Allowance for Loan and Lease Losses | 6. Allowance for Loan and Lease Losses Originated Loans and Leases Management reviews the appropriateness of the allowance for loan and lease losses (“allowance”) on a regular basis. Management considers the accounting policy relating to the allowance to be a critical accounting policy, given the inherent uncertainty in evaluating the levels of the allowance required to cover credit losses in the portfolio and the material effect that assumptions could have on the Company’s results of operations. The Company has developed a methodology to measure the amount of estimated loan loss exposure inherent in the loan portfolio to assure that an appropriate allowance is maintained. The Company’s methodology is based upon guidance provided in SEC Staff Accounting Bulletin No. 102, Selected Loan Loss Allowance Methodology and Documentation Issues Receivables Contingencies The model is comprised of four major components that management has deemed appropriate in evaluating the appropriateness of the allowance for loan and lease losses. While none of these components, when used independently, is effective in arriving at a reserve level that appropriately measures the risk inherent in the portfolio, management believes that using them collectively, provides reasonable measurement of the loss exposure in the portfolio. The four components include: impaired loans; individually reviewed and graded loans; historical loss experience; and qualitative or subjective analysis. Since the methodology is based upon historical experience and trends as well as management’s judgment, factors may arise that result in different estimates. Significant factors that could give rise to changes in these estimates may include, but are not limited to, changes in economic conditions in the local area, concentration of risk, changes in interest rates, and declines in local property values. While management’s evaluation of the allowance as of September 30, 2016, considers the allowance to be appropriate, under adversely different conditions or assumptions, the Company would need to increase or decrease the allowance. Acquired Loans and Leases Acquired loans accounted for under ASC 310-30 For our acquired loans, our allowance for loan losses is estimated based upon our expected cash flows for these loans. To the extent that we experience a deterioration in borrower credit quality resulting in a decrease in our expected cash flows subsequent to the acquisition of the loans, an allowance for loan losses would be established based on our estimate of future credit losses over the remaining life of the loans. Acquired loans accounted for under ASC 310-20 We establish our allowance for loan losses through a provision for credit losses based upon an evaluation process that is similar to our evaluation process used for originated loans. This evaluation, which includes a review of loans on which full collectability may not be reasonably assured, considers, among other matters, the estimated fair value of the underlying collateral, economic conditions, historical net loan loss experience, carrying value of the loans, which includes the remaining net purchase discount or premium, and other factors that warrant recognition in determining our allowance for loan losses. The following tables detail activity in the allowance for loan and lease losses segregated by originated and acquired loan and lease portfolios and by portfolio segment for the three and nine months ended September 30, 2016 and 2015. Allocation of a portion of the allowance to one category of loans does not preclude its availability to absorb losses in other categories. Three months ended September 30, 2016 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Finance Leases Total Allowance for originated loans and leases Beginning balance $ 8,937 $ 18,229 $ 4,486 $ 1,316 $ 0 $ 32,968 Charge-offs (133 ) 0 (19 ) (94 ) 0 (246 ) Recoveries 110 216 17 23 0 366 Provision (credit) 340 331 223 (26 ) 0 868 Ending Balance $ 9,254 $ 18,776 $ 4,707 $ 1,219 $ 0 $ 33,956 Three months ended September 30, 2016 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Finance Leases Total Allowance for acquired loans Beginning balance $ 47 $ 65 $ 23 $ 22 $ 0 $ 157 Charge-offs (12 ) 0 (19 ) 0 0 (31 ) Recoveries 20 96 0 0 0 116 Provision (credit) (55 ) (84 ) 53 0 0 (86 ) Ending Balance $ 0 $ 77 $ 57 $ 22 $ 0 $ 156 Three months ended September 30, 2015 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Finance Leases Total Allowance for originated loans and leases Beginning balance $ 8,224 $ 13,487 $ 5,583 $ 2,134 $ 0 $ 29,428 Charge-offs (125 ) 0 (96 ) (241 ) 0 (462 ) Recoveries 557 587 58 109 0 1,311 Provision (credit) (184 ) 141 (98 ) 314 0 173 Ending Balance $ 8,472 $ 14,215 $ 5,447 $ 2,316 $ 0 $ 30,450 Three months ended September 30, 2015 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Covered Loans Total Allowance for acquired loans Beginning balance $ 384 $ 167 $ 100 $ 12 $ 0 $ 663 Charge-offs 0 (60 ) (208 ) (5 ) 0 (273 ) Recoveries 0 17 0 0 0 17 Provision (credit) (18 ) (61 ) 194 (7 ) 0 108 Ending Balance $ 366 $ 63 $ 86 $ 0 $ 0 $ 515 Nine months ended September 30, 2016 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Finance Leases Total Allowance for originated loans and leases Beginning balance $ 10,495 $ 15,479 $ 4,070 $ 1,268 $ 0 $ 31,312 Charge-offs (584 ) (12 ) (220 ) (455 ) 0 (1,271 ) Recoveries 217 636 49 295 0 1,197 Provision (credit) (874 ) 2,673 808 111 0 2,718 Ending Balance $ 9,254 $ 18,776 $ 4,707 $ 1,219 $ 0 $ 33,956 Nine months ended September 30, 2016 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Covered Loans Total Allowance for acquired loans Beginning balance $ 433 $ 61 $ 198 $ 0 $ 0 $ 692 Charge-offs (399 ) (182 ) (35 ) (93 ) 0 (709 ) Recoveries 20 256 0 0 0 276 Provision (credit) (54 ) (58 ) (106 ) 115 0 (103 ) Ending Balance $ 0 $ 77 $ 57 $ 22 $ 0 $ 156 Nine months ended September 30, 2015 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Finance Leases Total Allowance for originated loans and leases Beginning balance $ 9,157 $ 12,069 $ 5,030 $ 1,900 $ 0 $ 28,156 Charge-offs (169 ) (14 ) (408 ) (751 ) 0 (1,342 ) Recoveries 792 1,064 107 391 0 2,354 Provision (credit) (1,308 ) 1,096 718 776 0 1,282 Ending Balance $ 8,472 $ 14,215 $ 5,447 $ 2,316 $ 0 $ 30,450 Nine months ended September 30, 2015 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Covered Loans Total Allowance for acquired loans Beginning balance $ 431 $ 337 $ 51 $ 22 $ 0 $ 841 Charge-offs (53 ) (216 ) (320 ) (5 ) 0 (594 ) Recoveries 7 129 2 0 0 138 Provision (credit) (19 ) (187 ) 353 (17 ) 0 130 Ending Balance $ 366 $ 63 $ 86 $ 0 $ 0 $ 515 At September 30, 2016 and December 31, 2015, the allocation of the allowance for loan and lease losses summarized on the basis of the Company’s impairment methodology was as follows: (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Finance Leases Total Allowance for originated loans and leases September 30, 2016 Individually evaluated for impairment $ 62 $ 259 $ 0 $ 0 $ 0 $ 321 Collectively evaluated for impairment 9,192 18,517 4,707 1,219 0 33,635 Ending balance $ 9,254 $ 18,776 $ 4,707 $ 1,219 $ 0 $ 33,956 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Covered Loans Total Allowance for acquired loans September 30, 2016 Individually evaluated for impairment $ 0 $ 77 $ 0 $ 0 $ 0 $ 77 Collectively evaluated for impairment 0 0 57 22 0 79 Ending balance $ 0 $ 77 $ 57 $ 22 $ 0 $ 156 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Finance Leases Total Allowance for originated loans and leases December 31, 2015 Individually evaluated for impairment $ 0 $ 288 $ 0 $ 0 $ 0 $ 288 Collectively evaluated for impairment 10,495 15,191 4,070 1,268 0 31,024 Ending balance $ 10,495 $ 15,479 $ 4,070 $ 1,268 $ 0 $ 31,312 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Covered Loans Total Allowance for acquired loans December 31, 2015 Individually evaluated for impairment $ 433 $ 0 $ 128 $ 0 $ 0 $ 561 Collectively evaluated for impairment 0 61 70 0 0 131 Ending balance $ 433 $ 61 $ 198 $ 0 $ 0 $ 692 The recorded investment in loans and leases summarized on the basis of the Company’s impairment methodology as of September 30, 2016 and December 31, 2015 was as follows: (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Finance Leases Total Originated loans and leases September 30, 2016 Individually evaluated for impairment $ 241 $ 8,084 $ 3,416 $ 0 $ 0 $ 11,741 Collectively evaluated for impairment 924,127 1,544,030 1,122,668 57,508 15,858 3,664,191 Total $ 924,368 $ 1,552,114 $ 1,126,084 $ 57,508 $ 15,858 $ 3,675,932 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Covered Loans Total Acquired loans September 30, 2016 Individually evaluated for impairment $ 9 $ 4,006 $ 1,372 $ 0 $ 0 $ 5,387 Loans acquired with deteriorated credit quality 327 15,421 8,610 0 0 24,358 Collectively evaluated for impairment 84,335 242,357 59,704 867 0 387,263 Total $ 84,671 $ 261,784 $ 69,686 $ 867 $ 0 $ 417,008 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Finance Leases Total Originated loans and leases December 31, 2015 Individually evaluated for impairment $ 1,206 $ 5,655 $ 2,270 $ 0 $ 0 $ 9,131 Collectively evaluated for impairment 855,117 1,351,567 1,024,149 58,733 14,861 3,304,427 Total $ 856,323 $ 1,357,222 $ 1,026,419 $ 58,733 $ 14,861 $ 3,313,558 (in thousands) Commercial and Industrial Commercial Real Estate Residential Real Estate Consumer and Other Covered Loans Total Acquired loans December 31, 2015 Individually evaluated for impairment $ 647 $ 5,226 $ 1,177 $ 0 $ 0 $ 7,050 Loans acquired with deteriorated credit quality 567 9,335 3,801 0 12,804 26,507 Collectively evaluated for impairment 83,596 277,378 64,605 911 1,227 427,717 Total $ 84,810 $ 291,939 $ 69,583 $ 911 $ 14,031 $ 461,274 A loan is impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement. Impaired loans consist of our non-homogenous nonaccrual loans, and all loans restructured in a troubled debt restructuring (TDR). Specific reserves on individually identified impaired loans that are not collateral dependent are measured based on the present value of expected future cash flows discounted at the original effective interest rate of each loan. For loans that are collateral dependent, impairment is measured based on the fair value of the collateral less estimated selling costs, and such impaired amounts are generally charged off. The majority of impaired loans are collateral dependent impaired loans that have limited exposure or require limited specific reserves because of the amount of collateral support with respect to these loans, and previous charge-offs. Interest payments on impaired loans are typically applied to principal unless collectability of the principal amount is reasonably assured. In these cases, interest is recognized on a cash basis. Impaired loans are as follows: 09/30/2016 12/31/2015 (in thousands) Recorded Investment Unpaid Principal Balance Related Allowance Recorded Investment Unpaid Principal Balance Related Allowance Originated loans and leases with no related allowance Commercial and industrial Commercial and industrial other $ 165 $ 170 $ 0 $ 1,206 $ 1,211 $ 0 Commercial real estate Commercial real estate other 7,436 7,929 0 5,049 5,249 0 Residential real estate Home equity 3,416 3,445 0 2,270 2,270 0 Subtotal $ 11,017 $ 11,544 $ 0 $ 8,525 $ 8,730 $ 0 Originated loans and leases with related allowance Commercial and industrial Commercial and industrial other 76 76 62 0 0 0 Commercial real estate Commercial real estate other 648 648 259 606 606 288 Subtotal $ 724 $ 724 $ 321 $ 606 $ 606 $ 288 Total $ 11,741 $ 12,268 $ 321 $ 9,131 $ 9,336 $ 288 09/30/2016 12/31/2015 (in thousands) Recorded Investment Unpaid Principal Balance Related Allowance Recorded Investment Unpaid Principal Balance Related Allowance Acquired loans and leases with no related allowance Commercial and industrial Commercial and industrial other $ 9 $ 9 $ 0 $ 128 $ 128 $ 0 Commercial real estate Construction 79 79 0 359 359 0 Commercial real estate other 3,849 4,233 0 4,739 5,077 0 Residential real estate Home equity 1,372 1,372 0 1,177 1,177 0 Subtotal $ 5,309 $ 5,693 $ 0 $ 6,403 $ 6,741 $ 0 Acquired loans and leases with related allowance Commercial and industrial Commercial and industrial other 0 0 0 519 519 433 Commercial real estate Commercial real estate other 78 78 77 128 128 128 Subtotal $ 78 $ 78 $ 77 $ 647 $ 647 $ 561 Total $ 5,387 $ 5,771 $ 77 $ 7,050 $ 7,388 $ 561 The average recorded investment and interest income recognized on impaired loans for the three months ended September 30, 2016 and 2015 was as follows: Three Months Ended 09/30/2016 Three Months Ended 09/30/2015 (in thousands) Average Recorded Investment Interest Income Recognized Average Recorded Investment Interest Income Recognized Originated loans and leases with no related allowance Commercial and industrial Commercial and industrial other 146 0 755 0 Commercial real estate Commercial real estate other 7,422 0 7,972 0 Residential real estate Home equity 3,097 0 1,137 0 Subtotal $ 10,665 $ 0 $ 9,864 $ 0 Originated loans and leases with related allowance Commercial and industrial Commercial and industrial other 77 0 0 0 Commercial real estate Commercial real estate other 636 0 1,110 0 Subtotal $ 713 $ 0 $ 1,110 $ 0 Total $ 11,378 $ 0 $ 10,974 $ 0 Three Months Ended 09/30/2016 Three Months Ended 09/30/2015 (in thousands) Average Recorded Investment Interest Income Recognized Average Recorded Investment Interest Income Recognized Acquired loans and leases with no related allowance Commercial and industrial Commercial and industrial other 6 0 558 0 Commercial real estate Construction 126 0 366 0 Commercial real estate other 4,201 0 4,582 0 Residential real estate Home equity 1,319 0 1,065 0 Subtotal $ 5,652 $ 0 $ 6,571 $ 0 Acquired loans and leases with related allowance Commercial and industrial Commercial and industrial other 0 0 805 0 Commercial real estate Commercial real estate other 78 0 0 0 Subtotal $ 78 $ 0 $ 805 $ 0 Total $ 5,730 $ 0 $ 7,376 $ 0 The average recorded investment and interest income recognized on impaired loans for the nine months ended September 30, 2016 and 2015 was as follows: Nine Months Ended 09/30/2016 Nine Months Ended 09/30/2015 (in thousands) Average Recorded Investment Interest Income Recognized Average Recorded Investment Interest Income Recognized Originated loans and leases with no related allowance Commercial and industrial Commercial and industrial other 476 0 567 0 Commercial real estate Commercial real estate other 6,351 0 8,123 0 Residential real estate Home equity 2,694 0 1,104 0 Subtotal $ 9,521 $ 0 $ 9,794 $ 0 Originated loans and leases with related allowance Commercial and industrial Commercial and industrial other 48 0 0 0 Commercial real estate Commercial real estate other 641 0 949 0 Subtotal $ 689 $ 0 $ 949 $ 0 Total $ 10,210 $ 0 $ 10,743 $ 0 Nine Months Ended 09/30/2016 Nine Months Ended 09/30/2015 (in thousands) Average Recorded Investment Interest Income Recognized Average Recorded Investment Interest Income Recognized Acquired loans and leases with no related allowance Commercial and industrial Commercial and industrial other 303 0 565 0 Commercial real estate Construction 242 0 369 0 Commercial real estate other 4,320 0 3,820 0 Residential real estate Home equity 1,267 0 1,064 0 Subtotal $ 6,132 $ 0 $ 5,818 $ 0 Acquired loans and leases with related allowance Commercial and industrial Commercial and industrial other 0 0 809 0 Commercial real estate Commercial real estate other 54 0 0 0 Subtotal $ 54 $ 0 $ 809 $ 0 Total $ 6,186 $ 0 $ 6,627 $ 0 Loans are considered modified in a TDR when, due to a borrower’s financial difficulties, the Company makes a concession(s) to the borrower that it would not otherwise consider. These modifications may include, among others, an extension for the term of the loan, and granting a period when interest-only payments can be made with the principal payments made over the remaining term of the loan or at maturity. The following tables present information on loans modified in troubled debt restructuring during the periods indicated. September 30, 2016 Three Months Ended Defaulted TDRs 3 (in thousands) Number of Loans Pre-Modification Outstanding Recorded Investment Post-Modification Outstanding Recorded Investment Number of Loans Post-Modification Outstanding Recorded Investment Commercial real estate Commercial real estate other 1 1 50 50 1 1,800 Residential real estate Home equity 2 5 382 382 0 0 Total 6 $ 432 $ 432 1 $ 1,800 1 Represents the following concessions: extension of term and reduction of rate. 2 Represents the following concessions: extension of term and reduction of rate. 3 September 30, 2015 Three Months Ended Defaulted TDRs 4 (in thousands) Number of Loans Pre-Modification Outstanding Recorded Investment Post-Modification Outstanding Recorded Investment Number of Loans Post-Modification Outstanding Recorded Investment Commercial and industrial Commercial and industrial other 1 1 $ 52 $ 52 2 $ 311 Commercial real estate other 2 1 1,938 1,938 0 0 Residential real estate Home equity 3 2 76 76 1 43 Total 4 $ 2,066 $ 2,066 3 $ 354 1 Represents the following concessions: extension of term and reduction of rate. 2 Represents the following concessions: reduction of rate. 3 Represents the following concessions: extension of term and reduction of rate. 4 September 30, 2016 Nine Months Ended Defaulted TDRs 4 (in thousands) Number of Loans Pre- Modification Outstanding Recorded Investment Post- Modification Outstanding Recorded Investment Number of Loans Post- Modification Outstanding Recorded Investment Commercial and industrial Commercial and industrial other 1 2 $ 1,115 $ 1,115 0 $ 0 Commercial real estate Commercial real estate other 2 1 $ 50 $ 50 1 $ 1,800 Residential real estate Home equity 3 10 1,164 1,164 0 0 Total 13 $ 2,329 $ 2,329 1 $ 1,800 1 2 3 4 September 30, 2015 Nine Months Ended Defaulted TDRs 4 (in thousands) Number of Pre- Post- Number of Post- Recorded Commercial and industrial Commercial and industrial other 1 5 $ 433 $ 433 2 $ 311 Commercial real estate Commercial real estate other 2 3 2,552 2,552 0 0 Residential real estate Home equity 3 14 1,558 1,558 4 279 Total 22 $ 4,543 $ 4,543 6 $ 590 1 2 3 4 The following tables present credit quality indicators (internal risk grade) by class of commercial and industrial loans and commercial real estate loans as of September 30, 2016 and December 31, 2015. September 30, 2016 Commercial Commercial Commercial Commercial Commercial and Industrial and Industrial Real Estate Real Estate Real Estate (in thousands) Other Agriculture Other Agriculture Construction Total Originated Loans and Leases Internal risk grade: Pass $ 834,483 $ 76,651 $ 1,283,101 $ 103,197 $ 133,714 $ 2,431,146 Special Mention 9,028 703 16,904 580 0 27,215 Substandard 3,146 357 14,328 290 0 18,121 Total $ 846,657 $ 77,711 $ 1,314,333 $ 104,067 $ 133,714 $ 2,476,482 September 30, 2016 Commercial Commercial Commercial Commercial Commercial and Industrial and Industrial Real Estate Real Estate Real Estate (in thousands) Other Agriculture Other Agriculture Construction Total Acquired Loans and Leases Internal risk grade: Pass $ 82,956 $ 0 $ 240,570 $ 4,761 $ 3,628 $ 331,915 Special Mention 0 0 540 0 0 540 Substandard 1,715 0 12,285 0 0 14,000 Total $ 84,671 $ 0 $ 253,395 $ 4,761 $ 3,628 $ 346,455 December 31, 2015 Commercial Commercial Commercial Commercial Commercial and Industrial and Industrial Real Estate Real Estate Real Estate (in thousands) Other Agriculture Other Agriculture Construction Total Originated Loans and Leases Internal risk grade: Pass $ 759,023 $ 87,488 $ 1,143,238 $ 86,445 $ 99,508 $ 2,175,702 Special Mention 3,531 78 12,378 141 3,529 19,657 Substandard 5,470 733 11,634 349 0 18,186 Total $ 768,024 $ 88,299 $ 1,167,250 $ 86,935 $ 103,037 $ 2,213,545 December 31, 2015 Commercial Commercial Commercial Commercial Commercial and Industrial and Industrial Real Estate Real Estate Real Estate (in thousands) Other Agriculture Other Agriculture Construction Total Acquired Loans and Leases Internal risk grade: Pass $ 82,662 $ 0 $ 271,584 $ 423 $ 4,533 $ 359,202 Special Mention 0 0 540 0 0 540 Substandard 2,148 0 12,828 1,672 359 17,007 Total $ 84,810 $ 0 $ 284,952 $ 2,095 $ 4,892 $ 376,749 The following tables present credit quality indicators by class of residential real estate loans and by class of consumer loans. Nonperforming loans include nonaccrual, impaired, and loans 90 days past due and accruing interest. All other loans are considered performing as of September 30, 2016 and December 31, 2015. For purposes of this footnote, acquired loans that were recorded at fair value at the acquisition date and are 90 days or greater past due are considered performing. September 30, 2016 (in thousands) Residential Residential Consumer Consumer Total Originated Loans and Leases Performing $ 206,784 $ 912,563 $ 15,680 $ 41,605 $ 1,176,632 Nonperforming 1,545 5,192 213 10 6,960 Total $ 208,329 $ 917,755 $ 15,893 $ 41,615 $ 1,183,592 September 30, 2016 (in thousands) Residential Residential Consumer Consumer Total Acquired Loans and Leases Performing $ 38,706 $ 28,869 $ 0 $ 867 $ 68,442 Nonperforming 924 1,187 0 0 2,111 Total $ 39,630 $ 30,056 $ 0 $ 867 $ 70,553 December 31, 2015 (in thousands) Residential Residential Consumer Consumer Total Originated Loans and Leases Performing $ 200,647 $ 817,952 $ 17,722 $ 40,829 $ 1,077,150 Nonperforming 1,931 5,889 107 75 8,002 Total $ 202,578 $ 823,841 $ 17,829 $ 40,904 $ 1,085,152 December 31, 2015 (in thousands) Residential Residential Consumer Consumer Total Acquired Loans and Leases Performing $ 41,380 $ 26,102 $ 0 $ 911 $ 68,393 Nonperforming 712 1,389 0 0 2,101 Total $ 42,092 $ 27,491 $ 0 $ 911 $ 70,494 |