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 the first nine months of 2013, 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 September 30, 2013.

The allowance is increased by provision 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 were as follows:



	Three Months Ended						Nine months ended
	September 30,						September 30,
(Dollars in thousands)	2013			2012			2013			2012
Balance at beginning of period	$	47,047		$	50,952		$	47,777		$	52,576
Provision for loan and lease losses	1,413			3,613			6,863			15,235
Loans charged off	(5,111		)	(5,804		)	(12,515		)	(19,764		)
Recoveries	2,165			431			3,389			1,145
Balance at end of period	$	45,514		$	49,192		$	45,514		$	49,192
Allowance for loan and lease losses to total ending loans	1.33		%	1.60		%	1.33		%	1.60		%

Year-to-date changes in the allowance for loan and lease losses by loan category were as follows:



	Nine Months Ended September 30, 2013
			Real Estate
(Dollars in thousands)	Commercial		Construction			Commercial		Residential		Installment			Home Equity		Other		Total
Allowance for loan and lease losses:
Balance at beginning of period	$	7,926	$	3,268		$	24,151	$	3,599	$	522		$	5,173	$	3,138	$	47,777
Provision for loan and lease losses	3,675		(3,166		)	3,691		260		(105		)	1,707		801		6,863
Gross charge-offs	3,122		0			5,213		798		296			1,703		1,383		12,515
Recoveries	478		626			1,360		107		244			372		202		3,389
Total net charge-offs	2,644		(626		)	3,853		691		52			1,331		1,181		9,126
Ending allowance for loan and lease losses	$	8,957	$	728		$	23,989	$	3,168	$	365		$	5,549	$	2,758	$	45,514
Ending allowance on loans individually evaluated for impairment	$	1,645	$	0		$	6,371	$	348	$	0		$	2	$	0	$	8,366
Ending allowance on loans collectively evaluated for impairment	7,312		728			17,618		2,820		365			5,547		2,758		37,148
Ending allowance for loan and lease losses	$	8,957	$	728		$	23,989	$	3,168	$	365		$	5,549	$	2,758	$	45,514
Loans - excluding covered loans
Ending balance of loans individually evaluated for impairment	$	10,203	$	1,099		$	38,162	$	3,624	$	0		$	515	$	0	$	53,603
Ending balance of loans collectively evaluated for impairment	949,813		88,990			1,455,807		349,206		49,273			373,324		110,900		3,377,313
Total loans - excluding covered loans	$	960,016	$	90,089		$	1,493,969	$	352,830	$	49,273		$	373,839	$	110,900	$	3,430,916



	Twelve Months Ended December 31, 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 period	$	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 - excluding covered loans
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

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. Additionally, during the second quarter of 2013, the Company implemented certain enhancements to its valuation methodology and the estimation of impairment to place greater emphasis on changes in total expected cash flows and less emphasis on changes in the net present value of expected cash flows. 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 during the third quarter 2013 and, as a result of impairment in certain loan pools, recognized provision expense of $5.3 million and realized net charge-offs of $15.0 million during the quarter, resulting in an allowance for covered loan losses of $23.3 million as of September 30, 2013. First Financial recognized provision expense on covered loans of $6.1 million and realized net charge-offs of $28.0 million for the first nine months of 2013. For the third quarter of 2012, First Financial recognized provision expense on covered loans of $6.6 million related to net charge-offs of $6.1 million during the period. Likewise, for the first nine months of 2012, the Company recognized provision expense on covered loans of $25.6 million and net charge-offs of $19.6 million.

First Financial also recognized loss sharing expense of $1.7 million and $3.6 million for the third quarter of 2013 and 2012, respectively, primarily related to attorney fees, appraisal costs and delinquent taxes during the periods. Additionally, the Company recognized losses on sales of covered OREO of $0.2 million for the third quarter of 2013 and gains on covered OREO of $25.0 thousand for the third quarter of 2012. The receivable due from the FDIC under loss sharing agreements, related to covered loan provision expense, gains/losses on covered OREO and loss sharing expenses, of $5.6 million and $8.5 million for the third quarter of 2013 and 2012, respectively, was recognized as FDIC loss sharing income and a corresponding increase to the FDIC indemnification asset.

On a year-to-date basis, First Financial recognized loss sharing expense of $5.6 million and $8.4 million for 2013 and 2012 respectively. Similarly, on a year-to-date basis, the Company recognized gains on covered OREO of $2.2 million for 2013 and losses on covered OREO of $2.5 million for 2012. The receivable due from the FDIC under loss sharing agreements related to covered loan provision expense, gains/losses on covered OREO and loss sharing expenses of $7.1 million for the first nine months of 2013 and $29.6 million for the comparable period in 2012, 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:



	September 30, 2013
			Real Estate
(Dollars in thousands)	Commercial		Commercial		Residential		Installment		Total
Ending allowance on loans acquired with deteriorated credit quality (ASC 310-30)	$	8,587	$	13,508	$	993	$	171	$	23,259
Ending allowance on acquired loans outside the scope of ASC 310-30	0		0		0		0		0
Ending allowance on covered loans	$	8,587	$	13,508	$	993	$	171	$	23,259



	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

Changes in the allowance for loan and lease losses on covered loans were as follows:



	Three Months Ended						Nine months ended
	September 30,						September 30,
(Dollars in thousands)	2013			2012			2013			2012
Balance at beginning of period	$	32,961		$	48,327		$	45,190		$	42,835
Provision for loan and lease losses	5,293			6,622			6,052			25,620
Loans charged-off	(21,009		)	(9,058		)	(35,374		)	(24,339		)
Recoveries	6,014			3,004			7,391			4,779
Balance at end of period	$	23,259		$	48,895		$	23,259		$	48,895