UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

**FORM 10-Q**

(Mark one)

**[X] QUARTERLY REPORTPURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

For the quarterly periodended **March 31, 2007**

or

**[ ] TRANSITION REPORTPURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

For the transition periodfrom _______________ to _______________________

Commission File Numbers: 0-10972

First Farmers and MerchantsCorporation

(Exact name of registrant as specified in its charter)

Tennessee                                                                                                                          62-1148660

(State or other jurisdiction of incorporation ororganization)                                     (I.R.S.Employer Identification No.)

               816 South Garden Street

               Columbia, Tennessee                                                                                                         38402-1148

(Address of principalexecutive offices)                                                                                                  (ZipCode)

931-388-3145

(Registrant's telephone number, including area code)

(Former name, former address and former fiscal year,if changed since last report)

                Indicate bycheck mark whether the registrant (1) has filed all reports required to befiled by Section 13 or 15(d) of the Securities Exchange Act of 1934 during thepreceding 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.  [X]Yes  [  ] No

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, or a non-accelerated filer.  See definition of"accelerated filer and large accelerated filer" in Rule 12b-2 of theExchange Act.  (Check one):  

Largeaccelerated filer [ ]     Accelerated filer [X]            Non-acceleratedfiler [ ]       

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theAct). [ ] Yes [X]No

Indicate the number of shares outstanding of each ofthe registrant's classes of common stock, as of the latest practicable date. 

5,740,000 shares as of May 4, 2007**PART I - FINANCIAL INFORMATIO**N

**Item 1. FinancialStatements.**

Thefollowing unaudited consolidated financial statements of the Registrant and itssubsidiaries are included in this Report:

Consolidatedbalance sheets - March 31, 2007 and December 31, 2006.

Consolidatedstatements of income - For the three months ended March 31, 2007 and March 31,2006.

Consolidatedstatements of cash flows - For the threemonths ended March 31, 2007 and March 31,2006.

Selectednotes to consolidated financial statements.

| **FIRST FARMERS AND MERCHANTS CORPORATION AND  SUBSIDIARIES**                                                         |
|-----------------------------------------------------------------------------------------------------------------------|
| **CONSOLIDATED BALANCE SHEETS**                                                                                       |
|                                                                                                                       |  | **March 31,** | December 31, |
|                                                                                                                       |  | **2007** | 2006 |
|                                                                                                                       | *(Dollars In Thousands, Except Per Share Data)* | **(Unaudited)** | (1) |
|                                                                                                                       |  | ** ** |  |
| **ASSETS**                                                                                                            | Cash and due from banks | ** $** | **18,165 ** |  $ | 45,558  |
|                                                                                                                       | Interest-bearing deposits in banks | **1,657 ** | 2,573  |
|                                                                                                                       | Federal funds sold | **16,250 ** | 26,850  |
|                                                                                                                       |               Total cash and cash equivalents | **36,072 ** | 74,981  |
|                                                                                                                       | Securities | ** ** |  |
|                                                                                                                       |     Available for sale (amortized cost $147,626 | ** ** |  |
|                                                                                                                       |          and $149,040, respectively) | **146,071 ** | 147,001  |
|                                                                                                                       |     Held to maturity (fair value $79,389 | ** ** |  |
|                                                                                                                       |          and $82,109 respectively) | **78,562 ** | 81,247  |
|                                                                                                                       |               Total securities | **224,633 ** | 228,248  |
|                                                                                                                       | Loans, net of deferred fees | **489,186 ** | 473,353  |
|                                                                                                                       |     Allowance for possible loan losses | **(7,303)** | (7,262) |
|                                                                                                                       |               Net loans | **481,883 ** | 466,091  |
|                                                                                                                       | Bank premises and equipment, at cost | ** ** |  |
|                                                                                                                       |          less allowance for depreciation | **10,278 ** | 10,428  |
|                                                                                                                       | Core deposit and other intangibles | **9,610 ** | 9,874  |
|                                                                                                                       | Other assets | **31,575 ** | 30,462  |
|                                                                                                                       |             TOTAL ASSETS | ** $** | **794,051 ** |  $ | 820,084  |
|                                                                                                                       |  | ** ** |  |
|                                                                                                                       |  | ** ** |  |
| **LIABILITIES**                                                                                                       | Deposits | ** ** |  |
|                                                                                                                       |      Noninterest-bearing | ** $** | **125,728 ** |  $ | 142,933  |
|                                                                                                                       |      Interest-bearing (including certificates of  deposit | ** ** |  |
|                                                                                                                       |           over $100:  2007 - $87,877; 2006 - $91,504) | **547,280 ** | 556,029  |
|                                                                                                                       |             Total deposits | **673,008 ** | 698,962  |
|                                                                                                                       | Federal funds purchased and securities sold | ** ** |  |
|                                                                                                                       |            under agreements to repurchase | **3,246 ** | 2,654  |
|                                                                                                                       | Dividends payable | **- ** | 1,971  |
|                                                                                                                       | Other short-term liabilities | **- ** | 385  |
|                                                                                                                       | Accounts payable and accrued liabilities | **12,546 ** | 12,305  |
|                                                                                                                       |             TOTAL LIABILITIES | **688,800 ** | 716,277  |
|                                                                                                                       |  | ** ** |  |
| **SHAREHOLDERS'**                                                                                                     | Common stock - $10 par value, 8,000,000 shares |  |  |
| **EQUITY**                                                                                                            |         authorized; 5,742,000 and 5,760,000 issued |  |  |
|                                                                                                                       |         and outstanding shares as of 03/31/07 and |  |  |
|                                                                                                                       |          12/31/06, respectively | **57,420 ** | 57,600  |
|                                                                                                                       | Additional paid-in capital | **400 ** | 1,120  |
|                                                                                                                       | Retained earnings | **48,388 ** | 46,342  |
|                                                                                                                       | Accumulated other comprehensive loss | **(957)** | (1,255) |
|                                                                                                                       |             TOTAL SHAREHOLDERS' EQUITY | **105,251 ** | 103,807  |
|                                                                                                                       |             TOTAL LIABILITIES AND | ** ** |  |
|                                                                                                                       |                 SHAREHOLDERS' EQUITY | ** $** | **794,051 ** |  $ | 820,084  |
|                                                                                                                       |  | ** ** |  |
|       (1)  Derived from audited financial statements.                                   |  |  |
|       The accompanying notes are an integral part of  the consolidated financial statements. |  |

|  

 

 
**FIRST FARMERS AND MERCHANTS CORPORATION AND  SUBSIDIARIES**
**CONSOLIDATED STATEMENTS OF INCOME**

*(Unaudited**)*

*Three Months Ended March 31,*

*(Dollars In Thousands, Except Per Share Data)*

**2007**

2006

** **

**INTEREST AND DIVIDEND**

Interest and fees on loans

** $**

**7,953 **

 $

7,268  

**     INCOME**

Income on investment securities

** **

     Taxable interest

**1,283 **

1,634  

     Exempt from federal income tax

**1,023 **

1,079  

     Dividends

**63 **

49  

**2,369 **

2,762  

Other interest income

**308 **

34  

    TOTAL INTEREST INCOME

**10,630 **

10,064  

**INTEREST EXPENSE**

Interest on deposits

**3,995 **

2,988  

Interest on other short-term borrowings

**31 **

77  

      TOTAL INTEREST EXPENSE

**4,026 **

3,065  

** **

            NET INTEREST INCOME

**6,604 **

6,999  

PROVISION FOR POSSIBLE LOAN LOSSES

**- **

-  

** **

      NET INTEREST INCOME AFTER

** **

           PROVISION FOR LOAN LOSSES

**6,604 **

6,999  

**NONINTEREST  INCOME**

Trust department income

**707 **

540  

Service fees on deposit accounts

**1,753 **

1,815  

Other service fees, commissions and fees

**130 **

87  

Other operating income

**274 **

184  

      TOTAL NONINTEREST  INCOME

**2,864 **

2,626  

**NONINTEREST  EXPENSE**

Salaries and employee benefits

**3,737 **

4,135  

Net occupancy expense

**543 **

562  

Furniture and equipment expense

**277 **

297  

Other operating expenses

**2,581 **

2,711  

      TOTAL NONINTEREST EXPENSES

**7,138 **

7,705  

           INCOME BEFORE PROVISION FOR

** **

                 INCOME TAXES

**2,330 **

1,920  

PROVISION FOR INCOME TAXES

**284 **

276  

                  NET INCOME 

** $**

**2,046 **

 $

1,644  

**BASIC EARNINGS PER**

**SHARE**

Weighted Average Shares Outstanding

**5,757,139 **

5,840,000  

** $**

**0.36 **

 $

0.28 

      The accompanying notes are an integral part of  the consolidated financial statements.

** **

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** **

**FIRST FARMERS AND MERCHANTS CORPORATION AND  SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF CASH  FLOWS                 **

*(Unaudited)*

*Three Months Ended  March 31,*

*(Dollars In Thousands, Except Per Share Data)*

**2007**

2006

**OPERATING**

Net income

** $**

**2,046 **

 $

1,644  

**ACTIVITIES**

   Adjustments to reconcile net income to net cash  provided

** **

     by operating activities

** **

       Excess (deficiency) of provision for possible  loan losses

** **

          over net charge offs

**41 **

(64)

       Provision for depreciation and amortization of

** **

          premises and equipment

**226 **

274  

       Amortization of deposit base intangibles

**264 **

264  

       Amortization of investment security premiums,

** **

          net of accretion of discounts

**171 **

355  

       Increase in cash surrender value of life  insurance contracts

**(108)**

(90)

       Increase in

** **

          Deferred income taxes

**(148)**

(1)

          Interest receivable

**(92)**

(40)

          Other assets

**(593)**

(292)

       (Decrease) increase in

** **

          Interest payable

**(157)**

399  

          Other liabilities

**303 **

295  

               Total adjustments

**(93)**

1,100  

               Net cash provided by operating  activities

**1,953 **

2,744  

**INVESTING**

Proceeds from maturities, calls and sales of

** **

**ACTIVITIES**

      available-for-sale securities

**6,032 **

24,045  

Proceeds from maturities and calls of  held-to-maturity securities

**2,660 **

1,260  

Purchases of investment securities

** **

      Available-for-sale

**(4,752)**

(17,280)

Net increase in loans

**(15,833)**

(12,522)

Purchase of life insurance policies

**(369)**

-  

Purchases of premises and equipment

**(77)**

(119)

               Net cash used in investing activities

**(12,339)**

(4,616)

**FINANCING**

Net increase (decrease) in noninterest-bearing

** **

**ACTIVITIES**

      and interest-bearing deposits

**(25,953)**

10,045  

Net increase (decrease) in short-term borrowings

**206 **

(10,827)

Proceeds from sale of minority interest in a  controlled subsidiary

**95 **

-  

Repurchase of common stock

**(900)**

-  

Cash dividends

**(1,971)**

(1,869)

               Net cash used in financing activities

**(28,523)**

(2,651)

Decrease in cash and cash equivalents

**(38,909)**

(4,523)

Cash and cash equivalents at beginning of period

**74,981 **

28,538  

Cash and cash equivalents at end of period

** $**

**36,072 **

 $

24,015  

      The accompanying notes are an integral part of  the consolidated financial statements.

** **

** **

 

** **

** **

**NOTESTO CONSOLIDATED FINANCIAL STATEMENTS**

**NOTE 1- OTHER INFORMATION**

The unaudited consolidated financial statements have beenprepared on a consistent basis and in accordance with the instructions to Form10-Q and do not include all of the information and notes required by generallyaccepted accounting principles for complete financial statements.  In theopinion of management, all adjustments considered necessary for a fairpresentation have been included.  These adjustments were of a normal, recurringnature and consistent with generally accepted accounting principles.  Forfurther information, refer to the consolidated financial statements and notesincluded in the annual report of First Farmers and Merchants Corporation (the"Corporation") on Form 10-K for the year ended December 31, 2006.

**NOTE 2 - STOCKREPURCHASE**

**           **On March 23, 2007, the Corporation, pursuant to stockrepurchase agreements dated as of January 16, 2007, repurchased, throughnegotiated transactions with several different third-party sellers, 18,000shares of the Corporation's common stock at a price of $50 per share for anaggregate purchase price of $900,000.

**NOTE 3 - ACCOUNTING FORINCOME TAX UNCERTAINTIES  **

FASB Interpretation 48, "Accounting forIncome Tax Uncertainties" ("FIN 48") was issued in June 2006 and defines thethreshold for recognizing the benefits of tax return positions in the financialstatements as "more-likely-than-not" to be sustained by the taxing authority. FIN 48 also provides guidance on the derecognition, measurement and classificationof income tax uncertainties, along with any related interest and penalties andincludes guidance concerning accounting for income tax uncertainties in interimperiods.  The Corporation adopted the provisions of FASB Interpretation No. 48,Accounting for Uncertainty in Income Taxes ("FIN 48"), on January 1, 2007, anddetermined there was no need to make an adjustment to retained earnings uponadoption of this Interpretation.  The Corporation does not anticipate anymaterial increase or decrease in unrecognized tax benefits during 2007 relativeto any tax positions taken prior to January 1, 2007.

** **

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** **

** **

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**Item 2.  Management'sDiscussion and Analysis of Financial Condition and Results of Operations.**

** **

**FORWARD-LOOKING STATEMENTS**

    Certain statements contained in this report may not be based on historicalfacts and are "forward-looking statements" within the meaning of Section 27A ofthe Securities Act of 1933, as amended, and Section 21E of the SecuritiesExchange Act of 1934, as amended. These forward-looking statements may beidentified by, among other things, the use of forward-looking terminology suchas "anticipates," "could," "expects," "believes," "may" or "will," or future orconditional verb tenses, and variations or  negatives of such terms.  Theseforward-looking statements include, without limitation, those relating to thepotential sale of available-for-sale securities, repayment of loans byborrowers, failure to meet and satisfaction of capital adequacy requirements, adequacyof capital resources and traditional sources of cash generated from operatingactivities to meet liquidity needs, material capital expenditures, the effectof fluctuating interest rates and deferred income tax assets.  We caution younot to place undue reliance on such forward-looking statements in this reportbecause results could differ materially from those anticipated due to a varietyof factors.  These factors include, but are not limited to, changes in economicconditions; fluctuations in prevailing interest rates and the effectiveness ofour risk monitoring systems; the ability of our borrowers to repay loans;adverse changes in our special mention credits; our ability to sellavailable-for-sale securities to fund increased loan demand; our ability tomeet regulatory capital adequacy requirements; our ability to meet liquidityneeds from operating activities; the accuracy of assumptions in our rate riskanalysis; our ability to recognize deferred tax assets; our ability to maintaincredit quality; our ability to provide market competitive products andservices; laws and regulations affecting financial institutions in general; ourability to control factors influencing net interest income; the geographicconcentration of our assets; our ability to maintain sufficient asset qualityand cost controls; and other factors generally understood to affect thefinancial results of financial services companies and other factors detailedfrom time to time in First Farmers and Merchants Corporation's filings with theSecurities and Exchange Commission. We undertake no obligation to update theseforward-looking statements to reflect events or circumstances that occur afterthe date of this report.

**EXECUTIVE OVERVIEW**

AtMarch31, 2007, the consolidated total assets of First Farmers and MerchantsCorporation (the "Corporation") were $794.1 million, its consolidated net loanswere $489.2 million, its total deposits were $673.0 million and its totalshareholders' equity was $105.4 million.  The loan portfolio at March 31, 2007, increased$15.8 million, or 3.3%, compared to December 31, 2006.  The retail portion ofthe loan portfolio experienced a slight decreaseduring the first three months of 2007 and the commercial portfolio increased 3.9%during the same period.  Total deposits decreased $26.0 million, or 3.7%, andshareholders' equity increased 1.5% during the first three months of 2007.  Totalshareholders' equity includes an unrealized loss on available-for-sale securitiesof $956,000.

**FINANCIAL CONDITION**

Averageearning assets at March 31, 2007 were down 2.0% or $15.1 million from average earning assets at December 31,2006.  Average overnight investments at March 31, 2007 were up $14.1 million compared to December31, 2006.  Average investment securities at March31, 2007 were down 13.8% compared to theaverage at December 31, 2006.  Average total assets of $791.8 million at March 31, 2007decreased 1.9% or $15.7 million, compared to $807.5 millionat December 31, 2006.

**Securities**

Available-for-salesecurities are an integral part of the asset/liability management process for FirstFarmers and Merchants Bank, the Corporation's sole direct subsidiary (the "Bank"). Accordingly, they represent an important source of liquidity available to fundloans and accommodate asset reallocation strategies dictated by changes in the Bank'soperating and tax plans, shifting yield spread relationships and changes in configurationof the yield curve.  At March 31, 2007, the Bank's investment securities portfoliohad $146.1 million available-for-sale securities, which are valued at fairmarket value and $78.6 million held-to-maturitysecurities, which are valued at cost on the balance sheet.  These compare to $147.0million of available-for-sale securities and $81.2 million of held-to-maturitysecurities as of December 31, 2006.  The 0.6% decrease in available-for-salesecurities for the three months ended March 31, 2007 resulted from investing in the loanportfolio as securities matured.  The Bank may sell available-for-salesecurities to fund planned increased loan demand as needed.  

**Loans**

Theloan portfolio is the largest component of earning assets for the Bank and, consequently, provides the highest amount ofrevenues for the Corporation.  The loan portfolio also contains the highest exposure to risk as a result ofthe possibility of unexpected deterioration in the credit quality ofborrowers.  When analyzing potential loans, management assesses both interestrate objectives and credit quality objectives in determining whether to make agiven loan and the appropriate pricing for that loan.  

Concentrationswithin the Bank's loan portfolio exist.  First mortgage loans, secured by one-to-fourfamily residential properties, represented 36.9% of the total loan portfolio atMarch31, 2007.  The Bank recognizes this concentration, but management believes therisk is acceptable given the quality of underwriting and low level of historicalloss experience.  Total commercial and commercial real estate loans postedstrong gains during the first quarter and comprised 46.8% of the portfolio atMarch 31, 2007.  Although there is not an industry concentration in commercialloans as measured by regulatory guidelines, the Bank currently has heavy exposurein four broad industry categories: construction; real estate renting andleasing; other services (churches); and public administration.  Theseindustries are monitored closely to ensure that underwriting practices,policies and loss allowance levels match the level of risk posed.  All loansare expected to be repaid from cash flow or proceeds from the sale of selectedassets of the borrowers.  Collateral requirements for the loan portfolio arebased on credit evaluation of the borrowers.

Theanalysis and review of asset quality by the Bank's credit administrationincludes a formal review that evaluates the adequacy of the allowance forpossible loan losses.  This review is updated monthly and evaluated morecompletely quarterly in conjunction with loan review reports and evaluationsthat are discussed in meetings with loan officers, credit administration and theBank's Board of Directors.  The allowance forpossible loan and lease losses was $7.3 million, or 1.5% of gross loans, at March 31, 2007,compared to $7.3 million, or 1.5%, at December31, 2006.  Net recoveries through March 31, 2007 were $41,000, which results in an annualizednet charge-off ratio of negative 0.03%.

Aformal process is in place to provide control over underwriting of loans andmonitor loan collectibility.  This process includes education and training ofpersonnel on the Bank's loan policies and procedures, credit analysts tosupport lenders, timely identification of loans with adverse characteristics, controlof corrective actions and objective monitoring of loan reviews.  The SpecialAssets Department of the Bank identifies and monitors assets that needattention.  At March 31, 2007, this process identified loans totaling $7.5million, or 1.5% of the portfolio, that wereclassified as other assets especially mentioned, compared to loans totaling $6.5million, or 1.4 % of the portfolio, so classified at December 31, 2006.  Loanstotaling $6.1 million, or 1.2% of the portfolio, were classified as substandardat March 31, 2007, compared to loans totaling $8.4 million, or 1.8% of the portfolio, so classified at December 31, 2006. No loans were classified as doubtful at March 31, 2007 and December 31, 2006. 

**Deposits**

            The Bank doesnot have any foreign offices and all deposits are serviced in its 19 domesticoffices.  The Bank's average deposits declined 1.4% during the first threemonths of 2007 compared to a decline of 1.7% in the first three months of 2006. The decline slowed because of a re-focused effort on "retail" customerdeposits.  Average total noninterest-bearing deposits were 16.8% of totaldeposits at March 31, 2007, contributing to the Bank's low cost ofdeposits.  This compares to 16.7% at December 31, 2006.

**RegulatoryRequirements for Capital**

TheCorporation and the Bank are subject to federal regulatory risk-adjustedcapital adequacy standards.  Failure to meet capital adequacy requirementscould result in certain mandatory, and possibly additional discretionary,actions by regulators that could have a direct material adverse effect on theconsolidated financial statements of the Corporation and the Bank.  Theregulations require the Bank to meet specific capital adequacy guidelines thatinvolve quantitative measures of assets, liabilities and certainoff-balance-sheet items as calculated under regulatory accounting practices. The capital classification is also subject to qualitative judgments by theregulators about components, risk weightings and other factors.

            Quantitativemeasures established by the Board of Governors of the Federal Reserve System toensure capital adequacy require the Corporation and the Bank to maintainminimum amounts and ratios of Tier 1 Capital and Total Capital (Tier 1 plusTier 2 Capital) to risk-weighted assets and of Tier 1 Capital to average total assets(leverage capital ratio).   Equity capital (net of certain adjustments forintangible assets and investments in non-consolidated subsidiaries and certainclasses of preferred stock) is considered Tier 1 Capital.  Tier 2 Capitalconsists of core capital plus subordinated debt, some types of preferred stock,and a defined percentage of the allowance for possible loan losses.  To be"well-capitalized" under federal bank regulations, a bank holding company musthave a Tier 1 Capital ratio of at least 6%, a Total Capital ratio of at least 10%,and a leverage capital ratio of at least 5%.  As of March 31, 2007, the Corporation's Tier 1, Total Capital andleverage capital ratios were 18.2%, 19.4% and 12.3 %, respectively.  The ratioswere 19.1%, 20.3% and 12.5%, respectively, at December 31, 2006.  As of March 31, 2007,the Bank's Tier 1 Capital, Total Capital and leverage capital were 17.9%, 19.1%,and 12.1%, respectively, compared to 18.9%, 20.2%, and 12.3% at December 31,2006. Management believes, as of March 31, 2007, that the Corporation and the Bank each metall capital adequacy requirements to which they are subject.

**Liquidity and Capital****Resources**

            Most of thecapital needs of the Bank have historically been financed with retainedearnings and deposits received and the Corporation's primary source ofliquidity is dividends declared by the Bank.  The Corporation and the Bank donot have any long-term debt and do not have plans for material capitalexpenditures in the near future.  The Corporation's average shareholders'equity at March 31,2007 was $106.0 million, a 0.6% increase from the average at December 31, 2006. 

            The Bank issubject to Tennessee statutes and regulations that impose restrictions on theamount of dividends that may be declared.  Furthermore, any dividend paymentsare subject to the continuing ability of the Bank to maintain its compliancewith minimum federal regulatory capital requirements and to retain itscharacterization under federal regulations as a "well-capitalized" institution.The Bank declared a $0.34 per share dividend in the fourth quarter of 2006,which was paid in the first quarter of 2007.  Management believes that theCorporation's traditional sources of cash generated from the Bank's operatingactivities are adequate to meet the Corporation's liquidity needs for normalongoing operations.  The Bank's Board of Directors has adopted a liquiditypolicy that outlines specific liquidity target balances.  Compliance with thispolicy is reviewed quarterly by the Bank's Asset/Liability Committee andresults are reported to the Bank's Board of Directors.

TheBank maintains a formal asset and liability management process to controlinterest rate risk and assist management in maintaining reasonable stability inthe gross interest margin as a result of changes in the level of interest ratesand/or the spread relationships among interest rates.  The Bank uses anearnings simulation model to evaluate the impact of different interest ratescenarios on the gross margin.  Each quarter, the Asset/Liability Committee ofthe Bank monitors the relationship of rate sensitive earning assets to ratesensitive interest bearing liabilities (interest rate sensitivity), which isthe principal factor in determining the effect that fluctuating interest rateswill have on future net interest income.  Rate sensitive earning assets andinterest bearing liabilities are financial instruments that can be repriced tocurrent market rates within a defined time period.

 

 

**Critical AccountingPolicies**

Theaccounting principles the Corporation follows and the methods of applying theseprinciples conform with accounting principles generally accepted in the United States and with general practices within the banking industry.  In connection withthe application of those principles, the Corporation's management has madejudgments and estimates that, in the case of the determination of the allowancefor loan losses ("ALLL") and the recognition of deferred income taxassets, have been critical to the determination of the Corporation's financialposition, results of operations, and cash flows.  As of March 31, 2007, the deferredincome tax asset was $5.9 million, which is included with other assets on thebalance sheet.

*Allowance for Loan Losses*

           Managementassesses the adequacy of the ALLL prior to the end of each month and prepares amore formal review quarterly to assess the risk in the Bank's loan portfolio.  Thisassessment includes procedures to estimate the allowance and test the adequacyand appropriateness of the resulting balance.  The ALLL represents calculatedamounts for specifically identified credit exposure and exposures readilypredictable by historical or comparative experience.  Even though thiscalculation considers specific credits, the entire allowance is available toabsorb any credit losses. 

           These calculatedamounts are determined by assessing loans identified as not in compliance withloan agreements.  These loans are generally in two different risk groups.  Onegroup is unique loans (commercial loans, including those loans consideredimpaired) and the second group is pools of homogenous loans (generally retailloans).  The calculation for unique loans is based primarily on risk ratinggrades assigned to each of these loans as a result of the Bank's loanmanagement and review processes.  Each risk-rating grade is assigned a lossratio, which is determined based on the experience of management, discussionswith banking regulators and the independent loan review process.  The amountallocated for an impaired loan is based on estimated cash flows discounted atthe loan's original effective interest rate or the underlying collateralvalue.  Historical data, including actual loss experience on specific types ofhomogenous loans, is used to allocate amounts for loans or groups of loansmeeting the specified criteria.  More detailed historical data is accumulatedby category of consumer credit and performance characteristics to broaden theanalysis and improve monitoring of potential credit risk.

     Criteria considered andprocesses utilized in evaluating the adequacy of the ALLL are:

*    Portfolio quality trends;

*    Changes in the nature and volume of the portfolio;

*    Present and prospective economic and business conditions, locally andnationally;

*    Management review systems and board oversight, including external loan reviewprocesses;

*    Changes in credit policy, credit administration, portfolio management andprocedures; and

*    Changes in personnel, management and staff.  

           In assessing theadequacy of the ALLL, the risk characteristics of the entire loan portfolio areevaluated.  This process includes the judgment of the Bank's management, inputfrom independent loan reviews and reviews that may have been conducted by bankregulators as part of their usual examination process.

*Deferred Income TaxAssets*

Deferredincome tax assets consist mainly of the tax effect of excess provisions forloan losses over actual losses incurred and deferred compensation.  Managementbelieves that it is more likely than not that these assets will be realized infuture years.

** **

**OFF-BALANCE SHEET ARRANGEMENTS**

TheBank is a party to financial instruments with off-balance-sheet risk in thenormal course of business to meet the financing needs of its customers.  Thesefinancial instruments include commitments to extend credit and stand-by lettersof credit.  Those instruments involve, to varying degrees, elements of creditrisk in excess of the amount recognized in the balance sheet.  The contract ornotional amounts of those instruments reflect the extent of involvement theBank has in those financial instruments.  The total outstanding loancommitments and stand-by letters of credit in the normal course of business at March 31, 2007were $93.1 million and $12.4 million, respectively, compared to $79.9 millionoutstanding loan commitments and $10.4 million stand-by letters of credit inthe normal course of business at March 31, 2006.  The increase in stand-byletters of credit of approximately $2.0 million, came from additional businessfrom existing large commercial customers.  Loan commitments are agreements tolend to a customer as long as there is not a violation of any conditionestablished in the contract.  Stand-by letters of credit are conditionalcommitments issued by the Bank to guarantee the performance of a customer to athird party.  Those guarantees are primarily issued to support public andprivate borrowing arrangements, including commercial paper, bond financing andsimilar transactions.  The credit risk involved in issuing letters of credit isessentially the same as that involved in making a loan.

AtMarch 31, 2007, theCorporation and the Bank did not have any off-balance sheet arrangements otherthan commitments to extend credit and stand-by letters of credit.

**MATERIAL CHANGES IN RESULTS OF OPERATIONS**

Totalinterest income for the first three months of 2007 was $10.6 million comparedto $10.1 million for the first three months of 2006.  Interest and fees earnedon loans and investments are the components of total interest income.  Interestand fees earned on loans were $8.0 million, an increase of approximately $685,000,or 9.4% during the first three months of 2007 compared to the first threemonths of 2006.  Nominal interest earned on investment securities and otherinvestments was $2.7 million, a decrease of approximately $119,000, or 4.3%during the first three months of 2007 compared to the first three months of2006. 

            Total interestexpense in the first three months of 2007 was $4.0 million, an increase of approximately$961,000, or 31.4%, compared to the first three months of 2006.  The higher interest rates for certificates ofdeposits and public funds during the first quarter of 2007 was the primaryreason for the higher expense.  As a policy, budgeted financial goals aremonitored on a monthly basis by the Bank's Asset/Liability Committee, whichreviews the actual dollar change in net interest income for different interestrate movements.  A negative dollar change in net interest income for a 12-monthperiod of less than 4.5% of net interestincome given a 300 basis point shift in interestrates is considered an acceptable rate risk position.  The rate risk analysisfor the 12-month period beginning April 1, 2006 and ending March 31, 2007showed a worst-case potential change to net interest income of a negative 1.9%,or a decline in net interest income of approximately $516,000 by the end of theperiod.

            Net interestincome of the Corporation on a fully taxable equivalent basis is influencedprimarily by changes in:

(1)               the volume and mix of earningassets and sources of funding;

(2)               market rates of interest; and 

(3)               income tax rates.

            The impact ofsome of these factors can be controlled by management policies and actions. External factors also can have a significant impact on changes in net interestincome from one period to another.  Some examples of such factors are:

(1)               the strength of credit demands bycustomers;

(2)               Federal Reserve Board monetarypolicy; and

(3)               fiscal and debt managementpolicies of the federal government, including changes in tax laws.

            The netinterest margin, on a tax equivalent basis, at March 31, 2007, March 31,2006 and December, 31, 2006 was 3.97%, 4.16% and 4.22%, respectively.

            No additionswere made to the allowance for loan losses in the first quarter of 2007.  

            Noninterestincome was $2.9 million, an increase of approximately $238,000, or 9.1%, duringthe first three months of 2007 compared to the first three months of 2006. This increase resulted from:

(1)   income from services provided inthe Bank's trust department, which was up 30.9% compared to the first quarterof 2006 and represented approximately 24.7% of noninterest income; and

(2)   service fees, representing approximately61.2% of noninterest income, which were down 3.4% compared to the first threemonths of 2006, offset part of the increase in trust services income.

Noninterestexpenses, excluding the provision for possible loan losses, were approximately $567,000,or 7.4%, lower in the first three months of 2007 as compared to the first threemonths of 2006. Salaries and benefitsexpense was down $398,000, or 9.6%, for the three months ended March 31, 2007compared to the same period in 2006 as a result of changes to the Bank's insuranceand retirement benefits.     

TheCorporation and the Bank do not have any long-term debt or other obligations,with the exception of leases for bank property.  There has not been a change duringthe three month period ended March 31, 2007 in the terms of these leases.

Netincome for the three months ended March 31, 2007 was $2.05 million, compared to $1.64 millionfor the three months ended March 31, 2006.  A decrease in salaries and benefits alongwith an increase in fiduciary services income contributed to the period over periodincrease.  The Corporation earned $0.36 per share in the first quarter of 2007and $0.28 per share in the first quarter of 2006.  

**Item 3.  Quantitativeand Qualitative Disclosures About Market Risk.**

Duringthe three months ended March 31, 2007, there were no materialchanges in the quantitative and qualitative disclosures about market riskpresented in the Corporation's Annual Report on Form 10-K for the year endedDecember 31, 2006. 

**Item 4. Controls andProcedures.**

(a) Evaluation ofDisclosure Controls and Procedures.  The Corporation, with theparticipation of its management, including the Corporation's Chief ExecutiveOfficer and Assistant Treasurer (principal financial officer), carried out anevaluation of the effectiveness of the design and operation of its disclosurecontrols and procedures (as defined in Rules 13a-15 and 15d-15 under theSecurities Exchange Act of 1934, as amended (the "Exchange Act")) as of the endof the period covered by this report.  Based upon that evaluation and as of theend of the period covered by this report, the Corporation's Chief ExecutiveOfficer and Assistant Treasurer (principal financial officer) concluded thatthe Corporation's disclosure controls and procedures were effective in ensuringthat information required to be disclosed in its reports that the Corporationfiles or submits to the Securities and Exchange Commission under the ExchangeAct is recorded, processed, summarized and reported on a timely basis.

(b) Changes in InternalControl Over Financial Reporting.  There has been no change in theCorporation's internal control over financial reporting that occurred duringthe first quarter of 2007 that has materially affected, or is reasonably likelyto materially affect, the Corporation's internal control over financial reporting.

**  **

** **

**PART II - OTHER INFORMATION**

**Item1A. Risk Factors.**

Therehave been no material changes in the risk factors previously disclosed in theCorporation's Annual Report on Form 10-K for the year ended December 31, 2006.

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

                The following table provides information regardingpurchases of the Corporation's common stock made by the Corporation during thefirst quarter of 2007:

CORPORATION'S  PURCHASES OF EQUITY SECURITIES

Period

Total  Number of Shares Purchased

Average  Price Paid per Share 

Total  Number of Shares Purchased as Part of Publicly Announced Plans or Programs

Maximum  Number (or Approximate Dollar Value) of Shares that May Yet Be Purchased  Under the Plans or Programs

January  1, 2007 - January 31, 2007

--

--

--

--

February  1, 2007 - February 28, 2007

--

--

--

--

March  1, 2007 - March 31, 2007

18,000*

$50.00

--

--

Total

18,000

$50.00

--

--

*Purchasedthrough negotiated transactions with several third-party sellers.

Fora discussion of the limitations upon payment of dividends, see "FinancialCondition - Liquidity and Capital Resources" under Part I, Item 2 "Management'sDiscussion and Analysis of Financial Condition and Results of Operations."

**Item 6.  Exhibits.**

EXHIBIT

NUMBER          DESCRIPTION

     3.1     Charter (1)

     3.2     Articles ofAmendment to Charter (1)

     3.3     Amended andRestated By-laws (2)

     4.1     Form ofSpecimen Stock Certificate (1)

   10.1     Form ofBenefits Agreement entered into between First Farmers and Merchants Bank andThomas Randall 

               Stevens, theBank's and the Corporation's Chairman and Chief Executive Officer, on January26, 2007, 

               and John P.Tomlinson, III, the Bank's and the Corporation's Chief Administrative officer,on 

               January 29,2007 (3)

   31.1     Certification of the Chief ExecutiveOfficer of First Farmers and Merchants Corporation Pursuant to Rule 13a 14(1)of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant toSection 302 of the Sarbanes-Oxley Act of 2002

    31.2    Certification of the Chief FinancialOfficer of First Farmers and Merchants Corporation Pursuant to Rule 13a-14(1)of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant toSection 302 of the Sarbanes-Oxley Act of 2002

    32.1    Certification of the Chief ExecutiveOfficer and Chief Financial Officer of First Farmers and Merchants CorporationPursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of theSarbanes-Oxley Act of 2002

                              

(1)  Incorporated byreference from the First Farmers and Merchants Corporation Amendment No. 1 tothe Annual Report on Form 10-K/A for the year ended December 31, 2003, FileNumber 0-1972, as filed with the Securities and Exchange Commission on May 7, 2004.

(2)  Incorporated byreference from the First Farmers and Merchants Corporation Current Report onForm 8-K,  File Number 0-10972, as filed with the Securities and ExchangeCommission on April 23, 2007.

(3)  Incorporated byreference from the First Farmers and Merchants Corporation current report onForm 8-K, File Number 0-10972, as filed with the Securities and ExchangeCommisssion on January 30, 2007.

            

**SIGNATURES**

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

FIRST FARMERS AND MERCHANTS CORPORATION

(Registrant)

Date             May 8,2007                                                      /s/ T. RandyStevens                                

                                    T. Randy Stevens,Chief Executive Officer

Date             May 8,2007                                              /s/ Patricia P.Moody                                       

PatriciaP. Moody, Assistant Treasurer (principal financial officer and principalaccounting officer)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

EXHIBIT

NUMBER          DESCRIPTION

     3.1     Charter (1)

     3.2     Articles ofAmendment to Charter (1)

     3.3     Amended andRestated By-laws (2)

     4.1     Form ofSpecimen Stock Certificate (1)

   10.1     Form ofBenefits Agreement entered into between First Farmers and Merchants Bank andThomas Randall 

               Stevens, theBank's and the Corporation's Chairman and Chief Executive Officer, on January26, 2007, 

               and John P.Tomlinson, III, the Bank's and the Corporation's Chief Administrative officer,on 

               January 29,2007 (3)

   31.1     Certification of the Chief ExecutiveOfficer of First Farmers and Merchants Corporation Pursuant to Rule 13a 14(1)of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant toSection 302 of the Sarbanes-Oxley Act of 2002

    31.2    Certification of the Chief FinancialOfficer of First Farmers and Merchants Corporation Pursuant to Rule 13a-14(1)of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant toSection 302 of the Sarbanes-Oxley Act of 2002

    32.1    Certification of the Chief ExecutiveOfficer and Chief Financial Officer of First Farmers and Merchants CorporationPursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of theSarbanes-Oxley Act of 2002

                              

(1)  Incorporated byreference from the First Farmers and Merchants Corporation Amendment No. 1 tothe Annual Report on Form 10-K/A for the year ended December 31, 2003, FileNumber 0-1972, as filed with the Securities and Exchange Commission on May 7, 2004.

(2)  Incorporated byreference from the First Farmers and Merchants Corporation Current Report onForm 8-K,  File Number 0-10972, as filed with the Securities and ExchangeCommission on April 23, 2007.

(3) Incorporated by reference from the First Farmers and Merchants Corporationcurrent report on Form 8-K, File Number 0-10972, as filed with the Securitiesand Exchange Commission on January 30, 2007. |
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