Loans and Allowance for Loan Losses

Credit Quality of Loans

Virtually all of our loans are generated from customers located in California, primarily in the counties of Marin, Alameda, Sonoma, San Francisco and Napa. Approximately 85% and 87% at December 31, 2015 and 2014, respectively, of total loans were secured by real estate, while 2% were unsecured at both December 31, 2015 and 2014. At December 31, 2015, 66% of our loans were for commercial real estate, 83% of which were secured by real estate located in Marin, Sonoma, Alameda, San Francisco and Napa counties (California).

Outstanding loans by class and payment aging as of December 31, 2015 and 2014 are as follows:



Loan Aging Analysis by Class as of December 31, 2015 and 2014
(dollars in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential ¹		Installment and other consumer		Total
December 31, 2015
30-59 days past due	$	36	$	—	$	1,096	$	1	$	—	$	—	$	249	$	1,382
60-89 days past due	—		—		—		—		633		—		89		722
90 days or more past due	21		—		—		—		99		—		—		120
Total past due	57		—		1,096		1		732		—		338		2,224
Current	219,395		242,309		714,783		65,494		111,568		73,154		22,301		1,449,004
Total loans ³	$	219,452	$	242,309	$	715,879	$	65,495	$	112,300	$	73,154	$	22,639	$	1,451,228
Non-accrual loans²	$	21	$	—	$	1,903	$	1	$	171	$	—	$	83	$	2,179
December 31, 2014
30-59 days past due	$	183	$	—	$	—	$	—	$	646	$	—	$	180	$	1,009
Non-accrual loans²	—		1,403		2,429		5,134		280		—		104		9,350
Total past due	183		1,403		2,429		5,134		926		—		284		10,359
Current	210,040		229,202		671,070		43,279		109,862		73,035		16,504		1,352,992
Total loans ³	$	210,223	$	230,605	$	673,499	$	48,413	$	110,788	$	73,035	$	16,788	$	1,363,351

¹ Our residential loan portfolio includes no sub-prime loans, nor is it our normal practice to underwrite loans commonly referred to as "Alt-A mortgages," the characteristics of which are loans lacking full documentation, borrowers having low FICO scores or higher loan-to-value ratios.

² Amounts include $1 thousand and $1.4 million of Purchased Credit Impaired ("PCI") loans that have stopped accreting interest at December 31, 2015 and 2014, respectively. Amounts exclude accreting PCI loans of $3.7 million and $3.8 million at December 31, 2015 and 2014, respectively, as we have a reasonable expectation about future cash flows to be collected and we continue to recognize accretable yield on these loans in interest income. There were no accruing loans past due more than ninety days at December 31, 2015 or 2014.

³ Amounts included deferred loan origination costs, net of deferred loan origination fees, of $768 thousand and $487 thousand at December 31, 2015 and 2014, respectively. Amounts were also net of unaccreted purchase discounts on non-PCI loans of $3.2 million and $4.4 million at December 31, 2015 and 2014, respectively.

Our commercial loans are generally made to established small and mid-sized businesses to provide financing for their growth and working capital needs, equipment purchases and/or acquisitions. Management examines historical, current, and projected cash flows to determine the ability of the borrower to repay obligations as agreed. Commercial loans are made based primarily on the identified cash flows of the borrower and secondarily on the underlying collateral and/or guarantor support. The cash flows of borrowers, however, may not occur as expected, and the collateral securing these loans may fluctuate in value. Most commercial and industrial loans are secured by the assets being financed, such as accounts receivable and/or inventory, and typically include a personal guarantee. We target stable businesses with guarantors that have proven to be resilient in periods of economic stress. Typically, the guarantors provide an additional source of repayment for most of our credit extensions.

Commercial real estate loans are subject to underwriting standards and processes similar to commercial loans discussed above. We underwrite these loans to be repaid from cash flow and to be supported by real property collateral. Underwriting standards for commercial real estate loans include, but are not limited to, debt coverage and loan-to-value ratios. Furthermore, substantially all of our loans are guaranteed by the owners of the properties. Commercial real estate loans may be adversely affected by conditions in the real estate markets or in the general economy. In the event of a vacancy, guarantors are expected to carry the loans until a replacement tenant can be found. The owner's substantial equity investment provides a strong economic incentive to continue to support the commercial real estate projects. As such, we have generally experienced a relatively low level of loss and delinquencies in this portfolio.

Construction loans are generally made to developers and builders to finance construction, renovation and occasionally land acquisitions. These loans are underwritten after evaluation of the borrower's financial strength, reputation, prior track record, and independent appraisals. The construction industry can be affected by significant events, including: the inherent volatility of real estate markets and vulnerability to delays due to weather, change orders, inability to obtain construction permits, labor or material shortages, and price changes. Estimates of construction costs and value associated with the completed project may be inaccurate. Repayment of construction loans is largely dependent on the ultimate success of the project.

Consumer loans primarily consist of home equity lines of credit, other residential (tenancy-in-common, or “TIC”) loans, and installment and other consumer loans. We originate consumer loans utilizing credit score information, debt-to-income ratio and loan-to-value ratio analysis. Diversification, coupled with relatively small loan amounts that are spread across many individual borrowers, mitigates risk. Additionally, trend reports are reviewed by Management on a regular basis. Our residential loan portfolio includes TIC units almost entirely in San Francisco. These loans tend to have more equity in their properties than conventional residential mortgages, which mitigates risk. Installment and other consumer loans include mostly loans for floating homes and mobile homes along with a small number of installment loans.

We use a risk rating system to evaluate asset quality, and to identify and monitor credit risk in individual loans, and ultimately in the portfolio. Definitions of loans that are risk graded “Special Mention” or worse are consistent with those used by the Federal Deposit Insurance Corporation ("FDIC"). Our internally assigned grades are as follows:

Pass: Loans to borrowers of acceptable or better credit quality. Borrowers in this category demonstrate fundamentally sound financial positions, repayment capacity, credit history and management expertise. Loans in this category must have an identifiable and stable source of repayment and meet the Bank’s policy regarding debt service coverage ratios. These borrowers are capable of sustaining normal economic, market or operational setbacks without significant financial consequences. Negative external industry factors are generally not present. The loan may be secured, unsecured or supported by non-real estate collateral for which the value is more difficult to determine and/or marketability is more uncertain. This category also includes “Watch” loans, where the primary source of repayment has been delayed. “Watch” is intended to be a transitional grade, with either an upgrade or downgrade within a reasonable period.

Special Mention: Potential weaknesses that deserve close attention. If left uncorrected, those potential weaknesses may result in deterioration of the payment prospects for the asset. Special Mention assets do not present sufficient risk to warrant adverse classification.

Substandard: Inadequately protected by either the current sound worth and paying capacity of the obligor or the collateral pledged, if any. A Substandard asset has a well-defined weakness or weaknesses that jeopardize(s) the liquidation of the debt. Substandard assets are characterized by the distinct possibility that we will sustain some loss if such weaknesses or deficiencies are not corrected. Well-defined weaknesses include adverse trends or developments of the borrower’s financial condition, managerial weaknesses and/or significant collateral deficiencies.

Doubtful: Critical weaknesses that make collection or liquidation in full improbable. There may be specific pending events that work to strengthen the asset; however, the amount or timing of the loss may not be determinable. Pending events generally occur within one year of the asset being classified as Doubtful. Examples include: merger, acquisition, or liquidation; capital injection; guarantee; perfecting liens on additional collateral; and refinancing. Such loans are placed on non-accrual status and usually are collateral-dependent.

We regularly review our credits for accuracy of risk grades whenever new information is received. Borrowers are required to submit financial information at regular intervals:


•	Generally, commercial borrowers with lines of credit are required to submit financial information with reporting intervals ranging from monthly to annually depending on credit size, risk and complexity.


•	Investor commercial real estate borrowers are generally required to submit rent rolls or property income statements at least annually.


•	Construction loans are monitored monthly, and reviewed on an ongoing basis.


•	Home equity and other consumer loans are reviewed based on delinquency.


•	Loans graded “Watch” or more severe, regardless of loan type, are reviewed no less than quarterly.

The following table represents an analysis of loans by internally assigned grades, including PCI loans, at December 31, 2015 and 2014:



(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential		Installment and other consumer		Purchased credit-impaired		Total
Credit Risk Profile by Internally Assigned Grade:
December 31, 2015
Pass	$	192,560	$	219,060	$	710,042	$	62,255	$	109,959	$	73,154	$	22,307	$	3,260	$	1,392,597
Special Mention	22,457		12,371		372		—		1,100		—		—		—		36,300
Substandard	4,260		9,167		3,739		3,239		1,173		—		332		421		22,331
Total loans	$	219,277	$	240,598	$	714,153	$	65,494	$	112,232	$	73,154	$	22,639	$	3,681	$	1,451,228

December 31, 2014
Pass	$	197,659	$	205,820	$	651,548	$	41,710	$	107,933	$	70,987	$	16,101	$	2,210	$	1,293,968
Special Mention	6,776		10,406		13,304		1,008		322		—		190		1,140		33,146
Substandard	5,464		11,763		6,473		5,684		2,466		2,048		497		1,842		36,237
Total loans	$	209,899	$	227,989	$	671,325	$	48,402	$	110,721	$	73,035	$	16,788	$	5,192	$	1,363,351

Troubled Debt Restructuring

Our loan portfolio includes certain loans that have been modified in a troubled debt restructuring (“TDR”), where economic concessions have been granted to borrowers experiencing financial difficulties. These concessions typically result from our loss mitigation activities and could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance or other actions. TDRs on non-accrual status at the time of restructure may be returned to accruing status after Management considers the borrower’s sustained repayment performance for a reasonable period, generally six months, and obtains reasonable assurance of repayment and performance.

A loan may no longer be reported as a TDR if all of the following conditions are met:


•	The loan is subsequently refinanced or restructured at current market interest rates and the new terms are consistent with the treatment of creditworthy borrowers under regular underwriting standards;


•	The borrower is no longer considered to be in financial difficulty;


•	Performance on the loan is reasonably assured; and;


•	Existing loan did not have any forgiveness of principal or interest.

The removal of TDR status must be approved by the same management level that approved the upgrading of the loan classification.

During 2015, five loans with a recorded investment totaling $1.6 million were removed from TDR designation. There were no loans removed from TDR designation during 2014.

The table below summarizes outstanding TDR loans by loan class as of December 31, 2015 and December 31, 2014. The summary includes both TDRs that are on non-accrual status and those that continue to accrue interest.



(in thousands)	As of
Recorded investment in Troubled Debt Restructurings ¹	December 31, 2015		December 31, 2014
Commercial and industrial	$	4,698	$	3,584
Commercial real estate, owner-occupied	6,993		8,459
Commercial real estate, investor	514		524
Construction²	3,238		5,684
Home equity	460		694
Other residential	2,010		2,045
Installment and other consumer	1,168		1,713
Total	$	19,081	$	22,703

¹Includes $19.0 million and $15.9 million of TDR loans that were accruing interest as of December 31, 2015 and December 31, 2014 respectively. Includes $137 thousand and $1.8 million of acquired loans at December 31, 2015 and December 31, 2014, respectively.

² In June 2015, one TDR loan was transferred to loans held-for-sale at fair value totaling $1.5 million, net of an $839 thousand charge-off to the allowance for loan losses. The loan was subsequently sold in June 2015 for no gain or loss.

The table below presents the following information for loans modified in a TDR during the presented periods, number of contracts modified, the recorded investment in the loans prior to modification, and the recorded investment in the loans after being restructured. The table below excludes fully charged-off TDR loans and loans modified in a TDR and subsequently paid-off during the years presented.



(dollars in thousands)	Number of Contracts Modified	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment at period end
Troubled Debt Restructurings during the year ended December 31, 2015:
Commercial and industrial	7	$	3,271	$	3,251	$	2,811
Total	7	$	3,271	$	3,251	$	2,811
Troubled Debt Restructurings during the year ended December 31, 2014:
Commercial and industrial	6	$	1,039	$	1,258	$	1,251
Commercial real estate, owner occupied	1	4,226		4,216		4,175
Commercial real estate, investor	2	224		224		220
Construction	2	964		1,312		1,309
Installment and other consumer	6	281		278		268
Total	17	$	6,734	$	7,288	$	7,223

Troubled Debt Restructurings during the year ended December 31, 2013:
Commercial and industrial	8	$	1,176	$	1,377	$	1,274
Construction	1	2,961		2,956		2,930
Home Equity	1	539		538		534
Other residential	3	7,135		7,156		5,368
Installment and other consumer	2	11		9		7
Total	15	$	11,822	$	12,036	$	10,113

Modifications during 2015, 2014 and 2013 primarily involved maturity or payment extensions and interest rate concessions or some combination thereof. During 2015, 2014 and 2013, there were no defaults on loans that had been modified in a TDR within the prior twelve-month period. We report defaulted TDRs based on a payment default definition of more than ninety days past due.

Impaired Loan Balances and Their Related Allowance by Major Classes of Loans

The table below summarizes information on impaired loans and their related allowances. Total impaired loans include non-accrual loans, accruing TDR loans and accreting PCI loans that have experienced post-acquisition declines in cash flows expected to be collected.



(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential		Installment and other consumer		Total
December 31, 2015
Recorded investment in impaired loans:
With no specific allowance recorded	$	2,198	$	4,111	$	2,416	$	2,687	$	171	$	1,214	$	131	$	12,928
With a specific allowance recorded	2,522		2,882		—		551		388		797		1,120		8,260
Total recorded investment in impaired loans	$	4,720	$	6,993	$	2,416	$	3,238	$	559	$	2,011	$	1,251	$	21,188
Unpaid principal balance of impaired loans:
With no specific allowance recorded	$	2,198	$	4,111	$	4,408	$	2,687	$	171	$	1,214	$	131	$	14,920
With a specific allowance recorded	2,565		2,882		—		737		388		797		1,120		8,489
Total unpaid principal balance of impaired loans	$	4,763	$	6,993	$	4,408	$	3,424	$	559	$	2,011	$	1,251	$	23,409
Specific allowance	$	912	$	70	$	—	$	1	$	3	$	67	$	116	$	1,169
Average recorded investment in impaired loans during 2015	$	4,237	$	7,886	$	2,833	$	4,164	$	602	$	2,028	$	1,523	$	23,273
Interest income recognized on impaired loans during 2015	$	238	$	295	$	33	$	86	$	18	$	92	$	64	$	826

December 31, 2014
Recorded investment in impaired loans:
With no specific allowance recorded	$	1,141	$	5,577	$	2,954	$	5,134	$	393	$	1,026	$	239	$	16,464
With a specific allowance recorded	2,443		2,882		—		561		300		1,019		1,554		8,759
Total recorded investment in impaired loans	$	3,584	$	8,459	$	2,954	$	5,695	$	693	$	2,045	$	1,793	$	25,223
Unpaid principal balance of impaired loans:
With no specific allowance recorded	$	1,186	$	6,577	$	4,945	$	7,824	$	880	$	1,026	$	239	$	22,677
With a specific allowance recorded	2,524		2,882		—		749		300		1,019		1,554		9,028
Total recorded investment in impaired loans	$	3,710	$	9,459	$	4,945	$	8,573	$	1,180	$	2,045	$	1,793	$	31,705
Specific allowance	$	694	$	65	$	—	$	3	$	—	$	92	$	284	$	1,138
Average recorded investment in impaired loans during 2014	$	5,354	$	6,604	$	3,138	$	6,471	$	741	$	1,744	$	1,857	$	25,909
Interest income recognized on impaired loans during 2014	$	378	$	288	$	28	$	85	$	19	$	74	$	76	$	948
Average recorded investment in impaired loans during 2013	$	7,168	$	3,519	$	5,847	$	7,200	$	909	$	2,632	$	1,872	$	29,147
Interest income recognized on impaired loans during 2013	$	476	$	253	$	14	$	249	$	29	$	89	$	71	$	1,181

Management monitors delinquent loans continuously and identifies problem loans, generally loans graded substandard or worse, to be evaluated individually for impairment testing. Generally, the recorded investment in impaired loans is net of any charge-offs from estimated losses related to specifically-identified impaired loans when they are deemed uncollectible. The charged-off portion of impaired loans outstanding at December 31, 2015 and 2014 totaled approximately $2.1 million and $5.5 million, respectively. In addition, the recorded investment in impaired loans is net of purchase discounts or premiums on acquired loans. At December 31, 2015 and 2014, outstanding commitments to extend credit on impaired loans, including performing loans to borrowers whose terms have been modified in TDRs, totaled $1.3 million and $1.4 million, respectively.

The following tables disclose loans by major portfolio category and activity in the ALLL, as well as the related ALLL disaggregated by impairment evaluation method:



Allowance for Loan Losses and Recorded Investment In Loans
(dollars in thousands)	Commercial and industrial			Commercial real estate, owner-occupied			Commercial real estate, investor			Construction			Home equity			Other residential			Installment and other consumer			Unallocated		Total
As of December 31, 2015:
Ending ALLL related to loans collectively evaluated for impairment	$	2,111		$	2,179		$	6,178		$	723		$	907		$	327		$	309		$	1,096	$	13,830
Ending ALLL related to loans individually evaluated for impairment	904			70			—			—			3			67			116			—		1,160
Ending ALLL related to purchased credit-impaired loans	8			—			—			1			—			—			—			—		9
Ending balance	$	3,023		$	2,249		$	6,178		$	724		$	910		$	394		$	425		$	1,096	$	14,999
Loans outstanding:
Collectively evaluated for impairment	$	214,695		$	233,605		$	711,737		$	62,256		$	111,673		$	71,143		$	21,388		$	—	$	1,426,497
Individually evaluated for impairment¹	4,582			6,993			2,416			3,238			559			2,011			1,251			—		21,050
Purchased credit-impaired	175			1,711			1,726			1			68			—			—			—		3,681
Total	$	219,452		$	242,309		$	715,879		$	65,495		$	112,300		$	73,154		$	22,639		$	—	$	1,451,228
Ratio of allowance for loan losses to total loans	1.38		%	0.93		%	0.86		%	1.11		%	0.81		%	0.54		%	1.88		%	NM		1.03		%
Allowance for loan losses to non-accrual loans	14,395		%	NM			325		%	72,400		%	532		%	NM			512		%	NM		688		%

¹ Total excludes $138 thousand of PCI loans that have experienced post-acquisition declines in cash flows expected to be collected. These loans are included in the "purchased credit-impaired" amount in the next line below.

NM - Not Meaningful



Allowance for Loan Losses and Recorded Investment In Loans
(dollars in thousands)	Commercial and industrial			Commercial real estate, owner-occupied			Commercial real estate, investor			Construction			Home equity			Other residential			Installment and other consumer			Unallocated		Total
As of December 31, 2014:
Ending ALLL related to loans collectively evaluated for impairment	$	2,143		$	1,859		$	6,672		$	836		$	859		$	341		$	282		$	969	$	13,961
Ending ALLL related to loans individually evaluated for impairment	690			65			—			—			—			92			284			—		1,131
Ending ALLL related to purchased credit-impaired loans	4			—			—			3			—			—			—			—		7
Ending balance	$	2,837		$	1,924		$	6,672		$	839		$	859		$	433		$	566		$	969	$	15,099
Loans outstanding:
Collectively evaluated for impairment	$	206,603		$	220,933		$	668,371		$	42,718		$	110,028		$	70,990		$	14,995		$	—	$	1,334,638
Individually evaluated for impairment¹	3,296			7,056			2,954			5,684			693			2,045			1,793			—		23,521
Purchased credit-impaired	324			2,616			2,174			11			67			—			—			—		5,192
Total	$	210,223		$	230,605		$	673,499		$	48,413		$	110,788		$	73,035		$	16,788		$	—	$	1,363,351
Ratio of allowance for loan losses to total loans	1.35		%	0.83		%	0.99		%	1.73		%	0.78		%	0.59		%	3.37		%	NM		1.11		%
Allowance for loan losses to non-accrual loans	NM			137		%	275		%	16		%	307		%	NM			544		%	NM		161		%

¹ Total excludes $1.7 million PCI loans that have experienced credit deterioration post-acquisition, which are included in the "purchased credit-impaired" amount in the next line below.

NM - Not Meaningful



Allowance for Loan Losses Rollforward for the Period
(in thousands)	Commercial and industrial			Commercial real estate, owner-occupied			Commercial real estate, investor			Construction			Home equity			Other residential			Installment and other consumer			Unallocated		Total
Year ended December 31, 2015:
Allowance for loan losses:
Beginning balance	2,837			1,924			6,672			839			859			433			566			969		15,099
Provision (reversal)	(45		)	325			(517		)	724			48			(39		)	(123		)	127		500
Charge-offs	(5		)	—			—			(839		)	—			—			(20		)	—		(864		)
Recoveries	$	236		$	—		$	23		$	—		$	3		$	—		$	2		$	—	$	264
Ending balance	$	3,023		$	2,249		$	6,178		$	724		$	910		$	394		$	425		$	1,096	$	14,999

Year ended December 31, 2014:
Allowance for loan losses:
Beginning balance	$	3,056		$	2,012		$	6,196		$	633		$	875		$	317		$	629		$	506	$	14,224
Provision (reversal)	(321		)	(93		)	431			314			(19		)	116			(141		)	463		750
Charge-offs	(66		)	—			—			(204		)	—			—			(7		)	—		(277		)
Recoveries	168			5			45			96			3			—			85			—		402
Ending balance	$	2,837		$	1,924		$	6,672		$	839		$	859		$	433		$	566		$	969	$	15,099

Year ended December 31, 2013:
Allowance for loan losses:
Beginning balance	$	4,100		$	1,313		$	4,372		$	611		$	1,264		$	551		$	1,231		$	219	$	13,661
Provision (reversal)	(1,393		)	615			1,940			83			(223		)	(234		)	(535		)	287		540
Charge-offs	(672		)	—			(156		)	(62		)	(176		)	—			(88		)	—		(1,154		)
Recoveries	1,021			84			40			1			10			—			21			—		1,177
Ending balance	$	3,056		$	2,012		$	6,196		$	633		$	875		$	317		$	629		$	506	$	14,224

Purchased Credit-Impaired Loans

We evaluated loans purchased in acquisitions in accordance with accounting guidance in ASC 310-30 related to loans acquired with deteriorated credit quality. Acquired loans are considered credit-impaired if there is evidence of significant deterioration of credit quality since origination and it is probable, at the acquisition date, that we will be unable to collect all contractually required payments receivable. Management has determined certain loans purchased in our two acquisitions to be PCI loans based on credit indicators such as nonaccrual status, past due status, loan risk grade, loan-to-value ratio, etc. Revolving credit agreements (e.g., home equity lines of credit and revolving commercial loans) are not considered PCI loans as cash flows cannot be reasonably estimated.

For acquired loans not considered credit-impaired, the difference between the contractual amounts due (principal amount) and the fair value is accounted for subsequently through accretion. We recognize discount accretion based on the acquired loan’s contractual cash flows using an effective interest rate method. The accretion is recognized through the net interest margin.

The following table presents the fair value of purchased credit-impaired and other loans acquired from Bank of Alameda as of the acquisition date:



	November 29, 2013
(in thousands)	Purchased credit-impaired loans			Other purchased loans			Total
Contractually required payments including interest	$	5,706		$	211,769		$	217,475
Less: nonaccretable difference	(1,183		)	—			(1,183		)
Cash flows expected to be collected (undiscounted)	4,523			211,769			216,292
Accretable yield	(707		)	(41,826		)	(42,533		)
Fair value of purchased loans	$	3,816		$	169,943		$	173,759

¹ $6.6 million of the $41.8 million represents the difference between the contractual principal amounts due and the fair value. This discount is to be accreted to interest income over the remaining lives of the loans. The remaining $35.2 million is the contractual interest to be earned over the life of the loans.

The following table reflects the outstanding balance and related carrying value of PCI loans as of the acquisition date:



	November 29, 2013
PCI Loans (in thousands)	Unpaid principal balance		Fair value
Commercial and industrial	$	847	$	369
Commercial real estate	3,757		3,362
Construction	150		16
Home equity	239		69
Total purchased credit-impaired loans	$	4,993	$	3,816

For the PCI loans, the accretable yield initially represents the excess of the cash flows expected to be collected at acquisition over the fair value of the loans at the acquisition date, and is accreted into interest income over the estimated remaining life of the purchased credit-impaired loans using the effective yield method, provided that the timing and amount of future cash flows is reasonably estimable. The accretable yield is affected by:


•	Changes in interest rate indices for variable rate loans – Expected future cash flows are based on the variable rates in effect at the time of the regular evaluations of cash flows expected to be collected;


•	Changes in prepayment assumptions – Prepayments affect the estimated life of the loans which may change the amount of interest income, and possibly principal, expected to be collected; and


•	Changes in the expected principal and interest payments over the estimated life – Updates to expected cash flows are driven by the credit outlook and actions taken with borrowers. Changes in expected future cash flows from loan modifications are included in the regular evaluations of cash flows expected to be collected.

The cash flows expected to be collected are updated each quarter based on current assumptions regarding default rates, loss severities, and other factors that are reflective of current market conditions. Probable decreases in expected cash flows after acquisition result in the recognition of impairment as a specific allowance for loan losses or a charge-off to the allowance. The increase of specific allowance for PCI loan losses amounted to $4 thousand, $3 thousand and $203 thousand during 2015, 2014 and 2013 respectively. Probable and significant increases in expected cash flows would first reverse any related allowance for loan losses and any remaining increases would be recognized prospectively as interest income over the estimated remaining lives of the loans. During 2015, 2014 and 2013, the amount of reduction in the allowance for loan losses established for PCI loans due to the increase in the present value of cash flows expected to be collected was $2 thousand, $238 thousand and $237 thousand, respectively.

The nonaccretable difference represents the difference between the undiscounted contractual cash flows and the undiscounted expected cash flows, and also reflects the estimated credit losses in the acquired loan portfolio at the acquisition date and can fluctuate due to changes in expected cash flows during the life of the PCI loans.

The following table reflects the outstanding balance and related carrying value of PCI loans related to the 2013 NorCal acquisition and the 2011 Charter Oak acquisition as of December 31, 2015 and 2014:



	December 31, 2015				December 31, 2014
PCI Loans (dollars in thousands)	Unpaid principal balance		Carrying value		Unpaid principal balance		Carrying value
Commercial and industrial	$	237	$	175	$	479	$	324
Commercial real estate	4,329		3,437		6,831		4,790
Construction	187		1		136		11
Home equity	224		68		232		67
Total purchased credit-impaired loans	$	4,977	$	3,681	$	7,678	$	5,192

The activities in the accretable yield, or income expected to be earned, for PCI loans were as follows:



Accretable Yield	Years ended
(dollars in thousands)	December 31, 2015			December 31, 2014			December 31, 2013
Balance at beginning of period	$	4,027		$	3,649		$	3,960
Additions	—			—			707
Removals ¹	(914		)	(273		)	(793		)
Accretion	(495		)	(613		)	(725		)
Reclassifications from nonaccretable difference ²	—			1,264			500
Balance at end of period	$	2,618		$	4,027		$	3,649

¹ Represents the accretable difference that is relieved when a loan exits the PCI population due to payoff, full charge-off, or transfer to repossessed assets, etc.

² Primarily relates to changes in expected credit performance and changes in expected timing of cash flows.

Pledged Loans

Our FHLB line of credit is secured under terms of a blanket collateral agreement by a pledge of certain qualifying loans with an unpaid principal balance of $833.8 million and $868.1 million at December 31, 2015 and 2014, respectively. In addition, we pledge a certain residential loan portfolio, which totaled $45.2 million and $27.7 million at December 31, 2015 and 2014, respectively, to secure our borrowing capacity with the Federal Reserve Bank (“FRB”). Also see Note 8 below.

Related Party Loans

The Bank has, and expects to have in the future, banking transactions in the ordinary course of its business with directors, officers, principal shareholders and their associates. These transactions, including loans, are granted on substantially the same terms, including interest rates and collateral on loans, as those prevailing at the same time for comparable transactions with persons not related to us. Likewise, these transactions do not involve more than the normal risk of collectability or present other unfavorable features.

An analysis of net loans to related parties for each of the three years ended December 31, 2015, 2014 and 2013 is as follows:



(in thousands)	2015			2014			2013
Balance at beginning of year	$	3,329		$	3,749		$	3,425
Additions	—			—			550
Advances	165			—			569
Repayments	(390		)	(420		)	—
Reclassified as unrelated-party loan due to a change in borrower status	(542		)	—			(795		)
Balance at end of year	$	2,562		$	3,329		$	3,749

Undisbursed commitments to related parties totaled $1.0 million as of December 31, 2015 and 2014.