INCOME TAXES

The Company files income tax returns in the U.S. federal jurisdiction and the Commonwealth of Pennsylvania. The Bank also files an income tax return in the State of Maryland. The Company is no longer subject to U.S. federal, state or local income tax examination by tax authorities for years before 2013.

The components of income tax expense for the three and nine months ended September 30, 2016 and 2015 are summarized as follows:



	Three months ended September 30,						Nine months ended September 30,
(Dollars in thousands)	2016			2015			2016			2015
Current year provision (benefit):
Federal	$	1,066		$	(104	)	$	1,192		$	(63	)
State	8			(1		)	5			7
	1,074			(105		)	1,197			(56		)
Deferred tax expense (benefit):
Federal	(948		)	561			(216		)	1,538
State	(1		)	6			10			16
	(949		)	567			(206		)	1,554
Net income tax expense	$	125		$	462		$	991		$	1,498

The provision for income taxes includes zero and $10,000 of applicable income tax expense related to net security gains for the three months ended September 30, 2016 and 2015. The provision for income taxes includes $483,000 and $669,000 of applicable income tax expense related to net securities gains for the nine months ended September 30, 2016 and 2015.

In the third quarter of 2016, the Company reassessed its estimated annual effective tax rate and changed the federal statutory rate from 35% to 34%, effective January 1, 2016, to reflect management's assessment that it will not be in the higher tax bracket. As a result, income tax expense reported for the first nine months was adjusted to reflect the change in tax rates and resulted in an increase in deferred income tax expense of $176,000, which was charged to the third quarter. This amount is comprised of $235,000 of additional income tax for the six months ended June 30, 2016 and $59,000 benefit for the three months ended September 30, 2016 from the application of the new rate to existing deferred balances.

The components of the net deferred tax asset, included in other assets, are as follows:



(Dollars in thousands)	September 30, 2016		December 31, 2015
Deferred tax assets:
Allowance for loan losses	$	5,059	$	5,111
Deferred compensation	532		547
Retirement plans and salary continuation	1,904		1,824
Share-based compensation	521		343
Off balance sheet reserves	301		218
Nonaccrual loan interest	415		246
Goodwill	99		124
Bonus accrual	127		359
Low income housing credit carryforward	1,900		1,652
Alternative minimum tax credit carryforward	3,648		2,195
Charitable contribution carryforward	50		211
Net operating loss carryforward	2,591		4,431
Other	420		182
Total deferred tax assets	17,567		17,443
Deferred tax liabilities:
Depreciation	719		815
Net unrealized gains on securities available for sale	2,646		646
Mortgage servicing rights	704		669
Purchase accounting adjustments	320		352
Other	192		181
Total deferred tax liabilities	4,581		2,663
Net deferred tax asset	$	12,986	$	14,780

The provision for income taxes differs from that computed by applying statutory rates to income before income taxes primarily due to the effects of tax-exempt income, non-deductible expenses and tax credits.

As of September 30, 2016, the Company had charitable contribution, low-income housing, and net operating loss carryforwards that expire through 2019, 2036 and 2032, respectively.

In assessing whether or not some or all of our deferred tax asset is more likely than not to be realized in the future, management considers all positive and negative evidence, including projected future taxable income, tax planning strategies and recent financial operating results. The ultimate realization of deferred tax assets is dependent upon existence, or generation, of taxable income in the periods when those temporary differences and net operating loss and credit carryforwards are deductible. Management considered projected future taxable income, length of time needed for carryforwards to reverse, available tax planning strategies, and other factors in making its assessment that it was more likely than not the net deferred tax assets would be realized, and that no valuation allowance was required at September 30, 2016 or December 31, 2015.