6. Loans Receivable and Allowance for Loan Losses

Set forth below is selected data relating to the composition of the loan portfolio at the dates indicated:


	Types of loans
	(dollars in thousands) September 30, 2012 December 31, 2011
Real Estate-Residential	$148,056	30.9%	$148,148	32.3%
Commercial	274,081	57.1	262,476	57.3
Construction	14,819	3.1	11,087	2.4
Commercial, financial and agricultural	28,528	5.9	22,684	5.0
Consumer loans to individuals	14,515	3.0	13,934	3.0
Total loans	479,999	100.0%	458,329	100.0%

Deferred fees (net)	(498)		(422)

Allowance for loan losses	(5,341)		(5,458)
Net loans receivable	$474,160		$452,449

Changes in the accretable yield for purchased credit-impaired loans were as follows for the nine months ended September 30, 2012 (in thousands):

Balance at beginning of period																		$171
Accretion																		(71)
Reclassification and other																		-
Balance at end of period																		$100

The following table presents additional information regarding loans acquired and accounted for in accordance with ASC 310-30 (in thousands):

	September 30, 2012	December 31, 2011
	Acquired Loans with Specific Evidence of Deterioration in Credit Quality	Acquired Loans with Specific Evidence of Deterioration in Credit Quality
Outstanding Balance	$ 1,328	$ 1,412
Carrying Amount	1,228	1,246

There were no material increases or decreases in the expected cash flows of these loans between May 31, 2011 (the "acquisition date") and September 30, 2012.

The Company maintains a loan review system, which provides for a periodic review of our loan portfolio and the early identification of potential impaired loans. Such system takes into consideration, among other things, delinquency status, size of loans, type and market value of collateral and financial condition of the borrowers. Specific loan loss allowances are established for identified losses based on a review of such information. A loan evaluated for impairment is considered to be impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement. All loans identified as impaired are evaluated independently. We do not aggregate such loans for evaluation purposes. Impairment is measured on a loan-by-loan basis for commercial and construction loans by the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's obtainable market price, 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.

The following table shows the amount of loans in each category that were individually and collectively evaluated for impairment at the dates indicated:


		Real Estate Loans
		Residential			Commercial			Construction		Commercial Loans			Consumer Loans		Total
September 30, 2012								(In thousands)

Individually evaluated for impairment	$	-		$	11,157		$	-	$	237	$		-	$	11,394
Loans acquired with deteriorated credit quality		271			957			-		-			-		1,228
Collectively evaluated for impairment		147,785			261,967			14,819		28,291			14,515		467,377
Total Loans	$	148,056	$			274,081	$	14,819	$	28,528	$	14,515		$	479,999









					Real Estate
		Residential			Commercial			Construction		Commercial Loans			Consumer Loans		Total
December 31, 2011								(In thousands)

Individually evaluated for impairment	$	-		$	11,786		$	-	$	598	$		-	$	12,384
Loans acquired with deteriorated credit quality		343			903			-		-			-		1,246
Collectively evaluated for impairment		147,805			249,787			11,087		22,086			13,934		444,699
Total Loans	$	148,148		$	262,476		$	11,087	$	22,684	$		13,934	$	458,329

The following table includes the recorded investment and unpaid principal balances for impaired loans with the associated allowance amount, if applicable.

		Recorded Investment		Unpaid Principal Balance		Associated Allowance
September 30, 2012 With no related allowance recorded:					(In thousands)
Real Estate Loans
Residential	$	271	$	291	$	-
Commercial		5,585		5,665		-
Commercial Loans		237		237		-
Total		6,093		6,193		-
With an allowance recorded:
Real Estate Loans
Commercial		6,529		6,529		89
Total		6,529		6,529		89
Total:
Real Estate loans
Residential		271		291		-
Commercial		12,114		12,194		89
Commercial Loans		237		237		-
Total Impaired Loans	$	12,622	$	12,722	$	89

		Recorded Investment		Unpaid Principal Balance		Associated Allowance
December 31, 2011 With no related allowance recorded:				(In thousands)
Real Estate Loans
Residential	$	343	$	385	$	-
Commercial		5,866		5,995		-
Commercial Loans		598		598		-
Total		6,807		6,978		-
With an allowance recorded:
Real Estate Loans
Commercial		6,823		6,823		1,231
Total		6,823		6,823		1,231
Total:
Real Estate loans
Residential		343		385		-
Commercial		12,689		12,818		1,231
Commercial Loans		598		598		-
Total Impaired Loans	$	13,630	$	13,801	$	1,231

The following information for impaired loans is presented for the nine months ended September 30, 2012 and 2011:


		Average Recorded Investment					Interest Income Recognized
		2012		2011			2012		2011
					(In thousands)
Total:
Real Estate loans
Residential	$	284	$	-		$	4	$	-
Commercial		12,937		15,454			206		320
Commercial Loans		401		395			-		60
Total Loans	$	13,622	$	15,849		$	210	$	380

The following information for impaired loans is presented for the three months ended September 30, 2012 and 2011:


		Average Recorded Investment					Interest Income Recognized
		2012		2011			2012		2011
					(In thousands)
Total:
Real Estate loans
Residential	$	272	$	-		$	2	$	-
Commercial		12,783		15,426			60		145
Commercial Loans		311		392			-		10
Total Loans	$	13,366	$	15,818		$	62	$	155

Troubled debt restructured loans are those loans whose terms have been renegotiated to provide a reduction or deferral of principal or interest as a result of financial difficulties experienced by the borrower, who could not obtain comparable terms from alternate financing sources. As of September 30, 2012, troubled debt restructured loans totaled $6.1 million and resulted in specific reserves of $78,000. During the quarter ending September 30, 2012, one loan with a balance of $6.5 million was written down by $1.0 million to $5.5 million as a result of the borrower's inability to make the modified payments. The write-down was based on the estimated realizable value of the real estate collateral. During 2012 and 2011, there were no new loans identified as troubled debt restructurings. As of December 31, 2011, troubled debt restructured loans totaled $7.2 million and resulted in specific reserves of $1.2 million.

Management uses a seven point internal risk rating system to monitor the credit quality of the overall loan portfolio. The first three categories are considered not criticized, and are aggregated as "Pass" rated. The criticized rating categories utilized by management generally follow bank regulatory definitions. The Special Mention category includes assets that are currently protected but are potentially weak, resulting in an undue and unwarranted credit risk, but not to the point of justifying a Substandard classification. Loans in the Substandard category have well-defined weaknesses that jeopardize the liquidation of the debt, and have a distinct possibility that some loss will be sustained if the weaknesses are not corrected. All loans greater than 90 days past due are considered Substandard. Any portion of a loan that has been charged off is placed in the Loss category.

To help ensure that risk ratings are accurate and reflect the present and future capacity of borrowers to repay a loan as agreed, the Bank has a structured loan rating process with several layers of internal and external oversight. Generally, consumer and residential mortgage loans are included in the Pass categories unless a specific action, such as non performance, repossession, or death occurs to raise awareness of a possible credit event. The Bank's Loan Review Department is responsible for the timely and accurate risk rating of the loans on an ongoing basis. Every credit which must be approved by Loan Committee or the Board of Directors is assigned a risk rating at time of consideration. Loan Review also annually reviews relationships of $500,000 and over to assign or re-affirm risk ratings. Loans in the Substandard categories that are collectively evaluated for impairment are given separate consideration in the determination of the allowance.

The following table presents the classes of the loan portfolio summarized by the aggregate Pass and the criticized categories of Special Mention, Substandard, Doubtful and Loss within the internal risk rating system as of September 30, 2012 and December 31, 2011 (in thousands):

		Pass		Special Mention		Substandard		Doubtful		Total
September 30, 2012
Commercial real estate loans	$	247,475	$	13,376	$	13,230	$	-	$	274,081
Commercial loans		27,930		320		278		-		28,528
Total	$	275,405	$	13,696	$	13,508	$		$	302,609

		Pass		Special Mention		Substandard		Doubtful		Total
December 31, 2011
Commercial real estate loans	$	237,407	$	11,009	$	14,060	$	-	$	262,476
Commercial loans		21,598		427		659		-		22,684
Total	$	259,005	$	11,436	$	14,719	$	-	$	285,160

For residential real estate loans, construction loans and consumer loans, the Company evaluates credit quality based on the performance of the individual credits. Nonperforming loans include loans on nonaccrual status and accruing loans which are past due over ninety days. The following table presents the recorded investment in the loan classes based on payment activity as of September 30, 2012 and December 31, 2011 (in thousands):

September 30, 2012		Performing		Nonperforming		Total
Residential real estate loans	$	145,683	$	2,373	$	148,056
Construction		14,819		-		14,819
Consumer loans		14,515		-		14,515
Total	$	175,017	$	2,373	$	177,390

December 31, 2011		Performing		Nonperforming		Total
Residential real estate loans	$	145,061	$	3,087	$	148,148
Construction		11,087		-		11,087
Consumer loans		13,934		-		13,934
Total	$	170,082	$	3,087	$	173,169

Management further monitors the performance and credit quality of the loan portfolio by analyzing the age of the portfolio as determined by the length of time a recorded payment is past due. The following table presents the classes of the loan portfolio summarized by the aging categories of performing loans and nonaccrual loans as of September 30, 2012 and December 31, 2011 (in thousands):

		Current		31-60 Days Past Due		61-90 Days Past Due		Greater than 90 Days Past Due and still accruing		Non-Accrual		Total Past Due and Non-Accrual		Total Loans
September 30, 2012
Real Estate loans
Residential	$	144,724	$	831	$	128	$	-	$	2,373	$	3,332	$	148,056
Commercial		260,555		1,364		991		67		11,104		13,526		274,081
Construction		14,799		20		-		-		-		20		14,819
Commercial loans		28,278		13		-		-		237		250		28,528
Consumer loans		14,457		53		5		-		-		58		14,515
Total	$	462,813	$	2,281	$	1,124	$	67	$	13,714	$	17,186	$	479,999

		Current		31-60 Days Past Due		61-90 Days Past Due		Greater than 90 Days Past Due and still accruing		Non-Accrual		Total Past Due and Non-Accrual		Total Loans
December 31, 2011
Real Estate loans
Residential	$	143,550	$	160	$	1,351	$	-	$	3,087	$	4,598	$	148,148
Commercial		255,613		1,015		1,524		-		4,324		6,863		262,476
Construction		10,532		-		555		-		-		555		11,087
Commercial loans		22,086		194		-		-		404		598		22,684
Consumer loans		13,835		89		10		-		-		99		13,934
Total	$	445,616	$	1,458	$	3,440	$	-	$	7,815	$	12,713	$	458,329

The following table presents the allowance for loan losses by the classes of the loan portfolio:

(In thousands)		Residential Real Estate		Commercial Real Estate		Construction		Commercial		Consumer		Total
Beginning balance, December 31, 2011	$	1,257	$	3,838	$	72	$	147	$	144	$	5,458
Charge Offs		(402)		(1,316)		(7)		(23)		(46)		(1,794)	)
Recoveries		6		1		-		-		20		27
Provision Expense		836				10		158		52		1,650
Ending balance, September 30, 2012	$	1,697	$	3,117	$	75	$	282	$	170	$	5,341
Ending balance individually evaluated for impairment	$	-	$	89		-		-		-	$	89
Ending balance collectively evaluated for impairment	$	1,697	$	3,028	$	75	$	282	$	170	$	5,252

(In thousands)		Residential Real Estate		Commercial Real Estate		Construction		Commercial		Consumer		Total
Beginning balance, June 30, 2012	$	1,559	$	3,691	$	87	$	263	$	175	$	5,775
Charge Offs		(94)		(1,220)		-		(23)		(13)		(1,350)	)
Recoveries		5		1		-		-		10		16
Provision Expense		227		645		(12)		42		(2)		900
Ending balance, September 30, 2012	$	1,697	$	3,117	$	75	$	282	$	170	$	5,341

(In thousands)		Residential Real Estate		Commercial Real Estate		Construction		Commercial		Consumer		Total
Beginning balance, December 31, 2010	$	1,167	$	3,976	$	110	$	171	$	192	$	5,616
Charge Offs		(372)		(963)		-		(2)		(80)		(1,417)
Recoveries		25		-		-		5		41		71
Provision Expense		333		782		(29)		(20)		9		1,075
Ending balance, September 30, 2011	$	1,153	$	3,795	$	81	$	154	$	162	$	5,345
Ending balance individually evaluated for impairment	$	-	$	1,322		-		-		-	$	1,322
Ending balance collectively evaluated for impairment	$	1,153	$	2,473	$	81	$	154	$	162	$	4,023

(In thousands)		Residential Real Estate		Commercial Real Estate		Construction		Commercial		Consumer		Total
Beginning balance, June 30, 2011	$	1,096	$	3,675	$	91	$	258	$	147	$	5,267
Charge Offs		(146)		(199)		-		-		(39)		(384)	)
Recoveries		18		-		-		-		19		37
Provision Expense		185		319		(10)		(104)		35		425
Ending balance, September 30, 2011	$	1,153	$	3,795	$	81	$	154	$	162	$	5,345

The Company's primary business activity is with customers located in northeastern Pennsylvania. Accordingly, the Company has extended credit primarily to commercial entities and individuals in this area whose ability to honor their contracts is influenced by the region's economy.

As of September 30, 2012, the Company considered its concentration of credit risk to be acceptable. The highest concentrations are in the hospitality lodging industry and property owners associations with loans outstanding of $46.4 million, or 51.6% of capital, to the hospitality lodging industry and $10.3 million, or 15.6% of capital, to property owners associations. There were no losses recognized on loans to the hospitality industry or to property owners associations during the current period.

Gross realized gains and gross realized losses on sales of residential mortgage loans were $163,000 and $0 respectively, in the first nine months of 2012 compared to $240,000 and $21,000, respectively, in the same period in 2011. The proceeds from the sales of residential mortgage loans totaled $4.5 million and $9.0 million for the nine months ended September 30, 2012 and 2011, respectively. During the three months ended September 30, 2012, gross realized gains and gross realized losses on sales of residential mortgage loans were $88,000 and $0 respectively, compared to $81,000 and $21,000, respectively in the same three month period of 2011. The proceeds from the sales of residential mortgage loans totaled $2.2 million and $2.2 million, respectively for the three months ended September 30, 2012 and 2011.