8. 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 (dollars in thousands):






	September 30, 2019				December 31, 2018
Real Estate Loans:
Residential	$	230,624	25.5	%	$	235,523	27.7	%
Commercial		384,376	42.4			374,790	44.1
Construction		18,267	2.0			17,445	2.0
Commercial, financial and agricultural		126,835	14.0			110,542	13.0
Consumer loans to individuals		145,547	16.1			112,002	13.2
Total loans		905,649	100.0	%		850,302	100.0	%
Deferred fees, net		(67)				(120)
Total loans receivable		905,582				850,182
Allowance for loan losses		(8,405)				(8,452)
Net loans receivable	$	897,177			$	841,730

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



	September 30, 2019		December 31, 2018

Outstanding Balance	$	946	$	1,055
Carrying Amount	$	807	$	886

As a result of the acquisition of Delaware Bancshares, Inc. (“Delaware”), the Company added $1,397,000 of loans that were accounted for in accordance with ASC 310-30. Based on a review of the loans acquired by senior lending management, which included an analysis of credit deterioration of the loans since origination, the Company recorded a specific credit fair value adjustment of $499,000. For loans that were acquired with specific evidence of deterioration in credit quality, loan losses will be accounted for through a reduction of the specific reserve and will not impact the allowance for loan losses until actual losses exceed the allotted reserves. For loans acquired without a deterioration of credit quality, losses incurred will result in adjustments to the allowance for loan losses through the allowance for loan loss adequacy calculation.

The Company maintains a loan review system, which allows 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.

Foreclosed assets acquired in settlement of loans are carried at fair value less estimated costs to sell and are included in foreclosed real estate owned on the Consolidated Balance Sheets. As of September 30, 2019 and December 31, 2018, foreclosed real estate owned totaled $1,572,000 and $1,115,000, respectively. During the nine months ended September 30, 2019, the Company acquired three properties via deed-in-lieu transactions which have subsequently been sold, and foreclosed on one commercial property with a carrying value of $608,000. The Company also disposed of three properties that were previously transferred to foreclosed real estate owned with a carrying value of $151,000 through the sale of the properties. As of September 30, 2019, the Company has initiated formal foreclosure proceedings on three properties classified as consumer residential mortgages with an aggregate carrying value of $300,000.

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
							Commercial		Consumer
	Residential		Commercial		Construction		Loans		Loans		Total
September 30, 2019	(In thousands)

Individually evaluated for impairment	$	-	$	514	$	-	$	-	$	-	$	514
Loans acquired with deteriorated credit quality		577		230		-		-		-		807
Collectively evaluated for impairment		230,047		383,632		18,267		126,835		145,547		904,328
Total Loans	$	230,624	$	384,376	$	18,267	$	126,835	$	145,547	$	905,649



	Real Estate Loans
							Commercial		Consumer
	Residential		Commercial		Construction		Loans		Loans		Total
	(In thousands)
December 31, 2018

Individually evaluated for impairment	$	-	$	1,319	$	-	$	-	$	-	$	1,319
Loans acquired with deteriorated credit quality		630		256		-		-		-		886
Collectively evaluated for impairment		234,893		373,215		17,445		110,542		112,002		848,097
Total Loans	$	235,523	$	374,790	$	17,445	$	110,542	$	112,002	$	850,302

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



			Unpaid
	Recorded		Principal		Associated
	Investment		Balance		Allowance
September 30, 2019				(in thousands)
With no related allowance recorded:
Real Estate Loans:
Commercial	$	514	$	1,101	$	-
Subtotal		514		1,101		-
Total:
Real Estate Loans:
Commercial		514		1,101		-
Total Impaired Loans	$	514	$	1,101	$	-



			Unpaid
	Recorded		Principal		Associated
	Investment		Balance		Allowance
December 31, 2018				(in thousands)
With no related allowance recorded:
Real Estate Loans:
Commercial	$	1,319	$	1,747	$	-
Subtotal		1,319		1,747		-
Total:
Real Estate Loans:
Commercial		1,319		1,747		-
Total Impaired Loans	$	1,319	$	1,747	$	-

The following table presents the average recorded investment in impaired loans and the related amount of interest income recognized during the three-month periods ended September 30, 2019 and 2018, respectively (in thousands):



	Average Recorded				Interest Income
	Investment				Recognized
	2019		2018		2019		2018

Real Estate Loans:
Residential	$	-	$	23	$	-	$	-
Commercial		633		1,217		-		15
Total	$	633	$	1,240	$	-	$	15

The following table presents the average recorded investment in impaired loans and the related amount of interest income recognized during the nine-month periods ended September 30, 2019 and 2018, respectively (in thousands):



	Average Recorded				Interest Income
	Investment				Recognized
	2019		2018		2019		2018

Real Estate Loans:
Residential	$	-	$	23	$	-	$	-
Commercial		759		1,195		24		45
Total	$	759	$	1,218	$	24	$	45

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, 2019 and December 31, 2018, troubled debt restructured loans totaled $102,000 and $1.1 million, respectively, with no specific reserve. For the nine-month period ended September 30, 2019, there were no new loans identified as troubled debt restructurings. During 2019, the Company recognized a charge-off of $451,000 on a loan that was previously identified as a troubled debt restructuring. The loan was transferred to foreclosed real estate during the first quarter of 2019 with a carrying value of $608,000.

For the nine-month period ended September 30, 2018, there were no new loans identified as troubled debt restructurings nor did the Company recognize any write-down on loans that were previously identified as a troubled debt restructuring.

Management uses an eight point internal risk rating system to monitor the credit quality of the overall loan portfolio. The first four 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 nonperformance, repossession, or death occurs to raise awareness of a possible credit event. The Company’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 $1,500,000 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, 2019 and December 31, 2018 (in thousands):



			Special					Doubtful
	Pass		Mention		Substandard		or Loss		Total
September 30, 2019
Commercial real estate loans	$	368,796	$	12,301	$	3,279	$	-	$	384,376
Commercial loans		126,371		252		212		-		126,835
Total	$	495,167	$	12,553	$	3,491	$	-	$	511,211



			Special					Doubtful
	Pass		Mention		Substandard		or Loss		Total
December 31, 2018
Commercial real estate loans	$	360,838	$	7,918	$	6,034	$	-	$	374,790
Commercial loans		109,966		82		494		-		110,542
Total	$	470,804	$	8,000	$	6,528	$	-	$	485,332

For residential real estate loans, construction loans and consumer loans, the Company evaluates credit quality based on the performance of the individual credits. The following table presents the recorded investment in the loan classes based on payment activity as of September 30, 2019 and December 31, 2018 (in thousands):



	Performing		Nonperforming		Total
September 30, 2019
Residential real estate loans	$	229,857	$	767	$	230,624
Construction		18,267		-		18,267
Consumer loans		145,490		57		145,547
Total	$	393,614	$	824	$	394,438



	Performing		Nonperforming		Total
December 31, 2018
Residential real estate loans	$	234,725	$	798	$	235,523
Construction		17,445		-		17,445
Consumer loans		112,002		-		112,002
Total	$	364,172	$	798	$	364,970

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, 2019 and December 31, 2018 (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, 2019
Real Estate loans
Residential	$	228,976	$	692	$	189	$	-	$	767	$	1,648	$	230,624
Commercial		383,667		114		54		-		541		709		384,376
Construction		18,267		-		-		-		-		-		18,267
Commercial loans		126,795		14		-		-		26		40		126,835
Consumer loans		145,161		183		146		-		57		386		145,547
Total	$	902,866	$	1,003	$	389	$	-	$	1,391	$	2,783	$	905,649



	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, 2018
Real Estate loans
Residential	$	234,201	$	373	$	151	$	-	$	798	$	1,322	$	235,523
Commercial		372,617		1,043		788		-		342		2,173		374,790
Construction		17,445		-		-		-		-		-		17,445
Commercial loans		110,191		320		31		-		-		351		110,542
Consumer loans		111,796		171		35		-		-		206		112,002
Total	$	846,250	$	1,907	$	1,005	$	-	$	1,140	$	4,052	$	850,302

Management reviews the loan portfolio on a quarterly basis using a defined, consistently applied process in order to make appropriate and timely adjustments to the allowance for loan losses. When information confirms all or part of specific loans to be uncollectible, these amounts are promptly charged off against the allowance.

As of September 30, 2019, the allocation of the allowance pertaining to commercial real estate loans is $889,000 lower than the allocation as of December 31, 2018. This decrease is due primarily to a reduction in the historical factor which decreased from 0.42% as of December 31, 2018 to 0.21% at September 30, 2019. Also contributing to the reduced reserve balance is a decrease in the qualitative factor related to the annualized growth rate and large balance loans, which was partially offset by an increase due to a declining economy. Increases in other loan categories reflect loan growth and replenishment of the allowance due to charge offs.

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, 2018	$	1,328	$	5,455	$	93	$	712	$	864	$	8,452
Charge Offs		(90)		(615)		-		(254)		(246)		(1,205)
Recoveries		20		18		-		31		39		108
Provision for loan losses		310		(292)		14		454		564		1,050
Ending balance, September 30, 2019	$	1,568	$	4,566	$	107	$	943	$	1,221	$	8,405
Ending balance individually evaluated for impairment	$	-	$	-	$	-	$	-	$	-	$	-
Ending balance collectively evaluated for impairment	$	1,568	$	4,566	$	107	$	943	$	1,221	$	8,405


(In thousands)	Residential Real Estate		Commercial Real Estate		Construction		Commercial		Consumer		Total
Beginning balance, June 30, 2019	$	1,447	$	4,694	$	112	$	896	$	1,079	$	8,228
Charge Offs		(15)		-		-		(20)		(111)		(146)
Recoveries		5		4		-		10		4		23
Provision for loan losses		131		(132)		(5)		57		249		300
Ending balance, September 30, 2019	$	1,568	$	4,566	$	107	$	943	$	1,221	$	8,405



(In thousands)	Residential Real Estate		Commercial Real Estate		Construction		Commercial		Consumer		Total
Beginning balance, December 31, 2017	$	1,272	$	5,265	$	90	$	463	$	544	$	7,634
Charge Offs		(85)		(244)		-		(246)		(189)		(764)
Recoveries		2		33		-		-		25		60
Provision for loan losses		185		205		4		497		459		1,350
Ending balance, September 30, 2018	$	1,374	$	5,259	$	94	$	714	$	839	$	8,280
Ending balance individually evaluated for impairment	$	-	$	-	$	-	$	-	$	-	$	-
Ending balance collectively evaluated for impairment	$	1,374	$	5,259	$	94	$	714	$	839	$	8,280


(In thousands)	Residential Real Estate		Commercial Real Estate		Construction		Commercial		Consumer		Total
Beginning balance, June 30, 2018	$	1,455	$	5,247	$	128	$	690	$	806	$	8,326
Charge Offs		(10)		(110)		-		(241)		(72)		(433)
Recoveries		-		2		-		-		10		12
Provision for loan losses		(71)		120		(34)		265		95		375
Ending balance, September 30, 2018	$	1,374	$	5,259	$	94	$	714	$	839	$	8,280

The Company’s primary business activity as of September 30, 2019 was with customers located in northeastern Pennsylvania and the New York counties of Delaware and Sullivan. 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, 2019, the Company considered its concentration of credit risk to be acceptable. The highest concentrations are in commercial rentals with $80.7 million of loans outstanding, or 8.9% of total loans outstanding, and the hospitality/lodging industry with loans outstanding of $65.0 million, or 7.2% of loans outstanding. During 2019, the Company did not recognize any charge offs in the named concentrations.