    Share
 $0.25  $0.25  $0.48  $0.47 
                 
Net Income (Loss) per Diluted Share $(0.06) $0.25  $0.03  $0.47 
(1)The amount represents the full charge – off of the Projuban loan that was subject to apparent fraud.
(2)Tax effected at an income tax rate of 39.94%, less the impact of non-deductible merger expenses.
(3) 
The adjustments to the reported loss for the three month period ended June 30, 2014 result in adjusted net income. Accordingly,diluted shares outstanding include the dilutive share equivalents for purposes of computing adjusted netincome per diluted share.

 
SecondReturn on average assets was 0.88% and return on average equity was 10.25% for the third quarter of 2014 compared to 0.76% and 9.25% respectively, in the third quarter of 2013.

Third Quarter Highlights

 ·Net interest income was $8.4$8.9 million in the third quarter of 2014 compared to $6.4 million in the second quarter of 2014 compared to $6.9and $6.3 million in the first quarter of 2014 and $6.1 million in the secondthird quarter of 2013. The net interest margin for each of these periods was 3.89%4.05%, 3.56%3.89% and 3.39%3.51%, respectively.
 ·Loans were $620 million at September 30, 2014 and included $124 million of Rumson loans. Excluding the effect of the Rumson acquisition in the first quarter of 2014, loans increased $104$123 million since December 31, 2013 primarily during the second quarterand third quarters of 2014, with mortgage warehouse loans increasing $78$40.4 million, and construction loans increasing $30.3 million, commercial and commercial real estate loans increasing a combined $26$46.8 million and residential mortgages increasing $5.1 million. The loan to asset ratio increased to 64.5%65% at JuneSeptember 30, 2014 compared to 50.3% at December 31,31. 2013.
·During the third quarter of 2014, our mortgage banking operations originated $50 million of residential mortgage loans and sold $44.7 million of residential mortgage loans. The September 30, 2014 pipeline of residential mortgage loans in process was $53 million.
 ·The integration of the former Rumson operations was completed at the end of the first quarter of 2014 and customer retention has been as expected, with loans of $134approximately $124 million and deposits of $179approximately $176 million at JuneSeptember 30, 2014.
·Beginning in the second quarter of 2014, a significant shift in the source and purpose of loans originated by the Bank’s residential lending operations and loans financed by the residential mortgage warehouse operations developed. At June 30, 2014, 75% of the Bank’s residential mortgage pipeline of $57 million (pending loan applications, approved applications and closed loans) was for the purchase of a home compare to 29% at June 30, 2013. A similar shift was experienced in the residential mortgage warehouse lending operation with 70% of the residential mortgages financed for the purchase of a home compared to 30% at June 30, 2013. This trend, if it continues, will provide a more consistent source of revenue in future periods.

Earnings Analysis

The Bank’s results of operations depend primarily on net interest income, which is primarily affected by the market interest rate environment, the shape of the U.S. Treasury yield curve, and the difference between the yield on interest-earning assets and the rate paid on interest-bearing liabilities. Other factors that may affect the Bank’s operating results are general and local economic and competitive conditions, government policies and actions of regulatory authorities.

Net Interest Income
 
Net interest income, the Company’s largest and most significant component of net income, is the difference between interest and fees earned on loans and other earning assets, and interest paid on deposits and borrowed funds. This component represented 86.9%85.8% of the Company’s net revenues (defined as net interest income plus non-interest income) for the three month period ended JuneSeptember 30, 2014 and 80.9%79.6% of net revenues for the three month period ended June 30, 2013. Net interest income also depends upon the relative amount of average interest-earning assets, average interest-bearing liabilities, and the interest rate earned or paid on them, respectively.

Average interest earning assets increased by $139,590,330,$159,272,860, or 18.5%21.4%, to $893,599,777$902,690,697 for the three month period ended JuneSeptember 30, 2014 compared to $754,009,447$743,417,837 for the three month period ended JuneSeptember 30, 2013. The overall yield on interest earning assets, on a tax-equivalent basis, increased 4652 basis points to 4.42%4.58% for the three month period ended JuneSeptember 30, 2014 when compared to 3.96%4.06% for the three month period ended JuneSeptember 30, 2013 due primarily to the increase in the higher-yielding average balance of the loan portfolio in the current period.

This increase in the overall yield on interest earning assets for the quarter ended JuneSeptember 30, 2014 compared with the corresponding quarter in 2013 was primarily due to (1) the second quarter increase in construction, commercial real estate and commercial business loans; and (2) the increase in loans and investments resulting from the Rumson merger. All of theseThese factors contributed to an increase in the yield on earning assets, which primarily drove the increase in the net interest margin and net interest income.

Average interest bearing liabilities increased by $116,055,968,$127,853,647, or 19.4%21.8%, to $713,342,209$713,105,066 for the three month period ended JuneSeptember 30, 2014 compared to $597,286,241$585,251,419 for the three month period ended JuneSeptember 30, 2013.  Overall, the cost of total interest bearing liabilities decreased 4 basis points to 0.67%0.66% for the three months ended JuneSeptember 30, 2014 compared to 0.71%0.70% for the three months ended JuneSeptember 30, 2013. The increase in average interest bearing liabilities is due principally to the Rumson merger.

 
The net interest margin (on a tax-equivalent basis), which is net interest income divided by average interest earning assets, was 3.89%4.05% for the three months ended JuneSeptember 30, 2014 compared to 3.39%3.51% for the three months ended JuneSeptember 30, 2013.  

The following table sets forth the Company’s consolidated average balances of assets and liabilities and shareholders’ equity as well as interest income and expense on related items, and the Company’s average yield or rate for the three month periods ended JuneSeptember 30, 2014 and 2013. The average rates are derived by dividing interest income and expense by the average balance of assets and liabilities, respectively.

Average Balance Sheets with Resultant Interest and Rates
(yields on a tax-equivalent basis)
  Three months ended June 30, 2014  Three months ended June 30, 2013 
  
Average
Balance
  Interest  
Average
Yield
  
Average
Balance
  Interest  
Average
Yield
 
  Assets:                  
    Federal Funds Sold/Short-Term
      Investments
 $66,804,945  $45,392   0.27% $131,756,567  $89,454   0.27%
    Investment Securities:                        
Taxable  180,120,731   1,059,160   2.35%  151,524,528   901,712   2.38%
Tax-exempt (4)  91,394,368   871,349   3.81%  68,322,175   807,517   4.73%
Total  271,515,099   1,930,509   2.84%  219,846,703   1,709,228   3.11%
                         
  Loan Portfolio: (1)                        
Construction  75,431,970   1,362,736   7.25%  39,980,233   614,693   6.17%
Residential real estate  49,348,093   505,144   4.11%  11,143,951   143,421   5.16%
Home Equity  23,974,678   352,091   5.89%  9,010,504   123,961   5.52%
Commercial and commercial
   real estate
  279,259,866   4,158,148   5.97%  140,846,437   2,551,463   7.27%
Mortgage warehouse lines  108,601,198   1,253,362   4.63%  160,777,185   1,885,001   4.70%
Installment  269,618   4,092   6.09%  239,208   3,679   6.17%
All Other Loans 18,394,309   234,687   5.12%  40,408,657   323,040   3.21%
Total  555,279,733   7,870,260   5.68%  402,406,176   5,645,259   5.63%
                         
Total Interest-Earning Assets  893,599,777   9,846,161   4.42%  754,009,447   7,443,941   3.96%
                         
Allowance for Loan Losses  (7,360,782)           (6,221,038)         
Cash and Due From Bank  15,110,875           13,663,462         
Other Assets  59,535,711           48,937,696         
           Total Assets $960,885,581          $810,389,566         
                         
Liabilities and Shareholders’ Equity:                        
Money Market and NOW Accounts$292,375,327  $239,686   0.33% $225,749,825  $184,070   0.33%
Savings Accounts  204,238,031   226,884   0.45%  201,463,594   221,449   0.44%
Certificates of Deposit  175,814,908   505,815   1.15%  141,515,821   464,287   1.32%
Other Borrowed Funds  22,356,944   127,839   2.29%  10,000,000   104,255   4.18%
Trust Preferred Securities  18,557,000   85,673   1.83%  18,557,000   87,772   1.87%
Total Interest-Bearing Liabilities  713,342,209   1,185,897   0.67%  597,286,241   1,061,833   0.71%
                         
Net Interest Spread (2)          3.75%          3.25%
                         
Demand Deposits  158,603,674           139,381,895         
Other Liabilities  6,898,724           7,263,328         
Total Liabilities  878,844,607           743,931,463         
Shareholders’ Equity  82,040,974           66,458,103         
Total Liabilities and Shareholders’
Equity
 $960,885,581          $810,389,566         
Net Interest Margin (3)     $8,660,264   3.89%     $6,382,108   3.39%
Average Balance Sheets with Resultant Interest and Rates      
(yields on a tax-equivalent basis)      
  
 
Three months ended September 30, 2014
  
 
Three months ended September 30, 2013
 
  
Average
Balance
  Interest  
Average
Yield
  
Average
Balance
  Interest  
Average
Yield
 
  Assets:                  
    Federal Funds Sold/Short-Term
      Investments
 $18,858,143  $10,183   0.22% $120,124,995  $81,745   0.27%
    Investment Securities:                        
Taxable  168,912,644   961,043   2.28%  160,094,754   980,004   2.45%
Tax-exempt (4)  90,191,047   852,447   3.78%  70,880,950   851,446   4.80%
Total  259,103,691   1,813,490   2.80%  230,975,704   1,831,450   3.17%
                         
  Loan Portfolio: (1)                        
Construction  84,776,306   1,408,170   6.59%  41,845,395   631,428   5.99%
Residential real estate  49,466,308   524,861   4.21%  11,104,532   141,896   5.07%
Home Equity  23,097,660   356,320   6.12%  9,391,470   125,134   5.29%
Commercial and commercial
   real estate
  286,369,323   4,306,422   5.97%  145,186,260   2,760,124   7.54%
Mortgage warehouse lines  155,715,974   1,689,856   4.31%  148,660,465   1,734,652   4.63%
Installment  417,619   5,469   5.20%  268,341   4,214   6.23%
All Other Loans  24,885,673   294,851   4.70%  35,860,675   304,357   3.37%
Total  624,728,863   8,585,949   5.45%  392,317,138   5,701,805   5.77%
                         
Total Interest-Earning Assets  902,690,697   10,409,622   4.58%  743,417,837   7,615,000   4.06%
                         
Allowance for Loan Losses  (7,542,268)           (6,754,700)         
Cash and Due From Bank  13,872,593           10,627,034         
Other Assets  58,467,465           48,058,164         
           Total Assets $967,488,487          $795,348,335         
                         
Liabilities and Shareholders’ Equity:                        
Money Market and Now
Accounts
 $290,077,290  $244,485   0.33% $18,287,653  $178,204   0.32%
Savings Accounts  196,936,099   226,556   0.46%  197,645,109   218,994   0.44%
Certificates of Deposit  172,114,159   484,203   1.12%  140,761,657   445,176   1.25%
Other Borrowed Funds  35,420,518   144,006   1.61%  10,000,000   103,121   4.09%
Trust Preferred Securities  18,557,000   86,535   1.82%  18,557,000   88,337   1.89%
Total Interest-Bearing Liabilities  713,105,066   1,185,785   0.66%  585,251,419   1,033,832   0.70%
                         
Net Interest Spread (2)          3.92%          3.36%
                         
Demand Deposits  165,617,916           137,526,681         
Other Liabilities  6,011,491           7220361         
Total Liabilities  884,734,473           729,998,461         
Shareholders’ Equity  18,557,000           65,349,874         
Total Liabilities and Shareholders’ Equity $967,488,487          $795,348,335         
Net Interest Margin (3)     $9,223,838   4.05%     $6,581,167   3.51%
 
46
(1)
Loan origination fees are considered an adjustment to interest income.  For the purpose of calculating loan yields, average loan balances include nonaccrual loans with no related interest income and includes the average balance of loans held for sale. Please refer to Management’s Discussion and Analysis of Financial Condition and Results of Operation under the heading “Non-Performing Assets” for a discussion of the Bank’s policy with regard to non-accrual loans.
(2)The interest rate spread is the difference between the average yield on interest earning assets and the average rate paid on interest bearing liabilities.
(3)The net interest margin is equal to net interest income divided by average interest earning assets.
(4)Tax-equivalent basis.
 
46
Provision for Loan Losses

Management considers a complete review of the following specific factors in determining the provisions for loan losses: historical losses by loan category, the level of non-accrual loans and problem loans as identified through internal classification, collateral values, and the growth and size of the loan portfolio.

In addition to these factors, management takes into consideration current economic conditions and local real estate market conditions.  Using this evaluation process, the Company recorded a provision for loan losses of $4,099,998$649,998 for the three months ended JuneSeptember 30, 2014 compared to $236,666$539,998 for the three months ended JuneSeptember 30, 2013.  The principal reason for the increase in the provision for loan losses in the second quarter of 2014 was the $3.7 million charge-off and replenishment of the allowance due to the Projuban loan, which was previously performing prior to the apparent fraud.  At JuneSeptember 30, 2014, non-performing loans increased by $1,989,117,$1,537,124 or 31.5%24.3%, to $8,311,073$7,538,765 and the ratio of non-performing loans to total loans was 1.31%1.22% at JuneSeptember 30, 2014 compared to 1.69% at December 31, 2013. Non-performing loans declined at September 30, 2014 compared to $10,237,477 at June 30, 2014.

Net charge-offs were $960,000 in the third quarter of 2014 and included $928,000 of gross charge-offs of specific reserves for potential loan losses that were recorded in prior periods. These charge-offs were recorded for loans in the process of foreclosure or resolution for which management determined the loss would be realized.

At JuneSeptember 30, 2014, the loan portfolio balance was $635,459,722,$620,395,918, which represented an increase of $261,123,640$247,059,836 compared to the December 31, 2013 loan portfolio balance of $373,336,082. The primary reasons for the current period increase in the loan portfolio were the $143,714,000$124 million of loans acquired in the Rumson merger and still outstanding and the internal growth of the loan portfolio during the second quarter of 2014.

 There were no changes in the expected cash flows of the acquired loans from the Rumson merger during the secondthird quarter of 2014.  No allowance for loan losses was recorded for acquired loans with or without evidence of deteriorated credit quality as of JuneSeptember 30, 2014.


Non-Interest Income

Total non-interest income for the three months ended JuneSeptember 30, 2014 was $1,260,032,$1,481,842, a decrease of $187,827,$134,706, or 13.0%8.3%, from non-interest income of $1,447,859$1,616,548 for the three months ended JuneSeptember 30, 2013. This component represented 13.1%14.2% of the Company’s net revenues for the three month period ended JuneSeptember 30, 2014 compared to 19.1%20.4% of net revenues for the three month period ended JuneSeptember 30, 2013.
 
Service charges on deposit accounts represent a consistent source of non-interest income. Service charge revenues increased by $45,631,$36,456, or 20.6%15.8%, to $267,235$267,625 for the three months ended JuneSeptember 30, 2014 from $221,604$231,169 for the three months ended JuneSeptember 30, 2013. This increase was the result of a higher volume of uncollected funds and overdraft fees collected on deposit accounts in the secondthird quarter of 2014.
 
Gain on sales of loans heldoriginated for sale decreased by $211,991,$85,912, or 44.2%13.4%, to $267,155$556,054 for the three months ended JuneSeptember 30, 2014 when compared to $479,146$641,966 for the three months ended JuneSeptember 30, 2013.  The Bank originates and sells both residential mortgage loans and loans guaranteed by the Small Business Administration in the secondary market.  The higher interest rate environment that existed in the secondthird quarter of 2014 compared to the same period in 2013 resulted in lower demand to refinance residential mortgages. As a result, the volume of mortgage loans originated and sold decreased for the three months ended JuneSeptember 30, 2014 compared to the three months ended JuneSeptember 30, 2013.
47
 
Non-interest income also includes income from bank-owned life insurance (“BOLI”), which amounted to $148,987$143,884 for the three months ended JuneSeptember 30, 2014 compared to $119,758$115,840 for the three months ended JuneSeptember 30, 2013. The increase in income from BOLI in the secondthird quarter of 2014 was due primarily to the acquisition of $4.5 million of BOLI assets in the Rumson merger.
 
The Bank also generates non-interest income from a variety of fee-based services. These include safe deposit box rentals, wire transfer service fees, cash counting fees and Automated Teller Machine fees for non-Bank customers. Decreased customer demand for these services in general contributed to the other income component of non-interest income declining to $576,655$514,279 for the three months ended JuneSeptember 30, 2014 compared to $627,351$627,573 for the three months ended JuneSeptember 30, 2013, a decrease of $50,697$113,294 for the secondthird quarter of 2014 as compared to the second quarter of 2013.2014.

Non-Interest Expense
 
Non-interest expenses increased by $1,543,515,$1,470,168, or 29.9%28.0%, to $6,705,815$6,723,651 for the three months ended JuneSeptember 30, 2014 from $5,162,300$5,253,483 for the three months ended JuneSeptember 30, 2013. Non-interest expenses attributable to the former Rumson operation were approximately $690,000 in the second quarter of 2014. The following table presents the major components of non-interest expenses for the three months ended JuneSeptember 30, 2014 and 2013.


Non-interest Expenses          
 Three months ended June 30,  
Three months ended September
30,
 
 2014 2013  2014 2013 
Salaries and employee benefits $3,684,723  $3,045,241  $3,922,104  $3,060,143 
Occupancy expenses  838,895   622,499   833,813   629,922 
Data processing services  311,760   294,306   313,237   273,272 
Equipment expense  235,528   188,286   224,872   189,871 
Marketing  83,753   92,087   86,455   79,656 
Regulatory, professional and other fees  460,614   271,908   399,379   303,114 
Merger-related expenses 109,430 -  - - 
FDIC insurance expense  184,631   15,000   210,000   111,562 
Directors’ fees  21,500   22,000   21,500   24,000 
Other real estate owned expenses  98,609   48,557   131,973   176,796 
Amortization of intangible assets 121,030 66,992  121,029 66,992 
Other expenses  555,342   495,424   459,289   338,155 
Total $6,705,815  $5,162,300  $6,723,651  $5,253,483 
             
 

Salaries and employee benefits, which represent the largest portion of non-interest expenses, increased by $639,482,$861,961, or 21.0%28.2%, to $3,684,723$3,922,104 for the three months ended JuneSeptember 30, 2014 compared to $3,045,241$3,060,143 for the three months ended JuneSeptember 30, 2013. Of this increase $232,000approximately $298,000 was due to salary and benefits for former Rumson employees who were retained by the Bank. The balance of the increase in salaries and employee benefits for the three months ended June 30,September30, 2014 was a result of an increase in the number of employees, regular annual merit increases and increased health care costs. Staffing levels have increased to 179177 full time equivalent employees at JuneSeptember 30, 2014 as compared to 156150 full time equivalent employees at JuneSeptember 30, 2013.
 
Occupancy expenses increased by $216,396,$203,891, or 34.8%32.4%, to $838,895$833,813 for the three months ended JuneSeptember 30, 2014 compared to $622,499$629,922 for the three months ended JuneSeptember 30, 2013.  The current period increase resulted primarily from increased depreciation, property taxes and maintenance costs of the five branch offices acquired as a result of the Rumson merger.  
 
48
The cost of data processing services increased to $311,760$313,237 for the three months ended JuneSeptember 30, 2014 from $294,306$273,272 for the three months ended June 30,September30, 2013 as additional expenses were incurred to support and maintain the five new locations acquired as a result of the Rumson merger within the Bank’s information technology systems and the growth of loan and deposit transaction volumes.
 
48
Equipment expense increased by $47,242,$35,001, or 25.1%18.4%, to $235,528$224,872 for the three months ended JuneSeptember 30, 2014 compared to $188,286$189,871 for the three months ended JuneSeptember 30, 2013 primarily due to maintenance agreement costs associated with the expansion of the branch network due to the Rumson merger that were incurred during the second quarter of 2014.
merger. Regulatory, professional and other fees increased by $188,706,$96,265, or 69.4%31.8%, to $460,614$399,379 for the three months ended JuneSeptember 30, 2014 compared to $271,908$303,114 for the three months ended June 30, 2013.  During the three months ended JuneSeptember 30, 2014, the Company incurred higher professional fees in connection with lending, collections, general corporate matters and post-merger matters.
 
FDIC insurance expense increased to $184,631$210,000 for the three months ended JuneSeptember 30, 2014 compared to $15,000$111,562 for the three months ended JuneSeptember 30, 2013 primarily as a result of the assumption of deposits and borrowings upon completion of the Rumson merger, which accounted for approximately $45,000 of the increase. The balance of the increase is due to changes in the insurance premium calculation in 2013 mandated by the Dodd-Frank Act.
 
Other real estate owned expenses increaseddecreased by $50,052$44,823 to $98,609$131,973 for the three months ended JuneSeptember 30, 2014 compared to $48,557$176,796 for the three months ended JuneSeptember 30, 2013 as the Company incurred a higher level of property taxes, maintenance, disposition costs and other costs on repossessed properties held as other real estate owned during the secondthird quarter of 20142013 compared to the secondthird quarter of 2013.2014. At JuneSeptember 30, 2014, the Company held one property with a value of $1,860,000$1,748,455 as other real estate owned compared to eightfour properties with an aggregate value of $7,926,851$2,808,554 at JuneSeptember 30, 2013.
 
Amortization of intangible assets increased $54,038$54,037 to $121,030$121,029 during the secondthird quarter of 2014 when compared to the secondthird quarter of 2013 due to the increase inamortization of core deposit intangible assets of $1,189,000 recorded in the Rumson merger.
 
All other expenses increased to $555,342$459,289 for the three months ended JuneSeptember 30, 2014 compared to $495,424$338,155 for the three months ended JuneSeptember 30, 2013 as current year increases occurred in correspondent bank fees, maintenance agreements and ATM operating expenses.  All other expenses are comprised of a variety of operating expenses and fees, as well as expenses associated with lending activities.
 
Income Taxes
 
The pre-tax lossincome was $1,168,068$3,055,562 for the three months ended JuneSeptember 30, 2014 compared to pre-tax income of $2,169,522$2,128,089 for the three months ended JuneSeptember 30, 2013.  
 
The Company recorded an income tax benefitexpense of $728,150$917,483 for the three months ended JuneSeptember 30, 2014 compared to income tax expense of $612,492$604,851 for the three months ended JuneSeptember 30, 2013. The effective tax rate for the secondthird quarter of 2014 was a benefit of 62.3%30.02%, which was significantly higherlower than the combined statutory rate of 39.9% due primarily to the impact of tax exempt interest income. The effective tax rate for the 2013 quarter was 28.2%28.4%.
 
Six Nine Months Ended JuneSeptember 30, 2014 Compared to the SixNine Months Ended JuneSeptember 30, 2013
 
Summary

The Company reported net income of $201,794,$2,339,873, or $0.03$0.33 per diluted share, for the sixnine month period ended JuneSeptember 30, 2014 compared to net income of $2,882,348,$4,405,588, or $0.47$0.72 per diluted share, for the sixnine month period ended JuneSeptember 30, 2013.

The results of operations for the sixnine months ended JuneSeptember 30, 2014 were impacted by the two events described above in the “Recent Developments” section. In the first quarter of 2014, the Company completed the acquisition of Rumson.  For the sixnine months ended JuneSeptember 30, 2014, the Company incurred a total of $1.5 million of merger-related expenses that reduced net income by $962,000, or $0.14$0.13 per diluted share.

49
In the second quarter, the Projuban loan for approximately $3.7 million was fully charged-off and the provision for loan losses was increased by a similar amount due to the apparent fraud by the borrower and its principals. This additional provision reduced net income by $2.2 million, or $0.31 per diluted share, and resulted in a net loss for the second quarter of 2014 and substantially lower net income for the sixnine months ended JuneSeptember 30, 2014 when compared to the sixnine months ended JuneSeptember 30, 2013.

Net income, adjusted for the effect of these events (“Adjusted Net Income”), was $3.4$5.5 million for the sixnine month period ended JuneSeptember 30, 2014, or $0.48$0.77 per diluted share. For the sixnine month period ended JuneSeptember 30, 2013, net income was $2.9$4.4 million, or $0.47$0.72 per diluted share. Adjusted Net Income and Adjusted Net Income per diluted share are non-GAAP measures. A reconciliation of these non-GAAP measures to the reported net income or loss and net income of loss per diluted share is summarized in the table entitled “Reconciliationbelow:


Reconciliation of Non-GAAP Measures” in “Results of Operations, Three Months Ended June 30, 2014 Compared to Three Months Ended June 30, 2013, Summary.”Measures (1)
(Unaudited)
  Nine Months Ended 
(In thousands, except per share
amounts)
 September 30, 2014  September 30, 2013 
Adjusted Net Income:      
       
Net Income $2,340  $4,405 
         
Adjustments :        
         
Provisions for Loan losses  3,656   - 
         
Merger-Related Expenses  1,532   - 
         
Income Tax Effect of Adjustments
(2)
  (2,031)  - 
         
Adjusted Net Income $5,497  $4,405 
         
Adjusted Net Income per Diluted
Share
        
         
Adjusted Net Income $5,497  $4,405 
         
Diluted Shares Outstanding  7,142   6,137 
         
Adjusted Net Income per Diluted
Share
 $0.77  $0.72 
(1)The Company used the non-GAAP financial measures, Adjusted Net Income and Adjusted Net Income per Diluted Share, because the Company believes that it is useful for the users of the financial information to understand the effect on net income of the merger related expenses incurred in the merger with Rumson Fair Haven Bank and Trust Company and the large provision for loan losses recorded as a result of the apparent fraud by a borrower and its principals. These non-GAAP financial measures improve the comparability of the current period results with the results of prior periods. The Company cautions that the non-GAAP financial measures should be considered in addition to, but not as a substitute for, the Company’s GAAP results

(2)Tax effected at an income tax rate of 39.94%, less the impact of non-deductible merger expenses.
50
Earnings Analysis

The Banks’ results of operations depend primarily on net interest income, which is primarily affected by the market interest rate environment, the shape of the U.S. Treasury yield curve, and the difference between the yield on interest-earning assets and the rate paid on interest-bearing liabilities. Other factors that may affect the Bank’s operating results are general and local economic and competitive conditions, government policies and actions of regulatory authorities.

Net Interest Income
 
Net interest income, the Company’s largest and most significant component of net income, is the difference between interest and fees earned on loans and other earning assets, and interest paid on deposits and borrowed funds. This component represented 84.1%81.2% of the Company’s net revenues (defined as net interest income plus non-interest income) for the sixnine month period ended JuneSeptember 30, 2014 and 79.8%80.0% of net revenues for the six-monthnine-month period ended JuneSeptember 30, 2013. Net interest income also depends upon the relative amount of average interest-earning assets, average interest-bearing liabilities, and the interest rate earned or paid on them, respectively.

The following table sets forth the Company’s consolidated average balances of assets and liabilities and shareholders’ equity as well as interest income and expense on related items, and the Company’s average yield or rate for the sixnine month periods ended JuneSeptember 30, 2014 and 2013. The average rates are derived by dividing interest income and expense by the average balance of assets and liabilities, respectively.


Average Balance Sheets with Resultant Interest and Rates
(yields on a tax-equivalent basis)
 Six months ended June 30, 2014 Six months ended June 30, 2013  
Nine months ended September 30,
2014
 
Nine months ended September 30,
2013
 
 
Average
Balance
 Interest 
Average
Yield
 
Average
Balance
 Interest 
Average
Yield
  
Average
Balance
 Interest 
Average
Yield
 
Average
Balance
 Interest 
Average
Yield
 
Assets:                                    
Federal Funds Sold/Short-Term
Investments
 $81,499,665  $100,708   0.25% $108,464,342 $139,342 0.26% $60,616,449  $110,892   0.24% $112,351,662 $221,087 0.26%
Investment Securities:                              
Taxable  182,440,056   2,180,744   2.39%  155,253,462 1,838,797 2.39%  177,880,389   3,141,788   2.36%  156,884,880 2,818,801 2.40%
Tax-exempt (4)  85,521,465   1,731,201   4.05%  65,948,918  1,566,576  4.79%  87,095,642   2,583,648   3.97%  67,610,995  2,418,022  4.77%
Total  267,961,521   3,911,945   2.92%  221,202,380 3,405,373 3.10%  264,976,031   5,725,436   2.89%  224,495,875 5,236,823 3.11%
                              
Loan Portfolio: (1)                              
Construction  67,764,651   2,382,937   7.09%  42,304,486 1,295,504 6.18%  73,497,268   3,791,105   6.90%  42,149,774 1,926,931 6.11%
Residential real estate  42,370,454   838,609   3.99%  11,033,073 288,311 5.50%  44,761,735   1,363,469   4.07%  11,057,154 430,207 5.20%
Home Equity  21,419,673   565,208   5.32%  9,115,975 248,644 5.48%  21,985,052   921,528   5.60%  9,208,816 373,778 5.43%
Commercial and commercial
real estate
  253,561,642   7,473,017   5.94%  141,990,388 5,078,830 7.21%  264,617,694   11,779,442   5.95%  143,067,333 7,838,953 7.33%
Mortgage warehouse lines  100,277,323   2,332,888   4.69%  175,027,892 4,074,237 4.69%  118,959,945   4,022,743   4.52%  166,142,165 5,808,889 4.67%
Installment  271,935   8,198   6.08%  247,069 8,070 6.59%  321,030   13,668   5.69%  254,238 12,284 6.46%
All Other LoansAll Other Loans 20,382,878   507,842   5.02%  44,819,859  623,858  2.81%All Other Loans 21,900,870   802,694   4.90%  41,800,648  928,216  2.97%
Total  506,048,556 14,108,699 5.62%  424,538,742 11,617,453 5.52%  546,043,594 22,694,649 5.56%  413,680,128 17,319,258 5.60%
                                      
Total Interest-Earning Assets  855,509,742  18,121,352  4.27%  754,206,116   15,162,168   4.05%  871,636,074  28,530,977  4.38%  750,527,665   22,777,168   4.05%
                                      
Allowance for Loan Losses  (7,549,774)        (6,789,347)          (7,547,794)       (6,777,671)        
Cash and Due From Bank  16,411,917       22,409,931           15,325,837       18,481,914         
Other Assets  56,382,830       51,299,291           57,087,058       48,636,271         
Total Assets $920,754,715        $821,125,991          $936,501,175        $810,868,179         
                          
Liabilities and Shareholders’ Equity:                          
Money Market and NOW AccountsMoney Market and NOW Accounts$273,839,435 $447,611 0.33% $228,737,438  $401,594   0.35%Money Market and NOW Accounts$279,311,533 $692,097 0.33% $225,215,899  $579,798   0.34%
Savings Accounts  201,985,023 449,518 0.45%  205,378,084   457,986   0.45%  200,283,559 676,075 0.45%  202,754,977   676,979   0.45%
Certificates of Deposit  168,364,496 973,964 1.17%  141,510,623   966,354   1.38%  169,628,119 1,458,167 1.15%  141,258,225   1,411,530   1.34%
Other Borrowed Funds  19,146,190 243,417 2.56%  10,574,309   207,527   3.96%  24,630,579 387,422 2.10%  10,380,769   310,649   4.00%
Trust Preferred Securities  18,557,000  170,780  1.83%  18,557,000   175,644   1.91%  18,557,000  257,314  1.85%  18,557,000   263,981   1.90%
Total Interest-Bearing Liabilities  681,892,144  2,285,290  0.68%  604,757,454   2,209,105   0.74%  692,410,790  3,471,075  0.67%  598,166,870   3,242,937   0.72%
                                      
Net Interest Spread (2)         3.59%          3.31%         3.71%          3.33%
                                      
Demand Deposits  152,619,014       140,566,574           156,999,596       139,542,141         
Other Liabilities  7,292,269       9,826,621           6,859,237       7,394,439         
Total Liabilities  841,803,427       755,150,649           856,269,623       745,103,450         
Shareholders’ Equity  78,951,288       65,975,341           80,231,552       65,764,729         
Total Liabilities and Shareholders’
Equity
 $920,754,715       $821,125,990        $936,501,175       $810,868,179       
Net Interest Margin (3)   $15,836,062 3.73%   $12,953,063 3.46%   $25,059,902  3.84%   $19,534,230  3.48%

(1)Loan origination fees are considered an adjustment to interest income. For the purpose of calculating loan yields, average loan balances include nonaccrual loans with no related interest income and include the average balances of loans held for sale. Please refer to Management’s Discussion and Analysis of Financial Condition and Results of Operation under the heading “Non-Performing Assets” for a discussion of the Bank’s policy with regard to non-accrual loans.
(2)The interest rate spread is the difference between the average yield on interest earning assets and the average rate paid on interest bearing liabilities.
(3)The net interest margin is equal to net interest income divided by average interest earning assets.
(4)Tax-equivalent basis.
 
(1)  Loan origination fees are considered an adjustment to interest income. For the purpose of calculating loan
       yields, average loan balances include nonaccrual loans with no related interest income and includes the average
       balance of loans held for sale. Please refer to Management’s Discussion and Analysis of Financial Condition
       and Results of Operation under the heading “Non-Performing Assets” for a discussion of the Bank’s policy
       with regard to non-accrual loans.
(2)  The interest rate spread is the difference between the average yield on interest earning assets and the average
       rate paid on interest bearing liabilities.
(3)  The net interest margin is equal to net interest income divided by average interest earning assets.
(4)  Tax-equivalent basis.


Average interest earning assets increased by $101,303,626,$121,108,409, or 13.4%16.1%, to $855,509,742$871,636,074 for the sixnine month period ended JuneSeptember 30, 2014 compared to $754,206,116$750,527,665 for the sixnine month period ended JuneSeptember 30, 2013.  The average investment securities portfolio increased by $46,759,141$40,480,156 to $267,961,521$264,976,031 for the sixnine month period ended JuneSeptember 30, 2014 compared to $221,202,380$224,495,875 for the sixnine month period ended JuneSeptember 30, 2013. The average loan portfolio increased by $81,509,814,$132,363,466, or 19.2%32.0%, to $506,048,556$546,043,594 for the sixnine month period ended JuneSeptember 30, 2014 compared to $424,538,742$413,680,128 for the sixnine month period ended JuneSeptember 30, 2013.  

Average interest bearing liabilities increased by $77,134,690,$94,243,920, or 12.8%15.8%, to $681,892,144$692,410,790 for the sixnine month period ended JuneSeptember 30, 2014 from $604,757,454$598,166,870 for the sixnine month period ended JuneSeptember 30, 2013.  

The net interest margin (on a tax-equivalent basis), which is net interest income divided by average interest earning assets, was 3.73%3.84% for the sixnine months ended JuneSeptember 30, 2014 compared to 3.46%3.48% for the sixnine months ended JuneSeptember 30, 2013.

The Company’s net interest income increased on a tax-equivalent basis by $2,883,000,$5,525,672, or 22.3%28.3%, to $15,836,062$25,059,902 for the sixnine months ended JuneSeptember 30, 2014 compared to $12,953,063$19,534,230 for the sixnine months ended JuneSeptember 30, 2013. This increase in the Company’s net interest income and net interest margin for the sixnine months ended JuneSeptember 30, 2014 compared to the corresponding period in 2013 was primarily due to higher yields earned on an increased level of interest-earning assets, combined with lower rates paid on interest-bearing liabilities during the current period. The average yield on interest-earning assets was 4.27%4.38% for the sixnine month period ended JuneSeptember 30, 2014, an increase of 2233 basis points from the yield of 4.05% for the comparable period of 2013. The average rate paid on interest-bearing liabilities for the sixnine months ended JuneSeptember 30, 2014 was 0.68%0.67%, a reduction of 65 basis points from 0.74%0.72% paid for the sixnine months ended JuneSeptember 30, 2013. The average balances of both interest-earning assets and interest-bearing liabilities increased for the six-monthnine-month period ended JuneSeptember 30, 2014 compared to the same period in 2013 due primarily to the merger with Rumson, which was completed on February 7, 2014.
 
Provision for Loan Losses

Management considers a complete review of the following specific factors in determining the provisions for loan losses: historical losses by loan category, the level of non-accrual loans and problem loans as identified through internal review and classification, collateral values and the growth and size of the loan portfolio.

In addition to these factors, management takes into consideration current economic conditions and local real estate market conditions.  Using this evaluation process, the Company recorded a provision for loan losses of $4,599,996$5,249,994 for the sixnine months ended JuneSeptember 30, 2014 compared to a provision of $236,666$776,664 for the sixnine months ended JuneSeptember 30, 2013. The provision for loan losses increased to $4.6$5.2 million in the first sixnine months of 2014 due to the $3.7 million provision for and charge-off of the Projuban loan in the second quarter, other charge-offs of $511,000$1.5 million in the first quarter of 2014 and growth of the loan portfolio. Other charge-offs include $928,000 of gross charge-offs of specific reserves for potential losses that were recorded in prior periods. At JuneSeptember 30, 2014, non-performing loans increased by $1,989,117,$1,537,124, or 31.5%24.3%, to $8,311,073$7,859,080 and the ratio of non-performing loans to total loans was 1.31%1.27% at JuneSeptember 30, 2014 compared to 1.69% at December 31, 2013.  At JuneSeptember 30, 2014, the loan portfolio balance was $635,459,722,$620,395,918, which represented an increase of $261,123,640$247,059,836 compared to the December 31, 2013 loan portfolio balance of $373,336,082.

53
There were no changes in the expected cash flows of the acquired loans from the Rumson merger from the date of merger to JuneSeptember 30, 2014.  No allowance for loan losses was recorded for acquired loans with or without evidence of deteriorated credit quality as of JuneSeptember 30, 2014.  The primary cause of the current period increase in the loan portfolio balance was the $143,714,000approximate $124 million of loans acquired in the Rumson merger and the growth of construction, commercial real estate and commercial loans during the second quarterand third quarters of 2014.

52

Non-Interest Income

Total non-interest income for the sixnine months ended JuneSeptember 30, 2014 was $2,897,014,$4,378,856, a decrease of $159,408,$294,114, or 5.2%6.3%, compared to non-interest income of $3,056,422$4,672,970 for the sixnine months ended JuneSeptember 30, 2013.
 
Service charges on deposit accounts represent a consistent source of non-interest income. Service charge revenues increased to $486,351$753,976 for the sixnine months ended JuneSeptember 30, 2014 from $444,670$675,839 for the sixnine months ended JuneSeptember 30, 2013. This increase was the result of a higher volume of uncollected funds and overdraft fees collected on deposit accounts during the second quarterfirst nine months of 2014 compared to the second quarterfirst nine months of 2013.
 
Gain on sales of loans originated for sale decreased by $204,119,$290,031, or 16.9%15.7%, to $1,006,736$1,562,790 for the sixnine months ended JuneSeptember 30, 2014 when compared to $1,210,855$1,852,821 for the sixnine months ended JuneSeptember 30, 2013.  The Bank sells both residential mortgage loans and loans guaranteed by the Small Business Administration in the secondary market. The resulting volume of residential mortgage loans originated and sold decreased for the first sixnine months of 2014 compared to the first sixnine months of 2013 due to the higher interest rate environment and lower level of mortgage refinancing activity in 2014 than in 2013.2013 which resulted in a $708,000 decline in gains from the sale of residential mortgages. Gains from the sale of SBA loans increased $418,000 to $1.0 million, which partially offset the decline in gains from the sale of residential mortgages.
 
Non-interest income also includes income from bank-owned life insurance (“BOLI”), which amounted to $278,138$422,022 for the sixnine months ended JuneSeptember 30, 2014 compared to $232,366$348,206 for the sixnine months ended JuneSeptember 30, 2013. The increase in income from BOLI was due to the Bank’s acquisition of $4.5 million of BOLI assets in the Rumson merger.
 
The Bank also generates non-interest income from a variety of fee-based services. These include safe deposit box rentals, wire transfer service fees, cash counting fees and Automated Teller Machine fees for non-Bank customers. Decreased customer demand for these services contributed to the decline in the other income component of non-interest income amounting to $1,125,788$1,640,068 for the sixnine months ended JuneSeptember 30, 2014 compared to $1,168,531$1,796,104 for the sixnine months ended JuneSeptember 30, 2013.
 
Non-Interest Expense
 
Non-interest expenses increased by $2,806,572,$4,276,740, or 25.0%25.9%, to $14,051,840$20,775,491 for the sixnine months ended JuneSeptember 30, 2014 from $11,245,268$16,498,751 for the sixnine months ended JuneSeptember 30, 2013.  Excluding merger related expenses of $1,523,153,$1,532,153, non-interest expenses would have been $12,528,687$19,243,338 in the first sixnine months of 2014, which would have been an increase of $1,283,419$2,744,587 when compared to non-interest expenses for the first sixnine months of 2013. Non-interest expenses attributable to the former Rumson operation were approximately $1,120,000 from$1.9 million February 7, 2014 (the date of the closing of the Rumson merger) through JuneSeptember 30, 2014. The following table presents the major components of non-interest expenses for the sixnine months ended JuneSeptember 30, 2014 and 2013.
 
Non-interest Expenses      
  Six months ended June 30, 
  2014  2013 
Salaries and employee benefits $7,272,628  $6,398,104 
Occupancy expenses  1,665,090   1,300,305 
Data processing services  627,809   595,688 
Equipment expense  420,340   499,933 
Marketing  153,547   139,670 
Regulatory, professional and other fees  667,252   466,901 
Merger-related expenses  1,532,153   0 
FDIC insurance expense  334,631   34,687 
Directors’ fees  46,000   54,000 
Other real estate owned expenses  140,041   594,062 
Amortization of intangible assets  224,047   133,984 
Other expenses  968,302   1,027,934 
                         Total $14,051,840  $11,245,268 
         
Non-interest Expenses      
  Nine months ended September 30, 
  2014  2013 
Salaries and employee benefits $11,194,732  $9,458,247 
Occupancy expenses  2,498,903   1,930,227 
Data processing services  941,046   868,960 
Equipment expense  645,212   689,804 
Marketing  240,001   219,326 
Regulatory, professional and other fees  1,066,631   770,015 
Merger-related expenses  1,532,153   0 
FDIC insurance expense  544,631   146,249 
Directors’ fees  67,500   78,000 
Other real estate owned expenses  272,014   770,858 
Amortization of intangible assets  345,076   200,975 
Other expenses  1,427,592   1,366,090 
                         Total $20,775,491  $16,498,751 
         
 
Salaries and employee benefits, which represent the largest portion of non-interest expenses, increased by $874,524,$1,736,485, or 13.7%18.4%, to $7,272,628$11,194,732 for the sixnine months ended JuneSeptember 30, 2014 compared to $6,398,104$9,458,247 for the sixnine months ended JuneSeptember 30, 2013. Of this increase, $384,000approximately $744,000 was due to salary and benefits for former Rumson employees that were retained by the Bank. The balance of the increase in salaries and employee benefits for the sixnine months ended JuneSeptember 30, 2014 was a result of an increase in the number of employees, regular merit increases and increased health care costs. As a result of the Rumson merger completed on February 7, 2014, staffing levels increased to 179177 full time equivalent employees at JuneSeptember 30, 2014 as compared to 156150 full time equivalent employees at JuneSeptember 30, 2013.
 
Occupancy expenses increased by $364,785,$568,676, or 28.1%29.5%, to $1,665,090$2,498,903 for the sixnine months ended JuneSeptember 30, 2014 compared to $1,300,305$1,930,227 for the sixnine months ended JuneSeptember 30, 2013.  The current period increase resulted primarily from increased depreciation, property taxes and maintenance costs of the five new branch office locations acquired as a result of the Rumson merger.
 
The cost of data processing services increased to $627,809$941,046 for the sixnine months ended JuneSeptember 30, 2014 from $595,688$868,960 for the sixnine months ended JuneSeptember 30, 2013 as additional expenses were incurred to support and maintain the five new locations acquired as a result of the Rumson merger within the Bank’s information technology systems and the cost of processing a higher level of loan and deposit transactions.
 
Equipment expense decreased by $79,593,$44,592, or 15.9%6.5%, to $420,340$645,212 for the sixnine months ended JuneSeptember 30, 2014 compared to $499,933$689,804 for the sixnine months ended JuneSeptember 30, 2013 primarily due to non-recurring costs associated with the expansion of mobile banking capabilities incurred during the first sixnine months of 2013.
 
Regulatory, professional and other fees increased by $296,616 to $1,066,631 for the nine months ended September 30, 2014 compared to $770,015 for the nine months ended September 30, 2013.  During the first sixnine months of 2014, the Company incurred higher professional fees in connection with lending, collections other general corporate matters and post-merger related matters.
During the first nine months of 2014, the Company incurred merger-related expenses of $1,532,153 in connection with the Rumson transaction. These pre-tax expenses consisted primarily of (1) change-in-control payments of $883,000; (2) data processing contract termination payments of $228,000; (3) investment banker fees of $207,000; (4) legal fees of $94,430; and (5) severance payments of $119,723.
 
Regulatory, professional and other fees increased by $200,351 to $667,252 for the six months ended June 30, 2014 compared to $466,901 for the six months ended June 30, 2013.  During the first six months of 2014, the Company incurred higher professional fees in connection with lending, collections other general corporate matters and post-merger related matters.
FDIC insurance expense increased to $334,631$554,631 for the sixnine months ended JuneSeptember 30, 2014 compared to $34,687$146,249 for the sixnine months ended JuneSeptember 30, 2013 as a result of the assumption of deposits upon completion of the Rumson merger, which accounted for approximately $90,000 of the increase. The balance of the increase is due to changes in the insurance premium calculation in 2013 mandated by the Dodd-Frank Act.
 
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Other real estate owned expenses decreased by $454,021$498,844 to $140,041$272,014 for the sixnine months ended JuneSeptember 30, 2014 compared to $594,062$770,858 for the sixnine months ended JuneSeptember 30, 2013 as the Company incurred a lower level of property tax, maintenance and other costs on fewer repossessed properties held as other real estate owned during the first sixnine months of 2014 compared with the same period in 2013. At JuneSeptember 30, 2014, the Company held one property with a value of $1,860,000$1,748,455 as other real estate owned compared to eightfour properties with an aggregate value of $7,926,851$2,808,554 at JuneSeptember 30, 2013.
 
Amortization of intangible assets increased $90,063$144,101 to $224,047$345,076 during the sixnine months ended JuneSeptember 30, 2014 when compared to the corresponding period in 2013 due to the increase inamortization of the core deposit intangible assetsasset of $1,189,000 as recorded in the Rumson merger.
 
All other expenses decreasedincreased to $968,302$1,427,591 for the sixnine months ended JuneSeptember 30, 2014 compared to $1,027,934$1,366,090 for the sixnine months ended JuneSeptember 30, 2013 as current year decreasesincreases occurred primarily in correspondent bank fees, maintenance agreements and ATM operating expenses.  All other expenses are also comprised of a variety of operating expenses and fees, as well as expenses associated with lending activities.
 
Income Taxes
 
The pre-tax lossPre-tax income was $480,230$2,575,332 for the sixnine months ended JuneSeptember 30, 2014 compared to pre-tax income of $4,019,473$6,147,562 for the sixnine months ended JuneSeptember 30, 2013.
 
The Company recorded an income tax benefitexpense of $682,024$235,459 for the sixnine months ended JuneSeptember 30, 2014 compared to income tax expense of $1,137,125$1,741,974 for the sixnine months ended JuneSeptember 30, 2013. The effective tax rate was a 142% tax benefit9.1% for the sixnine months ended JuneSeptember 30, 2014 due principally to the lower level of pre-tax lossincome and the effect of tax exempt interest income. The effective tax rate was 28.3% for the sixnine months ended JuneSeptember 30, 2013.
 
Financial Condition
 
JuneSeptember 30, 2014 Compared with December 31, 2013
 
Total consolidated assets at JuneSeptember 30, 20132014 were $985,970,231,$954,304,550, representing an increase of $243,645,144,$211,979,463, or 32.8%28.6%, from total consolidated assets of $742,325,087 at December 31, 2013.  The increase in assets was primarily attributable to the merger with Rumson, which was completed on February 7, 2014. The merger was accounted for under the acquisition method of accounting and, accordingly, assets acquired, liabilities assumed and consideration exchanged were recorded at their fair values as of the acquisition date. Included in the acquisition were the assumption of deposit liabilities of $189.5 million, the acquisition of cash and cash equivalents of $36.0 million, securities available for sale of $30.0 million and loans of $143.7 million. The Bank recorded goodwill of approximately $7.8$7.7 million and a core deposit intangible asset of approximately $1.1$1.2 million as a result of the acquisition.
 
Cash and Cash Equivalents
 
Cash and cash equivalents at JuneSeptember 30, 2014 totaled $23,149,148$20,371,823 compared to $69,278,771 at December 31, 2013. Cash and cash equivalents at JuneSeptember 30, 2014 consisted entirely of cash and due from banks of $23,149,148.$20,371,823. The corresponding balances at December 31, 2013 were cash and due from banks of $69,267,345 and short term investments of $11,426, respectively. The current period decrease was primarily due to the cash outflow to fund loan demand which occurred primarily during the second quarterand third quarters of 2014. To the extent that the Bank did not utilize the funds for loan originations, or securities purchases or repayment of borrowings, the cash inflows accumulated in cash and cash equivalents.
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Loans Held for Sale
 
Loans held for sale at JuneSeptember 30, 2014 amounted to $9,877,863were $9,459,172 compared to $10,923,689 at December 31, 2013. As indicatedThe amount of loans held for sale varies from period to period due to changes in the Consolidated Statementsamount and timing of Cash Flows, the amountsales of residential mortgage loans originated for sale was $39,760,548 for the six months ended June 30, 2014 compared to $83,349,024 for the six months ended June 30, 2013. The increase in long-term market interest rates that occurred during late 2013 and continued into 2014 reduced the demand for mortgage loan financings during the first half of 2014. As a result, the balance of Loans Held for Sale decreased accordingly.loans.
 
Investment Securities
 
Investment securities represented 27.0%26.4% of total assets at JuneSeptember 30, 2014 and 33.9% of total assets at December 31, 2013. Total investment securities increased $14,181,380, or 5.6%,$126,537 to $266,197,002$252,142,159 at JuneSeptember 30, 2014 from $252,015,622 at December 31, 2013 primarily as a result of the Rumson merger.2013.  Purchases of investments totaled $14,229,098$14.2 million during the sixnine months ended JuneSeptember 30, 2014, and proceeds from calls, sales and repayments totaled $25,849,824$46 million during this period. Approximately $30 million of investment securities were acquired in the period.
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Rumson merger.
 
Securities available for sale are investments that may be sold in response to changing market and interest rate conditions or for other business purposes.  Activity in this portfolio is undertaken primarily to manage liquidity and interest rate risk and to take advantage of market conditions that create more economically attractive returns.  At JuneSeptember 30, 2014, securities available for sale totaled $110,878,312,$103,959,466, which is an increase of $11,679,505,$4,760,659, or 11.8%4.8%, from securities available for sale totaling $99,198,807 at December 31, 2013.
 
At JuneSeptember 30, 2014, the securities available for sale portfolio had net unrealized losses of $708,448$231,762 compared to net unrealized losses of $2,992,624 at December 31, 2013.  These unrealized losses are reflected, net of tax, in shareholders’ equity as a component of accumulated other comprehensive income.
 
Securities held to maturity, which are carried at amortized historical cost, are investments for which there is the positive intent and ability to hold to maturity.  At JuneSeptember 30, 2014, securities held to maturity were $155,318,690, an increase$148,182,693, a decrease of $2,501,075,$4,634,122, from $152,816,815 at December 31, 2013.  The fair value of the held to maturity portfolio at JuneSeptember 30, 2014 was $159,434,845.$152,466,765.
 
Loans
 
The loan portfolio, which represents our largest asset, is a significant source of both interest and fee income. Elements of the loan portfolio are subject to differing levels of credit and interest rate risk. The Bank’s primary lending focus continues to be mortgage warehouse lines, construction loans, commercial loans, owner-occupied commercial mortgage loans and commercial real estate mortgage loans on income producing assets.
 
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The following table represents the components of the loan portfolio at JuneSeptember 30, 2014 and December 31, 2013.
 

 
Loan Portfolio Composition June 30, 2014  December 31, 2013 
Component Amount  %  Amount  % 
Construction loans $78,990,549   12% $51,002,172   14%
Residential real estate loans  50,086,532   8%  13,764,178   4%
Commercial business  107,013,541   17%  82,348,055   22%
Commercial real estate  191,955,036   30%  98,389,730   26%
Mortgage warehouse lines  181,911,743   29%  116,951,357   31%
Loans to individuals  24,615,035   4%  9,766,114   3%
Deferred loan costs  681,713   0%  943,950   0%
All other loans  205,573   0%  170,526   0%
  $635,459,722   100% $373,336,082   100%
Loan Portfolio Composition
 
  September 30, 2014  December 31, 2013 
Component Amount  %  Amount  % 
Construction loans $88,547,583   14% $51,002,172   14%
Residential real estate loans  48,732,051   8%  13,764,178   4%
Commercial business  109,053,429   18%  82,348,055   22%
Commercial real estate  192,367,844   31%  98,389,730   26%
Mortgage warehouse lines  157,333,717   25%  116,951,357   31%
Loans to individuals  23,363,042   4%  9,766,114   3%
Deferred loan costs  800,548   0%  943,950   0%
All other loans  197,704   0%  170,526   0%
  $620,395,918   100% $373,336,082   100%
                 
The loan portfolio increased by $262,123,640,$247,059,836, or 70.2%66.2%, to $635,459,722$620,395,918 at JuneSeptember 30, 2014 compared to $373,336,082 at December 31, 2013.  The primary reasonreasons for thisthe increase in the loan portfolio waswere the Rumson merger which was completed on February 7, 2014 and added approximately $143.7$124 million in loans to the Bank’s existing loan portfolio, principally in the residential real estate and commercial real estate components. In addition, internally generatedcomponents and the origination of approximately $123 million of new loans increased $104 million duringin the second quarterand third quarters of 2014.

Commercial and commercial real estate loans totaled $298,968,577$301,421,273 at JuneSeptember 30, 2014, an increase of $118,230,792$120,683,488 when compared to $180,737,785 at December 31, 2013. Commercial loans consist primarily of loans to small and middle market businesses and are typically working capital loans used to finance inventory, receivables or equipment needs. These loans are generally secured by business assets of the commercial borrower. The overall increase was due principally toExcluding the effect of the Rumson merger; however, construction,merger, commercial and commercial real estate loans also increased a combined $26$46.8 million duringin the second quarter of 2014.and third quarters.
 
Construction loans, excluding loans acquired in the Rumson merger, increased $29.3 million, reflecting increased real estate development activity of our customers.
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The mortgage warehouse lines component of the loan portfolio increased by $64,960,386,$40,382,360, or 55.5%34.5%, to $181,911,743$157,333,717 compared to $116,951,357 at December 31, 2013, reflecting the growth in residential mortgages originated for sale by our mortgage banking customers and the seasonality of the residential home purchases in our markets. The principal home buying season occurs in general from April through October.

The Bank’s Mortgage Warehouse Funding Group offers revolving lines of credit that are available to licensed mortgage banking companies (the “Warehouse Line of Credit”). The Warehouse Line of Credit is used by the mortgage banker to originate one-to-four family residential mortgage loans that are pre-sold to the secondary mortgage market, which includes state and national banks, national mortgage banking firms, insurance companies and government-sponsored enterprises, including the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation and others.  On average, an advance under the Warehouse Line of Credit remains outstanding for a period of less than 30 days, with repayment coming directly from the sale of the loan into the secondary mortgage market.  Interest and a transaction fee are collected by the Bank at the time of repayment.  Additionally, customers of the Warehouse Line of Credit are required to maintain deposit relationships with the Bank that, on average, represent 10% to 15% of the loan balances.

The ability of the Company to enter into larger loan relationships and management’s philosophy of relationship banking are key factors in the Company’s strategy for loan growth.  The ultimate collectability of the loan portfolio and recovery of the carrying amount of real estate are subject to changes in the Company’s market region’s economic environment and real estate market.
 
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Non-Performing Assets
 
Non-performing assets consist of non-performing loans and other real estate owned. Non-performing loans are composed of (1) loans on a non-accrual basis and (2) loans which are contractually past due 90 days or more as to interest and principal payments but which have not been classified as non-accrual. Included in non-accrual loans are loans whose terms have been restructured to provide a reduction or deferral of interest and/or principal because of deterioration in the financial position of the borrower and which have not performed in accordance with the restructured terms. 

The Bank’s policy with regard to non-accrual loans is that generally, loans are placed on a non-accrual status when they are 90 days past due, unless these loans are well secured and in the process of collection or, regardless of the past due status of the loan, when management determines that the complete recovery of principal or interest is in doubt.  Consumer loans are generally charged off after they become 120 days past due.  Subsequent payments on loans in non-accrual status are credited to income only if collection of principal is not in doubt.
 
Non-performing loans increased by $1,989,117$1,537,124 to $8,311,073$7,859,080 at JuneSeptember 30, 2014 from $6,321,956 at December 31, 2013.2013, but declined from $8,311,073 at June 30, 2014.  The major segments of non-accrual loans consist of commercial real estate loans and commercial loans, which are in the process of collection. The table below sets forth non-performing assets and risk elements in the Bank’s portfolio for the periods indicated.

As the table demonstrates, non-performing loans to total loans decreased to 1.31%1.27% at JuneSeptember 30, 2014 from 1.69% at December 31, 2013 principallyprimarily due to the increase in loans as a result of the Rumson merger.  Loanmerger and the internal growth of loans during 2014. At the date of this report, loan quality is considered to be sound. This was accomplished through quality loan underwriting, a proactive approach to loan monitoring and aggressive workout strategies.

        
Non-Performing Assets and Loans September 30,  December 31, 
  2014  2013 
Non-Performing loans:      
     Loans 90 days or more past due and still accruing $320,315  $- 
     Non-accrual loans  7,538,765   6,321,956 
     Total non-performing loans  7,859,080   6,321,956 
Other real estate owned  1,748,455   2,136,341 
Other repossessed asset  66,404   0 
     Total non-performing assets  9,673,939   8,458,297 
Performing troubled debt restructurings  3,927,889   3,858,796 
     Performing troubled debt restructurings and total non-performing assets $13,601,828  $12,317,093 
         
Non-performing loans to total loans  1.27%  1.69%
Non-performing loans to total loans excluding mortgage
         warehouse lines
  1.70%  2.47%
Non-performing assets to total assets  1.01%  1.14%
Non-performing assets to total assets excluding mortgage
         warehouse lines
  1.21%  1.35%
         
Total non-performing assets and performing troubled debt restructurings to
         total assets
  1.43%  1.66%
         
 
        
Non-Performing Assets and Loans June 30,  December 31, 
  2014  2013 
Non-Performing loans:      
     Loans 90 days or more past due and still accruing $-  $- 
     Non-accrual loans  8,311,073   6,321,956 
     Total non-performing loans  8,311,073   6,321,956 
Other real estate owned  1,860,000   2,136,341 
Other repossessed asset  66,404   0 
     Total non-performing assets  10,237,477   8,458,297 
Performing troubled debt restructurings  4,011,765   3,858,796 
     Performing troubled debt restructurings and total non-performing assets $14,249,242  $12,317,093 
         
Non-performing loans to total loans  1.31%  1.69%
Non-performing loans to total loans excluding mortgage
         warehouse lines
  1.83%  2.47%
Non-performing assets to total assets  1.04%  1.14%
Non-performing assets to total assets excluding mortgage
         warehouse lines
  1.27%  1.35%
         
Total non-performing assets and performing troubled debt restructurings to
         total assets
  1.45%  1.66%
         
 
Non-performing assets increased by $1,779,180$1,215,642 to $10,237,477$9,673,939 at JuneSeptember 30, 2014 from $8,458,297 at December 31, 2013.2013, but declined from $10,237,477 at June 30, 2014.  Other real estate owned was $1,860,000$1,748,455 and other repossessed assets totaled $66,404 at JuneSeptember 30, 2014.  Other real estate owned was $2,136,341 at December 31, 2013.2013 and $1,860,000 at June 30, 2014. 
 
At JuneSeptember 30, 2014, the Bank had 79 loans totaling $4,381,679$4,288,699 which were troubled debt restructurings.  Two of these loans totaling $369,914$360,810 are included in the above table as non-accrual loans; the remaining fourseven loans totaling $4,011,765$3,927,889 are considered performing.
 
As provided by ASC 310-30, the excess of cash flows expected at acquisition over the initial investment in the purchase of a credit impaired loan is recognized as interest income over the life of the loan. Accordingly, Rumson loans acquired with evidence of deteriorated credit quality of $1,650,366$1,246,640 at JuneSeptember 30, 2014 were not classified as non-performing loans.
 
Non-performing assets represented 1.04%1.01% of total assets at JuneSeptember 30, 2014 and 1.14% at December 31, 2013.
 
Management takes a proactive approach in addressing delinquent loans. The Company’s President and Chief Executive Officer meets weekly with all loan officers to review the status of credits past-due 10 days or more. An action plan is discussed for delinquent loans to determine the steps necessary to induce the borrower to cure the delinquency and restore the loan to a current status. Also, delinquency notices are system generated when loans are five days past-due and again at 15 days past-due.
 
In most cases, the Company’s collateral is real estate. If the collateral is foreclosed upon, the real estate is carried at fair market value less the estimated selling costs. The amount, if any, by which the recorded amount of the loan exceeds the fair market value of the collateral, less estimated selling costs, is a loss which is charged to the allowance for loan losses at the time of foreclosure or repossession. Resolution of a past-due loan can be delayed if the borrower files a bankruptcy petition because a collection action cannot be continued unless the Company first obtains relief from the automatic stay provided by the bankruptcy code.
 
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Allowance for Loan Losses and Related Provision
 
The allowance for loan losses is maintained at a level sufficient to absorb estimated credit losses in the loan portfolio as of the date of the financial statements.  The allowance for loan losses is a valuation reserve available for losses incurred or inherent in the loan portfolio and other extensions of credit.  The determination of the adequacy of the allowance for loan losses is a critical accounting policy of the Company.
 
The Company’s primary lending emphasis is the origination of commercial and commercial real estate loans  and mortgage warehouse lines of credit.  Based on the composition of the loan portfolio, the inherent primary risks are deteriorating credit quality, a decline in the economy, and a decline in New Jersey real estate market values.  Any one, or a combination, of these events may adversely affect the loan portfolio and may result in increased delinquencies, loan losses and increased future provision levels.
 
All, or part, of the principal balance of commercial, and commercial real estate loans, and construction loans are charged off against the allowance as soon as it is determined that the repayment of all, or part, of the principal balance is highly unlikely.  Consumer loans are generally charged off no later than 120 days past due on a contractual basis, earlier in the event of bankruptcy, or if there is an amount deemed uncollectible.  Because all identified losses are immediately charged off, no portion of the allowance for loan losses is restricted to any individual loan or groups of loans, and the entire allowance is available to absorb any and all loan losses.
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Management reviews the adequacy of the allowance on at least a quarterly basis to ensure that the provision for loan losses has been charged against earnings in an amount necessary to maintain the allowance at a level that is adequate based on management’s assessment of probable estimated losses. The Company’s methodology for assessing the adequacy of the allowance for loan losses consists of several key elements and is consistent with GAAP and interagency supervisory guidance. The allowance for loan losses methodology consists of two major components. The first component is an estimation of losses associated with individually identified impaired loans, which follows Accounting Standards Codification (ASC) Topic 310 (formerly SFAS 114). The second major component is an estimation of losses under ASC Topic 450 (formerly SFAS 5), which provides guidance for estimating losses on groups of loans with similar risk characteristics. The Company’s methodology results in an allowance for loan losses which includes a specific reserve for impaired loans, an allocated reserve, and an unallocated portion.

When analyzing groups of loans under ASC 450, the Bank follows the Interagency Policy Statement on the Allowance for Loan and Lease Losses.  The methodology considers the Company’s historical loss experience adjusted for changes in trends, conditions, and other relevant factors that affect repayment of the loans as of the evaluation date. These adjustment factors, known as qualitative factors, include:

 ·Delinquencies and nonaccruals
 ·Portfolio quality
 ·Concentration of credit
 ·Trends in volume of loans
 ·Quality of collateral
 ·Policy and procedures
 ·Experience, ability, and depth of management
 ·Economic trends – national and local
 ·External factors – competition, legal and regulatory

The methodology includes the segregation of the loan portfolio into loan types with a further segregation into risk rating categories, such as special mention, substandard, doubtful and loss. This allows for an allocation of the allowance for loan losses by loan type; however, the allowance is available to absorb any loan loss without restriction.  Larger balance, non-homogeneous loans representing significant individual credit exposures are evaluated individually through the internal loan review process.  It is this process that produces the watch list.  The borrower’s overall financial condition, repayment sources, guarantors and value of collateral, if appropriate, are evaluated. Based on these reviews, an estimate of probable losses for the individual larger-balance loans are determined, whenever possible, and used to establish specific loan loss reserves.  In general, for non-homogeneous loans not individually assessed, and for homogeneous groups of loans, such as residential mortgages and consumer credits, the loans are collectively evaluated based on delinquency status, loan type, and historical losses. These loan groups are then internally risk rated.
 
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The watch list includes loans that are assigned a rating of special mention, substandard, doubtful and loss.  Loans classified as special mention have potential weaknesses that deserve management’s close attention.  If uncorrected, the potential weaknesses may result in deterioration of the repayment prospects.  Loans classified substandard have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt.  They include loans that are inadequately protected by the current sound net worth and paying capacity of the obligor or of the collateral pledged, if any.  Loans classified doubtful have all the weaknesses inherent in loans classified substandard with the added characteristic that collection or liquidation in full, on the basis of current conditions and facts, is highly improbable.  Loans rated as doubtful in whole, or in part, are placed in nonaccrual status.  Loans classified as a loss are considered uncollectible and are charged-off against the allowance for loan losses.
 
The specific allowance for impaired loans is established for specific loans which have been identified by management as being impaired. These loans are considered to be impaired primarily because the loans have not performed according to payment terms and there is reason to believe that repayment of the loan principal in whole, or in part, is unlikely. The specific portion of the allowance is the total amount of potential unconfirmed losses for these individual impaired loans. To assist in determining the fair value of loan collateral, the Company often utilizes independent third party qualified appraisal firms which in turn employ their own criteria and assumptions that may include occupancy rates, rental rates, and property expenses, among others.
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The second category of reserves consists of the allocated portion of the allowance.  The allocated portion of the allowance is determined by taking pools of outstanding loans that have similar characteristics and applying historical loss experience for each pool.  This estimate represents the potential unconfirmed losses within the portfolio. Individual loan pools are created for commercial and commercial real estate loans, construction loans, warehouse lines of credit, and various types of loans to individuals.  The historical estimation for each loan pool is then adjusted to account for current conditions, current loan portfolio performance, loan policy or management changes, or any other qualitative factor which may cause future losses to deviate from historical levels.
 
The Company also maintains an unallocated allowance.  The unallocated allowance is used to cover any factors or conditions which may cause a potential loan loss but are not specifically identifiable.  It is prudent to maintain an unallocated portion of the allowance because no matter how detailed an analysis of potential loan losses is performed, these estimates by definition lack precision.  Management must make estimates using assumptions and information that is often subjective and changing rapidly.
 
The following discusses the risk characteristics of each of our loan portfolio segments: commercial, mortgage warehouse lines of credit, and consumer.
 
Commercial

The Company’s primary lending emphasis is the origination of commercial and commercial real estate loans. Based on the composition of the loan portfolio, the inherent primary risks are deteriorating credit quality, a decline in the economy, and a decline in New Jersey real estate market values. Any one or a combination of these events may adversely affect the loan portfolio and may result in increased delinquencies, loan losses and increased future provision levels.

Mortgage Warehouse Lines of Credit

The Company’s Mortgage Warehouse Group provides revolving lines of credit that are available to licensed mortgage banking companies. The Warehouse Line of Credit is used by the mortgage banker to originate one-to-four family residential mortgage loans that are pre-sold to the secondary mortgage market, which includes state and national banks, national mortgage banking firms, insurance companies and government-sponsored enterprises, including the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation and others. On average, an advance under the Warehouse Line of Credit remains outstanding for a period of less than 30 days, with repayment coming directly from the sale of the loan into the secondary mortgage market. Interest and a transaction fee are collected by the Bank at the time of repayment. Additionally, customers of the Warehouse Lines of Credit are required to maintain deposit relationships with the Bank that, on average, represent 10% to 15% of the loan balances.

As a separate segment of the total portfolio, the warehouse loan portfolio is individually analyzed as a whole for allowance for loan losses purposes. Warehouse Lines of Credit are subject to the same inherent risks as other commercial lending, but the overall degree of risk differs. While the Company’s loss experience with this type of lending has been non-existent since the product was introduced in 2008; there are other risks unique to this lending that still must be considered in assessing the adequacy of the allowance for loan losses. These unique risks may include, but are not limited to, (i) credit risks relating to the mortgage bankers that borrow from us, (ii) the risk of intentional misrepresentation or fraud by any of such mortgage bankers, (iii) changes in the market value of mortgage loans originated by the mortgage banker, the sale of which is the expected source of repayment of the borrowings under a warehouse line of credit, due to changes in interest rates during the time in warehouse, or (iv) unsalable or impaired mortgage loans so originated, which could lead to decreased collateral value and the failure of a purchaser of the mortgage loan to purchase the loan from the mortgage banker.

These factors, along with the other qualitative factors such as economic trends, concentrations of credit, trends in the volume of loans, portfolio quality, delinquencies and nonaccruals, are also considered and may have positive or negative effects on the allocated allowance. The aggregate amount resulting from the application of these qualitative factors determines the overall risk for the portfolio and results in an allocated allowance for warehouse lines of credit.

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Consumer

The Company’s consumer loan portfolio segment is comprised of residential real estate loans, home equity loans and other loans to individuals. Individual loan pools are created for the various types of loans to individuals.

In general, for homogeneous groups such as residential mortgages and consumer credits, the loans are collectively evaluated based on delinquency status, loan type, and historical losses. These loan groups are then internally risk rated.

The Company considers the following credit quality indicators in assessing the risk in the loan portfolio:

 ·Consumer credit scores
 ·Internal credit risk grades
 ·Loan-to-value ratios
 ·Collateral
 ·Collection experience

·
The following table presents, for the periods indicated, an analysis of the allowance for loan losses and other related data.
 
Allowance for Loan Losses                  
 
Six Months Ended
June 30,
  
Year Ended
December 31,
  
Six Months Ended
June 30,
  September 30,  December 31,  September 30, 
 2014  2013  2013  2014  2013  2013 
Balance, beginning of period $7,038,571  $7,151,212  $7,151,212  $7,038,571  $7,151,212  $7,151,212 
                        
Provision charged to operating expenses  4,599,996   1,076,662   236,666   5,249,994   1,076,662   776,664 
                        
Loans charged off :                        
Construction loans  -   (561,993)  (561,993)   -   (561,993)  (561,993) 
Residential real estate loans  -   -   -   (15,015)  -   - 
Commercial and commercial real estate  (4,224,741)  (554,827)  (483,966)   (5,217,947)  (554,827)  (486,034) 
Loans to individuals  -   (91,920)  (90,865)  -   (91,920)  (90,865)
Lease financing  -   -   -   -   -   - 
All other loans  -   -   -   -   -   - 
  (4,224,741)  (1,208,740)  (1,136,824)  (5,232,962)  (1,208,739)  (1,138,892)
Recoveries                        
Construction loans  -   417   417   -   417   417 
Residential real estate loans  -   -   -   -   -   - 
Commercial and commercial real estate  4,553   19,020   17,469   52,269   19,020   17,947 
Loans to individuals  -   -   -   -   -   12,832 
Lease financing  -   -   -   -   -   - 
All other loans  -   -   -   -   -   - 
  4,553   19,437   17,886   52,269   19,437   31,196 
                        
Net (charge offs) / recoveries  (4,220,188)  (1,189,303)  (1,118,938)  (5,180,693)  (1,189,302)  (1,107,696)
                        
Balance, end of period $7,418,379  $7,038,571  $6,268,940  $7,107,872  $7,038,571  $6,820,180 
                        
Loans :                        
At period end $635,459,722  $373,336,082  $407,482,758  $620,395,918  $373,336,082  $362,549,473 
Average during the period  506,048,556   248,126,605   424,538,742   539,261,215   248,126,605   386,475,158 
Net charge offs to average loans outstanding  (0.83%)  (0.48%)  (0.26%)  (0.96%)  (0.48%)  (0.29%)
            
Allowance for loan losses to :                        
Total loans at period end  1.17%  1.89%  1.54%  1.15%  1.89%  1.88%
Total loans at period end excluding mortgage warehouse
lines
  1.44%  2.52%  2.41%  1.34%  2.52%  2.99%
Non-performing loans  89.26%  111.34%  474.32%  90.44%  111.34%  88.02%
                        

 
The following table represents the allocation of the allowance for loan losses (ALL”) among the various categories of loans and certain other information as of JuneSeptember 30, 2014 and December 31, 2013, respectively.  The allocation is made for analytical purposes and is not necessarily indicative of the categories in which future losses may occur. The total allowance is available to absorb losses from any segment of loans.
 
   
      
 June 30, 2014  December 31, 2013  September 30, 2014  December 31, 2013 
 Amount  
ALL
as a %
of Loans
  
% of
Loans
  Amount  
ALL
as a %
of Loans
  
% of
Loans
  Amount  
ALL
as a %
of Loans
  
% of
Loans
  Amount  
ALL
as a %
of Loans
  
% of
Loans
 
                                    
Commercial and commercial real
estate
 $5,153,849   1.72%  47% $4,293,499   2.38%  48% $4,615,974   1.53%  49% $4,293,499   2.38%  48%
Construction loans  950,014   1.20%  12%  1,205,267   2.36%  14%  1,099,053   1.24%  14%  1,205,267   2.36%  14%
Residential real estate loans  172,853   0.35%  8%  164,673   1.20%  4%  202,146   0.41%  8%  164,673   1.20%  4%
Consumer and other  92,397   0.37%  4%  111,032   1.14%  3%  93,000   0.39%  4%  111,032   1.14%  3%
Subtotal  6,369,113   1.41%  71%  5,774,471   2.26%  69%  6,010,173   1.30%  75%  5,774,471   2.26%  69%
Mortgage warehouse lines  909,559   0.50%  29%  584,757   0.50%  31%  786,669   0.50%  25%  584,757   0.50%  31%
Unallocated reserves  139,707   -   -   679,343   -   -   311,030   -   -   679,343   -   - 
Total $7,418,379   1.17%  100% $7,038,571   1.89%  100% $7,107,872   1.15%  100% $7,038,571   1.89%  100%

The Company recorded a provision for loan losses of $4,599,996$5,249,994 for the sixnine months ended JuneSeptember 30, 2014 compared to a loan loss provision of $236,666$776,664 for the sixnine months ended JuneSeptember 30, 2013.  Net charge offs/recoveries amounted to a net charge-off of $4,220,188$5,180,693 for the sixnine months ended JuneSeptember 30, 2014.  The higher provision for loan losses and net charge offs for the sixnine months ended JuneSeptember 30, 2014 resulted primarily from the provision and charge-off of the Projuban loan disclosedwhich was described earlier in the “Recent Developments” section. In addition, net charge-offs were $960,000 in the third quarter of 2014 and included $928,000 of gross charge-offs of specific reserves for potential loan losses that were recorded in prior periods. These charge-offs were recorded for loans in the process of foreclosure or resolution for which management determined the loss would be realized.

At JuneSeptember 30, 2014, the allowance for loan losses was $7,418,379$7,107,872 compared to $7,038,571 at December 31, 2013, an increase of $379,808.$69,301.  The ratio of the allowance for loan losses to total loans was 1.17%1.15% and 1.89%, respectively, at JuneSeptember 30, 2014 and December 31, 2013.  The allowance for loan losses declined to 1.17%1.15% of total loans at JuneSeptember 30, 2014 due primarily to the recording of $143,714,000 of loans at fair value that were acquired in the Rumson merger. No allowance for loan losses was recorded at the date of acquisition or at JuneSeptember 30, 2014 with respect to these loans. The allowance for loan losses as a percentage of non-performing loans was 89.26%90.44% at JuneSeptember 30, 2014 compared to 111.34% at December 31, 2013. Management believes that the quality of the loan portfolio remains sound considering the economic climate in the State of New Jersey and that the allowance for loan losses is adequate in relation to credit risk exposure levels.
 
Deposits
 
Deposits, which include demand deposits (interest bearing and non-interest bearing), savings deposits and time deposits, are a fundamental and cost-effective source of funding.  The flow of deposits is influenced significantly by general economic conditions, changes in market interest rates and competition.  The Bank offers a variety of products designed to attract and retain customers, with the Bank’s primary focus being on the building and expanding of long-term relationships.
 
 
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The following table summarizes deposits at JuneSeptember 30, 2014 and December 31, 2013.

 June 30, 2014  December 31, 2013  September 30, 2014  December 31, 2013 
Demand            
Non-interest bearing $166,866,851  $121,891,752  $172,185,545  $121,891,752 
�� Interest bearing  282,864,619   200,737,912 
Interest bearing  283,403,448   200,737,912 
Savings  197,119,687   180,002,971   196,578,527   180,002,971 
Time  173,016,172   135,919,395   171,397,226   135,919,395 
 $819,867,329  $638,552,030  $823,564,746  $638,552,030 


At JuneSeptember 30, 2014, total deposits were $819,867,329,$823,564,746, an increase of $181,315,299$185,012,716 or 28.4%29.0%, from $638,552,030 at December 31, 2013.  This increase was primarily due to the inflow of deposits resulting from the Rumson merger. On the closing date of February 7, 2014 for the Rumson merger, the Company assumed approximately $189.5 million in total deposits. Of these deposits, $179$176 million were retained at JuneSeptember 30, 2014.

Borrowings
 
Borrowings are mainly comprised of Federal Home Loan Bank (“FHLB”) borrowings and overnight funds purchased.  These borrowings are primarily used to fund asset growth not supported by deposit generation.  The balance of borrowings was $59,888,511$20,798,473 at JuneSeptember 30, 2014, consisting solely of long-term FHLB borrowing of $20,888,511 and overnight borrowings of $39,000,000.borrowings. The corresponding balance of borrowings at December 31, 2013 was $10,000,000, consisting solely of long-term FHLB borrowings.  Two long term FHLB fixed rate convertible advances were assumed by the Bank as a result of the Rumson merger. These two advances total $10,000,000 and bear interest at 4.11% and 4.63%, respectively. As a result of acquisition accounting, the two advances were fair valued and a premium of $1,030,000 was assigned. The premium is amortized over the remaining term of the borrowings. The two advances had a combined carrying amount of $10,888,511$10,798,473 at JuneSeptember 30, 2014.
 
The Bank also has a fixed rate convertible advance from the FHLB in the amount of $10,000,000 that bears interest at the rate of 4.08%.  This advance may be called by the FHLB quarterly at the option of the FHLB if rates rise and the rate earned by the FHLB is no longer a “market” rate.  This advance is fully secured by marketable securities. The increase in the overnight borrowings of $39 million was utilized to partially fund the $104 million increase in loans during the second quarter of 2014.
 
Shareholders’ Equity and Dividends
 
Shareholders’ equity increased by $13,315,416,$16,117,088, or 19.5%23.6%, to $81,673,730$84,476,402 at JuneSeptember 30, 2014 from $68,358,314 at December 31, 2013.  Tangible book value per common share decreased by $0.90$0.52 to $9.56$9.94 at JuneSeptember 30, 2014 from $10.46 at December 31, 2013.  The ratio of average shareholders’ equity to total average assets was 9.23%8.57% at JuneSeptember 30, 2014 and 8.26% at December 31, 2013, respectively.  

During February 2014, the Company issued an aggregate of 1,019,223 shares of its common stock in conjunction with the Rumson merger that increased shareholders’ equity by $11,160,700. Shareholders’ equity was also increased by net income of $201,794$2,339,873 and other comprehensive income of $1,619,550$1,936,574 for the sixnine month period ended JuneSeptember 30, 2014. Partially offsetting these increases were treasury stock purchases of $39,844$137,988 during the period.
 
In lieu of cash dividends to common shareholders, the Company (and its predecessor, the Bank) had declared a stock dividend every year (except 2013) since 1992 and has paid such stock dividends every year since 1993 (except 2014). A 5% stock dividend was declared in 2012 and paid in 2013. No stock dividend was declared in 2013.  
 
The Company’s common stock is quoted on the Nasdaq Global Market under the symbol “FCCY”.
 
In 2005, the Company’s board of directors authorized a common stock repurchase program that allows for the repurchase of a limited number of the Company’s shares at management’s discretion on the open market. The Company undertook this repurchase program in order to increase shareholder value. Disclosure of repurchases of Company shares, if any, made during the quarter ended JuneSeptember 30, 2014 is set forth under Part II, Item 2 of this report, “Unregistered Sales of Equity Securities and Use of Proceeds.” There were no repurchases of Company shares under this repurchase program during the first nine months of 2014.
 
 
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Actual capital amounts and ratios for the Company and the Bank as of JuneSeptember 30, 2014 and December 31, 2013 were as follows:
 
 Actual 
For Capital
Adequacy Purposes
 
To Be Well Capitalized
Under Prompt
Corrective Action
Provision
    For Capital 
To Be Well Capitalized
Under Prompt
Corrective Action
 
 Amount Ratio Amount Ratio Amount Ratio    Actual Adequacy Purposes Provision 
As of June 30, 2014              
 Amount Ratio Amount Ratio Amount Ratio 
As of September 30, 2014              
Company                            
Total Capital to Risk Weighted Assets $94,105,230 11.95%  $62,979,600 >8%  N/A N/A  $96,307,633 12.33%  $62,509,840 >8%  N/A N/A 
Tier 1 Capital to Risk Weighted Assets  86,686,851 11.01%   31,489,800 >4%  N/A N/A   89,199,761 11.42%   31,254,920 >4%  N/A N/A 
Tier 1 Capital to Average Assets  86,686,851 9.14%   37,940,121 >4%  N/A N/A   89,199,761 9.35%   38,171,292 >4%  N/A N/A 
Bank                          
Total Capital to Risk Weighted Assets $91,801,622 11.66%  $62,979,600 >8% $78,724,800 >10%  $94,071,043 12.04%  $62,509,840 >8% $78,137,300 >10% 
Tier 1 Capital to Risk Weighted Assets  84,383,243 10.72%   31,489,800 >4%  47,234,700 >6-%   86,963,171 11.13%   31,254,920 >4%  46,882,380 >6-% 
Tier 1 Capital to Average Assets  84,383,243 8.90%   37,940,121 >4%  47,425,152 >5%   86,963,171 9.11%   38,171,292 >4%  47,714,115 >5% 

 
As of December 31, 2013
                    
Company                    
Total Capital to Risk Weighted Assets $89,532,373   19.29%  $37,123,200   >8%   N/A   N/A 
Tier 1 Capital to Risk Weighted Assets  83,716,373   18.04%   18,561,600   >4%   N/A   N/A 
Tier 1 Capital to Average Assets  83,716,373   10.89%   30,757,840   >4%   N/A   N/A 
Bank                        
Total Capital to Risk Weighted Assets $87,253,384   18.80%  $37,123,200   >8%  $46,404,000   >10% 
Tier 1 Capital to Risk Weighted Assets  81,437,384   17.55%   18,561,600   >4%   27,842,400   >6% 
Tier 1 Capital to Average Assets  81,437,384   10.59%   30,757,840   >4%   38,447,300   >5% 
                         
 
The minimum regulatory capital requirements for financial institutions require institutions to have a Tier 1 capital to average assets ratio of 4.0%, a Tier 1 capital to risk weighted assets ratio of 4.0% and a total capital to risk weighted assets ratio of 8.0%.  To be considered “well capitalized,” an institution must have a minimum Tier 1 leverage ratio of 5.0%.  At JuneSeptember 30, 2014, the ratios of the Company exceeded the ratios required to be considered well capitalized. It is management’s goal to monitor and maintain adequate capital levels to continue to support asset growth and expansion of the Bank and continue its status as a well capitalized institution.
 
In July 2013, the Federal Reserve Board and the FDIC approved revisions to their capital adequacy guidelines and prompt corrective action rules that implement the revised standards of Basel III and address relevant provisions of the Dodd-Frank Act. The Federal Reserve Board’s final rules and the FDIC’s interim final rules apply to all depository institutions, top-tier bank holding companies with total consolidated assets of $500 million or more, and top-tier savings and loan holding companies (“banking organizations”). Among other things, the rules establish a new common equity Tier 1 minimum capital requirement (4.5% of risk-weighted assets) and increase the minimum Tier 1 capital to risk-based assets requirement (from 4% to 6% of risk-weighted assets). Banking organizations will also be required to have a total capital ratio of 8% (unchanged from current rules) and a Tier 1 leverage ratio of 4% (unchanged from current rules). The rules also limit a banking organization’s ability to pay dividends, engage in share repurchases or pay discretionary bonuses if the banking organization does not hold a “capital conservation buffer” consisting of 2.5% of common equity Tier 1 capital to risk-weighted assets in addition to the amount necessary to meet its minimum risk-based capital requirements. The rules become effective for the Company and the Bank on January 1, 2015. The capital conservation buffer requirement will be phased in beginning in January 1, 2016 at 0.625% of common equity Tier 1 capital to risk-weighted assets and would increase by that amount each year until fully implemented in January 2019 at 2.5% of common equity Tier 1 capital to risk-weighted assets. Management is currently evaluatingUnder the provisions of thesenew capital rules in effect on January 1, 2015, management estimates that the Bank’s common equity Tier 1 capital to risk weighted assets, total capital to risk weighted assets and their expected impact on the CompanyTier 1 capital to average assets ratios would be 11.23%, 12.13% and the Bank.9.24%, respectively at September 30, 2014.
 
 
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 Liquidity
 
At JuneSeptember 30, 2014, the amount of liquid assets remained at a level management deemed adequate to ensure that contractual liabilities, depositors’ withdrawal requirements, and other operational and customer credit needs could be satisfied.
 
Liquidity management refers to the Company’s ability to support asset growth while satisfying the borrowing needs and deposit withdrawal requirements of customers.  In addition to maintaining liquid assets, factors such as capital position, profitability, asset quality and availability of funding affect a bank’s ability to meet its liquidity needs.  On the asset side, liquid funds are maintained in the form of cash and cash equivalents, Federal funds sold, investment securities held to maturity maturing within one year, securities available for sale and loans held for sale.  Additional asset-based liquidity is derived from scheduled loan repayments as well as investment repayments of principal and interest from mortgage-backed securities.  On the liability side, the primary source of liquidity is the ability to generate core deposits.  Short-term and long-term borrowings are used as supplemental funding sources when growth in the core deposit base does not keep pace with that of earning assets.
 
The Bank has established a borrowing relationship with FHLB, which further supports and enhances liquidity. During 2010, FHLB replaced its Overnight Line of Credit and One-Month Overnight Repricing Line of Credit facilities available to member banks with a fully secured line of up to 50 percent of a bank’s quarter-end total assets.  Under the terms of this facility, the Bank’s total credit exposure to FHLB cannot exceed 50 percent, or $492,985,116,$477,152,275, of its total assets at JuneSeptember 30, 2014.  In addition, the aggregate outstanding principal amount of the Bank’s advances, letters of credit, the dollar amount of the FHLB’s minimum collateral requirement for off-balance sheet financial contracts and advance commitments cannot exceed 30 percent of the Bank’s total assets, unless the Bank obtains approval from FHLB’s Board of Directors or its Executive Committee.  These limits are further restricted by a member’s ability to provide eligible collateral to support its obligations to FHLB as well as the ability to meet the FHLB’s stock requirement. At JuneSeptember 30, 2014, the Bank pledged collateral to the FHLB to support a borrowing line of $106,634,000,$132 million, of which $59,000,000$20 million was utilized at JuneSeptember 30, 2014. The Bank also maintains an unsecured federal funds line of $25,000,000$25 million with a correspondent bank.
 
The Consolidated Statements of Cash Flows present the changes in cash from operating, investing and financing activities.  At JuneSeptember 30, 2014, the balance of cash and cash equivalents was $23,149,148.$20,371,823.
 
Net cash provided by operating activities totaled $6,681,466$10.8 million for the sixnine months ended JuneSeptember 30, 2014 compared to net cash provided by operations of $14,183,817$31.2 million for the sixnine months ended JuneSeptember 30, 2013.  The decline in the current period was due primarily to a lower level of net proceeds from the origination and sale of residential mortgages compared to the prior year period. A source of funds is net income from operations adjusted for activity related to loans originated for sale, the provision for loan losses, depreciation expenses, and net amortization of premiums on securities.
 
Net cash used in investing activities totaled $83,814,804$55.6 million for the sixnine months ended JuneSeptember 30, 2014. The primary uses of funds for the sixnine months ended JuneSeptember 30, 2014 were the increase in the loan portfolio and purchase of securities. For the corresponding period in 2013, net cash was provided by investing activities due to the reduction of loans, primarily mortgage warehouse lines. Net cash of $21,375,071$21.4 million was received in the Rumson merger and represents cash of $36,145,071$36.1 million held by Rumson, less cash consideration of $14,770,000$14.8 million paid to shareholders of Rumson.
 
Net cash provided byused in financing activities totaled $31,003,715$4.0 million for the sixnine months ended JuneSeptember 30, 2014 compared to net cash used in financing activities of $36,327,886$52.7 million for the sixnine months ended JuneSeptember 30, 2013.  The primary sourceuse of funds for the sixnine months ended JuneSeptember 30, 2014 was the net increasedecrease in borrowingstotal deposits of $4.5 million while for the sixnine months ended JuneSeptember 30, 2013, the decrease in borrowings wasof $32.4 million and the decrease in deposits of $20.7 million were the primary useuses of funds.
 
The securities portfolios are also a source of liquidity, providing cash flows from maturities and periodic repayments of principal.  For the sixnine months ended JuneSeptember 30, 2014, prepayments and maturities of investment securities totaled $25,849,824.$40.1 million. Proceeds from the sale of securities were $5,957,188$6.0 million during the sixnine month period ended JuneSeptember 30, 2014. Another source of liquidity is the loan portfolio, which provides a flow of payments and maturities. 
 
 
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Interest Rate Sensitivity Analysis
 
The largest component of the Company’s total income is net interest income, and the majority of the Company’s financial instruments are composed of interest rate-sensitive assets and liabilities with various terms and maturities. The primary objective of management is to maximize net interest income while minimizing interest rate risk. Interest rate risk is derived from timing differences and the magnitude of relative changes in the repricing of assets and liabilities, loan prepayments, deposit withdrawals, and differences in lending and funding rates. Management actively seeks to monitor and control the mix of interest rate-sensitive assets and interest rate-sensitive liabilities.
 
Under our interest rate risk policy established by our Board of Directors, we established quantitative guidelines with respect to our interest rate risk and how interest rate shocks are projected to affect our net interest income and economic value of equity. Summarized below is the projected effect of a parallel shift of an increase of 200 and 300 basis points, respectively, in market interest rates on our net interest income and economic value of equity.

Based upon the current interest rate environment, as of JuneSeptember 30, 2014, our sensitivity to interest rate risk was as follows:

(Dollars in thousands) 
Next 12 Months
Net Interest Income
 Economic Value of Equity 
Next 12 Months
Net Interest Income
 Economic Value of Equity
Interest Rate Change in Basis
Points
 $ Change % Change $ Change % Change $ Change % Change $ Change % Change
300 $5,339 14.7% ($3,698) (3.50)% $2,489 7.1% ($3,821) (3.25)%
200 3,014 9.1% (2,604) (2.46)     1,393 4.0% (2,540) (2.16)
- - 0.0% - 0.0%    - 0.0% - 0.0%

 
We employ many assumptions to calculate the impact of changes in interest rates on our assets and liabilities, and actual results may not be similar to projections due to several factors, including the timing and frequency of rate changes, market conditions and the shape of the yield curve. Actual results may also differ due to our actions, if any, in response to the changing rates. In calculating these exposures, we utilized an interest rate simulation model which is validated by third-party reviewers on an annual basis.

The Company continually evaluates interest rate risk management opportunities, including the use of derivative financial instruments. Management believes that hedging instruments currently available are not cost-effective, and therefore, has focused its efforts on increasing the Bank’s interest rate spread by attracting lower-cost retail deposits and increasing loans. As of JuneSeptember 30, 2014 we were in compliance with our interest rate risk policy.
 
Item 3.                    Quantitative and Qualitative Disclosures About Market Risk.
 
Not required. 
 
Item 4.                    Controls and Procedures.
 
The Company has established disclosure controls and procedures designed to ensure that information required to be disclosed in the reports that the Company files or submits under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in SEC rules and forms and is accumulated and communicated to management, including the principal executive officer and principal financial officer, to allow timely decisions regarding required disclosure.
 
68
The Company’s principal executive officer and principal financial officer, with the assistance of other members of the Company’s management, have evaluated the effectiveness of the Company’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this quarterly report.  Based upon such evaluation, the Company’s principal executive officer and principal financial officer have concluded that the Company’s disclosure controls and procedures are effective as of the end of the period covered by this quarterly report.
 
67
The Company’s principal executive officer and principal financial officer have also concluded that there was no change in the Company’s internal control over financial reporting (as such term is defined in Rule 13a-15(f) under the Exchange Act) that occurred during the quarter ended JuneSeptember 30, 2014 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
 
 
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PART II. OTHER INFORMATION
 
Item 2.                    Unregistered Sales of Equity Securities and Use of Proceeds.
 
Issuer Purchases of Equity Securities
 
On July 21, 2005, the board of directors authorized a stock repurchase program under which the Company may repurchase in open market or privately negotiated transactions up to 5% of its common shares outstanding at that date.  The Company undertook this repurchase program in order to increase shareholder value. The following table provides common stock repurchases made by or on behalf of the Company during the three months ended JuneSeptember 30, 2014, if any.
 
 Issuer Purchases of Equity Securities (1)
 
Period
Total
Number of
Shares
Purchased
Average
Price Paid
Per Share
Total Number of
Shares
Purchased As
Part of Publicly
Announced Plan
or Program
Maximum Number
of Shares That May
Yet be Purchased
Under the Plan or
Program
Beginning
Ending
April 1,
2014
April 30,
2014
---187,559
May 1,
2014
May 30,
2014
---187,559
June 1,
2014
June 30,
2014
---187,559
 Total---187,559
  
 
 
 
 
 
 
Period
 
 
 
 
 
Total
Number of
Shares
Purchased
 
 
 
 
 
 
 
Average
Price Paid
Per Share
 
 
 
Total Number of
Shares
Purchased As
Part of Publicly
Announced Plan
or Program
 
Maximum Number
of Shares That May
Yet be Purchased
Under the Plan or
Program
 
Beginning
 
Ending
        
July 1, 2014July 31, 2014 - - - 134,115
          
August 1, 2014August 31, 2014 - - - 
134,115
          
September 1, 2014September 30, 2014 9,581 $10.24 
9,581
 
124,534
 Total 
9,581
 
$10.24
 
9,581
 
124,534


(1)The Company’s common stock repurchase program covers a maximum of 225,824 shares of common stock of the Company, representing 5% of the outstanding common stock of the Company on July 21, 2005, as adjusted for subsequent common stock dividends.
 
 
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Item 6.   Exhibits.

10.1
Amendment to the Amended and Restated Employment Agreement, dated April 4, 2014,
between the Company and Robert F. Mangano (incorporated by reference to Exhibit 10.1
to the Company’s Form 8-K filed with the SEC on April 8, 2014)
   
31.1*Certification of Robert F. Mangano, principal executive officer of the Company, pursuant to Securities Exchange Act Rule 13a-14(a)
   
31.2*Certification of Stephen J. Gilhooly, principal financial officer of the Company, pursuant to Securities Exchange Act Rule 13a-14(a)
   
32*Certifications pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of The Sarbanes-Oxley Act of 2002, signed by Robert F. Mangano, principal executive officer of the Company, and Joseph M. Reardon,Stephen J. Gilhooly, principal financial officer of the Company
   
101.INS*XBRL Instance Document
   
101.SCH*XBRL Taxonomy Extension Schema Document
   
101.CAL*XBRL Taxonomy Extension Calculation Linkbase Document
   
101.DEF*XBRL Taxonomy Extension Definition Linkbase Document
   
101.LAB*XBRL Taxonomy Extension Label Linkbase Document
   
101.PRE*XBRL Taxonomy Extension Presentation Linkbase Document

_____________________
*                     Filed herewith.
 
 
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SIGNATURES
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
 1ST CONSTITUTION BANCORP 
    
    
Date: August 14,November 13, 2014         By:/s/ ROBERT F. MANGANO 
  Robert F. Mangano 
  President and Chief Executive Officer 
  (Principal Executive Officer) 
    
    
Date: August 14,November 13, 2014   By:/s/ STEPHEN J. GILHOOLY  
  Stephen J. Gilhooly 
  
Senior Vice President, Treasurer
and Chief Financial Officer
 
  (Principal Financial Officer) 
 
 
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