Loan and Lease Financings

Total loans and leases outstanding were recorded net of unearned income and deferred loan fees and costs at December 31, 2015 and 2014, and totaled $3.99 billion and $3.69 billion, respectively. At December 31, 2015 and 2014, net deferred loan and lease costs were $3.96 million and $4.00 million, respectively.

The loan and lease portfolio includes direct financing leases, which are included in auto and light truck, medium and heavy duty truck, aircraft financing, and construction equipment financing on the Statements of Financial Condition.

The following table shows the summary of the gross investment in lease financing and the components of the investment in lease financing at December 31, 2015 and 2014.



(Dollars in thousands)	2015			2014
Direct finance leases:
Rentals receivable	$	206,426		$	234,772
Estimated residual value of leased assets	15,756			13,458
Gross investment in lease financing	222,182			248,230
Unearned income	(32,499		)	(37,356		)
Net investment in lease financing	$	189,683		$	210,874

At December 31, 2015, the direct financing minimum future lease payments receivable for each of the years 2016 through 2020 were $44.53 million, $41.61 million, $36.23 million, $29.36 million, and $25.19 million, respectively.

In the ordinary course of business, the Company has extended loans to certain directors, executive officers, and principal shareholders of equity securities of 1st Source and to their affiliates. In the opinion of management, these loans are made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with persons not related to the Company and did not involve more than the normal risk of collectability, or present other unfavorable features. The loans are consistent with sound banking practices and within applicable regulatory and lending limitations. The aggregate dollar amounts of these loans were $33.36 million and $27.93 million at December 31, 2015 and 2014, respectively. During 2015, $14.34 million of new loans and other additions were made and repayments and other reductions totaled $8.91 million.

The Company evaluates loans and leases for credit quality at least annually but more frequently if certain circumstances occur (such as material new information which becomes available and indicates a potential change in credit risk). The Company uses two methods to assess credit risk: loan or lease credit quality grades and credit risk classifications. The purpose of the loan or lease credit quality grade is to document the degree of risk associated with individual credits as well as inform management of the degree of risk in the portfolio taken as a whole. Credit risk classifications are used to categorize loans by degree of risk and to designate individual or committee approval authorities for higher risk credits at the time of origination. Credit risk classifications include categories for: Acceptable, Marginal, Special Attention, Special Risk, Restricted by Policy, Regulated and Prohibited by Law.

All loans and leases, except residential real estate loans and consumer loans, are assigned credit quality grades on a scale from 1 to 12 with grade 1 representing superior credit quality. The criteria used to assign grades to extensions of credit that exhibit potential problems or well-defined weaknesses are primarily based upon the degree of risk and the likelihood of orderly repayment, and their effect on our safety and soundness. Loans or leases graded 7 or weaker are considered “special attention” credits and, as such, relationships in excess of $100,000 are reviewed quarterly as part of management’s evaluation of the appropriateness of the reserve for loan and lease losses. Grade 7 credits are defined as “watch” and contain greater than average credit risk and are monitored to limit our exposure to increased risk; grade 8 credits are “special mention” and, following regulatory guidelines, are defined as having potential weaknesses that deserve management’s close attention. Credits that exhibit well-defined weaknesses and a distinct possibility of loss are considered ‘‘classified’’ and are graded 9 through 12 corresponding to the regulatory definitions of “substandard” (grades 9 and 10) and the more severe ‘‘doubtful’’ (grade 11) and ‘‘loss’’ (grade 12).

The following table shows the credit quality grades of the recorded investment in loans and leases, segregated by class.



	Credit Quality Grades
(Dollars in thousands)	1-6		7-12		Total
December 31, 2015
Commercial and agricultural	$	710,030	$	34,719	$	744,749
Auto and light truck	413,836		11,400		425,236
Medium and heavy duty truck	275,367		2,887		278,254
Aircraft financing	750,264		27,748		778,012
Construction equipment financing	448,683		6,882		455,565
Commercial real estate	680,304		19,964		700,268
Total	$	3,278,484	$	103,600	$	3,382,084
December 31, 2014
Commercial and agricultural	$	683,169	$	27,589	$	710,758
Auto and light truck	380,425		17,477		397,902
Medium and heavy duty truck	243,798		3,355		247,153
Aircraft financing	691,018		36,647		727,665
Construction equipment financing	393,965		5,975		399,940
Commercial real estate	592,787		23,800		616,587
Total	$	2,985,162	$	114,843	$	3,100,005

For residential real estate and consumer loans, credit quality is based on the aging status of the loan and by payment activity. The following table shows the recorded investment in residential real estate and consumer loans by performing or nonperforming status. Nonperforming loans are those loans which are on nonaccrual status or are 90 days or more past due.



(Dollars in thousands)	Performing		Nonperforming		Total
December 31, 2015
Residential real estate	$	462,236	$	1,893	$	464,129
Consumer	148,180		299		148,479
Total	$	610,416	$	2,192	$	612,608
December 31, 2014
Residential real estate	$	442,918	$	2,841	$	445,759
Consumer	142,476		334		142,810
Total	$	585,394	$	3,175	$	588,569

The following table shows the recorded investment of loans and leases, segregated by class, with delinquency aging and nonaccrual status.



(Dollars in thousands)	Current		30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due and Accruing		Total Accruing Loans		Nonaccrual		Total Financing Receivables
December 31, 2015
Commercial and agricultural	$	740,335	$	52	$	79	$	—	$	740,466	$	4,283	$	744,749
Auto and light truck	424,997		170		23		—		425,190		46		425,236
Medium and heavy duty truck	278,254		—		—		—		278,254		—		278,254
Aircraft financing	764,074		9,442		108		—		773,624		4,388		778,012
Construction equipment financing	454,993		33		—		—		455,026		539		455,565
Commercial real estate	698,514		362		—		—		698,876		1,392		700,268
Residential real estate	460,771		1,038		427		71		462,307		1,822		464,129
Consumer	147,419		552		209		51		148,231		248		148,479
Total	$	3,969,357	$	11,649	$	846	$	122	$	3,981,974	$	12,718	$	3,994,692
December 31, 2014
Commercial and agricultural	$	696,351	$	—	$	123	$	—	$	696,474	$	14,284	$	710,758
Auto and light truck	397,815		48		1		—		397,864		38		397,902
Medium and heavy duty truck	247,097		—		—		—		247,097		56		247,153
Aircraft financing	699,054		541		15,597		—		715,192		12,473		727,665
Construction equipment financing	396,821		999		1,369		—		399,189		751		399,940
Commercial real estate	611,780		—		—		—		611,780		4,807		616,587
Residential real estate	441,508		1,099		311		873		443,791		1,968		445,759
Consumer	141,577		676		223		109		142,585		225		142,810
Total	$	3,632,003	$	3,363	$	17,624	$	982	$	3,653,972	$	34,602	$	3,688,574

Interest income for the years ended December 31, 2015, 2014, and 2013, would have increased by approximately $1.03 million, $3.03 million, and $2.93 million, respectively, if the nonaccrual loans and leases had earned interest at their full contract rate.

The following table shows impaired loans and leases, segregated by class, and the corresponding reserve for impaired loan and lease losses.



(Dollars in thousands)	Recorded Investment		Unpaid Principal Balance		Related Reserve
December 31, 2015
With no related reserve recorded:
Commercial and agricultural	$	1,016	$	1,016	$	—
Auto and light truck	—		—		—
Medium and heavy duty truck	—		—		—
Aircraft financing	4,384		4,384		—
Construction equipment financing	539		539		—
Commercial real estate	8,494		8,494		—
Residential real estate	—		—		—
Consumer	—		—		—
Total with no related reserve recorded	14,433		14,433		—
With a reserve recorded:
Commercial and agricultural	2,884		2,884		649
Auto and light truck	—		—		—
Medium and heavy duty truck	—		—		—
Aircraft financing	—		—		—
Construction equipment financing	—		—		—
Commercial real estate	—		—		—
Residential real estate	366		368		148
Consumer	—		—		—
Total with a reserve recorded	3,250		3,252		797
Total impaired loans	$	17,683	$	17,685	$	797
December 31, 2014
With no related reserve recorded:
Commercial and agricultural	$	14,468	$	14,467	$	—
Auto and light truck	—		—		—
Medium and heavy duty truck	—		—		—
Aircraft financing	12,740		12,741		—
Construction equipment financing	746		746		—
Commercial real estate	11,707		11,707		—
Residential real estate	—		—		—
Consumer	—		—		—
Total with no related reserve recorded	39,661		39,661		—
With a reserve recorded:
Commercial and agricultural	74		74		5
Auto and light truck	—		—		—
Medium and heavy duty truck	—		—		—
Aircraft financing	—		—		—
Construction equipment financing	—		—		—
Commercial real estate	798		798		80
Residential real estate	373		376		156
Consumer	—		—		—
Total with a reserve recorded	1,245		1,248		241
Total impaired loans	$	40,906	$	40,909	$	241

The following table shows average recorded investment and interest income recognized on impaired loans and leases, segregated by class, for years ending December 31, 2015, 2014 and 2013.



	2015				2014				2013
(Dollars in thousands)	Average Recorded Investment		Interest Income		Average Recorded Investment		Interest Income		Average Recorded Investment		Interest Income
Commercial and agricultural	$	5,362	$	32	$	16,325	$	48	$	10,077	$	143
Auto and light truck	—		—		407		—		488		—
Medium and heavy duty truck	—		—		—		—		431		—
Aircraft financing	7,285		6		4,088		28		9,254		79
Construction equipment financing	695		—		938		—		2,799		5
Commercial real estate	10,126		518		13,162		588		17,655		610
Residential real estate	370		16		376		16		32		—
Consumer loans	—		—		—		—		—		—
Total	$	23,838	$	572	$	35,296	$	680	$	40,736	$	837

The following table shows the number of loans and leases classified as troubled debt restructuring (TDR) during 2015, 2014 and 2013, segregated by class, as well as the recorded investment as of December 31. The classification between nonperforming and performing is shown at the time of modification. Modification programs focused on extending maturity dates or modifying payment patterns with most TDRs experiencing a combination of concessions. The modifications did not result in the contractual forgiveness of principal or interest. There were no modifications during 2015, three modifications during 2014, and two modifications during 2013 that resulted in an interest rate reduction below market rate. Consequently, the financial impact of the modifications was immaterial.



	2015			2014			2013
(Dollars in thousands)	Number of Modifications	Recorded Investment		Number of Modifications	Recorded Investment		Number of Modifications	Recorded Investment
Performing TDRs:
Commercial and agricultural	2	$	218	2	$	273	1	$	750
Auto and light truck	—	—		—	—		—	—
Medium and heavy duty truck	—	—		—	—		—	—
Aircraft financing	—	—		2	337		—	—
Construction equipment financing	—	—		—	—		—	—
Commercial real estate	—	—		—	—		—	—
Residential real estate	—	—		—	—		1	381
Consumer	—	—		—	—		—	—
Total performing TDR modifications	2	218		4	610		2	1,131
Nonperforming TDRs:
Commercial and agricultural	—	—		4	7,315		1	158
Auto and light truck	—	—		—	—		—	—
Medium and heavy duty truck	—	—		—	—		—	—
Aircraft financing	—	—		—	—		1	4,157
Construction equipment financing	—	—		—	—		—	—
Commercial real estate	—	—		1	798		—	—
Residential real estate	—	—		—	—		—	—
Consumer	—	—		—	—		—	—
Total nonperforming TDR modifications	—	—		5	8,113		2	4,315
Total TDR modifications	2	$	218	9	$	8,723	4	$	5,446

There were no performing TDRs which had payment defaults within the twelve months following modification during the years ended December 31, 2015 and 2014 and one commercial and agricultural loan during 2013 with a recorded investment of $0.75 million at December 31, 2013.

There were no nonperforming TDRs which had payment defaults within the twelve months following modification during the year ended December 31, 2015, one commercial and agricultural loan during 2014 with a recorded investment of $0.26 million at December 31, 2014 and one commercial real estate loan during 2013 with a recorded investment of zero at December 31, 2013.

The classification between nonperforming and performing is shown at the time of modification. Default occurs when a loan or lease is 90 days or more past due under the modified terms or transferred to nonaccrual.

The following table shows the recorded investment of loans and leases classified as troubled debt restructurings as of December 31.



Year Ended December 31 (Dollars in thousands)	2015		2014
Performing TDRs	$	7,437	$	9,118
Nonperforming TDRs	1,926		14,507
Total TDRs	$	9,363	$	23,625