18.	FAIR VALUE

Fair value is the exchange price that would be received for an asset if paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. There are three levels of inputs that may be used to measure fair value:

Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2: Significant other observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

Level 3: Significant unobservable inputs that reflect a reporting entity’s own beliefs about the assumptions that market participants would use in pricing an asset or liability.

United Community uses the following methods and significant assumptions to estimate the fair value of each type of financial instrument:

Available for sale securities: The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges (Level 1 inputs). For securities where quoted prices are not available, fair values are calculated based on market prices of similar securities (Level 2), using matrix pricing. Matrix pricing is a mathematical technique commonly used to price debt securities that are not actively traded, values debt securities without relying on the securities’ relationship to other benchmark quoted securities (Level 2 inputs).

Impaired loans: At the time a loan is considered impaired, it is valued at the lower of cost or fair value. Impaired loans carried at fair value generally receive specific allocations of the allowance for loan losses. For collateral dependent loans, fair value is commonly based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. Non-real estate collateral may be valued using an appraisal, net book value per the borrower’s financial statements, or aging reports, adjusted or discounted based on management’s historical knowledge, changes in market conditions from the time of the valuation, and management’s expertise and knowledge of the client and client’s business, resulting in a Level 3 fair value classification. Impaired loans are evaluated on a quarterly basis for additional impairment and adjusted accordingly.

Other real estate owned: Assets acquired through or instead of loan foreclosure are initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. These assets are subsequently accounted for at lower of cost or fair value less estimated costs to sell. Fair value is commonly based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. Real estate owned properties are individually evaluated at least annually for additional impairment and adjusted accordingly.

Appraisals for both collateral-dependent impaired loans and other real estate owned are performed by certified general appraisers (for commercial properties) or certified residential appraisers (for residential properties) whose qualifications and licenses have been reviewed and verified by Home Savings. Once received, a member of the Special Assets Department reviews the assumptions and approaches utilized in the appraisal as well as the overall resulting fair value in comparison with the independent data sources such as recent market data or industry-wide statistics. On an annual basis, Home Savings compares the actual selling price of collateral that has been sold to the most recent appraised value to determine what additional adjustment should be made to the appraisal value to arrive at fair value. At the time a property is acquired and classified as real estate owned, the fair value is determined utilizing the most appropriate method. A fair value in excess of $250,000 will be supported by an appraisal. After determination of fair value, each property will be recorded at the lower of cost (i.e., recorded investment in the loan) or the estimated net realizable value on the date of transfer to real estate owned. In determining net realizable value, reductions to fair market value may be taken for estimated costs of sale, conditions that must be remedied immediately upon acquisition, and other factors that negatively impact the marketability and prompt sale of the property.

Mortgage servicing rights: On a quarterly basis, loan servicing rights are evaluated for impairment based upon the fair value of the rights as compared to carrying amount. If the carrying amount of an individual tranche exceeds fair value, impairment is recorded on that tranche so that the servicing asset is carried at fair value. Fair value is determined at a tranche level, based on market prices for comparable mortgage servicing contracts (Level 2), when available, or alternatively based on a valuation model that calculates the present value of estimated future net servicing income. The valuation model utilizes assumptions that market participants would use in estimating future net servicing income and that can be validated against available market data (Level 2).

Loans held for sale: Loans held for sale for which the fair value option has not been elected are carried at the lower of cost or fair value, which is evaluated on a pool-level basis. The fair value of loans held for sale is determined using quoted prices for similar assets, adjusted for specific attributes of that loan or other observable market data, such as outstanding commitments from third party investors (Level 2).

Loans held for sale, at fair value: The Company elected the fair value option for all conventional residential one-to four-family loans held for sale originated after January 1, 2016 and all permanent construction loans held for sale originated after January 1, 2015. The fair value of conventional loans held for sale is determined using the current 15 day forward contract price for either 15 or 30 year conventional mortgages and the 60 day forward contract price for either 15 or 30 year Federal Housing Authority mortgages (Level 2).

The fair value of permanent construction loans held for sale is determined using the current 60 day forward contract price for 30 year conventional mortgages which is then adjusted by extrapolating this rate to the estimated time period remaining until construction is complete. The fair value is also adjusted for unobservable market data such as estimated fall out rates and the estimated time from origination to completion of construction (Level 3).

Interest rate caps: Home Savings interest rate caps matured in the fourth quarter of 2016. Home Savings used an independent third party that performs a market valuation analysis for interest rate caps. The methodology used consisted of a discounted cash flow model, all future floating cash flows were projected and both floating and fixed cash flows were discounted to the valuation date. The yield curve utilized for discounting and projecting was built by obtaining publicly available third party market quotes from Reuters, which handle up to 30-year swap maturities (Level 3) Assumptions used in the valuation of interest rate caps were back-tested for reasonableness on a quarterly basis using an independent source along with a third party service.

Purchased and written certificate of deposit option: Home Savings periodically enters into written and purchased option derivative instruments to facilitate the Power CD. The written and purchased options are mirror derivative instruments which are carried at fair value on the consolidated balance sheets. Home Savings uses an independent third party that performs a market valuation analysis for purchased and written certificate of deposit options. (Level 2)

Assets and Liabilities Measured on a Recurring Basis: Assets and liabilities measured at fair value on a recurring basis are summarized below:

			Fair Value Measurements at December 31, 2017 Using:
			Quoted				Significant
			Prices in				Unobservable
			Active		Significant		Inputs
			Markets for		Other		Significant
			Identical		Observable		Unobservable
	December 31,		Assets		Inputs		Inputs
	2017		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Available for sale securities
US Treasury and government sponsored entities’ securities	$	123,817	$	—	$	123,817	$	—
States of the U.S. and political subdivisions		59,623		—		59,623		—
Mortgage-backed GSE securities: residential		87,121		—		87,121		—
Loans held for sale, at fair value		83,541		—		18,525		65,016
Purchased certificate of deposit option		809		—		809		—
Liabilities
Written certificate of deposit option		809		—		809		—

			Fair Value Measurements at December 31, 2016 Using:
			Quoted				Significant
			Prices in				Unobservable
			Active		Significant		Inputs
			Markets for		Other		Significant
			Identical		Observable		Unobservable
	December 31,		Assets		Inputs		Inputs
	2016		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Available for sale securities
US Treasury and government sponsored entities’ securities	$	186,033	$	—	$	186,033	$	—
States of the U.S. and political subdivisions		57,757		—		57,757		—
Mortgage-backed GSE securities: residential		99,494		—		99,494		—
Loans held for sale, at fair value		62,593		—		8,832		53,761
Purchased certificate of deposit option		882		—		882		—
Liabilities
Written certificate of deposit option		882		—		882		—

There were no transfers between Level 1 and Level 2 during 2017 and 2016.

The table below presents a reconciliation of all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the years ended December 31, 2017 and 2016, in thousands:

	Construction loans held for sale
	Twelve months ended			Twelve months ended
	December 31, 2017			December 31, 2016
	(Dollars in thousands)
Balance of recurring Level 3 assets at beginning of period	$	53,761		$	26,716
Total gains (losses) for the period
Included in change in fair value of loans held for sale		3,893			(1,769	)
Originations		108,617			82,878
Sales		(101,255	)		(54,064	)
Balance of recurring Level 3 assets at end of period	$	65,016		$	53,761

	Interest Rate Caps
	Twelve months ended
	December 31, 2016
	(Dollars in thousands)
Balance of recurring Level 3 assets at beginning of period	$	3
Total gains (losses) for the period
Included in other income		385
Included in other comprehensive income		—
Purchases		—
Amortization		(388	)
Sales		—
Balance of recurring Level 3 assets at end of period	$	—

There were no interest rate caps as of December 31, 2017 or 2016.

There were no transfers between Level 2 and Level 3 during 2017 or 2016.

The following table presents quantitative information about recurring Level 3 fair value measurements at December 31, 2017:

Fair Value

Valuation Technique

Unobservable Inputs

Range

(Dollars in thousands)

Construction loans held for sale

65,016

Comparable

sales

Time discount

using the 60 day forward contract

0.00%-1.96%

The following table presents quantitative information about recurring Level 3 fair value measurements at December 31, 2016:

Fair Value

Valuation Technique

Unobservable Inputs

Range

(Dollars in thousands)

Construction loans held for sale

53,761

Comparable

sales

Time discount

using the 60 day forward contract

0.00%-1.80%

The significant unobservable inputs used in the fair value measurement of interest rate caps was determined using proprietary models from third-party sources taking into account such factors as size of the transaction, the lack of a quoted market and the custom-tailored nature of the transaction. The fair value is inclusive of interest accruals, as applicable. Significant increases/(decreases) in any of those inputs in isolation would result in a significantly lower/(higher) fair value measurement.

Assets Measured on a Non-Recurring Basis

Assets measured at fair value on a non-recurring basis are summarized below:

			Fair Value Measurements at December 31, 2017 Using:
			Quoted				Significant
			Prices in				Unobservable
			Active		Significant		Inputs
			Markets for		Other		Significant
			Identical		Observable		Unobservable
	December 31,		Assets		Inputs		Inputs
	2017		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Impaired loans
Commercial loans
Multifamily	$	247	$	—	$	—	$	247
Nonresidential		2		—		—		2
Secured		40		—		—		40
Residential loans
One-to four-family residential		1,010		—		—		1,010
Consumer loans
Home Equity		89		—		—		89
Auto		13		—		—		13
Marine		169		—		—		169
Recreational vehicle		86		—		—		86
Mortgage servicing rights		382		—		382		—
Other real estate owned, net
Commercial loans
Construction loans		354		—		—		354
Residential loans
One-to four-family residential		82		—		—		82

			Fair Value Measurements at December 31, 2016 Using:
			Quoted				Significant
			Prices in				Unobservable
			Active		Significant		Inputs
			Markets for		Other		Significant
			Identical		Observable		Unobservable
	December 31,		Assets		Inputs		Inputs
	2016		(Level 1)		(Level 2)		(Level 3)
	(Dollars in thousands)
Assets:
Impaired loans
Commercial loans
Nonresidential	$	2,257	$	—	$	—	$	2,257
Secured		284		—		—		284
Residential loans
One-to four-family residential		919		—		—		919
Consumer loans
Home Equity		228		—		—		228
Auto		177		—		—		177
Recreational vehicle		89		—		—		89
Other real estate owned, net
Commercial loans
Construction loans		748		—		—		748
Residential loans
One-to four-family residential		281		—		—		281

Impaired loans with specific allocations of the allowance for loan losses, carried at fair value, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a net carrying amount of $1.7 million at December 31, 2017, that includes a specific valuation allowance of $491,000. This resulted in an increase of the provision for loan losses of $938,000 during the twelve months ended December 31, 2017. Impaired loans with specific allocations of the allowance for loan losses, carried at fair value, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a net carrying amount of $4.0 million at December 31, 2016, that includes a specific valuation allowance of $1.3 million. This resulted in an increase of the provision for loan losses of $4.1million during the twelve months ended December 31, 2016.

The significant unobservable (Level 3) inputs used in the fair value measurement of collateral for collateral dependent impaired loans included in the above table primarily relate to the adjustment between carrying value versus appraised value. During the reported periods, discounts applied to appraisals for estimated selling costs were 10%.

At December 31, 2017, mortgage servicing rights that were carried at fair value was $382,000, resulting in additional expense of $9,000 for the year ended December 31, 2017. At December 31, 2016, no mortgage servicing rights were carried at fair value, resulting in a net recovery of $39,000 for the year ended December 31, 2016. Mortgage servicing rights are valued by an independent third party that is active in purchasing and selling these instruments. The value reflects the characteristics of the underlying loans discounted at a market multiple.

At December 31, 2017, other real estate owned, carried at fair value, which is measured for impairment using the fair value of the property less estimated selling costs and had a net carrying amount of $436,000 that includes a valuation allowance of $403,000. This resulted in additional expenses of $37,000 during the twelve months ended December 31, 2017. At December 31, 2016, other real estate owned, carried at fair value, which is measured for impairment using the fair value of the property less estimated selling costs and had a net carrying amount of $1.0 million, with a valuation allowance of $1.0 million. This resulted in a recovery of expenses of $16,000 during the twelve months ended December 31, 2016.

The following table presents quantitative information about Level 3 fair value measurements for financial instruments measured at fair value on a nonrecurring basis at December 31, 2017:

	Fair Value		Valuation Technique(s)	Unobservable Input(s)	Range (Average)
	(Dollars in thousands)
Impaired loans
Commercial loans
Multifamily	$	247	Sales comparison approach	Adjustment for differences between comparable sales	0.00-35.00% (15.00%)
Nonresidential		2	Sales comparison approach	Adjustment for differences between comparable sales	0.00-35.00% (15.00%)
Secured		40	Sales comparison approach	Adjustment for differences between comparable sales	0.00-64.00% (16.00%)
Residential loans
One-to four-family residential		1,010	Sales comparison approach	Adjustment for differences between comparable sales	0.00-10.77% (4.27%)
Consumer loans
Home Equity		89	Sales comparison approach	Adjustment for differences between comparable sales	0.00-17.85% (8.93%)
Other real estate owned, net
Commercial loans
Construction loans		354	Sales comparison approach	Adjustment for differences between comparable sales	0.00%-52.90% (52.41%)
Residential loans
One-to four-family residential		82	Sales comparison approach	Adjustment for differences between comparable sales	0.00-13.43% (13.43%)

Auto and recreational vehicle loans were excluded from the table above as their value is considered immaterial.

The following table presents quantitative information about Level 3 fair value measurements for financial instruments measured at fair value on a nonrecurring basis at December 31, 2016:

	Fair Value		Valuation Technique(s)	Unobservable Input(s)	Range (Average)
	(Dollars in thousands)
Impaired loans
Commercial loans
Nonresidential	$	2,257	Sales comparison approach	Adjustment for differences between comparable sales	0.00-35.00% (15.00%)
Secured		284	Sales comparison approach	Adjustment for differences between comparable sales	0.00-64.00% (16.00%)
Residential loans
One-to four-family residential		919	Sales comparison approach	Adjustment for differences between comparable sales	0.00%-10.77% (4.27%)
Consumer loans
Home Equity		228	Sales comparison approach	Adjustment for differences between comparable sales	0.00%-17.85% (8.93%)
Other real estate owned, net
Commercial loans
Construction loans		748	Sales comparison approach Cost approach	Adjustment for differences between comparable sales Adjustment for differences in cost	0.00-90.40% (27.46%) 0.00-33.33% (16.67%)
Residential loans
One-to four-family residential		281	Sales comparison approach	Adjustment for differences between comparable sales	0.00-27.00% (7.74%)

The Company has elected the fair value option for all conventional residential one-to four-family loans originated after January 1, 2016 and all permanent construction loans held for sale an originated after January 1, 2015. These loans are intended for sale and the Company believes that the fair value is the best indicator of the resolution of these loans. Interest income is recorded based on the contractual terms of the loan and in accordance with the Company’s policy on loans held for investment. None of these loans are 90 days or more past due nor on nonaccrual as of December 31, 2017 and 2016.

As of December 31, 2017 and 2016, the aggregate fair value, contractual balance and gain or loss was as follows:

	December 31, 2017		December 31, 2016
	(Dollars in thousands)		(Dollars in thousands)
Aggregate fair value	$	83,541	$	62,593
Contractual balance		79,898		62,843
Gain (loss)		3,643		(250	)

The total amount of gains (losses) from changes in fair value included in earnings for the years ended December 31, 2017, 2016 and 2015 were $3.9 million, $(1.8) million, and $1.5 million, respectively.

The carrying value and estimated fair values of financial instruments at December 31, 2017 and December 31, 2016, were as follows:

				Fair Value Measurements at December 31, 2017 Using:
	December 31,
	2017
	Carrying
	Value			(Level 1)			(Level 2)			(Level 3)
	(Dollars in thousands)
Assets:
Cash and cash equivalents	$	46,880		$	46,880		$	—		$	—
Available for sale securities		270,561			—			270,561			—
Held to maturity securities		82,911			—			82,126			—
Loans held for sale at lower of cost or market		211			—			217			—
Loans held for sale at fair value		83,541			—			18,525			65,016
Loans, net		1,999,877			—			—			1,990,289
FHLB stock		19,324		n/a			n/a			n/a
Accrued interest receivable		8,190			—			2,244			5,946
Purchased certificate of deposit option		809			—			809			—
Liabilities:
Deposits:
Checking, savings and money market accounts		(1,251,398	)		(1,251,398	)		—			—
Certificates of deposit		(705,341	)		—			(705,238	)		—
FHLB advances		(356,536	)		—			(356,521	)		—
Repurchase agreements and other		(197	)		—			(190	)		—
Advance payments by borrowers for taxes and insurance		(25,038	)		(25,038	)		—			—
Accrued interest payable		(1,097	)		—			(1,097	)		—
Written certificate of deposit option		(809	)		—			(809	)		—

				Fair Value Measurements at December 31, 2016 Using:
	December 31,
	2016
	Carrying
	Value			(Level 1)			(Level 2)			(Level 3)
	(Dollars in thousands)
Assets:
Cash and cash equivalents	$	45,887		$	45,887		$	—		$	—
Available for sale securities		343,284			—			343,284			—
Held to maturity securities		97,519			—			92,940			3,210
Loans held for sale at lower of cost or market		165			—			169			—
Loans held for sale at fair value		62,593			—			8,832			53,761
Loans, net		1,503,577			—			—			1,494,534
FHLB stock		18,068		n/a			n/a			n/a
Accrued interest receivable		6,900			—			2,624			4,276
Purchased certificate of deposit option		882			—			882			—
Liabilities:
Deposits:
Checking, savings and money market accounts		(1,026,565	)		(1,026,565	)		—			—
Certificates of deposit		(488,426	)		—			(491,278	)		—
FHLB advances		(390,756	)		—			(390,750	)		—
Repurchase agreements and other		(512	)		—			(513	)		—
Advance payments by borrowers for taxes and insurance		(23,812	)		(23,812	)		—			—
Accrued interest payable		(145	)		—			(145	)		—
Written certificate of deposit option		(882	)		—			(882	)		—

The methods and assumptions, not previously presented, used to estimate fair values are described as follows:

(a) Cash and Cash Equivalents

The carrying amounts of cash and short-term instruments approximate fair values and are classified as Level 1.

(b) FHLB Stock

It is not practical to determine the fair value of FHLB stock due to restrictions placed on its transferability.

Fair values for held to maturity securities 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. For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows.

(d) Loans

Fair values of loans, excluding loans held for sale, are estimated as follows: For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification. Fair values for other loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality resulting in a Level 3 classification. Impaired loans are valued at the lower of cost or fair value as described previously. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.

(e) Deposits

The fair values disclosed for demand deposits (e.g., interest and non-interest checking, savings, and certain types of money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amount) resulting in a Level 1 classification. The carrying amounts of variable rate, fixed-term money market accounts approximate their fair values at the reporting date resulting in a Level 1 classification. Fair values for fixed and variable rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates of deposit to a schedule of aggregated expected monthly maturities on time deposits resulting in a Level 2 classification.

(f) Short-term Borrowings

The carrying amounts of federal funds purchased, borrowings under repurchase agreements, and other short-term borrowings, generally maturing within 90 days, approximate their fair values resulting in a Level 2 classification.

(g) Other Borrowings

The fair values of Home Savings long-term borrowings are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 2 classification.

(h) Accrued Interest Receivable/Payable

The carrying amounts of accrued interest approximate fair value resulting in a Level 2 or Level 3 classification, depending on the classification of the underlying asset or liability.

(i) Off-balance Sheet Instruments

Fair values for off-balance sheet, credit-related financial instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing. The fair value of commitments is not material.