UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended ~~September 30, 2017~~March 31, 2018

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from __________________ to __________________

Commission File Number 001-33572

Bank of Marin Bancorp

(Exact name of Registrant as specified in its charter)



California		20-8859754
(State or other jurisdiction of incorporation)		(IRS Employer Identification No.)

504 Redwood Blvd., Suite 100, Novato, CA		94947
(Address of principal executive office)		(Zip Code)

Registrant’s telephone number, including area code: (415) 763-4520

Indicate by check mark whether the registrant (1) has filed all reports to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.



Large accelerated filer o		Accelerated filer x
Non-accelerated filer o	(Do not check if a smaller reporting company)	Smaller reporting company o
Emerging growth company o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.

Indicate by check mark if the registrant is a shell company, as defined in Rule 12b-2 of the Exchange Act.

Yes o No x

As of ~~October 31, 2017,~~April 30, 2018, there were ~~6,177,990~~6,983,918 shares of common stock outstanding.

TABLE OF CONTENTS




PART I	FINANCIAL INFORMATION	Page-3

ITEM 1.	Financial Statements	Page-3

	Consolidated Statements of Condition	Page-3
	Consolidated Statements of Comprehensive Income	Page-4
	Consolidated Statements of Changes in Stockholders' Equity	Page-5
	Consolidated Statements of Cash Flows	Page-6
	Notes to Consolidated Financial Statements	Page-7

ITEM 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	~~Page-31~~Page-29

ITEM 3.	Quantitative and Qualitative Disclosure about Market Risk	~~Page-45~~Page-39

ITEM 4.	Controls and Procedures	~~Page-46~~Page-40

PART II	OTHER INFORMATION	~~Page-46~~Page-41

ITEM 1.	Legal Proceedings	~~Page-46~~Page-41

ITEM 1A.	Risk Factors	~~Page-46~~Page-41

ITEM 2.	Unregistered Sales of Equity Securities and Use of Proceeds	~~Page-46~~Page-41

ITEM 3.	Defaults Upon Senior Securities	~~Page-46~~Page-41

ITEM 4.	Mine Safety Disclosures	~~Page-47~~Page-42

ITEM 5.	Other Information	~~Page-47~~Page-42

ITEM 6.	Exhibits	~~Page-48~~Page-43

SIGNATURES		~~Page-49~~Page-44

PART I FINANCIAL INFORMATION

ITEM 1. Financial Statements

BANK OF MARIN BANCORP

CONSOLIDATED STATEMENTS OF CONDITION

~~at September 30, 2017~~March 31, 2018 and December 31, ~~2016~~2017


(in thousands, except share data; unaudited)	September 30, 2017			December 31, 2016			March 31, 2018			December 31, 2017
Assets
Cash and due from banks	$	149,124		$	48,804		$	159,347		$	203,545
Investment securities
Held-to-maturity, at amortized cost	155,122			44,438			149,013			151,032
Available-for-sale, at fair value	258,092			372,580			423,882			332,467
Total investment securities	413,214			417,018			572,895			483,499
Loans, net of allowance for loan losses of $15,248 and $15,442 at September 30, 2017 and December 31, 2016, respectively	1,509,199			1,471,174
Loans, net of allowance for loan losses of $15,771 and $15,767 at March 31, 2018 and December 31, 2017, respectively							1,655,969			1,663,246
Bank premises and equipment, net	8,230			8,520			8,297			8,612
Goodwill	6,436			6,436			30,140			30,140
Core deposit intangible	2,226			2,580			6,262			6,492
Interest receivable and other assets	67,472			68,961			77,133			72,620
Total assets	$	2,155,901		$	2,023,493		$	2,510,043		$	2,468,154

Liabilities and Stockholders' Equity
Liabilities
Deposits
Non-interest bearing	$	924,073		$	817,031		$	1,065,470		$	1,014,103
Interest bearing
Transaction accounts	102,236			100,723			166,117			169,195
Savings accounts	169,488			163,516			180,730			178,473
Money market accounts	555,013			539,967			628,335			626,783
Time accounts	140,160			151,463			145,942			160,116
Total deposits	1,890,970			1,772,700			2,186,594			2,148,670
Subordinated debentures	5,703			5,586			5,772			5,739
Interest payable and other liabilities	14,179			14,644			19,213			16,720
Total liabilities	1,910,852			1,792,930			2,211,579			2,171,129

Stockholders' Equity
Preferred stock, no par value, Authorized - 5,000,000 shares, none issued	—			—			—			—
Common stock, no par value, Authorized - 15,000,000 shares; Issued and outstanding - 6,175,751 and 6,127,314 at September 30, 2017 and December 31, 2016, respectively	90,052			87,392
Common stock, no par value, Authorized - 15,000,000 shares; Issued and outstanding - 6,989,126 and 6,921,542 at March 31, 2018 and December 31, 2017, respectively							145,282			143,967
Retained earnings	156,227			146,464			160,556			155,544
Accumulated other comprehensive loss, net	(1,230		)	(3,293		)
Accumulated other comprehensive loss, net of taxes							(7,374		)	(2,486		)
Total stockholders' equity	245,049			230,563			298,464			297,025
Total liabilities and stockholders' equity	$	2,155,901		$	2,023,493		$	2,510,043		$	2,468,154

The accompanying notes are an integral part of these consolidated financial statements (unaudited).

BANK OF MARIN BANCORP

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME


	Three months ended						Nine months ended						Three months ended
(in thousands, except per share amounts; unaudited)	September 30, 2017			September 30, 2016			September 30, 2017			September 30, 2016			March 31, 2018			March 31, 2017
Interest income
Interest and fees on loans	$	16,738		$	17,840		$	49,010		$	51,078		$	18,887		$	15,849
Interest on investment securities
Securities of U.S. government agencies	1,525			1,283			4,577			3,826			2,475			1,518
Obligations of state and political subdivisions	511			569			1,632			1,743			638			568
Corporate debt securities and other	31			38			104			220			44			37
Interest on Federal funds sold and short-term investments	406			104			623			155
Interest on Federal funds sold and due from banks													403			60
Total interest income	19,211			19,834			55,946			57,022			22,447			18,032
Interest expense
Interest on interest-bearing transaction accounts	24			27			74			82			52			29
Interest on savings accounts	17			15			48			43			18			15
Interest on money market accounts	133			112			360			330			216			113
Interest on time accounts	138			190			423			579			156			146
Interest on Federal Home Loan Bank ("FHLB") and other borrowings	—			—			—			478
Interest on subordinated debentures	111			109			328			325			114			108
Total interest expense	423			453			1,233			1,837			556			411
Net interest income	18,788			19,381			54,713			55,185			21,891			17,621
(Reversal of) provision for loan losses	—			(1,550		)	—			(1,550		)
Provision for loan losses													—			—
Net interest income after provision for loan losses	18,788			20,931			54,713			56,735			21,891			17,621
Non-interest income
Service charges on deposit accounts	438			447			1,337			1,344			477			452
Wealth Management and Trust Services	539			506			1,546			1,599			515			503
Debit card interchange fees	390			393			1,146			1,112			396			372
Merchant interchange fees	88			114			296			355			80			96
Earnings on bank-owned life insurance	209			216			628			626			228			209
Dividends on FHLB stock	177			223			585			577			196			232
Gains on investment securities, net	—			—			10			394
Other income	225			215			729			691			350			251
Total non-interest income	2,066			2,114			6,277			6,698			2,242			2,115
Non-interest expense
Salaries and related benefits	7,344			6,683			22,106			20,155			9,017			7,475
Occupancy and equipment	1,364			1,275			4,063			3,731			1,507			1,319
Depreciation and amortization	489			449			1,433			1,343			547			481
Federal Deposit Insurance Corporation insurance	167			253			490			760			191			161
Data processing	946			894			2,848			2,666			1,381			939
Professional services	801			476			1,845			1,528			1,299			522
Directors' expense	175			143			557			448			174			158
Information technology	179			307			563			665			269			198
Provision for losses on off-balance sheet commitments	100			—			57			150			—			165
Other expense	1,471			1,430			4,716			4,491			1,696			1,593
Total non-interest expense	13,036			11,910			38,678			35,937			16,081			13,011
Income before provision for income taxes	7,818			11,135			22,312			27,496			8,052			6,725
Provision for income taxes	2,686			4,171			7,446			10,049			1,663			2,177
Net income	$	5,132		$	6,964		$	14,866		$	17,447		$	6,389		$	4,548
Net income per common share:
Basic	$	0.84		$	1.14		$	2.43		$	2.87		$	0.92		$	0.75
Diluted	$	0.83		$	1.14		$	2.41		$	2.86		$	0.91		$	0.74
Weighted average shares:
Basic	6,123			6,083			6,109			6,070			6,914			6,092
Diluted	6,191			6,117			6,179			6,106			7,006			6,172
Dividends declared per common share	$	0.29		$	0.25		$	0.83		$	0.75		$	0.29		$	0.27
Comprehensive income:
Net income	$	5,132		$	6,964		$	14,866		$	17,447		$	6,389		$	4,548
Other comprehensive (loss) income
Change in net unrealized gain or loss on available-for-sale securities	(362		)	(831		)	3,273			4,211			(6,170		)	4,710
Amortization of net unrealized loss on available for sale securities transferred to held-to-maturity securities	135			—			299			—
Reclassification adjustment for gains on available-for-sale securities included in net income	—			—			(10		)	(394		)
Net change in unrealized loss on available-for-sale securities, before tax	(227		)	(831		)	3,562			3,817
Tax effect	(96		)	(367		)	1,499			1,583
Net unrealized loss on securities transferred from available-for-sale to held-to-maturity													—			(3,036		)
Amortization of net unrealized losses on securities transferred from available-for-sale to held-to-maturity													136			41
Subtotal													(6,034		)	1,715
Deferred tax (benefit) expense													(1,784		)	704
Other comprehensive (loss) income, net of tax	(131		)	(464		)	2,063			2,234			(4,250		)	1,011
Comprehensive income	$	5,001		$	6,500		$	16,929		$	19,681		$	2,139		$	5,559

The accompanying notes are an integral part of these consolidated financial statements (unaudited).

BANK OF MARIN BANCORP

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY

for the year ended December 31, ~~2016~~2017 and the ~~nine~~three months ended ~~September 30, 2017~~March 31, 2018


(in thousands, except share data; unaudited)	Common Stock			Retained Earnings			Accumulated Other Comprehensive Income (Loss), Net of Taxes			Total			Common Stock					Retained Earnings			Accumulated Other Comprehensive Loss ("AOCI"), Net of Taxes			Total
	Shares	Amount											Shares		Amount
Balance at December 31, 2015	6,068,543	$	84,727	$	129,553		$	193		$	214,473
Balance at December 31, 2016													6,127,314		$	87,392		$	146,464		$	(3,293	)	$	230,563
Net income	—	—		23,134			—			23,134			—		—			15,976			—			15,976
Other comprehensive loss	—	—		—			(3,486		)	(3,486		)
Stock options exercised	36,117	1,227		—			—			1,227
Excess tax benefit - stock-based compensation	—	161		—			—			161
Other comprehensive income													—		—			—			807			807
Stock options exercised, net of shares surrendered for cashless exercises and tax withholdings													9,266		28			—			—			28
Stock issued under employee stock purchase plan	621	32		—			—			32			512		32			—			—			32
Stock issued under employee stock ownership plan ("ESOP")													29,547		1,850			—			—			1,850
Restricted stock granted	16,910	—		—			—			—			16,230		—			—			—			—
Restricted stock forfeited / cancelled													—		—			—			—			—
Stock-based compensation - stock options	—	347		—			—			347			—		529			—			—			529
Stock-based compensation - restricted stock	—	638		—			—			638			—		742			—			—			742
Cash dividends paid on common stock	—	—		(6,223		)	—			(6,223		)	—		—			(6,896		)	—			(6,896		)
Stock purchased by directors under director stock plan	516	26		—			—			26			531		35			—			—			35
Stock issued in payment of director fees	4,607	234		—			—			234			2,878		188			—			—			188
Balance at December 31, 2016	6,127,314	$	87,392	$	146,464		$	(3,293	)	$	230,563
Stock and stock options issued to Bank of Napa shareholders (net of payment for fractional shares of $14 thousand)													735,264		53,171			—			—			53,171
Balance at December 31, 2017													6,921,542		$	143,967		$	155,544		$	(2,486	)	$	297,025
Net income	—	—		14,866			—			14,866								6,389						6,389
Other comprehensive income	—	—		—			2,063			2,063
Other comprehensive loss																					(4,250		)	(4,250		)
Reclassification of stranded tax effects in AOCI																		638			(638		)	—
Stock options exercised, net of shares surrendered for cashless exercises and tax withholdings	8,786	28		—			—			28			47,787		453									453
Stock issued under employee stock purchase plan	280	17		—			—			17			152		10									10
Stock issued to employee stock ownership plan ("ESOP")	21,732	1,335		—			—			1,335
Restricted stock granted	14,230	—		—			—			—			18,520											—
Restricted stock surrendered for tax withholdings upon vesting													(401	)	(28		)							(28		)
Restricted stock forfeited / cancelled													(4,077	)										—
Stock-based compensation - stock options	—	423		—			—			423					316									316
Stock-based compensation - restricted stock	—	634		—			—			634					455									455
Cash dividends paid on common stock	—	—		(5,103		)	—			(5,103		)						(2,015		)				(2,015		)
Stock purchased by directors under director stock plan	531	35		—			—			35			260		18									18
Stock issued in payment of director fees	2,878	188		—			—			188			1,343		91									91
Balance at September 30, 2017	6,175,751	$	90,052	$	156,227		$	(1,230	)	$	245,049
Balance at March 31, 2018													6,985,126		145,282			160,556			(7,374		)	298,464

The accompanying notes are an integral part of these consolidated financial statements (unaudited).

BANK OF MARIN BANCORP

CONSOLIDATED STATEMENTS OF CASH FLOWS

for the ~~nine~~three months ended ~~September 30,~~March 31, 2018 and 2017 ~~and 2016~~


(in thousands; unaudited)	September 30, 2017			September 30, 2016			March 31, 2018			March 31, 2017
Cash Flows from Operating Activities:
Net income	$	14,866		$	17,447		$	6,389		$	4,548
Adjustments to reconcile net income to net cash provided by operating activities:
Reversal of provision for loan losses	—			(1,550		)
Provision for losses on off-balance sheet commitments	57			150			—			165
Noncash expense - contribution to ESOP	637			—
Noncash director compensation expense - common stock	170			146			67			73
Stock-based compensation expense	1,057			710			771			378
Amortization of core deposit intangible	354			400			230			118
Amortization of investment security premiums, net of accretion of discounts	2,204			2,293			762			762
Accretion of discount on acquired loans	(706		)	(1,526		)	(211		)	(240		)
Accretion of discount on subordinated debentures	117			145			33			42
Net amortization of deferred loan origination costs/fees	85			100
Write-down of other real estate owned	—			13
Gain on sale of investment securities	(10		)	(394		)
Net change in deferred loan origination costs/fees							(110		)	75
Gain on sales of other real estate owned							—			(1		)
Depreciation and amortization	1,433			1,343			547			481
Loss on disposal of premises and equipment	—			3
Gain on sale of repossessed assets	(1		)	—
Earnings on bank-owned life insurance policies	(628		)	(626		)	(228		)	(209		)
Net change in operating assets and liabilities:
Deferred rent and other rent-related expenses	38			(287		)	(86		)	145
Interest receivable and other assets	421			2,362			(2,339		)	1,305
Interest payable and other liabilities	350			(414		)	3,374			(674		)
Total adjustments	5,578			2,868			2,810			2,420
Net cash provided by operating activities	20,444			20,315			9,199			6,968
Cash Flows from Investing Activities:
Purchase of held-to-maturity securities	(4,496		)	(2,424		)	(1,989		)	(2,991		)
Purchase of available-for-sale securities	(51,130		)	(138,432		)	(109,693		)	(5,590		)
Proceeds from sale of available-for-sale securities	1,321			68,673
Proceeds from paydowns/maturities of held-to-maturity securities	22,352			25,150			3,917			4,001
Proceeds from paydowns/maturities of available-for-sale securities	37,126			110,978			11,572			8,594
Loans originated and principal collected, net	(37,370		)	(11,723		)	7,022			8,875
Purchase of bank-owned life insurance policies	—			(2,133		)
Purchase of premises and equipment	(1,143		)	(652		)	(232		)	(297		)
Proceeds from sale of repossessed assets	170			—
Purchase of Federal Home Loan Bank stock	—			(1,792		)
Cash paid for low-income housing investment	(899		)	(298		)
Proceeds from sale of other real estate owned or repossessed assets							—			170
Cash paid for low-income housing tax credit investment							(356		)	(345		)
Net cash (used in) provided by investing activities	(34,069		)	47,347			(89,759		)	12,417
Cash Flows from Financing Activities:
Net increase in deposits	118,270			73,243			37,924			6,569
Proceeds from stock options exercised	88			1,206			504			88
Payment of tax withholdings for stock options exercised	(60		)	—
Proceeds from stock issued under employee and director stock purchase plans and ESOP	750			49
Federal Home Loan Bank repayments	—			(67,000		)
Payment of tax withholdings for stock options exercised and vesting of restricted stock							(79		)	(60		)
Proceeds from stock issued under employee and director stock purchase plans							28			31
Cash dividends paid on common stock	(5,103		)	(4,573		)	(2,015		)	(1,655		)
Net cash provided by financing activities	113,945			2,925			36,362			4,973
Net increase in cash and cash equivalents	100,320			70,587
Net (decrease) increase in cash and cash equivalents							(44,198		)	24,358
Cash and cash equivalents at beginning of period	48,804			26,343			203,545			48,804
Cash and cash equivalents at end of period	$	149,124		$	96,930		$	159,347		$	73,162
Supplemental disclosure of cash flow information:
Cash paid in interest	$	1,131		$	1,741		$	543		$	373
Cash paid in income taxes	$	6,815		$	9,095
Supplemental disclosure of noncash investing and financing activities:
Change in net unrealized gain or loss on available-for-sale securities	$	3,273		$	3,817		$	(6,034	)	$	1,674
Securities transferred from available-for-sale to held-to-maturity	$	128,965		$	—		$	—		$	128,965
Amortization of net unrealized loss on available-for-sale securities transferred to held-to-maturity	$	299		$	—		$	136		$	41
Stock issued in payment of director fees and to ESOP	$	825		$	234
Subscription in low income housing tax credit investment							$	(3,000	)	$	—
Stock issued in payment of director fees							$	91		$	82

The accompanying notes are an integral part of these consolidated financial statements (unaudited).

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

Note 1: Basis of Presentation

The consolidated financial statements include the accounts of Bank of Marin Bancorp (“Bancorp”), a bank holding company, and its wholly-owned bank subsidiary, Bank of Marin (the “Bank”), a California state-chartered commercial bank. References to “we,” “our,” “us” mean ~~the holding company~~Bancorp and the Bank that are consolidated for financial reporting purposes. The accompanying unaudited consolidated interim financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC"). Certain information and note disclosures normally included in annual financial statements prepared in accordance with U.S. generally accepted accounting principles ("GAAP") have been condensed or omitted pursuant to those rules and regulations. Although we believe that the disclosures are adequate and the information presented is not misleading, we suggest that these interim financial statements be read in conjunction with the annual financial statements and the notes thereto included in our ~~2016~~2017 Annual Report on Form 10-K. In the opinion of Management, the unaudited consolidated financial statements reflect all adjustments, which are necessary for a fair presentation of the consolidated financial position, the results of operations, changes in comprehensive income, changes in stockholders’ equity, and cash flows for the periods presented. All material intercompany transactions have been eliminated. The results of these interim periods may not be indicative of the results for the full year or for any other period.

The NorCal Community Bancorp Trusts I and II, respectively (the "Trusts") were formed for the sole purpose of issuing trust preferred securities. Bancorp is not considered the primary beneficiary of the Trusts (variable interest entities), therefore the Trusts are not consolidated in our consolidated financial statements, but rather the subordinated debentures are shown as a liability on our consolidated statements of condition (See Note 6, Borrowings). Bancorp's investment in the securities of the Trusts is accounted for under the equity method and is included in ~~interest~~interest receivable and other assets on the consolidated statements of condition.

The following table shows: 1) weighted average basic shares, 2) potentially dilutive weighted average common shares related to stock options and unvested restricted stock awards, and 3) weighted average diluted shares. Basic earnings per share (“EPS”) are calculated by dividing net income by the weighted average number of common shares outstanding during each period, excluding unvested restricted stock awards. Diluted EPS are calculated using the weighted average number of potentially dilutive common shares. The number of potentially dilutive common shares included in the quarterly diluted EPS is computed using the average market prices during the three months included in the reporting period under the treasury stock method. The number of potentially dilutive common shares included in year-to-date diluted EPS is a year-to-date weighted average of potentially dilutive common shares included in each quarterly diluted EPS computation. In computing diluted EPS, we exclude anti-dilutive shares such as options whose exercise prices exceed the current common stock price as they would not reduce EPS under the treasury method. We have two forms of outstanding common stock: common stock and unvested restricted stock awards. Holders of unvested restricted stock awards receive non-forfeitable dividends at the same rate as common shareholders and they both share equally in undistributed earnings. Under the two-class method, the difference in EPS is ~~not significant~~nominal for these participating securities.


	Three months ended				Nine months ended				Three months ended
(in thousands, except per share data)	September 30, 2017		September 30, 2016		September 30, 2017		September 30, 2016		March 31, 2018		March 31, 2017
Weighted average basic shares outstanding	6,123		6,083		6,109		6,070		6,914		6,092
Potentially dilutive common shares related to:
Stock options	53		27		55		30		75		62
Unvested restricted stock awards	15		7		15		6		17		18
Weighted average diluted shares outstanding	6,191		6,117		6,179		6,106		7,006		6,172
Net income	$	5,132	$	6,964	$	14,866	$	17,447	$	6,389	$	4,548
Basic EPS	$	0.84	$	1.14	$	2.43	$	2.87	$	0.92	$	0.75
Diluted EPS	$	0.83	$	1.14	$	2.41	$	2.86	$	0.91	$	0.74
Weighted average anti-dilutive shares not included in the calculation of diluted EPS	23		71		19		65		32		13

Note 2: Recently Adopted and Issued Accounting Standards

Accounting Standards Adopted in 2018

In ~~March 2016,~~May 2014, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. ~~2016-05,~~ ~~Derivatives and Hedging (Topic 815): Effect of Derivative Contract Novations on Existing Hedge Accounting Relationships~~. A contract novation refers to replacing one of the parties to a derivative instrument with a new party. This ASU clarifies that a change in counterparty in a derivative instrument does not, in and of itself, require dedesignation of that hedging relationship and therefore discontinue the application of hedge accounting. We adopted the amendments prospectively effective January 1, 2017, which did not have a material impact on our financial condition or results of operations as there were no changes in counterparties.

~~In March 2016, the FASB issued ASU No. 2016-09,~~ ~~Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting~~ ("ASU 2016-09"). This ASU identifies areas for simplification involving several aspects of accounting for share-based payment transactions, including the income tax consequences, classification of awards as equity or liabilities, forfeiture accounting, and classifications on the statement of cash flows. We adopted the requirements of this ASU effective January 1, 2017, which impacted the following areas:

Forfeiture rates: We have elected to account for forfeitures as they occur. Previously, we accounted for forfeitures based on an estimate of the number of awards expected to vest. The policy change was applied using a modified retrospective approach and did not have a material effect on our financial condition or results of operations.

Income taxes: We have recorded excess tax benefits (deficiencies) resulting from the exercise of non-qualified stock options, the disqualifying disposition of incentive stock options and vesting of restricted stock awards as tax benefits (expense) in the consolidated statements of comprehensive income with a corresponding decrease (increase) to current taxes payable. Previous to the adoption of this ASU, excess tax benefits (deficiencies) were recognized as an increase (decrease) to common stock in the consolidated statements of changes in stockholders' equity. In addition, we have reflected excess tax benefits as an operating activity in the consolidated statements of cash flows. Previous to the adoption of this ASU, excess tax benefits were shown as a financing activity. We applied the amendment prospectively and prior period financial statements have not been restated. For the three and nine months ended September 30, 2017, we recognized $40 thousand and $210 thousand, respectively, in excess tax benefits recorded as a reduction to income tax expense.

Statutory tax withholding: Cash paid for tax withholdings when shares are surrendered in a cashless stock option exchange has been classified as a financing activity in the consolidated statements of cash flows. There were no shares surrendered for tax withholdings prior to the adoption of ASU 2016-09.

~~In March 2017, the FASB issued ASU No. 2017-08,~~ ~~Receivables - Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities~~. The amendments in this ASU shorten the amortization period for certain callable debt securities purchased at a premium and require the premium to be amortized to the earliest call date. The ASU is effective for annual periods beginning after December 15, 2018, including interim periods within those periods. We early adopted this ASU effective January 1, 2017, which did not have a material impact on our financial condition and results of operations.

~~In May 2014, the FASB issued ASU No.~~ 2014-09, Revenue from Contracts with Customers (Topic 606).This ASU is a converged standard involving FASB and International Financial Reporting Standards that provides a single comprehensive revenue recognition model for all contracts with customers across transactions and industries. The core ~~principal~~principle of ~~the guidance~~this ASU (and all subsequent updates) is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount ~~and at a time~~ that reflects the consideration to which the entity expects to be entitled in exchange for those goods orand services. ~~Subsequent updates related~~This ASU establishes a five-step model that must be used to ~~Revenue from Contracts with Customers (Topic 606)~~ ~~are as follows:~~

~~August 2015 ASU No. 2015-14 -~~ ~~Deferral of~~recognize revenue that requires the ~~Effective Date, institutes a one-year deferral of~~entity to identify the effective date of this amendment to annual reporting periods beginning after December 15, 2017. Early application is permitted only as of annual periods beginning after December 15, 2016, including interim reporting periods within that reporting period.

~~March 2016 ASU No. 2016-08~~ ~~- Principal versus Agent Considerations (Reporting Revenue Gross versus Net),~~ clarifies the implementation guidance on principal versus agent considerations and on the use of indicators that assist an entity in determining whether it controls a specified good or service before it is transferred to the customer.

~~April 2016 ASU No. 2016-10~~ ~~- Identifying Performance Obligations and Licensing,~~ ~~provides guidance in determining performance obligations in a~~ contract with a customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and ~~clarifies whether a promise~~recognize revenue when (or as) the entity satisfies the performance obligation. The ASU does not apply to ~~grant a license provides a right~~the majority of our revenue, including revenue associated with financial instruments, such as loans and investment securities, and certain non-interest income, such as earnings on bank-owned life insurance, dividends on Federal Home Loan Bank ("FHLB") stock, gains or losses on sales of investment securities, and deposit overdraft charges. The standard allowed the use of either the full retrospective or modified retrospective transition method. We elected to ~~access or~~apply the ~~right~~modified retrospective transition method to ~~use intellectual property.~~

~~May 2016 ASU No. 2016-12 -~~ ~~Narrow Scope Improvements and Practical Expedients, gives further guidance on assessing collectability, presentation of sales taxes, noncash consideration, and completed~~incomplete contracts ~~and contract modifications at transition.~~

~~December 2016 ASU No. 2016-20 -~~ ~~Technical Corrections and Improvements to Topic 606, further clarifies specific aspects of previously issued guidance or corrects unintended application~~as of the ~~guidance.~~

~~Our revenue is mainly comprised~~initial date of ~~interest income~~application on ~~financial instruments, which is explicitly excluded from the scope~~January 1, 2018. The adoption of ~~ASU 2014-09. We have identified applicable sources of non-interest income and are gathering and reviewing related contracts and evaluating their potential impact to our revenue recognition under~~ the new ~~standards. While the recognition of certain components of our non-interest income may be affected by the ASU, we do~~standards did not ~~expect it to~~ have a material impact on our financial condition ~~and~~or results of ~~operations.~~operations as the revenue recognition patterns under the new standards did not change significantly from our current practice of recognizing the in-scope non-interest income. In addition, we did not retroactively revise prior period amounts or record a cumulative adjustment to retained earnings upon adoption. We considered the nature, amount, timing, and uncertainty of revenue from contracts with customers and determined that significant revenue streams are sufficiently disaggregated in the consolidated statements of comprehensive income.

Descriptions of our significant revenue-generating transactions that are within the scope of the new revenue recognition standards, which are presented in the consolidated statements of comprehensive income as components of non-interest income, are as follows:

Wealth Management & Trust ("WM&T") fees - WM&T services include, but are not limited to: customized investment advisory and management; administrative services such as bill pay and tax reporting; trust administration, estate settlement, custody and fiduciary services. Performance obligations for investment advisory and management services are generally satisfied over time. Revenue is recognized monthly according to a tiered fee schedule based on the client's month-end market value of assets under our management. WM&T does not earn revenue based on performance or incentives. Costs associated with WM&T revenue-generating activities, such as payments to sub-advisors, are recorded separately as part of professional service expenses when incurred.

Deposit account service charges - Service charges on deposit accounts consist of monthly maintenance fees, business account analysis fees, business online banking fees, check order charges, and other deposit account-related fees. Performance obligations for monthly maintenance fees and account analysis fees are satisfied, and the related revenue recognized, when our performance obligation is completed each month. Performance obligations related to transaction-based services (such as check orders) are satisfied, and the related revenue recognized, at a point in time when completed, except for business accounts subject to analysis where the transaction-based fees are part of the monthly account analysis fees.

Debit card interchange fees - We issue debit cards to our consumer and small business customers that allow them to purchase goods and services from merchants in person, online, or via mobile devices using funds held in their demand deposit accounts held with us. Debit cards issued to our customers are part of global electronic payment networks (such as Visa) who pass a portion of the merchant interchange fees to debit card-issuing member banks like us when our customers make purchases through their networks. Performance obligations for debit card services are satisfied, and revenue is recognized, daily as transactions are processed by the payment networks. Because we act in an agent capacity, we determined that network costs previously recorded as a component of non-interest expense should be netted with interchange fees recorded in non-interest income starting in the second quarter of 2018. Network costs were immaterial for the three months ended March 31, 2018 and 2017.

In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. The amendments in this ASU make improvements to accounting standards related to financial instruments, including the following:

Requires equity investments, except for those accounted for under the equity method of accounting or those that result in consolidation of the investee, to be measured at fair value with changes in fair value recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer.

Simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment. When impairment exists, an entity is required to measure the investment at fair value.

Eliminates the requirement to disclose the method(s) and significant assumptions used to estimate the fair value ~~that is currently~~ required ~~to be disclosed~~under current standards for financial instruments measured at amortized cost on the consolidated balance sheet.

Requires public companies to use the exit price notion when measuring and disclosing the fair value of financial ~~instruments for disclosure purposes.~~instruments.

Requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (i.e., securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements.

Clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity's other deferred tax assets.

We adopted the requirements of this ASU ~~2016-01 is~~ effective ~~for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. This ASU may affect our financial statement presentation and related footnotes, but we do~~January 1, 2018, which did not ~~expect it to~~ have a material impact on our financial condition ~~or results of operations.~~

~~In February 2016, the FASB issued ASU No. 2016-02,~~ ~~Leases (Topic 842)~~. The amendments in this ASU intend to increase transparency and comparability among organizations by recognizing an asset, which represents the right to use the asset for the lease term, and a lease liability, which is a lessee's obligation to make lease payments measured on a discounted basis. This ASU generally applies to leasing arrangements exceeding a twelve month term. ASU 2016-02 is effective for annual periods, including interim periods within those annual periods beginning after December 15, 2018 and requires a modified retrospective method of adoption. Early application of the amendments is permitted. We intend to adopt this ASU during the first quarter of 2019, as required, and are continuing to evaluate our lease agreements and potential accounting software solutions as they become available. As of September 30, 2017, our undiscounted operating lease obligations that were off-balance sheet totaled $18.4 million (See Note 8, Commitments and Contingencies). Upon adoption of this ASU, the present values of leases currently classified as operating leases will be recognized as lease assets and liabilities on our balance sheet. Additional disclosures of key information about our leasing arrangements will also be required. We do not expect that the ASU will have a material impact on our capital ratios or return on average assets when adopted and we are currently evaluating the effect that the ASU will have on other components of our financial condition and results of operations. The fair value of our loans held for investment, which is recorded at amortized cost, now incorporates the exit price notion reflecting factors such as a liquidity premium. See Note 3, Fair Value of Assets and Liabilities.

~~In June 2016, the FASB issued ASU No. 2016-13,~~ ~~Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments~~. Under the new guidance, entities will be required to measure expected credit losses by utilizing forward-looking information to assess an entity's allowance for credit losses. The measurement of expected credit losses will be based on historical experience, current conditions and reasonable and supportable forecasts that affect the collectability of a credit over its remaining life. In addition, the ASU amends the accounting for potential credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Management refined our allowance for loan loss model in 2016 and enhanced our loan-level data collection and methodology for analyzing credit losses in preparation for the new accounting standards. We will continue our evaluation of the provisions of this ASU and will be monitoring developments, additional guidance and the potential outcome the amendments will have on our financial condition and results of operations upon adoption in the first quarter of 2020.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. This ASU provides guidance on how to present and classify eight specific cash flow topics in the statement of cash flows. The ASU is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. The amendments should be applied using a retrospective transition method to each period presented, if practical. ~~This~~We adopted the requirements of this ASU ~~may affect our presentation of certain cash flows and their categorization as operating, investing or financing activities in the consolidated statements of cash flows, but we do~~effective January 1, 2018, which did not ~~expect it to have a material~~ impact on our financial condition, or results of ~~operations.~~operations, or related financial statement disclosures for the periods presented.

In January 2017, the FASB issued ASU No. 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business. The amendments are intended to help companies evaluate whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses and provide a more robust framework to use in determining when a set of assets and activities is a business. The amendments should be applied prospectively and are effective for annual periods after December 31, 2017, including interim periods within those periods. ~~The~~We adopted the amendments ~~will be adopted prospectively. We will consider these amendments in our evaluation of the accounting for any future business acquisitions or asset disposals.~~

~~In January 2017, the FASB issued ASU No. 2017-04,~~ ~~Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment~~. This amendment simplifies how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test, which would measure a goodwill impairment loss by comparing the implied fair value of goodwill with the carrying amount of that goodwill. Instead, an entity will perform only Step 1 of its quantitative goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount, and then recognizing an impairment charge for the amount by which the carrying amount exceeds the reporting unit's fair value. The loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. The new guidance does not amend the optional qualitative assessment of goodwill impairment, which Bancorp currently uses. The ASU is effective ~~for fiscal years beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after~~ January 1, ~~2017. We anticipate that this ASU will simplify our evaluation of the impairment of goodwill and do~~2018, which did not ~~expect it to have a material~~ impact on our financial condition, ~~and~~ results of ~~operations.~~operations, or related financial statement disclosures in the first quarter of 2018.

In May 2017, the FASB issued ASU No. 2017-09, Compensation - Stock Compensation (Topic 718): Scope of Modification Accounting. This ASU applies to entities that change the terms or conditions of a share-based payment award. The FASB adopted this ASU to provide clarity in what constitutes a modification and to reduce diversity in practice in applying Topic 718. In order for a change to a share-based arrangement to not require Topic 718 modification accounting treatment, all of the following must be met: no change in fair value, no change in vesting conditions and no change in the balance sheet classification of the modified award. The ASU is effective for fiscal years beginning after December 15, 2017, including interim periods within those periods. Early adoption is permitted, including adoption in an interim period. The amendments should be applied prospectively to an award modified on or after the adoption date. We adopted the requirements of this ASU effective January 1, 2018, which did not impact our financial condition, results of operation, or related financial statement disclosures in the first quarter of 2018.

In February 2018, the FASB issued ASU No. 2018-02, Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. This amendment helps organizations address certain stranded income tax effects in accumulated other comprehensive income (AOCI) resulting from the enactment of the Tax Cuts and Jobs Act of 2017. The ASU requires financial statement preparers

to disclose a description of the accounting policy for releasing income tax effects from AOCI, whether or not they elect to reclassify the stranded income tax effects from the Tax Cuts and Jobs Act of 2017, and information about the other income tax effects that are reclassified. The amendments are effective for all organizations for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted. The amendments in this ASU should be applied in either the period of adoption or retrospectively to each period (or periods) in which the effect of the change in the U.S. federal corporate tax rate in the Tax Cuts and Jobs Act of 2017 is recognized. We early adopted this ASU in the first quarter of 2018. See Note 7, Stockholders' Equity.

Accounting Standards Not Yet Effective

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). The amendments in this ASU intend to increase transparency and comparability among organizations by recognizing an asset, which represents the right to use the asset for the lease term, and a lease liability, which is a lessee's obligation to make lease payments measured on a discounted basis. This ASU generally applies to leasing arrangements exceeding a twelve month term. ASU 2016-02 is effective for annual periods, including interim periods within those annual periods beginning after December 15, 2018 and requires a modified retrospective method of adoption. Early application of the amendments is permitted. We intend to adopt this ASU during the first quarter of 2019, as required. We are continuing to evaluate our lease agreements and potential accounting software solutions as they become available. As of March 31, 2018, our undiscounted operating lease obligations that were off-balance sheet totaled $17.7 million (See Note 8, Commitments and Contingencies). Upon adoption of this ASU, the present values of leases currently classified as operating leases will be recognized as lease assets and liabilities on our consolidated balance sheets. Additional disclosures of key information about our leasing arrangements will also be required. We do not expect ~~this~~that the ASU towill have a material impact on our capital ratios or return on average assets when adopted and we are currently evaluating the effect that the ASU will have on other components of our financial condition orand results of operations.

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. Under the new guidance, entities will be required to measure expected credit losses by utilizing forward-looking information to assess an entity's allowance for credit losses. The measurement of expected credit losses will be based on historical experience, current conditions and reasonable and supportable forecasts that affect the collectability of a credit over its remaining life. In addition, the ASU amends the accounting for potential credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. We have formed an internal Current Expected Credit Loss ("CECL") committee and are working with our third party vendor to determine the appropriate methodologies and resources to utilize in preparation for transition to the new accounting standards.

In August 2017, the FASB issued ASU No. 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities. This amendment changes both the designation and measurement guidance for qualifying hedging relationships and the presentation of hedge results. It is intended to more closely align hedge accounting with companies' risk management strategies, simplify the application of hedge accounting, and increase transparency as to the scope and results of hedging programs. The ASU is effective for fiscal years beginning after

December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. The amended presentation and disclosure guidance will be required prospectively. We expect this amendment to affect the presentation of our hedging activities, but we do not expect it to have a material impact on our financial condition or results of operations.

Note 3: Fair Value of Assets and Liabilities

Fair Value Hierarchy and Fair Value Measurement

We group our assets and liabilities that are measured at fair value in three levels within the fair value hierarchy, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are:

Level 1: Valuations are based on unadjusted quoted prices in active markets for identical assets or liabilities.

Level 2: Valuations are based on quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-based valuations for which all significant assumptions are observable or can be corroborated by observable market data.

Level 3: Valuations are based on unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Values are determined using pricing models and discounted cash flow models and may include significant Management judgment and estimation.

Transfers between levels of the fair value hierarchy are recognized through our monthly and/or quarterly valuation process in the reporting period during which the event or circumstances that caused the transfer occurred.

The following table summarizes our assets and liabilities that were required to be recorded at fair value on a recurring basis.


(in thousands) Description of Financial Instruments	Carrying Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Carrying Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Measurement Categories: Changes in Fair Value Recorded In¹
September 30, 2017
March 31, 2018
Securities available-for-sale:
Mortgage-backed securities and collateralized mortgage obligations issued by U.S. government agencies	$	147,370	$	—	$	146,818	$	552	$	262,666	$	—	$	262,666	$	—	OCI
SBA-backed securities									33,538		—		33,373		165		OCI
Debentures of government sponsored agencies	30,382		—		30,382		—		27,336		—		27,336		—		OCI
Privately-issued collateralized mortgage obligations	128		—		128		—		1,390		—		1,390		—		OCI
Obligations of state and political subdivisions	75,181		—		75,181		—		93,414		—		93,414		—		OCI
Corporate bonds	5,031		—		5,031		—		5,538		—		5,538		—		OCI
Derivative financial assets (interest rate contracts)	38		—		38		—		239		—		239		—		NI
Derivative financial liabilities (interest rate contracts)	909		—		909		—		376		—		376		—		NI
December 31, 2016
December 31, 2017
Securities available-for-sale:
Mortgage-backed securities and collateralized mortgage obligations issued by U.S. government agencies	$	254,041	$	—	$	253,434	$	607	$	188,061	$	—	$	188,061	$	—	OCI
SBA-backed securities									25,982				25,817		165		OCI
Debentures of government sponsored agencies	35,403		—		35,403		—		12,938		—		12,938		—		OCI
Privately-issued collateralized mortgage obligations	419		—		419		—		1,431		—		1,431		—		OCI
Obligations of state and political subdivisions	77,701		—		77,701		—		97,491		—		97,491		—		OCI
Corporate bonds	5,016		—		5,016		—		6,564		—		6,564		—		OCI
Derivative financial assets (interest rate contracts)	55		—		55		—		74		—		74		—		NI
Derivative financial liabilities (interest rate contracts)	933		—		933		—		740		—		740		—		NI

¹Other comprehensive income ("OCI") or net income ("NI").

Securities available-for-sale are recorded at fair value on a recurring basis. When available, quoted market prices (Level 1) are used to determine the fair value of securities available-for-sale. If quoted market prices are not available,

we obtain pricing information from a reputable third-party service provider, who may utilize valuation techniques that use current market-based or independently sourced parameters, such as bid/ask prices, dealer-quoted prices, interest rates, benchmark yield curves, prepayment speeds, probability of default, loss severity and credit spreads (Level 2). Level 2 securities include obligations of state and political subdivisions, U.S. agencies or government-sponsored agencies' debt securities, mortgage-backed securities, government agency-issued, privately-issued collateralized mortgage obligations, and corporate bonds. As of ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016~~2017, there were no securities that were considered Level 1 securities. As of ~~September 30, 2017~~March 31, 2018, we had one available-for-sale security that was considered a Level 3 security. The security is a U.S. government agency obligation collateralized by a small number of business equipment loans guaranteed by the Small Business Administration ("SBA") program. The security is not actively traded and is owned only by a few investors. The significant unobservable data that is reflected in the fair value measurement include dealer quotes, projected prepayment speeds/average life and credit information, among other things. The unrealized loss on this SBA-guaranteed security recorded as part of other comprehensive income ~~decreased by~~remained at $2 thousand ~~in the first nine months of~~at both March 31, 2018 and December 31, 2017.

Securities held-to-maturity may be written down to fair value (determined using the same techniques discussed above for securities available-for-sale) as a result of other-than-temporary impairment, and we did not record any write-downs during ~~2017~~the quarter ended March 31, 2018 or ~~2016.~~year ended December 31, 2017.

On a recurring basis, derivative financial instruments are recorded at fair value, which is based on the income approach using observable Level 2 market inputs, reflecting market expectations of future interest rates as of the measurement date. Standard valuation techniques are used to calculate the present value of the future expected cash flows assuming an orderly transaction. Valuation adjustments may be made to reflect both our own credit risk and the counterparties’ credit risk in determining the fair value of the derivatives. Level 2 inputs for the valuations are limited to observable market prices for London Interbank Offered Rate ("LIBOR") and Overnight Index Swap ("OIS") rates (for the very short term), quoted prices for LIBOR futures contracts, observable market prices for LIBOR and OIS swap rates, and one-month and three-month LIBOR basis spreads at commonly quoted intervals. Mid-market pricing of the inputs is used as a practical expedient in the fair value measurements. We project spot rates at reset days specified by each swap contract to determine future cash flows, then discount to present value using either LIBOR or OIS curves depending on whether the swap positions are fully collateralized as of the measurement date. When the value of any collateral placed with counterparties is less than the interest rate derivative liability, a credit valuation adjustment ("CVA") is applied to reflect the credit risk we pose to counterparties. We have used the spread between the Standard & Poor's BBB rated U.S. Bank Composite rate and LIBOR for the closest maturity term corresponding to the duration of the swaps to derive the CVA. A similar credit risk adjustment, correlated to the credit standing of the counterparty, is made when collateral posted by the counterparty does not fully cover their liability to the Bank. For further discussion on our methodology in valuing our derivative financial instruments, refer to Note 9, Derivative Financial Instruments and Hedging Activities.

Certain financial assets may be measured at fair value on a non-recurring basis. These assets are subject to fair value adjustments that result from the application of the lower of cost or fair value accounting or write-downs of individual assets, such as impaired loans that are collateral dependent and other real estate owned ("OREO").

~~The following table presents the carrying value~~ As of March 31, 2018 and December 31, 2017, we do not carry any assets measured at fair value on a non-recurring ~~basis and that were held in the consolidated statements of condition at each respective period end, by level within the fair value hierarchy as of~~ ~~September 30, 2017~~ ~~and December 31, 2016.~~basis.

(in thousands) Carrying Value
Quoted Prices in Active Markets for Identical Assets
(Level 1)

Significant Other Observable Inputs
(Level 2)

Significant Unobservable Inputs
(Level 3)

September 30, 2017

Other real estate owned 238
—
—
238
December 31, 2016

Other real estate owned 408
—
—
408

When a loan is identified as impaired, it is reported at the lower of cost or fair value, measured based on the loan's observable market price (Level 1) or the current net realizable value of the underlying collateral securing the loan, if the loan is collateral dependent (Level 3). Net realizable value of the underlying collateral is the fair value of the collateral less estimated selling costs and any prior liens. Appraisals, recent comparable sales, offers and listing prices are factored in when valuing the collateral. We review and verify the qualifications and licenses of the certified general

appraisers used for appraising commercial properties or certified residential appraisers for residential properties. Real estate appraisals may utilize a combination of approaches including replacement cost, sales comparison and the income approach. Comparable sales and income data are analyzed by the appraisers and adjusted to reflect differences between them and the subject property such as property characteristics, leasing status and physical condition. When appraisals are received, Management reviews the underlying assumptions and methodology utilized, as well as the overall resulting value in conjunction with independent data sources such as recent market data and industry-wide statistics. We generally use a 6% discount for selling costs which is applied to all properties, regardless of size. Appraised values may be adjusted to reflect changes in market conditions that have occurred subsequent to the appraisal date, or for revised estimates regarding the timing or cost of the property sale. These adjustments are based on qualitative judgments made by Management on a case-by-case basis and are generally unobservable valuation inputs as they are specific to the underlying collateral. There have been no significant changes in the valuation techniques during 2017. As of September 30, 2017 and December 31, 2016, there were no collateral-dependent loans whose principal balances had been written down to or below the values of the underlying collateral.

OREO represents collateral acquired through foreclosure and is initially recorded at fair value as established by a current appraisal, adjusted for disposition costs. Subsequently, OREO is measured at lower of cost or fair value. OREO values are reviewed on an ongoing basis and any subsequent decline in fair value is recorded as a foreclosed asset expense in the current period. The value of OREO is determined based on independent appraisals, similar to the process used for impaired loans, discussed above, and is classified as Level 3. All OREO resulted from an acquisition. There was no change in the estimated fair values of OREO during the first nine months of 2017 and a decrease of $13 thousand in 2016.

Disclosures about Fair Value of Financial Instruments

The following table ~~below is a summary of~~summarizes fair value estimates for financial instruments as of ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, excluding financial instruments recorded at fair value on a recurring basis (summarized in the first table in this note). The carrying amounts in the following table are recorded in the consolidated statements of condition under the indicated captions. Further, we have not disclosed the fair value of financial instruments specifically excluded from disclosure requirements such as bank-owned life insurance policies ("BOLI"). and non-maturity deposit liabilities. Additionally, we hold shares of FHLB stock and Visa Inc. Class B common stock at cost. These shares are restricted from resale, except among member banks, and their values are discussed in Note 4, Investment ~~Securities.~~

September 30, 2017 December 31, 2016
(in thousands) Carrying Amounts
Fair Value
Fair Value Hierarchy Carrying Amounts
Fair Value
Fair Value Hierarchy
Financial assets
Cash and cash equivalents $ 149,124
$ 149,124
Level 1 $ 48,804
$ 48,804
Level 1
Investment securities held-to-maturity 155,122
156,149
Level 2 44,438
45,097
Level 2
Loans, net 1,509,199
1,491,306
Level 3 1,471,174
1,473,360
Level 3
Interest receivable 5,978
5,978
Level 2 6,319
6,319
Level 2
Financial liabilities

Deposits 1,890,970
1,891,097
Level 2 1,772,700
1,773,102
Level 2
Subordinated debentures 5,703
5,089
Level 3 5,586
5,083
Level 3
Interest payable 120
120
Level 2 134
134
Level 2

~~Following is a description of methods and assumptions used to estimate the fair value of each class of financial instrument not recorded at fair value but required for disclosure purposes:~~

~~Cash and Cash Equivalents~~ ~~- The carrying amounts of cash and cash equivalents approximate their fair value because of the short-term nature of these instruments.~~

~~Held-to-maturity~~ Securities - Held-to-maturity securities, which generally consist of obligations of state and political subdivisions and corporate bonds, are recorded at their amortized cost. Their fair value for disclosure purposes is determined using methodologies similar to those described above for available-for-sale securities using Level 2 inputs. If Level 2 inputs are not available, we may utilize pricing models that incorporate unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities (Level 3). ~~As of~~

~~September 30, 2017~~ ~~and~~ ~~December 31, 2016, we did not hold any held-to-maturity securities whose fair value was measured using significant unobservable inputs.~~

~~Loans~~ - The fair value of loans with variable interest rates approximates their current carrying value, because their rates are regularly adjusted to current market rates. The fair value of fixed rate loans or variable loans at negotiated interest rate floors or ceilings with remaining maturities in excess of one year is estimated by discounting the future cash flows using current market rates at which similar loans would be made to borrowers with similar creditworthiness and similar remaining maturities. The allowance for loan losses (“ALLL”) is considered to be a reasonable estimate of the portion of loan discount attributable to credit risks.

~~Interest Receivable and Payable~~ ~~- The interest receivable and payable balances approximate their fair value due to the short-term nature of their settlement dates.~~

~~Deposits~~ - The fair value of deposits without stated maturity, such as transaction accounts, savings accounts and money market accounts, is the amount payable on demand at the reporting date. The fair value of time deposits is estimated by discounting the future cash flows using current rates offered for deposits of similar remaining maturities.

~~Federal Home Loan Bank Borrowing~~ - The fair value is estimated by discounting the future cash flows using current rates offered by the FHLB for similar credit advances corresponding to the remaining term of our fixed-rate credit advances.

~~Subordinated Debentures~~ - The fair values of the subordinated debentures are estimated by discounting the future cash flows (interest payment at a rate of three-month LIBOR plus 3.05% and 1.40%) to their present values using current market rates at which similar bonds would be issued with similar credit ratings as ours and similar remaining maturities. Each interest payment is discounted at the spot rate of the corresponding term, determined based on the yields and terms of comparable trust preferred securities, plus a liquidity premium. In July 2010, the Dodd-Frank Act was signed into law and limits the ability of certain bank holding companies to treat trust preferred security debt issuances as Tier 1 capital. This law effectively closed the trust preferred securities markets for new issuances and led to the absence of observable or comparable transactions in the market place. Due to the use of unobservable inputs of trust preferred securities, we consider the fair value to be a Level 3 measurement. See Note 6, Borrowings, for further information.



	March 31, 2018					December 31, 2017
(in thousands)	Carrying Amounts		Fair Value		Fair Value Hierarchy	Carrying Amounts		Fair Value		Fair Value Hierarchy
Financial assets (recorded at amortized cost)
Cash and cash equivalents	$	159,347	$	159,347	Level 1	$	203,545	$	203,545	Level 1
Investment securities held-to-maturity	149,013		145,818		Level 2	151,032		151,032		Level 2
Loans, net	1,655,969		1,622,552		Level 3	1,663,246		1,650,198		Level 3
Interest receivable	7,087		7,087		Level 2	7,501		7,501		Level 2
Financial liabilities (recorded at amortized cost)
Time deposits	145,942		145,212		Level 2	160,116		159,540		Level 2
Subordinated debentures	5,772		6,820		Level 3	5,739		5,118		Level 3
Interest payable	172		172		Level 2	191		191		Level 2

Commitments - The value of unrecognized financial instruments is estimated based on the fee income associated with the commitments which, in the absence of credit exposure, is considered to approximate their settlement value. The fair value of commitment fees was not material at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016, respectively.~~2017.

Note 4: Investment Securities

Our investment securities portfolio consists of obligations of state and political subdivisions, corporate bonds, U.S. government agency securities, including residential and commercial mortgage-backed securities (“MBS”) and collateralized mortgage obligations (“CMOs”) issued or guaranteed by Federal National Mortgage Association ("FNMA"), Federal Home Loan Mortgage Corporation ("FHLMC"), or Government National Mortgage Association ("GNMA"), debentures issued by government-sponsored agencies such as FNMA, Federal Farm Credit Bureau, FHLB and FHLMC, as well as privately issued CMOs, as reflected in the ~~table below:~~

following table:


	September 30, 2017									December 31, 2016									March 31, 2018									December 31, 2017
	Amortized		Fair		Gross Unrealized					Amortized		Fair		Gross Unrealized					Amortized		Fair		Gross Unrealized					Amortized		Fair		Gross Unrealized
(in thousands)	Cost		Value		Gains		(Losses)			Cost		Value		Gains		(Losses)			Cost		Value		Gains		(Losses)			Cost		Value		Gains		(Losses)
Held-to-maturity:
Obligations of state and political subdivisions	$	20,213	$	20,790	$	577	$	—		$	30,856	$	31,544	$	694	$	(6	)	$	19,599	$	19,857	$	278	$	(20	)	$	19,646	$	19,998	$	383	$	(31	)
Corporate bonds	—		—		—		—			3,519		3,518		—		(1		)
MBS pass-through securities issued by FHLMC and FNMA	103,624		103,904		425		(145		)	10,063		10,035		126		(154		)	97,222		94,735		12		(2,499		)	100,376		100,096		234		(514		)
CMOs issued by FHLMC	31,285		31,455		173		(3		)	—		—		—		—			32,192		31,226		1		(967		)	31,010		30,938		2		(74		)
Total held-to-maturity	155,122		156,149		1,175		(148		)	44,438		45,097		820		(161		)	149,013		145,818		291		(3,486		)	151,032		151,032		619		(619		)
Available-for-sale:
Securities of U.S. government agencies:
MBS pass-through securities issued by FHLMC and FNMA	91,404		91,716		551		(239		)	193,998		190,566		145		(3,577		)	93,915		92,029		22		(1,908		)	65,559		65,262		126		(423		)
SBA-backed securities																			33,809		33,538		8		(279		)	25,979		25,982		58		(55		)
CMOs issued by FNMA	11,504		11,529		68		(43		)	13,790		13,772		91		(109		)	34,210		33,613		9		(606		)	35,340		35,125		33		(248		)
CMOs issued by FHLMC	35,317		35,360		56		(13		)	43,452		42,758		37		(731		)	123,007		120,374		60		(2,693		)	70,514		69,889		3		(628		)
CMOs issued by GNMA	8,754		8,765		62		(51		)	6,844		6,945		102		(1		)	17,173		16,650		5		(528		)	17,953		17,785		26		(194		)
Debentures of government- sponsored agencies	30,492		30,382		—		(110		)	35,486		35,403		7		(90		)	27,446		27,336		6		(116		)	12,940		12,938		3		(5		)
Privately issued CMOs	127		128		1		—			419		419		1		(1		)	1,389		1,390		3		(2		)	1,432		1,431		1		(2		)
Obligations of state and political subdivisions	74,903		75,181		675		(397		)	79,306		77,701		135		(1,740		)	95,395		93,414		99		(2,080		)	98,027		97,491		298		(834		)
Corporate bonds	4,967		5,031		64		—			4,959		5,016		57		—			5,527		5,538		27		(16		)	6,541		6,564		26		(3		)
Total available-for-sale	257,468		258,092		1,477		(853		)	378,254		372,580		575		(6,249		)	431,871		423,882		239		(8,228		)	334,285		332,467		574		(2,392		)
Total investment securities	$	412,590	$	414,241	$	2,652	$	(1,001	)	$	422,692	$	417,677	$	1,395	$	(6,410	)	$	580,884	$	569,700	$	530	$	(11,714	)	$	485,317	$	483,499	$	1,193	$	(3,011	)

The amortized cost and fair value of investment debt securities by contractual maturity at ~~September 30, 2017~~March 31, 2018 are shown ~~below.~~in the following table. Expected maturities may differ from contractual maturities if the issuers of the securities have the right to call or prepay obligations with or without call or prepayment penalties.


	September 30, 2017								December 31, 2016								March 31, 2018								December 31, 2017
	Held-to-Maturity				Available-for-Sale				Held-to-Maturity				Available-for-Sale				Held-to-Maturity				Available-for-Sale				Held-to-Maturity				Available-for-Sale
(in thousands)	Amortized Cost		Fair Value		Amortized Cost		Fair Value		Amortized Cost		Fair Value		Amortized Cost		Fair Value		Amortized Cost		Fair Value		Amortized Cost		Fair Value		Amortized Cost		Fair Value		Amortized Cost		Fair Value
Within one year	$	2,092	$	2,132	$	8,884	$	8,893	$	13,473	$	13,506	$	20,136	$	20,109	$	3,230	$	3,256	$	10,291	$	10,281	$	2,151	$	2,172	$	10,268	$	10,272
After one but within five years	15,206		15,565		67,085		67,065		16,706		17,150		58,334		58,267		14,458		14,599		77,606		76,619		15,577		15,791		71,576		71,237
After five years through ten years	56,607		56,979		101,756		101,880		3,000		3,125		113,576		110,842		53,048		51,589		225,526		220,904		54,641		54,554		129,723		128,954
After ten years	81,217		81,473		79,743		80,254		11,259		11,316		186,208		183,362		78,277		76,374		118,448		116,078		78,663		78,515		122,718		122,004
Total	$	155,122	$	156,149	$	257,468	$	258,092	$	44,438	$	45,097	$	378,254	$	372,580	$	149,013	$	145,818	$	431,871	$	423,882	$	151,032	$	151,032	$	334,285	$	332,467

~~Sales of~~

Pledged investment securities ~~and gross gains and losses~~ are shown in the following ~~table.~~table:

Three months ended Nine months ended
(in thousands) September 30, 2017 September 30, 2016 September 30, 2017 September 30, 2016
Available-for-sale:
Sales proceeds $ —
$ —
$ 1,321
$ 68,673
Gross realized gains —
—
13
458
Gross realized losses —
—
(3 ) (64 )

~~For the respective periods of September 30, 2017 and December 31, 2016, investment securities carried at~~ ~~$112.4 million~~ ~~and $109.1 million were pledged with the State of California:~~ ~~$111.6 million~~ ~~and $108.3 million to secure public deposits in compliance with the Local Agency Security Program, and~~ ~~$777 thousand~~ and $822 thousand to provide collateral for trust deposits. In addition, investment securities carried at $2.0 million and $2.1 million were pledged to collateralize a Wealth Management and Trust Services (“WMTS”) checking account at ~~September 30, 2017~~ ~~and~~ ~~December 31, 2016, respectively.~~



(in thousands)	March 31, 2018		December 31, 2017
Pledged to the State of California:
Secure public deposits in compliance with the Local Agency Security Program	$	102,738	$	107,829
Collateral for trust deposits	754		761
Total investment securities pledged to the State of California	$	103,492	$	108,590
Collateral for Wealth Management and Trust Services ("WMTS") checking account	$	2,018	$	2,026

As part of our ongoing review of our investment securities portfolio, we reassessed the classification of certain MBS pass-through and CMOs securities issued by FHLMC and FNMA. ~~Effective February 24,~~During 2017, we transferred $129 million of these securities, which we intend and have the ability to hold to maturity, from available-for-sale securities to held-to-maturity at fair value. The net unrealized pre-tax loss of $3.0 million at the date of transfer remained in accumulated other comprehensive income and isare amortized over the remaining lives of the securities. Amortization of the net unrealized pre-tax losses totaled $136 thousand and $41 thousand in the first quarter of 2018 and 2017, respectively.

Other-Than-Temporarily Impaired ("OTTI") Debt Securities

We have evaluated the credit of our investment securities and their issuers and/or insurers. Based on our evaluation, Management has determined that no investment security in our investment portfolio is other-than-temporarily impaired as of ~~September 30, 2017.~~March 31, 2018. We do not have the intent and it is more likely than not that we will not have to sell the remaining securities temporarily impaired at ~~September 30, 2017~~March 31, 2018 before recovery of the amortized cost basis.

There were 67258 and ~~134~~198 investment securities in unrealized loss positions at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016~~2017, respectively. Those securities are summarized and classified according to the duration of the loss period in the ~~tables below:~~following tables:

September 30, 2017 < 12 continuous months ≥ 12 continuous months
Total securities
in a loss position
(in thousands) Fair value Unrealized loss Fair value Unrealized loss Fair value Unrealized loss
Held-to-maturity:
MBS pass-through securities issued by FHLMC and FNMA 17,764
(115 ) 31,501
(30 ) 49,265
(145 )
CMOs issued by FHLMC —
—
1,505
(3 ) 1,505
(3 )
Total held-to-maturity 17,764
(115 ) 33,006
(33 ) 50,770
(148 )
Available-for-sale:
MBS pass-through securities issued by FHLMC and FNMA 21,619
(229 ) 2,321
(10 ) 23,940
(239 )
CMOs issued by FNMA 8,005
(43 ) —
—
8,005
(43 )
CMOs issued by FHLMC 15,014
(13 ) —
—
15,014
(13 )
CMOs issued by GNMA 4,807
(51 ) —
—
4,807
(51 )
Debentures of government- sponsored agencies 19,929
(64 ) 9,953
(46 ) 29,882
(110 )
Obligations of state and political subdivisions 6,129
(38 ) 18,010
(359 ) 24,139
(397 )
Total available-for-sale 75,503
(438 ) 30,284
(415 ) 105,787
(853 )
Total temporarily impaired securities $ 93,267
$ (553 ) $ 63,290
$ (448 ) $ 156,557
$ (1,001 )


December 31, 2016	< 12 continuous months					≥ 12 continuous months					Total securities in a loss position
March 31, 2018																< 12 continuous months					≥ 12 continuous months					Total securities in a loss position
(in thousands)	Fair value		Unrealized loss			Fair value		Unrealized loss			Fair value		Unrealized loss			Fair value		Unrealized loss			Fair value		Unrealized loss			Fair value		Unrealized loss
Held-to-maturity:
Obligations of state and political subdivisions	$	2,250	$	(154	)	$	—	$	—		$	2,250	$	(154	)	$	3,636	$	(20	)	$	—	$	—		$	3,636	$	(20	)
Corporate bonds	3,362		(6		)	—		—			3,362		(6		)
MBS pass-through securities issued by FHLMC and FNMA	3,518		(1		)	—		—			3,518		(1		)	22,570		(611		)	69,808		(1,888		)	92,378		(2,499		)
CMOs issued by FHLMC																16,571		(445		)	12,667		(522		)	29,238		(967		)
Total held-to-maturity	9,130		(161		)	—		—			9,130		(161		)	42,777		(1,076		)	82,475		(2,410		)	125,252		(3,486		)
Available-for-sale:
MBS pass-through securities issued by FHLMC and FNMA	162,016		(3,577		)	—		—			162,016		(3,577		)	71,449		(1,314		)	18,895		(594		)	90,344		(1,908		)
SBA-backed securities																24,816		(277		)	165		(2		)	24,981		(279		)
CMOs issued by FNMA	9,498		(109		)	—		—			9,498		(109		)	28,289		(473		)	5,061		(133		)	33,350		(606		)
CMOs issued by FHLMC	31,545		(731		)	—		—			31,545		(731		)	107,801		(2,693		)	—		—			107,801		(2,693		)
CMOs issued by GNMA	1,583		(1		)	—		—			1,583		(1		)	15,955		(528		)	—		—			15,955		(528		)
Debentures of government- sponsored agencies	19,951		(38		)	9,946		(52		)	29,897		(90		)	12,330		(116		)	—		—			12,330		(116		)
Privately issued CMOs																862		(2		)	—		—			862		(2		)
Obligations of state and political subdivisions	59,567		(1,740		)	—		—			59,567		(1,740		)	63,831		(920		)	18,880		(1,160		)	82,711		(2,080		)
Corporate bonds	154		(1		)	—		—			154		(1		)	4,032		(16		)	—		—			4,032		(16		)
Total available-for-sale	284,314		(6,197		)	9,946		(52		)	294,260		(6,249		)	329,365		(6,339		)	43,001		(1,889		)	372,366		(8,228		)
Total temporarily impaired securities	$	293,444	$	(6,358	)	$	9,946	$	(52	)	$	303,390	$	(6,410	)	$	372,142	$	(7,415	)	$	125,476	$	(4,299	)	$	497,618	$	(11,714	)



December 31, 2017	< 12 continuous months					≥ 12 continuous months					Total securities in a loss position
(in thousands)	Fair value		Unrealized loss			Fair value		Unrealized loss			Fair value		Unrealized loss
Held-to-maturity:
Obligations of state and political subdivisions	$	3,648	$	(31	)	$	—	$	—		$	3,648	$	(31	)
MBS pass-through securities issued by FHLMC and FNMA	$	16,337	$	(143	)	$	46,845	$	(371	)	$	63,182	$	(514	)
CMOs issued by FHLMC	11,066		(31		)	13,824		(43		)	24,890		(74		)
Total held-to-maturity	31,051		(205		)	60,669		(414		)	91,720		(619		)
Available-for-sale:
MBS pass-through securities issued by FHLMC and FNMA	32,189		(121		)	15,325		(302		)	47,514		(423		)
SBA-backed securities	11,028		(53		)	165		(2		)	11,193		(55		)
CMOs issued by FNMA	26,401		(171		)	5,440		(77		)	31,841		(248		)
CMOs issued by FHLMC	69,276		(628		)	—		—			69,276		(628		)
CMOs issued by GNMA	14,230		(194		)	—		—			14,230		(194		)
Debentures of government- sponsored agencies	2,984		(5		)	—		—			2,984		(5		)
Privately issued CMO's	1,310		(2		)	—		—			1,310		(2		)
Obligations of state and political subdivisions	52,197		(288		)	19,548		(546		)	71,745		(834		)
Corporate bonds	3,060		(3		)	—		—			3,060		(3		)
Total available-for-sale	212,675		(1,465		)	40,478		(927		)	253,153		(2,392		)
Total temporarily impaired securities	$	243,726	$	(1,670	)	$	101,147	$	(1,341	)	$	344,873	$	(3,011	)

As of ~~September 30, 2017, there was one debenture of government-sponsored agency security, one CMO issued by FHLMC, five MBS pass-through~~March 31, 2018, sixty-one investment securities ~~issued by FNMA and thirty obligations of U.S. state and political subdivisions securities that have~~in our portfolio had been in a continuous loss position for twelve months or more. They consisted of one SBA-backed security, four CMOs issued by FHLMC, three CMOs issued by FNMA, twenty-one agency MBS securities and thirty-two obligations of U.S. state and political subdivisions securities. We have evaluated the securities and believe that the decline in fair value is primarily driven by factors other than credit. It is probable that we will be able to collect all amounts due according to the contractual terms and no other-than-temporary impairment exists on these securities. The debenture of government-sponsored agency security is supported by the U.S. Federal Government, which protects us from credit losses. Based upon our assessment of the credit fundamentals, we concluded that these securities were not other-than-temporarily impaired at ~~September 30, 2017.~~March 31, 2018.

There were ~~thirty~~one hundred ninety-seven investment securities in our portfolio that had been in temporary loss positions for less than twelve months as of ~~September 30, 2017,~~March 31, 2018, and their temporary loss positions mainly arose from changes in interest rates since purchase. They consisted of ~~one debenture~~seven SBA-backed securities, five debentures of a U.S. government-sponsored agency, ~~eight~~one hundred one obligations of U.S. state and political subdivisions, ~~twelve~~thirty-four MBS securities, ~~and nine~~forty-three CMOs issued by government-sponsored ~~agencies.~~agencies, one privately issued CMO and six corporate bonds. Securities of government-sponsored agencies are supported by the U.S. Federal Government, which protects us from credit losses. Other temporarily impaired securities are deemed creditworthy after internal analysis of the issuers' latest financial information and credit enhancement. Additionally, all are rated as investment grade by at least one major rating agency. As a result of this impairment analysis, we concluded that these securities were not other-than-temporarily impaired at ~~September 30, 2017.~~March 31, 2018.

Non-Marketable Securities

As a member of the FHLB, we are required to maintain a minimum investment in FHLB capital stock determined by the Board of Directors of the FHLB. The minimum investment requirements can increase in the event we increase our total asset size or borrowings with the FHLB. Shares cannot be purchased or sold except between the FHLB and its members at the $100 per share par value. We held ~~$10.2~~$11.1 million of FHLB stock recorded at cost in other assets on the consolidated statements of condition at both ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016~~2017. The carrying amounts of these investments are reasonable estimates of fair value because the securities are restricted to member banks and they do not have a readily determinable market value. Management does not believe that the FHLB stock is other-than-temporarily-impaired, due to FHLB's current financial condition. On ~~October~~April 26, ~~2017,~~2018, FHLB announced a cash dividend to be distributed in ~~mid-November 2017~~mid-May 2018 at an annualized dividend rate of 7.00%. Cash dividends paid on FHLB capital stock are recorded as non-interest income.

As a member bank of Visa U.S.A., we hold 16,939 shares of Visa Inc. Class B common stock with a carrying value of zero, which is equal to our cost basis. These shares are restricted from resale until their conversion into Class A (voting) shares upon the termination of Visa Inc.'s Covered Litigation escrow account. As a result of the restriction, these shares are not considered available-for-sale and are not carried at fair value. When converting this Class B common stock to Class A common stock based on the conversion rate of 1.6483 and the closing stock price of Class A shares, the value of our shares of Class B common stock would have been ~~$2.9~~$3.3 million and ~~$2.2~~$3.2 million at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, respectively. The conversion rate is subject to further reduction upon the final settlement of the covered litigation against Visa Inc. and its member banks. As such, the fair value of these Class B shares can differ significantly from their if-converted values. For further information, see Note 8, Commitments and ~~Contingencies.~~Contingencies.

We invest in low-income housing tax credit funds as a limited partner, which totaled ~~$2.3~~$5.0 million and ~~$2.5~~$2.1 million recorded in other assets as of ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016~~2017, respectively. In the first ~~nine~~three months of ~~2017,~~2018, we recognized ~~$249~~$110 thousand of low-income housing tax credits and other tax benefits, net of ~~$199~~$94 thousand of amortization expense of low-income housing tax credit investment, as a component of income tax expense. As of ~~September 30, 2017,~~March 31, 2018, our unfunded commitments for these low-income housing tax credit funds totaled ~~$549 thousand.~~$3.2 million. We did not recognize any impairment losses on these low-income housing tax credit investments during the first ~~nine~~three months of 2018 or 2017, ~~or 2016.~~as the value of the future tax benefits exceeds the carrying value of the investments.

Note 5: Loans and Allowance for Loan Losses

Credit Quality of Loans

The following table shows outstanding loans by class and payment aging as of ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016~~2017.

																																	Loan Aging Analysis by Loan Class
(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential ¹		Installment and other consumer		Total		Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential ¹		Installment and other consumer		Total
September 30, 2017
March 31, 2018
30-59 days past due	$	—	$	—	$	—	$	—	$	100	$	—	$	5	$	105	$	—	$	—	$	—	$	—	$	385	$	—	$	—	$	385
60-89 days past due	—		—		—		—		307		—		1		308		4		—		—		—		—		—		—		4
90 days or more past due	—		—		—		—		—		—		—		—		—		—		—		—		—		—		—		—
Total past due	—		—		—		—		407		—		6		413		4		—		—		—		385		—		—		389
Current	218,681		264,732		721,576		76,179		120,959		96,937		24,970		1,524,034		231,676		300,377		828,945		64,978		124,314		95,621		25,440		1,671,351
Total loans ³	$	218,681	$	264,732	$	721,576	$	76,179	$	121,366	$	96,937	$	24,976	$	1,524,447	$	231,680	$	300,377	$	828,945	$	64,978	$	124,699	$	95,621	$	25,440	$	1,671,740
Non-accrual loans ²	$	—	$	—	$	1,024	$	—	$	292	$	—	$	—	$	1,316	$	—	$	—	$	—	$	—	$	392	$	—	$	—	$	392
December 31, 2016
December 31, 2017
30-59 days past due	$	283	$	—	$	—	$	—	$	77	$	—	$	2	$	362	$	—	$	—	$	—	$	—	$	99	$	255	$	330	$	684
60-89 days past due	—		—		—		—		—		—		49		49		1,340		—		—		—		—		—		—		1,340
90 days or more past due	—		—		—		—		91		—		—		91		—		—		—		—		307		—		—		307
Total past due	283		—		—		—		168		—		51		502		1,340		—		—		—		406		255		330		2,331
Current	218,332		247,713		724,228		74,809		117,039		78,549		25,444		1,486,114		234,495		300,963		822,984		63,828		132,061		95,271		27,080		1,676,682
Total loans ³	$	218,615	$	247,713	$	724,228	$	74,809	$	117,207	$	78,549	$	25,495	$	1,486,616	$	235,835	$	300,963	$	822,984	$	63,828	$	132,467	$	95,526	$	27,410	$	1,679,013
Non-accrual loans ²	$	—	$	—	$	—	$	—	$	91	$	—	$	54	$	145	$	—	$	—	$	—	$	—	$	406	$	—	$	—	$	406

¹ Our residential loan portfolio does not include sub-prime loans, nor is it our practice to underwrite loans commonly referred to as "Alt-A mortgages", the characteristics of which are loans lacking full documentation, borrowers having low FICO scores or higher loan-to-value ratios.

² ~~There were no~~One purchased credit impaired ("PCI") ~~loans that had stopped~~loan with an unpaid balance of $11 thousand and no carrying value was not accreting interest at ~~September 30, 2017~~March 31, 2018. Three PCI loans with unpaid balances totaling $131 thousand and no carrying values were not accreting interest at December 31, ~~2016.~~2017. Amounts exclude accreting PCI loans ~~of $2.3 million and $2.9~~totaling $2.1 million at ~~September 30, 2017~~both March 31, 2018 and December 31, ~~2016, respectively,~~2017 as we have a reasonable expectation about future cash flows to be collected and we continue to recognize accretable yield on these loans in interest income. There were no accruing loans past due more than ninety days at ~~September 30, 2017~~March 31, 2018 or December 31, ~~2016.~~2017.

³ Amounts include net deferred loan origination costs of ~~$798~~$928 thousand and ~~$883~~$818 thousand at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, respectively. Amounts are also net of unaccreted purchase discounts on non-PCI loans of ~~$1.3~~$1.1 million and ~~$1.8~~$1.2 million at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, respectively.

~~Our~~We generally make commercial loans ~~are generally made~~ to established small and mid-sized businesses to provide financing for their growth and working capital needs, equipment purchases and acquisitions. Management examines historical, current, and projected cash flows to determine the ability of the borrower to repay obligations as agreed. Commercial loans are made based primarily on the identified cash flows of the borrower and secondarily on the underlying collateral and guarantor support. The cash flows of borrowers, however, may not occur as expected, and the collateral securing these loans may fluctuate in value. Most commercial and industrial loans are secured by the assets being financed,

such as accounts receivable and inventory, and typically include a personal guarantee. We target stable businesses with guarantors ~~that~~who provide additional sources of repayment and have proven to be resilient in periods of economic stress. ~~Typically, the guarantors provide an additional source of repayment for most of our credit extensions.~~

Commercial real estate loans are subject to underwriting standards and processes similar to commercial loans discussed above. We underwrite these loans to be repaid from cash flow and to be supported by real property collateral. Underwriting standards for commercial real estate loans include, but are not limited to, debt coverage and loan-to-value ratios. Furthermore, the owners of the properties guarantee substantially all of our ~~loans are guaranteed by the owners of the properties. Commercial~~commercial real estate ~~loans may be adversely affected by conditions~~loans. Conditions in the real estate markets or in the general ~~economy.~~economy may adversely affect our commercial real estate loans. In the event of a vacancy, we expect guarantors ~~are expected~~ to carry the loans until they find a replacement ~~tenant can be found.~~tenant. The owner's substantial equity investment provides a strong economic incentive to continue to support the commercial real estate projects. As such, we have generally experienced a relatively low level of loss and delinquencies in this portfolio.

~~Construction~~We generally make construction loans ~~are generally made~~ to developers and builders to finance construction, renovation and occasionally land acquisitions in anticipation of near-term development. These loans are underwritten after evaluation of the borrower's financial strength, reputation, prior track record, and independent appraisals. ~~The~~Significant events can affect the construction industry, ~~can be affected by significant events,~~ including: the inherent volatility of real estate markets and vulnerability to delays due to weather, change orders, inability to obtain construction permits, labor or material shortages, and price changes.

Estimates of construction costs and value associated with the completed project may be inaccurate. Repayment of construction loans is largely dependent on the ultimate success of the project.

Consumer loans primarily consist of home equity lines of credit, ~~and~~ other residential ~~tenancy-in-common fractional interest~~ loans ~~("TIC"),~~and floating ~~homes and mobile~~ homes, along with a small number of installment loans. Our other residential loans include tenancy-in-common fractional interest loans ("TIC") located almost entirely in San Francisco County. We originate consumer loans utilizing credit score information, debt-to-income ratio and loan-to-value ratio analysis. Diversification among consumer loan types, coupled with relatively small loan amounts that are spread across many individual borrowers, mitigates risk. ~~Our other residential loans include TIC units located almost entirely in San Francisco County.~~

We use a risk rating system to evaluate asset quality, and to identify and monitor credit risk in individual loans, and in the loan portfolio. ~~Definitions~~Our definitions of ~~loans that are~~“Special Mention” risk graded ~~“Special Mention”~~loans, or worse, are consistent with those used by the Federal Deposit Insurance Corporation ("FDIC"). Our internally assigned grades are as follows:

Pass and Watch: Loans to borrowers of acceptable or better credit quality. Borrowers in this category demonstrate fundamentally sound financial positions, repayment capacity, credit history and management expertise. Loans in this category must have an identifiable and stable source of repayment and meet the Bank’s policy regarding ~~debt service coverage~~debt-service-coverage ratios. These borrowers are capable of sustaining normal economic, market or operational setbacks without significant financial consequences. Negative external industry factors are generally not present. The loan may be secured, unsecured or supported by non-real estate collateral for which the value is more difficult to determine and/or marketability is more uncertain. This category also includes “Watch” loans, where the primary source of repayment has been delayed. “Watch” is intended to be a transitional grade, with either an upgrade or downgrade within a reasonable period.

Special Mention: Potential weaknesses that deserve close attention. If left uncorrected, those potential weaknesses may result in deterioration of the payment prospects for the asset. Special Mention assets do not present sufficient risk to warrant adverse classification.

Substandard: Inadequately protected by either the current sound worth and paying capacity of the obligor or the collateral pledged, if any. A Substandard asset has a well-defined weakness or weaknesses that jeopardize(s) the liquidation of the debt. Substandard assets are characterized by the distinct possibility that we will sustain some loss if such weaknesses or deficiencies are not corrected. Well-defined weaknesses include adverse trends or developments of the borrower’s financial condition, managerial weaknesses ~~and~~and/or significant collateral deficiencies.

Doubtful: Critical weaknesses that make collection or liquidation in full improbable. There may be specific pending events that work to strengthen the asset; however, the amount or timing of the loss may not be determinable. Pending events generally occur within one year of the asset being classified as Doubtful. Examples include: merger, acquisition, or liquidation; capital injection; guarantee; perfecting liens on additional collateral; and refinancing. Such loans are placed on non-accrual status and usually are collateral-dependent.

We regularly review our credits for accuracy of risk grades whenever we receive new ~~information is received.~~information. Borrowers are required to submit financial information at regular intervals. Generally, commercial borrowers with lines of credit are

required to submit financial information with reporting intervals ranging from monthly to annually depending on credit size, risk and complexity. Investor commercial real estate borrowers are generally required to submit rent rolls or property income statements annually. ~~Construction~~We monitor construction loans ~~are monitored~~ monthly and ~~reviewed~~review them on an ongoing basis. ~~Home~~We review home equity and other consumer loans ~~are reviewed~~ based on ~~delinquency. Loans~~delinquency status. We also review loans graded “Watch” or worse, regardless of loan type, ~~are reviewed~~ no less than quarterly.

The following table represents an analysis of the carrying amount in loans, net of deferred fees and costs and purchase premiums or discounts, by internally assigned risk grades, including PCI loans, at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016.~~2017.

																																					Credit Risk Profile by Internally Assigned Risk Grade
(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential		Installment and other consumer		Purchased credit-impaired		Total		Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential		Installment and other consumer		Purchased credit-impaired		Total
September 30, 2017
March 31, 2018
Pass	$	195,500	$	244,100	$	717,760	$	73,210	$	119,856	$	96,937	$	24,739	$	2,272	$	1,474,374	$	213,676	$	279,899	$	824,867	$	62,003	$	122,760	$	95,621	$	25,339	$	1,338	$	1,625,503
Special Mention	6,153		10,437		—		—		—		—		—		—		16,590		4,761		9,918		2,954		—		—		—		—		797		18,430
Substandard	16,991		9,055		2,818		2,969		1,413		—		237		—		33,483		13,191		9,366		327		2,975		1,847		—		101		—		27,807
Total loans	$	218,644	$	263,592	$	720,578	$	76,179	$	121,269	$	96,937	$	24,976	$	2,272	$	1,524,447	$	231,628	$	299,183	$	828,148	$	64,978	$	124,607	$	95,621	$	25,440	$	2,135	$	1,671,740
December 31, 2016
December 31, 2017
Pass	$	201,987	$	234,849	$	720,417	$	71,564	$	115,680	$	78,549	$	25,083	$	2,920	$	1,451,049	$	214,636	$	281,104	$	818,570	$	60,859	$	130,558	$	95,526	$	27,287	$	1,325	$	1,629,865
Special Mention	9,197		4,799		607		—		1,334		—		—		—		15,937		9,318		9,284		1,850		—		—		—		—		790		21,242
Substandard	7,391		6,993		1,498		3,245		91		—		412		—		19,630		11,816		9,409		1,774		2,969		1,815		—		123		—		27,906
Total loans	$	218,575	$	246,641	$	722,522	$	74,809	$	117,105	$	78,549	$	25,495	$	2,920	$	1,486,616	$	235,770	$	299,797	$	822,194	$	63,828	$	132,373	$	95,526	$	27,410	$	2,115	$	1,679,013

Troubled Debt Restructuring

Our loan portfolio includes certain loans ~~that have been~~ modified in a troubled debt restructuring (“TDR”), where we have granted economic concessions ~~have been granted~~ to borrowers experiencing financial difficulties. These concessions typically result from our loss mitigation activities and could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance or other actions. TDRs on non-accrual status at the time of restructure may be returned to accruing status after Management considers the borrower’s sustained repayment performance for a reasonable period, generally six months, and obtains reasonable assurance of repayment and performance.

AWe may remove a loan ~~may no longer be reported as a~~from TDR designation if it meets all of the following ~~conditions are met:~~conditions:

The loan is subsequently refinanced or restructured at current market interest rates and the new terms are consistent with the treatment of creditworthy borrowers under regular underwriting standards;

The borrower is no longer considered to be in financial difficulty;

Performance on the loan is reasonably assured; and;

Existing loan did not have any forgiveness of principal or interest.

The ~~removal of TDR status must be approved by the~~ same Management level that approved the upgrading of the loan ~~classification.~~classification must approve the removal of TDR status. During the three months ended March 31, 2018, one TIC loan with a recorded investment of $150 thousand was removed from TDR designation after meeting all of the conditions noted above. There were no loans removed from TDR designation during ~~2017 and 2016.~~2017.

The following table summarizes the carrying amount of TDR loans by loan class as of ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016.~~2017.


(in thousands)
Recorded investment in Troubled Debt Restructurings ¹	September 30, 2017		December 31, 2016		March 31, 2018		December 31, 2017
Commercial and industrial	$	2,050	$	2,207	$	2,267	$	2,165
Commercial real estate, owner-occupied	6,999		6,993		7,007		6,999
Commercial real estate, investor	2,193		2,256		1,854		2,171
Construction	2,969		3,245		2,976		2,969
Home equity	348		625		347		347
Other residential	1,159		1,965		992		1,148
Installment and other consumer	666		877		712		721
Total	$	16,384	$	18,168	$	16,155	$	16,520

¹There were no TDR loans on non-accrual status at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016.~~2017.

The following table presents information for loans modified in a TDR during the presented periods, including the number of modified contracts, ~~modified,~~ the recorded investment in the loans prior to modification, and the recorded investment in the loans at period end after being restructured. The following table excludes fully charged-off TDR loans and loans modified in a TDR and subsequently paid-off during the years presented.



(dollars in thousands)	Number of Contracts Modified	Pre-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment		Post-Modification Outstanding Recorded Investment at Period End
Troubled Debt Restructurings during the three months ended March 31, 2018:
None	—	$	—	$	—	$	—
Troubled Debt Restructurings during the three months ended March 31, 2017:
Installment and other consumer	1	$	50	$	50	$	50



~~(dollars in thousands)~~	~~Number of Contracts Modified~~	~~Pre-Modification Outstanding Recorded Investment~~		~~Post-Modification Outstanding Recorded Investment~~		~~Post-Modification Outstanding Recorded Investment at Period End~~
~~Troubled Debt Restructurings during the three months ended September 30, 2017:~~
~~None~~	—	$	—	$	—	$	—
~~Troubled Debt Restructurings~~

The modification during the three ~~months ended September 30, 2016:~~

~~None~~—
$—
$—
$—

Troubled Debt Restructurings during the nine months ended
September 30, 2017:
Installment and consumer 1
$ 50
$ 50
$ 49
Troubled Debt Restructurings during the nine months ended
September 30, 2016:

Commercial real estate, investor 2
$ 1,830
$ 1,826
$ 1,808
Home equity¹
1
87
222
222
Total 3
$ 1,917
$ 2,048
$ 2,030

¹The home equity TDR modification during the second quarter of 2016 included debt consolidation, which increased the post-modification balance.

~~The modifications during the nine~~ months ended ~~September 30,~~March 31, 2017 ~~and 2016~~ primarily involved an interest rate ~~concessions, renewals,~~concession and other changes to loan terms. During the first ~~nine~~three months of ~~2017~~2018 and ~~2016,~~2017, there were no defaults on loans that had been modified in a TDR within the prior twelve-month period. We report defaulted TDRs based on a payment default definition of more than ninety days past due.

Impaired Loans

The following tables summarize information by class on impaired loans and their related allowances. Total impaired loans include non-accrual loans, accruing TDR loans and accreting PCI loans that have experienced post-acquisition declines in cash flows expected to be collected.

(in thousands) Commercial and industrial
Commercial real estate, owner-occupied
Commercial real estate, investor
Construction
Home equity
Other residential
Installment and other consumer
Total
September 30, 2017

Recorded investment in impaired loans:
With no specific allowance recorded $ 311
$ —
$ 1,024
$ 2,691
$ 292
$ 998
$ 47
$ 5,363
With a specific allowance recorded 1,740
6,999
2,193
278
348
160
619
12,337
Total recorded investment in impaired loans $ 2,051
$ 6,999
$ 3,217
$ 2,969
$ 640
$ 1,158
$ 666
$ 17,700
Unpaid principal balance of impaired loans $ 2,030
$ 6,993
$ 3,230
$ 2,963
$ 637
$ 1,157
$ 665
$ 17,675
Specific allowance 35
84
369
5
6
2
85
586
Average recorded investment in impaired loans during the quarter ended
September 30, 2017 2,063
7,000
3,236
3,104
607
1,164
802
17,976
Interest income recognized on impaired loans during the quarter ended
September 30, 2017 ¹
27
67
22
39
5
14
9
183
Average recorded investment in impaired loans during the nine months ended
September 30, 2017 2,100
6,998
3,010
3,174
660
1,367
871
18,180
Interest income recognized on impaired loans during the nine months ended
September 30, 2017 ¹
74
199
65
110
19
48
29
544
Average recorded investment in impaired loans during the quarter ended
September 30, 2016 3,352
7,169
3,146
3,238
1,140
1,981
1,113
21,139
Interest income recognized on impaired loans during the quarter ended
September 30, 2016¹
44
67
1,385
32
38
22
12
1,600
Average recorded investment in impaired loans during the nine months ended
September 30, 2016 3,802
7,081
3,397
3,238
1,098
1,993
1,179
21,788
Interest income recognized on impaired loans during the nine months ended
September 30, 2016 ¹
142
133
1,489
105
48
67
37
2,021



(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential		Installment and other consumer		Total
March 31, 2018
Recorded investment in impaired loans:
With no specific allowance recorded	$	307	$	—	$	—	$	2,692	$	392	$	992	$	46	$	4,429
With a specific allowance recorded	1,960		7,007		1,854		284		347		—		666		12,118
Total recorded investment in impaired loans	$	2,267	$	7,007	$	1,854	$	2,976	$	739	$	992	$	712	$	16,547
Unpaid principal balance of impaired loans	$	2,260	$	6,993	$	1,847	$	2,962	$	736	$	991	$	711	$	16,500
Specific allowance	35		162		48		11		6		—		92		354
Average recorded investment in impaired loans during the quarter ended March 31, 2018	2,216		7,003		2,012		2,972		746		1,070		717		16,736
Interest income recognized on impaired loans during the quarter ended March 31, 2018¹	155		66		22		38		5		13		7		306
Average recorded investment in impaired loans during the quarter ended March 31, 2017	2,138		6,997		2,783		3,243		713		1,571		939		18,384
Interest income recognized on impaired loans during the quarter ended March 31, 2017¹	23		66		23		34		8		19		10		183

¹Interest income recognized on a cash basis totaled $128 thousand in the first quarter of 2018 and was related to the pay-off of two non-accrual commercial PCI loans. No interest income on impaired loans was recognized on a cash basis during the three ~~and nine~~ months ended ~~September 30,~~March 31, 2017. Interest income recognized on a cash basis totaled $1.4 million for the three and nine months ended September 30, 2016 and was primarily related to an interest recovery upon the pay-off of a partially charged-off non-accrual commercial real estate loan during the third quarter.


(in thousands)	Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential		Installment and other consumer		Total		Commercial and industrial		Commercial real estate, owner-occupied		Commercial real estate, investor		Construction		Home equity		Other residential		Installment and other consumer		Total
December 31, 2016
December 31, 2017																	December 31, 2017
Recorded investment in impaired loans:	Recorded investment in impaired loans:																Recorded investment in impaired loans:
With no specific allowance recorded	$	315	$	—	$	—	$	2,692	$	91	$	1,008	$	103	$	4,209	$	309	$	—	$	—	$	2,689	$	406	$	995	$	46	$	4,445
With a specific allowance recorded	1,892		6,993		2,256		553		624		957		829		14,104		1,856		6,999		2,171		280		347		153		675		12,481
Total recorded investment in impaired loans	$	2,207	$	6,993	$	2,256	$	3,245	$	715	$	1,965	$	932	$	18,313	$	2,165	$	6,999	$	2,171	$	2,969	$	753	$	1,148	$	721	$	16,926
Unpaid principal balance of impaired loans	$	2,177	$	6,993	$	2,252	$	3,238	$	713	$	1,965	$	932	$	18,270	$	2,278	$	6,993	$	2,168	$	2,963	$	750	$	1,147	$	720	$	17,019
Specific allowance	$	285	$	163	$	375	$	8	$	7	$	55	$	98	$	991	$	50	$	188	$	159	$	7	$	6	$	1	$	102	$	513

Management monitors delinquent loans continuously and identifies problem loans, generally loans graded ~~substandard~~Substandard or worse, loans on non-accrual status and loans modified in a TDR, to be evaluated individually for ~~impairment testing.~~ impairment.

Generally, the recorded investment in impaired loans is net of any charge-offs from estimated losses related to ~~specifically-identified~~specifically identified impaired loans when they are deemed uncollectible. There were no charged-off ~~portions of~~amounts on impaired loans ~~outstanding~~ at ~~September 30, 2017 and~~March 31, 2018 or December 31, ~~2016.~~2017. In addition, the recorded investment in impaired loans is net of purchase discounts or premiums on acquired loans and deferred fees and costs. At ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016, respectively,~~2017, unused commitments to extend credit on impaired loans, including performing loans to borrowers whose terms have been modified in TDRs, totaled ~~$1.1 million~~$610 thousand and ~~$1.6 million.~~$935 thousand, respectively.

The following tables disclose activity in the allowance for loan losses ("ALLL") and the recorded investment in loans by class, as well as the related ALLL disaggregated by impairment evaluation method.



Allowance for Loan Losses Rollforward for the Period
(in thousands)	Commercial and industrial			Commercial real estate, owner-occupied			Commercial real estate, investor			Construction			Home equity			Other residential			Installment and other consumer			Unallocated			Total
Three months ended March 31, 2018
Beginning balance	$	3,654		$	2,294		$	6,475		$	681		$	1,031		$	536		$	378		$	718		$	15,767
Provision (reversal)	35			(214		)	(20		)	16			(52		)	7			(27		)	255			—
Charge-offs	—			—			—			—			—			—			—			—			—
Recoveries	4			—			—			—			—			—			—			—			4
Ending balance	$	3,693		$	2,080		$	6,455		$	697		$	979		$	543		$	351		$	973		$	15,771
Three months ended March 31, 2017
Beginning balance	$	3,248		$	1,753		$	6,320		$	781		$	973		$	454		$	372		$	1,541		$	15,442
Provision (reversal)	1,386			239			(187		)	(235		)	17			(10		)	(11		)	(1,199		)	—
Charge-offs	(284		)	—			—			—			—			—			(3		)	—			(287		)
Recoveries	63			—			—			—			—			—			1			—			64
Ending balance	$	4,413		$	1,992		$	6,133		$	546		$	990		$	444		$	359		$	342		$	15,219

Allowance for Loan Losses Rollforward for the Period
(in thousands) Commercial and industrial
Commercial real estate, owner-occupied
Commercial real estate, investor
Construction
Home equity
Other residential
Installment and other consumer
Unallocated
Total
Three months ended September 30, 2017

Beginning balance $ 3,932
$ 2,082
$ 6,065
$ 411
$ 981
$ 509
$ 340
$ 912
$ 15,232
Provision (reversal) 612
(56 ) 33
217
21
33
(5 ) (855 ) —
Charge-offs (5 ) —
—
—
—
—
(1 ) —
(6 )
Recoveries 21
—
—
—
—
—
1
—
22
Ending balance $ 4,560
$ 2,026
$ 6,098
$ 628
$ 1,002
$ 542
$ 335
$ 57
$ 15,248
Three months ended September 30, 2016
Beginning balance $ 2,637
$ 1,631
$ 6,595
$ 831
$ 1,076
$ 426
$ 437
$ 1,454
$ 15,087
Provision (reversal) 828
(10 ) (2,416 ) 105
(125 ) 22
(73 ) 119
(1,550 )
Charge-offs —
—
—
—
—
—
—
—
—
Recoveries 29
—
2,146
—
1
—
—
—
2,176
Ending balance $ 3,494
$ 1,621
$ 6,325
$ 936
$ 952
$ 448
$ 364
$ 1,573
$ 15,713

Allowance for Loan Losses Rollforward for the Period
(in thousands) Commercial and industrial
Commercial real estate, owner-occupied
Commercial real estate, investor
Construction
Home equity
Other residential
Installment and other consumer
Unallocated
Total
Nine months ended September 30, 2017
Allowance for loan losses:
Beginning balance $ 3,248
$ 1,753
$ 6,320
$ 781
$ 973
$ 454
$ 372
$ 1,541
$ 15,442
Provision (reversal) 1,509
273
(222 ) (153 ) 29
88
(40 ) (1,484 ) —
Charge-offs (289 ) —
—
—
—
—
(3 ) —
(292 )
Recoveries 92
—
—
—
—
—
6
—
98
Ending balance $ 4,560
$ 2,026
$ 6,098
$ 628
$ 1,002
$ 542
$ 335
$ 57
$ 15,248
Nine months ended September 30, 2016
Allowance for loan losses:
Beginning balance $ 3,023
$ 2,249
$ 6,178
$ 724
$ 910
$ 394
$ 425
$ 1,096
$ 14,999
Provision (reversal) 388
(628 ) (2,009 ) 212
40
54
(84 ) 477
(1,550 )
Charge-offs (9 ) —
—
—
—
—
(4 ) —
(13 )
Recoveries 92
—
2,156
—
2
—
27
—
2,277
Ending balance $ 3,494
$ 1,621
$ 6,325
$ 936
$ 952
$ 448
$ 364
$ 1,573
$ 15,713



Allowance for Loan Losses and Recorded Investment in Loans
(dollars in thousands)	Commercial and industrial			Commercial real estate, owner-occupied			Commercial real estate, investor			Construction			Home equity			Other residential			Installment and other consumer			Unallocated		Total
March 31, 2018
Ending ALLL related to loans collectively evaluated for impairment	$	3,658		$	1,918		$	6,407		$	686		$	973		$	543		$	259		$	973	$	15,417
Ending ALLL related to loans individually evaluated for impairment	35			162			48			11			6			—			92			—		354
Ending ALLL related to purchased credit-impaired loans	—			—			—			—			—			—			—			—		—
Ending balance	$	3,693		$	2,080		$	6,455		$	697		$	979		$	543		$	351		$	973	$	15,771
Recorded Investment:
Collectively evaluated for impairment	$	229,361		$	292,176		$	826,294		$	62,002		$	123,868		$	94,629		$	24,728		$	—	$	1,653,058
Individually evaluated for impairment	2,267			7,007			1,854			2,976			739			992			712			—		16,547
Purchased credit-impaired	52			1,194			797			—			92			—			—			—		2,135
Total	$	231,680		$	300,377		$	828,945		$	64,978		$	124,699		$	95,621		$	25,440		$	—	$	1,671,740
Ratio of allowance for loan losses to total loans	1.59		%	0.69		%	0.78		%	1.07		%	0.79		%	0.57		%	1.38		%	NM		0.94		%
Allowance for loan losses to non-accrual loans	NM			NM			NM			NM			250		%	NM			NM			NM		4,023		%

NM - Not Meaningful

Allowance for Loan Losses and Recorded Investment in Loans
(dollars in thousands) Commercial and industrial
Commercial real estate, owner-occupied
Commercial real estate, investor
Construction
Home equity
Other residential
Installment and other consumer
Unallocated
Total
September 30, 2017
Ending ALLL related to loans collectively evaluated for impairment $ 4,525
$ 1,942
$ 5,729
$ 623
$ 996
$ 540
$ 250
$ 57
$ 14,662
Ending ALLL related to loans individually evaluated for impairment 35
84
369
5
6
2
85
—
586
Ending ALLL related to purchased credit-impaired loans —
—
—
—
—
—
—
—
—
Ending balance $ 4,560
$ 2,026
$ 6,098
$ 628
$ 1,002
$ 542
$ 335
$ 57
$ 15,248
Recorded Investment:

Collectively evaluated for impairment $ 216,594
$ 256,593
$ 717,361
$ 73,210
$ 120,629
$ 95,778
$ 24,310
$ —
$ 1,504,475
Individually evaluated for impairment 2,050
6,999
3,217
2,969
640
1,159
666
—
17,700
Purchased credit-impaired 37
1,140
998
—
97
—
—
—
2,272
Total $ 218,681
$ 264,732
$ 721,576
$ 76,179
$ 121,366
$ 96,937
$ 24,976
$ —
$ 1,524,447
Ratio of allowance for loan losses to total loans 2.09 % 0.77 % 0.85 % 0.82 % 0.83 % 0.56 % 1.34 % NM
1.00 %
Allowance for loan losses to non-accrual loans NM
NM
596 % NM
343 % NM
NM
NM
1,159 %

~~NM - Not Meaningful~~

																																																					Allowance for Loan Losses and Recorded Investment in Loans
(dollars in thousands)	Commercial and industrial			Commercial real estate, owner-occupied			Commercial real estate, investor			Construction			Home equity			Other residential			Installment and other consumer			Unallocated		Total			Commercial and industrial			Commercial real estate, owner-occupied			Commercial real estate, investor			Construction			Home equity			Other residential			Installment and other consumer			Unallocated		Total
December 31, 2016
December 31, 2017																											December 31, 2017
Ending ALLL related to loans collectively evaluated for impairment	$	2,963		$	1,590		$	5,945		$	773		$	966		$	399		$	274		$	1,541	$	14,451		$	3,604		$	2,106		$	6,316		$	674		$	1,025		$	535		$	276		$	718	$	15,254
Ending ALLL related to loans individually evaluated for impairment	285			163			375			8			7			55			98			—		991			50			188			159			7			6			1			102			—		513
Ending ALLL related to purchased credit-impaired loans	—			—			—			—			—			—			—			—		—			—			—			—			—			—			—			—			—		—
Ending balance	$	3,248		$	1,753		$	6,320		$	781		$	973		$	454		$	372		$	1,541	$	15,442		$	3,654		$	2,294		$	6,475		$	681		$	1,031		$	536		$	378		$	718	$	15,767
Recorded Investment:	Recorded Investment:																										Recorded Investment:
Collectively evaluated for impairment	$	216,368		$	239,648		$	720,266		$	71,564		$	116,390		$	76,584		$	24,563		$	—	$	1,465,383		$	233,605		$	292,798		$	820,023		$	60,859		$	131,620		$	94,378		$	26,689		$	—	$	1,659,972
Individually evaluated for impairment	2,207			6,993			2,256			3,245			715			1,965			932			—		18,313			2,165			6,999			2,171			2,969			753			1,148			721			—		16,926
Purchased credit-impaired	40			1,072			1,706			—			102			—			—			—		2,920			65			1,166			790			—			94			—			—			—		2,115
Total	$	218,615		$	247,713		$	724,228		$	74,809		$	117,207		$	78,549		$	25,495		$	—	$	1,486,616		$	235,835		$	300,963		$	822,984		$	63,828		$	132,467		$	95,526		$	27,410		$	—	$	1,679,013
Ratio of allowance for loan losses to total loans	1.49		%	0.71		%	0.87		%	1.04		%	0.83		%	0.58		%	1.46		%	NM		1.04		%	1.55		%	0.76		%	0.79		%	1.07		%	0.78		%	0.56		%	1.38		%	NM		0.94		%
Allowance for loan losses to non-accrual loans	NM			NM			NM			NM			1,071		%	NM			683		%	NM		10,650		%	NM			NM			NM			NM			254		%	NM			NM			NM		3,883		%

NM - Not Meaningful

Purchased Credit-Impaired Loans

Acquired loans are considered credit-impaired if there is evidence of significant deterioration of credit quality since origination and it is probable, at the acquisition date, that we will be unable to collect all contractually required payments receivable. Management has determined certain loans purchased in our ~~two~~three bank acquisitions to be PCI loans based on credit indicators such as nonaccrual status, past due status, loan risk grade, loan-to-value ratio, etc. Revolving credit agreements (e.g., home equity lines of credit and revolving commercial loans) are not considered PCI loans as cash flows cannot be reasonably estimated.

The following table reflects the unpaid principal balance and related carrying value of PCI loans.


PCI Loans	September 30, 2017				December 31, 2016				March 31, 2018				December 31, 2017
(in thousands)	Unpaid Principal Balance		Carrying Value		Unpaid Principal Balance		Carrying Value		Unpaid Principal Balance		Carrying Value		Unpaid Principal Balance		Carrying Value
Commercial and industrial	$	37	$	37	$	45	$	40	$	141	$	52	$	276	$	65
Commercial real estate, owner occupied	1,309		1,140		1,344		1,072		1,284		1,194		1,297		1,166
Commercial real estate, investor	998		998		1,713		1,706		1,056		797		1,064		790
Home equity	236		97		248		102		226		92		231		94
Total purchased credit-impaired loans	$	2,580	$	2,272	$	3,350	$	2,920	$	2,707	$	2,135	$	2,868	$	2,115

The activities in the accretable yield, or income expected to be earned over the remaining lives of the PCI loans were as follows:

Accretable Yield Three months ended Nine months ended
(in thousands) September 30, 2017 September 30, 2016 September 30, 2017 September 30, 2016
Balance at beginning of period $ 1,306
$ 1,655
$ 1,476
$ 2,618
Removals ¹
—
—
—
(778 )
Accretion (76 ) (89 ) (246 ) (274 )
Reclassifications from nonaccretable difference ²
—
—
—
—
Balance at end of period $ 1,230
$ 1,566
$ 1,230
$ 1,566

¹~~Represents the accretable difference that is relieved when a loan exits the PCI population due to pay-off, full charge-off, or transfer to repossessed assets, etc.~~

²~~Primarily relates to changes in expected credit performance and changes in expected timing of cash flows.~~



Accretable Yield	Three months ended
(in thousands)	March 31, 2018			March 31, 2017
Balance at beginning of period	$	1,254		$	1,476
Accretion	(112		)	(90		)
Balance at end of period	$	1,142		$	1,386

Pledged Loans

Our FHLB line of credit is secured under terms of a blanket collateral agreement by a pledge of certain qualifying loans with unpaid principal balances of ~~$872.0~~$1,007.5 million and ~~$869.2~~$887.9 million at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, respectively. In addition, we pledge a certain residential loan portfolio, which totaled ~~$67.5~~$65.8 million and ~~$54.6~~$67.6 million

at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, respectively, to secure our borrowing capacity with the Federal Reserve Bank ("FRB"). Also, see Note 6, Borrowings.

Related Party Loans

The Bank has, and expects to have in the future, banking transactions in the ordinary course of its business with directors, officers, principal shareholders and their businesses or associates. These transactions, including loans, are granted on substantially the same terms, including interest rates and collateral on loans, as those prevailing at the same time for comparable transactions with persons not related to us. Likewise, these transactions do not involve more than the normal risk of collectability or present other unfavorable features. ~~During the first quarter of 2017, a new director joined our Board of Directors resulting in the reclassification of existing loans to the director's business to related party status.~~ Related party loans totaled ~~$8.7~~$11.3 million at ~~September 30, 2017~~March 31, 2018 compared to ~~$2.0~~$11.9 million at December 31, ~~2016.~~2017. In addition, undisbursed commitments to related parties totaled ~~$9.2~~$8.8 million and ~~$1.1~~$9.1 million at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, respectively.

Note 6: Borrowings

Federal Funds Purchased – The Bank had unsecured lines of credit ~~totaling $92.0 million~~ with correspondent banks for overnight ~~borrowings~~borrowing totaling $100.4 million at ~~both September 30, 2017~~March 31, 2018 and December 31, ~~2016.~~2017. In general, interest rates on these lines approximate the federal funds target rate. We had no overnight borrowings under these credit facilities at ~~September 30, 2017~~March 31, 2018 or December 31, ~~2016~~2017.

Federal Home Loan Bank Borrowings – As of ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, the Bank had lines of credit with the FHLB totaling ~~$525.1~~$617.0 million and ~~$513.7~~$538.9 million, respectively, based on eligible collateral of certain loans. ~~We had~~There were no FHLB overnight borrowings at ~~September 30, 2017~~March 31, 2018 or December 31, ~~2016.~~2017.

Federal Reserve Line of Credit – The Bank has a line of credit with the ~~Federal Reserve Bank of San Francisco ("FRBSF")~~FRBSF secured by certain residential loans. At ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, the Bank had

borrowing capacity under this line totaling ~~$52.1~~$49.9 million and ~~$43.1~~$52.1 million, respectively, and had no outstanding borrowings with the FRBSF.

As part of an acquisition, Bancorp assumed two subordinated debentures due to NorCal Community Bancorp Trusts I and II (the "Trusts"), established for the sole purpose of issuing trust preferred securities on September 22, 2003 and December 29, 2005, respectively. The subordinated debentures were recorded at fair values totaling $4.95 million at acquisition date with contractual values totaling $8.2 million. The difference between the contractual balance and the fair value at acquisition date is accreted into interest expense over the lives of the debentures. Accretion on the subordinated debentures totaled $33 thousand and $42 thousand in the first three months of 2018 and 2017, respectively. Bancorp has the option to defer payment of the interest on the subordinated debentures for a period of up to five years, as long as there is no default on the subordinated debentures. In the event of interest deferral, dividends to Bancorp common stockholders are prohibited. The trust preferred securities were sold and issued in private transactions pursuant to an exemption from registration under the Securities Act of 1933, as amended. Bancorp has guaranteed, on a subordinated basis, distributions and other payments due on trust preferred securities totaling $8.0 million issued by the Trusts, which have identical maturity, repricing, and payment terms as the subordinated debentures. The subordinated debentures were recorded at fair values totaling $4.95 million at acquisition date with contractual values totaling $8.2 million. The difference between the contractual balance and the fair value at acquisition date is accreted into interest expense over the lives of the debentures. Accretion on the subordinated debentures totaled $117 thousand and $145 thousand in the first nine months of 2017 and 2016, respectively. Bancorp has the option to defer payment of the interest on the subordinated debentures for a period of up to five years, as long as there is no default on the subordinated debentures. In the event of interest deferral, dividends to Bancorp common stockholders are prohibited.

The following ~~is a summary of~~table summarizes the contractual terms of the subordinated debentures due to the Trusts as of ~~September 30, 2017:~~March 31, 2018:


(in thousands)
Subordinated debentures due to NorCal Community Bancorp Trust I on October 7, 2033 with interest payable quarterly, based on 3-month LIBOR plus 3.05%, repricing quarterly (4.35% as of September 30, 2017), redeemable, in whole or in part, on any interest payment date	$	4,124
Subordinated debentures due to NorCal Community Bancorp Trust II on March 15, 2036 with interest payable quarterly, based on 3-month LIBOR plus 1.40%, repricing quarterly (2.72% as of September 30, 2017), redeemable, in whole or in part, on any interest payment date	4,124
Subordinated debentures due to NorCal Community Bancorp Trust I on October 7, 2033 with interest payable quarterly, based on 3-month LIBOR plus 3.05%, repricing quarterly (4.77% as of March 31, 2018), redeemable, in whole or in part, on any interest payment date			$	4,124
Subordinated debentures due to NorCal Community Bancorp Trust II on March 15, 2036 with interest payable quarterly, based on 3-month LIBOR plus 1.40%, repricing quarterly (3.52% as of March 31, 2018), redeemable, in whole or in part, on any interest payment date			4,124
Total	$	8,248	$	8,248

Note 7: Stockholders' Equity

Dividends

~~Presented below is a summary of~~The following table summarizes cash dividends paid to common shareholders, recorded as a reduction of retained earnings.


	Three months ended				Nine months ended				Three months ended
(in thousands, except per share data)	September 30, 2017		September 30, 2016		September 30, 2017		September 30, 2016		March 31, 2018		March 31, 2017
Cash dividends to common stockholders	$	1,788	$	1,528	$	5,103	$	4,573	$	2,015	$	1,655
Cash dividends per common share	$	0.29	$	0.25	$	0.83	$	0.75	$	0.29	$	0.27

~~The~~On April 20, 2018, the Board of Directors declared a $0.31 per share cash dividend, ~~of $0.29 per share on October 20, 2017~~ payable on ~~November 10, 2017~~May 11, 2018 to shareholders of record at the close of business on ~~November 3, 2017.~~

A Rights Agreement filed with the SEC on July, 7, 2017, is designed to discourage takeovers that involve abusive tactics or do not provide fair value to shareholders. Each right entitles the registered holder to purchase from Bancorp one one-hundredth of a share of Series A Junior Participating Preferred Stock, no par value, of Bancorp at a price of $90 per one one-hundredth of a preferred share, subject to adjustment. The new Rights Agreement, which expires on July 23, 2022, replaces the previous Rights Agreement, which expired on July 23, 2017. The description and terms of the rights are set forth in the Rights Agreement.May 4, 2018.

Share-Based Payments

The fair value of stock options as of the grant date is recorded as stock-based compensation expense in the consolidated statements of comprehensive income over the requisite service period with a corresponding increase in common stock. Stock-based compensation also includes compensation expense related to the issuance of ~~unvested~~ restricted stock ~~awards and performance-based stock awards pursuant to the 2007 Equity Plan.~~awards. The grant-date fair value of the restricted stock awards, ~~and performance-based stock awards,~~ which ~~is equal to~~equals the intrinsic value on that date, is

being recorded as compensation expense over the requisite service period with a corresponding increase in common stock as the shares vest.

Performance-based stock awards (restricted stock awards) are issued to a selected group of employees. Stock award vesting is contingent upon the achievement of pre-established long-term performance goals set by the Compensation Committee of the Board of Directors. Performance is measured over a three-year period and the stock awards cliff vest. These performance-based stock awards were granted at a maximum opportunity level, and based on the achievement of the pre-established goals, the actual payouts can range from 0% to 200% of the target award. For performance-based stock awards, an estimate is made of the number of shares expected to vest based on the probability that the performance criteria will be achieved to determine the amount of compensation expense to be recognized. The estimate is re-evaluated quarterly and total compensation expense is adjusted for any change in the current period.

~~We adopted ASU No. 2016-09,~~ ~~Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting~~ ~~effective January 1, 2017 as discussed in Note 2~~, ~~which requires us to~~In addition, we record excess tax benefits (deficiencies) resulting from the exercise of non-qualified stock options, the disqualifying disposition of incentive stock options and vesting of restricted stock awards as income tax benefits (expense) in the consolidated statements of comprehensive income with a corresponding decrease (increase) to current taxes payable. ~~Previous to the adoption of this ASU, excess tax benefits (deficiencies) were recognized as an increase to common stock in the consolidated statements of changes in stockholders' equity.~~

The holders of unvested restricted ~~stock awards and performance-based~~ stock awards are entitled to dividends on the same per-share ratio as holders of common stock. ~~Upon the adoption of the above ASU, tax~~Tax benefits on dividends paid on unvested restricted stock awards are recorded as tax benefits in the consolidated statements of comprehensive income with a corresponding decrease to current taxes payable. Dividends on forfeited awards are included in stock-based compensation expense. Previous to the adoption of the ASU, tax benefits on dividends were recognized as an increase to common stock in the consolidated statements of changes in stockholders' equity.

On March 17, 2017, the Board of Directors approved the 2017 Equity Plan, which was affirmed by Bancorp's shareholders on May 16, 2017 and replaced the 2007 Equity Plan. As of the 2017 Equity Plan's effective date, there were 118,668 shares available for future grants, which represented the remaining shares available under the 2007 Equity Plan. There were no material differences in the design, terms or conditions of the 2017 and 2007 Equity Plans. The available shares do not include shares to be issued upon the exercise of the substitution stock options by the Bank of Napa option holders, whose options will be converted into options to purchase our shares, pending the completion of the merger as discussed in Note 10 herein.

Under the 2017 Equity Plan, stock options may be net settled by a reduction in the number of shares otherwise deliverable upon exercise in satisfaction of the exercise payment and applicable tax withholding requirements. During the first ~~nine~~three months of 2018, option holders exchanged 19,606 shares totaling $1.4 million at a weighted-average price of $70.36 for cashless stock option exercises and tax withholdings upon vesting of performance-based stock awards. During the first three months of 2017, ~~we withheld 11,938~~option holders exchanged 4,715 shares totaling ~~$782~~$324 thousand at a weighted-average price of ~~$65.50~~$68.80 for cashless stock option exercises. ~~There were no stock options exercised under net settlement arrangements in 2016.~~ Shares ~~withheld~~exchanged under net settlement arrangements are available for future grants under the 2017 Equity Plan.

Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income

We early adopted ASU No. 2018-02, Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income, in the first quarter of 2018 and reclassified $638 thousand from AOCI to retained earnings. This amount represents the stranded income tax effects related to the unrealized loss on available-for-sale securities in AOCI on the date of the enactment of the Tax

Cuts and Jobs Act of 2017. For more information regarding ASU No. 2018-02, refer to Note 2, Accounting Standards Adopted in 2018.

Share Repurchase Program

On April 23, 2018, Bancorp announced that its Board of Directors approved a Share Repurchase Program under which Bancorp may repurchase up to $25.0 million of its outstanding common stock through May 1, 2019.

Under the Share Repurchase Program, Bancorp may purchase shares of its common stock through various means such as open market transactions, including block purchases, and privately negotiated transactions. The number of shares repurchased and the timing, manner, price and amount of any repurchases will be determined at Bancorp's discretion. Factors include, but are not limited to, stock price, trading volume and general market conditions, along with Bancorp’s general business conditions. The program may be suspended or discontinued at any time and does not obligate Bancorp to acquire any specific number of shares of its common stock.

As part of the Share Repurchase Program, Bancorp is entering into a trading plan adopted in accordance with Rule 10b5-1 of the Securities Exchange Act of 1934, as amended. The 10b5-1 trading plan permits common stock to be repurchased at a time that Bancorp might otherwise be precluded from doing so under insider trading laws or self-imposed trading restrictions. The 10b5-1 trading plan is administered by an independent broker and is subject to price, market volume and timing restrictions.

Note 8: Commitments and Contingencies

Financial Instruments with Off-Balance Sheet Risk

We make commitments to extend credit in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit in the form of loans or through standby letters of credit. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Because various commitments will expire without being fully drawn, ~~upon,~~ the total commitment amount does not necessarily represent future cash requirements.

~~We are exposed to~~Our credit loss exposure is equal to the contractual amount of the commitment in the event of nonperformance by the borrower. We use the same credit underwriting criteria for all credit exposure. The amount of collateral obtained, if deemed necessary by us, is based on Management's credit evaluation of the borrower. Collateral types pledged may include accounts receivable, inventory, other personal property and real property.

The contractual amount of undrawn loan commitments and standby letters of credit not reflected on the consolidated statements of condition are as follows:


(in thousands)	September 30, 2017		December 31, 2016		March 31, 2018		December 31, 2017
Commercial lines of credit	$	198,160	$	216,774	$	226,816	$	224,370
Revolving home equity lines	160,935		148,143		187,405		177,678
Undisbursed construction loans	34,266		44,798		24,315		35,322
Personal and other lines of credit	11,735		10,635		12,769		11,758
Standby letters of credit	1,773		1,939		2,539		4,074
Total commitments and standby letters of credit	$	406,869	$	422,289	$	453,844	$	453,202

We record an allowance for losses on these off-balance sheet commitments based on an estimate of probabilities of the utilization of these commitments ~~being drawn upon~~ according to our historical ~~utilization~~ experience on different types of commitments and expected loss. ~~We set aside an~~The allowance for losses on off-balance sheet commitments ~~in the amount of $957 thousand and $899~~totaled $958 thousand as of ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016, respectively,~~2017, which is recorded in interest payable and other liabilities on the consolidated statements of condition.

Operating Leases

We rent certain premises under long-term, non-cancelable operating leases expiring at various dates through the year 2032. Most of the leases contain certain renewal options and escalation clauses. At ~~September 30, 2017,~~March 31, 2018, the approximate minimum future commitments payable under non-cancelable contracts for leased premises are as follows:


(in thousands)	2017		2018		2019		2020		2021		Thereafter		Total		2018		2019		2020		2021		2022		Thereafter		Total
Operating leases¹	$	984	$	3,932	$	3,739	$	3,420	$	2,138	$	4,234	$	18,447	$	3,330	$	4,198	$	3,758	$	2,138	$	1,330	$	2,904	$	17,658

¹Minimum payments have not been reduced by minimum sublease rentals of ~~$76~~$25 thousand due in the future under non-cancelable subleases.

Rent expense included in occupancy expense totaled ~~$3.0 million and $2.8~~$1.0 million for the ~~nine~~three months ended ~~September 30, 2017~~March 31, 2018 and ~~2016, respectively.~~2017.

Litigation Matters

~~General~~

We may be party to legal actions ~~which~~that arise from time to time during the normal course of business. We believe, after consultation with legal counsel, that litigation contingent liability, if any, would not have a material adverse effect on our consolidated financial position, results of operations, or cash flows.

~~Visa U.S.A. (Covered Litigation)~~

We are responsible for our proportionate share of certain litigation indemnifications provided to Visa U.S.A. ("Visa") by its member banks in connection with lawsuits related to anti-trust charges and interchange fees ("Covered Litigation"). In 2012, Visa had reached a $4.0 billion interchange multidistrict litigation class settlement agreement for which it maintains an escrow account ~~from which~~to be used for settlements ~~of,~~ or judgments in the Covered ~~Litigation are paid.~~Litigation. At March 31, 2018, according to Visa's Form 10-Q filed on April 27, 2018, the escrow account balance was $0.9 billion. While the ~~accrual~~accrued liability related to the Covered Litigation could be higher or lower than the litigation escrow account balance, Visa did not record an additional accrual for the Covered Litigation during ~~2017. At June 30, 2017, according to~~ the ~~latest SEC Form 10-Q filed by Visa, Inc. on July 20, 2017, the balance~~first three months of ~~the escrow account was $978.0 million.~~2018. In ~~2012, Visa reached a $4.0 billion interchange multidistrict litigation class settlement agreement. However, in February~~ 2017, a number of class plaintiffs ~~sought to either file an~~filed amended ~~complaint~~complaints for damages or ~~file~~filed new class complaints against Visa for injunctive relief. In addition, Wal-Mart Stores, Inc. entered into a new, ~~class complaint against~~unconditional settlement agreement with Visa ~~claiming for putative injunction relief. Visa has~~in October 2017. As of the date of Visa's filing, it had reached settlement agreements with individual merchants representing ~~34%~~51% of the Visa-branded payment card sales volume of merchants who opted out of the 2012 ~~Settlement Agreement.~~settlement agreement. Litigation is ongoing and until the appeal process is complete, Visa is uncertain whether it will resolve the claims as contemplated by the settlement agreement and additional lawsuits may arise. The conversion rate of Visa Class B common stock held by us to Class A common stock (as discussed in Note 4, Investment Securities) may decrease if Visa makes more Covered Litigation settlement payments in the future, and the full effect on member banks is still uncertain. However, we are not aware of significant future cash settlement payments required by us on the Covered Litigation.

Note 9: Derivative Financial Instruments and Hedging Activities

We have entered into interest rate swap agreements, primarily as an asset/liability management strategy, in order to mitigate the changes in the fair value of specified long-term fixed-rate loans (or firm commitments to enter into long-term fixed-rate loans) caused by changes in interest rates. These hedges allow us to offer long-term fixed-rate loans to customers without assuming the interest rate risk of a long-term asset. Converting our fixed-rate interest payments to floating-rate interest payments, generally benchmarked to the one-month U.S. dollar LIBOR index, protects us against changes in the fair value of our loans associated with fluctuating interest rates.

Our credit exposure, if any, on interest rate swap asset positions is limited to the fair value (net of any collateral pledged to us) and interest payments of all swaps by each counterparty. Conversely, when an interest rate swap is in a liability position exceeding a certain threshold, we may be required to post collateral to the counterparty in an amount determined by the agreements. Collateral levels are monitored and adjusted on a regular basis for changes in interest rate swap values.

As of ~~September 30, 2017~~March 31, 2018, we had five interest rate swap agreements, which are scheduled to mature in June 2031, October 2031, July 2032, August 2037 and October 2037. All of our derivatives are accounted for as fair value hedges. The notional amounts of the interest rate contracts are equal to the notional amounts of the hedged loans. Our interest rate swap payments are settled monthly with counterparties. Accrued interest on the swaps totaled $9$7 thousand and $138 thousand as of ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016~~2017, respectively.

Information on our derivatives follows:


	Asset derivatives				Liability derivatives						Asset derivatives				Liability derivatives
(in thousands)	September 30, 2017		December 31, 2016		September 30, 2017			December 31, 2016			March 31, 2018		December 31, 2017		March 31, 2018			December 31, 2017
Fair value hedges:
Interest rate contracts notional amount	$	4,070	$	4,217	$	14,984		$	15,495		$	9,171	$	4,019	$	9,429		$	14,810
Interest rate contracts fair value¹	$	38	$	55	$	909		$	933		$	239	$	74	$	376		$	740

					Three months ended										Three months ended
(in thousands)	(in thousands)				September 30, 2017			September 30, 2016			(in thousands)				March 31, 2018			March 31, 2017
Increase in value of designated interest rate swaps due to LIBOR interest rate movements recognized in interest income	Increase in value of designated interest rate swaps due to LIBOR interest rate movements recognized in interest income				$	25		$	241		Increase in value of designated interest rate swaps due to LIBOR interest rate movements recognized in interest income				$	529		$	111
Payment on interest rate swaps recorded in interest income	Payment on interest rate swaps recorded in interest income				$	(76	)	$	(132	)	Payment on interest rate swaps recorded in interest income				$	(55	)	$	(98	)
Decrease in value of hedged loans recognized in interest income	Decrease in value of hedged loans recognized in interest income				$	(43	)	$	(268	)	Decrease in value of hedged loans recognized in interest income				$	(576	)	$	(113	)
Decrease in value of yield maintenance agreement recognized against interest income	Decrease in value of yield maintenance agreement recognized against interest income				$	(4	)	$	(67	)	Decrease in value of yield maintenance agreement recognized against interest income				$	(4	)	$	(4	)
Net loss on derivatives recognized against interest income ²	Net loss on derivatives recognized against interest income ²				$	(98	)	$	(226	)	Net loss on derivatives recognized against interest income ²				$	(106	)	$	(104	)

					Nine months ended
(in thousands)					September 30, 2017			September 30, 2016
Increase (decrease) in value of designated interest rate swaps due to LIBOR interest rate movements recognized in interest income					$	7		$	(825	)
Payment on interest rate swaps recorded in interest income					$	(261	)	$	(445	)
Increase in value of hedged loans recognized in interest income					$	35		$	1,022
Decrease in value of yield maintenance agreement recognized against interest income					$	(11	)	$	(90	)
Net loss on derivatives recognized against interest income²					$	(230	)	$	(338	)

¹See Note 3,Fair Value of Assets and Liabilities,, for valuation methodology.

²Includes hedge ineffectiveness loss of ~~$22~~$51 thousand and ~~loss of $94~~$6 thousand for the quarters ended ~~September 30,~~March 31, 2018 and March 31, 2017, and September 30, 2016, respectively. Ineffectiveness gain of $31 thousand and gain of $107 thousand were recorded in interest income during the nine months ended September 30, 2017 and September 30, 2016, respectively. Changes in value of swaps were included in the assessment of hedge effectiveness. Hedge ineffectiveness is the measure of the extent to which the change in the fair value of the hedging instruments does not exactly offset the change in the fair value of the hedged items from period to period.

Our derivative transactions with counterparties are under International Swaps and Derivative Association (“ISDA”) master agreements that include “right of set-off” provisions. “Right of set-off” provisions are legally enforceable rights to offset recognized amounts and there may be an intention to settle such amounts on a net basis. We do not offset such financial instruments for financial reporting purposes.

Information on financial instruments that are eligible for offset in the consolidated statements of condition follows:

																											Offsetting of Financial Assets and Derivative Assets
			Gross Amounts		Net Amounts of		Gross Amounts Not Offset in									Gross Amounts		Net Amounts of		Gross Amounts Not Offset in
	Gross Amounts		Offset in the		Assets Presented		the Statements of Condition							Gross Amounts		Offset in the		Assets Presented		the Statements of Condition
	of Recognized		Statements of		in the Statements		Financial			Cash Collateral				of Recognized		Statements of		in the Statements		Financial			Cash Collateral
(in thousands)	Assets¹		Condition		of Condition¹		Instruments			Received		Net Amount		Assets¹		Condition		of Condition¹		Instruments			Received		Net Amount
September 30, 2017
March 31, 2018
Derivatives by Counterparty:
Counterparty A	$	38	$	—	$	38	$	(38	)	$	—	$	—	$	239	$	—	$	239	$	(239	)	$	—	$	—
December 31, 2016
December 31, 2017
Derivatives by Counterparty:
Counterparty A	$	55	$	—	$	55	$	(55	)	$	—	$	—	$	74	$	—	$	74	$	(74	)	$	—	$	—

¹Amounts exclude accrued interest totaling $2 thousand and $1 thousand at ~~both September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, respectively.

																													Offsetting of Financial Liabilities and Derivative Liabilities
			Gross Amounts		Net Amounts of		Gross Amounts Not Offset in										Gross Amounts		Net Amounts of		Gross Amounts Not Offset in
	Gross Amounts		Offset in the		Liabilities Presented		the Statements of Condition								Gross Amounts		Offset in the		Liabilities Presented		the Statements of Condition
	of Recognized		Statements of		in the Statements		Financial			Cash Collateral					of Recognized		Statements of		in the Statements		Financial			Cash Collateral
(in thousands)	Liabilities²		Condition		of Condition²		Instruments			Pledged			Net Amount		Liabilities²		Condition		of Condition²		Instruments			Pledged			Net Amount
September 30, 2017
March 31, 2018
Derivatives by Counterparty:
Counterparty A	$	909	$	—	$	909	$	(38	)	$	(871	)	$	—	$	376	$	—	$	376	$	(239	)	$	(137	)	$	—
December 31, 2016
December 31, 2017
Derivatives by Counterparty:
Counterparty A	$	933	$	—	$	933	$	(55	)	$	(878	)	$	—	$	740	$	—	$	740	$	(74	)	$	(666	)	$	—

²Amounts exclude accrued interest totaling $5 thousand and $8 thousand ~~and $12 thousand~~ at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016,~~2017, respectively.

For more information on how we account for our interest rate swaps, refer to Note 1 to the Consolidated Financial Statements included in our ~~2016~~2017 Form 10-K filed with the SEC on March 14, ~~2017.~~2018.

Note 10: ~~Merger Agreement~~Acquisition

On ~~July 31,~~November 21, 2017, ~~Bancorp entered into a definitive agreement to acquire~~we completed the merger of Bank of Napa, N.A. ~~("Napa") whereby~~(OTCQB: BNNP), to enhance our market presence in Napa, ~~will merge with and into~~California. Bank of ~~Marin.~~Napa was a national bank with two branch offices serving Napa. The acquisition ~~will enable~~added $134.7 million in loans, $249.9 million in deposits and $75.5 million in investment securities to Bank of Marin ~~to expand its consumer and commercial business relationships, lending operations, and community presence in Napa County. Under the terms~~as of the ~~merger agreement,~~acquisition date. Bank of Napa shareholders ~~will receive~~received 0.307 shares of ~~a share of Bancorp's~~Bancorp common stock for each share of ~~Napa's~~Bank of Napa common stock ~~upon consummation~~outstanding. We have accounted for the acquisition of Bank of Napa as a business combination under the acquisition method of accounting. The assets acquired and liabilities assumed, both tangible and intangible, were recorded at their fair values as of the ~~merger.~~acquisition date in accordance with ASC 805, Business Combinations. The acquisition was treated as a "reorganization" within the definition of section 368(a) of the Internal Revenue Code and is generally considered tax-free for U.S. federal income tax purposes.

The Bank of Napa ~~has two~~acquisition resulted in $23.7 million in goodwill, which represents the excess of the total purchase price paid over the fair value of the assets acquired, net of the fair values of liabilities assumed. Goodwill mainly reflects expected value created through the combined operations of Bank of Napa and Bank of Marin, which we evaluate for impairment annually. We determined that the fair value of our traditional community banking activities (provided through our branch ~~offices serving~~network) exceeded the carrying amount of the bank-level reporting unit. The goodwill is not deductible for tax purposes.

The core deposit intangible represents the estimated future benefits of acquired deposits and is booked separately from the related deposits. We recorded a core deposit intangible asset of $4.4 million from the Bank of Napa ~~County,~~acquisition on November 21, 2017, of which $56 thousand was amortized in 2017 and ~~had assets~~$127 thousand was amortized in the first quarter of ~~$255.3 million, total deposits of $226.1 million,~~2018. It is amortized on an accelerated basis over an estimated ten-year life, and ~~total loans of $140.5 million~~is evaluated periodically for impairment. No impairment loss was recognized as of ~~September 30, 2017. These amounts~~March 31, 2018.

Acquisition-related expenses are ~~subject to fair value adjustments upon~~recognized as incurred and continue until all systems have been converted and operational functions become fully integrated. Bank of Marin Bancorp incurred acquisition-related expenses in the ~~close~~consolidated statements of comprehensive income for the ~~merger. Subject to Napa shareholders' approval, the transaction is expected to close on November 20, 2017.~~three months ended March 31, 2018 as follows:



(in thousands)	Three months ended March 31, 2018
Data processing¹	$	392
Professional services	95
Personnel severance	106
Other	22
Total	$	615
¹ Primarily relates to Bank of Napa's core processing system contract termination and deconversion fees.

ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Management's discussion of the financial condition and results of operations, which is unaudited, should be read in conjunction with the related consolidated financial statements in this Form 10-Q and with the audited consolidated financial statements and accompanying notes included in our ~~2016~~2017 Annual Report on Form ~~10-K and the Registration Statement on Form S-4 filed with the SEC on October 2, 2017 (as amended).~~10-K. Average balances, including balances used in calculating certain financial ratios, are generally comprised of average daily balances.

Forward-Looking Statements

This discussion of financial results includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, (the "1933 Act") and Section 21E of the Securities Exchange Act of 1934, as amended, (the "1934 Act"). Those sections of the 1933 Act and 1934 Act provide a "safe harbor" for forward-looking statements to encourage companies to provide prospective information about their financial performance so long as they provide meaningful, cautionary statements identifying important factors that could cause actual results to differ significantly from projected results.

Our forward-looking statements include descriptions of plans or objectives of Management for future operations, products or services, and forecasts of revenues, earnings or other measures of economic performance. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They often include the words "believe," "expect," "intend," "estimate" or words of similar meaning, or future or conditional verbs preceded by "will," "would," "should," "could" or "may."

Forward-looking statements are based on Management's current expectations regarding economic, legislative, and regulatory issues, and the successful integration of acquisitions that may affect our earnings in future periods. A number of factors, many of which are beyond Management’s control, could cause future results to vary materially from current Management expectations. Such factors include, but are not limited to, general economic conditions and the economic uncertainty in the United States and abroad, including changes in interest rates, deposit flows, real estate values, and expected future cash flows on loans and securities; ~~integration~~costs or effects of acquisitions; competition; changes in accounting principles, policies or guidelines; changes in legislation or ~~regulation;~~regulation (including the Tax Cuts and Jobs Act of 2017); natural disasters ~~such~~(such as the recent ~~wildfires;~~wildfires in our area); adverse weather conditions; and other economic, competitive, governmental, regulatory and technological factors (including external fraud and cyber-security threats) affecting our operations, pricing, products and services.

The events or factors that could cause results or performance to materially differ from those expressed in the forward-looking statements concerning the Bank of Napa acquisition include, but are not limited to:

~~the businesses of Bancorp and Napa may not be integrated successfully or such integration may be more difficult, time-consuming or costly than expected;~~

~~expected cost savings from the acquisition may not be fully realized or realized within the expected time frame;~~

~~revenues following the merger may be lower than expected;~~

~~customer and employee relationships and business operations may be disrupted by the acquisition; and~~

the ability to obtain approval from the shareholders of Bank of Napa, and the ability to complete the acquisition on the expected timeframe may be more difficult, time-consuming or costly than expected;

Important factors that could cause results or performance to materially differ from those expressed in our prior forward-looking statements are detailed in the Risk Factors section of this Form 10-Q and in Item 1A. Risk Factors section of our ~~2016~~2017 Form 10-K as filed with the SEC, copies of which are available from us at no charge. Forward-looking statements speak only as of the date they are made. We do not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made or to reflect the occurrence of unanticipated events.

Critical Accounting Policies and Estimates

Critical accounting policies are those that are both ~~very~~ important to the portrayal of our financial condition and results of operations and require Management's most difficult, subjective, or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and imprecise. There have been no material changes to our critical accounting policies, which include: Allowance for Loan Losses, Other-than-temporary Impairment of Investment Securities, Accounting for Income Taxes, and Fair Value Measurements. For a detailed discussion, refer to Note 1 to the Consolidated Financial Statements included in our ~~2016~~2017 Form 10-K filed with the SEC on March 14, ~~2017.~~2018.

Executive Summary

Earnings in the ~~third~~first quarter of ~~2017~~2018 totaled ~~$5.1~~$6.4 million, compared to ~~$7.0~~$4.5 million in the ~~third~~first quarter of ~~2016.~~2017. Diluted earnings per share were ~~$0.83~~$0.91 in the ~~third~~first quarter of ~~2017,~~2018, compared to ~~$1.14~~$0.74 in the same quarter a year ago. ~~Earnings~~

The Board of Directors declared a cash dividend of $0.31 per share on April 20, 2018, a $0.02 increase from the prior quarter. This represents the 52^nd consecutive quarterly dividend paid by Bank of Marin Bancorp. The dividend is payable on May 11, 2018, to shareholders of record at the close of business on May 4, 2018.

Bancorp announced the commencement of a program to repurchase up to $25 million of Bancorp common stock through May 1, 2019. This represents five percent of shares outstanding based on the quarter-end closing stock price. Our Board of Directors has determined that the repurchase of our common stock is an attractive investment given its belief in the positive long-term outlook for the ~~first nine months~~growth of ~~2017 totaled $14.9 million compared to $17.4 million in the same period last year. Diluted earnings per share were $2.41 and $2.86 in the first nine months~~our franchise. As part of ~~2017 and 2016, respectively. Earnings in the third quarter and the first nine months of 2017 included $495 thousand in expenses related to the pending~~this program, Bank of ~~Napa acquisition, without~~Marin Bancorp is entering into a 10b5-1 trading plan, which diluted earnings per share would have been $0.88 and $2.46, respectively. Additionally, earnings in the third quarter and first nine months of 2016 were $0.35 per share higher than the same periods of 2017 duepermits common stock to ~~a large recovery of a problem credit and an early payoff of an acquired loan in 2016.~~be repurchased during insider trading blackout periods.

The following are highlights of our operating and financial performance for the ~~periods presented:~~quarter ended March 31, 2018:

On ~~July 31,~~December 22, 2017, ~~Bancorp entered~~the Tax Cuts and Jobs Act of 2017 was signed into ~~a definitive agreement~~law. The law reduces the federal corporate income tax rate to ~~acquire~~21% for tax years beginning on or after January 1, 2018. Bancorp's effective tax rate in the first quarter of 2018 was 20.7% and the reduction in the Federal tax rate positively impacted diluted earnings per share by $0.09.

Pre-tax net income was up $1.3 million, or 19.7% for the first quarter of 2018, compared to the same quarter last year. Reported net interest margin increased 12 basis points (tax equivalent net interest margin increased six basis points) as the result of higher loan and investment yields and increased earning assets from the Bank of Napa. The transaction is expected to close on November 20, 2017. Upon consummation of the transaction, the Bank will have approximately $2.4 billion in assets and operate twenty-three branches in San Francisco, Marin, Sonoma, Napa ~~and Alameda counties.~~acquisition.

~~On October 16, 2017, James S. Kimball, formerly of Wells Fargo Bank, joined the Bank as an executive vice president~~

Total deposits increased $37.9 million in the newly created position of Chief Operating Officer. Mr. Kimball is responsible for Commercial Banking, Retail Banking, Wealth Management & Trust, and Marketing. His addition strengthens the management team.

~~Deposits totaled $1,891.0 million at September 30, 2017, compared~~first quarter to ~~$1,772.7 million at December 31, 2016, an $118.3 million increase.~~$2,186.6 million. Non-interest bearing deposits represented ~~48.9%~~48.7% of total deposits ~~at September 30, 2017,~~ and the cost of total deposits ~~dropped~~for the current quarter was 0.08%, up only one basis point ~~to 0.07%,~~ from the first ~~nine months~~quarter of ~~2016.~~last year.

Loans ~~increased by $37.8 million and~~ totaled ~~$1,524.4~~$1,671.7 million at ~~September 30, 2017,~~March 31, 2018, compared to ~~$1,486.6~~$1,679.0 million at December 31, ~~2016.~~2017. New loan ~~originations~~volume of $37.4 million in the first ~~nine~~quarter of 2018 ~~months~~was partially offset by payoffs of ~~2017 of $121.6~~$31.5 million, ~~were primarily in commercial real estate, including both owner-occupied~~ and investor-owned, spread throughout our markets, and tenancy-in-common fractional interest loans. In addition to loan originations, we purchased $7.0 million in high quality tenancy-in-common loans. Loan originations combined with changes in ~~the~~lines of credit utilization ~~of loan commitments, purchases, pay-offs of $106.1 million,~~ and ~~scheduled payments, produced~~amortization on existing loans, resulted in the net ~~increase from December 31, 2016.~~decrease of $7.3 million. Our current pipeline is ~~slightly larger~~strong and substantially better than the same time last ~~year at this time, and is expected to translate into continued loan growth throughout the remainder of 2017 and into 2018.~~year.

Strong credit quality remains a cornerstone of the ~~hallmark of our culture.~~Bank's consistent performance. Non-accrual loans totaled ~~$1.3 million, or 0.09% of loans at September 30, 2017, compared to $145.0~~$392 thousand, or ~~0.01%~~0.02% of ~~loans~~the loan portfolio at March 31, 2018, down from $406 thousand, or 0.02% at December 31, ~~2016. A well secured $1.0 million commercial real estate loan was placed on non-accrual status during the first quarter of~~ 2017. Classified loans totaled ~~$33.5~~$27.8 million at ~~September 30, 2017, up from $19.6~~March 31, 2018, compared to $27.9 million at December 31, ~~2016. One relationship with a balance of $12.3 million and the $1.0 million non-accrual loan previously mentioned were downgraded to substandard in the first quarter of~~ 2017. Accruing loans past due 30 to 89 days totaled ~~$205~~$388 thousand at ~~September 30, 2017,~~March 31, 2018, compared to ~~$410 thousand~~$1.9 million at December 31, ~~2016.~~2017. There were no provisions for loan losses or off-balance sheet commitments recorded in the first quarter of 2018.

All capital ratios ~~exceed~~are well above regulatory requirements for a well-capitalized institution. The total risk-based capital ratio for Bancorp was 15.1% at ~~September 30, 2017~~March 31, 2018, compared to ~~14.3%~~14.9% at December 31, ~~2016.~~2017.

Return on assets was ~~0.95%~~1.05% for the quarter ~~and 0.96% for the nine months~~ ended ~~September 30, 2017,~~March 31, 2018, compared to ~~1.35%~~0.91% for the quarter ~~and 1.17%~~ended March 31, 2017. Return on equity was 8.70% for the ~~nine months~~quarter ended ~~September 30, 2016. Return on~~March 31, 2018, compared to 7.92% for the quarter ended March 31, 2017.

~~equity was 8.37% for the quarter and 8.35% for the nine months ended September 30, 2017, compared to 12.08% for the quarter and 10.40% for the nine months ended September 30, 2016.~~

The efficiency ratio was 62.51% for the quarter and 63.42% for the nine months ended September 30, 2017, compared to 55.41% for the quarter and 58.07% for the nine months ended September 30, 2016. The increases in the efficiency ratios were primarily due to decreases in net interest income and non-interest income, and increases in non-interest expense, which are explained in the related sections that follow.

~~The Board of Directors declared a cash dividend of $0.29 per share on October 20, 2017. This represents the 50th consecutive quarterly dividend paid by Bank of Marin Bancorp.~~

Looking forward ~~through the end of the year and~~ into 2018, we believe we are well-positioned for future asset growth with strong capital and liquidity, potential net interest margin expansion resulting from ~~market~~ anticipated interest rate increases and a low cost deposit base. With ~~a robust loan pipeline, and~~ credit quality that remains at the top of our peer group, we are looking forward to continued success.

We have ample liquidity and capital to support both organic growth and potential ~~acquisitions, such as the Bank of Napa transaction.~~acquisitions. Acquisitions will continue to remain a component of our strategic ~~plan.~~

~~While we are investing in a number of strategic initiatives~~plan if an opportunity arises that ~~aim at~~matches our long-term profitability, our non-interest expenses are likely to increase in the upcoming quarters, primarily due to Bank of Napa acquisition-related expenses including the costs of the planned Bank of Napa core processing system conversion in April 2018. In additionculture and adds value to the ~~announced acquisition, we are expanding our geographic reach by adding a commercial banking office in the East Bay, which continues to be one of the strongest growth markets in the Bay Area region.~~Company.

Our disciplined credit culture and relationship banking will continue to be keys to our success.

~~North Bay Wildfires~~

Beginning on October 8, 2017, much of the North Bay region of Northern California was struck by widespread and destructive wildfires. Fortunately, there was no damage to bank facilities and no significant impairment to services. Management has preliminarily assessed the impact of the fires on our loan and investment portfolios; including mapping client addresses and locations of municipal bond issuers to areas affected by the fires and evaluating any known damage to collateral and businesses. Based on our preliminary assessment, the loss to properties and businesses located in the affected areas that are pledged as collateral to our loans or bonds is minimal and we do not expect to increase our allowance for loan losses as a result of the fires. In addition, Bank of Napa’s management has completed a similar assessment and has not identified any known material losses at this time. We will continue to update and refine our estimates of the wildfires’ impact on our business and result of operations as they become known. However, the long-term impact to the Napa and Sonoma regional economies is uncertain. Management of Bank of Marin and Bank of Napa are closely monitoring the situation and will continue to respond to the immediate needs of customers and employees.

RESULTS OF OPERATIONS

Highlights of the financial results are presented in the following tables:



(dollars in thousands)	September 30, 2017			December 31, 2016			March 31, 2018			December 31, 2017
Selected financial condition data:
Total assets	$	2,155,901		$	2,023,493		$	2,510,043		$	2,468,154
Loans, net	1,509,199			1,471,174			1,655,969			1,663,246
Deposits	1,890,970			1,772,700			2,186,594			2,148,670
Borrowings	5,703			5,586			5,772			5,739
Stockholders' equity	245,049			230,563			298,464			297,025
Asset quality ratios:
Allowance for loan losses to total loans	1.00%			1.04		%	0.94%			0.94		%
Allowance for loan losses to non-accrual loans	11.58		x	106.50		x	40.26		x	38.88x
Non-accrual loans to total loans	0.09%			0.01		%	0.02%			0.02		%
Capital ratios:
Equity to total assets ratio	11.37		%	11.39		%	11.89		%	12.03		%
Total capital (to risk-weighted assets)	15.05		%	14.32		%	15.10		%	14.91		%
Tier 1 capital (to risk-weighted assets)	14.11		%	13.37		%	14.24		%	14.04		%
Tier 1 capital (to average assets)	11.43		%	11.39		%	11.39		%	12.13		%
Common equity Tier 1 capital (to risk weighted assets)	13.79		%	13.07		%	13.94		%	13.75		%


	Three months ended				Nine months ended				Three months ended
(dollars in thousands, except per share data)	September 30, 2017		September 30, 2016		September 30, 2017		September 30, 2016		March 31, 2018		March 31, 2017
Selected operating data:
Net interest income	$	18,788	$	19,381	$	54,713	$	55,185	$	21,891	$	17,621
Non-interest income	2,066		2,114		6,277		6,698		2,242		2,115
Non-interest expense	13,036		11,910		38,678		35,937
Net income	5,132		6,964		14,866		17,447
Non-interest expense ¹									16,081		13,011
Net income ¹									6,389		4,548
Net income per common share:
Basic	$	0.84	$	1.14	$	2.43	$	2.87	$	0.92	$	0.75
Diluted	$	0.83	$	1.14	$	2.41	$	2.86	$	0.91	$	0.74
Performance and other financial ratios:
Return on average assets	0.95%		1.35%		0.96%		1.17%		1.05%		0.91%
Return on average equity	8.37%		12.08%		8.35%		10.40%		8.70%		7.92%
Tax-equivalent net interest margin	3.77%		4.05%		3.80%		3.95%		3.85%		3.79%
Efficiency ratio	62.51%		55.41%		63.42%		58.07%		66.64%		65.92%
Dividend payout ratio on common stock	34.52%		21.93%		34.16%		26.13%
Cash dividend payout ratio on common stock ²									32.00%		36.00%

¹Includes merger-related costs totaling $615 thousand for the three months ended March 31, 2018.

² Calculated as dividends on common shares divided by basic net income per common share.

Net Interest Income

Net interest income is the difference between the interest earned on loans, investments and other interest-earning assets and the interest expense incurred on deposits and other interest-bearing liabilities. Net interest income is impacted by changes in general market interest rates and by changes in the amounts and composition of interest-earning assets and interest-bearing liabilities. Interest rate changes can create fluctuations in the net interest income and/or margin due to an imbalance in the timing of repricing and maturity of assets and liabilities. We manage interest rate risk exposure with the goal of minimizing the impact of interest rate volatility on net interest income. For more information, refer to Item 3. Quantitative and Qualitative Disclosure about Market Risk in this Form 10-Q.

Net interest margin is expressed as net interest income divided by average interest-earning assets. Net interest rate spread is the difference between the average rate earned on total interest-earning assets and the average rate incurred on total interest-bearing liabilities. Both of these measures are reported on a taxable-equivalent basis. Net interest margin is the higher of the two because it reflects interest income earned on assets funded with non-interest-bearing sources of funds, which include demand deposits and stockholders’ equity.

Average Statements of Condition and Analysis of Net Interest Income

The following table compares interest income, average interest-earning assets, interest expense, and average interest-bearing liabilities for the periods presented. The table also presents net interest income, net interest margin and net interest rate spread for each period reported.


		Three months ended						Three months ended							Three months ended						Three months ended
		September 30, 2017						September 30, 2016							March 31, 2018						March 31, 2017
				Interest						Interest							Interest						Interest
		Average		Income/		Yield/		Average		Income/		Yield/			Average		Income/		Yield/		Average		Income/		Yield/
(dollars in thousands)	(dollars in thousands)	Balance		Expense		Rate		Balance		Expense		Rate		(dollars in thousands)	Balance		Expense		Rate		Balance		Expense		Rate
Assets	Assets													Assets
	Interest-bearing due from banks¹	$	125,846	$	406	1.26	%	$	79,672	$	104	0.51	%	Interest-bearing due from banks¹	$	104,850	$	403	1.54	%	$	29,339	$	60	0.82	%
	Investment securities^{2, 3}	400,659		2,294		2.29	%	394,980		2,120		2.15	%	Investment securities^{2, 3}	532,544		3,276		2.46	%	414,552		2,361		2.28	%
	Loans ^{1, 3, 4}	1,500,167		17,228		4.49	%	1,454,617		18,182		4.89	%	Loans ^{1, 3, 4}	1,675,490		19,119		4.56	%	1,478,487		16,222		4.39	%
	Total interest-earning assets¹	2,026,672		19,928		3.85	%	1,929,269		20,406		4.14	%	Total interest-earning assets¹	2,312,884		22,798		3.94	%	1,922,378		18,643		3.88	%
	Cash and non-interest-bearing due from banks	45,009						48,901						Cash and non-interest-bearing due from banks	45,815						38,131
	Bank premises and equipment, net	8,430						8,808						Bank premises and equipment, net	8,501						8,440
	Interest receivable and other assets, net	60,622						61,649						Interest receivable and other assets, net	89,018						58,014
Total assets	Total assets	$	2,140,733					$	2,048,627					Total assets	$	2,456,218					$	2,026,963
Liabilities and Stockholders' Equity	Liabilities and Stockholders' Equity													Liabilities and Stockholders' Equity
	Interest-bearing transaction accounts	$	96,504	$	24	0.10	%	$	91,035	$	27	0.12	%	Interest-bearing transaction accounts	$	168,371	$	52	0.13	%	$	101,121	$	29	0.12	%
	Savings accounts	171,187		17		0.04	%	152,370		15		0.04	%	Savings accounts	180,253		18		0.04	%	160,913		15		0.04	%
	Money market accounts	560,486		133		0.09	%	531,130		112		0.08	%	Money market accounts	582,961		216		0.15	%	518,540		113		0.09	%
	Time accounts including CDARS	140,736		138		0.39	%	160,595		190		0.47	%	Time accounts including CDARS	154,543		156		0.41	%	146,966		146		0.40	%
	Overnight borrowings ¹	—		—		—	%	—		—		—	%	Subordinated debentures ¹	5,753		114		7.90	%	5,607		108		7.74	%
	FHLB fixed-rate advances ¹	—		—		—	%	—		—		—	%	Total interest-bearing liabilities	1,091,881		556		0.21	%	933,147		411		0.18	%
	Subordinated debentures ¹	5,682		111		7.63	%	5,516		109		7.68	%	Demand accounts	1,049,502						846,316
	Total interest-bearing liabilities	974,595		423		0.17	%	940,646		453		0.19	%	Interest payable and other liabilities	16,903						14,645
	Demand accounts	909,900						864,460						Stockholders' equity	297,932						232,855
	Interest payable and other liabilities	13,055						14,124
	Stockholders' equity	243,183						229,397
Total liabilities & stockholders' equity	Total liabilities & stockholders' equity	$	2,140,733					$	2,048,627					Total liabilities & stockholders' equity	$	2,456,218					$	2,026,963
Tax-equivalent net interest income/margin ¹	Tax-equivalent net interest income/margin ¹			$	19,505	3.77	%			$	19,953	4.05	%	Tax-equivalent net interest income/margin ¹			$	22,242	3.85	%			$	18,232	3.79	%
Reported net interest income/margin¹	Reported net interest income/margin¹			$	18,788	3.63	%			$	19,381	3.93	%	Reported net interest income/margin¹			$	21,891	3.79	%			$	17,621	3.67	%
Tax-equivalent net interest rate spread	Tax-equivalent net interest rate spread					3.68	%					3.95	%	Tax-equivalent net interest rate spread					3.74	%					3.70	%

Nine months ended Nine months ended
September 30, 2017 September 30, 2016
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
(dollars in thousands) Balance Expense Rate Balance Expense Rate
Assets

Interest-bearing due from banks¹
$ 70,947
$ 623
1.16 % $ 39,293
$ 155
0.52 %

Investment securities^{2, 3}
407,798
7,011
2.29 % 403,986
6,458
2.13 %

Loans ^{1, 3, 4}
1,488,771
50,317
4.46 % 1,446,053
52,072
4.73 %

Total interest-earning assets¹
1,967,516
57,951
3.88 % 1,889,332
58,685
4.08 %
Cash and non-interest-bearing due from banks 43,140

39,788

Bank premises and equipment, net 8,420

8,926

Interest receivable and other assets, net 59,593

60,022

Total assets $ 2,078,669

$ 1,998,068

Liabilities and Stockholders' Equity

Interest-bearing transaction accounts $ 97,458
$ 74
0.10 % $ 95,112
$ 82
0.11 %
Savings accounts 165,212
48
0.04 % 148,050
43
0.04 %
Money market accounts 539,560
360
0.09 % 523,641
330
0.08 %
Time accounts including CDARS 144,559
423
0.39 % 160,523
579
0.48 %

Overnight borrowings ¹
—
—
— % 7,190
22
0.42 %

FHLB fixed-rate advances ¹
—
—
— % 9,087
456
6.59 %

Subordinated debentures ¹
5,645
328
7.65 % 5,469
325
7.80 %
Total interest-bearing liabilities 952,434
1,233
0.17 % 949,072
1,837
0.26 %
Demand accounts 874,995

810,190

Interest payable and other liabilities 13,151

14,651

Stockholders' equity 238,089

224,155

Total liabilities & stockholders' equity $ 2,078,669

$ 1,998,068

Tax-equivalent net interest income/margin ¹

$ 56,718
3.80 % $ 56,848
3.95 %
Reported net interest income/margin¹

$ 54,713
3.67 %

$ 55,185
3.84 %
Tax-equivalent net interest rate spread

3.71 %

3.82 %

¹Interest income/expense is divided by actual number of days in the period times 360 days to correspond to stated interest rate terms, where applicable.
²Yields on available-for-sale securities are calculated based on amortized cost balances rather than fair value, as changes in fair value are reflected as a component of stockholders' equity. Investment security interest is earned on 30/360 day basis monthly.
³Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using the Federal statutory rate of 35 percent.
⁴Average balances on loans outstanding include non-performing loans. The amortized portion of net loan origination fees is included in interest income on loans, representing an adjustment to the yield.



¹Interest income/expense is divided by actual number of days in the period times 360 days to correspond to stated interest rate terms, where applicable.
²Yields on available-for-sale securities are calculated based on amortized cost balances rather than fair value, as changes in fair value are reflected as a component of stockholders' equity. Investment security interest is earned on 30/360 day basis monthly.
³Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using the Federal statutory rate of 21 percent in 2018 and 35 percent in 2017.
⁴Average balances on loans outstanding include non-performing loans. The amortized portion of net loan origination fees is included in interest income on loans, representing an adjustment to the yield.

Analysis of Changes in Net Interest Income

The following table presents the effects of changes in average balances (volume) or changes in average rates on tax-equivalent net interest income for the years indicated. Volume variances are equal to the increase or decrease in average balances multiplied by prior period rates. Rate variances are equal to the increase or decrease in rates multiplied by prior period average balances. Mix variances are attributable to the change in yields or rates multiplied by the change in average balances.


	Three Months Ended September 30, 2017 Compared to Three Months Ended September 30, 2016												Nine Months Ended September 30, 2017 Compared to Nine Months Ended September 30, 2016												Three Months Ended March 31, 2018 Compared to Three Months Ended March 31, 2017
(in thousands)	Volume			Yield/Rate			Mix			Total			Volume			Yield/Rate			Mix			Total			Volume		Yield/Rate		Mix		Total
Interest-bearing due from banks	$	60		$	153		$	89		$	302		$	125		$	190		$	153		$	468		$	154	$	53	$	136	$	343
Investment securities ¹	30			141			3			174			61			487			5			553			672		189		54		915
Loans¹	569			(1,477		)	(46		)	(954		)	1,538			(3,199		)	(94		)	(1,755		)	2,162		649		86		2,897
Total interest-earning assets	659			(1,183		)	46			(478		)	1,724			(2,522		)	64			(734		)	2,988		891		276		4,155
Interest-bearing transaction accounts	2			(5		)	—			(3		)	2			(10		)	—			(8		)	19		2		2		23
Savings accounts	2			—			—			2			5			—			—			5			2		1		—		3
Money market accounts	6			14			1			21			10			19			1			30			14		79		10		103
Time accounts, including CDARS	(23		)	(33		)	4			(52		)	(57		)	(109		)	10			(156		)	8		2		—		10
FHLB borrowings and overnight borrowings	—			—			—			—			(478		)	—			—			(478		)
Subordinated debentures	3			(1		)	—			2			10			(7		)	—			3			3		3		—		6
Total interest-bearing liabilities	(10		)	(25		)	5			(30		)	(508		)	(107		)	11			(604		)	46		87		12		145
	$	669		$	(1,158	)	$	41		$	(448	)	$	2,232		$	(2,415	)	$	53		$	(130	)	$	2,942	$	804	$	264	$	4,010
¹ Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using the federal statutory rate of 35%.
¹ Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using the federal statutory rate of 21% and 35% for the three months ended March 31, 2018 and 2017, respectively.																									¹ Yields and interest income on tax-exempt securities and loans are presented on a taxable-equivalent basis using the federal statutory rate of 21% and 35% for the three months ended March 31, 2018 and 2017, respectively.

~~Third~~First Quarter of ~~2017~~2018 Compared to ~~Third~~First Quarter of ~~2016~~2017

Net interest income totaled ~~$18.8~~$21.9 million in the ~~third~~first quarter of ~~2017,~~2018, compared to ~~$19.4~~$17.6 million in the same quarter a year ago. The ~~$593 thousand decrease~~$4.3 million increase was primarily due to ~~a $1.4 million interest recovery on a problem credit in~~ the ~~third quarter of 2016. Additionally, acquired loan income decreased by $486 thousand in the third quarter of 2017 compared to the same period last year. These declines were partially offset by a $97.4~~$390.5 million increase in ~~average~~ earning ~~assets.~~assets from both the Bank of Napa acquisition and organic growth. Higher yields on investment securities and interest-bearing cash, and upward repricing of variable rate loans also positively impacted interest income for the current quarter.

The tax-equivalent net interest margin was ~~3.77%~~3.85% in the ~~third~~first quarter of ~~2017,~~2018, compared to ~~4.05%~~3.79% in the same quarter of the previous year.

~~First Nine Months~~The increase compared to the first quarter of 2017 ~~Compared~~is related to ~~First Nine Months of 2016~~

Net interest income totaled $54.7 million in the first nine months of 2017, compared to $55.2 million in the same period of 2016. The $472 thousand decline was driven by the decrease in acquired loan income and the interest recovery mentioned above,higher yields on earning assets, partially offset by ~~a $78.2 million~~an increase in ~~average~~lower yielding cash and securities as a percentage of total earning assets compared to the same period in 2016. Additionally, higher yields on investment securities and interest-earning cash, a decline in the cost of funds and the upward repricing of variable rate loans positively impacted net interest income. The tax-equivalent net interest margin was 3.80% and 3.95% in the first nine months of 2017 and 2016, respectively.assets.

Market Interest Rates

Market interest rates are, in part, based on the target federal funds interest rate (the interest rate banks charge each other for short-term borrowings) implemented by the Federal Reserve Open Market Committee ("FOMC"). Actions by the FOMC to increase the target federal funds rate by 25 basis points in December 2015, December 2016, March 2017, ~~and~~ June 2017, December 2017 and March 2018, have positively impacted yields on our rate sensitive interest-earning assets. The increase in ~~June 2017,~~2018, to the current target range for the federal funds rate of ~~1.00%~~1.50% to ~~1.25%~~1.75%, was the ~~fourth~~sixth rate hike since 2008. If interest rates continue to rise, we anticipate that our net interest income will increase. While short-term interest rates have risen and improved the Bank’s yields on prime-rate adjustable assets, ~~there has been little movement in~~ longer-term rates that influence competitive pricing for fixed-rate lending ~~activities.~~

activities have moved to a lesser degree.

Impact of Acquired Loans on Net Interest Margin

Early payoffs or prepayments of our acquired loans with significant unamortized purchase discount/premium could result in volatility in our net interest margin. As our acquired loans from prior acquisitions continue to pay off, we expect the accretion onincome from these loans to continue to decline. The loans acquired from Bank of Napa are not expected to significantly increase the accretion income. Accretion and gains on payoffs of purchased loans are recorded toin interest income and the positive affect on our net interest margin for the first quarter of 2018 and 2017 were as follows:


	Three months ended						Nine months ended						Three months ended
	September 30, 2017			September 30, 2016			September 30, 2017			September 30, 2016			March 31, 2018			March 31, 2017
(dollars in thousands)	Dollar Amount		Basis point impact to net interest margin	Dollar Amount		Basis point impact to net interest margin	Dollar Amount		Basis point impact to net interest margin	Dollar Amount		Basis point impact to net interest margin	Dollar Amount		Basis point impact to net interest margin	Dollar Amount		Basis point impact to net interest margin
Accretion on PCI loans	$	76	2 bps	$	89	2 bps	$	246	2 bps	$	274	2 bps	$	112	2 bps	$	90	2 bps
Accretion on non-PCI loans	$	132	3 bps	$	605	12 bps	$	460	3 bps	$	1,252	9 bps	$	99	2 bps	$	150	3 bps
Gains on pay-offs of PCI loans	$	—	0 bps	$	—	0 bps	$	84	1 bps	$	740	5 bps	$	128	2 bps	$	—	0 bps

Provision for Loan Losses

Management assesses the adequacy of the allowance for loan losses quarterly based on several factors including growth of the loan portfolio, analysis of probable losses in the portfolio, historical loss experience and the current economic climate. ~~Actual losses on loans are charged against the allowance, and the allowance is increased by~~While loss recoveries and provisions for loan losses charged to ~~expense.~~ expense increase the allowance, actual losses on loans reduce the allowance.

There was no provision for loan losses recorded in the ~~third~~first quarter of ~~2017. In~~2018 and 2017, as the ~~third quarter~~level of ~~2016, a $1.6 million reversal of~~reserves was deemed appropriate for the ~~provision for loan losses resulted from a charged-off principal recovery of $2.2 million on a problem credit.~~portfolio. Net recoveries in the ~~third~~first quarter of ~~2017~~2018 totaled ~~$16~~$4 thousand compared to net ~~recoveries~~charge-offs of ~~$2.2 million~~$223 thousand in the same quarter a year ago.

The ratio of loan loss reserves to total loans was ~~1.00%~~0.94% at ~~September 30, 2017, compared to 1.04% at~~both March 31, 2018 and December 31, ~~2016. At September 30, 2017, total~~2017. Excluding $185 million in acquired loans, the ratio of loan loss ~~reserve~~reserves to ~~loans excluding acquired~~total loans was ~~1.05%~~1.06% at March 31, 2018 . Non-accrual loans totaled ~~$1.3 million,~~$392 thousand, or ~~0.09%~~0.02% of total loans, at ~~September 30, 2017,~~March 31, 2018, compared to ~~$145~~$406 thousand, or ~~0.01%~~0.02%, at December 31, ~~2016. A well secured $1.0 million commercial real estate loan was placed on non-accrual status during the first quarter of~~ 2017.

No provision for loan losses was recorded in the first nine months of 2017. As described above, a $1.6 million reversal of the loan loss provision was recorded in the first nine months of 2016. Net charge-offs were $194 thousand in the first nine months of 2017, compared to net recoveries of $2.3 million in the first nine months of 2016.

Impaired loan balances totaled ~~$17.7~~$16.5 million at ~~September 30, 2017~~March 31, 2018 and ~~$18.3~~$16.9 million at December 31, ~~2016,~~2017, with specific valuation allowances of ~~$586~~$354 thousand and ~~$991~~$513 thousand for the same respective dates. Classified assets (loans with substandard or doubtful risk grades) ~~increased~~decreased slightly to ~~$33.5~~$27.8 million at ~~September 30, 2017,~~March 31, 2018, from ~~$19.6~~$27.9 million at December 31, ~~2016. The increase was primarily related to one relationship of $12.3 million and the non-accrual loan of $1.0 million mentioned above that were downgraded to substandard in the first quarter of~~ 2017. There were no loans with doubtful risk grades at ~~September 30, 2017~~March 31, 2018 or December 31, ~~2016.~~2017.

For more information, refer to Note 5 to the Consolidated Financial Statements in this Form 10-Q.

Non-interest Income

The ~~tables below detail~~following table details the components of non-interest income.


	Three months ended				Amount			Percent		Three months ended				Amount			Percent
(dollars in thousands)	September 30, 2017		September 30, 2016		Increase (Decrease)			Increase (Decrease)		March 31, 2018		March 31, 2017		Increase (Decrease)			Increase (Decrease)
Service charges on deposit accounts	$	438	$	447	$	(9	)	(2.0	)%	$	477	$	452	$	25		5.5	%
Wealth Management and Trust Services	539		506		33			6.5	%	515		503		12			2.4	%
Debit card interchange fees	390		393		(3		)	(0.8	)%	396		372		24			6.5	%
Merchant interchange fees	88		114		(26		)	(22.8	)%	80		96		(16		)	(16.7	)%
Earnings on bank-owned life insurance	209		216		(7		)	(3.2	)%	228		209		19			9.1	%
Dividends on FHLB stock	177		223		(46		)	(20.6	)%	196		232		(36		)	(15.5	)%
Other income	225		215		10			4.7	%	350		251		99			39.4	%
Total non-interest income	$	2,066	$	2,114	$	(48	)	(2.3	)%	$	2,242	$	2,115	$	127		6.0	%

	Nine months ended				Amount			Percent
(dollars in thousands)	September 30, 2017		September 30, 2016		Increase (Decrease)			Increase (Decrease)
Service charges on deposit accounts	$	1,337	$	1,344	$	(7	)	(0.5	)%
Wealth Management and Trust Services	1,546		1,599		(53		)	(3.3	)%
Debit card interchange fees	1,146		1,112		34			3.1	%
Merchant interchange fees	296		355		(59		)	(16.6	)%
Earnings on bank-owned life insurance	628		626		2			0.3	%
Dividends on FHLB stock	585		577		8			1.4	%
Gains on investment securities, net	10		394		(384		)	(97.5	)%
Other income	729		691		38			5.5	%
Total non-interest income	$	6,277	$	6,698	$	(421	)	(6.3	)%

~~Third~~First Quarter of ~~2017~~2018 Compared to ~~Third~~First Quarter of ~~2016~~2017

Non-interest income ~~decreased~~increased by ~~$48~~$127 thousand in the ~~third~~first quarter of ~~2017~~2018 to ~~$2.07~~$2.2 million, compared to ~~$2.11~~$2.1 million in the same quarter a year ago. The ~~decrease~~increase in other income was primarily due to an increase in fees on one-way deposits placed into deposit networks as a ~~lower dividend yield on FHLB stock.~~

~~First Nine Months~~result of ~~2017 Compared to First Nine Months of 2016~~

~~Non-interest income decreased by $421 thousand to $6.3 million~~the rising market interest rate environment in the ~~first nine months of 2017, compared to $6.7 million for the first nine months of 2016. The decrease was primarily due to a $384 thousand decrease in gains from the sale of investment securities.~~past year.

Non-interest Expense

The ~~tables below detail~~following table details the components of non-interest expense.


	Three months ended				Amount			Percent		Three months ended				Amount			Percent
(dollars in thousands)	September 30, 2017		September 30, 2016		Increase (Decrease)			Increase (Decrease)		March 31, 2018		March 31, 2017		Increase (Decrease)			Increase (Decrease)
Salaries and related benefits	$	7,344	$	6,683	$	661		9.9	%	$	9,017	$	7,475	$	1,542		20.6	%
Occupancy and equipment	1,364		1,275		89			7.0	%	1,507		1,319		188			14.3	%
Depreciation and amortization	489		449		40			8.9	%	547		481		66			13.7	%
Federal Deposit Insurance Corporation insurance	167		253		(86		)	(34.0	)%	191		161		30			18.6	%
Data processing	946		894		52			5.8	%	1,381		939		442			47.1	%
Professional services	801		476		325			68.3	%	1,299		522		777			148.9	%
Directors' expense	175		143		32			22.4	%	174		158		16			10.1	%
Information technology	179		307		(128		)	(41.7	)%	269		198		71			35.9	%
Provision for losses on off-balance sheet commitments	100		—		100			NM		—		165		(165		)	NM
Other non-interest expense
Advertising	155		177		(22		)	(12.4	)%	179		73		106			145.2	%
Other expense	1,316		1,253		63			5.0	%	1,517		1,520		(3		)	(0.2	)%
Total other non-interest expense	1,471		1,430		41			2.9	%	1,696		1,593		103			6.5	%
Total non-interest expense	$	13,036	$	11,910	$	1,126		9.5	%	$	16,081	$	13,011	$	3,070		23.6	%

	Nine months ended				Amount			Percent
(dollars in thousands)	September 30, 2017		September 30, 2016		Increase (Decrease)			Increase (Decrease)
Salaries and related benefits	$	22,106	$	20,155	$	1,951		9.7	%
Occupancy and equipment	4,063		3,731		332			8.9	%
Depreciation and amortization	1,433		1,343		90			6.7	%
Federal Deposit Insurance Corporation insurance	490		760		(270		)	(35.5	)%
Data processing	2,848		2,666		182			6.8	%
Professional services	1,845		1,528		317			20.7	%
Directors' expense	557		448		109			24.3	%
Information technology	563		665		(102		)	(15.3	)%
Provision for losses on off-balance sheet commitments	57		150		(93		)	(62.0	)%
Other non-interest expense
Advertising	359		378		(19		)	(5.0	)%
Other expense	4,357		4,113		244			5.9	%
Total other non-interest expense	4,716		4,491		225			5.0	%
Total non-interest expense	$	38,678	$	35,937	$	2,741		7.6	%

NM - Not Meaningful

~~Third~~First Quarter of ~~2017~~2018 Compared to ~~Third~~First Quarter of ~~2016~~2017

Non-interest expense increased by ~~$1.1~~$3.1 million to ~~$13.0~~$16.1 million in the ~~third~~first quarter of ~~2017,~~2018, compared to ~~$11.9~~$13.0 million in the same quarter a year ago. The increase was primarily due to higher salaries and benefits related to ~~growth strategies and~~the addition of Bank of Napa employees, $340 thousand in stock-based compensation related to awards granted in 2018 with certain participants meeting retirement eligibility requirements, filling open positions ~~incentive bonuses, acquisition-related~~and annual merit increases. Professional services increased due to $750 thousand in consulting expenses related to core processing contract negotiations, which we expect to result in future data processing cost savings. The increase also relates to $615 thousand in acquisition expenses ($392 thousand in data processing, $106 thousand in personnel severance, $95 thousand in professional services and $22 thousand in other expenses), as well as higher occupancy and equipment expenses ~~and a~~related to rent for the two acquired branches from Bank of Napa. We expect additional acquisition expenses of approximately $325 thousand that will mostly occur in the second quarter of 2018. Without the specific effects discussed above, which caused the fluctuations in our non-interest expense line items in the first quarter of 2018, we expect that our quarterly non-interest expense will be close to $15 million for the remainder of 2018. Additionally, we amortized $127 thousand of the core-deposit intangible ("CDI") that arose from the Bank of Napa acquisition. There was no provision for losses on off-balance sheet commitments in the ~~third~~first quarter of ~~2017 primarily related to an increase~~2018, as the changes in ~~total~~ commitments ~~during the quarter. Information technology costs~~and usage factors were lower in the third quarter of 2017, compared to the third quarter of 2016, which included expenses related to a loan imaging project and computer hardware upgrades. In addition, FDIC assessment expense was lower in in 2017 due to decreased assessment rates.

~~First Nine Months of 2017 Compared to First Nine Months of 2016~~

Non-interest expense totaled $38.7 million in the first nine months of 2017, compared to $35.9 million in the same period of 2016. The increase was primarily due to higher salaries and benefits related to growth strategies and filling open positions, which resulted in additional incentive bonuses, stock-based compensation and 401(k) employer match. The search for qualified employees resulted in recruiting fees, which contributed to an increase in other expenses. Expenses associated with the pending Bank of Napa acquisition (primarily professional services) also contributed to the increase. Significant costs associated with integrating the two banks may continue into the first half of 2018. Occupancy and equipment expense also increased, primarily due to higher rent and maintenance costs associated with our new Healdsburg branch and a new lease on our San Francisco office. These increases are offset by lower FDIC assessment expense due to decreased assessment rates.insignificant.

Provision for Income Taxes

The provision for income taxes for the ~~third~~first quarter of ~~2017~~2018 totaled $~~2.7~~1.7 million at an effective tax rate of ~~34.4%~~20.7%, compared to $~~4.2~~2.2 million at an effective tax rate of ~~37.5%~~32.4% in the same quarter last year. The ~~provision for~~declines reflect the reduction in the federal corporate income ~~taxes for~~tax rate from 35% to 21% related to the ~~first nine months~~enactment of the Tax Cuts and Jobs Act of 2017, ~~totaled $7.4 million at an~~ effective tax rate of 33.4%, compared to $10.0 million at an effective tax rate of 36.5% for the first nine months of 2016. The decrease in the year-to-date effective tax rate is primarily due to higher tax-exempt interest on municipal securities and loans and lower pre-tax income. Additionally, discrete tax benefits from the exercise of stock options and vesting of restricted stock increased in 2017 as a result of the adoption of ASU No. 2016-09, ~~Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting,~~ ~~as discussed in Note 2 to the Consolidated Financial Statements in Item~~January 1, ~~of this report.~~2018. Income tax provisions reflect accruals for taxes at the applicable rates for federal income tax and California franchise tax based upon reported pre-tax income, and adjusted for the effects of all permanent differences between income for tax and financial reporting purposes (such as earnings on tax exempt loans and municipal securities, BOLI, and low-income housing tax credits) as well as transactions with discrete tax effects (such as the exercise of stock options and disqualifying dispositions of incentive stock options). ~~There may be fluctuations~~The effect from the reduction in the federal statutory rate was partially offset by the effect of the higher level of expected pre-tax income in 2018 and elimination or reductions to the deductibility of certain meals, entertainment, parking and transportation expenses due to the Tax Cuts and Jobs Act of 2017. Lastly, excess tax benefits resulting from the exercise of non-qualified stock options, the disqualifying disposition of incentive stock options and vesting of restricted stock awards totaled $399 thousand in the first quarter of 2018, an increase of $258 thousand from the first quarter

of 2017. Except for these discrete tax effects which reduced our effective tax rate ~~from period to period based on~~in the ~~relationship~~first quarter of ~~net permanent differences to~~2018 by approximately 5.0%, our income ~~before tax.~~tax provision is reflective of our current expectation for the remainder of the year.

We file a consolidated return in the U.S. Federal tax jurisdiction and a combined return in the State of California tax jurisdiction. There were no ongoing federal or state income tax examinations at the issuance of this report. At ~~September 30, 2017,~~March 31, 2018, neither the Bank nor Bancorp had accruals for interest nor penalties related to unrecognized tax benefits.

FINANCIAL CONDITION SUMMARY

At ~~September 30, 2017,~~March 31, 2018, assets totaled ~~$2,155.9~~$2,510.0 million, an increase of ~~$132.4~~$41.9 million when compared to ~~$2,023.5~~$2,468.2 million at December 31, ~~2016,~~2017, primarily due to an increase in ~~cash~~deposits of ~~$100.3~~$37.9 million that were deployed into debt securities.

Investment Securities

The investment securities portfolio totaled $572.9 million at March 31, 2018, an increase of $89.4 million from December 31, 2017. The increase reflects year-to-date purchases of investment securities that are either issued or guaranteed by the US government totaling $111.7 million, which were partially offset by the paydowns and ~~loans of $37.8~~maturities totaling $15.5 million. We maintain liquidity to support our future loan growth by holding investment securities averaging less than 5 years duration and cash earning ~~1.25%~~1.75% at the Federal Reserve Bank.

~~Investment Securities~~

The investment securities portfolio totaled $413.2 million at September 30, 2017, a $3.8 million decrease from December 31, 2016. Year-to-date investment security purchases totaling $55.6 million partially offset the paydowns and maturities totaling $59.5 million. Effective February 24, 2017, $129 million in mortgage-backed securities were transferred from available-for-sale securities to held-to-maturity at fair value to reduce balance sheet volatility, which was made possible by our strong liquidity position.

~~The~~following table ~~below~~ summarizes our investment in obligations of state and political subdivisions at ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016.~~2017.


		September 30, 2017						December 31, 2016							March 31, 2018						December 31, 2017
(dollars in thousands)	(dollars in thousands)	Amortized Cost		Fair Value		% of Total State and Political Subdivisions		Amortized Cost		Fair Value		% of Total State and Political Subdivisions		(dollars in thousands)	Amortized Cost		Fair Value		% of Total State and Political Subdivisions		Amortized Cost		Fair Value		% of Total State and Political Subdivisions
Within California:	Within California:													Within California:
	General obligation bonds	$	14,332	$	14,478	15.1	%	$	15,777	$	15,660	14.3	%	General obligation bonds	$	19,020	$	18,869	16.5	%	$	19,634	$	19,678	16.7	%
	Revenue bonds	5,493		5,683		5.7		10,895		11,127		9.9		Revenue bonds	11,355		11,406		9.9		11,660		11,776		9.9
	Tax allocation bonds	2,617		2,773		2.8		4,043		4,178		3.7		Tax allocation bonds	6,082		6,151		5.3		6,099		6,234		5.2
Total within California	Total within California	22,442		22,934		23.6		30,715		30,965		27.9		Total within California	36,457		36,426		31.7		37,393		37,688		31.8
Outside California:	Outside California:													Outside California:
	General obligation bonds	64,928		65,232		68.3		71,534		70,376		64.9		General obligation bonds	68,193		66,554		59.3		68,890		68,454		58.5
	Revenue bonds	7,746		7,805		8.1		7,913		7,904		7.2		Revenue bonds	10,344		10,291		9.0		11,390		11,346		9.7
Total outside California	Total outside California	72,674		73,037		76.4		79,447		78,280		72.1		Total outside California	78,537		76,845		68.3		80,280		79,800		68.2
Total obligations of state and political subdivisions	Total obligations of state and political subdivisions	$	95,116	$	95,971	100.0	%	$	110,162	$	109,245	100.0	%	Total obligations of state and political subdivisions	$	114,994	$	113,271	100.0	%	$	117,673	$	117,488	100.0	%

The portion of the portfolio outside the state of California is distributed among twenty states. The largest concentrations outside California are in Washington ~~(13.6%~~(12.3%), ~~Minnesota (12.9%~~Texas (11.2%), and ~~Texas (12.5%~~Minnesota (7.9%). Revenue bonds, both within and outside California, primarily consist of bonds relating to essential services (such as public improvements, transportation and utilities) and school district bonds.

Investments in states, municipalities and political subdivisions are subject to an initial pre-purchase credit assessment and ongoing monitoring. Key considerations include:

The soundness of a municipality’s budgetary position and stability of its tax revenues

Debt profile and level of unfunded liabilities, diversity of revenue sources, taxing authority of the issuer

Local demographics/economics including unemployment data, largest taxpayers and local employers, income indices and home values

For revenue bonds, the source and strength of revenue for municipal authorities including the obligor’s financial condition and reserve levels, annual debt service and debt coverage ratio, and credit enhancement (such as insurer’s strength and collateral in escrow accounts)

Credit ratings by major credit rating agencies

Loans

Loans ~~increased~~decreased by ~~$37.8~~$7.3 million and totaled ~~$1,524.4~~$1,671.7 million at ~~September 30, 2017,~~March 31, 2018, compared to ~~$1,486.6~~$1,679.0 million at December 31, ~~2016.~~2017. New loan originations in the first ~~nine~~three months of ~~2017~~2018 of ~~$121.6~~$37.4 million were primarily in commercial real estate, including both owner-occupied and investor-owned, spread throughout our markets, and tenancy-in-common fractional interest loans. ~~Loan originations~~The largest portion of our loan pay-offs of $31.5 million was due to the successful completion of construction projects and customer sales of assets. Scheduled principal payments, combined with changes in the utilization of loan commitments and loan originations, account for the ~~purchase~~remainder of ~~$7.0 million in high quality tenancy-in-common loans, pay-offs of $106.1 million, and scheduled payments, produced~~ the net ~~increase~~loan decrease from December 31, ~~2016. Our current pipeline is slightly larger than last year at this time, and should translate into loan growth throughout the remainder of 2017 and into 2018.~~2017.

Liabilities

During the first ~~nine~~three months of ~~2017,~~2018, total liabilities increased by ~~$117.9~~$40.5 million to ~~$1,910.9~~$2,211.6 million. Deposits increased ~~$118.3~~$37.9 million in the first ~~nine~~three months of ~~2017,~~2018, primarily due to fluctuations from large commercial clients' operational cash flows. These increases include the placement by existing clients of funds from their asset sales that will be distributed to the beneficiaries of trusts or reinvested and large contractors performing municipal work where funds are deposited and then flow out over the life of the contract. Non-interest bearing deposits ~~totaled $924.1~~increased $51.4 million in the first quarter of 2018 to $1,065.5 million, or ~~48.9%~~48.7% of total deposits at ~~September 30, 2017,~~March 31, 2018, compared to ~~46.1%~~48.9% at December 31, ~~2016.~~2017.

Capital Adequacy

We are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements as set forth in the following tables ~~below~~ can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a material effect on our consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and the Bank’s prompt corrective action classification are also subject to qualitative judgments by the regulators about components of capital, risk weightings and other factors.

Management reviews capital ratios on a regular basis to ensure that capital exceeds the prescribed regulatory minimums and is adequate to meet our anticipated future needs. For all periods presented, the Bank’s ratios exceed the regulatory definition of “well capitalized” under the regulatory framework for prompt corrective action and Bancorp’s ratios exceed the required minimum ratios to be considered a well-capitalized bank holding company. ~~The~~In addition, the most recent notification from the FDIC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action as of ~~June 30,~~December 31, 2017. There are no conditions or events since that notification that Management believes have changed the Bank’s categories and we expect the Bank to remain well capitalized for prompt corrective action purposes.

In July 2013, the ~~Federal Reserve~~ Board of Governors of the ~~FDIC~~Federal Reserve System, the Federal Deposit Insurance Corporation and the Office of the Comptroller of the Currency ("Agencies") finalized regulatory capital rules known as ~~"Basel III".~~“Basel III.” The rules became effective beginning January 2015, and will be fully phased-in by January 2019. The guidelines, among other things, changed the minimum capital requirements of banks and bank holding companies, by increasing the Tier 1 capital to risk-weighted assets ratio to 6%, and introduced a new requirement to maintain a minimum ratio of common equity Tier 1 capital to risk-weighted assets of 4.5%. By 2019, when fully phased in, the rules will require further increases to certain minimum capital requirements and a capital conservation buffer of an additional 2.5% of risk-weighted assets.

In August 2017, the Agencies published a final rule ("transitions NPR") halting the phase-in of certain Basel III ~~permits certain~~capital rules for banks ~~such as us to exclude accumulated other comprehensive income or loss from~~not using the Basel advanced approaches. The rule extends the regulatory capital ~~through a one-time election in~~treatment applicable during 2017 under the ~~first quarter of 2015. As it was consistent with our existing treatment, there were no changes~~regulatory capital rules for certain items. These items include regulatory capital deductions, risk weights, and certain minority interest limitations. This effectively pauses the full transition to ~~our capital ratios as a result of making this election. The~~the Basel III ~~changes that affected us most significantly include:~~

~~shifting off-balance sheet items with an original maturity~~treatment of ~~one year or less from 0% to 20% risk weight,~~

~~moving past due loan balances from 100% to 150% risk weight,~~

~~deducting~~mortgage servicing assets, certain deferred tax assets, ~~associated with NOLs~~investments in the capital of unconsolidated financial institutions and ~~tax credits from common equity Tier~~minority interests while the Agencies pursue more extensive rulemaking to simplify the treatment of assets. The transitions NPR that was effective January 1, ~~capital, and~~

~~subjecting deferred tax assets related~~2018 does not apply to ~~temporary timing differences that exceed certain thresholds to 250% risk-weighting, beginning in 2018.~~Bank of Marin.

We have modeled our ratios under the fully phased-in Basel III rules, and based on present facts, we do not expect that we will be required to raise additional capital as a result of the fully phased-in rules.

The Bancorp’s and Bank’s capital adequacy ratios as of ~~September 30, 2017~~March 31, 2018 and December 31, ~~2016~~2017 are presented in the following tables. Bancorp's Tier 1 capital includes the subordinated debentures, which are not included at the Bank

level. We continued to build capital in ~~2017~~2018 through the accumulation of net income. Our Share Repurchase Program announced on April 23, 2018 may affect future capital levels, as described in Item 1. Note 7, Stockholders Equity, of this Form 10-Q.


Capital Ratios for Bancorp (dollars in thousands)	Actual Ratio				Adequately Capitalized Threshold¹				Ratio to be a Well Capitalized Bank Holding Company				Actual Ratio				Adequately Capitalized Threshold¹				Ratio to be a Well Capitalized Bank Holding Company
September 30, 2017	Amount		Ratio		Amount		Ratio		Amount		Ratio
March 31, 2018													Amount		Ratio		Amount		Ratio		Amount		Ratio
Total Capital (to risk-weighted assets)	$	259,848	15.05	%	≥ $	159,667	≥ 9.250	%	≥ $	172,613	≥ 10.00	%	$	293,084	15.10	%	≥ $	191,639	≥ 9.875	%	≥ $	194,065	≥ 10.00	%
Tier 1 Capital (to risk-weighted assets)	$	243,644	14.11	%	≥ $	125,145	≥ 7.250	%	≥ $	138,091	≥ 8.00	%	$	276,355	14.24	%	≥ $	152,826	≥ 7.875	%	≥ $	155,252	≥ 8.00	%
Tier 1 Capital (to average assets)	$	243,644	11.43	%	≥ $	85,256	≥ 4.000	%	≥ $	106,570	≥ 5.00	%	$	276,355	11.39	%	≥ $	97,041	≥ 4.000	%	≥ $	121,301	≥ 5.00	%
Common Equity Tier 1 (to risk-weighted assets)	$	238,115	13.79	%	≥ $	99,253	≥ 5.750	%	≥ $	112,199	≥ 6.50	%	$	270,583	13.94	%	≥ $	123,717	≥ 6.375	%	≥ $	126,142	≥ 6.50	%
December 31, 2016
December 31, 2017
Total Capital (to risk-weighted assets)	$	247,453	14.32	%	≥ $	149,039	≥ 8.625	%	≥ $	172,799	≥ 10.00	%	$	287,435	14.91	%	≥ $	178,323	≥ 9.250	%	≥ $	192,782	≥ 10.00	%
Tier 1 Capital (to risk-weighted assets)	$	231,111	13.37	%	≥ $	114,479	≥ 6.625	%	≥ $	138,239	≥ 8.00	%	$	270,710	14.04	%	≥ $	139,767	≥ 7.250	%	≥ $	154,225	≥ 8.00	%
Tier 1 Capital (to average assets)	$	231,111	11.39	%	≥ $	81,189	≥ 4.000	%	≥ $	101,486	≥ 5.00	%	$	270,710	12.13	%	≥ $	89,285	≥ 4.000	%	≥ $	111,607	≥ 5.00	%
Common Equity Tier 1 (to risk-weighted assets)	$	225,925	13.07	%	≥ $	88,559	≥ 5.125	%	≥ $	112,319	≥ 6.50	%	$	265,119	13.75	%	≥ $	110,849	≥ 5.750	%	≥ $	125,308	≥ 6.50	%

¹The adequately capitalized threshold includes the capital conservation buffer that was effective January 1, 2016. These ratios are not reflected on a fully phased-in basis, which will occur in January 2019.


Capital Ratios for the Bank (dollars in thousands)	Actual Ratio				Adequately Capitalized Threshold¹				Ratio to be Well Capitalized under Prompt Corrective Action Provisions				Actual Ratio				Adequately Capitalized Threshold¹				Ratio to be Well Capitalized under Prompt Corrective Action Provisions
September 30, 2017	Amount		Ratio		Amount		Ratio		Amount		Ratio
March 31, 2018													Amount		Ratio		Amount		Ratio		Amount		Ratio
Total Capital (to risk-weighted assets)	$	253,803	14.71	%	≥ $	159,619	≥ 9.250	%	≥ $	172,561	≥ 10.00	%	$	285,589	14.72	%	≥ $	191,585	≥ 9.875	%	≥ $	194,010	≥ 10.00	%
Tier 1 Capital (to risk-weighted assets)	$	237,598	13.77	%	≥ $	125,107	≥ 7.250	%	≥ $	138,049	≥ 8.00	%	$	268,860	13.86	%	≥ $	152,783	≥ 7.875	%	≥ $	155,208	≥ 8.00	%
Tier 1 Capital (to average assets)	$	237,598	11.15	%	≥ $	85,244	≥ 4.000	%	≥ $	106,555	≥ 5.00	%	$	268,860	11.08	%	≥ $	97,021	≥ 4.000	%	≥ $	121,277	≥ 5.00	%
Common Equity Tier 1 (to risk-weighted assets)	$	237,598	13.77	%	≥ $	99,223	≥ 5.750	%	≥ $	112,165	≥ 6.50	%	$	268,860	13.86	%	≥ $	123,682	≥ 6.375	%	≥ $	126,107	≥ 6.50	%
December 31, 2016
December 31, 2017
Total Capital (to risk-weighted assets)	$	243,468	14.09	%	≥ $	149,016	≥ 8.625	%	≥ $	172,772	≥ 10.00	%	$	283,885	14.73	%	≥ $	178,281	≥ 9.250	%	≥ $	192,737	≥ 10.00	%
Tier 1 Capital (to risk-weighted assets)	$	227,127	13.15	%	≥ $	114,462	≥ 6.625	%	≥ $	138,218	≥ 8.00	%	$	267,160	13.86	%	≥ $	139,734	≥ 7.250	%	≥ $	154,189	≥ 8.00	%
Tier 1 Capital (to average assets)	$	227,127	11.19	%	≥ $	81,176	≥ 4.000	%	≥ $	101,469	≥ 5.00	%	$	267,160	11.97	%	≥ $	89,275	≥ 4.000	%	≥ $	111,593	≥ 5.00	%
Common Equity Tier 1 (to risk-weighted assets)	$	227,127	13.15	%	≥ $	88,546	≥ 5.125	%	≥ $	112,302	≥ 6.50	%	$	267,160	13.86	%	≥ $	110,824	≥ 5.750	%	≥ $	125,279	≥ 6.50	%

Liquidity

The goal of liquidity management is to provide adequate funds to meet loan demand and to fund operating activities and deposit withdrawals. We accomplish this goal by maintaining an appropriate level of liquid assets and formal lines of credit with the FHLB, FRBSF and correspondent banks that enable us to borrow funds as discussed in Note 6 to the Consolidated Financial Statements in ITEM 1 of this ~~Form 10-Q.~~report. Our Asset Liability Management Committee ("ALCO"), which is comprised of certain Bank directors, is responsible for approving and monitoring our liquidity targets and strategies. ALCO has adopted a contingency funding plan that provides early detection of potential liquidity issues in the market or the Bank and institutes prompt responses that may prevent or alleviate a potential liquidity crisis. Management monitors liquidity daily and regularly adjusts our position based on current and future liquidity needs. We also have relationships with third party deposit networks and can adjust the placement of our deposits via reciprocal or one-way sales, as part of our cash management strategy.

We obtain funds from the repayment and maturity of loans, deposit inflows, investment security maturities and paydowns, federal funds purchases, FHLB advances, other borrowings, and cash flow from operations. Our primary uses of funds are the origination of loans, the purchase of investment securities, withdrawals of deposits, maturity of certificates of deposit, repayment of borrowings and dividends to common stockholders.

The most significant factor in our daily liquidity position has been the level of customer deposits. We attract and retain new deposits, which depends upon the variety and effectiveness of our customer account products, service and

convenience, and rates paid to customers, as well as our financial strength. The cash cycles of some of our large commercial depositors may cause short-term fluctuations in their deposit balances held with us.

At ~~September 30, 2017~~March 31, 2018 our liquid assets, which included unencumbered available-for-sale securities and cash, totaled ~~$348.6~~$522.3 million, an increase of ~~$33.7~~$20.4 million from December 31, ~~2016.~~2017. Our cash and cash equivalents ~~increased $100.3~~decreased $44.2 million from December 31, ~~2016.~~2017. The primary sources of funds during the first ~~nine~~three months of ~~2017~~2018 included an increase in net deposits of ~~$118.3~~$37.9 million, ~~$60.8~~$15.5 million in pay-downs and maturities of investment securities, ~~and $20.4~~$9.2 million net cash provided by operating ~~activities.~~activities, and $7.0 million in loans collected net of originations. The primary uses of liquidity during the first ~~nine~~three months of ~~2017~~2018 was ~~$55.6~~$111.7 million in investment securities purchased, ~~$37.4 million in loans originated (net of loan principal collected)~~ and ~~$5.1~~$2.0 million in cash dividends paid on common stock to our shareholders. Management anticipates that our current strong liquidity position and core deposit base will provide adequate liquidity to fund our operations.

Undrawn credit commitments, as discussed in Note 8 to the Consolidated Financial Statements in this Form 10-Q, totaled ~~$406.9~~$453.8 million at ~~September 30, 2017.~~March 31, 2018. These commitments, to the extent used, are expected to be funded primarily through the repayment of existing loans, deposit growth and liquid assets. Over the next twelve months, ~~$91.5~~$97.2 million of time deposits will mature. We expect these funds to be replaced with new deposits. Our emphasis on local deposits combined with our well capitalized equity position, provides a very stable funding base.

Since Bancorp is a holding company and does not conduct regular banking operations, its primary sources of liquidity are dividends from the Bank. Under the California Financial Code, payment of a dividend from the Bank to Bancorp without advance regulatory approval is restricted to the lesser of the Bank’s retained earnings or the amount of the Bank’s net profits from the previous three fiscal years less the amount of dividends paid during that period. The primary uses of funds for Bancorp are shareholder dividends and ordinary operating expenses. Bancorp held ~~$5.7~~$7.2 million of cash at ~~September 30, 2017,~~March 31, 2018. In April 2018 Bancorp obtained a dividend distribution from the Bank totaling $28.0 million, which is deemed sufficient to cover Bancorp's operational needs, share repurchases, and cash dividends to shareholders through ~~early~~the end of 2018. Management anticipates that there will be sufficient earnings at the Bank to provide dividends to Bancorp to meet its funding requirements for the foreseeable future.

ITEM 3. Quantitative and Qualitative Disclosure about Market Risk

Market risk is defined as the risk of loss arising from an adverse change in the market value (or prices) of financial instruments. A significant form of market risk is interest rate risk, which is inherent in our investment, borrowing, lending and deposit gathering activities. The Bank manages interest rate sensitivity to minimize the exposure of our net interest margin, earnings, and capital to changes in interest rates. Interest rate changes can create fluctuations in the net interest margin due to an imbalance in the timing of repricing or maturity of assets or liabilities.

To mitigate interest rate risk, the structure of the Consolidated Statement of Condition is managed with the objective of correlating the effects of interest rate changes on loans and investments with those of deposits and borrowings. The asset liability management policy sets limits on the acceptable amount of change to net interest income and economic value of equity in different interest rate environments.

From time to time, we enter into interest rate swap contracts to mitigate the changes in the fair value of specified long-term fixed-rate loans and firm commitments to enter into long-term fixed-rate loans caused by changes in interest rates. See Note 9 to the Consolidated Financial Statements in this Form 10-Q.

Exposure to interest rate risk is reviewed at least quarterly by ALCO and the Board of Directors. Simulation models are used to measure interest rate risk and to evaluate strategies to improve profitability. A simplified static statement of condition is prepared on a quarterly basis as a starting point, using instrument level data of our actual loans, investments, borrowings and deposits as inputs. If potential changes to net equity value and net interest income resulting from hypothetical interest rate changes are not within the limits established by the Board of Directors, Management may adjust the asset and liability mix to bring the risk position within approved limits.

The Bank currently is slightly asset sensitive. Our net interest margin is expected to increase if rates go up, primarily due to our cash earning the Federal Funds rate, adjustable rate loans and our significant non-interest bearing deposit base. Our net interest income remains most vulnerable to a falling interest rate environment.

The following table estimates the effect of interest rate changes in all points of the yield curve as measured against a flat rate scenario. The Bank currently has low interest rate risk and, in general, is slightly asset sensitive (net interest margin is expected to increase if rates go up due to our significant amount of cash, adjustable rate loans and our significant non-interest bearing deposit base). Our net interest income remains most vulnerable to a falling interest rate environment. Interest rate risk remains within policy guidelines established by ALCO and the Board of Directors.


Immediate Changes in Interest Rates (in basis points)	Estimated Change in NII in Year 1 (as percent of NII)		Estimated Change in NII in Year 2 (as percent of NII)		Estimated Change in NII in Year 1 (as percent of NII)		Estimated Change in NII in Year 2 (as percent of NII)
up 400					3.1	%	12.9	%
up 300					2.5	%	10.1	%
up 200	2.5	%	8.5	%	1.9	%	7.1	%
up 100					1.3	%	4.4	%
down 100	(8.0	)%	(13.1	)%	(6.8	)%	(11.5	)%

Interest rate sensitivity is a function of the repricing characteristics of our assets and liabilities. The Bank runs a combination of scenarios and sensitivities in its attempt to capture the range of interest rate risk. As with any simulation model or other method of measuring interest rate risk, limitations are inherent in the process and dependent on assumptions. For example, if we choose to pay interest on certain business deposits that are currently non-interest bearing, causing these deposits to become rate sensitive in the future, we would become less asset sensitive than the model currently indicates. Assets and liabilities may react differently to changes in market interest rates in terms of both timing and responsiveness to market rate movements. Further, the actual rates and timing of prepayments on loans and investment securities, and the behavior of depositors, could vary significantly from the assumptions applied in the various scenarios. Lastly, changes in U.S. Treasury rates accompanied by a change in the shape of the yield curve could produce different results from those presented in the table. Accordingly, the results presented should not be relied upon as indicative of actual results in the event of changing market interest rates.

ITEM 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Bank of Marin Bancorp and its subsidiary (the "Company") conducted an evaluation under the supervision and with the participation of our Management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e) under the Securities Exchange Act of 1934 (the “Act”)) as of the end of the period covered by this report. The term disclosure controls and procedures means controls and other procedures that are designed to ensure that information we are required to disclose in the reports that we file or submit under the Act (15 U.S.C. 78a et seq.) is recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information we are required to disclose in the reports that we file or submit under the Act is accumulated and communicated to our Management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report.

Changes in Internal Controls over Financial Reporting

As a result of the acquisition of Bank of Napa in November 2017, we continue to integrate and incorporate their business processes and systems into our overall internal control over financial reporting. In addition, we adopted the new revenue recognition accounting standards (ASU No. 2014-09 and related amendments) as of January 1, 2018. As a result, we implemented or modified certain internal controls, including but not limited to the following.

Added documentation processes related to the five-step revenue recognition model for our non-interest income revenue streams that are within the scope of the new standards.

Added controls to address related expanded financial statement disclosures.

During the ~~last fiscal~~ quarter ended March 31, 2018, other than the items described above, there were no significant changes that materially affected, or are reasonably likely to affect, our internal control over financial reporting. The term internal control over financial reporting, as defined by Rule 15d-15(f) of the Act, is a process designed by, or under the supervision of, the issuer's principal executive and principal financial officers, or persons performing similar functions, and effected by the issuer's board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles.

PART II OTHER INFORMATION

ITEM 1 Legal Proceedings

On October 6, 2017, a purported shareholder of Bank of Napa, N.A., filed a putative class action lawsuit in the United States District Court for the Northern District of California, entitled Parshall v. Bank of Napa, N.A., Case No. 3:17-cv-05773-RS (N.D. Cal. filed Oct. 6, 2017), naming the Bank of Napa, its directors, Bank of Marin Bancorp and Bank of Marin alleging violations of the federal securities laws in connection with registration statement filed by Bancorp with the SEC for the pending acquisition of Bank of Napa. On October 20, 2017, the plaintiff filed a voluntary dismissal of the case.

Refer to Note 12 to the Consolidated Financial Statements in Item 8 of our ~~2016~~2017 Form 10-K and Note 8 to the Consolidated Financial Statements in this Form 10-Q.

ITEM 1A Risk Factors

~~In addition to other information contained in this report, including matters under~~There have been no material changes from the ~~section “Forward-Looking Statements,” the risks~~risk factors previously disclosed in ~~section~~our 2017 Form 10-K. Refer to "Risk Factors" in Item 1A ~~“Risk Factors”~~ of our ~~2016~~2017 Form 10-K, you should carefully consider the risk factors in connection with the proposed acquisition of the Bank of Napa, N.A. (“Napa”) as discussed in the Registration Statement on Form S-4 filed with the SEC on October 2, 2017 (as amended).pages 10 through 20.

ITEM 2 Unregistered Sales of Equity Securities and Use of Proceeds

We did not have any unregistered sales or repurchases of our equity securities during the ~~nine~~three months ended ~~September 30, 2017.~~March 31, 2018.

ITEM 3 Defaults upon Senior Securities

None.

ITEM 4 Mine Safety Disclosures

Not applicable.

ITEM 5 Other Information

None.

ITEM 6 Exhibits

The following exhibits are filed as part of this report or hereby incorporated by references to filings previously made with the SEC.



		Incorporated by Reference
Exhibit Number	Exhibit Description	Form	File No.	Exhibit	Filing Date	Herewith
2.01	Agreement to Merger and Plan of Reorganization with Bank of Napa, dated July 31, 2017	8-K	001-33572	2.1	August 2, 2017
3.01	Articles of Incorporation, as amended	10-Q	001-33572	3.01	November 7, 2007
3.02	Bylaws	10-Q	001-33572	3.02	May 9, 2011
3.02a	Bylaw Amendment	8-K	001-33572	3.03	July 6, 2015
4.01	Rights Agreement, dated July 6, 2017	8-A12B	001-33572	4.1	July 7, 2017
10.01	Employee Stock Ownership Plan	S-8	333-144810	4.1	May 26, 2017
10.02	2007 Employee Stock Purchase Plan	S-8	333-144810	4.1	July 24, 2007
10.03	2017 Equity Plan	S-8	333-144809	4.1	June 30, 2017
10.04	2010 Director Stock Plan	S-8	333-167639	4.1	June 21, 2010
10.05	Form of Indemnification Agreement for Directors and Executive Officers, dated August 9, 2007	10-Q	001-33572	10.06	November 7, 2007
10.06	Form of Employment Agreement, dated January 23, 2009	8-K	001-33572	10.1	January 26, 2009
10.07	2010 Annual Individual Incentive Compensation Plan	8-K	001-33572	99.1	October 21, 2010
10.08	Salary Continuation Agreement for executive officer Russell Colombo, Chief Executive Officer, dated January 1, 2011	8-K	001-33572	10.1	January 6, 2011
10.09	Salary Continuation Agreement for executive officer Peter Pelham, Director of Retail Banking, dated January 1, 2011	8-K	001-33572	10.4	January 6, 2011
10.10	Salary Continuation Agreement for executive officer Tani Girton, Chief Financial Officer, dated October 18, 2013	8-K	001-33572	10.2	November 4, 2014
10.11	Salary Continuation Agreement for executive officer Elizabeth Reizman, Chief Credit Officer, dated July 20, 2014	8-K	001-33572	10.3	November 4, 2014
10.12	Salary Continuation Agreement for executive officer Timothy Myers, Executive Vice President and Commercial Banking Manager, dated May 28, 2015	8-K	001-33572	10.4	June 2, 2015
10.13	2007 Form of Change in Control Agreement	8-K	001-33572	10.1	October 31, 2007
10.14	Information Technology Services Agreement with Fidelity Information Services, LLC, dated July 11, 2012	8-K	001-33572	10.1	July 17, 2012
11.01	Earnings Per Share Computation - included in Note 1 to the Consolidated Financial Statements					Filed
31.01	Certification of Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002					Filed
31.02	Certification of Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002					Filed
32.01	Certification pursuant to 18 U.S.C. §1350 as adopted pursuant to §906 of the Sarbanes-Oxley Act of 2002					Filed
101.01*	XBRL Interactive Data File					Furnished


*	As provided in Rule 406T of Regulation S-T, this information is furnished and not filed for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.




			Bank of Marin Bancorp
			(registrant)


	~~November 6, 2017~~May 7, 2018		/s/ Russell A. Colombo
	Date		Russell A. Colombo
			President &
			Chief Executive Officer
			(Principal Executive Officer)


	~~November 6, 2017~~May 7, 2018		/s/ Tani Girton
	Date		Tani Girton
			Executive Vice President &
			Chief Financial Officer
			(Principal Financial Officer)


	~~November 6, 2017~~May 7, 2018		/s/ Cecilia Situ
	Date		Cecilia Situ
			First Vice President &
			Manager of Finance & Treasury
			(Principal Accounting Officer)

~~Page-49~~Page-44



Troubled Debt Restructurings during the nine months ended September 30, 2017:
Installment and consumer	1	$	50	$	50	$	49
Troubled Debt Restructurings during the nine months ended September 30, 2016:
Commercial real estate, investor	2	$	1,830	$	1,826	$	1,808
Home equity¹	1	87		222		222
Total	3	$	1,917	$	2,048	$	2,030
¹The home equity TDR modification during the second quarter of 2016 included debt consolidation, which increased the post-modification balance.