Allowance for Loan and Lease Losses

Loans, excluding covered loans. For each reporting period, management maintains the allowance for loan and lease losses at a level that it considers sufficient to absorb probable loan and lease losses inherent in the portfolio. Management determines the adequacy of the allowance based on historical loss experience as well as other significant factors such as composition of the portfolio, economic conditions, geographic footprint, the results of periodic internal and external evaluations of delinquent, nonaccrual and classified loans and any other adverse situations that may affect a specific borrower's ability to repay (including the timing of future payments). This evaluation is inherently subjective as it requires utilizing material estimates that may be susceptible to significant change.

In the commercial portfolio, which includes commercial loans, construction and commercial real estate loans and lease financing, impaired loan relationships greater than $250,000 are evaluated to determine the need for a specific allowance based on the borrower's overall financial condition, resources and payment record, support from guarantors and the realizable value of any collateral. Loans are considered impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected.

The allowance for non-impaired commercial loans and impaired commercial loan relationships less than $250,000 includes a process of estimating the probable losses inherent in the portfolio by category, based on First Financial's internal system of credit risk ratings and historical loss data. These estimates may also be adjusted for management's estimate of probable losses on specific loan types dependent upon trends in the values of the underlying collateral, delinquent and nonaccrual loans, prevailing economic conditions, changes in lending strategies and other influencing factors.

With the exception of loans modified as TDRs, consumer loans are evaluated by loan type (i.e., residential real estate, installment, etc.), as these loans exhibit homogeneous characteristics. The allowance for consumer loans, which includes residential real estate, installment, home equity, credit card loans and overdrafts, is established by estimating losses inherent in each particular category of consumer loans. The estimate of losses is primarily based on historical loss rates for each category, as well as trends in delinquent and nonaccrual loans, prevailing economic conditions and other significant influencing factors. Consumer loans modified as TDRs greater than $100,000 are individually reviewed to determine if a specific allowance is necessary.

There were no material changes to First Financial's accounting policies or methodology related to the allowance for loan and lease losses during 2012, however certain modifications were made to the estimation process in the third quarter of 2012 to place greater emphasis on quantitative factors such as historical loan losses and less emphasis on qualitative factors. This resulted in a shift in the allocation of the allowance between certain consumer and commercial loan types but had no significant impact on the total allowance for loan and lease losses at December 31, 2012.

The allowance is increased by provisions charged to expense and decreased by actual charge-offs, net of recoveries of amounts previously charged-off. First Financial's policy is to charge-off all or a portion of a loan when, in management's opinion, it is unlikely to collect the principal amount owed in full either through payments from the borrower or from the liquidation of collateral.

Changes in the allowance for loan and lease losses for the three years ended December 31 were as follows:



(Dollars in thousands)	2012			2011			2010
Balance at beginning of year	$	52,576		$	57,235		$	59,311
Provision for loan losses	19,117			19,210			33,564
Loans charged-off	(25,312		)	(25,798		)	(38,351		)
Recoveries	1,396			1,929			2,711
Balance at end of year	$	47,777		$	52,576		$	57,235

Changes in the allowance for loan and lease losses by loan category as of December 31 were as follows:



	2012
			Real Estate
(Dollars in thousands)	Commercial		Construction		Commercial		Residential		Installment			Home Equity			Other		Total
Allowance for loan and lease losses
Balance at beginning of year	$	10,289	$	4,424	$	18,228	$	4,994	$	1,659		$	10,751		$	2,231	$	52,576
Provision for loan and lease losses	1,556		1,528		16,670		346		(883		)	(2,032		)	1,932		19,117
Gross charge-offs	4,312		2,684		11,012		1,814		577			3,661			1,252		25,312
Recoveries	393		0		265		73		323			115			227		1,396
Total net charge-offs	3,919		2,684		10,747		1,741		254			3,546			1,025		23,916
Ending allowance for loan and lease losses	$	7,926	$	3,268	$	24,151	$	3,599	$	522		$	5,173		$	3,138	$	47,777
Ending allowance on loans individually evaluated for impairment	$	1,151	$	838	$	7,155	$	290	$	0		$	2		$	92	$	9,528
Ending allowance on loans collectively evaluated for impairment	6,775		2,430		16,996		3,309		522			5,171			3,046		38,249
Ending allowance for loan and lease losses	$	7,926	$	3,268	$	24,151	$	3,599	$	522		$	5,173		$	3,138	$	47,777
Loans and Leases
Ending balance of loans individually evaluated for impairment	$	16,661	$	2,076	$	35,422	$	2,604	$	0		$	101		$	496	$	57,360
Ending balance of loans collectively evaluated for impairment	844,372		71,441		1,381,586		315,606		56,810			367,399			84,490		3,121,704
Total loans, excluding covered loans	$	861,033	$	73,517	$	1,417,008	$	318,210	$	56,810		$	367,500		$	84,986	$	3,179,064



	2011
			Real Estate
(Dollars in thousands)	Commercial		Construction		Commercial		Residential			Installment			Home Equity		Other		Total
Allowance for loan and lease losses
Balance at beginning of year	$	10,138	$	8,326	$	14,917	$	8,907		$	1,981		$	10,939	$	2,027	$	57,235
Provision for loan and lease losses	2,825		2,345		13,384		(2,407		)	(159		)	1,878		1,344		19,210
Gross charge-offs	3,436		6,279		10,382		1,551			526			2,183		1,441		25,798
Recoveries	762		32		309		45			363			117		301		1,929
Total net charge-offs	2,674		6,247		10,073		1,506			163			2,066		1,140		23,869
Ending allowance for loan and lease losses	$	10,289	$	4,424	$	18,228	$	4,994		$	1,659		$	10,751	$	2,231	$	52,576
Ending allowance on loans individually evaluated for impairment	$	3,205	$	2,578	$	6,441	$	313		$	0		$	2	$	0	$	12,539
Ending allowance on loans collectively evaluated for impairment	7,084		1,846		11,787		4,681			1,659			10,749		2,231		40,037
Ending allowance for loan and lease losses	$	10,289	$	4,424	$	18,228	$	4,994		$	1,659		$	10,751	$	2,231	$	52,576
Loans and Leases
Ending balance of loans individually evaluated for impairment	$	8,351	$	17,387	$	30,708	$	3,730		$	0		$	101	$	0	$	60,277
Ending balance of loans collectively evaluated for impairment	848,630		97,587		1,202,359		284,250			67,543			358,859		48,942		2,908,170
Total loans, excluding covered loans	$	856,981	$	114,974	$	1,233,067	$	287,980		$	67,543		$	358,960	$	48,942	$	2,968,447



	2010
			Real Estate
(Dollars in thousands)	Commercial		Construction		Commercial		Residential		Installment		Home Equity		Other		Total
Allowance for loan and lease losses
Balance at beginning of year	$	18,590	$	8,143	$	15,190	$	5,308	$	2,159	$	8,063	$	1,858	$	59,311
Provision for loan and lease losses	4,252		8,778		6,836		5,268		457		6,183		1,790		33,564
Gross charge-offs	13,324		8,619		8,191		1,693		1,154		3,499		1,871		38,351
Recoveries	620		24		1,082		24		519		192		250		2,711
Total net charge-offs	12,704		8,595		7,109		1,669		635		3,307		1,621		35,640
Ending allowance for loan and lease losses	$	10,138	$	8,326	$	14,917	$	8,907	$	1,981	$	10,939	$	2,027	$	57,235
Ending allowance on loans individually evaluated for impairment	$	2,017	$	3,716	$	4,347	$	336	$	0	$	0	$	0	$	10,416
Ending allowance on loans collectively evaluated for impairment	8,121		4,610		10,570		8,571		1,981		10,939		2,027		46,819
Ending allowance for loan and lease losses	$	10,138	$	8,326	$	14,917	$	8,907	$	1,981	$	10,939	$	2,027	$	57,235
Loans and Leases
Ending balance of loans individually evaluated for impairment	$	12,175	$	19,294	$	31,260	$	5,420	$	0	$	0	$	0	$	68,149
Ending balance of loans collectively evaluated for impairment	788,078		144,249		1,108,671		263,753		69,711		341,310		32,172		2,747,944
Total loans, excluding covered loans	$	800,253	$	163,543	$	1,139,931	$	269,173	$	69,711	$	341,310	$	32,172	$	2,816,093

Covered loans. In accordance with the accounting guidance for business combinations, there was no allowance brought forward on covered loans as any credit deterioration evident in the loans at the time of acquisition was included in the determination of the fair value of the loans at the acquisition date.

The majority of covered loans are accounted for under FASB ASC Topic 310-30, whereby First Financial is required to periodically re-estimate the expected cash flows on the loans. For purposes of applying the guidance under FASB ASC Topic 310-30, First Financial grouped acquired loans into pools based on common risk characteristics. Generally, a decline in expected cash flows for a pool of loans is referred to as impairment and recorded as provision expense, and a related allowance for loan and lease losses on covered loans, on a discounted basis during the period. Estimated reimbursements due from the FDIC under loss sharing agreements related to any declines in expected cash flows for a pool of loans are recorded as noninterest income and an increase to the FDIC indemnification asset in the same period. Improvement in expected cash flows for a pool of loans, once any previously recorded impairment is recaptured, is recognized prospectively as an adjustment to the yield on the loans in the pool and a related adjustment to the yield on the FDIC indemnification asset.

First Financial performs periodic valuation procedures to re-estimate the expected cash flows on covered loans accounted for under FASB ASC Topic 310-30 and compare the present value of expected cash flows to the carrying value of the loans at the pool level. In order to estimate expected cash flows, First Financial specifically reviews a sample of these covered loans to assist in the determination of appropriate probability of default and loss given default assumptions to be applied to the remainder of the portfolio. The estimate of expected cash flows may also be adjusted for management's estimate of probable losses on specific loan types dependent upon trends in observable market and industry data, such as prepayment speeds and collateral values. These cash flow evaluations are inherently subjective as they require material estimates, all of which may be susceptible to significant change.

First Financial updated the valuations related to covered loans periodically during 2012 and, as a result of impairment in certain loan pools, recognized total provision expense of $30.9 million and realized net charge-offs of $28.5 million, resulting in an allowance of $45.2 million as of December 31, 2012. During 2011, the Company recognized total provision expense of $64.1 million and realized net charge-offs of $37.7 million, resulting in an ending allowance of $42.8 million. During 2010, the Company recognized total provision expense of $63.1 million and realized net charge-offs of $46.7 million, resulting in an ending allowance of $16.5 million. Additionally, the Company recognized expenses of $13.2 million for 2012, $12.8 million for 2011 and $1.5 million for 2010 primarily related to attorney fees, delinquent taxes, appraisals and losses on covered OREO during the period. The receivable due from the FDIC under loss sharing agreements related to covered provision expense, losses on covered OREO and loss sharing expenses of $35.3 million for 2012, $60.9 million for 2011, and $51.8 million for 2010, was recognized as FDIC loss sharing income and a corresponding increase to the FDIC indemnification asset.

The allowance for loan and lease losses on covered loans is presented in the tables below:



	December 31, 2012
			Real Estate
(Dollars in thousands)	Commercial		Commercial		Residential		Installment		Total
Ending allowance on loans acquired with deteriorated credit quality (ASC 310-30)	$	19,136	$	22,918	$	2,599	$	537	$	45,190
Ending allowance on acquired loans outside the scope of ASC 310-30	0		0		0		0		0
Ending allowance on covered loans	$	19,136	$	22,918	$	2,599	$	537	$	45,190



	December 31, 2011
			Real Estate
(Dollars in thousands)	Commercial		Commercial		Residential		Installment		Total
Ending allowance on loans acquired with deteriorated credit quality (ASC 310-30)	$	19,160	$	21,930	$	1,396	$	349	$	42,835
Ending allowance on acquired loans outside the scope of ASC 310-30	0		0		0		0		0
Ending allowance on covered loans	$	19,160	$	21,930	$	1,396	$	349	$	42,835

Changes in the allowance for loan and lease losses on covered loans for the three years ended December 31 were as follows:



(Dollars in thousands)	2012			2011			2010
Balance at beginning of year	$	42,835		$	16,493		$	0
Provision for loan and lease losses	30,903			64,081			63,144
Loans charged-off	(33,907		)	(45,604		)	(46,992		)
Recoveries	5,359			7,865			341
Balance at end of year	$	45,190		$	42,835		$	16,493