UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

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

For the quarterly period ended March 31, 2005

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

For the transition period from _______ to __________

Commission File Number: 000-49929

ACCESS NATIONAL CORPORATION

1800 Robert Fulton Drive, Suite 310, Reston, Virginia 20191

(703) 871-2100

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 þ No o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

The number of shares outstanding of Access National Corporation’s common stock, par value $1.67, as of May 5, 2005 was 3,959,324 shares.

Table of Contents

ACCESS NATIONAL CORPORATION
FORM 10-Q

INDEX

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PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

ACCESS NATIONAL CORPORATION
CONSOLIDATED BALANCE SHEETS
(In Thousands, Except for Share Data)

See accompanying notes to consolidated financial statements (Unaudited)

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ACCESS NATIONAL CORPORATION
Consolidated Statements of Income
(In Thousands, Except for Share Data)
(unaudited)

See accompanying notes to consolidated financial statements (Unaudited)

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ACCESS NATIONAL CORPORATION
STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY
For the Three Months Ended March 31, 2005 and 2004
(In Thousands)
(Unaudited)

See accompanying notes to consolidated financial statements (Unaudited)

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ACCESS NATIONAL CORPORATION
Consolidated Statements of Cash Flows
(unaudited)

See accompanying notes to consolidated financial statements (Unaudited)

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

NOTE 1 – COMMENCEMENT OF OPERATIONS

Access National Corporation (the “Corporation”) is a bank holding company incorporated under the laws of the Commonwealth of Virginia. The Corporation has three wholly owned subsidiaries, Access National Bank (the “Bank”), which is an independent commercial bank chartered under federal laws as a national banking association, Access Capital Trust I, and Access Capital Trust II. The Corporation does not have any significant operations and serves primarily as the parent company for the Bank. The Corporation has a strong capital base that can be used to engage in bank related businesses as provided under the Bank Holding Company Act of 1956, as amended or down streamed to the Bank to support continued growth.

The Corporation acquired all of the outstanding stock of the Bank in a statutory exchange transaction on June 15, 2002, pursuant to an Agreement and Plan of Reorganization between the Corporation and the Bank.

Access National Bank opened for business on December 1, 1999 and has four wholly-owned subsidiaries: Access National Mortgage Corporation (the “Mortgage Corporation”) and United First Mortgage Corporation (“UFM”), both Virginia corporations engaged in mortgage banking activities, Access National Leasing Corporation, a Virginia corporation engaged in commercial and industrial leasing services, and Access Real Estate LLC. Access National Leasing was acquired in exchange for 7,500 shares of Access National Bank stock in the second quarter of 2002. The 7,500 shares were subsequently repurchased in 2003. The leasing subsidiary presently has no employees and its affairs are managed as a part of the bank’s commercial lending department. Access Real Estate LLC is a limited liability corporation established in July, 2003 for the purpose of holding title to the Corporation’s headquarters building, located at 1800 Robert Fulton Drive, Reston, Virginia.

The Corporation formed Access Capital Trust I and Access Capital Trust II in 2002 and 2003 respectively for the purpose of issuing redeemable capital securities. On July 30, 2002 Access Capital Trust I, issued $4 million of trust preferred securities and on September 30, 2003, Access Capital Trust II issued $6 million of trust preferred securities. Trust preferred securities may be included in Tier 1 capital in an amount equal to 25% of Tier 1 capital and amounts in excess of 25% are includable as Tier 2 capital. As guarantor, the Corporation unconditionally guarantees payment of all distributions required to be paid on the Trust Preferred Securities.

In August 2004, Access National Bank acquired all of the common stock of UFM. The acquisition of UFM, gave the company a new location in the Richmond, Virginia market plus entry into the Fredericksburg and Staunton markets. The new locations became branch offices of the Access National Mortgage Corporation.

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

NOTE 2 – BASIS OF PRESENTATION

The accompanying unaudited interim consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with rules and regulations of the Securities and Exchange Commission. The statements do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. All adjustments have been made, which, in the opinion of management, are necessary for a fair presentation of the results for the interim periods presented. Such adjustments are all of a normal and recurring nature. All significant inter-company accounts and transactions have been eliminated in consolidation. Certain prior period amounts have been reclassified to conform to the current period presentation. The results of operations for the three months ended March 31, 2005 are not necessarily indicative of the results that may be expected for the entire year ending December 31, 2005. These consolidated financial statements should be read in conjunction with the Corporation’s audited financial statements and the notes thereto as of December 31, 2004, included in the Corporation’s Annual Report for the fiscal year ended December 31, 2004.

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

NOTE 3 – STOCK BASED COMPENSATION PLANS

Stock-Based Compensation Plans - The Corporation applies Accounting Principles Bulletin (APB) Opinion 25, Accounting for Stock Issued to Employees, and related Interpretations to account for employee stock compensation plans, and accordingly, does not recognize compensation expense for stock options granted when the option price is greater than or equal to the underlying stock price on the date of grant. The Corporation presents the pro forma disclosures required by SFAS 123, Accounting for Stock-Based Compensation, and as amended by SFAS 148, as follows:

     STOCK BASED COMPENSATION PLANS

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

NOTE 4 — SECURITIES

Amortized costs and fair values of securities available for sale as of March 31, 2005 and December 31, 2004 are as follows:

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

The amortized cost and fair value of securities available for sale as of March 31, 2005 and December 31, 2004 by contractual maturity are shown below. Expected maturities may differ from contractual maturities because the securities may be called or prepaid without any penalties.

NOTE 5 – LOANS

The following table presents the composition of the loan portfolio at March 31, 2005 and December 31, 2004.

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

NOTE 6 – SEGMENT REPORTING

Access National Corporation has two reportable segments: traditional commercial banking and a mortgage banking business. Revenues from commercial banking operations consist primarily of interest earned on loans and investment securities and fees from deposit services. Mortgage banking operating revenues consist principally of interest earned on mortgage loans held for sale, gains on sales of loans in the secondary mortgage market and loan origination fee income.

The commercial bank segment provides the mortgage segment with the short term funds needed to originate mortgage loans through a warehouse line of credit and charges the mortgage banking segment interest based on a premium over their cost to borrow funds. These transactions are eliminated in the consolidation process.

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

The following table presents segment information for the three months ended March 31, 2005 and 2004:

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

NOTE 7 – EARNINGS PER SHARE (EPS):

The following tables show the calculation of both Basic and Diluted earnings per share for the three months ended March 31, 2005 and 2004 respectively. The numerator of both the Basic and Diluted EPS is equivalent to net income. The weighted average number of shares outstanding used in the denominator for Diluted EPS is increased over the denominator used for Basic EPS by the effect of potentially dilutive common stock options and warrants utilizing the treasury stock method.

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

NOTE 8. OTHER EXPENSES

The Corporation had the following other expenses for the three months ended March 31, 2005 and 2004.

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

NOTE 9. DERIVATIVES

Access National Mortgage Corporation carries all derivative instruments at fair value as either assets or liabilities in the consolidated balance sheets. Statement of Financial Accounting Standards No. 133, “Accounting for Derivative Instruments and Hedging Activities” as amended (“Statement 133”), provides specific accounting provisions for derivative instruments that qualify for hedge accounting. The Mortgage Corporation has not elected to apply hedge accounting to its derivative instruments as provided in Statement 133.

The Mortgage Corporation enters into interest rate lock commitments, which are commitments to originate loans whereby the interest rate on the loan is determined prior to funding and the customers have locked into that interest rate. The Mortgage Corporation also has corresponding forward sales commitments related to these interest rate lock commitments, which are recorded at fair value with changes in fair value recorded in non-interest income. The market value of rate lock commitments and best efforts contracts is not readily ascertainable with precision because rate lock commitments and best efforts contracts are not actively traded in stand-alone markets. The Mortgage Corporation determines the fair value of rate lock commitments and best efforts contracts by measuring the change in the value of the underlying asset while taking into consideration the probability that the rate lock commitments will close.

For derivative instruments not designated as hedging instruments, the derivative is recorded as a freestanding asset or liability with the change in value being recognized in current earnings during the period of change.

At March 31, 2005 and December 31, 2004 the Mortgage Corporation had open forward contracts of $54,250,000 and $26,000,000, respectively.

The net effect on the Corporation’s income statement from marking to market the forward contracts, the interest rate lock commitments and mortgage loans held for sale was not material to the Corporation.

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ACCESS NATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

Risk management results related to the undesignated hedging of interest rate lock commitments with undesignated forward loan sale commitments are summarized below and are included in other income:

NOTE 10 – RECENT ACCOUNTING PRONOUNCEMENTS

On March 9, 2004, the Securities and Exchange Commission (“SEC”) issued Staff Accounting Bulletin (“SAB”) No. 105, Application of Accounting Principles to Loan Commitments. SAB No. 105 requires that when a company is recognizing and valuing a loan commitment at fair value, only differences between the guaranteed interest rate in the loan commitment and a market interest rate should be included. Any expected future cash flows related to the customer relationships or loan servicing should be excluded from the fair value measurement. The expected future cash flows that are excluded from the fair value determination include anticipated fees for servicing the funded loan, late-payment charges, other ancillary fees, or other cash flows from servicing rights. The guidance in SAB No. 105 is effective for mortgage loan commitments that are accounted for as derivatives and are entered into after March 31, 2004. The adoption of this standard did not have an impact on the financial condition or the results of operations of the Company.

On December 15, 2004, the FASB issued SFAS 123R, Share-Based Payments. SFAS 123R requires that the cost resulting from all share-based payment transactions be recognized in the financial statements. This Statement establishes the fair value method for measurement and requires all entities to apply this fair value method in accounting for share-based payment transactions. The provisions of the SFAS 123R were effective for all share-based awards granted after July 1, 2005 and to share-based awards modified, repurchased, or cancelled after that date. However, on April 14, 2005, the SEC issued release number 33-8568 which delays the effective date of SFAS 123R an additional six months, requiring that companies adopt the provisions of SFAS 123R for annual periods beginning after June 15, 2005. Management does not believe the results of the adoption of this standard will differ materially from the pro-forma disclosures.

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

The following discussion and analysis is intended to provide an overview of the significant factors affecting the financial condition and the results of operations of Access National Corporation and subsidiary (the “Corporation”) for the three months ended March 31, 2005 and 2004. The consolidated financial statements and accompanying notes should be read in conjunction with this discussion and analysis.

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

In addition to historical information, this Quarterly Report on Form 10-Q may contain forward-looking statements. For this purpose, any statements contained herein, including documents incorporated by reference, that are not statements of historical fact may be deemed to be forward-looking statements. Examples of forward-looking statements include discussions as to our expectations, beliefs, plans, goals, objectives and future financial or other performance or assumptions concerning matters discussed in this document. Forward-looking statements often use words such as “believes,” “expects,” “plans,” “may,” “will,” “should,” “projects,” “contemplates,” “ anticipates,” “forecasts,” “intends” or other words of similar meaning. You can also identify them by the fact that they do not relate strictly to historical or current facts. Forward-looking statements are subject to numerous assumptions, risks and uncertainties, and actual results could differ materially from historical results or those anticipated by such statements. Factors that could have a material adverse effect on the operations and future prospects of the Corporation include, but are not limited to, changes in: interest rates, general economic conditions, monetary and fiscal policies of the U.S. Government, including policies of the Office of the Comptroller of the Currency, U.S. Treasury and the FRB, the economy of Northern Virginia, including governmental spending and real estate markets, the quality or composition of the loan or investment portfolios, demand for loan products, deposit flows, competition, and accounting principles, policies and guidelines. These risks and uncertainties should be considered in evaluating the forward-looking statements contained herein, and readers are cautioned not to place undue reliance on such statements. Any forward-looking statement speaks only as of the date on which it is made, and we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which it is made.

CRITICAL ACCOUNTING POLICIES

General

The Corporation’s financial statements are prepared in accordance with accounting principles generally accepted in the United States (GAAP). The financial information contained within our statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained either when earning income, recognizing an expense, recovering an asset or relieving a liability. Actual losses could differ significantly from the historical factors that we monitor. Additionally, GAAP itself may change from one previously acceptable method to another method. Although the economics of our transactions would be the same, the timing of events that would impact our transactions could change.

Allowance for Loan Losses

The allowance for loan losses is an estimate of the losses that may be sustained in our loan portfolio. The allowance is based on two basic principals of accounting: (i) SFAS 5 Accounting for Contingencies, which requires that losses be accrued when they are probable of occurring and estimatable and (ii) SFAS 114, Accounting by Creditors for Impairment of a Loan, which requires that losses be accrued based on the differences between the value of collateral, present value of future cash flows or values that are observable in the secondary market and the loan balance.

An allowance for loan losses is established through a provision for loan losses based upon industry standards, known risk characteristics, management’s evaluation of the risk inherent in the loan portfolio and changes in the nature and volume of loan activity. Such evaluation considers among other factors, the estimated market value of the underlying collateral, and current economic conditions. . For further information about our practices with respect to allowance for loan losses, please see the subsection “Loans” below.

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Derivative Financial Instruments – Access National Mortgage Corporation carries all derivative instruments at fair value as either assets or liabilities in the consolidated balance sheets. Statement of Financial Accounting Standards No. 133, “Accounting for Derivative Instruments and Hedging Activities” as amended (“Statement 133”), provides specific accounting provisions for derivative instruments that qualify for hedge accounting. The Mortgage Corporation has not elected to apply hedge accounting to its derivative instruments as provided in Statement 133.

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FINANCIAL CONDITION (March 31, 2005 compared to December 31, 2004)

The Corporation’s assets totaled $447.3 million at March 31, 2005, an increase of $27.2 million from year end 2004. The Corporation continues to experience strong growth in assets. Net loans held for investment, originated by the Bank, increased $5.7 million over year end. Loans held for sale totaled $48.8 million, up $12.6 million from December 31, 2004. The mortgage market improved during the first quarter of 2005 due to a seasonal decline in activity that occurs in the fourth quarter. Mortgage loan originations totaled $177.9 million in the fourth quarter of 2004 compared to $192.3 million in the first quarter of 2005. Management employs a strategy of attracting highly qualified professional lenders to support future growth in the Loans Held For Investment. The future balances in the Loans Held for Sale category will continue to experience volatility due to fluctuations of interest rates. The balances of this short term investment fluctuate daily as necessary to support loan origination and secondary market sales activities. Management does not view the Loan Held for Sale balance as a meaningful indicator of performance.

Asset growth during the period was supported by deposit growth. Total Deposits increased $49.2 million from $317.4 million at December 31, 2004 to $366.6 million on March 31, 2005. Short term borrowings decreased by $21.9 million during the first quarter of 2005, as the Corporation continues to fund asset growth with increased core deposits. Management expects the expanding commercial lending staff and new banking centers to support future deposit growth necessary to fund loan growth. Management expects continued utilization of wholesale Certificates of Deposits and other borrowings as necessary to fund the Loans Held for Sale activity and growth in financial investments.

Securities

The Corporation’s securities portfolio is comprised of U.S. Treasury securities, U.S. Government Agency securities, mortgage backed securities, Federal Reserve and Federal Home Loan Bank stock. At March 31, 2005 the securities portfolio totaled $56.7 million, up from $51.4 million on December 31, 2004. All securities were classified as available for sale. Securities classified as available for sale are accounted for at fair market value with unrealized gains and losses recorded directly to a separate component of stockholders’ equity, net of associated tax effect. The Corporation’s securities classified as available for sale had an unrealized loss net of deferred taxes of $478 thousand on March 31, 2005.

Loans

The loans held for investment portfolio constitutes the largest component of earning assets and is comprised of commercial loans, real estate loans, construction loans, and consumer loans. These lending activities provide access to credit to small businesses, professionals and consumers in the greater Washington, D.C. metropolitan area. All lending activities of Access National Bank (the Bank), Access National Mortgage Corporation (the Mortgage Corporation) and Access National Leasing Corporation (the Leasing Corporation) are subject to the regulations and supervision of the Office of the Comptroller of Currency.

At March 31, 2005, loans held for investment increased by $5.9 million from December 31, 2004 and totaled $298 million. The increase is a result of expansion of the Bank’s loan officer staffing, and increased name recognition and acceptance of the Bank’s products and services within the marketplace. Management intends to continue to increase loan officer staffing and support in order to facilitate continued growth in the portfolio. The following is a summary of the Loan Portfolio Held for Investment at March 31, 2005.

Commercial Loans: Commercial Loans represent 14.2% of our held for investment portfolio. These loans are to businesses or individuals within our target market for business purposes. Typically the loan proceeds are used to support working capital and the acquisition of fixed assets of an operating business. These loans are underwritten based upon our assessment of the obligor(s)’ ability to generate operating cash flow in the future necessary to repay the loan. To address the risks associated with the uncertainties of future cash flow, these loans are generally well secured by assets owned by the business or its principal shareholders and the principal shareholders are typically required to guarantee the loan.

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Real Estate Construction Loans: Real Estate Construction Loans, also known as construction and land development loans, comprise 11.2% of our held for investment loan portfolio. These loans generally fall into one of three circumstances: first, loans to individuals that are ultimately used to acquire property and construct an owner occupied residence; second, loans to builders for the purpose of acquiring property and constructing homes for sale to consumers; and third, loans to developers for the purpose of acquiring land that is developed into finished lots for the ultimate construction of residential or commercial buildings. Loans of these types are generally secured by the subject property within limits established by the Board of

Directors based upon an assessment of market conditions and up-dated from time to time. The loans typically carry recourse to principal owners. In addition to the repayment risk associated with loans to individuals and businesses, loans in this category carry construction completion risk. To address this additional risk, loans of this type are subject to additional administration procedures designed to verify and ensure progress of the project in accordance with allocated funding, project specifications and time frames.

Commercial Real Estate Loans: Also known as “Commercial Mortgages”, loans in this category represent 34.5% of our loan portfolio held for investment. These loans generally fall into one of three situations in order of magnitude: first, loans supporting an owner occupied commercial property; second, properties used by non-profit organizations such as churches or schools where repayment is dependent upon the cash flow of the non-profit organizations; and third, loans supporting a commercial property leased to third parties for investment. Commercial Real Estate Loans are secured by the subject property and underwritten to policy standards. Policy standards approved by the Board of Directors from time to time set forth, among other considerations, loan to value limits, cash flow coverage ratios, and the general creditworthiness of the obligors.

Residential Real Estate Loans: This category includes loans secured by first or second mortgages on one to four family residential properties and represent 31.2% of the portfolio. Of this amount, the following sub-categories exist as a percentage of the whole Residential Real Estate Loan portfolio: Home Equity Lines of Credit 19.7%; First Trust Mortgage Loans 76.3%; Loans Secured by a Junior Trust 1.3%; Multi-family loans and loans secured by Farmland 2.7%.

Loans in the Residential Real Estate portfolio are underwritten to standards within a traditional consumer framework that is periodically reviewed and up-dated by our management and Board of Directors: repayment source and capacity, value of the underlying property, credit history, savings pattern and stability.

Home Equity Loans: These loans are extended to borrowers in our target market and constitute 7.6% of the loan portfolio held for investment. Real estate equity is the largest component of consumer wealth in our marketplace. Once approved, this consumer finance tool allows the borrower to access the equity in their home or investment property and use the proceeds for virtually any purpose. Home Equity Loans are most frequently secured by a second lien on residential property. 1-4 Family Residential First Trust Loan, or “First Mortgage Loan,” proceeds are used to acquire or refinance the primary financing on owner occupied and residential investment properties. Junior Trust Loans, or “Loans Secured by a Second Trust Loans,” are to consumers wherein the proceeds have been used for a stated consumer purpose. Examples of consumer purposes are education, refinancing debt, or purchasing consumer goods. The loans are generally extended in a single disbursement and repaid over a specified period of time.

Consumer Loans: Consumer Loans make up less than 0.5% of our loan portfolio. Most loans are well secured with assets other than real estate, such as marketable securities or automobiles. Very few loans are unsecured. As a matter of operation, management discourages unsecured lending. Loans in this category are underwritten to standards within a traditional consumer framework that is periodically reviewed and up-dated by our management and Board of Directors: repayment capacity, collateral value, savings pattern, credit history and stability.

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The following table summarizes the Corporation’s loan portfolio as of March 31, 2005

Loans Held for Sale (LHFS) Loans Held for Sale are originated by Access National Mortgage Corporation, a wholly owned subsidiary of Access National Bank. Loans of these types are residential mortgage loans extended to consumers underwritten in accordance with standards set forth by an institutional investor to whom we expect to sell the loan for a profit. Loan proceeds are used for the purchase or refinance of the property securing the loan. Loans are sold with the servicing released to the investor.

The LHFS loans are closed in our name and carried on our books until the loan is delivered to and purchased by an investor. In the three month period ending March 31, 2005 we originated $192.3 million of loans processed in this manner. Repayment risk of this activity is minimal since the loans are on the books for a short time period. Loans are sold without recourse and subject to industry standard representations and warranties. The risks associated with this activity center around borrower fraud and failure of our investors to purchase the loans. These risks are addressed by the on-going maintenance of an extensive quality control program, an internal audit and verification program, and a selective approval process for investors. To date we have been able to absorb the financial impact of these risks without material impact on our operating performance. At March 31, 2005 loans held for sale totaled $48.8 million compared to $36.2 million at year end 2004. The increase in loans held for sale at is due to the increase in loan originations.

Brokered Loans

Brokered loans are underwritten and closed by a third party lender. We are paid a fee for procuring and packaging brokered loans. For first quarter of 2005, we originated a total volume of $41.7 million in residential mortgage loans under these types of delivery methods compared to $182 million for year end 2004. Brokered loans accounted for 27.5% of the total loan volume of Access National Mortgage Corporation.

Allowance for Loan Losses

For the three month period ended March 31, 2005, the allowance for loan loss was $4.1 million, compared to $4.0 million at year end 2004. Although actual loan losses have been insignificant, our senior credit management, with over 60 years in collective experience in managing similar portfolios in our marketplace, concluded the amount of our reserve and the methodology applied to arrive at the amount of the reserve is justified and appropriate due to the lack of seasoning of the portfolio, the relatively large dollar amount of a relatively small number of loans, portfolio growth, staffing changes and trend analysis. Outside of our own analysis, our reserve adequacy and methodology are reviewed on a regular basis by, internal audit program, and bank regulators and such reviews have not resulted in any material adjustment to the reserve.

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The Bank does not have a meaningful history of charge offs with which to establish trends in loan losses by loan classifications. As of March 31, 2005 the total net charge offs for the five years of operation was less than $19 thousand. The overall allowance for loan losses is equivalent to approximately 1.38% of total loans held for investment. The methodology as to how the allowance was derived is a combination of specific allocations and percentages allocation of the unallocated portion of the allowance for loan losses, as discussed below. The Bank has developed a comprehensive risk weighting system based on individual loan characteristics that enables the Bank to allocate the composition of the allowance for loan losses by types of loans.

The allowance for loan losses increased by $114 thousand during the first three months of 2005 or approximately 2.8% over year end 2004. The allowance for loan losses at March 31, 2005 was 1.38% of total loans held for investment compared to 1.37% at year end 2004. The allowance for Commercial loans as a percent of the total Commercial loans amounted to 3.3%, compared to 3.0% at year end 2004. The allowance for Commercial Real Estate loans was 1.2% of total Commercial Real Estate loans as of March 31, 2005 compared to 1.3% at year end 2004. The allowance for Residential Real Estate loans remained unchanged and was 0.8% as a percent of total Residential Real Estate loans at March 31, 2005 and December 31, 2004. Net charge offs from inception through March 31, 2005 have totaled less than $19 thousand. Since the bank does not have a meaningful charge off experience, changes in the composition of the allowance for loan losses are due to volume and changes in individual risk ratings on new loans.

The loss risk of each loan within a particular classification, however, is not the same. The methodology for arriving at the allowance is not dictated by loan classification. The methodology as to how the allowance was derived is detailed below. Unallocated amounts included in the allowance for loan losses have been applied to the loan classifications on a percentage basis.

Adequacy of the reserve is assessed, and appropriate expense and charge offs are taken, no less frequently than at the close of each fiscal quarter end. The methodology by which we systematically determine the amount of our reserve is set forth by the Board of Directors in our Credit Policy. Under this Policy, our Chief Credit Officer is charged with ensuring that each loan is individually evaluated and the portfolio characteristics are evaluated to arrive at an appropriate aggregate reserve. The results of the analysis are documented, reviewed and approved by the Board of Directors no less than quarterly. The following elements are considered in this analysis: loss estimates on specific problem credits (the “Specific Reserve”) , individual loan risk ratings, lending staff changes, loan review and board oversight, loan policies and procedures, portfolio trends with respect to volume, delinquency, composition/concentrations of credit, risk rating migration, levels of classified credit, off-balance sheet credit exposure, any other factors considered relevant from time to time (the “General Reserve”) and, finally, an “Unallocated Reserve” to cover any unforeseen factors not considered above in the appropriate magnitude. Each of the reserve components, General, Specific and Unallocated are discussed in further detail below.

With respect to the General Reserve, all loans are graded or “Risk Rated” individually for loss potential at the time of origination and as warranted thereafter, but no less frequently than quarterly. Loss potential factors are applied based upon a blend of the following criteria: our own direct experience at this bank; our collective management experience in administering similar loan portfolios in the market for over 60 years; and peer data contained in statistical releases issued by both the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation. Although looking only at peer data and the bank’s historically low write-offs would suggest a lower loan loss allowance, our management’s experience with similar portfolios in the same market combined with the fact that our portfolio is relatively unseasoned, justify a conservative approach in contemplating external statistical resources. Accordingly, management’s collective experience at this bank and other banks is the most heavily weighted criterion, and the weighting is subjective and varies by loan type, amount, collateral, structure, and repayment terms. Prevailing economic condition generally and within each individual borrower’s business sector are considered, as well as any changes in the borrower’s own financial position and, in the case of commercial loans, management structure and business operations. As of March 31, 2005 our evaluation of these factors supported approximately 85.4% of the total loss reserve. As our portfolio ages and we gain more direct experience, the direct experience will weigh more heavily in our evaluation.

When deterioration develops in an individual credit, the loan is placed on a “Watch List” and the loan is monitored more closely. All loans on the watch list are evaluated for specific loss potential based upon either an evaluation of the liquidated value of the collateral or cash flow deficiencies. If management believes that, with respect to a specific loan, an impaired

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source of repayment, collateral impairment or a change in a debtor’s financial condition presents a heightened risk of non-performance of a particular loan, a portion of the reserve may be specifically allocated to that individual loan. The aggregation of this loan by loan loss analysis comprises the “Specific Reserve” and accounted for approximately 20.3% of the total loss reserve. For the first quarter of 2005, this Specific Reserve relates to three loans totaling $1.7 million as of March 31, 2005 that were assigned additional reserves based on an evaluation of the established primary and secondary sources of repayment, which suggested a potential degradation in those sources of repayment.

The Unallocated Reserve is maintained to absorb risk factors outside of the General and Specific Allocations. Maximum and minimum target limits are established by us on a quarterly basis for the Unallocated Reserve. As of March 31, 2005 the threshold range for this component was 0.02% to 0.75% of the total loan portfolio and accounted for approximately 14.6% of the total loss reserve.

An analysis of the Corporation’s allowance for loan losses as of and for the period indicated is set forth in the following tables:

Allowance for Loan Losses
(In Thousands)

Allocation of the Allowance for Loan Losses

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Nonperforming Loans And Past Due

At March 31, 2005 there were two loans in non accrual status totaling $1.6 million. Non accrual loans are carefully monitored and specific reserves established as necessary to ensure any estimated loss can be absorbed by the designated reserve. Approximately $811 thousand of the loss reserve was dedicated as specific reserve to these non-performing loans. In management’s estimate the specific reserve for these loans will be adequate to absorb reasonably foreseeable losses. Management actively works with the borrowers to maximize potential for repayment and reports on the status of the same to the Board of Directors, no less than on a monthly basis.

Deposits

Deposits are the primary source of funding loan growth. At March 31, 2005 deposits totaled $366.6 million compared to $317.4 million on December 31, 2004, an increase of $49.2 million. Of this increase, Non-Interest Bearing accounts increased $10.5 million, Savings and Money Market accounts increased $36.4 million and Time Deposits increased $2.3 million. The increase is largely a result of an aggressive advertising promotion and new relationships brought in by our commercial lending staff. Additionally, the Bank markets its deposit products on our web page and various other internet web pages. The Bank opened two banking offices in 2004 that are also contributing to the growth in deposits.

Shareholders’ Equity

Shareholders’ equity was $26.6 million at March 31, 2005. A strong capital position is vital to the continued profitability of the Corporation. It also promotes depositor and investor confidence and provides a solid foundation for the future growth of the organization. Shareholder’s equity increased by $572 thousand during the three months ended March 31, 2005. The increase is due to the full retention of $1.0 million in earnings. Other comprehensive income (loss) representing unrealized losses on available for sale securities was $478 thousand.

Banking regulators have defined minimum regulatory capital ratios that the Corporation and the Bank are required to maintain. These risk based capital guidelines take into consideration risk factors, as defined by the banking regulators, associated with various categories of assets, both on and off the balance sheet. Both the Corporation and Bank are classified as Well Capitalized, which is the highest rating. The following Risk Based Capital Analysis table outlines the regulatory components of capital and risk based capital ratios.

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Risk Based Capital Analysis

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RESULTS OF OPERATIONS (MARCH 31, 2005)

Summary

Pretax income for the three months ended March 31, 2005 was $1.6 million compared to $870 thousand for the corresponding period of 2004. Net income after taxes for the three months ended March 31, 2005 totaled $1.0 million compared to $542 thousand for the same period in 2004.

First quarter income before taxes in 2005 from the Banking segment was $1.3 million versus $524 thousand for the same period in 2004. Income from the banking segment increased approximately $820 thousand over the same period last year. This increase in income is attributable to a focus on commercial lending, increased name recognition and the addition of experienced professional loan officers all of which expanded our base of business. Earnings were impacted by increased personnel costs associated with an increase in the commercial lending staff and expenses associated with the addition of our two new banking centers. It is expected that income at the Banking segment will continue to improve as new loan officers and the new banking centers increase our base of business and market share. Income from the Mortgage segment was $224 thousand for the three months ended March 31, 2005, compared to $346 thousand for the corresponding period in 2004.

The composition of the consolidated earnings has seen a significant change over the last one year as a result of the strategies employed by the management in the banking segment and the effects of the general market conditions on the mortgage segment. In the three months ended March 31, 2005 the banking segment accounted for 85.0% of the pretax consolidated earnings while the mortgage segment accounted for 15.0%. This compared to 60.0% and 40.0% respectively for the two segments for the same period in 2004. The above trend is a reflection of the managements’ strategy of utilizing strong mortgage earnings in 2003 towards the expansion of the banking staff and infrastructure designed to improve future earnings contribution by the bank. Management intends to continue with this strategy causing the banking segment to contribute the majority of future earnings.

Basic earnings per common share for the first quarter of 2005 amounted to $0.26 per share, up from $0.16 per share in 2004. Diluted earnings per share for the first quarter was $0.22 up from $0.12 per share in the first quarter of 2004.

Interest and fees on loans increased by $1.7 million in the three months ended March 31, 2005 over the same period of 2004 reflecting the $72.9 million increase in loans held for investment from the first quarter of 2004. Non–interest income totaled $6.2 million for the three months ended March 31, 2005 compared to $6.3 million for the same period of 2004.

Net Interest Income

Net interest income, the principal source of bank earnings, is the amount of income generated by earning assets (primarily loans and investment securities) less the interest expense incurred on interest bearing liabilities (primarily deposits) used to fund earning assets. During the first quarter of 2005 our net interest margin decreased 54 basis points from 3.74% in 2004 to 3.20% in 2005. The decrease in net interest margin is due to an increase of $111 million in average interest bearing deposits and due to the flattening of the yield curve during the first quarter of 2004.

Net interest income for three months ended March 31, 2005 increased to $3.2 million compared to $2.4 million for the same period in 2004. Net interest income depends upon the volume of earning assets and interest bearing liabilities and the associated rates. Average interest earning assets increased $139.9 million over the $258.4 million in 2004. The increase can be attributed to the growth in average loans which increased by $106.7 million and the growth in average investment securities which increased by $30.5 million. The yield on earning assets increased from 5.57% in 2004 to 5.64% in 2005 reflecting an increase in yield on all earning asset categories and reflects the current rate environment.

Total interest expense for the first quarter of 2005 increased $1.3 million over the total of $1.1 million for the same period in 2004 as a result of increases in interest bearing deposits and increased interest expense on borrowings. Total interest bearing deposits averaged $241.6 million at period ended March 31, 2005 compared to $130.6 million at March 31, 2004 . Borrowed funds for three months ended March 31, 2005 averaged $73.9 million compared to $70.4 million for the corresponding period in 2004. The increase in deposits and borrowings funded the growth in earning assets. The average cost of interest bearing liabilities at March 31, 2005 was 3.09% up 74 basis points from March 31, 2004.

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Volume and Rate Analysis

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Yield on Average Earning Assets and Rates on Average Interest-Bearing Liabilities