QNB (QNBC) 10-K/A 2020 FY Annual report (amended)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-K/A

(Amendment No. 1)

☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 for the fiscal year ended December 31, 2020

☐ 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 0-17706

QNB Corp.

(Exact Name of Registrant as Specified in Its Charter)

Pennsylvania	23-2318082
(State or Other Jurisdiction of Incorporation or Organization)	(I.R.S. Employer Identification No.)
15 North Third Street, P.O. Box 9005 Quakertown, PA	18951-9005
(Address of Principal Executive Offices)	(Zip Code)

Registrant's Telephone Number, Including Area Code (215) 538-5600

Securities registered pursuant to Section 12(b) of the Act:  None.

Title of each class                                                                Trading Symbol                                         Name of each exchange on which registered                          

               Common Stock                                                                 QNBC                                                                    N/A

Securities registered pursuant to Section 12(g) of the Act:

Common Stock

Title of class

Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities Act.    Yes  ☐    No  ☒

Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ☐    No  ☒

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  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).    Yes  ☒    No  ☐

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer	☐	Accelerated filer	☐
Non-accelerated filer	☒	Smaller reporting company	☒
Emerging growth company	☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report.  ☐

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  ☒

As of February 26, 2021, 3,554,550 shares of common stock of the registrant were outstanding. As of June 30, 2020, the aggregate market value of the common stock of the registrant held by non-affiliates was approximately $91,885,103 based upon the average bid and asked prices of the common stock as reported on the OTC BB.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of registrant’s Proxy Statement for the annual meeting of its shareholders to be held May 25, 2021 are incorporated by reference in Part III of this report.

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EXPLANATORY NOTE

This Amendment No. 1 (this “Amendment”) to the Annual Report on Form 10-K of QNB Corp. (the “Company”) for the fiscal year ended December 31, 2020, originally filed on March 11, 2021 (the “Original Filing”), is being filed solely to correct the date of the auditor’s consent filed as Exhibit 23.1 to the Original Filing to March 12, 2021, and to revise the date of the Report of Independent Registered Public Accounting Firm included in Item 8 of the Original Filing to March 12, 2021.  Pursuant to SEC Rule 12b‑15, in connection with this Amendment No. 1 on Form 10‑K/A, the Company is filing updated Exhibits 31.1, 31.2, 32.1, and 32.2.

Except as described above, no other changes have been made to the Original Filing, and this Amendment does not modify, amend or update in any way any of the financial or other information contained in the Original Filing. 

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The following audited financial statements are set forth in this Annual Report on Form 10-K on the following pages:

Report of Independent Registered Public Accounting Firm	Page 5
Consolidated Balance Sheets	Page 7
Consolidated Statements of Income	Page 8
Consolidated Statements of Comprehensive Income	Page 9
Consolidated Statements of Shareholders’ Equity	Page 10
Consolidated Statements of Cash Flows	Page 11
Notes to Consolidated Financial Statements	Page 12

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Management’s Report on Internal Control over Financial Reporting

March 12, 2021

Management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). Management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2020, in relation to criteria for effective internal control over financial reporting as described in “Internal Control Integrated Framework (2013),” issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on this assessment, management concludes that, as of December 31, 2020, the Company’s system of internal control over financial reporting is effective and meets the criteria of the “Internal Control Integrated Framework (2013).”

/s/ David W. Freeman	/s/ Janice McCracken Erkes
David W. Freeman	Janice McCracken Erkes
Chief Executive Officer	Chief Financial Officer

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Report of Independent Registered Public Accounting Firm

To the shareholders and the Board of Directors of QNB Corp.:

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of QNB Corp. and subsidiary (the "Company") as of December 31, 2020 and 2019, the related consolidated statements of income, comprehensive income, shareholders' equity, and cash flows, for each of the three years in the period ended December 31, 2020, and the related notes (collectively referred to as the "consolidated financial statements"). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2020, in conformity with accounting principles generally accepted in the United States of America.

Basis for Opinions

These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company's consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion.

Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical Audit Matter

The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.

Allowance for Loan Losses – Qualitative Factor Adjustments

Critical Audit Matter Description

As disclosed in Note 1 to the Company's consolidated financial statements, the Company maintains an allowance for loan losses that is intended to absorb probable known and inherent losses in the outstanding loan portfolio based on management's continuing review and evaluation of the loan portfolio. The Company's allowance for loan losses was $10,826,000 as of December 31, 2020. As described in the note, the allowance for loan losses consists of specific and general reserve components in order to estimate losses that have been incurred as of the consolidated balance sheet date. The general component is determined through historical loss rates based on loan type and qualitative factor adjustments for changes not reflected in historical losses.

The determination of qualitative factor adjustments involves a high degree of management judgment including consideration of the following internal and external factors: changes in lending policies and procedures, including underwriting standards and collection, charge-off, and recovery practices, changes in legal and regulatory requirements, changes in economic and business conditions, changes in the nature and volume of the loan portfolio, changes in the experience or ability of lending management, changes in the volume of past due, classified and nonaccrual loans, changes in the quality of the Company's loan review system, changes in oversight by the Company's board of directors, the effects of the COVID-19 Pandemic and the existence and effect of any concentrations of credit. Changes to these factors could have a material impact on the Company's financial results.

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The allowance for loan losses is an accounting estimate with significant measurement uncertainty and involves the application of significant judgement by management. Therefore, a high degree of auditor judgement and significant auditor effort was required in evaluating the audit evidence obtained related to the qualitative factor adjustments used by management in the calculation.

How the Critical Audit Matter was Addressed in the Audit

The primary procedures we performed to address this critical audit matter included:

Testing the design and operating effectiveness of internal controls related to the evaluation of the assumptions and inputs used to evaluate the qualitative factors, including controls addressing:

• Management's review of the completeness and accuracy of underlying data inputs used as the basis for determination of qualitative factor adjustments;

• Management's determination of impaired loans excluded from the general reserve component of the allowance for loan losses;

• Management's judgements related to the qualitative and quantitative assessment of underlying data used in the determination of qualitative loss factors; and,

• Management's review of the qualitative factors for mathematical accuracy.

Substantively testing the appropriateness of the judgements and assumptions used in management's estimation process for developing the qualitative factor adjustments, including:

• Assessing whether all relevant factors have been considered that affect the collectability of the loan portfolio;

• Evaluation of the relevance and reliability of underlying internal and external data inputs used as a basis for the qualitative loss factor adjustments and corroboration of these inputs by comparison to the Company's lending practices, historical loan portfolio performance, and third-party macroeconomic data;

• Evaluation of the propriety of impaired loans excluded from the general reserve component of the allowance for loan losses;

• Evaluation of the accuracy of risk ratings, including loan modifications;

• Recalculation of the allowance for loan loss and allocation of qualitative loss factors to the appropriate loan segments

/s/ Baker Tilly US, LLP

We have served as the Company's auditor since 2007.

Baker Tilly US, LLP (formerly known as Baker Tilly Virchow Krause, LLP)

Iselin, New Jersey

March 12, 2021

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CONSOLIDATED BALANCE SHEETS  

	(in thousands, except share data)
December 31,	2020			2019
Assets
Cash and due from banks	$	13,422		$	12,398
Interest-bearing deposits in banks		25,909			5,210
Total cash and cash equivalents		39,331			17,608
Investment securities:
Available-for-sale (amortized cost $428,495 and  $349,385)		435,646			349,710
Equity securities (cost of $12,784 and $9,053)		12,849			9,164
Restricted investment in bank stocks		1,041			1,073
Loans held-for-sale		6,570			977
Loans receivable		920,042			820,616
Allowance for loan losses		(10,826	)		(9,887	)
Net loans		909,216			810,729
Bank-owned life insurance		11,791			11,490
Premises and equipment, net		15,404			15,608
Accrued interest receivable		4,825			2,828
Net deferred tax assets		66			1,441
Other assets		3,490			4,395
Total assets	$	1,440,229		$	1,225,023
Liabilities
Deposits
Demand, non-interest bearing	$	204,584		$	146,270
Interest-bearing demand		395,364			332,918
Money market		96,811			75,634
Savings		334,223			247,462
Time		107,582			120,917
Time of $100 or more		89,503			114,659
Total deposits		1,228,067			1,037,860
Short-term borrowings		58,838			55,931
Long-term debt		10,000			—
Accrued interest payable		350			909
Other liabilities		8,529			9,606
Total liabilities		1,305,784			1,104,306
Shareholders' Equity
Common stock, par value $0.625 per share; authorized 10,000,000 shares; 3,725,202    shares and 3,684,336 shares issued; 3,556,533 and 3,519,767 shares outstanding		2,328			2,303
Surplus		22,430			21,261
Retained earnings		106,644			99,372
Accumulated other comprehensive gain, net of tax		5,649			257
Treasury stock, at cost; 168,669 and 164,569 shares		(2,606	)		(2,476	)
Total shareholders' equity		134,445			120,717
Total liabilities and shareholders' equity	$	1,440,229		$	1,225,023

The accompanying notes are an integral part of the consolidated financial statements.

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CONSOLIDATED STATEMENTS OF INCOME  

	(in thousands, except per share data)
Year ended December 31,	2020			2019		2018
Interest income
Interest and fees on loans	$	36,504		$	38,187	$	34,939
Interest and dividends on investment securities (AFS & Equity):
Taxable		5,668			6,568		6,280
Tax-exempt		1,405			1,529		1,845
Interest on interest-bearing balances and other interest income		116			134		136
Total interest income		43,693			46,418		43,200
Interest expense
Interest on deposits
Interest-bearing demand		1,347			3,013		2,226
Money market		405			815		329
Savings		1,155			1,605		1,657
Time		1,599			1,908		1,578
Time of $100 or more		1,556			2,083		1,723
Interest on short-term borrowings		247			700		672
Interest on long-term debt		136			—		—
Total interest expense		6,445			10,124		8,185
Net interest income		37,248			36,294		35,015
Provision for loan losses		1,250			1,300		1,130
Net interest income after provision for loan losses		35,998			34,994		33,885
Non-interest income
Net unrealized (loss) gain on investment equity securities		(47	)		770		(336	)
Net gain (loss) on sale of investment securities		609			1,755		(76	)
Net gain (loss)  on investment securities		562			2,525		(412	)
Fees for services to customers		1,315			1,691		1,699
ATM and debit card		2,195			2,070		1,895
Retail brokerage and advisory		581			560		370
Bank-owned life insurance		294			292		291
Merchant		417			348		326
Net gain on sale of loans		1,724			195		105
Other		514			636		618
Total non-interest income		7,602			8,317		4,892
Non-interest expense
Salaries and employee benefits		16,541			16,086		14,411
Net occupancy		2,164			2,040		1,872
Furniture and equipment		2,750			2,496		2,165
Marketing		876			1,042		927
Third party services		1,923			1,853		1,889
Telephone, postage and supplies		736			720		685
State taxes		887			760		727
FDIC insurance premiums		569			269		624
Other		2,509			2,838		2,585
Total non-interest expense		28,955			28,104		25,885
Income before income taxes		14,645			15,207		12,892
Provision for income taxes		2,562			2,850		1,557
Net income	$	12,083		$	12,357	$	11,335
Earnings per share - basic	$	3.42		$	3.53	$	3.27
Earnings per share - diluted	$	3.42		$	3.53	$	3.25
Cash dividends per share	$	1.36		$	1.32	$	1.28

The accompanying notes are an integral part of the consolidated financial statements.

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CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

	(in thousands)
Year ended December 31,	2020									2019						2018
	Before tax amount			Tax expense (benefit)			Net of tax amount			Before tax amount		Tax expense (benefit)		Net of tax amount		Before tax amount			Tax expense (benefit)			Net of tax amount
Net income	$	14,645		$	2,562		$	12,083		$	15,207	$	2,850	$	12,357	$	12,892		$	1,557		$	11,335
Other comprehensive income gain:
Net unrealized holding gains on securities:
Unrealized holding gains arising during the period		6,850			1,439			5,411			9,327		1,959		7,368		(3,156	)		(663	)		(2,493	)
Reclassification adjustment for gains included in net income		(24	)		(5	)		(19	)		26		5		21		(3	)		(1	)		(2	)
		6,826			1,434			5,392			9,353		1,964		7,389		(3,159	)		(664	)		(2,495	)
Total comprehensive income	$	21,471		$	3,996		$	17,475		$	24,560	$	4,814	$	19,746	$	9,733		$	893		$	8,840

The accompanying notes are an integral part of the consolidated financial statements

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CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY

											Accumulated
	Number of										Other
	Shares			Common				Retained			Comprehensive			Treasury
	Outstanding			Stock		Surplus		Earnings			Income (Loss)			Stock			Total
Balance, December 31, 2017		3,448,108		$	2,258	$	18,691	$	84,183		$	(4,086	)	$	(2,476	)	$	98,570
Net income					—		—		11,335			—			—			11,335
Other comprehensive loss, net of tax					—		—		—			(2,495	)		—			(2,495	)
Cash dividends declared ($1.28 per share)					—		—		(4,434	)		—			—			(4,434	)
Equity securities fair value reclassification (1)					-		-		(254	)		254			—			-
ASU 2018-02 stranded tax reclassification  (2)					-		-		805			(805	)		—			-
Stock issued in connection with dividend    reinvestment and stock purchase plan		23,302			14		965		—			—			—			979
Stock issued for employee stock purchase    plan		2,963		2		115			—			—			—			117
Stock issued for options exercised		9,707		6		153			—			—			—			159
Stock-based compensation expense					—	117			—			—			—			117
Balance, December 31, 2018		3,484,080		$	2,280	$	20,041	$	91,635		$	(7,132	)	$	(2,476	)	$	104,348
Net income					—		—		12,357			—			—			12,357
Other comprehensive loss, net of tax					—		—		—			7,389			—			7,389
Cash dividends declared ($1.32 per share)					—		—		(4,620	)		—			—			(4,620	)
Stock issued in connection with dividend    reinvestment and stock purchase plan		24,264			16		847		—			—			—			863
Stock issued for employee stock purchase    plan		3,310			2		109		—			—			—			111
Stock issued for options exercised		8,113			5		146		—			—			—			151
Stock-based compensation expense					-		118		—			—			—			118
Balance, December 31, 2019		3,519,767		$	2,303	$	21,261	$	99,372		$	257		$	(2,476	)	$	120,717
Net income					—		—		12,083			—			—			12,083
Other comprehensive loss, net of tax					—		—		—			5,392			—			5,392
Cash dividends declared ($1.36 per share)					—		—		(4,811	)		—			—			(4,811	)
Treasury stock purchase		(4,100	)		—		—		—			—			(130	)		(130	)
Stock issued in connection with dividend    reinvestment and stock purchase plan		32,022			19		879		—			—			—			898
Stock issued for employee stock purchase    plan		5,723			4		143		—			—			—			147
Stock issued for options exercised		3,121			2		35		—			—			—			37
Stock-based compensation expense					—		112		—			—			—			112
Balance, December 31, 2020		3,556,533		$	2,328	$	22,430	$	106,644		$	5,649		$	(2,606	)	$	134,445
(1) Refer to Note 1, ASU 2016-01
(2) Refer to Note 1, ASU 2018-02

The accompanying notes are an integral part of the consolidated financial statements.

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CONSOLIDATED STATEMENTS OF CASH FLOWS

	(in thousands)
Year ended December 31,	2020			2019			2018
Operating Activities
Net income	$	12,083		$	12,357		$	11,335
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		2,035			1,832			990
Provision for loan losses		1,250			1,300			1,130
Net (gain) loss on investment debt and equity securities		(609	)		(1,755	)		76
Net unrealized loss (gain) on equity securities		47			(770	)		336
Net gain on sale of other real estate owned, repossessed assets and    premises and equipment		—			(51	)		(1	)
Net gain on sale of loans		(1,724	)		(195	)		(105	)
Proceeds from sales of residential mortgages held-for-sale		35,605			7,324			4,478
Origination of residential mortgages held-for-sale		(39,474	)		(8,106	)		(4,373	)
Income on bank-owned life insurance		(294	)		(292	)		(291	)
Stock-based compensation expense		112			118			117
Deferred income tax (benefit) provision		(59	)		319			258
Net increase (decrease) in income taxes payable		215			(29	)		(230	)
Net decrease (increase) in accrued interest receivable		(1,997	)		24			693
Amortization of mortgage servicing rights and change in valuation    allowance		157			65			65
Net amortization of premiums and discounts on investment securities		2,473			1,501			1,434
Net (decrease) increase in accrued interest payable		(559	)		460			65
Operating lease payments		(654	)		(583	)		—
Decrease in other assets		525			423			73
(Decrease) increase in other liabilities		(1,531	)		(44	)		601
Net cash provided by operating activities		7,601			13,898			16,651
Investing Activities
Proceeds from payments, maturities and calls of investment debt securities    available-for-sale		207,245			68,174			48,074
Proceeds from the sale of investment securities available-for-sale		6,930			47,851			4,159
Purchases of investment securities available-for-sale		(295,734	)		(113,688	)		(26,473	)
Proceeds from the sale of equity securities		4,767			11,838			4,902
Purchases of equity securities		(7,914	)		(9,030	)		(9,763	)
Proceeds from redemption of investment in restricted bank stock		1,495			9,675			10,320
Purchase of restricted bank stock		(1,463	)		(9,951	)		(9,616	)
Net increase in loans		(99,737	)		(35,415	)		(52,302	)
Net purchases of premises and equipment		(722	)		(3,086	)		(2,413	)
Proceeds from sales of other real estate owned and repossessed assets		—			58			1
Net cash used in investing activities		(185,133	)		(33,574	)		(33,111	)
Financing Activities
Net increase (decrease) in non-interest bearing deposits		58,314			17,655			(597	)
Net increase in interest-bearing deposits		131,893			4,607			22,247
Net increase (decrease) in short-term borrowings		2,907			5,059			(4,884	)
Issuance of long-term debt		10,000			—			—
Treasury stock purchase		(130	)		—			—
Cash dividends paid, net of reinvestment		(4,226	)		(4,086	)		(3,863	)
Proceeds from issuance of common stock		497			591			684
Net cash provided by financing activities		199,255			23,826			13,587
Increase (decrease) in cash and cash equivalents		21,723			4,150			(2,873	)
Cash and cash equivalents at beginning of year		17,608			13,458			16,331
Cash and cash equivalents at end of period	$	39,331		$	17,608		$	13,458
Supplemental Cash Flow Disclosures
Interest paid	$	7,004		$	9,664		$	8,120
Income taxes paid, net of refunds received		2,406			2,560			1,529
Non-cash transactions:
Right-of-use assets obtained in exchange for new operating lease liabilities		1,086			2,407			—

The accompanying notes are an integral part of the consolidated financial statement.

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QNB CORP. AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1 - Summary of Significant Accounting Policies

Business

QNB Corp. (the “Company”), through its wholly-owned subsidiary, QNB Bank (the “Bank”), has been serving the residents and businesses of Bucks, Lehigh, and Montgomery counties in Pennsylvania since 1877. The Bank is a locally managed community bank that provides a full range of commercial, retail banking and retail brokerage services. The Bank encounters vigorous competition for market share in the communities it serves from bank holding companies, other community banks, thrift institutions, credit unions and other non-bank financial organizations such as mutual fund companies, insurance companies and brokerage companies. The Company manages its business as a single operating segment.

The Bank is a Pennsylvania chartered commercial bank. The Company and the Bank are subject to regulations of certain state and Federal agencies. These regulatory agencies periodically examine the Company and the Bank for adherence to laws and regulations.

Basis of Presentation

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, the Bank. The consolidated entity is referred to herein as “QNB”. All significant inter-company accounts and transactions have been eliminated in the consolidated financial statements.

Tabular information, other than share and per share data, is presented in thousands of dollars.  Certain prior period amounts have been reclassified to conform with the current year’s presentation.

Use of Estimates

These statements are prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) and predominant practices within the banking industry. The preparation of these consolidated financial statements requires QNB to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. QNB evaluates estimates on an on-going basis. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the determination of the valuation of other real estate owned, the fair value of financial instruments, other-than-temporary impairment of investment securities, the determination of impairment of restricted bank stock and the valuation of deferred tax assets and income taxes. QNB bases its estimates on historical experience and various other factors and assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

Significant Group Concentrations of Credit Risk

Most of the QNB’s activities are with customers located within Bucks, Montgomery and Lehigh Counties in southeastern Pennsylvania. Note 4 discusses the types of investment securities in which the Company invests. Note 5 discusses the types of lending in which the Company engages. The Company does not have any significant concentrations to any one industry or customer. Although the Company has a diversified loan portfolio, its debtors’ ability to honor their contracts is influenced by the region’s economy.

Cash and Cash Equivalents

For purposes of the statement of cash flows, cash and cash equivalents consist of cash on hand, cash items in process of collection, amounts due from banks, interest-bearing deposits in the Federal Reserve Bank and other banks and Federal funds sold. QNB maintains a portion of its interest-bearing deposits at various commercial financial institutions. At times, the balances exceed the FDIC insured limits.

Trading Securities

The Company may engage in trading activities for its own account. Interest and dividends are included in interest income. Debt securities that are bought and held principally for the purpose of selling in the near term are classified as trading securities and reported at fair value, with unrealized gains and losses included in earnings.

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Investment Securities

Investment debt securities that QNB has the positive intent and ability to hold to maturity are classified as held-to-maturity securities and reported at amortized cost. Interest is included in interest income. Debt securities not classified as either held-to-maturity securities or trading securities are classified as available-for-sale debt securities and reported at fair value, with unrealized gains and losses, net of tax, excluded from earnings and reported in other comprehensive income or loss, a separate component of shareholders’ equity. Management determines the appropriate classification of securities at the time of purchase.

Available-for-sale debt securities include securities that management intends to use as part of its asset/liability management strategy and that may be sold in response to changes in credit ratings, changes in market interest rates and related changes in the securities’ prepayment risk or to meet liquidity needs.

Premiums and discounts on debt securities are recognized in interest income using a constant yield method. Gains and losses on sales of available-for-sale securities are recorded on the trade date and are computed on the specific identification method and included in non-interest income.

Equity investments with readily determinable fair values are measured at fair value.  Beginning January 1, 2018, the changes in fair value are recognized in net income.  Dividends are included in interest income.

Other-than-Temporary Impairment of Investment Securities

Securities are evaluated periodically to determine whether a decline in their value is other-than-temporary. Management utilizes criteria such as the magnitude and duration of the decline, in addition to the reasons underlying the decline, to determine whether the loss in value is other-than-temporary. The term “other-than-temporary” is not intended to indicate that the decline is permanent, but indicates that the prospects for a near-term recovery of value is not necessarily favorable, or that there is a lack of evidence to support realizable value equal to or greater than carrying value of the investment. For equity securities without a readily determinable market value, once a decline in value is determined to be other-than-temporary, the value of the equity security is reduced to fair value and a corresponding charge to earnings is recognized.  Temporary improvements in the fair value on equity securities with an OTTI change would not be recognized.

The Company follows the accounting guidance in Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 320-10 as it relates to the recognition and presentation of other-than-temporary impairment (“OTTI”). This accounting guidance specifies that (a) if a company does not have the intent to sell a debt security prior to recovery and (b) it is more likely than not that it will not have to sell the debt security prior to recovery, the security would not be considered other-than-temporarily impaired unless there is a credit loss. When an entity does not intend to sell the security, and it is more likely than not the entity will not have to sell the security before recovery of its cost basis, it will recognize the credit component of an other-than-temporary impairment of a debt security in earnings and the remaining portion in other comprehensive income. For held to maturity debt securities, the amount of an other-than-temporary impairment recorded in other comprehensive income for the non-credit portion of a previous other-than-temporary impairment would be amortized prospectively over the remaining life of the security based on the timing of future estimated cash flows of the security.

Restricted Investment in Stock

Restricted bank stock is comprised of restricted stock of the Federal Home Loan Bank of Pittsburgh (“FHLB”) in the amount of $1,029,000, the Atlantic Community Bankers Bank in the amount of $12,000 and VISA Class B stock with a carrying cost of $0 at December 31, 2020. Federal law requires a member institution of the FHLB to hold stock of its district bank according to a predetermined formula. These restricted securities are carried at cost.  The Bank owns 6,502 shares of Visa Class B stock, which was necessary to participate in Visa services in support of the Bank’s credit card, debit card, and related payment programs (permissible activities under banking regulations) as a member institution. Following the resolution of Visa’s covered litigation, shares of Visa’s Class B stock will be converted to Visa Class A shares using a conversion factor (1.6228 as of September 27, 2019), which is periodically adjusted to reflect VISA’s ongoing litigation costs. There is a very limited market for this stock, as only current owners of Class B shares are permitted to transact in Class B. Due to the lack of orderly trades and public information of such trades, Visa Class B does not have a readily determinable fair value.  These restricted investments are carried at cost and evaluated for OTTI periodically. As of December 31, 2020, there was no OTTI associated with these shares.

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Loans

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are stated at the principal amount outstanding, net of deferred loan fees and costs. Interest income is accrued on the principal amount outstanding. Loan origination and commitment fees and related direct costs are deferred and amortized to income over the term of the respective loan and loan commitment period as a yield adjustment.

Loans held-for-sale consist of residential mortgage loans and are carried at the lower of aggregate cost or fair value. Net unrealized losses, if any, are recognized through a valuation allowance charged to income. Gains and losses on residential mortgages held-for-sale are included in non-interest income.

Non-Performing Assets

Non-performing assets are comprised of accruing loans past due 90 days or more, non-accrual loans and investment securities, restructured loans, other real estate owned and repossessed assets. Non-accrual loans and investment securities are those on which the accrual of interest has ceased. Loans are placed on non-accrual status immediately if, in the opinion of management, collection is doubtful, or when principal or interest is past due 90 days or more and collateral is insufficient to cover principal and interest. Interest accrued, but not collected at the date a loan is placed on non-accrual status, is reversed and charged against interest income. Subsequent cash receipts are applied either to the outstanding principal or recorded as interest income, depending on management’s assessment of the ultimate collectability of principal and interest. Loans are returned to an accrual status when the borrower’s ability to make periodic principal and interest payments has returned to normal (i.e. brought current with respect to principal or interest or restructured) and the paying capacity of the borrower and/or the underlying collateral is deemed sufficient to cover principal and interest.

From time to time, QNB may extend, restructure, or otherwise modify the terms of existing loans, on a case-by-case basis, to remain competitive and retain certain customers, as well as assist other customers that may be experiencing financial difficulties. A loan is considered to be a troubled debt restructuring (“TDR”) loan when the Company grants a concession to the borrower because of the borrower’s financial condition that it would not otherwise consider. Such concessions may include the reduction of interest rates, forgiveness of principal or interest, or other modifications of interest rates to less than the current market rate for new obligations with similar risk. Loans classified as TDRs are considered non-performing and are also designated as impaired.  

Accounting for impairment in the performance of a loan is required when it is probable that all amounts, including both principal and interest, will not be collected in accordance with the loan agreement. Impaired loans are measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate or, at the loan’s observable market price or the fair value of the collateral if the loans are collateral dependent. Impairment criteria are applied to the loan portfolio exclusive of smaller homogeneous loans such as residential mortgage and consumer loans which are evaluated collectively for impairment.

Loans are fully charged-off or charged down to net realizable value (fair value of collateral less estimated costs to sell) when deemed uncollectible due to bankruptcy or other factors, or when they reach a defined number of days past due based on loan product, industry practice, terms and other factors.

Loans are considered past due when contractually required principal or interest payments have not been made on the due dates.

Allowance for Loan Losses

QNB maintains an allowance for loan losses, which is intended to absorb probable known and inherent losses in the outstanding loan portfolio. The allowance is reduced by actual credit losses and is increased by the provision for loan losses and recoveries of previous losses. The provisions for loan losses are charged to earnings to bring the total allowance for loan losses to a level considered necessary by management.

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The allowance for loan losses is based on management’s continuing review and evaluation of the loan portfolio. The level of the allowance is determined by assigning specific reserves to individually identified problem credits and general reserves to all other loans. For such loans that are also classified as impaired, an allowance is established when the discounted cash flows (or collateral value) of the impaired loan is lower than the carrying value of that loan. The portion of the allowance that is allocated to internally criticized and non-accrual loans is determined by estimating the inherent loss on each credit after giving consideration to the value of underlying collateral. The general component covers pools of loans by loan class including commercial loans not considered impaired, as well as smaller balance homogeneous loans, such as residential real estate, home equity and other consumer loans. These pools of loans are evaluated for loss exposure based upon historical loss rates. These loss rates are based on a three-year history of charge-offs and are more heavily weighted for recent experience for each of these categories of loans, adjusted for qualitative factors. These qualitative risk factors include:

• Lending policies and procedures, including underwriting standards and collection, charge-off and recovery practices.

• External factor effects, such as legal and regulatory requirements.

• National, regional, and local economic and business conditions as well as the condition of various market segments, including the value of underlying collateral for collateral dependent loans.

• Nature and volume of the portfolio including growth.

• Experience, ability, and depth of lending management and staff.

• Volume and severity of past due, classified and nonaccrual loans.

• Quality of the Company’s loan review system, and the degree of oversight by the Company’s Board of Directors.

• Existence and effect of any concentrations of credit and changes in the level of such concentrations.

• The duration of the COVID-19 Pandemic, modifications and stimulus packages masking underlying credit issues.

Each factor is assigned a value to reflect improving, stable or declining conditions based on management’s best judgment using relevant information available at the time of the evaluation.

An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.

Management emphasizes loan quality and close monitoring of potential problem credits. Credit risk identification and review processes are utilized in order to assess and monitor the degree of risk in the loan portfolio. QNB’s lending and credit administration staff are charged with reviewing the loan portfolio and identifying changes in the economy or in a borrower’s circumstances which may affect the ability to repay debt or the value of pledged collateral. A loan classification and review system exists that identifies those loans with a higher than normal risk of collection. Each commercial loan is assigned a grade based upon an assessment of the borrower’s financial capacity to service the debt and the presence and value of collateral for the loan. An independent loan review group tests risk assessments and evaluates the adequacy of the allowance for loan losses. Management meets monthly to review the credit quality of the loan portfolio and quarterly to review the allowance for loan losses.

In addition, various regulatory agencies, as an integral part of their examination process, periodically review QNB’s allowance for loan losses. Such agencies may require QNB to recognize additions to the allowance based on their judgments using information available to them at the time of their examination.

Management believes that it uses the best information available to make determinations about the adequacy of the allowance and that it has established its existing allowance for loan losses in accordance with GAAP.  If circumstances differ substantially from the assumptions used in making determinations, future adjustments to the allowance for loan losses may be necessary and results of operations could be affected. Because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that increases to the allowance will not be necessary should the quality of any loans deteriorate as a result of the factors discussed above.

Transfers of Financial Assets

Transfers of financial assets are accounted for as sales when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.

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Servicing Assets

Servicing assets are recognized as separate assets when rights are acquired through the sale of financial assets. When mortgage loans are sold, a portion of the cost of originating the loan is allocated to the servicing rights based on relative fair value. Fair value is based on market prices for comparable mortgage servicing contracts, when available, or alternatively, is based on a valuation model that calculates the present value of estimated future net servicing income. The Company subsequently measures servicing rights using the amortization method where servicing rights are amortized in proportion to and over the period of estimated net servicing income. On a quarterly basis, an independent third party determines the fair value of QNB’s servicing assets. These assets are evaluated for impairment based upon the fair value of the rights as compared to amortized cost. Impairment is determined by stratifying rights into tranches based on predominant characteristics, such as interest rate, loan type and investor type. Impairment is recognized through a valuation allowance for an individual tranche, to the extent that fair value is less than the capitalized amount for the tranches. If the Company later determines that all or a portion of the impairment no longer exists for a particular tranche, a reduction of the valuation allowance may be recorded as an increase to income. Capitalized servicing rights are reported in other assets and are amortized into other non-interest income in proportion to, and over the period of, the estimated future net servicing income of the underlying financial assets.

Servicing fee income is recorded for fees earned for servicing loans. The fees are based on a contractual percentage of the outstanding principal, or a fixed amount per loan and are recorded as other non-interest income when earned and netted against the amortization of mortgage servicing rights.

Foreclosed Assets

Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value less cost to sell at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Revenue and expenses from operations and changes in the valuation allowance of foreclosed assets are included in other non-interest expense. At both December 31, 2020 and 2019, the Company had  no foreclosed assets.

Premises and Equipment

Premises and equipment are stated at cost, less accumulated depreciation and amortization. Depreciation and amortization are calculated principally on an accelerated or straight-line basis over the estimated useful lives of the assets, or the shorter of the estimated useful life or lease term for leasehold improvements, as follows:

Buildings	10 to 39 years
Furniture and equipment	3 to 15 years
Leasehold improvements	5 to 30 years

Expenditures for maintenance and repairs are charged to operations as incurred. Gains or losses upon disposition are reflected in earnings as realized.

The “Premises and equipment, net” category Consolidated Balance Sheets also includes the right-of-use assets associated with operating leases.  The discount rates used in determining the initial value of the right of use assets are based on the FHLB Amortizing Fixed Loan Rate for the term of each lease.  QNB typically enters into lease agreements with an initial term of  5 to 10 years and subsequent additional optional terms in increments of 5 years.  The lease agreements also contain termination options. None of the leases contain purchase options and none transfer the ownership of the leased asset.  QNB has renewed one operating lease  during 2020.   Operating lease liabilities are included with “Other liabilities” on the Consolidated Balance Sheets.  All operating lease costs are included in non-interest expense within  “Net occupancy” on the Consolidated Statements of Income.

Bank-Owned Life Insurance

The Bank invests in bank-owned life insurance (“BOLI”) as a source of funding for employee benefit expenses. BOLI involves the purchasing of life insurance by the Bank on a select group of employees. The Bank is the owner and beneficiary of the policies. Income from the increase in cash surrender value of the policies as well as the receipt of death benefits is included in non-interest income on the consolidated statement of income. The BOLI policies are an asset that can be liquidated, if necessary, with associated tax costs. However, the Bank intends to hold these policies and, accordingly, has not provided for deferred income taxes on the earnings from the increase in cash surrender value.

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The Bank follows the accounting guidance for postretirement benefit aspects of endorsement split-dollar life insurance arrangements which applies to life insurance arrangements that provide an employee with a specified benefit that is not limited to the employee’s active service period, including certain bank-owned life insurance policies. It requires an employer to recognize a liability and related compensation costs for future benefits that extend to postretirement periods. The expense recorded during 2020, 2019 and 2018 was approximately $0, $59,000 and $53,000, respectively, and is included in non-interest expense under salaries and benefits expense. No expense was needed during 2020 as the December 31, 2019 post-retirement liability was in line with the December 31, 2020 projected post-retirement liability based on updated insurance costs and mortality tables.    

Stock-Based Compensation

At December 31, 2020, QNB sponsored stock-based compensation plans, administered by a Board committee, under which both qualified and non-qualified stock options may be granted periodically to certain employees. QNB accounts for all awards granted under stock-based compensation plans in accordance with FASB ASC 718, Compensation - Stock Compensation. Compensation cost has been measured using the fair value of an award on the grant date and is recognized over the service period, which is usually the vesting period.

Stock-based compensation expense was approximately $112,000, $118,000 and $117,000 for the years ended December 31, 2020, 2019 and 2018, respectively. There were $5,000, $7,000 and $10,000 in tax benefits recognized related to the nonqualified compensation and disqualifying dispositions for the years ended December 31, 2020, 2019 and 2018, respectively.

The fair value of each option is amortized into compensation expense on a straight-line basis between the grant date for the option and each vesting date. QNB estimated the fair value of stock options on the date of the grant using the Black-Scholes option pricing model. The model requires the use of numerous assumptions, many of which are highly subjective in nature. The following assumptions were used in the option pricing model in determining the fair value of options granted during the periods presented.

Year ended December 31,	2020			2019			2018
Risk free interest rate		1.52	%		2.52	%		2.15	%
Dividend yield		3.60	%		3.36	%		1.24	%
Volatility		13.46	%		16.44	%		18.12	%
Expected life (years)		4.0			4.2			4.2

The weighted average fair value per share of options granted during 2020, 2019 and 2018 was $2.42, $3.96 and $5.29, respectively. The risk-free interest rate was selected based upon yields of U.S. Treasury issues with a term equal to the expected life of the option being valued. Historical information was the primary basis for the selection of the expected dividend yield, expected volatility and expected lives of the options.

Income Taxes 

QNB accounts for income taxes under the asset/liability method in accordance with income tax accounting guidance, ASC 740 - Income Taxes. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, as well as operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is established against deferred tax assets when, in the judgment of management, it is more likely than not that such deferred tax assets will not become available. Because the judgment about the level of future taxable income is dependent to a great extent on matters that may, at least in part, be beyond QNB’s control, it is at least reasonably possible that management’s judgment about the need for a valuation allowance for deferred taxes could change in the near term.

In connection with the accounting guidance related to accounting for uncertainty in income taxes, which sets out a consistent framework to determine the appropriate level of tax reserves to maintain for uncertain tax positions, QNB has evaluated its tax positions as of December 31, 2020. A tax position is recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that has more than a 50 percent likelihood of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded. Under the “more-likely-than-not” threshold guidelines, QNB believes no significant uncertain tax positions exist, either individually or in the aggregate, that would give rise to the non-recognition of an existing tax benefit. As of December 31, 2020, QNB had no material unrecognized tax benefits or accrued interest and no tax penalties. QNB’s policy is to account for interest as a component of interest expense and penalties as a component of other expense. The Company and its subsidiary are subject to U.S. Federal income tax as well as income tax of the Commonwealth of Pennsylvania and the State of New Jersey.  Tax years from 2017 to date remain subject to examination by the tax authorities.

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Treasury Stock

Common stock shares repurchased are recorded as treasury stock at cost.  

Earnings Per Share

Basic earnings per share excludes any dilutive effects of options and is computed by dividing net income by the weighted average number of common shares outstanding during the period. Diluted earnings per share gives effect to all dilutive potential common shares that were outstanding during the period. Potential common shares that may be issued by the Company relate solely to outstanding stock options and are determined using the treasury stock method.

Treasury shares are not deemed outstanding for earnings per share calculations.

Comprehensive Income (Loss)

Comprehensive income (loss) is defined as the change in equity of a business entity during a period due to transactions and other events and circumstances, excluding those resulting from investments by and distributions to owners. Comprehensive income (loss) consists of net income and other comprehensive income (loss). For QNB, the primary component of other comprehensive income (loss) is the unrealized holding gains or losses on available-for-sale investment securities and unrealized losses on available-for-sale investment securities related to factors other than credit on debt securities.

Advertising Costs

Advertising costs are recorded in the period they are incurred within operating expenses in non-interest expense in the consolidated statements of income.

Financial Instruments with Off-Balance-Sheet Risk

The Company’s exposure to credit loss in the event of non-performance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual notional amount of these instruments. The Company uses the same credit policies in making commitments and contractual obligations as it does for on-balance-sheet instruments. The Company reflects its estimate of credit risk for these instruments in “Other liabilities” on the Consolidated Balance Sheet with the corresponding expense recorded in “Other” non-interest  expense in the Consolidated Statements of Income.

Subsequent Events

QNB has evaluated events and transactions occurring subsequent to the balance sheet date of December 31, 2020 through the date the consolidated financial statements are being issued for items that should potentially be recognized or disclosed in these consolidated financial statements. QNB identified the following events:

• QNB entered into an agreement, contingent upon subdivision approval, to purchase its currently leased Country Square Branch.  QNB anticipates settlement prior to the end of the first quarter of 2021.

• QNB granted additional COVID-19 loan modifications and renewals.  Ten loan modifications have been renewed totaling $18,372,000 and three new modifications were granted totaling $1,293,000 during January and February of 2021.

• Under the Economic Aid Act, the SBA and Department of the Treasury reopened the PPP to certain borrowers on January 11, 2021 and released the applications for first- and second-draw loans.  QNB originated 158 new PPP loans for a total of $21,184,000 during January and February of  2021. Second-draw customers made up 138 of these loans, or $19,758,000 and first-draw customers made of the remaining 20 loans, or $1,436,000.  Additionally, 276 PPP loans, or $25,789,000, were forgiven during January and February of 2021.

Recent Accounting Pronouncements

On June 16, 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326) (CECL). The new guidance requires organizations to measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts.

To that end, the new guidance:

• Eliminates the probable initial recognition threshold in current U.S. GAAP and, instead, reflects an organization’s current estimate of all expected credit losses over the contractual term of its financial assets

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• Broadens the information an entity can consider when measuring credit losses to include forward-looking information

• Increases usefulness of the financial statements by requiring timely inclusion of forecasted information in forming expectations of credit losses

• Increases comparability of purchased financial assets with credit deterioration (PCD assets) with other purchased assets that do not have credit deterioration as well as originated assets because credit losses that are expected will be recorded through an allowance for credit losses for all assets

• Increases users’ understanding of underwriting standards and credit quality trends by requiring additional information about credit quality indicators by year of origination (vintage)

• For available-for-sale debt securities, aligns the income statement recognition of credit losses with the reporting period in which changes occur by recording credit losses (and subsequent changes in credit losses) through an allowance rather than a write down

The new guidance affects organizations that hold financial assets and net investments in leases that are not accounted for at fair value with changes in fair value reported in net income.  The new guidance affects loans, debt securities, trade receivables, net investments in leases, off-balance-sheet credit exposures, reinsurance receivables, and any other financial assets not excluded from the scope that have the contractual right to receive cash.

On October 16, 2019, FASB adopted its August 15, 2019 proposal to delay the effective dates for certain smaller reporting companies for the implementation CECL.  For public business entities that are U.S. Securities and Exchange Commission (SEC) filers, the new guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019, except for smaller reporting companies, whose effective date is effective for fiscal years , and interim periods with those fiscal years, beginning after December 15, 2022. Early application will be permitted for all organizations for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018.  QNB continues to evaluate the impact of this new standard on its consolidated financial statements and currently anticipates a material change to its allowance for loan losses.

On August 28, 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework — Changes to the Disclosure Requirements for Fair Value Measurement. This ASU changes the fair value measurement disclosure requirements of ASC 820. The amendments in this ASU are the result of a broader disclosure project called FASB Concepts Statement, Conceptual Framework for Financial Reporting — Chapter 8: Notes to Financial Statements, which the FASB finalized on August 28, 2018. The FASB used the guidance in the Concepts Statement to improve the effectiveness of ASC 820’s disclosure requirements. New disclosure requirements include: 1) Changes in unrealized gains or losses included in other comprehensive income (OCI) for recurring Level 3 fair value measurements held at the end of the reporting period; and 2) Explicit requirement to disclose the range and weighted average used to develop significant unobservable inputs for Level 3 fair value measurements. Disclosures eliminated include: 1) Amount of and reasons for transfers between Level 1 and Level 2; 2) Valuation processes for Level 3 fair value measurements; and 3) Policy for timing of transfers between levels of the fair value hierarchy. The ASU was effective for all entities for fiscal years beginning after December 15, 2019, including interim periods therein. The adoption of this ASU had no material impact on QNB.  

Note 2 – Earnings Per Share and Share Repurchase Plan

The following table sets forth the computation of basic and diluted earnings per share:

Year ended December 31,	2020		2019		2018
Numerator for basic and diluted earnings per share - net income	$	12,083	$	12,357	$	11,335
Denominator for basic earnings per share - weighted average shares    outstanding		3,537,323		3,498,326		3,463,450
Effect of dilutive securities - employee stock options		37		5,824		19,059
Denominator for diluted earnings per share - adjusted weighted average    shares outstanding		3,537,360		3,504,150		3,482,509
Earnings per share - basic	$	3.42	$	3.53	$	3.27
Earnings per share - diluted	$	3.42	$	3.53	$	3.25

There were 96,000, 73,000, and 25,000 stock options that were anti-dilutive as of December 31, 2020, 2019, and 2018 respectively. These stock options were not included in the above calculation.

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On January 24, 2008, QNB announced that the Board of Directors authorized the repurchase of up to 50,000 shares of its common stock in open market or privately negotiated transactions. On February 9, 2009, the Board of Directors approved increasing the authorization to 100,000 shares. The repurchase authorization does not bear a termination date. There were  4,100 shares repurchased during the year ended December 31, 2020, and no shares purchased during the year ended December 31, 2019.  As of December 31, 2020, 61,983 shares were repurchased under this authorization at an average price of $17.95 and a total cost of $1,112,000 and were recorded to Treasury stock.

Note 3 – Cash and Cash Equivalents

Included in cash and cash equivalents are reserves in the form of deposits with the Federal Reserve Bank of Philadelphia. As of December 31, 2020 and 2019, QNB was not required to maintain reserves with the Federal Reserve Bank of Philadelphia.

Note 4 - Investment Securities

Available-For-Sale Debt Securities

The amortized cost and fair values of investment debt securities available-for-sale at December 31, 2020 and 2019 were as follows:

			Gross		Gross
			unrealized		unrealized
	Fair		holding		holding			Amortized
December 31, 2020	value		gains		losses			cost
U.S. Government agency	$	69,776	$	26	$	(246	)	$	69,996
State and municipal		87,812		2,350		(45	)		85,507
U.S. Government agencies and sponsored    enterprises (GSEs):
Mortgage-backed		175,847		3,328		(24	)		172,543
Collateralized mortgage obligations (CMOs)		94,948		1,751		(5	)		93,202
Pooled trust preferred		70		—		(14	)		84
Corporate debt		7,193		59		(29	)		7,163
Total investment securities available-for-sale	$	435,646	$	7,514	$	(363	)	$	428,495

			Gross		Gross
			unrealized		unrealized
	Fair		holding		holding			Amortized
December 31, 2019	value		gains		losses			cost
U.S. Government agency	$	69,298	$	8	$	(213	)	$	69,503
State and municipal		50,781		860		(19	)		49,940
U.S. Government agencies and sponsored    enterprises (GSEs):
Mortgage-backed		134,829		371		(504	)		134,962
Collateralized mortgage obligations (CMOs)		86,610		260		(535	)		86,885
Pooled trust preferred		79		—		(6	)		85
Corporate debt		8,113		103		—			8,010
Total investment securities available-for-sale	$	349,710	$	1,602	$	(1,277	)	$	349,385

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The amortized cost and fair value of debt securities available-for-sale by contractual maturity at December 31, 2020 are shown in the following table. 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. Securities are assigned to categories based on contractual maturity except for mortgage-backed securities and CMOs which are based on the estimated average life of these securities and state and municipal securities which are based on pre-refunded date, if applicable.

			Amortized
December 31, 2020	Fair value		cost
Due in one year or less	$	12,270	$	12,190
Due after one year through five years		274,376		269,342
Due after five years through ten years		83,368		82,887
Due after ten years		65,632		64,076
Total investment securities available-for-sale	$	435,646	$	428,495

Proceeds from sales of investment debt securities available-for-sale were $6,930,000, $47,851,000 and $4,159,000 for the years ended December 31, 2020, 2019 and 2018, respectively.

The following table presents information related to the Company’s gains and losses on the sales of debt securities, and losses recognized for OTTI of these investments.

December 31,	2020			2019			2018
Gross realized gains	$	28		$	169		$	25
Gross realized losses		(4	)		(195	)		(22	)
Other-than-temporary impairment		—			—			—
Total net (losses) gains on AFS debt securities	$	24		$	(26	)	$	3

The tax expense applicable to the net realized gains on debt securities was $5,000 for the year ended December 31, 2020. The tax benefit applicable to the net realized losses on debt securities was $5,000 for the year ended December 31, 2019.  The tax expense applicable to the net realized gains on debt securities was $1,000 for the year ended December 31, 2018. 

There were no OTTI impairment charges recognized for debt securities still held by QNB for the years ended December 31, 2020, 2019 or 2018.

QNB recognizes OTTI for debt securities classified as available-for-sale in accordance with FASB ASC 320, Investments – Debt and Equity Securities, which requires that we assess whether we intend to sell or it is more likely than not that the Company will be required to sell a security before recovery of its amortized cost basis less any current-period credit losses. For debt securities that are considered other-than-temporarily impaired and that we do not intend to sell and will not be required to sell prior to recovery of our amortized cost basis, the amount of the impairment is separated into the amount that is credit related (credit loss component) and the amount due to all other factors. The credit loss component is recognized in earnings and is the difference between the security’s amortized cost basis and the present value of its expected future cash flows discounted at the security’s effective yield. The remaining difference between the security’s fair value and the present value of future expected cash flows is due to factors that are not credit related and, therefore, is not required to be recognized as a loss in the consolidated statement of income, but is recognized in other comprehensive income (loss). QNB believes that we will fully collect the carrying value of securities on which we have recorded a non-credit related impairment in other comprehensive income (loss).

- 21 -

The following table presents a rollforward of the credit loss component recognized in earnings. The credit loss component of the amortized cost represents the difference between the present value of expected future cash flows and the amortized cost basis of the security prior to considering credit losses. The beginning balance represents the credit loss component for debt securities for which OTTI occurred prior to the beginning of the year. Credit-impaired debt securities must be presented in two components based upon whether the current period is the first time the debt security was credit-impaired (initial credit impairment) or is not the first time the debt security was credit-impaired (subsequent credit impairments). No credit impairments were recognized in 2020, 2019 or 2018. The following table presents a summary of the cumulative credit-related other-than-temporary impairment charges recognized as components of earnings for debt securities still held by QNB:

Year ended December 31,	2020		2019		2018
Balance, beginning of year	$	1	$	1	$	1
Reductions:  sale, collateralized debt obligation		—		—		—
Additions:
Initial credit impairments		—		—		—
Subsequent credit impairments		—		—		—
Balance, end of year	$	1	$	1	$	1

At December 31, 2020 and 2019, investments in debt securities available-for-sale totaling $220,934,000 and $205,016,000, respectively, were pledged as collateral for repurchase agreements and deposits of public funds.

Debt securities that have been in a continuous unrealized loss position are as follows:

December 31, 2020
			Less than 12 months					12 months or longer					Total
	No. of		Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
	securities		value		losses			value		losses			value		losses
U.S. Government agency		19	$	37,754	$	(246	)	$	—	$	—		$	37,754	$	(246	)
State and municipal		11		6,821		(45	)		—		—			6,821		(45	)
U.S. Government agencies    and sponsored enterprises    (GSEs):
Mortgage-backed		4		8,626		(24	)		—		—			8,626		(24	)
Collateralized mortgage    obligations (CMOs)		3		3,262		(5	)		—		—			3,262		(5	)
Pooled trust preferred		1		—		—			70		(14	)		70		(14	)
Corporate debt		1		2,971		(29	)		—		—			2,971		(29	)
Total		39	$	59,434	$	(349	)	$	70	$	(14	)	$	59,504	$	(363	)

December 31, 2019
			Less than 12 months					12 months or longer					Total
	No. of		Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
	securities		value		losses			value		losses			value		losses
U.S. Government agency		36	$	28,857	$	(141	)	$	20,427	$	(72	)	$	49,284	$	(213	)
State and municipal		7		2,431		(14	)		515		(5	)		2,946		(19	)
U.S. Government agencies    and sponsored enterprises    (GSEs):
Mortgage-backed		66		28,482		(50	)		52,398		(454	)		80,880		(504	)
Collateralized mortgage    obligations (CMOs)		64		24,412		(82	)		27,625		(453	)		52,037		(535	)
Pooled trust preferred		1		—		—			79		(6	)		79		(6	)
Corporate debt		—		—		—			—		—			—		—
Total		174	$	84,182	$	(287	)	$	101,044	$	(990	)	$	185,226	$	(1,277	)

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Management evaluates debt securities, which are comprised of U.S. Government Agencies, state and municipalities, mortgage-backed securities, CMOs and other issuers, for OTTI and considers the current economic conditions, the length of time and the extent to which the fair value has been less than cost, interest rates and the bond rating of each security. The unrealized losses at December 31, 2020 in U.S. Government securities, state and municipal securities, mortgage-backed securities, CMOs and corporate debt securities are primarily the result of interest rate fluctuations. If held to maturity, these bonds will mature at par, and QNB will not realize a loss. QNB has the intent to hold the securities and does not believe it will be required to sell the securities before recovery occurs.

QNB holds one trust preferred security, PreTSL IV which is classified as available-for-sale and carried at fair value.  This  security has been in an unrealized loss position for more than twelve months.

The following table provides additional information related to PreTSL IV as of December 31, 2020:

Deal	Class		Book value		Fair value		Unrealized gains (losses)			Realized OTTI credit loss (YTD 2020)		Total recognized OTTI credit loss			Moody's ratings	Current number of performing banks		Current number of performing insurance companies		Actual deferrals and defaults as a % of total collateral			Total performing collateral as a % of outstanding bonds
PreTSL IV	Mezzanine	*	$	84	$	70	$	(14	)	$	—	$	(1	)	Ba1		3		—		0.0	%		233.4	%

Mezzanine* - class of bonds still outstanding, represents the senior-most obligation of the trust)

Marketable Equity Securities

The Company’s equity securities consist of investments with readily determinable fair values in large cap stock companies. Changes in the fair value of these equity securities are recorded to earnings in non-interest income, in accordance with ASU 2016-01 Financial Instruments – Overall (Subtopic 825-10) Recognition and Measurement of Financial Assets and Financial Liabilities, which the Company adopted January 1, 2018.  Prior to the adoption of ASU 2016-01,  the Company evaluated the near-term prospects of the issuers and was required to record a decline in fair value to earnings if the security was determined to be other-than-temporarily impaired.  

At December 31, 2020 and 2019, the Company had $12,849,000 and $9,164,000, respectively, in equity securities recorded at fair value. Prior to January 1, 2018, equity securities were stated at fair value with unrealized gains and losses reported as a separate component of Accumulated Other Comprehensive Income (“AOCI”), net of tax. At December 31, 2017, net unrealized losses, net of tax, of $254,000 had been recognized in AOCI. On January 1, 2018, these unrealized gains and losses were reclassified out of AOCI and into retained earnings with subsequent changes in fair value being recognized in net income. The following is a summary of unrealized and realized gains and losses recognized in net income on equity securities during 2020, 2019 and 2018:  

December 31,	2020			2019		2018
Net gains (losses) recognized during the period on equity securities	$	538		$	2,551	$	(415	)
Less:  Net gains (losses) recognized during the period on equity securities sold during the period		585			1,781		(79	)
Net unrealized gains (losses) recognized during the reporting period on equity securities still held at the reporting date	$	(47	)	$	770	$	(336	)

Tax expense applicable to the net realized gains for the years ended December 31, 2020 and 2019 were $155,000 and $737,000, respectively. Tax benefit applicable to the net realized losses for the year ended December 31, 2018 was $120,000.  Proceeds from sales of investment equity securities were $4,767,000, $11,838,000 and $4,902,000 for the years ended December 31, 2020, 2019 and 2018, respectively.

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Note 5 - Loans Receivable and the Allowance for Loan Losses

Major classes of loans are as follows:

December 31,	2020			2019
Commercial:
Commercial and industrial	$	227,431		$	168,031
Construction		57,594			56,209
Secured by commercial real estate		377,586			336,050
Secured by residential real estate		81,897			72,443
State and political subdivisions		25,302			38,376
Retail:
1-4 family residential mortgages		82,739			69,469
Home equity loans and lines		63,943			73,311
Consumer		5,364			6,530
Total loans		921,856			820,419
Net unearned (fees) costs		(1,814	)		197
Loans receivable	$	920,042		$	820,616

Loans secured by commercial real estate include all loans collateralized at least in part by commercial real estate. These loans may not be for the express purpose of conducting commercial real estate transactions.

Overdrafts are reclassified as loans and are included in consumer loans above and total loans on the balance sheet. At December 31, 2020 and 2019, overdrafts were $258,000 and $224,000, respectively.

QNB generally lends in Bucks, Lehigh, and Montgomery counties in southeastern Pennsylvania.  . To a large extent, QNB makes loans collateralized at least in part by real estate. Its lending activities could be affected by changes in the general economy, the regional economy, or real estate values. Other than disclosed in the table above, at December 31, 2020, there was a concentration of loans to lessors of residential buildings and dwellings of 14.9% of total loans and to lessors of nonresidential buildings of 19.6% of total loans, compared with 16.6% and 18.3% of total loans, respectively, at December 31, 2019. These concentrations were primarily within the commercial real estate categories.

Under the CARES Act, QNB continues to provide customers experiencing financial hardship caused by the COVID-19 Pandemic, solutions to help them through this difficult period. As of December 31, 2020, QNB had modifications to approximately 4.0% of the December 31, 2020 commercial portfolio and had modifications to approximately 1.8% of the December 31, 2020 retail portfolio,  related to the COVID-19 Pandemic.  Loans modified one time included five credits and totaled $829,000 with deferred interest and or principal payments between two and six months.  Loans modified two times included six credits and totaled $211,000 with deferred interest and or principal payments between six and eight months.  Loans modified three times included seven credits and totaled $15,248,000 with deferred interest and or principal payments between eight and nine months.  Loans modified four times included eleven credits and totaled $17,582,000 with deferred interest and or principal payments between nine and twelve months.  The following table illustrates the modified loans by major loan class and total deferral by number of months.    

	At December 31, 2020
	Total Number of Months Deferred
	0-3 Months		4-6 Months		7-9 Months		10+ Months		Total
Commercial:
Commercial and industrial	$	535	$	33	$	1,190	$	—	$	1,758
Construction		—		—		—		—		—
Secured by commercial real estate		—		—		17,485		11,329		28,814
Secured by residential real estate		—		—		423		—		423
State and political subdivisions		—		152		—		—		152
Retail:
1-4 family residential mortgages		—		255		116		1,524		1,895
Home equity loans and lines		39		—		38		747		824
Consumer		—		4		—		—		4
Total COVID-19 Modified Loans	$	574	$	444	$	19,252	$	13,600	$	33,870

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At December 31, 2020, QNB had 556 PPP loans totaling $72,821,000 reported in gross commercial and industrial loans.  The PPP loans are 100% guaranteed by the SBA.  QNB received origination fees from the SBA ranging from one to five basis points which are recognized in interest income as a yield adjustment over the term of the loan.   Net unearned (fees) costs include $1,909,000 in PPP net loan origination fees.

The Company engages in a variety of lending activities, including commercial, residential real estate and consumer transactions. The Company focuses its lending activities on individuals, professionals and small to medium sized businesses. Risks associated with lending activities include economic conditions and changes in interest rates, which can adversely impact both the ability of borrowers to repay their loans and the value of the associated collateral.

Commercial and industrial loans, commercial real estate loans, construction loans and residential real estate loans with a business purpose are generally perceived as having more risk of default than residential real estate loans with a personal purpose and consumer loans. These types of loans involve larger loan balances to a single borrower or groups of related borrowers and are more susceptible to a risk of loss during a downturn in the business cycle. These loans may involve greater risk because the availability of funds to repay these loans depends on the successful operation of the borrower’s business. The assets financed are used within the business for its ongoing operation. Repayment of these types of loans generally comes from the cash flow of the business or the ongoing conversions of assets, such as accounts receivable and inventory, to cash. Typical collateral for commercial and industrial loans includes the borrower’s accounts receivable, inventory and machinery and equipment. Commercial real estate and residential real estate loans secured for a business purpose are originated primarily within southeastern Pennsylvania market area at conservative loan-to-value ratios and often backed by the individual guarantees of the borrowers or owners. Repayment of this kind of loan is dependent upon either the ongoing cash flow of the borrowing entity or the resale of or lease of the subject property. Commercial real estate loans may be affected to a greater extent than residential loans by adverse conditions in real estate markets or the economy because commercial real estate borrowers’ ability to repay their loans depends on successful development of their properties, as well as the factors affecting residential real estate borrowers.

Loans to state and political subdivisions are tax-exempt or taxable loans to municipalities, school districts and housing and industrial development authorities. These loans can be general obligations of the municipality or school district repaid through their taxing authority, revenue obligations repaid through the income generated by the operations of the authority, such as a water or sewer authority, or loans issued to a housing and industrial development agency, for which a private corporation is responsible for payments on the loans.

The Company originates fixed-rate and adjustable-rate real estate-residential mortgage loans for personal purposes that are secured by first liens on the underlying 1-4 family residential properties. Credit risk exposure in this area of lending is minimized by the evaluation of the credit worthiness of the borrower, including debt-to-income ratios, credit scores and adherence to underwriting policies that emphasize conservative loan-to-value ratios of generally no more than 80%. Residential mortgage loans granted in excess of the 80% loan-to-value ratio criterion are generally insured by private mortgage insurance.

The real estate-home equity portfolio consists of fixed-rate home equity loans and variable-rate home equity lines of credit. Risks associated with loans secured by residential properties are generally lower than commercial loans and include general economic risks, such as the strength of the job market, employment stability and the strength of the housing market. Since most loans are secured by a primary or secondary residence, the borrower’s continued employment is the greatest risk to repayment.

The Company offers a variety of loans to individuals for personal and household purposes. Consumer loans are generally considered to have greater risk than first or second mortgages on real estate because they may be unsecured, or, if they are secured, the value of the collateral may be difficult to assess and is more likely to decrease in value than real estate. Credit risk in this portfolio is controlled by conservative underwriting standards that consider debt-to-income levels and the creditworthiness of the borrower and, if secured, collateral values.

The Company employs a ten-grade risk rating system related to the credit quality of commercial loans and loans to state and political subdivisions of which the first six categories are pass categories (credits not adversely rated). The following is a description of the internal risk ratings and the likelihood of loss related to each risk rating.

1 - Excellent - no apparent risk

2 - Good - minimal risk

3 - Acceptable - lower risk

4 - Acceptable - average risk

5 - Acceptable – higher risk

6 - Pass watch

7 - Special Mention - potential weaknesses

- 25 -

8 - Substandard - well defined weaknesses

9 - Doubtful - full collection unlikely

10 - Loss - considered uncollectible

The Company maintains a loan review system, which allows for a periodic review of our loan portfolio and the early identification of potential problem loans. Each loan officer assigns a rating to commercial loans and loans to state and political subdivisions at the time the loan is originated. Loans with risk ratings of one through five are reviewed annually based on the borrower’s fiscal year. Loans with risk ratings of six are reviewed every six to twelve months based on the dollar amount of the relationship with the borrower. Loans with risk ratings of seven through ten are reviewed at least quarterly, and as often as monthly, at management’s discretion. The Company also utilizes an outside loan review firm to review the portfolio on a semi-annual basis to provide the Board of Directors and senior management an independent review of the Bank’s loan portfolio on an ongoing basis. These reviews are designed to recognize deteriorating credits in their earliest stages in an effort to reduce and control risk in the lending function as well as identifying potential shifts in the quality of the loan portfolio. The examinations by the outside loan review firm include the review of lending activities with respect to underwriting and processing new loans, monitoring the risk of existing loans and to provide timely follow-up and corrective action for loans showing signs of deterioration in quality. In addition, the outside firm reviews the methodology for the allowance for loan losses to determine compliance to policy and regulatory guidance.

The following tables present the classes of the loan portfolio summarized by the aggregate pass rating and the classified ratings of special mention, substandard and doubtful within the Company’s internal risk rating system as of December 31, 2020 and 2019:

December 31, 2020	Pass		Special mention		Substandard		Doubtful		Total
Commercial:
Commercial and industrial	$	219,104	$	77	$	8,250	$	—	$	227,431
Construction		57,594		—		—		—		57,594
Secured by commercial real estate		361,393		3,914		12,279		—		377,586
Secured by residential real estate		80,233		—		1,664		—		81,897
State and political subdivisions		25,302		—		—		—		25,302
Total	$	743,626	$	3,991	$	22,193	$	—	$	769,810

December 31, 2019	Pass		Special mention		Substandard		Doubtful		Total
Commercial:
Commercial and industrial	$	158,247	$	3,665	$	6,119	$	—	$	168,031
Construction		56,209		—		—		—		56,209
Secured by commercial real estate		324,936		2,995		8,119		—		336,050
Secured by residential real estate		70,759		—		1,684		—		72,443
State and political subdivisions		38,376		—		—		—		38,376
Total	$	648,527	$	6,660	$	15,922	$	—	$	671,109

For retail loans, the Company evaluates credit quality based on the performance of the individual credits. The following tables present the recorded investment in the retail classes of the loan portfolio based on payment activity as of December 31, 2020 and 2019:

December 31, 2020	Performing		Non-performing		Total
Retail:
1-4 family residential mortgages	$	82,103	$	636	$	82,739
Home equity loans and lines		63,191		752		63,943
Consumer		5,259		105		5,364
Total	$	150,553	$	1,493	$	152,046

December 31, 2019	Performing		Non-performing		Total
Retail:
1-4 family residential mortgages	$	68,833	$	636	$	69,469
Home equity loans and lines		72,774		537		73,311
Consumer		6,391		139		6,530
Total	$	147,998	$	1,312	$	149,310

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The performance and credit quality of the loan portfolio is also monitored by analyzing the age of the loans receivable as determined by the length of time a recorded payment is past due. The following table presents the classes of the loan portfolio (excluding deferred fees and costs) summarized by the past due status, regardless of whether the loan is on non-accrual status, as of December 31, 2020 and 2019:

December 31, 2020	30-59days past due		60-89 days past due		90 days or more past due		Total past due loans		Current		Total loans receivable
Commercial:
Commercial and industrial	$	2,392	$	31	$	1,157	$	3,580	$	223,851	$	227,431
Construction		—		—		—		—		57,594		57,594
Secured by commercial real estate		318		—		40		358		377,228		377,586
Secured by residential  real estate		189		—		340		529		81,368		81,897
State and political subdivisions		—		—		—		—		25,302		25,302
Retail:
1-4 family residential mortgages		396		303		282		981		81,758		82,739
Home equity loans and lines		16		2		51		69		63,874		63,943
Consumer		178		5		—		183		5,181		5,364
Total	$	3,489	$	341	$	1,870	$	5,700	$	916,156	$	921,856

December 31, 2019	30-59days past due		60-89 days past due		90 days or more past due		Total past due loans		Current		Total loans receivable
Commercial:
Commercial and industrial	$	—	$	58	$	2,006	$	2,064	$	165,967	$	168,031
Construction		—		—		—		—		56,209		56,209
Secured by commercial real estate		—		—		1,527		1,527		334,523		336,050
Secured by residential  real estate		208		79		142		429		72,014		72,443
State and political subdivisions		—		—		—		—		38,376		38,376
Retail:
1-4 family residential mortgages		1,486		573		432		2,491		66,978		69,469
Home equity loans and lines		271		23		55		349		72,962		73,311
Consumer		29		71		—		100		6,430		6,530
Total	$	1,994	$	804	$	4,162	$	6,960	$	813,459	$	820,419

The following tables disclose the recorded investment in loans receivable that are either on non-accrual status or past due 90 days or more and still accruing interest as of December 31, 2020 and 2019:

December 31, 2020	90days or more past due (still accruing)		Non-accrual
Commercial:
Commercial and industrial	$	—	$	4,367
Construction		—		—
Secured by commercial real estate		—		2,905
Secured by residential real estate		—		875
State and political subdivisions		—		—
Retail:
1-4 family residential mortgages		—		636
Home equity loans and lines		—		752
Consumer		—		105
Total	$	—	$	9,640

- 27 -

December 31, 2019	90days or more past due (still accruing)		Non-accrual
Commercial:
Commercial and industrial	$	—	$	5,901
Construction		—		—
Secured by commercial real estate		—		3,640
Secured by residential real estate		—		851
State and political subdivisions		—		—
Retail:
1-4 family residential mortgages		—		636
Home equity loans and lines		—		537
Consumer		—		139
Total	$	—	$	11,704

Activity in the allowance for loan losses for the years ended December 31, 2020, 2019 and 2018 are as follows:

Year ended December 31, 2020	Balance, beginning of period		Provision for (credit to) loan losses			Charge-offs			Recoveries		Balance, end of period
Commercial:
Commercial and industrial	$	4,689	$	(411	)	$	(268	)	$	40	$	4,050
Construction		590		(244	)		—			—		346
Secured by commercial real estate		2,519		1,205			—			12		3,736
Secured by residential real estate		629		174			—			68		871
State and political subdivisions		115		(26	)		—			—		89
Retail:
1-4 family residential mortgages		549		(16	)		—			—		533
Home equity loans and lines		310		35			—			41		386
Consumer		230		239			(282	)		78		265
Unallocated		256		294		N/A			N/A			550
Total	$	9,887	$	1,250		$	(550	)	$	239	$	10,826

Year ended December 31, 2019	Balance, beginning of period		Provision for (credit to) loan losses			Charge-offs			Recoveries		Balance, end of period
Commercial:
Commercial and industrial	$	3,092	$	1,771		$	(207	)	$	33	$	4,689
Construction		551		39			—			—		590
Secured by commercial real estate		2,824		(315	)		—			10		2,519
Secured by residential real estate		754		(197	)		(51	)		123		629
State and political subdivisions		153		(38	)		—			—		115
Retail:
1-4 family residential mortgages		497		52			—			—		549
Home equity loans and lines		338		(26	)		(17	)		15		310
Consumer		164		219			(197	)		44		230
Unallocated		461		(205	)	N/A			N/A			256
Total	$	8,834	$	1,300		$	(472	)	$	225	$	9,887

- 28 -

Year ended December 31, 2018	Balance, beginning of period		Provision for (credit to) loan losses			Charge-offs			Recoveries		Balance, end of period
Commercial:
Commercial and industrial	$	2,711	$	341		$	—		$	40	$	3,092
Construction		563		(12	)		—			—		551
Secured by commercial real estate		2,410		391			—			23		2,824
Secured by residential real estate		816		(12	)		(77	)		27		754
State and political subdivisions		114		39			—			—		153
Retail:
1-4 family residential mortgages		444		54			(1	)		—		497
Home equity loans and lines		357		52			(84	)		13		338
Consumer		57		185			(112	)		34		164
Unallocated		369		92		N/A			N/A			461
Total	$	7,841	$	1,130		$	(274	)	$	137	$	8,834

As previously discussed, the Company maintains a loan review system, which includes a continuous review of the loan portfolio by internal and external parties to aid in the early identification of potential impaired loans. A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis for commercial loans and loans to state and political subdivisions by using either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent.

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer and residential mortgage loans for impairment disclosures, unless such loans are part of a larger relationship that is impaired or are classified as a troubled debt restructuring.

An allowance for loan losses is established for an impaired loan if its carrying value exceeds its estimated fair value. The estimated fair values of the majority of the Company’s impaired loans are measured based on the estimated fair value of the loan’s collateral.

For commercial loans secured by real estate, estimated fair values are determined primarily through third-party appraisals. When a real estate secured loan becomes impaired, a decision is made regarding whether an updated certified appraisal of the real estate is necessary. This decision is based on various considerations, including the age of the most recent appraisal, the loan-to-value ratio based on the original appraisal and the condition of the property. Appraised values are discounted to arrive at the estimated selling price of the collateral, which is considered to be the estimated fair value. The discounts also include estimated costs to sell the property.

For commercial loans secured by non-real estate collateral, such as accounts receivable, inventory and equipment, estimated fair values are determined based on the borrower’s financial statements, inventory reports, accounts receivable agings or equipment appraisals or invoices. Indications of value from these sources are generally discounted based on the age of the financial information or the quality of the assets.

From time to time, QNB may extend, restructure, or otherwise modify the terms of existing loans, on a case-by-case basis, to remain competitive and retain certain customers, as well as assist other customers that may be experiencing financial difficulties. A loan is considered to be a troubled debt restructuring (“TDR”) loan when the Company grants a concession to the borrower because of the borrower’s financial condition that it would not otherwise consider. Such concessions include the reduction of interest rates, extension of terms, forgiveness of principal or interest, or other modifications of interest rates to less than the current market rate for new obligations with similar risk. Loans classified as TDRs are considered non-performing and are also designated as impaired.

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The concessions made for TDRs involve lowering the monthly payments on loans through periods of interest only payments, a reduction in interest rate below a market rate or an extension of the term of the loan without a corresponding adjustment to the risk premium reflected in the interest rate, or a combination of these three methods. The restructurings rarely result in the forgiveness of principal or accrued interest. If the borrower has demonstrated performance under the previous terms and our underwriting process shows the borrower has the capacity to continue to perform under the restructured terms, the loan will continue to accrue interest. Non-accruing restructured loans may be returned to accrual status when there has been a sustained period of repayment performance (generally six consecutive months of payments) and both principal and interest are deemed collectible.

Performing TDRs (not reported as non-accrual or past due 90 days or more and still accruing) totaled $4,469,000 and $4,760,000 as of December 31, 2020 and 2019, respectively. Non-performing TDRs totaled $843,000 and $1,131,000 as of December 31, 2020 and 2019, respectively. All TDRs are included in impaired loans.

The following table illustrates the specific reserve for loan losses allocated to loans modified as TDRs. These specific reserves are included in the allowance for loan losses for loans individually evaluated for impairment. There were charge-offs resulting from loans modified as TDRs of $0, $5,000 and $51,000 during the years ended December 31, 2020, 2019 and 2018, respectively.

December 31,	2020				2019
	Unpaid principal balance		Related allowance		Unpaid principal balance		Related allowance
TDRs with no specific allowance recorded	$	2,008	$	—	$	2,957	$	—
TDRs with an allowance recorded		3,304		503		2,934		450
Total	$	5,312	$	503	$	5,891	$	450

There were no newly identified TDRs during the year ended December 31, 2020.  There were six newly identified TDRs during the year ended December 31, 2019 including a commercial and industrial loan restructured into three loans secured by commercial real estate and a reduced the line of credit available under the existing commercial and industrial loan; and one existing TDR included in the table below whose terms were modified a second time.  As of December 31, 2020 and 2019, QNB had commitments of $14,000 and $24,000, respectively, to lend additional funds to customers with loans whose terms have been modified in troubled debt restructurings.

The following table presents loans, by loan class, modified as TDRs during the years ended December 31, 2020 and 2019. The pre-modification outstanding recorded investment disclosed represents the carrying amounts immediately prior to the modification of the loan. The post-modification outstanding recorded investment is net of loan repayments.

Year ended December 31,	2020						2019
	Numberof contracts		Pre- modification outstanding recorded investment		Post- modification outstanding recorded investment		Numberof contracts		Pre- modification outstanding recorded investment		Post- modification outstanding recorded investment
Commercial:
Commercial and industrial		—	$	—	$	—		1	$	641	$	126
Secured by commercial real estate		—		—		—		3		2,540		2,528
Secured by residential real estate		—		—		—		3		—		534
Retail:
Home equity loans and lines		—		—		—		—		—		—
Total		—	$	—	$	—		7	$	3,181	$	3,188

There were no loans modified as TDRs, included above, within the previous 12 months from December 31, 2020 and 2019, for which there was a payment default, past due 60 days or more, during the respective year end.

The company had three loans secured by residential real estate with a recorded investment of $395,000 for which foreclosure proceedings were in process as of December 31, 2020. There were four mortgage loans secured by residential real estate with a recorded investment of $467,000 for which foreclosure proceedings were in process at December 31, 2019.  

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The following tables present the balance in the allowance of loan losses disaggregated on the basis of the Company’s impairment method by class of loans receivable along with the balance of loans receivable by class, excluding unearned fees and costs, disaggregated on the basis of the Company’s impairment methodology:

	Allowance for Loan Losses						Loans Receivable
December 31, 2020	Balance		Balancerelated to loans individually evaluated for impairment		Balance related to loans collectively evaluated for impairment		Balance		Balance individually evaluated for impairment		Balance collectively evaluated for impairment
Commercial:
Commercial and industrial	$	4,050	$	2,421	$	1,629	$	227,431	$	4,503	$	222,928
Construction		346		—		346		57,594		—		57,594
Secured by commercial real estate		3,736		432		3,304		377,586		6,323		371,263
Secured by residential real estate		871		73		798		81,897		2,051		79,846
State and political subdivisions		89		—		89		25,302		—		25,302
Retail:
1-4 family residential mortgages		533		—		533		82,739		813		81,926
Home equity loans and lines		386		117		269		63,943		765		63,178
Consumer		265		7		258		5,364		61		5,303
Unallocated		550	N/A		N/A		N/A		N/A		N/A
Total	$	10,826	$	3,050	$	7,226	$	921,856	$	14,516	$	907,340

	Allowance for Loan Losses						Loans Receivable
December 31, 2019	Balance		Balancerelated to loans individually evaluated for impairment		Balance related to loans collectively evaluated for impairment		Balance		Balance individually evaluated for impairment		Balance collectively evaluated for impairment
Commercial:
Commercial and industrial	$	4,689	$	3,307	$	1,382	$	168,031	$	6,027	$	162,004
Construction		590		—		590		56,209		-		56,209
Secured by commercial real estate		2,519		217		2,302		336,050		7,172		328,878
Secured by residential real estate		629		31		598		72,443		2,082		70,361
State and political subdivisions		115		—		115		38,376		—		38,376
Retail:
1-4 family residential mortgages		549		—		549		69,469		955		68,514
Home equity loans and lines		310		—		310		73,311		555		72,756
Consumer		230		11		219		6,530		69		6,461
Unallocated		256	N/A		N/A		N/A		N/A		N/A
Total	$	9,887	$	3,566	$	6,065	$	820,419	$	16,860	$	803,559

- 31 -

The following table summarizes additional information regarding impaired loans by loan portfolio class as of December 31, 2020 and 2019:

	December 31, 2020						December 31, 2019
	Recorded investment (after charge-offs)		Unpaid principal balance		Related allowance		Recorded investment (after charge-offs)		Unpaid principal balance		Related allowance
With no specific allowance recorded:
Commercial:
Commercial and industrial	$	647	$	722	$	—	$	901	$	1,258	$	—
Construction		—		—		—		—		—		—
Secured by commercial real estate		3,018		3,671		—		3,735		4,362		—
Secured by residential real estate		1,417		1,608		—		1,936		2,110		—
Retail:
1-4 family residential mortgages		813		894		—		—		—		—
Home equity loans and lines		537		577		—		955		1,010		—
Consumer		—		—		—		555		612		—
Total	$	6,432	$	7,472	$	—	$	8,082	$	9,352	$	—
With an allowance recorded:
Commercial:
Commercial and industrial	$	3,856	$	5,462	$	2,421	$	5,126	$	6,577	$	3,307
Construction		—		—		—		—		—		—
Secured by commercial real estate		3,305		3,418		432		3,437		3,495		217
Secured by residential real estate		634		642		73		146		193		31
Retail:
1-4 family residential mortgages		—		—		—		—		—		—
Home equity loans and lines		228		239		117		—		—		—
Consumer		61		73		7		69		79		11
Total	$	8,084	$	9,834	$	3,050	$	8,778	$	10,344	$	3,566
Total:
Commercial:
Commercial and industrial	$	4,503	$	6,184	$	2,421	$	6,027	$	7,835	$	3,307
Construction		—		—		—		—		—		—
Secured by commercial real estate		6,323		7,089		432		7,172		7,857		217
Secured by residential real estate		2,051		2,250		73		2,082		2,303		31
Retail:
1-4 family residential mortgages		813		894		—		—		—		—
Home equity loans and lines		765		816		117		955		1,010		—
Consumer		61		73		7		624		691		11
Total	$	14,516	$	17,306	$	3,050	$	16,860	$	19,696	$	3,566

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The following table presents additional information regarding the average recorded investment and interest income recognized on impaired loans for the years ended December 31, 2020, 2019 and 2018:

Year Ended December 31,	2020				2019				2018
	Average recorded investment		Interest income recognized		Average recorded investment		Interest income recognized		Average recorded investment		Interest income recognized
Commercial:
Commercial and industrial	$	5,204	$	5	$	4,603	$	1	$	6,064	$	227
Construction		—		—		—		—		—		—
Secured by commercial real estate		6,696		171		4,682		94		4,908		189
Secured by residential real estate		2,002		69		1,713		40		1,800		23
State and political subdivisions		—		—		—		—		—		—
Retail:
1-4 family residential mortgages		819		10		1,037		12		1,251		12
Home equity loans and lines		680		1		281		1		186		1
Consumer		66		—		73		—		81		—
Total	$	15,467	$	256	$	12,389	$	148	$	14,290	$	452

Note 6 - Premises and Equipment

Premises and equipment, stated at cost less accumulated depreciation and amortization, are summarized below:

December 31,	2020			2019
Land and buildings	$	12,407		$	12,260
Furniture and equipment		16,052			15,699
Leasehold improvements		4,277			4,252
Right-of-use asset		4,258			3,821
Book value		36,994			36,032
Accumulated depreciation and amortization		(21,590	)		(20,424	)
Net book value	$	15,404		$	15,608

Depreciation and amortization expense on premises and equipment, which excludes operating lease costs in the table below, amounted to $1,363,000, $1,211,000, and $990,000 for the years ended December 31, 2020, 2019 and 2018, respectively.

The following table summarized the quantitative attributes of QNB’s operating leases:

Year ended December 31,	2020			2019
Lease cost
Operating lease cost	$	672		$	617
Total lease cost		672			617
Other information
Cash paid for amounts included in the measurement of lease liabilities:
Operating cashflows from operating leases	$	654		$	583
Right-of-use assets obtained in exchange for new operating lease liabilities	$	1,086		$	2,407
Weighted average remaining lease terms:
Operating leases	14.1 years			15.6 years
Weighted average discount rates:
Operating leases		2.96	%		3.11	%

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Note 7 - Intangible Assets and Loan Servicing

Loans serviced for others are not included in the accompanying consolidated balance sheets. The unpaid principal balances of mortgage loans serviced for others were $87,518,000 and $73,108,000 at December 31, 2020 and 2019, respectively.

The following table reflects the activity of mortgage servicing rights for the periods indicated:

Year ended December 31,	2020			2019				2018
Balance at beginning of year	$	441		$	451		��	$	483
Mortgage servicing rights capitalized		249			61				33
Mortgage servicing rights amortized		(136	)		(72	)			(66	)
Fair market value adjustments		(21	)		1				1
Balance at end of year	$	533		$	441			$	451

The balance of these mortgage servicing rights is included in other assets at December 31, 2020 and 2019 and the fair value of these rights was $568,000 and $551,000, respectively. The fair value of servicing rights was determined using discount rates ranging from 12.0% to 12.5% for both 2020 and 2019.

The annual estimated amortization expense of intangible assets for each of the five succeeding fiscal years is as follows:

2021	$	112
2022		90
2023		72
2024		58
2025		46

Note 8 - Time Deposits

The aggregate amount of time deposits, including deposits in denominations of $100,000 or more, was $197,085,000 and $235,576,000 at December 31, 2020 and 2019, respectively. Time deposits that meet or exceed the FDIC insurance limit of $250,000 at December 31, 2020 and 2019 were $29,518,000 and $45,064,000, respectively.

At December 31, 2020, the scheduled maturities of time deposits were as follows:

2021	$	131,190
2022		28,483
2023		11,963
2024		9,745
2025		15,704
Thereafter		—
Total time deposits	$	197,085

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Note 9 - Short-Term Borrowings

December 31,	Securities sold under agreements to repurchase (a)			Other short - term borrowings (b)
2020
Balance	$	58,838		$	—
Maximum indebtedness at any month end		60,377			10,845
Daily average indebtedness outstanding		50,007			1,738
Average rate paid for the year		0.43	%		1.90	%
Average rate on period-end borrowings		0.38			0.00
2019
Balance	$	44,114		$	11,817
Maximum indebtedness at any month end		44,114			33,260
Daily average indebtedness outstanding		40,220			16,761
Average rate paid for the year		0.70	%		2.49	%
Average rate on period-end borrowings		0.62			1.81

(a) Securities sold under agreements to repurchase mature overnight. The repurchase agreements were collateralized by U.S. Government mortgage-backed securities and CMOs with an amortized cost of $69,793,000 and $55,928,000 and a fair value of $71,295,000 and $55,795,000 and at December 31, 2020 and 2019, respectively. These securities are held in safekeeping at the Federal Reserve Bank of Boston.

(b) Other short-term borrowings include Federal funds purchased and overnight borrowings from the FHLB.

The Bank has five unsecured Federal funds lines granted by correspondent banks totaling $101,000,000. Federal funds purchased under these lines were $0 at both December 31, 2020 and 2019.

Note 10 - Long-Term Debt

FHLB advances are collateralized by certain mortgage loans and also require the purchase of FHLB capital stock, which is included within restricted investment in bank stock on the consolidated balance sheets. QNB’s FHLB stock is $1,029,000 and $1,061,000 at December 31, 2020 and 2019, respectively.

QNB has a maximum borrowing capacity with the FHLB of approximately $353,265,000. At December 31, 2020 QNB had $10,000,000 in long-term advances outstanding with the FHLB at fixed rates, no short-term borrowings reported in Note 9 and a letter of credit issued of $350,000. At December 31, 2019 QNB had $11,817,000 in short-term borrowings outstanding with the FHLB reported in Note 9 as other short-term borrowings and a letter of credit of $350,000.

Long-term advances at the FHLB mature as follows:

As of December 31, 2020	Balance Maturing		Weighted-Average Rate
2021	$	—	—%
2022		—		—
2023		10,000		1.57
2024		—		—
2025		—		—
Thereafter		—		—
Total long-term debt	$	10,000		1.57	%

Note 11 - Income Taxes

The Tax Cuts and Jobs Act (the “2017 Tax Reform Act”) was enacted on December 22, 2017.  The 2017 Tax Reform Act reduced the U.S. Federal corporate tax rate for QNB from 34% to 21% effective January 1, 2018.  U.S. GAAP required that the tax impact of the rate change on existing tax account balances be recognized in the 2017 provision.   A portion of the DTA/DTL tax rate change effect related to QNB’s unrealized gains(losses) on available for sale securities, net of their expected deferred tax benefit, included in AOCI and created a “stranded tax effect” of $805,000.   In February 2018, FASB issued ASU 2018-02, as discussed in Note 1, allowing a one-time reclassification of such “stranded tax effect” from AOCI to retained earnings.  In the first quarter of 2018, QNB reclassified $805,000 of deferred tax benefits from AOCI to retained earnings as reflected in the Consolidated Statements of Shareholders’ Equity.

- 35 -

In 2018, QNB’s 2017 Federal tax return was filed and included an election to change tax methods for bad debt conformity and for loan originations costs.  This resulted in a tax benefit of $415,000 related to the change in the tax rate from 34% to 21%.  These discrete tax items were recorded in 2018.

The components of the provision for income taxes are as follows:

Year ended December 31,	2020			2019		2018
Current Federal income taxes	$	2,569		$	2,375	$	1,742
Current state income taxes		52			156		57
Deferred Federal income taxes (benefits)		(53	)		207		363
Deferred state income taxes (benefits)		(6	)		112		(105	)
Other		—			—		(85	)
Net provision prior to discrete tax adjustments		2,562			2,850		1,972
DTL writeoff due to change in tax methods		—			—		(415	)
Net provision	$	2,562		$	2,850	$	1,557

At December 31, 2020 and 2019, the tax effects of temporary differences that represent the significant portion of deferred tax assets and liabilities are as follows:

December 31,	2020		2019
Deferred tax assets
Allowance for loan losses	$	2,273	$	2,076
Non-accrual interest income		39		54
Deferred rent		71		—
Deferred revenue		46		71
Incurred but not reported medical expense		34		31
Bonus		154		218
Other		90		33
Total deferred tax assets		2,707		2,483
Deferred tax liabilities
Deferred loan costs		419		369
Depreciation		406		289
Mortgage servicing rights		112		92
Net unrealized holding gains on investment    securities available-for-sale		1,502		68
Fair value adjustment on equity securities		19		32
Prepaid expenses		166		151
Deferred rent		—		23
Other		17		18
Total deferred tax liabilities		2,641		1,042
Net deferred tax asset	$	66	$	1,441

The ability to realize deferred tax assets is dependent upon a variety of factors, including the generation of future taxable income, the existence of taxes paid and recoverable, the reversal of deferred tax liabilities and tax planning strategies. Based upon these and other factors, management believes it is more likely than not that QNB will realize the benefits of the above deferred tax assets.

- 36 -

A reconciliation of the tax provision on income before taxes computed at the statutory rates of 21% for 2020, 2019 and 2018 and the actual tax provision was as follows:  

Year ended December 31,	2020						2019						2018
	Dollar			%			Dollar			%			Dollar			%
Provision at statutory rate	$	3,075			21.0	%	$	3,193			21.0	%	$	2,707			21.0	%
Tax-exempt interest and dividend income		(518	)		(3.5	)		(538	)		(3.5	)		(577	)		(4.5	)
Bank-owned life insurance		(62	)		(0.4	)		(61	)		(0.4	)		(61	)		(0.4	)
Stock-based compensation expense		20			0.1			20			0.1			17			0.1
State income tax		35			0.2			205			1.3			(19	)		(0.1	)
Other		12			0.1			31			0.2			(95	)		(0.8	)
Net provision prior to discrete    tax adjustments		2,562			17.5			2,850			18.7			1,972			15.3
DTL writeoff for change in tax methods		—			—			—			—			(415	)		(3.2	)
Net provision	$	2,562			17.5	%	$	2,850			18.7	%	$	1,557			12.1	%

Note 12 - Employee Benefit Plans

The QNB Bank Retirement Savings Plan provides for elective employee contributions up to the maximum allowed by the IRS and a matching company contribution limited to 3%. In addition, the plan provides for safe harbor non-elective contributions of 5% of total compensation by QNB. QNB contributed a matching contribution of $340,000, $309,000 and $271,000 for the years ended December 31, 2020, 2019, and 2018, respectively, and a safe harbor contribution of $608,000 for 2020, $553,000 for 2019, and $494,000 for 2018.

QNB’s Employee Stock Purchase Plan (the Plan) offers eligible employees an opportunity to purchase shares of QNB Corp. common stock at a 10% discount from the lesser of fair market value on the first or last day of each offering period (as defined by the Plan). At the 2016 Annual Meeting, shareholders approved the 2016 Employee Stock Purchase Plan (the 2016 Plan), which authorizes the issuance of 30,000 shares. As of December 31, 2020, 16,048 shares were issued under the 2016 Plan. The 2016 Plan expires May 31, 2021.

Shares issued pursuant to the Plan were as follows:

Year ended December 31,	2020		2019		2018
Shares		5,723		3,310		2,963
Price per share	$25.52 and $25.56		$33.53		$39.60 and $39.47

Note 13 - Stock Option Plan

QNB has stock option plans (the Plans) administered by a committee which consists of three or more members of QNB’s Board of Directors. The Plans provide for the granting of either (i) Non-Qualified Stock Options (NQSOs) or (ii) Incentive Stock Options (ISOs). The exercise price of an option, as defined by the Plans, is the fair market value of QNB’s common stock at the date of grant. The Plans provide for the exercise either in cash or in securities of the Company or in any combination thereof.

The 2005 Plan authorized the issuance of 200,000 shares. The time period by which any option is exercisable under this Plan is determined by the Committee but shall not commence before the expiration of six months after the date of grant or continue beyond the expiration of five years after the date grant date. The granted options vest after a three-year period.  As of December 31, 2020, there were 184,200 options granted, 65,850 options forfeited, 118,350 options exercised and no options outstanding under this Plan. The 2005 Plan expired March 15, 2015.

The 2015 Plan authorizes the issuance of 300,000 shares. The terms of the 2015 Plan are identical to the 2005 Plan. There were 123,200 options granted, 4,850 options forfeited, 1,800 options exercised and 116,550 options outstanding under the 2015 Plan as of December 31, 2020.

As of December 31, 2020, there was approximately $79,000 of unrecognized compensation cost related to unvested stock option awards granted. That cost is expected to be recognized over the next 26 months.

- 37 -

Stock option activity during 2020, 2019, and 2018 was as follows:

	Number of options			Weighted average exercise price		Weighted average remaining contractual term (in years)		Aggregate intrinsic value
Outstanding at December 31, 2017		85,525		$	30.94
Exercised		(13,850	)		24.96
Forfeited		(1,600	)		32.52
Granted		25,000			43.60
Outstanding at December 31, 2018		95,075			35.11
Exercised		(14,925	)		27.16
Forfeited		(1,500	)		37.20
Granted		24,700			38.15
Outstanding at December 31, 2019		103,350			36.96
Exercised		(9,550	)		29.39
Forfeited		(2,250	)		39.86
Granted		25,000			36.50
Outstanding at December 31, 2020		116,550		$	37.42		2.21	$	34
Exercisable at December 31, 2020		43,900		$	34.21		0.66	$	34

As of December 31, 2020, outstanding stock options consist of the following:

	Options outstanding		Exercise price		Remaining life (in years)		Options exercisable		Exercise price
		20,650	$	30.40		0.13		20,650	$	30.40
		25,000		36.50		4.13		—		—
		23,250		37.60		1.13		23,250		37.60
		23,925		38.15		3.13		—		—
		23,725		43.60		2.14		—		—
Outstanding at December 31, 2020		116,550	$	37.42		2.21		43,900	$	34.21

The intrinsic value related to total stock options exercised during 2020, 2019, and 2018 are as follows:

	2020		2019		2018
Intrinsic value of stock options exercised	$	81	$	153	$	274

Note 14 - Related Party Transactions

QNB has had, and may be expected to have in the future, banking transactions in the ordinary course of business with its executive officers, directors, principal shareholders, their immediate families and affiliated companies. The following table presents activity and amounts due from directors, principal officers, and their related interests. All of these transactions were made in the ordinary course of business on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other persons. These transactions did not involve more than normal risk of collectability or present any other unfavorable features.

Balance, December 31, 2019	$	13,839
New loans		25,296
Repayments		(26,478	)
Balance, December 31, 2020	$	12,657

The following table provides additional information regarding transactions with related parties.

December 31,	2020		2019
Commitments to extend credit	$	7,624	$	6,338
Letters of credit		1,696		1,696
Deposits received		10,880		8,779

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Note 15 - Commitments and Contingencies

Financial instruments with off-balance sheet risk:

In the normal course of business there are various legal proceedings, commitments, and contingent liabilities which are not reflected in the consolidated financial statements. Management does not anticipate any material losses as a result of these transactions and activities. They include, among other things, commitments to extend credit and standby letters of credit. The maximum exposure to credit loss, which represents the possibility of sustaining a loss due to the failure of the other parties to a financial instrument to perform according to the terms of the contract, is represented by the contractual amount of these instruments. QNB uses the same lending standards and policies in making credit commitments as it does for on-balance sheet instruments. The activity is controlled through credit approvals, control limits, and monitoring procedures.

A summary of the Bank's financial instrument commitments is as follows:

December 31,	2020		2019
Commitments to extend credit and unused lines of credit	$	296,537	$	273,088
Standby letters of credit		22,567		11,704
Total financial instrument commitments	$	319,104	$	284,792

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. QNB evaluates each customer’s creditworthiness on a case-by-case basis.

Standby letters of credit are conditional commitments issued by the Bank to guarantee the financial or performance obligation of a customer to a third party. QNB’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for standby letters of credit is represented by the contractual amount of those instruments. The Bank uses the same credit policies in making conditional obligations as it does for on-balance sheet instruments. Standby letters of credit totaling $20,352,000 expire within one year. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending other loan commitments. The Bank requires collateral and personal guarantees supporting these letters of credit as deemed necessary. The amount of collateral obtained for letters of credit and commitments to extend credit is based on management’s credit evaluation of the customer. Collateral varies, but may include real estate, accounts receivable, marketable securities, pledged deposits, inventory or equipment. Management believes that the proceeds obtained through a liquidation of such collateral and the enforcement of personal guarantees would be sufficient to cover the maximum potential amount of future payments required under the corresponding guarantees. The amount of the liability as of December 31, 2020 and 2019 for guarantees under standby letters of credit issued is not material.

Other commitments:

QNB has committed to various operating leases for several of their branch and office facilities. Some of these leases include specific provisions relating to rent increases. A maturity analysis of the operating lease liabilities and reconciliation of the undiscounted cash flows to the total operating lease liability is as follows:

	Operating Leases
2021	$	587
2022		582
2023		531
2024		405
2025		426
Thereafter		3,488
Total undiscounted cashflows		6,019
Total discount on cashflows		(1,422	)
Total lease liabilities	$	4,597

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Some of the leases contain renewal options to extend the initial terms of the lease for periods ranging from five to ten years and certain leases allow for multiple extensions, the commitment for such renewals is not included above if they have not been exercised as of December 31, 2020.  Operating lease costs, which include common area maintenance costs not included in the minimum lease payments above, for the years ended December 31, 2020, 2019 and 2018, was $808,000, $778,000 and $681,000, respectively.  

Note 16 - Accumulated Other Comprehensive Income (Loss)

The following shows the components of accumulated other comprehensive income (loss) during the periods ended December 31, 2020, 2019 and 2018:

December 31,	2020			2019			2018
Unrealized net holding gains (losses)  on    available-for-sale securities	$	7,151		$	325		$	(9,028	)
Unrealized losses on available-for-sale securities    for which a portion of an other-than-temporary    impairment loss has been recognized in earnings		—			—			—
Accumulated other comprehensive income (loss)		7,151			325			(9,028	)
Tax effect*		(1,502	)		(68	)		1,896
Accumulated other comprehensive income (loss),    net of tax	$	5,649		$	257		$	(7,132	)
* At tax rates of 21%

The following table presents amounts reclassified out of accumulated other comprehensive income (loss) for the years ended December 31, 2020, 2019 and 2018:

	Amount reclassified from accumulated other comprehensive income (loss)
Details about accumulated other comprehensive income (loss)	2020			2019			2018		Affected line item in statement of income
Realized net holding gains (losses) on available-for-sale securities	$	24		$	(26	)	$	3	Net gain on sale of investment securities
Other-than-temporary impairment losses on    investment securities		—			—			—	Net other-than-temporary impairment losses on investment securities
Net gain (loss) on sale of investment securities		24			(26	)		3
Tax effect*		(5	)		5			—	Provision for income taxes
Total reclassification out of accumulated other    comprehensive income (loss), net of tax	$	19		$	(21	)	$	3	Net of tax
*At rate of 21%

Note 17 - Fair Value Measurements and Fair Values of Financial Instruments

FASB ASC 820, Fair Value Measurements and Disclosures, defines fair value as an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants (fair values are not adjusted for transaction costs). ASC 820 also establishes a framework (fair value hierarchy) for measuring fair value under GAAP and expands disclosures about fair value measurements.

ASC 820 establishes 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:

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).

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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.

The measurement of fair value should be consistent with one of the following valuation techniques: market approach, income approach, and/or cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities (including a business). For example, valuation techniques consistent with the market approach often use market multiples derived from a set of comparables. Multiples might lie in ranges with a different multiple for each comparable. The selection of where within the range the appropriate multiple falls requires judgment, considering factors specific to the measurement (qualitative and quantitative). Valuation techniques consistent with the market approach include matrix pricing. Matrix pricing is a mathematical technique used principally to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the security’s relationship to other benchmark quoted securities.

For financial assets measured at fair value on a recurring and nonrecurring basis, the fair value measurements by level within the fair value hierarchy used were as follows:

December 31, 2020	Quotedprices in active markets for identical assets (Level 1)		Significant other observable input (Level 2)		Significant unobservable inputs (Level 3)		Balance at end of period
Recurring fair value measurements
Securities available-for-sale
U.S. Government agency securities	$	—	$	69,776	$	—	$	69,776
State and municipal securities		—		87,812		—		87,812
U.S. Government agencies and sponsored    enterprises (GSEs):
Mortgage-backed securities		—		175,847		—		175,847
Collateralized mortgage obligations (CMOs)		—		94,948		—		94,948
Pooled trust preferred securities		—		—		70		70
Corporate debt securities		—		7,193		—		7,193
Total securities available-for-sale		—		435,576		70		435,646
Equity securities		12,849		—		—		12,849
Total recurring fair value measurements	$	12,849	$	435,576	$	70	$	448,495
Nonrecurring fair value measurements *
Impaired loans	$	—	$	—	$	5,034	$	5,034
Mortgage servicing rights		—		—		291		291
Total nonrecurring fair value measurements	$	—	$	—	$	5,325	$	5,325

* impairment

- 41 -

December 31, 2019	Quotedprices in active markets for identical assets (Level 1)		Significant other observable input (Level 2)		Significant unobservable inputs (Level 3)		Balance at end of period
Recurring fair value measurements
Securities available-for-sale
U.S. Government agency securities	$	—	$	69,298	$	—	$	69,298
State and municipal securities		—		50,781		—		50,781
U.S. Government agencies and sponsored    enterprises (GSEs):
Mortgage-backed securities		—		134,829		—		134,829
Collateralized mortgage obligations (CMOs)		—		86,610		—		86,610
Pooled trust preferred securities		—		—		79		79
Corporate debt securities		—		8,113		—		8,113
Total securities available-for-sale		—		349,631		79		349,710
Equity securities		9,164		—		—		9,164
Total recurring fair value measurements	$	9,164	$	349,631	$	79	$	358,874
Nonrecurring fair value measurements *
Impaired loans	$	—	$	—	$	5,212	$	5,212
Mortgage servicing rights		—		—		7		7
Total nonrecurring fair value measurements	$	—	$	—	$	5,219	$	5,219

* impairment

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

	Quantitative information about Level 3 fair value measurements
December 31, 2020	Fairvalue		Valuation techniques		Unobservable input		Valueor range of values
Impaired loans	$	4,754	Appraisalof collateral	(1)	Appraisal adjustments	(2)	-10% to -30%
					Liquidation expenses	(3)	-10%
Impaired loans		280	Financial statement values for UCC collateral		Financial statement value discounts	(5)	-87.5 to -100%
Mortgage servicing rights		291	Discounted cash flow		Remaining term		2 to 30 yrs
					Discount rate		12.0% to 12.5%

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	Quantitative information about Level 3 fair value measurements
December 31, 2019	Fairvalue		Valuation techniques		Unobservable input		Valueor range of values
Impaired loans	$	4,655	Appraisalof collateral	(1)	Appraisal adjustments	(2)	-5% to -40%
					Liquidation expenses	(3)	-10%
Impaired loans		521	Financial statement values for UCC collateral		Financial statement value discounts	(5)	-30 to -100%
Impaired loans		36	Used commercial vehicle guides		Guide value discounts	(4)		-30	%
Mortgage servicing rights		—	Discounted cash flow		Remaining term		2 to 27 yrs
					Discount rate		12.0% to 12.5%

(1) Fair value is primarily determined through appraisals of the underlying collateral by independent parties, which generally includes various level 3 inputs which are not always identifiable.

(2) Appraisals may be adjusted by management for qualitative factors such as economic conditions and the age of the appraisal. The range is presented as a percent of the initial appraised value.

(3) Appraisals and pending agreements of sale are adjusted by management for estimated liquidation expenses. The range is presented as a percent of the initial appraised value.

(4) If lendable value (lower than wholesale) is utilized then no additional discounts are taken. If lendable value is not provided, then additional discounts are applied.

(5) Values obtained from financial statements for UCC collateral (fixed assets and inventory) are discounted to estimated realizable liquidation value.

The following table presents additional information about the securities available-for-sale measured at fair value on a recurring basis and for which QNB utilized significant unobservable inputs (Level 3 inputs) to determine fair value for the year ended December 31:

	Fair value measurements using significant unobservable inputs (Level 3)
Securities available-for-sale	2020			2019
Balance, beginning of year	$	79		$	116
Payments received		(1	)		(37	)
Sale of securities		—			—
Total gains or losses (realized/unrealized)
Included in earnings		—			—
Included in other comprehensive    income		(8	)		—
Transfers in and/or out of Level 3		—			—
Balance, end of year	$	70		$	79

There were also no transfers in or out of level 3 for the same periods. There was $0 and $0  in losses included in earnings attributable to the change in unrealized gains or losses relating to the available-for-sale securities above with fair value measurements utilizing significant unobservable inputs for the years ended December 31, 2020 and 2019, respectively.

The Level 3 securities consist of one collateralized debt obligation security (“PreTSL”), which is backed by trust preferred securities issued by banks. The market for this security at December 31, 2020 was not active and markets for similar securities also are not active. The new issue market is also inactive and there are currently very few market participants who are willing and or able to transact for these securities.

Given conditions in the debt markets today and the absence of observable transactions in the secondary and new issue markets, we determined:

• The few observable transactions and market quotations that are available are not reliable for purposes of determining fair value at December 31, 2020;

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• An income valuation approach technique (present value technique) that maximizes the use of relevant observable inputs and minimizes the use of unobservable inputs will be equally or more representative of fair value than the market approach valuation technique used at prior measurement dates; and

• PreTSLs will be classified within Level 3 of the fair value hierarchy because significant adjustments are required to determine fair value at the measurement date.

The Bank used an independent third party to value this security using a discounted cash flow analysis. Based on management’s review of the bond’s single underlying issuer, there are no expected credit losses or prepayments; cashflows used were contractual based on the Bloomberg YA screen.  The assumed cashflows have been discounted using and estimated market discount rate based on the 30-year swap rate.  The 30-year is used as the reference rate since it is indicative of market expectation for short-term rates in the future.  This is consistent with the 30-year nature of PreTSL securities, which are priced using the 3-month LIBOR as a reference rate.  The discount rate of 5.89% includes the risk-free rate, a credit component and a spread for illiquidity.    

The following information should not be interpreted as an estimate of the fair value of QNB since a fair value calculation is only provided for a limited portion of QNB’s assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between QNB’s disclosures and those of other companies may not be meaningful.

The following methods and assumptions were used to estimate the fair values of each major classification of financial instrument and non-financial asset at December 31, 2020 and 2019:

Cash and cash equivalents, accrued interest receivable and accrued interest payable (carried at cost):  The carrying amounts reported in the balance sheet approximate those assets’ fair value.

Investment securities:  available-for-sale (carried at fair value) and equity investments with readily determinable fair values (carried at fair value):  The fair value of securities are determined by obtaining quoted market prices on nationally recognized securities exchanges (Level 1), or matrix pricing (Level 2), which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted market prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted prices. Level 2 debt securities are valued by a third-party pricing service commonly used in the banking industry. Level 2 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 date, market consensus prepayment speeds, credit information and the security’s terms and conditions, among other things. For certain securities which are not traded in active markets or are subject to transfer restrictions, valuations are adjusted to reflect illiquidity and/or non-transferability, and such adjustments are generally based on available market evidence (Level 3). In the absence of such evidence, management’s best estimate is used. Management’s best estimate consists of both internal and external support on certain Level 3 investments. Cash flow models using a present value formula that includes assumptions market participants would use along with indicative exit pricing obtained from broker/dealers (where available) were used to support fair values of certain Level 3 investments.

Restricted investment in stocks (carried at cost):  The fair value of stock in Atlantic Community Bankers Bank and the Federal Home Loan Bank and VISA Class B is the carrying amount, based on redemption provisions, and considers the limited marketability of such securities.

Loans Held for Sale (carried at lower of cost or fair value):  The fair value of loans held for sale is determined, when possible, using quoted secondary market prices. If no such quoted prices exist, the fair value of a loan is determined using quoted prices for a similar loan or loans, adjusted for the specific attributes of that loan.

Loans Receivable (carried at cost):  The fair values of loans 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 reprice frequently and with no significant change in credit risk, fair values are based on carrying values.

Impaired Loans (generally carried at fair value):  Impaired loans are loans in which QNB has measured impairment generally based on the fair value of the loan’s collateral. Fair value is generally determined based upon independent third-party appraisals of the properties, or discounted cash flows based upon the expected proceeds. These assets are included as Level 3 fair values, based upon the lowest level of input that is significant to the fair value measurements. There was one impaired loan at both December 31, 2020 and 2019, respectively, that had specific reserves required and were partially charged-off at year end; the charge-off on this loan occurred in 2017.

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Mortgage Servicing Rights (carried at lower of cost or fair value):  The fair value of mortgage servicing rights is based on a valuation model that calculates the present value of estimated net servicing income. The mortgage servicing rights are stratified into tranches based on predominant characteristics, such as interest rate, loan type and investor type. The valuation incorporates assumptions that market participants would use in estimating future net servicing income.

Deposit liabilities (carried at cost):  The fair value of deposits with no stated maturity (e.g. demand deposits, interest-bearing demand accounts, money market accounts and savings accounts) are by definition, equal to the amount payable on demand at the reporting date (i.e. their carrying amounts). This approach to estimating fair value excludes the significant benefit that results from the low-cost funding provided by such deposit liabilities, as compared to alternative sources of funding. Deposits with a stated maturity (time deposits) have been valued using the present value of cash flows discounted at rates approximating the current market for similar deposits.

Short-term borrowings (carried at cost):  The carrying amount of short-term borrowings approximates their fair values.

Long-term debt (carried at cost):  Long-term debt has stated maturities and have been valued using the present value of cash flows discounted at rates approximating the current market for similar debt instruments.

Off-balance-sheet instruments (disclosed at cost):  The fair value for the Bank’s off-balance sheet instruments (lending commitments and letters of credit) are based on fees currently charged in the market to enter into similar agreements, taking into account, the remaining terms of the agreements and the counterparties’ credit standing.

Management uses its best judgment in estimating the fair value of QNB’s financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amounts the Company could have realized in a sales transaction on the dates indicated. The estimated fair value amounts have been measured as of the respective period ends and have not been re-evaluated or updated for purposes of these financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported at each year end.

The estimated fair values and carrying amounts of QNB’s financial and off-balance sheet instruments are summarized as follows:

					Fair value measurements
December 31, 2020	Carrying amount		Fair value		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Financial assets
Cash and cash equivalents	$	39,331	$	39,331	$	39,331	$	—	$	—
Investment securities:
Available-for-sale		435,646		435,646		—		435,576		70
Equity		12,849		12,849		12,849		—		—
Restricted investment in bank stocks		1,041		1,041		—		1,041		—
Loans held for sale		6,570		6,886		—		6,886		—
Net loans		909,216		915,726		—		—		915,726
Mortgage servicing rights		533		568		—		—		568
Accrued interest receivable		4,825		4,825		—		4,825		—
Financial liabilities
Deposits with no stated maturities	$	1,030,982	$	1,030,982	$	1,030,982	$	—	$	—
Deposits with stated maturities		197,085		199,127		—		199,127		—
Short-term borrowings		58,838		58,838		58,838		—		—
Long-term debt		10,000		10,269		10,269		—		—
Accrued interest payable		350		350		—		350		—
Off-balance sheet instruments
Commitments to extend credit	$	—	$	—	$	—	$	—	$	—
Standby letters of credit		—		88		—		88		—

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					Fair value measurements
December 31, 2019	Carrying amount		Fair value		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Financial assets
Cash and cash equivalents	$	17,608	$	17,608	$	17,608	$	—	$	—
Investment securities:
Available-for-sale		349,710		349,710		—		349,631		79
Equity		9,164		9,164		9,164		—		—
Restricted investment in bank stocks		1,073		1,073		—		1,073		—
Loans held for sale		977		997		—		997		—
Net loans		810,729		825,295		—		—		825,295
Mortgage servicing rights		441		551		—		—		551
Accrued interest receivable		2,828		2,828		—		2,828		—
Financial liabilities
Deposits with no stated maturities	$	802,284	$	802,284	$	802,284	$	—	$	—
Deposits with stated maturities		235,576		235,557		—		235,557		—
Short-term borrowings		55,931		55,931		55,931		—		—
Accrued interest payable		909		909		—		909		—
Off-balance sheet instruments
Commitments to extend credit	$	—	$	—	$	—	$	—	$	—
Standby letters of credit		—		47		—		47		—

Note 18 - Revenue Recognition from Contracts with Customer

QNB generally fully satisfies its performance obligations on its contracts with customers as services are rendered and the transaction prices are typically fixed; charged either on a periodic basis or based on activity. Because performance obligations are satisfied as services are rendered and the transaction prices are fixed, there is little judgment involved in applying Topic 606 that significantly affects the determination of the amount and timing of revenue from contracts with customers.  The main types of revenue contracts included in non-interest income within the consolidated statements of operations are as follows:

• Fees for services to customers—fees include service charges on deposits which are included as liabilities in the consolidated statement of financial position and consist of transaction-based fees, stop payment fees, Automated Clearing House (ACH) fees, account maintenance fees, and overdraft services fees for various retail and business checking customers.  These fees are charged as earned on the day of the transaction or within the month of the service, with the exception of Enhanced Account Analysis Fees, which are calculated on the previous month’s activity and assessed on the following month.  The Enhanced Account Analysis Fees are currently being accrued; the revenue is currently being recorded in the month it is earned.   Service charges on deposits are withdrawn directly from the customer’s account balance.

• ATM and debit card – fees are recognized at the time the transaction is executed as that is the point in time QNB fulfills the customer’s request.

• Retail brokerage and advisory—fee income and related expenses are accrued monthly to properly record the revenues in the month they are earned.  Advisory fees are collected in advance on a quarterly basis.  These advisory fees are recorded in the first month of the quarter for which the service is being performed.     Fees that are transaction based are recognized at the point in time that the transaction is executed (i.e. trade date).

• Merchant – QNB earns interchange fees from credit/debit cardholder transactions conducted through VISA/MasterCard payment networks.  Interchange fees from cardholder transactions represent a percentage of the underlying transaction value and are recognized monthly, concurrently with the transaction processing services provided to the cardholder within the month.

• Other—includes credit card fees, sales of checks to depositors, miscellaneous fees and gain/losses on sale of OREO.

• Credit card fees are recognized monthly, concurrently with the transaction processing services provided to the cardholder within the month.

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• Sales of checks to depositors are commissions earned from a third-party who provides checks to QNB’s customers.  There is a pre-paid incentive with the third party which is recognized over the term of the contract.  Other commissions on the sales of checks are recorded weekly.

• Miscellaneous fees, such as wire, cashier check and garnishment fees, are charged as earned on the day of the transaction.

• Gain (loss) on sales of OREO – QNB records a gain or loss from the sale of OREO when control of the property transfers to the buyer, which generally occurs at the time of an executed deed. When the QNB finances the sale of OREO to the buyer, QNB assesses whether the buyer is committed to perform their obligations under the contract and whether collectability of the transaction price is probable.  Once these criteria are met, the OREO asset is derecognized and the gain or loss on sale is recorded upon the transfer of control of the property to the buyer.  In determining the gain or loss on the sale, QNB adjusts the transaction prices and related gain (loss) on sale if a significant financing component is present.

Note 19 - Parent Company Financial Information

Condensed financial statements of QNB Corp. only:

Balance Sheets
December 31,	2020		2019
Assets
Cash and cash equivalents	$	242	$	3,616
Investment securities (cost of $12,784 and $9,053)		12,849		9,164
Investment in subsidiary		121,427		108,694
Other assets		9		27
Total assets	$	134,527	$	121,501
Liabilities
Other liabilities	$	82	$	784
Shareholders' equity		134,445		120,717
Total liabilities and shareholders' equity	$	134,527	$	121,501

Statements of Income
Year ended December 31,	2020			2019		2018
Dividends from subsidiary	$	4,413		$	3,820	$	4,027
Interest, dividend and other income		346			292		266
Securities gains (losses)		585			1,781		(79	)
Net unrealized (loss) gain on investment equity securities		(47	)		770		(336	)
Total income		5,297			6,663		3,878
Expenses		457			420		513
Income before applicable income taxes and equity in    undistributed income of subsidiary		4,840			6,243		3,365
Provision (benefit) for income taxes		97			714		(256	)
Income before equity in undistributed income of subsidiary		4,743			5,529		3,621
Equity in undistributed income of subsidiary		7,340			6,828		7,714
Net income	$	12,083		$	12,357	$	11,335

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Statements of Comprehensive Income	(in thousands)
Year ended December 31,	2020									2019						2018
	Before tax amount			Tax expense (benefit)			Net of tax amount			Before tax amount		Tax expense (benefit)		Net of tax amount		Before tax amount			Tax expense (benefit)			Net of tax amount
Net income	$	14,645		$	2,562		$	12,083		$	15,207	$	2,850	$	12,357	$	12,892		$	1,557		$	11,335
Other comprehensive income gain:
Net unrealized holding gains on securities:
Unrealized holding gains arising during the period		6,850			1,439			5,411			9,327		1,959		7,368		(3,156	)		(663	)		(2,493	)
Reclassification adjustment for gains included in net income		(24	)		(5	)		(19	)		26		5		21		(3	)		(1	)		(2	)
		6,826			1,434			5,392			9,353		1,964		7,389		(3,159	)		(664	)		(2,495	)
Total comprehensive income	$	21,471		$	3,996		$	17,475		$	24,560	$	4,814	$	19,746	$	9,733		$	893		$	8,840

Statements of Cash Flows
Year ended December 31,	2020			2019			2018
Operating Activities
Net income	$	12,083		$	12,357		$	11,335
Adjustments to reconcile net income to net cash provided    by operating activities:
Equity in undistributed income from subsidiary		(7,340	)		(6,828	)		(7,714	)
Net securities (gains)  losses		(585	)		(1,781	)		79
Net unrealized loss (gain) on investment equity securities		47			(770	)		336
Stock-based compensation expense		112			118			117
Accretion of discounts on investment securities		—			(45	)		—
Increase (decrease) in other liabilities		(682	)		762			(403	)
Decrease increase (decrease) in other assets		17			126			(147	)
Deferred income tax (benefit) provision		(20	)		247			(158	)
Net cash provided by operating activities		3,632			4,186			3,445
Investing activities
Purchase of investment equity securities		(7,914	)		(9,030	)		(9,763	)
Purchase of investment securities available-for-sale		—			(8,730	)		—
Proceeds from sale of investment equity securities		4,767			11,838			4,902
Proceeds from sale of investment securities available-for-sale		—			8,775			—
Net cash provided (used) by investing activities		(3,147	)		2,853			(4,861	)
Financing activities
Cash dividend paid		(4,226	)		(4,086	)		(3,863	)
Treasury stock purchase		(130	)		—			—
Proceeds from issuance of common stock		497			591			684
Net cash used by financing activities		(3,859	)		(3,495	)		(3,179	)
Increase (decrease)  cash and cash equivalents		(3,374	)		3,544			(4,595	)
Cash and cash equivalents at beginning of year		3,616			72			4,667
Cash and cash equivalents at end of year	$	242		$	3,616		$	72

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Note 20 - Regulatory Restrictions

Dividends payable by the Company and the Bank are subject to various limitations imposed by statutes, regulations and policies adopted by bank regulatory agencies. Under Pennsylvania and Federal banking law, the Bank is subject to certain restrictions on the amount of dividends that it may declare without prior regulatory approval. Under Federal Reserve regulations, the Bank is limited as to the amount it may lend affiliates, including the Company, unless such loans are collateralized by specific obligations.

Both the Company and the Bank are subject to regulatory capital requirements administered by Federal bank regulatory agencies. Failure to meet minimum capital requirements can initiate actions by regulators that could have an effect on the financial statements. Under the framework for prompt corrective action, both the Company and the Bank must meet capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance-sheet items.

The capital amounts and classification are also subject to qualitative judgments by the regulators. Management believes, as of December 31, 2020, that the Company and the Bank met capital adequacy requirements to which they were subject.

The Bank is presently considered to be “well capitalized” under the regulatory framework. To be categorized as well capitalized, the Company and the Bank must maintain minimum ratios set forth in the table below. The Company and the Bank’s actual capital amounts and ratios are presented as follows:

	Capital levels
	Actual					Adequately capitalized					Well capitalized
As of December 31, 2020	Amount		Ratio			Amount		Ratio			Amount		Ratio
Total risk-based capital (to risk-weighted assets):
Consolidated	$	139,705		13.95	%	$	80,125		8.00	%	$	100,156		10.00	%
Bank		126,687		13.15			77,047	8.00				96,308	10.00
Tier I capital (to risk-weighted assets):
Consolidated		128,788		12.86			60,094	6.00				60,094	6.00
Bank		115,770		12.02			57,785	6.00				77,047	8.00
Common equity tier 1 capital (to risk-weighted assets):
Consolidated		128,788		12.86			45,070	4.50			N/A		N/A
Bank		115,770		12.02			43,339	4.50				62,600	6.50
Tier I capital (to average assets):
Consolidated		128,788		9.07			56,776	4.00			N/A		N/A
Bank		115,770		8.23			56,286	4.00				70,357	5.00

	Capital levels
	Actual					Adequately capitalized					Well capitalized
As of December 31, 2019	Amount		Ratio			Amount		Ratio			Amount		Ratio
Total risk-based capital (to risk-weighted assets):
Consolidated	$	130,412		13.82	%	$	75,498		8.00	%	$	94,373		10.00	%
Bank		118,389	12.93				73,270	8.00				91,587	10.00
Tier I capital (to risk-weighted assets):
Consolidated		120,452	12.76				56,624	6.00				56,624	6.00
Bank		108,429	11.84				54,952	6.00				73,270	8.00
Common equity tier 1 capital (to risk-weighted assets):
Consolidated		120,452	12.76				42,468	4.50			N/A		N/A
Bank		108,429	11.84				41,214	4.50				59,532	6.50
Tier I capital (to average assets):
Consolidated		120,452	9.78				49,283	4.00			N/A		N/A
Bank		108,429	8.89				48,804	4.00				61,005	5.00

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Note 21 - Consolidated Quarterly Financial Data (Unaudited)

The unaudited quarterly results of operations for the years ended 2020 and 2019 are in the following table:

	Quarters Ended 2020									Quarters Ended 2019
	March 31			June 30		September 30		December 31		March 31		June 30		September 30		December 31
Interest income	$	11,331		$	10,740	$	10,763	$	10,859	$	11,289	$	11,712	$	11,817	$	11,600
Interest expense		2,168			1,506		1,433		1,338		2,453		2,601		2,635		2,435
Net interest income		9,163			9,234		9,330		9,521		8,836		9,111		9,182		9,165
Provision for loan losses		500			250		250		250		225		150		550		375
Non-interest income		(1,571	)		2,817		2,809		3,547		2,309		1,654		2,144		2,210
Non-interest expense		7,278			6,869		7,197		7,611		6,724		6,793		6,955		7,632
Income before income taxes		(186	)		4,932		4,692		5,207		4,196		3,822		3,821		3,368
Provision for income taxes		(406	)		998		914		1,056		817		679		731		623
Net Income	$	220		$	3,934	$	3,778	$	4,151	$	3,379	$	3,143	$	3,090	$	2,745
Earnings Per Share - basic *	$	0.06		$	1.11	$	1.07	$	1.17	$	0.97	$	0.90	$	0.88	$	0.78
Earnings Per Share - diluted *	$	0.06		$	1.11	$	1.07	$	1.17	$	0.97	$	0.90	$	0.88	$	0.78

* Due to rounding, quarterly earnings per share may not sum to annual earnings per share

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this amendment to report to be signed on its behalf by the undersigned, thereunto duly authorized.

	QNB Corp.
March 12, 2021
	BY:	/s/  Janice McCracken Erkes
		Janice McCracken Erkes
		Chief Financial Officer

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Exhibit Index

The following exhibits are filed with this Form 10-K/A:

23.1-	Consent of Independent Registered Public Accounting Firm
31.1-	Section 302 Certification of the Chief Executive Officer
31.2-	Section 302 Certification of the Chief Financial Officer
32.1-	Section 906 Certification of the Chief Executive Officer
32.2-	Section 906 Certification of the Chief Financial Officer

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