Note 3 – Loans

Major classifications of loans were as follows:



	September 30, 2014		December 31, 2013
Commercial	$	106,592	$	94,736
Real estate - commercial		600,649		560,233
Real estate - construction		41,936		29,351
Real estate - residential		365,602		390,201
Consumer		3,142		2,760
Overdraft		1,198		628
Lease financing receivables		8,398		10,069
Other		12,757		12,793
		1,140,274		1,100,771
Net deferred loan fees		608		485
	$	1,140,882	$	1,101,256

It is the policy of the Company to review each prospective credit in order to determine if an adequate level of security or collateral was obtained prior to making a loan. The type of collateral, when required, will vary from liquid assets to real estate. The Company’s access to collateral, in the event of borrower default, is assured through adherence to lending laws, the Company’s lending standards and credit monitoring procedures. The Bank generally makes loans solely within its market area. There are no significant concentrations of loans where the customers’ ability to honor loan terms is dependent upon a single economic sector although the real estate related categories listed above represent 88.4% and 89.0% of the portfolio at September 30, 2014, and December 31, 2013, respectively.

Aged analysis of past due loans by class of loans were as follows:



															Recorded
															Investment
															90 days or
					90 Days or										Greater Past
	30-59 Days		60-89 Days		Greater Past		Total Past								Due and
September 30, 2014	Past		Past Due		Due		Due		Current		Nonaccrual		Total Loans		Accruing
Commercial	$	99	$	-	$	-	$	99	$	113,246	$	1,645	$	114,990	$	-
Real estate - commercial
Owner occupied general purpose		32		-		-		32		132,123		5,973		138,128		-
Owner occupied special purpose		-		-		-		-		166,561		3,802		170,363		-
Non-owner occupied general purpose		-		-		-		-		150,073		6,421		156,494		-
Non-owner occupied special purpose		-		-		-		-		84,410		1,472		85,882		-
Retail properties		-		-		-		-		34,692		-		34,692		-
Farm		-		-		-		-		15,090		-		15,090		-
Real estate - construction
Homebuilder		-		-		-		-		3,232		-		3,232		-
Land		-		-		-		-		1,684		209		1,893		-
Commercial speculative		-		-		-		-		15,859		-		15,859		-
All other		-		-		-		-		20,367		585		20,952		-
Real estate - residential
Investor		173		722		-		895		127,490		1,901		130,286		-
Owner occupied		96		230		-		326		109,990		7,204		117,520		-
Revolving and junior liens		105		78		44		227		115,273		2,296		117,796		44
Consumer		6		-		-		6		3,136		-		3,142		-
All other1		-		-		-		-		14,563		-		14,563		-
	$	511	$	1,030	$	44	$	1,585	$	1,107,789	$	31,508	$	1,140,882	$	44



															Recorded
															Investment
															90 days or
					90 Days or										Greater Past
	30-59 Days		60-89 Days		Greater Past		Total Past								Due and
December 31, 2013	Past		Past Due		Due		Due		Current		Nonaccrual		Total Loans		Accruing
Commercial	$	-	$	-	$	-	$	-	$	104,778	$	27	$	104,805	$	-
Real estate - commercial
Owner occupied general purpose		290		526		-		816		117,938		3,180		121,934		-
Owner occupied special purpose		511		-		-		511		164,277		7,671		172,459		-
Non-owner occupied general purpose		218		-		-		218		132,331		5,708		138,257		-
Non-owner occupied special purpose		-		-		-		-		73,325		661		73,986		-
Retail properties		-		-		-		-		34,034		3,144		37,178		-
Farm		-		-		-		-		16,419		-		16,419		-
Real estate - construction
Homebuilder		-		-		-		-		3,515		168		3,683		-
Land		-		-		-		-		4,436		209		4,645		-
Commercial speculative		-		-		-		-		11,235		1,913		13,148		-
All other		32		-		-		32		7,404		439		7,875		-
Real estate - residential
Investor		581		171		-		752		140,926		6,615		148,293		-
Owner occupied		4,414		308		87		4,809		106,184		5,967		116,960		87
Revolving and junior liens		650		76		-		726		121,013		3,209		124,948		-
Consumer		5		-		-		5		2,755		-		2,760		-
All other1		-		-		-		-		13,906		-		13,906		-
	$	6,701	$	1,081	$	87	$	7,869	$	1,054,476	$	38,911	$	1,101,256	$	87

1. The “All other” class includes overdrafts and net deferred costs.

Credit Quality Indicators:

The Company categorizes loans into credit risk categories based on current financial information, overall debt service coverage, comparison against industry averages, historical payment experience, and current economic trends. This analysis includes loans with outstanding balances or commitments greater than $50,000 and excludes homogeneous loans such as home equity lines of credit and residential mortgages. Loans with a classified risk rating are reviewed quarterly regardless of size or loan type. The Company uses the following definitions for classified risk ratings:

Special Mention. Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan at some future date.

Substandard. Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

Doubtful. Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

Credits that are not covered by the definitions above are pass credits, which are not considered to be adversely rated.

Credit Quality Indicators by class of loans were as follows:



September 30, 2014			Special
	Pass		Mention		Substandard 1		Doubtful		Total
Commercial	$	106,620	$	4,119	$	4,251	$	-	$	114,990
Real estate - commercial
Owner occupied general purpose		129,530		913		7,685		-		138,128
Owner occupied special purpose		151,663		12,558		6,142		-		170,363
Non-owner occupied general purpose		145,153		1,872		9,469		-		156,494
Non-owner occupied special purpose		76,267		8,143		1,472		-		85,882
Retail Properties		32,450		2,242		-		-		34,692
Farm		15,090		-		-		-		15,090
Real estate - construction
Homebuilder		3,232		-		-		-		3,232
Land		1,684		-		209		-		1,893
Commercial speculative		11,815		540		3,504		-		15,859
All other		20,367		-		585		-		20,952
Real estate - residential
Investor		126,879		-		3,407		-		130,286
Owner occupied		109,723		-		7,797		-		117,520
Revolving and junior liens		113,933		188		3,675		-		117,796
Consumer		3,141		-		1		-		3,142
All other		14,563		-		-		-		14,563
Total	$	1,062,110	$	30,575	$	48,197	$	-	$	1,140,882



December 31, 2013			Special
	Pass		Mention		Substandard 1		Doubtful		Total
Commercial	$	96,371	$	7,953	$	481	$	-	$	104,805
Real estate - commercial
Owner occupied general purpose		105,683		9,048		7,203		-		121,934
Owner occupied special purpose		162,586		1,968		7,905		-		172,459
Non-owner occupied general purpose		122,844		1,826		13,587		-		138,257
Non-owner occupied special purpose		59,674		9,840		4,472		-		73,986
Retail Properties		30,059		2,989		4,130		-		37,178
Farm		16,419		-		-		-		16,419
Real estate - construction
Homebuilder		1,745		1,770		168		-		3,683
Land		4,436		-		209		-		4,645
Commercial speculative		7,674		3,561		1,913		-		13,148
All other		7,109		32		734		-		7,875
Real estate - residential
Investor		135,136		3,407		9,750		-		148,293
Owner occupied		109,261		-		7,699		-		116,960
Revolving and junior liens		120,589		388		3,971		-		124,948
Consumer		2,759		-		1		-		2,760
All other		13,906		-		-		-		13,906
Total	$	996,251	$	42,782	$	62,223	$	-	$	1,101,256

1 The substandard credit quality indicator includes both potential problem loans that are currently performing and nonperforming loans

Impaired loans by class of loan were as follows:



							Nine Months Ended
	As of September 30, 2014						September 30, 2014
			Unpaid				Average		Interest
	Recorded		Principal		Related		Recorded		Income
	Investment		Balance		Allowance		Investment		Recognized
With no related allowance recorded
Commercial	$	1,645	$	2,173	$	-	$	836	$	-
Commercial real estate
Owner occupied general purpose		7,176		7,840		-		4,860		81
Owner occupied special purpose		3,217		4,147		-		3,294		-
Non-owner occupied general purpose		7,065		8,052		-		6,246		45
Non-owner occupied special purpose		1,472		1,935		-		1,067		-
Retail properties		-		-		-		1,572		-
Farm		-		-		-		-		-
Construction
Homebuilder		1,791		1,791		-		1,903		69
Land		209		312		-		209		-
Commercial speculative		-		-		-		369		-
All other		306		347		-		155		-
Residential
Investor		2,553		3,538		-		4,269		32
Owner occupied		11,735		13,214		-		10,457		128
Revolving and junior liens		2,028		3,163		-		1,899		4
Consumer		-		-				-		-
Total impaired loans with no recorded allowance		39,197		46,512		-		37,136		359
With an allowance recorded
Commercial		-		-		-		-		-
Commercial real estate
Owner occupied general purpose		-		-		-		365		-
Owner occupied special purpose		585		676		167		2,443		-
Non-owner occupied general purpose		-		-		-		469		-
Non-owner occupied special purpose		-		-		-		-		-
Retail properties		-		-		-		-		-
Farm		-		-		-		-		-
Construction
Homebuilder		-		-		-		84		-
Land		-		-		-		-		-
Commercial speculative		-		-		-		588		-
All other		279		312		107		357		-
Residential
Investor		139		149		79		412		-
Owner occupied		259		394		59		912		15
Revolving and junior liens		327		358		129		912		-
Consumer		-		-		-		-		-
Total impaired loans with a recorded allowance		1,589		1,889		541		6,542		15
Total impaired loans	$	40,786	$	48,401	$	541	$	43,678	$	374

Impaired loans by class of loans were as follows:



							Nine Months Ended
	As of December 31, 2013						September 30, 2013
			Unpaid				Average		Interest
	Recorded		Principal		Related		Recorded		Income
	Investment		Balance		Allowance		Investment		Recognized
With no related allowance recorded
Commercial	$	27	$	34	$	-	$	113	$	-
Commercial real estate
Owner occupied general purpose		2,543		3,006		-		3,565		3
Owner occupied special purpose		3,371		4,117		-		5,913		-
Non-owner occupied general purpose		5,428		6,709		-		11,995		113
Non-owner occupied special purpose		661		919		-		457		-
Retail properties		3,144		3,811		-		6,918		-
Farm		-		-		-		1,259		-
Construction
Homebuilder		2,016		2,016		-		3,597		120
Land		209		308		-		231		-
Commercial speculative		738		742		-		2,089		-
All other		4		35		-		188		-
Residential
Investor		5,984		8,338		-		5,845		-
Owner occupied		9,179		10,451		-		9,606		151
Revolving and junior liens		1,771		2,313		-		1,668		5
Consumer		-		-				12		-
Total impaired loans with no recorded allowance		35,075		42,799		-		53,456		392
With an allowance recorded
Commercial		-		-		-		283		-
Commercial real estate
Owner occupied general purpose		730		792		264		974		-
Owner occupied special purpose		4,300		4,702		759		2,777		-
Non-owner occupied general purpose		939		1,030		129		1,481		-
Non-owner occupied special purpose		-		-		-		-		-
Retail properties		-		-		-		876		-
Farm		-		-		-		-		-
Construction
Homebuilder		168		604		76		97		-
Land		-		-		-		-		-
Commercial speculative		1,175		1,808		17		2,971		-
All other		436		468		262		465		-
Residential
Investor		684		913		160		3,263		-
Owner occupied		1,565		1,831		170		3,448		12
Revolving and junior liens		1,498		1,848		558		1,527		-
Consumer		-		-		-		-		-
Total impaired loans with a recorded allowance		11,495		13,996		2,395		18,162		12
Total impaired loans	$	46,570	$	56,795	$	2,395	$	71,618	$	404

Troubled debt restructurings (“TDRs”) are loans for which the contractual terms have been modified and both of these conditions exist: (1) there is a concession to the borrower and (2) the borrower is experiencing financial difficulties. Loans are restructured on a case-by-case basis during the loan collection process with modifications generally initiated at the request of the borrower. These modifications may include reduction in interest rates, extension of term, deferrals of principal, and other modifications. The Bank participates in the U.S. Department of the Treasury’s (the “Treasury”) Home Affordable Modification Program (“HAMP”) which gives qualifying homeowners an opportunity to refinance into more affordable monthly payments.

The specific allocation of the allowance for loan losses on a TDR is determined by either discounting the modified cash flows at the original effective rate of the loan before modification or is based on the underlying collateral value less costs to sell, if repayment of the loan is collateral-dependent. If the resulting amount is less than the recorded book value, the Bank either establishes a valuation allowance (i.e. specific reserve) as a component of the allowance for loan losses or charges off the impaired balance if it determines that such amount is a confirmed loss. This method is used consistently for all segments of the portfolio. The allowance for loan losses also includes an allowance based on a loss migration analysis for each loan category on loans that are not individually evaluated for specific impairment. All loans charged-off, including TDRs charged-off, are factored into this calculation by portfolio segment.

TDRs that were modified during the period are as follows:



	TDR Modifications					TDR Modifications
	Three Months Ended September 30, 2014					Nine Months Ended September 30, 2014

	# of	Pre-modification		Post-modification		# of	Pre-modification		Post-modification
	contracts	recorded investment		recorded investment		contracts	recorded investment		recorded investment
Troubled debt restructurings
Real estate - commercial
Other1	-	$	-	$	-	2	$	1,320	$	1,118
Real estate - residential
Investor
Other1	1		155		153	1		155		153
Owner occupied
HAMP2	-		-		-	1		102		74
Deferral3	-		-		-	2		344		226
Revolving and junior liens
Other1	1		62		59	3		222		218
	2	$	217	$	212	9	$	2,143	$	1,789



	TDR Modifications					TDR Modifications
	Three Months Ended September 30, 2013					Nine Months Ended September 30, 2013

	# of	Pre-modification		Post-modification		# of	Pre-modification		Post-modification
	contracts	recorded investment		recorded investment		contracts	recorded investment		recorded investment
Troubled debt restructurings
Real estate - commercial
Deferral3	-	$	-	$	-	1	$	610	$	472
Real estate - residential
Owner occupied
Deferral3	-		-		-	1		137		137
Revolving and junior liens
Other1	-		-		-	1		30		29
	-	$	-	$	-	3	$	777	$	638

1 Other: Change of terms from bankruptcy court

2 HAMP: Home Affordable Modification Program

3 Deferral: Refers to the deferral of principal

TDRs are classified as being in default on a case-by-case basis when they fail to be in compliance with the modified terms. The following table presents TDRs that defaulted during the periods shown and were restructured within the 12 month period prior to default. There was no TDR default activity for the three and nine months ended September 30, 2014.



	TDR Default Activity			TDR Default Activity
	Three Months Ended September 30, 2013			Nine Months Ended September 30, 2013
Troubled debt restructurings that	# of		Pre-modification outstanding	# of		Pre-modification outstanding
Subsequently Defaulted	contracts		recorded investment	contracts		recorded investment
Real estate - commercial
Owner occupied special purpose	1	$	610	1	$	610
Real estate - residential
Investor	-		-	1		155
Owner occupied	1		175	1		175
Revolving and junior liens	1		30	1		30
	3	$	815	4	$	970