5. FAIR VALUE

As described in Note 15. Recent Accounting Pronouncements, during the first quarter of 2018, the Company adopted Accounting Standards Update (“ASU”) 2016‑01, Financial Instruments – Overall (Subtopic 825‑10): Recognition and Measurement of Financial Assets and Financial Liabilities. The Company adopted the amended guidance that requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes.

FASB ASC No. 820‑10 defines fair value as the exchange price that would be received for an asset or 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. FASB ASC 820‑10 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair values:

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 assumptions about the assumptions that market participants would use in pricing an asset or liability.

The following tables summarize assets and liabilities measured at fair value on a recurring basis:


	September 30, 2018
			Fair Value Measurements Using:
			Quoted Prices
			In Active	Significant
			Markets for	Other		Significant
			Identical	Observable		Unobservable
	Carrying		Assets	Inputs		Inputs
(In thousands)	Value		(Level 1)	(Level 2)		(Level 3)
Financial assets:
Available for sale securities:
U.S. GSE securities	$	28,544		$	28,544
State and municipal obligations		35,172			35,172
U.S. GSE residential mortgage-backed securities		92,730			92,730
U.S. GSE residential collateralized mortgage obligations		345,309			345,309
U.S. GSE commercial mortgage-backed securities		3,480			3,480
U.S. GSE commercial collateralized mortgage obligations		90,669			90,669
Other asset backed securities		23,522			23,522
Corporate bonds		42,436			42,436
Total available for sale securities	$	661,862		$	661,862
Derivatives	$	9,865		$	9,865

Financial liabilities:
Derivatives	$	3,364		$	3,364


	December 31, 2017
			Fair Value Measurements Using:
			Quoted Prices
			In Active	Significant
			Markets for	Other		Significant
			Identical	Observable		Unobservable
	Carrying		Assets	Inputs		Inputs
(In thousands)	Value		(Level 1)	(Level 2)		(Level 3)
Financial assets:
Available for sale securities:
U.S. GSE securities	$	56,814		$	56,814
State and municipal obligations		87,022			87,022
U.S. GSE residential mortgage-backed securities		186,901			186,901
U.S. GSE residential collateralized mortgage obligations		307,390			307,390
U.S. GSE commercial mortgage-backed securities		5,979			5,979
U.S. GSE commercial collateralized mortgage obligations		48,716			48,716
Other asset backed securities		23,401			23,401
Corporate bonds		43,693			43,693
Total available for sale securities	$	759,916		$	759,916
Derivatives	$	4,546		$	4,546

Financial liabilities:
Derivatives	$	1,823		$	1,823

The following tables summarize assets measured at fair value on a non-recurring basis:


	September 30, 2018
			Fair Value Measurements Using:
			Quoted Prices
			In Active	Significant
			Markets for	Other	Significant
			Identical	Observable	Unobservable
	Carrying		Assets	Inputs	Inputs
(In thousands)	Value		(Level 1)	(Level 2)	(Level 3)
Impaired loans	$	—			$	—
Other real estate owned	$	175			$	175


	December 31, 2017
			Fair Value Measurements Using:
			Quoted Prices
			In Active	Significant
			Markets for	Other	Significant
			Identical	Observable	Unobservable
	Carrying		Assets	Inputs	Inputs
(In thousands)	Value		(Level 1)	(Level 2)	(Level 3)
Impaired loans	$	—			$	—
Other real estate owned	$	—			$	—

There were no impaired loans with an allocated allowance for loan losses at September 30, 2018. Impaired loans with an allocated allowance for loan losses at December 31, 2017 had a carrying amount of zero, which is made up of the outstanding balance of $1.7 million, net of a valuation allowance of $1.7 million. This resulted in an additional provision for loan losses of $1.7 million that is included in the amount reported on the Consolidated Statements of Income for the year ended December 31, 2017.

Other real estate owned at September 30, 2018 had a carrying amount of $0.2 million with no valuation allowance recorded. Accordingly, there was no additional provision for loan losses included in the amount reported on the Consolidated Statements of Income. There was no other real estate owned at December 31, 2017.

The Company used the following methods and assumptions in estimating the fair value of its financial instruments:

Cash and Due from Banks and Interest Earning Deposits with Banks: Carrying amounts approximate fair value, since these instruments are either payable on demand or have short-term maturities and as such are classified as Level 1.

Securities Available for Sale and Held to Maturity: If available, the estimated fair values are based on independent dealer quotations on nationally recognized securities exchanges and are classified as Level 1. For securities where quoted prices are not available, fair value is based on matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities' relationship to other benchmark quoted securities resulting in a Level 2 classification.

Derivatives: Represents interest rate swaps for which the estimated fair values are based on valuation models using observable market data as of the measurement date resulting in a Level 2 classification.

Impaired Loans and Other Real Estate Owned: For impaired loans, the Company evaluates the fair value of the loan in accordance with current accounting guidance. For loans that are collateral dependent, the fair value of the collateral is used to determine the fair value of the loan. The fair value of the collateral is determined based on recent appraised values. The fair value of other real estate owned is also evaluated in accordance with current accounting guidance and determined based on recent appraised values less the estimated cost to sell. 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. Adjustments may relate to location, square footage, condition, amenities, market rate of leases as well as timing of comparable sales. All appraisals undergo a second review process to insure that the methodology employed and the values derived are reasonable. The fair value of the loan is compared to the carrying value to determine if any write-down or specific reserve is required. Impaired loans are evaluated quarterly for additional impairment and adjusted accordingly.

Appraisals for collateral-dependent impaired loans 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 the Company. Once received, the Credit Department reviews the assumptions and approaches utilized in the appraisal as well as the overall resulting fair value in comparison with independent data sources such as recent market data or industry-wide statistics. Management also considers the appraisal values for commercial properties associated with current loan origination activity. Collectively, this information is reviewed to help assess current trends in commercial property values. For each collateral dependent impaired loan, management considers information that relates to the type of commercial property to determine if such properties may have appreciated or depreciated in value since the date of the most recent appraisal. Adjustments to fair value are made only when the analysis indicates a probable decline in collateral values. Adjustments made in the appraisal process are not deemed material to the overall consolidated financial statements given the level of impaired loans measured at fair value on a nonrecurring basis.

Deposits: The estimated fair values of certificates of deposit are based on discounted cash flow calculations that use a replacement cost of funds approach to establishing discount rates for certificate of deposit maturities resulting in a Level 2 classification. Stated value is fair value for all other deposits resulting in a Level 1 classification.

Borrowed Funds: Represents federal funds purchased, repurchase agreements and FHLB advances for which the estimated fair values are based on discounted cash flow calculations that use a replacement cost of funds approach to establishing discount rates for funding maturities resulting in a Level 1 classification for overnight federal funds purchased, repurchase agreements and FHLB advances and a Level 2 classification for all other maturity terms.

Accrued Interest Receivable and Payable: For these short-term instruments, the carrying amount is a reasonable estimate of the fair value resulting in a Level 1, 2 or 3 classification consistent with the underlying asset or liability the interest is associated with.

Off-Balance-Sheet Liabilities: The fair value of off-balance-sheet commitments to extend credit is estimated using fees currently charged to enter into similar agreements. The fair value is immaterial as of September 30, 2018 and December 31, 2017.

Fair value estimates are made at specific points in time and are based on existing on-and off-balance sheet financial instruments. These estimates are subjective in nature and dependent on a number of significant assumptions associated with each financial instrument or group of financial instruments, including estimates of discount rates, risks associated with specific financial instruments, estimates of future cash flows, and relevant available market information. Changes in assumptions could significantly affect the estimates. In addition, fair value estimates do not reflect the value of anticipated future business, premiums or discounts that could result from offering for sale at one time the Company's entire holdings of a particular financial instrument, or the tax consequences of realizing gains or losses on the sale of financial instruments.

The following tables summarize the estimated fair values and recorded carrying amounts of the Company's financial instruments at September 30, 2018 and December 31, 2017:


	September 30, 2018
			Fair Value Measurements Using:
					Significant
			Quoted Prices In		Other		Significant
			Active Markets for		Observable		Unobservable
	Carrying		Identical Assets		Inputs		Inputs		Total
(In thousands)	Amount		(Level 1)		(Level 2)		(Level 3)		Fair Value
Financial assets:
Cash and due from banks	$	63,687	$	63,687	$	—	$	—	$	63,687
Interest earning deposits with banks		61,414		61,414		—		—		61,414
Securities available for sale		661,862		—		661,862		—		661,862
Securities restricted		25,162		n/a		n/a		n/a		n/a
Securities held to maturity		164,438		—		159,244		—		159,244
Loans held for sale		1,619		—		1,692		—		1,692
Loans, net		3,165,558		—		—		3,126,345		3,126,345
Derivatives		9,865		—		9,865		—		9,865
Accrued interest receivable		11,793		—		2,885		8,908		11,793

Financial liabilities:
Certificates of deposit		328,092		—		325,354		—		325,354
Demand and other deposits		3,291,050		3,291,050		—		—		3,291,050
Federal Home Loan Bank advances		265,648		—		259,116		—		259,116
Repurchase agreements		816		—		816		—		816
Subordinated debentures		78,746		—		73,917		—		73,917
Derivatives		3,364		—		3,364		—		3,364
Accrued interest payable		494		—		494		—		494


	December 31, 2017
			Fair Value Measurements Using:
					Significant
			Quoted Prices In		Other		Significant
			Active Markets for		Observable		Unobservable
	Carrying		Identical Assets		Inputs		Inputs		Total
(In thousands)	Amount		(Level 1)		(Level 2)		(Level 3)		Fair Value
Financial assets:
Cash and due from banks	$	76,614	$	76,614	$	—	$	—	$	76,614
Interest earning deposits with banks		18,133		18,133		—		—		18,133
Securities available for sale		759,916		—		759,916		—		759,916
Securities restricted		35,349		n/a		n/a		n/a		n/a
Securities held to maturity		180,866		—		179,885		—		179,885
Loans, net		3,071,045		—		—		3,010,023		3,010,023
Derivatives		4,546		—		4,546		—		4,546
Accrued interest receivable		11,652		—		3,211		8,441		11,652

Financial liabilities:
Certificates of deposit		222,364		—		220,775		—		220,775
Demand and other deposits		3,112,179		3,112,179		—		—		3,112,179
Federal funds purchased		50,000		50,000		—		—		50,000
Federal Home Loan Bank advances		501,374		185,000		313,558		—		498,558
Repurchase agreements		877		—		877		—		877
Subordinated debentures		78,641		—		77,933		—		77,933
Derivatives		1,823		—		1,823		—		1,823
Accrued interest payable		1,574		—		1,574		—		1,574