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Item 2. Management’s Discussion and Analysis

2022-11-07 compared with 2022-08-05 · 325 added, 289 removed, 506 unchanged (55% of the section changed)

19 unchanged sentences

EARNINGS OVERVIEW

Second Quarter 2022 as Compared to Second Quarter 2021

Second quarter 2022 net income was $7,489,000, or $0.48 per diluted share.

In comparison, second quarter 2021 net income was $7,060,000, or $0.44 per diluted share.

Third Quarter 2022 as Compared to Third Quarter 2021

Third quarter 2022 net income was $4,455,000, or $0.29 per diluted share.

In comparison, third quarter 2021 net income was $7,399,000, or $0.47 per diluted share.

Significant variances were as follows:

● Second quarter 2022 net interest income of $19,625,000 was $944,000 higher than the second quarter 2021 total.

The net interest rate spread increased 0.10%, as the average yield on earning assets increased 0.07% to 3.92%, while the average rate on interest-bearing liabilities decreased 0.03% to 0.45%.

The net interest margin was 3.62% in the second quarter 2022, up from 3.52% in the second quarter 2021.

Interest income from available-for-sale debt securities, on a fully taxable-equivalent basis, increased $984,000 in the second quarter 2022 as compared to the second quarter 2021, as the average balance (at amortized cost) of available-for-sale debt securities increased $205.2 million.

Total interest and fees from loans originated under the U.S.

Small Business Administration (SBA) Paycheck Protection Program (PPP) were $206,000 in the second quarter 2022, a decrease of $1,043,000 from the second quarter 2021 total of $1,249,000.

Total interest and fees from loans excluding PPP was $18,309,000 in the second quarter 2022, an increase of $965,000 from the second quarter 2021 total of $17,344,000.

Accretion and amortization of purchase accounting adjustments had a net positive impact on net interest income of $497,000 in the second quarter 2022 as compared to a net positive impact of $713,000 in the second quarter 2021.

Average outstanding loans decreased $18.2 million, as average PPP loans decreased $116.2 million.

Average loans, excluding PPP loans, were up $98.0 million in the second quarter 2022 over the second quarter 2021, an increase of 6.6%.

● Third quarter 2022 net interest income of $20,879,000 was $1,420,000 higher than the third quarter 2021 total.

The net interest rate spread remained unchanged at 3.46%, as the average yield on earning assets increased 0.29% to 4.18%, and the average rate on interest-bearing liabilities increased 0.29% to 0.72%.

The net interest margin was 3.69% in the third quarter 2022, up from 3.59% in the third quarter 2021.

Total interest and fees from loans excluding loans originated under the U.S.

Small Business Administration (SBA) Paycheck Protection Program (PPP) were $20,602,000 in the third quarter 2022, an increase of $3,144,000 from the third quarter 2021 total of $17,458,000.

Total interest and fees from SBA PPP loans were $118,000 in the third quarter 2022, a decrease of $1,521,000 from the third quarter 2021 total of $1,639,000.

Interest income from available-for-sale debt securities, on a fully taxable-equivalent basis, increased $939,000 in the third quarter 2022 as compared to the third quarter 2021, as the average balance (at amortized cost) of available-for-sale debt securities increased $173.8 million.

Accretion and amortization of purchase accounting adjustments had a net positive impact on net interest income of $400,000 in the third quarter 2022 as compared to a net positive impact of $563,000 in the third quarter 2021.

Average outstanding loans increased $82.4 million, despite a reduction in average PPP loans of $83.0 million.

Average loans, excluding PPP loans, were up $165.5 million in the third quarter 2022 over the third quarter 2021, an increase of 11.0%.

Average total deposits increased $61.8 million (3.2%).

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

● The provision for loan losses was $308,000 in the second quarter 2022 as compared to $744,000 in the second quarter 2021.

The second quarter 2022 provision included a net recovery of $271,000 related to specific loans (net decrease in specific allowances on loans of $303,000 offset by net charge-offs of $32,000), an increase of $246,000 in the collectively determined portion of the allowance and an increase of $333,000 in the unallocated portion of the allowance.

The second quarter 2021 provision included a net charge of $383,000 related to specific loans (net increase in specific allowances on loans of $353,000 and net charge-offs of $30,000), an increase of $367,000 in the collectively determined portion of the allowance and a $6,000 decrease in the unallocated portion.

● Noninterest income for the second quarter 2022 was up $527,000 from the second quarter 2021 total.

● The provision for loan losses was $3,794,000 in the third quarter 2022, up $2,264,000 from $1,530,000 in the third quarter 2021.

The third quarter 2022 provision included net charge-offs of $2,171,000 and an increase of $1,623,000 in the collectively determined portion of the allowance.

In the third quarter 2022, the Corporation recorded a partial charge-off of $2,160,000 on a commercial real estate secured loan with a principal balance of $6,920,000 at the time of charge-off.

The charge-off resulted from the borrower’s default due to deterioration in financial performance accompanied by a significant decrease in the appraised value of property at a recently closed facility that had been one of the primary sources of collateral on the loan.

In comparison, the third quarter 2021 provision included a net charge of $611,000 related to specific loans (net charge-offs of $1,205,000 offset by a net decrease in specific allowances on loans of $594,000), and an increase of $919,000 in the collectively determined portion of the allowance.

In the third quarter 2021, the Corporation recorded a partial charge-off of $1,194,000 on a commercial loan with an outstanding balance of $3,496,000 at the time of the charge-off.

● Noninterest income for the third quarter 2022 was down $711,000 from the third quarter 2021 total.

Significant variances included the following:

o Other noninterest income of $1,456,000 increased $756,000 from the second quarter 2021 total including an increase in income from tax credits of $795,000.

The increase in income from tax credits resulted from a timing difference related to PA Educational Improvement Tax Credit Program donations.

In the second quarter 2022, the Corporation made PA Educational Improvement Tax Credit Program donations totaling $800,000, comparable to the amount of such donations made in the first quarter 2021 and for which the associated income from tax credits was recognized in the first quarter 2021.

o Service charges on deposit accounts of $1,322,000 increased $249,000 from the second quarter 2021 total, as the volume of consumer and business overdraft and other activity increased.

o Loan Servicing fees, net of $358,000 increased $212,000 from the second quarter 2021.The fair value of servicing rights increased $150,000 in the second quarter 2022 as compared to a decrease of $39,000 in the second quarter 2021 mainly due to changes in assumptions related to prepayments of mortgage loans.

o Net gains from sales of loans of $220,000 decreased $705,000 from the second quarter 2021, reflecting a reduction in volume of residential mortgage loans sold.

● Noninterest expense increased $1,640,000 in the second quarter 2022 over the second quarter 2021 amount.

o Net gains from sales of loans of $131,000 decreased $666,000 from the third quarter 2021, reflecting a reduction in volume of residential mortgage loans sold.

o Service charges on deposit accounts of $1,105,000 decreased $144,000 from the third quarter 2021.

In the third quarter 2022, the Corporation recorded accrued refunds of consumer overdraft fees totaling $290,000 as the result of updated regulatory guidance on certain overdraft fees.

o Brokerage and insurance revenue of $696,000 increased $136,000 from the third quarter 2021, due to commissions on higher transaction volume.

● Noninterest expense increased $2,097,000 in the third quarter 2022 over the third quarter 2021 amount.

Significant variances included the following:

o Salaries and employee benefits of $10,265,000 increased $766,000 from the second quarter 2021 total, including an increase in base salaries expense of $774,000.

o Salaries and employee benefits of $10,826,000 increased $1,399,000 from the third quarter 2021 total, including an increase in base salaries expense of $992,000.

In addition to the impact of merit-based salary increases, the number of employees increased, reflecting expansion of the Southcentral PA market with the opening of an office in Lancaster as well as additions to staffing for information technology (IT), human resources and other functions.

In total, the number of full-time equivalent employees (FTEs) increased by 17 (4.4%) to 405 in the second quarter 2022 as compared to the second quarter 2021.

In total, the number of full-time equivalent employees (FTEs) increased by 21 (5.4%) to 412 in the third quarter 2022 as compared to the third quarter 2021.

Also within this category, there was an increase in health care expense of $220,000 due to higher claims on the Corporation’s partially self-insured plan.

Decreases include a reduction in estimated total cash and stock-based incentive compensation expense of $234,000 and severance expense of $233,000 in 2021 with no comparable amount in 2022.

o Other noninterest expense of $2,431,000 increased $680,000 from the second quarter 2021 total.

Within this category, significant variances included the following:

● Donations expense totaled $848,000 in the second quarter 2022, up $838,000 from the second quarter 2021 total, including donations relating to the PA Educational Improvement Tax Credit Program as described above.

● Reductions in the allowance for SBA claim adjustments attributable to more favorable claim results than previously estimated resulted in a reduction in expense of $48,000 in the second quarter 2022 as compared to a reduction in expense of $163,000 in the second quarter 2021.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

● There was a net reduction in other operational losses of $272,000 in the second quarter 2022, as compared to expense of $26,000 in the second quarter 2021.

In the second quarter 2022, there was a reversal of previously accrued amounts of $301,000 from abatement of Trust Department tax compliance penalties that were previously accrued or paid.

o Data processing and telecommunications of $1,720,000 increased $233,000 from the second quarter 2021 total, including the impact of increases in software licensing and maintenance costs as well as costs related to enhancements of data management capabilities.

● The income tax provision of $1,618,000, or 17.8% of pre-tax income for the second quarter 2022 decreased $162,000 from $1,780,000, or 20.1% of pre-tax income for the second quarter 2021.

City and state tax provisions totaled $107,000 in the second quarter 2022, down $207,000 from the second quarter 2021 amount as the second quarter 2021 total included catch-up adjustments from the previous year and estimates totaling approximately $100,000 that were reduced in the third quarter of 2021.

Further, the lower effective tax rate for the second quarter 2022 includes the benefit of the $301,000 reversal of Trust Department tax compliance penalties being non-taxable.

Six Months Ended June 30, 2022 as Compared to Six Months Ended June 30, 2021

Net income for the six-month period ended June 30, 2022 was $14,384,000, or $0.92 per diluted share, while net income for the first six months of 2021 was $15,847,000 or $0.99 per diluted share.

o Net occupancy and equipment expense of $1,498,000 increased $281,000 from the third quarter 2021 total, including accelerated depreciation expense of $205,000 related to planned closures of two branches in November 2022.

o Data processing and telecommunications of $1,719,000 increased $244,000 from the third quarter 2021 total, including the impact of increases in software licensing and maintenance costs as well as costs related to enhancements of data management capabilities.

● The income tax provision was $858,000, or 16.1% of pre-tax income for the third quarter 2022, down from $1,566,000, or 17.5% of pre-tax income for the third quarter 2021.

The decrease in income tax provision reflected the decrease in pre-tax income of $3,652,000.

Nine Months Ended September 30, 2022 as Compared to Nine Months Ended September 30, 2021

Net income for the nine-month period ended September 30, 2022 was $18,839,000, or $1.21 per diluted share, while net income for the first nine months of 2021 was $23,246,000 or $1.46 per diluted share.

Significant variances were as follows:

● For the six-month period ended June 30, 2022, net interest income of $39,957,000 was $1,193,000 higher than in the same period in 2021.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

● For the nine-month period ended September 30, 2022, net interest income of $60,836,000 was $2,613,000 higher than in the same period in 2021.

Interest income from available-for-sale debt securities, on a fully taxable-equivalent basis, increased $2,883,000 in 2022 as compared to 2021, as the average balance (at amortized cost) of available-for-sale debt securities increased $192.7 million.

Total interest and fees on loans decreased $1,000,000 in 2022 as compared to 2021.

Total interest and fees on loans increased $623,000 in 2022 as compared to 2021.

Interest and fees on loans included $1,585,000 in 2022 and $35,000 in 2021 from repayments received on purchased credit impaired loans in excess of previous carrying amounts.

Total interest and fees from loans originated under the SBA PPP were $781,000 in 2022, a decrease of $2,466,000 from the 2021 total of $3,247,000.

Total interest and fees from PPP loans were $899,000 in 2022, a decrease of $3,987,000 from the 2021 total of $4,886,000.

Accretion and amortization of purchase accounting adjustments had a net positive impact on net interest income of $1,347,000 in 2022 as compared to a net positive impact of $2,228,000 in 2021.

Average outstanding loans decreased $6.9 million, including a reduction in average PPP loans of $106.2 million.

Average loans, excluding PPP loans, were up $65.7 million (4.4%) in the first six months of 2022 as compared to the first six months of 2021.

Average total deposits increased $72.1 million (3.8%) in comparing the first six months of 2022 over the total for the first six months of 2021.

● For the first six months of 2022, the provision for loan losses was $1,199,000, an increase in expense of $196,000 as compared to $1,003,000 recorded in the first six months of 2021.

The provision for the first six months of 2022 includes a net recovery of $124,000 related to specific loans (net decrease in specific allowances on loans of $313,000 offset by net charge-offs of $189,000), an increase of $994,000 in the collectively determined portion of the allowance and a $329,000 increase in the unallocated portion.

In comparison, the provision for loan losses in the first six months of 2021 includes a net charge of $565,000 related to specific loans (increase in specific allowances on loans of $552,000 and net charge-offs of $13,000), an increase of $352,000 in the collectively determined portion of the allowance and an $86,000 increase in the unallocated portion.

● Noninterest income of $12,652,000 for the first six months of 2022 decreased $432,000 from the total for the first six months of 2021.

Average loans, excluding PPP loans, were up $99.3 million (6.6%) in the first nine months of 2022 as compared to the first nine months of 2021.

Average total deposits increased $68.6 million (3.6%) in comparing the first nine months of 2022 over the total for the first nine months of 2021.

● For the first nine months of 2022, the provision for loan losses was $4,993,000, an increase in expense of $2,460,000 as compared to $2,533,000 recorded in the first nine months of 2021.

The provision for the first nine months of 2022 includes $2,047,000 related to specific loans (net decrease in specific allowances on loans of $313,000 and net charge-offs of $2,360,000), an increase of $2,617,000 in the collectively determined portion of the allowance and a $329,000 increase in the unallocated portion.

In comparison, the provision for loan losses in the first nine months of 2021 includes $1,176,000 related to specific loans (net charge-offs of $1,218,000 and a decrease in specific allowances on loans of $42,000), an increase of $1,271,000 in the collectively determined portion of the allowance and an $86,000 increase in the unallocated portion.

● Noninterest income of $18,323,000 for the first nine months of 2022 decreased $1,143,000 from the total for the first nine months of 2021.

Significant variances included the following:

o Net gains from sales of loans of $733,000 decreased $2,053,000 reflecting a reduction in volume of residential mortgage loans sold.

o Service charges on deposit accounts of $2,557,000 increased $469,000 as the volume of consumer and business overdraft and other activity increased.

o Other noninterest income totaled $2,666,000, a decrease of $171,000.

Within this category, the fair value of a marketable equity security decreased $114,000 in 2022 as compared to a decrease of $19,000 in 2021.

o Brokerage and insurance revenue of $1,784,000 increased $392,000, due to commissions on higher transaction volumes.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

o Service charges on deposit accounts of $3,662,000 increased $325,000 as the volume of consumer and business overdraft and other activity increased partially offset by the impact of accrued refunds of $290,000 related to consumer overdraft fees.

o Loan servicing fees, net of $757,000 increased $210,000, reflecting growth in volume of residential mortgage loans sold with servicing retained.

Further, the fair value of servicing rights increased $152,000 in 2022 as compared to an increase of $36,000 in 2021 mainly due to changes in assumptions related to prepayments of mortgage loans.

● Noninterest expense of $33,925,000 for the first six months of 2022 increased $2,817,000 from the total for the first six months of 2021.

Further, the fair value of servicing rights increased $128,000 in 2022 as compared to a decrease of $9,000 in 2021 mainly due to changes in assumptions related to prepayments of mortgage loans.

● Noninterest expense of $51,368,000 for the first nine months of 2022 increased $4,914,000 from the total for the first nine months of 2021.

Significant variances included the following:

o Salaries and employee benefits of $20,872,000 increased $2,478,000, including an increase in base salaries expense of $1.8 million reflecting merit-based salary increases and an increase in number of personnel related to expansion as mentioned above.

Additional increases include an increase in health care expense of $445,000 due to higher claims on the Corporation’s partially self-insured plan and $267,000 due to a lower portion of payroll costs capitalized (added to the carrying value of loans) due to the high volume of PPP loans originated in 2021.

o Salaries and employee benefits of $31,698,000 increased $3,877,000, including an increase in base salaries expense of $2.8 million reflecting merit-based salary increases and an increase in number of personnel related to expansion of the Southcentral PA market with the opening of an office in Lancaster.

Additional increases include an increase in health care expense of $665,000 due to higher claims on the Corporation’s partially self-insured plan, $227,000 due to a lower portion of payroll costs capitalized (added to the carrying value of loans) due to the high volume of PPP loans originated in 2021, and $204,000 related to payroll taxes.

Decreases include a reduction in estimated cash and stock-based incentive compensation expense of $126,000 and severance expense of $248,000 in 2021 with no comparable amount in 2022.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

o Data processing and telecommunications of $5,062,000 increased $720,000, including the impact of increases in software licensing and maintenance costs as well as costs related to enhancements of data management capabilities.

o Net occupancy and equipment expense of $2,719,000 increased $196,000, including computer supplies and repairs and maintenance related to IT and Digital departments and increases related to a new branch location in Lancaster, PA.

o Other noninterest expense of $4,315,000 decreased $191,000.

Within this category, significant variances included the following:

● There was a reduction in expense for other operational losses of $254,000 in 2022, down $403,000 from expense of $149,000 in 2021, including a reduction in expense in 2022 of $301,000 from reversal of previously accrued Trust Department tax compliance penalties.

● The allowance for SBA claim adjustments decreased, reflecting more favorable claim results than previously estimated, resulting in a reduction in expense of $290,000 in 2022 as compared to a reduction in expense of $163,000 in 2021.

● Travel and entertainment expenses totaled $185,000 in the first six months of 2022, an increase of $125,000 over 2021.

o Net occupancy and equipment expense of $4,217,000 increased $477,000, including computer supplies and repairs and maintenance related to IT and Digital departments and increases related to a new branch location in Lancaster, PA as well as accelerated depreciation expense of $205,000 related to planned closures of two branches in November 2022.

o Professional fees of $1,490,000 decreased $193,000, mainly due to decreases in recruiting services and PPP loan processing-related professional fees.

● The income tax provision of $3,101,000, or 17.7% of pre-tax income for the first six months ended June 30, 2022 decreased $789,000 from $3,890,000, or 19.7% of pre-tax income for the first six months ended June 30, 2021.

● The income tax provision of $3,959,000, or 17.4% of pre-tax income for the nine months ended September 30, 2022 decreased $1,497,000 from $5,456,000, or 19.0% of pre-tax income for the nine months ended September 30, 2021.

The lower provision in 2022 includes the impact of a reduction in pre-tax income.

The lower effective tax rate in 2022 includes the impact of a $201,000 reduction in city and state tax expense as well as the benefit of the $301,000 reduction in expense from the reversal of tax penalties being non-taxable.

More detailed information concerning fluctuations in the Corporation’s earnings results and other financial information are provided in other sections of Management’s Discussion and Analysis.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

The lower effective tax rate in 2022 includes the impact of higher tax-exempt interest as a percentage of pre-tax income, a larger permanent difference (deduction) related to restricted stock compensation and the benefit of a $301,000 reduction in expense from the reversal of tax penalties being non-taxable.

TABLE I – QUARTERLY FINANCIAL DATA

3 unchanged sentences

September 30,

Interest income

10 unchanged sentences

Diluted earnings per common share

NONINTEREST INCOME

TABLE II – COMPARISON OF NONINTEREST INCOME

(Dollars in Thousands)

Three Months Ended

September 30,

Trust revenue

Brokerage and insurance revenue

Service charges on deposit accounts

Interchange revenue from debit card transactions

Net gains from sales of loans

Loan servicing fees, net

Increase in cash surrender value of life insurance

Other noninterest income

Realized gains on available-for-sale debt securities, net

Total noninterest income

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

(Dollars in Thousands)

Nine Months Ended

September 30,

Trust revenue

Brokerage and insurance revenue

Service charges on deposit accounts

Interchange revenue from debit card transactions

Net gains from sales of loans

Loan servicing fees, net

Increase in cash surrender value of life insurance

Other noninterest income

Realized gains on available-for-sale debt securities, net

Total noninterest income

NONINTEREST EXPENSE

TABLE III - COMPARISON OF NONINTEREST EXPENSE

(Dollars in Thousands)

Three Months Ended

September 30,

Salaries and employee benefits

Net occupancy and equipment expense

Data processing and telecommunications expense

Automated teller machine and interchange expense

Pennsylvania shares tax

Professional fees

Other noninterest expense

Total noninterest expense

(Dollars in Thousands)

Nine Months Ended

September 30,

Salaries and employee benefits

Net occupancy and equipment expense

Data processing and telecommunications expense

Automated teller machine and interchange expense

Pennsylvania shares tax

Professional fees

Other noninterest expense

Total noninterest expense

Additional detailed information concerning fluctuations in the Corporation’s earnings results and other financial information are provided in other sections of Management’s Discussion and Analysis.

CRITICAL ACCOUNTING POLICIES

4 unchanged sentences

The Corporation maintains an allowance for loan losses that represents management’s estimate of the losses inherent in the loan portfolio as of the balance sheet date and recorded as a reduction of the investment in loans.

Management believes the allowance for loan losses is adequate and reasonable.

Management believes

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

the allowance for loan losses is adequate and reasonable.

Note 6 to the unaudited consolidated financial statements provides an overview of the process management uses for evaluating and determining the allowance for loan losses, and additional discussion of the allowance for loan losses is provided in a separate section later in Management’s Discussion and Analysis.

9 unchanged sentences

The Corporation’s primary source of operating income is net interest income, which is equal to the difference between the amounts of interest income and interest expense.

Tables II, III and IV include information regarding the Corporation’s net interest income for the three-month and six-month periods ended June 30, 2022 and 2021.

Tables IV, V and VI include information regarding the Corporation’s net interest income for the three-month and nine-month periods ended September 30, 2022 and 2021.

In each of these tables, the amounts of interest income earned on tax-exempt securities and loans have been adjusted to a fully taxable-equivalent basis.

2 unchanged sentences

The discussion that follows is based on amounts in the related Tables.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

Three-Month Periods Ended June 30, 2022 and 2021

Three-Month Periods Ended September 30, 2022 and 2021

For the three-month periods, fully taxable equivalent net interest income (a non-GAAP measure) was $21,188,000 in 2022, which was $1,437,000 (7.3%) higher than in 2021.

Interest income in the second quarter was $21,621,000 which was $925,000 higher in 2022 as compared to 2021, while interest expense was lower by $63,000 in comparing the same periods.

As presented in Table III, the Net Interest Margin was 3.62% in 2022 as compared to 3.52% in 2021, and the “Interest Rate Spread” (excess of average rate of return on earning assets over average cost of funds on interest-bearing liabilities) increased to 3.47% in 2022 from 3.37% in 2021.

The average yield on earning assets of 3.92% was 0.07% higher in 2022 as compared to 2021, and the average rate on interest-bearing liabilities of 0.45% in 2022 was 0.03% lower.

Income from purchase accounting-related adjustments in the second quarter 2022 had a positive effect on net interest income of $497,000, including an increase in income on loans of $398,000 and net reductions in interest expense on time deposits and borrowed funds totaling $99,000.

The positive impact to the second quarter 2022 net interest margin from purchase accounting adjustments was 0.09%.

In comparison, the positive impact of purchase accounting adjustments to the second quarter 2021 net interest margin was $713,000, or 0.13%.

Interest income in the third quarter 2022 was $24,019,000 which was $2,654,000 higher as compared to 2021.

Interest expense of $2,831,000 in 2022 was $1,217,000 higher than in 2021.

As presented in Table V, the Net Interest Margin was 3.69% in 2022 as compared to 3.59% in 2021, and the “Interest Rate Spread” (excess of average rate of return on earning assets over average cost of funds on interest-bearing liabilities) remained unchanged at 3.46%.

The average yield on earning assets of 4.18% was 0.29% higher in 2022 as compared to 2021, and the average rate on interest-bearing liabilities of 0.72% in 2022 was 0.29% higher.

Income from purchase accounting-related adjustments in the third quarter 2022 had a positive effect on net interest income of $400,000, including an increase in income on loans of $313,000 and net reductions in interest expense on time deposits and borrowed funds totaling $87,000.

The positive impact to the third quarter 2022 net interest margin from purchase accounting adjustments was 0.07%.

In comparison, the positive impact of purchase accounting adjustments to the third quarter 2021 net interest margin was $563,000, or 0.10%.

INTEREST INCOME AND EARNING ASSETS

Interest income totaled $24,019,000 in 2022, an increase of $2,654,000 from 2021.

Interest and fees from loans receivable increased $1,623,000 in 2022 as compared to 2021.

Total interest and fees from loans excluding PPP loans increased $3,144,000 in 2022 as compared to 2021.

Interest and fees on PPP loans totaled $118,000 in the third quarter 2022, a decrease of $1,521,000 from the third quarter 2021, as previously deferred fees were recognized in income upon the SBA’s repayment of loans based on forgiveness of the underlying borrowers.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

Average outstanding loans receivable increased $82,413,000 (5.2%) to $1,674,270,000 in 2022 from $1,591,857,000 in 2021, despite a reduction in average PPP loans of $83,038,000.

Average total loans outstanding, excluding PPP loans, increased $165,451,000 (11.0%).

The average yield on loans in the third quarter 2022 was 4.91%, up from 4.76% in the third quarter 2021.

Excluding PPP loans, the average yield on loans was 4.90% in the third quarter 2022, up from 4.60% excluding PPP loans in the third quarter 2021.

The increase in loan yields reflects the impact of higher interest rates on loans originated in 2022 and higher yields on floating-rate loans.

Floating-rate loans totaled approximately 18% of gross loans receivable at September 30, 2022.

Interest income from available-for-sale debt securities increased $939,000 in 2022 from 2021.

The average balance of available-for-sale debt securities (at amortized cost) increased to $564,920,000 in 2022 from $391,148,000 in 2021.

The increase in available-for-sale debt securities reflects the investment of funds that would otherwise have represented excess cash, particularly throughout most of 2021 and the first quarter 2022.

The average yield on available-for-sale debt securities was 2.10% for 2022, down from 2.20% in 2021.

The increase in available-for-sale debt securities reflects the investment of funds, primarily in the fourth quarter 2021 and first quarter 2022, that would otherwise have represented excess cash.

The average yield on available-for-sale debt securities was 2.17% for 2022, down slightly from 2.18% in 2021.

Income from interest-bearing due from banks totaled $176,000 in 2022, an increase of $70,000 from 2021.

The average yield on interest-bearing due from banks was 2.03% in 2022 and 0.22% in 2021.

The average balance of interest-bearing due from banks was $47,428,000 in the second quarter 2022 as compared to $182,586,000 in the second quarter 2021.

The average balance of interest-bearing due from banks was $34,465,000 in the third quarter 2022, down from $195,359,000 in the third quarter 2021.

Within this category, the largest asset balance in 2022 and 2021 has been interest-bearing deposits held with the Federal Reserve.

Interest and fees from loans receivable decreased $78,000 in 2022 as compared to 2021.

Interest and fees on PPP loans totaled $206,000 in the second quarter 2022, a decrease of $1,043,000 from the second quarter 2021, as previously deferred fees were recognized in income upon the SBA’s repayment of loans based on forgiveness of the underlying borrowers.

Average outstanding loans receivable decreased $18,237,000 (1.1%) to $1,588,884,000 in 2022 from $1,607,121,000 in 2021, including a reduction in average PPP loans of $116,208,000.

Average total loans outstanding, excluding PPP loans, increased $97,971,000 (6.6%).

The average yield on loans in the second quarter 2022 was 4.67%, up from 4.64% in the second quarter 2021.

INTEREST EXPENSE AND INTEREST-BEARING LIABILITIES

For the three-month periods, interest expense decreased $63,000 to $1,684,000 in 2022 from $1,747,000 in 2021.

Interest expense on deposits decreased $87,000, as the average rate on interest-bearing deposits decreased to 0.32% in 2022 from 0.35% in 2021.

The decrease in average rate on deposits includes a decrease of 0.14% on time deposits and increases of 0.05% on interest checking accounts and 0.03% on money market accounts.

Average total deposits increased $43,953,000 (2.3%) to $1,962,991,000 in the second quarter 2022 from $1,919,038,000 in the second quarter 2021.

Average time deposits decreased $67,020,000, while the average total balance of other categories of noninterest-bearing demand and other deposits increased $110,973,000, or 7.0%.

The increase in average deposits includes the impact of PPP-related activity and funding received over the last three quarters of 2020 and throughout 2021 from other government stimulus programs as well as growth in commercial deposits from new business.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

Interest expense on short-term borrowings in the second quarter 2022 was $122,000 as compared to $7,000 in 2021.

The average balance of short-term borrowings increased to $36,848,000 in 2022 from $6,528,000 in 2021 reflecting an increase in overnight borrowings to provide temporary funding to support significant loan growth in the second quarter 2022.

The average rate on short-term borrowings was 1.33% in 2022, up from 0.43% in 2021, consistent with recent increases in Fed Funds and other short-term interest rates.

Interest expense on long-term borrowings (FHLB advances) decreased $54,000 to $55,000 in 2022 from $109,000 in 2021.

The average balance of long-term borrowings was $19,516,000 in 2022, down from an average balance of $46,788,000 in 2021.

For the three-month periods, interest expense increased $1,217,000 to $2,831,000 in 2022 from $1,614,000 in 2021.

Interest expense on deposits increased $909,000, as the average rate on interest-bearing deposits increased to 0.54% in 2022 from 0.30% in 2021.

The increase in average rate on deposits includes increases of 0.40% on time deposits, 0.34% on money market accounts and 0.22% on interest checking accounts.

The Corporation’s deposit rates have increased in response to the impact on market rates of increases in the Fed Funds Target Rate.

The Fed Funds Target Rate ranged from 0% to 0.25% throughout 2021, while the Federal Reserve implemented a series of rate increases in March, May, June, July, and September 2022 resulting in a Fed Funds Target Rate ranging from 3% to 3.25% at September 30, 2022.

Average total deposits increased $61,825,000 (3.2%) to $1,998,583,000 in the third quarter 2022 from $1,936,758,000 in the third quarter 2021.

Average time deposits decreased $14,351,000 and average money market accounts decreased $7,615,000, while the average total balance of other categories of noninterest-bearing demand and other deposits increased $83,791,000.

The increase in average deposits includes the impact of funding received by consumers, businesses and municipal entities from government stimulus programs as well as growth in commercial deposits from new business.

Interest expense on short-term borrowings in the third quarter 2022 was $179,000 as compared to less than $1,000 in 2021.

The average balance of short-term borrowings increased to $33,970,000 in 2022 from $2,185,000 in 2021 reflecting an increase in overnight borrowings to provide temporary funding to support loan growth.

The average rate on short-term borrowings was 2.09% in 2022.

Interest expense on long-term borrowings (FHLB advances) increased $245,000 to $332,000 in 2022 from $87,000 in 2021.

The average balance of long-term borrowings was $51,628,000 in 2022, up from an average balance of $41,083,000 in 2021.

Borrowings are classified as long-term within the Tables based on their term at origination or assumption in business combinations.

The average rate on long-term borrowings was 2.55% in 2022 compared to 0.84% in 2021.

Interest expense on senior notes issued in May 2021 totaled $120,000 in the second quarter 2022 as compared to $57,000 in 2021.

The average balance of the senior notes increased to $14,725,000 in 2022 from $6,930,000 in 2021.

The average rate on senior notes was 3.27% in 2022 compared to 3.30% in 2021.

Interest expense on subordinated debt decreased $117,000 to $229,000 in 2022 from $346,000 in 2021.

The average balance of subordinated debt decreased slightly to $26,476,000 in 2022 from $26,916,000 in 2021.

The average balance of subordinated debt decreased to $24,566,000 in 2022 from $32,978,000 in 2021.

The average rate on subordinated debt decreased to 3.70% in 2022 from 4.16% in 2021.

In May 2021, the Corporation issued subordinated debt with a par value of $25.0 million with an effective interest rate of 3.74%.

In the second quarter 2021, the Corporation redeemed subordinated debt with an aggregate par value of $8.0 million and an effective interest rate of 5.49%.

In the second quarter 2022, the Corporation redeemed subordinated debt with an aggregate par value of $6.5 million and an effective interest rate of 6.50%, and also redeemed an agreement with a par value of $2.0 million and an effective interest rate of 5.60%

In the second quarter 2022, the Corporation redeemed subordinated debt with aggregate par values of $8.5 million and a weighted average interest rate of 6.29%.

More information regarding the terms of borrowed funds is provided in Note 8 to the unaudited consolidated financial statements.

Six-Month Periods Ended June 30, 2022 and 2021

For the six-month periods, fully taxable equivalent net interest income was $40,571,000 in 2022, which was $1,266,000 (3.2%) higher than in 2021.

Interest income in 2022 was $43,696,000 which was $973,000 higher in 2022 as compared to 2021, while interest expense of $3,125,000 was lower by $293,000 in comparing the same periods.

As presented in Table III, the Net Interest Margin was 3.74% in 2022 as compared to 3.75% in 2021, and the “Interest Rate Spread” (excess of average rate of return on earning assets over average cost of funds on interest-bearing liabilities) decreased slightly to 3.60% in 2022 from 3.61% in 2021.

The average yield on earning assets of 4.02% was 0.06% lower in 2022 as compared to 2021, and the average rate on interest-bearing liabilities of 0.42% in 2022 was 0.05% lower.

Income from purchase accounting-related adjustments in the six months ended June 30, 2022 had a positive effect on net interest income of $947,000, including an increase in income on loans of $703,000 and net reductions in interest expense on time deposits and borrowed funds totaling $244,000.

The positive impact of purchase accounting-related adjustments to the net interest margin was 0.09% in the first six months of 2022.

In comparison, the net positive impact of purchase accounting-related adjustments was $1,665,000, with a positive impact on the net interest margin of 0.16% in the first six months of 2021.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

Nine-Month Periods Ended September 30, 2022 and 2021

For the nine-month periods, fully taxable equivalent net interest income was $61,759,000 in 2022, which was $2,703,000 (4.6%) higher than in 2021.

Interest income in 2022 was $67,715,000 which was $3,627,000 higher in 2022 as compared to 2021, while interest expense of $5,956,000 was higher by $924,000 in comparing the same periods.

As presented in Table V, the Net Interest Margin was 3.72% in 2022 as compared to 3.70% in 2021, and the “Interest Rate Spread” (excess of average rate of return on earning assets over average cost of funds on interest-bearing liabilities) remained unchanged at 3.55% in 2022 and 2021.

The average yield on earning assets of 4.08% was 0.07% higher in 2022 as compared to 2021, and the average rate on interest-bearing liabilities of 0.53% in 2022 was also 0.07% higher.

Income from purchase accounting-related adjustments in the nine months ended September 30, 2022 had a positive effect on net interest income of $1,347,000, including an increase in income on loans of $1,016,000 and net reductions in interest expense on time deposits and borrowed funds totaling $331,000.

The positive impact of purchase accounting-related adjustments to the net interest margin was 0.08% in the first nine months of 2022.

In comparison, the net positive impact of purchase accounting-related adjustments was $2,228,000, with a positive impact on the net interest margin of 0.14% in the first nine months of 2021.

INTEREST INCOME AND EARNING ASSETS

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The average balance of available-for-sale debt securities (at amortized cost) increased to $557,155,000 in 2022 from $364,452,000 in 2021.

The increase in available-for-sale debt securities reflects the investment of funds that would otherwise have represented excess cash throughout most of 2021 and the first quarter 2022.

The increase in available-for-sale debt securities reflects the investment of funds that would otherwise have represented excess cash over the course of 2021 and the first quarter 2022.

The average yield on available-for-sale debt securities was 2.15% for 2022, down from 2.23% in 2021.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

Income from interest-bearing due from banks totaled $159,000 in 2022, an increase of $35,000 from 2021.

The average yield on interest-bearing due from banks was 0.49% in 2022 and 0.18% in 2021.

The average balance of interest-bearing due from banks was $65,670,000 in 2022 as compared to $137,851,000 in 2021.

Within this category, the largest asset balance in 2022 and 2021 has been interest-bearing deposits held with the Federal Reserve.

Interest and fees from loans receivable decreased $1,000,000 in 2022 as compared to 2021.

Interest and fees from loans receivable increased $623,000 in 2022 as compared to 2021.

Total interest and fees from loans excluding PPP loans increased $4,610,000 in 2022 as compared to 2021.

Interest and fees on PPP loans totaled $899,000 in 2022, a decrease of $3,987,000 from 2021, as previously deferred fees were recognized in income upon the SBA’s repayment of loans based on forgiveness of the underlying borrowers.

In 2022, total interest and fees on loans included $1,412,000 from repayments received on purchased credit impaired loans in excess of previous carrying amounts as compared to income of $18,000 in 2021.

In 2022, total interest and fees on loans included $1,585,000 from repayments received on purchased credit impaired loans in excess of previous carrying amounts as compared to income from similar repayments of $35,000 in 2021.

Average outstanding loans receivable decreased $6,897,000 (0.4%) to $1,604,135,000 in 2022 from $1,611,032,000 in 2021, including a reduction in average PPP loans of $106,186,000.

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The average yield on loans in 2022 was 4.86%, up from 4.79% in 2021.

The average yield on loans included the positive impact of the income on PCI loans in 2022 and the comparatively high yield on PPP loans.

The average yield on loans included the positive impact of the income on PCI loans in 2022.

The comparatively high yield on PPP loans provided a benefit to the margin in both periods though the higher volume resulted in a larger benefit in 2021.

Excluding PPP loans and income from excess repayments on purchased credit impaired loans, the adjusted yield on loans was 4.69% for the first nine months of 2022, up from the similarly adjusted yield of 4.38% in 2021.

Income from interest-bearing due from banks totaled $335,000 in 2022, an increase of $105,000 from 2021.

The average yield on interest-bearing due from banks was 0.81% in 2022 and 0.20% in 2021.

The average balance of interest-bearing due from banks was $55,154,000 in 2022 as compared to $157,231,000 in 2021.

Within this category, the largest asset balance in 2022 and 2021 has been interest-bearing deposits held with the Federal Reserve.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

INTEREST EXPENSE AND INTEREST-BEARING LIABILITIES

For the six-month periods, interest expense decreased $293,000 to $3,125,000 in 2022 from $3,418,000 in 2021.

Interest expense on deposits decreased $455,000, as the average rate on interest-bearing deposits decreased to 0.29% in 2022 from 0.37% in 2021.

The decrease in average rates on deposits included a decrease of 0.16% on time deposits.

For the nine-month periods, interest expense increased $924,000 to $5,956,000 in 2022 from $5,032,000 in 2021.

Interest expense on deposits increased $454,000, as the average rate on interest-bearing deposits increased to 0.38% in 2022 from 0.34% in 2021 reflecting the impact of increases in market rates in 2022 as described earlier.

Average total deposits increased $68,640,000 (3.6%) to $1,964,663,000 in 2022 from $1,896,023,000 in 2021.

Average time deposits decreased $57,885,000, while the average total balance of other categories of deposits increased $126,525,000, or 8.1%.

The increase in average deposits includes the impact of funding received from government stimulus programs as well as growth in commercial deposits from new business.

Interest expense on short-term borrowings in 2022 was $302,000 as compared to $22,000 in 2021.

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The average rate on short-term borrowings was 1.66% in 2022 compared to 0.38% in 2021.

Interest expense on long-term borrowings (FHLB advances) decreased $139,000 to $104,000 in 2022 from $243,000 in 2021.

Interest expense on long-term borrowings (FHLB advances) increased $106,000 to $436,000 in 2022 from $330,000 in 2021.

The average balance of long-term borrowings was $32,509,000 in 2022, down from an average balance of $46,863,000 in 2021.

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The average balance of the senior notes increased to $14,725,000 in 2022 from $7,255,000 in 2021.

The average rate on senior notes was 3.26% in 2022 compared to 3.30% in 2021.

Interest expense on subordinated debt increased $19,000 to $620,000 in 2022 from $601,000 in 2021.

The average rate on senior notes was 3.24% in 2022 and 3.23% in 2021.

Interest expense on subordinated debt decreased $98,000 to $849,000 in 2022 from $947,000 in 2021.

The average balance of subordinated debt increased to $27,966,000 in 2022 from $25,539,000 in 2021.

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CITIZENS & NORTHERN CORPORATION – FORM 10-Q

TABLE II - ANALYSIS OF INTEREST INCOME AND EXPENSE

TABLE IV - ANALYSIS OF INTEREST INCOME AND EXPENSE

Three Months Ended

Six Months Ended

Nine Months Ended

September 30,

(In Thousands)

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Three Months Ended

Six Months Ended

Nine Months Ended

September 30,

Net Interest Income Under U.S.

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CITIZENS & NORTHERN CORPORATION – FORM 10-Q

Table III - Analysis of Average Daily Balances and Rates

TABLE V - Analysis of Average Daily Balances and Rates

(Dollars in Thousands)

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CITIZENS & NORTHERN CORPORATION – FORM 10-Q

TABLE IV - ANALYSIS OF VOLUME AND RATE CHANGES

TABLE VI - ANALYSIS OF VOLUME AND RATE CHANGES

(In Thousands)

Three Months Ended 9/30/22 vs.

Six Months Ended 6/30/22 vs.

Nine Months Ended 9/30/22 vs.

EARNING ASSETS

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(2) The change in interest due to both volume and rates has been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amount of the change in each.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

NONINTEREST INCOME

TABLE V – COMPARISON OF NONINTEREST INCOME

(Dollars in Thousands)

Three Months Ended

Trust revenue

Brokerage and insurance revenue

Service charges on deposit accounts

Interchange revenue from debit card transactions

Net gains from sales of loans

Loan servicing fees, net

Increase in cash surrender value of life insurance

Other noninterest income

Realized (losses) gains on available-for-sale debt securities, net

Total noninterest income

Total noninterest income increased $527,000 (8.4%) from the second quarter 2021 total.

Changes of significance are discussed in the Earnings Overview section of Management’s Discussion and Analysis.

(Dollars in Thousands)

Six Months Ended

Trust revenue

Brokerage and insurance revenue

Service charges on deposit accounts

Interchange revenue from debit card transactions

Net gains from sales of loans

Loan servicing fees, net

Increase in cash surrender value of life insurance

Other noninterest income

Realized gains on available-for-sale debt securities, net

Total noninterest income

Total noninterest income for the first six months of 2022 decreased $432,000 (3.3%) from the total for the first six months of 2021.

Changes of significance are discussed in the Earnings Overview section of Management’s Discussion and Analysis.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

NONINTEREST EXPENSE

TABLE VI - COMPARISON OF NONINTEREST EXPENSE

(Dollars in Thousands)

Three Months Ended

Salaries and employee benefits

Net occupancy and equipment expense

Data processing and telecommunications expense

Automated teller machine and interchange expense

Pennsylvania shares tax

Professional fees

Other noninterest expense

Total noninterest expense

Total noninterest expense in the second quarter 2022 increased $1,640,000 (10.7%) from the second quarter 2021 total.

Changes of significance are discussed in the Earnings Overview section of Management’s Discussion and Analysis.

(Dollars in Thousands)

Six Months Ended

Salaries and employee benefits

Net occupancy and equipment expense

Data processing and telecommunications expense

Automated teller machine and interchange expense

Pennsylvania shares tax

Professional fees

Other noninterest expense

Total noninterest expense

Total noninterest expense for the first six months of 2022 increased $2,817,000 (9.1%) from the total for the first six months of 2021.

Changes of significance are discussed in the Earnings Overview section of Management’s Discussion and Analysis.

The income tax provision in interim periods is based on the Corporation’s estimate of the effective tax rate expected to be applicable for the full year.

The income tax provision for the first six months of 2022 was $3,101,000, which was $789,000 lower than the provision for the first six months of 2021.

The effective tax rate (tax provision as a percentage of pre-tax income) was 17.7% in the first six months of 2022 compared to 19.7% in the first six months of 2021.

The Corporation’s effective tax rates differ from the statutory rate of 21% in the first six months of 2022 and 2021 principally because of the effects of tax-exempt interest income, state income taxes and other permanent differences.

The income tax provision for the first nine months of 2022 was $3,959,000, which was $1,497,000 lower than the provision for the first nine months of 2021.

The effective tax rate (tax provision as a percentage of pre-tax income) was 17.4% in the first nine months of 2022 compared to 19.0% in the first nine months of 2021.

The Corporation’s effective tax rates differ from the statutory rate of 21% in the first nine months of 2022 and 2021 principally because of the effects of tax-exempt interest income, state income taxes and other permanent differences.

The lower provision in 2022 includes the impact of a reduction in pre-tax income.

The lower effective tax rate in 2022 includes the impact of higher tax-exempt interest income as a percentage of pre-tax income, a larger permanent difference

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

(deduction) related to restricted stock compensation and the benefit of a $301,000 reduction in expense from the reversal of tax penalties being non-taxable.

The Corporation recognizes deferred tax assets and liabilities based on differences between the financial statement carrying amounts and the tax basis of assets and liabilities.

The net deferred tax asset at June 30, 2022 and December 31, 2021 represents the following temporary difference components:

The net deferred tax asset at September 30, 2022 and December 31, 2021 represents the following temporary difference components:

September 30,

(In Thousands)

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Realization of deferred tax assets ultimately depends on the existence of sufficient taxable income.

Management believes the recorded net deferred tax asset at June 30, 2022 is fully realizable;

Management believes the recorded net deferred tax asset at September 30, 2022 is fully realizable;

however, if management determines the Corporation will be unable to realize all or part of the net deferred tax asset, the Corporation would adjust the deferred tax asset, which would negatively impact earnings .

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CITIZENS & NORTHERN CORPORATION – FORM 10-Q

The composition of the available-for-sale debt securities portfolio at June 30, 2022, December 31, 2021 and December 31, 2020 is as follows:

The composition of the available-for-sale debt securities portfolio at September 30, 2022, December 31, 2021 and December 31, 2020 is as follows:

(Dollars In Thousands)

June 30, 2022

September 30, 2022

December 31, 2021

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Commercial mortgage-backed securities

Private label commercial mortgage-backed securities

Total Available-for-Sale Debt Securities

4 unchanged sentences

Treasury.gov (Daily Treasury Par Yield Curve Rates)

The amortized cost of available-for-sale debt securities increased to $572,794,000 at June 30, 2022 from $511,592,000 at December 31, 2021 and $334,552,000 at December 31, 2020.

The amortized cost of available-for-sale debt securities increased to $559,837,000 at September 30, 2022 from $511,592,000 at December 31, 2021 and $334,552,000 at December 31, 2020.

The increase in the securities portfolio resulted from management’s decision to invest excess funds available from the fast growth in deposits and loan repayments throughout most of 2020, 2021 and the first quarter 2022.

As reflected in the table above, the fair value of available-for-sale securities as of June 30, 2022 was lower than the amortized cost basis by $45,957,000, or 8.0%.

As reflected in the table above, the fair value of available-for-sale securities as of September 30, 2022 was lower than the amortized cost basis by $71,857,000, or 12.8%.

In comparison, the aggregate unrealized gain position was $6,087,000 (1.2%) at December 31, 2021 and $14,780,000 (4.4%) at December 31, 2020.

The unrealized decrease in fair value of the portfolio in the first half of 2022 and in 2021 resulted from an increase in interest rates.

The unrealized decrease in fair value of the portfolio in the first nine months of 2022 and in 2021 resulted from an increase in interest rates.

As shown above, the market yield on the 5-year U.S.

Treasury Note was 1.75% higher at June 30, 2022 in comparison to December 31, 2021, and 2.65% higher than at December 31, 2020.

Management reviewed the Corporation’s holdings as of June 30, 2022 and concluded there were no credit-related declines in fair value and that the unrealized losses on all of the securities in an unrealized loss position are considered temporary.

Treasury Note was 2.80% higher at September 30, 2022 in comparison to December 31, 2021, and 3.70% higher than at December 31, 2020.

Management reviewed the Corporation’s holdings as of September 30, 2022 and concluded there were no credit-related declines in fair value and that the unrealized losses on all of the securities in an unrealized loss position are considered temporary.

In assessing whether there were other-than-temporary impairment losses, management considered (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, (3) the intent and ability of the Corporation to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value, and (4) whether the Corporation intends to sell the security or if it is more likely than not that the Corporation will be required to sell the security before the recovery of its amortized cost basis.

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Other significant balance sheet items, including securities, the allowance for loan losses and stockholders’ equity, are discussed in separate sections of Management’s Discussion and Analysis.

There are no significant concerns that have arisen related to the Corporation’s off-balance sheet loan commitments or outstanding letters of credit at June 30, 2022, and management does not expect the amount of purchases of bank premises and equipment to have a material, detrimental effect on the Corporation’s financial condition in 2022.

Table VII shows the composition of the loan portfolio at June 30, 2022 and at year-end from 2017 through 2021.

There are no significant concerns that have arisen related to the Corporation’s off-balance sheet loan commitments or outstanding letters of credit at September 30, 2022, and management does not expect the amount of purchases of bank premises and equipment to have a material, detrimental effect on the Corporation’s financial condition in 2022.

Table VII shows the composition of the loan portfolio at September 30, 2022 and at year-end from 2017 through 2021.

The significant loan growth in 2019 and 2020 reflects the impact of acquisitions.

Also, the Corporation has increased the proportion of residential mortgage loans sold into the secondary market, contributing to a reduction of $47,673,000 in residential mortgage loans outstanding at June 30, 2022 compared to December 31, 2020.

At June 30, 2022, commercial loans represented approximately 64% of the portfolio while residential mortgage loans totaled 35% of the portfolio.

At June 30, 2022, gross loans outstanding totaled $1,657,604,000, an increase of $92,755,000 from December 31, 2021, despite a reduction in PPP loans of $20,612,000 due to repayments.

Excluding PPP loans, total commercial loans at June 30, 2022 were up $108,797,000 from December 31, 2021.

Commercial lending activity was particularly robust in the second quarter 2022 as commercial real estate investors and other business borrowers generally displayed a sense of urgency to execute transactions prior to potential additional increases in interest rates.

The pace of loan growth for the remainder of 2022 will depend on the impact of potential further increases in interest rates, potential deterioration in economic conditions and other factors.

Also, the Corporation increased the proportion of residential mortgage loans sold into the secondary market, particularly in 2020 and 2021 when mortgage refinancings and other originations were at historically high volumes, contributing to a reduction of $30,188,000 in residential mortgage loans outstanding at September 30, 2022 compared to December 31, 2020.

At September 30, 2022, commercial loans represented approximately 64% of the portfolio while residential mortgage loans totaled 35% of the portfolio.

At September 30, 2022, gross loans outstanding totaled $1,690,246,000, an increase of $125,397,000 from December 31, 2021, despite a reduction in PPP loans of $24,829,000 due to repayments.

Excluding PPP loans, total commercial loans at September 30, 2022 were up $128,813,000 from December 31, 2021.

Commercial lending activity was particularly robust in the second and third quarters of 2022 as commercial real estate investors and other business borrowers generally displayed a sense of urgency to execute transactions prior to potential additional increases in interest rates.

The pace of loan growth in the fourth quarter 2022 and in 2023 will depend on the impact of potential further increases in interest rates, potential deterioration in economic conditions and other factors.

While the Corporation’s lending activities are primarily concentrated in its market areas, a portion of the Corporation’s commercial loan segment consists of participation loans.

2 unchanged sentences

Participation loans are included in the “Commercial and industrial”, “Commercial loans secured by real estate”, “Political subdivisions” and “Other commercial” classes in the loan tables presented in this Form 10-Q.

Total participation loans outstanding amounted to $44,979,000 at June 30, 2022, down from $54,372,000 at December 31, 2021.

At June 30, 2022, the balance of participation loans outstanding includes a total of $25,590,000 to businesses located outside of the Corporation’s market areas.

Total participation loans outstanding amounted to $41,451,000 at September 30, 2022, down from $54,372,000 at December 31, 2021.

As described in more detail in the Provision and Allowance for Loan Losses section of Management’s Discussion and Analysis, in the third quarter 2022 the Corporation recorded a partial charge-off of $2,160,000 on a commercial real estate secured participation loan with a recorded investment of $4,740,000 at September 30, 2022.

At September 30, 2022, the balance of participation loans outstanding includes a total of $13,667,000 to businesses located outside of the Corporation’s market areas.

Also, included within participation loans are “leveraged loans,” meaning loans to businesses with minimal tangible book equity and for which the extent of collateral available is limited, though typically at the time of origination the businesses have demonstrated strong cash flow performance in their recent histories.

Leveraged participation loans totaled $6,683,000 at June 30, 2022 and $7,469,000 at December 31, 2021.

Leveraged participation loans totaled $6,600,000 at September 30, 2022 and $7,469,000 at December 31, 2021.

The Corporation originates and sells residential mortgage loans to the secondary market through the MPF Xtra program administered by the Federal Home Loan Banks of Pittsburgh and Chicago.

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The Corporation does not retain servicing rights for loans sold under the MPF Direct Program.

Through June 30, 2022, the Corporation’s activity under the MPF Direct Program has been minimal.

Through September 30, 2022, the Corporation’s activity under the MPF Direct Program has been minimal.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

For loan sales originated under the MPF programs, the Corporation provides customary representations and warranties to investors that specify, among other things, that the loans have been underwritten to the standards established by the investor.

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Such repurchases or reimbursements generally result from an underwriting or documentation deficiency.

At June 30, 2022, the total outstanding balance of loans the Corporation has repurchased as a result of identified instances of noncompliance amounted to $1,544,000, and the corresponding total outstanding balance of repurchased loans at December 31, 2021 was $1,571,000.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

At June 30, 2022, outstanding balances of loans sold and serviced through the MPF Xtra and Original programs totaled $336,681,000, including loans sold through the MPF Xtra program of $160,367,000 and loans sold through the Original program of $176,314,000.

At September 30, 2022, the total outstanding balance of loans the Corporation has repurchased as a result of identified instances of noncompliance amounted to $1,529,000, and the corresponding total outstanding balance of repurchased loans at December 31, 2021 was $1,571,000.

At September 30, 2022, outstanding balances of loans sold and serviced through the MPF Xtra and Original programs totaled $331,495,000, including loans sold through the MPF Xtra program of $158,612,000 and loans sold through the Original program of $172,883,000.

At December 31, 2021, outstanding balances of loans sold and serviced through the two programs totaled $334,741,000, including loans sold through the MPF Xtra program of $165,668,000 and loans sold through the Original Program of $169,073,000.

Based on the fairly limited volume of required repurchases to date, no allowance has been established for representation and warranty exposures as of June 30, 2022 and December 31, 2021.

Based on the fairly limited volume of required repurchases to date, no allowance has been established for representation and warranty exposures as of September 30, 2022 and December 31, 2021.

For loans sold under the Original program, the Corporation provides a credit enhancement whereby the Corporation would assume credit losses in excess of a defined First Loss Account (“FLA”) balance, up to specified amounts.

The FLA is funded by the Federal Home Loan Bank of Pittsburgh based on a percentage of the outstanding balance of loans sold.

At June 30, 2022, the Corporation’s maximum credit enhancement obligation under the MPF Original Program was $9,146,000, and the Corporation has recorded a related allowance for credit losses in the amount of $610,000 which is included in accrued interest and other liabilities in the accompanying consolidated balance sheets.

At September 30, 2022, the Corporation’s maximum credit enhancement obligation under the MPF Original Program was $9,090,000, and the Corporation has recorded a related allowance for credit losses in the amount of $500,000 which is included in accrued interest and other liabilities in the accompanying consolidated balance sheets.

At December 31, 2021, the Corporation’s maximum credit enhancement obligation under the MPF Original Program was $8,656,000, and the related allowance for credit losses was $635,000.

Income related to providing the credit enhancement (included in other noninterest income in the consolidated statements of income) totaled $200,000 for the six months ended June 30, 2022 and $199,000 for the six months ended June 30, 2021.

A credit for losses related to the credit enhancement obligation (included in other noninterest expense in the consolidated statements of income) of $25,000 was recorded in the six months ended June 30, 2022 with a provision for losses of $50,000 in the six months ended June 30, 2021.

Income related to providing the credit enhancement (included in other noninterest income in the consolidated statements of income) totaled $251,000 for the nine months ended September 30, 2022 and $265,000 for the nine months ended September 30, 2021.

A credit for losses related to the credit enhancement obligation (included in other noninterest expense in the consolidated statements of income) of $97,000 was recorded in the nine months ended September 30, 2022 with a provision for losses of $50,000 in the nine months ended September 30, 2021.

The Corporation does not provide a credit enhancement for loans sold through the Xtra program.

4 unchanged sentences

Determination of the allowance was subjective in nature and was based on the Corporation’s assessment of the credit quality of the loans and the quality of the documentation supporting compliance with SBA requirements.

The Corporation’s total exposure related to SBA guarantees on purchased loans was $6,127,000 at June 30, 2022 and $12,856,000 at December 31, 2021 with an allowance for SBA claim adjustments (included in accrued interest and other liabilities in the consolidated balance sheets) of $167,000 at June 30, 2022 and $457,000 at December 31, 2021.

In the six months ended June 30, 2022, the Corporation recorded a reduction in other noninterest expense of $290,000 representing amounts realized on SBA claims in excess of prior estimates, as compared to a reduction of $163,000 in the six months ended June 30, 2021.

The Corporation’s total exposure related to SBA guarantees on purchased loans was $5,992,000 at September 30, 2022 and $12,856,000 at December 31, 2021 with an allowance for SBA claim adjustments (included in accrued interest and other liabilities in the consolidated balance sheets) of $90,000 at September 30, 2022 and $457,000 at December 31, 2021.

In the nine months ended September 30, 2022, the Corporation recorded a reduction in other noninterest expense of $367,000 representing amounts realized on SBA claims in excess of prior estimates, as compared to a reduction of $208,000 in the nine months ended September 30, 2021.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

2 unchanged sentences

(In Thousands)

September 30,

Commercial loans secured by real estate

22 unchanged sentences

Such agencies may require the Corporation to recognize adjustments to the allowance based on their judgments of information available to them at the time of their examination.

The allowance for loan losses was $14,547,000 at June 30, 2022, up from $13,537,000 at December 31, 2021.

Table IX shows total specific allowances on impaired loans of $427,000 at June 30, 2022, down from $740,000 at December 31, 2021.

Table IX also shows the increase in the allowance in 2022 is mainly related to commercial loans, as the collectively evaluated portion of the allowance related to the commercial segment increased to $8,467,000 at June 30, 2022 from $7,553,000 at December 31, 2021.

Table X shows the allowance for loan losses totaled 0.88% of gross loans outstanding at June 30, 2022, up from 0.87% at December 31, 2021 and down from levels in excess of 1.00% from 2017 and 2018.

Table X also shows that the total of the allowance and the credit adjustment on purchased non-impaired loans, as a percentage of total loans plus the credit adjustment, was 1.02% at June 30, 2022, in line with ratios from the previous years.

The allowance for loan losses was $16,170,000 at September 30, 2022, up from $13,537,000 at December 31, 2021.

Table IX shows total specific allowances on impaired loans of $427,000 at September 30, 2022, down from $740,000 at December 31, 2021.

Table IX also shows the increase in the allowance in 2022 is mainly related to commercial loans, as the collectively evaluated portion of the allowance related to the commercial segment increased to $9,811,000 at September 30, 2022 from $7,553,000 at December 31, 2021.

Table X shows the allowance for loan losses totaled 0.96% of gross loans outstanding at September 30, 2022, up from 0.87% at December 31, 2021 and down from levels in excess of 1.00% from 2017 and 2018.

Table X also shows that the total of the allowance and the credit adjustment on purchased non-impaired loans, as a percentage of total loans plus the credit adjustment, was 1.08% at September 30, 2022, in line with ratios from the previous years.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

The (credit) provision for loan losses by segment in the three-month and six-month periods ended June 30, 2022 and 2021 are as follows:

The provision (credit) for loan losses by segment in the three-month and nine-month periods ended September 30, 2022 and 2021 are as follows:

Three Months Ended

Six Months Ended

Nine Months Ended

September 30,

(In Thousands)

Residential mortgage

The (credit) provision for loan losses is further detailed as follows:

The provision (credit) for loan losses is further detailed as follows:

Commercial segment

Three Months Ended

Six Months Ended

Nine Months Ended

September 30,

(In Thousands)

(Decrease) increase in total specific allowance on impaired loans, adjusted for the effect of net charge-offs

Net change in total specific allowance on impaired loans, adjusted for the effect of net charge-offs

Increase (decrease) in collectively determined portion of the allowance attributable to:

2 unchanged sentences

Changes in qualitative factors

Total (credit) provision for loan losses - Commercial segment

Total provision for loan losses - Commercial segment

Residential mortgage segment

Three Months Ended

Six Months Ended

Nine Months Ended

September 30,

(In Thousands)

Decrease in total specific allowance on impaired loans, adjusted for the effect of net charge-offs

Net change in total specific allowance on impaired loans, adjusted for the effect of net charge-offs

Increase (decrease) in collectively determined portion of the allowance attributable to:

2 unchanged sentences

Changes in qualitative factors

Total (credit) provision for loan losses - Residential mortgage segment

Total provision for loan losses - Residential mortgage segment

Consumer segment

Three Months Ended

Six Months Ended

Nine Months Ended

September 30,

(In Thousands)

Increase in total specific allowance on impaired loans, adjusted for the effect of net charge-offs

Increase (decrease) in collectively determined portion of the allowance attributable to:

Net change in total specific allowance on impaired loans, adjusted for the effect of net charge-offs

(Decrease) increase in collectively determined portion of the allowance attributable to:

Changes in loan volume

1 unchanged sentence

Changes in qualitative factors

Total provision for loan losses - Consumer segment

Total (credit) provision for loan losses - Consumer segment

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

1 unchanged sentence

Three Months Ended

Six Months Ended

Nine Months Ended

September 30,

(In Thousands)

(Decrease) increase in total specific allowance on impaired loans, adjusted for the effect of net charge-offs

Net change in total specific allowance on impaired loans, adjusted for the effect of net charge-offs

Increase (decrease) in collectively determined portion of the allowance attributable to:

3 unchanged sentences

Total provision for loan losses - All segments

As presented in the tables above, the provision amounts for the second quarter 2022 and six months ended June 30, 2022 include significant provisions due to increases in loan volume, partially offset by credits for the effect of reductions in the allowance associated with qualitative factors.

The portion of the provision attributable to increases in loan volume includes the impact of significant loan growth, particularly for the commercial segment, as well as an increase in the collectively determined portion of the allowance related to management’s updated assessment of purchased performing loans.

The reduction in the provision related to changes in qualitative factors reflects management’s judgment that, generally, the credit quality of the portfolio has been improving over the past several quarters, as reflected in the lower balances of impaired and nonperforming loans at June 30, 2022 as described below.

For the periods shown in the tables immediately above, the provision related to increases or decreases in specific allowances on impaired loans was affected by changes in the results of management’s assessment of the amount of probable or actual (charged-off) losses associated with a small number of larger, individual loans.

This line item also includes net charge-offs or recoveries from smaller loans that had not been individually evaluated for impairment prior to charge-off.

As presented in the tables above, the provision for the third quarter 2022 includes the impact of a partial charge-off of $2,160,000 on a commercial real estate secured loan with a principal balance of $6,920,000 at the time of charge-off.

This is a participation loan to a borrower in the health care industry.

Realization of the recorded investment in the loan of $4,760,000 at September 30, 2022 is principally dependent upon the amount of proceeds from sales of the real estate and, if necessary, payments of any shortfall by the guarantors.

The third quarter 2022 provision also includes $687,000 related to changes in historical loss factors, most of which resulted from the partial charge-off just described.

Further, the third quarter 2022 provision includes $757,000 attributable to increases in loan volume resulting from significant loan growth, particularly for the commercial segment, as well as an increase in the collectively determined portion of the allowance related to management’s updated assessment of purchased performing loans.

Similar to the discussion of the third quarter 2022 above, the provision for the nine months ended September 30, 2022 includes the impact of the $2,160,000 partial charge-off and related increase in the Corporation’s historical loss experience as well as $3,180,000 attributable to increases in loan volume.

In the nine months ended September 30, 2022, changes in qualitative factors resulted in a reduction in the provision of $1,226,000.

The reduction in the provision related to changes in qualitative factors reflects management’s judgment that despite concerns related to the commercial loan described above, the credit quality of the portfolio has generally been improving over the past several quarters.

In the tables immediately above, the portion of the net change in the collectively determined allowance attributable to loan growth was determined by applying the historical loss experience and qualitative factors used in the allowance calculation at the end of the preceding period to the net increase or reduction in loans outstanding (excluding loans specifically evaluated for impairment) for the period.

1 unchanged sentence

(1) calculating the net change in each factor used in determining the allowance at the end of the period as compared to the preceding period, and (2) applying the net change in each factor to the outstanding balance of loans at the end of the preceding period (excluding loans specifically evaluated for impairment).

In the six months ended June 30, 2022, net charge-offs were $189,000, including recoveries of $32,000 and charge-offs of $221,000.

Table VIII shows the average rate of net charge-offs as a percentage of loans was 0.01% in the six months ended June 30, 2022, and annual average rates ranging from a high of 0.16% in 2020 to a low of 0.02% in 2018.

In the nine months ended September 30, 2022, net charge-offs were $2,360,000, including recoveries of $57,000 and charge-offs of $2,417,000.

Table VIII shows the average rate of net charge-offs as a percentage of loans was 0.15% in the nine months ended September 30, 2022, and annual average rates ranging from a high of 0.16% in 2020 to a low of 0.02% in 2018.

Table X presents information related to past due and impaired loans, and loans that have been modified under terms that are considered TDRs.

Total nonperforming loans of $14,336,000 at June 30, 2022 was down from $21,218,000 at December 31, 2021.

The reduction in nonperforming loans included the impact of a commercial loan with a balance of $2,907,000 at June 30, 2022 and $3,063,000 at December 31, 2021 being removed from nonaccrual and impaired status in the second quarter 2022 due to improved performance.

Relatedly, there was no allowance on this loan at June 30, 2022 and an allowance of $242,000 at December 31, 2021.

The reduction in nonperforming loans also included the impact of a reduction in purchased credit impaired loans, as described below.

Total nonperforming loans as a percentage of outstanding loans was 0.86% at June 30, 2022, down from 1.36% at December 31, 2021, and nonperforming assets as a percentage of total assets was 0.62% at June 30, 2022, down from 0.94% at December 31, 2021.

At September 30, 2022, the recorded investment of $4,760,000 in the commercial loan with the partial charge-off referred to above was classified as nonperforming (nonaccrual) and impaired with no specific allowance.

Total nonperforming loans of $20,458,000 at September 30, 2022 was down from $21,218,000 at December 31, 2021.

Total nonperforming loans as a percentage of outstanding loans was 1.21% at September 30, 2022, down from 1.36% at December 31, 2021, and nonperforming assets as a percentage of total assets was 0.87% at September 30, 2022, down from 0.94% at December 31, 2021.

Table X presents data at the end of each of the years ended December 31, 2017 through 2021.

Table X shows that total nonperforming loans as a percentage of loans of 0.86% at June 30, 2022, though up from December 31, 2019, was lower than the corresponding year-end ratio for all other years presented.

Similarly, the June 30, 2022 ratio of total nonperforming assets as a percentage of assets of 0.62% was lower than the corresponding ratio for all years presented except December 31, 2019.

Table X shows that total nonperforming loans as a percentage of loans of 1.21% at September

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

Total impaired loans of $8,647,000 at June 30, 2022 are down $7,087,000 from the corresponding amount at December 31, 2021 of $15,734,000.

The reduction in total impaired loans included the impact of removing the commercial loan noted above from impaired status.

Purchased credit impaired loans were included in impaired loans and had carrying values totaling $3,879,000 at June 30, 2022 and $6,558,000 at December 31, 2021.

In the six months ended June 30, 2022, the Corporation received pay-offs on a few purchased credit impaired loans and recognized interest income of $1,412,000 for the excess received over previous carrying amounts.

Over the period 2017-2021 and the first six months of 2022, each period includes a few large commercial relationships that have required significant monitoring and workout efforts.

As a result, a limited number of relationships may significantly impact the total amount of allowance required on impaired loans, and may significantly impact the amount of total charge-offs reported in any one period.

30, 2022, though up from December 31, 2019, was lower than the corresponding year-end ratio for all other years presented.

Similarly, the September 30, 2022 ratio of total nonperforming assets as a percentage of assets of 0.87% was lower than the corresponding ratio for all years presented except December 31, 2019.

Total impaired loans of $13,309,000 at September 30, 2022 are down $2,425,000 from the corresponding amount at December 31, 2021 of $15,734,000.

Although impaired loans without a valuation allowance increased $3,494,000, mainly due to the classification in the third quarter 2022 as impaired of the commercial loan with the partial charge-off described above, the balances of purchased credit impaired loans and impaired loans with a valuation allowance decreased.

Purchased credit impaired loans totaled $3,783,000 at September 30, 2022, down from $6,558,000 at December 31, 2021.

In the nine months ended September 30, 2022, the Corporation received pay-offs on a few purchased credit impaired loans and recognized interest income of $1,585,000 for the excess received over previous carrying amounts.

Total impaired loans with a valuation allowance was $3,396,000 at September 30, 2022, down from $6,540,000 at December 31, 2021.

At September 30, 2022, there was one commercial real estate secured loan within this category with a related valuation allowance of $427,000.

This loan was also classified as impaired at December 31, 2021, when the balance was $3,409,000 and the allowance was $427,000.

There were two other commercial loans classified as impaired at December 31, 2021, with balances totaling $3,136,000 and specific allowances totaling $313,000, that were removed from that classification with the allowances reversed in 2022 because of improved circumstances.

Over the period 2017-2021 and the first nine months of 2022, each period includes a few large commercial relationships that have required significant monitoring and workout efforts.

As a result, a limited number of relationships may significantly impact the total amount of allowance required on impaired loans, and may significantly impact the provision for loan losses and the amount of total charge-offs reported in any one period.

Management believes it has been conservative in its decisions concerning identification of impaired loans, estimates of loss, and nonaccrual status;

however, the actual losses realized from these relationships could vary materially from the allowances calculated as of June 30, 2022.

however, the actual losses realized from these relationships could vary materially from the allowances calculated as of September 30, 2022.

Management continues to closely monitor its commercial loan relationships for possible credit losses, and will adjust its estimates of loss and decisions concerning nonaccrual status, if appropriate.

2 unchanged sentences

(Dollars In Thousands)

Six Months Ended

Nine Months Ended

September 30,

Years Ended December 31,

8 unchanged sentences

Net charge-offs as a % of average loans

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

TABLE IX - COMPONENTS OF THE ALLOWANCE FOR LOAN LOSSES

(In Thousands)

September 30,

As of December 31,

7 unchanged sentences

(Dollars In Thousands)

September 30,

As of December 31,

28 unchanged sentences

An adequate liquidity position permits the Corporation to pay creditors, compensate for unforeseen deposit fluctuations and fund unexpected loan demand.

At June 30, 2022, the Corporation maintained overnight interest-bearing deposits with the Federal Reserve Bank of Philadelphia and other correspondent banks totaling $22,602,000.

At September 30, 2022, the Corporation maintained overnight interest-bearing deposits with the Federal Reserve Bank of Philadelphia and other correspondent banks totaling $24,485,000.

The Corporation maintains overnight borrowing facilities with several correspondent banks that provide a source of day-to-day liquidity.

2 unchanged sentences

Management intends to use this line of credit as a contingency funding source.

As collateral for the line, the Corporation has pledged available-for-sale debt securities with a carrying value of $18,267,000 at June 30, 2022.

The Corporation’s outstanding, available, and total credit facilities at June 30, 2022 and December 31, 2021 are as follows:

As collateral for the line, the Corporation has pledged available-for-sale debt securities with a carrying value of $23,420,000 at September 30, 2022.

The Corporation’s outstanding, available, and total credit facilities at September 30, 2022 and December 31, 2021 are as follows:

(In Thousands)

September 30,

Federal Home Loan Bank of Pittsburgh

2 unchanged sentences

Total credit facilities

At June 30, 2022, the Corporation’s outstanding credit facilities with the Federal Home Loan Bank of Pittsburgh consisted of overnight borrowings of $88,500,000, long-term borrowings of $36,613,000 and letters of credit totaling $6,534,000.

At September 30, 2022, the Corporation’s outstanding credit facilities with the Federal Home Loan Bank of Pittsburgh consisted of long-term borrowings of $55,338,000 and letters of credit totaling $11,527,000.

At December 31, 2021, the Corporation’s outstanding credit facilities with the Federal Home Loan Bank of Pittsburgh consisted of long-term borrowings of $27,727,000 and letters of credit totaling $5,584,000.

2 unchanged sentences

If required to raise cash in an emergency situation, the Corporation could sell available-for-sale securities to meet its obligations or use repurchase agreements placed with brokers to borrow funds secured by investment assets.

At June 30, 2022, the carrying value of available-for-sale securities in excess of amounts required to meet pledging or repurchase agreement obligations was $304,272,000.

In light of the unrealized loss at September 30, 2022 resulting from increases in interest rates in 2022, as described in more detail in the Securities section of Management’s Discussion and Analysis, management would be more likely in the near term to utilize securities as collateral for borrowings than to sell securities in such an emergency situation.

At September 30, 2022, the carrying value of available-for-sale securities in excess of amounts required to meet pledging or repurchase agreement obligations was $218,473,000.

Management believes the Corporation is well-positioned to meet its short-term and long-term funding obligations.

6 unchanged sentences

The interim final rule provides that, if warranted for supervisory purposes, the Federal Reserve may exclude a company from the threshold increase.

Management believes the Corporation meets the conditions of the Federal Reserve’s small bank holding company policy statement and is therefore excluded from consolidated capital requirements at June 30, 2022;

however, C&N Bank remains subject to regulatory capital requirements administered by the federal banking agencies.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

Details concerning capital ratios at June 30, 2022 and December 31, 2021 are presented below.

Management believes, as of June 30, 2022, that C&N Bank meets all capital adequacy requirements to which it is subject and maintains a capital conservation buffer (described in more detail below) that allows the Bank to avoid limitations on capital distributions, including dividend payments and certain discretionary bonus payments to executive officers.

Further, as reflected in the table below, the Corporation’s and C&N Bank’s capital ratios at June 30, 2022 and December 31, 2021 exceed the Corporation’s Board policy threshold levels.

Details concerning capital ratios at September 30, 2022 and December 31, 2021 are presented below.

Management believes, as of September 30, 2022, that C&N Bank meets all capital adequacy requirements to which it is subject and maintains a capital conservation buffer (described in more detail below) that allows the Bank to avoid limitations on capital distributions, including dividend payments and certain discretionary bonus payments to executive officers.

Further, as reflected in the table below, the Corporation’s and C&N Bank’s capital ratios at September 30, 2022 and December 31, 2021 exceed the Corporation’s Board policy threshold levels.

(Dollars in Thousands)

9 unchanged sentences

Policy Thresholds

June 30, 2022:

September 30, 2022:

Total capital to risk-weighted assets:

9 unchanged sentences

Under the amended program, the Corporation is authorized to repurchase up to 1,000,000 shares of its common stock.

In the second quarter 2022, 235,505 shares were repurchased for a total cost of $5,701,000, at an average price of $24.21 per share.

Cumulatively through June 30, 2022, 664,431 shares have been repurchased for a total cost of $16,340,000, at an average price of $24.59 per share.

In the third quarter 2022, 10,269 shares were repurchased for a total cost of $246,000, at an average price of $23.97 per share.

Cumulatively through September 30, 2022, 674,700 shares have been repurchased for a total cost of $16,587,000, at an average price of $24.58 per share.

Future dividend payments and repurchases of common stock will depend upon maintenance of a strong financial condition, future earnings and capital and regulatory requirements.

4 unchanged sentences

The buffer is measured relative to risk-weighted assets.

At June 30, 2022, the minimum risk-based capital ratios, and the capital ratios including the capital conservation buffer, are as follows:

At September 30, 2022, the minimum risk-based capital ratios, and the capital ratios including the capital conservation buffer, are as follows:

Minimum common equity tier 1 capital ratio

18 unchanged sentences

≤1.25% and >0.625%

At June 30, 2022, C&N Bank’s Capital Conservation Buffer, determined based on the minimum total capital ratio, was 7.05%.

At September 30, 2022, C&N Bank’s Capital Conservation Buffer, determined based on the minimum total capital ratio, was 6.74%.

The Corporation’s total stockholders’ equity is affected by fluctuations in the fair values of available-for-sale debt securities.

1 unchanged sentence

Accumulated other comprehensive (loss) income is excluded from the Bank’s and Corporation’s regulatory capital ratios.

The balance in accumulated other comprehensive loss related to unrealized losses on available-for-sale debt securities, net of deferred income tax, amounted to $36,307,000 at June 30, 2022 as compared to the balance in accumulated other comprehensive income related to unrealized gains on available-for-sale debt securities, net of deferred income tax of $4,809,000 at December 31, 2021.

The decrease in stockholders’ equity in the first six months of 2022 from the change in accumulated other comprehensive (loss) income resulted from an increase in interest rates.

The balance in accumulated other comprehensive loss related to unrealized losses on available-for-sale debt securities, net of deferred income tax, amounted to $56,766,000 at September 30, 2022 as compared to the balance in accumulated other comprehensive income related to unrealized gains on available-for-sale debt securities, net of deferred income tax of $4,809,000 at December 31, 2021.

The decrease in stockholders’ equity in the first nine months of 2022 from the change in accumulated other comprehensive (loss) income resulted from an increase in interest rates.

Changes in accumulated other comprehensive (loss) income are excluded from earnings and directly increase or decrease stockholders’ equity.

If available-for-sale debt securities are deemed to be other-than-temporarily impaired, unrealized losses are recorded as a charge against earnings, and amortized cost for the affected securities is reduced.

The securities section of Management’s Discussion and Analysis and Note 5 to the unaudited consolidated financial statements provides additional information concerning management’s evaluation of available-for-sale debt securities for other-than-temporary impairment at June 30, 2022.

Inflation affects the cost of labor, supplies and services used to provide banking services as well as interest rates.

After many years of low inflation, disruptions to labor markets and supply chains triggered by the COVID-19 pandemic, government policies and Russia’s war against Ukraine, have led to high inflation.

The annual inflation rate for the 12-month period ended June 30, 2022, based on changes in the Consumer Price Index, was 9.1%.

The 9.1% increase was the largest 12-month advance since the period ending November 1981.

After many years of low inflation, disruptions to labor markets and supply chains triggered by the COVID-19 pandemic, government policies and the Russia-Ukraine war, have led to high inflation.

The annual inflation rate for the 12-month period ended September 30, 2022, based on changes in the Consumer Price Index, was 8.2%, significantly higher than the Federal Reserve’s 2% objective.

CITIZENS & NORTHERN CORPORATION – FORM 10-Q

2 unchanged sentences

economy, the Federal Reserve lowered the fed funds target rate (at the high end of the range) from 1.75% to 0.25% and resumed injections of massive amounts of liquidity into the nation’s monetary system through a variety of programs including purchases of large amounts of securities.

In 2022, the Federal Open Market Committee (FOMC) has changed course, raising the fed funds target rate in March, May, June and July, with the high end of the range at 2.50% at July 27, 2022.

Further, at its July 27, 2022 meeting, the FOMC announced that it anticipates ongoing increases to its target rate will be appropriate and that it expects to continue reducing its holdings of securities.

The Committee noted its desire to achieve maximum employment and inflation at a rate of 2 percent over the longer run.

In 2022, the Federal Open Market Committee (FOMC) has changed course, raising the fed funds target rate in March, May, June, July and September, with the high end of the range at 3.25% at September 22, 2022.

Further, at its September 21-22, 2022 meeting, the FOMC announced that it anticipates ongoing increases to its target rate will be appropriate and that it expects to continue reducing its holdings of securities.

The Committee noted its desire to achieve maximum employment and that it is strongly committed to returning inflation to its 2% objective.

Although management cannot predict future changes in the rates of inflation, management monitors the impact of economic trends, including indicators of inflationary pressures, in managing interest rate and other financial risks.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis