(6)	FAIR VALUE OF ASSETS AND LIABILITIES

Accounting Standards Codification Topic (ASC) 820, Fair Value Measurements, defines fair value, establishes a framework for measuring fair value and expands disclosure about fair value. The statement establishes a fair value hierarchy which requires an entity to maximize the use of observable input and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value.

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Level 1 is for assets and liabilities that management has obtained quoted prices (unadjusted for transaction cost) or identical assets or liabilities in active markets that the Company has the ability to access as of the measurement date.

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Level 2 is for assets and liabilities in which significant unobservable inputs other than Level 1 prices such as quoted prices for similar assets and liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

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Level 3 is for assets and liabilities in which significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

The following are the significant methods and assumptions used by the Company in estimating its fair value disclosures for financial instruments:

Cash and due from banks

The carrying amounts reported in the consolidated balance sheets for cash and cash equivalents approximate those assets’ fair values, because they mature within 90 days or less and do not present credit risk concerns.

Interest-bearing deposits in banks

The carrying amounts reported in the consolidated balance sheets for interest earning deposits approximate those assets’ fair values, because they are considered overnight deposits and may be withdrawn at any time without penalty and do not present credit risk concerns.

Available-for-sale securities

Fair values for investment securities available-for-sale are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments provided by a third-party pricing service. The Company reviews all securities in which the book value is greater than the market value for impairment that is other than temporary. For securities deemed to be other than temporarily impaired, the Company reduces the book value of the security to its market value by recognizing an impairment charge on its income statement.

FHLB stock

The fair value of FHLB stock is recognized at cost.

Loans held for sale

Mortgage loans originated and intended to be sold are carried at the lower of cost or estimated fair value as determined on a loan by loan basis. Gains or losses are recognized at the time of ownership transfer. Net unrealized losses, if any, are recognized through a valuation allowance and charged to income.

Loans receivable

The fair values of fixed-rate loans and variable rate loans that re-price on an infrequent basis is estimated using discounted cash flow analysis which considers future re-pricing dates and estimated repayment dates, and further using interest rates currently being offered for loans of similar type, terms to borrowers of similar credit quality. Loan fair value estimates include judgments regarding future expected loss experience and risk characteristics. The estimated fair value of variable-rate loans that re-price frequently and have no significant change in credit risk is approximately the carrying value of the loan.

Accrued interest receivable

Fair value is estimated to approximate the carrying amount because such amounts are expected to be received within 90 days or less and any credit concerns have been previously considered in the carrying value.

Deposits

The fair values disclosed for deposits with no stated maturity such as demand deposits, interest-bearing checking accounts and savings accounts are, by definition, equal to the amount payable on demand at the reporting date (that is, their carrying amounts). The fair values for certificates of deposit and other fixed maturity time deposits are estimated using a discounted cash flow calculation that applies interest rates currently being offered on such type accounts or similar accounts to a schedule of aggregated contractual maturities or similar maturities on such time deposits.

Advances from borrowers for taxes and insurance

The carrying amount of advances from borrowers for taxes and insurance approximates its fair value.

Advances from the Federal Home Loan Bank (FHLB)

The fair value of these advances is estimated by discounting the future cash flows of these advances using the current rates at which similar advances or similar financial instruments could be obtained.

Repurchase agreements

Overnight repurchase agreements have a fair value at book, given that they mature overnight. The fair values of longer date repurchase agreements is estimated using discounted cash flow analysis which considers the current market pricing for repurchase agreements of similar final maturities and collateral requirements.

Subordinated debentures

The book value of subordinated debentures is cost. The subordinated debentures re-price quarterly at a rate equal to three month libor plus 3.10%.

Fair Value Measurements on a Recurring Basis

Where quoted prices are available for identical securities in an active market, securities available for sale are classified within Level 1 of the valuation hierarchy. Level 1 securities include highly liquid government securities and certain other financial products. If quoted market prices are not available, then fair values are estimated by using pricing models that use observable inputs or quoted prices of securities with similar characteristics and are classified within Level 2 of the valuation hierarchy. In certain cases where there is limited activity or less transparency around inputs to the valuation and more complex pricing models or discounted cash flows are used, securities are classified within Level 3 of the valuation hierarchy.

Assets and Liabilities Measured on a Recurring Basis

The assets and liabilities measured at fair value on a recurring basis at September 30, 2017 are summarized below:


Description	Total carrying value in the consolidated balance sheet at 9/30/2017		Quoted Prices In Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
	(Dollars in Thousands)
Assets
Securities available for sale
U.S. Agency securities	$	89,829		—		89,829		—
Taxable municipals		1,285		—		1,285		—
Tax-free municipals		28,231		—		28,231		—
Trust preferred securities		1,717		—		—		1,717
Mortgage backed securities		71,225		—		71,225		—

Total	$	192,287		—		190,570		1,717

The assets and liabilities measured at fair value on a recurring basis at December 31, 2016 are summarized below:


	Total carrying value in the consolidated balance sheet at		Quoted Prices In Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
Description	12/31/2016		(Level 1)		(Level 2)		(Level 3)
	(Dollars in Thousands)
Assets
Securities available for sale
U.S. Treasury securities	$	2,001		2,001		—		—
U.S. Agency securities		84,012		—		84,012		—
Taxable municipals		2,727		—		2,727		—
Tax-free municipals		33,911		—		33,911		—
Trust preferred securities		1,817		—		—		1,817
Mortgage backed securities		85,012		—		85,012		—

Total	$	209,480		2,001		205,662		1,817

The assets and liabilities measured at fair value on a non-recurring basis are summarized below for September 30, 2017:


	Total carrying value in the consolidated balance sheet at		Quoted Prices In Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
Description	September 30, 2017		(Level 1)		(Level 2)		(Level 3)
	(Dollars in Thousands)
Assets
Foreclosed assets	$	4,975		—		—	$	4,975
Impaired loans, net of allowance	$	666		—		—	$	666

The assets and liabilities measured at fair value on a non-recurring basis are summarized below for December 31, 2016:


	Total carrying value in the consolidated balance sheet at		Quoted Prices In Active Markets for Identical Assets		Significant Other Observable Inputs		Significant Unobservable Inputs
Description	December 31, 2016		(Level 1)		(Level 2)		(Level 3)
	(Dollars in Thousands)
Assets
Foreclosed assets	$	2,397		—		—	$	2,397
Impaired loans, net of allowance	$	6,123		—		—	$	6,123

The following table presents quantitative information about level 3 fair value measurements for assets measured at fair value on a recurring and non-recurring basis at September 30, 2017 and December 31, 2016:

Level 3 Significant Unobservable Input
Assumptions

Fair
Value

Valuation
Technique

Unobservable
Input

Quantitative Range
of Unobservable
Inputs

(Dollars in Thousand)

September 30, 2017

Assets measured on a non-recurring basis

Foreclosed assets

4,975

Discount to appraised value
of collateral. Auction results

Appraisal comparability
adjustments

5% to 10%

Impaired loans

666

Discount to appraised

value of collateral

Appraisal comparability
adjustments

10% to 25%

Asset measured on a recurring basis

Trust preferred securities

1,717

Discounted cash flow
Spread to Libor swap curve

Compare to quotes for
sale when available

One month
libor 5% to 8%

December 31, 2016

Assets measured on a non-recurring basis

Foreclosed assets

2,397

Discount to appraised

value of collateral

Appraisal comparability
adjustments

30% to 55%

Impaired loans

6,123

Discount to appraised

value of collateral

Appraisal comparability
adjustments

10% to 15%

Asset measured on a recurring basis

Trust preferred securities

1,817

Discounted cash flow
Spread to Libor swap curve

Compare to quotes for
sale when available

One month libor
4% to 6%

Foreclosed assets and impaired loans are valued at fair value, less cost to sell. Fair value of a foreclosed asset is determined by an appraised value of the underlying collateral to which a discount is applied. Management establishes the discount or adjustments based on recent sales and any unique features the collateral may possess. Management also considers the anticipated selling cost associated with the collateral when establishing the discounted percentage. Management may adjust the discounts based on the most recent sales of comparable collateral.

The Company bases the value of its trust preferred security on a quarterly review of SEC filings by the issuer to ascertain overall financial strength. Based on the analysis, the Company then reviews the Libor swap curve to analyze the overall yield of our investment compared to long-term swap rates. On rare occasions, the Company may receive an offer from a broker to purchase similar type instruments and the Company will analyze these offerings compared to our investment.

The table below includes a roll-forward of the consolidated condensed statement of financial condition items for the nine month periods ended September 30, 2017 and September 30, 2016, (including the change in fair value) for assets and liabilities classified by HopFed Bancorp, Inc. within level 3 of the valuation hierarchy for assets and liabilities measured at fair value on a recurring basis. When a determination is made to classify an asset or liability within level 3 of the valuation hierarchy, the determination is based upon the significance of the unobservable factors to the overall fair value measurement. However, since level 3 assets and liabilities typically include, in addition to the unobservable or level 3 components, observable components (that is components that are actively quoted and can be validated to external sources), the gains and losses in the table below include changes in fair value due in part to observable factors that are part of the valuation methodology.


	2017			2016
Nine month period ended September 30,	Other Assets			Other Assets
	(Dollars in Thousands)
Fair value, January 1	$	1,817			1,865
Change in unrealized gain included in other comprehensive income for assets and liabilities still held at September 30,		(113	)		105
Accretion of previously discounted amounts		13			13

Fair value, September 30	$	1,717			1,983

The estimated fair values of financial instruments were as follows at September 30, 2017:


	Carrying Amount		Estimated Fair Value		Quoted Prices In Active Markets for Identical Assets Level 1		Using Significant Other Observable Inputs Level 2		Significant Unobservable Inputs Level 3
	(Dollars in Thousands)
Financial Assets:
Cash and due from banks	$	23,469		23,469		23,469		—		—
Interest-bearing deposits		9,842		9,842		9,842		—		—
Securities available for sale		192,287		192,287		—		190,570		1,717
Federal Home Loan Bank stock		4,428		4,428		—		—		4,428
Loans held for sale		1,749		1,749		—		1,749		—
Loans receivable		625,403		608,134		—		—		608,134
Accrued interest receivable		3,414		3,414		—		—		3,414
Financial liabilities:
Deposits		731,229		731,960		—		731,960		—
Advances from borrowers for taxes and insurance		1,188		1,188		—		1,188		—
Advances from Federal Home Loan Bank		31,000		31,069		—		31,069		—
Repurchase agreements		37,829		37,829		—		37,829		—
Subordinated debentures		10,310		10,099		—		—		10,099

The estimated fair values of financial instruments were as follows at December 31, 2016:


	Carrying Amount		Estimated Fair Value		Quoted Prices In Active Markets for Identical Assets Level 1		Using Significant Other Observable Inputs Level 2		Significant Unobservable Inputs Level 3
	(Dollars in Thousands)
Financial Assets:
Cash and due from banks	$	21,779		21,779		21,779		—		—
Interest-bearing deposits		3,970		3,970		3,970		—		—
Securities available for sale		209,480		209,480		2,001		205,662		1,817
Federal Home Loan Bank stock		4,428		4,428		—		—		4,428
Loans held for sale		1,094		1,094		—		1,094		—
Loans receivable		604,286		593,257		—		—		593,257
Accrued interest receivable		3,799		3,799		—		—		3,799
Financial liabilities:
Deposits		732,882		732,942		—		732,942		—
Advances from borrowers for taxes and insurance		766		766		—		766		—
Advances from Federal Home Loan Bank		11,000		10,979		—		10,979		—
Repurchase agreements		47,655		47,655		—		47,655		—
Subordinated debentures		10,310		10,099		—		—		10,099