5.	Allowance for Loan Losses and Credit Quality of Loans

Allowance for Loan Losses

The allowance for loan losses is maintained at a level estimated by management to provide adequately for probable incurred losses inherent in the current loan portfolio. The appropriateness of the allowance for loan losses is continuously monitored. It is assessed for appropriateness using a methodology designed to ensure the level of the allowance reasonably reflects the loan portfolio’s risk profile. It is evaluated to ensure that it is sufficient to absorb all reasonably estimable credit losses inherent in the current loan portfolio.

To develop and document a systematic methodology for determining the allowance for loan losses, the Company has divided the loan portfolio into three segments, each with different risk characteristics and methodologies for assessing risk. Those segments are further segregated between our loans accounted for under the amortized cost method (referred to as “originated” loans) and loans acquired in a business combination (referred to as “acquired” loans). Each portfolio segment is broken down into class segments where appropriate. Class segments contain unique measurement attributes, risk characteristics and methods for monitoring and assessing risk that are necessary to develop the allowance for loan losses. Unique characteristics such as borrower type, loan type, collateral type and risk characteristics define each class segment. The following table illustrates the portfolio and class segments for the Company’s loan portfolio:

Portfolio	Class
Commercial Loans	Commercial
	Commercial Real Estate
	Agricultural
	Agricultural Real Estate
	Business Banking
Consumer Loans	Indirect
	Home Equity
	Direct
Residential Real Estate Mortgages

Commercial Loans

The Company offers a variety of commercial loan products including commercial (non-real estate), commercial real estate, agricultural, agricultural real estate and business banking loans. The Company’s underwriting analysis for commercial loans typically includes credit verification, independent appraisals, a review of the borrower’s financial condition and a detailed analysis of the borrower’s underlying cash flows.

Commercial – The Company offers a variety of loan options to meet the specific needs of our commercial customers including term loans, time notes and lines of credit. Such loans are made available to businesses for working capital needs such as inventory and receivables, business expansion and equipment purchases. Generally, a collateral lien is placed on equipment or other assets owned by the borrower. These loans typically carry a higher risk than commercial real estate loans due to the nature of the underlying collateral, which can be business assets such as equipment and accounts receivable, which are generally less liquid than real estate. To reduce the risk, management also attempts to secure real estate as collateral and obtain personal guarantees of the borrowers.

Commercial Real Estate – The Company offers commercial real estate loans to finance real estate purchases, refinancings, expansions and improvements to commercial properties. Commercial real estate loans are made to finance the purchases of real property, which generally consist of real estate with completed structures. These commercial real estate loans are secured by liens on the real estate, which may include both owner occupied and non-owner-occupied properties, such as apartments, commercial structures, housing businesses, health care facilities and other facilities. These loans are typically less risky than commercial loans, since they are secured by real estate and buildings. The Company’s underwriting analysis includes credit verification, independent appraisals, a review of the borrower’s financial condition and a detailed analysis of the borrower’s underlying cash flows. These loans are typically originated in amounts of no more than 80% of the appraised value of the property.

Agricultural – The Company offers a variety of agricultural loans to meet the needs of our agricultural customers including term loans, time notes and lines of credit. These loans are made to purchase livestock, purchase and modernize equipment and finance seasonal crop expenses. Generally, a collateral lien is placed on the livestock, equipment, produce inventories and/or receivables owned by the borrower. These loans may carry a higher risk than commercial and agricultural real estate loans due to the industry price volatility and in some cases, the perishable nature of the underlying collateral. To reduce these risks, management may attempt to secure these loans with additional real estate collateral, obtain personal guarantees of the borrowers or obtain government loan guarantees to provide further support.

Agricultural Real Estate – The Company offers real estate loans to our agricultural customers to finance farm related real estate purchases, refinancings, expansions and improvements to agricultural properties. Agricultural real estate loans are made to finance the purchase and improvements of farm properties that generally consist of barns, production facilities and land. The agricultural real estate loans are secured by liens on the farm real estate. Because they are secured by land and buildings, these loans may be less risky than agricultural loans. The Company’s underwriting analysis includes credit verification, independent appraisals, a review of the borrower’s financial condition and a detailed analysis of the borrower’s underlying cash flows. These loans are typically originated in amounts of no more than 75% of the appraised value of the property. Government loan guarantees may be obtained to provide further support.

Business Banking – The Company offers a variety of loan options to meet the specific needs of our business banking customers including term loans, business banking mortgages and lines of credit. Such loans are generally less than $750 thousand and are made available to businesses for working capital such as inventory and receivables, business expansion, equipment purchases and agricultural needs. Generally, a collateral lien is placed on equipment or other assets owned by the borrower such as inventory and/or receivables. These loans carry a higher risk than commercial loans due to the smaller size of the borrower and lower levels of capital. To reduce these risks, the Company obtains personal guarantees of the owners for a majority of the loans.

Consumer Loans

The Company offers a variety of consumer loan products including indirect, home equity and direct loans.

Indirect – The Company maintains relationships with many dealers primarily in the communities that we serve. Through these relationships, the Company primarily finances the purchases of automobiles and recreational vehicles (such as campers, boats, etc.) indirectly through dealer relationships. Approximately 70% of the indirect relationships represent automobile financing. Most of these loans carry a fixed rate of interest with principal repayment terms typically ranging from three to six years, based upon the nature of the collateral and the size of the loan. The majority of indirect consumer loans are underwritten on a secured basis using the underlying collateral being financed. As of December 31, 2017 and 2016, respectively, the consumer loan portfolio includes $403.6 million and $374.9 million of unsecured consumer loans across a national footprint originated through our relationship with national technology-driven consumer lending companies. Advances of credit through this specialty lending business line are to prime borrowers and are subject to the Company’s underwriting standards.

Home Equity – The Company offers fixed home equity loans as well as home equity lines of credit to consumers to finance home improvements, debt consolidation, education and other uses. Consumers are able to borrow up to 85% of the equity in their homes. The Company originates home equity lines of credit and second mortgage loans (loans secured by a second lien position on one-to-four-family residential real estate). These loans carry a higher risk than first mortgage residential loans as they are in a second position with respect to collateral. Risk is reduced through underwriting criteria, which include credit verification, appraisals, a review of the borrower’s financial condition and personal cash flows. A security interest, with title insurance when necessary, is taken in the underlying real estate.

Direct – The Company offers a variety of consumer installment loans to finance vehicle purchases, mobile home purchases and personal expenditures. Most of these loans carry a fixed rate of interest with principal repayment terms typically ranging from one to ten years, based upon the nature of the collateral and the size of the loan. The majority of consumer loans are underwritten on a secured basis using the underlying collateral being financed or a customer’s deposit account. In addition to installment loans, the Company also offers personal lines of credit and overdraft protection. A minimal amount of loans are unsecured, which carry a higher risk of loss.

Residential Real Estate Mortgages

Residential real estate loans consist primarily of loans secured by first or second deeds of trust on primary residences. We originate adjustable-rate and fixed-rate, one-to-four-family residential real estate loans for the construction, purchase or refinancing of a mortgage. These loans are collateralized by owner-occupied properties located in the Company’s market area. When market conditions are favorable, for longer term, fixed-rate residential mortgages without escrow, the Company retains the servicing, but sells the right to receive principal and interest to Freddie Mac. This practice allows the Company to manage interest rate, liquidity risk and credit risk. Loans on one-to-four-family residential real estate are generally originated in amounts of no more than 85% of the purchase price or appraised value (whichever is lower) or have private mortgage insurance. Mortgage title insurance and hazard insurance are normally required. Construction loans have a unique risk, because they are secured by an incomplete dwelling. This risk is reduced through periodic site inspections, including one at each loan draw period.

Allowance for Loan Loss Calculation

For purposes of evaluating the adequacy of the allowance, the Company considers a number of significant factors that affect the collectability of the portfolio. For individually impaired loans, these include estimates of impairment, if any, which reflect the facts and circumstances that affect the likelihood of repayment of such loans as of the evaluation date. For homogeneous pools of loans, estimates of the Company’s exposure to credit loss reflect a current assessment of a number of factors, which could affect collectability. These factors include: past loss experience, size, trend, composition and nature of loans; changes in lending policies and procedures, including underwriting standards and collection, charge-offs and recoveries; trends experienced in nonperforming and delinquent loans; current economic conditions in the Company’s market; portfolio concentrations that may affect loss experienced across one or more components of the portfolio; the effect of external factors such as competition, legal and regulatory requirements; and the experience, ability and depth of lending management and staff.

After a thorough consideration of the factors discussed above, any required additions or reductions to the allowance for loan losses are made periodically by charges or credits to the provision for loan losses. These charges are necessary to maintain the allowance at a level that management believes is reflective of overall level of incurred loss in the portfolio. While management uses available information to recognize losses on loans, additions and reductions of the allowance may fluctuate from one reporting period to another. These fluctuations are reflective of changes in risk associated with portfolio content and/or changes in management’s assessment of any or all of the determining factors discussed above.

The following table illustrates the changes in the allowance for loan losses by portfolio segment:

(In thousands)	Commercial Loans			Consumer Loans			Residential Real Estate Mortgages			Unallocated			Total
Balance as of December 31, 2016	$	25,444		$	33,375		$	6,381		$	-		$	65,200
Charge-offs		(4,169	)		(27,072	)		(1,846	)		-			(33,087	)
Recoveries		1,077			5,142			180			-			6,399
Provision		5,254			25,385			349			-			30,988
Ending Balance as of December 31, 2017	$	27,606		$	36,830		$	5,064		$	-		$	69,500

Balance as of December 31, 2015	$	25,545		$	29,253		$	7,960		$	260		$	63,018
Charge-offs		(4,592	)		(23,364	)		(1,343	)		-			(29,299	)
Recoveries		1,887			3,870			293			-			6,050
Provision		2,604			23,616			(529	)		(260	)		25,431
Ending Balance as of December 31, 2016	$	25,444		$	33,375		$	6,381		$	-		$	65,200

Balance as of December 31, 2014	$	32,433		$	26,720		$	7,130		$	76		$	66,359
Charge-offs		(5,718	)		(18,140	)		(2,229	)		-			(26,087	)
Recoveries		1,014			3,127			320			-			4,461
Provision		(2,184	)		17,546			2,739			184			18,285
Ending Balance as of December 31, 2015	$	25,545		$	29,253		$	7,960		$	260		$	63,018

For acquired loans, to the extent that we experience deterioration in borrower credit quality resulting in a decrease in our expected cash flows subsequent to acquisition of the loans, an allowance for loan losses would be established based on our estimate of future credit losses over the remaining life of the loans. There was no allowance for loan losses for the acquired loan portfolio as of December 31, 2017 and $0.7 million as of December 31, 2016. Net charge-offs related to acquired loans totaled approximately $0.7 million, $0.5 million and $2.7 million during the years ended December 31, 2017, 2016 and 2015, respectively, and are included in the table above.

The following table illustrates the allowance for loan losses and the recorded investment by portfolio segment:

(In thousands)	Commercial Loans		Consumer Loans		Residential Real Estate Mortgages		Total
As of December 31, 2017
Allowance for loan losses	$	27,606	$	36,830	$	5,064	$	69,500
Allowance for loans individually evaluated for impairment		57		-		-		57
Allowance for loans collectively evaluated for impairment		27,549		36,830		5,064		69,443
Ending balance of loans		3,028,269		2,234,809		1,321,695		6,584,773
Ending balance of originated loans individually evaluated for impairment		5,876		8,432		6,830		21,138
Ending balance of acquired loans collectively evaluated for impairment		187,313		43,906		170,472		401,691
Ending balance of originated loans collectively evaluated for impairment	$	2,835,080	$	2,182,471	$	1,144,393	$	6,161,944

As of December 31, 2016
Allowance for loan losses	$	25,444	$	33,375	$	6,381	$	65,200
Allowance for loans individually evaluated for impairment		1,517		-		-		1,517
Allowance for loans collectively evaluated for impairment		23,927		33,375		6,381		63,683
Ending balance of loans		2,786,002		2,149,441		1,262,614		6,198,057
Ending balance of originated loans individually evaluated for impairment		13,070		8,488		6,111		27,669
Ending balance of acquired loans individually evaluated for impairment		1,205		-		-		1,205
Ending balance of acquired loans collectively evaluated for impairment		236,413		63,005		199,471		498,889
Ending balance of originated loans collectively evaluated for impairment	$	2,535,314	$	2,077,948	$	1,057,032	$	5,670,294

The following table sets forth information with regard to past due and nonperforming loans by loan class:

(In thousands)	31-60 Days Past Due Accruing		61-90 Days Past Due Accruing		Greater Than 90 Days Past Due Accruing		Total Past Due Accruing		Nonaccrual		Current		Recorded Total Loans
As of December 31, 2017
Originated
Commercial Loans:
Commercial	$	-	$	-	$	-	$	-	$	202	$	753,577	$	753,779
Commercial Real Estate		161		138		-		299		3,178		1,533,065		1,536,542
Agricultural		117		-		-		117		1,043		34,386		35,546
Agricultural Real Estate		493		-		-		493		2,736		30,905		34,134
Business Banking		1,907		597		-		2,504		5,304		473,147		480,955
Total Commercial Loans	$	2,678	$	735	$	-	$	3,413	$	12,463	$	2,825,080	$	2,840,956
Consumer Loans:
Indirect	$	18,747	$	4,033	$	3,492	$	26,272	$	2,115	$	1,642,664	$	1,671,051
Home Equity		2,887		854		341		4,082		2,736		448,081		454,899
Direct		341		108		70		519		35		64,399		64,953
Total Consumer Loans	$	21,975	$	4,995	$	3,903	$	30,873	$	4,886	$	2,155,144	$	2,190,903
Residential Real Estate Mortgages	$	3,730	$	667	$	1,262	$	5,659	$	5,987	$	1,139,577	$	1,151,223
Total Originated Loans	$	28,383	$	6,397	$	5,165	$	39,945	$	23,336	$	6,119,801	$	6,183,082

Acquired
Commercial Loans:
Commercial	$	-	$	-	$	-	$	-	$	-	$	39,575	$	39,575
Commercial Real Estate		-		-		-		-		2		106,632		106,634
Business Banking		354		-		-		354		669		40,081		41,104
Total Commercial Loans	$	354	$	-	$	-	$	354	$	671	$	186,288	$	187,313
Consumer Loans:
Indirect	$	38	$	-	$	1	$	39	$	22	$	1,157	$	1,218
Home Equity		254		34		103		391		225		39,256		39,872
Direct		6		1		1		8		23		2,785		2,816
Total Consumer Loans	$	298	$	35	$	105	$	438	$	270	$	43,198	$	43,906
Residential Real Estate Mortgages	$	627	$	226	$	140	$	993	$	1,431	$	168,048	$	170,472
Total Acquired Loans	$	1,279	$	261	$	245	$	1,785	$	2,372	$	397,534	$	401,691
Total Loans	$	29,662	$	6,658	$	5,410	$	41,730	$	25,708	$	6,517,335	$	6,584,773

(In thousands)	31-60 Days Past Due Accruing		61-90 Days Past Due Accruing		Greater Than 90 Days Past Due Accruing		Total Past Due Accruing		Nonaccrual		Current		Recorded Total Loans
As of December 31, 2016
Originated
Commercial Loans:
Commercial	$	33	$	5	$	-	$	38	$	2,964	$	650,568	$	653,570
Commercial Real Estate		-		-		-		-		7,935		1,343,854		1,351,789
Agricultural		-		-		-		-		730		37,186		37,916
Agricultural Real Estate		-		-		-		-		1,803		30,619		32,422
Business Banking		1,609		318		-		1,927		4,860		465,900		472,687
Total Commercial Loans	$	1,642	$	323	$	-	$	1,965	$	18,292	$	2,528,127	$	2,548,384
Consumer Loans:
Indirect	$	19,253	$	4,185	$	2,499	$	25,937	$	2,145	$	1,538,593	$	1,566,675
Home Equity		3,416		1,065		528		5,009		2,851		448,797		456,657
Direct		452		125		20		597		107		62,400		63,104
Total Consumer Loans	$	23,121	$	5,375	$	3,047	$	31,543	$	5,103	$	2,049,790	$	2,086,436
Residential Real Estate Mortgages	$	2,725	$	172	$	1,406	$	4,303	$	6,682	$	1,052,158	$	1,063,143
Total Originated Loans	$	27,488	$	5,870	$	4,453	$	37,811	$	30,077	$	5,630,075	$	5,697,963

Acquired
Commercial Loans:
Commercial	$	-	$	-	$	-	$	-	$	-	$	49,447	$	49,447
Commercial Real Estate		-		-		-		-		1,891		135,398		137,289
Business Banking		236		-		-		236		804		49,842		50,882
Total Commercial Loans	$	236	$	-	$	-	$	236	$	2,695	$	234,687	$	237,618
Consumer Loans:
Indirect	$	100	$	5	$	-	$	105	$	47	$	8,541	$	8,693
Home Equity		254		53		30		337		237		50,553		51,127
Direct		30		2		-		32		20		3,133		3,185
Total Consumer Loans	$	384	$	60	$	30	$	474	$	304	$	62,227	$	63,005
Residential Real Estate Mortgages	$	609	$	28	$	327	$	964	$	2,636	$	195,871	$	199,471
Total Acquired Loans	$	1,229	$	88	$	357	$	1,674	$	5,635	$	492,785	$	500,094
Total Loans	$	28,717	$	5,958	$	4,810	$	39,485	$	35,712	$	6,122,860	$	6,198,057

There were no material commitments to extend further credit to borrowers with nonperforming loans as of December 31, 2017 and 2016.

Classified loans, including all TDRs and nonaccrual commercial loans that are graded Substandard or below, with outstanding balances of $750 thousand or more are evaluated for impairment through the Company’s quarterly status review process. The Company considers commercial loans less than $750 thousand to be homogeneous loans. In determining that we will be unable to collect all principal and interest payments due in accordance with the contractual terms of the loan agreements, we consider factors such as payment history and changes in the financial condition of individual borrowers, local economic conditions, historical loss experience and the conditions of the various markets in which the collateral may be liquidated. For loans that are identified as impaired, impairment is measured by one of three methods: 1) the fair value of collateral less cost to sell, 2) present value of expected future cash flows or 3) the loan’s observable market price. These impaired loans are reviewed on a quarterly basis for changes in the measurement of impairment. Any change to the previously recognized amount of impairment loss is recognized as a component of the provision for loan losses.

The following provides additional information on impaired loans specifically evaluated for impairment:

	December 31, 2017						December 31, 2016
(In thousands)	Recorded Investment Balance (Book)		Unpaid Principal Balance (Legal)		Related Allowance		Recorded Investment Balance (Book)		Unpaid Principal Balance (Legal)		Related Allowance
Originated
With no related allowance recorded:
Commercial Loans:
Commercial	$	-	$	251			$	1,278	$	1,697
Commercial Real Estate		2,211		3,979				3,816		3,841
Agricultural		452		465				130		137
Agricultural Real Estate		2,250		2,423				1,434		1,567
Business Banking		860		1,730				655		728
Total Commercial Loans	$	5,773	$	8,848			$	7,313	$	7,970
Consumer Loans:
Indirect	$	131	$	143			$	5	$	16
Home Equity		8,027		9,966				8,483		9,429
Direct		274		274				-		-
Total Consumer Loans	$	8,432	$	10,383			$	8,488	$	9,445
Residential Real Estate Mortgages	$	6,830	$	8,780			$	6,111	$	6,906
Total	$	21,035	$	28,011			$	21,912	$	24,321

With an allowance recorded:
Commercial Loans:
Commercial Real Estate	$	76	$	82	$	30	$	5,553	$	5,736	$	735
Agricultural		27		27		27		49		49		37
Agricultural Real Estate		-		-		-		155		155		54
Total Commercial Loans	$	103	$	109	$	57	$	5,757	$	5,940	$	826

Acquired
With an allowance recorded:
Commercial Loans:
Commercial Real Estate	$	-	$	-	$	-	$	1,205	$	1,321	$	691
Total Commercial Loans	$	-	$	-	$	-	$	1,205	$	1,321	$	691
Total	$	21,138	$	28,120	$	57	$	28,874	$	31,582	$	1,517

The following table summarizes the average recorded investments on loans specifically evaluated for impairment and the interest income recognized:

	December 31, 2017				December 31, 2016				December 31, 2015
(In thousands)	Average Recorded Investment		Interest Income Recognized Accrual		Average Recorded Investment		Interest Income Recognized Accrual		Average Recorded Investment		Interest Income Recognized Accrual
Originated
Commercial Loans:
Commercial	$	1,841	$	-	$	6,217	$	-	$	2,219	$	71
Commercial Real Estate		3,534		115		5,828		167		8,538		164
Agricultural		224		1		715		1		148		1
Agricultural Real Estate		1,709		43		908		44		628		45
Business Banking		875		12		830		9		960		21
Total Commerical Loans	$	8,183	$	171	$	14,498	$	221	$	12,493	$	302
Consumer Loans:
Indirect	$	35	$	3	$	8	$	-	$	-	$	-
Home Equity		8,226		446		8,278		480		7,070		374
Direct		178		8		-		-		-		-
Total Consumer Loans	$	8,439	$	457	$	8,286	$	480	$	7,070	$	374
Residential Real Estate Mortgages	$	6,523		296		6,143		269		5,128		219
Total Originated	$	23,145	$	924	$	28,927	$	970	$	24,691	$	895

Acquired
Commercial Loans
Commercial	$	-	$	-	$	-	$	-	$	2,045	$	-
Commercial Real Estate		93		-		1,205		-		5,734		-
Total Commerical Loans	$	93	$	-	$	1,205	$	-	$	7,779	$	-
Total Acquired	$	93	$	-	$	1,205	$	-	$	7,779	$	-
Total	$	23,238	$	924	$	30,132	$	970	$	32,470	$	895

Credit Quality Indicators

The Company has developed an internal loan grading system to evaluate and quantify the Company’s loan portfolio with respect to quality and risk. The system focuses on, among other things, financial strength of borrowers, experience and depth of borrower’s management, primary and secondary sources of repayment, payment history, nature of the business and outlook on particular industries. The internal grading system enables the Company to monitor the quality of the entire loan portfolio on a consistent basis and provide management with an early warning system, enabling recognition and response to problem loans and potential problem loans.

Commercial Grading System

For commercial and agricultural loans, the Company uses a grading system that relies on quantifiable and measurable characteristics when available. This would include comparison of financial strength to available industry averages, comparison of transaction factors (loan terms and conditions) to loan policy and comparison of credit history to stated repayment terms and industry averages. Some grading factors are necessarily more subjective such as economic and industry factors, regulatory environment and management. Classified loans are graded Doubtful, Substandard, Special Mention and Pass.

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Doubtful

A Doubtful loan has a high probability of total or substantial loss, but because of specific pending events that may strengthen the asset, its classification as a loss is deferred. Doubtful borrowers are usually in default, lack adequate liquidity or capital and lack the resources necessary to remain an operating entity. Pending events can include mergers, acquisitions, liquidations, capital injections, the perfection of liens on additional collateral, the valuation of collateral and refinancing. Generally, pending events should be resolved within a relatively short period and the ratings will be adjusted based on the new information. Nonaccrual treatment is required for Doubtful assets because of the high

probability of loss.

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Substandard

Substandard loans have a high probability of payment default or they have other well-defined weaknesses. They require more intensive supervision by bank management. Substandard loans are generally characterized by current or expected unprofitable operations, inadequate debt service coverage, inadequate liquidity or marginal capitalization. Repayment may depend on collateral or other credit risk mitigants. For some Substandard loans, the likelihood of full collection of interest and principal may be in doubt and those loans should be placed on nonaccrual. Although Substandard assets in the aggregate will have a distinct potential for loss, an individual asset’s loss potential does not have to be distinct for the asset to be rated Substandard.

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Special Mention

Special Mention loans have potential weaknesses that may, if not checked or corrected, weaken the asset or inadequately protect the Company’s position at some future date. These loans pose elevated risk, but their weakness does not yet justify a Substandard classification. Borrowers may be experiencing adverse operating trends (i.e., declining revenues or margins) or may be struggling with an ill-proportioned balance sheet (i.e., increasing inventory without an increase in sales, high leverage, tight liquidity). Adverse economic or market conditions, such as interest rate increases or the entry of a new competitor, may also support a Special Mention rating. Although a Special Mention loan has a higher probability of default than a Pass asset, its default is not imminent.

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Pass

Loans graded as Pass encompass all loans not graded as Doubtful, Substandard or Special Mention. Pass loans are in compliance with loan covenants and payments are generally made as agreed. Pass loans range from superior quality to fair quality.

Business Banking Grading System

Business Banking loans are graded as either Classified or Non-classified:

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Classified

Classified loans are inadequately protected by the current worth and paying capacity of the obligor or, if applicable, the collateral pledged. These loans have a well-defined weakness or weaknesses, that jeopardize the liquidation of the debt or in some cases make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable. They are characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected. Classified loans have a high probability of payment default or a high probability of total or substantial loss. These loans require more intensive supervision by management and are generally characterized by current or expected unprofitable operations, inadequate debt service coverage, inadequate liquidity or marginal capitalization. Repayment may depend on collateral or other credit risk mitigants. When the likelihood of full collection of interest and principal may be in doubt, Classified loans are considered to have a nonaccrual status. In some cases, Classified loans are considered uncollectible and of such little value that their continuance as assets is not warranted.

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Non-classified

Loans graded as Non-classified encompass all loans not graded as Classified. Non-classified loans are in compliance with loan covenants and payments are generally made as agreed.

Consumer and Residential Mortgage Grading System

Consumer and Residential Mortgage loans are graded as either Nonperforming or Performing.

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Nonperforming

Nonperforming loans are loans that are 1) over 90 days past due and interest is still accruing or 2) on nonaccrual status.

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Performing

All loans not meeting any of these three criteria are considered Performing.

The following tables illustrate the Company’s credit quality by loan class:

(In thousands)	December 31, 2017
Originated
Commercial Credit Exposure
By Internally Assigned Grade:	Commercial		Commercial Real Estate		Agricultural		Agricultural Real Estate		Total
Pass	$	708,567	$	1,481,926	$	31,142	$	23,381	$	2,245,016
Special Mention		30,337		28,264		2,294		2,441		63,336
Substandard		14,875		26,352		2,110		8,312		51,649
Total	$	753,779	$	1,536,542	$	35,546	$	34,134	$	2,360,001

Business Banking Credit Exposure
By Internally Assigned Grade:		Business Banking		Total
Non-classified	$	468,898	$	468,898
Classified		12,057		12,057
Total	$	480,955	$	480,955

Consumer Credit Exposure
By Payment Activity:	Indirect		Home Equity		Direct		Total
Performing	$	1,665,444	$	451,822	$	64,848	$	2,182,114
Nonperforming		5,607		3,077		105		8,789
Total	$	1,671,051	$	454,899	$	64,953	$	2,190,903

Residential Mortgage Credit Exposure
By Payment Activity:	Residential Mortgage		Total
Performing	$	1,143,974	$	1,143,974
Nonperforming		7,249		7,249
Total	$	1,151,223	$	1,151,223

Acquired
Commercial Credit Exposure
By Internally Assigned Grade:	Commercial		Commercial Real Estate		Total
Pass	$	37,825	$	103,248	$	141,073
Special Mention		425		498		923
Substandard		1,325		2,888		4,213
Total	$	39,575	$	106,634	$	146,209

Business Banking Credit Exposure
By Internally Assigned Grade:	Business Banking		Total
Non-classified	$	38,236	$	38,236
Classified		2,868		2,868
Total	$	41,104	$	41,104

Consumer Credit Exposure
By Payment Activity:	Indirect		Home E quity		Direct		Total
Performing	$	1,195	$	39,544	$	2,792	$	43,531
Nonperforming		23		328		24		375
Total	$	1,218	$	39,872	$	2,816	$	43,906

Residential Mortgage Credit Exposure
By Payment Activity:	Residential Mortgage		Total
Performing	$	168,901	$	168,901
Nonperforming		1,571		1,571
Total	$	170,472	$	170,472

(In thousands)	December 31, 2016
Originated
Commercial Credit Exposure
By Internally Assigned Grade:	Commercial		Commercial Real Estate		Agricultural		Agricultural Real Estate		Total
Pass	$	616,829	$	1,288,409	$	36,762	$	28,912	$	1,970,912
Special Mention		7,750		31,053		25		1,896		40,724
Substandard		28,991		32,327		1,124		1,614		64,056
Doubtful		-		-		5		-		5
Total	$	653,570	$	1,351,789	$	37,916	$	32,422	$	2,075,697

Business Banking Credit Exposure
By Internally Assigned Grade:	Business Banking		Total
Non-classified	$	458,864	$	458,864
Classified		13,823		13,823
Total	$	472,687	$	472,687

Consumer Credit Exposure
By Payment Activity:	Indirect		Home Equity		Direct		Total
Performing	$	1,562,031	$	453,278	$	62,977	$	2,078,286
Nonperforming		4,644		3,379		127		8,150
Total	$	1,566,675	$	456,657	$	63,104	$	2,086,436

Residential Mortgage Credit Exposure
By Payment Activity:	Residential Mortgage		Total
Performing	$	1,055,055	$	1,055,055
Nonperforming		8,088		8,088
Total	$	1,063,143	$	1,063,143

Acquired
Commercial Credit Exposure
By Internally Assigned Grade:	Commercial		Commercial Real Estate		Total
Pass	$	48,194	$	127,660	$	175,854
Special Mention		76		1,231		1,307
Substandard		1,177		7,193		8,370
Doubtful		-		1,205		1,205
Total	$	49,447	$	137,289	$	186,736

Business Banking Credit Exposure
By Internally Assigned Grade:	Business Banking		Total
Non-classified	$	47,347	$	47,347
Classified		3,535		3,535
Total	$	50,882	$	50,882

Consumer Credit Exposure
By Payment Activity:	Indirect		Home Equity		Direct		Total
Performing	$	8,646	$	50,860	$	3,165	$	62,671
Nonperforming		47		267		20		334
Total	$	8,693	$	51,127	$	3,185	$	63,005

Residential Mortgage Credit Exposure
By Payment Activity:	Residential Mortgage		Total
Performing	$	196,508	$	196,508
Nonperforming		2,963		2,963
Total	$	199,471	$	199,471

Troubled Debt Restructuring

When the Company modifies a loan in a troubled debt restructuring, such modifications include one or a combination of the following: an extension of the maturity date at a stated rate of interest lower than the current market rate for new debt with similar risk; temporary reduction in the interest rate; or change in scheduled payment amount. Residential and home equity TDRs occurring during 2017 and 2016 were due to the reduction in the interest rate or extension of the term. Commercial and business banking TDRs during 2017 and 2016 were both a reduction of the interest rate and change in terms.

When the Company modifies a loan in a troubled debt restructuring, management measures for impairment, if any, based on the present value of the expected future cash flows, discounted at the contractual interest rate of the original loan agreement, except when the sold (remaining) source of repayment for the loan is the operation or liquidation of the collateral. In these cases, management uses the current fair value of the collateral, less selling costs. If management determines that the value of the modified loan is less than the recorded investment in the loan an impairment charge would be recorded.

The following tables illustrate the recorded investment and number of modifications for modified loans, including the recorded investment in the loans prior to a modification and the recorded investment in the loans after restructuring:

	Year ended December 31, 2017
(In thousands)	Number of Contracts		Pre- Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment
Commercial Loans:
Commercial		1	$	3,300	$	3,239
Business Banking		3		385		381
Total Commercial Loans		4	$	3,685	$	3,620
Consumer Loans:
Indirect		8	$	145	$	143
Home Equity		13		552		600
Direct		2		279		279
Total Consumer Loans		23	$	976	$	1,022
Residential Real Estate Mortgages		15	$	1,454	$	1,474
Total Troubled Debt Restructurings		42	$	6,115	$	6,116

	Year ended December 31, 2016
(In thousands)	Number of contracts		Pre- Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment
Consumer Loans:
Home Equity		28	$	1,886	$	1,743
Total Consumer Loans		28	$	1,886	$	1,743
Residential Real Estate Mortgages		13	$	1,084	$	843
Total Troubled Debt Restructurings		41	$	2,970	$	2,586

The following table illustrates the recorded investment and number of modifications for TDRs where a concession has been made and subsequently defaulted during the period:

	Year ended December 31, 2017				Year ended December 31, 2016
(In thousands)	Number of contracts		Recorded Investment		Number of contracts		Recorded Investment
Commercial Loans:
Commercial		1	$	145		1	$	169
Commercial Real Estate		-		-		1		1,573
Business Banking		1		329		1		67
Total Commercial Loans		2	$	474		3	$	1,809
Consumer Loans:
Indirect		2	$	19		-	$	-
Home Equity		34		1,720		34		1,770
Total Consumer Loans		36	$	1,739		34	$	1,770
Residential Real Estate Mortgages		19	$	1,302		16	$	1,109
Total Troubled Debt Restructurings		57	$	3,515		53	$	4,688