United
States


Securities
and Exchange Commission


Washington,
D.C. 20549





FORM 10-K





x
            ANNUAL
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934





For the fiscal year ended December 31,
2008





 ̈
            TRANSITION
      REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934





For the transition period from
_________ to __________





Commission
File Number: 0-52267





POLONIA
BANCORP


(Name of
small business issuer in its charter)





United States
              
              41-2224099(State
      or other jurisdiction of
              
              (I.R.S.
      Employer Identification No.)incorporation
      or organization)




3993
      Huntingdon Pike, 3rd
      Floor,Huntingdon Valley,
    Pennsylvania
              
              19006(Address
      of principal executive offices)
              
              (Zip
      Code)





Issuer’s
telephone number: (215) 938-8800


Securities
registered under Section 12(b) of the Exchange Act:  None


Securities
registered under Section 12(g) of the Exchange Act:





Common
Stock, par value $0.01 per share


(Title of
class)





Indicate
by check mark whether the Registrant is a well-known seasoned issuer, as defined
in Rule 405 of the Securities Act.    Yes   ̈    No  x




Indicate
by check mark if the Registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the
Act.    Yes   ̈    No  x




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




Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K (§229.405 of this Chapter) is not contained herein, and will not
be contained, to the best of Registrant’s knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K.  x




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




Large
accelerated filer  ̈        Accelerated
filer  ̈        Non-accelerated
filer  ̈        Smaller
Reporting Company x








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




The
aggregate market value of the voting and non-voting common equity held by
non-affiliates of the Registrant upon the closing price of such common equity as
of last business day of most recently completed second fiscal quarter was
$9,535,165.  For purposes of this calculation, officers and directors
of the Registrant are considered affiliates.




At March
25, 2009, the Registrant had 3,161,060 shares of $0.01 par value common stock
outstanding.




DOCUMENTS
INCORPORATED BY REFERENCE:




Portions
of the Proxy Statement for the 2009 Annual Meeting of Stockholders are
incorporated by reference in Part III of this Form 10-K.





TABLE
OF CONTENTS




PagePART
      IItem 1.
                  Business
                  1Item 1A.
                  Risk
      Factors
                  5Item 1B.
                  Unresolved
      Staff Comments
                  16Item 2.
                  Properties
                  17Item 3.
                  Legal
      Proceedings
                  17Item 4.
                  Submission
      of Matters to a Vote of Security Holders
                  17PART
      IIItem 5.
                  Market
      for Registrant’s Common Equity, Related Stockholder Matters and Issuer
      Purchases of Equity Securities
                  18Item 6.
                  Selected
      Financial Data
                  19Item 7.
                  Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                  20Item 7A.
                  Quantitative
      and Qualitative Disclosures About Market Risk
                  39Item 8.
                  Financial
      Statements and Supplementary Data
                  39Item 9.
                  Changes
      in and Disagreements with Accountants on Accounting and Financial
      Disclosure
                  39Item 9A(T).
                  Controls
      and Procedures
                  39Item 9B.
                  Other
      Information
                  39PART IIIItem 10.
                  Directors,
      Executive Officers and Corporate Governance
                  40Item 11.
                  Executive
      Compensation
                  40Item 12.
                  Security
      Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters
                  40Item 13.
                  Certain
      Relationships and Related Transactions, and Director
      Independence
                  41Item 14.
                  Principal
      Accountant Fees and Services
                  41PART IVItem 15.
                  Exhibits
      and Financial Statement Schedules
                  41Signatures




i


This report contains certain
“forward-looking statements” within the meaning of the federal securities laws
that are based on assumptions and may describe future plans, strategies and
expectations of Polonia Bancorp (the “Company”), Polonia MHC and Polonia Bank
(the “Bank”).  These forward-looking statements are generally
identified by terms such as “expects,” “believes,” “anticipates,” “intends,”
“estimates,” “projects” and similar expressions.





Management’s ability to predict results
or the actual effect of future plans or strategies is inherently
uncertain.  Factors which could have a material adverse effect on the
operations of Polonia Bancorp and its subsidiaries include, but are not limited
to, the following:  interest rate trends; the general economic climate
in the market area in which we operate, as well as nationwide; our ability to
control costs and expenses; competitive products and pricing; loan delinquency
rates and changes in federal and state legislation and
regulation.  Additional factors that may affect our results are
discussed in this Annual Report on Form 10-K under “Item 1A – Risk
Factors.”  These risks and uncertainties should be considered in
evaluating the forward-looking statements and undue reliance should not be
placed on such statements.  We assume no obligation to update any
forward-looking statements.





PART
I





ITEM
      1.
            BUSINESS





General





Polonia Bancorp was organized as a
federal corporation at the direction of Polonia Bank (the “Bank”), in connection
with the reorganization of the Bank from the mutual form of organization to the
mutual holding company form of organization.  The reorganization was
completed on January 11, 2007.  In the reorganization and related
minority stock offering, Polonia Bancorp sold 1,487,813 shares of its common
stock to the public and issued 1,818,437 shares of its common stock to Polonia
MHC, the mutual holding company of the Bank.  In addition, a
contribution of $100,000 was made to capitalize Polonia MHC.  Costs
incurred in connection with the common stock offering of $1,043,000 were
recorded as a reduction of the proceeds from the offering.  Net
proceeds from the common stock offering amounted to approximately
$13,835,000.





As a result of the reorganization,
Polonia Bancorp’s business activities are the ownership of the outstanding
capital stock of Polonia Bank and management of the investment of offering
proceeds retained from the reorganization.  Currently, Polonia Bancorp
neither owns nor leases any property, but instead uses the premises, equipment
and other property of Polonia Bank and pays appropriate rental fees, as required
by applicable law and regulations.  In the future, Polonia Bancorp may
acquire or organize other operating subsidiaries; however, there are no current
plans, arrangements, or understandings, written or oral, to do so.





Polonia Bank was originally chartered
in 1923 as a federally chartered savings and loan association under the name
“Polonia Federal Savings and Loan Association.”  In 1996, Polonia
Federal Savings and Loan Association changed its name to Polonia
Bank.





The Company is headquartered in
Huntingdon Valley and operates as a community-oriented financial institution
dedicated to serving the financial services needs of consumers and businesses
within our market areas.  The Bank is engaged primarily in the
business of attracting deposits from the general public and using such funds to
originate one-to four-family real estate and to a much lesser extent,
multi-family and nonresidential real estate loans and home equity and consumer
loans which we primarily hold for investment.





The Federal Deposit Insurance
Corporation (the “FDIC”), through the Deposit Insurance Fund, insures the Bank’s
deposit accounts up to the applicable legal limits.  The Bank is a
member of the Federal Home Loan Bank (“FHLB”) System.





Market
Areas





We are headquartered in Huntingdon
Valley, Pennsylvania, which is located in the northwest suburban area of
metropolitan Philadelphia and is situated between Montgomery and Bucks
Counties.  In addition to our main office, we operate from four
additional locations in Philadelphia County.  Our four branch offices
are located within the city of Philadelphia.  We generate deposits
through our five offices and conduct lending activities throughout the Greater
Philadelphia metropolitan area, as well as in southeastern Pennsylvania and
southern New Jersey.  The Philadelphia metropolitan area is the fourth
largest in the United States (based on United States Census data for 2004) with
an estimated population of 5.7 million.  The city of Philadelphia
is the fifth most populous city in the United States and the largest in
population and area in the Commonwealth of Pennsylvania.





The Greater Philadelphia metropolitan
area’s economy is heavily based upon manufacturing, refining, food and financial
services.  The city is home to many Fortune 500 companies, including
cable television and internet provider Comcast; insurance companies CIGNA and
Lincoln Financial Group; energy company Sunoco; food services company Aramark;
paper and packaging company Crown Holdings Incorporated; diversified producer
Rohm and Haas Company; the pharmaceutical company Glaxo SmithKline; the
helicopter division of Boeing Co.; and automotive parts retailer Pep
Boys.  The city is also home to many universities and
colleges.




Competition





We face
significant competition for the attraction of deposits and origination of
loans.  Our most direct competition for deposits has historically come
from the several financial institutions operating in our market areas and, to a
lesser extent, from other financial service companies such as brokerage firms,
credit unions and insurance companies.  We also face competition for
investors’ funds from money market funds, mutual funds and other corporate and
government securities.  At June 30, 2008, which is the most recent
date for which data is available from the FDIC, we held less than 1% of the
deposits in the Philadelphia metropolitan area.  In addition, banks
owned by large bank holding companies such as PNC Financial Services Group,
Inc., Wachovia Corporation, Commerce Bancorp, Inc. and Citizens Financial Group,
Inc. also operate in our market areas.  These institutions are
significantly larger than us and, therefore, have significantly greater
resources.





Our
competition for loans comes primarily from financial institutions in our market
areas, and, to a lesser extent, from other financial service providers such as
mortgage companies and mortgage brokers.  Competition for loans also
comes from the increasing number of non-depository financial service companies
entering the mortgage market such as insurance companies, securities companies
and specialty finance companies.




We expect
competition to remain intense in the future as a result of legislative,
regulatory and technological changes and the continuing trend of consolidation
in the financial services industry.  Technological advances, for
example, have lowered the barriers to market entry, allowed banks and other
lenders to expand their geographic reach by providing services over the Internet
and made it possible for non-depository institutions to offer products and
services that traditionally have been provided by banks.  Changes in
federal law permit affiliation among banks, securities firms and insurance
companies, which promotes a competitive environment in the financial services
industry.  Competition for deposits and the origination of loans could
limit our future growth.





Lending
Activities




General.  Our
loan portfolio consists primarily of one- to four-family residential real estate
loans.  To a much lesser extent, our loan portfolio includes
multi-family and nonresidential real estate loans, home equity loans and
consumer loans.  We originate loans primarily for investment
purposes.  Currently, we only offer fixed-rate mortgage products.
In 2008 we hired a
commercial real estate lender with several years of experience in our local
market.


2


One-
to Four-Family Residential Real Estate Loans.Our primary
lending activity is the origination of mortgage loans to enable borrowers to
purchase or refinance existing homes.  We offer fixed-rate mortgage
loans with terms up to 30 years.  The loan fees, interest rates and
other provisions of mortgage loans are determined by us on the basis of our own
pricing criteria and competitive market conditions.





While one- to four-family residential
real estate loans are normally originated with up to 30-year terms, such loans
typically remain outstanding for substantially shorter periods because borrowers
often prepay their loans in full upon sale of the property pledged as security
or upon refinancing the original loan.  Therefore, average loan
maturity is a function of, among other factors, the level of purchase and sale
activity in the real estate market, prevailing interest rates and the interest
rates payable on outstanding loans.





We generally do not make conventional
loans with loan-to-value ratios exceeding 95% at the time the loan is
originated.  Conventional loans with loan-to-value ratios in excess of
80% generally require private mortgage insurance or additional
collateral.  We require all properties securing mortgage loans to be
appraised by a board-approved independent appraiser.  We generally
require title insurance on all first mortgage loans.  All borrowers
must obtain hazard insurance, and flood insurance is required for loans on
properties located in a flood zone, before closing the loan. Generally, all
loans are subject to the same stringent underwriting standards with the
intention to hold in portfolio. Management occasionally sells loans to (1) limit
the Bank’s exposure to a single borrower or (2) in specific circumstances to
manage the interest rate risk. All loans subject to sale are identified at the
time of origination.





Multi-Family
and Nonresidential Real Estate Loans.  On a limited basis, we
offer fixed-rate mortgage loans secured by multi-family and nonresidential real
estate.  Our multi-family and nonresidential real estate loans are
generally secured by apartment buildings, small office buildings and
owner-occupied properties.  In addition to originating these loans, we
also participate in loans with other financial institutions located primarily in
the Commonwealth of Pennsylvania.  Such participations include
adjustable-rate mortgage loans originated by other institutions.





We originate fixed-rate multi-family
and nonresidential real estate loans with terms up to 30 years.  These
loans are secured by first mortgages, and amounts generally do not exceed 80% of
the property’s appraised value at the time the loan is originated.





Home
Equity Loans and Lines of Credit.We currently offer home
equity loans with fixed interest rates for terms up to 15 years and maximum
combined loan to value ratios of 80%.  We offer loans with adjustable
interest rates tied to a market index in our market area.





Consumer
Loans.We currently offer consumer loans in the form of
education loans and, to a much lesser extent, loans secured by savings accounts
or time deposits and secured personal loans.





The procedures for underwriting
consumer loans include an assessment of the applicant’s payment history on other
debts and ability to meet existing obligations and payments on the proposed
loan.  Although the applicant’s creditworthiness is a primary
consideration, the underwriting process also includes a comparison of the value
of the collateral, if any, to the proposed loan amount.





We offer education loans under the
Federal Family Education Loan Program.  Interest on these loans is an
annual variable rate which currently may not exceed 9.0%.  Such loans
have terms of at least 10 years but no more than 15 years to repay their
loans.  An extended repayment plan is available in some
circumstances.  Those loans are insured against default by the
Pennsylvania Higher Education Assistance Agency.





We offer consumer loans secured by
deposit accounts with fixed interest rates and terms up to five
years.


3


Loan
Underwriting Risks




Multi-Family
and Nonresidential Real Estate Loans.Loans secured
by multi-family and nonresidential real estate generally have larger balances
and involve a greater degree of risk than one- to four-family residential
mortgage loans.  Of primary concern in multi-family and nonresidential
real estate lending is the borrower’s creditworthiness and the feasibility and
cash flow potential of the project.  Payments on loans secured by
income properties often depend on successful operation and management of the
properties.  As a result, repayment of such loans may be subject to a
greater extent than residential real estate loans to adverse conditions in the
real estate market or the economy.  To monitor cash flows on income
properties, we generally require borrowers and loan guarantors, if any, to
provide annual financial statements on multi-family and nonresidential real
estate loans.  In reaching a decision on whether to make a
multi-family and nonresidential real estate loan, we consider the net operating
income of the property, the borrower’s expertise, credit history and
profitability and the value of the underlying property.  We have
generally required that the properties securing these real estate loans have
debt service coverage ratios (the ratio of earnings before debt service to debt
service) of at least 1.25x.  Environmental surveys are obtained when
circumstances suggest the possibility of the presence of hazardous
materials.





We
underwrite all loan participations to our own underwriting
standards.  In addition, we also consider the financial strength and
reputation of the lead lender.  To monitor cash flows on loan
participations, we require the lead lender to provide annual financial
statements for the borrower.  We also conduct an annual internal loan
review for all loan participations.




Loan
Originations, Purchases and Sales.Loan
originations come from a number of sources.  The primary sources of
loan originations are existing customers, walk-in traffic, advertising and
referrals from customers.  We advertise in newspapers that are widely
circulated in Montgomery, Bucks and Philadelphia
Counties.  Accordingly, when our rates are competitive, we attract
loans from throughout Montgomery, Bucks and Philadelphia Counties.  We
occasionally purchase loans and participation interests in
loans.  Generally, all loans are subject to the same stringent
underwriting standards with the intention to hold in
portfolio.  Management occasionally sells loans to (1) limit the
Bank’s exposure to a single borrower or (2) in specific circumstances to manage
the interest rate risk.  All loans subject to sale are identified at
the time of origination.





Loan
Approval Procedures and Authority.Our
lending activities follow written, non-discriminatory, underwriting standards
and loan origination procedures established by our board of directors and
management.  A loan committee consisting of officers of Polonia Bank
has authority to approve all conforming one- to four-family loans and education
loans.  Designated loan officers have the authority to approve savings
account loans.  All other loans, generally consisting of
non-conforming one- to four-family loans, jumbo loans, commercial real estate
and employee loans must be approved by the board of directors.




Loans
to One Borrower.  The maximum amount that we may lend to one
borrower and the borrower’s related entities generally is limited, by
regulation, to 15% of our stated capital and reserves.  At December
31, 2008, our general regulatory limit on loans to one borrower was $3.1
million.  At that date, our largest lending relationship was $2.1
million and was secured by two one-to-four family properties.  These
loans were performing in accordance with their original terms at December 31,
2008.




Loan
Commitments.We issue commitments for
fixed-rate mortgage loans conditioned upon the occurrence of certain
events.  Commitments to originate mortgage loans are legally binding
agreements to lend to our customers.  Generally, our mortgage loan
commitments expire after 60 days.




Investment
Activities




We have
legal authority to invest in various types of liquid assets, including U.S.
Treasury obligations, securities of various federal agencies and municipal
governments, mortgage-backed securities, deposits at the Federal Home Loan Bank
(“FHLB”) of Pittsburgh and time deposits of federally insured
institutions.  Within certain regulatory limits, we also may invest a
portion of our assets in mutual funds.  We also are required to
maintain an investment in FHLB of Pittsburgh stock.  While we have the
authority under applicable law to invest in derivative securities, our
investment policy does not permit this investment.  We had no
investments in derivative securities at December 31, 2008.





At
December 31, 2008 our investment portfolio totaled $37.8 million and consisted
primarily of mortgage-backed securities.


4





Our
investment objectives are to provide and maintain liquidity, to establish an
acceptable level of interest rate and credit risk, to provide an alternate
source of low-risk investments when demand for loans is weak and to generate a
favorable return.  Our board of directors has the overall
responsibility for the investment portfolio, including approval of our
investment policy and appointment of the Asset/Liability and Investment
Committee.  Individual investment transactions are reviewed and
ratified by our board of directors monthly.




Deposit
Activities and Other Sources of Funds




General.  Deposits,
borrowings and loan repayments are the major sources of our funds for lending
and other investment purposes.  Loan repayments are a relatively
stable source of funds, while deposit inflows and outflows and loan prepayments
are significantly influenced by general interest rates and money market
conditions.





Deposit
Accounts.Substantially
all of our depositors are residents of the Commonwealth of
Pennsylvania.  Deposits are attracted, by advertising and through our
website, from within our market areas through the offering of a broad selection
of deposit instruments, including non-interest-bearing demand accounts (such as
checking accounts), interest-bearing accounts (such as NOW and money market
accounts), regular savings accounts and time deposits.  Generally, we
do not utilize brokered funds.  Deposit account terms vary according
to the minimum balance required, the time periods the funds must remain on
deposit and the interest rate, among other factors.  In determining
the terms of our deposit accounts, we consider the rates offered by our
competition, our liquidity needs, profitability to us, matching deposit and loan
products and customer preferences and concerns.  We generally review
our deposit mix and pricing weekly.  Our current strategy is to offer
competitive rates and to be in the middle to high-end of the market for rates on
all types of deposit products.





Borrowings.We
utilize advances from the FHLB of Pittsburgh to supplement our supply of funds
for lending and investment.  The FHLB functions as a central reserve
bank providing credit for its member financial institutions.  As a
member, we are required to own capital stock in the FHLB and are authorized to
apply for advances on the security of such stock and certain of our whole first
mortgage loans and other assets (principally securities which are obligations
of, or guaranteed by, the United States), provided certain standards related to
creditworthiness have been met.  Advances are made under several
different programs, each having its own interest rate and range of
maturities.  Depending on the program, limitations on the amount of
advances are based either on a fixed percentage of an institution’s net worth or
on the FHLB’s assessment of the institution’s creditworthiness.





Personnel





As of
December 31, 2008, we had 41 full-time employees and 5 part-time employees, none
of whom is represented by a collective bargaining unit.  We believe
our relationship with our employees is good.





Subsidiaries





Polonia Bank has two wholly-owned
subsidiaries, Polonia Bank Mutual Holding Company (“PBMHC”), a Delaware
corporation, and Community Abstract Agency LLC, a Pennsylvania limited liability
company.  PBMHC was formed in 1997 to hold certain assets and conduct
certain investment activities of Polonia Bank.  Community Abstract
Agency LLC was formed in 1999 to provide title insurance services.





ITEM
      1A.
            RISK
      FACTORS





We
had operating losses during our last three full fiscal
years.  Continued losses will have an adverse impact on our stock
price.





We had net operating losses of
$246,000, $326,000 and $219,000 for the years ended December 31, 2008, 2007 and
2006, respectively.  The primary reasons for the operating losses in
2008 were the result of write-downs taken on our investment in Freddie Mac
preferred stock of $412,000 and a decrease in the value of our bank-owned life
insurance (“BOLI”) of $237,000.  The primary reasons for the operating
losses in 2007 were the result of additional expenses of $266,000 related to
operating as a public company.  The primary reasons for the operating
losses in 2006 were non-recurring transactions related to the restructuring of
our investment portfolio and due to the recognition of an other-than-temporary
impairment charge related to the market value of mutual fund securities of
$167,000.   We incurred non-recurring restructuring charges of
$0, $0 and $167,000 for the years ended December 31, 2008, 2007 and 2006,
respectively.


5


The
current economic environment poses significant challenges for us and could
adversely affect our financial condition and results of operations.





We
currently are operating in a challenging and uncertain economic environment,
both nationally and in the local markets that we serve. Financial institutions
continue to be affected by sharp declines in financial and real estate
values.  Continued declines in real estate values and home sales, and
an increase in the financial stress on borrowers stemming from an uncertain
economic environment, including rising unemployment, could have an adverse
effect on our borrowers or their customers, which could adversely impact the
repayment of the loans we have made. The overall deterioration in economic
conditions also could subject us to increased regulatory scrutiny. In addition,
a prolonged recession, or further deterioration in local economic conditions,
could result in an increase in loan delinquencies; an increase in problem assets
and foreclosures; and a decline in the value of the collateral for our
loans.  Furthermore, a prolonged recession or further deterioration in
local economic conditions could drive the level of loan losses beyond the level
we have provided for in our loan loss allowance, which could necessitate our
increasing our provision for loans losses,  which would reduce our
earnings.  Additionally, the demand for our products and services
could be reduced, which would adversely impact our liquidity and the level of
revenues we generate.





If
we conclude that the decline in value of any of our investment securities is
other than temporary, we are required to write down the value of that security
through a charge to earnings.





We review our investment securities
portfolio at each quarter-end reporting period to determine whether the fair
value is below the current carrying value. When the fair value of any of our
investment securities has declined below its carrying value, we are required to
assess whether the decline is other than temporary. If we conclude that the
decline is other than temporary, we are required to write down the value of that
security through a charge to earnings. As of December 31, 2008, our investment
portfolio included securities with a book value of $36.8 million and an
estimated fair value of $37.8 million.  Changes in the expected cash
flows of these securities and/or prolonged price declines may result in our
concluding in future periods that the impairment of these securities is other
than temporary, which would require a charge to earnings to write down theses
securities to their fair value. Any charges for other-than-temporary impairment
would not impact cash flow, tangible capital or liquidity.





Future FDIC
assessments will hurt our
earnings.





In February 2009, the FDIC adopted an
interim final rule imposing a special assessment on all insured institutions due
to recent bank and savings association failures.  The emergency
assessment amounts to 20 basis points of assessable deposits as of June 30,
2009.  The assessment will be collected on September 30,
2009.  The special assessment will negatively impact the Company’s
earnings and the Company expects that non-interest expenses will increase
approximately $330,000 in 2009 as compared to 2008.  In addition, the
interim rule would also permit the FDIC to impose additional emergency special
assessments after June 30, 2009, of up to 10 basis points per
quarter if necessary to maintain public confidence in federal deposit
insurance or as a result of deterioration in the deposit insurance fund reserve
ratio due to institution failures.  Any additional emergency special
assessment imposed by the FDIC will further hurt the Company’s
earnings.


6


Fluctuations
in interest rates may hurt our earnings and asset value.





Like other financial institutions, the
Company is subject to interest rate risk.  The Company’s primary
source of income is net interest income, which is the difference between
interest earned on loans and investments and the interest paid on deposits and
borrowings. Changes in the general level of interest rates can affect the
Company’s net interest income by affecting the difference between the
weighted-average yield earned on the Company’s interest-earning assets and the
weighted-average rate paid on the Company’s interest-bearing liabilities, or
interest rate spread and the average life of the Company’s interest-earning
assets and interest-bearing liabilities.  Changes in interest rates
also can affect:  (1) the ability to originate loans; (2) the value of
the Company’s interest-earning assets and the Company’s ability to realize gains
from the sale of such assets; and 3) the ability to obtain and retain deposits
in competition with other available investment alternatives.  Interest
rates are highly sensitive to many factors, including government monetary
policies, domestic and international economic and political conditions and other
factors beyond the Company’s control.  Although the Company believes
that the estimated maturities of its interest-earning assets currently are well
balanced in relation to the estimated maturities of its interest-bearing
liabilities, there can be no assurance that the Company’s profitability would
not be adversely affected during any period of changes in interest
rates.





Our
cost of operations is high relative to our assets.  Our failure to
maintain or reduce our operating expenses could hurt our profits.





Our operating expenses, which consist
primarily of salaries and employee benefits, occupancy, furniture and equipment
expense, professional fees and data processing expense, totaled $6.1 million and
$5.9 million for the years ended December 31, 2008 and 2007,
respectively.  Our ratio of non-interest expense to average total
assets was 2.89% and 2.99% for the years ended December 31, 2008 and 2007,
respectively.  Our efficiency ratio totaled 104.4% for 2008 compared
to 108.5% for 2007.  The increase in expenses during 2008 was
primarily due to higher compensation and employee benefits.   The
failure to reduce our expenses could hurt our profits.





A
significant percentage of our assets are invested in securities which typically
have a lower yield than our loan portfolio.





Our results of operations are
substantially dependent on our net interest income, which is the difference
between the interest income earned on our interest-earning assets and the
interest expense paid on our interest-bearing liabilities.  At
December 31, 2008, 17.2% of our assets were invested in investment and
mortgage-backed securities.  These investments yield substantially
less than the loans we hold in our portfolio.  While we have recently
restructured our investment portfolio to increase our investment in higher
yielding securities and, depending on market conditions, intend to invest a
greater proportion of our assets in loans with the goal of increasing our net
interest income, there can be no assurance that we will be able to increase the
origination or purchase of loans acceptable to us or that we will be able to
successfully implement this strategy.





Strong
competition within our market areas could hurt our profits and slow
growth.





We face intense competition both in
making loans and attracting deposits.  This competition has made it
more difficult for us to make new loans and at times has forced us to offer
higher deposit rates.  Price competition for loans and deposits might
result in us earning less on our loans and paying more on our deposits, which
would reduce net interest income.  Competition also makes it more
difficult to grow loans and deposits.  As of December 31, 2008,
we held less than 1.0 % of the deposits in the Philadelphia metropolitan
area.  Competition also makes it more difficult to hire and retain
experienced employees.  Some of the institutions with which we compete
have substantially greater resources and lending limits than we have and may
offer services that we do not provide.  We expect competition to
increase in the future as a result of legislative, regulatory and technological
changes and the continuing trend of consolidation in the financial services
industry.  Our profitability depends upon our continued ability to
compete successfully in our market areas.  For more information about
our market areas and the competition we face, see “Our Business—Market Areas”
and “Our
Business—Competition.”





We
operate in a highly regulated environment and we may be adversely affected by
changes in laws and regulations.





We are subject to extensive regulation,
supervision and examination by the OTS, our primary federal regulator, and by
the FDIC, as insurer of our deposits.  Polonia MHC, Polonia Bancorp
and Polonia Bank are all subject to regulation and supervision by the
OTS.  Such regulation and supervision governs the activities in which
an institution and its holding company may engage, and are intended primarily
for the protection of the insurance fund and the depositors and borrowers of
Polonia Bank rather than for holders of Polonia Bancorp common
stock.  Regulatory authorities have extensive discretion in their
supervisory and enforcement activities, including the imposition of restrictions
on our operations, the classification of our assets and determination of the
level of our allowance for loan losses.  Any change in such regulation
and oversight, whether in the form of regulatory policy, regulations,
legislation or supervisory action, may have a material impact on our
operations.


7


Our
low return on equity may negatively impact the value of our common
stock.





Return on equity, which equals net
income divided by average equity, is a ratio used by many investors to compare
the performance of a particular company with other companies.  For the
year ended December 31, 2008, our annualized return on equity was negative
1.04%.  Over time, we intend to use the net proceeds from our recent
stock offering to increase earnings per share and book value per share, without
assuming undue risk, with the goal of achieving a return on equity that is
competitive with other publicly held subsidiaries of mutual holding
companies.  This goal could take a number of years to achieve, and we
cannot assure you that it will be attained.  Consequently, you should
not expect a competitive return on equity in the near future.  Failure
to achieve a competitive return on equity might make an investment in our common
stock unattractive to some investors and might cause our common stock to trade
at lower prices than comparable companies with higher returns on
equity.





Polonia
MHC’s majority control of our common stock will enable it to exercise voting
control over most matters put to a vote of stockholders and will prevent
stockholders from forcing a sale or a second-step conversion transaction you may
find advantageous.





Polonia MHC owns a majority of Polonia
Bancorp’s common stock and, through its board of directors, is able to exercise
voting control over most matters put to a vote of stockholders.  The
same directors and officers who manage Polonia Bancorp and Polonia Bank also
manage Polonia MHC.  As a federally chartered mutual holding company,
the board of directors of Polonia MHC must ensure that the interests of
depositors of Polonia Bank are represented and considered in matters put to a
vote of stockholders of Polonia Bancorp.  Therefore, the votes cast by
Polonia MHC may not be in your personal best interests as a
stockholder.  For example, Polonia MHC may exercise its voting control
to defeat a stockholder nominee for election to the board of directors of
Polonia Bancorp.  In addition, stockholders will not be able to force
a merger or second-step conversion transaction without the consent of Polonia
MHC since such transactions also require, under federal corporate law, the
approval of at least two-thirds of all outstanding voting stock which can only
be achieved if Polonia MHC voted to approve such transactions.  Some
stockholders may desire a sale or merger transaction, since stockholders
typically receive a premium for their shares, or a second-step conversion
transaction, since, on a fully converted basis most full stock institutions tend
to trade at higher multiples than mutual holding
companies.  Stockholders could, however, prevent a second step
conversion or the implementation of equity incentive plans as under current
Office of Thrift Supervision regulations and policies, such matters also require
the separate approval of the stockholders other than Polonia MHC.





Office
of Thrift Supervision policy on remutualization transactions could prohibit
acquisition of Polonia Bancorp, which may adversely affect our stock
price.





Current Office of Thrift Supervision
regulations permit a mutual holding company to be acquired by a mutual
institution in a remutualization transaction.  The possibility of a
remutualization transaction has resulted in a degree of takeover speculation for
mutual holding companies that is reflected in the per share price of mutual
holding companies’ common stock.  However, the Office of Thrift
Supervision has issued a policy statement indicating that it views
remutualization transactions as raising significant issues concerning disparate
treatment of minority stockholders and mutual members of the target entity and
raising issues concerning the effect on the mutual members of the acquiring
entity.  Under certain circumstances, the Office of Thrift Supervision
intends to give these issues special scrutiny and reject applications providing
for the remutualization of a mutual holding company unless the applicant can
clearly demonstrate that the Office of Thrift Supervision’s concerns are not
warranted in the particular case.  Should the Office of Thrift
Supervision prohibit or otherwise restrict these transactions in the future, our
per share stock price may be adversely affected.  In addition, Office
of Thrift Supervision regulations prohibit, for three years following completion
of the offering, the acquisition of more than 10% of any class of equity
security issued by us without the prior approval of the Office of Thrift
Supervision.


8


Office
of Thrift Supervision regulations and anti-takeover provisions in our charter
restrict the accumulation of our common stock, which may adversely affect our
stock price.





Office of
Thrift Supervision regulations provide that for a period of three years
following the date of the completion of the reorganization, no person, acting
alone, together with associates or in a group of persons acting in concert, will
directly or indirectly offer to acquire or acquire the beneficial ownership of
more than 10% of our common stock without the prior written approval of the
Office of Thrift Supervision.  In addition, Polonia Bancorp’s charter
provides that, for a period of five years from the date of the reorganization,
no person, other than Polonia MHC, may acquire directly or indirectly the
beneficial ownership of more than 10% of any class of any equity security of
Polonia Bancorp.  In the event a person acquires shares in violation
of this charter provision, all shares beneficially owned by such person in
excess of 10% will be considered “excess shares” and will not be counted as
shares entitled to vote or counted as voting shares in connection with any
matters submitted to the stockholders for a vote.  These factors make
it more difficult and less attractive for stockholders to acquire a significant
amount of our common stock, which may adversely affect our stock
price.




Regulation
and Supervision


General





As a federal mutual holding company,
Polonia MHC is required by federal law to report to, and otherwise comply with
the rules and regulations of, the OTS.  Polonia Bancorp as a federally
chartered corporation, is also subject to reporting to and regulation by the
OTS.  Polonia Bank, as an insured federal savings association, is
subject to extensive regulation, examination and supervision by the OTS, as its
primary federal regulator, and the FDIC, as the deposit
insurer.  Polonia Bank is a member of the FHLB System and, with
respect to deposit insurance, of the Deposit Insurance Fund managed by the
FDIC.  Polonia Bank must file reports with the OTS and the FDIC
concerning its activities and financial condition in addition to obtaining
regulatory approvals prior to entering into certain transactions such as mergers
with, or acquisitions of, other savings associations.  The OTS and/or
the FDIC conduct periodic examinations to test the Bank’s safety and soundness
and compliance with various regulatory requirements.  This regulation
and supervision establishes a comprehensive framework of activities in which an
institution can engage and is intended primarily for the protection of the
insurance fund and depositors.  The regulatory structure also gives
the regulatory authorities extensive discretion in connection with their
supervisory and enforcement activities and examination policies, including
policies with respect to the classification of assets and the establishment of
adequate loan loss reserves for regulatory purposes.  Any change in
such regulatory requirements and policies, whether by the OTS, the FDIC or
Congress, could have a material adverse impact on Polonia MHC, Polonia Bancorp
and Polonia Bank and their operations.  Certain regulatory
requirements applicable to Polonia MHC, Polonia Bancorp and Polonia Bank are
referred to below or elsewhere herein.  The description of statutory
provisions and regulations applicable to savings associations and their holding
companies set forth below and elsewhere in this document does not purport to be
a complete description of such statutes and regulations and their effects on
Polonia MHC, Polonia Bancorp and Polonia Bank and is qualified in its entirety
by reference to the actual statutes and regulations.





Holding
Company Regulation





General.  Polonia
MHC and Polonia Bancorp are savings and loan holding companies within the
meaning of federal law.  As such, Polonia MHC and Polonia Bancorp are
registered with the OTS and are subject to OTS regulations, examinations,
supervision and reporting requirements.  In addition, the OTS has
enforcement authority over Polonia MHC and Polonia Bancorp and their non-savings
association subsidiaries.  Among other things, this authority permits
the OTS to restrict or prohibit activities that are determined to be a serious
risk to Polonia Bank.


9


Activities
Restrictions Applicable to Mutual Holding Companies.  Pursuant
to federal law and OTS regulations, a mutual holding company, such as Polonia
MHC, may engage in the following activities:  (i) investing in the
stock of a savings association; (ii) acquiring a mutual association through the
merger of such association into a savings association subsidiary of such holding
company or an interim savings association subsidiary of such holding company;
(iii) merging with or acquiring another holding company, one of whose
subsidiaries is a savings association; (iv) investing in a corporation, the
capital stock of which is available for purchase by a savings association under
federal law or under the law of any state where the subsidiary savings
association or associations share their home offices; (v) furnishing or
performing management services for a savings association subsidiary of such
company; (vi) holding, managing or liquidating assets owned or acquired from a
savings subsidiary of such company; (vii) holding or managing properties used or
occupied by a savings association subsidiary of such company properties used or
occupied by a savings association subsidiary of such company; (viii) acting as
trustee under deeds of trust; (ix) any other activity (A) that the Federal
Reserve Board, by regulation, has determined to be permissible for bank holding
companies under Section 4(c) of the Bank Holding Company Act, unless the OTS, by
regulation, prohibits or limits any such activity for savings and loan holding
companies; or (B) in which multiple savings and loan holding companies were
authorized (by regulation) to directly engage on March 5, 1987; and (x)
purchasing, holding, or disposing of stock acquired in connection with a
qualified stock issuance if the purchase of such stock by such savings and loan
holding company is approved by the OTS.





The Gramm-Leach Bliley Act of 1999 was
designed to modernize the regulation of the financial services industry by
expanding the ability of bank holding companies to affiliate with other types of
financial services companies such as insurance companies and investment banking
companies.  The legislation also expanded the activities permitted for
mutual savings and loan holding companies to also include any activity permitted
a “financial holding company” under the legislation, including a broad array of
insurance and securities activities.





Federal law prohibits a savings and
loan holding company, including a federal mutual holding company, from, directly
or indirectly or through one or more subsidiaries, acquiring more than 5% of the
voting stock of another savings association, or savings and loan holding company
thereof, without prior written approval of the OTS from acquiring or retaining,
with certain exceptions, more than 5% of a non-subsidiary holding company or
savings association.  A savings and loan holding company is also
prohibited from acquiring more than 5% of a company engaged in activities other
than those authorized by federal law or acquiring or retaining control of a
depository institution that is not insured by the FDIC.  In evaluating
applications by holding companies to acquire savings associations, the OTS must
consider the financial and managerial resources and future prospects of the
company and institution involved, the effect of the acquisition on the risk to
the insurance funds, the convenience and needs of the community and competitive
factors.





The OTS is prohibited from approving
any acquisition that would result in a multiple savings and loan holding company
controlling savings associations in more than one state,
except:  (i) the approval of interstate supervisory acquisitions
by savings and loan holding companies; and (ii) the acquisition of a
savings association in another state if the laws of the state of the target
savings association specifically permit such acquisitions.  The states
vary in the extent to which they permit interstate savings and loan holding
company acquisitions.





Although savings and loan holding
companies are not currently subject to regulatory capital requirements or
specific restrictions on the payment of dividends or other capital
distributions, federal regulations do prescribe such restrictions on subsidiary
savings associations.  Polonia Bank must notify the OTS 30 days before
declaring any dividend and comply with the additional restrictions described
below.  In addition, the financial impact of a holding company on its
subsidiary institution is a matter that is evaluated by the OTS and the agency
has authority to order cessation of activities or divestiture of subsidiaries
deemed to pose a threat to the safety and soundness of the
institution.





Stock
Holding Company Subsidiary Regulation.  The OTS has adopted
regulations governing the two-tier mutual holding company form of organization
and mid-tier stock holding companies that are controlled by mutual holding
companies.  We have adopted this form of organization, where Polonia
Bancorp is the stock holding company subsidiary of Polonia MHC.  Under
the rules, Polonia Bancorp holds all the shares of Polonia Bank and issues the
majority of its own shares to Polonia MHC.  In addition, Polonia
Bancorp is permitted to engage in activities that are permitted for Polonia MHC
subject to the same terms and conditions.  Finally, OTS regulations
specify that Polonia Bancorp must be federally chartered for supervisory
reasons.





Waivers
of Dividends.OTS regulations require mutual holding companies
to notify the agency if they propose to waive receipt of dividends from their
stock holding company subsidiary.  The OTS reviews dividend waiver
notices on a case-by-case basis and, in general, does not object to a waiver
if:  (i) the waiver would not be detrimental to the safe and sound
operation of the savings association; and (ii) the mutual holding company’s
board of directors determines that their waiver is consistent with such
directors’ fiduciary duties to the mutual holding company’s
members.  We anticipate that Polonia MHC will seek to waive dividends
that Polonia Bancorp may pay, if any.


10





Conversion
to Stock Form.OTS regulations permit
Polonia MHC to convert from the mutual form of organization to the capital stock
form of organization.  There can be no assurance when, if ever, a
conversion transaction will occur and the Board of Directors has no present
intention or plan to undertake a conversion transaction.  In a
conversion transaction, a new holding company would be formed as the successor
to Polonia Bancorp, Polonia MHC’s corporate existence would end and certain
depositors in Polonia Bank would receive a right to subscribe for shares of a
new holding company.  In a conversion transaction, each share of
common stock held by stockholders other than Polonia MHC would be automatically
converted into a number of shares of common stock of the new holding company
based on an exchange ratio designed to ensure that stockholders other than
Polonia MHC own the same percentage of common stock in the new holding company
as they owned in Polonia Bancorp immediately before conversion.  The
total number of shares held by stockholders other than Polonia MHC after a
conversion transaction would be increased by any purchases by such stockholders
in the stock offering conducted as part of the conversion
transaction.





Acquisition
of the Company.Under the Federal Change
in Control Act, a notice must be submitted to the OTS if any person (including a
company), or group acting in concert, seeks to acquire direct or indirect
“control” of a savings and loan holding company or savings
association.  Under certain circumstances, a change of control may
occur, and prior notice is required, upon the acquisition of 10% or more of the
outstanding voting stock of the company or institution, unless the OTS has found
that the acquisition will not result in a change of control of the
Company.  Under the Change in Control Act, the OTS generally has 60
days from the filing of a complete notice to act, taking into consideration
certain factors, including the financial and managerial resources of the
acquirer and the anti-trust effects of the acquisition.  Any company
that acquires control would then be subject to regulation as a savings and loan
holding company.





Federal
Savings Association Regulation





Business
Activities.  The activities of federal savings banks are
governed by federal law and regulations.  Those laws and regulations
delineate the nature and extent of the business activities in which federal
savings bank may engage.  In particular, certain lending authority for
federal savings banks, e.g., commercial,
non-residential real property loans and consumer loans, is limited to a
specified percentage of the institution’s capital or assets.





Capital
Requirements.  The OTS capital regulations require savings
associations to meet three minimum capital standards:  a 1.5% tangible
capital to total assets ratio; a 4% Tier 1 capital to total assets leverage
ratio (3% for institutions receiving the highest rating on the CAMELS
examination rating system); and an 8% risk-based capital ratio.  In
addition, the prompt corrective action standards discussed below also establish,
in effect, a minimum 2% tangible capital standard, a 4% leverage ratio (3% for
institutions receiving the highest rating on the CAMELS system) and, together
with the risk-based capital standard itself, a 4% Tier 1 risk-based capital
standard.  The OTS regulations also require that, in meeting the
tangible, leverage and risk-based capital standards, institutions must generally
deduct investments in and loans to subsidiaries engaged in activities as
principal that are not permissible for a national bank.





The risk-based capital standard for
savings associations requires the maintenance of Tier 1 (core) and total capital
(which is defined as core capital and supplementary capital, less certain
specified deductions from total capital such as reciprocal holdings of
depository institution capital, instruments and equity investments) to
risk-weighted assets of at least 4% and 8%, respectively.  In
determining the amount of risk-weighted assets, all assets, including certain
off-balance sheet activities, recourse obligations, residual interests and
direct credit substitutes, are multiplied by a risk-weight factor of 0% to 100%,
assigned by the OTS capital regulation based on the risks believed inherent in
the type of asset.  Core (Tier 1) capital is generally defined as
common stockholders’ equity (including retained earnings), certain
non-cumulative perpetual preferred stock and related surplus, and minority
interests in equity accounts of consolidated subsidiaries less intangibles other
than certain mortgage servicing rights and credit card
relationships.  The components of supplementary capital (Tier 2
capital) currently include cumulative preferred stock, long-term perpetual
preferred stock, mandatory convertible securities, subordinated debt and
intermediate preferred stock, the allowance for loan and lease losses, limited
to a maximum of 1.25% of risk-weighted assets, and up to 45% of unrealized gains
on available-for-sale equity securities with readily determinable fair market
values.  Overall, the amount of supplementary capital included as part
of total capital cannot exceed 100% of core capital.


11





The OTS also has authority to establish
individual minimum capital requirements in appropriate cases upon a
determination that an institution’s capital level is or may become inadequate in
light of the particular circumstances.  At December 31, 2008, Polonia
Bank met each of its capital requirements.





The following table presents Polonia
Bank’s capital position at December 31, 2008.





CapitalActual
                  
                  
                  Required
                  
                  
                  Excess(Dollars
      in thousands)Tangible
                  
                  $
                  19,898
                  
                  
                  $
                  4,392
                  
                  
                  $
                  15,506Tier
      1/Leverage
                  
                  
                  19,898
                  
                  
                  
                  8,783
                  
                  
                  
                  11,115Tier
      1/Risk-based
                  
                  
                  19,898
                  
                  
                  
                  4,432
                  
                  
                  
                  15,466Total/Risk-based
                  
                  
                  20,756
                  
                  
                  
                  8,863
                  
                  
                  
                  11,893





Prompt
Corrective Regulatory Action. The OTS is required to
take certain supervisory actions against undercapitalized institutions, the
severity of which depends upon the institution’s degree of
undercapitalization.  Generally, a savings association that has a
ratio of total capital to risk weighted assets of less than 8%, a ratio of Tier
1 (core) capital to risk-weighted assets of less than 4% or a ratio of core
capital to total assets of less than 4% (3% or less for institutions with the
highest examination rating) is considered to be “undercapitalized.”  A
savings association that has a total risk-based capital ratio less than 6%, a
Tier 1 capital ratio of less than 3% or a leverage ratio that is less than 3% is
considered to be “significantly undercapitalized” and a savings association that
has a tangible capital to assets ratio equal to or less than 2% is deemed to be
“critically undercapitalized.”  Subject to a narrow exception, the OTS
is required to appoint a receiver or conservator within specified time frames
for an institution that is “critically undercapitalized.”  The
regulation also provides that a capital restoration plan must be filed with the
OTS within 45 days of the date a savings association is deemed to have received
notice that it is “undercapitalized,” “significantly undercapitalized” or
“critically undercapitalized.”  Compliance with the plan must be
guaranteed by any parent holding company in an amount of up to the lesser of 5%
of the savings association’s total assets when it was deemed to be
undercapitalized or the amount necessary to achieve compliance with applicable
capital regulations.  In addition, numerous mandatory supervisory
actions become immediately applicable to an undercapitalized institution,
including, but not limited to, increased monitoring by regulators and
restrictions on growth, capital distributions and expansion.  The OTS
could also take any one of a number of discretionary supervisory actions,
including the issuance of a capital directive and the replacement of senior
executive officers and directors.  Significantly and undercapitalized
institutions are subject to additional mandatory and discretionary
restrictions.





Insurance
of Deposit Accounts.  Polonia Bank’s deposits are insured up to
applicable limits by the Deposit Insurance Fund of the FDIC.  The
Deposit Insurance Fund is the successor to the Bank Insurance Fund and the
Savings Association Insurance Fund, which were merged in 2006.  Under
the FDIC’s risk-based assessment system, insured institutions are assigned to
one of four risk categories based on supervisory evaluations, regulatory capital
levels and certain other factors.  An institution’s assessment rate
depends upon the category to which it is assigned, with less risky institutions
paying lower assessments.  For 2008, assessments ranged from five to
43 basis points of assessable deposits.  No institution may pay a
dividend if in default of the federal deposit insurance assessment.





Due to losses incurred by the Deposit
Insurance Fund from failed institutions in 2008, and anticipated future losses,
the FDIC adopted, pursuant to a Restoration Plan to replenish the fund, an
across the board seven basis point increase in the assessment range for the
first quarter of 2009.  The FDIC subsequently adopted further
refinements to its risk-based assessment system, effective April 1, 2009, that
effectively make the range seven to 77.5 basis points.  The FDIC may
adjust the scale uniformly from one quarter to the next, except that no
adjustment can deviate more than three basis points from the base scale without
notice and comment rulemaking.  The FDIC has also imposed on all
insured institutions an emergency special assessment of 20 basis points of
assessable deposits as of June 30, 2009 in order to cover losses to the Deposit
Insurance Fund and has mentioned the possibility of additional emergency
assessments of up to ten basis points per quarter, as deemed
necessary.


12





Due to the recent difficult economic
conditions, deposit insurance per account owner has been raised to $250,000 for
all types of accounts until January 1, 2010.  In addition, the FDIC
adopted an optional Temporary Liquidity Guarantee Program by which, for a fee,
noninterest bearing transaction accounts would receive unlimited insurance
coverage until December 31, 2009 and certain senior unsecured debt issued by
institutions and their holding companies would be guaranteed by the FDIC for a
limited period.  Polonia Bank made the business decision to
participate in the unlimited noninterest bearing transaction account coverage
and Polonia Bank, Polonia MHC and Polonia Bancorp optedto participate in the
unsecured debt guarantee program.





The Reform Act also provided for a
one-time credit for eligible institutions based on their assessment base as of
December 31, 1996.  Subject to certain limitations, credits could be
used beginning in 2007 to offset assessments until exhausted.  The
Bank’s one-time credit approximated $143,000.  The Reform Act also
provided for the possibility that the FDIC may pay dividends to insured
institutions once the Deposit Insurance fund reserve ratio equals or exceeds
1.35% of estimated insured deposits.





In addition to the assessment for
deposit insurance, institutions are required to make payments on bonds issued in
the late 1980s by the Financing Corporation to recapitalize a predecessor
deposit insurance fund.  That payment is established quarterly and
during the calendar year ending December 31, 2008 averaged 1.12 basis points of
assessable deposits.





The FDIC has authority to increase
insurance assessments.  A significant increase in insurance premiums
would likely have an adverse effect on the operating expenses and results of
operations of Polonia Bank.  Management cannot predict what insurance
assessment rates will be in the future.





Insurance of deposits may be terminated
by the FDIC upon a finding that the institution has engaged in unsafe or unsound
practices, is in an unsafe or unsound condition to continue operations or has
violated any applicable law, regulation, rule, order or condition imposed by the
FDIC or the OTS.  The management of Polonia Bank does not know of any
practice, condition or violation that might lead to termination of deposit
insurance.





Loans
to One Borrower.  Federal law provides that savings
associations are generally subject to the limits on loans to one borrower
applicable to national banks.  Generally, subject to certain
exceptions, a savings association may not make a loan or extend credit to a
single or related group of borrowers in excess of 15% of its unimpaired capital
and surplus.  An additional amount may be lent, equal to 10% of
unimpaired capital and surplus, if secured by specified readily-marketable
collateral.





QTL
Test.  Federal law requires savings associations to meet a
qualified thrift lender test.  Under the test, a savings association
is required to either qualify as a “domestic building and loan association”
under the Internal Revenue Code or maintain at least 65% of its “portfolio
assets” (total assets less: (i) specified liquid assets up to 20% of total
assets; (ii) intangibles, including goodwill; and (iii) the value of property
used to conduct business) in certain “qualified thrift investments” (primarily
residential mortgages and related investments, including certain mortgage-backed
securities but also defined to include education, credit card and small business
loans) in at least 9 months out of each 12 month period.  Recent
legislation has expanded the extent to which education loans, credit card loans
and small business loans may be considered “qualified thrift
investments.”





A savings association that fails the
qualified thrift lender test is subject to certain operating restrictions and
may be required to convert to a bank charter.  As of December 31,
2008, Polonia Bank maintained 91.2% of its portfolio assets in qualified thrift
investments and, therefore, met the qualified thrift lender
test.


13


Limitation
on Capital Distributions.  OTS regulations impose limitations
upon all capital distributions by a savings association, including cash
dividends, payments to repurchase its shares and payments to shareholders of
another institution in a cash-out merger.  Under the regulations, an
application to and prior approval of the OTS is required prior to any capital
distribution if the institution does not meet the criteria for “expedited
treatment” of applications under OTS regulations (i.e., generally, examination
and Community Reinvestment Act ratings in the two top categories), the total
capital distributions for the calendar year exceed net income for that year plus
the amount of retained net income for the preceding two years, the institution
would be undercapitalized following the distribution or the distribution would
otherwise be contrary to a statute, regulation or agreement with the
OTS.  If an application is not required, the institution must still
provide prior notice to the OTS of the capital distribution if, like Polonia
Bank, it is a subsidiary of a holding company.  In the event Polonia
Bank’s capital fell below its regulatory requirements or the OTS notified it
that it was in need of increased supervision, Polonia Bank’s ability to make
capital distributions could be restricted.  In addition, the OTS could
prohibit a proposed capital distribution by any institution, which would
otherwise be permitted by the regulation, if the OTS determines that such
distribution would constitute an unsafe or unsound practice.





Standards
for Safety and Soundness.  The federal banking agencies have
adopted Interagency Guidelines prescribing Standards for Safety and Soundness in
various areas such as internal controls and information systems, internal audit,
loan documentation and credit underwriting, interest rate exposure, asset growth
and quality, earnings and compensation, fees and benefits.  The
guidelines set forth the safety and soundness standards that the federal banking
agencies use to identify and address problems at insured depository institutions
before capital becomes impaired.  If the OTS determines that a savings
association fails to meet any standard prescribed by the guidelines, the OTS may
require the institution to submit an acceptable plan to achieve compliance with
the standard.





Transactions
with Related Parties.  The Bank’s authority to engage in
transactions with  “affiliates” (e.g., any entity that
controls or is under common control with an institution, including Polonia MHC,
Polonia Bancorp and their other subsidiaries) is limited by federal
law.  The aggregate amount of covered transactions with any individual
affiliate is limited to 10% of the capital and surplus of the savings
association.  The aggregate amount of covered transactions with all
affiliates is limited to 20% of the savings association’s capital and
surplus.  Certain transactions with affiliates are required to be
secured by collateral in an amount and of a type specified by federal
law.  The purchase of low quality assets from affiliates is generally
prohibited.  The transactions with affiliates must be on terms and
under circumstances that are at least as favorable to the institution as those
prevailing at the time for comparable transactions with non-affiliated
companies.  In addition, savings associations are prohibited from
lending to any affiliate that is engaged in activities that are not permissible
for bank holding companies and no savings association may purchase the
securities of any affiliate other than a subsidiary.





The Sarbanes-Oxley Act of 2002
generally prohibits loans by a company to its executive officers and
directors.  However, the law contains a specific exception for loans
by a depository institution like Polonia Bank to its executive officers and
directors in compliance with federal banking laws.  Under such laws,
Polonia Bank’s authority to extend credit to executive officers, directors and
10% shareholders (“insiders”), as well as entities such persons control, is
limited.  The laws limit both the individual and aggregate amount of
loans that Polonia Bank may make to insiders based, in part, on Polonia Bank’s
capital level and requires that certain board approval procedures be
followed.  Such loans are required to be made on terms substantially
the same as those offered to unaffiliated individuals and not involve more than
the normal risk of repayment.  There is an exception for loans made
pursuant to a benefit or compensation program that is widely available to all
employees of the institution and does not give preference to insiders over other
employees.  Loans to executive officers are subject to additional
restrictions based on the type of loan involved.





Enforcement. The OTS has primary
enforcement responsibility over savings associations and has the authority to
bring actions against the institution and all institution-affiliated parties,
including stockholders, and any attorneys, appraisers and accountants who
knowingly or recklessly participate in wrongful action likely to have an adverse
effect on an insured institution.  Formal enforcement action may range
from the issuance of a capital directive or cease and desist order to removal of
officers and/or directors to institution of receivership, conservatorship or
termination of deposit insurance.  Civil penalties cover a wide range
of violations and can amount to $25,000 per day, or even $1 million per day in
especially egregious cases.  The FDIC has the authority to recommend
to the Director of the OTS that enforcement action to be taken with respect to a
particular savings association.  If action is not taken by the
Director, the FDIC has authority to take such action under certain
circumstances.  Federal law also establishes criminal penalties for
certain violations.


14





Assessments. Savings associations
are required to pay assessments to the OTS to fund the agency’s
operations.  The general assessments, paid on a semi-annual basis, are
computed based upon the savings association’s (including consolidated
subsidiaries) total assets, condition and complexity of
portfolio.  The OTS assessments paid by the Bank for the fiscal year
ended December 31, 2008 totaled $69,000.





Federal
Home Loan Bank System





Polonia Bank is a member of the FHLB
System, which consists of 12 regional FHLBs.  The FHLB provides a
central credit facility primarily for member institutions.  Polonia
Bank, as a member of the FHLB, is required to acquire and hold shares of capital
stock in that FHLB.  Polonia Bank was in compliance with this
requirement with an investment in FHLB stock at December 31, 2008 of $2.3
million.





The FHLBs are required to provide funds
for the resolution of insolvent thrifts in the late 1980s and to contribute
funds for affordable housing programs.  These requirements, or general
economic conditions, could reduce the amount of dividends that the FHLBs pay to
their members and could also result in the FHLBs imposing a higher rate of
interest on advances to their members.  If dividends were reduced, or
interest on future FHLB advances increased, Polonia Bank’s net interest income
would likely also be reduced.





Federal
Reserve System





The Federal Reserve Board regulations
require savings associations to maintain non-interest earning reserves against
their transaction accounts (primarily Negotiable Order of Withdrawal (NOW) and
regular checking accounts).  The regulations generally provide that
reserves be maintained against aggregate transaction accounts as
follows:  a 3% reserve ratio is assessed on net transaction accounts
up to and including $44.4 million; a 10% reserve ratio is applied above $44.4
million.  The first $10.3 million of otherwise reservable balances
(subject to adjustments by the Federal Reserve Board) are exempted from the
reserve requirements.  The amounts are adjusted
annually.  Polonia Bank complies with the foregoing
requirements.





Federal
and State Taxation





Federal
Income Taxation





General.We
report our income on a fiscal year basis using the accrual method of
accounting.  The federal income tax laws apply to us in the same
manner as to other corporations with some exceptions, including our reserve for
bad debts discussed below.  The following discussion of tax matters is
intended only as a summary and does not purport to be a comprehensive
description of the tax rules applicable to us.  For its 2008 year,
Polonia Bancorp’s maximum federal income tax rate was 34%.





Bad
Debt Reserves.For
fiscal years beginning before June 30, 1996, thrift institutions that qualified
under certain definitional tests and other conditions of the Internal Revenue
Code were permitted to use certain favorable provisions to calculate their
deductions from taxable income for annual additions to their bad debt
reserve.  A reserve could be established for bad debts on qualifying
real property loans, generally secured by interests in real property improved or
to be improved, under the percentage of taxable income method or the experience
method.  The reserve for nonqualifying loans was computed using the
experience method.  Federal legislation enacted in 1996 repealed the
reserve method of accounting for bad debts and the percentage of taxable income
method for tax years beginning after 1995 and require savings institutions to
recapture or take into income certain portions of their accumulated bad debt
reserves.  Approximately $1.4 million of our accumulated bad debt
reserves would not be recaptured into taxable income unless Polonia Bank makes a
“non-dividend distribution” to Polonia Bancorp as described
below.


15


Distributions.  If
Polonia Bank makes “non-dividend distributions” to Polonia Bancorp, the
distributions will be considered to have been made from Polonia Bank’s
unrecaptured tax bad debt reserves, including the balance of its reserves as of
December 31, 1987, to the extent of the “non-dividend distributions,” and then
from Polonia Bank’s supplemental reserve for losses on loans, to the extent of
those reserves, and an amount based on the amount distributed, but not more than
the amount of those reserves, will be included in Polonia Bank’s taxable
income.  Non-dividend distributions include distributions in excess of
Polonia Bank’s current and accumulated earnings and profits, as calculated for
federal income tax purposes, distributions in redemption of stock and
distributions in partial or complete liquidation.  Dividends paid out
of Polonia Bank’s current or accumulated earnings and profits will not be so
included in Polonia Bank’s taxable income.




The amount of additional taxable income
triggered by a non-dividend is an amount that, when reduced by the tax
attributable to the income, is equal to the amount of the
distribution.  Therefore, if Polonia Bank makes a non-dividend
distribution to Polonia Bancorp, approximately one and one-half times the amount
of the distribution not in excess of the amount of the reserves would be
includable in income for federal income tax purposes, assuming a 34% federal
corporate income tax rate.  Polonia Bank does not intend to pay
dividends that would result in a recapture of any portion of its bad debt
reserves.





State Taxation





Pennsylvania
Taxation.  Polonia Bancorp is subject to the Pennsylvania
Corporate Net Income Tax, Capital Stock and Franchise Tax.  The
Corporation Net Income Tax rate for 2008 is 9.9% and is imposed on
unconsolidated taxable income for federal purposes with certain
adjustments.  In general, the Capital Stock and Franchise Tax is a
property tax imposed on a corporation’s capital stock value at a statutorily
defined rate, such value being determined in accordance with a fixed formula
based upon average net income and net worth.  Polonia Bank is subject
to tax under the Pennsylvania Mutual Thrift Institutions Tax Act, as amended to
include thrift institutions having capital stock.  Pursuant to the
Mutual Thrift Institutions Tax, the tax rate is 11.5%.  The Mutual
Thrift Institutions Tax exempts Polonia Bank from other taxes imposed by the
Commonwealth of Pennsylvania for state income tax purposes and from all local
taxation imposed by political subdivisions, except taxes on real estate and real
estate transfers.  The Mutual Thrift Institutions Tax is a tax upon
net earnings, determined in accordance with generally accepted accounting
principles with certain adjustments.  The Mutual Thrift Institutions
Tax, in computing income according to generally accepted accounting principles,
allows for the deduction of interest earned on state and federal obligations,
while disallowing a percentage of a thrift’s interest expense deduction in the
proportion of interest income on those securities to the overall interest income
of Polonia Bank.  Net operating losses, if any, thereafter can be
carried forward three years for Mutual Thrift Institutions Tax
purposes.





ITEM
      1B.
            UNRESOLVED
      STAFF COMMENTS





None.


16


ITEM
      2.
            PROPERTIES





We conduct our business through our
main office and branch offices.  The following table sets forth
certain information relating to these facilities as of December 31,
2008.





Location
                                      
                                      Original
      Year
                                        Leased
      or
                                        Acquired
                                      
                                      Leased,
                                        Licensed
      or
                                        Owned
                                      
                                      Net
      Book Value of
                                        Property
      or
                                        Leasehold
                                        Improvements
      at
                                        December
      31, 2008
                                        (In
      thousands)Main/Executive
      Office:3993
      Huntingdon Pike
                                        Huntingdon
      Valley, Pennsylvania 19006
                                      
                                      1996
                                      
                                      Owned
                                      
                                      $
                                      2,459Branch
      Offices:2646
      East Allegheny Avenue
                                        Philadelphia,
      Pennsylvania 19134
                                      
                                      1970
                                      
                                      Owned
                                      
                                      $
                                      1,2942133
      Spring Garden Street
                                        Philadelphia,
      Pennsylvania 19130
                                      
                                      1979
                                      
                                      Owned
                                      
                                      $
                                      2952628
      Orthodox Street
                                        Philadelphia,
      Pennsylvania 19137
                                      
                                      1999
                                      
                                      Owned
                                      
                                      $
                                      1228000
      Frankford Avenue
                                        Philadelphia,
      Pennsylvania 19136
                                      
                                      1992
                                      
                                      Owned
                                      
                                      $
                                      412





ITEM
      3.
              LEGAL
      PROCEEDINGS





Periodically, there have been various
claims and lawsuits against us, such as claims to enforce liens and contracts,
condemnation proceedings on properties in which we hold security interests,
claims involving the making and servicing of real property loans and other
issues incident to our business.  We are not a party to any pending
legal proceedings that we believe would have a material adverse effect on our
financial condition, results of operations or cash flows.





ITEM
      4.
            SUBMISSION
      OF MATTERS TO A VOTE OF SECURITY
HOLDERS





Not Applicable.


17





PART
II





ITEM
      5.
              MARKET
      FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF
      EQUITY SECURITIES





The common stock of Polonia Bancorp
is traded on the OTC Electronic Bulletin Board under the symbol
“PBCP.OB.”  The Company completed its initial public offering on
January 11, 2007 and commenced trading on January 16, 2007.





High
                      
                      
                      Low
                      
                      
                      
                      High
                      
                      
                      Low2008:
                      
                      
                      
                      
                      
                      
                      2007:First
      Quarter
                      
                      $
                      10.27
                      
                      
                      $
                      8.10
                      
                      First
      Quarter
                      
                      $
                      10.25
                      
                      
                      $
                      9.75Second
      Quarter
                      
                      
                      10.00
                      
                      
                      
                      7.80
                      
                      Second
      Quarter
                      
                      
                      10.05
                      
                      
                      
                      9.55Third
      Quarter
                      
                      
                      9.00
                      
                      
                      
                      7.00
                      
                      Third
      Quarter
                      
                      
                      10.20
                      
                      
                      
                      8.85Fourth
      Quarter
                      
                      
                      9.00
                      
                      
                      
                      8.10
                      
                      Fourth
      Quarter
                      
                      
                      9.98
                      
                      
                      
                      8.05





As of March 25, 2009 there were
approximately 196 holders of record of the Company’s common stock.





Polonia
Bancorp is not subject to OTS regulatory restrictions on the payment of
dividends.  However, Polonia Bancorp’s ability to pay dividends may
depend, in part, upon its receipt of dividends from Polonia Bank because Polonia
Bancorp has no source of income other than earnings from the investment of the
net proceeds from the offering that it retained.  Payment of cash
dividends on capital stock by a savings institution is limited by OTS
regulations.  Polonia Bank may not make a distribution that would
constitute a return of capital during the three-year term of the business plan
submitted in connection with its reorganization.  No insured
depository institution may make a capital distribution if, after making the
distribution, the institution would be undercapitalized.  Based on the
results of fiscal 2007 and 2008, Polonia Bank would not be permitted to dividend
funds to Polonia Bancorp without OTS approval.





As of December 31, 2008, Polonia
Bancorp satisfied all prescribed capital requirements.  Future
dividend payments will depend on the Company’s profitability, approval by its
Board of Directors and prevailing OTS regulations.  To date, we have
not declared any cash dividends.





The Company’s repurchases of equity
securities for the fourth quarter of 2008 were as follows:





Period
                
                Total
                  Number
      of
                  Shares
                  Purchased
                
                
                Average
                  Price
      Paid
                  Per
      Share
                
                
                Total
      Number
                  of
      Shares
                  Purchased
      as
                  Part
      of Publicly
                  Announced
                  Plans
                  or
      Programs(1)
                
                
                Maximum
                  Number
      of Shares
                  that
      May Yet be
                  Purchased
      Under
                  the
      Plans or
                  ProgramsOctober
      1 - 31, 2008
                
                
                13,500
                
                
                $
                8.60
                
                
                
                13,500
                
                
                
                47,741November
      1 - 30, 2008
                
                
                13,200
                
                
                
                8.60
                
                
                
                13,200
                
                
                
                34,541December
      1 - 31, 2008
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -Total
                
                
                26,700
                
                
                $
                8.60
                
                
                
                26,700





(1)
On March 4, 2008, the Company announced that the Board of Directors had approved
a stock repurchase program authorizing the company to repurchase up to 148,741
shares of the Company's common stock.


18


ITEM
      6.
              SELECTED
      FINANCIAL DATA





The
following tables set forth selected financial and other data of the Company and,
where indicated, the Bank for the periods and at the dates
indicated.





2008
                    
                    
                    2007
                    
                    
                    2006(Dollars
      in thousands, except per share data)
                    
                    
                    
                    
                    
                    
                    
                    (Bank
      only
                      data)Financial
      Condition Data:Total
      assets
                    
                    $
                    220,236
                    
                    
                    $
                    200,597
                    
                    
                    $
                    203,374Securities
      available-for-sale
                    
                    
                    37,789
                    
                    
                    
                    45,885
                    
                    
                    
                    45,681Loans
      receivable,
      net
                    
                    
                    163,759
                    
                    
                    
                    137,280
                    
                    
                    
                    111,923Cash
      and cash equivalents
                    
                    
                    4,671
                    
                    
                    
                    3,826
                    
                    
                    
                    31,866Deposits
                    
                    
                    164,586
                    
                    
                    
                    163,217
                    
                    
                    
                    157,722FHLB
      advances short-term
                    
                    
                    4,000
                    
                    
                    
                    6,000
                    
                    
                    
                    –FHLB
      advances long-term
                    
                    
                    24,553
                    
                    
                    
                    4,098
                    
                    
                    
                    6,245Stockholders’
      equity
                    
                    
                    23,604
                    
                    
                    
                    23,994
                    
                    
                    
                    11,777Book
      value per common share
                    
                    
                    7.40
                    
                    
                    
                    7.26
                    
                    
                    
                    N/AOperating
      Data:Interest
      income
                    
                    $
                    11,069
                    
                    
                    $
                    10,297
                    
                    
                    $
                    8,590Interest
      expense
                    
                    
                    5,312
                    
                    
                    
                    5,639
                    
                    
                    
                    4,240Net
      interest income
                    
                    
                    5,757
                    
                    
                    
                    4,658
                    
                    
                    
                    4,350Provision
      for loan losses
                    
                    
                    85
                    
                    
                    
                    31
                    
                    
                    
                    58Net
      interest income after provisionfor
      loan losses
                    
                    
                    5,672
                    
                    
                    
                    4,627
                    
                    
                    
                    4,292Non-interest
      income
                    
                    
                    85
                    
                    
                    
                    760
                    
                    
                    
                    650Non-interest
      expense
                    
                    
                    6,101
                    
                    
                    
                    5,878
                    
                    
                    
                    5,363Loss
      before income taxes
                    
                    
                    (344
                    )
                    
                    
                    (491
                    )
                    
                    
                    (421
                    )Provision
      for income taxes
                    
                    
                    (98
                    )
                    
                    
                    (165
                    )
                    
                    
                    (202
                    )Net
      loss
                    
                    $
                    (246
                    )
                    
                    $
                    (326
                    )
                    
                    $
                    (219
                    )Basic
      and diluted earnings per share
                    
                    
                    (0.08
                    )
                    
                    
                    (0.10
                    )
                    
                    
                    N/APerformance
      Ratios:Return
      on average assets
                    
                    
                    (0.12
                    )%
                    
                    
                    (0.17
                    )%
                    
                    
                    (0.13
                    )%Return
      on average equity
                    
                    
                    (1.04
                    )
                    
                    
                    (1.37
                    )
                    
                    
                    (1.87
                    )Interest
      rate spread(1)
                    
                    
                    2.63
                    
                    
                    
                    2.19
                    
                    
                    
                    2.67Net
      interest margin(2)
                    
                    
                    2.89
                    
                    
                    
                    2.53
                    
                    
                    
                    2.78Noninterest
      expense to average assets
                    
                    
                    2.89
                    
                    
                    
                    2.99
                    
                    
                    
                    3.17Efficiency
      ratio(3)
                    
                    
                    104.43
                    
                    
                    
                    108.45
                    
                    
                    
                    107.26Average
      interest-earning assets to average interest-bearing
      liabilities
                    
                    
                    109.76
                    
                    
                    
                    111.23
                    
                    
                    
                    104.04Average
      equity to average assets
                    
                    
                    11.15
                    
                    
                    
                    12.10
                    
                    
                    
                    6.91Capital Ratios
      (4):Tangible
      capital
                    
                    
                    9.06
                    
                    
                    
                    10.03
                    
                    
                    
                    5.91Core
      capital
                    
                    
                    9.06
                    
                    
                    
                    10.03
                    
                    
                    
                    5.91Total
      risk-based capital
                    
                    
                    18.73
                    
                    
                    
                    21.65
                    
                    
                    
                    14.49


19





2008
                    
                    
                    2007
                    
                    
                    2006(Dollars
      in thousands)Asset
      Quality Ratios:Allowance
      for loan losses as a percent of total loans
                    
                    
                    0.52
                    %
                    
                    
                    0.53
                    %
                    
                    
                    0.62
                    %Allowance
      for loan losses as a percent of nonperforming loans
                    
                    
                    117.70
                    
                    
                    
                    338.43
                    
                    
                    
                    253.64Net
      charge-offs (recoveries) to average outstanding loans during the
      period
                    
                    
                    (0.03
                    )
                    
                    
                    (0.01
                    )
                    
                    
                    0.01Non-performing
      loans as a percent of total loans
                    
                    
                    0.44
                    
                    
                    
                    0.16
                    
                    
                    
                    0.24Other
      Data:Number
      of:Real
      estate loans outstanding
                    
                    
                    1,082
                    
                    
                    
                    1,020
                    
                    
                    
                    939Deposit
      accounts
                    
                    
                    9,468
                    
                    
                    
                    9,863
                    
                    
                    
                    10,942Full-service
      offices
                    
                    
                    5
                    
                    
                    
                    5
                    
                    
                    
                    5





(1)
            Represents
      the difference between the weighted average yield on average
      interest-earning assets and the weighted average cost of interest-bearing
      liabilities.


(2)
            Represents
      net interest income as a percent of average interest-earning
      assets.


(3)
            Represents
      noninterest expense divided by the sum of net interest income and
      noninterest income.


(4)
            Ratios
      are for Polonia Bank.





ITEM
      7.
              MANAGEMENT’S
      DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
      OPERATIONS





Overview





Income.Our primary source of
pre-tax income is net interest income.  Net interest income is the
difference between interest income, which is the income that we earn on our
loans and securities, and interest expense, which is the interest that we pay on
our deposits and FHLB borrowings.  Other significant sources of
pre-tax income are service charges on deposit accounts and other loan fees
(including loan brokerage fees and late charges).  In addition, we
recognize income or losses from the sale of investments in years that we have
such sales.





Allowance
for Loan Losses.The allowance
for loan losses is a valuation allowance for probable incurred credit
losses.  Loan losses are charged against the allowance when management
believes the uncollectibility of a loan balance is
confirmed.  Subsequent recoveries, if any, are credited to the
allowance.  Management estimates the allowance balance required using
past loan loss experience, the nature and value of the portfolio, information
about specific borrower situations, and estimated collateral values, economic
conditions, and other factors.  Allocation of the allowance may be
made for specific loans, but the entire allowance is available for any loan
that, in management’s judgment, should be charged off.





Expenses.The non-interest expenses
we incur in operating our business consist of salaries and employee benefits
expenses, occupancy and equipment expenses, marketing expenses and various other
miscellaneous expenses.





Salaries
and employee benefits consist primarily of:  salaries and wages paid
to our employees; payroll taxes; and expenses for health insurance and other
employee benefits.  We have incurred additional annual employee
compensation expenses in fiscal 2008 stemming from the adoption of an equity
incentive plan.





Occupancy and equipment expenses, which
are the fixed and variable costs of buildings and equipment, consist primarily
of depreciation charges, furniture and equipment expenses, maintenance, real
estate taxes and costs of utilities.  Depreciation of premises and
equipment is computed using the straight-line method based on the useful lives
of the related assets, which range from three to 40 years.


20





Marketing expenses include expenses for
advertisements, promotions, third-party marketing services and premium
items.





Regulatory fees and deposit insurance
premiums are primarily payments we make to the FDIC for insurance of our deposit
accounts.





Other expenses include expenses for
supplies, telephone and postage, data processing, contributions and donations,
director and committee fees, insurance and surety bond premiums and other fees
and expenses.





Critical
Accounting Policies





We consider accounting policies
involving significant judgments and assumptions by management that have, or
could have, a material impact on the carrying value of certain assets or on
income to be critical accounting policies.  We consider the following
to be our critical accounting policies:  allowance for loan losses,
deferred income taxes and other-than-temporary impairment of
securities.





Allowance
for Loan Losses. The
allowance for loan losses is the amount estimated by management as necessary to
cover probable incurred credit losses in the loan portfolio at the statement of
financial condition date.  The allowance is established through the
provision for loan losses, which is charged to income.  Determining
the amount of the allowance for loan losses necessarily involves a high degree
of judgment.  Among the material estimates required to establish the
allowance are: loss exposure at default; the amount and timing of future cash
flows on impacted loans; the value of collateral; and the determination of loss
factors to be applied to the various elements of the portfolio.  All
of these estimates are susceptible to significant change.  Management
reviews the level of the allowance on a quarterly basis and establishes the
provision for loan losses based upon an evaluation of the portfolio, past loss
experience, current economic conditions and other factors related to the
collectibility of the loan portfolio.  Although we believe that we use
the best information available to establish the allowance for loan losses,
future adjustments to the allowance may be necessary if economic conditions
differ substantially from the assumptions used in making the
evaluation.  In addition, the Office of Thrift Supervision, as an
integral part of its examination process, periodically reviews our allowance for
loan losses.  Such agency may require us to recognize adjustments to
the allowance based on its judgments about information available to it at the
time of its examination.  A large loss could deplete the allowance and
require increased provisions to replenish the allowance, which would negatively
affect earnings.  For additional discussion, see note 4 of the
notes to the consolidated financial statements included in this annual report on
Form 10-K.





Deferred
Income Taxes.  We use the asset and liability method of
accounting for income taxes as prescribed in Statement of Financial Accounting
Standards No. 109, “Accounting for Income Taxes.”  Under this method,
deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases.  If current available information raises doubt as to the
realization of the deferred tax assets, a valuation allowance is
established.  Deferred tax assets and liabilities are measured using
enacted tax rates expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or
settled.  We exercise significant judgment in evaluating the amount
and timing of recognition of the resulting tax liabilities and
assets.  These judgments require us to make projections of future
taxable income.  The judgments and estimates we make in determining
our deferred tax assets, which are inherently subjective, are reviewed on a
continual basis as regulatory and business factors change.  Any
reduction in estimated future taxable income may require us to record a
valuation allowance against our deferred tax assets.  A valuation
allowance would result in additional income tax expense in the period, which
would negatively affect earnings.





Other-Than-Temporary
Impairment of Securities.  Statement of Financial Accounting
Standards No. 115, “Accounting for Certain Investments in Debt and Equity
Securities,” FASB Staff Position (FSP) 115-1 “The Meaning of
Other-Than-Temporary Impairment and Its Application to Certain Benefits,” and
Staff Accounting Bulletin 59, “Noncurrent Marketable Equity Securities,” require
companies to perform periodic reviews of individual securities in their
investment portfolios to determine whether a decline in the value of a security
is other than temporary.  A review of other-than-temporary impairment
requires companies to make certain judgments regarding the materiality of the
decline, its effect on the financial statements and the probability, extent and
timing of a valuation recovery and the company’s intent and ability to hold the
security.  Pursuant to these requirements, we assess valuation
declines to determine the extent to which such changes are attributable to (1)
fundamental factors specific to the issuer, such as financial condition,
business prospects or other factors or (2) market-related factors, such as
interest rates or equity market declines.  Declines in the fair value
of securities below their costs that are deemed to be other than temporary are
recorded in earnings as realized losses.


21


Balance
Sheet Analysis





Loans.Our
primary lending activity is the origination of loans secured by real
estate.  We primarily originate one- to four-family residential
loans.  To a much lesser extent, we originate multi-family and
nonresidential real estate loans and home equity and consumer
loans.  At December 31, 2008, our ratio of loans to total assets was
74.4%.





The largest segment of our loan
portfolio is one-to four-family residential loans.  At December 31,
2008, these loans totaled $144.5 million and represented 87.7% of total loans,
compared to $120.8 million, or 87.4% of total loans, at December 31,
2007.  The size of our one- to four-family residential loan portfolio
increased during the year ended December 31, 2008 due primarily to the
hiring of two one- to four-family loan originators who have been active in the
funding of originations throughout our lending territory.





Home equity loans totaled $4.2 million
and represented 2.5% of total loans at December 31, 2008, compared to $4.3
million, or 3.1% of total loans at December 31, 2007.  Home equity
loans decreased $100,000 or 2.3% during the year ended December 31,
2008.  Home equity lines of credit totaled $1.4 million and
represented  0.8% of total loans at December 31, 2008 compared to
$980,000 or 0.7% at total loans at December 31, 2007.





Multi-family and commercial real estate
loans totaled $12.0 million and represented 7.3% of total loans at December 31,
2008, compared to $9.8 million, or 7.1% of total loans, at December 31,
2007.  Multi-family and commercial real estate loans increased $2.2
million, or 22.4%, during the year ended December 31, 2008.  The
increase in multi-family and commercial real estate loans in 2008 was due to new
loan participations.





Consumer loans totaled $2.8 million and
represented 1.7% of total loans at December 31, 2008 compared to $2.3 million,
or 1.6% of total loans at December 31, 2007.  Consumer loans
increased $500,000, or 22.1%, during the year ended December 31,
2008.


22


The following table sets forth the
composition of our loan portfolio at the dates indicated.





At
      December 31,2008
                
                
                2007
                
                
                2006
                
                
                2005
                
                
                2004Amount
                
                
                Percent
                
                
                Amount
                
                
                Percent
                
                
                Amount
                
                
                Percent
                
                
                Amount
                
                
                Percent
                
                
                Amount
                
                
                Percent(Dollars
      in thousands)Real
      estate loans:One-
      to four-family
                
                $
                144,508
                
                
                
                87.68
                %
                
                $
                120,774
                
                
                
                87.42
                %
                
                $
                100,152
                
                
                
                88.84
                %
                
                $
                88,873
                
                
                
                90.96
                %
                
                $
                87,653
                
                
                
                89.99
                %Multi-family
      and commercial real estate
                
                
                12,020
                
                
                
                7.29
                
                
                
                9,803
                
                
                
                7.09
                
                
                
                5,212
                
                
                
                4.62
                
                
                
                3,563
                
                
                
                3.65
                
                
                
                3,611
                
                
                
                3.71Home
      equity loans
                
                
                4,172
                
                
                
                2.53
                
                
                
                4,343
                
                
                
                3.14
                
                
                
                4,229
                
                
                
                3.75
                
                
                
                2,558
                
                
                
                2.61
                
                
                
                2,705
                
                
                
                2.78Home
      equity lines of credit
                
                
                1,361
                
                
                
                0.83
                
                
                
                980
                
                
                
                0.71
                
                
                
                980
                
                
                
                0.87
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –Total real estate
      loans
                
                $
                162,061
                
                
                
                98.33
                
                
                $
                135,900
                
                
                
                98.36
                
                
                $
                110,573
                
                
                
                98.08
                
                
                $
                94,994
                
                
                
                97.22
                
                
                $
                93,969
                
                
                
                96.48Consumer:Education
                
                $
                2,690
                
                
                
                1.63
                
                
                $
                2,170
                
                
                
                1.57
                
                
                $
                2,137
                
                
                
                1.90
                
                
                $
                2,679
                
                
                
                2.74
                
                
                $
                3,117
                
                
                
                3.19Loans
      on savings accounts
                
                
                59
                
                
                
                0.04
                
                
                
                85
                
                
                
                0.06
                
                
                
                27
                
                
                
                0.02
                
                
                
                38
                
                
                
                0.04
                
                
                
                154
                
                
                
                0.16Other
                
                
                1
                
                
                
                –
                
                
                
                5
                
                
                
                0.01
                
                
                
                1
                
                
                
                –
                
                
                
                2
                
                
                
                –
                
                
                
                162
                
                
                
                0.17Total consumer
      loans
                
                
                2,750
                
                
                
                1.67
                
                
                
                2,260
                
                
                
                1.64
                
                
                
                2,165
                
                
                
                1.90
                
                
                
                2,719
                
                
                
                2.78
                
                
                
                3,433
                
                
                
                3.52Total
      loans
                
                
                164,811
                
                
                
                100.00
                %
                
                
                138,160
                
                
                
                100.00
                %
                
                
                112,738
                
                
                
                100.00
                %
                
                
                97,713
                
                
                
                100.00
                %
                
                
                97,402
                
                
                
                100.00
                %Net
      deferred loan fees
                
                
                195
                
                
                
                
                
                
                
                149
                
                
                
                
                
                
                
                120
                
                
                
                
                
                
                
                157
                
                
                
                
                
                
                
                254Allowance
      for loan losses
                
                
                857
                
                
                
                
                
                
                
                731
                
                
                
                
                
                
                
                695
                
                
                
                
                
                
                
                651
                
                
                
                
                
                
                
                692Loans,
      net
                
                $
                163,759
                
                
                
                
                
                
                $
                137,280
                
                
                
                
                
                
                $
                111,923
                
                
                
                
                
                
                $
                96,905
                
                
                
                
                
                
                $
                96,456





The following table sets forth certain
information at December 31, 2008 regarding the dollar amount of loan principal
repayments becoming due during the periods indicated.  The table does
not include any estimate of prepayments, which significantly shorten the average
life of all loans and may cause our actual repayment experience to differ from
that shown below.  Demand loans having no stated schedule of
repayments and no stated maturity are reported as due in one year or
less.





One-
      to Four-
                    Family
      Real
                    Estate
      Loans
                  
                  
                  Multi-Family
                    and
                    Commercial
                    Real
      Estate
                    Loans
                  
                  
                  Home
      Equity
                    Loans
      and
                    Lines
      of
                    Credit
                  
                  
                  Consumer
                    Loans
                  
                  
                  Total
                    Loans(Dollars
      in thousands)Amounts
      due in:One
      year or less
                  
                  $
                  18
                  
                  
                  $
                  700
                  
                  
                  $
                  980
                  
                  
                  $
                  1,083
                  
                  
                  $
                  2,781More
      than one to five years
                  
                  
                  2,018
                  
                  
                  
                  1,858
                  
                  
                  
                  334
                  
                  
                  
                  890
                  
                  
                  
                  5,100More
      than five years
                  
                  
                  142,472
                  
                  
                  
                  9,462
                  
                  
                  
                  4,219
                  
                  
                  
                  777
                  
                  
                  
                  156,930Total
                  
                  $
                  144,508
                  
                  
                  $
                  12,020
                  
                  
                  $
                  5,533
                  
                  
                  $
                  2,750
                  
                  
                  $
                  164,811


23





The following table sets forth the
dollar amount of all loans at December 31, 2008 that are due after December 31,
2009.





Fixed
      Rate
                  
                  
                  Adjustable
      Rate(Dollars
      in thousands)Real
      estate loans:One-
      to four-family
                  
                  $
                  144,490
                  
                  
                  $
                  –Multi-family
      and commercial real estate
                  
                  
                  11,320
                  
                  
                  
                  –Home
      equity loans and lines of credit
                  
                  
                  4,172
                  
                  
                  
                  381Consumer
      loans
                  
                  
                  1,667
                  
                  
                  
                  –Total
                  
                  $
                  161,649
                  
                  
                  $
                  381





The
following table shows loan origination, participation and purchase activity
during the periods indicated.





December
      31,
                    2008
                  
                  
                  December
      31,
                    2007
                  
                  
                  December
      31,
                    2006(Dollars
      in thousands)Total
      loans at beginning of period
                  
                  $
                  138,160
                  
                  
                  $
                  112,738
                  
                  
                  $
                  97,713Loans
      originated:Real
      estate loans:One-
      to four-family
                  
                  
                  40,121
                  
                  
                  
                  30,470
                  
                  
                  
                  21,947Multi-family
      and commercial real estate
                  
                  
                  710
                  
                  
                  
                  3,441
                  
                  
                  
                  1,606Home
      equity loans and lines of credit
                  
                  
                  1,531
                  
                  
                  
                  1,036
                  
                  
                  
                  3,537Consumer
                  
                  
                  903
                  
                  
                  
                  548
                  
                  
                  
                  477Total
      loans originated
                  
                  
                  43,265
                  
                  
                  
                  35,495
                  
                  
                  
                  27,567Loans
      purchased
                  
                  
                  2,966
                  
                  
                  
                  3,855
                  
                  
                  
                  3,581Deduct:Real
      estate loan principal repayments
                  
                  
                  (13,742
                  )
                  
                  
                  (13,928
                  )
                  
                  
                  (16,123
                  )Loans
      sold
                  
                  
                  (5,838
                  )
                  
                  
                  –
                  
                  
                  
                  –Total
      deductions
                  
                  
                  (19,580
                  )
                  
                  
                  (13,928
                  )
                  
                  
                  (16,123
                  )Net
      loan activity
                  
                  
                  26,651
                  
                  
                  
                  25,422
                  
                  
                  
                  15,025Total
      loans at end of period
                  
                  $
                  164,811
                  
                  
                  $
                  138,160
                  
                  
                  $
                  112,738





Securities.Our securities portfolio
consists primarily of mortgage-backed securities.  The weighted
average rate of our securities portfolio was 5.25% as of December 31, 2008
as compared to 5.30% as of December 31, 2007 and the weighted average
maturity was 14 years as of December 31, 2008 and 2007,
respectively.  Investment securities available for sale decreased $8.1
million to $37.8 million from $45.9 million at December 31, 2007.  The
reason for the decrease was due to payments, calls and
maturities.  The following table sets forth the amortized cost and
fair values of our securities portfolio at the dates indicated.


24





At
      December 31,2008
                      
                      
                      2007
                      
                      
                      2006Amortized
                        Cost
                      
                      
                      Fair Value
                      
                      
                      Amortized
                        Cost
                      
                      
                      Fair Value
                      
                      
                      Amortized
                        Cost
                      
                      
                      Fair Value(Dollars
      in thousands)Securities
      available-for-sale:Fannie
      Mae
                      
                      $
                      23,870
                      
                      
                      $
                      24,628
                      
                      
                      $
                      24,744
                      
                      
                      $
                      24,970
                      
                      
                      $
                      25,301
                      
                      
                      $
                      25,044Freddie
      Mac
                      
                      
                      6,835
                      
                      
                      
                      7,000
                      
                      
                      
                      8,594
                      
                      
                      
                      8,601
                      
                      
                      
                      10,715
                      
                      
                      
                      10,571Government
      National MortgageAssociation
                      
                      
                      1,628
                      
                      
                      
                      1,688
                      
                      
                      
                      2,006
                      
                      
                      
                      2,057
                      
                      
                      
                      2,404
                      
                      
                      
                      2,420Other
                      
                      
                      98
                      
                      
                      
                      94
                      
                      
                      
                      157
                      
                      
                      
                      157
                      
                      
                      
                      257
                      
                      
                      
                      253Total
      mortgage-backed securities
                      
                      
                      32,431
                      
                      
                      
                      33,410
                      
                      
                      
                      35,501
                      
                      
                      
                      35,785
                      
                      
                      
                      38,677
                      
                      
                      
                      38,288U.S.
      government agency securities
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      4,108
                      
                      
                      
                      4,131
                      
                      
                      
                      1,400
                      
                      
                      
                      1,356Corporate
      securities
                      
                      
                      4,346
                      
                      
                      
                      4,374
                      
                      
                      
                      5,630
                      
                      
                      
                      5,632
                      
                      
                      
                      5,630
                      
                      
                      
                      5,587Total
      debt securities
                      
                      
                      36,777
                      
                      
                      
                      37,784
                      
                      
                      
                      45,239
                      
                      
                      
                      45,548
                      
                      
                      
                      45,707
                      
                      
                      
                      45,231Equity
      securities
                      
                      
                      19
                      
                      
                      
                      5
                      
                      
                      
                      430
                      
                      
                      
                      337
                      
                      
                      
                      430
                      
                      
                      
                      451Total
                      
                      $
                      36,796
                      
                      
                      $
                      37,789
                      
                      
                      $
                      45,669
                      
                      
                      $
                      45,885
                      
                      
                      $
                      46,137
                      
                      
                      $
                      45,682





At December 31, 2008, we had no
investments in a single company or entity (other than U.S. Government-sponsored
entity securities) that had an aggregate book value in excess of 10% of our
equity at December 31, 2008.





The following table sets forth the
stated maturities and weighted average yields of securities at December 31,
2008.  Certain mortgage-backed securities have adjustable interest
rates and will reprice annually within the various maturity
ranges.  These repricing schedules are not reflected in the table
below.  Yields are not presented on a tax-equivalent
basis.  Any adjustments necessary to present yields on a
tax-equivalent basis are insignificant.





One
      Year or Less
                    
                    
                    More
      than One
                      Year
      to Five Years
                    
                    
                    More
      than Five
                      Years
      to Ten Years
                    
                    
                    More
      than
                      Ten
      Years
                    
                    
                    TotalAmortized
                      Cost
                    
                    
                    Weighted
                      Average
                      Yield
                    
                    
                    Amortized
                      Cost
                    
                    
                    Weighted
                      Average
                      Yield
                    
                    
                    Amortized
                      Cost
                    
                    
                    Weighted
                      Average
                      Yield
                    
                    
                    Amortized
                      Cost
                    
                    
                    Weighted
                      Average
                      Yield
                    
                    
                    Amortized
                      Cost
                    
                    
                    Weighted
                      Average
                      Yield(Dollars
      in thousands)Securities
      available-for-sale:Fannie
      Mae
                    
                    $
                    –
                    
                    
                    
                    –
                    %
                    
                    $
                    167
                    
                    
                    
                    5.52
                    %
                    
                    $
                    10,145
                    
                    
                    
                    5.10
                    %
                    
                    $
                    13,558
                    
                    
                    
                    5.10
                    %
                    
                    $
                    23,870
                    
                    
                    
                    5.10
                    %Freddie
      Mac
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    3,696
                    
                    
                    
                    4.86
                    
                    
                    
                    3,139
                    
                    
                    
                    5.32
                    
                    
                    
                    6,835
                    
                    
                    
                    5.07Government
      NationalMortgage
      Association
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    13
                    
                    
                    
                    6.95
                    
                    
                    
                    38
                    
                    
                    
                    7.23
                    
                    
                    
                    1,577
                    
                    
                    
                    6.28
                    
                    
                    
                    1,628
                    
                    
                    
                    6.31Other
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    98
                    
                    
                    
                    4.94
                    
                    
                    
                    98
                    
                    
                    
                    4.94U.S.
      Governmentagency
      securities
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –Corporate
      securities
                    
                    
                    1,349
                    
                    
                    
                    6.54
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    2,997
                    
                    
                    
                    5.67
                    
                    
                    
                    4,346
                    
                    
                    
                    5.94Equity
      securities
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –
                    
                    
                    
                    –Total
                    
                    $
                    1,349
                    
                    
                    
                    6.54
                    %
                    
                    $
                    180
                    
                    
                    
                    5.63
                    %
                    
                    $
                    13,879
                    
                    
                    
                    5.04
                    %
                    
                    $
                    21,369
                    
                    
                    
                    5.30
                    %
                    
                    $
                    36,777
                    
                    
                    
                    5.25
                    %





Deposits.Our primary source of
funds is our deposit accounts, which are comprised of noninterest-bearing
accounts, interest-bearing demand accounts, money market accounts, savings
accounts and time deposits.  These deposits are provided primarily by
individuals who live or work within our market areas.  We have not
used brokered deposits as a source of funding.  Deposits increased
$1.4 million, or 0.9% for the year ended December 31, 2008, and was
attributable, in part, to the offering of a competitive certificate of deposit
during the year, as well as increased advertising and the introduction of an
Automatic Transfer product and a No Minimum Balance Checking
account.


25





The
following table sets forth the balances of our deposit products at the dates
indicated.





At
      December 31,2008
                
                
                2007
                
                
                2006Amount
                
                
                Percent
                
                
                Amount
                
                
                Percent
                
                
                Amount
                
                
                Percent(Dollars
      in thousands)Noninterest-bearing
      accounts
                
                $
                3,986
                
                
                
                2.42
                %
                
                $
                3,455
                
                
                
                2.12
                %
                
                $
                4,190
                
                
                
                2.66
                %NOW
      accounts
                
                
                10,301
                
                
                
                6.26
                
                
                
                11,223
                
                
                
                6.88
                
                
                
                12,128
                
                
                
                7.69Money
      market
                
                
                25,603
                
                
                
                15.56
                
                
                
                33,101
                
                
                
                20.28
                
                
                
                24,235
                
                
                
                15.37Savings
      accounts
                
                
                34,346
                
                
                
                20.87
                
                
                
                36,193
                
                
                
                22.17
                
                
                
                41,664
                
                
                
                26.42Time
      deposits
                
                
                90,350
                
                
                
                54.89
                
                
                
                79,245
                
                
                
                48.55
                
                
                
                75,505
                
                
                
                47.86Total
                
                $
                164,586
                
                
                
                100.00
                %
                
                $
                163,217
                
                
                
                100.00
                %
                
                $
                157,722
                
                
                
                100.00
                %





The following table indicates the
amount of jumbo time deposits by time remaining until maturity as of December
31, 2008.  Jumbo time deposits require minimum deposits of
$100,000.





Maturity
      Period
                    
                    Time
      Deposits(Dollars in thousands)3
      Months or less
                    
                    $
                    720Over
      3 Through 6 Months
                    
                    
                    856Over
      6 Through 12 Months
                    
                    
                    5,575Over
      12 Months
                    
                    
                    12,844Total
                    
                    $
                    19,995





The following table sets forth our time
deposits classified by rates at the dates indicated.





At
      December 31,2008
                  
                  
                  2007
                  
                  
                  2006(Dollars
      in thousands)1.00
      – 1.99%
                  
                  $
                  –
                  
                  
                  $
                  3
                  
                  
                  $
                  3872.00
      – 3.99%
                  
                  
                  56,181
                  
                  
                  
                  16,082
                  
                  
                  
                  18,0054.00
      – 5.99%
                  
                  
                  34,095
                  
                  
                  
                  63,090
                  
                  
                  
                  57,0476.00
      – 7.99%
                  
                  
                  74
                  
                  
                  
                  70
                  
                  
                  
                  66Total
                  
                  $
                  90,350
                  
                  
                  $
                  79,245
                  
                  
                  $
                  75,505





The following table sets forth the
amount and maturities of time deposits classified by rates at December 31,
2008.





Amount
      DueLess
      Than
                  One
      Year
                
                
                More
      Than
                  One
      Year to
                  Two
      Years
                
                
                More
      Than
                  Two
      Years to
                  Three
      Years
                
                
                More
      Than
                  Three
      Years
                  to
      Four Years
                
                
                More
      Than
                  Four
      Years
                
                
                Total
                
                
                Percent
      of
                  Total
                  Certificate
                  Accounts(Dollars
      in thousands)1.00
      – 1.99%
                
                $
                –
                
                
                $
                –
                
                
                $
                –
                
                
                $
                –
                
                
                $
                –
                
                
                $
                –
                
                
                
                0.00
                %2.00
      – 3.99%
                
                
                31,650
                
                
                
                10,203
                
                
                
                792
                
                
                
                303
                
                
                
                13,233
                
                
                
                56,181
                
                
                
                62.184.00
      – 5.99%
                
                
                7,576
                
                
                
                6,321
                
                
                
                13,379
                
                
                
                4,909
                
                
                
                1,910
                
                
                
                34,095
                
                
                
                37.746.00
      – 7.99%
                
                
                74
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                74
                
                
                
                0.08Total
                
                $
                39,300
                
                
                $
                16,524
                
                
                $
                14,171
                
                
                $
                5,212
                
                
                $
                15,143
                
                
                $
                90,350
                
                
                
                100.00
                %


26





The following table sets forth deposit
activity for the periods indicated.





Year
      Ended December 31,2008
                      
                      
                      2007
                      
                      
                      2006(Dollars
      in thousands)Beginning
      balance
                      
                      $
                      163,217
                      
                      
                      $
                      157,722
                      
                      
                      $
                      142,007Increase
      (decrease) before interest credited
                      
                      
                      (3,943
                      )
                      
                      
                      128
                      
                      
                      
                      11,927Interest
      credited
                      
                      
                      5,312
                      
                      
                      
                      5,367
                      
                      
                      
                      3,788Net
      increase (decrease) in deposits
                      
                      
                      1,369
                      
                      
                      
                      5,495
                      
                      
                      
                      15,715Ending
      balance
                      
                      $
                      164,586
                      
                      
                      $
                      163,217
                      
                      
                      $
                      157,722





Borrowings.We utilize borrowings
from the FHLB of Pittsburgh to supplement our supply of funds for loans and
investments.  Our FHLB borrowings are categorized as short-term
borrowings and other borrowings.  Short-term borrowings primarily
consist of draws on “RepoPlus” line of credit advances.  The RepoPlus
line of credit carries an adjustable rate that is subject to annual renewal and
incurs no service charges.  All borrowings from the FHLB are secured
by a blanket security agreement on qualifying residential mortgage loans,
certain pledged investment securities and our investment in FHLB
stock.





Year Ended December
      31,2008
                      
                      
                      2007
                      
                      
                      2006(Dollars
      in thousands)Maximum
      amount of advances outstanding at any month end during the
      period:FHLB
      Advances
                      
                      $
                      28,553
                      
                      
                      $
                      10,508
                      
                      
                      $
                      17,353Average
      advances outstanding during the period:FHLB
      Advances
                      
                      $
                      20,084
                      
                      
                      $
                      6,372
                      
                      
                      $
                      10,983Weighted
      average interest rate during the period:FHLB
      Advances
                      
                      
                      3.02
                      %
                      
                      
                      3.93
                      %
                      
                      
                      3.94
                      %Balance
      outstanding at end of period:FHLB
      Advances
                      
                      $
                      28,553
                      
                      
                      $
                      10,098
                      
                      
                      $
                      6,245Weighted
      average interest rate at end of period:FHLB
      Advances
                      
                      
                      2.81
                      %
                      
                      
                      3.81
                      %
                      
                      
                      3.69
                      %





FHLB advances long-term increased $20.5
million to $24.6 million at December 31, 2008, from $4.1 million at
December 31, 2007, an increase of 500.0%.  The $20.5 million
increase in FHLB advances long-term was due to more attractive longer term
funding opportunities available through the FHLB.  The advances
outstanding at December 31, 2008 mature in 2009 through 2018.





Stockholders’
Equity.Stockholders’ equity decreased $390,000 to $23.6
million at December 31, 2008, from $24.0 million at December 31,
2007.  The decrease in stockholders’ equity was primarily related to
the operating losses recorded in 2008.


27


Comparison
of Results of Operations for the Years Ended December 31, 2008 and
2007





Overview.





Year
      Ended December 31,2008
                              
                              
                              2007
                              
                              
                              %
      Change
                                2008/2007(Dollars
      in thousands)Net
      loss
                              
                              $
                              (246
                              )
                              
                              $
                              (326
                              )
                              
                              
                              24.54
                              %Return
      on average assets (1)
                              
                              
                              (0.12
                              )%
                              
                              
                              (0.17
                              )%
                              
                              
                              29.41Return
      on average equity (2)
                              
                              
                              (1.04
                              )
                              
                              
                              (1.37
                              )
                              
                              
                              24.09Average
      equity-to-assets ratio (3)
                              
                              
                              11.15
                              
                              
                              
                              12.10
                              
                              
                              
                              (7.85
                              )





(1)
            Net
      loss divided by average assets.


(2)
            Net
      loss divided by average equity.


(3)
            Average
      equity divided by average total
assets.





A loss of $246,000 was reported for
2008 compared to a loss of $326,000 in 2007 primarily due to higher net interest
income, partially offset by lower noninterest income and higher non-interest
expense.  Non-interest income decreased $676,000, or 89.0% to $84,000,
primarily as a result of the write-down of Freddie Mac investment securities and
lower earnings on BOLI, offset by higher gains on the sale of
loans.





Net
Interest Income.Net interest income for
year ended December 31, 2008 increased $1.1 million to $5.8 million, or 23.4%,
from $4.7 million last year, primarily reflecting a higher average balance of
loans and lower interest expense paid on deposits, partially offset by a lower
average balance on investment securities, a lower average balance of other
interest-earning assets and a higher average balance of deposits and a higher
average balance of FHLB advances long-term and a lower average rate earned on
interest earning assets.





Average
Balances and Yields.The following table
presents information regarding average balances of assets
and liabilities, as well as the total dollar amounts of interest income and
dividends from average interest-earning assets and interest expense on average
interest-bearing liabilities and the resulting average yields and
costs.  The yields and costs for the periods indicated are derived by
dividing income or expense by the average balances of assets or liabilities,
respectively, for the periods presented.  For purposes of this table,
average balances have been calculated using month-end balances, and nonaccrual
loans are included in average balances only.  Management does not
believe that the use of month-end balances instead of daily average balances has
caused any material differences in the information presented.  Loan
fees are included in interest income on loans and are
insignificant.  Yields are not presented on a tax-equivalent
basis.  Any adjustments necessary to present yields on a
tax-equivalent basis are insignificant.


28





Year
      Ended December 31,2008
                        
                        
                        2007
                        
                        
                        2006Average
                          Balance
                        
                        
                        Interest
                          and
                          Dividends
                        
                        
                        Yield/
                          Cost
                        
                        
                        Average
                          Balance
                        
                        
                        Interest
                          and
                          Dividends
                        
                        
                        Yield/
                          Cost
                        
                        
                        Average
                          Balance
                        
                        
                        Interest
                          and
                          Dividends
                        
                        
                        Yield/
                          Cost(Dollars
      in thousands)Assets:Interest-earning
      assets:Loans
                        
                        $
                        153,077
                        
                        
                        $
                        8,908
                        
                        
                        
                        5.82
                        %
                        
                        $
                        124,622
                        
                        
                        $
                        7,254
                        
                        
                        
                        5.82
                        %
                        
                        $
                        103,806
                        
                        
                        $
                        6,011
                        
                        
                        
                        5.79
                        %Investment
      securities
                        
                        
                        39,310
                        
                        
                        
                        2,014
                        
                        
                        
                        5.12
                        
                        
                        
                        45,652
                        
                        
                        
                        2,361
                        
                        
                        
                        5.17
                        
                        
                        
                        46,025
                        
                        
                        
                        2,237
                        
                        
                        
                        4.86Other
      interest earning assets
                        
                        
                        6,624
                        
                        
                        
                        147
                        
                        
                        
                        2.22
                        
                        
                        
                        13,543
                        
                        
                        
                        682
                        
                        
                        
                        5.04
                        
                        
                        
                        6,723
                        
                        
                        
                        342
                        
                        
                        
                        5.09Total
      interest-earning assets
                        
                        
                        199,011
                        
                        
                        
                        11,069
                        
                        
                        
                        5.56
                        %
                        
                        
                        183,817
                        
                        
                        
                        10,297
                        
                        
                        
                        5.60
                        %
                        
                        
                        156,554
                        
                        
                        
                        8,590
                        
                        
                        
                        5.49
                        %Noninterest-earning
      assets
                        
                        
                        13,122
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        13,243
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        13,298Allowance
      for Loan Losses
                        
                        
                        (787
                        )
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        (727
                        )
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        (569
                        )Total
      assets
                        
                        $
                        211,346
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        $
                        196,333
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        $
                        169,283Liabilities
      and equity:Interest-bearing
      liabilities:NOW
      accounts
                        
                        $
                        11,667
                        
                        
                        
                        96
                        
                        
                        
                        0.82
                        %
                        
                        $
                        11,411
                        
                        
                        
                        68
                        
                        
                        
                        0.60
                        %
                        
                        $
                        12,718
                        
                        
                        
                        68
                        
                        
                        
                        0.53
                        %Money
      market deposits
                        
                        
                        26,949
                        
                        
                        
                        818
                        
                        
                        
                        3.04
                        
                        
                        
                        33,241
                        
                        
                        
                        1,615
                        
                        
                        
                        4.86
                        
                        
                        
                        6,796
                        
                        
                        
                        346
                        
                        
                        
                        5.09Savings
      accounts
                        
                        
                        35,647
                        
                        
                        
                        310
                        
                        
                        
                        0.87
                        
                        
                        
                        38,947
                        
                        
                        
                        318
                        
                        
                        
                        0.82
                        
                        
                        
                        52,090
                        
                        
                        
                        357
                        
                        
                        
                        0.69Time
      deposits
                        
                        
                        85,740
                        
                        
                        
                        3,456
                        
                        
                        
                        4.03
                        
                        
                        
                        74,262
                        
                        
                        
                        3,366
                        
                        
                        
                        4.53
                        
                        
                        
                        66,980
                        
                        
                        
                        3,017
                        
                        
                        
                        4.50Total
      interest-bearing deposits
                        
                        
                        160,003
                        
                        
                        
                        4,680
                        
                        
                        
                        2.93
                        
                        
                        
                        157,861
                        
                        
                        
                        5,367
                        
                        
                        
                        3.40
                        
                        
                        
                        138,584
                        
                        
                        
                        3,788
                        
                        
                        
                        2.73FHLB
      advances – short-term
                        
                        
                        2,074
                        
                        
                        
                        51
                        
                        
                        
                        2.46
                        
                        
                        
                        1,271
                        
                        
                        
                        60
                        
                        
                        
                        4.72
                        
                        
                        
                        2,083
                        
                        
                        
                        105
                        
                        
                        
                        5.04FHLB
      advances – long-term
                        
                        
                        18,010
                        
                        
                        
                        556
                        
                        
                        
                        3.09
                        
                        
                        
                        5,101
                        
                        
                        
                        190
                        
                        
                        
                        3.72
                        
                        
                        
                        8,900
                        
                        
                        
                        328
                        
                        
                        
                        3.69Advances
      by borrowers for taxes and insurance
                        
                        
                        1,230
                        
                        
                        
                        25
                        
                        
                        
                        2.03
                        
                        
                        
                        1,031
                        
                        
                        
                        21
                        
                        
                        
                        2.04
                        
                        
                        
                        901
                        
                        
                        
                        19
                        
                        
                        
                        2.11Total
      interest-bearing liabilities
                        
                        
                        181,317
                        
                        
                        
                        5,312
                        
                        
                        
                        2.93
                        %
                        
                        
                        165,264
                        
                        
                        
                        5,638
                        
                        
                        
                        3.41
                        %
                        
                        
                        150,468
                        
                        
                        
                        4,240
                        
                        
                        
                        2.82
                        %Non-interest-bearing
      liabilities
                        
                        
                        6,457
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        7,311
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        7,125Total
      liabilities
                        
                        
                        187,774
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        172,575
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        157,593Stockholders
      equity
                        
                        
                        23,572
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        23,758
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        11,690Total
      liabilities andstockholders’
      equity
                        
                        $
                        211,346
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        $
                        196,333
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        $
                        169,283Net
      interest income
                        
                        
                        
                        
                        
                        $
                        5,757
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        $
                        4,659
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        $
                        4,350Interest
      rate spread
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        2.63
                        %
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        2.19
                        %
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        2.67
                        %Net
      interest margin
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        2.89
                        %
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        2.53
                        %
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        2.78
                        %Average
      interest-earning assets toaverage
      interest-bearing liabilities
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        109.76
                        %
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        111.23
                        %
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        
                        104.04
                        %


29


Rate/Volume
Analysis.The
following table sets forth the effects of changing rates and volumes on our net
interest income.  The rate column shows the effects attributable to
changes in rate (changes in rate multiplied by prior volume).  The
volume column shows the effects attributable to changes in volume (changes in
volume multiplied by prior rate).  The net column represents the sum
of the prior columns.  For purposes of this table, changes
attributable to changes in both rate and volume that cannot be segregated have
been allocated proportionately based on the changes due to rate and the changes
due to volume.





For
      the Year Ended
                              December
      31, 2008
                              Compared
      to Year Ended
                              December
      31, 2007
                            
                            
                            For
      the Year Ended
                              December
      31, 2007
                              Compared
      to Year Ended
                              December
      31, 2006Increase
      (Decrease)
                              Due
      to
                            
                            
                            
                            
                            
                            Increase
      (Decrease)
                              Due
      toVolume
                            
                            
                            Rate
                            
                            
                            Net
                            
                            
                            Volume
                            
                            
                            Rate
                            
                            
                            Net(Dollars
      in thousands)Interest
      and dividend income:Loans
      receivable
                            
                            $
                            1,656
                            
                            
                            $
                            (2
                            )
                            
                            $
                            1,654
                            
                            
                            $
                            1,211
                            
                            
                            $
                            32
                            
                            
                            $
                            1,243Investment
      securities
                            
                            
                            (325
                            )
                            
                            
                            (22
                            )
                            
                            
                            (347
                            )
                            
                            
                            (18
                            )
                            
                            
                            142
                            
                            
                            
                            124Other
                            
                            
                            (255
                            )
                            
                            
                            (280
                            )
                            
                            
                            (535
                            )
                            
                            
                            343
                            
                            
                            
                            (3
                            )
                            
                            
                            340Total
      interest-earning assets
                            
                            $
                            1,076
                            
                            
                            $
                            (304
                            )
                            
                            $
                            772
                            
                            
                            $
                            1,536
                            
                            
                            $
                            171
                            
                            
                            $
                            1,707Interest
      expense:NOW
      accounts
                            
                            $
                            2
                            
                            
                            $
                            25
                            
                            
                            $
                            27
                            
                            
                            $
                            –
                            
                            
                            $
                            –
                            
                            
                            $
                            –Money
      market deposits
                            
                            
                            (267
                            )
                            
                            
                            (530
                            )
                            
                            
                            (797
                            )
                            
                            
                            1,284
                            
                            
                            
                            (15
                            )
                            
                            
                            1,269Savings
      accounts
                            
                            
                            (35
                            )
                            
                            
                            27
                            
                            
                            
                            (8
                            )
                            
                            
                            (161
                            )
                            
                            
                            122
                            
                            
                            
                            (39
                            )Time
      deposits
                            
                            
                            317
                            
                            
                            
                            (227
                            )
                            
                            
                            90
                            
                            
                            
                            330
                            
                            
                            
                            19
                            
                            
                            
                            349Short-term
      borrowings
                            
                            
                            (37
                            )
                            
                            
                            28
                            
                            
                            
                            (9
                            )
                            
                            
                            (39
                            )
                            
                            
                            (6
                            )
                            
                            
                            (45
                            )Other
      borrowings
                            
                            
                            393
                            
                            
                            
                            (27
                            )
                            
                            
                            366
                            
                            
                            
                            (142
                            )
                            
                            
                            4
                            
                            
                            
                            (138
                            )Advances
      by borrowers for taxesand
      insurance
                            
                            
                            4
                            
                            
                            
                            –
                            
                            
                            
                            4
                            
                            
                            
                            3
                            
                            
                            
                            (1
                            )
                            
                            
                            2Total interest-bearing liabilities
                            
                            $
                            376
                            
                            
                            $
                            (702
                            )
                            
                            $
                            (214
                            )
                            
                            $
                            1,275
                            
                            
                            $
                            123
                            
                            
                            $
                            1,398CChange
      in net interest income
                            
                            $
                            699
                            
                            
                            $
                            399
                            
                            
                            $
                            1,098
                            
                            
                            $
                            261
                            
                            
                            $
                            48
                            
                            
                            $
                            309





Provision
for Loan Losses.  We recorded a provision for loan losses for
the year ended December 31, 2008 of $85,000 as compared to $31,000 for the year
ended December 31, 2007.  The increased loan loss provision reflects
management’s estimate of the losses inherent in our total loan portfolio and the
increase in our overall loan portfolio.  The provision during these
periods reflects management’s assessment of charge-off activity, decreased
non-performing loans and increased loan delinquencies.  We used the
same methodology and generally similar assumptions in assessing the allowance
for both periods.  An analysis of the changes in the allowance for
loan losses, non-performing loans and classified loans is presented under “–Risk Management–Analysis of
Non-Performing and Classified Assets” and “–Risk Management–Analysis and
Determination of the Allowance for Loan Losses.”


30





Non-Interest
Income.The
following table shows the components of non-interest income for the year ended
December 31, 2008 and 2007.





Year
      Ended December 31,2008
                      
                      
                      2007(Dollars
      in thousands)Service
      fees on deposit accounts
                      
                      $
                      116
                      
                      
                      $
                      129Earnings
      on bank-owned life insurance
                      
                      
                      (236
                      )
                      
                      
                      192Investment
      securities losses, net
                      
                      
                      (412
                      )
                      
                      
                      –Gain
      on sale of loans
                      
                      
                      123
                      
                      
                      
                      –Rental
      income
                      
                      
                      311
                      
                      
                      
                      293Other
                      
                      
                      183
                      
                      
                      
                      146Total
                      
                      $
                      85
                      
                      
                      $
                      760





The
$676,000 decrease in non-interest income for the year ended December 31, 2008 as
compared to last year was primarily due to write-downs of $412,000 on investment
securities, specifically our investment in Freddie Mac Preferred Stock, a
decrease in earnings on BOLI of $428,000, partially offset by the gain on the
sale of loans of $123,000.





Non-Interest
Expense.  The following table shows the components of
non-interest expense.





Year
      Ended
                          December
      31,2008
                        
                        
                        2007(Dollars
      in thousands)Compensation
      and employee benefits
                        
                        $
                        3,332
                        
                        
                        $
                        2,961Occupancy
      and equipment
                        
                        
                        1,072
                        
                        
                        
                        1,036Federal
      deposit insurance premiums
                        
                        
                        121
                        
                        
                        
                        138Data
      processing expense
                        
                        
                        271
                        
                        
                        
                        262Professional
      fees
                        
                        
                        315
                        
                        
                        
                        474Other
                        
                        
                        990
                        
                        
                        
                        1,007Total
      non-interest expense
                        
                        $
                        6,101
                        
                        
                        $
                        5,878Efficiency
      ratio
                        
                        
                        104.43
                        %
                        
                        
                        108.45
                        %





Total
non-interest expense increased $223,000, or 3.8%, to $6.1 million for the year
ended December 31, 2008 from the prior year.  The increases in
non-interest expenses for the year ended December 31, 2008 as compared to the
prior year periods were primarily the result of higher compensation and employee
benefits including the costs related to the hiring of more experienced branch
management staff, experienced lending staff, and costs associated with annual
merit increases, partially offset by lower professional fees.





Income
Tax Expense.  An
income tax benefit of $98,000 was recorded for the year ended December 31,
2008 compared to a $165,000 benefit in 2007 reflecting the reporting of a
$246,000 loss.  Our effective tax rates for 2008 and 2007 were
negative 28.5% and negative 33.5%, respectively.


31


Risk
Management





Overview.  Managing
risk is an essential part of successfully managing a financial
institution.  Our most prominent risk exposures are credit risk,
interest rate risk and market risk.  Credit risk is the risk of not
collecting the interest and/or the principal balance of a loan or investment
when it is due.  Interest rate risk is the potential reduction of
interest income as a result of changes in interest rates.  Market risk
arises from fluctuations in interest rates that may result in changes in the
values of financial instruments, such as available-for-sale securities that are
accounted for on a mark-to-market basis.  Other risks that we
encounter are operational risks, liquidity risks and reputation
risk.  Operational risks include risks related to fraud, regulatory
compliance, processing errors, technology and disaster
recovery.  Liquidity risk is the possible inability to fund
obligations to depositors, lenders or borrowers.  Reputation risk is
the risk that negative publicity or press, whether true or not, could cause a
decline in our customer base or revenue.





Credit
Risk Management.Our
strategy for credit risk management focuses on having well-defined credit
policies and uniform underwriting criteria and providing prompt attention to
potential problem loans.  Our strategy also emphasizes the origination
of one- to four-family mortgage loans, which typically have lower default rates
than other types of loans and are secured by collateral that generally tends to
appreciate in value.





When a
borrower fails to make a required loan payment, we take a number of steps to
attempt to have the borrower cure the delinquency and restore the loan to
current status.  When the loan becomes 15 days past due, a past due
notice is generated and sent to the borrower and phone calls are
made.  If payment is not then received by the 30th day of
delinquency, a further notification is sent to the borrower.  If
payment is not received by the 60th day of
delinquency, a further notification is sent to the borrowers giving notice of
possible foreclosure actions.  If no successful workout can be
achieved by the 90th day of
delinquency, we will commence foreclosure proceedings.  If a
foreclosure action is instituted and the loan is not brought current, paid in
full, or refinanced before the foreclosure sale, the real property securing the
loan generally is sold at foreclosure.  Generally, when a consumer
loan becomes 90 days past due, we institute collection proceedings and attempt
to repossess any personal property that secures the loan.  We may
consider loan workout arrangements with certain borrowers under certain
circumstances.





Management
reports to the board of directors monthly regarding the amount of loans
delinquent more than 30 days, all loans in foreclosure and all foreclosed and
repossessed property that we own.





Analysis
of Non-Performing and Classified Assets.  We consider
repossessed assets and loans that are 90 days or more past due to be
nonperforming assets.  Loans are generally placed on nonaccrual status
when they become 90 days delinquent at which time the accrual of interest ceases
and the allowance for any uncollectible accrued interest is established and
charged against operations.  Typically, payments received on a
nonaccrual loan are applied to the outstanding principal and interest as
determined at the time of collection of the loan.





Real estate that we acquire as a result
of foreclosure or by deed-in-lieu of foreclosure is classified as foreclosed
assets until it is sold.  When property is acquired, it is recorded at
the lower of its cost, which is the unpaid balance of the loan plus foreclosure
costs, or fair market value at the date of foreclosure.  Holding costs
and declines in fair value after acquisition of the property result in charges
against income.


32


The
following table provides information with respect to our nonperforming assets at
the dates indicated.  We did not have any troubled debt restructurings
or any accruing loans past due 90 days or more at the dates
presented.




At December 31,2008
                  
                  
                  2007
                  
                  
                  2006
                  
                  
                  2005
                  
                  
                  2004(Dollars
      in thousands)Nonaccrual
      loans:Real
      estate loans:One-
      to four-family
                  
                  $
                  705
                  
                  
                  $
                  179
                  
                  
                  $
                  181
                  
                  
                  $
                  234
                  
                  
                  $
                  309Multi-family
      and commercial real estate
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –Home
      equity loans and lines of credit
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  12
                  
                  
                  
                  16Consumer
                  
                  
                  24
                  
                  
                  
                  37
                  
                  
                  
                  93
                  
                  
                  
                  38
                  
                  
                  
                  43Total
                  
                  
                  729
                  
                  
                  
                  216
                  
                  
                  
                  274
                  
                  
                  
                  284
                  
                  
                  
                  368Real
      estate owned
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  428
                  
                  
                  
                  680Other
      nonperforming assets
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –
                  
                  
                  
                  –Total
      nonperforming assets
                  
                  $
                  729
                  
                  
                  $
                  216
                  
                  
                  $
                  274
                  
                  
                  $
                  712
                  
                  
                  $
                  1,048Total
      nonperforming loans to total loans
                  
                  
                  0.44
                  %
                  
                  
                  0.16
                  %
                  
                  
                  0.24
                  %
                  
                  
                  0.29
                  %
                  
                  
                  0.38
                  %Total
      nonperforming loans to total assets
                  
                  
                  0.33
                  %
                  
                  
                  0.11
                  %
                  
                  
                  0.13
                  %
                  
                  
                  0.16
                  %
                  
                  
                  0.21
                  %Total
      nonperforming assets and troubleddebt
      restructurings to total assets
                  
                  
                  0.33
                  %
                  
                  
                  0.11
                  %
                  
                  
                  0.13
                  %
                  
                  
                  0.41
                  %
                  
                  
                  0.60
                  %




Interest
income that would have been recorded for the years ended December 31, 2008, 2007
and 2006 had nonaccruing loans been current according to their original terms
was not material.





Federal regulations require us to
review and classify our assets on a regular basis.  In addition, the
Office of Thrift Supervision has the authority to identify problem assets and,
if appropriate, require them to be classified.  There are three
classifications for problem assets: substandard, doubtful and
loss.  “Substandard assets” must have one or more defined weaknesses
and are characterized by the distinct possibility that we will sustain some loss
if the deficiencies are not corrected.  “Doubtful assets” have the
weaknesses of substandard assets with the additional characteristic that the
weaknesses make collection or liquidation in full on the basis of currently
existing facts, conditions and values questionable, and there is a high
possibility of loss.  An asset classified “loss” is considered
uncollectible and of such little value that continuance as an asset of the
institution is not warranted.  The regulations also provide for a
“special mention” category, described as assets which do not currently expose us
to a sufficient degree of risk to warrant classification but do possess credit
deficiencies or potential weaknesses deserving our close
attention.  When we classify an asset as special mention, substandard
or doubtful we establish a specific allowance for loan losses.  If we
classify an asset as loss, we allocate an amount equal to 100% of the portion of
the asset classified loss.





The following table shows the aggregate
amounts of our classified assets at the dates indicated.





At
      December 31,2008
                      
                      
                      2007
                      
                      
                      2006(Dollars
      in thousands)Special
      mention assets
                      
                      $
                      –
                      
                      
                      $
                      –
                      
                      
                      $
                      –Substandard
      assets
                      
                      
                      729
                      
                      
                      
                      216
                      
                      
                      
                      274Doubtful
      assets
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –Loss
      assets
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –Total
      classified assets
                      
                      $
                      729
                      
                      
                      $
                      216
                      
                      
                      $
                      274




Other
than disclosed in the above tables, there are no other loans at December 31,
2008 that management has serious doubts about the ability of the borrowers to
comply with the present loan repayment terms.


33





Delinquencies.The
following table provides information about delinquencies in our loan portfolio
at the dates indicated.




At
      December 31,2008
                      
                      
                      2007
                      
                      
                      200630-59
                        Days
                        Past Due
                      
                      
                      60-89
                        Days
                        Past Due
                      
                      
                      30-59
                        Days
                        Past Due
                      
                      
                      60-89
                        Days
                        Past Due
                      
                      
                      30-59
                        Days
                        Past Due
                      
                      
                      60-89
                        Days
                        Past Due(Dollars
      in thousands)Real
      estate loansOne-
      to four-family
                      
                      $
                      164
                      
                      
                      $
                      –
                      
                      
                      $
                      77
                      
                      
                      $
                      –
                      
                      
                      $
                      521
                      
                      
                      $
                      –Multi-family
      and commercial real estate
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –Home
      equity loans and lines of credit
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –Consumer
                      
                      
                      59
                      
                      
                      
                      4
                      
                      
                      
                      35
                      
                      
                      
                      22
                      
                      
                      
                      22
                      
                      
                      
                      2Total
                      
                      $
                      223
                      
                      
                      $
                      4
                      
                      
                      $
                      112
                      
                      
                      $
                      22
                      
                      
                      $
                      543
                      
                      
                      $
                      2




Analysis
and Determination of the Allowance for Loan Losses.The
allowance for loan losses is a valuation allowance for probable incurred credit
losses in the loan portfolio.  We evaluate the need to establish
allowances against losses on loans on a quarterly basis.  When
additional allowances are necessary, a provision for loan losses is charged to
earnings.





Our
methodology for assessing the appropriateness of the allowance for loan losses
consists of: (1) a specific allowance on identified problem loans; and (2) a
general valuation allowance on the remainder of the loan
portfolio.  Although we determine the amount of each element of the
allowance separately, the entire allowance for loan losses is available for the
entire portfolio.





Specific
Allowance Required for Identified Problem Loans.We establish an
allowance on certain identified problem loans where the loan balance exceeds the
fair market value, when collection of the full amount outstanding becomes
improbable and when an accurate estimate of the loss can be
documented.





General
Valuation Allowance on the Remainder of the Loan Portfolio.We establish a general
allowance for loans that are not delinquent to recognize the inherent losses
associated with lending activities.  This general valuation allowance
is determined by segregating the loans by loan category and assigning
percentages to each category.  The percentages are adjusted for
significant factors that, in management’s judgment, affect the collectibility of
the portfolio as of the evaluation date.  These significant factors
may include changes in existing general economic and business conditions
affecting our primary lending areas and the national economy, staff lending
experience, recent loss experience in particular segments of the portfolio,
specific reserve and classified asset trends, delinquency trends and risk rating
trends.  The applied loss factors are reevaluated periodically to
ensure their relevance in the current economic environment.





We
identify loans that may need to be charged off as a loss by reviewing all
delinquent loans, classified loans and other loans that management may have
concerns about collectibility.  For individually reviewed loans, the
borrower’s inability to make payments under the terms of the loan or a shortfall
in collateral value would result in our allocating a portion of the allowance to
the loan that was impaired.





The
Office of Thrift Supervision, as an integral part of its examination process,
periodically reviews our allowance for loan losses.  The Office of
Thrift Supervision may require us to make additional provisions for loan losses
based on judgments different from ours.




At
December 31, 2008, our allowance for loan losses represented 0.52% of total
gross loans and 117.7% of nonperforming loans.  At December 31, 2007,
our allowance for loans losses represented 0.53% of total gross loans and 338.4%
of nonperforming loans.  The allowance for loans losses increased by
$127,000 to $858,000 at December 31, 2008 from $731,000 at December 31,
2007 as we recorded a provision for loan losses of  $85,000 and
recoveries of $42,000.


34








At December
      31,2008
                          
                          
                          2007
                          
                          
                          2006
                          
                          
                          2005
                          
                          
                          2004Amount
                          
                          
                          % of
                            Allowance
                            to
Total
                            Allowance
                          
                          
                          % of
                            Loans
in
                            Category
                            to
Total
                            Loans
                          
                          
                          Amount
                          
                          
                          % of
                            Allowance
                            to
Total
                            Allowance
                          
                          
                          % of
                            Loans
in
                            Category
                            to
Total
                            Loans
                          
                          
                          Amount
                          
                          
                          % of
                            Allowance
                            to
Total
                            Allowance
                          
                          
                          % of
                            Loans
in
                            Category
                            to
Total
                            Loans
                          
                          
                          Amount
                          
                          
                          % of
                            Allowance
                            to
Total
                            Allowance
                          
                          
                          % of
                            Loans
in
                            Category
                            to
Total
                            Loans
                          
                          
                          Amount
                          
                          
                          % of
                            Allowance
                            to
Total
                            Allowance
                          
                          
                          % of
                            Loans
in
                            Category
                            to
Total
                            Loans(Dollars
      in thousands)Real
      estate loans:One-to
      four-family
                          
                          $
                          501
                          
                          
                          
                          58.00
                          %
                          
                          
                          88.00
                          %
                          
                          $
                          443
                          
                          
                          
                          60.00
                          %
                          
                          
                          87.00
                          %
                          
                          $
                          314
                          
                          
                          
                          45.00
                          %
                          
                          
                          89.00
                          %
                          
                          $
                          373
                          
                          
                          
                          57.00
                          %
                          
                          
                          91.00
                          %
                          
                          $
                          362
                          
                          
                          
                          52.00
                          %
                          
                          
                          90.00
                          %Multi-familyand
      commercial realestate
      loans
                          
                          
                          316
                          
                          
                          
                          37.00
                          
                          
                          
                          7.00
                          
                          
                          
                          250
                          
                          
                          
                          34.00
                          
                          
                          
                          7.00
                          
                          
                          
                          344
                          
                          
                          
                          50.00
                          
                          
                          
                          5.00
                          
                          
                          
                          252
                          
                          
                          
                          39.00
                          
                          
                          
                          4.00
                          
                          
                          
                          299
                          
                          
                          
                          43.00
                          
                          
                          
                          4.00Home
      equity loansand
      lines of credit
                          
                          
                          28
                          
                          
                          
                          3.00
                          
                          
                          
                          3.00
                          
                          
                          
                          27
                          
                          
                          
                          4.00
                          
                          
                          
                          4.00
                          
                          
                          
                          26
                          
                          
                          
                          4.00
                          
                          
                          
                          5.00
                          
                          
                          
                          13
                          
                          
                          
                          2.00
                          
                          
                          
                          2.00
                          
                          
                          
                          14
                          
                          
                          
                          2.00
                          
                          
                          
                          3.00Consumer
                          
                          
                          13
                          
                          
                          
                          2.00
                          
                          
                          
                          2.00
                          
                          
                          
                          11
                          
                          
                          
                          2.00
                          
                          
                          
                          2.00
                          
                          
                          
                          11
                          
                          
                          
                          1.00
                          
                          
                          
                          1.00
                          
                          
                          
                          13
                          
                          
                          
                          2.00
                          
                          
                          
                          3.00
                          
                          
                          
                          17
                          
                          
                          
                          3.00
                          
                          
                          
                          3.00Total
      allowance
                            for
      loan losses
                          
                          $
                          858
                          
                          
                          
                          100.00
                          %
                          
                          
                          100.00
                          %
                          
                          $
                          731
                          
                          
                          
                          100.00
                          %
                          
                          
                          100.00
                          %
                          
                          $
                          695
                          
                          
                          
                          100.00
                          %
                          
                          
                          100.00
                          %
                          
                          $
                          651
                          
                          
                          
                          100.00
                          %
                          
                          
                          100.00
                          %
                          
                          $
                          692
                          
                          
                          
                          100.00
                          %
                          
                          
                          100.00
                          %




Although
we believe that we use the best information available to establish the allowance
for loan losses, future adjustments to the allowance for loan losses may be
necessary and our results of operations could be adversely affected if
circumstances differ substantially from the assumptions used in making the
determinations.  Furthermore, while we believe we have established our
allowance for loan losses in conformity with generally accepted accounting
principles, there can be no assurance that regulators, in reviewing our loan
portfolio, will not request us to increase our allowance for loan
losses.  In addition, because future events affecting borrowers and
collateral cannot be predicted with certainty, there can be no assurance that
increases will not be necessary should the quality of any loans deteriorate as a
result of the factors discussed above.  Any material increase in the
allowance for loan losses may adversely affect our financial condition and
results of operations.


35


Analysis
of Loan Loss Experience.  The following table sets forth an
analysis of the allowance for loan losses for the periods
indicated.





December
      31,2008
                
                
                2007
                
                
                2006
                
                
                2005
                
                
                2004(Dollars
      in thousands)Allowance
      at beginning of period
                
                $
                731
                
                
                $
                695
                
                
                $
                651
                
                
                $
                692
                
                
                $
                736Provision
      for loan losses
                
                
                85
                
                
                
                31
                
                
                
                58
                
                
                
                –
                
                
                
                –Charge-offs:One-to
      four-family
                
                
                –
                
                
                
                –
                
                
                
                (19
                )
                
                
                (66
                )
                
                
                (49
                )Multi-family
      and commercial real estate
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –Home
      equity loans and lines of credit
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –Consumer
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –Total
                
                
                –
                
                
                
                –
                
                
                
                (19
                )
                
                
                (66
                )
                
                
                (49
                )Recoveries:One-to
      four-family
                
                
                42
                
                
                
                5
                
                
                
                5
                
                
                
                25
                
                
                
                5Multi-family
      and commercial real estate
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –Home
      equity loans
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –Consumer
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –
                
                
                
                –Total
                
                
                42
                
                
                
                5
                
                
                
                5
                
                
                
                25
                
                
                
                5Net
      charge-offs
                
                
                42
                
                
                
                5
                
                
                
                (14
                )
                
                
                (41
                )
                
                
                (44
                )Allowance
      at end of period
                
                $
                858
                
                
                $
                731
                
                
                $
                695
                
                
                $
                651
                
                
                $
                692Allowance
      to nonperforming loans
                
                
                118
                %
                
                
                338
                %
                
                
                254
                %
                
                
                230
                %
                
                
                188
                %Allowance
      to total loans outstanding at the endof
      the period
                
                
                0.52
                %
                
                
                0.53
                %
                
                
                0.62
                %
                
                
                0.67
                %
                
                
                0.71
                %Net
      charge-offs (recoveries) to average loansoutstanding
      during the period
                
                
                (0.03
                )%
                
                
                (0.01
                )%
                
                
                0.01
                %
                
                
                0.04
                %
                
                
                0.05
                %





Interest
Rate Risk Management.We manage the interest rate sensitivity
of our interest-bearing liabilities and interest-earning assets in an effort to
minimize the adverse effects of changes in the interest rate
environment.  Deposit accounts typically react more quickly to changes
in market interest rates than mortgage loans because of the shorter maturities
of deposits.  As a result, sharp increases in interest rates may
adversely affect our earnings while decreases in interest rates may beneficially
affect our earnings.  To reduce the potential volatility of our
earnings, we have sought to improve the match between asset and liability
maturities and rates, while maintaining an acceptable interest rate
spread.  Our strategy for managing interest rate risk emphasizes:
adjusting the maturities of borrowings; adjusting the investment portfolio mix
and duration; and periodically selling fixed-rate mortgage loans and
available-for-sale securities.  We currently do not participate in
hedging programs, interest rate swaps or other activities involving the use of
derivative financial instruments.




We have
an Asset/Liability Committee, which includes members of management and the board
of directors, to communicate, coordinate and control all aspects involving
asset/liability management.  The committee establishes and monitors
the volume, maturities, pricing and mix of assets and funding sources with the
objective of managing assets and funding sources to provide results that are
consistent with liquidity, growth, risk limits and profitability
goals.





We use an
interest rate sensitivity analysis prepared by the Office of Thrift Supervision
to review our level of interest rate risk.  This analysis measures
interest rate risk by computing changes in net portfolio value of our cash flows
from assets, liabilities and off-balance sheet items in the event of a range of
assumed changes in market interest rates.  Net portfolio value
represents the market value of portfolio equity and is equal to the market value
of assets minus the market value of liabilities, with adjustments made for
off-balance sheet items.  This analysis assesses the risk of loss in
market risk sensitive instruments in the event of a sudden and sustained 100 to
300 basis point increase or 100 and 200 basis point decrease in market interest
rates with no effect given to any steps that we might take to counter the effect
of that interest rate movement.  Because of the low level of market
interest rates, this analysis is not performed for decreases of more than 200
basis points.  We measure interest rate risk by modeling the changes
in net portfolio value over a variety of interest rate
scenarios.


36


The following table, which is based on
information that we provide to the Office of Thrift Supervision, presents the
change in our net portfolio value at December 31, 2008, that would occur in the
event of an immediate change in interest rates based on Office of Thrift
Supervision assumptions, with no effect given to any steps that we might take to
counteract that change.





Estimated
      Net Portfolio Value
                      
                      
                      Net
      Portfolio Value as % of
                        Portfolio Value of
      AssetsBasis Point (“bp”)
                        Change
      in Rates
                      
                      $ Amount
                      
                      
                      $ Change
                      
                      
                      % Change
                      
                      
                      NPV
      Ratio
                      
                      
                      Change
    (bp)(Dollars
      in thousands)300
                      
                      $
                      13,521
                      
                      
                      $
                      (8,390
                      )
                      
                      
                      (38.00
                      )%
                      
                      
                      6.34
                      %
                      
                      
                      (323
                      )200
                      
                      
                      18,127
                      
                      
                      
                      (3,784
                      )
                      
                      
                      (17.00
                      )
                      
                      
                      8.24
                      
                      
                      
                      (134
                      )100
                      
                      
                      21,073
                      
                      
                      
                      (538
                      )
                      
                      
                      (2.00
                      )
                      
                      
                      9.46
                      
                      
                      
                      (11
                      )0
                      
                      
                      21,911
                      
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      9.57
                      
                      
                      
                      –(100)
                      
                      
                      20,273
                      
                      
                      
                      (1,738
                      )
                      
                      
                      (8.00
                      )
                      
                      
                      8.78
                      
                      
                      
                      (79
                      )(200)
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –
                      
                      
                      
                      –





The
Office of Thrift Supervision use various assumptions in assessing interest rate
risk.  These assumptions relate to interest rates, loan prepayment
rates, deposit decay rates, and the market values of certain assets under
differing interest rate scenarios, among others.  As with any method
of measuring interest rate risk, certain shortcomings are inherent in the
methods of analyses 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 have features that 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, expected rates of prepayments on loans and early withdrawals from
certificates could deviate significantly from those assumed in calculating the
table.  Prepayment rates can have a significant impact on interest
income.  Because of the large percentage of loans we hold, rising or
falling interest rates have a significant impact on the prepayment speeds of our
earning assets that in turn affect the rate sensitivity
position.  When interest rates rise, prepayments tend to
slow.  When interest rates fall, prepayments tend to
rise.  Our asset sensitivity would be reduced if prepayments slow and
vice versa.  While we believe these assumptions to be reasonable,
there can be no assurance that assumed prepayment rates will approximate actual
future loan repayment activity.




Liquidity
Management.Liquidity
is the ability to meet current and future financial obligations of a short-term
nature.  Our primary sources of funds consist of deposit inflows, loan
repayments, maturities and sales of securities and borrowings from the FHLB of
Pittsburgh.  While maturities and scheduled amortization of loans and
securities are predictable sources of funds, deposit flows and loan prepayments
are greatly influenced by general interest rates, economic conditions and
competition.




We
regularly adjust our investments in liquid assets based upon our assessment of
(1) expected loan demand, (2) expected deposit flows, (3) yields available on
interest-earning deposits and securities and (4) the objectives of our
asset/liability management policy.





Our most
liquid assets are cash and cash equivalents.  The levels of these
assets depend on our operating, financing, lending and investing activities
during any given period.  At December 31, 2008, cash and cash
equivalents totaled $4.7 million.  Securities classified as
available-for-sale, which provide additional sources of liquidity, totaled $37.8
million at December 31, 2008.  In addition, at December 31, 2008, we
had the ability to borrow a total of approximately $145.7 million from the FHLB
of Pittsburgh.  On December 31, 2008, we had $28.5 million of
borrowings outstanding.  Future growth of our loan portfolio resulting
from our expansion efforts may require us to borrow additional
funds.


37


At December 31, 2008, we had $2.5 in
mortgage loan commitments outstanding and $249,000 in unused lines of
credit.  Time deposits due within one year of December 31, 2008
totaled $39.3 million, or 43.5% of time deposits.  If these maturing
deposits do not remain with us, we will be required to seek other sources of
funds, including other time deposits and borrowings.  Depending on
market conditions, we may be required to pay higher rates on such deposits or
other borrowings than we currently pay on the time deposits due on or before
December 31, 2009.  We believe, however, based on past experience that
a significant portion of our time deposits will remain with us.  We
have the ability to attract and retain deposits by adjusting the interest rates
offered.





Our primary investing activities are
the origination of loans and the purchase of securities.  Our primary
financing activities consist of activity in deposit accounts and FHLB
advances.  Deposit flows are affected by the overall level of interest
rates, the interest rates and products offered by us and our local competition
and other factors.  We generally manage the pricing of our deposits to
be competitive and to increase core deposit
relationships.  Occasionally, we offer promotional rates on certain
deposit products to attract deposits.





Capital
Management.  We have managed our capital to maintain strong
protection for depositors and creditors.  We are subject to various
regulatory capital requirements administered by the Office of Thrift
Supervision, including a risk-based capital measure.  The risk-based
capital guidelines include both a definition of capital and a framework for
calculating risk-weighted assets by assigning balance sheet assets and
off-balance sheet items to broad risk categories.  At December 31,
2008, we exceeded all of our regulatory capital requirements.  We are
considered “well capitalized” under regulatory guidelines.  See “Regulation and Supervision— Federal
Savings Associations Regulation—Capital Requirements” and note 13 of
the notes to the consolidated financial statements.





We also manage our capital for maximum
shareholder benefit.  The capital from the offering significantly
increased our liquidity and capital resources.  Over time, the initial
level of liquidity will be reduced as net proceeds from the stock offering are
used for general corporate purposes, including the funding of lending
activities.  Our financial condition and results of operations are
expected to be enhanced by the capital from the offering, resulting in increased
net interest-earning assets and net income.  However, the large
increase in equity resulting from the capital raised in the offering will,
initially, have an adverse impact on our return on equity.  We may use
capital management tools such as cash dividends and common share
repurchases.  However, under OTS regulations, we are not allowed to
repurchase any shares during the first year following our offering, except to
fund the restricted stock awards under the equity incentive plan, unless
extraordinary circumstances exist and we receive regulatory
approval.





Off-Balance
Sheet Arrangements





In the normal course of operations, we
engage in a variety of financial transactions that, in accordance with generally
accepted accounting principles, are not recorded in our financial
statements.  These transactions involve, to varying degrees, elements
of credit, interest rate and liquidity risk.  Such transactions are
used primarily to manage customers’ requests for funding and take the form of
loan commitments.  A presentation of our outstanding loan commitments
at December 31, 2008 and their effect on our liquidity is presented at
note 11 of the notes to the consolidated financial statements and under
“—Risk Management—Liquidity
Management.”





For the years ended December 31, 2008
and December 31, 2007, we did not engage in any off-balance-sheet transactions
reasonably likely to have a material effect on our financial condition, results
of operations or cash flows.





Effect
of Inflation and Changing Prices





The financial statements and related
financial data presented in this annual report on Form 10-K have been prepared
in accordance with U.S. generally accepted accounting principles, which require
the measurement of financial position and operating results in terms of
historical dollars without considering the change in the relative purchasing
power of money over time due to inflation.  The primary impact of
inflation on our operations is reflected in increased operating
costs.  Unlike most industrial companies, virtually all the assets and
liabilities of a financial institution are monetary in nature.  As a
result, interest rates generally have a more significant impact on a financial
institution’s performance than do general levels of
inflation.  Interest rates do not necessarily move in the same
direction or to the same extent as the prices of goods and
services.


38





ITEM
      7A.
            QUANTITATIVE
      AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK





Not applicable as the Company is a
smaller reporting company.




ITEM
      8.
            FINANCIAL
      STATEMENTS AND SUPPLEMENTARY DATA





Information required by this item is
included herein beginning on page F-1.





ITEM
      9.
              CHANGES
      IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
      DISCLOSURE





None.





ITEM
      9A(T).
              CONTROLS
      AND PROCEDURES





The Company’s management, including the
Company’s principal executive officer and principal financial officer, have
evaluated the effectiveness of the Company’s “disclosure controls and
procedures,” as such term is defined in Rule 13a-15(e) promulgated under the
Securities Exchange Act of 1934, as amended, (the “Exchange
Act”).  Based upon their evaluation, the principal executive officer
and principal financial officer concluded that, as of the end of the period
covered by this report, the Company’s disclosure controls and procedures were
effective for the purpose of ensuring that the information required to be
disclosed in the reports that the Company files or submits under the Exchange
Act with the Securities and Exchange Commission (1) is recorded, processed,
summarized and reported within the time periods specified in the SEC’s rules and
forms and (2) is accumulated and communicated to the Company’s management,
including its principal executive officer and principal financial officer, as
appropriate to allow timely decisions regarding required
disclosure.  In addition, based on that evaluation, no changes in the
Company’s internal control over financial reporting occurred during the quarter
ended December 31, 2008 that have materially affected, or are reasonably likely
to materially affect, the Company’s internal control over financial
reporting.





Management’s report on internal control
over financial reporting is incorporated herein by reference to the section
captioned “Management’s Report
on Internal Control Over Financial Reporting” immediately preceding the
Company’s Consolidated Financial Statements beginning on page F-1 of this Annual
Report on Form 10-K.




ITEM
      9B.
            OTHER
      INFORMATION





None.


39


PART
III





ITEM
      10.
              DIRECTORS,
      EXECUTIVE OFFICERS AND CORPORATE
GOVERNANCE





Board
of Directors





For information relating to the
directors of the Company, the section captioned “Item 1 – Election of
Directors” in the Company’s Proxy Statement for the 2009 Annual Meeting
of Stockholders is incorporated by reference.





Executive
Officers





For information relating to the
executive officers of the Company, the section captioned “Item 1 – Election of
Directors” in the Company’s Proxy Statement for the 2009 Annual Meeting
of Stockholders is incorporated by reference.





Section
16(a) Beneficial Ownership Reporting Compliance





For information regarding compliance
with Section 16(a) of the Exchange Act, the cover page to this Annual Report on
Form 10-K and the section captioned “Section 16(a) Beneficial Ownership
Compliance” in the Company’s Proxy Statement for the 2009 Annual Meeting
of Stockholders are incorporated by reference.





Code
of Ethics and Business Conduct





The Company has adopted a Code of
Ethics and Business Conduct.  A copy of the Code of Ethics and
Business Conduct is available, without charge, upon written request to Paul D.
Rutkowski, Corporate Secretary, Polonia Bancorp, 3993 Huntingdon Pike, Suite
300, Huntingdon Valley, Pennsylvania 19006.





Audit
Committee of the Board of Directors





For information regarding the audit
committee and its composition and the audit committee financial expert, the
section captioned “Item 1 –
Election of Directors” in the Company’s Proxy Statement for the 2009
Annual Meeting of Stockholders is incorporated by reference.





ITEM
      11.
            EXECUTIVE
      COMPENSATION





For information regarding executive
compensation the section entitled “Executive Compensation”and
“Directors’ Compensation”in the Company’s Proxy Statement for the 2009 Annual Meeting of
Stockholders are incorporated by reference.





ITEM
      12.
              SECURITY
      OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
      STOCKHOLDER MATTERS





(a)           Security
Ownership of Certain Beneficial Owners





The information required by this item
is incorporated herein by reference to the section captioned “Stock Ownership” in the
Proxy Statement.





(b)           Security
Ownership of Management





The information required by this item
is incorporated herein by reference to the section captioned “Stock Ownership” in the
Proxy Statement.


40





(c)
            Changes
      in Control





Management of Polonia Bancorp knows of
no arrangements, including any pledge by any person of securities of Polonia
Bancorp, the operation of which may at a subsequent date result in a change in
control of the registrant.





(d)
            Securities
      Authorized for Issuance under Equity Compensation
  Plans





The
Company has adopted the Polonia Bancorp 2007 Equity Incentive Plan, which was
approved by stockholders in July 2007.  The following table sets forth
certain information with respect to the Company’s equity compensation plan as of
December 31, 2008.





Plan
      Category
                
                Number
      of securities
                  to
      be issued upon
                  the
      exercise of
                  outstanding
      options,
                  warrants
      and rights
                
                
                Weighted-average
                  exercise
      price of
                  outstanding
      options,
                  warrants
      and rights
                
                
                Number
      of securities
                  remaining
      available
                  for
      future issuance under equity
                  compensation
      plans (excluding
                  securities
      reflected in the first
                  column)Equity
      compensation plansapproved
      by security holders
                
                
                162,003
                
                
                
                $         
       9.40
                
                
                
                -Equity
      compensation plansnot
      approved by security holders
                
                
                -
                
                
                
                -
                
                
                
                -Total
                
                
                162,003
                
                
                
                $         
       9.40
                
                
                
                -





ITEM
      13.
              CERTAIN
      RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
      INDEPENDENCE





Certain
Relationships and Related Transactions





For information regarding certain
relationships and related transactions, the section captioned ”Transactions with Related
Persons” in the Company’s Proxy Statement for the 2009 Annual Meeting of
Stockholders is incorporated by reference.





Corporate
Governance





For information regarding director
independence, the section captioned “Corporate Governance – Director
Independence”in the Company’s Proxy Statement for the 2009 Annual
Meeting of Stockholders is incorporated by reference.





ITEM
      14.
            PRINCIPAL
      ACCOUNTANT FEES AND SERVICES





For information regarding the principal
accountant fees and expenses, the section captioned “Proposal 2 – Ratification of
Independent Registered Public Accounting Firm” in the Company’s Proxy
Statement for the 2009 Annual Meeting of Stockholders is incorporated by
reference.





ITEM
      15.
            EXHIBITS
      AND FINANCIAL STATEMENT SCHEDULES





3.1
            Charter
      of Polonia Bancorp (1)


3.2
            Bylaws
      of Polonia Bancorp(4)


4.0
            Stock
      Certificate of Polonia Bancorp (1)


10.1
            Amended
      and Restated Polonia Bancorp Employment Agreement with Anthony J.
      Szuszczewicz


10.2
            Amended
      and Restated Polonia Bank Employment Agreement with Anthony J.
      Szuszczewicz


10.3
            Amended
      and Restated Polonia Bancorp Employment Agreement with Paul D.
      Rutkowski


10.4
            Amended
      and Restated Polonia Bank Employment Agreement with Paul D.
      Rutkowski


10.5
            Amended
      and Restated Polonia Bancorp Employment Agreement with Kenneth J.
      Maliszewski


10.6
            Amended
      and Restated Polonia Bank Employment Agreement with Kenneth J.
      Maliszewski


41





10.7
            Amended
      and Restated Polonia Bank Employee Severance Compensation
    Plan


10.8
            Amended
      and Restated Supplemental Executive Retirement
  Plan


10.9
            Supplemental
      Executive Retirement Plan for Anthony J. Szuszczewicz(1)


10.10
            Supplemental
      Executive Retirement Plan for Edward W. Lukiewski(1)


10.11
            Non-Qualified
      Deferred Compensation Plan(1)


10.12
            Supplemental
      Executive Retirement Plan for Paul D. Rutkowski(1)


10.13
            Supplemental
      Executive Retirement Plan for Kenneth J. Maliszewski(1)


10.14
            Split
      Dollar Life Insurance Agreement with Paul D. Rutkowski(2)


10.15
            Split
      Dollar Life Insurance Agreement with Kenneth J. Maliszewski(2)


10.16
            Polonia
      Bancorp 2007 Equity Incentive Plan(3)


10.17
            Form
      of Amendment to the Supplemental Executive Retirement Plan Participation
      Agreement


10.18
            Amendment
      to the Supplemental Executive Retirement Plan for Anthony J.
      Szuszczewicz


10.19
            Amendment
      to Polonia Bank Non-Qualified Deferred Compensation
  Plan


21.0
            Subsidiaries
      of the Registrant


23.1
            Consent
      of S.R. Snodgrass, A.C.31.1
            Rule
      13a-14(a)/15d-14(a) Certification of Chief Executive Officer31.2
            Rule
      13a-14(a)/15d-14(a) Certification of Chief Financial Officer32.0
            Section
      1350 Certification







(1)
            Incorporated
      by reference into this document from the Exhibits filed with the
      Securities and Exchange Commission on the Registration Statement on Form
      SB-2, (File No. 333-135643) and any amendments
  thereto.


(2)
            Incorporated
      by reference into this document from the Exhibits filed with the
      Securities and Exchange Commission on the Current Report on Form 8-K,
      filed on January 25, 2007 (File No.
000-52267).


(3)
              Incorporated
      herein by reference to Appendix D in the definitive proxy statement filed
      with the SEC on June 12, 2007 (File No. 000-52267).(4)
              Incorporated
      herein by reference to Exhibit 3.1 filed with the Securities and Exchange
      Commission on the Current Report on Form 8-K, filed on January 22, 2009
      (File No. 000-52267).


42


SIGNATURES





In accordance with Section 13 or 15(d)
of the Exchange Act, the registrant caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.








POLONIA
      BANCORPDate:
      March 30, 2009
                        By:
                        /s/ Anthony J.
  SzuszczewiczAnthony
      J. SzuszczewiczChairman,
      President and Chief Executive
Officer





In accordance with the Exchange Act,
this report has been signed below by the following persons on behalf of the
registrant in the capacities and on the dates indicated.





Name
              
              Title
              
              Date/s/ Anthony J. Szuszczewicz
              
              Chairman,
      President and Chief Executive
              
              March
      30, 2009Anthony
      J. Szuszczewicz
              
              Officer
      (principal executive officer)/s/ Paul D. Rutkowski
              
              Chief
      Financial Officer and Treasurer
              
              March
      30, 2009Paul
      D. Rutkowski
              
              (principal
      accounting and financial officer)/s/ Dr. Eugene Andruczyk
              
              Director
              
              March
      30, 2009Dr.
      Eugene Andruczyk/s/ Frank J. Byrne
              
              Director
              
              March
      30, 2009Frank
      J. Byrne/s/ Edward W. Lukiewski
              
              Director
              
              March
      30, 2009Edward
      W. Lukiewski/s/
      Timothy O' Shaughnessy
              
              Director
              
              March
      30, 2009Timothy
      O' Shaughnessy/s/ Robert J. Woltjen
              
              Director
              
              March
      30, 2009Robert
      J. Woltjen





POLONIA
BANCORP


AUDITED
CONSOLIDATED FINANCIAL STATEMENTS


DECEMBER
31, 2008





PageNumberManagement’s
      Report on Internal Control Over Financial Reporting
              F –
      1Report
      of Independent Registered Public Accounting Firm
              F -
      2Financial
      StatementsConsolidated
      Balance Sheet
              F -
      3Consolidated
      Statement of Income
              F -
      4Consolidated
      Statement of Changes in Stockholders’ Equity
              F -
      5Consolidated
      Statement of Cash Flows
              F -
      6Notes
      to the Consolidated Financial Statements
              F -
      7 – F - 31





MANAGEMENT’S
REPORT ON
 INTERNAL
CONTROL OVER FINANCIAL REPORTING





The
Company’s management is responsible for establishing and maintaining adequate
internal control over financial reporting.  Our internal control over
financial reporting is a process designed to provide reasonable assurance
regarding the reliability of our financial reporting and of the preparation of
our consolidated financial statements for external purposes in accordance with
United States generally accepted accounting principles.





A
company’s internal control over financial reporting includes those policies and
procedures that (1) pertain to the maintenance of records that, in reasonable
detail, accurately and fairly reflect the transactions and dispositions of the
assets of the company; (2) provide reasonable assurance that transactions are
recorded as necessary to permit preparation of consolidated financial statements
in accordance with generally accepted accounting principles, and that receipts
and expenditures of the company are being made only in accordance with
authorizations of management and directors of the company; and (3) provide
reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of the company’s assets that could have a
material effect on the consolidated financial statements.





Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements.  Also, projections of any evaluation
of effectiveness to future periods are subject to the risk that controls may
become inadequate because of changes in conditions, or that the degree of
compliance with the policies or procedures may deteriorate.





The
Company’s management assessed the effectiveness of its internal control over
financial reporting as of December
31, 2008, using the criteria established in Internal Control-Integrated
Framework, issued by the Committee of Sponsoring Organizations of the Treadway
Commission (“COSO”).  Based on this assessment, management has
concluded that, as of December 31, 2008, the Company’s internal control over
financial reporting was effective based on the criteria.




This
annual report does not include an attestation report of the Company’s
Independent Registered Public Accounting Firm regarding internal control over
financial reporting.  Management’s report was not subject to
attestation by the Company’s Independent Registered Public Accounting Firm
pursuant to temporary rules of the Securities and Exchange Commission that
permit the Company to provide only management’s report in this annual
report.


F-1




REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





Board of
Directors


Polonia
Bancorp





We have
audited the consolidated balance sheets of Polonia Bancorp and subsidiary as of
December 31, 2008 and 2007, and the related consolidated statements of income,
stockholders’ equity, and cash flows for the years then ended. These financial
statements are the responsibility of the Company’s management. Our
responsibility is to express an opinion on these financial statements based on
our audits.





We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.





In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Polonia Bancorp and
subsidiary as of December 31, 2008 and 2007, and the results of their operations
and their cash flows for the years then ended, in conformity with U.S. generally
accepted accounting principles.





As
discussed in Note 14 to the consolidated financial statements, effective
January 1, 2008, the Company adopted Statement of Financial Accounting
Standards No. 157, Fair
Value Measurements.





We were
not engaged to examine management’s assertion about the effectiveness of Polonia
Bancorp’s internal control over financial reporting as of December 31, 2008,
included in the accompanying “Management’s Report on Internal Control Over
Financial Reporting” and, accordingly, we do not express an opinion
thereon.







Wexford,
PA


March 31,
2009


F-2


POLONIA
BANCORP
 CONSOLIDATED
BALANCE SHEET
 
 December 31,2008
                      
                      
                      2007ASSETSCash
      and due from banks
                      
                      $
                      1,938,465
                      
                      
                      $
                      980,929Interest-bearing
      deposits with other institutions
                      
                      
                      2,732,477
                      
                      
                      
                      2,844,796Cash
      and cash equivalents
                      
                      
                      4,670,942
                      
                      
                      
                      3,825,725Investment
      securities available for sale
                      
                      
                      37,788,887
                      
                      
                      
                      45,885,415Loans
      receivable (net of allowance for loan losses of $857,702 and
      $731,338)
                      
                      
                      163,758,907
                      
                      
                      
                      137,279,915Accrued
      interest receivable
                      
                      
                      881,954
                      
                      
                      
                      848,930Federal
      Home Loan Bank stock
                      
                      
                      2,279,200
                      
                      
                      
                      1,270,800Premises
      and equipment, net
                      
                      
                      4,970,314
                      
                      
                      
                      5,195,812Bank-owned
      life insurance
                      
                      
                      3,936,358
                      
                      
                      
                      4,172,776Other
      assets
                      
                      
                      1,949,641
                      
                      
                      
                      2,117,796TOTAL
      ASSETS
                      
                      $
                      220,236,203
                      
                      
                      $
                      200,597,169LIABILITIESDeposits
                      
                      $
                      164,586,405
                      
                      
                      $
                      163,216,663FHLB
      advances - short-term
                      
                      
                      4,000,000
                      
                      
                      
                      6,000,000FHLB
      advances - long-term
                      
                      
                      24,553,349
                      
                      
                      
                      4,098,370Advances
      by borrowers for taxes and insurance
                      
                      
                      1,413,396
                      
                      
                      
                      1,224,248Accrued
      interest payable
                      
                      
                      63,867
                      
                      
                      
                      9,504Other
      liabilities
                      
                      
                      2,015,505
                      
                      
                      
                      2,054,639TOTAL
      LIABILITIES
                      
                      
                      196,632,522
                      
                      
                      
                      176,603,424Commitments
      and contingencies (Note 11)
                      
                      
                      -
                      
                      
                      
                      -STOCKHOLDERS'
      EQUITYPreferred
      stock ($.01 par value; 1,000,000 shares authorized; none issued or
      outstanding)
                      
                      
                      -
                      
                      
                      
                      -Common
      stock ($.01 par value; 14,000,000 shares authorized; 3,306,250 shares
      issued)
                      
                      
                      33,063
                      
                      
                      
                      33,063Additional
      paid-in-capital
                      
                      
                      13,515,680
                      
                      
                      
                      13,275,264Retained
      earnings
                      
                      
                      11,506,078
                      
                      
                      
                      11,752,230Unallocated
      shares held by Emploee Stock Ownership Plan"ESOP" (112,324 and
      120,964 shares)
                      
                      
                      (1,123,243
                      )
                      
                      
                      (1,209,647
                      )Treasury
      stock (115,190 shares)
                      
                      
                      (983,145
                      )
                      
                      
                      -Accumulated
      other comprehensive income
                      
                      
                      655,248
                      
                      
                      
                      142,835TOTAL
      STOCKHOLDERS' EQUITY
                      
                      
                      23,603,681
                      
                      
                      
                      23,993,745TOTAL
      LIABILITIES AND STOCKHOLDERS' EQUITY
                      
                      $
                      220,236,203
                      
                      
                      $
                      200,597,169
 
 See
accompanying notes to the consolidated financial statements.
  F-3
  POLONIA
BANCORP
 CONSOLIDATED
STATEMENT OF INCOME
 
 Year
      Ended December 31,2008
                  
                  
                  2007INTEREST
      AND DIVIDEND INCOMELoans
      receivable
                  
                  $
                  8,908,312
                  
                  
                  $
                  7,253,595Investment
      securities
                  
                  
                  2,013,748
                  
                  
                  
                  2,361,318Interest-bearing
      deposits and other dividends
                  
                  
                  147,139
                  
                  
                  
                  682,375Total
      interest and dividend income
                  
                  
                  11,069,199
                  
                  
                  
                  10,297,288INTEREST
      EXPENSEDeposits
                  
                  
                  4,680,041
                  
                  
                  
                  5,367,463FHLB
      advances - short-term
                  
                  
                  51,290
                  
                  
                  
                  59,899FHLB
      advances - long-term
                  
                  
                  555,512
                  
                  
                  
                  190,359Advances
      by borrowers for taxes and insurance
                  
                  
                  25,130
                  
                  
                  
                  20,869Total
      interest expense
                  
                  
                  5,311,973
                  
                  
                  
                  5,638,590NET
      INTEREST INCOME BEFORE PROVISION FOR LOAN LOSSES
                  
                  
                  5,757,226
                  
                  
                  
                  4,658,698Provision
      for loan losses
                  
                  
                  84,992
                  
                  
                  
                  31,367NET
      INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES
                  
                  
                  5,672,234
                  
                  
                  
                  4,627,331NONINTEREST
      INCOMEService
      fees on deposit accounts
                  
                  
                  115,551
                  
                  
                  
                  129,014Earnings
      on bank-owned life insurance
                  
                  
                  (236,418
                  )
                  
                  
                  192,083Investment
      securities losses
                  
                  
                  (411,500
                  )
                  
                  
                  -Gain
      on sale of loans
                  
                  
                  122,658
                  
                  
                  
                  -Rental
      income
                  
                  
                  311,002
                  
                  
                  
                  292,875Other
                  
                  
                  183,153
                  
                  
                  
                  146,552Total
      noninterest income
                  
                  
                  84,446
                  
                  
                  
                  760,524NONINTEREST
      EXPENSECompensation
      and employee benefits
                  
                  
                  3,331,853
                  
                  
                  
                  2,960,996Occupancy
      and equipment
                  
                  
                  1,072,173
                  
                  
                  
                  1,036,242Federal
      deposit insurance premiums
                  
                  
                  121,132
                  
                  
                  
                  138,289Data
      processing expense
                  
                  
                  271,197
                  
                  
                  
                  261,337Professional
      fees
                  
                  
                  314,855
                  
                  
                  
                  474,166Other
                  
                  
                  989,820
                  
                  
                  
                  1,006,978Total
      noninterest expense
                  
                  
                  6,101,030
                  
                  
                  
                  5,878,008Loss
      before income tax benefit
                  
                  
                  (344,350
                  )
                  
                  
                  (490,153
                  )Income
      tax benefit
                  
                  
                  (98,198
                  )
                  
                  
                  (164,582
                  )NET
      LOSS
                  
                  $
                  (246,152
                  )
                  
                  $
                  (325,571
                  )EARNINGS
      PER SHARE, BASIC AND DILUTED*
                  
                  $
                  (0.08
                  )
                  
                  $
                  (0.10
                  )Weighted-average
      common shares outstanding, basic and diluted
                  
                  
                  3,084,037
                  
                  
                  
                  3,175,615
 
 *
Earnings per share for the year ended December 31, 2007, are based on the period
after Polonia’s reorganization, January 17, 2007.
 
 See
accompanying notes to the consolidated financial statements.
  F-4
  POLONIA
BANCORP
 CONSOLIDATED
STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
 
 AccumulatedOtherCommon
      Stock
                                  
                                  
                                  Additional
                                  
                                  
                                  Retained
                                  
                                  
                                  Unallocated
                                  
                                  
                                  Treasury
                                  
                                  
                                  Comprehensive
                                  
                                  
                                  
                                  
                                  
                                  ComprehensiveShares
                                  
                                  
                                  Amount
                                  
                                  
                                  Paid-In-Capital
                                  
                                  
                                  Earnings
                                  
                                  
                                  ESOP
      Shares
                                  
                                  
                                  Stock
                                  
                                  
                                  Income
      (Loss)
                                  
                                  
                                  Total
                                  
                                  
                                  Income
      (Loss)Balance,
      December 31, 2006
                                  
                                  
                                  -
                                  
                                  
                                  $
                                  -
                                  
                                  
                                  $
                                  -
                                  
                                  
                                  $
                                  12,077,801 $
                                  
                                  
                                  
                                  -
                                  
                                  
                                  $
                                  -
                                  
                                  
                                  $
                                  (300,808
                                  )
                                  
                                  $
                                  11,776,993Net
      loss
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (325,571
                                  )
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (325,571
                                  )
                                  
                                  
                                  (325,571
                                  )Other
      comprehensive income:Unrealized
      gain on available-for-sale securities, net of taxes of
      $228,543
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  443,643
                                  
                                  
                                  
                                  443,643
                                  
                                  
                                  
                                  443,643Comprehensive
      income
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  $
                                  118,072Common
      stock issued
                                  
                                  
                                  3,306,250
                                  
                                  
                                  
                                  33,063
                                  
                                  
                                  
                                  13,192,598
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (1,296,050
                                  )
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  11,929,611Stock
      options compensation expense
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  31,436
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  31,436Allocation
      of unearned ESOP shares
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  10,622
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  86,403
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  97,025Allocation
      of unearned restricted shares
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  40,608
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  40,608Balance,
      December 31, 2007
                                  
                                  
                                  3,306,250
                                  
                                  
                                  
                                  33,063
                                  
                                  
                                  
                                  13,275,264
                                  
                                  
                                  
                                  11,752,230
                                  
                                  
                                  
                                  (1,209,647
                                  )
                                  
                                  
                                  -
                                  
                                  
                                  
                                  142,835
                                  
                                  
                                  
                                  23,993,745Net
      loss
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (246,152
                                  )
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (246,152
                                  )
                                  
                                  $
                                  (246,152
                                  )Other
      comprehensive income:Unrealized
      gain on available-for-sale securities, net of reclassification
      adjustment, net of taxes of $263,970
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  512,413
                                  
                                  
                                  
                                  512,413
                                  
                                  
                                  
                                  512,413Comprehensive
      income
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  $
                                  266,261Purchase
      of treasury stock (115,190 shares)
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (983,145
                                  )
                                  
                                  
                                  
                                  
                                  
                                  
                                  (983,145
                                  )Stock
      options compensation expense
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  111,593
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  111,593Allocation
      of unearned ESOP shares
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (15,335
                                  )
                                  
                                  
                                  
                                  
                                  
                                  
                                  86,404
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  71,069Allocation
      of unearned restricted stock
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  144,158
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  144,158Balance,
      December 31, 2008
                                  
                                  
                                  3,306,250
                                  
                                  
                                  $
                                  33,063
                                  
                                  
                                  $
                                  13,515,680
                                  
                                  
                                  $
                                  11,506,078 $
                                  
                                  
                                  
                                  (1,123,243
                                  )
                                  
                                  $
                                  (983,145
                                  )
                                  
                                  $
                                  655,248
                                  
                                  
                                  $
                                  23,603,681Components
      of other comprehensive income:
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  2008
                                  
                                  
                                  2007Changes
      in net unrealized gain on investment securities available for
      sale
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  $
                                  784,003 $
                                  
                                  
                                  $
                                  443,643Realized
      losses included in net loss, net of tax benefit of
$139,910
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  (27,590
                                  )
                                  
                                  
                                  -Total
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  $
                                  512,413 $
                                  
                                  
                                  $
                                  443,643
 
 See
accompanying notes to the unaudited consolidated financial
statements.
  F-5
  POLONIA
BANCORP
 CONSOLIDATED
STATEMENT OF CASH FLOWS
 
 Year
      Ended December 31,2008
                                      
                                      
                                      2007OPERATING
      ACTIVITIESNet
      loss
                                      
                                      $
                                      (246,152
                                      )
                                      
                                      $
                                      (325,571
                                      )Adjustments
      to reconcile net loss to net cash provided by (used for) operating
      activities:Provision
      for loan losses
                                      
                                      
                                      84,992
                                      
                                      
                                      
                                      31,367Depreciation,
      amortization, and accretion
                                      
                                      
                                      349,537
                                      
                                      
                                      
                                      393,778Investment
      securities losses
                                      
                                      
                                      411,500
                                      
                                      
                                      
                                      -Proceeds
      from sale of loans
                                      
                                      
                                      5,837,574
                                      
                                      
                                      
                                      -Net
      gain on sale of loans
                                      
                                      
                                      (122,658
                                      )
                                      
                                      
                                      -Loans
      originated for sale
                                      
                                      
                                      (5,714,916
                                      )
                                      
                                      
                                      -Earnings
      on bank-owned life insurance
                                      
                                      
                                      236,418
                                      
                                      
                                      
                                      (192,083
                                      )Deferred
      federal income taxes
                                      
                                      
                                      (211,032
                                      )
                                      
                                      
                                      (217,855
                                      )Increase
      in accrued interest receivable
                                      
                                      
                                      (33,024
                                      )
                                      
                                      
                                      (53,345
                                      )Increase
      (decrease) in accrued interest payable
                                      
                                      
                                      54,363
                                      
                                      
                                      
                                      (10,943
                                      )Compensaiton
      expense for stock options, ESOP, and restricted stock
                                      
                                      
                                      326,820
                                      
                                      
                                      
                                      169,069Other,
      net
                                      
                                      
                                      76,083
                                      
                                      
                                      
                                      (136,748
                                      )Net
      cash provided by (used for) operating activities
                                      
                                      
                                      1,049,505
                                      
                                      
                                      
                                      (342,331
                                      )INVESTING
      ACTIVITIESInvestment
      securities available for sale:Proceeds
      from principal repayments and maturities
                                      
                                      
                                      16,972,041
                                      
                                      
                                      
                                      10,282,486Purchases
                                      
                                      
                                      (8,528,764
                                      )
                                      
                                      
                                      (9,852,370
                                      )Increase
      in loans receivable, net
                                      
                                      
                                      (23,564,121
                                      )
                                      
                                      
                                      (21,504,304
                                      )Loans
      purchased
                                      
                                      
                                      (2,966,157
                                      )
                                      
                                      
                                      (3,855,244
                                      )Purchase
      of Federal Home Loan Bank stock
                                      
                                      
                                      (2,092,700
                                      )
                                      
                                      
                                      (466,800
                                      )Redemptions
      of Federal Home Loan Bank stock
                                      
                                      
                                      1,084,300
                                      
                                      
                                      
                                      130,600Purchase
      of premises and equipment
                                      
                                      
                                      (191,943
                                      )
                                      
                                      
                                      (286,450
                                      )Proceeds
      from the sale of premises and equipment
                                      
                                      
                                      52,332
                                      
                                      
                                      
                                      -Net
      cash used for investing activities
                                      
                                      
                                      (19,235,012
                                      )
                                      
                                      
                                      (25,552,082
                                      )FINANCING
      ACTIVITIESIncrease
      in deposits, net
                                      
                                      
                                      1,369,742
                                      
                                      
                                      
                                      6,488,478Net
      increase (decrease) in FHLB advances - short-term
                                      
                                      
                                      (2,000,000
                                      )
                                      
                                      
                                      6,000,000Repayment
      of FHLB advances - long-term
                                      
                                      
                                      (1,311,021
                                      )
                                      
                                      
                                      (2,146,853
                                      )Proceeds
      of FHLB advances - long-term
                                      
                                      
                                      21,766,000
                                      
                                      
                                      
                                      -Purchase
      of treasury stock
                                      
                                      
                                      (983,145
                                      )
                                      
                                      
                                      -Repayment
      of stock offering subscription rights
                                      
                                      
                                      -
                                      
                                      
                                      
                                      (12,233,800
                                      )Deferred
      conversion costs
                                      
                                      
                                      -
                                      
                                      
                                      
                                      (373,947
                                      )Increase
      in advances by borrowers for taxes and insurance, net
                                      
                                      
                                      189,148
                                      
                                      
                                      
                                      120,003Net
      cash provided by (used for) financing activities
                                      
                                      
                                      19,030,724
                                      
                                      
                                      
                                      (2,146,119
                                      )Increase
      (decrease) in cash and cash equivalents
                                      
                                      
                                      845,217
                                      
                                      
                                      
                                      (28,040,532
                                      )CASH
      AND CASH EQUIVALENTS AT BEGINNING OF YEAR
                                      
                                      
                                      3,825,725
                                      
                                      
                                      
                                      31,866,257CASH
      AND CASH EQUIVALENTS AT END OF YEAR
                                      
                                      $
                                      4,670,942
                                      
                                      
                                      $
                                      3,825,725SUPPLEMENTAL
      CASH FLOW DISCLOSURESCash
      paid:Interest
                                      
                                      $
                                      5,257,610
                                      
                                      
                                      $
                                      5,649,533Income
      taxes
                                      
                                      
                                      -
                                      
                                      
                                      
                                      75,000Noncash
      transactions:Transfers
      from subscriptions rights to stockholders' equity
                                      
                                      
                                      -
                                      
                                      
                                      
                                      12,549,940Transfers
      from customers savings to stockholders' equity
                                      
                                      
                                      -
                                      
                                      
                                      
                                      993,818
 
 See
accompanying notes to the consolidated financial
statements.
  F-6
  POLONIA
BANCORP
 NOTES
TO THE CONSOLIDATED FINANCIAL STATEMENTS
 
 1.
                SUMMARY
      OF SIGNIFICANT ACCOUNTING
POLICIES
 
 A summary
of significant accounting and reporting policies applied in the presentation of
the accompanying consolidated financial statements follows:
 
 Nature of Operations and
Basis of Presentation
 
 Polonia
Bancorp (the “Company”) was organized as a federally chartered corporation at
the direction of Polonia Bank (the “Bank”) in January 2007 to become the
mid-tier stock holding company for the Bank upon the completion of its
reorganization into the mutual holding company form of
organization.  Pursuant to the Plan of Reorganization, the Bank
converted to stock form with all of its stock owned by the Company.
 
 The Bank
was incorporated under Pennsylvania law in 1923.  The Bank is a
federally chartered savings bank located in Huntingdon Valley, Pennsylvania,
whose principal sources of revenue emanate from its investment securities
portfolio and its portfolio of residential real estate, commercial real estate,
and consumer loans, as well as a variety of deposit services offered to its
customers through five offices located in the Greater Philadelphia
area.  The Bank is subject to regulation by the Office of Thrift
Supervision (the “OTS”) and the Federal Deposit Insurance Corporation. Community
Abstract Agency, LLC (“CAA”) provides title insurance on loans secured by real
estate.
 
 The
consolidated financial statements include the accounts of the Bank and the
Bank’s wholly owned subsidiaries, Polonia Bank Mutual Holding Company (“PBMHC”),
a Delaware investment company, and CAA.  All intercompany transactions
have been eliminated in consolidation.  The investment in subsidiaries
on the parent Company’s financial statements is carried at the parent Company’s
equity in the underlying net assets.
 
 Use of Estimates in the
Preparation of Financial Statements
 
 The
accounting principles followed by the Company and the subsidiaries and the
methods of applying these principles conform to U.S. generally accepted
accounting principles and to general practice within the banking
industry.  In preparing the consolidated financial statements,
management is required to make estimates and assumptions that affect the
reported amounts of assets and liabilities as of the balance sheet date and
related revenues and expenses for the period.  Actual results could
differ significantly from those estimates.
 
 Investment
Securities
 
 Investment
securities are classified at the time of purchase, based on management’s
intention and ability, as securities held to maturity or securities available
for sale.  Debt securities acquired with the intent and ability to
hold to maturity are stated at cost, adjusted for amortization of premium and
accretion of discount, which are computed using the interest method and
recognized as adjustments of interest income.  Certain other debt
securities have been classified as available for sale to serve principally as a
source of liquidity.  Unrealized holding gains and losses for
available-for-sale securities are reported as a separate component of
stockholders’ equity, net of tax, until realized.  Realized security
gains and losses are computed using the specific identification method for debt
securities and the average cost method for marketable equity
securities.  Interest and dividends on investment securities are
recognized as income when earned.
 
 Common
stock of the Federal Home Loan Bank of Pittsburgh (“FHLB”) represents ownership
in an institution that is wholly owned by other financial
institutions.  This equity security is accounted for at cost and
classified separately on the Consolidated Balance Sheet.
  F-7
 
 1.     SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
 
 Investment Securities
(Continued)
 
 Securities
are periodically reviewed for other-than-temporary impairment based upon a
number of factors, including, but not limited to, the length of time and extent
to which the market value has been less than cost, the financial condition of
the underlying issuer, the ability of the issuer to meet contractual
obligations, the likelihood of the security’s ability to recover any decline in
its market value, and management’s intent and ability to hold the security for a
period of time sufficient to allow for a recovery in market value. Among the
factors that are considered in determining management’s intent and ability is a
review of the Company’s capital adequacy, interest rate risk position, and
liquidity. The assessment of a security’s ability to recover any decline in
market value, the ability of the issuer to meet contractual obligations, and
management’s intent and ability requires considerable judgment. A decline in
value that is considered to be other than temporary is recorded as a
loss within noninterest income in the Consolidated Statement of
Income.
 
 Loans
Receivable
 
 Loans are
stated at the principal amount outstanding less the allowance for loan losses
and net of deferred loan origination fees and costs.  Interest on
loans is recognized as income when earned on the accrual method.
 
 Loans on
which the accrual of interest has been discontinued are designated as nonaccrual
loans.  Accrual of interest on loans is generally discontinued when it
is determined that a reasonable doubt exists as to the collectibility of
principal, interest, or both.  Loans are returned to accrual status
when past due interest is collected and the collection of principal is
probable.
 
 Loan
origination fees and certain direct loan origination costs are being deferred
and the net amount amortized as an adjustment of the related loan’s
yield.  The Company is amortizing these amounts over the contractual
life of the related loans using the interest method.
 
 Allowance for Loan
Losses
 
 The
allowance for loan losses is maintained at a level by management which
represents the evaluation of known and inherent risks in the loan portfolio at
the consolidated balance sheet date.  The allowance method is used in
providing for loan losses. Accordingly, all loan losses are charged to the
allowance, and all recoveries are credited to it.  The allowance is
established through a provision which is charged to
operations.  Management’s evaluation takes into consideration the
risks inherent in the loan portfolio, past experience with losses, the impact of
economic conditions on borrowers, and other relevant factors.  The
estimates used in determining the adequacy of the allowance, including the
amounts and timing of future cash flows expected on impaired loans, are
particularly susceptible to significant changes in the near term.
 
 A
commercial real estate loan is considered impaired when it is probable the
borrower will not repay the loan according to the original contractual terms of
the loan agreement.  Management has determined that first mortgage
loans on one-to-four family properties and all consumer loans represent large
groups of smaller-balance homo-geneous loans that are to be collectively
evaluated.  Loans that experience insignificant payment delays, which
are defined as 90 days or less, generally are not classified as
impaired.  A loan is not impaired during a period of delay in payment
if the Company expects to collect all amounts due including interest accrued at
the contractual interest rate for the period of delay.  All loans
identified as impaired are evaluated independently by management.  The
Company estimates credit losses on impaired loans based on the present value of
expected cash flows or the fair value of the underlying collateral if the loan
repayment is expected to come from the sale or operation of such collateral.
Impaired loans, or portions thereof, are charged off when it is determined that
a realized loss has occurred.  Until such time, an allowance is
maintained for estimated losses.  Cash receipts on impaired loans are
applied first to accrued interest receivable unless otherwise required by the
loan terms, except when an impaired loan is also a nonaccrual loan, in which
case the portion of the receipts related to interest is recognized as
income.
  F-8
 
 1.     SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
 
 Allowance for Loan Losses(Continued)
 
 Mortgage
loans on one-to-four family properties and all consumer loans are large groups
of smaller-balance homogeneous loans and are measured for impairment
collectively.  Loans that experience insignificant payment delays,
which are defined as 90 days or less, generally are not classified as
impaired.  Management determines the significance of payment delays on
a case-by-case basis taking into consideration all of the circumstances
surrounding the loan and the borrower including the length of the delay, the
borrower’s prior payment record, and the amount of shortfall in relation to the
principal and interest owed.
 
 Premises and
Equipment
 
 Premises
and equipment are stated at cost less accumulated depreciation and
amortization.  Depreciation is calculated using the straight-line
method over the useful lives of the related assets, which range from 3 to 20
years for furniture, fixtures, and equipment and 40 years for building
premises.  Expenditures for maintenance and repairs are charged to
operations as incurred.  Costs of major additions and improvements are
capitalized.
 
 Bank-Owned Life
Insurance
 
 The
Company owns insurance on the lives of a certain group of key employees. The
policies were purchased to help offset the increase in the costs of various
fringe benefit plans including healthcare. The cash surrender value of these
policies is included as an asset on the Consolidated Balance Sheet, and any
increases in the cash surrender value are recorded as noninterest income on the
consolidated statements of income. In the event of the death of an insured
individual under these policies, the Company would receive a death benefit,
which would be recorded as noninterest income.
 
 Real Estate
Owned
 
 Real
estate owned is carried at the lower of cost or fair value minus estimated costs
to sell.  Valuation allowances for estimated losses are provided when
the carrying value of the real estate acquired exceeds fair value minus
estimated costs to sell.  Operating expenses of such properties, net
of related income, are expensed in the period incurred.
 
 Federal Income
Taxes
 
 The
Company and subsidiaries file a consolidated federal income tax
return.  Deferred tax assets and liabilities are reflected based on
the differences between the financial statement and the income tax basis of
assets and liabilities using the enacted marginal tax rates.  Deferred
income tax expense and benefit are based on the changes in the deferred tax
assets or liabilities from period to period.
 
 Cash and Cash
Equivalents
 
 The
Company has defined cash and cash equivalents as cash and due from banks and
interest-bearing deposits with other institutions that have original maturities
of less than 90 days.
 
 Comprehensive
Income
 
 The
Company is required to present comprehensive income and its components in a full
set of general-purpose financial statements for all periods
presented.  Other comprehensive income is composed exclusively of net
unrealized holding gains (losses) on its available-for-sale securities
portfolio.  The Company has elected to report the effects of other
comprehensive income as part of the Consolidated Statement of Changes in
Stockholders’ Equity.
  F-9
  1.     SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
 
 Stock
Options
 
 The
Company accounts for stock options based on the grant-date fair value of all
share-based payment awards that are expected to vest, including employee share
options, to be recognized as expense over the requisite service
period.  During the years ended December 31, 2008 and 2007, the
Bank recorded $111,593 and $31,436, respectively, in expense related to
share-based awards.  As of December 31, 2008, there was approximately
$328,429 of unrecognized cost related to unvested share-based awards
granted.  That cost is expected to be recognized over the next four
years.
 
 The fair
value of each option is amortized into expense on a straight-line basis between
the grant date for the option and each vesting date.  The fair value
of each stock option granted was estimated using the following weighted-average
assumptions:
 
 ExpectedGrant
                      
                      Dividend
                      
                      
                      Risk-Free
                      
                      
                      Expected
                      
                      
                      ExpectedYear
                      
                      Yield
                      
                      
                      Interest
                      
                      
                      Volatility
                      
                      
                      Life (in years)2007
                      
                      
                      -
                      
                      
                      
                      4.6
                      %
                      
                      
                      10.3
                      %
                      
                      
                      7.75
 
 The
weighted-average fair value of stock options granted for 2007 was
$2.91.  There were no options granted in 2008.
 
 Recent Accounting
Pronouncements
 
 In
December 2008, the FASB issued FASB Staff Position (FSP) No. FAS 132(R)-1, Employers’ Disclosures about
Postretirement Benefit Plan Assets.  This FSP amends FASB
Statement No. 132 (revised 2003), Employers’ Disclosures about
Pensions and Other Postretirement Benefits, to improve an employer’s
disclosures about plan assets of a defined benefit pension or other
postretirement plan. The disclosures about plan assets required by the FSP are
to be provided for fiscal years ending after December 15, 2009. The adoption of
this FSP is not expected to have a material effect on the Company’s results of
operations or financial position.
 
 In
February 2008, the FASB issued FSP No. FAS 140-3, Accounting for Transfers of
Financial Assets and Repurchase Financing Transactions.  This
FSP concludes that a transferor and transferee should not separately account for
a transfer of a financial asset and a related repurchase financing unless (a)
the two transactions have a valid and distinct business or economic purpose for
being entered into separately and (b) the repurchase financing does not result
in the initial transferor regaining control over the financial
asset.  The FSP is effective for financial statements issued for
fiscal years beginning on or after November 15, 2008, and interim periods within
those fiscal years.  The adoption of this FSP is not expected to have
a material effect on the Company’s results of operations or financial
position.
 
 In
December 2007, the FASB issued FAS No. 141 (revised 2007), Business Combinations (“FAS
141(R)”), which establishes principles and requirements for how an acquirer
recognizes and measures in its financial statements the identifiable assets
acquired, the liabilities assumed, and any noncontrolling interest in an
acquiree, including the recognition and measurement of goodwill acquired in a
business combination.  FAS No. 141(R) is effective for fiscal years
beginning on or after December 15, 2008.  Earlier adoption is
prohibited.  The adoption of this standard is not expected to have a
material effect on the Company’s results of operations or financial
position.
  F-10
  1.     SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
 
 Recent Accounting
Pronouncements (Continued)
 
 In April
2008, the FASB issued FASB Staff Position No. 142-3, Determination of the Useful Life of
Intangible Assets(“FSP 142-3”). FSP 142-3 amends the factors that should
be considered in developing assumptions about renewal or extension used in
estimating the useful life of a recognized intangible asset under FAS
No. 142, Goodwill and
Other Intangible Assets. This standard is intended to improve the
consistency between the useful life of a recognized intangible asset under FAS
No. 142 and the period of expected cash flows used to measure the fair
value of the asset under FAS No. 141R  and other GAAP. FSP 142-3
is effective for financial statements issued for fiscal years beginning after
December 15, 2008. The measurement provisions of this standard will apply
only to intangible assets of the Company acquired after the effective
date.  The adoption of this FSP is not expected to have a material
effect on the Company’s results of operations or financial
position.
 
 In
February 2007, the FASB issued FSP No. FAS 158-1, Conforming Amendments to the
Illustrations in FASB Statements No. 87, No. 88, and No. 106 and to the Related
Staff Implementation Guides. This FSP provides conforming amendments to
the illustrations in FAS Statements No. 87, 88, and 106 and to related staff
implementation guides as a result of the issuance of FAS Statement No.
158.  The conforming amendments made by this FSP are effective as of
the effective dates of Statement No. 158.  The unaffected guidance
that this FSP codifies into Statements No. 87, 88, and 106 does not contain new
requirements and therefore does not require a separate effective date or
transition method.   The adoption of this FSP is not expected to
have a material effect on the Company’s results of operations or financial
position.
 
 In
December 2007, the FASB issued FAS No. 160, Noncontrolling Interests in
Consolidated Financial Statements — an amendment of ARB
No. 51.  FAS No. 160 amends ARB No. 51 to establish
accounting and reporting standards for the noncontrolling interest in a
subsidiary and for the deconsolidation of a subsidiary.  It clarifies that
a noncontrolling interest in a subsidiary, which is sometimes referred to as
minority interest, is an ownership interest in the consolidated entity that
should be reported as equity in the consolidated financial statements. 
Among other requirements, this statement requires consolidated net income to be
reported at amounts that include the amounts attributable to both the parent and
the noncontrolling interest.  It also requires disclosure, on the face of
the consolidated income statement, of the amounts of consolidated net income
attributable to the parent and to the noncontrolling interest.   FAS
No. 160 is effective for fiscal years beginning on or after December 15,
2008.  Earlier adoption is prohibited.  The Company is currently
evaluating the impact the adoption of the standard will have on the Company’s
results of operations.
 
 In March
2008, the FASB issued FAS No. 161, Disclosures about Derivative
Instruments and Hedging Activities, to require enhanced disclosures about
derivative instruments and hedging activities. The new standard has revised
financial reporting for derivative instruments and hedging activities by
requiring more transparency about how and why an entity uses derivative
instruments, how derivative instruments and related hedged items are accounted
for under FAS No. 133, Accounting for Derivative
Instruments and Hedging Activities; and how derivative instruments and
related hedged items affect an entity’s financial position, financial
performance, and cash flows.  FAS No. 161 requires disclosure of the
fair values of derivative instruments and their gains and losses in a tabular
format. It also requires entities to provide more information about their
liquidity by requiring disclosure of derivative features that are credit
risk-related. Further, it requires cross-referencing within footnotes to enable
financial statement users to locate important information about derivative
instruments.  FAS No. 161 is effective for financial statements issued
for fiscal years and interim periods beginning after November 15, 2008, with
early application encourage.  The adoption of this standard is not
expected to have a material effect on the Company’s results of operations or
financial position.
  F-11
  1.     SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
 
 Recent Accounting
Pronouncements (Continued)
 
 In June
2008, the FASB issued FASB Staff Position (FSP) No. EITF 03-6-1, Determining Whether Instruments
Granted in Share-Based Payment Transactions Are Participating Securities,
to clarify that instruments granted in share-based payment transactions can be
participating securities prior to the requisite service having been
rendered.  A basic principle of the FSP is that unvested share-based
payment awards that contain nonforfeitable rights to dividends or dividend
equivalents (whether paid or unpaid) are participating securities and are to be
included in the computation of EPS pursuant to the two-class method.  The
provisions of this FSP are effective for financial statements issued for fiscal
years beginning after December 15, 2008, and interim periods within those years.
All prior-period EPS data presented (including interim financial statements,
summaries of earnings, and selected financial data) are required to be adjusted
retrospectively to conform with the provisions of the FSP. The adoption of
this FSP is not expected to have a material effect on the Company’s results of
operations or financial position.
 
 In June
2008, the FASB ratified EITF Issue No. 08-4, Accounting for Convertible
Securities with Beneficial Conversion Features or Contingently Adjusted
Conversion Ratios.  This Issue provides transition guidance for
conforming changes made to EITF Issue No. 98-5, Accounting for Convertible
Securities with Beneficial Conversion Features or Contingently Adjusted
Conversion Ratios, that resulted from EITF Issue No. 00-27, Application of Issue No. 98-5 to
Certain Convertible Instruments,and FAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of both Liability and
Equity.  The conforming changes are effective for financial
statements issued for fiscal years ending after December 15, 2008, with earlier
application permitted.  The adoption of this FSP is not expected to
have a material effect on the Company’s results of operations or financial
position.
 
 In May
2008, the FASB issued FSP No. APB 14-1, Accounting for Convertible Debt
Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash
Settlement.  This FSP provides guidance on the accounting for
certain types of convertible debt instruments that may be settled in cash upon
conversion.  Additionally, this FSP specifies that issuers of such
instruments should separately account for the liability and equity components in
a manner that will reflect the entity’s nonconvertible debt borrowing rate when
interest cost is recognized in subsequent periods.  The FSP is
effective for financial statements issued for fiscal years beginning after
December 15, 2008, and interim periods within those fiscal years.  The
adoption of this FSP is not expected to have a material effect on the Company’s
results of operations or financial position.
 
 Reclassification of
Comparative Amounts
 
 Certain
items previously reported have been reclassified to conform to the current
year’s reporting format.  Such reclassifications did not affect net
income or stockholders’ equity.
 
 2.
                EARNINGS
      PER SHARE
 
 There are
no convertible securities which would affect the numerator in calculating basic
and diluted earnings per share; therefore, net loss as presented on the
Consolidated Statement of Income will be used as the numerator.
 
 The
following table sets forth the composition of the weighted-average common shares
(denominator) used in the basic and diluted earnings per share
computation.
 
 2008
                    
                    
                    2007Weighted-average
      common shares outstanding
                    
                    
                    3,306,250
                    
                    
                    
                    3,306,250Average
      unearned nonvested shares
                    
                    
                    (51,946
                    )
                    
                    
                    (5,459
                    )Average
      unallocated shares held by ESOP
                    
                    
                    (116,299
                    )
                    
                    
                    (125,176
                    )Average
      treasury stock shares
                    
                    
                    (53,968
                    )
                    
                    
                    -Weighted-average
      common shares and common stock equivalents used to calculate basic
      earnings per share
                    
                    
                    3,084,037
                    
                    
                    
                    3,175,615
 
 Options
to purchase 162,003 shares of common stock as of December 31, 2008 and 2007, as
well as 45,198 shares and 60,480 shares of restricted stock as of December 31,
2008 and 2007, respectively, were not included in the computation of diluted
earnings per share because they are in a loss position.
  F-12
  3.
                INVESTMENT
      SECURITIES
 
 The
amortized cost and fair value of investment securities available for sale are
summarized as follows:
 
 December 31, 2008Gross
                                      
                                      
                                      GrossAmortized
                                      
                                      
                                      Unrealized
                                      
                                      
                                      Unrealized
                                      
                                      
                                      FairCost
                                      
                                      
                                      Gains
                                      
                                      
                                      Losses
                                      
                                      
                                      ValueAvailable
      for SaleFannie
      Mae
                                      
                                      $
                                      23,870,316
                                      
                                      
                                      $
                                      766,189
                                      
                                      
                                      $
                                      (8,608
                                      )
                                      
                                      $
                                      24,627,897Freddie
      Mac
                                      
                                      
                                      6,835,338
                                      
                                      
                                      
                                      164,728
                                      
                                      
                                      
                                      (549
                                      )
                                      
                                      
                                      6,999,517Government
      National MortgageAssociation securities
                                      
                                      
                                      1,627,489
                                      
                                      
                                      
                                      60,819
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      1,688,308Other
                                      
                                      
                                      98,069
                                      
                                      
                                      
                                      19
                                      
                                      
                                      
                                      (4,359
                                      )
                                      
                                      
                                      93,729Total
      mortgage-backed securities
                                      
                                      
                                      32,431,212
                                      
                                      
                                      
                                      991,755
                                      
                                      
                                      
                                      (13,516
                                      )
                                      
                                      
                                      33,409,451Corporate
      securities
                                      
                                      
                                      4,346,375
                                      
                                      
                                      
                                      28,231
                                      
                                      
                                      
                                      (620
                                      )
                                      
                                      
                                      4,373,986Total
      debt securities
                                      
                                      
                                      36,777,587
                                      
                                      
                                      
                                      1,019,986
                                      
                                      
                                      
                                      (14,136
                                      )
                                      
                                      
                                      37,783,437Equity
      securities
                                      
                                      
                                      18,500
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      (13,050
                                      )
                                      
                                      
                                      5,450Total
                                      
                                      $
                                      36,796,087
                                      
                                      
                                      $
                                      1,019,986
                                      
                                      
                                      $
                                      (27,186
                                      )
                                      
                                      $
                                      37,788,887
 
 December 31, 2007Gross
                                    
                                    
                                    GrossAmortized
                                    
                                    
                                    Unrealized
                                    
                                    
                                    Unrealized
                                    
                                    
                                    FairCost
                                    
                                    
                                    Gains
                                    
                                    
                                    Losses
                                    
                                    
                                    ValueAvailable
      for SaleFannie
      Mae
                                    
                                    $
                                    24,743,554
                                    
                                    
                                    $
                                    286,003
                                    
                                    
                                    $
                                    (60,044
                                    )
                                    
                                    $
                                    24,969,513Freddie
      Mac
                                    
                                    
                                    8,594,009
                                    
                                    
                                    
                                    27,435
                                    
                                    
                                    
                                    (20,503
                                    )
                                    
                                    
                                    8,600,941Government
      National Mortgage Association securities
                                    
                                    
                                    2,006,332
                                    
                                    
                                    
                                    62,000
                                    
                                    
                                    
                                    (10,861
                                    )
                                    
                                    
                                    2,057,471Other
                                    
                                    
                                    156,958
                                    
                                    
                                    
                                    1,325
                                    
                                    
                                    
                                    (1,176
                                    )
                                    
                                    
                                    157,107Total
      mortgage-backed securities
                                    
                                    
                                    35,500,853
                                    
                                    
                                    
                                    376,763
                                    
                                    
                                    
                                    (92,584
                                    )
                                    
                                    
                                    35,785,032U.S.
      government agency securities
                                    
                                    
                                    4,108,237
                                    
                                    
                                    
                                    25,091
                                    
                                    
                                    
                                    (2,190
                                    )
                                    
                                    
                                    4,131,138Corporate
      securities
                                    
                                    
                                    5,629,907
                                    
                                    
                                    
                                    1,838
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    5,631,745Total
      debt securities
                                    
                                    
                                    45,238,997
                                    
                                    
                                    
                                    403,692
                                    
                                    
                                    
                                    (94,774
                                    )
                                    
                                    
                                    45,547,915Equity
      securities
                                    
                                    
                                    430,000
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    (92,500
                                    )
                                    
                                    
                                    337,500Total
                                    
                                    $
                                    45,668,997
                                    
                                    
                                    $
                                    403,692
                                    
                                    
                                    $
                                    (187,274
                                    )
                                    
                                    $
                                    45,885,415
  F-13
  3. INVESTMENT
SECURITIES (Continued)
 
 The
following table shows the Company’s gross unrealized losses and fair value,
aggregated by investment category and length of time that the individual
securities have been in a continuous unrealized loss position.
  December 31, 2008Less Than Twelve Months
                    
                    
                    Twelve Months or Greater
                    
                    
                    TotalGross
                    
                    
                    
                    
                    
                    Gross
                    
                    
                    
                    
                    
                    GrossFair
                    
                    
                    Unrealized
                    
                    
                    Fair
                    
                    
                    Unrealized
                    
                    
                    Fair
                    
                    
                    UnrealizedValue
                    
                    
                    Losses
                    
                    
                    Value
                    
                    
                    Losses
                    
                    
                    Value
                    
                    
                    LossesFannie
      Mae
                    
                    $
                    629,367
                    
                    
                    $
                    (8,608
                    )
                    
                    $
                    -
                    
                    
                    $
                    -
                    
                    
                    $
                    629,367
                    
                    
                    $
                    (8,608
                    )Freddie
      Mac
                    
                    
                    116,064
                    
                    
                    
                    (549
                    )
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    116,064
                    
                    
                    
                    (549
                    )Other
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    9,312
                    
                    
                    
                    (4,359
                    )
                    
                    
                    9,312
                    
                    
                    
                    (4,359
                    )Corporate
      Securities
                    
                    
                    1,999,380
                    
                    
                    
                    (620
                    )
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    1,999,380
                    
                    
                    
                    (620
                    )Equity
      securities
                    
                    
                    5,450
                    
                    
                    
                    (13,050
                    )
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    5,450
                    
                    
                    
                    (13,050
                    )Total
                    
                    $
                    2,750,261
                    
                    
                    $
                    (22,827
                    )
                    
                    $
                    9,312
                    
                    
                    $
                    (4,359
                    )
                    
                    $
                    2,759,573
                    
                    
                    $
                    (27,186
                    )
 
 December 31, 2007Less Than Twelve Months
                            
                            
                            Twelve Months or Greater
                            
                            
                            TotalGross
                            
                            
                            
                            
                            
                            Gross
                            
                            
                            
                            
                            
                            GrossFair
                            
                            
                            Unrealized
                            
                            
                            Fair
                            
                            
                            Unrealized
                            
                            
                            Fair
                            
                            
                            UnrealizedValue
                            
                            
                            Losses
                            
                            
                            Value
                            
                            
                            Losses
                            
                            
                            Value
                            
                            
                            LossesFannie
      Mae
                            
                            $
                            1,642,784
                            
                            
                            $
                            (2,076
                            )
                            
                            $
                            4,725,909
                            
                            
                            $
                            (57,968
                            )
                            
                            $
                            6,368,693
                            
                            
                            $
                            (60,044
                            )Freddie
      Mac
                            
                            
                            193,520
                            
                            
                            
                            (232
                            )
                            
                            
                            5,552,862
                            
                            
                            
                            (20,271
                            )
                            
                            
                            5,746,382
                            
                            
                            
                            (20,503
                            )Government
      National MortgageAssociation securities
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            475,480
                            
                            
                            
                            (10,861
                            )
                            
                            
                            475,480
                            
                            
                            
                            (10,861
                            )Other
                            
                            
                            14,830
                            
                            
                            
                            (955
                            )
                            
                            
                            45,021
                            
                            
                            
                            (221
                            )
                            
                            
                            59,851
                            
                            
                            
                            (1,176
                            )U.S.
      government agencysecurities
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            997,810
                            
                            
                            
                            (2,190
                            )
                            
                            
                            997,810
                            
                            
                            
                            (2,190
                            )Equity
      securities
                            
                            
                            337,500
                            
                            
                            
                            (92,500
                            )
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            337,500
                            
                            
                            
                            (92,500
                            )Total
                            
                            $
                            2,188,634
                            
                            
                            $
                            (95,763
                            )
                            
                            $
                            11,797,082
                            
                            
                            $
                            (91,511
                            )
                            
                            $
                            13,985,716
                            
                            
                            $
                            (187,274
                            )
  F-14
  3.
                INVESTMENT
      SECURITIES (Continued)
 
 There are
five positions that are considered temporarily impaired as of December 31,
2008.  The Company reviews its position quarterly and has asserted
that at December 31, 2008, the declines outlined in the above table represent
temporary declines, and the Company does have the intent and ability either to
hold those securities to maturity or to allow a market recovery.  The
Company has identified certain investment securities for which it has determined
the unrealized losses to be other than temporary.  The Company
recorded an other-than-temporary impairment charge of $411,500 for the year
ended December 31, 2008.
 
 There
were no sales of securities available for sale in 2007 and 2008.
 
 The
amortized cost and fair value of debt securities at December 31, 2008, by
contractual maturity, are shown below.  Mortgage-backed securities
provide for periodic, generally monthly, payments of principal and interest and
have contractual maturities ranging from 3 to 30 years.  Expected
maturities will differ from contractual maturities because borrowers may have
the right to call or prepay obligations with or without call or prepayment
penalties.
 
 Amortized
                      
                      
                      FairCost
                      
                      
                      ValueDue
      within one year
                      
                      $
                      1,348,738
                      
                      
                      $
                      1,373,666Due
      after one year through five years
                      
                      
                      180,850
                      
                      
                      
                      187,389Due
      after five years through ten years
                      
                      
                      13,879,103
                      
                      
                      
                      14,384,733Due
      after ten years
                      
                      
                      21,368,896
                      
                      
                      
                      21,837,649Total
                      
                      $
                      36,777,587
                      
                      
                      $
                      37,783,437
 
 4.
                LOANS
      RECEIVABLE
 
 Loans
receivable consist of the following:
 
 December 31,2008
                    
                    
                    2007Mortgage
      loans:One-to-four
      family
                    
                    $
                    144,507,702
                    
                    
                    $
                    120,774,255Multi-family
      and commercial
                    
                    
                    12,020,667
                    
                    
                    
                    9,802,864156,528,369
                    
                    
                    
                    130,577,119Home
      equity loans
                    
                    
                    4,171,868
                    
                    
                    
                    4,342,920HELOCs
                    
                    
                    1,361,315
                    
                    
                    
                    979,888Education
      loans
                    
                    
                    2,690,170
                    
                    
                    
                    2,170,015Loans
      on savings accounts
                    
                    
                    59,271
                    
                    
                    
                    84,770Other
                    
                    
                    499
                    
                    
                    
                    5,521164,811,492
                    
                    
                    
                    138,160,233Less:Net
      deferred loan fees
                    
                    
                    194,883
                    
                    
                    
                    148,980Allowance
      for loan losses
                    
                    
                    857,702
                    
                    
                    
                    731,338Total
                    
                    $
                    163,758,907
                    
                    
                    $
                    137,279,915
 
 The
Company’s loan portfolio consists predominantly of one-to-four family unit first
mortgage loans the northwest suburban area of metropolitan Philadelphia,
primarily in Montgomery and Bucks Counties.  These loans are typically
secured by first lien positions on the respective real estate properties and are
subject to the Bank’s loan underwriting policies.  In general, the
Company’s loan portfolio performance at December 31, 2008 and 2007, is dependent
upon the local economic conditions.
  F-15
  3.
                LOANS
      RECEIVABLE (Continued)
 
 Activity
in the allowance for loan losses for the periods ended is summarized as
follows:
 
 Year Ended December 31,2008
                    
                    
                    2007Balance,
      beginning of period
                    
                    $
                    731,338
                    
                    
                    $
                    694,570Add:Provision
      charged to operations
                    
                    
                    84,992
                    
                    
                    
                    31,367Loan
      recoveries
                    
                    
                    41,372
                    
                    
                    
                    5,401857,702
                    
                    
                    
                    731,338Less:Charge-offs
                    
                    
                    -
                    
                    
                    
                    -Balance,
      end of period
                    
                    $
                    857,702
                    
                    
                    $
                    731,338
 
 Mortgage
loans serviced by the Company for others amounted to $5,041,712 and $104,693 at
December 31, 2008 and 2007, respectively.
 
 The
Company had nonaccrual loan of $729,074 and $216,336 at December 31, 2008 and
2007, respectively.  Interest income on loans would have increased by
approximately $28,003 and $10,356 during 2008 and 2007, respectively, if these
loans had performed in accordance with their original terms.
 
 In the
normal course of business, loans are extended to officers, directors, and
corporations in which they are beneficially interested as stockholders,
officers, or directors.  A summary of loan activity for those officers
and directors with aggregate loan balances in excess of $60,000 for the year
ended December 31, 2008, is as follows:
 
 Amounts2007
                            
                            Additions
                            
                            
                            Collected
                            
                            
                            2008$    2,788,280
                            
                            $
                            448,167
                            
                            
                            $
                            1,110,896
                            
                            
                            $
                            2,125,551
 
 5.
                FEDERAL
      HOME LOAN BANK STOCK
 
 The
Company is a member of the Federal Home Loan Bank System.  As a
member, the Company maintains an investment in the capital stock of the FHLB of
Pittsburgh in an amount not less than 70 basis points of the outstanding unused
FHLB borrowing capacity and one-twentieth of its outstanding FHLB borrowings, as
calculated throughout the year.
  F-16
  6.
                PREMISES
      AND EQUIPMENT
 
 Premises
and equipment consist of the following:
  December
      31,2008
                          
                          
                          2007Land
                          
                          $
                          55,000
                          
                          
                          $
                          55,000Buildings
                          
                          
                          6,968,562
                          
                          
                          
                          6,950,850Furniture,
      fixtures and equipment
                          
                          
                          2,237,199
                          
                          
                          
                          2,154,7999,260,761
                          
                          
                          
                          9,160,649Less
      accumulated depreciation
                          
                          
                          4,290,447
                          
                          
                          
                          3,964,837Total
                          
                          $
                          4,970,314
                          
                          
                          $
                          5,195,812
  Depreciation
expense amounted to $365,109 and $385,396 for the years ended December 31, 2008
and 2007, respectively.
 
 7.
                DEPOSITS
 
 Deposit
accounts are summarized as follows as of December 31:
 
 2008
                                          
                                          
                                          2007Amount
                                          
                                          
                                          %
                                          
                                          
                                          Amount
                                          
                                          
                                          %Non-interest-bearing
      demand
                                          
                                          $
                                          3,986,145
                                          
                                          
                                          
                                          2.42
                                          %
                                          
                                          $
                                          3,455,320
                                          
                                          
                                          
                                          2.12
                                          %NOW
      accounts
                                          
                                          
                                          10,300,480
                                          
                                          
                                          
                                          6.26
                                          
                                          
                                          
                                          11,222,806
                                          
                                          
                                          
                                          6.88Money
      market deposit
                                          
                                          
                                          25,603,226
                                          
                                          
                                          
                                          15.56
                                          
                                          
                                          
                                          33,100,834
                                          
                                          
                                          
                                          20.28Savings
                                          
                                          
                                          34,346,393
                                          
                                          
                                          
                                          20.87
                                          
                                          
                                          
                                          36,192,411
                                          
                                          
                                          
                                          22.1774,236,244
                                          
                                          
                                          
                                          45.11
                                          
                                          
                                          
                                          83,971,371
                                          
                                          
                                          
                                          51.45Time
      deposits:1.00
      - 1.99%
                                          
                                          
                                          -
                                          
                                          
                                          
                                          -
                                          
                                          
                                          
                                          2,988
                                          
                                          
                                          
                                          0.012.00
      - 3.99%
                                          
                                          
                                          56,181,049
                                          
                                          
                                          
                                          34.13
                                          
                                          
                                          
                                          16,082,510
                                          
                                          
                                          
                                          9.854.00
      - 5.99%
                                          
                                          
                                          34,094,924
                                          
                                          
                                          
                                          20.72
                                          
                                          
                                          
                                          63,089,979
                                          
                                          
                                          
                                          38.656.00
      - 7.99%
                                          
                                          
                                          74,188
                                          
                                          
                                          
                                          0.04
                                          
                                          
                                          
                                          69,815
                                          
                                          
                                          
                                          0.0490,350,161
                                          
                                          
                                          
                                          54.89
                                          
                                          
                                          
                                          79,245,292
                                          
                                          
                                          
                                          48.55Total
                                          
                                          $
                                          164,586,405
                                          
                                          
                                          
                                          100.00
                                          %
                                          
                                          $
                                          163,216,663
                                          
                                          
                                          
                                          100.00
                                          %
 
 The
scheduled maturities of time deposits are as follows:
 
 December 31, 20082009
                            
                            $
                            39,299,6952010
                            
                            
                            16,524,5572011
                            
                            
                            14,171,4982012
                            
                            
                            5,211,8082013
                            
                            
                            15,142,603Total
                            
                            $
                            90,350,161
 
 Time
deposits include those in denominations of $100,000 or more.  Such
deposits aggregated $19,995,260 and $22,678,719 at December 31, 2008 and 2007,
respectively.
  F-17
  7.
                DEPOSITS
      (Continued)
 
 The
scheduled maturities of time deposits in denominations of $100,000 or more are
as follows:
 
 December 31, 2008Within
      three months
                        
                        $
                        720,341Three
      through six months
                        
                        
                        856,297Six
      through twelve months
                        
                        
                        5,575,192Over
      twelve months
                        
                        
                        12,843,430Total
                        
                        $
                        19,995,260
  Interest
expense by deposit category is as follows:
 
 Year ended December 31,2008
                        
                        
                        2007NOW
                        
                        $
                        95,501
                        
                        
                        $
                        68,187Money
      market
                        
                        
                        818,663
                        
                        
                        
                        1,614,680Savings
                        
                        
                        310,213
                        
                        
                        
                        318,369Time
      certificates of deposit
                        
                        
                        3,455,664
                        
                        
                        
                        3,366,227Total
                        
                        $
                        4,680,041
                        
                        
                        $
                        5,367,463
 
 8.
                FHLB
      ADVANCES – SHORT-TERM
 
 Short-term
borrowings consisted of draws on the Company’s “RepoPlus” line of credit
advances through the FHLB.  The RepoPlus line carries an adjustable
rate that is subject to annual renewal and incurs no service
charges.  All outstanding borrowings are secured by a blanket security
agreement on qualifying residential mortgage loans, certain pledged investment
securities, and the Company’s investment in FHLB stock.
 
 The
following table sets forth information concerning short-term
borrowings:
  December
      31,2008
                    
                    
                    2007Balance
      at year-end
                    
                    $
                    4,000,000
                    
                    
                    $
                    6,000,000Maximum
      amount outstanding at any month-end
                    
                    
                    5,000,000
                    
                    
                    
                    6,000,000Average
      balance outstanding during the year
                    
                    
                    2,073,770
                    
                    
                    
                    1,271,233Weighted-average
      interest rate:As
      of year-end
                    
                    
                    0.59
                    %
                    
                    
                    3.80
                    %Paid
      during the year
                    
                    
                    2.47
                    %
                    
                    
                    4.71
                    %
 
 Average
balances outstanding during the year represent daily average balances, and
average interest rates represent interest expenses divided by the related
average balance.
  F-18
  
 9.
                FHLB
      ADVANCES – LONG-TERM
 
 The
following table sets forth information concerning FHLB advances –
long-term:
  Weighted-
                                    
                                    
                                    Stated
      interestMaturity
      range
                                    
                                    average
                                    
                                    
                                    rate
      range
                                    
                                    
                                    At
      December 31,Description
                                    
                                    from
                                    
                                    to
                                    
                                    interest
      rate
                                    
                                    
                                    from
                                    
                                    
                                    to
                                    
                                    
                                    2008
                                    
                                    
                                    2007Convertible
                                    
                                    03/19/18
                                    
                                    08/27/18
                                    
                                    
                                    3.08
                                    %
                                    
                                    
                                    2.13
                                    %
                                    
                                    
                                    4.15
                                    %
                                    
                                    $
                                    17,000,000
                                    
                                    
                                    
                                    -Fixed-rate
                                    
                                    02/06/13
                                    
                                    02/06/13
                                    
                                    
                                    3.58
                                    %
                                    
                                    
                                    3.58
                                    %
                                    
                                    
                                    3.58
                                    %
                                    
                                    
                                    1,500,000
                                    
                                    
                                    
                                    -Fixed-rate
      amortizing
                                    
                                    08/26/09
                                    
                                    12/26/12
                                    
                                    
                                    3.85
                                    %
                                    
                                    
                                    3.75
                                    %
                                    
                                    
                                    3.87
                                    %
                                    
                                    
                                    2,787,349
                                    
                                    
                                    
                                    4,098,370Mid-term
      repo fixed
                                    
                                    02/08/10
                                    
                                    02/22/11
                                    
                                    
                                    2.87
                                    %
                                    
                                    
                                    2.73
                                    %
                                    
                                    
                                    3.15
                                    %
                                    
                                    
                                    3,266,000
                                    
                                    
                                    
                                    -Total
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    
                                    $
                                    24,553,349
                                    
                                    
                                    $
                                    4,098,370
  Payments
of FHLB borrowings are summarized as follows:
 
 Year Ending
                                        
                                        
                                        
                                        
                                        Weighted-December 31,
                                        
                                        Amount
                                        
                                        
                                        Average Rate2009
                                        
                                        $
                                        1,079,825
                                        
                                        
                                        
                                        3.81
                                        %2010
                                        
                                        
                                        2,047,330
                                        
                                        
                                        
                                        3.03
                                        %2011
                                        
                                        
                                        2,334,892
                                        
                                        
                                        
                                        3.21
                                        %2012
                                        
                                        
                                        591,302
                                        
                                        
                                        
                                        3.87
                                        %2013
      and thereafter
                                        
                                        
                                        18,500,000
                                        
                                        
                                        
                                        3.12
                                        %Total
                                        
                                        $
                                        24,553,349
                                        
                                        
                                        
                                        3.17
                                        %
 
 As of
December 31, 2007, the Company had two fixed-rate amortizing borrowings with the
FHLB, which were originated in August 2002.  The fixed-rate amortizing
borrowings require aggregate monthly payments of principal and interest of
$120,445 through August 2009 and $50,314 for the remaining borrowing through
December 2012.  The Company also has three convertible select
borrowings, three mid-term repo-fixed borrowings, and one fixed-rate
borrowing.  These borrowings were all originated in 2008 and mature
from February 2010 through August 2018.  All borrowings acquired in
2008 require quarterly payments of interest only.  The convertible
select borrowings are convertible to variable-rate advances on specific dates at
the discretion of the FHLB.  Should the FHLB convert these advances,
the Bank has the option of accepting the variable rate or repaying the advance
without penalty.
 
 All
borrowings from the FHLB are secured by a blanket lien on qualified collateral,
defined principally as investment securities and mortgage loans which are owned
by the Bank free and clear of any liens or encum-brances.  In
addition, the Company has a maximum borrowing capacity of $145.7 million with
the FHLB at December
31, 2008.
 
 10.
                INCOME
      TAXES
 
 The
provision for income tax benefit consists of:
  Year
      Ended December 31,2008
                
                
                2007Current
      tax expense
                
                $
                112,834
                
                
                $
                53,273Deferred
      taxes
                
                
                (211,032
                )
                
                
                (217,855
                )Total
                
                $
                (98,198
                )
                
                $
                (164,582
                )
  F-19
 
 10.
                INCOME
      TAXES (Continued)
 
 The tax
effects of deductible and taxable temporary differences that gave rise to
significant portions of the deferred tax assets and deferred tax liabilities,
respectively, are as follows:
  Year
      Ended December 31,2008
                    
                    
                    2007Deferred
      tax assets:Allowance
      for loan losses
                    
                    $
                    265,051
                    
                    
                    $
                    236,154Deferred
      loan fees
                    
                    
                    226
                    
                    
                    
                    1,229Deferred
      compensation
                    
                    
                    961,013
                    
                    
                    
                    904,308Federal
      net operating loss carryforward
                    
                    
                    -
                    
                    
                    
                    47,677Investment
      securities impairment
                    
                    
                    163,710
                    
                    
                    
                    23,800Deferred
      health care
                    
                    
                    69,809
                    
                    
                    
                    66,697State
      net operating loss carryforward
                    
                    
                    283,743
                    
                    
                    
                    294,026Capital
      loss carryforwards
                    
                    
                    299,436
                    
                    
                    
                    299,436Premises
      and equipment
                    
                    
                    72,131
                    
                    
                    
                    92,035Charitable
      contribution carryforward
                    
                    
                    35,396
                    
                    
                    
                    50,193Other
                    
                    
                    53,432
                    
                    
                    
                    24,494Total
      gross deferred tax assets
                    
                    
                    2,203,947
                    
                    
                    
                    2,040,049Valuation
      allowance
                    
                    
                    (618,575
                    )
                    
                    
                    (667,454
                    )Total
      net deferred tax assets
                    
                    
                    1,585,372
                    
                    
                    
                    1,372,595Deferred
      tax liabilities:Prepaid
      insurance
                    
                    
                    42,513
                    
                    
                    
                    40,768Net
      unrealized gain on securities
                    
                    
                    337,552
                    
                    
                    
                    73,582Total
      gross deferred tax liabilities
                    
                    
                    380,065
                    
                    
                    
                    114,350Net
      deferred tax assets
                    
                    $
                    1,205,307
                    
                    
                    $
                    1,258,245
 
 The
valuation allowance as of December 31, 2008 and 2007, was comprised of a 100
percent allowance against specific deferred tax assets.  These
deferred tax assets are subject to expiration periods ranging from three years
to five years.  It could not be determined that it was more than
likely that the Company would be in a taxable position adequate to utilize these
deferred tax assets prior to their expiration.  These deferred tax
assets were the Pennsylvania Mutual thrift tax loss carryforward of $283,743 in
2008, $294,026 in 2007; capital loss carryforward of $299,436 for both 2008 and
2007; investment securities impairment loss related to capital losses of $23,800
in 2007; and the charitable contribution carryforward of $35,396 in 2008 and
$50,192 in 2007.  The Company did utilize the investment securities
impairment loss of $23,800 in 2008.
 
 The
Company has been in a cumulative loss position for 2008 and 2007; however, the
losses have been declining in a manner consistent with the current business
plan.  The Company has projected that it will be in a taxable position
resulting from implementation of the business plan.  Based upon the
long-term nature of the remaining deferred tax assets it was determined that the
Company would likely be in a taxable position to allow for the utilization of
the remaining deferred tax assets and that a valuation allowance on those
deferred tax assets was not appropriate.
 
 The
reconciliation of the federal statutory rate and the Company’s effective income
tax rate is as follows:
  Year Ended December 31,2008
                                      
                                      
                                      2007% of
                                      
                                      
                                      
                                      
                                      
                                      % ofPretax
                                      
                                      
                                      
                                      
                                      
                                      PretaxAmount
                                      
                                      
                                      Income
                                      
                                      
                                      Amount
                                      
                                      
                                      IncomeProvision
      at statutory rate
                                      
                                      $
                                      (117,079
                                      )
                                      
                                      
                                      (34.0
                                      )
      %
                                      
                                      $
                                      (166,652
                                      )
                                      
                                      
                                      (34.0
                                      )
      %Tax-exempt
      income
                                      
                                      
                                      80,382
                                      
                                      
                                      
                                      23.3
                                      
                                      
                                      
                                      (65,308
                                      )
                                      
                                      
                                      (13.3
                                      )Valuation
      allowance
                                      
                                      
                                      (38,596
                                      )
                                      
                                      
                                      (11.2
                                      )
                                      
                                      
                                      15,592
                                      
                                      
                                      
                                      3.2Other,
      net
                                      
                                      
                                      (22,905
                                      )
                                      
                                      
                                      (6.6
                                      )
                                      
                                      
                                      51,786
                                      
                                      
                                      
                                      10.6Actual
      tax expense andeffective rate
                                      
                                      $
                                      (98,198
                                      )
                                      
                                      
                                      (28.5
                                      )
      %
                                      
                                      $
                                      (164,582
                                      )
                                      
                                      
                                      (33.5
                                      )
      %
  F-20
  
 10.
                INCOME
      TAXES (Continued)
 
 The Bank
is subject to the Pennsylvania Mutual Thrift Institutions Tax that is calculated
at 11.5 percent of Pennsylvania earnings based on U.S. generally accepted
accounting principles with certain adjustments.
 
 At
December 31, 2008, the Company has an available net operating loss carryforward
of approximately $3,738,377 for state tax purposes that begins to expire in
2009.  The Bank also has an available capital loss carryforward of
approximately $299,436 that will expire in 2010.
 
 The
Company adopted the provisions of FIN No. 48, Accounting for Uncertainty in Income
Taxes, an interpretation of FASB Statement 109, effective January 1,
2007. FIN No. 48 prescribes a recognition threshold and a measurement attribute
for the financial statement recognition and measurement of a tax position taken
or expected to be taken in a tax return. Benefits from tax positions should be
recognized in the financial statements only when it is more likely than not that
the tax position will be sustained upon examination by the appropriate taxing
authority that would have full knowledge of all relevant information. A tax
position that meets the more-likely-than-not recognition threshold is measured
at the largest amount of benefit that is greater than 50 percent likely of being
realized upon ultimate settlement. Tax positions that previously failed to meet
the more-likely-than-not recognition threshold should be recognized in the first
subsequent financial reporting period in which that threshold is met. Previously
recognized tax positions that no longer meet the more-likely-than-not
recognition threshold should be derecognized in the first subsequent financial
reporting period in which that threshold is no longer met. FIN No. 48 also
provides guidance on the accounting for and disclosure of unrecognized tax
benefits, interest, and penalties. The adoption of FIN No. 48 did not have a
significant impact on the Company’s financial statements.
  11.
                COMMITMENTS
      AND CONTINGENT
LIABILITIES
 Commitments
 
 In the
normal course of business, management makes various commitments that are not
reflected in the accom-panying consolidated financial
statements.  These commitments involve, to varying degrees, elements
of credit and interest rate risk in excess of the amount recognized in the
consolidated balance sheet.  The Company’s exposure to credit loss in
the event of nonperformance by the other parties to the financial instruments is
represented by the contractual amounts as disclosed.  The Company
minimizes its exposure to credit loss under these commitments by subjecting them
to credit approval and review procedures and collateral requirements, as deemed
necessary, in compliance with lending policy guidelines.  Generally,
collateral, usually in the form of real estate, is required to support financial
instruments with credit risk.
 
 The
off-balance sheet commitments consisted of the following:
 
 December 31,2008
                    
                    
                    2007Commitments
      to extend credit
                    
                    $
                    2,542,730
                    
                    
                    $
                    3,540,350Unused
      lines of credit
                    
                    
                    248,681
                    
                    
                    
                    -
 
 Commitments
to extend credit consist of fixed-rate commitments with interest rates ranging
from 5.88 percent to 7.25 percent.  The commitments outstanding at
December 31, 2008, contractually mature in less than one year.
 
 Commitments
to extend credit are agreements to lend to a customer as long as there is no
violation of any condition established in the loan agreement.  These
commitments consisted primarily of available commercial and personal lines of
credit and loans approved but not yet funded.  Commitments generally
have fixed expiration dates or other termination clauses and may require payment
of a fee.
 
 Contingent
Liabilities
 
 The
Company is involved in various legal actions from the normal course of business
activities.  Management believes the liability, if any, arising from
such actions will not have a material adverse effect on the Company’s financial
position.
  F-21
 
 12.
                EMPLOYEE
      BENEFITS
 
 Benefit
Plan
 
 The
Company has a defined contribution pension plan (the “Plan”) for all regular
full-time employees meeting certain eligibility requirements.  Annual
contributions are discretionary but will not exceed 15 percent of eligible
employees’ salaries.  The Plan may be terminated at any time at the
discretion of the Board of Directors.  Pension expense for the profit
sharing portion of the Plan was $50,000 and $77,044 for the years ended December
31, 2008 and 2007, respectively.
 
 Effective
January 1, 1995, the Plan was amended and restated to include provisions to
include employee and employer 401(k) contributions.  Under the Plan,
the Company will match 100 percent of the employees’ eligible contributions, up
to the maximum of 5 percent of each qualifying employee’s salary, and an
additional 10 percent of each non-qualifying employee’s salary.  The
Company contributions for the 401(k) plan were $183,117 and $170,586 for the
years ended December 31, 2008 and 2007, respectively.
 
 Employee Stock Ownership
Plan (“ESOP”)
 
 In
connection with the conversion, the Company created an ESOP for the benefit of
employees who meet the eligibility requirements, which include having completed
one year of service with the Company or its subsidiary and attained age 18. The
ESOP trust acquired 129,605 shares of the Company’s stock from proceeds from a
loan with the Company. The Company makes cash contributions to the ESOP on an
annual basis sufficient to enable the ESOP to make the required loan payments.
The ESOP trust’s outstanding loan bears interest at 8.25 percent and requires an
annual payment of principal and interest of $153,439 through December of
2021.
 
 As the
debt is repaid, shares are released from the collateral and allocated to
qualified employees based on the proportion of payments made during the year to
remaining amount of payments due on the loan through maturity. Accordingly, the
shares pledged as collateral are reported as unallocated common stock held by
the ESOP shares in the Consolidated Balance Sheet. As shares are released from
collateral, the Company reports compensation expense equal to the current market
price of the shares, and the shares become outstanding for earnings-per-share
computations. The Company recognized ESOP expense of $76,813 and $84,000 for the
years ended December 31, 2008 and 2007, respectively.
 
 The
following table presents the components of the ESOP shares:
 
 2008
                                
                                
                                2007Allocated
      shares
                                
                                
                                17,280
                                
                                
                                
                                8,640Unreleased
      shares
                                
                                
                                112,325
                                
                                
                                
                                120,965Total
      ESOP shares
                                
                                
                                129,605
                                
                                
                                
                                129,605Fair
      value of unreleased shares
                                
                                $
                                982,835
                                
                                
                                $
                                1,118,926
 
 2007 Equity Incentive
Plan
 
 Effective
July 17, 2007, shareholders of the Company approved the 2007 Equity Incentive
Plan (the “Plan”).  Employees and non-employee corporate directors are
eligible to receive awards of restricted stock and options based upon
performance related requirements.  Awards granted under the Plan are
in the form of the Company’s common stock and options to purchase stock and are
subject to certain vesting requirements including continuous employment or
service with the company.  The Company has authorized 226,808 shares
of the Company’s common stock under the Plan.  The Plan assists the
Company in attracting, retaining, and motivating employees and non-employee
directors to make substantial contributions to the success of the Company and to
increase the emphasis on the use of equity as a key component of
compensation.
  F-22


12.
                EMPLOYEE
      BENEFITS (Continued)
 
 Restricted Stock
Plan
 
 In
connection with the 2007 Equity Incentive Plan, the Company awarded 64,800
shares of restricted stock to directors and officers of the Company on August
21, 2007.  These shares vest over a five-year period ending in
2012.  Compensation expense related to the vesting of shares was
$144,158 and $40,608 for the years ended December 31, 2008 and 2007,
respectively.
  Weighted-AverageNumber of
                                            
                                            
                                            Grant DateRestricted Stock
                                            
                                            
                                            Fair ValueNonvested
      at December 31, 2007
                                            
                                            
                                            64,800
                                            
                                            
                                            $
                                            9.40Granted
                                            
                                            
                                            -
                                            
                                            
                                            
                                            -Vested
                                            
                                            
                                            15,552
                                            
                                            
                                            
                                            9.40Forfeited
                                            
                                            
                                            -
                                            
                                            
                                            
                                            -Nonvested
      at December 31, 2008
                                            
                                            
                                            49,248
                                            
                                            
                                            $
                                            9.40
 
 Stock Option
Plan
 
 In
connection with the 2007 Equity Incentive Plan, the Board of Directors approved
the formation of a stock option plan.  The plan provides for granting
incentive options to key officers and other employees of the Company and
nonqualified stock options to nonemployee directors of the Company.  A
total of 162,003 shares of either authorized and unissued shares or authorized
shares issued by and subsequently reacquired by the Bank as treasury stock shall
be issuable under the plans.  The plans shall terminate after the
tenth anniversary of the plan.  The per share exercise price of any
option granted will not be less than the fair market value of a share of common
stock on the date the option is granted.  The options granted are
vested over various time periods and are determined at the time of
grant.
 
 The
following table is a summary of the Company’s stock option activity and related
information for its option plan:
 
 Weighted-Weighted-
                                
                                
                                AverageAverage
                                
                                
                                Remaining
                                
                                
                                AggregateExercise
                                
                                
                                Contractual
                                
                                
                                Intrinsic2008
                                
                                
                                Price
                                
                                
                                Term (in years)
                                
                                
                                ValueOutstanding,
      beginning
                                
                                
                                162,003
                                
                                
                                $
                                9.40
                                
                                
                                
                                8.64
                                
                                
                                
                                471,429Granted
                                
                                
                                -
                                
                                
                                
                                -
                                
                                
                                
                                -
                                
                                
                                
                                -Vested
                                
                                
                                -
                                
                                
                                
                                -
                                
                                
                                
                                -
                                
                                
                                
                                -Forfeited
                                
                                
                                -
                                
                                
                                
                                -
                                
                                
                                
                                -
                                
                                
                                
                                -Outstanding,
      ending
                                
                                
                                162,003
                                
                                
                                $
                                9.40
                                
                                
                                
                                8.64
                                
                                
                                
                                471,429Vested
      and exercisable at year-end
                                
                                
                                38,881
                                
                                
                                $
                                9.40
                                
                                
                                
                                8.64
                                
                                
                                
                                113,143
 The
following table summarizes the Company’s nonvested options and changes therein
during the year ended December 31, 2008:
 Weighted-averageNumber of
                                            
                                            
                                            Grant DateStock Options
                                            
                                            
                                            Fair ValueNonvested
      at December 31, 2007
                                            
                                            
                                            162,003
                                            
                                            
                                            $
                                            9.40Granted
                                            
                                            
                                            -
                                            
                                            
                                            
                                            -Vested
                                            
                                            
                                            (38,881
                                            )
                                            
                                            
                                            9.40Forfeited
                                            
                                            
                                            -
                                            
                                            
                                            
                                            -Nonvested
      at December 31, 2008
                                            
                                            
                                            123,122
                                            
                                            
                                            $
                                            9.40
 
 Aggregate
fair value of options vested during the year ended December 31, 2008, was
$113,143.
 F-23
  12.
                EMPLOYEE
      BENEFITS (Continued)
 
 Supplemental Retirement
Plan
 
 The
Company has a Supplemental Life Insurance Plan (“Plan”) for three officers of
the Bank.  The Plan requires the Bank to make annual payments to the
beneficiaries upon their death.  In connection with the Plan, the
Company funded life insurance policies with an aggregate amount of $3,085,000 on
the lives of those officers that currently have a death benefit of
$11,088,115.  The cash surrender value of these policies totaled
$3,936,358 and $4,172,776 at December 31, 2008 and 2007,
respectively.  The Plan provides that death benefits totaling $6.0
million at December 31, 2008, will be paid to their beneficiaries in the event
the officers should die.
 
 Additionally,
the Company has a Supplemental Retirement Plan (“SRP”) for the current and
former presidents as well as two senior officers of the Bank.  At
December 31, 2008 and 2007, $1,444,546 and $1,392,149, respectively, has been
accrued under these SRPs, and this liability and the related deferred tax asset
of $491,146 and $473,331, respectively, are recognized in the financial
statements.
 
 The
deferred compensation for the current and former presidents is to be paid for
the remainder of their lives, commencing with the first year following the
termination of employment after completion of required service.  The
current president’s payment is based on 60 percent of his final full year annual
gross taxable compensation adjusted annually for the change in the consumer
price index or 4 percent, whichever is higher.  The former president’s
payment is based on 60 percent of his final full year annual gross taxable
compensation adjusted annually for the change in the consumer price
index.  The deferred compensation for the two senior officers is to be
paid at the rate of $50,000 per year for 20 years, commencing 5 years after
retirement or age 65, whichever comes first, following the termination of
employment.  The Company records periodic accruals for the cost of
providing such benefits by charges to income.  The accruals increase
each year based on a discount rate of 6.25 percent used in determining the
estimated liability that will be accrued when the employees are eligible for
benefits.
 
 The
following table illustrates the components of the net periodic benefit cost for
the supplemental retirement plan:
  For the Year Ended2008
                      
                      
                      2007Components
      of net periodic benefit cost:Service
      cost
                      
                      $
                      72,609
                      
                      
                      $
                      194,937Interest
      cost
                      
                      
                      87,009
                      
                      
                      
                      70,845Net
      periodic benefit cost
                      
                      $
                      159,618
                      
                      
                      $
                      265,782
 
 13.
                REGULATORY
      RESTRICTIONS
 
 Regulatory Capital
Requirements
 
 Federal
regulations require the Bank to maintain minimum amounts of
capital.  Specifically, each is required to maintain certain minimum
dollar amounts and ratios of Total and Tier I capital to risk-weighted assets
and of Core capital to average total assets.
  In
addition to the capital requirements, the Federal Deposit Insurance Corporation
Improvement Act (“FDICIA”) established five capital categories ranging from
“well capitalized” to “critically undercapitalized.”  Should any
institution fail to meet the requirements to be considered “adequately
capitalized,” it would become subject to a series of increasingly restrictive
regulatory actions. Management
believes, as of December 31, 2008, the Bank met all capital adequacy
requirements to which they are subject.
  As of
December 31, 2008 and 2007, the Office of Thrift Supervision categorized the
Bank as well capitalized under the regulatory framework for prompt corrective
action.  To be classified as a well capitalized financial institution,
Total risk-based, Tier 1 risk-based, core capital, and tangible equity capital
ratios must be at least 10.0 percent, 6.0 percent, 5.0 percent, and 1.5 percent,
respectively.  There have been no conditions or events since the
notification that management believes have changed the Bank’s
category.
  F-24
  13.
                  REGULATORY
      RESTRICTIONS
(Continued)
  Regulatory Capital
Requirements (Continued)
 
 The
Bank’s actual capital ratios are presented in the following tables, which show
that the Bank met all regulatory capital requirements.
  The
following table reconciles the Bank’s capital under accounting principles
generally accepted in the United States of America to regulatory
capital.
  December 31,2008
                        
                        
                        2007Total
      stockholders' equity
                        
                        $
                        20,553,566
                        
                        
                        $
                        20,281,986Accumulated
      other comprehensive (income) loss
                        
                        
                        (655,248
                        )
                        
                        
                        (142,835
                        )Tier
      I, core, and tangible capital
                        
                        
                        19,898,318
                        
                        
                        
                        20,139,151Allowance
      for loan losses
                        
                        
                        857,702
                        
                        
                        
                        731,338Total
      risk-based capital
                        
                        $
                        20,756,020
                        
                        
                        $
                        20,870,489
 
 The
Bank’s actual capital ratios are presented in the following table:
 
 December 31,2008
                                      
                                      
                                      2007Amount
                                      
                                      
                                      Ratio
                                      
                                      
                                      Amount
                                      
                                      
                                      RatioTotal
      Capital(to Risk-Weighted Assets)Actual
                                      
                                      $
                                      20,756,020
                                      
                                      
                                      
                                      18.73
                                      %
                                      
                                      $
                                      20,870,489
                                      
                                      
                                      
                                      21.65
                                      %For
      Capital Adequacy Purposes
                                      
                                      
                                      8,863,362
                                      
                                      
                                      
                                      8.00
                                      
                                      
                                      
                                      7,711,359
                                      
                                      
                                      
                                      8.00To
      Be Well Capitalized
                                      
                                      
                                      11,079,203
                                      
                                      
                                      
                                      10.00
                                      
                                      
                                      
                                      9,639,199
                                      
                                      
                                      
                                      10.00Tier
      I Capital(to Risk-Weighted Assets)Actual
                                      
                                      $
                                      19,898,318
                                      
                                      
                                      
                                      17.96
                                      %
                                      
                                      $
                                      20,139,150
                                      
                                      
                                      
                                      20.89
                                      %For
      Capital Adequacy Purposes
                                      
                                      
                                      4,431,681
                                      
                                      
                                      
                                      4.00
                                      
                                      
                                      
                                      3,855,680
                                      
                                      
                                      
                                      4.00To
      Be Well Capitalized
                                      
                                      
                                      6,647,522
                                      
                                      
                                      
                                      6.00
                                      
                                      
                                      
                                      5,783,519
                                      
                                      
                                      
                                      6.00Core
      Capital(to Adjusted Assets)Actual
                                      
                                      $
                                      19,898,318
                                      
                                      
                                      
                                      9.06
                                      %
                                      
                                      $
                                      20,139,150
                                      
                                      
                                      
                                      10.03
                                      %For
      Capital Adequacy Purposes
                                      
                                      
                                      8,783,488
                                      
                                      
                                      
                                      4.00
                                      
                                      
                                      
                                      8,031,263
                                      
                                      
                                      
                                      4.00To
      Be Well Capitalized
                                      
                                      
                                      10,979,360
                                      
                                      
                                      
                                      5.00
                                      
                                      
                                      
                                      10,039,079
                                      
                                      
                                      
                                      5.00Tangible
      Capital(to Adjusted Assets)Actual
                                      
                                      $
                                      19,898,318
                                      
                                      
                                      
                                      9.06
                                      %
                                      
                                      $
                                      20,139,150
                                      
                                      
                                      
                                      10.03
                                      %For
      Capital Adequacy Purposes
                                      
                                      
                                      4,391,744
                                      
                                      
                                      
                                      1.50
                                      
                                      
                                      
                                      4,015,632
                                      
                                      
                                      
                                      1.50To
      Be Well Capitalized
                                      
                                      
                                      N/A
                                      
                                      
                                      
                                      N/A
                                      
                                      
                                      
                                      N/A
                                      
                                      
                                      
                                      N/A
 
 The Bank
accumulated approximately $1.4 million of retained earnings at December 31,
1996, which represents allocations of income to bad debt deductions for tax
purposes only.  Since this amount represents the accumulated bad debt
reserves prior to 1987, no provision for federal income tax has been
made.  If any portion of this amount is used other than to absorb loan
losses (which is not anticipated), the amount will be subject to federal income
tax at the current corporate rate.
  F-25
 
 13.
                REGULATORY
      RESTRICTIONS (Continued)
 
 Regulatory
Agreement
 
 On
December 7, 2001, the Bank was issued a Part 570 Notice of Deficiency and
Directive for Submission of a Safety and Soundness Compliance Plan by the Office
of Thrift Supervision.  If the Bank fails to comply with the Part 570
Notice in a manner satisfactory to the Office of Thrift Supervision, it can take
additional, and possibly more severe, enforcement action against the Bank,
including issuing an Order to Cease and Desist.  Moreover, the Office
of Thrift Supervision can impose restrictions on the Bank’s operations, which
would negatively affect the Bank’s ability to implement its operating strategy
and negatively affect profitability.  The Bank has not complied with
all of the earnings ratio requirements since the inception of the
agreement.  On May 7, 2007, the Company was notified by the Office of
Thrift Supervision that the designation of the Bank as a “troubled institution”
was rescinded and also that the Bank was no longer required to comply with the
570 Compliance Plan.
 
 14.
                FAIR
      VALUE MEASUREMENTS
 
 Effective
January 1, 2008, the Company adopted the provisions of FAS No. 157,
Fair Value
Measurements, for financial assets and financial
liabilities.  FAS No. 157 provides enhanced guidance for using
fair value to measure assets and liabilities.  The standard applies
whenever other standards require or permit assets or liabilities to be measured
at fair value.  The standard does not expand the use of fair value in
any new circumstances.  The FASB issued Staff Position No. 157-1,
Application of FASB Statement
No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That
Address Fair Value Measurements for Purposes of Lease Classification or
Measurement under Statement 13, which removed leasing transactions
accounted for under FAS No. 13 and related guidance from the scope of FAS No.
157.  The FASB also issued Staff Position No.157-2, Partial Deferral of the Effective
Date of Statement 157, which deferred the effective date of FAS No. 157
for all nonfinancial assets and nonfinancial liabilities to fiscal years
beginning after November 15, 2008.
 
 FAS
No. 157 establishes a hierarchal disclosure framework associated with the
level of pricing observability utilized in measuring assets and liabilities at
fair value. The three broad levels defined by FAS No. 157 hierarchy are as
follows:
 
 Level
      I:
              Quoted
      prices are available in active markets for identical assets or liabilities
      as of the reported date.
 
 Level
      II:
              Pricing
      inputs are other than the quoted prices in active markets, which are
      either directly or indirectly observable as of the reported
      date.  The nature of these assets and liabilities includes items
      for which quoted prices are available but traded less frequently and items
      that are fair-valued using other financial instruments, the parameters of
      which can be directly observed.
 
 Level
      III:
              Assets
      and liabilities that have little to no pricing observability as of the
      reported date.  These items do not have two-way markets and are
      measured using management’s best estimate of fair value, where the inputs
      into the determination of fair value require significant management
      judgment or estimation.
 
 The
following table presents the assets reported on the balance sheet at their fair
value as of December 31, 2008, by level within the fair value
hierarchy.  As required by FAS No. 157, financial assets and
liabilities are classified in their entirety based on the lowest level of input
that is significant to the fair value measurement.
 
 December 31, 2008Level I
                            
                            
                            Level II
                            
                            
                            Level III
                            
                            
                            TotalAssets:Investment
      securitiesavailable for sale
                            
                            $
                            -
                            
                            
                            $
                            37,788,887
                            
                            
                            $
                            -
                            
                            
                            $
                            37,788,887
  F-26
 
 15.
                FAIR
      VALUE DISCLOSURE
 
 The
estimated fair values of the Company’s financial instruments are as
follows:
 
 December 31, 2008
                                      
                                      
                                      December 31, 2007Carrying
                                      
                                      
                                      Fair
                                      
                                      
                                      Carrying
                                      
                                      
                                      FairValue
                                      
                                      
                                      Value
                                      
                                      
                                      Value
                                      
                                      
                                      ValueFinancial
      assets:Cash
      and cash equivalents
                                      
                                      $
                                      4,670,942
                                      
                                      
                                      $
                                      4,670,942
                                      
                                      
                                      $
                                      3,825,725
                                      
                                      
                                      $
                                      3,825,725Investment
      securities available for sale
                                      
                                      
                                      37,788,887
                                      
                                      
                                      
                                      37,788,887
                                      
                                      
                                      
                                      45,885,415
                                      
                                      
                                      
                                      45,885,415Net
      loans receivable
                                      
                                      
                                      163,758,907
                                      
                                      
                                      
                                      168,774,162
                                      
                                      
                                      
                                      137,279,915
                                      
                                      
                                      
                                      135,013,465Accrued
      interest receivable
                                      
                                      
                                      881,954
                                      
                                      
                                      
                                      881,954
                                      
                                      
                                      
                                      848,930
                                      
                                      
                                      
                                      848,930Federal
      Home Loan Bank stock
                                      
                                      
                                      2,279,200
                                      
                                      
                                      
                                      2,279,200
                                      
                                      
                                      
                                      1,270,800
                                      
                                      
                                      
                                      1,270,800Bank-owned
      life insurance
                                      
                                      
                                      3,936,358
                                      
                                      
                                      
                                      3,936,358
                                      
                                      
                                      
                                      4,172,776
                                      
                                      
                                      
                                      4,172,776Financial
      liabilities:Deposits
                                      
                                      $
                                      164,586,405
                                      
                                      
                                      $
                                      170,256,832
                                      
                                      
                                      $
                                      163,216,663
                                      
                                      
                                      $
                                      164,561,304FHLB
      advances - short-term
                                      
                                      
                                      4,000,000
                                      
                                      
                                      
                                      4,000,000
                                      
                                      
                                      
                                      6,000,000
                                      
                                      
                                      
                                      6,000,000FHLB
      advances - long-term
                                      
                                      
                                      24,553,349
                                      
                                      
                                      
                                      25,878,974
                                      
                                      
                                      
                                      4,098,370
                                      
                                      
                                      
                                      4,073,370Advances
      by borrowers for taxes and insurance
                                      
                                      
                                      1,413,396
                                      
                                      
                                      
                                      1,413,396
                                      
                                      
                                      
                                      1,224,248
                                      
                                      
                                      
                                      1,224,248Accrued
      interest payable
                                      
                                      
                                      63,867
                                      
                                      
                                      
                                      63,867
                                      
                                      
                                      
                                      9,504
                                      
                                      
                                      
                                      9,504
 
 Financial
instruments are defined as cash, evidence of ownership interest in an entity, or
a contract that creates an obligation or right to receive or deliver cash or
another financial instrument from/to a second entity on potentially favorable or
unfavorable terms.
 
 Fair
value is defined as the amount at which a financial instrument could be
exchanged in a current transaction between willing parties other than in a
forced or liquidation sale.  If a quoted market price is available for
a financial instrument, the estimated fair value would be calculated based upon
the market price per trading unit of the instrument.
 
 If no
readily available market exists, the fair value estimates for financial
instruments should be based upon management’s judgment regarding current
economic conditions, interest rate risk, expected cash flows, future estimated
losses, and other factors as determined through various option pricing formulas
or simulation modeling.  As many of these assumptions result from
judgments made by management based upon estimates that are inherently uncertain,
the resulting estimated fair values may not be indicative of the amount
realizable in the sale of a particular financial instrument.  In
addition, changes in assumptions on which the estimated fair values are based
may have a significant impact on the resulting estimated fair
values.
  F-27
 
 15.
                FAIR
      VALUE DISCLOSURE (Continued)
 
 As
certain assets such as deferred tax assets and premises and equipment are not
considered financial instruments, the estimated fair value of financial
instruments would not represent the full value of the Company.
 
 The
Company employed simulation modeling in determining the estimated fair value of
financial instruments for which quoted market prices were not available based
upon the following assumptions:
 
 Cash and Cash Equivalents,
Accrued Interest Receivable, Federal Home Loan Bank Stock, Short-Term
Borrowings, Accrued Interest Payable, and Advances by Borrowers for Taxes and
Insurance
 
 The fair
value is equal to the current carrying value.
  Investment Securities
Available for Sale
 
 The fair
value of investment securities available for sale is equal to the available
quoted market price.  If no quoted market price is available, fair
value is estimated using the quoted market price for similar
securities.
 
 Net Loans
Receivable
 
 The fair
value is estimated by discounting future cash flows using current market inputs
at which loans with similar terms and qualities would be made to borrowers of
similar credit quality.  Where quoted market prices were available,
primarily for certain residential mortgage loans, such market rates were
utilized as estimates for fair value.
 
 Deposits and Other Borrowed
Funds
 
 The fair
values of certificates of deposit and other borrowed funds are based on the
discounted value of contractual cash flows.  The discount rates are
estimated using rates currently offered for similar instruments with similar
remaining maturities.  Demand, savings, and money market deposits are
valued at the amount payable on demand as of year-end.
  Bank-Owned Life
Insurance
 
 The fair
value is equal to the cash surrender value of the life insurance
policies.
  Commitments to Extend
Credit
 
 These
financial instruments are generally not subject to sale, and estimated fair
values are not readily available.  The carrying value, represented by
the net deferred fee arising from the unrecognized commitment, and the fair
value, determined by discounting the remaining contractual fee over the term of
the commitment using fees currently charged to enter into similar agreements
with similar credit risk, are not considered material for
disclosure.  The contractual amounts of unfunded commitments are
presented in Note 11.
 
 16.
                CONVERSION
      AND REORGANIZATION
 
 On
January 11, 2007, the Board of Directors of the Bank unanimously adopted a Plan
of Reorganization and stock Issuance (the “Plan”) pursuant to which the Bank
will reorganize into the federal mutual holding company form of organization as
a wholly owned subsidiary of Polonia Bancorp (the “Stock Holding Company”),
which in turn will be a majority-owned subsidiary of Polonia MHC.  The
newly chartered Stock Holding Company will offer shares of its common stock to
the Bank’s eligible account holders, to the Bank’s tax-qualified employee
benefit plans, and, if necessary, to the general public in accordance with the
priorities set forth in the Plan.  The amount of common stock to be
sold in the offering will not exceed 49 percent of the total outstanding shares
of the Stock Holding Company.  The majority of the common stock will
be owned by Polonia MHC.  The Plan is subject to the approval of the
OTS.
  F-28
 
 16.
                CONVERSION
      AND REORGANIZATION
(Continued)
 
 Following
the sale of common stock, all depositors who had membership or liquidation
rights with respect to the Bank as of the effective date of the transaction will
continue to have such rights solely with respect to Polonia MHC as long as they
continue to hold deposit accounts with the Bank.  In addition, all
persons who become depositors of the Bank subsequent to the date of the
transaction will have such membership and liquidation rights with respect to
Polonia MHC.  Borrowers of the Bank as of the date of the transaction
will have the same membership rights in Polonia MHC that they had in the Bank
immediately prior to the date of the transaction as long as their existing
borrowings remain outstanding.
 
 The
regulations of the OTS prohibit the Bank from declaring or paying a cash
dividend if the effect thereof would cause the Bank’s regulatory capital to be
reduced below either the amount required for the liquidation account or the
federal regulatory capital requirement in Section 567.2 of the Rules and
Regulations of the OTS.
 
 The
conversion was completed as of January 11, 2007, with the sale of 1,487,813
number of shares resulting in net proceeds of approximately
$13,800,000.  The deferred costs associated with the conversion were
$1,043,000.
 
 17.
                PARENT
      COMPANY
 
 Condensed
financial statements of Polonia Bancorp are as follows:
 
 CONDENSED BALANCE SHEETDecember 31,2008
                        
                        
                        2007ASSETSCash
                        
                        $
                        3,363,830
                        
                        
                        $
                        4,170,910Loans
      receivable
                        
                        
                        1,123,243
                        
                        
                        
                        1,209,647Investment
      in subsidiary
                        
                        
                        19,430,322
                        
                        
                        
                        19,072,339Other
      assets
                        
                        
                        113,384
                        
                        
                        
                        103,525TOTAL
      ASSETS
                        
                        $
                        24,030,779
                        
                        
                        $
                        24,556,421LIABILITIES
      AND STOCKHOLDERS' EQUITYOther
      liabilities
                        
                        $
                        427,099
                        
                        
                        $
                        562,676Stockholders'
      equity
                        
                        
                        23,603,680
                        
                        
                        
                        23,993,745TOTAL
      LIABILITIES AND STOCKHOLDERS' EQUITY
                        
                        $
                        24,030,779
                        
                        
                        $
                        24,556,421
 
 CONDENSED STATEMENT OF LOSSYear Ended
                              
                              
                              For the PeriodDecember 31,
                              
                              
                              of January 11 to2008
                              
                              
                              December 31,2007INCOMEESOP
      loan interest income
                              
                              $
                              103,102
                              
                              
                              $
                              103,702Investment
      income
                              
                              
                              111,939
                              
                              
                              
                              138,963Total
      income
                              
                              
                              215,041
                              
                              
                              
                              242,665EXPENSES
                              
                              
                              218,948
                              
                              
                              
                              191,376Income
      (loss) before income tax expense
                              
                              
                              (3,907
                              )
                              
                              
                              51,289Income
      tax expense
                              
                              
                              1,413
                              
                              
                              
                              20,820Income (loss) before
      equity in undistributed earnings
      of
    subsidiary
                              
                              
                              (5,320
                              )
                              
                              
                              30,469Equity
      in undistributed earnings of subsidiary
                              
                              
                              (240,832
                              )
                              
                              
                              (356,040
                              )NET
      LOSS
                              
                              $
                              (246,152
                              )
                              
                              $
                              (325,571
                              )
  F-29
 
 17.
                PARENT
      COMPANY (Continued)
 
 CONDENSED STATEMENT OF CASH FLOWSYear Ended
                          
                          
                          For the PeriodDecember 31,
                          
                          
                          of January 11 to2008
                          
                          
                          December 31, 2007OPERATING
      ACTIVITIESNet
      loss
                          
                          $
                          (246,152
                          )
                          
                          $
                          (325,571
                          )Adjustments
      to reconcile net loss tonet
      cash used for operating activities:Equity
      in undistributed earnings of subsidiary
                          
                          
                          240,832
                          
                          
                          
                          356,040Stock
      compensation expense
                          
                          
                          326,820
                          
                          
                          
                          169,069Other,
      net
                          
                          
                          (145,435
                          )
                          
                          
                          459,151Net
      cash used for operating activities
                          
                          
                          176,065
                          
                          
                          
                          658,689INVESTING
      ACTIVITIESCapital
      contribution in subsidiary Bank
                          
                          
                          -
                          
                          
                          
                          (8,417,390
                          )Net
      cash used for investing activities
                          
                          
                          -
                          
                          
                          
                          (8,417,390
                          )FINANCING
      ACTIVITIESNet
      proceeds from the issuance of common stock
                          
                          
                          -
                          
                          
                          
                          11,929,611Purchase
      of treasury stock
                          
                          
                          (983,145
                          )
                          
                          
                          -Net
      cash (used for) provided by financing activities
                          
                          
                          (983,145
                          )
                          
                          
                          11,929,611Increase
      (decrease) in cash
                          
                          
                          (807,080
                          )
                          
                          
                          4,170,910CASH
      AT BEGINNING OF PERIOD
                          
                          
                          4,170,910
                          
                          
                          
                          -CASH
      AT END OF PERIOD
                          
                          $
                          3,363,830
                          
                          
                          $
                          4,170,910
  F-30
 
 18.
                SELECTED
      QUARTERLY DATA (Unaudited)
 
 Three Months EndedMarch 31,
                        
                        
                        June 30,
                        
                        
                        September 30,
                        
                        December 31,2008
                        
                        
                        2008
                        
                        
                        2008
                        
                        
                        2008Total
      interest income
                        
                        $
                        2,614,736
                        
                        
                        $
                        2,712,306
                        
                        
                        $
                        2,848,464
                        
                        
                        $
                        2,893,693Total
      interest expense
                        
                        
                        1,268,893
                        
                        
                        
                        1,262,059
                        
                        
                        
                        1,391,422
                        
                        
                        
                        1,389,598Net
      interest income
                        
                        
                        1,345,843
                        
                        
                        
                        1,450,247
                        
                        
                        
                        1,457,042
                        
                        
                        
                        1,504,095Provision
      for loan losses
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        84,992
                        
                        
                        
                        -Net
      interest income afterprovision
      for loan losses
                        
                        
                        1,345,843
                        
                        
                        
                        1,450,247
                        
                        
                        
                        1,372,050
                        
                        
                        
                        1,504,095Total
      noninterest income
                        
                        
                        126,416
                        
                        
                        
                        132,325
                        
                        
                        
                        (229,084
                        )
                        
                        
                        54,789Total
      noninterest expense
                        
                        
                        1,538,862
                        
                        
                        
                        1,563,857
                        
                        
                        
                        1,504,669
                        
                        
                        
                        1,493,642Income
      (loss) before income taxes
                        
                        
                        (66,603
                        )
                        
                        
                        18,715
                        
                        
                        
                        (361,703
                        )
                        
                        
                        65,242Income
      taxes (benefit)
                        
                        
                        (10,374
                        )
                        
                        
                        21,639
                        
                        
                        
                        34,145
                        
                        
                        
                        (143,608
                        )Net
      income (loss)
                        
                        $
                        (56,229
                        )
                        
                        $
                        (2,924
                        )
                        
                        $
                        (395,848
                        )
                        
                        $
                        208,850Per
      share data:Net
      income (loss)Basic
      and diluted
                        
                        $
                        (0.02
                        )
                        
                        $
                        -
                        
                        
                        $
                        (0.13
                        )
                        
                        $
                        0.07Average
      shares outstandingBasic
      and diluted
                        
                        
                        3,128,369
                        
                        
                        
                        3,106,095
                        
                        
                        
                        3,056,112
                        
                        
                        
                        3,036,827
  Three Months EndedMarch
      31,
                                
                                
                                June
      30,
                                
                                
                                September
      30,
                                
                                December
      31,2007
                                
                                
                                2007
                                
                                
                                2007
                                
                                
                                2007Total
      interest income
                                
                                $
                                2,509,272
                                
                                
                                $
                                2,564,739
                                
                                
                                $
                                2,587,955
                                
                                
                                $
                                2,635,322Total
      interest expense
                                
                                
                                1,332,162
                                
                                
                                
                                1,430,956
                                
                                
                                
                                1,424,674
                                
                                
                                
                                1,450,798Net
      interest income
                                
                                
                                1,177,110
                                
                                
                                
                                1,133,783
                                
                                
                                
                                1,163,281
                                
                                
                                
                                1,184,524Provision
      for loan losses
                                
                                
                                31,367
                                
                                
                                
                                -
                                
                                
                                
                                -
                                
                                
                                
                                -Net
      interest income afterprovision
      for loan losses
                                
                                
                                1,145,743
                                
                                
                                
                                1,133,783
                                
                                
                                
                                1,163,281
                                
                                
                                
                                1,184,524Total
      noninterest income
                                
                                
                                174,183
                                
                                
                                
                                184,620
                                
                                
                                
                                179,102
                                
                                
                                
                                222,619Total
      noninterest expense
                                
                                
                                1,476,603
                                
                                
                                
                                1,478,596
                                
                                
                                
                                1,530,507
                                
                                
                                
                                1,392,302Income
      (loss) before income taxes
                                
                                
                                (156,677
                                )
                                
                                
                                (160,193
                                )
                                
                                
                                (188,124
                                )
                                
                                
                                14,841Income
      taxes (benefit)
                                
                                
                                (58,166
                                )
                                
                                
                                (70,274
                                )
                                
                                
                                (79,140
                                )
                                
                                
                                42,998Net
      loss
                                
                                $
                                (98,511
                                )
                                
                                $
                                (89,919
                                )
                                
                                $
                                (108,984
                                )
                                
                                $
                                (28,157
                                )Per
      share data:Net
      lossBasic
      and diluted
                                
                                $
                                (0.03
                                )
                                
                                $
                                (0.03
                                )
                                
                                $
                                (0.03
                                )
                                
                                $
                                (0.01
                                )Average
      shares outstandingBasic
      and diluted
                                
                                
                                3,177,766
                                
                                
                                
                                3,178,616
                                
                                
                                
                                3,181,749
                                
                                
                                
                                3,162,898
  F-31