Funding for the growth in interest-earning assets combined with a rising interest rate environment has impacted the composition of our interest-bearing liabilities. While both borrowings from the Federal Home Bank of Atlanta and deposits increased during the fiscal year ended March 31, 2005 the primary source of funding was borrowings. Competitors in our market areas have competed with time deposit rates above what is generally considered by management to be prudent. The utilization of borrowings permitted us to acquire funds at a market rate of interest rather than time deposits at interest rates above the market. Also, as interest rates have increased deposit balances in savings and money market accounts have decreased as customers have transferred funds to time deposits or equities markets. As the level of borrowings increases, management recognizes the need to increase deposits and has instituted strategies to attract time deposits and non-interest bearing transactions accounts. While we have, the capacity to continue to utilize borrowings to meet funding needs, management recognizes the practical long-term limitations of such a funding strategy. Management is also cognizant of the potential for compression in our net interest margin related to the need to acquire funds and the pace of interest rate changes. Management will continue to monitor the level of deposits and borrowings in relation to the current interest rate environment.

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 financial statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have

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 principles of accounting: (i) Statement of Financial Accounting Standard ("SFAS") No.5, Accounting for Contingencies, which requires that losses be accrued when they are probable of occurring and estimable and (ii) SFAS No. 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.

The allowance for loan losses is maintained at a level considered by management to be adequate to absorb future loan losses currently inherent in the loan portfolio. Management's assessment of the adequacy of the allowance is based upon type and volume of the loan portfolio, past loan loss experience, existing and anticipated economic conditions, and other factors which deserve current recognition in estimating future loan losses. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. Additions to the allowance are charged in operations. Subsequent recoveries, if any, are credited to the allowance. Loans are charged-off partially or wholly at the time management determines collectibility is not probable. Management's assessment of the adequacy of the allowance is subject to evaluation and adjustment by the Bank's regulators.

The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as either doubtful, substandard or special mention. For such loans that are also classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical loss experience adjusted for qualitative factors. An unallocated component is maintained to cover uncertainties that could

A loan is considered impaired when, based on current information and events, it is probable that the Corporation will be unable to collect the scheduled payments of principal or inherent when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of delay, the reasons for the delay, the borrower's prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan-by-loan basis for commercial and construction loans by either the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's obtainable market price, or the fair market value of the collateral if the loan is collateral dependent.

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Corporation does not separately identify individual consumer and residential loans for impairment disclosures, unless such loans are the subject of a restructuring agreement.

Asset/Liability Management

Management believes it is important to manage the relationship between interest rates and the effect on our net portfolio value. This approach calculates the difference between the present value of expected

Presented in the following table, as of March 31, 2005 and 2004, is an analysis of our interest rate risk as measured by changes in net portfolio value for instantaneous and sustained parallel shifts in the yield curve and compared to our board policy limits. Information is presented in accordance withOffice of Thrift Supervision regulations and based on its assumptions. The Board limits have been established with consideration of the dollar impact of various rate changes and our strong capital position. As illustrated in the table, net portfolio value is not significantly impacted by rising or falling rates as of the date indicated.

Management generally works to maintain a neutral position regarding interest rate risk. In the current interest rate environment, our customers are interested in obtaining long-term credit products and short-term savings products. Management has taken action to counter this trend. A significant effort has been made to reduce the duration and average life of our interest-earning assets. As of March 31, 2005, approximately 68% of our gross loan portfolio consisted of loans which reprice during the life of the loan. We emphasize adjustable-rate mortgage loans and have increased our portfolio of short-term consumer loans.

On the deposit side, management has worked to reduce the impact of interest rate changes by emphasizing noninterest bearing or low interest deposit products and maintaining competitive pricing on

As with any method of measuring interest rate risk, certain shortcomings are inherent in the method of analysis presented in the foregoing table. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Additionally, certain assets, such as adjustable-rate mortgage loans, have features which restrict changes in interest rates on a short term basis and over the life of the asset. Further, in the event of a change in interest rates, expected rates of prepayments on loans and early withdrawals from certificates could likely deviate significantly from those assumed in calculating the table.

The following table sets forth certain information relating to categories of our interest-earning assets and interest-bearing liabilities for the periods indicated. All average balances are computed on a monthly basis. Non-accruing loans have been included in the table as loans carrying a zero yield.

The following table describes the extent to which changes in interest rates and changes in volume of interest-related assets and liabilities have affected our interest income and expense during the periods indicated. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (change in volume multiplied by prior year rate), (ii) changes in rate (change in rate multiplied by prior year volume), and (iii) total changes in rate and volume. The combined effect of changes in both volume and rate, which cannot be separately identified, has been allocated proportionately to the change due to volume and the change due to rate.

At March 31, 2005, total non-performing assets, consisting of non-performing loans and repossessed automobiles, were $548,000 or .14% of total assets compared to $1,734,000 or .51% at March 31, 2004. Non-performing assets at March 31, 2005 were comprised primarily of single family residential properties delinquent 90 days or more. At March 31, 2005, the largest property in non-performing assets was a residential construction loan with an approximate value of $141,000. Based on current market values of the collateral securing these loans, management anticipates no significant losses in excess of the reserves for losses previously recorded. Due to an uncertain real estate market and the economy in general, no assurances can be given that our level of non-performing assets may not increase in the future.

We maintain an allowance for loan lossesto provide for estimated potential losses in our loan portfolio. We determine the level of reserves based on loan performance, the value of the collateral, economic and market conditions, and previous experience. We review the adequacy of the allowance at least quarterly, utilizing our internal loan classifications system. During fiscal 2005, we increased our allowance for loan losses $376,000, to $3,021,000. Management believes that the loan loss allowance is adequate. We had net charge-offs of $494,000, $140,000, and $186,000, for the years ended March 31, 2005, 2004 and 2003, respectively. The increase in net chargeoffs from 2004 to 2005 is related primarily to the charge-off of one loan in the amount of $230,000. While consumer loans provide a greater yield they generally have a higher rate of charge-offs than mortgage loans. Although management believes it uses the best information available, future adjustments to the allowance may be necessary.

Financial Condition
Total assets increased $62.7 million to $399.6 million at March 31, 2005 as a result of increases in both investment securities of $4.5 million and in loans of

The Hampton Roads region of the Bank experienced growth of $22 million in primarily real estate loans for the fiscal year ended 2005. The Shenandoah Valley region of the Bank had loan growth of approximately $35.5 million in primarily non-mortgage loans including an increase of $17.0 million in automobile dealer loans. Management anticipates slower loan growth in both regions for the 2006 fiscal year due to rising interest rates, increased competitive loan pricing and regulatory capital considerations.

Management anticipates the primary source of funding for loan growth during fiscal 2006 to be from time deposits due to customers' preference for these higher rate products as interest rates increase and the increase in borrowing costs. Management also anticpates a continuing decrease in savings and money market accounts as interest rates are expected to increase during fiscal 2006.

Stockholders' equity increased $2.1 million to $31.3 million at March 31, 2005 compared to March 31, 2004. The increase was the result of $3.8 million of net income and proceeds from option exercises offset by dividends paid to stockholders of $874,000 and a decrease in the unrealized gain on equity securities of $937,000.

Results of Operations
Our results of operations depend primarily on the level of our net interest income and noninterest income and the

Comparison of Years ended
March 31, 2005 and 2004

General. Net income for the year ended March 31, 2005 was $3,806,000 or $1.76 diluted earnings per share compared to $3,482,000 or $1.63 diluted earnings per share for the year ended March 31, 2004. Net income increased due primarily to an increase in net interest income of $1.8 million.

Interest Income.
Total interest income increased to $20,038,000 for the year ended March 31, 2005 as compared to $17,524,000 for the year ended March 31, 2004. The increase in total interest income can be attributed to an increase in the average dollar volume of interest-earning assets, primarily $44.4 million in loans receivable offset by a decrease in the yield on interest earning assets. Average yields on total interest-earning assets decreased from 5.83% in fiscal 2004 to 5.72% for the current fiscal year due primarily to a lower interest rate environment.

Interest Expense.
Total interest expense increased to $6,281,000 for the year ended March 31, 2005 from $5,542,000 for the year ended March 31, 2004. The increase in total interest expense is primarily attributable an increase in the average dollar volume of interest-bearing liabilities, primarily $39.3 million in borrowings offset by a decrease in the cost of interest bearing liabilities. The cost of funds decreased from 1.97% for the year ended March 31, 2004 to 1.88% for the current year. The increase in deposit balances was due primarily to increases in time deposits for the current fiscal year.

Provision for Loan Losses.
The provision for loan losses increased to $870,000 for the fiscal year ended March 31, 2005 from $846,000 for the fiscal year ended March 31, 2004 due both to an increase in loan growth offset by a decrease in allowances for certain mortgage loans for fiscal 2005. We monitor our loan loss allowance on a quarterly basis and make allocations as necessary. Management believes that the level of our loan loss allowance is adequate. As of March 31, 2005, the total allowance for loan losses amounted to $3,021,000. At

Noninterest Income.
Noninterest income decreased to $2,708,000 in fiscal 2005 as compared to $3,225,000 for the year ended March 31, 2004, the decline in noninterest income was primarily due to the gain on sale of the Bank's mortgage subsidiary in June 30, 2003 and the decreased fees and gain on sale of loans related to the Bank's mortgage subsidiary (See Table 1).

Noninterest Expense.
Total noninterest expense increased to $10,060,000 for the year ended March 31, 2005 from $9,684,000 for the year ended March 31, 2004 due primarily to increased compensation expense related to the employment of additional commercial loan officers and loan support staff offset by decreased compensation expense related to the sale of the Bank's mortgage subsidiary in June 2003. Management anticipates future compensation expense increases to be comparible to fiscal 2005 contingent upon the rate of asset and profitability growth. (See Table 2).

Comparison of Years ended
March 31, 2004 and 2003

General. Net income for the year endedMarch 31, 2004 was $3,482,000 or $1.63 diluted earnings per share compared to $2,906,000 or $1.33 diluted earnings per share for the year ended March 31, 2003. Net income increased due primarily to an increase in net interest income of $1.1 million.

Interest Income.
Total interest income decreased to $17,524,000 for the year ended March 31, 2004 as compared to $17,661,000 for the year ended March 31, 2003. The decrease in total interest income can be attributed to a decrease in the yield on interest earning assets offset by an increase in the average dollar volume of interest-earning assets, primarily $24.4 million in loans receivable. Average yields on total interestearning assets decreased from 6.55% in

Interest Expense.
Total interest expense decreased to $5,542,000 for the year ended March 31, 2004 from $6,746,000 for the year ended March 31, 2003. The decrease in total interest expense is primarily attributable to a decrease in the cost of interest bearing liabilities. The cost of funds decreased from 2.69% for the year ended March 31, 2003 to 1.97% for the year ended March 31, 2004. The increase in deposit balances was due primarily to increases in demand deposits for the 2004 fiscal year.

Provision for Loan Losses.
The provision for loan losses increased to $846,000 for the fiscal year ended March 31, 2004 from $451,000 for the fiscal year ended March 31, 2003 due both to an increase in loan growth and in allowances for certain mortgage loans for fiscal 2004. As of March 31, 2004, the total allowance for loan losses amounted to $2,646,000. At March 31, 2004, our allowance as a percentage of total loans receivable was .95% and as a percentage of total non-performing assets was 153%.

Noninterest Expense.
Total noninterest expense decreased to $9,684,000 for the year ended March 31, 2004 from $9,954,000 for the year ended March 31, 2003 due primarily to decreased compensation expense related to the sale of the Bank's mortgage subsidiary in June 2003 offset by an increase in data processing costs. (See Table 4).

Taxes.
Total taxes decreased to $1,195,000 during the year ended March 31, 2004 from $1,254,000 during fiscal 2003. The decrease in taxes can be attributed to a one-time rehabilitation tax credit of approximately $391,000 received during fiscal 2004. The effective tax rate for the year ended March 31, 2004 was 25.6% compared to 30.1% for fiscal 2003.

Liquidity and Capital Resources

Our principal sources of funds are customer deposits, advances from the Federal Home Loan Bank of Atlanta, amortization and prepayment of loans, proceeds from the sale of loans and funds provided from operations. Management maintains

Liquidity represents our ability to meet our on-going funding requirements for contractual obligations, the credit needs of customers, withdrawal of customers' deposits and operating expenses.

Our dominant source of funds during the year ended March 31, 2005 was from Federal Home Loan Bank advances which increased by $30.0 million. Our cash decreased $2.2 million from $4.5 million at March 31, 2004 to $2.3 million at March 31, 2005. The decrease in cash was related to the increase in loans and investment securities.

At March 31, 2005, we had commitments to purchase or originate $17.0 million of loans. Certificates of deposit scheduled to mature in one year or less at March 31, 2005 totaled $53.8 million. Based on our historical experience, management believes that a significant portion of such deposits will remain with us. Management further believes that loan repayments and other sources of funds will be adequate to meet our foreseeable short- and long-term liquidity needs.

Impact of Inflation and
Changing Prices

The consolidated financial statements and related data presented herein have been prepared in accordance with accounting principles generally accepted in the United States of America which require the measurement of financial position and results of operations in terms of historical dollars without considering changes in the relative purchasing power of money over time because of inflation. Unlike most industrial companies, virtually all ofthe assets and liabilities of a financial institution are monetary in nature. As a result, interest rates have a more significant impact on a financial institution's performance than the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or the same magnitude as the price of goods and services. In the current interest-rate environment, equity, maturity structure and quality of our assets and liabilities are critical to the maintenance of acceptable performance levels.

As of March 31, 2005, we have not participated in any material unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special entities. The Corporation does have significant commitments to fund loans in the ordinary course of business. Such commitments and resulting off-balance sheet risk are further discussed in Note 15 to the consolidated financial statements.

Contractual Obligations

monetary and fiscal policies and laws, including interest rate policies of the Federal Reserve Board;
• financial market, monetary and interest rate fluctuations, particularly the relative relationship of short-term interest rates to long-term interest rates;
• the timely development of and acceptance of new products and services of Community Financial Corporation and Community Bank, and the perceived overall value of these products and services by users, including the features, pricing and quality compared to competitors' products and services;
• the impact of changes in financial

• the strength of the United States economy in general and the strength of the local economies in which we conduct our operations; general economic conditions, either nationally or regionally, may be less favorable than expected, resulting in, among other things, a deterioration in the credit quality of our loans and other assets;

• the effects of, and changes in, trade,

services laws and regulations (including laws concerning taxes, accounting standards, banking, securities and insurance); legislative or regulatory changes may adversely affect the business in which we are engaged;
• the impact of technological changes;
• changes in consumer spending and saving habits; and
• our success at managing the risks involved in the foregoing.

Nature of Business and
Regulatory Environment
The Bank is a federally chartered savings association and the primary asset of the Corporation. The Corporation provides a full range of banking services to individual and corporate customers through its wholly-owned subsidiary.

The Office of Thrift Supervision ("OTS") is the primary regulator for federally chartered savings associations, as well as well as savings and loan holding companies.

The Bank's deposits are insured up to applicable limits by the Savings Association Insurance Fund ("SAIF"), which is administered by the Federal Deposit Insurance Corporation ("FDIC"). The FDIC has specific authority to prescribe and enforce such regulations and issue such orders as it deems necessary to prevent actions or practices by savings associations that pose a serious threat to the SAIF.

The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") was effective January 1, 1993. FDICIA contained provisions which allow regulators to impose prompt corrective action on undercapitalized institutions in accordance with a categorized capital-based system.

Estimates
In preparing consolidated financial statements in conformity with U.S. generally accepted accounting principles, management is required to make estimates

Cash and Cash Equivalents
For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks, interest-bearing deposits and federal funds sold.

Securities
Investments in debt securities classified as held to maturity are stated at cost, adjusted for amortization of premiums and accretion of discounts using the level yield method. Management has a positive intent and ability to hold these securities to maturity and, accordingly, adjustments are not made for temporary declines in their market value below amortized cost. Investment in Federal Home Loan Bank stock is stated at cost.

Investments in debt and equity securities classified as available for sale are stated at market value with unrealized holding gains and losses excluded from earnings and reported as a separate component of stockholders' equity, net of tax effect, until realized.

Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. 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. In estimating other than temporary impairment losses, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the

Loans Receivable
Loans receivable consists primarily of long-term real estate loans secured by first deeds of trust on single family residences, other residential property, commercial property and land located primarily in the state of Virginia. Interest income on mortgage loans is recorded when earned and is recognized based on the level yield method. The Corporation provides an allowance for accrued interest deemed to be uncollectible, which is netted against accrued interest receivable in the consolidated balance sheets.

The Corporation defers loan origination and commitment fees, net of certain direct loan origination costs, and the net deferred fees are amortized into interest income over the lives of the related loans as yield adjustments. Any unamortized net fees on loans fully repaid or sold are recognized as income in the year of repayment or sale.

The Corporation places loans on nonaccrual status after being delinquent greater than 90 days or earlier if the Corporation becomes aware that the borrower has entered bankruptcy proceedings, or in situations in which the loans have developed inherent problems prior to being 90 days delinquent that indicate payments of principal or interest will not be made in full. Whenever the accrual of interest is stopped, previously accrued but uncollected interest income is reversed. Thereafter, interest is recognized only as cash is received until the loan is reinstated to accrual status. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as either doubtful, substandard or special mention. For such loans that are also classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical loss experience adjusted for qualitative factors. An unallocated component is maintained to cover uncertainties that could affect management's estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.

A loan is considered impaired when, based on current information and events, it is probable that the Corporation will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Corporation does not separately identify individual consumer and residential loans for impairment disclosures, unless such loans are the subject of a restructuring agreement.

Real Estate Owned
Real estate acquired through foreclosure is initially recorded at the lower of fair value, less selling costs, or the balance of the loan on the property at the date of foreclosure. Costs relating to the development and improvement of property are capitalized, whereas those relating to holding the property are charged to expense.

Valuations are periodically performed by management, and an allowance for losses is established by a charge to operations if the carrying value of a property exceeds its estimated net realizable value.

Property and Equipment Property and equipment is stated at cost less accumulated depreciation. Provisions for depreciation are computed using the straight-line method over the

Income Taxes
Deferred income tax assets and liabilities are determined using the balance sheet method. Under this method, the net deferred tax asset or liability is determined based on the tax effects of the temporary differences between the book and tax bases of the various balance sheet assets and liabilities and gives current recognition to changes in tax rates and laws.

Earnings Per Share
Basic earnings per share represents income available to common shareholders divided by the weighted-average number of common shares outstanding during the period. Diluted earnings per share reflects additional common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed issuance. Potential common shares that may be issued by the Corporation relate solely to outstanding stock options and are determined using the treasury stock method.

Advertising Costs
The Corporation follows the policy of charging the costs of advertising to expense as incurred.

Comprehensive Income
Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available for sale securities, are reported as a separate component of the equity section of the balance sheet, such items, along with net income are components of comprehensive income.

In January 2003, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 46, "Consolidation of Variable Interest Entities" (FIN 46). This Interpretation provides guidance with respect to the identification of variable interest entities when the assets, liabilities, non-controlling interests, and results of operations of a variable interest entity need to be included in an entity's consolidated financial statements. An entity is deemed a variable interest entity, subject to the interpretation, if the equity investment at risk is not sufficient to permit the entity to finance its activities without additional subordinated financial support from other parties, or in cases in which the equity investors lack one or more of the essential characteristics of a controlling financial interest, which include the ability to make decisions about the entity's activities through voting rights, the obligations to absorb the expected losses of the entity if they occur, or the right to receive the expected residual returns of the entity if they occur. Due to significant implementation issues, the FASB modified the wording of FIN 46 and issued FIN 46R in December of 2003. FIN 46R deferred the effective date for the provisions of FIN 46 to entities other than Special Purpose Entities (SPEs) until financial statements issued for periods ending after March 15, 2004. SPEs were subject to the provisions of either FIN 46 or FIN 46R as of December 15, 2003.Management has evaluated the Corporation's investments in variable interest entities and potential variable interest entities or transactions. The adoption of FIN 46 and FIN 46R did not have a material effect on the Corporation's consolidated financial position or consolidated results of operations.

In December 2003, the Accounting Standards Executive Committee (AcSEC) of the American Institute of Certified Public Accountants issued Statement of Position (SOP) 03-3, "Accounting for Certain Loans or Debt Securities Acquired in a Transfer." The SOP is effective for loans acquired in fiscal years beginning after December 15, 2004. The scope of the SOP applies to unhealthy "problem" loans that have been acquired, either individually in a portfolio, or in a business acquisition. The SOP addresses accounting for differences between contractual cash flows and cash flows expected to be collected from an investor's initial investment in loans or debt securities (loans) acquired in a transfer if those differences are attributable, at least in part, to credit quality. The SOP does not apply to loans originated by the Corporation. The Corporation adopted the provisions of SOP 03-3 effective January 1, 2005. The initial implementation did not have a significant effect on the Corporation's consolidated financial position or consolidated results of operations.

Emerging Issues Task Force Issue No. (EITF) 03-1, "The Meaning of Other-Than-Temporary Impairment and Its Application to Certain

EITF No. 03-16, "Accounting for Investments in Limited Liability Companies", was ratified by the FASB and is effective for reporting periods beginning after June 15, 2004. APB Opinion No. 18, "The Equity Method of Accounting Investments in Common Stock," prescribes the accounting for investments in common stock of corporations that are not consolidated. AICPA Accounting Interpretation 2, "Investments in Partnerships Ventures," of Opinion 18, indicates that "many of the provisions of the Opinion would be appropriate in accounting" for partnerships. In EITF Abstracts, Topic No. D-46, "Accounting for Limited Partnership Investments," the SEC staff clarified its view that investments of more than 3 to 5 percent are considered to be more than minor and, therefore, should be accounted for using the equity method. Limited liability companies (LLCs) have characteristics of both corporations and partnerships, but are dissimilar from both in certain respects. Due to those similarities and differences, diversity in practice exists with respect to accounting for noncontrolling investments in LLCs. The consensus reached was that an LLC should be viewed as similar to a corporation or similar to a partnership for purposes of determining whether a non-controlling investment should be accounted for using the cost method or the equity method of accounting. The adoption of EITF No. 03-16 did not have an impact on the consolidated financial statements of the Corporation.

In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share-Based Payment." This Statement establishes standards for the

In March 2005, the SEC issued SAB 107. SAB 107 expresses the views of the SEC staff regarding the interaction of SFAS No. 123R and certain SEC rules and regulations and the valuation of share-based payment arrangements for public companies. SAB 107 does not impact the Corporation's results of operations at the present time.

Information pertaining to securities with gross unrealized losses at March 31, 2005 and 2004, aggregated by investment category and length of time that individual securities have been in a continuous loss position, follows:

At March 31, 2005, 46 debt securities had unrealized losses with aggregate depreciation of 1.3% from the Corporation's amortized cost basis. These unrealized losses related principally to government agencies. In analyzing an issuer's financial condition, management considers whether the securities are issued by the federal government or its agencies and whether downgrades by bond debt rating agencies have occurred. As management has the ability and intent to hold debt securities until maturity, or for the foreseeable future, no declines are deemed to be other than temporary.

At March 31, 2005, four marketable equity securities had unrealized losses with aggregate depreciation of 12% from the Corporation's cost basis. The securities have an investment grade rating of AA or better. These unrealized losses relate primarily to government agencies and have existed for less than twelve months for three of the issues and less than twenty-four months for one issue. The movement in the market value of the securities is closely related to changes in interest rates. In analyzing the issuer's financial condition, management considers whether the securities are issued by the federal government or its agencies and whether downgrades by bond debt rating agencies have occurred. As management has the ability and intent to hold these equity securities for the foreseeable future, no declines are deemed to be other than temporary.

Management evaluates securities for other than temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Corporation to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.

Loans receivable are summarized as follows:

A summary of the allowance for loan losses is as follows:

There were no impaired loans during the year ended March 31, 2003. No additional funds are committed to be advanced in connection with impaired loans. There were no loans past due 90 days and still accruing interest.

Nonaccrual loans excluded from impaired loan disclosure amounted to $386,763, $702,506 and $1,165,198 at March 31, 2005, 2004 and 2003, respectively. If interest on these loans had been accrued, such income would have approximated $9,082, $29,094 and $80,098 for the years ended March 31, 2005, 2004 and 2003, respectively.

4. Property and Equipment

Property and equipment are summarized as follows:

5. Deposits

Deposits are summarized as follows:

The aggregate amount of time deposit accounts with a minimum denomination of $100,000 was $42,157,813 and $29,319,664 at March 31, 2005 and 2004, respectively.

Time deposits mature as follows:

Interest expense on deposits is summarized as follows:

The estimated fair values of the Corporation's financial instruments are as follows:

The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value.

Cash and cash equivalents

For those short-term investments, the carrying amount is a reasonable estimate of fair value.

Securities

Fair values for securities, excluding Federal Home Loan Bank stock, are based on quoted market prices or dealer quotes. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities. The carrying value of Federal Home Loan Bank stock approximates fair value based on the redemption provisions of the Federal Home Loan Bank.

Loans receivable

For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. Fair values for certain mortgage loans (e.g., one-to-four family residential), credit card loans, and other consumer loans are based on quoted market prices of similar loans sold in conjunction with securitization transactions, adjusted for differences in loan characteristics. Fair values for other loans (e.g., commercial real estate and investment property mortgage loans, commercial and industrial loans) are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Fair values for nonperforming loans are estimated using discounted cash flow analyses or underlying collateral values, where applicable.

Deposit liabilities

The fair values disclosed for demand deposits (e.g., interest and non-interest checking, passbook savings, and certain types of money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). The carrying amounts of variable-rate, fixed-term money market accounts and certificates of deposit approximate their fair values at the reporting date. Fair values for 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.

Advances from Federal Home Loan Bank

For advances that mature within one year of the balance sheet date, carrying value is considered a reasonable estimate of fair value. The fair values of all other advances are estimated using discounted cash flow analysis based on the Corporation's current incremental borrowing rate for similar types of advances.

Securities sold under agreements to repurchase

Securities sold under agreements to repurchase are treated as short-term borrowings and the carrying value approximates fair value.

Accrued interest

The carrying amounts of accrued interest approximate fair value.

Off-balance sheet instruments

The fair value of commitments to extend credit is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present credit worthiness of the counterparties. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair value of standby letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligations with the counterparties at the reporting date. At March 31, 2005 and 2004, the carrying amounts of loan commitments and standby letters of credit were deemed immaterial.

7. Advances from Federal Home Loan Bank

Advances from the Federal Home Loan Bank are summarized as follows:

Information related to borrowing activity from the Federal Home Loan Bank is as follows:

Securities sold under agreements to repurchase are secured borrowings that generally mature within one to four days from the transaction date. These amounts are recorded at the amount of cash received in connection with the transaction. The Corporation may be required to provide additional collateral based on the fair value of the underlying securities.

The following is a summary of certain information regarding the Corporation's repurchase agreements:

Deferred tax assets (liabilities), included in the consolidated balance sheets are as follows:

The components of other comprehensive income (loss) are summarized as follows:

Savings institutions must maintain specific capital standards that are no less stringent than the capital standards applicable to national banks. The OTS regulations currently have three capital standards including (i) a tangible capital requirement, (ii) a core capital requirement, and (iii) a risk-based capital requirement. The tangible capital standard requires savings institutions to maintain tangible capital of not less than 1.5% of adjusted total assets. The core capital standard requires a savings institution to maintain core capital of not less than 4.0% of adjusted total assets. The risk-based capital standard requires risk-based capital of not less than 8.0% of risk-weighted assets.

The following table represents the Bank's regulatory capital levels, relative to the OTS requirements applicable at that date:

Capital distributions by OTS-regulated savings banks are limited by regulation ("Capital Distribution Regulation"). Capital distributions are defined to include, in part, dividends, stock repurchases and cash-out mergers. The Capital Distribution Regulation permits a "Tier 1" savings bank to make capital distributions during a calendar year equal to net income for the current year plus the previous two years net income, less capital distributions paid over that same time period. Any distributions in excess of that amount require prior OTS notice, with the opportunity for OTS to object to the distribution. A Tier 1 savings bank is defined as a savings bank that has, on a pro forma basis after the proposed distribution, capital equal to or greater than the OTS fully phased-in capital requirement and has not been deemed by the OTS to be "in need of more than normal supervision". The Bank is currently classified as a Tier 1 institution for these purposes. The Capital Distribution Regulation requires that savings banks provide the applicable OTS District Director with a 30-day advance written notice of all proposed capital distributions whether or not advance approval is required by the regulation.

During the year ended March 31, 2003, the Board of Directors authorized a stock repurchase program of 184,353 shares of the Corporation's stock. During the years ended March 31, 2004 and 2003, 2,441 and 200,300 shares, respectively, were repurchased for an aggregate amount of approximately $52,482 and $2,414,006, respectively. No shares were repurchased during the fiscal year ended March 31, 2005.

Earnings per share is calculated as follows:

13. Employee Benefit Plans

Pension Plan

The Corporation has a noncontributory defined benefit pension plan covering substantially all of its employees. The benefits are based on years of service and final average compensation. The Corporation's funding policy is to contribute amounts to the pension trust at least equal to the minimum funding requirements of the Employee Retirement Income Security Act of 1974 (ERISA), but not in excess of the maximum tax deductible amount. Contributions are intended to provide not only for benefits attributed to service to date but also for those expected to be earned in the future. The following is a summary of information with respect to the plan:

The accumulated benefit obligation for the defined benefit pension plan was $1,404,341, $1,109,601 and $933,506 as of March 31, 2005, 2004 and 2003, respectively.

Long-Term Rate of Return

The plan sponsor selects the expected long-term rate of return on assets assumption in consultation with their investment advisors. The rate is intended to reflect the average rate of earnings expected to be earned on the funds invested to provide plan benefits. Historical performance is reviewed with respect to real rates of return (net of inflation) for the major asset classes held or anticipated to be held by the trust, and for the trust itself. Undue weight is not given to recent experience that may not continue over the measurement period, with higher significance placed on current forecasts of future long-term economic conditions.

Asset Allocation

The pension plan's weighted-average asset allocations at December 31, 2004 and 2003, by asset category are as follows:

The Corporation expects to contribute $263,000 to its pension plan during the year ending March 31, 2005.

Estimated future benefit payments, which reflect expected future service, as appropriate, are as follows:

Year Ending March 31,

The Employee Stock Ownership and 401(k) Profit Sharing Plan (the "Plan") is a combination of a profit sharing plan with 401(k) and a stock bonus plan. The Plan provides for retirement, death, and disability benefits for all eligible employees.

An employee becomes eligible for participation after completion of one year of service. After meeting the eligibility requirements, an employee becomes a member of the Plan on the earliest January 1, April 1, July 1, or October 1 occurring on or after his or her qualification.

The contributions to the Plan are discretionary and are determined by the Board of Directors. The contributions are limited annually to the maximum amount permitted as a tax deduction under the applicable Internal Revenue Code provisions.

Profit-sharing expenses were approximately $138,100, $123,900 and $94,300 for the years ended March 31, 2005, 2004 and 2003, respectively.

Deferred Compensation Plans

During the year ended March 31, 2004, the Corporation adopted deferred compensation plans for the Board of Directors, President and four Executive Officers. Benefits are to be paid in monthly installments commencing at retirement and ending upon the death of the director or officer. The agreement provides that if board membership or employment is terminated for reasons other than death or disability prior to retirement age, the amount of benefits would be reduced. The deferred compensation expense for the years ended March 31, 2005 and 2004, based on the present value of the retirement benefits, was $239,000 and $31,000, respectively. The plans are unfunded; however, life insurance has been acquired on the life of the employees in amounts sufficient to discharge the obligation.

14. Stock Option Plan

The Corporation has a noncompensatory stock option plan (the "Plan") designed to provide long-term incentives to employees. All options are exercisable upon grant date.

The following table summarizes options outstanding:

The following table summarizes information about stock options outstanding and exercisable at March 31, 2005:

The Corporation is a party to credit related financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit and commercial letters of credit. Such commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets.

The Corporation's exposure to credit loss is represented by the contractual amount of these commitments. The Corporation follows the same credit policies in making commitments as it does for on-balance-sheet instruments.

At March 31, 2005 and 2004, the following financial instruments were outstanding whose contract amounts represent credit risk:

Contract Amount

Unfunded commitments under commercial lines of credit, revolving credit lines and overdraft protection agreements are commitments for possible future extensions of credit to existing customers. These lines of credit are uncollateralized and usually do not contain a specified maturity date and may not be drawn upon to the total extent to which the Corporation is committed.

Standby letters of credit are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party. Those letters of credit are primarily issued to support public and private borrowing arrangements. Essentially all letters of credit issued have expiration dates within one year. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Corporation generally holds collateral supporting those commitments if deemed necessary.

Leases

The Corporation is obligated under several noncancellable operating leases. Future minimum annual rental commitments under the leases are as follows:

In the normal course of business, the Corporation has entered into employment or severance agreements with certain officers of the Bank.

The Corporation maintains its cash accounts in several correspondent banks. As of March 31, 2005, deposits in excess of amounts insured by the Federal Deposit Insurance Corporation (FDIC) were approximately $1,602,000.

16. Related Party Transactions

The Corporation has had, and may be expected to have in the future, banking transactions in the ordinary course of business with directors, principal shareholders, executive officers, their immediate families and affiliated companies in which they are principal shareholders (commonly referred to as related parties), on the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with others. At March 31, 2005 and 2004, these loans totaled $405,521 and $362,222, respectively. During the year ended March 31, 2005, total principal additions were $110,000 and total principal payments were $66,701.

17. Sale of Subsidiary

On June 30, 2003, the Corporation sold Community First Mortgage. Community First Mortgage was a wholly-owned mortgage banking subsidiary of the Bank established in November 1997 for the purpose of originating and selling mortgage loans. The proceeds on the sale of this subsidiary were $1,515,210 resulting in a gain of $241,066. The results of the Community First Mortgage's operations are included in the consolidated statements of income through the date of disposition.

Condensed quarterly consolidated financial data is shown as follows:
(Dollars in thousands except per share data)