Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report.

Indicate by check mark whether the Registrant (1) has filed all reports required 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 ☒ No ☐

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 ☒ No ☐

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

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 revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.

	(in thousands, except share data)						(in thousands, except share data)
	(current period unaudited)						(current period unaudited)
	June 30, 2018			December 31, 2017			June 30, 2019			December 31, 2018
Assets
Cash and due from banks	$	10,787		$	10,793		$	13,036		$	12,888
Interest-bearing deposits in banks		939			5,538			1,032			570
Total cash and cash equivalents		11,726			16,331			14,068			13,458

Investment debt securities
Available-for-sale (amortized cost $356,329 and $380,440)		344,194			374,570
Investment equity securities (cost of $10,127 and $5,296)		9,600			4,975
Investments:
Available-for-sale (amortized cost $348,229 and $353,249)								347,728			344,221
Equity securities (cost of $6,985 and $10,079)								6,898			9,421
Restricted investment in stocks		2,668			1,501			1,872			797
Loans held-for-sale		404			—
Loans receivable		779,886			733,283			817,593			785,448
Allowance for loan losses		(8,192	)		(7,841	)		(9,164	)		(8,834	)
Net loans		771,694			725,442			808,429			776,614
Bank-owned life insurance		11,032			10,894			11,330			11,192
Premises and equipment, net		9,648			8,495			12,249			9,918
Accrued interest receivable		3,573			3,545			3,962			2,852
Net deferred tax assets		4,523			3,319			1,528			3,724
Other assets		3,812			3,265			3,941			3,255
Total assets	$	1,172,874		$	1,152,337		$	1,212,005		$	1,175,452

Liabilities
Deposits
Demand, non-interest bearing	$	135,482		$	129,212		$	149,591		$	128,615
Interest-bearing demand		286,248			297,470			317,717			304,652
Money market		80,053			84,562			79,044			78,781
Savings		261,224			257,522			249,998			279,762
Time		120,303			124,485			123,131			117,569
Time of $100 or more		102,416			100,697			111,180			106,219
Total deposits		985,726			993,948			1,030,661			1,015,598
Short-term borrowings		85,646			55,756			59,048			50,872
Accrued interest payable		371			384			599			449
Other liabilities		3,313			3,679			5,819			4,185
Total liabilities		1,075,056		��	1,053,767			1,096,127			1,071,104

Shareholders' Equity
Common stock, par value $0.625 per share;
authorized 10,000,000 shares; 3,630,037 shares and 3,612,677
shares issued; 3,465,468 and 3,448,108 shares outstanding		2,269			2,258
authorized 10,000,000 shares; 3,666,015 shares and 3,648,649
shares issued; 3,501,446 and 3,484,080 shares outstanding								2,291			2,280
Surplus		19,293			18,691			20,607			20,041
Retained earnings		88,319			84,183			95,852			91,635
Accumulated other comprehensive loss, net of tax		(9,587	)		(4,086	)		(396	)		(7,132	)
Treasury stock, at cost; 164,569 shares		(2,476	)		(2,476	)		(2,476	)		(2,476	)
Total shareholders' equity		97,818			98,570			115,878			104,348
Total liabilities and shareholders' equity	$	1,172,874		$	1,152,337		$	1,212,005		$	1,175,452

The accompanying notes are an integral part of the consolidated financial statements.

(in thousands, except per share data)	Three months ended June 30,				Six months ended June 30,
(unaudited)	2018		2017		2018			2017
										(in thousands, except per share data - unaudited)
										Three months ended June 30,					Six months ended June 30,
										2019			2018		2019		2018
Interest income
Interest and fees on loans	$	8,512	$	7,115	$	16,939		$	14,187	$	9,637		$	8,512	$	18,860	$	16,939
Interest and dividends on investment securities (AFS & Equity):
Interest and dividends on investment securities (Available-for-sale & Equity):
Taxable		1,551		1,551		3,128			3,114		1,660			1,551		3,274		3,128
Tax-exempt		461		484		944			949		382			461		808		944
Interest on trading securities		—		16		—			45
Interest on interest-bearing balances and other interest income		38		26		60			33		33			38		59		60
Total interest income		10,562		9,192		21,071			18,328		11,712			10,562		23,001		21,071

Interest expense
Interest on deposits
Interest-bearing demand		436		228		810			402		788			436		1,481		810
Money market		62		76		120			128		227			62		512		120
Savings		369		278		699			537		397			369		805		699
Time		379		372		757			740		479			379		898		757
Time of $100,000 or more		415		328		814			651		514			415		972		814
Interest on short-term borrowings		201		52		380			132		196			201		386		380
Total interest expense		1,862		1,334		3,580			2,590		2,601			1,862		5,054		3,580
Net interest income		8,700		7,858		17,491			15,738		9,111			8,700		17,947		17,491
Provision for loan losses		187		300		375			600		150			187		375		375
Net interest income after provision for loan losses		8,513		7,558		17,116			15,138		8,961			8,513		17,572		17,116

Non-interest income
Net gain on sales of investment debt and equity securities		48		115		133			864
Unrealized gain (loss) on investment equity securities		41		—		(205	)		—
Net gain on trading activities		—		10		—			27
Net gain on sales of investments available-for-sale and equity securities											584			48		590		133
Unrealized (loss) gain on investment equity securities											(405	)		41		571		(205	)
Fees for services to customers		408		421		829			813		422			408		815		829
ATM and debit card		487		449		917			866		519			487		989		917
Retail brokerage and advisory		105		104		208			207		133			105		274		208
Bank-owned life insurance		69		120		137			191		70			69		138		137
Merchant		82		92		156			172		99			82		174		156
Net gain on sale of loans		37		201		44			251		28			37		49		44
Other		177		103		302			214		204			177		363		302
Total non-interest income		1,454		1,615		2,521			3,605		1,654			1,454		3,963		2,521

Non-interest expense
Salaries and employee benefits		3,627		3,237		6,972			6,323		3,790			3,627		7,571		6,972
Net occupancy		448		425		919			876		506			448		1,011		919
Furniture and equipment		563		456		1,050			885		591			563		1,148		1,050
Marketing		221		307		531			536		263			221		500		531
Third party services		506		407		916			801		446			506		886		916
Telephone, postage and supplies		173		199		354			399		152			173		351		354
State taxes		164		155		335			348		207			164		378		335
FDIC insurance premiums		146		134		321			275		135			146		265		321
Other		685		622		1,313			1,087		703			685		1,407		1,313
Total non-interest expense		6,533		5,942		12,711			11,530		6,793			6,533		13,517		12,711
Income before income taxes		3,434		3,231		6,926			7,213		3,822			3,434		8,018		6,926
Provision for income taxes		572		845		1,129			1,967		679			572		1,496		1,129
Net income	$	2,862	$	2,386	$	5,797		$	5,246	$	3,143		$	2,862	$	6,522	$	5,797
Earnings per share - basic	$	0.83	$	0.70	$	1.68		$	1.53	$	0.90		$	0.83	$	1.87	$	1.68
Earnings per share - diluted	$	0.82	$	0.69	$	1.67		$	1.53	$	0.90		$	0.82	$	1.86	$	1.67
Cash dividends per share	$	0.32	$	0.31	$	0.64		$	0.62	$	0.33		$	0.32	$	0.66	$	0.64

The accompanying notes are an integral part of the consolidated financial statements.

(in thousands - unaudited)

2018

2017

Three months ended June 30,

Before
tax
amount

Tax
expense
(benefit)

Net of
tax
amount

Before
tax
amount

Tax
expense
(benefit)

Net of
tax
amount

Net income

$
3,434

$
572

$
2,862

$
3,231

$
845

$
2,386

Other comprehensive (loss) income:

Net unrealized holding (losses) gains on securities:

Unrealized holding (losses) gains arising during the period

(1,217
)

(255
)

(962
)

1,682

572

1,110

Reclassification adjustment for gains included in net income

(2
)

(1
)

(1
)

(115
)

(40
)

(75
)
Other comprehensive (loss) income

(1,219
)

(256
)

(963
)

1,567

532

1,035

Total comprehensive income

$
2,215

$
316

$
1,899

$
4,798

$
1,377

$
3,421

Six months ended June 30,

2018

2017

Before
tax
amount

Tax
expense
(benefit)

Net of
tax
amount

Before
tax
amount

Tax
expense
(benefit)

Net of
tax
amount

Net income

$
6,926

$
1,129

$
5,797

$
7,213

$
1,967

$
5,246

Other comprehensive (loss) income:

Net unrealized holding (losses) gains on securities:

Unrealized holding (losses) gains arising during the period

(6,263
)

(1,315
)

(4,948
)

2,931

997

1,934

Reclassification adjustment for gains included in net income

(3
)

(1
)

(2
)

(864
)

(294
)

(570
)
Other comprehensive income

(6,266
)

(1,316
)

(4,950
)

2,067

703

1,364

Total comprehensive (loss) income

$
660

$
(187
)

$
847

$
9,280

$
2,670

$
6,610

	(in thousands - unaudited)
	2019						2018
Three months ended June 30,	Before tax amount		Tax expense (benefit)		Net of tax amount		Before tax amount			Tax expense (benefit)			Net of tax amount
Net income	$	3,822	$	679	$	3,143	$	3,434		$	572		$	2,862
Other comprehensive income (loss) :
Net unrealized holding gains (losses) on available-for-sale securities:
Unrealized holding gains (losses) arising during the period		4,097		861		3,236		(1,215	)		(255	)		(960	)
Reclassification adjustment for gains included in net income		—		—		—		(4	)		(1	)		(3	)
Other comprehensive income (loss)		4,097		861		3,236		(1,219	)		(256	)		(963	)
Total comprehensive income (loss)	$	7,919	$	1,540	$	6,379	$	2,215		$	316		$	1,899


Six months ended June 30,	2019						2018
	Before tax amount		Tax expense (benefit)		Net of tax amount		Before tax amount			Tax expense (benefit)			Net of tax amount
Net income	$	8,018	$	1,496	$	6,522	$	6,926		$	1,129		$	5,797
Other comprehensive income:
Net unrealized holding gains (losses) on available-for-sale securities:
Unrealized holding gains (losses) arising during the period		8,488		1,783		6,705		(6,263	)		(1,315	)		(4,948	)
Reclassification adjustment for losses (gains) included in net income		39		8		31		(3	)		(1	)		(2	)
Other comprehensive income (loss)		8,527		1,791		6,736		(6,266	)		(1,316	)		(4,950	)
Total comprehensive income (loss)	$	16,545	$	3,287	$	13,258	$	660		$	(187	)	$	847

The accompanying notes are an integral part of the consolidated financial statements

										Accumulated																		Accumulated
	Number of									Other									Number of									Other
(unaudited)	Shares		Common				Retained			Comprehensive			Treasury						Shares		Common				Retained			Comprehensive			Treasury
(in thousands, except share and per share data)	Outstanding		Stock		Surplus		Earnings			Loss			Stock			Total			Outstanding		Stock		Surplus		Earnings			Income (Loss)			Stock			Total
Balance, December 31, 2017		3,448,108	$	2,258	$	18,691	$	84,183		$	(4,086	)	$	(2,476	)	$	98,570
Balance, April 1, 2019																				3,493,935	$	2,286	$	20,319	$	93,863		$	(3,632	)	$	(2,476	)	$	110,360
Net income																						—		—		3,143			—			—			3,143
Other comprehensive income, net of tax																						—		—		—			3,236			—			3,236
Cash dividends declared ($0.33 per share)																						—		—		(1,154	)		—			—			(1,154	)
Stock issued in connection with dividend reinvestment and stock purchase plan																				5,644		4		194		—			—			—			198
Stock issued for employee stock purchase plan																				1,617		1		53		—			—			—			54
Stock issued for options exercised																				250		—		8		—			—			—			8
Stock-based compensation expense																						—		33		—			—			—			33
Balance, June 30, 2019																				3,501,446	$	2,291	$	20,607	$	95,852		$	(396	)	$	(2,476	)	$	115,878


																												Accumulated
																			Number of									Other
(unaudited)																			Shares		Common				Retained			Comprehensive			Treasury
(in thousands, except share and per share data)																			Outstanding		Stock		Surplus		Earnings			Income (Loss)			Stock			Total
Balance, April 1, 2018																				3,454,016	$	2,262	$	18,778	$	86,564		$	(8,624	)	$	(2,476	)	$	96,504
Net income				—		—		5,797			—			—			5,797					—		—		2,862			—			—			2,862
Other comprehensive loss, net of tax				—		—		—			(4,950	)		—			(4,950	)				—		—		—			(963	)		—			(963	)
Cash dividends declared ($0.64 per share)				—		—		(2,212	)		—			—			(2,212	)
Equity securities fair value reclassification⁽¹⁾								(254	)		254						—
ASU 2018-02 stranded tax reclassification⁽²⁾								805			(805	)					—
Cash dividends declared ($0.32 per share)																						—		—		(1,107	)		—			—			(1,107	)
Stock issued in connection with dividend reinvestment and stock purchase plan		9,934		6		423		—			—			—			429			9,934		6		423		—			—			—			429
Stock issued for employee stock purchase plan		1,426		1		56		—			—			—			57			1,426		1		56		—			—			—			57
Stock issued for options exercised		6,000		4		65		—			—			—			69			92		—		—		—			—			—			—
Stock-based compensation expense				—		58		—			—			—			58					—		36		—			—			—			36
Balance, June 30, 2018		3,465,468	$	2,269	$	19,293	$	88,319		$	(9,587	)	$	(2,476	)	$	97,818			3,465,468	$	2,269	$	19,293	$	88,319		$	(9,587	)	$	(2,476	)	$	97,818
⁽¹⁾Refer to Note 2, ASU 2016-01
⁽²⁾Refer to Note 2, ASU 2018-02

Six months ended June 30, 2019 and 2018

										Accumulated
	Number of									Other
(unaudited)	Shares		Common				Retained			Comprehensive			Treasury
(in thousands, except share and per share data)	Outstanding		Stock		Surplus		Earnings			Income (Loss)			Stock			Total
Balance, January 1, 2019		3,484,080	$	2,280	$	20,041	$	91,635		$	(7,132	)	$	(2,476	)	$	104,348
Net income				—		—		6,522			—			—			6,522
Other comprehensive income, net of tax				—		—		—			6,736			—			6,736
Cash dividends declared ($0.66 per share)				—		—		(2,305	)		—			—			(2,305	)
Stock issued in connection with dividend reinvestment and stock purchase plan		12,290		8		425		—			—			—			433
Stock issued for employee stock purchase plan		1,617		1		53		—			—			—			54
Stock issued for options exercised		3,459		2		28		—			—			—			30
Stock-based compensation expense				—		60		—			—			—			60
Balance, June 30, 2019		3,501,446	$	2,291	$	20,607	$	95,852		$	(396	)	$	(2,476	)	$	115,878


										Accumulated
	Number of									Other
(unaudited)	Shares		Common				Retained			Comprehensive			Treasury
(in thousands, except share and per share data)	Outstanding		Stock		Surplus		Earnings			Income (Loss)			Stock			Total
Balance, January 1, 2018		3,448,108	$	2,258	$	18,691	$	84,183		$	(4,086	)	$	(2,476	)	$	98,570
Net income				—		—		5,797			—			—			5,797
Other comprehensive loss, net of tax				—		—		—			(4,950	)		—			(4,950	)
Cash dividends declared ($0.64 per share)				—		—		(2,212	)		—			—			(2,212	)
Equity securities fair value reclassification⁽¹⁾								(254	)		254						—
ASU 2018-02 stranded tax reclassification⁽²⁾								805			(805	)					—
Stock issued in connection with dividend reinvestment and stock purchase plan		9,934		6		423		—			—			—			429
Stock issued for employee stock purchase plan		1,426		1		56		—			—			—			57
Stock issued for options exercised		6,000		4		65		—			—			—			69
Stock-based compensation expense				—		58		—			—			—			58
Balance, June 30, 2018		3,465,468	$	2,269	$	19,293	$	88,319		$	(9,587	)	$	(2,476	)	$	97,818
(1) Refer to Note 1, ASU 2016-01
(2) Refer to Note 1, ASU 2018-02

The accompanying notes are an integral part of the consolidated financial statements.

	(in thousands, unaudited)						(in thousands, unaudited)
Six months ended June 30,	2018			2017			2019			2018
Operating Activities
Net income	$	5,797		$	5,246		$	6,522		$	5,797
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		436			403			808			436
Provision for loan losses		375			600			375			375
Net gain on sales of debt and equity securities		(133	)		(864	)		(590	)		(133	)
Net unrealized loss on equity securities		205			—
Net unrealized (gain) loss on equity securities								(571	)		205
Net gain on sale of other real estate owned, repossessed assets and premises and equipment		(1	)		(1	)		(58	)		(1	)
Net gain on sale of loan held for investment		—			(99	)
Net gain on sale of loans		(44	)		(152	)		(49	)		(44	)
Proceeds from sales of residential mortgages held-for-sale		1,949			4,675			1,864			1,949
Origination of residential mortgages held-for-sale		(2,309	)		(4,264	)		(1,815	)		(2,309	)
Income on bank-owned life insurance		(137	)		(191	)
Increase in cash surrender value of bank-owned life insurance								(138	)		(137	)
Stock-based compensation expense		58			51			60			58
Net decrease in trading securities		—			3,596
Deferred income tax provision		110			130			405			110
Net increase in income taxes payable		(294	)		(601	)
Net (increase) decrease in accrued interest receivable		(28	)		622
Net increase (decrease) in income taxes payable								172			(294	)
Net increase in accrued interest receivable								(1,110	)		(28	)
Amortization of mortgage servicing rights and change in valuation allowance		31			47			25			31
Net amortization of premiums and discounts on investment securities		740			839			699			740
Net decrease in accrued interest payable		(13	)		(37	)
Net increase (decrease) in accrued interest payable								150			(13	)
Operating lease payments								(282	)		—
Increase in other assets		(388	)		(1,203	)		(881	)		(388	)
(Decrease) increase in other liabilities		(260	)		36
Decrease in other liabilities								(591	)		(260	)
Net cash provided by operating activities		6,094			8,833			4,995			6,094
Investing Activities
Proceeds from payments, maturities and calls of debt securities available-for-sale		22,380			27,255
Proceeds from the sale of debt securities available-for-sale		4,159			19,358
Proceeds from payments, maturities and calls of investments available-for-sale								21,419			22,380
Proceeds from the sale of investments available-for-sale								20,783			4,159
Proceeds from the sale of equity securities		1,390			5,262			4,520			1,390
Purchases of debt securities available-for-sale		(3,166	)		(40,602	)
Purchases of investments available-for-sale								(37,919	)		(3,166	)
Purchases of equity securities		(6,090	)		(3,868	)		(798	)		(6,090	)
Proceeds from redemption of investment in restricted bank stock		4,505			2,977
Purchase of restricted stock		(5,672	)		(3,934	)
Proceeds from sale of loan held for investment		—			99
Proceeds from redemption of investment in restricted stock								4,600			4,505
Purchases of restricted stock								(5,675	)		(5,672	)
Net increase in loans		(46,627	)		(62,093	)		(32,190	)		(46,627	)
Net purchases of premises and equipment		(1,590	)		(241	)		(634	)		(1,590	)
Redemption of bank-owned life insurance		—			752
Proceeds from sales of other real estate owned and repossessed assets		1			1			58			1
Net cash used in investing activities		(30,710	)		(55,034	)		(25,836	)		(30,710	)
Financing Activities
Net increase in non-interest bearing deposits		6,270			1,359			20,976			6,270
Net (decrease) increase in interest-bearing deposits		(14,492	)		36,600
Net decrease in interest-bearing deposits								(5,913	)		(14,492	)
Net increase in short-term borrowings		29,890			14,247			8,176			29,890
Cash dividends paid, net of reinvestment		(1,927	)		(1,858	)		(2,031	)		(1,927	)
Proceeds from issuance of common stock		270			380			243			270
Net cash provided by financing activities		20,011			50,728			21,451			20,011
(Decrease) increase in cash and cash equivalents		(4,605	)		4,527
Increase (decrease) in cash and cash equivalents								610			(4,605	)
Cash and cash equivalents at beginning of year		16,331			10,721			13,458			16,331
Cash and cash equivalents at end of period	$	11,726		$	15,248		$	14,068		$	11,726
Supplemental Cash Flow Disclosures
Interest paid	$	3,593		$	2,627		$	4,904		$	3,593
Income taxes paid		1,313			2,434			920			1,313
Non-cash transactions:
Unsettled trades to purchase securities		—			(2,598	)
Right-of-use assets obtained in exchange for new operating lease liabilities								501			—

The accompanying notes are an integral part of the consolidated financial statements

The accompanying unaudited consolidated financial statements include the accounts of QNB Corp. and its wholly-owned subsidiary, QNB Bank (the “Bank”). The consolidated entity is referred to herein as “QNB” or the “Company”. All significant intercompany accounts and transactions are eliminated in the consolidated financial statements.

These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in QNB's ~~2017~~2018 Annual Report incorporated in the Form 10-K. Operating results for the three- and six-month ~~period~~periods ended June 30, ~~2018~~2019 are not necessarily indicative of the results that may be expected for the year ending December 31, ~~2018.~~2019.

The unaudited consolidated financial statements reflect all adjustments which, in the opinion of management, are necessary for a fair presentation of the results of operations for the period and are of a normal and recurring nature.

Tabular information, other than share and per share data, is presented in thousands of dollars.

In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities at the dates of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from such estimates.

QNB has evaluated events and transactions occurring subsequent to the balance sheet date of June 30, ~~2018,~~2019, for items that should potentially be recognized or disclosed in these consolidated financial statements.

QNB adopted ~~ASU 2016-01,~~ ~~Financial Instruments – Overall~~ ~~(Subtopic 825-10):~~ ~~Recognition and Measurement of Financial Assets and Financial Liabilities,~~ ~~effective January 1, 2018. This ASU was issued by the~~ Financial Accounting Standards Board (FASB) ~~on January 5, 2016 to enhance the reporting model for financial instruments to address certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. The FASB~~ issued ~~ASU 2018-03 in February 2018 which provides technical corrections and Improvements to ASU 2016-01. QNB adopted the applicable requirements under these ASUs as follows:~~

QNB used the modified retrospective method for transition in which the cumulative effect will be recognized at the date of adoption with no restatement of comparative periods presented. QNB reclassified a net loss of $254,000 from accumulated other comprehensive loss to retained earnings on January 1, 2018. Based on an evaluation of our deferred tax asset and considering the effect of the new guidance, management believes that deferred tax assets related to AFS debt securities are realizable and no valuation allowance would be required. Management believes the potential effect of using exit versus entry price is most relevant for fair value disclosures of loans, which considers the impact of credit risk on fair value.

On December 22, 2017, the Tax Cuts and Jobs Act of 2017 (2017 Tax Reform Act) was enacted into law. The 2017 Tax Reform Act made significant changes to U.S. corporate income tax laws including a decrease in the corporate income tax rate from 35% to 21% effective January 1, 2018. The Company recorded less tax expense for the three and six months periods of 2018 than in the

comparable periods of 2017, with effective tax rates of 16.7% in 2018 compared to 26.2% in 2017 for the three months and 16.3% in 2018 compared to 27.3% in 2017 for the six months, primarily a result of the 2017 Tax Reform Act.

~~QNB adopted ASU 2018-02,~~ ~~Income Statement—Reporting Comprehensive Income (Topic 202)~~ ~~during the first quarter of 2018. The amendments in this ASU, issued by the FASB on February 2, 2018, affect any entity that is required to apply the provisions of Topic 220,~~ ~~Income Statement—Reporting Comprehensive Income~~, and has items of other comprehensive income for which the related tax effects are presented in other comprehensive income as required by GAAP. The amendments in this ASU allow a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the 2017 Tax Reform Act and eliminates the stranded tax effects resulting from the 2017 Tax Reform Act. The Company chose to early adopt the amendments in this update as permitted. QNB reclassified $805,000 from accumulated other comprehensive loss to retained earnings in the consolidated statement of shareholders’ equity during the first quarter of 2018.

~~QNB adopted~~ Accounting ~~Standards~~Statement Update (ASU) ~~2014-09,~~ ~~Revenue from Contracts with Customers~~ (Topic 606) (ASC 606), effective January 1, 2018. Under ASU 2014-09, revenue is recognized when a customer obtains control of promised services in an amount that reflects the consideration the entity expects to receive in exchange for those services. In addition, the standard requires disclosure of the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. QNB applied the five-step method outlined in ASU 2014-09 to all revenue streams scoped-in by the ASU and elected the modified retrospective implementation method. Substantially all of QNB’s interest income and non-interest income were not impacted by the adoption of this ASU because either the revenue from those contracts with customers is covered by other guidance in U.S. GAAP or the revenue recognition outcomes were similar to our current revenue recognition practices. We reviewed non-interest sources of income and related contracts to document the impact of the new standard on our service offerings that are in the scope of the ASU including: service charges on deposits; ATM and debit card income; retail brokerage and advisory fees; merchant income; credit card income; sale of checks to depositors; miscellaneous fees; and sale of OREOs. Upon our analysis we concluded that the adoption of ASC 606 did not change the timing and pattern of revenue recognition related to scoped in non-interest income sources and only required additional disclosures. In addition, we reviewed, and where necessary, enhanced our business processes, systems and controls to support recognition and disclosures under the new standard.

The implementation of the guidance had no material impact on the measurement or recognition of revenue of prior periods, however, additional disclosures have been added in accordance with the ASU which can be found in Note 12 – Revenue Recognition from Contracts with Customers.

~~On February 25, 2016, the FASB issued ASU~~ 2016-02, Leases (Topic 842).effective January 1, 2019. This new standard on accounting for leases ~~introduces~~introduced a lessee model that brings most leases on the balance sheet but recognizes expenses in the income statement similar to how items are recorded today. The new standard eliminates the requirement in current ~~U.S. GAAP~~generally accepted accounting principles in the United States (U.S. GAAP) for an entity to use bright-line tests in determining lease classification. The ASU also eliminates the current real estate-specific provisions and changes the guidance on sale-leaseback transactions, initial direct costs and lease executory costs for all entities. All entities will classify leases to determine how to recognize the related revenue and expense and this classification will affect amounts that lessors record on the balance sheet.

QNB applied the new standard to all new contracts initiated on or after the effective date; and, for contracts which have remaining obligations as of the effective date. There was no adjustment needed to the opening balance of QNB’s retained earnings account at January 1, 2019. The ~~new guidance will be effective for public companies for annual periods beginning after December 15, 2018, and interim periods therein. Early adoption is permitted. QNB does not expect~~discount rates used in determining the ~~adoption~~initial value of ~~ASU 2016-02 to have a material impact~~the right of use assets were based on the ~~consolidated statements.~~FHLB Amortizing Fixed Loan Rate for the remaining term of each lease at January 1, 2019. These rates ranged from 2.62% to 3.46%. QNB typically enters into lease agreements with an initial term of 5 to 10 years and subsequent additional optional terms in increments of 5 years. The lease agreements also contain termination options. None of the leases contain purchase options and none transfer the ownership of the leased asset. QNB has renewed one operating lease and entered into one new operating lease that both began during the second quarter of 2019. QNB also entered into an operating lease that it anticipates will begin during the fourth quarter of 2019.

The right-of-use assets under the operating leases are included within “Premises and equipment, net” and the operating lease liabilities are included with “Other liabilities” on the Consolidated Balance Sheets. All operating lease costs are included in non-interest expense within “Net occupancy” on the Consolidated Statements of Income. The following table summarized the quantitative attributes of QNB’s operating leases.

A maturity analysis of the operating lease liabilities and reconciliation of the undiscounted cash flows to the total operating lease liability is as follows:

On June 16, 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326). The new guidance requires organizations to measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts.

The new guidance affects organizations that hold financial assets and net investments in leases that are not accounted for at fair value with changes in fair value reported in net income. The new guidance affects loans, debt securities, trade receivables, net investments in leases, off-balance-sheet credit exposures, reinsurance receivables, and any other financial assets not excluded from the scope that have the contractual right to receive cash.

For public business entities that are U.S. Securities and Exchange Commission (SEC) filers, the new guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. Early application will be permitted for all organizations for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. QNB is evaluating the impact of this new standard on its consolidated financial statements.

~~On March 30, 2017, the FASB issued ASU 2017-08,~~ ~~Premium Amortization on Purchased Callable Debt Securities~~. This ASU is intended to enhance the accounting for the amortization of premiums for purchased callable debt securities and will require premiums to be amortized to the earliest call date. For public companies, the ASU is effective for annual reporting periods beginning after December 15, 2018, including interim periods within those annual reporting periods. QNB does not anticipate this new standard will have a material impact on its consolidated financial statements as it already uses the earliest call date to amortize premiums on callable debt securities.

QNB sponsors stock-based compensation plans, administered by a Board committee (the Committee), under which both qualified and non-qualified stock options may be granted periodically to certain employees. Compensation cost has been measured using the fair value of an award on the grant date and is recognized over the service period, which is usually the vesting period.

Stock-based compensation expense was ~~$36,000~~$33,000 and ~~$33,000~~$36,000 for the three months ended June 30, ~~2018~~2019 and ~~2017,~~2018, respectively. Stock-based compensation expense was ~~$58,000~~$60,000 and ~~$51,000~~$58,000 for the six months ended June 30, ~~2018~~2019 and ~~2017,~~2018, respectively. As of June 30, ~~2018,~~2019, there was approximately ~~$161,000~~$154,000 of unrecognized compensation cost related to unvested share-based compensation award grants that is expected to be recognized over the next 32 months.

Options are granted to certain employees at prices equal to the market value of the stock on the date the options are granted. The 2005 Plan authorized the issuance of 200,000 shares. The time period during which any option is exercisable under the 2005 Plan is determined by the Committee but shall not commence before the expiration of six months after the date of grant or continue beyond the expiration of five years after the date the option is awarded. The granted options vest after a three-year period. As of June 30, ~~2018,~~2019, there were 184,200 options granted, 65,850 options forfeited, ~~91,825~~103,950 options exercised, and ~~26,525~~14,400 options outstanding under this Plan. The 2005 Plan expired on March 15, 2015.

The 2015 Plan authorizes the issuance of 300,000 shares. The terms of the 2015 Plan are identical to the 2005 Plan. There were ~~73,500~~98,200 options granted, 2,600 options forfeited, 250 options exercised and 95,350 options outstanding under ~~this~~the 2015 Plan as of June 30, ~~2018. There were 1,100 options forfeited and no options exercised as of June 30, 2018.~~2019. The 2015 Plan expires on February 24, 2025.

The fair value of each option is amortized into compensation expense on a straight-line basis between the grant date for the option and each vesting date. QNB estimated the fair value of stock options on the date of the grant using the Black-Scholes option pricing model. The model requires the use of ~~numerous assumptions, many of which are highly subjective in nature.~~

The following assumptions were used in the option pricing model in determining the fair value of options granted during the period:

Six months ended June 30,	2018			2017			2019			2018
Risk free interest rate		2.15	%		1.48	%		2.52	%		2.15	%
Dividend yield		1.24	%		3.19	%		3.36	%		1.24	%
Volatility		18.12	%		17.89	%		16.44	%		18.12	%
Expected life (years)		4.20			4.20			4.17			4.20

The risk-free interest rate was selected based upon yields of U.S. Treasury ~~issues~~securities with a term approximating the expected life of the option being valued. Historical information was the ~~primary~~ basis for the selection of the expected dividend yield, expected volatility and expected lives of the options.

~~The fair market value of options granted in the first six months of 2018 and 2017 was $5.29 and $3.88, respectively.~~

~~Stock option activity during the six months ended June 30, 2018 and 2017 is as follows:~~

The fair market value of options granted in the six months of 2019 and 2018 was $3.96 and $5.29, respectively.

Stock option activity during the six months ended June 30, 2019 and 2018 is as follows:

The following sets forth the computation of basic and diluted earnings per share:

	Three months ended June 30,				Six months ended June 30,				Three months ended June 30,				Six months ended June 30,
	2018		2017		2018		2017		2019		2018		2019		2018
Numerator for basic and diluted earnings per share - net income	$	2,862	$	2,386	$	5,797	$	5,246	$	3,143	$	2,862	$	6,522	$	5,797
Denominator for basic earnings per share - weighted average shares outstanding		3,460,360		3,425,356		3,456,467		3,420,239		3,494,620		3,460,360		3,490,724		3,456,467
Effect of dilutive securities - employee stock options		20,952		17,852		20,407		16,027		7,491		20,952		7,333		20,407
Denominator for diluted earnings per share - adjusted weighted average shares outstanding		3,481,312		3,443,208		3,476,874		3,436,266		3,502,111		3,481,312		3,498,057		3,476,874
Earnings per share - basic	$	0.83	$	0.70	$	1.68	$	1.53	$	0.90	$	0.83	$	1.87	$	1.68
Earnings per share - diluted		0.82		0.69		1.67		1.53		0.90		0.82		1.86		1.67

There were 73,150 and 25,000 stock options that were anti-dilutive for ~~both three-~~the three-month periods ended June 30, 2019 and 2018, respectively. There were 73,150 and 25,000 stock options that were anti-dilutive for the six-month periods ended June 30, 2019 and 2018, ~~and 2017.~~respectively. These stock options were not included in the above calculation.

~~The~~QNB’s current stock repurchase plan was approved by the Board of Directors on January 21, 2008 and subsequently increased on February 9. 2009 and has authorized the repurchase of up to 100,000 shares of its common stock in open market or privately negotiated transactions. The repurchase authorization does not bear a termination date. There were no shares repurchased during the ~~three and~~ six months ended June 30, ~~2018~~2019 and ~~2017.~~2018. As of June 30, ~~2018,~~2019, 57,883 shares were repurchased under this authorization at an average price of $16.97 and a total cost of $982,000.

The following shows the components of accumulated other comprehensive income (loss) at June 30, ~~2018~~2019 and December 31, ~~2017:~~2018:

	June 30,			December 31,			June 30,			December 31,
	2018			2017			2019			2018
Unrealized net holding losses on available-for-sale securities	$	(12,130	)	$	(6,165	)	$	(501	)	$	(9,028	)
Unrealized losses on available-for-sale securities for which a portion of an other-than-temporary impairment loss has been recognized in earnings		(5	)		(26	)		—			—
Accumulated other comprehensive loss		(12,135	)		(6,191	)		(501	)		(9,028	)
Tax effect		2,548			1,300			105			1,896
Stranded tax effect (1)		—			805
Accumulated other comprehensive loss, net of tax	$	(9,587	)	$	(4,086	)	$	(396	)	$	(7,132	)
(1) Refer to Note 2, ASU 2018-02

The following tables present amounts reclassified out of accumulated other comprehensive income (loss) for the three and six months ended June 30, ~~2018~~2019 and ~~2017:~~2018:

Three months ended June 30,	Amount reclassified from accumulated other comprehensive loss							Amount reclassified from accumulated other comprehensive loss
Details about accumulated other comprehensive loss	2018			2017			Affected line item in statement of income	2019		2018			Affected line item in statement of income
Unrealized net holding gains on available-for-sale securities	$	2		$	115		Net gain on sale of investment securities
Unrealized net holding gain on available-for-sale securities								$	—	$	4		Net gain on sale of investment securities
Other-than-temporary impairment losses on investment securities		—			—		Net other-than-temporary impairment losses on investment securities		—		—		Net other-than-temporary impairment losses on investment securities
		2			115				—		4
Tax effect		(1	)		(40	)	Provision for income taxes		—		(1	)	Provision for income taxes
Total reclass out of accumulated other comprehensive income, net of tax	$	1		$	75		Net of tax
Total reclass out of accumulated other comprehensive income (loss), net of tax								$	—	$	3		Net of tax

QNB engaged in trading activities for its own account. Municipal securities that were held principally for resale in the near term were recorded in the trading account at fair value with changes in fair value recorded in non-interest income. During the second quarter of 2017, QNB Bank redeemed the trading securities portfolio, as lack of volatility and the interest rate environment resulted in the declined performance of the portfolio. The net realized gains were $27,000 for the six months ended June 30, 2017. Interest and dividends were included in interest income.

The amortized cost and estimated fair values of investment ~~debt~~ securities available-for-sale ~~and equity securities~~ at June 30, ~~2018~~2019 and December 31, ~~2017~~2018 were as follows:

			Gross		Gross							Gross		Gross
			unrealized		unrealized							unrealized		unrealized
	Fair		holding		holding			Amortized		Fair		holding		holding			Amortized
June 30, 2018	value		gains		losses			cost
June 30, 2019										value		gains		losses			cost
U.S. Treasury										$	3,467	$	—	$	—		$	3,467
U.S. Government agency	$	69,495	$	—	$	(2,982	)	$	72,477		67,773		8		(226	)		67,991
State and municipal		70,952		236		(662	)		71,378		53,587		704		(26	)		52,909
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed		127,426		95		(5,214	)		132,545		136,652		453		(1,182	)		137,381
Collateralized mortgage obligations (CMOs)		71,257		11		(3,525	)		74,771		78,009		342		(675	)		78,342
Pooled trust preferred		118		—		(5	)		123		108		—		(13	)		121
Corporate debt		4,946		14		(103	)		5,035		8,132		126		(12	)		8,018
Equity		9,600		360		(887	)		10,127
Total investment debt securities available-for-sale and equity securities	$	353,794	$	716	$	(13,378	)	$	366,456
Total investment debt securities available-for-sale										$	347,728	$	1,633	$	(2,134	)	$	348,229

			Gross		Gross							Gross		Gross
			unrealized		unrealized							unrealized		unrealized
	Fair		holding		holding			Amortized		Fair		holding		holding			Amortized
December 31, 2017	value		gains		losses			cost
December 31, 2018										value		gains		losses			cost
U.S. Government agency	$	70,524	$	—	$	(1,948	)	$	72,472	$	68,409	$	—	$	(2,072	)	$	70,481
State and municipal		76,804		717		(113	)		76,200		66,313		195		(464	)		66,582
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed		142,703		195		(2,401	)		144,909		125,913		79		(4,251	)		130,085
Collateralized mortgage obligations (CMOs)		76,302		29		(2,292	)		78,565		75,491		87		(2,549	)		77,953
Pooled trust preferred		215		—		(26	)		241		116		—		(6	)		122
Corporate debt		8,022		6		(37	)		8,053		7,979		33		(80	)		8,026
Equity		4,975		28		(349	)		5,296
Total investment debt securities available-for-sale and equity securities	$	379,545	$	975	$	(7,166	)	$	385,736
Total investment debt securities available-for-sale										$	344,221	$	394	$	(9,422	)	$	353,249

The amortized cost and estimated fair value of ~~debt~~ securities available-for-sale by contractual maturity at June 30, ~~2018~~2019 are shown in the following table. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Securities are assigned to categories based on contractual maturity except for mortgage-backed securities and CMOs which are based on the estimated average life of these securities and municipal securities that have been pre-refunded.

			Amortized
June 30, 2018	Fair value		cost
June 30, 2019					Fair value		Amortized cost
Due in one year or less	$	6,938	$	6,922	$	10,069	$	10,051
Due after one year through five years		185,003		191,920		270,673		271,831
Due after five years through ten years		131,117		135,913		41,475		41,297
Due after ten years		21,136		21,574		25,511		25,050
Total investment debt securities available-for-sale	$	344,194	$	356,329	$	347,728	$	348,229

Proceeds from sales of investment ~~debt~~ securities available-for-sale were approximately ~~$1,756,000~~$9,591,000 and ~~$9,872,000~~$1,756,000 for the three months ended June 30, 2019 and 2018, ~~and 2017,~~ respectively. Proceeds from sales of investment ~~equity securities were approximately $678,000 and $752,000 for the three months ended June 30, 2018 and 2017, respectively. Proceeds from sales of investment debt~~ securities available-for-sale were approximately ~~$4,159,000~~$20,783,000 and ~~$19,358,000~~$4,159,000 for the six months ended June 30, 2019 and 2018, ~~and 2017,~~ respectively. ~~Proceeds from sales of investment equity securities were approximately $1,390,000 and $5,262,000 for the six months ended June 30, 2018 and 2017, respectively.~~

At June 30, ~~2018~~2019 and December 31, ~~2017,~~2018, investment ~~debt~~ securities available-for-sale totaling approximately ~~$187,915,000~~$202,175,000 and ~~$202,887,000,~~$194,573,000, respectively, were pledged as collateral for repurchase agreements and deposits of public funds.

The following table presents information related to the Company’s gains and losses on the sales of ~~equity and debt~~ securities available-for-sale, and losses recognized for the other-than-temporary impairment (“OTTI”) of these investments. Gains and losses on available-for-sale securities are computed on the specific identification method and included in non-interest income. Gross realized losses on ~~equity and~~ debt securities are net of other-than-temporary impairment charges:

~~Tax~~The tax expense applicable to the net realized (losses)/gains for the three-month periods ended June 30, 2019 and 2018 was $0 and ~~2017 were a credit of $14,000 and $48,000,~~$1,000, respectively. ~~Tax expense~~The tax applicable to the net realized (losses)/gains for the six-month periods ended June 30, 2019 and 2018 were a benefit of $8,000 and ~~2017 were $38,000 and $350,000,~~an expense of $1,000, respectively.

QNB recognizes OTTI for debt securities classified as available-for-sale in accordance with FASB ASC 320, Investments – Debt and Equity Securities,, which requires that we assess whether we intend to sell or it is more likely than not that the Company will be required to sell a security before recovery of its amortized cost basis less any current-period credit losses. For debt securities that are considered other-than-temporarily impaired and that we do not intend to sell and will not be required to sell prior to recovery of our amortized cost basis, the amount of the impairment is separated into the amount that is credit related (credit loss component) and the amount due to all other factors. The credit loss component is recognized in earnings and is the difference between the security’s amortized cost basis and the present value of its expected future cash flows discounted at the security’s effective yield. The remaining difference between the security’s fair value and the present value of future expected cash flows is due to factors that are not credit related and, therefore, is not required to be recognized as a loss in the statement of income ~~statement~~ but is recognized in other comprehensive income. ~~For equity securities, once a decline in value is determined to be other-than-temporary, the value of the equity security is reduced to fair value and a corresponding charge to earnings is recognized.~~ QNB believes that we will fully collect the carrying value of securities on which we have recorded a non-credit related impairment in other comprehensive income. No credit impairments were recognized on debt securities during first six months ended June 30, 2019 and 2018, respectively.

The following table ~~presents~~indicates the length of time individual debt securities have been in a ~~roll forward of the credit~~continuous unrealized loss ~~component recognized in earnings. The credit loss component of the amortized cost represents the difference between the present value of expected future cash flows~~position at June 30, 2019 and ~~the amortized cost basis of the~~December 31, 2018:

security prior to considering credit losses. The beginning balance represents the credit loss component for debt securities for which OTTI occurred prior to the beginning of the year. Credit-impaired debt securities must be presented in two components based upon whether the current period is the first time the debt security was credit-impaired (initial credit impairment) or is not the first time the debt security was credit-impaired (subsequent credit impairments). No credit impairments were recognized on debt securities during first six months of 2018 or 2017. The table presents a summary of the cumulative credit-related other-than-temporary impairment charges recognized as components of earnings for debt securities still held by QNB:

~~The following table indicates the length of time individual securities have been in a continuous unrealized loss position at June 30, 2018 and December 31, 2017:~~


			Less than 12 months					12 months or longer					Total							Less than 12 months					12 months or longer					Total
	No. of		Fair		Unrealized			Fair		Unrealized			Fair		Unrealized			No. of		Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
December 31, 2017	securities		value		losses			value		losses			value		losses
December 31, 2018																		securities		value		losses			value		losses			value		losses
U.S. Government agency		53	$	10,828	$	(155	)	$	59,696	$	(1,793	)	$	70,524	$	(1,948	)		51	$	—	$	—		$	68,409	$	(2,072	)	$	68,409	$	(2,072	)
State and municipal		37		10,577		(49	)		4,446		(64	)		15,023		(113	)		81		21,657		(204	)		10,558		(260	)		32,215		(464	)
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed		99		61,069		(705	)		72,318		(1,696	)		133,387		(2,401	)		111		12,561		(91	)		108,802		(4,160	)		121,363		(4,251	)
Collateralized mortgage obligations (CMOs)		70		21,660		(349	)		52,833		(1,943	)		74,493		(2,292	)		73		433		(1	)		62,467		(2,548	)		62,900		(2,549	)
Pooled trust preferred		1		—		—			215		(26	)		215		(26	)		1		—		—			116		(6	)		116		(6	)
Corporate debt		4		3,018		(20	)		988		(17	)		4,006		(37	)		4		—		—			3,947		(80	)		3,947		(80	)
Equity		11		2,727		(277	)		275		(72	)		3,002		(349	)
Total		275	$	109,879	$	(1,555	)	$	190,771	$	(5,611	)	$	300,650	$	(7,166	)		321	$	34,651	$	(296	)	$	254,299	$	(9,126	)	$	288,950	$	(9,422	)

Management evaluates debt securities, which are comprised of U.S Treasury securities, U.S. Government agencies, state and municipalities, mortgage-backed securities, CMOs and corporate debt securities, for other-than-temporary impairment and considers the current economic conditions, the length of time and the extent to which the fair value has been less than cost, interest rates and the bond rating of each security. The unrealized losses at June 30, ~~2018~~2019 in U.S. Treasury securities, U.S. Government agency securities, state and municipal securities, mortgage-backed securities,

CMOs and corporate debt securities are primarily the result of interest rate fluctuations. If held to maturity, these bonds will mature at par, and QNB will not realize a loss. The Company has the intent to hold the securities and does not believe it will be required to sell the securities before recovery occurs.

The Company’s investment in marketable equity securities primarily consists of investments in large cap stock companies. These equity securities are analyzed for impairment on an ongoing basis. Management believes these equity securities will recover in the foreseeable future. QNB evaluated the near-term prospects of the issuers in relation to the severity and duration of the impairment. Based on that evaluation and the Company’s ability and intent to hold those securities for a reasonable period of time sufficient for a forecasted recovery of fair value, the Company does not consider these equity securities to be other-than-temporarily impaired.

QNB holds one pooled trust preferred security as of June 30, ~~2018.~~2019. This security has a total amortized cost of approximately ~~$123,000~~$121,000 and a fair value of ~~$118,000.~~$108,000. The pooled trust preferred security is available-for-sale ~~securities~~ and is carried at fair value.

The Company’s investment in equity securities primarily consists of investments with readily determinable fair values in large cap stock companies. Changes in fair value is recorded in unrealized gain/(losses) in non-interest income.

At June 30, 2019 and December 31, 2018, the Company had $6,898,000 and $9,421,000, respectively, in equity securities recorded at fair value. The following ~~table provides additional information related to the pooled trust preferred security (PreTSL) as~~is a summary of ~~June 30, 2018:~~

~~Mezzanine* - only class of bonds still outstanding (represents the senior-most obligation of the trust)~~

~~In June 2017, QNB Bank sold five non-performing pooled trust preferred securities, with $2,235,000 carrying value, recording a loss~~unrealized and realized gains and losses recognized in net income on sale of $15,000, included in non-interest income in the quarter ended June 30, 2017 consolidated statement of income. Several years ago, QNB had recorded $1,152,000 in OTTI for four of these five bonds, and subsequently applied any cashflow received to the balance of these non-performing, nonaccrual assets. Improvement in market prices for theseequity securities during the ~~second quarter 2017 reduced realized losses, and the reduction of approximately $19,000,000 in risk-based assets required for the bonds drove the decision to redeem these debt securities.~~

On a quarterly basis we evaluate our debt securities for OTTI, which involves the use of a third-party valuation firm to assist management with the valuation. When evaluating these investments, a credit-related portion and a non-credit related portion of impairment are determined. The credit-related portion is recognized in earnings and represents the expected shortfall in future cash flows. The non-credit related portion is recognized in other comprehensive income and represents the difference between the book value and the fair value of the security less any current quarter credit related impairment. For the quarterthree and six months ended June 30, ~~2018~~2019 and 2017, no other-than-temporary impairment charges representing credit impairment were recognized on our pooled trust preferred collateralized debt obligations. A discounted cash flow analysis provides the best estimate of credit related OTTI for these securities. Additional information related to this analysis follows.2018:

PreTSL IV is rated lower than AA and measured for OTTI within the scope of ASC 325 (formerly known as EITF 99-20), Recognition of Interest Income and Impairment on Purchased Beneficial Interests and Beneficial Interests That Continue to be Held by a Transferor in Securitized Financial Assets, and Amendments

Tax expense applicable to the ~~Impairment Guidance of EITF Issue No. 99-20 (formerly known as EITF 99-20-1). In addition to discounted cash-flows, QNB considers trends in~~net realized gains for the financial performance ratios of the bond’s underlying issuers, as well as the bond’s structure (QNB holds the senior-most obligation of the trust for PreTSL IV), determining there is little likelihood of default. In determining whether a credit loss exists, QNB uses its best estimate of the present value of cash flows expected to be collected from the debt securitythree months ended June 30, 2019 and discounts them at the effective yield implicit in the security at the date of acquisition or the prospective yield for those securities with prior OTTI charges. Lack of liquidity in the market for trust preferred collateralized debt obligations contributedJune 30, 2018 was $52,000 and $25,000, respectively. Tax applicable to the ~~temporary impairment~~net realized gains (losses) for the six months ended June 30, 2019 were an expense of ~~this security. Although classified as available-for-sale,~~$347,000 and for the ~~Company has~~six months ended June 30, 2018 a benefit of $22,000. Proceeds from sales of investment equity securities were approximately $4,162,000 and $678,000 for the ~~intent to hold PreTSL IV~~three months ended June 30, 2019 and ~~does not believe it will be required to sell it before recovery occurs. QNB could be subject to additional write-downs in~~2018, respectively. Proceeds from sales of investment equity securities were approximately $4,520,000 and $1,390,000 for the ~~future if additional deferrals~~six months ended June 30, 2019 and ~~defaults occur.~~ 2018, respectively.

Restricted investment in ~~stock~~stocks includes Federal Home Loan Bank of Pittsburgh (FHLB) with a carrying cost of ~~$2,656,000,~~$1,860,000, Atlantic Community Bankers Bank (ACBB) stock with a carrying cost of $12,000 and VISA Class B stock with a carrying cost of $0 at June 30, ~~2018.~~2019. FHLB and ACBB stock was issued to the Bank as a requirement to facilitate the Bank’s participation in borrowing and other banking services. The Bank’s investment in FHLB stock may fluctuate, as it is based on the member banks’ use of FHLB’s services.

The Bank owns 6,502 shares of Visa Class B stock, which was necessary to participate in Visa services in support of the Bank’s credit card, debit card, and related payment programs (permissible activities under banking regulations) as a member institution. Following the resolution of Visa’s covered litigation, shares of Visa’s Class B stock will be converted to Visa Class A shares using a conversion factor (1.6298 as of June ~~30,~~28, 2018), which is periodically adjusted to reflect VISA’s ongoing litigation costs. There is a very limited market for this stock, as only current owners of Class B shares are permitted to transact in Class B. Due to the lack of orderly trades and public information of such trades, Visa Class B does not have a readily determinable fair value.

These restricted investments are carried at cost and evaluated for OTTI periodically. As of June 30, ~~2018,~~2019, there was no OTTI associated with these shares.

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are stated at the principal amount outstanding, net of deferred loan fees and costs. Interest income is accrued on the principal amount outstanding. Loan origination and commitment fees and related direct costs are deferred and amortized to income over the term of the respective loan and loan commitment period as a yield adjustment.

Loans held-for-sale consists of residential mortgage loans that are carried at the lower of aggregate cost or fair value. Net unrealized losses, if any, are recognized through a valuation allowance charged to income. Gains and losses on residential mortgages held-for-sale are included in non-interest income.

QNB maintains an allowance for loan losses, which is intended to absorb probable known and inherent losses in the outstanding loan portfolio. The allowance is reduced by actual credit losses and is increased by the provision for loan losses and recoveries of previous losses. The provisions for loan losses are charged to earnings to bring the total allowance for loan losses to a level considered necessary by management.

The allowance for loan losses is based on management’s continuing review and evaluation of the loan portfolio. The level of the allowance is determined by assigning specific reserves to individually identified problem credits and general reserves to all other loans. For such loans that are also classified as impaired, an allowance is established when the discounted cash flows (or collateral value) of the impaired loan is lower than the carrying value of that loan. The portion of the allowance that is allocated to internally criticized and non-accrual loans is determined by estimating the inherent loss on each credit after giving consideration to the value of underlying collateral. The general component covers pools of loans by loan class including commercial loans not considered impaired, as well as smaller balance homogeneous loans, such as residential real estate, home equity and other consumer loans. These pools of loans are evaluated for loss exposure based upon historical loss rates. These loss rates are based on a three year history of charge-offs and are more heavily weighted for recent experience for each of these categories of loans, adjusted for qualitative factors. These qualitative risk factors include:

Each factor is assigned a value to reflect improving, stable or declining conditions based on management’s best judgment using relevant information available at the time of the evaluation.

An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.

Management emphasizes loan quality and close monitoring of potential problem credits. Credit risk identification and review processes are utilized in order to assess and monitor the degree of risk in the loan portfolio. QNB’s lending and credit administration staff are charged with reviewing the loan portfolio and identifying changes in the economy or in a borrower’s circumstances which may affect the ability to repay debt or the value of pledged collateral. A loan classification and review system exists that identifies those loans with a higher than normal risk of uncollectibility. Each commercial loan is assigned a grade based upon an assessment of the borrower’s financial capacity to service the debt and the presence and value of collateral for the loan. An independent firm reviews risk assessment and evaluates the adequacy of the allowance for loan losses. Management meets monthly to review the credit quality of the loan portfolio and quarterly to review the allowance for loan losses.

In addition, various regulatory agencies, as an integral part of their examination process, periodically review QNB’s allowance for loan losses. Such agencies may require QNB to recognize additions to the allowance based on their judgments using information available to them at the time of their examination.

Management believes that it uses the best information available to make determinations about the adequacy of the allowance and that it has established its existing allowance for loan losses in accordance with U.S. GAAP. If circumstances differ substantially from the assumptions used in making determinations, future adjustments to the allowance for loan losses may be necessary and results of operations could be affected. Because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that increases to the allowance will not be necessary should the quality of any loans deteriorate as a result of the factors discussed above.

	June 30,		December 31,		June 30,		December 31,
	2018		2017		2019		2018
Commercial:
Commercial and industrial	$	160,281	$	147,190	$	156,307	$	162,452
Construction		52,143		51,157		61,323		50,135
Secured by commercial real estate		304,865		286,867		329,900		308,590
Secured by residential real estate		69,995		71,703		71,153		68,581
State and political subdivisions		47,405		38,087		50,184		43,737
Retail:
1-4 family residential mortgages		63,681		55,818		67,008		67,453
Home equity loans and lines		74,346		75,576		74,781		77,475
Consumer		6,955		6,680		6,717		6,785
Total loans		779,671		733,078		817,373		785,208
Net unearned costs		215		205		220		240
Loans receivable	$	779,886	$	733,283	$	817,593	$	785,448

Loans secured by commercial real estate include all loans collateralized at least in part by commercial real estate. These loans may not be for the expressed purpose of conducting commercial real estate transactions.

Overdrafts are reclassified as loans and are included in consumer loans above and total loans receivable on the ~~balance sheet.~~Consolidated Balance Sheets. At June 30, ~~2018~~2019 and December 31, ~~2017,~~2018, overdrafts were approximately ~~$122,000~~$132,000 and ~~$126,000,~~$183,000, respectively.

QNB generally lends in its trade area which is comprised of Quakertown and the surrounding communities. To a large extent, QNB makes loans collateralized at least in part by real estate. Its lending activities could be affected by changes in the general economy, the regional economy, or real estate values. Other than disclosed in the table above, at June 30, ~~2018,~~2019, there was a concentration of loans to lessors orof residential buildings and dwellings of ~~15.6%~~16.2% of total loans and to lessors of nonresidential buildings of ~~18.6%~~18.7% of total loans,

compared with ~~15.7%~~15.8% and ~~of 17.3%~~18.1% of total loans, respectively, at December 31, ~~2017.~~2018. These concentrations were primarily within the commercial real estate categories.

The Company engages in a variety of lending activities, including commercial, residential real estate and consumer transactions. The Company focuses its lending activities on individuals, professionals and small to medium sized businesses. Risks associated with lending activities include economic conditions and changes in interest rates, which can adversely impact both the ability of borrowers to repay their loans and the value of the associated collateral.

Commercial and industrial loans, commercial real estate loans, construction loans and residential real estate loans with a business purpose are generally perceived as having more risk of default than residential real estate loans with a personal purpose and consumer loans. These types of loans involve larger loan balances to a single borrower or groups of related borrowers and are more susceptible to a risk of loss during a downturn in the business cycle. These loans may involve greater risk because the availability of funds to repay these loans depends on the successful operation of the borrower’s business. The assets financed are used within the business for its ongoing operation. Repayment of these kinds of loans generally comes from the cash flow of the business or the ongoing conversions of assets, such as accounts receivable and inventory, to cash. Typical collateral for commercial and industrial loans includes the borrower’s accounts receivable, inventory and machinery and equipment. Commercial real estate and residential real estate loans secured for a business purpose are originated primarily within the eastern Pennsylvania market area at conservative loan-to-value ratios and often backed by the individual guarantees of the borrowers or owners. Repayment of this kind of loan is dependent upon either the ongoing cash flow of the borrowing entity or the resale of or lease of the subject property. Commercial real estate loans may be affected to a greater extent than residential loans by adverse conditions in real estate markets or the economy because commercial real estate borrowers’ ability to repay their loans depends on successful development of their properties, as well as the factors affecting residential real estate borrowers.

Loans to state and political subdivisions are tax-exempt or taxable loans to municipalities, school districts and housing and industrial development authorities. These loans can be general obligations of the municipality or school district repaid through their taxing authority, revenue obligations repaid through the income generated by the operations of the authority, such as a water or sewer authority, or loans issued to a housing and industrial development agency, for which a private corporation is responsible for payments on the loans.

The Company originates fixed-rate and adjustable-rate real estate-residential mortgage loans for personal purposes that are secured by first liens on the underlying 1-4 family residential properties. Credit risk exposure in this area of lending is minimized by the evaluation of the credit worthiness of the borrower, including debt-to-income ratios, credit scores and adherence to underwriting policies that emphasize conservative loan-to-value ratios of generally no more than 80%. Residential mortgage loans granted in excess of the 80% loan-to-value ratio criterion are generally insured by private mortgage insurance.

The real estate-home equity portfolio consists of fixed-rate home equity loans and variable-rate home equity lines of credit. Risks associated with loans secured by residential properties are generally lower than commercial loans and include general economic risks, such as the strength of the job market, employment stability and the strength of the housing market. Since most loans are secured by a primary or secondary residence, the borrower’s continued employment is the greatest risk to repayment.

The Company offers a variety of loans to individuals for personal and household purposes. Consumer loans are generally considered to have greater risk than first or second mortgages on real estate because they may be unsecured, or, if they are secured, the value of the collateral may be difficult to assess and is more likely to decrease in value than real estate. Credit risk in this portfolio is controlled by conservative underwriting standards that consider debt-to-income levels and the creditworthiness of the borrower and, if secured, collateral values.

The Company employs a ten-grade risk rating system related to the credit quality of commercial loans and loans to state and political subdivisions ~~and indirect lease financing~~ of which the first ~~four~~six categories are pass categories (credits not adversely rated). The following is a description of the internal risk ratings and the likelihood of loss related to each risk rating.

The Company maintains a loan review system, which allows for a periodic review of our loan portfolio and the early identification of potential problem loans. Each loan officer assigns a rating to all loans in the portfolio at the time the loan is originated. Loans with risk ratings of one through five are reviewed annually based on the borrower’s fiscal year. Loans with risk ratings of six are reviewed every six to twelve months based on the dollar amount of the relationship with the borrower. Loans with risk ratings of seven through ten are reviewed at least quarterly, and as often as monthly, at management’s discretion. The Company also utilizes an outside loan review firm to review the portfolio on a semi-annual basis to provide the Board of Directors and senior management an independent review of the ~~Bank’s~~Company’s loan portfolio on an ongoing basis. These reviews are designed to recognize deteriorating credits in their earliest stages in an effort to reduce and control risk in the lending function as well as identifying potential shifts in the quality of the loan portfolio. The examinations by the outside loan review firm include the review of lending activities with respect to underwriting and processing new loans, monitoring the risk of existing loans and to provide timely follow-up and corrective action for loans showing signs of deterioration in quality. In addition, the outside firm reviews the methodology for the allowance for loan losses to determine compliance to policy and regulatory guidance.

The following tables present the classes of the loan portfolio summarized by the aggregate pass rating and the classified ratings of special mention, substandard and doubtful within the Company’s internal risk rating system as of June 30, ~~2018~~2019 and December 31, ~~2017:~~2018:

June 30, 2018	Pass		Special mention		Substandard		Doubtful		Total
June 30, 2019											Pass		Special mention		Substandard		Doubtful		Total
Commercial:
Commercial and industrial	$	154,058	$	183	$	6,040	$	—	$	160,281	$	152,617	$	—	$	3,690	$	—	$	156,307
Construction		52,143		—		—		—		52,143		61,323		—		—		—		61,323
Secured by commercial real estate		286,441		8,320		10,104		—		304,865		322,077		505		7,318		—		329,900
Secured by residential real estate		67,940		—		2,055		—		69,995		69,589		—		1,564		—		71,153
State and political subdivisions		47,405		—		—		—		47,405		50,184		—		—		—		50,184
Total	$	607,987	$	8,503	$	18,199	$	—	$	634,689	$	655,790	$	505	$	12,572	$	—	$	668,867

December 31, 2017	Pass		Special mention		Substandard		Doubtful		Total
December 31, 2018											Pass		Special mention		Substandard		Doubtful		Total
Commercial:
Commercial and industrial	$	139,820	$	863	$	6,507	$	—	$	147,190	$	155,219	$	82	$	7,151	$	—	$	162,452
Construction		51,156		—		1		—		51,157		50,135	—		—			—		50,135
Secured by commercial real estate		268,069		10,569		8,229		—		286,867		297,713		1,259		9,618		—		308,590
Secured by residential real estate		69,571		222		1,910		—		71,703		66,838		173		1,570		—		68,581
State and political subdivisions		38,087		—		—		—		38,087		43,737	—		—			—		43,737
Total	$	566,703	$	11,654	$	16,647	$	—	$	595,004	$	613,642	$	1,514	$	18,339	$	—	$	633,495

For retail loans, the Company evaluates credit quality based on the performance of the individual credits. The following tables present the recorded investment in the retail classes of the loan portfolio based on payment activity as of June 30, ~~2018~~2019 and December 31, ~~2017:~~2018:

June 30, 2018	Performing		Non-performing		Total
June 30, 2019							Performing		Non-performing		Total
Retail:
1-4 family residential mortgages	$	62,704	$	977	$	63,681	$	66,441	$	567	$	67,008
Home equity loans and lines		74,200		146		74,346		74,555		226		74,781
Consumer		6,851		104		6,955		6,613		104		6,717
Total	$	143,755	$	1,227	$	144,982	$	147,609	$	897	$	148,506

December 31, 2017	Performing		Non-performing		Total
December 31, 2018							Performing			Non-performing		Total
Retail:
1-4 family residential mortgages	$	54,936	$	882	$	55,818	$	66,513		$	940	$	67,453
Home equity loans and lines		75,433		143		75,576		77,309			166		77,475
Consumer		6,595		85		6,680		6,659	��		126		6,785
Total	$	136,964	$	1,110	$	138,074	$	150,481		$	1,232	$	151,713

The performance and credit quality of the loan portfolio is also monitored by analyzing the age of the loans receivable as determined by the length of time a recorded payment is past due. The following table presents the classes of the loan portfolio summarized by the past due status as of June 30, ~~2018~~2019 and December 31, ~~2017:~~2018:

June 30, 2018	30-59 days past due		60-89 days past due		90 days or more past due		Total past due loans		Current		Total loans receivable
June 30, 2019													30-59 days past due		60-89 days past due		90 days or more past due		Total past due loans		Current		Total loans receivable
Commercial:
Commercial and industrial	$	58	$	247	$	1,361	$	1,666	$	158,615	$	160,281	$	87	$	205	$	2,126	$	2,418	$	153,889	$	156,307
Construction		—		—		—		—		52,143		52,143		—		—		—		—		61,323		61,323
Secured by commercial real estate		736		86		647		1,469		303,396		304,865		366		309		1,811		2,486		327,414		329,900
Secured by residential real estate		372		50		199		621		69,374		69,995		—		168		399		567		70,586		71,153
State and political subdivisions		—		—		—		—		47,405		47,405		—		—		—		—		50,184		50,184
Retail:
1-4 family residential mortgages		—		119		494		613		63,068		63,681		—		393		455		848		66,160		67,008
Home equity loans and lines		63		47		65		175		74,171		74,346		157		70		137		364		74,417		74,781
Consumer		19		28		23		70		6,885		6,955		23		29		—		52		6,665		6,717
Total	$	1,248	$	577	$	2,789	$	4,614	$	775,057	$	779,671	$	633	$	1,174	$	4,928	$	6,735	$	810,638	$	817,373

December 31, 2017	30-59 days past due		60-89 days past due		90 days or more past due		Total past due loans		Current		Total loans receivable
December 31, 2018													30-59 days past due		60-89 days past due		90 days or more past due		Total past due loans		Current		Total loans receivable
Commercial:
Commercial and industrial	$	25	$	429	$	57	$	511	$	146,679	$	147,190	$	94	$	141	$	1,372	$	1,607	$	160,845	$	162,452
Construction		—		—		—		—		51,157		51,157		—		—		—		—		50,135		50,135
Secured by commercial real estate		899		—		730		1,629		285,238		286,867		305		1,029		638		1,972		306,618		308,590
Secured by residential real estate		24		—		210		234		71,469		71,703		24		352		291		667		67,914		68,581
State and political subdivisions		—		—		—		—		38,087		38,087		—		—		—		—		43,737		43,737
Retail:
1-4 family residential mortgages		744		152		504		1,400		54,418		55,818		544		245		476		1,265		66,188		67,453
Home equity loans and lines		251		44		119		414		75,162		75,576		82		205		61		348		77,127		77,475
Consumer		23		8		—		31		6,649		6,680		23		35		24		82		6,703		6,785
Total	$	1,966	$	633	$	1,620	$	4,219	$	728,859	$	733,078	$	1,072	$	2,007	$	2,862	$	5,941	$	779,267	$	785,208

The following tables disclose the recorded investment in loans receivable that are either on non-accrual status or past due 90 days or more and still accruing interest as of June 30, ~~2018~~2019 and December 31, ~~2017:~~2018:

June 30, 2018	90 days or more past due (still accruing)		Non-accrual
June 30, 2019					90 days or more past due (still accruing)		Non-accrual
Commercial:
Commercial and industrial	$	—	$	2,678	$	—	$	3,598
Construction		—		—		—		—
Secured by commercial real estate		—		1,651		—		2,057
Secured by residential real estate		—		1,198		—		1,116
State and political subdivisions		—		—		—		—
Retail:
1-4 family residential mortgages		—		977		—		567
Home equity loans and lines		—		146		—		226
Consumer		23		81		—		104
Total	$	23	$	6,731	$	—	$	7,668

December 31, 2017	90 days or more past due (still accruing)		Non-accrual
December 31, 2018					90 days or more past due (still accruing)		Non-accrual
Commercial:
Commercial and industrial	$	—	$	3,367	$	—	$	3,179
Construction		—		—		—		—
Secured by commercial real estate		—		1,987		—		1,965
Secured by residential real estate		—		1,458		—		1,102
State and political subdivisions		—		—		—		—
Retail:
1-4 family residential mortgages		—		882		—		940
Home equity loans and lines		—		142		—		166
Consumer		—		85		—		126
Total	$	—	$	7,921	$	—	$	7,478

Activity in the allowance for loan losses for the three and six months ended June 30, ~~2018~~2019 and ~~2017~~2018 are as follows:

Three months ended June 30, 2018	Balance, beginning of period		Provision for (credit to) loan losses			Charge-offs			Recoveries		Balance, end of period
Three months ended June 30, 2019													Balance, beginning of period		Provision for (credit to) loan losses			Charge-offs			Recoveries		Balance, end of period
Commercial:
Commercial and industrial	$	2,829	$	4		$	—		$	7	$	2,840	$	3,083	$	208		$	—		$	11	$	3,302
Construction		557		16			—			—		573		602		73			—			—		675
Secured by commercial real estate		2,431		278			—			1		2,710		2,829		84			—			—		2,913
Secured by residential real estate		835		(72	)		—			18		781		743		(58	)		(5	)		42		722
State and political subdivisions		121		69			—			—		190		190		11			—			—		201
Retail:
1-4 family residential mortgages		512		(3	)		—			—		509		500		(67	)		—			—		433
Home equity loans and lines		381		(27	)		(44	)		1		311		341		(56	)		(1	)		10		294
Consumer		61		21			(23	)		8		67		166		80			(67	)		9		188
Unallocated		310		(99	)	N/A			N/A			211		561		(125	)	N/A			N/A			436
Total	$	8,037	$	187		$	(67	)	$	35	$	8,192	$	9,015	$	150		$	(73	)	$	72	$	9,164

Three months ended June 30, 2017	Balance, beginning of period		Provision for (credit to) loan losses			Charge-offs			Recoveries		Balance, end of period
Three months ended June 30, 2018													Balance, beginning of period		Provision for (credit to) loan losses			Charge-offs			Recoveries		Balance, end of period
Commercial:
Commercial and industrial	$	1,978	$	191		$	—		$	8	$	2,177	$	2,829	$	4		$	—		$	7	$	2,840
Construction		463		53			—			—		516		557		16			—			—		573
Secured by commercial real estate		2,577		61			—			2		2,640		2,431		278			—			1		2,710
Secured by residential real estate		1,344		(156	)		—			12		1,200		835		(72	)		—			18		781
State and political subdivisions		124		(1	)		—			—		123		121		69			—			—		190
Retail:
1-4 family residential mortgages		415		24			—			—		439		512		(3	)		—			—		509
Home equity loans and lines		342		(25	)		—			2		319		381		(27	)		(44	)		1		311
Consumer		77		9			(18	)		10		78		61		21			(23	)		8		67
Unallocated		399		144		N/A			N/A			543		310		(99	)	N/A			N/A			211
Total	$	7,719	$	300		$	(18	)	$	34	$	8,035	$	8,037	$	187		$	(67	)	$	35	$	8,192

As previously discussed, the Company maintains a loan review system, which includes a continuous review of the loan portfolio by internal and external parties to aid in the early identification of potential impaired loans. A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining

impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management

determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis for commercial loans and loans to state and political subdivisions ~~and indirect lease financing loans~~ by using either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent.

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer and residential mortgage loans for impairment disclosures, unless such loans are part of a larger relationship that is impaired or are classified as a troubled debt ~~restructuring.~~restructuring or on non-accrual.

An allowance for loan losses is established for an impaired loan if its carrying value exceeds its estimated fair value. The estimated fair values of the majority of the Company’s impaired loans are measured based on the estimated fair value of the loan’s collateral.

For commercial loans secured by real estate, estimated fair values are determined primarily through third-party appraisals. When a real estate secured loan becomes impaired, a decision is made regarding whether an updated certified appraisal of the real estate is necessary. This decision is based on various considerations, including the age of the most recent appraisal, the loan-to-value ratio based on the original appraisal and the condition of the property. Appraised values are discounted to arrive at the estimated selling price of the collateral, which is considered to be the estimated fair value. The discounts also include estimated costs to sell the property.

For commercial loans secured by non-real estate collateral, such as accounts receivable, inventory and equipment, estimated fair values are determined based on the borrower’s financial statements, inventory reports, accounts receivable agings or equipment appraisals or invoices. Indications of value from these sources are generally discounted based on the age of the financial information or the quality of the assets.

From time to time, QNB may extend, restructure, or otherwise modify the terms of existing loans, on a case-by-case basis, to remain competitive and retain certain customers, as well as assist other customers that may be experiencing financial difficulties. A loan is considered to be a troubled debt restructuring (“TDR”) loan when the Company grants a concession to the borrower because of the borrower’s financial condition that it would not otherwise consider. Such concessions include the reduction of interest rates, forgiveness of principal or interest, or other modifications of interest rates to less than the current market rate for new obligations with similar risk. Loans classified as TDRs are considered non-performing and are also designated as impaired.

The concessions made for TDRs involve lowering the monthly payments on loans through periods of interest only payments, a reduction in interest rate below a market rate or an extension of the term of the loan without a corresponding adjustment to the risk premium reflected in the interest rate, or a combination of these three methods. The restructurings rarely result in the forgiveness of principal or accrued interest. If the borrower has demonstrated performance under the previous terms and our underwriting process shows the borrower has the capacity to continue to perform under the restructured terms, the loan will continue to accrue interest. Non-accruing restructured loans may be returned to accrual status when there has been a sustained period of repayment performance (generally six consecutive months of payments) and both principal and interest are deemed collectible. TDR loans that are in compliance with their modified terms and that yield a market rate may be removed from the TDR status after a period of performance.

Performing TDRs (not reported as non-accrual or past due 90 days or more and still accruing) totaled ~~$1,233,000~~$2,009,000 and ~~$1,321,000~~$2,160,000 as of June 30, ~~2018~~2019 and December 31, ~~2017,~~2018, respectively. Non-performing TDRs totaled ~~$2,444,000~~$1,210,000 and ~~$2,994,000~~$1,317,000 as of June 30, ~~2018~~2019 and December 31, ~~2017,~~2018, respectively. All TDRs are included in impaired loans.

The following table illustrates the specific reserve for loan losses allocated to loans modified as TDRs. These specific reserves are included in the allowance for loan losses for loans individually evaluated for impairment.

	June 30, 2018				December 31, 2017				June 30, 2019				December 31, 2018
	Unpaid principal balance		Related allowance		Unpaid principal balance		Related allowance		Unpaid principal balance		Related allowance		Unpaid principal balance		Related allowance

TDRs with no specific allowance recorded	$	3,398	$	—	$	3,448	$	—	$	2,825	$	—	$	2,513	$	—
TDRs with an allowance recorded		279		190		867		235		394		387		964		411
Total	$	3,677	$	190	$	4,315	$	235	$	3,219	$	387	$	3,477	$	411

There ~~was one~~were no newly identified TDR during the six months ended June 30, ~~2018. The TDR concession involved extension of a maturity date and lower monthly payments.~~2019. As of June 30, ~~2018~~2019 and December 31, ~~2017,~~2018, QNB had no commitments to lend additional funds to customers with loans whose terms have been modified in troubled debt restructurings. There were $5,000 in net charge-offs ~~of $0 and $3,000~~ during the three and six months ended June 30, ~~2018~~2019, and ~~2017, respectively,~~no charge-offs during the three and six months ended June 30, 2018, resulting from loans previously modified as TDRs.

The following tables present loans, by loan class, modified as TDRs during the three and six months ended June 30, ~~2018~~2019 and ~~2017.~~2018. The pre-modification and post-modification outstanding recorded investments disclosed in the tables below, represent carrying amounts immediately prior to the modification and as of the period end indicated.

Three months ended June 30,	2018						2017						2019						2018
	Number of contracts		Pre-modification outstanding recorded investment		Post-modification outstanding recorded investment		Number of contracts		Pre-modification outstanding recorded investment		Post-modification outstanding recorded investment		Number of contracts		Pre-modification outstanding recorded investment		Post-modification outstanding recorded investment		Number of contracts		Pre-modification outstanding recorded investment		Post-modification outstanding recorded investment
Retail:
Home equity loans and lines		—	$	—	$	—		—	$	—	$	—		—	$	—	$	—		—	$	—	$	—
Total		—	$	—	$	—		—	$	—	$	—		—	$	—	$	—		—	$	—	$	—

Six months ended June 30,	2018						2017						2019						2018
	Number of contracts		Pre-modification outstanding recorded investment		Post-modification outstanding recorded investment		Number of contracts		Pre-modification outstanding recorded investment		Post-modification outstanding recorded investment		Number of contracts		Pre-modification outstanding recorded investment		Post-modification outstanding recorded investment		Number of contracts		Pre-modification outstanding recorded investment		Post-modification outstanding recorded investment
Retail:
Home equity loans and lines		1	$	47	$	57		—	$	—	$	—		—	$	—	$	—		1	$	47	$	47
Total		1	$	47	$	57		—	$	—	$	—		—	$	—	$	—		1	$	47	$	47

There were no loans modified as TDRs within 12 months prior to June 30, 2019 and 2018 for which there was a payment default (60 days or more past due) during the six months ended June 30, 2019 and 2018. There was one loan with an outstanding balance of $21,000 that was modified as TDRs within 12 months prior to June 30, 2017 for which there was a payment default (60 days or more past due) during the six months ended June 30, 2017.

The Company has ~~four consumer~~five mortgage loans secured by residential real estate for which foreclosure proceedings are in process at June 30, ~~2018.~~2019. The total recorded investment is ~~$559,000.~~$662,000.

The following tables present the balance in the allowance for loan losses at June 30, ~~2018~~2019 and December 31, ~~2017~~2018 disaggregated on the basis of the Company’s impairment method by class of loans receivable along with the balance of loans receivable by class, excluding unearned fees and costs, disaggregated on the basis of the Company’s impairment methodology:

	Allowance for Loan Losses						Loans Receivable						Allowance for Loan Losses						Loans Receivable
June 30, 2018	Balance		Balance related to loans individually evaluated for impairment		Balance related to loans collectively evaluated for impairment		Balance		Balance individually evaluated for impairment		Balance collectively evaluated for impairment
June 30, 2019													Balance		Balance related to loans individually evaluated for impairment		Balance related to loans collectively evaluated for impairment		Balance		Balance individually evaluated for impairment		Balance collectively evaluated for impairment
Commercial:
Commercial and industrial	$	2,840	$	1,125	$	1,715	$	160,281	$	5,079	$	155,202	$	3,302	$	1,952	$	1,350	$	156,307	$	3,598	$	152,709
Construction		573		—		573		52,143		—		52,143		675		—		675		61,323		—		61,323
Secured by commercial real estate		2,710		—		2,710		304,865		3,781		301,084		2,913		139		2,774		329,900		3,476		326,424
Secured by residential real estate		781		61		720		69,995		1,573		68,422		722		72		650		71,153		1,733		69,420
State and political subdivisions		190		—		190		47,405		—		47,405		201		—		201		50,184		—		50,184
Retail:
1-4 family residential mortgages		509		9		500		63,681		1,309		62,372		433		3		430		67,008		892		66,116
Home equity loans and lines		311		13		298		74,346		166		74,180		294		—		294		74,781		165		74,616
Consumer		67		—		67		6,955		81		6,874		188		—		188		6,717		73		6,644
Unallocated		211	N/A		N/A		N/A		N/A		N/A			436	N/A		N/A		N/A		N/A		N/A
Total	$	8,192	$	1,208	$	6,773	$	779,671	$	11,989	$	767,682	$	9,164	$	2,166	$	6,562	$	817,373	$	9,937	$	807,436

	Allowance for Loan Losses						Loans Receivable						Allowance for Loan Losses						Loans Receivable
December 31, 2017	Balance		Balance related to loans individually evaluated for impairment		Balance related to loans collectively evaluated for impairment		Balance		Balance individually evaluated for impairment		Balance collectively evaluated for impairment
December 31, 2018													Balance		Balance related to loans individually evaluated for impairment		Balance related to loans collectively evaluated for impairment		Balance		Balance individually evaluated for impairment		Balance collectively evaluated for impairment
Commercial:
Commercial and industrial	$	2,711	$	1,260	$	1,451	$	147,190	$	6,498	$	140,692	$	3,092	$	1,461	$	1,631	$	162,452	$	7,128	$	155,324
Construction		563		—		563		51,157		1		51,156		551		—		551		50,135		—		50,135
Secured by commercial real estate		2,410		—		2,410		286,867		3,874		282,993		2,824		101		2,723		308,590		6,083		302,507
Secured by residential real estate		816		84		732		71,703		1,744		69,959		754		97		657		68,581		1,740		66,841
State and political subdivisions		114		—		114		38,087		—		38,087		153		—		153		43,737		—		43,737
Retail:
1-4 family residential mortgages		444		8		436		55,818		1,218		54,600		497		—		497		67,453		1,268		66,185
Home equity loans and lines		357		40		317		75,576		164		75,412		338		5		333		77,475		186		77,289
Consumer		57		—		57		6,680		85		6,595		164		—		164		6,785		77		6,708
Unallocated		369	N/A		N/A		N/A		N/A		N/A			461	N/A		N/A		N/A		N/A		N/A
Total	$	7,841	$	1,392	$	6,080	$	733,078	$	13,584	$	719,494	$	8,834	$	1,664	$	6,709	$	785,208	$	16,482	$	768,726

The following table summarize additional information, in regards to impaired loans by loan portfolio class, as of June 30, 2019 and December 31, 2018:

	June 30, 2019						December 31, 2018
	Recorded investment (after charge-offs)		Unpaid principal balance		Related allowance		Recorded investment (after charge-offs)		Unpaid principal balance		Related allowance
With no specific allowance recorded:
Commercial:
Commercial and industrial	$	681	$	822			$	4,243	$	4,525
Construction		—		—				—		—
Secured by commercial real estate		2,194		2,827				5,012		5,577
Secured by residential real estate		1,462		1,639				1,023		1,140
Retail:
1-4 family residential mortgages		735		763				1,268		1,357
Home equity loans and lines		165		271				140		190
Consumer		73		82				77		84
Total	$	5,310	$	6,404			$	11,763	$	12,873

With an allowance recorded:
Commercial:
Commercial and industrial	$	2,917	$	4,247	$	1,952	$	2,885	$	4,128	$	1,461
Construction		—		—		—		—		—		—
Secured by commercial real estate		1,282		1,311		139		1,071		1,095		101
Secured by residential real estate		271		311		72		717		773		97
Retail:
1-4 family residential mortgages		157		162		3		—		—		—
Home equity loans and lines		—		—		—		46		46		5
Consumer		—		—		—		—		—		—
Total	$	4,627	$	6,031	$	2,166	$	4,719	$	6,042	$	1,664

Total:
Commercial:
Commercial and industrial	$	3,598	$	5,069	$	1,952	$	7,128	$	8,653	$	1,461
Construction		—		—		—		—		—		—
Secured by commercial real estate		3,476		4,138		139		6,083		6,672		101
Secured by residential real estate		1,733		1,950		72		1,740		1,913		97
Retail:
1-4 family residential mortgages		892		925		3		1,268		1,357		—
Home equity loans and lines		165		271		—		186		236		5
Consumer		73		82		—		77		84		—
Total	$	9,937	$	12,435	$	2,166	$	16,482	$	18,915	$	1,664

~~The following table summarizes additional information, in regards to impaired loans by loan portfolio class, as of June 30, 2018 and December 31, 2017:~~

June 30, 2018

December 31, 2017

Recorded
investment
(after
charge-offs)

Unpaid
principal
balance

Related
allowance

Recorded
investment
(after
charge-offs)

Unpaid
principal
balance

Related
allowance

With no specific allowance recorded:

Commercial:

Commercial and industrial

$
3,789

$
3,998

$
5,070

$
5,461

Construction

—

—

1

1

Secured by commercial real estate

3,781

4,336

3,874

4,464

Secured by residential real estate

1,408

1,712

914

1,239

State and political subdivisions

—

—

—

—

Retail:

1-4 family residential mortgages

1,150

1,191

1,057

1,108

Home equity loans and lines

126

177

124

168

Consumer

81

87

85

90

Total

$
10,335

$
11,501

$
11,125

$
12,531

With an allowance recorded:

Commercial:

Commercial and industrial

$
1,290

$
2,535

$
1,125

$
1,428

$
2,593

$
1,260

Construction

—

—

—

—

—

—

Secured by commercial real estate

—

—

—

—

—

—

Secured by residential real estate

165

185

61

830

879

84

State and political subdivisions

—

—

—

—

—

—

Retail:

1-4 family residential mortgages

159

185

9

161

163

8

Home equity loans and lines

40

41

13

40

41

40

Consumer

—

—

—

—

—

—

Total

$
1,654

$
2,946

$
1,208

$
2,459

$
3,676

$
1,392

Total:

Commercial:

Commercial and industrial

$
5,079

$
6,533

$
1,125

$
6,498

$
8,054

$
1,260

Construction

—

—

—

1

1

—

Secured by commercial real estate

3,781

4,336

—

3,874

4,464

—

Secured by residential real estate

1,573

1,897

61

1,744

2,118

84

State and political subdivisions

—

—

—

—

—

—

Retail:

��

1-4 family residential mortgages

1,309

1,376

9

1,218

1,271

8

Home equity loans and lines

166

218

13

164

209

40

Consumer

81

87

—

85

90

—

Total

$
11,989

$
14,447

$
1,208

$
13,584

$
16,207

$
1,392

The following table presents additional information regarding the average recorded investment and interest income recognized on impaired loans:

Six Months Ended June 30,	2018				2017				2019				2018
	Average recorded investment		Interest income recognized		Average recorded investment		Interest income recognized		Average recorded investment		Interest income recognized		Average recorded investment		Interest income recognized
Commercial:
Commercial and industrial	$	6,208	$	121	$	4,879	$	8	$	3,953	$	4	$	6,208	$	121
Construction		—		—		86		2		—		—		—		—
Secured by commercial real estate		3,752		49		5,838		78		4,855		68		3,752		49
Secured by residential real estate		1,696		9		2,252		13		1,746		20		1,696		9
State and political subdivisions		—		—		—		—
Retail:
1-4 family residential mortgages		1,222		6		955		7		1,101		6		1,222		6
Home equity loans and lines		186		1		102		1		156		—		186		1
Consumer		83		—		91		—		75		—		83		—
Total	$	13,147	$	186	$	14,203	$	109	$	11,886	$	98	$	13,147	$	186

FASB ASC 820, Fair Value Measurements and Disclosures, defines fair value as an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants (fair values are not adjusted for transaction costs). ASC 820 also establishes a framework (fair value hierarchy) for measuring fair value under U.S. GAAP and expands disclosures about fair value measurements.

ASC 820 establishes a fair value hierarchy that prioritizes the inputs to valuation methods used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are as follows:

An asset’s or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.

The measurement of fair value should be consistent with one of the following valuation techniques: market approach, income approach, and/or cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities (including a business). For example, valuation techniques consistent with the market approach often use market multiples derived from a set of comparables. Multiples might lie in ranges with a different multiple for each comparable. The selection of where within the range the appropriate multiple falls requires judgment, considering factors specific to the measurement (qualitative and quantitative). Valuation techniques consistent with the market approach include matrix pricing. Matrix pricing is a mathematical technique used principally to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the security’s relationship to other benchmark quoted securities.

The following table sets forth QNB’s financial assets measured at fair value on a recurring and nonrecurring basis and the fair value measurements by level within the fair value hierarchy as of June 30, ~~2018:~~2019:

	Quoted prices in active markets for identical assets (Level 1)		Significant other observable input (Level 2)		Significant unobservable inputs (Level 3)		Balance at end of period
June 30, 2019									Quoted prices in active markets for identical assets (Level 1)		Significant other observable input (Level 2)		Significant unobservable inputs (Level 3)		Balance at end of period
Recurring fair value measurements
Equity securities	$	9,600	$	—	$	—	$	9,600	$	6,898	$	—	$	—	$	6,898
Debt securities available-for-sale
Available-for-sale securities:
U.S. Treasury securities										—		3,467		—		3,467
U.S. Government agency securities		—		69,495		—		69,495		—		67,773		—		67,773
State and municipal securities		—		70,952		—		70,952		—		53,587		—		53,587
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed securities		—		127,426		—		127,426		—		136,652		—		136,652
Collateralized mortgage obligations (CMOs)		—		71,257		—		71,257		—		78,009		—		78,009
Pooled trust preferred securities		—		—		118		118		—		—		108		108
Corporate debt securities		—		4,946		—		4,946		—		8,132		—		8,132
Total debt securities available-for-sale		—		344,076		118		344,194		—		347,620		108		347,728
Total recurring fair value measurements	$	9,600	$	344,076	$	118	$	353,794	$	6,898	$	347,620	$	108	$	354,626

Nonrecurring fair value measurements
Impaired loans	$	—	$	—	$	446	$	446	$	—	$	—	$	2,461	$	2,461
Mortgage servicing rights		—		—		6		6		—		—		8		8
Total nonrecurring fair value measurements	$	—	$	—	$	452	$	452	$	—	$	—	$	2,469	$	2,469

There were no transfers in and out of Level 1 and Level 2 fair value measurements during the three or six months ended June 30, ~~2018.~~2019. There were also no transfers in or out of level 3 for the same ~~periods.~~period. There were no losses included in earnings attributable to the change in unrealized gains or losses relating to the available-for-sale securities above with fair value measurements utilizing significant unobservable inputs for the three- or six-month ~~periods~~period ended June 30, ~~2018.~~2019.

The following table sets forth QNB’s financial assets measured at fair value on a recurring and nonrecurring basis, the fair value measurements by level within the fair value hierarchy as of December 31, ~~2017:~~2018:

December 31, 2017	Quoted prices in active markets for identical assets (Level 1)		Significant other observable input (Level 2)		Significant unobservable inputs (Level 3)		Balance at end of period
December 31, 2018									Quoted prices in active markets for identical assets (Level 1)		Significant other observable input (Level 2)		Significant unobservable inputs (Level 3)		Balance at end of period
Recurring fair value measurements
Equity securities	$	4,975	$	—	$	—	$	4,975	$	9,421	$	—	$	—	$	9,421
Debt securities available-for-sale
U.S. Government agency securities		—		70,524		—		70,524		—		68,409		—		68,409
State and municipal securities		—		76,804		—		76,804		—		66,313		—		66,313
U.S. Government agencies and sponsored enterprises (GSEs):
Mortgage-backed securities		—		142,703		—		142,703		—		125,913		—		125,913
Collateralized mortgage obligations (CMOs)		—		76,302		—		76,302		—		75,491		—		75,491
Pooled trust preferred securities		—		—		215		215		—		—		116		116
Corporate debt securities		—		8,022		—		8,022		—		7,979		—		7,979
Total debt securities available-for-sale		—		374,355		215		374,570		—		344,105		116		344,221
Total recurring fair value measurements	$	4,975	$	374,355	$	215	$	379,545	$	9,421	$	344,105	$	116	$	353,642

Nonrecurring fair value measurements
Impaired loans	$	—	$	—	$	1,067	$	1,067	$	—	$	—	$	3,055	$	3,055
Mortgage servicing rights		—		—		34		34		—		—		5		5
Total nonrecurring fair value measurements	$	—	$	—	$	1,101	$	1,101	$	—	$	—	$	3,060	$	3,060

The following table presents additional quantitative information about assets measured at fair value on a nonrecurring basis and for which QNB has utilized Level 3 inputs to determine fair value:

Quantitative information about Level 3 fair value measurements

June 30, 2018

Fair value

Valuation

techniques

Unobservable

input

Value or range

of values

June 30, 2019

Fair value

Valuation

techniques

Unobservable

input

Value or range

of values

Impaired loans

299

Appraisal of collateral

(1)

Appraisal adjustments

(2)

-20% to -80%

1,927

Appraisal of collateral

(1)

Appraisal adjustments

(2)

-10.0% to -25.0%

Liquidation expenses

(3)

-10%

Liquidation expenses

(3)

-10.0

Impaired loans

147

Financial statement values for UCC collateral

Financial statement value discounts

(4)

-20% to -50%

534

Financial statement values for UCC collateral

Financial statement value discounts

(5)

-30.0% to -100.0%

Mortgage servicing rights

Discounted cash flow

Remaining term

2 to 27 years

Discounted cash flow

Remaining term

1 - 26 years

Discount rate

12.50

Discount rate

12.0% to 12.5%

Quantitative information about Level 3 fair value measurements

December 31, 2017

Fair value

Valuation

techniques

Unobservable

input

Value or range

of values

December 31, 2018

Fair value

Valuation

techniques

Unobservable

input

Value or range

of values

Impaired loans

943

Appraisal of collateral

(1)

Appraisal adjustments

(2)

-15% to -90%

1,632

Appraisal of collateral

(1)

Appraisal adjustments

(2)

-20.0% to -90.0%

Liquidation expenses

(3)

-10%

Liquidation expenses

(3)

-10.0

Impaired loans

124

Financial statement values for UCC collateral

Financial statement value discounts

(4)

-25% to -50%

1,415

Financial statement values for UCC collateral

Financial statement value discounts

(5)

-25.0% to -100.0%

Impaired loans

Used commercial vehicle guides

Guide value discounts

(4)

-10%

Mortgage servicing rights

Discounted cash flow

Remaining term

2 to 26 years

Discounted cash flow

Remaining term

2 to 26 years

Discount rate

13% to 15%

Discount rate

12.0% to 12.5%

The following table presents additional information about the available-for-sale securities ~~available-for-sale~~ measured at fair value on a recurring basis and for which QNB utilized significant unobservable inputs (Level 3 inputs) to determine fair value for the six months ended June 30, ~~2018~~2019 and ~~2017:~~2018:

	Fair value measurements using significant unobservable inputs (Level 3)						Fair value measurements using significant unobservable inputs (Level 3)
	2018			2017			2019			2018
Balance, January 1,	$	215		$	2,281		$	116		$	215
Payments received		(119	)		(55	)		(1	)		(119	)
Sale of securities		—			(2,026	)
Total gains or losses (realized/unrealized)
Included in earnings		—			(15	)		—			—
Included in other comprehensive income		22			27
Included in other comprehensive (loss) income								(7	)		22
Transfers in and/or out of Level 3		—			—			—			—
Balance, June 30,	$	118		$	212		$	108		$	118

The Level 3 securities consist of one collateralized debt obligation security, the PreTSL security, which is backed by trust preferred securities issued by ~~banks, thrifts, and insurance companies. As discussed in Note 6, the~~banks. The market for ~~these securities~~this security at June 30, ~~2018~~2019 was not active and markets for similar securities also are not active. The inactivity was evidenced first by a significant widening of the bid-ask spread in the brokered markets in which the PreTSLs trade and then by a significant decrease in the volume of trades relative to historical levels. The new issue market is also inactive and there are currently very few market participants who are willing and or able to transact for these securities.

Given conditions in the debt markets today and the absence of observable transactions in the secondary and new issue markets, we determined:

~~The Bank~~QNB used an independent third party to value this security using a discounted cash flow analysis. Based on management’s review of the bond’s ~~five~~four underlying issuers, there are no expected credit losses or prepayments; cashflows used were contractual based on the Bloomberg YA screen. The assumed cashflows have been discounted using and estimated market discount rate based on the 30-year swap rate. The 30-year is used as the reference rate since it is indicative of market expectation for short-term rates in the future. This is consistent with the 30-year nature of the PreTSL ~~securities,~~security, which ~~are~~is priced using the 3-month LIBOR as a reference rate. The discount rate of ~~5.74%~~5.81% includes the risk-free rate, a credit component and a spread for illiquidity.

The following information should not be interpreted as an estimate of the fair value of the entire Company since a fair value calculation is only provided for a limited portion of QNB’s assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between QNB’s disclosures and those of other companies may not be meaningful.

The following methods and assumptions were used to estimate the fair values of each major classification of financial instrument and non-financial asset at June 30, ~~2018~~2019 and December 31, ~~2017:~~2018:

Cash and cash equivalents, accrued interest receivable and accrued interest payable (carried at cost): The carrying amounts reported in the balance sheet approximate those assets’ fair value.

Investment securities ~~- available for sale~~ (carried at fair value): The fair value of securities are primarily determined by obtaining quoted market prices on nationally recognized securities exchanges (Level 1), or matrix pricing (Level 2), which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted market prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted prices. Level 2 debt securities are valued by a third-party pricing service commonly used in the banking industry. Level 2 fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution date, market consensus prepayment speeds, credit information and the security’s terms and conditions, among other things. For certain securities which are not traded in active markets or are subject to transfer restrictions, valuations are adjusted to reflect illiquidity and/or non-transferability, and such adjustments are generally based on available market evidence (Level 3). In the absence of such evidence, management’s best estimate is used. Management’s best estimate consists of both internal and external support on certain Level 3 investments. Cash flow models using a present value formula that includes assumptions market participants would use along with indicative exit pricing obtained from broker/dealers (where available) were used to support fair values of certain Level 3 investments.

Restricted investment in stocks (carried at cost): The fair value of stock in Atlantic Community Bankers Bank, the Federal Home Loan Bank and VISA Class B is the carrying amount, based on redemption provisions, and considers the limited marketability of and restrictions on such securities.

~~Loans Held-for-Sale (carried at lower of cost or fair value)~~: The fair value of loans held for sale is determined, when possible, using quoted secondary market prices. If no such quoted prices exist, the fair value of a loan is determined using quoted prices for a similar loan or loans, adjusted for the specific attributes of that loan.

Loans Receivable (carried at cost): The fair values of loans are estimated using discounted cash flow analyses, using market rates at the balance sheet date that reflect the liquidity, credit and interest rate-risk inherent in the loans. Projected future cash flows are calculated based upon contractual maturity or call dates, projected repayments and prepayments of principal. Generally, for variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values.

Impaired Loans (generally carried at fair value): Impaired loans are loans, in which the Company has measured impairment generally based on the fair value of the loan’s collateral. Fair value is generally determined based upon independent third-party appraisals of the properties, or discounted cash flows based upon the expected proceeds. These assets are included as Level 3 fair values, based upon the lowest level of input that is significant to the fair value measurements.

Mortgage Servicing Rights (carried at lower of cost or fair value): The fair value of mortgage servicing rights is based on a valuation model that calculates the present value of estimated net servicing income. The mortgage servicing rights are stratified into tranches based on predominant characteristics, such as interest rate, loan type and investor type. The valuation incorporates assumptions that market participants would use in estimating future net servicing income.

Deposit liabilities (carried at cost): The fair value of deposits with no stated maturity (e.g. demand deposits, interest-bearing demand accounts, money market accounts and savings accounts) are by definition, equal to the amount payable on demand at the reporting date (i.e. their carrying amounts). This approach to estimating fair value excludes the significant benefit that results from the low-cost funding provided by such deposit liabilities, as compared to alternative sources of funding. Deposits with a stated maturity (time deposits) have been valued using the present value of cash flows discounted at rates approximating the current market for similar deposits.

Short-term borrowings (carried at cost): The carrying amount of short-term borrowings approximates their fair values.

Off-balance-sheet instruments (disclosed at cost): The fair values for ~~the Bank’s~~QNB’s off-balance sheet instruments (lending commitments and letters of credit) are based on fees currently charged in the market to enter into similar agreements, taking into account, the remaining terms of the agreements and the counterparties’ credit standing.

Management uses its best judgment in estimating the fair value of the Company’s financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amounts the Company could have realized in sales transaction on the dates indicated. The estimated fair value amounts have been measured as of the respective period ends and have not been re-evaluated or updated for purposes of these financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported at each period end.

The estimated fair values and carrying amounts of the Company’s financial and off-balance sheet instruments are summarized as follows:

					Fair value measurements										Fair value measurements
June 30, 2018	Carrying amount		Fair value		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
June 30, 2019											Carrying amount		Fair value		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Financial assets
Cash and cash equivalents	$	11,726	$	11,726	$	11,726	$	—	$	—	$	14,068	$	14,068	$	14,068	$	—	$	—
Investment securities:
Equities		9,600		9,600		9,600		—		—		6,898		6,898		6,898		—		—
Available-for-sale		344,194		344,194		—		344,076		118		347,728		347,728		—		347,620		108
Restricted investment in stocks		2,668		2,668		—		2,668		—		1,872		1,872		—		1,872		—
Loans held-for-sale		404		415		—		415		—
Net loans		771,694		774,814		—		—		774,814		808,429		824,020		—		—		824,020
Mortgage servicing rights		466		609		—		—		609		440		556		—		—		556
Accrued interest receivable		3,573		3,573		—		3,573		—		3,962		3,962		—		3,962		—

Financial liabilities
Deposits with no stated maturities	$	763,007	$	763,007	$	763,007	$	—	$	—	$	796,350	$	796,350	$	796,350	$	—	$	—
Deposits with stated maturities		222,719		218,800		—		218,800		—		234,311		234,083		—		234,083		—
Short-term borrowings		85,646		85,646		85,646		—		—		59,048		59,048		59,048		—		—
Accrued interest payable		371		371		—		371		—		599		599		—		599		—

Off-balance sheet instruments
Commitments to extend credit	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Standby letters of credit		—		—		—		65		—		—		60		—		60		—

					Fair value measurements										Fair value measurements
December 31, 2017	Carrying amount		Fair value		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
December 31, 2018											Carrying amount		Fair value		Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Financial assets
Cash and cash equivalents	$	16,331	$	16,331	$	16,331	$	—	$	—	$	13,458	$	13,458	$	13,458	$	—	$	—
Investment securities:
Equities		4,975		4,975		4,975		—		—		9,421		9,421		9,421		—		—
Available-for-sale		374,570		374,570		—		374,355		215		344,221		344,221		—		344,105		116
Restricted investment in stocks		1,501		1,501		—		1,501		—		797		797		—		797		—
Net loans		725,442		727,341		—		—		727,341		776,614		771,685		—		—		771,685
Mortgage servicing rights		483		585		—		—		585		451		604		—		—		604
Accrued interest receivable		3,545		3,545		—		3,545		—		2,852		2,852		—		2,852		—

Financial liabilities
Deposits with no stated maturities	$	768,766	$	768,766	$	768,766	$	—	$	—	$	791,810	$	791,810	$	791,810	$	—	$	—
Deposits with stated maturities		225,182		223,325		—		223,325		—		223,788		220,876		—		220,876		—
Short-term borrowings		55,756		55,756		55,756		—		—		50,872		50,872		50,872		—		—
Accrued interest payable		384		384		—		384		—		449		449		—		449		—

Off-balance sheet instruments
Commitments to extend credit	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—	$	—
Standby letters of credit		—		—		—		—		—		—		31		—		31		—

In the normal course of business there are various legal proceedings, commitments, and contingent liabilities which are not reflected in the consolidated financial statements. Management does not anticipate any material losses as a result of these transactions and activities. They include, among other things, commitments to extend credit and standby letters of credit. The maximum exposure to credit loss, which represents the possibility of sustaining a loss due to the failure of the other parties to a financial instrument to perform according to the terms of the contract, is represented by the contractual amount of these instruments. QNB uses the same lending standards and policies in making credit commitments as it does for on-balance sheet instruments. The activity is controlled through credit approvals, control limits, and monitoring procedures.

A summary of the ~~Bank's~~Company's financial instrument commitments is as follows:

	June 30,		December 31,		June 30,		December 31,
	2018		2017		2019		2018
Commitments to extend credit and unused lines of credit	$	293,857	$	313,541	$	282,695	$	266,021
Standby letters of credit		18,774		15,211		16,815		17,269
Total financial instrument commitments	$	312,631	$	328,752	$	299,510	$	283,290

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 the payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. QNB evaluates each customer’s creditworthiness on a case-by-case basis.

Standby letters of credit are conditional commitments issued by the ~~Bank~~Company to guarantee the financial or performance obligation of a customer to a third party. QNB’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for standby letters of credit is represented by the contractual amount of those instruments. The ~~Bank~~Company uses the same credit policies in making conditional obligations as it does for on-balance sheet instruments. Standby letters of credit of ~~$17,708,000~~$15,746,000 will expire ~~within~~

within one year. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending other loan commitments. The ~~Bank~~Company requires collateral and personal guarantees supporting these letters of credit as deemed necessary. Management believes that the proceeds obtained through a liquidation of such collateral and the enforcement of personal guarantees would be sufficient to cover the maximum potential amount of future payments required under the corresponding guarantees. The amount of the liability as of June 30, ~~2018~~2019 and December 31, ~~2017~~2018 for guarantees under standby letters of credit issued is not material.

The amount of collateral obtained for letters of credit and commitments to extend credit is based on management’s credit evaluation of the customer. Collateral varies, but may include real estate, accounts receivable, marketable securities, pledged deposits, inventory or equipment.

On May 24, 2018, the Economic Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA) was enacted into law, which provides certain modifications to the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank), which will provide regulatory relief for smaller and certain regional banking organizations. In addition, the legislation establishes new consumer protections and amends various securities- and investment company-related requirements. In addition to the sections that reduce the regulator burden on the Bank, the following sections of EGRRCPA will impact or potentially impact QNB’s financial statements:

Dividends payable by ~~the Company~~QNB Corp. and the Bank are subject to various limitations imposed by statutes, regulations and policies adopted by bank regulatory agencies. Under Federal and Pennsylvania banking law, the Bank is subject to certain restrictions on the amount of dividends that it may declare without prior regulatory approval. Under Federal Reserve regulations, the Bank is limited as to the amount it may lend affiliates, including QNB Corp., unless such loans are collateralized by specific obligations.

Both the Company and the Bank are subject to regulatory capital requirements administered by Federal banking agencies. Failure to meet minimum capital requirements can initiate actions by regulators that could have an effect on the financial statements. Under the

framework for prompt corrective action, both the Company and the Bank must meet capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance-sheet items.

The capital amounts and classification are also subject to qualitative judgments by the regulators. Management believes, as of June 30, ~~2018,~~2019, that the Company and the Bank met capital adequacy requirements to which they were subject.

As of the most recent notification, the primary regulator of the Bank considered it to be “well capitalized” under the regulatory framework. There are no conditions or events since that notification that management believes have changed the classification. To be categorized as well capitalized, the Company and the Bank must maintain minimum ratios as set forth in the following table below.

The Company and the Bank’s actual capital amounts and ratios are presented as follows:

	Capital levels															Capital levels
	Actual					Adequately capitalized					Well capitalized					Actual					Adequately capitalized					Well capitalized
As of June 30, 2018	Amount		Ratio			Amount		Ratio			Amount		Ratio
As of June 30, 2019																Amount		Ratio			Amount		Ratio			Amount		Ratio
Total risk-based capital (to risk-weighted assets):
Consolidated	$	115,662		12.70	%	$	72,861		8.00	%	$	91,077		10.00	%
The Company																$	125,490		13.42	%	$	74,826		8.00	%	$	93,533		10.00	%
Bank		106,129		12.03			70,572	8.00				88,215	10.00				114,572		12.53			73,163	8.00				91,454	10.00

Tier I capital (to risk-weighted assets):
Consolidated		107,397		11.79			54,646	6.00				54,646	6.00
The Company																	116,253		12.43			56,120	6.00				56,120	6.00
Bank		97,864		11.09			52,929	6.00				70,572	8.00				105,335		11.52			54,872	6.00				73,163	8.00

Common equity tier 1 capital (to risk-weighted assets):
Consolidated		107,397		11.79			40,985	4.50			N/A		N/A
The Company																	116,253		12.43			42,090	4.50			N/A		N/A
Bank		97,864		11.09			39,697	4.50				57,339	6.50				105,335		11.52			41,154	4.50				59,445	6.50

Tier I capital (to average assets):
Consolidated		107,397		9.20			46,655	4.00			N/A		N/A
The Company																	116,253		9.67			48,095	4.00			N/A		N/A
Bank		97,864		8.46			46,262	4.00				57,827	5.00				105,335		8.84			47,667	4.00				59,584	5.00

The Company generally fully satisfies its performance obligations on its contracts with customers as services are rendered and the transaction prices are typically fixed; charged either on a periodic basis or based on activity. Because performance obligations are satisfied as services are rendered and the transaction prices are fixed, there is little judgment involved in applying Topic 606 that significantly affects the determination of the amount and timing of revenue from contracts with customers. The main types of revenue contracts included in non-interest income within the consolidated statements of operations are as follows:

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

QNB Corp. is a bank holding company headquartered in Quakertown, Pennsylvania. QNB Corp., through its wholly-owned subsidiary, the Bank, has been serving the residents and businesses of upper Bucks, northern Montgomery and southern Lehigh counties in Pennsylvania since 1877. Due to its limited geographic area, growth is pursued through expansion of existing customer relationships and building new relationships by stressing a consistent high level of service at all points of contact. The Bank is a locally managed community bank that provides a full range of commercial and retail banking and retail brokerage services. The consolidated entity is referred to herein as “QNB” or the “Company”.

Tabular information presented throughout management’s discussion and analysis, other than share and per share data, is presented in thousands of dollars.

In addition to historical information, this document contains forward-looking statements. Forward-looking statements are typically identified by words or phrases such as “believe,” “expect,” “anticipate,” “intend,” “estimate,” “project” and variations of such words and similar expressions, or future or conditional verbs such as “will,” “would,” “should,” “could,” “may” or similar expressions. The U.S. Private Securities Litigation Reform Act of 1995 provides safe harbor in regard to the inclusion of forward-looking statements in this document and documents incorporated by reference.

Shareholders should note that many factors, some of which are discussed elsewhere in this document and in the documents that are incorporated by reference, and including the risk factors identified in Item 1A of QNB’s ~~2017~~2018 Form 10-K, could affect the future financial results of ~~the Company~~QNB Corp. and its subsidiary and could cause those results to differ materially from those expressed in the forward-looking statements contained or incorporated by reference in this document. These factors include, but are not limited, to the following:

QNB cautions that these forward-looking statements are subject to numerous assumptions, risks and uncertainties, all of which change over time, and QNB assumes no duty to update forward-looking statements. Management cautions readers not to place undue reliance on any forward-looking statements. These statements speak only as of the date of this report on Form 10-Q, even if subsequently made available by QNB on its website or otherwise, and they advise readers that various factors, including those described above, could affect QNB’s financial performance and could cause actual results or circumstances for future periods to differ materially from those anticipated or projected. Except as required by law, QNB does not undertake, and specifically disclaims any obligation, to publicly release any revisions to any forward-looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.

The discussion and analysis of the financial condition and results of operations are based on the consolidated financial statements of QNB, which are prepared in accordance with U.S. generally accepted accounting principles ~~(GAAP)~~(U.S. GAAP) and predominant practices within the banking industry. The preparation of these consolidated financial statements requires QNB to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. QNB evaluates estimates on an on-going basis, including those related to the determination of the allowance for loan losses, the determination of the valuation of other real estate owned and foreclosed assets, other-than-temporary impairments on investment securities, the valuation of deferred tax assets, stock-based compensation and income taxes. QNB bases its estimates on historical experience and various other factors and assumptions that are believed to be reasonable under the circumstances, the results of which

form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

Securities are evaluated periodically to determine whether a decline in their value is other-than-temporary. Management utilizes criteria such as the magnitude and duration of the decline, in addition to the reasons underlying the decline, to determine whether the loss in value is other-than-temporary. The term “other-than-temporary” is not intended to indicate that the decline is permanent, ~~but~~it indicates that the prospect for a near-term recovery of value is not necessarily favorable, or that there is a lack of evidence to support a realizable value equal to or greater than the carrying value of the investment. For equity securities that do not have readily-determinable fair values, once a decline in value is determined to be other-than-temporary, the value of the equity security is reduced and a corresponding charge to earnings is recognized. There were no other-than-temporary impairment charges recorded during the ~~quarter~~three or six months ended June 30, ~~2018~~2019 and ~~2017,~~2018, respectively.

The Company follows accounting guidance related to the recognition and presentation of other-than-temporary impairment that specifies (a) if a company does not have the intent to sell a debt security prior to recovery and (b) it is more likely than not that it will not have to sell the debt security prior to recovery, the security would not be considered other-than-temporarily impaired unless there is a credit loss. When an entity does not intend to sell the security, and it is more likely than not the entity will not have to sell the security before recovery of its cost basis, it will recognize the credit component of an other-than-temporary impairment of a debt security in earnings and the remaining portion in other comprehensive income. There were no credit-related other-than-temporary impairment charges in the ~~quarter~~three or six months ended June 30, ~~2018~~2019 or ~~2017,~~2018, respectively.

The determination of the allowance for loan losses involves a higher degree of judgment and complexity than the Company’s other significant accounting policies. The allowance for loan losses is calculated with the objective of maintaining a level believed by management to be sufficient to absorb probable known and inherent losses in the outstanding loan portfolio. The allowance is reduced by actual credit losses and is increased by the provision for loan losses and recoveries of previous losses. The provisions for loan losses are charged to earnings to bring the total allowance for loan losses to a level considered necessary by management.

The allowance for loan losses is based on management’s continual review and evaluation of the loan portfolio. The level of the allowance is determined by assigning specific reserves to individually identified problem credits and general reserves to all other loans. The portion of the allowance that is allocated to impaired loans is determined by estimating the inherent loss on each credit after giving consideration to the value of underlying collateral or present value of future estimated cash flows. The general reserves are based on the composition and risk characteristics of the loan portfolio, including the nature of the loan portfolio, credit concentration trends, delinquency and loss experience, as well as other qualitative factors such as current economic trends.

Management emphasizes loan quality and close monitoring of potential problem credits. Credit risk identification and review processes are utilized to assess and monitor the degree of risk in the loan portfolio. QNB’s lending and credit administration staff are charged with reviewing the loan portfolio and identifying changes in the economy or in a borrower’s circumstances which may affect the ability to repay debt or the value of pledged collateral. A loan classification and review system exists that identifies those loans with a higher than normal risk of collection. Each commercial loan is assigned a grade based upon an assessment of the borrower’s financial capacity to service the debt and the presence and value of collateral for the loan. An independent loan review group tests risk assessments and evaluates the adequacy of the allowance for loan losses. Management meets monthly to review the credit quality of the loan portfolio and quarterly to review the allowance for loan losses.

In addition, various regulatory agencies, as an integral part of their examination process, periodically review QNB’s allowance for loan losses. Such agencies may require QNB to recognize additions to the allowance based on their judgments about information available to them at the time of their examination.

Management believes that it uses the best information available to make determinations about the adequacy of the allowance and that it has established its existing allowance for loan losses in accordance with U.S. GAAP. If circumstances differ substantially from the assumptions used in making determinations, future adjustments to the allowance for loan losses may be necessary and results of operations could be affected. Because future events affecting borrowers and collateral cannot be predicted with certainty, increases to the allowance may be necessary should the quality of any loans deteriorate as a result of the factors discussed above.

Assets acquired through, or in lieu of, loan foreclosure are held-for-sale and are initially recorded at fair value less cost to sell at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Revenue and expenses and changes in the valuation allowance are included in net expenses from foreclosed assets.

QNB sponsors stock-based compensation plans, administered by a Board committee, under which both qualified and non-qualified stock options may be granted periodically to certain employees. QNB accounts for all awards granted under stock-based compensation plans in accordance with ASC 718, Compensation-Stock Compensation. Compensation cost has been measured using the fair value of an award on the grant date and is recognized over the service period, which is usually the vesting period. The fair value of each option is amortized into compensation expense on a straight-line basis between the grant date for the option and each vesting date. QNB estimates the fair value of stock options on the date of the grant using the Black-Scholes option pricing model. The model requires the use of numerous assumptions, many of which are highly subjective in nature.

QNB accounts for income taxes under the asset/liability method in accordance with income tax accounting guidance, ASC 740, Income Taxes. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, as well as operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is established against deferred tax assets when, in the judgment of management, it is more likely than not that such deferred tax assets will not become available. Because the judgment about the level of future taxable income is dependent on matters that may, at least in part, be beyond QNB’s control, it is at least reasonably possible that management’s judgment about the need for a valuation allowance for deferred tax assets could change in the near term.

QNB reported net income for the second quarter of ~~2018~~2019 of ~~$2,862,000,~~$3,143,000, or ~~$0.82~~$0.90 per share on a diluted basis, compared to net income of ~~$2,386,000,~~$2,862,000, or ~~$0.69~~$0.82 per share on a diluted basis, for the same period in ~~2017.~~2018. For the six-month period ended June 30, ~~2018,~~2019, QNB reported net income of $6,522,000, or $1.86 per share on a diluted basis, compared to net income of $5,797,000, or $1.67 per share on a diluted basis, ~~compared to net income of $5,246,000, or $1.53 per share on a diluted basis,~~ for the same period in ~~2017.~~2018.

Net income expressed as an annualized rate of return on average assets and average shareholders’ equity was 1.05% and 10.91%, respectively, for the quarter ended June 30, 2019 compared with 0.98% and 10.70%, respectively, for the quarter ended June 30, ~~2018 compared with 0.87% and 9.52%, respectively, for the quarter ended June 30, 2017.~~2018. For the six months ended June 30, ~~2018,~~2019, the annualized rate of return on average assets and average shareholders’ equity was ~~1.00%~~1.10% and ~~11.02%~~11.49%, respectively, compared with ~~0.97%~~1.00% and ~~10.62%~~11.02%, for the same period in ~~2017.~~2018.

Total assets as of June 30, ~~2018~~2019 were ~~$1,172,874,000,~~$1,212,005,000, compared with ~~$1,152,337,000~~$1,175,452,000 at December 31, ~~2017.~~2018. Loans receivable at June 30, ~~2018~~2019 were ~~$779,886,000,~~$817,593,000, compared with ~~$733,283,000~~$785,448,000 at December 31, ~~2017,~~2018, an increase of ~~$46,603,000,~~$32,145,000, or ~~6.4%~~4.1%, with commercial lending as the largest contributor to the growth. Total deposits of ~~$985,726,000~~$1,030,661,000 at June 30, ~~2018 decreased $8,222,000,~~2019 increased $15,063,000, or ~~0.8%~~1.5%, compared with total deposits of ~~$993,948,000~~$1,015,598,000 at December 31, ~~2017.~~2018.

Results for the three and six months ended June 30, ~~2018~~2019 include the following significant components:

These items, as well as others, will be explained more thoroughly in the next sections.

QNB ~~Corp.~~ earns its net income primarily through ~~its subsidiary,~~ the Bank. Net interest income, or the spread between the interest, dividends and fees earned on loans and investment securities and the expense incurred on deposits and other interest-bearing liabilities, is the primary source of operating income for QNB. Management seeks to achieve sustainable and consistent earnings growth while maintaining adequate levels of capital and liquidity and limiting its exposure to credit and interest rate risk levels approved by the Board of Directors.

The following table presents the adjustment to convert net interest income to net interest income on a fully taxable-equivalent basis for the three- and six-month periods ended June 30, ~~2018~~2019 and ~~2017. The tax-equivalent adjustments are based on the marginal Federal corporate tax rate of 21% and 34% for three and six months ended June 30, 2018 and 2017, respectively.~~2018.

	Three months ended June 30,				Six months ended June 30,				Three months ended June 30,				Six months ended June 30,
	2018		2017		2018		2017		2019		2018		2019		2018
Total interest income	$	10,562	$	9,192	$	21,071	$	18,328	$	11,712	$	10,562	$	23,001	$	21,071
Total interest expense		1,862		1,334		3,580		2,590		2,601		1,862		5,054		3,580
Net interest income		8,700		7,858		17,491		15,738		9,111		8,700		17,947		17,491
Tax-equivalent adjustment		201		390		402		777		196		201		393		402
Net interest income (fully taxable-equivalent)	$	8,901	$	8,248	$	17,893	$	16,515	$	9,307	$	8,901	$	18,340	$	17,893

Net interest income is the primary source of operating income for QNB. Net interest income is interest income, dividends, and fees on earning assets, less interest expense incurred for funding sources. Earning assets primarily include loans, investment securities, interest bearing balances at the Federal Reserve Bank (Fed) and Federal funds sold. Sources used to fund these assets include deposits and borrowed funds. Net interest income is affected by changes in interest rates, the volume and mix of earning assets and interest-bearing liabilities, and the amount of earning assets funded by non-interest bearing deposits.

For purposes of this discussion, interest income and the average yield earned on loans and investment securities are adjusted to a tax-equivalent basis as detailed in the tables that appear above. This adjustment to interest income is made for analysis purposes only. Interest income is increased by the amount of savings of Federal income taxes, which QNB realizes by investing in certain tax-exempt state and municipal securities and by making loans to certain tax-exempt organizations. In this way, the ultimate economic impact of earnings from various assets can be more easily compared.

The net interest rate spread is the difference between average rates received on earning assets and average rates paid on interest-bearing liabilities, while the net interest rate margin, which includes interest-free sources of funds, is net interest income expressed as a percentage of average interest-earning assets. The Asset/Liability and Investment Management Committee works to manage and maximize the net interest margin for the Company.

Average Balances, Rate, and Interest Income and Expense Summary (Tax-Equivalent Basis)

	Three Months Ended																Three Months Ended
	June 30, 2018								June 30, 2017								June 30, 2019								June 30, 2018
	Average			Average					Average			Average					Average			Average					Average			Average
	Balance			Rate			Interest		Balance			Rate			Interest		Balance			Rate			Interest		Balance			Rate			Interest
Assets
Trading securities	$	—			0.00	%	$	—	$	1,985			4.78	%	$	24
Investment securities (AFS & Equity):
U.S. Treasury																	$	1,935			2.51	%	$	12	$	—			0.00	%	$	—
U.S. Government agencies		72,476			1.79			324		73,007			1.78			325		71,972			1.83			329		72,476			1.79			324
State and municipal		71,528			3.26			584		75,620			3.88			733		53,791			3.60			484		71,528			3.26			584
Mortgage-backed and CMOs		212,076			2.12			1,124		221,045			2.04			1,130		213,688			2.22			1,186		212,076			2.12			1,124
Pooled trust preferred securities		123			4.53			2		2,846			2.27			16		122			4.95			1		123			4.53			2
Corporate debt securities		6,538			2.39			39		8,064			1.98			40		8,020			3.76			75		6,538			2.39			39
Equities		10,109			2.87			72		6,923			3.18			55		8,308			3.16			65		10,109			2.87			72
Total investment securities		372,850			2.30			2,145		387,505			2.37			2,299		357,836			2.41			2,152		372,850			2.30			2,145
Loans:
Commercial real estate		427,120			4.61			4,904		387,959			4.41			4,270		460,836			4.85			5,575		427,120			4.61			4,904
Residential real estate		60,830			3.82			580		49,196			3.84			472		67,168			3.98			669		60,830			3.82			580
Home equity loans		66,298			4.46			736		65,822			3.78			621		68,254			4.72			803		66,298			4.46			736
Commercial and industrial		155,505			4.98			1,930		124,363			4.63			1,437		154,000			5.63			2,161		155,505			4.98			1,930
Consumer loans		7,105			5.95			106		6,494			5.38			87		6,886			6.06			104		7,105			5.95			106
Tax-exempt loans		40,686			3.21			325		34,927			3.97			346		48,429			3.41			411		40,686			3.21			325
Total loans, net of unearned income*		757,544			4.54			8,581		668,761			4.34			7,233		805,573			4.84			9,723		757,544			4.54			8,581
Other earning assets		2,890			5.12			37		9,018			1.18			26		2,945			4.51			33		2,890			5.12			37
Total earning assets		1,133,284			3.81			10,763		1,067,269			3.60			9,582		1,166,354			4.10			11,908		1,133,284			3.81			10,763
Cash and due from banks		11,657								13,213								12,815								11,657
Allowance for loan losses		(8,103	)							(7,766	)							(9,107	)							(8,103	)
Other assets		29,545								29,228								32,344								29,545
Total assets	$	1,166,383							$	1,101,944							$	1,202,406							$	1,166,383

Liabilities and Shareholders' Equity
Interest-bearing deposits:
Interest-bearing demand	$	186,532			0.23	%		108	$	171,584			0.21	%		88	$	213,308			0.48	%		258	$	186,532			0.23	%		108
Municipals		99,001			1.33			328		92,188			0.61			140		104,912			2.03			530		99,001			1.33			328
Money market		77,903			0.32			62		92,866			0.33			76		93,890			0.97			227		77,903			0.32			62
Savings		263,365			0.56			369		253,524			0.44			278		241,445			0.66			397		263,365			0.56			369
Time		121,392			1.25			379		128,394			1.16			372		121,752			1.58			479		121,392			1.25			379
Time of $100,000 or more		105,353			1.58			415		94,741			1.39			328		107,585			1.91			514		105,353			1.58			415
Total interest-bearing deposits		853,546			0.78			1,661		833,297			0.62			1,282		882,892			1.09			2,405		853,546			0.78			1,661
Short-term borrowings		67,841			1.19			201		44,365			0.46			52		57,907			1.36			196		67,841			1.19			201
Total interest-bearing liabilities		921,387			0.81			1,862		877,662			0.61			1,334		940,799			1.11			2,601		921,387			0.81			1,862
Non-interest-bearing deposits		133,454								118,895								139,033								133,454
Other liabilities		4,241								4,846								7,023								4,241
Shareholders' equity		107,301								100,541								115,551								107,301
Total liabilities and shareholders' equity	$	1,166,383							$	1,101,944							$	1,202,406							$	1,166,383
Net interest rate spread					3.00	%							2.99	%							2.99	%							3.00	%
Margin/net interest income					3.15	%	$	8,901					3.10	%	$	8,248					3.20	%	$	9,307					3.15	%	$	8,901

	Six Months Ended																Six Months Ended
	June 30, 2018								June 30, 2017								June 30, 2019								June 30, 2018
	Average			Average					Average			Average					Average			Average					Average			Average
	Balance			Rate			Interest		Balance			Rate			Interest		Balance			Rate			Interest		Balance			Rate			Interest
Assets
Trading securities	$	-			0.00	%	$	-	$	2,393			5.69	%	$	68
Investment securities (AFS & Equity):
U.S. Treasury																	$	973			2.51	%	$	12	$	—			0.00	%	$	—
U.S. Government agencies		72,475			1.79			649		74,540			1.76			657		71,231			1.81			646		72,475			1.79			649
State and municipal		73,127			3.27			1,196		73,823			3.89			1,438		58,475			3.50			1,024		73,127			3.27			1,196
Mortgage-backed and CMOs		215,753			2.11			2,274		222,497			2.05			2,278		211,205			2.21			2,339		215,753			2.11			2,274
Pooled trust preferred securities		179			4.07			4		2,876			1.26			18		122			5.04			3		179			4.07			4
Corporate debt securities		7,290			2.30			84		8,067			1.94			78		8,022			3.77			151		7,290			2.30			84
Equities		9,231			2.91			133		6,881			3.27			112		9,203			3.06			139		9,231			2.91			133
Total investment securities		378,055			2.30			4,340		388,684			2.36			4,581		359,231			2.40			4,314		378,055			2.30			4,340
Loans:																					—
Commercial real estate		424,032			4.65			9,768		381,609			4.57			8,650		452,524			4.82			10,822		424,032			4.65			9,768
Residential real estate		58,958			3.84			1,132		48,370			3.85			930		67,350			3.95			1,329		58,958			3.84			1,132
Home equity loans		66,253			4.35			1,430		66,104			3.82			1,251		68,805			4.73			1,613		66,253			4.35			1,430
Commercial and industrial		155,068			5.08			3,904		118,717			4.65			2,736		156,417			5.52			4,283		155,068			5.08			3,904
Consumer loans		7,010			5.89			205		6,377			5.25			166		6,901			6.13			210		7,010			5.89			205
Tax-exempt loans		39,567			3.23			634		35,117			3.95			689		45,720			3.37			763		39,567			3.23			634
Total loans, net of unearned income*		750,888			4.59			17,073		656,294			4.43			14,422		797,717			4.81			19,020		750,888			4.59			17,073
Other earning assets		4,223			2.86			60		7,540			0.92			34		2,595			4.66			60		4,223			2.86			60
Total earning assets		1,133,166			3.82			21,473		1,054,911			3.65			19,105		1,159,543			4.07			23,394		1,133,166			3.82			21,473
Cash and due from banks		11,486								12,658								12,235								11,486
Allowance for loan losses		(8,086	)							(7,605	)							(9,011	)							(8,086	)
Other assets		28,790								29,032								32,165								28,790
Total assets	$	1,165,356							$	1,088,996							$	1,194,932							$	1,165,356

Liabilities and Shareholders' Equity
Interest-bearing deposits:
Interest-bearing demand	$	183,323			0.22	%		203	$	166,783			0.20	%		168	$	210,876			0.47	%		490	$	183,323			0.22	%		203
Municipals		100,775			1.21			607		89,764			0.53			234		98,965			2.02			991		100,775			1.21			607
Money market		79,938			0.30			120		85,469			0.30			128		100,736			1.03			512		79,938			0.30			120
Savings		261,266			0.54			699		247,317			0.44			537		244,612			0.66			805		261,266			0.54			699
Time		122,641			1.25			757		129,540			1.15			740		119,567			1.51			898		122,641			1.25			757
Time of $100,000 or more		106,555			1.54			814		95,129			1.38			651		105,473			1.86			972		106,555			1.54			814
Total interest-bearing deposits		854,498			0.76			3,200		814,002			0.61			2,458		880,229			1.07			4,668		854,498			0.76			3,200
Short-term borrowings		69,637			1.10			380		52,418			0.51			132		58,542			1.33			386		69,637			1.10			380
Total interest-bearing liabilities		924,135			0.78			3,580		866,420			0.60			2,590		938,771			1.09			5,054		924,135			0.78			3,580
Non-interest-bearing deposits		130,835								118,381								134,802								130,835
Other liabilities		4,313								4,605								6,925								4,313
Shareholders' equity		106,073								99,590								114,434								106,073
Total liabilities and shareholders' equity	$	1,165,356							$	1,088,996							$	1,194,932							$	1,165,356
Net interest rate spread					3.04	%							3.05	%							2.98	%							3.04	%
Margin/net interest income					3.18	%	$	17,893					3.16	%	$	16,515					3.19	%	$	18,340					3.18	%	$	17,893

Tax-exempt securities and loans were adjusted to a tax-equivalent basis and are based on the marginal Federal corporate tax rate of 21 percent ~~and 34 percent~~ for three and six months ended June 30, ~~2018~~2019 and ~~2017, respectively.~~ 2018.

Rate/Volume Analysis. The following table shows the fully taxable equivalent effect of changes in volumes and rates on interest income and interest expense. Changes in net interest income that could not be specifically identified as either a rate or volume change were allocated to changes in volume.

	Three months ended									Six months ended									Three months ended									Six months ended
	June 30, 2018 compared									June 30, 2018 compared									June 30, 2019 compared									June 30, 2019 compared
	to June 30, 2017									to June 30, 2017									to June 30, 2018									to June 30, 2018
	Total			Due to change in:						Total			Due to change in:						Total			Due to change in:						Total			Due to change in:
	Change			Volume			Rate			Change			Volume			Rate			Change			Volume			Rate			Change			Volume			Rate
Interest income:
Trading securities	$	(24	)	$	(24	)	$	—		$	(68	)	$	(68	)	$	—
Investment securities (AFS & Equity):
U.S. Treasury																			$	12		$	—		$	12		$	12		$	—		$	12
U.S. Government agencies		(1	)		(3	)		2			(8	)		(18	)		10			5			(1	)		6			(3	)		(11	)		8
State and municipal		(149	)		(39	)		(110	)		(242	)		(13	)		(229	)		(100	)		(145	)		45			(172	)		(240	)		68
Mortgage-backed and CMOs		(6	)		(46	)		40			(4	)		(69	)		65			62			9			53			65			(48	)		113
Pooled trust preferred securities		(14	)		(15	)		1			(14	)		(17	)		3			(1	)		(1	)		—			(1	)		(2	)		1
Corporate debt securities		(1	)		(8	)		7			6			(7	)		13			36			9			27			67			8			59
Equities		17			25			(8	)		21			37			(16	)		(7	)		(13	)		6			6			—			6
Total Investment securities (AFS & Equity)		(154	)		(86	)		(68	)		(241	)		(87	)		(154	)		7			(142	)		149			(26	)		(293	)		267
Loans:
Commercial real estate		634			431			203			1,118			961			157			671			387			284			1,054			656			398
Residential real estate		108			112			(4	)		202			203			(1	)		89			61			28			197			162			35
Home equity loans		115			4			111			179			3			176			67			22			45			183			55			128
Commercial and industrial		493			360			133			1,168			838			330			231			(21	)		252			379			31			348
Consumer loans		19			9			10			39			17			22			(2	)		(4	)		2			5			(3	)		8
Tax-exempt loans		(21	)		56			(77	)		(55	)		87			(142	)		86			62			24			129			99			30
Total Loans		1,348			972			376			2,651			2,109			542			1,142			507			635			1,947			1,000			947
Other earning assets		11			(17	)		28			26			(15	)		41			(4	)		—			(4	)		—			(23	)		23
Total interest income		1,181			845			336			2,368			1,939			429			1,145			365			780			1,921			684			1,237
Interest expense:
Interest-bearing deposits:
Interest-bearing demand		20			8			12			35			17			18			150			16			134			287			31			256
Municipals		188			11			177			373			29			344			202			19			183			384			(12	)		396
Money market		(14	)		(12	)		(2	)		(8	)		(7	)		(1	)		165			12			153			392			30			362
Savings		91			11			80			162			31			131			28			(31	)		59			106			(44	)		150
Time		7			(20	)		27			17			(40	)		57			100			2			98			141			(18	)		159
Time of $100,000 or more		87			35			52			163			78			85			99			9			90			158			(9	)		167
Total interest-bearing deposits		379			33			346			742			108			634			744			27			717			1,468			(22	)		1,490
Short-term borrowings		149			27			122			248			43			205			(5	)		(29	)		24			6			(61	)		67
Total interest expense		528			60			468			990			151			839			739			(2	)		741			1,474			(83	)		1,557
Net interest income	$	653		$	785		$	(132	)	$	1,378		$	1,788		$	(410	)	$	406		$	367		$	39		$	447		$	767		$	(320	)

Average earning assets for the second quarter of ~~2018~~2019 were ~~$1,133,284,000,~~$1,166,354,000, an increase of ~~$66,015,000,~~$33,070,000, or ~~6.2%~~2.9%, from the second quarter of ~~2017,~~2018, with average loans increasing ~~$88,783,000,~~$48,029,000, or ~~13.3%~~6.3%, and average investment securities decreasing ~~$16,640,000,~~$15,014,000, or ~~4.3%~~4.0%, over the same period. Growth in the loan portfolio supports ~~net~~ interest income and the net interest margin as loans generally earn a higher yield than investment securities. Average loans as a percent of average earning assets were 69.1% for the second quarter of 2019, compared with 66.8% for the second quarter of ~~2018, compared with 62.7% for the second quarter of 2017.~~2018. On the funding side, average deposits increased ~~$34,808,000,~~$34,925,000, or ~~3.7%~~3.5%, to ~~$987,000,000~~$1,021,925,000 for the second quarter of ~~2018 with~~2019 primarily due to growth in ~~all categories except~~interest bearing demand and money ~~markets and time deposits less than $100,000.~~market accounts. Customers continue to reinvest funds into non-time deposits, as the yield in time deposits remains low and customers prefer to keep their funds liquid to capitalize on rising rates. Average borrowed funds for the second quarter of ~~2018 increased $23,476,000,~~2019 decreased $9,934,000, to ~~$67,841,000,~~$57,907,000, which consisted of average commercial repurchase agreements of ~~$37,484,000~~$39,311,000 and average overnight borrowings of

$~~30,357,000.~~18,596,000. For the same period in ~~2017,~~2018, borrowings consisted of average commercial repurchase agreements of ~~$40,216,000~~$37,484,000 and average overnight borrowings of ~~$4,149,000.~~$30,357,000.

The net interest margin for the second quarter of ~~2018 increased five basis points~~2019 was 3.20% compared to 3.15% ~~compared to~~, for the same period in ~~2017.~~2018. While competition for quality loans in our local market continues to exert pressure on the net interest margin, ~~three~~ increases in the prime ~~lending~~ rate ~~since June 30, 2017~~during 2018 have provided increased interest income ~~on variable rate loans,~~ and ~~moderate~~ competitive pricing pressure on deposits.

The Rate-Volume Analysis tables, as presented on a tax-equivalent basis, highlight the impact of changing rates and volumes on interest income and interest expense. Total interest income on a tax-equivalent basis increased ~~$1,181,000,~~$1,145,000, or ~~12.3%~~10.6%, to ~~$10,763,000~~$11,908,000 for the second quarter of ~~2018;~~2019; total interest expense increased ~~$528,000,~~$739,000, or ~~39.6%~~39.7%, to ~~$1,862,000. The~~$2,601,000. Increased yield on earnings assets and growth in earning assets contributed to the increase in interest ~~income was due to growth in loans.~~income. All categories of interest-bearing deposits ~~except money markets,~~ experienced higher rates in the second quarter of ~~2018~~2019 compared to second quarter of ~~2017,~~2018, due to rate increases for municipal deposits indexed to Fed Funds, and a ~~15-basis~~10-basis point rate increase to the eSavings and Rewards checking products and a five- to ten-basis point increase in the top tiers of the Money Market product since June 30, ~~2017.~~2018.

The yield on earning assets on a tax-equivalent basis increased 2129 basis points from ~~3.60% for the second quarter of 2017 to~~ 3.81% for the second quarter of ~~2018.~~2018, to 4.10% for the second quarter of 2019. The cost of interest-bearing liabilities was ~~0.81%~~1.11% for the second quarter ended June 30, ~~2018,~~2019, compared with ~~0.61%~~0.81% for the same period in ~~2017.~~2018.

Interest income on investment securities (available-for-sale and equity) ~~decreased $154,000~~increased $7,000 when comparing the quarters ended June 30, ~~2018~~2019 and ~~2017.~~2018. The average yield on the investment portfolio was ~~2.30% for the first quarter of 2018 compared with 2.37%~~2.41% for the second quarter of ~~2017.~~2019 compared with 2.30% for the second quarter of 2018. Proceeds from sales, payments, calls and maturities, net of purchases, were utilized to grow the loan portfolio at higher yields than the investment ~~portfolio.~~ portfolio with any excess funds reinvested in higher yielding investments.

Income on U.S. Treasury securities increased $12,000, due to volume as proceeds from sales of equities were invested in U.S. Treasuries. Income on U.S. Government agency securities increased $5,000 as the rate increased four-basis points.

Interest income on ~~trading~~tax-exempt municipal securities decreased $24,000, as the portfolio was sold in 2017, reducing the $1,985,000 second quarter 2017 average balance to $0 in 2018. Decreased interest income on U.S. Government agencies of $1,000 was primarilydeclined due to a ~~decrease in volume of $531,000.~~

Tax-exempt municipal securities experienced a decrease in yield due to the 2017 Tax Reform Act of approximately 62 basis points and is the primary contributing factor to the $149,000 decline in interest income; also contributing was a$17,737,000 decrease in average ~~balances of $4,092,000. QNB had purchased many~~balances. This was partially offset by a 34-basis point increase in yield. Proceeds from matured, called and sold municipal securities ~~when rates~~ were ~~significantly higher. Many of these bonds have either reached maturity or their call dates~~invested in slightly higher yielding municipal securities and ~~are being replaced with municipal bonds with lower yields.~~used to grow the loan portfolio. Typically, QNB purchases municipal bonds with 10-15 year maturities with call dates between 2-5 years. The yield on this portfolio is expected to continue to decline as additional higher yielding municipal bonds are expected to be called or mature during 2018. The current yield on replacement bonds is well below the yield of the bonds being called or maturing.

Interest income on mortgage-backed securities and CMOs ~~decreased $6,000~~increased $62,000 with ~~an eight-basis~~a ten-basis point increase in average yield ~~which partially offset the $8,969,000 decrease~~and a $1,612,000 increase in average balances. This portfolio generally provides higher yields relative to agency bonds and also provides monthly cash flow which can be used for liquidity purposes or can be reinvested ~~when~~as interest rates ~~eventually~~ increase. ~~Mortgage refinancing activity over the past three years was significant resulting in an increase in prepayments on these securities.~~ Since most of these securities were purchased at a premium, any prepayments result in a shorter amortization period of this premium and therefore a reduction in income.

~~Dividends~~Interest income on ~~equity~~corporate debt securities increased ~~$17,000, as the average balance increased $3,186,000, or 46.0%, more than offset the decrease~~$36,000 due to an increase in ~~yield~~rate of 31137 basis points ~~when comparing the quarters ended June 30, 2018~~ and ~~2017.~~ an increase in volume of $1,482,000.

Income on loans increased ~~$1,348,000~~$1,142,000 to ~~$8,581,000~~$9,723,000 when comparing the second quarters of ~~2018~~2019 and ~~2017,~~2018, with a ~~13.3%~~6.3% growth in average balances contributing an increase in interest income of ~~$972,000.~~$507,000. The yield on loans, at 4.84%, was 30 basis points higher than the second quarter of 2018, contributing to a $635,000 increase in interest income. Despite increases in the prime rate in June, September and December ~~of 2017 and March and June~~ of 2018, competitive pressures ~~result in~~compressed the yields on new loans being ~~originated at lower rates.~~originated. Mitigating competitive pricing, variable rate loans have repriced higher.

The largest category of the loan portfolio is commercial real estate loans. This category of loans includes commercial purpose loans secured by either commercial properties such as office buildings, factories, warehouses, medical facilities and retail establishments, or residential real estate, usually the residence of the business owner. The category also includes construction and land development loans. Income on commercial real estate loans increased ~~$634,000~~$671,000 when comparing the second quarters of 2019 and 2018, primarily due to the ~~10.1%~~7.9% increase in average balances. Average balances increased ~~$39,161,000,~~$33,716,000, to ~~$427,120,000~~$460,836,000 for the quarter ended June 30, ~~2018~~2019 compared with the same quarter in ~~2017.~~2018. The yield on commercial real estate loans increased 2024 basis points from ~~4.41% in 2017 to~~ 4.61% in 2018 to 4.85% in 2019.

Income on commercial and industrial loans increased $231,000 when comparing the second quarters of 2019 and 2018. The average yield on these loans increased 66 basis points to 5.63% resulting in an increase in income of $252,000; this was partially offset by a

~~Income on commercial and industrial loans increased $493,000. Average~~decrease in average balances ~~increased $31,142,000,~~of $1,505,000, or ~~25.0%~~1.0%, to ~~$155,505,000~~$154,000,000 for the second quarter of ~~2018~~2019 resulting in a ~~$360,000 increase~~$21,000 decrease in income. ~~The average yield on these loans increased 35 basis points to 4.98% resulting in an increase in income of $133,000.~~ Many of the loans in this category are indexed to the prime interest rate, which increased by 7550 basis points since June 30, ~~2017.~~2018.

Tax-exempt loan income was ~~$325,000~~$411,000 for the second quarter of ~~2018, a decrease~~2019, an increase of ~~$21,000~~$86,000 from the same period in ~~2017. As with municipal marketable securities, there was a decrease~~2018. Average balances increased $7,743,000, or 19.0%, to $48,429,000 for the second quarter of 2019, resulting in ~~yield due to the 2017 Tax Reform Act.~~an increase of $62,000 in income. The yield on municipal loans ~~decreased 76~~increased 20 basis points, to ~~3.21%~~3.41% for the second quarter of ~~2018,~~2019, compared with the same period in ~~2017, resulting in decrease of $77,000 in interest income. This was partially offset by an increase in average balances of $5,759,000, or 16.5%, to $40,686,000 for the second quarter of~~ 2018, resulting in an increase of ~~$56,000~~$24,000 in interest income.

QNB desires to become the “local consumer lender of choice” and to effect this QNB refocused its retail lending efforts, adding new product offerings and increasing marketing and promotion. The positive impact of this focus has been year-over-year growth in balances in overall retail lending: residential mortgage, home equity and consumer loans. Average residential mortgage loans secured by first lien 1-4 family residential mortgages increased by ~~$11,634,000,~~$6,338,000, or ~~23.6%~~10.4%, to ~~$60,830,000~~$67,168,000 for the second quarter of ~~2018~~2019 compared to the same period in ~~2017.~~2018. Over this same timeframe, the average yield on the portfolio ~~decreased two~~increased 16 basis points to ~~3.82%~~3.98% for the second quarter of ~~2018.~~2019. The combined result was ~~a net increase in interest income of $108,000. Average home equity loans increased slightly by $476,000, or 0.7%, to $66,298,000 while the average yield increased 68 basis points to 4.46% resulting in~~ an increase in interest income of ~~$115,000.~~$89,000. Average ~~consumer~~home equity loans increased ~~$611,000,~~by $1,956,000, or ~~9.4%~~3.0%, to ~~$7,105,000~~$68,254,000 and the average yield increased 26 basis points to 4.72% resulting in a combined increase in interest income of $67,000. The yield on the consumer portfolio increased 5711 basis points to ~~5.95%~~6.06% for the second quarter of ~~2018~~2019 offset by a slight decrease in average balances resulting in a combined ~~$19,000 increase~~$2,000 decrease in interest income.

Earning assets are funded by deposits and borrowed funds. Interest expense increased ~~$528,000,~~$739,000, when comparing the second quarter of ~~2018~~2019 to the same period in ~~2017.~~2018. The growth in average deposits continues to be centered in accounts with greater liquidity, such as non-interest and interest-bearing demand, and ~~savings~~money market deposits. Average non-interest-bearing demand accounts increased ~~$14,559,000,~~$5,579,000, or ~~12.2%~~4.2%, to ~~$133,454,000~~$139,033,000 for the second quarter of ~~2018.~~2019. QNB has been successful in increasing both personal and business checking accounts. Average interest-bearing demand accounts increased ~~$14,948,000,~~$26,776,000, or ~~8.7%~~14.4%, to ~~$186,532,000~~$213,308,000 for the second quarter of ~~2018.~~2019. Interest expense on interest-bearing demand accounts increased ~~$20,000~~$150,000 to ~~$108,000~~$258,000 for the same period, as the average rate paid increased ~~two~~25 basis points to ~~0.23%~~0.48% for the second quarter of ~~2018.~~2019. Included in this category is QNB-Rewards checking, a higher-rate checking account product that pays ~~1.25%~~1.35% on balances up to $25,000 and 0.40% for balances over $25,000. In order to receive the high rate a customer must receive an electronic statement, have one direct deposit or other ACH transaction and have at least 12 check card purchase transactions post and clear per statement cycle. For the second quarter of ~~2018,~~2019, the average balance in this product was ~~$56,627,000~~$60,519,000 and the related interest expense was ~~$85,000~~$101,000 for an average yield of ~~0.60%~~0.67%. In comparison, the average balance of the QNB-Rewards accounts for the second quarter of ~~2017~~2018 was ~~$51,815,000~~$56,627,000 with a related interest expense of ~~$70,000~~$85,000 and an average rate paid of ~~0.54%~~0.60%. This product also generates fee income through the use of the check card. The average balance of other interest-bearing demand accounts included in this category increased from $119,769,000 for the second quarter of 2017 to $129,905,000 for the second quarter of 2018. The average rate paid on these balances was 0.07% for the 2018 quarter compared to 0.06% for the same period in 2017.

Interest expense on municipal interest-bearing demand accounts increased ~~$188,000~~$202,000 to ~~$328,000~~$530,000 for the second quarter of ~~2018.~~2019. The average ~~balance of~~interest rate paid on municipal interest-bearing demand accounts increased ~~$6,813,000, or 7.4%, to $99,001,000, with the average interest rate paid on these accounts increasing 72~~70 basis points to ~~1.33%~~2.03% for the second quarter of ~~2018.~~2019 and average balances increased $5,911,000, or 6.0%, to $104,912,000. Many of these accounts are indexed to the Federal funds rate with rate floors between 0.25% and 0.50%; therefore the increases in the Federal funds rate affected the yield of these deposits. Municipal deposits are seasonal in nature and are received during the second and third ~~quarter~~quarters as tax receipts are collected and are withdrawn over the course of the next year.

Average money market accounts ~~decreased $14,963,000,~~increased $15,987,000, or ~~16.1%~~20.5%, to ~~$77,903,000~~$93,890,000 for the second quarter of ~~2018~~2019 compared with the same period in ~~2017.~~2018. Interest expense on money market accounts ~~decreased $14,000~~increased $165,000 to ~~$62,000, while~~$227,000, and the average interest rate paid on money market accounts ~~decreased one~~increased 65 basis ~~point~~points to ~~0.32%~~0.97% for the second quarter of ~~2018.~~2019. Most of the balances in this category are in a product that pays a tiered rate based on account balances.

Interest expense on savings accounts increased ~~$91,000~~$28,000 when comparing the second quarter of ~~2018~~2019 to the second quarter of ~~2017,~~2018, and the average rate increased 1210 basis points to ~~0.56%~~0.66% when comparing both periods. When comparing these same periods, average savings accounts ~~increased $9,841,000,~~decreased $21,920,000, or ~~3.9%~~8.3%, to ~~$263,365,000~~$241,445,000 for the second quarter of ~~2018 with both~~2019 primarily due to decreases in the ~~statement savings and~~ e-Savings ~~products accounting for the growth in savings balances.~~product. QNB’s online e-Savings product is the largest category of savings

deposits, with average balances for the second quarter of ~~2018~~2019 of ~~$190,063,000. This product has grown successfully since its introduction~~$170,291,000 compared to $190,063,000 in the ~~third quarter~~same period of ~~2009.~~2018. The average yield paid on these accounts was ~~0.71%~~0.86% for the ~~first~~second quarter of ~~2018~~2019 and ~~0.55%~~0.71% for the same period in ~~2017.~~2018. Traditional statement savings accounts, passbook savings and club accounts are also included in the savings category and average balances in these types of savings accounts ~~increased $4,439,000, or 6.4%,~~decreased $2,148,000 when comparing the ~~first~~second quarter of ~~2018~~2019 average to the same period in ~~2017.~~2018.

Interest expense on ~~total~~ time deposits totaled ~~$794,000~~$993,000 for the second quarter of ~~2018~~2019 compared to ~~$700,000~~$794,000 in ~~2017.~~2018. Average total time deposits increased ~~by $3,610,000~~$2,592,000 to ~~$226,745,000~~$229,337,000 for the second quarter of ~~2018.~~ 2019. As with fixed-rate loans and investment securities, ~~time~~these deposits reprice over time and, therefore, have less of an immediate impact on costs in either a rising or falling rate environment, however, the maturity and repricing characteristics of time deposits tend to be shorter. The average rate paid on total time deposits increased 1434 basis points from ~~1.26%~~1.40% to ~~1.40%~~1.74% when comparing the second quarter of ~~2017~~2018 to the same period in ~~2018.~~2019.

Approximately ~~$92,217,000,~~$130,351,000, or ~~41%~~56%, of time deposits at June 30, ~~2018~~2019 will mature over the next 12 months. The average rate paid on these time deposits is approximately ~~0.92%~~1.69%. The yield on the time deposit portfolio may change slightly in the next quarter as short-term time deposits reprice. However, given the short-term nature of these deposits, interest expense may increase if short-term time deposit rates were to increase suddenly or if customers select higher paying ~~longer-term~~ time deposits.

Short-term borrowings are primarily comprised of sweep accounts structured as repurchase agreements with our commercial customers and overnight FHLB borrowings. Interest expense on short-term borrowings ~~increased $149,000~~decreased $5,000 for the second quarter of ~~2018~~2019 to ~~$201,000~~$196,000 when compared to the same period in ~~2017.~~2018. When comparing these same periods, average balances ~~increased~~decreased from ~~$23,476,000~~$67,841,000 to ~~$67,841,000, primarily~~$57,907,000 due to ~~an increase~~a decrease in average FHLB borrowings of ~~$26,199,000, while the~~$11,761,000, with a 63-basis point increase in rate, and an increase in repurchase agreement average balances of $1,827,000, with a rate ~~paid increased 73~~increase of 24 basis ~~points to 1.19% for the second quarter of 2018.~~points.

For the six-month period ending June 30, ~~2018~~2019 average earning assets increased ~~$78,255,000,~~$26,377,000, or ~~7.4%~~2.3%, to ~~$1,133,166,000,~~$1,159,543,000, with average loans increasing ~~14.4%~~6.2% and average investment securities decreasing ~~3.3%~~5.0%. Average total deposits increased ~~$52,950,000,~~$29,698,000, or ~~5.7%~~3.0%, to ~~$985,333,000~~$1,015,031,000 for the six-month period ended June 30, ~~2018~~2019 compared to the same period in ~~2017.~~2018. The net interest margin on a tax-equivalent basis was ~~3.18%~~3.19% for the six-month period ended June 30, ~~2018,~~2019, a ~~two-basis~~one-basis point increase from the same period in ~~2017.~~2018.

Total interest income on a tax-equivalent basis increased ~~$2,368,000,~~$1,921,000, or ~~12.4%~~8.9%, from ~~$19,105,000~~$21,473,000 to ~~$21,473,000,~~$23,394,000, when comparing the six-month periods ended June 30, ~~2017~~2018 and June 30, ~~2018~~2019 due to the additional interest income generated from the growth in earning assets combined with the impact of improved yields on ~~some of~~ those assets. Interest income increased ~~$1,939,000~~$684,000 as a result of volume increases, and ~~$429,000~~$1,237,000 as a result of better yields. The analysis of the six-month comparison periods is similar to what was described in the quarterly analysis.

The yield on earning assets increased from ~~3.65%~~3.82% to ~~3.82%~~4.07% for the six-month periods with the yield on loans up 1622 basis points to ~~4.59%~~4.81%. QNB continues to experience pressure on yields due to historically low levels of interest rates over the past several years and competitive pressures on loan pricing. The yield on investments ~~including trading securities, decreased eight~~increased 10 basis points from ~~2.38%~~2.30% to ~~2.30%~~2.40% when comparing the six-month periods.

Total interest expense increased ~~$990,000~~$1,474,000 for the six-month period ended June 30, ~~2018~~2019 compared with the same period in ~~2017,~~2018, attributable to the ~~increase in~~shift of deposits into higher-earning interest-bearing DDA, as well as rate increases in the eSavings, Rewards checking, and municipal deposits, which are correlated to changes in the Fed Funds target rate. The average rate paid on interest bearing deposits increased 1531 basis ~~point~~points to ~~0.76%~~1.07% for the six-month period ended June 30, ~~2018~~2019 versus the first half of ~~2017.~~2018. QNB ~~Bank~~ funded growth in loans with net proceeds from investments and growth in deposits; QNB was therefore able to reduce its short-term cash needs ~~with increased~~resulting in decreased Federal Home Loan Bank borrowings in the first half of ~~2018~~2019 compared with the same period in ~~2017; the~~2018. The average balance of total short-term borrowing decreased $11,095,000 whereas the average borrowing rate increased 5923 basis points ~~which also contributed to the~~resulting in a net increase in interest ~~expense.~~expense of $6,000. The yield on interest-bearing liabilities rose 1831 basis points to ~~0.78%~~1.09% for the first half of ~~2018.~~2019.

The provision for loan losses represents management's determination of the amount necessary to be charged to operations to bring the allowance for loan losses to a level that represents management’s best estimate of the known and inherent losses in the existing loan portfolio. Management believes that it uses the best information available to make determinations about the adequacy of the allowance and that it has established its existing allowance for loan losses in accordance with U.S. ~~generally accepted accounting principles (GAAP).~~GAAP. The determination of an appropriate level for the allowance for loan losses is based upon an analysis of the risks inherent in QNB’s loan portfolio. Management, in determining the allowance for loan losses, makes significant estimates and assumptions. Since the allowance for loan losses is dependent, to a great extent, on conditions that may be beyond QNB’s control, it is at least reasonably possible that management’s

estimates of the allowance for loan losses and actual results could differ. In addition, various regulatory agencies, as an integral part of their examination process, periodically review QNB’s allowance for losses on loans. Such agencies may require QNB to recognize changes to the allowance based on their judgments about information available to them at the time of their examination. Actual loan losses, net of recoveries, serve to reduce the allowance.

Management closely monitors the quality of its loan portfolio and performs a quarterly analysis of the appropriateness of the allowance for loan losses. This analysis considers several relevant factors including: specific impairment reserves, historical loan loss experience, general economic conditions, levels of and trends in delinquent and non-performing loans, levels of classified loans, trends in the growth rate of loans and concentrations of credit.

Based on this analysis, QNB recorded ~~$187,000~~$150,000 and $375,000 in provision for loan losses in the ~~second quarter~~three and ~~first~~ six months ~~of 2018,~~ended June 30, 2019, respectively, compared with ~~$300,000~~$187,000 and ~~$600,000~~$375,000 for the same periods in ~~2017, respectively.~~2018. QNB's allowance for loan losses of ~~$8,192,000~~$9,164,000 represents ~~1.05%~~1.12% of loans receivable at June 30, ~~2018~~2019 compared with an allowance for loan losses of ~~$7,841,000,~~$8,834,000, or ~~1.07%~~1.12% of loans receivable, at December 31, ~~2017,~~2018, and ~~$8,035,000,~~$8,192,000, or ~~1.16%~~1.05% of loans receivable at June 30, ~~2017.~~2018. Management believes the allowance for loan losses at June 30, ~~2018~~2019 is adequate as of that date based on its analysis of known and inherent losses in the portfolio.

Net charge-offs were ~~$32,000~~$1,000 and ~~$24,000~~$45,000 compared for the three and six months ended June 30, ~~2018,~~2019, respectively, ~~compared with~~to net ~~recoveries~~charge-offs of ~~$16,000~~$32,000 and ~~$41,000, respectively,~~$24,000 for the same periods in ~~2017.~~2018. Charge-offs of approximately $155,000 during the six months ended June 30, 2019 consisted of commercial loans secured by residential real estate of $36,000, overdraft charge-offs of $40,000, a home equity line of $16,000, student loans of $57,000 and other consumer loans of $6,000. These were partially offset by $110,000 in recoveries comprising $94,000 in repayments from borrowers of previously charged-off credits, and $16,000 related to overdraft recoveries. Annualized net charge-offs as a percentage of average loans receivable were 0% and 0.01% for the three and six months ended June 30, 2019, respectively, compared with annualized charge-offs as a percentage of average loans receivable were 0.02% and 0.01% for the ~~three and six months ended June 30,~~same period in 2018, ~~respectively, compared with annualized recoveries as a percentage of loans receivable of 0.01% for the same periods in 2017.~~respectively.

Non-performing assets ~~of $7,987,000~~were $9,677,000 at June 30, ~~2018 compares favorably with $9,242,000~~2019 compared to $9,638,000 as of December 31, ~~2017~~2018 and ~~$10,846,000~~$7,987,000 as of June 30, ~~2017.~~2018. Total non-performing loans, which represent loans on non-accrual status, loans past due 90 days or more and still accruing interest and restructured loans, were ~~1.02%~~1.18% of loans receivable at June 30, ~~2018~~2019 compared with ~~1.26%~~1.23% of loans receivable at December 31, ~~2017. At~~2018 and 1.02% at June 30, ~~2017, non-performing loans totaled $10,846,000, or 1.56% of loans receivable.~~2018. In cases where there is a collateral shortfall on non-accrual loans, specific impairment reserves have been established based on updated collateral values even if the borrower continues to pay in accordance with the terms of the agreement. At June 30, ~~2018, $3,512,000,~~2019, $2,172,000, or approximately ~~52%,~~28% of the loans classified as non-accrual are current or past due less than 30 days. Loans classified as substandard or doubtful totaled ~~$18,199,000, an increase~~$12,572,000, a decrease of ~~$1,552,000,~~$5,767,000, or ~~9.3%~~31.4%, from the ~~$16,647,000~~$18,339,000 reported at December 31, ~~2017~~2018 and a ~~increase~~decrease of ~~$643,000,~~$5,627,000, or ~~3.7%,~~30.9, from the ~~$17,556,000~~$18,199,000 reported at June 30, ~~2017.~~2018.

QNB had ~~$23,000 in~~no loans past due 90 days or more and still accruing interest at June 30, ~~2018, compared to $0 at~~2019 or December 31, ~~2017~~2018, and $23,000 at June 30, ~~2017.~~2018. Total loans 30 days or more past due, which includes non-accrual loans by actual number of days delinquent, represented ~~0.59%~~0.82% of loans receivable at June 30, ~~2018~~2019 compared with ~~0.58%~~0.76% at December 31, ~~2017~~2018 and ~~0.30%~~0.59% at June 30, ~~2017. The majority of the increase in the ratio of delinquent to total loans is due to one commercial relationship.~~2018.

Troubled debt restructured loans, not classified as non-accrual loans or loans past due 90 days or more and accruing, were $2,009,000 at June 30, 2019, compared with $2,160,000 at December 31, 2018, and $1,233,000 at June 30, ~~2018, compared with $1,321,000 at December 31, 2017, and $1,393,000 at June 30, 2017.~~2018. There ~~was one~~were no newly identified troubled debt restructuring in the six months ended June 30, ~~2018, a non-accruing home equity loan.~~2019. QNB had no other real estate owned or repossessed assets as of June 30, ~~2018,~~2019, December 31, ~~2017,~~2018, or June 30, ~~2017.~~2018.

A loan is considered impaired, based on current information and events, if it is probable that QNB will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not

classified as impaired. Management determines the significance of payment delays and shortfalls on a case-by-case basis, taking into consideration all the circumstances surrounding the loan and the borrower, including length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis for commercial loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral, if the loan is collateral dependent.

~~The following table shows detailed information and ratios pertaining to the Company’s loan and asset quality:~~

~~An analysis of net loan recoveries for the three and six months ended June 30, 2018 compared to 2017 is as follows:~~

The following table shows detailed information and ratios pertaining to the Company’s loan and asset quality:

An analysis of net loan recoveries for the three and six months ended June 30, 2019 compared to 2018 is as follows:

At June 30, ~~2018~~2019 and December 31, ~~2017,~~2018, the recorded investment in loans for which impairment has been identified totaled ~~$11,989,000~~$9,937,000 and ~~$13,584,000~~$16,482,000 of which ~~$10,335,000~~$5,310,000 and ~~$11,125,000,~~$11,763,000, respectively, required no specific allowance for loan loss. The recorded investment in impaired loans requiring an allowance for loan losses was ~~$1,654,000~~$4,627,000 and ~~$2,459,000~~$4,719,000 at June 30, ~~2018~~2019 and December 31, ~~2017,~~2018, respectively, and the related allowance for loan losses associated with these loans was ~~$1,208,000~~$2,166,000 and ~~$1,392,000,~~$1,664,000, respectively. Most of the loans that have been identified as impaired are collateral-dependent. See Note 8 to the Notes to Consolidated Financial Statements for additional detail of impaired loans.

Non-Interest Income Comparison
	Three months				Change from						Six months					Change from						Three months					Change from						Six months					Change from
	ended June 30,				prior year						ended June 30,					prior year						ended June 30,					prior year						ended June 30,					prior year
	2018		2017		Amount			Percent			2018			2017		Amount			Percent			2019			2018		Amount			Percent			2019		2018			Amount			Percent
Net gain on sales of investment securities	$	48	$	115	$	(67	)		-58.3	%	$	133		$	864	$	(731	)		-84.6	%	$	584		$	48	$	536		N/M			$	590	$	133		$	457		N/M
Unrealized gain (loss) on investment equity securities		41		—		41		N/M				(205	)		—		(205	)	N/M
Net gain on trading activity		—		10		(10	)	N/M				—			27		(27	)	N/M
Unrealized (loss) gain on investment equity securities																							(405	)		41		(446	)	N/M				571		(205	)		776		N/M
Fees for services to customers		408		421		(13	)		(3.1	)		829			813		16			2.0			422			408		14			3.4	%		815		829			(14	)		-1.7	%
ATM and debit card		487		449		38			8.5			917			866		51			5.9			519			487		32			6.6			989		917			72			7.9
Retail brokerage and advisory		105		104		1			1.0			208			207		1			0.5			133			105		28			26.7			274		208			66			31.7
Bank-owned life insurance		69		120		(51	)		(42.5	)		137			191		(54	)		(28.3	)		70			69		1			1.4			138		137			1			0.7
Merchant		82		92		(10	)		(10.9	)		156			172		(16	)		(9.3	)		99			82		17			20.7			174		156			18			11.5
Net gain on sale of loans		37		201		(164	)		(81.6	)		44			251		(207	)		(82.5	)		28			37		(9	)		(24.3	)		49		44			5			11.4
Other		177		103		74			71.8			302			214		88			41.1			204			177		27			15.3			363		302			61			20.2
Total	$	1,454	$	1,615	$	(161	)		-10.0	%	$	2,521		$	3,605	$	(1,084	)		-30.1	%	$	1,654		$	1,454	$	200			13.8	%	$	3,963	$	2,521		$	1,442			57.2	%

Total non-interest income for the second quarter of ~~2018~~2019 was ~~$1,454,000, a decrease~~$1,654,000, an increase of ~~$161,000,~~$200,000, compared to ~~$1,615,000~~$1,454,000 for the second quarter of ~~2017.~~2018. Excluding net gains and net unrealized gains (losses) on investment securities ~~trading activities~~ and the gain on sale of loans for both periods, total non-interest income ~~increased 3.0% to~~was $1,447,000 and $1,328,000 for the ~~second quarter of~~quarters ended June 30, 2019 and 2018, ~~compared to $1,289,000 for the second quarter of 2017.~~respectively.

Net gains on sales investment securities ~~decreased $67,000~~increased $536,000 from ~~$115,000 in second quarter of 2017 to~~ $48,000 in second quarter of ~~2018.~~2018 to $584,000 in second quarter of 2019. Gain on investments are primarily derived from sale of equity securities. Market conditions in the equities market for the quarter ended June 30, 2018 versus the same period in 2017 resulted in fewer opportunities for profitable sales. The adoption of Accounting Standard Update 2016-01 (ASU 2016-01) effective January 1, 2018 requires the Company to record unrealized gains or losses on equity securities through earnings, rather than in other comprehensive income (loss), a component of shareholders’ equity. UnrealizedNet gains on sales of equity securities were ~~$41,000~~$584,000 for the second quarter of 2019 compared to $44,000 for the same period in 2018. ~~The Bank redeemed the trading investment portfolio in its entirety during~~During the second quarter of ~~2017, therefore no income~~2019, unrealized losses of $405,000 were recorded compared to unrealized gains of $41,000 in ~~2018 compared with~~ the same period ~~in 2017.~~of 2018.

QNB originates residential mortgage loans for sale in the secondary market. Net gain on sale of ~~residential mortgage~~ loans decreased ~~$65,000~~$9,000 when comparing the two periods. The net gain on residential mortgage sales is directly related to the volume of mortgages sold and the timing of the sales relative to the interest rate environment. Residential mortgage loans to be sold are identified at origination. Proceeds from the sale of residential mortgages were ~~$1,344,000~~$1,189,000 and ~~$2,652,000~~$1,344,000 for the second quarters of 2019 and 2018, ~~and 2017,~~ respectively. ~~QNB recognized a $99,000 gain on sale of a non-performing loan during the second quarter of 2017.~~

Fees for services to customers ~~decreased $13,000,~~increased $14,000, or ~~3.1%~~3.4%, to ~~$408,000 at June 30, 2018,~~$422,000 for the second quarter of 2019, due primarily to an ~~decrease~~increase in net overdraft income. ATM and debit card income increased ~~$38,000,~~$32,000, or ~~8.5%~~6.6%, to ~~$487,000~~$519,000 for the second quarter of ~~2018,~~2019, compared to the same period in ~~2017,~~2018, due to increases in card-based transactions and expansion of checking account households.

~~Bank-owned life insurance included a life insurance benefit of $51,000 in~~QNB provides securities and advisory services under the name QNB Financial Services. Retail brokerage and advisory fees increased $28,000, or 26.7%, to $133,000 for the second quarter of ~~2017. Other non-interest income~~2019 compared to the same period in 2018. During 2018, there was a transition to move toward advanced advisory fees based on assets under management in lieu of fees per transaction. Advisory fees increased ~~$74,000,~~$32,000, or ~~71.8%, due to~~41.6% comparing second quarters of 2019 and 2018, partially offset by a ~~sales tax refund~~decline in transaction-based fees of ~~$57,000 in 2018, increased letter of credit income and mortgage servicing fees.~~$4,000.

Other non-interest income increased $27,000, or 15.3%. Other non-interest income includes a $58,000 deferred gain on the sale of a bank-financed other real estate owned property and $18,000 broker-dealer conversion cost reimbursement in the second quarter of 2019. Other non-interest income for the second quarter of 2018 included a sales tax refund of $53,000.

Total non-interest income for the six-month periods ended June 30, 2019 and 2018 was $3,963,000 and ~~2017 was~~ $2,521,000, ~~and $3,605,000,~~ respectively, ~~a decrease~~an increase of ~~$1,084,000,~~$1,442,000, or ~~30.1%~~57.2%. Excluding net gains and unrealized gain and losses on investment securities ~~trading activities~~ and loans for both periods total non-interest income was $2,753,000 and $2,549,000, ~~and $2,463,000,~~respectively, an increase of ~~$86,000.~~$204,000.

Net investment securities gains ~~decreased $731,000~~increased $457,000 to ~~$133,000~~$590,000 for the six months ended June 30, ~~2018~~2019 compared to ~~$864,000~~$133,000 for the comparable six months in ~~2017.~~2018. Market conditions in the equities market for the six months ended June 30, ~~2018~~2019 versus the same period in ~~2017~~2018 resulted in ~~fewer~~greater opportunities for profitable sales. Under ASU 2016-01, QNB recorded unrealized gains of $571,000 compared to unrealized losses of $205,000 on equity securities ~~of $205,000~~ for the six months ended June 30, ~~2018.~~2019 and 2018, respectively.

~~Excluding the $99,000 gain on note sale during 2017, net~~Net gains on ~~the sale~~sales of loans ~~decreased $108,000~~increased to $49,000 from $44,000, when comparing the six months ended June 30, ~~2018~~2019 to the same period in ~~2017.~~2018. Proceeds from the sale of residential mortgages were ~~$1,949,000~~$1,864,000 and ~~$4,675,000~~$1,949,000 for the six-month periods ended June 30, ~~2018~~2019 and ~~2017,~~2018, respectively.

ATM and debit card and merchant income increased $72,000 and ~~fees for services to customers increased~~$18,000, respectively, for the first six months of ~~2018~~2019 compared to ~~2017,~~2018, for reasons detailed in the quarterly comparison.

Retail brokerage and advisory increased $66,000, or 31.7%, to $274,000 for the six months ended June 30, 2019 compared to the same period in 2018; advisory fees increased $86,000, or 58.9% partially offset by a decline in transaction-based fees of $20,000.

Other non-interest income increased $61,000, or 20.2%. Other non-interest income included a $58,000 deferred gain on the sale of a bank-financed other real estate owned property and $47,000 broker-dealer conversion cost reimbursement in the second quarter of 2019. Other non-interest income for the second quarter of 2018 included a sales tax refund of $53,000.

Non-Interest Expense Comparison
	Three months				Change from						Six months				Change from						Three months				Change from						Six months				Change from
	ended June 30,				prior year						ended June 30,				prior year						ended June 30,				prior year						ended June 30,				prior year
	2018		2017		Amount			Percent			2018		2017		Amount			Percent			2019		2018		Amount			Percent			2019		2018		Amount			Percent
Salaries and employee benefits	$	3,627	$	3,237	$	390			12.0	%	$	6,972	$	6,323	$	649			10.3	%	$	3,790	$	3,627	$	163			4.5	%	$	7,571	$	6,972	$	599			8.6	%
Net occupancy		448		425		23			5.4			919		876		43			4.9			506		448		58			12.9			1,011		919		92			10.0
Furniture and equipment		563		456		107			23.5			1,050		885		165			18.6			591		563		28			5.0			1,148		1,050		98			9.3
Marketing		221		307		(86	)		(28.0	)		531		536		(5	)		(0.9	)		263		221		42			19.0			500		531		(31	)		(5.8	)
Third-party services		506		407		99			24.3			916		801		115			14.4			446		506		(60	)		(11.9	)		886		916		(30	)		(3.3	)
Telephone, postage and supplies		173		199		(26	)		(13.1	)		354		399		(45	)		(11.3	)		152		173		(21	)		(12.1	)		351		354		(3	)		(0.8	)
State taxes		164		155		9			5.8			335		348		(13	)		(3.7	)		207		164		43			26.2			378		335		43			12.8
FDIC insurance premiums		146		134		12			9.0			321		275		46			16.7			135		146		(11	)		(7.5	)		265		321		(56	)		(17.4	)
Other		685		622		63			10.1			1,313		1,087		226			20.8			703		685		18			2.6			1,407		1,313		94			7.2
Total	$	6,533	$	5,942	$	591			9.9	%	$	12,711	$	11,530	$	1,181			10.2	%	$	6,793	$	6,533	$	260			4.0	%	$	13,517	$	12,711	$	806			6.3	%

Total non-interest expense was ~~$6,533,000~~$6,793,000 for the second quarter of ~~2018,~~2019, an increase of ~~$591,000,~~$260,000, or ~~9.9%~~4.0%, compared to the second quarter of ~~2017.~~2018.

Salaries and benefits comprise the largest component of non-interest expense. QNB monitors, through the use of various surveys, the competitive salary and benefit information in its markets and makes adjustments when appropriate. Salaries and benefits expense increased ~~$390,000,~~$163,000, or ~~12.0%~~4.5%, to ~~$3,627,000~~$3,790,000 when comparing the two quarters. Salary expense and related payroll taxes increased ~~$167,000,~~

$288,000, or ~~5.9%~~9.6%, to ~~$2,989,000~~$3,277,000 during the second quarter ~~2018~~2019 compared to the same period in ~~2017 due~~2018. Medical premiums, net of employee contributions decreased $161,000 to ~~additions to staff. Benefits expense increased~~ $223,000 ~~or 53.7%, to $638,000, due primarily to increased medical insurance claims~~when comparing the two ~~quarters.~~quarters due to a reduction in medical claims. Retirement plan expense and post-retirement life insurance benefit expense increased $27,000, and $14,000, respectively during the same period.

Net occupancy and furniture and equipment expenses increased $58,000, or 12.9%, and $28,000, or 5.0%, respectively. This is due primarily to increased rent, building repairs and maintenance, depreciation of furniture and equipment and software maintenance expense ~~increased $130,000, or 14.8%, to $1,011,000, due to the relocation~~ of ~~the Warminster loan facility to a new full-service branch, as well as, the renovation of the operations center. Building~~$19,000, $42,000, $36,000, and $25,000, respectively, offset in part by decreased software amortization, and equipment maintenance expense ~~increased $54,000, depreciation expense increased $19,000,~~of $7,000 and ~~computer software amortization and maintenance expense increased $43,000,~~$23,000, respectively, when comparing the two ~~quarters.~~periods. Marketing expense ~~decreased $86,000,~~increased $42,000, or ~~28.0%~~19.0%, to ~~$221,000~~$263,000 for the quarter ended June 30, ~~2018. This was~~2019 due to the timing of sponsorships and ~~donations made in the first quarter of 2018 versus in the second quarter of 2017.~~donations.

Third party services are comprised of professional services, including legal, accounting, auditing and consulting services, as well as fees paid to outside vendors for support services of day-to-day operations. These support services include correspondent banking

services, IT services, statement printing and mailing, investment security safekeeping and supply management services. Third party services expense ~~increased $99,000~~decreased $60,000 when comparing the two periods, due primarily to ~~legal fees and IT services.~~

reduced consulting fees. Telephone and postage and supplies expenses decreased ~~$26,000,~~$21,000, or ~~13.1%~~12.1%, due to ~~decreased data line cost and costs related~~usage. State taxes increased $43,000 due to ~~debit card conversion~~timing of tax credits received in ~~2017.~~2019 versus 2019. FDIC insurance premiums ~~increased $12,000,~~decreased $11,000, or ~~9.0%, due~~7.5%. The FDIC assessment had included an assessment to pay the ~~change~~interest on FICO bonds since the 1990’s. FICO bonds were issued in the late 1980’s to recapitalize the former Federal Savings & Loan Insurance Corporation. The last of these bonds will mature in September 2019 and the last FICO assessment ~~rate for~~was collected on the ~~quarter. Other non-interest expense increased $63,000, or 10.1%, due to training and check card expense.~~ March 29, 2019 assessment invoice.

Total non-interest expense was ~~$12,711,000~~$13,517,000 for the six-month period ended June 30, ~~2018,~~2019, an increase of ~~$1,181,000,~~$806,000, or ~~10.2%~~6.3%, compared to the ~~first half of 2017.~~six months ended June 30, 2018.

Salaries and benefits expense increased ~~$649,000~~$599,000 to ~~$6,972,000~~$7,571,000 for the six months ended June 30, ~~2018~~2019 compared to the same period in ~~2017,~~2018, for the same reasons described in the quarter comparison. Salary and related payroll tax expense increased ~~$316,000,~~$563,000, or ~~5.7%~~9.6%, during the period, to ~~$5,840,000~~$6,403,000 while ~~benefits expense increased $333,000, to $1,132,000, related to increased~~ medical premiums, ~~and post-retirement life insurance expense.~~net of employee contributions, decreased $26,000, to $607,000.

Net occupancy and furniture and equipment expense increased ~~$208,000,~~$190,000, or ~~1.8%~~9.6%, to ~~$1,969,000,~~$2,159,000, and third-party services ~~increased $115,000,~~decreased $30,000, or ~~14.4%~~3.3%, to ~~$916,000~~$886,000 for the six months ended June 30, ~~2018,~~2019, for the same reasons described in the quarter comparison.

Telephone, postage and supplies expenses decreased slightly in the first six months of ~~2018~~2019 compared to ~~2017, and~~2018, FDIC insurance premiums decreased $56,000 and ~~other non-interest expense increased for the first six months ended June 30, 2017,~~marketing decreased $31,000, due to the reasons described in the quarter comparison.

QNB utilizes an asset and liability approach for financial accounting and reporting of income taxes. As of June 30, ~~2018,~~2019, QNB’s net deferred tax asset was ~~$4,523,000.~~$1,528,000. The primary components of deferred taxes are deferred tax assets of ~~$1,720,000~~$1,924,000 relating to the allowance for loan losses ~~$2,548,000~~and $105,000 related to unrealized losses on available for sale ~~securities, and $324,000 related to non-accrual interest income.~~securities. As of December 31, ~~2017,~~2018, QNB’s net deferred tax asset was ~~$3,319,000.~~$3,724,000. The ~~primary difference~~decrease in the balance of net deferred tax assets when comparing June 30, ~~2018~~2019 to December 31, ~~2017~~2018 is ~~the increase in deferred tax asset~~ due to ~~increased~~lower unrealized losses on available for sale securities.

The realizability of deferred tax assets is dependent upon a variety of factors, including the generation of future taxable income, the existence of taxes paid and recoverable, the reversal of deferred tax liabilities and tax planning strategies. Based upon these and other factors, management believes it is more likely than not that QNB will realize the benefits of these remaining deferred tax assets.

Applicable income tax expense was ~~$572,000~~$679,000 for the quarter and ~~$1,129,000~~$1,496,000 for the six months ended June 30, ~~2018,~~2019, compared to ~~$845,000~~$572,000 and ~~$1,967,000~~$1,129,000 for the same periods in 2018. The effective tax rate for second quarter and year-to-date ~~2018~~2019 was ~~16.7%~~17.8% and ~~16.3%~~18.7%, respectively, compared with ~~26.2%~~16.7% and ~~27.3%~~16.3% for the same periods in ~~2017. This decrease~~2018. The increase in effective tax rate in ~~2018~~2019 is due ~~primarily~~ to ~~a reduced corporate~~the state income tax ~~rate from 34%~~provision at the parent company related to ~~21%, resulting from~~ the ~~Tax Cuts~~increase in realized gains on the equities portfolio and ~~Jobs Act, effective January 1, 2018.~~the reduction in tax-exempt net interest income.

Financial service organizations are challenged to demonstrate they can generate sustainable and consistent earnings growth in a dynamic operating environment. Rate competition for quality loans is anticipated to continue through ~~2018.~~2019. It is also anticipated that the rate competition for attracting and retaining deposits ~~will~~may continue ~~to increase~~ in ~~2018, as short-term interest rates increase,~~2019, which could result in a lower net interest margin and a decline in net interest income.

QNB’s primary business is accepting deposits and making loans to meet the credit needs of the communities it serves. Loans are the most significant component of earning assets and growth in loans to small businesses and residents of these communities has been a primary focus of QNB. Inherent within the lending function is the evaluation and acceptance of credit risk and interest rate risk. QNB manages credit risk associated with its lending activities through portfolio diversification, underwriting policies and procedures and loan monitoring practices. QNB is committed to make credit available to its customers.

Total assets at June 30, ~~2018~~2019 were ~~$1,172,874,000~~$1,212,005,000 compared with ~~$1,152,337,000~~$1,175,452,000 at December 31, ~~2017.~~2018. Cash and cash equivalents ~~decreased $4,605,000~~increased $610,000 from ~~$16,331,000~~$13,458,000 at December 31, ~~2017~~2018 to ~~$11,726,000~~$14,068,000 at June 30, ~~2018,~~2019, due primarily to growth in ~~loans.~~deposit balances and paydowns of amortizing mortgage-backed securities during the six months ended June 30, 2019.

The composition of the investment portfolio is essentially unchanged since December 31, ~~2017.~~2018; however, QNB traded out lower-yielding municipal bonds for higher yielding mortgage-backed bonds. The fixed-income securities portfolio represents a significant portion of QNB’s earning assets and is also a primary tool in liquidity and asset/liability management. QNB actively manages its fixed income portfolio to take advantage of changes in the shape of the yield curve and changes in spread relationships in different sectors and for liquidity purposes. Management continually reviews strategies that will result in an increase in the yield or improvement in the structure of the investment portfolio, including monitoring credit and concentration risk in the portfolio. QNB owns one CDO in the form of a pooled trust preferred security, with a fair value of ~~$118,000.~~$108,000. PreTSL IV represents the senior-most obligation of the trust.

Loans receivable grew ~~$46,603,000,~~$32,145,000, or ~~6.4%~~4.1%, with commercial loans increasing ~~$39,685,000,~~$35,372,000, or ~~6.7%~~5.6%, to ~~$634,689,000~~$668,867,000 at June 30, ~~2018,~~2019, compared with ~~$595,004,000~~$633,495,000 at year-end ~~2017.~~2018. Retail loan balances ~~grew $6,908,000, to $144,982,000, when~~at $148,506,000 declined $3,207,000 comparing June 30, ~~2018~~2019 to December 31, ~~2017.~~2018.

Deposits ~~declined $8,222,000~~grew $15,063,000, or 1.5%, from December 31, 2018 to ~~$985,726,000~~June 30, 2019. Non-interest-bearing demand deposits grew $20,976,000, or 16.3%, to $149,591,000 at June 30, ~~2018. Municipal interest-bearing~~2019 compared with $128,615,000 at year-end 2018, primarily due to growth in business deposits and is partially offset by decreases in commercial sweep accounts in short-term borrowings. Interest-bearing demand balances, ~~decreased $21,056,000,~~excluding municipal deposits, grew $5,837,000, or ~~17.8%~~2.8%, to ~~$97,108,000.~~$216,788,000, with the commercial checking product providing the majority of the growth. The $29,764,000 decline in savings was partially offset by growth in time deposits as balances were moved to higher-yielding accounts. Total time deposits increased $10,523,000 from December 31, 2018 to June 30, 2019. Municipal deposit balances increased $7,228,000, or 7.7%, to $100,929,000. Municipal deposits can be volatile depending on the timing of deposits and withdrawals, and the cash flow needs of the school districts or municipalities. Interest-bearing demand balances, excluding municipal deposits, grew $9,834,000, or 5.5%, to $189,140,000, with the Rewards checking and Select 50 products providing $8,162,000 of the growth. Savings balances increased $3,702,000 from December 31, 2017 to June 30, 2018. Non-interest-bearing demand balances increased $6,270,000 to $135,482,000 at June 30, 2018, due to both personal and business deposits. Money market balances declined $4,509,000, or 5.3%, to $80,053,000 as depositors moved to high-yielding savings accounts. Time deposits decreased $2,463,000 from December 31, 2017 to June 30, 2018. It is anticipated that total deposits will ~~increase during the third quarter~~decrease as tax money received from the local school districts during second and third quarters flows ~~in during September, then declines~~out for the subsequent twelve months as the schools use the funds for operations. These deposits provide incremental income as they are invested in short-term investment securities but will further reduce the net interest margin as the spread earned is significantly less than the current net interest margin.

Short-term borrowings increased ~~53.6%~~16.1%, from ~~$55,756,000~~$50,872,000 at December 31, ~~2017~~2018 to ~~$85,646,000~~$59,048,000 at June 30, ~~2018.~~2019. Commercial sweep accounts decreased ~~$2,650,000,~~$7,683,000, as these funds may be volatile based on businesses’ receipt and disbursement of ~~funds.~~funds and is offset by increases in business non-interest-bearing demand accounts. Overnight borrowings from FHLB increased ~~$32,540,000~~$15,859,000 to ~~$46,451,000 to support~~$19,724,000 supporting loan growth.

Liquidity represents an institution’s ability to generate cash or otherwise obtain funds at reasonable rates to satisfy demand for loans and deposit withdrawals. QNB attempts to manage its mix of cash and interest-bearing balances, Federal funds sold and investment securities to match the volatility, seasonality, interest sensitivity and growth trends of its loans and deposits. The Company manages its liquidity risk by measuring and monitoring its liquidity sources and estimated funding needs. Liquidity is provided from asset sources through repayments and maturities of loans and investment securities. The portfolio of investment securities classified as available for sale and QNB's policy of selling certain residential mortgage originations in the secondary market also provide sources of liquidity. Core deposits and cash management repurchase agreements have historically been the most significant funding source for

QNB. These deposits and repurchase agreements are generated from a base of consumers, businesses and public funds primarily located in the Company’s market area.

Additional sources of liquidity are provided by the Bank’s membership in the FHLB. At June 30, ~~2018,~~2019, the Bank had a maximum borrowing capacity with the FHLB of approximately ~~$259,700,000,~~$308,720,000, net of the ~~$46,451,000~~$19,724,000 in overnight borrowings and a $350,000 letter of credit at June 30, ~~2018.~~2019. The maximum borrowing depends upon qualifying collateral assets and ~~QNB’s~~the Bank’s asset quality and capital adequacy. In addition, the Bank maintains unsecured Federal funds lines with three correspondent banks totaling ~~$46,000,000.~~$51,000,000. At June 30, ~~2018,~~ there were no outstanding borrowings under these lines. During the ~~second quarter of 2018, QNB~~six months ended June 30, 2019, the Bank borrowed from the FHLB to fund short-term liquidity needs. Future availability under these lines is subject to the policies of the granting banks and may be withdrawn.

Liquid sources of funds, including cash, available-for-sale and equity investment securities, and loans held-for-sale have ~~decreased $29,952,000~~increased $1,594,000 since December 31, ~~2017,~~2018, totaling ~~$365,924,000~~$368,694,000 at June 30, ~~2018. Proceeds from sales, call and maturities of debt securities available-for-sale and the issuance of short-term borrowings have~~2019. Growth in deposits since year-end 2018 has been used to fund loans. Management expects these liquid sources will be adequate to meet normal fluctuations in loan demand or deposit withdrawals. The investment portfolio is expected to continue to provide sufficient liquidity, even in a rising rate environment, as municipal bonds are called or mature and cash flow on

mortgage-backed and CMO securities continues to be ~~steady, although cash flow available from the investment portfolio decreased in 2018 compared to 2017, as a result of interest rates rising.~~steady.

Approximately ~~$187,915,000~~$202,175,000 and ~~$202,887,000~~$194,573,000 of available-for-sale debt securities at June 30, ~~2018~~2019 and December 31, ~~2017,~~2018, respectively, were pledged as collateral for repurchase agreements and deposits of public funds. The level of pledged securities corresponds with the municipal deposit and repurchase agreement balances.

QNB is a member of the Certificate of Deposit Account Registry Services (CDARS) program offered by the Promontory Interfinancial Network, LLC. CDARS is a funding and liquidity management tool used by banks to access funds and manage their balance sheet. It enables financial institutions to provide customers with full FDIC insurance on time deposits over $250,000 that are placed in the program. QNB also has available Insured Cash Sweep (ICS), another program through Promontory Interfinancial Network, LLC, which is a product similar to CDARS, but one that provides liquidity like a money market or savings account.

A strong capital position is fundamental to support continued growth and profitability and to serve the needs of depositors. QNB's shareholders' equity at June 30, ~~2018~~2019 was ~~$97,818,000,~~$115,878,000, or ~~8.34%~~9.56% of total assets, compared with shareholders' equity of ~~$98,570,000,~~$104,348,000, or ~~8.55%~~8.88% of total assets, at December 31, ~~2017.~~2018. Shareholders’ equity at June 30, ~~2018~~2019 and December 31, ~~2017~~2018 included a negative adjustment of ~~$9,587,000~~$396,000 and ~~$4,086,000,~~$7,132,000, respectively, related to unrealized holding losses, net of taxes, on investment securities available-for-sale. Without these adjustments, shareholders' equity to total assets would have been ~~9.08%~~9.59% and ~~8.88%~~9.43% at June 30, ~~2018~~2019 and December 31, ~~2017,~~2018, respectively.

Average shareholders' equity and average total assets were ~~$106,073,000~~$114,434,000 and ~~$1,165,356,000~~$1,194,932,000 for the six months ended June 30, ~~2018,~~2019, an increase of ~~4.5%~~7.9% and ~~4.3%~~2.5%, respectively, from the averages for the ~~year~~six months ended ~~December 31, 2017.~~June 30, 2018. The ratio of average total equity to average total assets was ~~9.1%~~9.58% for ~~both~~ the six months ended June 30, ~~2018 and~~2019 compared to 9.10% for ~~all 2017.~~the same period in 2018.

Retained earnings at June 30, ~~2018~~2019 were impacted by six months of net income totaling ~~$5,797,000~~$6,522,000 partially offset by dividends declared and paid of ~~$2,212,000~~$2,305,000 for the same period. QNB offers a Dividend Reinvestment and Stock Purchase Plan (the “Plan”) to provide participants a convenient and economical method for investing cash dividends paid on the Company’s common stock in additional shares at a discount. The Plan also allows participants to make additional cash purchases of stock at a discount. Stock purchases under the Plan contributed ~~$429,000~~$433,000 to capital during the six months ended June 30, ~~2018.~~2019.

The Board of Directors has authorized the repurchase of up to 100,000 shares of its common stock in open market or privately negotiated transactions. The repurchase authorization does not bear a termination date. As of June 30, ~~2018,~~2019, 57,883 shares were repurchased under this authorization at an average price of $16.97 and a total cost of $982,000. There have been no additional shares repurchased under the plan since the first quarter of 2009.

QNB and the Bank are subject to various regulatory capital requirements as issued by Federal regulatory authorities. Regulatory capital is defined in terms of Tier 1 capital and Tier 2 capital. Risk-based capital ratios are expressed as a percentage of risk-weighted assets. Risk-weighted assets are determined by assigning various weights to all assets and off-balance sheet arrangements, such as letters of credit and loan commitments, based on associated risk. The final rules implementing the Basel Committee on Banking

Supervision’s capital guidelines for U.S. banks (Basel III) became effective for QNB on January 1, 2015, with full compliance with all of the final rule’s requirements phased in over a multi-year schedule, ~~to be~~and were fully phased-in by January 1, 2019.

Under the final rules, minimum requirements increased for both the quantity and quality of capital. The rules included a new common equity Tier 1 capital to risk-weighted assets minimum ratio of 4.5%, raised the minimum ratio of Tier 1 capital to risk-weighted assets from 4.0% to 6.0%, required a minimum ratio of Total Capital to risk-weighted assets of 8.0%, and required a minimum Tier 1 leverage ratio of 4.0%. A new capital conservation buffer, comprised of common equity Tier 1 capital, is also established above the regulatory minimum capital requirements. This capital conservation buffer was phased in beginning January 1, 2016, at 0.625% of risk-weighted assets, and ~~will increase~~increased each subsequent year by an additional 0.625% until reaching its final level of 2.5% on January 1, 2019. Strict eligibility criteria for regulatory capital instruments were also implemented. The final rules also revised the definition and calculation of Tier 1 capital, Total Capital, and risk-weighted assets. QNB ~~continues to monitor the effect of these new rules on the business, operations and capital levels of the Company~~ and the ~~Bank.~~

~~On May 24, 2018, the Economic Growth, Regulatory Relief, and Consumer Protection Act was enacted into law. which provides certain modifications~~Bank have sufficient capital to ~~the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank), which will provide~~

regulatory relief for smaller and certain regional banking organizations. Section 214 statutorily prescribes that the Federal banking agencies may only require depository institutions to apply a heightened risk-weight to exposures that are “high volatility commercial real estate” (HVCRE) if the exposures meet the definition of a HVCRE Acquisition, Development or Construction (ADC) loan as set forth in that section. The new definition applies to a narrower scope of exposures. The new definition of HVCRE ADC loan excludes loans made prior to January 1, 2015, amends the loan-to-value/capital contribution exemption, the loan must primarily finance the property, have the purpose of providing financing to acquire, develop or improve such real property in income-producing property and is dependent upon future income or sales proceeds or refinancing of such property to repay the loan. Once the property sufficiently produces cash-flows to support the debt service and expenses in accordance with the bank’s underwriting criteria for permanent financing, the loan it meets the exemption as a HVCRE ADC loan. Under the new definition, QNB’s was able to move certain HVCRE loans from the 150% to the 100% risk-weighted category as of June 30, 2018; resulting in a favorable increase to itsminimum regulatory capital ~~ratios of approximately 5 basis points.~~ requirements plus the fully phased-in capital conservation buffer.

	June 30,			December 31,			June 30,			December 31,
Capital Analysis	2018			2017			2019			2018
Regulatory Capital
Shareholders' equity	$	97,818		$	98,570		$	115,878		$	104,348
Net unrealized securities losses, net of tax		9,587			4,086			396			7,132
Net unrealized losses on available-for-sale equity securities, net of tax		—			(212	)
Deferred tax assets on net operating loss								(13	)		—
Disallowed intangible assets		(8	)		(6	)		(8	)		(8	)
Common equity tier I capital		107,397			102,438			116,253			111,472

Tier I capital		107,397			102,438			116,253			111,472
Allowable portion: Allowance for loan losses and reserve for unfunded commitments		8,265			7,914			9,237			8,907
Unrealized gains on equity securities, net of tax		—			—
Total regulatory capital	$	115,662		$	110,352		$	125,490		$	120,379
Risk-weighted assets	$	910,768		$	881,503		$	935,331		$	911,374
Quarterly average assets for leverage capital purposes	$	1,166,375		$	1,153,721		$	1,202,385		$	1,186,448

	June 30,			December 31,			June 30,			December 31,
Capital Ratios	2018			2017			2019			2018
Common equity tier I capital / risk-weighted assets		11.79	%		11.62	%		12.43	%		12.23	%
Tier I capital / risk-weighted assets		11.79	%		11.62	%		12.43	%		12.23	%
Total regulatory capital / risk-weighted assets		12.70	%		12.52	%		13.42	%		13.21	%
Tier I capital / average assets (leverage ratio)		9.21	%		8.88	%		9.67	%		9.40	%

At June 30, ~~2018,~~2019, common equity Tier I, Tier I capital, and total regulatory capital ~~and leverage~~ ratios ~~improved slightly~~increased from December 31, ~~2017.~~2018, due to increased regulatory capital and improved credit quality. The Company remains well-capitalized by all applicable regulatory requirements as of June 30, ~~2018.~~2019.

Market risk reflects the risk of economic loss resulting from changes in interest rates and market prices. QNB’s primary market risk exposure is interest rate risk and liquidity risk. QNB’s liquidity position was discussed in a prior section.

QNB’s largest source of revenue is net interest income, which is subject to changes in market interest rates. Interest rate risk management seeks to minimize the effect of interest rate changes on net interest margins and interest rate spreads and to provide growth in net interest income through periods of changing interest rates. QNB’s Asset/Liability and Investment Management Committee (ALCO) is responsible for managing interest rate risk and for evaluating the impact of changing interest rate conditions on net interest income.

QNB uses computer simulation analysis to measure the sensitivity of projected earnings to changes in interest rates. Simulation considers current balance sheet volumes and the scheduled repricing dates, instrument level optionality, and maturities of assets and liabilities. It incorporates assumptions for growth, changes in the mix of assets and liabilities, prepayments, and average rates earned and paid. Based on this information, management uses the model to project net interest income under multiple interest rate scenarios.

A balance sheet is considered liability sensitive when its liabilities (deposits and borrowings) reprice faster or than its earning assets (loans and securities). A liability sensitive balance sheet will produce relatively less net interest income when interest rates rise and more net interest income when they decline. Based on our simulation analysis, management believes QNB’s interest sensitivity position at June 30, ~~2018~~2019 is liability sensitive. Management expects that market interest decline rates will ~~continue with gradual increases~~ in the next 12 months, based on the economic environment and policy of the Board of Governors of the Federal Reserve System.

The following table shows the estimated impact of changes in interest rates on net interest income as of June 30, ~~2018~~2019 and ~~2017~~2018 assuming instantaneous rate shocks, and consistent levels of assets and liabilities. Net interest income for the subsequent twelve months is projected to decrease when interest rates are higher than current rates.

Estimated Change in Net Interest Income	Estimated Change in Net Interest Income							Estimated Change in Net Interest Income
Changes in Interest rates		June 30,							June 30,
(in basis points)		2018			2017				2019			2018
+300			(10.08	%)		(8.81	%)			-3.56	%		-10.08	%
+200			(6.60	%)		(5.77	%)			-1.98	%		-6.60	%
+100			(3.15	%)		(2.69	%)			-0.58	%		-3.15	%
-100			(0.02	%)		(5.78	%)			-3.30	%		-0.02	%
-200										-10.14	%		-7.98	%

Computations of future effects of hypothetical interest rate changes are based on numerous assumptions and should not be relied upon as indicative of actual results. Assets and liabilities may react differently than projected to changes in market interest rates. The interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while rates on other types of assets and liabilities may lag changes in market interest rates. Interest rate shifts may not be parallel.

Changes in interest rates can cause substantial changes in the amount of prepayments of loans and mortgage-backed securities, which may in turn affect QNB’s interest rate sensitivity position. Additionally, credit risk may rise if an interest rate increase adversely affects the ability of borrowers to service their debt.

QNB is not subject to foreign currency exchange or commodity price risk. At June 30, ~~2018,~~2019, QNB did not have any hedging transactions in place such as interest rate swaps, caps or floors.

The information required in response to this item is set forth in Item 2, above.

We maintain a system of controls and procedures designed to provide reasonable assurance as to the reliability of the consolidated financial statements and other disclosures included in this report, as well as to safeguard assets from unauthorized use or disposition. We evaluated the effectiveness of the design and operation of our disclosure controls and procedures under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective as of the end of the period covered by this report. No changes were made to our internal control over financial reporting during the fiscal quarter covered by this report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

There were no material changes to the Risk Factors described in Item 1A in QNB’s Annual Report on Form 10-K for the period ended December 31, ~~2017.~~2018.

QNB did not repurchase any shares of its common stock during the quarter ended June 30, ~~2018.~~2019. The following provides certain information relating to QNB's stock repurchase plan.

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.

15 North Third Street, P.O. Box 9005 Quakertown, PA		18951-9005
(Address of Principal Executive Offices)		(Zip Code)

Large accelerated filer	☐	Accelerated filer	☒
Non-accelerated filer	☐	Smaller Reporting Company	☐☒
Emerging growth company	☐

Class		Outstanding at August ~~2, 2018~~1, 2019
Common Stock, par value $0.625		~~3,466,504~~3,501,446

	PART I - FINANCIAL INFORMATION

ITEM 1.	CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)	PAGE

	Consolidated Balance Sheets at June 30, ~~2018~~2019 and December 31, ~~2017~~2018	3

	Consolidated Statements of Income for the Three and Six Months Ended June 30, ~~2018~~2019 and ~~2017~~2018	4

	Consolidated Statements of Comprehensive Income (Loss) for the Three and Six Months Ended June 30, ~~2018~~2019 and ~~2017~~2018	5

	Consolidated Statement of Shareholders’ Equity for the Three and Six Months Ended June 30, ~~2018~~2019 and ~~2017~~2018	6

	Consolidated Statements of Cash Flows for the Six Months Ended June 30, ~~2018~~2019 and ~~2017~~2018	78

	Notes to Consolidated Financial Statements	89

ITEM 2.	MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	3938

ITEM 3.	QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK	5857

ITEM 4.	CONTROLS AND PROCEDURES	5857

	PART II - OTHER INFORMATION

ITEM 1.	LEGAL PROCEEDINGS	5958

ITEM 1A.	RISK FACTORS	5958

ITEM 2.	UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS	5958

ITEM 3.	DEFAULTS UPON SENIOR SECURITIES	5958

ITEM 4.	MINE SAFETY DISCLOSURES	5958

ITEM 5.	OTHER INFORMATION	5958

ITEM 6.	EXHIBITS	6059

SIGNATURES

CERTIFICATIONS

For the six months ended	June 30, 2019

Lease cost:
Operating lease cost	$	281
Total lease cost	$	281

Other information:
Cash paid for amounts included in the measurement of lease liabilities:
Operating cashflows from operating leases	$	(282	)
Total cash paid for amounts included in the measurement of lease liabilities	$	(282	)

At implementation of new accounting guidance:
Right-of-use assets recorded for operating lease liabilities	$	2,005

Right-of-use assets obtained in exchange for new operating lease liabilities	$	501

Weighted average remaining lease term:
Operating leases	7.8 years

Weighted average discount rate:
Operating leases		3.16	%

	Operating Leases
July 2019 thru June 2020	$	500
July 2020 thru June 2021		397
July 2021 thru June 2022		371
July 2022 thru June 2023		357
July 2023 thru June 2024		284
July 2024 and thereafter		999
Total undiscounted cashflows		2,908
Total discount on cashflows		(399	)
Total lease liabilities	$	2,509

	Number of options			Weighted average exercise price		Weighted average remaining contractual term (in years)		Aggregate intrinsic value
Outstanding at December 31, 2017		85,525		$	30.94
Granted		25,000			43.60
Exercised		(10,000	)		24.86
Forfeited		(1,600	)		32.52
Outstanding at June 30, 2018		98,925		$	34.73		2.99	$	1,180
Exercisable at June 30, 2018		26,525		$	27.46		1.14	$	509

	Three months ended June 30, 2018													Three months ended June 30, 2017
					Other-than-														Other-than-
	Gross		Gross		temporary		Gross		Gross					Gross		Gross			temporary
	realized		realized		impairment		unrealized		unrealized			Net		realized		realized			impairment		Net
	gains		losses		losses		gains		losses			gains		gains		losses			losses		gains/(losses)
Equity securities	$	44	$	—	$	—	$	375	$	(334	)	$	85	$	131	$	—		$	—	$	131
Debt securities available-for-sale		4		—		—		—		—			4		431		(447	)		—		(16	)
Total	$	48	$	—	$	—	$	375	$	(334	)	$	89	$	562	$	(447	)	$	—	$	115

	Six months ended June 30, 2018															Six months ended June 30, 2017
						Other-than-															Other-than-
	Gross		Gross			temporary		Gross		Gross						Gross		Gross			temporary
	realized		realized			impairment		unrealized		unrealized			Net			realized		realized			impairment		Net
	gains		losses			losses		gains		losses			gains/(losses)			gains		losses			losses		gains
Equity securities	$	130	$	—		$	—	$	349	$	(554	)	$	(75	)	$	856	$	—		$	—	$	856
Debt securities available-for-sale		25		(22	)		—		—		—			3			509		(501	)		—		8
Total	$	155	$	(22	)	$	—	$	349	$	(554	)	$	(72	)	$	1,365	$	(501	)	$	—	$	864

Six months ended June 30, 2019	Balance, beginning of period		Provision for (credit to) loan losses			Charge-offs			Recoveries		Balance, end of period
Commercial:
Commercial and industrial	$	3,092	$	192		$	—		$	18	$	3,302
Construction		551		124			—			—		675
Secured by commercial real estate		2,824		89			—			—		2,913
Secured by residential real estate		754		(59	)		(36	)		63		722
State and political subdivisions		153		48			—			—		201
Retail:												—
1-4 family residential mortgages		497		(64	)		—			—		433
Home equity loans and lines		338		(38	)		(17	)		11		294
Consumer		164		108			(102	)		18		188
Unallocated		461		(25	)	N/A			N/A			436
Total	$	8,834	$	375		$	(155	)	$	110	$	9,164

Period	Total Number of Shares Purchased		Average Price Paid per Share		Total Number of Shares Purchased as Part of Publicly Announced Plan		Maximum Number of Shares that may yet be Purchased Under the Plan

April 1, ~~2018~~2019 through April 30, ~~2018~~2019		—		—		—		42,117
May 1, ~~2018~~2019 through May 31, ~~2018~~2019		—		—		—		42,117
June 1, ~~2018~~2019 through June 30, ~~2018~~2019		—		—		—		42,117
Total		—		—		—		42,117

Exhibit 3.1		Articles of Incorporation of Registrant, as amended. (Incorporated by reference to Exhibit 3(i) of Registrant’s Annual Report on Form 10-K, SEC File No. 0-17706, filed with the Commission on March 13, 2015).

Exhibit 3.2		Bylaws of Registrant, as amended. (Incorporated by reference to Exhibit 3(ii) of Registrant’s Annual Report on Form 10-K, SEC File No. 0-17706, filed with the Commission on March 13, 2015).

Exhibit 31.1		Section 302 Certification of Chief Executive Officer

Exhibit 31.2		Section 302 Certification of Chief Financial Officer

Exhibit 32.1		Section 906 Certification of Chief Executive Officer

Exhibit 32.2		Section 906 Certification of Chief Financial Officer

No.		Description
101.INS		XBRL Instance Document.*
101.SCH		XBRL Taxonomy Extension Schema Document.*
101.CAL		XBRL Taxonomy Extension Calculation Linkbase Document.*
101.LAB		XBRL Taxonomy Extension Label Linkbase Document.*
101.PRE		XBRL Taxonomy Extension Presentation Linkbase Document.*
101.DEF		XBRL Taxonomy Extension Definitions Linkbase Document.*

	QNB Corp.

Date: August ~~8, 2018~~7, 2019	By:	/s/ David W. Freeman
		David W. Freeman
		Chief Executive Officer

Date: August ~~8, 2018~~7, 2019	By:	/s/ Janice McCracken Erkes
		Janice McCracken Erkes
		Chief Financial Officer

Date: August ~~8, 2018~~7, 2019	By:	/s/ Mary E. Liddle
		Mary E. Liddle
		Chief Accounting Officer, QNB Bank