Allowance for Loan Losses | (5) Allowance for Loan Losses Management has an established methodology to determine the adequacy of the allowance for loan losses that assesses the risks and losses inherent in the loan portfolio. For purposes of determining the allowance for loan and lease losses, the Company has segmented certain loans in the portfolio by product type. Loss migration rates for each risk category are calculated and used as the basis for calculating loan loss allowance allocations. Loss migration rates are calculated over a three-year period for all portfolio segments. Management also considers certain economic factors for trends that management uses to account for the qualitative and environmental changes in risk, which affects the level of the reserve. The following qualitative factors are analyzed: • Changes in lending policies and procedures • Changes in experience and depth of lending and management staff • Changes in quality of credit review system • Changes in nature and volume of the loan portfolio • Changes in past due, classified and nonaccrual loans and TDRs • Changes in economic and business conditions • Changes in competition or legal and regulatory requirements • Changes in concentrations within the loan portfolio • Changes in the underlying collateral for collateral dependent loans The total allowance reflects management’s estimate of loan losses inherent in the loan portfolio at the balance sheet date. The Company considers the allowance for loan losses of $13,451 adequate to cover loan losses inherent in the loan portfolio, at September 30, 2016. The following tables present, by portfolio segment, the changes in the allowance for loan losses for the three and nine months ended September 30, 2016 and 2015. Allowance for loan losses: For the nine months ended September 30, 2016 Beginning Charge- Recoveries Provision Ending Commercial & Agriculture $ 1,478 $ (870 ) $ 79 $ 1,023 $ 1,710 Commercial Real Estate: Owner Occupied 2,467 (166 ) 53 (44 ) 2,310 Non-Owner Occupied 4,657 (23 ) 1,365 (1,456 ) 4,543 Residential Real Estate 4,086 (280 ) 384 (735 ) 3,455 Real Estate Construction 371 (115 ) 8 160 424 Farm Real Estate 538 — — (108 ) 430 Consumer and Other 382 (85 ) 40 — 337 Unallocated 382 — — (140 ) 242 Total $ 14,361 $ (1,539 ) $ 1,929 $ (1,300 ) $ 13,451 For the nine months ended September 30, 2016, the increase in allowance for Commercial & Agriculture loans was due to an increase in general reserves as a result of higher balances and higher loss rates in criticized loans. The result was represented as an increase in the provision. The allowance for Commercial Real Estate – Owner Occupied loans was reduced not only by a decrease in specific reserves required for this type, but also by decreases in past due, classified and non-accrual loans for this type. The result of these changes was represented as a decrease in the provision. The decrease in allowance for Commercial Real Estate – Non-Owner Occupied loans was the result of a decrease in general reserves required as a result of lower loss rates and improvement in past due, classified and non-accrual loans for this type. In addition, a payoff on a previously charged down loan was received resulting in a recovery of approximately $1,303. The net result was represented as a decrease in the provision. The allowance for Residential Real Estate loans was reduced by a decrease in general reserves required for this type as a result of a decrease in loss rates, represented by a decrease in the provision. The allowance for Real Estate Construction loans increased due to an increase in loss rates for this type of loan, which was represented as an increase in the provision. The allowance for Farm Real Estate loans was reduced by a decrease in general reserves required for this type as a result of lower outstanding loan balances and a decrease in loss rates. The result of these changes was represented as a decrease in the provision. Management feels that the unallocated amount is appropriate and within the relevant range for the allowance that is reflective of the risk in the portfolio. Allowance for loan losses: For the nine months ended September 30, 2015 Beginning Charge- Recoveries Provision Ending Commercial & Agriculture $ 1,819 $ (187 ) $ 158 $ (412 ) $ 1,378 Commercial Real Estate: Owner Occupied 2,221 (362 ) 162 661 2,682 Non-Owner Occupied 4,334 (81 ) 105 581 4,939 Residential Real Estate 3,747 (779 ) 289 965 4,222 Real Estate Construction 428 — 4 (4 ) 428 Farm Real Estate 822 — 60 (224 ) 658 Consumer and Other 200 (115 ) 38 251 374 Unallocated 697 — — (618 ) 79 Total $ 14,268 $ (1,524 ) $ 816 $ 1,200 $ 14,760 For the nine months ended September 30, 2015, the allowance for Commercial & Agriculture loans was reduced due to decreases in specific reserves for impaired loans of $625. The decrease in specific reserves for impaired loans was the result of the resolution of an impaired loan. The Company did not incur losses with this resolution. In addition, criticized Commercial & Agriculture loan balances have decreased. The result was represented as a decrease in the provision. The increase in the allowance for Commercial Real Estate - Owner Occupied loans was the result of an increase in loss migration rates, which is attributable to the change in the look-back period to a three-year period. The increase in the allowance for Commercial Real Estate – Non–Owner Occupied loans was the result of an increase in loss migration rates, which is attributable to the change in the look-back period to a three-year period. The ending reserve balance for Residential Real Estate loans increased from the end of the previous year due to an increase in loss migration rates, which is attributable to the change in the look-back period to a three-year period. The increase in the allowance for Consumer and Other loans increased due to an increase in loss migration rates. Unallocated reserves declined due to a change in the Company’s look-back period. The Company changed from a two-year look-back period to a three-year look-back period when calculating all but one segment’s loss migration rates during the third quarter of 2015. The change in methodology resulted in a decline in the unallocated balance with a corresponding increase in allocated balances within the reserve calculation. While loan balances are up, loss rates continue to trend downward, exclusive of the change in methodology, resulting in a lower allowance balance. While criticized loans in total have increased slightly, we have seen significant improvement in nonperforming loan balances resulting in a decline in specific reserves for impaired loans. Management feels that the unallocated amount is appropriate and within the relevant range for the allowance that is reflective of the risk in the portfolio. Allowance for loan losses: For the three months ended September 30, 2016 Beginning Charge- Recoveries Provision Ending Commercial & Agriculture $ 1,557 $ (828 ) $ 44 $ 937 $ 1,710 Commercial Real Estate: Owner Occupied 2,393 (124 ) 1 40 2,310 Non-Owner Occupied 4,969 (23 ) 6 (409 ) 4,543 Residential Real Estate 3,899 (55 ) 23 (412 ) 3,455 Real Estate Construction 366 (115 ) 6 167 424 Farm Real Estate 476 — — (46 ) 430 Consumer and Other 358 (38 ) 7 10 337 Unallocated 529 — — (287 ) 242 Total $ 14,547 $ (1,183 ) $ 87 $ — $ 13,451 For the three months ended September 30, 2016, the increase in allowance for Commercial & Agriculture loans was due to an increase in general reserves as a result of higher loss rates and an increase in loan balances. The result was represented as an increase in the provision. The decrease in allowance for Commercial Real Estate – Non-Owner Occupied loans was the result of a decrease in general reserves required as a result of lower loss rates and improvement in past due, classified and non-accrual loans for this type. The net result was represented as a decrease in the provision. The allowance for Residential Real Estate loans was reduced by a decrease in general reserves required for this type as a result of a decrease in loss rates, represented by a decrease in the provision. The allowance for Real Estate Construction loans increased due to an increase in loss rates for this type of loan, which was represented as an increase in the provision. The allowance for Farm Real Estate loans was reduced by a decrease in general reserves required for this type as a result of lower outstanding loan balances, represented as a decrease in the provision. Management feels that the unallocated amount is appropriate and within the relevant range for the allowance that is reflective of the risk in the portfolio. Allowance for loan losses: For the three months ended September 30, 2015 Beginning Charge- Recoveries Provision Ending Commercial & Agriculture $ 1,395 $ (187 ) $ 127 $ 43 $ 1,378 Commercial Real Estate: Owner Occupied 5,073 (164 ) 3 (2,230 ) 2,682 Non-Owner Occupied 3,153 (17 ) 15 1,788 4,939 Residential Real Estate 3,470 (238 ) 124 866 4,222 Real Estate Construction 434 — 1 (7 ) 428 Farm Real Estate 584 — 9 65 658 Consumer and Other 190 (28 ) 8 204 374 Unallocated 408 — — (329 ) 79 Total $ 14,707 $ (634 ) $ 287 $ 400 $ 14,760 For the three months ended September 30, 2015, the decrease in the allowance for Commercial Real Estate – Owner Occupied was the result of a significant change in the Special Mention loss migration rate that had been adversely effected by a specific loss on one relationship that occurred in 2014. The effect of this loss as of this quarter end migrated to the Substandard pool and has less of an impact to the reserve. The ending reserve balance for Residential Real Estate loans increased due an increase in criticized loan balances and an increase in loss migration rates. The increase in the allowance for Consumer and other loans increased due to an increase in loss rates. Unallocated reserves declined due to a change in the Company’s lookback period. The Company changed from a two-year lookback period to a three-year lookback period when calculating all but one segment’s loss migration rates during the third quarter of 2015. The change in methodology is reflected in a decline in the unallocated balance with corresponding increase in allocated balances within the reserve calculation. While loan balances are up, loss rates continue to trend downward, exclusive of the change in methodology, resulting in a lower allowance balance. While criticized loans have increased slightly, we have seen significant improvement in nonperforming loan balances resulting in a decline in specific reserves for impaired loans. Management feels that the unallocated amount is appropriate and within the relevant range for the allowance that is reflective of the risk in the portfolio. The following tables present, by portfolio segment, the allocation of the allowance for loan losses and related loan balances as of September 30, 2016 and December 31, 2015. September 30, 2016 Loans acquired Loans Loans Total Allowance for loan losses: Commercial & Agriculture $ — $ — $ 1,710 $ 1,710 Commercial Real Estate: Owner Occupied — 4 2,306 2,310 Non-Owner Occupied — — 4,543 4,543 Residential Real Estate 97 113 3,245 3,455 Real Estate Construction — — 424 424 Farm Real Estate — — 430 430 Consumer and Other — — 337 337 Unallocated — — 242 242 Total $ 97 $ 117 $ 13,237 $ 13,451 Outstanding loan balances: Commercial & Agriculture $ 89 $ 2,386 $ 127,225 $ 129,700 Commercial Real Estate: Owner Occupied — 1,939 165,625 167,564 Non-Owner Occupied — 369 385,494 385,863 Residential Real Estate 177 1,854 245,143 247,174 Real Estate Construction — — 56,919 56,919 Farm Real Estate — 665 41,197 41,862 Consumer and Other — 1 17,884 17,885 Total $ 266 $ 7,214 $ 1,039,487 $ 1,046,967 December 31, 2015 Loans Loans Loans Total Allowance for loan losses: Commercial & Agriculture $ — $ 23 $ 1,455 $ 1,478 Commercial Real Estate: Owner Occupied — 103 2,364 2,467 Non-Owner Occupied — — 4,657 4,657 Residential Real Estate 123 137 3,826 4,086 Real Estate Construction — — 371 371 Farm Real Estate — — 538 538 Consumer and Other — — 382 382 Unallocated — — 382 382 Total $ 123 $ 263 $ 13,975 $ 14,361 Outstanding loan balances: Commercial & Agriculture $ 132 $ 873 $ 123,397 $ 124,402 Commercial Real Estate: Owner Occupied — 2,141 165,756 167,897 Non-Owner Occupied — 1,742 346,697 348,439 Residential Real Estate 131 1,642 234,565 236,338 Real Estate Construction — — 58,898 58,898 Farm Real Estate — 953 46,040 46,993 Consumer and Other — 3 18,557 18,560 Total $ 263 $ 7,354 $ 993,910 $ 1,001,527 The following tables present credit exposures by internally assigned grades for the periods ended September 30, 2016 and December 31, 2015. The risk rating analysis estimates the capability of the borrower to repay the contractual obligations of the loan agreements as scheduled or at all. The Company’s internal credit risk grading system is based on experiences with similarly graded loans. The Company’s internally assigned grades are as follows: • Pass • Special Mention • Substandard • Doubtful • Loss Generally, Residential Real Estate, Real Estate Construction and Consumer and Other loans are not risk-graded, except when collateral is used for a business purpose. September 30, 2016 Pass Special Substandard Doubtful Ending Commercial & Agriculture $ 121,273 $ 4,569 $ 3,858 $ — $ 129,700 Commercial Real Estate: Owner Occupied 159,392 1,849 6,323 — 167,564 Non-Owner Occupied 380,064 4,054 1,745 — 385,863 Residential Real Estate 58,290 1,698 7,539 — 67,527 Real Estate Construction 50,391 17 27 — 50,435 Farm Real Estate 32,430 7,088 2,344 — 41,862 Consumer and Other 1,586 — 95 — 1,681 Total $ 803,426 $ 19,275 $ 21,931 $ — $ 844,632 December 31, 2015 Pass Special Substandard Doubtful Ending Commercial & Agriculture $ 117,739 $ 3,090 $ 3,573 $ — $ 124,402 Commercial Real Estate: Owner Occupied 156,622 5,571 5,704 — 167,897 Non-Owner Occupied 339,734 6,100 2,605 — 348,439 Residential Real Estate 62,147 1,671 7,435 — 71,253 Real Estate Construction 52,399 216 29 — 52,644 Farm Real Estate 39,787 4,024 3,182 — 46,993 Consumer and Other 1,987 3 111 — 2,101 Total $ 770,415 $ 20,675 $ 22,639 $ — $ 813,729 The following tables present performing and nonperforming loans based solely on payment activity for the periods ended September 30, 2016 and December 31, 2015 that have not been assigned an internal risk grade. The types of loans presented here are not assigned a risk grade unless there is evidence of a problem. Payment activity is reviewed by management on a monthly basis to evaluate performance. Loans are considered to be nonperforming when they become 90 days past due or if management thinks that we may not collect all of our principal and interest. Nonperforming loans also include certain loans that have been modified in Troubled Debt Restructurings (TDRs) where economic concessions have been granted to borrowers who have experienced or are expected to experience financial difficulties. These concessions typically result from the Company’s loss mitigation activities related to a borrower that is experiencing financial difficulties, and such concessions may include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance or other actions. Certain TDRs are classified as nonperforming at the time of restructure and may only be returned to performing status after considering the borrower’s sustained repayment performance for a reasonable period, generally six months. Residential Real Estate Consumer Total September 30, 2016 Performing $ 179,647 $ 6,484 $ 16,171 $ 202,302 Nonperforming — — 33 33 Total $ 179,647 $ 6,484 $ 16,204 $ 202,335 Residential Real Estate Consumer Total December 31, 2015 Performing $ 165,048 $ 6,254 $ 16,458 $ 187,760 Nonperforming 37 — 1 38 Total $ 165,085 $ 6,254 $ 16,459 $ 187,798 The following tables include an aging analysis of the recorded investment of past due loans outstanding as of September 30, 2016 and December 31, 2015. September 30, 2016 30-59 60-89 90 Days Total Past Current Purchased Total Loans Past Due Commercial & Agriculture $ 57 $ 169 $ 213 $ 439 $ 129,172 $ 89 $ 129,700 $ — Commercial Real Estate: Owner Occupied 642 59 303 1,004 166,560 — 167,564 — Non-Owner Occupied — 14 316 330 385,533 — 385,863 — Residential Real Estate 230 384 1,299 1,913 245,084 177 247,174 — Real Estate Construction — — 27 27 56,892 — 56,919 — Farm Real Estate 21 — — 21 41,841 — 41,862 — Consumer and Other 157 37 33 227 17,658 — 17,885 33 Total $ 1,107 $ 663 $ 2,191 $ 3,961 $ 1,042,740 $ 266 $ 1,046,967 $ 33 December 31, 2015 30-59 60-89 90 Days Total Past Current Purchased Total Loans Past Due Commercial & Agriculture $ 9 $ 32 $ 37 $ 78 $ 124,192 $ 132 $ 124,402 $ — Commercial Real Estate: Owner Occupied 982 36 284 1,302 166,595 — 167,897 — Non-Owner Occupied 269 330 123 722 347,717 — 348,439 — Residential Real Estate 2,640 404 1,725 4,769 231,438 131 236,338 — Real Estate Construction 8 — — 8 58,890 — 58,898 — Farm Real Estate — — — — 46,993 — 46,993 — Consumer and Other 98 68 8 174 18,386 — 18,560 — Total $ 4,006 $ 870 $ 2,177 $ 7,053 $ 994,211 $ 263 $ 1,001,527 $ — The following table presents loans on nonaccrual status, excluding purchased credit-impaired (PCI) loans, as of September 30, 2016 and December 31, 2015. 2016 2015 Commercial & Agriculture $ 2,008 $ 1,185 Commercial Real Estate: Owner Occupied 1,618 1,645 Non-Owner Occupied 459 1,428 Residential Real Estate 3,887 3,911 Real Estate Construction 27 29 Farm Real Estate 54 961 Consumer and Other 84 100 Total $ 8,137 $ 9,259 Nonaccrual Loans: Modifications: Loans modified in a TDR are typically already on non-accrual status and partial charge-offs have in some cases already been taken against the outstanding loan balance. As a result, loans modified in a TDR may have the financial effect of increasing the specific allowance associated with the loan. An allowance for impaired loans that have been modified in a TDR are measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral, less any selling costs, if the loan is collateral dependent. Management exercises significant judgment in developing these estimates. As of September 30, 2016, TDRs accounted for $214 of the allowance for loan losses. As of December 31, 2015, TDRs accounted for $286 of the allowance for loan losses. Loan modifications that are considered TDRs completed during the periods ended September 30, 2016 and September 30, 2015 were as follows: For the Nine-Month Period Ended Number Pre-Modification Post- Commercial & Agriculture 4 $ 529 $ 529 Commercial Real Estate - Owner Occupied — — — Commercial Real Estate - Non-Owner Occupied — — — Residential Real Estate 2 308 308 Real Estate Construction — — — Farm Real Estate 3 700 700 Consumer and Other — — — Total Loan Modifications 9 $ 1,537 $ 1,537 For the Nine-Month Period Ended Number Pre-Modification Post- Commercial & Agriculture — $ — $ — Commercial Real Estate - Owner Occupied — — — Commercial Real Estate - Non-Owner Occupied — — — Residential Real Estate — — — Real Estate Construction 1 41 41 Farm Real Estate — — — Consumer and Other — — — Total Loan Modifications 1 $ 41 $ 41 For the Three-Month Period Ended Number Pre-Modification Post- Commercial & Agriculture — $ — $ — Commercial Real Estate - Owner Occupied — — — Commercial Real Estate - Non-Owner Occupied — — — Residential Real Estate — — — Real Estate Construction — — — Farm Real Estate 1 86 86 Consumer and Other — — — Total Loan Modifications 1 $ 86 $ 86 For the Three-Month Period Ended Number Pre-Modification Post- Commercial & Agriculture — $ — $ — Commercial Real Estate - Owner Occupied — — — Commercial Real Estate - Non-Owner Occupied — — — Residential Real Estate — — — Real Estate Construction — — — Farm Real Estate — — — Consumer and Other — — — Total Loan Modifications — $ — $ — Recidivism, or the borrower defaulting on its obligation pursuant to a modified loan, results in the loan once again becoming a non-accrual loan. Recidivism occurs at a notably higher rate than do defaults on new origination loans, so modified loans present a higher risk of loss than do new origination loans. During both the three- and nine-month periods ended September 30, 2016 and September 30, 2015, there were no defaults on loans that were modified and considered TDRs during the respective twelve previous months. Impaired Loans: The following tables include the recorded investment and unpaid principal balances for impaired loans, excluding PCI loans, with the related allowance amount, if applicable, as of September 30, 2016 and December 31, 2015. September 30, 2016 December 31, 2015 Recorded Unpaid Related Recorded Unpaid Related With no related allowance recorded: Commercial & Agriculture $ 2,386 $ 3,457 $ 851 $ 1,034 Commercial Real Estate: Owner Occupied 1,697 1,842 1,224 1,343 Non-Owner Occupied 369 396 1,742 1,826 Residential Real Estate 1,376 1,912 965 1,591 Farm Real Estate 665 665 953 1,026 Consumer and Other 1 1 3 3 Total 6,494 8,273 5,738 6,823 With an allowance recorded: Commercial & Agriculture — — $ — 22 23 $ 23 Commercial Real Estate: Owner Occupied 242 242 4 917 999 103 Non-Owner Occupied — — — — — — Residential Real Estate 478 497 113 808 683 260 Farm Real Estate — — — — — — Total 720 739 117 1,747 1,705 386 Total: Commercial & Agriculture 2,386 3,457 — 873 1,057 23 Commercial Real Estate: Owner Occupied 1,939 2,084 4 2,141 2,342 103 Non-Owner Occupied 369 396 — 1,742 1,826 — Residential Real Estate 1,854 2,409 113 1,773 2,274 260 Farm Real Estate 665 665 — 953 1,026 — Consumer and Other 1 1 — 3 3 — Total $ 7,214 $ 9,012 $ 117 $ 7,485 $ 8,528 $ 386 The following tables include the average recorded investment and interest income recognized for impaired loans. For the nine months ended: September 30, 2016 September 30, 2015 Average Interest Average Interest Commercial & Agriculture $ 1,453 $ 147 $ 1,680 $ 41 Commercial Real Estate - Owner Occupied 1,954 101 2,887 120 Commercial Real Estate - Non-Owner Occupied 1,519 62 1,997 31 Residential Real Estate 1,699 89 2,640 78 Real Estate Construction 473 6 20 — Farm Real Estate 1,123 33 620 42 Consumer and Other 2 — 5 — Total $ 8,223 $ 438 $ 9,849 $ 312 For the three months ended: September 30, 2016 September 30, 2015 Average Interest Average Interest Commercial & Agriculture $ 2,401 $ 67 $ 1,058 $ 4 Commercial Real Estate - Owner Occupied 1,774 51 2,447 23 Commercial Real Estate - Non-Owner Occupied 556 36 1,870 12 Residential Real Estate 1,873 29 2,450 12 Real Estate Construction — 6 20 — Farm Real Estate 1,032 2 816 14 Consumer and Other 2 — 4 — Total $ 7,638 $ 191 $ 8,665 $ 65 Changes in the amortizable yield for PCI loans were as follows, since acquisition: For the Nine-Month For the Nine-Month Period Ended Period Ended September 30, 2016 September 30, 2015 (In Thousands) (In Thousands) Balance at beginning of period $ 82 $ — Acquisition of PCI loans — 140 Accretion (24 ) — Balance at end of period $ 58 $ 140 For the Three-Month For the Three-Month Period Ended Period Ended September 30, 2016 September 30, 2015 (In Thousands) (In Thousands) Balance at beginning of period $ 66 $ 140 Acquisition of PCI loans — — Accretion (8 ) — Balance at end of period $ 58 $ 140 The following table presents additional information regarding loans acquired and accounted for in accordance with ASC 310-30: At September 30, 2016 At December 31, 2015 Acquired Loans with Acquired Loans with (In Thousands) Outstanding balance $ 868 $ 965 Carrying amount 266 263 There has been $97 and $123 in allowance for loan losses recorded for acquired loans with or without specific evidence of deterioration in credit quality as of September 30, 2016 and December 31, 2015, respectively. Foreclosed Assets Held For Sale Foreclosed assets acquired in settlement of loans are carried at fair value less estimated costs to sell and are included in other assets on the Consolidated Balance Sheet. As of September 30, 2016 and December 31, 2015, a total of $62 and $116, respectively, of foreclosed assets were included in other assets. As of September 30, 2016, included within the foreclosed assets is $62 of residential property acquired upon foreclosure of consumer residential mortgages or received via a deed in lieu transaction prior to the period end. As of September 30, 2016, the Company had initiated formal foreclosure procedures on $721 of consumer residential mortgages. |