NOTE 5. Allowance for Loan Losses

Changes in the allowance for loan losses for the nine months ended September 30, 2012 and 2011 and the year ended December 31, 2011 were as follows:


		Nine Months Ended			Year Ended			Nine Months Ended
		September 30, 2012			December 31, 2011			September 30, 2011
					(in thousands)

Balance, beginning	$	8,743		$	7,111		$	7,111
Provision charged to operating expense		1,650			3,750			2,850
Recoveries added to the allowance		215			848			568
Loan losses charged to the allowance		(2,647	)		(2,966	)		(2,638	)
Balance, ending	$	7,961		$	8,743		$	7,891

Nonaccrual and past due loans by class at September 30, 2012 and December 31, 2011 were as follows:


	As of September 30, 2012
								(in thousands)
		30 - 59		60 - 89		90 or More								90 or More
		Days		Days		Days		Total Past						Days Past Due		Nonaccrual
		Past Due		Past Due		Past Due		Due		Current		Total Loans		Still Accruing		Loans

Commercial - Non Real Estate:
Commercial & Industrial	$	53	$	122	$	-	$	175	$	20,111	$	20,286	$	-	$	10
Commercial Real Estate:
Owner occupied		1,145		-		592		1,737		88,974		90,711		-		733
Non-owner occupied		1,176		371		-		1,547		38,014		39,561		-		660
Construction and Farmland:
Residential		-		-		-		-		11,824		11,824		-		-
Commercial		27		-		638		665		28,681		29,346		-		776
Consumer:
Installment		150		31		10		191		13,157		13,348		10		-
Residential:
Equity lines		243		390		-		633		32,141		32,774		-		443
Single family		1,369		1,171		101		2,641		181,078		183,719		-		2,469
Multifamily		-		-		-		-		2,811		2,811		-		-
All Other Loans		50		-		-		50		3,069		3,119		-		-

Total	$	4,213	$	2,085	$	1,341	$	7,639	$	419,860	$	427,499	$	10	$	5,091


	As of December 31, 2011
								(in thousands)
		30 - 59		60 - 89		90 or More								90 or More
		Days		Days		Days		Total Past						Past Due		Nonaccrual
		Past Due		Past Due		Past Due		Due		Current		Total Loans		Still Accruing		Loans


Commercial - Non Real Estate:
Commercial & Industrial	$	114	$	421	$	-	$	535	$	22,331	$	22,866	$	-	$	-
Commercial Real Estate:
Owner occupied		174		9		447		630		82,476		83,106		-		600
Non-owner occupied		873		1,102		-		1,975		32,962		34,937		-		234
Construction and Farmland:
Residential		-		-		-		-		10,594		10,594		-		151
Commercial		-		-		-		-		24,375		24,375		-		-
Consumer:
Installment		114		13		5		132		13,053		13,185		5		-
Residential:
Equity Lines		217		30		-		247		33,182		33,429		-		177
Single family		2,187		194		717		3,098		176,111		179,209		89		1,287
Multifamily		-		-		-		-		4,517		4,517		-		-
All Other Loans		-		-		-		-		4,206		4,206		-		-

Total	$	3,679	$	1,769	$	1,169	$	6,617	$	403,807	$	410,424	$	94	$	2,449

Allowance for loan losses by segment at September 30, 2012 and December 31, 2011 were as follows:


		As of and for the Nine Months Ended September 30, 2012
		(in thousands )

		Co ns tructio n			Res idential			Co mmercial									All Other
		and Farmland			Real Es tate			Real Es tate			Co mmercial			Co ns umer			Lo ans			Unallo cated			To tal
A llo wa nc e fo r c re dit lo s s e s :

Beginning Balance	$	2,618		$	3,544		$	1,057		$	1,077		$	131		$	123		$	193		$	8,743
Charge-Offs		(1,303	)		(508	)		(660	)		(50	)		(103	)		(23	)		-			(2,647	)
Reco veries		3			60			58			30			57			7			-			215
P ro vis io n		212			361			1,681			(216	)		35			6			(429	)		1,650

Ending balance	$	1,530		$	3,457		$	2,136		$	841		$	120		$	113		$	(236	)	$	7,961

Ending balance: Individually
evaluated fo r impairment	$	141		$	2,005		$	740		$	475		$	-		$	-		$	-		$	3,361

Ending balance: co llectively
evaluated fo r impairment	$	1,389		$	1,452		$	1,396		$	366		$	120		$	113		$	(236	)	$	4,600


F ina nc ing re c e iv a ble s :

Ending balance	$	41,170		$	219,304		$	130,272		$	20,286		$	13,348		$	3,119		$	-		$	427,499

Ending balance individually
evaluated fo r impairment	$	1,982		$	8,823		$	6,220		$	713		$	-		$	-		$	-		$	17,738

Ending balance co llectively evaluated
fo r impairment	$	39,188		$	210,481		$	124,052		$	19,573		$	13,348		$	3,119		$	-		$	409,761


	A s o f a nd fo r the Twe lv e M o nths Ende d D e c e m be r 3 1, 2 0 11
											(in tho us a nds )
	Co ns tructio n				Res idential			Co mmercial									All Other
	and Farmland				Real Es tate			Real Es tate		Co mmercial			Co ns umer				Lo ans		Unallo cated			To tal
A llo wa nc e fo r c re dit lo s s e s :

Beginning Balance	$	1,386		$	3,457		$	1,231		$	819		$	182		$	36		$	-	$	7,111
Charge-Offs		(721	)		(1,203	)		(14	)		(572	)		(331	)		(125	)		-		(2,966	)
Reco veries		5			298			2			292			195			56			-		848
P ro vis io n		1,948			992			(162	)		538			85			156			193		3,750
Ending balance	$	2,618		$	3,544		$	1,057		$	1,077		$	131		$	123		$	193	$	8,743


Ending balance: Individually
evaluated fo r impairment	$	1,468		$	2,071		$	150		$	544		$	-		$	-		$	-	$	4,233

Ending balance: co llectively
evaluated fo r impairment	$	1,150		$	1,473		$	907		$	533		$	131		$	123		$	193	$	4,510


F ina nc ing re c e iv a ble s :

Ending balance	$	34,969		$	217,155		$	118,043		$	22,866		$	13,185		$	4,206		$	-	$	410,424

Ending balance individually
evaluated fo r impairment	$	3,357		$	9,748		$	6,186		$	599		$	-		$	-		$	-	$	19,890

Ending balance co llectively evaluated
fo r impairment	$	31,612		$	207,407		$	111,857		$	22,267		$	13,185		$	4,206		$	-	$	390,534

Impaired loans by class at September 30, 2012 and December 31, 2011 were as follows:


	As of September 30, 2012
	(in thousands)
		Unpaid						Average		Interest
		Principal		Recorded		Related		Recorded		Income
		Balance		Investment	Allowance			Investment		Recognized

With no related allowance:
Commercial - Non Real Estate:
Commercial & Industrial	$	-	$	-	$	-	$	-	$	-
Commercial Real Estate:
Owner occupied		2,129		2,134		-		3,224		110
Non-owner occupied		2,121		2,127		-		2,139		102
Construction and Farmland:
Residential		-		-		-		-		-
Commercial		1,757		1,759		-		2,423		38
Residential:
Equity lines		167		167		-		189		-
Single family		3,847		3,856		-		4,164		108
Multifamily		-		-		-		-		-
All Other Loans		-		-		-		-		-
	$	10,021	$	10,043	$	-	$	12,139	$	358

With an allowance recorded:
Commercial - Non Real Estate:
Commercial & Industrial	$	713	$	718	$	475	$	744	$	31
Commercial Real Estate:
Owner occupied		-		-		-		-		-
Non-owner occupied		1,970		1,973		740		1,980		37
Construction and Farmland:
Residential		-		-		-		-		-
Commercial		225		226		141		227		7
Residential:
Equity lines		615		617		344		621		8
Single family		4,194		4,202		1,661		4,354		164
Multifamily		-		-		-		-		-
All Other Loans		-		-		-		-		-

	$	7,717	$	7,736	$	3,361	$	7,926	$	247

Total:
Commercial	$	713	$	718	$	475	$	744	$	31
Commercial Real Estate		6,220		6,234		740		7,343		249
Construction and Farmland		1,982		1,985		141		2,650		45
Residential		8,823		8,842		2,005		9,328		280
Other		-		-		-		-		-
Total	$	17,738	$	17,779	$	3,361	$	20,065	$	605

The average recorded investment of impaired loans for the three month period ended September 30, 2012 was $19.7 million. The interest income recognized on impaired loans for the three months ended September 30, 2012 was $210 thousand.


	As of December 31, 2011
	(in thousands)
		Unpaid						Average		Interest
		Principal		Recorded		Related		Recorded		Income
		Balance		Investment	Allowance			Investment		Recognized

With no related allowance:
Commercial - Non Real Estate:
Commercial & Industrial	$	5	$	5	$	-	$	2	$	-
Commercial Real Estate:
Owner occupied		2,521		2,529		-		2,575		132
Non-owner occupied		2,552		2,567		-		2,623		110
Construction and Farmland:
Residential		-		-		-		-		-
Commercial		361		361		-		466		21
Residential:
Equity lines		177		177		-		190		-
Single family		3,237		3,242		-		3,840		97
Multifamily		-		-		-		-		-
All Other Loans		-		-		-		-		-
	$	8,853	$	8,881	$	-	$	9,696	$	360

With an allowance recorded:
Commercial - Non Real Estate:
Commercial & Industrial	$	594	$	600	$	544	$	602	$	26
Commercial Real Estate:
Owner occupied		-		-		-		-		-
Non-owner occupied		1,112		1,124		150		1,128		64
Construction and Farmland:
Residential		-		-		-		-		-
Commercial		2,997		3,006		1,468		3,012		147
Residential:
Equity lines		402		404		325		404		13
Single family		5,932		5,940		1,746		6,029		236
Multifamily		-		-		-		-		-
All Other Loans		-		-		-		-		-
	$	11,037	$	11,074	$	4,233	$	11,175	$	486

Total:
Commercial	$	599	$	605	$	544	$	604	$	26
Commercial Real Estate		6,185		6,220		150		6,326		306
Construction and Farmland		3,358		3,367		1,468		3,478		168
Residential		9,748		9,763		2,071		10,463		346
Other		-		-		-		-		-
Total	$	19,890	$	19,955	$	4,233	$	20,871	$	846

When the ultimate collectability of the total principal of an impaired loan is in doubt and the loan is in nonaccrual status, all payments are applied to principal under the cost-recovery method. For financial statement purposes, the recorded investment in nonaccrual loans is the actual principal balance reduced by payments that would otherwise have been applied to interest. When reporting information on these loans to the applicable customers, the unpaid principal balance is reported as if payments were applied to principal and interest under the original terms of the loan agreements. Therefore, the unpaid principal balance reported to the customer would be higher than the recorded investment in the loan for financial statement purposes. When the ultimate collectability of the total principal of the impaired loan is not in doubt and the loan is in nonaccrual status, contractual interest is credited to interest income when received under the cash-basis method.

The Company uses a rating system for evaluating the risks associated with non-consumer loans. Consumer loans are not evaluated for risk unless the characteristics of the loan fall within classified categories. Descriptions of these ratings are as follows:


Pass	Pass loans exhibit acceptable operating trends, balance sheet trends, and liquidity. Sufficient cash flow exists to service the loan. All obligations have been paid by the borrower in an as agreed manner.

Watch	Watch loans exhibit income volatility, negative operating trends, and a highly leveraged balance sheet. A higher level of supervision is required for these loans as the potential for a negative event could impact the borrower's ability to repay the loan.
Special mention	Special mention loans exhibit a potential weakness, if left uncorrected, may negatively affect the borrower's ability to repay its debt obligation. The risk of default is not imminent and the borrower still demonstrates sufficient cash flow to support the loan.

Substandard	Substandard loans exhibit well defined weaknesses and have a potential of default. The borrowers exhibit adverse financial trends but still have the ability to service debt obligations.

Doubtful	Doubtful loans exhibit all of the characteristics inherent in substandard loans but the weaknesses make collection or full liquidation highly questionable.

Loss	Loss loans are considered uncollectible and of such little value that its continuance as a bankable asset is not warranted.

Credit quality information by class at September 30, 2012 and December 31, 2011 was as follows:


	A s o f S e pte m be r 3 0 , 2 0 12
	(in tho us a nds )
						Special
INTERNAL RISK RATING GRADES		P as s		Watch		Mentio n	Subs tandard			Do ubtful	Lo s s			To tal

Co mmercial - No n Real Es tate:
Co mmercial &Indus trial	$	15,197	$	2,435	$	599	$	2,055	$	-	$	-	$	20,286
Co mmercial Real Es tate:
Owner Occupied		73,826		6,592		5,776		3,784		733		-		90,711
No n-o wner o ccupied		23,927		5,335		2,085		7,843		371		-		39,561
Co ns tructio n and Farmland:
Res idential		11,416		408		-		-		-		-		11,824
Co mmercial		21,458		2,042		797		4,410		639		-		29,346
Res idential:
Equity Lines		31,150		251		194		931		248		-		32,774
Single family		150,445		9,674		11,496		11,582		522		-		183,719
Multifamily		1,904		907		-		-		-		-		2,811
All o ther lo ans		3,119		-		-		-		-		-		3,119
To tal	$	332,442	$	27,644	$	20,947	$	30,605	$	2,513	$	-	$	414,151


		P erfo rming		No nperfo rming
Co ns umer Credit Expo s ure by
P ayment Activity	$	13,157	$	191


						A s o f D e c e m be r 3 1, 2 0 11
							(in tho us a nds )
						Special
INTERNAL RISK RATING GRADES		P as s		Watch		Mentio n	Subs tandard			Do ubtful	Lo s s			To tal

Co mmercial - No n Real Es tate:
Co mmercial &Indus trial	$	16,960	$	2,668	$	991	$	2,215	$	32	$	-	$	22,866
Co mmercial Real Es tate:
Owner Occupied		65,651		6,613		5,759		4,641		442		-		83,106
No n-o wner o ccupied		21,573		6,688		1,330		5,113		233		-		34,937
Co ns tructio n and Farmland:
Res idential		9,839		-		755		-		-		-		10,594
Co mmercial		15,990		1,657		2,595		4,029		104		-		24,375
Res idential:
Equity Lines		31,862		227		355		985		-		-		33,429
Single family		150,520		5,939		10,249		11,134		1,367		-		179,209
Multifamily		2,320		1,230		967		-		-		-		4,517
All o ther lo ans		3,485		-		721		-		-		-		4,206
To tal	$	318,200	$	25,022	$	23,722	$	28,117	$	2,178	$	- $	$	397,239


		P erfo rming		No nperfo rming
Co ns umer Credit Expo s ure by
P ayment Activity	$	13,053	$	132