PREMIER FINANCIAL CORP - FORM 10-Q

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EX-32.1 - EXHIBIT 32.1 - PREMIER FINANCIAL CORP	v437768_ex32-1.htm
EX-32.2 - EXHIBIT 32.2 - PREMIER FINANCIAL CORP	v437768_ex32-2.htm
EX-31.1 - EXHIBIT 31.1 - PREMIER FINANCIAL CORP	v437768_ex31-1.htm
EX-31.2 - EXHIBIT 31.2 - PREMIER FINANCIAL CORP	v437768_ex31-2.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

For the Quarterly Period Ended March 31, 2016

Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

For the Transition Period from ___________to__________

Commission file number 0-26850

First Defiance Financial Corp.

(Exact name of registrant as specified in its charter)

Ohio		34-1803915
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification Number)

601 Clinton Street, Defiance, Ohio		43512
(Address of principal executive office)		(Zip Code)

Registrant's telephone number, including area code: (419) 782-5015

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark whether the registrant submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨

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

Large accelerated filer ¨	Accelerated filer x
Non-accelerated filer ¨	Smaller reporting company ¨

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

APPLICABLE ONLY TO CORPORATE ISSUERS

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practical date. Common Stock, $.01 Par Value – 8,962,735 shares outstanding at April 29, 2016.

FIRST DEFIANCE FINANCIAL CORP.

INDEX

		Page Number
PART I.-FINANCIAL INFORMATION

Item 1.	Consolidated Condensed Financial Statements (Unaudited): Consolidated Condensed Statements of Financial Condition – March 31, 2016 and December 31, 2015	2

	Consolidated Condensed Statements of Income - Three months ended March 31, 2016 and 2015	4

	Consolidated Condensed Statements of Comprehensive Income – Three months ended March 31, 2016 and 2015	5

	Consolidated Condensed Statements of Changes in Stockholders’ Equity – Three months ended March 31, 2016 and 2015	6

	Consolidated Condensed Statements of Cash Flows - Three months ended March 31, 2016 and 2015	7

	Notes to Consolidated Condensed Financial Statements	8

Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	46

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	66

Item 4.	Controls and Procedures	67

PART II-OTHER INFORMATION:

Item 1.	Legal Proceedings	69

Item 1A.	Risk Factors	69

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	69

Item 3.	Defaults upon Senior Securities	69

Item 4.	Mine Safety Disclosures	69

Item 5.	Other Information	69

Item 6.	Exhibits	70

	Signatures	71

PART I-FINANCIAL INFORMATION

Item 1. Financial Statements

FIRST DEFIANCE FINANCIAL CORP.

Consolidated Condensed Statements of Financial Condition

(UNAUDITED)

(Amounts in Thousands, except share and per share data)

	March 31, 2016		December 31, 2015

Assets
Cash and cash equivalents:
Cash and amounts due from depository institutions	$	40,785	$	38,769
Federal funds sold		83,000		41,000
		123,785		79,769
Securities:
Available-for-sale, carried at fair value		227,833		236,435
Held-to-maturity, carried at amortized cost (fair value $238 and $245 at March 31, 2016 and December 31, 2015, respectively)		235		243
		228,068		236,678
Loans held for sale		8,323		5,523
Loans receivable, net of allowance of $25,668 at March 31, 2016 and $25,382 at December 31, 2015, respectively		1,799,318		1,776,835
Accrued interest receivable		6,901		6,171
Federal Home Loan Bank stock		13,800		13,801
Bank owned life insurance		52,139		51,908
Premises and equipment		37,909		38,166
Real estate and other assets held for sale		1,111		1,321
Goodwill		61,798		61,798
Core deposit and other intangibles		1,714		1,871
Mortgage servicing rights		9,213		9,248
Other assets		14,852		14,587
Total assets	$	2,358,931	$	2,297,676

(continued)

FIRST DEFIANCE FINANCIAL CORP.

Consolidated Condensed Statements of Financial Condition

(UNAUDITED)

(Amounts in Thousands, except share and per share data)

	March 31, 2016			December 31, 2015

Liabilities and stockholders’ equity
Liabilities:
Deposits	$	1,871,157		$	1,836,137
Advances from the Federal Home Loan Bank		84,664			59,902
Subordinated debentures		36,083			36,083
Securities sold under repurchase agreements		57,985			57,188
Advance payments by borrowers		1,778			2,674
Deferred taxes		1,603			877
Other liabilities		25,290			24,618
Total liabilities		2,078,560			2,017,479

Stockholders’ equity:
Preferred stock, $.01 par value per share: 37,000 shares authorized; no shares issued		-			-
Preferred stock, $.01 par value per share:
4,963,000 shares authorized; no shares issued		-			-
Common stock, $.01 par value per share:
25,000,000 shares authorized; 12,721,059 and 12,721,959 shares issued and 8,960,621 and 9,102,831 shares outstanding, respectively		127			127
Common stock warrant		-			-
Additional paid-in capital		125,694			125,734
Accumulated other comprehensive income, net of tax of $2,412 and $1,950, respectively		4,479			3,622
Retained earnings		224,841			219,737
Treasury stock, at cost, 3,760,438 and 3,619,128 shares respectively		(74,770	)		(69,023	)
Total stockholders’ equity		280,371			280,197

Total liabilities and stockholders’ equity	$	2,358,931		$	2,297,676

See accompanying notes

FIRST DEFIANCE FINANCIAL CORP.

Consolidated Condensed Statements of Income

(UNAUDITED)

(Amounts in Thousands, except share and per share data)

	Three Months Ended
	March 31,
	2016		2015
Interest Income
Loans	$	19,312	$	17,887
Investment securities:
Taxable		843		913
Non-taxable		787		779
Interest-bearing deposits		49		39
FHLB stock dividends		139		139
Total interest income		21,130		19,757
Interest Expense
Deposits		1,433		1,272
FHLB advances and other		297		110
Subordinated debentures		175		147
Securities sold under repurchase agreements		37		38
Total interest expense		1,942		1,567
Net interest income		19,188		18,190
Provision for loan losses		364		120
Net interest income after provision for loan losses		18,824		18,070
Non-interest Income
Service fees and other charges		2,644		2,529
Insurance commission income		3,136		3,139
Mortgage banking income		1,539		1,775
Gain on sale of non-mortgage loans		45		36
Gain on sale of securities		131		-
Trust income		427		357
Income from Bank Owned Life Insurance		231		208
Other non-interest income		483		237
Total non-interest income		8,636		8,281
Non-interest Expense
Compensation and benefits		10,185		8,922
Occupancy		1,785		1,764
FDIC insurance premium		327		351
Financial institutions tax		446		481
Data processing		1,460		1,523
Amortization of intangibles		157		217
Other non-interest expense		2,914		3,639
Total non-interest expense		17,274		16,897
Income before income taxes		10,186		9,454
Federal income taxes		3,116		2,853
Net Income	$	7,070	$	6,601

Earnings per common share (Note 6)
Basic	$	0.79	$	0.71
Diluted	$	0.78	$	0.69
Dividends declared per share (Note 5)	$	0.22	$	0.175
Average common shares outstanding (Note 6)
Basic		8,994		9,234
Diluted		9,064		9,611

See accompanying notes

FIRST DEFIANCE FINANCIAL CORP.

Consolidated Condensed Statements of Comprehensive Income

(UNAUDITED)

(Amounts in Thousands)

	Three Months Ended March 31,
	2016			2015

Net income	$	7,070		$	6,601

Other comprehensive income:
Unrealized gains on securities available for sale		1,450			1,502
Reclassification adjustments for security (gains) losses included in net income(1)		(131	)		-
Income tax expense		(462	)		(527	)
Other comprehensive income		857			975

Comprehensive income	$	7,927		$	7,576

(1) Amounts are included in gains on sale or call of securities on the Consolidated Condensed Statements of Income. Income tax expense associated with the reclassification adjustments, included in federal income taxes, for the three months ended March 31, 2016 and 2015 was $46 and $0, respectively.

FIRST DEFIANCE FINANCIAL CORP.

Consolidated Statement of Changes in Stockholders’ Equity

(UNAUDITED)

(Amounts in Thousands, except share data)

											Accumulated
					Common			Additional			Other								Total
	Preferred		Common		Stock			Paid-In			Comprehensive		Retained			Treasury			Stockholders’
	Stock		Stock		Warrant			Capital			Income		Earnings			Stock			Equity

Balance at January 1, 2016	$	-	$	127	$	-		$	125,734		$	3,622	$	219,737		$	(69,023	)	$	280,197
Net income														7,070						7,070
Other comprehensive income												857								857
Stock option expense									119											119
16,770 shares issued under stock option plan, with $75 income tax benefit, net of 900 repurchased and retired									(39	)							353			314
Restricted share activity under stock incentive Plans, including 9,033 shares issued									(124	)							188			64
233 shares issued direct purchases									4								5			9
167,746 shares repurchased																	(6,293	)		(6,293	)
Common stock dividends declared														(1,966	)					(1,966	)
Balance at March 31, 2016	$	-	$	127	$	-		$	125,694		$	4,479	$	224,841		$	(74,770	)	$	280,371

Balance at January 1, 2015	$	-	$	127	$	878		$	136,266		$	4,114	$	200,600		$	(62,480	)	$	279,505
Net income														6,601						6,601
Other comprehensive income												975								975
Stock option expense									21											21
Warrant repurchase						(878	)		(11,101	)										(11,979	)
38,575 shares issued under stock option plan, with $91 income tax benefit, net of 9,925 repurchased and retired									177					(287	)		833			723
Restricted share activity under stock incentive Plans, including 12,846 shares issued									(100	)							231			131
542 shares issued direct purchases									8								10			18
37,857 shares repurchased																	(1,264	)		(1,264	)
Common stock dividends declared														(1,614	)					(1,614	)
Balance at March 31, 2015	$	-	$	127	$	-		$	125,271		$	5,089	$	205,300		$	(62,670	)	$	273,117

FIRST DEFIANCE FINANCIAL CORP.

Consolidated Condensed Statements of Cash Flows

(UNAUDITED)

(Amounts in Thousands)

	Three Months Ended
	March 31,
	2016			2015
Operating Activities
Net income	$	7,070		$	6,601
Items not requiring (providing) cash
Provision for loan losses		364			120
Depreciation		818			765
Amortization of mortgage servicing rights, net of impairment recoveries		332			385
Amortization of core deposit and other intangible assets		157			217
Net amortization of premiums and discounts on loans and deposits		88			232
Amortization of premiums and discounts on securities		193			176
Change in deferred taxes		264			(195	)
Proceeds from the sale of loans held for sale		40,341			42,628
Originations of loans held for sale		(42,444	)		(46,672	)
Gain from sale of loans		(1,039	)		(1,321	)
Loss from write-down of property and equipment		-			426
Gain from sale or call of securities		(131	)		-
(Gain) loss on sale / write-down of real estate and other assets held for sale		(265	)		79
Stock option expense		119			21
Restricted stock expense		64			131
Income from bank owned life insurance		(231	)		(208	)
Changes in:
Accrued interest receivable		(730	)		(930	)
Other assets		(793	)		(2,002	)
Other liabilities		672			2,390
Net cash provided by operating activities		4,849			2,843

Investing Activities
Proceeds from maturities of held-to-maturity securities		8			14
Proceeds from maturities, calls and pay-downs of available-for-sale securities		7,903			6,395
Proceeds from sale of real estate and other assets held for sale		884			572
Proceeds from the sale of available-for-sale securities		5,360			-
Proceeds from sale of non-mortgage loans		2,828			501
Purchases of available-for-sale securities		(2,875	)		(14,187	)
Proceeds from Federal Home Loan stock redemption		1			-
Purchases of premises and equipment, net		(562	)		(829	)
Net increase in loans receivable		(26,127	)		(38,693	)
Net cash provided by investing activities		(12,580	)		(46,227	)

Financing Activities
Net increase in deposits and advance payments by borrowers		34,124			10,770
Repayment of Federal Home Loan Bank advances		(238	)		(7,246	)
Proceeds from Federal Home Loan Bank advances		25,000			17,000
Increase in securities sold under repurchase agreements		797			5,512
Repayment of warrants		-			(11,979	)
Proceeds from exercise of stock options		314			723
Proceeds from treasury stock sales		9			18
Net cash paid for repurchase of common stock		(6,293	)		(1,264	)
Cash dividends paid on common stock		(1,966	)		(1,614	)
Net cash provided by financing activities		51,747			11,920
Increase (decrease) in cash and cash equivalents		44,016			(31,464	)
Cash and cash equivalents at beginning of period		79,769			112,936
Cash and cash equivalents at end of period	$	123,785		$	81,472

Supplemental cash flow information:
Interest paid	$	1,889		$	1,577
Income taxes paid	$	300		$	-
Transfers from loans to real estate and other assets held for sale	$	409		$	680
Securities purchased but not yet settled	$	529		$	-

See accompanying notes.

FIRST DEFIANCE FINANCIAL CORP.

Notes to Consolidated Condensed Financial Statements (UNAUDITED)

March 31, 2016 and 2015

Basis of Presentation

First Defiance Financial Corp. (“First Defiance” or the “Company”) is a unitary thrift holding company that conducts business through its three wholly owned subsidiaries, First Federal Bank of the Midwest (“First Federal”), First Insurance Group of the Midwest, Inc. (“First Insurance”), and First Defiance Risk Management Inc. (“First Defiance Risk Management”). All significant intercompany transactions and balances are eliminated in consolidation.

First Federal is primarily engaged in attracting deposits from the general public through its offices and using those and other available sources of funds to originate loans primarily in the counties in which its offices are located. First Federal’s traditional banking activities include originating and servicing residential, non-residential real estate, commercial, home improvement and home equity and consumer loans and providing a broad range of depository, trust and wealth management services. In addition, First Federal invests in U.S. Treasury and federal government agency obligations, obligations of the State of Ohio and its political subdivisions, mortgage-backed securities that are issued by federal agencies, including real estate mortgage investment conduits (“REMICs”) and collateralized mortgage obligations (“CMOs”), and corporate bonds. First Insurance is an insurance agency that conducts business through offices located in the Defiance, Maumee, Oregon, Bryan, Lima and Bowling Green, Ohio areas. First Insurance offers property and casualty insurance, life insurance and group health insurance. First Defiance Risk Management is a wholly-owned insurance company subsidiary of the Company that insures the Company and its subsidiaries against certain risks unique to the operations of the Company and for which insurance may not be currently available or economically feasible in today’s insurance marketplace. First Defiance Risk Management pools resources with several other similar insurance company subsidiaries of financial institutions to spread a limited amount of risk among themselves.

The consolidated condensed statement of financial condition at December 31, 2015 has been derived from the audited financial statements at that date, which were included in First Defiance’s Annual Report on Form 10-K.

The accompanying consolidated condensed financial statements as of March 31, 2016 and for the three month periods ended March 31, 2016 and 2015 have been prepared by First Defiance without audit and do not include information or footnotes necessary for the complete presentation of financial condition, results of operations, and cash flows in conformity with accounting principles generally accepted in the United States. These consolidated condensed financial statements should be read in conjunction with the financial statements and notes thereto included in First Defiance's 2015 Annual Report on Form 10-K for the year ended December 31, 2015. However, in the opinion of management, all adjustments, consisting of only normal recurring items, necessary for the fair presentation of the financial statements have been made. The results for the three month period ended March 31, 2016 are not necessarily indicative of the results that may be expected for the entire year.

Significant Accounting Policies

Use of Estimates

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and actual results could differ.

Earnings Per Common Share

Basic earnings per common share is computed by dividing net income by the weighted average number of shares of common stock outstanding during the period. All outstanding unvested share-based payment awards that contain rights to nonforfeitable dividends are considered participating securities for the calculation. Diluted earnings per common share include the dilutive effect of additional potential common shares issuable under stock options, restricted stock awards and stock grants.

Newly Issued Accounting Standards

In March 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-09: Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. The amendments in ASU 2016-09 simplify several aspects of the accounting for employee share-based payment transactions, including the accounting for income taxes, forfeitures and statutory tax withholding requirements, as well as classification in the statement of cash flows. ASU 2016-09 is effective for public companies for interim and annual reporting periods beginning after December 15, 2016, with early adoption permitted. The Company did not early adopt and is currently assessing the impact of ASU 2016-09 on its Consolidated Financial Statements and disclosures.

In February 2016, FASB issued ASU 2016-02 (Topic 842): Leases. The main objective of ASU 2016-02 is to provide users with useful, transparent, and complete information about leasing transactions. ASU 2016-02 requires the rights and obligations associated with leasing arrangements be reflected on the balance sheet in order to increase transparency and comparability among organizations. Under the updated guidance, lessees will be required to recognize a right-to-use asset and a liability to make a lease payment and disclose key information about leasing arrangements. ASU 2016-02 is effective for public companies for interim and annual reporting periods beginning after December 15, 2018, with early adoption permitted. The Company is currently assessing the impact of ASU 2016-02 on its Consolidated Financial Statements and disclosures.

In January 2016, FASB issued ASU 2016-01: Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. The main objective of ASU 2016-01 is to enhance the reporting model for financial instruments to provide users of financial statements with more decision-useful information. ASU 2016-01 addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. Some of the amendments in ASU 2016-01 include the following: 1) Require equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income; 2) Simplify the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment; 3) Require public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes; and 4) Require an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value; among others. For public business entities, the amendments of ASU 2016-01 are effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The Company is currently evaluating the effects of ASU 2016-01 on its Consolidated Financial Statements and disclosures.

Fair Value

FASB ASC Topic 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability shall not be adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact and (iv) willing to transact.

FASB ASC Topic 820 requires the use of valuation techniques that are consistent with the market approach, the income approach and/or the cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets and liabilities. The income approach uses valuation techniques to convert future amounts, such as cash flows or earnings, to a single present amount on a discounted basis. The cost approach is based on the amount that currently would be required to replace the service capacity of an asset (replacement cost). Valuation techniques should be consistently applied. Inputs to valuation techniques refer to the assumptions that market participants would use in pricing the asset or liability. Inputs may be observable, meaning those that reflect the assumptions market participants would use in pricing the asset or liability developed based on the best information available. In that regard, FASB ASC Topic 820 established a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:

Level 1: Quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.

Level 2: Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These might include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (such as interest rates, prepayment speeds, credit risks, etc.) or inputs that are derived principally from or corroborated by market data by a correlation or other means.

Level 3: Unobservable inputs for determining fair value of assets and liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets or liabilities.

A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.

Available for sale securities - Securities classified as available for sale are generally reported at fair value utilizing Level 2 inputs where the Company obtains fair value measurements from an independent pricing service that uses matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2 inputs). The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows and the bonds’ terms and conditions, among other things. Securities in Level 1 include federal agency preferred stock securities. Securities in Level 2 include U.S. Government agencies, mortgage-backed securities, corporate bonds and municipal securities.

Impaired loans - Fair values for impaired collateral dependent loans are generally based on appraisals obtained from licensed real estate appraisers and in certain circumstances consideration of offers obtained to purchase properties prior to foreclosure. Appraisals for commercial real estate generally use three methods to derive value: cost, sales or market comparison and income approach. The cost method bases value on the cost to replace the current property. Value of market comparison approach evaluates the sales price of similar properties in the same market area. The income approach considers net operating income generated by the property and an investors required return. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Comparable sales adjustments are based on known sales prices of similar type and similar use properties and duration of time that the property has been on the market to sell. Such adjustments made in the appraisal process are typically significant and result in a Level 3 classification of the inputs for determining fair value.

Real Estate held for sale - Assets acquired through or instead of loan foreclosure are initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. These assets are then reviewed monthly by members of the asset review committee for valuation changes and are accounted for at lower of cost or fair value less estimated costs to sell. Fair value is commonly based on recent real estate appraisals which may utilize a single valuation approach or a combination of approaches including cost, comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments may be significant and typically result in a Level 3 classification of the inputs for determining fair value.

Appraisals for both collateral-dependent impaired loans and other real estate owned are performed by certified general appraisers (for commercial properties) or certified residential appraisers (for residential properties) whose qualifications and licenses have been reviewed and verified by the Company. Once received, a member of the Company’s asset quality or collections department reviews the assumptions and approaches utilized in the appraisal. Appraisal values are discounted from 0% to 20% to account for other factors that may impact the value of collateral. In determining the value of impaired collateral dependent loans and other real estate owned, significant unobservable inputs may be used, which include: physical condition of comparable properties sold, net operating income generated by the property and investor rates of return.

Mortgage servicing rights – On a quarterly basis, mortgage servicing rights are evaluated for impairment based upon the fair value of the rights as compared to the carrying amount. If the carrying amount of an individual tranche exceeds fair value, impairment is recorded on that tranche so that the servicing asset is carried at fair value. Fair value is determined at a tranche level based on a model that calculates the present value of estimated future net servicing income. The valuation model utilizes assumptions that market participants would use in estimating future net servicing income and are validated against available market data (Level 2).

Mortgage banking derivative - The fair value of mortgage banking derivatives are evaluated monthly based on derivative valuation models using quoted prices for similar assets adjusted for specific attributes of the commitments and other observable market data at the valuation date (Level 2).

The following table summarizes the financial assets measured at fair value on a recurring basis segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value:

Assets and Liabilities Measured on a Recurring Basis

March 31, 2016	Level 1 Inputs		Level 2 Inputs		Level 3 Inputs		Total Fair Value
	(In Thousands)
Available for sale securities:

Obligations of U.S. government corporations and agencies	$	-	$	1,009	$	-	$	1,009
Mortgage-backed - residential		-		59,721		-		59,721
REMICs		-		1,579		-		1,579
Collateralized mortgage obligations- residential		-		69,528		-		69,528
Preferred stock		1		-		-		1
Corporate bonds				4,988		-		4,988
Obligations of state and political subdivisions		-		91,007		-		91,007
Mortgage banking derivative - asset		-		856		-		856
Mortgage banking derivative - liability		-		78		-		78

December 31, 2015	Level 1 Inputs		Level 2 Inputs		Level 3 Inputs		Total Fair Value
	(In Thousands)
Available for sale securities:

Obligations of U.S. Government corporations and agencies	$	-	$	2,994	$	-	$	2,994
Mortgage-backed - residential		-		64,654		-		64,654
REMICs		-		1,620		-		1,620
Collateralized mortgage obligations-residential		-		71,799		-		71,799
Preferred stock		1		-		-		1
Corporate bonds		-		4,977		-		4,977
Obligations of state and political subdivisions		-		90,390				90,390
Mortgage banking derivative - asset		-		558		-		558

The following table summarizes the financial assets measured at fair value on a non-recurring basis segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value:

Assets and Liabilities Measured on a Non-Recurring Basis

March 31, 2016	Level 1 Inputs		Level 2 Inputs		Level 3 Inputs		Total Fair Value
	(In Thousands)
Impaired loans
1-4 Family Residential Real Estate	$	-	$	-	$	258	$	258
Multi Family Residential		-		-		83		83
Commercial Real Estate		-		-		4,650		4,650
Commercial loans		-		-		39		39
Home Equity and Improvement		-		-		81		81
Total Impaired loans		-		-		5,111		5,111
Mortgage servicing rights		-		3,547				3,547

Real estate held for sale		-
Residential		-		-		-		-
Commercial Real Estate		-		-		130		130
Total real estate held for sale		-		-		130		130

December 31, 2015	Level 1 Inputs		Level 2 Inputs		Level 3 Inputs		Total Fair Value
	(In Thousands)
Impaired loans
1-4 Family Residential Real Estate	$	-	$	-	$	398	$	398
Multi Family Residential		-		-		91		91
Commercial Real Estate		-		-		4,575		4,575
Commercial						-		-
Home Equity and Improvement		-		-		82		82
Total impaired loans		-		-		5,146		5,146

Mortgage servicing rights		-		872		-		872
Real estate held for sale
Residential		-		-		-		-
Commercial Real Estate		-		-		280		280
Total Real Estate held for sale		-		-		280		280

For Level 3 assets and liabilities measured at fair value on a recurring or nonrecurring basis as of March 31, 2016, the significant unobservable inputs used in the fair value measurements were as follows:

	Fair Value		Valuation Technique	Unobservable Inputs	Range of Inputs	Weighted Average
			(Dollars in Thousands)

Impaired Loans- Applies to all loan classes	$	5,111	Appraisals which utilize sales comparison, net income and cost approach	Discounts for collection issues and changes in market conditions	10-30%	11%

Real estate held for sale – Applies to all classes	$	130	Appraisals which utilize sales comparison, net income and cost approach	Discounts for changes in market conditions	20%	20%

For Level 3 assets and liabilities measured at fair value on a recurring or nonrecurring basis as of December 31, 2015, the significant unobservable inputs used in the fair value measurements were as follows:

	Fair Value		Valuation Technique	Unobservable Inputs	Range of Inputs	Weighted Average
			(Dollars in Thousands)

Impaired Loans- Applies to all loan classes	$	5,146	Appraisals which utilize sales comparison, net income and cost approach	Discounts for collection issues and changes in market conditions	10-30%	11%

Real estate held for sale – Applies to all classes	$	280	Appraisals which utilize sales comparison, net income and cost approach	Discounts for changes in market conditions	30%	30%

Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a fair value of $5.1 million, with an $8,000 valuation allowance and a fair value of $5.1 million, with an $8,000 valuation allowance at March 31, 2016 and December 31, 2015, respectively. A provision recovery of $119,000 for the three months ended March 31, 2016 and a provision recovery of $621,000 for the three months ended March 31, 2015 was included in earnings.

Mortgage servicing rights which are carried at the lower of cost or fair value, had a fair value of $3.5 million with a valuation allowance of $666,000 and a fair value of $872,000 with a valuation allowance of $645,000 at March 31, 2016 and December 31, 2015, respectively. A charge of $21,000 and a recovery of $26,000 for the three months ended March 31, 2016 and March 31, 2015, respectively, were included in earnings.

Real estate held for sale is determined using Level 3 inputs which include appraisals and are adjusted for estimated costs to sell. The change in fair value of real estate held for sale and fixed assets transferred to real estate held for sale was $53,000 and $522,000 for the three months ended March 31, 2016 and March 31, 2015, respectively, which was recorded directly as an adjustment to current earnings through non-interest expense.

In accordance with FASB ASC Topic 825, the Fair Value Measurements tables are a comparative condensed consolidated statement of financial condition based on carrying amount and estimated fair values of financial instruments as of March 31, 2016 and December 31, 2015. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of First Defiance.

Much of the information used to arrive at “fair value” is highly subjective and judgmental in nature and therefore the results may not be precise. Subjective factors include, among other things, estimated cash flows, risk characteristics and interest rates, all of which are subject to change. With the exception of investment securities, the Company’s financial instruments are not readily marketable and market prices do not exist. Since negotiated prices for the instruments, which are not readily marketable depend greatly on the motivation of the buyer and seller, the amounts that will actually be realized or paid per settlement or maturity of these instruments could be significantly different.

The carrying amount of cash and cash equivalents, term notes payable and advance payments by borrowers for taxes and insurance, as a result of their short-term nature, is considered to be equal to fair value and are classified as Level 1.

It was not practicable to determine the fair value of Federal Home Loan Bank (“FHLB”) stock due to restrictions placed on its transferability.

The fair value of loans that reprice within 90 days is equal to their carrying amount. For other loans, the estimated fair value is calculated based on discounted cash flow analysis, using interest rates currently being offered for loans with similar terms, resulting in a Level 3 classification. Impaired loans are valued at the lower of cost of fair value as previously described. The allowance for loan losses is considered to be a reasonable adjustment for credit risk. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price. The fair value of loans held for sale is estimated based on binding contracts and quotes from third party investors resulting in a Level 2 classification.

The fair value of accrued interest receivable is equal to the carrying amounts resulting in a Level 2 or Level 3 classification which is consistent with its underlying value.

The fair value of non-interest bearing deposits are considered equal to the amount payable on demand at the reporting date (i.e. carrying value) and are classified as Level 1. The fair value of savings, NOW and certain money market accounts are equal to their carrying amounts and are a Level 2 classification. Fair values of fixed rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits resulting in a Level 2 classification.

The fair values of securities sold under repurchase agreements are equal to their carrying amounts resulting in a Level 2 classification. The carrying value of subordinated debentures and deposits with fixed maturities is estimated based discounted cash flow analyses based on interest rates currently being offered on instruments with similar characteristics and maturities resulting in a Level 3 classification.

FHLB advances with maturities greater than 90 days are valued based on discounted cash flow analysis, using interest rates currently being quoted for similar characteristics and maturities resulting in a Level 2 classification. The cost or value of any call or put options is based on the estimated cost to settle the option at March 31, 2016.

	Carrying		Fair Value Measurements at March 31, 2016 (In Thousands)
	Value		Total		Level 1		Level 2		Level 3
Financial Assets:
Cash and cash equivalents	$	123,785	$	123,785	$	123,785	$	-	$	-
Investment securities		228,068		228,071		1		228,070		-
Federal Home Loan Bank Stock		13,800		N/A		N/A		N/A		N/A
Loans, net, including loans held for sale		1,807,641		1,816,978		-		8,968		1,808,010
Accrued interest receivable		6,901		6,901		4		1,324		5,573

Financial Liabilities:
Deposits	$	1,871,157	$	1,875,050	$	426,053	$	1,449,852	$	-
Advances from Federal Home Loan Bank		84,664		85,127		-		85,127		-
Securities sold under repurchase agreements		57,985		57,985		-		57,985		-
Subordinated debentures		36,083		35,352		-		-		35,352

	Carrying		Fair Value Measurements at December 31, 2015 (In Thousands)
	Value		Total		Level 1		Level 2		Level 3
Financial Assets:
Cash and cash equivalents	$	79,769	$	79,769	$	79,769	$	-	$	-
Investment securities		236,678		236,680		1		236,679		-
Federal Home Loan Bank Stock		13,801		N/A		N/A		N/A		N/A
Loans, net, including loans held for sale		1,782,358		1,784,998		-		5,899		1,779,099
Accrued interest receivable		6,171		6,171		7		846		5,318

Financial Liabilities:
Deposits	$	1,836,137	$	1,840,464	$	420,691	$	1,419,773	$	-
Advances from Federal Home Loan Bank		59,902		59,653		-		59,653		-
Securities sold under repurchase agreements		57,188		57,188		-		57,188		-
Subordinated debentures		36,083		35,305		-		-		35,305

Incentive Compensation Plans

First Defiance has established equity based compensation plans for its directors and employees. On March 15, 2010, the Board adopted, and the shareholders approved at the 2010 Annual Shareholders Meeting, the First Defiance Financial Corp. 2010 Equity Incentive Plan (the “2010 Equity Plan”). The 2010 Equity Plan replaced all existing plans. All awards currently outstanding under prior plans will remain in effect in accordance with their respective terms. Any new awards will be made under the 2010 Equity Plan. The 2010 Equity Plan allows for issuance of up to 350,000 common shares through the award of options, stock grants, restricted stock units (“RSU”), stock appreciation rights or other stock-based awards.

As of March 31, 2016, 75,050 options had been granted and remain outstanding at option prices based on the market value of the underlying shares on the date the options were granted. Options granted under all plans vest 20% per year except for the 2009 grant to the Company’s executive officers, which vested 40% in 2011 and then 20% annually. All options expire ten years from the date of grant. Vested options of retirees expire on the earlier of the scheduled expiration date or three months after the retirement date.

In 2014, the Company approved a 2014 Short-Term Incentive Plan (“STIP”) and a 2014 Long-Term Incentive Plan (“LTIP”) for selected senior members of management.

Under the 2014 STIP, the participants may earn up to 30% to 45% of their salary for potential payout based on the achievement of certain corporate performance targets during the calendar year. The final amount of benefits under the 2014 STIP were determined as of December 31, 2014 and were paid out in cash in the first quarter of 2015. The participants are required to be employed on the day of payout in order to receive such payment.

Under the 2014 LTIP, the participants may earn up to 20% to 45% of their salary for potential payout in the form of equity awards based on the achievement of certain corporate performance targets over a three-year period. The Company granted 30,538 RSU’s to the participants in the 2014 LTIP effective January 1, 2014, which represented the maximum target award. The amount of benefit under the 2014 LTIP will be determined individually at the end of the 36 month performance period ending December 31, 2016. The benefits earned under the 2014 LTIP will be paid out in equity in the first quarter of 2017. The participants are required to be employed on the day of payout in order to receive such payment.

In 2015, the Company approved a 2015 STIP and a 2015 LTIP for selected senior members of management.

Under the 2015 STIP, the participants could earn up to 30% to 45% of their salary for potential payout based on the achievement of certain corporate performance targets during the calendar year. The final amount of benefits under the 2015 STIP were determined as of December 31, 2015 and were paid out in cash in the first quarter of 2016. The participants are required to be employed on the day of payout in order to receive such payment.

Under the 2015 LTIP, the participants may earn up to 20% to 45% of their salary for potential payout in the form of equity awards based on the achievement of certain corporate performance targets over a three-year period. The Company granted 24,757 RSU’s to the participants in the 2015 LTIP effective January 1, 2015, which represents the maximum target award. The amount of benefit under the 2015 LTIP will be determined individually at the end of the 36 month performance period ending December 31, 2017. The benefits earned under the 2015 LTIP will be paid out in common shares in the first quarter of 2018. The participants are required to be employed on the day of payout in order to receive such payment.

A total of 7,011 RSU’s were issued to the participants of the 2013 LTIP in the first quarter of 2016 for the year three performance period ended December 31, 2015.

In 2016, the Company approved a 2016 STIP and a 2016 LTIP for selected senior members of management.

Under the 2016 STIP, the participants could earn up to 10% to 45% of their salary for potential payout based on the achievement of certain corporate and personal performance targets during the calendar year. The final amount of benefits under the 2016 STIP will be determined as of December 31, 2016 and will be paid out in cash in the first quarter of 2017. The participants are required to be employed on the day of payout in order to receive such payment.

Under the 2016 LTIP, the participants may earn up to 20% to 45% of their salary for potential payout in the form of equity awards based on the achievement of certain corporate performance targets over a three-year period. The Company granted 24,526 RSU’s to the participants in the 2016 LTIP effective January 1, 2016, which represents the maximum target award. The amount of benefit under the 2016 LTIP will be determined individually at the end of the 36 month performance period ending December 31, 2018. The benefits earned under the 2016 LTIP will be paid out in common shares in the first quarter of 2019. The participants are required to be employed on the day of payout in order to receive such payment.

In the three months ended March 31, 2016, the Company also granted 2,022 restricted shares to employees. 1,000 of the shares have a one-year vesting period and the remaining 1,022 shares have a 4 year vesting period. The fair value of all granted restricted shares was determined by the stock price at the date of the grant.

The fair value of each option award is estimated on the date of grant using the Black-Scholes model. Expected volatilities are based on historical volatilities of the Company’s common stock. The Company uses historical data to estimate option exercise and post-vesting termination behavior. The expected term of options granted is based on historical data and represents the period of time that options granted are expected to be outstanding, which takes into account that the options are not transferable. The risk-free interest rate for the expected term of the option is based on the U.S. Treasury yield curve in effect at the time of the grant.

The fair value of stock options granted during the three months ended March 31, 2016 was determined at the date of grant using the Black-Scholes stock option-pricing model and the following assumptions:

	Three Months ended
	March 31, 2016			March 31, 2015
Expected average risk-free rate		2.24	%		2.04	%
Expected average life		10.00 years			10.00 years
Expected volatility		41.00	%		42.00	%
Expected dividend yield		2.33	%		2.10	%

The weighted-average fair value of options granted was $13.95 for the three months ended March 31, 2016 and $13.13 for the three months ended March 31, 2015.

Following is stock option activity under the plans during the three months ended March 31, 2016:

	Options Outstanding			Weighted Average Exercise Price		Weighted Average Remaining Contractual Term (in years)		Aggregate Intrinsic Value (in 000’s)
Options outstanding, January 1, 2016		86,220		$	20.27
Forfeited or cancelled		-			-
Exercised		(17,670	)		20.03
Granted		6,500			37.78
Options outstanding, March 31, 2016		75,050		$	21.84		3.71	$	1,244
Vested or expected to vest at March 31, 2016		75,050		$	21.84		3.71	$	1,244
Exercisable at March 31, 2016		57,250		$	18.49		2.11	$	1,140

Proceeds, related tax benefits realized from options exercised and intrinsic value of options exercised were as follows (in 000’s):

	Three Months Ended March 31,
	2016		2015
Proceeds of options exercised	$	353	$	1,059
Related tax benefit recognized		75		91
Intrinsic value of options exercised		326		512

As of March 31, 2016, there was $214,000 of total unrecognized compensation cost related to unvested stock options granted under the Company’s equity plans. The cost is expected to be recognized over a weighted-average period of 3.90 years.

At March 31, 2016, 75,468 RSU’s and 12,449 stock grants were outstanding. Compensation expense is recognized over the performance period based on the achievements of targets as established under the plan documents. A total expense of $261,000 was recorded during the three months ended March 31, 2016 compared to an expense of $226,000 for the same period in 2015. There was approximately $191,000 included within other liabilities at March 31, 2016 related to the STIP.

	Restricted Stock Units					Stock Grants
				Weighted-Average					Weighted-Average
				Grant Date					Grant Date
Unvested Shares	Shares			Fair Value		Shares			Fair Value

Unvested at January 1, 2016		74,545		$	25.86		10,927		$	30.98
Granted		24,526			39.30		9,033			23.28
Vested		(7,011	)		19.19		(7,011	)		19.19
Forfeited		(16,592	)		19.19		(500	)		32.00
Unvested at March 31, 2016		75,468		$	32.31		12,449		$	31.99

The maximum amount of compensation expense that may be recorded for the 2016 STIP and the 2014, 2015 and 2016 LTIPs at March 31, 2016 is approximately $3.4 million. However, the estimated expense expected to be recorded as of March 31, 2016 based on the performance measures in the plans, is $2.3 million of which $1.6 million is unrecognized at March 31, 2016 and will be recognized over the remaining performance periods.

Dividends on Common Stock

First Defiance declared and paid a $0.22 per common stock dividend in the first quarter of 2016 and declared and paid a $0.175 per common stock dividend in the first quarter of 2015.

Earnings Per Common Share

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

	Three months ended March 31,
	2016		2015
	(In Thousands, except per share data)
Numerator for basic and diluted earnings per common share – Net income	$	7,070	$	6,601
Denominator:
Denominator for basic earnings per common share – weighted average common shares		8,994		9,234
Effect of warrants		-		291
Effect of employee stock options		70		86
Denominator for diluted earnings per common share		9,064		9,611
Basic earnings per common share	$	0.79	$	0.71
Diluted earnings per common share	$	0.78	$	0.69

There were 12,550 shares under option granted to employees excluded from the diluted earnings per common share calculation as they were anti-dilutive for the three months ended March 31, 2016. Options to acquire 16,750 shares were excluded from the diluted earnings per common share calculations as they were anti-dilutive for the three months ended March 31, 2015.

Investment Securities

The following is a summary of available-for-sale and held-to-maturity securities:

	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
At March 31, 2016	(In Thousands)
Available-for-Sale Securities:
Obligations of U.S. government corporations and agencies	$	1,000	$	9	$	-		$	1,009
Mortgage-backed securities – residential		58,431		1,290		-			59,721
REMICs		1,542		37		-			1,579
Collateralized mortgage obligations		68,108		1,511		(91	)		69,528
Trust preferred securities and preferred stock		-		1		-			1
Corporate bonds		4,963		36		(11	)		4,988
Obligations of state and political subdivisions		86,252		4,778		(23	)		91,007
Totals	$	220,296	$	7,662	$	(125	)	$	227,833

	Amortized Cost		Gross Unrecognized Gains		Gross Unrecognized Losses		Fair Value
	(In Thousands)
Held-to-Maturity Securities*:
FHLMC certificates	$	13	$	-	$	-	$	13
FNMA certificates		69		2		-		71
GNMA certificates		29		1		-		30
Obligations of state and political subdivisions		124		-		-		124
Totals	$	235	$	3	$	-	$	238

			Gross		Gross
	Amortized		Unrealized		Unrealized			Fair
	Cost		Gains		Losses			Value
	(In Thousands)
At December 31, 2015
Available-for-sale
Obligations of U.S. government corporations and agencies	$	3,000	$	1	$	(7	)	$	2,994
Mortgage-backed securities - residential		63,815		898		(59	)		64,654
REMICs		1,592		28		-			1,620
Collateralized mortgage obligations		71,176		976		(353	)		71,799
Preferred stock		-		1		-			1
Corporate bonds		4,955		39		(17	)		4,977
Obligations of state and political subdivisions		85,680		4,712		(2	)		90,390
Total Available-for-Sale	$	230,218	$	6,655	$	(438	)	$	236,435

			Gross		Gross
	Amortized		Unrecognized		Unrecognized			Fair
	Cost		Gains		Losses			Value
	(In Thousands)
Held-to-Maturity Securities*:
FHLMC certificates	$	14	$	-	$	-		$	14
FNMA certificates		74		2		(1	)		75
GNMA certificates		31		1		-			32
Obligations of states and political subdivisions		124		-		-			124
Total Held-to-Maturity	$	243	$	3	$	(1	)	$	245

* FHLMC, FNMA, and GNMA certificates are residential mortgage-backed securities.

The amortized cost and fair value of the investment securities portfolio at March 31, 2016 are shown below by contractual maturity. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. For purposes of the maturity table, mortgage-backed securities (“MBS”), collateralized mortgage obligations (“CMO”) and REMICs, which are not due at a single maturity date, have not been allocated over the maturity groupings. These securities may mature earlier than their weighted-average contractual maturities because of principal prepayments.

	Available-for-Sale				Held-to-Maturity
	Amortized		Fair		Amortized		Fair
	Cost		Value		Cost		Value
	(In Thousands)
Due in one year or less	$	5,796	$	5,824	$	-	$	-
Due after one year through five years		10,945		11,395		124		124
Due after five years through ten years		35,632		37,833		-		-
Due after ten years		39,842		41,953		-		-
MBS/CMO/REMIC		128,081		130,828		111		114
	$	220,296	$	227,833	$	235	$	238

Investment securities with a carrying amount of $142.6 million at March 31, 2016 were pledged as collateral on public deposits, securities sold under repurchase agreements and the Federal Reserve discount window.

As of March 31, 2016, the Company’s investment portfolio consisted of 357 securities, 13 of which were in an unrealized loss position.

The following tables summarize First Defiance’s securities that were in an unrealized loss position at March 31, 2016 and December 31, 2015:

	Duration of Unrealized Loss Position
	Less than 12 Months					12 Months or Longer					Total
			Gross					Gross
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
	Value		Loss			Value		Loss			Value		Loses
	(In Thousands)
At March 31, 2016
Available-for-sale securities:
Collateralized mortgage obligations	$	1,921	$	(17	)	$	8,505	$	(74	)	$	10,426	$	(91	)
Obligations of state and political subdivisions		815		(23	)		-		-			815		(23	)
Corporate bonds		989		(11	)		-		-			989		(11	)
Total temporarily impaired securities	$	3,725	$	(51	)	$	8,505	$	(74	)	$	12,230	$	(125	)

	Duration of Unrealized Loss Position
	Less than 12 Months					12 Months or Longer					Total
			Gross					Gross
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
	Value		Loss			Value		Loss			Value		Loses
	(In Thousands)
At December 31, 2015
Available-for-sale securities:
Obligations of U.S. government corporations and agencies	$	993	$	(7	)	$	-	$	-		$	993	$	(7	)
Collateralized mortgage obligations		12,374		(150	)		8,158		(203	)		20,532		(353	)
Corporate bonds		983		(17	)		-		-			983		(17	)
Obligations of state and political subdivisions		-		-			433		(2	)		433		(2	)
Mortgage-backed securities-residential		12,525		(59	)		-		-			12,525		(59	)
Held to maturity securities:
FNMA certificates		13		(1	)		-		-			13		(1	)
Total temporarily impaired securities	$	26,888	$	(234	)	$	8,591	$	(205	)	$	35,479	$	(439	)

Realized gains from the sales and calls of investment securities totaled $131,000 ($92,000 after tax) in the first quarter of 2016, while there were no realized gains in the first quarter of 2015.

Management evaluates securities for other-than-temporary impairment (“OTTI”) at least quarterly, and more frequently when economic or market conditions warrant such an evaluation. The investment portfolio is evaluated for OTTI by segregating the portfolio into two general segments. Investment securities classified as available-for-sale or held-to-maturity are generally evaluated for OTTI under FASB ASC Topic 320. Certain collateralized debt obligations (“CDOs”) are evaluated for OTTI under FASB ASC Topic 325, Investment – Other.

When OTTI occurs under either model, the amount of the OTTI recognized in earnings depends on whether an entity intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis less any current period credit loss. If an entity intends to sell or more likely than not will be required to sell the security before recovery of its amortized cost basis less any current period credit loss, the OTTI shall be recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its fair value at the balance sheet date. If an entity does not intend to sell the security and it is not more likely than not that the entity will be required to sell the security before recovery of its amortized cost basis less any current period loss, the OTTI shall be separated into the amount representing the credit loss and the amount related to all other factors. The amount of OTTI related to the credit loss is determined based on the present value of cash flows expected to be collected compared to the book value of the security and is recognized in earnings. The amount of OTTI related to other factors shall be recognized in other comprehensive income, net of applicable taxes. The previous amortized cost basis less the OTTI recognized in earnings shall become the new amortized cost basis of the investment.

With the exception of corporate bonds, the above securities all have fixed interest rates, and all securities have defined maturities. Their fair value is sensitive to movements in market interest rates. First Defiance has the ability and intent to hold these investments for a time necessary to recover the amortized cost without impacting its liquidity position and it is not more than likely that the Company will be required to sell the investments before anticipated recovery.

In the first quarter of 2016 and 2015, management determined there was no OTTI.

The proceeds from the sales and calls of securities and the associated gains and losses are listed below:

	Three Months Ended March 31,
	2016		2015
	(In Thousands)
Proceeds	$	5,360	$	-
Gross realized gains		131		-
Gross realized losses		-		-

Loans

Loans receivable consist of the following:

	March 31, 2016			December 31, 2015
	(In Thousands)
Real Estate:

Secured by 1-4 family residential	$	208,818		$	205,330
Secured by multi-family residential		181,486			167,558
Secured by commercial real estate		807,982			780,870
Construction		145,635			163,877
		1,343,921			1,317,635
Other Loans:
Commercial		412,911			419,349
Home equity and improvement		116,856			116,962
Consumer finance		15,679			16,281
		545,446			552,592
Total loans		1,889,367			1,870,227
Deduct:
Undisbursed loan funds		(63,267	)		(66,902	)
Net deferred loan origination fees and costs		(1,114	)		(1,108	)
Allowance for loan loss		(25,668	)		(25,382	)
Totals	$	1,799,318		$	1,776,835

Loan segments have been identified by evaluating the portfolio based on collateral and credit risk characteristics.

The following table discloses allowance for loan loss activity for the quarter ended March 31, 2016 and 2015 by portfolio segment (In Thousands):

Quarter Ended March 31, 2016	1-4 Family Residential Real Estate			Multi- Family Residential Real Estate		Commercial Real Estate			Construction			Commercial			Home Equity and Improvement			Consumer Finance			Total
Beginning Allowance	$	3,212		$	2,151	$	11,772		$	517		$	5,255		$	2,304		$	171		$	25,382
Charge-Offs		(55	)		0		(13	)		0			(336	)		(30	)		0			(434	)
Recoveries		86			0		177			0			19			39			35			356
Provisions		(134	)		99		(292	)		(28	)		882			(81	)		(82	)		364
Ending Allowance	$	3,109		$	2,250	$	11,644		$	489		$	5,820		$	2,232		$	124		$	25,668

Quarter Ended March 31, 2015	1-4 Family Residential Real Estate			Multi- Family Residential Real Estate		Commercial Real Estate			Construction		Commercial			Home Equity and Improvement			Consumer Finance			Total
Beginning Allowance	$	2,494		$	2,453	$	11,268		$	221	$	6,509		$	1,704		$	117		$	24,766
Charge-Offs		(78	)		0		(155	)		0		(2	)		(43	)		(3	)		(281	)
Recoveries		19			0		597			0		40			29			12			697
Provisions		48			101		(26	)		82		219			(270	)		(34	)		120
Ending Allowance	$	2,483		$	2,554	$	11,684		$	303	$	6,766		$	1,420		$	92		$	25,302

The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method as of March 31, 2016 (In Thousands):

	1-4 Family		Multi Family
	Residential		Residential		Commercial						Home Equity		Consumer
	Real Estate		Real Estate		Real Estate		Construction		Commercial		& Improvement		Finance		Total
Allowance for loan losses:

Ending allowance balance attributable to loans:

Individually evaluated for impairment	$	197	$	-	$	154	$	-	$	11	$	38	$	-	$	400

Collectively evaluated for impairment		2,912		2,250		11,490		489		5,809		2,194		124		25,268

Acquired with deteriorated credit quality		-		-		-		-		-		-		-		-

Total ending allowance balance	$	3,109	$	2,250	$	11,644	$	489	$	5,820	$	2,232	$	124	$	25,668

Loans:

Loans individually evaluated for impairment	$	7,570	$	4,543	$	18,517	$	-	$	5,423	$	1,740	$	69	$	37,862

Loans collectively evaluated for impairment		201,561		177,091		791,608		82,208		408,820		115,641		15,603		1,792,532

Loans acquired with deteriorated credit quality		-		-		150		-		15		-		-		165

Total ending loans balance	$	209,131	$	181,634	$	810,275	$	82,208	$	414,258	$	117,381	$	15,672	$	1,830,559

The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method as of December 31, 2015 (In Thousands):

	1-4 Family		Multi Family
	Residential		Residential		Commercial						Home Equity		Consumer
	Real Estate		Real Estate		Real Estate		Construction		Commercial		& Improvement		Finance		Total
Allowance for loan losses:

Ending allowance balance attributable to loans:

Individually evaluated for impairment	$	201	$	-	$	139	$	-	$	63	$	34	$	-	$	437

Collectively evaluated for impairment		3,011		2,151		11,633		517		5,192		2,270		171		24,945

Acquired with deteriorated credit quality		-		-		-		-		-		-		-		-

Total ending allowance balance	$	3,212	$	2,151	$	11,772	$	517	$	5,255	$	2,304	$	171	$	25,382

Loans:

Loans individually evaluated for impairment	$	7,574	$	3,313	$	23,493	$	-	$	6,107	$	1,491	$	71	$	42,049

Loans collectively evaluated for impairment		198,106		164,382		759,281		96,845		414,527		115,977		16,199		1,765,317

Loans acquired with deteriorated credit quality		-		-		153		-		16		-		-		169

Total ending loans balance	$	205,680	$	167,695	$	782,927	$	96,845	$	420,650	$	117,468	$	16,270	$	1,807,535

The following table presents the average balance, interest income recognized and cash basis income recognized on impaired loans by class of loans (In Thousands):

	Three Months Ended March 31, 2016
	Average Balance		Interest Income Recognized		Cash Basis Income Recognized
Residential Owner Occupied	$	4,025	$	39	$	39
Residential Non Owner Occupied		3,557		35		34
Total Residential Real Estate		7,582		74		73
Multi-Family		4,593		30		30
CRE Owner Occupied		9,090		62		48
CRE Non Owner Occupied		4,418		53		49
Agriculture Land		3,593		35		12
Other CRE		1,422		4		4
Total Commercial Real Estate		18,523		154		113
Construction		-		-		-
Commercial Working Capital		1,513		15		15
Commercial Other		4,245		19		18
Total Commercial		5,758		34		33
Home Equity and Home Improvement		1,749		15		15
Consumer Finance		73		1		1
Total Impaired Loans	$	38,278	$	308	$	265

The following table presents the average balance, interest income recognized and cash basis income recognized on impaired loans by class of loans (In Thousands):

	Three Months Ended March 31, 2015
	Average Balance		Interest Income Recognized		Cash Basis Income Recognized
Residential Owner Occupied	$	5,992	$	68	$	68
Residential Non Owner Occupied		4,347		41		40
Total Residential Real Estate		10,339		109		108
Multi-Family		2,463		8		8
CRE Owner Occupied		6,513		37		39
CRE Non Owner Occupied		10,187		133		135
Agriculture Land		760		7		13
Other CRE		2,441		10		9
Total Commercial Real Estate		19,901		187		196
Construction		150		2		2
Commercial Working Capital		1,866		13		13
Commercial Other		3,839		13		18
Total Commercial		5,705		26		31
Home Equity and Home Improvement		2,202		20		20
Consumer Finance		43		-		-
Total Impaired Loans	$	40,803	$	352	$	365

The following table presents loans individually evaluated for impairment by class of loans (In Thousands):

	March 31, 2016						December 31, 2015
	Unpaid Principal Balance*		Recorded Investment		Allowance for Loan Losses Allocated		Unpaid Principal Balance*		Recorded Investment		Allowance for Loan Losses Allocated
With no allowance recorded:
Residential Owner Occupied	$	1,450	$	1,455	$	-	$	1,383	$	1,360	$	-
Residential Non Owner Occupied		2,237		2,232		-		2,147		2,141		-
Total 1-4 Family Residential Real Estate		3,687		3,687		-		3,530		3,501		-
Multi-Family Residential Real Estate		4,688		4,543		-		3,463		3,313		-
CRE Owner Occupied		6,725		6,290		-		4,869		4,520		-
CRE Non Owner Occupied		3,441		3,183		-		7,932		7,685		-
Agriculture Land		3,529		3,602		-		3,546		3,596		-
Other CRE		964		934		-		4,076		4,046		-
Total Commercial Real Estate		14,659		14,009		-		20,423		19,847		-
Construction		-		-		-		-		-		-
Commercial Working Capital		1,264		1,267		-		1,644		1,648		-
Commercial Other		4,084		3,715		-		3,573		3,607		-
Total Commercial		5,348		4,982		-		5,217		5,255		-

Home Equity and Home Improvement		832		787		-		817		772		-
Consumer Finance		68		69		-		60		59		-

Total loans with no allowance recorded	$	29,282	$	28,077	$	-	$	33,510	$	32,747	$	-

With an allowance recorded:
Residential Owner Occupied	$	2,609	$	2,556	$	183	$	2,918	$	2,837	$	188
Residential Non Owner Occupied		1,322		1,327		14		1,231		1,236		13
Total 1-4 Family Residential Real Estate		3,931		3,883		197		4,149		4,073		201
Multi-Family Residential Real Estate		-		-		-		-		-		-
CRE Owner Occupied		3,191		2,732		140		3,250		2,767		132
CRE Non Owner Occupied		1,291		1,225		10		385		308		2
Agriculture Land		68		69		1		68		69		2
Other CRE		905		482		3		926		502		3
Total Commercial Real Estate		5,455		4,508		154		4,629		3,646		139
Construction		-		-		-		-		-		-
Commercial Working Capital		200		201		9		594		596		62
Commercial Other		236		240		2		252		256		1
Total Commercial		436		441		11		846		852		63
Home Equity and Home Improvement		957		953		38		724		719		34
Consumer Finance		-		-		-		12		12		-
Total loans with an allowance recorded	$	10,779	$	9,785	$	400	$	10,360	$	9,302	$	437

* Presented gross of charge offs

The following table presents the current balance of the aggregate amounts of non-performing assets, comprised of non-performing loans and real estate owned on the dates indicated:

	March 31, 2016		December 31, 2015
	(In Thousands)
Non-accrual loans	$	17,707	$	16,261
Loans over 90 days past due and still accruing		-		-
Total non-performing loans		17,707		16,261
Real estate and other assets held for sale		1,111		1,321
Total non-performing assets	$	18,818	$	17,582
Troubled debt restructuring, still accruing	$	11,284	$	11,178

The following table presents the aging of the recorded investment in past due and non accrual loans as of March 31, 2016 by class of loans (In Thousands):

	Current		30-59 days		60-89 days		90+ days		Total Past Due		Total Non Accrual
Residential Owner Occupied	$	141,424	$	83	$	204	$	744	$	1,031	$	1,766
Residential Non Owner Occupied		65,891		63		54		668		785		1,359
Total 1-4 Family Residential Real Estate		207,315		146		258		1,412		1,816		3,125
Multi-Family Residential Real Estate		179,659		-		-		1,975		1,975		2,356

CRE Owner Occupied		342,703		54		-		491		545		4,843
CRE Non Owner Occupied		310,095		1,002		108		636		1,746		1,165
Agriculture Land		104,271		186		-		-		186		681
Other Commercial Real Estate		50,444		-		-		285		285		1,293

Total Commercial Real Estate		807,513		1,242		108		1,412		2,762		7,982

Construction		82,208		-		-		-		-		-

Commercial Working Capital		170,282		10		-		141		151		569
Commercial Other		241,556		163		-		2,106		2,269		2,990

Total Commercial		411,838		173		-		2,247		2,420		3,559

Home Equity/Home Improvement		116,440		792		113		36		941		674
Consumer Finance		15,616		51		5		-		56		13

Total Loans	$	1,820,589	$	2,404	$	484	$	7,082	$	9,970	$	17,709

The following table presents the aging of the recorded investment in past due and non-accrual loans as of December 31, 2015 by class of loans (In Thousands):

	Current		30-59 days		60-89 days		90+ days		Total Past Due		Total Non Accrual
Residential Owner Occupied	$	138,974	$	159	$	673	$	391	$	1,223	$	1,428
Residential Non Owner Occupied		64,577		324		356		226		906		1,179
Total 1-4 Family Residential Real Estate		203,551		483		1,029		617		2,129		2,607
Multi-Family Residential Real Estate		165,671		-		-		2,024		2,024		2,417

CRE Owner Occupied		322,940		772		1,218		1,266		3,256		4,141
CRE Non Owner Occupied		304,166		-		106		538		644		1,229
Agriculture Land		98,055		57		-		-		57		695
Other Commercial Real Estate		53,494		-		-		315		315		1,364

Total Commercial Real Estate		778,655		829		1,324		2,119		4,272		7,429

Construction		96,845		-		-		-		-		-

Commercial Working Capital		168,938		16		-		154		170		251
Commercial Other		249,070		203		46		2,223		2,472		2,833

Total Commercial		418,008		219		46		2,377		2,642		3,084

Home Equity and Home Improvement		116,599		733		92		44		869		689
Consumer Finance		16,216		27		3		24		54		36

Total Loans	$	1,795,545	$	2,291	$	2,494	$	7,205	$	11,990	$	16,262

Troubled Debt Restructurings

As of March 31, 2016 and December 31, 2015, the Company had a recorded investment in troubled debt restructurings (“TDRs”) of $17.5 million and $17.6 million, respectively. The Company allocated $283,000 and $335,000 of specific reserves to those loans at March 31, 2016 and December 31, 2015, and has committed to lend additional amounts totaling up to $21,000 and $48,000 at March 31, 2016 and December 31, 2015, respectively.

The Company offers various types of concessions when modifying a loan, however, forgiveness of principal is rarely granted. Each TDR is uniquely designed to meet the specific needs of the borrower. Commercial and industrial loans modified in a TDR often involve temporary interest-only payments, term extensions, and converting revolving credit lines to term loans. Additional collateral or an additional guarantor is often requested when granting a concession. Commercial mortgage loans modified in a TDR often involve temporary interest-only payments, re-amortization of remaining debt in order to lower payments, and sometimes reducing the interest rate lower than the current market rate. Residential mortgage loans modified in a TDR are comprised of loans where monthly payments are lowered, either through interest rate reductions or principal only payments for a period of time, to accommodate the borrowers’ financial needs, interest is capitalized into principal, or the term and amortization are extended. Home equity modifications are made infrequently and usually involve providing an interest rate that is lower than the borrower would be able to obtain due to credit issues. All retail loans where the borrower is in bankruptcy are classified as TDRs regardless of whether or not a concession is made.

Of the loans modified in a TDR, $6.2 million are on non-accrual status and partial charge-offs have in some cases been taken against the outstanding balance. Loans modified as a TDR may have the financial effect of increasing the allowance associated with the loan. If the loan is determined to be collateral dependent, the estimated fair value of the collateral, less any selling costs is used to determine if there is a need for a specific allowance or charge-off. If the loan is determined to be cash flow dependent, the allowance is measured based on the present value of expected future cash flows discounted at the loan’s pre-modification effective interest rate.

The following table presents loans by class modified as troubled debt restructurings that occurred during the three month period ending March 31, 2016 and March 31, 2015:

	Loans Modified as a TDR for the Three Months Ended March 31, 2015 ($ in thousands)				Loans Modified as a TDR for the Three Months Ended March 31, 2015 ($ in thousands)
Troubled Debt Restructurings	Number of Loans		Recorded Investment (as of period end)		Number of Loans		Recorded Investment (as of period end)
1-4 Family Owner Occupied		1	$	9		3	$	228
1-4 Family Non Owner Occupied		2		127		4		68
CRE Owner Occupied		0		-		0		-
CRE Non Owner Occupied		0		-		0		-
Agriculture Land		0		-		0		-
Other CRE		0		-		0		-
Commercial Working Capital		0		-		0		-
Commercial Other		0		-		0		-
Home Equity and Improvement		5		297		3		59
Consumer Finance		2		5		5		10
Total		10	$	438		15	$	365

The loans described above decreased the ALLL by $15,000 in the three month period ending March 31, 2016 and increased the ALLL by $64,000 in the three month period ending March 31, 2015.

Of the 2016 modifications, 5 were made TDRs due to the fact that the borrower has been in bankruptcy, 1 was made TDR due to granting interest only payments, 1 was made TDR due to extending the maturity date, and 3 were made TDRs because the current debt was refinanced for payment relief.

The following table presents loans by class modified as TDRs for which there was a payment default within twelve months following the modification during the quarters ending March 31, 2016 and March 31, 2015:

	Three Months Ended March 31, 2016 ($ in thousands)				Three Months Ended March 31, 2015 ($ in thousands)
Troubled Debt Restructurings That Subsequently Defaulted	Number of Loans		Recorded Investment (as of period end)		Number of Loans		Recorded Investment (as of period end)
1-4 Family Owner Occupied		0	$	-		1	$	126
1-4 Family Non Owner Occupied		0		-		1		104
CRE Owner Occupied		0		-		0		-
CRE Non Owner Occupied		0		-		2		387
Agriculture Land		0		-		0		-
Other CRE		0		-		0		-
Commercial Working Capital or Other		0		-		1		120
Commercial Other		0		-		0		-
Home Equity and Improvement		0		-		0		-
Consumer Finance		0		-		0		-
Total		0	$	-		5	$	737

The TDRs that subsequently defaulted described above had no affect on the allowance for loan losses for the three month periods ending March 31, 2016 or 2015.

The terms of certain other loans were modified during the period ending March 31, 2016 and the modifications did not meet the definition of a TDR. The modification of these loans involved a modification of the terms of the loans for borrowers who were not experiencing financial difficulties. A total of 63 loans were modified under this definition during the three month period ended March 31, 2016.

In order to determine whether a borrower is experiencing financial difficulty, an evaluation is performed on the probability that the borrower will be in payment default on any of its debt in the foreseeable future without the modification.

Credit Quality Indicators

Loans are categorized into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. Loans are analyzed individually by classifying the loans as to credit risk. This analysis includes all non-homogeneous loans, such as commercial and commercial real estate loans and certain homogenous mortgage, home equity and consumer loans. This analysis is performed on a quarterly basis. First Defiance uses the following definitions for risk ratings:

Special Mention. Loans classified as special mention have a potential weakness that deserves management's close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution's credit position at some future date.

Substandard. Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

Doubtful. Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

Not Graded. Loans classified as not graded are generally smaller balance residential real estate, home equity and consumer installment loans which are originated primarily by using an automated underwriting system. These loans are monitored based on their delinquency status and are evaluated individually only if they are seriously delinquent.

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be pass rated loans. As of March 31, 2016, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows (In Thousands):

Class	Pass		Special Mention		Substandard		Doubtful		Not Graded		Total
1-4 Family Owner Occupied	$	4,940	$	121	$	2,298	$	-	$	135,096	$	142,455
1-4 Family Non Owner Occupied		56,739		1,263		4,416		-		4,258		66,676
Total 1-4 Family Real Estate		61,679		1,384		6,714		-		139,354		209,131
Multi-Family Residential Real Estate		176,033		488		4,996		-		117		181,634

CRE Owner Occupied		315,063		17,831		9,847		-		616		343,357
CRE Non Owner Occupied		304,891		884		5,943		-		13		311,731
Agriculture Land		98,378		2,253		3,826		-		-		104,457
Other CRE		47,059		583		2,572		-		516		50,730

Total Commercial Real Estate		765,391		21,551		22,188		-		1,145		810,275

Construction		60,945		2,293		-		-		18,970		82,208

Commercial Working Capital		160,656		7,392		2,384		-		-		170,432
Commercial Other		234,166		4,305		5,355		-		-		243,826

Total Commercial		394,822		11,697		7,739		-		-		414,258

Home Equity and Home Improvement		-		-		738		-		116,643		117,381
Consumer Finance		-		-		14		-		15,658		15,672

Total Loans	$	1,458,870	$	37,413	$	42,389	$	-	$	291,887	$	1,830,559

As of December 31, 2015, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows (In Thousands):

Class	Pass		Special Mention		Substandard		Doubtful		Not Graded		Total
Residential Owner Occupied	$	5,828	$	123	$	2,427	$	-	$	131,820	$	140,198
Residential Non Owner Occupied		55,169		1,420		4,439		-		4,454		65,482
Total 1-4 Family Real Estate		60,997		1,543		6,866		-		136,274		205,680
Multi-Family Residential Real Estate		163,405		498		3,675		-		117		167,695

CRE Owner Occupied		297,856		17,896		9,730		-		714		326,196
CRE Non Owner Occupied		293,057		2,143		9,595		-		15		304,810
Agriculture Land		92,262		1,947		3,903		-		-		98,112
Other CRE		47,109		469		5,739		-		492		53,809

Total Commercial Real Estate		730,284		22,455		28,967		-		1,221		782,927

Construction		76,152		2,159		-		-		18,534		96,845

Commercial Working Capital		163,071		2,497		3,540		-		-		169,108
Commercial Other		243,308		2,706		5,528		-		-		251,542

Total Commercial		406,379		5,203		9,068		-		-		420,650

Home Equity and Home Improvement		-		-		689		-		116,779		117,468
Consumer Finance		-		-		15		-		16,255		16,270

Total Loans	$	1,437,217	$	31,858	$	49,280	$	-	$	289,180	$	1,807,535

Foreclosure Proceedings

Consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure totaled $359,000 as of March 31, 2016.

Mortgage Banking

Net revenues from the sales and servicing of mortgage loans consisted of the following:

	Three Months Ended March 31,
	2016			2015
	(In Thousands)
Gain from sale of mortgage loans	$	994		$	1,285
Mortgage loans servicing revenue (expense):
Mortgage loans servicing revenue		877			875
Amortization of mortgage servicing rights		(311	)		(411	)
Mortgage servicing rights valuation adjustments		(21	)		26
		545			490

Net revenue from sale and servicing of mortgage loans	$	1,539		$	1,775

The unpaid principal balance of residential mortgage loans serviced for third parties was $1.34 billion at both March 31, 2016 and December 31, 2015.

Activity for capitalized mortgage servicing rights and the related valuation allowance follows for the three months ended March 31, 2016 and 2015:

	March 31, 2016			March 31, 2015
	(In Thousands)
Mortgage servicing assets:
Balance at beginning of period	$	9,893		$	9,923
Loans sold, servicing retained		297			320
Amortization		(311	)		(411	)
Carrying value before valuation allowance at end of period		9,879			9,832

Valuation allowance:
Balance at beginning of period		(645	)		(911	)
Impairment (expense) recovery		(21	)		26
Balance at end of period		(666	)		(885	)
Net carrying value of MSRs at end of period	$	9,213		$	8,947
Fair value of MSRs at end of period	$	9,463		$	9,180

Amortization of mortgage servicing rights is computed based on payments and payoffs of the related mortgage loans serviced. Estimates of future amortization expense are not easily estimable.

The Company established an accrual for secondary market buy-back losses that resulted in a reversal of $59,000 and $58,000 in the first quarter of 2016 and 2015, respectively. The reversals are mainly due to no actual losses being recorded in the first quarter of 2016 and 2015, respectively.

10.

Deposits

A summary of deposit balances is as follows:

	March 31, 2016		December 31, 2015
	(In Thousands)
Non-interest-bearing checking accounts	$	426,053	$	420,691
Interest-bearing checking and money market accounts		783,016		767,201
Savings deposits		233,546		219,655
Retail certificates of deposit less than $250,000		401,350		403,902
Retail certificates of deposit greater than $250,000		27,192		24,688
	$	1,871,157	$	1,836,137

11.

Borrowings

First Defiance’s debt, FHLB advances and junior subordinated debentures owed to unconsolidated subsidiary trusts are comprised of the following:

	March 31, 2016		December 31, 2015
	(In Thousands)
FHLB Advances:
Single maturity fixed rate advances	$	72,000	$	47,000
Putable advances		5,000		5,000
Amortizable mortgage advances		7,664		7,902
Total	$	84,664	$	59,902

Junior subordinated debentures owed to unconsolidated subsidiary trusts	$	36,083	$	36,083

The putable advance can be put back to the Company at the option of the FHLB on a quarterly basis. A $5.0 million putable advance with a weighted average rate of 2.35% was not yet callable by the FHLB at March 31, 2016. The call date for this advance is June 13, 2016 and the maturity date is March 12, 2018. Putable advances are callable at the option of the FHLB on a quarterly basis.

In March 2007, the Company sponsored an affiliated trust, First Defiance Statutory Trust II (Trust Affiliate II) that issued $15 million of Guaranteed Capital Trust Securities (Trust Preferred Securities). In connection with this transaction, the Company issued $15.5 million of Junior Subordinated Deferrable Interest Debentures (Subordinated Debentures) to Trust Affiliate II. The Company formed Trust Affiliate II for the purpose of issuing Trust Preferred Securities to third-party investors and investing the proceeds from the sale of these capital securities solely in Subordinated Debentures of the Company. The Subordinated Debentures held by Trust Affiliate II are the sole assets of that trust. The Company is not considered the primary beneficiary of this Trust (variable interest entity), therefore the trust is not consolidated in the Company’s financial statements, but rather the subordinated debentures are shown as a liability. Distributions on the Trust Preferred Securities issued by Trust Affiliate II are payable quarterly at a variable rate equal to the three-month LIBOR rate plus 1.5%. The Coupon rate payable on the Trust Preferred Securities issued by Trust Affiliate II was 2.13% as of March 31, 2016 and 2.01% as of December 31, 2015.

The Trust Preferred Securities issued by Trust Affiliate II are subject to mandatory redemption, in whole or part, upon repayment of the Subordinated Debentures. The Company has entered into an agreement that fully and unconditionally guarantees the Trust Preferred Securities subject to the terms of the guarantee. The Trust Preferred Securities and Subordinated Debentures mature on June 15, 2037, but can be redeemed at the Company’s option at any time now.

The Company also sponsored an affiliated trust, First Defiance Statutory Trust I (Trust Affiliate I), that issued $20 million of Trust Preferred Securities in 2005. In connection with this transaction, the Company issued $20.6 million of Subordinated Debentures to Trust Affiliate I. Trust Affiliate I was formed for the purpose of issuing Trust Preferred Securities to third-party investors and investing the proceeds from the sale of these capital securities solely in Subordinated Debentures of the Company. The Junior Debentures held by Trust Affiliate I are the sole assets of the trust. The Company is not considered the primary beneficiary of this Trust (variable interest entity), therefore the trust is not consolidated in the Company’s financial statements, but rather the subordinated debentures are shown as a liability. Distributions on the Trust Preferred Securities issued by Trust Affiliate I are payable quarterly at a variable rate equal to the three-month LIBOR rate plus 1.38%. The Coupon rate payable on the Trust Preferred Securities issued by Trust Affiliate I was 2.01% and 1.89% on March 31, 2016 and December 31, 2015 respectively.

The Trust Preferred Securities issued by Trust Affiliate I are subject to mandatory redemption, in whole or in part, upon repayment of the Subordinated Debentures. The Company has entered into an agreement that fully and unconditionally guarantees the Trust Preferred Securities subject to the terms of the guarantee. The Trust Preferred Securities and Subordinated Debentures mature on December 15, 2035, but can be redeemed at the Company’s option at any time now.

The subordinated debentures may be included in Tier 1 capital (with certain limitations applicable) under current regulatory guidelines and interpretations.

Interest on both issues of Trust Preferred Securities may be deferred for a period of up to five years at the option of the issuer.

Repurchase Agreements. We utilize securities sold under agreements to repurchase to facilitate the needs of our customers and to facilitate secured short-term funding needs. Securities sold under agreements to repurchase are stated at the amount of cash received in connection with the transaction. We monitor levels on a continuous basis. We may be required to provide additional collateral based on the fair value of the underlying securities. Securities pledged as collateral under repurchase agreements are maintained with our safekeeping agent.

The remaining contractual maturity of the securities sold under agreements to repurchase in the consolidated balance sheets as of March 31, 2016 and December 31, 2015 is presented in the following tables.

	Overnight and Continuous		Up to 30 Days		30-90 Days		Greater than 90 Days		Total
At March 31, 2016			(In Thousands)
Repurchase agreements:
Mortgage-backed securities – residential	$	26,836	$	-	$	-	$	-	$	26,836
Collateralized mortgage obligations		31,149		-		-		-		31,149
Total borrowings	$	57,985	$	-	$	-	$	-	$	57,985
Gross amount of recognized liabilities for repurchase agreements									$	57,985

	Overnight and Continuous		Up to 30 Days		30-90 Days		Greater than 90 Days		Total
At December 31, 2015			(In Thousands)
Repurchase agreements:
Mortgage-backed securities – residential	$	23,998	$	-	$	-	$	-	$	23,998
Collateralized mortgage obligations		33,190		-		-		-		33,190
Total borrowings	$	57,188	$	-	$	-	$	-	$	57,188
Gross amount of recognized liabilities for repurchase agreements									$	57,188

12.

Commitments, Guarantees and Contingent Liabilities

Loan commitments are made to accommodate the financial needs of First Federal’s customers; however, there are no long-term, fixed-rate loan commitments that result in market risk. Standby letters of credit commit the Company to make payments on behalf of customers when certain specified future events occur. They primarily are issued to facilitate customers’ trade transactions.

Both arrangements have credit risk, essentially the same as that involved in extending loans to customers, and are subject to the Company’s normal credit policies. Collateral (e.g., securities, receivables, inventory and equipment) is obtained based on Management’s credit assessment of the customer.

The Company’s maximum obligation to extend credit for loan commitments (unfunded loans and unused lines of credit) and standby letters of credit outstanding as of the periods stated below were as follows (In Thousands):

	March 31, 2016				December 31, 2015
	Fixed Rate		Variable Rate		Fixed Rate		Variable Rate
Commitments to make loans	$	48,269	$	98,503	$	80,862	$	76,253
Unused lines of credit		22,727		372,404		31,991		323,171
Standby letters of credit		-		19,033		-		19,632
Total	$	70,996	$	489,940	$	112,853	$	419,056

Commitments to make loans are generally made for periods of 60 days or less.

In addition to the above commitments, First Defiance had commitments to sell $31.3 million and $19.9 million of loans to Freddie Mac, Fannie Mae, Federal Home Loan Bank of Cincinnati or BB&T Mortgage at March 31, 2016 and December 31, 2015, respectively.

13.

Income Taxes

The Company and its subsidiaries are subject to U.S. federal income tax as well as income tax in the state of Indiana. The Company is no longer subject to examination by taxing authorities for years before 2011. The Company currently operates primarily in the states of Ohio and Michigan, which tax financial institutions based on their equity rather than their income.

14.

Derivative Financial Instruments

Commitments to fund certain mortgage loans (interest rate locks) to be sold into the secondary market and forward commitments for the future delivery of mortgage loans to third party investors are considered derivatives. It is the Company’s practice to enter into forward commitments for the future delivery of residential mortgage loans when interest rate lock commitments are entered into in order to economically hedge the effect of changes in interest rates resulting from its commitments to fund the loans. These mortgage banking derivatives are not designated in hedge relationships. First Federal had approximately $23.0 million and $14.9 million of interest rate lock commitments at March 31, 2016 and December 31, 2015, respectively. There were $31.3 million and $19.9 million of forward commitments for the future delivery of residential mortgage loans at March 31, 2016 and December 31, 2015, respectively.

The fair value of these mortgage banking derivatives are reflected by a derivative asset recorded in other assets in the Consolidated Statements of Condition. The table below provides data about the carrying values of these derivative instruments:

March 31, 2016

December 31, 2015

Assets

(Liabilities)

Assets

(Liabilities)

Derivative

Carrying

Net Carrying

Carrying

Net Carrying

Value

(In Thousands)

Derivatives not designated as hedging instruments

Mortgage Banking Derivatives

856

(78

)

778

558

The table below provides data about the amount of gains and losses recognized in income on derivative instruments not designated as hedging instruments:

	Three Months Ended March 31,
	2016		2015
	(In Thousands)
Derivatives not designated as hedging instruments

Mortgage Banking Derivatives – Gain (Loss)	$	220	$	438

The above amounts are included in mortgage banking income with gain on sale of mortgage loans.

15.

Other Comprehensive Income (Loss)

The before and after tax amounts allocated to each component of other comprehensive income (loss) are presented in the table below. Reclassification adjustments related to securities available for sale are included in gains on sale or call of securities in the accompanying consolidated condensed statements of income.

	Before Tax Amount			Tax Expense (Benefit)			Net of Tax Amount
Three months ended March 31, 2016:	(In Thousands)
Securities available for sale:
Change in net unrealized gain/loss during the period	$	1,450		$	(508	)	$	942
Reclassification adjustment for net gains included in net income		(131	)		46			(85	)
Total other comprehensive loss	$	1,319		$	(462	)	$	857

Three months ended March 31, 2015:
Securities available for sale:
Change in net unrealized gain/loss during the period	$	1,502		$	527		$	975
Reclassification adjustment for net gains included in net income		-			-			-
Total other comprehensive loss	$	1,502		$	527		$	975

Activity in accumulated other comprehensive income (loss), net of tax, was as follows:

							Accumulated
	Securities			Post-			Other
	Available			retirement			Comprehensive
	For Sale			Benefit			Income
	(In Thousands)
Balance January 1, 2016	$	4,042		$	(420	)	$	3,622
Other comprehensive income before reclassifications		942			-			942
Amounts reclassified from accumulated other comprehensive income		(85	)		-			(85	)

Net other comprehensive income during period		857			-			857

Balance March 31, 2016	$	4,899		$	(420	)	$	4,479

Balance January 1, 2015	$	4,697		$	(583	)	$	4,114
Other comprehensive income before reclassifications		975			-			975
Amounts reclassified from accumulated other comprehensive income		-			-			-

Net other comprehensive income during period		975			-			975

Balance March 31, 2015	$	5,672		$	(583	)	$	5,089

16.

Affordable Housing Projects Tax Credit Partnership

The Company makes certain equity investments in various limited partnerships that sponsor affordable housing projects utilizing the Low Income Housing Tax Credit (“LIHTC”) pursuant to Section 42 of the Internal Revenue Code. The purpose of these investments is to achieve a satisfactory return on capital, to facilitate the sale of affordable housing product offerings, and to assist in achieving goals associated with the Community Reinvestment Act. The primary activities of the limited partnerships include the identification, development, and operation of multi-family housing that is leased to qualifying residential tenants. Generally, these types of investments are funded through a combination of debt and equity.

The Company is a limited partner in each LIHTC Partnership. A separate unrelated third party is the general partner. Each limited partnership is managed by the general partner, who exercises full control over the affairs of the limited partnership. The general partner has all the rights, powers and authority granted or permitted to be granted to a general partner of a limited partnership. Duties entrusted to the general partner of each limited partnership include, but are not limited to: investment in operating companies, company expenditures, investment of excess funds, borrowing funds, employment of agents, disposition of fund property, prepayment and refinancing of liabilities, votes and consents, contract authority, disbursement of funds, accounting methods, tax elections, bank accounts, insurance, litigation, cash reserve, and use of working capital reserve funds. Except for limited rights granted to consent to certain transactions, the limited partner(s) may not participate in the operation, management, or control of the limited partnership’s business, transact any business in the limited partnership’s name or have any power to sign documents for or otherwise bind the limited partnership. In addition, the general partner may only be removed by the limited partner(s) in the event the general partner fails to comply with the terms of the agreement or is negligent in performing its duties.

The general partner of each limited partnership has both the power to direct the activities which most significantly affect the performance of each partnership and the obligation to absorb losses or the right to receive benefits that could be significant to the entities. Therefore, the Company has determined that it is not the primary beneficiary of any LIHTC partnership. In January of 2014, the FASB issued ASU 2014-01 “Accounting for Investments in Qualified Affordable Housing Projects.” The pronouncement permitted reporting entities to make an accounting policy election to account for these investments using the proportional amortization method if certain conditions exist. Under the proportional amortization method, an entity amortizes the initial cost of the investment in proportion to the tax credits and other tax benefits received, and will recognize the net investment performance in the income statement as a component of income tax expense (benefit). The Company utilized the proportional amortization method for all of its instruments. As of March 31, 2016 and December 31, 2015 the Company had $4.2 million and $4.3 million in qualified investments recorded in other assets and $2.2 million and $2.4 million in unfunded commitments recorded in other liabilities, respectively.

Unfunded Commitments

As of March 31, 2016, the expected payments for unfunded affordable housing commitments were as follows:

(dollars in thousands)	Amount
2016	$	1,259
2017		160
2018		414
2019		93
2020		66
Thereafter		247
Total Unfunded Commitments	$	2,239

The following table presents tax credits and other tax benefits recognized and amortization expense related to affordable housing for the three months ended March 31, 2016 and 2015.

	Three Months Ended March 31,
(dollars in thousands)	2016		2015
Proportional Amortization Method
Tax credits and other tax benefits recognized	$	157	$	118
Amortization expense in federal income taxes		119		89

There were no impairment losses of LIHTC investments for the three months ended March 31, 2016 and 2015.

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Information

Certain statements contained in this quarterly report are not statements of historical facts, including but not limited to statements that can be identified by the use of forward-looking terminology such as “may”, “will”, “expect”, “anticipate”, or “continue” or the negative thereof or other variations thereon or comparable terminology are “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21B of the Securities Exchange Act of 1934, as amended. Actual results could differ materially from those indicated in such statements due to risks, uncertainties and changes with respect to a variety of market and other factors. The Company assumes no obligation to update any forward-looking statements.

General

First Defiance is a unitary thrift holding company that conducts business through its wholly owned subsidiaries, First Federal, First Insurance and First Defiance Risk Management.

First Federal is a federally chartered stock savings bank that provides financial services to communities based in northwest Ohio, northeast Indiana, and southeastern Michigan where it operates 34 full service banking centers in twelve northwest Ohio counties, one northeast Indiana county, and one southeastern Michigan county. First Federal operates one loan production office in one central Ohio county.

First Federal provides a broad range of financial services including checking accounts, savings accounts, certificates of deposit, real estate mortgage loans, commercial loans, consumer loans, home equity loans and trust and wealth management services through its extensive branch network.

First Insurance sells a variety of property and casualty, group health and life and individual health and life insurance products. First Insurance is an insurance agency that does business in the Defiance, Bryan, Bowling Green, Lima, Maumee and Oregon, Ohio areas.

First Defiance Risk Management is a wholly owned insurance company subsidiary of the Company that insures the Company and its subsidiaries against certain risks unique to the operations of the Company and for which insurance may not be currently available or economically feasible in today’s insurance marketplace. First Defiance Risk Management pools resources with several other similar insurance company subsidiaries of financial institutions to spread a limited amount of risk among themselves.

Impact of Legislation - Over the last several years, Congress and the U.S. Department of the Treasury have enacted legislation and taken actions to address the disruptions in the financial system, declines in the housing market, and the overall regulation of financial institutions and the financial system. In this regard, the Dodd-Frank Act, includes provisions affecting large and small financial institutions alike, including several provisions that profoundly affect the regulation of community banks, thrifts, and bank and thrift holding companies, such as First Defiance. The Dodd-Frank Act relaxed rules regarding interstate branching, allow financial institutions to pay interest on business checking accounts, changed the scope of federal deposit insurance coverage, imposed new capital requirements on bank and thrift holding companies, and imposed limits on debit card interchange fees charged by issuer banks (commonly known as the Durbin Amendment).

The Dodd-Frank Act also established the CFPB as an independent bureau within the Federal Reserve, which has broad authority to regulate consumer financial products and services and entities offering such products and services, including banks.

The CFPB has indicated that mortgage lending is an area of supervisory focus and that it will concentrate its examination and rulemaking efforts on the variety of mortgage-related topics required under the Dodd-Frank Act, including steering consumers to less-favorable products, discrimination, abusive or unfair lending practices, predatory lending, origination disclosures, minimum mortgage underwriting standards, mortgage loan originator compensation, and servicing practices. The CFPB has published numerous final regulations impacting the mortgage industry, including rules related to ability-to-pay, mortgage servicing, and mortgage loan originator compensation and more regulations are anticipated. First Defiance cannot predict the content of the final CFPB and other federal agency regulations or the impact they might have on First Defiance’s financial results. The CFPB’s authority over mortgage lending, and its authority to change regulations adopted in the past by other regulators, or to rescind or ignore past regulatory guidance, could increase First Defiance’s compliance costs and litigation exposure.

Regulatory Capital Requirements – The federal banking regulators have adopted risk-based capital guidelines for financial institutions and their holding companies, designed to absorb losses. The guidelines provide a systematic analytical framework, which makes regulatory capital requirements sensitive to differences in risk profiles among banking organizations, takes off-balance sheet exposures expressly into account in evaluating capital adequacy and minimizes disincentives to holding liquid, low-risk assets. Capital levels as measured by these standards are also used to categorize financial institutions for purposes of certain prompt corrective action regulatory provisions.

Prior to January 1, 2015, the guidelines applicable to First Defiance and First Federal included a minimum for the ratio of total capital to risk-weighted assets of 8%, with at least half of the ratio composed of common shareholders’ equity, minority interests in certain equity accounts of consolidated subsidiaries and a limited amount of qualifying preferred stock and qualified trust preferred securities, less goodwill and certain other intangible assets (known as “Tier 1” risk-based capital). The guidelines also provided for a minimum ratio of Tier 1 capital to average assets, or “leverage ratio,” of 3% for savings and loan holding companies that meet certain criteria, including having the highest regulatory rating, and 4% for all other savings and loan holding companies.

The risk-based capital guidelines adopted by the federal banking agencies are based on the “International Convergence of Capital Measurement and Capital Standard” (Basel I), published by the Basel Committee on Banking Supervision (the “Basel Committee”) in 1988. In 2004, the Basel Committee published a new capital adequacy framework (Basel II) for large, internationally active banking organizations, and in December 2010 and January 2011, the Basel Committee issued an update to Basel II (“Basel III”). The Basel Committee frameworks did not become applicable to financial institutions supervised in the United States until adopted into United States law or regulations. Although the United States banking regulators imposed some of the Basel II and Basel III rules on financial institutions with $250 billion or more in assets or $10 billion of on-balance sheet foreign exposure, it was not until July 2013 that the United States banking regulators issued final (or, in the case of the FDIC, interim final) new capital rules applicable to smaller banking organizations which also implement certain provisions of the Dodd-Frank Act (the “Basel III Capital Rules”). Community banking organizations, including First Defiance and First Federal, began transitioning to the new rules on January 1, 2015. The new minimum capital requirements became effective on January 1, 2015, whereas a new capital conservation buffer and deductions from common equity capital phase in from January 1, 2016, through January 1, 2019, and most deductions from common equity tier 1 capital will phase in from January 1, 2015, through January 1, 2019.

The new rules include (a) a new common equity tier 1 (“CET1”) capital ratio of at least 4.5%, (b) a Tier 1 capital ratio of at least 6.0%, rather than the former 4.0%, (c) a minimum total capital ratio that remains at 8.0%, and (d) a minimum leverage ratio of 4%.

Common equity for the CET1 capital ratio includes common stock (plus related surplus) and retained earnings, plus limited amounts of minority interests in the form of common stock, less the majority of certain regulatory deductions.

Tier 1 capital includes common equity as defined for the CET1 capital ratio, plus certain non-cumulative preferred stock and related surplus, cumulative preferred stock and related surplus and trust preferred securities that have been grandfathered (but which are not permitted going forward), and limited amounts of minority interests in the form of additional Tier 1 capital instruments, less certain deductions.

Tier 2 capital, which can be included in the total capital ratio, includes certain capital instruments (such as subordinated debt) and limited amounts of the allowance for loan and lease losses, subject to new eligibility criteria, less applicable deductions.

The deductions from CET1 capital include goodwill and other intangibles, certain deferred tax assets, mortgage-servicing assets above certain levels, gains on sale in connection with a securitization, investments in a banking organization’s own capital instruments and investments in the capital of unconsolidated financial institutions (above certain levels). The deductions phase in from 2015 through 2019.

Under the guidelines, capital is compared to the relative risk related to the balance sheet. To derive the risk included in the balance sheet, one of several risk weights is applied to different balance sheet and off-balance sheet assets, primarily based on the relative credit risk of the counterparty. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

The new rules also place restrictions on the payment of capital distributions, including dividends, and certain discretionary bonus payments to executive officers if the company does not hold a capital conservation buffer of greater than 2.5% composed of CET1 capital above its minimum risk-based capital requirements, or if its eligible retained income is negative in that quarter and its capital conservation buffer ratio was less than 2.5% at the beginning of the quarter. The capital conservation buffer phases in starting on January 1, 2016, at .625%. The implementation of Basel III did not have a material impact on First Defiance’s or First Federal’s capital ratios.

Business Strategy - First Defiance’s primary objective is to be a high-performing community banking organization, well regarded in its market areas. First Defiance accomplishes this through emphasis on local decision making and empowering its employees with tools and knowledge to serve its customers’ needs. First Defiance believes in a “Customer First” philosophy that is strengthened by its Trusted Advisor initiative. First Defiance also has a tagline of “Better Together” as an indication of its commitment to local, responsive, personalized service. First Defiance believes this strategy results in greater customer loyalty and profitability through core relationships. First Defiance is focused on diversification of revenue sources and increased market penetration in areas where the growth potential exists for a balance between acquisition and organic growth. The primary elements of First Defiance’s business strategy are commercial banking, consumer banking, including the origination and sale of single-family residential loans, enhancement of fee income, wealth management and insurance sales, each united by a strong customer service culture throughout the organization.

Commercial and Commercial Real Estate Lending - Commercial and commercial real estate lending have been an ongoing focus and a major component of First Federal’s success. First Federal provides primarily commercial real estate and commercial business loans with an emphasis on owner- occupied commercial real estate and commercial business lending, including a focus on the deposit balances that accompany these relationships. First Federal’s client base tends to be small to middle market customers with annual gross revenues generally between $1 million and $50 million. First Federal’s focus is also on securing multiple guarantors in addition to collateral where possible. These customers require First Federal to have a high degree of knowledge and understanding of their business in order to provide them with solutions to their financial needs. First Federal’s “Customer First” philosophy and culture complements this need of its clients. First Federal believes this personal service model differentiates First Federal from its competitors, particularly the larger regional institutions. First Federal offers a wide variety of products to support commercial clients including remote deposit capture and other cash management services. First Federal also believes that the small business customer is a strong market for First Federal. First Federal participates in many of the Small Business Administration lending programs and implemented a program in 2014 targeting the small business customer. Maintaining a diversified portfolio with an emphasis on monitoring industry concentrations and reacting to changes in the credit characteristics of industries is an ongoing focus.

Consumer Banking - First Federal offers customers a full range of deposit and investment products including demand, checking, money market, certificates of deposits, Certificate of Deposit Account Registry Service (“CDARS”) and savings accounts. First Federal offers a full range of investment products through the wealth management department and a wide variety of consumer loan products, including residential mortgage loans, home equity loans, and installment loans. First Federal also offers online banking services, which include mobile banking and online bill pay.

Fee Income Development - Generation of fee income and the diversification of revenue sources are accomplished through the mortgage banking operation, First Insurance and the wealth management department as First Defiance seeks to reduce reliance on retail transaction fee income.

Deposit Growth - First Federal’s focus has been to grow core deposits with an emphasis on total relationship banking with both our retail and commercial customers. First Federal has initiated a pricing strategy that considers the whole relationship of the customer. First Federal will continue to focus on increasing its market share in the communities it serves by providing quality products with extraordinary customer service, business development strategies and branch expansion. First Federal will look to grow its footprint in areas believed to further complement its overall market share and complement its strategy of being a high-performing community bank.

Asset Quality - Maintaining a strong credit culture is of the utmost importance to First Federal. First Federal has maintained a strong credit approval and review process that has allowed the Company to maintain a credit quality standard that balances the return with the risks of industry concentrations and loan types. First Federal is primarily a collateral lender with an emphasis on cash flow performance, while obtaining additional support from personal guarantees and secondary sources of repayment. First Federal has directed its attention to loan types and markets that it knows well and in which it has historically been successful. First Federal strives to have loan relationships that are well diversified in both size and industry, and monitors the overall trends in the portfolio to maintain its industry and loan type concentration targets. First Federal maintains a problem loan remediation process that focuses on detection and resolution. First Federal maintains a strong process of internal control that subjects the loan portfolio to periodic internal reviews as well as independent third-party loan review.

Expansion Opportunities - First Defiance believes it is well positioned to take advantage of acquisitions or other business opportunities in its market areas. First Defiance believes it has a track record of successfully accomplishing both acquisitions and de novo branching in its market area. This track record puts the Company in a solid position to enter or expand its business. First Defiance will continue to be disciplined as well as opportunistic in its approach to future acquisitions and de novo branching with a focus on its primary geographic market area, which it knows well, and has been competing in for a long period of time, as well as surrounding market areas.

Investments - First Defiance invests in U.S. Treasury and federal government agency obligations, obligations of municipal and other political subdivisions, mortgage-backed securities which are issued by federal agencies, corporate bonds, and collateralized mortgage obligations ("CMOs") and real estate mortgage investment conduits ("REMICs"). Management determines the appropriate classification of all such securities at the time of purchase in accordance with FASB ASC Topic 320.

Securities are classified as held-to-maturity when First Defiance has the positive intent and ability to hold the security to maturity. Held-to-maturity securities are stated at amortized cost and had a recorded value of $235,000 at March 31, 2016. Securities not classified as held-to-maturity are classified as available-for-sale, which are stated at fair value and had a recorded value of $227.8 million at March 31, 2016. The available-for-sale portfolio consists of obligations of U.S. Government corporations and agencies ($1.0 million), certain municipal obligations ($91.0 million), CMOs/REMICs ($71.1 million), corporate bonds ($5.0 million), and mortgage backed securities ($59.7 million).

In accordance with ASC Topic 320, declines in the fair value of held-to-maturity and available-for-sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses to the extent the impairment is related to credit losses. The amount of the impairment related to other factors is recognized in other comprehensive income.

Lending - In order to properly assess the collateral dependent loans included in its loan portfolio, the Company has established policies regarding the monitoring of the collateral underlying such loans. The Company requires an appraisal that is less than one year old for all new collateral dependent real estate loans, and all renewed collateral dependent real estate loans where significant new money is extended. The appraisal process is handled by the Credit Department, which selects the appraiser and orders the appraisal. First Defiance’s loan policy prohibits the account officer from talking or communicating with the appraiser to insure that the appraiser is not influenced by the account officer in any way in making their determination of value.

First Federal generally does not require updated appraisals for performing loans unless significant new money is requested by the borrower.

When a collateral dependent loan is downgraded to classified status, First Federal reviews the most current appraisal on file and, if necessary, based on First Federal’s assessment of the appraisal, such as age, market, etc, First Federal will discount this amount to a more appropriate current value based on inputs from lenders and realtors. This amount may then be discounted further by First Federal’s estimation of the carrying and selling costs. In most instances, if the appraisal is more than twelve to fifteen months old, we may require a new appraisal. Finally, First Federal assesses whether there is any collateral short fall, taking into consideration guarantor support and liquidity, and determines if a charge off is necessary.

When a collateral dependent loan moves to non-performing status, First Federal generally gets a new third party appraisal and charges the loan down appropriately based upon the new appraisal and an estimate of costs to liquidate the collateral. All properties that are moved into the Other Real Estate Owned (“OREO”) category are supported by current appraisals, and the OREO is carried at the lower of cost or fair value, which is determined based on appraised value less First Federal’s estimate of the liquidation costs.

First Federal does not adjust any appraisals upward without written documentation of this valuation change from the appraiser. When setting reserves and charge offs on classified loans, appraisal values may be discounted downward based upon First Federal’s experience with liquidating similar properties.

All loans over 90 days past due and/or on non-accrual are classified as non-performing loans. Non-performing status automatically occurs in the month in which the 90 day delinquency occurs.

As stated above, once a collateral dependent loan is identified as non-performing, First Federal generally gets an appraisal.

Appraisals are received within approximately 60 days after they are requested. The First Federal Loan Loss Reserve Committee reviews the amount of each new appraisal and makes any necessary charge off decisions at its meeting prior to the end of each quarter.

Any partially charged-off collateral dependent loans are considered non-performing, and as such, would need to show an extended period of time with satisfactory payment performance as well as cash flow coverage capability supported by current financial statements before First Federal will consider an upgrade to performing status. First Federal may consider moving the loan to accruing status after approximately six months of satisfactory payment performance.

For loans where First Federal determines that an updated appraisal is not necessary, other means are used to verify the value of the real estate, such as recent sales of similar properties on which First Federal had loans as well as calls to appraisers, brokers, realtors and investors. First Federal monitors and tracks its loan to value quarterly to determine accuracy and any necessary charge offs. Based on these results, changes may occur in the processes used.

Loan modifications constitute a TDR if First Federal for economic or legal reasons related to the borrower’s financial difficulties grants a concession to the borrower that it would not otherwise consider. For loans that are considered TDRs, First Federal either computes the present value of expected future cash flows discounted at the original loan’s effective interest rate or it may measure impairment based on the fair value of the collateral. For those loans measured for impairment utilizing the present value of future cash flows method, any discount is carried as a reserve in the allowance for loan and lease losses. For those loans measured for impairment utilizing the fair value of the collateral, any shortfall is charged off.

Earnings - The profitability of First Defiance is primarily dependent on its net interest income and non-interest income. Net interest income is the difference between interest income on interest-earning assets, principally loans and securities, and interest expense on interest-bearing deposits, FHLB advances, and other borrowings. The Company’s non-interest income is mainly derived from service fees and other charges, mortgage banking income, and insurance commissions. First Defiance's earnings also depend on the provision for loan losses and non-interest expenses, such as employee compensation and benefits, occupancy and equipment expense, deposit insurance premiums, and miscellaneous other expenses, as well as federal income tax expense.

Changes in Financial Condition

At March 31, 2016, First Defiance's total assets, deposits and stockholders' equity amounted to $2.36 billion, $1.87 billion and $280.4 million, respectively, compared to $2.30 billion, $1.84 billion and $280.2 million, respectively, at December 31, 2015.

Net loans receivable (excluding loans held for sale) increased $22.5 million to $1.80 billion. The variance in loans receivable between March 31, 2016 and December 31, 2015 includes increases in commercial real estate loans (up $41.0 million) and residential real estate loans (up $3.5 million). These increases were partially offset by decreases in construction loans (down $18.2 million), commercial loans (down $6.4 million), home equity loans (down $0.1 million) and consumer loans (down $0.6 million).

The investment securities portfolio decreased $8.6 million to $228.1 million at March 31, 2016 from $236.7 million at December 31, 2015. The decrease is the result of $7.9 million of securities maturing or being called in the period and $5.4 million of securities being sold. This was somewhat offset by $3.4 million of securities being purchased in the period. There was an unrealized gain in the investment portfolio of $7.5 million at March 31, 2016 compared to an unrealized gain of $6.2 million at December 31, 2015.

Deposits increased from $1.84 billion at December 31, 2015 to $1.87 billion as of March 31, 2016. Non-interest bearing demand deposits decreased $5.4 million to $426.1 million, interest bearing demand and money market deposits increased $15.8 million to $783.0 million, and savings deposits increased $13.9 million to $233.5 million. Retail time deposits remained steady at $428.5 million.

Stockholders’ equity increased from $280.2 million at December 31, 2015 to $280.4 million at March 31, 2016. The increase in stockholders’ equity was the result of recording net income of $7.1 million, an increase in other comprehensive income of $857,000 and a $314,000 increase due to the exercise of stock options. These were mostly offset by $2.0 million of common stock dividends being paid in the first quarter of 2016 and $6.3 million in repurchased common stock.

Average Balances, Net Interest Income and Yields Earned and Rates Paid

The following table presents for the periods indicated the total dollar amount of interest from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities, expressed both in thousands of dollars and rates, and the net interest margin. The table reports interest income from tax-exempt loans and investment on a tax-equivalent basis. All average balances are based upon daily balances (dollars in thousands).

	Three Months Ended March 31,
	2016							2015
	Average				Yield/			Average				Yield/
	Balance		Interest(1)		Rate(2)			Balance		Interest(1)		Rate(2)
Interest-earning assets:
Loans receivable	$	1,796,200	$	19,363		4.34	%	$	1,647,059	$	17,932		4.42	%
Securities		233,815		2,054		3.65			241,023		2,111		3.67
Interest bearing deposits		44,766		49		0.44			56,579		39		0.28
FHLB stock		13,801		139		4.05			13,802		139		4.08
Total interest-earning assets		2,088,582		21,605		4.18			1,958,463		20,221		4.20
Non-interest-earning assets		225,621							221,113
Total assets	$	2,314,203						$	2,179,576

Interest-bearing liabilities:
Deposits	$	1,420,479	$	1,433		0.41	%	$	1,394,262	$	1,272		0.37	%
FHLB advances and other		78,670		297		1.52			21,490		110		2.08
Subordinated debentures		36,137		175		1.95			36,129		147		1.65
Securities sold under repurchase agreements		55,243		37		0.27			53,869		38		0.29
Total interest-bearing liabilities		1,590,529		1,942		0.49			1,505,750		1,567		0.42
Non-interest bearing deposits		414,866		-					366,121		-
Total including non-interest bearing demand deposits		2,005,395		1,942		0.39			1,871,871		1,567		0.34
Other non-interest-bearing liabilities		29,757							27,788
Total liabilities		2,035,152							1,899,659
Stockholders' equity		279,051							279,917
Total liabilities and stock- holders' equity	$	2,314,203						$	2,179,579
Net interest income; interest rate spread			$	19,663		3.69	%			$	18,654		3.78	%
Net interest margin (3)						3.80	%						3.88	%
Average interest-earning assets to average interest-bearing liabilities						131	%						130	%

(1)

Interest on certain tax-exempt loans and securities is not taxable for Federal income tax purposes. In order to compare the tax-exempt yields on these assets to taxable yields, the interest earned on these assets is adjusted to a pre-tax equivalent amount based on the marginal corporate federal income tax rate of 35%.

(2)

Annualized

(3)

Net interest margin is net interest income divided by average interest-earning assets.

Results of Operations

Three Months Ended March 31, 2016 and 2015

On a consolidated basis, First Defiance’s net income for the quarter ended March 31, 2016 was $7.1 million compared to net income of $6.6 million for the comparable period in 2015. On a per share basis, basic and diluted earnings per common share for the three months ended March 31, 2016 were $0.79 and $0.78, respectively, compared to basic and diluted earnings per common share of $0.71 and $0.69, respectively, for the quarter ended March 31, 2015.

Net Interest Income

First Defiance’s net interest income is determined by its interest rate spread (i.e. the difference between the yields on its interest-earning assets and the rates paid on its interest-bearing liabilities) and the relative amounts of interest-earning assets and interest-bearing liabilities.

Net interest income was $19.2 million for the quarter ended March 31, 2016, up from $18.2 million for the same period in 2015. The tax-equivalent net interest margin was 3.80% for the quarter ended March 31, 2016, a decrease from 3.88% for the same period in 2015. The decrease in margin between the 2016 and 2015 first quarters was due to a slight decrease in interest-earning asset yields, which decreased to 4.18% for the quarter ended March 31, 2016, down 2 basis points from 4.20% for the same period in 2015. The cost of interest-bearing liabilities between the two periods increased 7 basis points to 0.49% in the first quarter of 2016 from 0.42% in the same period in 2015. Over the past year, loan growth has outpaced deposit growth resulting in reliance on FHLB borrowings in order to grow the balance sheet. While these sources of funding are more expensive, this was somewhat curtailed by achieving a favorable mix in the deposit growth. Total deposits grew $98.5 million since March 31, 2015 of which, $55.1 million was in non-interest bearing demand balances. Management continues to analyze and look for additional opportunities to maintain its margin, as well as other alternatives to minimize the impact of the sustained low rate environment.

Total interest income increased $1.3 million to $21.1 million for the quarter ended March 31, 2016 from $19.8 million for the quarter ended March 31, 2015. This is due to continued loan growth and a more profitable earning asset mix. Income from loans increased to $19.3 million for the quarter ended March 31, 2016 compared to $17.9 million for the same period in 2015 due to loan growth of $140.4 million. A decrease in the loan portfolio yield to 4.34% at March 31, 2016 was primarily due to interest recoveries of $264,000 mainly due to loan payoffs in the first quarter of 2015 versus none in the first quarter of 2016. The investment interest income remained steady, with the yield dropping 2 basis points to 3.65% at March 31, 2016 compared to 3.67% at March 31, 2015.

Interest expense increased by $375,000 in the first quarter of 2016 compared to the same period in 2015, to $1.9 million from $1.6 million. The cost of interest bearing liabilities increased 7 basis points from 0.42% at March 31, 2015 to 0.49% at March 31, 2016. Interest expense related to interest-bearing deposits was $1.4 million in the first quarter of 2016 compared to $1.3 million for the same period in 2015. Interest expense recognized by the Company related to FHLB advances was $297,000 in the first quarter of 2016 compared to $110,000 for the same period in 2015 due to increased volumes. Expenses on subordinated debentures and securities sold under repurchase agreements were $175,000 and $37,000 respectively in the first quarter of 2016 compared to $147,000 and $38,000 respectively for the same period in 2015.

Allowance for Loan Losses

The allowance for loan losses represents management’s assessment of the estimated probable incurred credit losses in the loan portfolio at each balance sheet date. Management analyzes the adequacy of the allowance for loan losses regularly through reviews of the loan portfolio. Consideration is given to economic conditions, changes in interest rates and the effect of such changes on collateral values and borrower’s ability to pay, changes in the composition of the loan portfolio and trends in past due and non-performing loan balances. The allowance for loan losses is a material estimate that is susceptible to significant fluctuation and is established through a provision for loan losses based on management’s evaluation of the inherent risk in the loan portfolio. In addition to extensive in-house loan monitoring procedures, the Company utilizes an outside party to conduct an independent loan review of commercial loan and commercial real estate loan relationships. The goal is to have approximately 55% to 60% of the portfolio reviewed annually. This includes all relationships over $5.0 million with new exposure greater than $2.0 million and a sample of other relationships greater than $5.0 million; loan relationships between $1.0 million and $5.0 million with new exposure greater than $750,000 and a sample of other relationships between $1.0 million and $5.0 million; and a sample of relationships less than $1.0 million. Management utilizes the results of this outside loan review to assess the effectiveness of its internal loan grading system as well as to assist in the assessment of the overall adequacy of the allowance for loan losses associated with these types of loans.

The allowance for loan loss is made up of two basic components. The first component of the allowance for loan loss is the specific reserve in which the Company sets aside reserves based on the analysis of individual impaired credits. In establishing specific reserves, the Company analyzes all substandard, doubtful and loss graded loans quarterly and makes judgments about the risk of loss based on the cash flow of the borrower, the value of any collateral and the financial strength of any guarantors. If the loan is impaired and cash flow dependent, then a specific reserve is established for the discount on the net present value of expected future cash flows. If the loan is impaired and collateral dependent, then any shortfall is usually charged off. The Company also considers the impacts of any Small Business Association or Farm Service Agency guarantees. The specific reserve was $400,000 at March 31, 2016.

The second component is a general reserve, which is used to record loan loss reserves for groups of homogenous loans in which the Company estimates the losses incurred in the portfolio based on quantitative and qualitative factors. For purposes of the general reserve analysis, the loan portfolio is stratified into nine different loan pools based on loan type to allocate historic loss experience. The loss experience factor is then applied to the non-impaired loan portfolio. Beginning June 30, 2015, the Company refined the methodology to its allowance for loan loss calculation pertaining to the general reserve component for non-impaired loans. There was no change to the calculation of the component for reserves on impaired loans. Within the general reserve, the determination of the historical loss component was modified from using a three-year average annual loss rate to a loss migration measurement. The loss migration measurement implemented June 30, 2015, utilizes an average of four (4) four-year loss migration periods for each loan portfolio segment with differentiation between loan risk grades. This approach provides for a more precise reflection of probable incurred losses by risk grade within each loan portfolio segment over an average loan life cycle. Management believes that capturing the risk grade changes and cumulative losses over the life cycle of a loan more accurately depicts management’s estimate of historical losses as well as being more reflective of the ongoing risks in the loan portfolio. Prior to June 30, 2015, the approach to this component quantified the historical loss by calculating a rolling twelve quarter average annual loss rate for each portfolio segment, without differentiation between loan risk grades. This modification resulted in a change in the general reserves between the loan portfolio segments but did not have a material impact on the overall allowance for loan losses.

The quantitative general allowance increased $700,000 to $10.5 million at March 31, 2016 from $9.8 million at December 31, 2015 primarily due to an increase in the balance of criticized loans.

In addition to the quantitative analysis, a qualitative analysis is performed each quarter to provide additional general reserves on the non-impaired loan portfolio for various factors. The overall qualitative factors are based on nine sub-factors. The nine sub-factors have been aggregated into three qualitative factors: economic, environment and risk.

ECONOMIC

Changes in international, national and local economic business conditions and developments, including the condition of various market segments.

Changes in the value of underlying collateral for collateral dependent loans.

ENVIRONMENT

Changes in the nature and volume in the loan portfolio.

The existence and effect of any concentrations of credit and changes in the level of such concentrations.

Changes in lending policies and procedures, including underwriting standards and collection, charge-off and recovery practices.

Changes in the quality and breadth of the loan review process.

Changes in the experience, ability and depth of lending management and staff.

RISK

Changes in the trends of the volume and severity of delinquent and classified loans, and changes in the volume of non-accrual loans, trouble debt restructuring, and other loan modifications.

Changes in the political and regulatory environment.

The qualitative analysis at March 31, 2016 indicated a general reserve of $14.8 million compared with $15.2 million at December 31, 2015. Management reviewed the overall economic, environmental and risk factors and determined that it was appropriate to decrease several of these due in part to improvement in loan policies and underwriting standards as well as improvement in asset quality.

First Defiance’s general reserve percentages for main loan segments not otherwise classified ranged from 0.59% for construction loans to 1.90% for home equity and improvement loans at March 31, 2016.

As a result of the quantitative and qualitative analyses, along with the change in specific reserves, the Company’s provision for loan losses for the first quarter of 2016 was $364,000, compared to $120,000 for the same period in 2015. The allowance for loan losses was $25.7 million and $25.4 million and represented 1.41% of loans, net of undisbursed loan funds and deferred fees and costs, at both March 31, 2016 and December 31, 2015. The provision of $364,000 was offset by charge offs of $434,000 and recoveries of $356,000, resulting in an increase to the overall allowance for loan loss of $286,000 for the first quarter of 2016. In management’s opinion, the overall allowance for loan losses of $25.7 million as of March 31, 2016 is adequate.

Management also assesses the value of real estate owned as of the end of each accounting period and recognizes write-downs to the value of that real estate in the income statement if conditions dictate. In the three month period ended March 31, 2016, First Defiance had write-downs that totaled $53,000 for real estate held for sale. Management believes that the values recorded at March 31, 2016 for real estate owned and repossessed assets represent the realizable value of such assets.

Total classified loans decreased to $42.2 million at March 31, 2016, compared to $49.1 million at December 31, 2015.

First Defiance’s ratio of allowance for loan losses to non-performing loans was 145.0% at March 31, 2016 compared with 156.1% at December 31, 2015. Management monitors collateral values of all loans included on the watch list that are collateral dependent and believes that allowances for those loans at March 31, 2016 are appropriate. Of the $17.7 million in non-accrual loans at March 31, 2016, $10.6 million or 60.0% are less than 90 days past due.

At March 31, 2016, First Defiance had total non-performing assets of $18.8 million, compared to $17.6 million at December 31, 2015. Non-performing assets include loans that are on non-accrual, real estate owned and other assets held for sale. Non-performing assets at March 31, 2016 and December 31, 2015 by category were as follows:

Table 1 – Nonperforming Asset

	March 31,			December 31,
	2016			2015
	(In Thousands)
Non-performing loans:
One to four family residential real estate	$	3,130		$	2,610
Non-residential and multi-family residential real estate		10,344			9,848
Commercial		3,551			3,078
Construction		-			-
Home equity and improvement		673			689
Consumer Finance		9			36
Total non-performing loans		17,707			16,261

Real estate owned		1,111			1,321
Other repossessed assets		-			-
Total repossessed assets	$	1,111			1,321

Total Nonperforming assets	$	18,818		$	17,582

Restructured loans, accruing	$	11,284		$	11,178

Total nonperforming assets as a percentage of total assets		0.80	%		0.77	%
Total nonperforming loans as a percentage of total loans*		0.97	%		0.91	%
Total nonperforming assets as a percentage of total loans plus REO*		1.03	%		0.97	%
Allowance for loan losses as a percent of total nonperforming assets		136.40	%		144.36	%

* Total loans are net of undisbursed loan funds and deferred fees and costs.

The increase in non-performing loans between December 31, 2015 and March 31, 2016 is primarily in residential, commercial and commercial real estate loans. The balances of these types of non-performing loans were each $0.5 million higher, respectively, at March 31, 2016 compared to December 31, 2015.

Non-performing loans in the commercial loan category represented 0.86% of the total loans in that category at March 31, 2016 compared to 0.73% for the same category at December 31, 2015. Non-performing loans in the commercial real estate loan category remained steady at 1.04% of the total loans in those categories at March 31, 2016 and December 31, 2015. Non-performing loans in the residential loan category represented 1.51% of the total loans in that category at March 31, 2016 compared to 1.27% for the same category at December 31, 2015.

Management believes that the current allowance for loan losses is appropriate and that the provision for loan losses recorded in the first quarter of 2016 is consistent with both charge-off experience and the risk inherent in the overall credits in the portfolio.

First Federal’s Asset Review Committee meets monthly to review the status of work-out strategies for all criticized relationships, which include all non-accrual loans. Based on such factors as anticipated collateral values in liquidation scenarios, cash flow projections, assessment of net worth of guarantors and all other factors which may mitigate risk of loss, the Asset Review Committee makes recommendations regarding proposed charge-offs which are approved by the Senior Loan Committee or the Loan Loss Reserve Committee.

The following table details net charge-offs and nonaccrual loans by loan type.

Table 2 – Net Charge-offs and Non-accruals by Loan Type

	For the Three Months Ended March 31, 2016						As of March 31, 2016
	Net
	Charge-offs (Recovery)			% of Total Net Charge-offs			Nonaccrual Loans		% of Total Non- Accrual Loans
	(In Thousands)						(In Thousands)
Residential	$	(31	)		(39.74	)%	$	3,130		17.68	%
Construction		-			0.00	%		-		0.00	%
Commercial real estate		(164	)		(210.26	)%		10,344		58.42	%
Commercial		317			406.41	%		3,551		20.05	%
Consumer		(35	)		(44.87	)%		9		0.05	%
Home equity and improvement		(9	)		(11.54	)%		673		3.80	%
Total	$	78			100.00	%	$	17,707		100.00	%

	For the Three Months Ended March 31, 2015						As of March 31, 2015
	Net
	Charge-offs (Recovery)			% of Total Net Charge-offs			Nonaccrual Loans		% of Total Non- Accrual Loans
	(In Thousands)						(In Thousands)
Residential	$	59			14.18	%	$	3,241		17.33	%
Construction		-			0.00	%		-		0.00	%
Commercial real estate		(442	)		(106.25	)%		11,399		60.95	%
Commercial		(38	)		(9.13	)%		3,513		18.78	%
Consumer		(9	)		(1.92	)%		16		0.09	%
Home equity and improvement		14			3.12	%		534		2.85	%
Total	$	(416	)		100.00	%	$	18,703		100.00	%

Table 3 – Allowance for Loan Loss Activity

	For the Quarter Ended
	1st 2016		4th 2015			3rd 2015			2nd 2015			1st 2015
	(In Thousands)

Allowance at beginning of period	$	25,382	$	25,209		$	25,384		$	25,302		$	24,766
Provision for credit losses		364		43			(27	)		-			120
Charge-offs:
Residential		55		8			185			11			78
Commercial real estate		13		103			64			146			155
Commercial		336		-			43			23			2
Consumer finance		-		32			5			13			3
Home equity and improvement		30		10			110			187			43
Total charge-offs		434		153			407			380			281
Recoveries		356		282			259			462			697
Net charge-offs		78		(129	)		148			(82	)		(416	)
Ending allowance	$	25,668	$	25,382		$	25,209		$	25,384		$	25,302

The following table sets forth information concerning the allocation of First Federal’s allowance for loan losses by loan categories at the dates indicated.

Table 4 – Allowance for Loan Loss Allocation by Loan Category

	March 31, 2016					December 31, 2015					September 30, 2015					June 30, 2015					March 31, 2015
			Percent of					Percent of					Percent of					Percent of					Percent of
			total loans					total loans					total loans					total loans					total loans
	Amount		by category			Amount		by category			Amount		by category			Amount		by category			Amount		by category
	(Dollars In Thousands)
Residential	$	3,109		11.05	%	$	3,212		10.98	%	$	2,779		11.48	%	$	2,877		11.68	%	$	2,483		11.79	%
Construction		489		7.71	%		517		8.76	%		239		7.22	%		308		7.98	%		303		7.25	%
Commercial real estate		13,894		52.37	%		13,923		50.71	%		14,397		51.55	%		14,365		50.40	%		14,238		50.77	%
Commercial		5,820		21.85	%		5,255		22.42	%		5,411		22.51	%		5,567		22.85	%		6,766		22.90	%
Consumer		124		0.83	%		171		0.87	%		158		0.88	%		160		0.85	%		92		0.87	%
Home equity and improvement		2,232		6.19	%		2,304		6.26	%		2,225		6.36	%		2,107		6.24	%		1,420		6.42	%
	$	25,668		100.00	%	$	25,382		100.00	%	$	25,209		100.00	%	$	25,384		100.00	%	$	25,302		100.00	%

Key Asset Quality Ratio Trends

Table 5 – Key Asset Quality Ratio Trends

	1st Qtr 2016			4th Qtr 2015			3rd Qtr 2015			2nd Qtr 2015			1st Qtr 2015
Allowance for loan losses / loans*		1.41	%		1.41	%		1.45	%		1.49	%		1.50	%
Allowance for loan losses to net charge-offs		32907.69	%		-19675.97	%		17033.11	%		-30956.10	%		-6082.21	%
Allowance for loan losses / non-performing assets		136.40	%		144.36	%		116.99	%		114.82	%		100.82	%
Allowance for loan losses / non-performing loans		144.96	%		156.09	%		151.75	%		151.66	%		135.28	%
Non-performing assets / loans plus REO*		1.03	%		0.97	%		1.24	%		1.29	%		1.48	%
Non-performing assets / total assets		0.80	%		0.77	%		0.97	%		1.01	%		1.14	%
Net charge-offs / average loans (annualized)		0.02	%		-0.03	%		0.03	%		-0.02	%		-0.10	%

* Total loans are net of undisbursed funds and deferred fees and costs.

Non-Interest Income.

Total non-interest income increased $355,000 in the first quarter of 2016 to $8.6 million from $8.3 million for the same period in 2015.

Service Fees. Service fees and other charges increased by $115,000 or 4.5% in the first quarter of 2016 compared to the same period in 2015 mainly due to increased deposit accounts and balances.

First Federal’s overdraft privilege program generally provides for the automatic payment of modest overdraft limits on all accounts deemed to be in good standing when the account is accessed using paper-based check processing, a teller withdrawal, a point-of-sale terminal, an ACH transaction, an online banking or voice-response transfer, or an ATM. To be in good standing, an account must be brought to a positive balance within a 30-day period and have not excessively used the overdraft privilege program. Overdraft limits are established for all customers without discrimination using a risk assessment approach for each account classification. The approach includes a systematic review and evaluation of the normal deposit flows made to each account classification to establish reasonable and prudent negative balance limits that would be routinely repaid by normal, expected and reoccurring deposits. The risk assessment by portfolio approach assumes a minimal degree of undetermined credit risk associated with unidentified individual accounts that are overdrawn for 30 or more days. Consumer accounts overdrawn for more than 60 days are automatically charged off. Fees are charged as a one-time fee per occurrence, up to five charges per day, and the fee charged for an item that is paid is equal to the fee charged for a non-sufficient fund item that is returned.

Overdrawn balances, net of allowance for losses, are reflected as loans on First Defiance’s balance sheet. The fees charged for this service are established based both on the return of processing costs plus a profit, and on the level of fees charged by competitors in the Company’s market area for similar services. These fees are considered to be compensation for providing a service to the customer and therefore deemed to be noninterest income rather than interest income. Fee income recorded for the quarters ending March 31, 2016 and 2015 related to the overdraft privilege product, net of adjustments to the allowance for uncollectible overdrafts, were $569,000 and $657,000, respectively. Accounts charged off are included in noninterest expense. The allowance for uncollectible overdrafts was $12,000 at March 31, 2016, $18,000 at December 31, 2015 and $15,000 at March 31, 2015.

Mortgage Banking Activity. Total revenue from the sale and servicing of mortgage loans decreased $236,000 to $1.5 million for the first quarter of 2016 compared to $1.8 million for the same period of 2015 mostly due to lower mortgage volumes in the first quarter 2016. Gains realized from the sale of mortgage loans decreased in the first quarter of 2016 to $1.0 million from $1.3 million in the first quarter of 2015. The amortization of mortgage servicing rights expense decreased $100,000 to $311,000 in the first quarter of 2016 compared to $411,000 in the same period in 2015. The Company recorded a negative valuation adjustment of $21,000 on mortgage servicing rights in the first quarter of 2016 compared to a positive valuation adjustment of $26,000 in the first quarter of 2015.

Insurance Commission Income. Income from the sale of insurance and investment products was $3.1 million in the first quarter of 2016, flat with the first quarter of 2015. First Defiance’s insurance subsidiary, First Insurance, typically recognizes contingent revenues during the first quarter. These revenues are bonuses paid by insurance carriers when the Company achieves certain loss ratios or growth targets. In the first quarter of 2016, First Insurance earned $799,000 of contingent income compared to $967,000 for the first quarter of 2015.

Non-Interest Expense.

Non-interest expense increased to $17.3 million for the first quarter of 2016 compared to $16.9 million for the same period in 2015.

Compensation and Benefits. Compensation and benefits increased to $10.2 million for the quarter ended March 31, 2016 from $8.9 million for the same period in 2015. The increase is mainly attributable to merit increases, staff additions for growth and higher medical insurance costs.

Other Non-Interest Expenses. Other non-interest expenses decreased $725,000 to $2.9 million for the quarter ended March 31, 2016 from $3.6 million for the same period in 2015. The decrease in other non-interest expense is primarily due to write downs of $522,000 relating to real estate owned properties in the first quarter of 2015 compared to only $53,000 in the first quarter of 2016.

The efficiency ratio, considering tax equivalent interest income and excluding securities gains and losses, for the first quarter of 2016 was 61.32% compared to 62.73% for the first quarter of 2015.

Income Taxes.

First Defiance computes federal income tax expense in accordance with ASC Topic 740, Subtopic 942, which resulted in an effective tax rate of 30.59% for the quarter ended March 31, 2016 compared to 30.18% for the same period in 2015. The tax rate is lower than the statutory 35% tax rate for the Company mainly because of investments in tax-exempt securities. The earnings on tax-exempt securities are not subject to federal income tax.

Liquidity

As a regulated financial institution, First Federal is required to maintain appropriate levels of "liquid" assets to meet short-term funding requirements.

First Defiance had $4.8 million of cash provided by operating activities during the first three months of 2016. The Company's cash provided by operating activities resulted from the origination of loans held for sale and net income mostly offset by the proceeds on the sale of loans.

At March 31, 2016, First Federal had $146.8 million in outstanding loan commitments and loans in process to be funded generally within the next six months and an additional $414.2 million committed under existing consumer and commercial lines of credit and standby letters of credit. Also at that date, First Federal had commitments to sell $31.3 million of loans held-for-sale. First Defiance believes that it has adequate resources to fund commitments as they arise and that it can adjust the rate on savings certificates to retain deposits in changing interest rate environments. If First Defiance requires funds beyond its internal funding capabilities, advances from the FHLB of Cincinnati and other financial institutions are available.

Liquidity risk arises from the possibility that the Company may not be able to meet its financial obligations and operating cash needs or may become overly reliant upon external funding sources. In order to manage this risk, the Company’s Board of Directors has established a Liquidity Policy that identifies primary sources of liquidity, establishes procedures for monitoring and measuring liquidity and quantifies minimum liquidity requirements. This policy designates First Federal’s Asset/Liability Committee (“ALCO”) as the body responsible for meeting these objectives. The ALCO reviews liquidity on a monthly basis and approves significant changes in strategies that affect balance sheet or cash flow positions. Liquidity is centrally managed on a daily basis by the Company’s Chief Financial Officer and Controller.

Capital Resources

Capital is managed at First Federal and on a consolidated basis. Capital levels are maintained based on regulatory capital requirements and the economic capital required to support credit, market, liquidity and operational risks inherent in our business, as well as flexibility needed for future growth and new business opportunities.

In July 2013, the federal banking agencies approved the final rules implementing the Basel Committee on Banking Supervision’s capital guidelines for U.S. banks (commonly known as Basel III). Under the final rules, which began for the Company and the Bank on January 1, 2015 and are subject to a phase-in period through January 1, 2019, minimum requirements increased for both quantity and quality of capital held by the Company and the Bank. The rules include a new minimum common equity Tier 1 capital to risk-weighted assets ratio (“CET1”) of 4.5% and a capital conservation buffer of 2.5% of risk-weighted assets, which when fully phased-in, effectively results in a minimum CET1 ratio of 7.0%. Basel III raises the minimum ratio of Tier 1 capital to risk-weighted assets from 4.0% to 6.0% (which, with the capital conservation buffer, effectively results in a minimum Tier 1 capital ratio of 8.5% when fully phased-in), which effectively results in a minimum total capital to risk-weighted assets ratio of 10.5% (with the capital conservation buffer fully phased-in), and requires a minimum leverage ratio of 4.0%. Basel III also makes changes to risk weights for certain assets and off-balance sheet exposures.

The Company met each of the well capitalized ratio guidelines at March 31, 2016. The following table indicates the capital ratios for First Defiance and First Federal at March 31, 2016 and December 31, 2015. (In Thousands):

March 31, 2016
	Actual					Minimum Required for Adequately Capitalized					Minimum Required for Well Capitalized
	Amount		Ratio			Amount		Ratio			Amount		Ratio
CET1 Capital (to Risk-Weighted Assets) (1)
Consolidated	$	217,418		10.57	%	$	92,549		4.5	%		N/A		N/A
First Federal	$	243,116		11.86	%	$	92,197		4.5	%	$	133,173		6.5	%

Tier 1 Capital (1)
Consolidated	$	252,418		11.23	%	$	89,878		4.0	%		N/A		N/A
First Federal	$	243,116		10.84	%	$	89,686		4.0	%	$	112,107		5.0	%

Tier 1 Capital (to Risk Weighted Assets) (1)
Consolidated	$	252,418		12.27	%	$	123,399		6.0	%		N/A		N/A
First Federal	$	243,116		11.86	%	$	122,929		6.0	%	$	163,905		8.0	%

Total Capital (to Risk Weighted Assets) (1)
Consolidated	$	278,086		13.52	%	$	164,531		8.0	%		N/A		N/A
First Federal	$	268,726		13.12	%	$	163,905		8.0	%	$	204,881		10.0	%

(1)

Core capital is computed as a percentage of adjusted total assets of $2.25 billion and $2.24 billion for consolidated and the Bank, respectively. Risk-based capital is computed as a percentage of total risk-weighted assets of $2.06 billion and $2.05 billion for consolidated and the Bank, respectively.

December 31, 2015
	Actual					Minimum Required for Adequately Capitalized					Minimum Required for Well Capitalized
	Amount		Ratio			Amount		Ratio			Amount		Ratio
CET1 Capital (to Risk-Weighted Assets) (1)
Consolidated	$	218,297		10.71	%	$	91,710		4.5	%		N/A		N/A
First Federal	$	236,625		11.61	%	$	91,678		4.5	%	$	132,424		6.5	%

Tier 1 Capital (1)
Consolidated	$	253,297		11.46	%	$	88,424		4.0	%		N/A		N/A
First Federal	$	236,625		10.72	%	$	88,267		4.0	%	$	110,334		5.0	%

Tier 1 Capital (to Risk Weighted Assets) (1)
Consolidated	$	253,297		12.43	%	$	122,280		6.0	%		N/A		N/A
First Federal	$	236,625		11.61	%	$	122,237		6.0	%	$	162,983		8.0	%

Total Capital (to Risk Weighted Assets) (1)
Consolidated	$	278,679		13.67	%	$	163,040		8.0	%		N/A		N/A
First Federal	$	262,007		12.86	%	$	162,983		8.0	%	$	203,729		10.0	%

(1)

Core capital is computed as a percentage of adjusted total assets of $2.21 billion for consolidated and the Bank. Risk-based capital is computed as a percentage of total risk-weighted assets of $2.04 billion for consolidated and the Bank.

Critical Accounting Policies

First Defiance has established various accounting policies which govern the application of accounting principles generally accepted in the United States in the preparation of its financial statements. The significant accounting policies of First Defiance are described in the footnotes to the consolidated financial statements included in the Company’s Annual Report on Form 10-K. Certain accounting policies involve significant judgments and assumptions by management, which have a material impact on the carrying value of certain assets and liabilities; management considers such accounting policies to be critical accounting policies. Those policies which are identified and discussed in detail in the Company’s Annual Report on Form 10-K include the Allowance for Loan Losses, Goodwill, and the Valuation of Mortgage Servicing Rights. There have been no material changes in assumptions or judgments relative to those critical policies during the first three months of 2016.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

As discussed in detail in the Annual Report on Form 10-K for the year ended December 31, 2015, First Defiance’s ability to maximize net income is dependent on management’s ability to plan and control net interest income through management of the pricing and mix of assets and liabilities. Because a large portion of assets and liabilities of First Defiance are monetary in nature, changes in interest rates and monetary or fiscal policy affect its financial condition and can have significant impact on the net income of the Company. First Defiance does not use off-balance sheet derivatives to enhance its risk management, nor does it engage in trading activities beyond the sale of mortgage loans.

First Defiance monitors its exposure to interest rate risk on a monthly basis through simulation analysis that measures the impact changes in interest rates can have on net interest income. The simulation technique analyzes the effect of a presumed 100 basis point shift in interest rates (which is consistent with management’s estimate of the range of potential interest rate fluctuations) and takes into account prepayment speeds on amortizing financial instruments, loan and deposit volumes and rates, non-maturity deposit assumptions and capital requirements.

The table below presents, for the twelve months subsequent to March 31, 2016 and December 31, 2015, an estimate of the change in net interest income that would result from a gradual (ramp) and immediate (shock) change in interest rates, moving in a parallel fashion over the entire yield curve, relative to the measured base case scenario. Based on our net interest income simulation as of March 31, 2016, net interest income sensitivity to changes in interest rates for the twelve months subsequent to March 31, 2016 was mainly neutral to a slight asset sensitive position for the ramp and shock compared to the sensitivity profile for the twelve months subsequent to December 31, 2015. This is due in part to our strategy to grow longer term loans and fund that growth out of existing liquidity.

Net Interest Income Sensitivity Profile
	Impact on Future Annual Net Interest Income
(dollars in thousands)	March 31, 2016					December 31, 2015
Gradual Change in Interest Rates
+200	$	997		1.27	%	$	563		0.71	%
+100		484		0.62	%		215		0.27	%
-100		(1,674	)	-2.13	%		(1,332	)	-1.68	%

Immediate Change in Interest Rates
+200	$	2,421		3.08	%	$	1,660		2.09	%
+100		1,174		1.49	%		719		0.91	%
-100		(2,914	)	-3.74	%		(2,605	)	-3.28	%

To analyze the impact of changes in interest rates in a more realistic manner, non-parallel interest rate scenarios are also simulated. These non-parallel interest rate scenarios indicate that net interest income may decrease from the base case scenario should the yield curve flatten or become inverted for a period of time. Conversely, if the yield curve should steepen, net interest income may increase.

The results of all the simulation scenarios are within the board mandated guidelines as of March 31, 2016.

In addition to the simulation analysis, First Defiance also uses an economic value of equity (“EVE”) analysis to measure risk in the balance sheet incorporating all cash flows over the estimated remaining life of all balance sheet positions. The EVE analysis generally calculates the net present value of First Federal’s assets and liabilities in rate shock environments that range from -400 basis points to +400 basis points. However, the likelihood of a decrease in rates beyond 100 basis points as of March 31, 2016 was considered to be remote given the current interest rate environment and, therefore, was not included in this analysis. The results of this analysis are reflected in the following tables for the three months ended March 31, 2016 and the year-ended December 31, 2015.

March 31, 2016
Economic Value of Equity
Change in Rates	$ Amount		$ Change			% Change
	(Dollars in Thousands)
+400 bp		506,351		71,365			16.41	%
+ 300 bp		492,960		57,974			13.33	%
+ 200 bp		477,559		42,573			9.79	%
+ 100 bp		458,860		23,874			5.49	%
0 bp		434,986		-			-
- 100 bp		403,661		(31,325	)		(7.20	)%

December 31, 2015
Economic Value of Equity
Change in Rates	$ Amount		$ Change			% Change
	(Dollars in Thousands)
+400 bp		509,640		56,545			12.48	%
+ 300 bp		499,038		45,946			10.14	%
+ 200 bp		486,652		33,558			7.41	%
+ 100 bp		471,332		18,237			4.03	%
0 bp		453,095		-			-
- 100 bp		426,010		(27,085	)		(5.98	)%

Item 4. Controls and Procedures

Disclosure controls are procedures designed to ensure that information required to be disclosed in the Company's reports filed under the Exchange Act, such as this report, is recorded, processed, summarized, and reported within the time periods specified in the SEC's rules and forms. Disclosure controls are also designed to ensure that such information is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable, not absolute, assurance of achieving the desired control objectives, as ours are designed to do, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

An evaluation was carried out under the supervision and with the participation of the Company's management, including the Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934) as of March 31, 2016. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective.

No changes occurred in the Company’s internal controls over financial reporting during the quarter ended March 31, 2016 that materially affected, or are reasonably likely to materially affect, the internal controls over financial reporting.

FIRST DEFIANCE FINANCIAL CORP.

PART II-OTHER INFORMATION

Item 1. Legal Proceedings

Neither First Defiance nor any of its subsidiaries is engaged in any legal proceedings of a material nature.

Item 1A. Risk Factors

There are no material changes from the risk factors set forth under Part I, Item 1A. “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

The following table provides information regarding First Defiance’s purchases of its common stock during the three-month period ended March 31, 2016:

Period	Total Number of Shares Purchased		Average Price Paid Per Share		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1)		Maximum Number of Shares (or Approximate Dollar Value) that May Yet Be Purchased Under the Plans or Programs
Beginning Balance, December 31, 2015								95,246
January 1 – January 31, 2016		95,246	$	37.38		95,246		-
February 1 – February 29, 2016		72,500		37.69		72,500		377,500
March 1 – March 31, 2016		-		-		-		377,500
Total		167,746	$	37,51		167,746		377,500

(1)

The reported shares were repurchased pursuant to two publicly announced stock repurchase programs. The first was announced and became effective on October 20, 2014. Under this program, up to 469,000 shares were authorized to be purchased. During January 2016, the Company completed all 469,000 share repurchases that were authorized. On January 29, 2016, the Company announced that its Board of Directors authorized another program for the repurchase of up to 5% or 450,000 shares. There is no expiration date for the new repurchase program.

Item 3. Defaults upon Senior Securities

Not applicable.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

Not applicable.

Item 6. Exhibits

	Exhibit 3.1	Articles of Incorporation of First Defiance (1)
	Exhibit 3.2	Code of Regulations of First Defiance (1)
	Exhibit 3.3	Certificate of Amendment to the Articles of Incorporation of First Defiance (2)
	Exhibit 31.1	Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
	Exhibit 31.2	Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
	Exhibit 32.1	Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
	Exhibit 32.2	Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
	Exhibit 101	The following financial information from the Registrant's Quarterly Report on Form 10-Q for the quarter ended March 31, 2016 is formatted in eXtensible Business Reporting Language (“XBRL”): (i) Unaudited Consolidated Condensed Statements of Financial Condition at March 31, 2016 and December 31, 2015, (ii) Unaudited Consolidated Condensed Statements of Income for the Three Months ended March 31, 2016 and 2015 (iii) Unaudited Consolidated Condensed Statements of Comprehensive Income for the Three Months ended March 31, 2016 and 2015, (iv) Unaudited Consolidated Condensed Statements of Changes in Stockholders’ Equity for the Three Months ended March 31, 2016 and 2015, (v) Unaudited Consolidated Condensed Statements of Cash Flows for the Three Months ended March 31, 2016 and 2015 and (vi) Notes to Unaudited Consolidated Condensed Financial Statements.

(1)	Incorporated herein by reference to the like numbered exhibit in the Registrant’s Form S-1 (File No. 33-93354), filed on June 9, 1995.
(2)	Incorporated herein by reference to exhibit 3 in Form 8-K filed on December 8, 2008 (Film No. 081236105).

FIRST DEFIANCE FINANCIAL CORP.

SIGNATURES

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

	First Defiance Financial Corp.
	(Registrant)

Date: May 6, 2016	By:	/s/ Donald P. Hileman
		Donald P. Hileman
		President and
		Chief Executive Officer

Date: May 6, 2016	By:	/s/ Kevin T. Thompson
		Kevin T. Thompson
		Executive Vice President and
		Chief Financial Officer

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