Loans and Allowance for Loan Losses

The composition of the Company’s loan portfolio, excluding residential loans held for sale, at December 31, 2014 and 2013 was as follows:



	December 31,
	2014			2013
Residential real estate loans	$	585,996		$	570,391
Commercial real estate loans	640,661			541,099
Commercial loans	257,515			179,203
Home equity loans	271,709			272,630
Consumer loans	17,257			17,651
Deferred loan fees net of costs	(528		)	(572		)
Total loans	$	1,772,610		$	1,580,402

The Company’s lending activities are primarily conducted in Maine, and its footprint continues to expand into other northern New England states, including New Hampshire, and Massachusetts. The Company originates single family and multi-family residential loans, commercial real estate loans, business loans, municipal loans and a variety of consumer loans. In addition, the Company makes loans for the construction of residential homes, multi-family properties and commercial real estate properties. The ability and willingness of borrowers to honor their repayment commitments is generally dependent on the level of overall economic activity within the geographic area and the general economy.

The Company, in the normal course of business, has made loans to its subsidiaries, and certain officers, directors, and their associated companies, under terms that are consistent with the Company’s lending policies and regulatory requirements. Loans, including any unused lines of credit, to related parties were as follows:



	December 31,
	2014			2013
Balance at beginning of year	$	17,428		$	14,590
Loans made/advanced and additions	251			4,317
Repayments and reductions	(210		)	(1,479		)
Balance at end of year	$	17,469		$	17,428

The ALL is management’s best estimate of the inherent risk of loss in the Company’s loan portfolio as of the consolidated statement of condition date. Management makes various assumptions and judgments about the collectability of the loan portfolio and provides an allowance for potential losses based on a number of factors including historical losses. If those assumptions are incorrect, the ALL may not be sufficient to cover losses and may cause an increase in the allowance in the future. Among the factors that could affect the Company’s ability to collect loans and require an increase to the allowance in the future are: (i) financial condition of borrowers; (ii) real estate market changes; (iii) state, regional, and national economic conditions; and (iv) a requirement by federal and state regulators to increase the provision for loan losses or recognize additional charge-offs.

The board of directors monitors credit risk through the Directors’ Loan Review Committee, which reviews large credit exposures, monitors the external loan review reports, reviews the lending authority for individual loan officers when required, and has approval authority and responsibility for all matters regarding the loan policy and other credit-related policies, including reviewing and monitoring asset quality trends, concentration levels, and the ALL methodology. The Corporate Risk Management Group and the Credit Risk Policy Committee oversee the Company's systems and procedures to monitor the credit quality of its loan portfolio, conduct a loan review program, maintain the integrity of the loan rating system, determine the adequacy of the ALL, and support the oversight efforts of the Directors' Loan Review Committee and the board of directors. The Company's practice is to proactively manage the portfolio such that management can identify problem credits early, assess and implement effective work-out strategies, and take charge-offs as promptly as practical. In addition, the Company continuously reassesses its underwriting standards in response to credit risk posed by changes in economic conditions. For purposes of determining the ALL, the Company disaggregates its loans into portfolio segments, which include residential real estate, commercial real estate, commercial, home equity, and consumer.

Each portfolio segment possesses unique risk characteristics that are considered when determining the appropriate level of allowance. These risk characteristics unique to each portfolio segment include:

Residential Real Estate. Residential real estate loans held in the Company's loan portfolio are made to borrowers who demonstrate the ability to make scheduled payments with full consideration to underwriting factors. Borrower qualifications include favorable credit history combined with supportive income requirements and combined loan-to-value ratios within established policy guidelines. Collateral consists of mortgage liens on 1-4 family residential properties.

Commercial Real Estate. Commercial real estate loans consist of mortgage loans to finance investments in real property such as multi-family residential, commercial/retail, office, industrial, hotels, educational, health care facilities and other specific use properties. Commercial real estate loans are typically written with amortizing payment structures. Collateral values are determined based upon appraisals and evaluations in accordance with established policy guidelines. Loan-to-value ratios at origination are governed by established policy and regulatory guidelines. Commercial real estate loans are primarily paid by the cash flow generated from the real property, such as operating leases, rents, or other operating cash flows from the borrower.

Commercial. Commercial loans consist of revolving and term loan obligations extended to business and corporate enterprises for the purpose of financing working capital and/or capital investment. Collateral generally consists of pledges of business assets including, but not limited to, accounts receivable, inventory, plant & equipment, or real estate, if applicable. Commercial loans are primarily paid by the operating cash flow of the borrower. Commercial loans may be secured or unsecured.

Home Equity. Home equity loans and lines are made to qualified individuals for legitimate purposes secured by senior or junior mortgage liens on owner-occupied 1-4 family homes, condominiums, or vacation homes. The home equity loan has a fixed rate and is billed equal payments comprised of principal and interest. The home equity line of credit has a variable rate and is billed interest-only payments during the draw period. At the end of the draw period, the home equity line of credit is billed a percentage of the principal balance plus all accrued interest. Borrower qualifications include favorable credit history combined with supportive income requirements and combined loan-to-value ratios within established policy guidelines.

Consumer. Consumer loan products including personal lines of credit and amortizing loans made to qualified individuals for various purposes such as education, auto loans, debt consolidation, personal expenses or overdraft protection. Borrower qualifications include favorable credit history combined with supportive income and collateral requirements within established policy guidelines. Consumer loans may be secured or unsecured.

The following table presents the activity in the ALL and select loan information by portfolio segment for the years ended December 31, 2014, 2013, and 2012:



	Residential Real Estate			Commercial Real Estate			Commercial			Home Equity			Consumer			Unallocated			Total
For The Year Ended December 31, 2014:
ALL:
Beginning balance	$	5,603		$	4,374		$	6,220		$	2,403		$	319		$	2,671		$	21,590
Loans charged off	(785		)	(361		)	(1,544		)	(611		)	(143		)	—			(3,444		)
Recoveries	165			135			395			19			32			—			746
Provision (credit)	(84		)	334			1,752			436			73			(287		)	2,224
Ending balance	$	4,899		$	4,482		$	6,823		$	2,247		$	281		$	2,384		$	21,116
ALL balance attributable loans:
Individually evaluated for impairment	$	1,220		$	251		$	168		$	496		$	104		$	—		$	2,239
Collectively evaluated for impairment	3,679			4,231			6,655			1,751			177			2,384			18,877
Total ending ALL	$	4,899		$	4,482		$	6,823		$	2,247		$	281		$	2,384		$	21,116
Loans:
Individually evaluated for impairment	$	9,656		$	7,658		$	1,853		$	1,741		$	271		$	—		$	21,179
Collectively evaluated for impairment	575,812			633,003			255,662			269,968			16,986			—			1,751,431
Total ending loans balance	$	585,468		$	640,661		$	257,515		$	271,709		$	17,257		$	—		$	1,772,610
For The Year Ended December 31, 2013:
ALL:
Beginning balance	$	6,996		$	4,549		$	5,933		$	2,520		$	184		$	2,862		$	23,044
Loans charged off	(1,059		)	(952		)	(1,426		)	(647		)	(190		)	—			(4,274		)
Recoveries	35			121			495			56			61			—			768
Provision (credit)	(369		)	656			1,218			474			264			(191		)	2,052
Ending balance	$	5,603		$	4,374		$	6,220		$	2,403		$	319		$	2,671		$	21,590
ALL balance attributable loans:
Individually evaluated for impairment	$	1,750		$	526		$	132		$	433		$	140		$	—		$	2,981
Collectively evaluated for impairment	3,853			3,848			6,088			1,970			179			2,671			18,609
Total ending ALL	$	5,603		$	4,374		$	6,220		$	2,403		$	319		$	2,671		$	21,590
Loans:
Individually evaluated for impairment	$	14,435		$	8,864		$	2,635		$	1,571		$	442		$	—		$	27,947
Collectively evaluated for impairment	555,384			532,235			176,568			271,059			17,209			—			1,552,455
Total ending loans balance	$	569,819		$	541,099		$	179,203		$	272,630		$	17,651		$	—		$	1,580,402
For The Year Ended December 31, 2012:
Beginning balance	$	6,398		$	5,702		$	4,846		$	2,704		$	420		$	2,941		$	23,011
Loans charged off	(1,197		)	(593		)	(1,393		)	(1,234		)	(85		)	—			(4,502		)
Recoveries	73			222			406			23			20			—			744
Provision (credit)	1,722			(782		)	2,074			1,027			(171		)	(79		)	3,791
Ending balance	$	6,996		$	4,549		$	5,933		$	2,520		$	184		$	2,862		$	23,044
ALL balance attributable loans:
Individually evaluated for impairment	$	2,255		$	265		$	286		$	261		$	39		$	—		$	3,106
Collectively evaluated for impairment	4,741			4,284			5,647			2,259			145			2,862			19,938
Total ending ALL	$	6,996		$	4,549		$	5,933		$	2,520		$	184		$	2,862		$	23,044
Loans:
Individually evaluated for impairment	$	13,805		$	7,968		$	3,610		$	1,515		$	259		$	—		$	27,157
Collectively evaluated for impairment	558,368			498,263			186,844			276,860			16,374			—			1,536,709
Total ending loans balance	$	572,173		$	506,231		$	190,454		$	278,375		$	16,633		$	—		$	1,563,866

The ALL for the Company's portfolio segments is determined based on loan balances and the historical performance factor of each portfolio segment. The ALL decreased $474,000 at December 31, 2014 compared to December 31, 2013 as asset quality improved driven by lower charge-offs, non-performing assets, and criticized assets. The net decrease in the ALL was partially offset by the allowance provided for net loan growth of $192.2 million for year ended December 31, 2014.

The Company focuses on maintaining a well-balanced and diversified loan portfolio. Despite such efforts, it is recognized that credit concentrations may occasionally emerge as a result of economic conditions, changes in local demand, natural loan growth and runoff. To ensure that credit concentrations can be effectively identified, all commercial and commercial real estate loans are assigned Standard Industrial Classification codes, North American Industry Classification System codes, and state and county codes. Shifts in portfolio concentrations are monitored by the Corporate Risk Management Group. As of December 31, 2014, the two most significant industry exposures within the commercial real estate loan portfolio were non-residential building operators (operators of commercial and industrial buildings, retail establishments, theaters, banks and insurance buildings) and lodging (inns, bed & breakfasts, ski lodges, tourist cabins, hotels, and motels). At December 31, 2014, exposure to these two industries, as a percentage of total commercial real estate loans was 26% and 27%, respectively.

To further identify loans with similar risk profiles, the Company categorizes each portfolio segment into classes by credit risk characteristic and applies a credit quality indicator to each portfolio segment. The indicators for commercial, commercial real estate and residential real estate loans are represented by Grades 1 through 10 as outlined below. In general, risk ratings are adjusted periodically throughout the year as updated analysis and review warrants. This process may include, but is not limited to annual credit and loan reviews, periodic reviews of loan performance metrics such as delinquency rates, and quarterly reviews of adversely risk rated loans. The Company uses the following definitions when assessing grades for the purpose of evaluating the risk and adequacy of the ALL:

•

Grade 1 through 6 — Grades 1 through 6 represent loans that are not subject to adverse criticism as defined in regulatory guidance. Loans in these groups exhibit characteristics that represent low to moderate risks, which is measured using a variety of credit risk criteria, such as cash flow coverage, debt service coverage, balance sheet leverage, liquidity, management experience, industry position, prevailing economic conditions, support from secondary sources of repayment and other credit factors that may be relevant to a specific loan. In general, these loans are support by properly margined collateral and guarantees of principal parties.

•

Grade 7 — Loans with potential weakness (Special Mention). Loans in this category are currently protected based on collateral and repayment capacity and do not constitute undesirable credit risk, but have potential weakness that may result in deterioration of the repayment process at some future date. This classification is used if a negative trend is evident in the obligor’s financial situation. Special mention loans do not sufficiently expose the Company to warrant adverse classification.


•	Grade 8 — Loans with definite weakness (Substandard). Loans classified as substandard are inadequately protected by the current sound worth and paying capacity of the obligor or by collateral pledged. Borrowers experience difficulty in meeting debt repayment requirements. Deterioration is sufficient to cause the Company to look to the sale of collateral.

•

Grade 9 — Loans with potential loss (Doubtful). Loans classified as doubtful have all the weaknesses inherent in the substandard grade with the added characteristic that the weaknesses make collection or liquidation of the loan in full highly questionable and improbable. The possibility of some loss is extremely high, but because of specific pending factors that may work to the advantage and strengthening of the asset, its classification as an estimated loss is deferred until its more exact status may be determined.


•	Grade 10 — Loans with definite loss (Loss). Loans classified as loss are considered uncollectible. The loss classification does not mean that the asset has absolutely no recovery or salvage value, but rather that it is not practical or desirable to defer writing off the asset because recovery and collection time may be protracted.

Asset quality indicators are periodically reassessed to appropriately reflect the risk composition of the Company’s loan portfolio. Home equity and consumer loans are not individually risk rated, but rather analyzed as groups taking into account delinquency rates and other economic conditions which may affect the ability of borrowers to meet debt service requirements, including interest rates and energy costs. Performing loans include loans that are current and loans that are past due less than 90 days. Loans that are past due over 90 days and non-accrual loans are considered non-performing loans.

The following table summarizes credit risk exposure indicators by portfolio segment as of the following dates:



	Residential Real Estate		Commercial Real Estate		Commercial		Home Equity		Consumer		Total
December 31, 2014:
Pass (Grades 1 – 6)	$	572,589	$	606,387	$	244,930	$	—	$	—	$	1,423,906
Performing	—		—		—		269,968		16,986		286,954
Special Mention (Grade 7)	3,579		4,690		6,023		—		—		14,292
Substandard (Grade 8)	9,300		29,584		6,562		—		—		45,446
Non-performing	—		—		—		1,741		271		2,012
Total	$	585,468	$	640,661	$	257,515	$	271,709	$	17,257	$	1,772,610
December 31, 2013:
Pass (Grades 1 – 6)	$	551,035	$	496,257	$	155,851	$	—	$	—	$	1,203,143
Performing	—		—		—		271,059		17,210		288,269
Special Mention (Grade 7)	3,196		7,749		11,315		—		—		22,260
Substandard (Grade 8)	15,588		37,093		12,037		—		—		64,718
Non-performing	—		—		—		1,571		441		2,012
Total	$	569,819	$	541,099	$	179,203	$	272,630	$	17,651	$	1,580,402

The Company closely monitors the performance of its loan portfolio. A loan is placed on non-accrual status when the financial condition of the borrower is deteriorating, payment in full of both principal and interest is not expected as scheduled or principal or interest has been in default for 90 days or more. Exceptions may be made if the asset is well-secured by collateral sufficient to satisfy both the principal and accrued interest in full and collection is assured by a specific event such as the closing of a pending sale contract. When one loan to a borrower is placed on non-accrual status, all other loans to the borrower are re-evaluated to determine if they should also be placed on non-accrual status. All previously accrued and unpaid interest is reversed at this time. A loan may be returned to accrual status when collection of principal and interest is assured and the borrower has demonstrated timely payments of principal and interest for a reasonable period. Unsecured loans, however, are not normally placed on non-accrual status because they are charged-off once their collectability is in doubt.

The following is a loan aging analysis by portfolio segment (including loans past due over 90 days and non-accrual loans) and a summary of non-accrual loans, which include TDRs, and loans past due over 90 days and accruing as of the following dates:



	30 – 59 Days Past Due		60 – 89 Days Past Due		Greater Than 90 Days		Total Past Due		Current		Total Loans Outstanding		Loans > 90 Days Past Due and Accruing		Non-Accrual Loans
December 31, 2014:
Residential real estate	$	1,206	$	426	$	4,531	$	6,163	$	579,305	585,468		$	—	$	6,056
Commercial real estate	1,696		—		3,791		5,487		635,174		640,661		—		7,043
Commercial	456		269		1,139		1,864		255,651		257,515		—		1,529
Home equity	889		88		1,129		2,106		269,603		271,709		—		1,740
Consumer	28		—		254		282		16,975		17,257		—		271
Total	$	4,275	$	783	$	10,844	$	15,902	$	1,756,708	$	1,772,610	$	—	$	16,639
December 31, 2013:
Residential real estate	$	3,218	$	684	$	7,269	$	11,171	$	558,648	$	569,819	$	—	$	10,520
Commercial real estate	926		2,036		3,301		6,263		534,836		541,099		257		7,799
Commercial	159		237		1,980		2,376		176,827		179,203		198		2,146
Home equity	1,395		388		1,007		2,790		269,840		272,630		—		1,571
Consumer	63		21		418		502		17,149		17,651		—		441
Total	$	5,761	$	3,366	$	13,975	$	23,102	$	1,557,300	$	1,580,402	$	455	$	22,477

Interest income that would have been recognized if loans on non-accrual status had been current in accordance with their original terms for the years ended December 31, 2014, 2013 and 2012 was $842,000, $990,000, and $1.1 million, respectively.

The Company takes a conservative approach in credit risk management and remains focused on community lending and reinvesting. The Company works closely with borrowers experiencing credit problems to assist in loan repayment or term modifications. TDR loans consist of loans where the Company, for economic or legal reasons related to the borrower’s financial difficulties, granted a concession to the borrower that it would not otherwise consider. TDRs involve term modifications or a reduction of either interest or principal. Once such an obligation has been classified as a TDR, it will continue to remain as a TDR until paid in full, or until the loan is again restructured at current market rates and no concessions are granted.

The specific reserve allowance was determined by discounting the total expected future cash flows from the borrower at the original loan interest rate, or if the loan is currently collateral-dependent, using the NRV, which was obtained through independent appraisals and internal evaluations. The following is a summary of TDRs, by portfolio segment, and the associated specific reserve included within the ALL as of December 31:



	Number of Contracts		Current Balance				Specific Reserve
	2014	2013	2014		2013		2014		2013
Residential real estate	24	26	$	3,800	$	4,089	$	635	$	525
Commercial real estate	7	10	1,704		2,558		—		131
Commercial	9	7	426		488		10		—
Consumer and home equity	1	1	30		1		—		—
Total	41	44	$	5,960	$	7,136	$	645	$	656

At December 31, 2014, the Company had performing and non-performing TDRs of $4.5 million and $1.5 million, respectively. At December 31, 2013, the Company had performing and non-performing TDRs of $5.5 million and $1.6 million, respectively. As of December 31, 2014 and 2013, the Company did not have any commitments to lend additional funds to borrowers with loans classified as TDRs.

The following represents loan modifications that occurred during 2014 and 2013 that qualify as TDRs, by portfolio segment, and the associated specific reserve included within the ALL at December 31:



	Number of Contracts		Pre-Modification Outstanding Recorded Investment				Post-Modification Outstanding Recorded Investment				Specific Reserve
	2014	2013	2014		2013		2014		2013		2014		2013
Residential real estate	1	6	$	136	$	836	$	149	$	878	$	43	$	119
Commercial real estate	1	2	235		279		235		286		—		—
Commercial	3	4	77		255		77		255		6		3
Consumer and home equity	1	—	40		—		30		—		—		—
Total	6	12	$	488	$	1,370	$	491	$	1,419	$	49	$	122

The following is a summary of loans modified as a TDR within the previous 12 months and for which the borrower subsequently defaulted during the year ended December 31:



	2014			2013
	Number of Contracts	Recorded Investment		Number of Contracts	Recorded Investment
Commercial real estate	—	$	—	1	$	113
Total	—	$	—	1	$	113

Impaired loans consist of non-accrual and TDR loans. All impaired loans are allocated a portion of the allowance to cover potential losses. The following is a summary of impaired loan balances and the associated allowance by portfolio segment as of and for the years ended December 31, 2014, 2013 and 2012:



	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
December 31, 2014:
With related allowance recorded:
Residential real estate	$	7,713	$	7,713	$	1,220	$	9,524	$	125
Commercial real estate	3,419		3,419		251		4,911		—
Commercial	1,390		1,390		168		2,466		8
Home equity	1,410		1,410		496		1,545		—
Consumer	254		254		104		358		—
Ending Balance	$	14,186	$	14,186	$	2,239	$	18,804	$	133
Without related allowance recorded:
Residential real estate	$	1,943	$	2,604	$	—	$	2,257	$	13
Commercial real estate	4,239		4,502		—		2,869		59
Commercial	463		606		—		791		11
Home equity	331		581		—		399		—
Consumer	17		37		—		21		—
Ending Balance	$	6,993	$	8,330	$	—	$	6,337	$	83
Total impaired loans	$	21,179	$	22,516	$	2,239	$	25,141	$	216
December 31, 2013:
With related allowance recorded:
Residential real estate	$	11,902	$	11,902	$	1,750	$	10,411	$	118
Commercial real estate	6,805		6,805		526		5,517		20
Commercial	1,876		1,876		132		2,543		10
Home equity	1,228		1,228		433		1,291		—
Consumer	425		425		140		460		—
Ending Balance	$	22,236	$	22,236	$	2,981	$	20,222	$	148
Without related allowance recorded:
Residential real estate	$	2,533	$	3,846	$	—	$	2,925	$	28
Commercial real estate	2,059		2,782		—		3,362		55
Commercial	759		871		—		765		8
Home equity	343		479		—		334		—
Consumer	17		37		—		11		—
Ending Balance	$	5,711	$	8,015	$	—	$	7,397	$	91
Total impaired loans	$	27,947	$	30,251	$	2,981	$	27,619	$	239



	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment		Interest Income Recognized
December 31, 2012:
With related allowance recorded:
Residential real estate	$	11,021	$	11,021	$	2,255	$	10,585	$	114
Commercial real estate	4,296		4,296		265		5,551		—
Commercial	2,971		2,971		286		3,927		—
Home equity	1,236		1,236		261		1,289		—
Consumer	257		257		39		239		—
Ending Balance	$	19,781	$	19,781	$	3,106	$	21,591	$	114
Without related allowance recorded:
Residential real estate	$	2,784	$	3,841	$	—	$	2,548	$	26
Commercial real estate	3,672		4,127		—		2,056		33
Commercial	639		956		—		389		13
Home equity	279		550		—		617		—
Consumer	2		2		—		6		—
Ending Balance	$	7,376	$	9,476	$	—	$	5,616	$	72
Total impaired loans	$	27,157	$	29,257	$	3,106	$	27,207	$	186

At December 31, 2014 and 2013, the Company had $4.9 million and $4.4 million of consumer mortgage loans secured by residential real estate properties for which foreclosure proceedings were in process, representing 61% and 35%, respectively, of non-performing loans within our consumer portfolio.