LOANS AND ALLOWANCE FOR CREDIT LOSSES | NOTE 3. LOANS AND ALLOWANCE FOR CREDIT LOSSES Upon adoption of ASC 326 or CECL, at January 1, 2021, the Company evaluates its risk characteristics of loans based on regulatory call report code with segmentation based on the underlying collateral for certain loan types. Prior to the adoption of ASC 326, under the incurred loss model, the Company evaluated its risk characteristics of loans based on purpose of the loans. The following is a summary of total loans by regulatory call report code segmentation based on underlying collateral for certain loan types: September 30, December 31, (in thousands) 2021 2020 Commercial construction $ 152,700 $ 117,882 Commercial real estate owner occupied 253,792 219,217 Commercial real estate non-owner occupied 733,353 716,776 Tax exempt 42,448 47,862 Commercial and industrial 336,989 355,684 Residential real estate 917,301 995,216 Home equity 88,002 100,096 Consumer other 9,569 10,152 Total loans 2,534,154 2,562,885 Allowance for credit losses 22,448 19,082 Net loans $ 2,511,706 $ 2,543,803 Total unamortized net costs and premiums included in loan totals were as follows: September 30, December 31, (in thousands) 2021 2020 Unamortized net loan origination costs $ 4,015 $ 5,157 Unamortized net premium on purchased loans (65) (85) Total unamortized net costs and premiums $ 3,950 $ 5,072 The Company elected to exclude accrued interest receivable from the amortized cost basis of loans disclosed throughout this footnote. As of September 30, 2021 and December 31, 2020, accrued interest receivable for loans totaled $8.7 million and $11.4 million, respectively, and is included in the “other assets” line item on the Company’s consolidated balance sheets. The CARES Act and subsequent legislation established the Payroll Protection Program (PPP), administered directly by the Small Business Administration (SBA). The Company has participated in both 2020 and 2021 rounds of funding. As of September 30, 2021 and December 31, 2020, the Company had 404 and 746 PPP loans outstanding, with an outstanding principal balance of $24.2 million and $53.8 million, respectively. The PPP loans are fully guaranteed by the SBA and may be eligible for forgiveness by the SBA to the extent that the proceeds are used to cover eligible costs. PPP loans are included in the commercial and industrial portfolio segment. Characteristics of each loan portfolio segment are as follows: Commercial construction Commercial real estate owner occupied and non-owner occupied Tax Exempt Commercial and industrial loans Residential real estate Home equity - Consumer other Allowance for Credit Losses The Allowance for Credit Losses (ACL) is comprised of the allowance for loan losses and the allowance for unfunded commitments which is accounted for as a separate liability in other liabilities on the balance sheet. The level of the ACL represents management’s estimate of expected credit losses over the expected life of the loans at the balance sheet date. Upon adoption of CECL on January 1, 2021, the Company replaced the incurred loss impairment model that recognizes losses when it becomes probable that a credit loss will be incurred, with a requirement to recognize lifetime expected credit losses immediately when a financial asset is originated or purchased. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis of loans to present the net amount expected to be collected on the loans. Loans, or portions thereof, are charged off against the allowance when they are deemed uncollectible. Expected recoveries do not exceed the aggregate of amounts previously charged-off and expected to be charged off. The ACL is comprised of reserves measured on a collective (pool) basis based on a lifetime loss-rate model when similar risk characteristics exist. Loans that do not share risk characteristics are evaluated on an individual basis, generally larger non-accruing commercial loans and TDRs. The Company’s activity in the allowance for credit losses for the periods ended are as follows: Three Months Ended September 30, 2021 Balance at Beginning of Balance at (in thousands) Period Charge Offs Recoveries Provision End of Period Commercial construction $ 2,372 $ — $ — $ (286) $ 2,086 Commercial real estate owner occupied 2,552 (142) 72 237 2,719 Commercial real estate non-owner occupied 5,604 — — (22) 5,582 Tax exempt 91 — — (6) 85 Commercial and industrial 5,225 (24) — 105 5,306 Residential real estate 6,069 (6) 19 (290) 5,792 Home equity 822 (49) 1 30 804 Consumer other 80 (65) 1 58 74 Total $ 22,815 $ (286) $ 93 $ (174) $ 22,448 Nine Months Ended September 30, 2021 Balance at Beginning of Impact of ASC Balance at (in thousands) Period 326 Charge Offs Recoveries Provision End of Period Commercial construction $ 824 $ 1,196 $ — $ 18 $ 48 $ 2,086 Commercial real estate owner occupied 1,783 708 (403) 72 559 2,719 Commercial real estate non-owner occupied 7,864 (2,008) — 4 (278) 5,582 Tax exempt 58 40 — — (13) 85 Commercial and industrial 3,137 2,996 (44) 14 (797) 5,306 Residential real estate 5,010 1,732 (67) 141 (1,024) 5,792 Home equity 285 603 (108) 48 (24) 804 Consumer other 121 (39) (119) 10 101 74 Total $ 19,082 $ 5,228 $ (741) $ 307 $ (1,428) $ 22,448 Three Months Ended September 30, 2020 Balance at Beginning of Balance at (in thousands) Period Charge Offs Recoveries Provision End of Period Commercial construction $ 532 $ — $ — $ 185 $ 717 Commercial real estate owner occupied 1,524 — — 370 1,894 Commercial real estate non-owner occupied 5,926 (266) 14 783 6,457 Tax exempt 64 — — 4 68 Commercial and industrial 3,056 (24) 14 236 3,282 Residential real estate 4,991 — 1 86 5,078 Home equity 318 — — (4) 314 Consumer other 98 (149) 8 140 97 Total $ 16,509 $ (439) $ 37 $ 1,800 $ 17,907 Nine Months Ended September 30, 2020 Balance at Beginning of Balance at (in thousands) Period Charge Offs Recoveries Provision End of Period Commercial construction $ 317 $ — $ — $ 400 $ 717 Commercial real estate owner occupied 2,368 — — (474) 1,894 Commercial real estate non-owner occupied 4,695 (1,137) 109 2,790 6,457 Tax exempt 67 — — 1 68 Commercial and industrial 3,262 (360) 25 355 3,282 Residential real estate 4,213 (32) 12 885 5,078 Home equity 320 — — (6) 314 Consumer other 111 (341) 13 314 97 Total $ 15,353 $ (1,870) $ 159 $ 4,265 $ 17,907 Unfunded Commitments The Company’s allowance for credit losses on unfunded commitments is recognized as a liability (other liabilities on the consolidated balance sheet), with adjustments to the reserve recognized in other non-interest expense in the consolidated statement of operations. The Company’s activity in the allowance for credit losses on unfunded commitments for the periods ended was as follows: (in thousands) Three Months Ended September 30, 2021 Nine Months Ended September 30, 2021 Begininng Balance $ 1,921 $ 359 Impact of CECL adoption — 1,616 Provision for credit losses 280 226 Ending Balance $ 2,201 $ 2,201 (in thousands) Three Months Ended September 30, 2020 Nine Months Ended September 30, 2020 Begininng Balance $ 319 $ 314 Provision for credit losses 2 7 Ending Balance $ 321 $ 321 Loan Origination/Risk Management: Credit Quality Indicators: The following are the definitions of the Company’s credit quality indicators: Pass: Special Mention: Substandard: Doubtful: Loss: The following tables present the Company’s loans by year of origination, loan segmentation and risk indicator as of September 30, 2021: (in thousands) 2021 2020 2019 2018 2017 Prior Total Commercial construction Risk rating: Pass $ 22,192 $ 76,226 $ 44,453 $ 9,829 $ — $ — $ 152,700 Special mention — — — — — — — Substandard — — — — — — — Total $ 22,192 $ 76,226 $ 44,453 $ 9,829 $ — $ — $ 152,700 Commercial real estate owner occupied Risk rating: Pass $ 9,937 $ 16,003 $ 35,366 $ 47,026 $ 20,038 $ 110,663 $ 239,033 Special mention — — 767 — — 3,125 3,892 Substandard — — — 248 248 10,030 10,526 Doubtful — — — 172 — 169 341 Total $ 9,937 $ 16,003 $ 36,133 $ 47,446 $ 20,286 $ 123,987 $ 253,792 Commercial real estate non-owner occupied Risk rating: Pass $ 101,706 $ 147,754 $ 90,963 $ 40,545 $ 147,197 $ 186,056 $ 714,221 Special mention — — — — — 15,612 15,612 Substandard — — — 131 131 3,086 3,348 Doubtful — — — — — 172 172 Total $ 101,706 $ 147,754 $ 90,963 $ 40,676 $ 147,328 $ 204,926 $ 733,353 Tax exempt Risk rating: Pass $ 1,511 $ 604 $ 975 $ 14,453 $ 5,387 $ 19,518 $ 42,448 Special mention — — — — — — — Substandard — — — — — — — Total $ 1,511 $ 604 $ 975 $ 14,453 $ 5,387 $ 19,518 $ 42,448 Commercial and industrial Risk rating: Pass $ 104,179 $ 64,303 $ 36,010 $ 17,635 $ 35,407 $ 73,972 $ 331,506 Special mention 619 222 717 596 202 1,429 3,785 Substandard 98 — 549 14 50 677 1,388 Doubtful — — — — 122 188 310 Total $ 104,896 $ 64,525 $ 37,276 $ 18,245 $ 35,781 $ 76,266 $ 336,989 (continued) (in thousands) 2021 2020 2019 2018 2017 Prior Total Residential real estate Performing $ 143,071 $ 126,171 $ 95,942 $ 70,062 $ 69,486 $ 404,395 $ 909,127 Nonperforming — — — 576 183 7,415 8,174 Total $ 143,071 $ 126,171 $ 95,942 $ 70,638 $ 69,669 $ 411,810 $ 917,301 Home equity Performing $ 8,227 $ 10,946 $ 9,775 $ 7,647 $ 6,975 $ 43,133 $ 86,703 Nonperforming — — — — — 1,299 1,299 Total $ 8,227 $ 10,946 $ 9,775 $ 7,647 $ 6,975 $ 44,432 $ 88,002 Consumer other Performing $ 3,037 $ 1,942 $ 1,023 $ 803 $ 329 $ 2,429 $ 9,563 Nonperforming — — — — — 6 6 Total $ 3,037 $ 1,942 $ 1,023 $ 803 $ 329 $ 2,435 $ 9,569 Total Loans $ 394,577 $ 444,171 $ 316,540 $ 209,737 $ 285,755 $ 883,374 $ 2,534,154 The following table summarizes credit risk exposure indicators by portfolio segment, under the incurred loss methodology, as of the period indicated: December 31, 2020 Commercial Commercial Residential Real Estate and Industrial Real Estate Consumer Total Grade: Pass $ 1,053,773 $ 422,016 $ — $ — $ 1,475,789 Performing — — 914,749 112,190 1,026,939 Special mention 6,075 2,771 — — 8,846 Substandard 22,267 15,180 — — 37,447 Doubtful 2,265 1,100 — — 3,365 Loss 1 2 — — 3 Non-performing — — 9,142 1,354 10,496 Total $ 1,084,381 $ 441,069 $ 923,891 $ 113,544 $ 2,562,885 Past Dues The following is a summary of past due loans for the periods ended: September 30, 2021 (in thousands) 30-59 60-89 90+ Total Past Due Current Total Loans Commercial construction $ — $ — $ — $ — $ 152,700 $ 152,700 Commercial real estate owner occupied — 10 627 637 253,155 253,792 Commercial real estate non-owner occupied 314 — 117 431 732,922 733,353 Tax exempt — — — — 42,448 42,448 Commercial and industrial 44 35 313 392 336,597 336,989 Residential real estate 414 1,007 2,796 4,217 913,084 917,301 Home equity 344 95 62 501 87,501 88,002 Consumer other 32 2 — 34 9,535 9,569 Total $ 1,148 $ 1,149 $ 3,915 $ 6,212 $ 2,527,942 $ 2,534,154 December 31, 2020 (in thousands) 30-59 60-89 90+ Total Past Due Current Total Loans Commercial construction $ 74 $ — $ 1 $ 75 $ 117,807 $ 117,882 Commercial real estate owner occupied 1,309 464 438 2,211 217,006 219,217 Commercial real estate non-owner occupied 503 674 624 1,801 714,975 716,776 Tax exempt — — — — 47,862 47,862 Commercial and industrial 161 — 193 354 355,330 355,684 Residential real estate 9,178 2,511 3,200 14,889 980,327 995,216 Home equity 1,062 614 375 2,051 98,045 100,096 Consumer other 20 — 2 22 10,130 10,152 Total $ 12,307 $ 4,263 $ 4,833 $ 21,403 $ 2,541,482 $ 2,562,885 Non-Accrual Loans The following is a summary of non-accrual loans for the periods ended: September 30, 2021 Nonaccrual With No 90+ Days Past (in thousands) Nonaccrual Related Allowance Due and Accruing Commercial construction $ — $ — $ — Commercial real estate owner occupied 1,184 808 366 Commercial real estate non-owner occupied 770 314 — Tax exempt — — — Commercial and industrial 775 629 149 Residential real estate 8,174 3,217 105 Home equity 1,298 316 — Consumer other 6 — — Total $ 12,207 $ 5,284 $ 620 December 31, 2020 Nonaccrual With No 90+ Days Past (in thousands) Nonaccrual Related Allowance Due and Accruing Commercial construction $ 258 $ — $ — Commercial real estate owner occupied 3,038 929 — Commercial real estate non-owner occupied 383 118 — Tax exempt — — — Commercial and industrial 1,223 1,065 — Residential real estate 5,883 4,948 — Home equity 1,345 1,346 267 Consumer other 58 58 — Total $ 12,188 $ 8,464 $ 267 Collateral Dependent Loans Loans that do not share risk characteristics are evaluated on an individual basis. For loans that are individually evaluated and collateral dependent, financial loans where the Company has determined that foreclosure of the collateral is probable, or where the borrower is experiencing financial difficulty and the Company expects repayment of the financial asset to be provided substantially through the operation or sale of the collateral, the ACL is measured based on the difference between the fair value of the collateral and the amortized cost basis of the asset as of the measurement date. The following table presents the amortized cost basis of collateral-dependent loans by loan portfolio segment for the periods ended. September 30, 2021 December 31, 2020 (in thousands) Real Estate Other Real Estate Other Commercial construction $ — $ — $ 259 $ — Commercial real estate owner occupied 1,184 — 3,441 — Commercial real estate non-owner occupied 770 — 383 — Tax exempt — — — — Commercial and industrial 436 339 625 607 Residential real estate 8,174 — 7,432 — Home equity 1,298 — 1,493 — Consumer other 6 — 60 — Total $ 11,868 $ 339 $ 13,693 $ 607 Pre Adoption of ASC 326 – Impaired Loans For periods prior to the adoption of CECL, loans were considered impaired when, based on current information and events, it was probable the Company would be unable to collect all amounts due in accordance with the original contractual terms of the loan agreement, including scheduled principal and interest payments. The Company identified loan relationships having aggregate balances in excess of $150 thousand with potential credit weaknesses. Such loan relationships were identified primarily through the Company's analysis of internal loan evaluations, past due loan reports, TDRs and loans adversely classified. Each loan so identified was then individually evaluated for impairment. Substantially all impaired loans have historically been collateral dependent, meaning repayment of the loan was expected or was considered to be provided solely from the sale of the loan's underlying collateral. For such loans, the Company measured impairment based on the fair value of the loan's collateral, which is generally determined utilizing current appraisals. A specific reserve was established in an amount equal to the excess, if any, of the recorded investment in each impaired loan over the fair value of its underlying collateral, less estimated costs to sell. The Company's policy was to re-evaluate the fair value of collateral dependent loans at least every twelve months unless there is a known deterioration in the collateral's value, in which case a new appraisal is obtained. The tables reflects the activity associated with impaired loans in 2020 prior to the adoption of CECL. December 31, 2020 Recorded Unpaid Principal Related Average Recorded Interest (in thousands) Investment Balance Allowance Investment Income Recognized With no related allowance: Construction and land development $ — $ — $ — $ — $ — Other commercial real estate 2,001 2,047 — 1,610 — Commercial 1,095 1,254 — 1,140 4 Agricultural 361 150 — 114 2 Tax exempt loans — — — — — Residential real estate 2,745 3,165 — 1,077 17 Home equity — — — — — Other consumer — — — — — With an allowance recorded: Construction and land development 258 258 205 203 — Other commercial real estate 1,963 2,108 1,038 1,973 17 Commercial 282 289 164 73 — Agricultural — — — — — Tax exempt loans — — — — — Residential real estate 887 944 106 1,865 37 Home equity 13 13 — 12 1 Other consumer — — — — — Total Commercial real estate 4,222 4,413 1,243 3,786 17 Commercial and industrial 1,738 1,693 164 1,327 6 Residential real estate 3,632 4,109 106 2,942 54 Consumer 13 13 — 12 1 Total impaired loans $ 9,605 $ 10,228 $ 1,513 $ 8,067 $ 78 Troubled Debt Restructuring Loans The Company’s loan portfolio also includes certain loans that have been modified in a Troubled Debt Restructuring (TDR), where economic concessions have been granted to borrowers who have experienced or are expected to experience financial difficulties. These concessions typically result from the Company’s loss mitigation activities and could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance, or other actions. Certain TDRs are classified as non-performing at the time of restructure and may only be returned to performing status after considering the borrower’s sustained repayment performance for a reasonable period, generally six months. TDRs are evaluated individually for impairment and may result in a specific allowance amount allocated to an individual loan. The following tables include the recorded investment and number of modifications identified during the periods ended. The table includes the recorded investment in the loans prior to a modification and also the recorded investment in the loans after the loans were restructured. Modifications may include adjustments to interest rates, payment amounts, extensions of maturity, court ordered concessions or other actions intended to minimize economic loss and avoid foreclosure or repossession of collateral. There were no modifications qualifying as TDR’s for the three and nine months ended September 30, 2021. Three Months Ended September 30, 2020 Pre-Modification Post-Modification Number of Outstanding Outstanding (in thousands) Modifications Balance Balance Reserve Commercial and industrial 1 86 86 — Total 1 $ 86 $ 86 $ — Nine Months Ended September 30, 2020 Pre-Modification Post-Modification Number of Outstanding Outstanding (in thousands) Modifications Balance Balance Reserve Commercial construction — $ — $ — $ — Commercial real estate owner occupied — — — — Commercial real estate non-owner occupied 1 54 247 — Tax exempt — — — — Commercial and industrial 4 127 248 — Residential real estate — — — — Home equity 1 26 24 — Consumer other 1 9 9 — Total 7 $ 216 $ 528 $ — The following tables summarize the types of loan concessions made for the periods presented: September 30, 2021 September 30, 2020 Post-Modification Post-Modification Number of Outstanding Number of Outstanding (in thousands) Modifications Balance Modifications Balance Interest rate, forbearance and maturity concession — $ — 4 $ 409 Forbearance and interest only payments — — 1 24 Maturity concession — — 2 95 Total — $ — 7 $ 528 For the three months ended September 30, 2021 there were no loans that were restructured that had subsequently defaulted during the period. The evaluation of certain loans individually for specific impairment includes loans that were previously classified as TDRs or continue to be classified as TDRs. Modifications in response to COVID-19 The Company began offering short-term loan modifications to assist borrowers during the COVID-19 national emergency. The CARES Act along with a joint agency statement issued by banking agencies, provides that short-term modifications made in response to COVID-19 do not need to be accounted for as a TDR. Accordingly, the Company does not account for such loan modifications as TDRs. See Note 1 - Basis of Presentation Foreclosure Residential mortgage loans collateralized by real estate that are in the process of foreclosure as of September 30, 2021 and December 31, 2020 totaled $734 thousand and $917 thousand, respectively. Mortgage Banking The Company had identified and designated loans with an unpaid principal balance of $7.5 million and $24.0 million as residential loans held for sale at September 30, 2021 and December 31, 2020, respectively. The interest rate exposure on loans held for sale are mitigated through forward delivery commitments with certain approved secondary market investors. Forward delivery commitments were $14.5 million, and $50.6 million, respectively. Refer to Note 8 for further discussion of the Company's forward delivery commitments. For the three months ended September 30, 2021 and 2020, the Company sold $28.5 million and $86.2 million, respectively, of residential mortgage loans on the secondary market, which resulted in a net gain on sale of loans (net of costs, including direct and indirect origination costs) of $682 thousand and $2.2 million, respectively. For the nine months ended September 30, 2021 and 2020, the Company sold $153.9 million and $156.0 million, respectively, of residential mortgage loans on the secondary market, which resulted in a net gain on sale of loans (net of costs, including direct and indirect origination costs) of $3.6 million and $3.1 million, respectively. The Company sells residential loans on the secondary market with the Company primarily retaining the servicing of these loans. Servicing sold loans helps to maintain customer relationships and the Company earns fees over the servicing period. Loans serviced for others are not included in the accompanying consolidated balance sheets. The risks inherent in servicing assets relate primarily to level of prepayments that result from shifts in interest rates. The Company obtains third party valuations of its servicing assets portfolio quarterly, which assumptions are reflected in Fair Value disclosures. |