CHFC 2018 Annual Report

in addition to an adjustment for the accretion of computed impairment. TDRs are placed on nonaccrual status if they become 90 days past due as to principal or interest payments, or sooner if conditions warrant and measure impairment based on collateral values, if the loan is collateral dependent. Impaired Loans Impaired loans include loans on nonaccrual status and TDRs. Loans are considered impaired when based on current information and events it is probable the Corporation will be unable to collect all amounts due in accordance with the original contractual terms of the loan agreements. Impaired loans are accounted for at the lower of the present value of expected cash flows discounted at the loan's original effective interest rate or the estimated fair value of the collateral, if the loan is collateral dependent. When the present value of expected cash flows or the fair value of collateral of an impaired loan in the originated loan portfolio is less than the amount of unpaid principal outstanding on the loan, the principal balance of the loan is reduced to its carrying value through either a specific allowance for loan losses or a partial charge-off of the loan balance. Nonperforming Loans Nonperforming loans are comprised of loans for which the accrual of interest has been discontinued (nonaccrual loans, including nonaccrual TDRs). Acquired loans that were classified as nonperforming loans prior to being acquired and acquired loans that are not performing in accordance with contractual terms subsequent to acquisition are not classified as nonperforming loans subsequent to acquisition because the loans are recorded in pools at net realizable value based on the principal and interest the Corporation expects to collect on such loans. They continue to earn interest from accretable yield, independent of performance in accordance of their contractual terms, and are expected to be fully collected under the new carrying values of such loans (that is, the new cost basis arising out of purchase accounting). Allowance for Loan Losses The allowance for credit losses ("allowance") consists of two components: the allowance for loan losses (including both the originated and acquired loan portfolios) and the reserve for unfunded credit commitments. Unfunded credit commitments include items such as letters of credit, financial guarantees and binding unfunded loan commitments. The allowance represents management’s estimate of probable credit losses inherent in the loan and credit commitment portfolios as of period end. The allowance is calculated with the objective of maintaining a reserve sufficient to absorb losses inherent in the loan portfolio. The determination of the amount of the allowance requires significant judgment and the use of estimates related to the amount and timing of expected cash flows on acquired loans and impaired loans, collateral values on impaired loans, and estimated losses on pools of homogeneous loans based on historical loss experience, and consideration of current economic trends and conditions, all of which may be susceptible to significant change. The principal assumption used in deriving the allowance is the estimate of a loss percentage for each type of loan. In determining the allowance for the originated loan portfolio and the related provision for loan losses, the Corporation considers three principal elements: (i) valuation allowances based upon probable losses identified during the review of impaired loans, (ii) reserves, by loan classes, on all other loans based on a six-year historical loan loss experience, loan loss trends and giving consideration to estimated loss emergence periods, and (iii) a reserve for qualitative factors that take into consideration risks inherent in the originated loan portfolio that differ from historical loan loss experience. The first element reflects the Corporation's estimate of probable losses based upon the systematic review of individually impaired loans in the originated loan portfolio. These estimates are based upon a number of objective factors, such as payment history, financial condition of the borrower and discounted collateral exposure. The Corporation measures the investment in an impaired loan based on one of three methods: the loan's observable market price; the fair value of the collateral; or the present value of expected future cash flows discounted at the loan's effective interest rate. Loans in the commercial loan portfolio that were in nonaccrual status (including nonaccrual TDRs) were valued based on the fair value of the collateral securing the loan, while accruing TDRs in the commercial loan portfolio and consumer loans were valued based on the present value of expected future cash flows discounted at the loan's effective interest rate. It is the Corporation's general policy to obtain new appraisals at initial impairment and updated when deemed necessary on nonaccrual loans in the commercial loan portfolio. Appraisals on nonaccrual loans in the consumer loan portfolio are updated at initial impairment and when deemed necessary where there is a Chemical Financial Corporation Notes to Consolidated Financial Statements December 31, 2018 92